Encompass Health Corporation — Q2 2023 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2023. Encompass Health operates inpatient rehabilitation hospitals; it reported 158 hospitals across 37 states and Puerto Rico. The July 2022 spin-off of Enhabit means 2022 home health and hospice results are presented as discontinued operations.
Financial performance
| Metric | Q2 2023 | Q2 2022 | Six months 2023 | Six months 2022 |
|---|---|---|---|---|
| Net operating revenues | $1,187.1 million | $1,062.5 million | $2,347.5 million | $2,121.8 million |
| Income from continuing operations | $118.4 million | $59.8 million | $232.7 million | $146.2 million |
| Net income attributable to Encompass Health | $91.4 million | $48.7 million | $179.1 million | $136.2 million |
| Diluted EPS from continuing operations | $0.91 | $0.38 | $1.79 | $1.02 |
| Adjusted EBITDA | $249.6 million | $196.4 million | $478.6 million | $391.3 million |
Q2 operating expenses were 84.5% of revenue, compared with 85.9% a year earlier. For the six months, the ratio was 84.6%, versus 85.8%. Adjusted EBITDA is a non-GAAP measure; the company cautions that it is not a substitute for GAAP earnings or cash flows.
- Operating drivers: Q2 discharges rose 9.8%, including 6.2% same-store growth; revenue per discharge increased 2.0% to $20,387. Occupancy was 72.4%, up from 70.7%. For the six months, discharges increased 9.6%, with 5.7% same-store growth.
- Cash flow: For the six months, continuing-operations operating cash flow was $437.5 million, versus $387.6 million. Capital expenditures were approximately $222 million. Consolidated cash flow statements report $434.6 million of operating cash flow for 2023; this differs from the MD&A continuing-operations figure because of discontinued-operation cash flows.
- Liquidity and debt: June 30 cash and cash equivalents were $117.5 million, with $36.5 million restricted cash and approximately $966 million available under the revolving credit facility. Debt carrying value was $2.72 billion, down from $2.77 billion at year-end 2022. The company reported compliance with its credit agreement covenants.
- Capital returns: The board declared a $0.15-per-share dividend payable in October 2023. Approximately $198 million remained under the share repurchase authorization; no shares were repurchased under the public program in Q2.
Changes versus prior comparable period
- Q2 revenue rose 11.7% and six-month revenue rose 10.6%, primarily on higher patient volumes, new hospitals, and higher reimbursement rates.
- Q2 income from continuing operations nearly doubled, reflecting revenue growth and lower interest expense. Interest expense fell 39.9% in Q2, primarily because the 2022 comparison included a bondholder consent fee and term-loan-related costs.
- Salaries and benefits increased in dollars but fell as a share of revenue, helped by lower contract labor and sign-on and shift bonuses. General and administrative expense rose 53.0% in Q2, mainly due to higher incentive compensation.
- Q2 2022 included $11.5 million of income from discontinued operations; Q2 2023 had a $1.2 million discontinued-operations loss. Six-month 2022 discontinued results also included Enhabit revenue and earnings, so consolidated net income comparisons are affected by the spin-off.
Outlook, risks and unusual items
- Outlook: Management cited aging demographics and expected Medicare-enrollee growth as drivers of long-term demand, and described itself as optimistic about the business. It planned 2023 capital expenditures of approximately $565 million to $605 million, including $230 million to $240 million characterized as nondiscretionary. Estimated 2023 cash income-tax payments, net of refunds, were $95 million to $110 million. No full-year revenue or earnings guidance is provided in the filing text.
- Medicare reimbursement: The FY2024 IRF final rule was estimated by the company to raise its Medicare payment rates by approximately 3.3%, effective October 1, 2023. CMS’s review choice demonstration began in Alabama in August 2023, with possible expansion to Pennsylvania, Texas, and California; the company operates 46 hospitals in those four states.
- Audit exposure: An SMRC review covers approximately $21 million of claims from March–December 2020. The company reported that approximately 82% of claims with initial results were approved and approximately $4 million remained under appeal. Audits, appeals, recoupments, and potential refunds remain risks.
- Costs and operations: Staffing shortages and labor costs remain challenges. The filing also cites regulatory and reimbursement uncertainty, competition, patient-volume risks, and potential litigation, including qui tam matters that may remain under seal.
- Unusual item: A South Carolina law repealed certain certificate-of-need requirements; the change led to $6.1 million of accelerated amortization in Q2 and a $2.2 million reduction in income attributable to noncontrolling interests.
Key facts for investors to verify
- Whether discharge and same-store growth, occupancy, and revenue per discharge remain durable as new hospitals ramp up.
- Actual Medicare payment effects of the FY2024 rule and the operational and reimbursement impact of review choice demonstration expansion.
- Outcomes of the SMRC appeal and other Medicare audits, claims reviews, and potential recoupments.
- Execution and funding of the planned $565 million to $605 million in 2023 capital expenditures, alongside debt, dividends, and liquidity needs.
- Labor availability and costs, and whether incentive compensation and other expense growth affect margins.
- Risks arising from the company’s concentration in inpatient rehabilitation and Medicare following the Enhabit spin-off, as well as legal and regulatory contingencies.