UNITED STATES DISTRICT COURT
DISTRICT OF NEW MEXICO
LAWRENCE DONNARUMMA, I. NANCY ) Civ. No. 96-0442-BB
HARKINS, and WILLIAM DASHIELL, On )
Behalf of Themselves and All Others ) CLASS ACTION
Similarly Situated, )
)
Plaintiffs, )
)
vs. )
)
ROCCO A. ORTENZIO, NEAL M. ELLIOTT, ) CLASS ACTION COMPLAINT FOR
ROBERT A. ORTENZIO, RUSSELL L. ) VIOLATIONS OF THE FEDERAL
CARSON, KLEMETT L. BELT, JR., ) SECURITIES LAWS AND THE
ERNEST A. SCHOFIELD, and HORIZON/ ) NEW MEXICO SECURITIES ACT
CMS HEALTHCARE CORPORATION, )
)
Defendants. ) Plaintiffs Demand A
) Trial By Jury
INTRODUCTION AND OVERVIEW OF ACTION
1. This is a class action brought against Horizon/CMS
Healthcare Corporation ("Horizon" or the "Company"), and certain of
its officers and directors (the "Individual Defendants"), on behalf
of all persons (the "Class") who purchased the stock of Horizon
between July 6, 1995 and March 1, 1996, inclusive (the "Class
Period"). During the Class Period, defendants disseminated
materially misleading statements about Horizon, its business, its
Greenery Rehabilitation Group ("Greenery") and Continental Medical
Systems ("Continental") acquisitions (the "Continental" and/or
"Greenery Acquisition"), Greenery's improved operations after the
acquisition, the successful integration of Continental's operations
into Horizon's and the cost savings and operating efficiencies
obtained thereby, Horizon's earnings growth and financial state-
ments, Horizon's ability to continue to achieve profitable growth
and the status and magnitude of regulatory investigations into and
audits of Horizon. By issuing these false and misleading
statements, defendants artificially inflated Horizon's stock price
from $17-1/2 on July 5, 1995 to a high of $28-1/8 in January 1996,
allowing Horizon's top insiders to unload 1,584,450 shares of their
own Horizon stock at as high as $27-5/8 per share, pocketing almost
$40 million before the true facts about Horizon's troubled opera-
tions, diminished profitability, phony financial statements and
improper Medicare billing practices were revealed and Horizon's
stock collapsed to as low as $12-3/4 per share.
2. For some years, under the leadership of Neal Elliott,
Horizon has been pursuing a strategy of aggressive growth through
acquisitions, in an effort to increase the size of the Company and
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thus, financially benefit its insiders. However, this rapid growth
and Horizon's actual (but undisclosed) poor operating results were
putting a strain on the Company's ability to continue to grow by
acquisition and Horizon's top executives knew that in order for it
to be able to continue to grow by making acquisitions, it was
imperative that they keep Horizon's stock trading at high prices so
that the stock could be used as currency to make acquisitions and
so that Horizon could make public offerings of securities to raise
cash to help fund its expanding operations.
3. On February 11, 1994, Horizon completed one of its
largest acquisitions to date -- the Greenery Acquisition. After
completing that acquisition, Horizon had difficulty integrating
Greenery's operations and improving Greenery's performance so that
it would add to Horizon's earnings. However, in order to make it
appear that Greenery was achieving growth and success under
Horizon's control, Horizon retroactively billed Medicare for
millions in fees which Greenery, in fact, had at most only a
dubious entitlement to, reporting those billings as current period
revenue, thus inflating Horizon's results and enabling Horizon to
make it appear that Greenery was making significant progress under
Horizon's management and contributing to Horizon's growing profit-
ability. During 1993-1994, Horizon's strategy seemed to be
succeeding and its stock price increased dramatically from around
$10 per share in early 1993 to as high as $30 per share in October
1994.
4. In late 1994, Horizon sensed an opportunity to make its
largest acquisition to date by acquiring Hillhaven. However, when
Horizon commenced a takeover bid of Hillhaven, Hillhaven
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vigorously, and ultimately successfully, resisted Horizon's
acquisition attempt. Because Horizon needed to constantly make
acquisitions in order to show growth and conceal the troubled
nature of its ongoing operations, its failure to complete the
Hillhaven acquisition potentially could have had a catastrophic
impact. Thus Horizon had a contingency plan to pursue to avoid
this result. First of all, prior to making a formal offer for
Hillhaven, Horizon secured the promise of a break-up fee from a
large Hillhaven shareholder if the takeover attempt failed and
Hillhaven was acquired by another entity. Horizon later grossly
overstated the amount due from the break-up fee, inflating that fee
by millions of dollars while recording it as revenue, which
artificially inflated Horizon's financial results and helped to
ameliorate the adverse impact of Horizon's failure to acquire
Hillhaven. Secondly, Horizon quickly proceeded with an acquisition
of Continental, a debt-ridden healthcare provider which had
suffered significant losses in the recent past and was controlled
by Rocco and Robert Ortenzio. In order to complete the Continental
Acquisition quickly by using its artificially inflated stock,
Horizon agreed to pay a very large premium to Continental's share-
holders beyond the level necessary to complete the acquisition and
promised the Ortenzios and Russell Carson (Continental's control-
ling shareholders) that they could sell off the Horizon stock they
would obtain in the merger quickly after the merger was
consummated, without any restrictions.
5. However, the market's reaction to Horizon's announced
intention to acquire Continental was decidedly negative. On March
31, 1995, just before the Continental Acquisition was announced,
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Horizon's stock price was $26-3/4. However, after the Continental
Acquisition was announced, Horizon's stock fell sharply, declining
to as low as $16-5/8 per share in mid-May 1995. This sharp decline
caused tremendous concern to both Horizon's insiders and
Continental's controlling shareholders as it posed a grave threat
to Horizon's plan (and pressing need) to make acquisitions using
its stock as the consideration and it greatly reduced the value of
the Horizon stock owned by Horizon's insiders and to be received by
Continental's controlling shareholders in the merger and which they
desired and intended to sell as soon as possible after the merger.
Thus, the defendants were determined to push Horizon's stock back
up to much higher levels after the Horizon/Continental merger and
realized this could only be done by presenting the Continental
Acquisition and Horizon's ongoing business in an extraordinarily
favorable light.
6. Thus, to help support Horizon's stock price and to
counteract the negative market reaction to the Continental
Acquisition, the Individual Defendants assured the market that the
continental Acquisition was a very positive step for Horizon, would
result in substantial cost savings and operations effectiveness and
would be "additive" to Horizon's earnings in fiscal 1996, enabling
Horizon to achieve fiscal 1996 and 1997 earnings per share of
approximately $1.60-$1.70 and $1.95-$2.00, respectively. After the
Continental Acquisition was completed, defendants continued to
assure investors that Continental's operations were being success-
fully integrated into Horizon's operations, that the acquisition
was very successful and was resulting in Horizon achieving cost
savings and in Horizon's competitive position being strengthened.
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They also assured the market that the Ortenzios -- the largest
shareholders of Continental -- would remain long-term holders of
Horizon stock after the merger and had no plans to sell off large
parts of the holdings in the near-term. Later, when governmental
investigations of Medicare billing fraud were announced and there
was concern that Horizon might be a target, Horizon assured
investors that the investigations would not have any adverse effect
on Horizon/Continental as their billing practices had been audited
in the past and found to be clean. And, when questions were raised
concerning Horizon's accounting practices, Horizon assured
investors that Horizon's accounting practices were legal,
appropriate and complied with Generally Accepted Accounting
Principles ("GAAP").
7. In fact, none of these positive representations were
true. Horizon was constantly artificially inflating its revenues
and earnings through accounting artifices and tricks, including
hiding operational losses in one-time, non-recurring acquisition-
related write-offs, by failing to properly reserve for or write-off
accounts receivable of doubtful collectibility, by improperly
including in current revenue retroactive Medicare billings to which
its entitlement was dubious at best and by improperly recording
inflated fees. Also, Horizon's acquisitions of Greenery and
Continental were both troubled, Horizon was having significant
problems integrating those operations into its own and was
encountering increased expenses instead of the savings claimed.
Defendants also knew that, due to Horizon's and Continental's
improper billing practices, governmental investigations would
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likely result in penalties, fines or paybacks by Horizon, which
would adversely impact its business.
8. As a result of defendants' false statements to the
market, Horizon's stock was artificially inflated throughout the
Class Period, climbing from $17-1/2 at the beginning of the Class
Period to a high of $28-1/8 per share in January 1996. Horizon's
insiders took advantage of this artificial inflation which their
false statements had caused by selling 1,584,450 of their Horizon
shares at prices as high as $27-5/8 per share, thus pocketing $39.9
million from this fraudulent scheme. Three of the Individual
Defendants (the Ortenzios and Carson) sold 90%-l00% of their
Horizon shares, while a fourth unloaded 30% of his shares,
including huge sales in January 1996, when Horizon stock reached
its Class Period high and just before negative information appeared
in the financial press attacking Horizon's accounting problems.
Just after Horizon's insiders had completed their bailout, negative
information about Horizon' s accounting practices, billing practices
and business operations did appear in the national press and, over
a short period of time, Horizon was forced to admit that its fiscal
1996 results would be far short of the levels previously forecasted
by and for it, it had to make reserves to reverse previously
recognized revenue and that governmental investigations into
Horizon's prior billing practices would likely have an adverse
impact on the Company. Horizon's stock plunged to as low as $12-
3/4 per share by mid-March 1996.
9. The charts below show the increase in Horizon stock while
defendants were issuing false and misleading statements, Horizon
insiders' stock sales at inflated prices and Horizon stock's
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collapse as the true facts were disclosed, and illustrate that,
when compared to indices of similar stocks, the movement of Horizon
stock was largely due to Company specific information as opposed to
industry or market factors:
Horizon/CMS Healthcare Corp.
July 5, 1995 - March 19, 1996
Daily Common Stock Prices
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Horizon/CMS Healthcare Corp.
vs. Dow Jones Health Care Providers Index
July 5, 1995 - March 19, 1996
Horizon/CMS Healthcare Corp.
vs. S&P Diversified Health Care Index
July 5, 1995 - March 19, 1996
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JURISDICTION AND VENUE
l0. Plaintiffs bring this action pursuant to §§10(b) and 20
of the Securities Exchange Act of 1934 (the "Exchange Act"), 15
U.S.C. §§78j(b) and 78t, and Rule 10b-5, 17 C.F.R. §240.10b-5,
promulgated thereunder, and the New Mexico Statute Ann. §§58-13B-30
and 58-13B-32.
11. The Court has jurisdiction over this action pursuant to
§27 of the Exchange Act, 15 U.S.C. §78aa, 28 U.S.C. §1331 and the
principles of supplemental jurisdiction.
12. Venue is proper in this district pursuant to §27 of the
Securities Exchange Act and 28 U.S.C. §1391(b). Many of the acts
and transactions complained of occurred in part in this district.
13. The defendants used the means and instrumentalities of
interstate commerce, including the mails and the facilities of a
national securities exchange.
CLASS ALLEGATIONS
14. Plaintiffs bring this class action pursuant to Federal
Rule 23(a) and (b)(3) on behalf of all persons who purchased or
otherwise acquired the stock of Horizon during the Class Period,
except defendants, members of their families, and any entity
controlled by them and/or any entity in which a defendant has any
interest.
15. The members of the Class are so numerous that joinder of
all members is impracticable. Horizon has more than 51 million
shares of stock outstanding. During the Class Period, millions of
shares of Horizon stock were purchased by thousands of persons at
inflated prices who were damaged thereby.
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16. Plaintiffs' claims are typical of the Claims of the Class
because plaintiffs and the Class members sustained damages from
defendants' wrongful conduct.
17. Plaintiffs will adequately protect the interests of the
class. Plaintiffs have retained counsel who are experienced and
competent in class action securities litigation and have no
interests which conflict with those of the Class.
18. Common questions of law and fact predominate over
questions which affect only individual members. Among the common
questions of law and fact are:
(a) Whether the federal securities laws were violated by
defendants' acts;
(b) Whether Horizon's statements during the Class Period
misrepresented and/or omitted material facts;
(c) Whether defendants acted intentionally or
recklessly;
(d) Whether the market price of Horizon's stock was
artificially inflated; and
(e) The extent and measure of damage sustained by the
Class.
19. A class action is superior to other available methods for
the fair and efficient adjudication of this controversy.
THE PARTIES
20. (a) Plaintiff Lawrence Donnarumma purchased l00 share of
Horizon stock on October 30, 1995, at $19-1/2 per share and was
damaged thereby.
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(b) Plaintiff I. Nancy Harkins purchased 525 shares of
Horizon stock on December 26, 1995, at 24-7/8 per share and was
damaged thereby.
(c) William Dashiell, purchased 400 shares of Horizon
stock on December 1, 1995 at $24-1/2 per share and was damaged
thereby.
21. Defendant Horizon is headquartered at Albuquerque, New
Mexico. Horizon provides acute rehabilitation services, subacute
and long-term nursing care and contract rehabilitation services.
Horizon also provides specialty healthcare services including
outpatient rehabilitation services, pharmacy, clinical laboratory,
and physician placement services, as well as medical and sleep
diagnostic services, home respiratory care and Alzheimer's care.
Horizon stock trades in an efficient market on the New York Stock
Exchange.
22. (a) Defendant Rocco A. Ortenzio ("Rocco Ortenzio") was
the Chairman and Chief Executive Officer of Continental and owned
and/or controlled 5.6 million Continental shares, prior to the
Continental Acquisition in July 1995. Subsequent to July 1995,
Rocco Ortenzio was Vice-Chairman of Horizon's Board and a member of
the Executive Committee and, as a Horizon consultant, was to
receive $50,000 per year plus $300 per hour for his "advisory
services." Because of Rocco Ortenzio's positions with Horizon and
Continental, he knew the adverse non-public information about
Horizon's accounting practices, procedures and controls, as well as
its business prospects via access to internal corporate documents
(including Horizon's and Continental's operating plans, budgets and
forecasts and reports of actual operations compared thereto),
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conversations and connections with other corporate officers and
employees, attendance at management and Board of Directors'
meetings and committees thereof and via reports and other informa-
tion provided to him in connection therewith. In exchange for his
participation in, and approval of, the Continental Acquisition,
Rocco Ortenzio received $15 million cash and was guaranteed that
stock options held by him to purchase Continental stock would
immediately vest, thus allowing him to exercise options and quickly
sell shares into the open market. During the Class Period, Rocco
Ortenzio sold one million shares of Horizon stock, 100% of his
holdings, for $25.3 million based upon undisclosed material adverse
information.
(b) Defendant Neal M. Elliott ("Elliott") is President,
CEO and a member of Horizon's Executive Committee and Chairman of
its Board. Because of defendant Elliott's position with Horizon,
he knew the adverse non-public information about its business,
finances, products, markets and present and future business
prospects via access to internal corporate documents (including
Horizon's operating plans, budgets and forecasts and reports of
actual operations compared thereto), conversations and connections
with other corporate officers and employees, attendance at
management and Board of Directors' meetings and committees thereof
and via reports and other information provided to him in connection
therewith. During the Class Period, Elliott sold 24,400 shares of
Horizon stock for $661,000 based upon undisclosed material adverse
information.
(c) Defendant Robert A. Ortenzio ("Robert Ortenzio")
was, prior to the Continental Acquisition, President and Chief
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Operating Officer of Continental and since the July 1995 acquisi-
tion, was Executive Vice President, a member of the Executive
Committee, and a director of Horizon. Robert Ortenzio is the son
of Rocco Ortenzio. Because of Robert Ortenzio's positions with
Continental and Horizon, he knew the adverse non-public information
about its business, finances, products, markets and present and
future business prospects via access to internal corporate
documents (including Horizon's operating plans, budgets and
forecasts and reports of actual operations compared thereto),
conversations and connections with other corporate officers and
employees, attendance at management and Board of Directors'
meetings and committees thereof and via reports and other
information provided to him in connection therewith. During the
Class Period, Robert Ortenzio sold 306,638 shares of Horizon stock,
99% of his holdings, for proceeds of more than $7.4 million based
upon undisclosed material adverse information.
(d) Russell L. Carson ("Carson") was, prior to July
1995, a director of Continental and thereafter a director of
Horizon. Because of Carson's positions with Continental and
Horizon, he knew the adverse non-public information about its
business, finances, products, markets and present and future
business prospects via access to internal corporate documents
(including Horizon's operating plans, budgets and forecasts and
reports of actual operations compared thereto), conversations and
connections with other corporate officers and employees, attendance
at management and Board of Directors' meetings and committees
thereof and via reports and other information provided to him in
connection therewith. During the Class Period, Carson sold at
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least 103,412 shares, or 91% of his Horizon holdings, pocketing
$2.5 million, based upon undisclosed material adverse information.
Carson serves as a director of two companies, Health Management
Systems, Inc., and Quorom Health Group, Inc., which have been sued
for securities fraud in connection with the dissemination of false
financial statements and/or fraudulent billing practices.
(e) Defendant Klemett L. Belt, Jr. ("Belt") was, prior
to January 1, 1996, Executive Vice President, a member of the
Executive Committee and a director of Horizon. Prior to September
1994, he was the Chief Financial Officer and Treasurer of Horizon.
Because of Belt's position with Horizon, he knew the adverse non-
public information about its business, finances, products, markets
and present and future business prospects via access to internal
corporate documents (including Horizon's operating plans, budgets
and forecasts and reports of actual operations compared thereto),
conversations and connections with other corporate officers and
employees, attendance at management and Board of Directors'
meetings and committees thereof and via reports and other
information provided to them in connection therewith. During the
Class Period, Belt sold at least 150,000 shares of his Horizon
stock, 30% of his holdings, at prices as high as $27.38, pocketing
more than $3.9 million based upon undisclosed material adverse
information.
(f) Defendant Ernest A. Schofield ("Schofield") is
Senior Vice President, Treasurer and Chief Financial Officer of
Horizon. Schofield was the principal executive officer in charge of
preparing Horizon's financial statements. Because of
Schofield's position with Horizon, he knew the adverse non-public
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information about its business, finances, products, markets and
present and future business prospects via access to internal
corporate documents (including Horizon's operating plans, budgets
and forecasts and reports of actual operations compared thereto),
conversations and connections with other corporate officers and
employees, attendance at management and Board of Directors'
meetings and committees thereof and via reports and other informa-
tion provided to him in connection therewith. Schofield owned no
Horizon stock and thus sold none. Defendant Schofield prepared,
reviewed and/or signed Horizon's SEC filings, including the reports
on Form 10-Q and Form 10-K, and amendments thereto for the quarters
ended August 31, 1995 and November 30, 1995 and fiscal year ended
May 30, 1995.
(g) The individuals named as defendants in ¶22(a)-(f)
are referred to as the "Individual Defendants."
23. By reason of their stock ownership, management position
and/or membership on the Company's Board of Directors, defendants
Elliott and Rocco and Robert Ortenzio were controlling persons of
Horizon and had the power and influence, and exercised the same, to
cause the Company to engage in the illegal practices complained of
herein. They are thus liable as controlling persons. Horizon in
turn controlled each of the Individual Defendants.
24. The Individual Defendants, because of their positions
with the Company, controlled and/or possessed the power and
authority to control the contents of its quarterly and annual
reports, press releases and presentations to securities analysts
and thereby the investing public. Each defendant was provided with
copies of the Company's reports and press releases alleged herein
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to be misleading prior to or shortly after their issuance and had
the ability and opportunity to prevent their issuance or cause them
to be corrected. Because of their positions and access to material
non-public information available to them but not to the public,
each of these defendants knew or recklessly disregarded that the
adverse facts specified herein had not been disclosed to and were
being concealed from the public and that the positive represen-
tations which were being made were then materially false and
misleading.
25. Each of the defendants is liable as a primary violator,
in making false and misleading statements, and for participating in
a fraudulent scheme and course of business that operated as a fraud
or deceit on purchasers of Horizon stock during the Class Period.
All of the defendants pursued a scheme in furtherance of their
common goal, i.e., achieving the Continental Acquisition and
thereafter inflating the price of Horizon stock by making false and
misleading statements and concealing material adverse information.
The fraudulent scheme and course of business was designed to and
did: (i) deceive the investing public, including plaintiffs and
other Class members; (ii) bring about the Continental Acquisition
and artificially inflate the price of Horizon stock during the
Class Period; (iii) cause plaintiffs and other members of the Class
to purchase Horizon stock at inflated prices; and (iv) increase the
value of options to purchase Horizon stock owned by certain of the
defendants, as well as their own Horizon shareholdings and permit
them to sell off their holdings at artificially inflated levels to
profit from the scheme.
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26. The defendants' motive to engage in this scheme included
to ensure that the Continental Acquisition took place, to inflate
the price of Horizon's stock and to: (i) in the case of the
Individual Defendants, who were officers of Continental and/or
Horizon -- cover up and conceal their mismanagement of Continental
and/or Horizon while protecting and enhancing their executive
positions and the substantial compensation and prestige they
obtained thereby; (ii) in the case of all Horizon insiders except
Schofield -- enhance the value of their holdings of Horizon stock
and/or options to purchase Horizon stock; (iii) in the case of the
controlling shareholders of Continental (i.e., the Ortenzios and
Carson) -- allow Horizon to acquire Continental at a large premium
so that they could then bailout of their Horizon shares; (iv)
inflate the reported profits of the Company or falsify its progress
in order to obtain larger payments under the Company's officer
bonus compensation plan and/or via discretionary individual
performance bonuses; and (v) permit Horizon insiders to sell off
some of their Horizon stock at inflated prices.
HORIZON'S INTERNAL FORECASTS
PLANS AND PROJECTIONS
27. A key management tool for members of Horizon's Executive
Committee (Elliott, Rocco Ortenzio, Belt and Robert Ortenzio) and
Horizon's other top executives was Horizon's annual budget or
forecast, by which the Company's Board, after input from top
executives, set performance goals and then closely monitored the
Company's actual performance, compared to that budgeted and/or
forecasted. Horizon prepared its fiscal 1996 forecast and budget
by early 1995 and then updated it in connection with the
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Continental Acquisition and other subsequent material events. Each
of the Individual Defendants was aware of Horizon's and
Continental's fiscal forecasts and budgets and of internal reports
comparing their actual results to those budgeted and/or forecasted.
Based on the negative internal reports of the Company's actual
performance compared to that budgeted and forecasted as well as
adverse information acquired by defendants in connection with the
Continental Acquisition, the Individual Defendants each knew that
Horizon's business was not performing as well as publicly
represented, that Horizon was making improper Medicaid and/or
Medicare submissions, improperly recognizing revenue and was and
would continue to encounter substantial problems integrating
Continental's contract therapy operations with Horizon's, and that
absent the accounting artifice described herein could not achieve
the earnings growth for fiscal 1996 being forecast by and for it.
Thus, defendants each knew that the public statements issued during
the Class Period about Horizon and Continental, as specified
herein, were false or misleading when made and were inflating the
price of Horizon stock.
STATUTORY SAFE HARBOR
28. The statutory safe harbor provided for forward-looking
statements under certain circumstances does not apply to any of the
allegedly false statements pleaded in this Complaint. None of the
statements pleaded in ¶¶6, 27, 32, 34, 37-44, 47-49, 51-59, 63-66,
69 and 71-76, were identified as "forward-looking statements" when
made. Nor was it stated that actual results "could differ
materially from those projected." Nor did meaningful cautionary
statements identifying important factors that could cause actual
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results to differ materially from those in the forward-looking
statements accompany those statements. Alternatively, to the
extent that the statutory safe harbor does apply to any statement
pleaded herein, including those in ¶¶6, 27, 32, 34, 37-44, 47-49,
51-59, 63-66, 69 and 71-76, the defendants are liable for those
false forward-looking statements because at the time each of those
forward-looking statements was made, the speaker knew the forward-
looking statement was false and the forward-looking statement was
authorized and/or approved by an executive officer of Horizon or
Continental who knew that each such statement was false when made.
THE FRAUDULENT SCHEME AND COURSE OF BUSINESS
29. Horizon was founded in 1986 by Elliott and Belt, former
Vice-Presidents of Hillhaven. Elliott and Belt caused Horizon to
embark on an ambitious growth by acquisition plan, growing from 15
facilities in May 1987 to 81 nursing centers, four specialty
hospitals and four "subacute" facilities by mid-1993. However, to
achieve the level of prominence, prestige and wealth that they
sought, Elliott, Belt and Horizon's other insiders needed to
continue to grow Horizon at a rapid rate. To achieve this growth,
Elliott, Belt and Horizon's other executives realized that they
would have to maintain the price of Horizon's stock at a high level
so that it could continue to be used to acquire other companies and
so that Horizon could raise badly needed additional capital by the
sale of its securities to the public. This required that Horizon
report strong, growing profits which would indicate to the market
that Horizon's acquisitions were successful, were being integrated
and operating successfully, achieving cost savings and contributing
to Horizon's earnings growth.
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30. As part of Horizon's growth plan, Horizon negotiated 14
acquisitions during 1994, including the $85 million acquisition of
Greenery, a very significant acquisition that increased Horizon's
annual revenues by $175 million. Horizon repeatedly expressed
"enthusiasm" for this acquisition and characterized it as a
"positive" move for Horizon. Because Horizon expended over $60
million in cash in connection with various acquisitions during
1994, Horizon needed to conduct a secondary stock offering in order
to raise over $125 million by selling five million shares at $25-
3/4 per share in late November 1994.
31. In late 1994, Elliott sensed an opportunity for his
ultimate "victory," i.e., to acquire Hillhaven, the company he left
to form Horizon. Horizon announced a one billion dollar bid for
Hillhaven in January 1995. This attempt was rebuffed and Horizon
gave up. However, because of the pressure on Horizon to make
acquisitions, Elliott had arranged for an alternative acquisition
(albeit a far less attractive one), in the event of a Hillhaven
rejection. Elliott had arranged for Horizon to acquire
Continental, a debt-laden and troubled rehabilitation concern run
by Elliott's close friends, the Ortenzios.
32. On March 31, 1995, Horizon announced the Continental
Acquisition, in which Continental shareholders were to receive
Horizon shares based upon a formula utilizing the average closing
price of Horizon stock over a designated period of time --
basically a $.50 share of Horizon for each Continental share.
Anticipating a negative market reaction to its acquisition of this
debt- and loss-ridden company, Horizon issued a reassuring press
release stating:
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Commenting on the merger, Horizon's Chairman and CEO
Neal Elliott noted, "We are very exited about the merger
with Continental Medical Systems, Inc. The merger will
create the largest specialty health care company in the
United States . . . . This consolidation will enhance
our efforts with managed care organizations as we
together seek cost-efficient, quality results."
Mr. Elliott continued, "Significant Savings and
economies of scale, as well as the synergies we have
identified convince us that the merger will be accretive
to earnings and immediately have a positive impact on the
combined earnings."
* * *
Commenting on the proposed merger, Rocco Ortenzio,
Chairman and CEO of Continental Medical Systems, Inc.,
made the following statement: "The combination of these
two quality health care companies represents a tremendous
opportunity. The merger will establish a much stronger
system for the consistent delivery of acute rehabili-
tation and economical therapy services to the long-term
care and subacute industry, and will establish a
foundation to immediately expand contract therapies from
both related and non-related facilities. When CMS is
combined with Horizon, I believe the full potential from
our contract rehabilitation division and the full
potential of our first class facilities and excellent
professional staff will be realized.
33. Horizon agreed to pay approximately $13 per Continental
share, when Continental's shares were trading at around $6.50 per
share, a very large and unjustified premium, but necessary to be
paid to get the Ortenzios and Carson to agree to sell the company
to Horizon. Continental's low stock price reflected its opera-
tional problems and losses of $34.5 million in the prior fiscal
year. Horizon was willing to pay this unjustified premium for
Continental to ensure that Horizon's string of acquisitions could
continue and it could continue to cover up its poor operating
results through accounting chicanery it used in connection with its
mergers/acquisitions. Because of the Continental shares controlled
by the Ortenzios and other Continental board members, they were
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willing to accommodate Elliott and consummate the merger while
taking Horizon shares at what they knew were inflated prices, as
they were getting a huge premium and would be able to bail-out of
their Horizon shares quickly after the merger. Thus, Continental's
insiders went along with the merger, including using financial
advisors for Continental's shareholders who were beholden to
Horizon, in exchange for "golden parachute" payments and the
agreement that there would be no restraint on their ability to
immediately dump the Horizon shares they would receive at inflated
prices in the acquisition.
34. When the Continental Acquisition was announced, Horizon
stock fell by $4-1/2 per share. In order to try to cushion this
adverse reaction to the merger and to support Horizon's stock
price, defendants communicated with securities analysts, during
which Elliott, Rocco Ortenzio and Belt issued false statements to
reassure them and the market of the benefits of the Continental
Acquisition. They represented that the acquisition was "a strong
strategic move" and that Continental's operations were a
"compliment" to Horizon's. They further represented that the
Continental Acquisition would add to Horizon's earnings. They also
told analysts that:
• The acquisition would result in margin enhancements
and the resulting cost savings would go beyond the $7.2
million initially forecast. The transaction would be
highly "additive to fiscal 1996 earnings" and Horizon
would realize substantial cost savings in the combination
of the two firms' contract therapy businesses.
• Horizon felt confident that it could further improve
profitability ratios and Horizon would "glean further
revenue enhancements . . . and profit margin improvement
. . . that will make the deal accretive to earnings in
fiscal 1996."
- 22 -
• Horizon had confidence that the merger would add
$0.10 to $0.15 a share to its fiscal 1996 earnings,
leading to EPS of $1.65-$1.70.
35. Defendants' initial attempts to stem the decline of
Horizon stock were not successful and Horizon's stock continued to
fall to as low as $16-5/8 per share. This decline exacerbated
defendants' concerns, as it limited their ability to profit from
the sales of their Horizon stock and Horizon's ability to use its
stock for the acquisitions which were necessary for Horizon to
continue its growth and accounting trickery which concealed
Horizon's poor operating results and its true financial condition.
These concerns were further aggravated during May 1995 when the
federal government announced an investigation to uncover fraud in
connection with Medicare and Medicaid reimbursements. This added
downward pressure on Horizon's stock given concern that it might be
a target. However, Horizon assured the market that the investi-
gation would not be a problem for Horizon, as it had been audited
before and had "outstanding billing controls."
36. In connection with Horizon's fiscal 1995 year-end audit,
defendants also became aware that, due to losses Horizon had
incurred based on the impairment of assets it held, Horizon would
be unable to achieve its 1995 fiscal fourth quarter projected
earnings of $0.33 per share. However, they know that to miss
Horizon's earnings forecast would intensify the downward pressure
on Horizon's stock, which they were determined to push higher. To
cover up this earnings shortfall, defendants inflated Horizon's
reported earnings from ongoing operations by treating the write-
down of certain assets as a one-time charge for "discontinued
operations," hoping investors would discount this loss relating to
- 23 -
discontinued operations in evaluating Horizon's fiscal 1995 results
and allow Horizon to appear to meet the earnings projections for
its fiscal 1995 ongoing operations.
37. On June 19, 1995, Horizon issued a release entitled
"Horizon Anticipates Meeting Year-end Expectations," which stated
that Horizon would sell eight facilities, that the "disposition
will be treated as discontinued operations" and that the
"management of Horizon anticipates that no further charges for the
discontinued operations will be incurred during fiscal year 1996."
The release also stated that Horizon was "very confident" that
these actions had resulted in "significant progress toward
structuring the organizations and programs of the combined
companies."
38. On June 19, 1995, while speaking at the Montgomery
Securities Healthcare Conference in San Francisco, Elliott assured
investors that Horizon had earned $0.33 for the fourth quarter of
1995, continued to stress the "synergies" to be derived from the
Continental acquisition and assured investors that these synergies
would lead to EPS of $1.60-$1.70 in fiscal 1996 for Horizon.
FALSE OR MISLEADING STATEMENTS
MADE DIRECTLY OR INDIRECTLY BY
DEFENDANTS DURING THE CLASS PERIOD
39. The statements reflected in ¶¶34-35 and 37-38 above, were
"alive" and uncorrected on July 6, 1995, and were part of the total
mix of information then affecting the price of Horizon stock.
40. On July 6, 1995, Horizon announced that the Continental
Acquisition had been approved and would "provide a competitive
advantage" to Horizon. On July 6, 1995, Elliott communicated with
securities analysts and told then that the Continental acquisition
- 24 -
was going very well and that Horizon would earn $1.65-$1.70 in
fiscal 1996. Analysts reported this information to the market
where it became part of the total mix of information affecting
Horizon's stock price.
41. On July 10, 1995, Horizon issued a release stressing the
benefits of the Continental Acquisition:
Commenting on the merger, Neal Elliott, Horizon's
chairman and CEO, noted, "the merger represents a
significant growth opportunity for our company . . . .
Significant savings and economies of scale will result
from the consolidation of corporate overhead, revenue
enhancement and cost savings in contract therapy . . . ."
42. On July 12, 1995 Horizon issued a release reporting
"record" fiscal 1995 fourth quarter and 1995 fiscal year results.
The release stated:
Horizon Healthcare Corporation today announced record
results for its fourth quarter and fiscal year ended May
31, 1995. . . . Net earnings from continuing operations
for the quarter increased 68 percent to $10.7 million or
$.36 per share from $6.3 million or $.27 per share fully
diluted from the same period of the prior fiscal year.
For the fiscal year ended May 31, 1995 Horizon's . . .
net earnings from continuing operations for the year
ended May 31, 1995 were $37.7 million or $1.40 per share,
a 115 percent increase over the net earnings from
continuing operations of $17.5 million or $.95 per fully
diluted share in fiscal 1994.
* * *
Commenting on the quarter and year end results,
Horizon's Chairman and CEO Neal Elliott stated, "We are
pleased with the positive results for the fourth quarter
in our history. The strong financial performance marks
our twenty-fifth straight quarter of increased
profitability and demonstrates our continued strong
growth trends. Our outstanding year-to-year comparisons
are due to the continued growth of our higher margin
specialty medical services and programs, continuing
improvement quality mix and operating efficiencies, as
well the continued strong growth through selective
acquisitions in our base business."
* * *
- 25 -
CONTINENTAL MEDICAL SYSTEMS MERGER
* * *
"In addition, significant savings and economies of
scale will result from the consolidation of services and
synergies will be realized as we begin to introduce
Horizon's broad spectrum of specialty services into the
CMS hospitals, which will positively impact earnings.
* * *
"We expect continued strong growth in our
rehabilitation business during fiscal 1996. The merger
with CMS will increase the number of therapists employed
by Horizon to 5,000 and will establish a much stronger
system for the delivery of economical therapy services,
and will establish a foundation to immediately expand
contract therapies to both related and non-related
facilities in our areas of regional concentration.
. . . [W]e have developed our future operating plans. We
remain confident that we will sustain current margins
under potential new plans."
* * *
"Fiscal 1995 has been a significant year for
Horizon. The Greenery and peopleCARE mergers were
successfully integrated into Horizon's overall operations
. . . . The CMS merger will create strong synergies and
future opportunities. We plan to continue to expand the
different lines of business and are confident about
continued earnings growth. The Company's financial
condition is strong . . . ."
43. On July 12, 1995 Horizon executives Elliott and Schofield
communicated with securities analysts and told them:
• The Continental and Greenery Acquisitions were going
very well.
• Horizon was achieving significant progress with and
benefits from the two acquisitions, both of which would
be accretive to earnings in fiscal 1996.
• Horizon was confident of success with the
Continental merger.
• Horizon expected to achieve strong earnings per
share growth in the range of 30%, with fiscal 1996
earnings per share reaching approximately $1.60-$1.70.
- 26 -
Analysts reported this information to the market where it became
part of the total mix of information affecting Horizon's stock
price.
44. In the few days prior to July 17, 1995, Horizon, through
Elliott and Schofield, spoke to securities analysts with Merrill
Lynch and Alex. Brown and told them that Horizon expected to earn
$1.60-$1.70 per share in fiscal 1996 "to reflect accretion" from
the Continental Acquisition, due in part to "the cost cutting
program that is currently underway at CNM's former contract therapy
subsidiary." Horizon also indicated that Rocco and Robert Ortenzio
would remain long-term holders of Horizon. This was important. If
the Ortenzios were willing to retain their Horizon holdings as
Continental's operations were integrated, this was a sign of
confidence in Horizon's ongoing operations and financial
performance. Analysts reported this information to the market
where it became part of the total mix of information affecting
Horizon's stock price. On July 20, 1995, Rocco Ortenzio filed a
Form 13D confirming his intention to reduce his Horizon holdings
"over time . . . through dispositions" but that he had "no
immediate intentions" involving his Horizon holdings. This was a
lie, as they planned to unload their holdings as quickly as
possible and they sold off nearly 100% of their holdings in the
next six months!
45. These positive representations and assurances were well
received by the market and were successful in reinflating Horizon's
stock from $17-1/2 on July 5, 1995 to $22-7/8 on July 20, 1995, a
31% increase in just 11 trading sessions.
- 27 -
46. Each of the positive statements about Horizon's business
and the benefits to be derived from the Continental and Greenery
Acquisitions made by defendants as set forth in ¶¶39-44 was
materially false and misleading when issued and failed to disclose
the following adverse information, disclosure of which was
necessary to make the statements made not false or misleading, and
which facts were then known only to defendants due to their access
to Continental and Horizon internal corporate data:
(a) Because of Continental's troubled operations and
substantial uncollectible accounts receivable, the acquisition
would neither provide a competitive advantage to Horizon nor add to
its earnings;
(b) Because of the serious operational problems in
Continental's contract rehabilitation therapy division, the
Continental Acquisition would not provide "significant savings" or
"economies or scale" or strong synergy to the combined companies;
(c) That Horizon had not really achieved "record" fourth
quarter fiscal year results, nor was it experiencing "continued
strong growth trends" as the Company was able to meet the financial
forecasts made by it or on its behalf only by falsifying its
financial results through accounting tricks and artifices, as
detailed in ¶¶81-101;
(d) That without continuing improper billing practices,
Horizon would not be able to achieve continued strong growth in
fiscal 1996;
(e) That the Ortenzios did not intend to remain
long-term holders of Horizon stock but rather planned to quickly
sell off virtually all of their holdings before the true facts
- 28 -
concerning Horizon's and Continental's troubled operations became
publicly known; and
(f) Forecasts of fiscal 1996 earnings per share of
$1.60-$1.70 per share and earnings per share growth of 30% in
fiscal 1996 for Horizon were known by defendants to be false as
they were contradicted by the adverse facts set forth in (a)-(d)
above.
47. On August 1, 1995, Salomon Brothers issued a report on
Horizon. Prior to issuing this report, Salomon met with, inter-
viewed and/or obtained the key information contained in this report
from Horizon executives including Elliott and Schofield. Horizon
reviewed and approved this Salomon Brothers report before it was
issued, knowing that the report would be publicly released and
become part of the total mix of information affecting Horizon
stock. The report stated that "the merger will be additive to
Horizon's earnings," and forecast fiscal 1996 earnings per share of
$1.60 for Horizon because of the "near-term operating efficiencies,
synergies and cost savings" to be derived by Horizon from the
Continental Acquisition. The report also stated:
Importantly, Continental and Horizon management had
already begun to implement a restructuring of
Continental's contract therapy business before the merger
closed, yielding an estimated $12 million in annualized
cost reductions. . . . [M]anagement believes the
consolidation of the two therapy organizations will yield
pretax expense savings of $5 million and also contribute
incremental revenue through improved efficiency and
retention of therapists.
We believe that the merger between Horizon and
Continental is a strategic and financial positive for
Horizon and its shareholders. Initially, we forecast
significant operating efficiencies and cost savings as
the two companies combine operations. Going forward, we
believe that Horizon/CMS is well positioned to gain a
dominate market share in a number of markets by building
- 29 -
a network of inpatient facilities and outpatient clinics
to provide a full continuum of rehabilitation and
subacute care. With increasing market share and consoli-
dation cost efficiencies, we believe that Horizon/CMS
will have a distinct advantage in competing for managed
care contracts.
This report was reproduced and distributed by Horizon to investors,
shareholders and others seeking information about Horizon and thus
was adopted and endorsed by Horizon.
48. On August 9, 1995, Horizon announced that the SEC had
denied Horizon's previous treatment of its fiscal 1995 year-end
asset sales as a non-operating loss. This forced Horizon to
restate its fourth quarter fiscal 1995 earnings downward to $0.28.
However, in connection with the August 9, 1995, announcement and to
counteract any negative impact from this announcement, Horizon
conducted a conference call for analysts in which Elliott and
Schofield reiterated that despite the fact that losses attributable
to these facilities would now have to be continued to be recorded
during fiscal 1996, Horizon would be able to meet EPS estimates.
They assured analysts that: (1) operating losses from the eight
facilities had stabilized; (2) the fundamentals of Horizon's
business were very strong and would offset these losses; and (3)
assimilation of the Continental Acquisition was proceeding ahead of
expectations. Furthermore, Elliott confirmed earnings per share
projections of $1.60-$1.65 for fiscal 1996. Analysts reported this
information to the market where it became part of the total mix of
information affecting Horizon's stock price. These representations
were successful in supporting Horizon stock at artificially
inflated levels.
- 30 -
49. On August 30, 1995, Horizon filed its fiscal 1995 Report
on Form 10-K, signed by each of the defendants. In addition to
containing Horizon's false financial statements, the 10-K stated:
Management of the Company has begun implementation
of its consolidation plan with CMS and believes that
there are significant synergies to be realized,
particularly through (a) revenue enhancement and cost
savings from consolidation of contract therapy opera-
tions; (b) margin improvements from enhanced utilization
of contract therapists; . . . [and] (d) the consolidation
of corporate overhead . . . .
50. Having helped to boost Horizon's stock back up to the
$23+ level and as the undisclosed problems afflicting Horizon and
its newly acquired subsidiary Continental were intensifying, the
Ortenzios and Carson began unloading their Horizon stock, selling
some 161,000 Horizon shares at prices as high as $23.50 per share,
for proceeds of more than $3.6 million, between September 15 and
October 13, 1995.
51. While these defendants were selling off their Horizon
stock, on September 19, 1995, NatWest issued a report on Horizon,
authored by M. Conway. Prior to issuing this report, Conway had
discussions with Horizon executives, including Elliott and
Schofield, who provided Conway with the information for the report.
Horizon reviewed and approved this NatWest report before it was
issued, knowing that the report would be released and become part
of the total mix of information affecting the price of Horizon
stock. This report stated that Horizon expected 25% earnings gains
in the first quarter of fiscal 1996 and that larger gains were
likely in subsequent quarters of 1996 given that the Continental
merger would function as "a key catalyst of profit growth" in 1996.
Focusing on the benefits being derived from the Continental
- 31 -
acquisition the report stated that Horizon was experiencing
"significant cost savings and sizeable revenue enhancements . . .
right out of the gate" and would have a positive net income effect
for fiscal 1996 of approximately $16 million. Horizon reproduced
and distributed this report to investors, shareholders and others
seeking information about Horizon and thus was adopted and endorsed
by Horizon.
52. On September 20, 1995, Horizon issued a press release
reporting the results of its first fiscal quarter, ended August 31,
1995 which stated:
Horizon/CMS reported net earnings of $18.6 million or
$.36 per share . . . . Net earnings for the quarter
. . . represented a 53.7 percent . . . increase . . .
over net earnings of $12.1 million . . . on a restated
combined Horizon/CMS basis. . . .
Commenting on the quarter, Horizon's Chairman and
CEO, Neal Elliott stated: "We are pleased with the
positive results achieved during our first quarter of
combined consolidated operations with CMS. . . ."
COMBINING COMPANIES
"During the first quarter we completed the merger of
CMS into Horizon and implemented previously established
plans. As examples: elimination of duplicate corporate
functions; restructured the organization of our contract
therapy companies; initiated the process of introducing
ancillary services into the CMS acute rehabilitation
facilities; tendered an offer to retire the CMS bonds and
expanded the Company's bank lines. Finally we made
significant progress towards consolidating the Horizon/
CMS information systems at the corporate headquarters in
Albuquerque, New Mexico."
* * *
CONTRACT REHABILITATION THERAPIES
Commenting on the progress of the contract therapy
division, Mr. Elliott noted, "We completely realigned
CMST and CRC during the first quarter. We designated
Charles Gonzales as CEO of the combined entity and
promoted Jack Egan from President of Rehabworks to
President of the combined entity. . . . During the
- 32 -
remainder of fiscal 1996, they will focus on customer
relations, productivity and operational efficiencies and
will continue to consolidate certain functions and take
advantage of opportunities to increase operating margins.
We will also institute a company wide therapist retention
program to reduce our therapist turnover rate."
53. On September 20, 1995, Horizon executives communicated
with securities analysts, during which Elliott and Schofield told
them that:
• One of the main reasons for Horizon's strong
performance was the successful integration of the
Continental and the Horizon contract therapy divisions.
• Horizon would experience even stronger gains in the
subsequent quarters of fiscal 1996. The Company's
expected growth rate was at least 25%.
• Horizon achieved significant cost savings and
sizable revenue enhancements "right out of the gate" from
the Continental Acquisition.
• Horizon had made "significant progress" in integ-
rating Continental's operations. Horizon's performance
continued to be among the best in the industry which
would ensure continued solid EPS gains.
• Horizon was forecasting fiscal 1996 EPS of $1.60-
$1.65 with fiscal 1997 EPS of $1.95.
Analysts reported this information to the market where it became
part of the total mix of information affecting Horizon's stock
price.
54. During the first week of October 1995, Elliott, Schofield
and other senior Horizon executives had a series of meetings with
analysts, including Alex. Brown analyst J.L. Swenson and Dean
Witter analyst D.S. Mackesy, and assured them that Horizon's
revenues and earnings growth would withstand proposed changes in
federal fundings of the Medicare and Medicaid programs. They
represented that substantial improvements in Continental's therapy
division had already occurred and that Horizon's contract therapy
- 33 -
division had no material billing problems and that actions had been
taken which would ensure "continued" earnings growth for Horizon.
These analysts reported this information to the market where it
became part of the total mix of information affecting Horizon's
stock price.
55. On October 3, 1995, Horizon executives, including
Elliott, met and communicated with securities analysts and assured
them that Horizon was continuing to experience substantial earnings
growth and that the Continental Acquisition would "continue" to
have a positive impact on Horizon's earnings. They assured
analysts that Horizon's performance was the best in the industry
and forecast that Horizon would earn $0.38, $0.41 and $0.45,
respectively, in the second, third and fourth quarters of fiscal
1996. Analysts reported this information to the market where it
became part of the total mix of information affecting Horizon's
stock price.
56. On October 12, 1995, DLJ Securities ("DLJ") issued a
report on Horizon. Prior to issuing this report, DLJ had
discussions with Horizon executives, including Elliott and
Schofield, who provided DLJ with the information for the report.
Horizon reviewed and approved this DLJ report before it was issued,
knowing that the report would be released and become part of the
total mix of information affecting the price of Horizon stock. The
report forecast fiscal 1996 earnings per share of $1.60 and stated
that Horizon's contract therapy division was "progressing in line
with management's expectations," that the "synergies" from the
consolidation of the operations of Continental and Horizon would
provide a $16 million benefit in fiscal 1996 and that Horizon would
- 34 -
earn approximately $1.60 per share in fiscal 1996. The report was
reproduced and distributed by Horizon to investors, shareholders
and others seeking information about Horizon and thus was adopted
and endorsed by Horizon.
57. On October 25, 1995, Horizon executives Elliott and
Schofield told Dean Witter that they expected continued solid EPS
gains at the Company and a continued successful assimilation of
Continental. This information was reported to the marketplace by
Dean Witter and became part of the total mix of information
affecting Horizon's stock price.
58. On November 1, 1995, Horizon issued its fiscal 1995
Annual Report to Shareholders. The Report contained Horizon's
false financial statements and also a letter, signed by Elliott,
which stated:
. . . I would like to highlight the merger of these two
quality healthcare companies and the tremendous oppor-
tunities which will be created by the new Horizon/CMS
Healthcare Corporation going forward into fiscal 1996 and
beyond.
* * *
Aside from the strategic considerations, the merger will
be accretive to Horizon/CMS earnings per common share in
fiscal 1996.
59. On or about November 10, 1995, Horizon executives Elliott
and/or Schofield told DLJ that Horizon projected earnings per share
of between $1.55-$1.65 for fiscal 1996 and that profit margins were
improving in CMS's rehabilitation hospital and contract therapy
business. This information was reported to the marketplace and
became part of the total mix of information affecting Horizon's
stock price.
- 35 -
60. On or about November 10, 1995, Horizon announced another
large acquisition in which it would exchange 2.78 million newly-
issued Horizon shares to acquire Pacific Rehabilitation & Sports
Medicine, Inc. Defendant Elliott stated that he was "very excited"
about the acquisition, noting that it would "be accretive to
earnings."
61. Each of the positive statements about Horizon's business
and the benefits to be derived from the Continental acquisition
made by defendants as set forth in ¶¶47-59 was materially false and
misleading when issued and failed to disclose the following adverse
information, disclosure of which was necessary to make the
statements made not false or misleading, and which facts were then
known only to defendants due to their access to Continental and
Horizon internal corporate data:
(a) That because of Continental's troubled operations
and substantial uncollectible accounts receivable, the acquisition
would neither provide a "distinct competitive advantage" to Horizon
nor add to its earnings;
(b) That because of the serious operational problems in
Continental's contract rehabilitation therapy division and due to
the fact that many of the contracts were not profitable, the
Continental Acquisition would not provide "significant operating
efficiencies" or "cost savings" or "economies of scale" or positive
synergy to the combined companies;
(c) That Horizon was not "ahead of schedule" in
assimilating Continental's operations, had not made "significant
progress" consolidating the operations of Horizon and Continental,
nor was it "successful" in integrating Continental into Horizon or
- 36 -
making "progress in line" with expectations in that regard, as, in
fact, Horizon was encountering serious and persistent problems and
difficulties in putting Horizon's and Continental's operations
together, which was resulting in inefficiencies, waste and
excessive costs;
(d) That the results from the Company subsequent to the
Continental acquisition were not "ahead of expectations" but rather
the integration of the companies was faltering badly as Horizon was
having serious problems trying to merge the contract therapy
operations of the two companies;
(e) That the fundamentals of Horizon's business were not
"very strong" and in fact, Horizon's contract therapy unit was
suffering decreasing growth and/or decreasing revenues;
(f) That due to the billing problems discussed above and
the serious operational problems at Horizon and Continental,
Horizon could not achieve margin expansion from the Continental
merger, given that Horizon's margins were not materially better
than Continental's due to strong operations or superior management,
but rather, were the result of improper billing and accounting
practices;
(g) That the Continental merger was not acting as a
"catalyst" of profit growth in 1996, as, in fact, the combined
contract therapy divisions were experiencing declines in revenues
and earnings;
(h) That Horizon was not experiencing cost-savings or
operational efficiencies due to the Continental Acquisition, but
rather, was experiencing substantial difficulty in attempting to
merge the two organizations resulting in excessive expenses;
- 37 -
(i) That the Company's earnings growth for the first
quarter of fiscal 1996 was not the result of Continental having
been successfully integrated into Horizon, but rather was the
product of improper billing and accounting manipulation as alleged
in ¶¶81-101;
(j) That certain of Horizon's contract therapy clients
had told Horizon that they would be moving a substantial portion of
their business in-house; therefore, Horizon would not achieve "even
stronger gains" in earnings in the subsequent quarters of fiscal
1996 and would not grow at 20%-25%;
(k) That Beverly Enterprises, the largest contract
therapy client of the Company had indicated it would be reducing
its purchases by at least 50% in fiscal 1996 and would reduce them
further in fiscal 1997;
(l) That Horizon's performance was not "among the best
in the industry" but was the result of billing fraud and accounting
tricks, while some of its operations, including the contract
therapy business, were suffering material declines;
(m) That Horizon's contract therapy division was
improperly billing the federal government in connection with the
Part B Medicaid and Medicare programs and these billing practices
exposed Horizon to substantial repayment and rebasing investi-
gations which would hurt Horizon's future results;
(n) That Horizon's contract therapy unit had been
informed by at least three clients that they would be reducing
their use of Horizon's services; and
(o) That the forecasts of $1.55-$1.65 earnings per share
for fiscal 1996 and $0.38 and $0.41, respectively, for the second
- 38 -
and third quarters of fiscal 1996 and of $1.95 for fiscal 1997 were
known by defendants to be false as they were contradicted by the
adverse facts set forth above.
62. In December 1995, Horizon began work on a huge $200
million offering of Senior Subordinated Notes to be underwritten by
DLJ Securities, Merrill Lynch and Alex. Brown, the proceeds of
which were badly needed by Horizon to repay its mounting bank debt.
63. On December 15, 1995, Dean Witter issued a report on
Horizon, authored by D.S. Mackesy. Prior to issuing this report,
Dean Witter had discussions with Horizon executives, including
Elliott and Schofield, who provided Dean Witter with the
information for the report. Horizon reviewed and approved this
Dean Witter report before it was issued, knowing that the report
would be released and become part of the total mix of information
affecting the price of Horizon stock. The report stated:
We believe that continued solid EPS gains at the company
combined with the assimilation of the CMS acquisition
(which closed on July 10, 1995) are two items that should
be positive for the stock in the coming quarters. The
fundamental performance at Horizon/CMS continues to be
among the best in the industry, in our opinion, led by an
ongoing shift toward a greater percentage of higher
acuity (and higher margin) ancillary services and
revenues. In addition, the company has reduced its
exposure to potential negative changes in reimbursement
as a result of Medicare and Medicaid proposals through the
acquisition of CMS.
The report was reproduced and distributed by Horizon to investors,
shareholders and others seeking information about Horizon and thus
was adopted and endorsed by Horizon.
64. On December 20, 1995, it was reported that Horizon had
reached a 10-year agreement to manage 124 long-term care centers
for the State of Texas. Commenting on the agreement, Horizon Vice
- 39 -
President Michael Seeliger stated "'We expect this will be
immediately additive to earnings per share.'"
65. On or about December 21, 1995, Horizon issued a press
release reporting "record" second quarter fiscal 1996 results. The
press release focused on Horizon's "strong" financial performance
for the quarter ended November 30, 1995, stating:
Horizon/CMS Healthcare Corporation today announced the
results of operations for its second fiscal quarter,
ending November 30, 1995. Horizon/CMS reported net
earnings of $19.5 million or $.38 per share . . . .
* * *
Commenting on the quarter, Horizon's Chairman and
CEO, Neal Elliott stated: "We are pleased with the
positive results during the second quarter. This strong
financial performance while we are integrating the
recently acquired CMS continues to demonstrate the
strength of our diversification strategy."
COMBINING COMPANIES
"During the second quarter, we continued to
implement the previously established CMS integration
plans. As examples, we eliminated duplicate corporate
functions; [and] enhanced the efficiency of our contract
therapy companies . . . ."
* * *
CONTRACT REHABILITATION THERAPIES
Commenting on the progress of the contract therapy
division, Mr. Elliott noted, "During the second quarter
we saw CMS Therapies (CMST), our contract therapy
division, strengthen as a result of the actions taken by
Horizon's management since the merger."
66. On December 21, 1995, Horizon executives, including
Elliott and Schofield, spoke with securities analysts and told them
that:
• Horizon's 81% growth in operating earnings was
driven by the continued successful consolidation of CMS
into Horizon's ongoing operations.
• Horizon's earnings growth was accelerating.
- 40 -
• Horizon's Continental Acquisition was succeeding and
reducing expenses.
• Horizon anticipated a 25-30% earnings gain in the
second half of fiscal 1996 with earnings for the third
quarter of fiscal 1996 to reach $.41, for the fiscal 1996
year to reach $1.60 and for fiscal 1997 to reach $1.95-
$2.00 per share.
Analysts reported this information to the market where it became
part of the total mix of information affecting Horizon's stock
price.
67. Each of the positive statements about Horizon's business
made by defendants as set forth in ¶¶63-66 was materially false and
misleading when issued and failed to disclose the following adverse
information, disclosure of which was necessary to make the
statements made not false or misleading, and which facts were then
known only to defendants due to their access to Continental and
Horizon internal corporate data:
(a) That because of serious operational problems in the
Horizon/Continental contract rehabilitation therapy division, the
Continental Acquisition had not "strengthened" that division or led
to "enhanced effectiveness" in that division;
(b) That Horizon had not experienced "continued solid
earnings per share gains," nor was the Company's "fundamental
performance among the best in the industry," as the Company was
able to report its strong results only through accounting tricks
and artifices, as detailed in ¶¶81-101 and the Company was
suffering from serious undisclosed problems in its contract therapy
business and the Continental Acquisition;
- 41 -
(c) That without continuing its improper billing
practices, Horizon would not be able to achieve continued strong
growth in fiscal 1996;
(d) Horizon had not "reduced" its exposure to changes in
Medicare reimbursement rates by its acquisition of Continental
because Continental had improperly billed Medicare millions that
would never be collected even though it had been recorded as
revenue;
(e) The Continental Acquisition was not "positive" for
the Company and was, in fact, having a negative impact on Horizon's
operating results;
(f) Horizon had not made "substantial progress" in
connection with increasing the profitability of the contract
therapy services division and knew that the loss of the Beverly
Enterprises business would have an adverse impact on Horizon's
second half and full fiscal 1996 and 1997 results;
(g) The contract with the State of Texas would not be
additive to its earnings per share during fiscal 1996 as initial
start-up costs, including hiring manpower to manage the facilities,
would cause this contract to be dilutive to earnings in fiscal
1996;
(h) The Company's "record" results for the second fiscal
quarter of 1996 were the product of billing fraud and accounting
tricks and thus were neither "strong" nor "positive";
(i) Because of the problems detailed above, the
defendants knew Horizon could not experience 25%-30% earnings
growth in the second half of fiscal 1996; and
- 42 -
(j) Defendants knew that forecasts of $0.41 and a $1.60
for the third fiscal quarter and fiscal 1996, respectively, and for
$1.95 in fiscal 1997 were false, as they were contradicted by the
negative facts set forth above.
68. These positive statements about Horizon's business
inflated its stock price to as high as $28-1/2 per share by late
January, the stock's Class Period high, from as low as $20-1/8 in
late November 1995. As the stock reached its Class Period (and
inflated) high price, between January 11 and February 2, 1996, the
Ortenzios, Carson, Belt and Elliott unloaded their Horizon stock.
Robert Ortenzio sold over 219,000 shares of his Horizon stock at as
high as $27-5/8 per share for proceeds of more than $5.5 million!
Rocco Ortenzio dumped over 950,265 of his Horizon shares at as high
as $27-5/8 per share for proceeds of $24.2 million. Carson sold
off 78,412 of his Horizon shares at as high as $27-3/8 per share,
pocketing $2 million. Belt (who had just left the Company) sold
off 150,000 of his Horizon shares at as high as $27-3/8 per share,
pocketing $3.9 million. Elliott sold 14,400 shares at $27.50 for
$396,000.
69. On or about January 29, 1996, Dean Witter issued a report
on Horizon authored by D.S. Mackesy. Prior to issuing this report,
Mackesy had discussions with Horizon executives, including Elliott
and Schofield, who provided Dean Witter with the information for
the report. Horizon reviewed and approved this Dean Witter report
before it was issued, knowing that the report would be released and
become part of the total mix of information affecting the price of
Horizon stock. The report forecast that Horizon would earn $0.86
per share in the second half of fiscal 1996, due to the "continued
- 43 -
success with regard to the integration of CMS." The report was
reproduced and distributed by Horizon to investors, shareholders
and others seeking information about Horizon and thus was adopted
and endorsed by Horizon.
70. On February 2, 1996, just as defendants completed their
insider bailout, the February 12, 1996 edition of Business Week
reported that Horizon's historical results may have been inflated
as it had been engaging in "aggressive accounting" and had been
"overstat[ing] its operating income." The market reacted by
dropping the price of Horizon stock by $2 per share on heavy volume
before a Horizon spokesperson stated the market had "rejected" the
assertions regarding past accounting improprieties and represented
that Horizon "follow[s] accounting principles."
71. On or about February 2, 1996, Merrill Lynch, after point-
by-point discussions with Elliott and Schofield regarding the
Business Week assertions, issued a report whose purpose was to
refute those allegations. Given its position as co-lead under-
writer of Horizon's proposed $200 note offering, Merrill was trying
to help support Horizon's stock price, noting "recent acquisitions
should enable the company to accelerate earnings growth," and
forecasting $0.41 for the quarter to end just three weeks later on
February 28, 1996.
72. On February 2, 1996, after conversations with defendant
Elliott and/or Schofield, Dean Witter issued a report, authored by
D.S. Mackesy, confirming that Horizon's accounting practices were
appropriate and that the "continued success with regard to the
integration of CMS" would be "positive" for the stock and that
- 44 -
Horizon would earn $0.41 for the third quarter of fiscal 1996 to
end February 28, 1996.
73. On or about February 5, 1996, Alex. Brown issued a
report, authored by J.L. Swenson, which passed along information
given Alex. Brown by Elliott and Schofield, including forecasting
earnings for fiscal 1996 and 1997 of $1.62 and $2.03, respectively,
and $0.88 for the second half of fiscal 1996.
74. On February 7, 1996, Dean Witter issued a report,
authored by D.S. Mackesy, which passed along information given Dean
Witter by Elliott and Schofield, which reiterated that Horizon's
accounting practices were both "legal and appropriate" and forecast
that the "earnings outlook for the company has not changed" from
the $0.86 per share for the second half of fiscal 1996 disseminated
previously.
75. On February 14, 1996, Dean Witter issued another report
which passed along information obtained from Elliott and Schofield,
including earnings forecasts of $0.41 and $0.45, respectively for
the third and fourth quarters of fiscal 1996 due to "the strength
of projected quarterly results [and] continued success with regard
to the integration of CMS."
76. On February 14, 1996, Alex. Brown issued a report,
authored by J.L. Swenson, which passed along information obtained
from Elliott, maintaining Horizon's fiscal 1996 earnings per share
forecast of $1.62.
77. On or about February 27, 1996, Horizon filed with the SEC
Amendment No. 2 to Horizon's 1995 Annual Report on Form 10-K. The
Report was signed by defendant Schofield and stated that "[w]ith
respect to estimated Medicare and Medicaid settlements, there are
- 45 -
currently no significant audit issues outstanding related to filed
cost reports. As a result, the Company is not aware of any
settlement matters that could materially affect future cash flows
or operating results."
78. Each of the positive statements about Horizon and its
business as set forth in ¶¶69-77 was materially false and
misleading when issued and failed to disclose the following adverse
information, disclosure of which was necessary to make the
statements made not false or misleading, and which facts were then
known only to defendants due to their access to Continental and
Horizon internal corporate data:
(a) That Horizon's financial statements were not
"legal," "appropriate" or in accordance with GAAP, but rather,
improperly inflated through a series of accounting tricks as
detailed in ¶¶81-101;
(b) That because of the serious operational problems in
Continental's contract rehabilitation therapy division, the
Continental Acquisition was not a continued success or providing
positive synergy to the combined companies;
(c) That the Continental Acquisition was not providing
"accelerated" earnings growth due to serious problems with its
business and the ongoing difficulties in incorporating
Continental's operations into Horizon's;
(d) That Beverly Enterprises, Continental's largest
contract therapy customer, had told Horizon it would be shifting at
least 50% business away from Horizon and Horizon would not have any
revenue from Beverly Enterprises by fiscal 1997;
- 46 -
(e) That Horizon was suffering serious operational
difficulties in connection with its contract therapy unit; and
(f) That because of the facts detailed above, the
forecasts of Horizon's earnings per share in the third quarter of
fiscal 1996 at $0.41-$O.43, for the second half of fiscal 1996 at
$.86-$.88, and at $1.55-$1.62 for the full year of fiscal 1996 and
$2.03 for fiscal 1997, were known by defendants to be false and
contradicted by the adverse facts set forth above.
79. On February 28-29, 1996, Elliott indicated to certain
market professionals that Horizon would have trouble in meeting its
"numbers" for the third quarter of fiscal 1996 and/or fiscal 1996
as a whole. Horizon stock fell $3-3/4 on heavy volume of 2.8
million shares. On March 1, 1996, Horizon revealed that Horizon's
third and fourth quarter fiscal 1996 earnings per share would be
much lower than previously forecasted by and on behalf of Horizon.
Horizon stated that these developments were the result of
"softness" in Horizon's nursing home operations, "reimbursement
pressure" in Horizon's Medicaid business and write-offs of some
contract therapy receivable balances. The market reaction of these
disclosures was swift, dropping the price of Horizon stock by
$4-1/2 per share on volume of over 850,000 shares within three
minutes of when trading resumed. By day's end, Horizon's stock had
plummeted $5-5/8 per share, or 24%, to $17-7/8 on huge volume of
4.2 million shares.
80. On March 4, 1996, Elliott admitted the defendants "knew"
Continental's largest contract therapy client was "in the process"
of reducing its reliance on the Company. On March 18, 1996,
articles appeared in various publications discussing an
- 47 -
investigation of Horizon for "billing fraud" by the Dept. of Health
and Human Services and the U.S. Justice Department. Horizon
admitted that "the billings involved were retroactively submitted
by Horizon" for services rendered prior to Horizon's acquisition of
Greenery and that the billings "may not have been in accordance"
with federal law. Horizon further revealed that in addition to
taking a charge of $5.1 million, the investigation "could have a
material adverse impact upon the company." As these revelations
came forth, Horizon's stock continued to drop to as low as $12-3/4
per share, as analysts downgraded the Company and sharply cut
earnings estimates for Horizon. Later, Horizon scrubbed its $200
million debt offering. One analyst summed up the outrage of the
investment community that this "may yet be another example of
pushing accounting/billing practices to their limits with adverse
implications for shareholders."
HORIZON'S FALSE FINANCIAL STATEMENTS
81. Horizon's insiders were under enormous pressure to
support Horizon's stock price at a high level, so that Horizon
could continue to use its stock as currency for the continuing
acquisition program, which acquisitions were necessary to permit
Horizon to continue to show growth and enable the defendants to
conceal and cover up the troubled nature of Horizon's ongoing
operations. Thus, defendants throughout the Class Period engaged
in a number of accounting tricks and artifices to inflate Horizon's
reported revenues and earnings and make it appear that Horizon's
acquisition of Greenery and Continental were both successful and
contributing to Horizon's ongoing profitable growth.
- 48 -
82. For instance, due to the negative market reaction to
Horizon's announcement that it would merge with Continental,
defendants knew that it was important that the Company meet
earnings estimates being made by and for it for fiscal 1995 ended
May 31, 1995 and that the Company report growth in revenue and
earnings in the quarters following the merger. However, at the
time Horizon was preparing its financial statements for fiscal
1995, defendants knew that it was necessary to reduce the carrying
value of certain assets Horizon had decided to sell, resulting in
a large charge against earnings of $16.9 million, net of taxes. So
that Horizon would meet its earnings estimates, despite the large
charge, the defendants caused Horizon to misclassify the charge as
a "loss for discontinued operations," when, in fact, the charges
did not qualify pursuant to GAAP to be treated as discontinued
operations.
83. Additionally, the Individual Defendants knew it was
imperative that Horizon report growth in revenues and earnings in
the quarters following the Continental merger. In order to make it
appear to the marketplace that the Horizon/Continental merger was
being successfully implemented and was additive to Horizon's
earnings, despite the fact that they were aware that Horizon/
Continental's operating results were not as successful as they had
led the market to expect, the defendants caused Horizon to
improperly recognize revenue. Thus, in order to overstate revenue
and earnings for the first and second quarters of fiscal 1996 ended
August 31, 1995 and November 30, 1995, respectively, the Company
violated GAAP and SEC rules by improperly recognizing revenue which
the Company knew was not collectible. GAAP are those principles
- 49 -
recognized by the accounting profession as the conventions, rules
and procedures necessary to define accepted accounting practice at
a particular time. Regulation S-X (17 CFR 210.4-01(a)(1)) states
that financial statements filed with the SEC which are not prepared
in compliance with GAAP are presumed to be misleading and
inaccurate.
84. In Horizon's Reports on Form 10-Q for each of the
quarters ended August 31, and November 30, 1995, signed by
Schofield, Horizon/Continental included the following paragraph:
The consolidated financial statements included
herein have been prepared by Horizon/CMS Healthcare
Corporation and its subsidiaries (collectively the
"Company") pursuant to the rules and regulations of the
Securities and Exchange Commission. Accordingly, they
are unaudited and certain information and footnote
disclosures normally included in the Company's annual
consolidated financial statements prepared in accordance
with generally accepted accounting principles have been
condensed or omitted, as permitted under the applicable
rules and regulations. In the opinion of management, all
adjustments necessary for a fair presentation of the
financial position, results of operations and cash flows
for the periods presented have been made and are of a
normal recurring nature.
85. This statement was false and misleading as Horizon's
financial statements for those quarters were artificially and
improperly inflated as Horizon/Continental improperly recognized
revenue causing Horizon's financial statements to be presented in
violation of GAAP. The earnings releases for the fourth quarter
and year ended May 31, 1995, were also false due to Horizon's
deliberate misclassification of certain charges as arising from
discontinued operations causing those earnings releases to be in
violation of GAAP.
- 50 -
Improper Classification Of Charges
As Discontinued Operations
86. On June 19, 1995, Horizon announced it was selling assets
and leasehold improvements at eight of its facilities and announced
that the disposition would result in a charge of $16.9 million
classified as discontinued operations. The same press release also
indicated that the Company's fourth quarter earnings per share
(before the charge for discontinued operations) would be at least
$0.33 per share for the fourth quarter ended May 31, 1995, thus
meeting the projections for Horizon's fourth quarter made by and
for Horizon, thereby creating the false impression that Horizon's
fourth quarter had been successful and inflating its stock price.
87. On July 11, 1995, when Horizon issued a press release
announcing its results for the quarter and year ended May 31, 1995,
it once again falsely classified its charges for reducing the value
of certain assets as a loss from discontinued operations, and
reported earnings per share (before loss from discontinued opera-
tions) of $0.36 per share. Within a month, the Company announced
that the SEC had objected to its treatment of the charges as
"discontinued operations" and required that the charges be included
in the Company's calculation of income (or loss) from continuing
operations. Horizon was thus required to restate its previously
announced fiscal 1995 results to reflect the change, and reported
fourth quarter earnings per share of $0.28, as opposed to the $0.33
per share reported on June 19, 1995 and the $0.36 per share
reported on July 11, 1995.
88. The Company's improper classification of the charges as
discontinued operations in its earnings releases on June 19, and
- 51 -
July 11, 1995, caused those results to be reported in violation of
GAAP, as set forth in Accounting Principles Board Opinion ("APB")
No. 30. The classification of "discontinued operations" is
reserved for the disposition of facilities which represent a
separate line of business from the entity's other operations.
According to APB No. 30, ¶8, discontinued operations
refers to the operations of a segment of a business that
has been sold, abandoned, spun off, or otherwise disposed
of or, although still operating, is subject of a formal
plan for disposal . . . .
APB No. 30, ¶13 defines a segment as follows:
[T]he term segment of a business refers to a component of
an entity whose activities represent a separate major
line of business or class of customer.
89. Horizon knew at the time of the June 19, 1995 announce-
ment that the eight facilities in question were an integral part of
its nursing home business, thus the activities of the eight
facilities were not distinguishable, physically and operationally,
from the other assets of Horizon. Therefore, Horizon/Continental
was not eliminating that line of business but instead was
arbitrarily and improperly classifying the facilities as
discontinued operations to obtain a positive earnings impact.
Improper Revenue Recognition
From Tenet Agreement
90. In Horizon's second quarter of fiscal 1996, ended
November 30, 1995, Horizon improperly recognized at least $9.3
million (and as much as $14.4 million) in revenue purportedly
arising from an agreement with Tenet Healthcare Corporation
("Tenet") even though such revenue was not collectible at the time
it was recognized, causing such recognition to be in violation of
GAAP. GAAP, as set forth in FASB Statement of Concepts No. 5, ¶83,
- 52 -
requires that revenue be "realizable" or readily convertible to
claims to cash (collectible) prior to recognition.
91. On January 25, 1995, Horizon entered into an agreement
with Tenet for the purchase of Tenet's 25% interest in Hillhaven,
which Horizon intended to try to take over. One provision of the
agreement was that if Tenet sold its Hillhaven stake to a party
other than Horizon, Tenet would pay Horizon 50% of the consider-
ation Tenet received in excess of $29 per share. In fact, Tenet
did sell its interest in Hillhaven to a third party for $30.17 per
share, and consequently the proper amount owed to Horizon was $5.1
million.
92. In order to overstate its results in the quarter ended
November 30, 1995, Horizon recognized as revenue $9.3 million from
the Tenet agreement, based on a share price of $32-1/4, which was
the share price of Hillhaven on the date the acquisition of its
Hillhaven stake by a third party was announced. Horizon knew that
collection of the $9.3 million was neither proper nor even probable
at the time the Company recognized the revenue. Nevertheless,
Horizon recognized the revenue in order to meet estimates made by
and on behalf of defendants, as a result, overstating its earnings
by $0.05 per share, as the Company reported $0.38 per share instead
of $0.33 per share. Ultimately, in March 1996, the Company filed
suit against Tenet in an attempt to justify defendants' recognition
of the revenue and Tenet claims it owes the Company only $5.1
million.
Revenue Improperly Recognized For Greenery
93. In early 1994, Horizon had acquired the Greenery
facilities. Subsequent to the acquisition, Horizon billed Medicare
- 53 -
Part B for services rendered by the Greenery while the Greenery was
under the control of its former management. Although the Greenery
had previously billed Medicare Part B for these charges, Horizon/
Continental sought $3.4 million in additional reimbursement for the
charges. Horizon/Continental was partially successful in its
effort and was able to collect approximately $1.4 million of the
additional reimbursement it sought. However, the Company's
insiders knew that it was likely it would have to repay that amount
and reverse the revenue it had recognized if the charges were ever
scrutinized. Nonetheless, the Company did not disclose and
quantify such risk nor did it accrue for the loss as required by
GAAP as set forth in FASB Statement of Financial Accounting
Standard ("SFAS") No. 5, causing the Company's financial statements
to be misstated.
94. On March 18, 1996, Horizon revealed that federal
regulators, including the Department of Justice and the Office of
the Inspector General, were reviewing Horizon's charges to Medicare
Part B for Greenery. The Individual Defendants knew the Company
could no longer conceal the inappropriateness of the Greenery
billings and corresponding revenue Horizon had recognized. Thus,
Horizon also announced on March 18th that it would recognize a
charge of $5.1 million to account for the amounts billed to
Medicare Part B and costs associated with the investigation. These
charges were the direct result of the Company's improper billing
and revenue recognition practices in prior periods.
Improper Revenue Recognition
95. The Company also violated GAAP by deliberately over-
estimating the amount of reimbursement receivable from third party
- 54 -
payers, a practice Continental had engaged in prior to the merger.
Subsequent to the Horizon/Continental merger, the combined company
continued Continental's pre-merger practice of significantly and
deliberately overestimating revenues to be received from Medicare
and Medicaid, thereby overstating both revenues and accounts
receivable in violation of GAAP.
96. GAAP requires that revenue be both earned and collectible
prior to recognition. See FASB Statement of Concepts No. 5, ¶83.
While estimates are permitted and sometimes necessary, such
estimates must be free of bias. See FASB Statement of Concepts No.
2, ¶¶77-78.
97. Horizon made estimates to record revenue projected to be
received from third party payers. The Company had the ability to
be quite accurate in its estimates if it desired. The Company knew
the contract rates and was aware of its prior collection history.
In fact, in July 1995, the Company had claimed a "leadership role
in the industry" in working with the Federal government to set
rates. However, the Individual Defendants, so that Horizon could
meet revenues, earnings and margin estimates made by and on behalf
of Horizon, grossly abused the estimating process and caused the
Company to deliberately overstate the amount of revenues to be
received from third party payers.
98. Horizon/Continental utilized this improper accounting
after the merger in an effort to report the growth and "synergy"
from the Continental merger promised by the defendants.1 As a
____________________
1 The overstatement of revenue had been a common practice at
Continental prior to the merger. In fact, in the quarter ended
December 31, 1994, Continental wrote off $13 million in contract
therapy receivables for which Continental had overestimated
- 55 -
result, Horizon accrued material amounts of accounts receivable in
the first and second quarters of fiscal 1996 which were
uncollectible.
99. In late February 1996, the Company knew it could no
longer conceal its improper revenue recognition and that a write-
off of receivables would be necessary. As a preliminary step to
disclosing the write-off, the Company amended its Form 10-K for the
year ended May 31, 1995 for the second time on February 27, 1996.
The second amended 10-K contained only one change: the addition of
four paragraphs describing the process of estimating Medicare and
Medicaid settlements and disclosing the possibility of "upward or
downward adjustment." Three days later, the Company announced an
earnings shortfall, partially caused by the write-down of contract
therapy accounts receivable.2 The Company's belated disclosure
regarding its estimates did not cure its improper revenue
recognition in prior periods.
100. Due to these improprieties, the Company presented its
results in a manner which violated the following generally accepted
accounting principles, among others:
(a) The principle that financial reporting should
provide information that is useful to present and potential
investors and creditors and other users in making rational invest-
____________________
revenues in prior periods.
2 The Company later announced that its results for the third
quarter of fiscal 1996 included a charge of $7.0 million to
increase third party settlement receivables reserves. The $7.0
million charge was equivalent to a $.07 per share reduction in
earnings per share.
- 56 -
ment, credit and similar decisions was violated (FASB Statement of
Concepts No. 1, ¶34);
(b) The principle that financial reporting should
provide information about the economic resources of an enterprise,
the claims to those resources, and the effects of transactions,
events, and circumstances that change resources and claims to those
resources was violated (FASB Statement of Concepts No. 1, ¶40);
(c) The principle that financial reporting should
provide information about how management of an enterprise has
discharged its stewardship responsibility to owners (stockholders)
for the use of enterprise resources entrusted to it was violated.
To the extent that management offers securities of the enterprise
to the public, it voluntarily accepts wider responsibilities for
accountability to prospective investors and to the public in
general (FASB Statement of Concepts No. 1, ¶50);
(d) The principle that financial reporting should
provide information about an enterprise's financial performance
during a period was violated. Investors and creditors often use
information about the past to help in assessing the prospects of an
enterprise. Thus, although investment and credit decisions reflect
investors' expectations about future enterprise performance, those
expectations are commonly based at least partly on evaluations of
past enterprise performance (FASB Statement of Concepts No. 1,
¶42);
(e) The principle that financial reporting should be
reliable in that it represents what it purports to represent was
violated. That information should be reliable as well as relevant
- 57 -
is a notion that is central to accounting (FASB Statement of
Concepts No. 2, ¶¶58-59);
(f) The principle of completeness, which means that
nothing is left out of the information that may be necessary to
insure that it validly represents underlying events and conditions,
was violated (FASB Statement of Concepts No. 2, ¶79); and
(g) The principle that conservatism be used as a prudent
reaction to uncertainty to try to ensure that uncertainties and
risks inherent in business situations are adequately considered was
violated. The best way to avoid injury to investors is to try to
ensure that what is reported represents what it purports to
represent (FASB Statement of Concepts No. 2, ¶¶95, 97).
101. The undisclosed adverse information concealed by
defendants during the Class Period is the type of information
which, because of SEC regulations, regulations of the national
stock exchanges and customary business practice, is expected by
investors and securities analysts to be disclosed and is known by
corporate officials and their legal and financial advisors to be
the type of information which is expected to be and must be
disclosed. For example:
(a) Under Item 303 of Regulation S-K, promulgated by the
SEC under the Exchange Act, there is a duty to disclose in periodic
reports filed with the SEC "known trends or any known demands,
commitments, events or uncertainties" that are reasonably likely to
have a material impact on a company's sales revenues, income or
liquidity, or cause previously reported financial information not
to be indicative of future operating results. 17 C.F.R.
¶229.303(a)(1)-(3) and Instruction 3. In addition to the periodic
- 58 -
[page 59 missing from paper copy of document]
- 59 -
DEFENDANTS' INSIDER SELLING
102. While Horizon insiders were issuing false and misleading
statements about Horizon and its business, the defendants directly
or indirectly sold over 1.5 million shares of the stock they owned
for proceeds of about $40 million to profit from the artificial
inflation in Horizon's stock price their fraudulent scheme had
created. Notwithstanding their access to non-public information as
a result of their positions with the Company, the Individual
Defendants directly or indirectly sold the following amounts of
Horizon common stock:
Shares Share
Date Sold Price Proceeds
Ortenzio, Robert 09/15/95 33,065 $22.38 $ 739,995
09/15/95 9,967 $22.38 223,061
09/15/95 31,232 $22.38 698,972
09/15/95 12,812 $22.38 286,733
01/12/96 5,994 $24.75 148,352
01/12/96 7,992 $24.75 197,802
01/12/96 1,998 $24.75 49,451
01/15/96 7,892 $24.75 195,327
01/16/96 910 $24.75 22,523
01/16/96 15,174 $24.63 373,736
01/18/96 5,094 $24.75 126,077
01/18/96 500 $25.38 12,690
01/19/96 3,632 $25.75 93,524
01/19/96 1,763 $25.25 44,516
01/19/96 120,000 $24.75 2,970,000
01/19/96 14,985 $25.38 380,319
01/19/96 13,986 $25.38 354,965
01/26/96 2,997 $27.50 82,418
01/26/96 2,707 $27.38 74,118
01/29/96 2,997 $27.63 82,807
01/31/96 2,947 $27.50 81,043
02/01/96 3,998 $27.25 108,946
02/02/96 509 $25.63 13,046
02/02/96 799 $25.63 20,478
02/02/96 1,489 $26.58 39,459
02/02/96 1,199 $25.50 $ 30,575
--------- -----------
Total: 306,638 $ 7,450,933
========= ===========
- 60 -
Ortenzio, Rocco 09/20/95 19,680 $23.50 $ 462,480
09/20/95 6,311 $23.50 148,309
09/20/95 20,106 $23.50 472,491
09/20/95 3,638 $23.50 85,493
01/12/96 42,018 $24.75 1,039,946
01/12/96 20,033 $24.75 495,817
01/12/96 56,024 $24.75 1,386,594
01/12/96 14,006 $24.75 346,649
01/15/96 55,324 $24.75 1,369,269
01/16/96 106,376 $24.63 2,620,041
01/16/96 6,373 $24.75 157,732
01/18/96 3,502 $25.38 88,881
01/18/96 35,715 $25.50 910,733
01/19/96 98,042 $25.38 2,488,306
01/19/96 105,045 $25.38 2,666,042
01/19/96 163,648 $25.75 4,213,936
01/19/96 12,358 $25.25 312,040
01/19/96 68,319 $25.25 1,725,055
01/19/96 25,457 $25.75 655,518
01/26/96 21,009 $27.50 577,748
01/26/96 18,975 $27.38 519,536
01/29/96 21,009 $27.63 580,479
01/31/96 350 $27.63 9,671
01/31/96 20,658 $27.50 568,095
02/01/96 14,006 $27.25 381,664
02/01/96 14,006 $27.13 379,983
02/02/96 3,572 $26.63 95,122
02/02/96 5,602 $25.63 143,579
02/02/96 10,434 $26.50 276,501
02/02/96 8,404 $25.50 $ 214,302
--------- -----------
Total: 1,000,000 $25,392,012
========= ===========
Carson, R. 10/13/95 25,000 $20.13 $ 503,250
01/12/96 30,000 $25.06 751,800
01/22/96 4,659 $26.63 124,069
01/22/96 25,000 $26.63 665,750
01/26/96 18,753 $27.38 $ 513,457
--------- -----------
Total: 103,412 $ 2,558,326
========= ===========
Belt, K. 01/11/96 30,000 $25.50 $ 765,000
01/11/96 10,000 $25.63 256,300
01/17/96 17,200 $25.63 440,836
01/18/96 12,800 $25.63 328,064
01/19/96 30,000 $26.00 780,000
01/22/96 14,000 $26.75 374,500
01/22/96 25,000 $27.38 684,500
01/22/96 11,000 $26.75 $ 294,250
--------- -----------
Total: 150,000 $ 3,923,450
========= ===========
Elliott, N. 01/30/96 14,400 $27.50 $ 396,000
02/27/96 10,000 $26.50 $ 265,000
--------- -----------
Total: 24,400 $ 661,000
========= ===========
GRAND TOTALS: 1,584,450 $39,985,721
- 61 -
103. This insider trading by Horizon insiders was unusual and
suspicious in timing and amount. Defendants Rocco Ortenzio and
Robert Ortenzio began selling almost immediately upon acquiring
Horizon stock, selling almost 150,000 shares within three months of
the closing of the Continental Acquisition. As it became apparent
to Horizon's insiders that their deception could not be used to
report false results for the third fiscal quarter of 1996 and
defendants learned that Horizon's accounting and billing practices
were about to come under attack in the financial press, the
defendants really unloaded, selling some 1.3 million shares for
proceeds of $36+ million during late January and February 1996.
Thus, during the period that they were allegedly artificially
inflating the price of Horizon stock, defendants sold huge amounts
of their Horizon stock, just prior to adverse revelations of the
billing fraud and accounting trickery that they had been using to
inflate Horizon's financial performance.
PLAINTIFFS' CLAIMS FOR RELIEF
CLAIM FOR RELIEF I
CLAIM FOR VIOLATIONS OF §10(b)
OF THE EXCHANGE ACT AND RULE 10b-5
AGAINST ALL DEFENDANTS
104. Plaintiffs incorporate by reference ¶¶1 through 103.
This Count is asserted against all defendants.
105. During the Class Period, the defendants directly and
indirectly engaged and participated in a course of business to
conceal adverse material information about and make material
misrepresentations concerning the business, billing procedures,
finances, financial condition and future business prospects of
Horizon as specified herein. Defendants employed devices and
- 62 -
artifices to defraud and engaged in acts, practices and a course of
business as herein alleged in an effort to maintain an artificially
high market price for the securities of Horizon, which included the
making of or participation in the making of untrue statements of
material facts and omitting to state material facts necessary in
order to make the statements made about Horizon, its finances and
business, in light of the circumstances under which they were made,
not misleading and engaged in transactions, practices, and courses
of business which operated as a fraud and deceit upon the
purchasers of Horizon stock during the Class Period.
106. The purpose defendants' false statements and omissions
was to artificially inflate the price of Horizon publicly-traded
common stock during the Class Period to induce plaintiffs and
members of the Class to purchase Horizon common stock at
artificially inflated prices and to use the overvalued Horizon
stock to carry out their acquisition binge so that defendants could
enrich themselves, in reckless disregard of the public purchasers.
107. During the Class Period, defendants issued public
statements and reports including financial statements and other
reports, releases and statements as described hereinabove, which
were materially false and misleading in violation of the Exchange
Act and applicable SEC regulations. Said reports, releases and
statements were materially false and misleading in that they failed
to disclose material adverse information about Horizon's business,
results from operations, operations, earnings, financial condition
and future business prospects.
108. Each of the defendants herein knew or recklessly
disregarded the fact that the aforesaid acts and practices,
- 63 -
misleading statements and omissions would adversely affect the
integrity of the market in Horizon common stock and artificially
inflate or maintain the prices of such stock. Defendants, by
acting as described herein, did so knowingly or in such a reckless
or grossly negligent manner as to constitute a deceit and fraud
upon plaintiffs and members of the Class.
109. As a result of the dissemination of the aforementioned
false and misleading reports, releases and financial statements and
manipulative conduct, the market price of Horizon common stock was
artificially inflated throughout the Class Period. In ignorance of
the adverse facts concerning Horizon's business and financial
condition concealed by defendants, plaintiffs and the members of
the Class purchased Horizon stock at artificially inflated prices,
relying upon the integrity of the market, and were damaged thereby.
110. Had plaintiffs and the members of the Class known of the
materially adverse information not disclosed by the defendants,
they would not have purchased Horizon securities at the
artificially inflated prices they did.
CLAIM FOR RELIEF II
CLAIM FOR VIOLATIONS OF §20(a)
OF THE EXCHANGE ACT AGAINST DEFENDANTS
HORIZON, ELLIOTT AND ROCCO ORTENZIO
111. Plaintiffs incorporate by reference ¶¶l through 110.
This Count is asserted against defendants Horizon, Elliott and
Rocco Ortenzio.
112. Horizon, Elliott and Rocco Ortenzio acted as controlling
persons of the Company within the meaning of §20 of the Exchange
Act. By reason of their stock ownership and/or position as a
senior officer and director, as alleged above, these defendants had
- 64 -
the power and authority to cause the Company to engage in the
wrongful conduct complained of herein. Horizon in turn controlled
each of the Individual Defendants.
113. By reason of such wrongful conduct Elliott, Rocco
Ortenzio and Horizon are liable pursuant to §20(a) of the Exchange
Act. As a direct and proximate result of their wrongful conduct,
plaintiffs and other members of the Class suffered damages in
connection with their purchases of the Company's securities during
the Class Period.
CLAIM FOR RELIEF III
CLAIM FOR VIOLATIONS OF NEW MEXICO
SECURITIES ACT §§58-13B-30 AND 58-13B-32
114. Plaintiffs incorporate by reference ¶¶l through 110.
115. Defendants' conduct constitutes violations of New Mexico
Securities Act §§58-13B-30 and 13B-32 entitling the Class to
remedies against each defendant.
BASIS OF ALLEGATIONS
116. Plaintiffs have alleged the foregoing based upon the
investigation of their counsel, which included a review of
Horizon's SEC filings, securities analysts reports and advisories
about the Company, press releases issued by the Company, media
reports about the Company and discussions with consultants, and
believe that substantial evidentiary support will exist for the
allegations set forth in ¶¶l, 3-8, 22, 25-27, 33, 35-36, 43-44,
46-48, 51, 53-57, 59, 61, 63, 66-67, 69, 71-77 and 81-101 after a
reasonable opportunity for discovery.
- 65 -
PLAINTIFFS' PRAYER FOR RELIEF
WHEREFORE, plaintiffs demand judgment individually and on
behalf of the Class as follows:
1. Determining that this action is a proper class action
under Rule 23;
2. Against each defendant and in favor of plaintiffs and the
Class for damages in an amount to be determined;
3. Awarding plaintiffs and members of the Class the costs of
this suit, including reasonable attorneys' and experts' fees and
other disbursements;
4. Awarding extraordinary, equitable and/or injunctive
relief as permitted by law, equity and the federal statutory
provisions sued hereunder, pursuant to Rules 64, 65 and any
appropriate state law remedies, including attaching, impounding,
imposing a constructive trust on or otherwise restricting the
proceeds of defendants' trading activities or their other assets to
assure that plaintiffs have an effective remedy; and
5. Such other and further relief as may be just and proper.
JURY DEMAND
Plaintiffs demand a trial by jury.
DATED: April 2, 1996 FREEDMAN, BOYD, DANIELS,
PEIFER, HOLLANDER,
GUTTMANN & GOLDBERG, P.A.
JOSEPH GOLDBERG
______________________________
JOSEPH GOLDBERG
20 First Plaza, Suite 700
Albuquerque, NM 87102
Telephone: 505/842-9960
- 66 -
MILBERG WEISS BERSHAD
HYNES & LERACH
WILLIAM S. LERACH
ALAN SCHULMAN
DARREN J. ROBBINS
______________________________
WILLIAM S. LERACH
600 West Broadway, Suite 1800
San Diego, CA 92101
Telephone: 619/231-1058
FARUQI & FARUQI, LLP
NADEEM FARUQI
415 Madison Avenue
21st Floor
New York, NY 10017
Telephone: 212/986-1074
SCHIFFRIN & CRAIG, LTD.
RICHARD S. SCHIFFRIN
ANDREW BARROWAY
Three Bala Plaza East
Suite 400
Bala Cynwyd, PA 19004
Telephone: 610/667-7706
ROBERT C. SUSSER, P.C.
ROBERT C. SUSSER
6 East 43rd Street
Suite 1900
New York, NY 10017-4609
Telephone: 212/808/9298
Attorneys for Plaintiffs
- 67 -
CERTIFICATION OF PLAINTIFF LAWRENCE DONNARUMMA
PURSUANT TO FEDERAL SECURITIES LAWS
LAWRENCE DONNARUMMA ("Plaintiff") declares, as to the
claims asserted under the federal securities laws, that:
1. Plaintiff has reviewed the complaint and authorized
its filing.
2. Plaintiff did not purchase the security that is the
subject of this action at the direction of plaintiff's counsel
or in order to participate in this private action.
3. Plaintiff is willing to serve as a representative
party on behalf of the class, including providing testimony at
deposition and trial, if necessary.
4. Plaintiff's transaction in the security that is the
subject of this action during the Class Period is as follows:
Security Transaction Date
Common stock Purchased 100 shares 10/30/95
at $19.50
Common stock Purchased 100 shares 03/12/96
at $16 1/4
5. During the three years prior to the date of this
Certificate, Plaintiff has sought to serve or served as a
representative party for a class in the following actions filed
under the federal securities laws: None. Plaintiff has sought
to serve or served as a representative party for a class in the
following actions filed in the three years prior to March 25,
1995: None.
6. The Plaintiff will not accept any payment for serving
as a representative party on behalf of the class beyond the
Plaintiff's pro rata share of any recovery, except such
reasonable costs and expenses (including lost wages) directly
relating to the representation of the class as ordered or
approved by the court.
I declare under penalty of perjury that the foregoing is
true and correct. Executed this 25th day of March, 1996, at
Brooklyn, New York.
______________________________
Lawrence Donnarumma
CERTIFICATION OF NAMED PLAINTIFF
PURSUANT TO FEDERAL SECURITIES LAWS
Nancy Harkins ("Plaintiff") declares, as to the claims
asserted under the federal securities laws, that:
1. Plaintiff has reviewed the complaint and authorized its
filing.
2. Plaintiff did not purchase the security that is the
subject of this action at the direction of plaintiff's counsel or
in order to participate in this private action.
3. Plaintiff is willing to serve as a representative party
on behalf of the class, including providing testimony at deposition
and trial, if necessary.
4. Plaintiff's transaction in the security that is the
subject of this action during the Class Period is as follows:
Security Transaction Date
Common Stock Purchased 525 shares December 26, 1995
5. During the three years prior to the date of this
Certificate, Plaintiff has sought to serve or served as a repre-
sentative party for a class in the following actions filed under
the federal securities laws: None.
6. Plaintiff has sought to serve or served as a represen-
tative party for a class in the following actions filed subsequent
to December 22, 1995: None.
7. The Plaintiff will not accept any payment for serving as
a representative party on behalf of the class beyond the
Plaintiff's pro rata share of any recovery, except such reasonable
costs and expenses (including lost wages) directly relating to the
representation of the class as ordered or approved by the court.
I declare under penalty of perjury that the foregoing is true
and correct. Executed this 26 day of March, 1996, at
Mount Laurel, New Jersey.
______________________________
NANCY HARKINS
CERTIFICATION OF NAMED PLAINTIFF
PURSUANT TO FEDERAL SECURITIES LAWS
William Dashiell ("Plaintiff") declares, as to the claims
asserted under the federal securities laws, that:
1. Plaintiff has reviewed the complaint and authorized its
filing.
2. Plaintiff did not purchase the security that is the
subject of this action at the direction of plaintiff's counsel or
in order to participate in this private action.
3. Plaintiff is willing to serve as a representative party
on behalf of the class, including providing testimony at deposition
and trial, if necessary.
4. Plaintiff's transaction in the security that is the
subject of this action during the Class Period is as follows:
Security Transaction Date
Common Stock Purchased 400 shares December 1, 1995
5. During the three years prior to the date of this
Certificate, Plaintiff has sought to serve or served as a repre-
sentative party for a class in the following actions filed under
the federal securities laws:
Padnes, et al. v. Scios Nova, Inc., et al., Master File No.
C-95-01693-MHP (N.D. Cal.)
6. Plaintiff has sought to serve or served as a represen-
tative party for a class in the following actions filed subsequent
to December 22, 1995:
None.
7. The Plaintiff will not accept any payment for serving as
a representative party on behalf of the class beyond the
Plaintiff's pro rata share of any recovery, except such reasonable
costs and expenses (including lost wages) directly relating to the
representation of the class as ordered or approved by the court.
I declare under penalty of perjury that the foregoing is true
and correct. Executed this 26th day of March, 1996, at
San Mateo, California.
______________________________
WILLIAM DASHIELL
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Securities Class Action Clearinghouse |
U.S.D.C. N.D. Cal. |
Robert Crown Law Library |
Stanford Law School |