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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED MARCH 31, 1997
COMMISSION FILE NUMBER: 0-26980
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ARV ASSISTED LIVING, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
CALIFORNIA 33-0160968
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
245 FISCHER AVENUE, SUITE D-1
COSTA MESA, CALIFORNIA 92626
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
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Registrant's telephone number, including area code: (714) 751-7400
Securities registered pursuant to Section 12(b) of the Act:
TITLE OF CLASS NAME OF EACH EXCHANGE ON WHICH REGISTERED
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Common Stock, no par value NASDAQ National Market
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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 if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not 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-K or any amendment to this
Form 10-K.
As of June 19, 1997, the aggregate market value of the voting stock held by
non-affiliates of registrant was $77,019,244 (for purposes of calculating the
preceding amount only, all directors, executive officers and shareholders
holding 5% or greater of the registrant's Common Stock are assumed to be
affiliates). The number of shares of Common Stock of the registrant outstanding
as of June 19, 1997 was 9,662,990.
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ARV ASSISTED LIVING, INC.
INDEX TO ANNUAL REPORT ON FORM 10-K
FOR THE FISCAL YEAR ENDED MARCH 31, 1997
PAGE
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PART I
Item 1: Business................................................................... 1
Item 2: Properties................................................................. 18
Item 3: Legal Proceedings.......................................................... 20
Item 4: Submission of Matters to a Vote of Security Holders........................ 21
PART II
Item 5: Market for Registrant's Common Equity and Related Shareholder Matters...... 21
Item 6: Selected Financial Data.................................................... 23
Item 7: Management's Discussion and Analysis of Financial Condition and Results of
Operations................................................................. 24
Item 8: Financial Statements and Supplementary Data................................ 31
Item 9: Changes in and Disagreements with Accountants on Accounting and Financial
Disclosure................................................................. 31
PART III
Item 10: Directors and Executive Officers of the Registrant......................... 32
Item 11: Executive Compensation..................................................... 35
Item 12: Security Ownership of Certain Beneficial Owners and Management............. 39
Item 13: Certain Relationships and Related Transactions............................. 40
PART IV
Item 14: Exhibits, Financial Statement Schedules, and Reports on Form 8-K........... 41
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PART I
ITEM 1. BUSINESS
GENERAL
ARV Assisted Living, Inc. ("ARV" or the "Company") is one of the largest
operators of licensed assisted living facilities ("ALFs") in the United States.
The Company is a fully integrated provider of assisted living accommodations and
services that operates, acquires and develops assisted living facilities. The
Company's operating objective is to provide high quality, personalized assisted
living services to senior elderly residents in a cost effective manner, while
maintaining residents' independence, dignity and quality of life. ALFs comprise
a combination of housing, personalized support services and health care in a
non-institutional setting designed to respond to the individual needs of the
senior elderly who need assistance with certain activities of daily living, but
who do not need the level of health care provided in a skilled nursing facility.
The Company has implemented its plan to expand its operations through the
acquisition and development of new ALFs. To this end, the Company has expanded
its operations through acquisitions in California, Ohio, Florida, Indiana,
Michigan and Virginia, and it has developed or is in the process of constructing
new ALFs in California, Florida, Texas, New Mexico, Indiana, Massachusetts, New
York and Nevada. At March 31, 1997, the Company operated 45 ALFs containing
5,855 units. As of June 19, 1997, the Company operated 47 ALFs containing
approximately 6,000 units. Of the 47 ALFs, the Company operates 14 Owned ALFs
(as defined below) and 31 Leased ALFs (as defined below), and manages two ALFs
("Managed ALFs"). "Owned ALFs" means ALFs owned by the Company directly or by
affiliated limited partnerships for which the Company serves as managing general
partner and facility manager ("Affiliated Partnerships") in which the Company
has a majority ownership interest. "Leased ALFs" means ALFs operated under long-
term operating leases for the Company's own account or for Affiliated
Partnerships in which the Company has a majority ownership interest. In
addition, the Company has five ALFs currently under construction that are
expected to contain 661 units.
The Company has utilized lease and mortgage financing with health care real
estate investment trusts ("Health Care REITs"), private companies and commercial
banks to help facilitate its growth strategy. The Company has also used the
proceeds of a $57.5 million convertible subordinated debt issuance to help
effectuate its growth strategy.
The Company intends to continue to expand its existing portfolio through
the acquisition and development of Owned ALFs as well as through the operation
of Leased ALFs. This blend of ownership structures is anticipated by management
to allow the Company to fund its growth in a balanced and efficient manner.
The Company intends to continue to focus on "private-pay" residents, who
pay for the Company's services from their own funds or through private
insurance, rather than relying on potential residents who live in the few states
that have enacted legislation enabling ALFs to receive Medicaid funding similar
to funding generally provided to skilled nursing facilities. Currently,
approximately 96% of the Company's ALF revenue comes from private-pay residents,
while the remaining 4% of such revenue comes from residents in the Supplemental
Security Income ("SSI") program.
The Company's ALFs provide residents with a combination of living
accommodations, basic care services and assisted living services. The residents
of the Company's ALFs average 85 years of age and often require assistance with
certain activities of daily living. The Company provides its assisted living
residents with private or semi-private rooms or suites, meals in a communal
setting, housekeeping, linen and laundry services, activities programs,
security, utilities, and transportation in a Company van or minibus. The Company
also provides a three-tier assisted living service structure to which residents
can subscribe as they require assistance with other activities of daily living,
including personal care, assistance with bathing, grooming, dressing, personal
hygiene and escort services to meals and activities.
Further, the Company has implemented a Wellness Program at all of its 47
facilities, pursuant to which the Company arranges for the provision of certain
health care services to its residents. As a means of strengthening its Wellness
Program, the Company, through its wholly owned subsidiary, ARV Health Care,
Inc., acquired SynCare, Inc., a physical, speech and occupational therapy
provider, as of August 22, 1996 in a
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stock-for-stock merger. SynCare, Inc. was the holding company of three
corporations, BayCare Rehabilitative Services Inc., ProMotive Rehabilitation
Services and Pro Motion Rehab. BayCare Rehabilitative Services Inc. and Pro
Motion Rehab have been merged into ProMotive Rehabilitation Services, which does
business under the name GeriCare ("GeriCare"). GeriCare specializes in
rehabilitative services, including speech, occupational and physical therapy.
In addition to operating and managing ALFs, the Company has also acquired
or developed market rate senior apartments, as well as affordable senior and
multifamily apartment communities using the sale of tax credits under a federal
low income housing tax credit program (the "Federal Tax Credit Program") to
generate the equity funding for development. The Company does not intend to
expand its apartment portfolio and will not grow this segment of the business in
the future.
The Company or its affiliated entities have been continuously involved in
the acquisition, development and operation of senior housing facilities for more
than 20 years. In 1980, Mr. Gary L. Davidson, the Company's Chairman, CEO and
President, and Mr. John Booty, retired President and current Vice Chairman of
the Board, with two other individuals who have since retired, formed the
predecessor to the Company. Since that time, the Company has built an executive
management team and assisted living operation with experience and expertise in
the management, financing, acquisition, development and operation of ALFs.
THE ASSISTED LIVING MARKET
Assisted Living. Assisted living can be viewed as falling near the middle
of the elder care continuum, between home-based care at one end and long-term
skilled nursing facilities and acute care hospitals at the other. Assisted
living represents a combination of housing, personalized support services, and
health care designed to respond to the individual needs of the senior elderly
who need help in activities of daily living, but do not need the medical care
provided in a skilled nursing facility.
The Company believes its assisted living business benefits from significant
trends affecting the long-term care industry. The first is an increase in the
demand for elder care resulting from the continued aging of the U.S. population,
with the average age of the Company's assisted living residents falling within
the fastest growing segments of the U.S. population. While increasing numbers of
Americans are living longer and healthier lives, many gradually require
increasing assistance with activities of daily living, and are not able to
continue to age in place at home. The second is the effort to contain health
care costs by the government, private insurers and managed care organizations by
limiting lengths of stay, services, and reimbursement amounts to persons in
acute care hospitals and skilled nursing facilities. Assisted living offers a
cost effective long-term care alternative while preserving a more independent
lifestyle for those senior elderly who do not require the broader array of
medical services that acute care hospitals and skilled nursing facilities are
required to provide. As of March 31, 1997, monthly revenue from the Company's
ALFs on a "same store basis" (defined as those facilities which the Company
owned, managed or leased for a period of 12 months or more as of March 31, 1997)
averaged $1,662 per occupied unit compared to $1,579 per occupied unit as of
March 31, 1996. Other trends benefiting the Company include the increased
financial net worth of the elderly population, the increase in the population of
individuals living alone and the increasing number of women who work outside the
home and are therefore less able to care for their elderly relatives. The
Company believes that these trends will result in an increasing demand for
assisted living services and facilities to fill the gap between aging at home
and aging in more expensive skilled nursing facilities.
Aging Population. The primary consumers of long-term health care services
are persons over the age of 65. This group represents one of the fastest growing
segments of the population. According to U.S. Bureau of the Census data, the
segment of the population over 85 years of age, which comprises the largest
percentage of residents at long-term care facilities, is projected to increase
by 40% between the years 1990 and 2000.
As the ratio of senior elderly in need of assistance has increased, so too
has the number of senior elderly able to afford assisted living. According to
U.S. Bureau of the Census data, the median net worth of householders age 75 or
older increased from $55,178 in 1984 and $61,491 in 1988 to $77,654 in 1993.
Furthermore, according to the same source, the percentage of people 65 years and
older below the poverty line decreased from 27.3% in 1970 to 14.8% in 1980 to
12.2% in 1993. The increased number of women in the labor
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force has reduced the supply of care givers. Historically, unpaid women (mostly
daughters or daughters-in-law) represented a large portion of the care givers of
the non-institutionalized senior elderly. Since 1960, the population of
individuals living alone has increased significantly as a percentage of the
total elderly population. This increase has been the result of an aging
population in which women outlive men by an average of 6.8 years, rising divorce
rates, and an increase in the number of unmarried individuals.
Limitation on the Supply of Long-Term Care Facilities. The majority of
states in the U.S. have enacted Certificates of Need or similar legislation,
which generally limits the construction of skilled nursing facilities and the
addition of beds or services in existing skilled nursing facilities. High
construction costs, limitations on government reimbursement for the full cost of
construction, and start-up expenses also act to constrain growth in the supply
of such facilities. Such legislation benefits the assisted living industry by
limiting the supply of skilled nursing beds for the senior elderly. Cost factors
are placing pressure on skilled nursing facilities to shift their focus toward
higher acuity care which enables them to charge higher fees, thus creating a
shortage of lower acuity care availability, and thereby increasing the pool of
potential assisted living residents.
While Certificates of Need generally are not required for assisted living
facilities, except in a few states, most states do require assisted living
providers to license their facilities and comply with various regulations
regarding building requirements and operating procedures and regulations. States
typically impose additional requirements on assisted living facilities over and
above the standard congregate care requirements. Further, the limited pool of
experienced assisted living staff and management, as well as the costs and
start-up expenses to construct an assisted living facility, provide an
additional barrier of entry to the assisted living business.
Cost Containment Pressures of Health Reform. In response to rapidly rising
health care costs, both government and private pay sources have adopted cost
containment measures that have encouraged reduced length of stay in hospitals
and skilled nursing facilities. The federal government has acted to curtail
increases in health care costs under Medicare by limiting acute care hospital
reimbursement for specific services to preestablished fixed amounts. Private
insurers have also begun to limit reimbursement for medical services in general
to predetermined "reasonable" charges. Managed care organizations, such as
health maintenance organizations ("HMOs") and preferred provider organizations
("PPOs") are reducing hospitalization costs by negotiating for discounted rates
for hospital services and by monitoring and decreasing hospitalization. The
Company anticipates that both HMOs and PPOs increasingly may direct patients
away from the more expensive nursing care facilities into less expensive ALFs.
These cost containment measures have produced a "push-down" effect. As the
number of patients being "pushed down" from acute care hospitals to skilled
nursing facilities increases, the demand for residential options such as
assisted living facilities to serve patients who historically have been served
by skilled nursing facilities will also increase. In addition, skilled nursing
facility operators are continuing to focus on improving occupancy and expanding
services (and fees) to subacute patients requiring very high levels of nursing
care. As the level of skilled nursing facility patients increases, the supply of
nursing facility space will be filled by patients with higher acuity needs
paying higher fees, which again will provide opportunities for assisted living
facilities to increase their occupancy and services to residents requiring
lesser levels of care than generally can be expected for patients in skilled
nursing facilities.
THE COMPANY'S ASSISTED LIVING SERVICES
The Company provides services and care which are designed to meet the
individual needs of its residents. The services provided by the Company are
designed to enhance both the physical and mental well-being of the senior
elderly in each of its facilities by promoting their independence and dignity in
a home-like setting. The Company's assisted living program includes the
following:
Personalized Care Plan. A primary element of the Company's strategy is
the concept of "personalized" care to meet each resident's specific needs.
This concept of customizing services to meet the needs of the residents
begins with the resident admissions process, where the facility's
management staff, the resident, the resident's family, and the resident's
physician discuss the resident's needs and develop a plan for the
resident's care. If recommended by the resident's physician, additional
health care or medical
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services may be provided at the facility by a third party home health care
agency or other medical provider. The care plan is reviewed and modified on
a regular basis.
Basic Service and Care Package. The basic service and care package at
the Company's ALFs generally includes the following: meals in a communal,
"home-like" setting, housekeeping, linen and laundry service, social and
recreational programs, security, utilities and transportation in a Company
van or minibus. Other care services can be provided under the basic package
based upon the individual's personalized health care plan. While the amount
of the fee for the basic service package varies from facility to facility,
on a "same facility basis" (defined as those facilities which the Company
owned, managed or leased for a period of four quarters or more as of March
31, 1997) the average basic monthly rate per unit was approximately $1,380
per month as of March 31, 1997, compared to an average of $1,315 as of
March 31, 1996.
Additional Services. The Company has designed its additional assisted
living services generally in a three-tier program available to residents on
a personalized basis.
Level One: Assistance to residents in the self-administration of
medication. Where necessary, the assisted living staff
will consult with the family, the physician or the
insurance company of a resident to designate a home health
care agency to administer the appropriate medication.
Level Two: In addition to the services provided under Level One,
assistance with bathing, dressing and grooming, escorting
to and from meals and activities, reading mail, writing
letters, shopping and other specialized activities. These
services are provided on an as-needed basis and at the
convenience of the resident within the overall operation
of the facility.
Level Three: All of the services provided under Level One and Level
Two, and, in addition, provision of those services on a
24-hour basis. Further, this level provides appropriate
services for individuals who need help with incontinence.
In addition to the above three levels, the Company provides other levels of
assistance to its residents in order to meet their individual needs.
As of March 31, 1997, approximately 63% of the Company's residents were on
the basic plan, 18% on Level One, 15% on Level Two and 4% on Level Three. In
addition to the base rent, the Company typically charges a $375 per month fee
for Level One assisted living services, $700 per month for Level Two assisted
living services and $1,125 to $1,400 per month for Level Three assisted living
services, but the fee levels vary from facility to facility. At some facilities,
the Company may charge additional fees for other specialized assisted living
services. As the Company's residents age at the facilities, the Company expects
that an increasing number of residents will utilize Level Two and Level Three
services. The Company's internal growth plan is focused on increasing revenue by
continuing to expand the number and diversity of its tiered additional assisted
living services and the number of residents using these services. There can be
no assurance that, at any time, any assisted living facility will be
substantially occupied at assumed rents. In addition, lease-up and full
occupancy may be achievable only at rental rates below those assumed. If
operating expenses increase, local rental market conditions may limit the extent
to which rents may be increased. Because rent increases generally can only be
implemented at the time of expiration of leases, rental increases may lag behind
increases in operating expenses.
The average monthly revenue per occupied unit for both the basic service
and the additional services for the year ended March 31, 1997 increased to
$1,610 from $1,170 a year earlier on a same facility basis.
Wellness Program. The Company has implemented a Wellness Program for the
residents of its facilities designed to identify and respond to changes in a
resident's health or condition and then, together with the resident and the
resident's family and physician, as appropriate, design a solution to fit that
resident's particular needs. The Company monitors the physical and mental
well-being of its residents. This monitoring activity takes place at meals and
other scheduled activities, and informally as the staff performs its services
around the facility. Under the Wellness Program, the Company works with home
health care agencies to
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provide services the facility cannot provide, with physical and occupational
therapists to provide these services to residents in need of such therapy, and
with a long-term care pharmacy to facilitate cost effective and reliable
ordering and distribution of medication. The Company arranges for these services
to be provided to residents as needed in consultation with their physicians and
families. At the present time, all of Company's ALFs have a comprehensive
Wellness Program. The Company is in the process of implementing the Wellness
Program at the balance of its facilities, the majority of which have been
recently acquired.
GROWTH STRATEGIES
Overview. The Company's growth strategy focuses on development of ALFs,
expansion of the level and depth of assisted living services, and continued
intensive facilities management.
The Company will seek to grow by increasing its portfolio of ALFs through
acquisition and development. The Company's strategic plan calls for the
acquisition and development of ALFS through direct ownership and the use of
long-term operating leases with institutional investors such as Health Care
REITs, as well as through direct ownership financed with secured debt from
Health Care REITs or other lenders. The Company believes that this blend of
ownership structures allows the Company to fund its growth in a balanced and
cost effective manner.
The Company and its predecessors have acquired and developed assisted
living and senior housing facilities over the past 17 years. During this period,
the Company and its predecessors have acquired 37 ALFs, including one portfolio
of eight facilities, and developed ten ALFs currently in operation. In addition,
the Company's recent or current development of 18 apartment communities it
operates throughout the U.S. has further increased its development experience.
As the Company continues its expansion, it may become more difficult to manage
geographically dispersed operations. Management believes the Company has
developed and expanded its operational, financial and management information
systems and procedures and has established an infrastructure to support
development on a national basis.
The Company's strategy is to expand by targeting areas where there is a
need for ALFs based on demographics and market studies. The Company intends to
continue to expand its assisted living operations throughout the U.S., locating
its facilities in clusters, that is, areas where it has other existing
facilities or geographic areas where it intends to acquire or develop other
ALFs. In this way, the Company seeks to increase the efficiency of its
management resources and to achieve broader economies of scale.
A substantial portion of the business and operations of the Company are
conducted in California, where 30 of the 55 ALFs operated, managed or in
development by the Company are located. Other regional concentrations of ALFS
are planned for Florida, Texas, Ohio, Michigan and the Northeast. The market
value of these properties and the income generated from properties managed or
leased by the Company could be negatively affected by changes in local and
regional economic conditions and by acts of nature. A worsening of current
economic conditions in these areas of concentration, or a downturn in the
economic conditions in its other regions, could have a negative effect on the
Company's business.
Increase Sales of Additional Assisted Living Services. The Company believes
that many custodial services provided in skilled nursing facilities are
available at approximately two-thirds of the cost in the Company's ALFs. The
Company believes that this differential will enable the Company to attract
additional residents. By increasing the usage of these services by its
residents, the Company believes it should enable residents to stay at the
Company's ALFs longer, rather than having to transfer to more expensive skilled
nursing facilities. The Company has been a pioneer in providing these services,
which allow its senior elderly residents to age in place at the facility without
having to move to a more expensive alternative until that move becomes
absolutely necessary.
The Company seeks to enhance and increase the amount and diversity of
assisted living services it provides through (i) the continued education of the
senior community, and particularly the residents and their families, concerning
the cost effectiveness of receiving additional services in an assisted living
facility, (ii) the continued development and refinement of assisted living
programs designed to meet the needs of its residents as they age in place and
(iii) the consistent delivery of quality services for residents.
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Development. The Company will seek to grow primarily through the
development of new ALFs in its targeted markets. The Company's primary
development strategy is to conduct its development activities in conjunction
with developers and builders in clustered geographic areas throughout the U.S.
Typically, the Company's regional developers receive development or construction
fees in connection with the construction of the project. In all cases, the
Company has the right to approve acquisitions and all aspects of development
including site selection, design, plans and specifications, development budgets,
choice of general contractor and major subcontractors, and other significant
criteria.
In long-term operating lease transactions, when the subject property is
ready for construction, it typically is acquired by the Health Care REIT
financing the project, with the development performed by the Company, or in
conjunction with regional developers in certain cases, under a contractual
arrangement with the Health Care REIT. Concurrently, the Company enters into a
long-term operating lease which becomes effective when the facility is
completed. The Health Care REIT typically bears 100% of the development costs
which may also include development or construction supervision fees for the
Company. The Company typically incurs up-front development costs in connection
with the due diligence and entitlement process and architectural and engineering
fees incurred in connection with preparing the property for purchase by the
Health Care REIT at the beginning of construction. The Company currently leases
facilities from four Health Care REITs. The lease agreements with each of the
Health Care REITs are interconnected in that the Company will not be entitled to
exercise its right to renew one lease with a particular Health Care REIT without
exercising its right to renew all other leases with that Health Care REIT and
that leases with each Health Care REIT contain certain cross default provisions.
Therefore, in order to exercise all lease renewal terms, the Company will be
required to maintain and rehabilitate the leased facilities on a long-term
basis.
As part of its growth strategy, the Company plans to develop new ALFs. The
Company's ability to achieve its development plans will depend upon a variety of
factors, many of which are beyond the Company's control. These and other factors
are detailed below. See Risk Factors -- Risks Common to the Company's assisted
living operations -- Development and Construction Risks. The successful
development of additional ALFs would involve a number of risks, including the
possibility that the Company may be unable to locate suitable sites at
acceptable prices or may be unable to obtain, or may experience delays in
obtaining, necessary zoning, land use, building, occupancy, licensing and other
required governmental permits and authorizations. Certain construction risks are
beyond the Company's control, including strikes, adverse weather, natural
disasters, supply of materials and labor, and other unknown contingencies which
could cause the cost of construction and the time required to complete
construction to exceed estimates. In order to keep its internal costs to a
minimum, the Company relies, and will continue to rely, on third party general
contractors to construct its new ALFs. If construction is not commenced or
completed, or if there are unpaid subcontractors or suppliers, or if required
occupancy permits are not issued in a timely manner, cash flow could be
significantly reduced. In addition, any property in construction is subject to
risks including construction defects, cost overruns, adverse weather conditions,
the discovery of geological or environmental hazards on the property and changes
in zoning restrictions or the method of applying such zoning restrictions. The
nature of licenses and approvals necessary for development and construction, and
the timing and likelihood for obtaining them vary widely from state to state,
and from community to community within a state.
Acquisitions. The Company believes that the assisted living industry's
fragmentation and ongoing consolidation provide attractive acquisition
opportunities. Through its internal acquisition team, its network of real estate
broker contacts and its regional partners and allies, the Company seeks to
acquire single ALFs or groups of ALFs from smaller owners and operators in its
targeted markets. In evaluating possible acquisitions, the Company considers (i)
the location, construction quality, condition and design of the facility, (ii)
the current and projected cash flow of the facility and the anticipated ability
to increase revenue through rent and occupancy increases, additional assisted
living services and management and (iii) the ability to acquire the facility
below replacement cost. However, there can be no assurance that the Company will
be able to find additional suitable facilities to continue its current growth
rate.
By developing and operating ALFs and senior and multifamily apartment
communities in 14 states, the Company has generated numerous contacts through
which it is able to identify possible acquisitions in the early stage of the
sale process. The Company's sources for prospective acquisitions range from
Affiliated
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Partnerships to management's contacts with potential ALF sellers to the
Company's local and regional personnel who monitor the assisted living market in
their area. Management intends to pursue both individual and portfolio
acquisitions and believes the Company will be able to achieve greater value from
its acquisitions as the facilities manager.
In certain instances, the Company may target existing ALFs which may be
redeveloped or repositioned as management believes a number of acquisition
opportunities may reflect situations where existing owners are not operating,
maintaining or leasing such facilities efficiently. Although the Company will
focus future acquisition efforts primarily on the acquisition, directly or
through long-term operating leases, of additional ALFs, it may in certain cases
also target additional third party management contracts as an interim step to
facilities acquisition.
The Company has acquired certain existing ALFs from affiliated entities as
well as third parties and may consider acquiring additional existing ALFs from
other Affiliated Partnerships. There can be no assurance that the Company will
pursue any such transactions or that, if pursued, such transactions will be
completed successfully by the Company.
The Company's acquisitions of existing ALFs are anticipated to be financed
through direct long-term operating lease transactions with institutional
investors such as Health Care REITs, as well as ownership acquisitions using
equity and secured debt. In long-term operating lease transactions, the Company
typically arranges the sale of the prospective assisted living facility to a
Health Care REIT or other institutional investor while concurrently entering
into a long-term operating lease for the facility. The Company's initial cost
generally is limited to a security deposit. Thereafter, the Company is obligated
to make certain rental payments (which may include an additional amount related
to revenue of the facility) for the term of the lease. While the Company
believes that it has been and will continue to be conservative in projecting
lease-up costs and expenses as well as the achievement of rent stabilization,
the failure of the Company to generate sufficient revenue could result in an
inability to meet minimum rent obligations under the Company's long-term
operating leases.
FACTORS AFFECTING FUTURE RESULTS REGARDING FORWARD-LOOKING STATEMENTS
The Company's business, results of operations and financial condition are
subject to many risks, including those set forth below. Certain statements
contained in this report, including without limitation statements containing the
words "believes," "anticipates," "expects," and words of similar import,
constitute "forward-looking statements" within the meaning of the Private
Securities Litigation Reform Act of 1995. Such forward-looking statements
involve known and unknown risks, uncertainties and other factors which may cause
the actual results, performance or achievements of the Company, or industry
results, to be materially different from any future results, performance or
achievements expressed or implied by such forward-looking statements. The
Company has made forward-looking statements in this report concerning, among
other things, the impact of future acquisitions and developments, if any, and
the level of future capital expenditures. These statements are only predictions,
however; actual events or results may differ materially as a result of risks
facing the Company. These risks include, but are not limited to, those items
discussed below. Certain of these factors are discussed in more detail elsewhere
in this report, including without limitation under the captions "Business" and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations." Given these uncertainties, readers are cautioned not to place undue
reliance on such forward-looking statements, which speak only as of the date of
this report. The Company disclaims any obligation to update any such factors or
to publicly announce the result of any revisions to any of the forward-looking
statements contained herein to reflect future events or developments.
The Company has experienced rapid growth through the acquisition of
existing ALFs and by acquiring property for the development of new ALFs.
Although the Company has been successful in implementing its growth strategy,
certain risks are inherent with the execution of this plan. These risks include,
but are not limited to, access to capital necessary for acquisition and
development, the Company's ability to sustain and manage growth, governmental
regulation, competition, and the risks common to the assisted living industry.
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CAPITAL REQUIREMENTS
In implementing its planned growth strategy by acquiring existing ALFs and
properties for development, and in funding development of acquired properties,
as of March 31, 1997, the Company has expended substantially all of the $55.2
million net proceeds received from the sale of its 6 3/4% Convertible
Subordinated Notes due 2006 (the "2006 Note Offering"). The Company intends to
refinance certain facilities and investments to replace expended funds.
Additionally, as of March 31, 1997, the Company had borrowed $20.9 million to
partially fund the costs of facility acquisitions. The Company has entered into
separate agreements with Health Care REIT, Inc., Meditrust, Bank United of Texas
and Imperial Bank to provide up to $210 million of financing for acquisitions,
development and general corporate purposes. At March 31, 1997, $39.9 million of
these commitments had been expended ($23.4 million for Leased ALFS, $8.8 million
for mortgage financing of Owned ALFs, and $7.7 million for the construction of
an ALF owned by an Affiliated Partnership which is guaranteed by the Company).
Additionally, at March 31, 1997, the Company has used $6.9 million of the line
of credit with Imperial Bank in the form of non-cash advances to provide letters
of credit used as security deposits for leased ALFs. The Company intends to
finance certain of its ALFs and investments in property to be developed in order
to redeploy the capital.
The Company estimates that the net proceeds of these financing agreements,
in conjunction with other financial resources, will provide adequate capital to
fund the Company's development and acquisition program for additional ALFs over
the next 12 months. The Company will be required from time to time to incur
additional indebtedness or issue additional debt or equity securities to finance
its growth strategy, including the acquisition and development of facilities as
well as other capital expenditures and additional funds to meet increased
working capital requirements. The Company may finance future acquisitions and
development through a combination of its cash reserves, its cash flow from
operations, utilization of its current lines of credit, leasing of existing ALFs
and ALFs in development, sale/leaseback arrangements with respect to its Owned
ALFs, and additional indebtedness or public or private sales of debt securities
or capital stock. There can be no assurance, however, that funds will be
available on terms favorable to the Company, that such funds will be available
when needed, or that the Company will have adequate cash flows from operations
for such requirements.
HISTORY OF LOSSES
For the years ended March 31, 1997, 1996 and 1995, respectively, the
Company had net losses of $1.8 million, $965,000 and $3.0 million, respectively.
At March 31, 1997, the Company's accumulated deficit was $9.4 million. The
Company's net losses have resulted principally from (i) the development of its
affordable apartment communities financed through the Federal Tax Credit
Program, in which the Company receives fees that are not recognized under
generally accepted accounting principles until certain risks associated with the
assumed operating deficits and tax credit guarantees have been reduced to
specified levels, (ii) provision for estimated future obligations of the Company
for its tax credit properties and certain allowances established for Medicare
reimbursement regarding the Company's rehabilitation subsidiary, GeriCare, (iii)
the expansion of the Company's staffing and infrastructure to accommodate the
Company's acquisition and development strategy, (iv) start-up losses incurred in
operations of newly developed ALFs, and (v) certain discontinued project costs.
See "Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Results of Operations." There can be no assurance that the risks
associated with the tax credit financed developments will be reduced
sufficiently to allow recognition of the associated fees, that operating issues
can be managed to reduce or eliminate obligations under operating deficit
guarantees, that other similar costs and expenses or losses will not occur in
the future or that other expected revenue will be recognized when expected. See
" -- Indebtedness, Lease and Other Obligations of the Company," "-- General
Partner Liability and Status," "-- Tax Credit Properties" and "Management's
Discussion and Analysis of Financial Condition and Results of
Operations -- Results of Operations" and "-- Liquidity and Capital Resources."
While management believes that internal review procedures have been put into
place which should reduce Medicare disallowances in future quarters, there can
be no assurance that the risks associated with the Medicare-reimbursed segment
of the Company's business can be eliminated or even substantially reduced. See
"-- Dependence on Reimbursement by Third-Party Payors."
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RAPID GROWTH
Management of Growth. As part of its ongoing business, the Company has
experienced and expects to continue to experience rapid growth. The Company is
planning significant expansion both through internal expansion and acquisitions
and development. In order to maintain and improve operating results, the
Company's management must manage growth and expansion effectively. See "-- Risks
Common to the Company's Assisted Living Operations." The Company's ability to
manage its growth effectively requires it to continue to expand its operational,
financial and management information systems and to continue to attract, train,
motivate, manage and retain key employees. As the Company continues its
expansion, it may become more difficult to manage geographically dispersed
operations and effectively manage each ALF. The Company's failure to effectively
manage growth could have a material adverse effect on the Company's results of
operations.
External Growth. In line with its growth strategy, the Company has entered
into, and will continue to enter into, a number of agreements to acquire
properties for development and for the acquisition of existing ALFs which are
subject to certain conditions. There can be no assurance that one or more of
such acquisitions will be completed or that the Company will be able to find
additional suitable properties and ALFs to continue its current rate of growth.
The Company has recently experienced a slowing of its growth through acquisition
of ALFs due to what management believes is a current shortage of suitable ALFs
available for acquisition at prices attractive to the Company. There can be no
assurance that suitable ALFs will become available for future acquisition at
prices attractive to the Company. Similarly, the Company has acquired a number
of properties to be developed into ALFs, or has contracted to operate ALFs being
developed by third-party developers. The development of ALFs is subject to a
number of risks, many of which are outside the Company's control. There can be
no assurance that the Company will be able to complete its planned facilities in
the manner, for the amount, or in the time frame currently anticipated. Delays
in the progress or completion of development projects could affect the Company's
ability to generate revenue or to recognize revenue when anticipated. See
"-- Risks Common to the Company's Assisted Living and Apartment Operations --
Development and Construction Risks."
COMPETITION
The health care industry is highly competitive and the Company expects that
the assisted living business in particular will become more competitive in the
future. The Company continues to face competition from numerous local, regional
and national providers of assisted living and long-term care whose facilities
and services are on either end of the senior care continuum from skilled nursing
facilities and acute care hospitals to companies providing home based health
care, and even family members. In addition, the Company expects that as assisted
living receives increased attention among the public and insurance companies,
competition from current and new market entrants, including companies focused on
assisted living, will increase. Some of the Company's competitors operate on a
not-for-profit basis or as charitable organizations, while others have, or may
obtain, greater financial resources than those available to the Company.
Moreover, in the implementation of the Company's growth program, the
Company expects to face competition for the acquisition and development of ALFs.
Some of the Company's present and potential competitors are significantly larger
or have, or may obtain, greater financial resources than those of the Company.
Consequently, there can be no assurance that the Company will not encounter
increased competition in the future which could limit its ability to attract
residents, expand its business, or increase the cost of future acquisitions,
each of which could have a material adverse effect on the Company's financial
condition, results of operations and prospects.
INDEBTEDNESS, LEASE AND OTHER OBLIGATIONS OF THE COMPANY
The Company has financed, and will continue to finance, the acquisition and
development of ALFs through a combination of loans, leases and other
obligations. As of March 31, 1997, the Company had outstanding consolidated
indebtedness of $92.5 million, including $57.5 million of the Company's 2006
Convertible Notes, the holders of which have the right to convert such notes
into the common stock of the
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Company at any time on or before maturity of the notes. In addition, at March
31, 1997, the Company had $12.1 million in notes maturing within two years. As a
result, a portion of the Company's cash flow will be devoted to debt service.
There is a risk that the Company will not be able to generate sufficient cash
flow from operations to cover required interest and principal payments.
At March 31, 1997, approximately $14.6 million of the Company's
indebtedness bore interest at floating rates. Indebtedness that the Company has
since that date incurred and may incur in the future may also bear interest at a
floating rate or be fixed at some time in the future. Therefore, increases in
prevailing interest rates could increase the Company's interest payment
obligations and could have an adverse effect on the Company's business,
financial condition and results of operations. In addition, the Company has
guaranteed mortgage and construction debt for the benefit of Affiliated
Partnerships of up to approximately $56.1 million, including $46.9 million
outstanding as of March 31, 1997, of which $34.0 million will become due and
payable within the next two years. This effectively subjects the Company to
risks normally associated with leverage, including the risk that Affiliated
Partnerships will not be able to refinance this debt with permanent financing,
an increased risk of partnership cash flow deficits, and the risk that if
economic performance of any mortgaged asset declines, the obligation to make
payments on the mortgage debt may be borne by the Company, which could adversely
affect the Company's results of operations and financial condition. Because
certain of the indebtedness which the Company has guaranteed bears interest at
rates which fluctuate with certain prevailing interest rates, increases in such
prevailing interest rates could increase the Company's interest payment
obligations and could have an adverse effect on the Company's results of
operations and financial condition.
In addition, as of March 31, 1997, the Company is a party to long-term
operating leases for certain of its Leased ALFs, which leases require minimum
annual lease payments aggregating $18.5 million for fiscal year 1998, and
intends to enter into additional long-term operating leases in the future. These
leases typically have an initial term of 10 to 15 years, and in general are not
cancelable by the Company.
The Company also has entered into guarantees (the "Tax Credit Guarantees")
which extend 15 years after project completion, relating to certain developments
financed under the Federal Tax Credit Program with respect to (i) lien free
construction, (ii) operating deficits and (iii) obtaining and maintaining tax
credit benefits to certain corporate investors (see "-- Tax Credit Properties"),
the obligations under which, excluding potential penalties and interest factors,
could amount to an approximate limit of $78.4 million as of March 31, 1997.
There can be no assurance that the Company will be able to generate sufficient
cash flow from operations to cover required interest, principal and lease
payments, or to perform its obligations under the guarantees to which it is
party were it called on to do so.
In particular, the Company and/or its wholly owned subsidiary, ARV
Investment Group, Inc., have provided such guarantees to General Electric
Capital Corporation and subsidiaries thereof (collectively, "GECC") with regard
to six properties. For two of those properties, the Company has funded
approximately $317,000 as of March 31, 1997, and expects to fund up to an
additional $675,000 in fiscal 1998 under operating deficit guarantees. The
Company expects to fund approximately $1 million for operating deficits for
other properties as of March 31, 1997. In addition, the Company may be required
to fund shortfalls in permanent loan financing to replace construction financing
on projects where permanent financing has not been finalized. Finally, with
regard to tax credit benefits, the Company may be required to make adjustments
if sufficient tax credits are not generated in order to meet agreed-upon levels
of tax credit benefits. (See "-- Tax Credit Properties.")
If the Company were unable to meet interest, principal, lease or guarantee
payments in the future, there can be no assurance that sufficient financing
would be available to cover the insufficiency or, if available, the financing
would be on terms acceptable to the Company. In the absence of financing, the
Company's ability to make scheduled principal and interest payments on its
indebtedness to meet required minimum lease payments, to meet its obligations
under the guarantees, if any, to respond to changing business and economic
conditions, to fund scheduled investments, cash contributions and capital
expenditures, to make future acquisitions and to absorb adverse operating
results would be adversely affected. In addition, the terms of certain of the
Company's indebtedness have imposed, and may in the future impose, constraints
on the Company's operations. If, and to the extent that, the Company fails to
operate within those constraints, the
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Company will be required to either seek waivers or to find alternative sources
of financing with which to pay off the applicable indebtedness.
GENERAL PARTNER LIABILITY AND STATUS
The Company, directly or through its subsidiaries, is a general partner in
21 partnerships. As a general partner, it is liable for partnership obligations
such as partnership indebtedness (which at March 31, 1997, was approximately
$58.3 million), potential liability for construction defects, including those
presently unknown or unobserved, and unknown or future environmental
liabilities. The cost of any such obligations or claims, if partially or wholly
borne by the Company, could materially adversely affect the Company's results of
operations and financial condition.
Each partnership property is managed by the Company pursuant to a written
management contract, some of which are cancelable on 30 or 60 days notice at the
election of the managing general partner of the partnership. Action can be taken
in each partnership by a majority in interest of limited partners on such
matters as the removal of the general partners, the request for or approval or
disapproval of a sale of a property owned by a partnership, or other actions
affecting the properties or the partnership. Where the Company is the general
partner of the partnership, termination of the contracts generally would require
removal of the Company as general partner by the vote of a majority of the
holders of limited partner interests and would result in loss of the management
fee income under those contracts.
The Company has funded and expects to fund certain amounts in its capacity
as general partner or guarantor for a subsidiary general partner regarding
certain tax credit properties. In addition, adjustments to cover tax credit
benefit shortfalls may need to be made. See "-- Indebtedness, Lease and Other
Obligations of the Company" and Tax Credit Properties."
DEPENDENCE ON REIMBURSEMENT BY THIRD-PARTY PAYORS
As of August 22, 1996, the Company acquired GeriCare. GeriCare specializes
in rehabilitative services, including speech, occupational and physical therapy.
Revenue received directly or indirectly from the Medicare program for GeriCare's
services represents a significant portion of GeriCare's net revenue. The
Medicare program is subject to statutory and regulatory changes, retroactive and
prospective rate adjustments, administrative rulings and funding restrictions,
all of which could have the effect of limiting or reducing reimbursement levels
for GeriCare's services. During late 1995, Congress considered (but did not
enact) legislation to reduce Medicare spending significantly. The Company cannot
predict whether any changes in this program will be adopted or, if adopted, the
effect, if any, such changes will have on the Company. Any significant decrease
in Medicare reimbursement levels could have a material adverse effect on the
Company. There can be no assurance that rehabilitation services provided by
GeriCare or rent paid for space in facilities in which GeriCare manages
rehabilitation management programs (including 33 ALFs owned, leased or managed
by the Company) will continue to receive Medicare payments at current levels.
Medicare reimburses GeriCare monthly for services provided and is
reimbursed on a cost basis, subject to certain adjustments. GeriCare submits
cost reports to the Health Care Financing Administration ("HCFA") on an annual
basis and is subject to having amounts previously reimbursed adjusted
retroactively. The result of a retroactive reimbursement would be either a
requirement to repay the amount previously reimbursed or an adjustment downward
in future reimbursements for services rendered, or both. The Company has
reviewed cost reports for GeriCare filed prior to August 22, 1996, and has
prepared cost reports which it filed as of August 22, 1996. The Company has
established reserves for amounts which it reasonably believes may be adjusted by
HCFA, but there can be no certainty that significant charges in addition to
those reserved for may be denied, which could materially adversely affect the
Company's results of operations and financial condition. Mutual of Omaha,
GeriCare's intermediary with HCFA, made a retroactive rate adjustment regarding
services provided by GeriCare from 1995 through the early spring of 1997,
resulting in the disallowance of approximately $106,000 of fees previously paid
to GeriCare. In addition, GeriCare has been placed on a temporary 50% review,
meaning that Mutual of Omaha will temporarily withhold payment on 50% of
GeriCare's billings until it has reviewed the files documenting the requested
reimbursement. Management
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believes that the file review will result in payment of substantially all of the
amounts requested, but the review period will temporarily slow cash flows for
GeriCare.
A certain portion of the Company's general and administrative expenses are
believed to be reimbursable by Medicare because the Company provides accounting,
legal and general office services to GeriCare. To the extent Medicare would deny
reimbursement for such overhead, the Company's general and administrative
expenses will increase accordingly.
GOVERNMENT REGULATION
Assisted Living. Health care is an area subject to extensive regulation and
frequent regulatory change. Currently, no federal rules explicitly define or
regulate assisted living. While a number of states have not yet enacted specific
assisted living regulation, the Company is and will continue to be subject to
varying degrees of regulation and licensing by health or social service agencies
and other regulatory authorities in the various states and localities in which
it operates or intends to operate. Changes in, or the adoption of, such laws and
regulations, or new interpretations of existing laws and regulations, could have
a significant effect on methods of doing business, costs of doing business and
amounts of reimbursement from governmental and other payors. In addition, the
President and Congress have proposed in the past, and may propose in future,
health care reforms that could impose additional regulations on the Company or
limit the amounts that the Company may charge for its services. The Company
cannot make any assessment as to the ultimate timing and impact that any pending
or future health care reform proposals may have on the assisted living, home
health care, nursing facility and rehabilitation care industries, or on the
health care industry in general. No assurance can be given that any such reform
will not have a material adverse effect on the business, financial condition or
results of operations of the Company.
SSI Payments. A portion of the Company's revenue (currently, approximately
4% of the Company's assisted living revenue) is derived from residents who are
recipients of Supplemental Security Income ("SSI") SSI payments. Revenue derived
from these residents is generally lower than that received from the Company's
other residents and could be subject to payment delay. There can be no assurance
that the Company's proportionate percentage of revenue received from SSI
receipts will not increase, or that the amounts paid under SSI programs will not
be further limited. In addition, if the Company were to become a provider of
services under the Medicaid program, the Company would be subject to Medicaid
regulations designed to limit fraud and abuse, violations of which could result
in civil and criminal penalties and exclusion from participation in the Medicaid
program.
Rehabilitation Services. The cost of many of the services offered by
GeriCare is reimbursed or paid for by Medicare and, therefore, GeriCare is
subject to the HCFA rules governing survey and certification. While the Company
believes GeriCare and the rehabilitation services it provides are in substantial
compliance with program requirements, the corporation could be subject to
adjustments in addition to those already made in reimbursement or penalties due
to an alleged failure to comply with regulatory requirements. See "-- Dependence
on Reimbursement by Third Party Payors."
INTEGRATION OF BUSINESSES
Prior to August 1996, the Company had not provided health care services
other than those associated with its assisted living licensure requirements. In
August 1996, the Company acquired GeriCare which includes rehabilitation
services and a Medicare Part B billing and supply component. Due in part to
differences between the historical core business of the Company and that of the
acquired business, such acquisition has placed and may continue to place
significant demands on the Company's management and other resources. New
management has been hired by the Company to oversee GeriCare. Nonetheless, there
can be no assurance that GeriCare's business can be integrated successfully,
that there will be any operating efficiencies between the businesses or that the
combined businesses can be operated profitably. The Company may acquire other
complementary businesses in the future.
Due to the regulatory scheme in New York regarding assistance with
activities of daily living, the Company and its partner, Castle Senior Living,
LLC, have formed a subsidiary, Prospect Park Residence
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Home Health Care, Inc., a New York corporation which has been licensed as a
Licensed Home Care Service Agency in order to provide assisted living services
to the residents of its soon-to-be opened facility in Brooklyn, New York known
as Prospect Park Residence. The failure to integrate and operate these or other
acquired companies successfully could have a material adverse effect on the
Company's business and future prospects.
RISKS COMMON TO THE COMPANY'S ASSISTED LIVING OPERATIONS
Staffing and Labor Costs. The Company competes with other providers of
assisted living and senior housing with respect to attracting and retaining
qualified personnel. The Company also is dependent upon the available labor pool
of employees. A shortage of qualified personnel may require the Company to
enhance its wage and benefits package in order to compete. In addition, many
health care workers in the nursing home industry are unionized. While only the
hourly employees at the Company's Prospect Park Residence facility in Brooklyn,
New York are currently unionized, any further unionization or threat of
unionization of workers in the assisted living industry or at the Company's
facilities could increase the Company's labor costs. No assurance can be given
that the Company's labor costs will not increase, or that if they do increase,
they can be matched by corresponding increases in rental or management revenue.
Obtaining Residents and Maintaining Rental Rates. As of March 31, 1997, the
ALFs owned or operated by the Company had a combined occupancy rate of 88%.
Lease-up on development projects may take longer than assumed periods of time,
thereby lengthening the time in which newly developed ALFs are experiencing
start-up losses. The Company may revise its schedule of construction of new
developments in order to phase in start-up losses from new ALFs. Occupancy may
drop in existing ALFs primarily due to changes in the health of residents,
increased competition from other providers of assisted living services, giving
residents more choices with respect to the provision of such services and in
ALFs acquired by the Company due to re-evaluation of residents regarding
retention criteria, changes in management and staffing, and implementation of
the Company's assisted living programs. There can be no assurance that, at any
time, any ALF will be substantially occupied at assumed rents. In addition,
lease-up and full occupancy may be achievable only at rental rates below those
assumed. If operating expenses increase, local rental market conditions may
limit the extent to which rents may be increased. With respect to the new
acquisitions, rental increases may lag behind increases in operating expenses
since rent increases generally can only be implemented at the time of expiration
of leases. In addition, the failure of the Company to generate sufficient
revenue could result in an inability to meet minimum rent obligations under the
Company's long-term operating leases and make interest and principal payments on
its indebtedness.
General Real Estate Risks. The performance of the Company's ALFs is
influenced by factors affecting real estate investments, including the general
economic climate and local conditions, such as an oversupply of, or a reduction
in demand for, ALFs. Other factors include the attractiveness of properties to
residents, zoning, rent control, environmental quality regulations or other
regulatory restrictions, competition from other forms of housing and the ability
of the Company to provide adequate maintenance and insurance and to control
operating costs, including maintenance, insurance premiums and real estate
taxes. At the time the Company acquires existing ALFs, or opens newly developed
ALFs, budgets for known or expected rehabilitation expenses are prepared and
funds therefor are reserved. Unknown or unforeseen rehabilitation or lease-up
expenses may be incurred. Real estate investments are also affected by such
factors as applicable laws, including tax laws, interest rates and the
availability of financing. Real estate investments are relatively illiquid and,
therefore, limit the ability of the Company to vary its portfolio promptly in
response to changes in economic or other conditions. Any failure by the Company
to integrate or operate acquired or developed ALFs effectively may have a
material adverse effect on the Company's business, financial condition and
results from operations. In addition, the Company currently leases facilities
from only four Health Care REITs. The lease agreements with each of the Health
Care REITs are interconnected in that the Company will not be entitled to
exercise its right to renew one lease with a particular Health Care REIT without
exercising its right to renew all other leases with that Health Care REIT and
leases with each Health Care REIT contain certain cross default provisions.
Therefore, in order to exercise all lease renewal terms, the Company will be
required to maintain and rehabilitate the leased ALFs on a long-term basis. The
Company anticipates that similar renewal and cross-default provisions will be
included in leases with other Health Care REITs.
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Bond Financing. The Company has entered into four long-term leases of ALFs,
the acquisition and construction of which have been or are being financed by tax
exempt multi-unit housing revenue bonds. In order to meet the lease obligations
and to allow the landlord to continue to qualify for favorable tax treatment of
the interest payable on the bonds, the facility must comply with certain federal
income tax requirements, principally pertaining to the maximum income level of a
specified portion of the residents. The Company anticipates executing additional
leases for ALFs to be constructed with bond financing, and the same and possibly
additional restrictions are anticipated to be imposed for such facilities.
Failure to satisfy these requirements will constitute an event of default under
the leases, thereby permitting the landlord to accelerate their termination.
Failure to obtain low-income residents in the sequence and time required could
materially affect the lease-up schedule and, therefore, cash flow from such
facilities.
Development and Construction Risks. As part of its growth strategy during
the next few years, the Company plans to develop a number of new ALFs. See
"-- Management's Discussion and Analysis of Financial Condition and Results of
Operation -- Overview." The Company's ability to achieve its development plans
will depend upon a variety of factors, many of which are beyond the Company's
control. The successful development of additional ALFs involves a number of
risks, including the possibility that the Company may be unable to locate
suitable sites at acceptable prices or may be unable to obtain, or may
experience delays in obtaining, necessary zoning, land use, building, occupancy,
licensing and other required governmental permits and authorizations.
Development schedules may be changed by the Company in order to accommodate
requirements of staffing of new ALFs and to allow a phase-in of start-up losses
inherent in the marketing and lease-up of new facilities. Certain construction
risks are beyond the Company's control, including strikes, adverse weather,
natural disasters, supply of materials and labor, and other unknown
contingencies which could cause the cost of construction and the time required
to complete construction to exceed estimates. If construction is not commenced
or completed, or if there are unpaid subcontractors or suppliers, or if required
occupancy permits are not issued in a timely manner, cash flow could be
significantly reduced. In addition, any property in construction carries with it
its own risks such as construction defects, cost overruns, adverse weather
conditions, the discovery of geological or environmental hazards on the property
and changes in zoning restrictions or the method of applying such zoning
restrictions. The nature of licenses and approvals necessary for development and
construction, and the timing and likelihood for obtaining them vary widely from
state to state, and from community to community within a state.
Possible Environmental Liabilities. Under various federal, state and local
environmental laws, ordinances and regulations, a current or previous owner or
operator of real property may be held liable for the costs of removal or
remediation of certain hazardous or toxic substances including, without
limitation, asbestos-containing materials ("ACMs"), which could be located on,
in or under such property. Such laws and regulations often impose liability
whether or not the owner or operator know of, or is responsible for, the
presence of the hazardous or toxic substances. When acquiring land for
development or existing facilities, the Company typically obtains environmental
reports on the properties as part of its due diligence in order to lessen its
risk of exposure. Nonetheless, the costs of any required remediation or removal
of these substances could be substantial and the owner's liability as to any
property is generally not limited under such laws and regulations and could
exceed the value of the property and the aggregate assets of the owner or
operator. The presence of these substances or failure to remediate such
substances properly may also adversely affect the owner's ability to sell or
rent the property or to borrow using the property as collateral. Under these
laws and regulations, an owner, operator, or any entity who arranges for the
disposal of hazardous or toxic substances such as ACMs at a disposal site may
also be liable for the costs of any required remediation or removal of the
hazardous or toxic substances at the disposal site. When entering into leases
with Health Care REITs and other landlords of facilities, the Company typically
enters into environmental indemnity agreements in which it agrees to indemnify
the landlord against all risk of environmental liability both during the term of
the lease and beyond such term. In connection with the ownership or operation of
its properties or those of its Affiliated Partnerships, the Company could be
liable for these costs, as well as certain other costs, including governmental
fines and injuries to persons or properties.
Restrictions Imposed by Laws Benefiting Disabled Persons. Under the
Americans with Disabilities Act of 1990 (the "ADA"), all places of public
accommodation are required to meet certain federal requirements
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related to access and use by disabled persons. A number of additional federal,
state and local laws exist which also may require modifications to existing and
planned properties to create access to the properties by disabled persons. The
Company believes that its properties are substantially in compliance with
present requirements or are exempt therefrom and it attempts to check for such
compliance in all facilities it considers acquiring. However, if required
changes involve a greater expenditure than anticipated or must be made on a more
accelerated basis than anticipated, additional costs would be incurred by the
Company. Further legislation may impose additional burdens or restrictions with
respect to access by disabled persons and the costs of compliance therewith
could be substantial.
Geographic Concentration. A substantial portion of the business and
operations of the Company are conducted in California, where 30 of the 55 ALFs
currently operated, managed or in development by the Company are located. Other
regional concentrations of ALFs are planned for Florida, Texas, the Midwest and
the Northeast. The creation of regions allows the Company to manage the ALFs
without undue increases in management personnel. The market value of these
properties and the income generated from properties managed or leased by the
Company could be negatively affected by changes in local and regional economic
conditions or the governing laws, and regulatory environment in, states within
those regions, and by acts of nature. There can be no assurance that such
geographic concentration will not have an adverse effect on the Company's
business, financial condition, results of operations and prospects.
Insurance. The Company currently maintains insurance policies in amounts
and with such coverage and deductibles as it believes are adequate, based on the
nature and risks of its business, historical experience and industry standards.
The Company's business entails an inherent risk of liability. In recent years,
participants in the assisted living industry, including the Company, have become
subject to an increasing number of lawsuits alleging negligence or related legal
theories, many of which may involve large claims and significant legal costs.
The Company is from time to time subject to such suits as a result of the nature
of its business. There can be no assurance that claims will not arise which are
in excess of the Company's insurance coverage or are not covered by the
Company's insurance coverage. A successful claim against the Company not covered
by, or in excess of, the Company's insurance, could have a material adverse
effect on the Company's financial condition and results of operations. Claims
against the Company, regardless of their merit or eventual outcome, may also
have a material adverse effect on the Company's ability to attract residents or
expand its business and would require management to devote time to matters
unrelated to the operation of the Company's business. In addition, the Company's
insurance policies must be renewed annually and there can be no assurance that
the Company will be able to continue to obtain liability insurance coverage in
the future or, if available, that such coverage will be available on acceptable
terms.
CONFLICTS OF INTEREST
Certain of the Company's executive officers and Directors may, by virtue of
their investment in or involvement with entities providing services, office
space or guarantees to the Company or to Company-sponsored partnerships, or by
virtue of familial ties with consultants offering services to the Company, have
an actual or potential conflict of interest with the interests of the Company.
See "Certain Transactions."
In addition, the Company is the managing general partner and facilities
manager for partnerships owning or leasing 15 ALFs and various apartment
communities. By serving in both capacities, the Company has conflicts of
interest in that it has both a duty to act in the best interests of the limited
partners of those partnerships and the desire to maximize earnings for the
Company's shareholders in the operation of those ALFs and apartment communities.
TAX CREDIT PROPERTIES
The Company's tax credit partnerships obtain equity capital to build
apartments through the sale of tax credits under the Federal Tax Credit Program.
In order to qualify for the Federal Tax Credit Program, the owner of the project
must agree to restrict the use of the property for moderate- to low-income
purposes for a period of 15 years. Some tax credit financed partnerships for
which the Company serves as general partner have entered into agreements
restricting use of their respective properties for moderate- to low-income
15
18
housing purposes for periods of up to 40 years beyond the base 15-year
compliance period. All tax credit projects must be placed in service by the end
of the second calendar year after the year in which the initial allocation of
tax credits was made. In addition, if all apartments in a project are not
initially occupied during the year in which tax credits are first taken, this
could cause a loss of a portion of the tax credits awarded and a delay in the
timing in which remaining tax credits may be offset against income. Failure to
place a tax credit project in service or cause the apartments to be initially
occupied on a timely basis is likely to cause the forfeiture of some or all the
tax credits allocated and would trigger the Company's obligations under the Tax
Credit Guarantees (see "-- Indebtedness, Lease and Other Obligations of the
Company") or otherwise risk exposure of liability to limited partners of the tax
credit partnerships. In addition, projects financed under the Federal Tax Credit
Program are subject to detailed regulations concerning tenant income and other
requirements. The Internal Revenue Service has identified these regulations as
being the subject of increased scrutiny regarding compliance of applicable
regulations under the Internal Revenue Code of 1986 as amended (the "Code").
While the Company believes that it is currently in substantial compliance with
applicable regulations, no assurance can be given that the Company will not be
challenged in this regard. These restrictions may limit the Company's management
of and ability to sell properties developed under the Federal Tax Credit
Program.
The Company may be required to fund shortfalls in permanent loan financing
to replace construction financing on projects where permanent financing has not
been finalized. With regard to tax credit benefits, the Company may be required
to make adjustments if sufficient tax credits are not generated in order to meet
agreed-upon levels of tax credit benefits. In addition, the Company and/or its
wholly owned subsidiary, ARV Investment Group, Inc., have provided certain
operating deficit guarantees and tax credit guarantees to General Electric
Capital Corporation and subsidiaries thereof (collectively, "GECC") with regard
to six properties. For two of those properties, the Company has funded
approximately $317,000 as of March 31, 1997, and expects to fund up to an
additional $675,000 in fiscal 1998 under operating deficit guarantees. The
Company expects to fund approximately $1 million for operating deficits for
other properties in fiscal 1998. (See "-- Indebtedness, Lease and Other
Obligations of the Company" and "-- General Partner Liability and Status.")
SHARES ELIGIBLE FOR FUTURE SALE
As of June 19, 1997, the Company had outstanding 9,662,990 shares of Common
Stock, assuming no conversion of the Convertible Notes or exercise of
outstanding warrants and options. Of these shares, 3,565,000 shares of Common
Stock sold in the IPO Offering are tradable in calendar year 1997 without
restriction or limitation under the Securities Act, except for any shares owned
or purchased by "affiliates" of the Company which will be subject to resale
limitations under Rule 144 of the Securities Act. The remaining outstanding
shares of Common Stock are "restricted securities" within the meaning of Rule
144 (the "Restricted Shares"). The Restricted Shares may not be sold except in
compliance with the registration requirements of the Securities Act or pursuant
to an exemption, including that provided by Rule 144. At June 19, 1997,
approximately 6,000,259 shares of Common Stock were eligible for sale under Rule
144.
The Company issued 657,803 shares of Common Stock upon its call for
redemption of the 8% Convertible Redeemable Series A Preferred Stock (the
"Series A Preferred Stock") in 1996, all of which were tradable without
registration under Rule 144 at June 19, 1997. The Company issued 903,373 shares
of Common Stock upon its call for redemption of its 1999 Convertible Notes in
1996 all of which were tradable without registration under Rule 144 at June 19,
1997. The Company issued an aggregate of 85,146 restricted shares to the former
shareholders of SynCare, Inc. in 1996, all of which will be tradable without
registration under Rule 144 in September 1997. At June 19, 1997, the Company had
issued an aggregate of 25,276 restricted shares upon the exercise of warrants
held by certain broker-dealers, all of which will be eligible for sale under
Rule 144 by June 19, 1998.
In addition to the outstanding shares described above, options to purchase
a total of 1,057,355 shares of Common Stock, warrants to purchase a total of
114,501 shares of Common Stock, and Convertible Notes convertible into
approximately 3,096,392 shares of Common Stock are outstanding as of June 19,
1997. The
16
19
Company has registered for public resale all of the shares of Common Stock
issuable on conversion of the Convertible Notes.
Sales of substantial amounts of Common Stock in the public market under
Rule 144 or otherwise, and the potential for such sales, may have a material
adverse effect on the prevailing market price of the Common Stock and could
impair the Company's ability to raise capital through the sale of its equity
securities.
VOLATILITY OF STOCK PRICE
Sales of substantial amounts of shares of Common Stock in the public market
or the perception that those sales could occur could adversely affect the market
price of the Common Stock and the Company's ability to raise additional funds in
the future in the capital markets. The market price of the Common Stock could be
subject to significant fluctuations in response to various factors and events,
including the liquidity of the market for the shares of the Common Stock,
variations in the Company's operating results, changes in earnings estimates by
the Company and/or securities analysts, publicity regarding the industry or the
Company and the adoption of new statutes or regulations (or changes in the
interpretation of existing statutes or regulations) affecting the health care
industry in general or the assisted living industry in particular. In addition,
the stock market in recent years has experienced broad price and volume
fluctuations that often have been unrelated to the operating performance of
particular companies. These market fluctuations may adversely affect the market
price of the shares of Common Stock.
CONTROL BY DIRECTORS AND EXECUTIVE OFFICERS; ANTI-TAKEOVER MEASURES
As of March 31, 1997, the Company's Directors and executive officers and
their affiliates beneficially own approximately 29% of the Company's outstanding
shares of Common Stock (exclusive of unexercised options to purchase shares of
Common Stock). See Item 12 "Security Ownership of Certain Beneficial Owners and
Management -- Security Ownership of Directors and Named Executive Officers." As
a result, these stockholders, acting together, would be able to significantly
influence many matters requiring approval by the stockholders of the Company,
including the election of Directors. The Company's articles of incorporation
provides for authorized but unissued preferred stock, the terms of which may be
fixed by the Board of Directors. Further, the articles provide, among other
things, that upon the satisfaction of certain conditions specified in the
California General Corporation Law relating to the number of holders of Common
Stock, the Board of Directors will be classified and the holders of Common Stock
will not be permitted to cumulate votes. These conditions have been met. Such
provisions could have the effect of delaying, deferring or preventing a change
of control of the Company.
17
20
ITEM 2. PROPERTIES
The following charts set forth, as of March 31, 1997, the location, number
of units, ownership, occupancy and acquisition date for the Company's
facilities:
OCCUPANCY
MONTH PERCENT 1997 1996 1995
FACILITY STATE UNITS ACQUIRED OWNERSHIP(A) AVERAGE AVERAGE AVERAGE
- -------------------------------------- ----- ----- -------- ------------ ------- --------- -------
LEASED
Amber Wood............................ FL 187 Jun-96 100.0% 97.3% -- --
Baypointe Village..................... FL 232 Mar-96 100.0% 85.1% 89.7% --
Buena Vista Knolls.................... CA 91 Feb-96 100.0% 96.5% 91.9% --
Chateau San Juan...................... CA 114 Dec-95 100.0% 96.0% 91.5% --
Collier Park.......................... TX 162 Dec-96 100.0% 16.2% -- --
El Camino Gardens..................... CA 282 Jun-95 100.0% 76.2% 71.5% --
Hacienda de Monterey.................. CA 180 Apr-94 100.0% 92.8% 94.7% 88.1%
Kinghaven Manor....................... MI 144 Feb-95 100.0% 95.1% 97.4% 73.2%
Inn at Willow Glen(b)................. CA 84 Aug-96 50.9% 94.3% -- --
Lodge................................. OH 216 Jan-97 100.0% 93.8% -- --
Mallard Cove.......................... OH 121 Feb-95 100.0% 78.0% 83.9% 76.0%
Maria del Sol......................... CA 124 Oct-95 100.0% 88.6% 88.7% --
Northgate............................. OH 126 Aug-96 100.0% 96.7% -- --
Rancho Park Villas.................... CA 163 Oct-95 100.0% 73.7% 75.2% --
Shorehaven............................ MI 120 Sep-96 100.0% 95.4% -- --
Retirement Inn of Burlingame(b)....... CA 68 Aug-96 50.9% 96.2% -- --
Retirement Inn of Campbell(b)......... CA 72 Aug-96 50.9% 99.4% -- --
Retirement Inn of Fremont(b).......... CA 70 Aug-96 50.9% 88.3% -- --
Retirement Inn of Sunnyvale(b)........ CA 123 Aug-96 50.9% 94.6% -- --
Tamalpais Creek....................... CA 120 Oct-95 100.0% 98.1% 97.4% --
Tanglewood Trace...................... IN 159 Jan-97 100.0% 94.3% -- --
Villa Bonita.......................... CA 130 Oct-95 100.0% 89.8% 90.7% --
Villa de Palma........................ CA 111 May-95 100.0% 90.4% 92.0% --
Villa del Obispo...................... CA 96 May-95 100.0% 95.9% 94.2% --
Villa del Rey......................... CA 103 Jun-95 100.0% 89.6% 92.2% --
Villa del Sol......................... CA 91 Jun-95 100.0% 95.3% 94.1% --
Villa Encinitas....................... CA 117 Jun-95 100.0% 96.2% 96.7% --
Villa at Palm Desert.................. CA 77 Nov-95 100.0% 93.8% 88.0% --
Woodside Village of Columbus.......... OH 156 Feb-96 100.0% 93.3% 97.1% --
-----
TOTAL LEASED...................... 3,839
-----
OWNED
Acacia Villa(b)....................... CA 66 Dec-95 89.5% 77.5% 88.6% --
Amber Park............................ OH 127 Jan-96 100.0% 71.5% 83.3% --
Bella Vita............................ FL 120 Apr-96 100.0% 97.0% -- --
Collwood Knolls....................... CA 117 Jan-96 80.5% 71.3% 73.4% --
Covell Gardens........................ CA 157 Mar-97 100.0% 92.3% -- --
Covina Villa(b)....................... CA 64 Aug-96 50.9% 93.5% -- --
Gayton Terrace........................ VA 92 Aug-96 100.0% 9.2% -- --
Retirement Inn of Daly City(b)........ CA 95 Aug-96 50.9% 92.7% -- --
Retirement Inn of Fullerton(b)........ CA 68 Aug-95 50.9% 93.0% -- --
Montego Heights Lodge(b).............. CA 170 Aug-96 50.9% 88.0% -- --
Valley View Lodge(b).................. CA 125 Aug-96 50.9% 96.1% -- --
Villa Colima(b)....................... CA 94 Jun-96 59.9% 81.7% -- --
Woodside Village of Bedford........... OH 217 Jan-96 100.0% 73.0% 70.7% --
Wyndham Lakes......................... FL 248 Mar-96 100.0% 81.1% -- --
-----
TOTAL OWNED....................... 1,760
-----
TOTAL LEASED AND OWNED............ 5,599
=====
MANAGED
Bradford Square....................... CA 92
Chandler Villa........................ AZ 164
-----
TOTAL MANAGED..................... 256
-----
TOTAL............................. 5,855
=====
- ---------------
(a) Represents percentage ownership of Leased ALFs and Owned ALFs through
leasehold or fee ownership of the Company or an Affiliated Partnership.
(b) Facility managed by the Company, owned or leased by Affiliated Partnership
in which the Company has obtained a majority ownership interest.
Prior to its fiscal year ended March 31, 1995, the Company did not own ALFs for
its own account, or operate them subject to long-term operating leases. Prior to
that time, the Company managed facilities for Affiliated Partnerships.
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21
ASSISTED LIVING FACILITIES -- AVERAGE MONTHLY RENTAL RATES
FACILITY 1997 1996 1995
- ----------------------------------------------------------------- ------ ------ ------
LEASED
Amber Wood....................................................... $ 917 $ -- $ --
Baypointe Village................................................ 1,272 1,234
Buena Vista Knolls............................................... 1,441 1,373
Chateau San Juan................................................. 1,559 1,504 --
Collier Park..................................................... 1,649 -- --
El Camino Gardens................................................ 1,014 838 --
Hacienda de Monterey............................................. 1,816 1,759 1,792
Kinghaven Manor.................................................. 1,121 1,035 818
Inn at Willow Glen............................................... 1,450 -- --
Lodge............................................................ 1,299 -- --
Mallard Cove..................................................... 1,131 1,057 1,018
Maria del Sol.................................................... 1,159 1,117 --
Northgate........................................................ 1,312 -- --
Rancho Park Villas............................................... 1,297 1,258 --
Shorehaven....................................................... 1,597 -- --
Retirement Inn of Burlingame..................................... 1,563 -- --
Retirement Inn of Campbell....................................... 1,445 -- --
Retirement Inn of Fremont........................................ 1,380 -- --
Retirement Inn of Sunnyvale...................................... 1,467 -- --
Tamalpais Creek.................................................. 1,457 1,403 --
Tanglewood Trace................................................. 1,405 -- --
Villa Bonita..................................................... 1,421 1,403 --
Villa de Palma................................................... 1,357 1,363 --
Villa del Obispo................................................. 1,557 1,513 --
Villa del Rey.................................................... 1,487 1,426 --
Villa del Sol.................................................... 1,607 1,539 --
Villa Encinitas.................................................. 1,470 1,464 --
Villa at Palm Desert............................................. 1,825 1,765 --
Woodside Village of Columbus..................................... 1,388 1,380 --
OWNED
Acacia Villa..................................................... $1,285 $1,288 --
Amber Park....................................................... 1,334 1,324 --
Bella Vita....................................................... 1,872 -- --
Collwood Knolls.................................................. 1,381 1,373 --
Covell Gardens................................................... 1,571 -- --
Covina Villa..................................................... 1,339 -- --
Gayton Terrace................................................... 1,544 -- --
Retirement Inn of Daly City...................................... 1,227 -- --
Retirement Inn of Fullerton...................................... 1,368 -- --
Montego Heights Lodge............................................ 1,470 -- --
Valley View Lodge................................................ 1,782 -- --
Villa Colima..................................................... 1,452 -- --
Woodside Village of Bedford...................................... 1,160 1,136 --
Wyndham Lakes.................................................... 1,213 1,232 --
- ---------------
* Average monthly rental is calculated on the base monthly rental per occupied
unit.
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22
Prior to its fiscal year ended March 31, 1995, the Company did not own for its
own account, or operate subject to long-term operating leases, ALFs. Prior to
that time, the company managed facilities for Affiliated Partnerships.
At March 31, 1997, the Company had the following projects under development
or construction:
ANTICIPATED
ANTICIPATED CONSTRUCTION ANTICIPATED/
LOCATION # OF UNITS COMMENCEMENT* ACTUAL OPENING*
---------------- ----------- ------------------- -----------------
FACILITIES UNDER CONSTRUCTION
Eastlake Village - Phase I Elkhart, IN 69 Under construction April, 1997
The Inn at Summit Ridge Reno, NV 76 Under construction May, 1997
Vista del Rio Albuquerque, NM 150 Under construction 2nd Quarter 1997
Prospect Park Brooklyn, NY 127 Under construction 3rd Quarter 1997
Eastlake Village - Phase II Elkhart, IN 24 Under construction 4th Quarter 1997
Las Posas Camarillo, CA 123 Under construction 4th Quarter 1997
Sun Lake Terrace Las Vegas, NV 129 Under construction 4th Quarter 1997
Canterbury Woods Attleboro, MA 132 Under construction 2nd Quarter 1998
-----
Total Facilities
Under Construction 830
-----
FACILITIES UNDER DEVELOPMENT
Flamingo Road Las Vegas, NV 100 2nd Quarter 1997 2nd Quarter 1998
The Lakes Fort Myers, FL 136 3rd Quarter 1997 3rd Quarter 1998
Inn at Brookside Stockton, CA 76 3rd Quarter 1997 3rd Quarter 1998
-----
Total Facilities
Under Development 312
-----
Total Facilities
Under Construction
and Development 1,142
=====
- ---------------
* Denotes calendar quarters.
ITEM 3. LEGAL PROCEEDINGS
On December 10, 1996, a Texas developer filed a complaint in Texas naming
the Company and certain of its officers as defendants. The main contention of
the developer's complaint was the Company's alleged breach of an acquisition and
development agreement. Among the causes of action alleged in the complaint were:
fraud, negligent misrepresentation, breach of fiduciary duty, breach of
contract, a suit for an accounting and declaratory relief. The developer alleged
actual damages ranging from $5 million to $15 million and punitive damages of
$10 million. A cross-complaint was filed on December 23, 1996.
On April 10, 1997, the litigation with the developer was settled pursuant
to a release and settlement agreement (the "Release and Settlement") between the
Company and the developer. Contemporaneously with the execution of the Release
and Settlement, the pending action filed by the developer and the cross
complaint filed by the Company were dismissed with prejudice.
On September 27, 1996, American Retirement Villas Partners II, a California
limited partnership ("ARVP II") of which the Company is the managing general
partner and a majority limited partner, filed actions seeking declaratory
judgments against the landlords of the Retirement Inn of Campbell (Campbell) and
the Retirement Inn of Sunnyvale (Sunnyvale). ARVP II leases the Campbell and
Sunnyvale assisted living facilities under long-term leases. A dispute has
arisen as to the amount of rent due during the 10-year lease renewal periods
which commenced in August 1995 for Campbell and March 1996 for Sunnyvale. ARVP
II seeks a determination that it is not required to pay any higher rent during
the 10-year renewal periods than during the original 20-year lease terms.
In the event that the court finds against ARVP II, rent for the Campbell
and Sunnyvale facilities could increase significantly, which would reduce
distributions to unit holders (including the Company as the
20
23
majority unit holder) in the future. These rent increases would be retroactive
to the commencement of the lease renewal periods. Management is of the opinion,
based in part upon opinions of legal counsel, that an adverse outcome is
unlikely.
Two other facilities leased by ARVP II, the Retirement Inn of Fremont
(Fremont) and the Retirement Inn at Burlingame (Burlingame) are owned by
entities which are related to the entities that own the Campbell and Sunnyvale
facilities. It is not known whether the landlords of those facilities will
dispute the amount of rent due during the renewal periods which began January
1997 for Fremont and begins in August 1997 for Burlingame. If so, ARVP II may be
required to file litigation to determine its rights under those leases.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Company did not submit any matters to a vote of its security holders
during the fourth quarter of its fiscal year ended March 31, 1997.
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER
MATTERS
The Company's Common Stock is listed and traded on the NASDAQ National
Market ("NASDAQ") under the symbol "ARVI." The following table sets forth, for
the periods indicated, the high and low closing prices for the Common Stock as
reported on NASDAQ.
HIGH LOW
------ ------
FISCAL YEAR 1996
Third Quarter(1)........................... 10/17/95 - 12/31/95 $15.25 $ 9.25
Fourth Quarter............................. 1/1/96 - 3/31/96 $17.75 $10.50
FISCAL YEAR 1997
First Quarter.............................. 4/1/96 - 6/30/96 $20.25 $15.50
Second Quarter............................. 7/1/96 - 9/30/96 $17.00 $12.50
Third Quarter.............................. 10/1/96 - 12/31/96 $15.25 $10.06
Fourth Quarter............................. 1/1/97 - 3/31/97 $11.63 $ 9.00
FISCAL YEAR 1998
First Quarter (Through June 19, 1997)...... 4/1/97 - 6/19/97 $11.38 $ 7.94
- ---------------
(1) The Company completed its initial public offering on October 17, 1995.
The Company does not currently pay dividends on its Common Stock and does
not anticipate paying dividends in the foreseeable future. It is the present
policy of the Company's Board of Directors to retain earnings, if any, to
finance the expansion of the Company's business.
SHARES ELIGIBLE FOR FUTURE SALE
As of June 19, 1997, the Company had outstanding 9,662,990 shares of Common
Stock, assuming no conversion of the Convertible Notes or exercise of
outstanding warrants and options. Of these shares, 3,565,000 shares of Common
Stock sold in the IPO Offering are tradable in calendar year 1997 without
restriction or limitation under the Securities Act, except for any shares owned
or purchased by "affiliates" of the Company which will be subject to resale
limitations under Rule 144 of the Securities Act. The remaining outstanding
shares of Common Stock are "restricted securities" within the meaning of Rule
144 (the "Restricted Shares"). The Restricted Shares may not be sold except in
compliance with the registration requirements of the Securities Act or pursuant
to an exemption, including that provided by Rule 144. At June 19, 1997,
approximately 6,000,259 shares of Common Stock were eligible for sale under Rule
144.
The Company issued 657,803 shares of Common Stock upon its call for
redemption of the 8% Convertible Redeemable Series A Preferred Stock (the
"Series A Preferred Stock") in 1996, all of which were tradable without
registration under Rule 144 at June 19, 1997. The Company issued 903,373 shares
of Common Stock upon its call for redemption of its 1999 Convertible Notes in
1996 all of which were tradable without registration under Rule 144 at June 19,
1997. The Company issued an aggregate of 85,146 restricted
21
24
shares to the former shareholders of SynCare, Inc. in 1996, all of which will be
tradable without registration under Rule 144 in September 1997. At June 19,
1997, the Company had issued an aggregate of 25,276 restricted shares upon the
exercise of warrants held by certain broker-dealers, all of which will be
eligible for sale under Rule 144 by June 19, 1998.
In addition to the outstanding shares described above, options to purchase
a total of 1,057,355 shares of Common Stock, warrants to purchase a total of
114,501 shares of Common Stock, and Convertible Notes convertible into
approximately 3,096,392 shares of Common Stock are outstanding as of June 19,
1997. The Company has registered for public resale all of the shares of Common
Stock issuable on conversion of the Convertible Notes.
VOLATILITY OF STOCK PRICE
Sales of substantial amounts of shares of Common Stock in the public market
or the perception that those sales could occur could adversely affect the market
price of the Common Stock and the Company's ability to raise additional funds in
the future in the capital markets. The market price of the Common Stock could be
subject to significant fluctuations in response to various factors and events,
including the liquidity of the market for the shares of the Common Stock,
variations in the Company's operating results, changes in earnings estimates by
the Company and/or securities analysts, publicity regarding the industry or the
Company and the adoption of new statutes or regulations (or changes in the
interpretation of existing statutes or regulations) affecting the health care
industry in general or the assisted living industry in particular. In addition,
the stock market in recent years has experienced broad price and volume
fluctuations that often have been unrelated to the operating performance of
particular companies. These market fluctuations may adversely affect the market
price of the shares of Common Stock.
CONTROL BY DIRECTORS AND EXECUTIVE OFFICERS; ANTI-TAKEOVER MEASURES
As of March 31, 1997, the Company's Directors and executive officers and
their affiliates beneficially own approximately 29% of the Company's outstanding
shares of Common Stock (not including unexercised options to purchase Common
Stock). See Item 12, "Security Ownership of Certain Beneficial Owners and
Management -- Security Ownership of Directors and Named Executive Officers." As
a result, these stockholders, acting together, would be able to significantly
influence many matters requiring approval by the stockholders of the Company,
including the election of Directors. The Company's articles of incorporation
provides for authorized but unissued preferred stock, the terms of which may be
fixed by the Board of Directors, and provides, among other things, that upon the
satisfaction of certain conditions specified in the California General
Corporation Law relating to the number of holders of Common Stock, the Board of
Directors will be classified and the holders of Common Stock will not be
permitted to cumulate votes. These conditions have been satisfied. Such
provisions could have the effect of delaying, deferring or preventing a change
of control of the Company.
22
25
ITEM 6. SELECTED FINANCIAL DATA
The following selected financial data has been derived from the audited
consolidated financial statements of the Company and its subsidiaries as of and
for each of the five fiscal years ended March 31, 1997. The data set forth below
should be read in conjunction with the consolidated financial statements and
related notes thereto included in Item 14, "Exhibits, Financial Statement
Schedules and Reports on Form 8-K -- Financial Statements," along with Item 7,
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
YEAR ENDED MARCH 31,
--------------------------------------------------
1997 1996 1995 1994 1993
------- ------- ------- ------- ------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
STATEMENT OF OPERATIONS DATA:
Revenue:
Assisted living facility revenue(1)................... $73,770 $25,479 $ 4,838 $ -- $ --
Therapy & other services.............................. 7,850 4,322 4,165 3,492 3,110
Interest income....................................... 1,667 1,070 211 104 109
Other income.......................................... 645 2,192 476 904 606
------- ------- ------- ------- ------
Total revenue.................................. 83,932 33,063 9,690 4,500 3,825
------- ------- ------- ------- ------
Expenses:
Assisted living facility operating expense(1)......... 47,117 16,395 3,201 -- --
Assisted living facility lease expense................ 12,872 6,644 814 -- --
General and administrative............................ 7,620 7,645 8,264 5,765 3,470
Therapy & other....................................... 4,255 -- -- -- --
Depreciation and amortization......................... 4,366 1,031 320 92 69
Provision for liabilities related to Tax Credit
Properties.......................................... 2,032 -- -- -- --
Provision for doubtful accounts and discontinued
project costs....................................... 501 394 1,465 441 345
Interest expense...................................... 5,573 1,544 354 103 75
------- ------- ------- ------- ------
Total expenses................................. 84,336 33,653 14,418 6,401 3,959
------- ------- ------- ------- ------
Loss before income tax expense.......................... (404) (590) (4,728) (1,901) (134)
Income tax expense (benefit)............................ 201 375 (1,729) (248) 2
------- ------- ------- ------- ------
Net loss before minority interest & extraordinary
items................................................. (605) (965) (2,999) (1,653) (136)
Minority interest....................................... 783 -- -- -- --
Early extinguishment of debt............................ 386 -- -- -- --
Net loss................................................ $(1,774) $ (965) $(2,999) $(1,653) $ (136)
------- ------- ------- ------- ------
Preferred dividends declared............................ -- $ 351 $ 398 $ 40 --
Net loss available for common shares(2)................. $ 1,774 $(1,316) $(3,397) $(1,693) $ (136)
------- ------- ------- ------- ------
Net loss per common share............................... $ (.19) $ (.21) $ (.69) $ (.34) $ (.03)
------- ------- ------- ------- ------
Weighted average common shares outstanding(2)........... 9,400 6,246 4,903 5,113 5,059
------- ------- ------- ------- ------
YEAR ENDED MARCH 31,
--------------------------------------------------
1997 1996 1995 1994 1993
------- ------- ------- ------- ------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
SELECTED OPERATING DATA:
Assisted living units owned or leased (end of
period)(1)............................................ 5,599 3,277 445 -- --
Assisted living units managed (end of period)........... 256 1,289 2,803 3,042 3,042
Weighted average occupancy of assisted living units
(end of year)......................................... 88% 90% 92% 88% 87%
BALANCE SHEET DATA:
Working capital (deficit)............................... $23,054 $10,014 $(4,660) $ 1,363 --(3)
Total assets............................................ 164,231 77,403 15,399 8,054 $3,046
Long-term notes payable, excluding current portion...... 90,481 24,814 3,213 -- 16
Series A Preferred Stock, convertible and redeemable.... -- 2,358 4,586 3,969 --
Total shareholders' equity (deficit).................... 51,374 39,947 (3,536) (1,316) (70)
- ---------------
(1) The Company began operating ALFs under long-term operating leases during
fiscal 1995. Prior to that year, the Company managed those facilities for
affiliated partnerships for which it acted as the managing general partner
and recognized management fees and other income with respect to those
assisted living facilities but did not receive assisted living revenue from
and did not incur assisted living facility operating or lease expenses in
connection with its operations.
(2) Net loss available for common shares reflects the effect of preferred stock
dividends. Weighted average common shares outstanding give effect to the 1
for 3.04 reverse stock split which occurred upon the completion of the IPO
Offering.
(3) Prior to fiscal 1994, the Company did not classify its balance sheet. As a
result, no working capital data is available at March 31, 1993.
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
As of March 31, 1997, the Company operated 45 ALFs containing 5,855 units,
including 29 Leased ALFs, 14 Owned ALFs and two Managed ALFs. Additionally, the
Company was in various stages of development on 10 ALFs with an anticipated
total of 1,142 units at March 31, 1997. As of June 19, 1997, the Company has
opened two newly developed Leased ALFs totaling 145 units bringing its total of
operated ALFs to 47 containing 6,000 units.
From 1980 until 1994 when the Company began operating ALFs for its own
account, all of the ALFs operated by the Company were owned or leased by
Affiliated Partnerships. From 1991 until 1994, other Affiliated Partnerships
also acquired or began development of senior, affordable senior and multifamily
apartments primarily utilizing the sale of tax credits under the Federal Tax
Credit Program for the equity funding of the development.
Since commencing operation of ALFs for its own account in April 1994, the
Company embarked upon an expansion strategy and achieved significant growth in
revenue resulting primarily from the acquisition of ALFs. The Company focused
its growth efforts on the acquisition and development of additional ALFs and
expansion of services to its residents as they "age in place."
Growth has been achieved through the acquisition of ALFs which the Company
owns for it