DaVita Inc. — 2017 Form 10-K
Reporting period: Fiscal year ended December 31, 2017. This is an annual filing, not a stand-alone fourth-quarter report. Unless noted otherwise, amounts are U.S. dollars.
Business context and reporting period
DaVita’s continuing operations centered on Kidney Care: U.S. dialysis and related laboratory services, ancillary businesses, and international operations. At year-end, it served approximately 197,800 U.S. patients through 2,510 outpatient centers and 22,900 international patients through 237 centers. DaVita entered an agreement in December 2017 to sell DaVita Medical Group (DMG) to UnitedHealth Group subsidiary Optum for $4.9 billion in cash, subject to customary adjustments and approvals. DMG was classified as held for sale and reported as discontinued operations for all periods presented; its results are therefore separate from continuing-operations revenue and profit below.
Key financial and operating metrics
| Metric | 2017 | 2016 |
|---|---|---|
| Continuing-operations net revenue | $10.877 billion | $10.707 billion |
| Operating income | $1.813 billion | $2.030 billion |
| Adjusted operating income (non-GAAP) | $1.616 billion | $1.715 billion |
| Net income from continuing operations | $1.076 billion | $1.191 billion |
| Net income attributable to DaVita | $664 million | $880 million |
| Diluted EPS from continuing operations | $4.71 | $5.04 |
| Operating cash flow | $1.907 billion consolidated; $1.6 billion from continuing operations | $1.963 billion consolidated; $1.7 billion from continuing operations |
Continuing-operations revenue grew 1.6%. GAAP operating margin was approximately 16.7%, compared with 19.0%; adjusted operating income, a company-defined non-GAAP measure, fell about 5.8%. DaVita recorded a $251.5 million tax benefit from 2017 U.S. tax reform; excluding that benefit, management reported a 41.1% effective tax rate on continuing operations.
U.S. dialysis treatments rose approximately 4.1% to 28.27 million. Net patient-service revenue per treatment declined to $330.38 from $335.81, reflecting weaker commercial mix, including fewer exchange patients, and higher uncollectible-account provisions. Government programs generated 67% of U.S. dialysis-service revenue and approximately 89.5% of dialysis patients; commercial payors generated 33% of service revenue.
Fourth-quarter reference: Unaudited Q4 revenue was $2.781 billion and operating income was $150 million. Net income attributable to DaVita was $303 million, including $144 million of income from discontinued operations; quarterly results were materially affected by discontinued-operations and tax items.
At December 31, cash and cash equivalents were $508 million and short-term investments were $44 million. Total debt principal was approximately $9.4 billion, including $300 million drawn on a $1.0 billion revolving facility. Reported working capital was $5.703 billion, substantially affected by the classification of DMG assets and liabilities as held for sale. Capital expenditures were $905 million and acquisition spending was $804 million.
Material changes versus the prior comparable period
- Revenue growth came primarily from dialysis treatment volume and acquisitions; lower revenue per treatment and one fewer treatment day partly offset growth.
- Operating income included a $530 million net gain from settlement of historical dialysis claims with the Department of Veterans Affairs. It also included a $280 million non-cash impairment of the APAC joint-venture investment and other impairment and restructuring charges. In 2016, results included a $374 million estimated gain related to the APAC joint-venture ownership change. These items make GAAP year-over-year operating income comparisons less representative of underlying performance.
- Adjusted operating income declined by approximately $99 million, including higher adjusted losses in ancillary and strategic businesses and higher corporate support costs. U.S. dialysis adjusted operating income decreased by approximately $9 million to $1.768 billion.
- Accounts receivable rose to $1.715 billion from $1.504 billion; days sales outstanding increased to 57 from 52. Management attributed the increase mainly to changes in collection procedures and expected DSO to improve by two to three days over the next few quarters.
- DaVita repurchased 12.97 million shares for $811 million during 2017. Shares outstanding at year-end were approximately 182.5 million, versus 194.6 million a year earlier.
Outlook, commentary, risks and unusual items
- Management characterized 2018 as challenging: labor and other clinical costs were expected to rise faster than Medicare reimbursement, with limited productivity offsets. It also anticipated additional pharmacy reimbursement pressure and up to $100 million of year-over-year accounting headwind as the company moved to a 401(k) matching program. Expected tax savings from tax reform were cited as a partial offset; no specific earnings or revenue guidance was provided in the filing text.
- The DMG sale was expected to close in 2018, but remained subject to regulatory approval and other closing conditions. DaVita identified risks from delay or failure to close, potential stranded costs, transaction restrictions, and uncertainty over use of proceeds, which it intended to apply to debt repayment, share repurchases and general corporate purposes.
- Reimbursement, commercial-payor mix and commercial rates are significant risks: commercial patients generate nearly all U.S. dialysis profits, while Medicare rates are generally below the cost of providing dialysis. The filing also highlights uncertainty around charitable premium assistance, insurance exchanges, government payment policy and new care models.
- DaVita reported ongoing government inquiries, including an OIG investigation concerning Medicare Advantage diagnosis coding and risk-adjustment submissions, and a U.S. Attorney investigation concerning charitable patient assistance. The pharmaceutical investigation involving DaVita Rx continued after a $63.7 million settlement in December 2017. The company remained subject to a five-year Corporate Integrity Agreement; it disclosed prior implementation deficiencies that had been remediated and penalties paid.
- Legal and regulatory accruals, net of anticipated third-party recoveries, were approximately $6 million at year-end, versus $69 million in 2016. The company cautioned that possible losses beyond accruals could not be estimated in some matters. The $280 million APAC investment impairment and DMG impairment charges of $652 million were substantial unusual items.
- Other risks include substantial debt and variable-rate exposure, labor shortages and cost inflation, healthcare-law compliance, litigation, billing and collection estimates, cybersecurity, and potential further impairments. Goodwill in the vascular-access reporting unit was fully impaired; Germany, Portugal and Poland reporting units remained sensitive to adverse assumptions.
Important facts for investors to verify
- Whether the $4.9 billion DMG sale closed on expected terms, including final purchase-price adjustments, regulatory conditions, and any resulting debt repayment or share repurchases.
- Whether treatment growth can offset declining revenue per treatment, commercial-payor mix pressure, collection challenges and rising labor costs.
- The sustainability of cash generation and leverage after the DMG disposition, including debt maturities, interest-rate exposure and contractual commitments.
- Developments in the Medicare Advantage coding and charitable-assistance inquiries, the DaVita Rx investigation, and compliance with the Corporate Integrity Agreement; potential exposure may exceed recorded accruals.
- Whether international operations and the APAC joint venture meet return expectations, and whether further goodwill or investment impairments arise.