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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(MARK ONE)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2003.
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER 1-14012
EMERITUS CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2003
WASHINGTON 91-1605464
(STATE OR OTHER JURISDICTION (I.R.S. EMPLOYER
OF INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
3131 ELLIOTT AVENUE, SUITE 500, SEATTLE, WA 98121
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
(206) 298-2909
(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, $.0001 par value American Stock Exchange, Inc.
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT: NONE
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), (2) and has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark that there is no disclosure of delinquent filers in
response to Item 405 of Regulation S-K contained in this form, and no disclosure
will be contained, to the best of Registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-K
or any amendment to this Form 10-K.[ ]
Indicate by check mark whether the Registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act).
Yes [ ] No [X]
Aggregate market value of common voting stock held by non-affiliates of the
registrant as of June 30, 2003, was $24,497,029.
Aggregate market value of common voting stock held by non-affiliates of the
registrant as of February 29, 2004, was $51,252,977.
As of February 29, 2004, 10,303,035 shares of the Registrant's Common Stock
were outstanding.
DOCUMENTS INCORPORATED BY REFERENCE:
The information required by Part III of Form 10-K (items 10-14) is
incorporated herein by reference to the Registrant's definitive Proxy Statement
to be filed on or before April 29, 2004.
EMERITUS CORPORATION
INDEX
PART I
PAGE NO.
--------
ITEM 1.. DESCRIPTION OF BUSINESS 1
ITEM 2.. DESCRIPTION OF PROPERTY 7
ITEM 3.. LEGAL PROCEEDINGS 14
ITEM 4.. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS 15
. . . . EXECUTIVE OFFICERS OF EMERITUS 15
PART II
ITEM 5.. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED
. . . . STOCKHOLDER MATTERS 17
ITEM 6.. SELECTED CONSOLIDATED FINANCIAL DATA 18
ITEM 7.. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
. . . . AND RESULTS OF OPERATIONS 19
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK 41
ITEM 8.. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA 42
ITEM 9.. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
. . . . ACCOUNTING AND FINANCIAL DISCLOSURE 42
ITEM 9A. CONTROLS AND PROCEDURES 42
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT 43
ITEM 11. EXECUTIVE COMPENSATION 43
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
. . . . MANAGEMENT 43
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS 44
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES 44
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON
. . . . FORM 8-K 45
PART I
ITEM 1. DESCRIPTION OF BUSINESS
Overview
Emeritus is one of the largest and most experienced national operators of
assisted living residential communities. Assisted living communities provide a
residential housing alternative for senior citizens who need help with the
activities of daily living, with an emphasis on assisted living and personal
care services.
At December 31, 2003, we operated, or had an interest in, 175 assisted living
communities, consisting of approximately 14,845 units with a capacity for 18,208
residents, located in 33 states. These include 19 communities that we own, 109
communities that we lease, and 47 communities that we manage, including one in
which we hold a joint venture interest.
We strive to provide a wide variety of assisted living services in a
professionally managed environment that allows our residents to maintain dignity
and independence. Our residents are typically unable to live independently, but
do not require the intensive care provided in skilled nursing facilities. Under
our approach, seniors reside in a private or semi-private residential unit for a
monthly fee based on each resident's individual service needs. We believe our
residential assisted living communities allow seniors to maintain a more
independent lifestyle than is possible in the institutional environment of
skilled nursing facilities, while also providing peace of mind knowing that
staff is available should the need arise. In addition, we believe that our
services, including assisting residents with activities of daily living, such as
medication management, bathing, dressing, personal hygiene, and grooming are
attractive to seniors who are inadequately served by independent living
facilities.
Emeritus's annual reports on Form 10-K, quarterly reports on Form 10-Q, current
reports on Form 8-K, and amendments thereto, filed with the Securities and
Exchange Commission (SEC) pursuant to Section 13(a) of the Securities Exchange
Act of 1934, as amended, and the rules and regulations thereunder are made
available free of charge on Emeritus's web site (www.emeritus.com) as soon as
reasonably practicable after Emeritus electronically files such material with,
or furnishes it to, the SEC. The information contained on Emeritus's web site
is not being incorporated herein.
The Assisted Living Industry
We believe that the assisted living industry is the preferred residential
alternative for seniors who cannot live independently due to physical or
cognitive frailties but who do not require the more intensive medical attention
provided by a skilled nursing facility.
Generally, assisted living provides housing and 24-hour personal support
services designed to assist seniors with the activities of daily living, which
include bathing, eating, personal hygiene, grooming, medication reminders,
ambulating, and dressing. Certain assisted living facilities may offer higher
levels of personal assistance for residents with Alzheimer's disease or other
forms of dementia, based in part on local regulations.
We believe that a number of factors will allow assisted living companies to
continue as one of the fastest growing choices for senior care:
* Consumer Preference. We believe that assisted living is preferred by
prospective residents as well as their families, who are often the
decision makers for seniors. Assisted living is a cost-effective
alternative to other types of care, offering seniors greater
independence while enabling them to reside longer in a more residential
environment.
* Cost-Effectiveness. The average annual cost to care for a Medicare or
Medicaid patient in a skilled nursing home can exceed $40,000. The
average cost to care for a private pay patient in a skilled nursing home
is about $80,000 per year in the top ten most costly markets. In
contrast, assisted living services generally cost 30% to 50% less than
skilled nursing facilities located in the same region. We also believe
that the cost of assisted living services compares favorably with home
healthcare, particularly when costs associated with housing, meals, and
personal care assistance are taken into account. According to the GE
Long Term Care Insurance Nursing Home Survey in 2002, the national
annual average cost of a year in a nursing home was $54,900. The survey
evaluated the cost of assistance in a nursing home with the activities
of daily living for a person suffering from a debilitation such as
Parkinson's disease. It did not include costs for therapy,
rehabilitation, or medications.
1
* Demographics. The target market for our services is generally persons 75
years and older who represent the fastest growing segments of the U.S.
population. According to the U.S. Census Bureau, the portion of the U.S.
population age 75 and older is expected to increase by 5.5% from
approximately 17.6 million in 2003 to approximately 18.6 million by the
year 2010. The number of persons age 85 and older, as a segment of the
U.S. population, is expected to increase by 18.5% from approximately 4.9
million in 2003 to 5.8 million by the year 2010. Furthermore, the number
of persons afflicted with Alzheimer's disease is also expected to grow
in the coming years. According to data published in the August 2003
issue of the Archives of Neurology, an AMA publication, this population
will increase 13.3% from the current 4.5 million to 5.1 million people
by the year 2013. Because Alzheimer's disease and other forms of
dementia are more likely to occur as a person ages, we expect the
increasing life expectancy of seniors to result in a greater number of
persons afflicted with Alzheimer's disease and other forms of dementia
in future years, absent breakthroughs in medical research.
* Changing Family Dynamics. According to the U.S. Census Bureau, the median
income of the elderly population is increasing. According to the 2000
census data, more than 54% of the population over the age of 75 have
incomes over $20,000 per year and slightly more than 44% have annual
incomes of at least $25,000. Accordingly, we believe that the number of
seniors and their families who are able to afford high-quality senior
residential services, such as those we offer, has also increased. In
addition, the number of two-income households increased during the
1990's and the geographical separation of senior family members from
their adult children correlates with the geographic mobility of the U.S.
population. As a result, many families that traditionally would have
provided the type of care and services we offer to senior family members
are less able to do so. The number of two-income households stopped
growing during the recession starting in March 2001, but is expected to
start increasing again in 2004, although at a slower pace than during
the 1990's.
* Supply/Demand Imbalance. While the senior population is growing
significantly, the supply of skilled nursing beds per thousand is
declining. We attribute this imbalance to a number of factors in
addition to the aging of the population. Many states, in an effort to
maintain control of Medicaid expenditures on long-term care, have
implemented more restrictive Certificate of Need regulations or similar
legislation that restricts the supply of licensed skilled nursing
facility beds. Additionally, acuity-based reimbursement systems have
encouraged skilled nursing facilities to focus on higher acuity
patients. We also believe that high construction costs and limits on
government reimbursement for construction and start-up expenses have
constrained the growth and supply of traditional skilled nursing beds.
We believe that these factors, taken in combination, result in
relatively fewer skilled nursing beds available for the increasing
number of seniors who require assistance with the activities of daily
living but do not require 24-hour medical attention.
Competitive Strengths
We compete with other assisted living communities located in the areas where we
operate. These communities are operated by individuals, local and regional
businesses, and larger operators of regional and national groups of communities,
including public companies similar to us. We believe that we have the following
competitive strengths:
* State-of-the-Art Communities. Of our 175 communities, 57 communities have
been built and opened since January 1, 1996. In addition, we have
significantly upgraded 48 of our older communities to improve their
appearance and operating efficiency. These upgrades include the finished
appearance of the communities, as well as various improvements to
kitchens, nurse call systems, and electronic systems, including those
for data transmission, data sharing, and e-mail.
* Large Operating Scale. We believe that our size gives us significant
advantages over smaller operators. Given the scale of our operations, we
have the opportunity to select the best operating systems and service
alternatives and to develop a set of best practices for implementation
on a national scale. We also believe that, because of our size, we are
able to purchase such items as food, equipment, insurance, and employee
benefits at lower costs, and to negotiate more favorable financing
arrangements.
* Lower Cost of Communities. As of December 31, 2003, the average cost per
unit of our owned and leased communities was approximately $68,200. We
believe that these costs are less than the current replacement costs of
these communities and below the average costs incurred by many other
public companies operating in the industry. We also believe that these
lower capital costs give us opportunities to enhance margins and greater
flexibility in designing our rate structure and responding to varying
regional economic and regulatory changes.
2
* Geographic Diversification and Regional Focus. We operate our communities
in 33 states across the United States. We believe that because of this
geographic diversification we are less vulnerable to adverse economic
developments and industry factors, such as overbuilding and regulatory
changes, that are limited to a particular region. We believe that this
also moderates the effects of regional employment and competitive
conditions. Within each region, we have focused on establishing a
critical mass of communities in secondary markets, which enables us to
maximize operating efficiencies.
* Experienced Management with Industry Relationships. Daniel R. Baty, our
Chairman of the Board and Chief Executive Officer ("Mr. Baty"), has more
than 31 years of experience in the long-term care industry, ranging from
independent living to skilled nursing care. We believe that his
experience and the relationships that he has developed with owners,
operators, and sources of capital have helped us and will continue to
help us develop operating efficiencies, investment and joint venture
relationships, as well as obtain sources of debt and equity capital. Mr.
Baty also has a significant financial and management interest in Holiday
Retirement Corporation, an operator of independent living facilities,
and Columbia-Pacific Group, Inc., an operator of independent living
facilities and assisted living communities. In addition, our operating
vice presidents have an average of 17 years of experience with major
companies in the long-term care industry. We believe that this strong
senior leadership, with proven management skills, will allow us to take
advantage of the opportunities present in the assisted living industry.
Business Strategy
We believe that there is a significant demand for alternative long-term care
services that are well-positioned between the limited services offered by
independent living facilities and the higher-level medical and institutional
care offered by skilled nursing facilities. Our goal is to become the national
leader in the assisted living segment of the long-term care industry through the
following strategy:
* Focus on Operations and Occupancy. Through 1998, we focused on rapidly
expanding our operations in order to assemble a portfolio of assisted
living communities with a critical mass of capacity. We pursued an
aggressive acquisition and development strategy during that time. Having
achieved our growth objective, in 1999 and continuing through 2001, we
substantially reduced our pace of acquisition and development activities
to concentrate on improving community performance through both increased
occupancy and revenue per occupied unit. Initially, we focused most of
our efforts on increasing occupancy across our portfolio. Having
achieved a portion of our total goal by late 1999, we then shifted our
efforts toward enhancing our rates, particularly in facilities that were
substantially below industry averages. This rate strategy has led to
increased rates across most of our portfolio. We believe that continued
focus on both rates and occupancy will continue to generate the
incremental growth in margins we are striving to achieve.
* Supplement Business through Management Agreements. From 1999 through
2002, we managed a significant number of communities, ranging from 68 in
1999 to 95 in 2002. With changes in the capital markets and
opportunities to own or lease communities, the number of managed
communities has declined to 47 in 2003 (most of those making up the
decline became leased communities in our consolidated portfolio) and we
expect it to decline further in 2004. Nevertheless, we will continue to
review management opportunities that fit into our existing operational
strategy as a supplement to our core business. We generally manage these
new communities for a fee based on a percentage of their gross revenue.
* Acquire Communities Selectively. In 1998, we reduced our acquisition
activity in part to concentrate on the need to improve operations
through occupancy and rate enhancement. As we achieve these objectives,
we expect to be more receptive to purchase or lease acquisition
opportunities that meet designated criteria. We particularly expect to
favor the acquisition of communities that provide more complete coverage
of our existing markets and intend to focus on acquisitions of
communities that have been originally designed as assisted living
facilities with a favorable current operating structure, and communities
that provide immediate positive cash flow opportunities with minimal
impact to existing operations. In 2002 and 2003, as the opportunities
arose, we acquired additional communities that satisfy our criteria. We
intend to continue to be selective and measured in our acquisition
strategy in the future.
* Appeal to the Middle Market. The market segment most attractive to us is
middle to upper-middle income seniors in smaller cities and suburbs with
populations of 50,000 to 150,000 persons. We believe that this
"value-sensitive" segment of the senior community is the largest,
broadest, and most stable. We think that these markets are receptive to
the development of new assisted living communities and the expansion of
existing communities.
3
Resident Services
Our assisted living communities offer residents a full range of services based
on individual resident needs in a supportive "home-like" environment. By
offering a full range of services, we can accommodate residents' needs. The
services that we provide to our residents are designed to respond to their
individual needs and to improve their quality of life.
SERVICE LEVEL TYPE OF RESIDENT DESCRIPTION OF CARE PROVIDED
- ------------- ------------------------------- --------------------------------------------------------------
Basic Services All residents--independent, We offer these basic services to our residents:
assisted living and those with * three nutritious meals per day,
Alzheimer's and related * social and recreational activities,
dementia * weekly housekeeping and linen service,
* building maintenance, individual apartment maintenance,
and grounds keeping,
* 24-hour emergency response and security,
* licensed nurses on staff to monitor and coordinate care
needs, and organize wellness activities, and
* transportation to appointments, excursions, etc.
- ----------------------------------------------------------------------------------------------------------------------
Assisted living Assisted living residents Our assisted living services provided for each resident depend on
Services the recommended level of care or assistance required by the individual.
A thorough assessment of the individual's needs along with consultation
with the resident, the resident's physician, and the resident's family,
determine the level of care. The level of care is based on
the degree of assistance he/she requires in several categories. Our
categories of care include, but are not limited to:
* medication management and supervision,
* reminders for dining and recreational activities,
* assistance with bathing, dressing, and grooming,
* incontinence care and assistance,
* psycho-social support,
* dining assistance, and
* miscellaneous services (including diabetic management,
prescription medication reviews, transfers, and simple treatments).
- ----------------------------------------------------------------------------------------------------------------------
Special Care Residents with Alzheimer's We have designed our Special Care program to meet the health,
Program and related dementia psychological, and social needs of our residents diagnosed with
(Alzheimer's & Alzheimer's or related dementia. In a manner consistent with our
related dementia) assisted living services, we help structure a service plan for each
resident based on his/her individual needs. Some of the key service
areas that we focus on to provide the best care for our residents with
Alzheimer's or related dementias center around:
* personalized environment
* activities planned to support meaningful interaction,
* specialized dining and hydration programs,
* partnerships with families and significant others through
support groups, one-on-one meetings, and educational forums,
* behavior as communication
- ----------------------------------------------------------------------------------------------------------------------
4
Service Revenue Sources
We rely primarily on our residents' ability to pay our charges for services from
their own or familial resources and expect that we will do so for the
foreseeable future. Although care in an assisted living community is typically
less expensive than in a skilled nursing facility, we believe that generally
only seniors with income or assets meeting or exceeding the regional median can
afford to reside in our communities. Inflation or other circumstances that
adversely affect seniors' ability to pay for assisted living services could
therefore have an adverse effect on our business.
As third party reimbursement programs and other forms of payment continue to
grow, we intend to pursue these alternative forms of payment, depending on the
level of reimbursement provided in relation to the level of care provided. We
also believe that private long-term care insurance will increasingly become a
revenue source in the future, although it is currently small. All sources of
revenue other than residents' private resources constitute less than 10% of our
total revenues.
Management Activities
At December 31, 2003, we managed and provided administrative services to 47
assisted living communities under management agreements that typically provide
for management fees ranging from 3% to 7% of gross revenues. Our management
agreements generally have terms ranging from two to five years, and may be
renewed or renegotiated at the expiration of the term. Management fees were
approximately $10.2 million for 2003, although we expect that to be
substantially less in 2004 because (i) we have acquired or leased a number of
communities that we formerly managed in 2003, (ii) we expect to acquire more of
the managed communities in 2004 and, (iii) in July 2003, we ceased managing 12
communities for a third party. We have various categories of management
agreements, including:
* a management agreement covering 23 communities that is a continuing
component of the Emeritrust I transaction referred to in "Item 7.
Management's Discussion and Analysis, Significant 2003 Transactions,
Emeritrust Transactions, Emeritrust I Communities Management". This
management agreement, which may be terminated by either party on 90 days
notice, provides for a base fee of 3% of gross revenues and an
additional fee of 4% of gross revenues to the extent of 50% of cash flow
from the communities. In March 2004, this management agreement was
amended to provide for a management fee of 5% of gross revenues.
* management agreements covering 19 communities owned by entities
controlled by Mr. Baty. We generally receive fees ranging from 4% to 6%
of the gross revenues generated by the communities. We have announced
that we have agreed to acquire up to 13 of these communities and will
lease and operate them following acquisition, which is scheduled for as
early as March 31, 2004, and as late as the end of the second quarter
2004.
* a management agreement covering one community owned by a joint venture in
which we have a financial interest. We receive management fees of 6% of
gross revenues.
* management agreements covering three communities owned by independent
third parties. We receive management fees ranging from 4% to 7% of gross
revenues, or similar arrangements based on occupied capacity.
* a management agreement covering one community owned by an independent
third party. We receive a management fees of the greater of $7,000 per
month or 6% of gross revenue with opportunities to earn additional fees
based on operating cash flow.
Upon completion of the transaction to acquire up to 13 previously managed
communities from Mr. Baty, we will continue to manage 34 communities, of which
23 are the Emeritrust I Communities under a management agreement that may be
terminated by either party on 90 days notice. If either party exercises its
option to terminate this management agreement, or if the management agreement
expires on September 30, 2005, and is not renewed, our revenue from management
fees will diminish substantially.
Marketing and Referral Relationships
Our operating strategy is designed to integrate our assisted living communities
into the continuum of healthcare providers in the geographic markets in which we
operate. One objective of this strategy is to enable residents who require
additional healthcare
5
services to benefit from our relationships with local hospitals, physicians,
home healthcare agencies, and skilled nursing facilities in order to obtain the
most appropriate level of care. Thus, we seek to establish relationships with
local hospitals, through joint marketing efforts where appropriate, and home
healthcare agencies, alliances with visiting nurses associations and, on a more
limited basis, priority transfer agreements with local, high-quality skilled
nursing facilities. In addition to benefiting residents, the implementation of
this operating strategy has strengthened and expanded our network of referral
sources.
Administration
We employ an integrated structure of management, financial systems, and controls
to maximize operating efficiency and contain costs. In addition, we have
developed the internal procedures, policies, and standards we believe are
necessary for effective operation and management of our assisted living
communities. We have recruited experienced key employees from several
established operators in the long-term care services field and believe we have
assembled the administrative, operational, and financial personnel who will
enable us to continue to manage our operating strategies effectively.
We have established Central, Eastern, Great Lakes, and Western Operations. An
operational vice president heads each group. Each group may consist of one or
more divisions. Each division consists of several operating regions headed by a
regional director of operations who provides management support services for
each of the communities in his/her respective region. An on-site executive
director supervises day-to-day community operations, and in certain
jurisdictions, must satisfy various licensing requirements. We provide
management support services to each of our residential communities, including
establishing operating standards, recruiting, training, and financial and
accounting services.
We have centralized finance and other operational functions at our headquarters
in Seattle, Washington, in order to allow community-based personnel to focus on
resident care. The Seattle office establishes policies and procedures
applicable to the entire company, oversees our financial and marketing
functions, manages our acquisition and development activities, and provides our
overall strategic direction.
We use a blend of centralized and decentralized accounting and computer systems
that link each community with our headquarters. Through these systems, we are
able to monitor operating costs and distribute financial and operating
information to appropriate levels of management in a cost efficient manner. We
believe that our current data systems are adequate for current operating needs
and provide the flexibility to meet the requirements of our operations without
disruption or significant modification to existing systems beyond 2004. We use
high quality hardware and operating systems from current and proven technologies
to support our technology infrastructure.
Competition
The number of assisted living communities continues to grow in the United
States. We believe that market saturation has had, and could continue to have,
an adverse effect on our communities and their ability to reach and maintain
stabilized occupancy levels. Moreover, the senior housing services industry has
been subject to pressures that have resulted in the consolidation of many small,
local operations into larger regional and national multi-facility operations.
We anticipate that our source of competition will come from local, regional, and
national assisted living companies that operate, manage, and develop residences
within the geographic area in which we operate, as well as retirement facilities
and communities, home healthcare agencies, not-for-profit or charitable
operators and, to a lesser extent, skilled nursing facilities and convalescent
centers. We believe that quality of service, reputation, community location,
physical appearance, and price will be significant competitive factors. Some of
our competitors may have significantly greater resources, experience, and name
recognition within the healthcare community than we do.
Employees
At December 31, 2003, we had approximately 7,500 employees, including 5,521
full-time employees, of which approximately 119 were employed at our
headquarters. Of this total, approximately 2,156 were employed in our managed
communities, including 1,594 full-time employees. Although none of our employees
are currently represented by a union, there was an election held in one of our
facilities in Florida during October. The union is challenging the results of
the election and the election results are currently under review by the National
Labor Relations Board. If the union were successful in its challenge,
6
the Board would certify a bargaining unit of approximately 35 employees. We
believe that our relationship with our employees is satisfactory. Although we
believe that we are able to employ sufficiently skilled personnel to staff the
communities we operate or manage, a shortage of skilled personnel, particularly
in nursing, in any of the geographic areas in which we operate could adversely
affect our ability to recruit and retain qualified employees and to control our
operating expenses.
ITEM 2. DESCRIPTION OF PROPERTY
Communities
Our assisted living communities generally consist of one-story to three-story
buildings and include common dining and social areas. Seventeen of our
operating communities offer some independent living services and three are
operated as skilled nursing facilities. The table below summarizes information
regarding our current operating communities as of December 31, 2003.
Emeritus
Operations Units Beds
Community Location Commenced (a) (b) Interest
- ----------------------------------------- ------------------ --------- ---- ------- --------------
Alabama
Galleria Oaks * Birmingham Oct-2002 71 107 Lease
Arizona
Arbor at Olive Grove * Phoenix Jun-1994 98 111 Lease
La Villita * Phoenix Jun-1994 92 92 Option/Manage
Loyalton of Flagstaff Flagstaff Jun-1999 61 67 Lease
Loyalton of Phoenix Phoenix Jan-1999 101 111 Lease
Scottsdale Royale ~ Scottsdale Aug-1994 63 63 Own
Village Oaks at Chandler * Chandler Oct-2002 66 105 Lease
Village Oaks at Glendale * Glendale Oct-2002 66 105 Lease
Village Oaks at Mesa * Mesa Oct-2002 66 105 Lease
California
Creston Village * Paso Robles Feb-1998 100 110 Lease
Emerald Hills Auburn Jun-1998 89 98 Lease
Fulton Villa Stockton Mar-1995 80 80 Own (2)
Loyalton of Folsom * Folsom Jan-2002 98 113 Manage
Loyalton of Rancho Solano * Fairfield Mar-1998 172 189 Lease
The Palms at Loma Linda Loma Linda Dec-2003 140 220 Own (4)
The Springs at Oceanside * Oceanside Dec-2003 113 236 Own (4)
The Terrace * Grand Terrace Mar-1996 87 87 Option/Manage
Villa Del Rey Escondido Mar-1997 84 84 Own (2)
Colorado
Loyalton of Broadmoor Colorado Springs Dec-2003 37 45 Own (4)
Connecticut
Cold Spring Commons * Rocky Hill Apr-1997 80 88 Lease
7
Emeritus
Operations Units Beds
Community Location Commenced (a) (b) Interest
- ----------------------------------------- ------------------ --------- ---- ------- --------------
Delaware
Gardens at Whitechapel Newark Oct-1995 100 110 Option/Manage
Green Meadows at Dover * Dover Jul-1998 52 63 Lease
Florida
Barrington Place * Lecanto May-1996 79 120 Option/Manage
Beneva Park Club Sarasota Jul-1995 96 102 Option/Manage
College Park Club * Bradenton Jul-1995 85 93 Option/Manage
La Casa Grande * New Port Richey May-1997 200 235 Own (2)
Madison Glen Clearwater May-1996 135 154 Option/Manage
Park Club of Brandon Brandon Jul-1995 88 88 Lease
Park Club of Fort Myers * Ft. Myers Jul-1995 77 82 Lease
Park Club of Oakbridge * Lakeland Jul-1995 88 88 Lease
River Oaks * Englewood May-1997 155 200 Own (2)
Springtree * Sunrise May-1996 179 246 Option/Manage
Stanford Centre * Altamonte Springs May-1997 118 180 Own (2)
The Colonial Park Club * Sarasota Aug-1996 88 90 Lease
The Lakes * Ft. Myers Jun-2000 154 190 Manage
The Lodge at Mainlands * Pinellas Park Aug-1996 154 162 Option/Manage
The Pavillion at Crossing Pointe ~ * Orlando Jul-1995 174 190 Option/Manage
Village Oaks at Conway * Orlando Oct-2002 66 103 Lease
Village Oaks at Melbourne Melbourne Oct-2002 66 103 Lease
Village Oaks at Orange Park Orange Park Oct-2002 66 103 Lease
Village Oaks at Southpoint * Jacksonville Oct-2002 66 103 Lease
Village Oaks at Tuskawilla Winter Springs Oct-2002 66 105 Lease
Idaho
Highland Hills Pocatello Oct-1996 49 55 Lease
Juniper Meadows Lewiston Nov-1997 82 90 Own (2)
Loyalton of Coeur d'Alene ~ Coeur d' Alene Mar-1996 108 114 Lease
Ridge Wind Chubbuck Aug-1996 80 106 Lease
Summer Wind Boise Sep-1995 49 53 Lease
Illinois
Canterbury Ridge * Urbana Nov-1998 101 111 Lease
Loyalton of Rockford * Rockford Jun-2000 100 110 Manage
Indiana
Meridian Oaks * Indianapolis Oct-2002 77 111 Lease
Village Oaks at Fort Wayne * Fort Wayne Oct-2002 66 105 Lease
Village Oaks at Greenwood * Indianapolis Oct-2002 66 105 Lease
Iowa
Silver Pines * Cedar Rapids Jan-1995 80 80 Own (2)
Kansas
Elm Grove Estates * Hutchinson Apr-1997 121 133 Option/Manage
8
Emeritus
Operations Units Beds
Community Location Commenced (a) (b) Interest
- ----------------------------------------- ------------------ --------- ---- ------- --------------
Liberal Springs Liberal Dec-2003 44 56 Own (4)
The Fairways of Augusta Augusta Dec-2003 21 27 Own (4)
Kentucky
Stonecreek Lodge Louisville Apr-1997 80 88 Lease
Louisiana
Kingsley Place at Alexandria * Alexandria May-2002 80 96 Lease
Kingsley Place at Lafayette * Lafayette May-2002 80 96 Lease
Kingsley Place at Lake Charles * Lake Charles May-2002 80 96 Lease
Kingsley Place at Shreveport * Shreveport May-2002 80 80 Lease
Maryland
Emerald Estates * Baltimore Oct-1999 120 134 Manage
Loyalton of Hagerstown Hagerstown Jul-1999 100 110 Lease
Massachusetts
Canterbury Woods * Attleboro Jun-2000 130 130 Manage
Meadow Lodge at Drum Hill Chelmsford Aug-1997 80 88 Lease (3)
The Lodge at Eddy Pond Auburn Jan-2000 108 110 Own (2)
The Pines at Tewksbury * Tewksbury Jan-1996 49 65 Lease
Woods at Eddy Pond Auburn Mar-1997 80 88 Lease
Mississippi
Loyalton of Biloxi * Biloxi Jan-1999 83 91 Lease
Loyalton of Hattiesburg Hattiesburg Jul-1999 79 83 Lease
Ridgeland Pointe * Ridgeland Aug-1997 79 87 Lease (3)
Silverleaf Manor Meridian Jul-1998 101 111 Manage
Trace Point * Clinton Oct-1999 100 110 Manage
Missouri
Autumn Ridge ~ Herculaneum Jun-1997 94 94 Manage
Montana
Springmeadows Residence Bozeman Apr-1997 74 81 Own (2)
Nevada
Concorde Las Vegas Nov-1996 116 128 Own (2)
Village Oaks at Las Vegas Las Vegas Oct-2002 66 105 Lease
The Seasons * Reno Feb-2002 94 109 Manage
New Jersey
Laurel Lake Estates * Voorhees Jul-1995 117 119 Lease
Loyalton of Cape May Cape May May-2001 100 110 Manage
New York
Bassett Manor * (1) Williamsville Nov-1996 103 105 Lease
9
Emeritus
Operations Units Beds
Community Location Commenced (a) (b) Interest
- ----------------------------------------- ------------------ --------- ---- ------- --------------
Bassett Park Manor (1) Williamsville Nov-1996 78 80 Lease
Bellevue Manor * (1) Syracuse Nov-1996 90 90 Lease
Colonie Manor (1) Latham Nov-1996 94 94 Lease
East Side Manor (1) Fayetteville Nov-1996 80 88 Lease
Green Meadows at Painted Post (1) Painted Post Oct-1995 73 96 Lease
Loyalton of Lakewood Lakewood Jul-1999 83 91 Lease
Perinton Park Manor (1) Fairport Nov-1996 78 86 Lease
The Landing at Brockport * Brockport Jul-1999 84 92 Manage
The Landing at Queensbury * Queensbury Nov-1999 84 92 Manage
West Side Manor - Liverpool (1) Liverpool Nov-1996 78 80 Lease
West Side Manor - Rochester (1) Rochester Nov-1996 72 72 Lease
Woodland Manor (1) Vestal Nov-1996 60 116 Lease
North Carolina
Heritage Hills Retirement Hendersonville Feb-1996 99 99 Own
Heritage Lodge Assisted Living Hendersonville Feb-1996 20 24 Lease
Loyalton of Greensboro Greensboro May-2003 50 70 Lease
Pine Park Retirement ~ Hendersonville Feb-1996 110 110 Lease
The Pines of Goldsboro Goldsboro Sep-1998 101 111 Manage
Ohio
Brookside Estates * Middleberg Heights Sep-1998 99 101 Option/Manage
Loyalton of Ravenna Ravenna May-2003 55 60 Lease
Park Lane ~ Toledo Jan-1998 92 101 Manage
The Landing at Canton * Canton Aug-2000 84 92 Manage
Oregon
Meadowbrook Ontario Jun-1995 53 55 Lease
Pennsylvania
Green Meadows at Allentown * Allentown Oct-1995 76 97 Lease
Green Meadows at Latrobe * Latrobe Oct-1995 84 125 Lease
Loyalton of Bloomsburg Bloomsburg May-2003 46 67 Lease
Loyalton of Creekview * Mechanicsburg May-2003 101 120 Lease
Loyalton of Harrisburg Harrisburg May-2003 47 65 Lease
South Carolina
Anderson Place - Cottages Anderson Oct-1996 75 75 Lease
Anderson Place - Nursing Home Anderson Oct-1996 22 44 Lease
Anderson Place - Summer House # Anderson Oct-1996 30 40 Lease
Bellaire Place Greenville May-1997 81 89 Option/Manage
Countryside Park Easley Feb-1996 48 66 Lease
Countryside Village Assisted Living Easley Feb-1996 48 78 Lease
Countryside Village Health Center # * Easley Feb-1996 24 44 Lease
Countryside Village Retirement Easley Feb-1996 72 75 Lease
Skylyn Health Center # * Spartanburg Feb-1996 26 48 Lease
Skylyn Personal Care Spartanburg Feb-1996 115 131 Lease
10
Emeritus
Operations Units Beds
Community Location Commenced (a) (b) Interest
- ----------------------------------------- ------------------ --------- ---- ------- --------------
Skylyn Retirement Spartanburg Feb-1996 120 120 Lease
The Willows at York * York Sep-1999 82 164 Manage
Tennessee
Walking Horse Meadows * Clarkesville Jun-1997 50 55 Option/Manage
Texas
Amber Oaks San Antonio Apr-1997 163 275 Lease
Beckett Meadows * Austin Oct-2002 72 72 Manage
Cambria Lodge * El Paso Sep-1996 79 87 Lease
Champion Oaks Houston Oct-2002 48 84 Lease
Collin Oaks * Plano Oct-2002 78 112 Lease
Dowlen Oaks Beaumont Dec-1996 79 87 Option/Manage
Eastman Estates Longview Jun-1997 70 77 Option/Manage
Elmbrook Estates Lubbock Dec-1996 79 87 Lease
Hamilton House * San Antonio Sep-2002 111 123 Lease
Kingsley Place at Henderson * Henderson May-2002 57 101 Lease
Kingsley Place at Oakwell Farms * San Antonio May-2002 80 160 Lease
Kingsley Place at Stonebridge Ranch * McKinney May-2002 80 166 Lease
Kingsley Place at the Medical Center * San Antonio May-2002 80 160 Lease
Lakeridge Place * Wichita Falls Jun-1997 79 87 Option/Manage
Loyalton of Austin * Austin Oct-2002 76 111 Lease
Loyalton of Lake Highlands * Dallas Oct-2002 78 112 Lease
Meadowlands Terrace Waco Jun-1997 71 78 Option/Manage
Memorial Oaks * Houston Oct-2002 68 105 Lease
Myrtlewood Estates * San Angelo May-1997 79 87 Option/Manage
Redwood Springs San Marcos Apr-1997 90 90 Lease
Saddleridge Lodge Midland Dec-1996 79 87 Option/Manage
Seville Estates * Amarillo Mar-1997 50 55 Option/Manage
Sherwood Place Odessa Sep-1996 79 87 Lease
Sugar Land Oaks * Sugar Land Oct-2002 75 110 Lease
Tanglewood Oaks * Fort Worth Oct-2002 78 112 Lease
The Palisades El Paso Apr-1997 158 215 Lease
Vickery Towers at Belmont ~ Dallas Apr-1995 301 331 Manage
Village Oaks at Cielo Vista El Paso Oct-2002 66 105 Lease
Village Oaks at Farmers Branch * Farmers Branch Oct-2002 66 105 Lease
Village Oaks at Hollywood Park * San Antonio Oct-2002 66 105 Lease
Woodbridge Estates San Antonio Oct-2002 78 112 Lease
Utah
Emeritus Estates * Ogden Feb-1998 83 91 Option/Manage
Virginia
Cobblestones at Fairmont Manassas Sep-1996 75 82 Lease (3)
Loyalton of Danville Danville May-2003 68 120 Lease
Loyalton of Harrisonburg Harrisonburg May-2003 57 114 Lease
Loyalton of Roanoke Roanoke May-2003 65 118 Lease
11
Emeritus
Operations Units Beds
Community Location Commenced (a) (b) Interest
- ----------------------------------------- ------------------ --------- ---- ------- --------------
Loyalton of Staunton Staunton Jul-1999 101 111 Lease
Wilburn Gardens * Fredericksburg Jan-1999 101 111 Manage
Washington
Arbor Place at Silverlake Everett Jun-1999 101 111 Manage
Cooper George ~ Spokane Jun-1996 140 158 Partnership
Emeritus Oaks of Silverdale * Silverdale Nov-2003 46 52 Lease
Evergreen Lodge Federal Way Apr-1996 98 124 Lease
Fairhaven Estates Bellingham Oct-1996 50 55 Lease
Garrison Creek Lodge Walla Walla Jun-1996 80 88 Lease
Harbour Pointe Shores Ocean Shores Feb-1997 50 55 Option/Manage
Hearthside of Issaquah * Issaquah Feb-2000 98 98 Own
Kirkland Lodge at Lakeside Kirkland Mar-1996 74 84 Lease (3)
Regent Court at Kent * Kent Jan-2002 24 48 Manage
Renton Villa Renton Sep-1993 79 97 Lease
Richland Gardens Richland May-1998 100 110 Manage
Seabrook Everett Jun-1994 60 62 Lease
The Courtyard at the Willows Puyallup Sep-1997 101 111 Own (2)
The Hearthstone Moses Lake Nov-1996 84 92 Lease
West Virginia
Charleston Gardens * Charleston Aug-2001 100 132 Manage
--------- ------- ------
Total Operating Communities 175 14,845 18,208
========= ======= ======
~ Currently offers independent living services.
# Currently operates as a skilled nursing facility.
* Currently offers memory loss (Alzheimer's or related dementia) care.
(a) A unit is a single- or double-occupancy residential living
space, typically an apartment or studio.
(b) "Beds" reflects the actual number of beds, which in no event is
greater than the maximum number of licensed beds allowed under the
community's license.
(1) We provide administrative services to the community that is operated
by Painted Post Partners through a lease agreement with an
independent party.
(2) As part of a refinancing agreement, we transferred all long-term
assets and liabilities related to these properties to Emeritus
Realty Corporation, a wholly owned subsidiary of Emeritus
included in the consolidated financial statements. Notwithstanding
consolidation for financial statement purposes, it is management's
intention that Emeritus Realty Corporation be a separate legal entity
wherein the assets and liabilities are not available to pay other
debts or obligations of the consolidated Company and the consolidated
Company is not liable for the liabilities of Emeritus Realty
Corporation, except as otherwise provided in connection with the
financing agreement.
(3) Due to financing requirements, these assets continue to be held by
certain of our wholly owned subsidiaries. It is management's intention
that the assets and liabilities of the subsidiaries are not available
to pay other debts or obligations of the consolidated Company and the
consolidated Company is not liable for the liabilities of the
subsidiaries except as otherwise provided in connection with these
financing requirements.
12
(4) Due to financing requirements, these assets continue to be held by one
of our wholly owned subsidiaries. It is management's intention that
the assets and liabilities of the subsidiary are not available to pay
other debts or obligations of the consolidated Company and the
consolidated Company is not liable for the liabilities of the
subsidiary except as otherwise provided in connection with these
financing requirements.
Executive Offices
Our executive offices are located in Seattle, Washington, where we lease
approximately 26,500 square feet of space. Our lease agreement runs for a term
of 10 years, expiring July 2006, and includes two five-year renewal options.
13
ITEM 3. LEGAL PROCEEDINGS
From time to time, we are subject to lawsuits and other matters in the normal
course of business, including claims related to general and professional
liability. Reserves for these claims have been accrued based upon actuarial
and/or estimated exposure, taking into account self-insured retention or
deductibles, as applicable. While we cannot predict the results with certainty,
we do not believe that any liability from any such lawsuits or other matters
will have a material effect on our financial position, results of operations, or
liquidity.
In February 2004, the California Public Interest Research Group announced that
it intended to bring an action against operators of assisted living communities
(including us) and other senior housing facilities. The announced action seeks,
on behalf of residents of these facilities located in California, to recover
move-in or preadmission fees that have been paid over the past three years as
well as certain penalties. While we have not yet been served, we intend to
defend the action vigorously and have entered into a joint defense agreement
with other operators in California.
14
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Emeritus did not submit any matter to a vote of its security holders during the
fourth quarter of its fiscal year ended December 31, 2003.
EXECUTIVE OFFICERS OF EMERITUS
The following table presents certain information about our executive officers.
There are no family relationships between any of the directors or executive
officers.
Name Age Position
- ---------------------- --- --------------------------------------------------
Daniel R. Baty . . . . 60 Chairman of the Board and Chief Executive Officer
Raymond R. Brandstrom. 51 Vice President of Finance, Secretary,
and Chief Financial Officer
Gary S. Becker . . . . 56 Senior Vice President of Operations
Martin D. Roffe. . . . 56 Vice President, Financial Planning
Suzette McCanless. . . 55 Vice President, Operations -- Eastern Division
Russell G. Kubik . . . 50 Vice President, Operations -- Central Division
P. Kacy Kang . . . . . 36 Vice President, Operations -- Western Division
Christopher M. Belford 42 Vice President, Operations -- Great Lakes Division
Susan A. Scherr. . . . 55 Vice President of Signature Services
Daniel R. Baty, one of Emeritus's founders, has served as its Chief Executive
Officer and as a director since its inception in 1993 and became Chairman of the
Board in April 1995. Mr. Baty also has served as the Chairman of the Board of
Holiday Retirement Corporation since 1987 and served as its Chief Executive
Officer from 1991 through September 1997. Since 1984, Mr. Baty has also served
as Chairman of the Board of Columbia Pacific Group, Inc. and, since 1986, as
Chairman of the Board of Columbia Management, Inc. Both of these companies are
wholly owned by Mr. Baty and are engaged in developing independent living
facilities and providing consulting services for that market.
Raymond R. Brandstrom, one of Emeritus's founders, has served as a director
since its inception in 1993 and as Vice Chairman of the Board from March 1999
until March 2000. From 1993 to March 1999, Mr. Brandstrom also served as
Emeritus's President and Chief Operating Officer. In March 2000, Mr. Brandstrom
was elected Vice President of Finance, Chief Financial Officer, and Secretary of
Emeritus. From May 1992 to May 1997, Mr. Brandstrom served as Vice President
and Treasurer of Columbia Winery, a company affiliated with Mr. Baty that is
engaged in the production and sale of table wines.
Gary S. Becker joined Emeritus as Western Division Director in January 1997, was
promoted to Vice President, Operations-Western Division in September 1999, and
then promoted to Senior Vice President of Operations in March 2000. Mr. Becker
has 30 years of health care management experience. From October 1993 to
December 1996 he was Vice President of Operations for the Western Division of
SunBridge Healthcare Corporation, the nursing home division of Sun Healthcare
Group, Inc. Sun Healthcare Group, Inc. is one of the largest providers of
long-term, subacute, and related specialty health care services in the United
States.
Martin D. Roffe joined Emeritus as Director of Financial Planning in March 1998,
and was promoted to Vice President of Financial Planning in October 1999. Mr.
Roffe has 31 years experience in the acute care, long-term care, and senior
housing industries. Prior to joining Emeritus, from May 1987 until February
1996, Mr. Roffe served as Vice President of Financial Planning for the Hillhaven
Corporation, where he also held the previous positions of Sr. Application
Analyst and Director of Financial Planning. Hillhaven Corporation operated
nursing centers, pharmacies, and retirement housing communities.
15
Suzette McCanless joined Emeritus as Eastern Division Director of Operations in
March 1997 and was promoted to Vice President of Operations - Eastern Division,
in September 1999. Mrs. McCanless has 23 years of health care management
experience. Prior to joining Emeritus, from July 1996 to February 1997, she was
Group Vice President for Beverly Enterprises, Inc., where she also held the
previous positions of Administrator and Regional Director of Operations. The
business of Beverly Enterprises, Inc. consists principally of providing
healthcare services, including the operation of nursing facilities, assisted
living centers, hospice and home care centers, outpatient therapy clinics and
rehabilitation therapy services.
Russell G. Kubik joined Emeritus as Central Division Director of Operations in
April 1997 and was promoted to Vice President, Operations - Central Division, in
September 1999. Mr. Kubik has 19 years of health care management experience.
Prior to joining Emeritus, from 1994 to 1997, Mr. Kubik served as Regional
Director of Operations for Sun Healthcare Group, Inc. in the Seattle/Puget Sound
area. Mr. Kubik also worked as Regional Director of Operations for Beverly
Enterprises, Inc. in Washington and Idaho.
P. Kacy Kang joined Emeritus as Regional Director of Operations in June 1997 and
was promoted to Senior Director of Operations - Western Division, in February
2001. Mr. Kang was then promoted to Vice President of Operations - Western
Division in August 2001. Prior to joining Emeritus, Mr. Kang operated nursing
and rehabilitation facilities for Beverly Enterprises, Inc. from 1991 to 1994
and for Sun Healthcare Group, Inc. from 1994 through 1997.
Christopher M. Belford joined Emeritus as Regional Director of Operations for
California in January 2001 and was promoted to Divisional Director of Operations
for the Southwest Division in May 2001. Mr. Belford was then promoted to Vice
President of Operations - Great Lakes Division in October 2003. Prior to
joining Emeritus, Mr. Belford served as Vice President of Operations for Regent
Assisted Living, Inc. from 1996 to 2000 in the Southwest Division. Mr. Belford
operated nursing, assisted, and independent living facilities for ERA Care in
the Seattle/Puget Sound area from 1991 to 1996.
Susan A. Scherr joined Emeritus as a Regional Support Specialist in October 1997
and was promoted to Director of Signature Services and a member of the Emeritus
Senior Management team in December 1999. In April 2001, she became Vice
President of Signature Services, providing leadership and direction to Emeritus
through Sales and Marketing, Education and Training, Dining Services, and
Wellness and Activities Programming. Ms. Scherr brings to Emeritus more than 19
years' experience in the assisted living, acute and skilled care, and
hospice/home health care industries. Prior to her association with Emeritus,
she worked with SunBridge Healthcare Corporation, the nursing home division of
Sun Healthcare Group, Inc. and Jerry Erwin & Associates, an assisted living
company.
16
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
Our common stock has been traded on the American Stock Exchange under the symbol
"ESC" since November 21, 1995, the date of our initial public offering. The
following table sets forth for the periods indicated the high and low closing
prices for our common stock as reported on AMEX.
High Low
----------- -----------
2003
First Quarter . . . . $ 5.78 $ 3.60
Second Quarter. . . . $ 4.49 $ 3.44
Third Quarter . . . . $ 8.09 $ 3.85
Fourth Quarter. . . . $ 8.50 $ 5.90
2002
First Quarter . . . . $ 5.22 $ 2.05
Second Quarter. . . . $ 5.00 $ 3.80
Third Quarter . . . . $ 4.50 $ 1.70
Fourth Quarter. . . . $ 5.68 $ 1.70
As of February 29, 2004, we had 131 holders of record of our Common Stock.
We have never declared or paid any dividends on our Common Stock, and expect to
retain any future earnings to finance the operation and expansion of our
business. Future dividend payments will depend on our results of operations,
financial condition, capital expenditure plans, and other obligations and will
be at the sole discretion of our Board of Directors. Certain of our existing
leases and lending arrangements contain provisions that restrict our ability to
pay dividends, and it is anticipated that the terms of future leases and debt
financing arrangements may contain similar restrictions. Therefore, we do not
anticipate paying any cash dividends on our Common Stock in the foreseeable
future.
17
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
The selected data presented below under the captions "Consolidated Statements of
Operations Data" and "Consolidated Balance Sheet Data" for, and as of the end
of, each of the years in the five-year period ended December 31, 2003, are
derived from the consolidated financial statements of Emeritus Corporation. The
consolidated financial statements as of December 31, 2003 and 2002, and for each
of the years in the three-year period ended December 31, 2003, are included
elsewhere in this document.
Year Ended December 31,
-----------------------------------------------------
2003 2002 2001 2000 1999
--------- --------- --------- --------- ---------
(In thousands, except per share data)
Consolidated Statements of Operations Data:
Total operating revenues . . . . . . . . . . . . . . . $206,657 $153,129 $140,577 $125,192 $122,642
Total operating expenses . . . . . . . . . . . . . . . 199,710 152,132 133,076 125,905 125,330
--------- --------- --------- --------- ---------
Income (loss) from operations. . . . . . . . . . . . . 6,947 997 7,501 (713) (2,688)
Net other expense. . . . . . . . . . . . . . . . . . . (10,354) (7,220) (11,735) (21,223) (18,349)
--------- --------- --------- --------- ---------
Loss before income taxes. . . . . . . . . . . . . . . (3,407) (6,223) (4,234) (21,936) (21,037)
Provision for income taxes . . . . . . . . . . . . . . (418) - - - -
--------- --------- --------- --------- ---------
Net loss . . . . . . . . . . . . . . . . . . . . . . . (3,825) (6,223) (4,234) (21,936) (21,037)
Preferred stock dividends. . . . . . . . . . . . . . . (6,238) (7,343) (6,368) (5,327) (2,250)
Gain on repurchase of Series A preferred stock . . . . 14,523 - - - -
--------- --------- --------- --------- ---------
Net income (loss) to common shareholders . . . . . . . $ 4,460 $(13,566) $(10,602) $(27,263) $(23,287)
========= ========= ========= ========= =========
Net income (loss) per common share:
Basic. . . . . . . . . . . . . . . . . . . . . . . . . $ 0.43 $ (1.33) $ (1.04) $ (2.69) $ (2.22)
========= ========= ========= ========= =========
Diluted. . . . . . . . . . . . . . . . . . . . . . . . $ 0.39 $ (1.33) $ (1.04) $ (2.69) $ (2.22)
========= ========= ========= ========= =========
Weighted average number of common shares outstanding:
Basic. . . . . . . . . . . . . . . . . . . . . . . . . 10,255 10,207 10,162 10,117 10,469
========= ========= ========= ========= =========
Diluted. . . . . . . . . . . . . . . . . . . . . . . . 11,521 10,207 10,162 10,117 10,469
========= ========= ========= ========= =========
Consolidated Operating Data:
Communities in which we have an interest . . . . . . . 175 180 133 135 129
Number of units. . . . . . . . . . . . . . . . . . . . 14,845 15,762 12,248 12,412 11,726
December 31,
------------------------------------------------------
2003 2002 2001 2000 1999
--------- --------- --------- --------- ---------
(In thousands)
Consolidated Balance Sheet Data:
Cash and cash equivalents. . . . . . . . . . . . . . . $ 6,368 $ 7,301 $ 10,194 $ 7,496 $ 12,860
Working capital (deficit). . . . . . . . . . . . . . . (33,361) (26,485) (12,100) (81,167) 6,828
Total assets . . . . . . . . . . . . . . . . . . . . . 178,587 163,159 168,811 178,079 198,370
Long-term debt, less current portion . . . . . . . . . 136,388 119,887 131,070 60,499 128,319
Convertible debentures . . . . . . . . . . . . . . . . 32,000 32,000 32,000 32,000 32,000
Redeemable preferred stock . . . . . . . . . . . . . . - 25,000 25,000 25,000 25,000
Shareholders' deficit. . . . . . . . . . . . . . . . . (79,094) (85,066) (74,141) (65,803) (37,290)
18
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
OVERVIEW
Emeritus is a Washington corporation organized by Daniel R. Baty and two other
founders in 1993. In November 1995, we completed our initial public offering.
From 1995 through 1999, we expanded rapidly through acquisition and internal
development and by December 31, 1999, operated 129 assisted living communities
with 11,726 units. We believe, however, that during this expansion, the
assisted living industry became significantly over-built, creating an
environment characterized by sluggish or falling occupancy and market resistance
to rate increases. As a result of these difficult operating circumstances, we
limited further growth and in 2000 began an increasing focus first on raising
our occupancy and later on operating efficiencies and cost controls as well as
implementing a systematic rate enhancement program.
We believe that the health of the assisted living industry is improving and that
there are developing opportunities to improve occupancy and adjust rates, as
well as greater access to capital. In light of these perceptions, we have
completed several acquisitions in the last two years and have, and are
continuing, to convert managed communities to owned or lease communities where
opportunities are available. In 2000 and 2001, we continued to operate
approximately 130 communities, but in 2002 and 2003, we increased that to 180
and 175 communities, respectively, primarily through the lease of 24 communities
formerly operated by Marriott and through other selected acquisitions. From the
end of 2000 to the end of 2003, the communities we manage decreased from 69 to
47 and the owned and leased communities increased from 61 to 128, reflecting
both our increasing confidence in the assisted living industry and the
availability of capital.
In 2004 we expect to continue reviewing acquisition opportunities and seeking to
take ownership or lease positions in communities that we manage. To this end,
we have announced a proposed lease acquisition of up to 13 communities that we
formerly managed, a second lease acquisition of nine memory loss facilities, and
two other communities.
The following table sets forth a summary of our property interests.
As of December 31,
----------------------------------------------------------------------
2003 2002 2001
---------------------- ---------------------- ----------------------
Buildings Units Buildings Units Buildings Units
---------- ---------- ---------- ---------- ---------- ----------
Owned (1) . . . . . . . . . . . . . 19 1,813 17 1,687 16 1,579
Leased (1) (2). . . . . . . . . . . 109 8,303 67 5,279 42 3,444
Managed/Admin Services (3)(4) . . . 46 4,589 94 8,577 70 6,620
Joint Venture/Partnership (5) . . . 1 140 2 219 5 605
---------- ---------- ---------- ---------- ---------- ----------
Operated Portfolio . . . . . . 175 14,845 180 15,762 133 12,248
Percentage increase (decrease) (2.8%) (5.8%) 35.3% 28.7% (1.5%) (1.3%)
- --------
(1) Included in our consolidated portfolio of communities.
(2) The leased communities are all operating leases, in which the revenues
and expenses from these communities are included in the Consolidated
Statement of Operations, but the assets and liabilities are not
included in the Consolidated Balance Sheets.
(3) Buildings managed decreased in 2003 due to termination of 13 Regent
management contracts, the 21 Emeritrust II communities, which were
leased as of September 30, 2003, and the 8 Horizon Bay communities,
which were leased as of December 31, 2003.
(4) One managed building has been shut down and was sold March 12, 2004.
(5) In 2003, 2002, and 2001, we managed 1, 1, and 2 of these communities,
respectively.
Two of the important factors affecting our financial results are the rates we
charge our residents and the occupancy levels we achieve in our communities. We
rely primarily on our residents' ability to pay our charges for services from
their own or familial resources and expect that we will do so for the
foreseeable future. Although care in an assisted living community is typically
less
19
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (continued)
expensive than in a skilled nursing facility, we believe that generally only
seniors with income or assets meeting or exceeding the regional median can
afford to reside in our communities. In this context, we must be sensitive to
our residents' financial circumstances and remain aware that rates and occupancy
are interrelated.
In evaluating the rate component, we generally rely on the average monthly
revenue per unit, computed by dividing the total revenue for a particular period
by the average number of occupied units determined on a monthly basis for the
same period. In evaluating the occupancy component, we generally rely on the an
average occupancy rate, computed by dividing the average units available,
determined on a monthly basis, during a particular period by the average number
of units occupied, determined on a monthly basis, during the period. In October
2002, we acquired 24 buildings through lease (with approximately 1,650 units)
and in March 2003, we acquired eight buildings through lease (with approximately
489 units). At the time of acquisition, these groups of communities had
different rate and occupancy characteristics and, therefore, have a distorting
effect on the rate and occupancy comparisons between 2002 and 2003. As a
consequence, the comparison including and excluding these communities is
presented below. We evaluate these and other operating components for our
consolidated portfolio, which included the communities we own and lease, and our
operating portfolio, which also includes the communities we manage as if we were
the owner or lessor.
In our consolidated portfolio, our average monthly revenue per unit increased
from $2,405 in 2001 to $2,577 in 2002 and to $2,767 in 2003. These changes
represented increases of 7.2% and 7.4% for each of the two years. Excluding the
acquisition communities referred to above, the corresponding changes were 6.3%
for 2002 and 5.6% for 2003. We believe that these improvements were a
consequence of a carefully designed rate enhancement program that we began
implementing in 2000.
In our consolidated portfolio, our average occupancy rate was 84.1% in 2001,
decreasing to 80.9% in 2002 and further decreasing to 77.4% in 2003. Excluding
the acquisition communities referred to above, our average occupancy rate was
81.8% in 2002 compared to 81.6% in 2003. We believe that these occupancy rates
reflect industry-wide factors, such as the supply of available units, which have
tended to keep pressure on occupancy levels, as well as, our own actions and
policies. At the time the acquisition communities were added to our
consolidated portfolio, their occupancy rates were lower (average rate for 2003
was 65.4%) and their average revenue per occupied unit was higher ($3,012 for
2003) than the balance of our portfolio. We also believe that our rate
enhancement program has affected occupancy growth and we continue to evaluate
the factors of rate and occupancy to find the optimum balance.
Since our inception in 1993, we have incurred operating losses and as of
December 31, 2003, we had an accumulated deficit of approximately $150.8
million. We believe that these losses have resulted from our early emphasis on
expansion, financing costs arising from multiple financing and refinancing
transactions related to this expansion, administrative and corporate expenses
that we incurred in anticipation of further expansion that did not materialize
and occupancy rates that have declined and remained lower for longer periods
than we anticipated.
SIGNIFICANT 2003 TRANSACTIONS
In 2003 we substantially increased the number of communities we lease, reduced
the number of communities we manage, repurchased all of our outstanding Series A
Preferred Stock and, in connection with these changes, increased and
restructured portions of our long-term financing obligations. The transactions
associated with these developments are summarized below.
Emeritrust Transactions
Since 1999, we have managed 46 communities under arrangements with several
related investor groups that involved (i) payment of management fees to us, (ii)
options for us to purchase the communities at a price determined by a formula,
and (iii) obligations to fund operating losses of certain communities.
Emeritrust I Communities Management. During 2003, 2002 and 2001, we managed the
Emeritrust I communities, which included 25 of the 46 communities, under a
management agreement providing for a base fee of 3% of gross revenues generated
by the communities and an additional management fee of 4% of gross revenues,
payable to the extent of 50% of cash flow from the communities. The management
agreement also required us to fund cash operating losses of the communities. In
each of
20
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (continued)
April and August 2003, the Emeritrust I owners disposed of a community, reducing
the number of managed communities to 23. Under this arrangement, we received
management fees (net of our funding obligations) of approximately $2.7 million,
$1.8 million, and $2.8 million in 2003, 2002 and 2001, respectively. This
management agreement, as extended several times, expired at the end of 2003. On
January 2, 2004, we and the Emeritrust I investors entered into a new management
agreement providing for management fees computed on the same basis and (i)
terminating all options to purchase the communities, (ii) terminating any
further funding obligation, and (iii) providing for a term expiring September
30, 2005, provided that either party may terminate the agreement on 90 days
notice. In March 2004, this management agreement was amended to provide for a
management fee of 5% of gross revenues. In 2004, we do not expect to receive
management fees for the Emeritrust I communities at the same level as we did in
2003. The interest rate on the mortgage financing of the communities was
increased effective June 30, 2003, and may be increased further in 2004, which
will have the effect of reducing cash flow from the communities and,
correspondingly, reducing our additional management fee that is payable to the
extent of 50% of cash flow. We also expect that additional communities could be
sold, thereby reducing the number of communities subject to the management
agreement. Because this management agreement can be terminated by either party
on short notice, there can be no guaranty that the management arrangement will
continue for its full term.
Emeritrust II Communities Management. During 2003 (through September 30), 2002,
and 2001, we managed the Emeritrust II communities, which included 21 of the 46
communities, under management agreements providing for a base management fee of
5% of gross revenue generated by the communities and an additional management
fee of 2%, payable if we met certain cash flow standards. The management
agreement for five of the communities also required us to fund cash operating
losses of those communities. Under this arrangement, we received management
fees (net of our funding obligations) of approximately $2.0 million in 2003
(through September 30), and approximately $2.6 million in each of the years 2002
and 2001.
Emeritrust II Communities Lease. On September 30, 2003, we acquired the 21
Emeritrust II communities for a cash purchase price of $118.6 million, financed
through a combination of lease and mortgage financing with an independent real
estate investment trust in the aggregate amount of $121.5 million. A master
operating lease covers the Emeritrust II communities and four other communities
originally leased from the real estate investment trust in March 2002. The
lease is for an initial 15-year period, with one 15-year renewal, and grants us
a right of first opportunity to purchase any of the Emeritrust II communities if
the trust decides to sell. The lease is a net lease, with annual base rent of
$14.7 million (of which $10.5 million is attributable to the Emeritrust II
communities), and periodic escalators. The real estate investment trust also
provided $11.5 million of debt financing secured by our leasehold interests in
the Emeritrust II communities. This debt was consolidated with other debt held
by the real estate investment trust as described below under "Debt
Consolidation." As part of the purchase price, we also agreed to issue to the
Emeritrust II investors warrants to purchase 500,000 shares of our common stock,
of which 400,000 shares have been issued. The warrants expire September 30,
2008, and have an exercise price of $7.60 (subject to certain adjustments). The
holders have limited registration rights. We included the fair value of these
warrants, totaling approximately $1.4 million, as lease acquisition costs that
we will amortize over the life of the lease.
Additional Information. The history and additional detail relating to
transactions involving the Emeritrust communities is contained in our Form 8-K
filed with the Securities and Exchange Commission on October 14, 2003. Mr.
Baty, our chief executive officer, held financial interests in the Emeritrust
investor groups and had certain obligations under the Emeritrust financing
arrangements and in the transactions completed in 2003. These are also
described in detail in this Form 8-K.
Repurchase of Series A Preferred Stock
In a two-part transaction that was completed August 28, 2003, we repurchased all
the outstanding shares of our Series A Preferred Stock for an aggregate purchase
price of $20.5 million. The Series A Preferred Stock had been issued originally
in October 1997 for $25.0 million. As a part of the repurchase, the holder of
the Series A Preferred Stock waived approximately $10.1 million in accrued and
unpaid dividends. As a result of the transaction, we recognized a gain of
approximately $14.5 million. Just prior to the repurchase, the Series A
Preferred Stock was accruing compounded, cumulative dividends of approximately
$3.7 million annually, with mandatory redemption in October 2004 at a price of
$25 million plus accrued and unpaid dividends. In completing the repurchase, we
avoided these future obligations. We obtained the funds to complete the
repurchase through three related financing transactions.
21
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (continued)
The first financing transaction involved three communities that we leased. Prior
to this financing transaction, we also held notes receivable in the aggregate
amount of $4.4 million that were secured by the same three communities and under
which we received interest of approximately $144,000 annually. In the
refinancing, the communities were transferred to a real estate investment trust,
which became the new owner and lessor, and we received net proceeds of $10.2
million in repayment of the notes we held and in exchange for our related
security and other property interests in the communities. The transfer of the
communities was subject to our leases, the terms of which did not change.
Because we disposed of our notes, we will no longer receive the interest we
formerly did. We recognized a deferred gain of approximately $8.5 million, which
we will amortize over the remaining life of the leases.
The second financing transaction, with the same real estate investment trust,
involved the sale/leaseback of four communities, three of which we owned and one
of which we held a 50% joint venture interest, resulting in net proceeds of $6.6
million. The lease is for a 15-year term with a 15-year extension and provides
for a base annual rent of approximately $3.5 million, with periodic escalators.
Prior to this refinancing, the communities secured mortgage financing of $24.6
million, with annual interest payments of approximately $2.4 million. We
recognized a deferred gain of $9.9 million, which we will amortize over the term
of the lease.
The third financing, again with the same real estate investment trust, was a
mortgage loan for $7.5 million secured by the seven communities involved in the
first two financing transactions. The debt matured in August 2006 and required
monthly interest-only payments at an initial rate of 12% per annum, with
periodic increases. This mortgage debt was subsequently consolidated with other
debt held by the real estate investment trust, as discussed below under "Debt
Consolidation".
Lease of Eight Communities in May
In May 2003, we entered into a lease with a real estate investment trust
covering eight assisted living communities in four states containing an
aggregate of 489 units. The lease is for an initial 10-year period with three
5-year extensions and includes an option to acquire the communities during the
second year for a price of $42.2 million and during the third year at the same
price plus a 3% premium. We believe this option exercise price is currently well
above fair value based on current operations. Under the lease we have a right of
first opportunity to purchase any of the properties if the owner decides to
sell. The lease is a net lease, with annual base rental of $3.45 million, and
rent adjustments at the end of the first and second lease years based on a
percentage of any increase in operating revenues, with an aggregate annual limit
of $275,000, and adjustments each year thereafter based on increases in the
consumer price index. The real estate investment trust has agreed to fund up to
$500,000 for capital expenditures, with amounts added to the lease base and
option price, and has provided us a 10-year working capital loan for $600,000,
with interest at 10% per annum payable monthly.
Lease of Eight Communities from Baty
On September 30, 2003, we entered into an agreement to lease eight communities
that we were then managing for entities owned or controlled by Mr. Baty, which
we have formerly referred to as the Horizon Bay communities. Under the
agreement, the Baty entities assigned, and we assumed, the existing leases
relating to seven of the facilities. In lieu of acquiring the remaining
community, which was owned by a Baty entity subject to mortgage financing, we
leased the community for a term of 10 years, with rent equal to the debt service
on the mortgage indebtedness (including interest and principal) plus 25% of cash
flow (after accounting for assumed management fees and capital expenditures).
The debt that is secured by this community may be cross-collateralized by Mr.
Baty with an Emeritrust I community that he may acquire and lease to us, as
described below. Annual rent relating to the eight communities is estimated at
$4.6 million, with annual adjustments based upon changes in the consumer price
level index. We will pay the Baty Entities approximately $70,000, which
represents their cash investment plus 9% per annum, as provided in the original
agreement related to the management of these communities between the Baty
Entities and us. Although this transaction closed December 31, 2003, the
economic and financial terms were effective June 30, 2003.
Debt Consolidation
The real estate investment trust that financed the Emeritrust II transaction
already held $6.8 million of our leasehold mortgage debt that matured in March
2005 and bore interest at 12% per annum, commencing March 2002 with periodic
increases up to 13% per annum. This real estate investment trust also provided
$7.5 million in leasehold mortgage financing incurred to support
22
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (continued)
the Series A Preferred Stock repurchase in August 2003. On September 30, 2003,
these two financings, together with the $11.5 million leasehold mortgage
financing related to the Emeritrust II communities, were consolidated into a
single $25.8 million leasehold mortgage financing, secured by the 32 communities
and maturing on June 30, 2007. The debt bears interest at an initial rate of
12.13% per annum with periodic increases up to 13%. The consolidated loan
requires monthly payments of interest the first year and monthly payments of
principal and interest, based on a 10-year amortization, thereafter. Additional
principal reductions may occur, at our option, through the increase in the
amount of the lease financing based on the portfolio achieving certain coverage
ratios.
Alterra Transactions
In December 2003, we invested $7.3 million (representing an 11% ownership
interest), net of transaction costs, in a limited liability corporation (LLC)
that acquired Alterra Healthcare Corporation, a national assisted living company
headquartered in Milwaukee, Wisconsin that was the subject of a voluntary
Chapter 11 bankruptcy. Alterra operated 304 assisted living communities in 22
states. The purchase price for Alterra was $76 million and the transaction
closed on December 4, 2003, following approval by the Bankruptcy Court. The
members of the LLC consists of an affiliate of Fortress Investment Group LLC
(Fortress), a New York based private equity fund, which is the managing member,
an entity controlled by Mr. Baty, and us. Under the LLC agreement,
distributions are first allocated to Fortress until it receives its original
investment of $49 million together with a 15% preferred return, and then are
allocated to the three investors in proportion to their percentage interests, as
defined in the agreement, which are a 50% interest for Fortress and a 25%
interest for each of us and the entity controlled by Mr. Baty.
On December 31, 2003, independent of the LLC, we acquired five assisted living
communities, containing an aggregate of 355 units, from Alterra for the
assumption of $22.6 million of mortgage debt, which bears interest at 6.98% per
annum, provides for monthly payments of $178,000, including principal and
interest, and matures August 2008.
The following table summarizes the transactions described above:
Owned Leased Managed
------ ------ --------
December 31, 2002. . . . . . . . . . . . . . 18 67 95
Emeritrust I Communities Management. . . . . - - (2)
Sale-leaseback in connection with
repurchase of the Series A Preferred Stock (4) 4 -
Emeritrust II Communities Lease. . . . . . . - 21 (21)
Lease of Eight Communities in May. . . . . . - 8 -
Lease of Eight Communities from Baty . . . . - 8 (8)
Five Community Mortgage Assumption . . . . . 5 - -
Other Transactions . . . . . . . . . . . . . - 1 (17) *
----- -------- --------
December 31, 2003. . . . . . . . . . . . . . 19 109 47
====== ======= ========
* includes two communities not elsewhere discussed
23
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (continued)
RESULTS OF OPERATIONS
Summary of Significant Accounting Policies and Use of Estimates
Our discussion and analysis of our financial condition and results of operations
are based upon our consolidated financial statements, which have been prepared
in accordance with accounting principles generally accepted in the United
States. The preparation of these financial statements requires us to make
estimates and judgments that affect the reported amounts of assets, liabilities,
revenues, and expenses, and related disclosure of contingent assets and
liabilities. On an ongoing basis, we evaluate our estimates, including those
related to resident programs and incentives such as move-in fees, bad debts,
investments, intangible assets, impairment of long-lived assets, income taxes,
restructuring, long-term service contracts, contingencies, self-insured
retention, health insurance, and litigation. We base our estimates on
historical experience and on various other assumptions that are believed to be
reasonable under the circumstances, the results of which form the basis for
making judgments about the carrying values of assets and liabilities that are
not readily apparent from other sources. Actual results may differ from these
estimates under different assumptions or conditions.
We believe the following accounting policies are most significant to the
judgments and estimates used in the preparation of our consolidated financial
statements. Revisions in such estimates are charged to income in the period in
which the facts that give rise to the revision become known.
* For commercial general liability and professional liability insurance, we
use a captive insurance structure essentially to self-fund our primary
layer of insurance. This policy is claims-made based and covers losses
and liabilities associated with general and professional liability. The
primary layer has per occurrence and aggregate limits. Within that
primary layer is a self-insured retention, which also has a per
occurrence and aggregate limit. We also have an excess policy, which
applies to claims in excess of the primary layer on a per occurrence
basis. Losses within the primary layer, which include the self-insured
retention, are accrued based upon actuarial estimates of the aggregate
liability for claims incurred, which will vary based on actual versus
expected experience.
* For health insurance, we self-insure up to a certain level for each
occurrence above which a catastrophic insurance policy covers any
additional costs. Health insurance expense is accrued based upon
historical experience of the aggregate liability for claims incurred. If
these estimates are insufficient, additional charges may be required.
* For workers' compensation insurance for insured states (excluding Texas
and compulsory State Funds), we are on an incurred loss, retrospective
insurance policy, retroactively adjusted, upward or downward, based upon
total incurred loss experience. The premium charged by the insurance
underwriter is based upon a standard rate determined by the underwriter
to cover, amongst other things, estimated losses and other fixed costs.
The difference between the premium charged and the actuarial based
estimate of costs, which is expensed on a monthly basis, is carried as
an asset on the balance sheet. After the end of the policy year, the
insurance company conducts an audit and adjusts the total premium based
upon the actual payroll and actual incurred loss for the policy year.
Any premium adjustment for the differences between estimated and actual
payroll and estimated and actual losses will first be applied to the
accrued asset and then as an adjustment to workers' compensation expense
at the time such adjustment is determined. There is a reasonable
expectation that the incurred loss adjustment will be downward,
resulting in a premium refund. The incurred loss adjustment is limited
to 50% of the standard premium with the initial adjustment six months
after policy expiration on December 31, 2003, and annually thereafter.
For work-related injuries in Texas, we are a non-subscriber, meaning
that work-related losses are covered under a defined benefit program
outside of the Texas Workers' Compensation system. Losses are paid as
incurred and estimated losses are accrued on a monthly basis.
* We account for stock option awards to employees under the intrinsic
value-based method of accounting prescribed by APB No. 25, "Accounting
for Stock Issued to Employees". Under this method, no compensation
expense is recorded provided the exercise price is equal to or greater
than the quoted market price of the stock at the grant date. We make pro
forma disclosures of net income and earnings per share as if the fair
value-based method of accounting (the alternative method of accounting
for stock-based compensation) had been applied as required by FAS No.
123, "Accounting for Stock-Based Compensation". The fair value-based
method requires us to make assumptions to determine expected risk-free
interest rates, stock price volatility, dividend yield and
weighted-average option life. To
24
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (continued)
the extent, such things as actual volatility or life of the options is
different from estimated, amounts expensed will be more or less than
would have been recorded otherwise.
* We maintain allowances for doubtful accounts for estimated losses
resulting from the inability of our residents to make required payments.
If the financial condition of our residents were to deteriorate,
resulting in an impairment of their ability to make payments, additional
allowances may be required.
* We record a valuation allowance to reduce our deferred tax assets to the
amount that is more likely than not to be realized which at this time
shows a net asset valuation of zero. We have considered future taxable
income and ongoing prudent and feasible tax planning strategies in
assessing the need for the valuation allowance. However, in the event we
were to determine that we would be able to realize our deferred tax
assets in the future in excess of our net recorded amount, an adjustment
to the deferred tax asset would increase income in the period such
determination was made.
COMMON-SIZE INCOME STATEMENTS AND PERIOD-TO-PERIOD PERCENTAGE CHANGE
The following table sets forth, for the periods indicated, certain items from
our Consolidated Statements of Operations as a percentage of total revenues and
the percentage change of the dollar amounts from period to period.
Percentage of Revenues
--------------------------------------- Year-to-Year
Years Ended December 31, Percentage Increase (Decrease)
--------------------------------------- ------------------------------------
2003 2002 2001 2003-2002 2002-2001
------------ ------------ ------------ ---------------- ----------------
Revenues: . . . . . . . . . . . . . . . 100.0% 100.0% 100.0% 35.0% 8.9%
Expenses:
Community operations . . . . . . . 61.6 61.3 57.5 35.7 16.1
General and administrative . . . . 11.6 13.8 12.7 13.9 18.2
Depreciation and amortization. . . 3.5 4.7 5.2 1.6 (0.5)
Facility lease expense . . . . . . 19.9 19.6 19.3 36.9 10.5
------------ ------------ ------------ ---------------- ----------------
Total operating expenses . . . 96.6 99.4 94.7 31.3 14.3
------------ ------------ ------------ ---------------- ----------------
Income from operations. . . . . . . . . 3.4 0.6 5.3 596.8 (86.7)
Other income (expense)
Interest income. . . . . . . . . . 0.3 0.3 0.7 65.3 (58.9)
Interest expense . . . . . . . . . (6.3) (7.7) (9.4) 12.1 (11.8)
Other, net . . . . . . . . . . . . 1.0 2.7 0.4 (48.3) 606.5
------------ ------------ ------------ ---------------- ----------------
Net other expense . . . . . . (5.0) (4.7) (8.3) 43.4 (38.5)
------------ ------------ ------------ ---------------- ----------------
Loss before income taxes..... (1.6) (4.1) (3.0) (45.3) 47.0
Provision for income taxes. . (0.2) - - N/A N/A
------------ ------------ ------------ ---------------- ----------------
Net loss. . . . . . . . . . . (1.8%) (4.1%) (3.0%) (38.5%) 47.0%
============ ============ ============ ================ ================
25
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (continued)
Comparison of the Years Ended December 31, 2003 and 2002
- -----------------------------------------------------------------
Total Operating Revenues: Total operating revenues for the year ended December
31, 2003, increased by $53.6 million to $206.7 million from $153.1 million in
2002, or 35.0%. Approximately $36.3 million of the increase reflects revenue
from 24 communities that we began leasing in late 2002 and an 8 building lease
acquisition in the second quarter of 2003. The balance of the change in revenue
is primarily the result of increases in the average monthly revenue per unit due
to our rate enhancement program. Average monthly revenue per unit (excluding
the acquisition impact, which was favorable by $68) was $2,699 for 2003 compared
to $2,577 for 2002, an increase of approximately 5.6%. These increases were
partially offset by a decrease in the occupancy rate of 3.5 percentage points to
77.4% for 2003 from 80.9% for 2002. However, the occupancy rate excluding the
acquisition impact, which was unfavorable by 4.2 percentage points, decreased
0.2 percentage points from the prior year. Management fees decreased by
$649,000 in the year ended December 31, 2003, compared to 2002. This is
primarily due to the termination, expiration, or sale of various communities
under management contracts during 2003. As of December 31, 2003, we managed 47
communities compared to 95 as of December 31, 2002, a decline of 48 managed
communities. Of the 48 previously managed communities, 29 are currently leased
and included in our consolidated portfolio at December 31, 2003.
Community Operations: Community operating expenses for the year ended December
31, 2003, increased $33.5 million to $127.3 million from $93.8 million for 2002,
or 35.7%. Approximately $28.0 million of the increase reflects operating
expense from 24 communities that we began leasing in October 2002 and an 8
building lease acquisition in the second quarter of 2003. The balance of this
change was due to increases in personnel costs and increases in utilities, food
services, health, and workers' compensation insurance premiums. Community
operating expenses as a percentage of total operating revenue increased to 61.6%
in 2003 from 61.3% in 2002, primarily as a result of these increased expenses.
General and Administrative: General and administrative (G&A) expenses for the
year ended December 31, 2003, increased $2.9 million to $24.0 million from $21.1
million for 2002, or 13.9%. We experienced increases of approximately $2.7
million in personnel costs related to acquisitions and health and workers'
compensation insurance. As a percentage of total operating revenues, G&A
expenses decreased to 11.6% for 2003, compared to 13.8% for 2002, primarily as a
result of increased revenue due to additional communities in our consolidated
portfolio. Since approximately 25% of the communities we operate are managed
rather than owned or leased, G&A expense as a percentage of operating revenues
for all communities, including managed communities for which the operating
revenue is not included in our consolidated financial statements, may be more
meaningful for industry-wide comparisons. These percentages were 6.3% and 6.0%
for 2003 and 2002, respectively.
Depreciation and Amortization: Depreciation and amortization for the year ended
December 31, 2003, and 2002, were approximately $7.3 million and $7.2 million,
respectively. In 2003, this represents 3.5% of total operating revenues
compared to 4.7% for 2002. The decrease as a percentage of revenues is due to
increased revenues from our consolidated portfolio of communities.
Facility Lease Expense: Facility lease expense for the year ended December 31,
2003, was $41.0 million compared to $30.0 million for the year ended December
31, 2002, representing an increase of $11.0 million, or 36.9%. Approximately
$6.7 million of the increase reflects rental expense from 24 communities that we
began leasing in October 2002 and an 8 building lease acquisition in the second
quarter of 2003. Approximately $2.6 million of the increase was the result of a
lease acquisition of the Emeritrust II communities as discussed previously in
"Significant 2003 Transactions - Emeritrust Transactions". Approximately
$733,000 of the increase was the result of the sale-leaseback transaction in
connection with the repurchase of the Series A Preferred Stock also discussed in
"Significant 2003 Transactions - Repurchase of Series A Preferred Stock". The
balance of the increase is primarily attributable to rental increases based on
community performance under certain of our leases in 2003. We leased 109
communities as of December 31, 2003, compared to 67 communities as of December
31, 2002. Facility lease expense as a percentage of revenues increased to 19.9%
from 19.6% for the years ended December 31, 2003, and 2002, respectively.
Interest Income: Interest income for the year ended December 31, 2003, was
$666,000 versus $403,000 for the year ended December 31, 2002. This is
primarily attributable to a higher return on certain restricted deposits related
to a sale-leaseback transaction in the fourth quarter of 2002.
26
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (continued)
Interest Expense: Interest expense for the year ended December 31, 2003, was
$13.1 million compared to $11.7 million for the year ended December 31, 2002.
This increase of $1.4 million, or 12.1%, is primarily attributable to higher
amounts of outstanding debt in 2003 compared to 2002, as a result of a debt
consolidation in connection with the Emeritrust II transaction and the
repurchase of the Series A Preferred Stock all as discussed in "Significant 2003
Transactions." As a percentage of total operating revenues, interest expense
decreased to 6.3% from 7.7% for the year ended December 31, 2003 and 2002,
respectively, reflecting increased revenues in conjunction with lower interest
rates.
Other, net: Other, net decreased by $2.0 million to $2.1 million in income for
the year ended December 31, 2003, from $4.1 million in income for the year ended
December 31, 2002. The amount for 2003 includes a gain of $1.4 million on the
sale of our investment in ARV Assisted Living common stock in April 2003,
amortization of deferred gains related to the transactions in connection with
the repurchase of the Series A Preferred Stock of approximately $440,000, and
the Emeritrust II leasehold acquisition of approximately $278,000 all as
discussed in "Significant 2003 Transactions". The amount for the year 2002
includes a $5.1 million