Healthcare Services Group, Inc. — Q2 2015 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2015. The company provides housekeeping, laundry, linen, maintenance and dietary services primarily to U.S. healthcare facilities, with Housekeeping and Dietary as its two reportable segments.
Financial performance
| Metric | Q2 2015 | Q2 2014 | Six months 2015 | Six months 2014 |
|---|---|---|---|---|
| Revenue | $355.4m | $319.3m | $710.6m | $631.5m |
| Income before taxes | $26.3m | $22.0m | $51.3m | $45.2m |
| Net income | $16.3m | $13.9m | $31.8m | $28.6m |
| Diluted EPS | $0.23 | $0.20 | $0.44 | $0.40 |
| Net margin | 4.6% | 4.4% | 4.5% | 4.6% |
- Revenue rose 11.3% in Q2 and 12.5% for the first half. Housekeeping segment revenue grew 7.4% and 9.0%, respectively; Dietary grew 18.9% and 19.4%. Management attributed Housekeeping growth mainly to new clients and Dietary growth mainly to expansion within existing Housekeeping clients.
- Cost of services was 85.6% of revenue in both Q2 and the first half, down from 86.4% and 86.0%, respectively. Q2 pretax margin increased to 7.4% from 6.9%; first-half pretax margin was 7.2% in both years. First-half net margin eased to 4.5% from 4.6%.
- SG&A increased 13.0% in Q2 and 17.2% for the first half. Excluding changes in deferred-compensation investment values, it rose 16.3% and 18.8%, respectively, outpacing revenue growth; management cited payroll-related costs and professional fees.
- Operating cash flow was $33.5m for the first half, versus $14.8m a year earlier. Investing used $2.4m and financing used $20.5m, including $25.4m of dividends paid. Cash and cash equivalents increased to $85.9m from $75.3m at year-end.
Liquidity, capital and balance sheet
- At June 30, cash, cash equivalents and marketable securities totaled $97.7m; working capital was $238.4m and the current ratio was 3.1, compared with $87.1m, $216.9m and 2.8 at December 31, 2014.
- No borrowings were outstanding under the $125m bank line at June 30. A $73.7m insurance-related standby letter of credit reduced availability; the letter increased to $76.0m on July 1. The company reported covenant compliance (funded debt/EBITDA ratio of 1.07 versus a maximum of 3.00).
- On July 9, after quarter-end, the credit and letter-of-credit facility was amended to $200m. The company estimated $2.5m–$4.0m of capital expenditures for the remainder of 2015 and said available cash, operating cash flow and credit were expected to meet foreseeable needs.
- Accrued insurance claims totaled $74.6m, including $56.7m long term. The company reported $16.3m of promissory notes receivable, net of reserves. Dividends paid were $0.17625 and $0.17750 per share for the first and second quarters; a $0.17875 quarterly dividend was declared for payment in September.
Outlook, changes and risks
- Management said 2015 revenue performance may be comparable to historical ranges, subject to risks; it expected segment revenue mix to remain broadly similar. It anticipated Dietary growth primarily from existing Housekeeping clients and Housekeeping growth primarily from new clients. This is a qualitative outlook, not quantified earnings guidance.
- The effective tax rate was approximately 38% for the first half; management expected an approximately 38% rate for 2015, versus 31% for 2014, largely reflecting fewer tax credits. The estimate could vary with tax-credit availability.
- In the second half of 2015, the company planned to transition workers’ compensation and certain health and welfare programs to its wholly owned captive insurer. On July 12, it completed a restructuring that moved facility-based employees to three new operating entities; those entities would provide services as subcontractors, while the parent would provide management and administrative support.
- Key exposures include client dependence on Medicare, Medicaid and other reimbursement; delayed collections, client financial distress and bad debts; labor and supply cost inflation; and workers’ compensation and general liability claims. Several clients each contributed at least 3% of revenue, with one contributing as much as 9%. Workers’ compensation and general liability costs rose as a share of revenue in the first half, which management attributed to less favorable claims experience.
- The filing discusses possible adverse effects from reimbursement changes, state Medicaid funding constraints, taxability of services and employment regulations. It reported no material change in the risk factors from the 2014 Form 10-K and no pending legal matter believed likely to materially affect consolidated financial condition or liquidity. Management stated disclosure controls were effective and reported no material quarterly change in internal control over financial reporting.
Important facts for investors to verify
- Whether revenue growth, particularly Dietary expansion and new Housekeeping client wins, continues and converts into profit.
- Receivables quality, client payment delays and bad-debt exposure, including the recoverability of notes receivable and adequacy of the allowance.
- Developments in insurance claims, accrued insurance liabilities and the financial and operational effects of the captive-insurance transition and corporate restructuring.
- Actual credit-facility availability after letters of credit, continued covenant compliance and the use of the expanded $200m facility.
- Whether the approximately 38% tax-rate expectation and regular dividend remain sustainable as tax credits, cash generation and capital needs evolve.