Encompass Health Corporation — Q2 2020 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2020. Encompass Health provides inpatient rehabilitation and home health and hospice services across 39 states and Puerto Rico.
Financial performance
| Metric | Q2 2020 | Q2 2019 | Six months 2020 | Six months 2019 |
|---|---|---|---|---|
| Net operating revenue | $1,074.1 million | $1,135.0 million | $2,256.1 million | $2,259.0 million |
| Income from continuing operations | $48.2 million | $111.0 million | $157.0 million | $236.7 million |
| Net income attributable to Encompass Health | $33.5 million | $91.2 million | $120.5 million | $193.5 million |
| Diluted earnings per share | $0.34 | $0.92 | $1.21 | $1.94 |
| Adjusted EBITDA | $162.2 million | $252.2 million | $390.2 million | $495.1 million |
- Q2 revenue declined 5.4% year over year; first-half revenue was nearly flat, down 0.1%. Q2 net income attributable to the company fell 63.3%; first-half income fell 37.7%.
- Q2 segment Adjusted EBITDA was $180.3 million for inpatient rehabilitation, down 22.9%, and $15.0 million for home health and hospice, down 69.5%. These are non-GAAP measures.
- For the six months, operating cash flow was $251.6 million, versus $305.3 million; capital expenditures for property and equipment were $166.6 million. Investing activities used $175.1 million and financing activities provided $253.9 million.
- At June 30, cash and cash equivalents were $419.0 million; restricted cash was $56.4 million on the balance sheet, with a further $14.6 million in other long-term assets. Available revolving-credit capacity was approximately $964 million.
- Long-term debt, including its current portion, was $3,583.6 million, compared with $3,062.6 million at year-end 2019. The company reported compliance with amended debt covenants at June 30.
Operating changes and drivers
- COVID-19 disrupted patient volumes from mid-March. Volumes reached lows in April and subsequently recovered: by the end of June, inpatient rehabilitation census was about 95% of pre-pandemic levels, while home health starts of care and hospice admissions had returned to pre-pandemic levels.
- Q2 inpatient rehabilitation revenue decreased 5.7% to $824.5 million; discharges fell 10.7%, partly offset by a 6.2% increase in net patient revenue per discharge. Segment Adjusted EBITDA declined to $180.3 million.
- Q2 home health and hospice revenue decreased 4.4% to $249.6 million. Home health revenue declined 9.4%, while hospice revenue grew 24.5%. Segment Adjusted EBITDA fell to $15.0 million.
- Expenses were pressured by lower volumes and productivity, increased PPE and other medical-supply costs, and approximately $43 million of additional paid-time-off expense for eligible frontline employees. Supplies rose 21.3% in Q2; salaries and benefits rose 4.7% despite lower revenue.
- Medicare’s share of Q2 revenue declined to 65.8% from 74.9%, while Medicare Advantage rose to 18.2% from 10.9%. The filing attributes part of the inpatient rehabilitation shift to suspended prior-authorization requirements.
Liquidity, outlook, risks, and unusual items
- In May, the company issued an additional $300 million of 4.50% notes due 2028 and $300 million of 4.75% notes due 2030, generating approximately $583 million net proceeds; a portion and cash on hand were used to repay revolving-credit borrowings. The April credit-agreement amendment relaxed specified covenant thresholds and provided a temporary COVID-19-related material-adverse-effect carve-out.
- The company paid approximately $101 million in February to settle stock appreciation rights and $162.3 million during the first half to purchase equity interests in its home health and hospice business. It completed an exchange of remaining interests for 560,957 company shares and now owns 100% of that business.
- Encompass Health declined CARES Act provider relief funds, repaid initial amounts received, and said it intended to return any additional funds received. Temporary suspension of Medicare sequestration contributed $11.6 million to Q2 revenue.
- Management said it could not reliably estimate the pandemic’s effect on full-year 2020 results or capital spending. It cited possible renewed local outbreaks, staffing and supply constraints, higher PPE costs, and continued expense pressure into July. Share repurchases were suspended in mid-March; a quarterly dividend of $0.28 per share was declared for October, subject to board discretion.
- Management remained optimistic about longer-term demand from an aging population. Proposed 2021 Medicare payment rules were estimated by the company to increase inpatient rehabilitation rates by about 2.4% and home health rates by about 2.6%; these were estimates based on proposed rules, not confirmed outcomes.
- Risks include healthcare reimbursement and regulatory changes, Medicare audits and recoupments, COVID-19 effects, labor availability and costs, litigation and potential undisclosed qui tam claims. The company said pending legal proceedings were not then believed material; it could not estimate potential loss for the remaining Nichols litigation plaintiff.
Most important facts for investors to verify
- Whether patient volumes and segment margins continued recovering after June, particularly in markets affected by renewed COVID-19 outbreaks.
- How much of the expense increase, including frontline paid time off, PPE, staffing, and lower productivity, persisted in subsequent quarters.
- Debt levels, covenant headroom, and liquidity after the note issuance, equity-interest purchase, and operating cash-flow decline.
- Final Medicare payment-rule changes and the effects of PDGM, sequestration resumption, and home health review programs on reimbursement.
- The sustainability of dividends and the timing of any resumption of share repurchases given pandemic uncertainty and capital needs.