National HealthCare Corporation (NHC) — FY 2017 Form 10-K
Business context and reporting period
Fiscal year ended December 31, 2017; the filing also reports unaudited fourth-quarter results. NHC operates or manages skilled nursing, assisted and independent living, and homecare services across 10 states. At year-end it operated or managed 76 skilled nursing facilities, 24 assisted living facilities, five independent living facilities, and 36 homecare programs. It also owns a 75.1% noncontrolling interest in hospice provider Caris, provides services to third-party operators, and leases 13 owned healthcare properties to others.
Financial performance and liquidity
- Revenue: Net operating revenue was $967.0 million, up 4.4% from $926.6 million. Net patient revenue was $919.8 million; other revenue was $47.2 million.
- Earnings: Income before non-operating income was $54.1 million, down from $60.5 million. Pretax income was $74.5 million versus $80.2 million. Net income attributable to NHC was $56.2 million and diluted EPS was $3.69, compared with $50.5 million and $3.32 in 2016.
- Margins: Costs and expenses rose 5.4% to $912.9 million, faster than revenue. Income before non-operating income was 5.6% of revenue versus 6.6% in 2016; pretax margin was 7.7% versus 8.7%.
- Cash flow: Operating cash flow was $94.5 million, up from $90.9 million. Capital expenditures were $32.3 million, compared with $62.6 million in 2016. Cash, cash equivalents, and restricted cash totaled $67.4 million at year-end.
- Liquidity: Current assets were $329.3 million and current liabilities $155.1 million. NHC reported $59.1 million of cash and $139.1 million of marketable securities; management said these resources, operating cash flows, and available credit were expected to cover near-term needs.
- Debt: Long-term debt was $100.0 million: $90.0 million outstanding on a $175 million variable-rate credit facility and a $10.0 million note due in 2028. The credit facility matures in October 2020, leaving $85.0 million available at year-end. A 1% rate change would alter annual interest cost by about $1.0 million, based on outstanding debt.
- Other measures: Accrued risk reserves were $93.3 million, up from $91.2 million. Common dividends declared were $1.89 per share, up from $1.75.
Material changes versus 2016
- Revenue growth reflected new facilities, higher skilled nursing census, and increased per diem rates. Owned and leased SNF occupancy improved to 90.2% from 89.5%; average SNF per diem rose 2.6%.
- Expenses outpaced revenue. Salaries and benefits rose 4.4%, while other operating expenses rose 8.2%, partly due to new facilities and higher self-insurance costs. Depreciation increased 9.3%; interest expense increased 24.1%.
- The number of professional liability claims in which NHC or managed facilities were defendants rose to 60 from 43. Management attributed $6.4 million of the year-over-year increase in other operating expenses to unfavorable self-insurance reserve results.
- Reported 2017 earnings included an $8.5 million tax benefit from remeasuring deferred taxes after U.S. tax reform. Excluding that benefit, NHC-attributable income was $47.7 million and diluted EPS was $3.14. Management further stated that excluding the tax benefit and operating losses at five newly constructed facilities, attributable income would have been $51.5 million, versus $52.9 million in 2016.
- Operating cash flow increased, while investing cash use fell substantially, mainly as property and equipment additions declined. NHC paid down $20 million of credit-facility principal during the fourth quarter.
Outlook, commentary, risks, and unusual items
- Management expected the Tax Act to benefit 2018 net income, EPS, and operating cash flow; its preliminary estimate for the 2018 effective tax rate was 22%–26%. The 2017 reported rate was 25.3%, versus 36.7% excluding the tax reform benefit.
- Management planned continued development and evaluation of expansion opportunities. Two projects under construction at year-end were expected to open in 2018: a 30-bed SNF addition in Springfield, Missouri, and a 60-bed memory-care addition in Farragut, Tennessee.
- Government payment changes are mixed: the 2018 SNF Medicare update was approximately 1.0%; the home health Medicare rule was estimated to reduce payments 0.4%. Tennessee and South Carolina Medicaid changes were expected to increase revenue, while a Missouri rate reduction was expected to decrease it.
- Key risks include reliance on Medicare, Medicaid, and other payors; reimbursement cuts and audits; labor shortages and wage inflation; regulatory compliance; occupancy and competition; self-insured liability and workers’ compensation exposures; variable-rate debt; and investment-market risk. NHC’s equity investment portfolio was heavily concentrated in National Health Investors (NHI): approximately $122.9 million, or 88% of equity securities.
- Litigation and investigations remain material uncertainties. NHC is cooperating with a DOJ/OIG investigation into rehabilitation therapy billing and medical necessity. Caris faces a U.S. False Claims Act case concerning hospice patient eligibility and alleged overpayments; NHC could not estimate the outcome or potential liability, and trial was scheduled for March 2019.
- The new $25 million share repurchase authorization was in effect through August 31, 2018; no repurchases had been made under it as of the filing. Management cautioned that future dividends are not assured.
- Auditors issued unqualified opinions on the financial statements and internal control over financial reporting; management also concluded controls were effective. NHC anticipated that the new lease accounting standard would materially increase reported assets and liabilities.
Most important facts for investors to verify
- How much of earnings growth reflects the one-time $8.5 million tax benefit, and how facility start-up losses affect comparisons.
- Trends in operating margins, labor costs, SNF occupancy, and reimbursement rates by payor and state.
- Developments, potential financial exposure, and reserve adequacy related to the Caris litigation, DOJ/OIG investigation, and 60 liability claims.
- Liquidity and investment concentration, including the value and marketability of NHI shares and availability under the variable-rate credit facility.
- Execution, opening dates, and ramp-up economics for construction projects, alongside lease commitments and future capital needs.