##### Table of Contents



UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549
 
 FORM 10-Q x
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934For the quarterly period ended September 30, 2004o
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 Commission File Number: 001-16783 
 VCA ANTECH, INC. (Exact name of registrant as specified in its charter)
 Delaware
    
    95-4097995(State or other jurisdiction of
    
    (I.R.S. Employerincorporation or organization)
    
    Identification No.)
 12401 West Olympic Boulevard
Los Angeles, California 90064-1022(Address of principal executive offices) (310) 571-6500(Registrants telephone number, including area code) Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]. Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-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 latest practicable date: common stock, $0.001 par value
82,054,302 shares as of November 3, 2004.




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VCA ANTECH, INC.
FORM 10-Q
SEPTEMBER 30, 2004 TABLE OF CONTENTS PageNumberPart I.
    
    Financial InformationItem 1.
    
    Financial Statements (Unaudited)Condensed, Consolidated Balance Sheets as of September 30, 2004 and
December 31, 2003 (Unaudited)
    
    
    1Condensed, Consolidated Income Statements for the Three and Nine Months
Ended September 30, 2004 and 2003 (Unaudited)
    
    
    2Condensed, Consolidated Statements of Cash Flows for the Nine Months
Ended September 30, 2004 and 2003 (Unaudited)
    
    
    3Notes to Condensed, Consolidated Financial Statements (Unaudited)
    
    
    4Item 2.
    
    Managements Discussion and Analysis of Financial Condition and
Results of Operations
    
    
    26Item 3.
    
    Quantitative and Qualitative Disclosures About Market Risk
    
    
    47Item 4.
    
    Controls and Procedures
    
    
    47Part II.
    
    Other InformationItem 1.
    
    Legal Proceedings
    
    
    48Item 2.
    
    Unregistered Sales of Equity Securities and Use of Proceeds
    
    
    48Item 3.
    
    Defaults Upon Senior Securities
    
    
    48Item 4.
    
    Submission of Matters to a Vote of Security Holders
    
    
    48Item 5.
    
    Other Information
    
    
    48Item 6.
    
    Exhibits
    
    
    48Signature
    
    
    49Exhibit Index
    
    
    50Exhibit 31.1Exhibit 31.2Exhibit 32.1




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##### Table of Contents



PART I. FINANCIAL INFORMATION 
 ITEM 1. FINANCIAL STATEMENTS VCA ANTECH, INC. AND SUBSIDIARIES 
 CONDENSED, CONSOLIDATED BALANCE SHEETS
 As of September 30, 2004 and December 31, 2003
(Unaudited)
(In thousands, except par value)
 September 30,
    
    December 31,2004
    
    2003ASSETSCurrent assets:Cash and cash equivalents
    
    $
    50,834
    
    
    $
    17,237Trade accounts receivable, less allowance for uncollectible accounts of
$7,475 and $6,681 at September 30, 2004 and December 31, 2003, respectively
    
    
    25,765
    
    
    
    22,335Inventory, prepaid expenses and other
    
    
    11,138
    
    
    
    9,432Deferred income taxes
    
    
    12,921
    
    
    
    11,040Prepaid income taxes
    
    
    8,368
    
    
    
    7,266Total current assets
    
    
    109,026
    
    
    
    67,310Property and equipment, net
    
    
    114,983
    
    
    
    99,161Other assets:Goodwill
    
    
    481,076
    
    
    
    373,238Other intangible assets, net
    
    
    7,716
    
    
    
    4,692Deferred financing costs, net
    
    
    4,037
    
    
    
    4,601Other
    
    
    6,900
    
    
    
    5,801Total assets
    
    $
    723,738
    
    
    $
    554,803LIABILITIES AND STOCKHOLDERS EQUITYCurrent liabilities:Current portion of long-term obligations
    
    $
    3,613
    
    
    $
    2,403Accounts payable
    
    
    12,611
    
    
    
    9,208Accrued payroll and related liabilities
    
    
    20,119
    
    
    
    15,716Accrued interest
    
    
    5,762
    
    
    
    1,538Other accrued liabilities
    
    
    18,356
    
    
    
    15,006Total current liabilities
    
    
    60,461
    
    
    
    43,871Long-term obligations, less current portion
    
    
    394,041
    
    
    
    315,066Deferred income taxes
    
    
    30,485
    
    
    
    24,532Other liabilities
    
    
    11,223
    
    
    
    5,392Minority interest
    
    
    9,197
    
    
    
    4,019Preferred stock, par value $0.001, 11,000 shares authorized, none outstanding
    
    
    
    
    
    
    Stockholders equity:Common stock, par value $0.001, 175,000 shares authorized, and 82,008 and
81,430 shares outstanding as of September 30, 2004 and December 31, 2003,
respectively
    
    
    82
    
    
    
    81Additional paid-in capital
    
    
    250,174
    
    
    
    244,271Accumulated deficit
    
    
    (32,076
    )
    
    
    (82,331
    )Accumulated other comprehensive income (loss)
    
    
    161
    
    
    
    (82
    )Notes receivable from stockholders
    
    
    (10
    )
    
    
    (16
    )Total stockholders equity
    
    
    218,331
    
    
    
    161,923Total liabilities and stockholders equity
    
    $
    723,738
    
    
    $
    554,803
 The accompanying notes are an integral part of these condensed, consolidated financial statements. 1




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##### Table of Contents



VCA ANTECH, INC. AND SUBSIDIARIES 
 CONDENSED, CONSOLIDATED INCOME STATEMENTS
 For the Three and Nine Months Ended September 30, 2004 and 2003
(Unaudited)
(In thousands, except per share amounts)
 Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003(Restated)
    
    
    
    
    
    (Restated)Revenue
    
    $
    183,352
    
    
    $
    143,884
    
    
    $
    497,649
    
    
    $
    412,224Direct costs
    
    
    133,571
    
    
    
    102,848
    
    
    
    358,304
    
    
    
    295,414Gross profit
    
    
    49,781
    
    
    
    41,036
    
    
    
    139,345
    
    
    
    116,810Selling, general and administrative
    
    
    13,037
    
    
    
    9,353
    
    
    
    33,503
    
    
    
    28,546Write-down and loss (gain) on sale of assets
    
    
    (12
    )
    
    
    442
    
    
    
    54
    
    
    
    282Operating income
    
    
    36,756
    
    
    
    31,241
    
    
    
    105,788
    
    
    
    87,982Interest expense, net
    
    
    6,629
    
    
    
    6,361
    
    
    
    18,712
    
    
    
    19,771Minority interest expense
    
    
    746
    
    
    
    456
    
    
    
    1,917
    
    
    
    1,279Debt retirement costs
    
    
    
    
    
    
    1,701
    
    
    
    810
    
    
    
    9,118Other (income) expense
    
    
    (9
    )
    
    
    (129
    )
    
    
    (185
    )
    
    
    129Income before provision for income taxes
    
    
    29,390
    
    
    
    22,852
    
    
    
    84,534
    
    
    
    57,685Provision for income taxes
    
    
    12,046
    
    
    
    9,363
    
    
    
    34,279
    
    
    
    23,663Net income
    
    $
    17,344
    
    
    $
    13,489
    
    
    $
    50,255
    
    
    $
    34,022Basic earnings per common share
    
    $
    0.21
    
    
    $
    0.17
    
    
    $
    0.62
    
    
    $
    0.42Diluted earnings per common share
    
    $
    0.21
    
    
    $
    0.16
    
    
    $
    0.60
    
    
    $
    0.42Shares used for computing basic earnings per share
    
    
    81,944
    
    
    
    81,282
    
    
    
    81,701
    
    
    
    80,190Shares used for computing diluted earnings per share
    
    
    83,455
    
    
    
    82,668
    
    
    
    83,300
    
    
    
    81,300
 The accompanying notes are an integral part of these condensed, consolidated financial statements. 2




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##### Table of Contents



VCA ANTECH, INC. AND SUBSIDIARIES 
 CONDENSED, CONSOLIDATED STATEMENTS OF CASH FLOWS
 For the Nine Months Ended September 30, 2004 and 2003
(Unaudited)
(In thousands)
 Nine Months EndedSeptember 30,2004
    
    2003Cash flows from operating activities:Net income
    
    $
    50,255
    
    
    $
    34,022Adjustments to reconcile net income to net cash provided by operating
activities:Depreciation and amortization
    
    
    11,407
    
    
    
    10,653Amortization of deferred financing costs and debt discount
    
    
    552
    
    
    
    669Provision for uncollectible accounts
    
    
    2,190
    
    
    
    2,371Debt retirement costs
    
    
    810
    
    
    
    9,118Write-down of assets
    
    
    
    
    
    
    392Loss (gain) on sale of assets
    
    
    54
    
    
    
    (110
    )Other
    
    
    (350
    )
    
    
    Minority interest in income of subsidiaries
    
    
    1,917
    
    
    
    1,279Distributions to minority interest partners
    
    
    (1,505
    )
    
    
    (1,245
    )Increase in trade accounts receivable
    
    
    (5,075
    )
    
    
    (4,399
    )Increase in inventory, prepaid expenses and other assets
    
    
    (909
    )
    
    
    (438
    )Increase (decrease) in accounts payable and other accrued liabilities
    
    
    1,759
    
    
    
    (552
    )Increase (decrease) in accrued payroll and related liabilities
    
    
    (677
    )
    
    
    1,121Increase in accrued interest
    
    
    4,107
    
    
    
    4,192Decrease in prepaid income taxes
    
    
    2,369
    
    
    
    7,614Increase in income taxes payable
    
    
    
    
    
    
    1,232Increase in deferred income tax assets
    
    
    (823
    )
    
    
    (2,169
    )Increase in deferred income tax liabilities
    
    
    5,654
    
    
    
    3,940Net cash provided by operating activities
    
    
    71,735
    
    
    
    67,690Cash flows from investing activities:Business acquisitions, net of cash acquired
    
    
    (97,152
    )
    
    
    (27,177
    )Real estate acquired in connection with business acquisitions
    
    
    (5,565
    )
    
    
    (589
    )Property and equipment additions
    
    
    (16,035
    )
    
    
    (11,040
    )Proceeds from sale of assets
    
    
    184
    
    
    
    363Other
    
    
    1,553
    
    
    
    447Net cash used in investing activities
    
    
    (117,015
    )
    
    
    (37,996
    )Cash flows from financing activities:Repayment of long-term obligations, including redemption fees
    
    
    (147,691
    )
    
    
    (209,992
    )Proceeds from the issuance of long-term debt
    
    
    225,000
    
    
    
    146,442Repayment of revolving credit facility
    
    
    
    
    
    
    (7,500
    )Payment of financing costs
    
    
    (794
    )
    
    
    (1,069
    )Proceeds from issuance of common stock under stock option plans
    
    
    2,362
    
    
    
    85Proceeds from issuance of common stock
    
    
    
    
    
    
    54,323Net cash provided by (used in) financing activities
    
    
    78,877
    
    
    
    (17,711
    )Increase in cash and cash equivalents
    
    
    33,597
    
    
    
    11,983Cash and cash equivalents at beginning of period
    
    
    17,237
    
    
    
    6,462Cash and cash equivalents at end of period
    
    $
    50,834
    
    
    $
    18,445
 The accompanying notes are an integral part of these condensed, consolidated financial statements. 3




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##### Table of Contents



VCA ANTECH, INC. AND SUBSIDIARIES 
 NOTES TO CONDENSED, CONSOLIDATED FINANCIAL STATEMENTS
 September 30, 2004
(Unaudited)
 1. General The accompanying unaudited condensed, consolidated financial statements of
VCA Antech, Inc. and subsidiaries (the Company or VCA) have been prepared
in accordance with generally accepted accounting principles in the United
States (GAAP) for interim financial information and in accordance with the
rules and regulations of the United States Securities and Exchange Commission.
Accordingly, they do not include all of the information and footnotes required
by generally accepted accounting principles in the United States for complete
financial statements as permitted under applicable rules and regulations. In
the opinion of management, all adjustments considered necessary for a fair
presentation have been included. The results of operations for the three and
nine months ended September 30, 2004 are not necessarily indicative of the
results to be expected for the full year. For further information, refer to
the Companys consolidated financial statements and footnotes thereto included
in the Companys 2003 Annual Report on Form 10-K. 2. Acquisitions National PetCare Centers, Inc. On June 1, 2004, the Company consummated a merger with National PetCare
Centers, Inc. (NPC), which operated 67 animal hospitals located in 11 states
as of the merger date. As of September 30, 2004, the Company had not finalized
the purchase price accounting for the transaction. The total
consideration as of September 30, 2004 was
$91.5 million, consisting of $66.2 million in cash (net of cash acquired) paid
to holders of NPC stock and debt; $2.5 million in assumed debt; $12.8 million
in assumed liabilities; $5.9 million of assumed operating leases whose terms
were in excess of market; $2.0 million paid for professional and other outside
services; and $2.1 million as part of the Companys plan to close certain
facilities and terminate certain employees. The preliminary allocation for the
$91.5 million is as follows: $12.1 million to tangible assets, $77.9 million to
goodwill and $1.4 million to other intangible assets. The
amounts of the allocation will change primarily due to the Company
determining the costs related to its integration plan. The Company expects that
approximately $18.6 million of the goodwill for NPC will be fully deductible
for income tax purposes. As part of its integration plan, the Company has closed NPCs corporate
office and intends to close or sell animal hospitals that do not meet its
operating model and eliminate NPCs employees with duplicative functions. The
Company has commenced these activities but, as of September 30, 2004, had not
yet determined the total related costs. Costs incurred in connection with the
integration plan, consisting primarily of lease termination costs and employee
severance costs, will result in additions to the total purchase price of the
transaction. During the three and nine months ended September 30, 2004, the Company
incurred other integration costs of $668,000 and $1.2 million, respectively,
reported as a component of selling, general and administrative expense on its
income statements. 4




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##### Table of Contents



Total Acquisition Activity The following table summarizes the number of acquired animal hospitals and
veterinary diagnostic laboratories (including the NPC acquisition on June 1,
2004): Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003Laboratories:Acquisitions
    
    
    
    
    
    
    1
    
    
    
    
    
    
    
    7Acquisitions relocated into the Companys laboratories
    
    
    
    
    
    
    (1
    )
    
    
    
    
    
    
    (3
    )
    
    
    
    
    
    
    
    
    
    
    
    4Animal hospitals:Acquisitions
    
    
    2
    
    
    
    3
    
    
    
    84
    
    
    
    19Acquisitions relocated into the Companys
animal hospitals
    
    
    (1
    )
    
    
    
    
    
    
    (4
    )
    
    
    (5
    )1
    
    
    
    3
    
    
    
    80
    
    
    
    14
 The following table summarizes the preliminary aggregate consideration, including
acquisition costs, paid by the Company for its acquisitions (including the NPC
merger on June 1, 2004) and the preliminary allocation of the purchase
price (in thousands): Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003Consideration:Cash
    
    $
    1,554
    
    
    $
    6,775
    
    
    $
    95,739
    
    
    $
    26,130Obligation to be settled in cash or common stock
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    2,250Obligations to sellers (1)
    
    
    100
    
    
    
    300
    
    
    
    1,235
    
    
    
    982Notes payable and other liabilities assumed
    
    
    71
    
    
    
    30
    
    
    
    21,858
    
    
    
    1,145Total
    
    $
    1,725
    
    
    $
    7,105
    
    
    $
    118,832
    
    
    $
    30,507Purchase Price Allocation (2):Tangible assets
    
    $
    103
    
    
    $
    335
    
    
    $
    13,037
    
    
    $
    2,558Identifiable intangible assets
    
    
    121
    
    
    
    453
    
    
    
    3,069
    
    
    
    1,658Goodwill
    
    
    1,501
    
    
    
    6,317
    
    
    
    102,726
    
    
    
    26,291Total
    
    $
    1,725
    
    
    $
    7,105
    
    
    $
    118,832
    
    
    $
    30,507
   (1)
    
    Represents a portion of the purchase price withheld (the
holdback) as security for indemnification obligations of the sellers
under the acquisition agreement. The unused portion is paid to the
seller after a designated period following the date of acquisition.(2)
    
    Represents preliminary purchase price allocations subject to change
in accordance with GAAP. 5




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##### Table of Contents



The following table summarizes goodwill assigned to the laboratory
and animal hospital segments (in thousands): Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003Laboratory
    
    $
    
    
    
    $
    905
    
    
    $
    
    
    
    $
    7,198Animal
hospital
    
    
    1,501
    
    
    
    5,412
    
    
    
    102,726
    
    
    
    19,0931,501
    
    
    
    6,317
    
    
    
    102,726
    
    
    
    26,291Purchase price allocation adjustments
    
    
    1,842
    
    
    
    40
    
    
    
    215
    
    
    
    149Total (1)
    
    $
    3,343
    
    
    $
    6,357
    
    
    $
    102,941
    
    
    $
    26,440
   (1)
    
    The Company expects that $1.8 million and $4.5 million of the
goodwill recorded for the three months ended September 30, 2004 and
2003, respectively, and $40.2 million and $15.5 million of the goodwill
recorded for the nine months ended September 30, 2004 and 2003,
respectively, will be fully deductible for income tax purposes. 6




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##### Table of Contents



Partnership Interests During the nine months ended September 30, 2004, the Company purchased the
ownership interests of partners in six partially-owned subsidiaries of the
Company; two of those interests were purchased during the third quarter of
2004. During the nine months ended September 30, 2003, the Company purchased
the total ownership interest of partners in three partially-owned subsidiaries
of the Company; one of those interests was purchased during the third quarter
of 2003. The following table summarizes the consideration paid by the Company
and the amount of goodwill recorded (in thousands): Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003Consideration:Cash
    
    $
    616
    
    
    $
    138
    
    
    $
    922
    
    
    $
    244Notes receivable (1)
    
    
    
    
    
    
    
    
    
    
    184
    
    
    
    41Notes payable and other liabilities assumed
    
    
    90
    
    
    
    
    
    
    
    221
    
    
    
    763Total
    
    $
    706
    
    
    $
    138
    
    
    $
    1,327
    
    
    $
    1,048Goodwill recorded (2)
    
    $
    236
    
    
    $
    
    
    
    $
    846
    
    
    $
    295
   (1)
    
    The Company forgave certain notes owed to the Company by the
partner.(2)
    
    The Company expects that the goodwill recorded for the transactions
will be fully deductible for income tax purposes. Other Acquisition Payments During the nine months ended September 30, 2004 and 2003, the Company paid
$864,000 and $745,000 respectively, of unused holdbacks to sellers in
previously closed acquisitions. In June 2004, the Company paid $2.3 million in cash to settle the remaining
obligation to a seller in connection with a prior year acquisition. 3. Goodwill and Other Intangible Assets Goodwill represents the excess of the cost of an acquired entity over the
net of the amounts assigned to identifiable assets acquired and liabilities
assumed. Other intangible assets represent non-contractual customer
relationships for veterinary diagnostic laboratories, covenants-not-to-compete
and client lists, all of which are associated with acquisitions. The following table presents the changes in the carrying amount of
goodwill for the nine months ended September 30, 2004 (in thousands): AnimalLaboratory
    
    Hospital
    
    TotalBalance as of
January 1,
2004
    
    $
    94,770
    
    
    $
    278,468
    
    
    $
    373,238Goodwill acquired
    
    
    
    
    
    
    102,726
    
    
    
    102,726Purchase price
allocation
adjustments
    
    
    (1,084
    )
    
    
    1,299
    
    
    
    215Goodwill related to
partnerships
    
    
    
    
    
    
    4,917
    
    
    
    4,917Goodwill
written-off related
to sale of animal
hospital
    
    
    
    
    
    
    (20
    )
    
    
    (20
    )Balance as of
September 30,
2004
    
    $
    93,686
    
    
    $
    387,390
    
    
    $
    481,076
 7




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##### Table of Contents



In addition to goodwill, the Company had amortizable other intangible
assets as follows (in thousands): As of September 30, 2004
    
    As of December 31, 2003Gross
    
    
    
    
    
    Net
    
    Gross
    
    
    
    
    
    NetCarrying
    
    Accumulated
    
    Carrying
    
    Carrying
    
    Accumulated
    
    CarryingAmount
    
    Amortization
    
    Amount
    
    Amount
    
    Amortization
    
    AmountNon-contractual customer
relationships
    
    $
    1,530
    
    
    $
    (100
    )
    
    $
    1,430
    
    
    $
    
    
    
    $
    
    
    
    $
    Covenants-not-to-compete
    
    
    13,041
    
    
    
    (6,929
    )
    
    
    6,112
    
    
    
    10,141
    
    
    
    (5,515
    )
    
    
    4,626Client lists
    
    
    668
    
    
    
    (494
    )
    
    
    174
    
    
    
    498
    
    
    
    (432
    )
    
    
    66Total
    
    $
    15,239
    
    
    $
    (7,523
    )
    
    $
    7,716
    
    
    $
    10,639
    
    
    $
    (5,947
    )
    
    $
    4,692
 The aggregate amortization related to other intangible assets was as
follows (in thousands): Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003Aggregate
amortization
expense
    
    $
    583
    
    
    $
    476
    
    
    $
    1,576
    
    
    $
    1,391
 Based on balances at September 30, 2004, estimated annual amortization
expense for other intangible assets for the current year and the next four
fiscal years is as follows (in thousands): 2004
    
    $
    2,1432005
    
    $
    1,9322006
    
    $
    1,5752007
    
    $
    1,3382008
    
    $
    923
 4. Calculation of Earnings per Common Share Basic and diluted earnings per common share were computed as follows (in
thousands, except per share amounts): Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003Net income
    
    $
    17,344
    
    
    $
    13,489
    
    
    $
    50,255
    
    
    $
    34,022Weighted average common shares outstanding:Basic
    
    
    81,944
    
    
    
    81,282
    
    
    
    81,701
    
    
    
    80,190Effect of dilutive common shares:Stock options
    
    
    1,511
    
    
    
    1,178
    
    
    
    1,526
    
    
    
    1,016Contracts that may be settled in stock or cash
    
    
    
    
    
    
    208
    
    
    
    73
    
    
    
    94Diluted
    
    
    83,455
    
    
    
    82,668
    
    
    
    83,300
    
    
    
    81,300Basic earnings per common share
    
    $
    0.21
    
    
    $
    0.17
    
    
    $
    0.62
    
    
    $
    0.42Diluted earnings per common share
    
    $
    0.21
    
    
    $
    0.16
    
    
    $
    0.60
    
    
    $
    0.42
 8




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##### Table of Contents



5. Common Stock On July 13, 2004, the Company amended its Amended and Restated Certificate
of Incorporation to increase the number of shares of common stock the Company
is authorized to issue from 75.0 million to 175.0 million. On August 25, 2004, the Company effected a two-for-one stock split in the
form of a 100% stock dividend payable to stockholders of record as of August
11, 2004. All share and per share information included in this document have
been restated to reflect the effect of the stock dividend. 6. Interest-Rate Hedging Agreements The Company has entered into no-fee swap agreements (Swap Agreements),
whereby the Company pays to counterparties amounts based on fixed interest
rates and set notional amounts in exchange for the receipt of payments from
counterparties based on LIBOR and the same set notional principal amounts. A
summary of these agreements is as follows: Swap #1
    
    Swap #2
    
    Swap #3Fixed interest rate
    
    
    2.22
    %
    
    
    1.72
    %
    
    
    1.51
    %Notional amount
    
    $40.0 million
    
    $20.0 million
    
    $20.0 millionEffective date
    
    
    11/29/2002
    
    
    
    5/30/2003
    
    
    
    5/30/2003Expiration date
    
    
    11/29/2004
    
    
    
    5/31/2005
    
    
    
    5/31/2005Counter party
    
    Wells Fargo Bank
    
    Wells Fargo Bank
    
    Goldman SachsQualifies for hedge accounting (1)
    
    No
    
    No
    
    Yes
   (1)
    
    Swap #1 and #2 were no longer considered effective as of May 2003
and March 2004, respectively. Both Swap #1 and Swap #2 were initially considered to be cash-flow hedging
instruments; however, management has determined that they are no longer
effective tools for mitigating interest-rate risk within an acceptable degree
of variance because the current interest rate environment is materially
different than managements projections at the inception of the contracts. As
a result of this determination, Swap #1 and Swap #2 no longer qualify for hedge
accounting and all changes in their market value are recognized as income or
expense in the period of change with the fair market value reflected as an
asset or liability on the balance sheet. The following table summarizes the Companys payments and unrealized loss
(gain) recognized under the Swap Agreements (in thousands): Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003Cash paid
(1)
    
    $
    90
    
    
    $
    165
    
    
    $
    419
    
    
    $
    352Unrealized loss
(gain)
(2)
    
    $
    (9
    )
    
    $
    (129
    )
    
    $
    (185
    )
    
    $
    129
   (1)
    
    These payments are included in interest expense in the condensed,
consolidated income statements.(2)
    
    These unrealized losses (gains) are included in other (income)
expense in the condensed, consolidated income statements. The valuations of the Swap Agreements are determined by the counterparties
based on fair market valuations for similar agreements. The fair market value
of the Swap Agreements resulted in an asset of $151,000 and a liability of
$277,000 at September 30, 2004 and December 31, 2003, respectively, from the
interest rate hedging activities. 9




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##### Table of Contents



7. Consolidation of Variable Interest Entities Under the provisions of Financial Accounting Standards Board
Interpretation No. 46R (FIN No. 46R), Consolidation of Variable Interest
Entities, adopted by the Company in the fourth quarter of 2003, the veterinary
medical groups for which the Company provides management services are variable
interest entities. As a result of adopting FIN No. 46R, the Company
consolidated the veterinary medical groups. The prior periods presented have
been restated to conform to the current period presentation. The restatement
resulted in an increase in both revenue and direct costs in the amount of $11.0
million and $31.0 million for the three and nine months ended September 30,
2003, respectively, thus there was no impact on gross profit, operating income,
net income, earnings per share or cash flows. 8. Lines of Business During the three and nine months ended September 30, 2004 and 2003, the
Company had three reportable segments: Laboratory, Animal Hospital and
Corporate. These segments are strategic business units that have different
products, services and functions. The segments are managed separately because
each is a distinct and different business venture with unique challenges,
rewards and risks. The Laboratory segment provides testing services for
veterinarians both associated with the Company and independent of the Company.
The Animal Hospital segment provides veterinary services for companion animals
and sells related retail and pharmaceutical products. Corporate provides
selling, general and administrative support for the other two segments. The accounting policies of the segments are the same as those described in
the summary of significant accounting policies as detailed in the Companys
consolidated financial statements and footnotes thereto included in the 2003
Annual Report on Form 10-K. The Company evaluates performance of segments
based on operating income. For purposes of reviewing the operating performance
of the segments, all intercompany sales and purchases are accounted for as if
they were transactions with independent third parties at current market prices. 10




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##### Table of Contents



Below is a summary of certain financial data for each of the three
segments (in thousands): Animal
    
    
    
    
    
    IntercompanyLaboratory
    
    Hospital
    
    Corporate
    
    Eliminations
    
    TotalThree Months Ended September 30, 2004Revenue
    
    $
    50,685
    
    
    $
    136,399
    
    
    $
    
    
    
    $
    (3,732
    )
    
    $
    183,352Direct costs
    
    
    28,470
    
    
    
    108,833
    
    
    
    
    
    
    
    (3,732
    )
    
    
    133,571Gross profit
    
    
    22,215
    
    
    
    27,566
    
    
    
    
    
    
    
    
    
    
    
    49,781Selling, general and administrative
    
    
    3,136
    
    
    
    3,423
    
    
    
    6,478
    
    
    
    
    
    
    
    13,037Gain on sale of assets
    
    
    
    
    
    
    (12
    )
    
    
    
    
    
    
    
    
    
    
    (12
    )Operating income (loss)
    
    $
    19,079
    
    
    $
    24,155
    
    
    $
    (6,478
    )
    
    $
    
    
    
    $
    36,756Depreciation and amortization
    
    $
    850
    
    
    $
    2,722
    
    
    $
    400
    
    
    $
    
    
    
    $
    3,972Capital expenditures
    
    $
    2,108
    
    
    $
    4,451
    
    
    $
    449
    
    
    $
    
    
    
    $
    7,008Three Months Ended September 30, 2003Revenue
    
    $
    46,429
    
    
    $
    100,060
    
    
    $
    
    
    
    $
    (2,605
    )
    
    $
    143,884Direct costs
    
    
    26,664
    
    
    
    78,789
    
    
    
    
    
    
    
    (2,605
    )
    
    
    102,848Gross profit
    
    
    19,765
    
    
    
    21,271
    
    
    
    
    
    
    
    
    
    
    
    41,036Selling, general and administrative
    
    
    2,855
    
    
    
    2,516
    
    
    
    3,982
    
    
    
    
    
    
    
    9,353Write-down and loss on sale of assets
    
    
    39
    
    
    
    403
    
    
    
    
    
    
    
    
    
    
    
    442Operating income (loss)
    
    $
    16,871
    
    
    $
    18,352
    
    
    $
    (3,982
    )
    
    $
    
    
    
    $
    31,241Depreciation and amortization
    
    $
    823
    
    
    $
    2,387
    
    
    $
    369
    
    
    $
    
    
    
    $
    3,579Capital expenditures
    
    $
    621
    
    
    $
    3,900
    
    
    $
    351
    
    
    $
    
    
    
    $
    4,872Nine Months Ended September 30, 2004Revenue
    
    $
    151,818
    
    
    $
    355,739
    
    
    $
    
    
    
    $
    (9,908
    )
    
    $
    497,649Direct costs
    
    
    84,168
    
    
    
    284,044
    
    
    
    
    
    
    
    (9,908
    )
    
    
    358,304Gross profit
    
    
    67,650
    
    
    
    71,695
    
    
    
    
    
    
    
    
    
    
    
    139,345Selling, general and administrative
    
    
    9,499
    
    
    
    9,227
    
    
    
    14,777
    
    
    
    
    
    
    
    33,503Loss on sale of assets
    
    
    1
    
    
    
    53
    
    
    
    
    
    
    
    
    
    
    
    54Operating income (loss)
    
    $
    58,150
    
    
    $
    62,415
    
    
    $
    (14,777
    )
    
    $
    
    
    
    $
    105,788Depreciation and amortization
    
    $
    2,568
    
    
    $
    7,659
    
    
    $
    1,180
    
    
    $
    
    
    
    $
    11,407Capital expenditures
    
    $
    3,911
    
    
    $
    10,982
    
    
    $
    1,142
    
    
    $
    
    
    
    $
    16,035Nine Months Ended September 30, 2003Revenue
    
    $
    134,818
    
    
    $
    285,189
    
    
    $
    
    
    
    $
    (7,783
    )
    
    $
    412,224Direct costs
    
    
    76,489
    
    
    
    226,708
    
    
    
    
    
    
    
    (7,783
    )
    
    
    295,414Gross profit
    
    
    58,329
    
    
    
    58,481
    
    
    
    
    
    
    
    
    
    
    
    116,810Selling, general and administrative
    
    
    8,359
    
    
    
    7,538
    
    
    
    12,649
    
    
    
    
    
    
    
    28,546Write-down and loss (gain) on sale of assets
    
    
    58
    
    
    
    225
    
    
    
    (1
    )
    
    
    
    
    
    
    282Operating income (loss)
    
    $
    49,912
    
    
    $
    50,718
    
    
    $
    (12,648
    )
    
    $
    
    
    
    $
    87,982Depreciation and amortization
    
    $
    2,376
    
    
    $
    7,168
    
    
    $
    1,109
    
    
    $
    
    
    
    $
    10,653Capital expenditures
    
    $
    2,385
    
    
    $
    7,258
    
    
    $
    1,397
    
    
    $
    
    
    
    $
    11,040
 11




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##### Table of Contents



Animal
    
    
    
    
    
    IntercompanyLaboratory
    
    Hospital
    
    Corporate
    
    Eliminations
    
    TotalAt September 30, 2004Total assets
    
    $
    135,207
    
    
    $
    502,682
    
    
    $
    85,849
    
    
    $
    
    
    
    $
    723,738At December 31, 2003Total assets
    
    $
    130,799
    
    
    $
    374,940
    
    
    $
    49,064
    
    
    $
    
    
    
    $
    554,803
 Below is a reconciliation between total segment operating income after
eliminations and consolidated income before provision for income taxes as
reported on the condensed, consolidated income statements (in thousands): Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003Total segment operating income after eliminations
    
    $
    36,756
    
    
    $
    31,241
    
    
    $
    105,788
    
    
    $
    87,982Interest expense, net
    
    
    6,629
    
    
    
    6,361
    
    
    
    18,712
    
    
    
    19,771Debt retirement costs
    
    
    
    
    
    
    1,701
    
    
    
    810
    
    
    
    9,118Other (income) expense
    
    
    (9
    )
    
    
    (129
    )
    
    
    (185
    )
    
    
    129Minority interest expense
    
    
    746
    
    
    
    456
    
    
    
    1,917
    
    
    
    1,279Income before provision for income taxes
    
    $
    29,390
    
    
    $
    22,852
    
    
    $
    84,534
    
    
    $
    57,685
 9. Financing Transactions On June 1, 2004, the Company amended and restated its Credit and Guaranty
Agreement to replace its existing senior term D notes in the principal amount
of $145.3 million with an interest rate margin of 2.50% with new senior term E
notes in the principal amount of $225.0 million with an interest rate margin of
2.25%. The Company used the additional borrowings to fund the NPC merger as
detailed above in Footnote 2. Acquisitions and plans to use the remaining
borrowings for related merger costs and general corporate purposes. The
Company incurred debt retirement costs of $810,000 as a result of amending and
restating its Credit and Guaranty Agreement. These debt retirement costs
consisted of $142,000 for the write-off of existing deferred financing costs
related to the senior term D notes and $668,000 for costs incurred related to
the new senior term E notes. In August 2003, the Company refinanced its Credit and Guaranty Agreement to replace its
existing senior term C notes in the principal amount of
$166.4 million with an interest rate margin of 3.00% with
$20.0 million of cash on-hand and new senior term D notes
in the principal amount of $146.4 million with an interest rate margin of 2.50%. In conjunction with that transaction, the Company
recorded debt retirement costs of $1.7 million. In February 2003, the Company sold 3.8 million shares of its common stock
in exchange for net proceeds of $54.3 million. The Company used $42.7 million
of the net proceeds to voluntarily retire the remaining principal amount
outstanding of its 15.5% senior notes due 2010 at a price of 110% of the
principal amount plus accrued and unpaid interest. As a result of the debt
retirement the Company incurred debt retirement costs of $7.4 million. 12




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##### Table of Contents



10. Stock-Based Compensation The Company has granted stock options to various employees under multiple
stock option plans and is accounting for those options under the intrinsic
value method as prescribed in Accounting Principles Board Opinion No. 25,
Accounting for Stock Issued to Employees. Under that method, when options are
issued with a strike price equal to or greater than market price on date of
issuance, there is no impact on earnings either on the date of issuance or
thereafter, absent modification to the options. This method is not a
fair-value-based method of accounting as defined by Statements of Financial
Accounting Standards (SFAS) No. 123, Accounting for Stock-Based Compensation.
Fair-value-based methods of accounting require compensation expense to be
recognized based on the fair market value of the options granted over their
vesting period. The following table presents net income and earnings per
common share for the three and nine months ended September 30, 2004 and 2003 as
if the Company accounted for its stock options under SFAS No. 123 and the
fair-value-based method of accounting (in thousands, except per share amounts): Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003As reported
    
    $
    17,344
    
    
    $
    13,489
    
    
    $
    50,255
    
    
    $
    34,022Deduct: Total stock-based employee compensation
expense determined under fair-value-based
method for all awards, net of related tax effects
    
    
    (484
    )
    
    
    (216
    )
    
    
    (1,246
    )
    
    
    (644
    )Pro forma net income available to common stockholders
    
    $
    16,860
    
    
    $
    13,273
    
    
    $
    49,009
    
    
    $
    33,378Earnings per common share:Basic  as reported
    
    $
    0.21
    
    
    $
    0.17
    
    
    $
    0.62
    
    
    $
    0.42Basic  pro forma
    
    $
    0.21
    
    
    $
    0.16
    
    
    $
    0.60
    
    
    $
    0.42Diluted  as reported
    
    $
    0.21
    
    
    $
    0.16
    
    
    $
    0.60
    
    
    $
    0.42Diluted  pro forma
    
    $
    0.20
    
    
    $
    0.16
    
    
    $
    0.59
    
    
    $
    0.41
 11. Reclassifications Certain 2003 balances have been reclassified to conform to the 2004
financial statement presentation. The most significant of these changes was
the reclassification of depreciation and amortization into direct costs and
selling, general and administrative expense. 12. Condensed, Consolidating Information The Company has a legal structure comprised of a holding company and an
operating company. VCA is the holding company. Vicar Operating, Inc.
(Vicar) is the operating company and wholly-owned by VCA. Vicar owns the
capital stock of all of the Companys subsidiaries. In connection with Vicars issuance in November 2001 of $170.0 million of
9.875% senior subordinated notes, VCA and each existing and future domestic
wholly-owned restricted subsidiary of Vicar (the Guarantor Subsidiaries)
have, jointly and severally, fully and unconditionally guaranteed the 9.875%
senior subordinated notes. These guarantees are unsecured and subordinated in
right of payment to all existing and future indebtedness outstanding under the
Credit and Guaranty Agreement and any other indebtedness permitted to be
incurred by Vicar under the terms of the indenture agreement for the 9.875%
senior subordinated notes. Vicars subsidiaries are composed of wholly-owned restricted subsidiaries
and partnerships. The partnerships may elect to serve as guarantors of Vicars
obligations, however, none of the partnerships have elected to do so (the
Non-Guarantor Subsidiaries). Vicar conducts all of its business through and
derives virtually all of its income from its subsidiaries. Therefore, Vicars
ability to make required payments with respect to its indebtedness
(including the 9.875% senior subordinated notes) and other obligations
depends on the financial results and condition of its subsidiaries and its
ability to receive funds from its subsidiaries. 13




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##### Table of Contents



Pursuant to Rule 3-10 of Regulation S-X, the following condensed,
consolidating information is for VCA, Vicar, the Guarantor Subsidiaries and the
Non-Guarantor Subsidiaries with respect to the 9.875% senior subordinated
notes. This condensed financial information has been prepared from the books
and records maintained by VCA, Vicar, the Guarantor Subsidiaries and the
Non-Guarantor Subsidiaries. The condensed financial information may not
necessarily be indicative of results of operations or financial position had
the Guarantor Subsidiaries and the Non-Guarantor Subsidiaries operated as
independent entities. The separate financial statements of the Guarantor
Subsidiaries are not presented because management has determined they would not
be material to investors. 14




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##### Table of Contents



VCA ANTECH, INC. AND SUBSIDIARIES
NOTES TO CONDENSED, CONSOLIDATED FINANCIAL STATEMENTS  (Continued) CONDENSED, CONSOLIDATING BALANCE SHEETS
As of September 30, 2004
(Unaudited)
(In thousands) Non-Guarantor
    
    GuarantorVCA
    
    Vicar
    
    Subsidiaries
    
    Subsidiaries
    
    Elimination
    
    ConsolidatedCurrent assets:Cash and cash equivalents
    
    $
    
    
    
    $
    48,390
    
    
    $
    2,366
    
    
    $
    78
    
    
    $
    
    
    
    $
    50,834Trade accounts receivable, net
    
    
    
    
    
    
    9
    
    
    
    25,089
    
    
    
    667
    
    
    
    
    
    
    
    25,765Inventory, prepaid expenses and other
    
    
    
    
    
    
    3,729
    
    
    
    6,715
    
    
    
    694
    
    
    
    
    
    
    
    11,138Deferred income taxes
    
    
    
    
    
    
    12,921
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    12,921Prepaid income taxes
    
    
    
    
    
    
    8,368
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    8,368Total current assets
    
    
    
    
    
    
    73,417
    
    
    
    34,170
    
    
    
    1,439
    
    
    
    
    
    
    
    109,026Property and equipment, net
    
    
    
    
    
    
    6,404
    
    
    
    106,130
    
    
    
    2,449
    
    
    
    
    
    
    
    114,983Other assets:Goodwill
    
    
    
    
    
    
    
    
    
    
    449,751
    
    
    
    31,325
    
    
    
    
    
    
    
    481,076Other intangible assets, net
    
    
    
    
    
    
    
    
    
    
    6,966
    
    
    
    750
    
    
    
    
    
    
    
    7,716Deferred financing costs, net
    
    
    
    
    
    
    4,037
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    4,037Other
    
    
    29
    
    
    
    1,962
    
    
    
    3,740
    
    
    
    2,786
    
    
    
    (1,617
    )
    
    
    6,900Investment in subsidiaries
    
    
    253,638
    
    
    
    386,786
    
    
    
    32,435
    
    
    
    
    
    
    
    (672,859
    )
    
    
    Total assets
    
    $
    253,667
    
    
    $
    472,606
    
    
    $
    633,192
    
    
    $
    38,749
    
    
    $
    (674,476
    )
    
    $
    723,738Current liabilities:Current portion of long-term obligations
    
    $
    
    
    
    $
    2,522
    
    
    $
    1,091
    
    
    $
    202
    
    
    $
    (202
    )
    
    $
    3,613Accounts payable
    
    
    
    
    
    
    9,960
    
    
    
    2,651
    
    
    
    
    
    
    
    
    
    
    
    12,611Accrued payroll and related liabilities
    
    
    
    
    
    
    12,284
    
    
    
    7,454
    
    
    
    381
    
    
    
    
    
    
    
    20,119Accrued interest
    
    
    
    
    
    
    5,621
    
    
    
    141
    
    
    
    
    
    
    
    
    
    
    
    5,762Other accrued liabilities
    
    
    
    
    
    
    14,180
    
    
    
    4,176
    
    
    
    
    
    
    
    
    
    
    
    18,356Total current liabilities
    
    
    
    
    
    
    44,567
    
    
    
    15,513
    
    
    
    583
    
    
    
    (202
    )
    
    
    60,461Long-term obligations, less current portion
    
    
    
    
    
    
    393,214
    
    
    
    2,242
    
    
    
    
    
    
    
    (1,415
    )
    
    
    394,041Deferred income taxes
    
    
    
    
    
    
    30,485
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    30,485Other liabilities
    
    
    
    
    
    
    3,544
    
    
    
    7,679
    
    
    
    
    
    
    
    
    
    
    
    11,223Intercompany payable/(receivable)
    
    
    35,336
    
    
    
    (252,842
    )
    
    
    220,972
    
    
    
    (3,466
    )
    
    
    
    
    
    
    Minority interest
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    9,197
    
    
    
    9,197Preferred stock
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Stockholders equity:Common stock
    
    
    82
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    82Additional paid-in capital
    
    
    250,174
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    250,174Accumulated equity (deficit)
    
    
    (32,076
    )
    
    
    253,477
    
    
    
    386,786
    
    
    
    41,632
    
    
    
    (681,895
    )
    
    
    (32,076
    )Accumulated other comprehensive income
    
    
    161
    
    
    
    161
    
    
    
    
    
    
    
    
    
    
    
    (161
    )
    
    
    161Notes receivable from stockholders
    
    
    (10
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (10
    )Total stockholders equity
    
    
    218,331
    
    
    
    253,638
    
    
    
    386,786
    
    
    
    41,632
    
    
    
    (682,056
    )
    
    
    218,331Total liabilities and stockholders equity
    
    $
    253,667
    
    
    $
    472,606
    
    
    $
    633,192
    
    
    $
    38,749
    
    
    $
    (674,476
    )
    
    $
    723,738
 15




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##### Table of Contents



VCA ANTECH, INC. AND SUBSIDIARIES
NOTES TO CONDENSED, CONSOLIDATED FINANCIAL STATEMENTS  (Continued) CONDENSED, CONSOLIDATING BALANCE SHEETS
As of December 31, 2003
(In thousands) Non-Guarantor
    
    GuarantorVCA
    
    Vicar
    
    Subsidiaries
    
    Subsidiaries
    
    Elimination
    
    ConsolidatedCurrent assets:Cash and cash equivalents
    
    $
    
    
    
    $
    14,883
    
    
    $
    2,244
    
    
    $
    110
    
    
    $
    
    
    
    $
    17,237Trade accounts receivable, net
    
    
    
    
    
    
    6
    
    
    
    21,790
    
    
    
    539
    
    
    
    
    
    
    
    22,335Inventory, prepaid expenses and other
    
    
    
    
    
    
    2,607
    
    
    
    6,228
    
    
    
    597
    
    
    
    
    
    
    
    9,432Deferred income taxes
    
    
    
    
    
    
    11,040
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    11,040Prepaid income taxes
    
    
    
    
    
    
    7,266
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    7,266Total current assets
    
    
    
    
    
    
    35,802
    
    
    
    30,262
    
    
    
    1,246
    
    
    
    
    
    
    
    67,310Property and equipment, net
    
    
    
    
    
    
    6,692
    
    
    
    90,933
    
    
    
    1,536
    
    
    
    
    
    
    
    99,161Other assets:Goodwill
    
    
    
    
    
    
    
    
    
    
    351,130
    
    
    
    22,108
    
    
    
    
    
    
    
    373,238Other intangible assets, net
    
    
    
    
    
    
    
    
    
    
    4,116
    
    
    
    576
    
    
    
    
    
    
    
    4,692Deferred financing costs, net
    
    
    
    
    
    
    4,601
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    4,601Other
    
    
    30
    
    
    
    1,939
    
    
    
    2,451
    
    
    
    2,296
    
    
    
    (915
    )
    
    
    5,801Investment in subsidiaries
    
    
    203,141
    
    
    
    313,565
    
    
    
    25,109
    
    
    
    
    
    
    
    (541,815
    )
    
    
    Total assets
    
    $
    203,171
    
    
    $
    362,599
    
    
    $
    504,001
    
    
    $
    27,762
    
    
    $
    (542,730
    )
    
    $
    554,803Current liabilities:Current portion of long-term obligations
    
    $
    
    
    
    $
    1,544
    
    
    $
    859
    
    
    $
    
    
    
    $
    
    
    
    $
    2,403Accounts payable
    
    
    
    
    
    
    7,295
    
    
    
    1,913
    
    
    
    
    
    
    
    
    
    
    
    9,208Accrued payroll and related liabilities
    
    
    
    
    
    
    7,837
    
    
    
    7,541
    
    
    
    338
    
    
    
    
    
    
    
    15,716Accrued interest
    
    
    
    
    
    
    1,517
    
    
    
    16
    
    
    
    5
    
    
    
    
    
    
    
    1,538Other accrued liabilities
    
    
    
    
    
    
    10,590
    
    
    
    4,423
    
    
    
    (7
    )
    
    
    
    
    
    
    15,006Total current liabilities
    
    
    
    
    
    
    28,783
    
    
    
    14,752
    
    
    
    336
    
    
    
    
    
    
    
    43,871Long-term obligations, less current portion
    
    
    
    
    
    
    314,451
    
    
    
    1,530
    
    
    
    
    
    
    
    (915
    )
    
    
    315,066Deferred income taxes
    
    
    
    
    
    
    24,532
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    24,532Other liabilities
    
    
    
    
    
    
    3,216
    
    
    
    2,176
    
    
    
    
    
    
    
    
    
    
    
    5,392Intercompany payable/(receivable)
    
    
    41,248
    
    
    
    (211,524
    )
    
    
    171,978
    
    
    
    (1,702
    )
    
    
    
    
    
    
    Minority interest
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    4,019
    
    
    
    4,019Preferred stock
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Stockholders equity:Common stock
    
    
    81
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    81Additional paid-in capital
    
    
    244,271
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    244,271Accumulated equity (deficit)
    
    
    (82,331
    )
    
    
    203,223
    
    
    
    313,565
    
    
    
    29,128
    
    
    
    (545,916
    )
    
    
    (82,331
    )Accumulated other comprehensive loss
    
    
    (82
    )
    
    
    (82
    )
    
    
    
    
    
    
    
    
    
    
    82
    
    
    
    (82
    )Notes receivable from stockholders
    
    
    (16
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (16
    )Total stockholders equity
    
    
    161,923
    
    
    
    203,141
    
    
    
    313,565
    
    
    
    29,128
    
    
    
    (545,834
    )
    
    
    161,923Total liabilities and stockholders equity
    
    $
    203,171
    
    
    $
    362,599
    
    
    $
    504,001
    
    
    $
    27,762
    
    
    $
    (542,730
    )
    
    $
    554,803
 16




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##### Table of Contents



VCA ANTECH, INC. AND SUBSIDIARIES
NOTES TO CONDENSED, CONSOLIDATED FINANCIAL STATEMENTS  (Continued) CONDENSED, CONSOLIDATING INCOME STATEMENTS
For the Three Months Ended September 30, 2004
(Unaudited)
(In thousands) Non-Guarantor
    
    GuarantorVCA
    
    Vicar
    
    Subsidiaries
    
    Subsidiaries
    
    Elimination
    
    ConsolidatedRevenue
    
    $
    
    
    
    $
    
    
    
    $
    168,974
    
    
    $
    14,844
    
    
    $
    (466
    )
    
    $
    183,352Direct costs
    
    
    
    
    
    
    
    
    
    
    122,450
    
    
    
    11,587
    
    
    
    (466
    )
    
    
    133,571Gross profit
    
    
    
    
    
    
    
    
    
    
    46,524
    
    
    
    3,257
    
    
    
    
    
    
    
    49,781Selling, general and administrative
    
    
    
    
    
    
    6,478
    
    
    
    6,050
    
    
    
    509
    
    
    
    
    
    
    
    13,037Loss on sale of assets
    
    
    
    
    
    
    
    
    
    
    (11
    )
    
    
    (1
    )
    
    
    
    
    
    
    (12
    )Operating income (loss)
    
    
    
    
    
    
    (6,478
    )
    
    
    40,485
    
    
    
    2,749
    
    
    
    
    
    
    
    36,756Interest expense, net
    
    
    
    
    
    
    6,594
    
    
    
    90
    
    
    
    (55
    )
    
    
    
    
    
    
    6,629Minority interest expense
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    746
    
    
    
    746Other income
    
    
    
    
    
    
    (9
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (9
    )Equity interest in income of subsidiaries
    
    
    17,344
    
    
    
    28,407
    
    
    
    2,058
    
    
    
    
    
    
    
    (47,809
    )
    
    
    Income before provision (benefit)
for income taxes
    
    
    17,344
    
    
    
    15,344
    
    
    
    42,453
    
    
    
    2,804
    
    
    
    (48,555
    )
    
    
    29,390Provision (benefit) for income taxes
    
    
    
    
    
    
    (2,000
    )
    
    
    14,046
    
    
    
    
    
    
    
    
    
    
    
    12,046Net income
    
    $
    17,344
    
    
    $
    17,344
    
    
    $
    28,407
    
    
    $
    2,804
    
    
    $
    (48,555
    )
    
    $
    17,344
 17




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##### Table of Contents



VCA ANTECH, INC. AND SUBSIDIARIES
NOTES TO CONDENSED, CONSOLIDATED FINANCIAL STATEMENTS  (Continued) CONDENSED, CONSOLIDATING INCOME STATEMENTS
For the Three Months Ended September 30, 2003
(Unaudited)
(In thousands) Non-Guarantor
    
    GuarantorVCA
    
    
    
    
    
    Vicar
    
    Subsidiaries
    
    Subsidiaries
    
    Elimination
    
    ConsolidatedRevenue
    
    $
    
    
    
    
    
    
    
    $
    
    
    
    $
    133,089
    
    
    $
    11,044
    
    
    $
    (249
    )
    
    $
    143,884Direct costs
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    94,484
    
    
    
    8,613
    
    
    
    (249
    )
    
    
    102,848Gross profit
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    38,605
    
    
    
    2,431
    
    
    
    
    
    
    
    41,036Selling, general and administrative
    
    
    
    
    
    
    
    
    
    
    3,982
    
    
    
    4,970
    
    
    
    401
    
    
    
    
    
    
    
    9,353Write-down and loss on sale of assets
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    442
    
    
    
    
    
    
    
    
    
    
    
    442Operating income (loss)
    
    
    
    
    
    
    
    
    
    
    (3,982
    )
    
    
    33,193
    
    
    
    2,030
    
    
    
    
    
    
    
    31,241Interest expense, net
    
    
    (2
    )
    
    
    

    
    
    
    6,354
    
    
    
    38
    
    
    
    (29
    )
    
    
    
    
    
    
    6,361Minority interest expense
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    456
    
    
    
    456Debt retirement costs
    
    
    
    
    
    
    
    
    
    
    1,701
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,701Other income
    
    
    
    
    
    
    
    
    
    
    (129
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (129
    )Equity interest in income of subsidiaries
    
    
    13,488
    
    
    
    
    
    
    
    20,541
    
    
    
    1,603
    
    
    
    
    
    
    
    (35,632
    )
    
    
    Income before provision (benefit)
for income taxes
    
    
    13,490
    
    
    
    
    
    
    
    8,633
    
    
    
    34,758
    
    
    
    2,059
    
    
    
    (36,088
    )
    
    
    22,852Provision (benefit) for income taxes
    
    
    1
    
    
    
    
    
    
    
    (4,855
    )
    
    
    14,217
    
    
    
    
    
    
    
    
    
    
    
    9,363Net income
    
    $
    13,489
    
    
    
    
    
    
    $
    13,488
    
    
    $
    20,541
    
    
    $
    2,059
    
    
    $
    (36,088
    )
    
    $
    13,489
 18




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##### Table of Contents



VCA ANTECH, INC. AND SUBSIDIARIES
NOTES TO CONDENSED, CONSOLIDATED FINANCIAL STATEMENTS  (Continued) CONDENSED, CONSOLIDATING INCOME STATEMENTS
For the Nine Months Ended September 30, 2004
(Unaudited)
(In thousands) Non-Guarantor
    
    GuarantorVCA
    
    Vicar
    
    Subsidiaries
    
    Subsidiaries
    
    Elimination
    
    ConsolidatedRevenue
    
    $
    
    
    
    $
    
    
    
    $
    458,552
    
    
    $
    40,238
    
    
    $
    (1,141
    )
    
    $
    497,649Direct costs
    
    
    
    
    
    
    
    
    
    
    327,928
    
    
    
    31,517
    
    
    
    (1,141
    )
    
    
    358,304Gross profit
    
    
    
    
    
    
    
    
    
    
    130,624
    
    
    
    8,721
    
    
    
    
    
    
    
    139,345Selling, general and administrative
    
    
    
    
    
    
    14,777
    
    
    
    17,313
    
    
    
    1,413
    
    
    
    
    
    
    
    33,503Loss (gain) on sale of assets
    
    
    
    
    
    
    
    
    
    
    55
    
    
    
    (1
    )
    
    
    
    
    
    
    54Operating income (loss)
    
    
    
    
    
    
    (14,777
    )
    
    
    113,256
    
    
    
    7,309
    
    
    
    
    
    
    
    105,788Interest expense, net
    
    
    (2
    )
    
    
    18,678
    
    
    
    199
    
    
    
    (163
    )
    
    
    
    
    
    
    18,712Minority interest expense
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,917
    
    
    
    1,917Debt retirement costs
    
    
    
    
    
    
    810
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    810Other income
    
    
    
    
    
    
    (185
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (185
    )Equity interest in income of subsidiaries
    
    
    50,254
    
    
    
    73,221
    
    
    
    5,555
    
    
    
    
    
    
    
    (129,030
    )
    
    
    Income before provision (benefit)
for income taxes
    
    
    50,256
    
    
    
    39,141
    
    
    
    118,612
    
    
    
    7,472
    
    
    
    (130,947
    )
    
    
    84,534Provision (benefit) for income taxes
    
    
    1
    
    
    
    (11,113
    )
    
    
    45,391
    
    
    
    
    
    
    
    
    
    
    
    34,279Net income
    
    $
    50,255
    
    
    $
    50,254
    
    
    $
    73,221
    
    
    $
    7,472
    
    
    $
    (130,947
    )
    
    $
    50,255
 19




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##### Table of Contents



VCA ANTECH, INC. AND SUBSIDIARIES
NOTES TO CONDENSED, CONSOLIDATED FINANCIAL STATEMENTS  (Continued) CONDENSED, CONSOLIDATING INCOME STATEMENTS
For the Nine Months Ended September 30, 2003
(Unaudited)
(In thousands) Non-Guarantor
    
    GuarantorVCA
    
    Vicar
    
    Subsidiaries
    
    Subsidiaries
    
    Elimination
    
    ConsolidatedRevenue
    
    $
    
    
    
    $
    
    
    
    $
    381,388
    
    
    $
    31,560
    
    
    $
    (724
    )
    
    $
    412,224Direct costs
    
    
    
    
    
    
    
    
    
    
    271,368
    
    
    
    24,770
    
    
    
    (724
    )
    
    
    295,414Gross profit
    
    
    
    
    
    
    
    
    
    
    110,020
    
    
    
    6,790
    
    
    
    
    
    
    
    116,810Selling, general and administrative

    
    
    
    
    
    
    12,649
    
    
    
    14,767
    
    
    
    1,130
    
    
    
    
    
    
    
    28,546Write-down and loss (gain) on sale of assets
    
    
    
    
    
    
    (1
    )
    
    
    283
    
    
    
    
    
    
    
    
    
    
    
    282Operating income (loss)
    
    
    
    
    
    
    (12,648
    )
    
    
    94,970
    
    
    
    5,660
    
    
    
    
    
    
    
    87,982Interest expense, net
    
    
    524
    
    
    
    19,247
    
    
    
    104
    
    
    
    (104
    )
    
    
    
    
    
    
    19,771Minority interest expense
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,279
    
    
    
    1,279Debt retirement costs
    
    
    7,417
    
    
    
    1,701
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    9,118Other expense
    
    
    
    
    
    
    129
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    129Equity interest in income of subsidiaries
    
    
    38,707
    
    
    
    58,617
    
    
    
    4,485
    
    
    
    
    
    
    
    (101,809
    )
    
    
    Income before provision (benefit)
for income taxes
    
    
    30,766
    
    
    
    24,892
    
    
    
    99,351
    
    
    
    5,764
    
    
    
    (103,088
    )
    
    
    57,685Provision (benefit) for income taxes
    
    
    (3,256
    )
    
    
    (13,815
    )
    
    
    40,734
    
    
    
    
    
    
    
    
    
    
    
    23,663Net income
    
    $
    34,022
    
    
    $
    38,707
    
    
    $
    58,617
    
    
    $
    5,764
    
    
    $
    (103,088
    )
    
    $
    34,022
 20




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VCA ANTECH, INC. AND SUBSIDIARIES
NOTES TO CONDENSED, CONSOLIDATED FINANCIAL STATEMENTS  (Continued) CONDENSED, CONSOLIDATING STATEMENTS OF CASH FLOWS
For the Nine Months Ended September 30, 2004
(Unaudited)
(In thousands) Non-Guarantor
    
    GuarantorVCA
    
    Vicar
    
    Subsidiaries
    
    Subsidiaries
    
    Elimination
    
    ConsolidatedCash flows from operating activities:Net income
    
    $
    50,255
    
    
    $
    50,254
    
    
    $
    73,221
    
    
    $
    7,472
    
    
    $
    (130,947
    )
    
    $
    50,255Adjustments to reconcile net income to net
cash provided by (used in) operating activities:Equity interest in earnings of subsidiaries
    
    
    (50,254
    )
    
    
    (73,221
    )
    
    
    (5,555
    )
    
    
    
    
    
    
    129,030
    
    
    
    Depreciation and amortization
    
    
    
    
    
    
    1,180
    
    
    
    9,659
    
    
    
    568
    
    
    
    
    
    
    
    11,407Amortization of deferred financing costs
and debt discount
    
    
    
    
    
    
    548
    
    
    
    4
    
    
    
    
    
    
    
    
    
    
    
    552Provision for uncollectible accounts
    
    
    
    
    
    
    
    
    
    
    1,792
    
    
    
    398
    
    
    
    
    
    
    
    2,190Debt retirement costs
    
    
    
    
    
    
    810
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    810Loss (gain) on sale of assets
    
    
    
    
    
    
    
    
    
    
    55
    
    
    
    (1
    )
    
    
    
    
    
    
    54Other
    
    
    
    
    
    
    
    
    
    
    (350
    )
    
    
    
    
    
    
    
    
    
    
    (350
    )Minority interest in income of subsidiaries
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,917
    
    
    
    1,917Distributions to minority interest partners
    
    
    
    
    
    
    (1,505
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (1,505
    )Increase in trade accounts receivable
    
    
    
    
    
    
    (3
    )
    
    
    (4,546
    )
    
    
    (526
    )
    
    
    
    
    
    
    (5,075
    )Decrease (increase) in inventory, prepaid
expenses and other assets
    
    
    
    
    
    
    (870
    )
    
    
    58
    
    
    
    (97
    )
    
    
    
    
    
    
    (909
    )Increase (decrease) in accounts payable and
other accrued liabilities
    
    
    
    
    
    
    6,255
    
    
    
    (4,503
    )
    
    
    7
    
    
    
    
    
    
    
    1,759Increase (decrease) in accrued payroll and
related liabilities
    
    
    
    
    
    
    4,447
    
    
    
    (5,167
    )
    
    
    43
    
    
    
    
    
    
    
    (677
    )Increase (decrease) in accrued interest
    
    
    
    
    
    
    4,104
    
    
    
    8
    
    
    
    (5
    )
    
    
    
    
    
    
    4,107Decrease in prepaid income taxes
    
    
    
    
    
    
    2,369
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    2,369Increase in deferred income tax assets
    
    
    
    
    
    
    (823
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (823
    )Increase in deferred income tax liabilities
    
    
    
    
    
    
    5,654
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    5,654Increase (decrease) in intercompany
payable/(receivable)
    
    
    (2,370
    )
    
    
    71,089
    
    
    
    (60,828
    )
    
    
    (7,891
    )
    
    
    
    
    
    
    Net cash provided by (used in) operating
activities
    
    
    (2,369
    )
    
    
    70,288
    
    
    
    3,848
    
    
    
    (32
    )
    
    
    
    
    
    
    71,735
 21




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##### Table of Contents



VCA ANTECH, INC. AND SUBSIDIARIES
NOTES TO CONDENSED, CONSOLIDATED FINANCIAL STATEMENTS  (Continued) CONDENSED, CONSOLIDATING STATEMENTS OF CASH FLOWS  (Continued)
For the Nine Months Ended September 30, 2004
(Unaudited)
(In thousands) Non-Guarantor
    
    GuarantorVCA
    
    Vicar
    
    Subsidiaries
    
    Subsidiaries
    
    Elimination
    
    ConsolidatedCash flows from investing activities:Business acquisitions, net of cash acquired
    
    $
    
    
    
    $
    (97,152
    )
    
    $
    
    
    
    $
    
    
    
    $
    
    
    
    $
    (97,152
    )Real estate acquired in connection with
business acquisitions
    
    
    
    
    
    
    (5,565
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (5,565
    )Property and equipment additions
    
    
    
    
    
    
    (12,124
    )
    
    
    (3,911
    )
    
    
    
    
    
    
    
    
    
    
    (16,035
    )Proceeds from sale of assets
    
    
    
    
    
    
    182
    
    
    
    2
    
    
    
    
    
    
    
    
    
    
    
    184Other
    
    
    7
    
    
    
    1,363
    
    
    
    183
    
    
    
    
    
    
    
    
    
    
    
    1,553Net cash provided by (used in)
investing activities
    
    
    7
    
    
    
    (113,296
    )
    
    
    (3,726
    )
    
    
    
    
    
    
    
    
    
    
    (117,015
    )Cash flows from financing activities:Repayment of long-term obligations
    
    
    
    
    
    
    (147,691
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (147,691
    )Proceeds from issuance of long-term debt
    
    
    
    
    
    
    225,000
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    225,000Payment of financing costs
    
    
    
    
    
    
    (794
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (794
    )Proceeds from issuance of common
stock under stock option plans
    
    
    2,362
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    2,362Net cash provided by financing activities.
    
    
    2,362
    
    
    
    76,515
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    78,877Increase (decrease) in cash and
cash equivalents
    
    
    
    
    
    
    33,507
    
    
    
    122
    
    
    
    (32
    )
    
    
    
    
    
    
    33,597Cash and cash equivalents at beginning
of period
    
    
    
    
    
    
    14,883
    
    
    
    2,244
    
    
    
    110
    
    
    
    
    
    
    
    17,237Cash and cash equivalents at end of period
    
    $
    
    
    
    $
    48,390
    
    
    $
    2,366
    
    
    $
    78
    
    
    $
    
    
    
    $
    50,834
 22




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##### Table of Contents



VCA ANTECH, INC. AND SUBSIDIARIES
NOTES TO CONDENSED, CONSOLIDATED FINANCIAL STATEMENTS  (Continued) CONDENSED, CONSOLIDATING STATEMENTS OF CASH FLOWS
For the Nine Months Ended September 30, 2003
(Unaudited)
(In thousands) Non-Guarantor
    
    GuarantorVCA
    
    Vicar
    
    Subsidiaries
    
    Subsidiaries
    
    Elimination
    
    ConsolidatedCash flows from operating activities:Net income
    
    $
    34,022
    
    
    $
    38,707
    
    
    $
    58,617
    
    
    $
    5,764
    
    
    $
    (103,088
    )
    
    $
    34,022Adjustments to reconcile net income to net
cash provided by (used in) operating activities:Equity interest in earnings of subsidiaries
    
    
    (38,707
    )
    
    
    (58,617
    )
    
    
    (4,485
    )
    
    
    
    
    
    
    101,809
    
    
    
    Depreciation and amortization
    
    
    
    
    
    
    1,109
    
    
    
    9,070
    
    
    
    474
    
    
    
    
    
    
    
    10,653Amortization of deferred financing costs
and debt discount
    
    
    14
    
    
    
    655
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    669Provision for uncollectible accounts
    
    
    
    
    
    
    
    
    
    
    2,134
    
    
    
    237
    
    
    
    
    
    
    
    2,371Debt retirement costs
    
    
    7,417
    
    
    
    1,701
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    9,118Write-down of assets
    
    
    
    
    
    
    
    
    
    
    392
    
    
    
    
    
    
    
    
    
    
    
    392Gain on sale of assets
    
    
    
    
    
    
    (1
    )
    
    
    (109
    )
    
    
    
    
    
    
    
    
    
    
    (110
    )Minority interest in income of subsidiaries
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,279
    
    
    
    1,279Distributions to minority interest partners.
    
    
    
    
    
    
    (1,245
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (1,245
    )Increase in trade accounts receivable
    
    
    
    
    
    
    (5
    )
    
    
    (4,251
    )
    
    
    (143
    )
    
    
    
    
    
    
    (4,399
    )Decrease (increase) in inventory, prepaid
expenses and other assets
    
    
    108
    
    
    
    100
    
    
    
    (647
    )
    
    
    1
    
    
    
    
    
    
    
    (438
    )Increase (decrease) in accounts payable and
other accrued liabilities
    
    
    
    
    
    
    1,233
    
    
    
    (1,847
    )
    
    
    62
    
    
    
    
    
    
    
    (552
    )Increase (decrease) in accrued payroll and
related liabilities
    
    
    
    
    
    
    2,478
    
    
    
    (1,347
    )
    
    
    (10
    )
    
    
    
    
    
    
    1,121Increase in accrued interest
    
    
    
    
    
    
    4,166
    
    
    
    24
    
    
    
    2
    
    
    
    
    
    
    
    4,192Decrease in prepaid income taxes
    
    
    
    
    
    
    7,614
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    7,614Increase in income taxes payable
    
    
    
    
    
    
    1,232
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,232Increase in deferred income tax assets
    
    
    
    
    
    
    (2,169
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (2,169
    )Increase in deferred income tax liabilities
    
    
    
    
    
    
    3,940
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    3,940Increase (decrease) in intercompany
payable/(receivable)
    
    
    (15,067
    )
    
    
    76,234
    
    
    
    (54,756

    )
    
    
    (6,411
    )
    
    
    
    
    
    
    Net cash provided by (used in) operating
activities
    
    
    (12,213
    )
    
    
    77,132
    
    
    
    2,795
    
    
    
    (24
    )
    
    
    
    
    
    
    67,690
 23




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##### Table of Contents



VCA ANTECH, INC. AND SUBSIDIARIES
NOTES TO CONDENSED, CONSOLIDATED FINANCIAL STATEMENTS  (Continued) CONDENSED, CONSOLIDATING STATEMENTS OF CASH FLOWS  (Continued)
For the Nine Months Ended September 30, 2003
(Unaudited)
(In thousands) Non-Guarantor
    
    GuarantorVCA
    
    Vicar
    
    Subsidiaries
    
    Subsidiaries
    
    Elimination
    
    ConsolidatedCash flows from investing activities:Business acquisitions, net of cash acquired
    
    $
    
    
    
    $
    (27,177
    )
    
    $
    
    
    
    $
    
    
    
    $
    
    
    
    $
    (27,177
    )Real estate acquired in connection with
business acquisitions
    
    
    
    
    
    
    (589
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (589
    )Property and equipment additions
    
    
    
    
    
    
    (8,655
    )
    
    
    (2,385
    )
    
    
    
    
    
    
    
    
    
    
    (11,040
    )Proceeds from sale of assets
    
    
    
    
    
    
    355
    
    
    
    8
    
    
    
    
    
    
    
    
    
    
    
    363Other
    
    
    (5
    )
    
    
    181
    
    
    
    271
    
    
    
    
    
    
    
    
    
    
    
    447Net cash used in investing activities
    
    
    (5
    )
    
    
    (35,885
    )
    
    
    (2,106
    )
    
    
    
    
    
    
    
    
    
    
    (37,996
    )Cash flows from financing activities:Repayment of long-term obligations,
including redemption fees
    
    
    (41,808
    )
    
    
    (168,184
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (209,992
    )Proceeds from the issuance of long-term debt
    
    
    
    
    
    
    146,442
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    146,442Repayment of revolving credit facility
    
    
    
    
    
    
    (7,500
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (7,500
    )Payment of financing costs
    
    
    (382
    )
    
    
    (687
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (1,069
    )Proceeds from issuance of common
stock under stock option plans
    
    
    85
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    85Proceeds from issuance of common stock
    
    
    54,323
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    54,323Net cash provided by (used in) financing
activities
    
    
    12,218
    
    
    
    (29,929
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (17,711
    )Increase (decrease) in cash and
cash equivalents
    
    
    
    
    
    
    11,318
    
    
    
    689
    
    
    
    (24
    )
    
    
    
    
    
    
    11,983Cash and cash equivalents at beginning
of period
    
    
    
    
    
    
    5,083
    
    
    
    1,233
    
    
    
    146
    
    
    
    
    
    
    
    6,462Cash and cash equivalents at end of period
    
    $
    
    
    
    $
    16,401
    
    
    $
    1,922
    
    
    $
    122
    
    
    $
    
    
    
    $
    18,445
 24




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##### Table of Contents



13. Subsequent Events Acquisitions From October 1, 2004 through November 3, 2004, the Company acquired one
animal hospital, which was merged into an existing VCA animal hospital, for an
aggregate consideration of $300,000, consisting of $275,000 in cash and the assumption of liabilities of $25,000. On October 1, 2004, the Company acquired Sound Technologies, Inc. (STI)
for $26.5 million, of which $23.0 million was paid with cash on-hand and the
remaining $3.5 million will be paid in cash subject to STI achieving certain
performance targets. STI is the nations largest supplier of ultrasound and
digital radiology equipment to the veterinary market. 25




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##### Table of Contents



ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS The following discussion should be read in conjunction with our condensed,
consolidated financial statements provided under Part I, Item I of this
quarterly report onForm 10-Q. Certain statements contained herein may
constitute forward-looking statements within the meaning of the Private
Securities Litigation Reform Act of 1995. These statements involve a number or
risks, uncertainties and other factors that could cause actual results to
differ materially, as discussed more fully herein. The forward-looking information set forth in this quarterly report on Form
10-Q is as of November 3, 2004, and we undertake no duty to update this
information. Shareholders and prospective investors can find information filed
with the SEC after November 3, 2004 at our website at
www.investor.vcaantech.com or at the SECs website at www.sec.gov. More
information about potential factors that could affect our business and
financial results is included in the section entitled Risk Factors. Overview We are a leading animal health care services company and operate the
largest networks of veterinary diagnostic laboratories and freestanding,
full-service animal hospitals in the United States. Our network of veterinary
diagnostic laboratories provides sophisticated testing and consulting services
used by veterinarians in the detection, diagnosis, evaluation, monitoring,
treatment and prevention of diseases and other conditions affecting animals.
Our animal hospitals offer a full range of general medical and surgical
services for companion animals. We treat diseases and injuries, offer
pharmaceutical products and perform a variety of pet wellness programs,
including health examinations, diagnostic testing, routine vaccinations,
spaying, neutering and dental care. At September 30, 2004, our laboratory network consisted of 26 laboratories
serving all 50 states and our animal hospital network consisted of 318 animal
hospitals in 36 states. We primarily focus on generating internal growth and
acquiring individual animal hospitals to increase revenue and profitability.
However, we may pursue acquisitions of animal hospital chains, laboratories or
related businesses if favorable opportunities are presented. In accord with
that strategy, we acquired the following companies:  
    
    On June 1, 2004, we acquired National PetCare Centers, Inc., or
NPC, (discussed below), which at the date of acquisition, operated 67
animal hospitals; and  
    
    On October 1, 2004, we acquired Sound Technologies, Inc., or STI,
(discussed below), which is the nations largest supplier of ultrasound
and digital radiology equipment to the veterinary market. Significant Acquisitions National PetCare Centers, Inc. On June 1, 2004, the Company consummated a merger with NPC, which operated
67 animal hospitals located in 11 states as of the merger date. This merger
allowed us to expand our animal hospital operations in nine states,
particularly California and Texas, and to expand into two new states, Oregon
and Oklahoma. As of September 30, 2004, we had not finalized the purchase price
accounting for the transaction. The total consideration as of
September 30, 2004 was $91.5 million,
consisting of $66.2 million in cash paid to holders of NPC stock and debt; $2.5
million in assumed debt; $12.8 million in assumed liabilities; $5.9 million of
operating leases whose terms were in excess of market; $2.0 million paid for
professional and other outside services; and $2.1 million paid as part of the
Companys plan to close certain facilities and terminate certain employees. As part of our integration plan, we have closed NPCs corporate office
and intend to close or sell animal hospitals that do not meet our operating
model and eliminate NPCs employees with duplicative functions. We have
commenced these activities but, as of September 30, 2004, had not yet
determined the total related costs. Costs incurred in connection with the
integration plan, consisting primarily of lease termination costs and employee
severance costs, will result in additions to the total purchase price of the
transaction. 26




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##### Table of Contents



During the three and nine months ended September 30, 2004, we incurred
other integration costs of $668,000 and $1.2 million. The integration process
is substantially complete and we do not expect to incur any additional
material integration costs during the remainder of 2004. These
integration costs are expensed as incurred and included in corporate selling,
general and administrative expense. The gross profit margins for NPCs animal hospitals have been historically
lower than the gross profit margins for animal hospitals which we have acquired
and fully integrated into our operations. As a result, we expect the
integration of NPC to lower our animal hospital margins. We believe
that the gross profit margins for NPCs animal hospitals will improve
as we fully
integrate their operations and we fully realize operating efficiencies. Sound Technologies, Inc. On October 1, 2004, we acquired STI, which is the nations largest
supplier of ultrasound and digital radiology equipment to the veterinary
market. The current trend in the veterinary market is toward more advanced
diagnostic tools, and STI offers state-of-the-art integrated diagnostic imaging
solutions. STI is also a value-added reseller of ultrasound machines for
General Electric. We believe that improving the diagnostic capabilities of our
animal hospitals and expanding our laboratory operations into advanced imaging
diagnostics is a natural extension of our operations and long-term goals. We have not finalized the purchase price accounting for this transaction,
however, we acquired STI for $26.5 million, of which $23.0 million was paid
with cash on-hand and the remaining $3.5 million will be paid in cash subject
to STI achieving certain performance targets. Growth in Facilities The following table summarizes our growth in facilities: Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003Laboratories:Beginning of period
    
    
    25
    
    
    
    23
    
    
    
    23
    
    
    
    19Acquisitions
    
    
    
    
    
    
    1
    
    
    
    
    
    
    
    7New facilities
    
    
    1
    
    
    
    
    
    
    
    3
    
    
    
    Acquisitions relocated into other labs operated by us
    
    
    
    
    
    
    (1
    )
    
    
    
    
    
    
    (3
    )End of period
    
    
    26
    
    
    
    23
    
    
    
    26
    
    
    
    23Animal hospitals:Beginning of period
    
    
    317
    
    
    
    238
    
    
    
    241
    
    
    
    229Acquisitions
    
    
    2
    
    
    
    3
    
    
    
    84
    
    
    
    19New facilities
    
    
    1
    
    
    
    
    
    
    
    1
    
    
    
    Acquisitions relocated into hospitals operated by us
    
    
    (1
    )
    
    
    
    
    
    
    (4
    )
    
    
    (5
    )Sold or closed
    
    
    (1
    )
    
    
    
    
    
    
    (4
    )
    
    
    (2
    )End of period
    
    
    318
    
    
    
    241
    
    
    
    318
    
    
    
    241
 Stock Dividend On August 25, 2004, we effected a two-for-one stock split in the form of a
100% stock dividend payable to stockholders of record as of August 11, 2004.
All share and per share information included in this document have been
restated to reflect the effect of the stock dividend. 27




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##### Table of Contents



Reclassifications During 2004, we began including depreciation and amortization in direct
costs and selling, general and administrative expense. Prior periods presented
have been reclassified to reflect this change. Adoption of FIN No. 46R We adopted Financial Accounting Standards Board, FASB, Interpretation No.
46R, or FIN No. 46R, Consolidation of Variable Interest Entities, in the fourth
quarter of 2003 and accordingly, restated the prior periods to conform to the
current period presentation. Pursuant to FIN No. 46R, we consolidate the
operating results of the veterinary medical groups for which we provide
management services. The result of the consolidation is an increase in both
revenue and direct costs by an equal amount, thus there is no impact on
operating income, net income, earnings per share or cash flows. However,
hospital and consolidated operating margins are lower than our historical
reported margins because of the increase in revenue without a corresponding
increase in operating income or net income. Basis of Reporting General Our discussion and analysis of our financial condition and results of
operations are based upon our unaudited condensed, consolidated financial
statements, which have been prepared in accordance with generally accepted
accounting principles in the United States of America, or GAAP. We report our
operations in three segments: laboratory, animal hospital and corporate. The preparation of these financial statements requires us to make
estimates and judgments that affect the reported amounts of assets,
liabilities, revenue and expense, and related disclosure of contingent assets
and liabilities. We evaluate our estimates on an on-going basis. We base our
estimates on historical experience and on various other assumptions that are
believed to be reasonable under the circumstances. Our estimates form the
basis for making judgments about the carrying values of assets and liabilities.
Actual results may differ from these estimates due to changes in future
conditions. Revenue Recognition We recognize revenue only after the following criteria are met:  
    
    there exists adequate evidence of the transaction;  
    
    delivery of goods has occurred or services have been rendered; and  
    
    the price is not contingent on future activity and collectibility is reasonably assured. We report our revenue net of sales discounts. Laboratory Revenue Laboratory internal revenue growth was calculated using laboratory revenue
as reported, adjusted to exclude revenue for the newly acquired laboratories
that we did not own for the entire period presented and adjusted for the impact
resulting from any differences in the number of billing days in comparable
periods. Approximately 7% of laboratory revenue for the nine months ended September
30, 2004 is intercompany revenue that was generated by providing laboratory
services to our animal hospitals. For purposes of reviewing the operating
performance of the business segments, all intercompany revenue is accounted for
as if the transaction was with an independent third-party at current market
prices. For financial reporting purposes, intercompany revenue is eliminated
as part of our consolidation. We give discounts, such as those for prompt payment, to clients in periods
subsequent to the period the related revenue was recognized, however, we report
the related revenue net of those discounts. In order to net the discounts 28




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##### Table of Contents



against the related revenue, we estimate the discounts based on historical
experience. We do not expect that revisions to these discounts would have a
material effect on our condensed, consolidated financial statements. Animal Hospital Revenue Certain states prohibit business corporations from providing, or holding
themselves out as providers of, veterinary medical care. In these states, we
provide administrative and support services to veterinary medical groups
pursuant to management agreements. The veterinary medical groups are each
solely responsible for all aspects of the practice of veterinary medicine. In
return for our services, the veterinary medical groups pay us management fees.
We consolidate the financial results of these veterinary medical groups. Same-store revenue growth includes revenue generated by customers referred
from our relocated or combined animal hospitals, including those combined upon
acquisition and adjusted for the impact resulting from any differences in the
number of business days in comparable periods. Direct Costs Laboratory direct costs are comprised of all costs of laboratory services,
including salaries of veterinarians, specialists, technicians and other
non-administrative, laboratory-based personnel, facilities rent, occupancy
costs, depreciation and amortization, and supply costs. Animal hospital direct costs are comprised of all costs of services and
products at the animal hospitals, including salaries of veterinarians,
technicians and all other animal hospital-based personnel, facilities rent,
occupancy costs, supply costs, depreciation and amortization, certain marketing
and promotional expense and costs of goods sold associated with the retail
sales of pet food and pet supplies. Selling, General and Administrative Expense Our selling, general and administrative expense is divided between our
laboratory, animal hospital and corporate segments. Laboratory selling,
general and administrative expense consists primarily of salary-related sales,
administrative, accounting personnel, selling, marketing and promotional
expense. Animal hospital selling, general and administrative expense consists
primarily of field management, certain administrative and accounting personnel,
recruiting and certain marketing expense. Corporate selling, general and
administrative expense consists of administrative expense at our headquarters,
including the salaries of corporate officers, rent, accounting, finance, legal
and other professional expense and occupancy costs as well as corporate
depreciation. Software Development Costs We frequently develop and implement new software to be used internally, or
enhance our existing internal software. We develop the software using our own
employees and/or outside consultants. Costs associated with the development of
new software are expensed as incurred. Costs related directly to the software
design, coding, testing and installation are capitalized and amortized over the
expected life of the software, generally three years. Costs related to
upgrades or enhancements of existing systems are capitalized if the
modifications result in additional functionality. Critical Accounting Policies and Significant Estimates We are required to make significant accounting estimates that directly
impact our consolidated financial statements and related disclosures.
Significant estimates are estimates that meet two criteria: (1) the estimates
require that we make assumptions about matters that are highly uncertain at the
time the estimates are made; and (2) there exist different estimates that could
reasonably be used in the current period, or changes in the estimates used are
reasonably likely to occur from period to period, both of which would have a
material impact on the presentation of the financial condition or results of
operations. We base our assumptions and estimates on historical experience and
on various other factors believed to be reasonable under the circumstances. We
have discussed with our audit committee the critical accounting policies for
our company, the basis for their underlying assumptions and estimates and the
nature of our related disclosures herein. We believe the critical accounting
policies for our company that are most affected by significant estimates and
judgments are as follows: 29




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##### Table of Contents



Workers Compensation Expense Workers compensation expense is the cost to insure our company against
losses related to injuries incurred by our employees in the normal course of
their duties. In 2001, we restructured our workers compensation insurance
policies to a self-insurance retention program. The effect of this
restructuring was a shift of the significant portion of the financial risk
associated with claims losses from the insurance company to our company, while
the insurance company bears only the financial risk of large individual losses
and large aggregate losses. We estimate the amount that we will ultimately pay for losses associated
with workers compensation claims, or claims losses for the policy period.
These estimated claims losses are recorded as expense during the policy period.
Claims losses can vary substantially and, because they can take years to
develop fully, can be difficult to estimate. These estimates are based on
complex judgments regarding the probable number of claims that will be filed
and the nature of those claims. Both of those variables are highly uncertain
and combine to form a factor referred to as the loss pick. The loss pick
factor is multiplied by our payroll cost to determine what the projected costs
for claims and our related expense will be. We estimate the loss pick by reviewing a minimum of five years of our
historical claims loss data and analyzing the trend of the development of
claims over time. We also review and adjust the loss pick for other major
factors such as the risk control environment and claims handling. We review
our loss pick on a quarterly basis considering the current loss trend and any
changes in the environment as indicated above. The loss pick is then applied
to our actual payroll costs to estimate the claims loss portion of our workers
compensation expense for the given period. Our insurance carriers require us to pre-fund claims at a certain loss
pick (the low-end in the following table), and give us a maximum loss pick
(the high-end in the following table), above which the carrier is responsible
for paying all claims. The ranges set forth by the insurance carrier reflect
the most probable potential for our workers compensation claims losses. The
increase in the insurance carriers range reflects the trend over the last
several years toward increasing workers compensation costs. Based on these
ranges, and the factors described above, we estimated our losses using a loss
pick of 2.10% for the policy years ended September 30, 2004 and 2003. The
increase in our loss pick reflects an increase in our claims loss trend during
the previous years. The following table reflects the loss pick percentages and total estimated
claims expense recorded by us and the probable ranges for the ultimate realized
loss picks and claims expense (in thousands): Claims Expense
    
    Estimated Claims Expense RangeRecorded
    
    Low-End
    
    High-EndPayroll
    
    %
    
    $
    
    %
    
    $
    
    %
    
    $Policy year ended 9/30/04
    
    $
    218,476
    
    
    
    2.10
    %
    
    $
    4,588
    
    
    
    1.53
    %
    
    $
    3,343
    
    
    
    2.82
    %
    
    $
    6,154Policy year ended 9/30/03
    
    
    185,907
    
    
    
    2.10
    %
    
    
    3,904
    
    
    
    1.59
    %
    
    
    2,931
    
    
    
    2.55
    %
    
    
    4,741Policy year ended 9/30/02
    
    
    169,022
    
    
    
    2.04
    %
    
    
    3,441
    
    
    
    1.54
    %
    
    
    2,603
    
    
    
    2.49
    %
    
    
    4,208Total
    
    $
    573,405
    
    
    
    2.08
    %
    
    $
    11,933
    
    
    
    1.55
    %
    
    $
    8,877
    
    
    
    2.63
    %
    
    $
    15,103
 We recognize the claims expense as part of the overall workers
compensation expense in direct costs and selling, general and administrative
expense of our segments, based on their respective payroll cost and the loss
pick percentage discussed and shown above, to calculate the claims loss portion
of the expense. The difference between the minimum amount of claims losses
pre-funded to the insurance carrier and the amount expensed is accrued and
included in other accrued liabilities. If our estimates prove to be incorrect
as the losses develop over several years, we may have to adjust the accrual
accordingly, and also may have to either pay additional claims losses or
receive refunds from our insurance carriers. This could result in a need for
us to recognize additional expense or have expense reduced in future periods
within the range shown above. The insurance policies in place prior to September 30, 2001 did not have
large deductibles, and we have accrued for exposure under these
policies. 30




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##### Table of Contents



In
connection with the NPC merger, we assumed additional workers
compensation claim liabilities in the amount of $1.1 million, related to
self-insurance retention policies for four policy years. We reviewed policy
terms, claims history and current claims status for each policy to determine
that the assumed liability is adequate. Valuation of Goodwill Our goodwill represents the excess of the cost of an acquired entity over
the net of the amounts assigned to identifiable assets acquired and liabilities
assumed. The total amount of our goodwill at September 30, 2004 was $481.1
million, consisting of $93.7 million for our laboratory operating segment and
$387.4 million for our animal hospital operating segment. Annually, and upon material changes in our operating environment, we test
our goodwill for impairment by comparing the fair market value of our reporting
units, which equate to our laboratory and animal hospital operating segments,
to their respective net book value. At December 31, 2003, we estimated the
fair market value of each of our operating segments and determined that the
estimated fair value of each exceeded their respective net book value,
resulting in a conclusion that our goodwill was fairly stated. We will review our goodwill for impairment again at December 31, 2004 or
upon material changes in our operating environment. Allowance for Uncollectible Accounts The allowance for uncollectible accounts is estimated based primarily upon
age of accounts receivable and loss history. Accounts receivable balances are
routinely reviewed in conjunction with collection efforts, historical
collection rates and other economic conditions that might ultimately affect the
collectibility of accounts when considering the adequacy of the amounts
recorded as allowance for uncollectible accounts. Significant changes in
client mix or economic conditions could affect our collection of accounts
receivable, cash flows and results of operations. 31




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##### Table of Contents



Results of Operations The following table sets forth components of our income statements
expressed as a percentage of revenue: Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003(Restated)
    
    
    
    
    
    (Restated)Revenue:Laboratory
    
    
    27.6
    %
    
    
    32.3
    %
    
    
    30.5
    %
    
    
    32.7
    %Animal hospital
    
    
    74.4
    
    
    
    69.5
    
    
    
    71.5
    
    
    
    69.2Intercompany
    
    
    (2.0
    )
    
    
    (1.8
    )
    
    
    (2.0
    )
    
    
    (1.9
    )Total revenue
    
    
    100.0
    
    
    
    100.0
    
    
    
    100.0
    
    
    
    100.0Direct costs
    
    
    72.8
    
    
    
    71.5
    
    
    
    72.0
    
    
    
    71.7Gross profit
    
    
    27.2
    
    
    
    28.5
    
    
    
    28.0
    
    
    
    28.3Selling, general and administrative
    
    
    7.1
    
    
    
    6.5
    
    
    
    6.7
    
    
    
    6.9Loss (gain) on sale of assets
    
    
    0.1
    
    
    
    0.3
    
    
    
    
    
    
    
    0.1Operating income
    
    
    20.0
    
    
    
    21.7
    
    
    
    21.3
    
    
    
    21.3Interest expense, net
    
    
    3.6
    
    
    
    4.4
    
    
    
    3.8
    
    
    
    4.8Debt retirement costs
    
    
    
    
    
    
    1.2
    
    
    
    0.2
    
    
    
    2.2Other (income) expense
    
    
    
    
    
    
    (0.1
    )
    
    
    (0.1
    )
    
    
    Minority interest expense
    
    
    0.4
    
    
    
    0.3
    
    
    
    0.4
    
    
    
    0.3Income before provision for income taxes
    
    
    16.0
    
    
    
    15.9
    
    
    
    17.0
    
    
    
    14.0Provision for income taxes
    
    
    6.5
    
    
    
    6.5
    
    
    
    6.9
    
    
    
    5.7Net income
    
    
    9.5
    %
    
    
    9.4
    %
    
    
    10.1
    %
    
    
    8.3
    %
 32




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##### Table of Contents



The following is a summary of the components of operating income (loss)
and operating margin by segment (in thousands): Inter-Animal
    
    
    
    
    
    companyLaboratory
    
    Hospital
    
    Corporate
    
    Eliminations
    
    TotalThree Months Ended September 30, 2004Revenue
    
    $
    50,685
    
    
    $
    136,399
    
    
    $
    
    
    
    $
    (3,732
    )
    
    $
    183,352Direct costs
    
    
    28,470
    
    
    
    108,833
    
    
    
    
    
    
    
    (3,732
    )
    
    
    133,571Gross profit
    
    
    22,215
    
    
    
    27,566
    
    
    
    
    
    
    
    
    
    
    
    49,781Selling, general and administrative
    
    
    3,136
    
    
    
    3,423
    
    
    
    6,478
    
    
    
    
    
    
    
    13,037Gain on sale of assets
    
    
    
    
    
    
    (12
    )
    
    
    
    
    
    
    
    
    
    
    (12
    )Operating income (loss)
    
    $
    19,079
    
    
    $
    24,155
    
    
    $
    (6,478
    )
    
    $
    
    
    
    $
    36,756Operating margin
    
    
    37.6
    %
    
    
    17.7
    %
    
    
    (3.5
    )%
    
    
    
    
    
    
    20.0
    %Depreciation and amortization
    
    $
    850
    
    
    $
    2,722
    
    
    $
    400
    
    
    $
    
    
    
    $
    3,972Three Months Ended September 30, 2003Revenue
    
    $
    46,429
    
    
    $
    100,060
    
    
    $
    
    
    
    $
    (2,605
    )
    
    $
    143,884Direct costs
    
    
    26,664
    
    
    
    78,789
    
    
    
    
    
    
    
    (2,605
    )
    
    
    102,848Gross profit
    
    
    19,765
    
    
    
    21,271
    
    
    
    
    
    
    
    
    
    
    
    41,036Selling, general and administrative
    
    
    2,855
    
    
    
    2,516
    
    
    
    3,982
    
    
    
    
    
    
    
    9,353Write-down and loss on sale of assets
    
    
    39
    
    
    
    403
    
    
    
    
    
    
    
    
    
    
    
    442Operating income (loss)
    
    $
    16,871
    
    
    $
    18,352
    
    
    $
    (3,982
    )
    
    $
    
    
    
    $
    31,241Operating margin
    
    
    36.3
    %
    
    
    18.3
    %
    
    
    (2.8
    )%
    
    
    
    
    
    
    21.7
    %Depreciation and amortization
    
    $
    823
    
    
    $
    2,387
    
    
    $
    369
    
    
    $
    
    
    
    $
    3,579Nine Months Ended September 30, 2004Revenue
    
    $
    151,818
    
    
    $
    355,739
    
    
    $
    
    
    
    $
    (9,908
    )
    
    $
    497,649Direct costs
    
    
    84,168
    
    
    
    284,044
    
    
    
    
    
    
    
    (9,908
    )
    
    
    358,304Gross profit
    
    
    67,650
    
    
    
    71,695
    
    
    
    
    
    
    
    
    
    
    
    139,345Selling, general and administrative
    
    
    9,499
    
    
    
    9,227
    
    
    
    14,777
    
    
    
    
    
    
    
    33,503Loss on sale of assets
    
    
    1
    
    
    
    53
    
    
    
    
    
    
    
    
    
    
    
    54Operating income (loss)
    
    $
    58,150
    
    
    $
    62,415
    
    
    $
    (14,777
    )
    
    $
    
    
    
    $
    105,788Operating margin
    
    
    38.3
    %
    
    
    17.5
    %
    
    
    (3.0
    )%
    
    
    
    
    
    
    21.3
    %Depreciation and amortization
    
    $
    2,568
    
    
    $
    7,659
    
    
    $
    1,180
    
    
    $
    
    
    
    $
    11,407Nine Months Ended September 30, 2003Revenue
    
    $
    134,818
    
    
    $
    285,189
    
    
    $
    
    
    
    $
    (7,783
    )
    
    $
    412,224Direct costs
    
    
    76,489
    
    
    
    226,708
    
    
    
    
    
    
    
    (7,783
    )
    
    
    295,414Gross profit
    
    
    58,329
    
    
    
    58,481
    
    
    
    
    
    
    
    
    
    
    
    116,810Selling, general and administrative
    
    
    8,359
    
    
    
    7,538
    
    
    
    12,649
    
    
    
    
    
    
    
    28,546Write-down and loss (gain) on sale
of assets
    
    
    58
    
    
    
    225
    
    
    
    (1
    )
    
    
    
    
    
    
    282Operating income (loss)
    
    $
    49,912
    
    
    $
    50,718
    
    
    $
    (12,648
    )
    
    $
    
    
    
    $
    87,982Operating margin
    
    
    37.0
    %
    
    
    17.8
    %
    
    
    (3.1
    )%
    
    
    
    
    
    
    21.3
    %Depreciation and amortization
    
    $
    2,376
    
    
    $
    7,168
    
    
    $
    1,109
    
    
    $
    
    
    
    $
    10,653
 33




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##### Table of Contents



Revenue The following table summarizes our revenue (in thousands): Three Months Ended September 30,
    
    Nine Months Ended September 30,2004
    
    2003
    
    % Change
    
    2004
    
    2003
    
    % ChangeLaboratory
    
    $
    50,685
    
    
    $
    46,429
    
    
    
    9.2
    %
    
    $
    151,818
    
    
    $
    134,818
    
    
    
    12.6
    %Animal hospital
    
    
    136,399
    
    
    
    100,060
    
    
    
    36.3
    %
    
    
    355,739
    
    
    
    285,189
    
    
    
    24.7
    %Intercompany
    
    
    (3,732
    )
    
    
    (2,605
    )
    
    
    
    
    
    
    (9,908
    )
    
    
    (7,783
    )Total revenue
    
    $
    183,352
    
    
    $
    143,884
    
    
    
    27.4
    %
    
    $
    497,649
    
    
    $
    412,224
    
    
    
    20.7
    %
 Laboratory Revenue Laboratory revenue increased $4.3 million for the three months ended
September 30, 2004 and increased $17.0 million for the nine months ended
September 30, 2004 compared to the same periods in the prior year. The
components of the increase in laboratory revenue are detailed below (in
thousands, except average price per requisition): Three Months Ended September 30,
    
    Nine Months Ended September 30,2004
    
    2003
    
    % Change
    
    2004
    
    2003
    % ChangeLaboratory Revenue:Internal growth:Number of requisitions
    
    
    2,137
    
    
    
    2,069
    
    
    
    3.3
    %
    
    
    6,429
    
    
    
    6,137
    
    
    
    4.8
    %Average revenue per
requisition (1)
    
    $
    23.72
    
    
    $
    22.44
    
    
    
    5.7
    %
    
    $
    22.96
    
    
    $
    21.97
    
    
    
    4.5
    %Total internal revenue (2)
    
    $
    50,685
    
    
    $
    46,429
    
    
    
    9.2
    %
    
    $
    147,626
    
    
    $
    134,818
    
    
    
    9.5
    %Billing day adjustment (3)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    606
    
    
    
    Acquired revenue
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    3,586
    
    
    
    Total
    
    $
    50,685
    
    
    $
    46,429
    
    
    
    9.2
    %
    
    $
    151,818
    
    
    $
    134,818
    
    
    
    12.6
    %
   (1)
    
    Computed by dividing total internal revenue by the number of
requisitions.(2)
    
    Numbers may not calculate exactly due to rounding.(3)
    
    The 2004 billing day adjustment reflects the impact of one
additional billing day for the nine months ended September 30, 2004 as
compared to the same period in the prior year. Laboratory internal revenue growth was 9.2% and 9.5% for the three and
nine months ended September 30, 2004, despite the impact of the hurricanes in
the Southeastern United States. Excluding the Florida market, which was the
market most significantly impacted by the hurricanes, laboratory internal
revenue growth was 10.1% and 9.8% for the three and nine months ended September
30, 2004. The increases in the number of requisitions from internal growth for the
three and nine months ended September 30, 2004 are the result of a continued
trend in veterinary medicine to focus on the importance of laboratory
diagnostic testing in the diagnosis and treatment of diseases. This trend is
driven by an increase in the number of specialists in the veterinary industry
relying on diagnostic testing, the increased focus on diagnostic testing in
veterinary schools and general increased awareness through ongoing marketing
and continuing education programs provided by ourselves, pharmaceutical
companies and other service providers in the industry. In addition, we
continue to see the impact from the recent migration of diagnostic testing from
the human health care industry and the advent of medicine in the veterinary
industry that requires diagnostic assessment and monitoring. The increases in the average revenue per requisition for the three and
nine months ended September 30, 2004 is primarily attributable to price
increases and changes in the mix of tests performed per requisition. Price
increases approximated 2% to 4% in February 2004 and 3% to 5% in February 2003. 34




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##### Table of Contents



As the result of our laboratory acquisitions subsequent to January 1,
2003, we generated an additional $3.6 million of revenue (referred to in the
above table as acquired revenue) during the nine months ended September 30,
2004 in comparison to the same period in the prior year. Animal Hospital Revenue Animal hospital revenue increased $36.3 million for the three months ended
September 30, 2004 and increased $70.6 million for the nine months ended
September 30, 2004 compared to the same periods in the prior year. The
components of the increases are summarized in the following table (in
thousands, except average price per order): Three Months Ended September 30,
    
    Nine Months Ended September 30,2004
    
    2003
    
    % Change
    
    2004
    
    2003
    
    % ChangeAnimal Hospital Revenue:Same-store:Orders
    
    
    921
    
    
    
    939
    
    
    
    (2.0
    )%
    
    
    2,576
    
    
    
    2,600
    
    
    
    (0.9
    )%Average revenue per
order (1)
    
    $
    110.80
    
    
    $
    105.67
    
    
    
    4.9
    %
    
    $
    110.83
    
    
    $
    105.26
    
    
    
    5.3
    %Same-store revenue (2)
    
    $
    102,024
    
    
    $
    99,230
    
    
    
    2.8
    %
    
    $
    285,533
    
    
    $
    273,664
    
    
    
    4.3
    %Business day adjustment (3)
    
    
    1,307
    
    
    
    
    
    
    
    
    
    
    
    2,421
    
    
    
    Net acquired revenue
    
    
    33,068
    
    
    
    830
    
    
    
    
    
    
    
    67,785
    
    
    
    11,525Total
    
    $
    136,399
    
    
    $
    100,060
    
    
    
    36.3
    %
    
    $
    355,739
    
    
    $
    285,189
    
    
    
    24.7
    %
   (1)
    
    Computed by dividing same-store revenue by same-store orders.(2)
    
    Numbers may not calculate exactly due to rounding.(3)
    
    The 2004 business day adjustment reflects the impact of one
additional business day for the three months ended September 30, 2004
as compared to the same period in the prior year and two additional
business days for the nine months ended September 30, 2004 as compared
to the same period in the prior year. Over the last few years, certain pet-related products traditionally sold
at animal hospitals have become more widely available in retail stores and
other distribution channels, and, as a result, we have fewer customers coming
to our animal hospitals solely to purchase such items. In addition, there has
been a decline in the number of vaccinations as some recent professional
literature and research has suggested that vaccinations can be given to pets
less frequently. Orders for these pet-related products and vaccinations
generally generate revenue that is less than the average revenue for all
orders. In addition, our business strategy has placed greater emphasis on
high-quality veterinary care and wellness programs, which are higher priced
orders. These trends have resulted in a decrease in the number of orders and
an increase in the average revenue per order. Price increases also contributed to the increase in the average revenue
per order, which approximated 2.5% to 5% on services at most hospitals in both
February 2004 and 2003. Prices are reviewed on an annual basis for each
hospital and adjustments are made based on market considerations, demographics
and our costs. Net acquired revenue represents the revenue from those hospitals acquired,
sold or closed on or after the beginning of the comparative period, which was
July 1, 2003 for the three months ended September 30, 2004 and January 1, 2003
for the nine months ended September 30, 2004. Fluctuations in net acquired
revenue occur due to the volume, size, and timing of acquisitions and disposals
during the periods compared. 35




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##### Table of Contents



Gross Profit The following table summarizes our gross profit and our gross profit as a
percentage of applicable revenue, or gross profit margin (in thousands): Three Months Ended September 30,
    
    Nine Months Ended September 30,2004
    
    2003
    
    
    
    
    
    2004
    
    2003Gross
    
    
    
    
    
    Gross
    
    
    
    
    
    
    
    
    
    Gross
    
    
    
    
    
    GrossProfit
    
    
    
    
    
    Profit
    
    %
    
    
    
    
    
    Profit
    
    
    
    
    
    Profit
    
    %$
    
    Margin
    
    $
    
    Margin
    
    Change
    
    $
    
    Margin
    
    $
    
    Margin
    
    ChangeLaboratory
    
    $
    22,215
    
    
    
    43.8
    %
    
    $
    19,765
    
    
    
    42.6
    %
    
    
    12.4
    %
    
    $
    67,650
    
    
    
    44.6
    %
    
    $
    58,329
    
    
    
    43.3
    %
    
    
    16.0
    %Animal hospital
    
    
    27,566
    
    
    
    20.2
    %
    
    
    21,271
    
    
    
    21.3
    %
    
    
    29.6
    %
    
    
    71,695
    
    
    
    20.2
    %
    
    
    58,481
    
    
    
    20.5
    %
    
    
    22.6
    %Total gross profit
    
    $
    49,781
    
    
    
    27.2
    %
    
    $
    41,036
    
    
    
    28.5
    %
    
    
    21.3
    %
    
    $
    139,345
    
    
    
    28.0
    %
    
    $
    116,810
    
    
    
    28.3
    %
    
    
    19.3
    %
 Laboratory Gross Profit The increase in laboratory gross profit margins during the three and nine
months ended September 30, 2004 was primarily attributable to increases in
laboratory revenue combined with operating leverage associated with our
laboratory business. Our operating leverage comes from the incremental margins
we realize on additional tests ordered by the same client, as well as when more
comprehensive tests are ordered. We are able to benefit from these incremental
margins due to the relative fixed cost nature of our laboratory business. Animal Hospital Gross Profit Since January 1, 2004, we have had significant growth in our animal
hospital division as a result of the acquisition of 84 hospitals, 67 of which
were acquired in the NPC merger on June 1, 2004. Our animal hospital gross
profit margin decreased for the three and nine months ended September 30, 2004,
compared to the same periods in the prior year, primarily as a result of the
impact of the relatively large number of hospitals we recently acquired. As
expected, the hospitals we recently acquired, as a group, had a gross profit
margin lower than those animal hospitals that we have operated for a period of
time sufficient to allow us to fully achieve operating efficiencies. In addition, during 2004, we completed the
construction of two new specialty/referral animal hospitals in Chicago and
Manhattan. During the third quarter of 2004, gross profit margins on the
specialty/referral animal hospitals were significantly lower than the gross
profit margins on our other animal hospitals due to a decrease in revenues
resulting from business interruptions during the construction and integration
period coupled with an increase in costs, including but not limited to, rent,
salary and depreciation. We expect that the margins on these
specialty/referral practices will normalize to levels consistent with our other
specialty/referral animal hospitals once the integration process is completed. 36




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##### Table of Contents



Selling, General and Administrative Expense The following table summarizes our selling, general and administrative
expense, or SG&A, and our expense as a percentage of applicable revenue (in
thousands): Three Months Ended September 30,
    
    Nine Months Ended September 30,2004
    
    2003
    
    
    
    
    
    2004
    
    2003% of
    
    
    
    
    
    % of
    
    %
    
    
    
    
    
    % of
    
    
    
    
    
    % of
    
    %$
    
    Revenue
    
    $
    
    Revenue
    
    Change
    
    $
    
    Revenue
    
    $
    
    Revenue
    
    ChangeLaboratory
    
    $
    3,136
    
    
    
    6.2
    %
    
    $
    2,855
    
    
    
    6.1
    %
    
    
    9.8
    %
    
    $
    9,499
    
    
    
    6.3
    %
    
    $
    8,359
    
    
    
    6.2
    %
    
    
    13.6
    %Animal hospital
    
    
    3,423
    
    
    
    2.5
    %
    
    
    2,516
    
    
    
    2.5
    %
    
    
    36.0
    %
    
    
    9,227
    
    
    
    2.6
    %
    
    
    7,538
    
    
    
    2.6
    %
    
    
    22.4
    %Corporate
    
    
    6,478
    
    
    
    3.5
    %
    
    
    3,982
    
    
    
    2.8
    %
    
    
    62.7
    %
    
    
    14,777
    
    
    
    3.0
    %
    
    
    12,649
    
    
    
    3.1
    %
    
    
    16.8
    %Total SG&A
    
    $
    13,037
    
    
    
    7.1
    %
    
    $
    9,353
    
    
    
    6.5
    %
    
    
    39.4
    %
    
    $
    33,503
    
    
    
    6.7
    %
    
    $
    28,546
    
    
    
    6.9
    %
    
    
    17.4
    %
 Laboratory SG&A The increase in laboratory SG&A as a percentage of laboratory revenue
during the three and nine months ended September 30, 2004 as compared to the
same periods in the prior year was primarily due to the result of hiring
additional sales personnel. Animal Hospital SG&A Animal hospital SG&A as a percentage of animal hospital revenue during the
three and nine months ended September 30, 2004 was consistent with the same
period in the prior year. Corporate SG&A In March 2004, a claim with our insurance company was settled that
provided for the partial reimbursement of the Zoasis Corporation litigation
settlement incurred in 2002 and related legal fees. In addition, during the
three and nine months ended September 30, 2004, we incurred integration costs
in connection with the NPC merger. The following table reconciles corporate
SG&A as reported to corporate SG&A excluding the insurance claim settlement and
integration costs (in thousands): Three Months Ended September 30,
    
    Nine Months Ended September 30,2004
    
    2003
    
    
    
    
    
    2004
    
    2003% of
    
    
    
    
    
    % of
    
    %
    
    
    
    
    
    % of
    
    
    
    
    
    
    
    
    
    % of
    
    %$
    
    Revenue
    
    $
    
    Revenue
    
    Change
    
    $
    
    Revenue
    
    $
    
    
    
    
    
    Revenue
    
    ChangeCorporate SG&A as reported
    
    $
    6,478
    
    
    
    3.5
    %
    
    $
    3,982
    
    
    
    2.8
    %
    
    
    62.7
    %
    
    $
    14,777
    
    
    
    3.0
    %
    
    $
    12,649
    
    
    
    
    
    
    
    3.1
    %
    
    
    16.8
    %Impact of certain items:Litigation settlement
reimbursement
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,124
    
    
    
    
    
    
    
    Legal fees reimbursement
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    801
    
    
    
    
    
    
    
    Integration costs
    
    
    (668
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (1,238
    )
    
    
    
    
    
    
    Corporate SG&A excluding the
insurance claim settlement
and integration costs
    
    $
    5,810
    
    
    
    3.2
    %
    
    $
    3,982
    
    
    
    2.8
    %
    
    
    45.9
    %
    
    $
    15,464
    
    
    
    3.1
    %
    
    $
    12,649
    
    
    
    
    
    
    
    3.1
    %
    
    
    22.3
    %
 Excluding the impact of the insurance claim settlement and integration
costs, Corporate SG&A increased during the three months ended September 30,
2004 and the nine months ended September 30, 2004 primarily as a result of
costs incurred for internal controls compliance activities pertaining to
Section 404 of the Sarbanes-Oxley Act. 37




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##### Table of Contents



Interest Expense, Net The following table summarizes our interest expense, net of interest
income (in thousands): Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003Interest expense:Revolving credit facility
    
    $
    
    
    
    $
    
    
    
    $
    
    
    
    $
    27Senior term C notes
    
    
    
    
    
    
    973
    
    
    
    
    
    
    
    4,648Senior term D notes
    
    
    
    
    
    
    707
    
    
    
    2,235
    
    
    
    707Senior term E notes
    
    
    2,166
    
    
    
    
    
    
    
    2,800
    
    
    
    9.875% senior subordinated notes
    
    
    4,197
    
    
    
    4,197
    
    
    
    12,591
    
    
    
    12,59115.5% senior notes
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    522Interest-rate hedging agreements
    
    
    90
    
    
    
    165
    
    
    
    419
    
    
    
    352Amortization of deferred financing costs and debt discount
    
    
    185
    
    
    
    213
    
    
    
    552
    
    
    
    669Secured seller notes & other
    
    
    214
    
    
    
    177
    
    
    
    595
    
    
    
    5456,852
    
    
    
    6,432
    
    
    
    19,192
    
    
    
    20,061Interest income
    
    
    223
    
    
    

    71
    
    
    
    480
    
    
    
    290Total interest expense, net of interest income
    
    $
    6,629
    
    
    $
    6,361
    
    
    $
    18,712
    
    
    $
    19,771
 The changes in interest expense were primarily attributable to our debt
financing transactions, which we discuss below in Liquidity and Capital
Resources, and changes in LIBOR. Debt Retirement Costs On June 1, 2004, we amended and restated our senior credit facility to
replace the existing senior term D notes in the principal amount of $145.3
million with an interest rate margin of 2.50% with new senior term E notes in
the principal amount of $225.0 million with an interest rate margin of 2.25%.
The additional borrowings were used to fund the NPC merger, which we discuss
above in Significant Acquisitions. In conjunction with amending and
restating our senior credit facility, we recorded debt retirement costs of
$810,000. In August 2003, we refinanced our senior credit facility to replace the existing senior
term C notes in the principal amount of $166.4 million with an interest rate margin of
3.00% with $20.0 million of cash on-hand and new senior
term D notes in the principal amount of $146.4 million with an interest rate margin of 2.50%. In conjunction with that transaction,
we recorded debt retirement costs of $1.7 million. On February 4, 2003, we voluntarily retired the entire principal amount of
our 15.5% senior notes with net proceeds received from the sale of our common
stock. In conjunction with that transaction, we recorded debt retirement costs
of $7.4 million. Provision for Income Taxes We recognized a litigation settlement reimbursement of $1.1 million during
the first quarter of 2004, which we discuss above in Corporate SG&A. This
reimbursement had no related tax expense and reduced our effective tax rate to
40.6% for the nine months ended September 30, 2004. This reimbursement will
not impact our effective tax rate for individual quarters ending subsequent to
March 31, 2004. Our effective tax rate for the three months ended September
30, 2004 was 41.0%. Liquidity and Capital Resources Cash and Cash Equivalents Cash and cash equivalents at September 30, 2004 totaled $50.8 million, up
from $17.2 million at December 31, 2003. The increase is a result of net cash
provided by operations and financing exceeding net cash used in investing
activities. 38




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##### Table of Contents



Cash Flows from Operating Activities Net cash provided by operating activities increased $4.0 million for the
nine months ended September 30, 2004 compared to the same period in the prior
year. This increase is primarily due to: (a) improved operating performance;
(b) acquisitions; and (c) a $667,000 decrease in interest paid. This increase
was partially offset by: (a) a $14.0 million increase in taxes paid; and (b) a
use of $815,000 from changes in working capital. Cash Flows used in Investing Activities In each of the nine-month periods ended September 30, 2004 and 2003, net
cash used in investing activities was primarily comprised of cash used for the
acquisition of animal hospitals and laboratories and expenditures for property
and equipment. The significant increase in cash used for acquisitions was the
result of spending approximately $70.3 million to acquire NPC. We anticipate spending an additional $275,000 for animal hospital
acquisitions and up to $5.5 million for property and equipment during the
remainder of 2004. However, we may spend more for acquisitions than we are
currently planning depending upon opportunities that present themselves and our
cash requirements may change accordingly. In addition, there may be
acquisition opportunities in the laboratory field that may change our cash
requirements. We intend to primarily use cash in our acquisitions but,
depending upon the timing and amount of our acquisitions, we may use stock or
debt to the extent we deem it appropriate. Our covenants under our senior
credit facility, as amended and restated on June 1, 2004, permitted the NPC
merger and allow us to spend $50.0 million per year plus up to $5.0 million of
any unused amount from the prior year on other acquisitions, and we would
require a waiver or amendment to the covenant to exceed this amount. We consummated a merger with STI on October 1, 2004, pursuant to which we
acquired STI for $26.5 million, of which $23.0 million was paid with cash
on-hand and the remaining $3.5 million will be paid in cash subject to STI
achieving certain performance targets. Cash Flows from Financing Activities On June 1, 2004, we amended and restated our senior credit facility to
replace the existing senior term D notes in the principal amount of $145.3
million with an interest rate margin of 2.50% with new senior term E notes in
the principal amount of $225.0 million with an interest rate margin of 2.25%.
The additional borrowings were used to fund the acquisition of NPC, which we
discuss above in Significant Acquisitions. In August 2003, we refinanced our senior credit facility
to replace the existing senior term C notes in the principal
amount of $166.4 million with an interest rate margin of 3.00%
with $20.0 million of cash on-hand and new senior term D notes in the principal amount of
$146.4 million with an interest rate margin of 2.50%. In February 2003, we completed an offering of common stock at an issue
price of $15.25 per share, in which we sold 3.8 million shares of our common
stock in exchange for net proceeds of $54.3 million. Approximately $42.7
million of the net proceeds received were used to redeem the entire principal
amount of our 15.5% senior notes due 2010 at a redemption price of 110% of the
principal amount, plus accrued and unpaid interest. Borrowings and repayments under our revolving credit facility are the
result of normal working capital shifts created by the seasonality of our
business and the timing of acquisition activity. In the fourth quarter of 2002
we borrowed $7.5 million, and in early 2003 we repaid the full amount. We have
not borrowed on the revolving credit facility since the fourth quarter of 2002. 39




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##### Table of Contents



Future Cash Requirements The following table sets forth the scheduled principal, interest and other
contractual cash obligations due by us for each of the years indicated (in
thousands): Total
    
    2004 (1)
    
    2005
    
    2006
    
    2007
    
    2008
    
    ThereafterLong-term debt
    
    $
    397,227
    
    
    $
    1,001
    
    
    $
    3,147
    
    
    $
    29,539
    
    
    $
    110,284
    
    
    $
    82,634
    
    
    $
    170,622Capital lease obligations
    
    
    427
    
    
    
    48
    
    
    
    190
    
    
    
    100
    
    
    
    64
    
    
    
    25
    
    
    
    Operating leases
    
    
    372,600
    
    
    
    5,593
    
    
    
    22,558
    
    
    
    22,433
    
    
    
    22,382
    
    
    
    22,170
    
    
    
    277,464Fixed cash interest expense
    
    
    94,086
    
    
    
    8,563
    
    
    
    17,417
    
    
    
    17,254
    
    
    
    16,914
    
    
    
    17,044
    
    
    
    16,894Variable cash interest expense (2)
    
    
    42,084
    
    
    
    2,518
    
    
    
    11,680
    
    
    
    13,764
    
    
    
    10,934
    
    
    
    3,188
    
    
    
    Deferred income tax liabilities
    
    
    30,485
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    30,485Mandatorily redeemable partnership
interests
    
    
    2,099
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    2,099Swap agreements (2)
    
    
    (297
    )
    
    
    (66
    )
    
    
    (231
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    938,711
    
    
    $
    17,657
    
    
    $
    54,761
    
    
    $
    83,090
    
    
    $
    160,578
    
    
    $
    125,061
    
    
    $
    497,564
   (1)
    
    Consists of the period October 1 through December 31, 2004.(2)
    
    We have both fixed-rate and variable-rate debt. The interest
payments on our variable-rate debt are based on a variable-rate
component plus a fixed 2.25%. Including the fixed 2.25%, we estimate
that the interest rate on our variable-rate debt will be 4.5%, 5.25%,
6.25%, 7.25%, and 7.75% for years 2004 through 2008, respectively.
These estimates are based on interest rate projections used to price
our interest rate swap agreements. Our consolidated financial
statements included in our 2003 Annual Report on Form 10-K discuss
these variable-rate notes in more detail. The table above excludes certain contractual arrangements whereby
additional cash may be paid to former owners of acquired companies, including
STI, upon attainment of specified performance targets. We may be required to
pay up to $4.6 million in future periods if these performance targets are
achieved. We anticipate that our cash on hand, cash from operations and, if needed,
our revolving credit facility will provide sufficient cash resources to fund
our contractual obligations and other cash needs for more than the next 12
months. Debt Covenants Our senior credit facility contains certain financial covenants pertaining
to interest coverage, fixed charge coverage and leverage ratios. In addition,
the senior credit facility has restrictions pertaining to capital expenditures,
acquisitions and the payment of cash dividends. As of September 30, 2004, we
were in compliance with these covenants. We currently believe the most
restrictive covenant is the fixed charge coverage ratio. The senior credit
facility defines the fixed charge coverage ratio as that ratio which is
calculated on a last twelve-month basis by dividing pro forma earnings before
interest, taxes, depreciation and amortization, as defined by the agreement, by
fixed charges. Fixed charges are defined as cash interest expense, scheduled
principal payments on debt obligations, capital expenditures, and provision for
income taxes. At September 30, 2004, we had a fixed charge coverage ratio of
1.55 to 1.00, which was in compliance with the required ratio of no less than
1.10 to 1.00. 40




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##### Table of Contents



Interest-Rate Hedging Agreements We entered into certain no-fee swap agreements whereby we pay to
counterparties amounts based on fixed interest rates and set notional principal
amounts in exchange for the receipt of payments from counterparties based on
London interbank offer rates, LIBOR, and the same set notional principal
amounts. A summary of these agreements is as follows: Swap #1
    
    Swap #2
    
    Swap #3Fixed interest
rate
    
    
    2.22%
    
    
    
    1.72%
    
    
    
    1.51%Notional
amount
    
    $40.0 million
    
    $20.0 million
    
    $20.0 millionEffective
date
    
    
    11/29/2002
    
    
    
    5/30/2003
    
    
    
    5/30/2003Expiration
date
    
    
    11/29/2004
    
    
    
    5/31/2005
    
    
    
    5/31/2005Counter
party
    
    Wells Fargo Bank
    
    Wells Fargo Bank
    
    Goldman Sachs
 We entered into the swap agreements to hedge against the risk of
increasing interest rates. The contracts effectively convert a certain amount
of our variable-rate debt under our senior credit facility to fixed-rate debt
for purposes of controlling cash paid for interest. That amount is equal to
the notional amount of the swap agreements and the fixed rate conversion period
is equal to the terms of the contract. The impact of the swap agreements has
been factored into our future contractual cash requirements table above. In the future, we may enter into additional interest rate strategies to
take advantage of favorable current rate environments. We have not yet
determined what those strategies will be or their possible impact. Description of Indebtedness Senior Credit Facility At September 30, 2004, we had $223.9 million principal amount outstanding
under our senior term E notes and no borrowings outstanding under our revolving
credit facility. Borrowings under the senior credit facility bear interest, at our option,
on either the base rate, which is the higher of the administrative agents
prime rate or the Federal Funds Rate plus 0.5% plus a base rate margin, or the
adjusted eurodollar rate, which is the rate per annum obtained by dividing (1)
the rate of interest offered to the administrative agent on the London
interbank market by (2) a percentage equal to 100% minus the stated maximum
rate of all reserve requirements applicable to any member bank of the Federal
Reserve System in respect of eurocurrency liabilities plus a eurodollar rate
margin. The base rate margins for the revolving credit facility range from
1.00% to 2.25% per annum and the margin for the senior term E notes is 1.25%
per annum. The eurodollar rate margins for the revolving credit facility range
from 2.00% to 3.25% per annum and the margin for the senior term E notes is
2.25% per annum. The senior term E notes mature in September 2008 and the revolving credit
facility matures in September 2006. 9.875% Senior Subordinated Notes On November 27, 2001, Vicar Operating, Inc., our wholly-owned subsidiary,
issued $170.0 million in principal amount of senior subordinated notes due
December 1, 2009, which were exchanged on June 13, 2002 for substantially
similar securities that are registered under the Securities Act. Interest on
these senior subordinated notes is 9.875% per annum, payable semi-annually in
arrears in cash. At September 30, 2004, the outstanding principal balance of
these senior subordinated notes was $170.0 million. We and each existing
domestic wholly-owned subsidiary of Vicar have jointly and severally, fully and
unconditionally guaranteed these notes. Future domestic wholly-owned
subsidiaries of Vicar will also be required to guarantee these notes. These
guarantees are unsecured and subordinated in right of payment to all existing
and future indebtedness outstanding under the credit
and guaranty agreement and any other indebtedness permitted to be incurred
by Vicar under the terms of the indenture agreement governing these notes. Before December 1, 2004, we can redeem up to $59.5 million of principal on
our 9.875% senior subordinated notes at a redemption price of 109.9% of the
principal amount with proceeds from an equity offering. The 41




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remaining portion
may be paid off at our discretion beginning December 1, 2005 at a redemption
price of 104.9% of the principal amount. Other Debt At September 30, 2004, we had seller notes secured by assets of animal
hospitals, unsecured debt and capital leases that totaled $3.8 million. Risk Factors This Form 10-Q, including Risk Factorsset forth below, contains
forward-looking statements that involve risks and uncertainties, as well as
assumptions that, if they materialize or prove incorrect, could cause our
results and the results of our consolidated subsidiaries to differ materially
from those expressed or implied by these forward-looking statements. All
statements other than statements of historical fact are statements that could
be deemed forward-looking statements, including any projections of earnings,
revenue or other financial items; any statements of the plans, strategies and
objectives of management for future operations; any statement concerning
proposed new services or developments; any statements regarding the future
economic conditions or performance; any statements of belief; and any
statements of assumptions underlying any of the foregoing. The risks,
uncertainties and assumptions referred to above include difficulty of managing
our growth and integrating our new acquisitions and other risks that are
described from time to time in our SEC reports, including but not limited to
the items discussed below. If we are unable to successfully integrate NPC animal hospital operations into
our animal hospital operations in a timely and efficient manner, we may incur
substantial costs, and our revenue, margins and net income may be adversely
affected. On June 1, 2004, we acquired NPC. Prior to our acquisition, the NPC
animal hospitals, as a group, operated at gross profit margins lower than our
animal hospitals, and, as a result, we expect our animal hospital margins to be
lower than historical amounts for the next several quarters. We entered into
the merger agreement with NPC with the expectation that the merger will result
in improved operating results and beneficial synergies, such as the realization
of improved margins at animal hospitals through a strategy of centralizing
various corporate and administrative functions and leveraging fixed costs. Our
ability to realize on the benefits of this acquisition is dependent, in part,
on achieving these efficiencies and increasing the gross profit margins of the
acquired NPC hospitals. Achieving these anticipated business benefits will depend on whether our
operations and NPCs operations are successfully integrated in an efficient,
effective and timely manner. Any unanticipated costs or results, or delays or
failures in the integration process may negatively impact our combined revenue,
margins and net income. The combination of our company and NPC will require,
among other things, the retention of key management and professional personnel,
including specialists; the integration and expansion of the companies
management staff, veterinarians and other professional staff; and the
identification and elimination of unnecessary overhead and non-performing
hospitals. The integration of the operations of the combined companies requires the
dedication of management resources, which may temporarily detract attention
from the day-to-day business of the combined companies. Our field management
may spend a predominant amount of time integrating these new hospitals and less
time managing our existing hospitals in those regions. In addition, the
employees of the combined companies may be less productive as a result of
uncertainty during the integration process, which also may disrupt our
business. Even if we successfully integrate NPC into our operations, the
integration process itself will be accomplished over time and any attention
paid to the integration process at the expense of the day-to-day operations and
any uncertainty which results from the integration process itself may have an
adverse effect on the business and results of operations of the combined
companies. We also may experience unanticipated delays in converting the
systems of NPC animal hospitals into our systems, which may result in
unanticipated increases to payroll expense to collect our results and delays in
reporting our results. In addition, the present and potential customers of the animal hospitals
acquired in the NPC merger may not continue their current utilization patterns
or, alternatively, the merger and integration process may have an adverse
impact on the relationships between those customers and the veterinarians and
other animal health care professionals 42




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currently employed at the animal
hospitals acquired in the NPC merger. Any significant reduction in utilization
patterns or any significant adverse impact on relationships between the
customers and the veterinarians or other animal health care professionals
currently employed at the animal hospitals acquired in the NPC merger may have
an adverse effect on the business and results of operations of the combined
companies. If we are unable to effectively execute our growth strategy, we may not
achieve our desired economies of scale and our margins and profitability may
decline. Our success depends in part on our ability to build on our position as a
leading animal health care services company through a balanced program of
internal growth initiatives and selective acquisitions of established animal
hospitals and laboratories. If we cannot implement or effectively execute
these initiatives and acquisitions, our results of operations will be adversely
affected. Even if we effectively implement our growth strategy, we may not
achieve the economies of scale that we have experienced in the past or that we
anticipate having in the future. Our internal growth rate may decline and
could become negative. Our laboratory internal revenue growth has fluctuated
between 11.9% and 14.1% for each fiscal year from 2001 through 2003. For the
three and nine months ended September 30, 2004, our laboratory internal revenue
growth was 9.2% and 9.5% respectively, which are both below our historical
rates for the prior three years. Our animal hospital same-store revenue growth
rate has fluctuated between 3.6% and 5.0% for each fiscal year from 2001
through 2003. For the three and nine months ended September 30, 2004, our
animal hospital same-store revenue growth was 2.8% and 4.3% respectively. Our
internal growth may continue to fluctuate and may be below our historical
rates. Any reductions in the rate of our internal growth may cause our
revenues and margins to decrease. Our historical growth rates and margins are
not necessarily indicative of future results. Demand for certain products could decline as their product life cycle
matures and the products become available in other channels of distribution
such as retail-oriented locations and through internet service providers. This
cycle could affect the frequency of veterinary visits and may result in a
reduction in revenue. Demand for vaccinations may also be impacted in the
future as protocols for vaccinations change. Vaccinations have been
recommended by some in the profession to be given less frequently. This may
result in fewer visits and potentially less revenue. Vaccine protocols for our
company are currently established by our veterinarians. Some of our
veterinarians have changed their protocols and others may change their protocol
in light of recent literature. Due to the fixed cost nature of our business, fluctuations in our revenue
could adversely affect our operating income. Approximately 56% of our expense for the year ended December 31, 2003,
particularly rent and personnel costs, are fixed costs and are based in part on
expectations of revenue. We may be unable to reduce spending in a timely
manner to compensate for any significant fluctuations in our revenue.
Accordingly, shortfalls in revenue may adversely affect our operating income. Difficulties integrating new acquisitions may impose substantial costs and
cause other problems for us. Our success depends on our ability to timely and cost-effectively acquire,
and integrate into our business, additional animal hospitals and laboratories.
Any difficulties in the integration process may result in increased expense,
loss of customers and a decline in profitability. We expect to acquire in the
ordinary course of business 20 to 25 animal hospitals per year with aggregate
annual revenues of approximately $25.0 million. In some cases, we have
experienced delays and increased costs in integrating some hospitals,
particularly where we acquire a large number of hospitals in a single region at
or about the same time. In these cases, our field management may spend a
predominant amount of time integrating these new hospitals and less time
managing our existing hospitals in those regions. During these periods, there
may be less attention directed to marketing efforts or staffing issues. In
these circumstances, we also have experienced delays in converting the systems
of acquired hospitals into our systems, which results in increased payroll
expense to collect our results and delays in reporting our results, both for a
particular region and on a consolidated basis. If this were to occur in the
future, it could result in decreased revenue, increased costs or lower margins. 43




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We continue to face risks in connection with our acquisitions including:  
    
    negative effects on our operating results;  
    
    impairments of goodwill and other intangible assets;  
    
    dependence on retention, hiring and training of key personnel, including specialists; and  
    
    contingent and latent risks associated with the past operations of,
and other unanticipated problems arising in, an acquired business. The process of integration may require a disproportionate amount of the
time and attention of our management, which may distract managements attention
from its day-to-day responsibilities. In addition, any interruption or
deterioration in service resulting from an acquisition may result in a
customers decision to stop using us. For these reasons, we may not realize
the anticipated benefits of an acquisition, either at all or in a timely
manner. If that happens and we incur significant costs, it could have a
material adverse impact on our business. The carrying value of our goodwill could be subject to impairment write-down. At September 30, 2004, our balance sheet reflected $481.1 million of
goodwill, which was a substantial portion of our total assets of $723.7 million
at that date. We expect that the aggregate amount of goodwill on our balance
sheet will increase as a result of future acquisitions. We continually
evaluate whether events or circumstances have occurred that suggest that the
fair market value of each of our reporting units is below their carrying
values. If we determine that the fair market value of one of our reporting
units is less than its carrying value, this may result in an impairment
write-down of the goodwill for that reporting unit. The impairment write-down
would be reflected as expense and could have a material adverse effect on our
results of operations during the period in which we recognize the expense. At
December 31, 2003, we concluded that the fair value of our reporting units
exceeded their carrying value and accordingly, as of that date, our net
goodwill was not impaired in our consolidated financial statements. However,
in the future we may incur impairment charges related to the goodwill already
recorded or arising out of future acquisitions. We require a significant amount of cash to service our debt and expand our
business as planned. We have, and will continue to have, a substantial amount of debt. Our
substantial amount of debt requires us to dedicate a significant portion of our
cash flow from operations to pay down our indebtedness and related interest,
thereby reducing the funds available to use for working capital, capital
expenditures, acquisitions and general corporate purposes. At September 30, 2004, our debt consisted of:  
    
    $223.9 million in principal amount outstanding under our senior credit facility;  
    
    $170.0 million in principal amount outstanding under our 9.875% senior subordinated notes; and  
    
    $3.8 million in principal amount outstanding under our other debt. Our ability to make payments on our debt, and to fund acquisitions, will
depend upon our ability to generate cash in the future. Insufficient cash flow
could place us at risk of default under our debt agreements or could prevent us
from expanding our business as planned. Our ability to generate cash is
subject to general economic, financial, competitive, legislative, regulatory
and other factors that are beyond our control. Our business may not generate
sufficient cash flow from operations, our strategy to increase operating
efficiencies may not be realized and future borrowings may not be available to
us under our senior credit facility in an amount sufficient to enable us to
service our debt or to fund our other liquidity needs. In order to meet our
debt obligations, we may need to refinance all or a portion of our debt. We
may not be able to refinance any of our debt on commercially reasonable terms
or at all. 44




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Our debt instruments may adversely affect our ability to run our business. Our substantial amount of debt, as well as the guarantees of our
subsidiaries and the security interests in our assets and those of our
subsidiaries, could impair our ability to operate our business effectively and
may limit our ability to take advantage of business opportunities. For
example, our indenture and senior credit facility:  
    
    limit our funds available to repay the 9.875% senior subordinated
notes;  
    
    limit our ability to borrow additional funds or to obtain other
financing in the future for working capital, capital expenditures,
acquisitions, investments and general corporate purposes;  
    
    limit our ability to dispose of our assets, create liens on our
assets or to extend credit;  
    
    make us more vulnerable to economic downturns and reduce our
flexibility in responding to changing business and economic conditions;  
    
    limit our flexibility in planning for, or reacting to, changes in our business or industry;  
    
    place us at a competitive disadvantage to our competitors with less debt; and  
    
    restrict our ability to pay dividends, repurchase or redeem our
capital stock or debt, or merge or consolidate with another entity. The terms of our indenture and senior credit facility allow us, under
specified conditions, to incur further indebtedness, which would heighten the
foregoing risks. If compliance with our debt obligations materially hinders
our ability to operate our business and adapt to changing industry conditions,
we may lose market share, our revenue may decline and our operating results may
suffer. Our failure to satisfy covenants in our debt instruments will cause a default
under those instruments. In addition to imposing restrictions on our business and operations, our
debt instruments include a number of covenants relating to financial ratios and
tests. Our ability to comply with these covenants may be affected by events
beyond our control, including prevailing economic, financial and industry
conditions. The breach of any of these covenants would result in a default
under these instruments. An event of default would permit our lenders and
other debtholders to declare all amounts borrowed from them to be due and
payable, together with accrued and unpaid interest. Moreover, these lenders
and other debtholders would have the option to terminate any obligation to make
further extensions of credit under these instruments. If we are unable to
repay debt to our senior lenders, these lenders and other debtholders could
proceed against our assets. The significant competition in the companion animal health care services
industry could cause us to reduce prices or lose market share. The companion animal health care services industry is highly competitive
with few barriers to entry. To compete successfully, we may be required to
reduce prices, increase our operating costs or take other measures that could
have an adverse effect on our financial condition, results of operations,
margins and cash flow. If we are unable to compete successfully, we may lose
market share. There are many clinical laboratory companies that provide a broad range of
laboratory testing services in the same markets we service. Our largest
competitor for outsourced laboratory testing services is Idexx Laboratories,
Inc., or Idexx. Idexx currently competes or intends to compete in most of the
same markets in which we operate. In this regard, Idexx has recently acquired
additional laboratories in the markets in which we operate and has announced
plans to continue this expansion and aggressively bundles all of their
products and services to compete with us. Increased competition may lead to
pressures on the revenues and margins of our laboratory operations. Also,
Idexx and several other national companies provide on-site diagnostic equipment
that allows veterinarians to perform their own laboratory tests. Our primary competitors for our animal hospitals in most markets are
individual practitioners or small, regional, multi-clinic practices. Also,
regional pet care companies and some national companies, including operators of 45




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super-stores, are developing multi-regional networks of animal hospitals in
markets in which we operate. Historically, when a competing animal hospital
opens in proximity to one of our hospitals, we have reduced prices, expanded
our facility, retained additional qualified personnel, increased our marketing
efforts or taken other actions designed to retain and expand our client base.
As a result, our revenue may decline and our costs may increase. We may experience difficulties hiring skilled veterinarians due to shortages
that could disrupt our business. As the pet population continues to grow, the need for skilled
veterinarians continues to increase. If we are unable to retain an adequate
number of skilled veterinarians, we may lose customers, our revenue may decline
and we may need to sell or close animal hospitals. As of September 30, 2004,
there were 28 veterinary schools in the country accredited by the American
Veterinary Medical Association. These schools graduate approximately 2,100
veterinarians per year. There is a shortage of skilled veterinarians in some
regional markets in which we operate animal hospitals. During shortages in
these regions, we may be unable to hire enough qualified veterinarians to
adequately staff our animal hospitals, in which event we may lose market share
and our revenues and profitability may decline. If we fail to comply with governmental regulations applicable to our business,
various governmental agencies may impose fines, institute litigation or
preclude us from operating in certain states. The laws of many states prohibit business corporations from providing, or
holding themselves out as providers of, veterinary medical care. These laws
vary from state to state and are enforced by the courts and by regulatory
authorities with broad discretion. As of September 30, 2004, we operated 101
animal hospitals in 12 states with these laws, including 23 in New York and 26
in Texas. We may experience difficulty in expanding our operations into other
states with similar laws. Given varying and uncertain interpretations of the
veterinary laws of each state, we may not be in compliance with restrictions on
the corporate practice of veterinary medicine in all states. A determination
that we are in violation of applicable restrictions on the practice of
veterinary medicine in any state in which we operate could have a material
adverse effect on us, particularly if we were unable to restructure our
operations to comply with the requirements of that state. All of the states in which we operate impose various registration
requirements. To fulfill these requirements, we have registered each of our
facilities with appropriate governmental agencies and, where required, have
appointed a licensed veterinarian to act on behalf of each facility. All
veterinarians practicing in our clinics are required to maintain valid state
licenses to practice. Any failure in our information technology systems or disruption in our
transportation network (including disruption resulting from terrorist
activities) could significantly increase testing turn-around time, reduce our
production capacity and otherwise disrupt our operations. Our laboratory operations depend, in part, on the continued and
uninterrupted performance of our information technology systems and
transportation network. Our growth has necessitated continued expansion and
upgrade of our information technology systems and transportation network.
Sustained system failures or interruption in our transportation network or in
one or more of our laboratory operations could disrupt our ability to process
laboratory requisitions, perform testing, provide test results in a timely
manner and/or bill the appropriate party. We could lose customers and revenue
as a result of a system or transportation network failure. Our computer systems are vulnerable to damage or interruption from a
variety of sources, including telecommunications failures, electricity
brownouts or blackouts, malicious human acts and natural disasters. Moreover,
despite network security measures, some of our servers are potentially
vulnerable to physical or electrical break-ins, computer viruses and similar
disruptive problems. Despite the precautions we have taken, unanticipated
problems affecting our systems could cause interruptions in our information
technology systems. Our insurance policies may not adequately compensate us
for any losses that may occur due to any failures in our systems. In addition, over time we have significantly customized the computer
systems in our laboratory business. We rely on a limited number of employees
to upgrade and maintain these systems. If we were to lose the services of some
or all of these employees, it may be time-consuming for new employees to become
familiar with our systems, and we may experience disruptions in service during
these periods. 46




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Any substantial reduction in the number of available flights or delays in
the departure of flights, whether as a result of severe weather conditions, a terrorist attack or any
other type of disruption, will disrupt our transportation network and our
ability to provide test results in a timely manner. Any change in government
regulation related to transporting samples or specimens could also have an
impact on our business. In addition, our Test Express service, which services
customers outside of major metropolitan areas, is dependent on flight services
in and out of Memphis and the transportation network of Federal Express. Any
sustained interruption in either flight services in Memphis or the
transportation network of Federal Express would result in increased turn-around
time for the reporting of test results to customers serviced by our Test
Express service. The loss of Mr. Robert Antin, our Chairman, President and Chief Executive
Officer, could materially and adversely affect our business. We are dependent upon the management and leadership of our Chairman,
President and Chief Executive Officer, Robert Antin. We have an employment
contract with Mr. Antin that may be terminated at the option of Mr. Antin. We
do not maintain any key man life insurance coverage for Mr. Antin. The loss of
Mr. Antin could materially adversely affect our business. 
 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK As of September 30, 2004, we had borrowings of $223.9 million under our
senior credit facility with fluctuating interest rates based on market
benchmarks such as LIBOR. To reduce the risk of increasing interest rates, we
have entered into three separate no-fee interest rate swap agreements. The
first agreement is for $40.0 million and commenced on November 29, 2002 and
expires November 29, 2004. The second agreement is for $20.0 million and
commenced on May 30, 2003 and expires May 31, 2005. The third agreement is for
$20.0 million and commenced on May 30, 2003 and expires May 31, 2005. These
swap agreements have the effect of reducing the amount of our debt exposed to
variable interest rates from $223.9 million to $143.9 million. Accordingly,
for the twelve-month period ending September 30, 2005, for every 1.0% increase
in LIBOR we will pay an additional $1.9 million in interest expense and for
every 1.0% decrease in LIBOR we will save $1.9 million in interest expense. We are considering entering into additional interest rate strategies to
take advantage of the current rate environment. We have not yet determined
what those strategies may be or their possible impact. 
 ITEM 4. CONTROLS AND PROCEDURES As of the end of the period covered by this report, we have carried out an
evaluation, under the supervision and with the participation of our Chief
Executive Officer and Chief Financial Officer, of the effectiveness of the
design and operation of our disclosure controls and procedures. Based on this
evaluation, our Chief Executive Officer and Chief Financial Officer concluded
that our disclosure controls and procedures are effective in timely alerting
them to material information required to be included in our periodic reports
with the SEC. In accordance with the requirements of the SEC, our Chief Executive
Officer and Chief Financial Officer note that, since the date of the most
recent evaluation of our disclosure controls and procedures to the date of this
quarterly report on Form 10-Q, there have been no significant changes in our
internal controls or in other factors that could significantly affect internal
controls, including any corrective actions with regard to significant
deficiencies and material weaknesses. Our management, including our Chief Executive Officer and Chief Financial
Officer, does not expect that our disclosure controls or our internal controls
will prevent all error and all fraud. A control system, no matter how well
conceived and operated, can provide only reasonable, not absolute, assurance
that the objectives of the control system are met. Further, the design of a
control system must reflect the fact that there are resource constraints, and
the benefits of controls must be considered relative to their costs. Because
of the inherent limitations in all control systems, no evaluation of controls
can provide absolute assurance that all control issues and instances of fraud,
if any, within the Company have been detected. These inherent limitations
include the realities that judgments in decision-making can be faulty and that
breakdowns can occur because of simple errors or mistakes. Additionally,
controls can be circumvented by the individual acts of some persons, by
collusion of two or more people, or by management override of the controls.
Because of the inherent limitations in a cost-effective control system,
misstatements due to error or fraud may occur and not be detected. 47




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PART II. OTHER INFORMATION 
 ITEM 1. LEGAL PROCEEDINGS We are not subject to any legal proceedings other than ordinarily routine
litigation incidental to the conduct of our business. 
 ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS None 
 ITEM 3. DEFAULTS UPON SENIOR SECURITIES None 
 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS On July 12, 2004, we held our annual meeting of stockholders at which our
stockholders:  
    
    elected Robert L. Antin as a Class II director;  
    
    approved an amendment to our certificate of incorporation to
increase the amount of shares of common stock authorized for issuance
from 75,000,000 to 175,000,000; and  
    
    ratified KPMG LLP as our independent auditor. The results of the election of one Class II director are as follows: Candidate
    
    Yes Votes
    
    No Votes
    
    Abstain
    
    Broker Non-VoteRobert L.
Antin
    
    
    35,059,343
    
    
    
    
    
    
    
    3,677,346
    
    
    
    
 The results of the other two matters upon which our stockholders voted are
as follows: Proposal
    
    Yes Votes
    
    No Votes
    
    Abstain
    
    Broker Non-VoteAmend certificate
of incorporation to
increase shares of
common stock
authorized for
issuance from
75,000,000 to
175,000,000
    
    
    34,878,212
    
    
    
    3,847,792
    
    
    
    10,685
    
    
    
    Ratify KPMG LLP as
our independent
auditor
    
    
    38,709,767
    
    
    
    22,480
    
    
    
    4,442
    
    
    
    
 
 ITEM 5. OTHER INFORMATION None 
 ITEM 6. EXHIBITS (a) Exhibits:  31.1
    
    Certification of Chief Executive Officer Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.31.2
    
    Certification of Chief Financial Officer Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.32.1
    
    Certification of Chief Executive Officer and Chief Financial Officer
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 48




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SIGNATURE 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, in the City of Los Angeles, State of
California. Date: November 5, 2004
    
    By:
    
    /s/ TOMAS W. FULLERTomas W. FullerChief Financial Officer
 49




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EXHIBIT INDEX Exhibit No.
    
    Description31.1
    
    Certification of Chief Executive Officer Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.31.2
    
    Certification of Chief Financial Officer Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.32.1
    
    Certification of Chief Executive Officer and Chief Financial Officer
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
 50