ENHABIT, INC. You should read the following discussion and analysis together with our consolidated financial statements and related notes included under Part I, Item 1, Financial Statements (Unaudited), of this report. Among other things, those historical financial statements include more detailed information regarding the basis of presentation for the financial data included in the following discussion. This discussion contains forward-looking statements about our business, operations and industry that involve risks and uncertainties, as described under the section titled "-Cautionary Note Regarding Forward-Looking Statements" Overview We are a leading national home health and hospice provider working to expand what's possible for patient care in the home. Our team of clinicians supports patients and their families where they are most comfortable, with a nationwide footprint spanning 250 home health locations and 100 hospice locations across 34 states. Our operations are principally managed on a services basis and include two operating segments for financial reporting purposes: (1) home health and (2) hospice. For additional information about our business and reportable segments, see the sections titled "Business" and "Risk Factors" in the Form 10 and Note 9, Segment Reporting, to the accompanying condensed consolidated financial statements, and "-Segment Results of Operations" section of this item.
Results of Operations Overview
Our segment and consolidated Net service revenue is provided in the table below.
Three Months Ended September 30,
2022 % 2021 %
(In Millions, Except Percentage Change)
Home health segment net service revenue $ 216.3 81.4 % $ 221.1 80.7 %
Hospice segment net service revenue 49.4 18.6 % 52.8 19.3 %
Consolidated net service revenue $ 265.7 100.0 % $ 273.9 100.0 %
Nine Months Ended September 30,
2022 % 2021 %
(In Millions, Except Percentage Change)
Home health segment net service revenue $ 661.4 81.9 % $ 673.3 81.1 %
Hospice segment net service revenue 146.6 18.1 % 157.2 18.9 %
Consolidated net service revenue $ 808.0 100.0 % $ 830.5 100.0 %
Our Net service revenue decreased during the three and nine months ended
September 30, 2022 compared to the same periods of 2021 due to the resumption of
sequestration, the continued shift to more non-episodic patients in home health
and lower patient volumes in hospice. See "-Segment Results of Operations"
section of this item for additional information.
Separation from Encompass
Prior toJuly 1, 2022 , the Company operated as a reporting segment of Encompass Health Corporation ("Encompass"). OnJuly 1, 2022 , Encompass completed the previously announced separation of the Company through the distribution of all of the outstanding shares of common stock, par value$0.01 per share, ofEnhabit to the stockholders of record of Encompass (the "Distribution") as of the close of business onJune 24, 2022 (the "Record Date"). The Distribution was effective at12:01 a.m., Eastern Time , onJuly 1, 2022 . The Distribution was structured as a pro rata distribution of one share ofEnhabit common stock for every two shares of Encompass common stock held of record as of the Record Date. No fractional shares were distributed. A cash payment was made in lieu of any fractional shares. As a result of the 19 --------------------------------------------------------------------------------
Distribution,
In connection with the Separation, we entered into several agreements with Encompass that govern the relationship of the parties following the Distribution, including a Separation and Distribution Agreement, a Transition Services Agreement, a Tax Matters Agreement, and an Employee Matters Agreement. See "-Liquidity and Capital Resources" for additional information.
Acquisition and Expansion Activities
OnJanuary 1, 2022 , we acquired a 50% equity interest fromFrontier Home Health and Hospice, LLC in a joint venture withSaint Alphonsus Health System which operates home health and hospice locations inBoise, Idaho . The total purchase price of this acquisition was$15.9 million and was funded onDecember 31, 2021 . We acquired fourCaring Hearts Hospice locations inTexas onOctober 1, 2022 , and we acquired oneUnity Hospice location inArizona onNovember 1, 2022 . The aggregate total purchase price of these acquisitions was approximately$18 million . We have also continued our expansion efforts in 2022 by opening de novo hospice locations inWilliamsburg, Virginia (January 2022 ),Marble Falls, Texas (March 2022 ), andTemple, Texas (May 2022 ).
For additional information about our acquisition-related activities, see Note 2, Business Combinations, to the accompanying condensed consolidated financial statements and Note 2, Business Combinations, to the consolidated financial statements in our Form 10.
Factors Affecting Our Performance
There are a number of factors that have impacted, and we believe will continue to impact, our results of operations and growth. These factors include:
Pricing. Generally, the pricing we receive for our services is based on reimbursement rates from payors. Because we derive a substantial portion of our Net service revenue from the Medicare program, our results of operations are heavily impacted by changes in Medicare reimbursement rates, if any. We are also impacted by changes in reimbursement rates by other payors, in particular Medicare Advantage plans. See "Results of Operations" section of this item for a table identifying the sources and relative payor mix of our revenues. OnOctober 31, 2022 , theCenters for Medicare & Medicaid Services ("CMS") released its notice of final rulemaking for calendar year 2023 for home health agencies under the home health prospective payment system (the "2023 HH Rule"). The 2023 HH Rule will, among other changes, implement a net 4.0% market basket increase (market basket update of 4.1% reduced by 0.1% for a productivity adjustment) and a 5% cap on wage index decreases, update the case-mix weights and fixed-dollar loss ratio for outlier payments, and update the low utilization payment adjustment thresholds. The 2023 HH Rule will also implement a permanent negative behavioral adjustment of 7.85% to the calendar year 2023 base payment rate, which is being phased in at 3.925% for 2023. Based on our preliminary analysis, which utilizes our year-to-date patient mix as ofNovember 4, 2022 , we believe the net aggregate impact of the 2023 HH Rule will result in a net increase to our Medicare payment rates of 0.8% effective for claim dates on or afterJanuary 1, 2023 . A group of lawmakers have introduced a bill, The Preserving Access to Home Health Act, that if enacted would immediately prevent CMS from implementing the proposed permanent and temporary adjustments to the home health base payment rate prior to 2026. This would allow more time for the industry to work with CMS to refine its proposed approach to determining budget neutrality in home health. OnJuly 27, 2022 , CMS released its notice of final rulemaking for calendar year 2023 for hospice agencies under the hospice prospective payment system (the "2023 Hospice Rule"). In addition to other changes, the 2023 Hospice Rule implements a net 3.8% market basket increase (market basket update of 4.1% reduced by 0.3% for a productivity adjustment). The 2023 Hospice Rule also implements a permanent, budget neutral approach to smooth year-to-year changes in the hospice wage index. Based on our preliminary analysis, which utilizes, among other things, our patient mix annualized over a six-month period endedJune 30, 2022 , our specific geographic coverage area, and other factors, we believe the 2023 Hospice Rule will result in a net increase to our Medicare payment rates of approximately 3.9% effective for services provided beginningOctober 1, 2022 . 20 -------------------------------------------------------------------------------- In response to the public health emergency associated with the pandemic,Congress and CMS adopted several statutory and regulatory measures intended to provide relief to healthcare providers in order to ensure patients would continue to have adequate access to care. OnMarch 27, 2020 , formerPresident Trump signed into law the Coronavirus Aid, Relief, and Economic Security Act of 2020 (the "CARES Act"), which suspended sequestration, an automatic 2% reduction of Medicare program payments for all healthcare providers, for the period ofMay 1 through December 31, 2020 . The sequestration suspension was extended a number of times. Sequestration resumed as ofApril 1, 2022 , but was only a 1% payment reduction throughJune 30, 2022 . OnJuly 1, 2022 , the full 2% Medicare payment reduction resumed. During the nine months endedSeptember 30, 2022 , the sequestration suspension provided additional revenues of approximately$7 million . Volume. In addition to pricing, the volume of services we provide has a significant impact on our Net service revenue. Various factors, including competition, the ongoing impact of the pandemic, our ability to recruit and retain qualified personnel in a highly competitive labor market and increasing regulatory and administrative burdens, may impact our ability to maintain and grow our home health and hospice volumes. In any particular market, we may encounter competition from local or national entities with longer operating histories or other competitive advantages. Aggressive payment review practices by Medicare contractors, aggressive enforcement of regulatory policies by government agencies, and restrictive or burdensome rules, regulations, or statutes governing admissions practices may lead us to not accept patients who would be appropriate for and would benefit from the services we provide. In addition, from time to time, we must obtain regulatory approval to expand our services and locations in states with certificate of need laws. This approval may be withheld or take longer than expected. In the case of new-store volume growth, the addition of home health agencies and hospice agencies to our portfolio also may be difficult and take longer than expected. We expectthe United States' aging population will continue to increase long-term demand for the services we provide, which we believe will help us grow our home health and hospice volumes. While we treat patients of all ages, most of our patients are 65 and older, and, due to the increasingly agingUnited States population, the number of Medicare eligibles is expected to continue to grow approximately 3% per year. More specifically, the average age of our home health patients is approximately 77, and the population group ranging in ages from 75 to 79 is expected to grow at a compound annual growth rate of 5% through 2026. We believe the demand for the services we provide will continue to increase as theU.S. population ages. We believe these factors align with our strengths in, and focus on, home-based services. In addition, we believe the growing percentage of seniors experiencing chronic conditions will result in higher utilization of home health services in the future as patients require more care to support these conditions. Efficiency. Cost and operating efficiencies impact the profitability of the patient care services we provide. We use a number of strategies to drive cost and operating efficiencies within our business. We target markets for expansion and growth that allow us to leverage our existing operations to create operating efficiencies through scale and density. We also leverage technology to create operating and supply chain efficiencies throughout our organization. See "Business-Our Competitive Strengths" in the Form 10 for further discussion of the ways we seek to reduce costs while improving patient outcomes. Recruiting and Retaining High-Quality Personnel.. See "Risk Factors" in the Form 10 for a discussion of competition for staffing, shortages of qualified personnel, and other factors that may increase our labor costs. Recruiting and retaining qualified personnel, including management, for our home health and hospice agencies remain a high priority for us. We attempt to maintain a comprehensive compensation and benefits package that allows us to remain competitive in this challenging staffing environment while remaining consistent with our goal of being a high-quality, cost-effective provider of home health and hospice services. Additionally, our operations have been affected and may in the future be affected by staffing shortages, due to shortages of qualified personnel and where employees must self-quarantine due to exposure to COVID-19 or where employees are unavailable due to a lack of childcare or care for elderly family. Our Separation from Encompass. As a result of our separation from Encompass, certain items may impact the comparability of the historical results presented below with our future performance. Specifically, we will incur additional expenses as a result of being an independent, publicly-traded company including public reporting obligations, proxy statements, stockholder meetings, stock exchange fees, transfer agent fees, andSEC andFinancial Industry Regulatory Authority filing fees and offering expenses.Goodwill and Other Intangible Assets. We are required to test our goodwill and indefinite-lived intangible assets for impairment as least annually, absent any triggering events that would accelerate an impairment assessment. Absent any triggering events, we perform this testing as ofOctober 1st of each year. 21 -------------------------------------------------------------------------------- During the three months endedSeptember 30, 2022 , we identified potential impairment triggering events, including the impact of ongoing reimbursement and labor pressures, theFederal Reserve further increasing the risk-free interest rate and a decline in our stock price, and determined a quantitative analysis of our two reporting units should be performed. We estimated the fair value of our reporting units using the income approach and market approach. Based on the results of the quantitative analysis, no adjustments to the carrying value of goodwill for each of the reporting units were necessary during the three months endedSeptember 30, 2022 . As ofSeptember 30, 2022 , the fair value of our home health reporting unit exceeded its carrying value by less than 5%. The home health reporting unit has an allocated goodwill balance of$0.9 billion .The assumptions used in the quantitative analysis incorporate a number of significant estimates and judgments, including the discount rate, revenue and gross margin forecast, timing of acquisitions and de novo openings and long-term growth rate. While management believes the assumptions used are reasonable and commensurate with the views of a market participant, there is also uncertainty in general economic and market conditions. The result of the analysis is sensitive to changes in key assumptions, such as assumed future reimbursement rates, rising interest rates and labor costs and delays in our ability to complete acquisitions and de novo openings, which could negatively impact our forecasted cash flows and result in an impairment charge in future periods.
Results of Operations
Payor Mix
We derived consolidated Net service revenue from the following payor sources:
Three Months Ended Nine Months Ended
September 30, September 30,
2022 2021 2022 2021
Medicare 77.6 % 81.9 % 78.4 % 82.2 %
Medicare Advantage 14.5 % 10.4 % 13.7 % 10.4 %
Managed care 6.4 % 6.2 % 6.6 % 5.8 %
Medicaid 1.4 % 1.4 % 1.2 % 1.4 %
Other 0.1 % 0.1 % 0.1 % 0.2 %
Total 100.0 % 100.0 % 100.0 % 100.0 %
The decline in Medicare reimbursements as a percentage of our Net service
revenue and corresponding increase in Medicare Advantage reimbursements was
primarily driven by continued national enrollment increases in Medicare
Advantage Plans by Medicare beneficiaries in our home health segment. We expect
these trends in enrollment in Medicare Advantage Plans to continue and result in
further decreases in Medicare revenue as a percentage of our Net service revenue
in future periods. For additional discussion of our payor mix by segment, see
"-Segment Results of Operations".
22
--------------------------------------------------------------------------------Our Results
Our consolidated results of operations were as follows:
Three Months Ended Nine Months Ended
September 30, Percentage Change September 30, Percentage Change
2022 2021 2022 vs. 2021 2022 2021 2022 vs. 2021
(In Millions, Except Percentage Change)
Net service revenue $ 265.7 $ 273.9 (3.0) % $ 808.0 $ 830.5 (2.7) %
Cost of service (excluding
depreciation and amortization) 132.3 131.2 0.8 % 392.3 385.4 1.8 %
Gross margin 133.4 142.7 (6.5) % 415.7 445.1 (6.6) %
General and administrative
expenses 107.5 104.2 3.2 % 310.4 309.8 0.2 %
Depreciation and amortization 8.0 9.4 (14.9) % 24.7 27.9 (11.5) %
Operating income 17.9 29.1 (38.5) % 80.6 107.4 (25.0) %
Interest expense and amortization
of debt discounts and fees 6.2 0.1 6100.0 % 6.3 0.2 3050.0 %
Equity in net income of
nonconsolidated affiliates - (0.1) (100.0) % - (0.5) (100.0) %
Other income - - - % - (1.6) (100.0) %
Income before income taxes and
noncontrolling interests 11.7 29.1 (59.8) % 74.3 109.3 (32.0) %
Income tax expense 2.8 7.1 (60.6) % 17.9 26.2 (31.7) %
Net income 8.9 22.0 (59.5) % 56.4 83.1 (32.1) %
Less: Net income attributable to
noncontrolling interests 0.3 0.4 (25.0) % 1.6 1.3 23.1 %
Net income attributable to
Enhabit, Inc. $ 8.6 $ 21.6 (60.2) % $ 54.8 $ 81.8 (33.0) %
The following table sets forth our consolidated results as a percentage of Net
service revenue, except Income tax expense, which is presented as a percentage
of Income before income taxes and noncontrolling interests:
Three Months Ended Nine Months Ended
September 30, September 30,
2022 2021 2022 2021
Cost of service (excluding depreciation and
amortization) 49.8 % 47.9 % 48.6 % 46.4 %
General and administrative expenses 40.5 % 38.0 % 38.4 % 37.3 %
Depreciation and amortization 3.0 % 3.4 % 3.1 % 3.4 %
Income tax expense 23.9 % 24.4 % 24.1 % 24.0 %
Net Service Revenue
Our Net service revenue decreased during the three and nine months ended
September 30, 2022 compared to the same periods of 2021 due to the resumption of
sequestration, the continued shift to more non-episodic patients in home health
and lower volumes in hospice. See additional discussion in the section titled
"-Segment Results of Operations".
Cost of Service (Excluding Depreciation and Amortization)
Cost of service increased in terms of dollars and as a percentage of Net service revenue during the three and nine months endedSeptember 30, 2022 compared to the same periods of 2021 primarily due to higher costs related to labor, and fleet and mileage reimbursement. See additional discussion in "-Segment Results of Operations". 23
--------------------------------------------------------------------------------
General and Administrative Expenses
General and administrative expenses increased during the three and nine months endedSeptember 30, 2022 compared to the same periods of 2021 primarily due to incremental costs associated with being a stand-alone company. As a percentage of revenue, our General and administrative expenses increased primarily due to the decrease in revenue discussed above. Our General and administrative expenses are expected to increase in the future as an independent, publicly-traded company.
Other Income
Other income for the nine months ended
Interest Expense and Amortization of Debt Discount and Fees
Interest expense and amortization of debt discount and fees increased for the three and nine months endedSeptember 30, 2022 compared to the same periods of 2021 primarily due to interest expense related to borrowings under our new Credit Facilities. See additional discussion in "-Liquidity and Capital Resources".
Income Tax Expense
Our Income tax expense decreased during the three and nine months endedSeptember 30, 2022 compared to the same period of 2021 primarily due to lower Income before income taxes and noncontrolling interests. We currently estimate our cash payments for income taxes to be approximately$11 million to$13 million , net of refunds, for 2022. These payments are expected to primarily result from federal and state income tax expenses based on estimates of taxable income for 2022. See also Note 7, Income Taxes, to the accompanying condensed consolidated financial statements.
Relationships and Transactions with Related Parties
We are party to a client service and license agreement with a third party for which our former chief executive officer serves as executive chairman. For a description of these transactions as well as a description of our relationships and transactions with Encompass following the Separation, see Note 10, Related Party Transactions, to the accompanying condensed consolidated financial statements for additional information.
Segment Results of Operations
Our internal financial reporting and management structure is focused on the major types of services we provide. We manage our business using two operating segments which are also our reportable segments: (1) home health and (2) hospice. For additional information regarding our business segments, including a detailed description of the services we provide, financial data for each segment, and a reconciliation of total Segment Adjusted EBITDA to Income before income taxes and noncontrolling interests, see Note 9, Segment Reporting, to the accompanying condensed consolidated financial statements and Note 14, Segment Reporting, to the consolidated financial statements included in the Form 10.
Our home health segment derived its Net service revenue from the following payor
sources:
Three Months Ended Nine Months Ended
September 30, September 30,
2022 2021 2022 2021
Medicare 73.6 % 78.2 % 74.5 % 78.6 %
Medicare Advantage 17.8 % 12.9 % 16.7 % 12.8 %
Managed care 7.0 % 7.3 % 7.4 % 6.8 %
Medicaid 1.5 % 1.5 % 1.4 % 1.6 %
Other 0.1 % 0.1 % - % 0.2 %
Total 100.0 % 100.0 % 100.0 % 100.0 %
24
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Additional information regarding our home health segment's operating results is
as follows:
Three Months Ended Nine Months Ended
September 30, Percentage Change September 30, Percentage Change
2022 2021 2022 vs. 2021 2022 2021 2022 vs. 2021
(In Millions, Except Percentage Change)
Net service revenue:
Episodic $ 181.8 $ 192.6 (5.6) % $ 559.8 $ 588.1 (4.8) %
Non-episodic 31.5 25.2 25.0 % 93.1 74.6 24.8 %
Other 3.0 3.3 (9.1) % 8.5 10.6 (19.8) %
Home health segment revenue 216.3 221.1 (2.2) % 661.4 673.3 (1.8) %
Cost of service (excluding
depreciation and amortization) 109.6 107.6 1.9 % 326.4 317.2 2.9 %
Gross margin 106.7 113.5 (6.0) % 335.0 356.1 (5.9) %
General and administrative expenses 61.9 62.0 (0.2) % 178.4 186.4 (4.3) %
Other income - - - % - (1.6) (100.0) %
Equity earnings and noncontrolling
interests 0.2 0.3 (33.3) % 1.3 0.8 62.5 %
Home health segment Adjusted EBITDA $ 44.6 $ 51.2 (12.9) % $ 155.3 $ 170.5 (8.9) %
(Actual Amounts)
Episodic:
Admissions 35,487 37,577 (5.6) % 110,564 117,449 (5.9) %
Recertifications 25,821 27,742 (6.9) % 77,622 84,121 (7.7) %
Completed episodes 60,396 66,065 (8.6) % 186,198 200,339 (7.1) %
Visits 902,720 993,110 (9.1) % 2,802,319 3,098,471 (9.6) %
Revenue per episode $ 3,009 $ 2,916 3.2 % $ 3,006 $ 2,936 2.4 %
Non-Episodic:
Admissions 14,252 10,835 31.5 % 41,883 32,360 29.4 %
Recertifications 6,541 5,200 25.8 % 18,967 14,517 30.7 %
Visits 272,282 220,260 23.6 % 818,214 651,322 25.6 %
Revenue per visit $ 116 $ 114 1.8 % $ 114 $ 115 (0.9) %
Total:
Admissions 49,739 48,412 2.7 % 152,447 149,809 1.8 %
Recertifications 32,362 32,942 (1.8) % 96,589 98,638 (2.1) %
Starts of care (total admissions
and recertifications) 82,101 81,354 0.9 % 249,036 248,447 0.2 %
Visits 1,175,002 1,213,370 (3.2) % 3,620,533 3,749,793 (3.4) %
Cost per visit $ 92 $ 87 5.7 % $ 89 $ 83 7.2 %
Expenses as a % of Net Service Revenue
Three Months Ended Nine Months Ended
September 30, September 30,
2022 2021 2022 2021
Cost of service (excluding depreciation and 50.7 % 48.7 % 49.3 % 47.1 %
amortization)
General and administrative expenses 28.6 % 28.0 % 27.0 % 27.7 %
25
--------------------------------------------------------------------------------Net Service Revenue
The decrease in home health Net service revenue during the three and nine months endedSeptember 30, 2022 compared to the same periods of 2021 was primarily due to the resumption of sequestration and the continued shift to more non-episodic patients. Total admissions increased during the three months endedSeptember 30, 2022 compared to the same period of 2021 primarily due to growth in non-episodic admissions. Revenue per episode increased during the three months endedSeptember 30, 2022 compared to the same periods of 2021 primarily due to an increase in Medicare reimbursement rates, the timing of completed episodes and patient mix under the Patient Driven Groupings Model offset by the resumption of sequestration. Revenue per episode increased during the nine months endedSeptember 30, 2022 compared to the same periods of 2021 primarily due to an increase in Medicare reimbursement rates and patient mix under the Patient Driven Groupings Model offset by the resumption of sequestration.
Segment Adjusted EBITDA
The decrease in home health Segment Adjusted EBITDA during the three and nine months endedSeptember 30, 2022 compared to the same periods of 2021primarily resulted from lower revenue as discussed above and higher Cost of service. Cost of service increased for the three and nine months endedSeptember 30, 2022 compared to the same periods of 2021 primarily due to higher costs related to labor,fleet and mileage reimbursement and workers' compensation.
Hospice
Our hospice segment derived its Net service revenue from the following payor
sources:
Three Months Ended Nine Months Ended
September 30, September 30,
2022 2021 2022 2021
Medicare 95.7 % 97.7 % 96.5 % 98.0 %
Managed care 3.5 % 1.7 % 2.9 % 1.4 %
Medicaid 0.8 % 0.6 % 0.6 % 0.6 %
Total 100.0 % 100.0 % 100.0 % 100.0 %
Additional information regarding our hospice segment's operating results is as
follows:
Three Months Ended Percentage Change Nine Months Ended Percentage Change
September 30, September 30,
2022 2021 2022 vs. 2021 2022 2021 2022 vs. 2021
(In Millions, Except Percentage Change)
Hospice segment revenue $ 49.4 $ 52.8 (6.4) % $ 146.6 $ 157.2 (6.7) %
Cost of service (excluding
depreciation and amortization) 22.7 23.6 (3.8) % 65.8 68.2 (3.5) %
Gross margin 26.7 29.2 (8.6) % 80.8 89.0 (9.2) %
General and administrative
expenses 17.3 16.1 7.5 % 47.7 47.9 (0.4) %
Equity earnings and
noncontrolling interests 0.1 - N/A 0.3 - N/A
Hospice Segment Adjusted EBITDA $ 9.3 $ 13.1 (29.0) % $ 32.8 $ 41.1 (20.2) %
(Actual Amounts)
Total:
Admissions 2,982 3,262 (8.6) % 9,063 9,890 (8.4) %
Patient days 320,732 352,691 (9.1) % 954,284 1,038,969 (8.2) %
Average daily census 3,486 3,834 (9.1) % 3,496 3,806 (8.1) %
Revenue per patient day $ 154 $ 150 2.7 % $ 154 $ 151 2.0 %
Cost per patient day $ 71 $ 67 6.0 % $ 69 $ 66 4.5 %
26--------------------------------------------------------------------------------
Expenses as a % of Net Service Revenue
Three Months Ended Nine Months Ended
September 30, September 30,
2022 2021 2022 2021
Cost of service (excluding depreciation and 46.0 % 44.7 % 44.9 % 43.4 %
amortization)
General and administrative expenses 35.0 % 30.5 % 32.5 % 30.5 % Net Service Revenue The decrease in hospice Net service revenue during the three and nine months endedSeptember 30, 2022 compared to the same periods of 2021 was primarily due to lower volumes and the resumption of sequestration. Admissions decreased during the three and nine months endedSeptember 30, 2022 compared to the same periods of 2021 primarily due to capacity constraints and staffing challenges leading to a decline in referrals early in the year.
Segment Adjusted EBITDA
The decrease in hospice Segment Adjusted EBITDA during the three and nine months endedSeptember 30, 2022 compared to the same periods of 2021 was primarily due to lower revenue and higher cost of service related to labor (including increased use of contract labor), fleet, and mileage reimbursement.
Liquidity and Capital Resources
Our ability to fund our operations and capital needs depends upon our ability to generate operating cash flow and to access the capital markets. Our principal uses of cash are to fund our operations, working capital needs, repayment of borrowings, strategic business development transactions, and capital expenditures. InJune 2022 , the Company entered into a credit agreement (the "Credit Agreement") that consists of a$400 million term loan A facility (the "Term Loan A Facility") and a$350 million revolving credit facility (the "Revolving Credit Facility" and together with the Term Loan A Facility, the "Credit Facilities"). The Credit Facilities mature five years from the closing date thereof. Interest on the loans under the Credit Facilities is calculated by reference to the Secured Overnight Financing Rate ("SOFR") or an alternative base rate, plus an applicable interest rate margin.Enhabit may voluntarily prepay outstanding loans under the Credit Facilities at any time without premium or penalty, other than customary breakage costs with respect to SOFR loans. The Term Loan A Facility contains customary mandatory prepayments, including with respect to proceeds from asset sales and from certain incurrences of indebtedness. The Term Loan A Facility amortizes by an amount per annum equal to 5.0% of the outstanding principal amount thereon as of the closing date, payable in equal quarterly installments, with the balance being payable on the date that is five years after the closing of the Term Loan A Facility. The Revolving Credit Facility provides the ability to borrow and obtain letters of credit, which will be subject to a$75 million sublimit in amounts available to be drawn at any time prior to the date that is five years after the closing of the Revolving Credit Facility. The obligations under the Credit Facilities will be guaranteed by our existing and future wholly-owned domestic material subsidiaries, subject to certain exceptions. Borrowings under the Credit Facilities will be secured by first priority liens on substantially all the assets ofEnhabit and the guarantors, subject to certain exceptions. The Credit Facilities contain representations and warranties, affirmative and negative covenants and events of default customary for secured financings of this type, including limitations with respect to liens, fundamental changes, indebtedness, restricted payments, investments and affiliate transactions, in each case, subject to a number of important exceptions and qualifications. In addition, the Credit Facilities will obligate us to maintain certain total maximum total net leverage ratios and a minimum interest coverage ratio.
On
27
--------------------------------------------------------------------------------had an interest rate of 4.9%. For additional information on the Separation, see Note 1, Summary of Significant Accounting Policies, to the accompanying condensed consolidated financial statements.
For additional information regarding our debt and interest rate swap, see Note 5, Long-term Debt, to the accompanying condensed consolidated financial statements and Item 3, Quantitative and Qualitative Disclosures about Market Risk. Current Liquidity
Our liquidity needs include working capital requirements, funding capital expenditures, including acquisitions, and servicing our debt.
As ofSeptember 30, 2022 andDecember 31, 2021 , we had$44.1 million and$5.4 million , respectively, in Cash and cash equivalents. These amounts exclude$3.8 million and$2.6 million , respectively, in Restricted cash. Our Restricted cash pertains primarily to a joint venture in which we participate where our external partner requested, and we agreed, that the joint venture's cash not be commingled with other corporate cash accounts. See Note 1, Summary of Significant Accounting Policies-Cash and Cash Equivalents and Restricted Cash, to the consolidated financial statements included in the Form 10. In addition to Cash and cash equivalents as ofSeptember 30, 2022 , we had approximately$180 million available to us under the Revolving Credit Facility. The Credit Agreement governs our senior secured borrowing capacity and contains a leverage ratio and an interest coverage ratio as financial covenants. Our leverage ratio is defined in the Credit Agreement as the ratio of consolidated total debt (less up to$200 million of cash on hand) to Adjusted EBITDA for the trailing four quarters. In calculating the leverage ratio under the Credit Agreement, we are permitted to use pro forma Adjusted EBITDA, the calculation of which includes historical income statement items and pro forma adjustments resulting from (1) the dispositions and repayments or incurrence of debt and (2) the investments, acquisitions, mergers, amalgamations, consolidations and operational changes from acquisitions to the extent such items or effects are not yet reflected in our trailing four-quarter financial statements. Our interest coverage ratio is defined in the Credit Agreement as the ratio of Adjusted EBITDA to cash interest paid or required to be paid for the trailing four quarters. Sources and Uses of Cash The following table shows the cash flows provided by or used in operating, investing, and financing activities for the nine months endedSeptember 30, 2022 and 2021 (in millions): Nine Months Ended September 30, 2022 2021 Net cash provided by operating activities$ 76.0 $ 100.2 Net cash used in investing activities (4.1) (99.7) Net cash used in financing activities (32.0) (9.1)
Increase (decrease) in cash, cash equivalents, and restricted
$ (8.6)
cash
Operating activities. The decrease in Net cash provided by operating activities
during the nine months ended
Investing activities. The decrease in Net cash used in investing activities
during the nine months ended
Financing activities. The increase in Net cash used in financing activities
during the nine months ended
28
--------------------------------------------------------------------------------Contractual Obligations
Our consolidated contractual obligations as ofSeptember 30, 2022 are as follows (in millions): Total Current Long-term
Long-term debt obligations: Long-term debt, excluding revolving credit facility and finance lease obligations(a)
$ 392.9 $ 20.0 $ 372.9 Revolving credit facility 170.0 - 170.0 Interest on long-term debt (b) 122.8 27.7 95.1 Finance lease obligations(c) 5.9 3.3 2.6 Operating lease obligations(d) 44.9 13.9 31.0 Purchase obligations(e) 6.4 5.7 0.7 Total$ 742.9 $ 70.6 $ 672.3 (a)Included in long-term debt are amounts owed on other notes payable. These borrowings are further explained in Note 5, Long-term Debt, accompanying the condensed consolidated financial statements. (b)Interest expense on our variable rate debt is estimated using the rate in effect as ofSeptember 30, 2022 . Interest related to finance lease obligations is excluded from this line. Amounts exclude amortization of debt discounts, amortization of loan fees that would be included in interest expense in our condensed consolidated statements of operations.
(c)We lease automobiles for our clinicians under finance leases. Amounts include interest portion of future minimum finance lease payments.
(d)Our home health and hospice segments lease: (1) relatively small office spaces in the localities they serve, (2) space for their corporate office, and (3) equipment in the normal course of business. Amounts include interest portion of future minimum operating lease payments. For more information, see Note 6, Leases, to the consolidated financial statements included in the Form 10. (e)Purchase obligations include agreements to purchase goods or services that are enforceable and legally binding and that specify all significant terms, including: fixed or minimum quantities to be purchased; fixed, minimum, or variable price provisions; and the approximate timing of the transaction. Purchase obligations exclude agreements that are cancelable without penalty. Our purchase obligations primarily relate to software licensing and support. Purchase obligations are not recognized in our consolidated balance sheet. Our capital expenditures include costs associated with capital projects, technology initiatives, and equipment upgrades and purchases. During the nine months endedSeptember 30, 2022 , we made capital expenditures of$5.8 million for property and equipment and capitalized software. During 2022, we expect to spend approximately$5 million to$8 million for capital expenditures and$50 million to$100 million for acquisitions. Actual amounts spent will be dependent upon the timing of projects and acquisition opportunities.
Adjusted EBITDA
Management believes Adjusted EBITDA, a non-GAAP measure, as defined in the
Credit Agreement is a measure of our ability to service our debt and our ability
to make capital expenditures. We reconcile Adjusted EBITDA to Net income and to
Net cash provided by operating activities.
We use Adjusted EBITDA on a consolidated basis as a liquidity measure. We
believe this financial measure on a consolidated basis is important in analyzing
our liquidity because it is the key component of certain material covenants
contained within the Credit Agreement, which is discussed in more detail in Note
5, Long-term Debt, to the accompanying condensed consolidated financial
statements. These covenants are material terms of the Credit Agreement.
Noncompliance with these financial covenants under the Credit Agreement-its
interest coverage ratio and its leverage ratio-could result in our lenders
requiring us to immediately repay all amounts borrowed. If we anticipated a
potential covenant violation, we would seek relief from our lenders, which would
have some cost to us, and such relief might be on terms less favorable to those
in our existing Credit Agreement. In addition, if we cannot satisfy these
financial covenants, we would be prohibited under the Credit Agreement from
engaging in certain activities, such as incurring additional indebtedness,
paying common
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--------------------------------------------------------------------------------stock dividends, making certain payments, and acquiring and disposing of assets. Consequently, Adjusted EBITDA is critical to our assessment of our liquidity.
In general terms, the Credit Agreement definition of Adjusted EBITDA, therein referred to as "Adjusted Consolidated EBITDA," allows us to add back to consolidated net income interest expense, income taxes, and depreciation and amortization and then add back to consolidated net income (1) share-based compensation expense and (2) any "run rate" cost savings, operating expense reductions and synergies related to any acquisitions, dispositions and other specified transactions, restructurings, cost savings initiatives and other initiatives that are reasonably quantifiable not in excess of 25% of Adjusted Consolidated EBITDA. We also subtract from consolidated net income all unusual or nonrecurring items to the extent they increase consolidated net income. Adjusted EBITDA is not a measure of financial performance under GAAP, and the items excluded from Adjusted EBITDA are significant components in understanding and assessing financial performance. Therefore, Adjusted EBITDA should not be considered a substitute for net income or cash flows from operating, investing, or financing activities. Because Adjusted EBITDA is not a measurement determined in accordance with GAAP and is thus susceptible to varying calculations, Adjusted EBITDA, as presented, may not be comparable to other similarly titled measures of other companies. Revenues and expenses are measured in accordance with the policies and procedures described in Note 1, Summary of Significant Accounting Policies, to the consolidated financial statements accompanying the Form 10.
Our Adjusted EBITDA was as follows (in millions):
Reconciliation of Net income to Adjusted EBITDA
Three Months Ended Nine Months Ended
September 30, September 30,
2022 2021 2022 2021
Net income $ 8.9 $ 22.0 $ 56.4 $ 83.1
Income tax expense 2.8 7.1 17.9 26.2
Interest expense and amortization of debt 6.2 0.1 6.3 0.2
discounts and fees
Depreciation and amortization 8.0 9.4 24.7 27.9
Loss (gain) on disposal of assets 0.7 (0.1) 0.1 (0.4)
Stock-based compensation 4.5 0.3 7.1 2.1
Stock-based compensation included in - 0.5 1.1 1.6
overhead allocation
Net income attributable to noncontrolling (0.3) (0.4) (1.6) (1.3)
interest
Transaction costs 0.9 4.1 7.0 8.8
Adjusted EBITDA $ 31.7 $ 43.0 $ 119.0 $ 148.2
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