UNIVERSAL HEALTH SERVICES INC quarterly report, Q3 FY2013

Universal Health Services, Inc. — Form 10-Q Summary

Reporting period: Three and nine months ended September 30, 2013; filed November 7, 2013. UHS owns and operates acute care hospitals, behavioral health centers, surgical hospitals, ambulatory surgery centers and radiation oncology centers. At quarter-end, it operated 23 acute care hospitals and 195 behavioral health centers. The October 2012 acquisition of Ascend Health Corporation materially increased behavioral health capacity and revenue.

Financial performance and liquidity

Metric	Q3 2013	Q3 2012	9M 2013	9M 2012
Net revenues	$1.816 billion	$1.680 billion	$5.483 billion	$5.196 billion
Income from operations	$225 million	$169 million	$773 million	$668 million
Operating margin	12.4%	10.0%	14.1%	12.9%
Net income	$123 million	$81 million	$421 million	$341 million
Net income attributable to UHS	$115 million	$72 million	$386 million	$308 million
Diluted EPS	$1.15	$0.73	$3.89	$3.15
Net cash from operating activities	Not separately reported	Not separately reported	$592 million	$535 million

Net revenues before doubtful accounts increased 14.2% in the quarter and 10.1% year to date, but the provision for doubtful accounts increased to $318 million from $189 million in the quarter and to $812 million from $522 million year to date. Net revenues after the provision increased 8.1% in the quarter and 5.5% year to date.

The quarter’s net income attributable to UHS increased 60%, while nine-month net income attributable to UHS increased 25%. The effective tax rate was 36.1% in the quarter and 36.5% year to date, compared with 34.1% and 35.6%, respectively, in the prior-year periods.

Operating segments: Acute care and behavioral health each represented approximately 50% of consolidated net revenues. Same-facility acute care revenue increased 8.6% in Q3 and 4.6% year to date; same-facility behavioral health revenue increased 3.0% in Q3 and 3.0% year to date.
Volumes: Same-facility acute care admissions increased 2.5% in Q3 and 0.9% year to date; adjusted admissions increased 3.6% and 1.3%, respectively. Same-facility behavioral health admissions increased 5.3% in Q3 and 3.6% year to date.
Cash and working capital: Cash and equivalents were $12 million at September 30, 2013, down from $23 million at December 31, 2012. Accounts receivable were $1.167 billion, and days sales outstanding increased to 58 days from 55 days at September 30, 2012.
Capital spending: Nine-month capital expenditures were $280 million, including spending on Temecula Valley Hospital, Austin Oaks Hospital, facility improvements and equipment. The company expected to spend approximately $75 million to $100 million during the remainder of 2013.

Debt and liquidity

Total debt carrying value was approximately $3.50 billion at September 30, 2013, or 53% of total capitalization, compared with 58% at December 31, 2012. Fair value was approximately $3.56 billion.
Long-term debt was $3.412 billion, with $88 million classified as current maturities. The company had no borrowings under its $800 million revolving credit facility and reported $764 million of available capacity, net of short-term borrowings and letters of credit.
The company had $210 million outstanding under its accounts receivable securitization program, with $65 million of additional capacity. On October 25, 2013, the program was amended to extend maturity to October 25, 2016 and reduce the interest rate spread and commitment fee.
UHS remained in compliance with its debt covenants. Scheduled installment payments were approximately $18 million for the remaining three months of 2013 and $72 million in 2014.
Management stated that operating cash flow, cash, available revolver capacity and capital-market access were sufficient for the next twelve months, while noting that future financing may not be available on acceptable terms.

Material changes and unusual items

The October 2012 Ascend acquisition contributed approximately $37 million of Q3 revenue and approximately $92 million of nine-month revenue growth, primarily from nine acquired behavioral health facilities.
Interest expense declined by $13 million in Q3 and $27 million year to date, primarily because of lower average borrowing costs following debt refinancing and amendments.
Q3 2012 included a $29 million pre-tax write-off of deferred financing costs related to extinguishing part of the Term Loan B facility; no comparable charge occurred in 2013.
UHS recorded $27.9 million of electronic health record incentive income in the first nine months of 2013, compared with $12.5 million in the prior-year period. The Q3 2013 net favorable after-tax effect was approximately $5.1 million.
A second-quarter 2013 reserve analysis reduced professional and general liability reserves by $65 million for claims relating to years before 2013. The total professional and general liability accrual was $220 million at September 30, 2013, compared with $279 million at year-end 2012.
UHS recognized an approximately $11 million net benefit from a California Medicaid supplemental payment program, including $8 million relating to prior years. The company also reported favorable Texas Medicaid, DSH and provider-tax program revenues.
UHS received approximately $37 million from divestitures during the first nine months of 2013, including the sale of Peak Behavioral Health Services. The gain was not material to consolidated results, although the sale produced a $3.1 million gain within discontinued operations before tax.

Outlook, risks and contingencies

The filing does not provide a formal earnings or revenue guidance range. Management expected remaining-2013 capital expenditures of $75 million to $100 million and expected available liquidity to fund operations and planned investments for the next twelve months.

Medicare sequestration was expected to reduce Medicare net revenues by approximately $39 million annually beginning April 1, 2013. The estimated overall impact of the federal fiscal 2014 IPPS rule was approximately a 1.0% increase before sequestration, while the potential effect of the Two Midnight rule was uncertain and could be materially unfavorable.
Management estimated aggregate Medicaid rates declined approximately 1%, or $15 million annually, for state fiscal 2013 and expected a further approximately 1%, or $15 million annually, reduction for state fiscal 2014.
Texas and South Carolina Medicaid disproportionate-share payments, state provider taxes, supplemental Medicaid programs and related intergovernmental transfers remain important but are subject to renewal, funding, regulatory and legislative risk. Medicaid DSH payments in Texas and South Carolina could decline approximately 4% in federal fiscal 2014.
Uninsured and self-pay exposure remains significant. The allowance for doubtful accounts was $480 million at September 30, 2013, compared with $311 million at December 31, 2012. Total acute-care uncompensated care at charges was $766 million year to date, versus $840 million in the prior-year period.
Illinois receivables declined to $29 million from $70 million at year-end, but collection remained delayed by state budget pressures. UHS had not reserved these amounts and warned that failure to collect could adversely affect future results and cash flow.
UHS is subject to DOJ, OIG and other governmental investigations involving implantable defibrillators, behavioral health facilities and former Psychiatric Solutions facilities. The company stated that the focus, scope and potential exposure of several investigations remain uncertain and that no excess loss estimate could be made.
Self-insurance, professional liability, workers’ compensation, reimbursement changes, healthcare regulation, labor availability, competition, acquisition integration and high leverage are additional material risks.

Most important facts for investors to verify

Whether the sharp increase in doubtful-account provisions and the 58-day DSO indicate deterioration in payer mix or collections.
The sustainability of earnings growth after excluding the $65 million insurance-reserve reduction, EHR incentives, Medicaid supplemental payments, acquisition contribution and the prior-year $29 million debt-charge comparison.
Acute-care margin pressure: same-facility nine-month pre-tax margin declined to 8.1% from 9.0%, despite higher revenue and volumes.
Future Medicaid DSH, provider-tax, Texas UPL and California supplemental-payment approvals and their effect on revenue.
Potential financial exposure from DOJ/OIG investigations and other healthcare regulatory proceedings.
Debt maturities, floating-rate exposure, required installment payments and continued access to the accounts receivable securitization and revolving credit facilities.
Execution and ramp-up of Temecula Valley Hospital, which opened in October 2013, and integration of the Ascend facilities.