MORRISON | FOERSTER 555 WEST FIFTH STREET MORRISON & FOERSTER LLP
LOS ANGELES
CALIFORNIA 90013-1024 NEW YORK, SAN FRANCISCO,
LOS ANGELES, PALO ALTO,
TELEPHONE: 213.892.5200 SAN DIEGO, WASHINGTON, D.C.
FACSIMILE: 213.892.5454
DENVER, NORTHERN VIRGINIA,
WWW.MOFO.COM ORANGE COUNTY, SACRAMENTO,
WALNUT CREEK, CENTURY CITY
TOKYO, LONDON, BEIJING,
SHANGHAI, HONG KONG,
SINGAPORE, BRUSSELS
January 5, 2006 Writer's Direct Contact
213/892-5290
ASussman@mofo.com
Via Edgar and Overnight Mail
Mr. James B. Rosenberg Senior Assistant Chief Accountant Securities and Exchange
Commission Division of Corporation Finance 100 F Street, N.E.
Mail Stop 6010
Washington, D.C. 20549
Re: Integrated Healthcare Holdings, Inc.
- Staff Comment letter dated November 2, 2005
------------------------------------------------------------------
Form 10-KSB for the year ended December 31, 2004
Forms 10-Q for the quarters ended March 31, 2005 and June 30, 2005
Form 8-K/A dated March 3, 2005 filed June 8, 2005
File No. 0-23511
Dear Mr. Rosenberg:
We are counsel to Integrated Healthcare Holdings, Inc. (the "Company"). In
response to Comment #1 in the Staff's comment letter to the Company dated
November 2, 2005, we are hereby filing as "Correspondence" on Edgar the
Company's proposed disclosure changes that were previously submitted in paper
format to the Staff on or about October 20, 2005 in response to the Staff's
comment letter dated September 21, 2005. If you have any questions, please feel
free to contact the undersigned at (213) 892-5290. Our facsimile number is (213)
892-5454.
Very truly yours,
/s/ Allen Z. Sussman
Allen Z. Sussman
Enclosures
MORRISON | FOERSTER
Mr. James B. Rosenberg
January 5, 2006
Page Two
cc: Mr. Mark Brunhofer -- Securities and Exchange Commission
Mr. Donald Abbott -- Securities and Exchange Commission
Mr. Bruce Mogel -- Integrated Healthcare Holdings, Inc.
================================================================================
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-KSB
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2004; or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File Number 0-23511
----------------
INTEGRATED HEALTHCARE HOLDINGS, INC.
(Name of Small Business Issuer in its Charter)
Nevada 87-0412182
(State of incorporation) (I.R.S. Employer Identification No.)
1301 N Tustin Santa Ana, CA 92705
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (714) 434-9191
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $.0001 par value
(Title of Class)
----------------
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 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 [ ]
Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B is not contained in this form, and no disclosure will be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-KSB
or any amendment to this Form 10-KSB. [X]
State issuer's revenues for its most recent fiscal year. $0
The aggregate market value of all stock held by non-affiliates of the registrant
was $5,139,200 as of March 18, 2005 (computed by reference to the last sale
price of a share of the registrant's common stock on that date as reported by
the Over the Counter Bulletin Board). For purposes of this computation, it has
been assumed that the shares beneficially held by directors and officers of
registrant were "held by affiliates"; this assumption is not to be deemed to be
an admission by such persons that they are affiliates of registrant.
State the number of shares outstanding of each of the issuer's classes of
common equity, as of the latest practicable date: 118,059,000
DOCUMENTS INCORPORATED BY REFERENCE:
No portions of other documents are incorporated by reference into this Report.
Transitional Small Business Disclosure Format (Check one): Yes[_] No [X]
================================================================================
INTEGRATED HEALTHCARE HOLDINGS, INC.
Form 10-KSB
Annual Report for the Year ended December 31, 2004
TABLE OF CONTENTS
Page
----
Part I
Item 1. Description of Business...........................................1
Item 2. Description of Property...........................................8
Item 3. Legal Proceedings.................................................9
Item 4. Submission of Matters to a Vote of Security Holders...............9
Part II
Item 5. Market for Equity and Related Stockholder Matters.................10
Item 6. Management's Discussion and Analysis or Plan of Operation.........10
Item 7. Financial Statements..............................................11
Item 8. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure..............................................11
Item 8A. Controls and Procedures...........................................11
Item 8B. Other Information.................................................12
Part III
Item 9. Directors, Executive Officers, Promoters and Control Persons;
Compliance with Section 16(a) of the Exchange
Act...............................................................12
Item 10. Executive Compensation............................................13
Item 11. Security Ownership of Certain Beneficial Owners and Management
and Related Stockholder
Matters...........................................................14
Item 12. Certain Relationships and Related Transactions....................15
Item 13. Exhibits..........................................................15
Item 14. Principal Accountant Fees and Services............................16
Signatures........................................................17
Financial Statements..............................................F-1
Exhibits
PART I
This annual report contains forward-looking statements as that term is
defined in the Private Securities Litigation Reform Act of 1995. These
statements relate to future events or our future financial performance. In some
cases, you can identify forward-looking statements by terminology such as "may",
"will", "should", "expects", "plans", "anticipates", "believes", "estimates",
"predicts", "potential" or "continue" or the negative of these terms or other
comparable terminology. These statements are only predictions and involve known
and unknown risks, uncertainties and other factors, including the risks in the
section entitled "Risk Factors", that may cause our company's or our industry's
actual results, levels of activity, performance or achievements to be materially
different from any future results, levels of activity, performance or
achievements expressed or implied by these forward-looking statements. Although
we believe that the expectations reflected in the forward-looking statements are
reasonable, we cannot guarantee future results, levels of activity, performance
or achievements. Except as required by applicable law, including the securities
laws of the United States, we do not intend to update any of the forward-looking
statements to conform these statements to actual results.
As used in this annual report, the terms "we", "us", "our", "the Company"
or "IHHI" mean Integrated Healthcare Holdings, Inc., unless otherwise indicated.
ITEM 1. BUSINESS
Background
Integrated Healthcare Holdings, Inc. is a predominantly physician-owned
management company that, on March 8, 2005, acquired and began operating the
following four hospital facilities in Orange County, California (referred to as
the "Hospitals"):
o 282-bed Western Medical Center in Santa Ana; o 188-bed Western Medical Center
in Anaheim; o 178-bed Coastal Communities Hospital in Santa Ana; and o 114-bed
Chapman Medical Center in Orange.
Together we believe that the Hospitals represent approximately 12.1% of
all hospital beds in Orange County, California.
Prior to March 8, 2005, including during the fiscal year ended December
31, 2004 covered by this Report, we were primarily a development stage company
with no material operations. On November 18, 2003, our current executive
management team, Bruce Mogel, Larry B. Anderson, and James T. Ligon, purchased a
controlling interest in the Company and redirected its focus towards acquiring
and managing hospitals and healthcare facilities that are financially distressed
and/or underperforming. On September 29, 2004, the Company entered into a
definitive agreement to acquire the four Hospitals from subsidiaries of Tenet
Healthcare Corporation, and the transaction closed in March 2005.
Western Medical Center - Santa Ana. Western Medical Center - Santa Ana,
located at 1001 N. Tustin Avenue, Santa Ana, CA 92705, is Orange County's first
hospital, founded over 100 years ago. The hospital has 282 beds and is one of
only three designated trauma centers in Orange County, offering Neurosurgical
emergency care round the clock. Located within the hospital is the renowned
Grossman Burn Center. The hospital also maintains Intensive Care Units for
adults and pediatrics, and a Neonatal Intensive Care Unit in a family-centered
environment. The hospital has 800 active physicians and 1,200 nurses and
hospital staff.
Western Medical Center - Anaheim. Western Medical Center - Santa Ana,
located at 1025 South Anaheim Blvd., Anaheim, CA 92805, offers a full range of
health care and wellness services. The hospital is actively involved in the
community through numerous outreach programs to educate and promote wellness.
The hospital offers special expertise in The Heart and Vascular Institute,
Behavioral Health Services, Women and Children Health Services, and 24-hour
Emergency Services. The medical team responds to each patient as a unique
1
individual, with sensitivity to cultural diversity and language needs. The
hospital has 325 active physicians and 525 nurses and hospital staff.
Coastal Communities Hospital. Coastal Communities Hospital, located in the
heart of Santa Ana at 2701 S. Bristol St., Santa Ana, CA 92704, has served the
community for more than 30 years, providing comprehensive medical and surgical
services in a caring and compassionate environment. The hospital has tailored
its services to meet the changing needs of the community. The hospital's staff
reflects the cultural diversity of the community and is particularly responsive
and sensitive to diverse health care needs. While services continue to expand,
the 178-bed facility is small enough to retain the family atmosphere associated
with a community hospital. Coastal Communities Hospital is accredited by the
Joint Commission on the Accreditation of Healthcare Organizations, the nation's
oldest and largest hospital accreditation agency. The hospital has 300 active
physicians and 600 nurses and hospital staff.
Chapman Medical Center. Founded in 1969, Chapman Medical Center is a
114-bed acute care facility located at 2601 East Chapman Ave., Orange, CA 92869.
The hospital provides high technology tertiary services, and boasts pleasant
surroundings designed to promote comfort and a sense of well-being. The
hospital's advanced capabilities position the facility as a leader in specialty
niche programs, including the following centers: Chapman Center for Obesity
(surgical weightloss program); Center for Heartburn and Swallowing; Chapman Lung
Center; Chapman Family Health Center; Doheny Eye Center; House Ear Clinic;
Center for Senior Mental Health; and Positive Action Center (Adult and
Adolescent Chemical Dependency Program). The hospital has 300 active physicians
and 450 nurses and hospital staff.
Our Strategy
Our goal is to provide high-quality health care services in a community
setting that are responsive to the needs of the communities that we serve. To
accomplish our mission in the complex and competitive health care industry, our
operating strategies are to (1) improve the quality of care provided at our
hospitals by identifying best practices and implementing those best practices,
(2) improve operating efficiencies and reduce operating costs while maintaining
or improving the quality of care provided, (3) improve patient, physician and
employee satisfaction, and (4) improve recruitment and retention of nurses and
other employees. We intend to integrate and efficiently operate the four
Hospitals in order to achieve profitability from operations. We may also seek
additional acquisitions of hospitals or health facilities in the future when
opportunities for profitable growth arise.
Transition of Hospital Administration and Management
On March 8, 2005, we assumed management responsibility and control over
the Hospitals. Prior to closing, our management team had been working with the
individual management staffs of the Hospitals on a transition plan, so the
transition occurred seamlessly. We believe that all primary systems and controls
have been successfully transitioned to our Company for the effective management
of the Hospitals. To date we have achieved a number of key milestones in
transitioning the Hospitals to our management, including the following:
o We have executed long term employment agreements with all key
members of the Hospital administrative staffs;
o We have augmented our management capabilities in the areas of legal
compliance and managed care contracting;
o Employee benefits packages have been negotiated and are in roll-out
phase with Hospital staffs, which we believe maintain costs at
approximately 2004 levels through May 2006;
o A full portfolio of insurances are in place at costs which we
believe are a substantial discount from prior rates;
o Corporate administration and overhead has been established and will
be maintained at levels that are substantially less costly than
prior levels;
o Billing and collection activities have been centralized and are now
resident at IHHI;
o Daily financial and accountability reporting systems have been
established which allow the Company to track financial and operating
performance in real time; and
2
o Payor, vendor and physician contracts have been reviewed and
assigned and/or renewed where appropriate.
Over the next sixty days, we plan to transition to our own payroll and
time and attendance systems, which will allow us to terminate our Employee
Leasing Agreements with Tenet effective May 22, 2005. Additionally, we plan to
pursue various cost control and revenue enhancement strategies going forward,
including renegotiating agreements with primary payors and expanding service
offerings where appropriate.
Health Care Regulation And Licensing
Certain Background Information. Health care, as one of the largest
industries in the United States, continues to attract much legislative interest
and public attention. Changes in the Medicare and Medicaid programs and other
government health care programs, hospital cost-containment initiatives by public
and private payers, proposals to limit payments and health care spending, and
industry-wide competitive factors greatly impact the health care industry. The
industry is also subject to extensive federal, state and local regulation
relating to licensure, conduct of operations, ownership of facilities, physician
relationships, addition of facilities and services, and charges and effective
reimbursement rates for services. The laws, rules and regulations governing the
health care industry are extremely complex, and the industry often has little or
no regulatory or judicial interpretation for guidance. Compliance with such
regulatory requirements, as interpreted and amended from time to time, can
increase operating costs and thereby adversely affect the financial viability of
our business. Failure to comply with current or future regulatory requirements
could also result in the imposition of various remedies including fines,
restrictions on admission, denial of payment for all or new admissions, the
revocation of licensure, decertification, imposition of temporary management or
the closure of a facility.
Medicare and Medicaid. The Health Insurance for Aged and Disabled Act
(Title XVIII of the Social Security Act), known as "Medicare," has made
available to nearly every United States citizen 65 years of age and older a
broad program of health insurance designed to help the nation's elderly meet
hospital and other healthcare costs. The Medicare program consists of four
parts: (i) Medicare Part A, which covers, among other things, inpatient
hospital, skilled long-term care, home healthcare and certain other types of
healthcare services; (ii) Medicare Part B, which covers physicians' services,
outpatient services and certain items and services provided by medical
suppliers; (iii) a managed care option for beneficiaries who are entitled to
Medicare Part A and enrolled in Medicare Part B, known as Medicare Advantage or
Medicare Part C and (iv) a new Medicare Part D benefit that becomes effective in
2006 covering prescription drugs. Under Medicare Part B, we are entitled to
payment for medically necessary therapy services and products that replace a
bodily function, home medical equipment and supplies and a limited number of
specifically designated prescription drugs. The Medicare program is administered
by the Centers for Medicare and Medicaid Services (referred to as "CMS").
Medicaid (Title XIX of the Social Security Act) is a federal-state
matching program, whereby the federal government, under a need based formula,
matches funds provided by the participating states for medical assistance to
"medically indigent" persons. The programs are administered by the applicable
state welfare or social service agencies under federal rules. Medicaid programs
vary from state to state. Although traditionally they have provided for the
payment of certain expenses up to established limits at rates determined in
accordance with each state's regulations, more recently payment is made on a
prospective basis or in accordance with fee schedules. For skilled nursing
centers, most states pay prospective rates, and have some form of acuity
adjustment. In addition to facility based services, most states cover an array
of medical ancillary services. Payment methodologies for these services vary
based upon state preferences and practices permitted under federal rules.
We receive revenues from Medicare and Medicaid, as well as from private
insurance, self-pay residents and other third-party payors. Medicare and
Medicaid are subject to statutory and regulatory changes, retroactive rate
adjustments, administrative rulings and government funding restrictions, all of
which may materially affect the timing and/or levels of payments to us for our
services.
We are subject to periodic audits by the Medicare and Medicaid programs,
which have various rights and remedies against us if they assert that we have
overcharged the programs or failed to comply with program requirements. These
rights and remedies may include requiring the repayment of any amounts alleged
to be overpayments or in violation of program requirements, or making deductions
from future amounts due to us. Such programs may also impose fines, criminal
3
penalties and/or program exclusions. Other third-party payor sources also
reserve rights to conduct audits and make monetary adjustments in connection
with or inclusive of auditing activities.
In addition, there are from time to time proposed legislative changes, new
interpretations or administration of legislation and other governmental
initiatives, which may have an effect on our business. There can be no assurance
that the impact of any future healthcare legislation or regulation will not
further adversely affect our business, or that payments under governmental and
private third-party payor programs will be timely, will remain at levels similar
to present levels or will, in the future, be sufficient to cover the costs
allocable to patients eligible for reimbursement pursuant to such programs. Our
financial condition and results of operations are affected by the reimbursement
process, which is complex and can involve lengthy delays between the time that
revenue is recognized and the time that reimbursement amounts are settled.
Anti-Kickback and Self-Referral Regulations. Medicare and Medicaid
anti-kickback and anti-fraud and abuse amendments codified under Section
1128B(b) of the Social Security Act (the "Anti-kickback Amendments") prohibit
certain business practices and relationships that might affect the provision and
cost of health care services payable under the Medicare and Medicaid programs
and other government programs, including the payment or receipt of remuneration
for the referral of patients whose care will be paid for by such programs.
Sanctions for violating the Anti-kickback Amendments include criminal penalties
and civil sanctions, as well as fines and possible exclusion from government
programs, such as Medicare and Medicaid. Many states have statutes similar to
the federal Anti-kickback Amendments, except that the state statutes usually
apply to referrals for services reimbursed by all third-party payers, not just
federal programs. In addition, it is a violation of the federal Civil Monetary
Penalties Law to offer or transfer anything of value to Medicare or Medicaid
beneficiaries that is likely to influence their decision to obtain covered goods
or services from one provider or service over another.
Section 1877 of the Social Security Act (commonly referred to as the
"Stark" law) generally restricts referrals by physicians of Medicare or Medicaid
patients to entities with which the physician or an immediate family member has
a financial relationship, unless one of several exceptions applies. The referral
prohibition applies to a number of statutorily defined "designated health
services," such as clinical laboratory, physical therapy, radiology services and
hospital services. The exceptions to the referral prohibition cover a broad
range of common financial relationships. These statutory, and the subsequent
regulatory, exceptions are available to protect certain permitted employment
relationships, leases, group practice arrangements, medical directorships,
hospital ownerships, and other common relationships between physicians and
providers of designated health services, such as hospitals. A violation of the
Stark law may result in a denial of payment, required refunds to patients and
the Medicare program, civil monetary penalties of up to $15,000 for each
violation, civil monetary penalties of up to $100,000 for "sham" arrangements,
civil monetary penalties of up to $10,000 for each day that an entity fails to
report required information, and exclusion from participation in the Medicare
and Medicaid programs and other federal programs. Many states have adopted or
are considering similar self-referral statutes, some of which extend beyond the
Medicaid program to prohibit the payment or receipt of remuneration for the
referral of patients and physician self-referrals regardless of the source of
the payment for the care.
Health Insurance Portability and Accountability Act. The Health Insurance
Portability and Accountability Act, or HIPAA, mandates the adoption of industry
standards for the exchange of health information in an effort to encourage
overall administrative simplification and enhance the effectiveness and
efficiency of the health care industry. HIPAA requires that health providers and
other "covered entities," such as insurance companies and other third-party
payers, adopt uniform standards for the electronic transmission of medical
records, billing statements and insurance claims forms. HIPAA also establishes
new federal rules protecting the privacy and security of personal health
information. The privacy and security regulations address the use and disclosure
of individual health care information and the rights of patients to understand
and control how such information is used and disclosed. The law provides both
criminal and civil fines and penalties for covered entities that fail to comply
with HIPAA.
HHS regulations include deadlines for compliance with the various
provisions of HIPAA. In 2001, in response to concerns by many health care
providers about their ability to comply with impending HIPAA deadlines, Congress
extended until October 2003 the original deadline for compliance with the
electronic data transmission (transaction and code set) standards that health
care providers must use when transmitting certain health care information
4
electronically. In October 2003, under authority given by HHS, CMS implemented a
plan that allows providers and other electronic billers to continue to submit
pre-HIPAA format electronic claims for periods after October 16, 2003, provided
they can show good faith efforts to become HIPAA compliant. All covered entities
were required to comply with the privacy requirements of HIPAA by April 14,
2003. The HIPAA security regulations require health care providers to implement
administrative, physical and technical safeguards to protect the
confidentiality, integrity and availability of patient information.
Health Care Facility Licensing Requirements. In order to maintain their
operating licenses, health care facilities must comply with strict governmental
standards concerning medical care, equipment and hygiene. Various licenses and
permits also are required in order to dispense narcotics, operate pharmacies,
handle radioactive materials and operate certain equipment. Our health care
facilities hold all required governmental approvals, licenses and permits
material to the operation of our business.
Utilization Review Compliance and Hospital Governance. In addition to
certain statutory coverage limits and exclusions, federal laws and regulations,
specifically the Medicare Conditions of Participation, generally require health
care providers, including hospitals that furnish or order health care services
that may be paid for under the Medicare program or state health care programs,
to assure that claims for reimbursement are for services or items that are (1)
provided economically and only when, and to the extent, they are medically
reasonable and necessary, (2) of a quality that meets professionally recognized
standards of health care, and (3) supported by appropriate evidence of medical
necessity and quality. CMS administers the Quality Improvement Organization
("QIO") program through a network of QIOs that work with consumers, physicians,
hospitals and other caregivers to refine care delivery systems to assure
patients receive the appropriate care at the appropriate time, particularly
among underserved populations. The QIO program also safeguards the integrity of
the Medicare trust fund by reviewing Medicare patient admissions, treatments and
discharges, and ensuring payment is made only for medically necessary services,
and investigates beneficiary complaints about quality of care. The QIOs have the
authority to deny payment for services provided and recommend to HHS that a
provider that is in substantial noncompliance with certain standards be excluded
from participating in the Medicare program.
Environmental Regulations. Our health care operations generate medical
waste that must be disposed of in compliance with federal, state and local
environmental laws, rules and regulations. Our operations, as well as our
purchases and sales of facilities, also are subject to compliance with various
other environmental laws, rules and regulations.
Corporate History
The Company was originally incorporated under the laws of the State of
Utah on July 31, 1984 under the name "Aquachlor Marketing Inc." On December 23,
1988, the Company reincorporated in the State of Nevada. From 1989 until 2003,
the Company pursued a number of potential business opportunities but was mostly
dormant and had no material assets, revenues or business operations.
On November 18, 2003, Bruce Mogel, Larry B. Anderson, and James T. Ligon
purchased a controlling interest in First Deltavision with the objective of
transforming the Company into a leading provider of high-quality, cost-effective
healthcare through the acquisition and management of financially distressed
and/or under performing hospitals and other healthcare facilities.
In the first quarter of 2004, the Company changed its fiscal year end from
June 30 to December 31, and changed the Company's name to "Integrated Healthcare
Holdings, Inc."
Our principal executive offices are located at 695 Town Center Drive,
Suite 260, Costa Mesa, California 92626, and our telephone number is (714)
434-9191.
Employees
At December 31, 2004, we had six employees. At March 25, 2005, we had on a
consolidated basis 2,050 full-time employees and 263 part-time employees. Some
of our employees are represented by labor unions and covered by collective
bargaining agreements. We believe that our relations with our employees are
good.
5
Our hospitals are staffed by licensed physicians who have been admitted to
the medical staff of individual hospitals. Members of the medical staffs of our
hospitals also often serve on the medical staffs of hospitals not owned by us.
Members of our medical staffs are free to terminate their affiliation with our
hospitals or admit their patients to competing hospitals at any time. Most of
the physicians who practice at our hospitals are not our employees. Nurses,
therapists, lab technicians, facility maintenance staff and the administrative
staff of hospitals, however, normally are our employees.
Risk Factors Relating to Our Business and Stock
An investment in our common stock involves a high degree of risk. You
should consider carefully the following information about these risks, together
with the other information contained in this report, before you decide to buy
our common stock. The risks and uncertainties described below are not the only
ones we face. Additional risks and uncertainties not presently known to us or
that we currently deem immaterial may also impair our operations. If any of the
following risks actually occur, our business would likely suffer and our results
could differ materially from those expressed in any forward-looking statements
contained in this report. In such case, the trading price of our common stock
could decline, and you may lose all or part of the money you paid to buy our
common stock.
We may face difficulties integrating our acquisition of the Hospitals.
Our acquisition of the Hospitals involves numerous potential risks,
including:
o potential loss of key employees and management of acquired
companies;
o difficulties integrating acquired personnel and distinct
cultures;
o difficulties integrating acquired companies into our proposed
operating, financial planning and financial reporting systems;
o diversion of management attention; and
o assumption of liabilities and potentially unforeseen
liabilities, including liabilities for past failure to comply
with healthcare regulations.
Our acquisition also involves significant cash expenditures, debt
incurrence and integration expenses that could seriously strain our financial
condition. If we are required to issue equity securities to raise additional
capital, existing stockholders will likely be diluted, which could affect the
market price of our stock.
Healthcare-related legislation and regulations may negatively affect our
financial condition and results of operations.
Our Hospitals receive a substantial portion of their revenues from
Medicare and Medicaid. The healthcare industry is experiencing a strong trend
toward cost containment, as the government seeks to impose lower reimbursement
and resource utilization group rates, limit the scope of covered services and
negotiate reduced payment schedules with providers. These cost containment
measures generally have resulted in a reduced rate of growth in the
reimbursement for the services that we provide relative to the increase in our
cost to provide such services.
Changes to Medicare and Medicaid reimbursement programs have limited, and
are expected to continue to limit, payment increases under these programs. Also,
the timing of payments made under the Medicare and Medicaid programs is subject
to regulatory action and governmental budgetary constraints resulting in a risk
that the time period between submission of claims and payment could increase.
Further, within the statutory framework of the Medicare and Medicaid programs, a
substantial number of areas are subject to administrative rulings and
interpretations which may further affect payments.
We conduct business in a heavily regulated industry, and changes in
regulations and violations of regulations may result in increased costs or
sanctions, including loss of licensure and decertification.
6
Our business is subject to extensive federal, state and, in some cases,
local regulation with respect to, among other things, participation in the
Medicare and Medicaid programs, licensure and certification of facilities, and
reimbursement. These regulations relate, among other things, to the adequacy of
physical plant and equipment, qualifications of personnel, standards of care,
government reimbursement and operational requirements. Compliance with these
regulatory requirements, as interpreted and amended from time to time, can
increase operating costs and thereby adversely affect the financial viability of
our business. Because these regulations are amended from time to time and are
subject to interpretation, we cannot predict when and to what extent liability
may arise. Failure to comply with current or future regulatory requirements
could also result in the imposition of various remedies including (with respect
to inpatient care) fines, restrictions on admission, denial of payment for all
or new admissions, the revocation of licensure, decertification, imposition of
temporary management or the closure of a facility or site of service.
We are subject to periodic audits by the Medicare and Medicaid programs,
which have various rights and remedies against us if they assert that we have
overcharged the programs or failed to comply with program requirements. Rights
and remedies available to these programs include repayment of any amounts
alleged to be overpayments or in violation of program requirements, or making
deductions from future amounts due to us. These programs may also impose fines,
criminal penalties or program exclusions. Other third-party payor sources also
reserve rights to conduct audits and make monetary adjustments in connection
with or exclusive of audit activities.
We face intense competition in our business.
The healthcare industry is highly competitive. We compete with a variety
of other organizations in providing medical services, many of which have greater
financial and other resources and may be more established in their respective
communities than we are. Competing companies may offer newer or different
centers or services than we do and may thereby attract patients or customers who
are presently patients, customers or are otherwise receiving our services.
An increase in insurance costs may adversely affect our operating cash
flow, and we may be liable for losses not covered by or in excess of our
insurance.
An increasing trend in malpractice litigation claims, rising costs of
malpractice litigation, losses associated with these malpractice lawsuits and a
constriction of insurers have caused many insurance carriers to raise the cost
of insurance premiums or refuse to write insurance policies for hospital
facilities. Also, a tightening of the reinsurance market has affected property,
auto and excess liability insurance carriers. Accordingly, the costs of all
insurance premiums have increased.
A significant portion of our business is concentrated in certain markets
and the respective economic conditions or changes in the laws affecting
our business in those markets could have a material adverse effect on our
operating results.
We receive all of our inpatient services revenue from operations in Orange
County, California. The economic condition of this market could affect the
ability of our patients and third-party payors to reimburse us for our services,
through its effect on disposable household income and the tax base used to
generate state funding for Medicaid programs. An economic downturn, or changes
in the laws affecting our business in our market and in surrounding markets,
could have a material adverse effect on our financial position, results of
operations and cash flows.
There is a lack of an active public market for our common stock.
Our common stock is listed for trading on the Over-the-Counter Bulletin
Board. There can be no assurance that a market will develop or continue for our
common stock. Our common stock may be thinly traded, if traded at all, and is
likely to experience significance price fluctuations. In addition, our stock is
defined as a "penny stock" under Rule 3a51-1 adopted by the Securities and
Exchange Commission under the Securities Exchange Act of 1934, as amended. In
general, a "penny stock" includes securities of companies which are not listed
on the principal stock exchanges or the National Association of Securities
Dealers Automated Quotation System ("NASDAQ") or National Market System ("NASDAQ
NMS") and have a bid price in the market of less than $5.00. "Penny stocks" are
7
subject to Rule 15g-9, which imposes additional sales practice requirements on
broker-dealers that sell such securities to persons other than established
customers and "accredited investors" (generally, individuals with net worth in
excess of $1,000,000 or annual incomes exceeding $200,000, or $300,000 together
with their spouses, or individuals who are officers or directors of the issuer
of the securities). For transactions covered by Rule 15g-9, a broker-dealer must
make a special suitability determination for the purchaser and have received the
purchaser's written consent to the transaction prior to sale. Consequently, this
rule may adversely affect the ability of broker-dealers to sell our common
stock, and therefore, may adversely affect the ability of our stockholders to
sell common stock in the public market.
ITEM 2. PROPERTIES
The Company uses approximately 3,400 square feet of office space within an
office facility that is leased to Mogel Management, LLC, a company owned by its
senior executive officers, Bruce Mogel, Larry B. Anderson and James T. Ligon.
The Company reimburses Mogel Management, LLC for its use of space in the amount
of $5,717 per month.
In March 2005, the Company completed the acquisition of the Hospitals. At
the closing of the acquisition, the Company transferred all of the fee interests
in the real estate acquired from Tenet (the "Hospital Properties") to Pacific
Coast Holdings Investments, LLC ("PCHI"). The Company entered into a Triple Net
Lease, dated March 7, 2005 (the "Triple Net Lease"), under which it leased back
from PCHI all of the real estate that it transferred to PCHI. The Triple Net
Lease covers the properties listed on the table below.
8
Approximate Aggregate Square Initial Lease
Name of Property Footage Lease Rate Expiration
- -----------------------------------------------------------------------------------------------------------
Western Medical Center-Santa Ana 360,000 Feb. 28, 2030
1001 North Tustin Ave. See note 1.
Santa Ana, CA 92705
Administrative Building at 40,000 Feb. 28, 2030
1301 N. Tustin Ave. See note 1.
Santa Ana, CA
Western Medical Center-Anaheim 132,000 Feb. 28, 2030
1025 South Anaheim Blvd. See note 1.
Anaheim, CA 92805
Parking lot at 56,000 Feb. 28, 2030
979 South Anaheim Blvd. See note 1.
Anaheim, CA 92805
Coastal Communities Hospital 115,000 Feb. 28, 2030
2701 South Bristol St. See note 1.
Santa Ana, CA 92704
Doctor's Hospital Medical Office 37,000 March 30, 2009
Building See note 2.
1901/1905 N. College Ave.
Santa Ana, CA 92706
(If acquired by the Company or PCHI 25,000 (aggregate) March 30, 2009
during 2005:) See note 2.
22 Condominium Units
Hospital Department (WMCSA)
999 North Tustin Ave.
Santa Ana, CA 92705
----------------------------
(1) Initial monthly lease rate for all five properties equals one-twelfth
of (a) the amount obtained by multiplying $50 million by the sum of the
average annual interest rate charged on the loan secured by the first lien
deed of trust on the Hospital Properties for the preceding month (the
"Real Estate Loan") plus the "landlord's spread" (for the first year, the
difference between 12% and the annual interest rate on the Real Estate
Loan up to 2.5%, and then 2.5% thereafter), plus (b) beginning on the
earlier of the refinancing of the Hospital Properties or March 8, 2007,
$2.5 million.
(2) Initial monthly lease rate for all of the medical office properties
equals the rent received from the tenants of these properties less the
actual monthly costs to operate the properties, including insurance and
real property taxes.
ITEM 3. LEGAL PROCEEDINGS
We are not a party to any legal proceedings.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There was no matter submitted to a vote of our security holders during the
fourth quarter of our fiscal year ending December 31, 2004.
9
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
There is no organized or established trading market for our Company Stock.
The Company's common stock is listed for trading on the OTC Bulletin Board under
the symbol "IHCH.BB". There currently is a very limited public market for the
Company's common stock and no assurance can be given that a large public market
will develop in the future. The trading market for the Common Stock is extremely
thin. In view of the lack of an organized or established trading market for the
Common Stock and the extreme thinness of whatever trading market may exist, the
prices reflected on the chart as reported on the Bulletin Board may not be
indicative of the price at which any prior or future transactions were or may be
effected in the Common Stock. Stockholders are cautioned against drawing any
conclusions from the data contained herein, as past results are not necessarily
indicative of future stock performance.
The following table sets forth the high and low bid price for the
Company's Common Stock for each quarter for the period from January 1, 2003
through December 31, 2004, as quoted on the Over-the-Counter Bulletin Board.
Such Over-the-Counter market quotations reflect inter-dealer prices, without
retail mark-up, mark-down or commission, and may not necessarily represent
actual transactions.
YEAR PERIOD HIGH LOW
---- ------ ---- ---
2003 First Quarter $0.51 $0.40
Second Quarter $1.50 $0.40
Third Quarter $1.50 $0.40
Fourth Quarter* $2.00 $0.51
2004 First Quarter $3.15 $0.65
Second Quarter $1.00 $0.65
Third Quarter $0.70 $0.15
Fourth Quarter $0.62 $0.25
-----------------------
* Note: Messrs. Mogel, Anderson and Ligon acquired control of the
Company on November 18, 2003. Prior to that date the Company was not
engaged in any material operations.
As of the date of this report, there were approximately 237 record holders
of the Company's common stock; this number does not include an indeterminate
number of stockholders whose shares may be held by brokers in street name. The
Company has not paid and does not expect to pay any dividends on its shares of
common stock for the foreseeable future, as any earnings will be retained for
use in the business.
The Company currently has no compensation plans under which equity
securities of the Company are authorized for issuance.
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
During the fiscal year ended December 31, 2004 covered by this Report, we
were primarily a development stage company with no material operations and no
revenue from operations. On September 29, 2004, the Company entered into a
definitive agreement to acquire four hospitals from subsidiaries of Tenet
Healthcare Corporation, and the transaction closed in March 2005. Effective
March 8, 2005, we acquired and began operating the following four hospital
facilities in Orange County, California (the "Hospitals"):
o 282-bed Western Medical Center in Santa Ana; o 188-bed Western
Medical Center in Anaheim; o 178-bed Coastal Communities Hospital in
Santa Ana; and o 114-bed Chapman Medical Center in Orange.
10
Our plan of operation over the next 12 months is to integrate and
efficiently operate the four Hospitals in order to achieve profitability from
operations. We may also seek additional acquisitions of hospitals or health care
facilities in the future when opportunities for profitable growth arise. In
addition, we plan in the future to seek other sources of long-term financing to
replace our current outstanding debt at lower interest rates.
We believe that we can satisfy our cash requirements over the next 12
months through internal sources. However there can be no assurance that we will
not require additional cash financing over the next 12 months, or that such
capital will be available to us at all or on terms that are acceptable to us.
Our failure to obtain the necessary amount of working capital to fund our
operations as currently anticipated could have a material, adverse effect upon
our capacity to grow or continue our operations. In addition, if we need to
raise additional equity financing, the sale of our equity securities may be
issued at a price per share significantly below the then trading prices listed
for our common stock on the OTC Bulletin Board and thus may be dilutive to our
current stockholders.
During the year ended December 31, 2004, the Company earned no revenues.
At December 31, 2004, the Company had no off-balance sheet arrangements, as
defined by Securities and Exchange Commission Regulation S-B Item 303(c).
ITEM 7. FINANCIAL STATEMENTS
The following financial statements are filed as a part of this report beginning
on page F-1:
Page Description
F-2 Auditors Report of Ramirez International dated March 30, 2005.
F-3 Consolidated Balance Sheet as of December 31, 2004 and 2003.
F-4 Consolidated Statement of Operations
for years ended December 31, 2004 and 2003, and cumulative from
inception, July 31, 1984, through December 31, 2004.
F-5 Consolidated Statement of Shareholders' Equity from Inception, July
31, 1984, through December 31, 2004.
F-6 Consolidated Statement of Cash Flow for years ended December 31,
2004 and 2003, and from Inception, July 31, 1984, through December
31, 2004.
F-7 Notes to Consolidated Financial Statements.
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
None.
ITEM 8A. CONTROLS AND PROCEDURES
The Company maintains disclosure controls and procedures that are designed
to ensure that information required to be disclosed in the Company's Exchange
Act reports is recorded, processed, summarized and reported within the time
periods specified in the SEC's rules and forms, and that such information is
accumulated and communicated to the Company's management, including its Chief
Executive Officer and Chief Financial Officer, as appropriate, to allow timely
decisions regarding required disclosure based closely on the definition of
"disclosure controls and procedures" in Rule 15d-15(e). The Company's disclosure
controls and procedures are designed to provide a reasonable level of assurance
of reaching the Company's desired disclosure control objectives. In designing
and evaluating the disclosure controls and procedures, management recognized
that any controls and procedures, no matter how well designed and operated, can
provide only reasonable assurance of achieving the desired control objectives,
and management necessarily was required to apply its judgment in evaluating the
cost-benefit relationship of possible controls and procedures. The Company's
certifying officers have concluded that the Company's disclosure controls and
procedures are effective in reaching that level of assurance.
As of the end of the period of this report, the Company carried out an
evaluation, under the supervision and with the participation of the Company's
management, including the Company's Chief Executive Officer and the Company's
Chief Financial Officer, of the effectiveness of the design and operation of the
Company's disclosure controls and procedures. Based on the foregoing, the
11
Company's Chief Executive Officer and Chief Financial Officer concluded that the
Company's disclosure controls and procedures were effective.
There have been no significant changes in the Company's internal controls
or in other factors that could significantly affect the internal controls
subsequent to the date the Company completed its evaluation.
ITEM 8B. OTHER INFORMATION
None.
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE
WITH SECTION 16(a) OF THE EXCHANGE ACT.
The following table contains certain information concerning our directors
and executive officers:
Name Age Positions with the Company Date Became Director
- ----------------------------- --- -------------------------- --------------------
Anil V. Shah, M.D. 55 Executive Chairman of the Board January 31, 2005
Bruce Mogel................. 47 Director, Chief Executive Officer November 18, 2003
Larry B. Anderson ........... 56 Director, President November 18, 2003
James T. Ligon............... 63 Director, Chief Financial Officer November 18, 2003
Daniel J. Brothman........... 50 Senior Vice President, Operations N/A
Dr. Anil V. Shah is Executive Chairman of the Board of Directors of the
Company. He is also the manager of Orange County Physicians Investment Network,
LLC. Dr. Shah is a Board certified cardiologist active in practice for the last
23 years. He is an interventional and nuclear cardiologist and also performs
cutting edge imaging techniques including CT angiography of the heart. Dr. Shah
was a fellow in cardiology and subsequently a research fellow in nuclear
cardiology at the VA Hospital Wadsworth and UCLA School of Medicine. He has held
several positions at hospitals where he practices and has been an active speaker
at various forums in his field.
Bruce Mogel, who is Chief Executive Officer and director of the Company,
has over 25 years of experience in operational management and has held several
lead executive roles in the healthcare field. Most recently, from 1999-2002, Mr.
Mogel served as Executive Vice President of Operations for Doctors' Community
Healthcare Corp, where he was responsible for the operations and profitability
of five acute care hospitals and one psychiatric hospital, and managed a team of
six hospital CEOs and other senior management members. Mr. Mogel earned his
Bachelor's degree from The State University of New York at Buffalo with a degree
in English.
Larry B. Anderson, who is President and director of the Company, has over
20 years of senior level executive experience in an enterprise with over $65
billion per year in sales. A California licensed attorney since 1975, Mr.
Anderson specializes in employment and business law matters, including
collective bargaining, arbitrations, unfair labor practices and court cases as
well as transactional work in contracts and due diligence. From 2002-2003, as
the Executive Vice President, Human Resources and General Counsel, Litigation,
Mr. Anderson managed all litigation for a seven hospital chain in Southern
California. Mr. Anderson earned his Bachelor of Arts degree in Political Science
from California State University, Long Beach, and his law degree from Loyola
University.
James T. Ligon, who is Chief Financial Officer and director of the
Company, launched and operated several successful businesses, including JAMAR
Associates, a California healthcare consulting company. He also has over 30
years of hospital experience in California, having been in charge of the Finance
and Accounting functions at Robert F. Kennedy Medical Center, Brotman Medical
Center and Bellflower Hospitals, among others. Mr. Ligon has substantial
experience in, and knowledge of, hospital finance, accounting and
administration. Mr. Ligon has a BBA degree in Accounting and an MBA Degree.
Daniel J. Brothman, who is Senior Vice President, Operations, of the
Company and Chief Executive Officer of Western Medical Center Santa Ana, is an
experienced single and multi-hospital operations executive. He has spent the
last five years building the Western Medical Center in Santa Ana for Tenet
Healthcare, and improved its performance with increasing EBITDA each successive
year from 1999-2002. Mr. Brothman also ran Columbia Healthcare's Utah Division
from 1996-1998. Mr. Brothman has in excess of 30 years experience in hospital
administration. Mr. Brothman earned his Bachelor of Arts degree from Washington
University at St. Louis, and his Master's in Health Care Administration from the
University of Colorado at Denver.
12
The Company does not currently have an Audit Committee of the Board of
Directors or a Nominating Committee. The entire Board of Directors performs the
functions of those committees. None of the members of the Board of Directors are
considered "independent" under the description of independence used for
Nasdaq-listed companies. The Board of Directors has determined that James Ligon
is an "audit committee financial expert" as defined in the SEC rules.
Code of Ethics
We have adopted a Code of Business Conduct and Ethics that applies to
our employees (including our principal executive officer, chief financial
officer and controller) and directors. Our Code of Business Conduct and
Ethics can be obtained free of charge by sending a request to our Corporate
Secretary to the following address: Integrated Healthcare Holdings, Inc.,
Attn: James T. Ligon, 695 Town Center Drive, Suite 260, Costa Mesa,
California 92626.
Section 16(a) Beneficial Ownership Reporting Compliance
Section 16(a) of the Securities Exchange Act of 1934 requires our officers
and directors, and persons who own more than 10% of a registered class of our
equity securities, to file reports of ownership and changes in ownership with
the SEC. Officers, directors and greater than 10% stockholders are required by
SEC regulation to furnish us with copies of all Section 16(a) reports they file.
Based solely upon the copies of Section 16(a) reports which we received
from such persons or written representations from them regarding their
transactions in our common stock, we believe that, during the year ended
December 31, 2004, all Section 16(a) filing requirements applicable to our
officers, directors and greater than 10% beneficial owners were met in a timely
manner.
ITEM 10. EXECUTIVE COMPENSATION
The following table sets forth compensation information during 2004 and
2003 for services rendered to us by each of our executive officers as of
December 31, 2004 in all capacities, other than as directors.
SUMMARY COMPENSATION TABLE
Annual Compensation Long-Term Compensation
--------------------- ----------------------------------
Awards Payouts
----------------------- -------
Restricted Securities
Other Annual Stock Underlying LTIP All Other
Salary Bonus Compensation Awards Option/SARs Payouts Compensation
Name and Position Year $ $ $ $ and Warrants $ $
----------------- ---- ------ ----- ------------ ---------- ------------ ------- ------------
Bruce Mogel 2004 111,500 12,500 0 0 0 0 0
Chief Executive Officer 2003 0 0 0 0 0 0 0
Larry B. Anderson 2004 101,500 12,500 0 0 0 0 0
President 2003 0 0 0 0 0 0 0
James T. Ligon 2004 116,500 12,500 0 0 0 0 0
Chief Financial Officer 2003 0 0 0 0 0 0 0
----------------------------
During the periods covered by this table, none of the Company's executive
officers were granted any stock option or stock appreciation right; accordingly,
no tables relating to such items have been included within this Item. There are
no standard arrangements pursuant to which the Company's directors are
compensated for any services provided as director. No additional amounts are
payable to the Company's directors for committee participation or special
assignments.
13
Employment Contracts, Severance Agreements and Change of Control Arrangements
In February 2005, we entered into three-year employment agreements with
Messrs. Mogel, Anderson and Ligon, with each agreement on the following terms:
o Base salary of $360,000 per year;
o Bonus as determined by the Board of Directors;
o Stock options for 1,000,000 shares, vesting annually in three
equal installments;
o Standard medical and dental insurance;
o Up to four weeks vacation annually;
o Monthly auto allowance of $1,000, and use of cellular
telephone; and
o Twelve months severance pay upon termination without cause or
resignation for cause.
The Company also intends to enter into an employment agreement with Dr.
Shah, on terms to be determined.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
The following table sets forth information known to us with respect to the
beneficial ownership of our common stock as of March 25, 2005, unless otherwise
noted, by:
o each shareholder known to us to own beneficially more than 5% of our
common stock;
o each of our directors and each of our executive officers at December 31,
2004; and
o all of our current directors and executive officers as a group.
Except as otherwise noted below, the address of each person or entity
listed on the table is 695 Town Center Drive, Suite 260, Costa Mesa, California
92626.
Amount and
Nature of
Beneficial Percentage
Name Ownership(1) of Total
---- ------------ ----------
DIRECTORS AND EXECUTIVE OFFICERS
Dr. Anil V. Shah(1)..................................................96,100,000(2) 77.9%(2)
Bruce Mogel.......................................................... 5,376,000 4.6%
Larry B. Anderson.................................................... 5,376,000 4.6%
James T. Ligon....................................................... 5,376,000 4.6%
All current directors and executive officers as a group (5 persons)........112,228,000 95.1%
PRINCIPAL SHAREHOLDERS (other than those named above)
Orange County Physicians Investment Network, LLC ("OCPIN") 1.........96,100,000(2) 77.9%(2)
----------------------------
(1) Dr. Shah is the managing member and part owner of OCPIN. Dr. Shah and
OCPIN may be deemed to be a "group" for purposes of Section 13(d)(3) of
the Securities Exchange Act of 1934. Dr. Shah disclaims beneficial
ownership of all shares held by OCPIN except to the extent of his
pecuniary interest therein.
(2) Includes 5,400,000 shares that may be acquired within 60 days under
the terms of a Stock Purchase Agreement with the Company dated as of
January 28, 2005.
The Company currently has no compensation plans under which equity
securities of the Company are authorized for issuance.
14
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The following is a summary of certain transactions occurring in the last
two years between the Company and its directors, officers and 5% or greater
shareholders (other than compensatory arrangements which are discussed above):
In January 2004, the Company began reimbursing Mogel Management, LLC for
leased office space. This transaction is described above under Item 2.
Properties.
On January 1, 2004, the Company acquired Mogel Management Group, Inc., an
operating company owned by Messrs. Mogel, Anderson and Ligon, for promissory
notes with an aggregate principal amount of $60,000. The notes are due on
December 31, 2004 and bear interest at the rate of six percent per year.
On January 1, 2004, Messrs. Mogel, Ligon and Anderson executed Employment
Agreements with the Company, which are described above under Item 10. Executive
Compensation, and also filed as Exhibits 10.1, 10.2 and 10.3 to this Report.
On November 16, 2004, the Company entered into a Purchase Option Agreement
(the "Purchase Option Agreement") with Dr. Anil V. Shah or his assignee, OCPIN,
granting to OCPIN an option (the "Purchase Option") to (i) purchase up to
50,000,000 shares of common stock of the Company for an aggregate of $15,000,000
and (ii) invest $2,500,000 for a 49% membership interest in a new limited
liability company (the "Real Estate LLC") to be formed for the purpose of
holding real estate which the Company agreed to acquire from subsidiaries of
Tenet Healthcare Corporation. The Company also granted a stock option to Dr.
Anil V. Shah individually providing that, if the Purchase Option is exercised in
full by OCPIN, the Company will provide Dr. Shah with an additional right to
purchase 10,000,000 shares of common stock of the Company for $0.25 per share.
On January 28, 2005, the Company entered into a Stock Purchase Agreement
with OCPIN, under which (i) the Purchase Option Agreement was terminated, and
(ii) OCPIN agreed to invest $30,000,000 in the Company for an aggregate of
108,000,000 shares of common stock of the Company.
Also, on January 27, 2005, the Company entered into a Rescission,
Restructuring and Assignment Agreement (the "Restructuring Agreement") with Kali
P. Chaudhuri, M.D., William E. Thomas, Anil V. Shah, M.D. The Restructuring
Agreement amended and canceled certain portions of an agreement under which Dr.
Chaudhui agreed to acquire stock in the Company. Also under the Restructuring
Agreement, (i) OCPIN agreed to pay or cause to be paid to Dr. Chaudhuri his
escrow deposit of $10,000,000 plus accrued interest, and (ii) OC-PIN and Dr.
Chaudhuri agreed to form a new real estate holding company to own and operate
the Real Estate LLC, with Dr. Chaudhuri to own no more than 49% of the Real
Estate LLC.
On March 7, 2005, upon acquisition of the Hospitals, the Company
transferred its right to all of the fee interests in the Hospital Properties to
Pacific Coast Holdings Investments, LLC ("PCHI"). PCHI is 51% owned by West
Coast Holdings, LLC (owned in part by Dr. Anil Shah) and 49% by Ganesha Realty
LLC (owned in part by Dr. Kali Chaudhuri). The Company entered into a Triple Net
Lease under which it leased back from PCHI all of the Hospital Properties.
ITEM 13. EXHIBITS
Exhibits required to be filed are listed below and except where
incorporated by reference, immediately follow the Financial Statements. Each
management or compensation plan is marked with an asterisk (*). Each document
filed with this report is marked with two asterisks (**).
Exhibit
Number Description
- ------ -----------
2.1 Asset Sale Agreement, dated September 29, 2004, by and among the
Registrant and certain subsidiaries of Tenet Healthcare Corporation
(AHM CGH, Inc., Health Resources Corporation of America -
California, SHL/O Corp., and UWMC Hospital Corporation)
(incorporated herein by reference from Exhibit 10.2 to the
Registrant's Current Report on Form 8-K filed with the Commission on
November 22, 2004).
2.2 First Amendment to Asset Sale Agreement, dated January 28, 2005, by
and among the Registrant and certain subsidiaries of Tenet
Healthcare Corporation (incorporated herein by reference from
Exhibit 99.4 to the Registrant's Current Report on Form 8-K filed
with the Commission on February 2, 2005).
2.3 Second Amendment to Asset Sale Agreement, effective as of January 1,
2005, by and among the Registrant and certain subsidiaries of Tenet
Healthcare Corporation (incorporated herein by reference from
Exhibit 99.1 to the Registrant's Current Report on Form 8-K filed
with the Commission on March 14, 2005).
2.4 Third Amendment to Asset Sale Agreement, effective as of March 8,
2005, by and among the Registrant and certain subsidiaries of Tenet
Healthcare Corporation (incorporated herein by reference from
Exhibit 99.2 to the Registrant's Current Report on Form 8-K filed
with the Commission on March 14, 2005).
2.5 Letter Agreement, dated January 28, 2005, by and between the
Registrant and certain subsidiaries of Tenet Healthcare Corporation
(incorporated herein by reference from Exhibit 99.3 to the
Registrant's Current Report on Form 8-K filed with the Commission on
February 2, 2005).
3.1 Articles of Incorporation of the Registrant (incorporated herein by
reference from Exhibits 3.3, 3.4 and 3.6 to Form 10-SB filed by the
Registrant on December 16, 1997).
3.2 Certificate of Amendment to Articles of Incorporation of the
Registrant (incorporated by reference to Appendix A to Registrant's
Definitive Information Statement on Schedule 14C filed by the
Registrant on October 20, 2004).
3.3 Bylaws of the Registrant. **
10.1 Employment Agreement with Bruce Mogel, dated January 1, 2004*
(incorporated herein by reference from Exhibit 10.1 to the
Registrant's Transitional Report on Form 10-K filed with the
Commission on April 15, 2004).
10.2 Employment Agreement with Larry B. Anderson, dated January 1, 2004*
(incorporated herein by reference from Exhibit 10.2 to the
Registrant's Transitional Report on Form 10-K filed with the
Commission on April 15, 2004).
10.3 Employment Agreement with James T. Ligon, dated January 1, 2004*
(incorporated herein by reference from Exhibit 10.3 to the
Registrant's Transitional Report on Form 10-K filed with the
Commission on April 15, 2004).
10.4 Secured Convertible Note Purchase Agreement, dated as of September
28, 2004, by and between the Registrant and Kali P. Chaudhuri, M.D.
(incorporated herein by reference from Exhibit 10.1 to the
Registrant's Current Report on Form 8-K filed with the Commission on
October 5, 2004).
10.5 First Amendment to Secured Convertible Note Purchase Agreement,
dated as of November 16, 2004, by and between the Registrant and
Kali P. Chaudhuri, M.D. (incorporated herein by reference from
Exhibit 10.1 to the Registrant's Current Report on Form 8-K filed
with the Commission on November 22, 2004).
10.6 Purchase Option Agreement, dated as of November 16, 2004, by and
between the Registrant and Anil V. Shah, M.D. (incorporated herein
by reference from Exhibit 10.2 to the Registrant's Current Report on
Form 8-K filed with the Commission on November 22, 2004).
10.7 Rescission, Restructuring and Assignment Agreement, dated January
27, 2005, by and among the Registrant, Kali P. Chaudhuri, M.D.,
William E. Thomas, Anil V. Shah, M.D., and Orange County Physicians
Investment Network, LLC (incorporated herein by reference from
Exhibit 99.1 to the Registrant's Current Report on Form 8-K filed
with the Commission on February 2, 2005).
10.8 Stock Purchase Agreement, dated January 28, 2005, by and between the
Registrant and Orange County Physicians Investment Network, LLC
(incorporated herein by reference from Exhibit 99.2 to the
Registrant's Current Report on Form 8-K filed with the Commission on
February 2, 2005).
10.9 Guaranty Agreement, dated as of March 3, 2005, by Orange County
Physicians Investment Network, LLC in favor of Medical Provider
Financial Corporation II (incorporated herein by reference from
Exhibit 99.3 to the Registrant's Current Report on Form 8-K filed
with the Commission on March 14, 2005).
10.10 Guaranty Agreement, dated as of March 3, 2005, by Pacific Coast
Holdings Investments, LLC in favor of Medical Provider Financial
Corporation II (incorporated herein by reference from Exhibit 99.4
to the Registrant's Current Report on Form 8-K filed with the
Commission on March 14, 2005).
10.11 Subordination Agreement, dated as of March 3, 2005, by and among the
Registrant and its subsidiaries, Pacific Coast Holdings Investments,
LLC, and Medical Provider Financial Corporation II (incorporated
herein by reference from Exhibit 99.5 to the Registrant's Current
Report on Form 8-K filed with the Commission on March 14, 2005).
10.12 Credit Agreement, dated as of March 3, 2005, by and among the
Registrant and its subsidiaries, Pacific Coast Holdings Investments,
LLC and its members, and Medical Provider Financial Corporation II
(incorporated herein by reference from Exhibit 99.6 to the
Registrant's Current Report on Form 8-K filed with the Commission on
March 14, 2005).
10.13 Form of $50 million acquisition note by the Registrant and its
subsidiaries (incorporated herein by reference from Exhibit 99.7 to
the Registrant's Current Report on Form 8-K filed with the
Commission on March 14, 2005).
10.14 Form of $30 million line of credit note by the Registrant and its
subsidiaries (incorporated herein by reference from Exhibit 99.8 to
the Registrant's Current Report on Form 8-K filed with the
Commission on March 14, 2005).
10.15 Triple Net Hospital and Medical Office Building Lease dated March 7,
2005, as amended by Amendment No. 1 To Triple Net Hospital and
Medical Office Building Lease (incorporated herein by reference from
Exhibit 99.9 to the Registrant's Current Report on Form 8-K filed
with the Commission on March 14, 2005).
10.16 Employment Agreement with Bruce Mogel, dated February 25, 2005. * **
10.17 Employment Agreement with Larry B. Anderson, dated February 25,
2005. * **
10.18 Employment Agreement with James T. Ligon, dated February 25, 2005. *
**
10.19 Employment Agreement with Milan Mehta, dated February 25, 2005. * **
10.20 Employment Agreement with Hari S. Lal, dated February 25, 2004. * **
10.21 Employment Agreement with Daniel J. Brothman, dated December 31,
2004. * **
10.22 Employment Agreement with Steve Blake, dated March 21, 2005. * **
21.1 The subsidiaries of the Registrant are WMC-SA, Inc., a California
corporation, WMC-A, Inc., a California corporation, Chapman Medical
Center, Inc., a California corporation, Coastal Communities
Hospital, Inc., a California corporation, and Mogel Management,
Inc., a Nevada corporation.
31.1 Certification of Chief Executive Officer Pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002 **
31.2 Certification of Chief Financial Officer Pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002 **
32.1 Certification of Chief Executive Officer Pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002 **
32.2 Certification of Chief Financial Officer Pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002 **
15
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The following table sets forth the aggregate fees that we incurred for
audit and non-audit services provided by Ramirez International, which acted as
independent auditors for the year ended December 31, 2004 and performed audit
services for us during this period. The audit fees include only fees that are
customary under generally accepted auditing standards and are the aggregate fees
that we incurred for professional services rendered for the audit of our
financial statements for the year ended December 31, 2004.
Nature of fees December 31, 2004
-------------- -----------------
Audit Fees (Financial) $24,330
Audit Related Fees $0
Tax Fees $0
Other Fees $0
The full Board of Directors pre-approves all audit and permissible
non-audit services to be performed by the independent auditors.
16
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
INTEGRATED HEALTHCARE HOLDINGS, INC.
Dated: March 31, 2005 By: /s/ Bruce Mogel
-------------------------
Bruce Mogel
Chief Executive Officer
(Principal Executive Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934, this
Report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
Dated: March 31, 2005 By: /s/ Bruce Mogel
-------------------------
Bruce Mogel
Director and Chief Executive Officer
(Principal Executive Officer)
Dated: March 31, 2005 By: /s/ Larry B. Anderson
-------------------------
Larry B. Anderson
Director
Dated: March 31, 2005 By: /s/ James T. Ligon
-------------------------
James T. Ligon
Director and Chief Financial Officer
(Principal Financial Officer)
Dated: March 31, 2005 By: /s/ Anil V. Shah, M.D.
-------------------------
Anil V. Shah, M.D.
Director
17
EXHIBIT INDEX
Exhibit
Number Description
- ------ -----------
2.1 Asset Sale Agreement, dated September 29, 2004, by and among the
Registrant and certain subsidiaries of Tenet Healthcare Corporation
(AHM CGH, Inc., Health Resources Corporation of America -
California, SHL/O Corp., and UWMC Hospital Corporation)
(incorporated herein by reference from Exhibit 10.2 to the
Registrant's Current Report on Form 8-K filed with the Commission on
November 22, 2004).
2.2 First Amendment to Asset Sale Agreement, dated January 28, 2005, by
and among the Registrant and certain subsidiaries of Tenet
Healthcare Corporation (incorporated herein by reference from
Exhibit 99.4 to the Registrant's Current Report on Form 8-K filed
with the Commission on February 2, 2005).
2.3 Second Amendment to Asset Sale Agreement, effective as of January 1,
2005, by and among the Registrant and certain subsidiaries of Tenet
Healthcare Corporation (incorporated herein by reference from
Exhibit 99.1 to the Registrant's Current Report on Form 8-K filed
with the Commission on March 14, 2005).
2.4 Third Amendment to Asset Sale Agreement, effective as of March 8,
2005, by and among the Registrant and certain subsidiaries of Tenet
Healthcare Corporation (incorporated herein by reference from
Exhibit 99.2 to the Registrant's Current Report on Form 8-K filed
with the Commission on March 14, 2005).
2.5 Letter Agreement, dated January 28, 2005, by and between the
Registrant and certain subsidiaries of Tenet Healthcare Corporation
(incorporated herein by reference from Exhibit 99.3 to the
Registrant's Current Report on Form 8-K filed with the Commission on
February 2, 2005).
3.1 Articles of Incorporation of the Registrant (incorporated herein by
reference from Exhibits 3.3, 3.4 and 3.6 to Form 10-SB filed by the
Registrant on December 16, 1997).
3.2 Certificate of Amendment to Articles of Incorporation of the
Registrant (incorporated by reference to Appendix A to Registrant's
Definitive Information Statement on Schedule 14C filed by the
Registrant on October 20, 2004).
3.3 Bylaws of the Registrant. **
10.1 Employment Agreement with Bruce Mogel, dated January 1, 2004*
(incorporated herein by reference from Exhibit 10.1 to the
Registrant's Transitional Report on Form 10-K filed with the
Commission on April 15, 2004).
10.2 Employment Agreement with Larry B. Anderson, dated January 1, 2004*
(incorporated herein by reference from Exhibit 10.2 to the
Registrant's Transitional Report on Form 10-K filed with the
Commission on April 15, 2004).
10.3 Employment Agreement with James T. Ligon, dated January 1, 2004*
(incorporated herein by reference from Exhibit 10.3 to the
Registrant's Transitional Report on Form 10-K filed with the
Commission on April 15, 2004).
10.4 Secured Convertible Note Purchase Agreement, dated as of September
28, 2004, by and between the Registrant and Kali P. Chaudhuri, M.D.
(incorporated herein by reference from Exhibit 10.1 to the
Registrant's Current Report on Form 8-K filed with the Commission on
October 5, 2004).
10.5 First Amendment to Secured Convertible Note Purchase Agreement,
dated as of November 16, 2004, by and between the Registrant and
Kali P. Chaudhuri, M.D. (incorporated herein by reference from
Exhibit 10.1 to the Registrant's Current Report on Form 8-K filed
with the Commission on November 22, 2004).
10.6 Purchase Option Agreement, dated as of November 16, 2004, by and
between the Registrant and Anil V. Shah, M.D. (incorporated herein
by reference from Exhibit 10.2 to the Registrant's Current Report on
Form 8-K filed with the Commission on November 22, 2004).
10.7 Rescission, Restructuring and Assignment Agreement, dated January
27, 2005, by and among the Registrant, Kali P. Chaudhuri, M.D.,
William E. Thomas, Anil V. Shah, M.D., and Orange County Physicians
Investment Network, LLC (incorporated herein by reference from
Exhibit 99.1 to the Registrant's Current Report on Form 8-K filed
with the Commission on February 2, 2005).
10.8 Stock Purchase Agreement, dated January 28, 2005, by and between the
Registrant and Orange County Physicians Investment Network, LLC
(incorporated herein by reference from Exhibit 99.2 to the
Registrant's Current Report on Form 8-K filed with the Commission on
February 2, 2005).
10.9 Guaranty Agreement, dated as of March 3, 2005, by Orange County
Physicians Investment Network, LLC in favor of Medical Provider
Financial Corporation II (incorporated herein by reference from
Exhibit 99.3 to the Registrant's Current Report on Form 8-K filed
with the Commission on March 14, 2005).
10.10 Guaranty Agreement, dated as of March 3, 2005, by Pacific Coast
Holdings Investments, LLC in favor of Medical Provider Financial
Corporation II (incorporated herein by reference from Exhibit 99.4
to the Registrant's Current Report on Form 8-K filed with the
Commission on March 14, 2005).
10.11 Subordination Agreement, dated as of March 3, 2005, by and among the
Registrant and its subsidiaries, Pacific Coast Holdings Investments,
LLC, and Medical Provider Financial Corporation II (incorporated
herein by reference from Exhibit 99.5 to the Registrant's Current
Report on Form 8-K filed with the Commission on March 14, 2005).
10.12 Credit Agreement, dated as of March 3, 2005, by and among the
Registrant and its subsidiaries, Pacific Coast Holdings Investments,
LLC and its members, and Medical Provider Financial Corporation II
(incorporated herein by reference from Exhibit 99.6 to the
Registrant's Current Report on Form 8-K filed with the Commission on
March 14, 2005).
10.13 Form of $50 million acquisition note by the Registrant and its
subsidiaries (incorporated herein by reference from Exhibit 99.7 to
the Registrant's Current Report on Form 8-K filed with the
Commission on March 14, 2005).
10.14 Form of $30 million line of credit note by the Registrant and its
subsidiaries (incorporated herein by reference from Exhibit 99.8 to
the Registrant's Current Report on Form 8-K filed with the
Commission on March 14, 2005).
10.15 Triple Net Hospital and Medical Office Building Lease dated March 7,
2005, as amended by Amendment No. 1 To Triple Net Hospital and
Medical Office Building Lease (incorporated herein by reference from
Exhibit 99.9 to the Registrant's Current Report on Form 8-K filed
with the Commission on March 14, 2005).
10.16 Employment Agreement with Bruce Mogel, dated February 25, 2005. * **
10.17 Employment Agreement with Larry B. Anderson, dated February 25,
2005. * **
10.18 Employment Agreement with James T. Ligon, dated February 25, 2005. *
**
10.19 Employment Agreement with Milan Mehta, dated February 25, 2005. * **
10.20 Employment Agreement with Hari S. Lal, dated February 25, 2004. * **
10.21 Employment Agreement with Daniel J. Brothman, dated December 31,
2004. * **
10.22 Employment Agreement with Steve Blake, dated March 21, 2005. * **
21.1 The subsidiaries of the Registrant are WMC-SA, Inc., a California
corporation, WMC-A, Inc., a California corporation, Chapman Medical
Center, Inc., a California corporation, Coastal Communities
Hospital, Inc., a California corporation, and Mogel Management,
Inc., a Nevada corporation.
31.1 Certification of Chief Executive Officer Pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002 **
31.2 Certification of Chief Financial Officer Pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002 **
32.1 Certification of Chief Executive Officer Pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002 **
32.2 Certification of Chief Financial Officer Pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002 **
Financial Statements and Report of
Independent Certified Public Accountants
INTEGRATED HEALTHCARE HOLDINGS, INC.
(A Development Stage Enterprise)
December 31, 2004 and 2003
Table of Contents
Report of Independent Registered Public Accounting Firm..................... F-2
Consolidated Financial Statements
Consolidated Balance Sheet......................................... F-3
Consolidated Statement of Operations............................... F-4
Consolidated Statement of Stockholders' Equity..................... F-5
Consolidated Statement of Cash Flows............................... F-6
Notes to Consolidated Financial Statements......................... F-7
F-1
Report of Independent Registered Public Accounting Firm
The Board of Directors of
Integrated Healthcare Holdings, Inc.:
We have audited the accompanying consolidated balance sheet of Integrated
Healthcare Holdings, Inc. and subsidiary (a Development Stage Enterprise) (the
"Company") as of December 31, 2004 and 2003 and the related consolidated
statements of operations, stockholders' equity and cash flows for each of the
years then ended and the period from inception (July 31, 1984) through December
31, 2004. These consolidated financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
statements based on our audit. The Company's financial statements as of June 30,
2003 and for the period July 31, 1984 (date of inception) through June 30, 2003
were audited by other auditors whose report, dated September 8, 2003, expressed
an unqualified opinion with an explanatory paragraph regarding the Company's
ability to continue as a going concern. The other auditors' report has been
furnished to us, and our opinion, insofar as it relates to the amounts included
for such period, is based solely on the report of such other auditors.
We conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). 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 financial position of Integrated
Healthcare Holdings, Inc. and subsidiary as of December 31, 2004 and 2003 and
the results of their operations and cash flows for each of the years ended
December 31, 2004 and 2003, and for the period from July 31, 1984 (date of
inception) to December 31, 2004 in conformity with generally accepted accounting
principles in the United States of America.
RAMIREZ INTERNATIONAL
Financial & Accounting Services, Inc.
March 30, 2005
Irvine, CA
F-2
INDEPENDENT AUDITORS' REPORT
Board of Directors FIRST DELTAVISION, INC.
Salt Lake City, Utah
We have audited the accompanying balance sheet of First Deltavision, Inc. (a
development stage company that changed its name to Integrated Healthcare
Holdings, Inc. subsequent to the completion of our audit) at June 30, 2003, and
the related statements of operations, stockholders' equity (deficit) and cash
flows for the years ended June 30, 2003 and 2002 (not separately presented in
the Company's Form 10-KSB for the year ended December 31, 2004) and for the
period from inception on July 31, 1984 through June 30, 2003. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audit. The financial statements of First Deltavision, Inc. for the period
from inception on July 31, 1984 to June 30, 1999 were audited by other auditors
whose report dated September 28, 1999 expressed an unqualified opinion on those
statements and included an explanatory paragraph regarding the Company's ability
to continue as a going concern. The financial statements for the period from
inception on July 31, 1984 to June 30, 1999 reflect a net loss of $129,168. Our
opinion, insofar as it relates to the amounts included for such prior periods,
is based solely on the report of such other auditors.
We conducted our audit in accordance with generally accepted auditing standards
in the United States of America. 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 audit provides a
reasonable basis for our opinion.
In our opinion, based on our audit and the reports of other auditors, the
financial statements audited by us present fairly, in all material respects, the
financial position of First Deltavision, Inc. [a development stage company] as
of June 30, 2003 and the results of its operations and its cash flows for the
years ended June 30, 2003 and 2002 (not separately presented in the Company's
Form 10-KSB for the year ended December 31, 2004) and for the period from
inception on July 31, 1984 through June 30, 2003, in conformity with generally
accepted accounting principles in the United States of America.
The accompanying financial statements have been prepared assuming the Company
will continue as a going concern. As discussed in Note 1 to the financial
statements, the company has incurred losses since its inception, has current
liabilities in excess of current assets and has not yet been successful in
establishing profitable operations. These factors raise substantial doubt about
its ability to continue as a going concern. Management's plans in regards to
these matters are also described in Note 1. The financial statements do not
include any adjustments that might result from the outcome of these
uncertainties.
PRITCHETT, SILER & HARDY, P.C.
September 8, 2003
Salt Lake City, Utah
INTEGRATED HEALTHCARE HOLDINGS, INC.
(A Development Stage Enterprise)
Consolidated Balance Sheet
December 31,
ASSETS
2004 2003
------------ ------------
Current assets
Cash and cash equivalents $ 69,454 $ 265,000
Prepaid expenses and other assets 18,519 --
------------ ------------
87,973 265,000
Property and equipment:
Office equipment 41,445 26,537
Furniture and fixtures 27,347 21,095
------------ ------------
68,792 47,632
Accumulated depreciation (11,369) (651)
------------ ------------
57,423 46,981
Investment in hospital asset purchase 11,142,145 --
Intangible asset, net of accumulated
amortization of $57,819 and $6,424 44,970 96,366
Due from shareholders -- 60,000
------------ ------------
Total assets $ 11,332,511 $ 468,347
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities
Accounts payable $ 156,142 $ 15,727
Accrued compensation and benefits 800,313 --
Secured notes payable 11,264,013 100,000
------------ ------------
Total current liabilities 12,220,468 115,727
Commitments and contingencies -- --
Stockholders' equity:
Common stock, $0.001 par value; 250,000,000
shares authorized; 20,780,000 and
19,380,000 shares issued and
outstanding, respectively 20,780 19,380
Additional paid in capital 1,199,621 551,021
Stock subscription receivable (10,000) --
Deficit accumulated during
the development stage (2,098,358) (217,781)
------------ ------------
Total stockholders' equity (887,957) 352,620
------------ ------------
Total liabilities and stockholders' equity $ 11,332,511 $ 468,347
============ ============
The accompanying notes are an integral part of these financial statements.
F-3
INTEGRATED HEALTHCARE HOLDINGS, INC.
(A Development Stage Enterprise)
Consolidated Statement of Operations
Year Ended
------------------------------------
Cumulative from
inception
(July 31, 1984)
through
December 31, 2004 December 31,2004 December 31, 2003
------------ ------------ ------------
Revenue $ -- $ -- $ --
General and administrative expenses 2,057,972 1,840,191 28,132
------------ ------------ ------------
Loss from operations before provision
for income taxes (2,057,972) (1,840,191) (28,132)
Provision for income taxes -- -- --
------------ ------------ ------------
Net loss $ (2,057,972) $ (1,840,191) $ (28,132)
============ ============ ============
Basic and diluted net loss per share $ (0.09) $ (0.01)
Weighted average shares outstanding 19,986,750 3,470,589
The accompanying notes are an integral part of these financial statements.
F-4
INTEGRATED HEALTHCARE HOLDINGS, INC.
(A Development Stage Enterprise)
Consolidated Statement of Stockholder's Equity
Deficit
Accumulated
Common Stock Additional Stock During the
-------------------------- Paid-in Subscription Development
Shares Amount Capital Receivable Stage Total
------------- ------------ ------------- ------------ ------------ -----------
Balance, December 31, 2002 1,342,000 $ 1,342 $ 101,269 $ -- $ (189,649) $ (87,038)
Issuance of common stock for
relief of debt at $0.0062 16,128,000 16,128 83,872 -- -- 100,000
Issuance of common stock for
letter of indemnification at
$0.0062 per share 450,000 450 2,340 -- -- 2,790
Issuance of common stock for
cash at $0.25 per share 1,460,000 1,460 363,540 -- -- 365,000
Net loss -- -- -- -- (28,132) (28,132)
------------- ------------ ------------- ------------ ------------ -----------
Balance, December 31, 2003 19,380,000 $ 19,380 $ 551,021 $ -- $ (217,781) $ 352,620
Issuance of debt for the
acquisition of MMG, Inc. -- -- -- -- (40,386) (40,386)
Issuance of common stock for
cash at $0.25 per share 200,000 200 49,800 -- -- 50,000
Issuance of common stock for
cash at $0.50 per share 1,180,000 1,180 588,820 -- -- 590,000
Issuance of common stock for
cash at $0.50 per share 20,000 20 9,980 (10,000) -- --
Net loss -- -- -- -- (1,840,191) (1,840,191)
------------- ------------ ------------- ------------ ------------ ------------
Balance, December 31, 2004 20,780,000 $ 20,780 $1,199,621 $ (10,000) $ (2,098,358) $ (887,957)
============= ============ ============= ============ ============ ===========
The accompanying notes are an integral part of these financial statements.
F-5
INTEGRATED HEALTHCARE HOLDINGS, INC.
(A Development Stage Enterprise)
Consolidated Statement of Cash Flows
Cumulative
From
Inception
(July 31, 1984)
Through Year Ended Year Ended
December 31, 2004 December 31, 2004 December 31, 2003
------------ ------------ ------------
Cash flows from operating activities:
Net loss $ (2,057,972) $ (1,840,191) $ (28,132)
Adjustments to reconcile net loss to cash
used in operating activities:
Depreciation and amortization expense 69,189 62,114 7,075
Noncash forgiveness of debt (19,745) (60,000) --
Increase in prepaids (10,725) (10,725) --
Increase in accounts payable 146,142 130,415 15,727
Increase in accrued compensation and benefits 800,313 800,313 --
Decrease in accounts payable - related party -- -- 8,607
Decrease in due to officers -- -- 4,355
------------ ------------ ------------
Net cash (used in) provided by operating activities (1,072,798) (918,074) 7,632
------------ ------------ ------------
Cash flows from investing activities:
Purchase of property and equipment (68,792) (21,160) (47,632)
Acquisition of MMG, Inc., net of cash acquired 8,535 8,535 --
------------ ------------ ------------
Net cash used in investing activities (60,257) (12,625) (47,632)
Cash flows from financing activities:
Proceeds from issuance of stock 1,167,356 640,000 365,000
Issuance of notes payable 121,868 121,868 --
Repayment of prommisory note (100,000) (100,000) --
Advances from (to) shareholders 13,285 73,285 (60,000)
------------ ------------ ------------
Net cash provided by financing activities 1,202,509 735,153 305,000
------------ ------------ ------------
Net increase (decrease) in cash 69,454 (195,546) 265,000
------------ ------------ ------------
Cash and cash equivalents, beginning of period -- 265,000 --
------------ ------------ ------------
Cash and cash equivalents, end of period $ 69,454 $ 69,454 $ 265,000
============ ============ ============
Supplemental Schedule of Noncash Financing Activities:
Issuance of promissory notes for the initial
investment in the Tenet Hospital Acquisition $ 11,142,145 $ 11,142,145 $ --
Issuance of a promissory note in exchange
for a letter of indemnification $ 100,000 $ -- $ 100,000
Issuance of common stock for the
relief of debt $ 100,000 $ -- $ 100,000
The accompanying notes are an integral part of these financial statements.
F-6
INTEGRATED HEALTHCARE HOLDINGS, INC.
(A Development Stage Enterprise)
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Organization - Integrated Healthcare Holdings, Inc., ("the Company") was
organized under the laws of the State of Utah on July 31, 1984 under the name of
Aquachlor Marketing. The Company never engaged in business activities and was
suspended for failure to file annual reports and tax returns. In December 1988,
all required reports and tax returns were filed and the Company was reinstated
by the State of Utah. In December 1988, the Company merged with Aquachlor, Inc.,
a Nevada corporation incorporated on December 20, 1988. The Nevada corporation
became the surviving entity and changed its name to Deltavision, Inc. In March
1997, the Company received a Certificate of Revival from the State of Nevada
using the name First Deltavision, Inc. In March 2004, the Company changed its
name to Integrated Healthcare Holdings, Inc.
Consolidation - The consolidated financial statements include the accounts of
Integrated Healthcare Holdings, Inc. ("the Company") and its wholly owned
subsidiary, Mogel Management Group, Inc. ("MMG"). All intercompany transactions
and balances have been eliminated in consolidation.
Company Operations - The Company has not engaged in any business activities that
have produced revenues and, therefore, is considered a development stage company
as defined in Statement of Financial Accounting Standards No. 7. The Company
seeks to acquire, own, and operate hospitals and surgical services throughout
the United States.
The accompanying financial statements have been prepared on a going concern
basis, which contemplates the realization of assets and settlement of
obligations in the normal course of business. The Company generated losses from
continuing operations of $1,840,191 and $28,132 during the years ended December
31, 2004 and 2003, respectively. In addition, the Company had negative working
capital of $12,132,495 at December 31, 2004. These factors, among others, raise
doubt about the Company's ability to continue as a going concern. Similar
conditions including the Company's history of losses since its inception, its
financial position where current liabilities exceeded current assets, and the
Company's lack of success in establishing profitable operations, caused the
former independent auditor that issued a report on the Company's financial
statements at June 30, 2003 and for the period from inception through June 30,
2003 to conclude that at June 30, 2003 there was substantial doubt about the
ability of the Company to continue as a going concern and to modify its report,
dated September 8, 2003, accordingly. The consolidated financial statements do
not include any adjustments that might result from the outcome of these
uncertainties.
In March 2005, the Company completed its purchase of certain hospitals and has
secured a credit agreement that consists of a $50 million Acquisition Loan and a
$30 million working line of credit with a lender. In addition in March 2005, the
Company converted its $10 million Secured Promissory Note to equity. Management
believes the Company has sufficient access to funds and the ability to raise
additional capital to meet its continuing obligations for the foreseeable
future.
Cash and Cash Equivalents - The Company considers all highly liquid debt
investments purchased with a maturity of three months or less to be cash
equivalents.
Accounting Estimates - The preparation of financial statements in conformity
with generally accepted accounting principles in the United States of America
required management to make estimates and assumptions that effect the reported
amounts of assets and liabilities, the disclosures of contingent assets and
liabilities at the date of the financial statements, and the reported amounts of
revenues and expenses during the reporting period. Actual results could differ
from those estimated by management.
Stock-Based Compensation - Statement of Financial Accounting Standards No. 123,
Accounting for Stock Based Compensation, encourages, but does not require,
companies to record compensation cost for stock-based employee compensation
plans at fair value. The Company has chosen to account for stock-based
compensation using the intrinsic value method prescribed in previously issued
standards. Accordingly, compensation cost for stock options issued to employees
is measured as the excess, if any, of the fair market value of the Company's
stock at the date of grant over the amount an employee must pay to acquire the
stock. Compensation is charged to expense over the shorter of the service or
vesting period. Stock options issued to non-employees are recorded at the fair
value of the services received or the fair value of the options issued,
whichever is more reliably measurable, and charged to expense over the service
period. As of December 31, 2004, the Company did not have any stock options or
warrants outstanding.
F-7
INTEGRATED HEALTHCARE HOLDINGS, INC.
(A Development Stage Enterprise)
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
Fair Value of Financial Instruments - The Company considers all liquid
interest-earning investments with a maturity of three months or less at the date
of purchase to be cash equivalents. Short-term investments generally mature
between three months and six months from the purchase date. All cash and
short-term investments are classified as available for sale and are recorded at
market using the specific identification method; unrealized gains and losses are
reflected in other comprehensive income. Cost approximates market for all
classifications of cash and short-term investments.
Net Loss per Common Share - Net loss per share is calculated in accordance with
Statement of Financial Accounting Standards No. 128, Earnings Per Share. Basic
net loss per share is based upon the weighted average number of common shares
outstanding. Diluted net loss per share is based on the assumption that options
are included in the calculation of diluted earnings per share, except when their
effect would be anti-dilutive. Dilution is computed by applying the treasury
stock method. Under this method, options and warrants are assumed to be
exercised at the beginning of the period (or at the time of issuance, if later),
and as if funds obtained thereby were used to purchase common stock at the
average market price during the period.
Impairment of Long-Lived Assets - The Company continually monitors events or
changes in circumstances that could indicate that the carrying amount of
long-lived assets to be held and used, including intangible assets, may not be
recoverable. The determination of recoverability is based on an estimate of
undiscounted future cash flows resulting from the use of the asset and its
eventual disposition. When impairment is indicated for a long-lived asset, the
amount of impairment loss is the excess of net book value over fair value.
Long-lived assets to be disposed of are reported at the lower of carrying amount
or fair value less costs to sell. As of December 31, 2004, the Company has
determined that no impairment of its long-lived assets exists.
Goodwill and Intangible Assets - On July 20, 2001, the Financial Accounting
Standards Board (FASB) issued Statement of Financial Accounting Standards
("SFAS") 141, Business Combinations, and SFAS 142, Goodwill and Intangible
Assets. Under these new standards, all acquisitions subsequent to June 30, 2001
must be accounted for using the purchase method of accounting. The cost of
intangible assets with indefinite lives and goodwill are no longer amortized,
but are subject to an annual impairment test based upon its fair value.
Goodwill and intangible assets principally result from business acquisitions.
The Company accounts for business acquisitions by assigning the purchase price
to tangible and intangible assets and liabilities. Assets acquired and
liabilities assumed are recorded at their fair values; the excess of the
purchase price over the net assets acquired is recorded as goodwill.
Recently Enacted Accounting Standards - Statement of Financial Accounting
Standards ("SFAS") No. 144, "Accounting for the Impairment or Disposal of
Long-Lived Assets," No. 146, "Accounting for Costs Associated with Exit or
Disposal Activities," SFAS No. 147, "Acquisitions of Certain Financial
Institutions - an Amendment of FASB Statements No. 72 and 144 and FASB
Interpretation No. 9," SFAS No. 148, "Accounting for Stock-Based Compensation -
Transition and Disclosure - an Amendment of FASB Statement No. 123," SFAS No.
149, "Amendment of Statement 133 on Derivative Instruments and Hedging
Activities," and SFAS No. 150, "Accounting for Certain Financial Instruments
with Characteristics of both Liabilities and Equity," were recently issued. SFAS
No. 144, 146, 147, 148, 149 and 150 have no current applicability to the Company
or their effect on the financial statements would not have been significant.
F-8
INTEGRATED HEALTHCARE HOLDINGS, INC.
(A Development Stage Enterprise)
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
On October 13, 2004, the Financial Accounting Standards Board issued Statement
123R, Share-Based Payment, which requires all companies to measure compensation
cost for all share-based payments, including employee stock options, at fair
value. The statement is effective for all public companies for interim or annual
periods after June 15, 2005. The statement eliminates the ability to account for
share-based compensation transactions using APB No. 25, and generally requires
that such transactions be accounted for using a fair-value-based method and
recognized as expenses in our consolidated statements of operations. The
standard also requires that the modified prospective transition method be used,
which would necessitate the Company to recognize compensation cost for the fair
value of new awards granted, modified or settled after the effective date of the
SFAS 123R. In addition, the measurement of compensation cost for awards that are
not fully vested as of the effective date of the SFAS 123R would be based on the
same estimate that the Company used to previously value its grants under SFAS
123.
As a result of SFAS 123R, the Company will be required to expense the fair value
of its stock option grants rather than disclose the impact on its consolidated
statement of operations within the Company's footnotes, as is current practice.
The Company is currently assessing the potential impact of the new standard on
its consolidated financial statements and is evaluating alternative equity
compensation arrangements.
In January 2003, the Financial Accounting Standards Board issued FIN 46,
"Consolidation of Variable Interest Entities," which requires consolidation of
certain entities in which equity investors do not have the characteristics of a
controlling financial interest or do not have sufficient equity at risk for the
entity to finance its activities without additional subordinated financial
support from other parties. Paragraph 1 of ARB 51 states that consolidated
financial statements are usually necessary for a fair presentation when one of
the companies in the group directly or indirectly has a controlling financial
interest in the other companies. Paragraph 2 states that "the usual condition
for a controlling financial interest is ownership of a majority voting
interest..." However, application of the majority voting interest requirement in
ARB 51 to certain types of entities may not identify the party with a
controlling financial interest because the controlling financial interest may be
achieved through arrangements that do not involve voting interests. Application
of Interpretation 46 or Interpretation 46(R) is required in financial statements
of public entities that have interests in variable interest entities or
potential variable interest entities commonly referred to as special-purpose
entities for periods ending after December 15, 2003. The Company is currently
assessing the potential impact of the new standard on its consolidated financial
statements in connection with the Company's sale leaseback transaction in
connection with the Tenet Hospital Acquisition in March 2005, as mentioned in
Notes 2, 5 and 6.
Restatement - The financial statements have been restated for all periods
presented to reflect a 4-for-1 forward stock split on April 4, 2002, a
248.399-for-1 reverse stock split on April 23, 1997 and a 5-for-1 forward stock
split on December 9, 1988.
NOTE 2 - ACQUISITIONS
Tenet Healthcare Acquisition - On September 29, 2004 and amended as of January
1, 2005, January 28, 2005, and February 28, 2005, the Company entered into an
Asset Sale Agreement with Tenet Healthcare Corporation ("Tenet") to purchase
four hospitals located in Orange County, California. On March 8, 2005,
Integrated Healthcare Holdings, Inc. (the "Company") announced the completion of
its $70-million acquisition (the "Hospital Acquisition") of four Orange County,
California hospitals and associated real estate from subsidiaries of Tenet. The
four hospitals that were acquired are: (i) 282-bed Western Medical Center--Santa
Ana, CA; (ii) 188-bed Western Medical Center--Anaheim, CA; (iii) 178-bed Coastal
Communities Hospital in Santa Ana, CA; and (iv) 114-bed Chapman Medical Center
in Orange, CA (collectively, the "Hospitals"). The Hospitals were assigned to
four wholly-owned subsidiaries of the Company (the "Subsidiaries") formed for
the purpose of completing the Hospital Acquisition.
F-9
INTEGRATED HEALTHCARE HOLDINGS, INC.
(A Development Stage Enterprise)
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
The Company also acquired the following real estate, leases and assets
associated with the Hospitals: (i) a fee interest in the Western Medical Center
at 1001 North Tustin Avenue, Santa Ana, CA 92705, a fee interest in the
administration building at 1301 North Tustin Avenue, Santa Ana, CA 92705,
certain rights to acquire condominium suites located in the medical office
building at 999 North Tustin Avenue, Santa Ana, CA, and the business known as
the West Coast Breast Cancer Center; (ii) a fee interest in the Western Medical
Center at 1025 South Anaheim Blvd., Anaheim, CA 92805; (iii) a fee interest in
the Coastal Communities Hospital at 2701 South Bristol Street, Santa Ana, CA
92704, and a fee interest in the medical office building at 1901 North College
Avenue, Santa Ana, CA; (iv) a lease for the Chapman Medical Center at 2601 East
Chapman Avenue, Orange, CA 92869, and a lease for the medical office building at
2617 East Chapman Avenue, Orange, CA; and (v) the furniture, fixtures and
contract rights associated with the Hospitals.
As part of the Company's previously announced agreement to obtain equity
financing and financing commitments of up to $30 million from Orange County
Physicians Investment Network, LLC ("OC-PIN"), at the closing of the Hospital
Acquisition the Company transferred all of the fee interests in real estate
described in the preceding paragraph (the "Transferred Properties") to Pacific
Coast Holdings Investments, LLC ("PCHI"). PCHI is 51% owned by West Coast
Holdings, LLC (owned in part by Dr. Anil Shah) and 49% by Ganesha Realty LLC
(owned in part by Dr. Kali Chaudhuri). The Company then entered into a triple
net lease under which it leased back from PCHI all of the real estate that it
transferred to PCHI.
OC-PIN became the majority shareholder of the Company in 2005 and is managed by
Dr. Anil V. Shah. OC-PIN is owned by Dr. Shah and a number of physicians
practicing at the Hospitals.
The aggregate purchase price paid by the Company to Tenet for the Hospital
Acquisition was (a) $70,000,000 (the "Purchase Price"), minus (b) the amount of
Seller's capital lease obligations with respect to the Hospitals on the Closing
Date, if any, that are assumed by the Company pursuant to Section 1.11 of the
Third Amendment to the Asset Sale Agreement, minus (c) the net present value on
the Closing Date of the Employee Loan Liabilities, minus (d) $750,000,
reflecting the credit made available to the Company hereunder for assuming the
Sick Pay Amount at Closing; minus (e) $500,000, the appraised value, as
determined by the appraisal by FMV Opinions, Inc., of Seller's partnership
interest in the Santa Ana Radiology Center partnership (the "Santa Ana Radiology
Center Amount"), which amount is the price at which Seller will sell such
partnership interest to the Santa Ana radiology Center partnership, reflecting
the treatment of such Santa Ana Radiology Center partnership interest as an
Excluded Asset, as reflected on Schedule 1.10(y); minus (f) $5,000,000,
reflecting the treatment of the twenty two (22) condominium units owned by
Seller located at 999 N. Tustin Ave., Santa Ana, CA (the "Condominium Units") as
Excluded Assets, as reflected on Schedule 1.10(y); and (g) the Accrued Paid Time
Off Amount on the Closing Date.
Upon the close of the Tenet Hospital Requisition on March 8,2005, among other
purchase price adjustments, there were current assets of approximately $8.1
million added to the purchase price and liabilities of approximately $16.6
million subtracted from the purchase price.
As of December 31, 2004, the Company recorded its initial deposit of $10 million
on the Tenet Hospital Acquisition and direct acquisition costs of $1,142,145,
consisting primarily of legal fees, as an Investment in hospital asset purchase
in the accompanying consolidated balance sheet.
F-10
INTEGRATED HEALTHCARE HOLDINGS, INC.
(A Development Stage Enterprise)
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
Rescission, Restructuring and Assignment Agreement - As of January 27, 2005, the
Company entered a Rescission, Restructuring and Assignment Agreement (the
"Restructuring Agreement") with Kali P. Chaudhuri, M.D. ("Dr. Chaudhuri"),
William E. Thomas ("Thomas"), Anil V. Shah, M.D. ("Dr. Shah"), and Orange County
Physicians Investment Network, LLC, a Nevada limited liability company
("OC-PIN").
The Company and Dr. Chaudhuri are parties to a Secured Convertible Note Purchase
Agreement dated as of September 28, 2004, which was amended by a First Amendment
to Secured Convertible Note Purchase Agreement dated as of November 16, 2004
(collectively, the "Purchase Agreement"), pursuant to which Dr. Chaudhuri was
issued a $500,000 Secured Convertible Promissory Note ("Convertible Note"), a
$10,000,000 Secured Promissory Note ("Secured Note"), and a Stock Option
Agreement dated November 16, 2004 ("Stock Option Agreement"). The Company was in
default of its obligation to repay the Convertible Note by December 31, 2004.
The Company desires that OC-PIN invest in the Company. Dr. Chaudhuri and Dr.
Shah, an authorized representative and affiliate of OC-PIN, are parties to a
Non-Circumvention Agreement dated November 11, 2004 ("Non-Circumvention
Agreement"). As a condition to investment, OC-PIN has requested that the
Convertible Note, the Secured Note, the Stock Option Agreement and certain
provisions of the Agreement be rescinded and canceled, and Dr. Chaudhuri
restructure his financial arrangements with the Company, and that he terminate
the Non-Circumvention Agreement. The parties acknowledge that Dr. Chaudhuri had
the right to acquire a majority interest in the Company, which right he has
agreed (subject to the conditions herein) to rescind, and accept in its place
stock purchase warrants in favor of Dr. Chaudhuri and Thomas to acquire only up
to (and not to exceed) 24.9% of the Company's capital stock, which warrants are
not exercisable for two years from the date of issuance, and the Company and
OC-PIN are willing to consent to this arrangement.
Pursuant to the Restructuring Agreement, the Purchase Agreement was rescinded
and canceled, except for certain provisions which will remain in effect.
The Company has agreed to issue to Dr. Chaudhuri (i) a new non-convertible
secured promissory note reflecting amounts loaned to the Company by Dr.
Chaudhuri as well as expenditures made by Dr. Chaudhuri on the Company's behalf
or for the Company's benefit, plus accrued interest to date, and (ii) a new
stock purchase warrant reflecting the right to purchase shares of the Company's
Common Stock. Dr. Chaudhuri has assigned to Thomas certain of his rights with
respect thereto, to which assignments the Company and OC-PIN hereby consent. As
a result of the assignment, the parties acknowledge and agree that, within 48
hours after the execution of this Agreement, but dated and effective as of the
date of this Agreement, the Company shall issue to (A) Dr. Chaudhuri a
non-convertible secured promissory note, and in a principal amount equal to 80%
of the sum of all amounts loaned by Dr. Chaudhuri to the Company or paid,
advanced or incurred by Dr. Chaudhuri on behalf or for the benefit of the
Company, or in connection with the Purchase Agreement and related documents, or
in connection with the Tenet Transaction (collectively, the "Advances"), (B)
Thomas a non-convertible secured promissory note, in substantially the form of
Exhibit A-2, and in a principal amount equal to 20% of the Advances
(collectively, the "New Notes"), (C) Dr. Chaudhuri a stock purchase warrant
reflecting the right to purchase up to 60,000,000 shares of the Company's Common
Stock (but not to exceed 20% of the Company's Fully-Diluted capital stock) in
substantially the form of Exhibit B-l and (D) Thomas a stock purchase warrant
reflecting the right to purchase up to 14,700,000 shares of the Company's Common
Stock (but not to exceed 4.9% of the Company's Fully-Diluted capital stock)
(collectively, the "New Warrants"). The New Notes and accrued interest were
repaid in full in connection with the close of the Tenet Hospital Acquisition on
March 8, 2005.
F-11
INTEGRATED HEALTHCARE HOLDINGS, INC.
(A Development Stage Enterprise)
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
Provided that Dr. Chaudhuri and William E. Thomas ("Thomas") have exercised
their Stock Purchase Warrants dated January 17, 2005, the Company hereby grants
to Dr. Chaudhuri and Thomas a right of first refusal with respect to future
sales by the Company of its equity securities or securities convertible into or
exercisable for equity securities, where issuance of those securities would
result in dilution of Dr. Chaudhuri's and Thomas's combined equity position to
less than 24.9% of the Common Stock of the Company on a Fully-Diluted basis.
Each time the Company proposes to offer any shares of, or securities convertible
into or exercisable for any shares of, any class of the Company's equity
securities which would reduce Dr. Chaudhuri's and Thomas's combined equity
position to below 24.9% (the "New Shares"), the Company shall first make an
offer to Dr. Chaudhuri and Thomas of such portion of the New Shares which would
maintain Dr. Chaudhuri's and Thomas's combined equity position at a minimum of
24.9% (the "Pro Rata Share"). The closing of the sale of the Pro Rata Share
shall occur simultaneously with the sale of the New Shares to other investors,
and the Pro Rata Share shall be priced equal to the lowest price paid by any of
the other investors, including any who may be purchasing New Shares by virtue of
similar pre-emptive or other purchase rights.
The Company hereby grants to Dr. Chaudhuri and Thomas a purchase right with
respect to future issuances by the Company of any of its securities to Anil V.
Shah, M.D. or Orange County Physicians Investment Network, or affiliates of
either of them (collectively, "OC-PIN Group"), where the issuance of such
additional shares of Common Stock would result in the OC-PIN Group having been
issued, in the aggregate, more than 187,240,000 shares of the Company's Common
Stock on a Fully-Diluted basis (as adjusted for any stock splits, dividends,
combinations or the like). Upon satisfaction of these conditions, Dr. Chaudhuri
and Thomas shall have the right to acquire, for a period of 90 days following
notification by the Company to Dr. Chaudhuri and Thomas that the pre-emptive
right is triggered (which notice shall be given within 10 business days of such
trigger), the same securities, and at the same price, as the member of the
OC-PIN Group purchasing the Company's securities, in an amount that represents
the same proportion as Dr. Chaudhuri's and Thomas's combined holdings of the
Company's Common Stock on a Fully-Diluted basis bears to the OC-PIN Group's
combined holdings of the Company's Common Stock on a Fully-Diluted basis
immediately prior to the issuance in question. The pre-emptive rights shall
terminate and cease to have effect upon the earlier of (i) the closing of an
acquisition of the Company to an unrelated third party or (ii) the later of 3
1/2 years from the date of the Restructuring Agreement or the termination of any
similar pre-emptive rights granted to OC-PIN or its affiliates."
On the date of approval of this Agreement by Tenet as contemplated by Section 9,
OC-PIN shall pay, or shall cause the Company to pay, or shall cause to be
released from the Escrow Fund, $10,000,000 plus the accrued interest in the
Escrow Fund to Dr. Chaudhuri, in immediately available funds. Nothing in this
Agreement or any of the exhibits hereto shall be effective or of any force and
effect until Dr. Chaudhuri has received this payment of $10,000,000 plus accrued
interest. Any agreements or arrangements between OC-PIN and the Company with
respect to this payment of $10,000,000 plus accrued interest shall be pursuant
to a separate agreement between them, and Dr. Chaudhuri shall have no
involvement therewith or responsibility therefore. The Company and OC-PIN agree
to indemnify, defend and hold Dr. Chaudhuri harmless from and against any
claims, liabilities or losses incurred by either of them as a result of the
financial or other arrangements between them.
The parties have agreed as follows with respect to the Tenet Transaction and the
proposed $80,000,000 credit facility ("Facility") from Company's current Lender,
or other lender agreeable to the parties ("Lender") related thereto:
(a)The Company and the LLC shall be co-borrowers with respect to the
Facility, with the Company and the LLC each fully liable for the entire amount
borrowed thereunder, (b)The Company and the LLC will enter into a mutually
acceptable inter-borrower and cross-indemnity agreement, (c) If requested by the
Lender, the Lender will have a security interest not only in all of the assets
of the Company and the LLC, but also in all LLC membership interests and in the
master lease from the LLC to the Company.
F-12
INTEGRATED HEALTHCARE HOLDINGS, INC.
(A Development Stage Enterprise)
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
This Restructuring Agreement, and specifically Dr. Chaudhuri's and Thomas's
obligations hereunder, are expressly conditioned upon Tenet's acceptance of the
restructuring and other terms set forth herein, and, because Dr. Chaudhuri is
rescinding his right to receive any interest in the Chapman Hospital real
estate, upon Tenet's release of Dr. Chaudhuri's guarantee in Tenet's favor of
the tenant's obligations under the Chapman Hospital lease. Dr. Shah shall
provide his personal guarantee of the tenant's obligations in place of that of
Dr. Chaudhuri, in a form substantially identical to the form of guaranty
provided by Dr. Chaudhuri to Tenet. The provisions of the Restructuring
Agreement, including the exhibits hereto, shall only be effective upon (i)
receipt by Dr. Chaudhuri of written evidence reasonably satisfactory to him, and
executed by Tenet, setting forth Tenet's acceptance and release as described
above, (ii) receipt by Dr. Chaudhuri of the payment of $10,000,000 plus accrued
interest referred to in Section 6, (iii) receipt by Dr. Chaudhuri and Thomas of
fully executed originals of the New Notes and New Warrants, and (iv) execution
and delivery of a mutually agreeable Operating Agreement for the LLC pursuant to
Section 7 above.
Post-Closing Condominium Units Purchase. Pursuant to the Third Amendment to the
Asset Sale Agreement dated as of February 28, 2005, Tenet has been unable to
obtain a waiver of the Condominium Association's rights under the right of first
refusal contained in the Condominium Association Bylaws with respect to the
Condominium Units (located at 999 North Tustin Avenue, Santa Ana, CA) on or
before the Closing Date. The Company acknowledges and agrees that it has
submitted to Tenet its bona fide and binding offer (the "Offer") to acquire the
Condominium Units for a purchase price of $5,000,000, for purposes of
presentation of such offer to the Condominium Association pursuant to the right
of first refusal process. Seller acknowledges and agrees that it has forwarded
the Offer to the Condominium Association as required by the right of first
refusal process. If, as of March 24, 2005 the Condominium Association has not
exercised its first right as addressed below, Tenet shall sell and the Company
shall purchase the Condominium Units on the terms and conditions set forth in
the Offer. If the Condominium Association exercises its rights under the right
of first refusal, Tenet shall sell the Condominium Units to the Condominium
Association on the terms and conditions set forth in the Offer. In the event
that, following exercise by the Condominium Association of its rights under the
right of first refusal, the Condominium Association is unable or unwilling to
consummate such sale in accordance with the terms of the Offer, Tenet shall sell
and the Company shall purchase the Condominium Units on the terms and conditions
set forth in the offer as soon as reasonably practicable following the failure
of the Condominium Association to consummate the purchase of the Condominium
Units. In the event the Condominium Units are ultimately sold to the Company
following completion of the foregoing process, the Condominium Units shall be
treated as part of the Assets sold to the Company under the Agreement for
purposes of all of Tenet's and the Company's respective rights and obligations
with respect to such sale. In addition, if the Condominium Units are ultimately
sold to the Company, they will be treated as other medical office buildings or
"MOB Properties" and leased back to the Company in accordance with the Lease as
mentioned in Note 5.
The Company has currently not completed its purchase of the Condominium Units.
Mogel Management Group, Inc. Acquisition - On January 1, 2004, the Company
entered into a Securities Purchase Agreement and Plan of Reorganization with
Mogel Management Group, Inc. ("MMG"), an entity with certain common ownership
with the Company, and the shareholders of MMG. The Company purchased all of the
issued and outstanding stock of MMG, 48 million shares, in exchange for the
issuance of three promissory notes to the stockholders of MMG with a total face
value of $60,000. The stockholders of MMG are also the officers and directors of
F-13
INTEGRATED HEALTHCARE HOLDINGS, INC.
(A Development Stage Enterprise)
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
the Company. The fair value of the tangible assets acquired in excess of
liabilities assumed amounted to $15,000, which resulted in goodwill of $45,000.
During the year ended December 31, 2004, the Company recorded an impairment
charge of $45,000 related to the goodwill from the MMG acquisition. In 2004, the
stockholders of MMG forgave the promissory notes totaling $60,000. The Company
has recorded this forgiveness of debt as a reduction in its general and
administrative costs for the year ended December 31, 2004. MMG was organized
under the laws of the State of Nevada on October 2, 2003 and has not engaged in
any business activities that have produced any revenues and, therefore, is
considered a development stage company as defined in Statement of Financial
Accounting Standards No. 7.
KyoMedix Corporation - On April 9, 2002, the Company entered into a share
exchange agreement with KyoMedix Corporation ("KyoMedix"). The agreement called
for the Company to issue 15,166,550 shares of common stock to the shareholders
of KyoMedix for all of the issued and outstanding shares of common stock of
KyoMedix. The agreement also called for the repurchase and cancellation of
746,592 shares of common stock for a $250,000 note payable and effecting a
4-for-1 forward stock split. The $250,000 note payable was due 90 days from
signing and was secured by 13,916,000 shares of common stock of the Company. Any
unpaid portion of the note was to accrue interest at 10% per annum after the
90-day term. The agreement also called for the resignation of the Company's
officers and directors, the adoption of the 2002 Stock Plan of KyoMedix,
changing the name of the Company to KyoMedix, Inc. and the grant of similar
options to replace the options previously granted by KyoMedix. The acquisition
closed April 9, 2002; however, subsequently, former and current shareholders of
the Company sued to rescind the merger claiming that certain conditions of the
agreement were not satisfied. On November 11, 2002, the Company signed a
Compromise and Settlement Agreement and the Company cancelled the 15,166,550
shares of common stock that had been issued to the shareholders of KyoMedix. As
part of the rescission agreement, the Company reissued 746,592 shares of common
stock to the previous shareholder and the $250,000 note payable was voided. As
part of the rescission agreement, the Company's former officers and directors
were re-appointed, the adoption of the 2002 Stock Plan of KyoMedix was voided
and options granted to KyoMedix option holders were cancelled. The financial
statements have been restated to reflect the acquisition as having been
rescinded.
NOTE 3 - COMMON STOCK AND WARRANTS
2005 Stock Transactions
Stock Purchase Agreement with OC-PIN - On January 28, 2005, the Company entered
into a Stock Purchase Agreement (the "Stock PurchaseAgreement") with Orange
County Physicians Investment Network, LLC ("OC-PIN"), a company founded by Dr.
Anil V. Shah and owned by a number of physicians practicing at the acquired
hospitals, pursuant to which OC-PIN will invest $30,000,000 in the Company for
an aggregate of 108,000,000 shares of common stock of the Company (a portion of
which shares will be acquired by an affiliate of OC-PIN). In addition, the
Purchase Option Agreement, dated November 16, 2004, between the Company and Dr.
Anil V. Shah has been terminated.
The Company shall issue and sell to OC-PIN, and OC-PIN agrees to purchase from
the Company, an aggregate of 108,000,000 shares of the Company's common stock
for a total of $30,000,000 and other consideration pursuant to the Stock
Purchase Agreement. Payments for the Company's stock issuance shall occur as
follow:
(a) On or prior to February 4, 2005, OC-PIN shall pay an aggregate of
$10,000,000 on behalf of the Company by depositing such amount with Tenet on
behalf of the Company in connection with the Tenet Hospital Acquisition and/or
by reimbursing Dr. Chaudhuri for his $10,000,000 on deposit with Tenet (upon
which Dr. Chaudhuri will assign to OC-PIN or the Company his rights to the
deposit).
F-14
INTEGRATED HEALTHCARE HOLDINGS, INC.
(A Development Stage Enterprise)
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
(b) OC-PIN made a $5,000,000 deposit to the Tenet Hospital Acquisition
escrow under the Purchase Option Agreement; and OC-PIN made an additional
deposit of $5,000,000 to the Tenet Hospital Acquisition escrow according to the
terms of the Company's escrow commitment with Tenet, by February 4, 2005. The
Company issued a total of 96,100,000 shares of its Common Stock to OC-PIN in
exchange for the financing of the $10 million deposit in connection with the
Tenet Hospital Acquisition. According to the Stock Purchase Agreement, the
Company shall issue an additional 6,500,000 to Hari S. Lal, legal counsel for
OC-PIN, related to the $10 million in deposits received from OC-PIN and the
Company receiving its acute care licenses from the Department of Health
Services.
(c) No later than six calendar days before the closing of the transactions
under the Tenet Agreement, OC-PIN shall deliver to the Company additional
financing totaling $20,000,000. Upon receipt of the $20,000,000, the Company
shall issue to OC-PIN a certificate for an additional 5,400,000 shares of its
common stock (as adjusted for any stock splits, dividends, combinations or the
like). The Company has extended OC-PIN's additional $20 million financing
committment to the Company to March 31,2005.
During the three months ended March 31, 2005, the Company issued 1,179,000
shares of its common stock at $0.50 per share for cash proceeds of $589,500.
Stock Warrants - OC-PIN will provide most of the financing that was originally
agreed to be provided by Dr. Kali Chaudhuri. The financing agreements with Dr.
Chaudhuri were rescinded, and Chaudhuri and his associates will now receive
stock warrants from the Company. In connection with the Company's Restructuring
Agreement entered into on January 27, 2005 mentioned in Note 2, the Company
issued Dr. Chaudhuri a stock purchase warrant reflecting the right to purchase
up to 60,000,000 shares of the Company's Common Stock (but not to exceed 20% of
the Company's Fully-Diluted capital stock) and issued William Thomas a stock
purchase warrant reflecting the right to purchase up to 14,700,000 shares of the
Company's Common Stock (but not to exceed 4.9% of the Company's Fully-Diluted
capital stock). The warrants are exercisable beginning January 27, 2007 and the
warrants expire in three and one-half years from the date of the issuance of the
warrants, January 27, 2005.
The exercise or purchase price for the first 34,538,153 shares purchased upon
exercise of Dr. Chaudhuri's warrant shall be $0.003125 per share, and the
exercise or purchase price for the remainder of the shares shall be $0.078 per
share if exercised between January 27, 2007 and July 26, 2007, $0.11 per share
if exercised between July 27, 2007 and January 26, 2008, and $0.15 thereafter,
all subject to adjustment as provided in Section 2 of the warrant agreement.
The exercise or purchase price for the first 8,461,847 shares purchased upon
exercise of Thomas's warrant shall be $0.003125 per share, and the exercise or
purchase price for the remainder of the Shares shall be $0.078 per Share if
exercised between January 27, 2007 and July 26, 2007, $0.11 per share if
exercised between July 27, 2007 and January 26, 2008, and $0.15 thereafter, all
subject to adjustment as provided in Section 2 of the warrant agreement.
Among other terms, the exercise price in effect at any time and the number of
Shares purchasable upon the exercise of this Option shall be subject to
adjustment from time to time upon the happening of any of the following events:
F-15
INTEGRATED HEALTHCARE HOLDINGS, INC.
(A Development Stage Enterprise)
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
(a) If at any time the Company subdivides its outstanding shares of Common
Stock into a greater number of shares, the Exercise Price in effect immediately
prior to such subdivision shall be proportionately reduced. If at any time the
outstanding shares of Common Stock of the Company are combined into a smaller
number of shares, the exercise price in effect immediately prior to such
combination shall be proportionately increased.
(b) Whenever the Exercise Price payable upon exercise of this warrant is
adjusted pursuant to this Section 2, the number of shares purchasable upon
exercise hereof simultaneously shall be adjusted by multiplying the number of
Shares issuable immediately prior to such adjustment by the exercise price in
effect immediately prior to such adjustment and dividing the product so obtained
by the exercise price, as adjusted.
2004 Stock Transactions
During the year ended December 31, 2004, the Company issued 200,000 shares of
common stock at $0.25 per share for total cash proceeds of $50,000.
Additionally, during the year ended December 31, 2004, the Company issued
1,180,000 shares of common stock at $0.50 per share for total cash proceeds of
$590,000. During the year ended December 31, 2004, the Company issued 20,000
shares of common stock at $0.50 per share in exchange for a stock subscription
agreement. The Company received total proceeds of $10,000 related to this stock
subscription agreement in 2005.
2003 Stock Transactions
In December 2003 the Company issued 1,460,000 shares of its common stock at
$0.25 per share for cash proceeds of $365,000.
In November 2003, the board of directors approved the issuance of 16,128,000
shares of the Company's common stock to three individuals ("the Purchasers") for
$100,000, pursuant to a certain Stock Purchase Agreement. In connection with
this stock sale, the Company issued a promissory note for $100,000 to the former
president and director of the Company and 450,000 shares of common stock to the
former president and director of the Company, and a shareholder, in exchange for
a certain letter of indemnification. The letter of indemnification holds the
Company and the Purchasers harmless from and against any and all liabilities of
any type or nature, whatsoever, of the Company that existed prior to the closing
of the Stock Purchase Agreement, including fees of legal counsel for the Company
in connection with the completion of the Stock Purchase Agreement and the
promissory note due to the former president and director of the Company.
2000 & Other Stock Transactions
In January 2000, the board of directors approved a compensation agreement that
included the issuance of a total of 400,000 shares of common stock to two
shareholders, 200,000 to each, for services rendered which were valued at
$1,000. The shares were issued in August 2000 for $.0025 per share.
During the year ended June 30, 1998, the Company issued 142,000 shares of common
stock for services rendered. Total proceeds amounted to $1,255 (or $.04 per
share). The Company previously reported the issuance as 140,000 shares of common
stock. The financial statements have been restated for the years ended June 30,
1999 and 1998 to reflect the issuance of an additional 2,000 shares of common
stock related to services previously rendered.
F-16
INTEGRATED HEALTHCARE HOLDINGS, INC.
(A Development Stage Enterprise)
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
During 1996, the Company issued 611,908 shares of common stock for consulting
fees valued at $38,000 (or $.25 per share) resulting in a change in control of
the Company.
During the year ended June 30, 1989, the Company issued 96,640 shares of common
stock for $1,200.
The Company issued 91,452 shares of stock upon incorporation for $57,576.
Stock Splits - On December 9, 1988, the Company effected a 5-for-1 forward stock
split. On April 23, 1997, the Company effected a 248.399-for-1 reverse stock
split. On April 4, 2002, the Company effected a 4-for-1 forward stock split. The
financial statements for all periods presented have been restated to reflect
these stock splits.
NOTE 4 - NOTES PAYABLE
On September 28, 2004 and amended on November 16, 2004, the Company entered into
a Secured Convertible Note Purchase Agreement with Dr. Kali P. Chaudhuri to
finance the Tenet Hospital Acquisition mentioned in Note 2. This credit facility
consists of a $500,000 Secured Convertible Promissory Note and a $10 million
Secured Promissory Note.
Secured Promissory Note - In connection with the Hospital Acquisition noted in
Note 2, the Company entered into a Secured Promissory Note with Dr. Chaudhuri,
effective September 29, 2004. The Company used the proceeds of $10 million as
its good faith deposit in connection with the Hospital Acquisition. The Secured
Note bears interest at 7.25% per annum and interest only shall be payable on the
first business day of each calendar quarter beginning January 2, 2005. In
connection with the Restructuring and Payment Agreements, the $10 million
Secured Promissory Note was transferred to OC-PIN and the note was converted to
equity as mentioned in Note 3.
Secured Convertible Promissory Note - In connection with the Hospital
Acquisition noted in Note 2, the Company entered into a Secured Convertible Note
Purchase Agreement, dated September 29, 2004 and amended November 16, 2004, with
Dr. Chaudhuri. The original face amount of the Secured Convertible Note was
$500,000 and Dr. Chaudhuri may assist the Company with the payment of necessary
transactional costs incurred in connection with the Hospital Acquisition
including fees necessary to secure financing in connection with the Hospital
Acquisition, which transaction costs and fees cannot be otherwise paid by the
Company. In connection with the Restructuring Agreement noted above, the Company
entered into the following new promissory notes dated January 31, 2005, which
replace the Secured Convertible Promissory Note dated September 28, 2004 and
amended November 16, 2004:
o Secured Promissory Note in the amount of $963,186 payable to Dr.
Chaudhuri
o Unsecured Promissory Note in the amount of $60,031 payable to Dr.
Chaudhuri
o Secured Promissory Note in the amount of $240,797 payable to William
E. Thomas
The total balance outstanding on these new promissory notes as of December 31,
2004 was $1,264,014. The Secured Promissory Notes in the amount of $963,186 and
$240,797 and the Unsecured Promissory Note in the amount of $60,031 were
recorded in the Company's consolidated balance sheet as current notes payable.
Concurrent with the completion of the Tenet Hospital Acquisition in March 2005,
the Company repaid these three promissory notes plus accrued interest.
F-17
INTEGRATED HEALTHCARE HOLDINGS, INC.
(A Development Stage Enterprise)
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
Payment Agreement - Effective as of January 31, 2005, the Company entered into a
Payment Agreement with Dr. Kali Chaudhuri, William E. Thomas, Dr. Anil V. Shah,
and Orange County Physicians Investment Network, LLC, a Nevada limited liability
company ("OC-PIN"). The parties are parties to a Rescission, Restructuring and
Assignment Agreement dated as of January 27, 2005 (the "Restructuring
Agreement"), pursuant to which OC-PIN is obligated to pay, or cause the payment
of, $10,000,000 plus accrued interest to Dr. Chaudhuri, and Dr. Chaudhuri is
obligated to pay $2,450,000 to the Company for a 49% interest in the LLC upon
the closing of the Tenet Transaction. Pursuant to this Payment Agreement, OC-PIN
will pay, or cause the payment of, $7,500,000 in immediately available funds to
Dr. Chaudhuri at this time. Dr. Chaudhuri has agreed to accept certain
promissory notes for the balance, provided that Dr. Shah, an authorized
representative and affiliate of OC-PIN, provides a personal guarantee thereof.
OC-PIN'S obligation under Section 6 of the Restructuring Agreement shall be
modified so that OC-PIN shall be required to pay, or cause the payment of,
$7,500,000 in immediately available funds to Dr. Chaudhuri, and deliver to Dr.
Chaudhuri two promissory notes, (the "OC-PIN Notes"), on the terms and subject
to the conditions otherwise set forth in the Restructuring Agreement. In
addition, the Company shall deliver to Dr. Chaudhuri its promissory note, (the
"Interest Note"), in a principal amount of $60,031, equal to the accrued
interest referred to in Section 6 of the Restructuring Agreement. Repayment of
the OC-PIN Notes and the Interest Note shall be guaranteed by Dr. Shah pursuant
to a General Continuing Guaranty substantially in the form of Exhibit B. In
addition, Dr. Shah shall become a co-guarantor (jointly and severally) with
OC-PIN of these new notes pursuant to the same General Continuing Guaranty.
Acquisition Loan and Line of Credit - In connection with the Tenet Hospital
Acquisition, the Company obtained borrowings to complete the Hospital
Acquisition from affiliates of Medical Capital Corporation of Anaheim, CA.
Effective March 3, 2005, the Company and its Subsidiaries collectively entered
into a Credit Agreement (the "Credit Agreement") with Medical Provider Financial
Corporation II ("the Lender"), whereby the Company has obtained initial
financing in the form of a loan with interest at the rate of 14% per annum in
the amount of $80,000,000 of which $30,000,000 will be in the form of a
non-revolving Line of Credit (the "Line of Credit") and $50,000,000 will be in
the form of a real estate loan (the "Acquisition Loan") (collectively, the
"Obligations"). The Company used the proceeds from the $50 million Acquisition
Loan and $3 million from the Line of Credit to complete its purchase of the
Tenet Hospital Acquisition mentioned in Note 2. The Line of Credit is to be used
for the purpose of providing (a) working capital financing for the Company and
its Subsidiaries, (b) funds for other general corporate purposes of the Company
and its Subsidiaries, and (c) funds for other purposes permitted hereunder.
Interest payments are due on the Obligations on the first business day of each
calendar month to occur while any Obligation is outstanding at the interest rate
of 14% per annum. The Obligations mature at the first to occur of (i) the
Commitment Termination Date for the Line of Credit Loan, (ii) March 2, 2007, or
(iii) the occurrence or existence of a continuing Event of Default under any of
the Obligations. The Commitment Termination Date means the earliest of (a)
thirty calendar days prior to March 2, 2007; (b) the date of termination of
Lender's obligations to make Advances under the Line of Credit Note or permit
existing Obligations to remain outstanding pursuant to Section 8.2(b), (c) the
date of prepayment in full by the Company and its Subsidiaries of the
Obligations and the permanent reduction of all Commitments to zero dollars; (d)
March 2, 2007. Per the Credit Agreement, all future capital contributions to the
Company by OC-PIN shall be used by the Company as mandatory prepayments of the
Line of Credit.
In connection with the Credit Agreement, AHM CGH, Inc., a California
corporation, has agreed to sell its ownership interest in certain condominium
units located at 999 North Tustin Avenue, Santa Ana, California (the
"Condominium Units") to the Company, and upon such acquisition using the
Company's own funds, the parties intend that the Liens granted in Leasehold Deed
of Trust shall be expanded and spread to encumber such interests in the
Condominium Units. The Company intends to immediately transfer the Condominium
Units to PCHI, to which transfer Lender hereby consents.
F-18
INTEGRATED HEALTHCARE HOLDINGS, INC.
(A Development Stage Enterprise)
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
The Acquisition Loan and Line of Credit are secured by a lien on substantially
all of the assets of the Company and its Subsidiaries, including without
limitation, a pledge of the capital stock by the Company in the other Borrowers.
In addition, (i) PCHI has agreed to guaranty the payment and performance of all
obligations of the Obligations, (ii) West Coast and Ganesha have each agreed to
pledge their membership interests in PCHI as security for repayment of the
Obligations, (iii) the members of West Coast have agreed to pledge their
membership interests in PCHI as security for repayment of the Obligations, and
(iv) Orange County Physicians Investment Network, LLC, a Nevada limited
liability company and a significant shareholder of IHHI ("OC-PIN") has agreed to
guaranty the payment and performance of all the Obligations.
Credit Agreement Fees - Concurrently with the execution and delivery of the
Credit Agreement and as a condition to the funding of the Acquisition Loan,
Company and its Subsidiaries shall pay to Lender an origination fee in an amount
equal to 2% of the Credit Line Commitment or $600,000, and 2% of the Acquisition
Loan or $1,000,000 (together the "Origination Fee"), to be payable out of
Company and its Subsidiaries own funds, which fee shall be deemed earned in full
upon receipt by Lender. Upon the completion of the Tenet Hospital Acquisition on
March 8, 2005, the Company paid the lender a total of $1,600,000 in origination
fees and paid the Lender's legal fees of approximately $333,000.
Mandatory Prepayments. Immediately upon receipt by any Credit Party of any cash
proceeds of any sale or other disposition of any Collateral, the Company and its
Subsidiaries shall prepay the Obligations in an amount equal to all such
proceeds, net of (A) commissions and other reasonable and customary transaction
costs, fees and expenses properly attributable to such transaction and payable
by the Company and its Subsidiaries in connection therewith (in each case, paid
to non-Affiliates), (B) transfer taxes, (C) amounts payable to holders of senior
Liens on such asset (to the extent such Liens constitute Permitted Encumbrances
hereunder), if any, and (D) an appropriate reserve for income taxes in
accordance with GAAP in connection therewith. Any such prepayment shall be
applied in accordance with Section 1.2(c). The following shall not be subject to
mandatory prepayment under this subsection: (1) proceeds of sales of Inventory
in the ordinary course of business; (2) proceeds of collection of Accounts in
the ordinary course of business; (3) proceeds of sales of equipment and other
personal property in the ordinary course of business so long as such equipment
and other personal property is replaced (if necessary in the exercise of prudent
business judgment) by equipment and other personal property of equal or greater
value or utility for a Borrower's business; and (4) transfers of equipment and
other personal property between the Company and its Subsidiaries in the ordinary
course of business.
In addition to the foregoing, if by the date which is thirty (30) calendar days
from the Closing Date, March 7, 2005 (the "Mandatory Prepay Date"), the Company
and its Subsidiaries for any reason fail to acquire all of the Condominium Units
from Sellers as provided in the Asset Sale Agreement with capital contributed to
the Company by its shareholders, then the Company and its Subsidiaries agree to
and shall on the Mandatory Prepay Date prepay the amount of $5,000,000 against
outstanding principal balance of the Obligations. Said $5,000,000 must consist
of capital contributed to Company by its shareholders and may not constitute
funds borrowed from any source. Said mandatory $5,000,000 prepayment shall be
applied to the principal balance of the Acquisition Loan outstanding to the
Company and its Subsidiaries.
2003 Purchase Promissory Note - In connection with the Company's sale of
16,128,000 shares of its common stock in November 2003, the Company issued a
promissory note to the former president and director of the Company in the
amount of $100,000. The Company received a letter of indemnification which holds
the Company and the Purchasers harmless from and against any and all liabilities
of any type or nature, whatsoever, of the Company that existed prior to the
closing of the Stock Purchase Agreement, including fees of legal counsel for the
Company in connection with the completion of the Stock Purchase Agreement and
the promissory note due to the former president and director of the Company. The
promissory note dated November 18, 2004 has a term of 90 days and bears interest
at 10% per annum. The Company repaid the promissory note in full on February 18,
2004.
F-19
INTEGRATED HEALTHCARE HOLDINGS, INC.
(A Development Stage Enterprise)
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
NOTE 5 - REAL ESTATE SALE
Hospital Real Estate Sale - In order to induce Dr. Chaudhuri to enter into the
Secured Convertible Note Purchase Agreement to provide the financial support for
the Company's Tenet Hospital Acquisition, the Company granted an option to Dr.
Chaudhuri (or his assignee or designee) to acquire all of the real estate which
the Company will acquire in the Hospital Acquisition (i.e. Western Medical
Center - Santa Ana, Western Medical Center - Anaheim and Coastal Community
Hospital) for the price of $5,000,000 and the assumption of the Acquisition Loan
of $50 million. The Company agrees to deliver title to the property free and
clear of all liens of all liens and encumbrances except only those exceptions to
title agreed to in the Hospital Acquisition and the real estate loan the Company
will incur in connection with the closing of the Hospital Acquisition. The
Company and Dr. Chaudhuri agree to cooperate in negotiating with the Company's
lenders to organize the financing in a manner which permits Dr. Chaudhuri to
exercise the option and acquire the real property subject to the real estate
loan while the Company will remain liable for the working capital loan.
On November 16, 2004, the Company entered into a Purchase LLC Option Agreement
(the "LLC Option Agreement") with Dr. Anil V. Shah (or his assignee, Orange
County Physicians Investment Network, LLC, a California limited liability
company) (collectively, "Shah"). Pursuant to the LLC Option Agreement, the
Company intends to contribute substantially all of the real property acquired in
the Tenet Hospital Acquisition to a limited liability company to be formed by
the Company (the "LLC") in which Dr. Kali P. Chaudhuri has certain rights to
become a member pursuant to that certain LLC Option Agreement, dated on or about
the date hereof, between Chaudhuri and the Company.
Amendment and Exercise or Real Estate Purchase Option - Pursuant to Section 3 of
the Option agreement dated September 28, 2004, as amended and restated on
November 16, 2004 ("LLC Option Agreement"), Dr. Chaudhuri currently has an
option to purchase 100% of the membership interests of the LLC (as defined in
the LLC Option Agreement) for $5,000,000. The LLC Option Agreement was amended
to provide that Dr. Chaudhuri's option shall be to purchase 49% of the
membership interests of the LLC for $2,450,000, and may be assigned to and
exercised by an affiliate of Dr. Chaudhuri. Dr. Chaudhuri hereby exercises that
option, as so amended, such exercise to be conditioned upon, and effective at,
the Closing of the Tenet Transaction. The exercise is also conditioned upon (a)
receipt by Dr. Chaudhuri of receipt of evidence satisfactory to him that OC-PIN
has acquired the remaining 51% of the LLC membership interests simultaneously
with Dr. Chaudhuri's acquisition of the 49% interest, (b) receipt by Dr.
Chaudhuri of receipt of evidence satisfactory to him that the LLC has acquired
the real estate (owned in fee) in the Tenet Transaction (i.e. Western Medical
Center - Santa Ana, Western Medical Center - Anaheim and Coastal Community
Hospital and the medical office buildings, but not the leased Chapman Hospital
and medical office building), (c) execution by Dr. Chaudhuri, OC-PIN and Dr.
Shah, and by the Company if initially required, of a customary Operating
Agreement for a California manager-managed limited liability company reasonably
satisfactory to Dr. Chaudhuri and OC-PIN in which (i) Dr. Chaudhuri and Dr. Shah
have equal rights of management of the LLC, and (ii) Dr. Chaudhuri may not sell,
syndicate or otherwise transfer any of his management rights in the LLC without
the consent of the holder(s) of a majority of the LLC membership interests
(although it is expressly understood that Dr. Chaudhuri may hold title to the
F-20
INTEGRATED HEALTHCARE HOLDINGS, INC.
(A Development Stage Enterprise)
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
LLC membership interests through an affiliate), and (d) execution by the
Company, as tenant, of a lease with the LLC, as landlord, in substantially the
form of Exhibit D. The exercise price shall be placed into escrow and released
against delivery of certificates or other satisfactory evidence of transfer to
Dr. Chaudhuri or an affiliate of 49% of the membership interests of the LLC. The
Company and OC-PIN agree to comply with all of the aforesaid covenants which
may, at Dr. Chaudhuri's election, be specifically enforced as provided in
Section 11.6.
Payment Agreement - Effective as of January 31, 2005, the Company entered into a
Payment Agreement with Dr. Kali Chaudhuri, William E. Thomas, Dr. Anil V. Shah,
and Orange County Physicians Investment Network, LLC, a Nevada limited liability
company ("OC-PIN"). In connection with the close of the Tenet Hospital
Acquisition in March 2005, OC-PIN and Dr. Chaudhuri paid the Company the $5
million Real Estate Option purchase price. The Company used the proceeds from
this real estate sale to complete the Tenet Hospital Acquisition.
NOTE 6 - REAL ESTATE LEASE
Triple Net Hospital and Medical Office Building Lease - As of March 7, 2005, the
Company entered into a Triple Net Hospital and Medical Office Building Lease
(the "Lease") with Pacific Coast Holdings Investment, LLC, a California limited
liability company ("Landlord"). Concurrent with the closing of the Tenet
Hospital Acquisition, the Company transferred all of the real estate of the
acquired Hospitals (the "Hospital Properties") to the Landlord whereupon the
Landlord shall lease back the Hospital Properties to the Company on the terms
and conditions set forth in the Lease. Upon the closing of the Tenet Hospital
Acquisition, Landlord shall be the owner of the property consisting of hospital
properties (the "Hospital Properties") and medical office buildings and a long
term acute care facility (collectively "MOB Properties") together with the
buildings, improvements and fixtures (hereinafter collectively referred to as
the "Property").
The term of the Lease for the Hospital Properties shall be for approximately 25
years, commencing March 8, 2005 (the "Commencement Date") and which shall
terminate on February 28, 2030. The Company has the option to extend the term of
this Lease for the Hospital Properties (the "Option") for one additional term of
twenty-five (25) years commencing when the initial term expires (the "Option
Period") upon each and all of the following terms and conditions:
(a) This lease shall automatically renew for the Option Period unless
Tenant gives to Landlord, and Landlord actually receives, on a date which is at
least six and not more than nine months prior to the date that such Option
Period would commence (if exercised), a written notice that Tenant has declined
to exercise the Option to extend this Lease. If said notification of the
exercise of the Option is not so given and received, the Option shall
automatically renew as herein provided. (b) Tenant shall not be in breach of
this Lease at the time of exercise of each of the Options. (c) All of the terms
and conditions of the Lease except where specifically modified by this Option
shall apply.
The term of this Lease for the defined MOB Properties shall be for approximately
one year, commencing March 8, 2005 (the "Commencement Date") and which shall
terminate on February 28, 2006.
F-21
INTEGRATED HEALTHCARE HOLDINGS, INC.
(A Development Stage Enterprise)
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
The Company has requested and Landlord has agreed to permit the Company to use
the Property as collateral for the purposes of joint financing of the Property
and the Company's business operation for an initial period of time and, subject
to the terms herein, the operations of the Company and the Property. The
Company's obligation for base rent ("Base Rent") payments shall be set in
relationship to said financing. The Company has arranged for an initial
financing ("Initial Financing") in the form of a loan with interest at the rate
of 14% per annum in the amount of $80,000,000 of which $30,000,000 will be in
the form of an operating loan ("Operating Loan") and $50,000,000 will be in the
form of a real estate loan ("Real Estate Loan"). In addition, the Company may
borrow additional funds against accounts receivable ("A/R Financing"). The
Operating Loan, the Real Estate Loan and the A/R Financing will be secured by
both the Property and the Company's operations.
The Company and the Landlord agree that the Initial Financing should be replaced
as soon as practical but in any event within two years of the Commencement Date
of the Lease term the Company and Landlord covenant and agree to work
cooperatively to secure said refinancing meeting the following criteria: (a) The
refinancing shall be provided by an institutional lender in an arms length
transaction. (b) The refinancing shall not exceed $100 million of which not more
than $50 million will be a Real Estate Loan. (c) The terms of said refinancing
shall not impair the financial viability of either the Company or the Landlord.
(d) Neither the Landlord, nor any of Landlord's members shall be required to
assume any personal liability or obligation for said refinancing. The sole
recourse of the lender shall be to the Property and the Company's assets. (e)
The loan shall be at commercially reasonable rates and upon commercially
reasonable terms including reasonable amortization of principal. (f) The loan
will not include any contingent interest provisions or any payments other than
interest upon a principal sum. (g) The loan shall not limit the sale or transfer
of all or portions of the Property or of interests in Landlord for a period
greater than five years.
So long as the Real Estate Loan, Operating Loan and/or A/R Financing are cross
collateralized, the Company shall have an obligation and duty to Landlord to pay
when due all sums coming due under the Operating Loan and A/R Financing and to
otherwise fully comply with all terms and conditions of the Operating Loan and
A/R Financing and Landlord shall have an obligation and duty to the Company to
pay when due all sums coming due under the Real Estate Loan and to otherwise
fully comply with all terms and conditions of the Real Estate Loan. Five years
after the Commencement Date, Landlord shall have the right to terminate the
cross collateralization of the Operating Loan and A/R Financing with the Real
Estate Loan and to refinance the Real Estate Loan as provided in Section 2.13 of
the Lease.
Base Rent (Hospital Properties) - The monthly Hospital Properties Base Rent
shall equal the Principal Sum multiplied by the sum of the Cost of the
Landlord's Principal Sum plus the Landlord's Spread the product of which shall
be added to the Landlord's Amortization Expense, then divided by twelve. Set
forth as a formula this calculation is as follows:
Monthly Base Rent = [Principal Sum x (Cost of Landlord's Principal Sum
+Landlord's Spread)] + Amortization Expense
The definitions of the Monthly Base Rent are (a) The "Principal Sum" is
$50,000,000. (b) The "Cost of Landlord's Principal Sum" is the average annual
interest rate charged on loan secured by the first lien Deed of Trust (or
Mortgage) on the Property for the preceding month, as the same may vary from
time to time. (c) The "Landlord's Spread" for the first one year of the lease
term is the difference between 12% per annum and the annual interest rate (which
may vary monthly) of the Real Estate Loan but in no event more than 2 1/2 % per
annum, thereafter "Landlord's Spread" is 2 1/2% over the Cost of Landlord's
Principal Sum. (d) Commencing on the earlier of (i) the refinancing contemplated
by Section 2.3 of the Lease or (ii) two years following the Commencement Date,
the "amortization Expense" shall be the annual sum of $2,500,000 until such time
as a total Amortization Expense of $50,000,000 has been paid. (e) "Consumer
Price Index" or "CPI" shall refer to the "Consumer Price Index, Los Angeles-Long
Beach-Anaheim Average, All Items (1982-1984=100)" as published by the United
States Department of Labor, Bureau of Labor Statistics ("Bureau"). In the event
that the Bureau shall cease to publish said Consumer Price Index, then the
national index shall apply and if the national index is no longer published,
then the successor or most nearly comparable index thereto shall be used as
determined by Landlord.
F-22
INTEGRATED HEALTHCARE HOLDINGS, INC.
(A Development Stage Enterprise)
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
On each five year anniversary of the Commencement Date the Hospital Base Rent
shall be increased (but not decreased) to an amount equal to the then current
fair market rental rate, but in no event increased by more than 5% over the
preceding month's Hospital Base Rent (provided however that such time as the
Amortization Payment is no longer being made the 5% limitation shall cease to
apply). Commencing not less than ninety days prior to each fifth anniversary of
the Commencement Date, Landlord and the Company shall attempt to agree on the
fair market rental rate for the Hospital Properties. If Landlord and the Company
are not able to agree to the fair market rental rate within thirty days,
Landlord and the Company shall each choose an independent, licensed real estate
broker, with not less than five years experience in leasing healthcare related
facilities including hospitals. The two real estate brokers so appointed shall
appoint a third real estate broker, similarly qualified. Each broker shall
independently determine the fair market rental rate. The three rates so
determined will be averaged. The rate determined by the brokers which varies the
most from the average shall be discarded and the two remaining values and the
average value shall be averaged and said second average shall constitute the
fair market rental rate. Each party shall bear the costs of the real estate
broker appointed by that party and the parties shall equally divide the costs of
the third real estate broker. Notwithstanding the provisions of this Section
2.10, if at any time the monthly Hospital Base Rent determined in accordance
with Section 2.9 hereof would exceed the monthly Hospital Base Rent determined
in accordance with this Section 2.10, then this Section 2.10 of the Lease shall
be discarded and the monthly Hospital Base Rent shall be determined in
accordance with Section 2.9 of the Lease.
Base Rent ( MOB Properties) - The monthly MOB Properties Base Rent shall equal
the rent received from tenants of the MOB Properties, less the actual monthly
costs to operate said MOB Properties, and also less a monthly charge for
insurance and real property taxes equal to one-twelfth the estimated annual cost
thereof. In the event the estimated monthly charge for insurance and real
property taxes is in error at the end of the lease term, then Landlord and the
Company shall make an appropriate adjustment so that the sum deducted in order
to calculate the MOB Properties Base Rent is correct.
NOTE 7 - INTANGIBLE ASSET
In connection with the Company's stock sale of 16,128,000 shares of its common
stock in November 2004, the Company issued a promissory note of $100,000 and
450,000 shares of its common stock in exchange for a letter of indemnification
from the Company's former President and shareholder. The 450,000 shares of
common stock were valued by the Company at $0.0062 per share. The letter of
indemnification holds the Company and the Purchasers harmless from and against
any and all liabilities of any type or nature, whatsoever, of the Company that
existed prior to the closing of the Stock Purchase Agreement, including fees of
legal counsel for the Company in connection with the completion of the Stock
Purchase Agreement and the promissory note due to the former president and
director of the Company. The Company has recorded the letter of indemnification
as an intangible asset of $102,790 based on the total fair market value of the
promissory note and common stock issued. The Company is amortizing the
intangible asset using the straight-line method over the enforceable life of the
letter of indemnification of two years. During the year ended December 31, 2004
and 2003, the Company incurred amortization expense of $51,395 and $6,424.
F-23
INTEGRATED HEALTHCARE HOLDINGS, INC.
(A Development Stage Enterprise)
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
NOTE 8 - INCOME TAXES
The Company has not made a provision for income taxes because of its financial
statement and tax losses since its inception on July 31, 1984. A valuation
allowance has been used to offset the recognition of any deferred tax assets
related to net operating loss carryforwards due to the uncertainty of future
realization. The Company accounts for income taxes in accordance with Statement
of Financial Accounting Standards No. 109 "Accounting for Income Taxes" which
requires the liability approach for the effect of income taxes.
At December 31, 2004 and 2003, the Company had unused operating loss
carryforwards of approximately $1,849,000 and $116,000, respectively, which may
be applied against future taxable income in various years through 2024. If
certain substantial changes in the Company's ownership should occur, there could
be an annual limitation on the amount of net operating loss carryforwards which
can be utilized. The amount of and ultimate realization of the benefits from the
operating loss carryforwards for income tax purposes is dependent, in part, upon
the tax laws in effect, the future earnings of the Company and other future
events, the effects of which cannot be determined. Because of the uncertainty
surrounding the realization of the loss carryforwards, the Company has
established a valuation allowance equal to the tax effect of the loss
carryforwards, therefore, no deferred tax asset has been recognized for the loss
carryforwards. The deferred tax assets were approximately $800,000 and $41,000
at December 31, 2004 and 2003, respectively, with an offsetting valuation
allowance of the same amount resulting in a change in the valuation allowance of
approximately $759,000 and $14,000 during the years ended December 31, 2004 and
2003, respectively.
Tenet Hospital Acquisition - The Tenet Hospital Acquisition was an asset
purchase transaction and the Company will have limited benefit from the net
operating losses of the acquired Hospitals. In connection with the Company's
completion of the Tenet Hospital Acquisition in March 2005, the Company sold
100% of its interest in PCHI to its majority shareholders. For income tax
purposes, the sale of 100% of its interest in PCHI could require the Company to
report dividend and/or interest income. If the Company is required to report
dividend and/or interest income in connection with this transaction, the Company
would be required to withhold 28% backup witholding on any deemed dividend or
interest income.
The March 3, 2005 contribution of the real estate acquired in the Tenant
Hospital Acquisition to Pacific Coast Holdings Investment LLC ("PCHI"), a 100%
owned subsidiary of the Company, was intended to be a non-taxable event. The
Company's sale of 100% of the membership interest in PCHI on March 3, 2005, to
West Coast Holdings LLC and Ganesha Realty LLC in consideration of $5 million
plus the assumption of the $50 million Acquisition Loan on the real property
debt is a taxable event to the Company. The Company is currently assessing the
potential impact of this taxable event in 2005.
NOTE 9 - RELATED PARTY TRANSACTIONS
Due to/from Shareholders and Officers - During the year ended December 31, 2004
and 2003, the Company's President paid expenses on behalf of the Company
totaling nil and $4,355, respectively. During the years ended December 31, 2004
and 2003, the Company advanced nil and $60,000, respectively, to the officers
and majority shareholders of the Company. At December 31, 2004 and 2003, the
total amount due from the Company's officers and majority shareholders was nil
and $60,000, respectively. The amounts due to/from shareholders and officers
bear no interest and are due when funds are available.
F-24
INTEGRATED HEALTHCARE HOLDINGS, INC.
(A Development Stage Enterprise)
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
Management Compensation - Effective January 1, 2004, the Company entered into
employment agreements with each of its three executive officers. The employment
agreements provide among other terms, each officer a base salary of $250,000 per
year, a bonus of $50,000 per year, and an employment term of five years. During
the year ended December 31, 2004, the Company incurred total compensation
expense of $1,205,640 related to these three employment agreements, including
accrued compensation of $913,388 at December 31, 2004. During the year ended
December 31, 2003, the Company did not pay any compensation to its officers and
directors.
In December 2004, February 2005, and March 2005, the Company entered into seven
employment agreements with its executive officers. Among other terms the three
year employment agreements in aggregate provide for annual salaries totaling
$2,540,000, total stock option grants to purchase 7,500,000 shares of the
Company's common stock at an exercise price equal to the mean average per share
for the ten days following the date of issuance with vesting at 33% per year,
and an annual bonus to be determined by the Board of Driectors.
Office Lease - The Company's office facility is leased by Mogel Management
Group, LLC ("MMG LLC"), a company owned by the officers of the Company. The
Company reimbursed MMG LLC for the use of the office space in the amount of
$68,044 and $0 for the years ended December 31, 2004 and 2003, respectively.
NOTE 10 - LOSS PER SHARE
The following data show the amounts used in computing loss per share for the
periods presented:
Year Ended
-----------------------------------
December 31, 2004 December 31, 2003
----------------- -----------------
Loss from continuing operations available
to common shareholders (numerator) $(1,840,191) $ (28,132)
Weighted average number of common
shares used in loss per share during
the period (denominator) 19,986,750 3,470,589
Dilutive loss per share was not presented, as the Company did not have any
common equivalent shares for all periods presented that would effect the
computation of diluted loss per share.
NOTE 11 - COMMITMENTS AND CONTINGENCIES
Commitments - Pursuant to the new Lease entered into as of March 7, 2005 as
mentioned in Note 6, the Company's future minimum lease payments related to the
acquired Tenet Hospitals and other medical facilities are as follows as of
December 31:
F-25
INTEGRATED HEALTHCARE HOLDINGS, INC.
(A Development Stage Enterprise)
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
Year Ending December 31,
------------------------
2005 $ 10,642,672
2006 13,153,611
2007 13,233,219
2008 13,315,216
2009 13,315,216
Thereafter (2010-2029) 278,706,133
-------------
$ 342,366,067
=============
Contingencies - In the ordinary course of business, the Company is subject to
legal proceedings and claims. The Company is not currently aware of any legal
proceedings or claims that the Company believes are likely to have a material
adverse effect on the Company's financial position and results of operations.
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
------------
FORM 10-Q
(Mark One)
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2005
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
Commission File Number: 0-23511
------------
Integrated Healthcare Holdings, Inc.
(Exact name of small business issuer as specified in its charter)
Nevada 87-0412182
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
695 Town Center Drive, Suite 260, Costa Mesa, 92626
California (Zip Code)
(Address of principal executive offices)
(714) 434-9191
(Registrant's telephone number, including area code)
(Former name, former address and former fiscal year,
if changed since last report)
------------
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes |X| No |_|
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes |X| No |_|
INTEGRATED HEALTHCARE HOLDINGS, INC.
FORM 10-Q
TABLE OF CONTENTS
Page
Number
PART I FINANCIAL INFORMATION
Item 1. Financial Statements:
Unaudited Consolidated Balance Sheet as of March 31, 2005 and
December 31, 2004 2
Unaudited Consolidated Statement of Operations for the three
months ended March 31, 2005 and March 31, 2004 3
Unaudited Consolidated Statement of Stockholders' Equity as of
March 31, 2005 and December 31, 2004 4
Unaudited Consolidated Statement of Cash Flows for the three
months ended March 31, 2005 and March 31, 2004 5
Condensed Notes to Unaudited Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations 25
Item 3. Quantitative and Qualitative Disclosures About Market Risk 32
Item 4. Controls and Procedures 32
PART II OTHER INFORMATION
Item 1. Legal Proceedings 33
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 34
Item 3. Defaults Upon Senior Securities 36
Item 4. Submission of Matters to a Vote of Security Holders
Item 5. Other Information
Item 6. Exhibits 42
SIGNATURES 45
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS.
1
INTEGRATED HEALTHCARE HOLDINGS, INC.
UNAUDITED CONSOLIDATED BALANCE SHEET
ASSETS
MARCH 31, DECEMBER 31,
2005 2004
----------------------------
Current assets: (Unaudited)
Cash and cash equivalents $ 6,414,122 $ 69,454
Accounts receivable, net of allowance for doubtful
accounts of $3,141,406 at March 31, 2005 16,968,328 --
Inventories of supplies, at cost 5,947,127 --
Prepaid expenses and other assets 3,854,474 18,519
----------------------------
33,184,051 87,973
Property and equipment, net 59,321,425 57,423
Investment in hospital asset purchase -- 11,142,145
Deferred loan fees, net of accumulated amortization of $62,355 1,870,645 --
Intangible asset, net of accumulated amortization of $70,668 and $57,819 32,122 44,970
----------------------------
Total assets $ 94,408,243 $ 11,332,511
============================
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities
Secured line of credit note $ 13,200,000 $ --
Secured acquisition note 50,000,000 11,264,013
Income taxes payable 1,472,000 --
Accounts payable 5,145,396 156,142
Accrued compensation and benefits 1,063,677 800,313
Accrued contract labor costs 6,810,000 --
Other current liabilities 1,643,292 --
----------------------------
Total current liabilities 79,334,365 12,220,468
Capital lease obligations, net of current of $204,141 3,440,858 --
Commitments and contingencies -- --
Minority interest in variable interest entity 4,991,095 --
Stockholders' equity:
Common stock, $0.001 par value; 250,000,000 shares
authorized; 118,039,000 and 20,780,000 shares
issued and outstanding, respectively 124,539 20,780
Common stock warrants; 74,700,000 outstanding 27,987,100 --
Additional paid in capital 11,785,363 1,189,621
Deferred warrant expense (11,552,927) --
Accumulated deficit (21,702,150) (2,098,358)
----------------------------
Total stockholders' equity (deficit) 6,641,925 (887,957)
----------------------------
Total liabilities and stockholders' equity (deficit) $ 94,408,243 $ 11,332,511
============================
The accompanying condensed notes are an integral part of
these unaudited condensed consolidated financial statements
2
INTEGRATED HEALTHCARE HOLDINGS, INC.
UNAUDITED CONSOLIDATED STATEMENT OF OPERATIONS
THREE MONTHS ENDED
-------------------------------
MARCH 31, 2005 MARCH 31, 2004
-------------- --------------
(Unaudited) (Unaudited)
Net operating revenues $ 21,747,029 $ --
Operating expenses:
Salaries and benefits 12,450,604 296,829
Supplies 3,033,815 --
Provision for doubtful accounts 3,141,406 --
Other operating expenses 3,900,220 180,124
Depreciation and amortization 262,212 15,179
Common stock warrant expense 16,434,173 --
------------ ------------
39,222,430 492,132
Operating loss (17,475,401) (492,132)
Interest expense 665,296 --
------------ ------------
Loss including minority interest and
before provision for income taxes (18,140,697) (492,132)
Provision for income taxes 1,472,000 --
Minority interest in variable interest entity (8,905) --
------------ ------------
Net loss $(20,384,619) $ (492,132)
============ ============
Per Share Data:
Basic and fully diluted
Loss per common share $ (0.23) $ (0.03)
Weighted average shares outstanding 88,493,611 19,582,667
3
INTEGRATED HEALTHCARE HOLDINGS, INC.
UNAUDITED CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
Common Stock Common Stock Warrants Additional Deferred
------------------------- ------------------------ Paid-in Warrant Accumulated
Shares Amount Shares Amount Capital Expense Deficit
----------- ----------- ---------- ----------- ----------- ------------ ------------
Balance, December 31, 2003 19,380,000 $ 19,380 -- $ -- $ 551,021 $ -- $ (217,781)
Issuance of debt for the
acquisition of MMG, Inc. -- -- -- -- -- -- (40,386)
Issuance of common stock for
cash at $0.25 per share 200,000 200 -- -- 49,800 -- --
Issuance of common stock for
cash at $0.50 per share 1,200,000 1,200 -- -- 588,800 -- --
Net loss -- -- -- -- -- -- (1,840,191)
----------- ----------- ---------- ----------- ----------- ------------ ------------
Balance, December 31, 2004 20,780,000 $ 20,780 -- $ -- $ 1,189,621 $ -- $ (2,098,358)
=========== =========== ========== =========== =========== ============ ============
Issuance of common stock for
cash at $0.50 per share 1,159,000 1,159 -- -- 598,342 -- --
Issuance of common stock for
cash to OCPIN 102,600,000 102,600 -- -- 9,997,400 -- --
Issuance of common stock
warrants -- -- 41,291,892 27,987,100 -- (27,987,000) --
Common stock warrants
expensed at March 31, 2005 16,434,173
Net loss -- -- -- -- -- -- (19,603,792)
----------- ----------- ---------- ----------- ----------- ------------ ------------
Balance, March 31, 2005 124,539,000 $ 124,539 41,291,892 $27,987,100 $11,785,363 $(11,552,927) $(21,702,150)
=========== =========== ========== =========== =========== ============ ============
Total
-----------
Balance, December 31, 2003 $ 352,620
Issuance of debt for the
acquisition of MMG, Inc. (40,386)
Issuance of common stock for
cash at $0.25 per share 50,000
Issuance of common stock for
cash at $0.50 per share 590,000
Net loss (1,840,191)
-----------
Balance, December 31, 2004 $ (887,957)
===========
Issuance of common stock for
cash at $0.50 per share 599,501
Issuance of common stock for
cash to OCPIN 10,100,000
Issuance of common stock
warrants --
Common stock warrants
expensed at March 31, 2005 16,434,173
Net loss (19,603,792)
-----------
Balance, March 31, 2005 $ 6,641,925
===========
4
INTEGRATED HEALTHCARE HOLDINGS, INC.
UNAUDITED CONSOLIDATED STATEMENT OF CASH FLOWS
Three Three
Months Ended Months Ended
March 31, 2005 March 31, 2004
-------------- --------------
Cash flows from operating activities:
Net loss $(19,603,792) $ (492,132)
Adjustments to reconcile net loss to cash used in operating activities:
Depreciation and amortization expense 324,566 15,179
Common stock warrant expense 16,434,173 --
Minority interest in variable internet entity (8,905) --
Increase in prepaid expense and other assets (1,497,101) --
Increase in net accounts receivable (16,968,328) (8,827)
Increase in income taxes payable 1,472,000 --
Increase in accounts payable 4,989,254 209,908
Increase in accrued compensation and benefits 385,384 --
Increase in accrued contract labor costs 6,810,000 --
Increase in other accrued liabilities 1,439,151 --
Decrease in inventories of supplies 71,868 --
------------ ------------
Net cash used in operating activities (6,171,742) (275,872)
------------ ------------
Cash flows from investing activities:
Acquisition of hospital assets, net (63,171,676) --
Purchase of property and equipment -- (14,877)
Acquisition of MMG, Inc., net of cash acquired -- 8,534
------------ ------------
Net cash used in investing activities (63,171,676) (6,343)
Cash flows from financing activities:
Issuance of secured promissory notes, net of costs 48,067,000 (71,715)
Proceeds from line of credit 13,200,000 --
Proceeds from issuance of stock 10,699,501 200,000
Proceeds from sale of property 5,000,000 --
Repayment of secured notes (1,278,415) --
------------ ------------
Net cash provided by financing activities 75,688,086 128,285
------------ ------------
Net increase (decrease) in cash 6,344,668 (153,930)
------------ ------------
Cash and cash equivalents, beginning of period 69,454 265,000
------------ ------------
Cash and cash equivalents, end of period $ 6,414,122 $ 111,070
============ ============
Supplemmental disclosure of noncash transactions:
Issuance of promissory notes for Acquisition $ 53,000,000 $ --
Consolidation of variable interest entity $ 54,758,312 $ --
Expense of common stock warrants $ 16,434,173 $ --
Rescinded secured promissory note for the
return of initial deposit on hospital assets $ 10,000,000 $ --
Interest paid $ 1,629,000 $ --
Income taxes paid $ -- $ --
The accompanying condensed notes are an integral part of
these unaudited condensed consolidated financial statements
5
INTEGRATED HEALTHCARE HOLDINGS, INC.
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2005
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Acquisition - On March 8, 2005, the Company completed its acquisition (the
"Acquisition") of four Orange County, California hospitals and associated real
estate, including: (i) 282-bed Western Medical Center--Santa Ana, CA; (ii)
188-bed Western Medical Center--Anaheim, CA; (iii) 178-bed Coastal Communities
Hospital in Santa Ana, CA; and (iv) 114-bed Chapman Medical Center in Orange, CA
(collectively, the "Hospitals") from Tenet Healthcare Corporation ("Tenet"). The
Hospitals were assigned to four wholly-owned subsidiaries of the Company (the
"Subsidiaries") formed for the purpose of completing the Hospital Acquisition.
The Company also acquired the following real estate, leases and assets
associated with the Hospitals: (i) a fee interest in the Western Medical Center
at 1001 North Tustin Avenue, Santa Ana, CA 92705, a fee interest in the
administration building at 1301 North Tustin Avenue, Santa Ana, CA 92705,
certain rights to acquire condominium suites located in the medical office
building at 999 North Tustin Avenue, Santa Ana, CA, and the business known as
the West Coast Breast Cancer Center; (ii) a fee interest in the Western Medical
Center at 1025 South Anaheim Blvd., Anaheim, CA 92805; (iii) a fee interest in
the Coastal Communities Hospital at 2701 South Bristol Street, Santa Ana, CA
92704, and a fee interest in the medical office building at 1901 North College
Avenue, Santa Ana, CA; (iv) a lease for the Chapman Medical Center at 2601 East
Chapman Avenue, Orange, CA 92869, and a lease for the medical office building at
2617 East Chapman Avenue, Orange, CA; and (v) the furniture, fixtures and
contract rights associated with the Hospitals.
The results of operations of the acquired assets from the acquisition date
(March 8, 2005) have been included in the Company's consolidated statement of
operations for the three months ended March 31, 2005. As a result of the
Acquisition the Company has commenced its planned principal operations and
accordingly is no longer considered a development stage enterprise.
As discussed further in Note 7, concurrent with the close of the
Acquisition the Company entered into a sale-leaseback transaction with a Pacific
Coast Holdings Investment, LLC ("PCHI"), a then wholly owned subsidiary,
involving all the real property acquired in the Acquisition. PCHI was then
immediately sold to certain major equity holders in the Company. In this
transaction the Company received consideration of $5 million in cash plus PCHI's
guaranty of the Company's acquisition note of $50 million. Because, among other
reasons, the Company remains primarily liable under the $50 million debt
notwithstanding its guaranty by PCHI, this transaction does not qualify for
sale-leaseback accounting and the $50 million in debt has not been removed from
the Company's consolidated balance sheet at March 31, 2005. However, because
PCHI now holds title to the real property, the Company's interest in the real
estate was converted to a lease interest pursuant to the lease entered into
between PCHI, as lessor, and the Company, as lessee as part of the
sale-leaseback transaction. Additionally, as further discussed under
Consolidation below, Company management has determined that generally accepted
accounting principles require that the financial statements of PCHI must be
included in the consolidated financial statements of the Company under generally
accepted accounting principles.
Consolidation - The consolidated financial statements include the accounts
of Integrated Healthcare Holdings, Inc. ("the Company") and its wholly owned
subsidiaries, Mogel Management Group, Inc. ("MMG") and its four hospital
subsidiaries located in Orange County, California (collectively, the
"Hospitals"):
Western Medical Center - Anaheim Anaheim, CA 188 beds
Western Medical Center - Santa Ana Santa Ana, CA 282 beds
Coastal Communities Hospital Santa Ana, CA 178 beds
Chapman Medical Center Orange, CA 114 beds
6
INTEGRATED HEALTHCARE HOLDINGS, INC.
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2005
Additionally, generally accepted accounting principles require that a
company consolidate the financial statements of any entity that cannot finance
its activities without additional subordinated financial support, and for which
one company provides the majority of that support through means other than
ownership. As discussed further in Note 9, the Company has determined that it
provides to the entity that purchased the Hospitals' real estate the majority of
its financial support through various sources including lease payments,
cross-collateralization of the Company's assets to secure the transferred debt,
and the use of the Company's equity financing. Accordingly, the accompanying
consolidated financial statements include the accounts of this entity from the
date of the real estate sale.
All significant intercompany accounts and transactions have been
eliminated in combination.
Company Operations - The Company through the Hospitals is primarily
engaged in the operation of general hospitals and related healthcare facilities.
The accompanying financial statements have been prepared on a going concern
basis, which contemplates the realization of assets and settlement of
obligations in the normal course of business. The Company generated losses from
continuing operations of $19,603,792 (inclusive of warrant expense incurred in
connection with the Hospital acquisition of $16,434,173) during the three months
ended March 31, 2005 and has negative working capital of $46,150,314 at March
31, 2005. In addition, on or around May 9, 2005, the Company received a notice
of default from Medical Provider Financial Corporation II ("Medical Provider"),
which is the lender under the $50 million acquisition loan and under a working
capital line of credit that has an outstanding balance of $13.2 million as of
March 31, 2005. The default has caused the acquisition loan to be classified as
a current liability as of March 31, 2005. These factors, among others, indicate
a need for the Company to take action to resolve its financing issues and
operate its business on a profitable basis.
Management is working to restructure the debt with Medical Provider and
believes that the Company's existing cash flow from operations and the Company's
ability to raise additional capital will be sufficient to meet its continuing
obligations for the foreseeable future. The Company has requested and PCHI has
agreed to permit the Company to use the Hospitals' real property as collateral
for the purposes of joint financing of Company's business operation for an
initial period of time.
Condensed Financial Statements - The accompanying financial statements
have been prepared by the Company without audit. In the opinion of management,
all adjustments (which include only normal recurring adjustments) necessary to
present fairly its consolidated financial position at March 31, 2005, and its
consolidated results of operations and cash flows for the three months ended
March 31, 2005 and 2004 have been made.
Certain information and footnote disclosures normally included in
financial statements prepared in accordance with generally accepted accounting
principles in the United States of America have been condensed or omitted. It is
suggested that these condensed financial statements be read in conjunction with
the financial statements and notes thereto included in the Company's December
31, 2004 audited consolidated financial statements. The results of operations
for the periods ended March 31, 2005 and 2004 are not necessarily indicative of
the operating results for the full year.
Organization - Integrated Healthcare Holdings, Inc. (the "Company") was
organized under the laws of the State of Utah on July 31, 1984 under the name of
Aquachlor Marketing. The Company never engaged in business activities and was
suspended for failure to file annual reports and tax returns. In December 1988,
all required reports and tax returns were filed and the Company was reinstated
by the State of Utah. In December 1988, the Company merged with Aquachlor, Inc.,
a Nevada corporation incorporated on December 20, 1988. The Nevada corporation
became the surviving entity and changed its name to Deltavision, Inc. In March
1997, the Company received a Certificate of Revival from the State of Nevada
using the name First Deltavision, Inc. In March 2004, the Company changed its
name to Integrated Healthcare Holdings, Inc.
7
INTEGRATED HEALTHCARE HOLDINGS, INC.
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2005
Use of Estimates - The accounting and reporting policies of the Hospitals
conform to accounting principles generally accepted in the United State of
American and prevailing practices for investor-owned entities within the
healthcare industry. The preparation of financial statements in conformity with
accounting principles generally accepted in the United States of American
requires management to make estimates and assumptions that affect the amounts
reported in the financial statements and accompanying notes. Management
regularly evaluates the accounting policies and estimates that are used. In
general, management bases the estimates on historical experience and on
assumptions that it believes to be reasonable given the particular circumstances
in which the Hospitals operate. Although management believes that adjustments
considered necessary for fair presentation have been included, actual results
may vary from those estimates.
Net Patient Service Revenue - Net patient service revenue is recognized in
the period in which services are performed and is recorded based on established
billing rates (gross charges) less estimated discounts for contractual
allowances, principally for patients covered by Medicare, Medicaid, managed care
and other health plans.
Gross charges are retail charges. They are not the same as actual pricing,
and they generally do not reflect what a hospital is ultimately paid and
therefore are not displayed in the condensed consolidated statements of
operations. Hospitals are typically paid amounts that are negotiated with
insurance companies or are set by the government. Gross charges are used to
calculate Medicare outlier payments and to determine certain elements of payment
under managed care contracts (such as stop-loss payments). Because Medicare
requires that a hospital's gross charges be the same for all patients
(regardless of payer category), gross charges are also what hospitals charge all
other patients prior to the application of discounts and allowances.
Percentages of net patient service revenue, by payer type, for the
Hospitals for the three months ended March 31, 2005 were as follows:
Three months ended
March 31, 2005
Medicare 22%
Medicaid 14%
Managed care 43%
Indemnity, self-pay and other 21%
Revenues under the traditional fee-for-service Medicare and Medicaid
programs are based primarily on prospective payment systems. Discounts for
retrospectively cost-based revenues and certain other payments, which are based
on the hospitals' cost reports, are estimated based on relationships of costs to
charges subject to regulatory adjustments. For the three months ended March 31,
2005 retrospective revenues were approximately $600,000. Cost report settlements
for retrospectively cost-based revenues under these programs will be subject to
audit and administrative and judicial review, which can take several years until
final settlement of such matters are determined and completely resolved. Because
the laws, regulations, instructions and rule interpretations governing Medicare
and Medicaid reimbursement are complex and change frequently, the estimates
recorded by the Hospitals could change by material amounts.
Outlier payments, which were established by Congress as part of the
diagnosis-related groups (DRG) prospective payment system, are additional
payments made to hospitals for treating Medicare patients who are costlier to
treat than the average patient in the same DRG. To qualify as a cost outlier, a
hospital's billed (or gross) charges, adjusted to cost, must exceed the payment
rate for the DRG by a fixed threshold established annually by the Centers for
Medicare and Medicaid Services of the United State Department of Health and
Human Services (CMS). The Medicare fiscal intermediary calculates the cost of a
claim by multiplying the billed charges by the cost-to-charge ratio from the
hospital's most recent filed cost report. If the computed cost exceeds the sum
of the DRG payment plus the fixed threshold, the hospital receives 80% of the
difference as an outlier payment. Medicare has reserved the option of adjusting
outlier payments, through the cost report, to the hospital's actual cost-to
charge ratio. Upon receipt of the current payment cost-to-charge ratios from the
fiscal intermediary, any variance between current payments and the estimated
final outlier settlement will be reported.
8
INTEGRATED HEALTHCARE HOLDINGS, INC.
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2005
Under Sections 1886(d) and 1886(g) of the Social Security Act, CMS must
project aggregate annual outlier payments to all prospective payment system
hospitals to be not less than 5% or more than 6% of total DRG payments (Outlier
Percentage). The Outlier Percentage is determined by dividing total outlier
payments by the sum of DRG and outlier payments. CMS annually adjusts the fixed
threshold to bring expected outlier payments within the mandated limit. A change
to the fixed threshold affects total outlier payments by changing (1) the number
of cases that qualify for outlier payments, and (2) the dollar amount hospitals
receive for those cases that still qualify. The most recent change to the cost
outlier threshold that became effective on October 1, 2004 was a decrease from
$31,000 to $25,800, which CMS projects will result in an Outlier Percentage of
5.1%.
Revenues under managed care plans are based primarily on payment terms
involving predetermined rates per diagnosis, per-diem rates, discounted
fee-for-service rates and/or other similar contractual arrangements. These
revenues are also subject to review and possible audit by the payers. The payers
are billed for patient services on an individual patient basis. An individual
patient's bill is subject to adjustment on a patient-by-patient basis in the
ordinary course of business by the payers following their review and
adjudication of each particular bill. The Hospitals estimate the discounts for
contractual allowances utilizing billing data on an individual patient basis. At
the end of the month, the Hospitals estimate expected reimbursement for patient
of managed care plans based on the applicable contract terms. These estimates
are continuously reviewed for accuracy by taking into consideration known
contract terms as well as payment history. Although the Hospitals do not
separately accumulate and disclose the aggregate amount of adjustments to the
estimated reimbursements for every patient bill, management believes the
estimation and review process allows for timely identification of instances
where such estimates need to be revised. Management does not believe there were
any adjustments to estimates of individual patient bills that were material to
its net patient service revenue.
Management is not aware of any material claims, disputes, or unsettled
matters with any payers that would affect revenues that have not been adequately
provided for in the accompanying combined financial statements.
The Hospitals provide charity care to patients whose income level is below
200% of the Federal Poverty Level with only a co-payment charged to the patient.
The Hospitals' policy is to not pursue collection of amounts determined to
qualify as charity care; and accordingly, the Hospitals do not report the
amounts in net patient service revenue or in the provision for doubtful
accounts. Patients whose income level is between 200% and 300% of the Federal
Poverty Level may also be considered under a catastrophic provision of the
charity care policy. Patients without insurance who do not meet the Federal
Poverty Level guidelines are offered assistance in applying for Medicaid and
other programs they may be eligible for, such as state disability, Victims of
Crime, or county indigent programs. Patient advocates from the Hospitals'
Medical Eligibility Program (MEP) screen patients in the hospital and determine
potential linkage to financial assistance programs. They also expedite the
process of applying for these government programs. The amount of gross charges
foregone under the charity policy, including indigent care accounts, for the
three months ended March 31, 2005 were approximately $3,639,000.
9
INTEGRATED HEALTHCARE HOLDINGS, INC.
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2005
Receivables from patients who are potentially eligible for Medicaid are
classified as Medicaid pending, under the MEP, with appropriate contractual
allowances recorded. If the patient does not quality for Medicaid, the
receivables are reclassified to charity care and written off, or they are
reclassified to self-pay and adjusted to their net realizable value through the
provision of doubtful accounts. Reclassifications of Medicaid pending accounts
to self-pay do not typically have a material impact on the results of operations
as the estimated Medicaid contractual allowances initially recorded are not
materially different than the estimated provision for doubtful accounts recorded
when the accounts are reclassified. All accounts classified as pending Medicaid
are fully reserved when they reach 180 days old.
Provision for Doubtful Accounts - The Hospitals provide for accounts
receivable that could become uncollectible by establishing an allowance to
reduce the carrying value of such receivables to their estimated net realizable
value. The Hospitals estimate this allowance based on the aging of their
accounts receivable, historical collections experience for each type of payer
and other relevant factors. There are various factors that can impact the
collection trends, such as changes in the economy, which in turn have an impact
on unemployment rates and the number of uninsured and underinsured patients,
volume of patients through the emergency department, the increased burden of
co-payments to be made by patients with insurance and business practices related
to collection efforts. These factors continuously change and can have an impact
on collection trends and the estimation process.
The Hospitals' policy is to attempt to collect amounts due from patients,
including co-payments and deductibles due from patients with insurance, at the
time of service while complying with all federal and state laws and regulations,
including, but not limited to, the Emergency Medical Treatment and Labor Act
(EMTALA). Generally, as required by EMTALA, patients may not be denied emergency
treatment due to inability to pay. Therefore, until the legally required medical
screening examination is complete and stabilization of the patient has begun,
services are performed prior to the verification of the patient's insurance, if
any. In non-emergency circumstances or for elective procedures and services, it
is the Hospitals' policy, when appropriate, to verify insurance prior to a
patient being treated.
During the three months ended March 31, 2005, the Hospitals recorded
provisions for doubtful accounts of $3,141,406.
Cash and Cash Equivalents - The Company considers all highly liquid debt
investments purchased with a maturity of three months or less to be cash
equivalents.
Property and Equipment - Property and equipment are stated at cost, less
accumulated depreciation and any impairment write-downs related to assets held
and used. Additions and improvements to property and equipment are capitalized
at cost. Expenditures for maintenance and repairs are charged to expense as
incurred. Capital leases are recorded at the beginning of the lease term as
assets and liabilities. The value recorded is the lower of either the present
value of the minimum lease payments or the fair value of the asset. Such assets,
including improvements, are amortized over the shorter of either the lease term
or their estimated useful life.
The Company use the straight-line method of depreciation for buildings,
building improvements, and equipment over their estimated useful lives as
follows:
Buildings and improvements 4 to 25 years
Equipment 3 to 15 years
The Company evaluates its long-lived assets for possible impairment
whenever circumstances indicate that the carrying amount of the asset, or
related group of assets, may not be recoverable from estimated future cash
flows. However, there is an evaluation performed at least annually. Fair value
estimates are derived from independent appraisals, established market values of
comparable assets or
10
INTEGRATED HEALTHCARE HOLDINGS, INC.
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2005
internal calculations of estimated future net cash flows. The estimates of
future net cash flows are based on assumptions and projections believed by
management to be reasonable and supportable. These assumptions take into account
patient volumes, changes in payer mix, revenue, and expense growth rates and
changes in legislation and other payer payment patterns. The Company believes
there has been no impairment in the carrying value of its property and equipment
at March 31, 2005.
Medical Claims Incurred but not Reported - The Company is contracted with
CalOptima, which is a county sponsored entity that operates similar to a HMO, to
provide health care services to indigent patients at a fixed amount per enrolled
member per month. The Company receives payments from CalOptima based on a fixed
fee and the number of enrolled members to the Company's specific hospitals. The
Company recognizes these capitation fees as revenues on a monthly basis for
providing comprehensive health care services for the period. The Company does
not have contractual obligations with HMO's.
In certain circumstances, members will receive health care services from
hospitals not owned by the Company. In these cases, the Company records
estimates of patient member claims incurred but not reported (IBNR) for services
provided by other health care institutions. The claims incurred but not reported
are estimated using historical claims patterns, current enrollment trends,
hospital pre-authorizations, member utilization patterns, timeliness of claims
submissions, and other factors. There can be no assurance that the ultimate
liability will not exceed our estimates. Adjustments to the estimated IBNR
reserves are recorded in our results of operations in the periods when such
amounts are determined.
Per guidance under SFAS NO. 5, the Company accures for IBNR reserves when
it is probable that expected future health care costs and maintenance costs
under an existing contract have been incurred and the amount can be reasonably
estimable. The Company records these IBNR claim reserves against its net
operating revenues. During the three months ended March 31, 2005, the Company
recorded net revenues from CalOptima of approximately $300,000, net of IBNR
reserves of $238,000. The Company's direct cost of providing services to patient
members in IHHI facilities is recorded as an operating expense.
Stock-Based Compensation - Statement of Financial Accounting Standards No.
123, Accounting for Stock Based Compensation, encourages, but does not require,
companies to record compensation cost for stock-based employee compensation
plans at fair value. The Company has chosen to account for stock-based
compensation using the intrinsic value method prescribed in previously issued
standards. Accordingly, compensation cost for stock options issued to employees
is measured as the excess, if any, of the fair market value of the Company's
stock at the date of grant over the amount an employee must pay to acquire the
stock. Compensation is charged to expense over the shorter of the service or
vesting period. Stock options issued to non-employees are recorded at the fair
value of the services received or the fair value of the options issued,
whichever is more reliably measurable, and charged to expense over the service
period.
Fair Value of Financial Instruments - The Company considers all liquid
interest-earning investments with a maturity of three months or less at the date
of purchase to be cash equivalents. Short-term investments generally mature
between three months and six months from the purchase date. All cash and
short-term investments are classified as available for sale and are recorded at
market using the specific identification method; unrealized gains and losses are
reflected in other comprehensive income. Cost approximates market for all
classifications of cash and short-term investments.
Net Loss per Common Share - Net loss per share is calculated in accordance
with Statement of Financial Accounting Standards No. 128, Earnings Per Share.
Basic net loss per share is based upon the weighted average number of common
shares outstanding. Diluted net loss per share is based on the assumption that
options and warrants are included in the calculation of diluted earnings per
share, except when their effect would be anti-dilutive. Dilution is computed by
applying the treasury stock method. Under this method, options and warrants are
assumed to be exercised at the beginning of the period (or at the time of
issuance, if later), and as if funds obtained thereby were used to purchase
common stock at the average market price during the period.
Impairment of Long-Lived Assets - The Company continually monitors events
or changes in circumstances that could indicate that the carrying amount of
long-lived assets to be held and used, including intangible assets, may not be
recoverable. The determination of recoverability is based on an estimate of
undiscounted future cash flows resulting from the use of the asset and its
eventual disposition. When impairment is indicated for a long-lived asset, the
amount of impairment loss is the excess of net book value over fair value.
Long-lived assets to be disposed of are reported at the lower of carrying amount
or fair value less costs to sell. As of March 31, 2005, the Company has
determined that no impairment of its long-lived assets exists.
11
INTEGRATED HEALTHCARE HOLDINGS, INC.
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2005
Goodwill and Intangible Assets - On July 20, 2001, the Financial
Accounting Standards Board (FASB) issued Statement of Financial Accounting
Standards ("SFAS") 141, Business Combinations, and SFAS 142, Goodwill and
Intangible Assets. Under these new standards, all acquisitions subsequent to
June 30, 2001 must be accounted for using the purchase method of accounting. The
cost of intangible assets with indefinite lives and goodwill are no longer
amortized, but are subject to an annual impairment test based upon its fair
value.
Goodwill and intangible assets principally result from business
acquisitions. The Company accounts for business acquisitions by assigning the
purchase price to tangible and intangible assets and liabilities. Assets
acquired and liabilities assumed are recorded at their fair values; the excess
of the purchase price over the net assets acquired is recorded as goodwill.
Recently Enacted Accounting Standards - On October 13, 2004, the Financial
Accounting Standards Board issued Statement 123R, Share-Based Payment, which
requires all companies to measure compensation cost for all share-based
payments, including employee stock options, at fair value. The statement is
effective for the Company as of the fiscal year commencing January 1, 2006. The
statement generally requires that such transactions be accounted for using a
fair-value-based method and recognized as expenses in the consolidated
statements of operations. This standard also requires that the modified
prospective transition method be used, under which the Company will recognize
compensation cost for (1) the fair value of new awards granted, modified or
settled after the effective date of the SFAS 123R; and (2) a portion of the fair
value of each option and stock grant made to employees or directors prior to the
implementation date that represents the unvested portion of these share-based
awards as of such date.. The measurement of compensation cost for awards that
are not fully vested as of the effective date of the SFAS 123R would be based on
the same estimate that the Company used to previously value its grants under
SFAS 123.
As a result of SFAS 123R, the Company will be required to expense the fair
value of its stock option grants rather than disclose the impact on its
consolidated statement of operations within the Company's footnotes, as is
current practice. Additionally, if it chooses to do so, SFAS 123(R) permits the
Company to adopt the new share-based award accounting by retrospectively
restating results for all periods presented to facilitate period-to-period
comparison. The Company has not yet made a determination as to whether it will
adopt SFAS 123(R) retrospectively and is currently assessing the potential
impact of the new standard on its consolidated financial statements and is
evaluating alternative equity compensation arrangements.
In January 2003, the Financial Accounting Standards Board issued FIN 46,
"Consolidation of Variable Interest Entities," which requires consolidation of
certain entities in which equity investors do not have the characteristics of a
controlling financial interest or do not have sufficient equity at risk for the
entity to finance its activities without additional subordinated financial
support from other parties. Paragraph 1 of ARB 51 states that consolidated
financial statements are usually necessary for a fair presentation when one of
the companies in the group directly or indirectly has a controlling financial
interest in the other companies. Paragraph 2 states that "the usual condition
for a controlling financial interest is ownership of a majority voting
interest..." However, application of the majority voting interest requirement in
ARB 51 to certain types of entities may not identify the party with a
controlling financial interest because the controlling financial interest may be
achieved through arrangements that do not involve voting interests. Application
of Interpretation 46 or Interpretation 46(R) is required in financial statements
of public entities that have interests in variable interest entities or
potential variable interest entities commonly referred to as special-purpose
entities for periods ending after December 15, 2003. See Note 8 regarding the
Company's implementation of FIN 46(R).
12
INTEGRATED HEALTHCARE HOLDINGS, INC.
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2005
NOTE 2 - ACQUISITION
The purchase price, after all purchase price adjustments, of the
Acquisition amounted to $66,164,700. The fair value of the tangible assets
acquired and liabilities assumed consisted of the following:
Property and equipment $ 59,493,353
Inventories of supplies 6,018,995
Prepaid expenses and other current assets 2,460,874
Deferred loan fees 1,933,000
Capital lease obligations (3,659,401)
Other assumed liabilities (82,121)
------------
$ 66,164,700
============
The Company financed the asset purchase by obtaining a $50 million
acquisition debt, drawing $3 million on a working capital line of credit, the
sale of the Company's common stock for $10,100,000, and $5 million in proceeds
from the sale of the real property of the acquired Hospitals.
The following unaudited pro forma information represents the Company's
consolidated results of operations as if the Acquisition had occurred on January
1, 2004 and after giving effect to certain adjustments including the elimination
of investment losses not attributable to on-going operations, interest expense,
depreciation expense, common stock warrants expense, and related tax effects.
Such pro forma information does not purport to be indicative of operating
results that would have been reported had the Acquisition occurred on January 1,
2004 or future operating results.
Pro Forma (Unaudited)
----------------------------------
Three Months Ended
----------------------------------
March 31, 2005 March 31, 2004
----------------------------------
Net operating revenues $ 77,013,320 $ 86,745,985
Net loss $ (30,532,343) $ (22,936,391)
Loss per common share
(basic and fully diluted) $ (0.25) $ (0.18)
Weighted average shares outstanding 124,539,000 124,539,000
As of December 31, 2004, the Company recorded its initial deposit of $10
million on the Tenet Hospital Acquisition and direct acquisition costs of
$1,142,145, consisting primarily of legal fees, as an Investment in hospital
asset purchase in the accompanying consolidated balance sheet.
NOTE 3 - PROPERTY AND EQUIPMENT
Property and equipment consist of the following as of March 31, 2005:
Land $28,839,098
Buildings and improvements 19,270,104
Equipment 7,808,774
Leasehold 3,659,401
-----------
59,577,377
Less accumulated depreciation (255,952)
-----------
Property and equipment, net $59,321,425
===========
The Hospitals are affected by State of California Senate Bill 1953 (SB
1953), which requires certain seismic safety building standards for acute care
hospital facilities. The Hospitals are currently reviewing the SB 1953
compliance requirements and developing multiple plans of action to achieve such
compliance, the estimated time frame for complying with such requirements, and
the cost of performing necessary remediation of certain of the properties. The
Hospitals cannot currently estimate with reasonable accuracy the remediation
costs that will need to be incurred in order to make the facilities SB
1953-compliant, but such remediation costs could be significant.
13
INTEGRATED HEALTHCARE HOLDINGS, INC.
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2005
NOTE 4 - COMMON STOCK
2005 Stock Transactions
Stock Purchase Agreement with OC-PIN - On January 28, 2005, the Company
entered into a Stock Purchase Agreement (the "Stock Purchase Agreement") with
Orange County Physicians Investment Network, LLC ("OC-PIN"), a company founded
by Dr. Anil V. Shah and owned by a number of physicians practicing at the
acquired hospitals, pursuant to which OC-PIN committed to invest $30,000,000 in
the Company for an aggregate of 108,000,000 shares of the Company's common
stock. In addition, a prior Purchase Option Agreement, dated November 16, 2004,
between the Company and Dr. Anil V. Shah was terminated.
During the three months ended March 31, 2005, the Company issued 96.1
million shares of its common stock in consideration of $10.1 million from OC-PIN
under the Stock Purchase Agreement. The Company used the proceeds from this
stock sale as part of the consideration paid to Tenet for the Hospital
acquisition.
Under the Stock Purchase Agreement, no later than six calendar days before
the closing of Acquisition, OC-PIN was to deliver to the Company additional
financing totaling $20,000,000. Upon receipt of the $20,000,000, the Company was
to issue an additional 5.4 million shares of its common stock to OC-PIN. The
Company extended OC-PIN's additional $20 million financing commitment to March
31, 2005, but as of May 22, 2005, OC-PIN has not made any additional stock
purchases. See "Note 12 - Subsequent Events" for information concerning the
current status of this matter.
During the three months ended March 31, 2005, the Company issued 1,179,000
shares of its common stock at $0.50 per share for cash proceeds of $589,500.
NOTE 5 - COMMON STOCK WARRANTS
The Company entered into a Rescission, Restructuring and Assignment
Agreement with Dr. Chaudhuri and William Thomas on January 27, 2005 (the
"Restructuring Agreement"). Previously, the Company had obtained financing from
Dr. Chaudhuri and Mr. Thomas and had issued to them a $500,000 secured
convertible promissory note that was convertible into approximately 88.8% of the
Company's issued and outstanding common stock on a fully-diluted basis, a $10
million secured promissory note, and a Real Estate Purchase Option agreement
originally dated September 28, 2004 to purchase 100% of substantially all of the
real property in the Acquisition for $5 million (the "Real Estate Option"), all
of which together with related accrued interest payable pursuant to the terms of
the notes were rescinded and cancelled. Pursuant to the Restructuring Agreement,
the Company released its initial deposit of $10 million plus accrued interest on
the Tenet Hospital Acquisition back to Dr. Chaudhuri and issued non-convertible
secured promissory notes totaling $1,264,014 and warrants to purchase up to
74,700,000 shares of the Company's Common Stock (but not to exceed 24.9% of the
Company's Fully-Diluted capital stock) (the "Warrants") to Dr. Chaudhuri and Mr.
Thomas. In addition, the Company amended the Real Estate Option to provide that
Dr. Chaudhuri's option shall be to purchase 49% of substantially all of the real
property in the Acquisition for $2,450,000. Concurrent with the close of the
Acquisition, IHHI repaid the non-convertible secured promissory notes of
$1,264,014 to Dr. Chaudhuri and Mr. Thomas.
The warrants are exercisable beginning January 27, 2007 and expire 3.5
years from the date of issuance. The exercise price for the first 43 million
shares purchasable under the Warrants is $0.003125 per share, and the exercise
price for the remaining 31.7 million shares is $0.078 per share if exercised
between January 27, 2007 and July 26, 2007, $0.11 per share if exercised between
July 27, 2007 and January 26, 2008, and $0.15 thereafter.
14
INTEGRATED HEALTHCARE HOLDINGS, INC.
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2005
Based upon a valuation obtained by the Company from an independent
valuation firm, the Company assigned a value to the 74,700,000 warrants of
$27,987,100 at the date of grant. As of March 31, 2005, the Company recognized
an expense of $16,434,173 related to the issuance of the Warrants. The Company
computed the expense of the Warrants based on the fair value of the Warrants at
the date of grant and the maximum number of shares exercisable as of March 31,
2005 of 41,291,892 (which constitutes 24.9% of the fully diluted stock that
would have been outstanding as of March 31, 2005 assuming maximum possible
exercise of the Warrants). The Company recorded the fair value of the remaining
unexercisable Warrants as of March 31, 2005 of $11,552,927 as deferred warrant
expense in the accompanying consolidated balance sheet as of March 31, 2005. The
Company will recognize additional Warrant expense in subsequent quarters over
the term of the Warrants of 3.5 years based on any future increases in the
number of outstanding shares of the Company's fully diluted common stock.
The Company computed the fair value of the Warrants based on the
Black-Scholes option pricing model with the following assumptions:
Risk-free interest rate 3.2%, 3.33%
Expected volatility 33.6%, 35.7%
Dividend yield --
Expected life (years) 2, 2.5
Fair value of Warrants (fully diluted) $0.343, $0.398
Due to fact that the Company emerged from the development stage during the
three months ended March 31, 2005, the Company computed the volatility of its
stock based on an average of comparable public companies that own hospitals.
NOTE 6 - DEBT
The current portion of the Company's debt consists of the following notes
as of March 31, 2005:
Secured line of credit note $ 13,200,000
Second aquisition note 50,000,000
-------------
$ 63,200,000
=============
Acquisition Loan and Line of Credit - In connection with the Tenet
Hospital Acquisition, the Company obtained borrowings to complete the Hospital
Acquisition from affiliates of Medical Capital Corporation of Anaheim, CA.
Effective March 3, 2005, the Company and its Subsidiaries collectively entered
into a Credit Agreement (the "Credit Agreement") with Medical Provider Financial
Corporation II ("the Lender"), whereby the Company has obtained initial
financing in the form of a loan with interest at the rate of 14% per annum in
the amount of $80,000,000 of which $30,000,000 is in the form of a non-revolving
Line of Credit (the "Line of Credit") and $50,000,000 is in the form of a real
estate loan (the "Acquisition Loan") (collectively, the "Obligations"). The
Company used the proceeds from the $50 million Acquisition Loan and $3 million
from the Line of Credit to complete the Acquisition (See Notes 1 and 2). The
Line of Credit is to be used for the purpose of providing: (a) working capital
financing for the Company and its Subsidiaries, (b) funds for other general
corporate purposes of the Company and its Subsidiaries, and (c) other permitted
purposes.
15
INTEGRATED HEALTHCARE HOLDINGS, INC.
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2005
Interest payments are due on the Obligations on the first business day of
each calendar month to occur while any Obligation is outstanding at the interest
rate of 14% per annum. The Obligations mature at the first to occur of (i) the
Commitment Termination Date for the Line of Credit Loan, (ii) March 2, 2007, or
(iii) the occurrence or existence of a continuing Event of Default under any of
the Obligations. The Commitment Termination Date means the earliest of (a)
thirty calendar days prior to March 2, 2007; (b) the date of termination of
Lender's obligations to make Advances under the Line of Credit Note or permit
existing Obligations to remain outstanding pursuant to Section 8.2(b), (c) the
date of prepayment in full by the Company and its Subsidiaries of the
Obligations and the permanent reduction of all Commitments to zero dollars; (d)
March 2, 2007. Per the Credit Agreement, all future capital contributions to the
Company by OC-PIN shall be used by the Company as mandatory prepayments of the
Line of Credit.
The Acquisition Loan and Line of Credit are secured by a lien on
substantially all of the assets of the Company and its Subsidiaries, including
without limitation, a pledge of the capital stock by the Company in its wholly
owned subsidiaries. In addition, (i) PCHI (see Note 7) has agreed to guaranty
the payment and performance of the Obligations, (ii) West Coast and Ganesha (see
Note 7) have each agreed to pledge their membership interests in PCHI as
security for repayment of the Obligations, (iii) the members of West Coast have
agreed to pledge their membership interests in PCHI as security for repayment of
the Obligations, and (iv) OC-PIN (see Note 4) has agreed to guaranty the payment
and performance of all the Obligations.
Credit Agreement Fees - Concurrently with the execution and delivery of
the Credit Agreement and as a condition to the funding of the Acquisition Loan,
Company and its Subsidiaries agreed to pay to the Lender an origination fee in
an amount equal to 2% of the Credit Line Commitment or $600,000, and 2% of the
Acquisition Loan or $1,000,000, to be payable out of Company and its
Subsidiaries own funds, which fee shall be deemed earned in full upon receipt by
Lender. Upon the completion of the Acquisition on March 8, 2005, the Company
paid the lender a total of $1,600,000 in origination fees and paid the Lender's
legal fees of approximately $333,000. The Company is amortizing the deferred
loan fees over the two year term of the Obligations. During the three months
ended March 31, 2005, the Company recognized $62,355 of amortization expense and
has unamortized deferred loan fees of $1,870,645 as of March 31, 2005.
Former Secured Promissory Note - In t an effort to obtain financing to
permit thehe Acquisition to occur, the Company entered into a Secured Promissory
Note with Dr. Chaudhuri, effective September 29, 2004. The Company used the
proceeds of $10 million as its good faith deposit in connection with the
Acquisition. The terms of the Secured Note included interest at 7.25% per annum
payable on the first business day of each calendar quarter beginning January 2,
2005. In connection with the Restructuring and Payment Agreements discussed in
Note 5, the $10 million initial deposit and accrued interest was returned to Dr.
Chaudhuri during the three months ended March 31, 2005 and Dr. Chaudhuri
rescinded and cancelled the $10 million secured promissory note with the
Company.
Former Secured Convertible Promissory Note - The Company also entered into
a Secured Convertible Note Purchase Agreement, dated September 29, 2004 and
amended November 16, 2004, with Dr. Chaudhuri. The original face amount of the
Secured Convertible Note was $500,000 and Dr. Chaudhuri was to assist the
Company with the payment of necessary transactional costs incurred in connection
with the Acquisition, including fees necessary to secure financing in connection
with the Acquisition, which transaction costs and fees could not otherwise be
paid by the Company. In connection with the Restructuring Agreement noted above,
the Company entered into the following new promissory notes dated January 31,
2005, which replaced the Secured Convertible Promissory Note dated September 29,
2004 and amended November 16, 2004:
16
INTEGRATED HEALTHCARE HOLDINGS, INC.
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2005
o Secured Promissory Note in the amount of $963,186 payable to Dr.
Chaudhuri
o Unsecured Promissory Note in the amount of $60,031 payable to Dr.
Chaudhuri
o Secured Promissory Note in the amount of $240,797 payable to William
E. Thomas
Concurrent with the completion of the Acquisition, in March 2005, the
Company repaid these three promissory notes plus accrued interest.
Accounts Receivable Purchase Agreement - In March 2005, the subsidiary
hospitals of the Company entered into an Accounts Purchase Agreement [that
allows or requires? the sale of] their accounts receivable to Medical Provider
Financial Corp as they become billable to third parties. The Company will
continue to provide billing and collection services and the proceeds collected
from the accounts receivable are applied to reduce amounts advanced under this
agreement. As of March 31, 2005, there were no advances made under this
agreement. This agreement has a term of two years.
NOTE 7 - SALE OF REAL ESTATE AND VARIABLE INTEREST ENTITY
Concurrent with the close on the acquisition of the Hospitals, Dr.
Chaudhuri and Dr. Shah exercised their option to purchase all of the real
property of the Hospitals pursuant to an Option agreement dated September 28,
2004, as amended and restated on November 16, 2004 ("LLC Option Agreement"). The
option was exercised by the option holders purchasing from the Company all of
the equity interests in PCHI, which holds title to the real property. The
Company received $5 million and PCHI guranteed the Company's acquisition debt of
$50 million.
The Company remains primarily liable under the $50 million acquisition
note notwithstanding its assumption by PCHI, and this note is
cross-collateralized by substantially all of the Company's assets and all of the
real property of the Hospitals. All of the Company's operating activities are
directly affected by the real property that was sold to PCHI. Given these
factors, it appears that the Company has indirectly guaranteed the indebtedness
of PCHI. In substance, the Company is standing ready to perform on the
acquisition debt should PCHI not be able to perform and has undertaken a
contingent obligation to make future payments if those triggering events or
conditions occur.
In connection with the sale of all of the real property of the Hospitals,
the Company entered into a triple net lease with PCHI to leaseback this real
property for an initial term of 25 years. Per the triple net lease, PCHI will
receive rent that covers the cost of the underlying debt, plus a guaranteed
spread up to 2.5%. Additionally, the Company has a right to renew the leases for
periods up to an additional 25 years.
PCHI is a related party entity that is affiliated with the Company through
common ownership and control. It is owned 51% by West Coast Holdings, LLC (Dr.
Shah and investors - see Note 4) and 49% by Ganesha Realty, LLC (Dr. Chaudhuri
and William Thomas - see Note 5). Generally accepted accounting principles
require that a company consolidate the financial statements of any entity that
cannot finance its activities without additional subordinated financial support,
and for which one company provides the majority of that support through means
other than ownership. Effective March 8, 2005, the Company determined that it
provided the majority of financial support to PCHI through various sources
including lease payments, remaining primarily liable under the $50 million debt,
and cross-collateralization of the Company's non-real estate assets to secure
the $50 million debt. Accordingly, during the three months ended March 31, 2005,
the Company included in its consolidated financial statements, the net assets of
PCHI, net of consolidation adjustments.
Selected information of PCHI's balance sheet as of March 31, 2005, and its
results of operations for the period March 8, 2005 to March 31, 2005 are as
follows:
17
INTEGRATED HEALTHCARE HOLDINGS, INC.
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2005
Total assets $ 56,063,376
Total liabilites $ 51,072,281
Member's equity $ 4,991,095
Net revenues $ 617,564
Net loss $ (8,905)
Consolidation adjustments to reflect the effects of the following matters
are included in the accompanying consolidated financial statements:
o The Company's lease interest in the hospitals has been eliminated
leaving PCHI's ownership of the land and buildings being presented
in the accompanying consolidated financial statements. Additionally,
a deferred gain of $12,157,808 arising from the Company's sale of
PCHI has been eliminated to state the land and buildings at the
Company's cost.
o Because the Company remains primarily liable under the $50 million
debt notwithstanding its assumption by PCHI, generally accepted
accounting principles do not allow the Company to remove this
liability from its balance sheet. Therefore, it is necessary to
eliminate the same item from PCHI's balance sheet in consolidation.
o PCHI's equity accounts have been classified as minority interest in
variable interest entity in the accompanying consolidated balance
sheet.
o The Company's rent expense to the extent of debt servicing on the
underlying debt has been eliminated against PCHI's rental income.
Amounts payable by the Company to PCHI as rent expense that are in
excess of debt servicing on the underlying debt are accounted for as
an element of minority interest in variable interest entity expense
in the accompanying consolidated statement of operations.
Additionally, amounts assigned to land and buildings under lease
from PCHI are being depreciated and amortized over the 25 year
initial term of the lease.
NOTE 8 - INCOME TAXES
The Company accounts for income taxes in accordance with Statement of
Financial Accounting Standards No. 109 "Accounting for Income Taxes" which
requires the liability approach for the effect of income taxes. A valuation
allowance has been used to offset the recognition of any deferred tax assets
related to net operating loss carryforwards due to the uncertainty of future
realization.
The Company's provision for income taxes is composed of the following for
the three months ended March 31:
2005 2004
------------ ------------
Current income tax expense:
U.S. Federal and State $ 1,472,000 $ --
Deferred income taxes:
U.S. Federal and State $ -- $ --
------------ ------------
Total $ 1,472,000 $ --
============ ============
18
INTEGRATED HEALTHCARE HOLDINGS, INC.
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2005
The provision for income taxes differs from the federal and state
statutory tax expense as follows for the three months ended March 31, 2005:
Estimated tax benefit at federal and state statutory
rates on an annualized basis $ (2,759,000)
Common stock warrant expense 1,636,000
Gain on sale of assets 1,151,000
Change in valuation allowance 1,435,000
Other 9,000
-----------
$ 1,472,000
===========
Deferred income tax assets and liabilities consist of the tax effects of
temporary differences related to the following at March 31:
2005 2004
------------ ------------
Current deferred tax assets:
Allowance for doubtful accounts $ 5,263,440 $ --
Accured vacation 770,011 --
Other accruals 484,048 --
Net operating losses -- 252,000
------------ ------------
Deferred tax assets 6,517,499 252,000
Valuation allowance (6,517,499) (252,000)
------------ ------------
Net deferred tax assets $ -- $ --
============ ============
A valuation allowance of $6.5 million was recorded in the first quarter of
2005 based on an assessment of the realization of the Company's deferred tax
assets. The Company assesses the realization of its deferred tax assets to
determine whether an income tax valuation allowance is required. Based on all
available evidence, both positive and negative, and the weight of that evidence
to the extent such evidence can be objectively verified, Company management
determines whether it is more likely than not that all or a portion of the
deferred tax assets will be realized. The main factors taken into consideration
include:
o cumulative losses in recent years;
o income/losses expected in future years;
o unsettled circumstances that, if unfavorably resolved, would adversely
affect future operations and profit levels;
o the availability, or lack there, of taxable income in prior carryback
periods that would limit realization of tax benefits;
o the carryforward period associated with the deferred tax assets and
liabilities; and
o prudent and feasible tax-planning strategies.
19
INTEGRATED HEALTHCARE HOLDINGS, INC.
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2005
As of March 31, 2005, Company management concluded that it was more likely
than not that the deferred tax assets were not realizable. Therefore, it was
appropriate to record a 100% valuation allowance after considering and weighing
all evidence in the first quarter of 2005. The Company established the valuation
allowance as a result of assessing the realization of the deferred tax assets
based on the above facts.
Tenet Hospital Acquisition - The Acquisition was an asset purchase
transaction and the Company will not benefit from the net operating losses of
the acquired Hospitals. In connection with the Company's completion of the Tenet
Hospital Acquisition in March 2005, the Company sold all of the real estate of
the acquired hospitals to its majority shareholders. For income tax purposes,
the sale of the real estate of the acquired hospitals could require the Company
to report dividend and/or interest income. If the Company is required to report
dividend and/or interest income in connection with this transaction, the Company
would be required to withhold 28% on any deemed dividend or interest income. The
Company's sale of its 100% membership interest in PCHI to West Coast Holdings
LLC and Ganesha Realty LLC in consideration of $5 million plus the assumption of
the $50 million Acquisition Loan on the real property debt is a taxable event to
the Company.
PCHI Tax Status - PCHI is a limited liability corporation. PCHI's owners
plan to make tax elections for it be treated as a disregarded entity for tax
reporting, whereby similar to a partnership PCHI's taxable income or loss will
flow through to its owners and be their separate responsibility. Accordingly,
the accompanying consolidated financial statements do not include any amounts
for the income tax expense or benefit of PCHI's income or loss.
NOTE 9 - RELATED PARTY TRANSACTIONS
PCHI - The Company leases all of the real property of the acquired Tenet
Hospitals from PCHI. PCHI is owned by two LLC's, which are owned and co-managed
by Dr. Shah, Dr. Chaudhuri, and Mr. William Thomas. Dr. Shah is the chairman of
the Company and is also the co-manager an investor in OC-PIN, which is the
majority shareholder of the Company. Dr. Chaudhuri and Mr. Thomas are the
holders of the Warrants to purchase up to 24.9% of the Company's fully diluted
capital stock. The Company has consolidated the financial statements of PCHI for
the period March 8, 2005 through March 31, 2005 in accordance with FIN 46(R).
See Note 8.
Due to/from Shareholders and Officers -As of the quarter ended March 31,
2003, the Company had advanced $60,000 to the officers and majority shareholders
of the Company. The amounts due to/from shareholders and officers bore no
interest and were subsequently forgiven during the year ended 12/31/04.
Management Compensation - Effective January 1, 2004, the Company entered
into employment agreements with each of its three executive officers. The
employment agreements provide among other terms, each officer a base salary of
$250,000 per year, a bonus of $50,000 per year, and an employment term of five
years. During the year ended December 31, 2004, the Company incurred total
compensation expense of $1,205,640 related to these three employment agreements
and the Company had accrued compensation of $913,388 at December 31, 2004.
During the year ended December 31, 2003, the Company did not pay any
compensation to its officers and directors.
20
INTEGRATED HEALTHCARE HOLDINGS, INC.
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2005
In December 2004, February 2005, and March 2005, the Company entered into
seven employment agreements with its executive officers. Among other terms the
three year employment agreements in aggregate provide for annual salaries
totaling $2,290,000, total stock option grants to purchase 6,650,000 shares of
the Company's common stock at an exercise price equal to the mean average per
share for the ten days following the date of issuance with vesting at 33% per
year, and an annual bonus to be determined by the Board of Directors.
NOTE 10 - LOSS PER SHARE
The following data show the amounts used in computing loss per share for
the periods presented:
Three Months Ended March 31,
----------------------------
2005 2004
----------------------------
Loss from continuing operations available
to common shareholders (numerator) $(19,603,792) $ (492,132)
Weighted average number of common
shares used in loss per share during
the period (denominator) $ 88,493,611 $ 19,582,667
The Company's weighted average common stock equivalents related to the
Warrants (Note 5) were 38,892,161 for the three months ended March 31, 2005.
These common stock equivalents have been excluded from the Company's weighted
average number of common shares outstanding due to their anti-dilutive effect
for the three months ended March 31, 2005.
NOTE 11 - COMMITMENTS AND CONTINGENCIES
Capital Leases - The Hospitals have long-term lease obligations for
certain equipment. For financial reporting purposes, the leases have been
classified as capital leases; accordingly, assets with a net book value of
approximately $3,659,401 are included in property and equipment in the
accompanying consolidated balance sheet. The following is a schedule of future
minimum lease payments under capitalized equipment leases together with the
present value of the net minimum lease payments as of March 31, 2005:
21
INTEGRATED HEALTHCARE HOLDINGS, INC.
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2005
Year ending March 31:
2005 $ 686,292
2006 686,292
2007 686,292
2008 686,292
2009 686,292
Thereafter 2,745,168
-----------
Total minimum lease payments $ 6,176,628
Less amount representing interest 2,517,227
-----------
Present value of net minimum
lease payments 3,659,401
Less current portion 204,141
-----------
Long-term portion $ 3,455,260
===========
Concurrent with the closing of the Acquisition as of March 7, 2005, the
Company entered into a sale leaseback type agreement with a related party
entity, PCHI (the "Related Party Lease"). The Company leases all of the real
estate of the acquired Hospitals properties (the "Hospital Properties") and
medical office buildings and a long term acute care facility (collectively the
"MOB Properties") from PCHI. The term of the Lease for the Hospital Properties
shall be for approximately 25 years, commencing March 8, 2005 and terminates on
February 28, 2030. The Company has the option to extend the term of this triple
net lease for an additional term of twenty-five years. The Related Party Lease
is required to be capitalized in accordance with Statement of Financial
Accounting Standard No. 13 ("SFAS 13"). This related party capital lease has
been eliminated upon consolidation with PCHI.
Operating Leases - In connection with the acquisition of the Hospitals,
the Company also assumed the operating leases for the Chapman facility, which
include buildings, land, and other equipment. The following is a schedule of the
Company's future minimum operating lease payments that have initial or remaining
noncancelable lease terms in excess of one year as of December 31, 2004:
Unrelated Third Related
Year Ended December 31, Parties Party (PCHI) Total
- ----------------------- ------------------------------------------------
2005 $ 2,038,365 $ 10,642,672 12,681,037
2006 2,008,102 13,153,611 15,161,713
2007 1,660,807 13,233,219 14,894,026
2008 1,162,675 13,315,216 14,477,891
2009 844,267 13,315,216 14,159,483
Thereafter 8,569,793 278,706,133 287,275,926
------------------------------------------------
$ 16,284,009 $342,366,067 $358,650,076
================================================
22
INTEGRATED HEALTHCARE HOLDINGS, INC.
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2005
The Company's related party lease transactions related to the Triple Net
Hospital and Medical Office Building Lease are eliminated with PCHI in the
accompanying consolidated financial statements.
The Company and its subsidiaries are involved in various legal proceedings
most of which relate to routine matters incidental to the Company's business.
The Company does not believe that the outcome of these matters are likely to
have a material adverse effect on the Company.
NOTE 12 - SUBSEQUENT EVENTS
Default Notice - On or about May 9, 2005, the Company received a notice of
default from its lender, Medical Provider Financial Corporation II ("Medical
Provider"). Medical Provider is the lender for the secured acquisition note of
$50 million, which was assumed by PCHI and the Company's secured line of credit
note of up to $30 million, each of which was issued pursuant to a Credit
Agreement dated as of March 3, 2005. In addition, each of OC-PIN, PCHI, Ganesha
Realty, LLC, and West Coast Holdings, LLC, which are parties to the Credit
Agreement, has received a notice of default under the Credit Agreement.
The notice of default asserts that (i) the Company failed to provide
satisfactory evidence that the Company has received capital contributions of not
less than $15,000,000, as required under the Credit Agreement, (ii) the Company
failed to prepay $5,000,000 by the Mandatory Prepay Date as required under the
Credit Agreement, and (iii) a Material Adverse Effect has occurred under the
Credit Agreement for reasons relating primarily to OC-PIN's failure to fully
fund its obligations under its Stock Purchase Agreement with the Company dated
January 28, 2005.
Medical Provider has indicated that, as a consequence of the alleged
events of default and for so long as such events are continuing, the interest
rates applicable to the outstanding loans under the Credit Agreement will be
increased to the Default Rate of 19%, the line of credit facility is suspended
as to additional advances (with any additional advances made at its discretion
at the Default Rate of 19%), and all Obligations (as defined in the Credit
Agreement), will be forthwith due and payable. The total principal and interest
due and payable under the loans made under the Credit Agreement currently amount
to approximately $63,937,333 as of the date of the default letter, which does
not include possible additional amounts claimed by Medical Provider for unpaid
interest at the Default Rate, attorneys' fees and costs, costs of collection,
trustee's fees and costs, and other fees, charges and expenses paid or incurred
by Medical Provide.
The Company has recorded the acquisition note of $50 million and
outstanding draws on the line of credit of $13.2 million as current liabilities
in the accompanying consolidated financial statements.
First Amendment to stock Purchase Agreement - As of May 18, 2005, the
Company entered into the First Amendment to Stock Purchase Agreement, which
amends the Stock Purchase Agreement dated January 28, 2005, with OC-PIN.
Concurrent with the execution of this amendment, the Company and OC-PIN entered
into an Escrow Agreement as of May 17, 2005 ("Escrow"). Significant terms of
this Stock Purchase Agreement Amendment include:
23
INTEGRATED HEALTHCARE HOLDINGS, INC.
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2005
o OC-PIN shall submit 57,250,000 shares of the Company's common stock to
Escrow (the "Escrowed Shares"). Following this deposit of shares into
Escrow, the Company will not interfere or challenge in any manner,
OC-PIN's or Hari Lal's ownership of an aggregate of 45,350,000 shares of
the Company's common stock.
o The Company may sell or cancel the Escrowed Shares. OC-PIN will have the
right of first refusal to purchase the Escrowed Shares if the Company
decides to sell the Escrowed Shares within 12 months from the date of the
amendment, May 18, 2005.
o OC-PIN agrees to purchase up to 5.4 million additional shares of the
Company's common stock for payments totaling $15 million plus financing
costs. On or before June 17, 2005, OC-PIN shall make a payment of $5
million, less $190,981, to the Company. On or before July 18, 2005, OC-PIN
shall deliver $5 million to the Company. On or before August 17, 2005, the
OC-PIN shall deliver $5 million to the Company. OC-PIN also agrees to pay
the Company's direct and indirect financing costs incurred as a result of
OC-PIN's failure to timely fund the balance of the Stock Purchase
Agreement dated January 28, 2005.
o During the 45 days subsequent to May 18, 2005, the Company will work in
good faith with Capital Source Finance LLC to refinance the debt with
Medical Providers.
o If within 45 days from May 18, 2005, the Company is able to complete its
refinancing with Capital Source Finance LLC, the Company will reduce the
third payment due from OC-PIN from $5 million to $2.5 million.
o Upon the Company's receipt of $5 million from OC-PIN pursuant to the Stock
Purchase Agreement dated January 28, 2005 and the Company's purchase of
certain real property referred to as the 999 Medical Office Building, the
Company shall transfer such real property to PCHI for no further
compensation.
o The employment agreements for the Company's CEO, CFO, and President shall
be amended to provide for 3 year severance payments, payable in a lump sum
at employees request, if any of them are terminated without cause or if
they resign for good cause. The severance shall be three years
compensation from the date of this amendment and shall be reduced by one
month for each month employed, not to be reduced less than one year.
24
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
This Quarterly Report on Form 10-Q contains forward-looking statements, as
that term is defined in the Private Securities Litigation Reform Act of 1995.
These statements relate to future events or our future financial performance. In
some cases, you can identify forward-looking statements by terminology such as
"may", "will", "should", "expects", "plans", "anticipates", "believes",
"estimates", "predicts", "potential" or "continue" or the negative of these
terms or other comparable terminology. These statements are only predictions and
involve known and unknown risks, uncertainties and other factors, including the
risks discussed under the caption "Risk Factors" in our Annual Report on Form
10-KSB filed on March 31, 2005, that may cause our company's or our industry's
actual results, levels of activity, performance or achievements to be materially
different from those expressed or implied by these forward-looking statements.
Although we believe that the expectations reflected in the forward-looking
statements are reasonable, we cannot guarantee future results, levels of
activity, performance or achievements. Except as may be required by applicable
law, we do not intend to update any of the forward-looking statements to conform
these statements to actual results.
As used in this report, the terms "we", "us", "our", "the Company",
"Integrated Healthcare Holdings" or "IHHI" mean Integrated Healthcare Holdings,
Inc., unless otherwise indicated.
OVERVIEW
Prior to March 8, 2005, we were primarily a development stage company with
no material operations and no revenues from operations. On September 29, 2004,
the Company entered into a definitive agreement to acquire four hospitals from
subsidiaries of Tenet Healthcare Corporation ("Tenet"), and the transaction
closed in March 2005. Effective March 8, 2005, we acquired and began operating
the following four hospital facilities in Orange County, California (referred to
in this report as our "Hospitals"):
o 282-bed Western Medical Center in Santa Ana;
o 188-bed Western Medical Center in Anaheim;
o 178-bed Coastal Communities Hospital in Santa Ana; and
o 114-bed Chapman Medical Center in Orange.
Our results of operations discussed in this report primarily reflect the
last 24 days of the quarter ended March 31, 2005 during which we owned the
Hospitals, and so are not indicative of an entire quarter of operations.
We entered into agreements with third-party payers, including government
programs and managed care health plans, under which rates are based upon
established charges, the cost of providing services, predetermined rates per
diagnosis, fixed per diem rates or discounts from established charges. During
the 24 days ended March 31, 2005, substantially all of Tenet's negotiated rate
agreements were assigned to our Hospitals. Our own Medicare provider numbers
were received in April. California State Medicaid Program provider numbers are
outstanding, but we believe that these will be received shortly.
25
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Common Stock Warrants
As indicated in the notes to the financial statements, the Company entered
into a Rescission, Restructuring and Assignment Agreement with Dr. Chaudhuri and
William Thomas on January 27, 2005 (the "Restructuring Agreement"). Pursuant to
the Restructuring Agreement, the Company released its initial deposit of $10
million plus accrued interest on the Tenet Hospital Acquisition back to Dr.
Chaudhuri and issued non-convertible secured promissory notes totaling
$1,264,014 and warrants to purchase up to 74,700,000 shares of the Company's
Common Stock. The warrants were limited not to exceed 24.9% of the Company's
Fully-Diluted capital stock.
Due to this limitation, the Company recognized an expense of $16.4 million
related to the issuance of the Warrants during the three months ended March 31,
2005. No additional expense was recognized during the three months ended June
30, 2005 due to no change in the fully diluted outstanding common stock during
this period. The Company computed the expense of the Warrants based on the fair
value of the Warrants at the date of grant and the maxium number of shares
exercisable as of June 30, 2005 of 41,298,523 (24.9% of the fully diluted stock
outstanding as of June 30, 2005). The Company recorded the fair value of the
remaining unexercisable Warrants as of June 30, 2005 of $11.6 million as
deferred warrant expense in the accompanying consolidated balance sheet. With
any future increase in the Company's outstanding fully diluted common stock, the
Company will recognize additional warrant expense up to $11.6 million.
The Company computed the fair value of the Warrants based on the Black-Scholes
option pricing model with the following assumptions:
Low High
Risk-free interest rate 3.2%, 3.33%
Expected volatility 33.6%, 35.7%
Dividend yield --
Expected life (years) 2, 2.5
Fair value of Warrants (fully diluted) $0.343, $0.398
Due to fact that the Company emerged from the development stage during the
three months ended March 31, 2005, the Company computed the volatility of its
stock based on an average of the following comparable public companies that own
hospitals:
Amsurg Inc (AMSG)
Community Health Systems (CYH)
Healhcare Company (HCA)
Health Management Associates Inc. (HMA)
Lifepoint (LPNT)
Tenet Healthcare Corp. (THC)
Triad Hospitals Corp. (TRI)
Universal (UHS)
Although management believes this is most reasonable and accurate methodology to
determine the Company's volatility, the circumstances affecting volatility of
the comparable companies selected may not be an accurate predictor of the
Company's volatility.
SALE OF REAL ESTATE AND VARIABLE INTEREST ENTITY
Concurrent with the close of the Company's acquisition of the Hospitals,
Dr. Chaudhuri and Dr. Anil Shah exercised their options to purchase the
Company's interest in a limited liability company holding the real property
underlying the Hospitals pursuant to an option agreement dated September 28,
2004, as amended and restated on November 16, 2004 (the "LLC Option Agreement").
The option holders purchased all of the Company's interests in Pacific Coast
Holdings Investment LLC ("PCHI"), which acquired title to the real property. The
Company received $5 million and PCHI guaranteed the Company's acquisition debt
of $50 million.
26
The Company remains primarily liable under the $50 million acquisition
note notwithstanding its guaranty by PCHI, and this note is cross-collateralized
by substantially all of the Company's assets and all of the real property of the
Hospitals. All of the Company's operating activities are directly affected by
the real property that was sold to PCHI. Given these factors, it appears that
the Company has indirectly guaranteed the indebtedness of PCHI. The Company is
standing ready to perform on the acquisition debt should PCHI not be able to
perform and has undertaken a contingent obligation to make future payments if
those triggering events or conditions occur.
In connection with the sale of all of the real property of the Hospitals,
the Company entered into a triple net lease with PCHI to leaseback this real
property for an initial term of 25 years. Per the triple net lease, PCHI will
receive rent that covers the cost of the underlying debt, plus a guaranteed
spread up to 2.5%. Additionally, the Company has a right to renew the leases for
periods up to an additional 25 years.
PCHI is a related party entity that is affiliated with the Company through
common ownership and control. It is owned 51% by West Coast Holdings, LLC (Dr.
Shah and investors), and 49% by Ganesha Realty, LLC (Dr. Chaudhuri and William
Thomas). Generally accepted accounting principles require that a company
consolidate the financial statements of any entity that cannot finance its
activities without additional subordinated financial support, and for which one
company provides the majority of that support through means other than
ownership. Effective March 8, 2005, the Company determined that it provided the
majority of financial support to PCHI through various sources including lease
payments, remaining primarily liable under the $50 million debt, and
cross-collateralization of the Company's non-real estate assets to secure the
$50 million debt. Accordingly, during the three months ended March 31, 2005, the
Company included in its consolidated financial statements, the net assets of
PCHI, net of consolidation adjustments.
RESULTS OF OPERATIONS
The following table summarizes our results of operations from continuing
operations for the three months ended March 31, 2005 and 2004. For the 2005
period, these results reflect only 24 days of operations from the Hospitals.
27
THREE MONTHS ENDED
--------------------------------
MARCH 31, 2005 MARCH 31, 2004
-------------- --------------
(Unaudited) (Unaudited)
Net operating revenues $ 21,747,029 $ --
Operating expenses:
Salaries and benefits 12,450,604 296,829
Supplies 3,033,815 --
Provision for doubtful accounts 3,141,406 --
Other operating expenses 3,900,220 180,124
Depreciation and amortization 262,212 15,179
Common stock warrant expense 16,434,173 --
------------ ------------
39,222,430 492,132
Operating loss: (17,145,401) (492,132)
Interest expense 665,296 --
------------ ------------
Loss including minority interest and
before provision for income taxes (18,140,697) (492,132)
Provision for income taxes 1,472,000
Minority interest in variable interest entity (8,905) --
-----------------------------
Net loss $(19,603,792) $ (492,132)
============ ============
Per Share Data:
Basic and fully diluted
Loss per common share $ (0.22) $ (0.03)
Weighted average shares outstanding 88,493,611 19,582,667
THREE MONTHS ENDED MARCH 31, 2005 AND 2004
Losses from continuing operations, before interest, taxes and common stock
warrant expense, increased to $1.0 million for the three months ended March 31,
2005 from $492,000 for the three months ended March 31, 2004. Substantially all
of the 2005 loss reflects the operational losses from 24 days of operations from
the newly acquired hospitals.
For the three months ended March 31, 2005, we recognized an expense of
$16.4 million relating to the issuance of common stock Warrants to Chaudhuri and
Thomas. We computed the expense of the Warrants based on their fair value at the
date of grant and the maximum number of shares exercisable as of March 31, 2005
of 39,136,766 (24.9% of fully diluted shares outstanding as of March 31, 2005).
We recorded the fair value of the remaining unexercisable Warrants at March 31,
2005 of $11.6 million as deferred compensation in the accompanying consolidated
balance sheet. We will amortize the deferred compensation in subsequent quarters
over the term of the Warrants of 3.5 years, based on any future increases in the
number of outstanding shares of our fully diluted common stock.
28
We computed the fair value of the Warrants based on the Black-Scholes
option pricing model with the following assumptions:
Risk-free interest rate 3.2% - 3.33%
Expected volatility 33.6% - 35.7%
Dividend yield --
Expected life (years) 2 and 2.5
Fair value of Warrants (fully diluted) $0.343 - $0.398
Income tax provision was $1.5 million for the three months ended March 31,
2005, which was primarily the result of the deferred gain on sale of property
(see financial statement notes), which we believe may be a taxable gain,
offsetting the remaining loss from operations.
PROVISION FOR DOUBTFUL ACCOUNTS
Our policy is to attempt to collect amounts due from patients,including
co-payments and deductibles due from patients with insurance, at the time of
service while complying with all federal and state laws and regulations,
including, but not limited to, the Emergency Medical Treatment and Labor Act
(EMTALA). Generally, as required by EMTALA, patients may not be denied emergency
treatment due to inability to pay. Therefore, until the legally required medical
screening examination is complete and stabilization of the patient has begun,
services are performed prior to the verification of the patient's insurance, if
any. In non-emergency circumstances or for elective procedures and services, it
is our policy, when appropriate, to verify insurance prior to a patient being
treated.
We provide for an allowance against accounts receivable that could become
uncollectible by establishing an allowance to reduce the carrying value of such
receivables to their estimated net realizable value. We estimate this allowance
based on the aging of certain of our accounts receivables by hospital,our
historical collection experience by hospital and for each type of payer, and
other relevant factors. Our practice is to write-down self-pay accounts
receivable, including accounts related to the co-payments and deductible due
from patients with insurance, to their estimate net realizable value at the time
of billing. Generally, uncollected balances are assigned to collection agency
between 90 and 120 days, once patient responsibility has been identified. When
accounts are assigned for collections by the hospitals, the accounts are
completely written off through provision for doubtful accounts. Any recoveries
from collection agencies thereafter are credited to the provision as received.
Because IHHI did not acquire accounts receivable from Tenet, estimates of
recoveries from collection efforts are made based on Tenet's experience applied
to new accounts. Management believes this is reasonable because the systems and
personnel are substantially the same.
The breakdown of our billed hospital receivables (which is a component of
total receivables) at March 31, 2005 is summarized in the table below. Included
in insured receivables are accounts that are pending provider numbers from
Medicaid. These receivables totaled approximately 38.9% of our billable hospital
receivables at March 31, 2005.
MARCH 31, 2005
--------------
Insured receivables 84.4%
Uninsured receivables 15.6%
--------------
Total 100.0%
==============
29
Our allowance for doubtful accounts and the approximate percentages of
allowance for doubtful accounts to accounts receivable at March 31, 2005 are
summarized as follows (dollars in thousands):
MARCH 31, 2005
--------------
Allowance for doubtful accounts $ 3,141
Percentage of accounts receivables 15.6%
Our reported accounts receivable as of March 31, 2005 were all under 30
days outstanding, due to the fact that our acquisition of Hospital assets from
Tenet in March 2005 did not include patient accounts.
LIQUIDITY AND CAPITAL RESOURCES
Cash used by operating activities was $6.2 million in the three months
ended March 31, 2005. Net accounts receivable increased to $17.0 million from 24
days of hospital operation. Prepaid expenses and other assets increased to $1.5
million. Accounts payable increased to $5.0 million and payroll related
accruals, including contract labor, increased to $7.2 million. Income taxes
payable of $1.5 million were accrued.
Cash used in investing activities was $63.2 million in the three months
ended March 31, 2005 to acquire the hospitals from Tenet.
Cash provided by financing activities was $75.7 million in the three
months ended March 31, 2005.
At March 31, 2005, our indebtedness consisted of a $50 million, 2-year
term loan for the purchase of hospitals and a $13.2 million drawn-down from a
$30 million line of credit (also 2-year term), both of which bear interest at
14%. Payments are interest only for the 2-year term. We received $5 million in
net proceeds from PCHI, a related party entity, in connection with the sale of
the real property of The Hospitals. In addition, in March 2005, our subsidiary
hospitals entered into a 2-year Accounts Purchase Agreement to sell Accounts
Receivable to a lending institution as they become billable to third parties. We
will continue to provide billing and collection services and the proceeds
collected thereby are applied to reduce amounts advanced under this agreement.
As of March 31, 2005 there were no advances made to purchase Accounts
Receivable.
RECENT ACCOUNTING PRONOUNCEMENTS
On October 13, 2004, the Financial Accounting Standards Board issued
Statement 123R, Share-Based Payment, which requires all companies to measure
compensation cost for all share-based payments, including employee stock
options, at fair value. The statement is effective for all public companies for
interim or annual periods after June 15, 2005. The statement eliminates the
ability to account for share-based compensation transactions using APB No. 25,
and generally requires that such transactions be accounted for using a
fair-value-based method and recognized as expenses in our consolidated
statements of operations. The standard also requires that the modified
prospective transition method be used, which would necessitate the Company to
recognize compensation cost for the fair value of new awards granted, modified
or settled after the effective date of the SFAS 123R. In addition, the
measurement of compensation cost for awards that are not fully vested as of the
effective date of the SFAS 123R would be based on the same estimate that the
Company used to previously value its grants under SFAS 123.
30
As a result of SFAS 123R, the Company will be required to expense the fair
value of any stock option grants that it may make in the future, rather than
disclose the impact on its consolidated statement of operations within the
Company's footnotes.
In January 2003, the Financial Accounting Standards Board issued FIN 46,
"Consolidation of Variable Interest Entities," which requires consolidation of
certain entities in which equity investors do not have the characteristics of a
controlling financial interest or do not have sufficient equity at risk for the
entity to finance its activities without additional subordinated financial
support from other parties. Paragraph 1 of ARB 51 states that consolidated
financial statements are usually necessary for a fair presentation when one of
the companies in the group directly or indirectly has a controlling financial
interest in the other companies. Paragraph 2 states that "the usual condition
for a controlling financial interest is ownership of a majority voting
interest..." However, application of the majority voting interest requirement in
ARB 51 to certain types of entities may not identify the party with a
controlling financial interest because the controlling financial interest may be
achieved through arrangements that do not involve voting interests. Application
of Interpretation 46 or Interpretation 46(R) is required in financial statements
of public entities that have interests in variable interest entities or
potential variable interest entities commonly referred to as special-purpose
entities for periods ending after December 15, 2003. See Note 7 regarding the
Company's implementation of FIN 46 (R).
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
At March 31, 2005, we did not have any investment in or outstanding
liabilities under market rate sensitive instruments. We do not enter into
hedging or derivative instrument arrangements. We have no off-balance sheet
arrangements.
ITEM 4. CONTROLS AND PROCEDURES.
The Company maintains disclosure controls and procedures that are designed
to ensure that information required to be disclosed in the Company's Exchange
Act reports is recorded, processed, summarized and reported within the time
periods specified in the SEC's rules and forms, and that such information is
accumulated and communicated to the Company's management, including its Chief
Executive Officer and Chief Financial Officer, as appropriate, to allow timely
decisions regarding required disclosure based closely on the definition of
"disclosure controls and procedures" in Rule 15d-15(e). The Company's disclosure
controls and procedures are designed to provide a reasonable level of assurance
of reaching the Company's desired disclosure control objectives. In designing
and evaluating the disclosure controls and procedures, management recognized
that any controls and procedures, no matter how well designed and operated, can
provide only reasonable assurance of achieving the desired control objectives,
and management necessarily was required to apply its judgment in evaluating the
cost-benefit relationship of possible controls and procedures. The Company's
certifying officers have concluded that the Company's disclosure controls and
procedures are effective in reaching that level of assurance.
As of the end of the period of this report, the Company carried out an
evaluation, under the supervision and with the participation of the Company's
management, including the Company's Chief Executive Officer and the Company's
Chief Financial Officer, of the effectiveness of the design and operation of the
Company's disclosure controls and procedures. Based on the foregoing, the
Company's Chief Executive Officer and Chief Financial Officer concluded that the
Company's disclosure controls and procedures were effective.
31
There have been no significant changes in the Company's internal controls
or in other factors that could significantly affect the internal controls
subsequent to the date the Company completed its evaluation.
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company and its subsidiaries are involved in various legal proceedings
most of which relate to routine matters incidental to the Company's business.
The Company does not believe that the outcome of these matters are likely to
have a material adverse effect on the Company.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS.
During the quarter ended March 31, 2005, the Company issued (i) to Kali P.
Chaudhuri, M.D. and William E. Thomas warrants to acquire up to 24.9% of the
common stock of the Company exercisable for a period of 18 months beginning 2
years after issuance of the warrants, a general pre-emptive right to participate
in future sales of equity securities by the Company up to 24.9% and a tag-along
right relating to future issuances of stock to Dr. Shah or OC-PIN; (ii) to
Orange County Physicians Investment Network, LLC 96,100,000 shares of common
stock; and (iii) to Hari S. Lal 6,500,000 shares of common stock.
The aforementioned common stock, warrants and rights were issued without
registration under the Securities Act in reliance upon the exemption from the
registration requirements of the Securities Act of 1933, as amended, set forth
in Section 4(2) of the Securities Act, and Regulation D promulgated thereunder.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES.
On or about May 9, 2005, the Company received a notice of default from
Medical Provider Financial Corporation II ("Medical Provider"). Medical Provider
is the lender to the Company under a $50 million acquisition loan, and a working
capital non-revolving line of credit of up to $30 million, each of which has
been issued pursuant to a Credit Agreement, dated as of March 3, 2005, to which
the Company and Medical Provider are parties (the "Credit Agreement").
In addition, each of Orange County Physicians Investment Network, LLC
("OCPIN"), Pacific Coast Holdings Investment, LLC, Ganesha Realty, LLC, and West
Coast Holdings, LLC, which are parties to the Credit Agreement, has received a
notice of default under the Credit Agreement.
The notice of default asserts that (i) the Company failed to provide
satisfactory evidence that the Company has received capital contributions of not
less than $15,000,000, as required by Section 2.1(s) of the Credit Agreement,
(ii) the Company failed to prepay $5,000,000 by the Mandatory Prepay Date as
required under Section 1.2(b)(ii) of the Credit Agreement, and (iii) a Material
Adverse Effect has occurred under the Credit Agreement for reasons relating
primarily to OCPIN's failure to fully fund its obligations under its Stock
Purchase Agreement with the Company dated January 28, 2005 (as discussed further
below in Item 8.01).
Medical Provider has indicated that, as a consequence of the alleged
events of default and for so long as such events are continuing, the interest
rates applicable to the outstanding loans under the Credit Agreement will be
increased to the Default Rate (as defined in the Credit Agreement), the line of
32
credit facility is suspended as to additional advances (with any additional
advances made at its discretion at the Default Rate), and all Obligations (as
defined in the Credit Agreement), will be forthwith due and payable. The total
principal and interest due and payable under the loans made under the Credit
Agreement currently amount to approximately $63,937,333, which does not include
possible additional amounts claimed by Medical Provider for unpaid interest at
the Default Rate, attorneys' fees and costs, costs of collection, trustee's fees
and costs, and other fees, charges and expenses paid or incurred by Medical
Provider.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
ITEM 5. OTHER INFORMATION.
In January 2005 the Company entered into a Stock Purchase Agreement (the
"SPA") with Orange County Physicians Investment Network, LLC ("OCPIN") pursuant
to which OCPIN agreed to invest $30,000,000 in the Company in exchange for
108,000,000 shares of common stock of the Company. OCPIN has, to date, funded
only $10,100,000 of this obligation under the SPA. The Company has, to date,
issued 102,600,000 shares of common stock to OCPIN or others on its behalf.
The Company has been negotiating with OCPIN to reach an agreement under
which OCPIN's remaining obligations under the SPA will be paid; however, to date
no such agreement has been reached. In the event that no settlement is reached
with OCPIN, the Company anticipates that it will initiate litigation and/or
arbitration against OCPIN to seek recovery of all amounts due to the Company
under the SPA, return of shares, and other remedies. In addition, the Company
may pursue actions available under Nevada and other applicable law, including
but not limited to possible sale at public auction and/or forfeiture of shares
already issued to OCPIN.
ITEM 6. EXHIBITS.
Exhibit
Number Description
- ------ -----------
2.1 First Amendment to Asset Sale Agreement, dated January 28, 2005, by
and among the Registrant and certain subsidiaries of Tenet
Healthcare Corporation (incorporated herein by reference from
Exhibit 99.4 to the Registrant's Current Report on Form 8-K filed
with the Commission on February 2, 2005).
2.2 Second Amendment to Asset Sale Agreement, effective as of January 1,
2005, by and among the Registrant and certain subsidiaries of Tenet
Healthcare Corporation (incorporated herein by reference from
Exhibit 99.1 to the Registrant's Current Report on Form 8-K filed
with the Commission on March 14, 2005).
2.3 Third Amendment to Asset Sale Agreement, effective as of March 8,
2005, by and among the Registrant and certain subsidiaries of Tenet
Healthcare Corporation (incorporated herein by reference from
Exhibit 99.2 to the Registrant's Current Report on Form 8-K filed
with the Commission on March 14, 2005).
2.4 Letter Agreement, dated January 28, 2005, by and between the
Registrant and certain subsidiaries of Tenet Healthcare Corporation
(incorporated herein by reference from Exhibit 99.3 to the
Registrant's Current Report on Form 8-K filed with the Commission on
February 2, 2005).
33
10.1 Rescission, Restructuring and Assignment Agreement, dated January
27, 2005, by and among the Registrant, Kali P. Chaudhuri, M.D.,
William E. Thomas, Anil V. Shah, M.D., and Orange County Physicians
Investment Network, LLC (incorporated herein by reference from
Exhibit 99.1 to the Registrant's Current Report on Form 8-K filed
with the Commission on February 2, 2005).
10.2 Stock Purchase Agreement, dated January 28, 2005, by and between the
Registrant and Orange County Physicians Investment Network, LLC
(incorporated herein by reference from Exhibit 99.2 to the
Registrant's Current Report on Form 8-K filed with the Commission on
February 2, 2005).
10.3 Guaranty Agreement, dated as of March 3, 2005, by Orange County
Physicians Investment Network, LLC in favor of Medical Provider
Financial Corporation II (incorporated herein by reference from
Exhibit 99.3 to the Registrant's Current Report on Form 8-K filed
with the Commission on March 14, 2005).
10.4 Guaranty Agreement, dated as of March 3, 2005, by Pacific Coast
Holdings Investments, LLC in favor of Medical Provider Financial
Corporation II (incorporated herein by reference from Exhibit 99.4
to the Registrant's Current Report on Form 8-K filed with the
Commission on March 14, 2005).
10.5 Subordination Agreement, dated as of March 3, 2005, by and among the
Registrant and its subsidiaries, Pacific Coast Holdings Investments,
LLC, and Medical Provider Financial Corporation II (incorporated
herein by reference from Exhibit 99.5 to the Registrant's Current
Report on Form 8-K filed with the Commission on March 14, 2005).
10.6 Credit Agreement, dated as of March 3, 2005, by and among the
Registrant and its subsidiaries, Pacific Coast Holdings Investments,
LLC and its members, and Medical Provider Financial Corporation II
(incorporated herein by reference from Exhibit 99.6 to the
Registrant's Current Report on Form 8-K filed with the Commission on
March 14, 2005).
10.7 Form of $50 million acquisition note by the Registrant and its
subsidiaries (incorporated herein by reference from Exhibit 99.7 to
the Registrant's Current Report on Form 8-K filed with the
Commission on March 14, 2005).
10.8 Form of $30 million line of credit note by the Registrant and its
subsidiaries (incorporated herein by reference from Exhibit 99.8 to
the Registrant's Current Report on Form 8-K filed with the
Commission on March 14, 2005).
10.9 Triple Net Hospital and Medical Office Building Lease dated March 7,
2005, as amended by Amendment No. 1 To Triple Net Hospital and
Medical Office Building Lease (incorporated herein by reference from
Exhibit 99.9 to the Registrant's Current Report on Form 8-K filed
with the Commission on March 14, 2005).
10.10 Employment Agreement with Bruce Mogel, dated February 25, 2005
(incorporated herein by reference from Exhibit 10.16 to the
Registrant's Annual Report on Form 10-KSB filed with the Commission
on March 31, 2005).
10.11 Employment Agreement with Larry B. Anderson, dated February 25, 2005
(incorporated herein by reference from Exhibit 10.17 to the
Registrant's Annual Report on Form 10-KSB filed with the Commission
on March 31, 2005).
10.12 Employment Agreement with James T. Ligon, dated February 25, 2005
(incorporated herein by reference from Exhibit 10.18 to the
Registrant's Annual Report on Form 10-KSB filed with the Commission
on March 31, 2005).
34
10.13 Employment Agreement with Milan Mehta, dated February 25, 2005
(incorporated herein by reference from Exhibit 10.19 to the
Registrant's Annual Report on Form 10-KSB filed with the Commission
on March 31, 2005).
10.14 Employment Agreement with Hari S. Lal, dated February 25, 2004
(incorporated herein by reference from Exhibit 10.20 to the
Registrant's Annual Report on Form 10-KSB filed with the Commission
on March 31, 2005).
10.15 Employment Agreement with Daniel J. Brothman, dated December 31,
2004 (incorporated herein by reference from Exhibit 10.21 to the
Registrant's Annual Report on Form 10-KSB filed with the Commission
on March 31, 2005).
10.16 Employment Agreement with Steve Blake, dated March 21, 2005
(incorporated herein by reference from Exhibit 10.22 to the
Registrant's Annual Report on Form 10-KSB filed with the Commission
on March 31, 2005).
31.1 Certification of Chief Executive Officer Pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002.
31.2 Certification of Chief Financial Officer Pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002.
32.1 Certification of Chief Executive Officer Pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002.
32.2 Certification of Chief Financial Officer Pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002.
35
SIGNATURE
In accordance with the requirements of the Securities Exchange Act of
1934, the registrant caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
INTEGRATED HEALTHCARE HOLDINGS, INC.
Dated: May 23, 2005 By: /s/ James T. Ligon
----------------------------------------
James T. Ligon
Chief Financial Officer and Secretary
(Principal Financial Officer)
36
EXHIBIT 31.1
CERTIFICATION PURSUANT TO RULE 13A-14 AND 15D-14
UNDER THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED
I, Bruce Mogel, Chief Executive Officer of Integrated Healthcare Holdings,
Inc., certify that:
1. I have reviewed this Quarterly Report on Form 10-Q of Integrated
Healthcare Holdings, Inc.;
2. Based on my knowledge, this report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the Registrant as
of, and for, the periods presented in this report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:
(a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated, or caused such disclosure controls and procedure to be
designed under our supervision, subsidiaries, is made known to us by
others within those entities, particularly during the period in
which this annual report is being prepared;
(b) evaluated the effectiveness of the registrant's disclosure controls
and procedures and presented in this report our conclusions about
the effectiveness of the disclosure controls and procedures, as of
the end of the period covered by this report based on such
evaluation; and
(c) disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the
registrant's most recent fiscal quarter (the registrant's fourth
fiscal quarter in the case of an annual report) that has materially
affected, or is reasonably likely to materially affect, the
registrant's internal control over financial reporting; and;
5. The registrant's other certifying officer and I have disclosed, based
on our most recent evaluation of internal control over financial reporting, to
the registrant's auditors and the audit committee of the registrant's board of
directors (or persons performing the equivalent function):
(a) all significant deficiencies and material weaknesses in the design
or operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to
record, process, summarize and report financial information; and
(b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls over financial reporting.
Dated: May 23, 2005 By: /s/ Bruce Mogel
------------------------------------
Bruce Mogel
Chief Executive Officer
EXHIBIT 31.2
CERTIFICATION PURSUANT TO RULE 13A-14 AND 15D-14
UNDER THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED
I, James Ligon, Chief Financial Officer of Integrated Healthcare Holdings,
Inc., certify that:
1. I have reviewed this Quarterly Report on Form 10-Q of Integrated
Healthcare Holdings, Inc.;
2. Based on my knowledge, this report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the Registrant as
of, and for, the periods presented in this report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:
(a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated, or caused such disclosure controls and procedure to be
designed under our supervision, subsidiaries, is made known to us by
others within those entities, particularly during the period in
which this annual report is being prepared;
(b) evaluated the effectiveness of the registrant's disclosure controls
and procedures and presented in this report our conclusions about
the effectiveness of the disclosure controls and procedures, as of
the end of the period covered by this report based on such
evaluation; and
(c) disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the
registrant's most recent fiscal quarter (the registrant's fourth
fiscal quarter in the case of an annual report) that has materially
affected, or is reasonably likely to materially affect, the
registrant's internal control over financial reporting; and;
5. The registrant's other certifying officer and I have disclosed, based
on our most recent evaluation of internal control over financial reporting, to
the registrant's auditors and the audit committee of the registrant's board of
directors (or persons performing the equivalent function):
(a) all significant deficiencies and material weaknesses in the design
or operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to
record, process, summarize and report financial information; and
(b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls over financial reporting.
Dated: May 23, 2005 By: /s/ James Ligon
------------------------------------
James Ligon
Chief Financial Officer
EXHIBIT 32.1
CERTIFICATE PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Quarterly Report of Integrated Healthcare Holdings,
Inc. (the "Company") on Form 10-Q for the quarter ended September 30, 2004, as
filed with the Securities and Exchange Commission (the "Report"), the
undersigned, in the capacity and on the dates indicated below, hereby certifies
pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002, that:
1. the Report fully complies with the requirements of Section 13(a) or
15(d), as applicable, of the Securities Exchange Act of 1934; and
2. the information contained in the Report fairly presents, in all
material respects, the financial condition and result of operations
of the Company at the dates and for the period indicated.
This Certificate has not been, and shall not be deemed, "filed" with the
Securities and Exchange Commission.
Dated: May 23, 2005 By: /s/ Bruce Mogel
------------------------------------
Bruce Mogel
Chief Executive Officer
EXHIBIT 32.2
CERTIFICATE PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Quarterly Report of Integrated Healthcare Holdings,
Inc. (the "Company") on Form 10-Q for the quarter ended September 30, 2004, as
filed with the Securities and Exchange Commission (the "Report"), the
undersigned, in the capacity and on the dates indicated below, hereby certifies
pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002, that:
1. the Report fully complies with the requirements of Section 13(a) or
15(d), as applicable, of the Securities Exchange Act of 1934; and
2. the information contained in the Report fairly presents, in all
material respects, the financial condition and result of operations
of the Company at the dates and for the period indicated.
This Certificate has not been, and shall not be deemed, "filed" with the
Securities and Exchange Commission.
Dated: May 23, 2005 By: /s/ James Ligon
------------------------------------
James Ligon
Chief Financial Officer
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
--------------------
FORM 10-Q
(Mark One)
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2005
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from __________ to _________
Commission File Number: 0-23511
--------------------
Integrated Healthcare Holdings, Inc.
(Exact name of small business issuer as specified in its charter)
Nevada 87-0412182
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1301 N. Tustin Ave. 92705
Santa Ana, California (Zip Code)
(Address of principal executive offices)
(714) 953-3503
(Registrant's telephone number, including area code)
695 Town Center Drive, Suite 260, Costa Mesa,
California 92626
(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes |X| No |_|
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes |_| No |X|
Integrated Healthcare Holdings, Inc.
Form 10-Q
Table of Contents
- ---------------------------------------------------------------------------------------------------------------------------
Page Number
PART I FINANCIAL INFORMATION
Item 1. Financial Statements:
Unaudited Condensed Consolidated Balance Sheet as of June 30, 2005 and December 31, 2004 2
Unaudited Condensed Consolidated Statement of Operations for the three and six months ended June 3
30, 2005 and June 30, 2004
Unaudited Condensed Consolidated Statement of Stockholders' Equity as of June 30, 2005 and 4
December 31, 2004
Unaudited Condensed Consolidated Statement of Cash Flows for the three and six months ended June 5
30, 2005 and June 30, 2004
Condensed Notes to Unaudited Condensed Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 23
Item 3. Quantitative and Qualitative Disclosures About Market Risk 30
Item 4. Controls and Procedures 30
PART II OTHER INFORMATION
Item 1. Legal Proceedings 31
Item 3. Defaults Upon Senior Securities 31
Item 6. Exhibits 32
SIGNATURES 33
- ---------------------------------------------------------------------------------------------------------------------------
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements.
The accompanying condensed notes are an integral part of these unaudited
condensed consolidated financial statements
INTEGRATED HEALTHCARE HOLDINGS, INC.
Condensed Consolidated Balance Sheet
(Unaudited)
ASSETS
June 30, December 31,
2005 2004
------------------------------
Current assets:
Cash and cash equivalents $ 7,396,828 $ 69,454
Accounts receivable, net of allowance for doubtful
accounts of $14,445,000 at June 30, 2005 40,441,658 --
Inventories of supplies, at cost 5,856,321 --
Prepaid expenses and other assets 6,866,733 63,489
------------------------------
60,561,540 132,943
Property and equipment, net 58,689,233 57,423
Investment in hospital asset purchase -- 11,142,145
Deferred loan fees, net of accumulated amortization of $268,238 1,625,790 --
------------------------------
Total assets $ 120,876,563 $ 11,332,511
==============================
LIABILITIES AND STOCKHOLDERS' DEFICIENCY
Current liabilities
Notes payable $ 84,604,113 $ 11,264,013
Accounts payable 11,631,374 156,142
Accrued compensation and benefits 12,999,220 800,313
Income taxes payable 1,834,000 --
Other current liabilities 6,654,573 --
------------------------------
Total current liabilities 117,723,280 12,220,468
Capital lease obligations, net of current of $204,141 3,384,256 --
Commitments and contingencies -- --
Minority interest in variable interest entity 4,795,578 --
Stockholders' equity (deficiency):
Common stock, $0.001 par value; 250,000,000 shares
authorized; 124,559,000 and 20,780,000 shares
issued and outstanding, respectively 124,559 20,780
Common stock warrants; 74,700,000 outstanding
(41,292,892 exercisable at June 30, 2005) 27,987,100 --
Additional paid in capital 12,040,487 1,189,621
Deferred warrant expense (11,552,927) --
Accumulated deficit (33,625,770) (2,098,358)
------------------------------
Total stockholders' deficiency (5,026,551) (887,957)
------------------------------
Total liabilities and stockholders' deficiency $ 120,876,563 $ 11,332,511
==============================
The accompanying condensed notes are an integral part of these unaudited
condensed consolidated financial statements
2
INTEGRATED HEALTHCARE HOLDINGS, INC.
Condensed Consolidated Statement of Operations
(Unaudited)
Three Months Ended Six Months Ended
------------------------------ ------------------------------
June 30, 2005 June 30, 2004 June 30, 2005 June 30, 2004
------------- ------------- ------------- -------------
(Unaudited) (Unaudited) (Unaudited) (Unaudited)
Net operating revenues $ 83,190,537 $ -- $ 104,937,566 $ --
Operating expenses:
Salaries and benefits 48,439,345 306,317 60,889,949 603,146
Supplies 11,521,967 -- 14,555,782 --
Provision for doubtful accounts 11,331,354 -- 14,472,760 --
Other operating expenses 17,283,135 108,763 21,183,354 288,887
Depreciation and amortization 902,845 15,528 1,165,057 30,707
Common stock warrant expense -- -- 16,434,173 --
------------- ------------- ------------- -------------
89,478,646 430,608 128,701,075 922,740
Operating loss (6,288,109) (430,608) (23,763,509) (922,740)
Interest expense 4,069,029 -- 4,734,325 --
------------- ------------- ------------- -------------
Loss including minority interest and
before provision for income taxes (10,357,138) (430,608) (28,497,834) (922,740)
Provision for income taxes 1,762,000 -- 3,234,000 --
Minority interest in variable interest entity (195,517) -- (204,422) --
------------- ------------- ------------- -------------
Net loss $ (11,923,621) $ (430,608) $ (31,527,412) $ (922,740)
============= ============= ============= =============
Per Share Data:
Basic and fully diluted
Loss per common share ($0.10) ($0.02) ($0.30) ($0.05)
Weighted average shares outstanding 124,539,000 19,590,000 106,518,528 19,510,778
The accompanying condensed notes are an integral part of these unaudited
condensed consolidated financial statements
3
INTEGRATED HEALTHCARE HOLDINGS, INC.
Condensed Consolidated Statement of Shareholders' Deficiency
(Unaudited)
Common Stock Common Stock Warrants Additional Deferred
------------------------- ----------------------- Paid-in Warrant Accumulated
Shares Amount Shares Amount Capital Expense Deficit Total
----------- ------------ ---------- ----------- ----------- ------------ ------------ ------------
Balance, December 31,
2003 19,380,000 $ 19,380 -- $ -- $ 551,021 $ -- $ (217,781) $ 352,620
Issuance of debt for
the acquisition of
MMG, Inc. -- -- -- -- -- -- (40,386) (40,386)
Issuance of common
stock for cash at
$0.25 per share 200,000 200 -- -- 49,800 -- -- 50,000
Issuance of common
stock for cash at
$0.50 per share 1,200,000 1,200 -- -- 588,800 -- -- 590,000
Net loss -- -- -- -- -- -- (1,840,191) (1,840,191)
----------- ------------ ---------- ----------- ----------- ------------ ------------ ------------
Balance, December 31,
2004 20,780,000 $ 20,780 -- $ -- $ 1,189,621 $ -- $ (2,098,358) $ (887,957)
=========== ============ ========== =========== =========== ============ ============ ============
Issuance of common
stock for cash at
$0.50 per share 1,179,000 1,179 -- -- 598,322 -- -- 599,501
Issuance of common
stock for cash to
OCPIN 102,600,000 102,600 -- -- 9,997,400 -- -- 10,100,000
Issuance of common
stock options -- -- -- -- 255,144 -- -- 255,144
Issuance of common
stock warrants -- -- 74,700,000 27,987,100 -- (27,987,100) -- --
Common stock
warrants expensed at
June 30, 2005 -- -- -- -- -- 16,434,173 -- 16,434,173
Net loss -- -- -- -- -- -- (31,527,412) (31,527,412)
----------- ------------ ---------- ----------- ----------- ------------ ------------ ------------
Balance, June 30, 2005 124,559,000 $ 124,559 74,700,000 $27,987,100 $12,040,487 $(11,552,927) $(33,625,770) $ (5,026,551)
=========== ============ ========== =========== =========== ============ ============ ============
The accompanying condensed notes are an integral part of these unaudited
condensed consolidated financial statements
4
INTEGRATED HEALTHCARE HOLDINGS, INC.
Condensed Consolidated Statement of Cash Flows
(Unaudited)
Six Months Ended Six Months Ended
June 30, 2005 Junes 30, 2004
------------ ------------
Cash flows from operating activities:
Net loss $(31,527,412) $ (922,740)
Adjustments to reconcile net loss to cash used in operating activities:
Depreciation and amortization expense 1,194,450 30,707
Common stock warrant and option expense 16,689,317 --
Minority interest in variable interest entity (204,422) --
Increase in prepaid expense and other assets (4,490,087) --
Increase in net accounts receivable (40,441,658) --
Increase (decrease) in accounts payable 11,475,232 (5,601)
Increase in accrued compensation and benefits 12,320,927 438,080
Increase in income taxes payable 1,834,000 --
Increase in other accrued liabilities 6,450,432 --
Decrease in inventories of supplies 162,674 --
------------ ------------
Net cash used in operating activities (26,536,547) (459,554)
------------ ------------
Cash flows from investing activities:
Acquisition of hospital assets, net of lease obligations (63,171,676) --
Purchase of property and equipment -- (19,260)
Acquisition of MMG, Inc., net of cash acquired -- 8,534
------------ ------------
Net cash used in investing activities (63,171,676) (10,726)
Cash flows from financing activities:
Issuance of secured promissory notes, net of costs 48,067,000 --
Proceeds from lines of credit 34,604,113 --
Proceeds from issuance of stock 10,699,501 250,000
Proceeds from sale of property 5,000,000 --
Repayment of secured notes (1,335,017) (100,000)
Advances from shareholders -- 73,285
------------ ------------
Net cash provided by financing activities 97,035,597 223,285
------------ ------------
Net increase (decrease) in cash 7,327,374 (246,995)
------------ ------------
Cash and cash equivalents, beginning of period 69,454 265,000
------------ ------------
Cash and cash equivalents, end of period $ 7,396,828 $ 18,005
============ ============
Supplemmental disclosure of noncash transactions:
Issuance of promissory notes for Acquisition $ 53,000,000 $ 60,000
Consolidation of variable interest entity $ 54,758,312 $ --
Expense of common stock warrants and options $ 16,689,317 $ --
Rescinded secured promissory note for the
return of initial deposit on hospital assets $ 10,000,000 $ --
Interest paid $ 2,511,411 $ --
Income taxes paid $ 1,400,000 $ --
5
INTEGRATED HEALTHCARE HOLDINGS, INC.
Condensed Notes to Unaudited Consolidated Financial Statements
June 30, 2005
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Acquisition - On March 8, 2005, the Company completed its acquisition (the
"Acquisition") of four Orange County, California hospitals and associated real
estate, including: (i) 282-bed Western Medical Center--Santa Ana, CA; (ii)
188-bed Western Medical Center--Anaheim, CA; (iii) 178-bed Coastal Communities
Hospital in Santa Ana, CA; and (iv) 114-bed Chapman Medical Center in Orange, CA
(collectively, the "Hospitals") from Tenet Healthcare Corporation ("Tenet"). The
Hospitals were assigned to four wholly-owned subsidiaries of the Company (the
"Subsidiaries") formed for the purpose of completing the Hospital Acquisition.
The Company also acquired the following real estate, leases and assets
associated with the Hospitals: (i) a fee interest in the Western Medical Center
at 1001 North Tustin Avenue, Santa Ana, CA 92705, a fee interest in the
administration building at 1301 North Tustin Avenue, Santa Ana, CA 92705,
certain rights to acquire condominium suites located in the medical office
building at 999 North Tustin Avenue, Santa Ana, CA, and the business known as
the West Coast Breast Cancer Center; (ii) a fee interest in the Western Medical
Center at 1025 South Anaheim Blvd., Anaheim, CA 92805; (iii) a fee interest in
the Coastal Communities Hospital at 2701 South Bristol Street, Santa Ana, CA
92704, and a fee interest in the medical office building at 1901 North College
Avenue, Santa Ana, CA; (iv) a lease for the Chapman Medical Center at 2601 East
Chapman Avenue, Orange, CA 92869, and a fee interest in the medical office
building at 2617 East Chapman Avenue, Orange, CA; and (v) the furniture,
fixtures and contract rights associated with the Hospitals.
The results of operations of the acquired assets from the acquisition date
(March 8, 2005) have been included in the Company's consolidated statement of
operations for the three and six months ended June 30, 2005.As a result of the
Acquisition, the Company has commenced its planned principal operations and
accordingly is no longer considered a development stage enterprise.
As discussed further in Note 7, concurrent with the close of the
Acquisition, the Company entered into a sale-leaseback transaction with a
Pacific Coast Holdings Investment, LLC ("PCHI"), a then wholly owned subsidiary,
involving all the real property acquired in the Acquisition, except for the fee
interest in the medical office building at 2617 East Chapman Avenue. PCHI was
then immediately sold to certain major equity holders in the Company. In this
transaction the Company received consideration of $5 million in cash plus PCHI's
guarantee of $50 million in debt issued by the Company in the Acquisition.
Because, among other reasons, the Company remains primarily liable under the $50
million debt, this transaction does not qualify for sale-leaseback accounting
and the $50 million in debt has not been removed from the Company's consolidated
balance sheet at June 30, 2005. However, because PCHI now holds title to the
real property, the Company's interest in the real estate was converted to a
lease interest pursuant to the lease entered into between PCHI, as lessor, and
the Company, as lessee as part of the sale-leaseback transaction. Additionally,
as further discussed under Consolidation below, Company management has
determined that generally accepted accounting principles require that the
financial statements of PCHI must be included in the consolidated financial
statements of the Company under generally accepted accounting principles.
Consolidation - The consolidated financial statements include the accounts
of Integrated Healthcare Holdings, Inc. ("the Company") and its wholly owned
subsidiaries, Mogel Management Group, Inc. ("MMG") and its four hospital
subsidiaries located in Orange County, California (collectively, the
"Hospitals"):
Western Medical Center - Anaheim Anaheim, CA 188 beds
Western Medical Center - Santa Ana Santa Ana, CA 282 beds
Coastal Communities Hospital Santa Ana, CA 178 beds
Chapman Medical Center Orange, CA 114 beds
6
INTEGRATED HEALTHCARE HOLDINGS, INC.
Condensed Notes to Unaudited Consolidated Financial Statements
June 30, 2005
Additionally, generally accepted accounting principles require that a
company consolidate the financial statements of any entity that cannot finance
its activities without additional subordinated financial support, and for which
one company provides the majority of that support through means other than
ownership. As discussed further in Note 9, the Company has determined that it
provides to the entity that purchased the Hospitals' real estate, PCHI, the
majority of its financial support through various sources including lease
payments, remaining primarily liable under the $50 million debt, and
cross-collateralization of the Company's non real property assets to secure the
$50 million debt. Accordingly, the accompanying consolidated financial
statements include the accounts of PCHI from the date of the real estate sale,
March 8, 2005.
All significant intercompany accounts and transactions have been
eliminated in combination.
Company Operations - The Company, through the Hospitals, operates in a
single industry segment, the operation of general hospitals and related
healthcare facilities. The accompanying financial statements have been prepared
on a going concern basis, which contemplates the realization of assets and
settlement of obligations in the normal course of business. The Company
generated losses from continuing operations of $11,923,621 and $31,527,412
(inclusive of a warrant issuance expense incurred in connection with the
Hospital acquisitions of $16,434,173) during the three months and six months
ended June 30, 2005, respectively and has negative working capital of
$(57,161,740) at June 30, 2005. In addition, on or around May 9, 2005, the
Company received a notice of default from Medical Provider Financial Corporation
II ("Medical Provider"), which is the lender under the $50 million acquisition
loan and under a working capital line of credit that has an outstanding balance
of $13.2 million as of June 30, 2005. The default has caused the acquisition
loan to be classified as a current liability as of June 30, 2005. These factors,
among others, indicate a need for the Company to take action to resolve its
financing issues and operate its business on a profitable basis.
Management is working to restructure the debt with Medical Provider and
believes that the Company's existing cash flow from operations and the Company's
ability to raise additional capital will be sufficient to meet its continuing
obligations for the foreseeable future. The Company and PCHI have agreed to
permit the Company and PCHI to use the assets of PCHI and the Hospitals as
collateral for the purposes of joint financing of Company's business operation
and PCHI's acquisition of real properties for an initial period of time.
Condensed Consolidated Financial Statements - The accompanying financial
statements have been prepared by the Company without audit. In the opinion of
management, all adjustments (which include only normal recurring adjustments)
necessary to present fairly its consolidated financial position at June 30,
2005, and its consolidated results of operations for the three months and six
months ended June 30, 2005 and 2004, respectively and the statement of changes
in cash flows for the six months ended June 30, 2005 and 2004 have been made.
Certain information and footnote disclosures normally included in
financial statements prepared in accordance with generally accepted accounting
principles in the United States of America have been condensed or omitted. It is
suggested that these condensed financial statements be read in conjunction with
the financial statements and notes thereto included in the Company's December
31, 2004 audited consolidated financial statements. The results of operations
for the periods ended June 30, 2005 and 2004 are not necessarily indicative of
the operating results for the full year.
Organization - Integrated Healthcare Holdings, Inc., ("the Company") was
organized under the laws of the State of Utah on July 31, 1984 under the name of
Aquachlor Marketing. The Company never engaged in business activities and was
suspended for failure to file annual reports and tax returns. In December 1988,
all required reports and tax returns were filed and the Company was reinstated
by the State of Utah. In December 1988, the Company merged with Aquachlor, Inc.,
a Nevada corporation incorporated on December 20, 1988. The Nevada corporation
became the surviving entity and changed its name to Deltavision, Inc. In March
1997, the Company received a Certificate of Revival from the State of Nevada
using the name First Deltavision, Inc. In March 2004, the Company changed its
name to Integrated Healthcare Holdings, Inc.
7
INTEGRATED HEALTHCARE HOLDINGS, INC.
Condensed Notes to Unaudited Consolidated Financial Statements
June 30, 2005
Use of Estimates - The accounting and reporting policies of the Company
conform to accounting principles generally accepted in the United State of
American and prevailing practices for investor-owned entities within the
healthcare industry. The preparation of financial statements in conformity with
accounting principles generally accepted in the United States of American
requires management to make estimates and assumptions that affect the amounts
reported in the financial statements and accompanying notes. Management
regularly evaluates the accounting policies and estimates that are used. In
general, management bases the estimates on historical experience and on
assumptions that it believes to be reasonable given the particular circumstances
in which the Hospitals operate. Although management believes that adjustments
considered necessary for fair presentation have been included, actual results
may vary from those estimates.
Net Patient Service Revenue - Net patient service revenue is recognized in
the period in which services are performed and is recorded based on established
billing rates (gross charges) less estimated discounts for contractual
allowances, principally for patients covered by Medicare, Medicaid, managed care
and other health plans.
Gross charges are retail charges. They are not the same as actual pricing,
and they generally do not reflect what a hospital is ultimately paid and
therefore are not displayed in the condensed consolidated statements of
operations. Hospitals are typically paid amounts that are negotiated with
insurance companies or are set by the government. Gross charges are used to
calculate Medicare outlier payments and to determine certain elements of payment
under managed care contracts (such as stop-loss payments). Because Medicare
requires that a hospital's gross charges be the same for all patients
(regardless of payer category), gross charges are also what hospitals charge all
other patients prior to the application of discounts and allowances.
Percentages of net patient service revenue, by payer type, for the
Hospitals for the six months ended June 30, 2005 were as follows:
Six months ended
June 30, 2005
Medicare 22%
Medicaid 16%
Managed care 42%
Indemnity, self-pay and other 20%
Revenues under the traditional fee-for-service Medicare and Medicaid
programs are based primarily on prospective payment systems. Discounts for
retrospectively cost-based revenues and certain other payments, which are based
on the hospitals' cost reports, are estimated based on relationships of costs to
charges subject to regulatory adjustments. For the six months ended June 30,
2005 retrospective revenues were $3.0 million. Cost report settlements for
retrospectively cost-based revenues under these programs will be subject to
audit and administrative and judicial review, which can take several years until
final settlement of such matters are determined and completely resolved. Because
the laws, regulations, instructions and rule interpretations governing Medicare
and Medicaid reimbursement are complex and change frequently, the estimates
recorded by the Hospitals could change by material amounts.
8
INTEGRATED HEALTHCARE HOLDINGS, INC.
Condensed Notes to Unaudited Consolidated Financial Statements
June 30, 2005
Outlier payments, which were established by Congress as part of the
diagnosis-related groups (DRG) prospective payment system, are additional
payments made to hospitals for treating Medicare patients who are costlier to
treat than the average patient in the same DRG. To qualify as a cost outlier, a
hospital's billed (or gross) charges, adjusted to cost, must exceed the payment
rate for the DRG by a fixed threshold established annually by the Centers for
Medicare and Medicaid Services of the United State Department of Health and
Human Services (CMS). The Medicare fiscal intermediary calculates the cost of a
claim by multiplying the billed charges by the cost-to-charge ratio from the
hospital's most recent filed cost report. If the computed cost exceeds the sum
of the DRG payment plus the fixed threshold, the hospital receives 80% of the
difference as an outlier payment. Medicare has reserved the option of adjusting
outlier payments, through the cost report, to the hospital's actual cost-to
charge ratio. Upon receipt of the current payment cost-to-charge ratios from the
fiscal intermediary, any variance between current payments and the estimated
final outlier settlement will be reported.
Under Sections 1886(d) and 1886(g) of the Social Security Act, CMS must
project aggregate annual outlier payments to all prospective payment system
hospitals to be not less than 5% or more than 6% of total DRG payments (Outlier
Percentage). The Outlier Percentage is determined by dividing total outlier
payments by the sum of DRG and outlier payments. CMS annually adjusts the fixed
threshold to bring expected outlier payments within the mandated limit. A change
to the fixed threshold affects total outlier payments by changing (1) the number
of cases that qualify for outlier payments, and (2) the dollar amount hospitals
receive for those cases that still qualify. The most recent change to the cost
outlier threshold that became effective on October 1, 2004 was a decrease from
$31,000 to $25,800, which CMS projects will result in an Outlier Percentage of
5.1%.
Revenues under managed care plans are based primarily on payment terms
involving predetermined rates per diagnosis, per-diem rates, discounted
fee-for-service rates and/or other similar contractual arrangements. These
revenues are also subject to review and possible audit by the payers. The payers
are billed for patient services on an individual patient basis. An individual
patient's bill is subject to adjustment on a patient-by-patient basis in the
ordinary course of business by the payers following their review and
adjudication of each particular bill. The Hospitals estimate the discounts for
contractual allowances utilizing billing data on an individual patient basis. At
the end of the month, the Hospitals estimate expected reimbursement for patient
of managed care plans based on the applicable contract terms. These estimates
are continuously reviewed for accuracy by taking into consideration known
contract terms as well as payment history. Although the Hospitals do not
separately accumulate and disclose the aggregate amount of adjustments to the
estimated reimbursements for every patient bill, management believes the
estimation and review process allows for timely identification of instances
where such estimates need to be revised. Management does not believe there were
any adjustments to estimates of individual patient bills that were material to
its net patient service revenue.
Management is not aware of any material claims, disputes, or unsettled
matters with any payers that would affect revenues that have not been adequately
provided for in the accompanying combined financial statements.
The Hospitals provide charity care to patients whose income level is below
200% of the Federal Poverty Level with only a co-payment charged to the patient.
The Hospitals' policy is to not pursue collection of amounts determined to
qualify as charity care; and accordingly, the Hospitals do not report the
amounts in net patient service revenue or in the provision for doubtful
accounts. Patients whose income level is between 200% and 300% of the Federal
Poverty Level may also be considered under a catastrophic provision of the
charity care policy. Patients without insurance who do not meet the Federal
Poverty Level guidelines are offered assistance in applying for Medicaid and
other programs they may be eligible for, such as state disability, Victims of
Crime, or county indigent programs. Patient advocates from the Hospitals'
Medical Eligibility Program (MEP) screen patients in the hospital and determine
potential linkage to financial assistance programs. They also expedite the
process of applying for these government programs. The amount of gross charges
foregone under the charity policy, including indigent care accounts, for the
three months and six months ended June 30, 2005 were approximately $3,638,933
and $4,646,811 respectively.
9
INTEGRATED HEALTHCARE HOLDINGS, INC.
Condensed Notes to Unaudited Consolidated Financial Statements
June 30, 2005
Receivables from patients who are potentially eligible for Medicaid are
classified as Medicaid pending, under the MEP, with appropriate contractual
allowances recorded. If the patient does not quality for Medicaid, the
receivables are reclassified to charity care and written off, or they are
reclassified to self-pay and adjusted to their net realizable value through the
provision of doubtful accounts. Reclassifications of Medicaid pending accounts
to self-pay do not typically have a material impact on the results of operations
as the estimated Medicaid contractual allowances initially recorded are not
materially different than the estimated provision for doubtful accounts recorded
when the accounts are reclassified. All accounts classified as pending Medicaid
are fully reserved when they reach 180 days old.
Provision for Doubtful Accounts - The Company provide for accounts
receivable that could become uncollectible by establishing an allowance to
reduce the carrying value of such receivables to their estimated net realizable
value. The Hospitals estimate this allowance based on the aging of their
accounts receivable, historical collections experience for each type of payer
and other relevant factors. There are various factors that can impact the
collection trends, such as changes in the economy, which in turn have an impact
on unemployment rates and the number of uninsured and underinsured patients,
volume of patients through the emergency department, the increased burden of
co-payments to be made by patients with insurance and business practices related
to collection efforts. These factors continuously change and can have an impact
on collection trends and the estimation process.
The Company's policy is to attempt to collect amounts due from patients,
including co-payments and deductibles due from patients with insurance, at the
time of service while complying with all federal and state laws and regulations,
including, but not limited to, the Emergency Medical Treatment and Labor Act
(EMTALA). Generally, as required by EMTALA, patients may not be denied emergency
treatment due to inability to pay. Therefore, until the legally required medical
screening examination is complete and stabilization of the patient has begun,
services are performed prior to the verification of the patient's insurance, if
any. In non-emergency circumstances or for elective procedures and services, it
is the Hospitals' policy, when appropriate, to verify insurance prior to a
patient being treated.
During the three months and six months ended June 30, 2005, the Company
recorded provisions for doubtful accounts of $11,331,354 and $14,472,760
respectively.
Cash and Cash Equivalents - The Company considers all highly liquid debt
investments purchased with a maturity of three months or less to be cash
equivalents.
Property and Equipment - Property and equipment are stated at cost, less
accumulated depreciation and any impairment write-downs related to assets held
and used. Additions and improvements to property and equipment are capitalized
at cost. Expenditures for maintenance and repairs are charged to expense as
incurred. Capital leases are recorded at the beginning of the lease term as
assets and liabilities. The value recorded is the lower of either the present
value of the minimum lease payments or the fair value of the asset. Such assets,
including improvements, are amortized over the shorter of either the lease term
or their estimated useful life.
10
INTEGRATED HEALTHCARE HOLDINGS, INC.
Condensed Notes to Unaudited Consolidated Financial Statements
June 30, 2005
The Company uses the straight-line method of depreciation for buildings,
building improvements, and equipment over their estimated useful lives as
follows:
Buildings and improvements 4 to 25 years
Equipment 3 to 15 years
The Company evaluates its long-lived assets for possible impairment
whenever circumstances indicate that the carrying amount of the asset, or
related group of assets, may not be recoverable from estimated future cash
flows. However, there is an evaluation performed at least annually. Fair value
estimates are derived from independent appraisals, established market values of
comparable assets or internal calculations of estimated future net cash flows.
The estimates of future net cash flows are based on assumptions and projections
believed by management to be reasonable and supportable. These assumptions take
into account patient volumes, changes in payer mix, revenue, and expense growth
rates and changes in legislation and other payer payment patterns. The Company
believes there has been no impairment in the carrying value of its property and
equipment at June 30, 2005.
Medical Claims Incurred but not Reported - The Company is contracted with
CalOptima, which is a county sponsored entity that operates similar to a HMO, to
provide health care services to indigent patients at a fixed amount per enrolled
member per month. The Company receives payments from CalOptima based on a fixed
fee and the number of enrolled members to the Company's specific hospitals. The
Company recognizes these capitation fees as revenues on a monthly basis for
providing comprehensive health care services for the period. The Company does
not have contractual obligations with HMO's.
In certain circumstances, members will receive health care services from
hospitals not owned by the Company. In these cases, the Company records
estimates of patient member claims incurred but not reported (IBNR) for services
provided by other health care institutions. The claims incurred but not reported
are estimated using historical claims patterns, current enrollment trends,
hospital pre-authorizations, member utilization patterns, timeliness of claims
submissions, and other factors. There can be no assurance that the ultimate
liability will not exceed our estimates. Adjustments to the estimated IBNR
reserves are recorded in our results of operations in the periods when such
amounts are determined.
Per guidance under SFAS NO. 5, the Company accures for IBNR reserves when
it is probable that expected future health care costs and maintenance costs
under an existing contract have been incurred and the amount can be reasonably
estimable. The Company records these IBNR claim reserves against its net
operating revenues. During the six months ended June 30, 2005, the Company
recorded net revenues from CalOptima of approximately $1.5 million, net of IBNR
reserves of $2.1 million. The Company's direct cost of providing services to
patient members in IHHI facilities is recorded as an operating expense.
Stock-Based Compensation - Statement of Financial Accounting Standards No.
123, Accounting for Stock Based Compensation, encourages, but does not require,
companies to record compensation cost for stock-based employee compensation
plans at fair value. The Company has chosen to account for stock-based
compensation using the intrinsic value method prescribed in previously issued
standards. Accordingly, compensation cost for stock options issued to employees
is measured as the excess, if any, of the fair market value of the Company's
stock at the date of grant over the amount an employee must pay to acquire the
stock. Compensation is charged to expense over the shorter of the service or
vesting period. Stock options issued to non-employees are recorded at the fair
value of the services received or the fair value of the options issued,
whichever is more reliably measurable, and charged to expense over the service
period. During the three and six months ended June 30, 2005, the Company
recognized $255,144 of other operating expense from the granting of 500,000
stock options to its public relations consultant. Fair Value of Financial
Instruments - The Company considers all liquid interest-earning investments with
a maturity of three months or less at the date of purchase to be cash
equivalents. Short-term investments generally mature between three months and
six months from the purchase date. All cash and short-term investments are
classified as available for sale and are recorded at market using the specific
identification method; unrealized gains and losses are reflected in other
comprehensive income. Cost approximates market for all classifications of cash
and short-term investments.
Net Loss per Common Share - Net loss per share is calculated in accordance
with Statement of Financial Accounting Standards No. 128, Earnings Per Share.
Basic net loss per share is based upon the weighted average number of common
shares outstanding. Diluted net loss per share is based on the assumption that
options and warrants are included in the calculation of diluted earnings per
share, except when their effect would be anti-dilutive. Dilution is computed by
applying the treasury stock method. Under this method, options and warrants are
assumed to be exercised at the beginning of the period (or at the time of
issuance, if later), and as if funds obtained thereby were used to purchase
common stock at the average market price during the period.
11
INTEGRATED HEALTHCARE HOLDINGS, INC.
Condensed Notes to Unaudited Consolidated Financial Statements
June 30, 2005
Impairment of Long-Lived Assets - The Company continually monitors events
or changes in circumstances that could indicate that the carrying amount of
long-lived assets to be held and used, including intangible assets, may not be
recoverable. The determination of recoverability is based on an estimate of
undiscounted future cash flows resulting from the use of the asset and its
eventual disposition. When impairment is indicated for a long-lived asset, the
amount of impairment loss is the excess of net book value over fair value.
Long-lived assets to be disposed of are reported at the lower of carrying amount
or fair value less costs to sell. As of June 30, 2005, the Company has
determined that no impairment of its long-lived assets exists.
Goodwill and Intangible Assets - On July 20, 2001, the Financial
Accounting Standards Board (FASB) issued Statement of Financial Accounting
Standards ("SFAS") 141, Business Combinations, and SFAS 142, Goodwill and
Intangible Assets. Under these new standards, all acquisitions subsequent to
June 30, 2001 must be accounted for using the purchase method of accounting. The
cost of intangible assets with indefinite lives and goodwill are no longer
amortized, but are subject to an annual impairment test based upon its fair
value.
Goodwill and intangible assets principally result from business
acquisitions. The Company accounts for business acquisitions by assigning the
purchase price to tangible and intangible assets and liabilities. Assets
acquired and liabilities assumed are recorded at their fair values; the excess
of the purchase price over the net assets acquired is recorded as goodwill. As
of June 30, 2005 no goodwill had been recorded on acquisitions.
Recently Enacted Accounting Standards - On October 13, 2004, the Financial
Accounting Standards Board issued Statement 123R, Share-Based Payment, which
requires all companies to measure compensation cost for all share-based
payments, including employee stock options, at fair value. The statement is
effective for the Company as of the fiscal year commencing January 1, 2006. The
statement generally requires that such transactions be accounted for using a
fair-value-based method and recognized as expenses in the consolidated
statements of operations. This standard also requires that the modified
prospective transition method be used, under which the Company will recognize
compensation cost for (1) the fair value of new awards granted, modified or
settled after the effective date of the SFAS 123R; and (2) a portion of the fair
value of each option and stock grant made to employees or directors prior to the
implementation date that represents the unvested portion of these share-based
awards as of such date. The measurement of compensation cost for awards that are
not fully vested as of the effective date of the SFAS 123R would be based on the
same estimate that the Company used to previously value its grants under SFAS
123.
As a result of SFAS 123R, the Company will be required to expense the fair
value of its stock option grants rather than disclose the impact on its
consolidated statement of operations within the Company's footnotes, as is
current practice. Additionally, if it chooses to do so, SFAS 123(R) permits the
Company to adopt the new share-based award accounting by retrospectively
restating results for all periods presented to facilitate period-to-period
comparison.
In January 2003, the Financial Accounting Standards Board issued FIN 46,
"Consolidation of Variable Interest Entities," which requires consolidation of
certain entities in which equity investors do not have the characteristics of a
controlling financial interest or do not have sufficient equity at risk for the
entity to finance its activities without additional subordinated financial
support from other parties. Paragraph 1 of ARB 51 states that consolidated
financial statements are usually necessary for a fair presentation when one of
the companies in the group directly or indirectly has a controlling financial
interest in the other companies. Paragraph 2 states that "the usual condition
for a controlling financial interest is ownership of a majority voting
interest..." However, application of the majority voting interest requirement in
ARB 51 to certain types of entities may not identify the party with a
controlling financial interest because the controlling financial interest may be
achieved through arrangements that do not involve voting interests. Application
of Interpretation 46 or Interpretation 46(R) is required in financial statements
of public entities that have interests in variable interest entities or
potential variable interest entities commonly referred to as special-purpose
entities for periods ending after December 15, 2003. See Note 7 regarding the
Company's implementation of FIN 46 (R).
12
INTEGRATED HEALTHCARE HOLDINGS, INC.
Condensed Notes to Unaudited Consolidated Financial Statements
June 30, 2005
NOTE 2 - ACQUISITION
The purchase price, after all purchase price adjustments, of the
Acquisition amounted to $66,164,700. The fair value of the tangible assets
acquired and liabilities assumed consisted of the following:
Property and equipment $ 59,493,353
Inventories of supplies 6,018,995
Prepaid expenses and other current assets 2,460,874
Deferred loan fees 1,933,000
Capital lease obligations (3,659,401)
Other assumed liabilities (82,121)
------------
$ 66,164,700
============
The Company financed the asset purchase and related financing costs (Note
6) by obtaining a $50 million acquisition debt, drawing $3 million on a working
capital line of credit, the sale of the Company's common stock for $10.1
Million, and $5 million in proceeds from the sale of the real property of the
acquired Hospitals.
The Company recorded its initial deposit of $10 million on the Acquisition
and direct acquisition costs of $1,142,145, consisting primarily of legal fees,
as an Investment in hospital asset purchase in the accompanying consolidated
balance sheet as of December 31, 2004.
The following unaudited pro forma information represents the Company's
consolidated results of operations as if the Acquisition had occurred on January
1, 2004 and after giving effect to certain adjustments including the elimination
of investment losses not attributable to on-going operations, interest expense,
depreciation expense, stock warrant expense, and related tax effects. Such pro
forma information does not purport to be indicative of operating results that
would have been reported had the Acquisition occurred on January 1, 2004 or
future operating results.
Pro Forma (Unaudited)
--------------------------------------------------------------------------
Three Months Ended Six Months Ended
--------------------------------------------------------------------------
June 30, 2005 June 30, 2004 June 30, 2005 June 30, 2004
--------------------------------------------------------------------------
Net operating revenues $ 83,190,537 $ 78,581,594 $ 160,203,857 $ 165,327,579
Net loss $ (11,923,621) $ (9,136,708) $ (42,456,022) $ (32,073,099)
Loss per common share
(basic and fully diluted) $ (0.10) $ (0.08) $ (0.34) $ (0.26)
Weighted average shares outstanding 124,539,000 122,190,000 124,308,528 122,110,778
============== ============== ============== ==============
13
INTEGRATED HEALTHCARE HOLDINGS, INC.
Condensed Notes to Unaudited Consolidated Financial Statements
June 30, 2005
NOTE 3 - PROPERTY AND EQUIPMENT
Property and equipment consist of the following as of June 30, 2005:
Buildings and improvements $ 32,844,916
Land 15,264,266
Equipment 7,915,164
Leasehold 3,659,401
--------------
59,683,747
Less accumulated depreciation (994,514)
--------------
Property and equipment, net $ 58,689,233
==============
The Hospitals are affected by State of California Senate Bill 1953 (SB
1953), which requires certain seismic safety building standards for acute care
hospital facilities. The Hospitals are currently reviewing the SB 1953
compliance requirements and developing multiple plans of action to achieve such
compliance, the estimated time frame for complying with such requirements, and
the cost of performing necessary remediation of certain of the properties. The
Hospitals cannot currently estimate with reasonable accuracy the remediation
costs that will need to be incurred in order to make the facilities SB
1953-compliant, but such remediation costs could be significant.
NOTE 4 - COMMON STOCK
Stock Purchase Agreement with OC-PIN - On January 28, 2005, the Company
entered into a Stock Purchase Agreement (the "Stock Purchase Agreement") with
Orange County Physicians Investment Network, LLC ("OC-PIN"), a company founded
by Dr. Anil V. Shah and owned by a number of physicians practicing at the
acquired hospitals, pursuant to which OC-PIN committed to invest $30,000,000 in
the Company for an aggregate of 108,000,000 shares of the Company's common
stock. In addition, a prior Purchase Option Agreement, dated November 16, 2004,
between the Company and Dr. Anil V. Shah, was terminated. During the six months
ended June 30, 2005, the Company issued a total of 102,600,000 shares of its
common stock in consideration of $10.1 million from OC-PIN under the Stock
Purchase Agreement. The Company used the proceeds from this stock sale as part
of the consideration paid to Tenet for the acquisition of the Hospitals.
14
INTEGRATED HEALTHCARE HOLDINGS, INC.
Condensed Notes to Unaudited Consolidated Financial Statements
June 30, 2005
Under the Stock Purchase Agreement, no later than six calendar days before
the closing of Acquisition, OC-PIN was to deliver to the Company additional
financing totaling $20,000,000. Upon receipt of the $20,000,000, the Company was
to issue an additional 5.4 million shares of its common stock to OC-PIN. The
Company extended OC-PIN's additional financing commitment to June 16, 2005, when
the Company entered into the following new agreements:
Under the Stock Purchase Agreement, no later than six calendar days before
the closing of Acquisition, OC-PIN was to deliver to the Company additional
financing totaling $20,000,000. Upon receipt of the $20,000,000, the Company was
to issue an additional 5.4 million shares of its common stock to OC-PIN. The
Company extended OC-PIN's additional financing commitment to June 16, 2005, when
the Company entered into the following new agreements:
o First Amendment to the Stock Purchase Agreement, dated as of June 1,
2005 (the "First Amendment"); and
o Escrow Agreement, dated as of June 1, 2005, by and among IHHI,
OC-PIN and City National Bank (the "Escrow Amendment").
The following material terms, which were contained in the First Amendment and
the Escrow Agreement, are currently in process:
o A total of 57,250,000 shares of Company common stock previously
issued to OC-PIN were placed in an escrow account with City National
Bank. OC-PIN will have until September 1, 2005 to make aggregate
payments of up to approximately $15,000,000 in monthly installments
into the escrow account. Such portion of the escrowed shares which
are fully paid will be returned to OC-PIN and the balance will be
transferred back to the Company. If there is a shortfall, the
Company will use its reasonable best efforts to sell equity to new
investors to cover the shortfall;
o OC-PIN will reimburse the Company for certain of its additional debt
financing costs incurred since March 8, 2005;
o The Company will work to complete a new borrowing transaction with
Capital Source Finance LLC; and
o Upon receipt of at least $5,000,000 of new capital under the First
Amendment, the Company will call a shareholders meeting to re-elect
directors. The nominees for the Board will consist of two current
directors, two members of OC-PIN, two independent directors
unaffiliated with IHHI or OC-PIN, and Anil V. Shah, M.D.
NOTE 5 - COMMON STOCK WARRANTS
The Company entered into a Rescission, Restructuring and Assignment
Agreement with Dr. Chaudhuri and William Thomas on January 27, 2005 (the
"Restructuring Agreement"). Previously, the Company had obtained financing from
Dr. Chaudhuri and Mr. Thomas and had issued to them a $500,000 secured
convertible promissory note that was convertible into approximately 88.8% of the
Company's issued and outstanding common stock on a fully-diluted basis, a $10
million secured promissory note, and a Real Estate Purchase Option agreement
originally dated September 28, 2004 to purchase 100% of substantially all of the
real property in the Acquisition for $5 million (the "Real Estate Option"), all
of which together with related accrued interest payable pursuant to the terms of
the notes were rescinded and cancelled. Pursuant to the Restructuring Agreement,
the Company released its initial deposit of $10 million plus accrued interest on
the Tenet Hospital Acquisition back to Dr. Chaudhuri and issued non-convertible
secured promissory notes totaling $1,264,014 and warrants to purchase up to
74,700,000 shares of the Company's Common Stock (but not to exceed 24.9% of the
Company's Fully-Diluted capital stock) (the "Warrants") to Dr. Chaudhuri and Mr.
Thomas. In addition, the Company amended the Real Estate Option to provide that
Dr. Chaudhuri's option shall be to purchase 49% of substantially all of the real
property in the Acquisition for $2,450,000. Concurrent with the close of the
Acquisition, IHHI repaid the non-convertible secured promissory notes of
$1,264,014 to Dr. Chaudhuri and Mr. Thomas.
15
INTEGRATED HEALTHCARE HOLDINGS, INC.
Condensed Notes to Unaudited Consolidated Financial Statements
June 30, 2005
The Warrants are exercisable beginning January 27, 2007 and expire in 3.5
years from the date of the issuance. The exercise price for the first 43 million
shares purchased under the Warrants is $0.003125 per share, and the exercise or
purchase price for the remaining 31.7 million shares is $0.078 per share if
exercised between January 27, 2007 and July 26, 2007, $0.11 per share if
exercised between July 27, 2007 and January 26, 2008, and $0.15 thereafter.
Based upon a valuation obtained by the Company from an independent
valuation firm, the Company has assigned a value to the 74,700,000 warrants of
$27,987,100 at the date of grant. As of June 30, 2005, the Company has
recognized an expense of $16,434,173 related to the issuance of the common stock
warrants. The Company computed the expense of the warrants based on the fair
value of the warrants at the date of grant and the maximum number of shares
exercisable as of June 30, 2005 of 41,298,523 (which constitutes 24.9% of the
fully diluted stock that would have been outstanding as of June 30, 2005
assuming maximum possible exercise of the Warrants). The Company has recorded
the fair value of the remaining unexercisable Warrants as of June 30, 2005 of
$11,552,927 as deferred warrant expense in the accompanying consolidated balance
sheet as of June 30, 2005. The Company will recognize additional warrant expense
in subsequent quarters over the term of the Warrants of 3.5 years, based on any
future increase in the number of warrants that become exercisable.
The fair value of the Warrants was determined based on the Black-Scholes
option pricing model with the following assumptions:
Low, High
---------
Risk-free interest rate 3.2%, 3.33%
Expected volatility 33.6%, 35.7%
Dividend yield -
Expected life (years) 2, 2.5
Fair value of Warrants (fully diluted) $0.343, $0.398
Due to the Company emerging from the development stage during the six
months ended June 30, 2005, the Company computed the volatility of its stock
based on an average of comparable public companies that own hospitals.
NOTE 6 - DEBT
The current portion of the Company's debt consists of the following notes as of
June 30, 2005:
Secured acquisition note payable $50,000,000
Secured line of credit note payable 13,200,000
Advances from accounts receivable
purchase agreement 21,404,113
-----------
$84,604,113
===========
Acquisition Loan and Line of Credit - In connection with the Tenet
Hospital Acquisition, the Company obtained borrowings to complete the Hospital
Acquisition from affiliates of Medical Capital Corporation of Anaheim, CA.
Effective March 3, 2005, the Company and its Subsidiaries collectively entered
into a Credit Agreement (the "Credit Agreement") with Medical Provider Financial
Corporation II ("the Lender"), whereby the Company has obtained initial
financing in the form of a loan with interest at the rate of 14% per annum in
the amount of $80,000,000 of which $30,000,000 will be in the form of a
non-revolving Line of Credit (the "Line of Credit") and $50,000,000 will be in
the form of a real estate loan (the "Acquisition Loan") (collectively, the
"Obligations"). The Company used the proceeds from the $50 million Acquisition
Loan and $3 million from the Line of Credit to complete the Acquisition (See
Notes 1 and 3). The Line of Credit is to be used for the purpose of providing
(a) working capital financing for the Company and its Subsidiaries, (b) funds
for other general corporate purposes of the Company and its Subsidiaries, and
(c) other permitted purposes.
16
INTEGRATED HEALTHCARE HOLDINGS, INC.
Condensed Notes to Unaudited Consolidated Financial Statements
June 30, 2005
Interest payments are due on the Obligations on the first business day of
each calendar month to occur while any Obligation is outstanding at the interest
rate of 14% per annum. The Obligations mature at the first to occur of (i) the
Commitment Termination Date for the Line of Credit Loan, (ii) March 2, 2007, or
(iii) the occurrence or existence of a continuing Event of Default under any of
the Obligations. The Commitment Termination Date means the earliest of (a)
thirty calendar days prior to March 2, 2007; (b) the date of termination of
Lender's obligations to make Advances under the Line of Credit Note or permit
existing Obligations to remain outstanding pursuant to Section 8.2(b), (c) the
date of prepayment in full by the Company and its Subsidiaries of the
Obligations and the permanent reduction of all Commitments to zero dollars; (d)
March 2, 2007. Per the Credit Agreement, all future capital contributions to the
Company by OC-PIN shall be used by the Company as mandatory prepayments of the
Line of Credit.
The Acquisition Loan and Line of Credit are secured by a lien on
substantially all of the assets of the Company and its Subsidiaries, including
without limitation, a pledge of the capital stock by the Company in its wholly
owned subsidiary Hospitals. In addition, (i) PCHI (see Note 1) has agreed to
guaranty the payment and performance of the Obligations, (ii) West Coast and
Ganesha (see Note 7) have each agreed to pledge their membership interests in
PCHI as security for repayment of the Obligations, (iii) the members of West
Coast have agreed to pledge their membership interests in PCHI as security for
repayment of the Obligations, and (iv) OC-PIN (see Note 5) has agreed to
guaranty the payment and performance of all the Obligations.
Credit Agreement Fees - Concurrently with the execution and delivery of
the Credit Agreement and as a condition to the funding of the Acquisition Loan,
Company and its Subsidiaries agreed to pay to the Lender an origination fee in
an amount equal to 2% of the Credit Line Commitment or $600,000, and 2% of the
Acquisition Loan or $1,000,000, to be payable out of Company and its
Subsidiaries own funds, which fee shall be deemed earned in full upon receipt by
Lender. Upon the completion of the Acquisition on March 8, 2005, the Company
paid the Lender a total of $1,600,000 in origination fees and paid the Lender's
legal fees of approximately $333,000. The Company is amortizing the deferred
loan fees of $1,933,000 over the two year term of the Obligations. During the
six months ended June 30, 2005, the Company recognized $307,210 of amortization
expense and has unamortized deferred loan fees of $1,625,790 as of June 30,
2005.
Accounts Receivable Purchase Agreement - In March 2005, the Hospitals
entered into an Accounts Purchase Agreement that allows the sale of their
accounts receivable to Medical Provider Financial Corp., an affiliate of the
Lender, as they become billable to third parties. The Company will continue to
provide billing and collection services and the proceeds collected from the
accounts receivable are applied to reduce amounts advanced under this agreement.
As of June 30, 2005, advances made under this agreement were $21,404,113. This
agreement has a term of two years.
17
INTEGRATED HEALTHCARE HOLDINGS, INC.
Condensed Notes to Unaudited Consolidated Financial Statements
June 30, 2005
Default Notice - On or about May 9, 2005, the Company received a notice of
default from the Lender. In addition, each of OC-PIN, PCHI, Ganesha Realty, LLC,
and West Coast Holdings, LLC, which are parties to the Credit Agreement, has
received a notice of default under the Credit Agreement. The Company has
recorded the acquisition note of $50 million and outstanding draws on the line
of credit of $13.2 million as current liabilities in the accompanying
consolidated financial statements.
The notice of default asserts that (i) the Company failed to provide
satisfactory evidence that the Company has received capital contributions of not
less than $15,000,000, as required under the Credit Agreement, (ii) the Company
failed to prepay $5,000,000 by the Mandatory Prepay Date as required under the
Credit Agreement, and (iii) a Material Adverse Effect has occurred under the
Credit Agreement for reasons relating primarily to OC-PIN's failure to fully
fund its obligations under its Stock Purchase Agreement with the Company dated
January 28, 2005.
Forbearance Agreement - In connection with the Company's First Amendment
(see Note 4), the Company entered into an Agreement to Forbear as of June 1,
2005 by and among the Company, OC-PIN, West Coast Holdings, LLC and the Lender
(the "Forbearance Agreement"). Without another default, the Lender agrees for
100 days to forbear from (i) recording Notices of Default, (ii) filing a
judicial foreclosure lawsuit against the Company, OC-PIN and West Coast
Holdings, LLC, and (iii) filing lawsuits against the Company, OC-PIN and West
Coast Holdings, LLC. The interest rate on the notes will be increased to the
Default Rate of 19%, as defined in the Credit Agreement, and all Obligations (as
defined in the Credit Agreement), will be forthwith due and payable, as long as
the events of default remain uncured. The Company's Line of Credit facility is
suspended to additional advances. During the forbearance period of 100 days,
OC-PIN and other investors will invest not less than $15 million in new equity
capital in the Company.
NOTE 7 - SALE OF REAL ESTATE AND VARIABLE INTEREST ENTITY
Concurrent with the close on the acquisition of the Hospitals, Dr.
Chaudhuri and Dr. Shah exercised their option to purchase all of the real
property of the Hospitals pursuant to an Option agreement dated September 28,
2004, as amended and restated on November 16, 2004 ("LLC Option Agreement"). The
option was exercised by the option holders purchasing from the Company all of
the equity interests in PCHI, which holds title to the real property. The
Company received $5 million and PCHI guaranteed the Company's acquisition debt
of $50 million.
The Company remains primarily liable under the $50 million acquisition
note notwithstanding its guarantee by PCHI, and this note is
cross-collateralized by substantially all of the Company's assets and all of the
real property of the Hospitals. All of the Company's operating activities are
directly affected by the real property that was sold to PCHI. Given these
factors, it appears that the Company has indirectly guaranteed the indebtedness
of PCHI. The Company is standing ready to perform on the acquisition debt should
PCHI not be able to perform and has undertaken a contingent obligation to make
future payments if those triggering events or conditions occur.
In connection with the sale of all of the real property of the Hospitals,
the Company entered into a triple net lease with PCHI to leaseback this real
property for an initial term of 25 years. Per the triple net lease, PCHI will
receive rent that covers the cost of the underlying debt, plus a guaranteed
spread up to 2.5%. Additionally, the Company has a right to renew the leases for
periods up to an additional 25 years.
PCHI is a related party entity that is affiliated with the Company through
common ownership and control. It is owned 51% by West Coast Holdings, LLC (Dr.
Shah and investors) and 49% by Ganesha Realty, LLC (Dr. Chaudhuri and William
Thomas). Generally accepted accounting principles require that a company
consolidate the financial statements of any entity that cannot finance its
activities without additional subordinated financial support, and for which one
company provides the majority of that support through means other than
ownership. Effective March 8, 2005, the Company determined that it provided the
majority of financial support to PCHI through various sources including lease
payments, remaining primarily liable under the $50 million debt, and
cross-collateralization of the Company's non-real estate assets to secure the
$50 million debt. Accordingly, during the six months ended June 30, 2005, the
Company included in its consolidated financial statements, the net assets of
PCHI, net of consolidation adjustments.
18
INTEGRATED HEALTHCARE HOLDINGS, INC.
Condensed Notes to Unaudited Consolidated Financial Statements
June 30, 2005
Selected information of PCHI's balance sheet as of June 30, 2005, and its
results of operations for the period March 8, 2005 to June 30, 2005 are as
follows:
Total assets $ 55,362,360
Total liabilities 50,566,782
Member's equity 4,795,578
Net revenues 3,353,508
Net loss 204,422
Consolidation adjustments to reflect the effects of the following matters
are included in the accompanying consolidated financial statements:
o The Company's lease interest in the hospitals has been eliminated
leaving PCHI's ownership of the land and buildings being presented
in the accompanying consolidated financial statements. Additionally,
a deferred gain of $12,157,808 arising from the Company's sale of
the real property of the Hospitals to PCHI has been eliminated to
state the land and buildings at the Company's cost.
o Because the Company remains primarily liable under the $50 million
debt notwithstanding its guarantee by PCHI, generally accepted
accounting principles do not allow the Company to remove this
liability from its balance sheet. Therefore, it is necessary to
eliminate the same item from PCHI's balance sheet in consolidation.
o PCHI's equity accounts have been classified as minority interest
variable interest entity in the accompanying consolidated balance
sheet.
o The Company's rent expense has been eliminated against PCHI's rental
income. Additionally, amounts assigned to land and buildings are
being depreciated and amortized over the 25 year initial term of the
lease with PCHI.
NOTE 8 - INCOME TAXES
The Company accounts for income taxes in accordance with Statement of
Financial Accounting Standards No. 109 "Accounting for Income Taxes" which
requires the liability approach for the effect of income taxes. The provision
for income taxes consists of provisions for federal and state income taxes.
The preparation of consolidated financial statements in conformity with
generally accepted accounting principles requires us to make estimates and
assumptions that affect the reported amount of tax-related assets and
liabilities and income tax provisions. The Company assesses the recoverability
of the deferred tax assets on an ongoing basis. In making this assessment the
Company is required to consider all available positive and negative evidence to
determine whether, based on such evidence, it is more likely than not that some
portion or all of our net deferred assets will be realized in future periods.
This assessment requires significant judgment. In addition, the Company has made
significant estimates involving current and deferred income taxes, tax
attributes relating to the interpretation of various tax laws, historical bases
of tax attributes associated with certain tangible and intangible assets and
limitations surrounding the realizability of our deferred tax assets. The
Company does not recognize current and future tax benefits until it is deemed
probable that certain tax positions will be sustained.
19
INTEGRATED HEALTHCARE HOLDINGS, INC.
Condensed Notes to Unaudited Consolidated Financial Statements
June 30, 2005
The provision for income taxes consisted of the following for the six
months ended June 30,:
2005 2004
---------- ----------
Current income tax expense:
U.S. Federal and State $3,234,000 $ --
Deferred income taxes:
U.S. Federal and State -- --
---------- ----------
Total $3,234,000 $ --
========== ==========
A reconciliation between the amount of reported income tax expense
(benefit) and the amount computed by multiplying income (loss) from continuing
operations before income taxes by the statutory federal income tax rate is shown
below for the six months ended June 30, 2005:
Estimated tax benefit at federal and state statutory
rates on an annualized basis $(8,351,000)
Common stock warrant expense 3,602,000
Gain on sale of real estate 2,403,000
Change in valuation allowance 6,363,000
State credits (817,000)
Other 34,000
-----------
$ 3,234,000
===========
Deferred income taxes reflect the tax effects of temporary differences
between the carrying amount of assets and liabilities for financial reporting
purposes and the amount used for income tax purposes. The following table
discloses those significant components of our deferred tax assets and
liabilities, including any valuation allowance:
June 30, 2005 June 30, 2004
------------ ------------
Current deferred tax assets:
Allowance for doubtful accounts $ 5,911,500 $ --
Accrued vacation 2,429,490 --
Other accruals 1,886,369 --
Net operating losses 576,984 444,000
------------ ------------
Deferred tax assets 10,804,343 444,000
Valuation allowance (10,804,343) (444,000)
------------ ------------
Net deffered tax assets $ -- $ --
============ ============
20
A valuation allowance of $10.8 million was recorded as of June 30, 2005
based on an assessment of the realization of our deferred tax assets as
described below. We assess the realization of our deferred tax assets to
determine whether an income tax valuation allowance is required. Based on all
available evidence, both positive and negative, and the weight of that evidence
to the extent such evidence can be objectively verified, Company management
determines whether it is more likely than not that all or a portion of the
deferred tax assets will be realized. The main factors taken into consideration
include:
o cumulative losses in recent years;
o income/losses expected in future years;
o unsettled circumstances that, if unfavorably resolved, would adversely
affect future operations and profit levels;
o the availability, or lack there, of taxable income in prior carryback
periods that would limit realization of tax benefits;
o the carryforward period associated with the deferred tax assets and
liabilities; and
o prudent and feasible tax-planning strategies.
Through the second quarter of 2005, we concluded that it was more likely
than not that the deferred tax assets were not realizable. Therefore, we
determined that it was appropriate to record a valuation allowance after
considering and weighing all evidence in the second quarter of 2005.
Tenet Hospital Acquisition - The Acquisition was an asset purchase
transaction and the Company will not benefit from the net operating losses of
the acquired Hospitals. In connection with the Company's completion of the Tenet
Hospital Acquisition in March 2005, the Company sold all of the real estate of
the acquired hospitals to its majority shareholders. For income tax purposes,
the sale of the real estate of the acquired hospitals could require the Company
to report dividend and/or interest income. If the Company is required to report
dividend and/or interest income in connection with this transaction, the Company
would be required to withhold 28% on any deemed dividend or interest income. The
Company's sale of its 100% membership interest in PCHI on March 8, 2005, to West
Coast Holdings LLC and Ganesha Realty LLC in consideration of $5 million plus
the assumption of the $50 million Acquisition Loan on the real property debt is
a taxable event to the Company.
PCHI Tax Status - PCHI is a limited liability corporation. PCHI's owners
plan to make tax elections for it be treated as a disregarded entity for tax
reporting whereby similar to a partnership PCHI's taxable income or loss will
flow through to its owners and be their separate responsibility. Accordingly,
the accompanying consolidated financial statements do not include any amounts
for the income tax expense or benefit of PCHI's income or loss.
21
INTEGRATED HEALTHCARE HOLDINGS, INC.
Condensed Notes to Unaudited Consolidated Financial Statements
June 30, 2005
NOTE 9 - RELATED PARTY TRANSACTIONS
PCHI - The Company leases all of the real property of the acquired Tenet
Hospitals from PCHI. PCHI is owned by two LLC's, which are owned and co-managed
by Dr. Shah, Dr. Chaudhuri, and Mr. William Thomas. Dr. Shah is the chairman of
the Company and is also the co-manager an investor in OC-PIN, which is the
majority shareholder of the Company. Dr. Chaudhuri and Mr. Thomas are the
holders of the Warrants to purchase up to 24.9% of the Company's fully diluted
capital stock. The Company has consolidated the financial statements of PCHI for
the period March 8, 2005 through June 30, 2005 in accordance with FIN 46(R) (see
Note 7). During the six month period ended June 30, 2005, the Company incurred a
liability for rent expense payable to PCHI of $3,353,508, which was eliminated
upon consolidation at June 30, 2005.
Management Agreements - In December 2004, February 2005, and March 2005,
the Company entered into seven employment agreements with its executive
officers. Among other terms, the three year employment agreements in aggregate
provide for annual salaries totaling $2,290,000, total stock option grants to
purchase 6,650,000 shares of the Company's common stock at an exercise price
equal to the mean average per share for the ten days following the date of
issuance with vesting at 33% per year, and an annual bonus to be determined by
the Board of Directors. As of June 30, 2005, the Company has not issued any
stock options pursuant to the employment agreements.
NOTE 10 - LOSS PER SHARE
The following data show the amounts used in computing loss per share for the
periods presented:
Three Months Ended June 30, Six Months Ended June 30,
----------------------------- -----------------------------
2005 2004 2005 2004
------------- ------------- ------------- -------------
Loss from continuing operations available
to common shareholders (numerator) $ (11,923,621) $ (430,608) $ (31,527,412) $ (922,740)
Weighted average number of common
shares used in loss per share during
the period (denominator) 124,539,000 19,590,000 106,518,528 19,510,778
The Company's weighted average common stock equivalents related to the Warrants
(Note 6) were 41,291,892 for the six months ended June 30, 2005. These common
stock equivalents have been excluded from the Company's weighted average number
of common shares outstanding due to their anti-dilutive effect for the three
months ended June 30, 2005.
If the First Amendment to the Stock Purchase Agreement and the Escrow
Agreement were entered into as of the date of the original Stock Purchase
Agreement dated January 28, 2005, the Company's future loss per share would be
greater than reported and the Company's loss per share would have been $(0.18)
and $(0.56) for the three and six months ended June 30, 2005, respectively.
22
INTEGRATED HEALTHCARE HOLDINGS, INC.
Condensed Notes to Unaudited Consolidated Financial Statements
June 30, 2005
NOTE 11 - COMMITMENTS AND CONTINGENCIES
Operating Leases - Concurrent with the closing of the Tenet Hospital
Acquisition as of March 7, 2005, the Company entered into a sale leaseback type
agreement with a related party entity, PCHI (the "Related Party Lease"). The
Company leases all of the real estate of the acquired Hospitals properties (the
"Hospital Properties") and medical office buildings and a long term acute care
facility (collectively the "MOB Properties") from PCHI. The term of the Lease
for the Hospital Properties is approximately 25 years, commencing March 8, 2005
and terminating on February 28, 2030. The Company has the option to extend the
term of this triple net lease for an additional term of twenty-five years.
Additionally, in connection with the acquisition of the Hospitals, the
Company also assumed the operating leases for the Chapman facility, which
include buildings, land, and other equipment. The Related Party Lease has been
eliminated in the consolidation of PCHI in the accompanying consolidated
financial statements. The following is a schedule of the Company's future
minimum operating lease payments that have initial or remaining noncancelable
lease terms in excess of one year as of December 31, 2004:
Unrelated Third Related
Year Ended December 31, Parties Party (PCHI) Total
----------------------- ----------------------------------------------
2005 $ 2,038,365 $ 10,642,672 12,681,037
2006 2,008,102 13,153,611 15,161,713
2007 1,660,807 13,233,219 14,894,026
2008 1,162,675 13,315,216 14,477,891
2009 844,267 13,315,216 14,159,483
Thereafter 8,569,793 278,706,133 287,275,926
----------------------------------------------
$ 16,284,009 $342,366,067 $358,650,076
==============================================
Capital Leases - The Hospitals have long-term lease obligations for
certain equipment. For financial reporting purposes, the leases have been
classified as capital leases; accordingly, assets with a net book value of
approximately $3,529,109 are included in property and equipment in the
accompanying consolidated balance sheet. The following is a schedule of future
minimum lease payments under capitalized equipment leases together with the
present value of the net minimum lease payments as of June 30, 2005:
Year ending June 30,
--------------------
2005 $ 686,292
2006 686,292
2007 686,292
2008 686,292
2009 686,292
Thereafter 2,573,595
----------
Total minimum lease payments $6,005,055
Less amount representing interest 2,416,658
----------
Present value of net minimum lease payments 3,588,397
Less current portion 204,141
----------
Long-term portion $3,384,256
==========
Claims and Lawsuits - The Company and the Hospitals are subject to a
significant number of claims and lawsuits. The results of these claims, lawsuits
and investigations cannot be predicted, and it is possible that the ultimate
resolution of these matters, individually or in the aggregate, may have a
material adverse effect on the Company's business (both in the near and long
term), financial position, results of operations or cash flows. Although the
Company defends itself vigorously against claims and lawsuits and cooperate with
investigations, these matters (1) could require payment of substantial damages
or amounts in judgments or settlements, which individually or in the aggregate
could exceed amounts, if any, that may be recovered under insurance policies
where coverage applies and is available, (2) cause substantial expenses to be
incurred, (3) require significant time and attention from management and (4)
could cause the Company to close or sell the Hospitals or otherwise modify the
way its business is conducted. Reserves for claims and lawsuits are recorded
when they are probable and reasonably estimable.
NOTE 12 - SUBSEQUENT EVENT
On August 1, 2005, Larry Anderson resigned as a director of the Company,
and the Board of Directors appointed the following four individuals to serve as
directors to fill current vacancies on the Board: Maurice J. DeWald, Fernando
Niebla, Syed J. Naqvi and Jaime Ludmir.
23
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations. Forward-Looking Information
This Quarterly Report on Form 10-Q contains forward-looking statements, as
that term is defined in the Private Securities Litigation Reform Act of 1995.
These statements relate to future events or our future financial performance. In
some cases, you can identify forward-looking statements by terminology such as
"may", "will", "should", "expects", "plans", "anticipates", "believes",
"estimates", "predicts", "potential" or "continue" or the negative of these
terms or other comparable terminology. These statements are only predictions and
involve known and unknown risks, uncertainties and other factors, including the
risks discussed under the caption "Risk Factors" in our Annual Report on Form
10-KSB filed on March 31, 2005, that may cause our company's or our industry's
actual results, levels of activity, performance or achievements to be materially
different from those expressed or implied by these forward-looking statements.
Although we believe that the expectations reflected in the forward-looking
statements are reasonable, we cannot guarantee future results, levels of
activity, performance or achievements. Except as may be required by applicable
law, we do not intend to update any of the forward-looking statements to conform
these statements to actual results.
As used in this report, the terms "we", "us", "our", "the Company",
"Integrated Healthcare Holdings" or "IHHI" mean Integrated Healthcare Holdings,
Inc., a Nevada corporation, unless otherwise indicated.
Overview
Prior to March 8, 2005, we were primarily a development stage company with
no material operations and no revenues from operations. On September 29, 2004,
the Company entered into a definitive agreement to acquire four hospitals from
subsidiaries of Tenet Healthcare Corporation ("Tenet"), and completed the
transaction on March 8, 2005. Effective March 8, 2005, we acquired and began
operating the following four hospital facilities in Orange County, California
(referred to in this report as our "Hospitals"):
o 282-bed Western Medical Center in Santa Ana;
o 188-bed Western Medical Center in Anaheim;
o 178-bed Coastal Communities Hospital in Santa Ana; and
o 114-bed Chapman Medical Center in Orange.
Our results of operations discussed in this report reflect Hospital
operations for the full quarter ended June 30, 2005 and the 24 days of the
quarter ended March 31, 2005.
We entered into agreements with third-party payers, including government
programs and managed care health plans, under which rates are based upon
established charges, the cost of providing services, predetermined rates per
diagnosis, fixed per diem rates or discounts from established charges. During
the 24 days ended March 31, 2005, substantially all of Tenet's negotiated rate
agreements were assigned to our Hospitals. Our own Medicare provider numbers
were received in April 2005. California State Medicaid Program provider numbers
were received in June 2005.
24
Critical Accounting Policies and Estimates
Provisions For Doubtful Accounts
Our policy is to attempt to collect amounts due from patients, including
co-payments and deductibles due from patients with insurance, at the time of
service while complying with all federal and state laws and regulations,
including, but not limited to, the Emergency Medical Treatment and Labor Act
("EMTALA"). Generally, as required by EMTALA, patients may not be denied
emergency treatment due to inability to pay. Therefore, until the legally
required medical screening examination is complete and stabilization of the
patient has begun, services are performed prior to the verification of the
patient's insurance, if any. In non-emergency circumstances or for elective
procedures and services, it is our policy, when appropriate, to verify insurance
prior to a patient being treated.
We provide for an allowance against accounts receivable that could become
uncollectible by establishing an allowance to reduce the carrying value of such
receivables to their estimated net realizable value. We estimate this allowance
based on the aging of certain of our accounts receivables by hospital, our
historical collection experience by hospital and for each type of payer, and
other relevant factors. Our practice is to write-down self-pay accounts
receivable, including accounts related to the co-payments and deductibles due
from patients with insurance, to their estimated net realizable value at the
time of billing. Generally, uncollected balances are assigned to collection
agency between 90 to 120 days, once patient responsibility has been identified.
When accounts are assigned for collections by the hospitals, the accounts are
completely written off through provision for doubtful accounts. Any recoveries
from collection agencies thereafter are credited to the provision as received.
Common Stock Warrants
As indicated in the notes to the financial statements, the Company entered
into a Rescission, Restructuring and Assignment Agreement with Dr. Chaudhuri and
William Thomas on January 27, 2005 (the "Restructuring Agreement"). Pursuant to
the Restructuring Agreement, the Company released its initial deposit of $10
million plus accrued interest on the Tenet Hospital Acquisition back to Dr.
Chaudhuri and issued non-convertible secured promissory notes totaling
$1,264,014 and warrants to purchase up to 74,700,000 shares of the Company's
Common Stock. The warrants were limited not to exceed 24.9% of the Company's
Fully-Diluted capital stock.
Due to this limitation, the Company recognized an expense of $16.4 million
related to the issuance of the Warrants during the three months ended March 31,
2005. No additional expense was recognized during the three months ended June
30, 2005 due to no change in the fully diluted outstanding common stock during
this period. The Company computed the expense of the Warrants based on the fair
value of the Warrants at the date of grant and the maxium number of shares
exercisable as of June 30, 2005 of 41,298,523 (24.9% of the fully diluted stock
outstanding as of June 30, 2005). The Company recorded the fair value of the
remaining unexercisable Warrants as of June 30, 2005 of $11.6 million as
deferred warrant expense in the accompanying consolidated balance sheet. With
any future increase in the Company's outstanding fully diluted common stock, the
Company will recognize additional warrant expense up to $11.6 million.
The Company computed the fair value of the Warrants based on the Black-Scholes
option pricing model with the following assumptions:
Low, High
---------
Risk-free interest rate 3.2%, 3.33%
Expected volatility 33.6%, 35.7%
Dividend yield -
Expected life (years) 2, 2.5
Fair value of Warrants (fully diluted) $0.343, $0.398
Due to fact that the Company emerged from the development stage during the
three months ended March 31, 2005, the Company computed the volatility of its
stock based on an average of the following comparable public companies that own
hospitals:
Amsurg Inc (AMSG)
Community Health Systems (CYH)
Healhcare Company (HCA)
Health Management Associates Inc. (HMA)
Lifepoint (LPNT)
Tenet Healthcare Corp. (THC)
Triad Hospitals Corp. (TRI)
Universal (UHS)
Although management believes this is most reasonable and accurate methodology to
determine the Company's volatility, the circumstances affecting volatility of
the comparable companies selected may not be an accurate predictor of the
Company's volatility.
25
Due to fact that the Company emerged from the development stage during the
six months ended June 30, 2005, the Company computed the volatility of its stock
based on an average of comparable public companies that own hospitals.
Sale of Real Estate and Variable Interest Entity
Concurrent with the close of the Company's acquisition of the Hospitals,
Dr. Chaudhuri and Dr. Anil Shah exercised their options to purchase the
Company's interest in a limited liability company holding the real property
underlying the Hospitals pursuant to an option agreement dated September 28,
2004, as amended and restated on November 16, 2004 (the "LLC Option Agreement").
The option holders purchased all of the Company's interests in Pacific Coast
Holdings Investment LLC ("PCHI"), which acquired title to the real property. The
Company received $5 million and PCHI guaranteed the Company's acquisition debt
of $50 million.
The Company remains primarily liable under the $50 million acquisition
note notwithstanding its guarantee by PCHI, and this note is
cross-collateralized by substantially all of the Company's assets and all of the
real property of the Hospitals. All of the Company's operating activities are
directly affected by the real property that was sold to PCHI. Given these
factors, it appears that the Company has indirectly guaranteed the indebtedness
of PCHI. The Company is standing ready to perform on the acquisition debt should
PCHI not be able to perform and has undertaken a contingent obligation to make
future payments if those triggering events or conditions occur.
In connection with the sale of all of the real property of the Hospitals,
the Company entered into a triple net lease with PCHI to leaseback this real
property for an initial term of 25 years. Per the triple net lease, PCHI will
receive rent that covers the cost of the underlying debt, plus a guaranteed
spread up to 2.5%. Additionally, the Company has a right to renew the leases for
periods up to an additional 25 years.
PCHI is a related party entity that is affiliated with the Company through
common ownership and control. It is owned 51% by West Coast Holdings, LLC (Dr.
Shah and investors) and 49% by Ganesha Realty, LLC (Dr. Chaudhuri and William
Thomas). Generally accepted accounting principles require that a company
consolidate the financial statements of any entity that cannot finance its
activities without additional subordinated financial support, and for which one
company provides the majority of that support through means other than
ownership. Effective March 8, 2005, the Company determined that it provided the
majority of financial support to PCHI through various sources including lease
payments, remaining primarily liable under the $50 million debt, and
cross-collateralization of the Company's non-real estate assets to secure the
$50 million debt. Accordingly, during the three and six months ended June 30,
2005, the Company included in its consolidated financial statements, the net
assets of PCHI, net of consolidation adjustments.
26
Results of Operations
The following table summarizes our results of operations from continuing
operations for the three months ended June 30, 2005 and 2004. The 2004 period
reflects our results prior to ownership of the Hospitals, which began in March
2005.
Three Months Ended
------------- -------------
June 30, 2005 June 30, 2004
------------- -------------
(Unaudited) (Unaudited)
------------- -------------
Net operating revenues $ 83,190,537 $ --
Operating expenses:
Salaries and benefits 48,439,345 306,317
Supplies 11,521,967 --
Provision for doubtful accounts 11,331,354 --
Other operating expenses 17,283,135 108,763
Depreciation and amortization 902,845 15,528
Common stock warrant expense -- --
------------- -------------
89,478,646 430,608
Operating loss (6,288,109) (430,608)
Interest expense 4,069,029 --
------------- -------------
Loss including minority interest and
before provision for income taxes (10,357,138) (430,608)
Provision for income taxes 1,762,000 --
Minority interest in variable interest
entity (195,517) --
------------- -------------
Net loss $ (11,923,621) $ (430,608)
============= =============
Per Share Data:
Basic and fully diluted
Loss per common share ($ 0.10) ($ 0.02)
Weighted average shares outstanding 124,539,000 19,590,000
Three and Six Months Ended June 30, 2005 and 2004
Losses from continuing operations, before interest, taxes and common stock
warrant expense, increased to $6.0 million for the three months ended June 30,
2005 from $0.4 million for the three months ended June 30, 2004. Substantially
all of the losses from continuing operations during the three and six months
ended June 30, 2005 reflects the operational losses from our Hospitals, which
were acquired on March 8, 2005.
For the three months ended March 31, 2005 and the six months ended June
30, 2005, we recognized an expense of $16.4 million relating to the issuance of
common stock Warrants to Dr. Chaudhuri and Mr. Thomas. We computed the expense
of the Warrants based on their fair value at the date of grant and the maximum
number of shares exercisable as of March 31, 2005 of 41,292,892 (24.9% of fully
diluted shares outstanding as of June 30, 2005). We recorded the fair value of
the remaining unexercisable Warrants at June 30, 2005 of $11.6 million as
deferred compensation in the accompanying condensed consolidated balance sheet.
We will amortize the deferred warrant expense in subsequent quarters over the
term of the Warrants of 3.5 years, based on any future increases in the number
of outstanding shares of our fully diluted common stock.
27
The income tax provision was $1.8 million for the three months ended June
30, 2005 and $3.2 million for the six months ended June 30, 2005, and consisted
primarily of a taxable gain on the sale of the real property of the Hospitals to
PCHI, the non-deductible Warrant expense and allowances for doubtful accounts,
offset with losses from operations. As of June 30, 2005, we had net deferred tax
assets of approximately $10.8 million for which a full valuation allowance has
been provided.
Managed care contracting
The prior owners the hospitals adopted a state wide managed care
contracting strategy that was designed to improve consolidated results with less
regard for the individual facilities financial needs. Those contracts have been
substantially all assigned to IHHI preserving the existing revenue base.
Management is committed to negotiating terms more closely aligned with the
services provided and the financial resources required to achieve that level of
service. Although management believes that substantial opportunity exists for
improving contracted reimbursement, there can be no assurance that this will be
achieved and failure to do so could have a material adverse impact on future
performance.
Salaries and benefits
We have experienced and expect to continue to experience significant wage
and benefit pressures created by the nursing shortages throughout the region. In
addition, approximately 24% of our employees were represented by labor unions as
of June 30, 2005. If union activity increases at our hospitals, our salaries and
benefits expense may increase more rapidly than our net operating revenues.
Labor costs remain a significant cost pressure facing us as well as the health
care industry in general. The nursing shortage continues and remains more
serious in key specialties. This has increased labor costs for nursing
personnel. In addition, state-mandated nurse-staffing ratios in California have
not only increased our labor costs, but may also adversely affect net operating
revenues due to volume limitations if the required number of nurses are
unavailable. In March 2005, increases to California's state-mandated
nurse-staffing ratios went into effect as provided by the original statute. The
vast majority of hospitals in California, including our hospitals, are not at
all times meeting these ratios. We have, however, gradually improved our monthly
compliance and expect that our compliance levels will continue to improve
throughout our hospitals in 2005.
Provision for doubtful accounts
Our policy is to attempt to collect amounts due from patients,including
co-payments and deductibles due from patients with insurance, at the time of
service while complying with all federal and state laws and regulations,
including, but not limited to, the Emergency Medical Treatment and Labor Act
(EMTALA). Generally, as required by EMTALA, patients may not be denied emergency
treatment due to inability to pay. Therefore, until the legally required medical
screening examination is complete and stabilization of the patient has begun,
services are performed prior to the verification of the patient's insurance, if
any. In non-emergency circumstances or for elective procedures and services, it
is our policy, when appropriate, to verify insurance prior to a patient being
treated.
We provide for an allowance against accounts receivable that could become
uncollectible by establishing an allowance to reduce the carrying value of such
receivables to their estimated net realizable value. We estimate this allowance
based on the aging of certain of our accounts receivables by hospital,our
historical collection experience by hospital and for each type of payer, and
other relevant factors. Our practice is to write-down self-pay accounts
receivable, including accounts related to the co-payments and deductible due
from patients with insurance, to their estimate net realizable value at the time
of billing. Generally, uncollected balances are assigned to collection agency
between 90 and 120 days, once patient responsibility has been identified. When
accounts are assigned for collections by the hospitals, the accounts are
completely written off through provision for doubtful accounts. Any recoveries
from collection agencies thereafter are credited to the provision as received.
Because IHHI did not acquire accounts receivable from Tenet, estimates of
recoveries from collection efforts are made based on Tenet's experience applied
to new accounts. Management believes this is reasonable because the systems and
personnel are substantially the same.
28
During the three months and six months ended June 30, 2005, we recorded
provisions for doubtful accounts of $11.3 million and $14.5 million,
respectively.
The breakdown of our billed hospital receivables (which is a component of
total receivables) at June 30, 2005 is summarized in the table below.
June 30, 2005
-------------
Insured receivables
78.3%
Uninsured receivables
21.7%
-------------
Total 100.0%
=============
Our allowance for doubtful accounts and the approximate percentages of
allowance for doubtful accounts to accounts receivable at June 30, 2005 are
summarized as follows (dollars in thousands):
June 30, 2005
Allowance for doubtful accounts $14,445
Percentage of accounts receivables 26.2%
Our reported accounts receivable as of June 30, 2005 were all under 115
days outstanding, due to the fact that our acquisition of Hospital assets from
Tenet on March 8, 2005 did not include patient accounts. Net days in AR
outstanding as of June 30, 2005 were 44.2 days.
Liquidity and Capital Resources
Cash used by operating activities was $26.5 million in the six months
ended June 30, 2005. Net accounts receivable increased to $40.4 million after a
full quarter of hospital operations. Accounts payable increased by $11.5 million
and payroll related accruals increased by $12.3 million. Estimated taxes payable
increased by $1.8 million. Other current liabilities increased by $6.5 million
and consist primarily of accrued interest, workers' compensation insurance, and
other miscellaneous accruals.
Cash used in investing activities of $63.2 million in the six months ended
June 30, 2005 was used to complete the Hospital acquisition on March 8, 2005.
Cash provided by financing activities was $97 million in the six months
ended June 30, 2005. At June 30, 2005, our indebtedness consisted of a $50
million term loan for the purchase of our Hospitals, a $13.2 million drawn-down
from a $30 million line of credit. We received $5 million in net proceeds from
the sale of the real property of the Hospitals to PCHI, a related party entity.
In addition, in March 2005, our Hospitals entered into a 2-year Accounts
Purchase Agreement to sell Accounts Receivable to a lending institution as they
become billable to third parties. We continue to provide billing and collection
services and the proceeds collected thereby are applied to reduce amounts
advanced under this agreement. As of June 30, 2005 $21.4 million had been
advanced under this agreement.
On or about May 9, 2005, the Company received a notice of default from its
lender, Medical Provider Financial Corporation II ("Medical Provider"). Medical
Provider is the lender for the secured acquisition note of $50 million, and the
Company's secured line of credit note of up to $30 million. The Company has
recorded the acquisition note of $50 million and outstanding draws on the line
of credit of $13.2 million as current liabilities in the accompanying
consolidated financial statements. The notice of default asserts that (i) the
Company failed to provide satisfactory evidence that the Company has received
capital contributions of not less than $15,000,000, as required under the Credit
Agreement, (ii) the Company failed to prepay $5,000,000 by the Mandatory Prepay
Date as required under the Credit Agreement, and (iii) a Material Adverse Effect
has occurred under the Credit Agreement for reasons relating primarily to
OC-PIN's failure to fully fund its obligations under its Stock Purchase
Agreement with the Company dated January 28, 2005.
29
As of June 1, 2005, the Company entered into an Agreement to Forbear with
Medical Provider. Without another default, Medical Provider agrees for 100 days
to forbear from (i) recording Notices of Default, (ii) filing a judicial
foreclosure lawsuit against the Company, OC-PIN and West Coast Holdings, LLC,
and (iii) filing lawsuits against the Company, OC-PIN and West Coast Holdings,
LLC. The interest rate on the notes will be increased from 14% to the Default
Rate of 19%, as defined in the Credit Agreement, and all Obligations (as defined
in the Credit Agreement), will be forthwith due and payable, as long as the
events of default remain uncured. The Company's Line of Credit facility is
suspended to additional advances. During the forbearance period of 100 days,
OC-PIN and other investors will invest not less than $15 million in new equity
capital in the Company.
In June 2005, in connection with the First Amendment to Stock Purchase
Agreement, dated as of June 1, 2005, by and among the Company, OC-PIN, PCHI,
West Coast Holdings, LLC, and Ganesha Realty LLC, OC-PIN placed into an escrow
account 57,250,000 shares of the Company's common stock. As of the date of this
Report, an aggregate of $12.5 million in cash has been deposited in the escrow
account.
Recent Accounting Pronouncements
On October 13, 2004, the Financial Accounting Standards Board issued
Statement 123R, Share-Based Payment, which requires all companies to measure
compensation cost for all share-based payments, including employee stock
options, at fair value. The statement is effective for all public companies for
interim or annual periods after June 15, 2005. The statement eliminates the
ability to account for share-based compensation transactions using APB No. 25,
and generally requires that such transactions be accounted for using a
fair-value-based method and recognized as expenses in our consolidated
statements of operations. The standard also requires that the modified
prospective transition method be used, which would necessitate the Company to
recognize compensation cost for the fair value of new awards granted, modified
or settled after the effective date of the SFAS 123R. In addition, the
measurement of compensation cost for awards that are not fully vested as of the
effective date of the SFAS 123R would be based on the same estimate that the
Company used to previously value its grants under SFAS 123.
As a result of SFAS 123R, the Company will be required to expense the fair
value of any stock option grants that it may make in the future, rather than
disclose the impact on its consolidated statement of operations within the
Company's footnotes.
In January 2003, the Financial Accounting Standards Board issued FIN 46,
"Consolidation of Variable Interest Entities," which requires consolidation of
certain entities in which equity investors do not have the characteristics of a
controlling financial interest or do not have sufficient equity at risk for the
entity to finance its activities without additional subordinated financial
support from other parties. Paragraph 1 of ARB 51 states that consolidated
financial statements are usually necessary for a fair presentation when one of
the companies in the group directly or indirectly has a controlling financial
interest in the other companies. Paragraph 2 states that "the usual condition
for a controlling financial interest is ownership of a majority voting
interest..." However, application of the majority voting interest requirement in
ARB 51 to certain types of entities may not identify the party with a
controlling financial interest because the controlling financial interest may be
achieved through arrangements that do not involve voting interests. Application
of Interpretation 46 or Interpretation 46(R) is required in financial statements
of public entities that have interests in variable interest entities or
potential variable interest entities commonly referred to as special-purpose
entities for periods ending after December 15, 2003. See Note to the financial
statements regarding the Company's implementation of FIN 46 (R).
30
Item 3. Quantitative and Qualitative Disclosures About Market Risk.
At June 30, 2005, we did not have any investment in or outstanding
liabilities under market rate sensitive instruments. We do not enter into
hedging or derivative instrument arrangements. We have no off-balance sheet
arrangements.
Item 4. Controls and Procedures.
The Company maintains disclosure controls and procedures that are designed
to ensure that information required to be disclosed in the Company's Exchange
Act reports is recorded, processed, summarized and reported within the time
periods specified in the SEC's rules and forms, and that such information is
accumulated and communicated to the Company's management, including its Chief
Executive Officer and Chief Financial Officer, as appropriate, to allow timely
decisions regarding required disclosure based closely on the definition of
"disclosure controls and procedures" in Rule 15d-15(e). The Company's disclosure
controls and procedures are designed to provide a reasonable level of assurance
of reaching the Company's desired disclosure control objectives. In designing
and evaluating the disclosure controls and procedures, management recognized
that any controls and procedures, no matter how well designed and operated, can
provide only reasonable assurance of achieving the desired control objectives,
and management necessarily was required to apply its judgment in evaluating the
cost-benefit relationship of possible controls and procedures. The Company's
certifying officers have concluded that the Company's disclosure controls and
procedures are effective in reaching that level of assurance.
As of the end of the period of this report, the Company carried out an
evaluation, under the supervision and with the participation of the Company's
management, including the Company's Chief Executive Officer and the Company's
Chief Financial Officer, of the effectiveness of the design and operation of the
Company's disclosure controls and procedures. Based on the foregoing, the
Company's Chief Executive Officer and Chief Financial Officer concluded that the
Company's disclosure controls and procedures were effective.
There have been no significant changes in the Company's internal controls
or in other factors that could significantly affect the internal controls
subsequent to the date the Company completed its evaluation.
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
From time to time, we are a party to claims and legal proceedings arising
in the ordinary course of our business. With the exception of a potentially
adverse outcome in the litigation described in the next paragraph, after taking
into consideration information furnished by our counsel as to the current status
of these claims and proceedings, we do not believe that the aggregate potential
liability resulting from such proceedings would have a material adverse effect
on our financial condition or results of operation.
On or about May 27, 2005, the Company, along with other defendants, was
served with a petition to compel arbitration with Judicial Arbitration and
Mediation Service (JAMS) by Andrew Weiss, a former consultant to the Company.
Mr. Weiss is claiming, among other things, that he was an employee of the
Company and was wrongfully terminated, and is requesting unspecified
compensatory, statutory and punitive damages relating to his claimed lost
earnings and benefits, stock options, and other special and general damages. The
Company is vigorously contesting this matter. The Company has filed a stay in
the arbitration proceedings and is requesting to move the claim to Los Angeles
County Superior Court. This matter is in an early stage and it is not possible
to assess the likely outcome of this litigation or the amount of damages that we
would be required to pay if this litigation is decided adverse to the Company.
31
Item 3. Defaults Upon Senior Securities.
On or about May 9, 2005, the Company received a notice of default from
Medical Provider Financial Corporation II ("Medical Provider"). Medical Provider
is the lender to the Company under a $50 million acquisition loan, and a working
capital non-revolving line of credit of up to $30 million, each of which has
been issued pursuant to a Credit Agreement, dated as of March 3, 2005, to which
the Company and Medical Provider are parties (the "Credit Agreement").
In addition, each of Orange County Physicians Investment Network, LLC
("OC-PIN"), Pacific Coast Holdings Investment, LLC, Ganesha Realty, LLC, and
West Coast Holdings, LLC, which are parties to the Credit Agreement, has
received a notice of default under the Credit Agreement.
The notice of default asserts that (i) the Company failed to provide
satisfactory evidence that the Company has received capital contributions of not
less than $15,000,000, as required by Section 2.1(s) of the Credit Agreement,
(ii) the Company failed to prepay $5,000,000 by the Mandatory Prepay Date as
required under Section 1.2(b)(ii) of the Credit Agreement, and (iii) a Material
Adverse Effect has occurred under the Credit Agreement for reasons relating
primarily to OC-PIN's failure to fully fund its obligations under its Stock
Purchase Agreement with the Company dated January 28, 2005 (as discussed further
below in Item 8.01).
Medical Provider has indicated that, as a consequence of the alleged
events of default and for so long as such events are continuing, the interest
rates applicable to the outstanding loans under the Credit Agreement will be
increased to the Default Rate (as defined in the Credit Agreement), the line of
credit facility is suspended as to additional advances (with any additional
advances made at its discretion at the Default Rate), and all Obligations (as
defined in the Credit Agreement), will be forthwith due and payable. The total
principal and interest due and payable under the loans made under the Credit
Agreement currently amount to approximately $64.2 million, which does not
include possible additional amounts claimed by Medical Provider for unpaid
interest at the Default Rate, attorneys' fees and costs, costs of collection,
trustee's fees and costs, and other fees, charges and expenses paid or incurred
by Medical Provider.
Item 6. Exhibits.
Exhibit
Number Description
- ------ -----------
10.1 First Amendment to Stock Purchase Agreement, dated as of June
1, 2005, by and among the Registrant, Orange County Physicians
Investment Network, LLC, Pacific Coast Holdings Investment,
LLC, West Coast Holdings, LLC, and Ganesha Realty LLC
(incorporated herein by reference from Exhibit 99.1 to the
Registrant's Current Report on Form 8-K filed with the
Commission on June 22, 2005).
10.2 Escrow Agreement, dated as of June 1, 2005, by and among the
Registrant, Orange County Physicians Investment Network, LLC
and City National Bank (incorporated herein by reference from
Exhibit 99.2 to the Registrant's Current Report on Form 8-K
filed with the Commission on June 22, 2005).
32
10.3 Agreement to Forbear, dated as of June 1, 2005, by and among
the Registrant, certain of its subsidiaries, Orange County
Physicians Investment Network, LLC, West Coast Holdings, LLC,
and Medical Provider Financial Corporation II (incorporated
herein by reference from Exhibit 99.3 to the Registrant's
Current Report on Form 8-K filed with the Commission on June
22, 2005).
10.4 Letter agreement, dated June 6, 2005, amending employment
agreements of Messrs. Anderson, Mogel and Ligon.
31.1 Certification of Chief Executive Officer Pursuant to Section
302 of the Sarbanes-Oxley Act of 2002.
31.2 Certification of Chief Financial Officer Pursuant to Section
302 of the Sarbanes-Oxley Act of 2002.
32.1 Certification of Chief Executive Officer Pursuant to Section
906 of the Sarbanes-Oxley Act of 2002.
32.2 Certification of Chief Financial Officer Pursuant to Section
906 of the Sarbanes-Oxley Act of 2002.
33
SIGNATURE
In accordance with the requirements of the Securities Exchange Act of
1934, the registrant caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
INTEGRATED HEALTHCARE HOLDINGS, INC.
Dated: August 15, 2005 By: /s/ Steven R. Blake
-------------------------------------
Steven R. Blake
Chief Financial Officer
(Principal Financial Officer)
33
EXHIBIT 10.4
June 6, 2005
Messrs: Larry B. Anderson
Bruce Mogel
James T. Ligon
Re: Letter of Amendment to Employment Agreements
Dear Sirs:
This is to confirm the amendment to your respective Employment Agreements, dated
February 22, 2005, as a result of the June 1, 2005, Amended Stock Purchase
Agreement between Integrated Healthcare Holdings, Inc. (IHHI) and the Orange
County Physicians Investment Network (OC-PIN). (A complete and executed copy of
that Agreement is attached hereto as Exhibit A.)
By virtue of that Agreement your Employment Agreements are amended in sections
5.2 and 5.3, to provide that,
There shall be a 3-year severance payment (instead of 1-year currently provided
for), payable in a lump sum at employees request, if any of the three of you are
terminated without cause or if any of the three of you resign for good cause.
The severance amount shall be three years' compensation beginning from the date
of this Agreement, (June 1, 2005) and shall be reduced by one month for each
month employed thereafter. However, the severance shall not be reduced to less
than 12 months. For the purposes of this Amendment, "good cause" shall mean that
OC-PIN has requested an executive to engage in an illegal act or violation of
any law, rule, regulation or accounting principle applicable to IHHI (each, a
"Violation"), that IHHI's counsel or auditors has confirmed that such request is
a Violation and OC-PIN persists in making the request following receipt of
notice of the improper nature of the request.
Additionally, the Form of Severance Agreement applicable to your Employment
Agreement is hereby modified to the Form included herewith and made a part
hereof as Exhibit B.
June 9, 2005 /s/ Anil V. Shah
- ---------------------------------- ------------------------------------
Date Anil V. Shah
Chairman of the Board of IHHI
EXHIBIT 31.1
CERTIFICATION PURSUANT TO RULE 13a-14 AND 15d-14
UNDER THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED
I, Bruce Mogel, Chief Executive Officer of Integrated Healthcare Holdings,
Inc., certify that:
1. I have reviewed this Quarterly Report on Form 10-Q of Integrated
Healthcare Holdings, Inc.;
2. Based on my knowledge, this report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the Registrant as
of, and for, the periods presented in this report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:
(a) designed such disclosure controls and procedures to ensure
that material information relating to the registrant, including its
consolidated, or caused such disclosure controls and procedure to be designed
under our supervision, subsidiaries, is made known to us by others within those
entities, particularly during the period in which this annual report is being
prepared;
(b) evaluated the effectiveness of the registrant's disclosure
controls and procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end of the
period covered by this report based on such evaluation; and
(c) disclosed in this report any change in the registrant's
internal control over financial reporting that occurred during the registrant's
most recent fiscal quarter (the registrant's fourth fiscal quarter in the case
of an annual report) that has materially affected, or is reasonably likely to
materially affect, the registrant's internal control over financial reporting;
and;
5. The registrant's other certifying officer and I have disclosed, based
on our most recent evaluation of internal control over financial reporting, to
the registrant's auditors and the audit committee of the registrant's board of
directors (or persons performing the equivalent function):
(a) all significant deficiencies and material weaknesses in the
design or operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to record,
process, summarize and report financial information; and
(b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
controls over financial reporting.
Dated: August 15, 2005 By: /s/ Bruce Mogel
-------------------------------------
Bruce Mogel
Chief Executive Officer
EXHIBIT 31.2
CERTIFICATION PURSUANT TO RULE 13a-14 AND 15d-14
UNDER THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED
I, Steven R. Blake, Chief Financial Officer of Integrated Healthcare
Holdings, Inc., certify that:
1. I have reviewed this Quarterly Report on Form 10-Q of Integrated
Healthcare Holdings, Inc.;
2. Based on my knowledge, this report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the Registrant as
of, and for, the periods presented in this report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:
(a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its consolidated, or
caused such disclosure controls and procedure to be designed under our
supervision, subsidiaries, is made known to us by others within those entities,
particularly during the period in which this annual report is being prepared;
(b) evaluated the effectiveness of the registrant's disclosure
controls and procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end of the
period covered by this report based on such evaluation; and
(c) disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the registrant's most
recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an
annual report) that has materially affected, or is reasonably likely to
materially affect, the registrant's internal control over financial reporting;
and;
5. The registrant's other certifying officer and I have disclosed, based
on our most recent evaluation of internal control over financial reporting, to
the registrant's auditors and the audit committee of the registrant's board of
directors (or persons performing the equivalent function):
(a) all significant deficiencies and material weaknesses in the
design or operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to record,
process, summarize and report financial information; and
(b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
controls over financial reporting.
Dated: August 15, 2005 /s/ Steven R. Blake
-----------------------------------------
Steven R. Blake
Chief Financial Officer
EXHIBIT 32.1
CERTIFICATE PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Quarterly Report of Integrated Healthcare Holdings,
Inc. (the "Company") on Form 10-Q for the quarter ended June 30, 2005, as filed
with the Securities and Exchange Commission (the "Report"), the undersigned, in
the capacity and on the dates indicated below, hereby certifies pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002, that:
1. the Report fully complies with the requirements of Section 13(a) or
15(d), as applicable, of the Securities Exchange Act of 1934; and
2. the information contained in the Report fairly presents, in all
material respects, the financial condition and result of operations
of the Company at the dates and for the period indicated.
This Certificate has not been, and shall not be deemed, "filed" with the
Securities and Exchange Commission.
Dated: August 15, 2005 By: /s/ Bruce Mogel
-----------------------------------------
Bruce Mogel
Chief Executive Officer
EXHIBIT 32.2
CERTIFICATE PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Quarterly Report of Integrated Healthcare Holdings,
Inc. (the "Company") on Form 10-Q for the quarter ended June 30, 2005, as filed
with the Securities and Exchange Commission (the "Report"), the undersigned, in
the capacity and on the dates indicated below, hereby certifies pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002, that:
1. the Report fully complies with the requirements of Section 13(a) or
15(d), as applicable, of the Securities Exchange Act of 1934; and
2. the information contained in the Report fairly presents, in all
material respects, the financial condition and result of operations
of the Company at the dates and for the period indicated.
This Certificate has not been, and shall not be deemed, "filed" with the
Securities and Exchange Commission.
Dated: August 15, 2005 By: /s/ Steven R. Blake
-----------------------------------------
Steven R. Blake
Chief Financial Officer
================================================================================
United States
Securities and Exchange Commission
Washington, D.C. 20549
FORM 8-K/A
CURRENT REPORT
Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
Date of report (Date of earliest event reported): March 3, 2005
Integrated Healthcare Holdings, Inc.
(Exact Name of Registrant as Specified
in Charter)
Nevada 0-23511 87-0412182
(State or Other Jurisdiction of (Commission File Number) (IRS Employer Identification
Incorporation) No.)
695 Town Center Drive, Suite 260, Costa Mesa, California 92626
(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code: (714) 434-9191
---------------------------------------------------
(Former Name or Former Address, if Changed Since Last Report)
Check the appropriate box below if the Form 8-K filing is intended to
simultaneously satisfy the filing obligation of the registrant under any of the
following provisions:
|_| Written communications pursuant to Rule 425 under the Securities Act (17
CFR 230.425)
|_| Soliciting material pursuant to Rule 14a-12 under the Exchange Act (17 CFR
240.14a-12)
|_| Pre-commencement communications pursuant to Rule 14d-2(b) under the
Exchange Act (17 CFR 240.14d-2(b))
|_| Pre-commencement communications pursuant to Rule 13e-4(c) under the
Exchange Act (17 CFR 240.13e-4(c))
================================================================================
EXPLANATORY NOTE
THE REGISTRANT FILED ON MARCH 14, 2005 A CURRENT REPORT ON FORM 8-K
RELATING TO ITS ACQUISITION OF FOUR ORANGE COUNTY, CALIFORNIA HOSPITALS AND
ASSOCIATED REAL ESTATE FROM SUBSIDIARIES OF TENET HEALTHCARE CORPORATION. THE
PURPOSE OF THIS AMENDMENT IS TO PROVIDE THE FINANCIAL STATEMENTS AND INFORMATION
REQUIRED BY ITEM 9.01 OF THE FORM 8-K.
Item 9.01 Financial Statements and Exhibits.
(a) Financial Statements of Business Acquired.
Attached hereto as Exhibit 99.11 are the audited balance sheet for the
acquired assets as of December 31, 2004 and the audited statement of operations
for the acquired assets for the years ended December 31, 2004 and December 31,
2003, and accompanying notes.
(b) Pro Forma Financial Information.
Attached hereto as Exhibit 99.12 are the unaudited pro forma balance sheet
of Integrated Healthcare Holdings, Inc. (the "Company") as of December 31, 2004
and the unaudited pro forma statement of operations of the Company for the years
ended December 31, 2004 and December 31, 2003, and accompanying notes.
(c) Exhibits.
Exhibit Description
Number
- --------------------------------------------------------------------------------
99.1 Second Amendment to Asset Sale Agreement, effective as of
January 1, 2005, between the Company and certain subsidiaries
of Tenet Healthcare Corporation. *
99.2 Third Amendment to Asset Sale Agreement, effective as of March
8, 2005, between the Company and certain subsidiaries of Tenet
Healthcare Corporation. *
99.3 Guaranty Agreement, dated as of March 3, 2005, by Orange County
Physicians Investment Network, LLC in favor of Medical Provider
Financial Corporation II. *
99.4 Guaranty Agreement, dated as of March 3, 2005, by Pacific
Coast Holdings Investments, LLC in favor of Medical Provider
Financial Corporation II. *
99.5 Subordination Agreement, dated as of March 3, 2005, by and among
the Company and its subsidiaries, Pacific Coast Holdings
Investments, LLC, and Medical Provider Financial
Corporation II. *
99.6 Credit Agreement, dated as of March 3, 2005, by and among the
Company and its subsidiaries, Pacific Coast Holdings
Investments, LLC and its members, and Medical Provider
Financial Corporation II. *
99.7 Form of $50 million acquisition note by the Company and the
Subsidiaries. *
99.8 Form of $30 million line of credit note by the Company and the
Subsidiaries. *
99.9 Triple Net Hospital and Medical Office Building Lease dated
March 3, 2005, as amended by Amendment No. 1 To Triple Net
Hospital And Medical Office Building Lease. *
99.10 Press Release issued by the Company on March 8, 2005. *
99.11 Audited financial statements for the acquired assets.
99.12 Unaudited pro forma financial statements of the Company.
* Previously filed.
1
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.
Integrated Healthcare Holdings, Inc.
By: /s/ Bruce Mogel
-------------------------------------------
Name: Bruce Mogel
Title: Chief Executive Officer
Date: May 31, 2005
INDEX TO EXHIBITS
Exhibit Description
Number
- --------------------------------------------------------------------------------
99.1 Second Amendment to Asset Sale Agreement, effective as of
January 1, 2005, between the Company and certain subsidiaries
of Tenet Healthcare Corporation. *
99.2 Third Amendment to Asset Sale Agreement, effective as of March
8, 2005, between the Company and certain subsidiaries of Tenet
Healthcare Corporation. *
99.3 Guaranty Agreement, dated as of March 3, 2005, by Orange County
Physicians Investment Network, LLC in favor of Medical Provider
Financial Corporation II. *
99.4 Guaranty Agreement, dated as of March 3, 2005, by Pacific
Coast Holdings Investments, LLC in favor of Medical Provider
Financial Corporation II. *
99.5 Subordination Agreement, dated as of March 3, 2005, by and among
the Company and its subsidiaries, Pacific Coast Holdings
Investments, LLC, and Medical Provider Financial
Corporation II. *
99.6 Credit Agreement, dated as of March 3, 2005, by and among the
Company and its subsidiaries, Pacific Coast Holdings
Investments, LLC and its members, and Medical Provider
Financial Corporation II. *
99.7 Form of $50 million acquisition note by the Company and the
Subsidiaries. *
99.8 Form of $30 million line of credit note by the Company and the
Subsidiaries. *
99.9 Triple Net Hospital and Medical Office Building Lease dated
March 3, 2005, as amended by Amendment No. 1 To Triple Net
Hospital And Medical Office Building Lease. *
99.10 Press Release issued by the Company on March 8, 2005. *
99.11 Audited financial statements for the acquired assets.
99.12 Unaudited pro forma financial statements of the Company.
* Previously filed.
2
EXHIBIT 99.11
Audited financial statements
[INSERT AUDITED FINANCIAL STATEMENTS]
EXHIBIT 99.12
Unaudited pro forma financial statements
Acquisition - On March 8, 2005, Integrated Healthcare Holdings, Inc. ("IHHI")
completed its asset acquisition (the "Acquisition") of four Orange County,
California hospitals and associated real estate, including: (i) 282-bed Western
Medical Center--Santa Ana, CA; (ii) 188-bed Western Medical Center--Anaheim, CA;
(iii) 178-bed Coastal Communities Hospital in Santa Ana, CA; and (iv) 114-bed
Chapman Medical Center in Orange, CA (collectively, the "Hospitals") from Tenet
Healthcare Corporation ("Tenet"). The Hospitals were assigned to four
wholly-owned subsidiaries of IHHI (the "Subsidiaries") formed for the purpose of
completing the Hospital Acquisition. IHHI also acquired the following real
estate, leases and assets associated with the Hospitals: (i) a fee interest in
the Western Medical Center at 1001 North Tustin Avenue, Santa Ana, CA 92705, a
fee interest in the administration building at 1301 North Tustin Avenue, Santa
Ana, CA 92705, certain rights to acquire condominium suites located in the
medical office building at 999 North Tustin Avenue, Santa Ana, CA, and the
business known as the West Coast Breast Cancer Center; (ii) a fee interest in
the Western Medical Center at 1025 South Anaheim Blvd., Anaheim, CA 92805; (iii)
a fee interest in the Coastal Communities Hospital at 2701 South Bristol Street,
Santa Ana, CA 92704, and a fee interest in the medical office building at 1901
North College Avenue, Santa Ana, CA; (iv) a lease for the Chapman Medical Center
at 2601 East Chapman Avenue, Orange, CA 92869, and a lease for the medical
office building at 2617 East Chapman Avenue, Orange, CA; and (v) the furniture,
fixtures and contract rights associated with the Hospitals. The purchase price,
after all purchase price adjustments, of the Acquisition amounted to
$66,164,700.
Sale-Leaseback - Concurrent with the close on the Acquisition, Dr. Chaudhuri and
Dr. Shah exercised their option to purchase all of the real property of the
Hospitals (except for Chapman medical office building) pursuant to an Option
agreement dated September 28, 2004, as amended and restated on November 16, 2004
("LLC Option Agreement"). The option was exercised by the option holders
purchasing from IHHI all of the equity interests in Pacific Coast Holdings, Inc.
("PCHI"), which holds title to the real property. IHHI received $5 million and
PCHI guaranteed IHHI's acquisition debt of $50 million.
IHHI remains primarily liable under the $50 million acquisition note
notwithstanding its guarantee by PCHI, and this note is cross-collateralized by
substantially all of IHHI's assets and all of the real property of the
Hospitals. All of IHHI's operating activities are directly affected by the real
property that was sold to PCHI. Given these factors, IHHI has indirectly
guaranteed the indebtedness of PCHI. In substance, IHHI is standing ready to
perform on the acquisition debt should PCHI not be able to perform and has
undertaken a contingent obligation to make future payments if those triggering
events or conditions occur.
In connection with the sale of the real property of the Hospitals, IHHI entered
into a triple net lease with PCHI to leaseback this real property for an initial
term of 25 years and renewable for an additional 25 year term. IHHI's initial
rent expense will substantially equal the amount of the interest payment on the
$50 million acquisition note at a rate of 14% per annum. At the earlier of two
years or a refinancing of the acquisition note, IHHI's rent expense will also
include amortization of the principal of the acquisition note. If the interest
rate of the acquisition note is refinanced below a rate of 12% per annum, IHHI's
rent expense will include a guaranteed spread of up to 2.5%.
PCHI is a related party entity that is affiliated with IHHI through common
ownership and control. It is owned 51% by West Coast Holdings, LLC (Dr. Shah and
investors) and 49% by Ganesha Realty, LLC (Dr. Chaudhuri and William Thomas).
Generally accepted accounting principles require that a company consolidate the
financial statements of any entity that cannot finance its activities without
additional subordinated financial support, and for which one company provides
the majority of that support through means other than ownership. Effective March
8, 2005, IHHI determined that it provided the majority of financial support to
PCHI through various sources including lease payments, remaining primarily
liable under the $50 million debt, and cross-collateralization of IHHI's
non-real estate assets to secure the $50 million debt. Accordingly, IHHI has
included in its consolidated financial statements, the net assets of PCHI, net
of consolidation adjustments.
Common Stock Warrants - IHHI entered into a Rescission, Restructuring and
Assignment Agreement with Dr. Chaudhuri and William Thomas on January 27, 2005
(the "Restructuring Agreement"). Previously, IHHI had obtained financing from
Dr. Chaudhuri and Mr. Thomas and had issued to them a $500,000 secured
convertible promissory note that was convertible into approximately 88.8% of
IHHI's issued and outstanding common stock on a fully-diluted basis, a $10
million secured promissory note, and a Real Estate Purchase Option agreement
originally dated September 28, 2004 to purchase 100% of substantially all of the
real property in the Acquisition for $5 million (the "Real Estate Option"), all
of which together with related accrued interest payable pursuant to the terms of
the notes were rescinded and cancelled. Pursuant to the Restructuring Agreement,
IHHI released its initial deposit of $10 million plus accrued interest on the
Tenet Hospital Acquisition back to Dr. Chaudhuri, issued non-convertible secured
promissory notes totaling $1,264,014 to Dr. Chaudhuri and Mr. Thomas, and issued
warrants to purchase up to 74,700,000 shares of IHHI's Common Stock (but not to
exceed 24.9% of IHHI's Fully-Diluted capital stock) (the "Warrants"). In
addition, IHHI amended the Real Estate Option to provide that Dr. Chaudhuri's
option shall be to purchase 49% of substantially all of the real property in the
Acquisition for $2,450,000. Concurrent with the close of the Acquisition, IHHI
repaid the non-convertible secured promissory notes of $1,264,014 to Dr.
Chaudhuri and Mr. Thomas.
The Warrants are exercisable beginning January 27, 2007 and expire in 3.5 years
from the date of the issuance. The exercise price for the first 43 million
shares purchased under the Warrants is $0.003125 per share, and the exercise or
purchase price for the remaining 31.7 million shares is $0.078 per share if
exercised between January 27, 2007 and July 26, 2007, $0.11 per share if
exercised between July 27, 2007 and January 26, 2008, and $0.15 thereafter.
Based upon a valuation obtained by IHHI from an independent valuation firm, IHHI
has assigned a total fair value to the 74,700,000 warrants of $27,987,100 at the
date of grant, January 27, 2005. IHHI has recognized an expense of $16,434,173
related to the issuance of the Warrants during the three months ended March 31,
2005. IHHI computed the expense of the Warrants based on the fair value of the
Warrants at the date of grant and the maximum number of shares exercisable as of
March 31, 2005 of 41,291,892 (which constitutes 24.9% of the fully diluted stock
that would have been outstanding as of March 31, 2005 assuming maximum possible
exercise of the Warrants). IHHI has recorded the fair value of the remaining
unexercisable Warrants as of $11,552,927 as deferred warrant expense. IHHI will
recognize additional warrant expense in subsequent quarters over the term of the
Warrants of 3.5 years, based on any future increase in the number of the
Warrants that become exercisable.
Unaudited Pro Forma Financial Statements- The following Unaudited Pro Forma
Condensed Consolidated Financial Information of IHHI and its wholly-owned
subsidiaries give effect to the Acquisition and the Sale-Leaseback transactions.
The following Unaudited Pro Forma Condensed Consolidated Financial Information
does not include the nonrecurring charge related to the issuance of the Common
Stock Warrants on January 27, 2005. The historical financial information of IHHI
set forth below has been derived from the historical audited consolidated
financial statements of IHHI included in its annual report on Form 10-KSB for
the year ended December 31, 2004. The historical financial information of the
Tenet Hospitals set forth below has been derived from the historical audited
combined financial statements of the acquired hospitals, Western Medical Center
- - Anaheim, Western Medical Center - Santa Ana, Coastal Communities Hospital and
Chapman Medical Center, including certain other healthcare businesses related to
the operations of these hospitals (collectively, the "Tenet Hospitals") for the
year ended December 31, 2004. The Unaudited Pro Forma Condensed Consolidated
Balance Sheet as of December 31, 2004 includes the pro forma adjustments giving
effect to the Acquisition and Sale-Leaseback transactions as if they had
occurred on that date. The Unaudited Pro Forma Condensed Consolidated Statement
of Operations for the year ended December 31, 2004 include pro forma adjustments
giving effect to the Acquisition and Sale-Leaseback transactions as if they
occurred as of January 1, 2004.
The Unaudited Pro Forma Condensed Consolidated Financial Information is provided
for informational purposes only and does not purport to present the consolidated
financial position or results of operations of IHHI had the Acquisition and
Sale-Leaseback transactions occurred on the dates specified, nor is it
necessarily indicative of the consolidated financial position or results of
operations of IHHI that may be expected in the future. The Unaudited Pro Forma
Condensed Consolidated Financial Information should be read in conjunction with
Management's Discussion and Analysis of Financial Condition and Results of
Operations and the consolidated financial statements and notes thereto included
in IHHI's annual report on Form 10-KSB for the year ended December 31, 2004 and
its quarterly report on Form 10-Q for the quarter ended March 31, 2005.
INTEGRATED HEALTHCARE HOLDINGS, INC.
Unaudited Pro Forma Condensed Consolidated Balance Sheet
As of December 31, 2004
Pro-Forma Adjustments
Historical ----------------------------------
Historical Tenet Tenet Tenet Assets Pro Forma
ASSETS IHHI Hospitals Elimination Purchased IHHI
------------ ------------ ---------------------------------- ------------
Current assets:
Cash and cash equivalents $ 69,454 $ 244,146 $ (244,146)(6) $ 1,813,432 (1) $ 1,882,886
Accounts receivable, net -- 37,769,344 (37,769,344)(6) --
Inventories of supplies, at cost 5,913,638 (5,913,638)(6) 6,018,995 (1) 6,018,995
Prepaid expenses and other assets 18,519 8,579,284 (8,579,284)(6) 2,460,874 (1) 2,479,393
------------ ------------ ------------
87,973 52,506,412 10,381,274
Property and equipment, net 57,423 43,556,983 (43,556,983)(6) 59,493,353 (3) 59,550,776
Notes receivable from affiliate and
other assets 3,398,701 (3,398,701)(6) --
Investment in hospital asset purchase 11,142,145 (11,142,145)(2) --
Deferred loan fees, net 44,970 6,623,718 (6,623,718)(6) 1,933,000 (5) 1,977,970
------------ ------------ ------------
Total assets $ 11,332,511 $106,085,814 $ 71,920,000
============ ============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities
Current portion of debt & capital $ 11,264,013 $ 204,141 $ 50,000,000 (3) $ 53,204,141
leases (10,000,000)
(1,264,013)
3,000,000 (12)
Accounts payable 156,142 21,430,493 (21,430,493)(6) 156,142
Accrued compensation and benefits 800,313 9,997,093 (9,997,093)(6) 800,313
Medical claims incurred but not
reported 3,748,369 (3,748,369)(6) --
Accrued restructuring costs 3,917,768 (3,917,768)(6) --
Other current liabilities -- 2,488,838 (2,488,838)(6) 82,121 (1) 82,121
------------ ------------ ------------
Total current liabilities 12,220,468 41,786,702 54,242,717
Capital lease obligations, net -- 3,455,260 3,455,260
Due to affiliate 10,362,970 (10,362,970)(6) --
Minority interest in variable
interest entity -- 5,000,000(3) 5,000,000
Stockholders' equity:
Common stock 20,780 102,600(1) 123,380
Additional paid in capital 1,189,621 9,997,400(1) 11,187,021
Accumulated (deficit) earnings (2,098,358) 50,480,882 (50,480,882)(6) (2,098,358)
------------ ------------ ------------
Total stockholders' equity (887,957) 50,480,882 9,212,043
------------ ------------ ------------
Total liabilities and stockholders' equity $ 11,332,511 $106,085,814 $ 71,910,020
============ ============ ============
See accompanying notes to unaudited pro forma condensed consolidated
financial information
INTEGRATED HEALTHCARE HOLDINGS, INC.
Unaudited Pro Forma Condensed Consolidated Statement of Operations
As of December 31, 2004
Pro-Forma Adjustments
Historical ------------------------------------
Historical Tenet Tenet Tenet Assets Pro forma
IHHI Hospitals Elimination Purchased IHHI
------------- ------------- ------------------------------------ -------------
Net operating revenues $ -- $ 341,752,741 $ -- $ -- $ 341,752,741
Operating expenses:
Salaries and benefits 1,247,098 174,626,636 -- -- 175,873,734
Supplies 10,628 47,704,610 -- -- 47,715,238
Provision for doubtful accounts -- 42,038,130 -- -- 42,038,130
Other operating expenses 528,446 97,873,324 -- 1,497,491(7) 100,349,261
Depreciation and amortization 62,114 4,542,155 (4,542,155)(8) 3,534,613(8) 3,596,727
Restructuring charges -- 3,917,768 (3,917,768)(9) -- --
------------- ------------- -------------
1,848,286 370,702,623 369,573,090
Operating loss (1,848,286) (28,949,882) (27,820,349)
Interest expense, net -- 404,814 -- 7,420,000(10) 8,791,314
-- 966,500(5)
------------- ------------- -------------
Loss including minority interest and
before provision for income taxes (1,848,286) (29,354,696) (36,611,663)
Provision (benefit) for income taxes -- (5,672,000) 5,672,000(11) --(11) --
Minority interest in variable
interest entity -- -- -- (1,947,491)(7) (1,947,491)
------------- ------------- -------------
Net loss $ (1,848,286) $ (23,682,696) $ (34,664,172)
============= ============= =============
Basic loss per share from continuing
operations $ (0.09) $ (0.28)
Diluted loss per share from continuing
operations $ (0.09) $ (0.28)
Number of shares used in per
share computation:
Basic 19,986,750 (13) 124,539,000
Diluted 19,986,750 (13) 124,539,000
See accompanying notes to unaudited pro forma condensed consolidated
financial information
Notes to Unaudited Pro Forma Condensed Consolidated Financial Information
Pro forma adjustments for the unaudited pro forma condensed consolidated
financial information are as follows:
(1) Reflects IHHI's completion of its acquisition on March 8, 2005 of four
Orange County, California hospitals and associated real estate (the
"Acquisition"), including: (i) 282-bed Western Medical Center--Santa Ana,
CA; (ii) 188-bed Western Medical Center--Anaheim, CA; (iii) 178-bed
Coastal Communities Hospital in Santa Ana, CA; and (iv) 114-bed Chapman
Medical Center in Orange, CA (collectively, the "Hospitals") from Tenet
Healthcare Corporation ("Tenet"). IHHI financed the Acquisition through
the issuance of debt of $53 million, the sale of 102,600,000 shares of
IHHI's common stock for proceeds of $10.1 million, proceeds of $5 million
from the sale of all of the real property of the acquired hospitals to
Pacific Coast Holdings, Inc., a related party, ("PCHI") and the assumption
of capital lease obligations of $3,659,401 (current portion of $204,141).
IHHI's debt consists of two promissory notes that bear interest at 14% and
have terms of two years. The purchase price, after all purchase price
adjustments, of the Acquisition amounted to $66,164,700. The fair value of
the tangible assets acquired and liabilities assumed consisted of the
following:
Property and equipment $ 59,493,353
Inventories of supplies 6,018,995
Prepaid expenses and other assets 2,460,874
Deferred loan fees 1,933,000
Capital lease obligations (3,659,401)
Other assumed liabilities (82,121)
-------------
$ 66,164,700
=============
(2) Reflects the return of IHHI's $10 million initial deposit on the
Acquisition and accrued interest to Dr. Chaudhuri and the cancellation of
the $10 million secured promissory note with IHHI in connection with the
Rescission, Restructuring and Assignment Agreement entered into on January
27, 2005 (the "Restructuring Agreement"). In addition, amount reflects the
reclassification of direct acquisition costs of $1,142,145 to property and
equipment upon the close of the Acquisition.
(3) In connection with the sale of all of the real property of the Hospitals,
the Company entered into a triple net lease with PCHI to leaseback this
real property for an initial term of 25 years. PCHI is a related party
entity that is affiliated with the Company through common ownership and
control. It is owned 51% by West Coast Holdings, LLC (Dr. Shah and
investors) and 49% by Ganesha Realty, LLC (Dr. Chaudhuri and Mr. Thomas).
Generally accepted accounting principles require that a company
consolidate the financial statements of any entity that cannot finance its
activities without additional subordinated financial support, and for
which one company provides the majority of that support through means
other than ownership. Effective March 8, 2005, the Company determined that
it provided the majority of financial support to PCHI through various
sources including lease payments, remaining primarily liable under the $50
million debt, and cross-collateralization of the Company's non-real estate
assets to secure the $50 million debt. Accordingly, the pro forma
adjustment reflects the consolidation of the net assets of PCHI, which
include property and equipment and the $50 million acquisition note. In
addition, the consolidation of PCHI reflects the equity accounts of PCHI
as minority interest in variable interest entity.
See accompanying notes to unaudited pro forma condensed consolidated
financial information
(4) Reflects the repayment of $1,264,013 of secured promissory notes to Dr.
Chaudhuri and Mr. Thomas concurrent with the close of the Acquisition and
in connection with the Restructuring Agreement.
(5) Reflects deferred loan fees incurred in connection with the issuance of
the $50 million acquisition note and the $30 million non-revolving Line of
Credit in connection with the close of the Acquisition. IHHI has accounted
for the debt issuance costs as deferred loan fees and is amortizing such
fees to interest expense over the two year term of the notes.
(6) Reflects the elimination of the certain assets, liabilities, and retained
earnings of the Tenet Hospitals that IHHI did not acquire in the
Acquisition. The Acquisition consisted of an asset purchase of property
and equipment, inventories of supplies, prepaid expense and other current
assets, and the assumption of certain capital leases and other
liabilities.
(7) Reflects the consolidation of PCHI's net losses, which consists of rental
income from IHHI of $7,976,420, interest expense related to the $50
million acquisition note and amortization of deferred loan fees totaling
$7,723,911, and depreciation expense of $2,200,000.
(8) As a result of the Acquisition and Sale-leaseback transactions, the
Company is in the economic position of having a leasehold interest in the
hospital properties in which it conducts its business. For financial
reporting purposes the Company has determined that the 25 year renewal
option does not constitute either a bargain renewal option or a bargain
purchase option and, therefore, has determined the term of the lease of
the hospital assets to be 25 years, and will depreciate and amortize the
property and equipment acquired in the Hospital Acquisition over periods
not to exceed such term because any residual value the assets may have
after such time is the property of PCHI. Accordingly, the pro forma
statements of operations reflect adjustments to: (1) eliminate Tenant's
historical depreciation expense; (2) depreciate and amortize the acquired
property and equipment over their estimated useful lives but limited to
the 25 year lease term.
(9) Reflects the elimination of the Tenet Hospitals restructuring charges,
related to employee severance and retention costs made by Tenet. These
nonrecurring charges have been eliminated as they are not indicative of
IHHI's ongoing operations.
(10) Reflects accrued interest expense on the $50 million acquisition note and
$3 million outstanding on IHHI's non-revolving Line of Credit. The pro
forma interest was calculated using the notes stated interest rate of 14%.
IHHI's non-revolving Line of Credit allows for a maximum of $30 million in
borrowings.
(11) Reflects the elimination of the Tenet Hospitals benefit from income taxes.
IHHI is not eligible to recognize a benefit from income taxes due to its
limited operating history of losses and its limited ability to carryback
any losses. IHHI included the Acquisition and Sale-leaseback transactions
in its pro forma income tax provision, which resulted in a deferred tax
asset of approximately $4,800,000. IHHI recognized a full valuation
allowance of its deferred tax asset of approximately $4,800,000 for the
year ended December 31, 2004.
(12) Reflects IHHI's $3 million draw on its $30 million non-revolving Line of
Credit, which it used to complete the Acquisition.
(13) Pro forma net loss per share is based upon the number of shares of common
stock outstanding after the Acquisition and Sale-leaseback transactions as
if they occurred as of January 1, 2004. The pro forma net loss per share
does not account for the nonrecurring Common Stock Warrant transaction,
which was recorded by IHHI during the three months ended March 31, 2005.