VCA Inc.
VCA INC (Form: 10-K, Received: 02/27/2015 13:43:31)


 
 
 
 
 
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549  
FORM 10-K
 
[X]
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2014
or
 
[ ]
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
Commission file number 001-16783  
VCA Inc.
(Exact name of registrant as specified in its charter)
Delaware
 
95-4097995
(State or other jurisdiction of
incorporation or organization)
 
12401 West Olympic Boulevard,
Los Angeles, California
(Address of principal executive offices)
 
(I.R.S. employer
identification no.)
 
90064-1022
(Zip code)
 
Registrant’s telephone number, including area code: (310) 571-6500
 
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class
 
Name of Each Exchange on Which Registered
Common Stock, par value $0.001 per share
 
Nasdaq Global Select Market
Securities registered pursuant to Section 12(g) of the Act:
None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes  [X]        No  [ ]
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.    
Yes  [ ]        No  [X]
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 if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.    [X]
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]
The aggregate market value of the voting common equity held by non-affiliates as of June 30, 2014 , was approximately $ 3.0 billion , computed by reference to the price of $35.09 per share, the price at which the common equity was last sold on such date as reported on the NASDAQ Global Select Market. For purposes of this computation, it is assumed that the shares beneficially held by directors and officers of the registrant would be deemed to be stock held by affiliates. Non-affiliated common stock outstanding at June 30, 2014 was 85,050,307 shares.
Total common stock outstanding at February 23, 2015 was 82,089,335  shares.
DOCUMENTS INCORPORATED BY REFERENCE
Parts of the definitive Proxy Statement to be delivered to stockholders in connection with the 2015 Annual Meeting of Stockholders are incorporated by reference into Items 10, 11, 12, 13 and 14 hereof.

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VCA Inc. and Subsidiaries
Table of Contents
 
 
 
 
 
Page
 
PART I
 
 
 
 
 
PART II
 
 
 
 
 
PART III
 
 
 
 
 
PART IV
 
 


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PART I

ITEM 1.
BUSINESS

Company Overview

We are a leading national animal healthcare company operating in the United States and Canada. We provide veterinary services and diagnostic testing to support veterinary care, we sell diagnostic imaging equipment and other medical technology products and related services to the veterinary market and we provide various communication, marketing solutions and other services to the veterinary community.

Our animal hospitals offer a full range of general medical and surgical services for companion animals, as well as specialized treatments including advanced diagnostic services, internal medicine, oncology, ophthalmology, dermatology and cardiology. In addition, we provide pharmaceutical products and perform a variety of pet wellness programs including health examinations, diagnostic testing, routine vaccinations, spaying, neutering and dental care. Our network of animal hospitals is supported by more than 3,000 veterinarians and had approximately 8.8 million patient visits in 2014 .

Our network of veterinary diagnostic laboratories provides sophisticated testing and consulting services used by veterinarians in the detection, diagnosis, evaluation, monitoring, treatment and prevention of diseases and other conditions affecting animals. Our network of veterinary diagnostic laboratories provides diagnostic testing for over 16,000 clients, which includes standard animal hospitals, large animal practices, universities and other government organizations.

Our medical technology business sells digital radiography and ultrasound imaging equipment, provides education and training on the use of that equipment, and provides consulting and mobile imaging services.

Our communication and marketing solutions business provides services to veterinary practices, pharmaceutical manufacturers, and the pet owning community. Our services to veterinary practices include subscriptions to our Pet Portals. The Pet Portal provides an online platform for the veterinarian to offer secure individualized portals for pet owners as well as practice websites that are branded to the individual veterinary clinic. We also sell appointment reminder notices that are sent to pet owners on behalf of their clinics both print and email. Our services to manufacturers predominately involve business analytics, and targeted marketing programs to animal hospitals whom are subscribers to our Pet Portal.

Our pet services business primarily franchises a premier provider of pet services including dog day care, overnight boarding, grooming and other ancillary services at specially designed pet care facilities, principally under the trademark Camp Bow Wow®. Camp Bow Wow also operates several corporate-owned facilities.

Our principal executive offices are located at 12401 West Olympic Boulevard, Los Angeles, California. We can be contacted at (310) 571-6500.

Company History

Our company was formed in 1986 as a Delaware corporation and has since established a position in the animal healthcare industry through both internal growth and by acquisitions. By 2010, we operated a total of 528 animal hospitals, 50 laboratories, and a supplier of digital radiography and ultrasound imaging equipment. Subsequent to 2010, our company continued to grow by adding, additional laboratories, independent animal hospitals, animal hospital chains and other ancillary businesses, the following of which were noteworthy:

On July 11, 2011, we acquired BrightHeart Veterinary Centers (“BrightHeart”) which operated nine animal hospitals, eight of which focus on the delivery of specialty and emergency medicine. The acquisition increased our level of market recognition in areas where we had an existing market presence.

On August 9, 2011, we acquired Vetstreet, Inc., formerly known as MediMedia Animal Health, LLC (“Vetstreet”), the nation’s largest provider of online communications, professional education and marketing solutions to the veterinary community. The acquisition of Vetstreet expanded the breadth of our product offerings to the veterinary community.

On January 31, 2012 we expanded our operations into Canada with an increased investment in Associate Veterinary Clinics (1984) Limited ("AVC"), which operated 44 hospitals in three Canadian provinces as of the acquisition date.

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On August 15, 2014, we acquired Camp Bow Wow Franchising, Inc., formerly known as D.O.G. Enterprises, LLC ("Camp Bow Wow"). On the acquisition date, there were 125 Camp Bow Wow® franchise locations operating in 37 states and one Canadian province. The acquisition has expanded our participation in the dog boarding and day care service segment of the pet health industry.

Industry Overview

According to American Pet Products Association, Inc’s. (“APPA”) 2013-2014 APPA National Pet Owners Survey , the United States population of companion animals is approximately 208 million, including about 179 million dogs and cats. APPA estimates that approximately $34 billion was spent in the United States on pets in 2014 for veterinary care, supplies, medicine and boarding and grooming. The survey indicated that the ownership of pets is widespread with approximately 83 million, or 68%, of U.S. households owning at least one pet, including companion and other animals. Specifically, 57 million households owned at least one dog and 45 million households owned at least one cat.

We believe that among pet owners there is a growing awareness of pet health and wellness, including the benefits of preventive care and specialized services. As technology continues to migrate from the human healthcare sector into the practice of veterinary medicine, more sophisticated treatments, diagnostic tests and equipment are becoming available to treat companion animals. These new and increasingly complex procedures, diagnostic tests, including laboratory testing and advanced imaging, and pharmaceuticals are gaining wider acceptance as pet owners are exposed to these previously unconsidered treatment programs through their exposure with this technology in human healthcare, and through literature and marketing programs sponsored by large pharmaceutical and pet nutrition companies.

Even as treatments available in veterinary medicine become more complex, prices for veterinary services typically remain a low percentage of a pet owner’s income, facilitating payment at the time of service. Unlike the human healthcare industry, providers of veterinary services are not dependent on third-party payers in order to collect fees. As such, providers of veterinary services typically do not have the problems of extended payment collection cycles or pricing pressures from third-party payers faced by human healthcare providers. Outsourced laboratory testing and diagnostic equipment sales are wholesale businesses that collect payments directly from animal hospitals under standard industry payment terms. Fees for services provided in our animal hospitals are due at the time of service. In 2014 , over 99% of our animal hospital services were paid at the time of service. In addition, over the past three fiscal years our bad debt expense has averaged less than 1% of total revenue.

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 infestation of fleas, heartworms and ticks, and the number of daylight hours.

Animal Hospital Industry

Animal healthcare is provided predominately by the veterinarian practicing as a sole practitioner, or as part of a larger group practice or hospital. Veterinarians diagnose and treat animal illnesses and injuries, perform surgeries, provide routine medical exams and prescribe medication. Some veterinarians specialize by type of medicine, such as orthopedics, dentistry, ophthalmology or dermatology. Others focus on a particular type of animal. The principal factors in a pet owner’s decision as to which veterinarian to use include convenient location and hours, personal recommendations, reasonable fees and quality of care.

According to the American Veterinary Medical Association, the U.S. market for veterinary services is highly fragmented with more than 53,000 veterinarians practicing at the end of 2014 . We have estimated that there are over 26,000 companion animal hospitals operating at the end of 2014 . Although most animal hospitals are single-site, sole-practitioner facilities, we believe veterinarians are gravitating toward larger, multi-doctor animal hospitals that provide state-of-the-art facilities, treatments, methods and pharmaceuticals to enhance the services they can provide their clients.

Well-capitalized animal hospital operators have the opportunity to supplement their internal growth with selective acquisitions. We believe the extremely fragmented animal hospital industry is consolidating due to:

the choice of some owners of animal hospitals to diversify their investment portfolio by selling all or a portion of their investment in the animal hospital;


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the purchasing, marketing and administrative cost advantages that can be realized by a large, multiple location, multi-doctor veterinary provider;

the cost of financing equipment purchases and upgrading technology necessary for a successful practice;

the desire of veterinarians to focus on practicing veterinary medicine, rather than spending large portions of their time performing the administrative tasks necessary to operate an animal hospital; and

the appeal to many veterinarians of the benefits and flexible work schedule that is not typically available to a sole practitioner or single-site provider.

Diagnostic Laboratory Industry

Veterinarians use laboratory tests to diagnose and monitor illnesses and conditions through the detection of substances in urine, tissue, fecal and blood samples, and other specimens. As is the case with the physician treating a human patient, laboratory diagnostic testing is becoming a routine diagnostic tool used by the veterinarian.

Veterinary laboratory tests are performed primarily at veterinary diagnostic laboratories, universities or at animal hospitals using on-site diagnostic equipment. For certain tests, on-site diagnostic equipment can provide more timely results than outside laboratories, but this in-house testing requires the animal hospital or veterinarian to purchase or lease the equipment, maintain and calibrate the equipment periodically to avoid testing errors, employ trained personnel to operate it and purchase testing supplies. Conversely, veterinary diagnostic laboratories can provide a wider range of tests than generally are available on-site at most animal hospitals and do not require any up-front investment on the part of the animal hospital or veterinarian. Leading veterinary diagnostic laboratories also employ highly trained individuals who specialize in the detection and diagnosis of diseases and thus are a valuable resource for the veterinarian.

Our laboratories offer a broad spectrum of standard and customized tests to the veterinary market, convenient sample pick-up times, rapid test reporting and access to professional consulting services provided by trained specialists. Providing the customer with this level of service at competitive prices requires high throughput volumes due to the operating leverage associated with the laboratory business. As a result, larger laboratories are likely to have a competitive advantage relative to smaller laboratories.

We believe that the outsourced laboratory testing market is an integral segment of the animal healthcare industry as a result of:

the emphasis in veterinary education on diagnostic tests and the trend toward specialization in veterinary medicine, which are causing veterinarians to increasingly rely on tests for more accurate diagnoses;

the continued technological developments in veterinary medicine, which are increasing the breadth of tests offered; and

the continued focus on wellness, early detection and monitoring programs in veterinary medicine.

Business Strategy

Our business strategy is to continue expanding our market leadership in animal healthcare through our Animal Hospital, Laboratory, Medical Technology, Vetstreet and Camp Bow Wow operating segments. Key elements to our strategy include:

Capitalizing on our Leading Market Position to Generate Revenue Growth.     Our leading market position in the animal hospital, veterinary laboratory, online communications and pet services franchising markets positions us to capitalize on favorable growth trends in the animal healthcare industry. In our animal hospitals, we seek to generate revenue growth by capitalizing on the growing emphasis on pet health and wellness. In our laboratories, we seek to generate revenue growth by taking advantage of the growing number of outsourced diagnostic tests, the opportunities to expand the testing that we provide and by increasing our market share. We continually educate veterinarians on new and existing technologies and tests available to diagnose medical conditions. Further, we leverage the knowledge of our specialists by providing veterinarians with extensive client support in utilizing and understanding these diagnostic tests. Our Medical Technology business seeks to leverage our strengths in the broader veterinary markets by introducing technologies, products and services to the veterinary market. We seek to generate revenue growth by increasing our market share and educating veterinarians on new and existing technologies. In our Vetstreet business, we seek to generate revenue growth by providing integrated animal healthcare online and offline educational products,

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communication products and customized solutions for pharmaceutical manufacturers and veterinary professionals seeking to influence pet owner behavior in a medically appropriate way. By providing pet owners the basic knowledge they need to get more attuned to their pets' health, providing them authoritative pet health information and encouraging them to create and maintain a close relationship with the veterinarian of their choice, veterinary practice revenues should benefit. In our Camp Bow Wow business, we provide an all-day, full-service offering, including large outdoor and indoor play areas, spacious cabins, comfortable cots, live webcams and Certified Camp Counselors. More importantly, we provide assurance to owners that their pets will be in a safe, happy and loved environment. Our Home Buddies programs provide dog walking, pet sitting, in-home webcam rentals, pet waste cleanup and other ancillary services. Our Home Buddies programs provide reward-based dog training including obedience classes, private sessions and advanced behavior modification. We use certified trainers to help dogs deal with aggression towards people and other animals, fence fighting, leash reactivity and separation anxiety. We plan to leverage Camp Bow Wow's and VCA's existing customer bases and facilities to cross-promote VCA and Camp Bow Wow services.

Leveraging Established Infrastructure to Improve Margins.     We intend to leverage our established Animal Hospital and Laboratory infrastructure to increase our operating margins. Due to our established networks and the fixed cost nature of our business model, we are able to realize high margins on incremental revenue from Animal Hospital and Laboratory customers. For example, given that our nationwide transportation network servicing our Laboratory customers is a relatively fixed cost, we are able to achieve significantly higher margins on most incremental tests ordered by the same customer when picked up by our couriers at the same time.

Utilizing Enterprise-Wide Information Systems to Improve Operating Efficiencies.     Our Laboratory and the majority of our Animal Hospital operations utilize enterprise-wide management information systems. We believe that these common systems enable us to more effectively manage the key operating metrics that drive our business. With the aid of these systems, we seek to standardize pricing, expand the services we provide and increase volume through targeted marketing programs.

Pursuing Selected Acquisitions.     The fragmentation of the animal hospital industry provides us with significant expansion opportunities in our Animal Hospital segment. Depending upon the attractiveness of the candidates and the strategic fit with our existing operations, we intend to acquire independent animal hospitals each year with aggregate annual revenue of approximately $65 million to $95 million. Our overall acquisition strategy involves the identification of high-quality practices where we can create additional value through the services and scale we can provide. Our typical candidate mirrors the profile of our existing animal hospital base. These acquisitions will be used to both expand existing markets and to enter into new geographic areas. In addition, we also evaluate the acquisition of animal hospital chains, laboratories or related businesses if favorable opportunities are presented. We intend primarily to use cash in our acquisitions but, depending on the timing and amount of our acquisitions, we may use stock or debt.

Business Segments

We report our results of operations through two reportable segments: Animal Hospital and Laboratory. Our Vetstreet, Medical Technology and Camp Bow Wow operating segments do not meet the materiality requirements to be presented as separate reportable segments. Accordingly, they are grouped into an “All Other” category.

Information regarding revenue and operating income, attributable to each of our reportable segments, is included in the Segment Result s section within Management’s Discussion and Analysis of Financial Condition and Results of Operations, and within Note 15, Lines of Business, of our Notes to Consolidated Financial Statements , which are incorporated herein by reference.

Animal Hospital

At December 31, 2014 , we operated or managed 643 animal hospitals serving 41 states and four Canadian provinces. Our Animal Hospital revenue accounted for 79% , 79% and 78% of total consolidated revenue in 2014 , 2013 and 2012 , respectively.

Services

In addition to general medical and surgical services, we offer specialized treatments for companion animals, including advanced diagnostic services, internal medicine, oncology, neurology, endocrinology, ophthalmology, dermatology and cardiology. We also provide pharmaceutical products for use in the delivery of treatments by our veterinarians and pet owners. Many of our animal hospitals offer additional services, including grooming, bathing and boarding. We also sell specialty pet products at our animal hospitals, including pet food, vitamins, therapeutic shampoos and conditioners, flea collars and sprays,

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and other accessory products. During our fiscal year, we launched VCA CareClub TM as the pet healthcare solution for pet owners who want a comprehensive and affordable way to keep their pets as healthy and happy as possible through every stage of their lives. VCA CareClub TM is a membership program that covers all life stages and includes: convenient monthly payments, multiple visits to a VCA hospital each year, veterinarian-recommended vaccines, prevention and early detection tests of serious diseases and routine dental care. We believe this preventative and early detection wellness program offers our customers peace of mind knowing they are doing the best for their pet.

Animal Hospital Network

We seek to provide quality care in clean, attractive facilities that are generally open between 10 to 15 hours per day, six to seven days per week. Our typical animal hospital:

is located in a 4,000 to 6,000 square-foot, freestanding facility in an attractive location;

has annual revenue between $1 million and $3 million;

is supported by three to five veterinarians; and

has an operating history of over 10 years.

As of December 31, 2014 , our network of freestanding, full-service animal hospitals had facilities located in the following states and four Canadian provinces:

California
 
113

 
Nevada
 
7

Texas*
 
48

 
Minnesota*
 
6

Washington*
 
34

 
Hawaii
 
5

New York*
 
34

 
Alaska
 
5

Florida
 
31

 
New Mexico
 
5

Massachusetts
 
28

 
New Hampshire*
 
5

Pennsylvania
 
26

 
Delaware
 
4

Illinois
 
20

 
South Carolina
 
4

Georgia
 
20

 
Wisconsin
 
4

Virginia
 
18

 
Missouri
 
3

Colorado
 
18

 
Rhode Island*
 
3

Connecticut
 
15

 
Tennessee
 
3

Arizona
 
15

 
Kansas*
 
2

New Jersey*
 
13

 
Kentucky
 
2

Indiana
 
12

 
Louisiana*
 
2

Oregon*
 
12

 
Nebraska*
 
2

Maryland
 
12

 
Vermont
 
2

North Carolina*
 
11

 
Utah
 
2

Michigan*
 
10

 
Alabama*
 
1

Ohio
 
10

 
West Virginia*
 
1

Oklahoma
 
7

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Ontario, Canada*
 
26

 
 
 
 
Alberta, Canada*
 
25

 
 
 
 
British Columbia, Canada*
 
13

 
 
 
 
Quebec, Canada*
 
4

 
 
 
 
 

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*
States and Canadian provinces with laws, rules and regulations which require that veterinary medical practices be owned by licensed veterinarians and that corporations which are not owned by licensed veterinarians refrain from providing, or holding themselves out as providers of, veterinary medical care. In these states/provinces we do not own the veterinary practices or provide veterinary care but provide management and other administrative services to the independently owned veterinary practices.

Marketing

We direct our marketing efforts toward increasing the number of annual visits from existing clients through customer education efforts and toward attracting new clients to our network of hospitals through online and offline initiatives. We inform and educate our clients about pet wellness and quality care through mailings of HealthyPet Magazine , which focuses on pet care and wellness. We also market through targeted demographic mailings regarding specific pet health issues and collateral health material made available at each animal hospital. With these internal marketing programs, we seek to leverage our existing customer base by increasing the number and intensity of the services received during each visit. We send reminder notices to increase awareness of the advantages of regular, comprehensive veterinary medical care, including preventive care such as early disease detection exams, vaccinations, dental screening and geriatric care. We also have expanded our online capabilities both internally and through Vetstreet. Our internal efforts involve offering increased convenience for our clients to book appointments or find detailed health related materials on our hospital websites. We also enter into referral arrangements with local pet shops, humane societies and veterinarians to increase our client base. We seek to obtain referrals from veterinarians by promoting our specialized diagnostic and treatment capabilities to veterinarians and veterinary practices that cannot offer their clients these services. Through Vetstreet, we provide robust health and wellness information to the pet owning community in order to attract additional clients to both VCA and non-VCA hospitals.

Personnel

Our animal hospitals generally employ a staff of between 20 and 30 full-time-equivalent employees, depending upon the facility’s size and customer base. The staff includes administrative and technical support personnel, three to five veterinarians, and a hospital manager who supervises the day-to-day activities of the facility.

We actively recruit qualified veterinarians and technicians and are committed to supporting continuing education for our professional staff. We operate post-graduate teaching programs for veterinarians at 32 of our facilities, which train over 150 veterinarians each year. We believe that these programs enhance our reputation in the veterinary profession and further our ability to continue to recruit the most talented veterinarians.

We seek to establish an environment that supports the veterinarian in the delivery of quality medicine and fosters professional growth through increased patient flow and a diverse case mix, continuing education, state-of-the-art equipment and access to specialists. We believe our animal hospitals offer attractive employment opportunities to veterinarians because of our professional environment, competitive compensation, management opportunities, employee benefits not generally available to a sole practitioner, flexible work schedules that accommodate personal lifestyles and the ability to relocate to different regions of the country.

We have established a medical advisory board to support our operations. Our advisory board, under the direction of our Chief Medical Officer, recommends medical standards for our network of animal hospitals and is comprised of veterinarians recognized for their outstanding knowledge and reputations in the veterinary field. Our advisory board members represent both the different geographic regions in which we operate and the medical specialties practiced by our veterinarians; and three members are faculty members at highly-ranked veterinary colleges. Additionally, our regional medical directors, a group of highly experienced veterinarians, are also closely involved in the development and implementation of our medical programs.

Laboratory

We operate a full-service, veterinary diagnostic laboratory network serving all 50 states and certain areas in Canada. Our Laboratory revenue accounted for 16% of total consolidated revenue in 2014 , 2013 and 2012. We service a diverse customer base of over 16,000 clients including animal hospitals we operate.

Services

Our diagnostic spectrum includes over 300 different tests in the area of chemistry, pathology, endocrinology, serology, hematology and microbiology, as well as tests specific to particular diseases.

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Although modified to address the particular requirements of the species tested, the tests performed in our veterinary laboratories are similar to those performed in human clinical laboratories and utilize similar laboratory equipment and technologies. We believe that the growing concern for animal health, combined with the movement of veterinary medicine toward increasing specialization, may result in the migration of additional areas of human testing into the veterinary field.

Given the recent advancements in veterinary medical technology and the increased breadth and depth of knowledge required for the practice of veterinary medicine, many veterinarians solicit the knowledge and experience of our specialists to interpret test results to aid in the diagnosis of illnesses and to suggest possible treatment alternatives. Our diagnostic experts include veterinarians, chemists and other scientists with expertise in pathology, internal medicine, oncology, cardiology, dermatology, neurology and endocrinology. Because of our specialists involvement, we believe the quality of our service further distinguishes our laboratory services as a premiere service provider.

Laboratory Network

At December 31, 2014 , we operated 59 veterinary diagnostic laboratories. Our laboratory network includes:

primary hubs that are open 24 hours per day and offer a full-testing menu;

secondary laboratories that are open 24 hours per day and offer a wide-testing menu servicing large metropolitan areas; and

short-term assessment and treatment (“STAT”) laboratories that service other locations with demand sufficient to warrant nearby laboratory facilities and are open primarily during daytime hours.

We connect our laboratories to our customers with what we believe is the industry’s largest transportation network, picking up requisitions daily through an extensive network of independent drivers and couriers. Customers outside our transportation network use FedEx to send specimens to our laboratory just outside of Memphis, Tennessee, which permits rapid and cost-efficient testing because of the proximity to the primary sorting facility of FedEx.

In 2014 , we derived approximately 87% of our Laboratory revenue from major metropolitan areas, where we offer twice-a-day pick-up service and same-day results. In addition, in these areas we generally offer to report results within three hours of pick-up. Outside of these areas, we typically provide test results to veterinarians before 8:00 a.m. the day following pick-up.

Sales, Marketing and Client Service

Our full-time sales and field-service representatives market laboratory services and maintain relationships with existing customers. Our sales force is compensated via salary plus commission and organized along geographic regions. We support our sales efforts by strengthening our industry-leading team of specialists, developing marketing literature, attending trade shows, participating in trade associations and providing educational services to veterinarians. Our client-service representatives respond to customer inquiries, provide test results and, when appropriate, introduce the customer to other services offered by the laboratory.

Personnel

Each of our primary and secondary laboratory locations includes a manager, supervisors for each department and personnel for laboratory testing. In addition, we employ or contract with specialists to interpret test results to assist veterinarians in the diagnosis of illnesses and to suggest possible treatment alternatives.

We actively recruit qualified personnel and are committed to supporting continuing education for our professional staff. We have internal training programs for routine testing procedures to improve the skill level of our technicians and to improve the overall capacity of our existing staff. We sponsor various residents and certain other educational programs. These programs serve to build awareness of our company with students, who may seek employment with our company following graduation.

Systems

We use an enterprise-wide management information system to support our Animal Hospital operations. In addition, a majority of our animal hospitals utilize consistent patient accounting/point-of-sale software and we are able to track performance of hospitals on a per-service, per-veterinarian and per-client basis.

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We use an enterprise-wide management information system to support our veterinary laboratories. All of our financial data, customer records and laboratory results are stored in computer databases. Laboratory technicians and specialists are able to electronically access test results from remote testing sites. Our software gathers data in a data warehouse enabling us to provide expedient results via fax or through our Internet online resulting system.

Competition

The companion animal healthcare industry is highly competitive and subject to continual change in the manner in which services are delivered and providers are selected. We believe that the primary factors influencing a customer’s selection of an animal hospital are convenient location and hours, personal recommendations, reasonable fees and quality of care. Our primary competitors for our animal hospitals in most markets are individual practitioners or small, regional multi-clinic practices. In addition, some national companies in the pet care industry, including the operators of super-stores, are developing networks of animal hospitals in markets that include our animal hospitals. We also compete with sellers of pet-related products and diagnostic services delivered via the Internet.

Among veterinary diagnostic laboratories, we believe that quality, price, specialist support and the time required to deliver results are the major competitive factors. There are many clinical laboratories that provide a broad range of diagnostic testing services in the same markets serviced by us, and we also face competition from several providers of on-site diagnostic equipment that allows veterinarians to perform various testing. Our principal competitor in most geographic locations in the United States is IDEXX Laboratories.

Our medical technology business is a leader in the market for medical imaging equipment in the animal healthcare industry. Our primary competitors are companies that are much larger than us and have substantially greater capital, manufacturing, marketing and research and development resources than we do, including companies such as Siemens, Philips and Canon. The success of our medical technology business, in part, is due to its focus on the veterinary market, which allows us to differentiate our products and services to meet the unique needs of this market. If this market receives more focused attention from these larger competitors, we may find it difficult to compete and as a result our business, financial condition and results of operations could be adversely and negatively impacted.

Our Vetstreet business operates in the online communication, professional education and marketing business within the animal healthcare industry. We believe that the primary factors influencing a customer's selection of a company which provides services such as Vetstreet to be price, breadth of product offerings and ease of integration with existing systems. The competitive landscape in this business changed during 2012. Five competitors have launched pet portal product offerings similar to Vetstreet's. We consider three of the five to be direct competitors. Vetstreet’s main competition in this space is IDEXX, Demand Force, and ePet Health.

Government Regulation

Certain states and provinces have laws, rules and regulations which require that veterinary medical practices be either wholly-owned or majority-owned by licensed veterinarians and that corporations which are not wholly-owned or majority-owned by licensed veterinarians refrain from providing, or holding themselves out as providers of, veterinary medical care. In these states and provinces, we provide management and other administrative services to veterinary practices rather than owning such practices or providing such care.

At December 31, 2014 , we provided management and administrative services to 184 animal hospitals in 15 states, and 68 animal hospitals in four Canadian provinces. In some cases, in addition to providing management and administrative services we may lease the veterinary facility and equipment to the veterinary practice. We consolidate these veterinary practices for financial reporting purposes. Although we have structured our operations to comply with our understanding of the veterinary medicine laws of each state and province in which we operate, interpretive legal precedent and regulatory guidance varies by jurisdiction and is often sparse and not fully developed. A determination that we are in violation of applicable restrictions on the practice of veterinary medicine in any jurisdiction in which we operate could have a material adverse effect on our operations, particularly if we were unable to restructure our operations to comply with the requirements of that jurisdiction.

In addition, all of the states in which we operate impose various registration requirements. To fulfill these requirements, we have registered each of our facilities with appropriate governmental agencies and, where required, have appointed a licensed veterinarian to act on behalf of each facility. All veterinarians practicing in our animal hospitals are required to maintain valid state licenses to practice.


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Our acquisitions may be subject to pre-merger or post-merger review by governmental authorities for anti-trust and other legal compliance. Adverse regulatory action could negatively affect our operations through the assessment of fines or penalties against us or the possible requirement of divestiture of one or more of our operations.

Employees

At December 31, 2014 we employed or managed on behalf of the professional corporations to which we provide services approximately 11,500 full-time-equivalent employees. At that date, none of these employees were a party to a collective bargaining agreement.

Availability of Our Reports Filed with the Securities and Exchange Commission (“SEC”)

We maintain a website with the address http://investor.vca.com . We are not including the information contained on our website as a part of, or incorporating it by reference into, this annual report on Form 10-K. We make available free of charge through our website our annual reports on Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K, and amendments to these reports, as soon as reasonably practicable after we electronically file that material with, or furnish that material to, the SEC.

The SEC maintains an Internet site that contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC. Copies of our reports filed electronically with the SEC may be accessed on the SEC’s website www.sec.gov . The public may also read and copy any materials filed with the SEC at the SEC’s Public Reference Room at 100 F Street NE, Washington, DC 20549. Information on the operation of the Public Reference Room may be obtained by calling the SEC at (800) SEC-0330.  

ITEM 1A.
RISK FACTORS

Our future operating results involve a number of risks and uncertainties. Actual events or results may differ materially from those discussed in this report. Any of the following risks could have a material adverse effect on our business, operating results and financial condition and cause the trading price of our common stock to decline.

Changes in the demand for our products and services could negatively affect our operating results.

The frequency of visits to our animal hospitals has declined and may continue to decline. We believe that the frequency of visits is impacted by consumer spending habits, which are affected by a number of factors, including among other things, prevailing economic conditions, levels of employment, salaries and wage rates, consumer confidence and consumer perception of economic conditions. The United States and Canadian economies have undergone and may in the future undergo, significant volatility and disruption. Business and financial disruptions in the United States' and Canadian economies could have a material adverse effect on the demand for our services. In addition, economic concerns may cause some pet owners to elect to skip or defer visits to veterinary hospitals, affect their willingness to approve certain diagnostic tests, comply with a treatment plan, forgo expensive treatment options, defer treatment for their pets altogether or even own a pet. Additionally, the frequency of visits to our animal hospitals and the number of diagnostic tests performed by our laboratories may be negatively impacted as a result of preventative care and better pet nutrition. Demand for vaccinations will be impacted in the future as protocols for vaccinations change. Our veterinarians establish their own vaccine protocols. Some of our veterinarians have changed their protocols and others may change their protocols in light of recent and/or future literature. The demand for our products and services may decline as a result of the eradication or substantial declines in the prevalence of certain diseases. Also, many pet-related products traditionally sold at animal hospitals have become more widely available in retail stores and other channels of distribution, including the Internet, resulting in a decline in demand for these products at our animal hospitals. All of the foregoing may result in a decrease in sales of our products and services, which could have a material adverse effect on our business, financial position, results of operations, and cash flows.

The significant competition in the companion animal healthcare industry could result in a decrease in our prices, an increase in our acquisition costs, a loss of market share and could materially affect our revenue and profitability.

The companion animal healthcare industry is highly competitive with few barriers to entry and we expect that competition may become even more intense in the future. New competitors have been entering our market and may continue to do so and existing competitors may introduce new and competitive products and services. Some of our competitors or potential competitors may seek to differentiate themselves by offering similar products or services at lower prices or bundled product and service offerings through co-marketing arrangements. To compete successfully, we may be required to reduce prices, increase

11



our acquisition and operating costs or take other measures that could have a material adverse effect on our business, financial condition or results of operations, margins and cash flow. In addition, if we are unable to compete successfully, we may lose market share.

A significant component of our annual growth strategy includes the acquisition of independent animal hospitals. The competition for animal hospital acquisitions from national and regional multi-clinic companies may cause us to increase the amount we pay to acquire additional animal hospitals and may result in fewer acquisitions than anticipated by our growth strategy. If we are unable to acquire our forecasted number of animal hospitals in any year, or if our acquisition costs increase, we may be unable to effectively implement our growth strategy and realize anticipated increases in Animal Hospital revenue and operating income.

Some national companies in the pet care industry, including the operators of super-stores, are developing networks of animal hospitals in markets that include our animal hospitals; this may cause us to reduce prices to remain competitive. Reducing prices may have a material adverse effect on our Animal Hospital revenue, operating income and margins, alternatively not reducing prices may cause us to lose market share.

We compete with clinical laboratory companies in the same markets we service. Some of these companies have acquired additional laboratories in the markets in which we operate and may continue their expansion, and aggressively “bundle” their products and services to compete with us. Increased competition may materially adversely affect our Laboratory revenue and margins. Several national companies develop and sell on-site diagnostic equipment that allows veterinarians to perform their own laboratory tests. Growth of the on-site diagnostic testing market may have a material adverse effect on our Laboratory revenue and operating income.

Our medical technology business is a leader in the market for medical imaging equipment in the animal healthcare industry. Our primary competitors are companies that are much larger than us and have substantially greater capital, manufacturing, marketing and research and development resources than we do, including companies such as Siemens, Philips and Canon. The success of our medical technology business, in part, is due to its focus on the veterinary market, which allows us to differentiate our products and services to meet the unique needs of this market. If this market receives more focused attention from these larger competitors, we may find it difficult to compete and as a result our business, financial condition and results of operations could be adversely and negatively impacted.

Our Vetstreet business operates in the online communication, professional education and marketing business within the animal healthcare industry. We believe that the primary factors influencing a customer's selection of a company which provides services such as Vetstreet to be price, breadth of product offerings and ease of integration with existing systems. The competitive landscape in this business changed during 2012. Five competitors have launched pet portal product offerings similar to Vetstreet's. We consider three of the five to be direct competitors. Vetstreet’s main competition in this space is IDEXX, Demand Force, and ePet Health.

If we are unable to effectively execute our growth strategy, it may have a negative impact on our growth and profitability.

Our ability to maintain or enhance our growth rates and profitability depends in part on our ability to increase our revenue and operating income through a balanced program of organic growth initiatives and selective acquisitions of established animal hospitals, laboratories and related businesses. If we are not able to implement or effectively execute on this strategy, our rate of growth or profitability may be negatively impacted. We currently have implemented several key initiatives in order to enhance our organic growth rates such as our Client Experience program, our Veterinarian Communication training and our VCA CareClub TM wellness plans. We have also entered into an agreement with several distributors to collaborate on the introduction of our laboratory services to their substantial list of customers in order to increase our market share. We experienced a decline in same-store revenue growth in our animal hospitals for ten consecutive quarters, which ended in the second quarter of 2011. Our Laboratory growth had also been affected and became negative during certain quarters of the three year period ending December 31, 2010. Our Animal Hospital same-store revenue, adjusted for differences in business days, has fluctuated between a decline of 2.5% and growth of 2.8% for 2010 through 2014. Our Laboratory internal revenue growth, adjusted for differences in billing days, has fluctuated between 0% and 5.3% over the same years. Our internal growth may continue to fluctuate and may be below our historical rates. Any reduction in the rate of our internal growth may cause our revenue and operating income to decrease. Investors should not assume that our historical growth rates are reliable indicators of results in future periods.


12



Due to the fixed cost nature of our business, fluctuations in our revenue could adversely affect our gross profit, operating income and margins.

A substantial portion of our expense, particularly rent and personnel costs, are fixed and are based in part on expectations of revenue. We may be unable to reduce spending in a timely manner to compensate for any significant fluctuations in our revenue. Accordingly, shortfalls in revenue may materially adversely affect our gross profit, operating income and margins.

We may experience difficulties hiring skilled veterinarians due to shortages that could disrupt our business.

From time to time we experience shortages of skilled veterinarians in some regional markets in which we operate animal hospitals which may require us to enhance wages and benefits to recruit and retain enough qualified veterinarians to adequately staff our animal hospitals. If our labor costs increase, we may not be able to raise our rates for our products and services to offset these increased costs. Our failure to recruit and retain qualified veterinarians, or to control our labor costs, could have a material adverse effect on our business, financial position, results of operations, and cash flows.

Any failure in our information technology systems, disruption in our transportation network or failure to receive supplies could significantly increase testing turn-around time, reduce our production capacity and otherwise disrupt our operations.

Our Laboratory operations depend on the continued and uninterrupted performance of our information technology systems and transportation network, including overnight delivery services provided by FedEx. Sustained system failures or interruption in our transportation network could disrupt our ability to process laboratory requisitions, perform testing, provide test results in a timely manner and/or bill the appropriate party. We could lose customers and revenue as a result of a system or transportation network failure. In addition, any change in government regulation related to transportation samples or specimens could also have an impact on our business.

Our computer systems are vulnerable to damage or interruption from a variety of sources, including telecommunications failures, electricity brownouts or blackouts, malicious human acts and natural disasters. Moreover, despite network security measures, some of our servers are potentially vulnerable to digital break-ins, computer viruses and similar disruptive problems. Despite the precautions we have taken, unanticipated problems affecting our systems could cause interruptions in our information technology systems. Our insurance policies may not adequately compensate us for any losses that may occur due to any failures in our systems.

Our Laboratory operations depend on a limited number of employees to upgrade and maintain its customized computer systems. If we were to lose the services of some or all of these employees, it may be time-consuming for new employees to become familiar with our systems, and we may experience disruptions in service during these periods.

Our operations depend, in some cases, on the ability of single source suppliers or a limited number of suppliers, to deliver products and supplies on a timely basis. Some of these suppliers are smaller companies with limited capital resources and some of the products that we purchase from these suppliers are proprietary, and, therefore, cannot be readily or easily replaced by alternative suppliers. We have in the past experienced, and may in the future experience, shortages of or difficulties in acquiring products and/or supplies in the quantities and of the quality needed. Shortages in the availability of products and/or supplies for an extended period of time will disrupt our ability to deliver products and provide services in a timely manner, could result in the loss of customers, and could have a material adverse impact on our results of operations.

Difficulties integrating new acquisitions may impose increased costs, loss of customers and a decline in operating margins and profitability and other risks that we may not anticipate.

Our success depends in part on our ability to timely and cost-effectively acquire, and integrate into our business, additional animal hospitals, laboratories and related businesses. In 2014, we acquired 47 animal hospitals and Camp Bow Wow. In 2013, we acquired 20 animal hospitals and one laboratory and in 2012, we acquired 79 animal hospitals, including 44 in Canada with the acquisition of AVC, one laboratory and ThinkPets. We expect to continue our animal hospital acquisition program and, if presented with favorable opportunities, we may acquire animal hospital chains, laboratories or related businesses. Our expansion into new territories and new business segments creates the risk that we will be unsuccessful in the integration of the acquired businesses that are new to our operations. Any difficulties in the integration process could result in increased expense, loss of customers and a decline in operating margins and profitability. In some cases, we have experienced delays and increased costs in integrating acquired businesses, particularly where we acquire a large number of animal hospitals in a single region at or about the same time. We also could experience delays in converting the systems of acquired businesses into our systems, which could result in increased staff and payroll expense to collect our results as well as delays in reporting our results, both for a particular region and on a consolidated basis. Further, the legal and business environment prevalent in

13



new territories and with respect to new businesses may pose risks that we do not anticipate and materially adversely impact our ability to integrate newly acquired operations. In addition, our field management may spend a greater amount of time integrating these new businesses and less time managing our existing businesses. During these periods, there may be less attention directed to marketing efforts or staffing issues, which could affect our revenue and expense. For all of these reasons, our historical success in integrating acquired businesses is not a reliable indicator of our ability to do so in the future.

The growth in multi-clinic animal hospital organizations and buying consortiums has resulted in the increased dependence in our Laboratory and Medical Technology Divisions on a few large supply contracts, the loss of any one of which could have a material adverse impact on our laboratory business and results of operations.

An increasing percentage of veterinary hospitals in the U.S. are owned by corporations that are in the business of acquiring veterinary hospitals and/or opening new veterinary hospitals nationally or regionally. Major corporate hospital owners in the U.S. include Banfield Pet Hospital and National Veterinary Associates, each of which is currently a customer of ours. A similar trend exists in Canada and may in the future also develop in other international markets. Furthermore, an increasing percentage of individually-owned veterinary hospitals in the U.S. are participating in buying consortiums. Corporate owners of veterinary hospitals and buying consortiums often seek to improve profitability by leveraging the buying power they derive from their scale to obtain favorable pricing from suppliers, which could have a negative impact on our results of operations. While we have strong supplier relationships with several corporate hospital groups and buying consortiums, decisions by larger corporate owners and buying consortiums to shift their purchasing of products and services away from us and to a competitor would have a negative impact on our results of operations.

Our business and reputation may be impacted by information technology system failures or network disruptions.

Despite the precautions we have taken, we may be subject to information technology system failures and network disruptions. These may be caused by natural disasters, accidents, power disruptions, telecommunications failures, acts of terrorism or war, computer viruses, physical or electronic break-ins, or similar events or disruptions. System redundancy may be ineffective or inadequate and our disaster recovery planning may not be sufficient for all eventualities. In addition, we rely on third parties for payment processing and secure handling of credit card and other confidential information. Failures or disruptions in their systems could prevent access to our services. System failures and disruptions could also impede the manufacturing and shipping of products, delivery of online services, transactions processing and financial reporting. If any of the above were to occur, our business, financial condition and results of operations could be materially and adversely affected.

We may be subject to loss of sensitive data that could subject us to significant reputational, financial, legal and operational consequences.

Our business requires us to use and store customer, employee and business personally identifiable information. This may include names, addresses, phone numbers, email addresses, contact preferences, tax identification numbers and payment account information. We require user names and passwords in order to access our information technology systems. We also use encryption and authentication technologies to secure the transmission and storage of data. These security measures may be compromised as a result of third-party security breaches, fraud, employee error, malfeasance, faulty password management or other irregularities, and result in persons obtaining unauthorized access to our data or our customers’ accounts. Third parties may attempt to fraudulently induce employees or customers into disclosing user names, passwords, payment information or other sensitive information, which may in turn be used to access our information technology systems.

We devote significant resources to network security, data encryption, and other security measures to protect our systems and data, but these security measures cannot provide absolute security. We may experience a breach of our systems and may be unable to protect sensitive data. Moreover, if fraud or a computer security breach affects our systems or results in the unauthorized release of data, our reputation and brand could be materially damaged and use of our products and services could decrease. As a consequence, we could also be exposed to the risk of direct loss or litigation, governmental investigations and inquiries and possible liability.

Failure to comply with federal, state and international laws and regulations relating to privacy, data protection and consumer protection, or the expansion of current or the enactment of new laws or regulations relating to privacy, data protection and consumer protection, could adversely affect our business and our financial condition.

A variety of federal, state and international laws and regulations govern the collection, use, retention, sharing and security of consumer data. Laws and regulations relating to privacy, data protection and consumer protection are evolving and are subject to potentially differing interpretations.


14



We strive to comply with all applicable laws, regulations and other legal obligations relating to privacy, data protection and consumer protection, including those relating to the use of data for marketing purposes. It is possible, however, that these requirements may be interpreted and applied in a manner that is inconsistent from one jurisdiction to another or may conflict with other rules or our practices. We cannot guarantee that our practices have complied, comply or will comply fully with all such laws, regulations, requirements and obligations. Any failure, or perceived failure, by us to comply with our posted privacy policies or with any federal, state or international privacy or consumer protection-related laws, regulations industry self-regulatory principles industry standards or codes of conduct, regulatory guidance, orders to which we may be subject or other legal obligations relating to privacy or consumer protection could adversely affect our reputation, brand and business, and may result in claims, proceedings or actions against us by governmental entities or others or other liabilities. Any such claim, proceeding or action could hurt our reputation, brand and business, force us to incur significant expenses in defense of such proceedings, distract our management, increase our costs of doing business, result in a loss of customers and suppliers and may result in the imposition of monetary liability. We may also be contractually liable to indemnify and hold harmless third parties from the costs or consequences of non-compliance with any laws, regulations or other legal obligations relating to privacy or consumer protection or any inadvertent or unauthorized use or disclosure of data that we store or handle as part of operating our business. Many foreign countries have adopted similar laws governing privacy. As we expand internationally, we will be subject to these laws and regulations, as well as to foreign intellectual property laws, laws regulating competition and other laws. There can be no assurance that we will not violate any applicable current or future foreign laws and regulations, which could result in fines and other penalties against us, litigation and/or regulatory action, damage our reputation and adversely affect our ability to successfully expand our business internationally, all of which could have a material adverse effect on our business, financial condition and operating results. In addition, various federal, state and foreign legislative and regulatory bodies, or self-regulatory organizations, may expand current laws or regulations, enact new laws or regulations or issue revised rules or guidance regarding privacy, data protection and consumer protection. Any such changes may force us to incur substantial costs or require us to change our business practices. This could compromise our ability to pursue our growth strategy effectively and may adversely affect our ability to acquire customers or otherwise harm our business, financial condition and results of operations.

The carrying value of our goodwill and other intangible assets could be subject to an impairment write-down.

At December 31, 2014, our consolidated balance sheet reflected $1.4 billion of goodwill and $88.2 million of other intangible assets, constituting a substantial portion of our total assets of $2.3 billion at that date. We expect that the aggregate amount of goodwill and other intangible assets on our consolidated balance sheet will increase as a result of future acquisitions. We continually evaluate whether events or circumstances have occurred that suggest that the fair value of our other intangible assets or each of our reporting units are below their respective carrying values. The determination that the fair value of our intangible assets or one of our reporting units is less than its carrying value would result in an impairment write-down. The impairment write-down would be reflected as an operating expense and could have a material adverse effect on our results of operations during the period in which we recognize the expense.

Our estimated fair values are calculated in accordance with generally accepted accounting principles related to fair value and utilize valuation methods consisting primarily of discounted cash flow techniques, and market comparables, where applicable. These valuation methods involve the use of significant assumptions and estimates such as forecasted growth rates, valuation multiples, the weighted-average cost of capital, and risk premiums, which are based upon the best available market information and are consistent with our long-term strategic plans. We provide no assurance that forecasted growth rates, valuation multiples, and discount rates will not deteriorate or that we will not incur additional impairment charges. We will continue to analyze changes to these assumptions in future periods.

Loss of our executive officers could disrupt our operations.

We depend on the efforts of a relatively few executive officers. Our executive officers are not currently, and are not expected to be, subject to non-compete provisions. In addition, our four most senior executive officers have served the Company in their capacities for more than 25 years. Any unplanned turnover or our failure to develop an adequate succession plan for one or more of our executive officer positions upon their retirement could deplete our institutional knowledge base and erode our competitive advantage. The loss or limited availability of the services of one or more of our executive officers, or our inability to recruit and retain qualified executive officers in the future, could, at least temporarily, have a material adverse effect on our business, financial condition and results of operations.


15



We require a significant amount of cash to service our debt and expand our business as planned.

We have, and will continue to have, a substantial amount of debt. Our substantial amount of debt requires us to dedicate a significant portion of our cash flow from operations to service interest and principal payments on our debt, thereby reducing the funds available for use for working capital, capital expenditures, acquisitions and general corporate purposes.

Our failure to satisfy covenants in our debt instruments will cause a default under those instruments.

In addition to imposing restrictions on our business and operations, our debt instruments include a number of covenants relating to financial ratios and tests. Our ability to comply with these covenants may be affected by events beyond our control, including prevailing economic, financial and industry conditions. The breach of any of these covenants would result in a default under these instruments. An event of default would permit our lenders and other debtholders to declare all amounts borrowed from them to be due and payable, together with accrued and unpaid interest. If we are unable to repay debt to our senior lenders, these lenders and other debtholders could proceed against our assets.

Our debt instruments may adversely affect our ability to run our business.

Our substantial amount of debt, as well as the guarantees of our subsidiaries and the security interests in our assets and those of our subsidiaries, could impair our ability to operate our business effectively and may limit our ability to take advantage of business opportunities. For example, our senior credit facility may:

limit our ability to borrow additional funds or to obtain other financing in the future for working capital, capital expenditures, acquisitions, investments and general corporate purposes;

limit our ability to dispose of our assets, create liens on our assets or to extend credit;

make us more vulnerable to economic downturns and reduce our flexibility in responding to changing business and economic conditions;

limit our flexibility in planning for, or reacting to, changes in our business or industry;

place us at a competitive disadvantage to our competitors with less debt; and

restrict our ability to pay dividends, repurchase or redeem our capital stock or debt, or merge or consolidate with another entity.

The terms of our senior credit facility allow us, under specified conditions, to incur further indebtedness, which would heighten the foregoing risks. If compliance with our debt obligations materially hinders our ability to operate our business and adapt to changing industry conditions, we may lose market share, our revenue may decline and our operating results may suffer.


Any failure by the manufacturers of our medical imaging equipment, failure in our ability to develop functional and cost-effective software for our products, or any product malfunctions could result in a decline in customer purchases and a reduction in our revenue and profitability.

We do not develop or manufacture the medical imaging equipment that we distribute, except for the software component of our digital radiography machines. Our business in large part is dependent upon distribution agreements with the manufacturers of the equipment, the ability of those manufacturers to produce desirable equipment and to keep pace with advances in technology, our ability to develop cost-effective, functional, and user-friendly software for the digital radiography machines, and the overall rate of new development within the industry. If the distribution agreements terminate or are not renewed, if the manufacturers breach their covenants under these agreements, if the equipment manufactured by these manufacturers or our software becomes less competitive or if there is a general decrease in the rate of new development within the industry, demand for our products and services would decrease.

Manufacturing flaws, component failures, design defects, or inadequate disclosure of product-related information could result in an unsafe condition or injury. These problems could result in product liability claims and lawsuits alleging that our products have resulted or could result in an unsafe condition or injury. In addition, a material adverse event involving one of our products could result in reduced market acceptance and demand for all of our products, and could harm our reputation and

16



our ability to market our products in the future. Any of the foregoing problems could disrupt our business and have a material adverse effect on our business, results of operations, financial condition and cash flows.

Our use of self-insurance, self-insured retention and high-deductible insurance programs to cover certain claims for losses suffered and costs or expenses incurred could negatively impact our business upon the occurrence of an uninsured and/or significant event.

We self-insure and use high-retention or high-deductible insurance programs with regard to property risks, general, professional and employment practice liabilities, health benefits, and workers’ compensation. In the event that the frequency of losses we experience increases unexpectedly, the aggregate of those losses could materially increase our liability and adversely affect our cash flows and results of operations. In addition, we have made certain judgments as to the limits on our existing insurance coverage that we believe are in line with industry standards, as well as in light of economic and availability considerations. If we experience losses above these limits it could materially adversely affect our financial and business condition.

If we fail to comply with governmental regulations applicable to our business, various governmental agencies may impose fines, institute litigation or preclude us from operating in certain states.

Certain states and provinces have laws, rules and regulations which require that veterinary medical practices be owned by licensed veterinarians and that corporations which are not owned by licensed veterinarians refrain from providing, or holding themselves out as providers of, veterinary medical care. At December 31, 2014, we provided management and administrative services to 184 animal hospitals in 15 states and 68 animal hospital in four Canadian provinces, under management agreements with these veterinary practices, including 48 practices in Texas, 34 in Washington, and 34 in New York. We may experience difficulty in expanding our operations into other states or provinces with similar laws, rules and regulations. Although we have structured our operations to comply with our understanding of the veterinary medicine laws of each state and province in which we operate, interpretive legal precedent and regulatory guidance varies by jurisdiction and is often sparse and not fully developed. A determination that we are in violation of applicable restrictions on the practice of veterinary medicine in any jurisdiction in which we operate, could have a material adverse effect on us, particularly if we are unable to restructure our operations to comply with the requirements of that jurisdiction.

All of the states in which we operate impose various registration requirements. To fulfill these requirements, we have registered each of our facilities with appropriate governmental agencies and, where required, have appointed a licensed veterinarian to act on behalf of each facility. All veterinarians practicing in our animal hospitals are required to maintain valid state licenses to practice.

Fluctuations in foreign currency exchange rates could adversely affect our operating results.

At December 31, 2014, we operated 68 animal hospitals and four laboratories in Canada. Transactions in those facilities are in Canadian dollars. Any strengthening of the rate of exchange for the U.S. dollar against the Canadian dollar adversely affects our results, as it reduces the dollar value of sales that are made in Canada and reduces the profits on products manufactured or sourced in U.S. dollars and exported to Canada. Approximately 8.2%, 7.3% and 6.5% of our consolidated revenue for each of the years ended December 31, 2014, 2013 and 2012 was derived from our operations in Canada. In the future, we may expand into other international markets. Currency exchange rates fluctuate on a daily basis as a result of a number of factors and cannot easily be predicted. To date, we have not hedged against foreign currency fluctuations; however, we may pursue hedging alternatives in the future. Our business, financial condition, and results of operations could be materially adversely affected by fluctuations in the exchange rate between international currencies and the U.S. dollar.

Our international operations may result in additional market risks, which may harm our business.

As our international operations grow, they may require greater management and financial resources. Internal operations require the integration of personnel with varying cultural and business backgrounds and an understanding of the relevant differences in the cultural, legal and regulatory environments. Our results may be increasingly affected by the risks of our international operations, including:

changes in internal staffing and employment issues,

failure to understand the local culture and market, and


17



the burden of complying with foreign laws, including tax and labor laws and foreign financial accounting standards.

 
ITEM 1B.
UNRESOLVED STAFF COMMENTS

None.
 
ITEM 2.
PROPERTIES

Our corporate headquarters and principal executive offices are located in Los Angeles, California, in approximately 68,000 square feet of leased space. At February 27, 2015, we leased or owned facilities at 767 other locations that house our animal hospitals, laboratories, our medical technology business, our Vetstreet business, and our Camp Bow Bow business. We own 160 facilities and the remainder are leased. We believe that our real property facilities are adequate for our current needs.
 
ITEM 3.
LEGAL PROCEEDINGS

On May 29, 2013, a former veterinary assistant at one of our animal hospitals filed a purported class action lawsuit against us in the Superior Court of the State of California for the County of Los Angeles, titled Jorge Duran vs. VCA Animal Hospitals, Inc., et. al. The lawsuit seeks to assert claims on behalf of current and former veterinary assistants employed by us in California, and alleges, among other allegations, that we improperly failed to pay regular and overtime wages, improperly failed to provide proper meal and rest periods, and engaged in unfair business practices. The lawsuit seeks damages, statutory penalties, and other relief, including attorneys’ fees and costs. On May 7, 2014, we obtained partial summary judgment, dismissing 4 of the 8 claims of the complaint, including the claims for failure to pay regular and overtime wages. We intend to continue to vigorously defend against the remaining claims in this action. At this time, we are unable to estimate the reasonably possible loss or range of possible loss, but do not believe losses, if any, would have a material effect on our results of operations or financial position taken as a whole.

On July 16, 2014, two additional former veterinary assistants filed a purported class action lawsuit against us in the Superior Court of the State of California for the County of Los Angeles, titled La Kimba Bradsbery and Cheri Brakensiek vs. Vicar Operating, Inc., et. al. The lawsuit seeks to assert claims on behalf of current and former veterinary assistants, kennel assistants, and client service representatives employed by us in California, and alleges, among other allegations, that we improperly failed to pay regular and overtime wages, improperly failed to provide proper meal and rest periods, improperly failed to pay reporting time pay, improperly failed to reimburse for certain business-related expenses, and engaged in unfair business practices. The lawsuit seeks damages, statutory penalties, and other relief, including attorneys’ fees and costs. We currently expect that these two actions will be consolidated with, or related before the same judge hearing, the Duran action discussed above.

In September 2014, the court issued an order staying the La Kimba Bradsbery lawsuit until class certification is completed in the Duran case. Plaintiff Duran filed his class certification motion and supporting documentation in January 2015. A class certification hearing is scheduled for April 3, 2015. At this time, we are unable to estimate the reasonably possible loss or range of possible loss, but do not believe losses, if any, would have a material effect on our results of operations or financial position taken as a whole.

On July 12, 2013, an individual who provided courier services with respect to our laboratory clients in California filed a purported class action lawsuit against us in the Superior Court of the State of California for the County of Santa Clara - San Jose Branch, titled Carlos Lopez vs. Logistics Delivery Solutions, LLC, Antech Diagnostics, Inc., et. al. Logistics Delivery Solutions, LLC, a co-defendant in the lawsuit, is a company with which Antech has contracted to provide courier services in California. The lawsuit seeks to assert claims on behalf of individuals who were engaged by Logistics Delivery Solutions, LLC to perform such courier services and alleges, among other allegations, that Logistics Delivery Solutions and Antech Diagnostics improperly classified the plaintiffs as independent contractors, improperly failed to pay overtime wages, and improperly failed to provide proper meal periods. The lawsuit seeks damages, statutory penalties, and other relief, including attorneys' fees and costs. We filed our answer to the complaint on September 13, 2013. On July 18, 2014, we filed a motion for summary judgment, and on October 3, 2014 the court denied our request for summary judgment. Although we believed this lawsuit was without merit and have vigorously defended against the claims, the parties engaged in mediation on December 18, 2014. As a result of the mediation, the parties reached an agreement in principle to settle the action, on a class-wide basis, for an amount

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not to exceed $1,250,000 . Logistics Delivery Solutions, LLC, has agreed to pay half of the claim. Accordingly, as of December 31, 2014, we have accrued the remaining fifty percent. The proposed settlement, when and if it becomes effective, would not be an admission of wrongdoing or acceptance of fault by any of the defendants named in the complaint. Antech Diagnostics and Logistics Delivery Solutions have agreed upon the terms of this proposed settlement to eliminate the uncertainties, risk, distraction and expense associated with protracted litigation. The proposed settlement remains subject to court approval and class notice administration before it will be effective.
 
On May 12, 2014, an individual client who purchased goods and services from one of our animal hospitals filed a purported class action lawsuit against us in the United States District Court for the Northern District of California, titled Tony M. Graham vs. VCA Antech, Inc. and VCA Animal Hospitals, Inc. The lawsuit seeks to assert claims on behalf of the plaintiff and other individuals who purchased similar goods and services from our animal hospitals and alleges, among other allegations, that we improperly charged such individuals for “biohazard waste management” in connection with the services performed. The lawsuit seeks compensatory and punitive damages in unspecified amounts, and other relief, including attorneys' fees and costs. VCA successfully had venue transferred to the Southern District of California. This case is in an early procedural stage and we intend to vigorously defend this action. At this time, we are unable to estimate the reasonably possible loss or range of possible loss, but do not believe losses, if any, would have a material effect on our results of operations or financial position taken as a whole.
In addition to the lawsuits described above, we are party to ordinary routine legal proceedings and claims incidental to our business, but we are not currently a party to any legal proceeding that we believe would have a material adverse effect on our financial position, results of operations, or cash flows.

ITEM 4.
MINE SAFETY DISCLOSURES

Not applicable.
PART II  

ITEM 5.
MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

Our common stock trades on the NASDAQ Global Select Market under the symbol “WOOF.” The following table sets forth the range of high and low sales prices per share for our common stock as quoted on the NASDAQ Global Select Market for the periods indicated.

 
 
High
 
Low
Fiscal 2014 by Quarter
 
 
 
 
Fourth
 
$
50.14

 
$
36.80

Third
 
$
42.14

 
$
34.58

Second
 
$
36.53

 
$
29.36

First
 
$
35.61

 
$
30.30

Fiscal 2013 by Quarter
 
 
 
 
Fourth
 
$
31.67

 
$
26.84

Third
 
$
29.58

 
$
25.55

Second
 
$
27.18

 
$
20.89

First
 
$
23.81

 
$
20.32


At February 23, 2015 , there were 294  holders of record of our common stock.


19



The following graph sets forth the percentage change in cumulative total stockholder return on our common stock from December 31, 2009 to December 31, 2014. These periods are compared with the cumulative returns of the NASDAQ Stock Market (U.S. Companies) Index, the Russell 2000 Index, and our Peer Group. The comparison assumes $100 was invested on December 31, 2009 in our common stock and in each of the foregoing indices. The stock price performance on the following graph is not necessarily indicative of future stock price performance.
*$100 invested on 12/31/09 in stock or index, including reinvestment of dividends. Fiscal year ending December 31.

 
 
12/09
 
12/10
 
12/11
 
12/12
 
12/13
 
12/14
VCA Inc.
 
100.00

 
93.46

 
79.25

 
84.47

 
125.84

 
195.71

NASDAQ Composite
 
100.00

 
117.61

 
118.70

 
139.00

 
196.83

 
223.74

Russell 2000
 
100.00

 
126.86

 
121.56

 
141.43

 
196.34

 
205.95

Peer Group (1)
 
100.00

 
129.39

 
135.09

 
146.89

 
207.99

 
243.03

____________________________
(1)  
Our Peer Group includes: C.R. Bard, Inc., Chipotle Mexican Grill, Inc., Chico's FAS, Inc., GNC Holdings, Inc., Guess?, Inc., HealthSouth Corporation, Hologic, Inc., Idexx Laboratories, Inc., Lincare Holdings Inc., Magellan Health Services, Inc., Mednax, Inc. and The Cheesecake Factory Incorporated.  

20



Dividends

We have not paid cash dividends on our common stock, and we do not anticipate paying cash dividends in the foreseeable future. In addition, our senior credit facility places limitations on our ability to pay cash dividends in respect of our common stock. Specifically, our senior credit facility dated August 27, 2014 prohibits us from declaring, ordering, paying, or setting apart any sum for any dividends or other distributions on account of any shares of any class of stock, other than dividends payable solely in shares of stock to holders of such class of stock. Any future determination as to the payment of dividends on our common stock will be restricted by these limitations, will be at the discretion of our Board of Directors and will depend on our results of operations, financial condition, capital requirements and other factors deemed relevant by the Board of Directors, including the General Corporation Law of the State of Delaware, which provides that dividends are only payable out of surplus or current net profits.

Transactions in Our Equity Securities

For the period covered by this report, we have not engaged in any transactions involving the sale of our unregistered equity securities that were not disclosed in a quarterly report on Form 10-Q or a current report on Form 8-K. We have not engaged in any sales of registered securities for which the use of proceeds is required to be disclosed.
  
The following table provides information on shares of our common stock we repurchased during the fourth quarter of 2014 (in thousands except average price paid per share data):
 
 
 
 
 
 
 
Total Number of
 
Approximate Dollar
 
 
 
 
 
 
Shares Purchased as
 
Value of Shares That
 
 
Total Number
 
Average
 
Part of Publicly
 
May Yet Be Purchased
 
 
of Shares
 
Price Paid
 
Announced Plan
 
Under the Plan
Period
 
Purchased
 
Per Share
 
or Program
 
or Program
(1)
 
(2)
 
(3)
 
(4)
 
(4)
 
 
 
 
 
 
 
 
 
October 1, 2014 to October 31, 2014
 
1,264,689

 
$
39.83

 
1,264,689

 
$
309,061,376

November 1, 2014 to November 30, 2014
 
216,737

 
$
45.70

 
181,528

 
$
300,780,351

December 1, 2014 to December 31, 2014
 
1,140,615

 
$
48.10

 
1,124,000

 
$
246,722,098

 
 
2,622,041

 
$
43.91

 
2,570,217

 
$
246,722,098

____________________________
(1)  
Information is based on settlement dates of repurchase transactions.

(2) Consists of shares of our common stock, par value $0.001 per share. Of these shares, 2,570,217 shares were repurchased in the open market pursuant to a previously-announced share repurchase program (see (4) below). The balance of the repurchases were related to 51,824 shares of common stock surrendered to us by employees to satisfy minimum statutory tax withholding obligations in connection with the vesting of restricted stock. In the table above, these shares were excluded from column (4) as they do not affect the number of shares that may be repurchased under the Share Repurchase Program.

(3) The average price paid for shares repurchased under the Share Repurchase Program excludes commissions paid.

(4) In April 2013, our Board of Directors authorized a repurchase program to purchase up to $125 million in shares of our common stock. As of August 2014, we have completed this program and our Board of Directors authorized a new repurchase program to buyback up to $400 million in shares of our common stock in open market purchases or negotiated transactions.
 

21



ITEM 6.
SELECTED FINANCIAL DATA

The following table provides our selected consolidated financial data as of and for each of the five-year periods ended December 31, 2014 . The income statement, cash flow data, and other financial data for each of the three years ended December 31, 2014 , and the balance sheet data as of December 31, 2014 and 2013 has been derived from our financial statements included elsewhere in this Form 10-K. The other periods presented were derived from our financial statements that are not included in this Form 10-K.

The selected financial data presented below is not necessarily indicative of results of future operations and should be read in conjunction with the Management’s Discussion and Analysis of Financial Condition and Results of Operations section and our consolidated financial statements and related notes included elsewhere in this 10-K.
 
December 31,
 
2014
 
2013
 
2012
 
2011
 
2010
 
(in thousands, except per share amounts)
Income Statement Data:
 
 
 
 
 
 
 
 
 
Animal Hospital revenue (1)
$
1,514,878

 
$
1,417,908

 
$
1,331,314

 
$
1,150,120

 
$
1,052,462

Laboratory revenue
360,396

 
344,831

 
327,801

 
316,797

 
310,654

All Other revenue
115,785

 
112,740

 
112,960

 
80,430

 
64,013

Intercompany revenue
(72,576
)
 
(72,110
)
 
(72,433
)
 
(61,986
)
 
(45,661
)
Total revenue
1,918,483

 
1,803,369

 
1,699,642

 
1,485,361

 
1,381,468

Direct costs
1,473,842

 
1,393,989

 
1,324,668

 
1,146,904

 
1,050,304

Gross profit
444,641

 
409,380

 
374,974

 
338,457

 
331,164

Selling, general and administrative expense (2)
171,506

 
157,911

 
157,155

 
121,112

 
123,541

Impairment of goodwill and other long-lived assets (3)
27,019

 

 
123,573

 
21,310

 

Net (gain) loss on sale of assets
(1,152
)
 
2,455

 
1,310

 
382

 
374

Operating income (3)
247,268

 
249,014

 
92,936

 
195,653

 
207,249

Interest expense, net
17,779

 
18,549

 
16,552

 
16,884

 
13,630

Debt retirement costs
1,709

 

 

 
2,764

 
2,131

Business combination adjustment gain

 

 
(5,719
)
 

 

Other expense (income)
219

 
90

 
(488
)
 
118

 
(772
)
Income before provision for income taxes
227,561

 
230,375

 
82,591

 
175,887

 
192,260

Provision for income taxes (4)
86,878

 
87,453

 
31,875

 
76,027

 
78,102

Net income
140,683

 
142,922

 
50,716

 
99,860

 
114,158

Net income attributable to noncontrolling interests
5,245

 
5,411

 
5,165

 
4,455

 
3,915

Net income attributable to VCA Inc.
$
135,438

 
$
137,511

 
$
45,551

 
$
95,405

 
$
110,243

Basic earnings per share
$
1.56

 
$
1.55

 
$
0.52

 
$
1.10

 
$
1.28

Diluted earnings per share
$
1.54

 
$
1.53

 
$
0.51

 
$
1.09

 
$
1.27

Weighted-average shares outstanding for basic earnings per share
86,656

 
88,621

 
87,681

 
86,606

 
86,049

Weighted-average shares outstanding for diluted earnings per share
87,825

 
89,663

 
88,671

 
87,394

 
87,051



22



 
 
December 31,
 
 
2014
 
2013
 
2012
 
2011
 
2010
 
 
(in thousands, except percentages)
Other Financial Data:
 
 
 
 
 
 
 
 
 
 
Consolidated gross margin
 
23.2
 %
 
22.7
%
 
22.1
 %
 
22.8
 %
 
24.0
%
Animal Hospital gross margin
 
15.2
 %
 
14.7
%
 
14.2
 %
 
15.6
 %
 
16.4
%
Laboratory gross margin
 
48.8
 %
 
47.5
%
 
46.3
 %
 
45.4
 %
 
45.8
%
All Other gross margin
 
33.4
 %
 
34.2
%
 
34.3
 %
 
26.1
 %
 
30.1
%
Consolidated operating margin (1)(3)
 
12.9
 %
 
13.8
%
 
5.5
 %
 
13.2
 %
 
15.1
%
Animal Hospital operating margin
 
12.6
 %
 
12.1
%
 
11.7
 %
 
13.5
 %
 
14.1
%
Laboratory operating margin
 
39.5
 %
 
38.3
%
 
37.3
 %
 
36.6
 %
 
37.3
%
All Other operating margin (3)
 
(17.0
)%
 
5.0
%
 
(108.2
)%
 
(24.2
)%
 
7.3
%
Cash Flow Data:
 
 
 
 
 
 
 
 
 
 
Net cash provided by operating activities
 
$
270,210

 
$
256,372

 
$
237,253

 
$
191,051

 
$
168,073

Net cash used in investing activities
 
$
(219,242
)
 
$
(126,731
)
 
$
(219,258
)
 
$
(271,310
)
 
$
(150,174
)
Net cash (used in) provided by financing activities
 
$
(93,765
)
 
$
(72,013
)
 
$
(13,514
)
 
$
47,004

 
$
(66,142
)
Capital expenditures
 
$
(72,948
)
 
$
(73,270
)
 
$
(76,807
)
 
$
(63,485
)
 
$
(61,951
)
Balance Sheet Data (at period end):
 
 
 
 
 
 
 
 
 
 
Cash and cash equivalents
 
$
81,383

 
$
125,029

 
$
68,435

 
$
63,651

 
$
97,126

Goodwill
 
$
1,415,861

 
$
1,321,234

 
$
1,281,590

 
$
1,237,607

 
$
1,092,480

Total assets
 
$
2,332,020

 
$
2,228,209

 
$
2,081,939

 
$
1,995,368

 
$
1,766,422

Long-term obligations
 
$
794,768

 
$
619,645

 
$
630,643

 
$
618,853

 
$
527,036

Total VCA Inc. stockholders’ equity
 
$
1,200,646

 
$
1,307,416

 
$
1,183,503

 
$
1,107,878

 
$
998,924

____________________________

(1)  
On January 31, 2012, we increased our investment in Associate Veterinary Clinics (1981) LTD ("AVC"), becoming the sole non-veterinary shareholder. Accordingly, we now consolidate their results into our own. At the time of the additional investment, AVC operated 44 animal hospitals.

(2)  
In 2010, our SG&A, operating income and operating margin were unfavorably impacted by a $14.5 million accrual related to consulting and Supplemental Executive Retirement Program ("SERP") amounts to be paid in accordance with consulting and SERP agreements entered into on June 30, 2010.

(3)  
In 2014, our operating income and operating margin were unfavorably impacted by a $27.0 million non-cash impairment charge. The charge was attributable to impairment of goodwill and intangible assets, related to our Vetstreet business, included in our All Other segments category. The charge impacted our 2014 operating margin by 1.4%.

In 2012, our operating income and operating margin were unfavorably impacted by a $123.6 million non-cash impairment charge. The charge was attributable to impairment of our goodwill and intangible assets, related to our Vetstreet business, included in our All Other segments category. Our operating income was also impacted by a $3.1 million out-of-period adjustment to depreciation expense related to our acquired capital leases. These charges impacted our 2012 consolidated operating margin by 7.5%.

In 2011, our operating income and operating margin were unfavorably impacted by a $21.3 million non-cash goodwill impairment charge, related to our medical technology business. The charge impacted our 2011 operating margin by 1.4%.    

(4)  
The 2014, 2012 and 2011 provisions for income taxes were impacted by the tax effect of the impairment charges mentioned above.

The 2010 provision for income taxes includes the recognition of $5.4 million, or $3.5 million net of tax, related to additional state tax payments required as a result of a tax settlement reached.


23



ITEM 7.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion should be read in conjunction with our consolidated financial statements provided under Part II, Item 8 of this annual report on Form 10-K. We have included herein statements that constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. We generally identify forward-looking statements in this report using words like “believe,” “intend,” “seek,” “expect,” “estimate,” “may,” “plan,” “should plan,” “project,” “contemplate,” “anticipate,” “predict,” “potential,” “continue,” or similar expressions. You may find some of these statements below and elsewhere in this report. These forward-looking statements are not historical facts and are inherently uncertain and outside of our control. Any or all of our forward-looking statements in this report may turn out to be wrong. They can be affected by inaccurate assumptions we might make or by known or unknown risks and uncertainties. Many factors mentioned in our discussion in this report will be important in determining future results. Consequently, no forward-looking statement can be guaranteed. Actual future results may vary materially. Factors that may result in these forward-looking statements in being different than reflected in this report are described throughout this annual report and particularly in “Risk Factors” Part I, Item 1A of this annual report on Form 10-K.

The forward-looking information set forth in this annual report on Form 10-K is as of February 27, 2015 , and we undertake no duty to update this information. Shareholders and prospective investors can find information filed with the SEC after February 27, 2015 , at our website at http://investor.vca.com or at the SEC’s website at www.sec.gov .

Overview

We are a leading North American animal healthcare company. We provide veterinary services and diagnostic testing services to support veterinary care and we sell diagnostic imaging equipment and other medical technology products and related services to veterinarians. We also provide both online and printed communications, education and information, and analytical-based marketing solutions to the veterinary community. Additionally, we franchise the right to operate dog day care, overnight boarding and grooming services at specially designed pet care facilities.

Our reportable segments are as follows:

Our Animal Hospital segment operates the largest network of freestanding, full-service animal hospitals in the nation. Our animal hospitals offer a full range of general medical and surgical services for companion animals. We treat diseases and injuries, offer pharmaceutical and retail products and perform a variety of pet wellness programs, including health examinations, diagnostic testing, routine vaccinations, spaying, neutering and dental care. At December 31, 2014 , our animal hospital network consisted of 643 animal hospitals in 41 states and in four Canadian provinces.

Our Laboratory segment operates the largest network of veterinary diagnostic laboratories in the nation. Our laboratories provide 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 December 31, 2014 , our laboratory network consisted of 59 laboratories serving all 50 states and certain areas in Canada.

Our “All Other” category includes the results of our Medical Technology, Vetstreet and Camp Bow Wow operating segments. Each of these segments did not meet the materiality thresholds to be reported individually as segments.

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.

Use of Supplemental Non-GAAP Financial Measures

In this management's discussion and analysis, we use supplemental measures of our performance, which are derived from our consolidated financial information, but which are not presented in our consolidated financial statements prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”). These financial measures, which are considered “Non-GAAP financial measures” under SEC rules, include our Non-GAAP  gross profit and our Non-GAAP gross margin on a consolidated basis for our Animal Hospital segment, and the same measures expressed on a same-store basis. Additionally, our Non-GAAP financial measures include our Non-GAAP operating income and Non-GAAP operating margin on a consolidated basis. Lastly, our Non-GAAP financial measures also include our Non-GAAP interest

24



expense, Non-GAAP consolidated net income and Non-GAAP diluted earnings per share. See “Consolidated Results of Operations  Non-GAAP Financial Measures” below for information about our use of these Non-GAAP financial measures, including our reasons for including the measures, material limitations with respect to the usefulness of the measures, and a reconciliation of each Non-GAAP financial measure to the most directly comparable GAAP financial measure.

Executive Overview

During the year ended December 31, 2014, we experienced increases in both consolidated revenue and gross profit. The increases were primarily driven by revenue from our acquisitions, as well as organic growth in our Animal Hospital and Laboratory segments. Our Animal Hospital same-store revenue increased 2.8% in 2014 and increased 1.1%, adjusted for one less business day, in 2013. Our Laboratory internal revenue increased 4.4% in 2014 and increased 5.3%, adjusted for one less billing day in 2013. Our consolidated operating income decreased 0.7% in 2014 and increased 167.9% in 2013. Our consolidated operating margin decreased 0.9% in 2014 and increased 8.3% in 2013. Excluding the impact of the adjustments detailed below under the caption, Operating Income , our Non-GAAP consolidated operating income increased 9.6% and 11.2% in 2014 and 2013, respectively, and our Non-GAAP consolidated operating margin increased 50 basis points and 60 basis points in 2014 and 2013, respectively. The increase in Non-GAAP consolidated operating income was primarily due to improved results from our Animal Hospital and Laboratory business segments.

Share Repurchase Program

In April 2013, our Board of Directors authorized a share repurchase program for up to $125 million of our common shares, which was completed in August 2014. In August 2014, our Board of Directors authorized the continuance of that share repurchase program, authorizing us to repurchase up to an additional $400 million of our common shares. These repurchases may be made from time to time through various methods, including open market transactions, block trades, accelerated share repurchases, privately negotiated transactions or otherwise and may be effected through Rule 10b5-1 plans. The timing and number of shares repurchased will depend on a variety of factors, including price, capital availability, legal requirements and economic and market conditions. The Company is not obligated to purchase any shares under the repurchase program, and repurchases may be suspended or discontinued at any time without prior notice. The repurchases have been and will continue to be funded by existing cash balances and by our revolving credit facility. Refer to Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities in Part II of this report.

Financing Transaction

On August 27, 2014, we entered into a new senior credit facility with various lenders for $1.4 billion of senior secured credit facilities with Bank of America, N.A., as the administrative agent, swingline lender and Letter of Credit issuer, and JPMorgan Chase Bank, N.A., and Suntrust Bank as co-syndication agents (the "New Senior Credit Facility"). The New Senior Credit Facility replaced our existing senior credit facility which provided for $534 million of term notes and a $125 million revolving credit facility. The New Senior Credit Facility provides for $600 million of senior secured term notes and an $800 million senior secured revolving credit facility, which may be used to borrow, on a same-day notice under a swing line, the lesser of $25 million and the aggregate unused amount of the revolving credit facility then in effect. In addition to refinancing all outstanding amounts under our existing credit agreement, borrowings under our New Senior Credit Facility may be used for general corporate purchases, including permitted share repurchases.

Goodwill and Other Long-lived Assets Impairment
As a result of an interim impairment review, we recorded a goodwill and other long-lived assets impairment charge in our Vetstreet reporting unit of $27.0 million , $17.0 million net of tax, or $0.20 per diluted share. We determined that a write-down of goodwill and long-lived assets was necessary as Vetstreet's fiscal 2014 actual operating results and cash flow to date, and projections of future operating results and cash flow, were significantly lower than previously forecasted. We do not expect this
accounting write-down to affect our ongoing business or financial performance.

Acquisitions

Our annual growth strategy includes the acquisition of independent animal hospitals. We also evaluate the acquisition of animal hospital chains, laboratories or related businesses if favorable opportunities are presented. In 2014, we acquired 47 independent animal hospitals with annualized revenue of $122.5 million.


25



The following table summarizes the changes in the number of facilities operated by our Animal Hospital and Laboratory segments:
 
 
For the Years Ended
December 31,
 
 
2014
 
2013
 
2012
Animal Hospitals:
 
 
 
 
 
 
Beginning of period
 
609

 
609

 
541

Acquisitions, excluding AVC in 2012
 
47

 
20

 
35

AVC
 

 

 
44

New facilities
 

 

 
1

Acquisitions relocated into our existing animal hospitals
 
(4
)
 
(2
)
 
(6
)
Sold, closed or merged
 
(9
)
 
(18
)
 
(6
)
End of period
 
643

 
609

 
609

Laboratories:
 
 
 
 
 
 
Beginning of period
 
56

 
55

 
53

Acquisitions
 

 
1

 
1

New facilities
 
3

 

 
2

Closed or merged
 

 

 
(1
)
End of period
 
59

 
56

 
55


2012 AVC Investment
         
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 additional investments in AVC facilitates 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.
 
Critical Accounting Policies and Estimates

We believe that the application of the following accounting policies, which are important to our financial position and results of operations, require significant judgments and estimates on the part of management. For a summary of all of our accounting policies, including the accounting policies discussed below, see Note 2 , Summary of Significant Accounting Policies, in our consolidated financial statements of this annual report on Form 10-K.

Revenue

Generally, we recognize revenue when persuasive evidence of a sales arrangement exists, delivery of goods has occurred or services have been rendered, the sales price or fee is fixed or determinable and collectability is reasonably assured. For the Animal Hospital segment, revenue is recognized when services are performed or products are sold. For the Laboratory segment, revenue is recognized when services are performed. For the other segments, revenue is generally recognized when services are provided or delivery of goods has occurred. Our Medical Technology business sells digital radiography imaging equipment bundled with other services in certain instances. Under these arrangements, the sales consideration is allocated at inception to all deliverables using the relative selling price method, whereby any discount in the arrangement is allocated proportionally to each deliverable on the basis of each deliverable's selling price.

Valuation of Goodwill and Other Intangible Assets

Goodwill

We allocate a significant portion of the purchase price for our acquired businesses to goodwill. Our goodwill represents the excess of the cost of an acquired entity over the net of the amounts assigned to identifiable assets acquired and liabilities assumed. The total amount of our goodwill at December 31, 2014 was $1.4 billion , consisting of $1.3 billion for our Animal Hospital reporting unit, $97.5 million for our Laboratory reporting unit, $8.2 million for our Medical Technology reporting unit and $4.5 million for our Camp Bow Wow reporting unit.

26




We test our goodwill for impairment annually, or sooner if circumstances indicate impairment may exist, in accordance with goodwill guidance. Our annual impairment testing date is October 31, which allows us time to accurately complete our impairment testing process in order to incorporate the results in our annual financial statements and timely file those statements with the Securities and Exchange Commission (“SEC”).

We have the option to first assess qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its net book value. If we elect to not use this option, or we determine, using the qualitative method, that it is more likely than not that the fair value of a reporting unit is less than its net book value, we then perform the more detailed two-step impairment test.

In the two-step test, as mentioned above, first we identify potential impairment by comparing the estimated fair value of our reporting units with the carrying value defined as the reporting unit’s net assets, including goodwill. If the estimated fair value of our reporting units is greater than our carrying value, there is no impairment and the second step is not needed.

If we identify a potential impairment in the first step, we then measure the amount of impairment. The amount of the impairment is determined by allocating the estimated fair value of the reporting unit as determined in step one to the reporting unit’s net assets based on fair value as would be done in an acquisition. In this hypothetical purchase price allocation, the residual estimated fair value after allocation to the reporting units’ identifiable net assets is the implied current fair value of goodwill. If the implied current fair value of goodwill is less than the carrying amount of goodwill, goodwill is considered impaired and written down to the implied current fair value with a corresponding charge to earnings. However, if the implied current fair value of goodwill is greater than the carrying amount of goodwill, goodwill is not considered impaired and is not adjusted to the implied current fair value. Determining the fair value of the net assets of our reporting units under this step requires significant estimates.

Our estimated fair values are calculated in accordance with generally accepted accounting principles related to fair value and utilize generally accepted valuation techniques consisting primarily of discounted cash flow techniques and market comparables, where applicable. These valuation methods involve the use of significant assumptions and estimates such as forecasted growth rates, valuation multiples, the weighted-average cost of capital, and risk premiums, which are based upon the best available market information and are consistent with our long-term strategic plans.

Negative changes in our projected cash flows related to variables such as revenue growth rates, margins, or the discount rate could result in a decrease in the estimated fair value of our reporting units and could ultimately result in a substantial goodwill impairment charge. The performance of our reporting units, and in turn the risk of goodwill impairment, is subject to a number of risks and uncertainties, some of which are outside of our control.

2014 Interim Impairment Review
As a result of an interim impairment review, we determined that goodwill related to our Vetstreet reporting unit was impaired. We determined that a write-down of goodwill and long-lived assets was necessary as Vetstreet's fiscal 2014 actual operating results and cash flow to date, and projections of future operating results and cash flow, were significantly lower than previously forecasted. Accordingly, we recorded a goodwill impairment charge in our Vetstreet reporting unit of $9.2 million, $6.2 million net of tax, for the quarter ended September 30, 2014.
2014 Qualitative Assessment
As of October 31, 2014, we evaluated our goodwill for impairment using the qualitative method. Based on this analysis, we determined that it was more likely than not that the fair values of each of our reporting units were greater than their net carrying values at that date. As such, we concluded that goodwill was not impaired for any of our reporting units. In making this determination, we considered several factors, including the following: (1) the amount by which the fair value of the Laboratory reporting segment exceeded its carrying value as of October 31, 2013, indicated that there would need to be a substantial deterioration of the business in order for there to be a potential impairment; (2) during the latter half of 2014, two large third-party animal hospital chain transactions occurred at high valuation multiples; (3) the carrying values of our reporting units as of October 31, 2014 compared favorably to the previously calculated fair values as of October 31, 2013; and (4) the pet care industry remains very strong. Although there is increased competition, we remain competitive across each of our reporting units. Our financial results are consistent with our strong outlook. In addition, there has been minimal change to the multiples at which we purchase animal hospitals.

27



As of December 31, 2014, no events or changes in circumstances occurred that would have triggered the need for an additional impairment review of goodwill.
2013 Impairment Test
After completing our October 31, 2013 impairment test for each of our reporting units, we concluded that goodwill was not impaired for any of our reporting units. In addition, our Animal Hospital, Laboratory and Medical Technology reporting units were not at risk of failing step one of the goodwill impairment test. Our Laboratory reporting unit exceeded its carrying value by a substantial margin. We applied a hypothetical ten percent decrease to the fair values of all of our reporting units which would not have triggered additional impairment testing and analysis.
The fair value of our Vetstreet reporting unit, exceeded its carrying value by 10%. The carrying amount of goodwill in the Vetstreet reporting unit was $9.2 million. As mentioned in previous filings, Vetstreet had experienced operational delays with the execution of their business strategy, in part due to complexities involved in the migration of their information systems from their former parent to our corporate data center. In early 2013, the migration was completed and the company began the full implementation of their new business strategy. The fair value of the reporting unit for purposes of impairment testing was determined utilizing a revised estimate of future cash flows that reflected a recovery of certain aspects of the Vetstreet business in 2014 and beyond.
2012 Impairment Test
After completing our October 31, 2012 impairment test for each of our reporting units, we concluded that goodwill was not impaired in our Animal Hospital, Laboratory or Medical Technology reporting units. In addition, each of these reporting units were not at risk of failing step one of the goodwill impairment test. Our Laboratory reporting unit exceeded its carrying value by a substantial margin. We applied a hypothetical ten percent decrease to the fair values of these reporting units which would not have triggered additional impairment testing and analysis. We also concluded, however, that an impairment charge would be necessary with respect to our Vetstreet reporting unit.
In 2012, we recorded an impairment charge in our Vetstreet reporting unit reflecting changes in our estimate of forecasted cash flows related to continued operational delays in part due to our upgrading and migration of Vetstreet's information technology systems from their former parent to our corporate data center; less than anticipated financial results for the 2012 fiscal year; the negative impact of increasing competition and a related overall change in business strategy to better compete in the marketplace.
Other Intangible Assets

In addition to goodwill, we acquire other identifiable intangible assets in our acquisitions, including but not limited to covenants-not-to-compete, client lists, lease related assets and customer relationships. We value these identifiable intangible assets at estimated fair value. Our estimated fair values are based on generally accepted valuation techniques such as market comparables, discounted cash flow techniques or costs to replace. These valuation methods involve the use of significant assumptions such as the timing and amount of future cash flows, risks, appropriate discount rates, and the useful lives of intangible assets.

Subsequent to acquisition, we test our identifiable intangible assets for impairment as part of a broader test for impairment of long-lived assets under the FASB’s accounting guidance whenever events or changes in circumstances indicate that the carrying value may not be recoverable. The recognition and measurement of an impairment loss under the FASB’s accounting guidance also involves a two-step process:

First we identify potential impairment by estimating the aggregate projected undiscounted future cash flows associated with an asset or asset group and compare that amount with the carrying value of those assets. If the aggregate projected cash flow is greater than our carrying amount, there is no impairment and the second step is not needed.

If the estimated aggregate projected undiscounted future cash flows associated with an asset or asset group is less than the carrying value, we then write the assets or asset group down to the estimated fair value with a corresponding charge to earnings. If the estimated fair value is greater than carrying value, there is no adjustment. We may be required to make significant estimates in determining the fair value of some of our assets or asset groups.




28



2014 Interim Impairment Review
In conjunction with our interim impairment review during the quarter ended September 30, 2014, we recorded a long-lived intangible asset impairment charge of $13.1 million, $8.0 million net of tax, related to the aforementioned Vetstreet business. The intangibles consisted of technology, customer relationships, trademarks and certain other contracts. Additionally, we recorded a long-lived tangible asset impairment charge of approximately $4.7 million, $2.8 million net of tax, also related to the aforementioned Vetstreet business.

2013 and 2012 Impairment Tests
There was no impairment charge recorded on our long-lived intangible assets in 2013. In conjunction with our 2012 year-end review, we recorded long-lived intangible asset impairment of $22.9 million related to the aforementioned Vetstreet business. The intangibles consisted of technology, customer relationships, trademarks and certain other contracts.

Income Taxes

We account for income taxes under the FASB’s accounting guidance for income taxes. We record deferred tax liabilities and deferred tax assets, which represent taxes to be settled or recovered in the future. We adjust our deferred tax assets and deferred tax liabilities to reflect changes in tax rates or other statutory tax provisions. Changes in tax rates or other statutory provisions are recognized in the period the enactment occurs.
We make judgments in assessing our ability to realize future benefits from our deferred tax assets, which includes operating loss carryforwards. We believe that our earnings during the periods when the temporary differences become deductible will be sufficient to realize the related future tax benefits. Should we determine that we would not be able to realize all or a portion of our deferred tax assets, an adjustment would be made to the carrying amount through a valuation allowance.
Also, our net deductible temporary differences and tax carryforwards are recorded using the enacted tax rates expected to apply to taxable income in the periods in which the deferred tax liability or asset is expected to be settled or realized. At December 31, 2014, we have a net deferred tax liability of $73.2 million. Should the expected applicable tax rates change in the future, an adjustment to the net deferred tax liability would be credited or charged, as appropriate, to income in the period such determination was made. For example, an increase of 1.0% in our income tax rate would cause us to increase our net deferred tax liability balance by $1.8 million with a corresponding charge to earnings.
We also assess differences between our tax bases, which are more likely than not to be realized, and the as-filed tax bases of certain assets and liabilities. We account for unrecognized tax benefits in accordance with the FASB’s accounting guidance on income taxes, which prescribe a minimum probability threshold that a tax position must meet before a financial statement benefit is recognized. The minimum threshold is defined as a tax position that is more likely than not to be sustained upon examination by the applicable taxing authority, including resolution of any related appeals or litigation, based solely on the technical merits of the position. The tax benefit to be recognized is measured as the largest amount of benefit that is greater than 50% likely of being realized upon ultimate settlement. We did not have any unrecognized tax benefits on December 31, 2014.

29



Consolidated Results of Operations

The following table sets forth components of our income statements expressed as a percentage of revenue:

 
 
For the Years Ended December 31,
 
 
2014
 
2013
 
2012
Revenue:
 
 
 
 
 
 
Animal Hospital
 
79.0
 %
 
78.6
 %
 
78.4
 %
Laboratory
 
18.8

 
19.1

 
19.3

All Other
 
6.0

 
6.3

 
6.6

Intercompany
 
(3.8
)
 
(4.0
)
 
(4.3
)
Total revenue
 
100.0

 
100.0

 
100.0

Direct costs
 
76.8

 
77.3

 
77.9

Gross profit
 
23.2

 
22.7

 
22.1

Selling, general and administrative expense
 
9.0

 
8.8

 
9.2

Impairment of goodwill and other long-lived assets
 
1.4

 

 
7.3

Net (gain) loss on sale or disposal of assets
 
(0.1
)
 
0.1

 
0.1

Operating income
 
12.9

 
13.8

 
5.5

Interest expense, net
 
0.9

 
1.0

 
1.0

Debt retirement costs
 
0.1

 

 

Business combination adjustment gain
 

 

 
(0.4
)
Income before provision for income taxes
 
11.9

 
12.8

 
4.9

Provision for income taxes
 
4.6

 
4.9

 
1.9

Net income
 
7.3

 
7.9

 
3.0

Net income attributable to noncontrolling interests
 
0.2

 
0.3

 
0.3

Net income attributable to VCA Inc.
 
7.1
 %
 
7.6
 %
 
2.7
 %

Revenue

The following table summarizes our revenue (in thousands, except percentages):

 
 
For the Years Ended December 31,
 
 
 
 
 
 
2014
 
2013
 
2012
 
% Change
 
 
$
 
% of
Total
 
$
 
% of
Total
 
$
 
% of
Total
 
2014
 
2013
Animal Hospital
 
$
1,514,878

 
79.0
 %
 
$
1,417,908

 
78.6
 %
 
$
1,331,314

 
78.4
 %
 
6.8
 %
 
6.5
 %
Laboratory
 
360,396

 
18.8
 %
 
344,831

 
19.1
 %
 
327,801

 
19.3
 %
 
4.5
 %
 
5.2
 %
All Other
 
115,785

 
6.0
 %
 
112,740

 
6.3
 %
 
112,960

 
6.6
 %
 
2.7
 %
 
(0.2
)%
Intercompany
 
(72,576
)
 
(3.8
)%
 
(72,110
)
 
(4.0
)%
 
(72,433
)
 
(4.3
)%
 
(0.6
)%
 
0.4
 %
Total revenue
 
$
1,918,483

 
100.0
 %
 
$
1,803,369

 
100.0
 %
 
$
1,699,642

 
100.0
 %
 
6.4
 %
 
6.1
 %

Consolidated revenue increased $115.1 million in 2014 , as compared to 2013 . The increase was primarily attributable to revenue from animal hospitals acquired since the beginning of the comparable period in the prior year. Excluding the impact of acquisitions, revenue increased $42.8 million, primarily due to organic revenue growth in our Animal Hospital and Laboratory segments. The increase was partially offset by the impact of foreign currency translation and declining revenues in our Vetstreet business. Our Animal Hospital same-store revenue increased 2.8% in 2014 . Our Laboratory internal revenue growth was 4.4% in 2014 .

Consolidated revenue increased $103.7 million in 2013 , as compared to 2012 . The increase was primarily attributable to revenue from animal hospitals acquired since the beginning of the comparable period in the prior year. Excluding the impact of acquisitions, revenue increased $21.7 million, primarily due to organic revenue growth in our Animal Hospital and Laboratory segments. Our Animal Hospital same-store revenue increased 1.1% in 2013 . Our Laboratory internal revenue growth was 5.3% in 2013 .

30



Direct Costs
The following table summarizes our direct costs (in thousands, except percentages):
 
 
For the Years Ended December 31,
 
 
 
 
2014
 
2013
 
2012
 
% Change
 
 
$
 
% of
Revenue
 
$
 
% of
Revenue
 
$
 
% of
Revenue
 
2014
 
2013
Animal Hospital
 
$
1,284,077

 
84.8
 %
 
$
1,208,781

 
85.3
 %
 
$
1,142,203

 
85.8
 %
 
6.2
 %
 
5.8
 %
Laboratory
 
184,588

 
51.2
 %
 
180,952

 
52.5
 %
 
176,040

 
53.7
 %
 
2.0
 %
 
2.8
 %
All Other
 
77,161

 
66.6
 %
 
74,139

 
65.8
 %
 
74,253

 
65.7
 %
 
4.1
 %
 
(0.2
)%
Intercompany
 
(71,984
)
 
(3.8
)%
 
(69,883
)
 
(3.9
)%
 
(67,828
)
 
(4.0
)%
 
(3.0
)%
 
(3.0
)%
Total direct costs
 
$
1,473,842

 
76.8
 %
 
$
1,393,989

 
77.3
 %
 
$
1,324,668

 
77.9
 %
 
5.7
 %
 
5.2
 %

Consolidated direct costs increased $79.9 million in 2014 , as compared to 2013 . The increase was primarily attributable to compensation related costs, supplies and acquisitions, predominately in the animal hospital segment.

Consolidated direct costs increased $69.3 million in 2013 , as compared to 2012 . The increase was primarily attributable to compensation related costs, supplies and acquisitions, predominately in the animal hospital segment.

Gross Profit

The following table summarizes our consolidated gross profit and consolidated Non-GAAP gross profit in dollars and as a percentage of applicable revenue (in thousands, except percentages):
 
 
For the Years Ended December 31,
 
 
 
 
 
 
2014
 
2013
 
2012
 
% Change
 
 
$
 
Gross
Margin
 
$
 
Gross
Margin
 
$
 
Gross
Margin
 
2014
 
2013
Animal Hospital
 
$
230,801

 
15.2
%
 
$
209,127

 
14.7
%
 
$
189,111

 
14.2
%
 
10.4
%
 
10.6
 %
Laboratory
 
175,808

 
48.8
%
 
163,879

 
47.5
%
 
151,761

 
46.3
%
 
7.3
%
 
8.0
 %
All Other
 
38,624

 
33.4
%
 
38,601

 
34.2
%
 
38,707

 
34.3
%
 
0.1
%
 
(0.3
)%
Intercompany
 
(592
)
 


 
(2,227
)
 


 
(4,605
)
 


 


 


Consolidated gross profit
 
$
444,641

 
23.2
%
 
$
409,380

 
22.7
%
 
$
374,974

 
22.1
%
 
8.6
%
 
9.2
 %
Impact of inventory adjustment
 

 
 
 
(2,808
)
 
 
 

 
 
 
 
 
 
Impact of rent expense adjustment
 

 
 
 
(1,396
)
 
 
 

 
 
 
 
 
 
Impact of vacant property adjustment
 

 
 
 
2,046

 
 
 

 
 
 
 
 
 
Impact of depreciation expense adjustment
 

 
 
 

 
 
 
3,051

 
 
 
 
 
 
Intangible asset amortization associated with acquisitions
 
20,780

 
 
 
20,753

 
 
 
21,858

 
 
 
 
 
 
Non-GAAP consolidated gross profit and Non-GAAP consolidated gross margin (1)
 
$
465,421

 
24.3
%
 
$
427,975

 
23.7
%
 
$
399,883

 
23.5
%
 
8.7
%
 
7.0
 %
____________________________
(1)  
Non-GAAP consolidated gross profit and Non-GAAP consolidated gross margin are not measurements of financial performance prepared in accordance with GAAP. See “Non-GAAP Financial Measures” below for information about these Non-GAAP financial measures, including our reasons for including the measures, material limitations with respect to the usefulness of the measures, and a reconciliation of each Non-GAAP financial measure to the most directly comparable GAAP financial measure.

Consolidated gross profit increased $35.3 million in 2014 , as compared to 2013 . Excluding the impact of the adjustments detailed in the table above, Non-GAAP consolidated gross profit increased $37.4 million in 2014 , as compared to 2013 . The increase in Non-GAAP consolidated gross profit was primarily attributable to organic revenue growth and increased gross margins in our Animal Hospital and Laboratory business segments. The increase also included $12.9 million of gross profit related to the acquisitions consummated since the beginning of 2013.



31



Consolidated gross profit increased $34.4 million in 2013 , as compared to 2012 . Excluding the impact of the adjustments detailed in the table above, Non-GAAP consolidated gross profit increased $28.1 million in 2013 , as compared to 2012 . The increase in Non-GAAP consolidated gross profit was primarily attributable to organic revenue growth and increased gross margins at our Animal Hospital, Laboratory, and Medical Technology business segments. The increase also included $9.7 million of gross profit related to the acquisitions consummated since the beginning of 2012.


Segment Results

Animal Hospital Segment
    
Revenue

Animal Hospital revenue increased $97.0 million in 2014 , as compared to 2013 and $86.6 million in 2013 , as compared to 2012 . The components of the increases are summarized in the following table (in thousands, except percentages and average price per order):    
 
 
2014 Comparative Analysis
 
2013 Comparative Analysis
 
 
For the Years Ended December 31,
 
 
2014
 
2013
 
%
Change
 
2013
 
2012
 
%
Change
Animal Hospital Revenue:
 
 
 
 
 
 
 
 
 
 
 
 
Same-store facility:
 
 
 
 
 
 
 
 
 
 
 
 
Orders (1)
 
8,003

 
8,011

 
(0.1
)%
 
6,912

 
7,078

 
(2.3
)%
Average revenue per order (2)
 
$
177.18

 
$
172.13

 
2.9
 %
 
$
174.83

 
$
168.81

 
3.6
 %
Same-store revenue (1)
 
$
1,417,928

 
$
1,378,997

 
2.8
 %
 
$
1,208,416

 
$
1,194,824

 
1.1
 %
Business day adjustment (3)
 

 

 
 
 

 
3,774

 
 
Foreign currency impact
 
(10,806
)
 

 
 
 
(4,028
)
 

 
 
Net acquired revenue (4)
 
107,756

 
38,911

 
 
 
213,520

 
132,716

 
 
Total
 
$
1,514,878

 
$
1,417,908

 
6.8
 %
 
$
1,417,908

 
$
1,331,314

 
6.5
 %
____________________________
(1)  
Same-store revenue and orders were calculated using Animal Hospital operating results, adjusted to exclude the operating results for newly acquired animal hospitals that we did not own, as of the beginning of the comparable period in the prior year. Same-store revenue also includes revenue generated by customers referred from our relocated or combined animal hospitals, including those merged upon acquisition.

(2)  
Computed by dividing same-store revenue by same-store orders. The average revenue per order may not calculate exactly due to rounding.

(3)  
The business day adjustment reflects the impact of one less business day for the year ended December 31, 2013, as compared to the year ended December 31, 2012.

(4)  
Net acquired revenue represents the revenue from those animal hospitals acquired, net of revenue from those animal hospitals sold or closed, on or after the beginning of the comparable period, which was January 1, 2013 for the 2014 Comparative Analysis and January 1, 2012 for the 2013 Comparative Analysis. Fluctuations in net acquired revenue occur due to the volume, size and timing of acquisitions and dispositions.

During the year ended December 31, 2014, as compared to the same period in the prior year, our volume of same-store orders remained relatively flat primarily due to the combination of an overall improvement in the economy during the latter half of the year and the impact of certain previously implemented initiatives in our animal hospitals.






32



Our business strategy is to place a greater emphasis on comprehensive wellness visits and advanced medical procedures, which typically generate higher priced orders. The migration of lower priced orders from our animal hospitals to other distribution channels as a result of increasing competition and our emphasis on comprehensive wellness visits has, over the past several years, resulted in a decrease in lower priced orders and an increase in higher priced orders. For the years ended December 31, 2014 and December 31, 2013 , we experienced a decrease in the number of lower priced orders while higher priced orders remained relatively flat.

Price increases as well as the aforementioned mix in year over year growth rates of low to high-priced orders contributed to the overall increase in the average revenue per order. Prices at each of our hospitals are reviewed regularly and adjustments are made based on market considerations, demographics and our costs. These adjustments historically approximated 3% to 6% on most services at the majority of our animal hospitals and are typically implemented in November of each year; however, price increases in 2014 generally ranged between 3% and 4%.

Direct Costs
Animal Hospital direct costs increased $75.3 million for the year ended December 31, 2014 , as compared to 2013 . The increase was primarily due to an increase in compensation related expenses of $46.6 million, supplies of $13.4 million and depreciation and amortization of $3.4 million. The remainder of the increase was due to numerous items, all of which were individually immaterial. The increases in compensation related costs and supplies generally are related to revenue growth and acquisitions. The increase in depreciation and amortization is related to acquired animal hospitals.
Animal Hospital direct costs increased $66.6 million for the year ended December 31, 2013, as compared to 2012. The increase was primarily due to an increase in compensation related expenses of $37.2 million, supplies of $9.2 million and depreciation and amortization of $3.1 million. The remainder of the increase was due to numerous items, all of which were individually immaterial. As mentioned above, the increases in compensation related costs and supplies generally are related to revenue growth and acquisitions. The increase in depreciation and amortization is related to acquired animal hospitals.
Gross Profit

Animal Hospital gross profit is calculated as Animal Hospital revenue less Animal Hospital direct costs. Animal Hospital direct costs comprise all costs of services and products at the animal hospitals including, but not limited to, salaries of veterinarians, technicians and all other animal hospital-based personnel, facilities rent, occupancy costs, supply costs, depreciation and amortization, certain marketing and promotional expenses and costs of goods sold associated with the retail sales of pet food and pet supplies.

The following table summarizes gross profit, gross margin, Non-GAAP gross profit, and Non-GAAP gross margin for our Animal Hospital segment (in thousands, except percentages) and the same measures on a same-store basis:


33



 
For the Years Ended December 31,
 
2014
 
2013
 
%
Change
 
2013
 
2012
 
%
Change
Gross profit
$
230,801

 
$
209,127

 
10.4
%
 
$
209,127

 
$
189,111

 
10.6
%
Impact of inventory adjustment

 
(2,808
)
 
 
 
(2,808
)
 

 
 
Impact of rent expense adjustment

 
(1,396
)
 
 
 
(1,396
)
 

 
 
Impact of vacant property adjustment

 
2,046

 
 
 
2,046

 

 
 
Impact of depreciation expense adjustment

 

 
 
 

 
3,051

 
 
Intangible asset amortization associated with acquisitions
16,576

 
16,088

 
 
 
16,088

 
15,118

 
 
Non-GAAP gross profit (1)
$
247,377

 
$
223,057

 
10.9
%
 
$
223,057

 
$
207,280

 
7.6
%
Gross margin
15.2
%
 
14.7
%
 
 
 
14.7
%
 
14.2
%
 
 
Non-GAAP gross margin (1)
16.3
%
 
15.7
%
 
 
 
15.7
%
 
15.6
%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Same-store gross profit (2)
223,044

 
209,173

 
6.6
%
 
187,763

 
175,125

 
7.2
%
Impact of inventory adjustment

 
(2,757
)
 
 
 
(2,615
)
 

 
 
Impact of rent expense adjustment

 
(1,396
)
 
 
 
(1,396
)
 

 
 
Impact of vacant property adjustment

 
1,662

 
 
 
1,662

 

 
 
Impact of depreciation expense adjustment

 

 
 
 

 
3,051

 
 
Intangible asset amortization associated with acquisitions
12,649

 
14,937

 
 
 
7,861

 
9,866

 
 
Non-GAAP same-store gross profit (1)
$
235,693

 
$
221,619

 
6.4
%
 
$
193,275

 
$
188,042

 
2.8
%
Same-store gross margin
15.7
%
 
15.2
%
 
 
 
15.5
%
 
14.7
%
 
 
Non-GAAP same-store gross margin (1)
16.6
%
 
16.1
%
 
 
 
16.0
%
 
15.7
%
 
 
____________________________
(1)
Non-GAAP gross profit and Non-GAAP gross margin and the same measures expressed on a same store basis, are not measurements of financial performance prepared in accordance with GAAP. See “Non-GAAP Financial Measures” below for information about these Non-GAAP financial measures, including our reasons for including the measures, material limitations with respect to the usefulness of the measures, and a reconciliation of each Non-GAAP financial measure to the most directly comparable GAAP financial measure.

(2)
Same-store gross profit for the year ended December 31, 2012 was adjusted to reflect one additional business day in 2012 as compared to 2013.

Consolidated Animal Hospital gross profit increased $21.7 million for the year ended December 31, 2014, as compared to 2013. Excluding the impact of the adjustments detailed in the table above, Non-GAAP gross profit increased $24.3 million in 2014, as compared to 2013. The increase in Non-GAAP gross profit was primarily attributable to an increase in Animal Hospital same-store gross margin, which increased as a result of leverage gained from higher same-store revenue, managing costs and an additional $11.6 million of gross profit from acquired animal hospitals.

Consolidated Animal Hospital gross profit increased $20.0 million for the year ended December 31, 2013, as compared to 2012. Excluding the impact of the adjustments detailed in the table above, Non-GAAP gross profit increased $15.8 million in 2013, as compared to 2012. The increase in Non-GAAP gross profit was primarily attributable to an increase of $11.4 million of gross profit from acquired animal hospitals, as well as an increase in our Animal Hospital same-store gross margin due to improved leverage from heartworm medication and retail supplies.

Over the last several years, we have acquired a significant number of animal hospitals. Many of these newly acquired animal hospitals had lower gross margins at the time of acquisition than those previously operated by us. We have improved these lower gross margins, in the aggregate, subsequent to the acquisition primarily through cost efficiencies.




34



Laboratory Segment

The following table summarizes revenue and gross profit for our Laboratory segment (in thousands, except percentages):

 
 
For the Years Ended December 31,
 
% Change
 
 
2014
 
2013
 
2012
 
2014
 
2013
Revenue
 
$
360,396

 
$
344,831

 
$
327,801

 
4.5
%
 
5.2
%
Gross profit
 
$
175,808

 
$
163,879

 
$
151,761