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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[x] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 FOR THE FISCAL YEAR ENDED SEPTEMBER 30, 1998
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File Number 1-11666
GENESIS HEALTH VENTURES, INC.
(Exact name of Registrant as specified in its charter)
101 East State Street
Pennsylvania Kennett Square, PA 19348 06-1132947
(State or other jurisdiction of (Address of principal executive (I.R.S. Employer
incorporation or organization) offices including zip code) Identification Number)
(610) 444-6350
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Name of each exchange on which registered
------------------- -----------------------------------------
Common Stock, par value $.02 per share New York Stock Exchange
9 3/4% Senior Subordinated Debentures due 2005 New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act:
NONE
Indicate by check mark whether the registrant (i) 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, and (ii) 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. [ ]
The aggregate market value of voting stock held by non-affiliates of
the Registrant is $281,820,464 (1). As of December 14, 1998, 35,227,558 shares
of Common Stock were outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
(Specific sections incorporated are identified under applicable items herein)
Certain portions of the Company's Proxy Statement to be filed in connection with
its 1999 Annual Meeting are incorporated by reference in Part III of this
Report. Certain exhibits to the Company's Current Report on Form 8-K and 8-K/A
dated October 10, 1997, July 11, 1996, May 3, 1996, November 30, 1995, August
18, 1995, November 30, 1993 and September 19, 1993, Registration Statement on
Form S-1 (File No. 33-4007), Registration Statement on Form S-1 (File No.
33-51670), Registration Statement on Form S-3 (File No. 33-9350), Registration
Statement on Form S-4 (File No. 333-15267), Registration Statement on Form S-4
(File No. 333-58221), Registration Statement on Form S-8 (File No. 333-53043),
Annual Reports on Form 10-K for the fiscal years ended September 30, 1996, 1995,
1993 and 1992, and Quarterly Reports on Form 10-Q for the fiscal quarters ended
March 31, 1998, March 31, 1997, March 31, 1996 and March 31, 1994, Registration
Statement on Form 8-A dated May 11, 1995, Filing on Schedule 13D on May 6, 1998
and the Tender Offer Statement on Schedule 14D-1 filed by Genesis Eldercare
Corp. on June 20, 1997 are incorporated by reference as Exhibits in Part IV of
this Report.
- ----------------------------
(1) The aggregate dollar amount of the voting stock set forth equals the number
of shares of the Company's Common Stock outstanding, reduced by the amount
of Common Stock held by officers, directors and shareholders owning in
excess of 10% of the Company's Common Stock, multiplied by the last
reported sale price for the Company's Common Stock on December 14, 1998.
The information provided shall in no way be construed as an admission that
any officer, director or 10% shareholder in the Company may or may not be
deemed an affiliate of the Company or that he/it is the beneficial owner of
the shares reported as being held by him/it, and any such inference is
hereby disclaimed. The information provided herein is included solely for
recordkeeping purposes of the Securities and Exchange Commission.
INDEX
PAGE
Cautionary Statements Regarding Forward Looking Statements 2
ITEM 1: BUSINESS
General ..............................................................8
Basic Healthcare Services.............................................9
Specialty Medical Services............................................9
Management Services and Other........................................10
Strategic ClinicalInitiatives........................................11
Revenue Sources......................................................11
Marketing............................................................13
Personnel............................................................14
Employee Training and Development....................................14
Governmental Regulation..............................................15
Competition..........................................................16
Insurance............................................................17
ITEM 2: PROPERTIES...........................................................18
ITEM 3: LEGAL PROCEEDINGS....................................................18
ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS..................19
ITEM 4.1: EXECUTIVE OFFICERS.................................................20
PART II
ITEM 5: MARKET FOR THE REGISTRANT'S COMMON EQUITY
AND RELATED STOCKHOLDER MATTERS......................................22
ITEM 6: SELECTED FINANCIAL DATA..............................................23
ITEM 7: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS..................................25
ITEM 8: FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA..........................40
ITEM 9: CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE..................................63
PART III
ITEM 10: DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT..................63
ITEM 11: EXECUTIVE COMPENSATION..............................................63
ITEM 12: SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT......63
ITEM 13: CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS......................63
PART IV
ITEM 14: EXHIBITS, FINANCIAL STATEMENT SCHEDULE AND REPORTS ON FORM 8-K......63
Cautionary Statements Regarding Forward Looking Statements
Certain statements contained in "Management's Discussion and Analysis of
Financial Condition and Results of Operations" such as statements concerning
Medicare and Medicaid programs, the Company's ability to meet its liquidity
needs and control costs and expected future capital expenditure requirements,
the Company's arrangements with ElderTrust and the expected effects of the
Vitalink Transaction, PPS (as defined) and Year 2000 compliance, certain
statements contained in "Business" such as statements concerning strategy,
government regulation and Medicare and Medicaid programs, certain statements in
the Notes to Consolidated Financial Statements, such as certain of the pro forma
adjustments; and other statements contained herein regarding matters that are
not historical facts are forward-looking statements within the meaning of the
Securities Act. Because such statements involve risks and uncertainties, actual
results may differ materially from those expressed or implied by such forward
looking statements. Factors that could cause actual results to differ materially
include, but are not limited to the following: the Company's substantial
indebtedness and significant debt service obligations; the Company's ability to
secure the capital and the related cost of such capital necessary to fund future
growth; changes in the United States healthcare system and other changes in
applicable governmental regulations, including PPS, that might affect the
Company's profitability; the Company's continued ability to operate in a heavily
regulated environment and to satisfy regulatory authorities; the occurrence of
changes in the mix of payment sources utilized by the Company's patients to pay
for the Company's services; the adoption of cost containment measures;
competition in the Company's industry; the Company's ability to identify
suitable acquisition candidates, to consummate or complete development projects
or to profitably operate or successfully integrate enterprises into the
Company's other operations; the impact on the Company's information technology
systems and the availability and cost of personnel trained in the Year 2000
compliance area, and the failure of the Company's payors, suppliers and other
third parties to respond to the Company's inquiries as to whether the systems
and equipment supplied to the Company are compliant and adequately remediate
Year 2000 issues; and changes in general economic conditions.
Substantial Leverage and Debt Service; Restrictions on Indebtedness
The Company has substantial indebtedness and, as a result, significant debt
service obligations. As of September 30, 1998, the Company had approximately
$1,358,595,000 of long-term indebtedness which represented 61% of its total
capitalization. The degree to which the Company is leveraged could have
important consequences, including, but not limited to the following: (i) the
Company's ability to obtain additional financing in the future for working
capital, capital expenditures, acquisitions or other purposes may be limited or
impaired; (ii) a substantial portion of the Company's cash flow from operations
will be dedicated to the payment of principal and interest on its indebtedness,
thereby reducing the funds available to the Company for its operations; (iii)
the Company's operating flexibility with respect to certain matters is limited
by covenants contained in certain debt agreements which limit the ability of the
Company and its subsidiaries with respect to the incurrence of additional
indebtedness and entering into sale and leaseback transactions or other loans,
investments or guarantees, the creation of liens, the payment of dividends and
sales of assets and set forth minimum net worth requirements; (iv) the Company's
degree of leverage may make it more vulnerable to economic downturns and less
competitive, may reduce its flexibility in responding to changing business and
economic conditions and may limit its ability to pursue other business
opportunities, to finance its future operations or capital needs, and to
implement its business strategy; and (v) certain of the Company's borrowings are
and will continue to be at variable rates of interest, which exposes the Company
to the risk of greater interest rates.
Required payments of principal and interest on the Company's indebtedness are
expected to be financed from its cash flow from operations. The Company's
ability to make scheduled payments of the principal of, to pay interest on or to
refinance its indebtedness depends on the future performance of the Company's
business, which will in turn be subject to financial, business, economic and
other factors affecting the business and operations of the Company, including
factors beyond its control, such as prevailing economic conditions. There can be
no assurances that cash flow from operations will be sufficient to enable the
Company to service its debt and meet its other obligations. If such cash flow is
insufficient, the Company may be required to refinance all or a portion of its
existing debt, to sell assets or to obtain additional financing. There can be no
assurance that any such refinancing would be possible or that any such sales of
assets or additional financing could be achieved. The Company also has
significant long-term operating lease obligations with respect to certain of its
eldercare centers.
2
Risk of Adverse Effect of Healthcare Reform; Medicare Prospective Payment System
In recent years, a number of laws have been enacted that have effected major
changes in the health care system, both nationally and at the state level. The
Balanced Budget Act of 1997 (the "Balanced Budget Act"), signed into law on
August 5, 1997, seeks to achieve a balanced federal budget, by, among other
things, reducing federal spending on the Medicare and Medicaid programs. With
respect to Medicare, the law mandated establishment of a prospective payment
system ("PPS") for Medicare skilled nursing facilities ("SNFs") under which
facilities will be paid a federal per diem rate for most covered nursing
facility services (including pharmaceuticals).
Pursuant to the Balanced Budget Act, commencing with cost reporting periods
beginning on July 1, 1998, PPS began to be phased in for skilled nursing
facilities at a per diem rate for all covered Part A skilled nursing facility
services as well as many services for which payment may be made under Part B
when a beneficiary who is a resident of a skilled nursing facility receives
covered skilled nursing facility care. The consolidated per diem rate is
adjusted based upon the resource utilization group ("RUG") which relates to the
patient's diagnosis. In addition to covering skilled nursing facility services,
this consolidated payment will also cover rehabilitation and non-rehabilitation
ancillary services. Physician services, certain nurse practitioner and physician
assistant services, among others, are not included in the per diem rate. For the
first three cost reporting periods beginning on or after July 1, 1998, the per
diem rate will be based on a blend of a facility-specific rate and a federal per
diem rate. In subsequent periods, and for facilities first receiving payments
for Medicare services on or after October 1, 1995, the federal per diem rate
will be used without any facility specific blending.
The Balanced Budget Act requires consolidated billing for skilled nursing
facilities. Under the Balanced Budget Act, the skilled nursing facility must
submit all Medicare claims for Part A and Part B services received by its
residents on a consolidated bill with the exception of physician, nursing,
physician assistant and certain related services, even if such services were
provided by outside suppliers. Medicare will pay the skilled nursing facilities
directly for all services on the consolidated bill and outside suppliers of
services to residents of the skilled nursing facilities must collect payment
from the skilled nursing facility. Although consolidated billing was scheduled
to begin July 1, 1998 for all services, it has been delayed until further notice
for beneficiaries in a Medicare Part A stay in a skilled nursing facility not
yet using PPS for the Medicare Part A stay. There can be no assurance that the
Company will be able to provide skilled nursing services at a cost below the
established Medicare level.
Congress continues to focus on efforts to curb the growth of federal spending on
health care programs such as Medicare and Medicaid through changes in the
payment methodology such as PPS. Congress' efforts have not been limited to
skilled nursing facilities, but have and will most likely include other industry
services. For example, the Balanced Budget Act also required that a prospective
payment system for home health services be implemented.
Effective April 10, 1998, regulations were adopted by the Health Care Financing
Administration, which revise the methodology for determining the reasonable cost
for contract therapy services, including physical therapy, respiratory therapy,
occupational therapy and speech language pathology. Under the regulations, the
reasonable costs for contract therapy services are limited to
geographically-adjusted salary equivalency guidelines. However, the revised
salary equivalency guidelines will no longer apply when the PPS system
applicable to the particular setting for contract therapy services (e.g. skilled
nursing facilities, home health agencies, etc.) goes into effect.
3
The Balanced Budget Act also repealed the "Boren Amendment" federal payment
standard for Medicaid payments to nursing facilities effective October 1, 1997.
The Boren Amendment required Medicaid payments to certain health care providers
to be reasonable and adequate in order to cover the costs of efficiently and
economically operated healthcare facilities. States must now use a public notice
and comment period in order to determine rates and provide interested parties a
reasonable opportunity to comment on proposed rates and the justification for
and the methodology used in calculating such rates. There can be no assurances
that budget constraints or other factors will not cause states to reduce
Medicaid reimbursement to nursing facilities and pharmacies or that payments to
nursing facilities and pharmacies will be made on timely basis. The law also
grants greater flexibility to states to establish Medicaid managed care projects
without the need to obtain a federal waiver. Although these waiver projects
generally exempt institutional care, including nursing facilities and
institutional pharmacy services, no assurances can be given that these projects
ultimately will not change the reimbursement system for long-term care,
including pharmacy services from fee-for-service to managed care negotiated or
capitated rates. The Company anticipates that federal and state governments will
continue to review and assess alternative health care delivery systems and
payment methodologies.
In July 1998, the Clinton Administration issued a new initiative to promote the
quality of care in nursing homes. This initiative includes, but is not limited
to (i) increased enforcement of nursing home safety and quality regulations;
(ii) increased federal oversight of state inspections of nursing homes; (iii)
prosecution of egregious violations of regulations governing nursing homes; (iv)
the publication of nursing home survey results on the Internet; and (v)
continuation of the development of the Minimum Data Set ("MDS"), a national
automated clinical data system. Accordingly, with this new initiative, it may
become more difficult for eldercare facilities to maintain licensing and
certification. The Company may experience increased costs in connection with
maintaining its licenses and certifications as well as increased enforcement
actions. In addition, beginning January 1, 1999, outpatient therapy services
furnished by a skilled nursing facility to a resident not under a covered Part A
stay or to non-residents who receive outpatient rehabilitation services will be
paid according to the Medicare Physician Fee Schedule.
While the Company has prepared certain estimates of the impact of PPS, it is not
possible to fully quantify the effect of the recent legislation, the
interpretation or administration of such legislation or any other governmental
initiatives on the Company's business. See "Management's Discussion and Analysis
of Financial Condition and Results of Operations." Accordingly, there can be no
assurance that the impact of PPS will not be greater than estimated or that
these legislative changes or any future healthcare legislation will not
adversely affect the business of the Company.
Regulation
The federal government and all states in which the Company operates regulate
various aspects of the Company's business. In particular, the development and
operation of eldercare centers and the provision of healthcare services are
subject to federal, state and local laws relating to the delivery and adequacy
of medical care, distribution of pharmaceuticals, equipment, personnel,
operating policies, fire prevention, rate-setting and compliance with building
codes and environmental laws. Eldercare centers and other providers of
healthcare services, including pharmacies, are subject to periodic inspection by
governmental and other authorities to assure continued compliance with various
standards, their continued licensing under state law, and to the extent
applicable, certification under the Medicare and Medicaid programs and continued
participation in the Veterans Administration program and the ability to
participate in other third party programs. The Company is also subject to
inspection regarding record keeping and inventory control. The failure to obtain
any required regulatory approvals or licenses by a provider could result in
actions such as, but not limited to, where applicable, the denial of
reimbursement, the imposition of fines, temporary suspension of admission of new
patients to facilities, suspension or decertification from the Medicaid or
Medicare program, restrictions on the ability to acquire providers or expand
existing facilities and, in extreme cases, revocation of the facility's license
or closure of a facility. There can be no assurance that the facilities or
providers owned, leased or managed by the Company, or the provision of services
and supplies by the Company, will meet or continue to meet the requirements for
participation in the Medicaid or Medicare programs or that state licensing
authorities will not adopt changes or new interpretations of existing laws that
would adversely affect the Company.
4
Many states have adopted Certificate of Need or similar laws which generally
require that the appropriate state agency approve certain acquisitions and
determine that a need exists for certain bed additions, new services and capital
expenditures or other changes prior to beds and/or new services being added or
capital expenditures being undertaken. To the extent that Certificates of Need
or other similar approvals are required for expansion of Company operations,
either through center or provider acquisitions or expansion or provision of new
services or other changes, such expansion could be adversely affected by the
failure or inability to obtain the necessary approvals, changes in the standards
applicable to such approvals and possible delays and expenses associated with
obtaining such approvals. In addition, in most states the reduction of beds or
the closure of a facility requires the approval of the appropriate state
regulatory agency and if the Company were to reduce beds or close a facility,
the Company could be adversely impacted by a failure to obtain or a delay in
obtaining such approval.
The Company is also subject to federal and state laws which govern financial and
other arrangements between healthcare providers. These laws often prohibit
certain direct and indirect payments or fee-splitting arrangements between
healthcare providers that are designed to induce or encourage the referral of
patients to, or the recommendation of, a particular provider for medical
products and services. These laws include the federal "Stark legislations" which
prohibit, with limited exceptions, the referral of patients for certain
services, including home health services, physical therapy and occupational
therapy, by a physician to an entity in which the physician has a financial
interest and the federal "anti-kickback law" which prohibits, among other
things, the offer, payment, solicitation or receipt of any form of remuneration
in return for the referral of Medicare and Medicaid patients or the purchasing,
leasing, ordering or arranging for any goods, facility services or items for
which payment can be made under Medicare and Medicaid. The Company is also
subject to laws applicable to federal government contracts generally, such as
the False Claims Act, which establishes liability for anyone making false
statements to get a claim paid by the federal government. The federal
government, private insurers and various state enforcement agencies have
increased their scrutiny of providers, business practices and claims in an
effort to identify and prosecute fraudulent and abusive practices. In addition,
the federal government has issued recent fraud alerts concerning nursing
services, double billing, home health services and the provision of medical
supplies to nursing facilities; accordingly, these areas may come under closer
scrutiny by the government. See "Business -- Governmental Regulation."
Furthermore, some states restrict certain business relationships between
physicians and other providers of healthcare services. Many states prohibit
business corporations from providing, or holding themselves out as a provider
of, medical care. Possible sanctions for violation of any of these restrictions
or prohibitions include loss of licensure or eligibility to participate in
reimbursement programs and civil and criminal penalties. These laws vary from
state to state, are often vague and have seldom been interpreted by the courts
or regulatory agencies. From time to time, the Company has sought guidance as to
the interpretation of these laws; however, there can be no assurance that such
laws will ultimately be interpreted in a manner consistent with the practices of
the Company.
In the ordinary course of business, the Company's facilities receive notices of
deficiencies following surveys for failure to comply with various regulatory
requirements. From time to time, survey deficiencies have resulted in various
penalties against certain providers and the Company. These penalties have
included, but have not been limited to, monetary fines, temporary bans on the
admission of new patients, decertifications and the placement of restrictions on
the Company's ability to obtain or transfer Certificates of Need in certain
states. Additionally, actions taken against one provider may subject eldercare
centers under common control or ownership to adverse measures, including loss of
licensure, loss of eligibility to participate in reimbursement programs and
inability to expand or acquire new centers. There can be no assurance that
future actions by state regulators will not result in penalties or sanctions
which could have a material adverse effect on the Company.
5
Dependence on Reimbursement by Third Party Payors
For the years ended September 30, 1998, 1997, and 1996, respectively, the
Company derived approximately 45%, 39% and 39% of its patient service revenue
from private pay sources, 20%, 24% and 25% from Medicare and 35%, 37% and 36%
from various state Medicaid agencies. Both governmental and private third party
payors have employed cost containment measures designed to limit payments made
to healthcare providers such as the Company. Those measures include the adoption
of initial and continuing recipient eligibility criteria which may limit payment
for services, the adoption of PPS under Medicare, the repeal of the Boren
Amendment requiring Medicaid payments to be reasonable and adequate, and
duration criteria which limit the services which will be reimbursed and the
establishment of payment ceilings which set the maximum reimbursement that a
provider may receive for services. Furthermore, government payment programs are
subject to statutory and regulatory changes, retroactive rate adjustments,
administrative rulings and government funding restrictions, all of which may
materially increase or decrease the rate of program payments to the Company for
its services. There can be no assurance that payments under governmental and
private third party payor programs will remain at levels comparable to present
levels or will, in the future, be sufficient to cover the costs allocable to
patients eligible for reimbursement pursuant to such programs. The Company's
financial condition and results of operations may be affected by the revenue
reimbursement process, which in the Company's industry is complex and can
involve lengthy delays between the time that revenue is recognized and the time
that reimbursement amounts are settled. The majority of the third party payor
balances are settled within two or three years following the provision of
services. The Company's financial condition and results of operations may also
be affected by the timing of reimbursement payments and rate adjustments from
third party payors. In addition, there can be no assurance that centers owned,
leased or managed by the Company, or the provision of services and supplies by
the Company, now or in the future will initially meet or continue to meet the
requirements for participation in such programs. The Company could be adversely
affected by the continuing efforts of governmental and private third party
payors to contain the amount of reimbursement for healthcare services. In an
attempt to limit the federal budget deficit, there have been, and the Company
expects that there will continue to be, a number of proposals to limit Medicare
and Medicaid reimbursement for healthcare services. In certain states there have
been actions taken or proposals made to eliminate the distinction in Medicaid
payment for skilled versus intermediate care services and to establish a case
mix prospective payment system pursuant to which the payment to a facility for a
patient is based upon the patient's condition and need for services. The Company
cannot at this time predict the extent to which these proposals will be adopted
or, if adopted and implemented, what effect, if any, such proposals will have on
the Company. Efforts to impose reduced allowances, greater discounts and more
stringent cost controls by government and other payors are expected to continue.
See "Business - Revenue Sources."
Managed care organizations and other third party payors have continued to
consolidate in order to enhance their ability to influence the delivery of
healthcare services. Consequently, the healthcare needs of a large percentage of
the United States population are increasingly served by a small number of
managed care organizations. These organizations generally enter into service
agreements with a limited number of providers for needed services. To the extent
such organizations terminate the Company as a preferred provider and/or engage
the Company's competitors as a preferred or exclusive provider, the Company's
business could be materially adversely affected. In addition, private payors,
including managed care payors increasingly are demanding discounted fee
structures or the assumption by healthcare providers of all or a portion of the
financial risk through prepaid capitation arrangements.
For certain specialty medical services covered by the Medicare program, the
Company is reimbursed for its direct costs plus an allocation of indirect costs
up to a regional limit. As the Company expands its specialty medical services,
the costs of care for these patients are expected to exceed the regional
reimbursement limits. As a result, the Company has submitted and will be
required to submit, further exception requests to recover the excess costs from
Medicare. There is no assurance the Company will be able to recover such excess
costs under pending or any future requests. The failure to recover these excess
costs in the future will adversely affect the Company's financial position and
results of operations. When PPS is fully implemented, the Company will no longer
be reimbursed on a cost basis under the Medicare program.
6
The Company is subject to periodic audits by Medicare and Medicaid programs, and
the paying agencies for these programs have various rights and remedies against
the Company if they assert that the Company has overcharged the programs or
failed to comply with program requirements. Such payment agencies could seek to
require the Company to repay any overcharges or amounts billed in violations of
program requirements, or could make deductions from future amounts due to the
Company. Such agencies could also impose fines, criminal penalties or program
exclusions. Private pay sources also reserve rights to conduct audits and make
monetary adjustments. See "Risk of Adverse Effect of Healthcare Reform; Medicare
Prospective Payment System" and "Regulation".
Competition
The healthcare industry is highly competitive. The Company competes with a
variety of other companies in providing eldercare services. Certain competing
companies have greater financial and other resources and may be more established
in their respective communities than the Company. Competing companies may offer
newer or different centers or services than the Company and may thereby attract
the Company's customers who are either presently customers of its eldercare
centers or are otherwise receiving its eldercare services. As a result of the
Vitalink Transaction, HCR-Manor Care, a publicly traded owner of eldercare
centers that competes with the Company in certain markets, owns 586,240 shares
of Genesis Series G Cumulative Convertible Preferred Stock (the "Genesis
Preferred") which are convertible at the option of the holder into approximately
7,880,000 shares of the Company's Common Stock. Pursuant to the Vitalink Service
Contracts, the Company's NeighborCare pharmacy operations provide services to
HCR-Manor Care constituting approximately ten percent of the net revenues of
NeighborCare. See "Business - Competition."
Risks Associated with Recent Acquisitions and Acquisition Strategy
The Company has recently completed several acquisitions of eldercare businesses.
There can be no assurance that the Company will be able to realize expected
operating and economic efficiencies from its recent acquisitions or from any
future acquisitions or that such acquisitions will not adversely affect the
Company's results of operations or financial condition. In addition, there can
be no assurance that the Company will be able to locate suitable acquisition
candidates in the future, consummate acquisitions on favorable terms or
successfully integrate newly acquired businesses with the Company's operations.
The consummation of acquisitions likely will result in the incurrence or
assumption by the Company of additional indebtedness.
Year 2000 Compliance
The failure of the Company or third parties to be fully Year 2000 compliant for
essential systems and equipment by January 1, 2000 could result in interruptions
of normal business work operations. The Company's potential risks include: (i)
the inability to deliver patient care related services in the Company's
facilities and / or in non-affiliated facilities; (ii) the delayed receipt of
reimbursement from the federal or state governments, private payors or
intermediaries, (iii) the failure of security systems, elevators, heating
systems or other operational systems and equipment at the Company's facilities
and (iv) the inability to receive critical equipment and supplies from vendors.
Each of these events could have a material adverse effect on the Company's
business, results of operations and financial condition. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations - Year
2000 Compliance".
7
PART I
ITEM 1: BUSINESS
General
Genesis Health Ventures, Inc. was incorporated in May 1985 as a Pennsylvania
corporation. As used herein, unless the context otherwise requires, "Genesis" or
the "Company" refers to Genesis Health Ventures, Inc. and subsidiaries.
Information included herein which describes the Company's operations after
October 10, 1997 (e.g. markets served, facilities information, personnel)
includes the Multicare operations; information included herein describing the
Company's historical results prior to October 10, 1997 (e.g.
occupancy rates and revenue sources) does not include the Multicare operations.
Genesis is a leading provider of healthcare and support services to the elderly.
The Company has developed the Genesis ElderCare(SM) delivery model of integrated
healthcare networks to provide cost-effective, outcome-oriented services to the
elderly. Through these integrated healthcare networks, Genesis provides basic
healthcare and specialty medical services to more than 175,000 customers,
including approximately 40,000 customers who are residents in eldercare
facilities. Genesis operates primarily in five regional markets in which over
11,100,000 people over the age of 65 reside. The networks include 326 eldercare
centers with approximately 42,200 beds; nine primary care physician clinics;
approximately 85 physicians, physician assistants and nurse practitioners; 11
medical supply distribution centers serving over 1,000 eldercare centers with
over 80,000 beds; an integrated NeighborCare(SM) pharmacy operation with over
$900,000,000 in annualized revenues, including 79 long-term care pharmacies
serving approximately 263,000 institutional beds; 34 community-based
pharmacies; infusion therapy services; and certified rehabilitation agencies
providing services through over 600 contracts. The Company also provides
diagnostic and hospitality services in selected markets and operates a group
purchasing organization. Genesis has concentrated its eldercare networks in five
geographic regions in order to achieve operating efficiencies, economies of
scale and significant market share. The five geographic markets that Genesis
principally serves are: New England Region (Massachusetts/Connecticut/New
Hampshire/Vermont/Rhode Island); Midatlantic Region (Greater
Philadelphia/Delaware Valley); Chesapeake Region (Southern Delaware/Eastern
Shore of Maryland/Baltimore, Maryland/Washington D.C./Virginia); Southern Region
(Central Florida); and Allegheny Region (West Virginia/Western
Pennsylvania/Eastern Ohio/Illinois/Wisconsin). The Company believes that it is
the largest operator of eldercare center beds in the states of New Hampshire,
Massachusetts, New Jersey, Pennsylvania, Maryland and West Virginia.
The Company's eldercare services focus on the central medical and physical
issues facing the more medically demanding elderly. By integrating the talents
of physicians with case management, comprehensive discharge planning and, where
necessary, home support services, the Company believes it provides
cost-effective care management to achieve superior outcomes and return customers
to the community. The Company believes that its orientation toward achieving
improved customer outcomes through its eldercare networks has resulted in
increased utilization of specialty medical services, high occupancy of available
beds, enhanced quality payor mix and a broader base of repeat customers.
Specialty medical services revenues have increased at a compound annual rate of
56% from the fiscal year ended September 30, 1994 to the fiscal year ended
September 30, 1998 and comprise 52% of the Company's revenues for the fiscal
year ended September 30, 1998. Specialty medical services typically generate
higher profit margins than basic healthcare services and are less capital
intensive.
The Company's long-term growth strategy is to enhance its existing eldercare
networks, establish new eldercare networks in markets it deems attractive and
broaden its array of high margin specialty medical services through internal
development and selected acquisitions. Consistent with its strategy, the Company
has made selected acquisitions of, and investments in, eldercare centers and
rehabilitation and pharmacy companies, including the August 28, 1998 Vitalink
Transaction. The Company has undertaken several initiatives to position itself
to compete in the current healthcare environment. These initiatives include: (i)
establishing a strategic division to develop clinical care protocols and monitor
the delivery and utilization of medical care; (ii) developing a clinical
administration and healthcare management information system; (iii) establishing
and marketing the Genesis ElderCare(SM) brand name and establishing Genesis
ElderCare (SM) toll-free telephone lines along with other trademarks, to
increase awareness of the Company's eldercare services in the healthcare market;
(iv) seeking strategic alliances with other healthcare providers to broaden the
Company's continuum of care; and (v) creating an independent eldercare advisory
board to formulate new and innovative approaches in the delivery of care.
8
Basic Healthcare Services
Genesis operates 302 eldercare centers located in 16 states. The centers offer
three levels of care for their customers: skilled, intermediate and personal.
Skilled care provides 24-hour per day professional services of a registered
nurse; intermediate care provides less intensive nursing care; and personal care
provides for the needs of customers requiring minimal supervision and
assistance. Each eldercare center is supervised by a licensed healthcare
administrator and employs a Medical Director to supervise the delivery of
healthcare services to residents and a Director of Nursing to supervise the
nursing staff. The Company maintains a corporate quality assurance program to
monitor regulatory compliance and to enhance the standard of care provided in
each center.
In addition to programs to meet the healthcare needs of its customers, all
Genesis eldercare centers offer a variety of quality of life programs. These
include the Intergenerational Learning Program that enables residents to
function both as students and as instructors in programs with community schools,
as well as The Magic Mix Program that provides a supervised setting in which
children of working parents can interact with residents of the centers after
school. These programs have received recognition at both local and national
levels.
In eight of its eldercare centers, the Company operates Genesis ElderCare Focus
programs which are dedicated to meeting the special medical, emotional and
psychological needs of Alzheimer's patients. The Focus programs were developed
in conjunction with the Dementia Research Clinic at the Johns Hopkins University
School of Medicine. These units provide an environment that is designed or
modified to assist those with cognitive loss. Clinical experts have experienced
significant success and produced benefits to customers served in both
Alzheimer's day services and dedicated residential units.
The following table sets forth, for the periods indicated, information regarding
the Company's average number of beds in service and the average occupancy levels
at its eldercare centers during the respective fiscal years.
1998 1997 1996
- ---------------------------------------------------------------------------------------
Average Beds in Service: (1)
Owned and Leased Facilities 15,137 15,132 9,429
Managed and Jointly-Owned Facilities 24,234 6,101 5,030
Occupancy Based on Average Beds in Service:
Owned and Leased Facilities 91% 91% 93%
Managed and Jointly-Owned Facilities 92% 92% 93%
- ---------------------------------------------------------------------------------------
(1) Excludes beds in facilities which were unavailable for occupancy due to
renovations.
Specialty Medical Services
The Company emphasizes the delivery of specialty medical services which
typically requires smaller capital investment and generates higher profit
margins than providing basic healthcare services. The Company provides the
specialty medical services described below.
9
Institutional Pharmacy and Medical Supply Services. The Company, through its
NeighborCare (SM) pharmacy subsidiaries which have over $900,000,000 in
annualized revenues, provides pharmacy and other services, including infusion
therapy and medical supplies and equipment, to eldercare centers it operates, as
well as to independent healthcare providers by contract. The pharmacy services
provided in these settings are tailored to meet the needs of the institutional
customer. These services include highly specialized packaging and dispensing
systems, computerized medical records processing and 24-hour emergency services.
The Company's institutional pharmacy and medical supply services were developed
to provide the products and support services required in the healthcare market.
Institutional pharmacy services are designed to help assure quality of care and
to control costs at the facilities served. Medical supply services are designed
to assure availability and control through maintenance of a comprehensive
inventory, extensive delivery services and special ordering and tracking
systems. The Company also provides pharmacy consulting services to assure proper
and effective drug therapy. The Company provides these services through 79
institutional pharmacies (of which one is jointly-owned) and 11 distribution
centers located in its various market areas. In addition, the Company operates
34 community-based pharmacies which are located in or near medical centers,
hospitals and physician office complexes. The community-based pharmacies provide
prescription and over-the-counter medications and certain medical supplies, as
well as personal service and consultation by licensed professional pharmacists.
Approximately 89% of the sales attributable to all pharmacy operations in Fiscal
1998 were generated through external contracts with independent healthcare
providers with the balance attributable to centers owned or leased by the
Company.
Rehabilitation Therapy. The Company provides an extensive range of
rehabilitation therapy services, including speech pathology, physical therapy
and occupational therapy, through seven certified rehabilitation agencies in all
five of its regional market concentrations. These services are provided by
approximately 1,800 licensed rehabilitation therapists and assistants employed
by Genesis to substantially all of the eldercare centers the Company operates,
as well as by contract to healthcare facilities operated by others.
Subacute Care Programs. The Company has established and actively markets
programs for elderly and other customers who require subacute levels of medical
care. These programs include ventilator care, intravenous therapy, post-surgical
recovery, respiratory management, orthopedic or neurological rehabilitation,
terminal care and various forms of coma, pain and wound management. Private
insurance companies and other third party payors, including certain state
Medicaid programs, have recognized that treating customers requiring subacute
medical care in centers such as those operated by Genesis is a cost-effective
alternative to treatment in an acute care hospital. The Company provides such
care at rates that the Company believes are substantially below the rates
typically charged by acute care hospitals for comparable services.
Other Services. The Company employs or has consulting arrangements with
approximately 85 physicians, physician assistants and nurse practitioners who
are primarily involved in designing and administering clinical programs and
directing patient care. The Company also provides an array of other specialty
medical services in certain parts of its eldercare networks, including portable
x-ray and other diagnostic services; home healthcare services; and hospitality
services such as dietary, housekeeping, laundry, plant operations and facilities
management services.
Management Services and Other
Management Services. The Company provides management services to 189 eldercare
centers pursuant to management agreements that provide generally for the
Company's day-to-day responsibility for the operation and management of the
centers. In turn, Genesis receives management fees, depending on the agreement,
computed as either an overall fixed fee, a fixed fee per customer, a percentage
of net revenues of the center plus an incentive fee, or a percentage of gross
revenues of the center with some incentive clauses. The various management
agreements, including option periods, terminate between 1999 and 2017. The
Company has extended various mortgage and other loans to certain facilities
under management contract. See "Notes to Consolidated Financial Statements -
Footnote 9 Notes Receivable and Other Investments."
10
Genesis provides development services for a fee in an amount equal to five
percent of the total cost of developing and completing facilities developed by
Adult Community Total Services, Inc. The contract extends through December 2002
and Genesis is guaranteed a minimum annual development fee of $1,500,000.
Group Purchasing. The Company's subsidiary, The Tidewater Healthcare Shared
Services Group, Inc. ("Tidewater"), is one of the largest group purchasing
companies in the Midatlantic region. Tidewater provides purchasing and shared
service programs specially designed to meet the needs of eldercare centers and
other long-term care facilities. Tidewater's services are contracted to
approximately 2,200 members with over 236,000 beds in 44 states and the District
of Columbia.
Strategic Clinical Initiatives
The Company has undertaken several initiatives to position itself to compete
effectively in the current healthcare environment. The Company has established a
strategic division which is responsible for developing clinical care protocol
and monitoring the delivery and utilization of medical care. The Company has
also developed a clinical administration and healthcare management information
system to monitor and measure clinical and patient outcome data for use by
healthcare providers and the Company. The Company is also seeking strategic
alliances with selected providers in order to further the continuum of care,
increase market share and customer acceptance and create strategic affiliations
for negotiating with payors in a managed care environment. In addition to these
initiatives, the Company has established toll-free telephone lines and
consolidated its core business under the Genesis ElderCare(SM) brand name in an
effort to increase the Company's visibility among current and potential
customers, payors and other healthcare providers. The Company has also created
an independent eldercare advisory board composed of individuals with
distinguished credentials in geriatric care to formulate new and innovative
approaches in the delivery of care.
Revenue Sources
The Company derives its basic healthcare and specialty medical revenue from
private pay sources, state Medicaid programs and Medicare. The Company
classifies payments from persons or entities other than the government as
private pay and other revenue. The private pay and other classification also
includes revenues from commercial insurers, health maintenance organizations and
other charge-based payment sources. Blue Cross and Veterans Administration
payments are included in private pay and other revenues and are made pursuant to
renewable contracts negotiated with these payors. The private pay rates charged
by the Company are influenced primarily by the rates charged by other providers
in the local market and by Medicaid and Medicare reimbursement rates. Specialty
medical revenues are usually reimbursed under casualty and health insurance
coverages. The acuity levels for these insurance patients are generally higher
and require additional staff and increased utilization of facility resources,
resulting in higher payment rates. Individual cases are either negotiated on a
case by case basis with the insurer or the rates are prescribed through managed
care contract provisions.
Medicare is a federally funded and administered health insurance program that
consists of Parts A and B. Participation in Part B is voluntary and is funded in
part through the payment of premiums. Subject to certain limitations, benefits
under Part A include inpatient hospital services, skilled nursing in an
eldercare center and medical services such as physical, speech and occupational
therapy, certain pharmaceuticals and medical supplies. Part B provides coverage
for physician services. Part B also reimburses for medical services with the
exception of pharmaceutical services. Medicare benefits are not available for
intermediate and custodial levels of care; however, medical and physician
services furnished to such patients may be reimbursable under Part B.
11
Legislative and regulatory action has resulted in continuing change in the
Medicare and Medicaid reimbursement programs which has adversely impacted the
Company. The changes have limited, and are expected to continue to limit,
payment increases under these programs. Also, the timing of payments made under
the Medicare and Medicaid programs is subject to regulatory action and
governmental budgetary constraints; in recent years, the time period between
submission of claims and payment has increased. Implementation of the Company's
strategy to expand specialty medical services to independent providers should
reduce the impact of changes in the Medicare and Medicaid reimbursement programs
on the Company as a whole. Within the statutory framework of the Medicare and
Medicaid programs, there are substantial areas subject to administrative rulings
and interpretations which may further affect payments made under those programs.
Further, the federal and state governments may reduce the funds available under
those programs in the future or require more stringent utilization and quality
reviews of eldercare centers or other providers. There can be no assurances that
adjustments from Medicare or Medicaid audits will not have a material adverse
effect on the Company.
Pursuant to the Balanced Budget Act, commencing with cost reporting periods
beginning on July 1, 1998, PPS began to be phased in for skilled nursing
facilities at a per diem rate for all covered Part A skilled nursing facility
services as well as many services for which payment may be made under Part B
when a beneficiary who is a resident of a skilled nursing facility receives
covered skilled nursing facility care. The consolidated per diem rate is
adjusted based upon the RUG. In addition to covering skilled nursing facility
services, this consolidated payment will also cover rehabilitation and
non-rehabilitation ancillary services. Physician services, certain nurse
practitioner and physician assistant services, among others, are not included in
the per diem rate. For the first three cost reporting periods beginning on or
after July 1, 1998, the per diem rate will be based on a blend of a facility
specific rate and a federal per diem rate. In subsequent periods, and for
facilities first receiving payments for Medicare services on or after October 1,
1995, the federal per diem rate will be used without any facility specific
blending.
The Balanced Budget Act also required consolidated billing for skilled nursing
facilities. Under the Balanced Budget Act, the skilled nursing facility must
submit all Medicare claims for Part A and Part B services received by its
residents with the exception of physician, nursing, physician assistant and
certain related services, even if such services were provided by outside
suppliers. Medicare will pay the skilled nursing facilities directly for all
services on the consolidated bill and outside suppliers of services to residents
of the skilled nursing facilities must collect payment from the skilled nursing
facility. Although consolidated billing was scheduled to begin July 1, 1998 for
all services, it has been delayed until further notice for beneficiaries in a
Medicare Part A stay in a skilled nursing facility not yet using PPS for the
Medicare Part B Stay.
Under the Part A reimbursement methodology applicable to periods prior to the
implementation of PPS, each eldercare center receives an interim payment during
the year which is adjusted to reflect actual allowable direct and indirect costs
of services based on the submission of a cost report at the end of each year.
For services not billed through each eldercare center, the Company's specialty
medical operations bill Medicare directly for nutritional support services,
infusion therapy, certain medical supplies and equipment, physician services and
certain therapy services as provided. Medicare payments for these services may
be based on reasonable cost charges or a fixed-fee schedule determined by
Medicare. As the Company is reimbursed for its direct costs plus an allocation
of indirect costs up to a regional limit, to the extent that the Company expands
its specialty medical services, the costs of care for these patients is expected
to exceed the regional reimbursement limits. As a result, the Company has
submitted and will be required to submit further exception requests to recover
such excess costs under pending or any requests from Medicare. There can be no
assurances that the Company will be able to recover such excess costs under
pending or future requests. The failure to recover these excess costs in the
future would adversely affect the Company's financial position and results of
operations. Medicare payments for these services may be based on reasonable cost
charges or a fixed-fee schedule determined by Medicare.
12
Medicaid is the state administered reimbursement program that covers both
skilled and intermediate long-term care. Although Medicaid programs vary from
state to state, typically they provide for payment for services including
nursing facility services, physician's services, therapy services and
prescription drugs, up to established ceilings, at rates based upon cost
reimbursement principles. Reimbursement rates are typically determined by the
state from cost reports filed annually by each center, on a prospective or
retrospective basis. In a prospective system, a rate is calculated from
historical data and updated using an inflation index. The resulting prospective
rate is final, but in some cases may be adjusted pursuant to an audit. In this
type of payment system, center cost increases during the rate year do not affect
payment levels in that year. In a retrospective system, final rates are based on
reimbursable costs for that year. An interim rate is calculated from previously
filed cost reports, and may include an inflation factor to account for the time
lag between the final cost report settlement and the rate period. Consequently,
center cost increases during any year may affect revenues in that year. Certain
states are scheduled to convert, or have recently converted, from a
retrospective system, which generally recognizes only two or three levels of
care, to a case mix prospective pricing system, pursuant to which payment to a
center for patient services directly considers the individual patient's
condition and need for services. Moreover, the Balanced Budget Act also repealed
the Boren Amendment which required Medicaid payments to nursing facilities to be
"reasonable and adequate" to cover the costs of efficiently and economically
operated facilities. Under the Balanced Budget Act, states must now use a public
notice and comment process for determining Medicaid rates, rate methodology and
justifications. It is unclear what the impact of the Balanced Budget Act will
have on the Company. The Company employs specialists in reimbursement at the
corporate level to monitor both Medicaid and Medicare regulatory developments to
comply with all reporting requirements and to insure appropriate payments.
The following table reflects the allocation of customer service revenues among
these sources of revenue.
1998 1997 1996 1995 1994
- ---------------------------------------------------------------------------
Private pay and other 45% 39% 39% 38% 41%
Medicaid 35 37 36 41 43
Medicare 20 24 25 21 16
- ---------------------------------------------------------------------------
Total 100% 100% 100% 100% 100%
- ---------------------------------------------------------------------------
See "Cautionary Statements Regarding Forward Looking Statements."
Marketing
Marketing for eldercare centers is focused at the local level and is conducted
primarily by the center administrator and its admissions director who call on
referral sources such as doctors, hospitals, hospital discharge planners,
churches and various community organizations. In addition to those efforts, the
Company's marketing objective is to maintain public awareness of the eldercare
center and its capabilities. The Company takes advantage of its regional
concentrations in its marketing efforts, where appropriate, through consolidated
marketing programs which benefit more than one center.
Genesis markets specialty medical services to its managed eldercare centers, as
well as to independent healthcare providers, in addition to providing such
services to its owned, leased and affiliated eldercare centers. The Company
markets its rehabilitation therapy and institutional pharmacy and medical supply
services through a direct sales force which primarily calls on eldercare
centers, hospitals, clinics and home health agencies. The corporate business
development department, through regional managers, markets the Company's
subacute program directly to insurance companies, managed care organizations and
other third party payors. In addition, the marketing department supports the
eldercare centers in developing promotional materials and literature focusing on
the Company's philosophy of care, services provided and quality clinical
standards. See "Governmental Regulation" for a discussion of the federal and
state laws which limit financial and other arrangements between healthcare
providers.
13
In Fiscal 1996, the Company announced a consolidation of its core business under
the name Genesis ElderCare (SM). The Genesis ElderCare logo and service mark
have been featured in a series of print advertisements in publications serving
the regional markets in which the Company operates. The Company's marketing of
Genesis ElderCare is aimed at increasing awareness among decision makers in key
professional and business audiences. The Company is using advertising, including
the Company's toll free ElderCare Lines, to promote its brand name in trade,
professional and business publications and to promote services directly to
consumers.
The consumer advertising effort was significantly increased beginning in January
1998 to build awareness of the Genesis ElderCare brand among family caregivers
and elders living in the community. The advertising effort, which is
concentrated in the Company's key geographic markets, uses television, consumer
magazines, and direct mail to motivate consumers who need any of the Company's
services to call one of the Company's regional toll-free ElderCare Lines where
they are directed to the appropriate resource.
Personnel
At November 30, 1998, Genesis and its subsidiaries (including Multicare)
employed over 45,000 people, including approximately 34,500 full-time and 10,000
part-time employees. Approximately 20% of these employees are physicians and
nursing and professional staff. Approximately 15,000 of these employees are
employed by Multicare.
The Company currently has collective bargaining agreements which relate to 61
facilities, including 27 facilities operated by Multicare. The agreements expire
at various dates from 1998 through 2001 and cover approximately 5,000 employees.
In addition, certain of the Company's facilities have been subject to an
aggressive union organizing campaign. The Company believes that its relationship
with its employees is generally good.
Employee Training and Development
Genesis believes that nursing and professional staff retention and development
has been and continues to be a critical factor in the successful operation of
the Company. In response to this challenge, a compensation program which
provides for annual merit reviews as well as financial and quality of care
incentives has been implemented to promote center staff motivation and
productivity and to reduce turnover rates. Management believes that the
Company's wage rates for professional nursing staff are commensurate with market
rates. The Company also provides employee benefit programs which management
believes, as a package, exceed industry standards. The Company has not
experienced any significant difficulty in attracting or retaining qualified
personnel.
In addition, Genesis has established an internal training and development
program for both nurse assistants and nurses. Employee training is emphasized by
the Company through a variety of in-house programs as well as a tuition
reimbursement program. The Company has established, company-wide, the Genesis
Nursing Assistant Specialist Program. This program is offered on a joint basis
with community colleges. Classes are held on the employees' time, last for
approximately six months and provide advanced instruction in nursing care. The
Company pays the tuition. When all of the requirements for class participation
have been met through attendance, discussion and examinations, the nurses aide
graduates and is awarded the title of Nursing Assistant Specialist and receives
a salary adjustment. The Company has maintained a retention rate of 77% since
1990 of the nurses aide graduates. Approximately 1,450 nurses aides have
graduated from the Genesis Nursing Assistant Specialist Program and received an
increase in salary. As the nurse aide continues through the career ladder, the
Company continues to provide incentives. At the next level, Senior Nursing
Assistant Specialist, the employee receives another increase in salary and
additional tuition reimbursement of up to $2,250 toward becoming a Licensed
Practical Nurse ("LPN") or Registered Nurse ("RN") and at the Senior Nursing
Assistant Specialist Coordinator level, tuition reimbursement increases to a
maximum of $3,000 per year towards a nursing degree.
14
The Company began a junior level management and leadership training program in
1990 referred to as the Pilot Light Program. The target audience for this
training is RN's and LPN's occupying charge nurse positions within the Company's
nursing centers as well as junior level managers throughout the Genesis
networks. Over 800 participants have graduated from this program.
Governmental Regulation
The federal government and all states in which the Company operates regulate
various aspects of the Company's business. The Company's eldercare centers are
subject to certain federal statutes and regulations and to statutory and
regulatory licensing requirements by state and local authorities. All Genesis
eldercare centers are currently so licensed. In addition, eldercare centers are
subject to various local building codes and other ordinances.
All of the Company's eldercare centers and healthcare services, to the extent
required, are licensed under applicable law. All eldercare centers and
healthcare services, or practitioners providing the services therein, are
certified or approved as providers under one or more of the Medicaid, Medicare
or Veterans Administration programs. Licensing, certification and other
applicable standards vary from jurisdiction to jurisdiction and are revised
periodically. State and local agencies survey all eldercare centers on a regular
basis to determine whether such centers are in compliance with governmental
operating and health standards and conditions for participation in government
sponsored third party payor programs. The Company believes that its centers are
in substantial compliance with the various Medicare and Medicaid regulatory
requirements applicable to them. However, in the ordinary course of its
business, the Company receives notices of deficiencies for failure to comply
with various regulatory requirements. Genesis reviews such notices and takes
appropriate corrective action. In most cases, Genesis and the reviewing agency
will agree upon the measures to be taken to bring the center into compliance
with regulatory requirements. In some cases or upon repeat violations, the
reviewing agency may take various adverse actions against a provider, including
the imposition of fines, temporary suspension of admission of new patients to
the center, suspension or decertification from participation in the Medicare or
Medicaid programs and, in extreme circumstances, revocation of a center's
license. These actions may adversely affect the eldercare centers' ability to
continue to operate, the ability of the Company to provide certain services, and
eligibility to participate in the Medicare, Medicaid or Veterans Administration
programs or to receive payments from other payors. Additionally, actions taken
against one center may subject other centers under common control or ownership
to adverse measures, including loss of licensure or eligibility to participate
in Medicare and Medicaid programs. Certain of the Company's providers have
received notices in the past from state agencies that, as a result of certain
alleged deficiencies, the agency was taking steps to decertify the centers from
participation in Medicare and Medicaid programs. Except as described below, in
all cases, such deficiencies were remedied before any providers were
decertified. On July 14, 1998, the Company announced that it received notice
from NewCourtland, owner of eight nursing centers in the Philadelphia area, of
the termination of its management agreements for these centers effective July
31, 1998. This notice follows the revocation on June 25, 1998 of the operating
license at one of the NewCourtland Centers. The center had a long-standing
history of regulatory compliance difficulties dating back many years prior to
Genesis' management.
All but 30 of the Genesis eldercare owned and leased centers provide skilled
nursing services and are currently certified to receive benefits provided under
Medicare for these services. Additionally, all Genesis and Multicare eldercare
centers are currently certified to receive benefits under Medicaid. Both initial
and continuing qualifications of an eldercare center to participate in such
programs depend upon many factors including accommodations, equipment, services,
patient care, safety, personnel, physical environment, and adequate policies,
procedures and controls.
15
Under the various Medicaid programs, the federal government supplements funds
provided by the participating states for medical assistance to "medically
indigent" persons. The programs are administered by the applicable state welfare
or social service agencies. Although Medicaid programs vary from state to state,
traditionally they have provided for the payment of certain expenses, up to
established limits, at rates based generally on cost reimbursement principles.
Most states in which Genesis operates have adopted Certificate of Need or
similar laws which generally require that a state agency approve certain
acquisitions and determine that the need for certain bed additions, new
services, and capital expenditures or other changes exist prior to the
acquisition or addition of beds or services, the implementation of other
changes, or the expenditure of capital. State approvals are generally issued for
a specified maximum expenditure and require implementation of the proposal
within a specified period of time. Failure to obtain the necessary state
approval can result in the inability to provide the service, to operate the
centers, to complete the acquisition, addition or other change, and can also
result in the imposition of sanctions or adverse action on the center's license
and adverse reimbursement action.
The Company is also subject to federal and state laws which govern financial and
other arrangements between healthcare providers. These laws often prohibit
certain direct and indirect payments or fee-splitting arrangements between
healthcare providers that are designed to induce or encourage the referral of
patients to, or the recommendation of, a particular provider for medical
products and services. These laws include the "anti-kickback" provisions of the
federal Medicare and Medicaid programs, which prohibit, among other things,
knowingly and willfully soliciting, receiving, offering or paying any
remuneration (including any kickback, bribe or rebate) directly or indirectly in
return for or to induce the referral of an individual to a person for the
furnishing or arranging for the furnishing of any item or service for which
payment may be made in whole or in part under Medicare or Medicaid. These laws
also include the "Stark legislations" which prohibit, with limited exceptions,
the referral of patients by physicians for certain services, including home
health services, physical therapy and occupational therapy, to an entity in
which the physician has a financial interest. In addition, some states restrict
certain business relationships between physicians and other providers of
healthcare services. Many states prohibit business corporations from providing,
or holding themselves out as a provider of medical care. Possible sanctions for
violation of any of these restrictions or prohibitions include loss of licensure
or eligibility to participate in reimbursement programs and civil and criminal
penalties. These laws vary from state to state, are often vague and have seldom
been interpreted by the courts or regulatory agencies. From time to time, the
Company has sought guidance as to the interpretation of these laws; however,
there can be no assurance that such laws will ultimately be interpreted in a
manner consistent with the practices of the Company. Although the Company has
contractual arrangements with some healthcare providers to which the Company
pays fees for services rendered or products provided, the Company believes that
its practices are not in violation of these laws. The Company cannot accurately
predict whether enforcement activities will increase or the effect of any such
increase on its business. There have also been a number of recent federal and
state legislative and regulatory initiatives concerning reimbursement under the
Medicare and Medicaid programs. In particular, the federal government has issued
recent fraud alerts concerning double billing, home health services and the
provision of medical supplies to nursing facilities. Accordingly, it is
anticipated that these areas may come under closer scrutiny by the government.
The Company cannot accurately predict the impact of any such initiatives. See
"Cautionary Statements Regarding Forward Looking Statements."
Competition
The Company competes with a variety of other companies in providing healthcare
services. Certain competing companies have greater financial and other resources
and may be more established in their respective communities than the Company.
Competing companies may offer newer or different centers or services than the
Company and may thereby attract the Company's customers who are either presently
residents of its eldercare centers or are otherwise receiving its healthcare
services. As a result of the Vitalink Transaction, HCR-Manor Care, a publicly
traded owner of eldercare centers that competes with the Company in certain
markets, owns 586,240 shares of Genesis Preferred which are convertible at the
option of the holder into approximately 7,880,000 shares of the Company's Common
Stock. Pursuant to the Vitalink Service Contracts, the Company's NeighborCare
pharmacy operations provide services to HCR-Manor Care constituting
approximately ten percent of the net revenues of NeighborCare.
16
The Company operates eldercare centers in 16 states. In each market, the
Company's eldercare centers may compete for customers with rehabilitation
hospitals, subacute units of hospitals, skilled or intermediate nursing centers
and personal care or residential centers which offer comparable services to
those offered by the Company's centers. Certain of these providers are operated
by not-for-profit organizations and similar businesses which can finance capital
expenditures on a tax-exempt basis or receive charitable contributions
unavailable to the Company. In competing for customers, a center's local
reputation is of paramount importance. Referrals typically come from acute care
hospitals, physicians, religious groups, other community organizations, health
maintenance organizations and the customer's families and friends. Members of a
customer's family generally actively participate in selecting an eldercare
center. Competition for subacute patients is intense among hospitals with
long-term care capability, rehabilitation hospitals and other specialty
providers and is expected to remain so in the future. Important competitive
factors include the reputation in the community, services offered, the
appearance of a center and the cost of services.
Genesis competes in providing specialty medical services with a variety of
different companies. Generally, this competition is national, regional and local
in nature. The primary competitive factors in the specialty medical services
business are similar to those in the eldercare center business and include
reputation, the quality of clinical services, responsiveness to patient needs,
and the ability to provide support in other areas such as third party
reimbursement, information management and patient record-keeping.
Insurance
Genesis carries property and general liability insurance, professional liability
insurance, and medical malpractice insurance coverage in amounts deemed adequate
by management. However, there can be no assurance that any current or future
claims will not exceed applicable insurance coverage. Genesis also requires that
physicians practicing at its eldercare centers carry medical malpractice
insurance to cover their individual practices.
17
ITEM 2: PROPERTIES
Facilities
The following table provides information by state regarding the eldercare
centers owned, leased and managed by Genesis as of November 30, 1998. Included
in Managed Centers are 116 jointly-owned facilities with 13,271 beds. Member
Centers consist of independently owned facilities that, for a fee, have access
to many of the resources and capabilities of the Genesis Eldercare Networks,
including participation in Genesis' managed care contracts, preferred provider
arrangements and group purchasing arrangements. These centers typically purchase
an array of ancillary services from Genesis.
Wholly-Owned
Centers Member Centers Leased Centers Managed Centers Total
Centers Beds Centers Beds Centers Beds Centers Beds Centers Beds
- -----------------------------------------------------------------------------------------------------------------
Pennsylvania 16 2,228 5 645 4 503 30 4,100 55 7,476
Massachusetts 8 1,092 1 123 1 100 39 5,138 49 6,453
Maryland 13 2,089 11 2,041 7 990 6 907 37 6,027
New Jersey 12 1,571 1 178 4 616 26 3,630 43 5,995
Florida 4 598 - - 12 1,409 12 1,308 28 3,315
Connecticut 4 615 1 190 1 120 13 1,866 19 2,791
West Virginia - - - - 2 180 23 1,983 25 2,163
Virginia 2 421 1 200 4 670 2 175 9 1,466
New Hampshire 8 808 - - 5 440 - - 13 1,248
Delaware 4 522 4 539 - - 1 158 9 1,219
Ohio - - - - - - 14 1,128 14 1,128
Illinois - - - - - - 10 968 10 968
Wisconsin - - - - - - 7 941 7 941
Rhode Island - - - - - - 3 373 3 373
North Carolina - - - - - - 2 340 2 340
Vermont 2 256 - - - - 1 58 3 314
- -----------------------------------------------------------------------------------------------------------------
Totals 73 10,200 24 3,916 40 5,028 189 23,073 326 42,217
- -----------------------------------------------------------------------------------------------------------------
The Company believes that all of its centers are well maintained and are in a
suitable condition for the conduct of its business.
ITEM 3: LEGAL PROCEEDINGS
Genesis is a party to litigation arising in the ordinary course of business.
Genesis does not believe the results of such litigation, even if the outcome is
unfavorable to the Company, would have a material adverse effect on its
financial position. See "Cautionary Statements Regarding Forward Looking
Statements."
On or after April 29, 1998, certain shareholders of Vitalink Pharmacy Services,
Inc. ("Vitalink") (the "Plaintiffs") filed four separate actions in Delaware
state court against Vitalink, certain of its officers and directors (the
"Individual Defendants"), Genesis and HCR-Manor Care (collectively, the
"Defendants") alleging, among other things, that Vitalink, the Individual
Defendants and HCR-Manor Care breached certain duties owed to the Plaintiffs in
connection with the Merger Agreement and certain of the transactions
contemplated thereby, and that Genesis has knowingly aided and abetted that
alleged breach (the "Stockholders Litigation"). In their complaints, the
Plaintiffs sought damages and preliminary and permanent relief to enjoin the
Defendants for consummating the Merger and Memorandum of Understanding pursuant
to which they agreed in principle, subject to the execution of a written
Stipulation of Settlement and approval by the court, to settle the Stockholders
Litigation by (a) allowing the Series G Cumulative Convertible Preferred Stock,
par value $.01 per share (the "Genesis Preferred") received by the Vitalink
minority stockholders in connection with the Merger to become freely
transferable beginning August 28, 1999 and (b) including certain additional
disclosures in the proxy statement/prospectus related to the Vitalink
Transaction.
18
ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
On August 26, 1998, the Company held a Special Meeting of its shareholders.
Proxies were solicited and the Special Meeting held to consider and act upon the
following matters:
(1) The Merger Agreement, and the transactions contemplated thereby, including
the issuance of shares of Genesis Preferred received 19,480,818 votes for
approval, 366,318 against approval and 133,571 abstentions.
(2) The authorization of the Genesis Board, in its discretion, to vote upon
such other business as may properly come before the Special Meeting and any
adjournment or postponement thereof, including, without limitation, a
motion to adjourn the Special Meeting to another time or place for the
purpose of soliciting additional proxies in order to approve and adopt the
transactions contemplated by the Merger Agreement or otherwise received
14,241,042 votes for approval, 4,480,914 against approval and 1,284,751
abstentions.
19
ITEM 4.1: EXECUTIVE OFFICERS
EXECUTIVE OFFICERS
The following table sets forth certain information with respect to the executive
officers of the Company.
Name Age Position
Michael R. Walker 50 Chairman and Chief Executive Officer
Richard R. Howard 49 Vice Chairman and Director
David C. Barr 48 Vice Chairman and Chief Operating Officer
Michael G. Bronfein 43 President, NeighborCare Pharmacies
George V. Hager, Jr. 42 Senior Vice President and Chief Financial Officer
Maryann Timon 45 Senior Vice President, Managed Care
Marc D. Rubinger 49 Senior Vice President and Chief Information Officer
Barbara J. Hauswald 39 Vice President and Treasurer
James V. McKeon 34 Vice President and Corporate Controller
Michael R. Walker is the founder of the Company and has served as Chairman and
Chief Executive Officer of the Company since its inception. In 1981, Mr. Walker
co-founded Health Group Care Centers ("HGCC"). At HGCC, he served as Chief
Financial Officer and, later, as President and Chief Operating Officer. Prior to
its sale in 1985, HGCC operated nursing homes with 4,500 nursing beds in 12
states. From 1978 to 1981, Mr. Walker was the Vice President and Treasurer of
AID Healthcare Centers, Inc. ("AID"). AID, which owned and operated 20 nursing
centers, was co-founded in 1977 by Mr. Walker as the nursing home division of
Hospital Affiliates International. Mr. Walker holds a Master of Business
Administration degree from Temple University and a Bachelor of Arts in Business
Administration from Franklin and Marshall College. Mr. Walker has served as
Chairman of the Board of Trustees of ElderTrust since its inception in January
1998.
Richard R. Howard has served as a director of the Company since its inception,
as Vice President of Development from September 1985 to June 1986, as President
and Chief Operating Officer from June 1986 to April 1997, as President from
April 1997 to November 1998 and as Vice Chairman since November 1998. Mr.
Howard's background in healthcare includes two years as the Chief Financial
Officer of HGCC. Mr. Howard's experience also includes over ten years with
Fidelity Bank, Philadelphia, Pennsylvania and one year with Equibank,
Pittsburgh, Pennsylvania. Mr. Howard is a graduate of the Wharton School,
University of Pennsylvania, where he received a Bachelor of Science degree in
Economics in 1971.
David C. Barr has served as Executive Vice President of the Company since
October 1988, as Chief Operating Officer since April 1997 and as Vice Chairman
since November 1998. Prior to joining Genesis, Mr. Barr was a principal of a
private consulting firm, Kane Maiwurm Barr, Inc., which provided management
consulting for small and medium-sized firms. Prior to forming this firm, he
served as Executive Vice President of Allegheny Beverage Corporation, a service
conglomerate. During 1984 and 1985, Mr. Barr served with Equibank, Pittsburgh,
Pennsylvania, where he held several positions including Executive Vice President
of Corporate Banking. Mr. Barr graduated in 1972 from the University of Miami
with a Bachelor of Science degree in Accounting.
Michael G. Bronfein joined the Company in June 1996 as the President of
NeighborCare, which was acquired by Genesis in June 1996. Prior to joining
NeighborCare in 1991, Mr. Bronfein held the position of Senior Vice President
and Head of Commercial Finance Lending for Signet Banking Corporation in
Maryland, Virginia and Washington, D.C. In addition to his position with the
Company, Mr. Bronfein serves as the Chairman of the Board of Health Objects
Corporation and on the National Board of Advisors - University of Maryland
School of Pharmacy. Mr. Bronfein received a Bachelors of Science Degree in
Accounting from the University of Baltimore. He is a certified public accountant
and is a member of the AICPA and MACPA.
20
George V. Hager, Jr. has served the Company as Senior Vice President and Chief
Financial Officer since February 1994. Mr. Hager joined the Company in July 1992
as Vice President and Chief Financial Officer. Mr. Hager was previously partner
in charge of the healthcare practice for KPMG Peat Marwick LLP in the
Philadelphia office. Mr. Hager began his career at KPMG Peat Marwick LLP in 1979
and has over 15 years of experience in the healthcare industry. Mr. Hager
received a Bachelor of Arts degree in Economics from Dickinson College in 1978
and a Master of Business Administration degree from Rutgers Graduate School of
Management. He is a certified public accountant and a member of the AICPA and
PICPA.
Maryann Timon has served as Senior Vice President for Managed Care since May
1996. From January 1995 through May 1996 she served as Corporate Vice President
of the Managed Care Division. Ms. Timon joined the Company in December 1990 to
form and serve as President of a wholly-owned subsidiary, Healthcare Services
Network. Ms. Timon was previously President of Mercy Ventures, Inc., a
five-company healthcare specialty group owned by Mercy Medical Center in
Baltimore, Maryland. Ms. Timon has 25 years of experience providing eldercare
healthcare services. Ms. Timon received an Associate Degree in Applied Science
in Nursing in 1973 from the State University of New York at Canton, a Bachelor
of Science Degree in Nursing in 1976 from the State University of New York at
Utica/Rome and a Master of Gerontological Nursing Degree in 1978 from the
University of Rochester.
Marc D. Rubinger has served as Senior Vice President and Chief Information
Officer since April 1997. From November 1995 to April 1997, Mr. Rubinger served
as Vice President and Chief Information Officer. Prior to joining the Company,
Mr. Rubinger served as General Manager-Decision Support Systems of Shared
Medical Systems. From 1975 through 1986, Mr. Rubinger was with Ernst & Young in
their national healthcare consulting practice, most recently as a partner. Mr.
Rubinger received a Bachelor of Arts degree in Bioscience from Binghamton
University in 1971 and a Masters of Health Administration and Planning from The
George Washington University in 1973.
Barbara J. Hauswald has served as Vice President and Treasurer since April 1998.
Prior to joining the Company, Ms. Hauswald served as First Vice President in the
Health Care Banking Department of Mellon Bank N.A. Ms. Hauswald has over 16
years of commercial banking experience. She received a Bachelor of Science
degree in Commerce in 1981 from the University of Virginia.
James V. McKeon has served as Vice President and Corporate Controller of Genesis
since April 1997. Mr. McKeon joined the Company in June 1994 as Director of
Financial Reporting and Investor Relations and served as Vice President of
Finance and Investor Relations from November 1995 to April 1997. From September
1986 until June 1994, Mr. McKeon was employed by KPMG Peat Marwick LLP, most
recently as Senior Manager. He received a Bachelor of Science degree in
Accountancy from Villanova University in 1986. Mr. McKeon is a certified public
accountant and a member of the AICPA and PICPA.
21
PART II
ITEM 5: MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
The following table indicates the high and low sale prices per share, as
reported on the New York Stock Exchange.
Calendar Year High Low
1998
First Quarter $39.75 $24.88
Second Quarter $28.38 $21.25
Third Quarter $25.50 $11.06
Fourth Quarter * $15.00 $7.81
1997
First Quarter $37.87 $28.25
Second Quarter $37.50 $25.38
Third Quarter $39.75 $32.38
Fourth Quarter $39.75 $21.75
* Through December 14, 1998
As of December 14, 1998, 35,227,558 shares of Common Stock were held of record
by 722 shareholders. The Company has not paid any cash dividends on its Common
Stock since its inception and does not anticipate paying any cash dividends on
its Common Stock in the foreseeable future. Certain of the Company's outstanding
loans contain covenants which limit the Company's ability to declare dividends.
See "Management's Discussion and Analysis of Financial Condition and Results of
Operations" and "Financial Statements".
22
ITEM 6: SELECTED FINANCIAL DATA
1998 1997 1996 1995 1994
Statement of Operations Data
(in thousands, except per share data)
Net revenues $1,405,305 $1,099,823 $ 671,469 $486,393 $388,616
Operating income before capital costs* 134,690 184,868 127,024 93,253 69,373
Earnings (loss) before income taxes,
extraordinary items and cumulative effect
of an accounting change (30,479) 75,232 58,086 40,296 27,710
Earnings (loss) before extraordinary items
and cumulative effect of an accounting
change (22,321) 48,144 37,169 25,531 17,691
Net income (loss) available to common shareholders (25,900) 47,591 37,169 23,608 17,673
Per common share data (Diluted):
Earnings (loss) before extraordinary items
and cumulative effect of an accounting
change $ (0.68) $ 1.34 $ 1.29 $ 1.03 $ 0.84
Net income (loss) available to
common shareholders (0.74) 1.33 1.29 0.97 0.84
Weighted average shares of common stock and
equivalents 35,159 36,120 31,058 28,307 24,747
- -----------------------------------------------------------------------------------------------------------------
Financial Measurements
Operating income before capital costs * as a
percent of revenue 9.6% 16.8% 18.9% 19.2% 17.8%
Earnings (loss) before income taxes,
extraordinary items and cumulative effect
of an accounting change as a percent of
revenue (2.2%) 6.8% 8.6% 8.3% 7.1%
Return ** (before interest) on average
assets employed 2.8% 5.7% 6.9% 7.0% 6.2%
Return** on average shareholders' equity (3.8%) 8.4% 11.4% 12.3% 11.6%
Long-term debt to equity ratio 1.55 1.07 .66 1.4 1.3
- -----------------------------------------------------------------------------------------------------------------
Operating Data
Payor Mix (as a percent of patient service
revenue)
Private pay and other 45% 39% 39% 38% 41%
Medicare 20% 24% 25% 21% 16%
Medicaid 35% 37% 36% 41% 43%
Average owned/leased eldercare center beds 15,137 15,132 9,429 8,268 7,530
Occupancy Percentage 91.5% 91.0% 92.6% 91.9% 91.9%
Specialty medical revenue per patient day -
eldercare centers $ 37.57 $ 33.84 $ 29.94 $ 25.06 $ 17.80
Specialty medical revenues - eldercare
services (in thousands) $ 664,486 $ 432,752 $254,663 $154,833 $109,452
Average managed life care units and health
center beds 24,234 6,101 5,030 10,374 9,992
Average full-time equivalent personnel 37,708 27,700 16,325 12,180 8,623
- -----------------------------------------------------------------------------------------------------------------
23
SELECTED FINANCIAL DATA, continued
1998 1997 1996 1995 1994
Balance Sheet Data (in thousands)
Working capital $ 305,718 $ 226,930 $155,491 $132,274 $66,854
Total assets 2,627,368 1,434,113 950,669 600,389 511,698
Long-term debt 1,358,595 651,667 338,933 308,052 250,807
Shareholders' equity $ 875,072 $ 608,021 $514,608 $221,548 $195,466
* Capital costs include depreciation and amortization, lease expense and
interest expense.
** Before extraordinary items and cumulative effect of an accounting change.
Please refer to "Management's Discussion and Analysis of Financial Condition and
Results of Operations" for a description of significant transactions.
24
ITEM 7: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
General
Since the Company began operations in July 1985, it has focused its efforts on
providing an expanding array of specialty medical services to elderly customers.
The delivery of these services was originally concentrated in the eldercare
centers owned and leased by the Company, but now also includes managed eldercare
centers, independent healthcare facilities, outpatient clinics and home health
care.
The Company generates revenues from three sources: basic healthcare services,
specialty medical services and management services and other. The Company
includes in basic healthcare services revenues all room and board charges for
its eldercare customers at its 113 owned and leased eldercare centers. Specialty
medical services include all revenues from providing rehabilitation therapies,
institutional pharmacy and medical supply services. Management services and
other include fees earned for management of eldercare centers, other service
related businesses and transactional revenues.
Certain Transactions
Vitalink Transaction
On August 28, 1998, Genesis and its wholly-owned subsidiary V Acquisition
Corporation ("Newco") consummated an Agreement and Plan of Merger (the "Merger
Agreement") with Vitalink Pharmacy Services, Inc., a Delaware corporation
("Vitalink"), pursuant to which Vitalink merged with and into Newco (the
"Vitalink Transaction"). Each share of Vitalink Common Stock, par value $.01 per
share (the "Vitalink Common Stock"), was converted in the merger into the right
to receive (i) .045 shares of Genesis Series G Cumulative Convertible Preferred
Stock, par value $.01 per share (the "Genesis Preferred"), (ii) $22.50 in cash,
or (iii) a combination of cash and shares of Genesis Preferred (collectively,
the " Merger Consideration"). The Merger Consideration paid to stockholders of
Vitalink to acquire their shares (including shares which may have been issued
upon the exercise of outstanding options) was $590,200,000, of which 50% was
paid in cash and 50% in Genesis Preferred. The Genesis Preferred has a face
value of approximately $295,100,000 and an initial dividend of 5.9375% and
generally is not transferable without the consent of the Company. The Genesis
Preferred is convertible into Genesis common stock, par value $.02 per share
(the "Common Stock"), at $37.20 per share and it may be called for conversion
after April 26, 2001, provided the price of Common Stock reaches certain trading
levels and after April 26, 2002, subject to a market-based call premium.
Vitalink's total net revenues for the fiscal years ended May 31, 1997 and 1998,
were $274,000,000 and $494,000,000, respectively. As a result of the merger,
Genesis assumed approximately $87,000,000 of indebtedness Vitalink had
outstanding. The cash portion of the purchase price was funded through
borrowings under the Credit Facility. See " Liquidity and Capital Resources."
Pursuant to four agreements with HCR-Manor Care, Vitalink provides
pharmaceutical products and services, enteral and parenteral therapy supplies
and services, urological and ostomy products, intravenous products and services
and pharmacy consulting services to facilities operated by HCR-Manor Care (the
"Service Contracts"). Vitalink is not restricted from providing similar
contracts to non-HCR-Manor Care facilities. The current term of each of the
Service Contracts extends through September 2004, subject to annual renewals
provided therein.
25
New Courtland
On July 14, 1998, the Company announced that it received notice from
NewCourtland, Inc. ("NewCourtland"), owner of eight nursing centers in the
Philadelphia area, of the termination of its management agreements for these
centers effective July 31, 1998. This notice follows the revocation on June 25,
1998 of the operating license at one of the NewCourtland centers. The center had
a long-standing history of regulatory compliance difficulties dating back many
years prior to Genesis' management. The Company believes that the termination
notice was inappropriate and has instituted suit against NewCourtland and other
related parties to recover unpaid balances due Genesis, the estimated future
operating profits of the terminated management agreements, as well as
consequential damages. The annualized revenue from the contracts is
approximately $3,800,000.
ElderTrust Transactions
On January 30, 1998, Genesis successfully completed deleveraging transactions
with ElderTrust, a newly formed Maryland healthcare real estate investment
trust. Genesis, a co-registrant on the ElderTrust initial public offering,
received approximately $78,000,000 in proceeds from the sale of 13 properties to
ElderTrust, including four properties it had purchased from Crozer-Keystone
Health System in anticipation of resale to ElderTrust. Genesis received an
additional $14,000,000 from the sale of a loan and two additional assisted
living facilities and the recoupment of amounts advanced and expenses incurred
in connection with the formation of ElderTrust. The sale of properties to
ElderTrust resulted in a gain of approximately $12,000,000 which has been
deferred and is being amortized over the ten year term of the lease contracts
with ElderTrust. Additionally, ElderTrust has funded approximately $13,200,000
of a $15,100,000 commitment to finance the development and expansion of three
additional assisted living facilities. Genesis repaid a portion of the revolving
credit component of the Credit Facility with the proceeds from these
transactions. In September 1998, the Company sold its leasehold rights and
option to purchase seven eldercare facilities acquired in its November 1993
acquisition of Meridian Healthcare, Inc. to ElderTrust for $44,000,000,
including $35,500,000 in cash and an $8,500,000 note. As part of the
transaction, Genesis will continue to sublease the facilities for ten years with
an option to extend the lease until 2018 at an initial annual lease obligation
of approximately $10,000,000. The transaction resulted in a gain of
approximately $43,700,000 which has been deferred and is being amortized over
the ten year lease term of the lease contracts with ElderTrust. The Company also
anticipates entering into transactions with ElderTrust in the future.
Multicare Transaction
In October 1997, Genesis ElderCare Corp., a Delaware Corporation owned 43.6% by
Genesis and the remainder by The Cypress Group (together with its affiliates,
"Cypress"), TPG Partners II, L.P., (together with its affiliates, "TPG") and
Nazem, Inc. (together with its affiliates "Nazem"), acquired The Multicare
Companies, Inc. ("Multicare"), pursuant to a tender offer (the "Tender Offer")
and the merger (the "Merger" or the "Multicare Transaction"). Multicare is in
the business of providing eldercare and specialty medical services in selected
geographic regions. Included among the operations acquired by Genesis ElderCare
Corp. are operations relating to the provision of (i) eldercare services
including skilled nursing care, assisted living, Alzheimer's care and related
support activities traditionally provided in eldercare facilities, (ii)
specialty medical services consisting of (1) sub-acute care such as ventilator
care, intravenous therapy and various forms of coma, pain and wound management
and (2) rehabilitation therapies such as occupational, physical and speech
therapy and stroke and orthopedic rehabilitation and (iii) management services
and consulting services to eldercare centers.
In connection with the Merger, Multicare and Genesis entered into a management
agreement (the "Management Agreement") pursuant to which Genesis manages
Multicare's operations. The Management Agreement has a term of five years with
automatic renewals for two years unless either party terminates the Management
Agreement. Genesis is paid a fee of six percent of Multicare's net revenues for
its services under the Management Agreement provided that payment of such fee in
respect of any month in excess of the greater of (i) $1,991,666 and (ii) four
percent of Multicare's consolidated net revenues for such month, shall be
subordinate to the satisfaction of Multicare's senior and subordinate debt
covenants; and provided, further, that payment of such fee shall be no less than
$23,900,000 in any given year. Under the Management Agreement, Genesis is
responsible for Multicare's non-extraordinary sales, general and administrative
expenses (other than certain specified third-party expenses), and all other
expenses of Multicare will be paid by Multicare. Genesis also entered into an
asset purchase agreement (the "Therapy Purchase Agreement") with Multicare and
certain of its subsidiaries pursuant to which Genesis acquired all of the assets
used in Multicare's outpatient and inpatient rehabilitation therapy business for
$24,000,000 subject to adjustment (the "Therapy Purchase") and a stock purchase
agreement (the "Pharmacy Purchase Agreement") with Multicare and certain
subsidiaries pursuant to which Genesis acquired all of the outstanding capital
stock and limited partnership interests of certain subsidiaries of Multicare
that are engaged in the business of providing institutional pharmacy services to
third parties for $50,000,000 (the "Pharmacy Purchase"), subject to adjustment.
The Company completed the Pharmacy Purchase effective January 1, 1998. The
Company completed the Therapy Purchase in October 1997.
26
In addition, Genesis, Cypress, TPG and Nazem entered into an agreement (the
"Put/Call Agreement") pursuant to which, among other things, Genesis has the
option, on the terms and conditions set forth in the Put/Call Agreement to
purchase (the "Call") Genesis ElderCare Corp. Common Stock held by Cypress, TPG
and Nazem commencing on October 9, 2001 and for a period of 270 days thereafter,
at a price determined pursuant to the terms of the Put/Call Agreement. Cypress,
TPG and Nazem have the option, on the terms and conditions set forth in the
Put/Call Agreement, to require Genesis to purchase (the "Put") such Genesis
ElderCare Corp. common stock commencing on October 9, 2002 and for a period of
one year thereafter, at a price determined pursuant to the Put/Call Agreement.
Genesis Eldercare Corp. paid approximately $1,492,000,000 to (i) purchase the
Shares pursuant to the Tender Offer and the Merger, (ii) pay fees and expenses
incurred in connection with the completion of the Tender Offer, Merger and the
financing transactions in connection with therewith, (iii) refinance certain
indebtedness of Multicare and (iv) make certain cash payments to employees. Of
the funds required to finance the foregoing, approximately $745,000,000 were
furnished as capital contributions by the Genesis Eldercare Corp. from the sale
of its common stock to Cypress, TPG, Nazem and Genesis. Cypress, TPG and Nazem
purchased shares of Genesis ElderCare Corp. common stock for a purchase price of
$210,000,000, $199,500,000 and $10,500,000, respectively, and Genesis purchased
shares of Genesis ElderCare Corp. common stock for a purchase price of
$325,000,000 in consideration for 43.6% of the common stock of Genesis ElderCare
Corp. The balance of the funds necessary to finance the foregoing came from (i)
the proceeds of loans from a syndicate of lenders in the aggregate amount of
$525,000,000 and (ii) $246,800,000 of bridge financing which was refinanced upon
completion of the sale of 9% Senior Subordinated Notes due 2007 sold by a
subsidiary of Genesis Eldercare Corp. on August 11, 1997.
Geriatric & Medical Companies, Inc.
Effective October 1, 1996, Geriatric & Medical Companies, Inc. ("GMC") merged
with a wholly-owned subsidiary of Genesis (the "GMC Transaction"). Under the
terms of the merger agreement, GMC shareholders received $5.75 per share in cash
for each share of GMC stock. The total consideration paid, including assumed
indebtedness of approximately $132,000,000, was approximately $223,000,000. The
merger was financed in part with approximately $121,250,000 in net proceeds from
an offering of 9 1/4% Senior Subordinated Notes issued in October 1996. The
remaining consideration was financed through borrowings under the Company's then
existing bank credit facility. The GMC Transaction added to Genesis 24 owned
eldercare centers with approximately 3,300 beds. GMC also operates businesses
which provide a number of ancillary healthcare services including ambulance
services; respiratory therapy, infusion therapy and enteral therapy;
distribution of durable medical equipment and home medical supplies; and
information management services.
National Health Care Affiliates, Inc.
In July 1996, the Company acquired the outstanding stock of National Health Care
Affiliates, Inc., Oak Hill Center, Inc., Derby Nursing Center Corporation,
Eidos, Inc. and Versalink, Inc. (collectively "National Health"). Prior to the
closing of the stock acquisitions, an affiliate of a financial institution
purchased nine of the eldercare centers for $67,700,000 and subsequently leased
the centers to a subsidiary of Genesis under operating lease agreements and a
then existing $85,000,000 lease financing facility. The balance of the total
consideration paid to National Health was funded with available cash of
$51,800,000 and assumed indebtedness of $7,900,000. National Health added 16
eldercare centers in Florida, Virginia and Connecticut with approximately 2,200
beds to Genesis. National Health also provides enteral nutrition and
rehabilitation therapy services to the eldercare centers which it owns and
leases.
27
NeighborCare Pharmacies, Inc.
In June 1996, the Company acquired the outstanding stock of NeighborCare
Pharmacies, Inc., ("NeighborCare") a privately held institutional pharmacy,
infusion therapy and retail pharmacy business based in Baltimore, Maryland.
Total consideration was approximately $57,250,000, comprised of approximately
$47,250,000 in cash and 312,744 shares of Genesis common stock.
McKerley Health Care Centers, Inc.
On November 30, 1995, the Company acquired McKerley Health Care Centers
("McKerley") for total consideration of approximately $68,700,000. The
transaction (the "McKerley Transaction") also provided for up to an additional
$6,000,000 of contingent consideration payable upon the achievement of certain
financial objectives through October 1997, of which $4,000,000 was paid in
February 1997. McKerley added to Genesis 15 geriatric care facilities in New
Hampshire and Vermont with a total of 1,535 beds. McKerley also operates a home
healthcare company. The acquisition was financed with borrowings under the bank
credit facilities and assumed indebtedness.
Other Transactions
At September 30, 1998, the Company held $10,000,000 of convertible preferred
stock of Doctors Health, Inc. ("Doctors Health"), an independent physician owned
and controlled integrated delivery system and practice management company based
in Maryland. The convertible preferred stock, which is accounted for under the
cost method, carries an 8% cumulative dividend and is convertible into common
stock, and if converted would represent an approximate 10% ownership interest in
Doctors Health. Also, the Company loaned to Doctors Health $5,500,000 through
December 1998 at an annual interest rate of 11%. On November 16, 1998, a
voluntary petition for Chapter 11 bankruptcy was filed by Doctors Health. In the
fourth quarter of 1998, the Company wrote-off its investments in Doctors Health.
In March 1996, the Company sold four eldercare centers and a pharmacy in Indiana
for approximately $22,250,000 (the "Indiana Transaction").
In March 1996, the Company acquired for total consideration of approximately
$31,900,000 including the payment of assumed debt, the remaining approximately
71% joint venture interests of four eldercare centers in Maryland and the
remaining 50% joint venture interest of an eldercare center in Florida (the
"Partnership Interest Purchase").
Fiscal 1998 Compared to Fiscal 1997
The Company's total net revenues for fiscal year ended September 30, 1998
("Fiscal 1998") were $1,405,305,000 compared to $1,099,823,000 for the fiscal
year ended September 30, 1997 ("Fiscal 1997") an increase of $305,482,000 or
28%. Basic healthcare services increased $4,892,000 or 1%, of which
approximately $17,292,000 is due to providing care to higher acuity patients and
rate increases, offset by $12,400,000 from the termination of operations by
Genesis of three leased eldercare centers in September 1997. Specialty medical
services revenue increased $234,159,000 or 47% of which approximately
$46,600,000 is attributed to the August 1998 Vitalink Transaction, approximately
$80,598,000 is attributed to the Multicare pharmacy business acquired effective
January 1998, approximately $21,548,000 is attributed to the purchase of the
Multicare rehabilitation therapy business acquired in October 1997, and the
remaining increase of approximately $98,413,000 is primarily due to other volume
growth in the institutional pharmacy, medical supply and contract therapy
divisions and increased acuity in the eldercare centers. This increase was
offset by approximately $6,500,000, $3,300,000 and $3,200,000 as a result of the
4th quarter of Fiscal 1997 deconsolidation of the Company's physician services
business, the termination of the operations of three leased eldercare centers in
September 1997 and the April 1998 government mandated implementation of salary
equivalency billing for rehabilitation therapy, respectively. Specialty medical
service revenue per patient day in the Company's eldercare centers increased 11%
to $37.57 in the twelve months ended September 30, 1998 compared to $33.84 in
the twelve months ended September 30, 1997 primarily due to treatment of higher
acuity patients. Management services and other income increased $66,431,000 or
140%. This increase is primarily due to approximately $42,200,000 of management
fee revenue earned from the management of the operations of the Multicare
business and approximately $24,200,000 of other revenue growth, including
capitated revenue earned under a contract with Blue Cross / Blue Shield of
Maryland (BCBSMD).
28
The Company's operating expenses before depreciation, amortization, lease
expense and interest expense were $1,270,615,000 for the twelve months ended
September 30, 1998 compared to $914,955,000 for twelve months ended September
30, 1997, an increase of $355,660,000 or 39%, of which approximately $14,100,000
is due to the direct operating costs incurred to service the Multicare
management contracts, approximately $39,200,000 is due to the August 1998
acquisition of Vitalink Pharmacies, approximately $63,900,000 is due to the
January 1998 acquisition of the Multicare pharmacy operations, approximately
$18,600,000 is due to the October 1997 acquisition of the Multicare
rehabilitation therapy business, approximately $19,800,000 is due to charges
incurred in connection with capitation costs under a contract with BCBSMD,
approximately $20,700,000 is attributed principally to write-offs included in
other operating expenses for uncollectible receivables and other assets of
eldercare centers previously owned or managed by the Company, approximately
$80,700,000 is attributed to an increase in the Company's loss on impairment of
assets in the current fiscal year versus the prior fiscal year and the remaining
increase of approximately $118,500,000 is attributed to growth in the
institutional pharmacy, medical supply and contract therapy divisions, as well
as increased costs in information technology systems, community-based programs,
marketing campaigns and the overhead costs of servicing the Multicare management
contracts. This increase is offset by approximately $7,800,000 and $12,000,000
as a result of the deconsolidation of the Company's physician services business
beginning in the fourth quarter of 1997 and the termination of operations of
three leased eldercare centers in September 1997, respectively.
Due to specific events occurring in the fourth quarter of Fiscal 1998 and a
focus on core business operations in response to PPS, the Company recorded
non-cash charges before income taxes of approximately $116,000,000, of which
approximately $24,000,000 relates to the impairment of one eldercare center and
certain non-core businesses, including the Company's