10-Q/A 1 d515020d10qa.htm FORM 10-Q/A Form 10-Q/A
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

Form 10-Q/A

(Amendment No. 2)

 

 

(Mark One)

 

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2012

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 000-54064

 

 

 

LOGO

UNIVERSITY GENERAL HEALTH SYSTEM, INC.

(Exact name of registrant as specified in its charter)

 

 

 

NEVADA   71-0822436

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

7501 Fannin Street, Houston, Texas
  77054
(Address of principal executive offices)   (Zip Code)

(713) 375-7100

(Registrant’s telephone number, including area code)

 

 

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer   ¨    Accelerated filer   x
Non-accelerated filer   ¨      Smaller reporting company   ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x

As of August 14, 2012, there were 325,654,031 shares of the registrant’s common stock outstanding.

 

 

 


Table of Contents

UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Form 10-Q/A

(Amendment No. 2)

For the Quarterly Period Ended June 30, 2012

EXPLANATORY NOTE

We are filing this Amendment No. 2 on Form 10-Q/A to amend and restate in its entirety the following items of our Quarterly Report on Form 10-Q for the quarter ended June 30, 2012 as originally filed with the Securities and Exchange Commission on August 14, 2012 (the “Original Form 10-Q”): (i) Item 1 of Part I “Financial Information,” (ii) Item 2 of Part I, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” and we have also updated the signature page, the certifications of our Chief Executive Officer and Chief Financial Officer in Exhibits 31.1, 31.2, and 32. Our financial statements formatted in Extensible Business Reporting Language (XBRL) in Exhibits 101. No other sections were affected, but for the convenience of the reader, this report on Form 10-Q/A restates in its entirety, as amended, our Original Form 10-Q. This report on Form 10-Q/A is presented as of the filing date of the Original Form 10-Q and does not reflect events occurring after that date, or modify or update disclosures in any way other than as required to reflect the restatement described below.

We have determined that our previously reported results for the quarter ended June 30, 2012 erroneously accounted for Series C Variable Rate Convertible Preferred Stock and the related common stock warrants.

 

  i) Restate the accounting of the May 2, 2012 Series C Variable Rate Convertible Preferred Stock and the related common stock warrants; we have identified an embedded derivative within the provisions of the preferred stock and a separately identified free-standing derivative for the warrants, and will record such derivatives at fair market value. The embedded derivative for the preferred stock was created by the “full ratchet” adjustment provision within the terms and condition of the preferred stock. The derivatives associated with the preferred stock and warrants were not originally reflected in the Company’s financial statements. The warrants and conversion features related to preferred stock do not have readily determinable fair values and therefore require significant management judgment and estimation. We used the Binomial pricing model to estimate the fair value of warrant and preferred stock conversion features at the end of each applicable reporting period. Changes in the fair value of these derivatives during each reporting period are included in the statement of income. Inputs into the Binomial pricing model require estimates, including such items as estimated volatility of our stock, risk-free interest rate and the estimated life of the financial instruments being fair valued.

 

  ii) Originally, the preferred stock and warrants were classified as equity in the Consolidated Balance Sheets. Under the restatement, the preferred stock is now classified in temporary equity on the Consolidated Balance Sheets because the conversion features do not have readily determinable fair values and therefore require significant management judgment and estimations. The preferred stock had similar characteristics of an “Increasing Rate Security” as described by Securities and Exchange Commission (“SEC”) Staff Accounting Bulletin Topic 5Q, Increasing Rate Preferred Stock. Discounts on the increasing rate preferred stock are amortized over the expected life of the preferred stock (4 years), by charging imputed dividend cost against retained earnings and increasing the carrying amount of the preferred stock by a corresponding amount. The discount at the time of issuance is computed as the present value of the difference between dividends that will be payable in future periods and the dividend amount for a corresponding number of periods, discounted at a market rate for dividend yield on comparable securities. The amortization in each period is the amount which, together with the stated dividend in the period, results in a constant rate of effective cost with regard to the carrying amount of the preferred stock. At issuance, the Company recorded the $5,158,575 derivative liability by allocating $4,701,289 as an expense to other income/expense called “Direct Investor Expense” on the Company’s Consolidated Statement of Operations (see note 10 for a breakout of this liability among the preferred stocks and the warrants.) In addition, the Company recorded the fair value of the placement warrants ($88,469) as a derivative liability. The company allocated $60,698 of the fair value of the placement warrants to the contra temporary equity account and will accrete the expense to the statement of operations over two years, the remaining $27,771 of the fair value of the placements warrants was expensed at issuance. The Company believes they accounted for these features in accordance with the Derivatives Implementation Group Issue No. B6.

 

  iii) Restate our earnings per share disclosures and calculations to accurately reflect the impact of the Series C Variable Rate Convertible Preferred Stock and Warrant issuance.

The correction of the errors increased originally reported liabilities by $4.3 million and mezzanine equity by $2.8 million, and decreased originally reported shareholders’ equity by $7.1 million at June 30, 2012. In addition, other expense increased by $0.1 million, direct investor expense increased by $4.7 million, change in fair market value of derivatives increased by $0.9 million, and net income attributable to the Company decreased by $4.0 million for the three and six months ended June 30, 2012. Basic and diluted earnings per share decreased from $0.02 to $0.00 for the three months ended June 30, 2012. Basic earnings per share decreased from $0.02 to $0.01 and diluted earnings per share decreased from $0.02 to $0.00 for the six months ended June 30, 2012.

We have made necessary conforming changes in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” resulting from the correction of this error.

The consolidated financial statements and other financial information included in this Amendment No. 2 have been restated accordingly. The public should no longer rely on our previously filed financial statements for the three and six months ended June 30, 2012. These matters have been discussed by our authorized executive officers and with our former independent registered certified public accounting firm.

 

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TABLE OF CONTENTS

 

     Page No.  

PART I FINANCIAL INFORMATION

  

Item 1. Financial Statements

  

Consolidated Balance Sheets
as of June 30, 2012 (Restated and Unaudited) and December 31, 2011

     4   

Consolidated Statements of Operations
For the three and six months ended June 30, 2012 (Restated and Unaudited) and 2011 (Unaudited)

     5   

Consolidated Statements of Cash Flows
For the six months ended June 30, 2012 (Restated and Unaudited) and 2011 (Unaudited)

     6   

Notes to Consolidated Financial Statements (Unaudited)

     7   

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

     38   

Item 3. Quantitative and Qualitative Disclosures about Market Risk

     49   

Item 4. Controls and Procedures

     49   

PART II OTHER INFORMATION

  

Item 1. Legal Proceedings

     50   

Item 1A. Risk Factors

     51   

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

     51   

Item 3. Defaults Upon Senior Securities

     51   

Item 4. Mine Safety Disclosures

     51   

Item 5. Other Information

     51   

Item 6. Exhibits

     52   

SIGNATURES

     53   

 

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PART I—FINANCIAL INFORMATION

 

ITEM 1. FINANCIAL STATEMENTS

UNIVERSITY GENERAL HEALTH SYSTEM, INC.

CONSOLIDATED BALANCE SHEETS

 

     Restated
June 30, 2012
    December 31, 2011  
     (Unaudited)        
ASSETS     

Current Assets

    

Cash and cash equivalents

   $ 475,885      $ 538,018   

Accounts receivable, less allowance for doubtful accounts of $10,184,800 and $7,070,327

     17,175,814        10,913,361   

Inventories

     1,878,266        1,908,177   

Receivables from related parties

     1,084,021        658,764   

Prepaid expenses and other assets

     1,315,319        1,275,104   
  

 

 

   

 

 

 

Total Current Assets

     21,929,305        15,293,424   

Long-Term Assets

    

Investments in unconsolidated affiliates

     767,323        687,323   

Property, equipment and leasehold improvements, net

     66,841,636        66,437,316   

Intangible assets, net

     7,198,000        7,649,000   

Goodwill

     28,900,818        22,199,874   

Other non-current assets, net

     1,883,224        2,234,985   
  

 

 

   

 

 

 

Total Long-Term Assets

     105,591,001        99,208,498   
  

 

 

   

 

 

 

Total Assets

   $ 127,520,306      $ 114,501,922   
  

 

 

   

 

 

 
LIABILITIES AND SHAREHOLDERS’ EQUITY (DEFICIT)     

Current Liabilities

    

Accounts payable

   $ 10,585,813      $ 11,874,720   

Payables to related parties

     2,089,287        2,493,088   

Accrued expenses

     5,339,916        7,516,940   

Accrued acquisition cost

     521,401        1,007,380   

Taxes payable

     5,149,799        4,171,826   

Income tax payable

     3,840,809        —     

Deferred revenue

     248,954        314,876   

Lines of credit

     8,451,025        8,451,025   

Notes payable, current portion

     25,528,386        28,982,331   

Notes payable to related parties, current portion

     2,164,527        2,798,783   

Capital lease obligations, current portion

     4,633,186        5,943,685   

Capital lease obligations to related party, current portion

     253,397        239,409   

Derivative liability

     4,242,042        —     
  

 

 

   

 

 

 

Total Current Liabilities

     73,048,542        73,794,063   

Long-Term Liabilities

    

Notes payable, less current portion

     13,707,523        8,459,474   

Notes payable to related parties, less current portion

     —          1,983,514   

Capital lease obligations, less current portion

     331,153        34,893   

Capital lease obligations to related party, less current portion

     30,671,750        30,803,450   
  

 

 

   

 

 

 

Total Long-Term Liabilities

     44,710,426        41,281,331   

Total Liabilities

     117,758,968        115,075,394   

Commitments and contingencies

    

Series C, convertible preferred stock, $0.001 par value, 20,000,000 shares authorized,
3,808 and 0 shares issued and outstanding, respectively ($1,000 stated value)

     2,768,428        —     

Preferred, par value $0.001, 20,000,000 shares authorized,
Preferred stock Series B - 3,000 shares issues and outstanding

     3        3   

Common stock, par value $0.001, 480,000,000 shares authorized,
324,326,655 and 283,440,226 shares issued and outstanding

     324,326        283,440   

Additional paid-in-capital

     55,313,907        49,078,223   

Shareholders’ receivables

     (2,409,069     (2,219,068

Accumulated deficit

     (51,358,568     (53,049,030
  

 

 

   

 

 

 

Total shareholders’ equity

     1,870,599        (5,906,432

Noncontrolling interest

     5,122,311        5,332,960   
  

 

 

   

 

 

 

Total equity (deficit)

     6,992,910        (573,472
  

 

 

   

 

 

 

Total liabilities and shareholders’ equity

   $ 127,520,306      $ 114,501,922   
  

 

 

   

 

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

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UNIVERSITY GENERAL HEALTH SYSTEM, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited)

 

     Three Months Ended
June 30,
    Six Months Ended
June 30,
 
     2012     2011     2012     2011  
     (Restated)           (Restated)        

Revenues

        

Patient service revenues, net of contractual adjustments

   $ 29,309,857      $ 18,218,417      $ 47,324,501      $ 33,952,453   

Provision for doubtful accounts

     (2,790,920     (334,347     (4,187,831     (625,150
  

 

 

   

 

 

   

 

 

   

 

 

 

Net patient service revenue less provision for bad debts

     26,518,937        17,884,070        43,136,670        33,327,303   

Senior living revenues

     1,908,425        —          3,776,858        —     

Support services revenues

     395,364        —          879,064        —     

Other revenues

     250,351        2,971        367,540        8,953   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total revenues

     29,073,077        17,887,041        48,160,132        33,336,256   

Operating expenses

        

Salaries, wages and benefits

     8,735,661        6,812,693        17,017,652        12,947,409   

Medical supplies

     3,859,736        3,103,206        6,791,861        6,263,841   

Management fees (includes related party fees of $0 for each of the three months ended and $0 and $461,814 for the six months ended)

     —          1,303,727        —          2,693,382   

General and administrative expenses (includes related party expenses of $377,030 and $1,621,953 for the three months ended and $681,643 and $3,369,262 for the six months ended)

     7,667,311        4,172,194        11,894,814        7,656,234   

Gain on extinguishment of liabilities

     (2,806,787     (160,979     (2,903,526     (1,464,345

Depreciation and amortization (includes related party expenses of $171,290 for each of the three months ended and $342,580 for each of the six months ended)

     1,769,920        1,757,509        3,495,093        3,520,116   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

     19,225,841        16,988,350        36,295,894        31,616,637   
  

 

 

   

 

 

   

 

 

   

 

 

 

Operating income

     9,847,236        898,691        11,864,238        1,719,619   

Other income (expense)

        

Interest expense, net of interest income of $20,000 and $0 for the three months ended and $40,000 and $0 for the six months ended (includes related party interest expense $583,715 and $631,493 for the three months ended and $1,162,750 and $1,288,381 for the six months ended)

     (1,385,335     (1,045,427     (2,823,300     (2,225,123

Other income

     (139,639     —           (128,056     —      

Direct investor expense

     (4,701,289       (4,701,289  

Change in fair market value liability

     916,533        —           916,533        —      
  

 

 

   

 

 

   

 

 

   

 

 

 

Income (loss) before income tax

     4,537,506        (146,736     5,128,126        (505,504

Income tax expense

     3,407,131        81,000        3,506,131        162,000   
  

 

 

   

 

 

   

 

 

   

 

 

 

Income (loss) before noncontrolling interest

     1,130,375        (227,736     1,621,995        (667,504

Net income attributable to noncontrolling interests

     30,018        —           27,835        —      
  

 

 

   

 

 

   

 

 

   

 

 

 

Net income (loss) attributable to the Company

   $ 1,160,393      $ (227,736   $ 1,649,830      $ (667,504
  

 

 

   

 

 

   

 

 

   

 

 

 

Less: Cash dividend-Convertible Preferred C Stock

     (50,773     —           (50,773     —      

Less: Accretion of non-cash dividend-Convertible Preferred C Stock

     (91,408     —           (91,408     —      
  

 

 

   

 

 

   

 

 

   

 

 

 

Net income (loss) attributable to common shareholders

   $ 1,018,212      $ (227,736   $ 1,507,649      $ (667,504
  

 

 

   

 

 

   

 

 

   

 

 

 

Net income attributable to common shareholders:

        

Basic and diluted income (loss) per share data

        

Basic earnings (loss) per common share

   $ 0.00      $ (0.00   $ 0.01      $ (0.00
  

 

 

   

 

 

   

 

 

   

 

 

 

Basic weighted average shares outstanding

     309,510,470        253,000,000        296,475,348        214,080,503   
  

 

 

   

 

 

   

 

 

   

 

 

 

Diluted earnings (loss) per common share

   $ 0.00      $ (0.00   $ 0.00      $ (0.00
  

 

 

   

 

 

   

 

 

   

 

 

 

Diluted weighted average shares outstanding

     326,819,560        253,000,000        313,784,438        214,080,503   
  

 

 

   

 

 

   

 

 

   

 

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

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UNIVERSITY GENERAL HEALTH SYSTEM, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

 

     Six Months Ended
June 30,
 
     2012     2011  
     (Restated)        

Cash flows from operating activities:

  

 

Net income (loss)

   $ 1,621,995      $ (667,504

Adjustments to reconcile net income (loss) to net cash provided by (used in ) operating activities:

    

Depreciation and amortization

     3,495,093        3,520,116   

Income tax payable

     3,840,809        —      

Provision for doubtful accounts

     4,187,831        625,150   

Gain on sales of assets

     (11,583     —      

Gain on extinguishment of liabilities

     (2,903,526     (1,464,345

Warrants issuance costs

     139,639     

Direct investor expense

     4,701,289        —      

Change in fair value of derivative liabilities

     (916,533     —      

Net changes in operating assets and liabilities:

    

Accounts receivable

     (10,450,284     (3,483,770

Related party receivables and payables

     (829,058     24,653   

Inventories

     29,911        (229,058

Prepaid expenses and other assets

     357,749        (105,114

Accounts payable, accrued expenses and taxes payable

     (812,429     (2,370,311

Deferred revenues

     (65,922     —      
  

 

 

   

 

 

 

Net cash provided by (used in) operating activities

     2,384,981        (4,150,183
  

 

 

   

 

 

 

Cash flows from investing activities:

    

Additions to property, equipment and leasehold improvements

     (1,271,646     (368,012

Business acquisitions, net of cash acquired

     —           198,526   

Investments in unconsolidated affiliates

     (80,000     (115,000
  

 

 

   

 

 

 

Net cash used in investing activities

     (1,351,646     (284,486
  

 

 

   

 

 

 

Cash flows from financing activities:

    

Redemption of common stock

     —           (50,000

Distribution to noncontrolling interests

     (172,762     —      

Issuance of common stock

     5,033,333        7,120,000   

Issuance of Series C convertible preferred stock, net issuance costs

     2,994,672        —      

Borrowings under notes payable

     2,033,886        3,500   

Payments on notes payable

     (9,293,686     (2,387,893

Borrowings under notes payable to related party

     11,979        3,428,250   

Payments on notes payable to related party

     (118,913     (1,898,396

Payments on capital leases

     (1,466,265     (3,835,823

Payments on capital leases obligation to related party

     (117,712     (36,720
  

 

 

   

 

 

 

Net cash (used in) provided by financing activities

     (1,095,468     2,342,918   
  

 

 

   

 

 

 

Net decrease in cash and cash equivalents

     (62,133     (2,091,751

Cash and cash equivalents:

    

Beginning of period

     538,018        2,291,754   
  

 

 

   

 

 

 

End of period

   $ 475,885      $ 200,003   
  

 

 

   

 

 

 

Supplemental disclosures of cash flow information:

    

Interest paid

   $ 3,109,608      $ 538,718   

Income taxes paid

   $ 383,434      $ 4,828,470   

Supplemental noncash investing activities:

    

Property and equipment additions financed

   $ 819,236      $ —      

Supplemental noncash financing activities:

    

Exchange of debt for common stock

   $ —         $ 3,500,000   

Issuance of common stock

   $ 710,000      $ 2,130,000   

Issuance of common stock to affiliate for termination of service agreement

   $ —         $ 1,000,000   

Transfer of related party debt to third party debt

   $ 2,510,836      $ —      

Noncash consideration paid for acquisitions

   $ 7,653,876      $ 24,753,735   

The accompanying notes are an integral part of these consolidated financial statements.

 

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UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

NOTE 1 — BASIS OF PRESENTATION

The accompanying unaudited consolidated financial statements of University General Health System, Inc. (the “Company”) are prepared in accordance with generally accepted accounting principles in the United States of America (“GAAP” or “U.S. GAAP”) and include all adjustments of a normal recurring nature which, in the opinion of management, are necessary to present fairly the Company’s Consolidated Balance Sheet at June 30, 2012, Consolidated Statements of Operations and Consolidated Statements of Cash Flows for the three and six months ended June 30, 2012 and 2011. Although the Company believes the disclosures in these financial statements are adequate to make the interim financial information presented not misleading, certain information relating to the Company’s organization and footnote disclosures normally included in financial statements prepared in accordance with GAAP have been omitted in this Form 10-Q pursuant to U.S. Securities and Exchange Commission (“SEC”) rules and regulations. These financial statements should be read in conjunction with the Audited Consolidated Financial Statements and notes thereto filed with the Company’s Annual Report on Form 10-K for the year ended December 31, 2011. The results of operations for the three and six months ended June 30, 2012 are not necessarily indicative of the results expected for a full year.

Principles of Consolidation and Reporting. The Company presents its financial statements in accordance with generally accepted accounting principles in the United States of America. The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. All significant intercompany transactions and balances have been eliminated upon consolidation.

Use of Estimates. The preparation of financial statements in conformity with generally accepted accounting principles in the United States of America requires management to make a number of estimates and assumptions relating to the reporting of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Management bases its estimates on historical experience and on various assumptions which are believed to be reasonable under the circumstances.

Income Taxes. Deferred income tax liabilities are determined using the liability method in accordance with GAAP. Under this method, deferred tax liabilities are established for future tax consequences of temporary differences between the financial statement carrying amounts of liabilities and their tax basis.

Non-controlling Interests in Consolidated Affiliates. The consolidated financial statements include all assets, liabilities, revenues and expenses of less-than-100%-owned affiliates the Company controls. Accordingly, the Company has recorded non-controlling interests in the earnings and equity of such entities. The Company recorded adjustments to non-controlling interests for the allocable portion of income or loss to which the non-controlling interest holders are entitled based upon their portion of the subsidiaries they own. Distributions to holders of non-controlling interest are adjusted to the respective non-controlling interest holders’ balance.

Fair Value of Financial Instruments. All financial instruments, including derivatives, are to be recognized on the balance sheet initially at fair value. Subsequent measurement of all financial assets and liabilities except those held-for-trading and available for sale are measured at amortized cost determined using the effective interest rate method. Held-for-trading financial assets are measured at fair value with changes in fair value recognized in earnings. Available-for-sale financial assets are measured at fair value with changes in fair value recognized in comprehensive income and reclassified to earnings when derecognized or impaired.

At each balance sheet date, the Company assesses financial assets for impairment with any impairment recorded in the consolidated statement of income. To assess loans and receivables for impairment, the Company evaluates the probability of collection of accounts receivable and records an allowance for doubtful accounts, which reduces loans and receivables to the amount management reasonably believes will be collected. In determining the amount of the allowance, the following factors are considered: the length of the time the receivable has been outstanding, specific knowledge of each customer’s financial condition and historical experience. The Company does not utilize financial derivatives or other contracts to manage commodity price risks. Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (exit price).

 

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UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

Fair value measurements are categorized using a valuation hierarchy for disclosure of the inputs used to measure fair value, which prioritized the inputs into three broad levels:

Level 1 - Quoted prices are available in active markets for identical assets or liabilities as of the reporting date. Active markets are those in which transactions for the asset or liability occur in sufficient frequency and volume to provide pricing information on an ongoing basis.

Level 2 - Pricing inputs are other than quoted prices in active markets included in level 1, which are either directly or indirectly observable as of the reported date and includes those financial instruments that are valued using models or other valuation methodologies.

Level 3 - Pricing inputs include significant inputs that are generally less observable from objective sources. These inputs may be used with internally developed methodologies that result in management’s best estimate of fair value.

Derivatives. The Company evaluates all financial instruments for freestanding and embedded derivatives. Warrants and conversion features related to preferred stock do not have readily determinable fair values and therefore require significant management judgment and estimation. The Company uses a Binomial pricing model to estimate the fair value of warrant and preferred stock conversion features at the end of each applicable reporting period. Changes in the fair value of these derivatives during each reporting period are included in the statement of income. Inputs into the Binomial pricing model require estimates, including such items as estimated volatility of the Company’s stock, risk-free interest rate and the estimated life of the financial instruments being fair valued.

Preferred Stock and Common Stock Purchase Warrants. As more fully described in Notes 10 and 11, The Company issued preferred stock and a common stock warrant, which are classified in temporary equity on the Consolidated Balance Sheets. The preferred stock had similar characteristics of an “Increasing Rate Security” as described by Securities and Exchange Commission (“SEC”) Staff Accounting Bulletin Topic 5Q, Increasing Rate Preferred Stock. Discounts on the increasing rate preferred stock are amortized over the expected life of the preferred stock (4 years), by charging imputed dividend cost against retained earnings and increasing the carrying amount of the preferred stock by a corresponding amount. The discount at the time of issuance is computed as the present value of the difference between dividends that will be payable in future periods and the dividend amount for a corresponding number of periods, discounted at a market rate for dividend yield on comparable securities. The amortization in each period is the amount which, together with the stated dividend in the period, results in a constant rate of effective cost with regard to the carrying amount of the preferred stock.

Per Share Amounts. Basic net loss per common share is computed by dividing net loss attributable to common stockholders by the weighted-average number of common shares outstanding during the period. Diluted net earnings (loss) per common share is determined using the weighted-average number of common shares outstanding during the period, adjusted for the dilutive effect of common stock equivalents. Common share equivalents included at June 30, 2012 consisted of an aggregate of 17,309,090 shares of Preferred C convertible stock and nil at June 30, 2011, respectively.

Accounts Receivable. Accounts receivable primarily consist of amounts due from third-party payors and patients. Receivables from government-related programs (i.e. Medicare and Medicaid) represent the only concentrated groups of credit risk for the Company and management does not believe that there is significant credit risks associated with these receivables. Commercial and managed care receivables consist of receivables from various payors involved in diverse activities and subject to differing economic conditions, and do not represent any concentrated credit risk to the Company. Self-pay revenues are derived primarily from patients who do not have any form of healthcare coverage. The revenues associated with self-pay patients are generally reported at the Company’s gross charges. The Company evaluates these patients, after the patient’s medical condition is determined to be stable, for their ability to pay based upon federal and state poverty guidelines, qualifications for Medicaid or other governmental assistance programs. Accordingly, the accounts receivable reported in the Company’s Consolidated Balance Sheets are recorded at net amounts expected to be received.

 

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UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

Accounts receivables are stated at estimated net realizable value. The breakdown of accounts receivable by payer classification as of June 30, 2012 and December 31, 2011 consists of the following:

 

     June 30, 2012     December 31, 2011  

Commercial and managed care providers

     62.5     54.3

Government-related programs

     21.4     34.5

Self-pay patients

     16.1     11.2
  

 

 

   

 

 

 

Total

     100.0     100.0
  

 

 

   

 

 

 

Accounts receivable are based on gross patient receivables of $61,935,091 and $45,726,222, net of contractual adjustments of $34,878,517 and $27,909,614 as of June 30, 2012 and December 31, 2011, respectively. Additionally, the Company had other accounts receivable of $304,040 and $167,080 as of June 30, 2012 and December 31, 2011. The Company maintains allowances for uncollectible accounts for estimated losses resulting from the payors’ inability to make payments on accounts. The Company assesses the reasonableness of the allowance account based on historic write-offs, the aging of accounts and other current conditions. Furthermore, management continually monitors and adjusts the allowances associated with its receivables. Accounts are reserved as bad debt when collection efforts have been exhausted. Recoveries of receivables previously written off are recorded when received. The allowance for doubtful accounts was $10,184,800 and $7,070,327 as of June 30, 2012 and December 31, 2011, respectively.

Revenue Recognition

The Company recognizes revenues in the period in which services are performed. The Company derives a significant portion of its revenues from the hospital segment. Accordingly, the revenues reported in the Company’s Consolidated Statements of Operations are recorded at the net amount expected to be received.

Hospital Segment

The Company recognizes net patient service revenues in the reporting period in which it performs the service based on its current billing rates (i.e., gross charges), less adjustments and estimated discounts for contractual allowances (principally for patients covered by Medicare, Medicaid, and managed care and other health plans). The Company records gross service charges in its accounting records on an accrual basis using its established rates for the type of service provided to the patient. The Company recognizes an estimated contractual allowance to reduce gross patient charges to the amount it estimates it will actually realize for the service rendered based upon previously agreed to rates with a payor. Such estimated contractual allowances are based primarily upon historical collection rates for various payers, and assumes consistently with regard to patients discharged in similar time periods for the same payor classes. Payors include federal and state agencies, including Medicare and Medicaid, managed care health plans, commercial insurance companies and patients.

The process of estimating contractual allowances requires the Company to estimate the amount expected to be received based on payor contract provisions. The key assumption in this process is the estimated contractual reimbursement percentage, which is based on payor classification and historical paid claims data. Due to the complexities involved in these estimates, actual payments the Company receives could be different from the amounts it estimates and records. If the actual contractual reimbursement percentage under government programs and managed care contracts differed by 1.0% at June 30, 2012 from its estimated reimbursement percentage, net revenues for the three and six months ended June 30, 2012 would have changed by approximately $1.1 million and $1.9 million, and net accounts receivable at June 30, 2012 would have changed by approximately $0.1 million. Final settlements under some of these programs are subject to adjustment based on administrative review and audit by third parties. The Company accounts for adjustments to previous program reimbursement estimates as contractual allowance adjustments and reports them in the periods that such adjustments become known.

 

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UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

Revenues related to the Company’s hospital segment consist primarily of net patient service revenues, which are based on the facilities’ established billing rates less adjustments and discounts. Summary information for revenues for the three and six months ended June 30, 2012 and 2011 is as follows:

 

    Three Months Ended
June 30,
    Six Months Ended
June 30,
 
    2012     2011     2012     2011  

Gross patient service revenues

  $ 112,541,232      $ 72,283,092      $ 196,482,712      $ 132,824,675   

Less estimated contractual adjustments and discounts

    (83,231,375     (54,064,675     (149,158,211     (98,872,222
 

 

 

   

 

 

   

 

 

   

 

 

 

Revenues before provision for doubtful accounts

  $ 29,309,857      $ 18,218,417      $ 47,324,501      $ 33,952,453   

Provision for doubtful accounts

    (2,790,920     (334,347     (4,187,831     (625,150
 

 

 

   

 

 

   

 

 

   

 

 

 

Net patient service revenues

  $ 26,518,937      $ 17,884,070      $ 43,136,670      $ 33,327,303   
 

 

 

   

 

 

   

 

 

   

 

 

 

The hospital has agreements with third-party payors that provide for payments to the hospital at amounts different from its established rates. Payment arrangements include prospectively-determined rates per discharge, reimbursed costs, discounted charges, and per diem payments. Net patient service revenue is reported at the estimated net realizable amount from patients, third-party payors, and others for services rendered, including estimated contractual adjustments under reimbursement agreements with third party payors. Allowances and discounts are accrued on an estimated basis in the period the related services are rendered and adjusted in future periods as final settlements are determined. These allowance and discounts are related to the Medicare and Medicaid programs and managed care contracts.

The following table sets forth the revenues (after contractual adjustments and discounts) and percentages from major payor sources for the Company’s hospital segment during the periods indicated:

 

     Three Months Ended
June 30,
 
     2012     Ratio     2011     Ratio  

Commercial and managed care providers

   $ 17,662,038        66.6   $ 11,098,391        62.1

Government-related programs

     8,719,669        32.9        6,165,041        34.5   

Self-pay patients

     2,928,150        11.0        954,985        5.3   
  

 

 

   

 

 

   

 

 

   

 

 

 

Revenues before provision for doubtful accounts

     29,309,857        110.5        18,218,417        101.9   

Provision for doubtful accounts

     (2,790,920     (10.5     (334,347     (1.9
  

 

 

   

 

 

   

 

 

   

 

 

 

Net patient service revenue less provision for bad debts

   $ 26,518,937        100.0   $ 17,884,070        100.0
  

 

 

   

 

 

   

 

 

   

 

 

 

 

     Six Months Ended
June 30,
 
     2012     Ratio     2011     Ratio  

Commercial and managed care providers

   $ 28,141,822        65.2   $ 20,479,424        61.4

Government-related programs

     14,739,785        34.2        11,912,822        35.7   

Self-pay patients

     4,442,894        10.3        1,560,207        4.8   
  

 

 

   

 

 

   

 

 

   

 

 

 

Revenues before provision for doubtful accounts

     47,324,501        109.7        33,952,453        101.9   

Provision for doubtful accounts

     (4,187,831     (9.7     (625,150     (1.9
  

 

 

   

 

 

   

 

 

   

 

 

 

Net patient revenue less provision for bad debts

   $ 43,136,670        100.0   $ 33,327,303        100.0
  

 

 

   

 

 

   

 

 

   

 

 

 

Senior Living Segment

Revenues related to the Company’s Senior Living segment consist primarily of resident fees, entrance fees, community fees and management fees. Resident fee revenue is recorded when services are rendered and consists of fees for basic housing, support services and fees associated with additional services such as personalized assisted living care. Residency agreements are generally non-binding, for a term of one year, with resident fees billed monthly in advance.

 

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UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

The TrinityCare Facilities have residency agreements that require the resident to pay an upfront fee prior to occupying the senior living community. The non-refundable portion of the entrance fee is recorded as deferred revenue and amortized over the estimated stay of the resident based on an actuarial valuation. The refundable portion of a resident’s entrance fee is generally refundable within a certain number of months or days following contract termination. In such instances, the refundable portion of the fee is not amortized and included in refundable entrance fees and deferred revenue.

All refundable amounts due to residents at any time in the future, including those recorded as deferred revenue are classified as current liabilities. The non-refundable portion of entrance fees expected to be earned and recognized in revenue in one year is recorded as a current liability. The balance of the non-refundable portion is recorded as a long-term liability.

The majority of community fees received by the TrinityCare Facilities is non-refundable and is recorded initially as deferred revenue. The deferred amounts, including both the deferred revenue and the related direct resident lease origination costs, are amortized over the estimated stay of the resident, which is consistent with the contractual terms of the resident lease. The refundable portion of a resident’s community fee is generally refundable within a certain number of months or days following the resident’s move-in into the community. In such instances, the refundable portion of the fee is not amortized and included in refundable community fees and deferred revenue.

TrinityCare Senior Living, LLC provides management services to the TrinityCare Facilities, as well as an assisted living community and two memory care greenhouses in Georgia. Management fee revenue is determined by an agreed upon percentage of gross revenues and recorded as services are provided. Management fee revenue received from the TrinityCare Facilities has been eliminated in consolidation.

Support Services Segment

Billing and coding revenues are generated from revenue cycle management services provided by UGHS Autimis Billing Inc. and UGHS Autimis Coding Inc. to UGH LP and other third-party clients. Fees charged for these services are defined in service agreements and based upon a stated percentage of cash collections. Food and support services revenues are generated from environmental, food and nutrition, and facilities management services by Sybaris Group Inc. to clients in the Houston metropolitan area. Revenue is recognized as services are performed. Billing, coding and food and support services revenue received from the Hospital operating segment has been eliminated in consolidation.

Other Comprehensive Income. The Company has no components of Other Comprehensive Income and, accordingly, no Statement of Comprehensive Income has been included in the accompanying consolidated financial statements.

Recent Accounting Pronouncements. In July 2011, the FASB issued ASU No. 2011-07 “Health Care Entities (Topic 954) Presentation and Disclosure of Patient Service Revenue, Provision for Bad Debts, and the Allowance for Doubtful Accounts for Certain Health Care Entities” (“ASU 2011-07”), which requires the provision for bad debts associated with patient service revenue to be separately displayed on the face of the statement of operations as a component of net revenue. This standard also requires enhanced disclosure of significant changes in estimates related to patient bad debts. ASU 2011-07 requires retrospective application and will be effective for interim and annual reporting periods beginning after December 15, 2011, with early adoption permitted. This pronouncement will change the presentation of the Company’s revenues on its statements of operations as well as requiring additional disclosures. The Company adopted ASU 2011-07 during the period ended March 31, 2012. All periods presented in this Form 10-Q have been reclassified in accordance with ASU 2011-7.

In July 2012, the FASB issued ASU 2012-01 “Health Care Entities (Topic 954) Continuing Care Retirement Communities – Refundable Advance Fees” (“ASU 2012-01”), which clarifies that an entity should classify an advance fee as deferred revenue when a continuing care retirement community has a resident contract that provides for payment of the refundable advance fee upon reoccupancy by a subsequent resident, which is limited to the proceeds of reoccupancy. Refundable advance fees that are contingent upon reoccupancy by a subsequent resident but are not limited to the proceeds of reoccupancy should be accounted for and reported as a liability. ASU 2012-01 requires retrospective application and is effective for fiscal periods beginning after December 15, 2012 for public companies, with early adoption permitted. The Company is currently assessing the impact ASU 2012-01 will have on its financial statements, but does not expect a significant impact from adoption of the pronouncement.

 

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UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

In July 2012, the FASB issued ASU 2012-02 “Intangibles-Goodwill and Other (Topic 350) Testing Indefinite-Lived Intangible Assets for Impairment” (“ASU 2012-02”), which provides an entity the option to make a qualitative assessment about the likelihood that an indefinite-lived intangible asset is impaired to determine whether it should perform a quantitative impairment test. ASU 2012-02 is effective for annual and interim impairment tests performed for fiscal years beginning after September 15, 2012, with early adoption permitted, including for annual and interim impairment tests performed as of a date before July 27, 2012, if a public entity’s financial statements for the most recent annual or interim period have not yet been issued. The Company is currently assessing the impact ASU 2012-02 will have on its financial statements, but does not expect a significant impact from adoption of the pronouncement.

NOTE 2 — BUSINESS OPERATIONS

University General Health System, Inc. is a diversified, integrated multi-specialty health care provider that delivers concierge physician- and patient-oriented services by providing timely, innovative health solutions that are uniquely competitive, efficient, and adaptive in today’s health care delivery environment. The Company currently operates one hospital and two ambulatory surgical centers in the Houston area. The Company also owns a revenue management company, a hospitality service provider and facility management company, three senior living facilities and manages six senior living facilities.

As of August 14, 2012, the Company currently owns or operates the following centers:

 

   

University General Hospital, which is a 69-bed general acute care hospital near Texas Medical Center in Houston, Texas.

 

   

A hyberbaric wound care center as a hospital outpatient department (HOPD) of University General Hospital doing business under the name University General Hospital -Hyperbaric Wound Care Center.

 

   

Baytown Endoscopy Center, which is a 3-bed ambulatory surgery center. The Baytown Endoscopy Center is an HOPD of University General Hospital doing business under the name University General Hospital-Baytown Endoscopy Center.

 

   

A diagnostic imaging and physical therapy center as an HOPD of University General Hospital doing business under the name of UGH Diagnostic Imaging and UGH Physical Therapy.

 

   

Kingwood diagnostic and rehabilitation center as an HOPD of University General Hospital doing business under the name UGH Kingwood Diagnostic and Rehabilitation Center.

 

   

Mainland Surgery Center, which is an ambulatory surgery center in Dickinson, Texas, located approximately 25 miles from University General Hospital.

 

   

Trinity Oaks senior living community in Pearland, Texas, which is an 80 unit senior living community providing independent living and assisted living services since 2001.

 

   

Trinity Shores senior living community in Port Lavaca, Texas, which is a 63 unit senior living community providing independent living, assisted living and memory care services since 2007.

 

   

Trinity Hills senior living community in Knoxville, Tennessee, which is an 87 unit senior living community providing independent living, assisted living and memory care services since 2007.

 

   

UGHS Autimis Billing, Inc., which is a revenue cycle management company that specializes in serving hospitals, ambulatory surgery centers, outpatient laboratories and free-standing outpatient emergency rooms.

 

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UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

   

UGHS Autimis Coding, Inc., which is a specialized health care coding company that serves hospitals, ambulatory surgery centers, outpatient laboratories and free-standing outpatient emergency rooms.

 

   

Sybaris Group, Inc., which is a luxury hospitality service provider and facilities management company.

As of June 30, 2012, the Company operated under three segments of business: Hospital, Senior Living and Support Services. As the Company implements its business plan, the Company expects to operate in complementary business segments, including: hospitals, ancillary services, management services and real estate holdings. The Company intends to aggressively pursue its acquisitions strategy during the remainder of 2012 and beyond.

NOTE 3 — GOING CONCERN

The Company had net income attributable to the Company of $1,649,830 and net cash provided by operating activities of $2,384,981 for the six months ended June 30, 2012. However, the Company had negative working capital of $51,119,237 and held cash and cash equivalents of $475,885 at June 30, 2012. The negative working capital and relative low levels of cash and cash equivalents amounts raise substantial doubt concerning the Company’s ability to continue as a going concern for a reasonable period of time.

Management believes that the Company’s current level of cash flows will be sufficient to sustain operations in the next twelve months. On July 13, 2012, the Company entered into a Compromise Settlement Agreement and Release of Claims (“Agreement”) with Regions Bank (“Regions Bank”). The Agreement is dated effective June 29, 2012. Pursuant to the Agreement, the Company settled certain disputes and obligations with Regions Bank related to (i) the loans evidenced by that certain promissory note dated August 14, 2006 in the original principal amount of $1,000,000 executed by UHS (the “UHS Loan”), (ii) the loans evidenced by that certain promissory note dated December 13, 2006 in the original principal amount of $1,000,000 executed by the former partners of UHS and (the “Doctors Loan”) and (iii) the Master Equipment Lease dated August 30, 2006 obligating UGH to pay rentals of $11,184,379.08 for certain medical equipment leased to UGH (the “Equipment Lease”) (such settlements of each of the UHS Loan and Doctors Loan and the Equipment Lease being referred to herein as the Regions Settlement”). Pursuant to the Agreement, on June 29, 2012, UHS paid (i) $735,162.33 in full and final settlement of the UHS Loan, and (ii) $764,837.67 in full and final settlement of the Doctors Loan and (iii) $1,250,000 as the initial installment for the full and final settlement of the Equipment Lease. The second installment of $2,215,000 for the settlement of the Equipment Lease is due on or before September 28, 2012 and the final installment of $2,125,000 for the settlement of the Equipment Lease is due on or before December 31, 2012. The Company recognized a one-time gain of approximately $2.6 million as a result of the Regions Settlement in the second quarter of 2012. The Company is also currently working with certain vendors to extend repayment terms. Further, management believes that the Company has additional opportunities to raise capital in the public markets and is in current negotiations with investors and banks to raise capital and secure additional financing.

Effective April 30, 2012 the Company completed a private placement transaction for the purchase of 35,950,000 shares of its Common Stock at a price of $0.14 per share from a group of accredited investors, resulting in net proceeds to the Company of approximately $5.0 million. Effective May 2, 2012 the Company also completed a securities purchase agreement with institutional investors (the “purchasers”), for the private issuance and sale by the Company to the purchasers an aggregate of 3,808 shares of the Company’s Series C Variable Rate Convertible Preferred Stock (the “preferred shares”) with each preferred share initially convertible into approximately 4,545 shares of the Company’s common stock and warrants to purchase up to an aggregate of 17,309,090 shares of the Company’s Common Stock (the “warrants”). The preferred shares were issued at an original issue discount at 12%. After deducting for fees and expenses, the aggregate net proceeds from the sale of the preferred shares and warrants was approximately $3.1 million. The Company used these proceeds to pay tax payments and retired certain outstanding loan balances.

There can be no assurance that the plans and actions proposed by management will be successful or that unforeseen circumstances will not require the Company to seek additional funding sources in the future or effectuate plans to conserve liquidity. In addition, there can be no assurance that in the event additional sources of funds are needed they will be available on acceptable terms, if at all. The accompanying financial statements have been prepared on a going concern basis which contemplates the realization of assets and satisfaction of liabilities in the normal course of business.

 

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UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

NOTE 4 — ACQUISITIONS

TrinityCare

On June 28, 2011, the Company, through wholly-owned subsidiaries, agreed to acquire 100% of the assets and assumed certain of the liabilities of the TrinityCare Facilities and separately agreed to acquire 51% of the ownership interests of TrinityCare Senior Living, LLC ( “TrinityCare Senior Living, LLC”). The acquisitions contemplated by these agreements were completed effective June 30, 2011 (the “Closing Date”). The TrinityCare Facilities consist of three senior living communities, located in Texas and Tennessee. TrinityCare Senior Living, LLC is a developer of senior living communities and provides management services to the TrinityCare Facilities as well as an assisted living community and two memory care greenhouses in Georgia. The TrinityCare Facilities and TrinityCare Senior Living, LLC are sometimes referred to collectively as “TrinityCare.” The Company acquired TrinityCare to further its integrated regional diversified healthcare network. The Company has included the financial results of TrinityCare in the consolidated financial statements from the date of acquisition. TrinityCare is included in the Senior Living operating segment.

The total purchase price for the TrinityCare Facilities was $17,898,735, consisting of: 1) $1,407,546 cash payable on August 30, 2011; 2) $2,815,089 in seller subordinated promissory notes payable over two years; and 3) the issuance by UGHS of 14,395,895 shares of its Common Stock, par value $0.001 per share (the “UGHS Common Stock”), valued at $13,676,100. As of June 30, 2012, the outstanding balance of the cash payable for the acquisitions was $521,401.

This acquisition was accounted for under the acquisition method of accounting. Accordingly, the Company conducted assessments of net assets acquired and recognized amounts for identifiable assets acquired and liabilities assumed at their estimated acquisition date fair values, while transaction and integration costs associated with the acquisitions were expensed as incurred.

During the three months ended June 30, 2012, the Company received the final valuation studies for the acquisition. Accordingly, the Consolidated Balance Sheet at December 31, 2011 has been retrospectively adjusted to include the effect of the measurement period adjustments as required under ASC 805, Business Combinations, (“ASC 805”). The Company recorded a fair value adjustment of $10,800,564 to its property and equipment and revised other provisional amounts. The revisions to the purchase price allocation for the acquisition resulted from the Company’s finalization of valuation of long-term and intangible assets with consideration of the valuation report obtained from a third party appraisal firm. The aforementioned adjustments resulted in a retrospective adjustment to increase goodwill by $5,550,564 and other intangibles by $5,250,000.

The fair value of customer relationship, tradename and non-compete agreement was capitalized as of the acquisition date and will be subsequently amortized using a straight-line method to depreciation and amortization expenses over their estimated period of use of five years, respectively.

 

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UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

The Company has retrospectively adjusted the previously reported fair values to reflect these amounts as follows:

 

    As Originally
Reported in
Form 10-K
    Measurement Period
Adjustments
    As Retrospectively
Adjusted
 

Assets

     

Current assets

  $ 734,658      $ —        $ 734,658   

Property and equipment

    29,893,564        (10,800,564     19,093,000   

Other noncurrent assets

    2,031,967          2,031,967   

Intangible assets:

     

Customer relationships

    —          630,000        630,000   

Tradename

    —          2,620,000        2,620,000   

Non-compete agreement

    —          2,000,000        2,000,000   

Goodwill

    9,727,426        5,550,564        15,277,990   
 

 

 

   

 

 

   

 

 

 

Total assets acquired

    42,387,615          42,387,615   
 

 

 

   

 

 

   

 

 

 

Liabilities

     

Accounts payable and accrued expenses

    827,603          827,603   

Deferred revenue

    24,375        —          24,375   

Notes payable, current portion

    6,830,976        —          6,830,976   

Notes payable, less current portion

    11,655,780        —          11,655,780   
 

 

 

   

 

 

   

 

 

 

Total liabilities assumed

    19,338,734          19,338,734   
 

 

 

   

 

 

   

 

 

 

Assets acquired less liabilities assumed

    23,048,881        —          23,048,881   

Less: fair value attributable to noncontrolling interest

    (5,150,146     —          (5,150,146
 

 

 

   

 

 

   

 

 

 

Total purchase consideration

  $ 17,898,735      $ —        $ 17,898,735   
 

 

 

   

 

 

   

 

 

 

Goodwill includes goodwill attributable to both the Company’s and noncontrolling interest. The fair value attributable to noncontrolling interest was estimated to be approximately $5,150,146 and was based on the purchase price the Company paid for its 51% ownership interest of TrinityCare Senior Living, LLC. The goodwill balance is primarily attributable to TrinityCare’s assembled workforce and the expected synergies and revenue opportunities when combining the senior living communities with the Company’s integrated healthcare network.

On June 30, 2011, separate and apart from the TrinityCare acquisitions, the Company through wholly-owned subsidiaries entered into Profit Participation Agreements (“Profit Agreements”) with one of the minority members (“Member”) of each of the Sellers of the TrinityCare Facilities. Pursuant to the Profit Agreements, through which the Company granted a 10.0% interest in the net proceeds attributable to any fiscal year during the term of the Profit Agreements for each of the facilities in exchange for specified future and on-going duties and services to be provided by the Member for the benefit of the facility. The Company will estimate and accrue for anticipated profit interest payments for each fiscal year.

Autimis

On June 30, 2011, through wholly-owned subsidiaries, the Company executed asset acquisition agreements with Autimis Billing and Autimis Coding (collectively “Autimis”), pursuant to which the Company acquired the business assets and properties of Autimis. Autimis Billing is a revenue cycle management company that specializes in serving hospitals, ambulatory surgery centers, outpatient laboratories and free-standing outpatient emergency rooms. Autimis Coding is a specialized health care coding company also serving hospitals, ambulatory surgery centers, outpatient laboratories and free-standing outpatient emergency rooms. Prior to the acquisition, Autimis had provided billing, coding and other revenue cycle management services to the Company since September 2009 under separate service agreements. The Company acquired Autimis to further its integrated regional diversified healthcare network. The Company has included the financial results of Autimis in the consolidated financial statements from the date of acquisition. Autimis is included in the Support Services segment.

 

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UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

The total purchase consideration for Autimis was approximately $8,280,000, consisting of the issuance by UGHS of 9,000,000 shares (the “Autimis Stock Consideration”) of the Company’s Common Stock. Following completion of the Autimis acquisition, Sellers of Autimis owned approximately 3.3% of the Company’s outstanding common stock.

This acquisition was accounted for under the acquisition method of accounting. Accordingly, the Company conducted assessments of net assets acquired and recognized amounts for identifiable assets acquired and liabilities assumed at their estimated acquisition date fair values, while transaction and integration costs associated with the acquisitions were expensed as incurred.

During the three months ended June 30, 2012, the Company received the final valuation studies for the acquisition. Accordingly, the Consolidated Balance Sheet at December 31, 2011 has been retrospectively adjusted to include the effect of the measurement period adjustments as required under ASC 805, Business Combinations, (“ASC 805”). The Company recorded the revised provisional amounts. The revisions to the purchase price allocation for the acquisition resulted from the Company’s finalization of valuation of intangible assets with consideration of the valuation report obtained from a third party appraisal firm. The aforementioned adjustments resulted in a retrospective adjustment to decrease goodwill by $1,650,000.

The Company has retrospectively adjusted the previously reported fair values to reflect these amounts as follows:

 

     As Originally
Reported in
Form 10-K
     Measurement Period
Adjustments
    As Retrospectively
Adjusted
 

Assets

       

Current assets

   $ 132,847       $ —        $ 132,847   

Property and equipment

     92,537         —          92,537   

Intangible assets:

       

Customer relationships

     —           1,050,000        1,050,000   

Tradename

     —           140,000        140,000   

Software

     1,200,000         460,000        1,660,000   

Goodwill

     7,067,321         (1,650,000     5,417,321   
  

 

 

    

 

 

   

 

 

 

Total assets acquired

     8,492,705         —          8,492,705   
  

 

 

    

 

 

   

 

 

 

Liabilities

       

Accounts payable and accrued expenses

     212,705         —          212,705   
  

 

 

    

 

 

   

 

 

 

Total liabilities assumed

     212,705         —          212,705   
  

 

 

    

 

 

   

 

 

 

Total purchase consideration

   $ 8,280,000       $ —        $ 8,280,000   
  

 

 

    

 

 

   

 

 

 

Current assets with aggregate fair value of $132,847 include accounts receivable with fair value of $119,382. The goodwill of $5,417,321 is deductible for income tax purposes. The goodwill balance is primarily attributable to Autimis’ assembled workforce and the expected synergies and revenue opportunities when combining the revenue cycle management tools of Autimis within the Company’s integrated solutions. The fair value of customer relationships, tradename and software was capitalized as of the acquisition date and will be subsequently amortized using a straight-line method to depreciation and amortization expenses over their estimated period of use of five and ten years for the software, respectively.

Sybaris

On December 31, 2011, through wholly-owned subsidiaries, the Company executed asset acquisition agreements with The Sybaris Group, LLC (“Sybaris”), pursuant to which the Company acquired the business assets and properties of Sybaris. Sybaris is a hospitality service provider and facilities management company. Sybaris provides environmental, food and nutrition, and facilities management services to twelve clients in the Houston metropolitan area, including University General Hospital. The quality of services provided by Sybaris will contribute to the success of the Company’s growth strategy and allow it to continue providing concierge-level services to the Company’s patients and physicians as the Company expands into new markets, and contribute to its bottom line, which is of paramount interest to its shareholders. The Company has included the financial results of Sybaris in the consolidated financial statements from the date of acquisition. Sybaris is included in the Support Services segment.

 

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UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

The total purchase consideration for Sybaris was approximately $1,400,000, consisting of the issuance by UGHS of 5,000,000 shares (the “Sybaris Stock Consideration”) of the Company’s Common Stock. Following completion of the Sybaris acquisition, Sellers of Sybaris owned approximately 1.8% of the Company’s outstanding common stock. The total purchase consideration was based upon a fair market valuation of Sybaris determined by the Company, with consideration of the valuation report obtained from a third party appraisal firm.

This acquisition was accounted for under the acquisition method of accounting. Accordingly, the Company conducted assessments of net assets acquired and recognized amounts for identifiable assets acquired and liabilities assumed at their estimated acquisition date fair values, while transaction and integration costs associated with the acquisitions were expensed as incurred. The initial accounting for the business combinations is not complete and adjustments to provisional amounts, or recognition of additional assets acquired or liabilities assumed, may occur as more detailed analyses are completed and additional information is obtained about the facts and circumstances that existed as of the acquisition dates.

The following table summarizes the considerations paid for the acquired assets and the preliminary acquisition accounting for the fair values of the assets recognized and liabilities assumed in the Consolidated Balance Sheets at the acquisition date. These balances are subject to change when final asset valuations are obtained and the potential for liabilities has been evaluated.

 

Assets

  

Current assets

   $ 66,841   

Property and equipment

     38,881   

Goodwill

     1,504,563   
  

 

 

 

Total assets acquired

     1,610,285   
  

 

 

 

Liabilities

  

Accounts payable and accrued expenses

     140,844   

Notes payable, current portion

     7,126   

Notes payable, less current portion

     62,315   
  

 

 

 

Total liabilities assumed

     210,285   
  

 

 

 

Total purchase consideration

   $ 1,400,000   
  

 

 

 

The total current assets with aggregate fair value of $66,841, includes cash and prepaid insurance, approximates fair value because of the relatively short maturity of these instruments. The goodwill of $1,504,563 is deductible for income tax purposes. The goodwill balance is primarily attributable to Sybaris’ assembled workforce and the expected synergies and revenue opportunities when combining the hospitality service and facilities management of Sybaris within the Company’s integrated solutions.

Baytown Center

On April 13, 2012, through wholly-owned subsidiaries, the Company completed the assets acquisition of Baytown Endoscopy Center, LLC (the “Baytown Center”). The Baytown Center is a three-bed ambulatory surgery center which operates as a hospital outpatient department (HOPD) of the Company’s hospital segment. Primary procedures at the Baytown Center include gastroenterology and pain management. The Baytown Center is co-managed with Jacinto Medical Group, P.A., which is a multi-specialty group of physicians operating in Baytown. The transaction was financed primarily with issuing a one-year promissory note payable of $161,915. The purchase included the acquisition of assets and assumption of leases and certain equipment financing commitments. The Company has included the financial results of Baytown Center in the consolidated financial statements from the date of acquisition. Baytown Center is included in the hospital segment.

 

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UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

Diagnostic Imaging and Physical Therapy

On April 26, 2012, through wholly-owned subsidiaries, the Company executed asset acquisition agreements with Diagnostic Imaging and Physical Therapy Centers (“UGH Diagnostic Imaging and UGH Physical Therapy”), pursuant to which the Company acquired the business assets and properties of UGH Diagnostic Imaging and UGH Physical Therapy, which are free-standing facilities which operate as hospital outpatient departments (HOPD) of the Company’s hospital segment. The purpose of the acquisition was to expand the Company’s capability and increase market share.

The total purchase consideration for UGH Diagnostic Imaging and UGH Physical Therapy Centers was $7,460,000, consisting of the issuance by UGHS of (i) $6,714,000 promissory note payable to the seller and (ii) 1,865,000 shares (the “Stock Consideration”) of the Company’s Common Stock issued by the seller. The total purchase consideration was based upon a fair market valuation of UGH Diagnostic Imaging and UGH Physical Therapy determined by the Company, with consideration of a valuation report performed by a third party valuation firm.

This acquisition was accounted for under the acquisition method of accounting. Accordingly, the Company conducted assessments of net assets acquired and recognized amounts for identifiable assets acquired and liabilities assumed at their estimated acquisition date fair values, while transaction and integration costs associated with the acquisitions were expensed as incurred. The initial accounting for the business combinations is not complete and adjustments to provisional amounts, or recognition of additional assets acquired or liabilities assumed, may occur as more detailed analyses are completed and additional information is obtained about the facts and circumstances that existed as of the acquisition dates.

The following table summarizes the considerations paid for the acquired assets and the preliminary acquisition accounting for the fair values of the assets recognized and liabilities assumed in the Consolidated Balance Sheets at the acquisition date. These balances are subject to change when final asset valuations are obtained and the potential for liabilities has been evaluated.

 

Assets

  

Property and equipment

   $ 793,743   

Goodwill

     6,700,944   
  

 

 

 

Total assets acquired

     7,494,687   
  

 

 

 

Liabilities

  

Accrued expenses

     34,687   
  

 

 

 

Total liabilities assumed

     34,687   
  

 

 

 

Total purchase consideration

   $ 7,460,000   
  

 

 

 

 

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UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

Summary of Unaudited Pro-forma Information

The unaudited pro-forma information below for the three and six months ended June 30, 2012 and 2011 gives effect to the acquisitions as if the acquisitions had occurred on January 1, 2011. The pro-forma financial information is not necessarily indicative of the results of operations if the acquisitions had been effective as of this date.

 

     Three Months Ended
June 30,
     Six Months Ended
June 30,
 
     2012      2011      2012      2011  

Revenues

   $ 30,071,762       $ 22,052,785       $ 50,656,845       $ 41,342,424   

Income from operations

     10,142,729         2,435,152         12,602,974         4,324,713   

Net income attributable to the Company

     1,455,886         316,001         2,400,149         649,194   

Basic income per share

     0.00         0.00         0.01         0.00   

Diluted income per share

     0.00         0.00         0.01         0.00   

Net income attributable to common shareholders

     1,313,705         316,001         2,257,968         649,194   

Basic income per share

     0.00         0.00         0.01         0.00   

Diluted income per share

     0.00         0.00         0.01         0.00   

NOTE 5 — GOODWILL

The Company performs an impairment test for goodwill at least annually as of June 30, 2012 for TrinityCare and Autimis acquisitions, or more frequently if indicators of potential impairment exist. The carrying value of the Company’s goodwill is reviewed, and if this review indicates that it will not be recoverable the Company’s carrying value of goodwill will be adjusted to fair value. Based on an assessment of qualitative factors it was determined that there were no events or circumstances that would lead the Company to a determination that is more likely than not that the fair value of the applicable reporting unit was less than its carrying value as of June 30, 2012. Accordingly, the Company determined that as of June 30, 2012, goodwill was not impaired. The Company used a discounted cash flow methodology based on projections of the amounts and timing of future revenues and cash flows and determined that as of June 30, 2012 goodwill was not impaired. During the course of 2011 and 2012, the market price of the Company’s common stock declined significantly; however, the Company concluded that the decline did not constitute an indicator of potential impairment as there had not been a significant change in the estimated future cash flows of the Company’s reporting units. As a result, there was no change in the carrying value of goodwill as of June 30, 2012.

NOTE 6 — DEBT OBLIGATIONS

Lines of Credit

On July 9, 2008, UGH LP entered into an Amended and Restated Line of Credit Agreement for a $7,000,000 secured revolving credit facility with interest rate of 6.0% that was initially set to mature on January 15, 2012. This Amended and Restated Line of Credit Agreement amended and restated the Company’s former Line of Credit Agreement of $8,000,000 dated March 27, 2006, which was set to mature on April 30, 2011. On September 1, 2006, UGH GP entered into another line of credit agreement for a $1,500,000 secured revolving credit facility with interest rate of 8.0% originally maturing April 30, 2011. In May 2012, the Company and the financial institution agreed to extend the term of the line of credit from April 30, 2012 to September 15, 2012. Loans under these lines of credit are secured by the Company’s accounts receivable, contract rights, general intangibles instruments, cash and cash equivalents and all other asset accounts. The lines of credit contain various terms and conditions, including operational and financial restrictions and limitations, and affirmative covenants. The covenants include financial covenants measured on a quarterly basis which require the Company to maintain maximum leverage and minimum fixed charge ratios as defined in the line of credit agreements. The Company was not in compliance with certain of the financial covenants contained in the lines of credit agreements as of June 30, 2012 and December 31, 2011; however, the financial institution waived such non-compliance covenants. As of June 30, 2012 and December 31, 2011, the Company had outstanding balances on the lines of credit of $8,451,025. The Company recognized interest expense on the lines of credit of $134,021 and $122,978 for the three months ended and $268,041 and $245,956 for the six months ended June 30, 2012 and 2011, respectively.

 

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UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

Notes Payable

The Company’s third party notes payable consisted of the following:

 

     June 30, 2012      December 31, 2011  

Note payable, maturing on March 31, 2012, interest rate of 6.5% at June 30, 2012

   $ 348,126       $ 434,626   

Note payable, maturing on September 15, 2012, interest rate of 6.0% at June 30, 2012

     3,600,000         5,150,000   

Note payable, maturing on April 30, 2013, interest rate of 5.0% at June 30, 2012

     114,308         —     

Note payable to Siemens, maturing on May 31, 2013, interest rate of 6.0% at June 30, 2012

     2,753,232         3,451,555   

Notes payable, maturing on July 31, 2013, interest rate of 22.3% at June 30, 2012

     2,000,000         —     

Notes payable to Medicare, maturing on October 1, 2013, interest rates ranging from 11.0% to 11.5% at June 30, 2012

     420,435         818,776   

Note payable, maturing on November 29, 2013, interest rate of 4.25% at June 30, 2012

     732,079         982,079   

Note payable, maturing on April 25, 2014, interest rate of 5.0% at June 30, 2012

     6,714,000         —     

Mortgage payable to Davis-Penn Mortgage Company, maturing on June 1, 2043, interest rate of 5.75% at June 30, 2012

     6,135,105         6,170,366   

Mortgage payable to Trustmark National Bank, maturing on May 31, 2012, interest rate of 5.0% at June 30, 2012

     5,232,413         5,311,654   

Mortgage payable to Citizens National Bank of Sevierville, maturing on July 13, 2012, interest rate of 6.5% at June 30, 2012

     5,700,648         5,777,268   

Subordinated promissory notes issued in connection with TrinityCare acquisition, maturing on June 30, 2013, interest rates of 6.0% at June 30, 2012

     2,815,089         2,815,089   

Note payable to a shareholder, due on demand, interest rate of 15.0%

     134,000         —     

Note payable to a shareholder,maturing in 2017, non-interest bearing

     325,000         —     

Note payable to a shareholder, maturing in 2017, interest rate of 2.43%, with a discount of $82,966 at June 30, 2012

     1,217,034         —     

Subordinated promissory notes payable to shareholders, maturing in 2028, interest rate of 15.0% at June 30, 2012

     700,000         —     

Various notes payable, bearing interest ranging from 0% to 10.5%, maturing in June 2012 at June 30, 2012

     294,440         340,319   

Notes payable was paid in full in June 2012.

     —           1,404,063   

Notes payable was paid in full in May 2012.

     —           2,250,000   

Note payable, maturing on June 30, 2012, interest rate of 6.34%. Note was paid in full in June 2012.

     —           403,302   

Various notes payable, due on various dates, interest rates ranging from 0.0% to 6.25%. Notes were paid in full in June 30, 2012.

     —           132,708   

Note payable, maturing on April 27, 2012, interest rate of 18.0% . Note was paid in full in May 2012.

     —           2,000,000   
  

 

 

    

 

 

 

Total debt

   $ 39,235,909       $ 37,441,805   

Less: current portion

     (25,528,386      (28,982,331
  

 

 

    

 

 

 

Total debt, less current portion

   $ 13,707,523       $ 8,459,474   
  

 

 

    

 

 

 

In 2006, the Company entered into a $9,000,000 construction loan with Amegy Bank. Advances under this loan were originally scheduled to mature on March 27, 2007. This loan is secured by the Company’s accounts receivable, contract rights, general intangibles instruments, cash and cash equivalents and all other asset accounts. The loan contains various terms and conditions, including operational and financial restrictions and limitations, and affirmative covenants. The covenants include financial covenants measured on a quarterly basis which require the Company to maintain maximum leverage and minimum fixed charge ratios as defined in the loan agreement. In June 2011, the Company and Amegy Bank agreed to extend the terms of the loan to January 15, 2012 and subsequently extended to April 15, 2012, bearing interest rate at 6.0%, modified the monthly payments of the note payable and provided a waiver to the Company for violations of financial covenants. As of May 10, 2012, the Company and Amegy Bank agreed to extend the term of the line of credit from April 15, 2012 to September 15, 2012. As a result, the Company classified the amount due in 2012 as short-term at June 30, 2012 and December 31, 2011. At June 30, 2012 and December 31 2011, the total outstanding balance of these notes was $3,600,000 and $5,150,000, respectively.

In connection with the Baytown acquisition, the Company entered into a promissory note of $161,915 with seller on April 13, 2012. The promissory note bear interest rate of 5.0% and is payable over 12 months. At June 30, 2012, the amount outstanding on this note was $114,308.

On September 15, 2011, the Company entered into a settlement of litigation with Siemens Medical Solutions. As part of the settlement, the Company agreed to pay Siemens an aggregate of $4,850,000 over a period of 20 months beginning in October 2011 and through May 2013. As of June 30, 2012 and December 31, 2011, the outstanding balance was $2,753,232 and $3,451,555.

 

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Table of Contents

UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

On May 31, 2012, the Company entered into a $2,000,000 promissory note with a third-party. In lieu of cash interest on the principal balance of this note, payee received interest in the form of an aggregate of 2,000,000 shares of the common stock, $0.001 par value per share of the Company, which is an equivalent to 22.3% per annum. This note is payable on July 31, 2013. At June 30, 2012, the amount outstanding on this note was $2,000,000.

The Company entered into various loans due to Medicare related to overpayment for Medicare Services. The loans bear interest rates ranging from 11.0% to 11.5% and will be repaid in monthly installments. As of June 30, 2012 and December 31, 2011, the outstanding balance on this finance agreement was $420,435 and $818,776, respectively.

In November 2006, the Company entered into a $1.0 million promissory note with a third-party financial institution, bearing interest at the fixed rate of 3.25% and due on demand. The note was modified on January 8, 2007 requiring monthly payments of interest only. In June 2012, the note was modified to require paying interest rate of 4.25% and payable on November 2013. The Company agreed to pay these regular monthly payments of all accrued unpaid interest assessed on the outstanding principal balance due as of each payment date. At June 30, 2012 and December 31, 2011, the amount outstanding on this note was $732,079 and $982,079, respectively.

In connection with the UGH Diagnostic Imaging and UGH Physical Therapy acquisition, the Company entered into a promissory note of $6,714,000 with sellers on June 1, 2012 (“Closing Date”). The promissory note bears an interest rate of 5.0% and is payable over 26 months beginning 75 days following the Closing Date. At June 30, 2012, the amount outstanding on this note was $6,714,000.

In connection with the TrinityCare acquisition, the Company entered into subordinated promissory notes of approximately $2,815,089 with sellers in June 2011. The promissory notes bear interest rate of 6.0% and are payable over two years. At June 30, 2012 and December 31, 2011, the amount outstanding on these notes was $2,815,089. In addition, the Company assumed three mortgage notes of $17,463,982. The mortgage notes bear interest rate ranging from 5.0% to 6.5%. As of June 30, 2012 and December 31, 2012, the total outstanding on these notes was $17,068,166 and $17,259,288, respectively.

In 2008, UGH LP entered into Subscription Agreements with certain partners, pursuant to which UGH LP sold to the partners in the aggregate of nine units (9) of limited partner interests for $900,000 of the Partnership’s 15.0% Subordinated Promissory Notes due 2028. As of June 30, 2012 and December 31, 2011, the total outstanding balance of these notes was $700,000, respectively. At December 31, 2011, these subordinated promissory notes were not included in third party, but in related party notes.

On September 30, 2011, the Company entered into a $714,162 finance agreement with a third-party financial institution, bearing interest at a rate of 6.34% and will be repaid in monthly payments of $61,097 over a period of nine months beginning on October 30, 2011. The purpose of this finance agreement is to purchase general liability and malpractice insurance policies for the Company. As of December 31, 2011, the outstanding balance on this finance agreement was $403,302. The note was paid in full in June 2012.

In December 2006, the Company entered into $2,000,000 promissory note with a third-party financial institution, bearing interest at a rate of 5.25% and initially was to be repaid in monthly installments over twelve months. The note was modified on December 13, 2007 into two separate notes requiring monthly payments of interest only. The Company agreed to pay these regular monthly payments of all accrued unpaid interest assessed on the outstanding principal balance due as of each payment date. On June 29, 2012, the Company entered into a compromise settlement agreement and release of claims (“Agreement”) with Regions Bank (“Regions Bank”) with respect to these two promissory notes. Under the terms of the agreement, Regions Bank agreed to reduce the remaining principal balance and forgive all accumulated interest accruing through the date of the agreement. The negotiations regarding this compromise and settlement agreement were handled by the Board of Directors of the Company. The gain on this transaction was accounted for as a troubled debt restructuring modification of terms pursuant to ASC 470. Based on the terms of the agreement, the Company paid the remaining balance to Regions Bank on June 29, 2012. At December 31, 2011, the amount outstanding on these notes was $1,404,063.

 

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Table of Contents

UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

On December 22, 2011, the Company entered into a compromise and settlement agreement with Texas Community Bank (“Texas Community”) with respect to an approximately $2.6 million promissory note. Under the terms of the agreement, Texas Community agreed to reduce the principal balance from $2,401,950 to $2,350,000 and forgive all past due interest, late fees and penalties accruing through the date of the agreement. The agreement further provides that effective January 1, 2012, the interest rate is reduced by 200 basis points (or 2.0%) per year until such amount is paid in full. The negotiations regarding this compromise and settlement agreement were handled by the Board of Directors of the Company. The gain on this transaction was accounted for as a troubled debt restructuring modification of terms pursuant to ASC 470. At December 31, 2011, the amount outstanding on these notes was $2,250,000. The note was paid in full in May 2012.

In October 2011 Sigma Opportunity Fund, LLC (the “Service Provider”) purchased 625,000 shares of common stock, par value $0.001 per share, of the Company for an aggregate purchase price of $200,000 in cash. In addition, The Service Provider agreed to finance the acquisition of TrinityCare and provide funds for the retirement of certain debts of the Company which yielded a favorable settlement for the Company. The financing agreement entered into was a $2,000,000 note purchase agreement with the Service Provider on October 27, 2011. The note purchase agreement is securitized by 100% of the assets of the Company. Advances under this note purchase agreement mature April 27, 2012, and bear interest rate at 18.0% per annum. Principal is payable on the maturity date, but under certain conditions may be extended. The note purchase agreement contains certain covenants including limitations on certain indebtedness, limitations on asset sales and liquidations and limitations on certain issuances. At December 31, 2011, $2,000,000 was outstanding under the note purchase agreement. The Company has paid this note purchase agreement in full as of May 3, 2012.

The Company recognized total interest expense on all of its notes payable of $585,031 and $181,053 for the three months ended and $1,147,650 and $419,490 for the six months ended June 30, 2012 and 2011, respectively. The Company accrued interest payable of $322,764 and $469,285 as of June 30, 2012 and December 31, 2011, respectively.

Total principal payment obligations relating to the Company’s third party notes payable for the next five years and thereafter are as follows:

 

     Payments  

2013

   $ 25,528,386   

2014

     6,239,174   

2015

     311,108   

2016

     321,894   

2017

     332,611   

Thereafter

     6,502,736   
  

 

 

 

Total

   $ 39,235,909   
  

 

 

 

See further discussion regarding the related party notes payable in Note 8.

 

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UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

NOTE 7 — LEASE OBLIGATIONS

Capital Leases

The Company has eight capital lease obligations with five financing companies and collateralized by underlying assets. The total aggregate net book value of the assets capitalized under these capital lease obligations was $26,303,671 at June 30, 2012. These capital lease obligations have stated interest rates ranging from 3.6% to 15.3%, are payable 1 to 289 monthly installments, and mature between April 21, 2012 and July 30, 2036. As of June 30, 2012 and December 31, 2011, the Company had capital lease obligations of $35,889,486 and $37,021,438, respectively. Future minimum annual payments, together with the present value of the minimum lease payments under capital leases at June 30, 2012, are summarized as follows:

 

     Related Party      Third Party         
     Leases      Leases      Total  

2013

   $ 2,323,333       $ 4,697,688       $ 7,021,021   

2014

     2,323,333         307,317         2,630,650   

2015

     2,323,333         21,492         2,344,825   

2016

     2,323,333         10,746         2,334,079   

2017

     2,483,062         —           2,483,062   

Thereafter

     53,568,015         —           53,568,015   
  

 

 

    

 

 

    

 

 

 

Total minimum lease payments

   $ 65,344,409       $ 5,037,243       $ 70,381,652   

Less amounts representing interest

     34,419,262         72,904         34,492,166   
  

 

 

    

 

 

    

 

 

 

Present value of minimum lease payments

     30,925,147         4,964,339         35,889,486   

Less current portion

     253,397         4,633,186         4,886,583   
  

 

 

    

 

 

    

 

 

 

Long-term portion

   $ 30,671,750       $ 331,153       $ 31,002,903   
  

 

 

    

 

 

    

 

 

 

On June 29, 2012, the Company entered into a compromise settlement agreement and release of claims (“Agreement”) with Regions Bank (“Regions Bank”) with respect to a $7,609,797 equipment lease. Under the terms of the agreement, Regions Bank agreed to reduce the remaining principal balance from $7,609,797 to $5,500,000 and forgive all accumulated interest, property tax, sales tax and penalties accruing through the date of the agreement. The gain of this transaction was accounted for as a troubled debt restructuring modification of terms pursuant to ASC 470. The negotiations regarding this compromise and settlement agreement were handled by the Board of Directors of the Company. Based on the terms of the agreement, the Company shall pay to Regions Bank the sum of $2,125,000 on September 28, 2012 and the sum of $2,125,000 on December 31, 2012. At June 30, 2012 and December 31, 2011, the amount outstanding on these notes was $4,250,000 and $5,706,156, respectively.

See further discussion regarding the related party capital lease obligation in Note 8.

 

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Table of Contents

UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

NOTE 8 — RELATED PARTY TRANSACTIONS

Receivables from Related Parties

Receivables from related parties include employee advances and advances to affiliates consisted of the following:

 

     June 30, 2012      December 31, 2011  

Receivable from shareholder of UGH GP

   $ 938,820       $ 438,820   

Receivable from Executive Officer

     145,201         145,201   

Receivable from Cambridge

     —           74,743   
  

 

 

    

 

 

 

Total receivables from related parties

   $ 1,084,021       $ 658,764   
  

 

 

    

 

 

 

Payables to Related Parties

Payables to related parties include advances from employees and amounts due to affiliates for services rendered consisted of the following:

 

     June 30, 2012      December 31, 2011  

Interest on notes payable to shareholders

     1,391,173         1,560,581   

Payable to Sybaris

     681,155         932,507   

Payable to Cambridge

     16,959         —     
  

 

 

    

 

 

 

Total payables to related parties

   $ 2,089,287       $ 2,493,088   
  

 

 

    

 

 

 

Related Party Costs and Expenses

The following table summarizes related party costs and expenses that are reflected in the accompanying Consolidated Statements of Operations:

 

     Three Months Ended
June 30,
     Six Months Ended
June 30,
 
     2012      2011      2012      2011  

Interest expense

   $ 583,715       $ 631,493       $ 1,162,750       $ 1,288,381   

Management fees

     —           —           —           461,814   

General and administrative expense

     377,030         1,621,953         681,643         3,369,262   

Amortization expense

     171,290         171,290         342,580         342,580   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 1,132,035       $ 2,424,736       $ 2,186,973       $ 5,462,037   

Related Party Capital Lease Obligation

Cambridge Properties (“Cambridge”) owns the land and building on which the hospital is located. Cambridge is one of the Company’s major shareholders. The Company has leased the hospital space from Cambridge pursuant to a Lease Agreement. The Lease Agreement has an initial term of 10 years beginning October 1, 2006, plus tenant’s option to renew the term for two additional 10 year periods. In addition to base rent, the Lease Agreement provides that the Company pays its pro-rata share of the operating expenses. The obligations of the Company under the Lease Agreement are secured by the personal guarantees of certain shareholders of the Company. The Company has previously been in litigation with Cambridge concerning monetary default of certain rent obligations under the Lease Agreement. The Company has cured such defaults and makes periodic payment of rent as permitted by current cash flows requirements. Should the Company’s relationship with Cambridge deteriorate further, the Company will be required to devote additional resources to protect its rights under the Lease Agreement.

 

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UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

As of June 30, 2012 and December 31, 2011, the Company recorded a related party capital lease obligation of $30,925,147 and $31,042,859, respectively. Additionally, the Company incurred amortization expense of $171,290 related to the hospital for each of the three months ended June 30, 2012 and 2011 and $342,581 for each of the six months ended June 30, 2012 and 2011. For three and six months ended June 30, 2012 and 2011, the interest expense related to the capital lease obligation was $524,318 and $524,516 and $1,043,954 and $1,043,900, respectively.

The Company had no related party receivable as of June 30, 2012 and $74,743 as of December 31, 2011 from Cambridge principally related to an overpayment of overhead allocation expenses during 2011. The Company had a related party payable of $16,959 at June 30, 2012. During the three and six months ended June 30, 2012 and 2011, the Company incurred overhead allocation expenses and parking expenses from Cambridge of $285,304 and $264,782 and $499,748 and $603,489, respectively. These expenses were recorded as general and administrative expenses (“G&A”) in the Consolidated Statements of Operations.

Management Services Agreements

Certain shareholders of the Company have organized APS, a Texas limited liability company, as a service company. APS is one of the Company’s major shareholders. The Company and APS have entered into a management services agreement, pursuant to which APS provides management services to the Company’s hospital segment for an initial term of five years. Compensation under this agreement was based on 5.0% of net revenue recorded in the financial statements. This agreement with APS was terminated on February 28, 2011. The Company incurred management services fees of $0 and $461,814 for the three and six months ended June 30, 2012 and 2011, respectively.

Food Services, Plant Operations & Management, Environmental and Other Services Agreement

Prior to the acquisition of Sybaris, certain shareholders of the Company had organized Sybaris Group, LLC (“Sybaris”), a Texas limited liability company, as a service company. The Company and Sybaris have entered into a management services agreement, pursuant to which Sybaris provides food services, plant operations and management, environmental and other services to the hospital for an initial term of five years. Compensation under this agreement is based on (i) expense reimbursement for direct costs incurred by Sybaris, (ii) a general expense allowance of six percent (6.0%) of the direct costs incurred by Sybaris and (iii) a service fee of four percent (4.0%) of the direct costs incurred by Sybaris. Amounts payable to Sybaris under this agreement are adjusted annually based on cost of living and other customary adjustments.

On December 31, 2011, the Company, through wholly-owned subsidiaries, acquired certain assets and assumed certain of the liabilities of Sybaris. All accounts receivable of the Seller are specifically excluded from the acquisition and a majority of the accounts receivable balance is owed by the Company. The Company believes the terms of the transaction between Sybaris and the Company are fair, reasonable and reflects fair market value. The Company recognized $1,072,199 and $2,091,774 services fees to Sybaris for the three and six months ended June 30, 2011, which were recorded as general and administrative expenses and included in the Consolidated Statements of Operations. At June 30, 2012 and December 31, 2011, the Company had related party payables to Sybaris of $681,155 and $932,507, respectively.

Other Related Party Transactions

The Company also makes advances to and receives advances from certain other entities. As of June 30, 2012 and December 31, 2011, shareholders of the Company owe $938,820 and $438,820 for advances. The advances are non-interest bearing and due upon demand and collaterized by shares of the Company with value in excess of amounts owed.

The Company received and issued non-interest bearing advances from an executive officer for working capital purposes. At June 30, 2012 and December 31, 2011, the Company had receivables of $145,201 from an executive officer, respectively.

 

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UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

Certain shareholders of the Company have organized Sigma Consulting LLC (“Sigma”), a Texas limited liability company, as a service company. Sigma provided information technology consulting services to UGH LP, and for the three and six months ended June 30, 2012 and 2011, UGH LP incurred total service expenses of $91,726 and $74,534 and $181,896 and $139,745, respectively, which were recorded as general and administrative expenses in the Consolidated Statements of Operations. The Company believes that these payments to Sigma are fair and reasonable.

Notes Payable to Related Parties

Notes payable to related parties consist of the following:

 

`    June 30, 2012      December 31, 2011  

Note payable to a shareholder, due on demand, interest rate of 10.0%

   $ 1,923,000       $ 1,923,000   

Notes payable to shareholder, due on demand, non-interest bearing

     —           84,962   

Trinity notes payable to a shareholder, due on demand, non-interest bearing

     241,527         263,499   

Note payable to a shareholder, due on demand, interest rate of 15.0%

     —           154,000   

Note payable to a shareholder, maturing in 2017, non-interest bearing

     —           370,000   

Note payable to a shareholder, maturing in 2017, interest rate of 2.43%, with a discount of $112,791 at December 31, 2011

     —           1,286,836   

Subordinated promissory notes payable to shareholders, maturing in 2028, interest rate of 15.0% at June 30, 2012

     —           700,000   
  

 

 

    

 

 

 

Total notes payable to related parties

   $ 2,164,527       $ 4,782,297   

Less: current portion

     2,164,527         2,798,783   
  

 

 

    

 

 

 

Notes payable to related parties, less current portion

   $ —         $ 1,983,514   
  

 

 

    

 

 

 

On October 5, 2006, the Company entered into a $2,000,000 loan agreement with Dr. Spiegel, bearing interest at a rate of 10.0%, and which is due on demand. Dr. Spiegel beneficially owns more than ten percent (10%) of the Company’s common stock. The purpose of this loan agreement is to support the Company’s working capital. As of June 30, 2012 and December 31, 2011, the outstanding balance on this loan agreement was $1,923,000.

The Company recognized total interest expense on all of its related party notes payable and capital lease of $583,715 and $631,493 for the three months ended and $1,162,750 and $1,288,381 for the six months ended June 30, 2012 and 2011, respectively. Total accrued interest on notes payable to related parties was $1,391,173 and $1,560,581 at June 30, 2012 and December 31, 2011, respectively.

NOTE 9 — COMMITMENTS AND CONTINGENCIES

Litigation

From time to time, the Company may become involved in litigation relating to claims arising out of its operations in the normal course of business. The Company is not involved in any pending legal proceeding or litigation and, to the best of the Company’s knowledge, no governmental authority is contemplating any proceeding to which the Company is a party or to which any of its properties is subject, which would reasonably be likely to have a material adverse effect on the Company, except for the following:

Prexus

On December 4, 2009, Prexus Health Consultants, LLC and its affiliate, Prexus Health LLC (collectively, “Prexus”), sued UGH LP and Ascension Physician Solutions, LLC (“APS”) in the 270th District Court of Harris County, Texas, Cause No. 2009-77474, seeking (i) $224,863 for alleged breaches of a Professional Services Agreement (the “PSA”) under which Prexus provided billing, coding and transcription services, (ii) $608,005 for alleged breaches of a Consulting Services Agreement (the “CSA”) under which Prexus provided professional management and consulting services, and (iii) lost profit damages for the remaining term of the agreements (UGH LP and APS terminated these contracts effective September 9, 2009). Prexus subsequently added additional claims seeking lost profits and other damages for alleged tortious interference of Prexus contracts. In October 2010, UGH LP and APS filed counterclaims against Prexus seeking $1,687,242 in damages caused by Prexus’ breach of the CSA.

 

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UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

On October 11, 2011, the trial court judge entered judgment against UGH LP for approximately $2,900,000, including $2,100,000 in lost profits. The judgment also awarded additional amounts for pre-judgment and post-judgment interest. UGH LP timely appealed the lost profits portion of the judgment and has suspended enforcement of the judgment pending the result of the appeal. The Company believes the appellate court is likely to reduce the amount of the judgment to $861,000 which is the amount of unpaid fees to Prexus prior to the effective date of termination. As a result, the Company accrued this amount plus $139,000 for attorney fees and estimated post judgment interest as of June 30, 2012, which is included in the Consolidated Balance Sheets.

Siemens

On June 29, 2010, Siemens Medical Solutions USA, Inc. (“Siemens”) sued UGH LP in the 215th District Court of Harris County, Texas, Cause No. 2010-40305, seeking approximately $7,000,000 for alleged breaches of (i) a Master Equipment Lease Agreement dated August 1, 2006 and related agreements (the “Lease Agreements”), pursuant to which UGH LP leased certain radiology equipment and (ii) an Information Technology Agreement dated March 31, 2006 and related agreements (the “IT Agreements”) pursuant to which Siemens agreed to provide an information technology system, software and related services. On November 22, 2010 UGH LP filed counterclaims against Siemens seeking approximately $5,850,000 against Siemens for breach of contract, negligent representation and breach of warranty based on Siemens breach of the Lease Agreements and the IT Agreements. On February 28, 2011, the court signed an order granting partial summary judgment in favor of Siemens and against UGH LP as to UGH LP’s liability for breach of the Lease Agreements, but not as to damages sought by Siemens.

On September 15, 2011, the parties to the Siemens litigation reached a settlement of the pending litigation. As part of the settlement, UGH LP agreed to pay Siemens an aggregate of $4,850,000 over a period of 20 months beginning in October 2011 through May 2013. UGH LP is currently in a dispute with Siemens regarding the settlement agreement entered into on September 15, 2011. Specifically UGH LP disputes the entry of the agreed judgment securing the settlement as a result of an alleged breach of the settlement agreement. UHG LP has filed a timely appeal and suspended enforcement of the agreement judgment pending such appeal. As of June 30, 2012 and December 31, 2011 the Company accrued the estimated present value of this unpaid claim of $2,753,232 and $3,451,555 in the Consolidated Balance Sheets.

Internal Revenue Service

UGH LP currently owes the Internal Revenue Service (the “IRS”) past due payroll taxes. Until paid in full, statutory penalties and interest will continue to accrue. The IRS has filed tax liens covering such amounts with various governmental authorities and has taken other actions to collect these balances. UGH LP is working with IRS representatives on payment arrangements to satisfy these balances on an amicable basis. In August 2011, UGH LP entered into an installment agreement with the IRS pursuant to which UGH LP paid $165,000 per month towards satisfaction of the outstanding balance for various quarters in 2009. In March 2012, this agreement was terminated and the outstanding balance thereunder was paid in full. At June 30, 2012 and December 31, 2011, the Company accrued $5,149,799 and $4,171,826, respectively.

In addition, the Company owes the holders of the Preferred Shares a dividend amount of $50,773. See Note 11 for more information.

 

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UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

NOTE 10 — DERIVATIVES

The table summarizes the Company’s derivative instruments:

 

     Preferred C Shares     Preferred C Shares
Warrants
    Consulting Warrants     Total  

Balance, December 31, 2011

   $ —        $ —        $ —        $ —     

Issuance of Preferred C Shares and Warrants

     2,542,424        2,527,683        —          5,070,107   

Issuance of Consulting Warrants

     —          —          88,468        88,468   

Change in fair value

     (458,692     (442,358     (15,483     (916,533
  

 

 

   

 

 

   

 

 

   

 

 

 

Balance, June 30, 2012

   $ 2,083,732      $ 2,085,325      $ 72,985      $ 4,242,042   
  

 

 

   

 

 

   

 

 

   

 

 

 

The fair values of derivative instruments were estimated using the Binomial pricing model based on the following weighted-average assumptions:

 

     Preferred C Shares
Shares/Warrants
   Consulting Warrants

Risk-free rate

   0.62%-0.82%    0.62%-0.78%

Expected volatility

   100%    100%

Expected life

   3.59-5.0 years    4.59-5.0 years

The following table summarizes derivative warrants outstanding and exercisable as at June 30, 2012:

 

Issuance

   Number of Shares      Weighted Average
Exercise Price
 

Preferred C Shares (a)

     17,309,090       $ 0.22   

Preferred C Warrants (a)

     17,309,090         0.26   

Consulting Warrants (b)

     605,818         0.26   
  

 

 

    
     35,223,998         0.24   
  

 

 

    

 

(a) Preferred C Shares and Warrants:

In conjunction with the Series C Convertible Preferred Stock (See Note 11) issuance on May 2, 2012, the Company issued preferred stock with warrants. The Preferred C Stock and Warrants have round-down provisions where if the Company sells or grants any option to purchase or sells or grants any right to re-price, or otherwise disposes of or issues (or announces any sale, grant or any option to purchase or other disposition), any common stock or common stock equivalents entitling any person to acquire shares of common stock at an effective price per share that is lower than the then conversion price then the conversion price shall be reduced to equal the base conversion price. The Company accounted for these features as derivative liabilities. The Company concluded that since these provisions are not indexed to the Company’s common stock, the provisions are precluded from equity classification. The Company recorded the fair market value of the derivative as a direct investor expense.

 

(b) Consulting Warrants:

During the six months ended June 30, 2012, the Company issued warrants to consultants for services. The warrants have round-down provisions where if the Company sells or grants any option to purchase or sells or grants any right to re-price, or otherwise disposes of or issues (or announces any sale, grant or any option to purchase or other disposition), any common stock or common stock equivalents entitling any person to acquire shares of common stock at an effective price per share that is lower than the then conversion price then the conversion price shall be reduced to equal the base conversion price. The Company accounted for these features as derivative liabilities. The Company concluded that since these provisions are not indexed to the Company’s own stock, the provisions are precluded from equity classification. The Company recorded the fair market value of the derivative as a direct investor expense.

 

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UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

 

                          Fair Value  

Date of Issue

   Number of Warrants      Exercise Price      Maturity Date      Issue Date      June 30, 2012  

May-2, 2012

     605,818       $ 0.26         May 1, 2017       $ 88,468       $ 72,985   
  

 

 

          

 

 

    

 

 

 
     605,818             $ 88,468       $ 72,985   
  

 

 

          

 

 

    

 

 

 

NOTE 11 — EQUITY

Common Stock

Effective April 30, 2012 the Company completed a private placement transaction for the purchase of 35,950,000 shares of its Common Stock at a price of $0.14 per share from a group of accredited investors, resulting in net proceeds to the Company of approximately $5,033,000. The Company used these proceeds to pay tax payments and retired certain outstanding loan balances.

On May 31, 2012, the Company entered into a $2.0 million promissory note with a third-party financial institution. In lieu of cash interest on the principal balance of this note, the company issued 2,000,000 shares of the common stock, $0.001 par value per share of the Company to the payee valued at $520,000.

On June 1, 2012, the Company issued 1,865,000 shares of its common stock in connection with the acquisition of UGH Diagnostic Imaging and UGH Physical Therapy at a price of $0.40 per share.

Preferred Stock

The Company is authorized to issue up to 20,000,000 shares of preferred stock of $0.001 par value per share, in one or more series, and to determine the price, rights, preferences and privileges of the shares of each such series without any further vote or action by the stockholders. The rights of the holders of common stock will be subject to, and may be adversely affected by, the rights of the holders of any shares of preferred stock that may be issued in the future.

Series C Preferred Stock

On May 2, 2012 the Company completed the private placement of Series C Variable Rate Convertible Preferred Stock (the “Preferred Shares”) with accredited investors at a price of $1,000 per share (the “Stated Value”), with an original issue discount of 12%. Each Preferred Share is convertible into approximately 4,545 shares of the Company’s common stock (the “Conversion Shares”) and warrants to purchase up to an aggregate of 17,309,090 shares of the Company’s common stock (the “Warrants”). The warrants are exercisable at $0.26 per share and expire in five years. After deducting for fees and expenses, the aggregate net proceeds from the sale of the Preferred Shares and Warrants was approximately $3.1 million. At any time after the six month anniversary of the date of issuance of the Preferred Shares, the Company has the right to redeem the Preferred Shares at a premium of 115%, subject to certain conditions. Furthermore, at any time after the six month anniversary of the date of issuance of the Preferred Shares the Company has the right to require the holders to convert their Preferred Shares in the event that the Company’s common stock meets certain trading premiums, and subject to other conditions.

The holders of the Preferred Shares are entitled to receive cumulative dividends at a rate per share of 8% per annum until October 31, 2013, increasing to 16% per annum from November 1, 2013 until January 31, 2014, further increasing to 20% per annum from February 1, 2014 until April 30, 2014 and finally increasing to 25% per annum thereafter, payable quarterly on February 1, May 1, August 1 and November 1, beginning on May 1, 2012. In the event if funds are not legally available for the payment of dividends, then, at the election of such holder, such dividends shall accrue to the next dividend payment date or shall be accreted to, and increase, the outstanding value of the Preferred Share. In addition, dividends are subject to late fees payment. Any dividends that are not paid within three trading days following a dividend payment date shall continue to accrue and shall entail a late fee, which must be paid in cash, at the rate of 18.0% per annum or the lesser rate permitted by applicable law which shall accrue daily from the dividend payment date through and including the date of actual payment in full. As of June 30, 2012, the Company has accrued a dividend of $50,773. In addition, the Company has recorded an accretion non-cash dividend in the amount of $91,408 for the increasing variable dividend rate.

 

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UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

In the event of any liquidation, dissolution or winding-up of the Corporation, whether voluntary or involuntary, the holders shall be entitled to receive out of the assets, whether capital or surplus, of the corporation an amount equal to the Stated Value, plus any accrued and unpaid dividends thereon and any other fees or liquidated damages then due and owing for each share of Preferred Stock before any distribution or payment shall be made to the holders of any junior securities, and if the assets of the corporation shall be insufficient to pay in full such amounts, then the entire assets to be distributed to the holders shall be ratably distributed among the holders in accordance with the respective amounts that would be payable on such shares if all amounts payable thereon were paid in full. A fundamental transaction or change of control transaction shall not be deemed a liquidation. The corporation shall mail written notice of any such Liquidation, not less than 45 days prior to the payment date stated therein, to each holder.

Each Preferred Share is convertible at any time at the option of the holder into a number of shares of the Company’s common stock determined by dividing the purchase price of $1,000 by the conversion price of $0.22 per share in effect on the date of the certificate is surrendered for conversion. The conversion price is subject to equitable adjustment in the event of any stock splits, stock dividends, recapitalizations and the like. As of June 30, 2012, no Preferred Shares have been converted into the Company’s common stock.

In addition, the Company incurred approximately $356,000 of direct costs including warrants issued to the Company placement agents as part of their compensation for the transaction. The expenses were recorded as a contra preferred stock account and is being accreted to expense over the expected maturity of the preferred stock. The warrants allow for the purchase of up to 17,309,090 shares of the Company’s common stock at an exercise price of $0.26 per share, are exercisable at any time, and expire on May 2, 2017.

Distributions of Noncontrolling Interests

During the six months ended June 30, 2012, the Company distributed cash to holders of noncontrolling interests of $172,762.

NOTE 12 — GAIN ON EXTINGUISHMENT OF LIABILITIES

In the three and six months ended June 30, 2012 and 2011, the Company settled certain accounts payable with vendors, and reduced the accounts payable owed to those vendors. For the three and six months ended June 30, 2012 and 2011, the Company recognized a gain on extinguishment of liabilities of $0 and $160,979 and $96,739 and $1,464,345, respectively, related to the accounts payable settlements.

During the quarter ended June 30, 2012, in connection with the cancellation of obligations with a debt holder, the Company recognized a gain of $2,806,787 representing the portion of principal balance, accrued interest, taxes and penalties due on a master equipment lease agreement and two promissory notes that have been extinguished in accordance with the statute of limitations.

The Company evaluated the classification of these gain and determined that the gain does not meet the criteria for classification as an extraordinary item. As a result, the gain has been included as “Gain on extinguishment of liabilities” within income from continuing operations in the accompanying Statement of Operations for the quarter ended June 30, 2012.

 

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UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

NOTE 13 — EARNINGS PER SHARE

Basic earnings per share is computed using the weighted average number of common shares outstanding during the measurement period. Diluted earnings per share is computed using the weighted average number of common shares and all potentially dilutive common share equivalents outstanding during the measurement period. The Company’s diluted earnings per share calculation excludes approximately 17,309,090 potential shares related to Preferred C Warrants for the three and six months ended June 30, 2012 due to their anti-dilutive effect.

The following table summarizes the components used to determine total diluted shares:

 

     For the Three Months Ended June 30,     For the Six Months Ended June 30,  
     2012     2011     2012     2011  

Net income attributable to the Company

   $ 1,160,393      $ (227,736   $ 1,649,830      $ (667,504

Less: Cash dividend-Convertible Preferred C Stock

     (50,773     —          (50,773     —     

Less: Accretion of non-cash dividend-Convertible Preferred C Stock

     (91,408     —          (91,408     —     
  

 

 

   

 

 

   

 

 

   

 

 

 

Net income attributable to common shareholders

   $ 1,018,212      $ (227,736   $ 1,507,649      $ (667,504
  

 

 

   

 

 

   

 

 

   

 

 

 

Basic weighted average shares outstanding

     309,510,470        253,000,000        296,475,348        214,080,503   

Effect of dilutive securities:

        

Preferred C Shares

     17,309,090        —          17,309,090        —     

Preferred C Warrants

     —          —          —          —     
  

 

 

   

 

 

   

 

 

   

 

 

 

Diluted weighted average shares outstanding

     326,819,560        253,000,000        313,784,438        214,080,503   
  

 

 

   

 

 

   

 

 

   

 

 

 

Earnings per share data:

        

Basic earnings per share

   $ 0.00      $ (0.00   $ 0.01      $ (0.00

Diluted earnings per share

   $ 0.00      $ (0.00   $ 0.00      $ (0.00

NOTE 14 — SEGMENT INFORMATION

Under ASC Topic No. 280, Segment Reporting, operating segments are defined as components of an enterprise about which separate financial statement is available that is evaluated regularly by the chief operating decision maker, or decision-making group, in deciding how to allocate resources and in assessing performance. The Company’s chief operating decision-making group is composed of the chief executive officer, chief financial officers and members of senior management.

The Company operates in three lines of business—(i) as a hospital, (ii) as a senior living care community, and (iii) as a support services company. These segments were determined based on the way that the Company’s chief operating decision makers organize the Company’s business activities for making operating decisions and assessing performance.

Before the second quarter of 2011, the Company reported one operating segment, the Hospital. As a result of the acquisitions of TrinityCare and Autimis in June 2011 and Sybaris in December 2011, the Company changed its reportable segments as follows:

 

  (i) Hospital. The Company provides a full array of services including inpatient and outpatient medical treatments and surgeries, heart catheterization procedures, physical therapy, diagnostic imaging and respiratory therapy, as well as other ancillary services. The Company also provides 24-7 emergency services and comprehensive inpatient services including critical care and cardiovascular services.

 

  (ii) Senior Living. Senior living communities offer housing and 24-hour assistance with activities of daily life to mid-acuity frail and elderly residents. The Company also operates memory care services specially designed for residents with Alzheimer’s disease and progressive dementia.

 

  (iii) Support Services. The Company provides billing, coding and other revenue cycling management services to University General Hospital, its 69-bed acute care hospital in Houston, as well as other clients not affiliated with the Company. The Company’s food and support services group provides a number of interrelated services including food, hospitality and facility services for businesses and healthcare facilities.

 

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UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

The following table presents selected financial information for the Company’s operating segments:

 

     For the Three Months Ended June 30,      For the Six Months Ended June 30,  
     2012     2011      2012     2011  

Revenues

         

Hospital

   $ 27,009,385      $ 17,887,041       $ 43,694,503      $ 33,336,256   

Senior living

     1,968,328        —           3,886,566        —     

Support Services

     2,231,440        —           4,156,358        —     

Intersegment revenues

     (1,836,076     —           (3,277,295     —     
  

 

 

   

 

 

    

 

 

   

 

 

 

Total revenues

   $ 29,073,077      $ 17,887,041       $ 48,160,132      $ 33,336,256   
  

 

 

   

 

 

    

 

 

   

 

 

 

Depreciation and amortization

         

Hospital

   $ 1,312,990      $ 1,757,509       $ 2,734,907      $ 3,520,116   

Senior living

     286,912        —           549,296        —     

Support Services

     170,018        —           210,890        —     
  

 

 

   

 

 

    

 

 

   

 

 

 

Total depreciation and amortization

   $ 1,769,920      $ 1,757,509       $ 3,495,093      $ 3,520,116   
  

 

 

   

 

 

    

 

 

   

 

 

 

Operating income from operations

         

Hospital

   $ 9,675,390      $ 898,691       $ 11,541,215      $ 1,719,619   

Senior living

     262,382        —           413,149        —     

Support Services

     (90,536     —           (90,126     —     

Intersegment income

     —          —           —          —     
  

 

 

   

 

 

    

 

 

   

 

 

 

Total operating income

   $ 9,847,236      $ 898,691       $ 11,864,238      $ 1,719,619   
  

 

 

   

 

 

    

 

 

   

 

 

 

 

     As of June 30,
2012
     As of December
31, 2011
 

Total segment assets

     

Hospital

   $ 76,007,255       $ 62,233,413   

Senior living

     41,675,279         42,378,141   

Support Services

     9,837,772         9,890,368   
  

 

 

    

 

 

 

Total assets

   $ 127,520,306       $ 114,501,922   
  

 

 

    

 

 

 

NOTE 15 — INCOME TAXES

The provision for current income taxes of $3,506,131 for the six months ended June 30, 2012 was $3,200,000 for federal and $306,131 for state, and effective tax rate was 68.4% which was greater than the statutory rate of 39.0% primarily due to differences in book and tax accounting for the Company’s derivative.

Net deferred tax assets which totaled approximately $1,400,000 at June 30, 2012 (current deferred tax assets of approximately $4,500,000 million less noncurrent deferred tax liabilities of approximately $3,100,000 million) were reduced by a valuation allowance of $1,400,000 as the more likely than not criterion for recognition of the assets was not met. The valuation allowance was reduced by approximately $900,000 during the six months ended June 30, 2012.

The provision for income taxes of $162,000 for the six months ended June 30, 2011 was for state income taxes. No current or deferred federal taxes were payable because of net operating losses. The net presentation of the deferred tax accounts on the balance sheet is conservative and is not predicative of the year end presentation.

 

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UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

NOTE 16 — RESTATEMENT

The Company is restating its previously issued consolidated financial statements as of June 30, 2012 and for the three and six months ended June 30, 2012 to correct errors in accounting for Series C Variable Rate Convertible Preferred Stock and the related common stock warrants. The errors and accounting treatments are discussed below:

 

  i) Restate the accounting of the May 2, 2012 Series C Variable Rate Convertible Preferred Stock and the related common stock warrants; we have identified an embedded derivative within the provisions of the preferred stock and a separately identified free-standing derivative for the warrants, and will record such derivatives at fair market value. The embedded derivative for the preferred stock was created by the “full ratchet” adjustment provision within the terms and condition of the preferred stock. The derivatives associated with the preferred stock and warrants were not originally reflected in the Company’s financial statements. The warrants and conversion features related to preferred stock do not have readily determinable fair values and therefore require significant management judgment and estimation. We used the Binomial pricing model to estimate the fair value of warrant and preferred stock conversion features at the end of each applicable reporting period. Changes in the fair value of these derivatives during each reporting period are included in the statement of income. Inputs into the Binomial pricing model require estimates, including such items as estimated volatility of our stock, risk-free interest rate and the estimated life of the financial instruments being fair valued.

 

  ii) Originally, the preferred stock and warrants were classified as equity in the Consolidated Balance Sheets. Under the restatement, the preferred stock is now classified in temporary equity on the Consolidated Balance Sheets because the conversion features do not have readily determinable fair values and therefore require significant management judgment and estimations. The preferred stock had similar characteristics of an “Increasing Rate Security” as described by Securities and Exchange Commission (“SEC”) Staff Accounting Bulletin Topic 5Q, Increasing Rate Preferred Stock. Discounts on the increasing rate preferred stock are amortized over the expected life of the preferred stock (4 years), by charging imputed dividend cost against retained earnings and increasing the carrying amount of the preferred stock by a corresponding amount. The discount at the time of issuance is computed as the present value of the difference between dividends that will be payable in future periods and the dividend amount for a corresponding number of periods, discounted at a market rate for dividend yield on comparable securities. The amortization in each period is the amount which, together with the stated dividend in the period, results in a constant rate of effective cost with regard to the carrying amount of the preferred stock. At issuance, the Company recorded the $5,158,575 derivative liability by allocating $4,701,289 as an expense to other income/expense called “Direct Investor Expense” on the Company’s Consolidated Statement of Operations (see note 10 for a breakout of this liability among the preferred stocks and the warrants.) In addition, the Company recorded the fair value of the placement warrants ($88,469) as a derivative liability. The company allocated $60,698 of the fair value of the placement warrants to the contra temporary equity account and will accrete the expense to the statement of operations over two years, the remaining $27,771 of the fair value of the placements warrants was expensed at issuance. The Company believes they accounted for these features in accordance with the Derivatives Implementation Group Issue No. B6.

 

  iii) Restate our earnings per share disclosures and calculations to accurately reflect the impact of the Series C Variable Rate Convertible Preferred Stock and Warrant issuance.

The correction of the errors increased originally reported liabilities by $4.3 million and mezzanine equity by $2.8 million, and decreased originally reported shareholders’ equity by $7.1 million at June 30, 2012. In addition, other expense increased by $0.1 million, direct investor expense increased by $4.7 million, change in fair market value of derivatives increased by $0.9 million, and net income attributable to the Company decreased by $4.0 million for the three and six months ended June 30, 2012. Basic and diluted earnings per share decreased from $0.02 to $0.00 for the three months ended June 30, 2012. Basic earnings per share decreased from $0.02 to $0.01 and diluted earnings per share decreased from $0.02 to $0.00 for the six months ended June 30, 2012.

 

33


Table of Contents

UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

Necessary adjustments to the Company’s Consolidated Balance Sheet, Consolidated Statement of Income and Consolidated Statements of Cash Flows are summarized in the tables below. The adjustments necessary to correct the errors had no effect on reported cash flow.

The effect of the restatements on the Company’s Consolidated Balance Sheet as of June 30, 2012 is as follows:

 

     As Previously
Reported
    Adjustments     Restated  
     (Unaudited)              
ASSETS       

Current Assets

      

Cash and cash equivalents

   $ 475,885      $ —        $ 475,885   

Accounts receivable, less allowance for doubtful accounts of $10,184,800

     17,175,814        —          17,175,814   

Inventories

     1,878,266        —          1,878,266   

Receivables from related parties

     1,084,021        —          1,084,021   

Prepaid expenses and other assets

     1,315,319        —          1,315,319   
  

 

 

   

 

 

   

 

 

 

Total Current Assets

     21,929,305        —          21,929,305   

Long-Term Assets

      

Investments in unconsolidated affiliates

     767,323        —          767,323   

Property, equipment and leasehold improvements, net

     66,841,636        —          66,841,636   

Intangible assets, net

     7,198,000        —          7,198,000   

Goodwill

     28,900,818        —          28,900,818   

Other non-current assets, net

     1,883,224        —          1,883,224   
  

 

 

   

 

 

   

 

 

 

Total Long-Term Assets

     105,591,001        —          105,591,001   
  

 

 

   

 

 

   

 

 

 

Total Assets

   $ 127,520,306      $ —        $ 127,520,306   
  

 

 

   

 

 

   

 

 

 
LIABILITIES AND SHAREHOLDERS’ EQUITY (DEFICIT)       

Current Liabilities

      

Accounts payable

   $ 10,535,040      $ 50,773      $ 10,585,813   

Payables to related parties

     2,089,287        —          2,089,287   

Accrued expenses

     5,339,916        —          5,339,916   

Accrued acquisition cost

     521,401        —          521,401   

Taxes payable

     5,149,799        —          5,149,799   

Income tax payable

     3,840,809        —          3,840,809   

Deferred revenue

     248,954        —          248,954   

Lines of credit

     8,451,025        —          8,451,025   

Notes payable, current portion

     25,528,386        —          25,528,386   

Notes payable to related parties, current portion

     2,164,527        —          2,164,527   

Capital lease obligations, current portion

     4,633,186        —          4,633,186   

Capital lease obligations to related party, current portion

     253,397        —          253,397   

Derivative liability

     —          4,242,042        4,242,042   
  

 

 

   

 

 

   

 

 

 

Total Current Liabilities

     68,755,727        4,292,815        73,048,542   

Long-Term Liabilities

      

Notes payable, less current portion

     13,707,523        —          13,707,523   

Notes payable to related parties, less current portion

     —          —          —     

Capital lease obligations, less current portion

     331,153        —          331,153   

Capital lease obligations to related party, less current portion

     30,671,750        —          30,671,750   
  

 

 

   

 

 

   

 

 

 

Total Long-Term Liabilities

     44,710,426        —          44,710,426   

Total liabilities

     113,466,153        4,292,815        117,758,968   

Commitments and contingencies

      

Series C, convertible preferred stock, $0.001 par value, 20,000,000 shares authorized, 3,808 shares issued and outstanding, ($1,000 stated value)

       2,768,428        2,768,428   

Shareholders’ Equity (Deficit)

      

Preferred, par value $0.001, 20,000,000 shares authorized,

      

Preferred stock Series B—3,000 shares issues and outstanding

     3        —          3   

Preferred stock Series C, convertible preferred stock—3,808 shares issues and outstanding

     4        (4     —     

Common stock, par value $0.001, 480,000,000 shares authorized,
324,326,655 shares issued and outstanding

     324,326        —          324,326   

Additional paid-in-capital

     58,900,069        (3,586,162     55,313,907   

Shareholders’ receivables

     (2,409,069     —          (2,409,069

Accumulated deficit

     (47,883,491     (3,475,077     (51,358,568
  

 

 

   

 

 

   

 

 

 

Total shareholders’ equity (deficit)

     8,931,842        (7,061,243     1,870,599   

Noncontrolling interest

     5,122,311        —          5,122,311   
  

 

 

   

 

 

   

 

 

 

Total Equity (Deficit)

     14,054,153        (7,061,243     6,992,910   
  

 

 

   

 

 

   

 

 

 

Total Liabilities and Shareholders’ Equity

   $ 127,520,306      $ —        $ 127,520,306   
  

 

 

   

 

 

   

 

 

 

 

34


Table of Contents

UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

The effect of the restatements on the Company’s Consolidated Statements of Income for the three and six months ended June 30, 2012 is as follows:

 

    Three Months Ended June 30, 2012     Six Months Ended June 30, 2012  
    As Previously
Reported
    Adjustments     Restatement     As Previously
Reported
    Adjustments     Restatement  

Revenues

           

Patient service revenues, net of contractual adjustments

  $ 29,309,857      $ —          29,309,857      $ 47,324,501      $ —          47,324,501   

Provision for doubtful accounts

    (2,790,920     —          (2,790,920     (4,187,831     —          (4,187,831
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net patient service revenue less provision for bad debts

    26,518,937        —          26,518,937        43,136,670        —          43,136,670   

Senior living revenues

    1,908,425        —          1,908,425        3,776,858        —          3,776,858   

Support services revenues

    395,364        —          395,364        879,064        —          879,064   

Other revenues

    250,351        —          250,351        367,540        —          367,540   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total revenues

    29,073,077        —          29,073,077        48,160,132        —          48,160,132   

Operating expenses

           

Salaries, wages and benefits

    8,735,661        —          8,735,661        17,017,652        —          17,017,652   

Medical supplies

    3,859,736        —          3,859,736        6,791,861        —          6,791,861   

Management fees (includes related party fees of $0 for each of the three months ended and $0 and $461,814 for the six months ended)

    —          —          —          —          —          —     

General and administrative expenses (includes related party expenses of $377,030 for the three months ended and $681,643 for the six months ended)

    7,667,311        —          7,667,311        11,894,814        —          11,894,814   

Gain on extinguishment of liabilities

    (2,806,787     —          (2,806,787     (2,903,526     —          (2,903,526

Depreciation and amortization (includes related party expenses of $171,290 for each of the three months ended and $342,580 for each of the six months ended)

    1,769,920        —          1,769,920        3,495,093        —          3,495,093   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

    19,225,841        —          19,225,841        36,295,894        —          36,295,894   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating income

    9,847,236        —          9,847,236        11,864,238        —          11,864,238   

Other income (expense)

           

Interest expense, net of interest income of $20,000 for the three months ended and $40,000 for the six months ended (includes related party interest expense $583,715 for the three months ended and $1,162,750 for the six months ended)

    (1,385,335     —          (1,385,335     (2,823,300     —          (2,823,300

Other income (expense)

    —          (139,639     (139,639     11,583        (139,639     (128,056

Direct investor expense

    —          (4,701,289     (4,701,289     —          (4,701,289     (4,701,289

Change in fair market value liability

    —          916,533        916,533        —          916,533        916,533   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income (loss) before income tax

    8,461,901        (3,924,395     4,537,506        9,052,521        (3,924,395     5,128,126   

Income tax expense

    3,407,131        —          3,407,131        3,506,131        —          3,506,131   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income (loss) before noncontrolling interest

    5,054,770        (3,924,395     1,130,375        5,546,390        (3,924,395     1,621,995   

Net income attributable to noncontrolling interests

    30,018        —          30,018        27,835        —          27,835   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income (loss) attributable to the Company

  $ 5,084,788      $ (3,924,395   $ 1,160,393      $ 5,574,225      $ (3,924,395   $ 1,649,830   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Less: Cash dividend-Convertible Preferred C Stock

    —          (50,773     (50,773     —          (50,773     (50,773

Less: Accretion of non-cash dividend-Convertible Preferred C Stock

    —          (91,408     (91,408     —          (91,408     (91,408
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income attributable to common shareholders

  $ 5,084,788      $ (4,066,576   $ 1,018,212      $ 5,574,225      $ (4,066,576   $ 1,507,649   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income attributable to common shareholders:

           

Basic and diluted income per share data

           

Basic earnings per common share

  $ 0.02        $ 0.00      $ 0.02        $ 0.01   
 

 

 

     

 

 

   

 

 

     

 

 

 

Basic weighted average shares outstanding

    309,510,470          309,510,470        296,475,348          296,475,348   
 

 

 

     

 

 

   

 

 

     

 

 

 

Diluted earnings per common share

  $ 0.02        $ 0.00      $ 0.02        $ 0.00   
 

 

 

     

 

 

   

 

 

     

 

 

 

Diluted weighted average shares outstanding

    326,817,830          326,819,560        313,782,708          313,784,438   
 

 

 

     

 

 

   

 

 

     

 

 

 

 

35


Table of Contents

UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

The effect of the restatements on the Company’s Consolidated Statements of Cash Flows for the six months ended June 30, 2012 is as follows:

 

     As Previously
Reported
    Adjustments     Restatement  

Cash flows from operating activities:

      

Net income

   $ 5,546,390      $ (3,924,395   $ 1,621,995   

Adjustments to reconcile net income to net cash provided by operating activities:

      

Depreciation and amortization

     3,495,093        —          3,495,093   

Income tax payable

     3,840,809        —          3,840,809   

Provision for doubtful accounts

     4,187,831        —          4,187,831   

Gain on sales of assets

     (11,583     —          (11,583

Gain on extinguishment of liabilities

     (2,903,526     —          (2,903,526

Warrants issuance costs

     —          139,639        139,639   

Direct investor expense

     —          4,701,289        4,701,289   

Change in fair value of derivative liabilities

     —          (916,533     (916,533

Net changes in operating assets and liabilities:

      

Accounts receivable

     (10,450,284     —          (10,450,284

Related party receivables and payables

     (829,058     —          (829,058

Inventories

     29,911        —          29,911   

Prepaid expenses and other assets

     357,749        —          357,749   

Accounts payable, accrued expenses and taxes payable

     (812,429     —          (812,429

Deferred revenues

     (65,922     —          (65,922
  

 

 

   

 

 

   

 

 

 

Net cash provided by operating activities

     2,384,981        —          2,384,981   
  

 

 

   

 

 

   

 

 

 

Cash flows from investing activities:

      

Additions to property, equipment and leasehold improvements

     (1,271,646     —          (1,271,646

Investments in unconsolidated affiliates

     (80,000     —          (80,000
  

 

 

   

 

 

   

 

 

 

Net cash used in investing activities

     (1,351,646     —          (1,351,646
  

 

 

   

 

 

   

 

 

 

Cash flows from financing activities:

      

Redemption of common stock

     —          —          —     

Distribution to noncontrolling interests

     (172,762     —          (172,762

Issuance of common stock

     5,033,333        —          5,033,333   

Issuance of Series C convertible preferred stock, net issuance costs

     2,994,672        —          2,994,672   

Borrowings under notes payable

     2,033,886        —          2,033,886   

Payments on notes payable

     (9,293,686     —          (9,293,686

Borrowings under notes payable to related party

     11,979        —          11,979   

Payments on notes payable to related party

     (118,913     —          (118,913

Payments on capital leases

     (1,466,265     —          (1,466,265

Payments on capital leases obligation to related party

     (117,712     —          (117,712
  

 

 

   

 

 

   

 

 

 

Net cash used in financing activities

     (1,095,468     —          (1,095,468
  

 

 

   

 

 

   

 

 

 

Net decrease in cash and cash equivalents

     (62,133     —          (62,133

Cash and cash equivalents:

      

Beginning of period

     538,018        —          538,018   
  

 

 

   

 

 

   

 

 

 

End of period

   $ 475,885      $ —        $ 475,885   
  

 

 

   

 

 

   

 

 

 

Supplemental disclosures of cash flow information:

      

Interest paid

   $ 3,109,608      $ —        $ 3,109,608   

Income taxes paid

   $ 383,434      $ —        $ 383,434   

Supplemental noncash investing activities:

      

Property and equipment additions financed

   $ 819,236      $ —        $ 819,236   

Supplemental noncash financing activities:

      

Exchange of debt for common stock

   $ —        $ —        $ —     

Issuance of common stock

   $ 710,000      $ —        $ 710,000   

Issuance of common stock to affiliate for termination of service agreement

   $ —        $ —        $ —     

Transfer of related party debt to third party debt

   $ 2,510,836      $ —        $ 2,510,836   

Noncash consideration paid for acquisitions

   $ 7,653,876      $ —        $ 7,653,876   

 

36


Table of Contents

UNIVERSITY GENERAL HEALTH SYSTEM, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

NOTE 17 — SUBSEQUENT EVENTS

On August 01, 2012, the Company announced that it has completed the acquisition of diagnostic imaging, physical therapy and sleep clinics in Kingwood, Texas, a suburb of Houston, for a combination of stock, cash, and the acquisition of debt. The agreement was executed with Management Affiliates of Northeast Houston, LLC, d/b/a UGH Kingwood Diagnostic and Rehabilitation Center, which represents an association of thirteen physicians and primary care practitioners, including physician assistants and nurse practitioners. This acquisition will contribute to the expansion of the Company’s regional network in the north Houston metropolitan area. The Company estimates that the acquired clinics should generate at least $6.5 million in annual net patient revenues, along with a projected yearly EBITDA of $2.6 million. The clinics will become hospital outpatient departments (HOPDs) of the Company’s hospital segment.

 

37


Table of Contents
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Forward Looking Statements

This quarterly report on Form 10-Q contains “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. All statements other than statements of historical facts included in this quarterly report including, without limitation, statements in the Management’s Discussion and Analysis of Financial Condition and Results of Operations included in this quarterly report on Form 10-Q, regarding our financial condition, estimated working capital, business strategy, the plans and objectives of our management for future operations and those statements preceded by, followed by or that otherwise include the words “expects” or “does not expect”, “is expected”, “anticipates” or “does not anticipate”, “plans”, “estimates”, “approximately”, “believes”, “continue”, “forecast”, “ongoing”, “pending”, “potential”, “seeks”, “views”, or “intends”, or stating that certain actions, events or results “may”, “must”, “could”, “would”, “might”, “should” or “will” be taken, occur or be achieved are not statements of historical fact and may be forward-looking statements. Forward-looking statements are subject to a variety of known and unknown risks, uncertainties and other factors which could cause actual events or results to differ from those expressed or implied by the forward-looking statements, including, without limitation:

 

  risks related to environmental laws and regulations and environmental risks;

 

  risks related to changes in and the competitive nature of the healthcare industry;

 

  risks related to stock price and volume volatility;

 

  risks related to our ability to access capital markets;

 

  risks related to our ability to successfully implement our business and acquisition strategies;

 

  risks related to our issuance of additional shares of common stock.

Readers should consider the risks and uncertainties described in our Annual Report on Form 10-K for the year ended December 31, 2011 (“Form 10-K”). Readers should carefully review the Form 10-K in its entirety including, but not limited to, our financial statements and the notes thereto and the risks and uncertainties described in Item 1A—“Risk Factors” of the Form 10-K. Forward-looking statements contained in this Form 10-Q are as of the date of this Form 10-Q. We do not undertake to update its forward-looking statements.

General

University General Health System, Inc. (“we,” “UGHS” or the “Company”) is a diversified, integrated multi-specialty health care provider that delivers concierge physician- and patient-oriented services by providing timely, innovative health solutions that are uniquely competitive, efficient, and adaptive in today’s health care delivery environment. We currently operate one hospital and two ambulatory surgical centers in the Houston area. We also own a revenue management company, a hospitality service provider and facility management company, three senior living facilities and manage six senior living facilities. We plan to complete additional complementary acquisitions during the remainder of 2012 and future years in Houston and other markets.

Our current business was founded in 2005 to establish University General Hospital in Houston, Texas (“UGH”), a 69-bed physician-owned general acute care hospital, including six intensive care unit beds and 11 intermediate care unit beds. The hospital provides inpatient, outpatient and ancillary services including inpatient surgery, outpatient surgery, heart catheterization procedures, physical therapy, diagnostic imaging and respiratory therapy. UGH provides 24-7 emergency services and comprehensive inpatient services including critical care and cardiovascular services. We formed University General Hospital, LP (“UGH LP”) as a Texas limited partnership to own and operate UGH and formed University Hospital Systems, LLP as a Delaware limited liability partnership (“UGH GP”) to act as the general partner of UGH LP. UGH commenced business operations as a general acute care hospital on September 27, 2006.

 

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On March 31, 2011, we formed UGHS Hospitals, Inc., UGHS Ancillary Services, Inc., UGHS Management Services, Inc., and UGHS Real Estate, Inc. Effective June 30, 2011, we completed the acquisitions of the three senior living communities: Trinity Oaks of Pearland, Texas, Trinity Shores of Port Lavaca, Texas, and Trinity Hills of Knoxville, Tennessee. UGHS also acquired 51.0% of the ownership interests of TrinityCare Senior Living, LLC (“TrinityCare”), a developer and manager of senior living communities. As UGHS’ majority-owned subsidiary, TrinityCare continues to manage the three existing senior living communities, and will continue to develop additional communities across the United States and internationally. Additionally, effective June 30, 2011, UGHS acquired specialized health care billing, coding and other revenue cycle management companies, Autimis, LLC, and Autimis Medical Billing, LLC.

On December 31, 2011, we completed the acquisition of Sybaris Group, LLC (“Sybaris”), a luxury hospitality service provider and facility management company. The acquisition of Sybaris will allow us to grow more rapidly and leverage the scalability of our business model. In connection with the acquisition of Sybaris, we changed our Revenue Management operating segment name to Support Services, Inc. (“Support Services”) and additionally Sybaris changed its name to Sybaris Group, Inc. and is included in the Support Services operating segment. We have included the financial results of Sybaris in the consolidated financial statements from the date of acquisition.

As of June 30, 2012, we conducted operations through our wholly-owned subsidiaries, UGHS Hospitals, Inc., UGHS Ancillary Services, Inc., UGHS Management Services, Inc., UGHS Real Estate, Inc., UGHS Senior Living of Pearland, LLC, UGHS Senior Living of Port Lavaca, LLC, UGHS Senior Living of Knoxville, LLC, UGHS Autimis Billing, Inc., UGHS Coding, Inc. and Sybaris Group, Inc.

We made progress on a number of our strategic initiatives during the quarter ended June 30, 2012. On April 13, 2012, through wholly-owned subsidiaries, the Company completed the assets acquisition of Baytown Endoscopy Center, LLC (the “Baytown Center”). The Baytown Center is a three-bed ambulatory surgery center which operates as a hospital outpatient department (HOPD) of the Company’s hospital segment. Primary procedures at the Baytown Center include gastroenterology and pain management. The Baytown Center is co-managed with Jacinto Medical Group, P.A., which is a prominent multi-specialty group of physicians operating in Baytown. The Company expects the Baytown Center to contribute approximately $12 million in net patient revenue, along with projected Earnings before Interest, Tax, Depreciation and Amortization (“EBITDA”) of $5 million, during its first year of operations. The Company paid $161,915 in total consideration for the assets. The transaction was financed primarily with issuing a one-year promissory note payable. The purchase included assets and assumption of certain equipment financing commitments.

Effective April 30, 2012 the Company completed a private placement transaction for the purchase of 35,950,000 shares of its Common Stock at a price of $0.14 per share from a group of accredited investors, resulting in net proceeds to the Company of approximately $5,033,000. The Company used these proceeds to pay tax payments and retired certain outstanding loan balances.

On May 2, 2012 the Company issued 3,808 shares of Series C Variable Rate Convertible Preferred Stock (the “Preferred Shares”) with each Preferred Share initially convertible into approximately 4,545 shares of the Company’s common Stock (the “Conversion Shares”) and warrants to purchase up to an aggregate of 17,307,360 shares of the Company’s Common Stock (the “Warrants”) at a price of $0.26 per share. The Preferred Shares were issued at an aggregate stated value of $1,000 per share with an issue original issue discount of 12%. After deducting for fees and expenses, the aggregate net proceeds from the sale of the Preferred Shares and Warrants was approximately $3.1 million. The Company used these proceeds to pay tax payments and retired certain outstanding loan balances.

On June 1, 2012, the Company completed an asset purchase agreement between the Company and a diagnostic imaging and physical therapy centers that are located in the northern portion of the Houston metropolitan area. The diagnostic imaging and physical therapy centers will each become hospital outpatient departments of the Company’s University General Hospital. A diagnostic imaging and physical therapy centers as a HOPD of University General Hospital doing business under the name of UGH Diagnostic Imaging and UGH Physical Therapy. The total purchase consideration for UGH Diagnostic Imaging and UGH Physical Therapy was $7,460,000, consisting of the issuance by UGHS of 1,865,000 shares (the “Stock Consideration”) of the Company’s Common Stock.

The financial information, discussion and analysis that follow should be read in conjunction with our Consolidated Financial Statements as included in the Form 10-K.

 

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Results of Operations

Three Months Ended June 30, 2012 Compared to Three Months Ended June 30, 2011

The following table contains our consolidated and segments results of operations for the three months ended June 30, 2012 and 2011:

 

    Three Months Ended June 30, (1)        
    2012     2011        
    Amount     % of Revenues     Amount     % of Revenues     Variance  
    (Restated)                          

Revenues

         

Hospital

  $ 26,709,385        91.9   $ 17,887,041        100.0   $ 8,822,344   

Senior living

    1,968,328        6.8        N/A        N/A        1,968,328   

Support services

    395,364        1.4        N/A        N/A        395,364   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total Revenues

    29,073,077        100.0        17,887,041        100.0        11,186,036   

Operating expenses

         

Salaries, wages and benefits

    8,735,661        30.0        6,812,693        38.1        1,922,968   

Medical supplies

    3,859,736        13.3        3,103,206        17.3        756,530   

Management fees (includes related party fees of $0 for each of the three months ended and $0 and $461,814 for the six months ended)

    —          —          1,303,727        7.3        (1,303,727

General and administrative expenses (includes related party expenses of $377,030 and $1,621,953 for the three months ended and $681,643 and $3,369,262 for the six months ended)

    7,667,311        26.4        4,172,194        23.3        3,495,117   

Gain on extinguishment of liabilities

    (2,806,787     (9.7     (160,979     (0.9     (2,645,808

Depreciation and amortization (includes related party expenses of $171,290 for each of the three months ended and $342,580 for each of the six months ended)

    1,769,920        6.1        1,757,509        9.8        12,411   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

    19,225,841        66.1        16,988,350        95.0       
2,237,491
  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating income

    9,847,236        33.9        898,691        5.0        8,948,545   

Other expense

         

Interest expense, net of interest income of $20,000 and $0 for the three months ended and $40,000 and $0 for the six months ended (includes related party interest expense $583,715 and $631,493 for the three months ended and $1,162,750 and $1,288,381 for the six months ended)

    (1,385,335     (4.8     (1,045,427     (5.8     (339,908

Other income

    (139,639     (0.5     —          —          (139,639

Direct investor expense

    (4,701,289     (16.2     —          —          (4,701,289

Change in fair market value of derivatives

    916,533        3.2        —          —          916,533   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income (loss) before income tax

    4,537,506        15.6        (146,736     (0.8     4,684,242   

Income tax expense

    3,407,131        11.7        81,000        0.5        3,326,131   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income (loss) before noncontrolling interest

    1,130,375        3.9        (227,736     (1.3     1,358,111   

Net income attributable to noncontrolling interests

    30,018        0.1        —          —          30,018   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income (loss) attributable to the Company

  $ 1,160,393        4.0   $ (227,736     (1.3 )%    $ 1,388,129   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Less: Cash dividend-Convertible Preferred C Stock

    (50,773     (0.2     —          —          (50,773

Less: Accretion of non-cash dividend-Convertible Preferred C Stock

    (91,408     (0.3     —          —          (91,408
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income (loss) attributable to common shareholders

  $ 1,018,212        3.5   $ (227,736     (1.3 )%    $ 1,245,948   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

(1) Percentages may not foot due to rounding.

Consolidated Results of Operations

Our revenues for the three months ended June 30, 2012 increased $11.2 million, or 62.6%, to $29.1 million as compared to $17.9 million for the three months ended June 30, 2011. The revenues increase was primarily attributable to a 12.2% increase in our average daily census. The average daily census for the three months ended June 30, 2012 was 37 as compared to 33 for the three months ended June 30, 2011. In addition, the adjusted patient days increased by 103 days compared to the prior quarter of last year. This increase in net patient revenues was also driven by the continued development of the physician-centric, integrated health delivery system strategy. The acquisitions of TrinityCare, Autimis and Sybaris contributed to additional revenues of approximately $2.4 million and the acquisitions of Baytown and UGH digital imaging and physical therapy centers contributed to additional revenues of $2.3 million for the three months ended June 30, 2012.

Salaries, wages and benefits for the three months ended June 30, 2012 increased approximately $1.9 million, or 27.9%, to $8.7 million from $6.8 million for the three months ended June 30, 2011. As a percentage of revenues, salaries, wages and benefits decreased to 30.0% in the three months ended June 30, 2012 from 38.1% in the three months ended June 30, 2011. The decrease in the salaries, wages and benefits rate was primarily due to improved leveraging of expenses from higher revenues, offset by the increase in acquisitions of TrinityCare, Autimis and Sybaris of approximately $2.1 million.

 

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Medical supplies expense for the three months ended June 30, 2012 increased approximately $0.8 million, or 25.8%, to $3.9 million from $3.1 million for the three months ended June 30, 2011. On an adjusted patient day (“APD”) basis, medical expenses for the three months ended June 30, 2012 increased approximately by 22.3% or $681 per APD from $557 per APD for the three months ended June 30, 2011. As a percentage of revenues, our medical supplies expense decreased to 13.3% in the three months ended June 30, 2012 as compared to 17.3% in the three months ended June 30, 2011. Medical supplies rate decreased in the three months ended June 30, 2012 due to an increase in net revenues.

We have terminated all of our remaining management services agreements during the first quarter of 2012. Management fees for the three months ended June 30, 2011 was $1.3 million.

General and administrative (“G&A”) expenses for the three months ended June 30, 2012 increased approximately $3.5 million, or 83.3%, to $7.7 million from $4.2 million for the three months ended June 30, 2011. The increase in G&A expenses was primarily comprised of legal fees, contract services, professional fees, repairs and maintenance, penalties and marketing fees of approximately $3.5 million. As a percentage of revenues, G&A expenses increased to 26.4% in the three months ended June 30, 2012 from 23.3% in the three months ended June 30, 2011.

During the three months ended June 30, 2011, we settled certain accounts payable with vendors, and reduced the accounts payable owed to those vendors. For the three months ended June 30, 2011, we recognized a gain on extinguishment of liabilities of approximately $0.2 million. In addition, in connection with the cancellation of obligations with a debt holder during the three months ended June 30, 2012, the Company recognized a gain of $2.8 million representing the portion of principal balance, accrued interest, taxes and penalties due on a master equipment lease agreement and two promissory notes that have been extinguished in accordance with the statute of limitations.

Depreciation and amortization expense remained consistent to $1.8 million for the three months ended June 30, 2012 compared to $1.8 million for the three months ended June 30, 2011, as a result of some assets being fully depreciated in the current quarter as compared to prior quarter, offset by an increase of approximately $0.3 million in the acquisitions of TrinityCare, Autimis and Sybaris.

Net interest expense was $1.4 million during the three months ended June 30, 2012 as compared to $1.0 million during the three months ended June 30, 2011. Interest expense is primarily comprised of interest on borrowings under the lines of credit, amortization of debt issue costs, interest on financing lease obligations, related party notes and debt obligations. The increase in interest expense in the second quarter of 2012, as compared to the prior year second quarter, was attributable to an increase in our outstanding debt balance and debt assumed from the acquisition of TrinityCare and Sybaris.

As fully described in Notes 10 and 11, the Company issued preferred stock and the related warrants, which do not have readily determinable fair values and therefore require significant management judgment and estimation. The Company uses the Binomial pricing model to estimate the fair value of warrants and preferred stock conversion features at the end of each applicable reporting period. Changes in the fair value of these derivatives during each reporting period are included in the statements of income. As a result, the total direct investor expense and change in fair value of derivatives was approximately $4.7 million and $0.9 million for the three months ended June 30, 2012, respectively.

We are subject to a tax mandated by the State of Texas based on a defined calculation of gross margin (the “margin tax”). The margin tax is calculated by applying a tax rate to a base that considers both revenue and expenses and therefore has the characteristics of an income tax. As a result, we recorded $0.2 million and $0.1 million in state income tax expense for the three months ended June 30, 2012 and 2011, respectively.

The Company’s effective tax rate for the current year second quarter was 75.1%, resulting in estimated income tax expense of $3.4 million. In addition, the effective tax rate increase was primarily due to differences in book and tax accounting for the Company’s derivative. The Company had net operating loss carryforwards for income tax purposes for the prior year second quarter.

As a result of the foregoing, our net income attributable to the Company was $1.2 million for the three months ended June 30, 2012 as compared to a net loss of $0.2 million for the three months ended June 30, 2011.

 

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Segment Results of Operations

Hospital

Our revenues for the three months ended June 30, 2012 increased by $8.8 million, or 49.2%, to $26.7 million as compared to $17.9 million for the three months ended June 30, 2011. The revenues increase was primarily attributable to a 12.2% increase in our average daily census. The average daily census for the three months ended June 30, 2012 was 37 as compared to 33 for the three months ended June 30, 2011. In addition, the adjusted patient days increased by 103 days compared to the prior quarter of last year. This increase in net patient revenues was also driven by the continued development of the physician-centric, integrated health delivery system strategy. The acquisitions of Baytown and UGH digital imaging and physical therapy centers contributed to additional revenues of $2.3 million for the three months ended June 30, 2012.

Our provision for doubtful accounts during the three months ended June 30, 2012 increased $2.5 million to 9.5% of net revenue before the provision for doubtful accounts as compared to 1.8% of net revenue before the provision for doubtful accounts during the three months ended June 30, 2011. This change was primarily due to an increase in self-pay patients in the mix of patients that we serve.

We adopted the provisions of Accounting Standards Update No. 2011-07, Presentation and Disclosure of Patient Service Revenue, Provision for Bad Debts, and the Allowance for Doubtful Accounts for Certain Health Care Entities (“ASU 2011-07”), during the period ended March 31, 2012. ASU 2011-07 requires health care entities to change the presentation of the statement of operations by reclassifying the provision for doubtful accounts from an operating expense to a deduction from patient service revenues. All periods presented have been reclassified in accordance with ASU 2011-07.

Our day’s revenues outstanding were 58 days at June 30, 2012 as compared to 59 days at December 31, 2011. To calculate our day’s revenues outstanding, we divide our average accounts receivable net of allowance for doubtful accounts by our net revenues per day. Our net revenues per day is calculated by dividing our revenues for the periods by the number of calendar days in the periods.

Salaries, wages and benefits for the three months ended June 30, 2012 decreased approximately $0.1 million, or 1.5%, to $6.7 million from $6.8 million for the three months ended June 30, 2011, even though we acquired three additional locations, Baytown, UGH Digital Imaging and UGH Physical Therapy, in the current year. As a percentage of revenues, salaries, wages and benefits decreased to 25.1% in the three months ended June 30, 2012 from 38.1% in the three months ended June 30, 2011. The decrease in the salaries, wages and benefits rate was primarily due to improved leveraging of expenses from higher revenues as compared to the three months ended June 30, 2011.

Medical supplies expense for the three months ended June 30, 2012 increased approximately $0.8 million, or 25.8%, to $3.9 million from $3.1 million for the three months ended June 30, 2011. On an adjusted patient day (“APD”) basis, medical expenses for the three months ended June 30, 2012 increased approximately by 22.3% or $681 per APD from $557 per APD for the three months ended June 30, 2011. As a percentage of revenues, our medical supplies expense decreased to 14.6% in the three months ended June 30, 2012 as compared to 17.3% in the three months ended June 30, 2011. Medical supplies rate decreased in the three months ended June 30, 2012 due to an increase in net revenues.

We have terminated all of our remaining management services agreements during the first quarter of 2012. Management fees for the three months ended June 30, 2011 was $1.3 million.

General and administrative expenses for the three months ended June 30, 2012 increased approximately $3.8 million, or 90.5%, to $8.0 million from $4.2 million for the three months ended June 30, 2011. The increase in G&A expenses was primarily comprised of legal fees, contract services, professional fees, repairs and maintenance, penalties and marketing fees of approximately $3.5 million. As a percentage of revenues, G&A expenses increased to 30.0% in the three months ended June 30, 2012 from 23.3% in the three months ended June 30, 2011 due to increased net revenues.

Depreciation and amortization expense for the three months ended June 30, 2012 decreased by $0.5 million, or 27.8%, to $1.3 million as compared to $1.8 million for the three months ended June 30, 2011. The decrease in depreciation and amortization expense resulted from assets being fully depreciated in the current year first quarter as compared to the prior year period.

 

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Net interest expense was $1.1 million in current year second quarter as compared to $1.0 million in the prior year second quarter. Interest expense is primarily comprised of interest on borrowings under the lines of credit, amortization of debt issue costs, interest on financing lease obligations, related party notes and debt obligations. The increase in interest expense was due to a higher average outstanding amount on notes during the current year second quarter.

Operating income of the hospital segment was approximately $9.7 million for the current year second quarter, as compared to the operating income of $0.9 million for the year prior year second quarter. The increase in operating income was due to improved leveraging of expenses from significant increase in revenues. In addition, the increase in net operating expense was driven by increase in G&A expenses and medical supplies, offset by no management fees incurred and additional gain on extinguishment of liabilities in this period as compared to the prior year period.

Senior Living

Senior living net revenues for the three months ended June 30, 2012 were approximately $2.0 million. This reflects average revenue per unit occupied of $3,043. This is a blended rate of assisted living dominant facilities which includes independent living and memory care units. The senior living properties reported continued stable occupancy, with an overall occupancy in excess of 91.7% for the three months ended June 30 2012. Overall occupancy and revenues were not negatively impacted by the significant downturn in the macroeconomic environment, including the high unemployment levels and poor housing markets which affect private pay occupancy.

For the three months ended June 30, 2012, salaries and benefit expense was $0.7 million, G&A expense was $0.7 million, depreciation and amortization was $0.3 million and interest expense was $0.3 million. The income from operations was approximately $0.3 million.

Support Services

Support services segment revenues for the three months ended June 30, 2012 were approximately $0.4 million. The net operating expense was $0.5 million for the three months ended June 30, 2012.

 

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Six Months Ended June 30, 2012 Compared to Six Months Ended June 30, 2011

The following table contains our consolidated and segments results of operations for the six months ended June 30, 2012 and 2011:

 

    Six Months Ended June 30, (1)        
    2012     2011        
    Amount     % of Revenues     Amount     % of Revenues     Variance  
    (Restated)                          

Revenues

         

Hospital

  $ 43,394,503        90.1   $ 33,336,256        100.0   $ 10,058,247   

Senior living

    3,886,565        8.1        N/A        N/A        3,886,565   

Support services

    879,064        1.8        N/A        N/A        879,064   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total Revenues

    48,160,132        100.0        33,336,256        100.0        14,823,876   

Operating expenses

         

Salaries, wages and benefits

    17,017,652        35.3        12,947,409        38.8        4,070,243   

Medical supplies

    6,791,861        14.1        6,263,841        18.8        528,020   

Management fees (includes related party fees of $0 for each of the three months ended and $0 and $461,814 for the six months ended)

    —          —          2,693,382        8.1        (2,693,382

General and administrative expenses (includes related party expenses of $377,030 and $1,621,953 for the three months ended and $681,643 and $3,369,262 for the six months ended)

    11,894,814        24.7        7,656,234        23.0        4,238,580   

Gain on extinguishment of liabilities

    (2,903,526     (6.0     (1,464,345     (4.4     (1,439,181

Depreciation and amortization (includes related party expenses of $171,290 for each of the three months ended and $342,580 for each of the six months ended)

    3,495,093        7.3        3,520,116        10.6        (25,023
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

    36,295,894        75.4        31,616,637        94.8        4,679,257   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating income

    11,864,238        24.6        1,719,619        5.2        10,144,619   

Other income (expense)

         

Interest expense, net of interest income of $20,000 and $0 for the three months ended and $40,000 and $0 for the six months ended (includes related party interest expense $583,715 and $631,493 for the three months ended and $1,162,750 and $1,288,381 for the six months ended)

    (2,823,300     (5.9     (2,225,123     (6.7     (598,177

Other income

    (128,056     (0.3     —          —          (128,056

Direct investor expense

    (4,701,289     (9.8     —          —          (4,701,289

Change in fair market value of derivatives

    916,533        1.9        —          —          916,533   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income (loss) before income tax

    5,128,126        10.6        (505,504     (1.5     5,633,630   

Income tax expense

    3,506,131        7.3        162,000        0.5        3,344,131   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income (loss) before noncontrolling interest

    1,621,995        3.4        (667,504     (2.0     2,289,499   

Net income attributable to noncontrolling interests

    27,835        0.1        —          —          27,835   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income (loss) attributable to the Company

  $ 1,649,830        3.4   $ (667,504     (2.0 )%    $ 2,317,334   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Less: Cash dividend-Convertible Preferred C Stock

    (50,773     (0.1     —          —          (50,773

Less: Accretion of non-cash dividend-Convertible Preferred C Stock

    (91,408     (0.2     —          —          (91,408
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income (loss) attributable to common shareholders

  $ 1,507,649        3.1   $ (667,504     (2.0 )%    $ 2,175,153   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

 

(1) Percentages may not foot due to rounding.

Consolidated Results of Operations

Our revenues for the six months ended June 30, 2012 increased $14.8 million, or 44.4%, to $48.1 million as compared to $33.3 million for the six months ended June 30, 2011. The revenues increase was primarily attributable to a 6.1% increase in our average daily census. The average daily census for the six months ended June 30, 2012 was 35 as compared to 33 for the six months ended June 30, 2011. In addition, the adjusted patient days increased by 1,244 days compared to the six months ended of prior year. This increase in net patient revenues was also driven by the continued development of the physician-centric, integrated health delivery system strategy. The acquisitions of TrinityCare, Autimis and Sybaris contributed to additional revenues of approximately $4.8 million and the acquisitions of Baytown and UGH digital imaging and physical therapy centers contributed to additional revenues of $2.3 million for the six months ended June 30, 2012.

Salaries, wages and benefits for the six months ended June 30, 2012 increased approximately $4.1 million, or 31.8%, to $17.0 million from $12.9 million for the six months ended June 30, 2011. As a percentage of revenues, salaries, wages and benefits decreased to 35.3% in the six months ended June 30, 2012 from 38.8% in the six months ended June 30, 2011. The decrease in the salaries, wages and benefits rate was primarily due to improved leveraging of expenses from higher revenues as compared to the six months ended June 30, 2011, offset by an increase in the acquisitions of TrinityCare, Autimis and Sybaris of approximately $4.1 million.

 

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Medical supplies expense for the six months ended June 30, 2012 increased approximately $0.5 million, or 8.0%, to $6.8 million from $6.3 million for the six months ended June 30, 2011. On an adjusted patient day (“APD”) basis, medical expenses for the six months ended June 30, 2012 decreased approximately by 3.2% or $580 per APD from $599 per APD for the six months ended June 30, 2011. As a percentage of revenues, our medical supplies expense decreased to 14.1% in the six months ended June 30, 2012 as compared to 18.8% in the six months ended June 30, 2011. Medical supplies rate decreased in the six months ended June 30, 2012 due to an increase in net revenues.

We have terminated all of our remaining management services agreements during the first quarter of 2012. Management fees for the six months ended June 30, 2011 was $2.7 million.

General and administrative (“G&A”) expenses for the six months ended June 30, 2012 increased approximately $4.2 million, or 54.5%, to $11.9 million from $7.7 million for the six months ended June 30, 2011. The increase in G&A expenses was primarily comprised of legal fees, contract services, professional fees, repairs and maintenance, penalties, and marketing fees of approximately $3.5 million. As a percentage of revenues, G&A expenses increased to 24.7% in the six months ended June 30, 2012 from 23.0% in the six months ended June 30, 2011.

During the six months ended June 30, 2012 and 2011, we settled certain accounts payable with vendors, and reduced the accounts payable owed to those vendors. For the six months ended June 30, 2012 and 2011, we recognized a gain on extinguishment of liabilities of $0.1 million and $1.5 million, respectively. In addition, during the six months ended June 30, 2012, in connection with the cancellation of obligations with a debt holder, the Company recognized a gain of $2.8 million representing the portion of principal balance, accrued interest, taxes and penalties due on a master equipment lease agreement and two promissory notes that have been extinguished in accordance with the statute of limitations.

Depreciation and amortization expense remained consistent to $3.5 million for the six months ended June 30, 2012 compared to $3.5 million the six months ended June 30, 2011, as a result of some assets being fully depr