The Ensign Group, Inc. — Q2 2017 Form 10-Q
Reporting period: Three and six months ended June 30, 2017; unaudited. Financial amounts below are in millions of dollars except per-share data and operating statistics. The company provides skilled nursing, assisted and independent living, home health, hospice and ancillary services. At quarter-end it operated 222 facilities and 41 home health, hospice and home care agencies.
Financial performance
| Metric | Q2 2017 | Q2 2016 | Six months 2017 | Six months 2016 |
|---|---|---|---|---|
| Revenue | $448.3 | $410.5 | $890.0 | $793.8 |
| Income from operations | $22.0 | $19.8 | $29.6 | $36.1 |
| Net income attributable to Ensign | $12.2 | $11.3 | $15.1 | $20.5 |
| Diluted EPS | $0.23 | $0.22 | $0.29 | $0.39 |
| Operating margin | 4.9% | 4.8% | 3.3% | 4.5% |
| Net margin attributable to Ensign | 2.7% | 2.7% | 1.7% | 2.5% |
- Q2 revenue grew 9.2%; six-month revenue grew 12.1%. Acquisitions made from January 1, 2016 onward contributed $32.9 million to Q2 revenue growth and $84.9 million to first-half growth.
- Q2 growth spanned transitional and skilled services (+10.2%), assisted and independent living (+7.5%), and home health and hospice (+21.5%). First-half growth in these areas was 14.0%, 7.4% and 21.0%, respectively. The company sold its urgent care centers in 2016, reducing year-over-year “all other” comparisons.
- Despite sales growth, first-half operating income fell 18.1% and attributable net income fell 26.5%. The period included an $11.0 million wage-and-hour class action accrual, higher closure-related costs and increased interest expense. The six-month income tax provision also benefited from share-based-payment tax accounting changes.
- Q2 cost of services increased 11.0%, faster than revenue growth, and increased to 81.9% of revenue from 80.5%. First-half cost of services rose 13.4% and reached 81.2% of revenue from 80.2%. Management cited acquired and start-up operations, labor and health insurance costs. Q2 G&A declined 12.2%; first-half G&A rose 4.0% but declined as a share of revenue.
- Q2 EBITDA, a non-GAAP measure, was $32.6 million versus $29.5 million; adjusted EBITDA was $38.1 million versus $37.5 million. First-half EBITDA was $50.6 million versus $54.0 million, while adjusted EBITDA was $79.2 million versus $75.1 million. Adjusted EBITDAR was $66.7 million for Q2 and $135.4 million for the first half. These measures exclude items and should not substitute for GAAP results.
Cash flow, debt and liquidity
- First-half operating cash flow was $24.9 million, down from $36.8 million. Investing used $48.6 million, including $41.6 million for business acquisitions and $23.0 million for property and equipment; the company also received $38.0 million from a sale-leaseback. Financing used $0.5 million. Cash declined $24.2 million to $33.5 million.
- At June 30, cash was $33.5 million and current assets were $323.8 million versus current liabilities of $204.6 million. The company also held $39.5 million of debt securities classified as held to maturity; this amount is not necessarily all immediately available liquidity.
- Reported long-term debt, net of current maturities and issuance costs, was $284.5 million; gross debt was $293.1 million, including $279.4 million under the credit facility and $13.7 million of mortgages and a promissory note. The credit facility included a $300 million revolver, of which $135 million was drawn, and a $150 million term loan. The company reported compliance with debt covenants.
- Future minimum operating lease payments totaled $1.732 billion. The company leases 166 of its 222 facilities, predominantly under long-term arrangements. It stated that cash, operating cash flow and credit availability should cover operating needs for at least 12 months, and budgeted approximately $55 million for 2017 renovations.
Operating trends and material items
- Skilled nursing occupancy was 74.7% in Q2 versus 75.6% a year earlier; first-half occupancy was 74.8% versus 76.2%. Overall skilled mix by nursing days declined to 30.7% for Q2 and 31.4% for the first half. Management attributed lower portfolio occupancy partly to the addition of recently acquired turnaround facilities, which typically have lower occupancy and skilled mix.
- Assisted and independent living occupancy improved to 77.4% in Q2 and 77.1% for the first half. Home health and hospice growth reflected increased existing-agency volume, census and acquisitions.
- First-half expansion included acquired operations and three newly opened skilled nursing facilities. Subsequent to quarter-end, the company acquired two skilled nursing and three assisted/independent living operations for $22.8 million.
- A second-quarter sale of three properties generated $38.0 million in proceeds. Ensign leased them back under a 20-year triple-net master lease; the $13.2 million gain was deferred and will be amortized over the lease term. The transaction adds long-term rent obligations.
- The company recorded an $11.0 million accrual for a proposed wage-and-hour class action settlement reached in principle, without admission of liability. Final documentation and court approval remained outstanding. It also recorded closure and lease-termination costs, partly offset in Q2 by a $1.3 million recovery relating to a prior closure.
Outlook, risks and contingencies
- No company-wide revenue, earnings or EPS guidance is provided. Management’s stated liquidity view is that available resources should cover operating needs for at least 12 months; this is not a guarantee of future performance.
- Medicare and Medicaid generated 68.2% of revenue in both Q2 and the first half, creating exposure to reimbursement changes, audits, recoupments and government cost-containment. Five operating subsidiaries had Medicare probes scheduled or in process; none was on extended prepayment review or subject to extrapolation at June 30.
- Healthcare regulation, staffing availability and wage pressure, patient-care litigation, self-insurance estimates, acquisition integration and facility occupancy are significant risks. Lease and debt cross-default provisions can amplify facility-level problems. The company reported $37.7 million of accrued general and professional liability claims and $21.6 million of workers’ compensation liabilities.
- CMS developments disclosed in the filing include a proposed 0.4% Medicare payment reduction for home health in calendar 2018, and a 1.0% market-basket update for skilled nursing in fiscal 2018, subject to quality-reporting requirements. Payment changes and implementation of new care, quality and reporting rules could affect reimbursement and costs.
- The company’s five-year corporate integrity agreement, entered into in 2013 following a $48.0 million government settlement, remained in effect. Ensign reported meeting its third-year requirements and passing independent reviews; an uncured material breach could threaten participation in federal healthcare programs.
- The company adopted share-based-payment accounting guidance in 2017, recognizing excess tax benefits in income tax expense; it recorded benefits of $0.7 million for Q2 and $1.2 million for the first half. It anticipated adopting the new revenue standard in 2018 using the modified retrospective method. New lease accounting was expected to significantly increase reported assets and liabilities.
Most important facts for investors to verify
- Whether acquisition-led revenue growth converts into stronger same-facility performance, margins and cash generation, given the first-half decline in operating income and operating cash flow.
- Occupancy, skilled mix and labor/health-insurance cost trends, especially at recently acquired and start-up facilities.
- Final approval and settlement terms for the $11.0 million class action accrual, and any change in other litigation or regulatory exposures.
- Debt-facility availability, covenant headroom, variable-rate interest exposure, and the company’s capacity to fund acquisitions, renovations and dividends alongside $1.732 billion of disclosed lease payments.
- Actual reimbursement effects of Medicare/Medicaid rule changes, audit outcomes, and compliance with the corporate integrity agreement and quality-reporting requirements.