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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
----------------
Form 10-Q
(Mark One)
[X]QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2000.
OR
[_]TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE TRANSACTION PERIOD FROM TO .
Commission file number: 1-10989
Ventas, Inc.
(Exact name of registrant as specified in its charter)
Delaware 61-1055020
(State or other jurisdiction) (I.R.S. Employer Identification
Number)
4360 Brownsboro Road, Suite 115 40207-1642
Louisville, Kentucky (Zip Code)
(Address of principal executive
offices)
(502) 357-9000
(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. [X] Yes No [_]
Indicate the number of shares outstanding of each of the issuer"s classes of
common stock, as of the latest practicable date.
Class of Common Stock: Outstanding at August 9, 2000:
Common Stock, $.25 par value 68,414,940 Shares
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VENTAS, INC.
FORM 10-Q
INDEX
Page
----
PART I--FINANCIAL INFORMATION.............................................. 1
Item 1. Financial Statements............................................... 1
Condensed Consolidated Balance Sheets as of June 30, 2000 and December
31, 1999.............................................................. 1
Condensed Consolidated Statements of Income for the Three Months and
Six Months Ended June 30, 2000 and June 30, 1999...................... 2
Condensed Consolidated Statements of Cash Flows for the Six Months
Ended June 30, 2000 and June 30, 1999................................. 3
Notes to Condensed Consolidated Financial Statements................... 4
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations..................................................... 22
Item 3. Quantitative and Qualitative Disclosures About Market Risk......... 30
PART II--OTHER INFORMATION................................................. 32
Item 1. Legal Proceedings.................................................. 32
Item 3. Defaults Upon Senior Securities.................................... 32
Item 4. Submission of Matters to a Vote of Security Holders................ 32
Item 6. Exhibits and Reports on Form 8-K................................... 33
i
PART I--FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
VENTAS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands)
June 30, December 31,
2000 1999
----------- ------------
(Unaudited) (Audited)
Assets
Real estate investments:
Land................................................ $ 120,891 $ 120,891
Building and improvements........................... 1,061,656 1,061,656
---------- ----------
1,182,547 1,182,547
Accumulated depreciation............................ (308,915) (287,756)
---------- ----------
Total real estate investments..................... 873,632 894,791
Cash and cash equivalents............................. 115,648 139,594
Restricted cash--disputed federal, state and local tax
refunds and accumulated interest..................... 27,763 --
Deferred financing costs, net......................... 12,097 5,702
Notes receivable from employees....................... 3,470 3,611
Recoverable federal income taxes...................... -- 26,610
Other................................................. 1,656 891
---------- ----------
Total assets...................................... $1,034,266 $1,071,199
========== ==========
Liabilities and stockholders' equity
Liabilities:
Notes payable and other debt........................ $ 923,368 $ 974,247
Deferred gain on partial termination of interest
rate swap agreement................................ 21,605 21,605
Accounts payable and other accrued liabilities...... 11,173 9,886
Other liabilities--disputed federal, state and local
tax refunds and accumulated interest............... 27,763 26,610
Deferred income taxes............................... 30,506 30,506
---------- ----------
Total liabilities................................. 1,014,415 1,062,854
---------- ----------
Commitments and contingencies
Stockholders' equity:
Preferred stock, unissued........................... -- --
Common stock........................................ 18,402 18,402
Capital in excess of par value...................... 132,245 139,723
Unearned compensation on restricted stock........... (2,024) (2,080)
Retained earnings................................... 16,655 6,409
---------- ----------
165,278 162,454
Treasury stock...................................... (145,427) (154,109)
---------- ----------
Total stockholders' equity........................ 19,851 8,345
---------- ----------
Total liabilities and stockholders' equity........ $1,034,266 $1,071,199
========== ==========
See notes to condensed consolidated financial statements.
1
VENTAS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
(In thousands, except per share amounts)
Three Months
Ended Six Months Ended
--------------- ------------------
June June
30, 30, June 30, June 30,
2000 1999 2000 1999
------- ------- -------- --------
Revenues:
Rental income............................ $58,238 $57,175 $115,721 $113,611
Interest and other income................ 1,736 734 3,353 931
------- ------- -------- --------
59,974 57,909 119,074 114,542
Expenses:
General and administrative............... 2,497 1,613 4,785 3,182
Professional fees........................ 3,271 2,949 6,593 3,931
Non-recurring employee severance costs... -- -- 355 1,272
Loss on uncollectible amounts due from
tenant.................................. 12,061 -- 23,368 --
Amortization of restricted stock grants.. 330 215 735 867
Depreciation on real estate investments.. 10,526 10,944 21,160 21,888
Interest................................. 23,777 22,022 47,626 42,898
------- ------- -------- --------
52,462 37,743 104,622 74,038
------- ------- -------- --------
Income before extraordinary loss........... 7,512 20,166 14,452 40,504
Extraordinary loss on extinguishment of
debt...................................... -- -- (4,207) --
------- ------- -------- --------
Net income................................. $ 7,512 $20,166 $ 10,245 $ 40,504
======= ======= ======== ========
Earnings per common share:
Basic:
Income before extraordinary loss....... $ 0.11 $ 0.30 $ 0.21 $ 0.60
Extraordinary loss on extinguishment of
debt.................................. -- -- (0.06) --
------- ------- -------- --------
Net income............................. $ 0.11 $ 0.30 $ 0.15 $ 0.60
======= ======= ======== ========
Diluted:
Income before extraordinary loss....... $ 0.11 $ 0.30 $ 0.21 $ 0.60
Extraordinary loss on extinguishment of
debt.................................. -- -- (0.06) --
------- ------- -------- --------
Net income............................. $ 0.11 $ 0.30 $ 0.15 $ 0.60
======= ======= ======== ========
Shares used in computing earnings per
common share:
Basic.................................... 68,027 67,811 67,963 67,762
Diluted.................................. 68,101 68,008 68,007 68,019
See notes to condensed consolidated financial statements
2
VENTAS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(In thousands)
Six Months Ended Six Months Ended
June 30, 2000 June 30, 1999
---------------- ----------------
Cash flows from operating activities:
Net income................................... $ 10,245 $ 40,504
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation............................... 21,197 21,890
Amortization of deferred financing costs... 2,014 2,434
Amortization of restricted stock grants.... 735 867
Normalized rents........................... (98) --
Extraordinary loss on extinguishment of
debt...................................... 4,207 --
Changes in operating assets and liabilities:
Increase in amount due from Vencor, Inc.... -- (11,916)
Increase in restricted cash................ (27,763) --
Decrease (increase) in accounts receivable
and other assets.......................... 26,046 (796)
Increase (decrease) in accounts payable and
accrued and other liabilities............. 2,952 (1,297)
-------- ---------
Net cash provided by operating
activities.............................. 39,535 51,686
Cash flows from investing activities:
Purchase of furniture and equipment......... -- (300)
Advance to employees........................ -- (51)
-------- ---------
Net cash used in investing activities.... -- (351)
Cash flows from financing activities:
Net change in borrowings under revolving
line of credit............................. -- 173,143
Repayment of long-term debt................. (50,879) (128,261)
Payment of deferred financing costs......... (12,616) --
Issuance of restricted stock................ 14 4
Cash distribution to stockholders........... -- (26,489)
-------- ---------
Net cash (used in) provided by financing
activities.............................. (63,481) 18,397
-------- ---------
(Decrease) increase in cash and cash
equivalents................................. (23,946) 69,732
Cash and cash equivalents--beginning of
period...................................... 139,594 338
-------- ---------
Cash and cash equivalents--end of period..... $115,648 $ 70,070
======== =========
See notes to condensed consolidated financial statements
3
VENTAS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1--REPORTING ENTITY
Ventas, Inc. ("Ventas" or the "Company") is a real estate company that owns
or leases 45 hospitals (comprised of two acute care hospitals and 43 long-term
acute care hospitals), 218 nursing facilities and eight personal care
facilities in 36 states, as of June 30, 2000. The Company conducts
substantially all of its business through a wholly owned operating
partnership, Ventas Realty, Limited Partnership ("Ventas Realty"). Although
the Company currently expects to qualify as a real estate investment trust
("REIT") for tax years beginning with the tax year ended December 31, 1999, it
is possible that economic, market, legal, tax or other considerations may
cause the Company to fail or elect not to qualify as a REIT. The Company
operates in one segment which consists of owning and leasing health care
facilities and leasing or subleasing such facilities to third parties.
NOTE 2--BASIS OF PRESENTATION
The accompanying unaudited Condensed Consolidated Financial Statements have
been prepared in accordance with accounting principles generally accepted in
the United States for interim financial information and with instructions to
Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include
all the information and footnotes required by accounting principles generally
accepted in the United States for complete financial statements. In the
opinion of management, all adjustments (consisting of normal recurring
accruals) considered for a fair presentation have been included. Operating
results for the six-month period ended June 30, 2000 are not necessarily an
indication of the results that may be expected for the year ending December
31, 2000. The Condensed Consolidated Balance Sheet as of December 31, 1999 has
been derived from the Company's audited consolidated financial statements for
the year ended December 31, 1999. These financial statements and related notes
should be read in conjunction with the financial statements and footnotes
thereto included in the Company's Annual Report on Form 10-K for the year
ended December 31, 1999.
In June 2000, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 138, "Accounting for
Certain Derivative Instruments and Certain Hedging Activities," which amends
SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities."
SFAS 133 was previously amended by SFAS No. 137 "Accounting For Derivative
Instruments and Hedging Activities--Deferral of the Effective Date of FASB
Statement No. 133," which deferred the effective date of SFAS No. 133 to
fiscal years beginning after June 15, 2000. The Company expects to adopt SFAS
138 and SFAS 133 effective January 1, 2001. SFAS 133 and SFAS 138 will require
the Company to recognize all derivatives on the balance sheet at fair value.
Derivatives that are not hedges must be adjusted to fair value through income.
If the derivative is a hedge, depending on the nature of the hedge, changes in
the fair value of derivatives will either be offset against the change in fair
value of the hedged assets, liabilities, or firm commitments through earnings
or recognized in other comprehensive income until the hedged item is
recognized in earnings. The ineffective portion of a derivative's change in
fair value will be recognized immediately in earnings. Based on the Company's
derivative positions and their related fair values of approximately $23.9
million at June 30, 2000, as well as the $21.6 million gain incurred but not
yet reflected in net income on the terminated derivative position (see "Note
4--Bank Credit Facility"), the Company estimates that upon adoption it would
report a positive adjustment of $45.5 million in other comprehensive income.
The Company was not required to report the $23.9 million unrealized gain for
the six month period ended June 30, 2000.
In December 1999, the Securities and Exchange Commission (the "Commission")
issued Staff Accounting Bulletin No. 101 ("SAB 101"), "Revenue Recognition in
Financial Statements." SAB 101 summarizes certain of the Commission's views in
applying accounting principles generally accepted in the United States to
revenue recognition in financial statements. In June 2000, the Commission
issued SAB 101B to defer the effective date of implementation of SAB 101 to
the fourth quarter 2000. The Company does not expect the adoption of SAB 101
to have a material effect on its financial position or results of operations.
4
VENTAS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
NOTE 3--CONCENTRATION OF CREDIT RISK AND RECENT DEVELOPMENTS
Concentration of Credit Risk
As of June 30, 2000, approximately 70.2% of the Company's real estate
investments (based on cost) related to skilled nursing facilities. The
remaining real estate investments consist of hospitals and personal care
facilities. The Company's facilities are located in 36 states, and lease
revenues from operations in any one state do not account for more than ten
percent (10%) of revenues. The Company leases all of its hospitals and 210 of
its nursing facilities to Vencor, Inc. ("Vencor") and certain of its
subsidiaries under four master lease agreements relating to 254 facilities and
a single nursing facility lease (individually a "Master Lease" and
collectively "the Master Leases").
Because the Company leases substantially all of its properties to Vencor and
Vencor is the primary source of the Company's revenues, Vencor's financial
condition and ability to satisfy its rent obligations under the Master Leases
and certain other agreements will significantly impact the Company's revenues
and its ability to service its indebtedness and to make distributions to its
stockholders. The operations of Vencor have been negatively impacted by
changes in governmental reimbursement rates, by its current level of
indebtedness and by certain other factors. On September 13, 1999, Vencor filed
for protection under chapter 11 of title 11 of the United States Code (the
"Bankruptcy Code") in Wilmington, Delaware. The Company, Vencor and Vencor's
major creditors are engaged in negotiations to restructure Vencor's debt and
lease obligations. There can be no assurance that Vencor will be successful in
obtaining the approval of its creditors or the Company for a restructuring
plan, that any such plan will be on terms acceptable to the Company, Vencor
and/or its creditors, or that any restructuring plan will not have a material
adverse effect on the business, financial condition, results of operation and
liquidity of the Company, on the Company's ability to service its indebtedness
and on the Company's ability to make distributions to its stockholders as
required to elect or maintain its status as a REIT (a "Material Adverse
Effect"). See "--Recent Developments Regarding Vencor."
Recent Developments Regarding Vencor
On September 13, 1999, Vencor filed for protection under chapter 11 of the
Bankruptcy Code. Under the automatic stay provisions of the Bankruptcy Code,
the Company is currently prevented from exercising certain rights and remedies
under the various agreements that the Company and Vencor entered into at the
time the Company spun off its health care operations to Vencor (the "1998 Spin
Off"), including the Master Leases (the "Spin Agreements"), and from taking
certain enforcement actions against Vencor. The Company, Vencor and Vencor's
major creditors have been engaged in negotiations both prior and subsequent to
Vencor's bankruptcy filing to restructure Vencor's debt and lease obligations.
At the time of Vencor's filing for protection under the Bankruptcy Code,
Vencor's major creditors, Vencor and Ventas agreed upon the terms of a
preliminary, non-binding agreement regarding Vencor's plan of reorganization
(the "September 1999 Agreement in Principle").
Vencor and certain of its major creditors have asserted that events arising
after the filing of Vencor's bankruptcy petition have required adjustments in
the Vencor financial projections utilized as a basis for the structure of the
September 1999 Agreement in Principle. Vencor and these major creditors have
advised the Company of their unwillingness to proceed under the terms of the
September 1999 Agreement in Principle. Discussions are ongoing among Vencor,
Vencor's major creditors and Ventas regarding proposed changes to the terms
contained in the September 1999 Agreement in Principle as well as other
matters relating to Vencor's plan of reorganization. However, a final
agreement has not been reached regarding any changes to the terms of the
September 1999 Agreement in Principle or the other matters relating to
Vencor's plan of reorganization. The Company does not intend to update the
foregoing information until a definitive agreement regarding Vencor's plan of
reorganization has been reached. There can be no assurance that Vencor will be
successful in obtaining the approval of its creditors for a plan of
reorganization, that any such plan will be on terms acceptable to the
5
VENTAS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Company, Vencor and its creditors, or that any plan of reorganization will not
have a Material Adverse Effect on the Company. Under the terms of the Amended
and Restated Credit, Security, Guaranty and Pledge Agreement (the "Amended
Credit Agreement") that the Company and all of the lenders under its prior
credit agreement entered into on January 31, 2000, it is an event of default
if Vencor's plan of reorganization is not effective on or before December 31,
2000. See "Note 4--Bank Credit Facility" to the Condensed Consolidated
Financial Statements.
The period during which Vencor has the exclusive right to file a plan of
reorganization in its bankruptcy proceedings initially expired on January 12,
2000. This period was extended, by orders of the Delaware bankruptcy court,
through March 13, 2000, then May 16, 2000 and then July 18, 2000. On July 27,
2000, and through a prior bridge order, the Delaware bankruptcy court granted
Vencor's motion to extend the period during which Vencor has the exclusive
right to file a plan of reorganization from July 18, 2000 through August 17,
2000.
On or about June 14, 2000, Vencor filed a motion with the Delaware
bankruptcy court seeking approval of, among other things, a ninth amendment
(the "Ninth DIP Amendment") to Vencor's debtor in possession financing
agreement (the "DIP facility"). The proposed Ninth DIP Amendment would become
effective if litigation is commenced prior to September 30, 2000 between
Vencor and the Company relating to the Master Leases and/or the 1998 Spin Off
(a "Litigation Event" as defined in the Ninth DIP Amendment). The Ninth DIP
Amendment provides, among other things, that (a) the proceeds of the DIP
facility would be available to fund, among other things, litigation expenses
and (b) the events of default under the DIP facility would be revised to
delete certain events relating to the Company and to permit a Litigation
Event. The Company objected to the relief requested by Vencor. In connection
with the ongoing discussions among Vencor, its creditors and the Company,
Vencor and the Company agreed to an adjournment of the hearing on the motion
and each party agreed that until August 23, 2000 (the adjourned hearing date)
it would (i) continue to perform under the Rent Stipulation (as defined
below), (ii) not terminate the Rent Stipulation and (iii) not commence
litigation against the other party.
On June 29, 2000, the Delaware bankruptcy court granted Vencor's motion to
extend the expiration date of Vencor's DIP facility (unamended by the Ninth
DIP Amendment) from June 30, 2000 to September 30, 2000.
The Company filed its proofs of claim in the chapter 11 bankruptcy
proceedings of Vencor and certain affiliated debtors on May 17, 2000. The
Company asserted approximately $4.3 billion in the proofs of claim. The proofs
of claim include rent due at the contract rental rates set forth in the Master
Leases through the initial term of the Master Leases as well as other
liquidated and unliquidated amounts owed to the Company under the Master
Leases and certain other agreements between the Company and Vencor and/or
certain of the other affiliated debtors.
Ventas and Vencor continue to be engaged in advanced settlement discussions
with the federal government seeking to resolve all federal civil and
administrative claims against them arising from the participation of Vencor
facilities in various federal health benefit programs. The majority of these
claims arise from lawsuits filed under the qui tam, or whistleblower,
provision of the Federal Civil False Claims Act, which allows private citizens
to bring suit in the name of the United States. See "Note 5--Litigation" to
the Condensed Consolidated Financial Statements. The United States Department
of Justice, Civil Division, filed two proofs of claim in the chapter 11
bankruptcy proceedings of Vencor and certain affiliated debtors covering these
claims and the qui tam suits. The claims aggregate approximately $1.3 billion,
including treble damages. The Department of Justice has informed the Company
that it is the Department of Justice's position that, if liability exists, the
Company and Vencor will be jointly and severally liable for the portion of
such claims related to the period prior to the date of the 1998 Spin Off. If
the United States, Vencor and the Company reach a settlement, any liability of
the Company and Vencor related to these matters would likely be resolved in
the settlement. There can be no assurance that a
6
VENTAS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
settlement will be reached regarding these claims and suits, or, if reached,
that the settlement will be on terms acceptable to the Company.
During the Company's discussions with Vencor, Vencor asserted various
potential claims against the Company arising out of the 1998 Spin Off. See
"Note 5--Litigation" to the Condensed Consolidated Financial Statements. The
Company intends to defend these claims vigorously if they are asserted in a
court, arbitration or mediation proceeding. If these claims were to prevail,
they could have a Material Adverse Effect on the Company.
The Rent Stipulation
In connection with the bankruptcy filing by Vencor, the Company and Vencor
entered into a stipulation (the "Rent Stipulation") for the payment by Vencor
to the Company of approximately $15.1 million per month starting in September
1999, to be applied against the total amount of minimum monthly base rent that
is due and payable under the Master Leases. The bankruptcy court approved the
Rent Stipulation. During the period in which the Rent Stipulation is in
effect, Vencor has agreed to fulfill all of its obligations under the Spin
Agreements as such obligations become due, including its obligation to
indemnify and defend Ventas from and against all claims arising out of the
Company's former health care operations or assets or liabilities transferred
to Vencor in the 1998 Spin Off. Vencor has not, however, agreed to assume the
Spin Agreements and has reserved its right to seek to reject such agreements
pursuant and subject to the applicable provisions of the Bankruptcy Code. A
termination of the Rent Stipulation and/or rejection by Vencor of the Spin
Agreements could have a Material Adverse Effect on the Company.
The payments under the Rent Stipulation are required to be made by the fifth
day of each month, or on the first business day thereafter. Starting in
September, 1999, the difference between the amount of minimum monthly base
rent due under the Company's Master Leases with Vencor, and the monthly
payment of approximately $15.1 million accrues as a superpriority
administrative expense in Vencor's bankruptcy, junior in right only to the
following: (i) any liens or superpriority claims provided to lenders under the
DIP facility; (ii) any fees due to the Office of the United States Trustee;
(iii) certain fees of Vencor's professionals; (iv) any liens or superpriority
claims granted to pre-petition secured creditors as adequate protection for
their claims under the interim DIP facility order issued by the bankruptcy
court and the final DIP facility order; and (v) pre-petition liens granted to
the lenders under Vencor's credit agreement, as amended, and related
agreements, to the extent such pre-petition claims are allowed as secured,
subject to challenge in the Vencor bankruptcy proceeding. The monthly payment
of approximately $15.1 million under the Rent Stipulation is not subject to
offset, recoupment or challenge. The Company has written off the difference
between the monthly base rent payable pursuant to the Master Leases and the
Rent Stipulation for the six month period ended June 30, 2000 as a loss on
uncollectible amounts due from tenant.
The Rent Stipulation by its terms initially would have expired on October
31, 1999, but automatically renews for one-month periods unless either party
provides a fourteen-day notice of its election to terminate the Rent
Stipulation. To date, no such notice of termination has been given. The Rent
Stipulation may also be terminated prior to its expiration upon a payment
default by Vencor, the consummation of a plan of reorganization for Vencor, or
the occurrence of certain events under the DIP facility. There can be no
assurance as to how long the Rent Stipulation will remain in effect or that
Vencor will continue to perform under the terms of the Rent Stipulation.
The Rent Stipulation also addresses an agreement by Ventas and Vencor
concerning any statutes of limitations and other time constraints. See "--The
Tolling Agreement" below.
7
VENTAS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
The Tolling Agreement
The Company and Vencor have also entered into an agreement (the "Tolling
Agreement") pursuant to which they have agreed that any statutes of
limitations or other time constraints in a bankruptcy proceeding, including
the assertion of certain "bankruptcy avoidance provisions" that might be
asserted by one party against the other, are extended or tolled for a
specified period. That period currently expires on the termination date of the
Rent Stipulation. Pursuant to the Rent Stipulation, the Tolling Agreement does
not shorten any time period otherwise provided under the Bankruptcy Code.
Recent Developments Regarding Income Taxes
On February 3, 2000 the Company received a refund (the "Refund") of
approximately $26.6 million from the Internal Revenue Service representing the
refund of income taxes paid by it from 1996 and 1997 and accrued interest
thereon as a result of a carry back of losses reported in the Company's 1998
federal income tax return. Although the Company believes that it is entitled
to the Refund pursuant to the terms of a tax allocation agreement (the "Tax
Allocation Agreement") the Company entered into with Vencor in connection with
the 1998 Spin Off and on other legal grounds, the Internal Revenue Service may
assert a right to all or some portion of the Refund based upon the review of
the federal income tax returns of the Company (which prior to May 1, 1998
operated under the name Vencor). The Internal Revenue Service is currently
reviewing the Company's federal income tax returns for the tax years ending
December 31, 1995 and December 31, 1996. The Internal Revenue Service has
recently advised the Company that it has finalized its adjustments to the
Company's 1995 and 1996 federal income tax returns. The Company believes that
no additional tax will be due as a result of the adjustments to the Company's
1995 and 1996 federal income tax returns. The federal income tax returns of
the Company for subsequent years are also likely to be subject to review by
the Internal Revenue Service. The ultimate outcome of these matters and the
resulting effect on related operating loss carryforwards has not been
determined and, accordingly, no additional provisions for resulting tax
liabilities, if any, have been made in the Condensed Consolidated Financial
Statements of the Company at June 30, 2000. Under the Tax Allocation
Agreement, Vencor has indemnified the Company for certain of these tax
liabilities, should they exist. There can be no assurance that Vencor will
have sufficient assets, income and access to financing to enable it to satisfy
its indemnity obligations under the Tax Allocation Agreement or that Vencor
will continue to honor such indemnification obligation.
The United States Department of the Treasury--Internal Revenue Service has
filed a proof of claim in the Vencor bankruptcy proceeding asserting a claim
against Vencor to the Refund. Vencor, in turn, has asserted that it is
entitled to the Refund pursuant to the terms of the Tax Allocation Agreement
and on other legal grounds. Vencor and the Company are also engaged in a
dispute relating to the entitlement to certain other federal, state and local
tax refunds, in addition to the Refund.
The Company, Ventas Realty, and Vencor entered into a stipulation relating
to certain of these federal, state and local tax refunds (including the
Refund) on or about May 23, 2000 (the "Tax Stipulation"). Under the terms of
the Tax Stipulation, which was approved by the Vencor bankruptcy court on May
31, 2000, proceeds of certain federal, state and local tax refunds for tax
years ending prior to or including April 30, 1998, received by either company
on or after September 13, 1999, with interest thereon from the date of deposit
at the lesser of the actual interest earned and 3% per annum, are to be held
by the recipient of such refunds in segregated interest bearing accounts. The
Tax Stipulation contains notice provisions relating to the withdrawal of funds
by either company from the segregated accounts. The Tax Stipulation terminates
automatically on the earlier of (a) the date of termination of the Rent
Stipulation, and (b) the date Vencor provides notice of its intent to
terminate the Rent Stipulation. Both companies reserve all rights and claims
regarding the refund proceeds under the Tax Stipulation.
8
VENTAS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
There can be no assurance as to how matters related to the tax refunds or
any tax assessed for these same years or other years of the Company will be
resolved or as to whether the Company will ultimately retain all or a portion
of any of the refund proceeds, including the Refund. Accordingly, the refund
proceeds (including the Refund) and interest earned thereon, have been
classified with the other liabilities of the Company at June 30, 2000 in the
Condensed Consolidated Financial Statements.
No net provision for income taxes has been recorded in the Condensed
Consolidated Financial Statements for the six months ended June 30, 2000 due
to the Company's intention to qualify as a REIT, distribute 95% of its 2000
taxable income as a dividend and the existence of net operating losses that
offset the remaining liability for federal corporate income taxes for the 2000
tax year. Although the Company intends to qualify as a REIT for the 2000 tax
year and to distribute 95% of its 2000 taxable income, it is possible that
economic, market, legal, tax or other considerations may cause the Company to
fail or elect not to qualify as a REIT for the 2000 tax year and distribute
95% of its 2000 taxable income.
Recent Developments Regarding Dividends
The Company intends to qualify as a REIT for the tax year ending December
31, 1999 (the "1999 Tax Year") and the tax year ending December 31, 2000 (the
"2000 Tax Year"). Such qualification requires the Company to declare a
distribution of 95% of its taxable income not later than (a) September 15,
2000 for the 1999 Tax Year, and (b) September 15, 2001 for the 2000 Tax Year
and pay such dividend not later than December 31, 2000 for the 1999 Tax Year
and December 31, 2001 for the 2000 Tax Year, or, if earlier, the first regular
dividend for the then current year. The Company currently intends to
distribute the remainder of the dividend for the 1999 Tax Year on or about
September 15, 2000, but there can be no assurance that it will do so. The
remainder of the dividend for the 1999 Tax Year may be satisfied by a
distribution of a combination of cash and other property or securities. While
such distributions are not required to be made quarterly, if they are not made
by January 31, 2000 for the 1999 Tax Year and January 31, 2001 for the 2000
Tax Year, the Company is required to pay a 4% non-deductible excise tax on the
portion of the distribution not paid by January 31 of the year following the
year in respect of which the dividend is paid.
It is important to note for purposes of the required REIT distributions that
the Company's taxable income may vary significantly from historical results
and from current income determined in accordance with accounting principles
generally accepted in the United States depending on the resolution of a
variety of factors. Under certain circumstances, the Company may be required
to make distributions in excess of FFO (as defined by the National Association
of Real Estate Investment Trusts) in order to meet such distribution
requirements. In the event that timing differences or cash needs occur, the
Company may find it necessary to borrow funds or to issue equity securities
(there being no assurance that it will be able to do so) or, if possible, to
pay taxable stock dividends, distribute other property or securities or engage
in a transaction intended to enable it to meet the REIT distribution
requirements. The Company's ability to engage in certain of these transactions
is restricted by the terms of the Amended Credit Agreement. Any such
transaction would likely require the consent of the "Required Lenders" under
the Amended Credit Agreement, and there can be no assurance that such consent
would be obtained. In addition, the failure of Vencor to make rental payments
under the Master Leases would impair materially the ability of the Company to
make distributions. Consequently, there can be no assurance that the Company
will be able to make distributions at the required distribution rate or any
other rate.
Although the Company intends to qualify as a REIT for the 1999 and 2000 Tax
Years, it is possible that economic, market, legal, tax or other
considerations may cause the Company to fail or elect not to qualify as a REIT
in either or both tax years. If the Company were to fail or elect not to
qualify as a REIT in either or both tax years, the Company would be subject to
35% federal income tax and to the applicable state and local income taxes for
the affected years. Such tax obligations would have a Material Adverse Effect
on the Company.
9
VENTAS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Recent Developments Regarding Liquidity
On January 31, 2000, the Company and all of the lenders under a prior credit
agreement entered into the Amended Credit Agreement, which amended and
restated the $1.2 billion credit agreement (the "Bank Credit Agreement") the
Company entered into at the time of the 1998 Spin Off. See "Note 4--Bank
Credit Facility" to the Condensed Consolidated Financial Statements.
Other Recent Developments
Tenant Bankruptcies
Certain of the Company's tenants, other than Vencor, have filed for
protection under the Bankruptcy Code. These tenants include: Health
Enterprises of Michigan, Inc. ("HEM"), Sun Healthcare Group, Inc. and a number
of its subsidiaries (collectively, "Sun"), and Integrated Health Services,
Inc. and a number of its subsidiaries (collectively, "IHS"). Under the
Bankruptcy Code, a tenant may seek either to reject or assume the Company's
leases. If a tenant rejects the leases, then the Company will have to locate a
substitute tenant or operator for the facilities whose leases were rejected.
There can be no assurance that the Company would be able to locate
satisfactory substitute tenants or operators for such facilities on terms that
are acceptable to the Company. Should the Company fail to locate substitute
tenants or operators on terms acceptable to the Company, then the Company
would have to assume operations at the facilities, sell the facilities or take
certain other action relative to the facilities.
On July 18, 2000, IHS filed a motion in the IHS bankruptcy proceeding to
reject a lease with the Company for a nursing facility in Marne, Michigan. The
current aggregate annual base rental for the facility is approximately $0.4
million. The motion to reject the lease is scheduled to be heard by the
bankruptcy court on or about September 22, 2000. To date, the Company has been
unable to locate a substitute tenant for the nursing facility. If the
bankruptcy court approves the IHS motion to reject the lease and the Company
fails to locate a substitute tenant for the facility on terms that are
acceptable to the Company, the Company may elect to assume operations at the
facility, sell the facility or take certain other action relative to the
facility. There can be no assurance that the Company will be able to locate a
satisfactory substitute tenant for the facility on terms acceptable to the
Company. The Company's ability to engage in certain of these transactions is
restricted by the terms of the Amended Credit Agreement. Any such transaction
would likely require the consent of the "Required Lenders" under the Amended
Credit Agreement, and there can be no assurance that such consent would be
obtained. The Company intends to assert a claim against IHS in the bankruptcy
proceeding for the fees, costs, expenses and damages resulting from IHS's
rejection of the Company's lease. Applicable bankruptcy law may limit the
amount of any such recovery against IHS. There can be no assurance the Company
will prevail in a claim against IHS or that IHS will have sufficient assets to
satisfy such claim. The Company is continuing to evaluate what effect, if any,
IHS's actions may have on the carrying value of this facility.
Third Party Leases
In connection with the 1998 Spin Off, the Company assigned its former third
party lease obligations (i.e., leases under which an unrelated third party is
the landlord) as a tenant or as a guarantor of tenant obligations to Vencor
(the "Third Party Leases"). The lessors of these properties may claim that the
Company remains liable on the Third Party Leases assigned to Vencor. Under the
terms of the Agreement of Indemnity--Third Party Leases entered into at the
time of the 1998 Spin Off (the "Agreement of Indemnity--Third Party Leases"),
Vencor and certain of its subsidiaries have agreed to indemnify and hold the
Company harmless from and against all claims against the Company arising out
of the Third Party Leases assigned by the Company to Vencor. Either prior to
or following the 1998 Spin Off, the tenant's rights under a subset of the
Third Party Leases were assigned or sublet to unrelated third parties (the
"Subleased Third Party Leases"). Three of the third party subtenants under the
Subleased Third Party Leases, HEM, Lenox Healthcare, Inc. and its subsidiaries
(collectively, "Lenox") and IHS have filed for protection under the Bankruptcy
Code. If Vencor or a third party subtenant is
10
VENTAS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
unable to satisfy the obligations under any Third Party Lease assigned by the
Company to Vencor and sublet or assigned to such third party subtenant, and if
the lessors prevail in a claim against the Company under the Third Party
Leases, then the Company may be liable for the payment and performance of the
obligations under any such Third Party Lease. In that event, the Company may
be entitled to receive revenues from those properties that would mitigate the
costs incurred in connection with the satisfaction of such obligations.
Pursuant to the Rent Stipulation, Vencor has agreed to fulfill its obligations
under the Agreement of Indemnity--Third Party Leases during the period in
which the Rent Stipulation is in effect, and, except for disputes with Health
Care Property Investors discussed below, has to date performed its
obligations. However, there can be no assurance that Vencor will continue to
pay, indemnify and defend the claims or have sufficient assets, income and
access to financing to enable it to satisfy such claims.
IHS filed a motion with the bankruptcy court in the IHS bankruptcy
proceeding seeking approval of the rejection of a Subleased Third Party Lease
by IHS of a nursing facility in Harlingen, Texas. The hearing on this motion
is scheduled for September 22, 2000. The estimated total remaining rental
payments for this nursing facility is approximately $3.5 million. If the
motion for the rejection of the Subleased Third Party Lease is approved by the
IHS bankruptcy court, Vencor has advised the Company that Vencor will, in
accordance with its obligations under the Spin Agreements and the Rent
Stipulation, assume operation of this nursing facility and satisfy the
obligations under the related Third Party Lease. However, there can be no
assurance that Vencor will perform the obligations under this Third Party
Lease or have sufficient assets, income and access to financing to enable it
to satisfy such obligations.
The Company received demands for payment from Health Care Property Investors
("HCPI") by letters dated October 19, 1999, February 4, 2000, March 7, 2000,
April 19, 2000 and July 7, 2000 for obligations alleged to be due under
certain Third Party Leases. Certain of these obligations have either been
satisfied by Vencor or otherwise resolved between HCPI and Vencor. Currently,
the aggregate amount alleged to be due to HCPI is approximately $2.8 million,
excluding amounts for deferred maintenance issues. In addition, by letter
dated February 9, 2000, HCPI notified the Company and Vencor that HCPI intends
to exercise its right under certain Third Party Leases to have the Company or
Vencor purchase two facilities owned by HCPI (one in Evansville, Indiana and
one in Kansas City, Missouri). The two facilities have allegedly been closed
and HCPI has stated that if the facilities were not reopened within the
required period of time, HCPI would demand that the Company or Vencor purchase
the facility not so reopened for the greater of the minimum repurchase price
or the fair value. Vencor has advised HCPI and the Company that the facility
in Kansas City, Missouri was reopened on April 21, 2000. Vencor has advised
the Company that Vencor will not reopen the Evansville, Indiana facility, but
that Vencor and HCPI have reached an agreement resolving the matters relating
to the Evansville, Indiana facility, which agreement includes the termination
of the Third Party Lease and the repurchase requirement in exchange for an
agreed upon payment by Vencor. At a hearing on August 9, 2000, the Vencor
bankruptcy court approved the Evansville agreement.
In accordance with the terms of the Spin Agreements and the Rent
Stipulation, the Company has issued written demand to Vencor for payment,
performance, indemnification and defense of the claims, obligations and
allegations asserted by HCPI. There can be no assurance that Vencor will pay,
indemnify and defend these claims or that Vencor will have sufficient assets,
income and access to financing to enable it to satisfy such claims.
No adjustments or provisions for liability, if any, resulting from the
matters discussed above has been recorded in the Condensed Consolidated
Financial Statements for the six month period ended June 30, 2000.
NOTE 4--BANK CREDIT FACILITY
On January 31, 2000, the Company and the lenders under the Bank Credit
Agreement entered into the Amended Credit Agreement which amended and restated
the Bank Credit Agreement. Under the Amended Credit Agreement, borrowings bear
interest at an applicable margin over an interest rate selected by the
Company. Such
11
VENTAS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
interest rate may be either (a) the Base Rate, which is the greater of (i) the
prime rate or (ii) the federal funds rate plus 50 basis points, or (b) LIBOR.
Borrowings under the Amended Credit Agreement are comprised of: (1) a $25.0
million revolving credit line (the "Revolving Credit Line") that expires on
December 31, 2002, which bears interest at either LIBOR plus 2.75% or the Base
Rate plus 1.75%; (2) a $200.0 million term loan due December 31, 2002 (the
"Tranche A Loan"), which bears interest at either LIBOR plus 2.75% or the Base
Rate plus 1.75%; (3) a $300.0 million term loan due December 31, 2005 (the
"Tranche B Loan"), which bears interest at either LIBOR plus 3.75% or the Base
Rate plus 2.75%; and (4) a $473.4 million term loan due December 31, 2007 (the
"Tranche C Loan"), which bears interest at either LIBOR plus 4.25% or the Base
Rate plus 3.25%. The interest rate on the Tranche B Loan will be reduced by
.50% (50 basis points) once $150.0 million of the Tranche B Loan has been
repaid.
The Amended Credit Agreement requires the following amortization: (a) with
respect to the Tranche A Loan, (i) $50.0 million of the Tranche A Loan was
paid at closing on January 31, 2000, (ii) $50.0 million is due within 30 days
after Vencor's plan of reorganization becomes effective (the "Vencor Effective
Date"), and (iii) thereafter all Excess Cash Flow (as defined in the Amended
Credit Agreement) of the Company will be applied to the Tranche A Loan until
$200.0 million in total has been paid down on the Amended Credit Agreement,
with the balance, if any, due December 31, 2002; (b) with respect to the
Tranche B Loan, (i) after the $50.0 million paydown on the Tranche A Loan to
be made within 30 days after the Vencor Effective Date and after consideration
of other cash needs of the Company, a one-time paydown of Excess Cash (as
defined in the Amended Credit Agreement) and (ii) scheduled paydowns of $50.0
million on December 31, 2003 and December 31, 2004, with the balance due
December 31, 2005; and (c) with respect to the Tranche C Loan, no scheduled
paydowns with a final maturity of December 31, 2007. The facilities under the
Amended Credit Agreement are pre-payable without premium or penalty.
The following is a summary of long-term borrowings at June 30, 2000:
Amount
--------------
(In Thousands)
Tranche A Loan, bearing interest at a base rate of LIBOR plus
2.75% (9.38% at June 30, 2000), due December 31, 2002....... $150,000
Tranche B Loan, bearing interest at a base rate of LIBOR plus
3.75% (10.38% at June 30, 2000), due December 31, 2005...... 300,000
Tranche C Loan, bearing interest at a base rate of LIBOR plus
4.25% (10.88% at June 30, 2000), due December 31, 2007...... 473,368
--------
$923,368
========
The following is a summary of long-term borrowings at December 31, 1999:
Amount
--------------
(In Thousands)
Revolving line of credit, bearing interest at a base rate of
LIBOR plus 2.25% (8.72% to 8.74% at December 31, 1999)...... $202,743
Bridge facility loan, bearing interest at a base rate of
LIBOR plus 2.75% (9.23% at December 31, 1999)............... 275,000
Term A Loan, bearing interest at a base rate of LIBOR plus
2.25% (8.74% at December 31, 1999).......................... 181,818
Term B Loan, bearing interest at a base rate of LIBOR plus
2.75% (9.24% at December 31, 1999).......................... 314,682
Other........................................................ 4
--------
$974,247
========
12
VENTAS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
During the first quarter of 2000, the Company incurred an extraordinary loss
of approximately $4.2 million relating to the write-off of the unamortized
deferred financing costs associated with the Bank Credit Agreement.
On October 29, 1999, in conjunction with the execution of an agreement with
over 95% of the lenders under the Bank Credit Agreement (the "Waiver and
Extension Agreement") regarding the restructuring of the Company's long-term
debt, including the $275.0 million Bridge Loan, the Company paid a $2.4
million loan waiver fee which was fully amortized over the three month
extension period under the Waiver and Extension Agreement. In connection with
the consummation of the Amended Credit Agreement on January 31, 2000, the
Company paid a $7.3 million loan restructuring fee. The $7.3 million fee is
being amortized proportionately over the terms of the related loans.
The Amended Credit Agreement is secured by liens on substantially all of the
Company's real property and any related leases, rents and personal property.
Certain properties are being held in escrow by counsel for the agents under
the Amended Credit Agreement pending the receipt of third party consents
and/or resolution of certain other matters. In addition, the Amended Credit
Agreement contains certain restrictive covenants, including, but not limited
to, the following: (a) until such time that $200.0 million in principal amount
has been paid down, the Company can only pay dividends based on a certain
minimum percentage of its taxable income (currently equal to 95% of its
taxable income for the year ended December 31, 1999 and the year ending
December 31, 2000 and 90% of its taxable income for years ending on or after
December 31, 2001); however, after $200.0 million in total principal paydowns,
the Company will be allowed to pay dividends for any year in amounts up to 80%
of funds from operations ("FFO"), as defined in the Amended Credit Agreement;
(b) limitations on additional indebtedness, acquisitions of assets, liens,
guarantees, investments, restricted payments, leases, affiliate transactions
and capital expenditures; and (c) certain financial covenants, including
requiring that the Company have (i) $50.0 million in cash and cash equivalents
on hand at the Vencor Effective Date; (ii) no more than $1.1 billion of total
indebtedness on the Vencor Effective Date; and (iii) at least $99.0 million of
Projected Consolidated EBITDA, as defined in the Amended Credit Agreement, for
the 270 day period beginning in the first month after the Vencor Effective
Date.
The Amended Credit Agreement does not contain any financial covenants that
are applicable to the Company prior to the Vencor Effective Date, and
provides, among other things, that no action taken by any person in the Vencor
bankruptcy case (other than by the Company and its affiliates) shall be deemed
to constitute or result in a "Material Adverse Effect," as defined in the
Amended Credit Agreement. In addition, the Amended Credit Agreement provides
that if the Company is in compliance with its financial covenants and the
covenant relating to releases in the Vencor bankruptcy on the Vencor Effective
Date, no event or condition arising primarily from the Vencor plan of
reorganization shall be deemed to have caused a "Material Adverse Effect," as
defined in the Amended Credit Agreement, to have occurred. Under the terms of
the Amended Credit Agreement, however, an event of default is deemed to have
occurred if the Vencor Effective Date does not occur on or before December 31,
2000.
The Company has an interest rate swap agreement with a notional principal
amount of $875.0 million, under which the Company pays a fixed rate at 5.985%
and receives LIBOR (floating rate). The terms of the interest rate swap
agreement require that the Company make a cash payment or otherwise post
collateral to the counterparty if the fair value loss to the Company exceeds
certain levels. The threshold levels vary based on the relationship between
the Company's debt obligations and the tangible fair value of its assets as
defined in the Bank Credit Agreement. As of June 30, 2000, no collateral was
required to be posted under the interest rate swap agreement.
On August 4, 1999, the Company entered into an agreement with the interest
rate swap agreement counterparty to shorten the maturity of the interest rate
swap agreement from December 31, 2007 to June 30, 2003, in exchange for a
payment in 1999 from the counterparty to the Company of $21.6 million. So long
as the Company has debt in excess of $750.0 million, the Company will amortize
the $21.6 million payment for financial accounting purposes in future periods
beginning in July 2003 and ending December 2007.
13
VENTAS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
On January 31, 2000, the Company entered into a letter agreement with the
counterparty to the swap agreement for the purpose of amending the swap
agreement. The letter agreement provides that, for purposes of certain
calculations set forth in the swap agreement, the parties agree to continue to
use certain defined terms set forth in the Bank Credit Agreement.
NOTE 5--Litigation
Legal Proceedings Defended and Indemnified by Vencor Under the Spin Agreements
The following litigation and other matters arose from the Company's
operations prior to the 1998 Spin Off or relate to assets or liabilities
transferred to Vencor in connection with the 1998 Spin Off. Under the Spin
Agreements, Vencor agreed to assume the defense, on behalf of the Company, of
any claims that (a) were pending at the time of the 1998 Spin Off and which
arose out of the ownership or operation of the healthcare operations or any of
the assets or liabilities transferred to Vencor in connection with the 1998
Spin Off, or (b) were asserted after the 1998 Spin Off and which arose out of
the ownership and operation of the healthcare operations or any of the assets
or liabilities transferred to Vencor in connection with the 1998 Spin Off, and
to indemnify the Company for any fees, costs, expenses and liabilities arising
out of such operations (the "Indemnification"). Vencor is presently defending
the Company in the following matters. Under the Rent Stipulation (see "Note
3--Concentration of Credit Risk and Recent Developments"), Vencor agreed to
abide by the Indemnification and to continue to defend the Company in these
and other matters as required under the Spin Agreements while the Rent
Stipulation is in effect. However, there can be no assurance that the Rent
Stipulation will remain in effect, that Vencor will continue to defend the
Company in such matters or that Vencor will have sufficient assets, income and
access to financing to enable it to satisfy such obligations or its
obligations incurred in connection with the 1998 Spin Off. In addition, many
of the following descriptions are based primarily on information included in
Vencor's public filings and information provided to the Company by Vencor.
There can be no assurance that Vencor has provided the Company with complete
and accurate information in all instances.
A class action lawsuit entitled A. Carl Helwig v. Vencor, Inc., et al., was
filed on December 24, 1997 in the United States District Court for the Western
District of Kentucky (Civil Action No. 3-97CV-8354). The putative class action
claims were brought by an alleged stockholder of the Company against the
Company and certain executive officers and directors of the Company. The
complaint alleges that the Company and certain current and former executive
officers of the Company during a specified time frame violated Sections 10(b)
and 20(a) of the Exchange Act, by, among other things, issuing to the
investing public a series of false and misleading statements concerning the
Company's current operations and the inherent value of the Company's common
stock. The complaint further alleges that as a result of these purported false
and misleading statements concerning the Company's revenues and successful
acquisitions, the price of the Company's common stock was artificially
inflated. In particular, the complaint alleges that the Company issued false
and misleading financial statements between February and October of 1997 which
misrepresented and understated the impact that changes in Medicare
reimbursement policies would have on the Company's core services and
profitability. The complaint further alleges that the Company issued a series
of materially false statements concerning the purportedly successful
integration of its acquisitions and prospective earnings per share for 1997
and 1998 which the Company knew lacked any reasonable basis and were not being
achieved. The suit seeks damages in an amount to be proven at trial, pre-
judgment and post-judgment interest, reasonable attorneys' fees, expert
witness fees and other costs, and any extraordinary equitable and/or
injunctive relief permitted by law or equity to assure that the plaintiff has
an effective remedy. On January 22, 1999 the United States District Court for
the Western District of Kentucky entered a judgment dismissing the action in
its entirety as to all defendants in the case. On April 24, 2000, the United
States Court of Appeals for the Sixth Circuit upheld the District Court's
judgment dismissing the action in its entirety as to all defendants in the
case. On July 14, 2000, the Sixth Circuit granted
14
VENTAS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
plaintiffs' motion for rehearing of their appeal en banc and vacated its
earlier decision. No briefing has yet occurred on the rehearing. Vencor, on
behalf of the Company, is defending this action vigorously.
Vencor and the Company have been informed by the Department of Justice that
they are the subject of ongoing investigations into various aspects of claims
for reimbursement from government payers, billing practices and various
quality of care issues in the hospitals and nursing facilities formerly
operated by the Company and presently operated by Vencor. These investigations
cover the Company's former healthcare operations prior to the date of the 1998
Spin Off, and include matters arising out of the qui tam actions described
below and additional potential claims. Certain of the complaints described
below name other defendants in addition to the Company. The United States
Department of Justice, Civil Division filed two proofs of claim in the Vencor
bankruptcy court covering these claims and the qui tam suits. The United
States asserted approximately $1.3 billion, including treble damages, against
Vencor in these proofs of claim. The Department of Justice has informed the
Company that it is the Department of Justice's position that if liability
exists in connection with such investigations or qui tam actions, the Company
and Vencor will be jointly and severally liable for the portion of such claims
related to the period prior to the date of the 1998 Spin Off. Any liability
the Company may incur in connection with these matters will be subject to the
Company's rights under the Indemnification and Vencor's ability and
willingness to perform thereunder.
American X-Rays, Inc. ("AXR") was a subsidiary of the Company prior to the
1998 Spin Off. The Company transferred all of its interest in AXR to Vencor in
the 1998 Spin Off. AXR is the defendant in a civil qui tam lawsuit which was
filed in the United States District Court for the Eastern District of Arkansas
and served on the Company on July 7, 1997. The lawsuit is styled United States
ex rel. Doe v. American X-Ray, Inc., No. LR-C-95-332 (E.D. Ark.). The United
States of America has intervened in the suit which was brought under the
Federal Civil False Claims Act. AXR provided portable X-ray services to
nursing facilities (including those operated by the Company at the time) and
other healthcare providers. The Company acquired an interest in AXR when The
Hillhaven Corporation ("Hillhaven") was merged into the Company in September
1995 and purchased the remaining interest in AXR in February 1996. The civil
lawsuit alleges that AXR submitted false claims to the Medicare and Medicaid
programs. The suit seeks damages in an amount of not less than $1,000,000,
treble damages and civil penalties. In a related criminal investigation, the
United States Attorney's Office for the Eastern District of Arkansas indicted
four former employees of AXR; those individuals were convicted of various
fraud related counts in January 1999. The Company and Vencor have received
several grand jury subpoenas for documents and witnesses which Vencor, on
behalf of the Company has moved to quash. On May 4, 1999, the United States of
America amended its civil complaint to include Vencor and the Company as
defendants. Vencor and the Company have moved to dismiss the amended
complaint. Vencor, on behalf of the Company, is defending this action
vigorously. This case has been administratively terminated without prejudice
pending the outcome of the settlement discussions among the Department of
Justice, the Company and Vencor.
On November 24, 1997, a civil qui tam lawsuit was filed against the Company
in the United States District Court for the Middle District of Florida. This
lawsuit was brought under the Federal Civil False Claims Act and is styled
United States of America, ex rel. Virginia Lee Lanford and Gwendolyne
Cavanaugh v. Vencor, Inc., et al, No. 97-CV-2845. The United States of America
intervened in the lawsuit on May 17, 1999. On July 23, 1999, the United States
filed its Amended Complaint in the lawsuit. The lawsuit alleges that the
Company and Vencor knowingly submitted false claims and false statements to
the Medicare and Medicaid programs, including, but not limited to, claims for
reimbursement of costs for certain ancillary services performed in Vencor's
nursing facilities and for third party nursing facility operators that the
United States of America claims are not reimbursable costs. The lawsuit
involves the Company's former healthcare operations. The complaint does not
specify the amount of damages claimed by the plaintiffs. The Company disputes
the allegations contained in the complaint and the Company and/or Vencor, on
behalf of the Company, intend to defend this action vigorously.
15
VENTAS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
In United States ex rel. Kneepkens v. Gambro Healthcare, Inc., et al., No.
97-10400-GAO, filed in the United States District Court for the District of
Massachusetts on October 15, 1998, Transitional Hospitals Corporation
("Transitional"), the Company's former subsidiary which was transferred to
Vencor in the 1998 Spin Off, and two unrelated entities, Gambro Healthcare,
Inc. and Dialysis Holdings, Inc., are defendants. This suit alleges that the
defendants violated the Federal Civil False Claims Act and the Anti-Kickback
Statute and committed common law fraud, unjust enrichment and payment by
mistake of fact. Specifically, the complaint alleges that a predecessor to
Transitional formed a joint venture with Damon Clinical Laboratories to create
and operate a clinical testing laboratory in Georgia that was then used to
provide lab testing for dialysis patients, and that the joint venture billed
at below cost in return for referral of substantially all non-routine testing
in violation of the Anti-Kickback Statute. It is further alleged that a
predecessor to Transitional and Damon Clinical Laboratories used multiple
panel testing of end stage renal disease rather than single panel testing that
allegedly resulted in the generation of additional revenues from Medicare and
that the entities allegedly added non-routine tests to tests otherwise ordered
by physicians that were not requested or medically necessary but resulted in
additional revenue from Medicare in violation of the Anti-Kickback Statute.
Transitional has moved to dismiss the case. Transitional disputes the
allegations in the complaint and is defending the action vigorously.
On or about January 7, 2000 the United States of America intervened in each
of the following previously sealed (and therefore previously non-public) qui-
tam cases with respect to the claims against the Company and/or Vencor: United
States ex rel. George Mitchell et al. v. Vencor, Inc. et al. (S.D. Ohio);
United States ex rel. Danley v. Medisave Pharmacies, Inc., Hillhaven Corp.,
and Vencor, Inc., Civil No. CV-N-96-00170-HDM (D. Nev., Reno Div.); United
States ex rel. Roberts v. Vencor, Inc. et al., Civil Action No. 3:97CV-349-J,
(W.D. Kan.) consolidated with United States ex rel. Meharg, et al. v. Vencor,
Inc., et al., Civil Action No. 3:98SC-737-H, (M.D. Fla.); United States ex
rel. Huff, et. al v. Vencor, Inc., et al., Civil No. 97-4358 AHM (MCX); United
States ex rel. Brzycki v. Vencor, Inc., Civil No. 97-451-JD; United States, et
al., ex rel., Phillips-Minks, et al. v. Transitional Hospitals Corp., et al.;
United States ex rel. Harris and Young v. Vencor, Inc., et al., (E.D. Mo.)
4:99CB00842 and Gary Graham on Behalf of the United States of America v.
Vencor Operating, Inc. et al., (S.D. Fla.). Except for the order in United
States ex rel. Harris and Young, which is described below, the order granting
the United States' motions to intervene in these lawsuits state that the
United States is intervening for the purpose of representing the United
States' interests in the Vencor bankruptcy proceeding and to effectuate any
settlement reached between the United States and Vencor and/or the Company.
The courts have ordered these complaints unsealed, but the Company has not
been formally served with a complaint in any of these lawsuits. The current
deadline for the service of the complaints in most of these cases is currently
scheduled to expire in August, 2000. The Department of Justice has informed
the Company that it is petitioning the applicable courts to extend the period
of time in which the complaints in these cases must be served on the Company
through November 2000. There can be no assurance that such extensions will be
obtained. Each of these lawsuits is described in more detail immediately
below.
United States ex rel. George Mitchell et al. v. Vencor, Inc. et al. (S.D.
Ohio), filed on August 13, 1999, was brought under the Federal Civil False
Claims Act. The lawsuit alleges that the Company and its former subsidiaries,
Vencare, Inc. ("Vencare") and Vencor Hospice, Inc. (both of which were
transferred to Vencor in the 1998 Spin Off), submitted false statements to the
Medicare program for, among other things, reimbursement for costs for patients
who were not "hospice appropriate." The complaint alleges damages in excess of
$1.0 million. The Company disputes the allegations contained in the complaint.
If the United States and, Vencor and/or the Company, do not reach a settlement
or should the complaint in this lawsuit be served on the Company, the Company
and/or Vencor, on behalf of the Company, intends to defend this action
vigorously.
In United States ex rel. Danley v. Medisave Pharmacies, Inc., Hillhaven
Corp., and Vencor, Inc., Civil No. CV-N-96-00170-HDM (D. Nev., Reno Div.),
filed on March 15, 1996, it is alleged that Medisave Pharmacies, Inc.
("Medisave"), a former subsidiary of the Company and now a subsidiary of
Vencor, (1) charged the
16
VENTAS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Medicare program for unit dose drugs when bulk drugs were administered and
charged skilled nursing facilities more for the same drugs for Medicare
patients than for non-Medicare patients; (2) improperly claimed special
dispensing fees that it was not entitled to under Medicaid; and (3) recouped
unused drugs from skilled nursing facilities and returned these drugs to its
stock without crediting Medicare or Medicaid, all in violation of the Federal
Civil False Claims Act. It also alleged that Medisave had a policy of offering
kickbacks such as free equipment to skilled nursing facilities to secure and
maintain their business. The complaint seeks treble damages, other unspecified
damages, civil penalties, attorney's fees and other costs. The Company
disputes the allegations contained in the complaint. If the United States and,
Vencor and/or the Company, do not reach a settlement or should the complaint
in this lawsuit be served on the Company, the Company and/or Vencor, on behalf
of the Company, intends to defend this action vigorously.
In the lawsuits styled United States ex rel. Roberts v. Vencor, Inc. et al.,
Civil Action No. 3:97CV-349-J (W.D. Kan.), filed on June 25, 1996,
consolidated with United States ex rel. Meharg, et al. v. Vencor, Inc., et
al., Civil Action No. 3:98SC-737-H, (M.D. Fla.), filed on June 4, 1998, it is
alleged that the Company, Vencor and Vencare, among others, submitted and
conspired to submit false claims to the Medicare program in connection with
their purported provision of respiratory therapy services to skilled nursing
facility residents. The Company and Vencare allegedly billed Medicare for
respiratory therapy services and supplies when those services were not
medically necessary, billed for services not provided, exaggerated the time
required to provide services or exaggerated the productivity of its
therapists. It is further alleged that the Company and Vencare presented false
claims and statements to the Medicare program in violation of the Federal
Civil False Claims Act, by, among other things, allegedly causing skilled
nursing facilities with which they had respiratory therapy contracts, to
present false claims to Medicare for respiratory therapy services and
supplies. The complaint seeks treble damages, other unspecified damages, civil
penalties, attorney's fees and other costs. The Company disputes the
allegations contained in the complaint. If the United States and, Vencor
and/or the Company, do not reach a settlement or should the complaint in this
lawsuit be served on the Company, the Company and/or Vencor, on behalf of the
Company, intends to defend this action vigorously.
The Company is a defendant in the case captioned United States ex rel. Huff,
et al. v. Vencor, Inc., et al., Civil No. 97-4358 AHM(MCX) filed in the United
States District Court for the Central District of California on June 13, 1997.
The complaint alleges, among other things, that the defendants violated the
Federal Civil False Claims Act by submitting false claims to Medicare,
Medicaid and CHAMPUS programs by allegedly (1) falsifying patient bills and
submitting the bills to Medicare, Medicaid and CHAMPUS programs, (2)
submitting bills for intensive and critical care not actually administered to
patients, (3) the falsifying of patient charts in relation to the billing, (4)
charging for physical therapy services allegedly not provided and pharmacy
services allegedly provided by non-pharmacists, and (5) billing for sales
calls made by nurses to prospective patients. The complaint further alleges
the improper establishment of TEFRA rates. The complaint seeks treble damages,
other unspecified damages, civil penalties, attorney's fees and other costs.
The Company disputes the allegations contained in the complaint. If the United
States and Vencor and/or the Company do not reach a settlement or should the
complaint in this lawsuit be served on the Company, the Company and/or Vencor,
on behalf of the Company, intends to defend this action vigorously.
The Company is a defendant in the proceeding captioned United States ex rel.
Brzycki v. Vencor, Inc., Civil No. 97-451-JD, filed in the United States
District Court for the District of New Hampshire on September 8, 1997. In this
lawsuit the Company is accused of knowingly violating the Federal Civil False
Claims Act by submitting and conspiring to submit false claims to the Medicare
program. The complaint includes allegations that the Company (1) fabricated
diagnostic codes by ordering and providing medically unnecessary ancillary
services (such as respiratory therapy), (2) changed referring physicians'
diagnoses in order to qualify for Medicare reimbursement; (3) billed for
products or services not received or not received in the manner billed, and
(4) paid illegal kickbacks to referring health care professionals in the form
of medical consulting service agreements as
17
VENTAS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
an alleged inducement to refer patients in violation of the Anti-Kickback Act
and Stark laws. The complaint seeks unspecified damages, civil penalties,
attorney's fees and other costs. The Company disputes the allegations
contained in the complaint. If the United States and, Vencor and/or the
Company, do not reach a settlement or should the complaint in this lawsuit be
served on the Company, the Company and/or Vencor, on behalf of the Company,
intends to defend this action vigorously.
In United States, et al., ex rel., Phillips-Minks, et al. v. Transitional
Hospitals Corp., et al., filed in the Southern District of California on July
23, 1998, it is alleged that the defendants, including Transitional and the
Company, submitted and conspired to submit false claims and statements to
Medicare, Medicaid, and other federally and state funded programs during a
period commencing in 1993. The complaint also includes certain other state law
claims. The conduct complained of allegedly violates the Federal False Claims
Act, the California False Claims Act, the Florida False Claims Act, the
Tennessee Health Care False Claims Act, and the Illinois Whistleblower Reward
and Protection Act. Defendants allegedly submitted improper and erroneous
claims to Medicare, Medicaid and other programs, for improper, unnecessary and
false services, excess collections associated with billing and collecting bad
debts, inflated and nonexistent laboratory charges, false and inadequate
documentation of claims, splitting charges, shifting revenues and expenses,
transferring patients to hospitals that reimburse at a higher level, and
improperly allocating hospital insurance expenses. In addition, the complaint
avers that defendants were inconsistent in their reporting of cost report
data, paid out kickbacks to increase patient referrals to defendant hospitals,
and incorrectly reported employee compensation resulting in inflated employee
401(k) contributions. The complaint seeks unspecified damages and expenses.
The United States recently informed the Company that it has withdrawn its
intervention in this case and declined the case. The Company disputes the
allegations contained in the complaint. If the United States and, Vencor
and/or the Company, do not reach a settlement or should the complaint in this
lawsuit be served on the Company, the Company and/or Vencor, on behalf of the
Company, intends to defend this action vigorously.
The lawsuit styled United States ex rel. Harris and Young v. Vencor, Inc.,
et al., 4:99CB00842 (E.D. Mo.), filed on May 25, 1999, was brought under the
Federal Civil False Claims Act. The lawsuit alleges that the defendants
submitted or cause to be submitted false claims for reimbursement to the
Medicare and CHAMPUS programs. Vencare, the Company's former subsidiary and a
current subsidiary of Vencor, allegedly (1) over billed for respiratory
therapy services, (2) rendered medically unnecessary treatment, and (3)
falsified supply, clinical and equipment records. The defendants also
allegedly encouraged or instructed therapists to falsify clinical records and
over prescribe therapy services. The complaint seeks treble damages, other
unspecified damages, civil penalties, attorney's fees and other costs. By
order of the court entered on March 23, 2000, this case was dismissed without
prejudice as to the United States and with prejudice as to all other
plaintiffs.
In Gary Graham on Behalf of the United States of America v. Vencor
Operating, Inc. et al., (S.D. Fla.), filed on or about June 8, 1999, it is
alleged that the defendants, including the Company, presented or caused to be
presented false or fraudulent claims for payment to the United States under
the Medicare program in violation of, among other things, the Federal Civil
False Claims Act. The complaint claims that Medisave, a former subsidiary of
the Company which was transferred to Vencor in the 1998 Spin Off,
systematically overcharged for drugs and supplies dispensed to Medicare
patients. The complaint seeks unspecified damages, civil penalties, interest,
attorney's fees and other costs. The Company disputes the allegations
contained in the complaint. If the United States and, Vencor and/or the
Company, do not reach a settlement or should the complaint in this lawsuit be
served on the Company, the Company and/or Vencor, on behalf of the Company,
intends to defend this action vigorously.
If the Department of Justice investigations and the qui tam claims were
ultimately decided in a manner adverse to the Company, such adverse decisions
could have a Material Adverse Effect on the Company. Although the Company
believes it has numerous good faith, valid legal and factual defenses to the
Department of Justice's
18
VENTAS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
and the qui tam claims, the Company and Vencor continue to be engaged in
discussions with the Department of Justice regarding a settlement of the
investigations and the qui tam actions. The United States has intervened in
the Mitchell, Danley, Meharg, Roberts, Bryzcki, Huff and Graham qui tam
lawsuits described above for the purpose of facilitating any such settlement.
Such a settlement, if reached, would resolve all of the actions in which the
Department of Justice has intervened and other claims by the Department of
Justice, and could involve the payments of amounts by the Company that might
not be subject to Indemnification and that would be material to the business,
financial condition, results of operations and liquidity of the Company. There
can be no assurance that the Company, Vencor and the Department of Justice
will reach a settlement relative to all or any such claims.
Vencor is a party to certain legal actions and regulatory investigations
arising in the normal course of its business. Neither the Company nor Vencor
is able to predict the ultimate outcome of pending litigation and regulatory
investigations. In addition, there can be no assurance that the United States
Health Care Financing Administration ("HCFA") or other regulatory agencies
will not initiate additional investigations related to Vencor's business in
the future, nor can there be any assurance that the resolution of any
litigation or investigations, either individually or in the aggregate, would
not have a material adverse effect on Vencor's liquidity, financial position
or results of operations, which in turn could have a Material Adverse Effect
on the Company.
The Company is a party to certain legal actions and regulatory
investigations which arise from the normal course of its prior healthcare
operations. The Company is unable to predict the ultimate outcome of pending
litigation and regulatory investigations. In addition, there can be no
assurance that other regulatory agencies will not initiate additional
investigations related to the Company's prior healthcare business in the
future, nor can there be any assurance that the resolution of any litigation
or investigations, either individually or in the aggregate, would not have a
Material Adverse Effect on the Company. The Company is party to various other
lawsuits, both as defendant and plaintiff, arising in the normal course of
business. It is the opinion of management that, except as set forth in this
Note 5, the disposition of these other lawsuits will not, individually or in
the aggregate, have a Material Adverse Effect on the Company. If management's
assessment of the Company's liability with respect to these actions is
incorrect, such actions could have a Material Adverse Effect on the Company.
Legal Proceedings Being Defended by the Company
The Company is a plaintiff in an action seeking a declaratory judgment and
damages entitled Ventas Realty, Limited Partnership et al. v. Black Diamond
CLO 1998-1 Ltd., et al., Case No. 99C107076, filed November 22, 1999 in the
Circuit Court of Jefferson County, Kentucky. Two of the three defendants in
that action, Black Diamond International Funding, Ltd. and BDC Finance, LLC
(collectively "Black Diamond"), have asserted counterclaims against the
Company under theories of breach of contract, tortious interference with
contract and abuse of process. These counterclaims allege, among other things,
that the Company wrongfully, and in violation of the terms of the Bank Credit
Agreement, (1) failed to recognize an assignment to Black Diamond of certain
notes issued under the Bank Credit Agreement, (2) failed to issue to Black
Diamond new notes under the Bank Credit Agreement, and (3) executed the Waiver
and Extension Agreement between the Company and its lenders. The counterclaims
further claim that the Company acted tortiously in commencing the action
against the defendants. The counterclaims specifically allege that the
foregoing actions wrongfully interfered with Black Diamond's profitable
ongoing business relations with a third party and seek damages of $11,796,875
(the principal amount of the Company's Bridge Loan under the Bank Credit
Agreement claimed to have been held by Black Diamond), plus interest, costs,
and fees and additional unspecified amounts to be proven at trial; in addition
Black Diamond is seeking a declaration that the Waiver and Extension Agreement
is void and unenforceable.
19
VENTAS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
On March 9, 2000, the defendants filed a motion for summary judgment on the
Company's claims, contending that all such claims were released by the Company
as part of the Amended Credit Agreement, to which defendants Black Diamond CLO
1998-1 Ltd. and Black Diamond International Funding Ltd. (but not defendant
BDC Finance LLC) were signatories. By opinion and order entered May 9, 2000,
the Jefferson Circuit Court denied the defendants' motion for summary
judgment. The Company disputes the material allegations contained in Black
Diamond's counterclaims and the Company intends to pursue its claims and
defend the counterclaims vigorously.
Unasserted Claims--Potential Liabilities Due to Fraudulent Transfer
Considerations, Legal Dividend Requirements and Other Claims
The Company
The 1998 Spin Off, including the simultaneous distribution of the Vencor
common stock to the Ventas stockholders (the "Distribution"), is subject to
review under fraudulent conveyance laws. Under these laws, if a court in a
lawsuit by an unpaid creditor or a representative of creditors (such as a
trustee or debtor-in-possession in bankruptcy of the Company or any of its
respective subsidiaries) were to determine, among other things, that, as of
the 1998 Spin Off, the Company did not receive fair consideration or
reasonably equivalent value for distributing the stock distributed in the 1998
Spin Off and, at the time of the 1998 Spin Off, the Company or any of its
subsidiaries (i) was insolvent or was rendered insolvent, (ii) had
unreasonably small capital with which to carry on its business and all
businesses in which it intended to engage, or (iii) intended to incur, or
believed it would incur, debts beyond its ability to repay such debts as they
would mature, then such court could among other things order the holders of
the stock distributed in the 1998 Spin Off to return the value of the stock
and any dividends paid thereon and/or invalidate, in whole or in part, the
1998 Spin Off as a fraudulent conveyance.
Vencor
Although no claims have been formally asserted, legal counsel for Vencor and
certain of its creditors have raised questions relating to potential
fraudulent conveyance or obligation issues and other claims relating to the
1998 Spin Off. If a court in a lawsuit brought by Vencor or a representative
of Vencor's creditors were to determine, among other things, that, as of the
1998 Spin Off, Vencor did not receive fair consideration or reasonably
equivalent value for the liabilities it assumed (such as the Master Leases or
the Indemnification obligation), and, at the time of the 1998 Spin Off, Vencor
(i) was insolvent or was rendered insolvent, (ii) had unreasonably small
capital with which to carry on its business and all businesses in which it
intended to engage, or (iii) intended to incur, or believed it would incur,
debts beyond its ability to repay such debts as they would mature, then such
court could among other things void some or all of such liabilities. At the
time of the 1998 Spin Off, the Company obtained an opinion from an independent
third party that addressed issues of Vencor's solvency and adequate
capitalization. Nevertheless, if a fraudulent conveyance or obligation claim
or other claim is ultimately asserted by Vencor, its creditors, or others, the
ultimate outcome of any such claim cannot presently be determined. The Company
intends to defend these claims vigorously if they are asserted in a court,
arbitration or mediation proceeding. The Company will require that the
potential claims of Vencor relating to the 1998 Spin Off be released in a
Vencor plan of reorganization. However, there can be no assurance that Vencor
will be successful in achieving a plan of reorganization or that such releases
will be included in a Vencor plan of reorganization which may be confirmed. If
these claims were to prevail, they could have a Material Adverse Effect on the
Company.
Vencor recently filed a motion with the Delaware bankruptcy court seeking
approval of the Ninth DIP Amendment. Under the Ninth DIP Amendment, the
proceeds of the DIP facility may be used to fund, among other things, Vencor's
expenses in any litigation against the Company commencing before September 30,
2000 relating to the Spin Agreements and/or the 1998 Spin Off. In connection
with the ongoing discussions among
20
VENTAS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Vencor, Vencor's creditors and the Company, Vencor has postponed the hearing
of the motion for approval of the Ninth DIP Amendment until August 23, 2000.
See "Note 3--Concentration of Credit Risk and Recent Developments--Recent
Developments Regarding Vencor."
Legal Dividend Requirements
In addition, the 1998 Spin Off is subject to review under state corporate
distribution and dividend statutes. Under Delaware law, a corporation may not
pay a dividend to its stockholders if (i) the net assets of the corporation do
not exceed its capital, unless the amount proposed to be paid as a dividend is
less than the corporation's net profits for the current and/or preceding
fiscal year in which the dividend is to be paid, or (ii) the capital of the
corporation is less than the aggregate amount allocable to all classes of its
preferred stock.
The Company believes that (i) the Company and each of its subsidiaries were
solvent (in accordance with the foregoing definitions) at the time of 1998
Spin Off, were able to repay their debts as they matured following the 1998
Spin Off and had sufficient capital to carry on their respective businesses
and (ii) the 1998 Spin Off was consummated entirely in compliance with
Delaware law. There is no certainty, however, that a court would reach the
same conclusions in determining whether the Company was insolvent at the time
of, or after giving effect to, the 1998 Spin Off or whether lawful funds were
available for the 1998 Spin Off.
The Spin Agreements
The Spin Agreements provide for the allocation, immediately prior to the
1998 Spin Off, of certain debt of the Company. Further, pursuant to the Spin
Agreements, from and after the date of the 1998 Spin Off, each of the Company
and Vencor is responsible for the debts, liabilities and other obligations
related to the businesses which it owns and operates following the
consummation of the 1998 Spin Off. It is possible that a court would disregard
the allocation agreed to among the parties and require the Company or Vencor
to assume responsibility for obligations allocated to the other, particularly
if the other were to refuse or to be unable to pay or perform the subject
allocated obligations.
No adjustments or provisions for liability, if any, resulting from the
matters discussed above have been recorded in the Condensed Consolidated
Financial Statements for the six month period ended June 30, 2000.
21
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Cautionary Statements
Forward Looking Statements
This Form 10-Q includes forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933, as amended (the "Securities Act"),
and Section 21E of the Securities Exchange Act of 1934, as amended (the
"Exchange Act"). All statements regarding the Company's and its subsidiaries'
expected future financial position, results of operations, cash flows, funds
from operations, dividends and dividend plans, financing plans, business
strategy, budgets, projected costs, capital expenditures, competitive
positions, growth opportunities, expected lease income, ability to qualify as
a real estate investment trust, plans and objectives of management for future
operations and statements that include words such as "anticipate," "believe,"
"plan," "estimate," "expect," "intend," "may," "could," and other similar
expressions are forward-looking statements. Such forward-looking statements
are inherently uncertain, and stockholders must recognize that actual results
may differ from the Company's expectations.
Actual future results and trends for the Company may differ materially
depending on a variety of factors discussed in this Form 10-Q and elsewhere in
the Company's filings with the Commission. Factors that may affect the plans
or results of the Company include, without limitation, (a) the treatment of
the Company's claims in the chapter 11 cases of its primary tenant, Vencor and
certain affiliates (collectively, "Vencor"), as well as certain of its other
tenants, (b) the ability and willingness of Vencor to continue to meet and/or
honor its obligations under the Spin Agreements, including, without
limitation, the obligation to indemnify and defend the Company for all
litigation and other claims relating to the health care operations and other
assets and liabilities transferred to Vencor in the 1998 Spin Off, (c) the
ability of Vencor and the Company's other operators to maintain the financial
strength and liquidity necessary to satisfy their respective obligations and
duties under the leases and other agreements with the Company, and their
existing credit agreements, (d) the Company's success in implementing its
business strategy, (e) the nature and extent of future competition, (f) the
extent of future health care reform and regulation, including cost containment
measures and changes in reimbursement policies and procedures, (g) increases
in the cost of borrowing for the Company, (h) the ability of the Company's
operators to deliver high quality care and to attract patients, (i) the
results of litigation affecting the Company, (j) the results of the settlement
discussions Vencor and Ventas have been engaged in with the federal government
seeking to resolve federal civil and administrative claims against them
arising from the participation of Vencor facilities in various federal health
benefit programs, (k) changes in general economic conditions and/or economic
conditions in the markets in which the Company may, from time to time,
compete, (l) the ability of the Company to pay down, refinance, restructure,
and/or extend its indebtedness as it becomes due, and (m) the ability of the
Company to qualify as a real estate investment trust. Many of such factors are
beyond the control of the Company and its management.
Vencor Information
Vencor is subject to the reporting requirements of the Commission and is
required to file with the Commission annual reports containing audited
financial information and quarterly reports containing unaudited financial
information. The information related to Vencor provided in this Form 10-Q is
derived from filings made with the Commission or other publicly available
information, or has been provided by Vencor. The Company has not verified this
information either through an independent investigation or by reviewing
Vencor's public filings. The Company has no reason to believe that such
information is inaccurate in any material respect, but there can be no
assurance that all such information is accurate. The Company is providing this
data for informational purposes only, and the reader of this Form 10-Q is
encouraged to obtain Vencor's publicly available filings from the Commission.
22
Background Information
The Company is a real estate company that owns or leases 45 hospitals
(comprised of two acute care hospitals and 43 long-term acute care hospitals),
218 nursing facilities and eight personal care facilities in 36 states as of
June 30, 2000. The Company conducts substantially all of its business through
a wholly owned operating partnership, Ventas Realty, Limited Partnership
("Ventas Realty"). Although the Company currently expects to qualify as a real
estate investment trust ("REIT") for tax years beginning with the tax year
ended December 31, 1999, it is possible that economic, market, legal, tax or
other considerations may cause the Company to fail or elect not to qualify as
a REIT. The Company operates in one segment which consists of owning and
leasing health care facilities and leasing or subleasing such facilities to
third parties.
Recent Developments Regarding Vencor
On September 13, 1999, Vencor filed for protection under chapter 11 of title
11 of the United States Code (the "Bankruptcy Code"). Under the automatic stay
provisions of the Bankruptcy Code, the Company is currently prevented from
exercising certain rights and remedies under the various agreements
(collectively, the "Spin Agreements") that the Company and Vencor entered into
at the time the Company spun off its health care operations to Vencor (the
"1998 Spin Off"), including four master lease agreements and one facility
lease (individually, a "Master Lease" and, collectively, the "Master Leases"),
and from taking certain enforcement actions against Vencor. The Company,
Vencor and Vencor's major creditors have been engaged in negotiations both
prior and subsequent to Vencor's bankruptcy filing to restructure Vencor's
debt and lease obligations. At the time of Vencor's filing for protection
under the Bankruptcy Code, Vencor's major creditors, Vencor and Ventas agreed
upon the terms of a preliminary, non-binding agreement regarding Vencor's plan
of reorganization (the "September 1999 Agreement in Principle"). See "Note 3--
Concentration of Credit Risk and Recent Developments" to the Condensed
Consolidated Financial Statements.
Vencor and certain of its major creditors have asserted that events arising
after the filing of Vencor's bankruptcy petition have required adjustments to
the Vencor financial projections utilized as a basis for the structure of the
September 1999 Agreement in Principle. Vencor and these major creditors have
advised the Company of their unwillingness to proceed under the terms of the
September 1999 Agreement in Principle. Discussions are ongoing among Vencor,
Vencor's major creditors and Ventas regarding any changes to the terms
contained in the September 1999 Agreement in Principle as well as other
matters relating to Vencor's plan of reorganization. However, a final
agreement has not been reached regarding the proposed amendments to the terms
of the September 1999 Agreement in Principle or other matters relating to the
Vencor plan of reorganization. The Company does not intend to update the
foregoing information until a definitive agreement regarding Vencor's plan of
reorganization has been reached. There can be no assurance that Vencor will be
successful in obtaining the approval of its creditors for a plan of
reorganization, that any such plan will be on terms acceptable to the Company,
Vencor and its creditors, or that any plan of reorganization will not have a
material adverse effect on the business, financial condition, results of
operation and liquidity of the Company, on the Company's ability to service
its indebtedness and on the Company's ability to make distributions to its
stockholders as required to elect or maintain its status as a REIT (a
"Material Adverse Effect"). Under the terms of the Amended and Restated
Credit, Security, Guaranty and Pledge Agreement (the "Amended Credit
Agreement") that the Company and all of the lenders under its prior credit
agreement entered into on January 31, 2000, it is an event of default if
Vencor's plan of reorganization is not effective on or before December 31,
2000. See "Note 4--Bank Credit Facility" to the Condensed Consolidated
Financial Statements.
The period during which Vencor has the exclusive right to file a plan of
reorganization in its bankruptcy proceedings initially expired on January 12,
2000. This period was extended, by orders of the Delaware bankruptcy court,
through March 13, 2000, then May 16, 2000 and then July 18, 2000. On July 27,
2000, and through a prior bridge order, the Delaware bankruptcy court granted
Vencor's motion to extend the period during which Vencor has the exclusive
right to file a plan of reorganization from July 18, 2000 through August 17,
2000.
23
On or about June 14, 2000, Vencor filed a motion with the Delaware
bankruptcy court seeking approval of, among other things, a ninth amendment
(the "Ninth DIP Amendment") to Vencor's debtor in possession financing
agreement (the "DIP facility"). The proposed Ninth DIP Amendment would become
effective if litigation is commenced prior to September 30, 2000 between
Vencor and the Company relating to the Master Leases and/or the 1998 Spin Off
(a "Litigation Event" as defined in the Ninth DIP Amendment). The Ninth DIP
Amendment provides, among other things, that (a) the proceeds of the DIP
facility would be available to fund, among other things, litigation expenses
and (b) the events of default under the DIP facility would be revised to
delete certain events relating to the Company and to permit a Litigation
Event. The Company objected to the relief requested by Vencor. In connection
with the ongoing discussions among Vencor, its creditors and the Company,
Vencor and the Company agreed to an adjournment of the hearing on the motion
and each party agreed that until August 23, 2000 (the adjourned hearing date)
it would (i) continue to perform under the stipulation entered into by Vencor
and the Company at the time of the filing of the Vencor bankruptcy cases (the
"Rent Stipulation"), (ii) not terminate the Rent Stipulation and (iii) not
commence litigation against the other party.
On June 29, 2000, the Delaware bankruptcy court granted Vencor's motion to
extend the expiration date for Vencor's DIP facility (unamended by the Ninth
DIP Amendment) from June 30, 2000 to September 30, 2000.
The Company filed its proofs of claim in the chapter 11 bankruptcy
proceedings of Vencor and certain affiliated debtors on May 17, 2000. The
Company asserted approximately $4.3 billion in the proofs of claim. The proofs
of claim includes rent due at the contract rental rates set forth in the
Master Leases through the initial term of the Master Leases as well as other
liquidated and unliquidated amounts owed to the Company under the Master
Leases and certain other agreements between the Company and Vencor and/or
certain of the other affiliated debtors.
Ventas and Vencor continue to be engaged in advanced settlement discussions
with the federal government seeking to resolve all federal civil and
administrative claims against them arising from the participation of Vencor
facilities in various federal health benefit programs. The majority of these
claims arise from lawsuits filed under the qui tam, or whistleblower,
provision of the Federal Civil False Claims Act, which allows private citizens
to bring suit in the name of the United States. See "Note 5--Litigation" to
the Condensed Consolidated Financial Statements. The United States Department
of Justice, Civil Division, filed two proofs of claim in the chapter 11
bankruptcy proceedings of Vencor and certain affiliated debtors covering these
claims and the qui tam suits. The claims aggregate approximately $1.3 billion,
including treble damages. The Department of Justice has informed the Company
that it is the Department of Justice's position that, if liability exists, the
Company and Vencor will be jointly and severally liable for the portion of
such claims related to the period prior to the date of the 1998 Spin Off. If
the United States, Vencor and the Company reach a settlement, any liability of
the Company and Vencor related to these matters would likely be resolved in
the settlement. There can be no assurance that a settlement will be reached
regarding these claims and suits, or, if reached, that the settlement will be
on terms acceptable to the Company.
During the Company's discussions with Vencor, Vencor asserted various
potential claims against the Company arising out of the 1998 Spin Off. See
"Note 5--Litigation" to the Condensed Consolidated Financial Statements. The
Company intends to defend these claims vigorously if they are asserted in a
court, arbitration or mediation proceeding. If these claims were to prevail,
they could have a Material Adverse Effect on the Company.
24
Recent Developments Regarding Regulatory Matters
In a proposed rule refining the prospective payment system for skilled
nursing facilities ("SNF PPS") published on April 10, 2000, the Health Care
Financing Administration ("HCFA"), which is responsible for implementing the
Medicare and Medicaid provisions of the Balance Budget Refinement Act of 1999
(the "Refinement Act"), announced proposed increases in payment rates for
fiscal year 2001. In addition, the agency detailed proposed refinements to be
made to the SNF PPS case-mix classification system that would more adequately
account for high cost cases. The refinements would not alter the general
structure of the SNF PPS classification system.
In its proposed rule, HCFA developed new categories of service
classifications for payment purposes, and proposed to increase reimbursement
rates for higher cost cases using a new index system based on patient clinical
variables. HCFA is accepting public comments on the proposed refinements, and
a final rule will be issued once the agency has considered all submitted
comments.
The precise economic impact of the proposed rule is under review by the
long-term care industry and by the Company and Vencor.
In the interim, under the mandates of the Refinement Act, two temporary
remedies are in place. First, there is a 20% increase in the per diem
reimbursement for 15 Resource Utilization Groups ("RUGS") falling under the
Extensive Services, Special Care, Clinically Complex, High Rehabilitation and
Medium Rehabilitation categories. This 20% increase will apply only to
services furnished on or after April 1, 2000 and before the later of October
1, 2000 or the implementation of final regulation. Second, there is a 4%
increase in the per diem reimbursement rate for all RUGS in both fiscal years
2001 and 2002.
On July 25, 2000, HCFA announced that it would delay the proposed technical
refinements to the SNF PPS until October 1, 2001, at the earliest. As a
result, the 20% interim increase has been extended from October 1, 2000 until
October 1, 2001. HCFA also confirmed that the 4% increase in per diem
reimbursement rate for all RUGS will be implemented on October 1, 2000 as
scheduled.
Recent Developments Regarding Income Taxes
On February 3, 2000 the Company received a refund (the "Refund") of
approximately $26.6 million from the Internal Revenue Service representing the
refund of income taxes paid by it from 1996 and 1997 and accrued interest
thereon as a result of a carry back of losses reported in the Company's 1998
federal income tax return. Although the Company believes that it is entitled
to the Refund pursuant to the terms of a tax allocation agreement (the "Tax
Allocation Agreement") the Company entered into with Vencor in connection with
the 1998 Spin Off and on other legal grounds, the Internal Revenue Service may
assert a right to all or some portion of the Refund based upon the review of
the federal income tax returns of the Company (which prior to May 1, 1998
operated under the name Vencor). The Internal Revenue Service is currently
reviewing the Company's federal income tax returns for the tax years ending
December 31, 1995 and December 31, 1996. The Internal Revenue Service has
recently advised the Company that it has finalized its adjustments to the
Company's 1995 and 1996 federal income tax returns. The Company believes that
no additional tax will be due as a result of the adjustments to the Company's
1995 and 1996 federal income tax returns. The federal income tax returns of
the Company for subsequent years are also likely to be subject to review by
the Internal Revenue Service. The ultimate outcome of these matters and the
resulting effect on related operating loss carryforwards has not been
determined and, accordingly, no additional provisions for resulting tax
liabilities, if any, have been made in the Condensed Consolidated Financial
Statements of the Company at June 30, 2000. Under the Tax Allocation
Agreement, Vencor has indemnified the Company for certain of these tax
liabilities, should they exist. There can be no assurance that Vencor will
have sufficient assets, income and access to financing to enable it to satisfy
its indemnity obligations under the Tax Allocation Agreement or that Vencor
will continue to honor such indemnification obligation.
The United States Department of the Treasury-Internal Revenue Service has
filed a proof of claim in the Vencor bankruptcy proceeding asserting a claim
against Vencor to the Refund. Vencor, in turn, has asserted that
25
it is entitled to the Refund pursuant to the terms of the Tax Allocation
Agreement and on other legal grounds. Vencor and the Company are also engaged
in a dispute relating to the entitlement to certain other federal, state and
local tax refunds, in addition to the Refund.
The Company, Ventas Realty, and Vencor entered into a stipulation relating
to certain of these federal, state and local tax refunds (including the
Refund) on or about May 23, 2000 (the "Tax Stipulation"). Under the terms of
the Tax Stipulation, which was approved by the Vencor bankruptcy court on May
31, 2000, proceeds of certain federal, state and local tax refunds for tax
years ending prior to or including April 30, 1998, received by either company
on or after September 13, 1999, with interest thereon from the date of deposit
at the lesser of the actual interest earned and 3% per annum, are to be held
by the recipient of such refunds in segregated interest bearing accounts. The
Tax Stipulation contains notice provisions relating to the withdrawal of funds
by either company from the segregated accounts. The Tax Stipulation terminates
automatically on the earlier of (a) the date of termination of the Rent
Stipulation, and (b) the date Vencor provides notice of its intent to
terminate the Rent Stipulation. Both companies reserve all rights and claims
regarding the refund proceeds under the Tax Stipulation.
There can be no assurance as to how the matters related to the tax refunds
or any tax assessed for these same years or other years of the Company will be
resolved or as to whether the Company will ultimately retain all or a portion
of any of the refund proceeds, including the Refund. Accordingly, the refund
proceeds (including the Refund), and interest earned thereon, have been
classified with the other liabilities of the Company at June 30, 2000 in the
Condensed Consolidated Financial Statements.
No net provision for income taxes has been recorded in the Condensed
Consolidated Financial Statements for the six months ended June 30, 2000 due
to the Company's intention to qualify as a REIT, distribute 95% of its 2000
taxable income as a dividend and the existence of net operating losses that
offset the remaining liability for federal corporate income taxes for the 2000
tax year. Although the Company intends to qualify as REIT for the 2000 tax
year and to distribute 95% of its 2000 taxable income, it is possible that
economic, market, legal, tax or other considerations may cause the Company to
fail or elect not to qualify as a REIT for the 2000 tax year and distribute
95% of its 2000 taxable income.
Recent Developments Regarding Liquidity
On January 31, 2000, the Company and all of the lenders under a prior credit
agreement entered into the Amended Credit Agreement, which amended and
restated the $1.2 billion credit agreement (the "Bank Credit Agreement") the
Company entered into at the time of the 1998 Spin Off. See "Note 4--Bank
Credit Facility" to the Condensed Consolidated Financial Statements.
Other Recent Developments
Certain of the Company's other operators have experienced financial
difficulties that have impacted their ability to perform their obligations
under agreements with the Company. See "Note 3--Concentration of Credit Risk
and Recent Developments--Other Recent Developments" to the Condensed
Consolidated Financial Statements.
Results of Operations
The Company intends to qualify as a REIT for federal income tax purposes for
the tax years beginning with the tax year ended December 31, 1999. No net
provision for income taxes has been recorded in the Condensed Consolidated
Financial Statements for the six months ended June 30, 2000 and June 30, 1999
due to the Company's intention to qualify as a REIT, distribute 95% of its
2000 and 1999 taxable income as a dividend and the existence of net operating
losses that offset the remaining 2000 and 1999 liability for federal corporate
income taxes. Although the Company intends to qualify as a REIT for the tax
years beginning with the tax year
26
ended December 31, 1999, it is possible that economic, market, legal, tax or
other considerations may cause the Company to fail or elect not to qualify as
a REIT.
Three months ended June 30, 2000 and June 30, 1999
Rental income for the three months ended June 30, 2000 was $58.2 million, of
which $57.4 million (98.6%) resulted from leases with Vencor, as compared to
rental income for the three months ended June 30, 1999 of $57.2 million, of
which $56.3 million (98.4%) resulted from leases with Vencor. Interest and
other income totaled approximately $1.7 million for the three months ended
June 30, 2000 as compared to approximately $0.7 million for the three months
ended June 30, 1999. The increase in interest and other income was primarily
the result of earnings from investment of larger cash reserves during the
quarter ended June 30, 2000.
Expenses totaled $52.5 million for the quarter ended June 30, 2000, and
included $10.5 million of depreciation expense on real estate assets and $23.8
million of interest on the Amended Credit Agreement and other debt. For the
quarter ended June 30, 1999, expenses totaled $37.7 million and included $10.9
million of depreciation expense on real estate assets and $22.0 million of
interest on the Bank Credit Agreement and other debt. The $14.8 million
increase in expenses was due primarily to (1) a charge to earnings of $12.1
million for unpaid rent from Vencor, which includes the difference between the
minimum monthly base rent that would be due under the current terms of the
Master Leases with Vencor and the minimum monthly base rent that would be due
under leases based on the Rent Stipulation, (2) increased interest expense,
(3) increased general and administrative expenses and (4) increased
professional fees and expenses.
Interest expense of $23.8 million for the quarter ended June 30, 2000
increased by $1.8 million over interest expense of $22.0 million for the
quarter ended June 30, 1999. The increase in interest expense was due
primarily to the higher interest rates under the Amended Credit Agreement. The
increase in interest expense was offset in part by the reduced principal
amount and reduced amortization of deferred financing fees. For the three
months ended June 30, 2000, amortization of deferred financing fees was $0.6
million compared to $1.2 million for the three months ended June 30, 1999. See
"Note 4--Bank Credit Facility" to the Condensed Consolidated Financial
Statements.
General and administrative expenses totaled $2.5 million for the quarter
ended June 30, 2000, as compared to $1.6 million for the quarter ended June
30, 1999. The increase consists primarily of state, local and other taxes,
agent fees under the Amended Credit Agreement and employee compensation
expenses.
Professional fees totaled approximately $3.3 million for the three months
ended June 30, 2000, as compared to $2.9 million for the three months ended
June 30, 1999, and included approximately $2.7 million in unusual professional
fees (legal and financial advisory) incurred as a result of ongoing
negotiations with Vencor and in connection with the Company's business
strategy alternatives as discussed above in "Recent Developments Regarding
Vencor" and "Recent Developments Regarding Liquidity." Substantial legal and
advisory expenses will continue to be incurred by the Company until a
resolution of the Vencor matter is reached, although there can be no assurance
that such a resolution will be reached.
Net income for the three months ended June 30, 2000 was $7.5 million, or
$.11 per diluted share. Net income for the three months ended June 30, 1999
was $20.2 million, or $0.30 per diluted share.
Six months ended June 30, 2000 and June 30, 1999
Rental income for the six months ended June 30, 2000 was $115.7 million, of
which $114.1 million (98.6%) resulted from leases with Vencor, as compared to
rental income for the six months ended June 30, 1999 of $113.6 million, of
which $111.8 million (98.4%) resulted from leases with Vencor. Interest and
other income totaled approximately $3.4 million for the six months ended June
30, 2000 as compared to approximately $0.9 million for the six months ended
June 30, 1999. The increase in interest and other income was primarily the
result of earnings from investment of larger cash reserves during the six
months ended June 30, 2000.
27
Expenses totaled $104.6 million for the six months ended June 30, 2000, and
included $21.2 million of depreciation expense on real estate assets and $47.6
million of interest on the Amended Credit Agreement and other debt. For the
six months ended June 30, 1999, expenses totaled $74.0 million and included
$21.9 million of depreciation expense on real estate assets and $42.9 million
of interest on the Bank Credit Agreement and other debt. The $30.6 million
increase in expenses was due primarily to (1) a charge to earnings of $23.4
million for unpaid rent from Vencor, which includes the difference between the
minimum monthly base rent that would be due under the current terms of the
Master Leases with Vencor and the minimum monthly base rent that would be due
under leases based on the Rent Stipulation, (2) increased interest expense,
(3) increased professional fees and (4) increased general and administrative
expenses.
Interest expense of $47.6 million for the six months ended June 30, 2000
increased by $4.7 million over interest expense of $42.9 million for the six
months ended June 30, 1999. The increase in interest expense was due primarily
to the higher interest rates under the Amended Credit Agreement. The increase
in interest expense was offset in part by the reduced principal amount ($923.4
million and $976.0 million as of June 30, 2000 and 1999, respectively) and
reduced amortization of deferred financing fees. For the six months ended June
30, 2000, amortization of deferred financing fees was $2.0 million compared to
$2.4 million for the six months ended June 30, 1999. See "Note 4--Bank Credit
Facility" to the Condensed Consolidated Financial Statements.
Professional fees totaled approximately $6.6 million for the six months
ended June 30, 2000, as compared to $3.9 million for the six months ended June
30, 1999, and included approximately $5.4 million in unusual professional fees
(legal and financial advisory) incurred as a result of ongoing negotiations
with Vencor and in connection with the Company's business strategy
alternatives as discussed above in "Recent Developments Regarding Vencor" and
"Recent Developments Regarding Liquidity." Substantial legal and advisory
expenses will continue to be incurred by the Company until a resolution of the
Vencor matter is reached, although there can be no assurance that such a
resolution will be reached.
General and administrative expenses totaled $4.8 million for the six months
ended June 30, 2000, as compared to $3.2 million for the quarter ended June
30, 1999. The increase consists primarily of state, local and other taxes,
agent fees under the Amended Credit Agreement and employee compensation
expenses.
The Company also incurred $0.4 million and $1.3 million in non-recurring
employee severance costs in the first quarter of 2000 and the first quarter of
1999, respectively.
During the first quarter of 2000, the Company incurred an extraordinary loss
of $4.2 million relating to the write-off of the unamortized deferred
financing costs associated with the Bank Credit Agreement. See "Note 4--
Amended Credit Agreement" to the Condensed Consolidated Financial Statements.
After an extraordinary loss of $4.2 million, or $0.06 per diluted share, as
discussed above, net income for the six months ended June 30, 2000 was $10.2
million, or $.15 per diluted share. Net income for the six months ended June
30, 1999 was $40.5 million, or $0.60 per diluted share.
Funds from Operations
Funds from operations ("FFO") for the three months ended and the six months
ended June 30, 2000 totaled $18.0 million and $35.6 million, or $0.26 and
$0.52 per diluted share, respectively. FFO for the comparable period in 1999
totaled $31.1 million and $62.4 million, or $0.46 and $0.92 per diluted share,
respectively. In calculating net income and FFO for the three months and six
months ended June 30, 2000 and 1999 the Company included in its expenses (and
thus reduced net income and FFO) the aforementioned non-recurring employee
severance costs and unusual legal and financial advisory expenses. See "Recent
Developments Regarding
28
Liquidity." FFO for the three months and six months ended June 30, 2000 and
1999 is summarized in the following table:
Three Months Six Months
Ended Ended
--------------- ---------------
June June June June
30, 30, 30, 30,
2000 1999 2000 1999
------- ------- ------- -------
Net income................................. $ 7,512 $20,166 $10,245 $40,504
Extraordinary loss on extinguishment of
debt...................................... -- -- 4,207 --
------- ------- ------- -------
Income before extraordinary loss.......... 7,512 20,166 14,452 40,504
Add: depreciation on real estate
investments............................... 10,526 10,944 21,160 21,888
------- ------- ------- -------
Funds from operations..................... $18,038 $31,110 $35,612 $62,392
======= ======= ======= =======
FFO per diluted share...................... $ 0.26 $ 0.46 $ 0.52 $ 0.92
======= ======= ======= =======
The Company considers FFO an appropriate measure of performance of an equity
REIT, and the Company uses the National Association of Real Estate Investment
Trust's, or NAREIT's, definition of FFO. NAREIT defines FFO as net income
(computed in accordance with accounting principles generally accepted in the
United States ("GAAP")), excluding gains (or losses) from debt restructuring
and sales of property, plus depreciation for real estate assets, and after
adjustments for unconsolidated partnerships and joint ventures. FFO presented
herein is not necessarily comparable to FFO presented by other real estate
companies due to the fact that not all real estate companies use the same
definition. FFO should not be considered as an alternative to net income
(determined in accordance with GAAP) as an indicator of the Company's
financial performance or as an alternative to cash flow from operating
activities (determined in accordance with GAAP) as a measure of the Company's
liquidity, nor is FFO necessarily indicative of sufficient cash flow to fund
all of the Company's needs. The Company believes that in order to facilitate a
clear understanding of the consolidated historical operating results of the
Company, FFO should be examined in conjunction with net income as presented in
the Condensed Consolidated Financial Statements and data included elsewhere in
this Form 10-Q.
Liquidity and Capital Resources
Cash provided by operations totaled $39.5 million for the six months ended
June 30, 2000, which excludes restricted cash of $27.8 million. The $27.8
million of restricted cash represents tax refund proceeds that are governed by
the terms of the Tax Stipulation. For the six months ended June 30, 1999 cash
provided by operations totaled $51.7 million. Net cash used in financing
activities for the six months ended June 30, 2000 totaled $63.5 million and
included a $50.9 million payment of principal on the Amended Credit Agreement
and the Bank Credit Agreement. Net cash provided by financing activities for
the six months ended June 30, 1999 totaled $18.4 million after payment of a
cash dividend on its common stock of $26.5 million, or $0.39 per common share
to stockholders of record as of January 29, 1999.
The Company had cash and cash equivalents of $115.6 million (excluding
restricted cash of $27.8 million) and outstanding debt aggregated $923.4
million at June 30, 2000.
The Company leases substantially all its properties to Vencor and,
therefore, Vencor is the primary source of the Company's revenues. Vencor
filed for protection under Chapter 11 of the Bankruptcy Code on September 13,
1999. Vencor's financial condition and ability to satisfy its rent obligations
under the Master Leases and its obligations under the other Spin Agreements
will impact the Company's revenues and could have a Material Adverse Effect on
the Company. See "Note 3--Concentration of Credit Risk and Recent
Developments" to the Condensed Consolidated Financial Statements.
The Company announced on each of May 14, 1999, July 21, 1999, and November
1, 1999, that it would not declare or pay a dividend in the second, third or
fourth quarter, respectively, of the tax year ending December 31, 1999 (the
"1999 Tax Year"). The Company expects to pay, in 2000, a dividend in respect
of its 1999 Tax Year equal to 95% of its taxable income, less dividends paid
in February 1999 of approximately $26.5 million.
29
The Company announced on February 29, 2000 that it would not declare or pay a
dividend in the first quarter of the tax year ending December 31, 2000 (the
"2000 Tax Year"). The Company did not pay a dividend in the second quarter of
the 2000 Tax Year. The Company expects to pay a dividend in respect of its
2000 Tax Year equal to 95% of its taxable income. The dividends in respect of
the 1999 and 2000 Tax Years may be satisfied by a combination of cash and a
distribution of Vencor equity, which the Company may receive as part of the
Vencor reorganization, if it occurs, or other property or securities.
The Company intends to qualify as a REIT for the 1999 and 2000 Tax Years.
Such qualification requires the Company to declare a distribution of 95% of
its taxable income not later than (a) September 15, 2000 for the 1999 Tax
Year, and (b) September 15, 2001 for the 2000 Tax Year and pay such dividend
not later than December 31, 2000 for the 1999 Tax Year and December 31, 2001
for the 2000 Tax Year, or, if earlier, the first regular dividend for the then
current year. While such distributions are not required to be made quarterly,
if they are not made by January 31, 2000 for the 1999 Tax Year and January 31,
2001 for the 2000 Tax Year, the Company is required to pay a 4% non-deductible
excise tax on the portion of the distribution not paid by January 31 of the
year following the year in respect of which the dividend is paid.
It is important to note for purposes of the required REIT distributions that
the Company's taxable income may vary significantly from historical results
and from current income determined in accordance with GAAP depending on the
resolution of a variety of factors. Under certain circumstances, the Company
may be required to make distributions in excess of FFO in order to meet such
distribution requirements. In the event that timing differences or cash needs
occur, the Company may find it necessary to borrow funds or to issue equity
securities (there being no assurance that it will be able to do so) or, if
possible, to pay taxable stock dividends, distribute other property or
securities or engage in a transaction intended to enable it to meet the REIT
distribution requirements. The Company's ability to engage in certain of these
transactions is restricted by the terms of the Amended Credit Agreement. Any
such transaction would likely require the consent of the "Required Lenders
under the Amended Credit Agreement, and there can be no assurance that such
consent would be obtained. In addition, the failure of Vencor to make rental
payments under the Master Leases would impair materially the ability of the
Company to make distributions. Consequently, there can be no assurance that
the Company will be able to make distributions at the required distribution
rate or any other rate.
Although the Company intends to qualify as a REIT for the 1999 Tax Year and
the 2000 Tax Year, it is possible that economic, market, legal, tax or other
considerations may cause the Company to fail or elect not to qualify as a REIT
in either or both tax years. If the Company were to fail or elect not to
qualify as a REIT in either or both tax years, the Company would be subject to
35% federal income tax and to applicable state and local income taxes for the
affected years. Such tax obligations would have a Material Adverse Effect on
the Company.
The Company is required to make a $50.0 million payment on the $200 million
Tranche A Loan under the Amended Credit Agreement within 30 days after
Vencor's plan of reorganization becomes effective. The Company currently
believes that this $50.0 million payment will be funded by cash on hand and
cash flows from operations.
Capital expenditures to maintain and improve the leased properties generally
will be incurred by the tenants under the leases with the Company.
Accordingly, the Company does not believe that it will incur any major
expenditures in connection with the leased properties. After the terms of the
leases expire, or in the event that the tenants are unable to meet their
obligations under the leases, the Company anticipates that any expenditures
for which it may become responsible to maintain the leased properties will be
funded by cash flows from operations and, in the case of major expenditures,
through additional borrowings or issuance of equity. To the extent that
unanticipated expenditures or significant borrowings are required, the
Company's liquidity may be affected adversely.
The Company does not currently intend to acquire any additional properties.
In addition, the Company's access to debt and equity capital is limited under
the terms of the Amended Credit Agreement and current market conditions.
30
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The following discussion of the Company's exposure to various market risks
contains "forward looking statements" that involve risks and uncertainties.
These projected results have been prepared utilizing certain assumptions
considered reasonable in light of information currently available to the
Company. Nevertheless, because of the inherent unpredictability of interest
rates as well as other factors, actual results could differ materially from
those projected in such forward looking information.
The Company earns revenue by leasing its assets under leases that primarily
are long-term triple net leases in which the rental rate is generally fixed
with annual escalators, subject to certain limitations. The Company's debt
obligations are floating rate obligations whose interest rate and related
monthly interest payments vary with the movement in LIBOR. See "Note 4--Bank
Credit Facility" to the Condensed Consolidated Financial Statements. The
general fixed nature of the Company's assets and the variable nature of the
Company's debt obligations creates interest rate risk. If interest rates were
to rise significantly, the Company's lease revenue might not be sufficient to
meet its debt obligations. In order to mitigate this risk, at or about the
date the Company spun off its health care operations in connection with the
1998 Spin Off, it also entered into an interest rate swap to effectively
convert most of its floating rate debt obligations to fixed rate debt
obligations. Interest rate swaps generally involve the exchange of fixed and
floating rate interest payments on an underlying notional amount. As of June
30, 2000, the Company had an $875 million notional amount interest rate swap
outstanding with a highly rated counterparty in which the Company pays a fixed
rate of 5.985% and receives LIBOR from the counterparty. The notional amount
of the interest rate swap agreement is scheduled to decline as follows:
Notional Amount Date
--------------- -----------------
$850,000,000............................................... December 31, 2000
800,000,000............................................... December 31, 2001
775,000,000............................................... December 31, 2002
-- ................................................ June 30, 2003
When interest rates rise the interest rate swap agreement increases in fair
value to the Company and when interest rates fall the interest rate swap
agreement declines in value to the Company. As of June 30, 2000, interest
rates had risen and the interest rate swap agreement was in an unrealized gain
position to the Company of approximately $23.9 million. Generally, interest
rate swap agreements with longer terms evidence greater dollar values of
variation when interest rates change. To highlight the sensitivity of the
interest rate swap agreement to changes in interest rates, the following
summary shows the effects of a hypothetical instantaneous change of 100 basis
points (BPS) in interest rates as of June 30, 2000:
Notional Amount................................................ $875,000,000
Fair Value to the Company...................................... $ 23,854,164
Fair Value to the Company Reflecting Change in Interest Rates
-100 BPS..................................................... $ 4,251,353
+100 BPS..................................................... $ 42,782,527
The terms of this interest rate swap agreement require that the Company make
a cash payment or otherwise post collateral to the counterparty if the fair
value loss to the Company exceed certain levels (the "threshold levels"). See
"Note 4--Bank Credit Agreement" to the Condensed Consolidated Financial
Statements. The threshold levels vary based on the relationship between the
Company's debt obligations and the tangible fair value of its assets as
defined in the Bank Credit Agreement. As of June 30, 2000, the threshold level
under the interest rate swap agreement was a fair value unrealized loss of $35
million and the interest rate swap agreement was in an unrealized gain
position to the Company of $23.9 million; therefore, no collateral was
required to be posted. Under the interest rate swap agreement, if collateral
must be posted, the principal amount of such collateral must equal the
difference between the fair value unrealized loss of the interest rate swap
agreement at the time of such determination and the threshold amount. On
January 31, 2000, the Company entered into a letter agreement with the
counterparty to the swap agreement for the purpose of amending the swap
agreement. The letter agreement provides that, for purposes of certain
calculations set forth in the swap agreement, the parties agree to continue to
use certain defined terms set forth in the Bank Credit Agreement.
31
PART II--OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Except as set forth in "Note 5--Litigation" to the Condensed Consolidated
Financial Statements as of June 30, 2000 (which is incorporated by reference
into this Item 1), there has been no material change in the status of the
litigation reported in the Company's Annual Report on Form 10-K for the year
ended December 31, 1999 and the Company's Quarterly Report on Form 10-Q for
the quarter ending March 31, 2000.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
The Company had a $275.0 million Bridge Loan as part of its Bank Credit
Agreement, which was originally scheduled to mature on October 30, 1999. On
October 29, 1999, the Company entered into a Waiver and Extension Agreement
with over 95 percent of the lenders under the Bank Credit Agreement providing
for a four month extension of the Bridge Loan. Two lenders that did not
execute the Waiver and Extension Agreement but that did execute the Amended
Credit Agreement have asserted a right to seek current repayment of their
portion of the $1.2 billion under the Bank Credit Agreement. On January 31,
2000, the Company and all of its lenders entered into the Amended Credit
Agreement, which amended and restated the $1.2 billion Bank Credit Agreement,
including the Bridge Loan. See "Note 3--Concentration of Credit Risk and
Recent Developments," "Note 4--Bank Credit Facility," and "Note 5--Litigation"
to the Condensed Consolidated Financial Statements.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
(a) The Annual Meeting of the stockholders of the Company was held on May
23, 2000.
(b) Proxies for the Annual Meeting were solicited pursuant to Regulation 14A
under the Exchange Act. There were no solicitations in opposition to
management's nominees and other proposals listed in the Company's proxy
statement. All nominees listed in the proxy statement were elected and all
proposals listed in the proxy statement were approved.
(c) The election of six directors for the ensuing year was voted upon at the
Annual Meeting. The number of votes cast for and withheld for each nominee for
director is set forth below:
Nominee: For: Withheld:
-------- ---------- ---------
Walter F. Beran......................................... 53,134,201 4,262,598
Debra A. Cafaro......................................... 53,947,924 442,434
Douglas Crocker II...................................... 49,894,978 4,495,380
Ronald G. Geary......................................... 53,934,471 455,887
W. Bruce Lunsford....................................... 50,101,804 4,288,554
R. Gene Smith........................................... 50,031,925 4,358,433
(d) A proposal to adopt the 2000 Stock Option Plan for Directors was voted
upon at the Annual Meeting. The number of votes that were cast for and against
this proposal, the number of abstentions and the number of broker non-votes
are set forth below:
For: Against: Abstain: Broker Non-Votes:
---- --------- --------- -----------------
50,565,848 2,534,582 2,841,954 6
(e) A proposal to adopt the 2000 Incentive Compensation Plan was voted upon
at the Annual Meeting. The number of votes that were cast for and against this
proposal, the number of abstentions and the number of broker non-votes are set
forth below:
For: Against: Abstain: Broker Non-Votes:
---- --------- --------- -----------------
49,154,003 4,149,051 2,639,331 5
32
(f) A proposal to ratify the selection of Ernst & Young LLP as the Company's
independent auditors for fiscal year 2000 was voted upon at the Annual
Meeting. The number of votes that were cast for and against this proposal, the
number of abstentions and the number of broker non-votes are set forth below:
For: Against: Abstain: Broker Non-Votes:
---- -------- -------- -----------------
55,707,365 140,497 94,528 0
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) EXHIBITS:
4 Sixth Amendment to Rights Agreement, dated as of May 22, 2000, between
the Company and National City Bank, as Rights Agent (incorporated
herein by reference to Exhibit 1 to the Company's Registration
Statement on Form 8-A/A).
10.1 Employment Agreement dated May 6, 2000 by and between the Company and
Brian Wood.
10.2 Stipulation and Order dated May 23, 2000 between the Company and
Vencor.
10.3 Ventas, Inc. 2000 Stock Option Plan for Directors (incorporated herein
by reference to Exhibit A to the Company's definitive proxy statement
on Schedule 14A dated April 18, 2000).
10.4 Ventas, Inc. 2000 Incentive Compensation Plan (incorporated herein by
reference to Exhibit B to the Company's definitive proxy statement on
Schedule 14A dated April 18, 2000).
27 Financial Data Schedule.
(b) REPORTS ON FORM 8-K:
On May 19, 2000, the Company filed a Current Report on Form 8-K announcing
that it had filed its proofs of claim in the Vencor bankruptcy proceeding.
On May 25, 2000, the Company filed a Current Report on Form 8-K announcing
that at the Company's Annual Meeting of Shareholders held on May 24, 2000, all
of the Company's proposals were approved including the reelection of the
Company's six directors. The Company also announced that it had entered into a
tax stipulation agreement with Vencor providing for, among other things, the
proceeds of certain federal, state and local tax refunds received by either
company on or after September 13, 1999 to be held by the recipient of such
refunds in segregated interest bearing accounts.
33
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.
Date: August 11, 2000
Ventas, Inc.
/s/ Debra A. Cafaro
By: _________________________________
Debra A. Cafaro
Chief Executive Officer and
President
/s/ Mary L. Smith
By: _________________________________
Mary L. Smith
Chief Accounting Officer
34