10-Q/A 1 d515026d10qa.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. 1)

 

 

 

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

For the quarterly period ended September 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 November 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. 1)

For the Quarterly Period Ended September 30, 2012

EXPLANATORY NOTE

We are filing this Amendment No. 1 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 September 30, 2012 as originally filed with the Securities and Exchange Commission on November 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 September 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 rachet” 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 decreased originally reported assets by $0.3 million and mezzanine equity by $0.6 million, and increased originally reported shareholders’ equity by $0.3 million at September 30, 2012. In addition, other expense increased by $0.3 million, direct investor expense increased by $0.9 million, derivative expense decreased by $0.6 million, and net income attributable to the Company decreased by $0.6 million for the three months ended September 30, 2012. For the nine months ended September 30, 2012, other expense increased by $0.4 million, direct investor expense increased by $5.5 million, derivative expense decreased by $1.7 million and net income attributable to the Company decreased by $4.2 million. Basic and diluted earnings per share remained unchanged at $0.01 for both the three and nine months ended September 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. 1 have been restated accordingly. The public should no longer rely on our previously filed financial statements for the three and nine months ended September 30, 2012. These matters have been discussed by our authorized executive officers and with our former independent registered certified public accounting firm.

 

2


Table of Contents

TABLE OF CONTENTS

 

 

     Page No.  

PART I FINANCIAL INFORMATION

  

Item 1. Financial Statements

     4   

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

     4   

Consolidated Statements of Income For the three and nine months ended September 30, 2012 and 2011 (Restated and Unaudited)

     5   

Consolidated Statements of Cash Flows For the nine months ended September 30, 2012 and 2011 (Restated and 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

     51   

Item 4. Controls and Procedures

     51   

PART II OTHER INFORMATION

  

Item 1. Legal Proceedings

     51   

Item 1A. Risk Factors

     53   

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

     53   

Item 3. Defaults Upon Senior Securities

     53   

Item 4. Mine Safety Disclosures

     53   

Item 5. Other Information

     53   

Item 6. Exhibits

     54   

SIGNATURES

     55   

 

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Table of Contents

PART I—FINANCIAL INFORMATION

 

ITEM 1. FINANCIAL STATEMENTS

UNIVERSITY GENERAL HEALTH SYSTEM, INC.

CONSOLIDATED BALANCE SHEETS

 

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

Current Assets

    

Cash and cash equivalents

   $ 5,342,072      $ 538,018   

Accounts receivable, less allowance for doubtful accounts of $13,692,865 and $7,070,327

     23,442,899        10,913,361   

Inventories

     1,493,096        1,908,177   

Receivables from related parties

     —          658,764   

Prepaid expenses and other assets

     3,913,142        1,275,104   
  

 

 

   

 

 

 

Total Current Assets

     34,191,209        15,293,424   

Long-Term Assets

    

Investments in unconsolidated affiliates

     847,323        687,323   

Property, equipment and leasehold improvements, net

     67,993,247        66,437,316   

Intangible assets, net

     6,282,500        7,649,000   

Goodwill

     28,974,185        22,199,874   

Other non-current assets, net

     2,135,581        2,234,985   
  

 

 

   

 

 

 

Total Long-Term Assets

     106,232,836        99,208,498   
  

 

 

   

 

 

 

Total Assets

   $ 140,424,045      $ 114,501,922   
  

 

 

   

 

 

 
LIABILITIES AND SHAREHOLDERS’ EQUITY (DEFICIT)     

Current Liabilities

    

Accounts payable

   $ 10,032,820      $ 11,874,720   

Payables to related parties

     2,155,945        2,493,088   

Accrued expenses

     4,226,512        7,516,940   

Accrued acquisition cost

     521,401        1,007,380   

Taxes payable

     3,640,381        4,171,826   

Income tax payable

     6,112,440        —     

Deferred revenue

     264,705        314,876   

Lines of credit

     —          8,451,025   

Notes payable, current portion

     21,483,002        28,982,331   

Notes payable to related parties, current portion

     2,170,143        2,798,783   

Capital lease obligations, current portion

     2,491,850        5,943,685   

Capital lease obligations to related party, current portion

     257,713        239,409   

Derivative liability

     10,569,206        —     
  

 

 

   

 

 

 

Total Current Liabilities

     63,926,118        73,794,063   

Long-Term Liabilities

    

Lines of credit, less current portion

     12,269,000        —     

Notes payable, less current portion

     21,342,197        8,459,474   

Notes payable to related parties, less current portion

     —          1,983,514   

Capital lease obligations, less current portion

     240,945        34,893   

Capital lease obligations to related party, less current portion

     30,609,920        30,803,450   
  

 

 

   

 

 

 

Total Long-Term Liabilities

     64,462,062        41,281,331   

Total Liabilities

     128,388,180        115,075,394   

Commitments and contingencies

    

Series C, convertible preferred stock, $0.001 par value, 20,000,000 shares authorized, 4,200 and 0 shares issued and outstanding, respectively ($1,000 stated value)

     3,220,983        —     

Shareholders’ Equity and (Deficit)

    

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

     3        3   

Common stock, par value $0.001, 480,000,000 shares authorized, 325,654,031 and 283,440,226 shares issued and outstanding

     325,653        283,440   

Additional paid-in-capital

     55,494,013        49,078,223   

Shareholders’ receivables

     (2,429,069     (2,219,068

Accumulated deficit

     (49,668,713     (53,049,030
  

 

 

   

 

 

 

Total shareholders’ equity (deficit)

     3,721,887        (5,906,432

Noncontrolling interest

     5,092,995        5,332,960   
  

 

 

   

 

 

 

Total equity (deficit)

     8,814,882        (573,472
  

 

 

   

 

 

 

Total Liabilities and Shareholders’ Equity

   $ 140,424,045      $ 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 INCOME

(Unaudited)

 

     Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
     2012     2011     2012     2011  
     (Restated)           (Restated)        

Revenues

        

Patient service revenues, net of contractual adjustments

   $ 35,351,438      $ 18,966,579      $ 82,675,939      $ 52,919,032   

Provision for doubtful accounts

     (3,494,644     (369,469     (7,682,475     (994,619
  

 

 

   

 

 

   

 

 

   

 

 

 

Net patient service revenue less provision for bad debts

     31,856,794        18,597,110        74,993,464        51,924,413   

Senior living revenues

     1,969,785        1,723,571        5,746,643        1,723,571   

Support services revenues

     702,542        168,279        1,581,606        168,279   

Other revenues

     1,491,270        161,996        1,858,810        170,949   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total revenues

     36,020,391        20,650,956        84,180,523        53,987,212   

Operating expenses

        

Salaries, wages and benefits

     10,448,799        8,263,837        27,466,450        21,211,247   

Medical supplies

     4,820,777        3,399,612        11,612,638        9,663,453   

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

     —          1,412,385        —          4,105,767   

General and administrative expenses (includes related party expenses of $372,697 and $1,434,662 for the three months ended and $1,054,340 and $4,129,789 for the nine months ended)

     7,222,741        4,886,019        19,117,554        12,542,252   

Gain on extinguishment of liabilities

     (618,353     (1,947,134     (3,521,879     (3,411,479

Depreciation and amortization (includes related party expenses of $171,290 for each of the three months ended and $513,870 for each of the nine months ended)

     2,443,747        2,104,016        5,938,840        5,624,132   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

     24,317,711        18,118,735        60,613,603        49,735,372   
  

 

 

   

 

 

   

 

 

   

 

 

 

Operating income

     11,702,680        2,532,221        23,566,920        4,251,840   

Other income (expense)

        

Interest expense, net of interest income of $20,000 each of the three months ended and $60,000 each for the nine months ended (includes related party interest expense $571,394 and $641,293 for the three months ended and $1,734,144 and $1,815,568 for the nine months ended)

     (1,363,821     (1,349,023     (4,187,121     (3,574,146

Other income

     (252,970     —          (381,026     —     

Direct investor expense

     (857,674       (5,558,963  

Change in fair market value of derivatives

     (5,173,513     —          (4,256,980     —     
  

 

 

   

 

 

   

 

 

   

 

 

 

Income before income tax

     4,054,702        1,183,198        9,182,830        677,694   

Income tax expense

     2,271,631        99,000        5,777,762        261,000   
  

 

 

   

 

 

   

 

 

   

 

 

 

Income before noncontrolling interest

     1,783,071        1,084,198        3,405,068        416,694   

Net income (loss) attributable to noncontrolling interests

     212,131        (38,748     239,966        (38,748
  

 

 

   

 

 

   

 

 

   

 

 

 

Net income attributable to the Company

   $ 1,995,202      $ 1,045,450      $ 3,645,034      $ 377,946   
  

 

 

   

 

 

   

 

 

   

 

 

 

Less: Cash dividend-Convertible Preferred C Stock

     (53,387     —          (53,387     —     

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

     (145,562     —          (236,879     —     
  

 

 

   

 

 

   

 

 

   

 

 

 

Net income attributable to common shareholders

   $ 1,796,253      $ 1,045,450      $ 3,354,768      $ 377,946   
  

 

 

   

 

 

   

 

 

   

 

 

 

Basic and diluted income per share data:

        

Basic earnings per common share

   $ 0.01      $ 0.00      $ 0.01      $ 0.00   
  

 

 

   

 

 

   

 

 

   

 

 

 

Basic weighted average shares outstanding

     325,144,781        276,379,591        306,101,581        235,075,067   
  

 

 

   

 

 

   

 

 

   

 

 

 

Diluted earnings per common share

   $ 0.01      $ 0.00      $ 0.01      $ 0.00   
  

 

 

   

 

 

   

 

 

   

 

 

 

Diluted weighted average shares outstanding

     346,557,557        276,379,591        325,967,397        235,075,067   
  

 

 

   

 

 

   

 

 

   

 

 

 

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)

 

     Nine Months Ended
September 30,
 
     2012     2011  
     (Restated)        

Cash flows from operating activities:

  

 

Net income

   $ 3,405,068      $ 416,694   

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

    

Depreciation and amortization

     5,938,840        5,624,132   

Provision for doubtful accounts

     7,682,475        994,619   

Gain on sales of assets

     (11,583     —     

Gain on extinguishment of liabilities

     (3,521,879     (3,411,479

Warrants issuance costs

     392,609        —     

Direct investor expense

     5,558,963        —     

Change in fair market value of derivatives

     4,256,980        —     

Net changes in operating assets and liabilities:

    

Accounts receivable

     (20,212,013     (5,390,952

Related party receivables and payables

     321,621        222,513   

Inventories

     415,081        (304,352

Prepaid expenses and other assets

     (2,033,897     (46,793

Accounts payable, accrued expenses and taxes payable

     2,750,062        (1,465,474

Deferred revenues

     (50,171     133,940   
  

 

 

   

 

 

 

Net cash provided by (used in) operating activities

     4,892,156        (3,227,152
  

 

 

   

 

 

 

Cash flows from investing activities:

    

Additions to property, equipment and leasehold improvements

     (2,009,359     (598,960

Cash (used in) acquired in connection with acquisition

     (222,594     397,755   

Investments in unconsolidated affiliates

     (160,000     (115,000
  

 

 

   

 

 

 

Net cash used in investing activities

     (2,391,953     (316,205
  

 

 

   

 

 

 

Cash flows from financing activities:

    

Redemption of common stock

     —          (50,000

Distribution to noncontrolling interests

     (172,762     —     

Issuance of common stock

     5,195,827        7,120,000   

Cash dividends paid

     (76,160     (3,496

Issuance of Series C convertible preferred stock, net issuance costs

     3,344,669        —     

Proceeds from revolving credit facility borrowings

     12,269,000        —     

Payments of revolving credit facility borrowings

     (8,451,025     —     

Borrowings under notes payable

     8,122,781        3,500   

Payments on notes payable

     (13,155,873     (3,481,189

Payment on debt issuance costs

     (798,251     —     

Borrowings under notes payable to related party

     43,685        3,944,633   

Payments on notes payable to related party

     (145,003     (1,848,396

Payments on capital leases

     (3,697,810     (3,733,632

Payments on capital leases obligation to related party

     (175,227     (76,858
  

 

 

   

 

 

 

Net cash provided by financing activities

     2,303,851        1,874,562   
  

 

 

   

 

 

 

Net increase (decrease) in cash and cash equivalents

     4,804,054        (1,668,795

Cash and cash equivalents:

    

Beginning of period

     538,018        2,291,754   
  

 

 

   

 

 

 

End of period

   $ 5,342,072      $ 622,959   
  

 

 

   

 

 

 

Supplemental disclosures of cash flow information:

    

Interest paid

   $ 4,690,494      $ 1,360,017   

Income taxes paid

   $ 383,434      $ 5,443,470   

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

   $ 670,000      $ 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

   $ 7,789,624      $ 24,753,735   

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

 

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Table of Contents
Notes to Consolidated Financial Statements

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 September 30, 2012, Consolidated Statements of Income and Consolidated Statements of Cash Flows for the three and nine months ended September 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 nine months ended September 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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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 Note 10, 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 September 30, 2012 consisted of an aggregate of 19,090,909 shares of Preferred C convertible stock and 20,696,727 shares of stock purchase warrants and nil at September 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. Accounts receivable from Aetna OON (“Aetna”) accounted for approximately 11.1% of net accounts receivable during the current year and is included in our Hospital segment. 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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Accounts receivables are stated at estimated net realizable value. The breakdown of accounts receivable by payer classification as of September 30, 2012 and December 31, 2011 consists of the following:

 

     September 30, 2012     December 31, 2011  

Commercial and managed care providers

     73.0     54.3

Government-related programs

     21.1     34.5

Self-pay patients

     5.9     11.2
  

 

 

   

 

 

 

Total

     100.0     100.0
  

 

 

   

 

 

 

Accounts receivable are based on gross patient receivables of $89,747,992 and $45,726,222, net of contractual adjustments of $53,013,727 and $27,909,614 as of September 30, 2012 and December 31, 2011, respectively. Additionally, the Company had other accounts receivable of $401,499 and $167,080 as of September 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 $13,692,865 and $7,070,327 as of September 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 Income 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 September 30, 2012 from its estimated reimbursement percentage, net revenues for the three and nine months ended September 30, 2012 would have changed by approximately $1.3 million and $3.1 million, and net accounts receivable at September 30, 2012 would have changed by approximately $0.2 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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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 nine months ended September 30, 2012 and 2011 is as follows:

 

     Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
     2012     2011     2012     2011  

Gross patient service revenues

   $ 136,573,174      $ 77,559,961      $ 333,055,886      $ 210,384,636   

Less estimated contractual adjustments and discounts

     (101,221,736     (58,593,382     (250,379,947     (157,465,604
  

 

 

   

 

 

   

 

 

   

 

 

 

Revenues before provision for doubtful accounts

   $ 35,351,438      $ 18,966,579      $ 82,675,939      $ 52,919,032   

Provision for doubtful accounts

     (3,494,644     (369,469     (7,682,475     (994,619
  

 

 

   

 

 

   

 

 

   

 

 

 

Net patient service revenues

   $ 31,856,794      $ 18,597,110      $ 74,993,464      $ 51,924,413   
  

 

 

   

 

 

   

 

 

   

 

 

 

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 September 30, (1)  
     2012     Ratio     2011     Ratio  

Commercial and managed care providers

   $ 25,665,675        80.6   $ 11,913,346        64.1

Government-related programs

     9,416,124        29.6        6,449,198        34.7   

Self-pay patients

     269,639        0.8        604,035        3.2   
  

 

 

   

 

 

   

 

 

   

 

 

 

Revenues before provision for doubtful accounts

     35,351,438        111.0        18,966,579        102.0   

Provision for doubtful accounts

     (3,494,644     (11.0     (369,469     (2.0
  

 

 

   

 

 

   

 

 

   

 

 

 

Net patient service revenue less provision for bad debts

   $ 31,856,794        100.0   $ 18,597,110        100.0
  

 

 

   

 

 

   

 

 

   

 

 

 
     Nine Months Ended September 30, (1)  
     2012     Ratio     2011     Ratio  

Commercial and managed care providers

   $ 53,807,496        71.7   $ 32,392,770        62.4

Government-related programs

     24,155,909        32.2        18,362,020        35.4   

Self-pay patients

     4,712,534        6.3        2,164,242        4.1   
  

 

 

   

 

 

   

 

 

   

 

 

 

Revenues before provision for doubtful accounts

     82,675,939        110.2        52,919,032        101.9   

Provision for doubtful accounts

     (7,682,475     (10.2     (994,619     (1.9
  

 

 

   

 

 

   

 

 

   

 

 

 

Net patient revenue less provision for bad debts

   $ 74,993,464        100.0   $ 51,924,413        100.0
  

 

 

   

 

 

   

 

 

   

 

 

 

 

(1) Percentages may not foot due to rounding.

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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The UGHS Senior Living 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 UGHS Senior Living 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 UGHS Senior Living 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 UGHS Senior Living 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 income 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 income 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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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 November 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 KW Physical Therapy, UGH KW Imaging and UGH KW Sleep Center.

 

   

Robert Horry Center as an HOPD of University General Hospital doing business under the name of UGH Robert Horry Center for Sports and Physical Rehabilitation.

 

   

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.

 

   

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.

 

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As of September 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 $3,645,034 and net cash provided by operating activities of $4,892,156 for the nine months ended September 30, 2012 as compared to net cash used in operating activities by $3,227,152 for the analogous period of 2011. However, the Company had negative working capital of $29,734,909 at September 30, 2012 as compared to $58,500,639 as of December 31, 2011, which is an improvement of $28,765,730. Cash and cash equivalents were $5,342,072 at September 30, 2012 as compared to $538,018 at December 31, 2011. 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. However, management believes that the Company’s current level of cash flows will be sufficient to sustain operations in the next twelve months.

On September 28, 2012, the Company entered into a secured revolving credit facility with MidCap Financial, LLC (the “Revolving Credit Facility”) for a maximum principal amount at any time outstanding of up to $15,000,000 subject to a possible increase up to $25,000,000 and a secured term loan of $4,000,000. The Company accessed approximately $12,300,000 of the $15,000,000 available line of credit and available proceeds from the $4,000,000 term note. The Company used the proceeds to retire $9,000,000 of UGH’s and UHS’s outstanding indebtedness with Amegy Bank, pay the remaining payroll tax delinquencies of approximately $3,600,000 to the Internal Revenue Service and pay the $2,125,000 installment due September 28, 2012 for the settlement of UGH’s Equipment Lease with Regions Bank.

On August 30, 2012, the Company completed the refinancing of mortgage notes of two UGHS senior living facilities, Trinity Hills and Trinity Shores. The Company refinanced with its existing lenders for an additional eighteen months. The Company has engaged Lancaster Pollard Mortgage Company to refinance these two mortgage notes using the United States Department of Housing and Urban Development (“HUD”) Section 232 for terms up to 35 years.

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 and institutions, resulting in net proceeds to the Company of approximately $5,000,000.

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 $3,100,000. On September 4, 2012, a shareholder exercised greenshoe option of $350,000 under this purchase agreement 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 1,781,815 shares of the Company’s Common Stock (the “warrants”). At September 30, 2012, the total preferred shares outstanding is 19,090,909 and the preferred warrants outstanding is 19,090,909. The Company used these proceeds to pay tax payments and retired certain outstanding loan balances.

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.

 

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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.

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 UGHS Senior Living 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 UGHS Senior Living 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 UGHS Senior Living Facilities as well as an assisted living community and two memory care greenhouses in Georgia. The UGHS Senior Living 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 UGHS Senior Living Facilities was $17,898,735, consisting of: 1) $1,407,546 initial 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 September 30, 2012, the outstanding balance of the initial 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 second quarter of 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 expense over their estimated period of use of five years, respectively.

 

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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 UGHS Senior Living 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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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 second quarter of 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 expense 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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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 under the name “UGH Baytown Endoscopy Center”. 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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Diagnostic Imaging and Physical Therapy

On June 1, 2012, through wholly-owned subsidiaries, the Company acquired a Diagnostic Imaging and Physical Therapy Centers (the “1960 Centers”) from 1960 Family Practice, PA., a multi-specialty group of physicians practicing in northern areas of Houston. The Company operates these centers as HOPDs of the hospital segment under the names “UGH Diagnostic Imaging” and “UGH Physical Therapy.” The purpose of the acquisition was to expand the Company’s regional network into the northern areas of metropolitan Houston and increase market share.

The total purchase consideration for the 1960 Centers was $7,460,000, consisting of the issuance by UGH LP of (i) a $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 to the seller. The Company also agreed to assume certain liabilities associated with the operation of the 1960 Centers as additional consideration for the transaction. The total purchase consideration was based upon a fair market valuation of the acquired assets determined by the Company, with consideration of a valuation analysis 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   
  

 

 

 

Kingwood Diagnostic and Rehabilitation Center

On July 30, 2012, through wholly-owned subsidiaries, the Company acquired diagnostic imaging, physical therapy and sleep centers (the “Kingwood Centers”) from Management Affiliates of Northeast Houston, LLC, a Kingwood, Texas-based health service operations company. The Company operates the Kingwood Centers as HOPDs of the hospital segment under the name “UGH Kingwood Diagnostic and Rehabilitation Center.” This acquisition contributed to the expansion of the Company’s regional network in the north Houston metropolitan area.

The total purchase consideration for the Kingwood Centers was $344,163, consisting of (i) $87,798 promissory note payable to the seller which paid off on September 15, 2012, (ii) the issuance by UGHS of 702,376 shares of its Common Stock, par value $0.001 per share (the “UGHS Common Stock”), valued at $168,570 and (iii) $87,797 cash at closing. The Company also agreed to assume certain liabilities associated with the operation of the Kingwood Centers as additional consideration for the transaction.

 

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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

   $ 1,491,767   

Goodwill

     9,716   
  

 

 

 

Total assets acquired

     1,501,483   
  

 

 

 

Liabilities

  

Accounts payable and accrued expenses

     14,521   

Notes payable, current portion

     333,824   

Notes payable, less current portion

     808,975   
  

 

 

 

Total liabilities assumed

     1,157,320   
  

 

 

 

Total purchase consideration

   $ 344,163   
  

 

 

 

Robert Horry Center for Sports and Physical Rehabilitation

On August 24, 2012, through wholly-owned subsidiaries, the Company executed asset acquisition agreements with Robert Horry Center for Sports and Physical Rehabilitation (“UGH Robert Horry Center for Sports and Physical Rehabilitation”), pursuant to which the Company acquired the business assets and properties of UGH Kingwood Diagnostic and Rehabilitation Center, 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 purchase price consideration for Robert Horry Center for Sports and Physical Rehabilitation was $47,000. The purchase included the acquisition of assets and assumption of leases and contracts and liabilities related to accrued paid time off. The total purchase consideration was based upon a fair market valuation of UGH Robert Horry Center for Sports and Physical Rehabilitation determined by the Company, with consideration of a valuation report performed by a third party valuation firm.

On August 24, 2012, separate and apart from the Robert Horry Center for Sports and Physical Rehabilitation acquisition, the Company through wholly-owned subsidiaries entered into Profit Participation Agreement (“Profit Agreement”) with Robert Horry Sport and Rehabilitation Center LLC. (“Manager”). Pursuant to the Profit Agreements, through which the Company granted a 40.0% interest in the net proceeds attributable to any fiscal year during the term of the Profit Agreements in exchange for specified future and on-going duties and services to be provided by the Manager for the benefit of the facility. The Company will estimate and accrue for anticipated profit interest payments for each fiscal year.

 

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Summary of Unaudited Pro-forma Information

The unaudited pro-forma information below for the three and nine months ended September 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
September 30,
     Nine Months Ended
September 30,
 
     2012      2011      2012      2011  

Revenues

   $ 36,577,910       $ 22,207,422       $ 89,035,822       $ 65,641,718   

Income from operations

     11,736,125         2,959,919         24,538,449         7,506,075   

Net income attributable to the Company

     2,028,647         1,851,747         4,616,563         2,722,384   

Basic income per share

     0.01         0.01         0.02         0.01   

Diluted income per share

     0.01         0.01         0.01         0.01   

Net income attributable to common shareholders

     1,085,543         1,851,747         4,196,659         2,722,384   

Basic income per share

     0.00         0.01         0.01         0.01   

Diluted income per share

     0.00         0.01         0.01         0.01   

NOTE 5 – GOODWILL

The Company performs an impairment test for goodwill at least annually as of June 30th 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 September 28, 2012, the Company entered into a Credit and Security Agreement for a $15.0 million secured revolving credit facility (the “Revolving Credit Facility”) that matures on September 28, 2015. The Revolving Credit Facility includes an additional amount of revolving loan commitment feature to increase the size of the facility to $25.0 million. Borrowings under the Revolving Credit Facility are limited to the availability under a borrowing base that is determined principally on eligible account receivable as defined by the Revolving Credit Facility agreement. The daily interest rates under the Revolving Credit Facility are determined by a LIBOR rate plus an applicable margin, as set forth in the Revolving Credit Facility agreement. All of the Company’s assets are pledged as collateral under the Revolving Credit Facility. The Revolving Credit Facility is used by the Company to provide financing for working capital, capital expenditures and other general corporate purposes, as well as to support its outstanding indebtedness requirements. The Company accessed approximately $12.3 million as of September 30, 2012. Excess borrowing availability under the Revolving Credit Facility at September 30, 2012 was $2.7 million. The Revolving Credit Facility agreement included unused line fee of 0.50% per annum. The Revolving Credit Facility contains certain affirmative covenants, negative covenants and financial covenants including restrictions on the payment of dividends, as set forth in the Revolving Credit Facility Agreement. At September 30, 2012, the Company was in compliance with all of the debt covenants of the Revolving Credit Facility and expects to remain in compliance during fiscal year 2012. As of September 30, 2012, the interest rate on outstanding borrowings and the total borrowings under the Revolving Credit Facility were 3.5% and $12.3 million, respectively.

 

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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. On September 28, 2012, the Company repaid the outstanding balance of $8,451,025 by utilizing borrowings from a new Revolving Credit Facility with lower costs. The Company recognized interest expense on the lines of credit of $134,021 and $134,021 for the three months ended and $402,062 and $379,977 for the nine months ended September 30, 2012 and 2011, respectively.

Notes Payable

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

 

     September 30, 2012     December 31, 2011  

Note payable, maturing on December 31, 2012, interest rate of 6.5% at September 30, 2012

   $ 347,513      $ 434,626   

Note payable, maturing on December 31, 2013, interest rate of 6.5% at September 30, 2012

     2,208,126        5,150,000   

Note payable, maturing on September 1, 2013, interest rate of 4.5% plus LIBOR at September 30, 2012

     4,000,000        —     

Note payable, maturing on February 8, 2013, interest rate of 12.0% at September 30, 2012

     1,800,000        —     

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

     2,753,232        3,451,555   

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

     2,000,000        —     

Notes payable to Medicare, maturing on October 1, 2013, interest rates ranging from 11.0% to 11.5%. Notes were paid in full in September 2012

     —          818,776   

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

     599,432        982,079   

Various notes payable, due on various dates, interest rates ranging from 6.0% to 9.0% at September 30, 2012

     1,139,464        —     

Note payable, maturing on July 31, 2014, interest rate of 5.0% at September 30, 2012

     5,874,750        —     

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

     6,117,092        6,170,366   

Mortgage payable to Trustmark National Bank, maturing on January 13, 2014, interest rate of 5.0% at September 30, 2012

     4,922,413        5,311,654   

Mortgage payable to Citizens National Bank of Sevierville, maturing on January 31, 2014, interest rate of 6.5% at September 30, 2012

     5,661,924        5,777,268   

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

     2,815,089        2,815,089   

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

     104,000        —     

Note payable to a shareholder, maturing in October 1, 2017, non-interest bearing

     270,000        —     

Note payable to a shareholder, maturing in September 1, 2016, interest rate of 2.43%, with a discount of $75,689 at September 30, 2012

     1,164,311        —     

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

     700,000        —     

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

     347,853        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 September 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

   $ 42,825,199      $ 37,441,805   

Less: current portion

     (21,483,002     (28,982,331
  

 

 

   

 

 

 

Total debt, less current portion

   $ 21,342,197      $ 8,459,474   
  

 

 

   

 

 

 

 

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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, then subsequently extended to December 31, 2013, and modified the interest rate to 6.5%. As a result, the Company classified the amount due in 2012 as short-term at September 30, 2012 and December 31, 2011. At September 30, 2012 and December 31 2011, the total outstanding balance of these notes was $2,208,126 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 bears interest rate of 5.0% and is payable over 12 months. At September 28, 2012, the amount outstanding on this note was paid in full.

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 September 30, 2012 and December 31, 2011, the outstanding balance was $2,753,232 and $3,451,555.

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 September 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 December 31, 2011, the outstanding balance on this finance agreement was $818,776. The Company has paid these loans in full in September 2012.

In November 2006, the Company entered into a $1,000,000 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 September 30, 2012 and December 31, 2011, the amount outstanding on this note was $599,432 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 September 30, 2012, the amount outstanding on this note was $5,874,750.

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 September 30, 2012 and December 31, 2011, the amount outstanding on these notes was $2,815,089. In addition, the Company assumed three mortgage notes totaling $17,463,982. The mortgage notes bear interest rate ranging from 5.0% to 6.5%. In August 2012, the Company and the financial institutions agreed to extend the terms of the two mortgage notes for an additional eighteen months. The Company has engaged Lancaster Pollard Mortgage Company to refinance these two mortgage notes using the United States Department of Housing and Urban Development (“HUD”) Section 232 for terms up to 35 years. As of September 30, 2012 and December 31, 2011, the total outstanding on these notes was $16,701,429 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 September 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.

 

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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. At December 31, 2011, the amount outstanding on these notes was $1,404,063. The Company paid the remaining balance to Regions Bank on June 29, 2012.

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. In August 2012 the Company entered into another $2,000,000 note purchase agreement with the Service Provider. The note purchase agreement is securitized by 100% of the assets of the Company. Advances under this note purchase agreement mature February 8, 2013, and bear interest rate at 12.0% 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 September 30, 2012, $1,800,000 was outstanding under note the note purchase agreement.

On September 28, 2012, the Company entered into a secured term loan in an original principal amount of $4,000,000 with MidCap Financial, LLC, bearing interest at the LIBOR rate plus 4.5% and will be repaid in monthly principal payments over a period of nine months beginning on January 1, 2013. Interest on term loan shall be paid in arrears on the first day of each month and on maturity of such loan. The purpose of this term loan is to pay all of UGH’s remaining payroll tax delinquencies to the Internal Revenue Service. As of September 30, 2012, the outstanding balance on this loan was $4,000,000.

In connection with the UGH Kingwood Diagnostic and Rehabilitation Center acquisition, the Company assumed four promissory notes totaling $1,139,464 from the sellers on July 30, 2012. The promissory notes bear interest rates ranging from 6.0% to 9.0% and will be repaid monthly installments which will be maturing from December 6, 2013 to April 12, 2016. At September 30, 2012, the total amount outstanding on these notes was $1,139,464.

The Company recognized total interest expense on all of its notes payable of $646,737 and $172,047 for the three months ended and $1,794,387 and $591,537 for the nine months ended September 30, 2012 and 2011, respectively. The Company accrued interest payable of $333,303 and $469,285 as of September 30, 2012 and December 31, 2011, respectively.

 

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

 

     Principal
Payments
 

2013

   $ 21,483,002   

2014

     13,615,419   

2015

     526,895   

2016

     441,094   

2017

     333,944   

Thereafter

     6,424,845   
  

 

 

 

Total

   $ 42,825,199   
  

 

 

 

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

NOTE 7 – LEASE OBLIGATIONS

Capital Leases

The Company has seven 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 $25,694,668 at September 30, 2012. These capital lease obligations have stated interest rates ranging from 3.6% to 15.3%, are payable 2 to 286 monthly installments, and mature between November 16, 2012 and July 30, 2036. As of September 30, 2012 and December 31, 2011, the Company had capital lease obligations of $33,600,428 and $37,021,438, respectively. Future minimum annual payments, together with the present value of the minimum lease payments under capital leases at September 30, 2012, are summarized as follows:

 

     Related Party
Leases
     Third Party
Leases
     Total  

2013

   $ 2,323,333       $ 2,556,111       $ 4,879,444   

2014

     2,323,333         205,479         2,528,812   

2015

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

2016

     2,352,375         5,373         2,357,748   

2017

     2,497,583         —           2,497,583   

Thereafter

     52,943,619         —           52,943,619   
  

 

 

    

 

 

    

 

 

 

Total minimum lease payments

   $ 64,763,576       $ 2,788,455       $ 67,552,031   

Less amounts representing interest

     33,895,943         55,660         33,951,603   
  

 

 

    

 

 

    

 

 

 

Present value of minimum lease payments

     30,867,633         2,732,795         33,600,428   

Less current portion

     257,713         2,491,850         2,749,563   
  

 

 

    

 

 

    

 

 

 

Long-term portion

   $ 30,609,920       $ 240,945       $ 30,850,865   
  

 

 

    

 

 

    

 

 

 

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 on 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 paid to Regions Bank the sum of $2,125,000 on September 28, 2012 and the sum of $2,125,000 will be paid on December 31, 2012. At September 30, 2012 and December 31, 2011, the amount outstanding on these notes was $2,125,000 and $5,706,156, respectively.

 

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

NOTE 8 – RELATED PARTY TRANSACTIONS

Receivables from Related Parties

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

 

     September 30,
2012
     December 31,
2011
 

Receivable from shareholder of UGH GP

   $  —         $ 438,820   

Receivable from Executive Officer

     —           145,201   

Receivable from Cambridge

     —           74,743   
  

 

 

    

 

 

 

Total receivables from related parties

   $  —         $ 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:

 

     September 30,
2012
     December 31,
2011
 

Interest on notes payable to shareholders

     1,214,248         1,560,581   

Payable to Sybaris

     932,507         932,507   

Payable to Cambridge

     9,190         —     
  

 

 

    

 

 

 

Total payables to related parties

   $ 2,155,945       $ 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 Income:

 

     Three Months Ended
September 30,
     Nine Months Ended
September 30,
 
     2012      2011      2012      2011  

Interest expense

   $ 571,394       $ 641,293       $ 1,734,144       $ 1,815,568   

Management fees

     —           —           —           461,814   

General and administrative expense

     372,697         1,434,662         1,054,340         4,129,789   

Amortization expense

     171,290         171,290         513,870         513,870   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 1,115,381       $ 2,247,245       $ 3,302,354       $ 6,921,041   
  

 

 

    

 

 

    

 

 

    

 

 

 

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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As of September 30, 2012 and December 31, 2011, the Company recorded a related party capital lease obligation of $30,867,633 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 September 30, 2012 and 2011 and $513,871 for each of the nine months ended September 30, 2012 and 2011. For three and nine months ended September 30, 2012 and 2011, the interest expense related to the capital lease obligation was $523,319 and $513,870 and $1,567,274 and $1,571,088, respectively.

The Company had no related party receivable as of September 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 $9,190 at September 30, 2012. During the three and nine months ended September 30, 2012 and 2011, the Company incurred overhead allocation expenses and parking expenses from Cambridge of $286,807 and $256,399 and $786,554 and $859,752, respectively. These expenses were recorded as general and administrative expenses (“G&A”) in the Consolidated Statements of Income.

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 $461,814 for the nine months ended September 30, 2011.

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 $1,178,263 and $3,270,037 services fees to Sybaris for the three and nine months ended September 30, 2011, which were recorded as general and administrative expenses and included in the Consolidated Statements of Income. At September 30, 2012 and December 31, 2011, the Company had related party payables to Sybaris of $932,507, respectively.

Other Related Party Transactions

The Company also makes advances to and receives advances from certain other entities. As of September 30, 2012 and December 31, 2011, shareholders of the Company owe $0 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 September 30, 2012 and December 31, 2011, the Company had receivables of $0 and $145,201 from an executive officer, respectively.

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 nine months ended September 30, 2012 and 2011, UGH LP incurred total service expenses of $85,890 and $61,163 and $267,786 and $200,908, respectively, which were recorded as general and administrative expenses in the Consolidated Statements of Income. The Company believes that these payments to Sigma are fair and reasonable.

 

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Notes Payable to Related Parties

Notes payable to related parties consist of the following:

 

`

   September 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

     247,143         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 September 30, 2012

     —           700,000   
  

 

 

    

 

 

 

Total notes payable to related parties

   $  2,170,143       $ 4,782,297   

Less: current portion

     2,170,143         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 September 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 $571,394 and $641,293 for the three months ended and $1,734,144 and $1,815,568 for the nine months ended September 30, 2012 and 2011, respectively. Total accrued interest on notes payable to related parties was $1,214,248 and $1,560,581 at September 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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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 September 30, 2012, which is included in the Consolidated Balance Sheets.

Siemens

On June 29, 2010, Siemens Medical Solutions USA, Inc. (“Siemens”) sued UGH LP, University Hospital Systems, LLP (“UHS”) and several individual guarantors 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 October 17, 2011, the parties entered into a Confidential Settlement Agreement and Mutual Release (the “Settlement Agreement”) resolving this dispute. 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. Thereafter, a dispute arose regarding the Settlement Agreement, and on February 2, 2012 the trial court entered an Agreed Judgment against UGH LP and UHS in the amount of $5,500,000, less credits for amounts paid by UGH LP under the Settlement Agreement. 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. UGH LP has a timely filed an appeal and suspended enforcement of the Agreed Judgment during the pendency of the pending such appeal. Case No. 01-12-00174-CV, First Court of Appeals, Houston, Texas. UGH LP also filed a Petition for Writ of Mandamus challenging the trial court’s jurisdiction to enter the Agreed Judgment. Case No. 01-12-00186-CV, First Court of Appeals, Houston, Texas. All briefing in the appeal and the mandamus proceeding is complete. The appellate court has not yet issued a ruling. As of September 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, respectively, 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 September 30, 2012 and December 31, 2011, the Company accrued $3,640,381 and $4,171,826, respectively. At November 14, 2012, the outstanding balance is $1,008,303.

 

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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

     2,996,548         2,974,238         —           5,970,786   

Issuance of Consulting Warrants

     —           —           341,440         341,440   

Change in fair value

     2,122,329         2,063,383         71,268         4,256,980   
  

 

 

    

 

 

    

 

 

    

 

 

 

Balance, September 30, 2012

   $ 5,118,877       $ 5,037,621       $ 412,708       $ 10,569,206   
  

 

 

    

 

 

    

 

 

    

 

 

 

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 September 30, 2012:

 

Issuance

   Number of Shares      Weighted Average
Exercise Price
 

Preferred C Shares (a)

     19,090,909       $ 0.22   

Preferred C Warrants (a)

     19,090,909         0.26   

Consulting Warrants (b)

     1,605,818         0.29   
  

 

 

    
     39,787,636         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 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 nine months ended September 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 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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                        Fair Value  

Date of Issue

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

May-2, 2012

     605,818       $ 0.26       May 1, 2017    $ 88,470       $ 159,738   

September 28, 2012

     1,000,000         0.32       September 27, 2017      252,970         252,970   
  

 

 

          

 

 

    

 

 

 
     1,605,818             $ 341,440       $ 412,708   
  

 

 

          

 

 

    

 

 

 

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 April 30, 2012, the Company entered into Executive Stock Agreement with a key executive (the “Executive”), pursuant to which the Company sold to the Executive in the aggregate 1,071,429 shares of common stock (“Executive Shares”) at a purchase price of approximately $0.14 per share, and the Executive entered into promissory note with the Company for $150,000. The shares purchased by the Executive are subject to repurchase by the Company if, prior to the second anniversary of the issuance date, the Executive’s employment with the Company is terminated for “cause” (as defined in the Executive Stock Agreement) or the Executive resigns from his employment without “good reason” (as defined in the Executive Stock Agreement). The Executive Shares are subject to time vesting that will vest annually over a two-year period (i.e., 50% per year). The Company used the proceeds for working capital purposes. The promissory note is due and payable on December 31, 2022. The promissory note bears interest rate at 4.0%, and the accrued interest shall be paid in full on the date of on which the final principal payment on this note is made.

On May 31, 2012, the Company entered into a $2,000,000 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.

On July 30, 2012, the Company issued 702,376 shares of its common stock in connection with the acquisition of UGH Kingwood Diagnostic and Rehabilitation Center at a price of approximately $0.25 per share.

Sigma Opportunity Fund, LLC purchased from the Company 625,000 shares of common stock, par value $0.001 per share, of the Company for an aggregate purchase price of $162,500 in cash. In addition to assist in the financing of the acquisition of the TrinityCare, and the retirement of certain debt, the Company entered into a note purchase agreement with Sigma Opportunity Fund, LLC (the “Service Provider”) on August 8, 2012.

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.

 

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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%. On September 4, 2012, a shareholder exercised greenshoe option of $350,000 for 392 Preferred Shares. 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 19,090,909 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. On August 1, 2012, the Board declared and paid a quarterly cash dividend of approximately $76,160. As of September, the Company has accrued dividend of $53,387. In addition, the Company has recorded an accretion non-cash dividend in the amount of $236,879 for the increasing variable dividend rate.

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 September 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 expense was 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 19,090,909 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 nine months ended September 30, 2012, the Company distributed cash to holders of noncontrolling interests of $172,762.

 

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NOTE 12 – GAIN ON EXTINGUISHMENT OF LIABILITIES

In the three and nine months ended September 30, 2012 and 2011, the Company settled certain accounts payable with vendors, and reduced the accounts payable owed to those vendors. In addition, the Company also settled certain debt obligations with debt holders and reduced principal balance, accrued interest, taxes and penalties due on promissory notes that have been extinguished in accordance with the statute of limitations. For the three and nine months ended September 30, 2012 and 2011, the Company recognized a gain on extinguishment of liabilities of $618,353 and $1,947,134, and $3,521,879 and $3,411,479, respectively, related to the accounts payable settlements.

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 Income for the three and nine months ended September 30, 2012.

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 diluted earnings per share calculation excludes 16.8 million and 18.3 million potential shares related to Preferred C Warrants for the three and nine months ended September 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 September 30,      For the Nine Months Ended September 30,  
     2012      2011      2012      2011  

Net income attributable to the Company

   $ 1,995,202       $ 1,045,450       $ 3,645,034       $ 377,946   

Less: Cash dividend-Convertible Preferred C Stock

     (53,387      —           (53,387      —     

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

     (145,562      —           (236,879      —     
  

 

 

    

 

 

    

 

 

    

 

 

 

Net income attributable to common shareholders

   $ 1,796,253       $ 1,045,450       $ 3,354,768       $ 377,946   
  

 

 

    

 

 

    

 

 

    

 

 

 

Basic weighted average shares outstanding

     325,144,781         276,379,591         306,101,581         235,075,067   

Effect of dilutive securities:

           

Preferrd C Shares

     19,090,909         —           19,090,909         —     

Preferrd C Warrants

     2,321,867         —           774,907         —     
  

 

 

    

 

 

    

 

 

    

 

 

 

Diluted weighted average shares outstanding

     346,557,557         276,379,591         325,967,397         235,075,067   
  

 

 

    

 

 

    

 

 

    

 

 

 

Earnings per share data:

           

Basic earnings per share

   $ 0.01       $ 0.00       $ 0.01       $ 0.00   

Diluted earnings per share

   $ 0.01       $ 0.00       $ 0.01       $ 0.00   

NOTE 14 – SEGMENT INFORMATION

Under ASC Topic No. 280, Segment Reporting, operating segments are defined as components of an enterprise about which a 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.

 

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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.

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

 

     For the Three Months Ended September 30,     For the Nine Months Ended September 30,  
     2012     2011     2012     2011  

Revenues

        

Hospital

   $ 33,274,349      $ 18,605,498      $ 76,668,851      $ 51,941,754   

Senior living

     2,043,499        1,877,179        5,930,065        1,877,179   

Support Services

     2,456,714        626,447        6,613,072        626,447   

Intersegment revenues

     (1,754,171     (458,168     (5,031,465     (458,168
  

 

 

   

 

 

   

 

 

   

 

 

 

Total revenues

   $ 36,020,391      $ 20,650,956      $ 84,180,523      $ 53,987,212   
  

 

 

   

 

 

   

 

 

   

 

 

 

Depreciation and amortization

        

Hospital

   $ 1,558,542      $ 1,767,550      $ 4,293,449      $ 5,287,666   

Senior living

     756,085        327,966        1,305,381        327,966   

Support Services

     129,120        8,500        340,010        8,500   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total depreciation and amortization

   $ 2,443,747      $ 2,104,016      $ 5,938,840      $ 5,624,132   
  

 

 

   

 

 

   

 

 

   

 

 

 

Operating income (loss) from operations

        

Hospital

   $ 11,570,318      $ 2,315,812      $ 23,111,532      $ 4,035,431   

Senior living

     (175,509     168,446        237,640        168,446   

Support Services

     307,871        47,963        217,748        47,963   

Intersegment income

     —          —          —          —     
  

 

 

   

 

 

   

 

 

   

 

 

 

Total operating income

   $ 11,702,680      $ 2,532,221      $ 23,566,920      $ 4,251,840   
  

 

 

   

 

 

   

 

 

   

 

 

 

 

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

Total segment assets

     

Hospital

   $ 89,021,632       $ 62,233,413   

Senior living

     41,094,565         42,378,141   

Support Services

     10,307,848         9,890,368   
  

 

 

    

 

 

 

Total assets

   $ 140,424,045       $ 114,501,922   
  

 

 

    

 

 

 

NOTE 15 – INCOME TAXES

The provision for current income taxes of $5,777,762 for the nine months ended September 30, 2012 was $5,428,132 for federal and $349,630 for state, and the effective tax rate was 62.9% which was greater than the statutory rate of 35% primarily due to differences in book and tax accounting for the Company’s derivative.

Net deferred tax assets which totaled approximately $500,000 at September 30, 2012 (current deferred tax assets of approximately $5,400,000 less noncurrent deferred tax liabilities of approximately $4,900,000) were reduced by a valuation allowance of $500,000 as the more likely than not criterion for recognition of the assets was not met. The valuation allowance was reduced by approximately $1,800,000 during the nine months ended September 30, 2012.

 

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The provision for income taxes of $261,000 for the nine months ended September 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 indicative of the year end presentation.

NOTE 16 – RESTATEMENT

The Company is restating its previously issued consolidated financial statements as of September 30, 2012 and for the three and nine months ended September 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 rachet” 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 decreased originally reported assets by $0.3 million and mezzanine equity by $0.6 million, and increased originally reported shareholders’ equity by $0.3 million at September 30, 2012. In addition, other expense increased by $0.3 million, direct investor expense increased by $0.9 million, derivative expense decreased by $0.6 million, and net income attributable to the Company decreased by $0.6 million for the three months ended September 30, 2012. For the nine months ended September 30, 2012, other expense increased by $0.4 million, direct investor expense increased by $5.5 million, derivative expense decreased by $1.7 million and net income attributable to the Company decreased by $4.2 million. Basic and diluted earnings per share remained unchanged at $0.01 for both the three and nine months ended September 30, 2012.

 

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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 September 30, 2012 is as follows:

 

     As of September 30, 2012  
     As Previously
Reported
    Adjustments     Restated  
     (Unaudited)              
ASSETS       

Current Assets

      

Cash and cash equivalents

   $ 5,342,072      $ —        $ 5,342,072   

Accounts receivable, less allowance for doubtful accounts of $13,692,865

     23,442,899        —          23,442,899   

Inventories

     1,493,096        —          1,493,096   

Receivables from related parties

     —          —          —     

Prepaid expenses and other assets

     3,997,465        (84,323     3,913,142   
  

 

 

   

 

 

   

 

 

 

Total Current Assets

     34,275,532        (84,323     34,191,209   

Long-Term Assets

      

Investments in unconsolidated affiliates

     847,323        —          847,323   

Property, equipment and leasehold improvements, net

     67,993,247        —          67,993,247   

Intangible assets, net

     6,282,500        —          6,282,500   

Goodwill

     28,974,185        —          28,974,185   

Other non-current assets, net

     2,304,228        (168,647     2,135,581   
  

 

 

   

 

 

   

 

 

 

Total Long-Term Assets

     106,401,483        —          106,232,836   
  

 

 

   

 

 

   

 

 

 

Total Assets

   $ 140,677,015      $ (252,970   $ 140,424,045   
  

 

 

   

 

 

   

 

 

 
LIABILITIES AND SHAREHOLDERS’ EQUITY (DEFICIT)       

Current Liabilities

      

Accounts payable

   $ 10,032,820      $ —        $ 10,032,820   

Payables to related parties

     2,155,945        —          2,155,945   

Accrued expenses

     4,226,512        —          4,226,512   

Accrued acquisition cost

     521,401        —          521,401   

Taxes payable

     3,640,381        —          3,640,381   

Income tax payable

     6,112,440        —          6,112,440   

Deferred revenue

     264,705        —          264,705   

Lines of credit

     —          —          —     

Notes payable, current portion

     21,483,002        —          21,483,002   

Notes payable to related parties, current portion

     2,170,143        —          2,170,143   

Capital lease obligations, current portion

     2,491,850        —          2,491,850   

Capital lease obligations to related party, current portion

     257,713        —          257,713   

Derivative liability

     10,569,206        —          10,569,206   
  

 

 

   

 

 

   

 

 

 

Total Current Liabilities

     63,926,118        —          63,926,118   

Long-Term Liabilities

      

Lines of credit, less current portion

     12,269,000        —          12,269,000   

Notes payable, less current portion

     21,342,197        —          21,342,197   

Notes payable to related parties, less current portion

     —          —          —     

Capital lease obligations, less current portion

     240,945        —          240,945   

Capital lease obligations to related party, less current portion

     30,609,920        —          30,609,920   
  

 

 

   

 

 

   

 

 

 

Total Long-Term Liabilities

     64,462,062        —          64,462,062   

Total Liabilities

     128,388,180        —          128,388,180   

Commitments and contingencies

      

Series C, convertible preferred stock, $0.001 par value, 20,000,000 shares authorized, 4,200 shares issued and outstanding, ($1,000 stated value)

     3,797,633        (576,650     3,220,983   

Shareholders’ Equity and (Deficit)

      

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

     3        —          3   

Common stock, par value $0.001, 480,000,000 shares authorized, 325,654,031 shares issued and outstanding

     325,653        —          325,653   

Additional paid-in-capital

     55,178,809        315,204        55,494,013   

Shareholders’ receivables

     (2,429,069     —          (2,429,069

Accumulated deficit

     (49,677,189     8,476        (49,668,713
  

 

 

   

 

 

   

 

 

 

Total shareholders’ equity

     3,398,207        323,680        3,721,887   

Noncontrolling interest

     5,092,995        —          5,092,995   
  

 

 

   

 

 

   

 

 

 

Total equity

     8,491,202        323,680        8,814,882   
  

 

 

   

 

 

   

 

 

 

Total Liabilities and Shareholders’ Equity

   $ 140,677,015      $ (252,970   $ 140,424,045   
  

 

 

   

 

 

   

 

 

 

 

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

 

     Three Months Ended September 30, 2012     Nine Months Ended September 30, 2012  
     As Previously
Reported
    Adjustments     Restatement     As Previously
Reported
    Adjustments     Restatement  

Revenues

            

Patient service revenues, net of contractual adjustments

   $ 35,351,438      $ —          35,351,438      $ 82,675,939      $ —          82,675,939   

Provision for doubtful accounts

     (3,494,644     —          (3,494,644     (7,682,475     —          (7,682,475
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net patient service revenue less provision for bad debts

     31,856,794        —          31,856,794        74,993,464        —          74,993,464   

Senior living revenues

     1,969,785        —          1,969,785        5,746,643        —          5,746,643   

Support services revenues

     702,542        —          702,542        1,581,606        —          1,581,606   

Other revenues

     1,491,270        —          1,491,270        1,858,810        —          1,858,810   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total revenues

     36,020,391        —          36,020,391        84,180,523        —          84,180,523   

Operating expenses

            

Salaries, wages and benefits

     10,448,799        —          10,448,799        27,466,450        —          27,466,450   

Medical supplies

     4,820,777        —          4,820,777        11,612,638        —          11,612,638   

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

     —          —          —          —          —          —     

General and administrative expenses (includes related party expenses of $372,697 and $1,434,662 for the three months ended and $1,054,340 and $4,129,789 for the nine months ended)

     7,222,741        —          7,222,741        19,117,554        —          19,117,554   

Gain on extinguishment of liabilities

     (618,353     —          (618,353     (3,521,879     —          (3,521,879

Depreciation and amortization (includes related party expenses of $171,290 for each of the three months ended and $513,870 for each of the nine months ended)

     2,443,747        —          2,443,747        5,938,840        —          5,938,840   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

     24,317,711        —          24,317,711        60,613,603        —          60,613,603   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating income

     11,702,680        —          11,702,680        23,566,920        —          23,566,920   

Other income (expense)

            

Interest expense, net of interest income of $20,000 each of the three months ended and $60,000 each for the nine months ended (includes related party interest expense $571,394 and $641,293 for the three months ended and $1,734,144 and $1,815,568 for the nine months ended)

     (1,363,821     —          (1,363,821     (4,187,121     —          (4,187,121

Other income

     —          (252,970     (252,970     11,583        (392,609     (381,026

Direct investor expense

     —          (857,674     (857,674     —          (5,558,963     (5,558,963

Derivative expense

     (508,681     508,681        —          (1,770,787     1,770,787        —     

Change in fair market value of derivatives

     (5,173,513     —          (5,173,513     (4,256,980     —          (4,256,980
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income before income tax

     4,656,665        (601,963     4,054,702        13,363,615        (4,180,785     9,182,830   

Income tax expense

     2,271,631        —          2,271,631        5,777,762        —          5,777,762   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income before noncontrolling interest

     2,385,034        (601,963     1,783,071        7,585,853        (4,180,785     3,405,068   

Net income (loss) attributable to noncontrolling interests

     212,131        —          212,131        239,966        —          239,966   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income attributable to the Company

   $ 2,597,165      $ (601,963   $ 1,995,202      $ 7,825,819      $ (4,180,785   $ 3,645,034   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Less: Cash Dividend-Convertible Preferred C Stock

     (129,547     76,160        (53,387     (129,547     76,160        (53,387

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

     (504,946     359,384        (145,562     (4,349,980     4,113,101        (236,879
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income attributable to common shareholders

   $ 1,962,672      $ (166,419   $ 1,796,253      $ 3,346,292      $ 8,476      $ 3,354,768   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Basic and diluted income per share data:

            

Basic earnings per common share

   $ 0.01        $ 0.01      $ 0.01        $ 0.01   
  

 

 

     

 

 

   

 

 

     

 

 

 

Basic weighted average shares outstanding

     325,144,781          325,144,781        306,101,581          306,101,581   
  

 

 

     

 

 

   

 

 

     

 

 

 

Diluted earnings per common share

   $ 0.01        $ 0.01      $ 0.01        $ 0.01   
  

 

 

     

 

 

   

 

 

     

 

 

 

Diluted weighted average shares outstanding

     364,932,417          346,557,557        345,889,217          325,967,397   
  

 

 

     

 

 

   

 

 

     

 

 

 

 

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

 

     As Previously
Reported
    Adjustments     Restated  

Cash flows from operating activities:

  

   

Net income

   $ 7,585,853      $ (4,180,785   $ 3,405,068   

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

      

Depreciation and amortization

     5,938,840        —          5,938,840   

Provision for doubtful accounts

     7,682,475        —          7,682,475   

Gain on sales of assets

     (11,583     —          (11,583

Gain on extinguishment of liabilities

     (3,521,879     —          (3,521,879

Warrants issuance costs

     —          392,609        392,609   

Derivative expense

     1,770,787        (1,770,787     —     

Direct investor expense

     —          5,558,963        5,558,963   

Change in fair market value of derivatives

     4,256,980        —          4,256,980   

Net changes in operating assets and liabilities:

      

Accounts receivable

     (20,212,013       (20,212,013

Related party receivables and payables

     321,621        —          321,621   

Inventories

     415,081        —          415,081   

Prepaid expenses and other assets

     (2,033,897     —          (2,033,897

Accounts payable, accrued expenses and taxes payable

     2,750,062        —          2,750,062   

Deferred revenues

     (50,171     —          (50,171
  

 

 

   

 

 

   

 

 

 

Net cash provided by (used in) operating activities

     4,892,156        —          4,892,156   
  

 

 

   

 

 

   

 

 

 

Cash flows from investing activities:

      

Additions to property, equipment and leasehold improvements

     (2,009,359       (2,009,359

Cash (used in) acquired in connection with acquisition

     (222,594     —          (222,594

Investments in unconsolidated affiliates

     (160,000     —          (160,000
  

 

 

   

 

 

   

 

 

 

Net cash used in investing activities

     (2,391,953     —          (2,391,953
  

 

 

   

 

 

   

 

 

 

Cash flows from financing activities:

      

Redemption of common stock

     —          —          —     

Distribution to noncontrolling interests

     (172,762     —          (172,762

Issuance of common stock

     5,195,827        —          5,195,827   

Cash dividends paid

     (76,160     —          (76,160

Issuance of Series C convertible preferred stock, net issuance costs

     3,344,669        —          3,344,669   

Proceeds from revolving credit facility borrowings

     12,269,000        —          12,269,000   

Payments of revolving credit facility borrowings

     (8,451,025     —          (8,451,025

Borrowings under notes payable

     8,122,781        —          8,122,781   

Payments on notes payable

     (13,155,873     —          (13,155,873

Payment on debt issuance costs

     (798,251     —          (798,251

Borrowings under notes payable to related party

     43,685        —          43,685   

Payments on notes payable to related party

     (145,003     —          (145,003

Payments on capital leases

     (3,697,810     —          (3,697,810

Payments on capital leases obligation to related party

     (175,227     —          (175,227
  

 

 

   

 

 

   

 

 

 

Net cash provided by financing activities

     2,303,851          2,303,851   
  

 

 

   

 

 

   

 

 

 
       —          —     

Net increase (decrease) in cash and cash equivalents

     4,804,054        —          4,804,054   

Cash and cash equivalents:

      

Beginning of period

     538,018        —          538,018   
  

 

 

   

 

 

   

 

 

 

End of period

   $ 5,342,072      $ —        $ 5,342,072   
  

 

 

   

 

 

   

 

 

 

Supplemental disclosures of cash flow information:

      

Interest paid

   $ 4,690,494      $ —        $ 4,690,494   

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

   $ 670,000      $ —        $ 670,000   

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

   $ 7,789,624      $ —        $ 7,789,624   

 

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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 Income 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.

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 under the name “UGH Baytown Endoscopy Center. 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. We expect 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. We 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.

On June 1, 2012, through wholly-owned subsidiaries, the Company acquired a Diagnostic Imaging and Physical Therapy Centers (the “1960 Centers”) from 1960 Family Practice, PA., a multi-specialty group of physicians practicing in northern areas of Houston. We operate these centers as HOPDs of the hospital segment under the names “UGH Diagnostic Imaging” and “UGH Physical Therapy.” The total purchase consideration for the 1960 Centers was $7,460,000, consisting of the issuance by UGHS of 1,865,000 shares (the “Stock Consideration”) of our Common Stock.

As of September 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 September 30, 2012. On July 30, 2012, through wholly-owned subsidiaries, the Company acquired diagnostic imaging, physical therapy and sleep centers (the “Kingwood Centers”) from Management Affiliates of Northeast Houston, LLC, a Kingwood, Texas-based health service operations company. We operate the Kingwood Centers as HOPDs of the hospital segment under the name “UGH Kingwood Diagnostic and Rehabilitation Center.” This acquisition contributed to the expansion of our regional network in the north Houston metropolitan area. We estimate 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 total purchase consideration for the Kingwood Center was $344,163.

On August 24, 2012, through wholly-owned subsidiaries, we executed asset acquisition agreements with Robert Horry Center for Sports and Physical Rehabilitation (“UGH Robert Horry Center for Sports and Physical Rehabilitation”), pursuant to which we acquired the business assets and properties of UGH Kingwood Diagnostic and Rehabilitation Center, which are free-standing facilities which operate as HOPD of the hospital segment. The purpose of the acquisition was to expand our capability and increase market share. This expansion is expected to increase our annual revenue by over $1.0 million during 2013. The purchase price consideration for Robert Horry Center for Sports and Physical Rehabilitation was $47,000.

 

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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.

Results of Operations

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

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

 

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

Revenues

          

Hospital

   $ 33,274,349        92.4   $ 18,605,498        90.1   $ 14,668,851   

Senior living

     2,043,499        5.7        1,877,179        9.1        166,320   

Support services

     702,543        2.0        168,279        0.8        534,264   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total Revenues

     36,020,391        100.0        20,650,956        100.0        15,369,435   

Operating expenses

          

Salaries, wages and benefits

     10,448,799        29.0        8,263,837        40.0        2,184,962   

Medical supplies

     4,820,777        13.4        3,399,612        16.5        1,421,165   

Management fees

     —          —          1,412,385        6.8        (1,412,385

General and administrative expenses (includes related party expenses of $372,697 and $1,434,662, respectively)

     7,222,741        20.1        4,886,019        23.7        2,336,722   

Gain on extinguishment of liabilities

     (618,353     (1.7     (1,947,134     (9.4     1,328,781   

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

     2,443,747        6.8        2,104,016        10.2        339,731   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

     24,317,711        67.5        18,118,735        87.7        6,198,976   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating income

     11,702,680        32.5        2,532,221        12.3        9,170,459   

Other expense

          

Interest expense, net of interest income of $20,000 each of the three months ended (includes related party interest expense $571,394 and $641,293, respectively)

     (1,363,821     (3.8     (1,349,023     (6.5     (14,798

Other expense

     (252,970     (0.7     —          —          (252,970

Direct investor expense

     (857,674     (2.4     —          —          (857,674

Change in fair market value of derivatives

     (5,173,513     (14.4     —          —          (5,173,513
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income before income tax

     4,054,702        11.3        1,183,198        5.7        2,871,504   

Income tax expense

     2,271,631        6.3        99,000        0.5        2,172,631   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income before noncontrolling interest

     1,783,071        5.0        1,084,198        5.3        698,873   

Net income (loss) attributable to noncontrolling interests

     212,131        0.6        (38,748     (0.2     250,879   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income attributable to the Company

   $ 1,995,202        5.5   $ 1,045,450        5.1   $ 949,752   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Less: Cash dividend-Convertible Preferred C Stock

     (53,387     (0.1     —          —          (53,387

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

     (145,562     (0.4     —          —          (145,562
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income attributable to common shareholders

   $ 1,796,253        5.0   $ 1,045,450        5.1   $ 750,803   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

(1) Percentages may not foot due to rounding.

Consolidated Results of Operations

Our revenues for the three months ended September 30, 2012 increased $15.4 million, or 74.8%, to $36.0 million as compared to $20.6 million for the three months ended September 30, 2011. The revenues increase was primarily attributable to a 15.0% increase in our average daily census. The average daily census for the three months ended September 30, 2012 was 46 as compared to 40 for the three months ended September 30, 2011. In addition, the adjusted patient days increased by 802 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 and integrated health delivery system strategy. The acquisitions of TrinityCare, Autimis and Sybaris contributed to additional revenues of approximately $0.7 million and the acquisitions of hospital outpatient department (HOPD) during 2012 contributed to additional revenues of $5.9 million for the three months ended September 30, 2012.

 

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Salaries, wages and benefits for the three months ended September 30, 2012 increased approximately $2.1 million, or 25.3%, to $10.4 million from $8.3 million for the three months ended September 30, 2011. As a percentage of revenues, salaries, wages and benefits decreased to 29.0% in the three months ended September 30, 2012 from 40.0% in the three months ended September 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 Sybaris of approximately $1.2 million, adjustments to cost of living and additional employees.

Medical supplies expense for the three months ended September 30, 2012 increased approximately $1.4 million, or 41.2%, to $4.8 million from $3.4 million for the three months ended September 30, 2011. On an adjusted patient day (“APD”) basis, medical expenses for the three months ended September 30, 2012 increased approximately by 26.7% or $641 per APD from $506 per APD for the three months ended September 30, 2011. As a percentage of revenues, our medical supplies expense decreased to 13.4% in the three months ended September 30, 2012 as compared to 16.5% in the three months ended September 30, 2011 due to a decrease in the number of surgeries performed. Surgeries for the three months ended September 30, 2012 were 1,740 compared to 1,876 for the comparable prior quarter period.

We have terminated all of our remaining management services agreements during the first quarter of 2012. Management fees for the three months ended September 30, 2011 was $1.4 million.

General and administrative (“G&A”) expenses for the three months ended September 30, 2012 increased approximately $2.3 million, or 46.9%, to $7.2 million from $4.9 million for the three months ended September 30, 2011. As a percentage of revenues, G&A expenses decreased to 20.1% in the three months ended September 30, 2012 from 23.7% in the three months ended September 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.

During the three months ended September 30, 2012 and 2011, we settled certain accounts payable with vendors, and reduced the accounts payable owed to those vendors. For the three months ended September 30, 2012, we recognized a gain on extinguishment of liabilities of approximately $0.5 million. In addition, in connection with the cancellation of obligations with a debt holder during the three months ended September 30, 2012, the Company recognized a gain of $0.1 million representing the portion of principal balance and accrued interest. For the three months ended September 2011, we recognized a gain on extinguishment of liabilities of $1,947,134, of which $1,700,000 of the gain was related to the Siemens settlement referenced in Note 11.

Depreciation and amortization expense for the three months ended September 30, 2012 increased $0.3 million, or 14.3%, to $2.4 million as compared to $2.1 million for the three months ended September 30, 2011. The increase in depreciation and amortization expense primarily resulted from the amortization expense of customer relationship, tradename, software and non-compete agreement which was obtained from the final valuation report for the acquisitions of Autimis and TrinityCare in June 2012, offset by some assets being fully depreciated in the current quarter as compared to prior quarter.

Net interest expense remained consistent to $1.4 million for each of the three months ended September 30, 2012 and 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.

As fully described in Notes 10 and 11, the Company issued preferred stock and the related common stock warrant, 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 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. As a result, the total direct investor expense and change in fair value of derivatives of approximately $0.9 million and $5.2 million for the three months ended September 30, 2012 directly reduced the net income attributable to the Company.

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 $0.1 million and $0.1 million in state income tax expense for the three months ended September 30, 2012 and 2011, respectively.

The Company’s effective tax rate for the current year third quarter was 56.0%, resulting in estimated federal income tax expense of $2.1 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 third quarter.

 

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As a result of the foregoing, our net income attributable to the Company was $2.0 million for the three months ended September 30, 2012 as compared to a net income of $1.0 million for the three months ended September 30, 2011.

Segment Results of Operations

Hospital

Our revenues for the three months ended September 30, 2012 increased $14.7 million, or 79.0%, to $33.3 million as compared to $18.6 million for the three months ended September 30, 2011. The revenues increase was primarily attributable to a 15.0% increase in our average daily census. The average daily census for the three months ended September 30, 2012 was 46 as compared to 40 for the three months ended September 30, 2011. In addition, the adjusted patient days increased by 802 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 hospital outpatient department (HOPD) during 2012 contributed to additional revenues of $5.9 million for the three months ended September 30, 2012.

Our provision for doubtful accounts during the three months ended September 30, 2012 increased $3.1 million to 9.9% of net patient revenue before the provision for doubtful accounts as compared to 1.9% of net revenue before the provision for doubtful accounts during the three months ended September 30, 2011. The increase in provision for doubfult accounts was due a significant increase in revenues during the current year.

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 income 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 days revenues outstanding were 67 days at September 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. The increase in days revenues outstanding was due to a significant increase in revenues and accounts receivable during the third quarter of the current year as a result of the acquisitions during 2012.

Salaries, wages and benefits for the three months ended September 30, 2012 increased approximately $0.7 million, or 10.0%, to $7.7 million from $7.0 million for the three months ended September 30, 2011. As a percentage of revenues, salaries, wages and benefits decreased to 23.2% in the three months ended September 30, 2012 from 38.0% in the three months ended September 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 September 30, 2011.

Medical supplies expense for the three months ended September 30, 2012 increased approximately $1.4 million, or 41.2%, to $4.8 million from $3.4 million for the three months ended September 30, 2011. On an adjusted patient day (“APD”) basis, medical expenses for the three months ended September 30, 2012 increased approximately by 26.7% or $641 per APD from $506 per APD for the three months ended September 30, 2011. As a percentage of revenues, our medical supplies expense decreased to 14.5% in the three months ended September 30, 2012 as compared to 18.3% in the three months ended September 30, 2011 due to a decrease in the number of surgeries performed. Surgeries for the three months ended September 30, 2012 were 1,740 compared to 1,876 for the comparable prior quarter period.

We have terminated all of our remaining management services agreements during the first quarter of 2012. Management fees for the three months ended September 30, 2011 was $1.4 million.

General and administrative expenses for the three months ended September 30, 2012 increased approximately $3.6 million, or 78.3%, to $8.2 million from $4.6 million for the three months ended September 30, 2011. As a percentage of revenues, G&A expenses increased to 24.9% in the three months ended September 30, 2012 from 24.7% in the three months ended September 30, 2011. The increase in G&A expenses rate was primarily comprised of legal fees, contract services, professional fees, repairs and maintenance, penalties and marketing fees.

 

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Depreciation and amortization expense for the three months ended September 30, 2012 decreased by $0.2 million, or 11.1%, to $1.6 million as compared to $1.8 million for the three months ended September 30, 2011. The decrease in depreciation and amortization expense resulted from assets being fully depreciated in the current year third quarter as compared to the prior year third quarter.

Net interest expense was $1.1 million in current year third quarter as compared to $1.0 million in the prior year third 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 third quarter as compared to the prior year third quarter.

Operating income of the hospital segment was approximately $11.6 million for the current year third quarter as compared to the operating income of $2.3 million for the prior year third 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 quarter as compared to the comparative prior quarter.

Senior Living

Senior living net revenues for the three months ended September 30, 2012 increased approximately by $0.1 million, or 5.3%, to $2.0 million as compared to $1.9 million for the three months ended September 30, 2011. The increase in revenues was primarily a result of an increase in the average monthly revenue per unit compared to the prior year third quarter , including growing revenues from our independent living and memory care units and an increase in occupancy. The senior living properties reported continued stable occupancy, with an overall occupancy in excess of 94.4% for the three months ended September 30 2012 as compared to 87.0% for the prior year third quarter. 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.

Salaries, wages and benefits for the three months ended September 30, 2012 increased approximately $0.2 million, or 28.6%, to $0.9 million from $0.7 million for the three months ended September 30, 2011. As a percentage of revenues, salaries, wages and benefits increased to 42.8% in the three months ended September 30, 2012 from 38.0% in the three months ended September 30, 2011. The increase in the salaries, wages and benefits rate was primarily due to the cost of living adjustments.

General and administrative expenses for the three months ended September 30, 2012 decreased approximately $0.1 million, or 14.3%, to $0.6 million from $0.7 million for the three months ended September 30, 2011. As a percentage of revenues, G&A expenses decreased to 28.8% in the three months ended September 30, 2012 from 35.6% in the three months ended September 30, 2011 which was due to improved leveraging of expenses from higher revenues.

Depreciation and amortization expense for the three months ended September 30, 2012 increased by $0.4 million, or 133.3%, to $0.7 million as compared to $0.3 million for the three months ended September 30, 2011. The increase in depreciation and amortization expense was primarily resulted from the amortization expense of customer relationship, tradename and non-compete agreement which obtained from the final valuation report for the acquisition in June 2012.

Net interest expense remained consistent to $0.3 million for each of the months ended September 30, 2012 and 2011. Interest expense is primarily comprised of interest on mortgage notes and notes payable. In August 2012, we and our lenders agreed to extend the terms of two mortgage notes for an additional eighteen months.

Net operating income before depreciation and amortization and interest expense of the senior living segment was approximately $0.6 million for the current year third quarter, as compared to the operating income of $0.5 million for the prior year third quarter.

 

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Support Services

Support services segment net revenues for the three months ended September 30, 2012 increased approximately by $0.1 million, or 16.7%, to $0.7 million as compared to $0.6 million for the three months ended September 30, 2011. The increase in revenues was primarily a result of an additional client and Sybaris acquisition.

Salaries, wages and benefits for the three months ended September 30, 2012 increased approximately $1.3 million to $1.8 million from $0.5 million for the three months ended September 30, 2011. As a percentage of revenues, salaries, wages and benefits increased to 262.6% in the three months ended September 30, 2012 from 77.7% in the three months ended September 30, 2011. The increase in the salaries, wages and benefits rate was primarily due to the cost of living adjustments and additional employees.

General and administrative expenses for the three months ended September 30, 2012 increased approximately $0.1 million to $0.2 million from $0.1 million for the three months ended September 30, 2011. As a percentage of revenues, G&A expenses increased to 24.9% in the three months ended September 30, 2012 from 13.3% in the three months ended September 30, 2011 due to higher expense related to Sybaris entity.

Depreciation and amortization expense for the three months ended September 30, 2012 increased by $120,620 to $129,120 as compared to $8,500 for the three months ended September 30, 2011. The increase in depreciation and amortization expense primarily resulted from the amortization expense of customer relationship, tradename and software which obtained from the final valuation report for the acquisition in June 2012.

Operating income of the support services segment was approximately $0.3 million for the current year third quarter, as compared to the operating income of $0.05 million for the prior year third quarter. The operating income was driven by increase in the acquisition of Sybaris and a new client as compared to the prior quarter period.

 

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Nine Months Ended September 30, 2012 Compared to Nine Months Ended September 30, 2011

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

 

     Nine Months Ended September 30, (1)        
     2012     2011        
     Amount     % of Revenues     Amount     % of Revenues     Variance  

Revenues

          

Hospital

   $ 76,668,853        91.1   $ 51,941,754        96.2   $ 24,727,099   

Senior living

     5,930,064        7.0        1,877,179        3.5        4,052,885   

Support services

     1,581,606        1.9        168,279        0.3        1,413,327   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total Revenues

     84,180,523        100.0        53,987,212        100.0        30,193,311   

Operating expenses

          

Salaries, wages and benefits

     27,466,450        32.6        21,211,247        39.3        6,255,203   

Medical supplies

     11,612,638        13.8        9,663,453        17.9        1,949,185   

Management fees (includes related party fees of $461,814 for the nine months ended 2011)

     —          —          4,105,767        7.6        (4,105,767

General and administrative expenses (includes related party expenses of $1,054,340 and $4,129,789, respectively)

     19,117,554        22.7        12,542,252        23.2        6,575,302   

Gain on extinguishment of liabilities

     (3,521,879     (4.2     (3,411,479     (6.3     (110,400

Depreciation and amortization (includes related party expenses of $513,870 for each of the nine months ended 2012 and 2011)

     5,938,840        7.1        5,624,132        10.4        314,708   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

     60,613,603        72.0        49,735,372        92.1        10,878,231   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating income

     23,566,920        28.0        4,251,840        7.9        19,315,080   

Other income (expense)

          

Interest expense, net of interest income of $60,000 each for the nine months ended (includes related party interest expense of $1,734,144 and $1,815,568, respectively)

     (4,187,121     (5.0     (3,574,146     (6.6     (612,975

Other income

     (381,026     (0.5     —          —          (381,026

Direct investor expense

     (5,558,963     (6.6     —          —          (5,558,963

Change in fair market value of derivatives

     (4,256,980     (5.1     —          —          (4,256,980
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income before income tax

     9,182,830        10.9        677,694        1.3