Business context and reporting period
The Ensign Group, Inc. filed this Form 10-K for the fiscal year ended December 31, 2017. Through independent operating subsidiaries, it provides skilled nursing, assisted and independent living, home health, hospice and ancillary services. At year-end it operated 230 facilities in 13 states and 46 home health, hospice and home care agencies; it owned 63 facilities and leased 167.
Financial performance and liquidity
Unless otherwise noted, amounts are in millions of dollars. Fiscal 2017 growth was driven substantially by acquisitions, while operating income, net income and earnings per share declined.
| Metric | FY 2017 | FY 2016 |
|---|---|---|
| Revenue | $1,849.3 | $1,654.9 |
| Income from operations | $81.3 | $91.8 |
| Operating margin | 4.4% | 5.6% |
| Net income attributable to Ensign | $40.5 | $50.0 |
| Diluted earnings per share | $0.77 | $0.96 |
| Net cash provided by operating activities | $73.0 | $73.9 |
| Capital expenditures | $57.2 | $65.7 |
| Cash and cash equivalents at year-end | $42.3 | $57.7 |
| Working capital at year-end | $142.3 | $121.9 |
| Total debt at year-end | $316.0 | $284.2 |
Revenue rose 11.8%; income from operations fell about 11.5%, and net income attributable to Ensign fell about 19.0%. Reported cost of services was $1,497.7 million, or 81.0% of revenue, compared with 81.1% in 2016. Total expenses were 95.6% of revenue versus 94.4%. The company reported EBITDA of $125.4 million, adjusted EBITDA of $169.3 million and adjusted EBITDAR of $284.7 million; adjusted measures exclude specified items and are not GAAP measures.
Revenue by reportable segment was $1,545.2 million for transitional and skilled services, $136.6 million for assisted and independent living, and $142.4 million for home health and hospice. The company attributed $156.4 million of year-over-year revenue growth to operations acquired on or after January 1, 2016. Skilled nursing occupancy was 75.4%, unchanged; assisted and independent living occupancy was 76.4%, up from 76.0%.
Operating cash flow was nearly flat year over year. Cash used in investing activities was $106.6 million, including $89.6 million of business acquisition payments; financing activities provided $18.3 million. The company had a $300 million revolving facility and $150 million term loan under its credit agreement; $190.6 million was outstanding at year-end, and it reported compliance with its loan covenants. It also had $125.4 million of mortgage loans and promissory notes. Future operating lease obligations were $1.755 billion, a significant fixed commitment distinct from reported debt.
Material changes versus the prior comparable period
- Transitional and skilled services revenue increased 12.4%, assisted and independent living revenue increased 10.5%, and home health and hospice revenue increased 23.0%. Acquisition contributions were material to overall growth.
- Same-facility skilled nursing revenue grew 3.4%, but same-facility patient days declined 0.5%. Medicare revenue at same facilities fell 4.0%, primarily because of fewer Medicare days. Across the full skilled nursing portfolio, skilled mix by days declined to 30.3% from 30.9%, and quality mix by days declined to 42.8% from 43.4%.
- Interest expense rose to $13.6 million from $7.1 million, principally reflecting additional borrowing. Debt increased, including $112 million of HUD-insured mortgages entered into in December 2017; proceeds were used in part to repay revolving borrowings.
- Operating cash flow was down $0.9 million. Management cited the $11 million class-action settlement payment and timing of operating-asset and liability payments, partly offset by other collections and payments.
Outlook, commentary, risks and unusual items
- Management provided no specific earnings or revenue guidance in the supplied filing text. It said existing cash, operating cash flow and credit-facility availability should cover operating needs for at least the next 12 months. Approximately $60 million was budgeted for 2018 renovation projects.
- The company’s growth strategy emphasizes developing local leaders, improving occupancy and operating efficiency, attracting higher-acuity patients, and pursuing acquisitions and complementary post-acute businesses. Management cautioned that acquisitions and turnaround facilities can weigh on occupancy and margins during integration.
- The Tax Cuts and Jobs Act reduced the federal corporate tax rate from 35% to 21% beginning in 2018. Ensign recorded a $3.9 million increase in 2017 income tax expense from revaluing deferred tax balances; management expected future tax benefits, while noting the estimate remained subject to refinement. The 2017 effective tax rate was 41.1%, versus 38.4%.
- The company accrued and paid $11 million to settle a wage-and-hour class action, without admitting liability. It recorded $4.0 million of net closure and lease-termination losses, partly offset by a $1.3 million recovery. A sale-leaseback generated $38 million in proceeds and a $13.2 million deferred gain to be amortized over the lease term. Hurricane Harvey and California fires caused $1.2 million of losses; affected operations reopened in the fourth quarter, with one operation expected to reopen in the second quarter of 2018.
- Key risks include dependence on government reimbursement (Medicaid and Medicare represented 68.4% of revenue), reimbursement and regulatory changes, labor availability and wage costs (payroll was approximately 60% of expenses), audit and recoupment exposure, litigation and self-insurance estimates, acquisition execution, and substantial lease and debt commitments. Seven operating subsidiaries had Medicare probes scheduled or in process at year-end; none was on extended prepayment review. The company reported $0.8 million of hospice cap expense.
- The company’s five-year corporate integrity agreement, entered in 2013 following a $48 million government settlement, remained in effect at the filing date. Ensign said it continued to meet its requirements and pass independent review audits. It also disclosed a limited, inadvertent patient-information disclosure in Arizona, which it said had been investigated, addressed and reported as required.
Important facts for investors to verify
- Whether acquisition-led revenue growth translates into durable same-facility growth, improving occupancy, and recovery in skilled and quality mix.
- How margins, labor costs, and cash conversion develop as interest expense and acquired-operation costs rise.
- The company’s capacity to service $316 million of debt and $1.755 billion of future operating lease obligations, including compliance with credit and lease covenants.
- Actual effects of 2018 tax changes, Medicare and Medicaid reimbursement updates, and value-based payment programs on earnings and cash flow.
- Developments in Medicare probes, the corporate integrity agreement, self-insurance reserves and other litigation or regulatory matters.