Tenet Healthcare Corporation — Q3 2010 Form 10-Q
Business context and reporting period. Tenet operates general hospitals and related healthcare businesses. At September 30, 2010, it operated 49 general hospitals and one critical access hospital, with 13,430 licensed beds in 11 states. This unaudited filing covers the quarter and nine months ended September 30, 2010; amounts below are in millions except per-share data.
Financial performance and condition
| Metric | Q3 2010 | Q3 2009 | Nine months 2010 | Nine months 2009 |
|---|---|---|---|---|
| Net operating revenues | $2,262 | $2,262 | $6,904 | $6,753 |
| Operating income | $97 | $133 | $469 | $447 |
| Operating margin | 4.3% | 5.9% | 6.8% | 6.6% |
| Net income attributable to common shareholders | $932 | $(3) | $1,045 | $160 |
| Diluted EPS | $1.68 | $(0.01) | $1.90 | $0.33 |
| Adjusted EBITDA (non-GAAP) | $203 | $240 | $769 | $764 |
| Adjusted EBITDA margin (non-GAAP) | 9.0% | 10.6% | 11.1% | 11.3% |
- Revenue and operating trends: Q3 revenue was flat, while nine-month revenue increased 2.2%. For the quarter, inpatient revenue fell 2.5% and outpatient revenue rose 3.5%. Admissions declined 3.5%, adjusted patient days 2.4%, and outpatient visits 2.0%; commercial managed-care admissions declined 8.6%.
- Costs and margins: Q3 operating income fell $36 million year over year as selected operating expenses increased 2.4% despite flat revenue. Selected costs per adjusted patient day rose 4.9%. Nine-month provision for doubtful accounts increased 6.4% to $549 million, or 8.0% of revenue, versus 7.6% a year earlier.
- Tax-driven reported profit: Q3 included a $1.002 billion income tax benefit; the nine-month benefit was $979 million. The principal driver was a $987 million reduction in the deferred-tax-asset valuation allowance in Q3, following management’s conclusion that realization of tax assets was more likely than not. The resulting net income and EPS are not indicative of operating earnings alone.
- Cash flow and capital spending: Nine-month operating cash flow was $297 million versus $284 million. Investing activities used $271 million and financing activities used $318 million. Cash declined to $398 million from $690 million at year-end 2009. Continuing-operations capital expenditures were $254 million; total capital expenditures including discontinued operations were $280 million. Adjusted free cash flow, a non-GAAP measure, was $74 million versus $140 million.
- Debt and liquidity: Long-term debt was $4.059 billion, compared with $4.274 billion at year-end 2009; cash was $398 million. Tenet issued $600 million of 8% notes due 2020 and used proceeds plus cash to repurchase approximately $782 million of 7⅜% notes due 2013 and other notes, recording a $55 million Q3 debt-extinguishment loss. It reported no revolver cash borrowings at September 30. The filing gives different revolver availability figures—approximately $460 million in the debt note and $500 million in MD&A—so the applicable borrowing base should be verified.
- Balance sheet: Total assets were $8.535 billion and total equity $1.764 billion at September 30, versus $7.953 billion and $697 million, respectively, at year-end. The equity increase principally reflects the year-to-date reported profit, including the tax benefit.
Material changes, outlook, risks and unusual items
- Tenet cited weak economic conditions, competition, utilization pressure and payer mix as factors behind lower patient volumes. Commercial pricing and higher acuity supported revenue per service, but rising costs per adjusted patient day compressed Q3 operating margin.
- In October 2010, Tenet amended its $800 million secured revolving credit facility, extending scheduled maturity to October 19, 2015, subject to possible earlier acceleration tied to 2015 notes. The company said it was in compliance with covenants. It stated that cash, revolver availability and expected operating cash flow should meet current needs, while long-term debt service depends on improved operating cash flow and access to financing.
- Management estimated 2010 continuing-operations capital expenditures of $425–$475 million. It reported a 3.7x ratio of net debt to last-twelve-month adjusted EBITDA. No earnings guidance was provided in the supplied filing text.
- California’s hospital provider-fee program remained partly contingent on CMS approval of its managed-care portion. Tenet estimated approximately $64 million of net revenue for the full 21-month program if fully approved, potentially recognized in Q4 2010. At September 30, it recorded a $134 million liability and a corresponding amount in other current assets; subsequent to quarter-end it had paid $64 million and received $33 million.
- Tenet sold nine Florida medical office buildings in October for $46 million and expected an approximately $3 million impairment charge in Q4. It also acquired diagnostic imaging centers for $42 million during Q3.
- Key risks include continued volume declines; self-pay collection rates and bad debt; reimbursement changes and state Medicaid funding; health reform implementation; and legal, regulatory and malpractice exposure. Self-pay collection rate was 29.1%, down from 30.3% a year earlier. Tenet reported ongoing government reviews, including Medicare billing reviews, and Hurricane Katrina-related litigation, with bellwether trials scheduled for March 2011. It had recorded approximately $27 million in reserves for the identified governmental reviews.
- One previously impaired hospital remained at risk of further impairment if operating trends or asset values deteriorate. Tenet recorded $3 million of Q3 impairment and restructuring charges; nine-month net charges were $1 million.
- Management stated that disclosure controls were effective and that there were no material changes in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether the California managed-care provider-fee component received CMS approval, and the timing and net amount of related payments and revenue recognition.
- The sustainability of operating performance excluding the unusually large deferred-tax valuation-allowance benefit, including adjusted EBITDA, margins and cash generation.
- Trends in admissions, commercial payer mix, self-pay collection rates, doubtful-account provisions and accounts-receivable aging.
- Actual revolver borrowing availability, covenant headroom, refinancing needs and the effect of the 2015-note maturity provisions.
- Potential outcomes and cash exposure from government investigations, Katrina litigation, malpractice claims and other contingencies.
- Actual 2010 capital expenditures and whether operating cash flow can support investment and debt service.