Encompass Health Corporation — Q3 2023 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2023. Encompass Health operates inpatient rehabilitation hospitals; it reported 159 hospitals across 37 states and Puerto Rico. Its home health and hospice business was spun off in July 2022 and is presented as discontinued operations.
Financial performance
| Metric | Q3 2023 | Q3 2022 | Change |
|---|---|---|---|
| Net operating revenue | $1,206.9 million | $1,089.5 million | +10.8% |
| Income from continuing operations | $114.7 million | $85.5 million | +34.2% |
| Net income attributable to Encompass Health | $85.3 million | $45.4 million | +87.9% |
| Diluted EPS | $0.84 | $0.45 | Higher |
| Adjusted EBITDA | $237.5 million | $195.3 million | Higher |
For the first nine months, revenue was $3,554.4 million (+10.7%), income from continuing operations was $347.4 million (+49.9%), net income attributable to Encompass Health was $264.4 million (+45.6%), and diluted EPS was $2.62 versus $1.81. Adjusted EBITDA was $716.1 million versus $586.6 million. Adjusted EBITDA is a non-GAAP measure.
Q3 operating expenses were 85.1% of revenue, down from 86.4%; salaries and benefits were 54.6% of revenue versus 55.6%. Salaries and benefits rose in dollars but fell as a revenue share, as contract labor and sign-on/shift bonuses declined. General and administrative expense increased 31.4%, principally due to incentive compensation, and rose to 4.1% of revenue from 3.5%.
Q3 discharges increased 7.3%, including 4.3% same-store growth; net patient revenue per discharge rose 3.3%. Occupancy was 72.8% versus 71.4%. Medicare represented 65.2% of Q3 revenue and Medicare Advantage 15.9%.
Cash flow, debt and liquidity
- For the first nine months, cash provided by operating activities from continuing operations was $654.4 million versus $477.6 million. Investing cash use was $394.7 million; financing cash use was $167.3 million. Capital expenditures were approximately $371 million.
- At September 30, cash and cash equivalents were $99.7 million; restricted cash was $41.5 million and restricted marketable securities were $122.0 million. The restricted assets are not equivalent to unrestricted cash for general liquidity purposes.
- Long-term debt, including current maturities, was $2,716.6 million, down from $2,767.0 million at December 31, 2022. The revolving facility had no outstanding balance, with approximately $966 million available. The company reported compliance with its credit agreement covenants.
- Management described liquidity as supported by operating cash flow, cash on hand and revolver availability; it reported no significant debt maturities before 2025. Current debt maturities include $23.9 million.
Changes, outlook and risks
- Management attributed revenue growth mainly to higher patient volumes, new hospitals and reimbursement-rate increases. Lower labor-related costs as a share of revenue supported operating leverage. Interest expense fell year over year, partly reflecting prior-year spin-off-related costs and debt repayment.
- CMS’s FY2024 IRF final rule provides a 3.6% market-basket update less a 0.2% productivity adjustment. The company estimates a net Medicare rate increase of approximately 3.3%, effective October 1, 2023.
- CMS began a five-year Review Choice Demonstration for IRFs in Alabama in August 2023; Encompass selected pre-claim review. Pennsylvania, Texas and California are planned expansion states, with timing not specified. The company said the financial impact was not yet predictable.
- A Supplemental Medical Review Contractor reviewed approximately $21 million of claims from March–December 2020. About 85% of reviewed claims had been approved; approximately $3 million remained under appeal.
- Management cited aging demographics and continued demand as favorable long-term drivers, and expects to spend $590–$620 million on 2023 capital expenditures, including $210–$220 million considered nondiscretionary. This is a capital-spending outlook, not earnings guidance.
- Staffing availability and labor costs, Medicare and other reimbursement changes, audits and claim appeals, regulatory compliance, competition, and execution of hospital development plans remain key risks. The filing reported no material change to the risk factors in the 2022 Form 10-K.
- South Carolina repealed certain certificate-of-need requirements; the change led to $6.1 million of accelerated amortization in the first nine months. The 2022 comparison also includes Enhabit spin-off transaction costs and discontinued operations, limiting comparability of reported net income.
- Legal and regulatory matters include potential audits, recoupments, fines and undisclosed qui tam claims; the filing does not quantify a clear aggregate exposure. Management reported effective disclosure controls and no material quarterly change in internal control over financial reporting.
Important facts for investors to verify
- Whether same-store volume growth and new-hospital openings continue to support revenue and occupancy.
- Actual reimbursement effects of the FY2024 CMS update and any operational or collection impact from the Review Choice Demonstration.
- Progress and outcomes of the approximately $3 million in claims under appeal, and any further audit or repayment exposure.
- Delivery of the $590–$620 million capital-spending plan, its funding, and the expected returns from development projects.
- Debt covenant headroom, unrestricted liquidity, and the balance between capital investment, dividends and debt obligations.