================================================================================
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------
FORM 8-K
CURRENT REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
------------------
DATE OF REPORT: AUGUST 26, 1997
HEALTHSOUTH CORPORATION
(Exact Name of Registrant as Specified in its Charter)
DELAWARE 1-10315 63-0860407
(State or Other (Commission (I.R.S. Employer
Jurisdiction of Incorporation File Number) Identification No.)
or Organization)
ONE HEALTHSOUTH PARKWAY
BIRMINGHAM, ALABAMA 35243
(Address of Principal Executive Offices) (Zip Code)
(205) 967-7116
Registrant's Telephone Number, Including Area code:
================================================================================
ITEM 5. OTHER EVENTS
HEALTHSOUTH Corporation ("HEALTHSOUTH" or the "Company") files this Current
Report on Form 8-K to reflect the restatement of its audited consolidated
financial statements at December 31, 1995, and 1996, and for the years ended
December 31, 1994, 1995 and 1996, and the resulting revisions to Management's
Discussion and Analysis of Financial Condition and Results of Operations to
reflect the effects of HEALTHSOUTH'S acquisition of Health Images, Inc. ("Health
Images"). HEALTHSOUTH acquired Health Images during the first quarter of 1997,
in a transaction that was accounted for as a pooling of interests.
1
SELECTED CONSOLIDATED FINANCIAL DATA
The data set forth below should be read in conjunction with the
consolidated financial statements, related notes and other information included
herein. The financial information for all periods set forth below has been
restated to reflect the acquisitions of ReLife, Inc. ("ReLife") in December
1994, Surgical Health Corporation ("SHC") in June 1995, Sutter Surgery Centers,
Inc. ("SSCI") in October 1995, Surgical Care Affiliates, Inc. ("SCA") in January
1996, Advantage Health Corporation ("Advantage Health") in March 1996 and Health
Images, Inc. ("Health Images") in March 1997, each of which has been accounted
for as a pooling of interests.
YEAR ENDED DECEMBER 31,
-------------------------------------------------------------------------
1992 1993 1994 1995 1996
----------- ------------ ------------ ------------ --------------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
INCOME STATEMENT DATA:
Revenues .................................... $819,821 $1,055,295 $1,726,321 $2,118,681 $2,568,155
Operating unit expenses ..................... 570,543 715,189 1,207,707 1,441,059 1,667,248
Corporate general and administrative ex-
penses 32,526 43,378 67,798 65,424 79,354
Provision for doubtful accounts ............ 18,755 22,677 35,740 42,305 58,637
Depreciation and amortization ............... 42,107 75,425 126,148 160,901 207,132
Merger and acquisition related expenses(1) -- 333 6,520 19,553 41,515
Loss on impairment of assets(2) ............ -- -- 10,500 53,549 37,390
Loss on abandonment of computer
project(2) ................................. -- -- 4,500 -- --
Loss on disposal of surgery centers(2) ...... -- -- 13,197 -- --
NME Selected Hospitals Acquisition re-
lated expense -- 49,742 -- -- --
Terminated merger expense .................. 3,665 -- -- -- --
Loss on extinguishment of debt ............ 883 -- -- -- --
Interest expense ........................... 20,164 25,884 74,895 105,517 98,751
Interest income .............................. (9,757) (6,179) (6,658) (8,009) (6,034)
Gain on sale of partnership interest ...... -- (1,400) -- -- --
Gain on sale of MCA Stock(2) ............... -- -- (7,727) -- --
-------- ---------- ---------- ---------- ----------
678,886 925,049 1,532,620 1,880,299 2,183,993
-------- ---------- ---------- ---------- ----------
Income from continuing operations before
income taxes, minority interests and ex-
traordinary item 140,935 130,246 193,701 238,382 384,162
Provision for income taxes .................. 42,621 40,450 68,560 86,161 143,929
-------- ---------- ---------- ---------- ----------
98,314 89,796 125,141 152,221 240,233
Minority interests ........................... 26,322 29,549 31,665 43,753 50,369
-------- ---------- ---------- ---------- ----------
Income from continuing operations ............ 71,992 60,247 93,476 108,468 189,864
Income from discontinued operations ......... 3,283 3,986 (6,528) (1,162) --
Extraordinary item(2) ........................ -- -- -- (9,056) --
-------- ---------- ---------- ---------- ----------
Net income ................................. $ 75,275 $ 64,233 $ 86,948 $ 98,250 $ 189,864
======== ========== ========== ========== ==========
Weighted average common and common
equivalent shares outstanding(3) ............ 265,267 275,316 291,314 307,792 336,807
======== ========== ========== ========== ==========
Income per common and common equiv-
alent share(3)
Continuing operations ..................... $ 0.27 $ 0.22 $ 0.32 $ 0.35 $ 0.56
Discontinued operations .................. 0.01 0.01 (0.02) -- --
Extraordinary item ........................ -- -- -- (0.03) --
-------- ---------- ---------- ---------- ----------
Net income ................................. $ 0.28 $ 0.23 $ 0.30 $ 0.32 $ 0.56
======== ========== ========== ========== ==========
Income per common share -- assuming
full dilution(3)(4)
Continuing operations ..................... N/A N/A $ 0.32 $ 0.35 $ 0.55
Discontinued operations ..................... N/A N/A (0.02) -- --
Extraordinary item ........................ N/A N/A -- (0.03) --
-------- ---------- ---------- ---------- ----------
Net income ................................. N/A N/A $ 0.30 $ 0.32 $ 0.55
======== ========== ========== ========== ==========
DECEMBER 31,
-----------------------------------------------------------------------
1992 1993 1994 1995 1996
------------ ------------ ------------ ------------ -----------
(IN THOUSANDS)
BALANCE SHEET DATA:
Cash and marketable securities ...... $ 190,153 $ 153,011 $ 134,040 $ 159,793 $ 153,831
Working capital ..................... 285,645 300,876 308,770 406,601 554,589
Total assets ........................ 1,264,334 2,000,566 2,355,920 3,107,808 3,529,706
Long-term debt(5) .................. 438,515 1,028,610 1,164,135 1,453,018 1,560,143
Stockholders' equity ............... 661,846 727,737 837,160 1,269,686 1,569,101
- - ----------
(1) Expenses related to SHC's Ballas Merger in 1993, the ReLife and Heritage
Acquisitions in 1994, the SHC, SSCI and NovaCare Rehabilitation Hospitals
Acquisition in 1995 and the SCA, Advantage Health, PSCM and ReadiCare
mergers in 1996.
(2) See "Notes to Consolidated Financial Statements".
(3) Adjusted to reflect a two-for-one stock split effected in the form of a 100%
stock dividend paid on April 17, 1995 and a two-for-one stock split effected
in the form of a 100% stock dividend paid on March 17, 1997.
(4) Fully-diluted earnings per share in 1994, 1995 and 1996 reflect shares
reserved for issuance upon conversion of HEALTHSOUTH's 5% Convertible
Subordinated Debentures due 2001, where applicable.
(5) Includes current portion of long-term debt.
2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
GENERAL
The following discussion is intended to facilitate the understanding and
assessment of significant changes and trends related to the results of
operations and financial condition of the Company, including certain factors
related to recent acquisitions by the Company, the timing and nature of which
have significantly affected the Company's results of operations. This discussion
and analysis should be read in conjunction with the Company's consolidated
financial statements and notes thereto included elsewhere in this Current Report
on Form 8-K.
The Company completed the following acquisitions over the last three years
(common share amounts have been adjusted to reflect a stock split effected in
the form of a 100% stock dividend paid on March 17, 1997):
o On December 29, 1994, the Company acquired ReLife, Inc. (the "ReLife
Acquisition"). A total of 22,050,580 shares of the Company's Common Stock
were issued in the transaction, representing a value of $180,000,000 at the
time of the acquisition. At that time, ReLife operated 31 inpatient
facilities with an aggregate of 1,102 licensed beds, including nine
free-standing rehabilitation hospitals, nine acute rehabilitation units,
five sub-acute rehabilitation units, seven transitional living units and
one residential facility, and also provided outpatient rehabilitation
services at 12 centers.
o On April 1, 1995, the Company purchased the operations of the
rehabilitation hospital division of NovaCare, Inc. (the "NovaCare
Rehabilitation Hospitals Acquisition"). The purchase price was
approximately $235,000,000. The NovaCare Rehabilitation Hospitals consisted
of 11 rehabilitation hospitals in seven states, 12 other facilities and two
Certificates of Need.
o On June 13, 1995, the Company acquired Surgical Health Corporation (the
"SHC Acquisition"). A total of 17,062,960 shares of the Company's Common
Stock were issued in the transaction, representing a value of $155,000,000
at the time of the acquisition. The Company also purchased SHC's
$75,000,000 aggregate principal amount of 11.5% Senior Subordinated Notes
due 2004 for an aggregate consideration of approximately $86,000,000. At
that time, SHC operated a network of 36 free-standing surgery centers in 11
states, and five mobile lithotripsy units.
o On October 26, 1995, the Company acquired Sutter Surgery Centers, Inc. (the
"SSCI Acquisition"). A total of 3,552,002 shares of the Company's Common
Stock were issued in the transaction, representing a value of $44,444,000
at the time of the acquisition. At that time, SSCI operated a network of 12
freestanding surgery centers in three states.
o On December 1, 1995, the Company acquired Caremark Orthopedic Services
Inc. (the "Caremark Acquisition"). The purchase price was approximately
$127,500,000. At that time Caremark owned and operated approximately 120
outpatient rehabilitation centers in 13 states.
o On January 17, 1996, the Company acquired Surgical Care Affiliates, Inc.
(the "SCA Acquisition"). A total of 91,856,678 shares of the Company's
Common Stock were issued in the transaction, representing a value of
approximately $1,400,000,000 at the time of the acquisition. At that time,
SCA operated a network of 67 freestanding surgery centers in 24 states.
o On March 14, 1996, the Company acquired Advantage Health Corporation (the
"Advantage Health Acquisition"). A total of 18,203,978 shares of the
Company's Common Stock were issued in the transaction, representing a value
of approximately $315,000,000 at the time of the acquisition. At that time,
Advantage Health operated a network of 136 sites of service, including four
freestanding rehabilitation hospitals, one freestanding multi-use hospital,
one nursing home, 68 outpatient rehabilitation facilities, 14 inpatient
managed rehabilitation units, 24 rehabilitation services management
contracts and six managed sub-acute rehabilitation units, primarily located
in the northeastern United States.
3
o On August 20, 1996, the Company acquired Professional Sports Care
Management, Inc. (the "PSCM Acquisition"). A total of 3,622,888 shares of
the Company's Common Stock were issued in the transaction, representing a
value of approximately $59,000,000 at the time of the acquisition. At that
time, PSCM operated a network of 36 outpatient rehabilitation centers in
three states.
o On December 2, 1996, the Company acquired ReadiCare, Inc. (the "ReadiCare
Acquisition"). A total of 4,007,954 shares of the Company's Common Stock
were issued in the transaction, representing a value of approximately
$76,000,000 at the time of the acquisition. At that time, ReadiCare
operated a network of 37 outpatient medical and rehabilitation centers in
two states.
o On March 3, 1997, the Company acquired Health Images, Inc. ("Health
Images"). A total of 10,343,470 shares of the Company's Common Stock were
issued in the transaction, representing a value of approximately
$208,162,000 at the time of the acquisition. At that time, Health Images
operated 49 freestanding diagnostic centers in 13 states and six in the
United Kingdom.
The NovaCare Rehabilitation Hospitals Acquisition and the Caremark
Acquisition each were accounted for under the purchase method of accounting and,
accordingly, the acquired operations are included in the Company's consolidated
financial information from their respective dates of acquisition. Each of the
ReLife Acquisition, the SHC Acquisition, the SSCI Acquisition, the SCA
Acquisition, the Advantage Health Acquisition and the Health Images Acquisition
was accounted for as a pooling of interests and, with the exception of data set
forth relating to revenues derived from Medicare and Medicaid, all amounts shown
in the following discussion have been restated to reflect such acquisitions.
ReLife, SHC, SSCI, SCA, Advantage Health and Health Images did not separately
track such revenues. The PSCM Acquisition and the ReadiCare Acquisition were
also accounted for as poolings of interests. However, due to the immateriality
of PSCM and ReadiCare, the Company's historical financial statements for all
periods prior to the quarters in which the respective mergers took place have
not been restated. Instead, stockholders' equity has been increased during 1996
to reflect the effects of the PSCM Acquisition and the ReadiCare Acquisition.
The results of operations of PSCM and ReadiCare are included in the accompanying
financial statements and the following discussion from the date of acquisition
forward (see Note 2 of "Notes to Consolidated Financial Statements" for further
discussion).
The Company determines the amortization period of the cost in excess of net
asset value of purchased facilities based on an evaluation of the facts and
circumstances of each individual purchase transaction. The evaluation includes
an analysis of historic and projected financial performance, an evaluation of
the estimated useful life of the buildings and fixed assets acquired, the
indefinite useful life of certificates of need and licenses acquired, the
competition within local markets, lease terms where applicable, and the legal
terms of partnerships where applicable. The Company utilizes independent
appraisers and relies on its own management expertise in evaluating each of the
factors noted above. With respect to the carrying value of the excess of cost
over net asset value of purchased facilities and other intangible assets, the
Company determines on a quarterly basis whether an impairment event has occurred
by considering factors such as the market value of the asset, a significant
adverse change in legal factors or in the business climate, adverse action by
regulators, history of operating losses or cash flow losses, or a projection of
continuing losses associated with an operating entity. The carrying value of
excess cost over net asset value of purchased facilities and other intangible
assets will be evaluated if the facts and circumstances suggest that it has been
impaired. If this evaluation indicates that the value of the asset will not be
recoverable, as determined based on the undiscounted cash flows of the entity
acquired over the remaining amortization period, the Company's carrying value of
the asset will be reduced by the estimated shortfall of cash flows.
Governmental, commercial and private payors have increasingly recognized
the need to contain their costs for healthcare services. These payors,
accordingly, are turning to closer monitoring of services, prior authorization
requirements, utilization review and increased utilization of outpatient
services. During the periods discussed below, the Company has experienced an
increased effort by these payors to contain costs through negotiated discount
pricing. The Company views these efforts as an
4
opportunity to demonstrate the effectiveness of its clinical programs and its
ability to provide its rehabilitative healthcare services efficiently. The
Company has entered into a number of contracts with payors to provide services
and has realized an increased volume of patients as a result.
The Company's revenues include net patient service revenues and other
operating revenues. Net patient service revenues are reported at estimated net
realizable amounts from patients, insurance companies, third-party payors
(primarily Medicare and Medicaid) and others for services rendered. Revenues
from third-party payors also include estimated retroactive adjustments under
reimbursement agreements which are subject to final review and settlement by
appropriate authorities. Management determines allowances for doubtful accounts
and contractual adjustments based on historical experience and the terms of
payor contracts. Net accounts receivable include only those amounts estimated by
management to be collectible.
The Company, in many cases, operates more than one site within a market. In
such markets, there is customarily an outpatient center or inpatient facility
with associated satellite outpatient locations. For purposes of the following
discussion and analysis, same store operations are measured on locations within
markets in which similar operations existed at the end of the period and include
the operations of additional locations opened within the same market. New store
operations are measured on locations within new markets.
RESULTS OF OPERATIONS OF THE COMPANY
Twelve-Month Periods Ended December 31, 1994 and 1995
The Company operated 537 outpatient rehabilitation locations at December
31, 1995, compared to 283 outpatient rehabilitation locations at December 31,
1994. In addition, the Company operated 95 inpatient rehabilitation facilities,
122 surgery centers, 69 diagnostic centers and five medical centers at December
31, 1995, compared to 82 inpatient rehabilitation facilities, 112 surgery
centers, 51 diagnostic centers and five medical centers at December 31, 1994.
The Company's operations generated revenues of $2,118,681,000 in 1995, an
increase of $392,360,000, or 22.7%, as compared to 1994 revenues. Same store
revenues for the twelve months ended December 31, 1995 were $1,891,150,000, an
increase of $164,829,000, or 9.5%, as compared to the same period in 1994. New
store revenues for 1995 were $227,531,000. New store revenues reflect (1) the 11
rehabilitation hospitals and 12 other facilities associated with the NovaCare
Rehabilitation Hospitals Acquisition, (2) the 120 outpatient rehabilitation
centers associated with the Caremark Acquisition, (3) the acquisition of five
surgery centers and 16 outpatient diagnostic imaging operation, and (4) the
acquisition of outpatient rehabilitation operations in 34 new markets. See Note
9 of "Notes to Consolidated Financial Statements". The increase in revenues is
primarily attributable to the addition of these operations and increases in
patient volume. Revenues generated from patients under the Medicare and Medicaid
programs respectively accounted for 40.0% and 2.5% of total revenues for 1995,
compared to 41.0% and 3.2% of total revenues for 1994. Revenues from any other
single third-party payor were not significant in relation to the Company's total
revenues. During 1995, same store outpatient visits, inpatient days and surgery
center cases increased 21.7%, 10.8% and 4.8%, respectively. Revenue per
outpatient visit, inpatient day and surgery case for same store operations
increased (decreased) by 0.8%, 2.5% and (0.9%), respectively.
Operating expenses, at the operating unit level, were $1,441,059,000, or
68.0% of revenues, for 1995, compared to 70.0% of revenues for 1994. Same store
operating expenses for 1995 were $1,291,546,000, or 68.3% of related revenues.
New store operating expenses were $149,513,000, or 65.7% of related revenues.
Corporate general and administrative expenses decreased from $67,798,000 in 1994
to $65,424,000 in 1995. As a percentage of revenues, corporate general and
administrative expenses decreased from 3.9% in 1994 to 3.1% in 1995. Total
operating expenses were $1,506,483,000, or 71.1% of revenues, for 1995, compared
to $1,275,505,000, or 73.9% of revenues, for 1994. The provision for doubtful
accounts was $42,305,000, or 2.0% of revenues, for 1995, compared to
$35,740,000, or 2.1% of revenues, for 1994.
5
Depreciation and amortization expense was $160,901,000 for 1995, compared
to $126,148,000 for 1994. The increase represents the investment in additional
assets by the Company. Interest expense increased to $105,517,000 in 1995,
compared to $74,895,000 for 1994, primarily because of the increased average
borrowings during 1995 under the Company's revolving line of credit. For 1995,
interest income was $8,009,000, compared to $6,658,000 for 1994.
Merger expenses in 1994 of $6,520,000 represent costs incurred or accrued
in connection with completing the ReLife Acquisition ($2,949,000) and SHC's
acquisition of Heritage Surgical Corporation ($3,571,000). For further
discussion, see Note 2 of "Notes to Consolidated Financial Statements".
During 1994, the Company recognized a $10,500,000 loss on impairment of
assets. This amount relates to the termination of a ReLife management contract
and a permanently damaged ReLife facility. The Company determined not to attempt
to reopen such damaged facility because, under its existing licensure, the
facility was not consistent with the Company's plans. Also during 1994, the
Company recognized a $4,500,000 loss on abandonment of a ReLife computer
project. For further discussion, see Note 14 of "Notes to Consolidated Financial
Statements".
During the fourth quarter of 1994, the Company adopted a formal plan to
dispose of three surgery centers and certain other properties during fiscal
1995. Accordingly, a charge of $13,197,000 was made to reflect the expected
losses resulting from the disposal of these centers. The closings of the three
surgery centers were completed by December 31, 1995. For further discussion, see
Note 13 of "Notes to Consolidated Financial Statements".
As a result of the NovaCare and SHC Acquisitions, the Company recognized
$14,588,000 in merger and acquisition related expenses during the second quarter
of 1995. Fees related to legal, accounting and financial advisory services
accounted for $3,400,000 of the expense. Accruals for employee separations were
approximately $1,188,000. In addition, the Company provided approximately
$10,000,000 for the write-down of certain assets to net realizable value as the
result of a facility consolidation in a market where the Company's existing
services overlapped with those of an acquired facility. The employee separations
and facility consolidation were completed by the end of 1995.
In the fourth quarter of 1995, the Company incurred direct costs and
expenses of $4,965,000 in connection with the SSCI Acquisition. These expenses
consist primarily of fees related to legal, accounting and financial advisory
services and are included in merger and acquisition related acquisition expenses
for the year ended December 31, 1995.
In connection with the SHC Acquisition the Company recognized a $9,056,000
extraordinary loss (net of income tax benefit of $5,550,000) on the early
extinguishment of the SHC Notes during 1995 (see Notes 2 and 7 of "Notes to
Consolidated Financial Statements").
Also during 1995, the Company recognized a $53,549,000 loss on impairment
of assets. The impaired assets relate to six SHC facilities and eight SCA
facilities in which the projected undiscounted cash flows did not support the
book value of the long-lived assets of such facilities. See Note 14 of "Notes to
Consolidated Financial Statements".
Income from continuing operations before income taxes, minority interests
and extraordinary item for 1995 was $238,382,000, compared to $193,701,000 for
1994. Minority interests reduced income before income taxes by $43,753,000,
compared to $31,665,000 for 1994. During the quarter ended March 31, 1995, the
Company discontinued the operations of Interactive Diagnostic Services, Inc., a
wholly-owned subsidiary ("IDSI"), and IDSI's financial results are treated as
discontinued operations. During 1995, the Company recognized a loss from
discontinued operations and a loss on disposal of discontinued operations of
$1,162,000 in after tax losses compared to $6,528,000 in after tax losses in
1994. For further discussion, see Note 9 of "Notes to Consolidated Financial
Statements". The provision for income taxes for 1995 was $86,161,000, compared
to $68,560,000 for 1994, resulting in effective tax rates of 44.3% for 1995 and
42.3% for 1994. Net income for 1995 was $98,250,000.
Twelve-Month Periods Ended December 31, 1995 and 1996
The Company operated 739 outpatient rehabilitation locations at December
31, 1996, compared to 537 outpatient rehabilitation locations at December 31,
1995. In addition, the Company operated 96
6
inpatient rehabilitation facilities, 135 surgery centers, 72 diagnostic centers
and five medical centers at December 31, 1996, compared to 95 inpatient
rehabilitation facilities, 122 surgery centers, 69 diagnostic centers and five
medical centers at December 31, 1995.
The Company's operations generated revenues of $2,568,155,000 in 1996, an
increase of $449,474,000, or 21.2%, as compared to 1995 revenues. Same store
revenues for the twelve months ended December 31, 1996 were $2,408,294,000, an
increase of $289,613,000, or 13.7%, as compared to the same period in 1995. New
store revenues for 1996 were $159,861,000. New store revenues reflect the
acquisition of one inpatient rehabilitation hospital, the addition of eight new
outpatient surgery centers, and the acquisition of outpatient rehabilitation
operations in 57 new markets. See Note 9 of "Notes to Consolidated Financial
Statements". The increase in revenues is primarily attributable to the addition
of these operations and increases in patient volume. Revenues generated from
patients under the Medicare and Medicaid programs respectively accounted for
37.8% and 2.9% of total revenues for 1996, compared to 40.0% and 2.5% of total
revenues for 1995. Revenues from any other single third-party payor were not
significant in relation to the Company's total revenues. During 1996, same store
outpatient visits, inpatient days and surgery center cases increased 19.9%,
10.8% and 7.3%, respectively. Revenue per outpatient visit, inpatient day and
surgery case for same store operations increased (decreased) by (0.8)%, 3.8% and
1.1%, respectively.
Operating expenses, at the operating unit level, were $1,667,248,000, or
64.9% of revenues, for 1996, compared to 68.0% of revenues for 1995. The
decrease in operating expenses as a percentage of revenues is primarily
attributable to the 13.7% increase in same store revenues noted above. In same
store operations, the incremental costs associated with increased revenues are
significantly lower as a percentage of those increased revenues. Same store
operating expenses for 1996 were $1,567,820,000, or 65.1% of related revenues.
New store operating expenses were $99,428,000, or 62.2% of related revenues.
Corporate general and administrative expenses increased from $65,424,000 in 1995
to $79,354,000 in 1996. As a percentage of revenues, corporate general and
administrative expenses equaled 3.1% in 1995 and 1996. Total operating expenses
were $1,746,602,000, or 68.0% of revenues, for 1996, compared to $1,506,483,000,
or 71.1% of revenues, for 1995. The provision for doubtful accounts was
$58,637,000, or 2.3% of revenues, for 1996, compared to $42,305,000, or 2.0% of
revenues, for 1995.
Depreciation and amortization expense was $207,132,000 for 1996, compared
to $160,901,000 for 1995. The increase resulted from the investment in
additional assets by the Company. Interest expense decreased to $98,751,000 in
1996, compared to $105,517,000 for 1995, primarily because of the favorable
interest rates on the Company's revolving credit facility (see "Liquidity and
Capital Resources"). For 1996, interest income was $6,034,000 compared to
$8,009,000 for 1995. The decrease in interest income resulted primarily from a
decrease in the average amount outstanding in interest-bearing investments.
Merger expenses in 1996 of $41,515,000 represent costs incurred or accrued
in connection with completing the SCA Acquisition ($19,727,000), the Advantage
Health Acquisition ($9,212,000), the PSCM Acquisition ($5,513,000) and the
ReadiCare Acquisition ($7,063,000). For further discussion, see Note 2 of "Notes
to Consolidated Financial Statements".
Income before minority interests and income taxes for 1996 was
$384,162,000, compared to $238,382,000 for 1995. Minority interests reduced
income before income taxes by $50,369,000, compared to $43,753,000 for 1995. The
provision for income taxes for 1996 was $143,929,000, compared to $86,161,000
for 1995, resulting in effective tax rates of 43.1% for 1996 and 44.3% for 1995.
Net income for 1996 was $189,864,000.
LIQUIDITY AND CAPITAL RESOURCES
At December 31, 1996, the Company had working capital of $554,589,000,
including cash and marketable securities of $153,831,000. Working capital at
December 31, 1995 was $406,601,000, including cash and marketable securities of
$159,793,000. For 1996, cash provided by operations was $388,345,000, compared
to $350,059,000 for 1995. The Company used $485,193,000 for investing activities
during 1996, compared to $799,268,000 for 1995. Additions to property, plant and
equipment and acquisitions accounted for $204,792,000 and $91,391,000,
respectively, during 1996. Those same investing activities
7
accounted for $183,867,000 and $517,773,000, respectively, in 1995. Financing
activities provided $95,107,000 and $484,042,000 during 1996 and 1995,
respectively. Net borrowing proceeds (borrowings less principal reductions) for
1996 and 1995 were $101,366,000 and $205,215,000, respectively.
Net accounts receivable were $540,389,000 at December 31, 1996, compared to
$433,688,000 at December 31, 1995. The number of days of average revenues in
average receivables was 67.1 at December 31, 1996, compared to 63.4 at December
31, 1995. The concentration of net accounts receivable from patients,
third-party payors, insurance companies and others at December 31, 1996 was
consistent with the related concentration of revenues for the period then ended.
The Company has a $1,250,000,000 revolving credit facility with
NationsBank, N.A. ("NationsBank") and other participating banks (the "1996
Credit Agreement"). The 1996 Credit Agreement replaced a previous $1,000,000,000
revolving credit agreement, also with NationsBank. Interest is paid based on
LIBOR plus a predetermined margin, a base rate or competitively bid rates from
the participating banks. This credit facility has a maturity date of March 31,
2001. The Company provided a negative pledge on all assets for the 1996 Credit
Agreement. The effective interest rate on the average outstanding balance under
the revolving credit facility was 5.98% for the twelve months ended December 31,
1996, compared to the average prime rate of 8.29% during the same period. At
December 31, 1996, the Company had drawn $995,000,000 under the 1996 Credit
Agreement. For further discussion, see Note 7 of "Notes to Consolidated
Financial Statements".
In 1994, the Company issued $115,000,000 principal amount of 5% Convertible
Subordinated Debentures due 2001 (the "Debentures"). The Company called the
Debentures for redemption on April 1, 1997. The holders of the Convertible
Debentures surrendered substantially all of the Convertible Debentures for
conversion into approximately 12,226,000 shares of the Company's Common Stock.
On February 17, 1997, the Company entered into a definitive agreement to
acquire Horizon/CMS Healthcare Corporation ("Horizon/CMS") in a stock-for-stock
merger in which the stockholders of Horizon/CMS will receive 0.84338 of a share
of the Company's common stock per share of Horizon/ CMS common stock. The
transaction is valued at approximately $1,600,000,000, including the assumption
by the Company of approximately $700,000,000 in Horizon/CMS debt. It is expected
that the transaction will be accounted for as a purchase. Horizon/CMS operates
33 inpatient rehabilitation hospitals, 58 specialty hospitals and subacute units
and 282 outpatient rehabilitation centers. Horizon/CMS also owns, leases or
manages 267 long-term care facilities, a contract therapy business, an
institutional pharmacy business and other healthcare services. Consummation of
the transaction is subject to various regulatory approvals, including clearance
under the Hart-Scott-Rodino Antitrust Improvements Act, and to the satisfaction
of certain other conditions. The Company currently anticipates that the
transaction will be consummated by October 1997.
The Company intends to pursue the acquisition or development of additional
healthcare operations, including comprehensive outpatient rehabilitation
facilities, inpatient rehabilitation facilities, ambulatory surgery centers,
outpatient diagnostic centers and companies engaged in the provision of
rehabilitation-related services, and to expand certain of its existing
facilities. While it is not possible to estimate precisely the amounts which
will actually be expended in the foregoing areas, the Company anticipates that
over the next twelve months, it will spend approximately $50,000,000 on
maintenance and expansion of its existing facilities and approximately
$300,000,000 on development of the Integrated Service Model. See Item 1,
"Business -- Company Strategy", in the Company's Annual Report on Form 10-K for
the year ended December 31, 1996, as amended.
Although the Company is continually considering and evaluating acquisitions
and opportunities for future growth, the Company has not entered into any
agreements with respect to material future acquisitions other than the
transactions with Horizon/CMS and Health Images. In connection with the pending
acquisition of Horizon/CMS, the Company has obtained a fully-underwritten
commitment from NationsBank, N.A. for a $1,000,000,000 Senior Bridge Loan
Facility on substantially the same terms as the 1996 Credit Agreement. The
Company believes that existing cash, cash flow from operations, and borrowings
under the revolving line of credit and the bridge loan facility will be
sufficient to satisfy the Company's estimated cash requirements for the next
twelve months, and for the reasonably foreseeable future.
8
Inflation in recent years has not had a significant effect on the Company's
business, and is not expected to adversely affect the Company in the future
unless it increases significantly.
Statements contained in this Current Report on Form 8-K which are not
historical facts are forward-looking statements. In addition, the Company,
through its senior management, from time to time makes forward-looking public
statements concerning its expected future operations and performance and other
developments. Such forward- looking statements are necessarily estimates
reflecting the Company's best judgment based upon current information and
involve a number of risks and uncertainties, and there can be no assurance that
other factors will not affect the accuracy of such forward-looking statements.
While is impossible to identify all such factors, factors which could cause
actual results to differ materially from those estimated by the Company include,
but are not limited to, changes in the regulation of the healthcare industry at
either or both of the federal and state levels, changes in reimbursement for the
Company's services by governmental or private payors, competitive pressures in
the healthcare industry and the Company's response thereto, the Company's
ability to obtain and retain favorable arrangements with third-party payors,
unanticipated delays in the Company's implementation of its Integrated Service
Model, general conditions in the economy and capital markets, and other factors
which may be identified from time to time in the Company's Securities and
Exchange Commission filings and other public announcements.
9
REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
The Board of Directors
HEALTHSOUTH Corporation
We have audited the accompanying consolidated balance sheets of HEALTHSOUTH
Corporation and Subsidiaries as of December 31, 1995 and 1996, and the related
consolidated statements of income, stockholders' equity and cash flows for each
of the three years in the period ended December 31, 1996. Our audits also
included the financial statement schedule included herein. These financial
statements and schedule are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements and
schedule based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position of
HEALTHSOUTH Corporation and Subsidiaries at December 31, 1995 and 1996, and the
consolidated results of their operations and their cash flows for each of the
three years in the period ended December 31, 1996, in conformity with generally
accepted accounting principles. Also, in our opinion, the related financial
statement schedule, when considered in relation to the basic financial
statements taken as a whole, presents fairly in all material respects the
information set forth therein.
ERNST & YOUNG LLP
Birmingham, Alabama
August 20, 1997
10
HEALTHSOUTH CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
DECEMBER 31,
-------------------------------
1995 1996
------------- ---------------
(IN THOUSANDS)
ASSETS
Current assets:
Cash and cash equivalents (Note 3) ................................................ $ 155,449 $ 150,071
Other marketable securities (Note 3) ............................................. 4,344 3,760
Accounts receivable, net of allowances for doubtful accounts of $60,100,000 in 1995
and $75,360,000 in 1996 ......................................................... 433,688 540,389
Inventories ..................................................................... 39,556 47,408
Prepaid expenses and other current assets ....................................... 80,339 128,174
Deferred income taxes (Note 10) ................................................... 24,804 15,238
----------- -----------
Total current assets ............................................................... 738,180 885,040
Other assets:
Loans to officers ............................................................... 1,625 1,396
Other (Note 4) .................................................................. 69,017 84,016
----------- -----------
70,642 85,412
Property, plant and equipment, net (Note 5) ....................................... 1,378,016 1,464,833
Intangible assets, net (Note 6) ................................................... 920,970 1,094,421
----------- -----------
Total assets ..................................................................... $ 3,107,808 $ 3,529,706
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable .................................................................. $ 116,387 $ 116,451
Salaries and wages payable ...................................................... 69,236 67,793
Accrued interest payable and other liabilities .................................... 94,428 99,118
Current portion of long-term debt (Note 7) ....................................... 51,528 47,089
----------- -----------
Total current liabilities ......................................................... 331,579 330,451
Long-term debt (Note 7) ............................................................ 1,401,490 1,513,054
Deferred income taxes (Note 10) ................................................... 35,444 41,850
Other long-term liabilities (Note 14) ............................................. 8,705 3,558
Deferred revenue .................................................................. 1,661 406
Minority interests - limited partnerships (Note 1) ................................. 59,243 71,286
Commitments and contingencies (Note 11) Stockholders' equity (Notes 8, 12 and
15):
Preferred stock, $.10 par value-1,500,000 shares authorized; issued and outstanding-
none ........................................................................... -- --
Common stock, $.01 par value-500,000,000 shares authorized; issued 164,129,000 in
1995 and 326,493,000 in 1996 ................................................... 1,641 3,265
Additional paid-in capital ...................................................... 965,905 1,060,012
Retained earnings ............................................................... 355,361 525,718
Treasury stock, at cost (3,070,000 shares in 1995 and 91,000 shares in 1996) ...... (30,864) (323)
Receivable from Employee Stock Ownership Plan .................................... (15,886) (14,148)
Notes receivable from stockholders ................................................ (6,471) (5,423)
----------- -----------
Total stockholders' equity ......................................................... 1,269,686 1,569,101
----------- -----------
Total liabilities and stockholders' equity ....................................... $ 3,107,808 $ 3,529,706
=========== ===========
See accompanying notes.
11
HEALTHSOUTH CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
YEAR ENDED DECEMBER 31,
----------------------------------------
1994 1995 1996
------------ ------------ ------------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Revenues ...................................................... $1,726,321 $2,118,681 $2,568,155
Operating unit expenses ....................................... 1,207,707 1,441,059 1,667,248
Corporate general and administrative expenses .................. 67,798 65,424 79,354
Provision for doubtful accounts .............................. 35,740 42,305 58,637
Depreciation and amortization ................................. 126,148 160,901 207,132
Merger and acquisition related expenses (Notes 2 and 9) ...... 6,520 19,553 41,515
Loss on impairment of assets (Notes 9 and 14) .................. 10,500 53,549 37,390
Loss on abandonment of computer project (Note 14) ............ 4,500 -- --
Loss on disposal of surgery centers (Note 13) .................. 13,197 -- --
Interest expense ............................................. 74,895 105,517 98,751
Interest income ................................................ (6,658) (8,009) (6,034)
Gain on sale of equity securities (Note 1) ..................... (7,727) -- --
---------- ---------- ----------
1,532,620 1,880,299 2,183,993
---------- ---------- ----------
Income from continuing operations before income taxes, minor-
ity interests and extraordinary item 193,701 238,382 384,162
Provision for income taxes .................................... 68,560 86,161 143,929
---------- ---------- ----------
125,141 152,221 240,233
Minority interests ............................................. 31,665 43,753 50,369
---------- ---------- ----------
Income from continuing operations before extraordinary item . 93,476 108,468 189,864
Discontinued operations (Note 9):
Loss from discontinued operations, net of income taxes ...... 6,528 418 --
Loss on disposal of discontinued operations, net of income
taxes ...................................................... -- 744 --
---------- ---------- ----------
Income before extraordinary item .............................. 86,948 107,306 189,864
Extraordinary loss from early extinguishment of debt, net of
income tax benefit of $5,550,000 (Notes 2 and 7)............... -- 9,056 --
---------- ---------- ----------
Net income ................................................... $ 86,948 $ 98,250 $ 189,864
========== ========== ==========
Weighted average common and common equivalent shares out-
standing 291,314 307,792 336,807
========== ========== ==========
Income per common and common equivalent share:
Continuing operations ....................................... $ 0.32 $ 0.35 $ 0.56
Discontinued operations .................................... (0.02) -- --
Extraordinary loss .......................................... -- (0.03) --
---------- ---------- ----------
Net income ................................................ $ 0.30 $ 0.32 $ 0.56
========== ========== ==========
Income per common share -- assuming full dilution:
Continuing operations ....................................... $ 0.32 $ 0.35 $ 0.55
Discontinued operations .................................... (0.02) -- --
Extraordinary loss .......................................... -- (0.03) --
---------- ---------- ----------
Net income ................................................ $ 0.30 $ 0.32 $ 0.55
========== ========== ==========
See accompanying notes.
12
HEALTHSOUTH CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 1994, 1995 AND 1996
(IN THOUSANDS)
COMMON STOCK ADDITIONAL
--------------------- PAID-IN RETAINED
SHARES AMOUNT CAPITAL EARNINGS
----------- --------- ------------ ------------
Balance at December 31, 1993 .......................................... 141,326 $ 1,414 $ 567,917 $ 195,168
Proceeds from excercise of options (Note 8) ........................... 2,317 23 16,482 --
Common shares exchanged in the exercise of options .................. (22) -- (321) --
Proceeds from issuance of common shares .............................. 1,408 14 16,476 --
Income tax benefits related to incentive stock options (Note 8) ...... -- -- 6,470 --
Reduction in receivable from ESOP .................................... -- -- -- --
Payments received on stockholders' notes receivable .................. -- -- -- --
Purchase of limited partnership units ................................. -- -- -- (1,838)
Purchase of treasury stock .......................................... -- -- -- --
Net income ............................................................ -- -- -- 86,948
Translation adjustment ................................................ -- -- -- 536
Dividends paid ...................................................... -- -- -- (7,046)
------- ------- ---------- ----------
Balance at December 31, 1994 .......................................... 145,029 1,451 607,024 273,768
Adjustment for Relife Merger (Note 2) ................................. 2,732 27 7,114 (3,734)
Proceeds from excercise of options (Note 8) ........................... 1,136 11 10,218 --
Proceeds from issuance of common shares .............................. 15,232 152 334,896 --
Income tax benefits related to incentive stock options (Note 8) ...... -- -- 6,653 --
Reduction in receivable from ESOP .................................... -- -- -- --
Loans made to stockholders .......................................... -- -- -- --
Purchase of limited partnership units ................................. -- -- -- (4,767)
Purchase of treasury stock .......................................... -- -- -- --
Net income ............................................................ -- -- -- 98,250
Translation adjustment ................................................ -- -- -- 247
Dividends paid ...................................................... -- -- -- (8,403)
------- ------- ---------- ----------
Balance at December 31, 1995 .......................................... 164,129 1,641 965,905 355,361
Adjustment for Advantage Merger ....................................... -- -- -- (17,638)
Adjustment for 1996 Mergers (Note 2) ................................. 4,047 40 68,785 (1,256)
Proceeds from excercise of options (Note 8) ........................... 3,514 36 34,380 --
Income tax benefits related to incentive stock options (Note 8) ...... -- -- 23,767 --
Reduction in receivable from ESOP .................................... -- -- -- --
Payments received on stockholders' notes receivable .................. -- -- -- --
Purchase of limited partnership units ................................. -- -- -- (83)
Purchase of treasury stock .......................................... -- -- -- --
Retirement of treasury stock .......................................... (1,835) (18) (31,259) --
Net income ............................................................ -- -- -- 189,864
Translation adjustment ................................................ -- -- -- 692
Dividends paid ...................................................... -- -- -- (1,222)
Stock split (Note 15) ................................................ 156,638 1,566 (1,566) --
------- ------- ---------- ----------
Balance at December 31, 1996 .......................................... 326,493 $3,265 $1,060,012 $ 525,718
======= ======= ========== ==========
HEALTHSOUTH CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 1994, 1995 AND 1996
(Continued)
(IN THOUSANDS)
NOTES
TREASURY STOCK RECEIVABLES RECEIVABLE
----------------------- FROM FROM
SHARES AMOUNT ESOP STOCKHOLDERS
----------- ----------- ------------- -------------
Balance at December 31, 1993 .......................................... 1,435 $(12,342) $ (18,932) $ (5,490)
Proceeds from excercise of options (Note 8) ........................... -- -- -- --
Common shares exchanged in the exercise of options .................. -- -- -- --
Proceeds from issuance of common shares .............................. -- -- -- --
Income tax benefits related to incentive stock options (Note 8) ...... -- -- -- --
Reduction in receivable from ESOP .................................... -- -- 1,455 --
Payments received on stockholders' notes receivable .................. -- -- -- 250
Purchase of limited partnership units ................................. -- -- -- --
Purchase of treasury stock .......................................... 1,047 (10,025) -- --
Net income ............................................................ -- -- -- --
Translation adjustment ................................................ -- -- -- --
Dividends paid ...................................................... -- -- -- --
------- --------- --------- --------
Balance at December 31, 1994 .......................................... 2,482 (22,367) (17,477) (5,240)
Adjustment for Relife Merger (Note 2) ................................. -- -- -- --
Proceeds from excercise of options (Note 8) ........................... -- -- -- --
Proceeds from issuance of common shares .............................. -- -- -- --
Income tax benefits related to incentive stock options (Note 8) ...... -- -- -- --
Reduction in receivable from ESOP .................................... -- -- 1,591 --
Loans made to stockholders .......................................... -- -- -- (1,231)
Purchase of limited partnership units ................................. -- -- -- --
Purchase of treasury stock .......................................... 588 (8,497) -- --
Net income ............................................................ -- -- -- --
Translation adjustment ................................................ -- -- -- --
Dividends paid ...................................................... -- -- -- --
------- --------- --------- --------
Balance at December 31, 1995 .......................................... 3,070 (30,864) (15,886) (6,471)
Adjustment for Advantage Merger ....................................... -- -- -- --
Adjustment for 1996 Mergers (Note 2) ................................. -- -- -- --
Proceeds from excercise of options (Note 8) ........................... -- -- -- --
Income tax benefits related to incentive stock options (Note 8) ...... -- -- -- --
Reduction in receivable from ESOP .................................... -- -- 1,738 --
Payments received on stockholders' notes receivable .................. -- -- -- 1,048
Purchase of limited partnership units ................................. -- -- -- --
Purchase of treasury stock .......................................... 89 (736) -- --
Retirement of treasury stock .......................................... (3,068) 31,277 -- --
Net income ............................................................ -- -- -- --
Translation adjustment ................................................ -- -- -- --
Dividends paid ...................................................... -- -- -- --
Stock split (Note 15) ................................................ -- -- -- --
------- --------- --------- --------
Balance at December 31, 1996 .......................................... 91 $ (323) $ (14,148) $ (5,423)
======= ========= ========= ========
HEALTHSOUTH CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 1994, 1995 AND 1996
(Continued)
(IN THOUSANDS)
TOTAL
STOCKHOLDERS'
EQUITY
--------------
Balance at December 31, 1993 .......................................... $ 727,735
Proceeds from excercise of options (Note 8) ........................... 16,505
Common shares exchanged in the exercise of options .................. (321)
Proceeds from issuance of common shares .............................. 16,490
Income tax benefits related to incentive stock options (Note 8) ...... 6,470
Reduction in receivable from ESOP .................................... 1,455
Payments received on stockholders' notes receivable .................. 250
Purchase of limited partnership units ................................. (1,838)
Purchase of treasury stock .......................................... (10,025)
Net income ............................................................ 86,948
Translation adjustment ................................................ 536
Dividends paid ...................................................... (7,046)
----------
Balance at December 31, 1994 .......................................... 837,159
Adjustment for Relife Merger (Note 2) ................................. 3,407
Proceeds from excercise of options (Note 8) ........................... 10,229
Proceeds from issuance of common shares .............................. 335,048
Income tax benefits related to incentive stock options (Note 8) ...... 6,653
Reduction in receivable from ESOP .................................... 1,591
Loans made to stockholders .......................................... (1,231)
Purchase of limited partnership units ................................. (4,767)
Purchase of treasury stock .......................................... (8,497)
Net income ............................................................ 98,250
Translation adjustment ................................................ 247
Dividends paid ...................................................... (8,403)
----------
Balance at December 31, 1995 .......................................... 1,269,686
Adjustment for Advantage Merger ....................................... (17,638)
Adjustment for 1996 Mergers (Note 2) ................................. 67,569
Proceeds from excercise of options (Note 8) ........................... 34,416
Income tax benefits related to incentive stock options (Note 8) ...... 23,767
Reduction in receivable from ESOP .................................... 1,738
Payments received on stockholders' notes receivable .................. 1,048
Purchase of limited partnership units ................................. (83)
Purchase of treasury stock .......................................... (736)
Retirement of treasury stock .......................................... --
Net income ............................................................ 189,864
Translation adjustment ................................................ 692
Dividends paid ...................................................... (1,222)
Stock split (Note 15) ................................................ --
----------
Balance at December 31, 1996 .......................................... $1,569,101
==========
See accompanying notes.
13
HEALTHSOUTH CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEAR ENDED DECEMBER 31,
---------------------------------------------
1994 1995 1996
------------- ------------- -------------
(IN THOUSANDS)
OPERATING ACTIVITIES
Net income ................................................ $ 86,948 $ 98,250 $ 189,864
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization ........................ 126,148 160,901 207,132
Provision for doubtful accounts ........................ 35,740 42,305 58,637
Provision for losses on impairment of assets ......... 16,080 53,549 37,390
Provision for losses on abandonment of computer
project ............................................. 4,500 -- --
Merger and acquisition related expenses ............... 6,520 19,553 41,515
Loss on disposal of surgery center ..................... 13,197 -- --
Loss on extinguishment of debt ........................ -- 14,606 --
Income applicable to minority interests of limited
partnerships .......................................... 31,665 43,753 50,928
(Benefit) provision for deferred income taxes ......... (14,658) 396 14,308
Provision for deferred revenue ........................ (164) (1,990) (1,255)
Changes in operating assets and liabilities, net of
effects of acquisitions:
Accounts receivable ................................. (101,141) (69,754) (141,323)
Inventories, prepaid expenses and other current
assets ............................................. (15,250) 1,370 (35,084)
Accounts payable and accrued expenses ............... 87,358 (12,880) (33,767)
---------- ---------- ----------
Net cash provided by operating activities ............... 276,943 350,059 388,345
INVESTING ACTIVITIES
Purchases of property, plant and equipment ............... (202,520) (183,867) (204,792)
Proceeds from sale of property, plant and equipment ...... 68,330 16,026 --
Additions to intangible assets, net of effects of acquisi-
tions (70,216) (117,900) (175,380)
Assets obtained through acquisitions, net of liabilities as-
sumed (117,023) (517,773) (91,391)
Changes in other assets ................................. (21,962) (6,963) (14,214)
Proceeds received on sale of other marketable securities . 19,857 22,513 584
Investments in other marketable securities ............... (21,393) (11,304) --
---------- ---------- ----------
Net cash used in investing activities ..................... (344,927) (799,268) (485,193)
14
HEALTHSOUTH Corporation and Subsidiaries
CONSOLIDATED STATEMENTS OF CASH FLOWS - (CONTINUED )
YEAR ENDED DECEMBER 31,
-------------------------------------------
1994 1995 1996
------------ ------------ -------------
(IN THOUSANDS)
FINANCING ACTIVITIES
Proceeds from borrowings .............................. $1,069,979 $ 721,973 $ 205,873
Principal payments on long-term debt .................. (977,094) (502,152) (104,507)
Early retirement of debt ................................. -- (14,606) --
Proceeds from exercise of options ..................... 14,868 10,083 34,415
Proceeds from issuance of common stock .................. 1,136 330,954 --
Purchase of treasury stock .............................. (10,025) (8,497) (736)
Reduction in receivable from ESOP ..................... 1,455 1,591 1,738
Payments received on (loans made to) stockholders ...... 250 (1,231) 1,048
Dividends paid .......................................... (7,046) (8,403) (1,222)
Proceeds from investment by minority interests ......... 2,268 1,103 510
Purchase of limited partnership interests ............... (1,698) (10,076) (3,064)
Payment of cash distributions to limited partners ...... (34,637) (36,697) (38,948)
---------- ---------- ----------
Net cash provided by financing activities ............... 59,456 484,042 95,107
---------- ---------- ----------
(Decrease) increase in cash and cash equivalents ...... (8,528) 34,833 (1,741)
Cash and cash equivalents at beginning of year (Note 2) . 124,649 116,121 155,449
Cash flows related to mergers (Note 2) .................. -- 4,495 (3,637)
---------- ---------- ----------
Cash and cash equivalents at end of year ............... $ 116,121 $ 155,449 $ 150,071
========== ========== ==========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION Cash paid during the year for:
Interest ............................................. $ 61,519 $ 103,973 $ 97,024
Income taxes .......................................... 61,022 85,714 67,975
NON-CASH INVESTING ACTIVITIES:
The Company assumed liabilities of $32,027,000, $84,820,000 and $19,197,000
during the years ended December 31, 1994, 1995 and 1996, respectively, in
conjunction with its acquisitions.
During the year ended December 31, 1994, the Company issued 1,747,000
common shares with a market value of $12,862,000 as consideration for
acquisitions accounted for as purchases (see Note 9).
During the year ended December 31, 1996, the Company issued 8,095,000
common shares as consideration for mergers (see Note 2).
NON-CASH FINANCING ACTIVITIES:
During 1995 and 1997, the Company had a two-for-one stock split on its
common stock, which was effected in the form of a one hundred percent stock
dividend.
The Company received a tax benefit from the disqualifying disposition of
incentive stock options of $6,470,000, $6,653,000 and $23,767,000 for the years
ended December 31, 1994, 1995 and 1996, respectively.
During the year ended December 31, 1994, 22,000 common shares were
exchanged in the exercise of options. The shares exchanged had a market value on
the date of exchange of $321,000.
See accompanying notes.
15
HEALTHSOUTH CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996
1. SIGNIFICANT ACCOUNTING POLICIES
The significant accounting policies followed by HEALTHSOUTH Corporation and
its subsidiaries ("the Company") are presented as an integral part of the
consolidated financial statements.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of HEALTHSOUTH
Corporation ("HEALTHSOUTH") and its wholly-owned subsidiaries, as well as its
majority ownership or controlling interest in limited partnerships and limited
liability companies. All significant intercompany accounts and transactions have
been eliminated in consolidation.
HEALTHSOUTH Corporation is engaged in the business of providing
comprehensive rehabilitative, clinical, diagnostic and surgical healthcare
services on an inpatient and outpatient basis.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts reported in the accompanying consolidated
financial statements and notes. Actual results could differ from those
estimates.
MARKETABLE SECURITIES
MARKETABLE EQUITY SECURITIES AND DEBT SECURITIES ARE CLASSIFIED AS
AVAILABLE-FOR-SALE. AVAILABLE-FOR-SALE securities are carried at fair value,
with the unrealized gains and losses, if material, reported as a separate
component of stockholders' equity, net of tax. During 1994, marketable
securities consisting of $13,360,507 of common stock were sold and the resulting
gain was recognized in the consolidated statement of income. The adjusted cost
of the specific security sold method is used to compute gain or loss on the sale
of securities. Interest and dividends on securities classified as
available-for-sale are included in investment income. Marketable equity
securities and debt securities of the Company have maturities of less than one
year.
Accounts Receivable and Third-Party Reimbursement Activities
Receivables from patients, insurance companies and third-party contractual
insured accounts (Medicare and Medicaid) are based on payment agreements which
generally result in the Company collecting an amount different from the
established rates. Net third party settlement receivables included in accounts
receivable were $21,494,000 and $21,138,000 at December 31, 1995 and 1996,
respectively. Final determination of the settlements is subject to review by
appropriate authorities. The differences between original estimates made by the
Company and subsequent revisions (including final settlements) were not material
to the operations of the Company. Adequate allowances are provided for doubtful
accounts and contractual adjustments. Uncollectible accounts are written off
against the allowance for doubtful accounts after adequate collection efforts
are made. Net accounts receivable include only those amounts estimated by
management to be collectible.
The concentration of net accounts receivable from third-party contractual
payors and others, as a percentage of total net accounts receivable, was as
follows:
DECEMBER 31
-----------------
1995 1996
---- ----
Medicare ................................ 24% 26%
Medicaid ................................ 6 5
Other ................................... 70 69
---- ----
100% 100%
==== ====
16
HEALTHSOUTH Corporation and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
1. Significant Accounting Policies - (CONTINUED)
INVENTORIES
Inventories are stated at the lower of cost or market using the specific
identification method.
PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment is recorded at cost. Upon sale or retirement
of property, plant or equipment, the cost and related accumulated depreciation
are eliminated from the respective account and the resulting gain or loss is
included in the results of operations.
Interest cost incurred during the construction of a facility is
capitalized. The Company incurred interest of $77,764,000, $108,382,000 and
$102,694,000, of which $2,869,000, $2,865,000 and $3,943,000 was capitalized
during 1994, 1995 and 1996, respectively.
Depreciation and amortization is computed using the straight-line method
over the estimated useful lives of the assets or the term of the lease, as
appropriate. The estimated useful life of buildings is 30-40 years and the
general range of useful lives for leasehold improvements, furniture, fixtures
and equipment is 10-15 years.
INTANGIBLE ASSETS
Cost in excess of net asset value of purchased facilities is amortized over
20 to 40 years using the straight-line method. Organization and partnership
formation costs are deferred and amortized on a straight-line basis over a
period of 36 months. Costs incurred in connection with implementing the
Company's clinical and administrative programs and protocols at a
newly-developed or acquired facility are deferred and amortized on a straight
line basis over a period of 36 months. Organization, partnership formation and
start-up costs and other capitalized costs for a project that is subsequently
abandoned are charged to operations in that period. Debt issue costs are
amortized over the term of the debt. Noncompete agreements are amortized using
the straight-line method over the term of the agreements.
MINORITY INTERESTS
The equity of minority investors in limited partnerships and limited
liability companies of the Company is reported on the balance sheet as minority
interests. Minority interests reported in the consolidated income statement
reflect the respective interests in the income or loss of the limited
partnerships or limited liability companies attributable to the minority
investors (ranging from 1% to 50% at December 31, 1996), the effect of which is
removed from the results of operations of the Company.
REVENUES
Revenues include net patient service revenues and other operating revenues.
Other operating revenues include cafeteria revenue, gift shop revenue, rental
income, trainer/contract revenue, management and administrative fee revenue
(related to non-consolidated subsidiaries and affiliates) and transcriptionist
fees which are insignificant to total revenues. Net patient service revenues are
reported at the estimated net realizable amounts from patients, third-party
payors and others for services rendered, including estimated retroactive
adjustments under reimbursement agreements with third-party payors.
INCOME PER COMMON AND COMMON EQUIVALENT SHARE
Income per common and common equivalent share is computed based on the
weighted average number of common shares and common equivalent shares
outstanding during the periods, as adjusted for the two-for-one stock split
declared in April 1995 and the two-for-one stock split declared in March 1997
(see Note 15). Common equivalent shares include dilutive employees' stock
options, less the num-
17
HEALTHSOUTH Corporation and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
1. Significant Accounting Policies - (CONTINUED)
ber of treasury shares assumed to be purchased from the proceeds using the
average market price of the Company's shares in the calculation of primary
earnings per share and the year-end market price of the Company's shares in
calculating fully diluted earnings per share if such market price is higher than
the average price used in computing primary earnings per share. Fully diluted
earnings per share (based on 300,758,000, 320,018,000 and 349,033,000 shares in
1994, 1995 and 1996, respectively) assumes conversion of the 5% Convertible
Subordinated Debentures due 2001 (see Note 7).
IMPAIRMENT OF ASSETS
In accordance with FASB Statement No. 121, Accounting for the Impairment of
Long-Lived Assets and Long-Lived Assets to Be Disposed Of, the Company records
impairment losses on long-lived assets used in operations when events and
circumstances indicate that the assets might be impaired and the undiscounted
cash flows estimated to be generated by those assets are less than the carrying
amounts of those assets. Effective January 1, 1995, the Company adopted FASB 121
to account for long-lived assets.
With respect to the carrying value of the excess of cost over net asset
value of purchased facilities and other intangible assets, the Company
determines on a quarterly basis whether an impairment event has occurred by
considering factors such as: the market value of the asset; a significant
adverse change in legal factors or in the business climate; adverse action by a
regulator; a history of operating or cash flow losses or a projection of
continuing losses associated with an operating entity. The carrying value of
excess cost over net asset value of purchased facilities and other intangible
assets will be evaluated if the facts and circumstances suggest that it has been
impaired. If this evaluation indicates that the value of the asset will not be
recoverable, as determined based on the undiscounted cash flows of the entity
acquired over the remaining amortization period, an impairment loss is
calculated based on the excess of the carrying amount of the asset over the
asset's fair value.
SELF-INSURANCE
The Company is self-insured for professional liability and comprehensive
general liability. Liabilities for asserted and unasserted claims are accrued
based upon specific claims and incidents and the claims history of the Company.
The reserves for estimated liabilities for asserted and unasserted claims, which
are not material in relation to the Company's consolidated financial position at
December 31, 1995 and 1996, are included with accrued interest and other
liabilities in the accompanying consolidated balance sheets.
RECLASSIFICATIONS
Certain amounts in the 1994 and 1995 financial statements have been
reclassified to conform with the 1996 presentation. Also in 1995, the Company
included the loss on extinguishment of debt with merger and acquisition related
expenses. Such amount has been reclassified as an extraordinary item in the
accompanying 1995 income statement. Such reclassifications had no effect on
previously reported consolidated financial position and consolidated net income.
2. MERGERS
Effective December 29, 1994, a wholly-owned subsidiary of the Company
merged with ReLife, Inc. ("ReLife"), and in connection therewith the Company
issued 22,050,580 shares of its common stock in exchange for all of ReLife's
outstanding common stock. Prior to the merger, ReLife provided a system of
rehabilitation services and operated 31 inpatient facilities with an aggregate
of approximately 1,100 licensed beds, including nine freestanding rehabilitation
hospitals, nine acute rehabilitation units, five sub-acute rehabilitation units,
seven transitional living units and one residential facility, and provided
18
HEALTHSOUTH Corporation and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
2. Mergers - (CONTINUED)
outpatient rehabilitation services at twelve outpatient centers. Costs and
expenses of $2,949,000, primarily legal, accounting and financial advisory fees,
incurred by HEALTHSOUTH in connection with the ReLife merger have been recorded
in operations in 1994 and reported as merger expenses in the accompanying
consolidated statements of income.
Effective June 13, 1995, a wholly-owned subsidiary of the Company merged
with Surgical Health Corporation ("SHC"), and in connection therewith the
Company issued 17,062,960 shares of its common stock in exchange for all of
SHC's common and preferred stock. Prior to the merger, SHC operated a network of
36 freestanding surgery centers and five mobile lithotripters in eleven states,
with an aggregate of 156 operating and procedure rooms. Costs and expenses of
approximately $4,588,000 incurred by the Company in connection with the SHC
merger have been recorded in operations during 1995 and reported as merger
expenses in the accompanying consolidated statements of income. Fees related to
legal, accounting and financial advisory services accounted for $3,400,000 of
the expense. Costs related to employee separations were approximately
$1,188,000. Also in connection with the SHC Merger, the Company recognized a
$14,606,000 extraordinary loss as a result of the retirement of the SHC Notes
(see Note 7). The extraordinary loss consisted primarily of the associated debt
discount plus premiums and costs associated with the retirement, net of income
tax benefits of $5,550,000. SHC merged with Heritage Surgical Corporation on
January 18, 1994 in a transaction accounted for as a pooling of interests. SHC
recorded merger costs of $3,571,000 in connection with this transaction in 1994.
Effective October 26, 1995, a wholly-owned subsidiary of the Company merged
with Sutter Surgery Centers, Inc. ("SSCI"), and in connection therewith the
Company issued 3,552,002 shares of its common stock in exchange for all of
SSCI's outstanding common stock. Prior to the merger, SSCI operated a network of
12 freestanding surgery centers in three states, with an aggregate of 54
operating and procedure rooms. Costs and expenses of approximately $4,965,000,
primarily legal, accounting and financial advisory fees, incurred by the Company
in connection with the SSCI merger have been recorded in operations during 1995
and reported as merger expenses in the accompanying consolidated statements of
income.
Effective January 17, 1996, a wholly-owned subsidiary of the Company merged
with Surgical Care Affiliates, Inc. ("SCA"), and in connection therewith the
Company issued 91,856,678 shares of its common stock in exchange for all of
SCA's outstanding common stock. Prior to the merger, SCA operated 67 surgery
centers in 24 states. Costs and expenses of approximately $19,727,000, primarily
legal, accounting and financial advisory fees, incurred by the Company in
connection with the SCA merger have been recorded in operations during 1996 and
reported as merger expenses in the accompanying consolidated statements of
income.
Effective March 14, 1996, a wholly-owned subsidiary of the Company merged
with Advantage Health Corporation ("Advantage Health"), and in connection
therewith the Company issued 18,203,978 shares of its common stock in exchange
for all of Advantage Health's outstanding common stock. Prior to the merger,
Advantage Health operated a network of 136 sites of service, including four
freestanding rehabilitation hospitals, one freestanding multi-use hospital, one
nursing home, 68 outpatient rehabilitation facilities, 14 inpatient managed
rehabilitation units, 24 rehabilitation services management contracts and six
managed sub-acute rehabilitation units. Costs and expenses of approximately
$9,212,000, primarily legal, accounting and financial advisory fees, incurred by
the Company in connection with the Advantage Health merger have been recorded in
operations during 1996 and reported as merger expenses in the accompanying
consolidated statements of income.
Effective March 3, 1997, a wholly-owned subsidiary of the Company merged
with Health Images, Inc. ("Health Images"), and in connection therewith the
Company issued 10,343,470 shares of its common stock in exchange for all of
Health Images' outstanding common stock. Prior to the merger, Health Images
operated 49 freestanding diagnostic imaging centers in 13 states and six in the
United Kingdom.
19
HEALTHSOUTH Corporation and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
2. Mergers - (CONTINUED)
The mergers of the Company with ReLife, SHC, SSCI, SCA, Advantage Health
and Health Images were accounted for as poolings of interests and, accordingly,
the Company's consolidated financial statements have been restated to include
the results of the acquired companies for all periods presented.
Combined and separate results of the Company and its material 1996 mergers,
SCA and Advantage Health, and its 1997 merger with Health Images, Inc., are as
follows (in thousands):
ADVANTAGE HEALTH
HEALTHSOUTH SCA HEALTH IMAGES COMBINED
------------- ---------- ----------- ----------- -----------
Year ended
December 31, 1994
Revenues ......... $1,274,365 $239,272 $135,562 $ 77,122 $1,726,321
Net income ...... 50,493 29,280 8,310 (1,135) 86,948
Year ended
December 31, 1995
Revenues ......... 1,556,687 263,866 182,593 115,535 2,118,681
Net income ...... 78,949 3,322 10,250 5,729 98,250
Year ended
December 31, 1996
Revenues ......... 2,380,587 11,028 44,922 131,618 2,568,155
Net income ...... 216,654 1,746 2,418 (30,954) 189,864
There were no material transactions among the Company, ReLife, SHC, SSCI,
SCA, Advantage Health and Health Images prior to the mergers. The effects of
conforming the accounting policies of the combined companies are not material.
Prior to its merger with the Company, ReLife reported on a fiscal year
ending on September 30. The restated financial statements for all periods prior
to and including December 31, 1994, are based on a combination of the Company's
results for its December 31 fiscal year and ReLife's results for its September
30 fiscal year. Beginning January 1, 1995, all facilities acquired in the ReLife
merger adopted a December 31 fiscal year end; accordingly, all consolidated
financial statements for periods after December 31, 1994 are based on a
consolidation of the Company and the former ReLife subsidiaries on a December 31
year-end. ReLife's historical results of operations for the three months ended
December 31, 1994 are not included in the Company's consolidated statements of
income or cash flows. An adjustment has been made to stockholders' equity as of
January 1, 1995 to adjust for the effect of excluding ReLife's results of
operations for the three months ended December 31, 1994. The following is a
summary of ReLife's results of operations and cash flows for the three months
ended December 31, 1994 (in thousands):
20
HEALTHSOUTH Corporation and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
2. Mergers - (CONTINUED)
Statement of Income Data:
Revenues ....................................... $ 38,174
Operating expenses:
Operating units .............................. 31,797
Corporate general and administrative ......... 2,395
Provision for doubtful accounts ............... 541
Depreciation and amortization .................. 1,385
Interest expense .............................. 858
Interest income ................................. (91)
HEALTHSOUTH merger expense ..................... 3,050
Loss on disposal of fixed assets ............... 1,000
Loss on abandonment of computer project ......... 973
---------
41,908
---------
Net loss ....................................... $ (3,734)
=========
Statement of Cash Flow Data:
Net cash provided by operating activities ...... $ 38,077
Net cash used in investing activities ......... (9,632)
Net cash used in financing activities ......... (23,950)
---------
Net increase in cash ........................... $ 4,495
=========
During the three months ended December 31, 1994, ReLife received $7,141,000
in proceeds from the exercise of stock options.
Prior to its merger with the Company, Advantage Health reported on a fiscal
year ending on August 31. Accordingly, the historical financial statements of
Advantage Health have been recast to a November 30 fiscal year-end to more
closely conform to the Company's calendar fiscal year-end. The restated
financial statements for all periods prior to and including December 31, 1995
are based on a combination of the Company's results for their December 31 fiscal
year and Advantage Health's results for its recast November 30 fiscal year.
Beginning January 1, 1996, all facilities acquired in the Advantage Health
merger adopted a December 31 fiscal year-end; accordingly, all consolidated
financial statements for periods after December 31, 1995 are based on a
consolidation of all of the Company's subsidiaries on a December 31 year-end.
Advantage Health's historical results of operations for the one month ended
December 31, 1995 are not included in the Company's consolidated statements of
income or cash flows. An adjustment has been made to stockholders' equity as of
January 1, 1996 to adjust for the effect of excluding Advantage Health's results
of operations for the one month ended December 31, 1995. The following is a
summary of Advantage Health's results of operations and cash flows for the one
month ended December 31, 1995 (in thousands):
21
HEALTHSOUTH Corporation and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
2. Mergers - (CONTINUED)
Statement of Income Data:
Revenues ............................................. $ 16,111
Operating expenses:
Operating units .................................... 14,394
Corporate general and administrative ............... 1,499
Provision for doubtful accounts ..................... 1,013
Depreciation and amortization ........................ 283
Interest expense .................................... 288
Interest income ....................................... (16)
Loss on impairment of assets ........................ 21,111
---------
38,572
---------
Loss before income taxes and minority interests ...... (22,461)
Benefit for income taxes .............................. 4,959
Minority interest .................................... (136)
---------
Net loss ............................................. $(17,638)
=========
Statement of Cash Flow Data:
Net cash used in operating activities ............... $ (2,971)
Net cash provided by investing activities ............ 105
Net cash used in financing activities ............... (771)
---------
Net decrease in cash ................................. $ (3,637)
=========
In December 1995, Advantage Health recorded an asset impairment charge of
approximately $21,111,000 relating to goodwill and tangible assets identifiable
with one inpatient rehabilitation hospital, one subacute facility and 32
outpatient rehabilitation centers, all acquired by the Company in the Advantage
Health merger. The Company intends to operate these facilities on an ongoing
basis.
The Company has historically assessed recoverability of goodwill and other
long-lived assets using undiscounted cash flows estimated to be received over
the useful lives of the related assets. In December 1995, certain events
occurred which significantly impacted the Company's estimates of future cash
flows to be received from the facilities described above. Those events primarily
related to a decline in operating results combined with a deterioration in the
reimbursement environment at these facilities. As a result of these events, the
Company revised its estimates of undiscounted cash flows to be received over the
remaining estimated useful lives of these facilities and determined that
goodwill and other long-lived assets (primarily property and equipment) had been
impaired. The Company developed its best estimates of future operating cash
flows at these locations considering future requirements for capital
expenditures as well as the impact of inflation. The projections of cash flows
also took into account estimates of significant one-time expenses as well as
estimates of additional revenues and resulting income from future marketing
efforts in the respective locations. The amount of the impairment charge was
determined by discounting the estimates of future cash flows, using an estimated
8.5% incremental borrowing rate, which management believes is commensurate with
the risks involved. The resulting net present value of future cash flows was
then compared to the historical net book value of goodwill and other long-lived
assets at each operating location which resulted in an impairment loss relative
to these centers of $21,111,000.
During 1996, wholly-owned subsidiaries of the Company merged with
Professional Sports Care Management, Inc. ("PSCM"), Fort Sutter Surgery Center,
Inc. ("FSSCI") and ReadiCare, Inc. ("ReadiCare"). In connection with these
mergers the Company issued an aggregate of 8,094,598 shares of its common
stock. Costs and expenses of approximately $12,576,000, primarily legal,
accounting and financial advisory fees,
22
HEALTHSOUTH Corporation and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
2. Mergers - (CONTINUED)
incurred by the Company in connection with the mergers have been recorded in
operations during 1996 and reported as merger expenses in the accompanying
consolidated statements of income.
The PSCM and ReadiCare mergers were accounted for as poolings of interests.
However, due to the immateriality of these mergers, the Company's historical
financial statements for all periods prior to the quarters in which the
respective mergers were completed have not been restated. Instead, stockholders'
equity has been increased by $43,230,000 to reflect the effects of the PSCM
merger and $15,431,000 to reflect the effects of the ReadiCare merger. The
results of operations of PSCM and ReadiCare are included in the accompanying
financial statements from the date of acquisition forward. In addition, the
FSSCI merger was a stock-for-stock acquisition. Stockholders' equity has been
increased by $8,908,000 to reflect the effects of the merger.
3. CASH, CASH EQUIVALENTS AND OTHER MARKETABLE SECURITIES
Cash, cash equivalents and other marketable securities consisted of the
following:
DECEMBER 31
----------------------
1995 1996
---------- ---------
(IN THOUSANDS)
Cash ............................................................ $143,681 $140,278
Cash equivalents ................................................ 11,768 9,793
--------- ---------
Total cash and cash equivalents .............................. 155,449 150,071
Certificates of deposit ....................................... 2,229 1,765
Municipal put bonds ............................................. 615 495
Municipal put bond mutual funds ................................. 500 500
Collateralized mortgage obligations ........................... 1,000 1,000
--------- ---------
Total other marketable securities .............................. 4,344 3,760
--------- ---------
Total cash, cash equivalents and other marketable securities (ap-
proximates market value) $159,793 $153,831
========= =========
For purposes of the consolidated balance sheets and statements of cash
flows, marketable securities purchased with an original maturity of ninety days
or less are considered cash equivalents.
4. OTHER ASSETS
Other assets consisted of the following:
DECEMBER 31
--------------------
1995 1996
--------- --------
(IN THOUSANDS)
Notes and accounts receivable ........................ $24,628 $38,359
Investment in Caretenders Health Corp. ............... 7,417 7,370
Prepaid long-term lease .............................. 8,888 8,397
Investments in other unconsolidated subsidiaries ...... 6,754 15,362
Real estate investments .............................. 14,324 10,020
Trusteed funds ....................................... 1,879 1,879
Other ................................................ 5,127 2,629
-------- --------
$69,017 $84,016
======== ========
23
HEALTHSOUTH Corporation and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
4. Other Assets - (CONTINUED)
The Company has a 19% ownership interest in Caretenders Health Corp.
("Caretenders"); accordingly, the Company's investment is being accounted for
using the equity method of accounting. The investment was initially valued at
$7,250,000. The Company's equity in earnings of Caretenders for the years ended
December 31, 1994, 1995 and 1996 was not material to the Company's results of
operations.
It was not practicable to estimate the fair value of the Company's various
investments in other unconsolidated subsidiaries (involved in operations similar
to those of the Company) because of the lack of a quoted market price and the
inability to estimate fair value without incurring excessive costs. The carrying
amount at December 31, 1996 represents the original cost of the investments,
which management believes is not impaired.
5. PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment consisted of the following:
DECEMBER 31
--------------------------
1995 1996
------------ -----------
(IN THOUSANDS)
Land ................................................ $ 86,020 $ 93,631
Buildings .......................................... 799,286 844,775
Leasehold improvements .............................. 87,216 112,149
Furniture, fixtures and equipment .................. 700,757 801,443
Construction-in-progress ........................... 50,157 73,815
----------- -----------
1,723,436 1,925,813
Less accumulated depreciation and amortization ...... 345,420 460,980
----------- -----------
$1,378,016 $1,464,833
=========== ===========
6. INTANGIBLE ASSETS
Intangible assets consisted of the following:
DECEMBER 31
--------------------------
1995 1996
------------ -----------
(IN THOUSANDS)
Organizational, partnership formation and start-up costs ...... $ 163,839 $ 238,126
Debt issue costs ................................................ 35,531 34,905
Noncompete agreements .......................................... 70,636 86,566
Cost in excess of net asset value of purchased facilities ...... 787,397 947,104
----------- -----------
1,057,403 1,306,701
Less accumulated amortization ................................. 136,433 212,280
----------- -----------
$ 920,970 $1,094,421
=========== ===========
24
HEALTHSOUTH Corporation and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
7. LONG-TERM DEBT
Long-term debt consisted of the following:
DECEMBER 31
--------------------------
1995 1996
------------ -----------
(IN THOUSANDS)
Notes and bonds payable:
Advances under a $1,000,000,000 credit agreement with banks . $ 790,000 $ --
Advances under a $1,250,000,000 credit agreement with banks . -- 995,000
9.5% Senior Subordinated Notes due 2001 ........................ 250,000 250,000
5.0% Convertible Subordinated Debentures due 2001 ............... 115,000 115,000
Notes payable to banks and various other notes payable, at in-
terest rates from 5.5% to 14.9% 241,520 151,384
Hospital revenue bonds payable ................................. 32,337 22,503
Noncompete agreements payable with payments due at intervals
ranging through December 2004 .................................... 24,161 26,256
----------- -----------
1,453,018 1,560,143
Less amounts due within one year ................................. 51,528 47,089
----------- -----------
$1,401,490 $1,513,054
=========== ===========
The fair value of total long-term debt approximates book value at December
31, 1995 and 1996. The fair values of the Company's long-term debt are estimated
using discounted cash flow analysis, based on the Company's current incremental
borrowing rates for similar types of borrowing arrangements.
During 1995, the Company entered into a Credit Agreement with NationsBank,
N.A. ("NationsBank") and other participating banks (the "1995 Credit Agreement")
which consisted of a $1,000,000,000 revolving credit facility. On April 18,
1996, the Company amended and restated the 1995 Credit Agreement to increase the
size of the revolving credit facility to $1,250,000,000 (the "1996 Credit
Agreement"). Interest is paid based on LIBOR plus a predetermined margin, a base
rate, or competitively bid rates from the participating banks. The Company is
required to pay a fee on the unused portion of the revolving credit facility
ranging from 0.08% to 0.25%, depending on certain defined ratios. The principal
amount is payable in full on March 31, 2001. The Company provided a negative
pledge on all assets under the 1996 Credit Agreement, and the lenders released
the first priority security interest in all shares of stock of the Company's
subsidiaries and rights and interests in the Company's controlled partnerships
which had been granted under the 1995 Credit Agreement. At December 31, 1996,
the effective interest rate associated with the 1996 Credit Agreement was
approximately 5.87%.
On March 24, 1994, the Company issued $250,000,000 principal amount of 9.5%
Senior Subordinated Notes due 2001 (the "Notes"). Interest is payable on April 1
and October 1. The Notes are senior subordinated obligations of the Company and
as such are subordinated to all existing and future senior indebtedness of the
Company, and also are effectively subordinated to all existing and future
liabilities of the Company's subsidiaries and partnerships. The Notes rank
senior to all subordinated indebtedness of the Company, including the 5%
Convertible Subordinated Debentures due 2001 described below.
The Notes mature on April 1, 2001.
Also on March 24, 1994, the Company issued $100,000,000 principal amount of
5% Convertible Subordinated Debentures due 2001 (the "Convertible Debentures").
An additional $15,000,000 of Convertible Debentures was issued in April 1994 to
cover underwriters' overallotments. Interest is payable on April 1 and October
1. The Convertible Debentures are convertible into common stock of the Company
at the option of the holder at a conversion price of $9.406 per share, subject
to adjustment upon the occurrence of certain events.
25
HEALTHSOUTH Corporation and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
7. Long-Term Debt - (CONTINUED)
In June 1994, SHC (see Note 2) issued $75,000,000 principal amount of 11.5%
Senior Subordinated Notes due July 15, 2004 (the "SHC Notes"). The proceeds of
the SHC Notes were used to pay down indebtedness outstanding under other
existing credit facilities. During 1995, the Company purchased $67,500,000 of
the $75,000,000 outstanding principal amount of the SHC Notes in a tender offer
at 115% of the face value of the Notes, and the remaining $7,500,000 balance was
purchased on the open market, using proceeds from the Company's other long-term
credit facilities. The loss on retirement of the SHC Notes totaled approximately
$14,606,000. The loss consists of the premium, write-off of unamortized bond
issue costs and other fees and is reported as an extraordinary loss on early
extinguishment of debt in the accompanying 1995 consolidated statement of income
(see Note 2).
Principal maturities of long-term debt are as follows:
YEAR ENDING DECEMBER 31 (IN THOUSANDS)
- - ------------------------- ---------------
1997 ...................................................... $ 47,089
1998 ...................................................... 36,703
1999 ...................................................... 26,085
2000 ...................................................... 24,034
2001 ...................................................... 1,375,570
After 2001 .................................................. 50,662
------------
$ 1,560,143
============
8. STOCK OPTIONS
THE COMPANY HAS VARIOUS STOCKHOLDER-APPROVED STOCK OPTION PLANS WHICH
PROVIDE FOR THE GRANT OF options to directors, officers and other key employees
to purchase common stock at 100% of the fair market value as of the date of
grant. The Audit and Compensation Committee of the Board of Directors
administers the stock option plans. Options may be granted as incentive stock
options or as non-qualified stock options. Incentive stock options vest 25%
annually, commencing upon completion of one year of employment subsequent to the
date of grant. Non-qualified stock options generally are not subject to any
vesting provisions. The options expire at dates ranging from five to ten years
from the date of grant.
In October, 1995, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation ("SFAS 123"). SFAS 123 is effective for fiscal years beginning
after December 15, 1995 and allows for the option of continuing to account for
stock-based compensation under Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees" ("APB 25"), and related
interpretations, or selecting the fair value method of expense recognition as
described in SFAS 123. The Company has elected to follow APB 25 in accounting
for its employee stock options. The Company follows SFAS 123 in accounting for
its non-employee stock options. The total compensation expense associated with
non-employee stock options granted in 1996 was not material.
Pro forma information regarding net income and earnings per share is
required by Statement 123, and has been determined as if the Company had
accounted for its employee stock options under the fair value method of that
Statement. The fair value for these options was estimated at the date of grant
using a Black-Scholes option pricing model with the following weighted-average
assumptions for 1995 and 1996, respectively: risk-free interest rates of 5.87%
and 6.01%; dividend yield of 0%; volatility factors of the expected market price
of the Company's common stock of .36 and .37; and a weighted-average expected
life of the options of 4.3 years.
The Black-Scholes option valuation model was developed for use in
estimating the fair value of traded options which have no vesting restrictions
and are fully transferable. In addition, option valuation models require the
input of highly subjective assumptions including the expected stock price
volatility. Because the
26
HEALTHSOUTH Corporation and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
8. Stock Options - (CONTINUED)
Company's employee stock options have characteristics significantly different
from those of traded options, and because changes in the subjective input
assumptions can materially affect the fair value estimate, in management's
opinion, the existing models do not necessarily provide a reliable single
measure of the fair value of its employee stock options.
For purposes of pro forma disclosures, the estimated fair value of the
options is amortized to expense over the options' vesting period. The Company's
pro forma information follows (in thousands, except for per share amounts):
1995 1996
---- ----
Pro forma net income ............................ $80,059 $162,463
Pro forma earnings per share:
Primary ........................................ $ 0.26 $ 0.48
Fully diluted .................................. $ 0.26 $ 0.48
The effect of compensation expense from stock options on 1995 pro forma net
income reflects only the vesting of 1995 awards. However, 1996 pro forma net
income reflects the second year of vesting of the 1995 awards and the first year
of vesting of 1996 awards. Not until 1998 is the full effect of recognizing
compensation expense for stock options representative of the possible effects on
pro forma net income for future years.
A summary of the Company's stock option activity and related information
for the years ended December 31 follows:
1994 1995 1996
------------------- --------------------- --------------------
WEIGHTED WEIGHTED
AVERAGE AVERAGE
OPTIONS PRICE OPTIONS EXERCISE OPTIONS EXERCISE
(000) RANGE (000) PRICE (000) PRICE
--------- --------- ---------- ---------- ---------- ---------
Options outstanding January 1: ............... 31,547 30,150 $4 35,068 $ 5
Granted ....................................... 3,356 $5 - $9 7,639 9 4,769 17
Exercised .................................... (3,877) $1 - $4 (2,237) 4 (6,709) 5
Canceled .................................... (876) (484) 5 (322) 6
------- -------- --------
Options outstanding at December 31 ............ 30,150 35,068 $5 32,806 $ 7
Options exercisable at December 31 ............ 22,533 26,293 $5 27,678 $ 6
Weighted average fair value of options granted
during the year .............................. N/A $ 3.81 $ 7.13
The following table summarizes information about stock options outstanding
at December 31, 1996:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
--------------------------------------------- ---------------------------
WEIGHTED
AVERAGE WEIGHTED WEIGHTED
EXERCISE OPTIONS REMAINING AVERAGE OPTIONS AVERAGE
PRICE OUTSTANDING CONTRACTUAL EXERCISE EXERCISABLE EXERCISE
RANGE AT 12/31/96 LIFE PRICE AT 12/31/96 PRICE
- - ----------------------- ---------------- ------------- ---------- --------------- ---------
(IN THOUSANDS) (YEARS) (IN THOUSANDS)
Under $8.40............ 21,380 5.50 $ 4.12 20,014 $ 4.08
$8.40 - $16.40......... 9,305 8.55 10.94 7,172 11.59
$16.41 and above ...... 2,121 9.14 18.20 492 19.02
27
HEALTHSOUTH Corporation and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED )
9. ACQUISITIONS
1994 Acquisitions
At various dates during 1994, the Company acquired 53 separate outpatient
operations and a majority equity interest in five outpatient surgery centers
located throughout the United States. The combined purchase price of these
acquired outpatient operations was approximately $80,456,000. The Company also
acquired a specialty medical center in Dallas, Texas, a therapy staffing
service, a diagnostic imaging company, four physical therapy practices and two
home health agencies. The combined purchase price of these operations was
approximately $32,044,000. The form of consideration constituting the total
purchase prices of $112,500,000 was approximately $88,455,000 in cash,
$14,122,000 in notes payable and approximately 624,000 shares of common stock
valued at $9,923,000.
In connection with these transactions, the Company entered into noncompete
agreements with former owners totaling $10,814,000. In general, these noncompete
agreements are payable in monthly or quarterly installments over periods ranging
from five to ten years.
The fair value of the total net assets relating to the 1994 acquisitions
described above was approximately $17,958,000. The total cost for 1994
acquisitions exceeded the fair value of the net assets acquired by approximately
$94,542,000. The Company evaluated each acquisition independently to determine
the appropriate amortization period for the cost in excess of net asset value of
purchased facilities. Each evaluation included an analysis of historic and
projected financial performance, evaluation of the estimated useful lives of
buildings and fixed assets acquired, the indefinite lives of certificates of
need and licenses acquired, the competition within local markets, lease terms
where applicable, and the legal term of partnerships where applicable. Based on
these evaluations, the Company determined that the cost in excess of net asset
value of purchased facilities relating to the 1994 acquisitions should be
amortized over periods ranging from 25 to 40 years on a straight-line basis. No
other identifiable intangible assets were recorded in the acquisitions described
above.
Also during August 1994, Health Images (see Note 2) acquired the remaining
interest in its equity affiliate, National Diagnostic Systems, Inc. ("NDS") and
merged NDS into a wholly-owned subsidiary of the Company, which was renamed
Interactive Diagnostic Services, Inc. ("IDSI"). The total consideration for NDS
included $2,939,000 in common stock, forgiveness debt by NDS to Health Images of
$1,010,000, and other consideration totalling $981,000. Goodwill of $4,272,000
was recorded and acquisition costs of $1,087,000 were expensed. On December 31,
1994, the Company wrote off the $4,272,000 in goodwill related to the NDS
investment in addition to the previous write-off of $1,087,000 in acquisition
costs. In addition, Health Images expensed $219,000 for estimated contract
losses and $539,000 in organization and start-up costs. Health Images filed a
lawsuit on February 21, 1995 against the selling shareholders of NDS asking for
rescission of the acquisition described above and restitution. The complaint
alleges breach of contract, intentional misrepresentation, negligent
misrepresentation and suppession of fact. Health Images discontinued the
operations fo IDSI during the quarter ended March 31, 1995. The loss from
discontinued operations recorded in the accompanying 1994 consolidated income
statement includes an impairment charge of $5,580,000 related to the write-off
of the assets described above. Revenues attributable to discontinued operations
were $402,000 for 1995. The loss from discontinued operations and loss on
disposal of discontinued operations in 1995 totaled $1,874,000, less an income
tax benefit of $712,000.
All of the 1994 acquisitions described above were accounted for as
purchases and, accordingly, the results of operations of the acquired businesses
(not material individually or in the aggregate) are included in the accompanying
consolidated financial statements from their respective dates of acquisition.
1995 Acquisitions
Effective April 1, 1995, the Company acquired the rehabilitation hospitals
division of NovaCare, Inc. ("NovaCare"), consisting of 11 rehabilitation
hospitals, 12 other facilities, and certificates of need to build two other
facilities. The total purchase price for the NovaCare facilities was
approximately
28
HEALTHSOUTH Corporation and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
9. ACQUISITIONS - (CONTINUED)
$235,000,000 in cash. The cost in excess of net asset value was approximately
$173,000,000. Of this excess, approximately $129,000,000 was allocated to
leasehold value and the remaining $44,000,000 to cost in excess of net asset
value of purchased facilities. As part of the acquisition, the Company acquired
approximately $4,790,000 in deferred tax assets. The Company also provided
approximately $10,000,000 for the write-down of certain assets to net realizable
value as the result of a planned facility consolidation in a market where the
Company's existing services overlapped with those of an acquired facility. The
planned employee separations and facility consolidation were completed by the
end of 1995.
Effective December 1, 1995, the Company acquired Caremark Orthopedic
Services Inc. ("Caremark"). At the time of the acquisition, Caremark owned and
operated approximately 120 outpatient rehabilitation centers in 13 states. The
total purchase price was approximately $127,500,000 in cash.
Also at various dates during 1995, the Company acquired 70 separate
outpatient rehabilitation operations located throughout the United States, three
physical therapy practices, one home health agency, one nursing home, 75
licensed subacute beds, five outpatient surgery centers and 16 outpatient
diagnostic imaging operations. The combined purchase prices of these
acquisitions was approximately $178,393,000. The form of consideration
constituting the combined purchase prices was approximately $152,833,000 in cash
and $25,560,000 in notes payable.
In connection with these transactions, the Company entered into noncompete
agreements with former owners totaling $16,222,000. In general, these noncompete
agreements are payable in monthly or quarterly installments over periods ranging
from five to ten years.
The fair value of the total net assets relating to the 1995 acquisitions
described above, excluding the NovaCare acquisition, was approximately
$81,455,000. The total cost of these acquisitions exceeded the fair value of the
net assets acquired by approximately $224,438,000. Based on the evaluation of
each acquisition utilizing the criteria described above, the Company determined
that the cost in excess of net asset value of purchased facilities relating to
the 1995 acquisitions should be amortized over periods ranging from 25 to 40
years on a straight-line basis. No other identifiable intangible assets were
recorded in the acquisitions described above.
All of the 1995 acquisitions described above were accounted for as
purchases and, accordingly, the results of operations of the acquired businesses
are included in the accompanying consolidated financial statements from their
respective dates of acquisition. With the exception of NovaCare, none of the
above acquisitions were material individually or in the aggregate.
1996 Acquisitions
At various dates during 1996, the Company acquired 80 outpatient
rehabilitation facilities, three outpatient surgery centers, one inpatient
rehabilitation hospital, and one diagnostic imaging center. The acquired
operations are located throughout the United States. The total purchase price of
the acquired operations was approximately $104,321,000. The form of
consideration constituting the total purchase prices was approximately
$92,319,000 in cash and $12,002,000 in notes payable.
In connection with these transactions, the Company entered into noncompete
agreements with former owners totaling $11,900,000. In general, these noncompete
agreements are payable in monthly or quarterly installments over periods ranging
from five to ten years.
The fair value of the total net assets relating to the 1996 acquisitions
described above was approximately $40,259,000. The total cost of the 1996
acquisitions exceeded the fair value of the net assets acquired by approximately
$64,062,000. Based on the evaluation of each acquisition utilizing the criteria
described above,
29
HEALTHSOUTH Corporation and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
9. ACQUISITIONS - (CONTINUED)
the Company determined that the cost in excess of net asset value of purchased
facilities relating to the 1996 acquisitions should be amortized over periods
ranging from 25 to 40 years on a straight-line basis. No other identifiable
intangible assets were recorded in the acquisitions described above.
All of the 1996 acquisitions described above were accounted for as
purchases and, accordingly, the results of operations of the acquired businesses
(not material individually or in the aggregate) are included in the accompanying
consolidated financial statements from their respective dates of acquisition.
10. INCOME TAXES
HEALTHSOUTH and its subsidiaries file a consolidated federal income tax
return. The limited partnerships and limited liability companies file separate
income tax returns. HEALTHSOUTH's allocable portion of each partnership's income
or loss is included in the taxable income of the Company. The remaining income
or loss of each partnership is allocated to the limited partners.
The Company utilizes the liability method of accounting for income taxes,
as required by Financial Accounting Standards Board (FASB) Statement No. 109,
"Accounting for Income Taxes".
Significant components of the Company's deferred tax assets and liabilities
as of December 31, 1995 are as follows:
CURRENT NONCURRENT TOTAL
---------- ------------ -------------
(IN THOUSANDS)
Deferred tax assets:
Accruals ................................. $ 8,016 $ -- $ 8,016
Disposal of surgery centers ............... 2,675 -- 2,675
Impairment of assets ..................... 1,309 5,434 6,743
Development costs ........................ -- 849 849
Acquired net operating loss ............... -- 16,277 16,277
Allowance for bad debts .................. 31,650 -- 31,650
Other .................................... 2,084 5,469 7,553
--------- --------- ---------
Total deferred tax assets .................. 45,734 28,029 73,763
Deferred tax liabilities:
Depreciation and amortization ............... -- 42,591 42,591
Non-accrual experience method ............ 14,559 -- 14,559
Purchase price accounting .................. -- 4,802 4,802
Contracts ................................. 3,849 -- 3,849
Capitalized costs ........................ -- 12,916 12,916
Other .................................... 2,522 3,164 5,686
--------- --------- ---------
Total deferred tax liabilities ............ 20,930 63,473 84,403
--------- --------- ---------
Net deferred tax assets (liabilities) ...... $ 24,804 $ (35,444) $ (10,640)
========= ========= =========
At December 31, 1996, the Company has net operating loss carryforwards of
approximately $14,747,000 for income tax purposes expiring through the year
2009. Those carryforwards resulted from the Company's acquisitions of Diagnostic
Health Corporation, Renaissance Rehabilitation Center, Inc., Rebound, Inc. and
Health Images, Inc.
30
HEALTHSOUTH Corporation and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
10. INCOME TAXES - (CONTINUED)
Deferred income taxes reflect the net effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Significant components of
the Company's deferred tax assets and liabilities as of December 31, 1996 are as
follows:
CURRENT NONCURRENT TOTAL
--------- ------------ -------------
(IN THOUSANDS)
Deferred tax assets:
Acquired net operating loss ............... $ -- $ 5,283 $ 5,283
Development costs ........................ -- 849 849
Accruals ................................. 6,634 -- 6,634
Allowance for bad debts .................. 34,700 -- 34,700
Other .................................... 2,433 2,597 5,030
-------- --------- ---------
Total deferred tax assets .................. 43,767 8,729 52,496
Deferred tax liabilities:
Depreciation and amortization ............ -- 20,501 20,501
Purchase price accounting .................. -- 4,802 4,802
Non-accrual experience method ............ 17,694 -- 17,694
Contracts ................................. 3,849 -- 3,849
Capitalized costs ........................ 5,013 22,672 27,685
Other .................................... 1,973 2,604 4,577
-------- --------- ---------
Total deferred tax liabilities ............ 28,529 50,579 79,108
-------- --------- ---------
Net deferred tax assets (liabilities) ...... $15,238 $ (41,850) $ (26,612)
======== ========= =========
The provision for income taxes was as follows:
YEAR ENDED DECEMBER 31,
------------------------------------
1994 1995 1996
------------ --------- ---------
(IN THOUSANDS)
Currently payable:
Federal .................. $ 72,416 $70,629 $116,023
State .................. 10,802 9,586 13,598
--------- -------- ---------
83,218 80,215 129,621
Deferred (benefit) expense:
Federal .................. (12,920) 367 13,281
State .................. (1,738) 29 1,027
--------- -------- ---------
(14,658) 396 14,308
--------- -------- ---------
Total provision ......... $ 68,560 $80,611 $143,929
========= ======== =========
As part of the acquisitions of PSCM, Readicare and FSSCI, the Company
acquired approximately $1,664,000 in deferred tax liabilities.
31
HEALTHSOUTH Corporation and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
10. INCOME TAXES - (CONTINUED)
The difference between the provision for income taxes and the amount
computed by applying the statutory federal income tax rate to income before
taxes was as follows:
YEAR ENDED DECEMBER 31
------------------------------------------
1994 1995 1996
------------ ------------ ------------
(IN THOUSANDS)
Federal taxes at statutory rates ........................ $ 67,795 $ 78,322 $ 134,457
Add (deduct):
State income taxes, net of federal tax benefit ...... 5,254 6,250 9,506
Minority interests ................................. (11,014) (15,102) (17,303)
Disposal/impairment/merger charges .................. 668 9,955 6,563
Other ................................................ 5,857 1,186 10,706
--------- --------- ---------
$ 68,560 $ 80,611 $ 143,929
========= ========= =========
11. COMMITMENTS AND CONTINGENCIES
The Company is a party to legal proceedings incidental to its business. In
the opinion of management, any ultimate liability with respect to these actions
will not materially affect the consolidated financial position or results of
operations of the Company.
At December 31, 1996, anticipated capital expenditures for the next twelve
months are $350,000,000. This amount includes expenditures for maintenance and
expansion of the Company's existing facilities as well as development and
integration of the Company's services in selected metropolitan markets.
Beginning December 1, 1993, the Company became self-insured for
professional liability and comprehensive general liability. The Company
purchased coverage for all claims incurred prior to December 1, 1993. In
addition, the Company purchased underlying insurance which would cover all
claims once established limits have been exceeded. It is the opinion of
management that at December 31, 1996, the Company has adequate reserves to cover
losses on asserted and unasserted claims.
Prior to consummation of the SCA and Advantage Health mergers (see Note 2),
these companies carried professional malpractice and general liability
insurance. The policies were carried on a claims made basis. The companies had
policies in place to track and monitor incidents of significance. Management is
unaware of any claims that may result in a loss in excess of amounts covered by
existing insurance.
Operating leases generally consist of short-term lease agreements for
buildings where facilities are located. These leases generally have 5-year
terms, with one or more renewal options, with terms to be negotiated at the time
of renewal. Total rental expense for all operating leases was $77,228,000,
$103,308,000 and $131,994,000 for the years ended December 31, 1994, 1995 and
1996, respectively.
The following is a schedule of future minimum lease payments under all
operating leases having initial or remaining non-cancelable lease terms in
excess of one year:
YEAR ENDING DECEMBER 31 (IN THOUSANDS)
------------------------- ---------------
1997 .................. $111,140
1998 .................. 101,651
1999 .................. 88,490
2000 .................. 73,625
2001 .................. 57,165
After 2001 ............ 251,915
---------
$683,986
=========
32
HEALTHSOUTH Corporation and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED )
12. EMPLOYEE BENEFIT PLANS
The Company has a 401(k) savings plan which matches 15% of the first 4% of
earnings that an employee contributes. All contributions are in the form of
cash. All employees who have completed one year of service with a minimum of
1,000 hours worked are eligible to participate in the plan. Company
contributions are gradually vested over a seven-year service period.
Contributions to the plan by the Company were approximately $1,293,000,
$1,408,000 and $2,420,000 in 1994, 1995 and 1996, respectively.
In 1991, the Company established an Employee Stock Ownership Plan ("ESOP")
for the purpose of providing substantially all employees of the Company the
opportunity to save for their retirement and acquire a proprietary interest in
the Company. The ESOP currently owns approximately 3,320,000 shares of the
Company's common stock, which were purchased with funds borrowed from the
Company, $10,000,000 in 1991 (the "1991 ESOP Loan") and $10,000,000 in 1992 (the
"1992 ESOP Loan"). At December 31, 1996, the combined ESOP Loans had a balance
of $14,148,000. The 1991 ESOP Loan, which bears an interest rate of 10%, is
payable in annual installments covering interest and principal over a ten-year
period beginning in 1992. The 1992 ESOP Loan, which bears an interest rate of
8.5%, is payable in annual installments covering interest and principal over a
ten-year period beginning in 1993. Company contributions to the ESOP began in
1992 and shall at least equal the amount required to make all ESOP loan
amortization payments for each plan year. The Company recognizes compensation
expense based on the shares allocated method. Compensation expense related to
the ESOP recognized by the Company was $3,673,000, $3,524,000 and $3,198,000 in
1994, 1995 and 1996, respectively. Interest incurred on the ESOP Loans was
approximately $1,608,000, $1,460,000 and $1,298,000 in 1994, 1995 and 1996,
respectively. Approximately 1,212,000 shares owned by the ESOP have been
allocated to participants at December 31, 1996.
During 1993, the American Institute of Certified Public Accountants issued
Statement of Position 93-6, "Employers Accounting for Employee Stock Ownership
Plans" ("SOP 93-6"). Among other provisions, SOP 93-6 requires that compensation
expense relating to employee stock ownership plans be measured based on the fair
market value of the shares when allocated to the employees. The provisions of
SOP 93-6 apply only to leveraged ESOPs formed after December 31, 1992, or shares
newly acquired by an existing leveraged ESOP after December 31, 1992. Because
all shares owned by the Company's ESOP were acquired prior to December 31, 1992,
the Company's accounting policies for the shares currently owned by the ESOP are
not affected by SOP 93-6.
13. LOSS ON DISPOSAL OF SURGERY CENTERS
During the fourth quarter of 1994, the Company adopted a formal plan to
dispose of three surgery centers and certain other properties during 1995.
Accordingly, a loss of $13,197,000 was made to reflect the expected losses
resulting from the disposal of these centers. The loss is comprised primarily of
losses on the sale of owned facilities and equipment, write-off of intangible
and other assets, and accrual of future operating lease obligations and
estimated operating losses through the anticipated date of disposal.
The following are the major components of the loss (in thousands):
Write-down of land, buildings and equipment ....................................... $ 4,806
Write-off of excess of cost over fair value of net assets acquired and other assets 2,762
Estimated operating losses through anticipated date of disposal ..................... 1,750
Accrual of future lease commitments and other obligations resulting from disposal ... 3,879
--------
$13,197
========
The closings of the three surgery centers were completed by December 31,
1995. An accrual of $929,000 is included in accrued liabilities on the
accompanying December 31, 1995 consolidated balance sheet for the remaining
costs to be incurred relative to the disposal of these surgery centers and the
other properties. The remaining accrual was used in 1996.
33
HEALTHSOUTH Corporation and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
14. IMPAIRMENT OF LONG-TERM ASSETS
During 1994, certain events occurred which impaired the value of specific
long-term assets of ReLife (see Note 2). A hospital in Missouri with a distinct
part unit which ReLife was managing was purchased in 1994 by an acute care
provider which terminated the contract with ReLife. Remaining goodwill of
$1,700,000 and costs allocated to the management contract of $1,300,000 were
written off as there is no value remaining for the terminated contract.
A ReLife facility in central Florida incurred tornado damage and has not
operated since September 1993. During 1994, management of ReLife determined that
it was probable that this facility would not reopen. Start-up costs of
$1,600,000 were written off. This facility is leased under an operating lease as
described in Note 11 through the year 2001. An impairment accrual has been
established based on the projected undiscounted net cash flows related to this
non-operating facility for the remainder of the lease term. The accrual totaled
$5,900,000 and consists of $4,700,000 in lease payments and $1,200,000 in fixed
costs and operating expenses, including property taxes, maintenance, security
and other related costs.
During 1994, ReLife entered into a contract for a new information system.
Payments under the contract and related costs were capitalized during the year.
After the agreement to merge with HEALTHSOUTH was entered into, the computer
project was abandoned, resulting in a write-off of capitalized cost of
$4,500,000.
In 1995, the Company recorded an asset impairment charge of approximately
$53,549,000 relating to goodwill and tangible assets identifiable with fourteen
surgery centers. Approximately $47,984,000 of this charge related to ten surgery
centers which the Company intends to operate on an ongoing basis, while the
remaining loss of $5,565,000 is identifiable with four surgery centers which the
Company decided during the fourth quarter of 1995 to close.
With respect to the ten surgery centers the Company intends to continue
operating, certain events occurred in the fourth quarter of 1995 which
significantly impacted the Company's estimates of future cash flows to be
received from these centers. Those events primarily related to a decline in
operating results combined with a deterioration in relationships with key
physicians at certain of those locations. As a result of these events, the
Company revised its estimates of undiscounted cash flows to be received over the
remaining estimated useful lives of these centers and determined that goodwill
and other long-lived assets (primarily property and equipment) had been
impaired. The Company developed its best estimates of future operating cash
flows at these locations considering future requirements for capital
expenditures as well as the impact of inflation. The projections of cash flows
also took into account estimates of significant one-time expenses as well as
estimates of additional revenues and resulting income from future marketing
efforts in the respective locations. The amount of the impairment charge was
determined by discounting the estimates of future cash flows, using an estimated
8.5% incremental borrowing rate which management believes is commensurate with
the risks involved. The resulting net present value of future cash flows was
then compared to the historical net book value of goodwill and other long-lived
assets at each operating location which resulted in an impairment loss relative
to these centers of $47,984,000.
The remaining impairment charge of $5,565,000 relating to the centers to be
closed was based on the fair value of the related assets less estimated costs to
sell. One of these facilities is expected to be sold by the middle of 1997. The
Company continues to operate the remaining three facilities and is evaluating
its alternatives for their disposition. Assets held for sale having a remaining
net book value of $2,839,000 and $2,309,000 are included in property and
equipment on the accompanying December 31, 1995 and 1996 balance sheets,
respectively.
The above amounts are included in operations for 1995 in the accompanying
consolidated statement of income.
34
HEALTHSOUTH Corporation and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
14. IMPAIRMENT OF LONG-TERM ASSETS - (CONTINUED)
In 1996, the Company recorded an asset impairment charge of approximately
$37,390,000 relating to tangible assets identifiable with the development and
manufacture of the HI Standard and HI STAR MRI systems. Improvements in
technology, and the related reduction in purchase price, of high field (1.5
Tesla) MRI systems significantly affected the viability of continued development
and manufacture of mid field (0.6 Tesla) MRI systems. Both the HI Standard and
HI STAR MRI systems were mid field systems. The impairment charge was based on
the fair value of the related assets.
15. SUBSEQUENT EVENTS
On January 18, 1997, the Company's Board of Directors authorized a
two-for-one stock split to be effected in the form of a 100% stock dividend,
subject to the approval by the Company's stockholders of an amendment to its
Certificate of Incorporation increasing the number of authorized shares of
common stock from 250,000,000 to 500,000,000. The Company's stockholders
approved the amendment on March 12, 1997. The stock dividend is payable on March
17, 1997 to holders of record on March 13, 1997. Accordingly, all share and per
share amounts included in the accompanying financial statements have been
restated to give effect to the stock split. The stock dividend is reflected in
the accompanying statement of stockholders' equity as a 1996 transaction.
On February 17, 1997, the Company entered into a definitive agreement to
acquire Horizon/CMS Healthcare Corporation ("Horizon/CMS") in a stock-for-stock
merger in which the stockholders of Horizon/CMS will receive .84338 (after
adjustment for the two-for-one stock split) of a share of the Company's common
stock per share of Horizon/CMS common stock. The transaction is valued at
approximately $1,600,000,000, including the assumption by the Company of
approximately $700,000,000 in Horizon/CMS debt. It is expected that the
acquisition will be accounted for as a purchase. Horizon/CMS operates 32
inpatient rehabilitation hospitals, 37 specialty hospitals and subacute units
and 278 outpatient rehabilitation centers. Horizon/CMS also owns, leases or
manages 134 long-term care facilities, a contract therapy business, an
institutional pharmacy business and other healthcare services. Consummation of
the transaction is subject to various regulatory approvals, including clearance
under the Hart-Scott-Rodino Antitrust Improvements Act, and to the satisfaction
of certain other conditions. The Company currently anticipates that the
transaction will be consummated by October 1997.
35
ITEM 7: FINANCIAL STATEMENTS AND EXHIBITS.
(a) Financial Statements of businesses acquired: Not applicable.
(b) Pro forma financial information: Not applicable.
(c) The following are filed as Exhibits to this Report:
Exhibit (11) -- Statement Re: Computation of Per Share Earnings.
Exhibit (23) -- Consent of Ernst & Young LLP.
Exhibit (27) -- Financial Data Schedule.
(d) Financial Statement Schedules.
Schedule II: Valuation and Qualifying Accounts
36
SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E
- - ------------------------------- -------------- ------------------------------- ------------- ---------------
ADDITIONS
ADDITIONS CHARGED TO
BALANCE AT CHARGED TO OTHER
BEGINNING OF COSTS AND ACCOUNTS DEDUCTIONS BALANCE AT END
DESCRIPTION PERIOD EXPENSES DESCRIBE DESCRIBE OF PERIOD
- - ------------------------------- -------------- ------------ ---------------- ------------- ---------------
Year ended December 31, 1994:
Allowance for doubtful
accounts .................. $ 34,871 $ 35,740 $ 6,850(1) $ 32,799(2) $44,662
Year ended December 31, 1995:
Allowance for doubtful
accounts .................. $ 44,662 $ 42,305 $ 21,078(1) $ 47,945(2) $ 60,100
Year ended December 31, 1996:
Allowance for doubtful
accounts .................. $ 60,100 $ 58,637 $ 13,643(1) $ 57,020(2) $ 75,360
- - ----------
(1) Allowances of acquisitions in years 1994, 1995 and 1996, respectively.
(2) Write-offs of uncollectible patient accounts receivable.
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 hereunto duly authorized.
HEALTHSOUTH CORPORATION
By /s/ WILLIAM W. HORTON
--------------------------------------
William W. Horton
Senior Vice President
Date: August 26, 1997