SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934 for the quarterly period ended June 30, 1998; or
[ ] Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 for the transition period from ____________ to
_____________.
Commission File Number 1-10315
HEALTHSOUTH CORPORATION
------------------------------------------------------
(Exact Name of Registrant as Specified in its Charter)
Delaware 63-0860407
- - ------------------------------- ----------------
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
ONE HEALTHSOUTH PARKWAY, BIRMINGHAM, ALABAMA 35243
--------------------------------------------------
(Address of Principal Executive Offices)
(Zip Code)
(205) 967-7116
----------------------------------------------------
(Registrant's Telephone Number, Including Area Code)
Indicate by check mark whether the Registrant (1) has filed all Reports
required to be filed by Section 13 or 15(d) of the Securities and Exchange Act
of 1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such Reports), and (2) has been subject to such
filing requirements for the past 90 days.
YES X NO
--- ---
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date.
Class Outstanding at August 10, 1998
- - ----------------------- ------------------------------
COMMON STOCK, PAR VALUE 422,618,280 SHARES
$.01 PER SHARE
HEALTHSOUTH CORPORATION AND SUBSIDIARIES
QUARTERLY REPORT ON FORM 10-Q
INDEX
PART 1 -- FINANCIAL INFORMATION
Page
Item 1. Financial Statements
Consolidated Balance Sheets -- June 30, 1998 (Unaudited)
and December 31, 1997 3
Consolidated Statements of Income (Unaudited) -- Three Months
and Six Months Ended June 30, 1998 and 1997 4
Consolidated Statements of Cash Flows (Unaudited) -- Six
Months Ended June 30, 1998 and 1997 5
Notes to Consolidated Financial Statements (Unaudited) --
Three Months and Six Months Ended June 30, 1998 and 1997 7
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 9
PART II -- OTHER INFORMATION
Item 2. Changes in Securities 16
Item 4. Submission of Matters to a Vote of Security Holders 16
Item 6. Exhibits and Reports on Form 8-K 17
2
PART I -- FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
HEALTHSOUTH CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
JUNE 30, DECEMBER 31,
1998 1997
--------------- --------------
(Unaudited)
ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 200,290 $ 148,073
Other marketable securities 4,256 4,326
Accounts receivable 891,391 745,994
Inventories, prepaid expenses, and
other current assets 251,667 184,805
----------- -----------
TOTAL CURRENT ASSETS 1,347,604 1,083,198
OTHER ASSETS 249,068 223,718
PROPERTY, PLANT AND EQUIPMENT--NET 2,154,342 1,850,765
INTANGIBLE ASSETS--NET 2,361,764 2,243,372
----------- -----------
TOTAL ASSETS $ 6,112,778 $ 5,401,053
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable $ 41,638 $ 124,058
Salaries and wages payable 118,975 121,768
Income taxes payable 8,848 92,507
Deferred income taxes 18,302 34,119
Accrued interest payable and other liabilities 65,743 97,506
Current portion of long-term debt 47,600 46,489
----------- -----------
TOTAL CURRENT LIABILITIES 301,106 516,447
LONG-TERM DEBT 2,190,706 1,555,335
DEFERRED INCOME TAXES 47,062 76,613
DEFERRED REVENUE AND OTHER LONG-TERM LIABILITIES 1,165 1,538
MINORITY INTERESTS--LIMITED PARTNERSHIPS 98,910 93,692
STOCKHOLDERS' EQUITY:
Preferred Stock, $.10 par value--1,500,000
shares authorized; issued and outstanding--
none 0 0
Common Stock, $.01 par value--600,000,000
shares authorized; 401,817,000 and 395,233,000
shares issued at June 30, 1998 and
December 31, 1997, respectively 4,018 3,952
Additional paid-in capital 2,406,903 2,317,821
Retained earnings 1,078,580 853,641
Treasury stock (323) (323)
Receivable from Employee Stock Ownership Plan (10,169) (12,247)
Notes receivable from stockholders (5,180) (5,416)
----------- -----------
TOTAL STOCKHOLDERS' EQUITY 3,473,829 3,157,428
----------- -----------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 6,112,778 $ 5,401,053
=========== ===========
See accompanying notes.
3
HEALTHSOUTH CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED - IN THOUSANDS, EXCEPT FOR PER SHARE DATA)
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
------------------------------ ------------------------------
1998 1997 1998 1997
----------- ------------ ----------- -----------
Revenues $ 942,482 $ 723,017 $ 1,850,145 $ 1,414,648
Operating unit expenses 578,637 451,650 1,140,128 889,939
Corporate general and administrative expenses 26,257 18,509 52,681 36,358
Provision for doubtful accounts 21,970 18,075 43,723 32,788
Depreciation and amortization 80,331 60,145 153,713 117,516
Merger costs 0 0 0 15,875
Interest expense 28,582 27,742 56,918 53,415
Interest income (2,881) (1,284) (4,522) (2,322)
----------- ----------- ----------- -----------
732,896 574,837 1,442,641 1,143,569
----------- ----------- ----------- -----------
Income before income taxes and
minority interests 209,586 148,180 407,504 271,079
Provision for income taxes 75,265 50,054 145,484 92,465
----------- ----------- ----------- -----------
Income before minority interests 134,321 98,126 262,020 178,614
Minority interests (17,093) (16,807) (35,424) (32,715)
----------- ----------- ----------- -----------
Net income $ 117,228 $ 81,319 $ 226,596 $ 145,899
=========== =========== =========== ===========
Weighted average common shares outstanding 400,628 340,045 399,540 334,233
=========== =========== =========== ===========
Net income per common share $ 0.29 $ 0.24 $ 0.57 $ 0.44
=========== =========== =========== ===========
Weighted average common shares
outstanding -- assuming dilution 428,216 354,982 420,248 355,340
=========== =========== =========== ===========
Net income per common share --
assuming dilution $ 0.28 $ 0.23 $ 0.55 $ 0.41
=========== =========== =========== ===========
See accompanying notes.
4
HEALTHSOUTH CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED - IN THOUSANDS)
SIX MONTHS ENDED
JUNE 30,
-----------------------------------
1998 1997
---------------- ---------------
OPERATING ACTIVITIES
Net income $ 226,596 $ 145,899
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation and amortization 153,713 117,516
Provision for doubtful accounts 43,723 32,788
Income applicable to minority interests of
limited partnerships 35,424 32,715
Merger costs 0 15,875
Provision for deferred income taxes 8,730 6,036
Provision for deferred revenue 0 171
Changes in operating assets and liabilities,
net of effects of acquisitions:
Accounts receivable (180,481) (109,810)
Inventories, prepaid expenses and other current
assets (66,512) (21,226)
Accounts payable and accrued expenses 1,734 (66,796)
----------- -----------
NET CASH PROVIDED BY
OPERATING ACTIVITIES 222,927 153,168
INVESTING ACTIVITIES
Purchases of property, plant and equipment (292,318) (219,209)
Additions to intangible assets, net of effects of
acquisitions (25,920) (57,579)
Assets obtained through acquisitions, net of liabilities
assumed (170,721) (56,241)
Payments on purchase accounting accruals related to 1997 acquisitions
and dispositions (274,507) 0
Changes in other assets (22,176) (17,007)
Proceeds received on sale of other marketable
securities 70 60
Investments in other marketable securities 0 (139)
----------- -----------
NET CASH USED IN
INVESTING ACTIVITIES (785,572) (350,115)
FINANCING ACTIVITIES
Proceeds from borrowings 1,676,348 339,666
Principal payments on long-term debt (1,083,727) (109,856)
Proceeds from exercise of options 51,790 18,948
Reduction in receivable from Employee Stock
Ownership Plan 2,078 1,901
Decrease in loans to stockholders 236 50
Proceeds from investment by minority interests 1,662 548
Payment of cash distributions to limited partners (33,525) (28,550)
----------- -----------
NET CASH PROVIDED BY
FINANCING ACTIVITIES 614,862 222,707
----------- -----------
INCREASE IN CASH AND
CASH EQUIVALENTS 52,217 25,760
Cash and cash equivalents at beginning of period 148,073 150,071
----------- -----------
CASH AND CASH EQUIVALENTS
AT END OF PERIOD $ 200,290 $ 175,831
=========== ===========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION Cash paid during the year for:
Interest $ 62,322 $ 53,454
Income taxes 261,612 86,888
5
HEALTHSOUTH CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
(UNAUDITED - IN THOUSANDS)
Non-cash investing activities:
During 1998, the Company issued 699,000 shares of its common stock with a
market value of $19,397,000 as consideration for acquisitions accounted for
as purchases.
Non-cash financing activities:
The holders of the Company's $115,000,000 in aggregate principal amount of
5% Convertible Subordinated Debentures due 2001 surrendered the Debentures
for conversion into approximately 12,226,000 shares of the Company's Common
Stock at various dates during 1997.
During 1997, the Company had a two-for-one stock split on its common stock,
which was effected in the form of a 100% stock dividend.
The Company received a tax benefit from the disqualifying disposition of
incentive stock options of $17,961,000 for the six months ended June 30,
1998.
See accompanying notes.
6
HEALTHSOUTH CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS AND SIX MONTHS ENDED JUNE 30, 1998 AND 1997
NOTE 1 -- The accompanying consolidated financial statements include the
accounts of HEALTHSOUTH Corporation (the "Company") and its
subsidiaries. This information should be read in conjunction with
the Company's Annual Report on Form 10-K for the fiscal year ended
December 31, 1997. It is management's opinion that the accompanying
consolidated financial statements reflect all adjustments (which are
normal recurring adjustments, except as otherwise indicated)
necessary for a fair presentation of the results for the interim
period and the comparable period presented.
NOTE 2 -- The Company has a $1,750,000,000 revolving credit facility with
NationsBank, N.A. ("NationsBank") and other participating banks (the
"1998 Credit Agreement"). The 1998 Credit Agreement replaced a
previous $1,250,000,000 revolving credit agreement, also with
NationsBank, consisting of a $350,000,000 two-year amortizing term
note maturing on December 31, 1999, and a $900,000,000 revolving
credit facility. In conjunction with the 1998 Credit Agreement, the
Company also canceled its $350,000,000 364-day interim revolving
credit facility with NationsBank. Interest on the 1998 Credit
Agreement 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 based on the unused portion of the
revolving credit facility ranging from 0.09% to 0.25%, depending on
certain defined ratios. The principal amount is payable in full on
June 22, 2003. The Company has provided a negative pledge on all
assets under the 1998 Credit Agreement.
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. The net proceeds from the issuance of the Notes were used
by the Company to pay down indebtedness outstanding under its
existing credit facilities.
On March 20, 1998, the Company issued $500,000,000 in 3.25%
Convertible Subordinated Debentures due 2003 (the "3.25% Convertible
Debentures") in a private placement. An additional $67,750,000
principal amount of the 3.25% Convertible Debentures was issued on
March 31, 1998 to cover underwriters' overallotments. Interest is
payable on April 1 and October 1. The 3.25% Convertible Debentures
are convertible into Common Stock of the Company at the option of
the holder at a conversion price of $36.625 per share, subject to
adjustment upon the occurrence of certain events. The net proceeds
from the issuance of the 3.25% Convertible Debentures were used by
the Company to pay down indebtedness outstanding under its existing
credit facilities.
On June 22, 1998, the Company issued $250,000,000 in 6.875% Senior
Notes due 2005 and $250,000,000 in 7.0% Senior Notes due 2008
(collectively, the "Senior Notes"). Interest is payable on June 15
and December 15 of each year, commencing on December 15, 1998. The
Senior Notes are unsecured, unsubordinated obligations of the
Company. The net proceeds from the issuance of the Senior Notes were
used by the Company to pay down indebtedness outstanding under its
existing credit facilities.
7
At June 30, 1998, and December 31, 1997, long-term debt consisted of the
following:
June 30, December 31,
1998 1997
----------------- -----------------
(in thousands)
Advances under the 1998 Credit Agreement $ 750,000 $ 1,175,000
9.5% Senior Subordinated Notes due 2001 250,000 250,000
3.25% Convertible Subordinated Debentures
due 2003 567,750 0
6.875% Senior Notes due 2005 250,000 0
7.0% Senior Notes due 2008 250,000 0
Other long-term debt 170,556 176,824
----------------- -----------------
2,238,306 1,601,824
Less amounts due within one year 47,600 46,489
----------------- -----------------
$2,190,706 $1,555,335
================= =================
NOTE 3 -- During the first six months of 1998, the Company acquired 73
outpatient rehabilitation facilities, three outpatient surgery
centers and 11 diagnostic imaging centers. The total purchase price
of the acquired facilities was approximately $190,118,000. The
Company also entered into non-compete agreements totaling
approximately $15,946,000 in connection with these transactions. The
cost in excess of the acquired facilities' net asset value was
approximately $110,957,000. The results of operations (not material
individually or in the aggregate) of these acquisitions are included
in the consolidated financial statements from their respective
acquisition dates.
Effective July 1, 1998, the Company acquired Columbia/HCA Healthcare
Corporation's interests in 33 ambulatory surgery centers in a
transaction to be accounted for as a purchase. Effective July 31,
1998, the Company entered into certain other arrangements to acquire
substantially all of the economic benefit of Columbia/HCA's
interests in one additional ambulatory surgery center. The
transaction was valued at approximately $550,000,000.
On July 22, 1998, the Company consummated the acquisition of
National Surgery Centers, Inc. ("NSC") in a transaction to be
accounted for as a pooling of interests. A total of 20,426,261
shares of the Company's Common Stock were issued in the transaction,
representing a value of approximately $567,779,000 at the time of
the acquisition. NSC operates 40 outpatient surgery centers in 14
states.
NOTE 4 -- During the first six months of 1998, the Company granted incentive
and nonqualified stock options to certain Directors, employees and
others for 465,000 shares of Common Stock at exercise prices ranging
from $26.94 to $28.06 per share.
8
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
GENERAL
The Company provides outpatient and rehabilitative healthcare services
through its inpatient and outpatient rehabilitation facilities, surgery centers,
diagnostic centers and medical centers. The Company has expanded its operations
through the acquisition or opening of new facilities and satellite locations and
by enhancing its existing operations. As of June 30, 1998, the Company had over
1,900 locations in 50 states, the United Kingdom and Australia, including
approximately 1,240 outpatient rehabilitation locations, 132 inpatient
rehabilitation facilities, four medical centers, 176 surgery centers, 119
diagnostic centers and approximately 239 locations providing other patient care
services.
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 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, a 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 to the
estimated fair market value.
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. The Company may, from
time to time, close or consolidate similar locations in multi-site markets to
obtain efficiencies and respond to changes in demand.
9
RESULTS OF OPERATIONS -- THREE MONTHS ENDED JUNE 30, 1998
The Company operated approximately 1,240 outpatient locations (which
includes base facilities and satellites) at June 30, 1998, compared to
approximately 830 outpatient locations at June 30, 1997. In addition, the
Company operated 132 inpatient rehabilitation facilities, four medical centers,
176 surgery centers, and 119 diagnostic centers at June 30, 1998, compared with
99 inpatient facilities, four medical centers, 142 surgery centers and 77
diagnostic centers at June 30, 1997.
The Company's operations generated revenues of $942,482,000 for the quarter
ended June 30, 1998, an increase of $219,465,000, or 30.4%, as compared to the
same period in 1997. The increase in revenues is primarily attributable to
increases in patient volume and the addition of new outpatient, inpatient,
diagnostic and surgery centers. Same store revenues for the quarter ended June
30, 1998, were $797,900,000, an increase of $74,883,000, or 10.4%, as compared
to the same period in 1997. New store revenues were $144,582,000. Revenues
generated from patients under Medicare and Medicaid plans respectively accounted
for 36.1% and 2.6% of revenue for the second quarter of 1998, compared to 38.0%
and 2.3% for the same period in 1997. Revenues from any other single third-party
payor were not significant in relation to the Company's revenues. During the
second quarter of 1998, same store outpatient visits, inpatient days, surgical
cases and diagnostic cases increased 16.9%, 10.1%, 6.8% and 10.5%, respectively.
Revenue per outpatient visit, inpatient day, surgical case and diagnostic case
for same store operations increased (decreased) by 0.6%, 0.4%, (0.7)% and 0.3%,
respectively.
Operating expenses, at the operating unit level, were $578,637,000, or
61.4% of revenues, for the quarter ended June 30, 1998, compared to 62.5% of
revenues for the second quarter of 1997. The decrease in operating expenses as a
percentage of revenues is primarily attributable to the 10.4% increase in same
store revenues noted above. In same store operations, the incremental costs
associated with increased revenues are significantly less as a percentage of
those increased revenues. Same store operating expenses were $487,960,000, or
61.2% of comparable revenue. New store operating expenses were $90,677,000, or
62.7% of comparable revenue. Corporate general and administrative expenses
increased from $18,509,000 during the 1997 quarter to $26,257,000 during the
1998 quarter. As a percentage of revenue, corporate general and administrative
expenses increased from 2.6% in the 1997 quarter to 2.8% in the 1998 quarter.
The provision for doubtful accounts was $21,970,000, or 2.3% of revenues, for
the second quarter of 1998, compared to $18,075,000, or 2.5% of revenues, for
the same period in 1997. Management believes that this provision is adequate to
cover any uncollectible revenues.
Depreciation and amortization expense was $80,331,000 for the quarter ended
June 30, 1998, compared to $60,145,000 for the same period in 1997. The increase
represents the investment in additional assets by the Company. Interest expense
was $28,582,000 for the quarter ended June 30, 1998, compared to $27,742,000 for
the quarter ended June 30, 1997. For the second quarter of 1998, interest income
was $2,881,000, compared to $1,284,000 for the second quarter of 1997.
Income before minority interests and income taxes for the second quarter of
1998 was $209,586,000, compared to $148,180,000 for the same period in 1997.
Minority interests decreased income before income taxes by $17,093,000 for the
quarter ended June 30, 1998, compared to decreasing income before income taxes
by $16,807,000 for the second quarter of 1997. The provision for income taxes
for the second quarter of 1998 was $75,265,000, compared to $50,054,000 for the
same period in 1997, resulting in effective tax rates of 39.1% and 38.1%,
respectively. Net income for the second quarter of 1998 was $117,228,000,
compared to $81,319,000 for the second quarter of 1997.
10
RESULTS OF OPERATIONS -- SIX MONTHS ENDED JUNE 30, 1998
Revenues for the six months ended June 30, 1998, were $1,850,145,000, an
increase of $435,497,000, or 30.8%, over the six months ended June 30, 1997.
Same store revenues were $1,561,114,000, an increase of $146,466,000, or 10.4%,
as compared to the same period in 1997. New store revenues were $289,031,000.
Revenues generated from patients under Medicare and Medicaid plans respectively
accounted for 35.8% and 2.6% of revenue for the first six months of 1998,
compared to 37.9% and 2.4% for the same period in 1997. Revenues from any other
single third-party payor were not significant in relation to the Company's
revenues. During the first six months of 1998, same store outpatient visits,
inpatient days, surgical cases and diagnostic cases increased 17.8%, 10.1%, 7.2%
and 11.0%, respectively. Revenue per outpatient visit, inpatient day, surgical
case and diagnostic case for same store operations increased (decreased) by
1.1%, 0.4%, (0.9)% and (0.5)%, respectively.
Operating expenses, at the operating unit level, were $1,140,128,000, or
61.6% of revenues, for the six months ended June 30, 1998, as compared to
$889,939,000, or 62.9% of revenues, for the first six months of 1997. Same store
operating expenses were $956,594,000, or 61.3% of comparable revenue. New store
operating expenses were $183,534,000, or 63.5% of comparable revenue. As a
result of its acquisition of Health Images, Inc., the Company recognized
$15,875,000, primarily representing accounting, legal and financial advisory
services, in merger costs during the first quarter of 1997. Net income for the
six months ended June 30, 1998, was $226,596,000, compared to $145,899,000 for
the same period in 1997.
LIQUIDITY AND CAPITAL RESOURCES
As of June 30, 1998, the Company had working capital of $1,046,498,000,
including cash and marketable securities of $204,546,000. Working capital at
December 31, 1997, was $566,751,000, including cash and marketable securities of
$152,399,000. For the first six months of 1998, cash provided by operations was
$222,927,000, compared to $153,168,000 for the same period in 1997. Additions to
property, plant, and equipment and acquisitions accounted for $292,318,000 and
$170,721,000, respectively, during the first six months of 1998. Those same
investing activities accounted for $219,209,000 and $56,241,000, respectively,
in the same period in 1997. Financing activities provided $614,862,000 and
$222,707,000 during the first six months of 1998 and 1997, respectively. Net
borrowing proceeds (borrowing less principal reductions) for the first six
months of 1998 and 1997 were $592,621,000 and $229,810,000, respectively.
Accounts receivable were $891,391,000 at June 30, 1998, compared to
$745,994,000 at December 31, 1997. The number of days of average revenues in
average receivables at June 30, 1998, was 76.5, compared to 75.7 days of average
revenues in average receivables at December 31, 1997. The concentration of net
accounts receivable from patients, third-party payors, insurance companies and
others at June 30, 1998, is consistent with the related concentration of
revenues for the period then ended.
The Company has a $1,750,000,000 revolving credit facility with
NationsBank, N.A. ("NationsBank") and other participating banks (the "1998
Credit Agreement"). The 1998 Credit Agreement replaced a previous $1,250,000,000
revolving credit agreement, also with NationsBank, consisting of a $350,000,000
two-year amortizing term note maturing on December 31, 1999, and a $900,000,000
revolving credit facility. In conjunction with the 1998 Credit Agreement, the
Company also canceled its $350,000,000 364-day interim revolving credit facility
with NationsBank. Interest on the 1998 Credit Agreement 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 based on the unused
portion of the revolving credit facility ranging from 0.09% to 0.25%, depending
on certain defined ratios. The principal amount is payable in full on June 22,
2003. The Company has provided a negative pledge on all assets under the 1998
Credit Agreement. The effective interest rate on the average outstanding balance
under the 1998 Credit Agreement was 5.8% for the six months ended June 30, 1998,
compared to the average prime rate of 8.5% during the same period. At June 30,
1998, the Company had drawn $750,000,000 under the 1998 Credit Agreement.
11
On March 20, 1998, the Company issued $500,000,000 in 3.25% Convertible
Subordinated Debentures due 2003 (the "3.25% Convertible Debentures") in a
private placement. An additional $67,750,000 principal amount of the 3.25%
Convertible Debentures was issued on March 31, 1998 to cover underwriters'
overallotments. Interest is payable on April 1 and October 1 of each year,
commencing on October 1, 1998. The Convertible Debentures are convertible into
Common Stock of the Company at the option of the holder at a conversion price of
$36.625 per share, subject to the adjustment upon the occurrence of certain
events. The net proceeds from the issuance of the Convertible Debentures were
used by the Company to pay down indebtedness outstanding under its other
existing credit facilities.
On June 22, 1998, the Company issued $250,000,000 in 6.875% Senior Notes
due 2005 and $250,000,000 in 7.0% Senior Notes due 2008 (collectively, the
"Senior Notes"). Interest is payable on June 15 and December 15 of each year,
commencing on December 15, 1998. The Senior Notes are unsecured, unsubordinated
obligations of the Company. The net proceeds from the issuance of the Senior
Notes were used by the Company to pay down indebtedness outstanding under its
existing credit facilities.
Effective July 1, 1998, the Company acquired Columbia/HCA Healthcare
Corporation's interests in 33 ambulatory surgery centers in a transaction to be
accounted for as a purchase. Effective July 31, 1998, the Company entered into
certain other arrangements to acquire substantially all of the economic benefit
of Columbia/HCA's interests in one additional ambulatory surgery center. The
transaction was valued at approximately $550,000,000.
On July 22, 1998, the Company consummated the acquisition of National
Surgery Centers, Inc. ("NSC") in a transaction to be accounted for as a pooling
of interests. A total of 20,426,261 shares of the Company's Common Stock were
issued in the transaction, representing a value of approximately $567,779,000 at
the time of the acquisition. NSC operates 40 outpatient surgery centers in 14
states.
The Company intends to pursue the acquisition or development of additional
healthcare operations, including comprehensive outpatient rehabilitation
facilities, ambulatory surgery centers, inpatient rehabilitation facilities and
companies engaged in the provision of outpatient surgery and
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 $150,000,000 on
maintenance and expansion of its existing facilities and approximately
$300,000,000 on development of the Integrated Service Model, pursuant to which
the Company plans to utilize its services in particular markets to provide an
integrated continuum of coordinated care.
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. The Company believes
that existing cash, cash flow from operations, and borrowings under the 1998
Credit Agreement will be sufficient to satisfy the Company's estimated cash
requirements for the next twelve months and for the reasonably foreseeable
future.
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.
EXPOSURES TO MARKET RISK
The Company is exposed to market risk related to changes in interest rates.
Because of its favorable borrowing arrangements and current market conditions,
the Company currently does not use derivatives, such as swaps or caps, to alter
the interest characteristics of its debt instruments and investment securities.
The impact on earnings and value of market risk-sensitive financial instruments
(principally marketable security investments and long-term debt) is subject to
change as a result of movements in market rates and prices. The Company uses
sensitivity analysis models to evaluate these impacts.
12
The Company's investment in marketable securities was $4,256,000 at June
30, 1998, which represents less than 0.1% of total assets at that date. These
securities are generally short-term, highly-liquid instruments and, accordingly,
their fair value approximates cost. Earnings on investments in marketable
securities are not significant to the Company's results of operations, and
therefore any changes in interest rates would have a minimal impact on future
pre-tax earnings.
With respect to the Company's interest-bearing liabilities, approximately
$750,000,000 in long-term debt at June 30, 1998 is subject to variable rates of
interest, while the remaining balance in long-term debt of $1,488,306,000 is
subject to fixed rates of interest (see Note 2 of "Notes to Consolidated
Financial Statements" for further description). The fair value of the Company's
total long-term debt, based on discounted cash flow analyses, approximates its
carrying value at June 30, 1998. Based on a hypothetical 1% increase in interest
rates, the potential losses in future annual pre-tax earnings would be
approximately $7,500,000. The impact of such a change on the carrying value of
long-term debt would not be significant. These amounts are determined
considering the impact of the hypothetical interest rates on the Company's
borrowing cost and long-term debt balances. These analyses do not consider the
effects, if any, of the potential changes in the overall level of economic
activity that could exist in such an environment. Further, in the event of a
change of significant magnitude, management would expect to take actions
intended to further mitigate its exposure to such change.
Foreign operations, and the related market risks associated with foreign
currency, are currently insignificant to the Company's results of operations and
financial position.
COMPUTER TECHNOLOGIES AND YEAR 2000 COMPLIANCE
The Company is aware of the issues associated with the programming code in
existing computer systems as the year 2000 approaches. Many existing computer
programs use only two digits to identify a year in the date field. The issue is
whether such code exists in the Company's mission-critical applications and if
that code will produce accurate information to date-sensitive calculations after
the turn of the century.
The Company is involved in an extensive, ongoing program to identify and
correct problems arising from the year 2000 issues. The program is broken down
into the following categories: (1) mission-critical computer applications which
are internally maintained by the Company's information technology department;
(2) mission-critical computer applications which are maintained by third-party
vendors; (3) non-mission-critical applications, whether internally or externally
maintained; (4) hardware; (5) embedded applications which control certain
medical and other equipment; (6) computer applications of its significant
suppliers; and (7) computer applications of its significant payors.
Mission-critical computer applications are those which are integral to the
Company's business mission, which have no reasonable manual alternative for
producing the same information and results, and the failure of which to produce
accurate information and results would have a significant adverse impact on the
Company. Such applications include the Company's general business systems and
its patient billing systems. Most of the Company's clinical applications are not
considered mission-critical, because reasonable manual alternatives are
available to produce the same information and results for as long as necessary.
The Company's review of its internally maintained mission-critical
applications revealed that such applications contained very few date-sensitive
calculations. The revisions to these applications are scheduled to be completed
by October 31, 1998, tested during November and December, 1998 and implemented
during the first quarter of 1999. The budget for this project is approximately
$150,000. The project is currently on schedule, with coding approximately 25%
complete at the end of July 1998.
The Company's general business applications are all licensed from and
maintained by the same vendor. All such applications are already year 2000
compliant. The Company has received written confirmation from the vendors of its
other externally maintained mission-critical applications that such
13
applications are currently year 2000 compliant or will be made year 2000
compliant by the end of 1998. The cost to be incurred by the Company related to
externally maintained applications is not currently expected to be material.
The Company has reviewed all of its non-mission-critical applications and
determined that some of these applications are not year 2000 compliant and will
not be made to be compliant. In such cases, the Company has developed manual
alternatives to produce the information that such systems currently produce. The
incremental cost of the manual systems is not currently estimated to be
material. The Company plans to evaluate the effectiveness of the manual systems
before any decisions are made on the replacement of the non-compliant
applications.
The Company has engaged a consultant to test all of its computer hardware
for year 2000 compliance at a cost of approximately $800,000. The results of
these tests are expected to be available by November 30, 1998. The Company has
regularly upgraded its significant servers and hardware platforms. Therefore, it
is expected that the consultant's tests will only reveal that the Company's
older personal computers are not year 2000 compliant. Once the results of the
tests are available, the Company will determine which hardware components are
necessary to replace and will develop a plan to do so. The cost of such
replacements cannot be estimated until the plan is developed.
The Company has not completed its review of embedded applications which
control certain medical and other equipment. The Company expects to complete
this review during the third quarter of 1998. The nature of the Company's
business is such that any failure of these type applications is not expected to
have a material adverse effect on its business.
The Company has sent inquiries to its significant suppliers of equipment
and medical supplies concerning the year 2000 compliance of their significant
computer applications. Responses have been received from over 50% of those
suppliers, and no significant problems have been identified. Second requests
have been mailed to all non-respondents.
The Company has also sent inquires to its significant third-party payors.
Responses have been received from payors representing over 35% of the Company's
revenues. Such responses indicate that these payors' systems will be year 2000
compliant. Second requests will be mailed to all non-respondents during October
1998. The Company will continue to evaluate year 2000 risks with respect to such
payors as additional responses are received. In that connection, it should be
noted that substantially all of the Company's revenues are derived from
reimbursement by governmental and private third-party payors, and that the
Company is dependent upon such payors' evaluation of their year 2000 compliance
status to assess such risks. If such payors are incorrect in their evaluation of
their own year 2000 compliance status, this could result in delays or errors in
reimbursement to the Company by such payors, the effects of which could be
material to the Company.
Based on the information currently available, the Company believes that its
risk associated with problems arising from year 2000 issues is not significant.
However, because of the many uncertainties associated with year 2000 compliance
issues, and because the Company's assessment is necessarily based on information
from third-party vendors, payors and suppliers, there can be no assurance that
the Company's assessment is correct or as to the materiality or effect of any
failure of such assessment to be correct. The Company will continue with its
assessment process as described above and, to the extent that changes in such
assessment require it, will attempt to develop alternatives or modifications to
its compliance plan described above. There can, however, be no assurance that
such compliance plan, as it may be changed, augmented or modified from time to
time, will be successful.
FORWARD-LOOKING STATEMENTS
Statements contained in this Quarterly Report on Form 10-Q 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
14
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 it 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.
15
PART II -- OTHER INFORMATION
Item 2. CHANGES IN SECURITIES.
(c) Recent Sales of Unregistered Securities
There were no sales of equity securities in transactions not registered
under the Securities Act of 1933, as amended, during the period covered by
this Quarterly Report on Form 10-Q.
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
On May 21, 1998, the Annual Meeting of Stockholders of the Company was
held, at which shares of Common Stock represented at the Annual Meeting were
voted in favor of the election of Directors as follows:
FOR WITHHOLD
------------ -----------
1. Richard M. Scrushy 352,177,679 3,686,982
2. Phillip C. Watkins, M.D. 352,338,619 3,526,042
3. George H. Strong 352,292,782 3,571,879
4. C. Sage Givens 352,302,167 3,562,494
5. Charles W. Newhall III 352,335,893 3,528,768
6. John S. Chamberlin 352,304,810 3,559,851
7. Michael D. Martin 352,331,517 3,533,144
8. James P. Bennett 352,318,788 3,545,873
9. Edwin M. Crawford 352,313,632 3,551,029
10. Anthony J. Tanner 352,329,725 3,534,936
11. P. Daryl Brown 352,326,846 3,537,815
12. Joel C. Gordon 352,303,732 3,560,929
In addition, shares of Common Stock represented at the Annual Meeting were
voted in favor of the approval and adoption of an amendment to the Company's
Restated Certificate of Incorporation to increase the number of authorized
shares of Common Stock of the Company to 600,000,000 as follows:
Number of Shares
Voting For Against Abstain
---------------------- ---------------------- ---------------------- ----------------------
355,864,328 350,560,742 4,448,004 815,582
In addition, shares of Common Stock represented at the Annual Meeting were
voted in favor of the approval and adoption of the Company's 1998 Restricted
Stock Plan as follows:
Number of Shares
Voting For Against Abstain
---------------------- ---------------------- ---------------------- ----------------------
355,864,393 276,630,088 78,002,741 1,231,564
Finally, shares of Common Stock represented at the Annual Meeting were
voted against a stockholder proposal relating to the composition of the Audit
and Compensation Committee of the Board of Directors as follows:
Number of Shares
Voting For Against Abstain
---------------------- ---------------------- ---------------------- ----------------------
318,520,192 63,302,163 252,507,432 2,710,597
16
Item 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits
4-1. Indenture, dated June 22, 1998, between HEALTHSOUTH Corporation
and PNC Bank, National Association, as Trustee.
4-2. Officer's Certificate pursuant to Sections 2.3 and 11.5 of the
Indenture, dated June 22, 1998, between HEATLHSOUTH Corporation
and PNC Bank, National Association, as Trustee, relating to the
Company's 6.875% Senior Notes due 2005 and 7.0% Senior Notes due
2008.
4-3. Registration Rights Agreement, dated June 22, 1998, among
HEALTHSOUTH Corporation and Salomon Brothers Inc, Goldman, Sachs
& Co., J.P. Morgan Securities Inc., Merrill Lynch, Pierce, Fenner
& Smith Incorporated, Morgan Stanley & Co. Incorporated,
NationsBanc Montgomery Securities LLC, Bear, Stearns & Co. Inc.,
Credit Suisse First Boston Corporation, Deutsche Bank Securities
Inc., Paine Webber Incorporated and Scotia Capital Markets (USA)
Inc. relating to the Company's 6.875% Senior Notes due 2005 and
7.0% Senior Notes due 2008.
10. Credit Agreement, dated June 23, 1998, by and among HEALTHSOUTH
Corporation, NationsBank, National Association, J.P. Morgan
Securities Inc., Deutsche Bank AG, ScotiaBanc, Inc. and the
Lenders party thereto from time to time.
11. Computation of Income Per Share (unaudited)
27. Financial Data Schedule
(b) Reports on Form 8-K
During the three months ended June 20, 1998, the Company filed (a) a
Current Report on Form 8-K filed April 3, 1998, reporting under Item 9
the issuance and sale of $567,750,000 aggregate principal amount of
3.25% Convertible Subordinated Debentures due 2003, and (b) a Current
Report on Form 8-K filed May 28, 1998, reporting under Item 5 the
filing of the Company's latest Restated Certificate of Incorporation
and its adoption of amended and restated By-Laws.
No other items of Part II are applicable to the Registrant for the period
covered by this Quarterly Report on Form 10-Q.
17
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this Report to be signed on its behalf by the
undersigned thereunto duly authorized.
HEALTHSOUTH CORPORATION
-----------------------
(Registrant)
Date: August 14, 1998 RICHARD M. SCRUSHY
-------------------------------------
Richard M. Scrushy
Chairman of the Board and
Chief Executive Officer
Date: August 14, 1998 MICHAEL D. MARTIN
-------------------------------------
Michael D. Martin
Executive Vice President,
Chief Financial Officer and Treasurer
18