UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q (Mark One) X QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended June 30, 1999 TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT For the transition period from to Commission file number 1-11151 U.S. PHYSICAL THERAPY, INC. (Name of registrant as specified in its charter) Nevada 76-0364866 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 3040 Post Oak Blvd., Suite 222, Houston, Texas 77056 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (713) 297-7000 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 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 the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date: 3,275,609 (as of August 14, 1999) PART I - FINANCIAL INFORMATION Item 1. Financial Statements U.S. PHYSICAL THERAPY, INC. AND SUBSIDIARIES INDEX TO CONSOLIDATED FINANCIAL STATEMENTS Consolidated Balance Sheets as of June 30, 1999 and December 31, 1998 3 Consolidated Statements of Operations for the three months and six months ended June 30, 1999 and 1998 5 Consolidated Statements of Cash Flows for the six months ended June 30, 1999 and 1998 7 Notes to Consolidated Financial Statements 9 U.S. PHYSICAL THERAPY, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (in thousands) June 30, December 31, 1999 1998 (unaudited) ASSETS Current assets: Cash and cash equivalents $ 2,626 $ 6,328 Patient accounts receivable, less allowance for doubtful accounts of $1,851 and $1,692, respectively 9,179 8,505 Accounts receivable-other 916 270 Other current assets 499 614 Total current assets 13,220 15,717 Fixed assets: Furniture and equipment 10,017 9,523 Leasehold improvements 4,793 4,537 14,810 14,060 Less accumulated depreciation 8,456 7,636 6,354 6,424 Noncompete agreements, net of amortization of $367 and $340, respectively 14 41 Goodwill, net of amortization of $200 and $169, respectively 1,085 1,000 Other assets 1,002 1,005 $ 21,675 $ 24,187 See notes to consolidated financial statements. 3 U.S. PHYSICAL THERAPY, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (in thousands, except share amounts) June 30, December 31, 1999 1998 (unaudited) LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Accounts payable - trade $ 259 $ 553 Accrued expenses 1,602 1,181 Estimated third-party payor (Medicare) settlements 499 944 Notes payable 33 32 Total current liabilities 2,393 2,710 Notes payable - long-term portion 60 76 Convertible subordinated notes payable 8,050 8,050 Minority interests in subsidiary limited partnerships 1,834 1,746 Commitments - - Shareholders' equity: Preferred stock, $.01 par value, 500,000 shares authorized, -0- shares outstanding - - Common stock, $.01 par value, 10,000,000 shares authorized, 3,626,509 and 3,616,509 shares issued at June 30, 1999 and December 31, 1998, respectively 36 36 Additional paid-in capital 11,763 11,696 Accumulated earnings (deficit) 1,000 (80) Treasury stock at cost, 350,900 and 4,900 shares held at June 30, 1999 and December 31, 1998,respectively (3,461) (47) Total shareholders' equity 9,338 11,605 $ 21,675 $ 24,187 See notes to consolidated financial statements. 4 U.S. PHYSICAL THERAPY, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS (in thousands, except per share data) Three Months Ended June 30, 1999 1998 (unaudited) Net patient revenues $ 12,337 $ 10,600 Other revenues 211 184 Net revenues 12,548 10,784 Clinic operating costs: Salaries and related costs 5,642 4,950 Rent, clinic supplies and other 3,164 2,685 Provision for doubtful accounts 294 269 9,100 7,904 Corporate office costs: General and administrative 1,245 1,025 Recruitment and development 341 324 1,586 1,349 Operating income before non- operating expenses 1,862 1,531 Interest expense 182 183 Minority interests in subsidiary limited partnerships 664 481 Income before income taxes 1,016 867 Provision for income taxes 397 345 Net income $ 619 $ 522 Basic earnings per common share $ .18 $ .14 Earnings per common share-assuming dilution $ .17 $ .14 See notes to consolidated financial statements. 5 U.S. PHYSICAL THERAPY, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS (in thousands, except per share data) Six Months Ended June 30, 1999 1998 (unaudited) Net patient revenues $ 23,675 $ 20,960 Other revenues 397 366 Net revenues 24,072 21,326 Clinic operating costs: Salaries and related costs 11,149 9,869 Rent, clinic supplies and other 6,060 5,351 Provision for doubtful accounts 538 542 17,747 15,762 Corporate office costs: General and administrative 2,352 2,035 Recruitment and development 633 612 2,985 2,647 Operating income before non- operating expenses 3,340 2,917 Interest expense 361 365 Minority interests in subsidiary limited partnerships 1,194 911 Income before income taxes 1,785 1,641 Provision for income taxes 705 650 Net income $ 1,080 $ 991 Basic earnings per common share $ .31 $ .27 Earnings per common share-assuming dilution $ .30 $ .26 See notes to consolidated financial statements. 6 U.S. PHYSICAL THERAPY, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands) Six Months Ended June 30, 1999 1998 (unaudited) Operating activities Net income $ 1,080 $ 991 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 1,045 1,032 Minority interests in earnings of subsidiary limited partnerships 1,194 911 Provision for bad debts 538 542 Loss on sale of fixed assets 7 1 Changes in operating assets and liabilities: Increase in patient accounts receivable (1,211) (896) Increase in accounts receivable- other (646) (56) Decrease in other assets 110 90 Increase in accounts payable and accrued expenses 150 100 Decrease in estimated third-party payor (Medicare) settlements (445) (498) Net cash provided by operating activities 1,822 2,217 See notes to consolidated financial statements. 7 U.S. PHYSICAL THERAPY, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands) Six Months Ended June 30, 1999 1998 (unaudited) Investing activities Purchase of fixed assets (963) (882) Purchase of intangibles (116) (107) Proceeds on sale of fixed assets 24 - Net cash used in investing activities (1,055) (989) Financing activities Payment of notes payable (16) (26) Acquisition of treasury stock (3,414) - Proceeds from investment of minority investors in subsidiary limited partnerships 1 1 Proceeds from exercise of stock options 67 - Distributions to minority investors in subsidiary limited partnerships (1,107) (800) Net cash used in financing activities (4,469) (825) Net increase (decrease) in cash and cash equivalents (3,702) 403 Cash and cash equivalents - beginning of period 6,328 5,556 Cash and cash equivalents - end of period $ 2,626 $ 5,959 Supplemental disclosures of cash flow information Cash paid during the period for: Income taxes $ 686 $ 513 Interest $ 323 $ 326 See notes to consolidated financial statements. 8 U.S. PHYSICAL THERAPY, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS June 30, 1999 1. Basis of Presentation and Significant Accounting Policies The consolidated financial statements include the accounts of U.S. Physical Therapy, Inc. and its subsidiaries (the "Company"). All significant intercompany transactions and balances have been eliminated. The Company, through its wholly-owned subsidiaries, currently owns a 1% general partnership interest, with the exception of one clinic in which the Company owns a 26% general partnership interest, and limited partnership interests ranging from 59% to 99% in the clinics it operates (89% of the clinics were at 64% as of June 30, 1999). For the majority of the clinics, the managing therapist of the clinic, along with other therapists at the clinic in several of the partnerships, own the remaining limited partnership interests in the clinic. The minority interests in the equity and earnings of the subsidiary clinic limited partnerships are presented separately in the consolidated financial statements. The accompanying unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and in accordance with the instructions for Form 10-Q. Accordingly, the statements do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, the accompanying unaudited financial statements contain all necessary adjustments (consisting only of normal recurring adjustments) to present fairly the Company's financial position, results of operations and cash flows for the interim periods presented. For further information regarding the Company's accounting policies, refer to the audited financial statements included in the Company's Form 10-K for the year ended December 31, 1998. Operating results for the three months and six months ended June 30, 1999 are not necessarily indicative of the results expected for the entire year. Use of Estimates Management is required to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. 9 Reclassifications Certain amounts presented in the accompanying financial statements for the three months and six months ended June 30, 1998 have been reclassified to conform with the presentation used for the three months and six months ended June 30, 1999. Such reclassifications had no effect on net income. 2. Earnings per Share The following table sets forth the computation of basic and diluted earnings per share: <TABLE> <CAPTION> Three Months Ended Six Months Ended June 30, June 30, 1999 1998 1999 1998 <S> <C> <C> <C> <C> Numerator: Net income $ 619,000 $ 522,000 $1,080,000 $ 991,000 Numerator for basic earnings per share and diluted earnings per share 619,000 522,000 1,080,000 991,000 Effect of dilutive securities: Interest on convertible subordinated notes payable 119,000 - - - Numerator for diluted earnings per share - income available to common stockholders after assumed conversions $ 738,000 $ 522,000 $1,080,000 $ 991,000 Denominator: Denominator for basic earnings per share-- weighted-average shares 3,439,000 3,611,000 3,526,000 3,611,000 Effect of dilutive securities: Stock options 39,000 166,000 40,000 166,000 Convertible subordinated notes payable 772,000 - - - Dilutive potential common shares 811,000 166,000 40,000 166,000 Denominator for diluted earnings per share--adjusted weighted-average shares and assumed conversions 4,250,000 3,777,000 3,566,000 3,777,000 Basic earnings per share $ 0.18 $ 0.14 $ 0.31 $ 0.27 Diluted earnings per share $ 0.17 $ 0.14 $ 0.30 $ 0.26 </TABLE> 10 During the three and six months ended June 30, 1999 and 1998, the Company had outstanding the following notes payable: 8% Convertible Subordinated Notes due June 30, 2003 - $3,050,000; 8% Convertible Subordinated Notes, Series B, due June 30, 2004 - $2,000,000; and 8% Convertible Subordinated Notes, Series C, due June 30, 2004 - $3,000,000 (collectively "the Notes"). The Notes were not included in the computation of diluted earnings per share for the three months ended June 30, 1998 and the six months ended June 30, 1999 and 1998 because the effect on the computation was anti-dilutive. 3. Income Taxes Significant components of the provision for income taxes were as follows: Three Months Ended Six Months Ended June 30, June 30, 1999 1998 1999 1998 Current: Federal $ 325,000 $ 182,000 $ 570,000 $ 432,000 State 72,000 64,000 135,000 119,000 Total current 397,000 246,000 705,000 551,000 Deferred: Federal - 99,000 - 99,000 State - - - - Total deferred - 99,000 - 99,000 Total income tax provision $ 397,000 $ 345,000 $ 705,000 $ 650,000 11 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations. Overview The Company operates outpatient physical and occupational therapy clinics which provide post-operative care and treatment for a variety of orthopedic-related disorders and sports-related injuries. At June 30, 1999, the Company operated 104 outpatient physical and occupational therapy clinics in 29 states. The average age of the 104 clinics in operation at June 30, 1999 was 3.5 years old. Since inception of the Company, 108 clinics have been developed and six clinics have been acquired by the Company. To date, the Company has closed five facilities due to adverse clinic performance, consolidated the operations of three of its clinics with other existing clinics to more efficiently serve various geographic markets and sold certain fixed assets at two of the Company's clinics and then closed such facilities. Results of Operations Three Months Ended June 30, 1999 Compared to the Three Months Ended June 30, 1998 Net Patient Revenues Net patient revenues increased to $12,337,000 for the three months ended June 30, 1999 ("1999 Second Quarter") from $10,600,000 for the three months ended June 30, 1998 ("1998 Second Quarter"), an increase of $1,737,000, or 16.4%. Net patient revenues from the 20 clinics opened after June 30, 1998 (the "New Clinics") accounted for 61% of the increase, or $1,062,000. The remaining increase of $675,000 in net patient revenues comes from those clinics open more than one year as of June 30, 1999 (the "Old Clinics"). Of the $675,000 increase in net patient revenues from these clinics, a 5% increase in the number of patient visits increased net patient revenues by $539,000, which was coupled with a slight increase in the average net revenue per visit of one percent. Net patient revenues are based on established billing rates less allowances and discounts for patients covered by worker's compensation programs and other contractual programs. Payments received under these programs are based on predetermined rates and are generally less than the established billing rates of the clinics. Net patient revenues reflect reserves, which are evaluated quarterly by management, for contractual and other adjustments relating to patient discounts from certain payors. Prior to January 1, 1999, net patient revenues were reported net of estimated retrospective adjustments under Medicare. Medicare reimbursement for outpatient physical or occupational therapy 12 services furnished by clinics was based on a cost reimbursement methodology. The Company was reimbursed at a tentative rate with final settlement determined after submission of an annual cost report by the Company and audits thereof by the Medicare fiscal intermediary. Beginning in 1999, the Company's reimbursement for outpatient therapy services provided to Medicare beneficiaries is pursuant to a fee schedule published by the Department of Health and Human Services ("HHS"). See "Balanced Budget Act of 1997." Other Revenues Other revenues, consisting of interest, management fees and sublease income, increased by $27,000, or 15%, to $211,000 for the 1999 Second Quarter from $184,000 for the 1998 Second Quarter. This increase was due primarily to management fees earned in connection with four contracts the Company entered into during 1998 to manage third-party physical therapy clinics, offset, in part, by a decrease in interest income as a result of both lower average amounts of cash available for investment during the 1999 Second Quarter and lower interest rates earned on invested cash. Clinic Operating Costs Clinic operating costs as a percent of net patient revenues decreased slightly to 74% for the 1999 Second Quarter from 75% for the 1998 Second Quarter. Clinic Operating Costs - Salaries and Related Costs Salaries and related costs increased to $5,642,000 for the 1999 Second Quarter from $4,950,000 for the 1998 Second Quarter, an increase of $692,000, or 14%. Approximately 88% of the increase, or $607,000, was due to the New Clinics. This increase was coupled with an increase of $85,000 for the Old Clinics. Salaries and related costs as a percent of net patient revenues decreased slightly to 46% for the 1999 Second Quarter from 47% for the 1998 Second Quarter. Clinic Operating Costs - Rent, Clinic Supplies and Other Rent, clinic supplies and other increased to $3,164,000 for the 1999 Second Quarter from $2,685,000 for the 1998 Second Quarter, an increase of $479,000, or 18%. Approximately 93% of the increase, or $445,000, was due to the New Clinics. This increase was coupled with an increase of $34,000 for the Old Clinics. Rent, clinic supplies and other as a percent of net patient revenues increased slightly to 26% for the 1999 Second Quarter from 25% for the 1998 second Quarter. Clinic Operating Costs - Provision for Doubtful Accounts The provision for doubtful accounts increased to $294,000 for the 1999 Second Quarter from $269,000 for the 1998 Second Quarter, an increase of 9%, or $25,000. Approximately 92% of the increase, or $23,000, was due to the New Clinics. The provision for doubtful 13 accounts as a percent of net patient revenues declined slightly to 2.4% for the 1999 Second Quarter from 2.5% for the 1998 Second Quarter. Corporate Office Costs - General & Administrative General and administrative costs, consisting primarily of salaries and benefits of corporate office personnel, rent, insurance costs, depreciation and amortization, travel and legal and professional fees, increased to $1,245,000 for the 1999 Second Quarter from $1,025,000 for the 1998 Second Quarter, an increase of $220,000, or 21%. General and administrative costs increased primarily as a result of salaries and benefits related to additional personnel hired to support an increasing number of clinics and increased legal and professional fees relating to the additional clinics. In addition, in July 1998, the Company increased the square footage occupied at its corporate office in Houston, Texas and extended the lease for a five-year period ending July 2003. In connection with these changes to the lease, rent expense increased substantially. General and administrative costs as a percent of net patient revenues remained unchanged at 10% for the 1999 and 1998 Second Quarters. Corporate Office Costs - Recruitment & Development Recruitment and development costs primarily represent salaries and benefits of recruitment and development personnel, rent, travel, marketing and recruiting fees attributed directly to the Company's activities in the development and acquisition of new clinics. All recruitment and development personnel are located at the corporate office in Houston, Texas. Once a clinic has opened, these personnel are not involved with the clinic. Recruitment and development costs increased $17,000, or 5%, to $341,000 for the 1999 Second Quarter from $324,000 for the 1998 Second Quarter. The majority of this increase relates to an increase in salaries and benefits of recruitment and development personnel and an increase in marketing expenses. Recruitment and development costs as a percent of net patient revenues remained unchanged at 3% for the 1999 and 1998 Second Quarters. Minority Interests in Subsidiary Limited Partnerships Minority interests in subsidiary limited partnerships increased $183,000, or 38%, to $664,000 for the 1999 Second Quarter from $481,000 for the 1998 Second Quarter due to the increase in aggregate profitability of those clinics in which partners have achieved positive retained earnings and are accruing partnership income. Income Before Income Taxes The Company's income before income taxes rose $149,000 to $1,016,000 for the 1999 Second Quarter from $867,000 for the 1998 Second Quarter principally due to the $1,764,000 increase in net 14 revenues, offset, in part, by the increase of $1,196,000 in clinic operating costs, the $237,000 increase in corporate office costs, and the $183,000 increase in minority interests in subsidiary limited partnerships. Provision for Income Taxes The provision for income taxes increased to $397,000 for the 1999 Second Quarter from $345,000 for the 1998 Second Quarter, an increase of $52,000, or 15%. During the 1999 and 1998 Second Quarters, the Company accrued income taxes at an effective tax rate of 39% and 40%, respectively. These rates exceeded the U.S. statutory tax rate of 34% due primarily to state income taxes. Six Months Ended June 30, 1999 Compared to the Six Months Ended June 30, 1998 Net Patient Revenues Net patient revenues increased to $23,675,000 for the six months ended June 30, 1999 ("1999 Six Months") from $20,960,000 for the six months ended June 30, 1998 ("1998 Six Months"), an increase of $2,715,000, or 13%. Net patient revenues from the 20 clinics opened after June 30, 1998 (the "New Clinics") accounted for 66% of the increase, or $1,797,000. The remaining increase of $918,000 in net patient revenues comes from those 84 clinics opened more than one year as of June 30, 1999 (the "Old Clinics"). Of the $918,000 increase in net patient revenues from these clinics, a 4% increase in the number of patient visits increased net patient revenues by $878,000, which was coupled with a slight increase in the average net revenue per visit. Net patient revenues are based on established billing rates less allowances and discounts for patients covered by worker's compensation programs and other contractual programs. Payments received under these programs are based on predetermined rates and are generally less than the established billing rates of the clinics. Net patient revenues reflect reserves, which are evaluated quarterly by management, for contractual and other adjustments relating to patient discounts from certain payors. Prior to January 1, 1999, patient revenues were reported net of estimated retrospective adjustments under Medicare. Medicare reimbursement for outpatient physical or occupational therapy services furnished by clinics was based on a cost reimbursement methodology. The Company was reimbursed at a tentative rate with final settlement determined after submission of an annual cost report by the Company and audits thereof by the Medicare fiscal intermediary. Beginning in 1999, the Company's reimbursement for outpatient therapy services provided to Medicare beneficiaries is pursuant to a fee schedule published by the HHS. See "Balanced Budget Act of 1997". 15 Other Revenues Other revenues, consisting of interest, management fees and sublease income, increased by $31,000, or 8%, to $397,000 for the 1999 Six Months from $366,000 for the 1998 Six Months. This increase was due primarily to management fees earned in connection with four contracts the Company entered into during 1998 to manage third-party physical therapy clinics, offset, in part, by a decrease in interest income as a result of both lower average amounts of cash available for investment during the 1999 Six Months and lower interest rates earned on invested cash. Clinic Operating Costs Clinic operating costs as a percent of net patient revenues remained unchanged at 75% for the 1999 and 1998 Six Months. Clinic Operating Costs - Salaries and Related Costs Salaries and related costs increased to $11,149,000 for the 1999 Six Months from $9,869,000 for the 1998 Six Months, an increase of $1,280,000, or 13%. Approximately 84% of the increase, or $1,071,000, was due to the New Clinics. The remaining 16% increase, or $209,000, is due principally to increased staffing to meet the increase in patient visits for the Old Clinics, coupled with an increase in bonuses earned by the managing therapists at the Old Clinics. Such bonuses are based on the net revenues or operating profit generated by the individual clinics. Salaries and related costs as a percent of net patient revenues remained unchanged at 47% for the 1999 and 1998 Six Months. Clinic Operating Costs - Rent, Clinic Supplies and Other Rent, clinic supplies and other increased to $6,060,000 for the 1999 Six Months from $5,351,000 for the 1998 Six Months, an increase of $709,000, or 13%. Approximately 107% of the increase, or $758,000, was due to the New Clinics. This increase was offset, in part, by a decrease of $49,000 for the Old Clinics. Rent, clinic supplies and other as a percent of net patient revenues remained unchanged at 26% for the 1999 and 1998 Six Months. Clinic Operating Costs - Provision for Doubtful Accounts The provision for doubtful accounts decreased to $538,000 for the 1999 Six Months from $542,000 for the 1998 Six Months, a decrease of 0.7%, or $4,000. This decrease was due to a $42,000 decrease in the Old Clinics, which was offset, in part, by an increase of $38,000 related to the New Clinics. The provision for doubtful accounts as a percent of net patient revenues declined slightly to 2.3% for the 1999 Six Months compared to 2.6% for the 1998 Six Months. Corporate Office Costs - General & Administrative General and administrative costs, consisting primarily of salaries and benefits of corporate office personnel, rent, insurance costs, 16 depreciation and amortization, travel and legal and professional fees, increased to $2,352,000 for the 1999 Six Months from $2,035,000 for the 1998 Six Months, an increase of $317,000, or 16%. General and administrative costs increased primarily as a result of salaries and benefits related to additional personnel hired to support an increasing number of clinics and increased legal and professional fees relating to the additional clinics. In addition, in July 1998, the Company increased the square footage occupied at its corporate office in Houston, Texas and extended the lease for a five-year period ending July 2003. In connection with these changes to the lease, rent expense increased substantially. General and administrative costs as a percent of net patient revenues remained unchanged at 10% for the 1999 and 1998 Six Months. Corporate Office Costs - Recruitment & Development Recruitment and development costs primarily represent salaries and benefits of recruitment and development personnel, rent, travel, marketing and recruiting fees attributed directly to the Company's activities in the development and acquisition of new clinics. All recruitment and development personnel are located at the corporate office in Houston, Texas. Once a clinic has opened, these personnel are not involved with the clinic. Recruitment and development costs increased $21,000, or 3%, to $633,000 for the 1999 Six Months from $612,000 for the 1998 Six Months. The majority of this increase relates to an increase in salaries and benefits of recruitment and development personnel. Recruitment and development costs as a percent of net patient revenues remained unchanged at 3% for the 1999 and 1998 Six Months. Minority Interests in Subsidiary Limited Partnerships Minority interests in subsidiary limited partnerships increased $283,000, or 31%, to $1,194,000 for the 1999 Six Months from $911,000 for the 1998 Six Months due to the increase in aggregate profitability of those clinics in which partners have achieved positive retained earnings and are accruing partnership income. Income Before Income Taxes The Company's income before income taxes rose $144,000, or 9%, to $1,785,000 for the 1999 Six Months from $1,641,000 for the 1998 Six Months principally due to the $2,746,000 increase in net revenues and the decrease in interest expense of $4,000, offset, in part, by the increase of $1,985,000 in clinic operating costs, the $338,000 increase in corporate office costs, and the $283,000 increase in minority interests in subsidiary limited partnerships. Provision for Income Taxes The provision for income taxes increased to $705,000 for the 1999 Six Months from $650,000 for the 1998 Six Months, an increase of $55,000, or 8%. During the 1999 and 1998 Six Months, the Company 17 accrued income taxes at an effective tax rate of 39% and 40%, respectively. These rates exceeded the U.S. statutory tax rate of 34% due primarily to state income taxes. Liquidity and Capital Resources At June 30, 1999, the Company had $2,626,000 in cash and cash equivalents available to fund the working capital needs of its operating subsidiaries, future clinic developments, acquisitions and investments. Included in cash and cash equivalents at June 30, 1999 is $1,627,000 in a money market fund invested in short-term debt instruments issued by an agency of the U.S. Government. The market value of the money market fund approximated the carrying value as of June 30, 1999. The decrease in cash of $3,702,000 from December 31, 1998 to June 30, 1999 is due to the Company's use of cash to repurchase 346,000 shares of its common stock in May 1999 for $3,414,000, to fund capital expenditures, primarily for physical therapy equipment and leasehold improvements in the amount of $963,000, the purchase of intangibles in the amount of $116,000, distributions to minority investors in subsidiary limited partnerships of $1,107,000 and payment on notes payable of $16,000, offset, in part, by cash provided by operating activities of $1,822,000, proceeds from the sale of fixed assets of $24,000, and proceeds of $67,000 from the exercise of stock options. The Company's current ratio decreased to 5.52 to 1.00 at June 30, 1999 from 5.80 to 1.00 at December 31, 1998. The decrease in the current ratio is due primarily to the decrease in cash and cash equivalents, a decrease in other current assets due to amortization of prepaid expenses and an increase in accrued expenses due to an increase in group health insurance. These factors were offset, in part, by an increase in net patient revenues, which, in turn, have caused an increase in patient accounts receivable, a reduction in trade accounts payable and estimated third-party payor (Medicare) settlements, and an increase in other accounts receivable. The Company self insures its employees for health insurance. The increase in other accounts receivable relates primarily to the Company's recording an amount due from an insurance carrier relating to health claims paid in excess of the Company's primary liability. At June 30, 1999, the Company had a debt-to-equity ratio of 0.87 to 1.00 compared to 0.70 to 1.00 at December 31, 1998. The increase in the debt-to-equity ratio from December 31, 1998 to June 30, 1999 relates primarily to the decrease in equity as a result of the common stock repurchase of $3,414,000 which was offset, in part, by net income of $1,080,000 and the proceeds from the exercise of stock options of $67,000 for the six months ended June 30, 1999. 18 The quarterly interest obligation on the outstanding 8% Convertible Subordinated Notes, the 8% Convertible Subordinated Notes, Series B and the 8% Convertible Subordinated Notes, Series C is $61,000, $40,000 and $60,000, respectively, through June 30, 2003, June 30, 2004 and June 30, 2004, respectively. In January 1997, the Company's Board of Directors authorized the use of available cash to repurchase up to 200,000 shares of Company common stock in the open market. The timing and the actual number of shares purchased will depend on market conditions. The repurchased shares will be held as treasury shares and be available for general corporate purposes. To date, under this authorization, the Company has repurchased 4,900 shares at a cost of $47,000. In addition, in April 1999, the Company's Board of Directors authorized the use of available cash to purchase up to 346,000 shares of its common stock at a price not greater than $10.00 nor less than $8.50 per share (the "Offer"). The Company conducted the Offer through a procedure commonly referred to as a "Dutch Auction." The Offer expired Friday, May 7, 1999. On May 14, 1999, the Company completed the repurchase of 346,000 shares (9.6% of the outstanding shares) pursuant to the terms of the Offer. The shares were repurchased at a price of $9.75 per share for a total aggregate cost of $3,414,000 (including expenses). Management believes that existing funds, supplemented by cash flows from existing operations, will be sufficient to meet its current operating needs and its development plans. Recently Promulgated Accounting Standards In June 1997, the FASB issued Statement No. 131, Disclosures About Segments of an Enterprise and Related Information, which requires public companies to use the "Management Approach" for disclosing segment information. This replaces the "Industry Approach" required by Statement No. 14. The new standard did not have a material impact on the Company because the Company's management approach is to view the Company as one reportable segment. Factors Affecting Future Results Clinic Development As of June 30, 1999, the Company had 104 clinics in operation, five of which opened in the 1999 Second Quarter. The Company expects to continue opening new clinics at the same pace it did in 1998, subject to, among other things, the Company's ability to identify suitable geographic locations and physical therapy clinic partners. The Company's operating results will be impacted by initial operating losses from the new clinics. During the initial period of operation, operating margins for newly opened clinics tend to be lower than more seasoned clinics due to the start-up costs of newly 19 opened clinics (salaries and related costs of the physical therapist and other clinic personnel, rent and equipment and other supplies required to open the clinic) and the fact that patient revenues tend to be lower in the first year of a new clinic's operation and increase significantly over the next three to five years. Based on historical performance of the Company's new clinics, the clinics opened since the 1998 Second Quarter should favorably impact the Company's results of operations for 1999 and beyond. Growth in Physical Therapy Management In July 1998, the Company entered into an agreement with an orthopedic group to manage a physical therapy facility in New England, bringing third-party facilities under management to five. Management believes that with physician groups facing declining incomes, the opportunity for enhancing the physicians' income through the ownership of in-house physical therapy facilities is becoming increasingly attractive. Since 1992, the Company has offered management and administrative services to its network of clinics owned with physical therapist partners. The Company is now offering that expertise to physician groups nationwide. The Company believes it has adequate internally generated funds to support its planned growth in this area. The Balanced Budget Act of 1997 The BBA provides that beginning in 1999, outpatient rehabilitation services will be paid based on a fee schedule which has been published by the Department of Health and Human Services ("HHS"). The BBA also provides that beginning in 1999, the total amount that may be paid by Medicare in any one year for outpatient physical or occupational therapy to any one patient will be limited to $1,500, except for services provided in hospitals. The effect of the BBA may be to encourage patients with extensive rehabilitation needs to seek treatment in a hospital setting. The Company does not anticipate that the changes in Medicare reimbursement rates as outlined in the BBA will have a negative impact on revenues in 1999. Management believes that the average rate calculated under the cost reimbursement methodology will not be significantly different than the average rate on the fee schedule. Year 2000 The Year 2000 problem is the result of two potential malfunctions that could have an impact on the Company's systems and equipment. The first problem arises due to computers being programmed to use two rather than four digits to define the applicable year. The second problem arises in embedded chips, where microchips and micro controllers have been designed using two rather than four digits to define the applicable year. Certain of the Company's computer programs, building infrastructure components (e.g. alarm systems 20 and HVAC systems) and medical devices that are date sensitive, may recognize a date using "00" as the year 1900 rather than the year 2000. If uncorrected, the problem could result in computer system and program failures or equipment and medical device malfunctions that could result in a disruption of business operations or that could affect patient treatment. With respect to the information technology ("IT") portions of the Company's Year 2000 project, which address the assessment, remediation, testing and implementation of software, the Company, which uses only third-party software applications, has identified third-party software applications and has begun remediation for all these purchased software applications and is testing the software applications where remediation has been completed. The Company anticipates completing, in all material respects, remediation, testing and implementation for third-party software by October 1999. The Company's efforts are currently on schedule. With respect to the IT infrastructure portion of the Company's Year 2000 project, the Company has undertaken a program to inventory, assess and correct, replace or otherwise address impacted vendor products (hardware and telecommunication equipment). The Company has implemented a program to contact vendors, analyze information provided, and to remediate, replace or otherwise address IT products that pose a material Year 2000 impact. The Company anticipates completion, in all material respects, of the IT infrastructure portion of its program by October 1999. The IT infrastructure portion of the Company's Year 2000 project is currently on schedule. The Company presently believes that with modifications to existing software or the installation of upgraded software under the IT infrastructure portion, the Year 2000 will not pose material operational problems for its computer systems. However, if such modifications or upgrades are not accomplished in a timely manner, Year 2000 related failures may present a material adverse impact on the operations of the Company. Contingency planning will be established and implemented in an effort to minimize any impact from Year 2000 related failures. With respect to the non-IT infrastructure portion of the Company's Year 2000 project, the Company believes that it will not be affected significantly by the Year 2000 since most of the Company's physical and occupational equipment is manual in operation, rather than being computerized. The Company will contact vendors as needed to remediate, replace or otherwise address devices or equipment that pose a Year 2000 impact. The Company relies on third-party payors and intermediaries, including government payors and intermediaries, for accurate and timely reimbursement of claims, often through the use of electronic data interfaces. Failure of these third-party systems could have a material adverse affect on the Company's results of operations. 21 The Company is utilizing both internal and external resources to manage and implement its Year 2000 program. With the assistance of such resources, the Company has recently undertaken the development of contingency plans in the event that its Year 2000 efforts are not accurately or timely completed, or upon the failure of third- party systems upon which the Company relies. This development phase has continued into 1999 with the implementation of contingency plans occurring later in 1999. The Year 2000 project is currently estimated to have a minimum total cost of $114,000, of which the Company has incurred $73,000 through June 30, 1999. The Company recognizes that the total cost may increase as it continues its remediation and testing of IT systems. The majority of the costs related to the Year 2000 project relate to purchases of equipment and software which will be capitalized and expensed over a useful life of three years and funded through operating cash flows. The costs of the project and estimated completion dates for the Year 2000 modifications are based on management's best estimates, which were derived utilizing numerous assumptions of future events, including the continued availability of certain resources, third- party modification plans and other factors. However, there can be no guarantees that these estimates will be achieved and actual results could differ materially from those anticipated. Specific factors that might cause such material differences include, but are not limited to, the availability and cost of personnel trained in this area. Forward-Looking Statements We make statements in this report that are considered to be forward-looking statements within the meaning of the Securities and Exchange Act of 1934. Such statements involve risks and uncertainties that could cause actual results to differ materially from those we project. When used in this report, the words "anticipate,""believe,""estimate,""intend" and "expect" and similar expressions are intended to identify such forward-looking statements. The forward-looking statements are based on the company's current views and assumptions and involve risks and uncertainties that include, among other things, general economic, business, and regulatory conditions, competition, federal and state regulations, availability, terms and use of capital, environmental issues, weather and Year 2000 readiness. Some or all of the factors are beyond the Company's control. Given these uncertainties, you should not place undue reliance on these forward-looking statements. Please see the other sections of this report and our other periodic reports filed with the SEC for more information on these factors. These forward-looking statements represent our estimates and assumptions only as of the date of this report. 22 Item 3. Quantitative and Qualitative Disclosure About Market Risk. As of June 30, 1999, the Company had outstanding $3,050,000 aggregate principal amount of 8% Convertible Subordinated Notes due June 30, 2003, $2,000,000 aggregate principal amount of 8% Convertible Subordinated Notes, Series B, due June 30, 2004 and $3,000,000 aggregate principal amount of 8% Convertible Subordinated Notes, Series C, due June 30, 2004 (collectively, "the Notes"). The Notes, which were issued in private placement transactions, bear interest at 8% per annum, payable quarterly, and are convertible at the option of the Note holders into common stock of the Company at any time during the life of the Notes. The conversion price ranges from $10.00 to $12.00 per share, subject to adjustment as provided in the Notes. The fair value of the Notes is not currently determinable due primarily to the convertibility provision of the Notes and the fact that the Notes are not readily marketable. 23 U.S. PHYSICAL THERAPY, INC. AND SUBSIDIARIES PART II - OTHER INFORMATION Item 4. Submission of Matters to a Vote of Security Holders (a) The Company held its 1999 annual meeting of shareholders ("Annual Meeting") on May 25, 1999. At the Annual Meeting, nine directors were elected for one-year terms. (b) The names of the nine directors elected at the Annual Meeting are as follows: J. Livingston Kosberg, Roy W. Spradlin, Mark J. Brookner, Daniel C. Arnold, James B. Hoover, Marlin W. Johnston, Richard C.W. Mauran, Albert L. Rosen and Bruce D. Broussard. (c) The following votes were cast in the election of directors: Withhold Nominees For Authority J. Livingston Kosberg 2,267,242 3,100 Roy W. Spradlin 2,269,742 600 Mark J. Brookner 2,269,042 1,300 Daniel C. Arnold 2,269,742 600 James B. Hoover 2,269,742 600 Marlin W. Johnston 2,269,242 1,100 Richard C.W. Mauran 2,269,742 600 Albert L. Rosen 2,267,742 2,600 Bruce D. Broussard 2,269,742 600 There were a total of 2,270,342 shares represented by person or by proxy at the Annual Meeting. (d) Not applicable. Item 6. Exhibits and Reports on Form 8-K. (a) List of Exhibits 27. Financial Data Schedule (b) Reports on Form 8-K No reports on Form 8-K were filed with the Securities and Exchange Commission during the quarter ended June 30, 1999. 24 SIGNATURES In accordance with the requirements of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. U.S. PHYSICAL THERAPY, INC. Date: August 14, 1999 By: /s/ J. MICHAEL MULLIN J. Michael Mullin Chief Financial Officer (duly authorized officer and principal financial officer) 25