Surgery Partners, Inc. — Q3 2015 Form 10-Q
Reporting period: Three and nine months ended September 30, 2015. Surgery Partners operates ambulatory surgery centers, surgical hospitals, physician practices and ancillary healthcare services. Results include Symbion, acquired November 3, 2014; therefore, year-over-year consolidated comparisons are substantially affected by the acquisition and are not like-for-like. On September 30, the company completed a reorganization ahead of its October IPO.
Financial performance and liquidity
| Metric | Q3 2015 | Q3 2014 | Nine months 2015 | Nine months 2014 |
|---|---|---|---|---|
| Revenue | $239.6m | $76.3m | $696.6m | $223.6m |
| Operating income / margin | $44.3m / 18.5% | $19.7m / 25.8% | $123.6m / 17.7% | $54.5m / 24.4% |
| Consolidated net income | $13.8m | $0.4m | $36.8m | $9.7m |
| Net loss attributable to Surgery Partners, Inc. | $(3.1)m | $(6.9)m | $(15.3)m | $(11.6)m |
| Net interest expense | $26.6m | $11.3m | $78.5m | $32.7m |
| Adjusted EBITDA (non-GAAP) | $39.9m | $16.1m | $114.3m | $46.1m |
Management attributed the large revenue and earnings increases mainly to Symbion. Operating margin fell as cost of revenue rose to 70.5% of revenue in Q3 from 59.5% a year earlier; management cited 19.5% as Q3 margin excluding merger/integration costs and asset-disposal loss. Same-facility cases increased 6.1% in Q3 and revenue per case rose 6.2%; nine-month growth was 4.7% for each measure.
- Cash flow: Nine-month operating cash flow was $60.3m, versus $29.2m; management said it would have been $76.5m excluding $10.3m of merger/integration cash costs and $5.9m of net prior-year settlement payments. Investing cash use was $39.5m, including $18.1m of capital expenditures; financing cash use was $38.9m.
- Liquidity: Cash was $56.8m at September 30, down from $74.9m at December 31, 2014. Working capital was $111.8m, compared with $127.3m. Revolver availability was $41.6m under the then-$80m facility.
- Debt: Total debt was $1.399bn, compared with $1.361bn at year-end; current maturities were $27.7m. Debt includes first- and second-lien term loans, a revolver and other borrowings. The company reported compliance with debt covenants at September 30.
- Receivables: Accounts receivable was $164.6m, with a $12.7m doubtful-account allowance, versus $145.0m and a $5.3m allowance at year-end. Days sales outstanding rose to 63 from 52 at December 31, 2014.
Material changes and subsequent events
- The Symbion acquisition added 55 facilities, including 49 ASCs and six hospitals. At September 30, Surgery Partners owned or operated 99 surgical facilities across 28 states and consolidated 88 for financial reporting.
- During the first nine months, the company acquired surgical facilities, physician practices and anesthesia practices, and sold interests in three surgical facilities for aggregate proceeds of approximately $10.9m.
- The October 1 IPO sold 14.285m shares at $19 per share. Net proceeds were $255.8m; on October 6, the company prepaid $243.5m of second-lien principal and incurred a $7.3m prepayment penalty. On October 7, it amended the revolving facility to increase commitments from $80m to $150m.
- Management expects potential Symbion cost and revenue synergies over the next two to three years, including corporate overhead reductions, supply-chain efficiencies, improved physician engagement and payor contracting, and broader ancillary-service offerings. The filing provides no quantified earnings guidance.
Commentary, risks and unusual items
- Nine-month merger transaction and integration costs were $14.9m. Q3 included $1.2m of such costs and a $1.2m loss on disposal of long-lived assets. The nine-month period also included a $1.5m net gain on disposal or impairment.
- The company recorded a $4.7m Medicaid audit overpayment obligation, including a civil penalty, related to one Idaho hospital; it is preparing an appeal. The filing says the outcome and financial effect of audits remain uncertain.
- Healthcare reimbursement, payor contracting, physician relationships, integration of acquired operations, medical malpractice, and extensive federal and state healthcare regulation are material business risks. The company also describes uncertainty around audits, billing rules, anti-kickback and physician-referral requirements, and facility licensing.
- A tax receivable agreement generally requires payment to pre-IPO stockholders of 85% of specified realized tax savings, with interest. The company estimated potential payments of $110m–$115m if related tax benefits are realized; it had not recorded a liability because realization was not considered probable. It also maintained a $150.6m valuation allowance against deferred tax assets and reported $338.2m of federal NOL carryforwards.
- Management stated it believed liquidity was sufficient for the next 12–18 months, while noting it would continue to explore financing alternatives. This is not a guarantee of future liquidity or successful refinancing.
Important facts for investors to verify
- How much of reported growth and margin performance reflects Symbion versus same-facility operating trends, and whether anticipated integration synergies are achieved.
- Whether receivables, days sales outstanding and doubtful-account provisions stabilize, and how collections affect operating cash flow.
- Debt balances and interest burden after the IPO repayment, revolver expansion, covenant headroom and the company’s ability to manage substantial leverage.
- The outcome and potential additional exposure from the Idaho Medicaid audit appeal and other reimbursement or compliance reviews.
- The realization of deferred tax assets, any resulting tax receivable agreement liability and payments, and potential limits on using NOLs.