Encompass Health Corporation — Q3 2022 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2022. Amounts are in millions of dollars except per-share data and operating statistics. The filing was signed November 2, 2022.
Business context
Encompass Health operates inpatient rehabilitation hospitals. At quarter-end, it operated 153 hospitals across 36 states and Puerto Rico and managed two inpatient rehabilitation units. On July 1, 2022, it spun off its home health and hospice business as Enhabit, Inc.; that business is reported as discontinued operations for all periods presented. The company now reports one segment.
Financial and operating performance
| Metric | Q3 2022 | Q3 2021 | Nine months 2022 | Nine months 2021 |
|---|---|---|---|---|
| Net operating revenues | $1,089.5 | $1,010.8 | $3,211.3 | $2,972.4 |
| Income from continuing operations | $85.5 | $102.1 | $231.7 | $310.9 |
| Net income attributable to Encompass Health | $45.4 | $100.0 | $181.6 | $320.6 |
| Diluted EPS, continuing operations | $0.63 | $0.76 | $1.66 | $2.31 |
| Diluted EPS, total | $0.45 | $1.00 | $1.81 | $3.20 |
| Adjusted EBITDA (non-GAAP) | $195.3 | $199.3 | $586.6 | $616.5 |
- Revenue grew 7.8% in the quarter and 8.0% year to date, principally due to volume growth. Discharges increased 7.5% and 6.7%, respectively; same-store discharge growth was 4.1% and 2.9%.
- Net patient revenue per discharge rose 0.7% in Q3 and 1.4% year to date. Medicare represented 65.3% of Q3 revenue, compared with 64.2% a year earlier.
- Operating expenses grew faster than revenue: 11.5% in Q3 and 12.0% year to date. Salaries and benefits rose 12.8% and 14.4%, respectively, and increased to 55.6% of revenue in Q3 from 53.1%.
- Total operating expenses were 86.4% of revenue in Q3 versus 83.5% a year earlier, indicating lower operating margin. The filing attributes lower continuing income mainly to increased labor costs.
- Discontinued operations recorded a Q3 net loss of $18.5, including separation-related transaction costs; nine-month discontinued-operations income was $16.7. The separation and its related costs affect comparison of total net income between periods.
Cash flow, debt and liquidity
- For the first nine months, cash provided by operating activities from continuing operations was $477.6, compared with $458.5 in 2021. Continuing investing cash use was $417.0, chiefly reflecting capital investment; continuing financing cash use was $645.3, primarily reflecting higher net debt payments.
- Capital expenditures, including property, equipment, software and other intangible assets, were approximately $390 for the nine months. The company expected full-year 2022 capital expenditures of $537–$582, of which $195–$215 was considered nondiscretionary.
- At September 30, cash and cash equivalents were $59.8; restricted cash was $44.3. The company reported approximately $927 of revolving-credit availability. Restricted marketable securities of $98.5 were not included in cash and cash equivalents.
- Long-term debt, including its current portion, was $2,745.2, down from $3,278.3 at December 31, 2021. The company reported covenant compliance: maximum leverage ratio 4.75x and minimum interest coverage ratio 3.0x.
- On June 30, Enhabit distributed $566.6 to Encompass Health; the company used the proceeds to repay $250 of revolving borrowings and approximately $236 of term loans. In October 2022, it entered a new credit agreement extending maturity to October 7, 2027. Management stated there were no significant debt maturities before 2025.
Outlook, commentary and risks
- Management expressed optimism about intermediate- and long-term demand, citing an aging population, and continued investment in new hospitals and capacity. It did not provide specific revenue or earnings guidance in the supplied filing text.
- The company estimated a net Medicare payment-rate increase of approximately 4.0% under the fiscal 2023 IRF final rule, effective October 1, 2022. This estimate is management’s analysis, not a guarantee of realized reimbursement.
- Medicare sequestration returned to a full 2% payment reduction on July 1, 2022; its suspension provided approximately $24 of additional revenue during the first nine months of 2022. A potential IRF transfer-payment policy change could reduce industry reimbursement; timing and implementation remained uncertain. CMS’s proposed Review Choice Demonstration also remained uncertain.
- Labor availability and cost remain key challenges. Contract labor, clinician compensation, sign-on and shift bonuses, and paid time off contributed to higher salary expense. Management reported these costs at $49.0 in Q3 2022 versus approximately $33.3 in Q3 2021, and $168.9 year to date versus approximately $82.9.
- Other risks include healthcare regulation and reimbursement changes, claim audits and potential repayments, pandemic-related operating disruption, and litigation, including potentially undisclosed False Claims Act matters. Management reported no material changes to the previously disclosed risk factors other than risks specific to the spun-off home health and hospice business.
- The board declared a $0.15-per-share dividend in October 2022, payable January 17, 2023, subject to the stated record date and board discretion. Approximately $198 million remained under the share repurchase authorization at September 30; Q3 purchases were not made under the publicly announced program.
Most important facts to verify
- Separate continuing results from discontinued operations when assessing earnings trends, and review the effects of Enhabit separation costs and the revised business mix.
- Track whether volume growth and the estimated Medicare rate increase offset labor-cost inflation and the resumed 2% sequestration reduction.
- Confirm actual full-year capital expenditures against the $537–$582 estimate and monitor operating cash generation after investment and debt service.
- Review debt maturities, revolving-credit availability, covenant headroom and terms of the October 2022 credit agreement.
- Monitor CMS reimbursement proposals, claim audits, staffing conditions and any material developments in legal or regulatory contingencies.