Encompass Health Corp. (filed as HealthSouth Corporation) — FY 2011 Form 10-K
Reporting period: Year ended December 31, 2011. This is an annual filing, not a standalone fourth-quarter report; fourth-quarter figures are noted below. The company’s core business was inpatient rehabilitation, operating 99 hospitals, 26 outpatient satellite clinics and 25 hospital-based home health agencies. Medicare represented 72.0% of annual revenue.
Financial and operating performance
| Metric | FY 2011 | FY 2010 | Change / context |
|---|---|---|---|
| Net operating revenue | $2,026.9 million | $1,877.6 million | Up 8.0% |
| Operating earnings (company-defined) | $351.4 million | $295.9 million | Up 18.8%; operating expenses were 80.9% of revenue versus 82.6% |
| Adjusted EBITDA (non-GAAP) | $466.2 million | $409.6 million | Up 13.8% |
| Income from continuing operations | $205.8 million | $930.7 million | 2010 included a large tax benefit |
| Net income attributable to HealthSouth | $208.7 million | $899.0 million | 2011 includes discontinued-operation gains |
| Net income attributable to common shareholders | $182.7 million | $873.0 million | Basic and diluted EPS: $1.96 and $1.96, versus $9.41 and $8.28 |
| Cash from operating activities | $342.7 million | $331.0 million | Up from 2010; below 2009’s $406.1 million |
| Capital expenditures and capitalized software | $109.1 million | — | Company expects $145–$180 million in 2012, excluding acquisitions |
- Fourth-quarter 2011 revenue was $518.1 million, operating earnings were $92.1 million, continuing-operations income was $67.5 million, and net income attributable to HealthSouth was $50.0 million. Quarterly common EPS was $0.47 basic and $0.46 diluted.
- Annual inpatient discharges rose 5.2% to 118,354; same-store discharges increased 3.3%. Net inpatient revenue per discharge increased 3.0%. Occupancy was 67.7%, versus 67.0% in 2010.
- At December 31, 2011, working capital was $77.8 million, cash and cash equivalents were $30.1 million, and approximately $345 million was available under the revolving credit facility. Restricted cash and marketable securities were not freely available for general use.
- Reported long-term debt, including current maturities and capital leases, was $1,254.7 million, down from $1,511.3 million. The company retired all 10.75% senior notes due 2016 and reported $110 million drawn on its revolver and a $97.5 million term-loan balance. It was in compliance with its credit agreement covenants at year-end.
Material changes versus the prior comparable period
- Revenue growth reflected increased discharges and higher revenue per discharge, including pricing and patient-acuity/payor-mix effects. Medicare’s share of revenue rose to 72.0% from 70.5%; managed care and discount-plan share fell to 19.8% from 21.3%.
- Operating earnings improved with volume growth and expense discipline. Salaries and benefits increased in dollars but declined to 48.4% of revenue from 49.1%.
- Common-shareholder net income fell sharply from 2010’s unusually high level, principally because 2010 included a $740.8 million income-tax benefit, including an $825.4 million valuation-allowance reduction. The 2011 tax provision was $37.1 million.
- Debt declined by approximately $257 million during 2011. The company issued additional 7.25% notes due 2018 and 7.75% notes due 2022, amended its credit agreement, and redeemed the higher-coupon 10.75% notes. It recorded a $38.8 million loss on early debt extinguishment.
- HealthSouth sold five of its six long-term acute care hospitals and closed the remaining facility. The sale generated a $65.6 million pretax gain; discontinued operations also included a $24.8 million gain from the Delaware unclaimed-property settlement. Total income from discontinued operations was $48.8 million after tax.
Outlook, risks, contingencies and unusual items
- Management planned to prioritize quality, cost efficiency, organic growth and hospital development in 2012, and to begin company-wide implementation of a rehabilitation-specific electronic clinical information system. The filing provides no numeric 2012 revenue or earnings guidance.
- Management estimated the scheduled 2% Medicare sequestration reduction could reduce annual revenue by approximately $32 million beginning in 2013. It also estimated that a 27% outpatient physician-fee-schedule reduction, if implemented, could reduce annual revenue by approximately $8 million before mitigation. The filing describes these outcomes as uncertain.
- The FY 2012 inpatient rehabilitation payment rule was estimated to produce a net Medicare rate increase of approximately 1.6% beginning October 1, 2011. Future reimbursement updates, productivity adjustments, audits and healthcare reform remain material uncertainties.
- Other key risks include staffing shortages and wage growth, compliance and medical-necessity audits, litigation, self-insurance reserve estimates, and successful implementation and cost of the new clinical information system. Medicare audit activity included a limited number of 2011 RAC requests, with a net underpayment determination of less than $1,000 to date; the company also disclosed an HHS-OIG subpoena concerning the Houston LTCH.
- Material legal matters include ongoing arbitration involving former auditor Ernst & Young, a $12.3 million jury verdict under appeal (with a $7.7 million expected insurance recovery), and other litigation for which outcomes or losses may be uncertain. The company reported a $2.9 billion judgment against former CEO Richard Scrushy and recorded a $12.3 million net recovery gain in 2011; collection efforts continue.
- The board authorized up to $125 million in common-stock repurchases, but no shares were repurchased in 2011. The company had never paid common dividends and was considering, but had no current plan to declare, a dividend. Preferred-stock dividends were $26 million in 2011.
- Management and the auditor reported effective disclosure controls and internal control over financial reporting as of year-end. The filing’s financial statements received an unqualified audit opinion.
Important facts for investors to verify
- Track Medicare reimbursement policy, sequestration and outpatient fee-schedule changes against the company’s estimates and mitigation plans.
- Reconcile reported earnings with the effects of the 2010 tax valuation-allowance release, the 2011 debt-extinguishment loss, asset-sale gains and settlements; assess underlying operating cash generation.
- Review debt maturities, revolver availability, covenant headroom, capital-lease obligations and planned 2012 capital spending.
- Monitor Medicare denials and audit outcomes, the Houston LTCH investigation, litigation appeals and collection of the Scrushy judgment.
- Assess execution costs and operational disruption from the electronic clinical system rollout, as well as staffing costs and volume growth.