Community Health Systems, Inc. — Q1 2017 Form 10-Q
Reporting period: Three months ended March 31, 2017; comparative period is Q1 2016. Unaudited consolidated results are in U.S. dollars. Unless noted otherwise, amounts below are in millions.
Business context and reporting period
CHS operated or leased 155 hospitals in continuing operations at March 31, 2017, plus three hospitals classified as discontinued operations. It continued a portfolio-rationalization and debt-reduction strategy through divestitures. Comparisons with Q1 2016 are affected by the April 2016 spin-off of 38 hospitals and Quorum Health Corporation (QHC); QHC results through the spin-off date are included in the prior-year consolidated comparison, while same-store measures exclude QHC.
Financial performance and liquidity
| Metric | Q1 2017 | Q1 2016 |
|---|---|---|
| Operating revenues before bad-debt provision | $5,168 | $5,754 |
| Provision for bad debts | $682 | $755 |
| Net operating revenues | $4,486 | $4,999 |
| Income from operations | $71 | $294 |
| Operating margin | 1.6% | 5.9% |
| Continuing-operations income (loss) | $(176) | $37 |
| Net income (loss) attributable to CHS stockholders | $(199) | $11 |
| Diluted loss/earnings per share | $(1.79) | $0.10 |
| Net cash provided by operating activities | $242 | $294 |
| Cash purchases of property and equipment | $146 | $224 |
Q1 2017 operating results included a $250 million impairment charge, a $21 million loss on early debt extinguishment, and a $41 million benefit from government and other legal settlements and related costs. Management reported the impairment and settlement items as after-tax impacts of approximately $214 million and positive $26 million, respectively; the debt-extinguishment loss was approximately $13 million after tax.
Reported net operating revenues declined 10.3%, primarily reflecting the QHC spin-off and other portfolio changes. Same-store net operating revenues increased 0.7% ($32 million). Same-store inpatient admissions decreased 1.5% and adjusted admissions decreased 1.4%; revenue per adjusted admission increased 2.2%. Consolidated admissions and adjusted admissions fell 11.5% and 12.5%, respectively. Bad-debt provision was 13.2% of pre-provision operating revenues, versus 13.1% a year earlier.
Operating expenses excluding depreciation, amortization and impairment were 87.5% of net operating revenues versus 87.8% in Q1 2016. Salaries and benefits improved to 45.9% of net operating revenues from 46.3%; supplies increased to 16.7% from 16.0%, partly due to implant costs and surgical case mix. Net interest expense declined to $229 million from $251 million, while cash interest paid was $279 million versus $307 million.
At March 31, 2017, cash was $247 million; current assets were $4,775 million and current liabilities were $2,996 million. Net working capital was approximately $1.8 billion. Total debt was $15,245 million, including $558 million of current maturities and $14,687 million of long-term debt. Stockholders’ equity was $1,429 million. The revolving credit facility had approximately $1.0 billion available, including $56 million committed to letters of credit.
CHS reported compliance with its credit-facility covenants: secured net leverage was approximately 3.99x against a 4.50x maximum, and interest coverage was approximately 2.39x against a 2.00x minimum. The covenants tighten on January 1, 2018 to 4.00x maximum leverage and 2.25x minimum coverage. Approximately 45.2% of variable-rate debt was covered by interest-rate swaps; management estimated that a 1% rate change on the unhedged variable-rate debt would change quarterly interest expense by approximately $11 million.
Material changes, outlook, risks and unusual items
- Refinancing: CHS issued $2.2 billion of 6.25% senior secured notes due 2023 in March 2017. Proceeds funded the retirement of the remaining 2018 secured notes and repayment of the Term F facility. The transactions generated a $21 million early-extinguishment loss and were intended to extend maturities. Total reported debt was broadly unchanged from year-end 2016.
- Divestiture program: By the filing date, CHS had sold or entered into agreements or nonbinding letters of intent to sell 30 continuing-operations hospitals. The group represented approximately $3.4 billion of 2016 annual net operating revenues; potential net proceeds were estimated at approximately $2.0 billion if all dispositions closed on expected terms. Management anticipated unclosed transactions could close in 2017, but cautioned that timing, completion and proceeds were uncertain. Several hospital sales closed May 1, 2017, after quarter-end; additional agreements were also announced.
- No specific full-year earnings or revenue guidance is provided. Management said it expected operating cash generation, available borrowing capacity and capital-market access to support capital needs over the next 12 months, and intended to continue efficiency improvements and portfolio rationalization.
- Goodwill and asset impairment: The quarter’s $250 million impairment related to hospitals classified as held for sale, including approximately $192 million of allocated goodwill. CHS had approximately $6.3 billion of goodwill remaining. Management said the 2016 annual goodwill test showed less than 1% excess fair value over carrying value in its hospital reporting unit; future declines in stock or debt values, volumes, or operating performance could trigger further material impairment.
- Legal and regulatory matters: CHS disclosed ongoing HMA-related False Claims Act and government investigations, including alleged inpatient admission and physician-relationship issues. The related CVR legal liability was estimated at $258 million at March 31, 2017; ultimate HMA legal losses may reduce amounts payable to CVR holders. Other matters include a federal securities appeal, cyberattack-related litigation, government inquiries and other lawsuits. Management did not expect pending matters to materially harm consolidated financial position or liquidity, but said adverse outcomes could materially affect results or cash flows in a period.
- Healthcare policy and reimbursement: Risks include possible changes to the Affordable Care Act, Medicaid expansion and supplemental state programs, Medicare/Medicaid reimbursement, managed-care contract rates, and regulatory requirements. Management noted that 11 of the 21 states in which CHS operated continuing-operations hospitals had not expanded Medicaid, including Florida, Tennessee and Texas.
- Other items: EHR incentive reimbursement fell to $6 million from $18 million as programs wound down. CHS adopted new share-based compensation accounting and recorded approximately $16 million of tax expense from restricted-stock tax deficiencies. Management stated that results for the quarter are not necessarily indicative of full-year results.
Important facts for investors to verify
- Progress, final terms, timing and net cash proceeds from the hospital divestiture pipeline, and the resulting effect on revenue, cash flow and debt repayment.
- Hospital volume and same-store trends, including whether revenue-per-admission gains can offset declining admissions and higher supply costs.
- Debt maturities, refinancing costs, covenant headroom and the effect of higher interest rates; the filing reports earnings were insufficient to cover fixed charges by approximately $175 million for the quarter.
- Valuation assumptions and further impairment risk for the hospital reporting unit and assets held for sale.
- Developments in HMA-related investigations, the CVR liability, cyberattack litigation and other legal contingencies, including exposures that the company says it cannot currently estimate.
- Receivables collectability and reimbursement estimates: management disclosed that a 1% change in estimated contractual reimbursement could change quarterly net income by approximately $28 million and net accounts receivable by $132 million.