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 1934
For the quarterly period ended September 30, 1998.
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
Commission file number 1-14012
EMERITUS CORPORATION
(Exact name of registrant as specified in its charter)
FOR THE QUARTER ENDED SEPTEMBER 30, 1998
WASHINGTON 91-1605464
(State or other jurisdiction of incorporation or organization)
(I.R.S Employer Identification No.)
3131 Elliott Avenue, Suite 500
Seattle, WA 98121
(Address of principal executive offices)
(206) 298-2909
(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
As of November 5, 1998, there were 10,484,050 shares of the
Registrant's Common Stock, par value $.0001, outstanding.
EMERITUS CORPORATION
Index
Part I. Financial Information
Item 1. Financial Statements: Page No.
Condensed Consolidated Balance Sheets as of
December 31, 1997 and September 30, 1998..... 1
Condensed Consolidated Statements of
Operations for the Three Months and Nine
Months Ended September 30, 1997 and 1998..... 2
Condensed Consolidated Statements of
Comprehensive Operations for the Three and
Nine Months ended September 30, 1997 and
1998......................................... 3
Condensed Consolidated Statements of Cash
Flows for the Nine Months ended September 30,
1997 and 1998................................ 4
Notes to Condensed Consolidated Financial
Statements................................... 5
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of
Operations................................... 7
Item 3. Quantitative and Qualitative Disclosures About
Market Risk.................................. 13
Part II. Other Information
Item 6. Exhibits..................................... 14
Signature.................................... 15
Note: Items 1, 2, 3, 4, and 5 of Part II are omitted
because they are not applicable
EMERITUS CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
December 31, 1997 and September 30, 1998
(In thousands, except share data)
ASSETS
September 30,
December 31, 1998
1997 (unaudited)
Current Assets:
Cash and cash equivalent....................... $ 17,537 $ 9,550
Short-term investments......................... 17,235 5,225
Trade accounts receivable, net................. 2,338 2,645
Prepaid expenses and other current assets...... 5,481 9,846
Property held for sale......................... 8,202 8,944
Total current assets................... 50,793 36,210
Property and equipment, net...................... 145,831 125,859
Property held for development.................... 2,754 3,047
Notes receivable from and investments in 6,422 10,243
affiliates.......................................
Restricted deposits, less current portion........ 10,273 10,212
Other assets, net................................ 12,500 12,439
Total assets........................... $ 228,573 $ 198,010
LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT)
Current Liabilities:
Short-term borrowings......................... $ - $ 5,000
Current portion of long-term debt............. 12,815 10,966
Margin loan on short-term investments......... 9,165 2,997
Trade accounts payable........................ 2,541 5,869
Accrued employee compensation and benefits.... 3,713 3,656
Other current liabilities..................... 10,485 10,194
Total current liabilities............. 38,719 38,682
Deferred rent................................... 8,474 9,601
Deferred gain on sale of communities............ 12,314 12,599
Deferred income................................. 114 243
Convertible debentures.......................... 32,000 32,000
Long-term debt, less current portion............ 108,117 117,763
Security deposits and other long-term
liabilities..................................... 1,452 443
Total liabilities..................... 201,190 211,331
Minority interests.............................. 1,176 147
Redeemable preferred stock...................... 25,000 25,000
Shareholders' Equity (Deficit):
Common stock, $.0001 par value. Authorized
40,000,000 shares; issued and outstanding
10,974,650 and 10,484,050 shares at December
31, 1997 and September 30, 1998, respectively... 1 1
Additional paid-in capital..................... 44,449 38,995
Accumulated other comprehensive income (loss).. 4,011 (3,684)
Accumulated deficit............................ (47,254) (73,780)
Total shareholders' equity (deficit).. 1,207 (38,468)
Total liabilities and shareholders'
equity (deficit)...................... $228,573 $198,010
See accompanying Notes to Condensed Consolidated Financial
Statements and Management's Discussion and Analysis of Financial
Condition and Results of Operations.
1
EMERITUS CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
Three Months and Nine Months Ended September 30, 1997 and 1998
(unaudited)
(In thousands, except per share data)
Three months ended Nine months ended
September 30, September 30,
1997 1998 1997 1998
Revenues:
Community revenue........ $ 31,149 $ 38,124 $ 83,895 $ 108,150
Other service fees....... 344 621 1,013 2,101
Management fees.......... 32 236 60 546
Total operating
revenues........ 31,525 38,981 84,968 110,797
Expenses:
Community operations..... 22,605 28,475 58,890 81,523
General and
administrative.......... 2,905 3,408 7,724 9,886
Depreciation and
amortization............ 1,891 1,437 4,458 4,335
Rent..................... 9,486 10,560 24,717 31,294
Total operating
expenses........ 36,887 43,880 95,789 127,038
Loss from
operations...... (5,362) (4,899) (10,821) (16,241)
Other income (expense):
Interest expense, net.... (2,161) (3,171) (4,616) (9,670)
Other, net............... 114 939 600 3,155
Net other
expense......... (2,047) (2,232) (4,016) (6,515)
Loss before extraordinary
item and cumulative
effect of change in
accounting principle...... $ (7,409) $ (7,131) $ (14,837) $ (22,756)
Extraordinary item......... - - - (767)
Cumulative effect of change
in accounting principle... - - - (1,320)
Net loss......... $ (7,409) $ (7,131) $ (14,837) $ (24,843)
Preferred stock
dividends................. - (567) - (1,683)
Net loss to
common
shareholders.... $ (7,409) $ (7,698) $ (14,837) $ (26,526)
Loss per common share -
basic and diluted:
Loss before extraordinary
item and cumulative
effect of change in
accounting principle...... $ (0.67) $ (0.73) $ (1.35) $ (2.32)
Extraordinary Item......... - - - (0.07)
Cumulative effect of change
in accounting principle... - - - (0.13)
Loss per common
share...................... $ (0.67) $ (0.73) $ (1.35) $ (2.52)
Weighted average number of
common shares outstanding
- basic and diluted...... 11,000 10,484 11,000 10,533
See accompanying Notes to Condensed Consolidated Financial
Statements and Management's Discussion and Analysis of Financial
Condition and Results of Operations.
2
EMERITUS CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE OPERATIONS
Three Months and Nine Months Ended September 30, 1997 and 1998
(unaudited)
(In thousands)
Three months ended Nine months ended
September 30, September 30,
1997 1998 1997 1998
Net loss................... $ (7,409) $ (7,131) $ (14,837) $ (24,843)
Other comprehensive
income (loss):
Foreign currency
translation
adjustments.......... 1 (8) 1 (14)
Unrealized gains (losses)
on investment securities:
Unrealized holding
gains (losses)
arising during the
period............... 792 (3,827) 876 (7,222)
Reclassification
adjustment for gains
included in net
loss................. - - - (459)
Total other
comprehensive
income (loss)...... 793 (3,835) 877 (7,695)
Comprehensive loss......... $ (6,616) $(10,966) $ (13,960) $ (32,538)
See accompanying Notes to Condensed Consolidated Financial
Statements and Management's Discussion and Analysis of Financial
Condition and Results of Operations.
3
EMERITUS CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
Nine Months Ended September 30, 1997 and 1998
(unaudited)
(In thousands)
1997 1998
Net cash used in operating activities (including
changes in all operating assets and liabilities)....... $ (5,492) $(22,309)
Cash flows from investing activities:
Acquisition of property and equipment................ (15,420) (11,519)
Acquisition of property held for development......... (20,841) (1,645)
Proceeds from sale of property and equipment......... 28,675 10,427
Purchase of investment securities.................... (2,161) (558)
Sale of investment securities........................ 3,207 5,421
Construction advances - leased communities........... 18,930 18,403
Construction expenditures - leased communities....... (26,861) (16,631)
Advances to affiliates............................... (1,275) (2,244)
Acquisition of interest in affiliates................ (2,412) (6,481)
Proceeds from sale of interest in affiliate.......... - 4,092
Net cash used in investing activities........ (18,158) (735)
Cash flows from financing activities:
Increase in restricted deposits...................... (2,207) (747)
Proceeds from short-term borrowings.................. 5,000 5,291
Repayment of short-term borrowings................... - (6,459)
Debt issue and other financing costs................. (1,106) (2,243)
Proceeds from long-term borrowings................... 38,161 91,232
Repayment of long-term borrowings.................... (27,325) (66,609)
Repurchase of common stock........................... - (5,406)
Other................................................ - 12
Net cash provided by financing activities.... 12,523 15,071
Effect of exchange rate changes on
cash........................................ - (14)
Net decrease in cash......................... (11,127) (7,987)
Cash and cash equivalents at the beginning of
the period............................................ 23,039 17,537
Cash and cash equivalents at the end of the period..... $ 11,912 $ 9,550
See accompanying Notes to Condensed Consolidated Financial
Statements and Management's Discussion and Analysis of Financial
Condition and Results of Operations.
4
EMERITUS CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Basis of Presentation
The unaudited interim financial information furnished herein,
in the opinion of management, reflects all adjustments which
are necessary to state fairly the consolidated financial
position, results of operations, and cash flows of Emeritus
Corporation, (the "Company") as of September 30, 1998 and for
the nine months ended September 30, 1997 and 1998. The
Company presumes that users of the interim financial
information herein have read or have access to the Company's
1997 audited consolidated financial statements and
Management's Discussion and Analysis of Financial Condition
and Results of Operations contained in the 1997 Form 10-K
filed March 30, 1998 by the Company under the Securities Act
of 1934. Accordingly, footnotes and other disclosures which
would substantially duplicate the disclosures in Form 10-K
have been omitted. The financial information herein is not
necessarily representative of a full year's operations.
Certain reclassifications of the 1997 amounts have been made
to conform to the 1998 presentation.
Business Expansion
During the nine months ended September 30, 1997, the Company
completed acquisitions of four assisted-living and independent-
living communities. These acquisitions have been accounted
for as purchases and, accordingly, the assets and liabilities
of the acquired communities were recorded at their estimated
fair values at the dates of acquisition. No goodwill or
identifiable intangibles were recorded with respect to any of
the acquisitions.
During the nine months ended September 30, 1997, the Company
acquired three communities through lease financing
transactions with a Real Estate Investment Trust (REIT),
pursuant to which the REIT leased such communities to the
Company under operating leases.
The results of operations of the acquired communities have
been included in the Company's consolidated financial
statements from the acquisition date or lease commencement
date, as applicable. Summary information concerning the
acquisitions is as follows:
Means Acquisition Purchase Price/
Communities Added of Addition Date Annual Rent Units
(in thousands)
Villa Del Rey...... Acquisition March 1997 $ 4,252 84
La Casa Grande..... Acquisition May 1997 12,900 200
River Oaks......... Acquisition May 1997 11,200 155
Stanford Center.... Acquisition May 1997 8,900 118
Amber Oaks......... Lease April 1997 894 163
Palisades.......... Lease April 1997 800 158
Redwood Springs.... Lease April 1997 479 90
Total............. 968
The following summary, prepared on a pro forma basis, combines
the results of operations of the acquired businesses with
those of the Company as if the above additions had been
consummated as of January 1, 1997, after including the impact
of certain adjustments such as depreciation on assets and
interest expense on acquisition financing.
5
EMERITUS CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -
(Continued)
(Unaudited)
Three months ended Nine months ended
September 30, 1997 September 30, 1997
(in thousands, except per share data)
Revenue.............. $ 31,525 $ 89,899
Net loss............. (7,418) (13,777)
Pro forma net loss... $ (0.67) $ (1.25)
The unaudited pro forma results are not necessarily indicative
of what actually might have occurred if the acquisitions had
been completed as of the beginning of the periods presented.
They should not be used as a basis for projection of future
results of operations.
Property Held For Sale
The Company currently has three communities available for
sale.
New Accounting Standards
In April 1997, the Accounting Standards Executive Committee
issued Statement of Position 98-5 (SOP 98-5), Reporting on the
Costs of Start-Up Activities. This statement provides
guidance on financial reporting for start-up costs and
organization costs and requires such costs to be expensed as
incurred. The Company elected early adoption of this
statement effective January 1, 1998 and has reported a charge
of $1,320,000 for the cumulative effect of this change in
accounting principle. The adoption of SOP 98-5 on January 1,
1998 resulted in the Company recording approximately $721,000
in start-up costs during the nine months ended September 30,
1998.
In June 1997, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards 130 (SFAS 130),
Reporting Comprehensive Income. This statement establishes
standards for reporting and display of comprehensive income
and its components in a full set of general-purpose financial
statements. The purpose of reporting comprehensive income is
to report a measure of all changes in equity of an enterprise
that result from recognized transactions and other economic
events of the period other than transactions with owners in
their capacity as owners. The Company adopted SFAS 130
effective January 1, 1998.
Loss Per Share
Loss per common share on a dilutive basis has been calculated
without consideration of 1,970,495 and 3,847,427 common shares
on September 30, 1997 and 1998, respectively, related to
outstanding options, warrants, convertible debentures and
convertible preferred stock because the inclusion of such
common stock equivalents would be anti-dilutive.
Interests in Affiliates
In September 1998, the Company sold its interest in a venture
developing Alzheimer's buildings to a related party for
approximately $4.2 million which is equal to the cost of the
Company's investment in the venture.
During the three months ended September 30, 1998, the Company
purchased 2,450,000 shares of Alert Care Corporation ("Alert
Care") for $1.7 million, bringing its total investment to $6.4
million or 31.3% at September 30, 1998. The Company is
accounting for this investment under the cost method.
6
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Overview
The Company is a nationally integrated senior housing services
organization focused on operating residential-style assisted-
living communities. The Company is one of the largest and most
experienced providers of assisted-living communities in the
United States. These communities provide a residential housing
alternative for senior citizens who need help with the activities
of daily living, with an emphasis on assisted-living and personal
care services.
The Company's revenues are derived primarily from rents and
service fees charged to its residents. For the nine months and
three months ended September 30, 1997 and 1998, the Company
generated total operating revenues of $85.0 and $110.8 million,
respectively and $31.5 and $39.0 million, respectively. For the
nine months and three months ended September 30, 1997 and 1998,
the Company incurred losses of $14.8 million and $22.8 million
(excluding the extraordinary losses and a charge related to the
cumulative effect of a change in accounting principle in 1998),
respectively and $7.4 million and $7.1 million (excluding the
extraordinary losses and a charge related to the cumulative
effect of a change in accounting principle in 1998),
respectively. Loss before extraordinary item and cumulative
effect of change in accounting principle decreased $1.3 million
from $8.4 million for the quarter ended March 31, 1998 to $7.1
million for the quarter ended September 30, 1998. Similarly,
loss before extraordinary item and cumulative effect of a change
in accounting principle decreased from $7.2 million for the
quarter ended June 30, 1998 to $7.1 million for the quarter ended
September 30, 1998.
The Company is expecting to achieve cash flow break-even from
operations by the end of 1998. The Company has developed a three-
prong approach to achieve this goal: 1) increased focus on
occupancy levels throughout the Company's portfolio, 2) reduced
acquisition and development activities, and 3) disposal of select
communities generating operating losses. In addition, the
Company seeks to increase operating margins by increasing
occupancy levels, retaining residents longer by offering a range
of service options, increasing revenues through modifications in
rate structures, and identifying opportunities to create
operating efficiencies and reduce costs. The Company generated
1,400 net move-ins during the nine months ended September 30,
1998. The Company added 10 communities to its portfolio during
the nine months ended September 30, 1998 compared to 26 during
the nine months ended September 30, 1997. The Company has
disposed of three communities as of September 30, 1998 and has
commitments to dispose of three others.
The Company's losses to date result from a number of factors.
These factors include, but are not limited to: the development
and acquisition of 30 assisted-living communities in 1997 that
incurred operating losses during the initial 12 to 24 month rent-
up phase; initially lower levels of occupancy at the Company's
communities than originally anticipated; financing costs arising
from sale/leaseback transactions and mortgage financing;
refinancing transactions at proportionately higher levels of
debt; and increased administrative and corporate expenses to
facilitate the company's growth.
The following table sets forth a summary of the Company's
property interests.
As of December As of December As of September 30,
31, 31,
1996 1997 1998
Buildings Units Buildings Units Buildings Units
Owned 15 1,485 19 2,099 17 1,714
Leased 53 4,165 76 6,124 75 6,019
Managed/Admin
Services 1 83 4 327 12 1,187
Joint
Venture/Partnership 2 162 1 140 7 730
Sub Total 71 5,895 100 8,690 111 9,650
Percentage
Increase* 196% 170% 41% 47% 11% 11%
Pending
Acquisitions 8 1,028 - - - -
Development
Communities 27 2,296 26 2,483 23 2,299
Minority Interest
(Alert Care) 17 959 22 1,248 21 1,203
Total 123 10,178 148 12,421 155 13,152
Percentage
Increase* 95% 96% 20% 22% 5% 6%
* The percentage increase indicates the change between the
periods presented.
7
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS - (Continued)
As of October 27, 1998, the Company held ownership, leasehold or
management interests in 112 communities (the "Operating
Communities") consisting of approximately 9,800 units with the
capacity of approximately 11,300 residents, located in 27 states.
Additionally, the Company holds a minority interest of 31.3% in
Alert Care, an Ontario, Canada based owner and operator of 21
assisted-living communities consisting of approximately 1,200
units with a capacity of approximately 1,300 residents.
Including its interest in Alert Care, the Company holds an
interest in 133 Operating Communities consisting of approximately
11,000 units with a capacity of approximately 12,600 residents.
The Company leases 76 of the Operating Communities, typically
from a financial institution such as a Real Estate Investment
Trust ("REIT"), owns 17 communities, manages or provides
administrative services for 12 communities and has a partnership
interest or joint venture in seven communities.
Of the 112 Operating Communities, 20 newly developed communities
were opened during 1997 and eight have been opened in 1998. As
of October 27, 1998, the Company owned, had a leasehold interest
in, management interest in or had acquired an option to purchase
development sites for 22 new assisted-living communities (the
"Development Communities"). Four of these communities are
scheduled to open during the last quarter of 1998 and the
remaining 18 are scheduled to begin operating in 1999 or 2000.
Assuming completion of the Development Communities, excluding the
communities held for sale and including the minority interest in
Alert Care, the Company will own, lease, have an ownership
interest in or manage 152 properties in 30 states and Canada,
containing an aggregate of approximately 12,760 units with
capacity of approximately 14,536 residents. There can be no
assurance, however, that the Development Communities will be
completed on schedule. Construction delays, the effects of
government regulation or other factors beyond the Company's
control could delay the opening of these communities.
The Company is exploring international development and
acquisition possibilities in Canada and Japan. The Company's
investment in Alert Care in Ontario, Canada represents a
significant initial investment in the assisted-living industry in
Canada. The Company has also entered into a joint venture with
Sayno Electric Company, Ltd. of Osaka, Japan to provide assisted-
living services in Japan. The Company's first assisted-living
community in Japan is under construction and is anticipated to
open by 2000.
Results of Operations
The following table presents certain items of the Company's
Condensed Consolidated Statements of Operations as a percentage
of total revenues and the percentage change of the underlying
dollar amounts from period to period.
Period to Period
Percentage Increase
(Decrease)
Percentage of Revenues
Three Nine
Three Months Nine Months Months Months
Ended Ended Ended Ended
September 30, September 30, September September
30, 30,
1997 1998 1997 1998 1997-1998 1997-1998
Revenues........... 100.0% 100.0% 100.0% 100.0% 23.7% 30.4%
Expenses:
Community
operations...... 71.7 73.1 69.3 73.6 26.0 38.4
General and
administrative.. 9.2 8.7 9.1 9.0 17.3 28.0
Depreciation and
amortization.... 6.0 3.7 5.2 3.9 (24.0) (2.8)
Rent............. 30.1 27.1 29.1 28.2 11.3 26.6
Total operating
expenses....... 117.0 112.6 112.7 114.7 19.0 32.6
Loss from
operations.... (17.0) (12.6) (12.7) (14.7) (8.6) 50.1
Other income
(expense):
Interest expense,
net............. (6.9) (8.1) (5.4) (8.7) 46.7 109.5
Other, net....... 0.4 2.4 0.7 2.9 721.9 425.8
Net other
expense....... (6.5) (5.7) (4.7) (5.8) 9.1 62.2
Loss before
extraordinary
item......... (23.5) (18.3) (17.4) (20.5) (3.7) 53.4
Extraordinary
item............ - - - (0.7) - 100.0
Cumulative effect
of change in
accounting
principle....... - - - (1.2) - 100.0
Net loss..... (23.5)% (18.3)% (17.4)% (22.4)% (3.7)% 67.4%
8
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS - (Continued)
Three months ended September 30, 1998 compared to three months
ended September 30, 1997
Revenues: Total operating revenues for the three months ended
September 30, 1998 increased 24% or $7.5 million from the
comparable period in 1997. The increase in revenue is a result of
1) generally increasing levels of occupancy throughout the
Company's portfolio, 2) the opening of seven additional newly
developed communities after the third quarter of 1997, and 3) an
increase in the average rate per occupied unit. The company
generated approximately 650 net move-ins in the three months
ended September 30, 1998. The increase in move-ins is the result
of the Company's focus on sales and marketing. Occupancy at the
end of the third quarter of 1998 had risen to 81% compared to 71%
for the quarter ended September 30, 1997. For the three months
ended September 30, 1998, average occupancy increased to 79%
compared to 71% for the three months ended September 30, 1997. In
addition, average occupancy increased 5% from the second quarter
of 1998 to the third quarter of 1998. Occupancy at the Company's
stabilized communities (open for 12 months or 95% occupied) has
increased 5% to 87% as of September 30, 1998 compared to 82% as
of September 30, 1997.
Community Operations: Community operating expenses for the three
months ended September 30, 1998 increased 26% from the comparable
period in 1997 to $28.5 million. The overall increase in
community operating expenses is due to 1) increased labor and
health insurance costs due to the census increase throughout the
Company's portfolio, 2) the opening of seven newly developed
communities subsequent to September 30, 1997, 3) increased sales
and marketing costs, and 4) the recording of start-up and
organization costs as incurred in accordance with SOP 98-5, which
costs had previously been deferred and amortized. Community
operating margins (revenue less community operating expenses)
have increased to 27% for the three months ended September 30,
1998 compared to 26% for the three months ended June 30, 1998.
For the three months ended September 30, 1998 the Company's
increase in revenue resulted in greater economies of scale and a
reduction of operating deficits (revenue less all operating
expenses). These deficits decreased approximately $1.1 million
and $500,000 from the three months ended March 31, 1998 and June
30, 1998, respectively.
General and Administrative: As a percentage of total operating
revenues General and Administrative (G&A) expenses decreased to
8.8% for the three months ended September 30, 1998 as compared to
the 9.2% recorded in the quarter ended September 30, 1997.
Overall, G&A costs increased approximately $500,000 primarily due
to greater personnel and travel costs related to the growth of
the Company. During the three months ended September 30, 1998
G&A costs have steadily decreased as a percentage of revenue due
to economies of scale.
Depreciation and Amortization: Depreciation and amortization for
the three months ended September 30, 1998 were $1.4 million, or
4% of total operating revenues, compared to $1.9 million, or 6%
of total operating revenues for the comparable period in 1997.
The decrease is primarily due to the recording of start-up and
organization costs as operating expenses that were previously
capitalized and amortized in the three months ended September 30,
1998 in accordance with SOP 98-5.
Rent: Rent expense for the three months ended September 30, 1998
was $10.6 million, representing an increase of $1.1 million, or
11% from the comparable period in 1997. The increase is primarily
attributable to the opening of newly developed leased communities
in the fill-up stage. The Company expects an occupancy fill-up
period of 12 to 24 months for a newly developed community. The
Company leased an average of 74 communities for the three months
ended September 30, 1998, compared to an average of 70 for the
three months ended September 30, 1997. In addition, the increase
is partly the result of lease provisions providing for additional
payments based on a percentage of revenue. Rent as a percentage
of revenue was 30% and 27% as of September 30, 1997 and 1998
respectively.
Interest Expense, Net: Interest expense, net for the three
months ended September 30, 1998 increased $1.0 million from the
comparable period in 1997. This increase is primarily related to
the increase of average total debt from $115 million at September
30, 1997 to $133 million at September 30, 1998. In addition,
interest costs capitalized in 1997 and expensed as incurred in
1998.
Other, Net: For the three months ended September 30, 1998 other,
net increased approximately $800,000 from the comparable period
in 1997. The increase is attributable to an administrative
agreement with third parties to compensate the Company in return
for the ability to operate the buildings.
9
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS - (Continued)
Nine months ended September 30, 1998 compared to nine months
ended September 30, 1997
Revenues: Total operating revenues for the nine months ended
September 30, 1998 increased 30% or $25.8 million from the
comparable period in 1997. The increase in revenue is a result of
1) generally increasing levels of occupancy throughout the
Company's portfolio, 2) the opening of seven additional newly
developed communities after the third quarter of 1997, and 3) an
increase in the average rate per occupied unit. In the nine
months ended September 30, 1998 the Company generated
approximately 1,400 net move-ins. The increase in move-ins is
the result of the Company's focus on sales and marketing. For
the nine months ended September 30, 1998 occupancy has risen from
72% to 81%, or 11%. Occupancy at the Company's stabilized
communities (defined for this purpose as communities that have
been open for 12 months or 95% occupied) has increased to 87% as
of September 30, 1998 compared to 82% as of September 30, 1997,
an increase of 6%. For the nine months ended September 30, 1998,
average occupancy increased to 75% compared to 74% for the nine
months ended September 30, 1997.
Community Operations: Expenses for community operations for the
nine months ended September 30, 1998 increased by 38% or $22.6
million from the comparable period in 1997. As a percentage of
total revenues, expenses for community operations increased to
74% for the nine months ended September 30, 1998 compared to 69%
for the nine months ended September 30, 1997. The overall
increase in community operating expenses is due to 1) increased
labor and health insurance costs due to the census increase
throughout the Company's portfolio, 2) the opening of seven newly
developed communities subsequent to September 30, 1997, 3)
increased sales and marketing costs, and 4) the recording of
start-up and organization costs as incurred in accordance with
SOP 98-5, which had previously been deferred and amortized.
Community operating margins (revenue less community operating
expenses) have increased to 27% for the three months ended
September 30, 1998 compared to 26% for the three months ended
June 30, 1998. For the three months ended September 30, 1998 the
Company's increase in revenue resulted in greater economies of
scale and a reduction in operating deficits (revenue less all
operating expenses). These deficits decreased approximately $1.1
million and $500,000 from the three months ended March 31, 1998
and June 30, 1998, respectively.
General and Administrative: As a percentage of revenues, G&A
expenses have decreased slightly to 9% for the nine months ended
September 30, 1998 as compared to 1997. Overall G&A costs
increased approximately $2.2 million primarily attributable to
greater personnel and travel costs related to the growth of the
Company from the comparable period in 1997. During the nine
months ended September 30, 1998 G&A costs have steadily decreased
as a percentage of revenue due to economies of scale.
Depreciation and Amortization: Depreciation and amortization for
the nine months ended September 30, 1998 were $4.3 million, or 4%
of total operating revenues, compared to $4.5 million, or 5% of
total operating revenue for the comparable period in 1997. The
decrease is primarily due to the recording of start-up and
organization costs as operating expenses that were previously
capitalized and amortized in the nine months ended September 30,
1998 in accordance with SOP 98-5.
Rent: Rent expense for the nine months ended September 30, 1998
was $31.3 million, representing an increase of $6.6 million, or
27% from the comparable period in 1997. The increase is primarily
attributable to the opening of newly developed leased communities
in the fill-up stage. The Company expects an occupancy fill-up
period of 12 to 24 months for a newly developed community. The
Company leased an average of 74 communities for the nine months
ended September 30, 1998, compared to an average of 66 for the
nine months ended September 30, 1997. In addition, the increase
is partly the result of lease provisions providing for additional
payments based on a percentage of revenue in the 1998 period.
Rent as a percentage of revenue was 29% and 28% for the nine
months ended September 30, 1997 and 1998 respectively.
Interest Expense, Net: Interest expense, net, for the nine
months ended September 30, 1998 increased $5.1 million from the
comparable period in 1997. This increase is primarily related to
the increase of average total debt from $101 million at September
30, 1997 to $132 million at September 30, 1998. In addition,
interest costs capitalized in 1997 are expensed as incurred in
1998.
10
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS - (Continued)
Other, Net: For the nine months ended September 30, 1998 other,
net increased $2.6 million from the comparable period in 1997.
The increase is attributable to 1) a gain on the sale of
securities, 2) a gain on the disposition of three communities,
and 3) an administrative agreement with third parties to
compensate the Company in return for the right to operate the
communities.
Extraordinary Item: The Company recognized an extraordinary loss
of approximately $767,000 for the nine months ended September 30,
1998. This loss reflects the write-off of loan fees and other
related costs of the Company's early extinguishment of debt when
it refinanced 10 communities.
Cumulative Effect of Change in Accounting Principle: The Company
incurred a cumulative effect of a change in accounting principle
of $1.3 million relating to the early adoption of SOP 98-5, which
requires that costs of start-up activities and organization costs
be recorded as incurred. The Company does not expect this
statement to materially affect total operating expenses. However,
previously capitalized and amortized start-up costs will be
recorded to community operations expense as incurred.
Same Community Comparison
The Company operated 80 of its communities ("Same Community")
during both three months periods ended September 30, 1997 and
1998. The following table sets forth a comparison of Same
Community results of operations for the three months ended
September 30, 1997 and 1998.
Three months Ended September 30,
(In thousands)
Dollar Percentage
1997 1998 Change Change
Revenue........................ $28,458 $31,819 $3,361 12 %
Community operating expenses... 19,639 21,939 2,300 12
Community operating income.. 8,819 9,880 1,061 12
Depreciation and amortization.. 1,592 1,208 (384) (24)
Rent........................... 8,043 8,029 (14) (0.2)
Operating income (loss)... (816) 643 1,459 (179)
Interest expense, net.......... 1,672 1,695 23 1
Other income................... (17) (8) (9) 35
Net loss.................. $ (2,471) $(1,044) $1,427 (58) %
The Same Communities represented $31.8 million or 82% of the
Company's total revenue for the third quarter of 1998. Same
Community revenues increased by $3.4 million or 12% for the
quarter ended September 30, 1998 from the comparable period in
1997. The increase in revenue is attributable to increased
occupancy and monthly rate increases due to an expanded range of
services offered at the communities. During the quarter ended
September 30, 1998, average occupancy increased 11% to 85%
compared to the quarter ended September 30, 1997. In addition,
Same Community revenue per unit increased from $1,902 per month
for the quarter ended September 30, 1997 to $1,932 per month for
the quarter ended September 30, 1998. During the quarter ended
September 30, 1998, the Company recorded operating income of
$643,000 compared to an operating loss of $816,000 for the
quarter ended September 30, 1997.
11
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS - (Continued)
Liquidity and Capital Resources
For the nine months ended September 30, 1998, net cash used in
operating activities was $22.3 million compared to $5.5 million
for the comparable period in the prior year. The primary
component of this operating use of cash was the net loss of $24.8
million and $14.8 million recorded in the nine months ended
September 30, 1998 and 1997, respectively.
Net cash used in investing activities amounted to $735,000 for
the nine months ended September 30, 1998. During this period,
the Company realized $10.4 million in proceeds from the
disposition of three communities but used $13.1 million for use
for acquisitions of property held for development and property
and equipment. This use of cash was offset in part by an excess
of $1.8 million of construction advances on leased communities
over construction expenditures for the same nine month period.
Net cash used in investing activities for the nine months ended
September 30, 1997 was $18.1 million, primarily from construction
expenditures for future communities and refurbishments completed
on existing communities.
For the nine months ended September 30, 1998, net cash provided
by financing activities was $15.1 million reflecting the
refinancing of 10 existing assisted-living communities with a
third-party lender in the second quarter of 1998 for $73.2
million. The new loans paid off existing debt of $60.3 million.
For the nine months endedSeptember 30, 1997, net cash provided by
financing activities was $12.5 million, primarily the result of
the refinancing of existing assisted-living communities.
In December 1997, the Company repurchased 25,600 shares of its
common stock at an aggregate cost of $341,000. In January 1998,
the Company's Board of Directors authorized a stock purchase
program to acquire up to 500,000 shares of the Company's common
stock in the open market. In April 1998, the Company's Board of
Directors authorized the repurchase of 500,000 additional shares.
As of August 12, 1998, the Company had purchased and retired
517,200 shares of its common stock at an aggregate cost of $5.7
million.
In July and August of 1998, the Company purchased 2,450,000
shares of Alert Care for $1.7 million.
The Company has been, and expects to continue to be, dependent on
third-party financing for its acquisition and development
programs. There can be no assurance that financing for the
Company's acquisition and development programs will be available
to the Company on acceptable terms. The Company's future capital
needs will depend in part on its ability to refinance existing
loans and arrange sale/leaseback financing for existing assisted-
living communities. There can be no assurance that the Company
will generate sufficient cash flow to fund its working capital,
rent, debt service requirements or growth. The Company may have
to seek additional financing through debt or equity offerings,
bank borrowings or other sources.
The Company is on target to achieve cash flow break-even from
operations by the end of 1998. The Company has developed a three-
prong approach to achieve this goal: 1) increased focus on
occupancy levels throughout the Company's portfolio, 2) reduced
acquisition and development activities, and 3) disposal of select
communities generating operating losses.
Impact of Inflation
To date, inflation has not had a significant impact on the
Company. Inflation could, however, affect the Company's future
revenues and operating income due to the Company's dependence on
its senior resident population, most of whom rely on relatively
fixed incomes to pay for the Company's services. The monthly
charges for the resident's unit and assisted living services are
influenced by the location of the community and local
competition. The Company's ability to increase revenues in
proportion to increased operating expenses may be limited. The
Company typically does not rely to a significant extent on
governmental reimbursement programs. In pricing its services,
the Company attempts to anticipate inflation levels, but there
can be no assurance that the Company will be able to respond to
inflationary pressures in the future.
12
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS - (Continued)
Impact of Year 2000
General
The Company has developed a plan (the "Plan") to modify its
information technology to address "Year 2000" problems. The
concerns surrounding the Year 2000 are the result of computer
programs being written using two digits rather than four to
define the applicable year. Programs that employ time-sensitive
software may recognize a date using "00" as the year 1900 rather
than the year 2000. This could cause system errors or failures.
Plan
The Plan is comprised of three components including assessment
of: a) the IT infrastructure (hardware and systems software other
than Application Software); b) application software; and b) third
party suppliers/vendors. The Company anticipates commencing work
on the Plan in the fourth quarter of 1998 and estimates a
completion date of March 31, 1999. For each component, the
Company will address Year 2000 problems in six phases: 1) taking
inventory of Year 2000 problems; 2) assigning priorities to
identified items; 3) assessing materiality of items to the
Company's operations; 4) replacing/repairing material non-
compliant items; 5) testing material items; and 6) designing and
implementing business continuation plans. Material items are
those believed by the Company to have a risk that may affect
revenue or may cause a discontinuation of operations.
Costs
The project is not expected to be material to the Company's
operations or financial position. The total cost is not expected
to exceed $50,000.
Risks
The failure to correct a material Year 2000 problem could result
in an interruption in, or a failure of, normal business
activities or operations. Such failures could materially affect
the Company's results of operations, liquidity, and financial
condition. The Company is unable to determine at this time
whether the consequences of Year 2000 failures will have a
material impact on its results of operations, liquidity or
financial condition due, in part, to uncertainty regarding
compliance by third parties. The Plan is expected to
significantly reduce the Company's level of uncertainty regarding
the Year 2000 problem, however, particularly compliance and
readiness of its third-party suppliers/vendors. The Company
believes that, with the completion of the Plan as scheduled, the
possibility of significant interruptions of normal operations
will be reduced.
Forward-Looking Statements
"Safe Harbor" Statement under the Private Securities Litigation
Reform Act of 1995: A number of the matters and subject areas
discussed in this report that are not historical or current facts
deal with potential future circumstances, operations, and
prospects. The discussion of such matters and subject areas is
qualified by the inherent risks and uncertainties surrounding
future expectations generally, and also may materially differ
from the Company's actual future experience involving any one or
more of such matters and subject areas relating to demand,
pricing, competition, construction, licensing, permitting,
construction delays on new developments contractual and
licensure, and other delays on the disposition of assisted living
communities in the Company's portfolio, and the ability of the
Company to continue managing its costs while maintaining high
occupancy rates and market rate assisted living
charges in its assisted living communities. The Company has
attempted to identify, in context, certain of the factors that
they currently believe may cause actual future experience and
results to differ from the Company's current expectations
regarding the relevant matter or subject area. These and other
risks and uncertainties are detailed in the Company's reports
filed with the Securities and Exchange Commission, including the
Company's Annual Reports on Form 10-K and Quarterly Reports on
Form 10-Q.
Item 3. Quantitative and Qualitative Disclosures About Market
Risk - not applicable
13
PART II OTHER INFORMATION
Items 1-5 are not applicable.
Item 6: Exhibits and Reports on Form 8-K
(a) Exhibits
Exhibit
Number Description
27.1 Financial Data Schedule
(b) Reports on Form 8-K.
No reports on Form 8-K were filed during the nine
months ended September 30, 1998.
14
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.
Dated: November 12, 1998
EMERITUS CORPORATION
(Registrant)
/s/: Kelly J. Price
Kelly J. Price, Vice President, Finance, Chief
Financial Officer and Principal Accounting Officer
15