QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(dollars in thousands unless otherwise indicated)
1.
DESCRIPTION OF BUSINESS
Quest Diagnostics Incorporated and its
subsidiaries (“Quest Diagnostics” or the “Company”) is the largest clinical
laboratory testing business in the United States. Prior to January 1, 1997, Quest Diagnostics was a wholly owned
subsidiary of Corning Incorporated (“Corning”). On December 31, 1996, Corning distributed all of the outstanding
shares of common stock of the Company to the stockholders of Corning as part of
the “Spin-Off Distribution”.
As the nation’s leading provider of diagnostic
testing and related services for the healthcare industry, Quest Diagnostics
offers a broad range of clinical laboratory testing services to physicians,
hospitals, managed care organizations, employers, governmental institutions and
other commercial clinical laboratories.
Quest Diagnostics is the leading provider of esoteric testing, including
gene-based testing, and testing for drugs of abuse. The Company is also a leading provider of anatomic pathology
services and testing to support clinical trials of new pharmaceuticals
worldwide. Through the Company’s
national network of laboratories and patient service centers, and its esoteric
testing laboratory and development facilities, Quest Diagnostics offers
comprehensive and innovative diagnostic testing, information and related
services used by physicians and other healthcare customers to diagnose, treat
and monitor diseases and other medical conditions.
During 2003, Quest Diagnostics processed over
130 million requisitions through its extensive network of laboratories and
patient service centers in virtually every major metropolitan area throughout
the United States.
2. SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES
Principles
of Consolidation
The consolidated financial statements include
the accounts of all entities controlled by the Company. The equity method of accounting is used for
investments in affiliates which are not Company controlled, in which the
Company’s ownership interest is between 20 and 49 percent and in which the
Company has significant influence. The
Company’s share of equity earnings from investments in affiliates, accounted
for under the equity method, totaled $17.4 million, $16.7 million and $10.8
million, respectively, for 2003, 2002 and 2001. All significant intercompany accounts and transactions are
eliminated in consolidation.
Use of
Estimates
The preparation of financial statements in
conformity with accounting principles generally accepted in the United States
of America requires management to make estimates and assumptions that affect
the reported amounts of assets and liabilities and disclosure of contingent
assets and liabilities at the date of the financial statements and the reported
amounts of revenues and expenses during the reporting period. Actual results could differ from those
estimates.
Reclassifications
Certain amounts reported in the Company’s
consolidated statements of operations for the years ended December 31, 2002 and
2001 have been reclassified to conform to the December 31, 2003 presentation,
which reports operating income on the face of the consolidated statements of
operations. In April 2002, the
Financial Accounting Standards Board
(“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No.
145, “Rescission of FASB Statements No. 4, 44 and 64, Amendment of FASB
Statement No. 13, and Technical Corrections” (“SFAS 145”). Pursuant to SFAS
145, the extraordinary loss associated with the extinguishment of debt in 2001,
previously presented net of applicable taxes, was reclassified to other
non-operating expenses. Certain amounts
reported in the Company’s consolidated statements of cash flows for the years
ended December 31, 2002 and 2001 have been reclassified to conform to the
December 31, 2003 presentation.
Revenue
Recognition
The Company primarily recognizes revenue for
services rendered upon completion of the testing process. Billings for services under third-party
payer programs, including Medicare and Medicaid, are recorded as revenues net
of allowances for differences between amounts billed and the estimated receipts
under such programs. Adjustments to the
estimated receipts, based on final settlement with the third-party payers, are
recorded upon settlement. In 2003, 2002
and 2001, approximately 17%, 15% and 14%, respectively, of net revenues were
generated by Medicare and Medicaid programs.
Under capitated agreements with health insurers, the Company recognizes
revenue based on a predetermined monthly contractual rate for each member of
the insurers’ health plan regardless of the number or cost of services provided
by the Company.
Taxes on
Income
The Company uses the asset and liability
approach to account for income taxes.
Under this method, deferred tax assets and liabilities are recognized
for the expected future tax consequences of differences between the carrying amounts
of assets and liabilities and their respective tax bases using tax rates in
effect for the year in which the differences are expected to reverse. The effect on deferred tax assets and
liabilities of a change in tax rates is recognized in income in the period when
the change is enacted.
Earnings
Per Share
On May 8, 2001, the stockholders approved an
amendment to the Company’s restated certificate of incorporation to increase
the number of common shares authorized from 100 million shares to 300 million
shares. On May 31, 2001, the Company
effected a two-for-one stock split through the issuance of a stock dividend of
one new share of common stock for each share of common stock held by
stockholders of record on May 16, 2001.
References to the number of common shares and per common share amounts
in the accompanying consolidated statements of operations, including earnings
per common share calculations and related disclosures, have been restated to
give retroactive effect to the stock split for all periods presented.
Basic earnings per common share is calculated by
dividing net income, less preferred stock dividends ($30 per quarter in 2001),
by the weighted average common shares outstanding. Diluted earnings per common share is calculated by dividing net income,
less preferred stock dividends, by the weighted average common shares
outstanding after giving effect to all potentially dilutive common shares
outstanding during the period. The
if-converted method is used in determining the dilutive effect of the Company’s
1¾% contingent convertible debentures in periods when the holders of such
securities are permitted to exercise their conversion rights (see Note
11). Potentially dilutive common shares
include outstanding stock options and restricted common shares granted under
the Company’s Employee Equity Participation Program. During the fourth quarter of 2001, the Company redeemed all of
its then issued and outstanding shares of preferred stock.
The computation of basic and diluted earnings
per common share was as follows (in thousands, except per
share data):
|
|
 |
2003 |
|
2002 |
|
2001 |
|
|
|
|
|
|
Net income .................................................................................... |
$ 436,717 |
$ 322,154 |
$ 162,303 |
|
Less:
Preferred stock dividends................................................. |
- |
- |
118 |
|
Net income available to common stockholders....................... |
$ 436,717 |
$ 322,154 |
$ 162,185 |
|
|
|
|
|
|
Weighted average common shares outstanding - basic....... |
103,416 |
96,467 |
93,053 |
|
|
|
|
|
|
Effect of dilutive
securities: |
|
|
|
|
Stock options................................................................................ |
2,343 |
2,879 |
3,854 |
|
Restricted common
stock............................................................ |
173 |
444 |
703 |
|
Weighted average common shares outstanding - diluted.... |
105,932 |
99,790 |
97,610 |
|
|
|
|
|
|
Basic earnings per common
share: |
|
|
|
|
Net income..................................................................................... |
$ 4.22 |
$ 3.34 |
$ 1.74 |
|
|
|
|
|
|
Diluted earnings per common
share: |
|
|
|
|
Net income..................................................................................... |
$ 4.12 |
$ 3.23 |
$ 1.66 |
