Business context and reporting period
Healthcare Services Group, Inc. filed this unaudited Form 10-Q for the quarter ended September 30, 2013. It provides management and operating services to healthcare facilities, primarily long-term-care providers, through Housekeeping (including laundry and linen) and Dietary segments. The company served more than 3,000 facilities in 48 states; Dietary was provided at approximately 800 facilities.
Financial performance and liquidity
| Metric | Q3 2013 | Q3 2012 | Nine months 2013 | Nine months 2012 |
|---|---|---|---|---|
| Revenue | $298.5 million | $272.7 million | $846.1 million | $800.4 million |
| Income before taxes | $21.2 million | $18.6 million | $60.0 million | $50.6 million |
| Net income | $13.8 million | $11.5 million | $41.7 million | $31.4 million |
| Diluted EPS | $0.20 | $0.17 | $0.60 | $0.46 |
Net margin was 4.6% for Q3 versus 4.3% a year earlier, and 4.9% for the nine months versus 3.9%. Costs of services were 85.7% of revenue in Q3 (85.9% in 2012) and 85.8% for the nine months (86.5% in 2012). The nine-month effective tax rate was approximately 31%, compared with 38% in 2012.
Cash from operations was $7.9 million for the nine months, down from $35.4 million. Increased receivables, inventories, deferred-compensation funding and lower accrued payroll reduced operating cash flow. Investing provided $1.6 million; financing used $27.9 million, including $34.8 million of dividends. Cash and cash equivalents ended at $50.6 million, down from $68.9 million at year-end 2012.
At September 30, cash and marketable securities totaled $62.1 million, working capital was $215.2 million, and the current ratio was 4.0. The company had no line-of-credit borrowings. Its $57.0 million facility was reduced by a $43.5 million standby letter of credit, leaving approximately $13.5 million available; the facility expires June 30, 2014. The company reported covenant compliance. It reported no other material debt in the filing.
Material changes and unusual items
- Q3 revenue rose 9.5%; nine-month revenue rose 5.7%. Dietary segment revenue increased 21.6% in Q3 and 12.6% for the nine months, mainly from extending Dietary services to existing Housekeeping clients. Housekeeping segment revenue increased 3.9% and 2.6%, respectively, reflecting new clients and the Platinum acquisition.
- On July 12, 2013, the company acquired substantially all operating assets of Platinum Health Services for $46.8 million of consideration: $5.0 million cash, shares valued at $30.1 million, and contingent consideration valued at $11.8 million. Preliminary allocation included $23.2 million goodwill and $21.0 million customer-relationship intangibles. Integration, client retention and realization of anticipated benefits are risks.
- Receivables increased to $184.6 million from $140.2 million at year-end. The allowance for doubtful accounts was $3.6 million; management identified $6.7 million of accounts requiring allowance consideration. Nine-month bad-debt provision declined to $0.9 million from $1.8 million.
- Cash dividends exceeded operating cash flow for the nine-month period and were funded partly from existing cash and investments. The board declared a further $0.17-per-share quarterly dividend for payment in December 2013.
Outlook, risks and contingencies
No formal revenue or earnings guidance is provided. Management expected Dietary to represent a larger share of revenue during the remainder of 2013; it anticipated Dietary growth mainly from existing Housekeeping clients and Housekeeping growth from new clients and Platinum. Management estimated remaining-2013 capital expenditures of $0.75 million to $1.5 million and expected the full-year effective tax rate to be approximately 32%, absent significant changes. It stated that existing liquidity, operating cash flow and the credit line should support operations and anticipated growth, and expected to continue regular quarterly dividends, subject to board review.
Key risks include client liquidity and collections, given dependence on healthcare providers whose funding is affected by Medicare and Medicaid reimbursement, including sequestration-related reductions; labor and supply costs; and workers’ compensation and general-liability claims. The company self-insures or uses high deductibles for a substantial portion of these risks. It also disclosed ordinary-course legal, employment and tax matters, with no material adverse effect expected from pending matters. The filing reports effective disclosure controls and no material change in internal control over financial reporting during the quarter.
Most important facts for investors to verify
- Whether the large receivables increase converts to cash and whether client payment delays or bad debts worsen.
- Platinum client retention, integration progress, contingent-consideration conditions and realized financial contribution.
- Operating cash generation relative to dividends and the sustainability of the dividend policy.
- Remaining availability and renewal terms of the credit facility before its June 2014 expiration.
- Effects of reimbursement changes, labor and supply-cost pressures, and insurance-claim estimates on margins and liquidity.