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Gentiva Health Services 10-K 2009
Form 10-K
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-K

 

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

For the fiscal year ended December 28, 2008

Commission File No. 1-15669

GENTIVA HEALTH SERVICES, INC.

(Exact name of registrant as specified in its charter)

 

DELAWARE   36-4335801
(State or other jurisdiction of incorporation or organization)   (I.R.S. Employer Identification No.)

3350 Riverwood Parkway, Suite 1400, Atlanta, GA 30339-3314

(Address of principal executive offices) (Zip Code)

Registrant’s telephone number, including area code: (770) 951-6450

Securities registered pursuant to Section 12(b) of the Act:

 

Title of each class

 

Name of each exchange on which registered

Common Stock, par value $.10 per share

  The NASDAQ Stock Market LLC

Securities registered pursuant to Section 12(g) of the Act: None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes  ¨    No  x

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.    Yes  ¨    No  x

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

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in PART III of this Form 10-K or any amendment to this Form 10-K.  x

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company (as defined in Exchange Act Rule 12b-2).

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 Exchange Act Rule 12b-2). Yes  ¨    No  x

The aggregate market value of the registrant’s common stock held by non-affiliates of the registrant as of June 27, 2008, the last business day of registrant’s most recently completed second fiscal quarter, was $503,427,550 based on the closing price of the common stock on The Nasdaq Global Select Market on such date.

The number of shares outstanding of the registrant’s common stock, as of March 6, 2009, was 29,130,435.

DOCUMENTS INCORPORATED BY REFERENCE

Certain information to be included in the registrant’s definitive Proxy Statement, to be filed not later than 120 days after the end of the fiscal year covered by this Report, for the registrant’s 2009 Annual Meeting of Shareholders is incorporated by reference into PART III.

 

 

 


Table of Contents

PART I

 

Item 1. Business

As used in this annual report on Form 10-K, the terms “we,” “us,” “our,” the “Company” and “Gentiva” refer to Gentiva Health Services, Inc.

Special Caution Regarding Forward-Looking Statements

Certain statements contained in this annual report on Form 10-K, including, without limitation, statements containing the words “believes,” “anticipates,” “intends,” “expects,” “assumes,” “trends” and similar expressions, constitute “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements are based upon the Company’s current plans, expectations and projections about future events. However, such statements involve known and unknown risks, uncertainties and other factors that may cause the actual results, performance or achievements of the Company to be materially different from any future results, performance or achievements expressed or implied by such forward-looking statements. These factors include, among others, the following:

 

   

general economic and business conditions;

 

   

demographic changes;

 

   

changes in, or failure to comply with, existing governmental regulations;

 

   

legislative proposals for healthcare reform;

 

   

changes in Medicare and Medicaid reimbursement levels;

 

   

effects of competition in the markets in which the Company operates;

 

   

liability and other claims asserted against the Company;

 

   

ability to attract and retain qualified personnel;

 

   

ability to access capital markets;

 

   

availability and terms of capital;

 

   

loss of significant contracts or reduction in revenues associated with major payer sources;

 

   

ability of customers to pay for services;

 

   

business disruption due to natural disasters or terrorist acts;

 

   

ability to successfully integrate the operations of acquisitions the Company may make and achieve expected synergies and operational efficiencies within expected time-frames;

 

   

effect on liquidity of the Company’s debt service requirements; and

 

   

changes in estimates and judgments associated with critical accounting policies and estimates.

For a detailed discussion of these and other factors that could cause the Company’s actual results to differ materially from the results contemplated by the forward-looking statements, please refer to Item 1A “Risk Factors” and Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and elsewhere in this report. The reader should not place undue reliance on forward-looking statements, which speak only as of the date of this report. Except as required under the federal securities laws and the rules and regulations of the Securities and Exchange Commission (“SEC”), the Company does not have any intention or obligation to publicly release any revisions to forward-looking statements to reflect unforeseen or other events after the date of this report. The Company has provided a detailed discussion of risk factors within this annual report on Form 10-K and various filings with the SEC. The reader is encouraged to review these risk factors and filings.

 

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Introduction

Gentiva® Health Services, Inc. (“Gentiva” or the “Company”) provides comprehensive home health services throughout most of the United States. The Company conducts its operations through (i) its Home Health business segment, (ii) various smaller operating segments, including hospice, respiratory and home medical equipment (“HME”), infusion therapy services and consulting, which are classified in the aggregate as “All Other” for segment reporting purposes and (iii) prior to September 25, 2008, its CareCentrix business segment. See Note 16 to the Company’s consolidated financial statements included in this report for a description of the Company’s operating segments and financial information about its reportable business segments.

Gentiva was incorporated in the state of Delaware on August 6, 1999 and became a publicly owned company on March 15, 2000 as a result of the issuance of the common stock of the Company to the stockholders of Olsten Corporation (“Olsten”), the former parent corporation of the Company (the “Split-Off”). Prior to the Split-Off, all of the assets and liabilities of Olsten’s health services business, formerly known as Olsten Health Services, were transferred to the Company pursuant to a separation agreement and other agreements among Gentiva, Olsten and Adecco SA.

On February 28, 2006, the Company completed the acquisition of The Healthfield Group, Inc. (“Healthfield”), a regional provider of home healthcare, hospice and related services with approximately 130 locations primarily in eight southeastern states. Besides strengthening and expanding the Company’s presence in the southeast United States, the acquisition of Healthfield significantly helped diversify the Company’s business mix, provide a meaningful platform for the Company to enter the hospice business and expand its specialty programs.

On September 25, 2008, the Company completed the disposition of 69 percent of its equity interest in the Company’s CareCentrix ancillary care benefit management business for total consideration of approximately $135 million. See Note 3 to the Company’s consolidated financial statements included in this report for additional information.

Business Segments

The Company has identified two business segments for reporting purposes: Home Health and, prior to September 25, 2008, CareCentrix. The Company’s smaller operating segments, including hospice, respiratory and HME, infusion therapy services and consulting are classified in the aggregate as “All Other” for segment reporting purposes. On September 25, 2008, the Company completed the sale of a majority interest in its CareCentrix ancillary care benefit management business. See Note 3 to the Company’s consolidated financial statements included in this report. The All Other segment encompasses the Company’s hospice, respiratory therapy and HME, infusion therapy and consulting services businesses. This presentation aligns financial reporting with the manner in which the Company manages its business operations with a focus on the strategic allocation of resources and separate branding strategies among the business segments.

Financial information with respect to the business segments, including their contributions to net revenues and operating income for each of the three years in the period ended December 28, 2008, is contained under “Results of Operations” in Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and in Note 16 “Business Segment Information” to our consolidated financial statements in Item 8 “Financial Statements and Supplementary Data.”

Home Health

The Home Health segment is comprised of direct home nursing and therapy services operations, including the specialty programs described below. As of December 28, 2008, our Home Health segment conducted its business through more than 300 locations.

 

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The Company’s direct home nursing and therapy services operations are conducted through licensed and Medicare-certified agencies located in 39 states, from which the Company provides various combinations of skilled nursing and therapy services, paraprofessional nursing services and homemaker services generally to adult and elderly patients. Reimbursement sources include government programs, such as Medicare and Medicaid, and private sources, such as health insurance plans, managed care organizations, long term care insurance plans and personal funds. Gentiva’s direct home nursing and therapy services operations are organized in two divisions, each staffed with clinical, operational and sales teams. Each division is separated into four regions, which are further separated into operating areas. Each operating area includes branch locations through which home healthcare agencies operate. Each agency is led by a director and is staffed with clinical and administrative support staff as well as clinical associates who deliver direct patient care. The clinical associates are employed on either a full-time basis or are paid on a per visit, per shift, per diem or per hour basis.

The Company’s direct home nursing and therapy services operations also deliver services to its customers through focused specialty programs that include:

 

   

Gentiva Orthopedics, which provides individualized home orthopedic rehabilitation services to patients recovering from joint replacement or other major orthopedic surgery;

 

 

 

Gentiva Safe Strides®, which provides therapies for patients with balance issues who are prone to injury or immobility as a result of falling;

 

   

Gentiva Cardiopulmonary, which helps patients and their physicians manage heart and lung health in a home-based environment;

 

   

Gentiva Neurorehabilitation, which helps patients who have experienced a neurological injury or condition by removing the obstacles to healing in the patient’s home; and

 

   

Gentiva Senior Health, which addresses the needs of patients with age-related diseases and issues to effectively and safely stay in their homes.

Through its Rehab Without Walls® unit, the Company also provides home and community-based neurorehabilitation therapies for patients with traumatic brain injury, cerebrovascular accident injury and acquired brain injury, as well as a number of other complex rehabilitation cases.

CareCentrix

Prior to September 25, 2008, the CareCentrix segment encompassed Gentiva’s ancillary care benefit management and the coordination of integrated homecare services for managed care organizations and health benefit plans. CareCentrix operations provided an array of administrative services and coordinated the delivery of home nursing services, acute and chronic infusion therapies, HME, respiratory products, orthotics and prosthetics, and services for managed care organizations and health benefit plans. CareCentrix coordinated these administrative services within three regional care centers and delivered the services through an extensive nationwide network of credentialed provider locations in all 50 states.

CareCentrix accepted case referrals from a wide variety of sources, verified eligibility and benefits and transferred case requirements to the providers for services to the patient. CareCentrix provided services to its customers, including the fulfillment of case requirements, care management, provider credentialing, eligibility and benefits verification, data reporting and analysis, and coordinated centralized billing for all authorized services provided to the customer’s enrollees. Contracts within CareCentrix were structured as fee-for-service, whereby a payer was billed on a per usage basis according to a fee schedule for various services, or as at-risk capitation, whereby the payer remitted a monthly payment to CareCentrix based on the number of members enrolled in the health plans under the capitation agreement, subject to certain limitations and coverage guidelines.

 

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All Other

Hospice

Hospice serves terminally ill patients in the southeast United States. Comprehensive management of the healthcare services and products needed by hospice patients and their families are provided through the use of an interdisciplinary team. Depending on a patient’s needs, each hospice patient is assigned an interdisciplinary team comprised of a physician, nurse(s), home health aide(s), medical social worker(s), chaplain, dietary counselor and bereavement coordinator, as well as other care professionals. Hospice services are provided primarily in the patient’s home or other residence, such as an assisted living residence or nursing home, or in a hospital. The Medicare hospice benefit is designed for patients expected to live six months or less. Hospice services for a patient can continue, however, for more than six months, so long as the patient remains eligible as reflected by a physician’s certification.

Respiratory Therapy and Home Medical Equipment

Respiratory therapy and HME services are provided to patients at home through branch locations primarily in the southeast United States. Patients are offered a broad portfolio of products and services that serve as an adjunct to traditional home health nursing and hospice care. Respiratory therapy services are provided to patients who suffer from a variety of conditions including asthma, chronic obstructive pulmonary diseases, cystic fibrosis and other respiratory conditions. HME includes hospital beds, wheelchairs, ambulatory aids, bathroom aids, patient lifts and rehabilitation equipment.

Infusion Therapy

Infusion therapy is provided to patients at home through pharmacy locations in the southeast United States. Infusion therapy serves as a complement to the Company’s traditional service offerings, providing clients with a comprehensive home health provider while diversifying the Company’s revenue base. Services provided include: (i) enteral nutrition, (ii) antibiotic therapy, (iii) total parenteral nutrition, (iv) pain management, (v) chemotherapy, (vi) patient education and training and (vii) nutrition management.

Consulting

The Company provides consulting services to home health agencies through its Gentiva Consulting unit. These services include billing and collection activities, on-site agency support and consulting, operational support and individualized strategies for reduction of days sales outstanding.

Payers

Segment revenue mix by major payer classifications is as follows:

 

     Fiscal Year  
     2008     2007     2006  
     Home
Health
    All
Other
    Home
Health
    All
Other
    Home
Health
    All
Other
 

Medicare

   69 %   53 %   67 %   50 %   61 %   51 %

Medicaid and Local Government

   13     17     16     20     20     21  

Commercial Insurance and Other:

            

Paid at episodic rates

   5     —       3     —       1     —    

Other

   13     30     14     30     18     28  
                                    

Total net revenues

   100 %   100 %   100 %   100 %   100 %   100 %
                                    

Net revenues for the CareCentrix segment were 100 percent attributable to the Commercial Insurance and Other payer group.

 

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CareCentrix is a party to a contract with Cigna, pursuant to which CareCentrix provided or contracted with third-party providers to provide various homecare services including direct home nursing and related services, home infusion therapies and certain other specialty medical equipment to patients insured by Cigna. For fiscal years 2008, 2007, and 2006, Cigna accounted for approximately 81 percent, 82 percent and 81 percent, respectively, of CareCentrix total net revenues, which in turn represented approximately 15 percent, 19 percent and 20 percent, respectively, of the Company’s total net revenues. No other commercial payer accounts for 10 percent or more of the Company’s total net revenues. Net revenues from commercial payers are primarily generated under fee for service contracts, which are traditionally one year in term and renewable automatically on an annual basis, unless terminated by either party.

Trademarks

The Company has various trademarks registered with the U.S. Patent and Trademark Office, including CASEMATCH®, CROSS IN CIRCLE DESIGN®, GENTIVA®, GENTIVA AND BUTTERFLY DESIGN®, GENTIVA AND CROSS IN CIRCLE DESIGN®, GENTIVA UNIVERSITY®, GREAT HEALTHCARE HAS COME HOME® , HEALTHFIELD®, LIFESMART®, REHAB WITHOUT WALLS® and SAFE STRIDES®. Certain of the Company’s subsidiaries operate under trade names, including GILBERT’S(SM), MID-SOUTH(SM), PHYSICIANS HOME HEALTH CARE(SM), TAR HEEL(SM), TOTAL CARE(SM) and WIREGRASS(SM).

A federally registered trademark in the United States is effective for ten years subject only to a required filing and the continued use of the mark by the Company, with the right of perpetual renewal. A federally registered trademark provides a presumption of validity and ownership of the mark by the Company in connection with its goods or services and constitutes constructive notice throughout the United States of such ownership. A registration also provides nationwide trademark rights as of the filing date of the application. Management believes that the Company’s name and trademarks are important to its operations and intends to continue to renew its trademark registrations.

Business Environment

Factors that the Company believes have contributed and will contribute to the development of its Home Health and All Other business segments include:

 

   

recognition that home health services can be a cost-effective alternative to more expensive institutional care;

 

   

aging demographics;

 

   

changing family structures in which more aging people will be living alone and may be in need of assistance;

 

   

increasing consumer and physician awareness and interest in home health services;

 

   

the psychological benefits of recuperating from an illness or accident or receiving care for a chronic condition in one’s own home;

 

   

clinical specialization; and

 

   

medical and technological advances that allow more health care procedures and monitoring to be provided at home.

Marketing and Sales

Home Health and All Other. In general, the Company’s home health and all other services businesses obtain patients and clients through personal and corporate sales presentations, telephone marketing calls, direct mail solicitation, referrals from other clients and advertising in a variety of local and national media, including the Yellow Pages, newspapers, magazines, trade publications and radio. The Company maintains a dedicated sales

 

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force responsible for generating local, regional and national referrals, as well as an Internet website (www.gentiva.com) that describes the Company, its services and products. Marketing efforts also involve personal contact with physicians, hospital discharge planners and case managers for managed healthcare programs, such as those involving health maintenance organizations and preferred provider organizations, insurance company representatives and employers with self-funded employee health benefit programs. Referral sources for hospice services also include nursing homes, assisted living facilities, community social service organizations and faith-based organizations.

Competitive Position

Home Health. The home health services industry in which the Company operates is highly competitive and fragmented. Home healthcare providers range from facility-based (hospital, nursing home, rehabilitation facility, government agency) agencies to independent companies to visiting nurse associations and nurse registries. They can be not-for-profit organizations or for-profit organizations. In addition, there are relatively few barriers to entry in some of the home health services markets in which the Company operates. Besides several publicly-held companies, the Company’s primary competitors for its home healthcare business are hospital-based home health agencies, local home health agencies and visiting nurse associations. Based on information contained in the Centers for Medicare & Medicaid Services (“CMS”) website, a government website containing information on the home healthcare market in 2007, the Company believes its home health services business holds approximately a 2 percent market share. The Company competes with other home healthcare providers on the basis of availability of personnel, quality and expertise of services and the value and price of services. The Company believes that it has a favorable competitive position, attributable mainly to the consistently high quality and targeted services it has provided over the years to its patients, as well as to its screening and evaluation procedures and training programs for clinical associates who provide direct care to patients.

The Company expects that industry forces will impact it and its competitors. The Company’s competitors will likely strive to improve their service offerings and price competitiveness in non-government reimbursed programs. The Company also expects its competitors to develop new strategic relationships with providers, referral sources and payers, which could result in increased competition. The introduction of new and enhanced services, acquisitions and industry consolidation and the development of strategic relationships by the Company’s competitors could cause a decline in sales or loss of market acceptance of the Company’s services or price competition, or make the Company’s services less attractive.

All Other. The hospice care industry is very competitive and fragmented. The Company competes with not-for-profit and charity-funded hospice programs that may have strong ties to their local medical communities and with for-profit programs that may have significantly greater financial and marketing resources than the Company has. The Company also competes with a number of hospitals, nursing homes, long-term care facilities, home health agencies and other healthcare providers that offer hospice care or “hospice-like” care to patients who are terminally ill.

The respiratory therapy, HME and infusion therapy markets in which the Company operates are also highly competitive. The Company competes with a limited number of national providers and numerous regional and local providers on the basis of quality, value and price of its services. Many of these competitors have substantially greater financial and marketing resources than Gentiva has.

Source and Availability of Personnel

Home Health and All Other. To maximize the cost effectiveness and productivity of clinical associates, the Company utilizes customized processes and procedures that have been developed and refined over the years. Personalized matching to recruit and select applicants who fit the patients’ individual needs is achieved through initial applicant profiles, personal interviews, skill evaluations and background and reference checks. The Company utilizes its proprietary CaseMatch® software scheduling program, which gives local Company offices the ability to identify those clinical associates who can be assigned to patient cases.

 

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Clinical associates are recruited through a variety of sources, including advertising in local and national media, job fairs, solicitations on websites, direct mail and telephone solicitations, as well as referrals obtained directly from clients and other caregivers. Clinical associates are paid on a per visit, per shift, per hour or per diem basis, or are employed on a full-time salaried basis. The Company, along with its competitors, is currently experiencing a shortage of licensed professionals, which could have a material adverse effect on the Company’s business.

Number of Persons Employed

At December 28, 2008 and December 30, 2007, the Company employed approximately 4,300 and 4,200 full-time administrative and sales associates, respectively. The Company also employs clinical associates on both a salaried and pay-per-visit basis, who are also eligible for benefits, as follows:

 

     Fiscal Year
     2008    2007

Home Health:

     

Salaried

   1,700    1,800

Pay per visit

   2,350    1,250
         

Total Home Health

   4,050    3,050

All Other

   600    600
         

Total

   4,650    3,650
         

In addition, the Company employs clinical associates on a temporary basis, as needed, to provide home health services. In fiscal 2008, the average number of temporary clinical associates employed on a weekly basis in the Company’s home health and all other business was approximately 6,500, compared to approximately 7,600 in fiscal 2007. The Company believes that its relationships with its employees are generally good.

Government Regulations

The Company’s business is subject to extensive federal, state and, in some instances, local regulations which govern, among other things:

 

   

Medicare, Medicaid, TRICARE (the Department of Defense’s managed healthcare program for military personnel and their families) and other government-funded reimbursement programs;

 

   

reporting requirements, certification and licensing standards for certain home health agencies and hospice; and

 

   

in some cases, certificate-of-need requirements.

The Company’s compliance with these regulations may affect its participation in Medicare, Medicaid, TRICARE and other federal and state healthcare programs. For example, to participate in the Medicare program, a Medicare beneficiary must be under the care of a physician, have an intermittent need for skilled nursing or physical or other therapy care, must be homebound and must receive home healthcare services from a Medicare certified home healthcare agency. The Company is also subject to a variety of federal and state regulations which prohibit fraud and abuse in the delivery of healthcare services. These regulations include, among other things:

 

   

prohibitions against the offering or making of direct or indirect payments to actual or potential referral sources for obtaining or influencing patient referrals;

 

   

rules generally prohibiting physicians from making referrals under Medicare for clinical services to a home health agency with which the physician or his or her immediate family member has certain types of financial relationships;

 

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laws against the filing of false claims; and

 

   

laws against making payment or offering items of value to patients to induce their self-referral to the provider.

As part of the extensive federal and state regulation of the home health services business, the Company is subject to periodic audits, examinations and investigations conducted by, or at the direction of, governmental investigatory and oversight agencies. Periodic and random audits conducted or directed by these agencies could result in a delay in receipt or an adjustment to the amount of reimbursements due or received under Medicare, Medicaid, TRICARE and other federal health programs. Violation of the applicable federal and state healthcare regulations can result in excluding a healthcare provider from participating in the Medicare, Medicaid and/or TRICARE programs and can subject the provider to substantial civil and/or criminal penalties.

The Prospective Payment System (“PPS”) for reimbursement of Medicare-certified home health services was initially implemented on October 1, 2000. Although there were few structural changes in the reimbursement methodology from the implementation date of PPS through fiscal 2007, there were periodic adjustments to reimbursement rates during this period. In August 2007, CMS issued its final rule that contained the first significant refinements to the home health PPS system since its initial implementation. Changes to the PPS system resulting from the rule, which became effective January 1, 2008, included among other things, a multi-year reduction in the home health system payment rates to offset coding changes since the original implementation of PPS in 2000 and rate update for calendar year 2008. In October 2008, CMS provided for a 2.9 percent market basket index update, effective January 1, 2009.

Medicare reimbursement rates for hospice services increased by 3.4 percent effective October 1, 2006, increased 3.3 percent effective October 1, 2007 and increased 2.5 percent for fiscal 2009. As a result of the economic stimulus package enacted by Congress in 2009, the fiscal 2009 updated increase for hospices serving Medicare beneficiaries will change from 2.5 percent to 3.6 percent, retroactive to October 1, 2008. Effective January 1, 2009, CMS implemented a 9.5 percent reduction in rates on certain HME.

In late February 2009, President Barack Obama released the outline of his proposed fiscal 2010 budget for the United States. The budget outline included, among other things, a provision to create a reserve fund to pay for a portion of the cost of reforming the country’s health care system. The budget outline indicated that a portion of the reserve would be funded through “improvements in Medicare home health payments to align with costs.” This provision, if enacted, could have a negative impact on Medicare reimbursement commencing in 2010. Further details of the President’s budget proposal are expected to be provided at a later date.

 

Seasonality

During the third fiscal quarter, the Company has historically experienced a moderate seasonal decline in volume as well as a decline in gross margins for its home health services, due to increased labor costs associated with higher utilization of paid time off by the Company’s clinical associates during this period.

Available Information

The Company’s Internet address is www.gentiva.com. The Company makes available free of charge on or through its Internet website its annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to those reports, filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as soon as reasonably practicable after such material has been filed with, or furnished to, the SEC. The Company also makes available on or through its website its press releases, an investor presentation, Section 16 reports and certain corporate governance documents as well as other information about the Company and health information useful to consumers.

 

Item 1A. Risk Factors

This annual report on Form 10-K contains forward-looking statements which involve a number of risks, uncertainties and assumptions, as discussed in more detail above under Item 1 “Business—Special Caution Regarding Forward-Looking Statements.” Actual results could differ materially from those discussed in the forward-looking statements. Factors that could cause actual results to differ materially include, without limitation, the risk factors discussed below and elsewhere in this annual report.

 

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Risks Related to Gentiva’s Business and Industry

Our growth strategy may not be successful.

The future growth of our business and our future financial performance will depend on, among other things, our ability to increase our revenue base through a combination of internal growth and strategic ventures, including acquisitions. Future revenue growth cannot be assured, as it is subject to various risk factors, including:

 

   

the effects of competition;

 

   

the uncertainty of Medicare, Medicaid and private health insurance reimbursement;

 

   

our ability to generate new and retain existing contracts with major payer sources;

 

   

our ability to attract and retain qualified personnel, especially in a business environment experiencing a shortage of clinical professionals;

 

   

our ability to identify, negotiate and consummate desirable acquisition opportunities on reasonable terms; and

 

   

our ability to integrate effectively and retain the business acquired by us through acquisitions we have made or may make.

Competition among home healthcare companies is intense.

The home health services industry is highly competitive. We compete with a variety of other companies in providing home health services, some of which may have greater financial and other resources and may be more established in their respective communities. Competing companies may offer newer or different services from those offered by us and may thereby attract customers who are presently receiving our home health services.

The cost of healthcare is funded substantially by government and private insurance programs. If this funding is reduced or becomes limited or unavailable to our customers, our business may be adversely impacted.

Third-party payers include Medicare, Medicaid and private health insurance providers. Third-party payers are increasingly challenging prices charged for healthcare services. We cannot assure you that our services will be considered cost-effective by third-party payers, that reimbursement will be available or that payers’ reimbursement policies will not have a material adverse effect on our ability to sell our services on a profitable basis, if at all. We cannot control reimbursement rates, including Medicare market basket or other rate adjustments, or policies for a significant portion of our business.

Possible changes in the case mix of patients, as well as payer mix and payment methodologies, may have a material adverse effect on our profitability.

The sources and amounts of our patient revenues will be determined by a number of factors, including the mix of patients and the rates of reimbursement among payers. Changes in the case mix of the patients as well as payer mix among private pay, Medicare and Medicaid may significantly affect our profitability. In particular, any significant increase in our Medicaid population or decrease in Medicaid payments could have a material adverse effect on our financial position, results of operations and cash flow, especially if states operating these programs continue to limit, or more aggressively seek limits on, reimbursement rates or service levels.

Further consolidation of managed care organizations and other third-party payers may adversely affect our profits.

Managed care organizations and other third-party payers have continued to consolidate in order to enhance their ability to influence the delivery of healthcare services. Consequently, the healthcare needs of a large percentage of the United States population are increasingly served by a smaller number of managed care

 

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organizations. These organizations generally enter into service agreements with a limited number of providers for needed services. To the extent that such organizations terminate us as a preferred provider and/or engage our competitors as a preferred or exclusive provider, our business could be adversely affected. In addition, private payers, including managed care payers, could seek to negotiate additional discounted fee structures or the assumption by healthcare providers of all or a portion of the financial risk through prepaid capitation arrangements, thereby potentially reducing our profitability.

Gentiva and the healthcare industry continue to experience shortages in qualified home health service employees and management personnel.

We compete with other healthcare providers for our employees, both clinical associates and management personnel. As the demand for home health services continues to exceed the supply of available and qualified staff, we and our competitors have been forced to offer more attractive wage and benefit packages to these professionals. Furthermore, the competitive arena for this shrinking labor market has created turnover as many seek to take advantage of the supply of available positions, each offering new and more attractive wage and benefit packages. In addition to the wage pressures inherent in this environment, the cost of training new employees amid the turnover rates may cause added pressure on our operating margins.

An economic downturn, state budget pressures, rising unemployment and continued deficit spending by the federal government may result in a reduction in reimbursement and covered services.

An economic downturn can have a detrimental effect on our revenues. Historically, state budget pressures have translated into reductions in state spending. Given that Medicaid outlays are a significant component of state budgets, we can expect continuing cost containment pressures on Medicaid outlays for our services in the states in which we operate. In addition, an economic downturn, coupled with increased unemployment, may also impact the number of enrollees in managed care programs as well as the profitability of managed care companies, which could result in reduced reimbursement rates.

The existing federal deficit, as well as deficit spending by the government as the result of adverse developments in the economy, the war in Iraq or other reasons, can lead to continuing pressure to reduce government expenditures for other purposes, including governmentally funded programs in which we participate, such as Medicare and Medicaid. Such actions in turn may adversely affect our results of operations.

We may experience disruption to our business and operations from the effects of natural disasters or terrorist acts.

The occurrence of natural disasters, terrorist acts or “mass illnesses” such as the pandemic flu, and the erosion to our business caused by such an occurrence, may adversely impact our profitability. In the affected areas, our offices may be forced to close for limited or extended periods of time, and we may face a reduced supply of clinical associates.

We may experience adverse operational impact or incur substantial expenses related to the integration of companies we may acquire.

We will incur expenses in connection with the integration of the business, policies, procedures, operations, technologies and systems of companies we may acquire. There may be a large number of systems that must be integrated with those of Gentiva, including information management, purchasing, operations, accounting and finance, sales, billing, payroll and benefits, fixed asset and lease administration systems and regulatory compliance. While we may assume that a certain amount of expenses would be incurred, factors beyond our control can affect the total amount or the timing of all of the integration expenses. These expenses could exceed the savings that we expect to achieve from the elimination of duplicative expenses and the realization of economies of scale and cost and revenue synergies related to the integration of the businesses following an acquisition. Failure to properly integrate acquired systems could cause business disruptions that may materially impact our financial results and operations.

 

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If an impairment of goodwill or intangible assets were to occur, our earnings would be negatively impacted.

Goodwill and intangible assets represent a significant portion of our assets as a result of acquisitions. Goodwill and intangible assets amount to $308.2 million and $250.4 million, respectively, at December 28, 2008. For fiscal year 2008, through September 24, 2008, the Company identified three business segments for reporting purposes and has assigned these segments the appropriate amounts of goodwill and intangible assets based upon allocations of the purchase prices of individual acquisition transactions. As described in the notes to the financial statements, these assigned values are reviewed on an annual basis or at the time events or circumstances indicate that the carrying amount of an asset may not be recoverable. Should business conditions or other factors deteriorate and negatively impact the estimated realizable value of future cash flows of these business segments, we could be required to write off a substantial portion of our assets. Depending upon the magnitude of the write off, our results of operations could be negatively affected.

If we must write off a significant amount of long-lived assets, our earnings will be negatively impacted.

We have long-lived assets consisting of fixed assets, which include software development costs related to various information technology systems, including a new clinical management system. As of December 28, 2008, the information technology systems have not been placed into a fully operational production environment, and therefore these costs are not yet being depreciated. The net carrying value of fixed assets amounted to $63.8 million at December 28, 2008, of which $31.8 million related to capitalized software costs. We review these amounts on an annual basis or at the time events or circumstances indicate that the carrying amount of an asset may not be recoverable. If a determination that a significant impairment in value of our unamortized long-lived assets occurs, such determination could require us to write off a substantial portion of our assets. Depending upon the magnitude of the write off, our results of operations could be negatively affected.

There are risks of business disruption and cost overruns associated with new business systems and technology initiatives.

During 2009, we expect to complete the development and commence the implementation of a new clinical management system for use in our Home Health business. This system will involve the use of handheld devices by our clinical associates who are providing care to our patients. The continued development and rollout of this system involves substantial costs relating to salaries and benefits, consulting, travel and training costs. Development and implementation costs in excess of expectations or failure of new systems and other technology initiatives to operate in accordance with expectations could have a material adverse impact on our financial results and operations.

We invest in securities that are subject to market risk, and the recent issues in the financial markets could adversely affect the value of our assets.

At December 28, 2008, $11.1 million of our investments were invested in AAA rated investments in auction-rate debt securities (“ARS”). ARSs are variable-rate debt securities. ARSs have a long-term maturity with the interest rate being reset every 7, 28 or 35 days. The securities trade at par and are callable at par on any interest payment date at the option of the issuer. Interest is paid at the end of each auction period. Prior to February 2008, the auction rate securities market was highly liquid. Commencing in February 2008, a substantial number of auctions “failed,” meaning that there was not enough demand to sell the entire issue at auction. The immediate effect of a failed auction is that holders cannot sell the securities and will not be able to access these funds without a loss of principal, unless a future auction on these investments is successful. If the issuers are unable to successfully close future auctions and their credit ratings deteriorate, the Company may in the future be required to record impairment charges on these investments. See Notes 2 and 4 to our consolidated financial statements included in this report.

 

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We have incurred significant indebtedness and may incur additional indebtedness, which can affect our liquidity.

At the end of fiscal 2008, our indebtedness under the senior term loan under our credit facility was $251 million. As a result of this indebtedness and additional indebtedness we may incur, demands on our cash resources have increased, which could affect our liquidity and, therefore, could have important effects on an investment in our common stock.

A prolonged disruption of the capital and credit markets may adversely affect our future access to capital and our cost of capital.

The recent extreme volatility and disruption of the capital and credit markets in the United States have adversely affected the access to capital and increased the cost of capital. We have used the capital and credit markets for liquidity and to execute our business strategies, which include increasing our revenue base through a combination of internal growth and strategic ventures, including acquisitions. We believe that we have adequate capital and liquidity to conduct any foreseeable initiatives that may develop over the near term; however, if the current economic and market conditions continue or deteriorate further, our future cost of debt or equity capital and future access to capital markets may be adversely affected.

The agreement governing our term loan and revolving credit facility contains, and future debt agreements may contain, various covenants that limit our discretion in the operation of our business.

Our agreement and instruments governing the term loan and revolving credit facility contain, and the agreements and instruments governing any future debt agreements of ours may contain, various restrictive covenants that, among other things, require us to comply with or maintain certain financial tests and ratios and restrict our ability to:

 

   

incur more debt;

 

   

redeem or repurchase stock, pay dividends or make other distributions;

 

   

make certain investments;

 

   

create liens;

 

   

enter into transactions with affiliates;

 

   

make acquisitions;

 

   

merge or consolidate;

 

   

transfer or sell assets; and

 

   

make fundamental changes in our corporate existence and principal business.

In addition, events beyond our control could affect our ability to comply with and maintain the financial tests and ratios. Any failure by us to comply with or maintain all applicable financial tests and ratios and to comply with all applicable covenants could result in an event of default with respect to our term loan and revolving credit facility or future debt agreements. This could lead to the acceleration of the maturity of our outstanding loans and the termination of the commitments to make further extensions of credit. If we were unable to repay debt to our senior lenders, these lenders could proceed against the collateral securing that debt. Even if we are able to comply with all applicable covenants, the restrictions on our ability to operate our business at our sole discretion could harm our business by, among other things, limiting our ability to take advantage of financing, mergers, acquisitions and other corporate opportunities.

 

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We have risks related to obligations under our insurance programs.

We are obligated for certain costs under various insurance programs, including employee health and welfare, workers’ compensation and professional liability. We may be subject to workers’ compensation claims and lawsuits alleging negligence or other similar legal claims. We maintain various insurance programs to cover these risks with insurance policies subject to substantial deductibles and retention amounts. We also may be subject to exposure relating to employment law and other related matters for which we do not maintain insurance coverage. We believe that our present insurance coverage and reserves are sufficient to cover currently estimated exposures; however, should we experience a significant increase in losses resulting from workers’ compensation, professional liability or employee health and welfare claims, the resulting increase in provisions and/or required reserves could negatively affect our profitability.

Risks Related to Healthcare Regulation

Legislative and regulatory actions resulting in changes in reimbursement rates or methods of payment from Medicare and Medicaid, or implementation of other measures to reduce reimbursement for our services, may have a material adverse effect on our revenues and operating margins. Reimbursement to us for our hospice services is subject to Medicare cap amounts, which are calculated by Medicare.

In fiscal 2008, 66 percent of our total net revenues were generated from Medicare and Medicaid and Local Government programs. The healthcare industry is experiencing a trend toward cost containment, as the government seeks to stabilize or reduce reimbursement and utilization rates.

In addition, the timing of payments made under these programs is subject to regulatory action and governmental budgetary constraints. For certain Medicaid programs, the time period between submission of claims and payment has increased. Further, within the statutory framework of the Medicare and Medicaid programs, there are a substantial number of areas subject to administrative rulings and interpretations that may further affect payments made under those programs. Additionally, the federal and state governments may in the future reduce the funds available under those programs or require more stringent utilization and quality reviews of providers. Moreover, we cannot assure you that adjustments from regulatory actions or Medicare or Medicaid audits, including the payment of fines or penalties to the federal or state governments, will not have a material adverse effect on our liquidity or profitability.

Overall payments made by Medicare to us for hospice services are subject to cap amounts calculated by Medicare. Total Medicare payments to us for hospice services are compared to the cap amount for the hospice cap period, which runs from November 1 of one year through October 31 of the next year. CMS usually announces the cap amount in the month of August in the cap period and not at the beginning of the cap period. We must estimate the cap amount for the cap period before CMS announces the cap amount and are at risk if our estimate exceeds the later announced cap amount. CMS can also make retroactive adjustments to cap amounts announced for prior cap periods. Payments to us in excess of the cap amount must be returned by us to Medicare. A second hospice cap amount limits the number of days of inpatient care to not more than 20 percent of total patient care days within the cap period. Our revenues and profitability can be negatively affected if we exceed the cap amounts.

We conduct business in a heavily regulated industry, and changes in regulations and violations of regulations may result in increased costs or sanctions.

Our business is subject to extensive federal, state and, in some cases, local regulation. Compliance with these regulatory requirements, as interpreted and amended from time to time, can increase operating costs or reduce revenue and thereby adversely affect the financial viability of our business. Because these laws are amended from time to time and are subject to interpretation, we cannot predict when and to what extent liability may arise. Failure to comply with current or future regulatory requirements could also result in the imposition of various remedies, including fines, the revocation of licenses or decertification. Unanticipated increases in operating costs or reductions in revenue could adversely affect our liquidity.

 

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We are subject to periodic audits and requests for information by the Medicare and Medicaid programs or government agencies, which have various rights and remedies against us if they assert that we have overcharged the programs or failed to comply with program requirements.

The operation of our home health services business is subject to federal and state laws prohibiting fraud by healthcare providers, including laws containing criminal provisions, which prohibit filing false claims or making false statements in order to receive payment or obtain certification under Medicare and Medicaid programs, or failing to refund overpayments or improper payments. Violation of these criminal provisions is a felony punishable by imprisonment and/or fines. We may also be subject to fines and treble damage claims if we violate the civil provisions that prohibit knowingly filing a false claim or knowingly using false statements to obtain payment. State and federal governments are devoting increased attention and resources to anti-fraud initiatives against healthcare providers. The Health Insurance Portability and Accountability Act of 1996 and the Balanced Budget Act of 1997 expanded the penalties for healthcare fraud, including broader provisions for the exclusion of providers from the Medicare and Medicaid programs.

We have established policies and procedures that we believe are sufficient to ensure that we will operate in substantial compliance with these anti-fraud and abuse requirements. In April 2003, we received a subpoena from the Department of Health and Human Services, Office of the Inspector General, Office of Investigations (“OIG”). The subpoena seeks information regarding our implementation of settlements and corporate integrity agreements entered into with the government, as well as our treatment on cost reports of employees engaged in sales and marketing efforts. With respect to the cost report issues, the government has preliminarily agreed to narrow the scope of production to the period from January 1, 1998 through September 30, 2000. In February 2004, we received a subpoena from the U.S. Department of Justice (“DOJ”) seeking additional information related to the matters covered by the OIG subpoena. We have provided documents and other information requested by the OIG and DOJ pursuant to their subpoenas and similarly intend to cooperate fully with any future OIG or DOJ information requests. To our knowledge, the government has not filed a complaint against us. While we believe that our business practices are consistent with Medicare and Medicaid programs criteria, those criteria are often vague and subject to change and interpretation. The imposition of fines, criminal penalties or program exclusions could have a material adverse effect on our financial condition, results of operations and cash flows.

We are also subject to federal and state laws that govern financial and other arrangements among healthcare providers.

These laws often prohibit certain direct and indirect payments or fee-splitting arrangements between healthcare providers that are designed to encourage the referral of patients to a particular provider for medical products and services. Furthermore, some states restrict certain business relationships between physicians and other providers of healthcare services. Many states prohibit business corporations from providing, or holding themselves out as a provider of, medical care. These laws vary from state to state, are often vague and have seldom been interpreted by the courts or regulatory agencies. Possible sanctions for violation of any of these restrictions or prohibitions include loss of licensure or eligibility to participate in reimbursement programs and civil and criminal penalties.

We face additional federal requirements that mandate major changes in the transmission and retention of health information.

The Health Insurance Portability and Accountability Act of 1996 was enacted to ensure that employees can retain and at times transfer their health insurance when they change jobs and to simplify healthcare administrative processes. The enactment of HIPAA expanded protection of the privacy and security of personal medical data and required the adoption of standards for the exchange of electronic health information. Among the standards that the Secretary of Health and Human Services has adopted pursuant to HIPAA are standards for electronic transactions and code sets, unique identifiers for providers, employers, health plans and individuals, security and electronic signatures, privacy and enforcement. Although HIPAA was intended to ultimately reduce

 

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administrative expenses and burdens faced within the healthcare industry, we believe that implementation of this law has resulted in additional costs. Failure to comply with HIPAA could result in fines and penalties that could have a material adverse effect on us.

Risks Related to Our Common Stock

The market price of our common stock may be volatile and experience substantial fluctuations.

Our common stock is traded on The Nasdaq Global Select Market. The price of our common stock may substantially fluctuate based on a number of factors, including:

 

   

our operating and financial performance;

 

   

changes, or proposed changes, in government reimbursement rates and regulations;

 

   

stock market conditions generally and specifically as they relate to the home health services industry;

 

   

developments in litigation or government investigations;

 

   

changes in financial estimates and recommendations by securities analysts who follow our stock; and

 

   

economic and political uncertainties in the marketplace generally.

Significant fluctuations in the market price of our common stock may adversely affect our shareholders.

Provisions in our organizational documents, Delaware law and our rights agreement could delay or prevent a change in control of Gentiva, which could adversely affect the price of our common stock.

Provisions in our amended and restated certificate of incorporation and by-laws, anti-takeover provisions of the Delaware General Corporation Law and our rights agreement could discourage, delay or prevent an unsolicited change in control of Gentiva, which could adversely affect the price of our common stock. These provisions may also have the effect of making it more difficult for third parties to replace our current management without the consent of the board of directors. Provisions in our amended and restated certificate of incorporation and by-laws that could delay or prevent an unsolicited change in control include:

 

   

the ability of the board of directors to issue up to 25,000,000 shares of preferred stock and to determine the terms, rights and preferences of the preferred stock without shareholder approval; and

 

   

the prohibition on the right of shareholders to call meetings or act by written consent and limitations on the right of shareholders to present proposals or make nominations at shareholder meetings.

Delaware law also imposes restrictions on mergers and other business combinations between us and any holder of 15 percent or more of our outstanding common stock. In addition, we have a rights agreement that has the effect of deterring take-overs of Gentiva without the consent of the board of directors. Generally, once a party acquires 10 percent or more of our common stock, the rights agreement may cause that party’s ownership interest in us to be diluted unless the board of directors consents to the acquisition.

 

Item 1B. Unresolved Staff Comments

None.

 

Item 2. Properties

The Company’s corporate headquarters is leased and is located at 3350 Riverwood Parkway, Suite 1400, Atlanta, Georgia 30339. Other major regional administrative offices leased by the Company as of December 28, 2008 are located in Melville, New York; Overland Park, Kansas; Phoenix, Arizona; and Tampa, Florida. The Company also maintains more than 350 leases for other offices and locations on various terms expiring on various dates. In addition, Gentiva owns property in Dothan, Alabama that is used in the Company’s hospice operations.

 

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Item 3. Legal Proceedings

Litigation

In addition to the matters referenced in this Item 3, the Company is party to certain legal actions arising in the ordinary course of business, including legal actions arising out of services rendered by its various operations, personal injury and employment disputes.

Government Matters

In April 2003, the Company received a subpoena from the OIG. The subpoena seeks information regarding the Company’s implementation of settlements and corporate integrity agreements entered into with the government, as well as the Company’s treatment on cost reports of employees engaged in sales and marketing efforts. With respect to the cost report issues, the government has preliminarily agreed to narrow the scope of production to the period from January 1, 1998 through September 30, 2000. In February 2004, the Company received a subpoena from the DOJ seeking additional information related to the matters covered by the OIG subpoena. The Company has provided documents and other information requested by the OIG and DOJ pursuant to their subpoenas and similarly intends to cooperate fully with any future OIG or DOJ information requests. To the Company’s knowledge, the government has not filed a complaint against the Company. The timing and financial impact, if any, of the resolution of this matter cannot be determined at this time.

Indemnifications

Healthfield

Upon the closing of the acquisition of Healthfield on February 28, 2006, an escrow fund was created to cover potential claims by the Company after the closing. Covered claims, which are also subject to the Company’s contractual indemnification rights, include, for example, claims for breaches of representations under the acquisition agreement and claims relating to legal proceedings existing as of the closing date, taxes for the pre-closing periods and medical malpractice and workers’ compensation claims relating to any act or event occurring on or before the closing date. The escrow fund initially consisted of 1,893,656 shares of Gentiva’s common stock valued at $30 million and $5 million in cash. The first $5 million of any disbursements consist of shares of Gentiva’s common stock; the next $5 million of any disbursements consist of cash; and any additional disbursements consist of shares of Gentiva’s common stock. The escrow fund is subject to staged releases of shares of Gentiva’s common stock and cash in the escrow fund to certain principal stockholders of Healthfield, less the amount of claims the Company makes against the escrow fund. Disbursements made to the Company from the escrow fund covering interim claims the Company had made against the escrow fund are as follows (in thousands, except share amounts):

 

     Fair Value    Shares

December 29, 2006

   $ 767    47,489

June 29, 2007

     232    11,574

February 28, 2008

     972    45,229

June 25, 2008

     426    21,413

December 22, 2008

     105    3,998
           

Total

   $ 2,502    129,703
           

The Company has recorded the shares received as treasury stock in the Company’s consolidated balance sheets.

 

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Home Health Care Affiliates, Inc. and Physicians Home Health Care

The Company acquired Home Health Care Affiliates, Inc. (“HHCA”), a provider of home health and hospice services in the state of Mississippi, on February 29, 2008. Upon the closing of HHCA, an escrow fund, consisting of $8.3 million in cash, was created generally to cover potential claims by the Company after the closing. Covered claims, which are also subject to the Company’s contractual indemnification rights, include, for example, breaches of representations, warranties or covenants under the purchase agreement, taxes for pre-closing periods and claims for legal proceedings arising from any condition, act or omission occurring on or before the closing date. On May 20, 2008, $1.5 million of cash was disbursed to the Company from the escrow fund covering certain claims the Company had made against the escrow fund, and $1.3 million of cash was released from the escrow fund to owners of the selling company. The Company acquired the assets of CSMMI, Inc., d/b/a Physicians Home Health Care (“PHHC”), a provider of home health services in Colorado, effective June 1, 2008. Upon the acquisition of PHHC, the escrow fund was increased by an additional $1.2 million in cash to cover potential claims by the Company. PHHC and HHCA had common ownership interests prior to their acquisition by the Company.

CareCentrix

The Company has agreed to indemnify the Buyer Parties (as such term is defined in the Stock Purchase Agreement dated as of August 20, 2008 covering the CareCentrix Transaction) for any inaccuracy in or breach of any representation or warranty of the Company in such Stock Purchase Agreement and for any breach or nonperformance of any covenant or obligation made or incurred by the Company in such Stock Purchase Agreement. The Company has also agreed to indemnify the Buyer Parties for certain liabilities, if any, that may arise from an arbitration proceeding in which the Company and CareCentrix are parties that relates to a commercial contractual dispute. The Company’s representations and warranties, with certain exceptions, generally survive for the period of eighteen months from the closing of the CareCentrix Transaction, which occurred on September 25, 2008. With certain exceptions, the Company is generally not liable to indemnify for any inaccuracy in or breach of its representations or warranties in the Stock Purchase Agreement until the aggregate amount of claims for indemnification exceeds $1.5 million, and then, only for claims in excess of $1.5 million up to an aggregate maximum amount equal to $15 million.

Corporate Integrity Agreement

In connection with a July 19, 1999 settlement with various government agencies, Olsten Corporation, the Company’s former parent corporation, executed a corporate integrity agreement with the OIG, effective until August 18, 2004, subject to the Company’s filing of a final annual report with the OIG in form and substance acceptable to the government. The Company filed its final annual report and has received a letter dated September 30, 2008 from the OIG confirming closure of the Company’s obligations under the corporate integrity agreement.

 

Item 4. Submission of Matters to a Vote of Security Holders

No matters were submitted to a vote of security holders during the fourth quarter of fiscal 2008.

 

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Executive Officers of Gentiva

The following table sets forth certain information regarding each of the Company’s executive officers as of March 6, 2009:

 

Name

  

Executive
Officer Since

   Age   

Position and Offices with the Company

Ronald A. Malone

   2000    54    Chairman of the Board

Tony Strange

   2006    46    Chief Executive Officer, President and Chief Operating Officer and Director

John R. Potapchuk

   2001    56    Executive Vice President, Chief Financial Officer and Treasurer

John N. Camperlengo

   2008    45    Senior Vice President, Deputy General Counsel and Chief Compliance Officer

Stephen B. Paige

   2003    61    Senior Vice President, General Counsel and Secretary

Brian D. Silva

   2006    52    Senior Vice President, Human Resources

Charlotte A. Weaver

   2008    51    Senior Vice President, Chief Clinical Officer

Ronald A. Malone

Mr. Malone has served as chairman of the board of the Company since June 2002. He served as chief executive officer of the Company from June 2002 to December 2008, as executive vice president from March 2000 to June 2002 and as president of home health services from January 2001 to June 2002. Prior to joining Gentiva, he served in various positions with Olsten, including executive vice president of Olsten and president, Olsten Staffing Services, United States and Canada, from 1999 to March 2000.

Tony Strange

Mr. Strange has served as chief executive officer and a director of the Company since January 2009 and as president and chief operating officer of the Company since November 2007. He served as executive vice president of the Company and president of Gentiva Home Health from February 2006 to November 2007. From 2001 to February 2006, Mr. Strange served as president and chief operating officer of Healthfield. Mr. Strange joined Healthfield in 1990 and served in other roles such as regional manager, vice president of development and chief operating officer, until being named president in 2001.

John R. Potapchuk

Mr. Potapchuk has served as executive vice president of the Company since February 2006, as chief financial officer since June 2002 and as treasurer since August 2006. He served as senior vice president from June 2002 to February 2006 and as treasurer from June 2002 to May 2006. From June 2002 to May 2005, he served as the Company’s secretary. He served as the Company’s vice president of finance and controller from March 2000 to June 2002. He joined Olsten in 1991 and served in various corporate financial management positions with Olsten Health Services. Prior to that, Mr. Potapchuk served in senior management positions for PricewaterhouseCoopers LLP and Deloitte & Touche.

John N. Camperlengo

Mr. Camperlengo has served as senior vice president, deputy general counsel and chief compliance officer of the Company since May 2008. From November 2007 to May 2008, Mr. Camperlengo served as vice president and chief compliance officer of Duane Reade Holdings, Inc., a retail pharmacy chain. From February 2005 to

 

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November 2007, Mr. Camperlengo served as vice president and deputy general counsel of the Company and from October 2005 to November 2007, as the Company’s chief compliance officer. Mr. Camperlengo served as assistant vice president and associate general counsel of the Company from September 2003 to February 2005 and as assistant vice president, legal from July 2002 to September 2003, having joined the Company as senior counsel in 2000.

Stephen B. Paige

Mr. Paige has served as general counsel of the Company since July 2003, as senior vice president of the Company since January 2005 and as secretary of the Company since May 2005. From July 2003 to January 2005, he served as vice president of the Company. From 1997 to 2002, he served as senior vice president, general counsel and secretary of General Semiconductor, Inc., a technology based company. Prior thereto, Mr. Paige served in senior legal positions with several large healthcare, food ingredient and consumer product companies.

Brian D. Silva

Mr. Silva has served as senior vice president, human resources of the Company since March 2006 and will continue to serve in such capacity until May 14, 2009, when he will leave the Company. From 2002 to February 2006, Mr. Silva served as senior vice president, human resources and administration and corporate secretary of Linens ‘n Things, Inc., a national retailer of home furnishings. From 1997 to 2002, Mr. Silva served as senior vice president, human resources and corporate secretary of Linens ‘n Things, having joined Linens ‘n Things in 1995 as vice president, human resources.

Charlotte A. Weaver

Dr. Weaver has served as senior vice president, chief clinical officer of the Company since July 2008. From May 2007 to July 2008, Dr. Weaver served as vice president – executive director, nursing research of Cerner Corporation, an international supplier of healthcare software for electronic healthcare record and business operations. From 1999 to May 2007, she served as vice president/chief nurse officer of Cerner Corporation.

PART II

 

Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

Market Information

The Company’s common stock is quoted on The Nasdaq Global Select Market under the symbol “GTIV”.

The following table sets forth the high and low sales prices for shares of the Company’s common stock for each quarter during fiscal 2008 and 2007:

 

2008

   High    Low

1st Quarter

   $ 23.02    $ 17.69

2nd Quarter

     22.48      17.20

3rd Quarter

     29.25      18.49

4th Quarter

     29.17      19.12

2007

   High    Low

1st Quarter

   $ 22.29    $ 18.46

2nd Quarter

     21.00      18.36

3rd Quarter

     22.49      18.85

4th Quarter

     20.04      17.03

 

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Holders

As of March 6, 2009, there were approximately 3,400 holders of record of the Company’s common stock, including participants in the Company’s employee stock purchase plan, brokerage firms holding the Company’s common stock in “street name” and other nominees.

Dividends

Except for the special dividend in cash ($7.76) and in kind (0.19253 shares of Accredo common stock) per share of Gentiva common stock paid in June 2002, the Company has never paid any cash dividends on its common stock. Future payments, if any, of dividends and the amount of the dividends will be determined by the board of directors from time to time based on the Company’s results of operations, financial condition, cash requirements, future prospects and other factors deemed relevant. In addition, the Company’s credit agreement also contain restrictions on the Company’s ability to declare and pay dividends. See Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations”.

Shareholder Return Performance Graph

The following stock performance graph and related information shall not be deemed “soliciting material” or “filed” with the Securities and Exchange Commission, nor shall such information be incorporated by reference into any future filings under the Securities Act of 1933 or Securities Exchange Act of 1934, each as amended, except to the extent that we specifically incorporate it by reference into such filing.

LOGO

 

     12/28/03    01/02/05    01/01/06    12/31/06    12/30/07    12/28/08

Gentiva Health Services, Inc.

   100.00    128.91    113.65    146.95    144.25    207.86

NASDAQ Market Index

   100.00    108.41    110.79    122.16    134.28    79.25

Peer Group Index

   100.00    125.54    102.53    122.74    115.98    121.43

Gentiva’s common stock has generated a total cumulative return superior to that of the NASDAQ Market Index and a Peer Group Index of publicly traded companies over the past five fiscal years. The peer group, chosen by Gentiva, is comprised of the following publicly traded companies: Almost Family, Inc., Amedisys, Inc. and LHC Group, Inc. Apria Healthcare Group Inc. was included in last year’s Peer Group Index, but not in this year’s Index because it no longer has publicly traded common stock.

 

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The graph and table above, based on data furnished by Morningstar, Inc., assume that $100 was invested on December 28, 2003 in each of Gentiva’s common stock, the NASDAQ Market Index and the Peer Group Index and that all dividends (if any) were reinvested.

 

Item 6. Selected Financial Data

The following table provides selected historical consolidated financial data of the Company as of and for each of the fiscal years in the five-year period ended December 28, 2008. The data has been derived from the Company’s audited consolidated financial statements. The historical financial information may not be indicative of the Company’s future performance. The Company’s fiscal year ends on the Sunday nearest to December 31. The Company’s fiscal year 2004 included 53 weeks compared to all other fiscal years presented, which included 52 weeks.

 

(in thousands, except per share amounts)   Fiscal Year  
  2008     2007     2006     2005     2004  
    (52 weeks)     (52 weeks)     (52 weeks)     (52 weeks)     (53 weeks)  

Statement of Income Data

         

Net revenues

  $ 1,300,438 (1)   $ 1,229,297     $ 1,106,588 (3)   $ 868,843 (4)   $ 845,764 (5)

Gross profit

    582,535 (1)     523,705       462,314 (3)     326,598 (4)     323,869 (5)

Selling, general and administrative expenses

    (490,451 )(1)     (444,042 )(2)     (408,271 )(3)     (296,634 )(4)     (285,611 )(5)

Net income

    153,450 (1)     32,828 (2)     20,776 (3)     23,365 (4)     26,488 (5)

Basic earnings per share:

         

Net income

  $ 5.37     $ 1.18     $ 0.78     $ 1.00     $ 1.07  

Weighted average shares
outstanding—basic

    28,578       27,798       26,480       23,267       24,724  

Diluted earnings per share:

         

Net income

  $ 5.21     $ 1.15     $ 0.76     $ 0.94     $ 1.00  

Weighted average shares
outstanding—diluted

    29,439       28,599       27,317       24,927       26,365  

Balance Sheet Data (at end of year)

         

Cash items and short-term investments(6)

  $ 69,201     $ 67,431     $ 57,235     $ 88,367     $ 113,024  

Working capital

    125,401       128,527       115,749       129,326       134,033  

Total assets

    973,497       882,233       843,882       326,565       332,098  

Long-term debt and capital leases

    252,188       309,262       343,198       737       876  

Shareholder’s equity

    494,971       323,429       274,325       182,154       171,940  

Common shares outstanding

    28,864       28,046       27,436       23,035       23,722  

 

(1) Statement of Income Data for fiscal 2008 include CareCentrix operating results through September 24, 2008 and include the Company’s equity in the net loss of CareCentrix Holdings for the period September 25, 2008 through December 28, 2008. Selling, general and administrative expenses for fiscal 2008 include special charges of $2.7 million. In addition, net income includes $107.9 million from a pre-tax gain related to the CareCentrix Transaction and reflects an effective tax rate of 16.1 percent due primarily to the CareCentrix Transaction. See Notes 3, 7 and 14 to the Company’s consolidated financial statements.
(2) Selling, general and administrative expenses for fiscal 2007 include Healthfield restructuring and other special charges of $2.4 million. See Note 7 to the Company’s consolidated financial statements.
(3) Net revenues and gross profit for fiscal 2006 include $1.9 million associated with the favorable settlement of the Company’s Medicare cost report appeal for 1999. Selling, general and administrative expenses include restructuring and other special charges of $7.7 million. See Note 7 to the Company’s consolidated financial statements.

 

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(4) Net revenues and gross profit for fiscal 2005 include $3.6 million associated with the favorable settlement of the Company’s Medicare cost report appeal for 1999. Selling, general and administrative expenses include restructuring and other special charges of $0.9 million. See Note 7 to the Company’s consolidated financial statements.
(5) Net revenues and gross profit for fiscal 2004 include special items of $9.4 million, representing $10.4 million related to the favorable settlement of the Company’s Medicare cost report appeals for 1997 and 1998, net of a $1 million revenue adjustment to reflect an industry wide repayment of certain Medicare reimbursements. Net income includes the Medicare special items noted above and $0.9 million from a pre-tax gain on the sale of a Canadian investment. Net income for fiscal 2004 reflects an effective tax rate of 34.1 percent, which differs from the Federal statutory tax rate due primarily to the recognition of certain state net operating losses. See Note 14 to the Company’s consolidated financial statements.
(6) Cash items and short-term investments include restricted cash of $22.0 million at end of fiscal years 2004 through 2007.

 

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion and analysis provides information which management believes is relevant to an assessment and understanding of Gentiva’s results of operations and financial position. This discussion and analysis should be read in conjunction with the Company’s consolidated financial statements and related notes included elsewhere in this report.

Overview

Gentiva Health Services, Inc. is a leading provider of comprehensive home health services. Gentiva serves patients through more than 380 locations, and, until September 25, 2008, through CareCentrix, which provided an array of administrative services and coordinated the delivery of home nursing services, acute and chronic infusion therapies, home medical equipment (“HME”), respiratory products, orthotics and prosthetics, and services for managed care organizations and health plans. On September 25, 2008, the Company completed the sale of a 69 percent majority interest in the CareCentrix ancillary care benefit management business. The Company provides a single source for skilled nursing; physical, occupational, speech and neurorehabilitation services; hospice services; social work; nutrition; disease management education; help with daily living activities; respiratory therapy and HME; infusion therapy services; and other therapies and services. Gentiva’s revenues are generated from federal and state government programs, commercial insurance and individual consumers.

The federal and state government programs are subject to legislative and other risk factors that can result in fluctuating reimbursement rates for Gentiva’s direct home health services to patients. The commercial insurance industry is continually seeking ways to control the cost of services to patients that it covers. One of the ways it seeks to control costs is to require greater efficiencies from its providers, including home healthcare companies. Various states have addressed budget pressures by considering or implementing reductions in various healthcare programs, including reductions in rates or changes in patient eligibility requirements. In addition, the Company has also decided to reduce participation in certain Medicaid and other state and county programs.

Gentiva believes that several marketplace factors can contribute to its future growth. First, the Company is a leader in a highly fragmented home healthcare industry populated by approximately 13,500 providers of varying size and resources. Second, the cost of a home healthcare visit to a patient can be significantly lower than the cost of an average day in a hospital or skilled nursing institution. And third, the demand for home care is expected to grow, primarily due to an aging U.S. population. The Company expects to capitalize on these positive trends through a determined set of strategies, as follows: generate increased revenue by growing Medicare volume and improving commercial insurance pricing; continue to develop and expand specialty programs for incremental revenue growth; focus on clinical associate recruitment, retention and productivity; and continue technology initiatives that could make Gentiva more efficient and profitable. The Company anticipates executing these

 

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strategies by continuing to expand its sales presence, developing and marketing its managed care services, making operational improvements and deploying new technologies, providing employees with leadership training and instituting retention initiatives, ensuring strong ethics and corporate governance, and focusing on shareholder value.

Management intends the discussion of the Company’s financial condition and results of operations that follows to provide information that will assist in understanding its financial statements, the changes in certain key items in those financial statements from year to year, and the primary factors that accounted for those changes, as well as how certain accounting principles, policies and estimates affect the Company’s financial statements.

The Company has identified two business segments for reporting purposes: Home Health and, prior to September 25, 2008, CareCentrix. The Company’s smaller operating segments, including hospice, respiratory therapy and HME, infusion therapy and consulting services businesses are classified in the aggregate as “All Other” for segment reporting purposes. This presentation aligns financial reporting with the manner in which the Company manages its business operations with a focus on the strategic allocation of resources and separate branding strategies among the business segments.

Home Health

The Home Health segment is comprised of direct home nursing and therapy services operations, including specialty programs. The Company conducts direct home nursing and therapy services operations through licensed and Medicare-certified agencies, located in 39 states, from which the Company provides various combinations of skilled nursing and therapy services, paraprofessional nursing services and, to a lesser extent, homemaker services generally to adult and elder patients. The Company’s direct home nursing and therapy services operations also deliver services to its customers through focused specialty programs that include:

 

   

Gentiva Orthopedics, which provides individualized home orthopedic rehabilitation services to patients recovering from joint replacement or other major orthopedic surgery;

 

 

 

Gentiva Safe Strides®, which provides therapies for patients with balance issues who are prone to injury or immobility as a result of falling;

 

   

Gentiva Cardiopulmonary, which helps patients and their physicians manage heart and lung health in a home-based environment;

 

   

Gentiva Neurorehabilitation, which helps patients who have experienced a neurological injury or condition by removing the obstacles to healing in the patient’s home; and

 

   

Gentiva Senior Health, which addresses the needs of patients with age-related diseases and issues to effectively and safely stay in their homes.

Through its Rehab Without Walls® unit, the Company also provides home and community-based neurorehabilitation therapies for patients with traumatic brain injury, cerebrovascular accident injury and acquired brain injury, as well as a number of other complex rehabilitation cases.

CareCentrix

The CareCentrix segment encompassed Gentiva’s ancillary care benefit management and the coordination of integrated homecare services for managed care organizations and health benefit plans. CareCentrix operations provided an array of administrative services and coordinated the delivery of home nursing services, acute and chronic infusion therapies, HME, respiratory products, orthotics and prosthetics, and services for managed care organizations and health benefit plans. CareCentrix accepted case referrals from a wide variety of sources, verified eligibility and benefits and transferred case requirements to the providers for services to the patient. CareCentrix provided services to its customers, including the fulfillment of case requirements, care management, provider credentialing, eligibility and benefits verification, data reporting and analysis, and coordinated centralized billing for all authorized services provided to the customers’ enrollees.

 

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All Other

Hospice

Hospice serves terminally ill patients in the southeast United States. Comprehensive management of the healthcare services and products needed by hospice patients and their families are provided through the use of an interdisciplinary team. Depending on a patient’s needs, each hospice patient is assigned an interdisciplinary team comprised of a physician, nurse(s), home health aide(s), medical social worker(s), chaplain, dietary counselor and bereavement coordinator, as well as other care professionals.

Respiratory Therapy and Home Medical Equipment

Respiratory therapy and HME services are provided to patients at home through branch locations primarily in the southeast United States. Patients are offered a broad portfolio of products and services that serve as an adjunct to traditional home health nursing and hospice care. Respiratory therapy services are provided to patients who suffer from a variety of conditions including asthma, chronic obstructive pulmonary diseases, cystic fibrosis and other respiratory conditions. HME includes hospital beds, wheelchairs, ambulatory aids, bathroom aids, patient lifts and rehabilitation equipment.

Infusion Therapy

Infusion therapy is provided to patients at home through pharmacy locations in the southeast United States. Infusion therapy serves as a complement to the Company’s traditional service offerings, providing clients with a comprehensive home health provider while diversifying the Company’s revenue base. Services provided include: (i) enteral nutrition, (ii) antibiotic therapy, (iii) total parenteral nutrition, (iv) pain management, (v) chemotherapy, (vi) patient education and training and (vii) nutrition management.

Consulting

The Company provides consulting services to home health agencies through its Gentiva Consulting unit. These services include billing and collection activities, on-site agency support and consulting, operational support and individualized strategies for reduction of days sales outstanding.

Significant Developments

CareCentrix Disposition

Effective September 25, 2008, the Company completed the disposition of 69 percent of its equity interest in the Company’s CareCentrix ancillary care benefit management business, which was operated through Gentiva CareCentrix, Inc. (“CareCentrix”) and Gentiva Health Services IPA, Inc. (“IPA”), pursuant to a Stock Purchase Agreement dated as of August 20, 2008 among the Company, Gentiva Health Services Holding Corp., a wholly-owned subsidiary of the Company (“Gentiva Holding”), and a wholly-owned subsidiary of Water Street Healthcare Partners II, L. P., a Chicago-based private equity firm focused exclusively on the healthcare industry (“Buyer”). A restructuring involving CareCentrix and IPA took place prior to the sale. The restructuring and subsequent sale are referred to herein as the “CareCentrix Transaction.” Total consideration for the CareCentrix Transaction approximated $135 million.

Pursuant to the restructuring, (i) Gentiva Holding contributed all of its rights, title and interests in and to all of the outstanding capital stock of IPA to CareCentrix, (ii) CareCentrix redeemed a portion of its outstanding shares of capital stock for two promissory notes issued to Gentiva Holding, namely (A) a redemption note in the principal amount of $38 million and (B) a seller note in the principal amount of $25 million, and (iii) Gentiva Holding contributed all of its remaining shares of capital stock of CareCentrix to CareCentrix Holdings Inc., a wholly-owned subsidiary of Gentiva Holding (“CareCentrix Holdings”), in exchange for shares of preferred and common stock of CareCentrix Holdings.

 

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In connection with the CareCentrix Transaction, total consideration to the Company consisted of: (i) cash proceeds of $84 million (which included payment in full of the $38 million redemption note), (ii) a $25 million note receivable bearing interest at 10 percent per annum, (iii) an estimated working capital adjustment of $1.4 million based on a preliminary closing balance sheet, and (iv) reimbursement of $1.5 million of transaction related expenses incurred by the Company. In addition, the Company retained a 31 percent equity interest in CareCentrix Holdings, represented by 234,000 shares of preferred stock and 260,000 shares of common stock. The working capital adjustment is subject to change based on a final closing date balance sheet. Of the $84 million in cash proceeds received by the Company, $58 million was used to repay a portion of the Company’s term loan under its credit agreement on the closing date.

The Company recorded its investment in the preferred stock of CareCentrix Holdings at fair value of $23.3 million as of the transaction closing date. The preferred stock carries a 12 percent cumulative dividend, to be paid as declared or upon liquidation or other allowed redemptions, and has a liquidation value of $100 per share plus the accumulated and unpaid dividends. In accordance with the provisions of Emerging Issues Task Force (“EITF”) Abstract 01-2, Interpretations of APB Opinion No. 29, Issue 9, the Company’s investment in the common stock of CareCentrix Holdings was recorded on a carryover basis; therefore, the carrying value of the common stock at the date of disposition was recorded at no value.

During fiscal 2008, the Company recognized a pre-tax gain on the sale of approximately $107.9 million, net of approximately $6.5 million of transaction costs. Transaction costs included (i) approximately $4.7 million of professional fees and expenses, including fees associated with an amendment of the Company’s credit facility, (ii) $1.2 million related to the write-off of capitalized development costs for software that will not be utilized following the transaction, and (iii) $0.6 million in additional amortization of deferred debt issuance costs related to the debt repayment. Approximately $1.5 million of transaction costs were paid by the Buyer.

Following the closing date of the CareCentrix Transaction, the Company’s consolidated statement of income excludes net revenues, cost of services and goods sold, gross profit and selling, general and administrative expenses of CareCentrix and includes: (i) the Company’s 31 percent interest in the earnings of CareCentrix Holdings in the equity in net earnings of affiliate line, (ii) interest income on the seller note at an annual rate of 10 percent, (iii) fees associated with a Transition Services Agreement with CareCentrix to provide certain information services, finance and other support services generally for a period of up to one year or until such time as each support service can be effectively transitioned to CareCentrix, and (iv) fees earned under a Management Services Agreement with CareCentrix pursuant to which the Company will provide financial and management advisory services to CareCentrix for a period of up to three years.

Hospice of Charleston

On August 2, 2008, the Company acquired certain assets of Hospice of Charleston, a non-profit homecare company that provided hospice services, as well as home health services, for approximately $1.2 million, which was funded from the Company’s existing cash reserves. The acquisition will allow the Company to expand its home health services to three Certificate of Need (“CON”) counties in and around Charleston, South Carolina.

Physicians Home Health Care

Effective June 1, 2008, the Company completed the acquisition of PHHC, a provider of home health services with three locations in Colorado, pursuant to an asset purchase agreement. Total consideration of $12 million, excluding transaction costs and subject to post-closing adjustments, consisted of $11.1 million paid at the time of closing, net of cash acquired of $0.9 million. The Company funded the purchase price using $11.1 million of borrowings under its existing revolving credit facility. The Company acquired PHHC to extend its services into the state of Colorado.

 

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Home Health Care Affiliates, Inc.

On February 29, 2008, the Company completed the acquisition of 100 percent of the equity interest in HHCA, a provider of home health and hospice services with 14 locations in Mississippi. Total consideration of $55.6 million, excluding transaction costs and subject to post-closing adjustments consisted of cash of $48.0 million and assumption of HHCA’s existing debt and accrued interest, aggregating $7.4 million, which the Company paid off at the time of closing, net of cash acquired of $0.2 million. The Company funded the purchase price using (i) existing cash balances of $43.6 million and (ii) $12.0 million of borrowings under its existing revolving credit facility, net of debt issuance costs.

The Company acquired HHCA to strengthen and expand its services in the southeast United States. The Company had not previously provided any services in Mississippi, a state which requires providers to have a CON in order to operate a Medicare-certified home health agency. There have been no new CONs issued in Mississippi in recent years.

Healthfield Acquisition

On February 28, 2006, the Company completed the acquisition of Healthfield, a regional provider of home healthcare, hospice and related services with approximately 130 locations primarily in eight southeastern states, for $466 million in cash and shares of Gentiva common stock. Total consideration included transaction costs and post-closing adjustments. The Company funded the purchase price from approximately $363 million of borrowings under a new senior term loan facility, approximately 3.2 million shares of Gentiva common stock and the remainder from existing cash balances. A portion of the purchase price was used to refinance Healthfield’s existing net indebtedness.

The Company acquired Healthfield to strengthen and expand the Company’s presence in the southeast United States, which has favorable demographic trends and includes important CON states; diversify the Company’s business mix; provide a meaningful platform for the Company to enter the hospice business, as well as expansion into respiratory therapy and HME services and infusion therapy as a direct provider of services; and expand its specialty programs.

Results of Operations

The historical results that follow present a discussion of the Company’s consolidated operating results using the historical results of Gentiva prepared in accordance with accounting principles generally accepted in the United States of America (GAAP) for the fiscal years ended December 28, 2008, December 30, 2007 and December 31, 2006.

The comparison of results of operations between the 2008 and 2007 periods has been impacted significantly by the Company’s disposition of 69 percent of its equity interest in the CareCentrix ancillary care benefit management business on September 25, 2008. The Company’s results of operations include the CareCentrix operating results for the periods prior to the CareCentrix Transaction and include the Company’s equity in the net earnings of CareCentrix Holdings for the period September 25, 2008 through December 28, 2008, the end of the Company’s 2008 fiscal year.

The comparison of results of operations between the 2007 and 2006 periods has been impacted significantly by the inclusion of the operating results of former Healthfield locations for approximately ten months of fiscal 2006 versus the full fiscal year 2007.

 

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Year Ended December 28, 2008 Compared to Year Ended December 30, 2007

Net Revenues

A summary of the Company’s net revenues by segment follows:

 

(Dollars in millions)    Fiscal Year  
   2008     2007     Percentage
Variance
 

Home Health

   $ 942.5     $ 821.8     14.7 %

CareCentrix

     232.7       290.8     (20.0 %)

All Other

     128.2       121.8     5.3 %

Intersegment revenues

     (3.0 )     (5.1 )   (40.7 %)
                      

Total net revenues

   $ 1,300.4     $ 1,229.3     5.8 %
                      

Net revenues by major payer source are as follows:

 

(Dollars in millions)    Fiscal Year  
             Percentage  
   2008    2007    Variance  

Medicare:

        

Home Health

   $ 648.0    $ 549.2    18.0 %

Other

     68.1      60.3    12.9 %
                    

Total Medicare

     716.1      609.5    17.5 %

Medicaid and Local Government

     141.9      153.1    (7.3 %)

Commercial Insurance and Other:

        

Paid at episodic rates

     53.2      29.3    81.8 %

Other

     389.2      437.4    (11.0 %)
                    

Total Commercial Insurance and Other

     442.4      466.7    (5.2 %)
                    

Total net revenue

   $ 1,300.4    $ 1,229.3    5.8 %
                    

For fiscal year 2008 as compared to fiscal year 2007, net revenues increased by $71 million, or 5.8 percent, to $1.30 billion from $1.23 billion.

Home Health

Home Health segment revenues are derived from all three payer groups: Medicare, Medicaid and Local Government and Commercial Insurance and Other. Fiscal 2008 net revenues were $942.5 million, an increase of $120.7 million or 14.7 percent from $821.8 million in fiscal 2007.

Revenues generated from Medicare were $648.0 million during fiscal 2008, an increase of 18.0 percent as compared to $549.2 million in fiscal 2007. Medicare revenues represented approximately 69 percent of total Home Health revenues in the 2008 fiscal year as compared to 67 percent of total Home Health revenues in the 2007 fiscal year.

The increases in Medicare revenues resulted from (i) growth of 11 percent in episodes of care driven primarily by increased volume in specialty programs in both existing and new markets and the impact of the HHCA and PHHC acquisitions; and (ii) increases in revenue per episode of approximately 7 percent. Factors contributing to the improvements in the revenue per episode include growth in the Company’s therapy-based specialty programs that have a higher level of reimbursement and a shift in mix toward higher acuity cases. Medicare revenue growth, excluding the impact of HHCA and PHHC acquisitions, was approximately 13 percent. As a percentage of total Home Health Medicare revenues, Medicare revenues derived from the Company’s specialty programs were approximately 31 percent in 2008 and 26 percent in 2007.

 

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In addition, non-Medicare Prospective Payment System (“PPS”) revenues, which are included in Commercial Insurance and Other and represent Medicare Advantage business paid at episodic rates, were $53.2 million for fiscal year 2008 as compared to $29.3 million for fiscal year 2007, an increase of $23.9 million or 82 percent.

Net revenues from the combination of Medicare and non-Medicare PPS business paid at episodic rates were $701.2 million in fiscal 2008, an increase of 21.2 percent from $578.5 million in fiscal 2007. Total episodes of care approximated 246,000 in fiscal 2008, an increase of over 13 percent from the 216,800 episodes of care serviced in fiscal 2007. Revenue per episode for the 2008 fiscal year was approximately $2,850, an increase of about 7 percent from revenue per episode of $2,670 in fiscal 2007, due primarily to the increase in revenues from the Company’s specialty programs and services provided to higher acuity patients offset somewhat by a reduction in Medicare reimbursement rates which became effective on January 1, 2008. Medicare and non-Medicare PPS revenues as a percent of total Home Health net revenues were 74 percent for fiscal year 2008 as compared to 70 percent for fiscal year 2007.

Revenues from all other payer sources in fiscal 2008 were $241.3 million, consisting of Medicaid and Local Government revenues of $119.8 million and Commercial Insurance and Other revenues, excluding non-Medicare PPS revenues paid at episodic rates, of $121.5 million. Revenues from all other payer sources in fiscal 2007 were $243.3 million, consisting of Medicaid and Local Government revenues of $128.6 million and Commercial Insurance and Other revenues, excluding non-Medicare PPS revenues paid at episodic rates, of $114.7 million. The net decrease in Medicaid and Local Government revenues of $8.8 million, or 6.8 percent, and the net increase in Commercial Insurance and Other revenues, excluding non-Medicare PPS revenues paid at episodic rates, of $6.8 million, or 5.9 percent, resulted primarily from the Company’s ongoing strategy to reduce or eliminate certain lower gross margin business as the Company continues to pursue acquisitions, more favorable commercial pricing and a higher mix of Medicare and non-Medicare PPS business paid at episodic rates.

CareCentrix

CareCentrix segment revenues were derived from the Commercial Insurance and Other payer group only. Fiscal 2008 net revenues were $232.7 million, a 20.0 percent decrease from $290.8 million reported in fiscal 2007, which was primarily related to the impact of the CareCentrix Transaction, effective September 25, 2008. Prior to the CareCentrix Transaction, net revenues relating to CareCentrix were approximately 8.5 percent higher in 2008 than the comparable period of 2007 due primarily to increased membership enrollments at Cigna and various other CareCentrix customers and the impact of new business relationships, offset somewhat by a decline in membership enrollments under capitated plans.

All Other

All Other segment net revenues are derived from the three major payer groups discussed above and represent total net revenues relating to the Company’s other operating segments, including hospice, respiratory therapy and HME services, infusion therapy services and consulting. Net revenues for fiscal 2008 were $128.2 million as compared to fiscal 2007 net revenues of $121.8 million. The increase in net revenues of $6.4 million, or 5.3 percent, in fiscal 2008 was due primarily to the impact of the HHCA and Hospice of Charleston acquisitions in hospice ($5.7 million) and growth in the Company’s respiratory therapy and HME business ($3.9 million) offset by slight declines in the other ongoing businesses, including hospice.

Medicare revenues were $68.1 million for fiscal 2008 as compared to $60.3 million for fiscal 2007. Medicaid and Local Government revenues amounted to $22.1 million for fiscal 2008 as compared to $24.5 million for fiscal 2007. Revenues derived from Commercial Insurance and Other payers for fiscal 2008 were $38.0 million as compared to $37.0 million for fiscal 2007.

 

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Gross Profit

 

(Dollars in millions)    Fiscal Year  
   2008     2007     Variance  

Gross profit

   $ 582.5     $ 523.7     $ 58.8  

As a percent of revenue

     44.8 %     42.6 %     2.2 %

Gross profit in fiscal 2008 increased $58.8 million or 11.2 percent, primarily from increased revenues and improvements in gross margin percentage, as compared to fiscal 2007.

As a percentage of net revenues, gross profit was 44.8 percent in fiscal 2008 as compared to 42.6 percent for fiscal 2007, an increase of 2.2 percent. From a total Company perspective, increases in Home Health segment gross margin percentage attributable to (i) significant changes in revenue mix, (ii) an increase in revenue per episode as discussed above, and (iii) the impact of acquisitions more than offset margin declines in CareCentrix and All Other.

The changes in revenue mix in the Home Health segment resulted from (i) organic revenue growth in Medicare, particularly in the Company’s specialty programs, and non-Medicare PPS business and (ii) the elimination or reduction of certain low margin Medicaid and local government business and commercial business. The positive impact on gross profit percentage of the change in revenue mix and increase in revenue per episode were offset somewhat by incremental fuel costs and caregiver orientation costs. As a result of these factors, gross profit as a percentage of net revenues in the Home Health segment increased from 50.3 percent in fiscal 2007 to 51.8 percent in fiscal 2008.

CareCentrix gross profit as a percentage of revenues declined from 20.3 percent in fiscal 2007 to 18.3 percent in fiscal 2008. The decline was driven by the impact of an amendment to the Company’s national homecare contract with Cigna, which occurred during the first quarter of 2008 and involved changes in pricing and product mix.

Gross profit as a percentage of net revenues in the All Other segment declined from 42.0 percent in fiscal 2007 to 40.8 percent in fiscal 2008. Gross profit in the All Other segment was impacted by depreciation expense of $5.0 million in fiscal 2008 as compared to $4.7 million for fiscal 2007.

Selling, General and Administrative Expenses

Selling, general and administrative expenses, including depreciation and amortization, increased $46.5 million to $490.5 million for the fiscal year ended December 28, 2008, as compared to $444.0 million for the year ended December 30, 2007.

The increase of $46.5 million for fiscal year 2008 as compared to the corresponding period of 2007 was primarily attributable to (i) Home Health segment field operating costs (approximately $19 million) to support higher revenue volume in the 2008 period as compared to the 2007 period and to train and educate employees in connection with new Medicare PPS rules, which became effective January 1, 2008, (ii) $15.1 million associated with acquired operations, (iii) incremental selling expenses in Home Health ($9.6 million) and All Other ($1.8 million) associated with increased headcount, (iv) a change in estimates relating to various state and local programs of approximately $2 million, (v) incremental provision for doubtful accounts of approximately $1.1 million, related to final resolution of a discontinued contract within the CareCentrix segment and certain receivable balances in the Home Health segment on legacy Healthfield systems, somewhat offset by a decline in required provisions within the All Other segment, (vi) increased depreciation and amortization expense (approximately $1.5 million), and (vii) incremental costs in information technology, finance and other corporate functional areas in support of the Company’s organic and acquisition growth. These increases were partially offset by (i) a reduction in field operating costs resulting from the CareCentrix Transaction ($6.8 million), and (ii) lower equity based compensation expense ($1.1 million).

 

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Depreciation and amortization expense included in selling, general and administrative expenses were $16.2 million for fiscal 2008 as compared to $14.7 million for fiscal 2007.

Selling, general and administrative expenses attributable to the CareCentrix segment were $24.9 million for the fiscal year ended December 28, 2008, as compared to $30.5 million for the year ended December 30, 2007.

Gain on Sale of Business, Net

The Company recorded a pre-tax gain of approximately $107.9 million, net of transaction-related costs of approximately $6.5 million, in connection with the CareCentrix Transaction. Since the Company’s tax basis in CareCentrix exceeded total consideration relating to the CareCentrix Transaction, no tax expense was recorded and a capital loss carryforward was created in connection with the CareCentrix Transaction. At December 28, 2008, the Company has a capital loss carryforward of $22.2 million that will expire in 2013.

Interest Expense and Interest Income

For fiscal 2008 and fiscal 2007, net interest expense was approximately $17.1 million and $24.1 million, respectively, consisting primarily of interest expense of $19.4 million and $27.3 million, respectively, associated with the term loan borrowings, fees associated with the Company’s credit agreement and outstanding letters of credit and amortization of debt issuance costs, partially offset by interest income of $2.3 million and $3.2 million, respectively, earned on investments and existing cash balances. The decrease in interest expense related primarily to (i) the Company’s achievement of lowering its consolidated leverage ratio, triggering reductions in the margins on revolving credit and term loan borrowings, (ii) lower Eurodollar rates between fiscal years 2007 and 2008, and (iii) lower outstanding borrowings under the Company’s term loan facility in the fiscal 2008 period. See Note 9 to the Company’s consolidated financial statements.

Income before Income Taxes

Components of income before income taxes were as follows:

 

(Dollars in millions)    Fiscal Year  
   2008     2007     Variance  

Operating Contribution:

      

Home Health

   $ 151.2     $ 122.0     $ 29.2  

CareCentrix

     18.1       29.1       (11.0 )

All Other

     12.5       13.8       (1.3 )
                        

Total Operating Contribution

     181.8       164.9       16.9  

Corporate expenses

     (67.7 )     (65.3 )     (2.4 )

Depreciation and amortization

     (22.0 )     (20.0 )     (2.0 )

Gain on sale of business, net

     107.9       —         107.9  

Interest (expense) income, net

     (17.1 )     (24.1 )     7.0  
                        

Income before income taxes

   $ 182.9     $ 55.5     $ 127.4  

As a percent of revenue

     14.1 %     4.5 %     9.6 %

Income Taxes

The Company recorded a federal and state income tax provision of $29.4 million for fiscal 2008, representing a current tax provision of $15.3 million and a deferred tax provision of $14.1 million.

The difference between the Federal statutory income tax rate of 35.0 percent and the Company’s effective rate of 16.1 percent for fiscal 2008 is primarily due to the impact of the CareCentrix Transaction, which resulted in the recognition of a pre-tax gain with no related tax provision as discussed above (approximately 21.4 percent), partially offset by state taxes and other items (approximately 2.5 percent).

 

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The Company recorded a federal and state income tax provision of $22.8 million for fiscal 2007, representing a current tax provision of $1.8 million and a deferred tax provision of $21.0 million. The difference between the Federal statutory income tax rate of 35.0 percent and the Company’s effective rate of 40.9 percent for fiscal 2007 is primarily due to (i) the impact of the adoption of Statements of Financial Accounting Standards (“SFAS”) No. 123 (revised 2004) “Share-Based Payment” (“SFAS 123(R)”) (approximately 2.2 percent), and (ii) state income taxes, net of a decrease in the state tax valuation allowance (4.4 percent), partially offset by (iii) a net reduction of $0.5 million of tax reserves associated with the expiration of the statute of limitations and various other items (approximately 0.7 percent).

Net Income

The Company recorded net income of $153.5 million, or $5.21 per diluted share, in fiscal 2008 compared to net income of $32.8 million, or $1.15 per diluted share, in fiscal 2007.

Net income for fiscal 2008 included: (i) a pre-tax gain of $107.9 million, or $3.72 per diluted share, related to the CareCentrix Transaction; and (ii) a pre-tax charge of $2.7 million, or $0.06 per diluted share, relating to costs associated with integration, merger and acquisition activities.

Net income for fiscal 2007 included: (i) a pre-tax charge of $2.4 million, or $0.05 per diluted share relating to restructuring and integration activities.

Year Ended December 30, 2007 Compared to Year Ended December 31, 2006

Net Revenues

A summary of the Company’s net revenues by segment follows:

 

(Dollars in millions)    Fiscal Year  
   2007     2006     Percentage
Variance
 

Home Health

   $ 821.8     $ 746.9     10.0 %

CareCentrix

     290.8       267.5     8.7 %

All Other

     121.8       104.7     16.3 %

Intersegment revenues

     (5.1 )     (12.5 )   (59.2 %)
                      

Total net revenues

   $ 1,229.3     $ 1,106.6     11.1 %
                      

Net revenues by major payer source are as follows:

 

(Dollars in millions)    Fiscal Year  
   2007    2006    Percentage
Variance
 

Medicare:

        

Home Health

   $ 549.2    $ 455.3    20.6 %

Other

     60.3      53.8    12.1 %
                    

Total Medicare

     609.5      509.1    19.7 %

Medicaid and Local Government

     153.1      174.2    (12.1 %)

Commercial Insurance and Other:

        

Paid at episodic rates

     29.3      8.1    259.3 %

Other

     437.4      415.2    5.4 %
                    

Total Commercial Insurance and Other

     466.7      423.3    10.3 %
                    

Total net revenue

   $ 1,229.3    $ 1,106.6    11.1 %
                    

 

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For fiscal year 2007 as compared to fiscal year 2006, net revenues increased by $123 million, or 11.1 percent, to $1.229 billion from $1.107 billion.

Home Health

Home Health segment revenues are derived from all three payer groups: Medicare, Medicaid and Local Government and Commercial Insurance and Other. Fiscal 2007 net revenues were $821.8 million, an increase of $74.9 million or 10.0 percent from $746.9 million in fiscal 2006.

Net revenues for fiscal 2007 as compared to fiscal 2006 were positively impacted by the acquisition of Healthfield, whose home health revenues were approximately $188 million for fiscal 2006. Healthfield revenues were included for ten months in the 2006 period as compared to a full year in fiscal 2007. As a result of a commingling of business and resources between legacy Gentiva branch locations and former Healthfield branch locations in selected markets in the southeast United States, it is not possible to provide specific net revenue information for former Healthfield locations for fiscal 2007.

Revenues generated from Medicare were $549.2 million during fiscal 2007, an increase of 20.6 percent as compared to $455.3 million in fiscal 2006. For branch locations that were part of either Gentiva or Healthfield for more than one year, Medicare revenues increased by 14 percent for fiscal 2007 as compared to fiscal 2006. Medicare revenues represented approximately 67 percent of total Home Health revenues in the 2007 fiscal year as compared to 61 percent of total Home Health revenues in the 2006 fiscal year.

The majority of Medicare revenue growth resulted from (i) increased volume in specialty programs in both new and existing locations as well as growth in traditional Medicare home health business, (ii) higher revenue per admission due to increases in the mix of patients with higher acuity levels, and (iii) reimbursement rate changes as noted below. The year-over-year comparison was also impacted by a Medicare special item of $1.9 million recorded and received during the first quarter of fiscal 2006 in settlement of the Company’s appeal filed with the Provider Reimbursement Review Board (“PRRB”) related to the reopening of its 1999 cost reports.

Medicare reimbursement rate changes included a 3.3 percent market basket increase that became effective for patients on service on or after January 1, 2007, partially offset by the elimination of the 5 percent rate increase related to home health services performed in specifically defined rural areas of the country (referred to as the rural add-on provision). These changes resulted in an overall rate change of approximately 2.5 percent in 2007 as compared to 2006.

Revenues from all other payer sources in fiscal 2007 were $272.6 million, consisting of Medicaid and Local Government revenues of $128.6 million and Commercial Insurance and Other revenues of $144.0 million. Revenues from all other payer sources in fiscal 2006 were $291.6 million, consisting of Medicaid and Local Government revenues of $152.3 million and Commercial Insurance and Other revenues of $139.3 million. The decreases for fiscal 2007 compared to fiscal 2006 resulted primarily from a reduction in Medicaid and Local Government revenues (approximately $23 million) and Commercial Insurance and Other revenues (approximately $12 million) at legacy Gentiva locations offset somewhat by incremental revenues from former Healthfield locations for fiscal 2007. The decrease in legacy Gentiva locations is primarily due to the Company’s ongoing strategy of exiting certain low margin business as the Company continues to pursue more favorable commercial pricing and a higher mix of Medicare business.

CareCentrix

CareCentrix segment revenues were derived from the Commercial Insurance and Other payer group only. Fiscal 2007 net revenues were $290.8 million, an 8.7 percent increase from $267.5 million reported in fiscal 2006. The increase in net revenues for fiscal 2007 is due primarily to an increase in membership enrollments among its customers and the implementation of an exclusive contract in Georgia, offset somewhat by the absence

 

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of transitional revenues of approximately $11 million due to contractual changes with Cigna implemented during the first six months of 2006. Revenues derived from Cigna increased by approximately $23.2 million in fiscal 2007 as compared to fiscal 2006.

All Other

All Other segment revenues are derived from all three payer groups and include hospice, respiratory therapy and HME services, and infusion therapy net revenues, as well as revenues derived from consulting. Net revenues for fiscal 2007 were $121.8 million as compared to fiscal 2006 net revenues of $104.7 million. The increase in revenues in fiscal 2007 was due primarily to revenues generated from Healthfield operations subsequent to its acquisition on February 28, 2006.

Medicare revenues were $60.3 million for fiscal 2007 as compared to $53.8 million for fiscal 2006. Medicaid and Local Government revenues amounted to $24.5 million for fiscal 2007 as compared to $21.8 million for fiscal 2006. Revenues derived from Commercial Insurance and Other payers for fiscal 2007 were $37.0 million as compared to $29.0 million for fiscal 2006.

Gross Profit

 

     Fiscal Year  
(Dollars in millions)    2007     2006     Variance  

Gross profit

   $ 523.7     $ 462.3     $ 61.4  

As a percent of revenue

     42.6 %     41.8 %     0.8 %

Gross profit in fiscal 2007 increased $61.4 million or 13.3 percent, primarily from increased revenues and improvements in gross margin percentage, as compared to fiscal 2006.

As a percentage of net revenues, gross profit was 42.6 percent in fiscal 2007 as compared to 41.8 percent for the fiscal 2006 period, an increase of 0.8 percent. From a total Company perspective, increases in Home Health segment gross margin percentage attributable to significant changes in revenue mix were somewhat offset by growth in the lower gross margin CareCentrix business and incremental depreciation in the respiratory therapy and HME business due to a change in early 2007 in the estimated useful lives of certain equipment. The changes in revenue mix in the Home Health segment resulted from (i) organic revenue growth in Medicare, particularly in the Company’s specialty programs, and (ii) the elimination or reduction of certain low margin Medicaid and local government business and commercial business. These changes in revenue mix contributed to an increase in gross margin within the Home Health segment from 48.6 percent in fiscal 2006 to 50.3 percent in fiscal 2007.

In addition to reasons noted above, the increase in gross margin percentage for fiscal 2007 reflected the full year impact of the Healthfield acquisition and the corresponding increase in Medicare revenue at a traditionally higher gross margin than certain other business lines as well as productivity gains in the clinician workforce. This increase was partially offset by the Medicare special item recorded in the first quarter of 2006, as discussed above, which had a positive impact on gross profit of $1.9 million or 0.2 percent of revenues in fiscal 2006 and the positive impact of a $0.6 million change in estimate related to prior year contract revenue in CareCentrix.

Gross profit was impacted by depreciation expense of $5.3 million in fiscal 2007 as compared to $2.0 million for fiscal 2006.

Selling, General and Administrative Expenses

Selling, general and administrative expenses, including depreciation and amortization, increased $35.7 million to $444.0 million for the fiscal year ended December 30, 2007, as compared to $408.3 million for the year ended December 31, 2006.

 

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The increase of $35.7 million for fiscal 2007 as compared to fiscal 2006 was primarily attributable to the impact of the Healthfield acquisition. Selling, general and administrative expenses associated with Healthfield’s corporate and field locations, which averaged about $10 million per month in fiscal 2006, were included for ten months (from February 28, 2006, the Healthfield acquisition date) in fiscal 2006 but were included in the entire fiscal 2007. As a result of commingling of business and resources between legacy Gentiva locations and former Healthfield locations, it is not possible to provide specific selling, general and administrative expense information for former Healthfield locations for the fiscal 2007 period.

In addition to the impact of the Healthfield acquisition, selling, general and administrative expenses also increased during the fiscal 2007 due to (i) continuing investments in infrastructure and capacity necessary to accelerate growth in the All Other segment, (ii) incremental provision for doubtful accounts of approximately $1 million related to certain receivable balances in the All Other segment, (iii) increased costs in the Home Health segment to support higher revenue volume, (iv) incremental costs of $2.5 million relating to equity-based compensation, which was $6.8 million for fiscal 2007 and $4.3 million for fiscal 2006, (v) incremental depreciation and amortization expense of $1.5 million as noted below and (vi) incremental costs of approximately $3 million for employees and consultants to support information services and the Company’s strategic technology projects, including the Company’s new LifeSmart clinical management system. For fiscal 2007, the Company recorded a net charge of $0.3 million related to a positive adjustment of a lease obligation, offset by other various adjustments, compared to fiscal 2006, which included a positive adjustment of $0.9 million related to favorable legal settlements.

These increases during fiscal 2007 were offset somewhat by synergies realized in connection with the consolidation of certain Gentiva and Healthfield back office functions as well as lower restructuring and integration costs relating to the Healthfield acquisition and CareCentrix restructuring activities in fiscal 2006. The aggregate amount of restructuring and integration costs were $2.4 million for fiscal 2007 and $7.7 million for fiscal 2006.

Depreciation and amortization expense included in selling, general and administrative expenses were $14.7 million for fiscal 2007 as compared to $13.2 million for fiscal 2006.

Interest Expense and Interest Income

For fiscal 2007 and fiscal 2006, net interest expense was approximately $24.1 million and $21.4 million, respectively, consisting primarily of interest expense associated with the term loan borrowings, fees associated with the Company’s credit agreement and outstanding letters of credit and amortization of debt issuance costs, partially offset by interest income of $3.2 million and $3.3 million, respectively, earned on short-term investments and existing cash balances.

Income before Income Taxes

Components of income before income taxes were as follows:

 

      Fiscal Year  
(Dollars in millions)    2007     2006     Variance  

Operating Contribution:

      

Home Health

   $ 122.0     $ 94.5     $ 27.5  

CareCentrix

     29.1       24.7       4.4  

All Other

     13.8       18.6       (4.8 )
                        

Total Operating Contribution

     164.9       137.8       27.1  

Corporate expenses

     (65.3 )     (68.6 )     3.3  

Depreciation and amortization

     (20.0 )     (15.2 )     (4.8 )

Interest (expense) income, net

     (24.1 )     (21.4 )     (2.7 )
                        

Income before income taxes

   $ 55.5     $ 32.6     $ 22.9  

As a percent of revenue

     4.5 %     2.9 %     1.6 %

 

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Income Taxes

The Company recorded a federal and state income tax provision of $22.8 million for fiscal 2007, representing a current tax provision of $1.8 million and a deferred tax provision of $21.0 million. The difference between the Federal statutory income tax rate and the Company’s effective rate of 40.9 percent for fiscal 2007 is primarily due to (i) the impact of the adoption of SFAS 123(R) (approximately 2.2 percent), and (ii) state income taxes, net of a decrease in the state tax valuation allowance (4.4 percent), partially offset by (iii) a net reduction of $0.5 million of tax reserves associated with the expiration of the statute of limitations and various other items (approximately 0.7 percent).

The Company recorded a federal and state income tax provision of $11.9 million for fiscal 2006, representing a current tax provision of $1.0 million and a deferred tax provision of $10.9 million. The difference between the Federal statutory income tax rate and the Company’s effective rate of 36.4 percent for fiscal 2006 is primarily due to (i) the impact of the adoption of SFAS 123(R) (approximately 3.5 percent), and (ii) state income taxes, net of a decrease in the state tax valuation allowance (5.2 percent), partially offset by (iii) the release of $0.8 million of tax reserves associated with the expiration of the statute of limitations (approximately 2.5 percent), (iv) the adjustment of net deferred tax assets from 39 percent to 40 percent (approximately 1.7 percent), and (v) additional state net operating loss carryforwards resulting from the finalization of prior year state tax audits (approximately 2.1 percent) and various other items (1.0 percent).

Net Income

The Company recorded net income of $32.8 million, or $1.15 per diluted share, in fiscal 2007 compared to net income of $20.8 million, or $0.76 per diluted share, in fiscal 2006.

Net income for fiscal 2007 included: (i) pre-tax restructuring and integration costs of $2.4 million, or $0.05 per diluted share; and (ii) a net cost of $0.18 per diluted share representing a pre-tax charge of $6.8 million resulting from the adoption of SFAS 123(R) for equity-based compensation and its impact on the Company’s effective tax rate.

Net income for fiscal 2006 included: (i) a special item related to Medicare, noted under the heading “Net Revenues” above, which had a positive pre-tax impact of $1.9 million, or $0.04 per diluted share; (ii) pre-tax restructuring and integration costs of $7.7 million, or $0.17 per diluted share; and (iii) a net cost of $0.14 per diluted share representing a pre-tax charge of $4.3 million resulting from the adoption of SFAS 123(R) for equity-based compensation and its impact on the Company’s effective tax rate.

Liquidity and Capital Resources

Liquidity

The Company’s principal source of liquidity is the collection of its accounts receivable. For healthcare services, the Company grants credit without collateral to its patients, most of whom are insured under third party commercial or governmental payer arrangements. Additional liquidity is provided from existing cash balances and the Company’s credit arrangements, principally through its revolving credit facility, and could be provided in the future through the issuance of up to $300 million of debt or equity securities under a universal shelf registration statement filed with the SEC in September 2007.

During fiscal 2008, cash provided by operating activities was $70.7 million. The Company received net proceeds of $83.2 million from the sale of 69 percent of its equity interest in the CareCentrix unit and $24 million from the revolving credit facility. In addition, the Company generated cash from the issuance of common stock upon exercise of stock options and under the Company’s Employee Stock Purchase Plan (“ESPP”) of $11.5 million. For the fiscal year ended December 28, 2008, the Company used $83 million for the repayment of debt, $60.7 million for acquisitions, and $24.0 million of cash for capital expenditures.

 

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The Company generated net cash from operating activities of $70.7 million for the year ended December 28, 2008 as compared to net cash provided by operating activities of $62.7 million for the year ended December 30, 2007. The increase of $8.0 million in net cash provided by operating activities between the 2007 and 2008 periods was primarily driven by an increase in cash provided by operations prior to changes in assets and liabilities ($7.7 million) and changes in accounts receivable and other assets ($13.7 million), offset by changes in current liabilities ($13.4 million).

Adjustments to add back non-cash items affecting net income are summarized as follows (in thousands):

 

     Fiscal Year Ended  
     December 28,
2008
    December 30,
2007
    Variance  

OPERATING ACTIVITIES:

      

Net income

   $ 153,450     $ 32,828     $ 120,622  

Adjustments to add back non-cash items affecting net income:

      

Depreciation and amortization

     22,044       20,014       2,030  

Amortization of debt issuance costs

     1,753       1,063       690  

Provision for doubtful accounts

     11,010       9,939       1,071  

Reversal of tax audit reserves

     —         (450 )     450  

Equity-based compensation expense

     5,757       6,812       (1,055 )

Windfall tax benefits associated with equity-based compensation

     (2,227 )     (856 )     (1,371 )

Gain on sale of business, net

     (107,933 )     —         (107,933 )

Equity in net loss of affiliate

     35       —         35  

Deferred income tax expense

     14,127       20,923       (6,796 )
                        

Total cash provided by operations prior to changes in assets and liabilities

   $ 98,016     $ 90,273     $ 7,743  
                        

The $7.7 million difference in “Total cash provided by operations prior to changes in assets and liabilities” between fiscal year 2007 and fiscal year 2008 is primarily related to improvements in net income after adjusting for components of income that do not have an impact on cash, such as depreciation and amortization, equity-based compensation expense, gain on sale of business, net and deferred income taxes.

Cash flow from operating activities between the 2007 and 2008 reporting periods was positively impacted by $10.9 million as a result of changes in accounts receivable represented by the difference between a $36.4 million use of cash in the 2007 period and a $25.6 million use of cash in the 2008 period, exclusive of accounts receivable of acquisitions and dispositions as of the respective transaction dates. Cash flow from operating activities was positively impacted by $1.4 million as a result of changes in prepaid expenses and other current assets of ($2.1) million in the 2008 period as compared to ($3.5) million in the 2007 period.

 

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Cash flow from operating activities between the 2007 and 2008 reporting periods was negatively impacted by $13.4 million as a result of changes in current liabilities represented by the difference between a $0.8 million use of cash in the 2008 period and a $12.6 million increase in cash flow in the 2007 period. A summary of the changes in current liabilities impacting cash flow from operating activities follows (in thousands):

 

     Fiscal Year Ended  
     December 28,
2008
    December 30,
2007
    Variance  

OPERATING ACTIVITIES:

      

Changes in current liabilities:

      

Accounts payable

   $ 127     $ 499     $ (372 )

Payroll and related taxes

     (1,085 )     1,078       (2,163 )

Deferred revenue

     1,337       8,892       (7,555 )

Medicare liabilities

     (2,165 )     (1,247 )     (918 )

Cost of claims incurred but not reported

     (2,829 )     4,859       (7,688 )

Obligations under insurance programs

     2,807       906       1,901  

Other accrued expenses

     1,058       (2,381 )     3,439  
                        

Total changes in current liabilities

   $ (750 )   $ 12,606     $ (13,356 )
                        

The primary drivers for the ($13.4) million difference resulting from changes in current liabilities that impacted cash flow from operating activities included:

 

   

Accounts payable, which had a negative impact on cash of ($0.4) million and payroll and related taxes, which had a negative impact of ($2.2) million on the changes in operating cash flow between the 2007 and 2008 periods, primarily related to timing of payments.

 

   

Deferred revenue, which had a negative impact of ($7.6) million on the changes in operating cash flow between the 2007 and 2008 reporting periods, exclusive of business acquired, primarily due to growth in Medicare and non-Medicare PPS business.

 

   

Medicare liabilities, which had a negative impact of ($0.9) million on the changes in operating cash flow between the 2007 and 2008 reporting periods, primarily related to a reversal of a previously recorded reserve related to the MO175 issue as further discussed in Note 5 to the Company’s consolidated financial statements.

 

   

Cost of claims incurred but not reported, which had a negative impact of ($7.7) million on the changes in operating cash flows between the 2007 and 2008 reporting periods, primarily related to timing of claim payments between the 2007 and 2008 reporting periods up to the date of the CareCentrix Transaction.

 

   

Obligations under insurance programs, which had a positive impact on the change in operating cash flow of $1.9 million between the 2007 and 2008 reporting periods, primarily as a result of an increase in health and welfare benefit liabilities due to an increase in the number of covered associates and benefits coverage.

 

   

Other accrued expenses, which had a positive impact on the change in operating cash flow of $3.4 million between the 2007 and 2008 reporting periods, due primarily to accrued interest payable associated with the Company’s term loan, restructuring reserves associated with integration activities, and accrued incentives and commissions reflecting increases in the sales force and eligible administrative associates under those plans and the Company’s performance relative to targets set under the Company’s incentive programs as well as changes in various other accrued expenses.

Working capital at December 28, 2008 was approximately $125 million, a decrease of $4 million, as compared to approximately $129 million at December 30, 2007, primarily due to:

 

   

a $31 million decrease in short-term investments, primarily due to liquidation of auction rate securities and a classification change of approximately $13 million in auction rate securities to long-term investments;

 

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a $31 million decrease in accounts receivable, primarily due to the CareCentrix Transaction net of growth in the Company’s Medicare and non-Medicare PPS revenues, receivables acquired in acquisitions and normal seasonal patterns;

 

   

a $7 million decrease in deferred tax assets; and

 

   

a $1 million decrease in prepaid expenses and other assets due to prepayments made in connection with the Company’s insurance programs; offset somewhat by

 

   

a $33 million increase in cash and cash equivalents and restricted cash, primarily related to the CareCentrix Transaction; and

 

   

a $34 million decrease in current liabilities, consisting of decreases as a result of the CareCentrix Transaction in accounts payable ($12 million), and cost of claims incurred but not reported ($24 million). Additional changes in current liabilities consisted of increases in payroll and related taxes ($1 million), deferred revenue ($4 million), and obligations under insurance programs ($3 million), partially offset by decreases in current portion of long-term debt ($2 million), and other accrued expenses ($4 million).

The changes in current liabilities are further described above in the discussion on net cash flow from operating activities.

Days Sales Outstanding (“DSO”) as of December 28, 2008 were 57 days, a decrease of three days from December 30, 2007. The decrease of three days in DSO was primarily driven by strong cash collections, particularly in the later part of 2008.

At the commencement of an episode of care under the Medicare and non-Medicare PPS for Home Health, the Company records accounts receivable and deferred revenue based on an expected reimbursement amount. Accounts receivable is adjusted upon the receipt of cash, and deferred revenue is amortized into revenue over the average patient treatment period. For information purposes, if net accounts receivable and deferred revenue were combined for purposes of determining an alternative DSO calculation to measure open net accounts receivable and recognized revenues, the alternative DSO would have been 46 days at December 28, 2008 and 52 days at December 30, 2007.

DSO at December 28, 2008 for Home Health and All Other were 57 and 53 days, respectively, compared to 59 and 61 days, respectively, at December 30, 2007. DSO for CareCentrix was 63 at December 30, 2007.

Accounts receivable aging by major payer sources of reimbursement were as follows (in thousands):

 

     December 28, 2008
     Total    0 - 90 days    91 - 180 days    181 - 365 days    Over 1 year

Medicare

   $ 117,311    $ 100,873    $ 11,043    $ 4,164    $ 1,231

Medicaid and Local Government

     21,384      16,269      2,481      2,114      520

Commercial Insurance and Other

     43,528      31,173      6,382      4,197      1,776

Self-Pay

     3,205      1,249      893      729      334
                                  

Gross Accounts Receivable

   $ 185,428    $ 149,564    $ 20,799    $ 11,204    $ 3,861
                                  

 

     December 30, 2007
     Total    0 - 90 days    91 - 180 days    181 - 365 days    Over 1 year

Medicare

   $ 93,992    $ 78,941    $ 10,335    $ 3,554    $ 1,162

Medicaid and Local Government

     21,818      17,688      2,248      1,482      400

Commercial Insurance and Other

     94,540      78,844      8,753      5,843      1,100

Self-Pay

     6,888      2,236      2,355      1,913      384
                                  

Gross Accounts Receivable

   $ 217,238    $ 177,709    $ 23,691    $ 12,792    $ 3,046
                                  

 

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The Company participates in Medicare, Medicaid and other federal and state healthcare programs. The Company’s revenue mix by major payer classifications was as follows:

 

     Fiscal Year  
     2008     2007     2006  

Medicare

   55 %   50 %   46 %

Medicaid and Local Government

   11     12     16  

Commercial Insurance and Other:

      

Paid at episodic rates

   4     2     1  

Other

   30     36     37  
                  

Total net revenues

   100 %   100 %   100 %
                  

Segment revenue mix by major payer classifications was as follows:

 

     Fiscal Year  
     2008     2007     2006  
     Home
Health
    All
Other
         Home
Health
    All
Other
    Home
Health
    All
Other
 

Medicare

   69 %   53 %      67 %   50 %   61 %   51 %

Medicaid and Local Government

   13     17        16     20     20     21  

Commercial Insurance and Other:

               

Paid at episodic rates

   5     —          3     —       1     —    

Other

   13     30        14     30     18     28  
                                       

Total net revenues

   100 %   100 %      100 %   100 %   100 %   100 %
                                       

CareCentrix revenues were all derived from the Commercial Insurance and Other payer group.

In November 2006, CMS announced an increase of 3.3 percent in Medicare home health rates (the “market basket increase”) for episodes ending on or after January 1, 2007 and the elimination of a temporary 5 percent premium reflected in the reimbursement rate for specifically defined rural-areas of the country (the “rural add-on provision”) for episodes that began on or after January 1, 2007. In August 2007, CMS published the “Home Health Prospective Payment System Refinement and Rate Update for Calendar Year 2008” that contains significant refinements to Medicare home health PPS including, among other things, a 3.0 percent market basket index update, effective January 1, 2008 and a multi-year reduction (2.75 percent for each of the years 2008 through 2010 and 2.71 percent for 2011) in the home health system payment rates to offset coding changes since the original implementation of PPS in 2000, known as “case mix creep”. In October 2008, CMS provided for a 2.9 percent market basket index update effective January 1, 2009.

Medicare reimbursement rates for hospice services increased by 3.4 percent effective October 1, 2006. On June 29, 2007, CMS released a transmittal that confirmed an increase of 3.3 percent to the fiscal 2008 Medicare hospice annual update payment. On July 31, 2008, CMS announced that hospices serving Medicare beneficiaries would receive a 2.5 percent increase in their fiscal 2009 hospice payments. As a result of the stimulus package enacted in 2009, the fiscal 2009 updated increase for hospices serving Medicare beneficiaries will change from 2.5 percent to 3.6 percent retroactive to October 1, 2008. Effective January 1, 2009, CMS implemented a 9.5 percent reduction in rates on certain HME.

There are certain standards and regulations that the Company must adhere to in order to continue to participate in Medicare, Medicaid and other federal and state healthcare programs. As part of these standards and regulations, the Company is subject to periodic audits, examinations and investigations conducted by, or at the direction of, governmental investigatory and oversight agencies. Periodic and random audits conducted or directed by these agencies could result in a delay or adjustment to the amount of reimbursements received under these programs. Violation of the applicable federal and state health care regulations can result in the Company’s exclusion from participating in these programs and can subject the Company to substantial civil and/or criminal

 

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penalties. The Company believes that it is currently in compliance with these standards and regulations. The Company’s HME and respiratory business operates in certain markets that are potentially subject to a competitive bidding process for Medicare.

CareCentrix is party to a contract with Cigna, pursuant to which CareCentrix provided or contracted with third-party providers to provide various homecare services including direct home nursing and related services, home infusion therapies and certain other specialty medical equipment to patients insured by Cigna. For fiscal years 2008, 2007 and 2006, Cigna accounted for approximately 81 percent, 82 percent and 81 percent, respectively, of CareCentrix total net revenues, which in turn represented approximately 15 percent, 19 percent and 20 percent, respectively, of the Company’s total net revenues. The decrease in Cigna revenues as a percent of the Company’s total net revenues is primarily attributable to revenue growth in the Home Health segment and, for fiscal 2008, the CareCentrix Transaction.

Net revenues generated under capitated agreements with managed care payers were approximately 4 percent, 6 percent, and 8 percent of total net revenues for fiscal 2008, 2007 and 2006, respectively. As a result of the CareCentrix Transaction, beginning in the fourth quarter of fiscal 2008, the Company’s revenues associated with capitated agreements are immaterial.

Credit Arrangements

The Company’s credit agreement, which was entered into on February 28, 2006, provided for an aggregate borrowing amount of $445.0 million of senior secured credit facilities consisting of (i) a seven year term loan of $370.0 million repayable in quarterly installments of 1 percent per annum (with the remaining balance due at maturity on March 31, 2013) and (ii) a six year revolving credit facility of $75.0 million. On March 5, 2008, in accordance with the provisions of its credit agreement, the Company and certain of its lenders agreed to increase the revolving credit facility from $75.0 million to $96.5 million. Of the total revolving credit facility, $55 million is available for the issuance of letters of credit and $10 million was available for swing line loans.

Upon the occurrence of certain events, including the issuance of capital stock, the incurrence of additional debt (other than that specifically allowed under the credit agreement), certain asset sales where the cash proceeds are not reinvested, or if the Company has excess cash flow (as defined in the agreement), mandatory prepayments of the term loan are required in the amounts specified in the credit agreement.

In connection with the CareCentrix Transaction, the Company entered into the First Amendment to Credit Agreement dated as of August 20, 2008, which, among other things, provided for lenders’ consent to the CareCentrix Transaction and required the Company to apply $58 million of the cash proceeds it received to pay down the Company’s term loan. In addition, the Company was able to retain approximately $26 million of the cash proceeds for reinvestment into its businesses during a six month period following the CareCentrix Transaction; at the end of the six month period, remaining proceeds that are not invested will be used for additional term loan repayments. The Company incurred debt issuance costs of approximately $0.5 million associated with the First Amendment, which are netted against the gain on sale of business, net in the Company’s consolidated financial statements.

Interest under the credit agreement accrues at Base Rate or Eurodollar Rate (plus an applicable margin based on the table presented below) for both the revolving credit facility and the term loan. Overdue amounts bear interest at 2 percent per annum above the applicable rate. The interest rates under the credit agreement are reduced if the Company meets certain reduced leverage targets as follows:

 

Revolving Credit

Consolidated

Leverage Ratio

  

Term Loan

Consolidated

Leverage Ratio

  

Margin for

Base Rate Loans

  

Margin for

Eurodollar Loans

³ 3.5

   ³ 3.5    1.25%    2.25%

< 3.5 & ³ 3.0

   < 3.5 & ³ 3.0    1.00%    2.00%

< 3.0 & ³ 2.5

   < 3.0    0.75%    1.75%

< 2.5

      0.50%    1.50%

 

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The Company is also subject to a revolving credit commitment fee equal to 0.375 percent per annum (0.5 percent per annum prior to August 1, 2007) of the average daily difference between the total revolving credit commitment and the total outstanding borrowings and letters of credit, excluding amounts outstanding under swing loans. As of July 1, 2007, the Company achieved a consolidated leverage ratio of less than 3.5 and, as a result, the margin on revolving credit and term loan borrowings was reduced by 25 basis points, effective August 1, 2007. As of December 30, 2007, the Company achieved a consolidated leverage ratio below 3.0 and as a result triggered an additional 25 basis point reduction in the margin on revolving credit and term loan borrowings, effective February 14, 2008. As of September 28, 2008, the Company’s consolidated leverage ratio fell below 2.5 and as a result lowered the Company’s revolving credit margin by an additional 25 basis points, effective November 11, 2008. As of December 28, 2008, the consolidated leverage ratio was 2.2.

The credit agreement requires the Company to meet certain financial tests. These tests include a consolidated leverage ratio and a consolidated interest coverage ratio. The credit agreement also contains additional covenants which, among other things, require the Company to deliver to the lenders specified financial information, including annual and quarterly financial information, and limit the Company’s ability to do the following, subject to various exceptions and limitations: (i) merge with other companies; (ii) create liens on its property; (iii) incur additional debt obligations; (iv) enter into transactions with affiliates, except on an arms-length basis; (v) dispose of property; (vi) make capital expenditures; and (vii) pay dividends or acquire capital stock of the Company or its subsidiaries. As of December 28, 2008, the Company was in compliance with the covenants in the credit agreement.

The credit agreement requires the Company to make quarterly installment payments on the term loan with the remaining balance due at maturity on March 31, 2013. The required quarterly installment payments are reduced by prepayments the Company may make. The administrative agent under the credit agreement has determined that the Company made sufficient prepayments to extinguish all required quarterly installment payments due under the credit agreement on the term loan, with any future prepayments to be applied against the balance due at maturity. During fiscal 2008, the Company made a $58.0 million payment on its term loan from the proceeds of the CareCentrix Transaction, made voluntary debt prepayments on the term loan of $1.0 million and borrowed and repaid $24.0 million under its revolving credit facility.

As of December 28, 2008, the Company had outstanding borrowings of $251.0 million under the term loan and outstanding letters of credit of $41.6 million. Following the bankruptcy filing in September 2008 of Lehman Commercial Paper, Inc. (“LCPI”), a participating lending institution in the Company’s credit facility, the Company no longer has access to LCPI’s pro rata share of the unused revolving credit facility and to the facility’s swing line loan feature. As a result, the Company’s unused and available credit line had been effectively reduced from $54.9 million to $45.5 million at December 28, 2008 and subsequently increased to $49.5 million as a result of reductions in the Company’s outstanding letters of credit in January 2009.

The letters of credit, which expire one year from the date of issuance, were issued to guarantee payments under the Company’s workers’ compensation program and for certain other commitments. See Cash, Cash Equivalents and Restricted Cash in Note 2 to the Company’s consolidated financial statements for further discussion. The Company also had outstanding surety bonds of $1.9 million at December 28, 2008 and December 30, 2007.

Guarantee and Collateral Agreement

The Company has entered into a Guarantee and Collateral Agreement, among the Company and certain of its subsidiaries, in favor of the administrative agent under the credit agreement (the “Guarantee and Collateral Agreement”). The Guarantee and Collateral Agreement grants a collateral interest in all real property and personal property of the Company and its subsidiaries, including stock of its subsidiaries. The Guarantee and Collateral Agreement also provides for a guarantee of the Company’s obligations under the credit agreement by substantially all subsidiaries of the Company.

 

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Capital Expenditures

The Company’s capital expenditures for fiscal year 2008 were $24.0 million, as compared to $24.1 million for fiscal year 2007. The Company intends to make investments and other expenditures to upgrade its computer technology and system infrastructure and comply with regulatory changes in the industry, among other things. In this regard, management expects that capital expenditures will range between $20 million and $24 million for fiscal 2009. Management expects that the Company’s capital expenditure needs will be met through operating cash flow and available cash reserves.

Cash Resources and Obligations

The Company had cash and cash equivalents of approximately $69.2 million as of December 28, 2008. During fiscal 2008, the Company replaced $21.8 million of its segregated cash funds with additional letters of credit as collateral under the Company’s insurance programs. As of December 28, 2008, the Company had operating funds of approximately $4.6 million exclusively relating to a non-profit hospice operation in Florida. Interest on all restricted funds accrues to the Company.

The Company held investments in auction rate securities (“ARS”) of $11.1 million at December 28, 2008. Based on the failures of auctions for these securities and the long-term maturities of the underlying securities (between three and 27 years), the Company reclassified its ARS as long-term investments on the Company’s consolidated balance sheet during the first quarter of 2008. Based on the Company’s expected operating cash flows, and its other sources of cash, the Company does not anticipate that the potential lack of liquidity on these investments will affect its ability to execute its current business plan. See Notes 2 and 4 to the Company’s consolidated financial statements.

The Company anticipates that repayments to Medicare for partial episode payments and prior year cost report settlements will be made periodically throughout 2008. These amounts are included in Medicare liabilities in the accompanying consolidated balance sheets.

As of December 28, 2008, the Company had remaining authorization to repurchase an aggregate of 683,396 shares of its outstanding common stock. See Notes 10 and 17 to the Company’s consolidated financial statements.

Contractual Obligations and Commercial Commitments

As of December 28, 2008, the Company had outstanding borrowings of $251 million under the term loan of its credit agreement. There were no borrowings under the revolving credit facility. Debt repayments, future minimum rental commitments for all non-cancelable leases and purchase obligations at December 28, 2008 are as follows (in thousands):

 

     Payment due by period

Contractual Obligations

   Total    Less than
1 year
   1 - 3 years    4 - 5 years    More than
5 years

Long-term debt obligations

   $ 251,000    $ —      $ —      $ 251,000    $ —  

Capital lease obligations

     2,098      910      1,008      180      —  

Operating lease obligations

     81,705      27,237      37,830      14,339      2,299

Purchase obligations

     7,763      2,588      5,175      —        —  
                                  

Total

   $ 342,566    $ 30,735    $ 44,013    $ 265,519    $ 2,299
                                  

During fiscal 2008, the Company made a $58.0 million payment on its term loan from the proceeds of the CareCentrix Transaction, made voluntary debt prepayments on the term loan of $1.0 million and repaid $24.0 million of borrowings under its revolving credit facility.

 

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The Company had total letters of credit outstanding of approximately $41.6 million at December 28, 2008 and $20.1 million at December 30, 2007. The letters of credit, which expire one year from date of issuance, were issued to guarantee payments under the workers’ compensation program and for certain other commitments. On April 7, 2008, the amount of collateral required under the Company’s insurance programs was reduced and, as such, the Company’s outstanding letters of credit were reduced by approximately $4.8 million. In January 2009, outstanding letters of credits were reduced by an additional $4.7 million to an aggregate amount of $36.9 million. The Company has the option to renew these letters of credit or set aside cash funds in a segregated account to satisfy the Company’s obligations as further discussed above under the caption “Cash Resources and Obligations.” In February 2008, the Company replaced $21.8 million of its segregated cash funds with additional letters of credit as collateral under the Company’s insurance programs. The Company also had outstanding surety bonds of $1.9 million at December 28, 2008 and December 30, 2007.

The Company has no other off-balance sheet arrangements and has not entered into any transactions involving unconsolidated, limited purpose entities or commodity contracts.

Management expects that working capital needs for fiscal 2009 will be met through operating cash flow and existing cash balances. The Company may also consider other alternative uses of cash including, among other things, acquisitions, voluntary prepayments on the term loan, additional share repurchases and cash dividends. These uses of cash may require the approval of its Board of Directors and may require the approval of the Company’s lenders. If cash flows from operations, cash resources or availability under the credit agreement fall below expectations, the Company may be forced to delay planned capital expenditures, reduce operating expenses, seek additional financing or consider alternatives designed to enhance liquidity.

Additional items that could impact the Company’s liquidity are discussed under “Risk Factors” in Item 1A of this report.

Litigation and Government Matters

The Company is a party to certain legal actions and government investigations. See Item 3, “Legal Proceedings” and Note 11 to the Company’s consolidated financial statements.

Settlement Issues

PRRB Appeal

In connection with the audit of the Company’s 1997 cost reports, the Medicare fiscal intermediary made certain audit adjustments related to the methodology used by the Company to allocate a portion of its residual overhead costs. The Company filed cost reports for years subsequent to 1997 using the fiscal intermediary’s methodology. The Company believed the methodology it used to allocate such overhead costs was accurate and consistent with past practice accepted by the fiscal intermediary; as such, the Company filed appeals with the Provider Reimbursement Review Board (“PRRB”) concerning this issue with respect to cost reports for the years 1997, 1998 and 1999. The Company’s consolidated financial statements for the years 1997, 1998 and 1999 had reflected use of the methodology mandated by the fiscal intermediary.

In June 2003, the Company and its Medicare fiscal intermediary signed an Administrative Resolution relating to the issues covered by the appeals pending before the PRRB. Under the terms of the Administrative Resolution, the fiscal intermediary agreed to reopen and adjust the Company’s cost reports for the years 1997, 1998 and 1999 using a modified version of the methodology used by the Company prior to 1997. This modified methodology will also be applied to cost reports for the year 2000, which are currently under audit. The Administrative Resolution required that the process to (i) reopen all 1997 cost reports, (ii) determine the adjustments to allowable costs through the issuance of Notices of Program Reimbursement and (iii) make appropriate payments to the Company, be completed in early 2004. Cost reports relating to years subsequent to 1997 were to be reopened after the process for the 1997 cost reports was completed.

 

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The fiscal intermediary completed the reopening of all 1997, 1998 and 1999 cost reports and determined that the adjustment to allowable costs aggregated $15.9 million which the Company has received and recorded as adjustments to net revenues in the fiscal years 2004 through 2006. The time frame for resolving all items relating to the 2000 cost reports cannot be determined at this time.

Goodwill and Other Intangible Assets

In June 2001, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 142 “Goodwill and Other Intangible Assets” (“SFAS 142”), which broadens the criteria for recording intangible assets separate from goodwill. SFAS 142 requires the use of a non-amortization approach to account for purchased goodwill and certain intangibles. Under a non-amortization approach, goodwill and indefinite-lived intangibles are not amortized into results of operations, but instead are reviewed for impairment, and an impairment charge is recorded in the periods in which the recorded carrying value of goodwill and indefinite-lived intangibles is more than its estimated fair value. The provisions of SFAS 142 require that a goodwill impairment test be performed annually or on the occasion of other events that indicate a potential impairment. The annual impairment test of goodwill and indefinite-lived intangibles was performed and indicated that there was no impairment for the fiscal years 2008, 2007 and 2006. Goodwill amounting to $308.2 million and $276.1 million was reflected in the accompanying consolidated balance sheets as of December 28, 2008 and December 30, 2007, respectively. The Company had indefinite-lived intangible assets of $215.6 million and $183.0 million recorded as of December 28, 2008 and December 30, 2007, respectively.

Recent Accounting Pronouncements

In March 2008, the FASB issued SFAS No. 161, “Disclosures about Derivative Instruments and Hedging Activities—An Amendment of FASB Statement No. 133” (“SFAS 161”). SFAS 161 applies to all derivative instruments and related hedged items accounted for under SFAS 133. It requires entities to provide greater transparency about (a) how and why an entity uses derivative instruments, (b) how derivative instruments and related hedged items are accounted for under SFAS 133 and its related interpretations, and (c) how derivative instruments and related hedged items affect an entity’s financial position, results of operations, and cash flows. SFAS 161 is effective for fiscal years and interim periods beginning after November 15, 2008. Because SFAS 161 applies only to financial statement disclosures, it will not have a material impact on the Company’s consolidated financial statements.

Effective January 1, 2008, the Company adopted SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities” (“SFAS 159”). SFAS 159 allows an entity the irrevocable option to elect fair value for the initial and subsequent measurement for specified financial assets and liabilities on a contract-by-contract basis. The Company did not elect to adopt the fair value option under this Statement for any of the Company’s existing financial assets and liabilities, except for the Company’s preferred stock investment in CareCentrix Holdings.

In December 2007, the FASB issued SFAS No. 160, “Noncontrolling Interests in Consolidated Financial Statements—an amendment of Accounting Research Bulletin No. 51” (“SFAS No. 160”). SFAS No. 160 establishes accounting and reporting standards for ownership interests in subsidiaries held by parties other than the parent, the amount of consolidated net income attributable to the parent and to the noncontrolling interest, changes in a parent’s ownership interest, and the valuation of retained, noncontrolling equity investments when a subsidiary is deconsolidated. SFAS No. 160 also establishes disclosure requirements that clearly identify and distinguish between the interests of the parent and the interests of the noncontrolling owners. SFAS No. 160 is effective for fiscal years beginning after December 15, 2008. The Company is evaluating the impact of adopting this standard and does not expect it to have a material impact on the Company’s consolidated financial statements.

In December 2007, the FASB issued SFAS No. 141 (revised 2007), “Business Combinations” (“SFAS No. 141(R)”). SFAS No. 141(R) establishes principles and requirements for how an acquirer recognizes and

 

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measures in its financial statements the identifiable assets acquired, the liabilities assumed, any noncontrolling interest in the acquiree, and the goodwill acquired. SFAS No. 141(R) also establishes disclosure requirements to enable the evaluation of the nature and financial effects of the business combination. SFAS No. 141(R) is effective for fiscal years beginning after December 15, 2008. The Company is evaluating the impact of adopting this standard.

In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements” (“SFAS No. 157”), which defines fair value, establishes a framework for measuring fair value under Generally Accepted Accounting Principles (“GAAP”) and expands disclosures about fair value measurements. This Statement will be effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. In February 2008, the FASB issued a FASB Staff Position (“FSP”) that amends SFAS 157 to delay the effective date of SFAS 157 for all non-financial assets and non-financial liabilities, except those that are recognized or disclosed at fair value in the financial statements on a recurring basis, to fiscal years beginning after November 15, 2008, and interim periods within those fiscal years. In February 2008, the FASB also issued a FSP that would exclude leasing transactions accounted for under SFAS No. 13, “Accounting for Leases”, and its related interpretive accounting pronouncements. The Company is evaluating the impact that the adoption of SFAS 157 and related guidance will have on the Company’s consolidated financial statements.

Impact of Inflation

The Company does not believe that the general level of inflation has had a material impact on its results of operations during the past three fiscal years.

Critical Accounting Policies and Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions and select accounting policies that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. The most critical estimates relate to revenue recognition, the collectibility of accounts receivable and related reserves, obligations under insurance programs, which include workers’ compensation, professional liability, property and general liability and employee health and welfare insurance programs, and prior to the CareCentrix Transaction, the cost of claims incurred but not reported. A description of the critical accounting policies and a discussion of the significant estimates and judgments associated with such policies are described below.

Revenue Recognition

Revenues recognized by the Company are subject to a number of elements which impact both the overall amount of revenue realized as well as the timing of the collection of the related accounts receivable. In each category described below, the impact of the estimate, if applicable, undertaken by the Company with respect to these elements is reflected in net revenues in the consolidated statements of income. See further discussion of the elements below under the heading “Causes and Impact of Change on Revenue.”

In addition, these elements can be impacted by the risk factors described in “Risks Related to Gentiva’s Business and Industry” and “Risks Related to Healthcare Regulation,” which appear in Part I, Item 1A of this report.

Fee-for-Service Agreements

Under fee-for-service agreements with patients and commercial and certain government payers, net revenues are recorded based on net realizable amounts to be received in the period in which the services and products are provided or delivered. Fee-for-service contracts with commercial payers are traditionally one year in term and renew automatically on an annual basis, unless terminated by either party.

 

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Capitated Arrangements

The Company has capitated arrangements with certain managed care customers. Under the capitated arrangements, net revenues are recognized based on a predetermined monthly contractual rate for each member of the managed care plan regardless of the volume of services covered by the capitation arrangements. Net revenues generated under capitated arrangements were approximately 4 percent, 6 percent, and 8 percent of total net revenues for fiscal 2008, 2007 and 2006, respectively; the majority of such revenues were generated from the Company’s CareCentrix business.

Prospective Payment System Reimbursements

Under PPS reimbursement, the Company estimates net revenues to be recorded based on a reimbursement rate which is determined using relevant data, such as the severity of the patient’s condition, service needs and certain other factors, as well as applicable wage indices to give effect to geographic differences in wage levels. Billings under PPS are initially recognized as deferred revenue and are subsequently amortized into revenue over an average patient treatment period. The process for recognizing revenue to be recorded is based on certain assumptions and judgments, including the average length of time of each treatment as compared to a standard 60 day episode, the appropriateness of the clinical assessment of each patient at the time of certification and the level of adjustments to the fixed reimbursement rate relating to patients who receive a limited number of visits, have significant changes in condition or are subject to certain other factors during the episode. Revenue is subject to adjustment during this period if there are significant changes in the patient’s condition during the treatment period or if the patient is discharged but readmitted to another agency within the same 60 day episodic period. Effective January 1, 2008, revenue is no longer subject to adjustment if there are significant changes in the patient’s condition during the treatment period. However, there are now multiple thresholds for the number of therapy visits to be provided, increasing the complexity in determining the correct reimbursement rate, which may result in a greater number of episodes that are subject to revenue adjustments, although the adjustment amount per episode would decline. Deferred revenue of approximately $33.0 million and $29.0 million primarily relating to the PPS program was included in deferred revenue in the consolidated balance sheets as of December 28, 2008 and December 30, 2007, respectively.

Medicare Settlement Issues under Interim Payment System

Prior to October 1, 2000, reimbursement of Medicare home healthcare services was based on reasonable, allowable costs incurred in providing services to eligible beneficiaries subject to both per visit and per beneficiary limits in accordance with the Interim Payment System established through the Balanced Budget Act of 1997. These costs were reported in annual cost reports which were filed with CMS and were subject to audit by the fiscal intermediary engaged by CMS. The fiscal intermediary has not finalized its audit of the fiscal 2000 cost reports. Furthermore, settled cost reports relating to certain years prior to fiscal 2000 could be subject to reopening of the audit process by the fiscal intermediary. Although management believes that established reserves related to the open fiscal 2000 cost report year are sufficient, it is possible that adjustments resulting from such audits could exceed established reserves and could have a material effect on the Company’s financial condition and results of operations. These reserves are reflected in Medicare liabilities in the accompanying consolidated balance sheets. The Company periodically reviews its established audit reserves for appropriateness and records any adjustments or settlements as net revenues in the Company’s consolidated statements of income. There have not been any material revisions in established reserves for the periods presented in this filing.

Settlement liabilities are recorded at the time of any probable and reasonably estimable event and any positive settlements are recorded as revenue in the Company’s consolidated statements of income in the period in which such gain contingencies are realized. As discussed further under the heading “Government Matters— PRRB Appeal” in Note 11 to the consolidated financial statements included in this report, the Company received and recorded an aggregate of $10.4 million during fiscal 2004 in settlement of the Company’s appeal filed with the PRRB related to the reopening of all of its 1997 and 1998 cost reports. During fiscal 2005, the Company

 

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received and recorded $3.6 million in partial settlement of the PRRB appeal relating to its 1999 cost reports. The remaining 1999 cost report settlements of $1.9 million were received and recorded during fiscal 2006.

Causes and Impact of Change on Revenue

For each of the sources of revenue, the principal elements in addition to those described above which can cause change in the amount of revenue to be realized are (i) an inability to obtain appropriate billing documentation; (ii) an inability to obtain authorizations acceptable to the payer; (iii) utilization of services at levels other than authorized; and (iv) other reasons unrelated to credit risk.

Revenue adjustments resulting from differences between estimated and actual reimbursement amounts are recorded as adjustments to net revenues or recorded against allowance for doubtful accounts, depending on the nature of the adjustment. These are determined by Company management and reviewed from time to time, but no less often than quarterly. Each of the elements described here and under each of the various sources of revenue can effect change in the estimates, and it is not possible to predict the degree of change that might be effected by a variation in one or more of the elements described. While it is not possible to predict the degree of change of each element, we believe that changes in these elements could cause a change in estimate which could have a material impact on the consolidated financial statements. There have not been any material revisions in these estimates for the periods presented in this filing.

Billing and Receivables Processing

The Company’s billing systems record revenues at net expected reimbursement based on established or contracted fee schedules. The systems provide for an initial contractual allowance adjustment from “usual and customary” charges, which is typical for the payers in the healthcare field. The Company records an initial contractual allowance at the time of billing and reduces the Company’s revenue to expected reimbursement levels. Changes in contractual allowances, if any, are recorded each month. Changes in contractual allowances have not been material for the periods presented in this filing.

Accounts Receivable below further outlines matters considered with respect to estimating the allowance for doubtful accounts.

Accounts Receivable

Collection Policy

The process for estimating the ultimate collection of receivables involves significant assumptions and judgments. The Company believes that its collection and reserve processes, along with the monitoring of its billing processes, help to reduce the risk associated with material revisions to reserve estimates resulting from adverse changes in reimbursement experience, revenue adjustments and billing functions. Collection processes are performed in accordance with the Fair Debt Collections Practices Act and include reviewing aging and cash posting reports, contacting the payers to determine why payment has not been made, resubmitting of claims when appropriate and filing appeals with payers for claims that have been denied. Collection procedures generally include follow up contact with the payer at least every 30 days from invoice date, and a review of collection activity at 90 days to determine continuation of internal collection activities or potential referral to collection agencies. The Company’s bad debt policy includes escalation procedures and guidelines for write-off of an account, as well as the authorization required, once it is determined that the open account has been worked by the Company’s internal collectors and/or collection agencies in accordance with the Company’s standard procedures and resolution of the open account through receipt of payment is determined to be remote. The Company reviews each account individually and does not have either a threshold dollar amount or aging period that it uses to trigger a balance write-off, although the Company does have a small balance write-off policy for non-governmental accounts with debit balances under $10.

 

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The Company’s policy is to bill for patient co-payments and make good faith efforts to collect such amounts. At the end of each reporting period, the Company estimates the amount of outstanding patient co-payments that will not be collected and the amount of outstanding co-payments that may be waived due to financial hardship based on a review of historical trends. This estimate is made as part of the Company’s evaluation of the adequacy of its allowance for doubtful accounts. There have not been any material revisions in this estimate for the periods presented in this filing.

Accounts Receivable Reserve Methodology

The Company has implemented a standardized approach to estimate and review the collectibility of its receivables based on accounts receivable aging trends. The Company analyzes historical collection trends, reimbursement experience and revenue adjustment trends by major payers including Medicare and other payers as well as by business lines, as an integral part of the estimation process related to determining the valuation allowance for accounts receivable. In addition, the Company assesses the current state of its billing functions on a quarterly basis in order to identify any known collection or reimbursement issues to determine the impact, if any, on its reserve estimates, which involve judgment. Revisions in reserve estimates are recorded as an adjustment to the provision for doubtful accounts, which is reflected in selling, general and administrative expenses in the consolidated statements of income. During fiscal 2006, the Company recorded an incremental provision for doubtful accounts of approximately $1.5 million associated with the accounts receivable acquired in the Healthfield transaction. The allowance for doubtful accounts at December 28, 2008, December 30, 2007 and December 31, 2006 was $8.2 million, $9.4 million and $9.8 million, respectively. Additional information regarding the allowance for doubtful accounts can be found in Schedule II—Valuation and Qualifying Accounts on page 94 of this report.

Cost of Claims Incurred But Not Reported

The Company’s accounting policy with respect to cost of claims incurred but not reported was utilized solely in the recording of the Company’s CareCentrix operations which were disposed of in the CareCentrix Transaction, effective September 25, 2008. See Note 3 to the Company consolidated financial statements.

Under capitated arrangements with managed care customers, the Company estimates the cost of claims incurred but not reported based on applying actuarial assumptions, historical patterns of utilization to authorized levels of service, current enrollment statistics and other information. Under fee-for-service arrangements with managed care customers, the Company also estimates the cost of claims incurred but not reported and the estimated revenue relating thereto in situations in which the Company is responsible for care management and patient services are performed by a non-affiliated provider.

The estimate of cost of claims incurred but not reported involves applying a factor based on historical patterns of service utilization and payment trends to the services authorized at each of the Company’s regional care centers. The Company evaluates the assumptions and judgments used in determining this factor on a quarterly basis utilizing the trailing twelve months of claims payments, and changes in estimated liabilities for cost of claims incurred but not reported are determined based on this evaluation.

Each of the elements described above can effect change in the estimates, and the Company is not able to predict the degree of change that might be effected by a variation in one or more of the elements described. Because of the elements described above, these estimates may change in the future and could have a material impact on the Company’s consolidated financial statements.

The cost of claims incurred for fiscal years 2008, 2007 and 2006 was $189.6 million, $230.6 million and $212.7 million, respectively. Differences in costs between fiscal years relate primarily to changes in business activity in the Company’s CareCentrix operations during the reported periods. Cost of claims incurred but not

 

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reported, including any changes in estimate relating thereto, are reflected in cost of services and goods sold in the Company’s consolidated statements of income. There has not been any material revisions in estimates of prior year costs related to cost of claims incurred for the periods presented in this filing.

Obligations Under Insurance Programs

The Company is obligated for certain costs under various insurance programs, including workers’ compensation, professional liability, property and general liability, and employee health and welfare.

The Company may be subject to workers’ compensation claims and lawsuits alleging negligence or other similar legal claims. The Company maintains various insurance programs to cover this risk with insurance policies subject to substantial deductibles and retention amounts. The Company recognizes its obligations associated with these programs in the period the claim is incurred. The cost of both reported claims and claims incurred but not reported, up to specified deductible limits, have generally been estimated based on historical data, industry statistics, the Company’s own home health specific historical claims experience, current enrollment statistics and other information. The Company’s estimates of its obligations and the resulting reserves are reviewed and updated from time to time but at least quarterly. The elements which impact this critical estimate include the number, type and severity of claims and the policy deductible limits; therefore, the estimate is sensitive and changes in the estimate could have a material impact on the Company’s consolidated financial statements.

Workers’ compensation and professional and general liability costs were $15.8 million, $16.6 million and $20.6 million for the fiscal years ended December 28, 2008, December 30, 2007 and December 31, 2006, respectively. Differences in costs between fiscal years relate primarily to the number and severity of claims incurred in each reported period as well as changes in the cost of insurance coverage. Workers’ compensation and professional liability claims, including any changes in estimate relating thereto, are recorded primarily in cost of services and goods sold in the Company’s consolidated statements of income. There have not been any material revisions in estimates of prior year costs for the periods presented in this filing.

The Company maintains insurance coverage on individual claims. The Company is responsible for the cost of individual workers’ compensation claims and individual professional liability claims up to $500,000 per incident that occurred prior to March 15, 2002, and $1,000,000 per incident thereafter. The Company also maintains excess liability coverage relating to professional liability and casualty claims which provides insurance coverage for individual claims of up to $25,000,000 in excess of the underlying coverage limits. Payments under the Company’s workers’ compensation program are guaranteed by letters of credit. The Company believes that its present insurance coverage and reserves are sufficient to cover currently estimated exposures, but there can be no assurance that the Company will not incur liabilities in excess of recorded reserves or in excess of its insurance limits.

The Company provides employee health and welfare benefits under a self insured program and maintains stop loss coverage for individual claims in excess of $175,000 for fiscal 2008. For fiscal years ended December 28, 2008, December 30, 2007 and December 31, 2006, employee health and welfare benefit costs were $47.8 million, $39.4 million and $30.3 million, respectively. Differences in costs between fiscal years relate primarily to increased enrollment and the number and severity of individual claims incurred in each reported period. Changes in estimates of the Company’s employee health and welfare claims are recorded in cost of services and goods sold for clinical associates and in selling, general and administrative costs for administrative associates in the Company’s consolidated statements of income. There have not been any material revisions in estimates of prior year costs for the periods presented in this filing.

The Company also maintains Directors and Officers liability insurance coverage with an aggregate limit of $60 million.

 

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Item 7A. Quantitative and Qualitative Disclosures About Market Risk

Generally, the fair market value of fixed rate debt will increase as interest rates fall and decrease as interest rates rise. The Company is exposed to market risk from fluctuations in interest rates. The interest rate on the Company’s borrowings under the credit agreement can fluctuate based on both the interest rate option (i.e., base rate or LIBOR plus applicable margins) and the interest period. As of December 28, 2008, the total amount of outstanding debt subject to interest rate fluctuations was $251.0 million. A hypothetical 100 basis point change in short-term interest rates as of that date would result in an increase or decrease in interest expense of $2.5 million per year, assuming a similar capital structure.

 

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Item 8. Financial Statements and Supplementary Data

GENTIVA HEALTH SERVICES, INC. AND SUBSIDIARIES

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

 

     Page No.

Consolidated Balance Sheets as of December 28, 2008 and December 30, 2007

   52

Consolidated Statements of Income for each of the three years ended December 28, 2008

   53

Consolidated Statements of Changes in Shareholders’ Equity for each of the three years ended December 28, 2008

   54

Consolidated Statements of Cash Flows for each of the three years ended December 28, 2008

   55

Notes to Consolidated Financial Statements

   56 - 93

Schedule II—Valuation and Qualifying Accounts for the three years ended December 28, 2008

   94

 

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GENTIVA HEALTH SERVICES, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(In thousands, except share and per share amounts)

 

     December 28,
2008
    December 30,
2007
 

ASSETS

    

Current assets:

    

Cash and cash equivalents

   $ 69,201     $ 14,167  

Restricted cash

     —         22,014  

Short-term investments

     —         31,250  

Receivables, less allowance for doubtful accounts of $8,227 and $9,437 at December 28, 2008 and December 30, 2007, respectively

     177,201       207,801  

Deferred tax assets

     11,933       18,859  

Prepaid expenses and other current assets

     13,141       14,415  
                

Total current assets

     271,476       308,506  

Long-term investments

     11,050       —    

Note receivable from affiliate

     25,000       —    

Investment in affiliate

     23,264       —    

Fixed assets, net

     63,815       59,562  

Intangible assets, net

     250,432       211,602  

Goodwill

     308,213       276,100  

Other assets

     20,247       26,463  
                

Total assets

   $ 973,497     $ 882,233  
                

LIABILITIES AND SHAREHOLDERS’ EQUITY

    

Current liabilities:

    

Current portion of long-term debt

   $ —       $ 2,304  

Accounts payable

     8,027       20,093  

Payroll and related taxes

     17,869       17,163  

Deferred revenue

     32,976       29,015  

Medicare liabilities

     6,680       7,985  

Cost of claims incurred but not reported

     —         24,321  

Obligations under insurance programs

     39,628       36,816  

Other accrued expenses

     40,895       42,282  
                

Total current liabilities

     146,075       179,979  

Long-term debt

     251,000       307,696  

Deferred tax liabilities, net

     64,262       48,572  

Other liabilities

     17,189       22,557  

Shareholders’ equity:

    

Common stock, $.10 par value; authorized 100,000,000 shares; issued 28,993,390 and 28,104,750 shares at December 28, 2008 and December 30, 2007, respectively

     2,899       2,810  

Additional paid-in capital

     334,687       314,747  

Retained earnings

     161,057       7,608  

Accumulated other comprehensive loss

     (1,170 )     (737 )

Treasury stock, 129,703 and 59,063 shares at December 28, 2008 and December 30, 2007, respectively

     (2,502 )     (999 )
                

Total shareholders’ equity

     494,971       323,429  
                

Total liabilities and shareholders’ equity

   $ 973,497     $ 882,233  
                

See notes to consolidated financial statements.

 

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GENTIVA HEALTH SERVICES, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF INCOME

(In thousands, except per share amounts)

 

     For the Fiscal Year Ended  
     December 28, 2008     December 30, 2007     December 31, 2006  

Net revenues

   $ 1,300,438     $ 1,229,297     $ 1,106,588  

Cost of services and goods sold

     717,903       705,592       644,274  
                        

Gross profit

     582,535       523,705       462,314  

Selling, general and administrative expenses

     (490,451 )     (444,042 )     (408,271 )

Gain on sale of business, net

     107,933       —         —    

Interest expense

     (19,377 )     (27,285 )     (24,685 )

Interest income

     2,290       3,204       3,284  
                        

Income before income taxes

     182,930       55,582       32,642  

Income tax expense

     29,445       22,754       11,866  
                        

Income before equity in net loss of affiliate

     153,485       32,828       20,776  

Equity in net loss of affiliate

     (35 )     —         —    
                        

Net income

   $ 153,450     $ 32,828     $ 20,776  
                        

Net income per common share:

      

Basic

   $ 5.37     $ 1.18     $ 0.78  
                        

Diluted

   $ 5.21     $ 1.15     $ 0.76  
                        

Weighted average shares outstanding:

      

Basic

     28,578       27,798       26,480  
                        

Diluted

     29,439       28,599       27,317  
                        

See notes to consolidated financial statements.

 

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GENTIVA HEALTH SERVICES, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF

CHANGES IN SHAREHOLDERS’ EQUITY

FOR EACH OF THE THREE YEARS ENDED DECEMBER 28, 2008

(In thousands, except share amounts)

 

    Common Stock   Additional
Paid-in

Capital
  Retained
Earnings/
(Deficit)
    Accumulated
Other
Comprehensive

Loss
    Treasury
Stock
    Total  
    Shares   Amount          

Balance at January 1, 2006

  23,034,954     2,303     225,847     (45,996 )     —         —         182,154  

Comprehensive income:

             

Net income

  —       —       —       20,776       —         —         20,776  

Unrealized loss on interest rate swap, net of tax

  —       —       —       —         (886 )     —         (886 )
                                               

Total comprehensive income

  —       —       —       20,776       (886 )     —         19,890  

Income tax benefits associated with the exercise of non-qualified stock options

  —       —       3,032     —         —         —         3,032  

Issuance of stock upon exercise of stock options and under stock plans for employees and directors

  1,254,698     126     12,274     —         —         —         12,400  

Issuance of stock in connection with Healthfield acquisition

  3,194,137     319     53,016     —         —         —         53,335  

Equity-based compensation expense

  —       —       4,281     —         —         —         4,281  

Treasury stock received from Healthfield escrow (47,489 shares)

  —       —       —       —         —         (767 )     (767 )
                                               

Balance at December 31, 2006

  27,483,789     2,748     298,450     (25,220 )     (886 )     (767 )     274,325  

Comprehensive income:

             

Net income

  —       —       —       32,828       —         —         32,828  

Unrealized gain on interest rate swap, net of tax

  —       —       —       —         149       —         149  
                                               

Total comprehensive income

  —       —       —       32,828       149       —         32,977  

Income tax benefits associated with the exercise of non-qualified stock options

  —       —       1,665     —         —         —         1,665  

Equity-based compensation expense

  —       —       6,812     —         —         —         6,812  

Issuance of stock upon exercise of

                —    

stock options and under stock plans for employees and directors

  620,961     62     7,820     —         —         —         7,882  

Treasury stock received from Healthfield escrow (11,574 shares)

  —       —       —       —         —         (232 )     (232 )
                                               

Balance at December 30, 2007

  28,104,750     2,810     314,747     7,608       (737 )     (999 )     323,429  

Comprehensive income:

             

Net income

  —       —       —       153,450       —         —         153,450  

Unrealized loss on auction rate securities

  —       —       —       —         (1,170 )       (1,170 )

Unrealized gain on interest rate swap, net of tax

  —       —       —       —         737       —         737  
                                               

Total comprehensive income

  —       —       —       153,450       (433 )     —         153,017  

Income tax benefits associated with the exercise of non-qualified stock options

  —       —       2,723     —         —         —         2,723  

Equity-based compensation expense

  —       —       5,757     —         —         —         5,757  

Issuance of stock upon exercise of

                —    

stock options and under stock plans for employees and directors

  888,640     89     11,460     (1 )     —         —         11,548  

Treasury stock received from Healthfield escrow (70,640 shares)

  —       —       —       —         —         (1,503 )     (1,503 )
                                               

Balance at December 28, 2008

  28,993,390   $ 2,899   $ 334,687   $ 161,057     $ (1,170 )   $ (2,502 )   $ 494,971  
                                               

See notes to consolidated financial statements.

 

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GENTIVA HEALTH SERVICES, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

 

    For the Fiscal Year Ended  
    December 28,
2008
    December 30,
2007
    December 31,
2006
 

OPERATING ACTIVITIES:

     

Net income

  $ 153,450     $ 32,828     $ 20,776  

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

     

Depreciation and amortization

    22,044       20,014       15,241  

Amortization of debt issuance costs

    1,753       1,063       1,028  

Provision for doubtful accounts

    11,010       9,939       9,425  

Loss on disposal / writedown of fixed assets

    —         —         844  

Equity-based compensation expense

    5,757       6,812       4,281  

Reversal of tax audit reserves

    —         (450 )     (800 )

Windfall tax benefits associated with equity-based compensation

    (2,227 )     (856 )     (1,804 )

Gain on sale of business, net

    (107,933 )     —         —    

Equity in net loss of affiliate

    35       —         —    

Deferred income tax expense

    14,127       20,923       10,841  

Changes in assets and liabilities, net of effects from acquisitions and dispositions:

     

Accounts receivable

    (25,555 )     (36,423 )     (2,424 )

Prepaid expenses and other current assets

    (2,118 )     (3,531 )     (2,344 )

Accounts payable

    127       499       (2,539 )

Payroll and related taxes

    (1,085 )     1,078       (8,194 )

Deferred revenue

    1,337       8,892       (2,891 )

Medicare liabilities

    (2,165 )     (1,247 )     188  

Cost of claims incurred but not reported

    (2,829 )     4,859       (5,814 )

Obligations under insurance programs

    2,807       906       2,414  

Other accrued expenses

    1,058       (2,381 )     12,141  

Other, net

    1,107       (254 )     1,078  
                       

Net cash provided by operating activities

    70,700       62,671       51,447  
                       

INVESTING ACTIVITIES:

     

Purchase of fixed assets

    (24,004 )     (24,064 )     (24,407 )

Proceeds from sale of business, net of cash transferred

    83,160       —         —    

Acquisition of businesses, net of cash acquired

    (60,736 )     (3,820 )     (210,314 )

Purchase of short-term investments available-for-sale

    (28,000 )     (96,850 )     (176,495 )

Maturities of short-term investments available-for-sale

    46,250       89,925       201,920  

Withdrawal from restricted cash

    22,014       —         —    
                       

Net cash provided by (used in) investing activities

    38,684       (34,809 )     (209,296 )
                       

FINANCING ACTIVITIES:

     

Proceeds from issuance of common stock

    11,547       7,882       12,400  

Windfall tax benefits associated with equity-based compensation

    2,227       856       1,804  

Borrowings under revolving credit facility

    24,000       —         —    

Proceeds from issuance of debt

    —         —         370,000  

Home Health Care Affiliates debt repayments

    (7,420 )     —         —    

Healthfield debt repayments

    —         —         (195,305 )

Other debt repayments

    (83,000 )     (32,000 )     (28,000 )

Changes in book overdrafts

    —         —         (1,395 )

Debt issuance costs

    (557 )     —         (6,930 )

Repayment of capital lease obligations

    (1,147 )     (1,329 )     (432 )
                       

Net cash (used in) provided by financing activities

    (54,350 )     (24,591 )     152,142  
                       

Net change in cash and cash equivalents

    55,034       3,271       (5,707 )

Cash and cash equivalents at beginning of year

    14,167       10,896       16,603  
                       

Cash and cash equivalents at end of year

  $ 69,201     $ 14,167     $ 10,896  
                       

SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:

     

Interest paid

  $ 21,081     $ 27,469     $ 17,268  

Income taxes paid

  $ 10,561     $ 2,389     $ 2,840  

SUPPLEMENTAL SCHEDULE OF NON CASH INVESTING AND FINANCING ACTIVITY:

     

Note receivable received in connection with the sale of CareCentrix

  $ 25,000     $ —       $ —    

Fair value of preferred stock received in connection with sale of CareCentrix

  $ 23,299     $ —       $ —    

Fixed assets acquired under capital lease

  $ 675     $ 1,858     $ 513  

During the fiscal year ended December 31, 2006, the Company issued 3,194,137 shares of common stock in connection with the acquisition of The Healthfield Group, Inc. on February 28, 2006. Subsequent thereto, 70,640, 11,574 and 47,489 shares of common stock in 2008, 2007 and 2006, respectively, were transferred as treasury shares from the Healthfield escrow account to satisfy certain pre-acquisition liabilities paid by the Company.

For fiscal years 2008, 2007 and 2006, deferred tax benefits associated with stock compensation deductions of $2.7 million, $1.7 million and $3.0 million, respectively, have been credited to shareholders’ equity.

See notes to consolidated financial statements.

 

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GENTIVA HEALTH SERVICES, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 1. Background and Basis of Presentation

Gentiva® Health Services, Inc. (“Gentiva” or the “Company”) provides comprehensive home health services throughout most of the United States. The Company conducts its operations through (i) its Home Health business segment, (ii) various smaller operating segments, including hospice, respiratory services and home medical equipment (“HME”), infusion therapy services and consulting, which are classified in the aggregate as “All Other” for segment reporting purposes, and (iii) for periods prior to September 25, 2008, its CareCentrix business segment. See Note 16 for a description of the Company’s operating segments and financial information about its reportable segments.

On September 25, 2008, the Company completed the disposition of 69 percent of its equity interest in the Company’s CareCentrix ancillary care benefit management business for total consideration of approximately $135 million. See Notes 3 and 6 for additional information.

The Company’s consolidated statements of income presented herein included the results of operations of CareCentrix for all periods prior to the CareCentrix Transaction and the Company’s equity in the net earnings of CareCentrix Holdings Inc., the new holding company for CareCentrix, for the period from September 25, 2008 through December 28, 2008, the end of the Company’s 2008 fiscal year.

During 2008, 2007 and 2006, the Company completed several acquisitions as further described in Note 3. The most significant transaction related to the acquisition of The Healthfield Group, Inc. (“Healthfield”), a regional provider of home healthcare, hospice and related services, on February 28, 2006. In connection with the Healthfield acquisition, the Company entered into a $445 million Credit Agreement and a Guarantee and Collateral Agreement. The impact of these acquisitions and the related agreements is reflected in the Company’s results of operations and financial condition from their respective dates of acquisition. See Notes 3 and 7 for additional information.

Gentiva was incorporated in the State of Delaware on August 6, 1999 and became an independent publicly owned company on March 15, 2000.

 

Note 2. Summary of Critical and Other Significant Accounting Policies

Consolidation

The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries and, for the period subsequent to the CareCentrix Transaction, include the Company’s equity in the net earnings of CareCentrix Holdings.

All significant intercompany balances and transactions have been eliminated. The Company’s fiscal year ends on the Sunday nearest to December 31st, which was December 28, 2008 for fiscal 2008, December 30, 2007 for fiscal 2007 and December 31, 2006 for fiscal 2006.

Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions and select accounting policies that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

The most critical estimates relate to revenue recognition, the collectibility of accounts receivable and related reserves, obligations under insurance programs, which include workers’ compensation, professional liability,

 

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property and general liability and employee health and welfare insurance programs, and prior to the CareCentrix Transaction, the cost of claims incurred but not reported.

A description of the critical and other significant accounting policies and a discussion of the significant estimates and judgments associated with such policies are described below.

Critical Accounting Policies and Estimates

Revenue Recognition

Revenues recognized by the Company are subject to a number of elements which impact both the overall amount of revenue realized as well as the timing of the collection of the related accounts receivable. In each category described below, the impact of the estimate, if applicable, undertaken by the Company with respect to these elements is reflected in net revenues in the consolidated statements of income. See further discussion of the elements below under the heading “Causes and Impact of Change on Revenue.”

Fee-for-Service Agreements

Under fee-for-service agreements with patients and commercial and certain government payers, net revenues are recorded based on net realizable amounts to be received in the period in which the services and products are provided or delivered. Fee-for-service contracts with commercial payers are traditionally one year in term and renew automatically on an annual basis, unless terminated by either party.

Capitated Arrangements

The Company has capitated arrangements with certain managed care customers. Under the capitated arrangements, net revenues are recognized based on a predetermined monthly contractual rate for each member of the managed care plan regardless of the volume of services covered by the capitation arrangements. Net revenues generated under capitated arrangements were approximately 4 percent, 6 percent, and 8 percent of total net revenues for fiscal 2008, 2007 and 2006, respectively; the majority of such revenues were generated from the Company’s CareCentrix business.

Prospective Payment System Reimbursements

Under PPS reimbursement, the Company estimates net revenues to be recorded based on a reimbursement rate which is determined using relevant data, such as the severity of the patient’s condition, service needs and certain other factors, as well as applicable wage indices to give effect to geographic differences in wage levels. Billings under PPS are initially recognized as deferred revenue and are subsequently amortized into revenue over an average patient treatment period. The process for recognizing revenue to be recorded is based on certain assumptions and judgments, including the average length of time of each treatment as compared to a standard 60 day episode, the appropriateness of the clinical assessment of each patient at the time of certification and the level of adjustments to the fixed reimbursement rate relating to patients who receive a limited number of visits, have significant changes in condition or are subject to certain other factors during the episode. Revenue is subject to adjustment during this period if there are significant changes in the patient’s condition during the treatment period or if the patient is discharged but readmitted to another agency within the same 60 day episodic period. Effective January 1, 2008, revenue is no longer subject to adjustment if there are significant changes in the patient’s condition during the treatment period. However, there are now multiple thresholds for the number of therapy visits to be provided, increasing the complexity in determining the correct reimbursement rate, which may result in a greater number of episodes that are subject to revenue adjustments, although the adjustment amount per episode would decline. Deferred revenue of approximately $33.0 million and $29.0 million primarily relating to the PPS program was included in deferred revenue in the consolidated balance sheets as of December 28, 2008 and December 30, 2007, respectively.

 

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Medicare Settlement Issues under Interim Payment System

Prior to October 1, 2000, reimbursement of Medicare home healthcare services was based on reasonable, allowable costs incurred in providing services to eligible beneficiaries subject to both per visit and per beneficiary limits in accordance with the Interim Payment System established through the Balanced Budget Act of 1997. These costs were reported in annual cost reports which were filed with CMS and were subject to audit by the fiscal intermediary engaged by CMS. The fiscal intermediary has not finalized its audit of the fiscal 2000 cost reports. Furthermore, settled cost reports relating to certain years prior to fiscal 2000 could be subject to reopening of the audit process by the fiscal intermediary. Although management believes that established reserves related to the open fiscal 2000 cost report year are sufficient, it is possible that adjustments resulting from such audits could exceed established reserves and could have a material effect on the Company’s financial condition and results of operations. These reserves are reflected in Medicare liabilities in the accompanying consolidated balance sheets. The Company periodically reviews its established audit reserves for appropriateness and records any adjustments or settlements as net revenues in the Company’s consolidated statements of income. There have not been any material revisions in established reserves for the periods presented in this filing.

Settlement liabilities are recorded at the time of any probable and reasonably estimable event and any positive settlements are recorded as revenue in the Company’s consolidated statements of income in the period in which such gain contingencies are realized. As discussed further under the heading “Government Matters—PRRB Appeal” in Note 11, the Company received and recorded an aggregate of $10.4 million during fiscal 2004 in settlement of the Company’s appeal filed with the PRRB related to the reopening of all of its 1997 and 1998 cost reports. During fiscal 2005, the Company received and recorded $3.6 million in partial settlement of the PRRB appeal relating to its 1999 cost reports. The remaining 1999 cost report settlements of $1.9 million were received and recorded during fiscal 2006.

Causes and Impact of Change on Revenue

For each of the sources of revenue, the principal elements in addition to those described above which can cause change in the amount of revenue to be realized are (i) an inability to obtain appropriate billing documentation; (ii) an inability to obtain authorizations acceptable to the payer; (iii) utilization of services at levels other than authorized; and (iv) other reasons unrelated to credit risk.

Revenue adjustments resulting from differences between estimated and actual reimbursement amounts are recorded as adjustments to net revenues or recorded against allowance for doubtful accounts, depending on the nature of the adjustment. These are determined by Company management and reviewed from time to time, but no less often than quarterly. Each of the elements described here and under each of the various sources of revenue can effect change in the estimates, and it is not possible to predict the degree of change that might be effected by a variation in one or more of the elements described. While it is not possible to predict the degree of change of each element, we believe that changes in these elements could cause a change in estimate which could have a material impact on the consolidated financial statements. There have not been any material revisions in these estimates for the periods presented in this filing.

Billing and Receivables Processing

The Company’s billing systems record revenues at net expected reimbursement based on established or contracted fee schedules. The systems provide for an initial contractual allowance adjustment from “usual and customary” charges, which is typical for the payers in the healthcare field. The Company records an initial contractual allowance at the time of billing and reduces the Company’s revenue to expected reimbursement levels. Changes in contractual allowances, if any, are recorded each month. Changes in contractual allowances have not been material for the periods presented in this filing.

Accounts Receivable below further outlines matters considered with respect to estimating the allowance for doubtful accounts.

 

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Accounts Receivable

Collection Policy

The process for estimating the ultimate collection of receivables involves significant assumptions and judgments. The Company believes that its collection and reserve processes, along with the monitoring of its billing processes, help to reduce the risk associated with material revisions to reserve estimates resulting from adverse changes in reimbursement experience, revenue adjustments and billing functions. Collection processes are performed in accordance with the Fair Debt Collections Practices Act and include reviewing aging and cash posting reports, contacting the payers to determine why payment has not been made, resubmitting of claims when appropriate and filing appeals with payers for claims that have been denied. Collection procedures generally include follow up contact with the payer at least every 30 days from invoice date, and a review of collection activity at 90 days to determine continuation of internal collection activities or potential referral to collection agencies. The Company’s bad debt policy includes escalation procedures and guidelines for write-off of an account, as well as the authorization required, once it is determined that the open account has been worked by the Company’s internal collectors and/or collection agencies in accordance with the Company’s standard procedures and resolution of the open account through receipt of payment is determined to be remote. The Company reviews each account individually and does not have either a threshold dollar amount or aging period that it uses to trigger a balance write-off, although the Company does have a small balance write-off policy for non-governmental accounts with debit balances under $10.

The Company’s policy is to bill for patient co-payments and make good faith efforts to collect such amounts. At the end of each reporting period, the Company estimates the amount of outstanding patient co-payments that will not be collected and the amount of outstanding co-payments that may be waived due to financial hardship based on a review of historical trends. This estimate is made as part of the Company’s evaluation of the adequacy of its allowance for doubtful accounts. There have not been any material revisions in this estimate for the periods presented in this filing.

Accounts Receivable Reserve Methodology

The Company has implemented a standardized approach to estimate and review the collectibility of its receivables based on accounts receivable aging trends. The Company analyzes historical collection trends, reimbursement experience and revenue adjustment trends by major payers including Medicare and other payers as well as by business lines, as an integral part of the estimation process related to determining the valuation allowance for accounts receivable. In addition, the Company assesses the current state of its billing functions on a quarterly basis in order to identify any known collection or reimbursement issues to determine the impact, if any, on its reserve estimates, which involve judgment. Revisions in reserve estimates are recorded as an adjustment to the provision for doubtful accounts, which is reflected in selling, general and administrative expenses in the consolidated statements of income. During fiscal 2006, the Company recorded an incremental provision for doubtful accounts of approximately $1.5 million associated with the accounts receivable acquired in the Healthfield transaction. The allowance for doubtful accounts at December 28, 2008, December 30, 2007 and December 31, 2006 was $8.2 million, $9.4 million and $9.8 million, respectively. Additional information regarding the allowance for doubtful accounts can be found in Schedule II—Valuation and Qualifying Accounts on page 94 of this report.

Cost of Claims Incurred But Not Reported

The Company’s accounting policy with respect to cost of claims incurred but not reported was utilized solely in the recording of the Company’s CareCentrix operations which were disposed of in the CareCentrix Transaction, effective September 25, 2008. See Note 3.

Under capitated arrangements with managed care customers, the Company estimates the cost of claims incurred but not reported based on applying actuarial assumptions, historical patterns of utilization to authorized levels of service, current enrollment statistics and other information. Under fee-for-service arrangements with

 

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managed care customers, the Company also estimates the cost of claims incurred but not reported and the estimated revenue relating thereto in situations in which the Company is responsible for care management and patient services are performed by a non-affiliated provider.

The estimate of cost of claims incurred but not reported involves applying a factor based on historical patterns of service utilization and payment trends to the services authorized at each of the Company’s regional care centers. The Company evaluates the assumptions and judgments used in determining this factor on a quarterly basis utilizing the trailing twelve months of claims payments, and changes in estimated liabilities for cost of claims incurred but not reported are determined based on this evaluation.

Each of the elements described above can effect change in the estimates, and the Company is not able to predict the degree of change that might be effected by a variation in one or more of the elements described. Because of the elements described above, these estimates may change in the future and could have a material impact on the Company’s consolidated financial statements.

The cost of claims incurred for fiscal years 2008, 2007 and 2006 was $189.6 million, $230.6 million and $212.7 million, respectively. Differences in costs between fiscal years relate primarily to changes in business activity in the Company’s CareCentrix operations during the reported periods. Cost of claims incurred but not reported, including any changes in estimate relating thereto, are reflected in cost of services and goods sold in the Company’s consolidated statements of income. There has not been any material revisions in estimates of prior year costs related to cost of claims incurred for the periods presented in this filing.

Obligations Under Insurance Programs

The Company is obligated for certain costs under various insurance programs, including workers’ compensation, professional liability, property and general liability, and employee health and welfare.

The Company may be subject to workers’ compensation claims and lawsuits alleging negligence or other similar legal claims. The Company maintains various insurance programs to cover this risk with insurance policies subject to substantial deductibles and retention amounts. The Company recognizes its obligations associated with these programs in the period the claim is incurred. The cost of both reported claims and claims incurred but not reported, up to specified deductible limits, have generally been estimated based on historical data, industry statistics, the Company’s own home health specific historical claims experience, current enrollment statistics and other information. The Company’s estimates of its obligations and the resulting reserves are reviewed and updated from time to time but at least quarterly. The elements which impact this critical estimate include the number, type and severity of claims and the policy deductible limits; therefore, the estimate is sensitive and changes in the estimate could have a material impact on the Company’s consolidated financial statements.

Workers’ compensation and professional and general liability costs were $15.8 million, $16.6 million and $20.6 million for the fiscal years ended December 28, 2008, December 30, 2007 and December 31, 2006, respectively. Differences in costs between fiscal years relate primarily to the number and severity of claims incurred in each reported period as well as changes in the cost of insurance coverage. Workers’ compensation and professional liability claims, including any changes in estimate relating thereto, are recorded primarily in cost of services and goods sold in the Company’s consolidated statements of income. There have not been any material revisions in estimates of prior year costs for the periods presented in this filing.

The Company maintains insurance coverage on individual claims. The Company is responsible for the cost of individual workers’ compensation claims and individual professional liability claims up to $500,000 per incident that occurred prior to March 15, 2002, and $1,000,000 per incident thereafter. The Company also maintains excess liability coverage relating to professional liability and casualty claims which provides insurance coverage for individual claims of up to $25,000,000 in excess of the underlying coverage limits. Payments under

 

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the Company’s workers’ compensation program are guaranteed by letters of credit. The Company believes that its present insurance coverage and reserves are sufficient to cover currently estimated exposures, but there can be no assurance that the Company will not incur liabilities in excess of recorded reserves or in excess of its insurance limits.

The Company provides employee health and welfare benefits under a self insured program and maintains stop loss coverage for individual claims in excess of $175,000 for fiscal 2008. For fiscal years ended December 28, 2008, December 30, 2007 and December 31, 2006, employee health and welfare benefit costs were $47.8 million, $39.4 million and $30.3 million, respectively. Differences in costs between fiscal years relate primarily to increased enrollment and the number and severity of individual claims incurred in each reported period. Changes in estimates of the Company’s employee health and welfare claims are recorded in cost of services and goods sold for clinical associates and in selling, general and administrative costs for administrative associates in the Company’s consolidated statements of income. There have not been any material revisions in estimates of prior year costs for the periods presented in this filing.

The Company also maintains Directors and Officers liability insurance coverage with an aggregate limit of $60 million.

Other Significant Accounting Policies

Cash and Cash Equivalents and Restricted Cash

The Company considers all investments with a maturity date three months or less from their date of acquisition to be cash equivalents. Restricted cash of $22.0 million at December 30, 2007 primarily represented segregated cash funds in a trust account designated as collateral under the Company’s insurance programs. The Company, at its option, could access the cash funds in the trust account by providing equivalent amounts of alternative collateral. In February 2008, the Company transferred the majority of its segregated cash funds to an operating account and replaced the collateral with an equivalent amount of letters of credit issued under the Company’s revolving credit facility. See Note 9. The Company had no restricted cash as of December 28, 2008.

The Company had operating funds of approximately $4.6 million and $5.8 million at December 28, 2008 and December 30, 2007, respectively, which exclusively relate to a non-profit hospice operation managed in Florida. Cash and cash equivalents also included amounts on deposit with several major financial institutions in excess of the maximum amount insured by the Federal Deposit Insurance Corporation. Management believes that these major financial institutions are viable entities.

Investments

Effective September 25, 2008, the Company holds a 31 percent equity interest in CareCentrix Holdings Inc. and accounts for its investment in this unconsolidated affiliate using the equity method of accounting, since the Company has the ability to exercise significant influence, but not control, over the affiliate. Significant influence is deemed to exist because the Company’s ownership interest in the voting stock of the affiliate is between 20 percent and 50 percent, as well as through the Company’s representation on the affiliate’s Board of Directors. The Company’s equity interest in CareCentrix Holdings Inc. is recorded in investment in affiliate in the accompanying consolidated balance sheet at December 28, 2008.

The Company’s other short term and long term investments consist of auction rate securities (“ARS”) and other debt securities with an original maturity of more than three months and less than one year on the acquisition date and are accounted for in accordance with Statement of Financial Accounting Standard (“SFAS”) No. 115 “Accounting for Certain Investments in Debt and Equity Securities.” Investments in debt securities, if any, would be classified by individual security into one of three separate categories: available-for-sale, held-to-maturity or trading.

 

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At December 28, 2008 and December 30, 2007, all such investments were categorized as available-for-sale. Available-for-sale investments are carried in the balance sheet at fair value. Unrealized gains and losses on available-for-sale investments are reflected in accumulated other comprehensive income (loss) in the accompanying consolidated balance sheets. Fair value is determined in accordance with the provisions of SFAS No. 157, “Fair Value Investments” (“SFAS 157”), as further discussed in Note 4. ARS are variable-rate debt securities with an interest rate that resets every 7, 28 or 35 days. In a stable market, these securities are expected to trade at par and are callable at par on any interest payment date at the option of the issuer. Interest is paid at the end of each auction period. Due to the auction rate reset feature the Company classifies ARS as short-term investments. During fiscal 2008, the Company reclassified ARS of approximately $13 million to long-term investments and recorded an unrealized loss of approximately $1.9 million due to reduced liquidity for these securities as a result of failed auctions. The Company expects to have the ability to hold these securities to maturity or until such time as the credit market recovers, and therefore the Company does not consider these securities to be other than temporarily impaired.

Inventory

Inventories, which are included in prepaid expenses and other current assets, are stated at the lower of cost or market. Cost is determined using the specific identification method. Inventories amounted to $2.4 million at December 28, 2008 and $2.3 million at December 30, 2007.

Fixed Assets

Fixed assets, including costs of Company developed software, are stated at cost and depreciated over the estimated useful lives of the assets using the straight-line method. Leasehold improvements are amortized over the shorter of the life of the lease or the life of the improvement. See Note 8.

Home Medical Equipment

HME, which is included in fixed assets, is stated at cost and consists of medical equipment, such as hospital beds and wheelchairs, provided to in-home patients in the Company’s respiratory therapy and HME operations. Depreciation is provided using the straight-line method over the estimated useful lives of the equipment. See Note 8.

Goodwill and Other Intangible Assets

In June 2001, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 142 “Goodwill and Other Intangible Assets” (“SFAS 142”), which broadens the criteria for recording intangible assets separate from goodwill. SFAS 142 requires the use of a non-amortization approach to account for purchased goodwill and certain intangibles. Under a non-amortization approach, goodwill and indefinite-lived intangibles are not amortized into results of operations, but instead are reviewed for impairment, and an impairment charge is recorded in the periods in which the recorded carrying value of goodwill or indefinite-lived intangibles is more than its estimated fair value.

The provisions of SFAS 142 also require that a goodwill impairment test be performed annually or on the occasion of other events that indicate a potential impairment. The annual impairment test of goodwill and indefinite-lived intangibles was performed and indicated that there was no impairment for the fiscal years 2008, 2007 and 2006. Goodwill amounted to $308.2 million and $276.1 million at December 28, 2008 and December 30, 2007, respectively. Indefinite-lived intangible assets of $215.6 million at December 28, 2008 and $183.0 million as of December 30, 2007 were included in intangible assets, net in the consolidated balance sheets.

 

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The gross carrying amount and accumulated amortization of each category of identifiable intangible assets and goodwill as of December 28, 2008 and December 30, 2007 were as follows (in thousands):

 

     December 28, 2008     December 30, 2007      
     Home
Health
    All
Other
    Total     Home
Health
    All
Other
    Total     Useful Life

Amortized intangible assets:

              

Covenants not to compete

   $ 1,198     $ 275     $ 1,473     $ 1,198     $ 275     $ 1,473     5 Years

Less: accumulated amortization

     (884 )     (142 )     (1,026 )     (648 )     (89 )     (737 )  
                                                  

Net covenants not to compete

     314       133       447