DaVita Inc. — Q2 2018 Form 10-Q
Reporting period: Three and six months ended June 30, 2018. Unless otherwise indicated, amounts below are in U.S. dollars. DaVita’s continuing business is primarily U.S. dialysis and related lab services, alongside ancillary and international operations. DaVita Medical Group (DMG) was classified as held for sale and discontinued operations following the pending sale agreement with Optum.
Financial performance
| Metric | Q2 2018 | Q2 2017 | Six months 2018 | Six months 2017 |
|---|---|---|---|---|
| Total revenue | $2.887 billion | $2.699 billion | $5.736 billion | $5.331 billion |
| Operating income | $438.2 million | $391.2 million | $848.9 million | $1.267 billion |
| Income from continuing operations | $236.6 million | $186.1 million | $467.6 million | $680.0 million |
| Net income attributable to DaVita | $267.3 million | $127.0 million | $446.0 million | $574.7 million |
| Diluted EPS, continuing operations | $1.15 | $0.78 | $2.19 | $3.04 |
| Diluted EPS, total | $1.53 | $0.65 | $2.51 | $2.95 |
- Q2 revenue rose 7.0% year over year; six-month revenue rose 7.6%. Management attributed growth mainly to calcimimetics moving into Medicare Part B dialysis reimbursement, additional treatments, and treatment growth. Ancillary-services revenue declined as calcimimetic prescriptions shifted from the pharmacy business to dialysis services.
- Q2 operating margin was approximately 15.2%, versus 14.5% a year earlier. Six-month operating income was lower year over year largely because the 2017 period included a $527 million VA settlement gain; management’s adjusted operating income was $829 million for the first half of 2018 versus $781 million in 2017, excluding specified unusual items.
- U.S. dialysis treatments increased to 7.332 million in Q2 from 7.036 million a year earlier. Average net revenue per treatment was $352.37 versus $329.79. Patient-care cost per treatment was approximately $247 in Q2, up about $25 year over year, mainly reflecting calcimimetic costs and higher labor and benefit costs.
- Cash provided by operations was $924.6 million for the first half, down from $1.015 billion. Management reported $812 million from continuing operations, versus $914 million in the prior-year period. Capital expenditures were $474.0 million; the cash-flow statement reports net investing cash outflow of $424.1 million and net financing cash outflow of $305.9 million.
- At June 30, cash and cash equivalents were $389.3 million and restricted cash was $90.9 million. The company had $1.0 billion of undrawn revolving credit capacity, with approximately $14.4 million committed for letters of credit.
- Debt principal outstanding was $10.002 billion; the balance-sheet carrying amount was $9.944 billion, including $1.769 billion classified as current. The overall effective interest rate was 4.99% at quarter-end, and approximately 48.8% of total debt had fixed interest rates.
Material changes and unusual items
- DaVita adopted Topic 606 on January 1, 2018 using the cumulative-effect method for contracts not substantially completed at adoption. The change affects revenue, bad-debt presentation, and estimates; prior periods were not restated. The filing notes that certain prior-period collection adjustments were recorded in 2018, so reported comparisons are not fully like-for-like.
- Effective January 1, 2018, Medicare Part B became responsible for payment of calcimimetics for Medicare patients, with a transitional add-on payment; CMS indicated the drugs may enter the ESRD bundle in approximately two years. The change shifted revenue and costs between DaVita’s dialysis and pharmacy businesses.
- Q2 operating results included a $34 million net gain on changes in ownership interests, $11.2 million of investment and other asset impairments, and a $3.1 million German-business goodwill impairment.
- DaVita sold its Paladina Health direct primary care business effective June 1, recognizing an initial estimated gain of $35.2 million. DMG also sold its 19% Tandigm Health interest and a related business, with a reported $18.6 million after-tax gain in discontinued operations.
- DMG generated $1.252 billion of Q2 revenue and $69.7 million of net income from discontinued operations. The proposed sale to Optum was for $4.9 billion cash, subject to customary adjustments and regulatory and other closing conditions; closing was expected in 2018.
- DaVita repurchased 11.995 million shares for $809.9 million in the first half, at an average $67.52 per share. It repurchased an additional 3.872 million shares for $272.9 million through July 31. The board authorized an additional approximately $1.390 billion of repurchases in July.
Outlook, risks and contingencies
- The filing provides no specific consolidated earnings or revenue guidance. Management expected to continue evaluating strategic alternatives for certain assets and anticipated the DMG sale, subject to approvals and closing conditions.
- DaVita planned to transition pharmacy customer-service and fulfillment functions to third parties and wind down its distribution operation in the second half of 2018. Management expected transition losses in Q3 and Q4, additional restructuring charges, and said the plan’s net financial impact was not expected to be material.
- Management identified liquidity and debt service as dependent on operating cash flow, borrowing access and, among other factors, proceeds from the anticipated DMG sale. It stated available liquidity was expected to cover obligations for the foreseeable future, including the next 12 months. Risks include variable-rate exposure, substantial debt, and the consequences of a delayed or failed DMG transaction.
- Key business risks include dependence on higher-paying commercial payors and charitable premium assistance; potential changes to Medicare, Medicaid and other reimbursement; labor and supply cost pressures; revenue and collections estimation; and extensive healthcare regulation and compliance obligations.
- The company reported multiple ongoing government inquiries and legal proceedings, including investigations involving Medicare Advantage diagnosis coding, pharmacy practices, charitable assistance, and laboratory testing. It said legal and regulatory accruals were immaterial, while noting that outcomes and potential losses may be difficult to estimate and could be material.
- In a Granuflo-related case, a jury returned a verdict awarding $8.5 million in compensatory and $375 million in punitive damages. DaVita intended to challenge the verdict and pursue appeals as appropriate; the recorded net liability was described as not material, and insurance or indemnification recovery was uncertain.
- Brazil dialysis goodwill was $54.9 million, with estimated fair value only 9.8% above carrying value at the latest assessment. Adverse reimbursement, growth or valuation changes could trigger impairment.
Important facts for investors to verify
- Whether and when the DMG sale closed, final purchase-price adjustments, use of proceeds, and resulting debt and liquidity levels.
- How calcimimetic reimbursement, Medicare bad-debt estimates and Topic 606 transition effects influence revenue per treatment and period-to-period comparisons.
- Commercial-payor mix, commercial reimbursement rates, treatment growth and patient-care cost trends.
- Progress and financial effects of the pharmacy wind-down, including transition losses and restructuring charges.
- Developments in the disclosed investigations and litigation, particularly the Granuflo verdict and the potential scale of any liabilities or recoveries.
- Debt maturities, floating-rate exposure, share repurchases and the company’s ability to balance capital returns with debt reduction and operating needs.