U.S. Physical Therapy, Inc. — Q2 2017 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2017; unaudited. Unless otherwise stated, amounts are in millions of dollars. Prior-period financial information is presented as restated.
Business context
The company operates outpatient physical therapy clinics and manages facilities for third parties. At June 30, 2017, it operated 566 clinics in 41 states and managed 27 third-party facilities. During the first half, it acquired interests in three physical therapy practices (30 clinics in total) and a workforce performance solutions company.
Financial performance
| Metric | Q2 2017 | Q2 2016 | Six months 2017 | Six months 2016 |
|---|---|---|---|---|
| Net revenue | $104.3 | $90.4 | $201.8 | $177.3 |
| Gross margin | $24.5 (23.5%) | $23.1 (25.5%) | $45.3 (22.4%) | $43.6 (24.6%) |
| Operating income | $15.7 | $15.0 | $27.9 | $26.5 |
| Net income attributable to USPH shareholders | $4.9 | $6.0 | $9.8 | $10.5 |
| Diluted EPS | $0.39 | $0.48 | $0.78 | $0.84 |
| Management’s non-GAAP “operating results” | $7.4 ($0.59/share) | $7.2 ($0.57/share) | $14.0 ($1.11/share) | $13.0 ($1.04/share) |
Revenue increased 15.3% in Q2 and 13.8% year to date. Growth reflected more patient visits, recent clinic additions and the acquired workforce performance business. Q2 patient visits rose 10.0%; net patient revenue per visit was $105.73 versus $105.27. Clinic operating costs rose faster than revenue: 76.5% of revenue in Q2 versus 74.5% a year earlier, with salaries and related costs increasing to 56.4% of revenue from 54.0%. Management attributed the margin pressure largely to new clinics and the workforce performance business. Physical therapy clinic gross margin was 24.2% in Q2 versus 25.6%.
GAAP earnings declined despite higher revenue. The company recorded $6.6 million of first-half interest expense from increases in the redemption value of mandatorily redeemable non-controlling interests, a non-cash charge tied to partnership earnings and valuation formulas. Debt-related interest expense also increased, to $0.9 million for the first half from $0.6 million. Management’s non-GAAP measure excludes the redemption-value change and restatement costs; it is not a substitute for GAAP results.
Cash flow, debt and liquidity
- First-half operating cash flow was $22.2 million, down from $31.1 million. Investing used $36.8 million, including $33.7 million for business acquisitions and $3.2 million for fixed assets. Financing provided $14.9 million, including $23.0 million net draws on the revolving facility.
- Cash was $20.2 million at June 30, 2017, compared with $20.0 million at year-end 2016. Total debt was $75.7 million: $69.0 million drawn on the revolving facility and $6.7 million in notes payable.
- The unsecured revolving facility has a $125 million commitment, $56 million available at period-end, and matures November 30, 2018. The company reported compliance with its covenants. Its average effective facility interest rate was 2.7%.
- Total liabilities were $209.4 million. Mandatorily redeemable non-controlling interests were $83.6 million; a further $11.9 million of redeemable non-controlling interests was reported separately from liabilities and equity.
Outlook, risks and unusual items
- No specific earnings or revenue guidance was provided. Management intends to continue acquisitions, open new and satellite clinics, and increase patient volume through marketing and new programs. It believes available cash and revolving-credit capacity can fund operating needs, clinic development and acquisitions through at least June 2018; significant acquisitions may require additional financing. Interim results are not necessarily indicative of full-year results.
- Medicare represented approximately $45.8 million of first-half revenue. The filing describes reimbursement, regulatory and audit risks, including the 2% Medicare payment reduction and therapy limits and exceptions scheduled to continue through December 31, 2017 absent further legislation.
- The company disclosed a material weakness in internal control over financial reporting concerning accounting for redeemable non-controlling partnership interests. Disclosure controls were not effective at quarter-end. Management described remediation procedures implemented after the period, but did not report that the weakness had been fully remediated.
- A putative shareholder class action alleges misstatements concerning historical accounting for redeemable non-controlling interests. An amended complaint was filed July 31, 2017. The defendants intended to seek dismissal; the company said it did not expect existing proceedings to have a material impact, but the outcome is uncertain.
- The 2016 and earlier comparative financial statements were restated after the company identified a material accounting error involving mandatorily redeemable non-controlling interests. Q2 and first-half 2017 also included legal and accounting costs related to the restatement of $0.2 million and $0.3 million, respectively.
Important facts for investors to verify
- Whether the control weakness has been remediated and whether subsequent filings or audits identify further accounting or reporting issues.
- The outcome, costs and potential effects of the shareholder litigation and any other claims related to the restatement.
- Whether clinic-level and consolidated margins stabilize as recent acquisitions are integrated, given rising labor costs and lower reported gross margins.
- Cash conversion, receivable collection trends (37 days’ sales outstanding at June 30, versus 36 at year-end), and the pace and financing of further acquisitions.
- Debt capacity and refinancing plans ahead of the revolving facility’s November 2018 maturity, alongside the valuation and eventual redemption obligations associated with partnership interests.
- Any changes to Medicare reimbursement, therapy limits, or other payor rules that could affect revenue and clinic economics.