form10q
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
(Mark One)
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended March 31, 2001
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ______________________ to ______________________
Commission File Number 1-8865
SIERRA HEALTH SERVICES, INC.
(Exact name of registrant as specified in its charter)
NEVADA 88-0200415
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2724 NORTH TENAYA WAY
LAS VEGAS, NV 89128
(Address of principal executive offices) (Zip Code)
(702) 242-7000
(Registrant's telephone number, including area code)
N/A
(Former name, former address and former fiscal year, if changed
since last report)
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
As of May 1, 2001, there were 27,513,000 shares of common stock outstanding.
SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
FORM 10-Q FOR THE THREE MONTHS ENDED MARCH 31, 2001
INDEX
Page No.
Part I - FINANCIAL INFORMATION
Item l. Financial Statements
Condensed Consolidated Balance Sheets -
March 31, 2001 and December 31, 2000..................................................... 3
Condensed Consolidated Statements of Operations -
three months ended March 31, 2001 and 2000............................................... 4
Condensed Consolidated Statements of Cash Flows -
three months ended March 31, 2001 and 2000............................................... 5
Notes to Condensed Consolidated Financial Statements....................................... 6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations............................................ 10
Item 3. Quantitative and Qualitative Disclosures
about Market Risk........................................................................ 16
Part II - OTHER INFORMATION
Item l. Legal Proceedings.......................................................................... 17
Item 2. Changes in Securities and Use Of Proceeds.................................................. 17
Item 3. Defaults Upon Senior Securities............................................................ 17
Item 4. Submission of Matters to a Vote of Security Holders........................................ 17
Item 5. Other Information.......................................................................... 17
Item 6. Exhibits and Reports on Form 8-K........................................................... 17
Signatures................................................................................................... 18
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except per share data)
ASSETS
March 31 December 31
2001 2000
CURRENT ASSETS:
Cash and Cash Equivalents.............................................. $ 112,162 $ 161,306
Investments............................................................ 249,321 207,143
Accounts Receivable (Less Allowance for Doubtful
Accounts: 2001 - $23,255; 2000 - $17,996).......................... 35,621 33,094
Military Accounts Receivable (Less Allowance for Doubtful
Accounts: 2001 - $1,316; 2000 - $1,212)............................ 52,906 71,390
Current Portion of Deferred Tax Asset.................................. 41,063 46,702
Current Portion of Reinsurance Recoverable............................. 95,556 92,867
Prepaid Expenses and Other Current Assets.............................. 35,262 33,559
Assets Held for Sale................................................... 22,942 22,942
---------- ----------
Total Current Assets............................................... 644,833 669,003
PROPERTY AND EQUIPMENT, NET................................................. 168,042 173,031
LONG-TERM INVESTMENTS....................................................... 9,068 18,093
RESTRICTED CASH AND INVESTMENTS............................................. 25,310 24,724
REINSURANCE RECOVERABLE, Net of Current Portion............................. 164,654 160,227
DEFERRED TAX ASSET, Net of Current Portion................................. 72,025 68,253
OTHER ASSETS................................................................ 62,570 51,769
---------- ----------
TOTAL ASSETS................................................................ $1,146,502 $1,165,100
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts Payable and Accrued Liabilities.................................. $ 101,497 $ 109,696
Medical Claims Payable.................................................... 115,360 112,296
Current Portion of Reserve for Losses and Loss Adjustment Expense ........ 136,076 134,676
Unearned Premium Revenue.................................................. 55,272 48,373
Military Health Care Payable.............................................. 87,036 84,859
Premium Deficiency Reserve................................................ 12,124 14,466
Current Portion of Long-term Debt......................................... 87,945 88,223
----------- ----------
Total Current Liabilities............................................ 595,310 592,589
RESERVE FOR LOSSES AND
LOSS ADJUSTMENT EXPENSE, Net of Current Portion........................... 243,833 239,878
LONG-TERM DEBT, Net of Current Portion...................................... 190,566 225,355
OTHER LIABILITIES .......................................................... 21,502 16,805
----------- ----------
TOTAL LIABILITIES........................................................... 1,051,211 1,074,627
----------- -----------
STOCKHOLDERS' EQUITY:
Preferred Stock, $.01 Par Value, 1,000
Shares Authorized; None Issued or Outstanding
Common Stock, $.005 Par Value, 60,000
Shares Authorized; Shares Issued: 2001 - 29,036; 2000 - 28,815...... 145 144
Additional Paid-in Capital................................................ 178,136 177,493
Treasury Stock; 2001 and 2000 - 1,523 Common Stock Shares................. (22,789) (22,789)
Accumulated Other Comprehensive Loss...................................... (4,698) (5,667)
Accumulated Deficit....................................................... (55,503) (58,708)
---------- ----------
Total Stockholders' Equity........................................... 95,291 90,473
---------- ----------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY.................................. $1,146,502 $1,165,100
========== ==========
See accompanying notes to condensed consolidated financial statements.
SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share data)
Three Months Ended March 31
2001 2000
OPERATING REVENUES:
Medical Premiums...................................................................... $ 212,180 $ 218,678
Military Contract Revenues............................................................ 81,912 64,881
Specialty Product Revenues............................................................ 41,426 28,024
Professional Fees..................................................................... 7,329 11,021
Investment and Other Revenues......................................................... 6,642 4,572
---------- -----------
Total .............................................................................. 349,489 327,176
---------- -----------
OPERATING EXPENSES:
Medical Expenses (Note 2)............................................................. 181,528 192,338
Military Contract Expenses............................................................ 80,438 62,833
Specialty Product Expenses............................................................ 43,871 26,848
General, Administrative and Marketing Expenses........................................ 33,676 34,329
Restructuring, Reorganization and Other Costs (Note 3)................................ 2,900
---------- ----------
Total ............................................................................. 339,513 319,248
OPERATING INCOME........................................................................ 9,976 7,928
INTEREST EXPENSE AND OTHER, NET ....................................................... (5,157) (5,588)
---------- ----------
INCOME BEFORE INCOME TAXES.............................................................. 4,819 2,340
PROVISION FOR INCOME TAXES.............................................................. (1,614) (784)
---------- ----------
NET INCOME.............................................................................. $ 3,205 $ 1,556
========== ==========
NET INCOME PER COMMON SHARE............................................................. $.12 $.06
==== ====
NET INCOME PER COMMON SHARE ASSUMING DILUTION........................................... $.12 $.06
==== ====
WEIGHTED AVERAGE COMMON SHARES OUTSTANDING.............................................. 27,488 26,985
WEIGHTED AVERAGE COMMON SHARES OUTSTANDING
ASSUMING DILUTION..................................................................... 27,770 26,985
See accompanying notes to condensed consolidated financial statements.
SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
Three Months Ended March 31
2001 2000
CASH FLOWS FROM OPERATING ACTIVITIES:
Net Income.............................................................. $ 3,205 $ 1,556
Adjustments to Reconcile Net Income to Net Cash
Provided by (Used for) Operating Activities:
Depreciation and Amortization.................................... 6,233 8,693
Provision for Doubtful Accounts.................................. 5,363 1,072
Changes in Assets and Liabilities....................................... 9,414 (52,691)
-------- -------
Net Cash Provided by (Used for) Operating Activities .......... 24,215 (41,370)
-------- -------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital Expenditures.................................................... (1,041) (6,246)
Changes in Investments.................................................. (37,894) 16,076
-------- -------
Net Cash (Used for) Provided by Investing Activities........... (38,935) 9,830
-------- -------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from Borrowings................................................ 16,000
Payments on Debt and Capital Leases..................................... (35,067) (1,684)
Issuance of Stock in Connection with Stock Plans........................ 643 904
-------- -------
Net Cash (Used for) Provided by Financing Activities........... (34,424) 15,220
-------- -------
NET DECREASE IN CASH AND CASH EQUIVALENTS.................................. (49,144) (16,320)
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD........................... 161,306 55,936
-------- -------
CASH AND CASH EQUIVALENTS AT END OF PERIOD................................. $112,162 $39,616
======== =======
Three Months Ended March 31
Supplemental Condensed Consolidated
Statements of Cash Flows Information: 2001 2000
Cash Paid During the Period for Interest
(Net of Amount Capitalized)............................................. $5,199 $6,298
Net Cash (Paid) Received During the Period for Income Taxes................ (14) 2,628
Non-cash Investing and Financing Activities:
Note Received for Sale of Investment.................................... 3,700
See accompanying notes to condensed consolidated financial statements.
SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1. The accompanying unaudited financial statements include the consolidated
accounts of Sierra Health Services, Inc. ("Sierra", a holding company,
together with its subsidiaries, collectively referred to herein as the
"Company"). All material intercompany balances and transactions have been
eliminated. These statements have been prepared in conformity with
accounting principles generally accepted in the United States of America
and used in preparing the Company's annual audited consolidated financial
statements but do not contain all of the information and disclosures that
would be required in a complete set of audited financial statements. They
should, therefore, be read in conjunction with the Company's annual audited
consolidated financial statements and related notes thereto for the years
ended December 31, 2000 and 1999. In the opinion of management, the
accompanying unaudited condensed consolidated financial statements reflect
all adjustments, consisting only of normal recurring adjustments, necessary
for a fair presentation of the financial results for the interim periods
presented.
2. Certain Medical Expenses
In the first quarter of 2000, the Company recorded $1.0 million of prior
period reserve strengthening.
The total premium deficiency medical reserve utilized during the first
quarter of 2001 was $2.1 million. Management believes that the remaining
premium deficiency reserve of $12.1 million, as of March 31, 2001, is
adequate and that no revision to the estimate is necessary at this time. Of
the $12.1 million remaining reserve, $3.1 million has been designated as a
premium deficiency medical reserve.
3. Asset Impairment, Restructuring, Reorganization and Other Costs
Restructuring and Reorganization:
In the first quarter of 2000, the Company announced a restructuring of the
managed health care operations in Texas. As a result of this restructuring,
the Company incurred approximately $1.4 million of severance pay for
employees who were terminated. The restructuring involved changes in senior
management at the Texas facilities and the centralization of key services
to Las Vegas. Also in the first quarter of 2000, the Company incurred $1.5
million of costs, consisting primarily of consulting fees, in conjunction
with a review and reorganization of the managed care operations in Texas.
The table below presents a summary of asset impairment, restructuring,
reorganization and other costs for the periods indicated.
Restructuring Premium
Asset and Deficiency
Impairment Reorganization Maintenance Other Total
(In thousands)
Balance, January 1, 2000........... $ 11,000 $ 3,449 $ 14,449
Charges recorded................... $ 190,490 $ 13,492 10,358 6,100 220,440
Cash used.......................... (9,143) (12,080) (502) (21,725)
Noncash activity................... (190,490) (3,800) (194,290)
Changes in estimate................ -
--------- -------- -------- -------- ---------
Balance, December 31, 2000......... - 4,349 9,278 5,247 18,874
Charges recorded................... -
Cash used.......................... (606) (237) (843)
Noncash activity................... -
Changes in estimate................ -
--------- -------- -------- -------- ----------
Balance, March 31, 2001............ $ - $ 3,743 $ 9,041 $ 5,247 $ 18,031
========= ======== ======== ======== ==========
The remaining restructuring and reorganization costs of $3.7 million are
primarily related to the cost to provide malpractice insurance on our
discontinued affiliated medical groups, clinic closures and lease terminations
in Houston and Arizona. The remaining other costs of $5.2 million are primarily
related to legal claims. Management believes that the remaining reserves, as of
March 31, 2001, are adequate and that no revisions to the estimates are
necessary at this time.
4. The following table provides a reconciliation of basic and diluted earnings
per share ("EPS"):
Dilutive
(In thousands, except per share data) Basic Stock Options Diluted
For the Three Months ended March 31, 2001:
Net Income $3,205 $3,205
Shares 27,488 282 27,770
Per Share Amount $.12 $.12
For the Three Months ended March 31, 2000:
Net Income $1,556 $1,556
Shares 26,985 26,985
Per Share Amount $.06 $.06
CII Financial, Inc., a wholly owned subsidiary of the Company, has
outstanding 7 1/2% convertible subordinated debentures (the "Debentures")
due September 15, 2001. Each $1,000 in principal is convertible into 25.382
shares of the Company's common stock at a conversion price of $39.398 per
share. The Debentures were not included in the computation of EPS because
their effect would be antidilutive. Outstanding stock options were not
included in the computation of diluted EPS in 2000 because their effect
would have been antidilutive.
5. The following table presents comprehensive income for the periods
indicated:
Three Months Ended March 31
(In thousands) 2001 2000
NET INCOME................................ $3,205 $1,556
Change in Accumulated Other
Comprehensive Loss...................... 969 4,074
------ ------
COMPREHENSIVE INCOME...................... $4,174 $5,630
====== ======
6. Segment Reporting
The Company has three reportable segments based on the products and
services offered: managed care and corporate operations, military health
services operations and workers' compensation operations. The managed care
and corporate segment includes managed health care services provided
through HMOs, managed indemnity plans, third-party administrative services
programs for employer-funded health benefit plans, multi-specialty medical
groups, other ancillary services and corporate operations. The military
health services segment administers a five-year, managed care federal
contract for the Department of Defense's TRICARE program in Region 1. The
workers' compensation segment assumes workers' compensation claims risk in
return for premium revenues and third party administrative services.
The Company evaluates each segment's performance based on segment operating
profit. The accounting policies of the operating segments are the same as
those of the consolidated company, except as described in the notes below.
Information concerning the operations of the reportable segments is as follows:
(In thousands)
Managed Care Military Workers'
and Corporate Health Services Compensation Total
Three Months Ended March 31, 2001
Medical Premiums................................. $212,180 $212,180
Military Contract Revenues....................... $81,912 81,912
Specialty Product Revenues....................... 1,972 $39,454 41,426
Professional Fees................................ 7,329 7,329
Investment and Other Revenues.................... 1,607 521 4,514 6,642
-------- ------- ------- --------
Total Revenue................................. $223,088 $82,433 $43,968 $349,489
======== ======= ======= ========
Segment Operating Profit (1)..................... $ 6,644 $ 1,995 $ 2,937 $ 11,576
Interest Expense and Other, Net.................. (4,261) (17) (879) (5,157)
Changes in Estimate Charges (2).................. (1,600) (1,600)
-------- ------- ------- --------
Net Income Before Income Taxes................... $ 2,383 $ 1,978 $ 458 $ 4,819
======== ======= ======= ========
Three Months Ended March 31, 2000
Medical Premiums................................. $218,678 $218,678
Military Contract Revenues....................... $64,881 64,881
Specialty Product Revenues....................... 2,322 $25,702 28,024
Professional Fees................................ 11,021 11,021
Investment and Other Revenues.................... 995 202 3,375 4,572
-------- ------- ------- --------
Total Revenue................................. $233,016 $65,083 $29,077 $327,176
======== ======= ======= ========
Segment Operating Profit (1)..................... $ 4,245 $ 3,250 $ 5,833 $ 13,328
Interest Expense and Other, Net.................. (4,528) (242) (818) (5,588)
Changes in Estimate Charges (2).................. (1,000) (1,500) (2,500)
Restructuring, Reorganization and Other Costs.... (2,900) (2,900)
-------- -------- ------- --------
Net (Loss) Income Before Income Taxes............ $ (4,183) $ 3,008 $ 3,515 $ 2,340
========= ======== ======= ========
(1) The segment operating profit excludes the effects of changes in estimate
charges.
(2) Represents changes in estimate charges in the current year for services or
liabilities of a prior year that are reclassified to either Medical
Expenses or Specialty Product Expenses for presentation in accordance with
accounting principles generally accepted in the United States of America.
7. Certain amounts in the Condensed Consolidated Financial Statements for the
three months ended March 31, 2000 have been reclassified to conform with
the current year presentation.
SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion and analysis provides information which management
believes is relevant for an assessment and understanding of our consolidated
financial condition and results of operations. The discussion should be read in
conjunction with the Condensed Consolidated Financial Statements and related
Notes thereto. Any forward-looking information contained in this Management's
Discussion and Analysis of Financial Condition and Results of Operations and any
other sections of this Quarterly Report on Form 10-Q should be considered in
connection with certain cautionary statements contained in our Current Report on
Form 8-K filed March 20, 2001, which is incorporated by reference. Such
cautionary statements are made pursuant to the "safe harbor" provisions of the
Private Securities Litigation Reform Act of 1995 and identify important risk
factors that could cause our actual results to differ materially from those
expressed in any projected, estimated or forward-looking statements relating to
us.
RESULTS OF OPERATIONS, THREE MONTHS ENDED MARCH 31, 2001, COMPARED TO THREE
MONTHS ENDED MARCH 31, 2000.
Total Operating Revenues for 2001 increased approximately 6.8% to $350
million from $327 million for 2000.
The change in operating revenues was comprised of the following:
o A decrease in medical premiums of $6.5 million
o An increase in military contract revenues of $17.0 million
o An increase in specialty product revenues of $13.4 million
o A decrease in professional fees of $3.7 million
o An increase in investment and other revenues of $2.1 million
Medical premiums accounted for approximately 60.7% and 66.8% of our total
revenues for 2001 and 2000, respectively. The decrease in medical premiums as a
percentage of total revenues in 2001 is primarily due to the increase in
specialty product and military contract revenues, a decrease in commercial HMO
membership in Dallas/Ft. Worth and the elimination of the HMO membership in
Houston, Texas as a result of our leaving the Houston market in December 2000.
Medical premium revenue growth is principally dependent upon continued
enrollment in our products and upon competitive and regulatory factors.
Medical Premiums decreased $6.5 million or 3.0%. The decrease in premium
revenue reflects a 20.4% decrease in commercial member months (the number of
months of each year that an individual is enrolled in a plan) offset by a 6.3%
increase in Medicare member months. Excluding the Texas operations, premium
revenue increased by $8.6 million or 5.5%, Medicare member months increased by
6.9% and commercial member months decreased by 1.5%. The growth in Medicare
member months contributes significantly to increases in premium revenues as the
Medicare per member premium rates are over three times higher than the average
commercial premium rate. The average commercial rate increases in 2001 on
renewed groups are approximately 8% and 14% in Las Vegas and Dallas/Ft. Worth,
respectively. Our managed indemnity rates increased approximately 16% and
Medicare rates increased approximately 4%, of which a portion is attributable to
an increase in member benefits. Over 97% of our Las Vegas, Nevada Medicare
beneficiaries are enrolled in the Social HMO Medicare program. The Health Care
Financing Administration, or HCFA, may consider adjusting the reimbursement
factor or changing the program for the Social HMO beneficiaries in the future.
If the reimbursement for these beneficiaries decreases significantly and related
benefit changes are not made timely, there could be a material adverse effect on
our business.
We market our HMO and managed indemnity insurance products primarily to employer
groups, labor unions and individuals enrolled in Medicare, through our internal
sales personnel and independent insurance brokers. Our brokers receive
commissions based on the premiums received from each group. Our agreements with
our member groups are usually for twelve months and are subject to annual
renewal. For the quarter ended March 31, 2001, our ten largest commercial HMO
employer groups were, in the aggregate, responsible for less than 10% of our
total revenues. Although none of the employer groups accounted for more than 2%
of total revenues for that period, the loss of one or more of the larger
employer groups could, if not replaced with similar membership, have a material
adverse effect on our business.
Military Contract Revenues increased $17.0 million or 26.3%. The increase
in revenue relates to change orders finalized as part of the global settlement
with the Department of Defense, or DoD, in early January, 2001 which increased
both health care premium revenue and administrative change order revenue. The
revenue increase is significantly offset by increased military contract
expenses. The change orders recently implemented include a prescription drug
program for beneficiaries over age 65 and the waiver of duty family co-payments.
Military contract revenue is recorded based on the contract price as agreed to
by the federal government, adjusted for certain provisions based on actual
experience. In addition, we record revenue based on estimates of the earned
portion of any contract change orders not originally specified in the contract.
Specialty Product Revenues increased $13.4 million or 47.8%. Revenue
increased in the workers' compensation insurance segment by $13.8 million, which
was offset by a slight decrease in administrative services revenue of $.4
million.
Workers' compensation net earned premiums are the end result of direct written
premiums, plus the change in unearned premiums, less premiums ceded to
reinsurers. Direct written premiums increased by 5% due primarily to premium
rate increases. Ceded reinsurance premiums decreased by 56% primarily due to the
expiration of our low level reinsurance agreement on June 30, 2000 and new lower
cost reinsurance agreements.
As compared to the low level reinsurance agreement that expired on June 30,
2000, the new reinsurance agreements result in higher net earned premium
revenues, as we retain more of the premium dollars, but also lead to our keeping
more of the incurred losses. This resulted in a higher loss and loss adjustment
expense, or LAE, ratio as the percentage increase in the additional incurred
losses was greater than the percentage increase in the additional premiums
retained. The effect on the balance sheet will eventually result in a lower
amount of reinsurance recoverables and due to the length of time that it
typically takes to fully pay a claim, we should see an increase in operating
cash flow and amounts available to be invested.
Professional Fees decreased $3.7 million or 33.5% due primarily to the
closing of our affiliated medical groups in Texas and Arizona during 2000.
Investment and Other Revenues increased $2.1 million or 45.3%, due
primarily to an increase in the average invested balance during the period and
net gains on the sale of investments of $.4 million in 2001 versus net losses on
the sale of investments of $.4 million for 2000.
Medical Expenses decreased $10.8 million or 5.6%. Medical expenses as a
percentage of medical premiums and professional fees decreased from 83.7% to
82.7% and, excluding changes in estimate charges and premium deficiency, from
86.0% to 83.7%. The improvement is primarily due to the closing and sale of
operations with higher medical care ratios, in Texas and rural Nevada, and price
increases in excess of cost increases. Offsetting some of the improvements in
the ratios was an increase in Medicare members as a percentage of fully-insured
members. The cost of providing medical care to Medicare members generally
requires a greater percentage of the premiums received.
Medical expenses reported in the first quarter of 2000 included $1.0 million of
prior period reserve strengthening. The medical expenses for 2001 include the
utilization of $2.1 million of premium deficiency reserve to offset losses on
contracts in Texas compared to the utilization of $6.3 million in 2000.
Military Contract Expenses increased $17.6 million or 28.0%. The increase
is consistent with the increase in revenues discussed previously. Health care
delivery expense consists primarily of costs to provide managed health care
services to eligible beneficiaries in accordance with Sierra's TRICARE contract.
Under the contract, Sierra Military Health Services, Inc., or SMHS, provides
health care services to approximately 640,000 dependents of active duty military
personnel and military retirees and their dependents through subcontractor
partnerships and individual providers. Health care costs are recorded in the
period when services are provided to eligible beneficiaries, including estimates
for provider costs, which have been incurred but not reported to us. Also,
included in military contract expenses are costs incurred to perform specific
administrative services, such as health care appointment scheduling, enrollment,
network management and health care advice line services, and other
administrative functions of the military health care subsidiary.
Specialty Product Expenses increased $17.0 million or 63.4%. Expenses
increased in the workers' compensation insurance segment by $17.4 million, which
was offset by a slight decrease in administrative services expense of $.4
million.
The increase in the workers' compensation insurance segment expenses is
primarily due to the following:
o An increase in net earned premiums, which resulted in proportionally higher
loss and LAE of approximately $8.1 million.
o A higher recorded loss and LAE ratio for the 2001 accident year, which
resulted in an increase in expenses of approximately $7.5 million.
o An increase in underwriting expenses and policyholders' dividends which
resulted in an additional $1.7 million in expenses.
The higher loss and LAE ratio for the 2001 accident year was primarily due to
the run off of the low level reinsurance agreement on June 30, 2000, which
results in a higher risk exposure on policies effective after that date and a
higher amount of net incurred loss and LAE.
We recorded net adverse loss development for prior accident years of $1.6
million in 2001 and $1.5 million in the first quarter of 2000. The net adverse
development recorded for prior accident years was largely attributable to higher
costs per claim, or claim severity, in California. Higher claim severity has had
a negative impact on the entire California workers' compensation industry. The
majority of the adverse loss development occurred on accident years that were
not covered by our low level reinsurance agreement. While the low level
reinsurance agreement is in run off effective July 1, 2000, California premium
rates have been increasing, which we believe will largely mitigate the loss of
this favorable reinsurance protection. The premium rate increases on policies
renewed in California during the first quarter of 2001 were approximately 42%.
The combined ratio is a measurement of underwriting profit or loss and is the
sum of the loss and LAE ratio, underwriting expense ratio and policyholders'
dividend ratio. A combined ratio of less than 100% indicates an underwriting
profit. Our combined ratio was 108.9% compared to 98.6% for the first quarter of
2000. The increase was primarily due to a higher loss and LAE ratio of 17.6
percentage points and policyholders' dividend ratio increase of .4 percentage
points and was offset by a decrease in the underwriting expense ratio of 7.7
percentage points. The increase in the loss and LAE ratio was primarily due to
the run off of the low level reinsurance which is resulting in our retaining
more of the incurred losses. The reduction in the underwriting expense ratio was
primarily due to higher retained net earned premiums.
General, Administrative and Marketing Expenses, or G&A, decreased $.7
million or 1.9%. As a percentage of revenues, G&A expenses for 2001 were
9.6% compared to 10.5% in 2000 due primarily to higher revenues in 2001. As a
percentage of medical premium revenue, G&A expenses were just below 16% for
both periods. Excluding the utilization of premium deficiency reserves for
maintenance costs of $.2 million for 2001 and $5.6 million for 2000, G&A
expenses decreased $6.1 million or 15.2% for the period. The $6.1 million
decrease was primarily attributable to a $2.5 million decrease in depreciation
and amortization expense due to the write-off of unamortized goodwill during
2000 and cost reduction initiatives implemented throughout 2000. The initiatives
primarily consisted of the restructuring of our Texas HMO operations by
consolidating certain functions with our existing operations in Las Vegas and
corporate expense reductions.
Restructuring, Reorganization and Other Costs were not recorded in 2001
compared to $2.9 million for 2000. In the first quarter of 2000, we announced a
restructuring of the managed health care operations in Texas and incurred
approximately $1.4 million of severance pay for employees who were terminated.
Also in the first quarter of 2000, we incurred $1.5 million of costs, consisting
primarily of consulting fees, in conjunction with a review and reorganization of
the managed care operations in Texas.
Interest Expense and Other, Net decreased $.4 million or 7.7%, due
primarily to a decrease in the average balance of outstanding debt during the
period offset by an increase in weighted average cost of borrowing. Our average
revolving credit facility debt balance was $94 million in 2001 compared to $178
million in 2000 and our average interest rate on the revolving credit facility
was 10.1% in 2001 compared to 8.8% in 2000.
Provision for Income Taxes was recorded at $1.6 million for 2001 compared
to $.8 million for 2000. The effective tax rate for both periods was 33.5% which
is less than the statutory tax rate due primarily to tax preferred investments
offset by state income taxes.
LIQUIDITY AND CAPITAL RESOURCES
We had cash in-flows from operating activities of $24.2 million for the three
months ended March 31, 2001 compared to cash out-flows of $41.4 million for
2000. The improvement over 2000 is primarily attributable to cash from earnings
and collections from outstanding military accounts receivable.
SMHS receives monthly cash payments equivalent to one-twelfth of its annual
contractual price with the DoD. SMHS accrues health care revenue on a monthly
basis for any monies owed above its monthly cash receipt based on the number of
at-risk eligible beneficiaries and the level of military direct care system
utilization. The contractual bid price adjustment, or BPA, process serves to
adjust the DoD's monthly payments to SMHS, because the payments are based in
part on 1996 DoD estimates for beneficiary population and beneficiary population
baseline health care cost, inflation and military direct care system
utilization. As actual information becomes available for the above items,
quarterly adjustments are made to SMHS' monthly health care payment in addition
to lump sum adjustments for past months. In addition, SMHS accrues change order
revenue for DoD directed contract changes. During January 2001, SMHS reached an
agreement with the DoD on a settlement of $58.2 million related to contract
modifications issued prior to July 1, 2000. SMHS received an immediate payment
of $21.3 million for outstanding receivables and will receive an additional $1.1
million per month until the end of the contract. Of the total settlement, SMHS
estimates that approximately $18 million is owed to subcontractors of which
approximately $2.2 million was paid out during the first quarter of 2001. Our
business and cash flows could be adversely affected if the timing or amount of
the BPA and change order reimbursements vary significantly from our
expectations. SMHS is in the process of finalizing a financing arrangement on
its accounts receivable balance in order to improve the availability of cash.
The military accounts receivable balance was $52.9 million as of March 31, 2001.
Net cash used for investing activities during 2001 included $1.0 million in net
capital expenditures. The net cash change in investments for the period was
$38.9 million as investments were purchased with cash primarily from operations.
Cash used for financing activities included net payments of $33 million on the
revolving credit facility and an additional $2.1 million in payments on other
outstanding debt and capital leases.
Revolving Credit Facility
Our revolving credit facility balance decreased from $135 million to $102
million during the quarter. Of the $102 million outstanding balance, $5 million
is reflected in the current portion of long-term debt as it is required to be
paid as a permanent reduction of the outstanding balance during the next twelve
months. Interest under the revolving credit facility is variable and is based on
Bank of America's "prime rate" plus a margin. The rate was 8.625% at March 31,
2001, which is a combination of the prime rate of 8.0% plus a margin of .625%.
The margin can fluctuate in the future based on our completing certain
transactions and meeting certain financial ratios. To mitigate the risk of
interest rate fluctuation on the revolving credit facility, of the outstanding
balance, $25 million is covered by an interest-rate swap agreement. The average
cost of borrowing on this revolving credit facility for 2001, including the
impact of the interest-rate swap agreement, was 10.1%.
Debentures
In September 1991, CII Financial, Inc., or CII, our workers' compensation
holding company, issued 7 1/2% convertible subordinated debentures. As of March
31, 2001, $47 million in 7 1/2% convertible subordinated debentures were
outstanding. Interest on the 7 1/2% convertible subordinated debentures is due
semi-annually on March 15 and September 15, and they mature September 15, 2001.
Each $1,000 in principal is convertible into 25.382 shares of common stock of
Sierra at a conversion price of $39.398 per share.
CII anticipated that they would not have readily available sources of cash to
pay the 7 1/2% convertible subordinated debentures when they were scheduled to
mature, in September 2001, and initiated a proposed exchange offer in December
2000. CII proposed to exchange the 7 1/2% convertible subordinated debentures
for new debentures and/or cash. To facilitate the exchange CII was able to
obtain approval from the California Department of Insurance to receive an
extraordinary dividend from California Indemnity, one of its insurance
subsidiaries, of $5 million and borrowed an additional $17 million from Sierra.
On May 8, 2001, CII announced that it had closed its tender and exchange offer
on approximately $42.1 million of its outstanding 7 1/2% convertible
subordinated debentures. CII purchased approximately $27.1 million in principal
amount of 7 1/2% convertible subordinated debentures for approximately $20
million in cash and issued approximately $15.0 million in new 9 1/2% senior
debentures, due September 15, 2004, in exchange for approximately $15.0 million
in 7 1/2% convertible subordinated debentures. CII has approximately $5.0
million in 7 1/2% convertible subordinated debentures due September 15, 2001
that remain outstanding.
The new 9 1/2% senior debentures pay interest which is due semi-annually on
March 15 and September 15 of each year commencing on September 15, 2001. The new
9 1/2% senior debentures rank senior to outstanding notes payable from CII to
Sierra, the 7 1/2% convertible subordinated debentures and CII's guarantee of
Sierra's revolving credit facility. The new 9 1/2% senior debentures may be
redeemed by CII at any time at defined premiums starting at 110% and declining
to 100% for purchases after April 1, 2004. In the event of a change in control
of CII, the holders of these new 9 1/2% senior debentures may require that we
repurchase them at the then applicable redemption price, plus accrued and unpaid
interest.
CII's only significant short-term non-insurance liquidity need is for interest
on the debentures and the repayment of the approximately $5.0 million in
outstanding 7 1/2% convertible subordinated debentures, which are due on
September 15, 2001 as discussed above. CII's new 9 1/2% senior debentures
represent the long-term non-insurance liquidity needs. CII expects to service
the new 9 1/2% senior debentures from future cash flows, primarily from
dividends that will be paid by their insurance subsidiaries from their future
earnings. CII may not have readily available sources of cash to pay the
approximately $5.0 million in 7 1/2% convertible subordinated debentures when
they mature, on September 15, 2001, and is continuing to explore refinancing
strategies.
Statutory Capital and Deposit Requirements
Our HMO and insurance subsidiaries are required by state regulatory agencies to
maintain certain deposits and must also meet certain net worth and reserve
requirements. The HMO and insurance subsidiaries had restricted assets on
deposit in various states totaling $24.6 million at March 31, 2001. The HMO and
insurance subsidiaries must also meet requirements to maintain minimum
stockholders' equity, on a statutory basis, as well as minimum risk-based
capital requirements, which are determined annually. Additionally, in
conjunction with the Kaiser-Texas acquisition, Texas Health Choice, L.C., or
TXHC, entered into a letter agreement with the Texas Department of Insurance
whereby TXHC agreed to maintain a net worth of $20.0 million, on a statutory
basis, until certain income levels are achieved.
Of the $112.2 million in cash and cash equivalents held at March 31, 2001, $65.7
million was designated for use only by the regulated subsidiaries. Amounts are
available for transfer to the holding company from the HMO and insurance
subsidiaries only to the extent that they can be remitted in accordance with the
terms of existing management agreements and by dividends. The holding company
will not receive dividends from its regulated subsidiaries if such dividend
payment would cause violation of statutory net worth and reserve requirements.
Other
We have a 2001 capital budget of $18 million as limited by our revolving credit
facility. The planned expenditures are primarily for the expansion of clinics
and other leased facilities, the purchase of computer hardware and software,
furniture and equipment and other normal capital requirements. Our liquidity
needs over the next 12 months will primarily be for the capital items noted
above, debt service and expansion of our operations. We believe that our
existing working capital, operating cash flow and, if necessary, equipment
leasing, divestitures of certain non-core assets, restructuring of the remaining
$5.0 million of 7 1/2% convertible subordinated debentures and amounts available
under our revolving credit facility should be sufficient to fund our capital
expenditures and debt service. Additionally, subject to unanticipated cash
requirements, we believe that our existing working capital and operating cash
flow should enable us to meet our liquidity needs on a long-term basis.
Membership
Our membership at March 31, 2001 and 2000 was as follows:
Number of Members at March 31
2001 2000
HMO
Commercial.................................................. 197,100 252,900
Medicare (1)................................................ 57,200 53,500
Medicaid.................................................... 16,100 11,900
Managed Indemnity............................................. 29,700 34,700
Medicare Supplement........................................... 28,100 29,100
Administrative Services....................................... 280,400 293,400
TRICARE Eligibles............................................. 640,300 610,000
--------- ---------
Total Members................................................. 1,248,900 1,285,500
========= =========
(1) The 2001 Medicare membership does not include 5,000 Houston members that
AmCare Health Plans of Texas, Inc. assumed under a reinsurance agreement on
December 1, 2000.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
As of March 31, 2001, unrealized holding losses on available for sale
investments have decreased by $969,000 since the 2000 year end due primarily to
a decrease in interest rates, and thus, an increase in the market value of
bonds. We believe that changes in market interest rates, resulting in unrealized
holding gains or losses, should not have a material impact on future earnings or
cash flows as it is unlikely that we would need or choose to substantially
liquidate our investment portfolio.
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
We are subject to various claims and other litigation in the ordinary course of
business. Such litigation includes claims of medical malpractice, claims for
coverage or payment for medical services rendered to HMO members and claims by
providers for payment for medical services rendered to HMO members. Also
included in such litigation are claims for workers' compensation and claims by
providers for payment for medical services rendered to injured workers. In the
opinion of our management, the ultimate resolution of these pending legal
proceedings should not have a material adverse effect on our financial
condition.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
None
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
ITEM 5. OTHER INFORMATION
None
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
(99) Registrant's current report on Form 8-K dated
March 20, 2001, incorporated herein by reference.
(b) Reports on Form 8-K
Current Report on Form 8-K, dated January 5, 2001, with the
Securities and Exchange Commission in connection with the
Company's sale and leaseback transaction.
Current Report on Form 8-K, dated March 20, 2001, with the
Securities and Exchange Commission in connection with
certain cautionary statements made pursuant to the "safe
harbor" provisions of the Private Securities Litigation
Reform Act of 1995.
Current Report on Form 8-K, dated March 23, 2001, with the
Securities and Exchange Commission in connection with the
announcement of the Company's participation in a Healthcare
Conference.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
SIERRA HEALTH SERVICES, INC.
(Registrant)
Date: May 14, 2001 /S/ PAUL H. PALMER
Paul H. Palmer
Vice President of Finance,
Chief Financial Officer and Treasurer
(Principal Financial and Accounting Officer)