Annual Report — [x] Reg. S-K Item 405 — Form 10-K
Filing Table of Contents
Document/Exhibit Description Pages Size
1: 10-K405 Annual Report -- [x] Reg. S-K Item 405 80± 381K
2: EX-10.29 Material Contract 7± 25K
3: EX-12.1 Statement re: Computation of Ratios 1 9K
4: EX-23.1 Consent of Experts or Counsel 1 8K
5: EX-23.2 Consent of Experts or Counsel 1 9K
6: EX-24.1 Power of Attorney 1 8K
7: EX-24.2 Power of Attorney 1 8K
8: EX-24.3 Power of Attorney 1 8K
9: EX-24.4 Power of Attorney 1 8K
10: EX-24.5 Power of Attorney 1 8K
11: EX-24.6 Power of Attorney 1 8K
12: EX-27 Financial Data Schedule (Pre-XBRL) 2 9K
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(Mark One)
X ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
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EXCHANGE ACT OF 1934
For the fiscal year ended DECEMBER 31, 1997
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OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
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SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
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Commission file number 1-11353
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LABORATORY CORPORATION OF AMERICA HOLDINGS
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(Exact name of registrant as specified in its charter)
DELAWARE 13-3757370
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
358 SOUTH MAIN STREET, BURLINGTON, NORTH CAROLINA 27215
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(Address of principal executive offices) (Zip Code)
336-229-1127
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(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Name of exchange on which registered
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Common Stock, $0.01 par value New York Stock Exchange
Common Stock Purchase Warrants New York Stock Exchange
Redeemable Preferred Stock,$.10 par value New York Stock Exchange
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
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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
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State the aggregate market value of the voting stock held by non-affiliates of
the registrant, by reference to the price at which the stock was sold as of a
specified date within 60 days prior to the date of filing: $126,340,062 at
March 13, 1998.
Indicate the number of shares outstanding of each of the registrant's classes
of common stock, as of the latest practicable date: 124,499,287 shares at
March 13, 1998, of which 61,329,256 shares are held by indirect wholly owned
subsidiaries of Roche Holdings Ltd. The number of warrants outstanding to
purchase shares of the issuer's common stock is 22,151,308 as of March 13,
1998, of which 8,325,000 are held by an indirect wholly owned subsidiary of
Roche Holdings Ltd.
PART I
ITEM 1. DESCRIPTION OF BUSINESS
Laboratory Corporation of America Holdings (the "Company") is one of the
three largest independent clinical laboratory companies in the United States
based on 1997 net revenues. Through a national network of laboratories, the
Company offers a broad range of testing services used by the medical
profession in the diagnosis, monitoring and treatment of disease and other
clinical states. Since its founding in 1971, the Company has grown into a
network of 25 major laboratories and approximately 1,200 service sites
consisting of branches, patient service centers and STAT laboratories, serving
clients in 50 states.
The Company has achieved a substantial portion of its growth through
acquisitions. On April 28, 1995, the Company completed a merger with Roche
Biomedical Laboratories, Inc. ("RBL"), an indirect subsidiary of Roche
Holdings, Inc. ("Roche"), pursuant to an Agreement and Plan of Merger dated as
of December 13, 1994 (the "Merger"). In connection with the Merger, the
Company changed its name from National Health Laboratories Holdings, Inc.
("NHL") to Laboratory Corporation of America Holdings. In June 1994, the
Company acquired Allied Clinical Laboratories, Inc.("Allied"), then the sixth
largest independent clinical laboratory testing company in the United States
(based on 1993 net revenues)(the "Allied Acquisition"). In addition to the
Merger and the Allied Acquisition, since 1993, the Company has acquired a
total of 57 small clinical laboratories with aggregate sales of approximately
$182.4 million.
RECENT DEVELOPMENTS
During 1996 and the early part of 1997, the Company experienced
significant changes in management with Thomas P. Mac Mahon assuming the role
of President and Chief Executive Officer in January 1997 in addition to his
position as Chairman. Prior to such time Mr. Mac Mahon served as Senior Vice
President of Roche and President of Roche Diagnostics Group where he was
responsible for the management of all United States operations of the
diagnostic businesses of Roche. Concurrent with the addition of Mr.
Mac Mahon, the Company promoted a new Chief Financial Officer, Wesley R.
Elingburg, formerly Senior Vice President-Finance, and formed a new management
committee.
As part of an examination of the rapid growth of Federal expenditures for
clinical laboratory services, several Federal agencies, including the Federal
Bureau of Investigation, the Office of Inspector General ("OIG") of the
Department of Health and Human Services ("HHS") and the Department of Justice
("DOJ"), have investigated allegations of fraudulent and abusive conduct by
health care providers. On November 21, 1996, the Company reached a settlement
with the OIG and the DOJ regarding the prior billing practices of various of
its predecessor companies (the "1996 Government Settlement"). Consistent with
this overall settlement, the Company paid $187 million to the Federal
Government in December 1996, with proceeds from a loan from Roche (the "Roche
Loan"). As a result of negotiations related to the 1996 Government
Settlement, the Company recorded a charge of $185 million in the third quarter
of 1996 to increase reserves for the 1996 Government Settlement and other
related expenses of government and private claims resulting therefrom.
During 1996 and continuing into 1997, management began implementing a new
business strategy in response to the Company's declining performance. These
new strategic objectives are as follows: remaining a low cost provider of
clinical testing services; providing high quality service to its clients; and
improving account profitability. See "Management's Discussion and Analysis of
Results of Operations and Financial Condition", "Business-Management
Information Systems" and "-- Sales and Marketing and Client Service". In
addition, the Company is focused on certain growth initiatives beyond the
routine clinical laboratory testing. In particular the Company is focused on
increasing market share in certain sections of the market by providing
innovative services in two primary areas: (i) hospital alliances; and (ii)
specialty and niche businesses. See "Business--Affiliations and Alliances,"
and "--Testing Services."
On May 19, 1997 the Board of Directors of the Company declared a dividend
of 10,000,000 transferable subscription rights which were then issued pro rata
to holders of its common stock on May 29, 1997 entitling them to purchase up
to an aggregate of $500.0 million of convertible preferred stock issuable in
two series at a subscription price of $50 per share (the "Preferred Stock
Offering"). The subscription period ended on June 16, 1997. On that date,
rights were exercised to purchase 4,363,202 shares of Series A 8 1/2%
Convertible Exchangeable Preferred Stock ("Series A") and 5,636,798 shares of
Series B 8 1/2% Convertible Pay-in-Kind Preferred Stock ("Series B"), each at
a subscription price of $50 per share. Roche exercised its basic subscription
privilege in full for 4,988,751 of Series B and other rights holders purchased
the remaining 5,011,249 shares.
The Series A is convertible at the option of the holder after September
30, 1997 into common stock, will pay cash dividends and will be exchangeable
on or after June 30, 2000 at the Company's option for 8 1/2% Convertible
Subordinated Notes due June 30, 2012. The Series B will be convertible at the
option of the holder after June 30, 2000 into common stock, will pay dividends
in kind until June 30, 2003 and in cash thereafter and will not be
exchangeable for notes. The conversion rate for both series of preferred
stock is 18.1818 shares of common stock per share of preferred stock. Each
series of preferred stock will be mandatorily redeemable after June 30, 2012
at $50 per share and will be redeemable at the option of the Company after
July 7, 2000 at prices declining from $52.83 in 2000 to $50.00 in 2006 and
thereafter. Net proceeds from the Preferred Stock Offering were $486.9
million and were used to repay a loan from Roche, including accrued interest,
and to reduce amounts outstanding under the Company's term loan and revolving
credit facilities.
In connection with the Merger, the Company entered into a credit
agreement with the banks named therein and an administrative agent (the
"Existing Credit Agreement"), which made available to the Company a term loan
facility (the "Term Loan Facility") of $800.0 million and a revolving credit
facility (the "Revolving Credit Facility") of $450.0 million.
In March 1997, the Company entered into an amended credit agreement which
became effective upon completion of the Preferred Stock Offering, following
satisfaction of certain conditions precedent (the "Amended and Restated Credit
Agreement"). The Amended and Restated Credit Agreement makes available to the
Company senior unsecured credit facilities in the form of an amended term loan
facility of $693.8 million and an amended revolving credit facility of $450.0
million (the "Amended Term Loan Facility" and "Amended Revolving Credit
Facility," respectively).
The Amended Revolving Credit Facility includes a $50.0 million letter of
credit sublimit. The Amended and Restated Credit Agreement maturity dates are
extended approximately three years for the Amended Term Loan Facility to March
31, 2004 and approximately two years for the Amended Revolving Credit Facility
to March 31, 2002.
Both the Amended Term Loan Facility and the Amended Revolving Credit
Facility bear interest, at the option of the Company, at (i) the base rate
plus the applicable base rate margin or (ii) the eurodollar rate plus the
applicable eurodollar rate margin. The Amended and Restated Credit Agreement
provides that in the event of a reduction of the percentage of Common Stock
held by Roche and its affiliates (other than the Company and its subsidiaries)
below 25%, the applicable interest margins and facility fees on borrowings
outstanding under the Amended and Restated Credit Agreement will increase.
The amount of the increase will depend, in part, on the leverage ratio of the
Company at the time of such reduction. Future interest margins on borrowings
outstanding under the Amended and Restated Credit Agreement will be based upon
the performance level of the Company as defined therein.
Under the Amended and Restated Credit Agreement, maturities under the
Amended Term Loan Facility, after the payment of $50.0 million from proceeds
of the Preferred Stock Offering, aggregate $46.4 million in 1999, $92.8
million in 2000, $139.2 million in 2001 through 2003 and $87.0 million in
2004.
The amounts available under the Amended Revolving Credit Facility are
subject to certain mandatory permanent reduction and prepayment requirements
and the Amended Term Loan Facility is subject to specified mandatory
prepayment requirements. In the Amended and Restated Credit Agreement,
required amounts are first to be applied to repay scheduled Amended Term Loan
Facility payments until the Amended Term Loan Facility is repaid in full and
then to reduce the commitments and advances under the Amended Revolving Credit
Facility. Required payments and reductions include (i) the proceeds of debt
issuances, subject to certain exceptions; (ii) the proceeds of certain asset
sales, unless reinvested within one year of the applicable asset sale in
productive assets of a kind then used or usable in the business of the Company
and its subsidiaries; (iii) the proceeds of sales of equity securities in
excess of certain amounts; and (iv) under certain circumstances, a percentage
of excess cash flow, as calculated annually.
The Amended and Restated Credit Agreement contains financial covenants
with respect to a leverage ratio, an interest coverage ratio and minimum
stockholders' equity.
A portion of the proceeds of the Preferred Stock Offering were used to
repay approximately $50.0 million under the Amended Term Loan Facility and
$242.0 million under the Amended Revolving Credit Facility.
During the fourth quarter of 1997, the Company recorded a provision for
doubtful accounts of $182.0 million, which was approximately $160.0 million
greater than the amount recorded in the fourth quarter of 1996. This pretax
charge was made to increase the allowance for doubtful accounts to a level
that management believes is appropriate to reduce its accounts receivable to
the net amount that management believes will ultimately be collected.
The Company has experienced a deterioration in the timeliness of cash
collections and a corresponding increase in accounts receivable. The primary
causes of this situation are the increased medical necessity and related
diagnosis code requirements from third-party payors and the complexities in
the billing process (data capture) arising from changing requirements of
private insurance companies (managed care). Management previously believed
that this deterioration in the timeliness of cash collections would not have
any significant impact on the ultimate collectability of the receivables.
In late 1996, to address the deteriorating cash collections, management
developed various short-term improvement projects ("initiatives") that it
anticipated would improve the timeliness of collections by the end of 1997.
Initially, it appeared that these initiatives were having a positive impact,
as the growth in the Company's Days' Sales Outstanding (DSO) stabilized in the
first and second quarters of 1997. However, during the third quarter of 1997,
despite continuing focused efforts on the initiatives, the Company's DSO began
increasing again. In response, management intensified its efforts on the
aforementioned initiatives and added new initiatives for the purpose of
significantly lowering the DSO by December 31, 1997.
In the fourth quarter of 1997, management evaluated the initiatives'
overall effect and concluded that, while helpful in improving certain
processes, they had not had any significant impact on improving the Company's
cash collections on aged receivables. In recognition of the Company's
inability to enhance collections on a sustained basis, an increase in the
allowance for doubtful accounts was considered necessary by management.
The Company also recorded pretax charges in the fourth quarter of $22.7
million, related primarily to the downsizing of its Long Island, New York
facility and the future consolidation into its Raritan, New Jersey facility.
In connection with the aforementioned fourth quarter charges, the Company
has successfully negotiated an amendment to the Amended and Restated Credit
Agreement, covering both long-term and revolving credit, of certain covenants
contained in the agreement. The amendment excludes the charges from interest
coverage and leverage ratio calculations applicable to the quarters ended
December 31, 1997 through September 30, 1998. The amendment also excludes the
charges from certain other covenant calculations applicable to the quarter
ending December 31, 1997 and all quarterly periods thereafter.
THE CLINICAL LABORATORY TESTING INDUSTRY
Laboratory tests and procedures are used generally by hospitals,
physicians and other health care providers and commercial clients to assist in
the diagnosis, evaluation, detection, monitoring and treatment of diseases and
other medical conditions through the examination of substances in the blood,
tissues and other specimens. Clinical laboratory testing is generally
categorized as either clinical testing, which is performed on body fluids
including blood and urine, or anatomical pathology testing, which is performed
on tissue and other samples, including human cells. Clinical and anatomical
pathology procedures are frequently ordered as part of regular physician
office visits and hospital admissions in connection with the diagnosis and
treatment of illnesses. Certain of these tests and procedures are used
principally as tools in the diagnosis and treatment of a wide variety of
medical conditions such as cancer, AIDS, endocrine disorders, cardiac
disorders and genetic disease. The most frequently requested tests include
blood chemistry analyses, urinalyses, blood cell counts, PAP smears, AIDS
tests, microbiology cultures and procedures and alcohol and other substance-
abuse tests.
The clinical laboratory industry consists primarily of three types of
providers: hospital-based laboratories, physician-office laboratories and
independent clinical laboratories, such as those owned by the Company.
The Company believes that in 1997 approximately 57% of the clinical
testing revenues in the United States were derived by hospital-based
laboratories, approximately 13% were derived by physicians in their offices
and laboratories and approximately 30% were derived by independent clinical
laboratories. The Health Care Financing Administration ("HCFA") of HHS has
estimated that in 1997 there were over 5,000 independent clinical laboratories
in the United States.
EFFECT OF MARKET CHANGES ON THE CLINICAL LABORATORY BUSINESS
Many market-based changes in the clinical laboratory business have
occurred, most involving the shift away from traditional, fee-for-service
medicine to managed-cost health care. The growth of the managed care sector
presents various challenges to the Company and other independent clinical
laboratories. Managed care organizations typically contract with a limited
number of clinical laboratories and negotiate discounts to the fees charged by
such laboratories in an effort to control costs. Such discounts have resulted
in price erosion and have negatively impacted the Company's operating margins.
In addition, managed care organizations have used capitated payment contracts
in an attempt to promote more efficient use of laboratory testing services.
Under a capitated payment contract, the clinical laboratory and the managed
care organization agree to a per member, per month payment to cover all
laboratory tests during the month, regardless of the number or cost of the
tests actually performed. Such contracts also shift the risks of additional
testing beyond that covered by the capitated payment to the clinical
laboratory. For the year ended December 31, 1997 such contracts accounted for
approximately $88.8 million in net sales. The increase in managed care has
also resulted in declines in the utilization of laboratory testing services.
In addition, Medicare (which principally services patients 65 and older),
Medicaid (which principally serves indigent patients) and insurers have
increased their effort to control the cost, utilization and delivery of health
care services. Measures to regulate health care delivery in general and
clinical laboratories in particular have resulted in reduced prices, added
costs and decreasing test utilization for the clinical laboratory industry by
increasing complexity and adding new regulatory and administrative
requirements. From time to time, Congress has also considered changes to the
Medicare fee schedules in conjunction with certain budgetary bills. The
Company believes that reductions in reimbursement for Medicare services will
continue to be implemented from time to time. Reductions in the reimbursement
rates of other third-party payors are likely to occur as well.
The Company believes that the volume of clinical laboratory testing will
be positively influenced by several factors, including primarily: an expanded
base of scientific knowledge which has led to the development of more
sophisticated specialized tests and increased the awareness of physicians of
the value of clinical laboratory testing as a cost-effective means of
prevention, early detection of disease and monitoring of treatment.
Additional factors which may lead to future volume growth include: an
increase in the number and types of tests which are, due to advances in
technology and increased cost efficiencies, readily available on a more
affordable basis to physicians; expanded substance-abuse testing by
corporations and governmental agencies; increased testing for sexually
transmitted diseases such as AIDS; and the general aging of the population in
the United States. The impact of these factors is expected to be partially
offset by declines in volume as a result of increased controls over the
utilization of laboratory services by Medicare and other third-party payors,
particularly managed care organizations.
LABORATORY TESTING OPERATIONS AND SERVICES
The Company has 25 major laboratories, and approximately 1,200 service
sites consisting of branches, patient service centers and STAT laboratories.
A "branch" is a central office which collects specimens in a region for
shipment to one of the Company's laboratories for testing. Test results can
be printed at a branch and conveniently delivered to the client. A branch
also is used as a base for sales staff. A "patient service center" generally
is a facility maintained by the Company to serve the physicians in a medical
professional building or other strategic location. The patient service center
collects the specimens as requested by the physician. The specimens are sent,
principally through the Company's in-house courier system (and, to a lesser
extent, through independent couriers), to one of the Company's major
laboratories for testing. Some of the Company's patient service centers also
function as "STAT labs", which are laboratories that have the ability to
perform certain routine tests quickly and report results to the physician
immediately. The Company processed an average of approximately 237,000
patient specimens per day in 1997. Patient specimens are delivered to the
Company accompanied by a test request form. These forms, which are completed
by the client, indicate the tests to be performed and provide the necessary
billing information.
Each specimen and related request form is checked for completeness and
then given a unique identification number. The unique identification number
assigned to each specimen helps to assure that the results are attributed to
the correct patient. The test request forms are sent to a data entry terminal
where a file is established for each patient and the necessary testing and
billing information is entered. Once this information is entered into the
computer system, the tests are performed and the results are entered primarily
through computer interface or manually, depending upon the tests and the type
of equipment involved. Most of the Company's computerized testing equipment
is directly linked with the Company's information systems. Most routine
testing is completed by early the next morning, and test results are printed
and prepared for distribution by service representatives that day. Some
clients have local printer capability and have reports printed out directly in
their offices. Clients who request that they be called with a result are so
notified in the morning. It is Company policy to notify the client
immediately if a life-threatening result is found at any point during the
course of the testing process.
TESTING SERVICES
ROUTINE TESTING
The Company currently offers over 1,700 different clinical laboratory
tests or procedures. Several hundred of these are frequently used in general
patient care by physicians to establish or support a diagnosis, to monitor
treatment or medication or to search for an otherwise undiagnosed condition.
The most frequently requested routine tests include blood chemistry analyses,
urinalyses, blood cell counts, pap smears and AIDS tests. These routine
procedures are most often used by practicing physicians in their outpatient
office practices. Physicians may elect to send such procedures to an
independent laboratory or they may choose to establish an in-house laboratory
to perform some of the tests.
The Company performs this core group of routine tests in each of its 25
major regional laboratories, which constitutes a majority of the testing
performed by the Company. The Company generally performs and reports most
routine procedures within 24 hours, utilizing a variety of sophisticated and
computerized laboratory testing instruments.
SPECIALTY AND NICHE TESTING
While the information provided by many routine tests may be used by
nearly all physicians, regardless of specialty, many other procedures are more
specialized in nature. Certain types of unique testing capabilities and/or
client requirements have been developed into specialty or niche businesses by
the Company which have become a primary growth strategy for the Company. In
general, the specialty and niche businesses are designed to serve two market
segments: (i) markets which are not served by the routine clinical testing
laboratory and therefore are subject to less stringent regulatory and
reimbursement constraints; and (ii) markets which are served by the routine
testing laboratory and offer the possibility of adding related services from
the same supplier. The Company's research and development group continually
seeks new and improved technologies for early diagnosis. For example, the
Company's Center for Molecular Biology and Pathology is a leader in molecular
diagnostics and polymerase chain reaction technologies which are often able to
provide earlier and more reliable information regarding HIV, genetic diseases,
cancer and many other viral and bacterial diseases. Management believes these
technologies may represent a significant savings to managed care organizations
by increasing the detection of early stage (treatable) diseases. The following
are specialty and niche businesses in which the Company offers testing and
related services:
ALLERGY TESTING. The Company offers an extensive range of allergen
testing services as well as computerized analysis and a treatment program
that enables primary care physicians to diagnose and treat many kinds of
allergic disorders.
AMBULATORY MONITORING. The Company performs a computer assisted analysis
of electrocardiograms and blood pressure measurements. Many of these
analyses are submitted by physicians who require extended (up to 24 hours)
monitoring of these parameters for patients.
CLINICAL RESEARCH TESTING. The Company regularly performs clinical
laboratory testing for pharmaceutical companies conducting clinical
research trials on new drugs. This testing often involves periodic testing
of patients participating in the trial over several years.
DIAGNOSTIC GENETICS. The Company offers cytogenetic, biochemical and
molecular genetic tests.
IDENTITY TESTING. The Company provides forensic identity testing used in
connection with criminal proceedings and parentage evaluation services
which are used to assist in the resolution of disputed parentage in child
support litigation. Parentage testing involves the evaluation of
immunological and genetic markers in specimens obtained from the child, the
mother and the alleged father. Management believes it is now the largest
provider of identity testing services in the United States.
INDUSTRIAL HYGIENE TESTING. The Company maintains a separate testing
facility in Richmond, Virginia, dedicated to the analysis of potentially
toxic substances in the workplace environment.
KIDNEY STONE ANALYSIS. The Company offers specialized patient analysis
assessing the risk of kidney stones based on laboratory measurements and
patient history.
ONCOLOGY TESTING. The Company offers an extensive series of testing
technologies that aid in diagnosing and monitoring certain cancers and
predicting the outcome of certain treatments.
OCCUPATIONAL TESTING SERVICES. The Company provides urinalysis testing for
the detection of drugs of abuse for private and government customers, and
also provides blood testing services for the detection of drug abuse and
alcohol. These testing services are designed to produce "forensic" quality
test results that satisfy the rigorous requirements for admissibility as
evidence in legal proceedings. The Company also provides other analytical
testing and a variety of management support services.
The specialized or niche testing services noted above, as well as other
complex procedures, are sent to designated facilities where the Company has
concentrated the people, instruments and related resources for performing such
procedures so that quality and efficiency can be most effectively monitored.
The Company's Center for Molecular Biology and Pathology in Research Triangle
Park, North Carolina, also specializes in new test development and education
and training related thereto.
CLIENTS
The Company provides testing services to a broad range of health care
providers. During the year ended December 31, 1997, no client or group of
clients under the same contract accounted for more than two percent of the
Company's net sales. The primary client groups serviced by the Company
include:
INDEPENDENT PHYSICIANS AND PHYSICIAN GROUPS
Physicians requiring testing for their patients who are unaffiliated with
a managed care plan are one of the Company's primary sources of testing
services. Fees for clinical laboratory testing services rendered for these
physicians are billed either to the physician, to the patient or the patient's
third party payor such as insurance companies, Medicare and Medicaid.
Billings are typically on a fee-for-service basis. If the billings are to the
physician, they are based on the wholesale or customer fee schedule and
subject to negotiation. Otherwise, the patient is billed at the laboratory's
retail or patient fee schedule and subject to third party payor limitations
and negotiation by physicians on behalf of their patients. Medicare and
Medicaid billings are based on government-set fee schedules.
HOSPITALS
The Company serves hospitals with services ranging from routine and
specialty testing to contract management services. Hospitals generally
maintain an on-site laboratory to perform immediately needed testing on
patients receiving care. However, they also refer less time sensitive
procedures, less frequently needed procedures and highly specialized
procedures to outside facilities, including independent clinical laboratories
and larger medical centers. The Company typically charges hospitals for any
such tests on a fee-for-service basis which is derived from the Company's
customer fee schedule.
HMOS AND OTHER MANAGED CARE GROUPS
The Company serves HMOs and other managed care organizations. These
medical service providers typically contract with a limited number of clinical
laboratories and then designate the laboratory or laboratories to be used for
tests ordered by participating physicians. Testing is frequently reimbursed
on a capitated basis for managed care organizations. Under a capitated
payment contract, the Company agrees to cover all laboratory tests during a
given month for which the managed care organization agrees to pay a flat
monthly fee for each covered member. The tests covered under agreements of
this type are negotiated for each contract, but usually include routine tests
and exclude highly specialized tests. Many of the national and large regional
managed care organizations prefer to use large independent clinical labs such
as the Company because they can service them on a national basis.
OTHER INSTITUTIONS
The Company serves other institutions, including governmental agencies,
large employers and other independent clinical laboratories that do not have
the breadth of the Company's testing capabilities. The institutions typically
pay on a negotiated or bid fee-for-service basis.
PAYORS
Most testing services are billed to a party other than the "client" that
ordered the test. In addition, tests performed by a single physician may be
billed to different payors depending on the medical benefits of a particular
patient. Payors other than the direct patient, include, among others,
insurance companies, managed care organizations, Medicare and Medicaid. Based
on the year ended December 31, 1997 billings to the Company's respective
payors based on the total volume of accessions are as follows:
Accession Volume as a % Revenue
of Total per
1997 Accession
----------------------- ---------
Private Patients 3 - 5% $65 - 75
Medicare, Medicaid and
Insurance 20 - 25% $25 - 35
Commercial Clients 45 - 50% $15 - 25
Managed Care 25 - 30% $10 - 30
AFFILIATIONS AND ALLIANCES
The Company provides management services in a variety of health care
settings. The Company generally supplies the laboratory manager and other
laboratory personnel, as well as equipment and testing supplies, to manage a
laboratory that is owned by a hospital, managed care organization or other
health care provider. In addition, the Company maintains a data processing
system to organize and report test results and to provide billing and other
pertinent information related to the tests performed in the managed
laboratory. Under the typical laboratory management agreement, the laboratory
manager, who is employed by the Company, reports to the hospital or clinic
administration. Thus, the hospital or clinic ("Provider") maintains control
of the laboratory. A pathologist designated by the Provider serves as medical
director for the laboratory.
An important advantage the Company offers to its clients is the
flexibility of the Company's information systems used for contract management
services. In addition to the ability to be customized for a particular user's
needs, the Company's information systems also interface with several hospital
and clinic systems, giving the user more efficient and effective information
flow.
The Company's management service contracts typically have terms between
three and five years. However, most contracts contain a clause that permits
termination prior to the contract expiration date. The termination terms vary
but they generally fall into one of the following categories: (i) termination
without cause by either the Company or the contracted Provider after written
notice (generally 60 to 90 days prior to termination); (ii) termination by the
contracted Provider only if there are uncorrected deficiencies in the
Company's performance under the contract after notice by the contracted
Provider; or (iii) termination by the contracted Provider if there is a loss
of accreditation held by any Company laboratory that services the contracted
Provider, which accreditation is not reinstated within 30 days of the loss, or
up to 30 days' notice if there is a decline in the quality of services
provided under such contract which remains uncorrected after a 15-day period.
While the Company believes that it will maintain and renew its existing
contracts, there can be no assurance of such maintenance or renewal.
As part of its marketing efforts, and as a way to focus on a contract
management client's particular needs, the Company has developed several
different pricing formulas for its management services agreements. In certain
cases, profitability may depend on the Company's ability to accurately predict
test volumes, patient encounters or the number of admissions in the case of an
inpatient facility.
One of the Company's primary growth strategies is to develop an
increasing number of hospital alliances. These alliances can take several
different forms including laboratory management contracts, discussed above,
reference agreements and joint ventures. As hospitals continue to be impacted
by decreasing fee schedules from third party payors and managed care
organizations, the Company believes that they will seek the most cost-
effective laboratory services for their patients. Management believes the
Company's economies of scale as well as its delivery system will enable it to
assist the hospital in achieving its goals. These alliances are generally
more profitable than the Company's core business due to the specialized nature
of many of the testing services offered in the alliance program. In 1997, the
Company added 48 alliance agreements with hospitals, physician groups and
other health care provider organizations representing approximately $25
million of annual sales.
SALES AND MARKETING AND CLIENT SERVICE
The Company offers its services through a combination of direct sales
generalists and specialists. Sales generalists market the mainstream or
traditional routine laboratory services primarily to physicians, while
specialists concentrate on individual market segments, such as hospitals or
managed care organizations, or on testing niches, such as identity testing or
genetic testing. Specialist positions are established when an in-depth level
of expertise is necessary to effectively offer the specialized services. When
the need arises, specialists and generalists work cooperatively to address
specific opportunities. At December 31, 1997, the Company employed
approximately 247 generalists and 87 specialists. The Company's sales
generalists and specialists are compensated through a combination of salaries,
commissions and bonuses, at levels commensurate with each individual's
qualifications and responsibilities. Commissions are primarily based upon the
individual's productivity in generating new business for the Company.
The Company also employs customer service associates ("CSAs") to interact
with clients on an ongoing basis. CSAs monitor the status of the services
being provided to clients, act as problem-solvers, provide information on new
testing developments and serve as the client's regular point of contact with
the Company. At December 31, 1997, the Company employed approximately 370
CSAs. CSAs are compensated with a combination of salaries and bonuses
commensurate with each individual's qualifications and responsibilities.
The Company believes that the clinical laboratory service business is
shifting away from the traditional direct sales structure and into one in
which the purchasing decisions for laboratory services are increasingly made
by managed care organizations, insurance plans, employers and increasingly by
patients themselves. In view of these changes, the Company has adapted its
sales and marketing structure to more appropriately address the new
opportunities. For example, the Company has expanded its specialist sales
positions in both its primary business and its niche businesses in order to
maximize the Company's competitive strengths of advanced technology and
marketing focus.
The Company competes primarily on the basis of the quality of its
testing, reporting and information systems, its reputation in the medical
community, the pricing of its services and its ability to employ qualified
personnel. As a result of the required focus on the consolidation process
related to the Merger, however, the Company believes that its level of client
service has been negatively impacted. Therefore, in 1998, with the
consolidation process substantially completed, one of the Company's goals is
to improve client service. An important factor in improving client service
includes the Company's initiatives to improve its billing process. See
"-Billing."
INFORMATION SYSTEMS
The Company has developed and implemented management information systems
to monitor operations and control costs. All financial functions are
centralized in Burlington, North Carolina including purchasing and accounting.
Management believes this provides greater control over spending as well as
increased supervision and monitoring of results of operations.
The Company believes that the health care provider's need for data will
continue to place high demands on its information systems staff. The Company
operates several systems to handle laboratory, billing and financial data and
transactions. The Company believes that the efficient handling of information
involving clients, patients, payors and other parties will be a critical
factor in the Company's future success. The Company's Corporate Information
Systems Division manages its information resources and programs on a
consolidated basis in order to achieve greater efficiency and economies of
scale. In addition, as a key part of its response to these challenges, the
Company employs a Chief Information Officer, whose responsibility is to
integrate, manage and develop the Company's information systems.
In 1997, information systems activities have been focused on selection
and consolidation of the Company's multiple laboratory and billing systems to
standardized laboratory testing and billing systems. The Company has also
been focused on the establishment of regional data centers to handle all of
the information processing needs of the Company. The Company believes that it
can benefit from the conversion of its multiple billing systems into a
centralized system. Implementation of the billing systems conversion was
begun in 1997 and is expected to be completed over the next two to three
years. During 1997, the Company capitalized approximately $8.0 million in
information systems development and implementation costs related to billing
systems. The Company anticipates capitalizing an additional $11.0 million in
such development and implementation costs during 1998.
BILLING
Billing for laboratory services is a complicated process. Laboratories
must bill many different payors such as doctors, patients, hundreds of
different insurance companies, Medicare, Medicaid and employer groups, all of
whom have different billing requirements. The Company believes that a
majority of its bad debt expense is the result of non-credit related issues
which slow the billing process, create backlogs of unbilled requisitions and
generally increase the aging of accounts receivable. A primary cause of bad
debt expense is missing or incorrect billing information on requisitions. The
Company believes that this experience is similar to that of its primary
competitors. The Company performs the requested tests and returns back the
test results regardless of whether billing information has been provided at
all or has been provided incorrectly. The Company subsequently attempts to
obtain any missing information or rectify any incorrect billing information
received from the health care provider. Among the many other factors
complicating the billing process are more complicated billing arrangements due
to contracts with third-party administrators, disputes between payors as to
the party responsible for payment of the bill and auditing for specific
compliance issues.
The Company's bad debt expense has increased since the Merger principally
due to three developments that have further complicated the billing process:
(1) increased complexities in the billing process due to requirements of
managed care payors; (2) increased medical necessity and diagnosis code
requirements; and (3) existence of multiple billing information systems. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
Although there can be no assurance of success, the Company has recently
developed a number of initiatives to address the complexity of the billing
process and to improve collection rates. These initiatives include:
reorganization of departments to allow for more focus on specific issues;
retention of management consultants to assess the situation and assist in re-
engineering the billing process; establishment of a project group to address
inaccurate and missing billing information captured when the specimen is
received; addition of staff in each operating division to train field
personnel in billing matters and to review and approve contracts with third-
party payors to ensure that contracts can be properly billed; and training of
clients related to limited coverage tests and the importance of providing
diagnosis codes pertaining to such tests. Additionally, the Company believes
that it can benefit from the conversion of its multiple billing systems into a
centralized system.
QUALITY ASSURANCE
The Company considers the quality of its tests to be of critical
importance, and it has established a comprehensive quality assurance program
for all of its laboratories and other facilities, designed to help assure
accurate and timely test results. In addition to the compulsory external
inspections and proficiency programs demanded by HCFA and other regulatory
agencies, Company-wide systems and procedures are in place to emphasize and
monitor quality assurance. All of the Company's regional laboratories are
subject to on-site evaluations, the College of American Pathologists ("CAP")
proficiency testing program, state surveys and the Company's own internal
quality control programs.
EXTERNAL PROFICIENCY/ ACCREDITATIONS. The Company participates in
numerous externally-administered, blind quality surveillance programs,
including the CAP program. The blind programs supplement all other quality
assurance procedures and give Company management the opportunity to review its
technical and service performance from the client's perspective.
INTERNAL QUALITY CONTROL. The Company regularly performs internal
quality control testing by running quality control samples with known values
with patient samples submitted for testing. All quality control sample test
results are entered into the Company's national laboratory computer, which
connects the Company's facilities nationwide to a common on-line quality
control database. This system helps technologists and technicians check
quality control values and requires further prompt verification if any quality
control value is out of range. The Company has an extensive, internally
administered program of blind sample proficiency testing (i.e. the testing
laboratory does not know the sample being tested is a quality control sample),
as part of which the Company's locations receive specimens from the Company's
Quality Assurance and Corporate Technical Services departments for analysis.
The CAP accreditation program involves both on-site inspections of the
laboratory and participation in the CAP's proficiency testing program for all
categories in which the laboratory is accredited by the CAP. The CAP is an
independent non-governmental organization of board-certified pathologists
which offers an accreditation program to which laboratories can voluntarily
subscribe. The CAP has been accredited by HCFA to inspect clinical
laboratories to determine adherence to the Clinical Laboratory Improvement Act
of 1967, and the Clinical Laboratory Improvement Amendments of 1988
(collectively, as amended, "CLIA") standards. A laboratory's receipt of
accreditation by the CAP satisfies the Medicare requirement for participation
in proficiency testing programs administered by an external source. All of
the Company's major laboratories are accredited by the CAP.
COMPETITION
The clinical laboratory business is intensely competitive. The Company
believes that in 1997 the entire United States clinical laboratory testing
industry had revenues exceeding $36 billion; approximately 57% of such
revenues were attributable to hospital-affiliated laboratories, approximately
30% were attributable to independent clinical laboratories and approximately
13% were attributable to physicians in their offices and laboratories. As
recently as 1993, there were seven laboratories that provided clinical
laboratory testing services on a national basis: NHL, RBL, Quest Diagnostics
Incorporated, formerly known as Corning Clinical Laboratories ("Quest"),
SmithKline Beecham Clinical Laboratories, Inc. ("SmithKline"), Damon
Corporation, Allied and Nichols Institute. Apart from the Merger and the
Allied Acquisition, Quest acquired Nichols Institute in August 1994 and Damon
Corporation in August 1993. In addition, in the last several years a number
of large regional laboratories have been acquired by national clinical
laboratories. There are presently three national independent clinical
laboratories: the Company; Quest, which had approximately $1.5 billion in
revenues from clinical laboratory testing in 1997; and SmithKline, which had
approximately $1.2 billion in revenues from clinical laboratory testing in
1997.
In addition to the two other national clinical laboratories, the Company
competes on a regional basis with many smaller regional independent clinical
laboratories as well as laboratories owned by hospitals and physicians. The
Company believes that the following factors, among others, are often used by
health care providers in selecting a laboratory: (i) pricing of the
laboratory's test services; (ii) accuracy, timeliness and consistency in
reporting test results; (iii) number and type of tests performed; (iv) service
capability and convenience offered by the laboratory; and (v) its reputation
in the medical community. The Company believes that it competes favorably
with its principal competitors in each of these areas and is currently
implementing strategies to improve its competitive position. See "-Clients"
and "Management's Discussion and Analysis of Financial Condition and Results
of Operations."
The Company believes that consolidation will continue in the clinical
laboratory testing business. In addition, the Company believes that it and
the other large independent clinical laboratory testing companies will be able
to increase their share of the overall clinical laboratories testing market
due to a number of external factors including cost efficiencies afforded by
large-scale automated testing, Medicare reimbursement reductions and the
growth of managed health care entities which require low-cost testing services
and large service networks. In addition, legal restrictions on physician
referrals and the ownership of laboratories as well as increased regulation of
laboratories are expected to contribute to the continuing consolidation of the
industry.
EMPLOYEES
At December 31, 1997, the Company employed approximately 18,600 people.
These include approximately 17,800 full-time employees and approximately 800
part-time employees. A subsidiary of the Company has one collective
bargaining agreement which covers approximately 38 employees. The Company
believes that its overall relations with its employees are good.
REGULATION AND REIMBURSEMENT
GENERAL
The clinical laboratory industry is subject to significant governmental
regulation at the Federal, state and local levels. Under CLIA, virtually all
clinical laboratories, including those owned by the Company, must be certified
by the Federal government. Many clinical laboratories must also meet
governmental standards, undergo proficiency testing and are subject to
inspection. Certifications or licenses are also required by various state and
local laws.
The health care industry is undergoing significant change as third-party
payors, such as Medicare (which principally serves patients 65 and older) and
Medicaid (which principally serves indigent patients) and insurers, increase
their efforts to control the cost, utilization and delivery of health care
services. In an effort to address the problem of increasing health care
costs, legislation has been proposed or enacted at both the Federal and state
levels to regulate health care delivery in general and clinical laboratories
in particular. Some of the proposals include managed competition, global
budgeting and price controls. Although the Clinton Administration's health
care reform proposal, initially advanced in 1994, was not enacted, such
proposal or other proposals may be considered in the future. In particular,
the Company believes that reductions in reimbursement for Medicare services
will continue to be implemented from time to time. Reductions in the
reimbursement rates of other third-party payors are likely to occur as well.
The Company cannot predict the effect health care reform, if enacted, would
have on its business, and there can be no assurance that such reforms, if
enacted, would not have a material adverse effect on the Company's business
and operations.
REGULATION OF CLINICAL LABORATORIES
CLIA extends Federal oversight to virtually all clinical laboratories by
requiring that laboratories be certified by the government. Many clinical
laboratories must also meet governmental quality and personnel standards,
undergo proficiency testing and be subject to biennial inspection. Rather
than focusing on location, size or type of laboratory, this extended oversight
is based on the complexity of the tests performed by the laboratory.
In 1992, HHS published regulations implementing CLIA. The quality
standards and enforcement procedure regulations became effective in 1992,
although certain personnel, quality control and proficiency testing
requirements are currently being phased in by HHS. The quality standards
regulations divide all tests into three categories (waivered, moderate
complexity and high complexity) and establish varying requirements depending
upon the complexity of the test performed. A laboratory that performs high
complexity tests must meet more stringent requirements than a laboratory that
performs only moderate complexity tests, while those that perform only one or
more of approximately twelve routine "waivered" tests may apply for a waiver
from most requirements of CLIA. All major and many smaller Company facilities
are certified by CLIA to perform high complexity testing. The remaining
smaller testing sites of the Company are certified by CLIA to perform moderate
complexity testing or have obtained a waiver from most requirements of CLIA.
Generally, the HHS regulations require, for laboratories that perform high
complexity or moderate complexity tests, the implementation of systems that
ensure the accurate performance and reporting of test results, establishment
of quality control systems, proficiency testing by approved agencies and
biennial inspections.
The sanction for failure to comply with these regulations may be
suspension, revocation or limitation of a laboratory's CLIA certificate
necessary to conduct business, significant fines and criminal penalties. The
loss of a license, imposition of a fine or future changes in such Federal,
state and local laws and regulations (or in the interpretation of current laws
and regulations) could have a material adverse effect on the Company.
The Company is also subject to state regulation. CLIA provides that a
state may adopt more stringent regulations than Federal law. For example,
state law may require that laboratory personnel meet certain qualifications,
specify certain quality controls, maintain certain records and undergo
proficiency testing. For example, certain of the Company's laboratories are
subject to the State of New York's clinical laboratory regulations, which
contain provisions that are more stringent than Federal law.
The Company's laboratories have continuing programs to ensure that their
operations meet all applicable regulatory requirements.
REGULATION AFFECTING REIMBURSEMENT OF CLINICAL LABORATORY SERVICES
Containment of health care costs, including reimbursement for clinical
laboratory services, has been a focus of ongoing governmental activity. In
1984, Congress established a Medicare fee schedule for clinical laboratory
services performed for patients covered under Part B of the Medicare program.
Subsequently, Congress imposed a national ceiling on the amount that can be
paid under the fee schedule. Laboratories bill the program directly and must
accept the scheduled amount as payment in full for covered tests performed on
behalf of Medicare beneficiaries. In addition, state Medicaid programs are
prohibited from paying more than the Medicare fee schedule amount for clinical
laboratory services furnished to Medicaid recipients. In 1997 and 1996, the
Company derived approximately 20% and 23%, respectively, of its net sales from
tests performed for beneficiaries of Medicare and Medicaid programs. In
addition, the Company's other business depends significantly on continued
participation in these programs because clients often want a single laboratory
to perform all of their testing services. Since 1984, Congress has
periodically reduced the ceilings on Medicare reimbursement to clinical
laboratories from previously authorized levels. In 1993, pursuant to
provisions in the Omnibus Budget and Reconciliation Act of 1993 ("OBRA `93"),
Congress reduced, effective January 1, 1994, the Medicare national limitations
from 88% of the 1984 national median to 76% of the 1984 national median, which
reductions were implemented on a phased-in basis from 1994 through 1996 (to
84% in 1994, 80% in 1995 and 76% in 1996). The 1996 reduction to 76% was
implemented as scheduled on January 1, 1996. OBRA `93 also eliminated the
provision for annual fee schedule increases based upon the Consumer Price
Index for 1994 and 1995. These reductions were partially offset, however, by
annual Consumer Price Index fee schedule increases of 3.2% and 2.7% in 1996
and 1997, respectively. In early August, Congress passed and the President
signed the Balanced Budget Act of 1997 ("BBA"), which includes a provision
that reduces, effective January 1, 1998, the Medicare national limitations
from 76% of the 1984 national median to 74% of the 1984 national median. An
additional provision in the BBA freezes the Consumer Price Index update for
five years. Because a significant portion of the Company's costs are
relatively fixed, these Medicare reimbursement reductions have a direct
adverse effect on the Company's net earnings and cash flows. The Company
cannot predict if additional Medicare reductions will be implemented.
On January 1, 1993, numerous changes in the Physicians' Current
Procedural Terminology ("CPT") were published. The CPT is a coding system
that is published by the American Medical Association. It lists descriptive
terms and identifying codes for reporting medical and medically related
services. The Medicare and Medicaid programs require suppliers, including
laboratories, to use the CPT codes when they bill the programs for services
performed. HCFA implemented these CPT changes for Medicare on August 1, 1993.
The CPT changes have altered the way the Company bills third-party payors for
some of its services, thereby reducing the reimbursement the Company receives
from those programs for some of its services. For example, certain codes for
calculations, such as LDL cholesterol, were deleted and are no longer a
payable service under Medicare and Medicaid.
Moreover, Medicare denied reimbursement to NHL for claims submitted for
HDL cholesterol and serum ferritin (a measure of iron in the blood) tests from
September 1993 to December 1993, at which time NHL removed such tests from its
basic test profiles.
In 1996, the HCFA implemented changes in the policies used to administer
Medicare payments to clinical laboratories for the most frequently performed
automated blood chemistry profiles. Among other things, the changes
established a consistent standard nationwide for the content of the automated
chemistry profiles. Another change incorporated in the HCFA policy requires
laboratories performing certain automated blood chemistry profiles to obtain
and provide documentation of the medical necessity of tests included in the
profiles for each Medicare beneficiary. The Company expects to incur
additional costs associated with the implementation of these requirements.
The amount of additional costs and potential reductions in reimbursement for
certain components of chemistry profiles and the impact on the Company's
financial condition and results of operations have not yet been determined.
Future changes in Federal, state and local regulations (or in the
interpretation of current regulations) affecting governmental reimbursement
for clinical laboratory testing could have a material adverse effect on the
Company. However, based on currently available information, the Company is
unable to predict what type of legislation, if any, will be enacted into law.
FRAUD AND ABUSE REGULATIONS
The Medicare and Medicaid anti-kickback laws prohibit intentionally
paying anything of value to influence the referral of Medicare and Medicaid
business. HHS has published safe harbor regulations which specify certain
business activities that, although literally covered by the laws, will not
violate the Medicare/Medicaid anti-kickback laws. Failure to fall within a
safe harbor does not constitute a violation of the anti-kickback laws if all
conditions of the safe harbor are met; rather, the arrangement would remain
subject to scrutiny by HHS.
In October 1994, the OIG issued a Special Fraud Alert, which set forth a
number of practices allegedly engaged in by clinical laboratories and health
care providers that the OIG believes violate the anti-kickback laws. These
practices include providing employees to collect patient samples at physician
offices if the employees perform additional services for physicians that are
typically the responsibility of the physicians' staff; selling laboratory
services to renal dialysis centers at prices that are below fair market value
in return for referrals of Medicare tests which are billed to Medicare at
higher rates; providing free testing to a physician's HMO patients in
situations where the referring physicians benefit from such lower utilization;
providing free pick-up and disposal of bio-hazardous waste for physicians for
items unrelated to a laboratory's testing services; providing facsimile
machines or computers to physicians that are not exclusively used in
connection with the laboratory services performed; and providing free testing
for health care providers, their families and their employees (professional
courtesy testing). The OIG stressed in the Special Fraud Alert that when one
purpose of the arrangements is to induce referral of program-reimbursed
laboratory testing, both the clinical laboratory and the health care provider
or physician may be liable under the anti-kickback laws and may be subject to
criminal prosecution and exclusion from participation in the Medicare and
Medicaid programs.
According to the 1995 work plan of the OIG, the Office of Civil Fraud and
Administrative Adjudication ("OCFAA") will be responsible for protecting the
government-funded health care programs and deterring fraudulent conduct by
health care providers through the negotiation and imposition of civil monetary
penalties, assessments and program exclusions. The OCFAA works very closely
with the Department of Justice, the Office of General Counsel and the OIG
investigative and audit offices in combating fraud and abuse. In addition, the
OIG has stated in its 1995 work plan that it will determine the extent to
which laboratories supply physicians' offices with phlebotomists
(blood-drawing technicians), offer management services or medical waste
pick-up to physicians, provide training to physicians or engage in other
financial arrangements with purchasers of laboratories' services. The OIG
will assess the potential benefits of such arrangements as well as the extent
to which such arrangements might be unlawful.
In March 1992, HCFA published proposed regulations to implement the
Medicare statute's prohibition (with certain exceptions) on referrals by
physicians who have an investment interest in or a compensation arrangement
with laboratories. The prohibition on referrals also applies where an
immediate family member of a physician has an investment interest or
compensation arrangement with a laboratory. The proposed regulations would
define remuneration that gives rise to a compensation arrangement as including
discounts granted by a laboratory to a physician who sends testing business to
the laboratory and who pays the laboratory for such services. If that
definition of remuneration were to have become effective, it could have had an
impact on the way the Company prices its services to physicians. However, in
August 1993, the referenced Medicare statute was amended by OBRA `93. One of
these amendments makes it clear that day-to-day transactions between
laboratories and their customers, including, but not limited to, discounts
granted by laboratories to their customers, are not affected by the
compensation arrangement provisions of the Medicare statute.
ENVIRONMENTAL AND OCCUPATIONAL SAFETY
The Company is subject to licensing and regulation under Federal, state
and local laws and regulations relating to the protection of the environment
and human health and safety, including laws and regulations relating to the
handling, transportation and disposal of medical specimens, infectious and
hazardous waste and radioactive materials as well as to the safety and health
of laboratory employees. All Company laboratories are subject to applicable
Federal and state laws and regulations relating to biohazard disposal of all
laboratory specimens and the Company utilizes outside vendors for disposal of
such specimens. In addition, the Federal Occupational Safety and Health
Administration has established extensive requirements relating to workplace
safety for health care employers, including clinical laboratories, whose
workers may be exposed to blood-borne pathogens such as HIV and the hepatitis
B virus. These regulations, among other things, require work practice
controls, protective clothing and equipment, training, medical follow-up,
vaccinations and other measures designed to minimize exposure to, and
transmission of, blood-borne pathogens. Although the Company is not aware of
any current material non-compliance with such Federal, state and local laws
and regulations, failure to comply could subject the Company to denial of the
right to conduct business, fines, criminal penalties and/or other enforcement
actions.
DRUG TESTING
Drug testing for public sector employees is regulated by the Substance
Abuse and Mental Health Services Administration ("SAMSHA") (formerly the
National Institute on Drug Abuse), which has established detailed performance
and quality standards that laboratories must meet in order to be approved to
perform drug testing on employees of Federal government contractors and
certain other entities. To the extent that the Company's laboratories perform
such testing, each must be certified as meeting SAMSHA standards. The
Company's Research Triangle Park, North Carolina; Memphis, Tennessee; Raritan,
New Jersey; Seattle, Washington; Herndon, Virginia and Reno, Nevada
laboratories are SAMSHA certified.
CONTROLLED SUBSTANCES
The use of controlled substances in testing for drugs of abuse is
regulated by the Federal Drug Enforcement Administration.
OIG INVESTIGATIONS
Several Federal agencies are responsible for investigating allegations of
fraudulent and abusive conduct by health care providers, including the Federal
Bureau of Investigation, the OIG and the DOJ. In its published work plan for
1992-1993, the OIG indicated its intention to target certain laboratory
practices for investigation and prosecution. Pursuant to one such project
described in such work plan, entitled "Laboratory Unbundle," laboratories that
offer packages of tests to physicians and "unbundle" them into several "tests
to get higher reimbursement when billing Medicare and Medicaid" will be
identified and "suitable cases will be presented for prosecution." Under
another project described in such work plan, laboratories "that link price
discounts to the volume of physician referrals, `unbundle' tests in order to
bill Medicare at a higher total rate, and conduct unnecessary tests... will be
identified to coordinate investigations through the country."
1996 GOVERNMENT SETTLEMENT
In August 1993, RBL and Allied each received a subpoena from the OIG
requesting documents and information concerning pricing and billing practices.
In September 1993, NHL received a subpoena from the OIG which required NHL to
provide documents to the OIG concerning its regulatory compliance procedures.
Among other things, the OIG subpoena received by RBL and Allied called for the
production of documents regarding 14 blood chemistry tests which were being or
had been performed by certain independent clinical laboratories in conjunction
with automated chemistry profiles and which were being or had been billed
separately to Medicare or Medicaid. An automated chemistry profile is a
grouping of tests that can be performed together on a single specimen and that
Medicare and Medicaid pay under the Medicare fee schedule. The government's
investigations covered billings for tests performed by NHL, RBL and Allied
from 1988 to 1994. These tests were deemed by regulators to be medically
unnecessary. The investigations were part of a broad-based federal inquiry
into Medicare and related billings that have resulted in financial settlements
with a number of other clinical laboratories. The inquiries have also
prompted the imposition of more stringent regulatory compliance requirements
industry-wide. In November 1996, the Company agreed to enter into a
comprehensive Corporate Integrity Agreement and to pay $182 million to settle
civil claims involving Medicare and related government billings for tests
performed by NHL, RBL and Allied (the "1996 Government Settlement"). These
claims arose out of the government's contention that laboratories offering
profiles containing certain test combinations had the obligation to notify
ordering physicians how much would be billed to the government for each test
performed for a patient whose tests are paid by Medicare, Medicaid or other
government agency. The government contended claims submitted for tests
ordered by physicians and performed by the laboratories were improper. The
Company settled these allegations without an admission of fault. The
Corporate Integrity Agreement, among other things, requires that detailed
notifications be made to physicians. In addition, as part of the overall
settlement, a San Diego laboratory that was formerly part of Allied agreed to
plead guilty to a charge of filing a false claim with Medicare and Medicaid in
1991 and to pay $5 million to the Federal government. The assets of the San
Diego laboratory were sold by Allied in 1992, two years before the Allied
Acquisition. As is customary with asset sales, Allied retained the liability
for conduct preceding the sale - a liability the Company later succeeded to,
following the Allied Acquisition and Merger. As a result of negotiations
related to the 1996 Government Settlement, the Company recorded a charge of
$185 million in the third quarter of 1996 (the "Settlement Charge") to
increase reserves for the 1996 Government Settlement described above and other
related expenses of government and private claims resulting therefrom.
Pursuant to the 1996 Government Settlement, the Company paid $187 million
in December 1996 (the "Settlement Payment"). The Settlement Payment was paid
from the proceeds of a $187 million loan made by Roche to the Company in
December 1996. See "Management Discussion and Analysis of Financial Condition
and Results of Operations - Liquidity and Capital Resources".
The Company is involved in litigation which purports to be a class action
brought on behalf of certain patients, private insurers and benefit plans that
paid for laboratory testing services during the time frame covered by the 1996
Government Settlement. The Company has also received certain similar claims
brought on behalf of certain other insurance companies, some of which have
been resolved for immaterial amounts. These claims for private reimbursement
are similar to the government claims settled in 1996. However, no amount of
damages has been specified at this time and, with the exception of the above,
no settlement discussions have taken place. The Company is carefully
evaluating these claims, however, due to the early stage of the claims, the
ultimate outcome of these claims cannot presently be predicted.
1994 ALLIED GOVERNMENT SETTLEMENT
In April 1994, Allied received a subpoena from the OIG requesting
documents and certain information regarding the Medicare billing practices of
its Cincinnati, Ohio clinical laboratory with respect to certain cancer
screening tests. In March 1995, Allied resolved the issues raised by the
April 1994 subpoena and a related qui tam action commenced in Cincinnati, Ohio
Federal court by entering into agreements with, among others, HHS, the United
States Department of Justice and the relators in the qui tam action pursuant
to which it agreed to pay $4.9 million to settle all pending claims and
inquiries regarding these billing practices and certain others. NHL had
previously established reserves that were adequate to cover such settlement
payments. In connection with the settlement, Allied agreed with HHS, among
other things, to implement a corporate integrity program to ensure that Allied
and its representatives remain in compliance with applicable laws and
regulations and to provide certain reports and information to HHS regarding
such compliance efforts.
COMPLIANCE PROGRAM
Because of evolving interpretations of regulations and the national
debate over health care, compliance with all Medicare, Medicaid and other
government-established rules and regulations has become a significant factor
throughout the clinical laboratory industry. The Company has implemented a
comprehensive company-wide compliance program. The objective of the program
is to develop, implement and update as necessary reliable compliance
safeguards. Emphasis is placed on developing training programs for personnel
to attempt to assure the strict implementation of all rules and regulations.
Further, in-depth reviews of procedures, personnel and facilities are
conducted to assure regulatory compliance throughout the Company. Such
sharpened focus on regulatory standards and procedures will continue to be a
priority for the Company in the future.
The Company believes that it is in compliance in all material respects
with all statutes, regulations and other requirements applicable to its
clinical laboratory operations. The clinical laboratory testing industry is,
however, subject to extensive regulation, and many of these statutes and
regulations have not been interpreted by the courts. There can be no
assurance therefore that applicable statutes and regulations might not be
interpreted or applied by a prosecutorial, regulatory or judicial authority in
a manner that would adversely affect the Company. Potential sanctions for
violation of these statutes and regulations include significant fines and the
loss of various licenses, certificates and authorizations.
ITEM 2. PROPERTIES
The following table summarizes certain information as to the
Company's principal operating and administrative facilities as of December 31,
1997.
APPROXIMATE
AREA NATURE OF
Location (IN SQUARE FEET) OCCUPANCY
--------------------- ---------------- --------------------
Operating Facilities:
Birmingham, Alabama 100,000 Lease expires 2005
Phoenix, Arizona 43,000 Lease expires 2001;
one 5 year renewal
option
San Diego, California 54,000 Lease expires 2007
Denver, Colorado 20,000 Lease expires 2001;
two 5 year renewal
options
Tampa, Florida 95,000 Lease expires 2009;
one 5 year renewal
option
Chicago, Illinois 40,000 Lease expires 2003;
two 5 year renewal
options
Louisville, Kentucky 60,000 Lease expires 2002;
three 5 year
renewal options
Detroit, Michigan 32,000 Lease expires 2004;
two 5 year renewal
options
Kansas City, Missouri 78,000 Owned
Reno, Nevada 16,000 Owned
14,000 Lease expires 1999;
2 year renewal options
Raritan, New Jersey 186,000 Owned
Uniondale, New York 108,000 Lease expires 2007;
two 5 year renewal
options
Burlington, North Carolina 275,000 Owned
Charlotte, North Carolina 25,000 Lease expires 1998;
three 1 year renewal
options
Research Triangle Park, 71,000 Lease expires 2008,three
North Carolina 5 year renewal options
101,000 Lease expires 2011;
three 5 year renewal
options
Winston-Salem, 10,000 Lease expires 2009; one
North Carolina 5 year renewal option
Dublin, Ohio 82,000 Owned
Memphis, Tennessee 30,000 Lease expires 1999; one
5 year renewal option
Dallas, Texas 54,000 Lease expires 2004; one
5 year renewal option
Houston, Texas 70,000 Lease expires 2012;two
5 year renewal options
San Antonio, Texas 44,000 Lease expires 2004; one
5 year renewal option
Salt Lake City, Utah 20,000 Lease expires 2002; two
5 year renewal options
Chesapeake, Virginia 21,000 Lease expires 2002; two
5 year renewal options
Herndon, Virginia 64,000 Leases expire 1999,2004;
one 5 year renewal
option
Richmond, Virginia 57,000 Lease Expires 2001; one
5 year renewal option
Seattle, Washington 42,000 Lease expires 1998; two
5 year renewal options
Fairmont, West Virginia 25,000 Lease expires 2005;three
5 year renewal options
Administrative facilities:
Burlington, North Carolina 164,000 Owned
198,000 Leases expire 1998-
2008;various options
to purchase or renew
All of the major laboratory facilities have been built or improved for
the single purpose of providing clinical laboratory testing services. The
Company believes that these facilities are suitable and adequate and have
sufficient production capacity for its currently foreseeable level of
operations. The Company believes that if it were to lose the lease on any of
the facilities it presently leases, it could find alternate space at
competitive market rates and readily relocate its operations to such new
locations without material disruption to its operations.
ITEM 3. LEGAL PROCEEDINGS
The Company is involved in litigation which purports to be a class action
brought on behalf of certain patients, private insurers and benefit plans that
paid for laboratory testing services during the time frame covered by the 1996
Government Settlement. The Company has also received certain similar claims
brought on behalf of certain other insurance companies, some of which have
been resolved for immaterial amounts. These claims for private reimbursement
are similar to the government claims settled in 1996. However, no amount of
damages has been specified at this time and, with the exception of the above,
no settlement discussions have taken place. The Company is carefully
evaluating these claims, however, due to the early stage of the claims, the
ultimate outcome of these claims cannot presently be predicted.
The Company is also involved in certain claims and legal actions arising
in the ordinary course of business. These matters include, but are not
limited to, inquiries from governmental agencies and Medicare or Medicaid
carriers requesting comment on allegations of billing irregularities that are
brought to their attention through billing audits or third parties. In the
opinion of management, based upon the advice of counsel and consideration of
all facts available at this time, the ultimate disposition of these matters
will not have a material adverse effect on the financial position, results of
operations or liquidity of the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted to a vote of security holders during the fourth
quarter of the fiscal year covered by this report.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS
On May 1, 1995, the Common Stock commenced trading on the New York Stock
Exchange ("NYSE") under the symbol "LH". Prior to such date and since April
24, 1991, the Common Stock traded on the NYSE under the symbol "NH." Prior to
April 24, 1991, the Common Stock was quoted on the NASDAQ National Market
under the symbol "NHLI".
The following table sets forth for the calendar periods indicated the
high and low sales prices for the Common Stock reported on the NYSE Composite
Tape, and the cash dividends declared per share of Common Stock.
High Low
------ ------
1996
First Quarter 9 3/8 7 1/4
Second Quarter 9 7 3/8
Third Quarter 7 5/8 3 1/4
Fourth Quarter 3 7/8 2 3/8
High Low
------ ------
1997
First Quarter 4 2 1/2
Second Quarter 3 7/8 2 3/8
Third Quarter 2 3/4 2 1/2
Fourth Quarter 2 7/8 1 1/4
High Low
------ ------
1998
First Quarter (through March 13, 1998) 2 3/16 1 9/16
On March 13, 1998 there were 937 holders of record of the Common Stock.
The Company, in connection with the Allied Acquisition in 1994,
discontinued its dividend payments for the foreseeable future in order to
increase its flexibility with respect to its acquisition strategy. In
addition, the Company's credit agreement, as amended, places certain
restrictions, as defined in the credit agreement, on the payment of dividends.
ITEM 6. SELECTED FINANCIAL DATA
The selected financial data presented below under the captions "Statement
of Operations Data" and "Balance Sheet Data" as of and for the year ended
December 31, 1997 are derived from consolidated financial statements of the
Company, which have been audited by Price Waterhouse LLP, independent
accountants. The selected financial data presented below under the captions
"Statement of Operations Data" and "Balance Sheet Data" as of and for each of
the years in the four-year period ended December 31, 1996 are derived from
consolidated financial statements of the Company, which have been audited by
KPMG Peat Marwick LLP, independent accountants. This data should be read in
conjunction with the accompanying notes, the Company's consolidated financial
statements and the related notes thereto, and "Management's Discussion and
Analysis of Financial Condition and Results of Operations," all included
elsewhere herein.
[Enlarge/Download Table]
YEAR ENDED DECEMBER 31,
----------------------------------------------
1997 1996 1995 (a) 1994 (b) 1993
-------- -------- ------- -------- --------
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
Statement of Operations Data:
Net sales $1,519.0 $1,607.7 $1,432.0 $ 872.5 $ 760.5
Gross profit 438.5 423.8 407.7 275.5 316.0
Operating income (loss) (92.0)(h) (118.8)(c) 67.2(d) 109.9 185.5
Earnings (loss) before
extraordinary loss (106.9) (153.5) (4.0) 30.1 112.7
Extraordinary loss -- -- (8.3)(e) -- --
------- ------- ------- ------- -------
Net earnings (loss) $ (106.9) $ (153.5) $ (12.3) $ 30.1 $ 112.7
======= ======= ======= ======= =======
Earnings (loss) per common share
before extraordinary loss $ (1.06) $ (1.25) $ (0.03) $ 0.36 $ 1.26
Extraordinary loss per common
share -- -- (0.08) -- --
------- ------- ------- ------- -------
Net earnings (loss) per common
share $ (1.06) $ (1.25) $ (0.11) $ 0.36 $ 1.26
======= ======= ======= ======= =======
Dividends per common share $ -- $ -- $ -- $ 0.08 $ 0.32
Weighted average common shares
outstanding (in thousands) 123,241 122,920 110,579 84,754 89,439
Ratio of earnings to combined
fixed charges and preferred
stock dividends (i) NM NM 1.04 2.20 10.16
Balance Sheet Data:
Cash and cash equivalents $ 23.3 $ 29.3 $ 16.4 $ 26.8 $ 12.3
Intangible assets, net 851.3 891.1 916.7 551.9 281.5
Total assets 1,658.5 1,917.0 1,837.2 1,012.7 585.5
Long-term obligations and
redeemable preferred stock (f) 1,200.1 1,089.4 948.6 583.0 314.6
Due to affiliates (g) 2.2 190.5 0.9 -- 0.1
Total shareholders' equity 129.1 258.1 411.6 166.0 140.8
[FN]
(a) In April 1995, the Company completed the Merger. RBL's results of
operations have been included in the Company's results of operations since
April 28, 1995. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations-General" and Note 2 of the Notes to the
Consolidated Financial Statements.
(b) In June 1994, the Company completed the Allied Acquisition. Allied's
results of operations have been included in the Company's results of
operations since June 23, 1994. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations-General."
(c) In the second quarter of 1996, the Company recorded certain pre-tax
charges of a non-recurring nature including additional charges related to the
restructuring of operations following the Merger. The Company recorded a
restructuring charge totaling $13.0 million for the shutdown of its La Jolla,
California administrative facility and other workforce reductions. In
addition, the Company recorded $10.0 million in non-recurring charges in the
second quarter of 1996 related to the integration of its operations following
the Merger. See Note 3 of the Notes to Consolidated Financial Statements. As
a result of negotiations with the OIG and DOJ related to the 1996 Government
Settlement, the Company recorded the Settlement Charge of $185.0 million in
the third quarter of 1996 to increase accruals for settlements and related
expenses of government and private claims resulting from these investigations.
See "Regulation and Reimbursement-OIG Investigations-1996 Government
Settlement."
(d) In 1995, following the Merger, the Company determined that it would be
beneficial to close certain laboratory facilities and eliminate duplicate
functions in certain geographic regions where duplicate NHL and RBL facilities
or functions existed at the time of the Merger. The Company recorded pre-tax
restructuring charges of $65.0 million in connection with these plans. See
Note 3 of the Notes to Consolidated Financial Statements which sets forth the
Company's restructuring activities for the years ended December 31, 1997 and
1996. Also in 1995, the Company recorded a pre-tax special charge of $10.0
million in connection with the estimated costs of settling various claims
pending against the Company, substantially all of which were billing disputes
with various third party payors relating to the contention that NHL improperly
included tests for HDL cholesterol and serum ferritin in its basic test
profile without clearly offering an alternative profile that did not include
these medical tests. As of December 31, 1997, the majority of these disputes
have been settled.
(e) In connection with the repayment in 1995 of existing revolving credit and
term loan facilities in connection with the Merger, the Company recorded an
extraordinary loss of approximately $13.5 million ($8.3 million, net of tax),
consisting of the write-off of deferred financing costs, related to the early
extinguishment of debt.
(f) Long term obligations include capital lease obligations of $5.8 million,
$9.8 million, $9.6 million, $9.8 million and $9.7 million at December 31,
1997, 1996, 1995, 1994 and 1993, respectively. Long-term obligations also
include the long-term portion of the expected value of future contractual and
contingent amounts to be paid to the former principals of acquired
laboratories. Such payments are principally based on a percentage of future
revenues derived from the acquired customer lists or specified amounts to be
paid over a period of time. At December 31, 1997, 1996, 1995, 1994 and 1993,
such amounts were $9.6 million, $14.8 million, $14.7 million, $8.5 million,
and $15.9 million, respectively. Long term obligations exclude amounts due to
affiliates.
(g) In December 1996, Roche loaned $187.0 million to the Company to fund the
Settlement Payment in the form of a promissory note. Such note bore interest
at a rate of 6.625% per annum and was repaid in June, 1997 with proceeds from
the Preferred Stock Offering. The remaining amounts shown represent trade
payables to affiliated companies.
(h) During the fourth quarter of 1997 the Company recorded a provision for
doubtful accounts of $182.0 million, which was approximately $160.0 million
greater than the amount recorded in the fourth quarter of 1996 and a $22.7
million provision for restructuring certain laboratory operations.
(i) For the purpose of calculating the ratio of earnings to combined fixed
charges and preferred stock dividends (i) earnings consist of income before
provision for income taxes and fixed charges and (ii) fixed charges consist of
interest expense and one-third of rental expense which is deemed
representative of an interest factor. For the years ended December 31, 1997
and 1996, earnings were insufficient to cover fixed charges and preferred
stock dividends by $196.8 million and $188.3 million, respectively.
</FN>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
GENERAL
The Company grew significantly through 1995, substantially through
acquisitions. Prior to April 28, 1995, the Company's name was National Health
Laboratories Holdings Inc. ("NHL"). In April 1995, the Company completed the
Merger with RBL. In connection with the Merger, the Company issued 61,329,256
shares of Common Stock to HLR and Roche in exchange for all outstanding shares
of RBL and $135.7 million in cash. The exchange consideration of
approximately $558.0 million for the purchase of RBL consisted of the value of
the stock issued to HLR and Roche, as well as other cash costs of the Merger,
net of cash received from HLR. In June 1994, the Company acquired Allied for
approximately $191.5 million in cash plus the assumption of $24.0 million of
Allied indebtedness. The Allied Acquisition and the Merger have been
accounted for under the purchase method of accounting; as such, the acquired
assets and liabilities were recorded at their estimated fair values on the
date of acquisition. Allied's and RBL's results of operations have been
included in the Company's results of operations since June 23, 1994 and
April 28, 1995, respectively. See Note 2 of the Notes to Consolidated
Financial Statements. In addition to the Merger and the Allied Acquisition,
since 1993, the Company has acquired a total of 57 small clinical laboratories
with aggregate annual sales of approximately $182.4 million.
Following the Merger in 1995, the Company determined that it would be
beneficial to close certain laboratory facilities and eliminate duplicate
functions in certain geographic regions where both NHL and RBL facilities or
functions existed at the time of the Merger. The Company recorded
restructuring charges of $65.0 million in connection with these plans in 1995.
In addition, in the second quarter of 1995, the Company recorded an
extraordinary loss of $8.3 million, net of taxes, related to early
extinguishment of debt related to the Merger. In the second quarter of 1996,
the Company recorded certain additional charges related to the restructuring
of operations following the Merger. The Company recorded a restructuring
charge totaling $13.0 million for the shutdown of its La Jolla, California
administrative facility and other workforce reductions and $10.0 million in
non-recurring charges related to the integration of its operations following
the Merger. During the fourth quarter of 1997, the Company recorded pre-tax
charges of $22.7 million, related primarily to the downsizing of its Long
Island, New York facility and the future consolidation into its Raritan, New
Jersey facility. This amount includes approximately $5.2 million for
severance and $12.5 million for the future lease obligation and other
facilities related charges. The net workforce reduction as a result of this
activity is expected to be approximately 260 employees, primarily in the
laboratory's operations. See Note 3 of the Notes to Consolidated Financial
Statements. Future cash payments under restructuring plans are expected to be
$21.8 million in the year ended December 31, 1998 and $16.8 million
thereafter.
In the last several years, the Company's business has been affected by
significant government regulation, price competition and increased influence
of managed care organizations resulting from payors' efforts to control the
cost, utilization and delivery of health care services. As a result of these
factors, the Company's profitability has been impacted by changes in the
volume of testing, the prices and costs of its services, the mix of payors and
the level of bad debt expense.
Many market-based changes in the clinical laboratory business have
occurred, most involving the shift away from traditional, fee-for-service
medicine to managed-cost health care. The growth of the managed care sector
presents various challenges to the Company and other independent clinical
laboratories. Managed care providers typically contract with a limited number
of clinical laboratories and negotiate discounts to the fees charged by such
laboratories in an effort to control costs. Such discounts have resulted in
price erosion and have negatively impacted the Company's operating margins.
In addition, managed care organizations have used capitated payment contracts
in an attempt to promote more efficient use of laboratory testing services.
Under a capitated payment contract, the clinical laboratory and the managed
care organization agree to a per month payment to cover all laboratory tests
during the month, regardless of the number or cost of the tests actually
performed. Such contracts also shift the risks of additional testing beyond
that covered by the capitated payment to the clinical laboratory. The
increase in managed care has also resulted in declines in the utilization of
laboratory testing services. For the three years ended December 31, 1997,
such contracts accounted for approximately $88.8, $64.5 and $58.8 million in
net sales, respectively.
In addition, Medicare (which principally serves patients 65 and older)
and Medicaid (which principally serves indigent patients) and insurers, have
increased their efforts to control the cost, utilization and delivery of
health care services. Measures to regulate health care delivery in general
and clinical laboratories in particular have resulted in reduced prices, added
costs and decreasing test utilization for the clinical laboratory industry by
increasing complexity and adding new regulatory and administrative
requirements. From time to time, Congress has also considered changes to the
Medicare fee schedules in conjunction with certain budgetary bills. Any
future changes to the Medicare fee schedules cannot be predicted at this time
and management, therefore, cannot predict the impact, if any, such proposals,
if enacted, would have on the results of operations or financial condition of
the Company.
These market-based factors have had a significant adverse impact on the
clinical laboratory industry, and on the Company's profitability. Management
expects that price erosion and utilization declines will continue to
negatively impact net sales and results of operations for the foreseeable
future. The Company has expanded its efforts to improve the profitability of
new and existing business. To date this effort has focused primarily on
reviewing existing contracts, including those with managed care organizations,
and selectively repricing or discontinuing business with existing accounts
which perform below Company expectations. In 1997, the Company initiated price
increases across most of its business lines, including specialty and niche
testing, which have not seen price increases since the Merger. While such
increases may adversely affect volumes, the Company believes that such
measures, along with other cost reduction programs, will improve its overall
profitability. There can be no assurance, however, of the timing or success
of such measures or that the Company will not lose market share as a result of
these measures. Finally, the Company is reviewing its sales organization and
expects to modify its commission structure so that compensation is tied more
directly to the profitability of retained and new business instead of the
current practice of basing commissions primarily on revenue generated. The
Company is also reviewing alternatives relating to regions of the country and
certain businesses where profitability is not reaching internal goals and may
enter into joint ventures, alliances, or asset swaps with interested parties
in order to maximize regional operating efficiencies.
As a result of the Merger, the Company realized substantial savings in
operating costs through the consolidation of certain operations and the
elimination of redundant expenses. Such savings have been realized over time
as the consolidation process was completed. The realization of the savings was
partially offset by increased temporary help and overtime expenses during the
consolidation process. In addition, these savings were largely offset by price
erosion and utilization declines resulting from the increase in managed care
and, to a lesser extent, from increases in other expenses such as bad debt
expense as discussed below. The Company is focused on additional initiatives
which are expected to achieve incremental cost savings in 1998. These plans
include further regional laboratory consolidation, a new agreement with a
supplier of telecommunications services and additional supply savings
primarily due to changes in supply inventory management procedures. There can
be no assurance that the estimated additional cost savings expected to be
achieved will be realized or achieved in a timely manner or that improvements,
if any, in profitability will be achieved or that such savings will not be
offset by increases in other expenses.
IMPACT OF THE YEAR 2000 ISSUE
The Year 2000 Issue is the result of computer programs being written
using two digits rather than four to define the applicable year. Any of the
Company's computer programs that have date-sensitive software may recognize a
date using "00" as the year 1900 rather than the year 2000. This could result
in a system failure or miscalculations causing disruptions of operations,
including, among other things, a temporary inability to process transactions,
send invoices or engage in similar normal business activities.
Based on an assessment completed in 1996, the Company determined that it
will be required to modify or replace significant portions of its software so
that its computer systems will properly utilize dates beyond December 31,
1999. The Company currently believes that with modifications to existing
software and conversions to new software, the Year 2000 Issue can be
mitigated. However, if such modifications and conversions are not made, or are
not completed timely, the Year 2000 Issue could have a material impact on the
operations of the Company.
The Company intends to initiate formal communications with all of its
significant suppliers and large customers in 1998 to determine the extent to
which the Company is vulnerable to those third parties' failure to remediate
their own Year 2000 Issue. The Company's total Year 2000 project cost and
estimates to complete include the estimated costs and time associated with the
impact of a third party's Year 2000 Issue, and are based on currently
available information. However, there can be no guarantee that the systems of
other companies on which the Company's systems rely will be timely converted,
or that a failure to convert by another company, or a conversion that is
incompatible with the Company's systems would not have material adverse effect
on the Company.
The Company will utilize both internal and external resources to
reprogram, or replace, and test the software for Year 2000 modifications. The
Company plans to complete the Year 2000 project not later than December 31,
1999. The total remaining cost of the Year 2000 project is estimated at
approximately $5.0 million and is expected to be funded through operating cash
flows. This cost will be expensed as incurred over the next two years and is
not expected to have a material effect on the results of operations. To date,
the Company has incurred and expensed approximately $2.0 million related to
the assessment of, and preliminary efforts in connection with, its Year 2000
project and the development of a remediation plan.
The costs of the project and the date on which the Company plans to
complete the Year 2000 modifications are based on management's best estimates,
which were derived utilizing numerous assumptions of future events, including
the continued availability of certain resources, third party modification
plans and other factors. However, there can be no guarantee that these
estimates will be achieved and actual results could differ materially from
those plans. Specific factors that might cause such material differences
include, but are not limited to, the availability and cost of personnel
trained in this area, the ability to locate and correct all relevant computer
codes and similar uncertainties.
SEASONALITY
Volume of testing generally declines during the summer months, year-end
holiday periods and other major holidays, resulting in net revenues and cash
flows in the third and fourth quarter below the annual average. In addition,
volume declines due to inclement weather may reduce net revenues and cash
flows. Therefore, comparison of the results of successive quarters may not
accurately reflect trends or results for the full year.
RESULTS OF OPERATIONS
YEAR ENDED DECEMBER 31, 1997 COMPARED WITH YEAR ENDED DECEMBER 31, 1996.
Net sales for 1997 were $1,519.0 million, a decrease of approximately 5.5%
from $1,607.7 million reported in the comparable 1996 period. Sales declined
approximately 6.5% as a result of lower testing volume, which is a result of
industry-wide trends as well as the Company's program of selectively
eliminating unprofitable accounts and carefully evaluating the acceptability
of new business. The decline in sales resulting from volume declines was
partially offset by an increase in price per accession of approximately 1.0%
from the comparable 1996 period. The increase in the price per accession was
a direct result of the Company's effort to negotiate better pricing on new
contracts, raising prices on existing contracts that do not meet Company
profitability targets and other pricing initiatives discussed in the "General"
section above.
Cost of sales, which includes primarily laboratory and distribution costs,
was $1,080.5 million for 1997 compared to $1,183.9 million in the
corresponding 1996 period, a decrease of 8.7%. Cost of sales decreased
approximately $76.1 million due to the decrease in volume, approximately $21.3
million due to a decrease in salaries and benefits and approximately $13.8
million primarily relating to data processing supplies, request forms and
freight expense as a result of the Company's cost reduction programs and lower
volume. These decreases were partially offset by an increase in salaries due
to scheduled salary increases and supply costs resulting primarily from an
increase in volume in the Company's specialty and niche testing areas. Cost
of sales as a percentage of net sales was 71.1% for 1997 and 73.6% in the
corresponding 1996 period. The decrease in the cost of sales percentage of net
sales primarily resulted from the cost reduction efforts mentioned above.
Selling, general and administrative expenses increased to $477.2 million
in 1997 from $305.0 million in the same period in 1996 representing an
increase of $172.2 million or 56.5%. The increase in 1997 was partially offset
by decreases in telephone and insurance categories aggregating approximately
$33.4 million. During the fourth quarter of 1997, the Company recorded a
provision for doubtful accounts of $182.0 million, which was approximately
$160.0 million greater than the amount recorded in the fourth quarter of 1996.
This charge was made to increase the allowance for doubtful accounts to a
level that management believes is appropriate to reduce its accounts
receivable to the net amount that management believes will ultimately be
collected.
Selling, general and administrative expenses were 31.4% and 19.0% as a
percentage of net sales in 1997 and 1996, respectively. The increase in the
selling, general and administrative percentage primarily resulted from
increased employee and consulting expenses related to billing and collection
activities and the increases in the provision for doubtful accounts discussed
above and, to a lesser extent, from a reduction in net sales due to
utilization declines, which provided little corresponding reduction in costs.
The Company has experienced a deterioration in the timeliness of cash
collections and a corresponding increase in accounts receivable. The primary
causes of this situation are the increased medical necessity and related
diagnosis code requirements from third-party payors and the complexities in
the billing process (data capture) arising from changing requirements of
private insurance companies (managed care). Management previously believed
that this deterioration in the timeliness of cash collections would not have
any significant impact on the ultimate collectability of the receivables.
In late 1996, to address the deteriorating cash collections, management
developed various short-term improvement projects ("initiatives") that it
anticipated would improve the timeliness of collections by the end of 1997.
Initially, it appeared that these initiatives were having a positive impact,
as the growth in the Company's Days' Sales Outstanding (DSO) stabilized in the
first and second quarters of 1997. However, during the third quarter of 1997,
despite continuing focused efforts on the initiatives, the Company's DSO began
increasing again. In response, management intensified its efforts on the
aforementioned initiatives and added new initiatives for the purpose of
significantly lowering the DSO by December 31, 1997.
In the fourth quarter of 1997, management evaluated the initiatives'
overall effect and concluded that, while helpful in improving certain
processes, they had not had any significant impact on improving the Company's
cash collections on aged receivables. In recognition of the Company's
inability to enhance collections on a sustained basis, an increase in the
allowance for doubtful accounts was considered necessary by management.
The Company also recorded pre-tax charges in the fourth quarter of 1997
of $22.7 million, related primarily to the downsizing of its Long Island, New
York facility and the future consolidation into its Raritan, New Jersey
facility.
In the second quarter of 1996, the Company recorded additional pre-tax
charges related to the restructuring of operations. The Company recorded a
restructuring charge totaling $13.0 million for the shutdown of its La Jolla,
California administrative facility and other workforce reductions. In
addition, the Company recorded $10.0 million of non-recurring charges in the
second quarter of 1996 related to the abandonment of certain data processing
systems, relocation of its principal drug testing facility and various other
items, including the write-off of certain laboratory testing supplies related
to changes in testing methodologies designed to increase efficiency.
As a result of negotiations related to the 1996 Government Settlement,
the Company recorded the Settlement Charge of $185.0 million in the third
quarter of 1996 to increase reserves for the 1996 Government Settlement
described above.
Net interest expense was $69.3 million in 1997 compared to $69.5 million
in 1996. See "Liquidity and Capital Resources."
As a result of the bad debt and restructuring and non-recurring charges
taken in 1997 and 1996, the provision for income taxes is not comparable
between periods. However, before charges, the Company's effective income tax
rate in 1997 increased from 1996 as a result of net loss carry back
limitations.
At December 31, 1997, the Company had net deferred tax assets of $77.7
million in its consolidated balance sheet. These net assets included gross
deferred tax liabilities of $65.3 million and a valuation allowance of $42.0
million. This compares to a deferred tax asset of $27.5 million, net of gross
deferred tax liabilities of $82.4 million and a valuation allowance of $32.0
million as of December 31, 1996. The Company believes that it is more likely
than not that the results of future operations and carry back availability
will generate sufficient taxable income to realize the remaining deferred tax
assets.
YEAR ENDED DECEMBER 31, 1996 COMPARED WITH YEAR ENDED DECEMBER 31, 1995.
Net sales increased by $175.7 million to $1,607.7 million in 1996, an
increase of 12.3% from $1,432.0 million reported in 1995. The inclusion of
RBL as a result of the Merger increased net sales by approximately $243.5
million or 17.0%. Acquisitions of small clinical laboratory companies
increased net sales by approximately 1.8%. Also contributing to the increases
in net sales was growth in new accounts and price increases in selective
markets. Such increases were partially offset by price erosion in the
industry as a whole, lower utilization of laboratory testing and lost
accounts. Price erosion and lower utilization of laboratory testing primarily
resulted from continued changes in payor mix brought on by the increase in
managed care. A reduction in Medicare fee schedules from 80% to 76% of the
national limitation amounts on January 1, 1996, reduced net sales by
approximately 1.3%. Severe weather in January and February of 1996 also
negatively impacted net sales.
Cost of sales, which includes primarily laboratory and distribution
costs, increased to $1,183.9 million in 1996 from $1,024.3 million in 1995.
Of the $159.6 million increase, approximately $181.9 million or 17.8% was due
to the inclusion of the cost of sales of RBL. Cost of sales increased (i)
approximately $23.8 million as a result of wage increases prior to the
implementation of a six-month deferral on wage rate increases implemented on
July 1, 1996; (ii) approximately $5.0 million as a result of higher overtime
and temporary employee expenses related to the acceleration of the Company's
synergy program and other operational factors; (iii) approximately $7.5
million due to higher depreciation and maintenance of lab equipment as a
result of the Company's purchase in 1996 of more sophisticated equipment to
improve efficiency; and (iv) approximately $8.0 million in outside collection
and reference testing fees. These increases were partially offset by decreases
due to lower volume of approximately $14.7 million. Additional decreases in
salaries and benefits of $49.5 million and several other expense categories
aggregating approximately $2.4 million were primarily a result of the
Company's synergy and cost reduction programs. Cost of sales as a percentage
of net sales was 73.6% in 1996 and 71.5% in 1995. The increase in the cost of
sales percentage of net sales primarily resulted from a reduction in net sales
due to price erosion and utilization declines, each of which provided little
corresponding reduction in costs, and, to a lesser extent, due to severe
weather in January and February of 1996 and a reduction in Medicare fee
schedules.
Selling, general and administrative expenses increased to $305.0 million
in 1996 from $238.5 million in the same period in 1995, representing an
increase of $66.5 million or 27.9%. The inclusion of the selling, general and
administrative expenses of RBL since April 28, 1995 increased expenses by
approximately $36.5 million or 15.3%. Increases in salaries, overtime and
temporary employee expenses, primarily related to billing issues, and related
telephone and data processing costs, aggregated approximately $24.8 million.
Also, increased medical necessity and related diagnosis code requirements of
third-party payors placed on the Company in late 1995 and additional
requirements placed on the Company at the beginning of 1996 have resulted in
lower collection rates. As a result the provision for doubtful accounts for
1996 increased approximately $16.7 million, including a charge of $10.0
million in the second quarter of 1996 compared to 1995 which included a $15.0
million charge in the fourth quarter of 1995. The 1995 charge was necessitated
by the deterioration in the Company's accounts receivable collection rates in
the fourth quarter of 1995 primarily due to the effect of increased medical
necessity and diagnosis code requirements of third party payors placed on the
Company in the second half of 1995. Additional such requirements were placed
on the Company at the beginning of 1996, which resulted in a further
deterioration in accounts receivable collection rates in the second quarter of
1996. As a result of this further deterioration, the Company recorded the
charge of $10.0 million in the second quarter of 1996. In addition, the
Company increased its monthly provision for doubtful accounts beginning in the
third quarter of 1996 as a result of continued lower collection rates. These
increases were partially offset by decreases in legal expenses, excluding
settlement expenses, insurance and several other expense categories
aggregating approximately $1.9 million. Selling, general and administrative
expenses were 19.0% and 16.7% as a percentage of net sales in 1996 and 1995,
respectively. The increase in the selling, general and administrative
percentage primarily resulted from increased employee expenses related to
billing and collection activities and the increases in the provision for
doubtful accounts discussed above and, to a lesser extent, from a reduction in
net sales due to price erosion and utilization declines, each of which
provided little corresponding reduction in costs.
In the second quarter of 1996, the Company recorded certain pre-tax
charges of a non-recurring nature, including additional charges related to the
restructuring of operations. The Company recorded a restructuring charge
totaling $13.0 million for the shutdown of its La Jolla, California
administrative facility and other workforce reductions. In addition, the
Company recorded $10.0 million of non-recurring charges in the second quarter
of 1996 related to the abandonment of certain data processing systems,
relocation of its principal drug testing facility and various other items,
including the write-off of certain laboratory testing supplies related to
changes in testing methodologies to increase efficiency.
As a result of negotiations related to the 1996 Government Settlement,
the Company recorded the Settlement Charge of $185.0 million in the third
quarter of 1996 to increase reserves for the 1996 Government Settlement
described above, and other related expenses of government and private claims
resulting therefrom.
The increase in amortization of intangibles and other assets to $29.6
million in 1996 from $27.0 million in 1995 primarily resulted from the Merger
in April 1995.
Net interest expense was $69.5 million in 1996 compared to $64.1 million
in 1995. The increase resulted primarily from increased borrowings due to
higher accounts receivable balances and a higher effective borrowing rate as a
result of an amendment to the Company's credit agreement. See "Liquidity and
Capital Resources."
As a result of the restructuring and non-recurring charges in 1996 and
1995, the provision for income taxes is not comparable between periods.
However, before charges, the Company's effective income tax rate in 1996 has
increased from 1995 as a result of increased non-deductible amortization and
lower earnings before income taxes.
LIQUIDITY AND CAPITAL RESOURCES
Net cash provided by (used for)operating activities was $144.4 million,
$(174.5) million and $51.1 million, in 1997, 1996 and 1995, respectively. The
increase in cash flow from operations in 1997 primarily resulted from an
income tax refund, decreases in accounts receivable and the fact that the 1996
cash flows from operations were negatively impacted by the payment of $187.0
million for the 1996 Government Settlement.
Capital expenditures were $34.5 million, $69.9 million and $87.3 million
for 1997, 1996 and 1995, respectively. The Company expects capital
expenditures to be approximately $70.0 million in 1998 and $72.5 million in
1999 to improve billing systems and further automate laboratory processes.
Such expenditures are expected to be funded by cash flow from operations as
well as borrowings under the Company's credit facilities.
The Company has experienced a deterioration in the timeliness of cash
collections and a corresponding increase in accounts receivable. The primary
causes of this situation are the increased medical necessity and related
diagnosis code requirements from third-party payors and the complexities in
the billing process (data capture) arising from changing requirements of
private insurance companies (managed care). Management previously believed
that this deterioration in the timeliness of cash collections would not have
any significant impact on the ultimate collectability of the receivables.
In late 1996, to address the deteriorating cash collections, management
developed various short-term improvement projects ("initiatives") that it
anticipated would improve the timeliness of collections by the end of 1997.
Initially, it appeared that these initiatives were having a positive impact,
as the growth in the Company's Days' Sales Outstanding (DSO) stabilized in the
first and second quarters of 1997. However, during the third quarter of 1997,
despite continuing focused efforts on the initiatives, the Company's DSO began
increasing again. In response, management intensified its efforts on the
aforementioned initiatives and added new initiatives for the purpose of
significantly lowering the DSO. There can be no assurance of the success of
the Company's plans to improve collections. However, the Company expects
accounts receivable balances to stabilize and possibly decline in the future.
On May 19, 1997 the Board of Directors of the Company declared a dividend
of 10,000,000 transferable subscription rights which were then issued pro rata
to holders of its common stock on May 29, 1997 entitling them to purchase up
to an aggregate of $500.0 million of convertible preferred stock issuable in
two series at a subscription price of $50 per share. The subscription period
ended on June 16, 1997. On that date, rights were exercised to purchase
4,363,202 shares of Series A 8 1/2% Convertible Exchangeable Preferred Stock
("Series A") and 5,636,798 shares of Series B 8 1/2% Convertible Pay-in-Kind
Preferred Stock, ("Series B"), each at a subscription price of $50 per share.
Roche exercised its basic subscription privilege in full for 4,988,751 shares
of Series B and other rights holders purchased the remaining 5,011,249 shares.
In connection with the Merger, the Company entered into a credit
agreement with the banks named therein and an administrative agent (the
"Existing Credit Agreement"), which made available to the Company a term loan
facility (the "Term Loan Facility") of $800.0 million and a revolving credit
facility (the "Revolving Credit Facility") of $450.0 million.
In March 1997, the Company entered into an amended credit agreement which
became effective upon completion of the Preferred Stock Offering following
satisfaction of certain conditions precedent (the "Amended and Restated Credit
Agreement"). The Amended and Restated Credit Agreement made available to the
Company senior unsecured credit facilities in the form of an amended term loan
Facility of $693.8 million and an amended revolving credit facility of $450.0
million (the "Amended Term Loan Facility" and "Amended Revolving Credit
Facility," respectively).
The Amended Revolving Credit Facility includes a $50.0 million letter of
credit sublimit. The Amended and Restated Credit Agreement maturity dates are
extended approximately three years for the Amended Term Loan Facility to March
31, 2004 and approximately two years for the Amended Revolving Credit Facility
to March 31, 2002.
Both the Amended Term Loan Facility and the Amended Revolving Credit
Facility bear interest, at the option of the Company, at (i) the base rate
plus the applicable base rate margin or (ii) the Eurodollar rate plus the
applicable Eurodollar rate margin. The Amended and Restated Credit Agreement
provides that in the event of a reduction of the percentage of Common Stock
held by Roche and its affiliates (other than the Company and its subsidiaries)
below 25%, the applicable interest margins and facility fees on borrowings
outstanding under the Amended and Restated Credit Agreement will increase.
The amount of the increase will depend, in part, on the leverage ratio of the
Company at the time of such reduction. Future interest margins on borrowings
outstanding under the Amended and Restated Credit Agreement will be based upon
the performance level of the Company as defined therein.
Under the Amended and Restated Credit Agreement, maturities under the
Amended Term Loan Facility, after the payment of $50.0 million from proceeds
of the Preferred Stock Offering, aggregate $46.4 million in 1999, $92.8
million in 2000, $139.2 million in 2001 through 2003 and $87.0 million in
2004.
The amounts available under the Amended Revolving Credit Facility are
subject to certain mandatory permanent reduction and prepayment requirements
and the Amended Term Loan Facility is subject to specified mandatory
prepayment requirements. In the Amended and Restated Credit Agreement,
required amounts are first to be applied to repay scheduled Amended Term Loan
Facility payments until the Amended Term Loan Facility is repaid in full and
then to reduce the commitments and advances under the Amended Revolving Credit
Facility. Required payments and reductions include (i) the proceeds of debt
issuances, subject to certain exceptions; (ii) the proceeds of certain asset
sales, unless reinvested within one year of the applicable asset sale in
productive assets of a kind then used or usable in the business of the Company
and its subsidiaries; (iii) the proceeds of sales of equity securities in
excess of certain amounts; and (iv) under certain circumstances, a percentage
of excess cash flow, as calculated annually.
The Amended and Restated Credit Agreement contains financial covenants
with respect to a leverage ratio, an interest coverage ratio, minimum
shareholders' equity and excess cash flow. A portion of the proceeds of the
Preferred Stock Offering were used to repay approximately $50.0 million under
the Amended Term Loan Facility and $242.0 million under the Amended Revolving
Credit Facility.
Effective December 31, 1997, the Company negotiated an amendment to the
Amended and Restated Credit Agreement, covering both long-term and revolving
credit, of certain covenants contained in the agreement. The amendment
excludes certain actual expenses incurred during the fourth quarter of 1997
from interest coverage and leverage ratio calculations applicable to the
quarters ended December 31, 1997 through September 30, 1998. The amendment
also excludes these expenses from certain other covenant calculations
applicable to the quarter ending December 31, 1997 and all quarterly periods
thereafter.
Borrowings under the Amended Revolving Credit Facility were $40.0 million
as of December 31, 1997 in addition to $26.1 million of letters of credit
which encumbered the facility as of December 31, 1997. The Roche Loan of
$187.0 million, which was borrowed in December 1996, was repaid with a
portion of the proceeds from the Preferred Stock Offering in June 1997. Cash
and cash equivalents on hand, cash flow from operations and additional
borrowing capabilities of $383.9 million under the Amended Revolving Credit
Facility as of December 31, 1997 are expected to be sufficient to meet
anticipated operating requirements, debt repayments and provide funds for
capital expenditures and working capital through 1998.
At December 31, 1997, the Company continued to be a party to interest
rate swap agreements with certain major financial institutions, rated A or
better by Moody's Investor Service, solely to manage its interest rate
exposure with respect to $600.0 million of floating rate debt to a weighted
average fixed interest rate of 5.95%, through requiring that the Company pay a
fixed rate amount in exchange for the financial institutions paying a floating
rate amount. Amounts paid by the Company in 1997 were $1.7 million. The
notional amounts of the agreements are used to measure the interest to be paid
or received and do not represent the amount of exposure to credit loss. These
agreements mature in September 1998. The estimated cost at which the Company
could terminate such agreements was $0.4 million at December 31, 1997.
The Company, in connection with the Allied Acquisition in 1994,
discontinued its dividend payments for the foreseeable future. In addition,
the Amended and Restated Credit Agreement places certain restrictions,
as defined in the credit agreement, on the payment of dividends.
CAUTIONARY STATEMENT FOR PURPOSES OF THE "SAFE HARBOR" PROVISIONS OF THE
PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
The Private Securities Litigation Reform Act of 1995 provides a "safe
harbor" for forward-looking statements so long as those statements are
identified as forward-looking and are accompanied by meaningful cautionary
statements identifying important factors that could cause actual results to
differ materially from those projected in the statement. Included herein are
certain forward-looking statements concerning the Company's operations,
economic performance and financial condition, including, in particular,
forward-looking statements regarding the Company's expectation of future
performance following implementation of its new business strategy. Such
statements are subject to various risks and uncertainties. Accordingly, the
Company hereby identifies the following important factors that could cause the
Company's actual financial results to differ materially from those projected,
forecast, estimated or budgeted by the Company in such forward-looking
statements.
(a) Heightened competition, including the intensification of price
competition.
(b) Impact of changes in payor mix, including the shift from
traditional, fee-for-service medicine to managed-cost health care.
(c) Adverse actions by governmental or other third-party payors,
including unilateral reduction of fee schedules payable to the
Company.
(d) The impact upon the Company's collection rates or general or
administrative expenses resulting from compliance with
Medicare administrative policies, including specifically the
HCFA's recent requirement that laboratories performing
certain automated blood chemistry profiles obtain and provide
documentation of the medical necessity of tests included in the
profiles for each Medicare beneficiary.
(e) Adverse results from investigations of clinical laboratories by the
Federal Bureau ofinvestigation and the OIG, including specifically
significant monetary damages and/or exclusion from the Medicare
and Medicaid programs.
(f) Failure to obtain new customers, retain existing customers or
reductions in tests ordered or specimens submitted by existing
customers.
(g) Adverse results in significant litigation matters, specifically
including claims brought by the purported class action of
certain patients, private insurers and benefit plans.
(h) Denial of certification or licensure of any of the Company's
clinical laboratories under CLIA, by Medicare and Medicaid programs
or other Federal, state or local agencies.
(i) Adverse publicity and news coverage about the Company or the
clinical laboratory industry.
(j) Inability to carry out marketing and sales plans.
(k) Inability to successfully integrate the operations of or fully
realize the costs savings expected from the consolidation of certain
operations and the elimination of duplicative expenses resulting
from the April 28, 1995 merger of the Company and RBL or risk that
declining revenues or increases in other expenses will offset such
savings.
(l) Ability of the Company to attract and retain experienced and
qualified personnel.
(m) Changes in interest rates causing an increase in the Company's
effective borrowing rate.
(n) The effect of the Company's effort to improve account profitability
by selectively repricing or discontinuing business with existing
accounts which perform below Company expectations.
(o) Inability to successfully consolidate the Company's many billing
systems and harness the operational efficiencies therefrom.
(p) Inability to improve the front end data capture of information
necessary to generate timely and accurate bills for services
rendered.
(q) Inability to successfully implement the Company's Year 2000
readiness plan.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Reference is made to the Index on Page F-1 of the
Financial Report included herein.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE
Not Applicable.
PART III
The information required by Part III, Items 10 through 13, of Form 10-K
is incorporated by reference from the registrant's definitive proxy statement
for its 1997 annual meeting of stockholders, which is to be filed pursuant to
Regulation 14A not later than April 30, 1997.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) List of documents filed as part of this Report:
(1) Consolidated Financial Statements and Independent
Auditors' Reports included herein:
See Index on page F-1
(2) Financial Statement Schedules:
See Index on page F-1
All other schedules are omitted as they are inapplicable or the required
information is furnished in the Consolidated Financial Statements or notes
thereto.
(3) Index to and List of Exhibits
(a) Exhibits:*
Exhibits 10.1 through 10.3 and 10.6 through 10.13 are management
contracts or compensatory plans or arrangements.
2.1 - Agreement and Plan of Merger among the Company, NHL Sub
Acquisition Corp. and NHLI (incorporated herein by reference
to the Company's Registration Statement on Form S-4
filed with the Securities and Exchange Commission
(the "Commission") on March 14, 1994, File No. 33-52655
(the "1994 S-4")).
2.2 - Agreement and Plan of Merger dated as of May 3, 1994 of NHLI
and N Acquisition Corp. (incorporated herein by reference to
Exhibit (c)(1) of Schedule 14D-1 and Schedule 13D
("Schedule 14D-1 and Schedule 13D") filed with the Commission
on May 9, 1994).
2.3 - Agreement dated as of June 7, 1994, among N Acquisition Corp.,
the Company and NHLI (incorporated herein by reference to
Exhibit (c)(7) of amendment No. 2 to Schedule 14D-1 and
Schedule 13D of NHLI and N Acquisition Corp filed with
the Commission on June 8, 1994).
2.4 - Agreement and Plan of Merger dated as of December 13, 1994
among the Company, HLR Holdings Inc., Roche Biomedical
Laboratories, Inc. and (for the purposes stated therein)
Hoffmann-La Roche Inc. (incorporated herein by reference
to the Company's Annual Report on Form 10-K for the year
ended December 31, 1994 filed with the Commission on March 3,
1995, File No. 1- 11353 (the "1994 10-K")).
2.5 - Stock Purchase Agreement dated December 30, 1994 between
Reference Pathology Holding Company, Inc. and Allied
Clinical Laboratories, Inc. ("Allied") (incorporated herein
by reference to the 1994 10-K).
3.1 - Certificate of Incorporation of the Company (amended pursuant
to a Certificate of Merger filed on April 28, 1995)
(incorporated by reference herein to the report on Form 8-K
dated April 28, 1995, filed with the Commission on May 12,
1995, File No. 1-11353 (the "April 28, 1995 Form 8-K")).
3.2 - Amended and Restated By-Laws of the Company (incorporated
herein by reference to the April 28, 1995 Form 8-K).
4.1 - Warrant Agreement dated as of April 10, 1995 between the
Company and American Stock Transfer & Trust Company
(incorporated herein by reference to the April 28, 1995 Form
8-K).
4.2 - Specimen of the Company's Warrant Certificate (included in the
Exhibit to the Warrant Agreement included therein as Exhibit
4.1 hereto) (incorporated herein by reference to the April 28,
1995 Form 8-K).
4.3 - Specimen of the Company's Common Stock Certificate
(incorporated herein by reference to the April 28, 1995 Form
8-K).
10.1 - National Health Laboratories Incorporated Employees' Savings
and Investment Plan (incorporated herein by reference to
the Company's Annual Report on Form 10-K for the year
ended December 31, 1991 filed with the Commission on February
13, 1992, File No. 1-10740** (the "1991 10-K")).
10.2 - National Health Laboratories Incorporated Employees'Retirement
Plan (incorporated herein by reference to the Company's Annual
Report on Form 10-K for the year ended December 31, 1992
filed with the Commission on March 26, 1993, File No. 1-10740
(the "1992 10-K")).
10.3 - National Health Laboratories Incorporated Pension Equalization
Plan (incorporated herein by reference to the 1992 10-K).
10.4 - Settlement Agreement dated December 18, 1992 between the
Company and the United States of America (incorporated herein
by reference to the 1992 10-K).
10.5 - Settlement Agreement dated November 21, 1996 between the
Company and the United States of America.
10.6 - National Health Laboratories 1988 Stock Option Plan, as
amended (incorporated herein by reference to the Company's
Registration Statement on Form S-1 (No. 33-35782) filed
with the Commission on July 9, 1990 (the "1990 S-1")).
10.7 - National Health Laboratories 1994 Stock Option Plan
(incorporated herein by reference to the Company's
Registration Statement on Form S-8 filed with the Commission
on August 12, 1994, File No. 33-55065).
10.8 - Laboratory Corporation of America Holdings Performance Unit
Plan (incorporated by reference to Annex II of the Company's
1995 Annual Proxy Statement filed with the Commission on
August 17, 1995 (the "1995 Proxy")).
10.9 - Laboratory Corporation of America Holdings Annual Bonus
Incentive Plan (incorporated by reference to Annex III of the
1995 Proxy).
10.10 - Laboratory Corporation of America Holdings Master Senior
Executive Severance Plan (incorporated herein by reference to
the report on Form 8-K dated October 24, 1996
(the "October 24, 1996 8-K") filed with the Commission on
October 24, 1996, File No. 1-11353).
10.11 - Special Severance Agreement dated June 28, 1996 between the
Company and Timothy J. Brodnik (incorporated herein by
reference to the October 24, 1996 8-K).
10.12 - Special Severance Agreement dated July 12, 1996 between the
Company and John F. Markus (incorporated herein by reference
to the October 24, 1996 8-K).
10.13 - Special Severance Agreement dated June 28, 1996 between the
Company and Robert E. Whalen (incorporated herein by reference
to the October 24, 1996 8-K).
10.14 - Tax Allocation Agreement dated as of June 26, 1990 between
MacAndrews & Forbes Holding Inc., Revlon Group Incorporated,
New Revlon Holdings, Inc. and the subsidiaries of Revlon set
forth on Schedule A thereto (incorporated herein by reference
to the 1990 S-1).
10.15 - Loan Agreement dated August 1, 1991 among the Company,
Frequency Property Corp. and Swiss Bank Corporation, New York
Branch (incorporated herein by reference to the 1991 10-K).
10.16 - Sharing and Call Option Agreement dated as of December 13,1994
among HLR Holdings Inc., Roche Biomedical Laboratories, Inc.,
Mafco Holdings Inc., National Health Care Group, Inc. and (for
the purposes stated therein) the Company (incorporated by
reference herein to the 1994 10-K).
10.17 - Stockholder Agreement dated as of April 28, 1995 among the
Company, HLR Holdings Inc., Hoffmann-La Roche Inc. and Roche
Holdings, Inc. (incorporated herein by reference to the April
28, 1995 Form 8-K).
10.18 - Exchange Agent Agreement dated as of April 28, 1995 between
the Company and American Stock Transfer & Trust Company
(incorporated herein by reference to the April 28, 1995 Form
8-K).
10.19 - Credit Agreement dated as of April 28,1995, among the Company,
the banks named therein, and Credit Suisse (New York Branch),
as Administrative Agent (incorporated herein by reference to
the April 28, 1995 Form 8-K).
10.20 - First Amendment to Credit Agreement dated as of September 8,
1995 among the Company, the banks named therein, and Credit
Suisse (New York Branch), as Administrative Agent.
(incorporated by reference herein to the Company's Quarterly
Report on Form 10-Q for the quarter ended September 30, 1995
filed with the Commission on November 14, 1995, File No.
1-11353)
10.21 - Second Amendment to Credit Agreement dated as of February 16,
1996 among the Company, the banks named therein, and Credit
Suisse (New York Branch), as Administrative Agent
(incorporated herein by reference to the Company's Annual
Report on Form 10-K for the year ended December 31, 1995
filed with the Commission on March 29, 1996, File No.1-11353).
10.22 - Third Amendment and Second Waiver to Credit Agreement dated as
of July 10, 1996 among the Company, the banks named therein
and Credit Suisse (New York Branch) as Administrative Agent
(incorporated herein by reference to the Company's quarterly
report on Form 10-Q for the quarter ended June 30, 1996 filed
with the Commission on August 14, 1996, File No. 1-11353).
10.23 - Fourth Amendment to the Credit Agreement dated as of September
23, 1996 among the Company, the banks named therein and Credit
Suisse (New York Branch), as Administrative Agent
(incorporated herein by reference to the report in Form 8-K
dated September 23, 1996, filed with the Commission on
September 30, 1996, File No. 1-11353).
10.24 - Third Waiver to the Credit Agreement dated as of November 4,
1996 among the Company, the banks named therein and Credit
Suisse (New York Branch), as Administrative Agent
(incorporated herein by reference to the Company's quarterly
report on Form 10-Q for the quarter ended September 30,
1996 filed with the Commission on November 14, 1996, File No.
1-11353).
10.25 - Fifth Amendment and Fourth Waiver to the Credit Agreement
dated as of December 23, 1996 among the Company, the banks
named therein and Credit Suisse (New York Branch), as
Administrative Agent (incorporated herein by reference to the
report on Form 8-K filed with the Commission on January 6,
1997, File No. 1-11353(the "January 6, 1997 8-K")).
10.26 - Fifth Waiver to the Credit Agreement dated as of January 27,
1997 among the Company, the banks named therein and Credit
Suisse (New York Branch) as Administrative Agent.
10.27 - Sixth Amendment and Waiver to the Credit Agreement dated as of
March 31, 1997 among the Company, the banks named therein and
Credit Suisse First Boston as Administrative Agent.
10.28 - Amended and Restated Credit Agreement dated as of March 31,
1997 among the Company, the banks named therein and Credit
Suisse First Boston as Administrative Agent.
10.29* - Second Amendment to the Amended and Restated Credit Agreement
dated as of February 25, 1998 among the Company, the banks
named therein and Credit Suisse First Boston as Administrative
Agent.
10.30 - Laboratory Corporation of America Holdings 1995 Stock Plan for
Non-Employee Directors (incorporated by reference herein to
the report of Form S-8 dated September 26, 1995, filed with
the Commission on September 26, 1995).
10.31 - Laboratory Corporation of America Holdings 1997 Employee Stock
Purchase Plan (incorporated by reference herein to Annex I of
the Company's 1996 Annual Proxy Statement filed with the
Commission on October 25, 1996.
10.32 - Promissory note dated December 30, 1996 between the Company
and Roche Holdings Inc. (incorporated herein by reference to
the January 6, 1997 8-K).
10.33 - First Amendment to promissory note given by the Company to
Roche Holdings Inc.
12.1* - Statement regarding Computation of Ratio of Earnings to
Combined Fixed Charges and Preferred Stock Dividends
21.1 - List of Subsidiaries of the Company
23.1* - Consent of Price Waterhouse LLP
23.2* - Consent of KPMG Peat Marwick LLP
24.1* - Power of Attorney of Jean-Luc Belingard
24.2* - Power of Attorney of Wendy E. Lane
24.3* - Power of Attorney of Robert E. Mittelstaedt, Jr.
24.4* - Power of Attorney of James B. Powell, M.D.
24.5* - Power of Attorney of David B. Skinner
24.6* - Power of Attorney of Andrew G. Wallace, M.D.
27 - Financial Data Schedule (electronically filed version only).
(b) Reports on Form 8-K
None Filed
------------------------
* Filed herewith.
** Previously filed under File No. 0-17031 which has been corrected to File
No. 1-10740.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the Company has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
LABORATORY CORPORATION OF AMERICA HOLDINGS
------------------------------------------
Registrant
By:/s/ THOMAS P. MAC MAHON
------------------------------------
Thomas P. Mac Mahon
Chairman of the Board, President
and Chief Executive Officer
Dated: March 30, 1998
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed by the following persons on March 30, 1998 in the
capacities indicated.
Signature Title
--------- -----
/s/ THOMAS P. MAC MAHON Chairman of the Board,
-------------------------------------- President and Chief
Thomas P. Mac Mahon Executive Officer
(Principal Executive Officer)
/s/ WESLEY R. ELINGBURG Executive Vice President,
-------------------------------------- Chief Financial Officer
Wesley R.Elingburg and Treasurer
(Principal Financial Officer and
Principal Accounting Officer)
/s/ JEAN-LUC BELINGARD* Director
--------------------------------------
Jean-Luc Belingard
/s/ WENDY E. LANE* Director
--------------------------------------
Wendy E. Lane
/s/ ROBERT E. MITTELSTAEDT, JR.* Director
--------------------------------------
Robert E. Mittelstaedt, Jr.
/s/ JAMES B. POWELL, M.D.* Director
--------------------------------------
James B. Powell, M.D.
/s/ DAVID B. SKINNER, M.D.* Director
--------------------------------------
David B. Skinner, M.D.
/s/ ANDREW G. WALLACE, M.D.* Director
--------------------------------------
Andrew G. Wallace, M.D.
-----------------------------------
* Bradford T. Smith, by his signing his name hereto, does hereby sign this
report on behalf of the directors of the Registrant after whose typed names
asterisks appear, pursuant to powers of attorney duly executed by such
directors and filed with the Securities and Exchange Commission.
By:/s/ BRADFORD T. SMITH
--------------------------------------
Bradford T. Smith
Attorney-in-fact
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
AND SCHEDULE
Page
----
Report of Independent Accountants...........................F-2
Report of Independent Accountants...........................F-3
Consolidated Financial Statements:
Consolidated Balance Sheets as of
December 31, 1997 and 1996...............................F-4
Consolidated Statements of Operations for
the three-year period ended December 31, 1997............F-5
Consolidated Statements of Changes in Shareholders'
Equity for the three-year period ended
December 31, 1997........................................F-6
Consolidated Statements of Cash Flows for the
three-year period ended December 31, 1997................F-7
Notes to Consolidated Financial Statements................ F-9
Financial Statement Schedule:
II - Valuation and Qualifying Accounts and Reserves....... F-32
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Shareholders
of Laboratory Corporation of America Holdings
In our opinion, the consolidated financial statements presented in the
accompanying index present fairly, in all material respects, the
financial position of Laboratory Corporation of America Holdings and
its subsidiaries (the Company) at December 31, 1997, and the results of
their operations and their cash flows for the year in conformity with
generally accepted accounting principles. These financial statements
are the responsibility of the Company's management; our responsibility
is to express an opinion on these financial statements based on our
audit. We conducted our audit of these statements in accordance with
generally accepted auditing standards which require that we plan and
perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit
includes examining, on a test basis, evidence supporting the amounts
and disclosures in the financial statements, assessing the accounting
principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe
that our audit provides a reasonable basis for the opinion expressed
above.
PRICE WATERHOUSE LLP
Raleigh, North Carolina
February 20, 1998, except
as to Note 10, which is as
of February 25, 1998
REPORT OF INDEPENDENT ACCOUNTANTS
The Board of Directors and Shareholders
Laboratory Corporation of America Holdings:
We have audited the accompanying consolidated balance sheets of
Laboratory Corporation of America Holdings and subsidiaries as of
December 31, 1996 and the related consolidated statements of operations,
of changes in shareholders' equity and cash flows for the two-year
period ended December 31, 1996. In connection with our audits of the
consolidated financial statements, we also have audited the accompanying
financial statement schedule as of December 31, 1996 and for the two-
year period ended December 31, 1996. These consolidated financial
statements and financial statement schedule are the responsibility of
the Company's management. Our responsibility is to express an opinion on
these consolidated financial statements and financial statement schedule
based on our audits.
We conducted our audits in accordance with generally accepted
auditing standards. Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made
by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for
our opinion.
In our opinion, the consolidated financial statements referred to
above present fairly, in all material respects, the financial position
of Laboratory Corporation of America Holdings and subsidiaries as of
December 31, 1996, and the results of their operations and their cash
flows for the two-year period ended December 31, 1996, in conformity
with generally accepted accounting principles. Also in our opinion, the
related financial statement schedule as of and for the two-year period
ended December 31, 1996, when considered in relation to the basic
consolidated financial statements taken as a whole, presents fairly, in
all material respects, the information set forth therein.
KPMG PEAT MARWICK LLP
Raleigh, North Carolina
February 14, 1997 except for
Note 10 as to which the
date is March 31, 1997
[Download Table]
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
DECEMBER 31,
---------------------------
1997 1996
-------- --------
ASSETS
Current assets:
Cash and cash equivalents $ 23.3 $ 29.3
Accounts receivable, net 330.6 505.6
Inventories 36.0 44.3
Prepaid expenses and other 16.9 21.8
Deferred income taxes 112.0 66.2
Income taxes receivable 8.8 54.3
------- -------
Total current assets 527.6 721.5
Property, plant and equipment, net 254.9 282.9
Intangible assets, net 851.3 891.1
Other assets, net 24.7 21.5
------- -------
$1,658.5 $1,917.0
======= =======
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 55.9 $ 65.7
Accrued expenses and other 140.7 168.4
Current portion of long-term debt -- 18.7
------- -------
Total current liabilities 196.6 252.8
Loan from affiliate -- 187.0
Revolving credit facility 40.0 371.0
Long-term debt, less current portion 643.8 693.8
Capital lease obligation 5.8 9.8
Other liabilities 142.3 144.5
Commitments and contingent liabilities -- --
Mandatorily redeemable preferred stock
(30,000,000 shares authorized):
Series A 8 1/2% Convertible
Exchangeable Preferred Stock, $0.10 par
value, 4,363,202 shares issued and
outstanding at December 31, 1997
(aggregate preference value of $218.2) 212.6 --
Series B 8 1/2% Convertible Pay-in-Kind
Preferred Stock, $0.10 par value,
5,892,495 shares issued and outstanding
at December 31,1997 (aggregate preference
value of $294.6) 288.3 --
Shareholders' equity:
Common stock, $0.01 par value; 520,000,000
shares authorized; 123,542,614 and
122,935,080 shares issued and outstanding
at December 31,1997 and 1996, respectively 1.2 1.2
Additional paid-in capital 412.8 411.0
Accumulated deficit (284.9) (154.1)
------- -------
Total shareholders' equity 129.1 258.1
------- -------
$1,658.5 $1,917.0
======= =======
The accompanying notes are an integral part of these consolidated financial
statements.
[Download Table]
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
YEARS ENDED DECEMBER 31,
---------------------------------
1997 1996 1995
--------- --------- ---------
Net sales $1,519.0 $1,607.7 $1,432.0
Cost of sales 1,080.5 1,183.9 1,024.3
------- ------- -------
Gross profit 438.5 423.8 407.7
Selling, general and
administrative expenses 477.2 305.0 238.5
Amortization of intangibles
and other assets 30.6 29.6 27.0
Restructuring and non-recurring charges 22.7 23.0 65.0
Provision for settlements and related
expenses -- 185.0 10.0
------- ------- -------
Operating income (loss) (92.0) (118.8) 67.2
Other income (expenses):
Investment income 2.4 2.2 1.4
Interest expense (71.7) (71.7) (65.5)
------- ------- -------
Earnings (loss) before income taxes
and extraordinary loss (161.3) (188.3) 3.1
Provision for income taxes (54.4) (34.8) 7.1
------- ------- -------
Loss before extraordinary loss (106.9) (153.5) (4.0)
Extraordinary loss from early
extinguishment of debt, net of
income tax benefit of $5.2 -- -- (8.3)
------- ------- -------
Net loss (106.9) (153.5) (12.3)
Less preferred stock dividends (23.4) -- --
Less accretion of mandatorily redeemable
preferred stock (0.5) -- --
------- ------- -------
Net loss attributable to common
shareholders $ (130.8) $ (153.5) $ (12.3)
======= ======= =======
Basic and diluted loss per common share:
Loss per common share before
extraordinary loss $ (1.06) $ (1.25) $ (0.03)
Extraordinary loss per common share -- -- (0.08)
------- ------- -------
Net loss per common share $ (1.06) $ (1.25) $ (0.11)
======= ======= =======
The accompanying notes are an integral part of these consolidated financial
statements.
[Download Table]
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
For the Three-year Period Ended December 31, 1997
Retained
Additional Earnings
Common Paid-in (Accumulated
Stock Capital Deficit) Total
------ ----------- ------------ -------
Balance, December 31, 1994 $ 0.8 $ 153.5 $ 11.7 $ 166.0
Net loss -- -- (12.3) (12.3)
Exercise of stock options -- 0.2 -- 0.2
Cancellation of stock options -- 6.9 -- 6.9
Distribution to shareholders (0.2) (474.5) -- (474.7)
Issuance of common stock 0.6 674.6 -- 675.2
Issuance of warrants -- 51.0 -- 51.0
Other -- (0.7) -- (0.7)
------ ------ ------ ------
Balance, December 31, 1995 1.2 411.0 (0.6) 411.6
Net loss -- -- (153.5) (153.5)
------ ------ ------ ------
Balance, December 31, 1996 1.2 411.0 (154.1) 258.1
Net loss -- -- (106.9) (106.9)
Issuance of common stock -- 1.8 -- 1.8
Preferred stock dividends -- -- (23.4) (23.4)
Accretion of mandatorily
redeemable preferred stock -- -- (0.5) (0.5)
------ ------ ------ ------
Balance, December 31, 1997 $ 1.2 $ 412.8 $ (284.9) $ 129.1
====== ====== ====== ======
The accompanying notes are an integral part of these consolidated financial
statements.
[Download Table]
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
YEARS ENDED DECEMBER 31,
--------------------------------
1997 1996 1995
--------- -------- ---------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $(106.9) $(153.5) $ (12.3)
Adjustments to reconcile net loss
to net cash provided by (used for)
operating activities:
Restructuring and non-recurring
charges, net of payments 5.6 4.2 51.6
Provision for settlements and
related expenses -- 185.0 10.0
Extraordinary loss, net of
income tax benefit -- -- 8.3
Net gain on disposals (0.3) -- --
Depreciation and amortization 86.8 97.5 76.5
Deferred income taxes, net (43.0) 30.3 (21.6)
Payments for settlement and
related expenses -- (188.9) (32.1)
Change in assets and liabilities,
net of effects of acquisitions:
Decrease(increase)in accounts
receivable, net 175.0 (78.8) (46.2)
Decrease in inventories 8.3 8.0 5.1
Decrease(increase)in prepaid
expenses and other 4.5 (3.1) 1.0
Change in income taxes
receivable/payable, net 45.5 (32.4) (11.7)
Increase(decrease)in accounts
payable (9.9) (40.4) 58.5
Increase (decrease)in accrued
expenses and other (20.4) 6.3 (30.6)
Other, net (0.8) (8.7) (5.4)
------ ------ ------
Net cash provided by (used for)
operating activities 144.4 (174.5) 51.1
------ ------ ------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures (34.5) (69.9) (87.3)
Proceeds from sale of assets 1.6 3.5 7.8
Acquisitions of businesses -- (5.0) (39.6)
------ ------ ------
Net cash used for investing
activities (32.9) (71.4) (119.1)
------ ------ ------
(continued)
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
YEARS ENDED DECEMBER 31,
----------------------------------
1997 1996 1995
---------- ---------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from revolving credit
facilities $ 35.0 $ 293.0 $ 308.0
Payments on revolving credit
facilities (366.0) (140.0) (303.0)
Proceeds from long-term debt -- -- 800.0
Payment on affiliate loan (187.0) -- --
Loan from affiliate -- 187.0 --
Payments on long-term debt (68.7) (70.8) (446.7)
Deferred financing fees (4.6) -- --
Deferred payments on acquisitions (5.2) (10.4) (12.9)
Distribution to stockholders -- -- (474.7)
Sale of redeemable preferred stock, net
of issuance costs 486.9 -- --
Payment of preferred stock dividends (9.7) -- --
Cash received for issuance of common
stock 1.8 -- 135.7
Cash received for issuance of warrants -- -- 51.0
Other -- -- 0.2
------ ------ ------
Net cash provided by (used for)
financing activities (117.5) 258.8 57.6
------ ------ ------
Net increase (decrease) in cash
and cash equivalents (6.0) 12.9 (10.4)
Cash and cash equivalents at
beginning of year 29.3 16.4 26.8
------ ------ ------
Cash and cash equivalents at
end of year $ 23.3 $ 29.3 $ 16.4
====== ====== ======
Supplemental schedule of cash
flow information:
Cash paid (received)during the year
for:
Interest $ 69.2 $ 65.1 $ 58.6
Income taxes, net of refunds (55.0) (15.2) 27.2
Disclosure of non-cash financing
and investing activities:
Common stock issued in connection
with acquisition -- -- 539.5
Common stock issued in connection
with the cancellation of employee
stock options -- -- 6.9
Preferred stock dividends 13.7 -- --
Accretion of mandatorily redeemable
preferred stock 0.5 -- --
Obligations incurred under capital
leases 4.6 -- --
In connection with business
acquisitions, liabilities were
assumed as follows:
Fair value of assets acquired $ -- $ 23.4 $ 777.7
Cash paid -- (5.0) (39.6)
Stock issued -- -- (539.5)
------ ------ ------
Liabilities assumed $ -- $ 18.4 $ 198.6
====== ====== ======
The accompanying notes are an integral part of these consolidated financial
statements.
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION:
Laboratory Corporation of America Holdings and its subsidiaries
("Company") is believed by management to be one of the three largest
independent clinical laboratory companies in the United States based on 1997
net revenues. Through a national network of laboratories, the Company offers
a broad range of testing services used by the medical profession in the
diagnosis, monitoring and treatment of disease and other clinical states.
Since its founding in 1971, the Company has grown into a network of 25 major
laboratories and approximately 1,200 service sites consisting of branches,
patient service centers and STAT laboratories, serving clients in 50 states.
The consolidated financial statements include the accounts of Laboratory
Corporation of America Holdings and its subsidiaries after elimination of all
material intercompany accounts and transactions. Prior to April 28, 1995, the
Company's name was National Health Laboratories Holdings, Inc. ("NHL").
CASH EQUIVALENTS:
Cash equivalents (primarily investments in money market funds, time
deposits and commercial paper which have original maturities of three months
or less at the date of purchase) are carried at cost which approximates
market.
INVENTORIES:
Inventories, consisting primarily of purchased laboratory supplies, are
stated at the lower of cost (first-in, first-out) or market.
FINANCIAL INSTRUMENTS:
Interest rate swap agreements, which are used by the Company in the
management of interest rate exposure, are accounted for on an accrual basis.
Amounts to be paid or received under such agreements are recognized as
interest income or expense in the periods in which they accrue.
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
PROPERTY, PLANT AND EQUIPMENT:
Property, plant and equipment are recorded at cost. The cost of
properties held under capital leases is equal to the lower of the net present
value of the minimum lease payments or the fair value of the leased property
at the inception of the lease. Depreciation and amortization expense is
computed on all classes of assets based on their estimated useful lives, as
indicated below, using principally the straight-line method.
Years
-----
Buildings and building improvements 35-40
Machinery and equipment 3-10
Furniture and fixtures 5-10
Computer software 5
Leasehold improvements and assets held under capital leases are amortized
over the shorter of their estimated lives or the period of the related leases.
Expenditures for repairs and maintenance charged against earnings in 1997,
1996 and 1995 were $28.4, $34.2 and $28.3, respectively.
CAPITALIZED SOFTWARE COSTS:
The Company capitalizes purchased software which is ready for service and
software development costs incurred on significant projects from the time the
project is determined to be technologically feasible until the software is
ready for use to provide processing services to the Company. Research and
development costs and other computer software maintenance costs related to
software development are expensed as incurred. Capitalized software costs are
amortized using the straight-line method over the estimated useful life of the
underlying system, generally five years.
The carrying value of software and development assets is regularly
reviewed by the Company, and a loss is recognized when the net realizable
value falls below the unamortized cost.
FAIR VALUE OF FINANCIAL INSTRUMENTS:
The carrying amounts of cash and cash equivalents, accounts receivable,
income taxes receivable and accounts payable are considered to be
representative of their respective fair values due to their short-term nature.
The carrying amounts of the revolving credit facility and long-term debt are
considered to be representative of their respective fair values as their
interest rates are based on market rates. The carrying value of the loan from
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
affiliate is considered to be representative of its fair value due to the
related party nature of the obligation.
CONCENTRATION OF CREDIT RISK:
Substantially all of the Company's accounts receivable are with companies
and individuals in the health care industry. However, concentrations of
credit risk are limited due to the number of the Company's clients as well as
their dispersion across many different geographic regions.
REVENUE RECOGNITION:
Sales are recognized on the accrual basis at the time test results are
reported, which approximates when services are provided. Services are
provided to certain patients covered by various third-party payor programs
including the Medicare and Medicaid programs. Billings for services under
third-party payor programs are included in sales net of allowances for
contractural discounts and allowances for differences between the amounts
billed and estimated program payment amounts. Adjustments to the estimated
payment amounts based on final settlement with the programs are recorded upon
settlement as a charge to revenue. In 1997, 1996 and 1995, approximately 20%,
23% and 28%, respectively, of the Company's revenues were derived from tests
performed for beneficiaries of Medicare and Medicaid programs.
INCOME TAXES:
The Company accounts for income taxes utilizing the asset and liability
method. Under this method deferred tax assets and liabilities are recognized
for the future tax consequences attributable to differences between the
financial statement carrying amounts of existing assets and liabilities and
their respective tax bases and for tax loss carryforwards. Deferred tax
assets and liabilities are measured using enacted tax rates expected to apply
to taxable income in the years in which those temporary differences are
expected to be recovered or settled. The effect on deferred tax assets and
liabilities of a change in tax rates is recognized in income in the period
that includes the enactment date.
STOCK COMPENSATION PLANS:
The Company accounts for its employee stock option plans using the
intrinsic method under APB Opinion No. 25 and related Interpretations. The
Company's employee stock purchase plan is also accounted for under APB Opinion
No. 25 and is treated as non-compensatory. The Company provides supplementary
disclosures using the fair value method under SFAS No. 123.
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
EARNINGS PER SHARE:
On March 3, 1997, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards ("SFAS") No. 128, "Earnings per
Share," replacing Accounting Principles Board ("APB")Opinion No. 15, "Earnings
Per Share." SFAS No. 128 replaces "primary" and "fully diluted" earnings per
common share ("EPS")under APB Opinion No. 15 with "basic" and "diluted" EPS.
Unlike primary EPS, basic EPS excludes the dilutive effects of options,
warrants and other convertible securities. Diluted EPS reflects the potential
dilution of securities that could share in the earnings of an entity, similar
to fully diluted EPS. The Company adopted SFAS No. 128 in the fourth quarter
of 1997 and applied its provisions retroactively to all current and prior year
calculations. The implementation of SFAS No. 128 had no significant impact on
the calculation of earnings per common share for the years ended December 31,
1997, 1996 and 1995 and the quarterly periods contained herein.
For the years ended December 31, 1997, 1996 and 1995, basic and diluted
earnings per common share is calculated based on the weighted average number
of shares outstanding during each year (123,241,222, 122,919,767 and
110,579,096 shares, respectively).
The effect of conversion of the Company's redeemable preferred stock, or
exercise of the Company's stock options or warrants was not included in the
computation of diluted earnings per common share as it would have been anti-
dilutive for all periods presented.
Supplementary earnings per common share represents what earnings per
share would have been if the Company's issuance of redeemable preferred stock
and related retirement of debt had taken place at the beginning of the period.
For the year ended December 31, 1997 supplementary loss per common share is
$(1.15). Supplementary loss per common share was calculated by adjusting net
loss attributable to common shareholders by adding back interest, net of tax
$(8.9), and deducting additional dividends $(20.1).
USE OF ESTIMATES:
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reported periods. Significant estimates include the allowances for doubtful
accounts and deferred tax assets, amortization lives for intangible assets and
accruals for self-insurance reserves. Actual results could differ from those
estimates.
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
IMPAIRMENT OF LONG-LIVED ASSETS AND LONG-LIVED ASSETS TO BE DISPOSED OF:
The Company adopted the provisions of SFAS No. 121, "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of,"
on January 1, 1996. This Statement requires that long-lived assets be
reviewed for impairment whenever events or changes in circumstances indicate
that the carrying amounts may not be recoverable. Recoverability of assets to
be held and used is determined by the Company at the entity level by a
comparison of the carrying amount of the assets to future undiscounted net
cash flows expected to be generated by the assets. Impairment, if any, is
measured by the amount by which the carrying amount of the assets exceed the
fair value of the assets. Assets to be disposed of are reported at the lower
of the carrying amount or fair value less costs to sell. Adoption of this
Statement did not have a material impact on the Company's financial position,
results of operations or liquidity.
INTANGIBLE ASSETS:
Intangible assets, consisting of goodwill and other intangibles (i.e.,
customer lists and non-compete agreements), are amortized on a straight-line
basis over the expected periods to be benefited, generally 40 years for
goodwill, 25 years for customer lists and over the contractual lives for non-
compete agreements.
RECLASSIFICATIONS:
Certain amounts in the consolidated financial statements for the years
ended December 31, 1996 and 1995 have been reclassified to conform with the
presentation adopted in 1997.
2. MERGER AND ACQUISITIONS
In April 1995, the Company completed a merger (the "Merger") with Roche
Biomedical Laboratories, Inc. ("RBL"). In connection with the Merger, the
Company issued 61,329,256 shares of Common Stock to HLR Holdings, Inc. ("HLR")
and Roche Holdings, Inc. ("Roche") in exchange for all outstanding shares of
RBL and $135.7 in cash. The exchange consideration of approximately $558.0
for the purchase of RBL consisted of the value of the stock issued to HLR and
Roche, as well as other direct costs of the Merger, net of cash received from
HLR. RBL's results of operations have been included in the Company's results
of operations since April 28, 1995.
During 1996 and 1995, the Company acquired four and nine laboratories,
respectively, for an aggregate purchase price, including assumption of
liabilities, of $23.4 and $41.7,
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
respectively. The acquisitions were accounted for as purchase transactions.
The excess of cost over the fair value of net tangible assets acquired during
1996 and 1995 was $22.5 and $28.2, respectively, which is included under the
caption "Intangible assets, net" in the accompanying consolidated balance
sheets. The consolidated statements of operations reflect the results of
operations of these purchased businesses from the dates of acquisition.
3. RESTRUCTURING AND NON-RECURRING CHARGES
During the fourth quarter of 1997, the Company recorded pre-tax charges
of $22.7, related primarily to the downsizing of its Long Island, New York
facility and the future consolidation into its Raritan, New Jersey facility.
This amount includes approximately $5.2 for severance and $12.5 for the future
lease obligation and other facilities related charges. The net workforce
reduction as a result of this activity is expected to be approximately 260
employees, primarily in the laboratory's operations.
In the second quarter of 1997, the Company determined that approximately
$12.6 of existing reserves were excessive due largely to proceeds from
subleases and asset disposals. Also, in the second quarter of 1997, the
Company decided to downsize the Winston-Salem, North Carolina laboratory and
redirect specimen volumes to other company facilities in order to realize
operational efficiencies. Restructuring charges related to the closing of the
Winston-Salem laboratory totaled $12.6.
In the second quarter of 1996, the Company recorded a restructuring
charge totaling $13.0 for the shutdown of its La Jolla, California
administrative facility and other workforce reductions. This amount included
approximately $8.1 for severance, $3.5 for the future lease obligation of the
La Jolla facility and $1.4 for the write-down of leasehold improvements and
fixed assets that will be abandoned or disposed of. The La Jolla facility was
substantially closed by the end of 1996. The remaining workforce reductions
took place in other areas of the Company and were substantially completed by
the end of 1996. The net workforce reduction as a result of these activities
was approximately 250 employees. Payments for severance were substantially
complete by the end of 1997.
In addition, the Company recorded certain non-recurring charges in the
second quarter of 1996 related to further integration after the Merger. The
Company decided to abandon certain data processing systems and therefore wrote
off approximately $6.7 in capitalized software costs. In addition, the
Company relocated its principal drug testing facility to accommodate
consolidation of the RBL and Company operations and incurred approximately
$1.3 in costs primarily related to the write-off of leasehold improvements and
building clean up. Finally, the Company recorded a charge of $2.0 for various
other
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
items including the write-off of certain supplies which were not compatible
with new testing methods designed to increase efficiency.
Following the Merger in 1995, the Company determined that it would be
beneficial to close Company laboratory facilities in certain geographic
regions where duplicate Company and RBL facilities existed at the time of the
Merger. As a result, the Company recorded a restructuring charge of $65.0 in
the second quarter of 1995. As part of the Company's evaluation of its future
obligations under these restructuring activities, certain changes in the
estimates were made during the quarter ended June 30, 1996. These changes
resulted in the reclassification of certain accruals in the categories listed
below although the total liability did not change. These restructuring
activities were substantially complete as of December 31, 1996 and resulted in
a net reduction of approximately 1,600 employees.
[Download Table]
The following represents the Company's restructuring activities for the
period indicated:
Asset Lease and
Severance revaluations other facility
costs and write-offs obligations Total
--------- --------------- ------------- -----
Balance at
December 31, 1995 $ 12.8 $ 18.6 $ 18.9 $ 50.3
Restructuring charges 8.1 1.4 3.5 13.0
Reclassifications and
non-cash items 1.6 (10.6) (2.3) (11.3)
Cash payments (14.2) -- (3.2) (17.4)
------ ------ ------ ------
Balance at
December 31, 1996 8.3 9.4 16.9 34.6
Long Island downsizing 5.2 5.0 12.5 22.7
Winston-Salem closure 2.7 2.6 7.3 12.6
Adjustments (1.7) (5.6) (5.3) (12.6)
Reclassifications and
non-cash items 3.2 (6.7) 1.9 (1.6)
Cash payments (14.0) (0.7) (2.4) (17.1)
------ ------ ------ ------
Balance at
December 31, 1997 $ 3.7 $ 4.0 $ 30.9 $ 38.6
====== ====== ====== ======
Current $ 21.8
Non-current 16.8
------
$ 38.6
======
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
4. ACCOUNTS RECEIVABLE, NET
December 31, December 31,
1997 1996
----------- -----------
Gross accounts receivable $ 526.0 $ 617.2
Less contractual allowances and discounts
and allowance for doubtful accounts (195.4) (111.6)
------ ------
$ 330.6 $ 505.6
====== ======
The provision for doubtful accounts was $250.5, $81.5 and $64.8 in 1997,
1996 and 1995, respectively.
During the fourth quarter of 1997, the Company recorded a provision for
doubtful accounts of $182.0, which was approximately $160.0 greater than the
amount recorded in the fourth quarter of 1996. This pretax charge was made to
increase the allowance for doubtful accounts to a level that management
believes is appropriate to reduce its accounts receivable to the net amount
that management believes will ultimately be collected.
The Company has experienced a deterioration in the timeliness of cash
collections and a corresponding increase in accounts receivable. The primary
causes of this situation are the increased medical necessity and related
diagnosis code requirements from third-party payors and the complexities in
the billing process (data capture) arising from changing requirements of
private insurance companies (managed care). Management previously believed
that this deterioration in the timeliness of cash collections would not have
any significant impact on the ultimate collectability of the receivables.
In late 1996, to address the deteriorating cash collections, management
developed various short-term improvement projects ("initiatives") that it
anticipated would improve the timeliness of collections by the end of 1997.
Initially, it appeared that these initiatives were having a positive impact,
as the growth in the Company's Days' Sales Outstanding (DSO) stabilized in the
first and second quarters of 1997. However, during the third quarter of 1997,
despite continuing focused efforts on the initiatives, the Company's DSO began
increasing again. In response, management intensified its efforts on the
aforementioned initiatives and added new initiatives for the purpose of
significantly lowering the DSO by December 31, 1997.
In the fourth quarter of 1997, management evaluated the initiatives'
overall effect and concluded that, while helpful in improving certain
processes, they had not had any significant impact on improving the Company's
cash collections on aged receivables. In recognition of the Company's
inability to enhance collections on a sustained basis, an increase in the
allowance for doubtful accounts was considered necessary by management.
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
5. PROPERTY, PLANT AND EQUIPMENT, NET
December 31, December 31,
1997 1996
---------- ----------
Land $ 9.4 $ 9.2
Buildings and building improvements 65.2 64.2
Machinery and equipment 293.9 289.3
Leasehold improvements 55.4 58.3
Furniture and fixtures 25.9 27.0
Buildings under capital leases 5.4 9.6
Equipment under capital leases 4.6 --
------- -------
459.8 457.6
Less accumulated depreciation
and amortization of capital lease assets (204.9) (174.7)
------- -------
$ 254.9 $ 282.9
======= =======
6. INTANGIBLE ASSETS, NET
December 31, December 31,
1997 1996
----------- -----------
Goodwill $ 774.0 $ 782.7
Other intangibles 224.7 225.3
------- -------
998.7 1,008.0
Less accumulated amortization (147.4) (116.9)
------- -------
$ 851.3 $ 891.1
======= =======
7. ACCRUED EXPENSES AND OTHER
December 31, December 31,
1997 1996
---------- ----------
Employee compensation and benefits $ 50.4 $ 49.5
Deferred acquisition related payments 12.0 12.9
Acquisition related reserves 8.6 17.2
Restructuring reserves 21.8 25.5
Accrued taxes 13.1 15.4
Self-insurance reserves 24.1 31.1
Interest payable 6.0 12.8
Other 4.7 4.0
------- ------
$ 140.7 $ 168.4
======= ======
8. OTHER LIABILITIES
December 31, December 31,
1997 1996
---------- ----------
Deferred acquisition related payments $ 9.6 $ 14.8
Acquisition related reserves 10.6 12.3
Restructuring reserves 16.8 9.1
Deferred income taxes 34.3 38.7
Postretirement benefit obligation 29.4 27.0
Self-insurance reserves 41.1 41.1
Other 0.5 1.5
------- -------
$ 142.3 $ 144.5
======= =======
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
9. SETTLEMENTS
As previously discussed in the Company's public filings, the Office
of Inspector General ("OIG") of the Department of Health and Human Services
and the Department of Justice ("DOJ") had been investigating certain past
laboratory practices of the predecessor companies of the Company. On November
21, 1996, the Company reached a settlement with the OIG and the DOJ regarding
the prior billing practices of these predecessor companies (the "1996
Government Settlement"). Consistent with this overall settlement, the Company
paid $187.0 to the Federal Government in December 1996 (the "Settlement
Payment") with proceeds from a loan from Roche (the "Roche Loan"). As a
result of negotiations related to the 1996 Government Settlement, the Company
recorded a charge of $185.0 in the third quarter of 1996 (the "Settlement
Charge") to increase reserves for the 1996 Government Settlement described
above, and other related expenses of government and private claims resulting
therefrom.
In the second quarter of 1995, the Company took a pre-tax special charge
of $10.0 in connection with the estimated costs of settling various claims
pending against the Company, substantially all of which were billing disputes
with various third-party payors relating to the contention that NHL improperly
included tests for HDL cholesterol and serum ferritin in its basic test
profile without clearly offering an alternative profile that did not include
these medical tests. As of December 31, 1996, the majority of these disputes
had been settled.
10. LONG-TERM DEBT
The Company entered into an Amended and Restated Credit Agreement dated
as of March 31, 1997 (the "Amended Credit Agreement"), with the banks named
therein (the "Banks") and Credit Suisse First Boston, as administrative agent
(the "Bank Agent"), under which the Banks made available to the Company a
senior term loan facility of $693.8 (the "Amended Term Loan Facility") and a
revolving credit facility of $450.0 (the "Amended Revolving Credit Facility"
and, together with the Term Loan Facility, the "Bank Facility") which includes
a $50.0 letter of credit sublimit. The Bank Facility is unconditionally and
irrevocably guaranteed by certain of the Company's subsidiaries.
Under the Amended Credit Agreement, maturities under the Amended Term
Loan Facility were extended in aggregate to $46.4 in 1999, $92.8 in 2000,
$139.2 in 2001 through 2003 and $87.0 in 2004 (paid in quarterly
installments). The maturities of the Amended Revolving Credit Facility were
also extended approximately two years to March 31, 2002.
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
Both the Amended Term Loan Facility and the Amended Revolving Credit
Facility bear interest, at the option of the Company, at (i) the base rate
plus the applicable base rate margin or (ii) the Eurodollar rate plus the
applicable Eurodollar rate margin. The Amended Credit Agreement provides that
in the event of a reduction of the percentage of Common Stock held by HLR,
Roche and their affiliates (other than the Company and its subsidiaries) below
25%, the applicable interest margins and facility fees on borrowings
outstanding under the Amended Credit Agreement will increase. The amount of
the increase will depend, in part, on the leverage ratio of the Company at the
time of such reduction. In addition, pursuant to the Amended Credit
Agreement, the applicable interest margins on borrowings outstanding
thereunder are based upon the leverage ratio.
The Amended Credit Agreement contains covenants similar to, and in the
case of limitations on acquisitions and incurrence of additional debt, more
restrictive than the covenants set forth in the previously existing credit
agreement.
The Amended Credit Agreement contains financial covenants with respect
to a leverage ratio, interest coverage ratio, minimum shareholders' equity and
excess cash flow. The covenant levels are less restrictive than under the
previously existing credit agreement, and are computed quarterly, with the
exception of excess cash flow which is computed annually. In addition, the
Amended Credit Agreement places certain restrictions on the payment of
dividends.
In February 1998 and effective December 31, 1997, the Company negotiated
an amendment to the Amended Credit Agreement, covering both long-term and
revolving credit, of certain covenants contained in the agreement. The
amendment excludes certain actual expenses incurred during the fourth quarter
of 1997 from interest coverage and leverage ratio calculations applicable to
the quarters ended December 31, 1997 through September 30, 1998. The
amendment also excludes these expenses from certain other covenant
calculations applicable to the quarter ending December 31, 1997 and all
quarterly periods thereafter.
At December 31, 1997 and 1996 the Company was a party to interest rate
swap agreements with certain major financial institutions, rated A or better
by Moody's Investor Service, solely to manage its interest rate exposure with
respect to $600.0 of its floating rate debt to a weighted-average fixed
interest rate of 5.95%, through requiring that the Company pay a fixed rate
amount in exchange for the financial institutions paying a floating rate
amount. Amounts paid by the Company in 1997 and 1996 were $1.7 and $2.0,
respectively, which were recorded in interest expense in the accompanying
consolidated statements of operations. The notional amounts of the agreements
are used to measure the interest to be paid or received and do not represent
the amount of exposure to credit loss. The current agreements mature in
September 1998. The estimated cost at which the Company could have terminated
these
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
agreements as of December 31, 1997 and 1996 was approximately $0.4 and $0.9,
respectively. This fair value was estimated by discounting the expected cash
flows using rates currently available for interest rate swaps with similar
terms and maturities. Interest rates in effect for both the long-term and
revolving credit agreement were 6.9% as of December 31, 1997 and 1996.
11. ISSUANCE OF MANDATORILY REDEEMABLE PREFERRED STOCK
On May 19, 1997 the Board of Directors of the Company declared a dividend
of 10,000,000 transferable subscription rights which were then issued pro rata
to holders of its common stock on May 29, 1997 entitling them to purchase up
to an aggregate of $500.0 of redeemable convertible preferred stock issuable
in two series at a subscription price of $50 per share (the "Preferred Stock
Offering"). The subscription period ended on June 16, 1997. On that date,
rights were exercised to purchase 4,363,202 shares of Series A 8 1/2%
Convertible Exchangeable Preferred Stock ("Series A") and 5,636,798 shares of
Series B 8 1/2% Convertible Pay-in-Kind Preferred Stock ("Series B"), each at
a subscription price of $50 per share. Roche exercised its basic subscription
privilege in full for 4,988,751 share of Series B and other rights holders
purchased the remaining 5,011,249 shares.
The Series A is convertible at the option of the holder after September
30, 1997 into common stock, will pay cash dividends and will be exchangeable
on or after June 30, 2000 at the Company's option for 8 1/2% Convertible
Subordinated Notes due June 30, 2012. The Series B will be convertible at the
option of the holder after June 30, 2000 into common stock, will pay dividends
in-kind until June 30, 2003, and in cash thereafter, and will not be
exchangeable for notes. The conversion rate for both series of preferred
stock is 18.1818 shares of common stock per share of preferred stock. Each
series of preferred stock will be mandatorily redeemable after June 30, 2012
at $50 per share and will be redeemable at the option of the Company after
July 7, 2000 at prices declining from $52.83 to $50.00 in 2006 and thereafter.
Neither series of preferred stock entitles the holder to any voting rights in
the Company. Net proceeds from the Preferred Stock Offering were $486.9 and
were used to repay a loan from Roche, including accrued interest, and to
reduce amounts outstanding under the Company's term loan and revolving credit
facilities.
Offering costs of $13.1 were recorded against the aggregate preference
value of the preferred stock and will be accreted up to the date of mandatory
redemption. Accretion for the year ended December 31, 1997 was $0.5.
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
12. LOAN FROM AFFILIATE
In December 1996, the Company financed the Settlement Payment with the
proceeds of a $187.0 loan from Roche bearing interest at 6.625% per annum. In
June 1997, the Company repaid the Roche note and all accrued interest with
proceeds from the Preferred Stock Offering. Interest expense related to this
loan was $ 5.7 and $ 0.1 in 1997 and 1996, respectively.
13. INCOME TAXES
[Download Table]
The provisions for income taxes in the accompanying consolidated
statements of operations consist of the following:
Years Ended December 31,
------------------------------
1997 1996 1995
-------- -------- --------
Current:
Federal $ (12.3) $ (54.4) $ 10.4
State 0.9 2.3 1.5
------ ------ ------
(11.4) (52.1) 11.9
------ ------ ------
Deferred:
Federal (35.5) 15.2 (4.6)
State (7.5) 2.1 (0.2)
------ ------ ------
(43.0) 17.3 (4.8)
------ ------ ------
$ (54.4) $ (34.8) $ 7.1
====== ====== ======
The effective tax rates on earnings (loss) before income taxes is
reconciled to statutory federal income tax rates as follows:
[Download Table]
Years Ended December 31,
------------------------------
1997 1996 1995
-------- -------- --------
Statutory federal rate (35.0)% (35.0)% 35.0%
State and local income taxes,
net of federal income tax effect (2.4) (3.0) 28.0
Non deductible amortization of
intangible assets 4.3 3.0 166.0
Change in valuation allowance 6.2 17.0 --
Adjustments of deferred tax balances (6.2) -- --
Other (0.6) (0.5) 7.0
----- ----- -----
Effective rate (33.7)% (18.5)% 236.0%
===== ===== =====
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
[Download Table]
The tax effects of temporary differences that give rise to significant
portions of the deferred tax assets and deferred tax liabilities are as
follows:
December 31, December 31,
1997 1996
----------- -----------
Deferred tax assets:
Settlement and related expenses $ 13.0 $ 19.2
Accounts receivable 86.9 31.1
Self insurance reserves 4.6 7.9
Postretirement benefit obligation 10.6 10.7
Acquisition related reserves 34.3 43.1
State net operating loss carryforwards 11.8 11.8
Other 23.8 18.1
------ ------
185.0 141.9
Less valuation allowance (42.0) (32.0)
------ ------
Net deferred tax assets 143.0 109.9
------ ------
Deferred tax liabilities:
Intangible assets (51.2) (60.2)
Property, plant and equipment (13.0) (20.9)
Other (1.1) (1.3)
------ ------
Total gross deferred tax liabilities (65.3) (82.4)
------ ------
Net deferred tax assets $ 77.7 $ 27.5
====== ======
There was no valuation allowance for deferred tax assets as of December
31, 1995. Realization of the deferred tax assets related to the state net
operating loss carry forwards, the postretirement benefit obligation as well
as certain other temporary differences is considered less likely than not, and
therefore, a valuation allowance of $32.0 was established for these items in
1996. The increase in the valuation allowance of $10.0 from December 31, 1996
to December 31, 1997 is due to the uncertain realization of the state tax
effect of certain temporary differences. The Company believes that it is
more likely than not that the results of future operations and carry back
availability will generate sufficient taxable income to realize the remaining
deferred tax assets. The amount of the deferred tax asset considered
realizable, however, could be reduced in the near term if estimates of future
taxable income during the carryforward period are reduced.
During 1997, the Company reduced goodwill by $7.3 with a corresponding
decrease in its deferred tax liabilities due to adjustments to acquired
deferred tax balances.
The Company has state tax loss carryforwards of approximately $208.3
which expire, starting in 1998, through 2012.
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
14. STOCK COMPENSATION PLANS
In 1988, the Company adopted the 1988 Stock Option Plan, reserving
2,000,000 shares of common stock for issuance pursuant to options and stock
appreciation rights that may be granted under the plan. The Stock Option Plan
was amended in 1990 to limit the number of options to be issued under the
Stock Option Plan to 550,000 in the aggregate (including all options
previously granted). In 1991, the number of shares authorized for issuance
under the Stock Option Plan was increased to an aggregate of 2,550,000.
In 1994, the Company adopted the 1994 Stock Option Plan, reserving
3,000,000 shares of common stock for issuance pursuant to options and stock
appreciation rights that may be granted under the plan.
In connection with the Merger, all options outstanding as of December 13,
1994 became vested and employees were given the choice to (i) cancel options
outstanding as of December 13, 1994 and receive cash and shares of common
stock according to a formula included in the merger agreement or (ii) convert
such options into new options based on a formula included in the merger
agreement. In connection with the cancellation of stock options, the Company
paid a total of $5.5 in cash and issued 538,307 shares of common stock to
option holders. The value of such amounts were considered transaction costs
of the merger and therefore were not treated as compensation expense. Also, a
total of 562,532 options were reissued as a result of option conversions at
exercise prices between $11.293 and $16.481.
In 1997, the Company adopted the 1997 Stock Option Plan, reserving
6,000,000 shares of common stock for issuance pursuant to options and stock
appreciation rights that may be granted under the plan. During 1997, there
were 4,080,000 options granted to officers and key employees of the company.
Exercise prices for these options ranged from $2.50 to $3.13.
At December 31, 1997, there were 5,936,816 additional shares available
for grant under the Company's Stock Option Plans. The per share weighted-
average fair value of stock options granted during 1997 was $1.56 per share on
the date of grant using the Black-Scholes option-pricing model with the
following weighted-average assumptions: - expected dividend yield 0.0%,
volatility of 0.5, risk-free interest rate of 5.6%, and an expected life of
five years.
In 1997, the Company adopted the 1997 Employee Stock Purchase Plan (the
"Plan"), reserving 3,500,000 shares of common stock for issuance.
Substantially all employees of the Company are eligible to participate in the
Plan through periodic payroll withholdings. For each six-month period,
eligible employees will receive options to purchase shares at 85% of the
lesser of the fair market value of a share of common stock at the beginning or
end of the withholding period. In July of 1997, the Company issued 607,536
shares of common
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
stock to participating employees with payroll withholdings of $1.6. In January
and February of 1998, the Company issued 923,335 shares of common stock to
participating employees with payroll withholdings of $1.6.
The per share weighted-average grant date fair value of the benefits
granted under the Employee Stock Purchase Plan for the first six months and
second six months of 1997 was $0.90 and $0.80, respectively, using the Black-
Scholes option pricing model with the following weighted-average assumptions:
first six months-expected dividend yield 0.0%, volatility of 0.7, risk-free
interest rate of 5.2%, expected life of 181 days; second six months-expected
dividend yield 0.0%, volatility of 0.6, risk-free interest rate of 5.1%,
expected life of 184 days.
The Company applies the provisions of APB Opinion No. 25 in accounting
for its plans and, accordingly, no compensation cost has been recognized for
its stock compensation plans in the financial statements. Had the Company
determined compensation cost based on the fair value method as defined in SFAS
No. 123, the Company's net loss would have been increased to the pro forma
amounts indicated below:
[Download Table]
Years ended
December 31,
1997 1996 1995
-------- -------- --------
Net loss As reported $ (106.9) $ (153.5) $ (12.3)
Pro forma (108.8) (154.7) (14.5)
Loss per common share As reported $ (1.06) $ (1.25) $ (0.11)
Pro forma (1.07) (1.26) (0.13)
Pro forma net loss reflects only options granted in 1997, 1996 and 1995.
Therefore, the full impact of calculating compensation cost for stock options
under SFAS No. 123 is not reflected in the pro forma net loss amounts
presented above because compensation cost is reflected over the optionsO
vesting period of two to three years and compensation cost for options granted
prior to January 1, 1995 is not considered.
The following table summarizes grants of non-qualified options made by
the Company to officers and key employees under all plans. Stock options are
generally granted at an exercise price equal to or greater than the fair
market price per share on the date of grant. Also, for each grant, options
vest ratably over a period of two to three years on the anniversaries of the
grant date, subject to their earlier expiration or termination.
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
Changes in options outstanding under the plans for the periods
indicated were as follows:
Weighted-Average
Number Exercise Price
of Options per Option
---------- ---------------
Outstanding at January 1, 1995 3,502,713 $14.637
Granted 1,378,000 $13.000
Merger-related grants 562,532 $15.870
Exercised (20,542) $10.297
Merger-related cancellations (3,459,167) $14.653
Canceled (222,291) $14.816
----------
Outstanding at December 31, 1995 1,741,245 $14.637
Canceled (443,027) $14.104
----------
Outstanding at December 31, 1996 1,298,218 $14.637
Granted 4,080,000 $ 2.900
Canceled (589,500) $ 9.508
----------
Outstanding at December 31, 1997 4,788,718 $ 4.963
==========
Exercisable at December 31, 1997 1,769,893 $ 8.556
==========
The weighted average remaining life of options outstanding at
December 31, 1997 is approximately 9.0 years.
15. RELATED PARTY TRANSACTIONS
At December 31, 1997 and 1996, 61,329,256 shares of the
Company's outstanding common stock, or approximately 49.6% at
December 31, 1997 and 49.9% at December 31, 1996, were owned by
Roche. In addition, Roche owned 5,214,810 shares of the Company's
redeemable convertible preferred stock at December 31, 1997, or
approximately 50.8%. No voting rights are associated with the
redeemable preferred shares.
The Company purchases certain items, primarily laboratory
testing supplies from various affiliates of Roche. Total purchases
from these affiliates, which are recorded in cost of sales, were
$25.2, $19.6 and $11.0 in 1997, 1996 and 1995, respectively. Amounts
owed to affiliates at December 31, 1997 and 1996 were $2.2 and $3.5,
respectively.
As of December 31, 1997 and 1996 the number of warrants
outstanding to purchase the Company's common stock was 22,151,308, of
which 8,325,000 warrants were held by an affiliate of Roche. These
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
warrants are exercisable at a price of $22.00 per share and expire on
April 28, 2000.
16. COMMITMENTS AND CONTINGENT LIABILITIES
The Company is involved in litigation which purports to be a
class action brought on behalf of certain patients, private insurers
and benefit plans that paid for laboratory testing services during
the time frame covered by the 1996 Government Settlement. The
Company has also received certain similar claims brought on behalf of
certain other insurance companies, some of which have been resolved
for immaterial amounts. These claims for private reimbursement are
similar to the government claims settled in 1996. However, no amount
of damages has been specified at this time and, with the exception of
the above, no settlement discussions have taken place. The Company
is carefully evaluating these claims. However, due to the early stage
of the claims, the ultimate outcome of these claims cannot presently
be predicted.
The Company is also involved in certain claims and legal actions
arising in the ordinary course of business. These matters include,
but are not limited to, inquires from governmental agencies and
Medicare or Medicaid carriers requesting comment on allegations of
billing irregularities that have been brought to their attention
through billing audits or third parties. In the opinion of
management, based upon the advice of counsel and consideration of all
facts available at this time, the ultimate disposition of these
matters will not have a material adverse effect on the financial
position, results of operations or liquidity of the Company.
Under the Company's present insurance programs, coverage is
obtained for catastrophic exposures as well as those risks required
to be insured by law or contract. The Company is responsible for the
uninsured portion of losses related primarily to general, product and
vehicle liability and workers' compensation. The self-insured
retentions are on a per occurrence basis without any aggregate annual
limit. Provisions for losses expected under these programs are
recorded based upon the Company's estimates of the aggregated
liability of claims incurred. At December 31, 1997 and 1996, the
Company had provided letters of credit aggregating approximately
$26.1 and $17.6, respectively, primarily in connection with certain
insurance programs.
During 1991, the Company guaranteed a $9.0, five-year loan to a
third party for construction of a new laboratory to replace one of
the Company's existing facilities. Following its completion in
November of 1992, the building was leased to the Company by this
third party. Such transaction is treated as a capital lease for
financial reporting purposes. The associated lease term continues
for a period of 15 years, expiring in 2007. Under the terms of this
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
guarantee, as modified, the Company is required to maintain 105% of
the outstanding loan balance including any overdue interest as
collateral in a custody account established and maintained at the
lending institution. As of December 31, 1997 and 1996, the Company
had placed $9.5 of investments in the custody account. Such
investments are included under the caption "Other assets, net" in the
accompanying consolidated balance sheets.
In January, 1998 the third party sold this facility to a Real
Estate Investment Trust company. This transaction relieved the
original guarantee required of the Company. Currently, a rent
deposit of $1.5 is the only requirement imposed by the new property
owners. On February 2, 1998, the Company received $8.0 of the
investments previously held in the custodial account. The proceeds
were used to reduce revolving loan balances outstanding.
The Company leases various facilities and equipment under non-
cancelable lease arrangements. Future minimum rental commitments for
leases with noncancellable terms of one year or more at December 31,
1997 are as follows:
Operating Capital
--------- --------
1998 41.1 3.6
1999 32.9 3.7
2000 25.4 2.8
2001 18.0 2.6
2002 14.7 2.4
Thereafter 58.4 12.4
------ ------
Total minimum lease payments 190.5 27.5
Less:
Amounts included in
restructuring accruals -- 15.3
Amount representing interest -- 5.0
------ ------
Total minimum operating
lease payments and
present value of minimum
capital lease payments $ 190.5 $ 7.2
====== ======
Current $ 1.4
Non-current 5.8
------
$ 7.2
======
Rental expense, which includes rent for real estate, equipment
and automobiles under operating leases, amounted to $67.9, $70.6 and
$60.4 for the years ended December 31, 1997, 1996 and 1995,
respectively.
17. PENSION AND POSTRETIREMENT PLANS
The Company maintains a defined contribution pension plan for
all eligible employees. Eligible employees are defined as individuals
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
who are age 21 or older and have been employed by the Company for at
least six consecutive months and completed 1,000 hours of service.
Company contributions to the plan are based on a percentage of
employee contributions. The cost of this plan was $6.9, $7.5 and
$5.8 in 1997, 1996 and 1995, respectively.
In addition, substantially all employees of the Company are
covered by a defined benefit retirement plan (the "Company Plan").
The benefits to be paid under the Company Plan are based on years of
credited service and average final compensation.
In connection with the Merger, the Company assumed obligations
under the RBL defined benefit pension plan ("RBL Plan"). Effective
July 1, 1995, the plan was amended to provide benefits similar to the
Company Plan, as amended. Certain employees of RBL were
grandfathered so that their benefits were not affected by the
amendment. On January 1, 1996, the two plans were merged.
The Company's policy is to fund the Company Plan with at least
the minimum amount required by applicable regulations. The
components of net periodic pension cost for each of the defined
benefit plans are summarized as follows:
Company Plan RBL Plan
------------------- --------------------
Years ended Eight months ended
December 31, December 31,
1997 1996 1995 1995
------------------- -------------------
Service cost $10.3 $10.3 $ 3.2 $ 2.6
Interest cost 7.9 7.0 2.7 2.3
Actual return on
plan assets (20.2) (11.9) (7.6) (4.3)
Net amortization and
deferral 10.0 3.3 4.2 1.2
---- ---- ---- ----
Net periodic pension cost $ 8.0 $ 8.7 $ 2.5 $ 1.8
==== ==== ==== ====
The status of the defined benefit plans are as follows:
Company Plan
------------------
December 31,
1997 1996
------------------
Actuarial present value
of benefit obligations:
Vested benefits $ 105.3 $ 86.2
Non-vested benefits 16.1 11.2
------ ------
Accumulated benefit obligation 121.4 97.4
Effect of projected future salary increases 7.0 6.3
------ ------
Projected benefit obligation 128.4 103.7
Fair value of plan assets,principally
corporate equity securities and fixed
income investments 118.5 96.2
------ ------
Unfunded projected benefit obligation 9.9 7.5
Unrecognized prior service cost 15.5 17.4
Unrecognized net loss (16.9) (14.9)
------ ------
Accrued pension cost $ 8.5 $ 10.0
====== ======
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
Assumptions used in the accounting for the defined benefit plans were
as follows:
Company Plan
-----------------
1997 1996
-----------------
Weighted average discount rate 7.00% 7.75%
Weighted average rate of increase
in future compensation levels 4.0% 4.0%
Weighted average expected long-
term rate of return 9.0% 9.0%
In addition, the Company assumed obligations under RBL's
postretirement medical plan effective with the Merger. Effective
July 1, 1995, coverage under the plan was restricted to certain
existing RBL employees. This plan is unfunded and the Company's
policy is to fund benefits as claims are incurred. The components of
postretirement benefit expense are as follows:
Eight Months
Year ended Year ended ended
December 31, December 31, December 31,
1997 1996 1995
------------- ------------ ------------
Service cost $ 1.0 $ 0.9 $ 1.1
Interest cost 2.4 1.4 1.4
----- ----- -----
Postretirement benefit costs $ 3.4 $ 2.3 $ 2.5
===== ===== =====
The status of the plan is as follows:
December 31,
1997 1996
-----------------
Accumulated postretirement benefit
obligation:
Retirees $ 6.2 $ 4.9
Fully eligible active plan participants 14.4 8.9
Other active plan participants 20.0 14.8
----- -----
40.6 28.6
Unrecognized net loss (11.2) (1.6)
----- -----
Accrued postretirement benefit obligation $ 29.4 $ 27.0
===== =====
The weighted-average discount rates used in the calculation of
the accumulated postretirement benefit obligation were 7.1% and 7.9%,
respectively, as of December 31, 1997 and 1996. The health care cost
trend rate was assumed to be 8.0% and 8.5%, respectively, declining
gradually to 5.0% in the year 2006 and thereafter. The health care
cost trend rate has a significant effect on the amounts reported. To
illustrate, increasing the assumed health care cost trend rates by a
percentage point in each year would increase the accumulated
postretirement benefit obligation as of December 31, 1997 by $7.6
million. The impact of a percentage point increase on the aggregate
of the service cost and interest cost components of the net periodic
postretirement benefit cost results in an increase of $0.7.
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
18. QUARTERLY DATA (UNAUDITED)
[Download Table]
The following is a summary of unaudited quarterly data:
Year ended December 31, 1997
--------------------------------------------
1st 2nd 3rd 4th Full
Quarter Quarter Quarter Quarter Year
------- ------- ------- ------- --------
Net sales $ 391.5 $ 389.6 $ 376.5 $ 361.4 $1,519.0
Gross profit 114.3 117.9 113.8 92.5 438.5
Net earnings (loss) 2.4 4.1 5.4 (118.8) (106.9)
Less preferred dividends -- 1.1 12.0 10.3 23.4
Less accretion of mandatorily
redeemable preferred stock -- -- 0.2 0.3 0.5
Net earnings (loss)
attributable to common
shareholders 2.4 3.0 (6.8) (129.4) (130.8)
Basic and diluted earnings
(loss) per common share 0.02 0.02 (0.05) (1.05) (1.06)
Year ended December 31, 1996
--------------------------------------------
1st 2nd 3rd 4th Full
Quarter Quarter Quarter Quarter Year
------- ------- ------- ------- --------
Net sales $ 403.9 $ 410.0 $ 402.6 $ 391.2 $1,607.7
Gross profit 100.6 109.5 102.5 111.2 423.8
Net earnings (loss) 5.9 (14.2) (146.4) 1.2 (153.5)
Basic and diluted earnings
(loss) per common share 0.05 (0.12) (1.19) 0.01 (1.25)
During the fourth quarter of 1997, the Company recorded a
provision for doubtful accounts of $182.0, which was approximately
$160.0 greater than the amount recorded in the fourth quarter of
1996. This pre-tax charge was made to increase the allowance for
doubtful accounts to a level that management believes is appropriate
to reduce its accounts receivable to the net amount that management
believes will ultimately be collected.
In the fourth quarter of 1997, the Company recorded a pre-tax
charge of $22.7, related primarily to a restructuring charge
associated with the downsizing of its Long Island, New York facility
and the future consolidation into its Raritan, New Jersey facility.
In the second quarter of 1997 the Company determined that
approximately $12.6 of existing restructuring reserves were excessive
due largely to expected proceeds from subleases and asset disposals.
Also, in the second quarter of 1997 the Company decided to downsize
the Winston-Salem, North Carolina laboratory and redirect specimen
volumes to other company facilities in order to realize operational
efficiencies. Restructuring charges related to the closing of the
Winston-Salem laboratory totaled $12.6.
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
In the third quarter of 1996, the Company recorded a pre-tax
charge of $185.0 to increase reserves related to the 1996 Government
Settlement and other related expenses of government and private
claims resulting therefrom.
In the second quarter of 1996, the Company recorded a pre-tax
charge of $23.0 relating to the shutdown of its La Jolla
administrative facility and other non-recurring charges. In addition,
the Company recorded an additional $10.0 provision for doubtful
accounts which was based on the Company's determination that
additional reserves were needed, based on trends that became evident
in the second quarter, for lower collection rates, primarily from
Medicare.
19. NEW ACCOUNTING PRONOUNCEMENTS
In June 1997, the Financial Accounting Standards Board issued
SFAS No. 130, "Reporting Comprehensive Income," and SFAS No. 131,
"Disclosures about Segments of an Enterprise and Related
Information." Both Statements are effective for fiscal years
beginning after December 15, 1997. SFAS No. 130 establishes standards
for reporting and display of comprehensive income and its components
in financial statements. SFAS No. 131 establishes standards for the
way that public business enterprises report information about
operating segments in annual financial statements and requires that
those enterprises report selected information about operating
segments in interim financial reports issued to shareholders. SFAS
No. 131 requires presentation of segment information under the
"management approach," which aligns segments disclosure with the way
that management organizes the segments within the enterprise for
making operational decisions and assessing performance.
In February 1998, the Financial Accounting Standards Board
issued SFAS No. 132, "Employers' Disclosures About Pensions and Other
Postretirement Benefits." This Statement is effective for fiscal
years beginning after December 15, 1997. The objective of SFAS No.
132 is to provide financial statement users with more comparable,
understandable and concise information concerning the employer's
obligations to fund retirement plans and provide postretirement
benefits. The Statement only applies to disclosures and does not
address the measurement of the employer's obligation.
Management has not yet completed its assessment of how these
standards will impact existing disclosures. The Company will adopt
these standards in 1998 as required.
[Enlarge/Download Table]
SCHEDULE II
LABORATORY CORPORATION OF AMERICA HOLDINGS AND SUBSIDIARIES
VALUATION AND QUALIFYING ACCOUNTS AND RESERVES
Years Ended December 31, 1997, 1996 and 1995
(Dollars in Millions)
----------------------------------------------------------------------------------------
Balance Charged Other
at to (Deduct- Balance
beginning Acquis- Charged Costs and ions) at end
of year itions to Sales Expenses Additions of year
----------------------------------------------------------------------------------------
Year ended December 31, 1997:
Applied against asset
accounts:
Contractual allowances
and allowance for
doubtful accounts $ 111.6 $ -- $ 61.0 $ 250.5 $(227.7) $ 195.4
====== ====== ====== ====== ====== ======
Valuation allowance-
deferred tax assets $ 32.0 $ -- $ -- $ 10.0 $ -- $ 42.0
====== ====== ====== ====== ====== ======
Year ended December 31, 1996:
Applied against asset
accounts:
Contractual allowances
and allowance for
doubtful accounts $ 90.4 $ -- $ 67.3 $ 81.5 $(127.6) $ 111.6
====== ====== ====== ====== ======= ======
Valuation allowance-
deferred tax assets $ -- $ -- $ -- $ 32.0 $ -- $ 32.0
====== ====== ====== ====== ======= ======
Year ended December 31, 1995
Applied against asset
accounts:
Contractual allowances
and allowance for
doubtful accounts $ 65.3 $ 33.2 $ 82.8 $ 64.8 $(155.7) $ 90.4
====== ====== ====== ====== ====== ======
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