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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549
 FORM 10-Q (Mark One)[X]
    
    Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
  OR [  ]
    
    Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
 Commission file number: 1-10858 Manor Care, Inc.  Delaware
    
    34-1687107(State or other jurisdiction of
    
    (IRS Employerincorporation or organization)
    
    Identification No.)333 N. Summit Street, Toledo, Ohio
    
    43604-2617(Address of principal executive offices)
    
    (Zip Code)
 Registrants telephone number, including area code: (419) 252-5500 Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports) and (2) has been subject to such
filing requirements for the past 90 days. Yes
[X]  No [  ] Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule12b-2 of the Exchange Act). Yes [X]  No [  ] Indicate the number of shares outstanding of each of the issuers classes of
common stock, as of the close of business on July 30, 2004. Common stock, $0.01 par value  87,450,638 shares




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Manor Care, Inc.
Form 10-Q
Table of Contents PageNumberPart I.
    
    Financial InformationItem 1.
    
    Financial Statements (Unaudited)Consolidated Balance Sheets -
June 30, 2004 and December 31, 2003
    
    
    3Consolidated Statements of Income -
Three months and six months ended June 30, 2004 and 2003
    
    
    4Consolidated Statements of Cash Flows -
Six months ended June 30, 2004 and 2003
    
    
    5Notes to Consolidated Financial Statements
    
    
    6Item 2.
    
    Managements Discussion and Analysis of Financial
Condition and Results of Operations
    
    
    13Item 3.
    
    Quantitative and Qualitative Disclosures About Market Risk
    
    
    19Item 4.
    
    Controls and Procedures
    
    
    19Part II.
    
    Other InformationItem 1.
    
    Legal Proceedings
    
    
    19Item 2.
    
    Changes in Securities and Use of Proceeds
    
    
    20Item 3.
    
    Defaults Upon Senior Securities
    
    
    20Item 4.
    
    Submission of Matters to a Vote of Security Holders
    
    
    20Item 5.
    
    Other Information
    
    
    21Item 6.
    
    Exhibits and Reports on Form 8-K
    
    
    21Signatures
    
    
    
    
    22Exhibit Index
    
    
    
    
    23EX-3.1 CERTIFICATE OF INCORPORATION INCLUDING AMENDMENTSEX-10.2 FIRST AMENDMENT TO AMENDMENT AND RESTATEMENT OF EQUITY INCENTIVE PLANEX-31.1 CEO CERTIFICATIONEX-31.2 CFO CERTIFICATIONEX-32.1 CEO CERTIFICATION PURSUANT TO SECTION 1350EX-32.2 CFO CERTIFICATION PURSUANT TO SECTION 1350
  2




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Part I. Financial Information 
 Item 1. Financial Statements. Manor Care, Inc. 
  June 30,
    
    December 31,2004
    
    2003(Unaudited)
    
    (Note 1)(In thousands, except per share data)AssetsCurrent assets:Cash and cash equivalents
    
    $
    122,970
    
    
    $
    86,251Receivables, less allowances for doubtful
accounts of $50,734 and $60,652, respectively
    
    
    412,234
    
    
    
    405,213Prepaid expenses and other assets
    
    
    27,971
    
    
    
    27,484Deferred income taxes
    
    
    72,180
    
    
    
    66,451Total current assets
    
    
    635,355
    
    
    
    585,399Property and equipment, net of accumulated
depreciation of $801,657 and $755,038, respectively
    
    
    1,523,836
    
    
    
    1,514,250Goodwill
    
    
    87,873
    
    
    
    87,906Intangible assets, net of amortization of $4,383 and $4,161, respectively
    
    
    9,174
    
    
    
    9,397Other assets
    
    
    196,313
    
    
    
    199,759Total assets
    
    $
    2,452,551
    
    
    $
    2,396,711Liabilities And Shareholders EquityCurrent liabilities:Accounts payable
    
    $
    98,613
    
    
    $
    101,481Employee compensation and benefits
    
    
    131,723
    
    
    
    125,858Accrued insurance liabilities
    
    
    106,608
    
    
    
    110,186Income tax payable
    
    
    34,958
    
    
    
    1,410Other accrued liabilities
    
    
    54,248
    
    
    
    46,560Long-term debt due within one year
    
    
    101,100
    
    
    
    2,007Total current liabilities
    
    
    527,250
    
    
    
    387,502Long-term debt
    
    
    551,396
    
    
    
    659,181Deferred income taxes
    
    
    139,502
    
    
    
    137,200Other liabilities
    
    
    257,673
    
    
    
    237,723Shareholders equity:Preferred stock, $.01 par value, 5 million shares authorizedCommon stock, $.01 par value, 300 million shares authorized,
111.0 million shares issued
    
    
    1,110
    
    
    
    1,110Capital in excess of par value
    
    
    362,073
    
    
    
    357,832Retained earnings
    
    
    1,145,848
    
    
    
    1,089,577Accumulated other comprehensive loss
    
    
    (1,179
    )
    
    
    (662
    )1,507,852
    
    
    
    1,447,857Less treasury stock, at cost (23.4 and 22.0 million shares, respectively)
    
    
    (531,122
    )
    
    
    (472,752
    )Total shareholders equity
    
    
    976,730
    
    
    
    975,105Total liabilities and shareholders equity
    
    $
    2,452,551
    
    
    $
    2,396,711
 See notes to consolidated financial statements. 3




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Manor Care, Inc. 
   Three Months Ended June 30,
    
    Six Months Ended June 30,2004
    
    2003
    
    2004
    
    2003(In thousands, except per share amounts)Revenues
    
    $
    799,135
    
    
    $
    750,586
    
    
    $
    1,596,473
    
    
    $
    1,481,106Expenses:Operating
    
    
    659,757
    
    
    
    633,024
    
    
    
    1,319,115
    
    
    
    1,244,511General and administrative
    
    
    33,106
    
    
    
    46,637
    
    
    
    67,897
    
    
    
    77,346Depreciation and amortization
    
    
    32,276
    
    
    
    31,863
    
    
    
    64,023
    
    
    
    63,537725,139
    
    
    
    711,524
    
    
    
    1,451,035
    
    
    
    1,385,394Income before other income (expenses)
and income taxes
    
    
    73,996
    
    
    
    39,062
    
    
    
    145,438
    
    
    
    95,712Other income (expenses):Interest expense
    
    
    (11,248
    )
    
    
    (11,317
    )
    
    
    (21,967
    )
    
    
    (20,192
    )Gain (loss) on sale of assets
    
    
    (730
    )
    
    
    2,134
    
    
    
    1,675
    
    
    
    2,323Equity in earnings of affiliated companies
    
    
    1,844
    
    
    
    1,599
    
    
    
    3,897
    
    
    
    3,140Interest income and other
    
    
    354
    
    
    
    431
    
    
    
    917
    
    
    
    1,132Total other expenses, net
    
    
    (9,780
    )
    
    
    (7,153
    )
    
    
    (15,478
    )
    
    
    (13,597
    )Income before income taxes
    
    
    64,216
    
    
    
    31,909
    
    
    
    129,960
    
    
    
    82,115Income taxes
    
    
    24,081
    
    
    
    12,990
    
    
    
    48,735
    
    
    
    32,068Net income
    
    $
    40,135
    
    
    $
    18,919
    
    
    $
    81,225
    
    
    $
    50,047Earnings per share:Basic
    
    $
    .46
    
    
    $
    .21
    
    
    $
    .93
    
    
    $
    .55Diluted
    
    $
    .45
    
    
    $
    .21
    
    
    $
    .91
    
    
    $
    .54Weighted-average shares:Basic
    
    
    87,409
    
    
    
    89,158
    
    
    
    87,802
    
    
    
    91,396Diluted
    
    
    88,972
    
    
    
    90,433
    
    
    
    89,482
    
    
    
    92,456Cash dividends declared per common share
    
    $
    .14
    
    
    
    
    
    
    $
    .28
 See notes to consolidated financial statements. 4




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Manor Care, Inc. 
   Six Months Ended June 30,2004
    
    2003(In thousands)Operating ActivitiesNet income
    
    $
    81,225
    
    
    $
    50,047Adjustments to reconcile net income to net cash
provided by operating activities:Depreciation and amortization
    
    
    64,023
    
    
    
    63,537Provision for bad debts
    
    
    10,946
    
    
    
    15,630Deferred income taxes
    
    
    (3,427
    )
    
    
    38,059Net gain on sale of assets
    
    
    (1,675
    )
    
    
    (2,323
    )Equity in earnings of affiliated companies
    
    
    (3,897
    )
    
    
    (3,140
    )Changes in assets and liabilities, excluding sold facilities and acquisitions:Receivables
    
    
    (18,975
    )
    
    
    (1,814
    )Prepaid expenses and other assets
    
    
    5,390
    
    
    
    (13,185
    )Liabilities
    
    
    59,806
    
    
    
    46,971Total adjustments
    
    
    112,191
    
    
    
    143,735Net cash provided by operating activities
    
    
    193,416
    
    
    
    193,782Investing ActivitiesInvestment in property and equipment
    
    
    (89,340
    )
    
    
    (46,297
    )Investment in systems development
    
    
    (1,087
    )
    
    
    (2,175
    )Acquisitions
    
    
    
    
    
    
    (12,436
    )Proceeds from sale of assets
    
    
    20,076
    
    
    
    12,705Proceeds from sale of minority interests in consolidated entity
    
    
    2,778Net cash used in investing activities
    
    
    (67,573
    )
    
    
    (48,203
    )Financing ActivitiesNet repayments under bank credit agreement
    
    
    
    
    
    
    (259,300
    )Principal payments of long-term debt
    
    
    (5,943
    )
    
    
    (7,023
    )Proceeds from issuance of senior notes
    
    
    
    
    
    
    299,372Payment of deferred financing costs
    
    
    (11
    )
    
    
    (7,109
    )Purchase of common stock for treasury
    
    
    (71,719
    )
    
    
    (126,041
    )Dividends paid
    
    
    (24,953
    )Proceeds from exercise of stock options
    
    
    13,502
    
    
    
    471Net cash used in financing activities
    
    
    (89,124
    )
    
    
    (99,630
    )Net increase in cash and cash equivalents
    
    
    36,719
    
    
    
    45,949Cash and cash equivalents at beginning of period
    
    
    86,251
    
    
    
    30,554Cash and cash equivalents at end of period
    
    $
    122,970
    
    
    $
    76,503
 See notes to consolidated financial statements. 5




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Manor Care, Inc. 
   Note 1  Accounting Policies Basis of Presentation The accompanying unaudited consolidated financial statements have been prepared
in accordance with accounting principles generally accepted in the United
States for interim financial information and with the instructions to Form 10-Q
and Article 10 of Regulation S-X. Accordingly, they do not include all of the
information and footnotes required by accounting principles generally accepted
in the United States for complete financial statements. In the opinion of
management of Manor Care, Inc. (the Company), the interim data includes all
adjustments necessary for a fair statement of the results of the interim
periods and all such adjustments are of a normal recurring nature. Operating
results for the six months ended June 30, 2004 are not necessarily indicative
of the results that may be expected for the year ending December 31, 2004. The balance sheet at December 31, 2003 has been derived from the audited
financial statements at that date but does not include all of the information
and footnotes required by accounting principles generally accepted in the
United States for complete financial statements. For further information,
refer to the consolidated financial statements and footnotes thereto included
in Manor Care, Inc.s annual report on Form 10-K for the year ended December
31, 2003. At June 30, 2004, the Company operated 285 skilled nursing facilities, 66
assisted living facilities, 89 outpatient therapy clinics and 92 hospice and
home health offices. Comprehensive Income Comprehensive income represents the sum of net income plus other comprehensive
income (loss). Comprehensive income totaled $40.1 million and $80.7 million
for the three and six months ended June 30, 2004, respectively, and $18.0
million and $49.3 million for the three and six months ended June 30, 2003,
respectively. The other comprehensive loss in 2004 and 2003 primarily
represents the reversal of the unrealized gain on investments sold. Insurance Liabilities At June 30, 2004 and December 31, 2003, the workers compensation liability
consisted of short-term reserves of $25.7 million and $26.5 million,
respectively, which were included in accrued insurance liabilities, and
long-term reserves of $45.5 million and $40.5 million, respectively, which were
included in other long-term liabilities. The expense for workers compensation
was $8.9 million and $18.2 million for the three and six months ended June 30,
2004, respectively, and $12.2 million and $24.5 million for the three and six
months ended June 30, 2003, respectively. Although management believes that
the Companys liability reserves are adequate, there can be 6




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no assurance that these reserves will not require material adjustment in future
periods. See Note 3 for discussion of the Companys general and professional
liability. Stock-Based Compensation Stock options are granted for a fixed number of shares to employees with an
exercise price equal to the fair market value of the shares at the date of
grant. The Company accounts for the stock option grants in accordance with APB
Opinion No. 25, Accounting for Stock Issued to Employees, and related
Interpretations. Accordingly, the Company recognizes no compensation expense
for the stock options. During the first quarter of 2004, employees delivered
shares to the Company to cover the payment of the option price and related tax
withholdings on the option exercises. These shares had a value of $5.4
million. The following table illustrates the effect on net income and earnings per share
as if the Company had applied the fair value recognition provisions of
Financial Accounting Standards Board (FASB) Statement No. 123, Accounting for
Stock-Based Compensation, to stock-based employee compensation for options
granted since 1995. Three Months Ended
    
    Six Months EndedJune 30
    
    June 302004
    
    2003
    
    2004
    
    2003(In thousands, except earnings per share)Net income  as reported
    
    $
    40,135
    
    
    $
    18,919
    
    
    $
    81,225
    
    
    $
    50,047Deduct: Total stock-based employee
compensation expense determined
under fair value based method for
all awards, net of related tax effects
    
    
    (899
    )
    
    
    (2,110
    )
    
    
    (2,522
    )
    
    
    (3,911
    )Net income  pro forma
    
    $
    39,236
    
    
    $
    16,809
    
    
    $
    78,703
    
    
    $
    46,136Earnings per share  as reported:Basic
    
    $
    .46
    
    
    $
    .21
    
    
    $
    .93
    
    
    $
    .55Diluted
    
    $
    .45
    
    
    $
    .21
    
    
    $
    .91
    
    
    $
    .54Earnings per share  pro forma:Basic
    
    $
    .45
    
    
    $
    .19
    
    
    $
    .90
    
    
    $
    .50Diluted
    
    $
    .44
    
    
    $
    .19
    
    
    $
    .88
    
    
    $
    .50
 7




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Note 2  Revenues Revenues for certain health care services are as follows: Three Months Ended
    
    Six Months EndedJune 30
    
    June 302004
    
    2003
    
    2004
    
    2003(In thousands)Skilled nursing and assisted living services
    
    $
    674,836
    
    
    $
    640,515
    
    
    $
    1,351,398
    
    
    $
    1,270,484Hospice and home health services
    
    
    96,257
    
    
    
    83,744
    
    
    
    188,350
    
    
    
    156,632Rehabilitation services
(excludes intercompany revenues)
    
    
    20,510
    
    
    
    20,355
    
    
    
    42,334
    
    
    
    40,014Other services
    
    
    7,532
    
    
    
    5,972
    
    
    
    14,391
    
    
    
    13,976$
    799,135
    
    
    $
    750,586
    
    
    $
    1,596,473
    
    
    $
    1,481,106
 Note 3  Contingencies One or more subsidiaries or affiliates of Manor Care of America, Inc. (MCA)
have been identified as potentially responsible parties (PRPs) in a variety of
actions (the Actions) relating to waste disposal sites which allegedly are
subject to remedial action under the Comprehensive Environmental Response
Compensation Liability Act, as amended, 42 U.S.C. Sections 9601 et seq.
(CERCLA) and similar state laws. CERCLA imposes retroactive, strict joint and
several liability on PRPs for the costs of hazardous waste clean-up. The
Actions arise out of the alleged activities of Cenco, Incorporated and its
subsidiary and affiliated companies (Cenco). Cenco was acquired in 1981 by a
wholly owned subsidiary of MCA. The Actions allege that Cenco transported
and/or generated hazardous substances that came to be located at the sites in
question. Environmental proceedings such as the Actions may involve owners
and/or operators of the hazardous waste site, multiple waste generators and
multiple waste transportation disposal companies. Such proceedings involve
efforts by governmental entities and/or private parties to allocate or recover
site investigation and clean-up costs, which costs may be substantial. The
potential liability exposure for currently pending environmental claims and
litigation, without regard to insurance coverage, cannot be quantified with
precision because of the inherent uncertainties of litigation in the Actions
and the fact that the ultimate cost of the remedial actions for some of the
waste disposal sites where MCA is alleged to be a potentially responsible party
has not yet been quantified. At June 30, 2004, the Company had $4.5 million
accrued in other long-term liabilities based on its current assessment of the
likely outcome of the Actions which was reviewed with its outside advisors. At
June 30, 2004, there were no receivables related to insurance recoveries. The Company is party to various other legal matters arising in the ordinary
course of business including patient care-related claims and litigation. At
June 30, 2004 and December 31, 2003, the general and professional liability
consisted of short-term reserves of $67.6 million and $69.8 million,
respectively, which were included in accrued insurance liabilities, and
long-term 8




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reserves of $112.5 million and $107.5 million, which were included in other
long-term liabilities, respectively. The expense for general and professional
liability claims, premiums and administrative fees was $20.2 million and $40.7
million for the three and six months ended June 30, 2004, respectively, and
$21.9 million and $42.7 million for the three and six months ended June 30,
2003, respectively, which was included in operating expenses. Although
management believes that the Companys liability reserves are adequate, there
can be no assurance that such provision and liability will not require material
adjustment in future periods. Note 4  Debt The Company classified $100 million of its Senior Notes in current liabilities
after announcing on July 16, 2004 that it had commenced cash tender offers for
up to $50 million aggregate principal amount of the 71⁄2% Senior Notes due
2006 issued by its wholly owned subsidiary, Manor Care of America, Inc., and
guaranteed by the Company, and up to $50 million of its 8% Senior Notes due
2008. On July 28, 2004, the Company announced that Notes representing more
than the maximum tender amount of $50 million for each of the Senior Notes have
been tendered. Each offer will expire Thursday, August 12, 2004, unless
extended or earlier terminated. The Company may be required to redeem $100 million of Convertible Senior Notes
from its holders on April 15, 2005, which the Company is required to pay in
cash. The Company has the ability and intent to finance the payment of the
Convertible Senior Notes with its revolving credit facility that matures April
21, 2006. The Convertible Senior Notes are classified as long-term based on
the maturity date of its revolving credit facility. 9




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Note 5 - Earnings Per Share The calculation of earnings per share (EPS) is as follows: Three Months Ended
    
    Six Months EndedJune 30
    
    June 302004
    
    2003
    
    2004
    
    2003(In thousands, except earnings per share)Numerator:Net income
    
    $
    40,135
    
    
    $
    18,919
    
    
    $
    81,225
    
    
    $
    50,047Denominator:Denominator for basic EPS -
weighted-average shares
    
    
    87,409
    
    
    
    89,158
    
    
    
    87,802
    
    
    
    91,396Effect of dilutive securities:Stock options
    
    
    1,102
    
    
    
    926
    
    
    
    1,220
    
    
    
    738Non-vested restricted stock
    
    
    461
    
    
    
    349
    
    
    
    460
    
    
    
    322Denominator for diluted EPS -
adjusted for weighted-average
shares and assumed conversions
    
    
    88,972
    
    
    
    90,433
    
    
    
    89,482
    
    
    
    92,456EPS:Basic
    
    $
    .46
    
    
    $
    .21
    
    
    $
    .93
    
    
    $
    .55Diluted
    
    $
    .45
    
    
    $
    .21
    
    
    $
    .91
    
    
    $
    .54
 Options to purchase shares of the Companys common stock that were not included
in the computation of diluted EPS because the options exercise prices were
greater than the average market price of the common shares were: 0.7 million
shares with an average exercise price of $37 for the first half of 2004 and 3.6
million shares with an average exercise price of $26 for the first half of
2003. The Companys diluted EPS calculation does not include the conversion of the
Companys contingently convertible senior notes because none of the
contingencies were met at June 30, 2004. For a summary description of the
contingencies, refer to the Companys debt footnote in the Form 10-K for the
year ended December 31, 2003. For a more detailed discussion of the
contingencies, refer to Form S-3 filed on July 30, 2003 (and related subsequent
amendments). These documents have been filed with the SEC and are available
through our website, www.hcr-manorcare.com. 10




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Note 6  Employee Benefit Plans The Company has two qualified and one non-qualified defined benefit pension
plans included in the table below. Two of the plans future benefits are
frozen. The components of net pension income are as follows: Three Months Ended
    
    Six Months EndedJune 30,
    
    June 30,2004
    
    2003
    
    2004
    
    2003(In thousands)Service cost
    
    $
    38
    
    
    $
    66
    
    
    $
    110
    
    
    $
    131Interest cost
    
    
    533
    
    
    
    645
    
    
    
    1,171
    
    
    
    1,291Expected return on plan assets
    
    
    (1,163
    )
    
    
    (1,197
    )
    
    
    (2,389
    )
    
    
    (2,394
    )Amortization of unrecognized transition asset
    
    
    (12
    )
    
    
    (12
    )
    
    
    (24
    )
    
    
    (24
    )Amortization of prior service cost
    
    
    10
    
    
    
    10
    
    
    
    19
    
    
    
    19Amortization of net loss
    
    
    143
    
    
    
    146
    
    
    
    354
    
    
    
    293Net pension income
    
    $
    (451
    )
    
    $
    (342
    )
    
    $
    (759
    )
    
    $
    (684
    )
 The Company also has a senior executive retirement plan, which is a
non-qualified plan designed to provide pension benefits and death benefits for
certain officers. The expense for this plan amounted to $1.3 million and $2.6
million for the second quarter and first half of 2004, respectively, and $0.2
million and $0.3 million for the second quarter and first half of 2003,
respectively. Note 7  Segment Information The Company provides a range of health care services. The Company has two
reportable operating segments, long-term care, which includes the operation of
skilled nursing and assisted living facilities, and hospice and home health.
The Other category includes the non-reportable segments and corporate items.
The revenues in the Other category are derived from rehabilitation and other
services. Asset information, including capital expenditures, is not reported
by segment by the Company. Operating performance represents revenues less
operating expenses and does not include general and administrative expenses,
depreciation and amortization, other income and expense items, and income
taxes. The Other category is not comparative as the Company recorded $8.4
million of operating expenses in the second quarter of 2003 related to a
proposed settlement of a review of certain Medicare cost reports filed by
facilities of the former Manor Care, Inc. for the period 1992-1998. The
settlement was finalized and paid in the second quarter of 2004. See
Managements Discussion and Analysis for additional discussion of this expense. 11




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Long-Term
    
    Hospice andCare
    
    Home Health
    
    Other
    
    Total(In thousands)Three months ended June 30, 2004Revenues from external customers
    
    $
    674,836
    
    
    $
    96,257
    
    
    $
    28,042
    
    
    $
    799,135Intercompany revenues
    
    
    
    
    
    
    
    
    
    
    16,816
    
    
    
    16,816Depreciation and amortization
    
    
    30,629
    
    
    
    713
    
    
    
    934
    
    
    
    32,276Operating margin
    
    
    116,875
    
    
    
    19,232
    
    
    
    3,271
    
    
    
    139,378Three months ended June 30, 2003Revenues from external customers
    
    $
    640,515
    
    
    $
    83,744
    
    
    $
    26,327
    
    
    $
    750,586Intercompany revenues
    
    
    
    
    
    
    
    
    
    
    15,234
    
    
    
    15,234Depreciation and amortization
    
    
    29,709
    
    
    
    987
    
    
    
    1,167
    
    
    
    31,863Operating margin
    
    
    106,536
    
    
    
    18,018
    
    
    
    (6,992
    )
    
    
    117,562Six months ended June 30, 2004Revenues from external customers
    
    $
    1,351,398
    
    
    $
    188,350
    
    
    $
    56,725
    
    
    $
    1,596,473Intercompany revenues
    
    
    
    
    
    
    
    
    
    
    33,812
    
    
    
    33,812Depreciation and amortization
    
    
    60,668
    
    
    
    1,484
    
    
    
    1,871
    
    
    
    64,023Operating margin
    
    
    234,318
    
    
    
    35,272
    
    
    
    7,768
    
    
    
    277,358Six months ended June 30, 2003Revenues from external customers
    
    $
    1,270,484
    
    
    $
    156,632
    
    
    $
    53,990
    
    
    $
    1,481,106Intercompany revenues
    
    
    
    
    
    
    
    
    
    
    29,720
    
    
    
    29,720Depreciation and amortization
    
    
    59,231
    
    
    
    1,953
    
    
    
    2,353
    
    
    
    63,537Operating margin
    
    
    210,971
    
    
    
    28,951
    
    
    
    (3,327
    )
    
    
    236,595
 12




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##### Table of Contents



Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations Critical Accounting Policies General and Professional Liability.We purchase general and professional
liability insurance and have maintained an unaggregated self-insured retention
limit per occurrence ranging from $0.5 million to $12.5 million, depending on
the policy year and state. In addition, for the policy period beginning June
1, 2004, we formed a captive insurance entity to provide a coverage layer of
$12.5 million in excess of $12.5 million per claim. Our general and professional reserves include amounts for patient care-related
claims and incurred but not reported claims. We evaluated the adequacy of our
general and professional liability reserves with our independent actuary during
the second quarter of 2004 for all policy periods through May 31, 2004. The
amount of our reserves is determined based on an estimation process that uses
information obtained from both company-specific and industry data. The
estimation process requires us to continuously monitor and evaluate the life
cycle of the claims. Using data obtained from this monitoring and our
assumptions about emerging trends, we along with our independent actuary
develop information about the size of ultimate claims based on our historical
experience and other available industry information. The most significant
assumptions used in the estimation process include determining the trend in
costs, the expected cost of claims incurred but not reported and the expected
costs to settle unpaid claims. Our assumptions take into consideration our
internal efforts to contain our costs by reviewing our risk management
programs, our operational and clinical initiatives, and other industry changes
affecting the long-term care market. In comparing the first half of 2004 with
the first half of 2003, the number of new claims is down. Based on our
semi-annual review with our independent actuary, we maintained our accrual for
current claims at $5.5 million per month. Although we believe our liability
reserves are adequate, we can give no assurance that these reserves will not
require material adjustment in future periods. Workers Compensation Liability.Our workers compensation reserves are
determined based on an estimation process that uses company-specific data. We
continuously monitor the claims and develop information about the ultimate cost
of the claims based on our historical experience. During 2003 and continuing
into 2004, we expanded and increased attention to our safety, training and
claims management programs. The number of new claims in 2004 decreased in
comparison to the prior year period. As a result of these factors, our
workers compensation expense decreased $3.3 million for the second quarter of
2004 and $6.3 million for the first half of 2004 in comparison to prior year
periods. Although we believe our liability reserves are adequate, we can give
no assurance that these reserves will not require material adjustment in future
periods. 13




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##### Table of Contents



Results of Operations 
Quarter and Year-To-Date June 30, 2004 Compared with June 30, 2003 Revenues.Our revenues increased $48.5 million, or 6 percent, from the
second quarter of 2003 to 2004. Revenues from our long-term care segment
(skilled nursing and assisted living facilities) increased $34.3 million, or 5
percent, due to increases in rates/patient mix$55.5 million and occupancy$2.4
million that were partially offset by a decrease in capacity$23.6 million.
Our revenues from the hospice and home health segment increased $12.5 million,
or 15 percent, primarily because of an increase in hospice services provided. Our revenues in the first half of 2004 increased $115.4 million, or 8 percent,
compared with the first half of 2003. Revenues from our long-term care segment
increased $80.9 million, or 6 percent, due to increases in rates/patient
mix$102.0 million and occupancy$8.8 million that were partially offset by a
decrease in capacity$29.9 million. Our revenues from the hospice and home
health care segment increased $31.7 million, or 20 percent, primarily because
of an increase in hospice services provided. Our average rates per day for the long-term care segment were as follows: Second Quarter
    
    
    
    
    
    First Half2004
    
    2003
    
    Increase
    
    2004
    
    2003
    
    IncreaseMedicare
    
    $
    335.64
    
    
    $
    311.19
    
    
    
    8
    %
    
    $
    334.48
    
    
    $
    310.75
    
    
    
    8
    %Medicaid
    
    $
    135.58
    
    
    $
    131.29
    
    
    
    3
    %
    
    $
    134.38
    
    
    $
    129.78
    
    
    
    4
    %Private and other (skilled only)
    
    $
    200.94
    
    
    $
    188.66
    
    
    
    7
    %
    
    $
    198.99
    
    
    $
    188.78
    
    
    
    5
    %
 Our Medicare rates increased effective October 1, 2003 as a result of a 3.0
percent inflation update and an additional 3.26 percent rate increase designed
to make up for previous forecast error underpayments by the Centers for
Medicare & Medicaid Services, or CMS. We expect our Medicare rates to increase
2.8 percent effective October 1, 2004 for the inflation update. We expect our
Medicaid rates to increase approximately 3 percent in the second half of 2004
compared to the prior year period. The increase in overall rates was also a
result of a shift in the mix of our patients to a higher percentage of Medicare
patients. Our occupancy levels were 88 percent for the second quarters and first half of
2003 and 2004. Excluding start-up facilities, our occupancy levels were also
88 percent for the second quarters and first half of 2003 and 2004. Our
occupancy levels for skilled nursing facilities were 89 percent for the second
quarter and first half of 2003, 88 percent for the second quarter of 2004 and
89 percent for the first half of 2004. The quality mix of revenues from
Medicare, private pay and insured patients that related to skilled nursing and
assisted living facilities and rehabilitation operations was 67 percent for the
second quarter and first half of 2003 and 69 percent for the second quarter and
first half of 2004. 14




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##### Table of Contents



Our bed capacity declined between the second quarter and first half of 2003 and
2004 primarily because we sold three skilled nursing facilities in May 2003
with 374 beds, sold four skilled nursing facilities with 745 beds in January
2004, closed one assisted living facility with 60 beds in March 2004, sold one
skilled nursing facility with 240 beds in April 2004 and let the leases expire
on three skilled and three assisted living facilities with 733 beds in May
2004. Operating Expenses.Our operating expenses in the second quarter of 2004
increased $26.7 million, or 4 percent, compared with the second quarter of
2003. During the second quarter of 2003, we recorded an expense of $8.4
million for a proposed settlement of a review of certain Medicare cost reports
filed by facilities of the former Manor Care, Inc. prior to the implementation
of the prospective payment system. This review, which was conducted by the
Department of Justice and the Office of Inspector General of the Department of
Health and Human Services, focused primarily on nursing cost allocations made
in reliance upon instructions from the facilities Medicare fiscal intermediary
for the period 1992-1998. We believe the former Manor Care facilities were
fully entitled to the reimbursement they received for these allocations. The
definitive settlement agreement was finalized and $8.4 million paid in the
second quarter of 2004. Operating expenses from our long-term care segment increased $24.0 million, or
4 percent, between the second quarters of 2003 and 2004. We attribute the
largest portion of the long-term care operating expense increase to labor costs
of $13.2 million. Our average wage rates increased 5 percent compared with the
second quarter of 2003. Our other operating expense increase for this segment
included ancillary costs, excluding internal labor, of $5.8 million. Ancillary
costs, which include various types of therapies, medical supplies and
prescription drugs, increased as a result of our more medically complex
patients. Our operating expenses from our hospice and home health segment increased $11.3
million, or 17 percent, between the second quarters of 2003 and 2004. The
increase in our costs was directly related to the growth in our business. The
increase related to labor costs of $7.4 million, ancillary costs including
pharmaceuticals of $1.2 million and other direct nursing care costs, including
medical equipment and supplies, of $0.7 million. Our operating expenses in the first half of 2004 increased $74.6 million, or 6
percent, compared with the first half of 2003. See our discussion above for
the $8.4 million expense recorded in the second quarter of 2003 related to
Medicare cost reports. Operating expenses from our long-term care segment increased $57.6 million, or
5 percent, between the first half of 2003 and 2004. The largest portion of the
long-term care operating expense increase of $35.1 million related to labor
costs. Our other operating expense increases for this segment included
ancillary costs, excluding internal labor, of $14.6 million. Our bad debt
expense decreased $4.3 million primarily because of an improvement in the
collection and aging of our receivables. 15




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##### Table of Contents



Our operating expenses from our hospice and home health segment increased $25.4
million, or 20 percent, between the first half of 2003 and 2004. The increase
related to labor costs of $16.4 million, ancillary costs including
pharmaceuticals of $2.5 million and other direct nursing care costs, including
medical equipment and supplies, of $1.9 million. General and Administrative Expenses.Our general and administrative
expenses decreased $13.5 million and $9.4 million from the second quarters and
first half of 2003 to 2004, respectively. In the second quarter of 2003, we
recorded a charge of $6.2 million related to restructuring split-dollar life
insurance policies for officers and key employees in order to comply with
contractual requirements and the Sarbanes-Oxley Act of 2002, as well as to
address tax law changes. Excluding this charge, the decrease in expense
primarily related to costs associated with our stock appreciation rights and
deferred compensation plans. During the second quarter of 2003, our stock
price increased 30 percent that resulted in a significant increase in expense.
During 2004, our stock price has been stable and as a result no major
fluctuations occurred in this expense. The decrease in these costs included in
general and administrative expenses was $8.7 million from the second quarters
of 2003 to 2004 and $7.7 million from the first half of 2003 to 2004. The remaining increases related to pension plans and other inflationary costs. Interest Expense.Interest expense increased $1.8 million from the first
half of 2003 to 2004, primarily because of higher interest rates associated
with our fixed-rate senior notes issued in April 2003 compared with our
variable-rate credit agreement debt that was paid off. Gain on Sale of Assets.Our gain on sale of assets in 2004 primarily
resulted from the sale of four skilled nursing centers in January 2004 and the
sale of certain other assets. Our gain on sale of assets in 2003 primarily
related to the sale of three skilled nursing centers in May 2003 and the sale
of securities. Equity in Earnings of Affiliated Companies.Our equity earnings increased
in the second quarter and first half of 2004 compared with the prior year
periods primarily because of our ownership interests in two hospitals. Income Taxes.Our effective tax rate was 37.5 percent for 2004, as well
as for the year 2003. During the second quarter of 2003, our effective tax
rate was 40.7 percent as a result of non-deductible expense from restructuring
the split-dollar life insurance policies. 16




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##### Table of Contents



Financial Condition  June 30, 2004 and December 31, 2003 Net property and equipment increased $9.6 million primarily because of $52.6
million in new construction and renovations to existing facilities and $36.7
million to purchase four leased facilities in Ohio. These increases were
partially offset by depreciation of $60.8 million and disposal of assets of
$18.5 million. Income tax payable increased $33.5 million primarily due to deferral of tax
payments to future quarters. Long-term debt due within one year increased because we commenced tender offers
for up to $100 million in aggregate principal amount of the
71⁄2% Senior
Notes due 2006 issued by our wholly owned subsidiary, Manor Care of America,
Inc., and our 8% Senior Notes due 2008. Liquidity and Capital Resources Cash Flows.During the first quarter of 2004, we satisfied our cash
requirements primarily with cash generated from operating activities. We used
the cash principally for capital expenditures, for the purchase of our common
stock and the payment of dividends. Cash flows from operating activities were
$193.4 million for the first half of 2004 and were comparable to the first half
of 2003. During the first half of 2004, we did make our settlement payment to
the Department of Justice for $8.4 million and federal income tax payments of $11.0
million. Investing Activities.Our expenditures for property and equipment of
$89.3 million in the first half of 2004 included $36.7 million to purchase four
leased facilities in Ohio and $12.7 million to construct new facilities and
expand existing facilities. The proceeds from the sale of assets primarily
related to the sale of four skilled nursing facilities in Texas and one in
Pennsylvania. Debt Agreements.As of June 30, 2004, there were no loans outstanding
under our three-year $200 million revolving credit facility. After
consideration of usage for letters of credit, there was $160.5 million
available for future borrowings. On July 16, 2004, we announced that we had
commenced cash tender offers for up to $50 million aggregate principal amount
of the 71⁄2% Senior Notes due 2006 issued by our wholly owned subsidiary,
Manor Care of America, Inc., and guaranteed by us, and up to $50 million of our
8% Senior Notes due 2008. Each offer will expire Thursday, August 12, 2004,
unless extended or earlier terminated. The offers will be financed primarily
by cash generated from operations. Stock Purchase.In April 2003, our Board of Directors authorized us to
spend up to $100 million to purchase our common stock through December 31,
2004. With this authorization, we purchased 2,168,200 shares in the first half
of 2004 for $71.7 million and had $21.1 million remaining authority at June 30,
2004. On July 23, 2004, we announced that our Board of Directors 17




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##### Table of Contents



authorized an additional $100 million through December 31, 2005. We may use
the shares for internal stock option and 401(k) match programs and for other
uses, such as possible acquisitions. Cash Dividends.On July 23, 2004, we announced that the Company will pay
a quarterly cash dividend of 14 cents per share to shareholders of record on
August 9, 2004. This dividend will approximate $12.3 million and is payable
August 23, 2004. We intend to declare and pay regular quarterly cash
dividends; however, there can be no assurance that any dividends will be
declared, paid or increased in the future. We believe that our cash flow from operations will be sufficient to cover
operating needs, future capital expenditure requirements, scheduled debt
payments of miscellaneous small borrowing arrangements and capitalized leases,
cash dividends and some share repurchase. Because of our significant annual
cash flow, we believe that we will be able to refinance the major pieces of our
debt as they mature. It is likely that we will pursue growth from
acquisitions, partnerships and other ventures that we would fund from excess
cash from operations, credit available under our revolving credit facility and
other financing arrangements that are normally available in the marketplace. Cautionary Statement Concerning Forward-Looking Statements This report may include forward-looking statements. We have based these
forward-looking statements on our current expectations and projections about
future events. We identify forward-looking statements in this report by using
words or phrases such as anticipate, believe, estimate, expect,
intend, may be, objective, plan, predict, project, and will be
and similar words or phrases, or the negative thereof. These forward-looking statements are subject to numerous assumptions, risks and
uncertainties. Factors which may cause our actual results, performance or
achievements to be materially different from any future results, performance or
achievements expressed or implied by us in those statements include, among
others: changes in the health care industry because of political and economic
influences; changes in Medicare, Medicaid and certain private payors
reimbursement levels; existing government regulations, including applicable
health care, tax and health and safety regulations, and changes in, or the
failure to comply with, governmental regulations or the interpretations
thereof; legislative proposals for health care reform; competition and general
economic and business conditions; the ability to attract and retain qualified
personnel; changes in current trends in the cost and volume of patient
care-related claims and workers compensation claims and in insurance costs
related to such claims; and other litigation. Although we believe the expectations reflected in our forward-looking
statements are based upon reasonable assumptions, we can give no assurance that
we will attain these expectations or that 18




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##### Table of Contents



any deviations will not be material. Except as otherwise required by the
federal securities laws, we disclaim any obligations or undertaking to publicly
release any updates or revisions to any forward-looking statement contained in
this report to reflect any change in our expectations with regard thereto or
any change in events, conditions or circumstances on which any such statement
is based. 
 Item 3. Quantitative and Qualitative Disclosures About Market Risk See the discussion of our market risk in our Form 10-K for the year ended
December 31, 2003. The fair value of our fixed-rate debt has decreased from
$725.2 million at December 31, 2003 to $699.3 million at June 30, 2004. The
fair value of our interest rate swaps has increased from a payable position of
$4.8 million at December 31, 2003 to $7.6 million at June 30, 2004. On July 16, 2004, we announced that we commenced cash tender offers for up to
$100 million in aggregate principal amount of the 71⁄2% Senior Notes due 2006
issued by our wholly owned subsidiary, Manor Care of America, Inc., and our 8%
Senior Notes due 2008. Each offer will expire Thursday, August 12, 2004,
unless extended or earlier terminated. The offers will be financed primarily
by cash generated from operations. 
 Item 4. Controls and Procedures An evaluation was performed under the supervision and with the participation of
our management, including the chief executive officer, or CEO, and chief
financial officer, or CFO, of the effectiveness of the design and operation of
our disclosure procedures. Based on that evaluation, our management, including
the CEO and CFO, concluded that our disclosure controls and procedures were
effective as of June 30, 2004. There were no significant changes in our
internal control over financial reporting in the second quarter of 2004 that
materially affected, or are reasonably likely to materially affect, our
internal control over financial reporting. 
 Part II. Other Information 
 Item 1. Legal Proceedings. See Note 3  Contingencies in the notes to the consolidated financial
statements for a discussion of litigation related to environmental matters and
patient care-related claims. 19




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##### Table of Contents



Item 2. Changes in Securities and Use of Proceeds. The following table provides information with respect to stock repurchased by
the Company during the second quarter of 2004: Total Number of
    
    Approximate DollarShares Purchased as
    
    Value of Shares thatTotal Number
    
    Average
    
    Part of Publicly
    
    May Yet Be Purchasedof Shares
    
    Price Paid
    
    Announced Plans or
    
    Under the Plans orPeriod
    
    Purchased
    
    per Share
    
    Programs (1)
    
    Programs (1)4/1/04-4/30/04
    
    
    200,000
    
    
    $
    33.91
    
    
    
    200,000
    
    
    $
    61,934,8735/1/04-5/31/04
    
    
    785,800
    
    
    $
    31.91
    
    
    
    785,800
    
    
    $
    36,863,7886/1/04-6/30/04
    
    
    500,000
    
    
    $
    31.49
    
    
    
    500,000
    
    
    $
    21,118,235Total
    
    
    1,485,800
    
    
    $
    32.04
    
    
    
    1,485,800
  (1)
    
    On April 9, 2003, the Company announced that its Board of Directors
authorized management to spend $100 million to purchase common stock
through December 31, 2004. On July 23, 2004, the Company announced that
its Board of Directors authorized management to spend an additional $100
million to purchase common stock through December 31, 2005. 
 Item 3. Defaults Upon Senior Securities. None 
 Item 4. Submission of Matters to a Vote of Security Holders. At the Companys Annual Meeting of Stockholders held on May 5, 2004 the
stockholders voted on the following items: a) elect Virgis W. Colbert as a
director, b) elect William H. Longfield as a director, c) elect Paul A. Ormond
as a director, d) approve the Amendment and Restatement of the Equity Incentive
Plan, e) approve the Amendment to the Certificate of Incorporation, f) ratify
the selection of Ernst & Young LLP as independent public accountants for the
year ending December 31, 2004 and g) approve the stockholder proposal regarding
executive compensation. Items a-f were approved and Item g was not approved.
The votes were as follows: Item
    
    For
    
    Against
    
    Withheld
    
    Abstain
    
    Not Voteda
    
    
    53,456,299
    
    
    
    
    
    
    
    26,526,787b
    
    
    76,442,010
    
    
    
    
    
    
    
    3,541,076c
    
    
    77,318,016
    
    
    
    
    
    
    
    2,665,070d
    
    
    58,307,785
    
    
    
    9,002,904
    
    
    
    
    
    
    
    752,904
    
    
    
    11,919,493e
    
    
    76,910,413
    
    
    
    2,493,855
    
    
    
    
    
    
    
    578,818f
    
    
    49,816,767
    
    
    
    29,605,291
    
    
    
    
    
    
    
    561,028g
    
    
    7,882,202
    
    
    
    59,306,288
    
    
    
    
    
    
    
    875,103
    
    
    
    11,919,493
 20




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##### Table of Contents



Item 5. Other Information. None 
 Item 6. Exhibits and Reports on Form 8-K. (a) Exhibits S-K Item601 No.3.1*
    
    Certificate of Incorporation including amendments10.1
    
    Amendment and Restatement of the Equity Incentive Plan (filed as Appendix
B to Manor Care, Inc.s Proxy Statement filed April 7, 2004 in connection
with its Annual Meeting held on May 5, 2004 and incorporated herein by
reference).10.2*
    
    First Amendment to the Amendment and Restatement of the Equity Incentive Plan31.1*
    
    Chief Executive Officer Certification31.2*
    
    Chief Financial Officer Certification32.1*
    
    Chief Executive Officer Certification pursuant to 18 U.S.C. Section
1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 200232.2*
    
    Chief Financial Officer Certification pursuant to 18 U.S.C. Section
1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
 * Filed herewith.  (b)
    
    Reports on Form 8-KOn April 23, 2004, Manor Care, Inc. filed a Form 8-K and under Item 12
furnished the April 23, 2004 press release reporting the Companys financial
results for the first quarter of 2004. 21




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##### Table of Contents



Signatures Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized. Manor Care, Inc.(Registrant)Date August 5, 2004
    
    By
    
    /s/ Geoffrey G. MeyersGeoffrey G. Meyers, Executive Vice President
and Chief Financial Officer
 22




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##### Table of Contents



Exhibit Index Exhibit3.1
    
    Certificate of Incorporation including amendments10.2
    
    First Amendment to the Amendment and Restatement of the Equity Incentive Plan31.1
    
    Chief Executive Officer Certification31.2
    
    Chief Financial Officer Certification32.1
    
    Chief Executive Officer Certification pursuant to 18 U.S.C. Section 1350,
as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 200232.2
    
    Chief Financial Officer Certification pursuant to 18 U.S.C. Section 1350,
as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
 23