VCA Inc.
VCA ANTECH INC (Form: 10-Q, Received: 11/09/2012 14:15:39)


 
 
 
 
 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
___________________________________________________ 
FORM 10-Q  
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2012
 
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
Commission File Number: 001-16783
___________________________________________________ 
VCA Antech, Inc.
(Exact name of registrant as specified in its charter)
 
Delaware
 
95-4097995
(State or other jurisdiction of
 
(I.R.S. Employer
incorporation or organization)
 
Identification No.)
12401 West Olympic Boulevard
Los Angeles, California 90064-1022
(Address of principal executive offices)
(310) 571-6500
(Registrant’s telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [  ].
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes [X] No [  ].
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.:
Large accelerated filer [X]
  
Accelerated filer [  ]
 
 
 
Non-accelerated filer [  ]
  
Smaller reporting company [  ]
(Do not check if a smaller reporting company)
  
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes [  ] No [X].
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: common stock, $0.001 par value, 87,829,066 shares as of November 5, 2012.
 
 
 
 
 





VCA Antech, Inc. and Subsidiaries
Form 10-Q
September 30, 2012
Table of Contents
 
Page
Number
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 





PART I.
FINANCIAL INFORMATION

ITEM 1.
FINANCIAL STATEMENTS

VCA Antech, Inc. and Subsidiaries
Condensed, Consolidated Balance Sheets
(Unaudited)
(In thousands, except par value)
 
September 30, 2012
 
December 31, 2011
Assets
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
79,661

 
$
63,651

Trade accounts receivable, less allowance for uncollectible accounts of $16,156 and $14,978 at September 30, 2012 and December 31, 2011, respectively
62,061

 
58,279

Inventory
53,526

 
48,661

Prepaid expenses and other
24,302

 
21,883

Deferred income taxes
28,747

 
26,310

Prepaid income taxes
20,610

 
18,373

Total current assets
268,907

 
237,157

Property and equipment, net
392,367

 
370,646

Goodwill
1,366,117

 
1,237,607

Other intangible assets, net
116,762

 
92,403

Notes receivable, net
6,193

 
6,202

Deferred financing costs, net
4,549

 
5,435

Other
46,390

 
45,918

Total assets
$
2,201,285

 
$
1,995,368

Liabilities and Equity
 
 
 
Current liabilities:
 
 
 
Current portion of long-term debt
$
34,996

 
$
32,571

Accounts payable
37,859

 
37,797

Accrued payroll and related liabilities
55,152

 
42,658

Other accrued liabilities
56,352

 
43,968

Total current liabilities
184,359

 
156,994

Long-term debt, less current portion
604,445

 
586,282

Deferred income taxes
122,317

 
101,229

Other liabilities
37,429

 
25,947

Total liabilities
948,550

 
870,452

Commitments and contingencies

 

Redeemable noncontrolling interests
6,975

 
6,964

Preferred stock, par value $0.001, 11,000 shares authorized, none outstanding

 

VCA Antech, Inc. stockholders’ equity:
 
 
 
Common stock, par value $0.001, 175,000 shares authorized, 87,829 and 86,796 shares outstanding as of September 30, 2012 and December 31, 2011, respectively
88

 
87

Additional paid-in capital
382,479

 
361,715

Retained earnings
849,260

 
745,658

Accumulated other comprehensive income
2,883

 
418

Total VCA Antech, Inc. stockholders’ equity
1,234,710

 
1,107,878

Noncontrolling interests
11,050

 
10,074

Total equity
1,245,760

 
1,117,952

Total liabilities and equity
$
2,201,285

 
$
1,995,368



The accompanying notes are an integral part of these condensed, consolidated financial statements.

1

VCA Antech, Inc. and Subsidiaries
Condensed, Consolidated Income Statements
(Unaudited)
(In thousands, except per share amounts)



 
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2012
 
2011
 
2012
 
2011
Revenue
$
433,613

 
$
385,135

 
$
1,281,450

 
$
1,116,363

Direct costs
334,432

 
294,998

 
988,283

 
849,616

Gross profit
99,181

 
90,137

 
293,167

 
266,747

Selling, general and administrative expense
37,608

 
32,488

 
115,656

 
85,334

Net loss (gain) on sale of assets
387

 
(192
)
 
1,022

 
(43
)
Operating income
61,186

 
57,841

 
176,489

 
181,456

Interest expense, net
4,295

 
4,222

 
12,746

 
12,816

Debt retirement costs

 
2,764

 

 
2,764

Business combination adjustment gain

 

 
(5,719
)
 

Other (income) expense
(284
)
 
8

 
(639
)
 
(1
)
Income before provision for income taxes
57,175

 
50,847

 
170,101

 
165,877

Provision for income taxes
21,533

 
19,488

 
62,360

 
63,957

Net income
35,642

 
31,359

 
107,741

 
101,920

Net income attributable to noncontrolling interests
1,605

 
1,190

 
4,139

 
3,300

Net income attributable to VCA Antech, Inc
$
34,037

 
$
30,169

 
$
103,602

 
$
98,620

Basic earnings per share
$
0.39

 
$
0.35

 
$
1.18

 
$
1.14

Diluted earnings per share
$
0.38

 
$
0.35

 
$
1.17

 
$
1.13

Weighted-average shares outstanding for basic earnings per share
87,773

 
86,697

 
87,554

 
86,531

Weighted-average shares outstanding for diluted earnings per share
88,654

 
87,253

 
88,589

 
87,293



The accompanying notes are an integral part of these condensed, consolidated financial statements.

2


VCA Antech, Inc. and Subsidiaries
Condensed, Consolidated Statements of Comprehensive Income
(Unaudited)
(In thousands)

 
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2012
 
2011
 
2012
 
2011
Net income (1)  
$
35,642

 
$
31,359

 
$
107,741

 
$
101,920

Other comprehensive income:
 
 
 
 
 
 
 
Foreign currency translation adjustments
2,615

 
(669
)
 
2,173

 
(373
)
Unrealized gain (loss) on foreign currency
432

 
(608
)
 
479

 
(371
)
Tax (expense) benefit
(169
)
 
237

 
(187
)
 
145

Other comprehensive income (loss)
2,878

 
(1,040
)
 
2,465

 
(599
)
Total comprehensive income
38,520

 
30,319

 
110,206

 
101,321

Comprehensive income attributable to noncontrolling interests (1) 
1,605

 
1,190

 
4,139

 
3,300

Comprehensive income attributable to VCA Antech, Inc
$
36,915

 
$
29,129

 
$
106,067

 
$
98,021

 ____________________________
(1)  
Includes approximately $2.1 million and $1.5 million of net income related to redeemable and mandatorily redeemable noncontrolling interests for the nine months ended September 30, 2012 and September 30, 2011 , respectively.



































The accompanying notes are an integral part of these condensed, consolidated financial statements.

3


VCA Antech, Inc. and Subsidiaries
Condensed, Consolidated Statements of Equity
(Unaudited)
(In thousands)



 
Common Stock
 
Additional
Paid-In
Capital
 
Retained
Earnings
 
Accumulated
Other
Comprehensive
Income
 
Noncontrolling
Interests
 
 Total
 
Shares
 
Amount
 
 
 
 
 
Balances, December 31, 2010
86,179

 
$
86

 
$
347,848

 
$
650,253

 
$
737

 
$
10,561

 
$
1,009,485

Net income (excludes $1,207 and $326 related to redeemable and mandatorily redeemable noncontrolling interests, respectively).

 

 

 
98,620

 

 
1,767

 
100,387

Other comprehensive loss

 

 

 

 
(599
)
 

 
(599
)
Distribution to noncontrolling interests

 

 

 

 

 
(1,046
)
 
(1,046
)
Purchase of noncontrolling interests

 

 
263

 

 

 
(875
)
 
(612
)
Share-based compensation

 

 
6,610

 

 

 

 
6,610

Issuance of common stock under stock incentive plans
596

 
1

 
2,595

 

 

 

 
2,596

Stock repurchases
(113
)
 

 
(2,663
)
 

 

 

 
(2,663
)
Excess tax benefit from stock options

 

 
963

 

 

 

 
963

Tax shortfall and other from stock options and awards

 

 
(539
)
 

 

 

 
(539
)
Balances, September 30, 2011
86,662

 
$
87

 
$
355,077

 
$
748,873

 
$
138

 
$
10,407

 
$
1,114,582

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Balances, December 31, 2011
86,796

 
$
87

 
$
361,715

 
$
745,658

 
$
418

 
$
10,074

 
$
1,117,952

Net income (excludes $702 and $1,359 related to redeemable and mandatorily redeemable noncontrolling interests, respectively).

 

 

 
103,602

 

 
2,078

 
105,680

Other comprehensive income

 

 

 

 
2,465

 

 
2,465

Distribution to noncontrolling interests

 

 

 

 

 
(1,102
)
 
(1,102
)
Share-based compensation

 

 
10,466

 

 

 

 
10,466

Issuance of common stock under stock incentive plans
745

 
1

 
3,321

 

 

 

 
3,322

Issuance of common stock for acquisitions
473

 

 
10,500

 

 

 

 
10,500

Stock repurchases
(185
)
 

 
(3,933
)
 

 

 

 
(3,933
)
Excess tax benefit from stock options

 

 
358

 

 

 

 
358

Tax benefit and other from stock options and awards

 

 
52

 

 

 

 
52

Balances, September 30, 2012
87,829

 
$
88

 
$
382,479

 
$
849,260

 
$
2,883

 
$
11,050

 
$
1,245,760



The accompanying notes are an integral part of these condensed, consolidated financial statements.

4



VCA Antech, Inc. and Subsidiaries
Condensed, Consolidated Statements of Cash Flows
(Unaudited)
(In thousands)
 
Nine Months Ended
September 30,
 
2012
 
2011
Cash flows from operating activities:
 
 
 
Net income
$
107,741

 
$
101,920

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation and amortization
56,882

 
41,386

Amortization of debt issue costs
961

 
1,169

Provision for uncollectible accounts
4,437

 
4,510

Debt retirement costs

 
2,764

Business combination adjustment gain
(5,719
)
 

Net loss (gain) on sale of assets
1,022

 
(43
)
Share-based compensation
10,466

 
6,610

Deferred income taxes
14,119

 
14,649

Excess tax benefit from exercise of stock options
(358
)
 
(963
)
Other
(838
)
 
(489
)
Changes in operating assets and liabilities:
 
 
 
Trade accounts receivable
(5,079
)
 
(7,018
)
Inventory, prepaid expense and other assets
(6,727
)
 
(9,806
)
Accounts payable and other accrued liabilities
3,161

 
(8,328
)
Accrued payroll and related liabilities
10,007

 
8,523

Income taxes
(1,636
)
 
8,707

Net cash provided by operating activities
188,439

 
163,591

Cash flows from investing activities:
 
 
 
Business acquisitions, net of cash acquired
(108,031
)
 
(190,363
)
Real estate acquired in connection with business acquisitions
(1,602
)
 
(1,900
)
Property and equipment additions
(55,257
)
 
(43,275
)
Proceeds from sale of assets
112

 
447

Other
(1,583
)
 
(723
)
Net cash used in investing activities
(166,361
)
 
(235,814
)
Cash flows from financing activities:
 
 
 
Repayment of debt
(52,040
)
 
(90,945
)
Proceeds from issuance of long-term debt
50,000

 
150,000

Proceeds from revolving credit facility
50,000

 
50,000

Repayment of revolving credit facility
(50,000
)
 
(50,000
)
Payment of financing costs
(122
)
 
(2,944
)
Distributions to noncontrolling interest partners
(2,802
)
 
(1,959
)
Proceeds from issuance of common stock under stock option plans
3,322

 
2,596

Excess tax benefit from exercise of stock options
358

 
963

Stock repurchases
(3,897
)
 
(2,663
)
Other
(1,273
)
 
(345
)
Net cash (used in) provided by financing activities
(6,454
)
 
54,703

Effect of currency exchange rate changes on cash and cash equivalents
386

 
(363
)
Increase (decrease) in cash and cash equivalents
16,010

 
(17,883
)
Cash and cash equivalents at beginning of period
63,651

 
97,126

Cash and cash equivalents at end of period
$
79,661

 
$
79,243

 
 
 
 
 
 
 
 

The accompanying notes are an integral part of these condensed, consolidated financial statements.

5



VCA Antech, Inc. and Subsidiaries
Condensed, Consolidated Statements of Cash Flows - Continued
(Unaudited)
(In thousands)
 
Nine Months Ended
September 30,
 
2012
 
2011
Supplemental disclosures of cash flow information:
 
 
 
Interest paid
$
11,614

 
$
12,214

Income taxes paid
$
48,671

 
$
40,601

Supplemental schedule of noncash investing and financing activities:
 
 
 
Detail of acquisitions:
 
 
 
Fair value of assets acquired
$
187,515

 
$
241,688

Fair value of pre-existing investment in AVC
(11,850
)
 

Noncontrolling interest
(8,161
)
 

Cash paid for acquisitions
(108,031
)
 
(189,255
)
Cash paid to debt holders
(25,915
)
 
(26,048
)
Issuance of common stock for acquisitions
(10,500
)
 

Contingent consideration
(934
)
 
(481
)
Holdbacks
(2,525
)
 
(800
)
Liabilities assumed
$
19,599

 
$
25,104



The accompanying notes are an integral part of these condensed, consolidated financial statements.

6


VCA Antech, Inc. and Subsidiaries
Notes to Condensed, Consolidated Financial Statements
September 30, 2012
(Unaudited)


 
1.
Nature of Operations
Our company, VCA Antech, Inc. (“VCA”) is a Delaware corporation formed in 1986 and is based in Los Angeles, California. We are an animal healthcare company with the following five operating segments: animal hospitals (“Animal Hospital”), veterinary diagnostic laboratories (“Laboratory”), veterinary medical technology (“Medical Technology”), Vetstreet and ThinkPets.
Our animal hospitals offer a full range of general medical and surgical services for companion animals. Our animal hospitals treat diseases and injuries, provide pharmaceutical products and perform a variety of pet-wellness programs, including health examinations, diagnostic testing, vaccinations, spaying, neutering and dental care. At September 30, 2012 , we operated 601 animal hospitals throughout 41 states and in three Canadian provinces.
We operate a full-service veterinary diagnostic laboratory network serving all 50 states and certain areas in Canada. Our laboratory network provides sophisticated testing and consulting services used by veterinarians in the detection, diagnosis, evaluation, monitoring, treatment and prevention of diseases and other conditions affecting animals. At September 30, 2012 , we operated 55 laboratories of various sizes located strategically throughout the United States and certain areas in Canada.
Our Medical Technology business sells digital radiography and ultrasound imaging equipment, provides education and training on the use of that equipment, provides consulting and mobile imaging services, and sells software and ancillary services to the veterinary market.
Our Vetstreet and ThinkPets businesses combined provide online communications, professional education, marketing solutions and an ecommerce platform for independent animal hospitals. In addition, Vetstreet.com provides a robust selection of products, information and services to the pet-owning community.
The practice of veterinary medicine is subject to seasonal fluctuation. In particular, demand for veterinary services is significantly higher during the warmer months because pets spend a greater amount of time outdoors where they are more likely to be injured and are more susceptible to disease and parasites. In addition, use of veterinary services may be affected by levels of flea infestation, heartworms and ticks, and the number of daylight hours.


2.
Basis of Presentation
Our accompanying unaudited, condensed, consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States (“GAAP”) for interim financial information and in accordance with the rules and regulations of the United States Securities and Exchange Commission (“SEC”). Accordingly, they do not include all of the information and notes required by GAAP for annual financial statements as permitted under applicable rules and regulations. In the opinion of management, all normal recurring adjustments considered necessary for a fair presentation have been included. The results of operations for the three and nine months ended September 30, 2012 are not necessarily indicative of the results to be expected for the full year ending December 31, 2012. For further information, refer to our consolidated financial statements and notes thereto included in our 2011 Annual Report on Form 10-K.

The preparation of our condensed, consolidated financial statements in accordance with GAAP requires management to make estimates and assumptions that affect the amounts reported in our condensed, consolidated financial statements and notes thereto. Actual results could differ from those estimates.







7


VCA Antech, Inc. and Subsidiaries
Notes to Condensed, Consolidated Financial Statements (Continued)
September 30, 2012
(Unaudited)


3.
Goodwill and Other Intangible Assets
Goodwill
The following table presents the changes in the carrying amount of our goodwill for the nine months ended September 30, 2012 (in thousands):
 
 
Animal
Hospital
 
Laboratory
 
All Other
 
Total
Balance as of December 31, 2011
$
1,035,401

 
$
96,810

 
$
105,396

 
$
1,237,607

Goodwill acquired
120,505

 
34

 
11,194

 
131,733

Foreign translation adjustment
2,053

 
23

 

 
2,076

Other (1)
(4,271
)
 

 
(1,028
)
 
(5,299
)
Balance as of September 30, 2012  (2)
$
1,153,688

 
$
96,867

 
$
115,562

 
$
1,366,117

 ____________________________

(1)  
Other includes acquisition-price adjustments, which consist primarily of an adjustment related to capital leases and buy-outs.

(2)  
Net of accumulated impairment losses of $ 21.3 million recorded in 2011, all related to our medical technology business, included in "All Other" in the above table.
We had no impairment losses during the nine months ended September 30, 2012 .
Other Intangible Assets
Our amortizable intangible assets at September 30, 2012 and December 31, 2011 are as follows (in thousands):
 
 
As of September 30, 2012
 
As of December 31, 2011
 
Gross
Carrying
Amount
 
Accumulated
Amortization
 
Net
Carrying
Amount
 
Gross
Carrying
Amount
 
Accumulated
Amortization
 
Net
Carrying
Amount
Non-contractual customer relationships
$
113,689

 
$
(33,011
)
 
$
80,678

 
$
82,891

 
$
(21,147
)
 
$
61,744

Covenants not-to-compete
12,262

 
(7,225
)
 
5,037

 
13,035

 
(8,067
)
 
4,968

Favorable lease assets
7,163

 
(3,717
)
 
3,446

 
5,571

 
(3,210
)
 
2,361

Trademarks
14,017

 
(2,667
)
 
11,350

 
7,405

 
(1,686
)
 
5,719

Contracts
3,500

 
(519
)
 
2,981

 
3,500

 
(185
)
 
3,315

Technology
17,161

 
(3,919
)
 
13,242

 
16,589

 
(2,342
)
 
14,247

Client lists
85

 
(57
)
 
28

 
84

 
(35
)
 
49

Total
$
167,877

 
$
(51,115
)
 
$
116,762

 
$
129,075

 
$
(36,672
)
 
$
92,403


 



8


VCA Antech, Inc. and Subsidiaries
Notes to Condensed, Consolidated Financial Statements (Continued)
September 30, 2012
(Unaudited)


3.
Goodwill and Other Intangible Assets, continued

The following table summarizes our aggregate amortization expense related to other intangible assets (in thousands):
 
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2012
 
2011
 
2012
 
2011
Aggregate amortization expense
$
6,612

 
$
3,883

 
$
16,830

 
$
9,092

The estimated amortization expense related to intangible assets for the remainder of 2012 and each of the succeeding years thereafter, as of September 30, 2012 , is as follows (in thousands):

Remainder of 2012
$
6,040

2013
22,377

2014
19,935

2015
17,837

2016
14,586

Thereafter
35,987

Total
$
116,762

 
4.
Acquisitions

The table below reflects the activity related to the acquisitions and dispositions of our animal hospitals and laboratories during the nine months ended September 30, 2012 :

Animal Hospitals:
 
Animal Hospital acquisitions, excluding Associate Veterinary Clinics (1981) LTD ("AVC")
24

Acquisitions, merged
(4
)
AVC acquisition
44

Sold, closed or merged
(4
)
Total
60

 
 
Laboratories:
 
Created
2





9


VCA Antech, Inc. and Subsidiaries
Notes to Condensed, Consolidated Financial Statements (Continued)
September 30, 2012
(Unaudited)


4.
Acquisitions, continued
Animal Hospital and Laboratory Acquisitions, excluding AVC
The following table summarizes the aggregate consideration for the 24 independent animal hospitals acquired during the nine months ended September 30, 2012 , and the preliminary allocation of the acquisition price (in thousands):

Consideration:
 
  Cash
$
51,744

  Holdback
1,475

  Earnout contingent consideration
934

      Fair value of total consideration transferred
$
54,153

 
 
Allocation of the Purchase Price:
 
  Tangible assets
$
1,995

  Identifiable intangible assets
9,184

  Goodwill (1)
42,974

      Total
$
54,153

____________________________

(1)      We expect that $ 40.0 million of the goodwill recorded for these acquisitions, as of September 30, 2012 , will be deductible for income tax purposes.
In addition to the purchase price listed above, are cash payments made for real estate acquired in connection with our purchase of animal hospitals, totaling $ 1.6 million for the nine months ended September 30, 2012 .
AVC
On January 31, 2012, we increased our investment in AVC by approximately CDN $81 million (approximately US $81 million ) becoming the sole non-veterinarian shareholder of AVC. At the time of the additional investment, AVC operated 44 animal hospitals in three Canadian provinces, offering services ranging from primary care, to specialty referral services and 24-hour emergency care. This investment and planned additional investments in AVC will facilitate our continued expansion in the Canadian market. At the time of the investment, AVC had annualized revenue of approximately CDN $95 million (approximately US $95 million ). Our consolidated financial statements reflect the operating results of AVC since January 31, 2012.




10


VCA Antech, Inc. and Subsidiaries
Notes to Condensed, Consolidated Financial Statements (Continued)
September 30, 2012
(Unaudited)


4.
Acquisitions, continued

The following table summarizes the total investment and the preliminary allocation of the investment in AVC (in thousands):
Consideration:
 
  Cash
$
48,819

  Cash paid to debt holders
25,915

      Fair value of total consideration transferred
$
74,734

 
 
Allocation of the Purchase Price:
 
  Tangible assets
$
11,743

  Identifiable intangible assets (1)
23,561

  Goodwill (2)
77,565

  Other liabilities assumed
(18,124
)
 
94,745

  Noncontrolling interest
(8,161
)
  Fair value of pre-existing investment in AVC
(11,850
)
      Total
$
74,734

____________________________

(1)      Identifiable intangible assets include customer relationships, trademark and covenants-not-to-compete.
(2)      As of September 30, 2012 , we expect that approximately $ 362,000 of the goodwill recorded for this acquisition will be deductible for income tax purposes.
Acquisition-related costs, included in corporate selling, general and administrative expense in our income statement, for the three and nine months ended September 30, 2012 , were approximately $161,000 and $500,000 , respectively.
The allocation of the additional investment is preliminary, because certain items have not been completed or finalized, including but not limited to, the valuation of assets, primarily property and equipment.
AVC is reported within our Animal Hospital reportable segment.
The pro forma impact on revenue and earnings have not been disclosed as the amounts were immaterial to the financial statements as a whole.
ThinkPets, Inc ("ThinkPets)
On February 1, 2012, we acquired 100% interest in ThinkPets for $21 million , payable by delivery of 473,389 shares of VCA common stock and $10.5 million in cash. We intend to combine the operations of ThinkPets with our Vetstreet business, which we expect will improve the products and services it offers to clients of both companies. Our consolidated financial statements reflect the operating results of ThinkPets since February 1, 2012.



11


VCA Antech, Inc. and Subsidiaries
Notes to Condensed, Consolidated Financial Statements (Continued)
September 30, 2012
(Unaudited)


4.
Acquisitions, continued
The following table summarizes the preliminary purchase price and the preliminary allocation of the investment in ThinkPets (in thousands):
Consideration:
 
  Cash
$
7,468

  Issuance of common stock for acquisitions
10,500

  Holdback
1,050

      Fair value of total consideration transferred
$
19,018

 
 
Allocation of the Purchase Price:
 
  Tangible assets
$
2,078

  Identifiable intangible assets (1)
7,221

  Goodwill (2)
11,194

  Other liabilities assumed
(1,475
)
      Total
$
19,018

____________________________

(1)      Identifiable intangible assets include customer relationships, contracts and trademark.
(2)      As of September 30, 2012 , we expect that approximately $ 821,000 of the goodwill recorded for this acquisition will be deductible for income tax purposes.
Acquisition-related costs, included in corporate selling, general and administrative expense in our income statement, for the three and nine months ended September 30, 2012 , were approximately $35,000 and $1.0 million , respectively.
The allocation of the purchase price is preliminary because certain items have not been completed or finalized, including but not limited to, the valuation of assets, including intangible assets, and liabilities.
ThinkPets is reported within our "All Other" category in our segment disclosures combined with our Medical Technology and Vetstreet operating segments.
The pro forma impact on revenue and earnings have not been disclosed as the amounts were immaterial to the financial statements as a whole.

5.
Other Accrued Liabilities
Other accrued liabilities consisted of the following (in thousands):
 
 
September 30,
2012
 
December 31,
2011
Deferred revenue
$
9,481

 
$
7,025

Accrued health insurance
6,275

 
5,553

Deferred rent
4,087

 
3,626

Accrued consulting fees
2,886

 
2,886

Holdbacks and earnouts
3,795

 
2,250

Customer deposits
2,681

 
2,281

Accrued lab service rebates
426

 
332

Other
26,721

 
20,015

 
$
56,352

 
$
43,968


 



12


VCA Antech, Inc. and Subsidiaries
Notes to Condensed, Consolidated Financial Statements (Continued)
September 30, 2012
(Unaudited)



6.
Long-Term Obligations
Senior Credit Facility
On January 25, 2012, we executed an amendment (the "First Amendment") to our Amended and Restated Credit and Guaranty Agreement entered into as of August 16, 2011 (our "Senior Credit Facility"). On January 24, 2012, we issued new term loans in the aggregate principal amount of $50.0 million . The First Amendment replenished the aggregate principal amount of uncommitted incremental facilities by $50.0 million , permitting us to request up to an aggregate principal amount of $100.0 million in uncommitted incremental facilities. The funds borrowed from the Incremental Facility were used to fully repay amounts borrowed to fund an additional investment in Associate Veterinary Clinics (1981) LTD ("AVC") on February 1, 2012. In connection with the First Amendment we incurred $122,000 in financing costs, of which approximately $47,000 were expensed as a component of selling, general and administrative expenses and $75,000 were capitalized as deferred financing costs.
The following table summarizes our long-term obligations at September 30, 2012 and December 31, 2011 (in thousands):

 
September 30,
2012
 
December 31,
2011
Revolver
$

 
$

Senior term notes at the adjusted Eurodollar rate + 1.75% (1.97% at September 30, 2012)
600,313

 
573,984

Other debt and capital lease obligations
39,128

 
44,869

Total debt obligations
639,441

 
618,853

Less - current portion
(34,996
)
 
(32,571
)
 
$
604,445

 
$
586,282


Interest Rate. In general, borrowings under the senior term notes and the revolving credit facility bear interest, at our option, on either:
 
the base rate (as defined below) plus the applicable margin. The applicable margin for a base rate loan is an amount equal to the applicable margin for Eurodollar rate (as defined below) minus 1.00%; or


the adjusted Eurodollar rate (as defined below), plus a margin of 1.75% (Level II, see table below), per annum until the date of delivery of the compliance certificate and the financial statements, for the period ended September 30, 2012 , at which time the applicable margin will be determined by reference to the leverage ratio in effect from time to time as set forth in the following table:
Level
 
Leverage Ratio
 
Applicable Margin for
Eurodollar Rate Loans
 
Applicable Revolving
Commitment Fee %
I
 
≥ 2.50:1.00
 
2.25%
 
0.50%
II
 
< 2.50:1.00 and ≥ 1.75:1.00
 
1.75%
 
0.375%
III
 
< 1.75:1.00 and ≥ 1.00:1.00
 
1.50%
 
0.25%
IV
 
< 1.00:1.00
 
1.25%
 
0.20%
The base rate for the senior term notes is a rate per annum equal to the greatest of Wells Fargo Bank, N.A. ("Wells Fargo") prime rate in effect on such day, the Federal funds effective rate in effect on such day plus 0.5% and the adjusted Eurodollar rate for a one-month interest period commencing on such day plus 1.0%. The adjusted Eurodollar rate is defined as the rate per annum obtained by dividing (1) the rate of interest offered to Wells Fargo on the London interbank market by (2) a percentage equal to 100% minus the stated maximum rate of all reserve requirements applicable to any member bank of the Federal Reserve System in respect of “Eurocurrency liabilities.”
 



13


VCA Antech, Inc. and Subsidiaries
Notes to Condensed, Consolidated Financial Statements (Continued)
September 30, 2012
(Unaudited)


6.
  Long-Term Obligations, continued

Maturity and Principal Payments . The Amended and Restated senior term notes mature on August 19, 2016 . Principal payments on the senior term notes are paid quarterly in the amount of (i) $7.9 million for the first four quarters beginning on December 31, 2012, (ii) $11.8 million for the two years following, and (iii) $15.8 million for the three quarters prior to maturity, at which time the remaining balance is due. The following table sets forth the remaining scheduled principal payments for our senior term notes (in thousands):
 
Remainder of 2012
 
$
7,891

2013
 
35,508

2014
 
47,344

2015
 
51,289

2016
 
458,281

Total
$
600,313

The revolving credit facility matures on August 19, 2016 . Principal payments on the revolving credit facility are made at our discretion with the entire unpaid amount due at maturity.
Guarantees and Security. We and each of our wholly-owned subsidiaries guarantee the outstanding debt under our senior credit facility. These borrowings, along with the guarantees of the subsidiaries, are further secured by substantially all of our consolidated assets. In addition, these borrowings are secured by a pledge of substantially all of the capital stock, or similar equity interests, of our wholly-owned subsidiaries.

7.
Fair Value Measurements
Fair Value of Financial Instruments
The FASB accounting guidance requires disclosure of fair value information about financial instruments, whether or not recognized in the accompanying condensed, consolidated balance sheets. Fair value as defined by the guidance is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The fair value estimates of financial instruments are not necessarily indicative of the amounts we might pay or receive in actual market transactions. The use of different market assumptions and/or estimation methodologies may have a material effect on the estimated fair value amounts.
Cash and Cash Equivalents. These balances include cash and cash equivalents with maturities of less than three months. The carrying amount approximates fair value due to the short-term maturities of these instruments.
Receivables, Less Allowance for Doubtful Accounts, Accounts Payable and Certain Other Accrued Liabilities. Due to their short-term nature, fair value approximates carrying value.
Long-Term Debt. The fair value of debt at September 30, 2012 and December 31, 2011 is based upon the ask price quoted from an external source, which is considered a Level 2 input.
 



14


VCA Antech, Inc. and Subsidiaries
Notes to Condensed, Consolidated Financial Statements (Continued)
September 30, 2012
(Unaudited)



7.
Fair Value Measurements, continued

The following table reflects the carrying value and fair value of our variable-rate long-term debt (in thousands):
 
 
As of September 30, 2012
 
As of December 31, 2011
 
Carrying
Value
 
Fair
Value
 
Carrying
Value
 
Fair
Value
Variable-rate long-term debt
$
600,313

 
$
601,814

 
$
573,984

 
$
573,984

At September 30, 2012 and December 31, 2011 , we did not have any material applicable nonrecurring measurements of nonfinancial assets and nonfinancial liabilities.

8.
Share-Based Compensation
Stock Option Activity
A summary of our stock option activity for the nine months ended September 30, 2012 is as follows (in thousands):
 
 
Stock
Options
 
Weighted-
Average
Exercise
Price
Outstanding at December 31, 2011
3,776

 
$
16.92

Granted
462

 
$
18.94

Exercised
(225
)
 
$
14.78

Canceled
(52
)
 
$
14.84

Outstanding at September 30, 2012
3,961

 
$
17.25

Exercisable at September 30, 2012
2,828

 
$
17.27

Vested and expected to vest at September 30, 2012
3,931

 
$
17.26

There were 462,229 stock options granted during the nine months ended September 30, 2012 , which had an estimated weighted-average grant date fair value of approximately $5.48 . The aggregate intrinsic value of our stock options exercised during the three and nine months ended September 30, 2012 was $360,000 and $ 1.6 million , respectively, and the actual tax benefit realized on options exercised during these periods was $141,000 and $ 629,000 , respectively.

Calculation of Fair Value

 
The fair value of our options is estimated on the date of grant using the Black-Scholes option pricing model. We amortize the fair value of our options on a straight-line basis over the requisite service period. The following assumptions were used to determine the preliminary fair value of those options granted during the nine months ended September 30, 2012 :
Expected volatility (1)
 
34.1
%
Weighted-average volatility (1)
 
34.1
%
Expected dividends
 

Expected term (years)
 
4.4

Risk-free rate (2)
 
0.62
%
_________________
(1)
We estimated the volatility of our common stock on the date of grant based on using both historical and implied volatilities.
(2)
The risk-free interest rate is based on the implied yield in effect at the time of option grant on U.S. Treasury zero-coupon issues with equivalent remaining terms.



15


VCA Antech, Inc. and Subsidiaries
Notes to Condensed, Consolidated Financial Statements (Continued)
September 30, 2012
(Unaudited)


8.
Share-Based Compensation, continued
At September 30, 2012 there was $5.8 million of total unrecognized compensation cost related to our stock options. This cost is expected to be recognized over a weighted-average period of 3.4 years .
The compensation cost charged against income, for stock options for the three months ended September 30, 2012 and 2011 , was $362,000 and $347,000 , respectively. The corresponding income tax benefit recognized was $142,000 and $136,000 , for the three months ended September 30, 2012 and 2011 , respectively.
The compensation cost charged against income, for stock options for the nine months ended September 30, 2012 and 2011 , was $1.1 million and $1.0 million , respectively. The corresponding income tax benefit recognized was $433,000 and $ 407,000 , for the nine months ended September 30, 2012 and 2011 , respectively.
Nonvested Stock Activity
During the nine months ended September 30, 2012 , we granted 68,900 shares of nonvested common stock as incentives to certain employees, including 14,308 shares for the annual directors' grant. Assuming continued service through each vesting date, the majority of these awards will vest in four equal annual installments beginning February 2013 through August 2016 .
Total compensation cost charged against income related to nonvested stock awards was $ 2.1 million and $ 3.7 million , for the three months ended September 30, 2012 and 2011 , respectively. The corresponding income tax benefit recognized in the income statement was $ 805,000 and $1.5 million , for the three months ended September 30, 2012 and 2011 , respectively. Total compensation cost charged against income related to nonvested stock awards was $ 9.1 million and $ 5.6 million , for the nine months ended September 30, 2012 and 2011 , respectively. The corresponding income tax benefit recognized in the income statement was $3.6 million and $2.2 million , for the nine months ended September 30, 2012 and 2011 , respectively.
At September 30, 2012 , there was $14.8 million of unrecognized compensation cost related to these nonvested shares, which will be recognized over a weighted-average period of 2.7 years . A summary of our nonvested stock activity for the nine months ended September 30, 2012 is as follows (in thousands, except per share amounts):
 
 
Shares    
 
Grant Date
Weighted-
Average Fair
Value
Per Share
Outstanding at December 31, 2011
1,516

 
$
20.76

Granted
69

 
$
21.41

Vested
(437
)
 
$
22.15

Forfeited/Canceled
(1
)
 
$
42.33

Outstanding at September 30, 2012
1,147

 
$
20.27

 
Restricted Stock Unit Activity
During the three and nine months ended September 30, 2012 , we granted 307,989 performance based restricted stock units ("RSUs") to our executive officers representing the right to receive one share of common stock. These RSUs will be earned upon achievement of the applicable performance criteria during the performance periods, from the fourth quarter 2012 through December 31, 2014, as set forth in the 2012 equity performance award agreements. Assuming achievement of the required performance conditions and continued service through each vesting date, these awards will vest in four equal annual installments beginning August 2013 through August 2016 .
Total compensation cost charged against income, related to RSU awards was $279,000 , for the three and nine months ended September 30, 2012 . The corresponding income tax benefit recognized in the income statement for the same periods were $109,000 .




16


VCA Antech, Inc. and Subsidiaries
Notes to Condensed, Consolidated Financial Statements (Continued)
September 30, 2012
(Unaudited)


8.
Share-Based Compensation, continued
At September 30, 2012 , there was $5.6 million of unrecognized compensation cost related to these RSUs, which will be recognized over a weighted-average period of 3.9 years.


9.
Calculation of Earnings per Share
Basic earnings per share is calculated by dividing net income by the weighted-average number of shares outstanding during the period. Diluted earnings per share is calculated by dividing net income attributable to VCA Antech, Inc. by the weighted-average number of common shares outstanding, after giving effect to all dilutive potential common shares outstanding during the period. Basic and diluted earnings per share were calculated as follows (in thousands, except per share amounts):  
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2012
 
2011
 
2012
 
2011
Net income attributable to VCA Antech, Inc
$
34,037

 
$
30,169

 
$
103,602

 
$
98,620

Weighted-average common shares outstanding:
 
 
 
 
 
 
 
Basic
87,773

 
86,697

 
87,554

 
86,531

Effect of dilutive potential common shares:
 
 
 
 
 
 
 
Stock options
461

 
445

 
523

 
593

Nonvested shares and units
420

 
111

 
512

 
169

Diluted
88,654

 
87,253

 
88,589

 
87,293

Basic earnings per share
$
0.39

 
$
0.35

 
$
1.18

 
$
1.14

Diluted earnings per share
$
0.38

 
$
0.35

 
$
1.17

 
$
1.13

For the three months ended September 30, 2012 and 2011 , potential common shares of 1,220,547 and 2,104,547 , respectively, were excluded from the computation of diluted earnings per share because their inclusion would have had an antidilutive effect.
For the nine months ended September 30, 2012 and 2011 , potential common shares of 1,100,645 and 1,139,567 , respectively, were excluded from the computation of diluted earnings per share because their inclusion would have had an antidilutive effect.
 

10.
Lines of Business
Our reportable segments are Animal Hospital and Laboratory. Our Animal Hospital segment provides veterinary services for companion animals and sells related retail and pharmaceutical products. Our Laboratory segment provides diagnostic laboratory testing services for veterinarians, both associated with our animal hospitals and those independent of us. Our other operating segments, included in “All Other” in the following tables, are our (i) Medical Technology business, which sells digital radiography and ultrasound imaging equipment, related computer hardware, software and ancillary services to the veterinary market and our (ii) Vetstreet business and our (iii) ThinkPets business. Vetstreet and ThinkPets provide online communications, professional education, marketing solutions to the veterinary community and an ecommerce platform for independent animal hospitals. These operating segments do not meet the quantitative requirements for reportable segments. Our operating segments are strategic business units that have different services, products and/or functions. The segments are managed separately because each is a distinct and different business venture with unique challenges, risks and rewards. We also operate a corporate office that provides general and administrative support services for our segments.






17


VCA Antech, Inc. and Subsidiaries
Notes to Condensed, Consolidated Financial Statements (Continued)
September 30, 2012
(Unaudited)



10.
Lines of Business, continued
The accounting policies of our segments are essentially the same as those described in the summary of significant accounting policies included in our 2011 Annual Report on Form 10-K. We evaluate the performance of our segments based on gross profit and operating income. For purposes of reviewing the operating performance of our segments all intercompany sales and purchases are generally accounted for as if they were transactions with independent third parties at current market prices.
 
The following is a summary of certain financial data for each of our segments (in thousands):
 
Animal
Hospital
 
Laboratory
 
All Other
 
Corporate
 
Intercompany
Eliminations
 
Total
Three Months Ended
September 30, 2012
 
 
 
 
 
 
 
 
 
 
 
External revenue
$
342,840

 
$
68,139

 
$
22,634

 
$

 
$

 
$
433,613

Intercompany revenue

 
13,147

 
5,466

 

 
(18,613
)
 

Total revenue
342,840

 
81,286

 
28,100

 

 
(18,613
)
 
433,613

Direct costs
288,588

 
44,109

 
19,217

 

 
(17,482
)
 
334,432

Gross profit
54,252

 
37,177

 
8,883

 

 
(1,131
)
 
99,181

Selling, general and administrative expense
7,745

 
7,285

 
8,764

 
13,814

 

 
37,608

Net (gain) loss on sale and disposal of assets
(77
)
 

 
464

 

 

 
387

Operating income (loss)
$
46,584

 
$
29,892

 
$
(345
)
 
$
(13,814
)
 
$
(1,131
)
 
$
61,186

Depreciation and amortization
$
13,953

 
$
2,544

 
$
2,611

 
$
806

 
$
(395
)
 
$
19,519

Property and equipment additions
$
14,069

 
$
1,342

 
$
1,660

 
$
2,120

 
$
(1,099
)
 
$
18,092

Three Months Ended
September 30, 2011
 
 
 
 
 
 
 
 
 
 
 
External revenue
$
303,203

 
$
67,588

 
$
14,344

 
$

 
$

 
$
385,135

Intercompany revenue

 
11,397

 
4,538

 

 
(15,935
)
 

Total revenue
303,203

 
78,985

 
18,882

 

 
(15,935
)
 
385,135

Direct costs
251,613

 
43,657

 
14,149

 

 
(14,421
)
 
294,998

Gross profit
51,590

 
35,328

 
4,733

 

 
(1,514
)
 
90,137

Selling, general and administrative expense
6,126

 
7,088

 
4,669

 
14,605

 

 
32,488

Net loss on sale and disposal of assets
(213
)
 
1

 
20

 

 

 
(192
)
Operating income (loss)
$
45,677

 
$
28,239

 
$
44

 
$
(14,605
)
 
$
(1,514
)
 
$
57,841

Depreciation and amortization
$
10,393

 
$
2,563

 
$
1,606

 
$
702

 
$
(334
)
 
$
14,930

Property and equipment additions
$
11,061

 
$
1,085

 
$
1,986

 
$
1,338

 
$
(629
)
 
$
14,841




18


VCA Antech, Inc. and Subsidiaries
Notes to Condensed, Consolidated Financial Statements (Continued)
September 30, 2012
(Unaudited)



10.
  Lines of Business, continued
 
Animal
Hospital
 
Laboratory
 
All Other
 
Corporate
 
Intercompany
Eliminations
 
Total
Nine Months Ended
September 30, 2012
 
 
 
 
 
 
 
 
 
 
 
External revenue
$
1,001,247

 
$
212,562

 
$
67,641

 
$

 
$

 
$
1,281,450

Intercompany revenue

 
40,074

 
14,202

 

 
(54,276
)
 

Total revenue
1,001,247

 
252,636

 
81,843

 

 
(54,276
)
 
1,281,450

Direct costs
852,059

 
132,612

 
54,499

 

 
(50,887
)
 
988,283

Gross profit
149,188

 
120,024

 
27,344

 

 
(3,389
)
 
293,167

Selling, general and administrative expense
22,797

 
22,393

 
27,076

 
43,390

 

 
115,656

Net loss (gain) on sale and disposal of assets
316

 
(14
)
 
704

 
16

 

 
1,022

Operating income (loss)
$
126,075

 
$
97,645

 
$
(436
)
 
$
(43,406
)
 
$
(3,389
)
 
$
176,489

Depreciation and amortization
$
40,536

 
$
7,618

 
$
7,456

 
$
2,374

 
$
(1,102
)
 
$
56,882

Property and equipment additions
$
40,132

 
$
4,691

 
$
4,430

 
$
8,111

 
$
(2,107
)
 
$
55,257

Nine Months Ended
September 30, 2011
 
 
 
 
 
 
 
 
 
 
 
External revenue
$
864,476

 
$
209,639

 
$
42,248

 
$

 
$

 
$
1,116,363

Intercompany revenue

 
33,280

 
11,939

 

 
(45,219
)
 

Total revenue
864,476

 
242,919

 
54,187

 

 
(45,219
)
 
1,116,363

Direct costs
720,393

 
130,192

 
40,206

 

 
(41,175
)
 
849,616

Gross profit
144,083

 
112,727

 
13,981

 

 
(4,044
)
 
266,747

Selling, general and administrative expense
18,253

 
20,577

 
11,809

 
34,695

 

 
85,334

Net loss on sale and disposal of assets
(84
)
 
19

 
22

 

 

 
(43
)
Operating income (loss)
$
125,914

 
$
92,131

 
$
2,150

 
$
(34,695
)
 
$
(4,044
)
 
$
181,456

Depreciation and amortization
$
29,799

 
$
7,542

 
$
2,931

 
$
2,067

 
$
(953
)
 
$
41,386

Property and equipment additions
$
33,832

 
$
4,049

 
$
3,003

 
$
3,923

 
$
(1,532
)
 
$
43,275

 
 
 
 
 
 
 
 
 
 
 
 
At September 30, 2012
 
 
 
 
 
 
 
 
 
 
 
Total assets
$
1,623,778

 
$
244,811

 
$
219,630

 
$
139,314

 
$
(26,248
)
 
$
2,201,285

At December 31, 2011
 
 
 
 
 
 
 
 
 
 
 
Total assets
$
1,439,103

 
$
232,423

 
$
202,187

 
$
142,793

 
$
(21,138
)
 
$
1,995,368











19


VCA Antech, Inc. and Subsidiaries
Notes to Condensed, Consolidated Financial Statements (Continued)
September 30, 2012
(Unaudited)



11.
Commitments and Contingencies
We have certain commitments, including operating leases, purchase agreements and acquisition agreements. These items are discussed in detail in our consolidated financial statements and notes thereto included in our 2011 Annual Report on Form 10-K. We also have contingencies as follows:
 
a.
Earn-Out Payments
We have contractual arrangements in connection with certain acquisitions that were accounted for under previous business combinations accounting guidance, whereby additional cash may be paid to former owners of acquired companies upon attainment of specified financial criteria, as set forth in the respective agreements. The amount to be paid cannot be determined until the earn-out periods expire and the attainment of criteria is established. If the specified financial criteria are attained, we will be obligated to pay approximately $2.5 million . Under the current business combination accounting guidance, contingent consideration, such as earn-out liabilities, is recognized as part of the consideration transferred on the acquisition date. A corresponding liability is recorded based on the fair value of the liability, if the fair value is known or determinable. The changes in fair value are recognized in earnings where applicable for each reporting period.
 
b.
Other Contingencies
We have certain contingent liabilities resulting from litigation and claims incident to the ordinary course of our business. We believe that the probable resolution of such contingencies will not have a material adverse effect on our consolidated financial position, results of operations or cash flows.

12.
Income Taxes
The effective tax rates of income attributable to VCA for the three and nine months ended September 30, 2012 , were 38.7% and 37.6% , respectively, as compared to the three and nine months ended September 30, 2011 , of 39.2% and 39.3% , respectively. The decreases in rates are, in part, due to the non-taxable gain of $ 5.7 million related to the increase in value of our historic noncontrolling interest in AVC, realized upon the acquisition of the remaining equity interest, in addition to lower tax rates in Canada.


13.
Noncontrolling Interests
We own some of our animal hospitals in partnerships with noncontrolling interest holders. We consolidate our partnerships in our consolidated financial statements because our ownership interest in these partnerships is equal to or greater than 50.1% and we control these entities. We record noncontrolling interest in income of subsidiaries equal to our partners’ percentage ownership of the partnerships’ income. We also record changes in the redemption value of our redeemable noncontrolling interests in net income attributable to noncontrolling interests in our condensed, consolidated income statements. We reflect our noncontrolling partners’ cumulative share in the equity of the respective partnerships as either noncontrolling interests in equity, mandatorily redeemable noncontrolling interests in other liabilities, or redeemable noncontrolling interests in temporary equity (mezzanine).
 
a.
Mandatorily Redeemable Noncontrolling Interests
The terms of some of our partnership agreements require us to purchase the partner’s equity in the partnership in the event of the partner’s death. We report these redeemable noncontrolling interests at their estimated redemption value and classify them as liabilities due to the certainty of the related event. We recognize redemption value changes in the obligation in interest expense. At September 30, 2012 and December 31, 2011 , these liabilities were $11.7 million and $3.1 million , respectively, and are included in other liabilities in our consolidated balance sheets.
 
b.
Redeemable Noncontrolling Interests
We also enter into partnership agreements whereby the minority partner is issued certain “put” rights. These rights are normally exercisable at the sole discretion of the minority partner. We report these redeemable noncontrolling interests at their estimated redemption value and classify them in temporary equity (mezzanine). We recognize changes in the obligation in net