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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 OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 2001; OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM TO
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Commission File Number 1-10315
HEALTHSOUTH CORPORATION
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(Exact Name of Registrant as Specified in its Charter)
DELAWARE 63-0860407
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(State or Other Jurisdiction (I.R.S. Employer Identification No.)
of Incorporation or Organization)
ONE HEALTHSOUTH PARKWAY
BIRMINGHAM, ALABAMA 35243
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(Address of Principal Executive (Zip Code)
Offices)
Registrant's Telephone Number, Including Area Code: (205) 967-7116
Securities Registered Pursuant to Section 12(b) of the Act:
Name of Each Exchange
Title of Each Class on which Registered
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COMMON STOCK, PAR VALUE NEW YORK STOCK EXCHANGE
$.01 PER SHARE
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), and (2) has been subject to such
filing requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]
State the aggregate market value of the voting stock held by non-affiliates
of the Registrant as of March 22, 2002;
Common Stock, par value $.01 per share -- $5,286,816,483
Indicate the number of shares outstanding of each of the Registrant's
classes of common stock, as of the latest practicable date.
Class Outstanding at March 22, 2001
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COMMON STOCK, PAR VALUE
$.01 PER SHARE 392,778,890 SHARES
DOCUMENTS INCORPORATED BY REFERENCE
No documents are incorporated by reference into this Annual Report on Form
10-K.
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PART I
ITEM 1. BUSINESS.
GENERAL
HEALTHSOUTH Corporation is the nation's largest provider of outpatient
surgery, outpatient diagnostic and rehabilitative healthcare services. We
provide these services through our national network of inpatient and outpatient
healthcare facilities, including inpatient and outpatient rehabilitation
facilities, outpatient surgery centers, diagnostic centers, medical centers and
other healthcare facilities. We believe that we provide patients, physicians and
payors with high-quality healthcare services at significantly lower costs than
traditional inpatient hospitals. Additionally, our national network, reputation
for quality and focus on outcomes have enabled us to secure contracts with
national and regional managed care payors. At December 31, 2001, HEALTHSOUTH
operated approximately 1,900 locations in all 50 states, Puerto Rico, the United
Kingdom, Canada and Australia.
Our healthcare services are provided through inpatient healthcare
facilities and facilities providing other clinical services (including inpatient
rehabilitation facilities and specialty medical centers, as well as associated
physician practices and other services) and outpatient healthcare facilities
(including outpatient rehabilitation centers, outpatient surgery centers and
outpatient diagnostic centers). In our outpatient and inpatient rehabilitation
facilities, we provide interdisciplinary programs for the rehabilitation of
patients experiencing disability due to a wide variety of physical conditions,
such as stroke, head injury, orthopaedic problems, neuromuscular disease and
sports-related injuries. Our rehabilitation services include physical therapy,
sports medicine, work hardening, neurorehabilitation, occupational therapy,
respiratory therapy, speech-language pathology and rehabilitation nursing.
Independent studies have shown that rehabilitation services like those we
provide can save money for payors and employers.
A patient referred to a HEALTHSOUTH rehabilitation facility undergoes an
initial evaluation and assessment process that results in the development of a
rehabilitation care plan designed specifically for that patient. Depending upon
the patient's disability, this evaluation process may involve the services of a
single discipline, such as physical therapy for a knee injury, or of multiple
disciplines, as in the case of a complicated stroke patient. We have developed
numerous rehabilitation programs, which include stroke, head injury, spinal cord
injury, neuromuscular and work injury, that combine certain services to address
the needs of patients with similar disabilities. In this way, all of our
patients, regardless of the severity and complexity of their disabilities, can
receive the level and intensity of services necessary to restore them to as
productive, active and independent a lifestyle as possible.
In addition to our rehabilitation facilities, we operate the largest
network of freestanding outpatient surgery centers in the United States. Our
outpatient surgery centers provide the facilities and medical support staff
necessary for physicians to perform non-emergency surgical procedures.
Outpatient surgery is widely recognized as generally less expensive than surgery
performed in a hospital, and we believe that outpatient surgery performed at a
freestanding outpatient surgery center is generally less expensive than
hospital-based outpatient surgery. Over 80% of our surgery center facilities are
located in markets served by our rehabilitation facilities, enabling us to
pursue opportunities for cross-referrals.
We are also the largest operator of freestanding outpatient diagnostic
centers in the United States. Most of our diagnostic centers operate in markets
where we also provide rehabilitative healthcare and outpatient surgery services.
We believe that our ability to offer a comprehensive range of healthcare
services in a particular geographic market makes HEALTHSOUTH more attractive to
both patients and payors in such market. We focus on marketing our services in
an integrated system to patients and payors in such geographic markets. We are
continually evaluating potential acquisitions that complement our existing
operations, as well as divestitures of non-strategic assets and businesses.
HEALTHSOUTH was organized as a Delaware corporation in February 1984. Our
principal executive offices are located at One HealthSouth Parkway, Birmingham,
Alabama 35243, and our telephone number is (205) 967-7116.
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COMPANY STRATEGY
Our objective is to continue to grow profitably and enhance our position as
the preferred provider in our lines of business and geographic markets. In the
1994-1998 period, we pursued a strategy of rapid growth through acquisitions.
During this period, we consummated a series of major acquisitions that
strengthened our position in our primary lines of business. Today, we believe
that we have a strong franchise in our core product lines that encompasses a
geographic scope that is unlikely to be duplicated by competitors in the
foreseeable future. Going forward, our business strategy will be focused on
enhancing profit margins through operating efficiencies and organic growth, as
well as selective acquisition and development activity. The following are key
elements of our strategy:
o Leverage Our Existing National Network. As one of the largest providers of
healthcare services in the United States, and as the largest provider in
our primary lines of business, we believe we are well-positioned to
leverage our existing network of facilities in order to realize economies
of scale and compete successfully for national and regional contracts
while retaining the flexibility to respond to particular needs of local
markets. Our national network offers large national and regional employers
and payors the convenience of dealing with a single provider, as well as
offering us the ability to utilize greater buying power through
centralized purchasing, to achieve more efficient costs of capital and
labor and to more effectively recruit and retain clinicians. We believe
that our operations management structure allows us to realize these
benefits without sacrificing local market responsiveness. Our objective is
to provide those outpatient and rehabilitative healthcare services needed
within each local market by tailoring our services and facilities to that
market's needs, thus bringing the benefits of nationally recognized
expertise and quality into the local setting.
o Deliver Cost-Effective Services. We strive to provide high-quality
healthcare services in cost-effective settings. To that end, we use
standardized clinical protocols based on "best practices" techniques for
the treatment of our patients. We use these standardized clinical
protocols at all of our facilities, promoting the delivery of high-quality
care in a highly efficient, consistent and cost-effective manner. We
believe that our facilities are among the most cost-effective in the
industry, making us an attractive healthcare provider for payors and
self-insured employers. In addition, we believe that our low-cost profile
favorably positions us to respond to reimbursement pricing pressure.
o Manage for Cash Flow. We have implemented disciplined financial policies
that have resulted in strong cash flows as compared to other publicly
traded healthcare companies. We intend to continue focusing on managing
our business for cash flow and improving financial performance. We will
also seek to leverage new technologies into tangible operating
efficiencies, improved accounts receivable collection and cost-effective
operations. In particular, we are aggressively working to reduce our
accounts receivable days and enhance our operating margins by utilizing
new electronic claims processing and payment technology, improving our
charge capture systems and continuing our proactive efforts to work with
payors to streamline payment processes and reduce reimbursement delays.
o Expand Our Integrated Service Model. Our Integrated Service Model ("ISM")
strategy coordinates the delivery of our outpatient services in a given
market through the integrated management and marketing of our outpatient
operations. We believe our ISM strategy capitalizes on the complementary
nature of our primary services. Almost all rehabilitation and surgery
patients require diagnostic procedures, and many inpatient rehabilitation
patients require some form of outpatient rehabilitation. Furthermore, a
significant number of both inpatient and outpatient rehabilitation
patients require surgery. Through the ISM, our healthcare services are
delivered in a coordinated manner intended to enhance referrals across our
business lines. The ISM also allows us to offer patients and payors
attractive pricing on bundled services in a given market, as well as the
convenience of dealing with a single source for patient care needs.
o Market to Managed Care Organizations and Other Payors. Since the late
1980s, we have focused on the development of contractual relationships
with managed care organizations, major insurance companies, large regional
and national employer groups and provider alliances and networks. Our
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documented clinical outcomes and our daily experience with thousands of
patients in delivering quality healthcare services at reasonable prices
has enhanced our attractiveness to such entities and has given us a
competitive advantage over smaller and regional competitors. These
relationships have increased patient volume in our facilities and
contributed to our same-store growth. These relationships also enable us
to work with major payors to ensure competitive pricing and provide for
more efficient billing, claims processing and payment procedures.
o Implement Technology Initiatives. We intend to capitalize on our strong
brand identity through strategic alliances and, where appropriate, equity
participation with technology-oriented companies offering services that we
believe will benefit us, both by creating greater efficiencies and cost
savings for our operations and by expanding the range of services we offer
and public awareness of our company. We believe that our network of
approximately 1,900 facilities, our volume of daily interactions with
patients across the country and our relationships with leading physicians
and institutions offer these companies immediate operational scale and
exposure of a type not available through other healthcare providers. We
will seek to leverage those assets through business affiliations that we
believe will both benefit our operations and increase stockholder value
through strategic investment activities.
RISK FACTORS
Our business, operations and financial condition are subject to various
risks. Some of these risks are described below, and readers of this Annual
Report on Form 10-K should take such risks into account in evaluating
HEALTHSOUTH or any investment decision involving HEALTHSOUTH. This section does
not describe all risks applicable to our company, our industry or our business,
and it is intended only as a summary of certain material factors. More detailed
information concerning the factors described below is contained in other
sections of this Annual Report on Form 10-K.
We Depend Upon Reimbursement by Third-Party Payors. Substantially all of
our revenues are derived from private and governmental third-party payors. In
2001, approximately 31.1% of our revenues were derived from Medicare,
approximately 2.6% from Medicaid and approximately 66.3% from commercial
insurers, managed care plans, workers' compensation payors and other private pay
revenue sources. There are increasing pressures from many payors to control
healthcare costs and to reduce or limit increases in reimbursement rates for
medical services. There can be no assurances that payments from government or
private payors will remain at levels comparable to present levels. In attempts
to limit federal spending, there have been, and we expect that there will
continue to be, a number of proposals to limit Medicare reimbursement for
various services. We cannot now predict whether any of these pending proposals
will be adopted or what effect the adoption of such proposals would have on our
business.
Further, Medicare reimbursement for inpatient rehabilitation services is
changing from a cost-based reimbursement system to a prospective payment system
("PPS"), with the phase-in of the PPS having begun January 1, 2002. While we
believe we are well-positioned and well-prepared for the transition, we cannot
be certain what effect the implementation of inpatient rehabilitation PPS will
have on us. In addition, future changes in reimbursement rates or any failure to
successfully execute our planned response to this change could have a material
adverse effect on our financial condition or results of operations. See this
Item, "Business -- Regulation".
Our Operations Are Subject To Extensive Regulation. Our operations are
subject to various other types of regulation by federal and state governments,
including licensure and certification laws, Certificate of Need laws and laws
relating to financial relationships among providers of healthcare services,
Medicare fraud and abuse and physician self-referral.
The operation of our facilities and the provision of healthcare services
are subject to federal, state and local licensure and certification laws. These
facilities and services are subject to periodic inspection by governmental and
other authorities to assure compliance with the various standards established
for continued licensure under state law, certification under the Medicare and
Medicaid programs and participation in other government programs. Additionally,
in many states, Certificates of Need or other similar approvals are required for
expansion of our operations. We could be adversely affected if we
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cannot obtain such approvals, by changes in the standards applicable to
approvals and by possible delays and expenses associated with obtaining
approvals. Our failure to obtain, retain or renew any required regulatory
approvals, licenses or certificates could prevent us from being reimbursed for
our services or from offering some of our services, or could adversely affect
our results of operations.
Our business is subject to extensive federal and state regulation with
respect to financial relationships among healthcare providers, physician
self-referral arrangements and other fraud and abuse issues. Penalties for
violation of federal and state laws and regulations include exclusion from
participation in the Medicare and Medicaid programs, asset forfeiture, civil
penalties and criminal penalties, any of which could have a material adverse
effect on our business, results of operations or financial condition. The Office
of Inspector General of the Department of Health and Human Services, the
Department of Justice and other federal agencies interpret healthcare fraud and
abuse provisions liberally and enforce them aggressively. In 2001, we settled
certain litigation involving alleged violations of Medicare regulations, and we
remain subject to other such litigation. See this Item, "Business -- Regulation"
and Item 3, "Legal Proceedings".
Healthcare Reform Legislation May Affect Our Business. In recent years,
many legislative proposals have been introduced or proposed in Congress and in
some state legislatures that would effect major changes in the healthcare
system, either nationally or at the state level. Among the proposals which are
currently being, or which recently have been, considered are cost controls on
hospitals, insurance market reforms to increase the availability of group health
insurance to small businesses, requirements that all businesses offer health
insurance coverage to their employees and the creation of a single government
health insurance plan that would cover all citizens. The costs of certain
proposals would be funded in significant part by reductions in payment by
governmental programs, including Medicare and Medicaid, to healthcare providers.
There continue to be federal and state proposals that would, and actions that
do, impose more limitations on government and private payments to healthcare
providers such as HEALTHSOUTH and proposals to increase copayments and
deductibles from patients. At the federal level, Congress has continued to
propose or consider healthcare budgets that substantially reduce payments under
the Medicare and Medicaid programs. In addition, many states are considering the
enactment of initiatives designed to reduce their Medicaid expenditures, to
provide universal coverage or additional levels of care and/or to impose
additional taxes on healthcare providers to help finance or expand the states'
Medicaid systems. There can be no assurance as to the ultimate content, timing
or effect of any healthcare reform legislation, nor is it possible at this time
to estimate the impact of potential legislation on us. That impact may be
material to our business, financial condition or results of operations.
We Face National, Regional and Local Competition. We operate in a highly
competitive industry. Although we are one of the largest providers of healthcare
services in the United States, in any particular market we may encounter
competition from local or national entities with longer operating histories or
other superior competitive advantages. There can be no assurance that such
competition, or other competition which we may encounter in the future, will not
adversely affect our business, financial condition or results of operations. See
this Item, "Business -- Competition".
We are Subject To Material Litigation. We are, and may in the future be,
subject to litigation which, if determined adversely to us, could have a
material adverse affect on our business, financial condition or results of
operations. In addition, some of the companies and businesses we have acquired
have been subject to such litigation. While we attempt to conduct our operations
in such a way as to reduce the risk that adverse results in litigation could
have a material adverse affect on us, there can be no assurance that pending or
future litigation, whether or not described in this Annual Report on Form 10-K,
will not have such a material adverse affect. See Item 3, "Legal Proceedings".
Our Stock Price May Be Volatile. Healthcare stocks in general, including
HEALTHSOUTH's common stock, are subject to frequent changes in stock price and
trading volume, some of which may be large. These changes may be influenced by
the market's perceptions of the healthcare sector in general, of other companies
believed to be similar to us, or of our results of operations and future
prospects. In addition, these perceptions may be greatly affected not only by
information we provide but also by opinions and reports created by investment
analysts and other third parties which do not necessarily
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reflect information provided by us. Adverse movement in our stock price,
particularly as a result of factors over which we have no control, may adversely
affect our access to capital and the ability to consummate acquisitions using
our stock.
INDUSTRY OVERVIEW
The United States Centers for Medicare and Medicaid Services (formerly the
Health Care Financing Administration) ("CMS") estimates that national health
expenditures were approximately $1.2 trillion in 1999 and are projected to total
$2.2 trillion, or 16.2% of the Gross Domestic Product, by 2008. Within the
United States, hospital and physician expenditures traditionally account for the
majority of personal healthcare spending. Accelerating private spending growth
rates in 1998 caused the share of health spending paid by the private sector to
increase for the first time since 1988, rising from 53.8% in 1997 to 54.5% in
1998. At the same time, growth in public sector spending for 1998 increased by
4.1%.
CMS projects that the combination of demographic forces associated with the
aging of the baby-boomers and continued economic strength is expected to
continue to generate industry growth. The private sector in particular is
expected to continue to benefit from demographic trends, technology
improvements, and the ongoing focus on cost containment.
Outpatient and Inpatient Rehabilitation Markets
According to available information, there are approximately 35,000
inpatient rehabilitation beds and 8,000 to 9,000 outpatient rehabilitation
centers in the United States. The need for rehabilitation is expected to
continue to grow over the next few years driven by the increased percentage of
persons over 65 years of age within the general United States population, who
generally have the highest rehabilitation needs.
Outpatient Surgery Market
Based on industry estimates, the freestanding outpatient surgery center
market is approximately $6 billion in size. There was a 75% increase in the
number of treatments in ambulatory settings (hospital outpatient, freestanding
ambulatory surgery centers and physicians' offices) from 1986 to 1996, and it is
estimated that approximately 80% of surgeries performed today can be done on an
outpatient basis. Additionally, the number of outpatient surgery cases increased
97% from 1993 through 1999, from 2.9 million to 5.7 million cases, due mostly to
continued medical advances, which facilitated a shift of many procedures to
ambulatory settings. Growth in the market is expected to continue during the
next decade, after seeing the number of outpatient surgery centers increase from
2,300 in 1996 to more than 2,700 centers in 2000.
Diagnostic Market
The diagnostic market is highly fragmented, with radiologists, hospitals
and independent organizations offering diagnostic services. It is estimated that
there are currently approximately 2,700 freestanding diagnostic centers within
the United States, an increase from approximately 1,300 centers in 1988. We
expect the diagnostics market to continue to grow over the next few years due to
increased sub-specializations, expanding geographic reach and the non-invasive
and cost-effective nature of diagnostics in general.
PATIENT CARE SERVICES
HEALTHSOUTH began its operations in 1984 with a focus on providing
comprehensive orthopaedic and musculoskeletal rehabilitation services on an
outpatient basis. Over the succeeding 17 years, we have consistently sought and
implemented opportunities to expand our services through acquisitions and
start-up development activities that complement our historic focus on
orthopaedic, rehabilitative and sports medicine services and that provide
independent platforms for growth. Our acquisitions and internal growth have
enabled HEALTHSOUTH to become one of the largest providers
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of healthcare services in the United States. The following sections discuss the
range of services we offer in our inpatient and other clinical services and
outpatient services business segments. See Note 14 of "Notes to Consolidated
Financial Statements" for financial information concerning these segments.
Outpatient Services Segment
Our outpatient services segment includes our outpatient rehabilitation
facilities, our outpatient surgery centers and our outpatient diagnostic
centers. We are the largest operator of outpatient rehabilitation facilities,
outpatient surgery centers and outpatient diagnostic centers in the United
States.
OUTPATIENT REHABILITATION SERVICES. As of December 31, 2001, we provided
outpatient rehabilitative healthcare services through approximately 1,415
locations in all 50 states, Puerto Rico and the United Kingdom, including
freestanding outpatient centers, outpatient satellites of inpatient facilities
and outpatient facilities managed under contract. This constitutes the largest
network of outpatient rehabilitation facilities in the United States. Our
outpatient rehabilitation centers offer a comprehensive range of rehabilitative
healthcare services, including physical therapy and occupational therapy, that
are tailored to the individual patient's needs, focusing predominantly on
orthopaedic, sports-related, work-related, hand and spine injuries and various
neurological/neuromuscular conditions. Continuing emphasis on containing
increases in healthcare costs, as evidenced by Medicare's prospective payment
system, the growth in managed care and the various alternative healthcare reform
proposals, has resulted in earlier discharge of patients from acute-care
facilities. As a result, many hospital patients do not receive the intensity of
services that may be necessary for them to achieve a full recovery from their
diseases, disorders or traumatic conditions. Our outpatient rehabilitation
services play a significant role in the continuum of care because they provide
hospital-level services, in terms of intensity, quality and frequency, in a more
cost-effective setting.
We believe that the key factors influencing the outpatient rehabilitation
business include cost, quality of services and outcomes achieved, convenience
for patients and referral sources, and relationships with payors and
self-insured employers. We believe that we are well-positioned to compete on all
of these factors. Our national network allows us to benefit from economies of
scale and to introduce standardized clinical protocols for the treatment of our
patients, resulting in "best practices" techniques being utilized at all of our
facilities. This has allowed us to consistently achieve demonstrable,
cost-effective clinical outcomes. In addition, we believe that our facilities
offer an attractive environment for patients and are located in convenient
proximity to referring physicians and to our target patient populations. We
believe that our national scale and our reputation for high-quality,
cost-effective services enables us to obtain national, regional and local
contracts with payors and with self-insured employers.
We endeavor to locate our outpatient rehabilitation centers in specific
areas where we believe there is a demand for our services. In general, we
initially establish an outpatient center in a given market, either by acquiring
an existing private therapy practice or through start-up development, and
institute our clinical protocols and programs in response to the community's
general need for services. We will then establish satellite clinics that are
dependent upon the main facility for management and administrative services.
These satellite clinics generally provide a specific evaluative or specialty
service/program, such as hand therapy or foot and ankle therapy, in response to
specific market demands. Our outpatient centers are staffed by physical
therapists, occupational therapists and other clinicians and appropriate support
personnel, depending on the services provided at a particular location, and are
open at hours designed to accommodate the needs of the patient population being
served and the local demand for services.
Outpatient rehabilitation patients are referred to our outpatient centers
by physicians. In our markets, we strive to develop and maintain relationships
with orthopaedic surgeons, neurologists and neurosurgeons, physiatrists and
other physicians who serve patients likely to need the rehabilitation services
we provide and to keep those physicians informed with respect to the scope and
quality of those services. In addition, we attempt to locate our outpatient
rehabilitation facilities in proximity to those types of physicians, in order to
provide for convenient access to them. We also market our services to managed
care payors and case management companies, as well as to self-insured employers
and professional and amateur athletic organizations which are likely to have a
large number of work-related or sports-related orthopaedic injuries. We believe
that we offer high-quality services in a cost-effective setting that is
attractive to patients, physicians and payors.
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OUTPATIENT SURGERY SERVICES. As of December 31, 2001, we provided
outpatient surgery services through 213 freestanding surgery centers in 38
states. This constitutes the largest network of outpatient surgery centers in
the United States. Over 80% of our outpatient surgery centers are located in
markets served by our rehabilitation facilities, enabling us to pursue
opportunities for cross-referrals between surgery and rehabilitation facilities,
as well as to centralize administrative functions.
We believe that the key factors influencing the outpatient surgery business
are physician utilization, cost and quality of services and case mix. Physicians
typically choose to perform outpatient surgical procedures in a freestanding
outpatient surgery center rather than an acute-care hospital because of the
convenience of the surgery center for themselves and for their patients, in
terms of access, scheduling and operating room turnaround time. Like most other
outpatient surgery centers, the majority of our centers are owned in partnership
with surgeons and other physicians who perform procedures at the centers. It is
critical to the success of an outpatient surgery center that its physician
partners utilize the center for a significant portion of their procedures, and
we believe that our surgery centers offer our physician partners convenient,
modern and well-equipped settings for outpatient surgery. We also believe that
our reputation in the field of orthopaedic healthcare and the physician
relationships we have developed in that area enhance our ability to attract
orthopaedic surgical procedures, which are reimbursed more favorably than some
other types of outpatient surgery.
Our surgery centers provide the facilities and medical support staff
necessary for physicians to perform non-emergency surgical procedures. Our
typical surgery center is a freestanding facility with two to six fully equipped
operating and procedure rooms and ancillary areas for reception, preparation,
recovery and administration. Each of our surgery centers is available for use
only by licensed physicians, oral surgeons and podiatrists, and the centers do
not perform surgery on an emergency basis.
Outpatient surgery centers, unlike hospitals, have not historically
provided overnight accommodations, food services or other ancillary services.
Over the past several years, states have increasingly permitted the use of
extended-stay recovery facilities by outpatient surgery centers. As a result,
many outpatient surgery centers are adding extended recovery care capabilities
where permitted. Most of our surgery centers currently provide for extended
recovery stays. Our ability to develop such recovery care facilities is
dependent upon state regulatory environments in the particular states where our
centers are located.
Our outpatient surgery centers implement quality control procedures to
evaluate the level of care provided at the centers. Each center has a medical
advisory committee of three to ten physicians which reviews the professional
credentials of physicians applying for medical staff privileges at the center.
In order to increase volumes and margins in our outpatient surgery centers, we
focus on educating physicians as to the advantages in terms of convenience,
technology, quality of care and cost-effectiveness that we believe our surgery
centers provide and on syndicating our surgery centers to physicians who we
believe will provide us with a high volume of cases and a favorable case mix in
terms of reimbursement.
To that end, we are increasing our efforts to syndicate additional
partnership interests in our surgery centers to appropriate physicians and to
buy out physician partners who have retired, moved away from a center's service
area or otherwise do not utilize the center as a significant extension of their
practice. In addition, we believe that the geographic scope of our surgery
centers and the cost-effective nature of services performed in a freestanding
outpatient surgery center are attractive to payors, and we market our outpatient
surgery centers to those payors.
DIAGNOSTIC SERVICES. We are the largest operator of freestanding outpatient
diagnostic centers in the United States. Over 85% of our diagnostic centers are
located in markets served by our rehabilitation facilities. At December 31,
2001, we operated 135 diagnostic centers in 29 states and the District of
Columbia. Our diagnostic centers provide outpatient diagnostic imaging services,
including MRI services, CT services, X-ray services, ultrasound services,
mammography services, nuclear medicine services and fluoroscopy. Not all
services are provided at all sites; however, most of our diagnostic centers are
multi-modality centers offering multiple types of service.
We believe that the key factors influencing the diagnostic center business
are quality of service, turnaround time, relationships with referring physicians
and patient convenience. In our diagnostic centers, we attempt to obtain the
services of the best available radiologists to provide high-quality
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interpretations and to provide modern, well-maintained equipment and
well-trained technicians. We attempt to locate our diagnostic centers in areas
which are convenient for physicians and patients and to focus on prompt
performance of diagnostic procedures and turnaround of interpretation reports.
In addition, we believe that the reputation and relationships we have
established with physicians through our outpatient rehabilitation and outpatient
surgery services help us market our diagnostic services to those physicians and
others.
Our diagnostic centers provide outpatient diagnostic procedures performed
by experienced radiological technicians. After the diagnostic procedure is
completed, the images are reviewed by radiologists who have contracted with us.
Those radiologists prepare a report of the test and their findings, which are
then delivered to the referring physician. Our diagnostic centers are open at
hours designed to accommodate the needs of the patient population being served
and the local demand for services.
Because many patients at our rehabilitative healthcare and outpatient
surgery facilities require diagnostic procedures of the type performed at our
diagnostic centers, we believe that our diagnostic operations are a natural
complement to our other services and enhance our ability to market those
services to patients and payors.
OUTPATIENT SERVICES MANAGEMENT. Our outpatient services are managed by
local market managers, who are responsible for all outpatient services in
particular local markets, and regional market leaders, who are responsible for
overseeing the market managers in particular regions. The market leaders report
to the president of our Ambulatory Services Division. This management approach,
introduced in September 1999, replaced an earlier system which had separate,
corporate-office-based management teams for each line of business. The new
structure puts significant authority for operations, development and managed
care contracting decisions in the hands of experienced managers who are
positioned to respond to particular local and regional demands, trends and
opportunities, with a full range of centralized corporate support resources
backing them up. We believe that this approach allows us to better leverage our
comparative regional advantage in terms of market share, relationships with
payors, physicians and referral sources, and local market knowledge and
experience.
INTEGRATED SERVICE MODEL STRATEGY. Our ISM strategy is an integral part of
our outpatient operations. In major markets, we seek to provide an integrated
system of healthcare services, including, as appropriate, outpatient
rehabilitation services, outpatient surgery services and outpatient diagnostic
services, offering payors the convenience of dealing with a single provider for
multiple services and enhancing cross-referral opportunities among our
facilities. The ISM also includes inpatient rehabilitation services in
appropriate markets. We have implemented our ISM in over 180 of our markets, and
intend as our long-term goal to expand the model into the 300 largest markets in
the United States.
Inpatient and Other Clinical Services Segment
Our inpatient and other clinical services segment includes the operations
of our inpatient rehabilitation facilities and medical centers, as well as the
operations of certain other clinical services which are managerially aligned
with our inpatient services. During the year ended December 31, 2001, our
inpatient rehabilitation facilities achieved an overall utilization, based on
patient days and available beds, of 79.9%. In measuring patient utilization of
our inpatient facilities, various factors must be considered. Due to market
demand, demographics, start-up status, renovation, patient mix and other
factors, we may not treat all licensed beds in a particular facility as
available beds, which sometimes results in a material variance between licensed
beds and beds actually available for utilization at any specific time. We are
generally in a position to increase the number of available beds at such
facilities as market conditions dictate.
INPATIENT REHABILITATION FACILITIES. At December 31, 2001, we operated 118
inpatient rehabilitation facilities with 7,611 licensed beds in the continental
United States, representing the largest group of affiliated proprietary
inpatient rehabilitation facilities in the nation, as well as a 70-bed
rehabilitation hospital in Australia and a 30-bed rehabilitation facility in
Puerto Rico. Effective December 31, 2001, we sold four non-strategic inpatient
rehabilitation facilities with 222 licensed beds. Our inpatient rehabilitation
facilities provide high-quality comprehensive services to patients who require
intensive institutional rehabilitation care.
8
We believe that the key factors influencing the inpatient rehabilitation
services business are cost and quality of care, clinical outcomes, relationships
with payors, case managers, discharge planners and referral sources, and
reimbursement rates. We believe that our reputation for quality of care and
cost-effectiveness positions us well with payors and others to compete for
patients. In addition, we believe that the economies of scale that we enjoy and
the standardized clinical protocols that we utilize enable us to operate our
inpatient rehabilitation facilities in a cost-effective manner that we expect
will benefit us under the new PPS system, which is in effect for cost reporting
years beginning on or after January 1, 2002. See this Item, "Business --
Regulation". Further, we believe that our strategy of joint venturing our
rehabilitation hospitals with nearby tertiary-care hospitals, where appropriate
opportunities exist, enables us to enhance our clinical and research activities,
to obtain various support and ancillary services from the acute-care hospitals
without duplication of resources, and to provide a more coordinated continuum of
care for the constituencies served by those acute-care hospitals.
Inpatient rehabilitation patients are typically those who are experiencing
significant physical disabilities due to various conditions, such as head
injury, spinal cord injury, stroke, certain orthopaedic problems and
neuromuscular disease. Our inpatient rehabilitation facilities provide the
medical, nursing, therapy and ancillary services required to comply with local,
state and federal regulations, as well as accreditation standards of the Joint
Commission on Accreditation of Healthcare Organizations (the "JCAHO") and the
Commission on Accreditation of Rehabilitation Facilities. All of our inpatient
rehabilitation facilities utilize an interdisciplinary team approach to the
rehabilitation process and involve the patient and family, as well as the payor,
in the determination of the goals for the patient. Internal case managers
monitor each patient's progress and provide documentation of patient status,
achievement of goals, functional outcomes and efficiency.
In certain markets, our rehabilitation hospitals may provide outpatient
rehabilitation services as a complement to their inpatient services. Typically,
this opportunity arises when patients complete their inpatient course of
treatment but remain in need of additional therapy that can be accomplished on
an outpatient basis. Depending upon the demand for outpatient services and
physical space constraints, the rehabilitation hospital may establish the
services either within its building or in a satellite location. In either case,
the clinical protocols and programs developed for use in our freestanding
outpatient centers are utilized by these facilities.
A number of our rehabilitation hospitals were developed in conjunction with
local tertiary-care facilities, including major teaching hospitals such as those
at Vanderbilt University, the University of Missouri and the University of
Virginia. In addition to those facilities so developed by us, we have entered
into or are pursuing similar affiliations with a number of our rehabilitation
hospitals which were obtained through our major acquisitions.
Inpatient rehabilitation patients have typically been discharged from an
acute-care setting. Accordingly, we focus on marketing our services to
acute-care hospital discharge planners and to case managers utilized by payors
and case management companies, who are typically influential in determining
appropriate post-acute treatment settings for their patients. In addition, we
market our services to physiatrists, neurologists, neurosurgeons, orthopaedic
surgeons and other physicians involved in the care and referral of patients
suited for inpatient rehabilitation.
MEDICAL CENTERS. At December 31, 2001, we operated four medical centers
with 925 licensed beds in three geographic markets, including one facility
managed under contract. These facilities provide general and specialty medical
and surgical healthcare services, emphasizing orthopaedics, sports medicine and
rehabilitation. We acquired our medical centers as outgrowths of our
rehabilitative healthcare services. Often, patients require medical and surgical
interventions prior to the initiation of their rehabilitative care. In each of
the markets in which we have acquired a medical center, we had well-established
relationships with the medical communities serving each facility. Following the
acquisition of each of our medical centers, we have provided the resources to
improve upon the physical plant and expand services through the introduction of
new technology. We have also developed additional relationships between these
facilities and certain university facilities, including the University of Miami,
Auburn University and the University of Alabama at Birmingham. Through these
relationships, the influx of celebrity athletes and personalities and the
acquisition of new technology, all of our medical centers have improved their
operating efficiencies and enhanced census.
9
Each of our medical center facilities is licensed as an acute-care
hospital, is accredited by the JCAHO and participates in the Medicare acute-care
prospective payment system. See this Item, "Business -- Regulation".
In March 2001, we announced plans to replace our existing Birmingham,
Alabama medical center facility with a new "digital hospital" which will be
located on the campus of our corporate headquarters in Birmingham and is
intended to integrate many significant technological advances in healthcare
that, due to incompatible computer systems, lack of integration among equipment
manufacturers and other obstacles, have limited impact to date in the hospital
industry. We believe that this new model for acute-care delivery will enhance
efficiency, safety and quality of care from the perspective of both physicians
and patients.
Other Patient Care Services
In some markets, we provide other patient care services, including
physician services and contract management of hospital-based rehabilitative
healthcare services. We evaluate market opportunities on a case-by-case basis in
determining whether to provide additional services of these types, which may be
complementary to facility-based services we provide or stand-alone businesses.
These services are included within our business segment with which they are most
closely aligned in the particular local market.
MARKETING
We market our services to patients, payors, physicians, case managers and
other referral sources through a combination of national, regional and local
strategies. We believe that these strategies have allowed us to develop a strong
corporate brand identity, and have enabled us to focus our marketing efforts on
particular demographic factors and competitive strengths in local and regional
markets.
We develop a local marketing plan for each facility based on a variety of
factors, including population characteristics, physician characteristics and
incidence of disability statistics, in order to identify specific service
opportunities. Facility-oriented marketing programs are focused on increasing
the volume of patient referrals to the specific facility and involve the
development of ongoing relationships with area schools, businesses and
industries, as well as physicians, health maintenance organizations and
preferred provider organizations.
Our larger-scale marketing activities are focused more broadly on efforts
to generate patient referrals to multiple facilities and the creation of new
business opportunities. These activities include the development and maintenance
of contractual relationships or national pricing agreements with large
third-party payors, such as CIGNA, United Healthcare or other national insurance
companies, with national HMO/PPO companies, such as First Health and Multiplan,
with national case management companies, such as INTRACORP and Crawford & Co.,
and with national employers, such as Delta Airlines, Georgia-Pacific
Corporation, Federated Department Stores, Goodyear Tire & Rubber and Winn-Dixie.
We also carry out broader programs designed to further enhance our name
recognition and association with amateur and professional athletics. Among these
is the HEALTHSOUTH Sports Medicine Council, involving well-known professional
and amateur athletes and sports medicine specialists, which is dedicated to
developing educational programs focused on athletics for use in high schools. We
have ongoing relationships with the Professional Golfers Association, the Senior
Professional Golfers Association, the Ladies Professional Golf Association, the
Southwestern Athletic Conference, and other professional and amateur sports
organizations, as well as numerous universities, colleges and high schools to
provide sports medicine coverage of events and rehabilitative healthcare
services for injured athletes. In addition, we have established relationships
with or provided treatment services for athletes from some 40-50 professional
sports teams, as well as providing sports medicine services for Olympic and
amateur athletes. In 1996, HEALTHSOUTH and the United States Olympic Committee
established the Richard M. Scrushy/HEALTHSOUTH Sports Medicine and Sport Science
Center at the USOC's Colorado Springs campus.
10
We maintain a Web site at www.healthsouth.com, which provides information
on our company, health information, targeted information and services for
physicians and patients, links to our Securities and Exchange Commission filings
and press releases, a facility locator and links to other relevant information,
as well as other specialized Web sites. We believe that our Web sites enhance
consumer and physician awareness of our services and locations and access to
those services, as well as providing a valuable resource for health information
related to the services that we provide.
We are a national sponsor of the United Cerebral Palsy Association and the
National Arthritis Foundation and support many other charitable organizations on
national and local levels. Through these endeavors, we and our employees are
able to support charitable organizations and activities within the communities
served by our facilities.
SOURCES OF REVENUES
Most of our revenues come from non-governmental revenue sources. The
following table sets forth the percentages of our revenues from various sources
for the periods indicated:
YEAR ENDED YEAR ENDED
SOURCE DECEMBER 31, 2000 DECEMBER 31, 2001
------------------------------ ----------------- -----------------
Medicare ..................... 29.0% 31.1%
Commercial (1) ............... 43.1 42.6
Workers' Compensation ........ 12.0 11.9
All Other Payors (2) ......... 15.9 14.4
----- -----
100.0% 100.0%
===== =====
- ----------------
(1) Includes commercial insurance, HMOs, PPOs and other managed care plans.
(2) Medicaid is included in this category, representing approximately 3.0% of
2000 revenues and 2.6% of 2001 revenues.
See this Item, "Business -- Regulation -- Medicare Participation and
Reimbursement" for a description of some of the reimbursement regulations
applicable to our facilities.
COMPETITION
Our rehabilitation facilities compete on a local, regional and national
basis with other providers of specialized services such as sports medicine and
work hardening, and specific concentrations such as head injury rehabilitation
and orthopaedic surgery. The competition faced in each of these markets is
similar, with variations arising from the number of healthcare providers in the
particular area. The primary competitive factors in the rehabilitation
components of our inpatient and outpatient business segments are quality of
services, projected patient outcomes, charges for services, responsiveness to
the needs of the patients, community and physicians, and ability to tailor
programs and services to meet specific needs of the patients. Competitors and
potential competitors include hospitals, private practice therapists,
rehabilitation agencies and others. Some of these competitors may have greater
patient referral support and financial and personnel resources in particular
markets than we do. We believe that we compete successfully within the
marketplace based upon our reputation for quality, competitive prices, positive
rehabilitation outcomes, innovative programs, clean and bright facilities and
responsiveness to needs.
Our surgery centers compete primarily with hospitals and other operators of
freestanding surgery centers in attracting physicians and patients and in
developing new centers and acquiring existing centers. The primary competitive
factors in the outpatient surgery business are convenience, cost, quality of
service, physician loyalty and reputation. Hospitals have many competitive
advantages in attracting physicians and patients, including established standing
in a community, historical physician loyalty and convenience for physicians
making rounds or performing inpatient surgery in the hospital. However, we
believe that our national market system and our historical presence in many of
the markets where our surgery centers are located enhance our ability to operate
these facilities successfully.
11
Our diagnostic centers compete with local hospitals, other multi-center
imaging companies, local independent diagnostic centers and imaging centers
owned by local physician groups. We believe that the principal competitive
factors in the diagnostic services business are price, quality of service,
ability to establish and maintain relationships with managed care payors and
referring physicians, reputation of interpreting physicians, facility location
and convenience of scheduling. We believe that our diagnostic facilities compete
successfully within their respective markets, taking into account these factors.
Our medical centers are located in three urban areas of the country, all
with well established healthcare services provided by a number of proprietary,
not-for-profit, and municipal hospital facilities. Our facilities compete
directly with these local hospitals as well as various nationally recognized
centers of excellence in orthopaedics, sports medicine and other specialties.
Because our facilities enjoy a national and international reputation for
orthopaedic surgery and sports medicine, we believe that our medical centers'
level of service and continuum of care enable them to compete successfully, both
locally and nationally.
We potentially face competition any time we initiate a Certificate of Need
project or seek to acquire an existing facility or Certificate of Need. See this
Item, "Business -- Regulation". This competition may arise either from competing
national or regional companies or from local hospitals or other providers which
file competing applications or oppose the proposed Certificate of Need project.
The necessity for these approvals serves as a barrier to entry and has the
potential to limit competition by creating a franchise to provide services to a
given area. We have generally been successful in obtaining Certificates of Need
or similar approvals when required, although there can be no assurance that we
will achieve similar success in the future.
REGULATION
The healthcare industry is subject to regulation by federal, state and
local governments. The various levels of regulatory activity affect our business
activities by controlling our growth, requiring licensure or certification of
our facilities, regulating the use of our properties and controlling the
reimbursement we receive for services provided.
Licensure, Certification and Certificate of Need Regulations
Capital expenditures for the construction of new facilities, the addition
of beds or the acquisition of existing facilities may be reviewable by state
regulators under a statutory scheme which is sometimes referred to as a
Certificate of Need program. States with Certificate of Need programs place
limits on the construction and acquisition of healthcare facilities and the
expansion of existing facilities and services. In such states, approvals are
required for capital expenditures exceeding certain amounts which involve
inpatient rehabilitation facilities or services or outpatient surgery centers.
Most states do not require such approvals for outpatient rehabilitation,
occupational health and diagnostic facilities and services.
State Certificate of Need statutes generally provide that, prior to the
addition of new beds, the construction of new facilities or the introduction of
new services, a state health planning designated agency must determine that a
need exists for those beds, facilities or services. The Certificate of Need
process is intended to promote comprehensive healthcare planning, assist in
providing high quality healthcare at the lowest possible cost and avoid
unnecessary duplication by ensuring that only those healthcare facilities that
are needed will be built.
Typically, the provider of services submits an application to the
appropriate agency with information concerning the area and population to be
served, the anticipated demand for the facility or service to be provided, the
amount of capital expenditure, the estimated annual operating costs, the
relationship of the proposed facility or service to the overall state health
plan and the cost per patient day for the type of care contemplated. Whether the
Certificate of Need is granted is based upon a finding of need by the agency in
accordance with criteria set forth in Certificate of Need statutes and state and
regional health facilities plans. If the proposed facility or service is found
to be necessary and the applicant to be the appropriate provider, the agency
will issue a Certificate of Need containing a maximum amount of expenditure and
a specific time period for the holder of the Certificate of Need to implement
the approved project.
12
Licensure and certification are separate, but related, regulatory
activities. Licensure is usually a state or local requirement, and certification
is a federal requirement. In almost all instances, licensure and certification
will follow specific standards and requirements that are set forth in readily
available public documents. Compliance with the requirements is monitored by
annual on-site inspections by representatives of various government agencies.
All of our inpatient rehabilitation facilities and medical centers and
substantially all of our surgery centers are currently required to be licensed,
but only the outpatient rehabilitation facilities located in Alabama, Arizona,
Kentucky, Maryland, Massachusetts, New Hampshire, New Mexico and Rhode Island
currently must satisfy such a licensing requirement. Most states do not require
diagnostic facilities to be licensed.
Medicare Participation and Reimbursement
In order to participate in the Medicare program and receive Medicare
reimbursement, each facility must comply with the applicable regulations of the
United States Department of Health and Human Services relating to, among other
things, the type of facility, its equipment, its personnel and its standards of
medical care, as well as compliance with all state and local laws and
regulations. All of our inpatient facilities participate in the Medicare
program. Approximately 1,057 of our outpatient rehabilitation facilities
currently participate in, or are awaiting the assignment of a provider number to
participate in, the Medicare program. All of our surgery centers and 121 of our
diagnostic centers are certified (or awaiting certification) under the Medicare
program. Our Medicare-certified facilities, inpatient and outpatient, undergo
annual on-site Medicare certification surveys in order to maintain their
certification status. Failure to comply with the program's conditions of
participation may result in loss of program reimbursement or other governmental
sanctions. We have developed our operational systems to attempt to assure
compliance with the various standards and requirements of the Medicare program
and have established ongoing quality assurance activities to monitor compliance.
As a result of the Social Security Act Amendments of 1983, Congress adopted
a PPS to cover the routine and ancillary operating costs of most Medicare
inpatient acute-care hospital services. Under this system, the Secretary of
Health and Human Services has established fixed payment amounts per discharge
based on diagnosis-related groups ("DRGs"). With limited exceptions,
reimbursement received by an acute-care hospital for Medicare inpatients is
limited to the DRG rate, regardless of the number of services provided to the
patient or the length of the patient's hospital stay. Under acute-care PPS, a
hospital may retain the difference, if any, between its DRG rate and its
operating costs incurred in furnishing inpatient services, and is at risk for
any operating costs that exceed its DRG rate. Our medical center facilities are
generally subject to acute-care PPS with respect to Medicare inpatient services.
The acute-care PPS program has been beneficial for the rehabilitation
segment of the healthcare industry because of the economic pressure on
acute-care hospitals to discharge patients as soon as possible. The result has
been increased demand for rehabilitation services for those patients discharged
early from acute-care hospitals. Freestanding inpatient rehabilitation
facilities have been exempt from PPS, and inpatient rehabilitation units within
acute-care hospitals have been eligible to obtain an exemption from PPS upon
satisfaction of certain federal criteria. As discussed above, freestanding
inpatient rehabilitation facilities and hospital-based inpatient rehabilitation
units are being placed under a PPS to be phased in beginning January 1, 2002.
As of December 31, 2001, 17 of our outpatient centers were
Medicare-certified Comprehensive Outpatient Rehabilitation Facilities ("CORFs")
and 951 were Medicare-certified rehabilitation agencies or satellites.
Additionally, we had certification applications pending for 89 rehabilitation
agency sites (including satellites.) Through December 31, 1998, CORFs were
reimbursed reasonable costs (subject to certain limits) for services provided to
Medicare beneficiaries, and outpatient rehabilitation facilities certified by
Medicare as rehabilitation agencies were reimbursed on the basis of the lower of
reasonable costs for services provided to Medicare beneficiaries or charges for
such services. Outpatient rehabilitation facilities which are physician-directed
clinics, as well as outpatient surgery centers, are reimbursed by Medicare on a
fee screen basis; that is, they receive a fixed fee, which is determined by the
geographical area in which the facility is located, for each procedure
performed. From January 1, 1999,
13
CORFs and rehabilitation agencies are reimbursed on a fee screen basis as well.
Our outpatient rehabilitation facilities submit monthly bills to their fiscal
intermediaries for services provided to Medicare beneficiaries.
Through December 31, 2001, inpatient facilities (other than the medical
center facilities) either were not covered by PPS or were exempt from PPS, and
were cost-reimbursed, receiving the lower of reasonable costs or charges.
Typically, the fiscal intermediary pays a set rate based on the prior year's
costs for each facility. Annual cost reports are filed with our fiscal
intermediary and payment adjustments are made, if necessary.
As part of the Balanced Budget Act of 1997, Congress directed the United
States Department of Health and Human Services to develop regulations that would
subject inpatient rehabilitation hospitals to a PPS, which was originally
expected to be phased in beginning April 2001, and to be fully implemented by
April 2003. The Act required that the rates must equal 98% of the amount of
payments that would have been if the PPS had not been adopted. More recently,
the Medicare, Medicaid, and SCHIP Benefits Improvement and Protection Act of
2000 amended the requirements of the Balanced Budget Act to require that rates
for federal fiscal year 2002 must equal 100% of the amount of payments that
would have been made if the PPS had not been adopted and to allow inpatient
rehabilitation facilities to elect to transition immediately to full PPS
reimbursement in their first cost reporting year beginning after the effective
date of PPS implementation, instead of having PPS phased in over three cost
reporting years, as originally required. Under the final regulations governing
inpatient rehabilitation PPS, the new system is in effect for cost reporting
years beginning on or after January 1, 2002. In addition, the Act requires the
establishment of a PPS for hospital outpatient department services, effective
for services furnished beginning in 1999. Regulations implementing that
requirement became effective August 1, 2000. Those regulations have not had a
material effect on us to date, and we do not expect them to do so in the future.
In June 1998, CMS issued proposed rules setting forth new payment
classifications which would significantly change Medicare reimbursement for
outpatient surgery centers. However, these proposed rules have not been
promulgated in final form, and we cannot currently predict when final rules, if
any, will be adopted or the content or effect on our operations of those rules.
Over the past several years an increasing number of healthcare providers
have been accused of violating the federal False Claims Act. That Act prohibits
the knowing presentation of a false claim to the United States government, and
provides for penalties equal to three times the actual amount of any
overpayments plus $5,500 to $11,000 per claim. In addition, the False Claims Act
allows private persons, known as "relators", to file complaints under seal and
provides a period of time for the government to investigate such complaints and
determine whether or not to intervene in them and take over the handling of all
or part of such complaints. Because of the sealing provisions of the False
Claims Act, it is possible for healthcare providers to be subject to False
Claims Act suits for extended periods of time without notice of such suits or an
opportunity to respond to them. Because we perform thousands of similar
procedures a year for which we are reimbursed by Medicare and other federal
payors and there is a relatively long statute of limitations, a billing error or
cost reporting error could result in significant civil or criminal penalties
under the False Claims Act or other laws. We are currently a named defendant in
certain unsealed suits under the False Claims Act. See Item 3, "Legal
Proceedings".
Relationships with Physicians and Other Providers
Various state and federal laws regulate relationships among providers of
healthcare services, including employment or service contracts and investment
relationships. These restrictions include a federal criminal law prohibiting (a)
the offer, payment, solicitation or receipt of remuneration by individuals or
entities to induce referrals of patients for services reimbursed under the
Medicare or Medicaid programs or (b) the leasing, purchasing, ordering,
arranging for or recommending the lease, purchase or order of any item, good,
facility or service covered by such programs (the "Fraud and Abuse Law"). In
addition to federal criminal sanctions, violators of the Fraud and Abuse Law may
be subject to significant civil sanctions, including fines and/or exclusion from
the Medicare and/or Medicaid programs.
14
In 1991, the Office of the Inspector General ("OIG") of the United States
Department of Health and Human Services issued regulations describing
compensation arrangements which are not viewed as illegal remuneration under the
Fraud and Abuse Law (the "1991 Safe Harbor Rules"). The 1991 Safe Harbor Rules
create certain standards ("Safe Harbors") for identified types of compensation
arrangements which, if fully complied with, assure participants in the
particular arrangement that the OIG will not treat that participation as a
criminal offense under the Fraud and Abuse Law or as the basis for an exclusion
from the Medicare and Medicaid programs or an imposition of civil sanctions.
In 1992, regulations were published in the Federal Register implementing
the OIG sanction and civil money penalty provisions established in the Fraud and
Abuse Law. The regulations provide that the OIG may exclude a Medicare provider
from participation in the Medicare Program for a five-year period upon a finding
that the Fraud and Abuse Law has been violated. The regulations expressly
incorporate a test adopted by three federal circuit courts providing that if one
purpose of remuneration that is offered, paid, solicited or received is to
induce referrals, then the statute is violated. The regulations also provide
that after the OIG establishes a factual basis for excluding a provider from the
program, the burden of proof shifts to the provider to prove that it has not
violated the Fraud and Abuse Law.
The OIG closely scrutinizes healthcare joint ventures involving physicians
and other referral sources. In 1989, the OIG published a Fraud Alert that
outlined questionable features of "suspect" joint ventures, and has continued to
rely on such Fraud Alert in later pronouncements. We currently operate 23 of our
rehabilitation hospitals and many of our outpatient rehabilitation facilities as
limited partnerships or limited liability companies (collectively,
"partnerships") with third-party investors. Six of the rehabilitation hospital
partnerships involve physician investors and 17 of the rehabilitation hospital
partnerships involve other institutional healthcare providers. Eight of the
outpatient partnerships currently have a total of 21 physician limited partners,
some of whom refer patients to the partnerships. Those partnerships which are
providers of services under the Medicare program, and their limited partners,
are subject to the Fraud and Abuse Law. A number of the relationships we have
established with physicians and other healthcare providers do not fit within any
of the Safe Harbors. The 1991 Safe Harbor Rules do not expand the scope of
activities that the Fraud and Abuse Law prohibits, nor do they provide that
failure to fall within a Safe Harbor constitutes a violation of the Fraud and
Abuse Law; however, the OIG has indicated that failure to fall within a Safe
Harbor may subject an arrangement to increased scrutiny.
Most of our surgery centers are owned by partnerships, which include as
partners physicians who perform surgical or other procedures at such centers. On
November 19, 1999, the Department of Health and Human Services promulgated rules
setting forth additional Safe Harbors under the Fraud and Abuse Law (the "1999
Safe Harbors"). Included in the 1999 Safe Harbors is a Safe Harbor which would
protect payments to investors in ambulatory surgery centers who are surgeons who
refer patients directly to the center and perform surgery themselves on referred
patients as an extension of their practices (the "ASC Safe Harbor"). Under the
ASC Safe Harbor, ownership in a freestanding ambulatory surgery center will be
protected if a number of conditions are satisfied. Included in those conditions
is a requirement that each investor be either (a) a surgeon who derived at least
one-third of his medical practice income for the previous fiscal year or
twelve-month period from performing procedures on the list of Medicare-covered
procedures for ambulatory surgery centers or (b) not in a position to make or
influence referrals to the center, nor provide items or services to the center,
nor an employee of the center or of any investor. In addition, if all physician
investors are not members of a single specialty, at least one-third of the
Medicare-eligible ambulatory surgery procedures performed by each physician
investor for the previous fiscal year or previous twelve-month period must be
performed at the center in which the investment is made. Since a subsidiary of
HEALTHSOUTH is an investor in each partnership which owns a surgery center and
provides management and other services to the surgery center, our arrangements
with physician investors do not fit within the specific terms of the ASC Safe
Harbor. In addition, because we do not control the medical practices of our
physician investors or control where they perform surgical procedures, it is
possible that the quantitative tests described above will not be met, or that
other conditions of the ASC Safe Harbor will not be met. Accordingly, while the
ASC Safe Harbor is helpful in establishing the principle that a physician
investor's interest in a surgery center partnership should be considered as an
extension of the physician's practice and not as a prohibited financial
15
relationship, there can be no assurance that such ownership interests will not
be challenged under the Fraud and Abuse Law. We believe, however, that our
arrangements with physicians with respect to surgery center facilities should
not fall within the activities prohibited by the Fraud and Abuse Law.
Some of our diagnostic centers are owned or operated by partnerships which
include radiologists as partners. While such ownership interests are not
directly covered by the Safe Harbor Rules, we do not believe that such
arrangements violate the Fraud and Abuse Law because radiologists are typically
not in a position to make or induce referrals to diagnostic centers. In
addition, our mobile lithotripsy operations are conducted by partnerships in
which urologists are limited partners. Because such urologists are in a position
to, and do, perform lithotripsy procedures utilizing our lithotripsy equipment,
we believe that the same analysis underlying the ASC Safe Harbor should apply to
ownership interests in lithotripsy equipment held by urologists. In addition, we
believe that the nature of lithotripsy services (i.e., lithotripsy is only
prescribed and utilized when a condition for which lithotripsy is the treatment
of choice has been diagnosed) makes the risk of overutilization unlikely. There
can be no assurance, however, that the Fraud and Abuse Law will not be
interpreted in a manner contrary to our beliefs with respect to diagnostic and
lithotripsy services.
While several federal court decisions have aggressively applied the
restrictions of the Fraud and Abuse Law, they provide little guidance as to the
application of the Fraud and Abuse Law to our partnerships. We believe that our
operations are in compliance with the current requirements of applicable federal
and state law, but no assurances can be given that a federal or state agency
charged with enforcement of the Fraud and Abuse Law and similar laws might not
assert a contrary position or that new federal or state laws, or new
interpretations of existing laws, might not adversely affect relationships we
have established with physicians or other healthcare providers or result in the
imposition of penalties on HEALTHSOUTH or particular HEALTHSOUTH facilities.
Even the assertion of a violation could have a material adverse effect upon our
business, results of operations or financial condition.
The so-called "Stark II" provisions of the Omnibus Budget Reconciliation
Act of 1993 amend the federal Medicare statute to prohibit the making by a
physician of referrals for "designated health services" including physical
therapy, occupational therapy, radiology services or radiation therapy, to an
entity in which the physician has an investment interest or other financial
relationship, subject to certain exceptions. Such prohibition took effect on
January 1, 1995 and applies to all of our partnerships with physician partners.
On January 9, 1998, the Department of Health and Human Services published
proposed regulations (the "Proposed Stark Regulations") under the Stark II
statute and solicited comments thereon. On January 4, 2001, the Department of
Health and Human Services published final regulations relating to part of the
Stark II statute (the "Phase I Final Stark Regulations") and announced its
intention to publish a second, "Phase II" set of regulations covering the
remainder of the statute and responding to comments received on the Phase I
Final Stark Regulations at some unspecified future date, currently predicted to
be sometime in 2002. The Phase I Final Stark Regulations, which differ
substantially in many respects from the Proposed Stark Regulations, had a
specified effective date of January 4, 2002. In addition, a number of states
have passed or are considering statutes which prohibit or limit physician
referrals of patients to facilities in which they have an investment interest.
In response to these regulatory activities, we have restructured most of our
partnerships which involve physician investors to the extent required by
applicable law, in order to eliminate physician ownership interests not
permitted by applicable law. We intend to take such actions as may be required
to cause the remaining partnerships to be in compliance with applicable laws and
regulations, including, if necessary, the prohibition of physician partners from
referring patients. We believe that this restructuring has not adversely
affected and will not adversely affect the operations of our facilities.
Ambulatory surgery is not identified as a "designated health service" under
Stark II, and we do not believe the statute is intended to cover ambulatory
surgery services. The Phase I Final Stark Regulations expressly clarify that the
provision of designated health services in an ambulatory surgery center is
excepted from the referral prohibition of Stark II if payment for such
designated health services is included in the ambulatory surgery center payment
rate.
Our lithotripsy units frequently operate on hospital campuses, and it is
possible to conclude that such services are "inpatient and outpatient hospital
services" -- a category of designated health services under Stark II. The
legislative history of the Stark II statute indicates that the statute was not
intended to cover
16
the provision of lithotripsy services by physician-owned lithotripsy providers
under contract with a hospital. However, the Phase I Final Stark Regulations
indicate that lithotripsy services provided at a hospital would constitute
"inpatient and outpatient hospital services" and thus would be subject to Stark
II. Based upon the Phase I Final Stark Regulations and the associated commentary
by CMS, we believe that the operations of our lithotripsy partnerships, to the
extent that they involve designated health services, either fall within
exceptions contained in the Phase I Final Stark Regulations or, depending on the
particular situation, might be restructured to comply with them before the
effective date of the Phase I Final Stark Regulations. To the extent
practicable, we intend to take such steps as may be required to cause such
partnerships to be in compliance. If we are required to terminate any of these
relationships, we believe such action will not adversely affect our operations.
In addition, physicians frequently perform endoscopic procedures in the
procedure rooms of our surgery centers, and it is possible to construe such
services to be "designated health services". While we do not believe that Stark
II was intended to apply to such services, if that were determined to be the
case, we intend to take steps necessary to cause the operations of our
facilities to comply with the law.
The Health Insurance Portability and Accountability Act of 1996
In an effort to combat healthcare fraud, Congress included several
anti-fraud measures in the Health Insurance Portability and Accountability Act
of 1996 ("HIPAA"). HIPAA, among other things, amends existing crimes and
criminal penalties for Medicare fraud and enacts new federal healthcare fraud
crimes. HIPAA also expands the Fraud and Abuse Law to apply to all federal
healthcare programs, defined to include any plan or program that provides health
benefits through insurance that is funded by the federal government. Under
HIPAA, the Secretary of the Department of Health and Human Services (the
"Secretary") may exclude from the Medicare program any individual who has a
direct or indirect ownership or control interest in a healthcare entity that has
been convicted of a healthcare fraud crime or that has been excluded from the
Medicare program. HIPAA directs the Secretary to establish a program to collect
information on healthcare fraud and abuse to encourage individuals to report
information concerning fraud and abuse against the Medicare program and provides
for payment of a portion of amounts collected to such individuals. HIPAA
mandates the establishment of a Fraud and Abuse Program, among other programs,
to control fraud and abuse with respect to health plans and to conduct
investigations, audits, evaluations, and inspections relating to the delivery of
and payment for healthcare in the United States.
HIPAA prohibits any person or entity from knowingly and willfully
committing a federal healthcare offense relating to a "health care benefit
program". Under HIPAA, a "health care benefit program" broadly includes any
private plan or contract affecting interstate commerce under which any medical
benefit, item, or service is provided to any individual. Among the "federal
health care offenses" prohibited by HIPAA are healthcare fraud and making false
statements relative to healthcare matters. Any person or entity that knowingly
and willfully defrauds or attempts to defraud a healthcare benefit program or
obtains by means of false or fraudulent pretenses, representations or promises,
any of the money or property of any healthcare benefit program in connection
with the delivery of healthcare services is subject to a fine and/or
imprisonment. In addition, HIPAA provides that any person or entity that
knowingly and willfully falsifies, conceals or covers up a material fact or
makes any materially false or fraudulent statements in connection with the
delivery of or payment of healthcare services by a healthcare benefit plan is
subject to a fine and/or imprisonment.
HIPAA further expands the list of acts which are subject to civil monetary
penalties under federal law and increases the amount of civil penalties which
may be imposed. HIPAA provides for civil fines for individuals who retain an
ownership or control interest in a Medicare or Medicaid participating entity
after such individuals have been excluded from participating in the Medicare or
Medicaid program. HIPAA further provides for civil fines for individuals who
offer inducements to Medicare or Medicaid eligible patients if the individuals
know or should know that their offers will influence the patients to order or
receive items or services from a particular provider, practitioner or supplier.
In addition, HIPAA mandates, for all healthcare providers, standardization
in the use, storage, and transfer of electronically transmitted healthcare data
and also requires that healthcare providers, payors and clearinghouses adopt
detailed new procedures for ensuring the privacy and security of individually
17
identifiable health information. In August 2000, the Department of Health and
Human Services published final regulations adopting standards for electronic
transactions and for code sets to be used in those transactions. Those
regulations have a specified effective date of October 16, 2002 for most
providers, including us. In December 2000, the Department released final
regulations establishing standards for the privacy of individually identifiable
health information. The final privacy regulations, which differ substantially
from previously proposed regulations, impose significant limitations on the use
and disclosure of individually identifiable health information by providers,
including us, as well as payors and clearinghouses. The final regulations are
currently scheduled to take effect in April 2003. The final privacy regulations
have been significantly criticized by many parts of the healthcare industry, and
further changes in such regulations or delays in their implementation are
possible.
Compliance with the HIPAA privacy and electronic standards regulations will
require significant changes in current information and claims processing
practices utilized by healthcare providers, including us. It is not possible at
this time to estimate the cost of such compliance. However, we have taken steps
intended to ensure that we will comply with the applicable regulations by their
respective effective dates, and we believe that we will be able to do so without
a material adverse effect on our business, financial condition or results of
operations.
We cannot predict whether other regulatory or statutory provisions will be
enacted by federal or state authorities which would prohibit or otherwise
regulate relationships which we have established or may establish with other
healthcare providers or the possibility of materially adverse effects on its
business or revenues arising from such future actions. We believe, however, that
we will be able to adjust our operations so as to be in compliance with any
regulatory or statutory provision that may be applicable. See this Item,
"Business -- Patient Care Services" and "Business -- Sources of Revenues".
INSURANCE
Beginning December 1, 1993, we became self-insured for professional
liability and comprehensive general liability. We purchased coverage for all
claims incurred prior to December 1, 1993. In addition, we purchased underlying
insurance which would cover all claims once established limits have been
exceeded. It is the opinion of management that as of December 31, 2001, we had
adequate reserves to cover losses on asserted and unasserted claims.
In the fourth quarter of 2000, we formed an offshore captive insurance
subsidiary to which we have begun to transition the administration of our
self-insurance programs. The captive is an independent insurance company
primarily designed to insure our first layer of coverage. We purchase commercial
insurance for excess layers. Currently, the captive provides primary coverage
for our professional and general liability risk, workers' compensation risk and
the construction risk associated with the building of our replacement medical
center facility in Birmingham, Alabama. We expect to evaluate other lines of
insurance suitable for placement with the captive on an ongoing basis.
In connection with our October 1997 acquisition of Horizon/CMS Healthcare
Corporation, we assumed responsibility for handling Horizon/CMS's open
professional and general liability claims. We have entered into an agreement
with an insurance carrier to assume responsibility for the majority of open
claims. Under this agreement, a "risk transfer" converted Horizon/CMS's
self-insured claims to insured liabilities consistent with the terms of the
underlying insurance policy.
EMPLOYEES
As of December 31, 2001, we employed approximately 51,537 persons, of whom
33,783 were full-time employees and 17,754 were part-time, pool or per diem
employees. Of the above employees, 1,365 (including 446 part-time, pool or per
diem employees) were employed at our headquarters in Birmingham, Alabama. Except
for approximately 84 employees at one rehabilitation hospital (about 20% of that
facility's workforce), none of our employees are represented by a labor union.
We are not aware of any current activities to organize our employees at other
facilities. Management considers the relationship between HEALTHSOUTH and its
employees to be good.
18
ITEM 2. PROPERTIES.
Our executive offices occupy a headquarters building of approximately
200,000 square feet in Birmingham, Alabama. The headquarters building was
constructed on a 73-acre parcel of land owned by HEALTHSOUTH pursuant to an
operating lease structured through a group of financial institutions.
Substantially all of our outpatient rehabilitation operations are carried out in
leased facilities. We own 33 of our inpatient rehabilitation facilities and
lease or operate under management contracts the remainder of our inpatient
rehabilitation facilities. Nine of such facilities are leased under an operating
lease structured through a group of financial institutions. We also own 60 of
our surgery centers and 20 of our diagnostic centers and lease or operate under
management arrangements the remainder. We constructed our rehabilitation
hospitals in Florence and Columbia, South Carolina, Kingsport and Nashville,
Tennessee, Concord, New Hampshire, Dothan, Alabama, Columbia, Missouri, and
Charlottesville, Virginia on property leased under long-term ground leases. The
property on which our Memphis, Tennessee rehabilitation hospital is located is
owned in partnership with Methodist Healthcare -- Memphis Hospitals. We own
three of our medical center facilities and manage one under contract. We are
constructing our new replacement medical center facility in Birmingham, Alabama
pursuant to an operating lease structured through a group of financial
institutions. We currently own, and from time to time may acquire, certain other
improved and unimproved real properties in connection with our business. See
Notes 5 and 7 of "Notes to Consolidated Financial Statements" for information
with respect to the properties we own and certain related indebtedness.
In management's opinion, our physical properties are adequate for our needs
for the foreseeable future, and are consistent with our expansion plans
described elsewhere in this Annual Report on Form 10-K.
19
The following table sets forth a listing of our primary domestic patient
care services locations (including both facilities owned or leased by
HEALTHSOUTH and facilities under management agreements or similar arrangements)
at December 31, 2001:
INPATIENT
REHABILITATION OUTPATIENT
FACILITIES MEDICAL REHABILITATION SURGERY DIAGNOSTIC
STATE (BEDS)(1) CENTERS (BEDS)(1) CENTERS(2) CENTERS CENTERS
- -------------------------- -------------- ----------------- -------------- ------- ----------
Alabama .................. 8 (382) 2 (538) 39 7 6
Alaska ................... 7 1 1
Arizona .................. 4 (246) 33 4 2
Arkansas ................. 5 (284) 21 2
California ............... 3 (152) 53 51 4
Colorado ................. 1 (50) 36 5 5
Connecticut .............. 33 4
Delaware ................. 6 1
District of Columbia ..... 1 1
Florida .................. 11 (727) 1 (281) 142 16 7
Georgia .................. 1 (55) 45 4 11
Hawaii ................... 11 2
Idaho .................... 2 1
Illinois ................. 1 (37) 58 7 7
Indiana .................. 4 (210) 10 2 1
Iowa ..................... 4 2 1
Kansas ................... 4 (244) 17 1
Kentucky ................. 2 (80) 8 6
Louisiana ................ 4 (267) 10 2 3
Maine .................... 2 (125) 8
Maryland ................. 1 (49) 35 10 13
Massachusetts ............ 7 (707) 58 3
Michigan ................. 1 (30) 15
Minnesota ................ 16 2
Mississippi .............. 9 3 1
Missouri ................. 3 (163) 60 7 4
Montana .................. 4 1
Nebraska ................. 5
Nevada ................... 4 (272) 23 3 1
New Hampshire ............ 2 (74) 9
New Jersey ............... 1 (125) 69 3 2
New Mexico ............... 1 (61) 7 1
New York ................. 48 2
North Carolina ........... 45 9 2
North Dakota ............. 2
Ohio ..................... 37 8 2
Oklahoma ................. 2 (141) 23 5 3
Oregon ................... 25 2
Pennsylvania ............. 14 (1,077) 75 6 9
Rhode Island ............. 2 2
South Carolina ........... 4 (259) 22 2 3
South Dakota ............. 1
Tennessee ................ 5 (319) 42 5 4
Texas .................... 16 (1,079) 1 (106) 125 17 27
Utah ..................... 1 (84) 10 3 2
Vermont .................. 1
Virginia ................. 2 (90) 31 5
Washington ............... 58 4 2
West Virginia ............ 4 (222) 3 1
Wisconsin ................ 7 2
Wyoming .................. 2
- ----------------
(1) "Beds" refers to the number of beds for which a license or certificate of
need has been granted, which may vary materially from beds available for
use.
(2) Includes freestanding outpatient centers and their satellites, outpatient
satellites of inpatient rehabilitation facilities and outpatient facilities
managed under contract.
20
In addition, at December 31, 2001, we operated one outpatient
rehabilitation center in the United Kingdom, one 70-bed rehabilitation hospital
in Australia and one 30-bed inpatient rehabilitation facility and one outpatient
rehabilitation center in Puerto Rico, as well as numerous locations in various
states providing other services. We also provided occupational medicine services
at four industrial plants in Canada. Effective December 31, 2001, we sold four
non-strategic inpatient rehabilitation facilities included in the above table.
These facilities had a total of 222 licensed beds.
ITEM 3. LEGAL PROCEEDINGS.
In the ordinary course of our business, we may be subject, from time to
time, to claims and legal actions by patients and others. We do not believe that
any such pending actions, if adversely decided, would have a material adverse
effect on our financial condition. See Item 1, "Business -- Insurance" for a
description of our insurance coverage arrangements.
From time to time, we appeal decisions of various rate-making authorities
with respect to Medicare rates established for our facilities. These appeals are
initiated in the ordinary course of business. Management believes that adequate
reserves have been established for possible adverse decisions on any pending
appeals and that the outcomes of currently pending appeals, either individually
or in the aggregate, will have no material adverse effect on our operations.
SECURITIES LITIGATION
We were served with various lawsuits filed beginning September 30, 1998
purporting to be class actions under the federal and Alabama securities laws.
Such lawsuits were filed following a decline in our stock price at the end of
the third quarter of 1998. Seven such suits were filed in the United States
District Court for the Northern District of Alabama. In January 1999, those
suits were ordered to be consolidated under the case style In re HEALTHSOUTH
Corporation Securities Litigation, Master File No. CV98-O-2634-S. On April 12,
1999, the plaintiffs filed a consolidated amended complaint against us and
certain of our current and former officers and directors alleging that, during
the period April 24, 1997 through September 30, 1998, the defendants
misrepresented or failed to disclose certain material facts concerning our
business and financial condition and the impact of the Balanced Budget Act of
1997 on our operations in order to artificially inflate the price of our common
stock and issued or sold shares of such stock during the purported class period,
all allegedly in violation of Section 10(b) of the Securities Exchange Act of
1934 and Rule 10b-5 thereunder. Certain of the named plaintiffs in the
consolidated amended complaint also claim to represent separate subclasses
consisting of former stockholders of Horizon/CMS Healthcare Corporation and
National Surgery Centers, Inc. who received shares of HEALTHSOUTH common stock
in connection with our acquisition of those entities and assert additional
claims under Section 11 of the Securities Act of 1933 with respect to the
registration of securities issued in those acquisitions.
Another suit, Peter J. Petrunya v. HEALTHSOUTH Corporation, et al., Civil
Action No. 98-05931, was filed in the Circuit Court for Jefferson County,
Alabama, alleging that during the period July 16, 1996 through September 30,
1998 the defendants misrepresented or failed to disclose certain material facts
concerning our business and financial condition, allegedly in violation of
Sections 8-6-17 and 8-6-19 of the Alabama Securities Act. The Petrunya complaint
was voluntarily dismissed by the plaintiff without prejudice in January 1999.
Additionally, a suit styled Dennis Family Trust v. Richard M. Scrushy, et al.,
Civil Action No. 98-06592, has been filed in the Circuit Court for Jefferson
County, Alabama, purportedly as a derivative action on behalf of HEALTHSOUTH.
That suit largely replicates the allegations originally set forth in the
individual complaints filed in the federal actions described in the preceding
paragraph and alleges that our then-current directors, certain former directors
and certain officers breached their fiduciary duties to HEALTHSOUTH and engaged
in other allegedly tortious conduct. The plaintiff in that case has forborne
pursuing its claim thus far pending further developments in the federal action,
and the defendants have not yet been required to file a responsive pleading in
the case.
We filed a motion to dismiss the consolidated amended complaint in the
federal action in late June 1999. On September 13, 2000, the magistrate judge
issued his report and recommendation, recommending that the court dismiss the
amended complaint in its entirety, with leave to amend. The
21
plaintiffs objected to that report, and we responded to that objection. On
December 20, 2000, without oral argument, the court issued an order rejecting
the magistrate judge's report and recommendation and denying our motion to
dismiss. We believed that the December 20, 2000 order failed to follow the
standards required under the Private Securities Litigation Reform Act of 1995
and Rule 9(b) of the Federal Rules of Civil Procedure, and we filed a motion
asking the court to reconsider that order or to certify it for an interlocutory
appeal to the United States Eleventh Circuit Court of Appeals. Oral argument on
that motion was held on March 2, 2001, and the court denied that motion on March
12, 2001. The court has scheduled a hearing on the plaintiff's motion for class
certification for April 23, 2002. We believe that all claims asserted in the
above suits are without merit, and expect to vigorously defend against such
claims. Because such suits remain at an early stage, we cannot currently predict
the outcome of any such suits or the magnitude of any potential loss if our
defense is unsuccessful.
CERTAIN MEDICARE LITIGATION
On May 22, 2001, we announced a settlement with the United States
Department of Justice in connection with a lawsuit styled United States ex rel.
Greg Madrid v. HEALTHSOUTH Corporation, et al., No. CV-97-C-3206-S, filed in the
United States District Court for the Northern District of Alabama. The lawsuit
alleged that we had improperly included various costs on Medicare cost reports
submitted for various periods in 1992 through 1997 in a manner inconsistent with
Medicare regulations relating to cost limits on reimbursement for
sale-and-leaseback transactions, transactions with related parties and
abandonment of tangible assets, resulting in alleged overpayments to us. We did
not admit liability with respect to any of the allegations. Under the settlement
agreement, the lawsuit was dismissed and we paid the United States approximately
$8,248,000, including interest, and entered into a corporate integrity agreement
with the Office of Inspector General of the United States Department of Health
and Human Services. The corporate integrity agreement builds upon our existing
corporate compliance program and provides for additional employee education
activities and safeguards against erroneous billing and cost reporting.
In late December 2001, the United States Department of Justice filed a
Notice of Election to Intervene in Part and to Decline to Intervene in Part in a
case styled United States ex rel. DeWayne Manning v. HEALTHSOUTH Corporation,
No. CV-99-BE-2150-S, filed in the United States District Court for the Northern
District of Alabama. The Department's Notice indicated that it was partially
intervening in a complaint under the federal False Claims Act filed by a former
employee of HEALTHSOUTH which alleged that certain physical therapy practices,
primarily involving the use of physical therapy aides and other assistive
personnel, violated Medicare regulations related to the provision of physical
therapy to Medicare beneficiaries in freestanding outpatient centers. The Notice
also indicated that the Department was declining to intervene in any other
claims asserted by the relator, but that the Department intended to assert other
claims relating to alleged violations of certain regulations relating to
technical documentation requirements for Medicare physical therapy claims, that
the Department may seek to consolidate other cases containing similar
allegations, and that the Department intended to file a complaint with respect
to such allegations within 120 days. On January 15, 2002, the Court entered an
Order unsealing the original relator's complaint, granting the Department 120
days from that date to file and serve its complaint, and prohibiting the relator
from serving his complaint until the Department served its new complaint. We are
aware of approximately four similar complaints that were filed under seal in
three other federal district courts, in at least two of which the Department has
filed a substantially identical notice of partial intervention and in at least
one of which the Department has declined to intervene. We have not been served
with any of the underlying complaints to date. Based upon the information
available to us, we believe that the Department's theory with respect to the
issues regarding the use of physical therapy aides and other assistive personnel
is without support in applicable law or regulation and is inconsistent with
traditionally accepted practices in the physical therapy industry. Accordingly,
we expect to vigorously defend against the claims asserted at such time as we
are served with the complaints. However, because of the preliminary status of
this litigation, it is not possible to predict at this time the outcome or
effect of this litigation or the length of time it will take to resolve this
litigation.
22
CERTAIN HORIZON/CMS LITIGATION
On October 29, 1997, we acquired Horizon/CMS through the merger of a wholly
owned subsidiary of HEALTHSOUTH into Horizon/CMS. Horizon/CMS is currently a
party, or is subject, to certain material litigation matters and disputes, which
are described below, as well as various other litigation matters and disputes
arising in the ordinary course of its business.
Michigan Attorney General Litigation Regarding Long-Term Care Facility In
Michigan
Horizon/CMS learned in September 1996 that the Attorney General of the
State of Michigan was investigating one of its skilled nursing facilities. The
facility, in Howell, Michigan, was owned and operated by Horizon/CMS from
February 1994 until December 31, 1997. As widely reported in the press, the
Attorney General seized a number of patient, financial and accounting records
that were located at this facility. By order of a circuit judge in the county in
which the facility is located, the Attorney General was ordered to return
patient records to the facility for copying. Horizon/CMS advised the Michigan
Attorney General that it was willing to cooperate fully in the investigation.
The facility in question was sold by Horizon/CMS to Integrated Health Services,
Inc. on December 31, 1997.
On February 19, 1998, the State of Michigan filed a criminal complaint
against Horizon/CMS, four former employees of the facility and one former
Horizon/CMS regional manager, alleging various violations in 1995 and 1996 of
certain statutes relating to patient care, patient medical records and the
making of false statements with respect to the condition or operations of the
facility (State of Michigan v. Horizon/CMS Healthcare Corp., et al., Case No.
98-630-FY, State of Michigan District Court 54B). After a lengthy pretrial
hearing phase, in mid-2001 Horizon/CMS was bound over for trial on twelve counts
The maximum fines chargeable against Horizon/CMS under the counts alleged in the
complaint (exclusive of charges against the individual defendants, some of which
charges may result in indemnification obligations for Horizon/CMS) aggregate
$67,000. Horizon/CMS denies the allegations made in the complaint and expects to
vigorously defend against the charges. Because of the preliminary status of this
litigation, it is not possible to predict at this time the outcome or effect of
this litigation or the length of time it will take to resolve this litigation.
Lawsuit by Former Shareholders of Communi-Care, Inc. and Pro Rehab, Inc.
On May 28, 1997, Continental Medical Systems, Inc. ("CMS"), a Horizon/CMS
subsidiary acquired in 1995, was served with a lawsuit styled Kenneth Hubbard
and Lynn Hubbard v. Rocco Ortenzio, Robert A. Ortenzio and Continental Medical
Systems, Inc., No. 3:97 CV294MCK, filed in the United States District Court for
the Western District of North Carolina, Charlotte Division, by the former
shareholders of Communi-Care, Inc. and Pro Rehab, Inc. seeking damages arising
out of certain "earnout" provisions of the definitive purchase agreements under
which CMS purchased the outstanding stock of Communi-Care, Inc. and Pro Rehab,
Inc. from such shareholders. The plaintiffs allege that the manner in which CMS
and the other defendants operated the companies after their acquisition breached
its fiduciary duties to the plaintiffs, constituted fraud, gross negligence and
bad faith and a breach of their employment agreements with the companies. As a
result of such alleged conduct, the plaintiffs assert that they are entitled to
damages in an amount in excess of $27,000,000 from CMS and the other defendants.
Some of the plaintiffs' claims were dismissed by order of the court in September
1999. Horizon/CMS believes, based upon its evaluation of the legal and factual
matters relating to the plaintiffs' assertions, that it has valid defenses to
the plaintiffs' remaining claims and, as a result, intends to vigorously contest
such claims. Horizon/CMS has also filed various counterclaims against the
plaintiffs. The case continues in the discovery phase and is currently set for
trial in July 2002. HEALTHSOUTH cannot now predict the outcome or effect of such
litigation or the length of time it will take to resolve such litigation.
Texas Nursing Facility Litigation
Horizon/CMS was the defendant in a case styled Cecil Fuqua, as Executor of
the Estate of Wyvonne Fuqua, Deceased, v. Horizon/CMS Healthcare Corporation,
Civil Action No. 4-98-CV-1087-Y, United States District Court for the Northern
District of Texas, Fort Worth Division. This case involved injuries
23
allegedly suffered by a resident at the Heritage Western Hills nursing facility.
Horizon/CMS tendered the claim to its insurance carrier, which accepted coverage
and provided a defense through the carrier's selected counsel. In October 2000,
the court issued a sanctions order effectively preventing Horizon/CMS from
raising any defense as to liability in the matter, and in February 2001, the
jury returned a verdict against Horizon/CMS for actual damages totaling
approximately $2,765,000 (plus 10% per annum prejudgment interest) and
$310,000,000 in punitive damages. After trial, the case was settled for
$20,000,000, of which approximately $9,000,000 was directly paid by the primary
insurance carrier. Horizon/CMS has filed a claim for reimbursement for the
remaining amount with the excess carrier, and believes that such amount is due
to be reimbursed by the excess carrier under the applicable policy terms.
See Item 1, "Business -- Insurance".
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Not applicable.
24
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
HEALTHSOUTH common stock is listed for trading on the New York Stock
Exchange under the symbol "HRC". The following table sets forth for the fiscal
periods indicated the high and low reported sale prices for HEALTHSOUTH common
stock as reported on the NYSE Composite Transactions Tape.
REPORTED
SALE PRICE
-----------------
HIGH LOW
---- ---
2000
----
First Quarter .................... $ 7.31 $ 4.75
Second Quarter ................... 8.56 5.38
Third Quarter .................... 8.12 5.19
Fourth Quarter ................... 17.50 8.12
2001
----
First Quarter .................... $ 16.50 $ 12.55
Second Quarter ................... 15.97 11.40
Third Quarter .................... 18.30 14.35
Fourth Quarter ................... 16.50 11.99
The closing price per share for HEALTHSOUTH common stock on the New York
Stock Exchange on March 22, 2002 was $13.74.
There were approximately 6,684 holders of record of HEALTHSOUTH common
stock as of March 22, 2002.
We have never paid cash dividends on our common stock, and we do not
anticipate paying cash dividends in the foreseeable future. We currently
anticipate that any future earnings will be retained to finance our operations.
RECENT SALES OF UNREGISTERED SECURITIES
We had no unregistered sales of equity securities in 2001.
25
ITEM 6. SELECTED FINANCIAL DATA.
Set forth below is a summary of selected consolidated financial data for
HEALTHSOUTH for the years indicated. All amounts have been restated to reflect
the effects of the 1997 acquisition of Health Images, Inc. and the 1998
acquisition of National Surgery Centers, Inc. ("NSC"), each of which was
accounted for as a pooling of interests.
YEAR ENDED DECEMBER 31,
------------------------------------------------------------------------
1997 1998 1999 2000 2001
---- ---- ---- ---- ----
(IN THOUSANDS, EXCEPT PER SHARE DATA)
INCOME STATEMENT DATA:
Revenues ....................................... $3,123,176 $4,006,074 $4,072,107 $4,195,115 $4,380,477
Operating unit expenses ........................ 1,952,189 2,491,914 2,688,849 2,816,363 2,905,043
Corporate general and administrative
expenses ..................................... 87,512 112,800 149,285 148,023 167,206
Provision for doubtful accounts ................ 74,743 112,202 342,708 98,037 107,871
Depreciation and amortization .................. 257,136 344,591 374,248 360,847 375,270
Merger and acquisition related expenses (1)..... 15,875 25,630 -- -- --
Loss on sale of assets ......................... -- 31,232 -- -- 174,127 (2)
Impairment and restructuring charges (2) ....... -- 483,455 121,037 -- --
Loss on termination of credit facility (2) ..... -- -- -- -- 6,475
Interest expense ............................... 112,529 148,163 176,652 221,595 218,100
Interest income ................................ (6,004) (11,286) (10,587) (9,104) (7,349)
---------- ---------- ---------- ---------- -----------
2,493,980 3,738,701 3,842,192 3,635,761 3,946,743
---------- ---------- ---------- ---------- -----------
Income before income taxes and minority
interests .................................... 629,196 267,373 229,915 559,354 433,734
Provision for income taxes ..................... 213,668 143,347 66,929 181,808 139,467
---------- ---------- ---------- ---------- -----------
415,528 124,026 162,986 377,546 294,267
Minority interests ............................. 72,469 77