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(Exact name of registrant as specified in its charter)
iDelaware
i27-2170749
(State
or other jurisdiction of incorporation or organization)
(IRS Employer Identification Number)
i500 Cummings Center
iBeverly,
iMassachusetts
i01915
(Address
of principal executive offices)
(Zip code)
(i978) i922-3080
(Registrant’s telephone number, including area code)
(Former
Name, Former Address and Former Fiscal Year, if Changed Since Last Report) N/A
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Trading Symbol(s)
Name of each exchange on which registered
iCommon
Stock, $0.01 par value
iARA
iNew York Stock Exchange
Indicate by check mark whether the registrant: (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. iYes☒ No ☐
Indicate by check mark whether the registrant
has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). iYes☒ No ☐
Indicate by check mark whether the registrant
is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,”“accelerated filer,”“smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer
☐
iAccelerated
filer
☒
Non-accelerated filer
☐
Smaller reporting company
i☒
Emerging growth company
i☒
If
an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. i☒
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange
Act).Yes i☐ No ☒
American
Renal Associates Holdings, Inc. (“ARA”) conducts its business exclusively through its indirect wholly owned subsidiary, American Renal Holdings, Inc. (“ARH”), and its operating subsidiaries. Unless the context requires otherwise, references in this report to “our,”“us,”“we,”“its,”“our company” and similar terms refer to ARA and its consolidated entities, including ARH, taken together as a whole, except where these terms refer to providers of dialysis services, in which case they refer to our dialysis clinic joint ventures, in which we have controlling interests and our nephrologist partners have the noncontrolling interests, or to the dialysis facilities owned by such joint venture companies, as applicable. References to “ARA” are
to American Renal Associates Holdings, Inc. and not any of its consolidated entities.
FORWARD-LOOKING STATEMENTS
This Quarterly Report on Form 10-Q (“Form 10-Q”) contains statements reflecting our views about our future performance that constitute “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are generally identified through the inclusion of words such as “anticipate,”“believe,”“contemplate,”“estimate,”“expect,”“forecast,”“intend,”“may,”“objective,”“outlook,”“plan,”“potential,”“project,”“seek,”“should,”“strategy,”“target” or “will” or variations of such words or similar expressions. All statements addressing our future operating performance, and statements addressing events and developments that we expect or anticipate will occur in the future, including those that relate to that Agreement and Plan of Merger (the “Merger Agreement”) by and among ARA, IRC Superman Midco, LLC, a Delaware limited liability company (“Parent”) and an affiliate of Nautic Partners, LLC, and Superman Merger Sub, Inc., a Delaware corporation and wholly owned subsidiary of Parent (“Merger Sub”), pursuant to which Merger Sub will be merged with and into ARA, with ARA surviving as a wholly owned
subsidiary of Parent (the “Merger”), are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements are based upon currently available information, operating plans, and projections about future events and trends. This Form 10-Q also contains statistical data and estimates based on independent industry publications or other publicly available information, as well as other information based on our internal sources. Forward-looking statements and statistical estimates inherently involve risks and uncertainties that could cause actual results to differ materially from those predicted or expressed in this Form 10-Q, and are not guarantees of performance or results. These assumptions and our future performance or results involve risks and uncertainties, many of which are beyond our control. Such risks and uncertainties include, among others:
•the
inability to consummate the Merger within the anticipated time period, or at all, due to any reason, including the failure to obtain required regulatory approvals or the failure to satisfy the other conditions to the consummation of the Merger;
•the failure by Parent or Merger Sub to obtain the necessary debt and equity financing arrangements set forth in the commitment letters received in connection with the Merger;
•the risk that the Merger Agreement may be terminated in circumstances requiring us to pay a termination fee;
•the risk that the Merger disrupts our current plans and operations or diverts management’s attention from our ongoing business;
•the effect of the announcement of the Merger
on our ability to retain and hire key personnel and maintain relationships with our customers, suppliers, physician partners and others with whom we do business;
•the effect of the announcement of the Merger on our operating results and business generally;
•the amount of costs, fees and expenses related to the Merger;
•the risk that our stock price may decline significantly if the Merger is not consummated;
•the nature, cost and outcome of any litigation and other legal proceedings, including any such proceedings related to the Merger and instituted against us and others;
•the effect of the ongoing COVID-19 pandemic and responses
thereto, including the terms and conditions of provider relief funding or other government relief programs (and any changes thereto);
•the effect of the restatement of our previously issued financial results and related matters and the related SEC investigation;
•our ability to remediate material weaknesses in our internal control over financial reporting;
•continuing decline in the number of patients with commercial insurance or any regulatory or other changes leading to changes in the ability of patients with commercial insurance coverage to receive charitable premium support;
•decline in commercial payor reimbursement rates;
•reduction
of government-based payor coverage and reimbursement rates or insufficient rate increases or adjustments that do not cover all of our operating costs;
•our ability to successfully develop de novo clinics, acquire existing clinics and attract new nephrologist partners;
•our ability to compete effectively in the dialysis services industry;
•the performance of our joint venture subsidiaries and their ability to make distributions to our company;
•federal or state healthcare laws that could adversely affect our
company;
•our ability to comply with all of the complex federal, state and local government regulations that apply to our business, including those in connection with federal and state anti-kickback laws and state laws prohibiting the corporate practice of medicine or fee-splitting;
•heightened federal and state investigations and enforcement efforts;
•changes in the availability and cost of erythropoietin-stimulating agents and other pharmaceuticals used in our business;
•development of new technologies or government regulation that could decrease the need for dialysis services or decrease our in-center patient population;
•our
ability to timely and accurately bill for our services and meet payor billing requirements;
•claims and losses relating to malpractice, professional liability and other matters;
1
•the sufficiency of our insurance coverage for those claims and rising insurances costs, and negative publicity or reputational damage arising from such matters;
•loss of any members of our senior management;
•damage to our reputation or our brand and our ability to maintain brand recognition;
•our
ability to maintain relationships with our medical directors and renew our medical director agreements;
•shortages of qualified skilled clinical personnel, or higher than normal turnover rates;
•competition and consolidation in the dialysis services industry;
•deterioration in economic conditions, particularly in states where we operate a large number of clinics, or disruptions in the financial markets or the effects of natural or other disasters, public health crises or adverse weather events;
•the participation of our physician partners in material strategic and operating decisions and our ability to favorably resolve any disputes;
•our
ability to honor obligations under the joint venture operating agreements with our physician partners were they to exercise certain put rights and other rights;
•unauthorized disclosure of personally identifiable, protected health or other sensitive or confidential information;
•our ability to meet our obligations and comply with restrictions under our substantial level of indebtedness; and
•the ability of our principal stockholder, whose interests may conflict with yours, to strongly influence or effectively control our corporate decisions.
Additional factors or events that could cause our actual performance to differ from these and other forward-looking statements may emerge
from time to time, and it is not possible for us to predict all of them. Should one or more of these risks or uncertainties materialize, or should any of our assumptions prove incorrect, our actual financial condition, results of operations, future performance and business may vary in material respects from the performance projected in these forward-looking statements.
These risks and uncertainties include those described in “Part I. Item 1A. Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2019 and in this Form 10-Q, and in “Part I. Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations” in this Form 10-Q. Investors are cautioned not to place undue reliance on any forward-looking statements or statistical estimates, which speak only as of the date they
are made. We undertake no obligation to update any forward-looking statement or statistical estimate, whether as a result of new information, changes in underlying factors, future events or otherwise.
Property
and equipment, net of accumulated depreciation of $i247,700 and $i215,471,
respectively
i142,437
i151,175
Operating
lease right-of-use assets (Note 10)
i135,563
i133,899
Intangible
assets, net of accumulated amortization of $i25,709 and $i25,087, respectively
i23,871
i24,486
Other
long-term assets
i32,545
i18,608
Goodwill
i562,242
i538,609
Total
assets
$
i1,160,201
$
i1,086,791
Liabilities
and Equity
Accounts payable
$
i42,621
$
i49,539
Accrued
compensation and benefits
i41,562
i37,196
Accrued
expenses and other current liabilities
i107,351
i37,593
Current
portion of long-term debt
i35,931
i38,779
Current
portion of operating lease liabilities (Note 10)
i23,713
i22,061
Current
liabilities held for sale
i—
i5,767
Total
current liabilities
i251,178
i190,935
Long-term
debt, less current portion
i538,788
i548,835
Long-term
operating lease liabilities, less current portion (Note 10)
i124,043
i123,792
Income
tax receivable agreement payable
i1,515
i3,000
Other
long-term liabilities
i52,646
i6,501
Deferred
tax liabilities
i8,063
i2,706
Total
liabilities
i976,233
i875,769
Commitments
and contingencies (Note 15 and Note 16)
i
i
Noncontrolling interests subject to put provisions
i112,510
i126,483
Equity:
Common
stock, $ii0.01/ par value; ii300,000,000/
shares authorized; ii34,485,827/ and ii32,976,416/ issued
and outstanding at September 30, 2020 and December 31, 2019, respectively
i335
i197
Additional
paid-in capital
i109,821
i100,744
Receivable
from noncontrolling interests
(i1,448)
(i531)
Accumulated
deficit
(i187,371)
(i178,241)
Accumulated
other comprehensive loss, net of tax
(i1,760)
(i1,619)
Total
American Renal Associates Holdings, Inc. deficit
(i80,423)
(i79,450)
Noncontrolling
interests not subject to put provisions
i151,881
i163,989
Total
equity
i71,458
i84,539
Total
liabilities and equity
$
i1,160,201
$
i1,086,791
See
accompanying notes to condensed consolidated financial statements.
AMERICAN RENAL ASSOCIATES HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
(dollars in thousands, except per share amounts)
1.
iBASIS OF PRESENTATION, ORGANIZATION AND RECENT EVENTS
Business
American Renal Associates Holdings, Inc. (“the Company”) owns i100%
of the membership units of its subsidiary American Renal Holdings Intermediate Company, LLC, whose only assets are i100% of the shares of capital stock of American Renal Holdings Inc. All of the Company’s operating activities are conducted through American Renal Holdings Inc. and its operating subsidiaries (“ARH”).
The
Company is a national provider of kidney dialysis services for patients suffering from chronic kidney failure, also known as end stage renal disease (“ESRD”) and other kidney diseases. As of September 30, 2020, the Company owned and operated i248 dialysis clinics treating i16,918
patients in i27 states and the District of Columbia. The Company’s operating model is based on shared ownership of its facilities with physicians, known as nephrologists, who specialize in treating kidney-related diseases in the local market served by the clinic. Substantially all clinics are maintained as separate joint ventures (“JV”) in which the Company has a controlling interest and its local nephrologist
partners have noncontrolling interests.
i
Basis of Presentation and Consolidation
The accompanying unaudited condensed consolidated financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) regarding interim financial reporting. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America (“U.S.
GAAP”) for complete financial statements. The Company’s condensed consolidated financial statements include the accounts of the Company, its wholly owned subsidiaries and variable interest entities (“VIEs”) that operate its clinics (“joint ventures”). For its joint ventures, the Company has determined that a majority voting interest and/or contractual rights granted to it provide the Company with the ability to direct the activities of these entities, and therefore the
Company has determined that it is the primary beneficiary of these entities. Accordingly, the financial results of these joint ventures are fully consolidated into the Company’s operating results. The equity interests of the outside investors in the equity and results of operations of these consolidated entities are accounted for and presented as noncontrolling interests. All significant intercompany balances and transactions of the Company’s wholly owned subsidiaries and joint ventures, including management fees from subsidiaries, are eliminated in consolidation. Refer to “Note 7 — Variable Interest Entities.”
In the opinion of management, the Company has prepared the accompanying unaudited condensed consolidated financial statements on the same basis as its audited consolidated financial statements, and these financial statements include all adjustments, consisting only of normal recurring adjustments, necessary for a fair presentation of the results of the interim periods presented. These unaudited condensed consolidated financial statements should be read in conjunction with the Consolidated Financial Statements and notes thereto included in the Company’s Form 10-K for the year ended December 31, 2019 (“Form 10-K”). Operating results for the interim periods
are not necessarily indicative of the results that may be expected for the full year.
i
Use of Estimates
The preparation of financial statements in conformity with U.S GAAP requires the use of estimates and assumptions that affect the reported amounts of revenues, expenses, assets, liabilities and contingencies. Although actual results in subsequent periods will differ from these estimates, such estimates are developed based on the best information
available to management and management’s best judgments at the time made. All significant assumptions and estimates underlying the reported amounts in the consolidated financial statements and accompanying notes are regularly reviewed and updated. Changes in estimates are reflected in the financial statements based upon ongoing actual experience, trends or subsequent settlements and realizations, depending on the nature and predictability of the estimates and contingencies.
AMERICAN
RENAL ASSOCIATES HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (continued)
(Unaudited)
(dollars in thousands, except per share amounts)
The most significant assumptions and estimates underlying these financial statements and accompanying notes involve revenue recognition and provisions for uncollectible accounts, impairments and valuation adjustments, the useful lives of property and equipment, fair value measurements, accounting for income taxes, acquisition accounting valuation estimates, commitments and contingencies and stock-based compensation. Specific risks and contingencies related
to these estimates are further addressed within the notes to the condensed consolidated financial statements.
i
Segment Information
Accounting pronouncements establish standards for the manner in which public companies report information about operating segments in annual and interim financial statements. Operating segments are identified as components of an enterprise for which separate discrete financial information is evaluated regularly by the chief
operating decision-maker in making decisions about how to allocate resources and assess performance. Based on its operating management and financial reporting structure, the Company has determined that it is operating as ione reportable business segment, the ownership and operation of dialysis clinics, all of which are located in the United States.
/
i
Accounting
Pronouncements to be Adopted
In December 2019, the FASB issued ASU No. 2019-12, Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes, to reduce complexity in accounting for income taxes by removing certain exceptions to the general principles in Topic 740. The amendments also improve consistent application of and simplify U.S. GAAP for other areas of Topic 740 by clarifying and amending existing guidance. The ASU is effective for public business entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2020, and early application is permitted. The Company is still evaluating certain aspects of this ASU as well as the impact it may have on its
condensed consolidated financial statements and related disclosures.
In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, and related clarifying standards, which replaces the incurred loss impairment methodology in current U.S. GAAP with a methodology that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information to inform credit loss estimates. The FASB issued ASU 2019-10, which updated the effective date for smaller reporting companies to fiscal years beginning after December 15, 2022, with early adoption permitted. The Company is still evaluating
certain aspects of this ASU as well as the impacts it may have on its condensed consolidated financial statements and related disclosures.
COVID-19 Pandemic
In December 2019, there was an outbreak of a new strain of coronavirus (“COVID-19”). In March 2020, the World Health Organization declared the outbreak of COVID-19 a pandemic. As a provider of essential healthcare services, the Company is significantly exposed to the health and economic effects of COVID-19 and has seen a significant impact on its employees, patients and business operations.
During March 2020, the
Company determined that the economic disruptions and unprecedented market volatilities and uncertainties resulting from the COVID-19 outbreak represented indicators of impairment for its indefinite-life and long-lived assets, including its tradename. As a result, the Company performed interim impairment tests of its indefinite-life and long-lived assets during March 2020, which resulted in ino impairment.
The
Company is carefully monitoring the impact of the COVID-19 pandemic on its operating and financial performance. The amounts and types of revenue, expense, and cash flow impacts will be dependent on numerous factors, including the nature of the COVID-19 pandemic’s current outbreaks and activity levels, such as its rate of spread and duration; the legal, regulatory, and administrative developments related to the pandemic at federal, state, and local levels; and the Company’s infectious disease prevention and control efforts. The Company performed a qualitative assessment of its indefinite life and long-lived assets for impairment as of September 30, 2020 considering these factors, which resulted in ino
impairment.
AMERICAN RENAL ASSOCIATES HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (continued)
(Unaudited)
(dollars in thousands, except per share amounts)
CARES
Act Provider Relief Fund
On March 27, 2020, the Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”) was enacted in response to the COVID-19 pandemic. The CARES Act includes $100 billion in funds to be provided to hospitals and other healthcare providers to support healthcare-related expenses or lost revenue attributable to COVID-19 and to ensure uninsured individuals are able to obtain testing and treatment for COVID-19. On April 10, 2020, the Centers for Medicare and Medicaid Services (“CMS”), which is part of the United States Department of Health and Human Services (“HHS”), began distribution of $30 billion of the funds to providers based on the provider’s share
of total Medicare fee-for-service reimbursements in 2019. As part of this distribution, the Company’s facilities received $i26,598 of grant funds during April 2020. As of September 30, 2020, the Company has utilized $i16,822.
In accordance with the current guidance issued by HHS, the Company can utilize these funds through June 30, 2021, at which point any unused funds will be returned. The Company’s ability to utilize and retain some or all of the provider relief grant funds will depend on the magnitude, timing and nature of the impact of COVID-19, as well as the guidelines and rules of the program, which will ultimately determine how these funds can be used to offset lost revenue and increased expenses associated with the COVID-19 pandemic.
For the three and nine months ended September 30, 2020, we incurred an additional $i5,649
and $i14,261, respectively, in operating expenses as a result of the measures we have taken in response to COVID-19, of which $i5,062 and $i13,429,
respectively, of these additional expenses were offset by grant funds received under the CARES Act during the three and nine months ended September 30, 2020. In addition, during the three and nine months ended September 30, 2020, Company recognized other income of $i1,920 and $i3,393,
respectively, by applying grant funds on account of lost revenues net of direct patient care costs.
Temporary Suspension of the Automatic 2% Reduction of Medicare Program Payments, Known as “Sequestration”
The CARES Act suspended for the period from May 2020 through December 2020 the 2% Medicare reimbursement reduction that has been in place since April 1, 2013. For the three and nine months ended September 30, 2020 the Company received patient service operating revenues of $i1,675
and $i2,797, respectively, from this suspension.
Medicare Accelerated and Advance Payment Program
In March 2020, in an action unrelated to the CARES Act, CMS expanded
its existing Accelerated and Advance Payment Program to a broader group of Medicare providers and suppliers for the duration of the COVID-19 public health emergency. Payments under this program are intended to provide necessary funds when there is a disruption in Medicare claims submission and/or claims processing. The Company’s facilities requested i100% of the Medicare fee-for-service payment amount for a ithree-month
period. CMS approved the Company’s requests for substantially all of the clinics. Medicare advance payments will be reduced by 25% to recoup the funds advanced for eleven months beginning April 2021. If the advance payments have not been fully recouped by March 2022, the payments will be reduced by 50% until all advance payments have been recouped. As of September 30, 2020, the Company’s facilities applied for and received an aggregate of $i83,196
in advanced payments under this program. As of September 30, 2020, $i40,770 is classified as Accrued expenses and other current liabilities and $i40,770
is classified as Other long-term liabilities on the accompanying condensed consolidated balance sheets.
2. iREVENUE
Patient service operating revenues, the major component of the Company’s revenues are derived
from dialysis treatments and related services. Sources of payment of revenues are principally from government-based programs, including Medicare, Medicaid and state workers’ compensation programs, commercial insurance payors and other sources such as the U.S. Department of Veterans Affairs (the “VA”), hospitals as well as patient self-pay. Patient service operating revenues are reported at the amounts that reflect the consideration to which the Company expects to be entitled in exchange for providing dialysis treatments and related services. Amounts may include variable consideration for discounts, price concessions and retroactive adjustments due to new information obtained, such as actual payment receipt, as well as settlement of audits, reviews and investigations. Third-party payors, patients and other payors are generally billed at least monthly, typically in the month the
dialysis treatment is performed, and payment is due upon receipt.
AMERICAN RENAL ASSOCIATES HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (continued)
(Unaudited)
(dollars in thousands, except per share amounts)
A performance obligation is a promise in a contract
to transfer a distinct good or service to the customer and is defined as the unit of account under ASC 606, Revenue from Contracts with Customers. The Company has determined that ione performance obligation exists, a single dialysis treatment, which is satisfied over time as a dialysis treatment is provided. While the
Company provides patients with other related services, they are considered a bundle of interrelated services with dialysis treatment as the primary service. Revenue is measured using the output method, which is based upon the delivery of a dialysis treatment to the patient. The Company believes that this method reflects the satisfaction of the performance obligation.
The Company maintains a usual and customary fee schedule for dialysis treatments and other related services. However, the transaction price is typically recorded at a discount to the fee schedule. The transaction prices for Medicare and Medicaid programs are based on predetermined net realizable rates per treatment that are established by statutes or regulations. For Medicare programs,
the Company receives i80% of the payment directly from Medicare as established under the United States government’s bundled payment system. The transaction prices for contracted payors are based on contracted rates. For other payors, the Company determines the transaction price based on usual and customary rates for services provided, reduced by contractual and other adjustments
which result from differences between the rates charged for services performed and expected reimbursements from third-party payors, discounts provided to uninsured patients in accordance with the Company’s policy, and/or implicit price concessions. The Company determines its estimates of contractual allowances and discounts based on contractual agreements, regulatory compliance and historical collection experience. The Company determines its estimates of implicit price concessions based on its historical collection experience with each payor, and when no prior experience exists, it considers information from the patient’s health plan. Amounts billed that have not yet been collected and that meet the conditions
for an unconditional right to payment are presented as net accounts receivable on the accompanying condensed consolidated balance sheets.
Contractual and other adjustments as well as discounts with third-party payors are considered variable consideration and are included in the determination of the estimated transaction price for providing patient care. In assessing the probability of these claim payments, the Company considers previous payment history when recording a reserve, generally at the patient level, that results in an estimate of expected revenue such that it is probable that a significant revenue reversal will not occur in future periods.
There are significant challenges associated with estimating revenue, with certain transactions taking several years to resolve. Estimates are subject
to ongoing insurance coverage changes, geographic coverage differences, differing interpretations of contract coverage and other payor issues, determining applicable primary and secondary coverage and coordination of benefits. As these estimates are refined over time, both positive and negative adjustments to revenue are recognized in the current period.
Settlements with third-party payors for retroactive adjustments due to audits, reviews or investigations are considered variable consideration and are included in the determination of the estimated transaction price for providing dialysis treatments and related services. These settlements are estimated based on the terms of the payment agreement with the payor, correspondence from the payor and the Company’s
historical settlement activity, including an assessment to ensure that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty periods end and as adjustments become known (i.e., new information becomes available), or as years are settled or are no longer subject to such audits, reviews and investigations.
Net adjustments arising from a change in the transaction price in instances when the performance obligation was satisfied prior to January 1, 2020 were immaterial for the three and nine months ended September 30, 2020. Net adjustments arising from a change in the transaction price in instances where the performance obligation was satisfied prior to January 1, 2019 were immaterial for the three and nine months
ended September 30, 2019. These changes in transaction price are mostly attributable to an adjustment for balances with non-contracted payors. When the Company obtains new information, such as actual cash receipts, it adjusts the estimated transaction price.
Amounts pending approval from third-party payors associated with Medicare recovery claims as of September 30, 2020 and December 31, 2019, other than standard monthly billing, consisted of $i22,244
and $i17,509, respectively. As of September 30, 2020, $i22,244
is classified as Other long-term assets. As of December 31, 2019, $i9,284 is classified as Prepaid expenses and other current assets and $i8,225
is classified as Other long-term assets.
AMERICAN RENAL ASSOCIATES HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (continued)
(Unaudited)
(dollars in thousands, except per share amounts)
i
The
composition of patient care service revenue by payment source is as follows:
Three Months Ended September 30,
Nine Months Ended September 30,
Percentage of Revenues by Payor:
2020
2019
2020
2019
Medicare
and Medicare Advantage
i69
%
i69
%
i69
%
i68
%
Commercial
and other(1)
i27
%
i26
%
i27
%
i27
%
Medicaid
and Managed Medicaid
i4
%
i5
%
i4
%
i5
%
Other(2)
i—
%
i—
%
i—
%
i—
%
i100
%
i100
%
i100
%
i100
%
___________________
(1)Principally
commercial insurance companies and also includes the VA.
(2)Other payments of revenues by payor include hospitals and patient self-pay. “Patient self-pay” revenues consist of payments received directly from patients who are either uninsured or self-pay a portion of the bill.
/
3. iDIVESTITURES
The Company periodically divests the operating assets and liabilities of dialysis centers. The results of operations for these divestitures are included in the Company’s Consolidated Statements of Operations through their respective sale consummation dates.
On August 3, 2020, the Company sold substantially all the operating assets of ifour
dialysis clinics in Pennsylvania and received combined cash consideration of $i16,932.The transactions resulted in the recognition of a combined loss of $ii293/,
which is included as an increase to general and administrative expenses in the three and nine months ended September 30, 2020.
4. iASSETS HELD FOR SALE AND GOODWILL
As of September 30, 2020, the
Company presented real estate properties in South Carolina, Ohio and Texas that met the criteria as held for sale as a single asset and liability in its financial statements and recognized a valuation allowance, as necessary, to recognize the net carrying amount at the lower of cost or fair value, less costs to sell. As of December 31, 2019, the Company presented certain clinics in Pennsylvania, Ohio and New Jersey and other property that met the criteria as held for sale as a single asset and liability in its financial statements and recognized a valuation allowance, as necessary, to recognize the net carrying amount at the lower of cost or fair value, less costs to sell. As of September 30, 2020, certain assets that had met the criteria
as held for sale as of December 31, 2019 no longer met those criteria and therefore were reclassified out of held for sale to their respective accounts. As discussed in “Note 3 — Divestitures”, on August 3, 2020, the Company sold assets in certain Pennsylvania clinics.
AMERICAN RENAL ASSOCIATES HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (continued)
(Unaudited)
(dollars in thousands, except per share amounts)
i
The
following table summarizes the activity in held for sale during the nine months ended September 30, 2020, and provides a summary of the major categories of assets and liabilities that are reported as held for sale on the Condensed Consolidated Balance Sheets:
The Company’s derivatives (interest rate swap and interest rate cap agreements, income tax receivable agreement and noncontrolling interests subject to put provisions) are accounted for at fair value and are classified and disclosed in one of the following three categories:
Level 1: Financial instruments with unadjusted, quoted prices listed on active market exchanges.
Level 2:
Financial instruments determined using prices for recently traded financial instruments with similar underlying terms, as well as directly or indirectly observable inputs, such as interest rates and yield curves that are observable at commonly quoted intervals.
Level 3: Financial instruments not actively traded on a market exchange. This category includes situations where there is little, if any, market activity for the financial instrument. The prices are determined using significant unobservable inputs or valuation techniques.
The asset or liability fair value measurement level within the fair value hierarchy is based on the lowest level of any input that is significant to the fair value measurement. There were
no changes in the methodologies used at September 30, 2020.
Derivative agreements—See “Note 9 — Debt” for a discussion of the Company’s methodology for estimating fair value of interest rate swap and interest rate cap agreements.
AMERICAN RENAL ASSOCIATES HOLDINGS, INC. AND SUBSIDIARIES
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (continued)
(Unaudited)
(dollars in thousands, except per share amounts)
Income Tax Receivable Agreement—The fair value of the Company’s income tax receivable agreement, entered into on April 26, 2016 in connection with the Company’s initial public offering (“TRA”), relies upon both Level 2 data and Level 3 data. The liability is remeasured at fair value each reporting period with the change in fair value recognized as Change in fair value of income tax receivable agreement in the
Company’s Condensed Consolidated Statements of Operations. The fair value is calculated using a Monte Carlo simulation-based approach that relies on significant assumptions about the Company’s stock price, stock volatility and risk-free rate as well as the timing and amounts of options exercised. Changes in assumptions based on future events, including the price of the Company’s common stock, will impact the fair value for the TRA. See “Note 14 — Related Party Transactions” for further discussion of the TRA.
Noncontrolling interests subject to put provisions—See “Note 8 — Noncontrolling Interests Subject to Put Provisions” for a discussion of the
Company’s methodology for estimating fair value of noncontrolling interests subject to put provisions.
Transfers among levels are calculated on values as of the transfer date. There were no transfers into or out of Level 3 during the nine months ended September 30, 2020 and the year ended December 31, 2019.
Interest rate derivative agreements (included in Prepaid expenses and other current assets)
$
i161
$
i—
$
i161
$
i—
Total
Assets
$
i161
$
i—
$
i161
$
i—
Liabilities
Tax
Receivable Agreement Liability (included in Income tax receivable agreement payable with a portion included in Accrued expenses and other current liabilities)
$
i540
$
i—
$
i—
$
i540
Interest
rate swap agreement (included in Accrued expense and other current liabilities)
i1,406
i—
i1,406
i—
Interest
rate swap agreement (included in Other long-term liabilities)
i632
i—
i632
i—
Total
Liabilities
$
i2,578
$
i—
$
i2,038
$
i540
Temporary
Equity
Noncontrolling interests subject to put provisions
AMERICAN RENAL ASSOCIATES HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (continued)
(Unaudited)
(dollars in thousands, except per share amounts)
i
The
following table provides the fair value rollforward for the nine months ended September 30, 2020 for the TRA liability, which is classified as a Level 3 financial instrument:
There
are no unrealized gains or losses reported in Other Comprehensive Income related to Level 3 financial instruments.
The carrying amounts reported in the accompanying Condensed Consolidated Balance Sheets for cash, accounts receivable, accounts payable and accrued liabilities approximate fair value because of their short-term nature.
The fair value of the Company’s debt is estimated using Level 2 inputs based on the quoted market prices for the same or similar issues or on the current rates offered to the Company for debt of the same remaining maturities. The
Company estimated the fair value of the 2017 Term B Loan Facility, as defined in “Note 9 — Debt” to be $i408,672 as of September 30, 2020, compared to a carrying value of $i422,400.
As of December 31, 2019, the Company estimated the fair value of the first lien term loans to be $i407,550 compared to the carrying value of $i429,000.
6. iACCRUED EXPENSES AND OTHER CURRENT LIABILITIES
i
Accrued
compensation and benefits consist of the following:
Deferred
revenue - advanced payments from CMS — Current portion
i40,770
i—
Cares
Act grant funds not utilized
i9,874
i—
Accrued
settlements (Note 16)
i3,056
i6,573
Accrued
legal expenses
i11,686
i1,700
Other
i10,678
i9,235
$
i107,351
$
i37,593
/
7.
iVARIABLE INTEREST ENTITIES
The Company has determined that all of the entities it is associated with that qualify as VIEs must be included in its condensed consolidated financial statements. For its joint ventures, the Company has determined that contractual rights granted to it provide the
Company with the ability to direct the most significant activities of these entities, including development, administrative and management services. In some cases, the contractual agreements include financial terms that may result in the Company absorbing more than an insignificant amount of the entities’ expected losses. Therefore, the Company has determined that it is the primary beneficiary of these entities. Accordingly, the financial results of these joint ventures are fully
AMERICAN
RENAL ASSOCIATES HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (continued)
(Unaudited)
(dollars in thousands, except per share amounts)
consolidated into the Company’s operating results. The equity interests of the outside investors in the equity and results of operations of these consolidated entities are accounted for and presented as noncontrolling interests.
Under U.S. GAAP, VIEs typically include entities for which (i) the entity’s equity is not
sufficient to finance its activities without additional subordinated financial support; (ii) the equity holders as a group lack the power to direct the activities that most significantly influence the entity’s economic performance, the obligation to absorb the entity’s expected losses, or the right to receive the entity’s expected returns; or (iii) the voting rights of some investors are not proportional to their obligations to absorb the entity’s losses. The analysis upon which these consolidation determinations rest is complex, involves uncertainties, and requires significant judgment on various matters, some of which could be subject to different interpretations.
The Company relies on the operating activities of certain entities for which it does not own the majority voting interest, but
over which it has indirect influence and of which it is considered the primary beneficiary. These entities are subject to the consolidation guidance applicable to VIEs. As of September 30, 2020, these consolidated financial statements include total assets of these VIEs of $i24,436 and total liabilities of these VIEs to third parties of $i25,499.
Term
Loan Holdings
The Company has determined that it is not the primary beneficiary under VIE accounting guidance for Term Loan Holdings LLC (“Term Loan Holdings”), a related party to which the Company previously owed certain debts. Based on its involvement with Term Loan Holdings, the Company does not have the power to direct the activities which most significantly impact Term Loan Holding’s economic performance, and therefore this entity is not included in the Company’s condensed consolidated financial statements. The
Company’s financial responsibility to repay the loans under its guarantee of a proportionate share of each clinic’s borrowing was not a factor in the Company’s assessment of the power criterion. The maximum exposure to loss with respect to Term Loan Holdings was limited to the proportion of the assigned clinic loans which the Company guaranteed. During the three months ended September 30, 2020, the Company repaid the remaining amounts due to Term Loan Holdings. See “Note 14 — Related Party Transactions.”
8.
iNONCONTROLLING INTERESTS SUBJECT TO PUT PROVISIONS
The Company is party to agreements which contain put provisions which require the Company to purchase a portion or all of the noncontrolling interests held by third parties in certain of its consolidated subsidiaries.
These put provisions are exercisable at the third-party owners’ discretion either within specified periods or, in certain cases, upon the occurrence of specific events, including the sale of all or substantially all of the Company’s assets, closure of the clinic, change of control, departure of key executives, third-party members’ death, disability, bankruptcy, retirement, or if third-party members are dissolved and other events, which could accelerate vesting of the put. The Company has evaluated the applicable terms and determined that none of the put rights are mandatorily redeemable. Some of these put rights accelerated as a result of the Company’s IPO. If the
remaining unexercised put rights were exercised, the Company would be required to purchase all or a portion of the third-party owners’ noncontrolling interests at the estimated fair value as defined within the put provisions. As of September 30, 2020, the noncontrolling interests subject to put provisions are reported at the greater of the carrying value or estimated fair value for accounting purposes. As of December 31, 2019, the majority of the noncontrolling interests subject to put provisions were reported at the greater of the carrying value or estimated fair value for accounting purposes while some of the noncontrolling interests subject to put provisions were stated at the contractual estimated fair value, as outlined in each specific
put provision (“redemption value”). The put rights of the noncontrolling interest holders were determined based on inputs that are not readily available in public markets or able to be derived from information available in publicly quoted markets. As such, the Company categorizes the put options of the noncontrolling interest holders as Level 3.
The fair value of the noncontrolling interests subject to these put provisions is estimated using the Income, Market and Asset Based approaches. The fair value derived from the methods used is evaluated and weighted, as appropriate, considering the reasonableness of the range of values indicated. Under the Income approach, fair value may be determined by utilizing a Weighted Average Cost of Capital (i14.50%
- i20.00%) to discount the expected cash flows to a single present value amount using current expectations about those future amounts. Under the Market approach, fair value may be determined by reference to multiples of market-comparable companies or transactions, including revenue and earnings before interest, taxes, depreciation and amortization (“EBITDA”). The estimated fair values of the interests subject to these put provisions can
AMERICAN RENAL ASSOCIATES HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (continued)
(Unaudited)
(dollars in thousands, except per share amounts)
fluctuate, and the implicit multiples at which these obligations may be settled may vary depending upon market conditions and access to the credit and capital markets, which can impact the level of competition for dialysis and non-dialysis related businesses and the economic performance of these businesses.
As of December
31, 2019, the Company had recorded within Noncontrolling Interests Subject to Put Provisions certain noncontrolling interests with an estimated redemption value of $i17,303.
i
The
Company’s computation of the difference between the redemption value and estimated fair value for accounting purposes of the related noncontrolling interests as of September 30, 2020 and December 31, 2019 is set forth below:
Less:
discounts and fees, net of accumulated amortization
(i10,183)
(i12,496)
Less:
current maturities
(i35,931)
(i38,779)
$
i538,788
$
i548,835
/
i
Scheduled
maturities of long-term debt as of September 30, 2020 are as follows:
2020 (remainder)
$
i15,270
2021
i27,191
2022
i90,694
2023
i19,932
2024
i416,144
Thereafter
i15,671
$
i584,902
/
During
the nine months ended September 30, 2020, the Company made mandatory principal payments of $i6,600 under the 2017 Credit Agreement (as defined below).
2017 Credit Agreement
On June 22, 2017,
ARH and American Renal Holdings Intermediate Company, LLC (“ARHIC”) entered into a new credit agreement (the “2017 Credit Agreement”) to refinance the credit facilities under ARH’s then existing prior first lien credit agreement. The 2017 Credit Agreement provides ARH with (a) a $i100,000
senior secured revolving credit facility (the “2017 Revolving Credit Facility”); (b) a $i440,000 senior secured term B loan facility (the “2017 Term B Loan Facility”), and (c) an uncommitted incremental accordion facility equal to the sum of the greater of (i) $i125,000or (ii) i100% of Consolidated EBITDA (as defined in the 2017 Credit Agreement) plus an amount such that certain leverage ratios will not be exceeded after giving pro forma effect to the increase. The 2017 Revolving Credit Facility is scheduled to mature in June 2022, and the 2017 Term B Loan Facility is scheduled to mature in June 2024. The maturity dates under the 2017 Revolving Credit Facility and the 2017 Term
Loan Facility are subject to extension with lender consent according to the terms of the 2017 Credit Agreement.
ARH borrowed the full amount of the 2017 Term B Loan Facility and used such borrowings to repay the outstanding balances under the existing prior first lien credit agreement and to pay a portion of the transaction costs and expenses.
The obligations of ARH under the 2017 Credit Agreement are guaranteed by ARHIC and all of its existing and future wholly owned domestic subsidiaries (collectively, the “Guarantors”) and secured by a pledge of all of ARH’s capital stock and substantially all of the assets of ARH and the Guarantors, including their respective interests in their joint ventures.
AMERICAN RENAL ASSOCIATES HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (continued)
(Unaudited)
(dollars in thousands, except per share amounts)
On April 26, 2019, ARH entered into an amendment (the “Amendment”) to the 2017 Credit Agreement, waiving certain actual or potential defaults and amending certain covenants and other provisions. Among other things, the waiver addressed actual or potential defaults that may have resulted from the
Company’s failure to (i) satisfy the maximum consolidated net leverage ratio when required, and (ii) deliver when required certain prior period financial information prepared in accordance with GAAP. In connection with the Amendment, the Company paid $i6,021 of fees during the quarter ended June 30, 2019 and agreed to increase the interest rate
on borrowings under the 2017 Credit Agreement.
2017 Term B Loan Facility
The 2017 Credit Agreement includes provisions requiring ARH to offer to prepay term B loans in an amount equal to (i) the net cash proceeds above certain thresholds received from (a) asset sales and (b) casualty events resulting in the receipt of insurance proceeds, subject to customary provisions for the reinvestment of such proceeds, (ii) the net cash proceeds from the incurrence of debt not otherwise permitted under the 2017 Credit Agreement, and (iii) a percentage of consolidated excess cash flow retained in the business from the preceding fiscal year minus voluntary prepayments. There is ino prepayment
required as of September 30, 2020.
ARH is required to make principal payments under the 2017 Term B Loan Facility in equal quarterly installments of $i2,200 beginning January 1, 2020.
The 2017 Term B Loan Facility is scheduled to mature in June 2024. The principal amount
of the term B loans under the 2017 Term B Loan Facility (“term B loan”) amortize in equal quarterly installments in an aggregate annual amount of (i) i1.00% of the original principal amount of such term B loans through December 31, 2019 and (ii) i2.00%
thereafter.
For the period from April 26, 2019 until September 4, 2019, the date on which ARH has delivered the condensed consolidated unaudited financial statements for the fiscal quarter ended March 31, 2019 (the “Covenant Reversion Date”), the term B loans under the 2017 Term B Loan Facility bore interest at a rate equal to, at ARH’s option, either (a) an alternate base rate equal to the higher of (1) the prime rate in effect on such day, (2) the federal funds effective rate plus i0.50%
or (3) the Eurodollar rate applicable for a one-month interest period plus i1.00% (collectively, the “ABR Rate”), plus an applicable margin of i4.50%
(increased from i2.25% prior to the Amendment), or (b) LIBOR, adjusted for changes in Eurodollar reserves (“Eurodollar Rate”), plus an applicable margin of i5.50%
(increased from i3.25% prior to the Amendment). From and after the Covenant Reversion Date, the applicable margin on term B loans is i4.00%
for ABR Rate loans and i5.00% for Eurodollar rate loans. As of September 30, 2020, interest payable quarterly was i5.15%
per annum.
2017 Revolving Credit Facility
The 2017 Revolving Credit Facility of $i100,000 is available through its maturity date of June 2022. Any outstanding loans under the 2017 Revolving Credit Facility bear interest at a rate equal to, at ARH’s option, the ABR Rate or LIBOR, adjusted for changes in Eurodollar reserves, plus, in each case, an applicable margin priced off a grid based upon the consolidated
total net leverage ratio of ARH and its restricted subsidiaries. The commitment fee applicable to undrawn revolving commitments under the 2017 Revolving Credit Facility is also priced off a grid based upon the consolidated total net leverage ratio of ARH and its restricted subsidiaries, and as of September 30, 2020, the fee was i0.50%.
In the three months ended September 30, 2020, the Company paid down $i32,000 under its 2017 Revolving Credit Facility for a total of $i68,000
of borrowings outstanding as of September 30, 2020, which had an interest rate of i5.05%.
For the period from April 26, 2019 until the Covenant Reversion Date, outstanding loans under the 2017 Revolving Credit Facility bore interest at a rate equal to, at ARH’s option, either (a) the ABR Rate, plus an applicable margin of i4.25%,
or (b) the Eurodollar Rate, plus an applicable margin of i5.25%, instead of pricing each such margin off a grid based upon the consolidated net leverage ratio of ARH and its restricted subsidiaries. From and after the Covenant Reversion Date, any outstanding loans under the revolving credit facility bear interest at a rate equal to, at ARH’s option, either the ABR Rate or the Eurodollar Rate, plus, in each case, an applicable margin priced off
a grid based upon the consolidated net leverage ratio of ARH and its restricted subsidiaries, which margin is i1.75% higher than the applicable margin prior to the Amendment. Prior to the Amendment, the commitment fee applicable to undrawn revolving commitments under the 2017 Revolving Credit Facility was priced off a grid based upon the consolidated net leverage ratio of ARH and its restricted subsidiaries.
For the period from April 26, 2019 until the Covenant Reversion Date, the commitment fee applicable to undrawn revolving commitments under the 2017 Revolving Credit Facility was i0.50% without regard to the consolidated net leverage ratio.
AMERICAN
RENAL ASSOCIATES HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (continued)
(Unaudited)
(dollars in thousands, except per share amounts)
The 2017 Credit Agreement contains customary events of default, the occurrence of which would permit the lenders to accelerate payment of the full amounts outstanding. Additionally, the 2017 Credit Agreement contains customary representations and warranties, affirmative covenants and negative covenants, including restrictive financial and operating covenants. These include covenants that restrict ARH’s and its restricted subsidiaries’
ability to complete acquisitions, pay cash dividends, incur indebtedness, make investments, sell assets and take certain other corporate actions. The 2017 Credit Agreement events of default, representations and warranties, mandatory prepayments and affirmative and negative covenants are substantially the same as those under the prior first lien credit agreement; provided that the 2017 Credit Agreement contains additional exceptions to the negative covenants that increase the amount ARH and its restricted subsidiaries can use to make restricted payments and increases the flexibility for ARH and its restricted subsidiaries to undertake permitted acquisitions. As of September 30, 2020, ARH was in compliance with all covenants. The 2017 Credit
Agreement includes a springing maximum consolidated net leverage ratio financial covenant of i6:1 for the benefit of the lenders under the 2017 Revolving Credit Facility (the “Revolver Financial Covenant”) and, following the Amendment a maximum consolidated net leverage ratio maintenance financial covenant of i7:1
for the benefit of the lenders under both the 2017 Revolving Credit Facility and the 2017 Term B Loan Facility. As of September 30, 2020, the Company was in compliance with the applicable consolidated net leverage ratio.
The Amendment also waived any default or events of default that may have resulted from ARH underpaying any interest payments or letter of credit fees based on the application of a lower applicable rate due to the delivery, prior to the effective date of the Amendment, of inaccurate financial statements if such inaccuracy arose out of the Inaccurate Matters (as defined below). ARH paid accrued interest and letter of credit fees that were ultimately determined to be payable but for such lower applicable rate. The Amendment waived inaccuracies of certain representations and
warranties previously made to the extent that the inaccuracies were a result of (i) inaccuracies or errors in financial reporting, accounting and related metrics described in the Current Report on Form 8-K filed by ARAH with the Securities and Exchange Commission on March 27, 2019 (the “March 27 Form 8-K”) or otherwise identified pursuant to, or as a result of, the review of the audit committee of the board of directors of ARAH described in the March 27 Form 8-K, and (ii) any weaknesses in internal control over financial reporting related to the foregoing (together, the “Inaccurate Matters”).
The Company’s clinic-level debt including third-party term loans and lines of credit totaling $i87,007
as of September 30, 2020 had maturities ranging from October 2020 to December 2028 and interest rates ranging from i2.96% to i6.55%.
The loan documents for these clinic-level loans generally include representations and warranties, affirmative covenants and negative covenants, including restrictive financial and operating covenants. The Company has in the past and may in the future be required to seek waivers or amendments to the loan documents for one or more of the Company’s clinics as a result of clinic performance issues or otherwise. For example, due to the factors that led to the restatement in 2019 of previously issued consolidated financial statements (the “Restatement”) and the Company’s material weaknesses, the Company failed to, among other
things, timely deliver certain financial statements to these lenders as required, resulting in defaults under the applicable loan documents. The Company obtained individual waivers or forbearances for the Assigned Clinic Loans and substantially all of its third-party clinic lenders. More recently, the Company entered into agreements on May 6, 2020 with certain of its third-party clinic lenders waiving defaults arising from certain financial covenants at the clinic level. Pursuant to these agreements, the Company agreed to prepay up to an aggregate of $i7,589
during 2020 and up to an aggregate of $i10,506 during the second quarter of 2021 of the outstanding clinic-level debt, depending on the satisfaction of certain financial covenants for these clinic loans. Of these amounts, the Company is responsible for up to $i4,274
and $i5,318, respectively, and the Company’s physician partners are responsible for the remainder. As of September 30, 2020, the Company did not meet the covenants for certain loans totaling $i1,943,
and therefore reclassified the $i634 noncurrent portion of such loans to the Current portion of long-term debt accompanying condensed consolidated balance sheet.
As more fully described in “Note 18 — Subsequent Events”, on October 1, 2020, the Company entered into a Merger Agreement. Among other matters, under the Merger Agreement the
Company agreed to limit its drawdowns under the 2017 Revolving Credit Facility through the date of the closing of the proposed merger to $i2,000 plus any fees incurred and limit total additional borrowings to $i4,000.
Interest Rate Swap Agreement
In March 2017, ARH entered into a forward starting interest rate swap agreement (the “2017 Swap”) with a notional amount of $i133,000, as a means of fixing the floating interest rate component on $i440,000
of its variable-rate debt under the 2017 Term B Loan Facility, with an effective date of March 31, 2018. The 2017 Swap is designated as a cash flow hedge, with a termination date of March 31, 2021.
AMERICAN RENAL ASSOCIATES HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (continued)
(Unaudited)
(dollars
in thousands, except per share amounts)
As a result of the application of hedge accounting treatment, to the extent the 2017 Swap is effective, the unrealized gains and losses related to the derivative instrument are recorded in accumulated other comprehensive income (loss) and are reclassified into operations in the same period in which the hedged transaction affects earnings. As a result of adopting ASU 2017-12, beginning in the first quarter of 2019, the entire change in the fair value of the hedging instrument included in the assessment of hedge effectiveness is recorded in accumulated other comprehensive income (loss). Those amounts are reclassified to earnings in the same income statement line item that is used to present the earnings effect of the hedged item when the hedged item affects earnings. Hedge effectiveness is tested quarterly. As of September 30,
2020, the instruments were perfectly effective and ino amounts were reclassified from accumulated other comprehensive income (loss) into income during the three months ended September 30, 2020. Neither the Company nor ARH uses derivative instruments for trading or speculative purposes. The unrealized pretax (gain)
loss of $(i630) and $i1,320
related to the interest rate swap agreement was recorded in accumulated other comprehensive loss during the three and nine months ended September 30, 2020, respectively, and the unrealized pretax losses of $i98 and $i1,168
related to the interest rate swap agreement was recorded in accumulated other comprehensive loss during the three and nine months ended September 30, 2019, respectively. See “Note 5 — Fair Value Measurements” for the fair value of the derivative instruments and location on the balance sheet as of September 30, 2020 and December 31, 2019.
Effective May 7, 2019, the Company obtained an amendment and waiver related to the 2017 Interest Rate Swap Agreement. The amendment waived any defaults or potential default under the Swap Agreement arising from ARH’s prior delivery of certain inaccurate financial
statements, any associated breach of representations and warranties regarding the accuracy of such financial statements, and the delay in the Company’s filing of its Annual Report on Form 10-K for the year ended December 31, 2018.
Interest Rate Cap Agreements
In March 2017, ARH entered into itwo
interest rate cap agreements (the “Caps”) with notional amounts totaling $i147,000, as a means of capping the floating interest rate component on $i440,000 of its variable-rate
debt under the 2017 Term B Loan Facility. The Caps are designated as a cash flow hedge, with a termination date of March 31, 2021.
As a result of the application of hedge accounting treatment, to the extent the Caps are effective, the unrealized gains and losses related to the derivative instrument are recorded in accumulated other comprehensive income (loss) and are reclassified into operations in the same period in which the hedged transaction affects earnings. As a result of adopting ASU 2017-12, beginning in the first quarter of 2019, the entire change in the fair value of the hedging instrument included in the assessment of hedge effectiveness is recorded in accumulated other comprehensive income (loss). Those amounts are reclassified to earnings in the same income statement line item that is used to present the earnings effect
of the hedged item when the hedged item affects earnings. Hedge effectiveness is tested quarterly. As of September 30, 2020, the instruments were perfectly effective for accounting purposes, and ino amounts were reclassified from accumulated other comprehensive income (loss) into income during the three months ended September 30, 2020. Neither the
Company nor ARH uses derivative instruments for trading or speculative purposes. There was no impact during the three months ended September 30, 2020. The associated unrealized pretax loss of $i1,058 was recorded in accumulated other comprehensive loss during the nine months ended September 30, 2020. The associated
unrealized pretax losses of $i136 and $i1,025
were recorded in accumulated other comprehensive loss during the three and nine months ended September 30, 2019, respectively. See “Note 5 — Fair Value Measurements” for the fair value of the derivative instruments and location on the balance sheet as of September 30, 2020 and December 31, 2019.
Effective May 16, 2019, the Company obtained an amendment and waiver related to the 2017 Interest Rate Cap Agreements. The amendment waived any defaults or potential default under the Cap Agreements arising from ARH’s prior delivery of certain inaccurate financial statements, any associated breach of representations
and warranties regarding the accuracy of such financial statements, and the delay in the Company’s filing of its Annual Report on Form 10-K for the year ended December 31, 2018.
AMERICAN RENAL ASSOCIATES HOLDINGS, INC. AND SUBSIDIARIES
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (continued)
(Unaudited)
(dollars in thousands, except per share amounts)
As more fully described within “Note 5 — Fair Value Measurements,”the Company uses a three-level fair value hierarchy that prioritizes the inputs used to measure fair value. The fair value of the derivative instruments are recorded at fair value based upon valuation models utilizing the income approach and commonly accepted valuation techniques that use inputs from closing prices for similar assets and liabilities in active markets as well as other relevant observable market inputs at quoted intervals such as current interest rates, forward yield curves, and implied volatility. The
Company does not believe the ultimate amount that could be realized upon settlement would be materially different from the fair values currently reported.
10. iiLEASES
/
The Company adopted ASU 2016-02 effective January 1, 2019. The Company’s lease portfolio primarily consists of real estate leases for its corporate headquarters, regional corporate offices and its facilities which are leased under noncancellable operating and finance leases expiring in various years through 2035. Most lease agreements cover periods from five to ififteen
years and contain renewal options of five to iten years at the fair rental value at the time of renewal. Certain leases are subject to rent holidays and/or escalation clauses.
Certain of the Company’s lease agreements include rental payments adjusted periodically for the consumer price index and real estate taxes. The Company’s lease agreements do not contain
any material residual value guarantees or material restrictive covenants. The Company has lease agreements with lease and non-lease components and has elected to determine by asset class whether to separate these components. The Company has elected not to separate lease and non-lease components for real estate leases. Because the Company’s current leases do not provide an implicit rate of return, the Company utilizes its incremental borrowing rate in determining the present value of lease payments. The incremental borrowing rate represents the rate of interest that the
Company would have to pay to borrow an amount equal to the lease payments on a collateralized basis over a similar term based on the information available at the commencement date of the lease.
The Company leases certain facilities from noncontrolling interest members or entities under the control of noncontrolling interest members. Rent expense under these lease arrangements was $i2,833
and $i2,824 in the three months ended September 30, 2020 and 2019, respectively. Rent expense under these lease arrangements was $i8,606
and $i8,478 in the nine months ended September 30, 2020 and 2019, respectively. The Company subleases space at certain of these facilities to the noncontrolling interest members. Rental income under these sublease arrangements, which extended to 2033, amounted to $i217
and $i260 in the three months ended September 30, 2020 and 2019, respectively. Rental income under these sublease arrangements, which extend to 2033, amounted to $i682
and $i768 in the nine months ended September 30, 2020 and 2019, respectively. Future income of $i2,460 due from these related
parties are included in sublease income presented below. The Company subleases space in certain of its facilities to nephrologist partners at market values under non-cancelable operating leases expiring in various years through 2033. Rental income under all subleases, including those noted above, was $i464 and $i445
in the three months ended September 30, 2020 and 2019, respectively. Rental income under all subleases, including those noted above, was $i1,399 and $i1,361
in the nine months ended September 30, 2020 and 2019, respectively.
(1)Short-term
leases are leases having a term of twelve months or less. The Company elected to recognize short-term leases on a straight-line basis and does not record a related lease asset or liability for such leases.
Supplemental cash flow information related to leases was as follows:
Long-term
operating lease liabilities, less current portion
i124,043
i123,792
Total
operating lease liabilities
$
i147,756
$
i145,853
Finance
Leases
Property and equipment, at cost
$
i7,487
$
i7,499
Accumulated
depreciation
(i1,082)
(i588)
Property
and equipment, net
$
i6,405
$
i6,911
Current
portion of long-term debt
$
i424
$
i390
Long-term
debt, less current portion
i7,071
i7,390
Total
finance lease liabilities
$
i7,495
$
i7,780
Weighted
Average Remaining Lease Term
Operating leases
i6.9 years
i7.1
years
Finance leases
i10.3 years
i10.9
years
Weighted Average Discount Rate
Operating leases
i7.0
%
i7.0
%
Finance
leases
i9.8
%
i9.7
%
/
ii
Future
minimum lease payments under noncancelable operating leases, net of sublease receipts and finance leases as of September 30, 2020, are as follows:
AMERICAN RENAL ASSOCIATES HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (continued)
(Unaudited)
(dollars in thousands, except per share amounts)
Future minimum lease payments under noncancelable operating leases, net of sublease receipts and finance leases as of December 31, 2019, are as follows:
Year
Ended December 31,
Operating Leases
Less: Sublease Income
Net Operating Leases
Finance Leases
2020
$
i32,691
$
i1,607
$
i31,084
$
i1,093
2021
i31,105
i1,641
i29,464
i1,108
2022
i28,637
i1,662
i26,975
i1,123
2023
i24,242
i1,142
i23,100
i1,141
2024
i19,844
i607
i19,237
i1,188
Thereafter
i57,893
i2,575
i55,318
i7,495
Total
minimum lease payments
$
i194,412
$
i9,234
$
i185,178
$
i13,148
Less:
amount representing interest
i42,792
i5,368
Present
value of lease liabilities held for sale
i5,767
i—
Present
value of lease liabilities
$
i145,853
$
i7,780
As
of September 30, 2020, the Company has additional operating and finance lease obligations that have not yet commenced of $i1,028 and $i992,
respectively. These leases are expected to commence during fiscal year 2021, each with a lease term of ii10/
years.
11. iINCOME TAXES
The income tax expense included in the accompanying Condensed Consolidated Statements of Operations principally relates to the Company’s proportionate share of the pre-tax income of its joint venture subsidiaries.
The determination of income tax expense for interim reporting purposes is based upon the estimated effective tax rate for the year adjusted for the impact of any discrete items which are accounted for in the period in which they occur.
In prior years, the Company established a valuation allowance for certain deferred tax assets with respect to which the Company believes future taxable income levels would not be sufficient to realize the tax benefits.
The Company’s effective income tax rates for the three months ended September 30,
2020 and 2019 were (i1.1)% and (i187.0)%, respectively, and
(i6.5)% and (i134.0)% for the nine months ended September 30, 2020
and 2019, respectively. These rates differ from the federal statutory rate of 21% principally due to the Company’s adoption of alternate tax methods as more fully described below, the portion of pre-tax income that is allocable to noncontrolling interests from the Company’s joint venture subsidiaries, which are pass-through entities for income tax purposes, the valuation allowance, as well as the change in fair value of the TRA liability, which is not deductible for income tax purposes, and also other non-deductible expenses.
The CARES Act increases the tax deduction for net
operating losses from 80% to 100% for 2018 through 2020, allows net operating losses generated in 2018 through 2020 to be carried back up to five years and increases the deductible interest expense limit from 30% to 50% of taxable EBITDA. The CARES Act also permits the acceleration of tax depreciation related to certain classes of assets placed in service in prior years and increases the charitable contribution limitation from 10% to 25% for the year ended December 31, 2020. As a result of these statutory changes, during the nine months ended September 30, 2020, the Company determined it will be able to carry its 2019 net operating losses of $i22,437
back to tax years when the statutory tax rate was 35% resulting in an income tax benefit of $i3,141, which is included in income tax expense in the accompanying Condensed Consolidated Statements of Operations. As a result of the CARES Act, the Company released $i3,398
of valuation allowance during the nine months ended September 30, 2020. The Company continues to evaluate the impact of the CARES Act and takes into consideration the impact it may have on its overall tax provision.
AMERICAN RENAL ASSOCIATES HOLDINGS, INC. AND SUBSIDIARIES
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (continued)
(Unaudited)
(dollars in thousands, except per share amounts)
12. iSTOCK-BASED COMPENSATION
i
For
the three and nine months ended September 30, 2020 and 2019, stock-based compensation expense was reflected in the accompanying Condensed Consolidated Statements of Operations as follows:
On April 7, 2016, the Company approved the 2016 Omnibus Incentive Plan (the “2016 Plan”). The 2016 Plan authorized the Company to issue options and other awards to directors, officers, employees, consultants and advisors to purchase up to a total of i4,000,000
shares of common stock. As of September 30, 2020, options to purchase an aggregate ofi1,379,891 shares of common stock were available for future grants under the 2016 Plan. Additionally, there were stock options outstanding under previous stock option plans as of September 30, 2020.
iThe
assumptions used for options granted to acquire common stock during 2020 and the fair value at the date of grant under the 2016 Plan are noted in the following table:
Employees and directors are eligible to receive grants of restricted stock, which entitle the holder to shares of common stock as the awards vest. The Company determines stock-based compensation expense using the fair value method. The fair value of restricted stock is equal to the closing sale price of the Company’s common stock on the date of grant.
In March 2018, the Company granted approximately i95,000
performance-based restricted stock awards to certain executives, with a weighted average grant date fair value per share of $i22.33. These awards will vest at the end of the ithree-year
AMERICAN RENAL ASSOCIATES HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (continued)
(Unaudited)
(dollars in thousands, except per share amounts)
service period and the quantity of awards that vest is dependent upon the
Company’s achievement of defined performance metrics. The Company has determined that certain of the performance conditions for these awards have not been achieved as a result of the Restatement and the Company’s operating performance during the applicable periods, but that the remaining performance conditions are achieved but not vested as of September 30, 2020.
In December 2019, the Company granted approximately i51,500 performance-based
restricted stock awards to certain executives, with a weighted average grant date fair value per share of $i10.19. These awards will vest over the ithree-year
service period, and the quantity of awards that vest is dependent upon the Company’s achievement of defined performance metrics. The Company has determined that certain of the performance conditions for these awards will not be achieved as a result of the Company’s operating performance during the applicable periods, but that the remaining performance conditions are probable of achievement as of September 30, 2020.
In March 2020, the Company granted approximately i280,953
performance-based restricted stock awards to certain executives, with a weighted average grant date fair value per share of $i7.58. These awards will vest over the itwo-year
service period, and the quantity of awards that vest is dependent upon the Company’s achievement of a defined performance metric with multiple performance levels. The Company has determined that an amount between the threshold and target performance levels is probable of achievement and has expensed the awards to this extent as of September 30, 2020.
The Company issued i562,062
of restricted stock awards in during the nine months ended September 30, 2020, in addition to the performance-based restricted stock awards noted above.
As of September 30, 2020, a total of i1,006,188 shares
of restricted stock were unvested and outstanding, which results in unamortized stock-based compensation of $i5,180 to be recognized as stock-based compensation expense over the remaining weighted-average vesting period of i1.48
years.
i
A summary of restricted stock award activity is as follows:
In March 2020, the Company entered into a Transition Services Agreement with an executive, which included terms to modify the vesting conditions of outstanding awards. These modifications are treated as an option modification and the Company accounted for the option modification under ASC Topic 718, Compensation - Stock Compensation. As a result of these modifications, the Company recognized $(i48)
and $i222 of additional stock compensation expense during the three and nine months ended September 30, 2020, respectively.
13. i(LOSS)
EARNINGS PER SHARE
Basic (loss) earnings per share is computed by dividing net loss attributable to American Renal Associates Holdings, Inc., net of the change in the difference between the redemption value and estimated fair value for accounting purposes of the related noncontrolling interest put provisions, by the weighted-average number of common shares outstanding during the applicable period, less unvested restricted stock. Diluted earnings (loss) per share is computed using the weighted-average number of common shares outstanding during the applicable period, plus the dilutive effect of outstanding options, using the treasury stock method and the average market price of the Company’s common stock during the applicable period. Certain
AMERICAN RENAL ASSOCIATES HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (continued)
(Unaudited)
(dollars in thousands, except per share amounts)
shares related to some of the Company’s outstanding stock options were excluded from the computation of diluted earnings (loss) per share because they were anti-dilutive in the periods presented but could be dilutive in the future.
Net (loss) income
attributable to American Renal Associates Holdings, Inc.
$
(i2,691)
$
i4,777
$
(i9,130)
$
(i13,880)
Change
in the difference between the redemption value and estimated fair value for accounting purposes of the related noncontrolling interests
i—
(i1,161)
(i703)
(i877)
Net
(loss) income attributable to common shareholders
$
(i2,691)
$
i3,616
$
(i9,833)
$
(i14,757)
Weighted-average
common shares outstanding
i33,472,127
i32,281,818
i32,931,503
i32,248,791
(Loss)
earnings per share, basic
$
(i0.08)
$
i0.11
$
(i0.30)
$
(i0.46)
Diluted
Net
income (loss) attributable to American Renal Associates Holdings, Inc.
$
(i2,691)
$
i4,777
$
(i9,130)
$
(i13,880)
Change
in the difference between the redemption value and estimated fair value for accounting purposes of the related noncontrolling interests
i—
(i1,161)
(i703)
(i877)
Net
income (loss) attributable to common shareholders for diluted earnings per share calculation
$
(i2,691)
$
i3,616
$
(i9,833)
$
(i14,757)
Weighted-average
common shares outstanding, basic
i33,472,127
i32,281,818
i32,931,503
i32,248,791
Weighted-average
common shares outstanding, assuming dilution
i33,472,127
i33,618,723
i32,931,503
i32,248,791
Earnings
(loss) per share, diluted
$
(i0.08)
$
i0.11
$
(i0.30)
$
(i0.46)
Outstanding
options and restricted stock excluded as impact would be anti-dilutive
i3,142,845
i2,013,920
i3,012,959
i2,940,936
/
14.
iRELATED PARTY TRANSACTIONS
Term Loan Holdings
The Company partly financed clinic development costs of some of its JV subsidiaries by providing intercompany term loans and revolving loans through
its wholly owned operating subsidiary American Renal Associates LLC (“ARA OpCo”). On April 26, 2016, the Company transferred substantially all of the then existing intercompany term loans (“assigned clinic loans”) provided to its JV subsidiaries by ARA OpCo to a newly formed entity, Term Loan Holdings LLC (“Term Loan Holdings”), which ownership interest was distributed to pre-IPO stockholders (affiliates of Centerbridge and certain of the Company’s current and former directors and executive officers) pro
rata in accordance with their ownership in the Company. In July 2020, the remaining assigned clinic loan fully matured and was repaid.
Income Tax Receivable Agreement
On April 26, 2016, the Company entered into the TRA for the benefit of its pre-IPO stockholders, including Centerbridge and certain of its executive officers. The TRA provides for the Company to pay its pre-IPO stockholders on a pro rata basis of i85%
of the amount of cash savings, if any, in U.S. federal, state and local income tax that are actually realized as a result of any deductions (including net operating losses resulting from such deductions) attributable to the exercise of (or any payment, including any dividend equivalent right or payment, in respect of ) any compensatory stock option issued by the Company that is outstanding (whether vested or unvested) as of April 20, 2016, which is the record date set by the board of directors of the Company for this distribution. The Company recorded an estimated liability of $i23,400
based on the fair value of the TRA as of April 20, 2016. As of September 30, 2020, the Company’s total liability under the TRA is estimated to be $i2,149, including the fair value of the financial instrument of $i540
as well as accrued but unpaid obligations of$i1,609. The
AMERICAN RENAL ASSOCIATES HOLDINGS, INC. AND SUBSIDIARIES
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (continued)
(Unaudited)
(dollars in thousands, except per share amounts)
current portion of $i634 is included as a component of other accrued expenses on the Condensed Consolidated Balance Sheet. The
Company paid iiiino///
amount under the TRA for the three and nine months ended September 30, 2020 or 2019.
Due from Related Party
The Company entered into agreements with certain clinics, the members of which are also noncontrolling interest shareholders, to provide for various facility buildouts. In connection with these agreements, the Company provided financing in the initial total amount of $i3,142.
As of September 30, 2020, the loans had maturities ranging from March 2026 to September 2033 and interest rates ranging from i6.0% to i8.1%,
with a weighted average interest rate of i6.1%. Fixed principal and interest payments with respect to such loans are payable monthly. As of September 30, 2020, the remaining balance to be paid to the Company was $i2,886,
of which $i226 is included in Prepaid expenses and other current assets and $i2,660 is included in Other long-term assets on the Condensed Consolidated Balance Sheet.
Transactions
with Executive Officer
The Company licenses software relating toelectronic medical record solutions from Kinetic Decision Solutions LLC (“Kinetic”) which is owned i51% by an executive officer of the Company, and i2.5%
by his spouse. The executive is also Co-Founder, Chief Executive Officer and Managing Partner of Kinetic. Under the terms of this arrangement, the Company paid to Kinetic $i257 and $i232
during each of the nine months ended September 30, 2020 and 2019, respectively.
The executive officer and his spouse, through a trust in which the executive officer’s spouse is trustee and beneficiary, are partners in certain of the Company’s clinic JVs. The clinics in which the executive officer and/or his spousal trust have an ownership interest all receive intercompany revolving loans made through the Company, and have a portion of their financing in the form of term loans held by Term Loan Holdings. As of September 30, 2020, the aggregate principal amount outstanding
of the intercompany revolving loans and assigned clinic loans made to the Company’s joint ventures in which the executive officer and/or his spousal trust have an ownership interest was approximately $i1,704. As of September 30, 2020, such loans had maturities ranging from August 2022 to August 2024, with a weighted average maturity of approximately i2.84
years (August 2023), and interest rates ranging from i4.08% to i4.62%, with a weighted average interest rate of i4.35%.
Fixed principal and interest payments with respect to such loans are payable monthly. Each loan is secured by the assets of the applicable joint venture clinic and is, and will continue to be, guaranteed by the Company and the executive officer and/or his spousal trust in proportion to each party’s ownership interests in the applicable joint venture. Based on their proportionate ownership interest in such joint ventures, the executive officer and/or his spousal trust guaranteed approximately $i557 of such outstanding
loans as of September 30, 2020.
Consulting Agreement with Board Member
ECG Ventures, Inc., an entity wholly owned by a member of the Board provided consulting services to the Company in the amount of $i275 during the three months ended September 30,
2020.
15. iCOMMITMENTS AND CONTINGENCIES
Income Tax Receivable Agreement
As described in “Note 14 — Related Party Transactions,”the
Company is a party to the TRA under which it is contractually committed to pay its pre-IPO stockholders on a pro rata basis i85% of the amount of cash savings, if any, in U.S. federal, state and local income tax that it actually realizes (or are deemed to realize in the case of an early termination payment by the Company, or a change of control, as discussed below) as a result of any option deductions (as defined in the TRA). The actual amount and timing of any payments under the TRA will
vary depending upon a number of factors, including the amount and timing of taxable income the Company generates in the future, changes in the income tax rate, whether and when any relevant stock options, as defined in the TRA, are exercised and the value of its common stock at the time of such exercise.
AMERICAN RENAL ASSOCIATES HOLDINGS, INC. AND SUBSIDIARIES
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (continued)
(Unaudited)
(dollars in thousands, except per share amounts)
Regulatory
The healthcare industry is subject to numerous laws and regulations of federal, state, and local governments. Government activity has increased with respect to investigations and allegations concerning possible violations by healthcare providers of fraud and abuse statutes and regulations, which could result in the imposition of significant fines and penalties, as well as significant repayments for patient services previously billed. Compliance with such laws and regulations are subject to government review and interpretations, as well as regulatory actions
unknown or unasserted at this time.
16. iCERTAIN LEGAL AND OTHER MATTERS
The following is a description of certain lawsuits, claims, governmental investigations and audits and other legal proceedings to which the Company is subject.
Government
Inquiries and Investigations
On January 3, 2017, the Company received a subpoena from the United States Attorney’s Office, District of Massachusetts, requesting certain information relating to the Company’s payments and other interactions with the American Kidney Fund and any efforts to educate patients qualified or enrolled in Medicare or Medicaid about enrollment in ACA-compliant individual marketplace plans, among other related matters under applicable healthcare laws. As the Company has done with the other regulators who have expressed interest in such matters, the
Company cooperated fully with the government. The Company believes that this investigation related to a complaint, unsealed on August 1, 2019 in the U.S. District Court for the District of Massachusetts, that named certain of its competitors, the AKF and certain unidentified parties as defendants. The complaint alleges violations of the federal False Claims Act and various state false claims acts. The Department of Justice elected not to intervene in the matter. While the Company was not identified as a defendant in the matter, the Company can make no assurance that it will not be named as one of the unidentified defendant parties.
In
October 2018, the Staff of the SEC requested that the Company voluntarily provide documents and information relating to certain revenue recognition, collections and related matters. Following receipt of the SEC request, the Company responded by producing documents and information to the Staff. On March 27, 2019, the Company filed a Current Report on Form 8-K (the “March 27 Form 8-K”) that described, among other things, certain preliminary findings arising from the review being conducted by the Audit Committee of the Board, which commenced following receipt of the SEC request. On March 28, 2019, the
Company received a subpoena from the Staff of the SEC, which reiterated the SEC’s prior request and required the production of additional documents and information relating to the matters disclosed in the March 27 Form 8-K and related matters. The Company has since received additional subpoenas for documents and other requests from the SEC related to this investigation and may receive more in the future. The SEC has also issued subpoenas for testimony to certain current and former Company employees. The Company has cooperated fully with this investigation and will continue to do so.
Shareholder and Derivative Claims
On March
28, 2019 and April 19, 2019, putative shareholder class action complaints were filed in the United States District Court for the District of New Jersey against the Company and certain of its current and former executive officers. Both complaints alleged violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), and Rule 10b-5 thereunder related to the matters disclosed in the March 27 Form 8-K and certain prior filings. The complaints sought unspecified damages on behalf of the individuals or entities that purchased or otherwise acquired ARA’s securities from August 10, 2016 to March 27, 2019. On July 3, 2019, the complaints
were consolidated and a lead plaintiff was appointed for the putative shareholder class action complaint, captioned Ali Vandevar, et al. v. American Renal Associates Holdings Inc., et al., No. 19-cv-09074-ES-MAH (the “Vandevar Action”). On November 11, 2019, the lead plaintiff filed a consolidated amended complaint against the Company and certain of its current and former executive officers. The amended complaint asserts federal securities laws claims under Sections 10(b) and 20(a) of the Exchange Act and Rule 10b-5 thereunder related to the matters disclosed in the March 27 Form 8-K and certain prior filings. On January 17, 2020, the Company filed
a motion to dismiss the amended complaint. On February 24, 2020, the lead plaintiff filed an opposition to the motion to dismiss. On February 26, 2020, the parties participated in a mediation. On March 11, 2020, the parties reached an agreement in principle to resolve the claims asserted in this lawsuit. On June 25, 2020, the parties signed a definitive settlement agreement and filed with the Court a Stipulation and Agreement of Settlement, which sets forth the terms and conditions for settlement. On
AMERICAN
RENAL ASSOCIATES HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (continued)
(Unaudited)
(dollars in thousands, except per share amounts)
September 3, 2020, the United States District Court for the District of New Jersey granted an order preliminarily approving the proposed settlement, subject to further consideration at a hearing to be held on January 12, 2021. The principal terms agreed upon by the parties contemplate a settlement payment of $i5,775,
which will be made by the Company’s insurer, in exchange for a release of claims. The settlement will resolve the claims asserted against all defendants in the action without any liability or wrongdoing attributed to them, and defendants continue to deny all of the allegations and claims asserted in this action.
On July 25, 2019, a derivative lawsuit, Luke Johnson v. Joseph A. Carlucci, et al., 2:19-CV-15812-JMV-JBC, was filed, purportedly on behalf of the Company, in the United States District Court for the District of New Jersey against the then current members of the
Company’s board of directors and certain of its current and former executive officers. The lawsuit asserts claims for violations of Section 14(a) of the Exchange Act, breach of fiduciary duties, unjust enrichment and waste of corporate assets based on, among other things, the Restatement and the related material weaknesses in the Company’s internal control over financial reporting, alleged misstatements and omissions in the Company’s 2017 and 2018 proxy statements, compensation paid to the individual defendants and the costs incurred in connection with the Restatement process. The lawsuit seeks, among other things, recovery of damages sustained by the Company as a result of the individual defendants’ alleged
misconduct, a direction to the Company to hold an annual meeting of stockholders and reforms to the Company’s corporate governance and internal procedures. The complaint also seeks restitution and costs and attorney’s fees. On October 4, 2019, the court stayed the lawsuit until final resolution of the Vandevar Action. On February 26, 2020, the parties participated in a mediation, following which, on March 27, 2020, the parties reached an agreement in principle to resolve all asserted claims. On July 2, 2020, the parties signed a definitive settlement agreement and filed with the Court a Stipulation and
Agreement of Settlement. On September 14, 2020, the United States District Court for the District of New Jersey granted an order preliminarily approving the proposed settlement, subject to further consideration at a hearing to be held on December 14, 2020. The principal settlement terms contemplate certain corporate governance actions taken by the Company and the payment by the Company’s insurer of up to $i413
for plaintiff’s attorney’s fees, in exchange for a release of claims. The settlement will resolve the claims currently asserted against all defendants in the action without any liability or wrongdoing attributed to them, and defendants will continue to deny all of the allegations and claims asserted in this action.
The Company, the Board, and its current and former executive officers could become subject to additional litigation relating to these matters.
Other
From time to time, the Company is subject to various legal actions and proceedings involving
claims incidental to the conduct of its business, including contractual and related disputes and professional and general liability claims, as well as audits and investigations by various government entities. Contractual and related disputes include those with commercial payors, noncontrolling interest holders and others. Based on information currently available, established reserves, available insurance coverage and other resources, the Company does not believe that the outcomes of any such pending actions, proceedings or investigations are likely to be, individually or in the aggregate, material to its business, financial condition, results of operations or cash flows. However, legal actions and proceedings are subject to inherent uncertainties, and it is possible that the ultimate resolution of such matters, if unfavorable, may be materially adverse to the
Company’s business, financial condition, results of operations or cash flows.
No assurance can be given as to the timing or outcome of the legal matters discussed above, nor can any assurance be given as to whether the filing of these lawsuits and any inquiries will affect the Company’s business relationships, or the Company’s business generally. The Company cannot predict the outcome of any of these matters, and an adverse result in one or more of them could have a material adverse effect on the Company’s business, results of operations
and financial condition.
Although the Company is not currently subject to any formal regulatory investigations or proceedings other than those described herein, there is no assurance that any such investigations or proceedings will not be commenced by any U.S. federal or state healthcare or other regulatory agencies. In addition, the Company may in the future be subject to additional inquiries, investigations, litigation or other proceedings or actions, regulatory or otherwise, arising in relation to the matters described above and related litigation and investigative matters. An unfavorable outcome of any such litigation or regulatory proceeding or action could have a material adverse effect on the
Company’s business, financial condition and results of operations.
AMERICAN RENAL ASSOCIATES HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (continued)
(Unaudited)
(dollars in thousands, except per share amounts)
The
Company also records in Certain legal and other matters, legal fees and other expenses relating to matters that it believes do not reflect its core business operations.
Resolved Matters
The wholly owned operating subsidiary of ARA, American Renal Associates LLC (“ARA OpCo”), and its subsidiary, American Renal Management LLC (“ARM”), were defendants in lawsuits filed by affiliates of UnitedHealth Group Incorporated (“United”) in the United States District Court for the Southern District of Florida (Case Number 9:16-cv-81180-KAM), filed July 1, 2016, and the United States District Court for the District of Massachusetts (Case Number 1:18-cv-10622-ADB), filed March 30, 2018. On July
2, 2018, ARA OpCo and ARM executed a binding Settlement Term Sheet with the plaintiffs with respect to a settlement to resolve all ongoing litigation between the Company and United, and on August 1, 2018, the parties entered into a final settlement agreement (the “Settlement Agreement”) on substantially the same terms as provided in the Settlement Term Sheet. The Settlement Agreement included a release of all claims arising from or related to the above-referenced litigations that were asserted or that could have been asserted against the Company or against the nephrologists or other healthcare providers who have entered into joint venture arrangements or medical directorships with the
Company (the “Joint Venture Providers”) and the joint venture entities without any admission of liability or wrongdoing. Pursuant to the Settlement Agreement, the Company will make total settlement payments of $i32,000, inclusive of administrative fees and fees for plaintiffs’ counsel, in ifive
installments, with an initial present value of $i29,614, which is included in Certain legal and other matters in the Consolidated Statement of Operations during the year ended December 31, 2018. As of September 30, 2020, of the remaining present value of $i5,865,
$i3,056 is classified as Accrued expenses and other current liabilities and $i2,809 is classified in Other
long-term liabilities. The Company paid the first installment of $i10,000 on August 1, 2018, the second installment of $i8,000August 1, 2019 and the third installment of $i7,000 on August 1, 2020. The Company expects to pay the fourth installment of $i3,500
on August 1, 2021 and the final installment of $i3,500 on August 1, 2022. The Company also agreed to share certain information with United and to follow certain procedures with respect to patients covered by United. Subject to the mutual releases provided in the Settlement Agreement, United also agreed to renew, reinstate, and/or not to terminate the network agreements for any
Joint Venture Providers whose network agreements United terminated or chose not to renew from August 1, 2017 through the date of the Settlement Agreement. The Settlement Agreement included customary terms and conditions. In connection with the Settlement Agreement, the Company also entered into a ithree-year national network agreement with United on August 1, 2018 that provides for specified reimbursement rates for patients covered by Medicare
Advantage, Medicaid HMO and commercial insurance products over the term of the agreement. The in-network agreement went into effect on September 1, 2018.
17.iCHANGES IN OWNERSHIP INTEREST IN CONSOLIDATED SUBSIDIARIES
On October 1, 2020, the Company entered into an Agreement and Plan of Merger (the “Merger Agreement”) with IRC Superman Midco, LLC, a Delaware limited liability company (“Parent”) and an affiliate of Nautic Partners, LLC, and Superman Merger Sub, Inc., a Delaware corporation and wholly owned subsidiary of Parent (“Merger Sub”).
The Merger Agreement provides, among
other things and subject to the terms and conditions set forth therein, (i) Merger Sub will be merged with and into the Company, with the Company surviving as a wholly owned subsidiary of Parent (the “Merger”), and (ii) at the Effective Time (as defined in the Merger Agreement), and as a result of the Merger, each share of common stock that is issued and outstanding immediately prior to the Effective Time (other than (i) shares owned by Parent, Merger Sub or any other direct or indirect wholly owned subsidiary of Parent immediately prior to the Effective Time and shares owned by ARA, including shares held in treasury by ARA, and in each case not held on behalf of third parties, and (ii) shares as to which the holders thereof have properly demanded appraisal with respect thereto under Delaware
law and have not effectively withdrawn such demand) will be converted automatically into and will thereafter represent the right to receive $i11.50 in cash, without interest, subject to any Tax withholdings required by applicable law.
The closing of the Merger is subject to customary closing conditions, including, among others, the following conditions to the obligations of either party: (i) the adoption of the Merger Agreement by the holders of a majority of the
Company’s outstanding shares of common stock; (ii) the absence of any applicable law or governmental order prohibiting, restraining or enjoining the consummation of the Merger; (iii) the expiration or termination of any applicable waiting period (and extension thereof) under the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended, and receipt of any required approvals thereunder; (iv) the accuracy of the other party’s representations and warranties in the Merger Agreement, subject to customary exceptions; and (v) the other party’s performance and compliance with its covenants and obligations under the Merger Agreement in all material respects. Furthermore, the consummation of the Merger is subject to the following additional conditions to the obligations of Parent and Merger Sub: (i) the absence of a Material Adverse Effect (as defined in the Merger Agreement) with respect to the
Company and its subsidiaries, taken as a whole, and (ii) the receipt of certain specified healthcare regulatory approvals.
Voting and Support Agreement
Concurrently with the execution of the Merger Agreement, Centerbridge Capital Partners, L.P. and certain of its affiliates (collectively, the “Centerbridge Stockholders”), which together beneficially own approximately i53.4%
of the outstanding shares of common stock of the Company, entered into a Voting and Support Agreement with Parent pursuant to which, among other things and subject to the terms and conditions therein, the Centerbridge Stockholders agreed to vote their shares of Company common stock (i) in favor of the adoption and approval of the Merger Agreement and the transactions contemplated thereby, including the Merger, (ii) against any action or agreement that would reasonably be expected to result in a breach of any obligation of the Company or any of its subsidiaries or affiliates under the Merger Agreement or that would reasonably be expected to result in any of the conditions to the
Company’s or any of its subsidiaries’ or affiliates’ obligations under the Merger Agreement not being fulfilled, and (iii) against (a) any Acquisition Proposal, (b) any agreement, transaction or other matter intended to or reasonably expected to materially and adversely affect the consummation of the transactions contemplated by the Merger Agreement, including the Merger, (c) any reorganization, recapitalization, dissolution or liquidation of the Company or its subsidiaries, (d) any change in the majority of the Board, and (e) any material change in the Company’s capitalization or corporate structure. In addition,
each Centerbridge Stockholder waived appraisal rights.
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This discussion contains management’s discussion and analysis of our financial condition and results of operations for the period covered by this Form 10-Q
and should be read in conjunction with the unaudited condensed consolidated financial statements and notes thereto included e
lsewhere in this Form 10-Q and the audited consolidated financial statements and the notes thereto included in our Form 10-K for the fiscal year ended December 31, 2019 (the “2019 Form 10-K”).
The following discussion contains forward-looking statements that reflect our plans, estimates and beliefs and involve numerous risks and uncertainties. Actual results may differ materially from those contained in any forward-looking statement, due to a number of factors, including those discussed in the section of this Form 10-Q entitled “Forward-Looking Statements” and the section entitled “Risk Factors” in
this Form 10-Q and in the 2019 Form 10-K. You should read these sections carefully.
Executive Overview
We are the largest dialysis services provider in the United States focused on joint venture partnerships with physicians. We provide high-quality patient care and clinical outcomes through physicians, known as nephrologists, who specialize in treating patients suffering from end stage renal disease (“ESRD”). Our core values create a culture of clinical autonomy and operational accountability for our nephrologist partners and staff members.
We derive our patient service operating revenues from providing outpatient and inpatient dialysis treatments. The sources of payment of these patient
service operating revenues are principally government-based programs, including Medicare, Medicaid and U.S. Department of Veterans Affairs (“VA”) plans, as well as commercial insurance plans. Substantially all of our payors (both government-based and commercial) have moved toward a bundled payment system of reimbursement, with a single lump-sum per treatment covering not only the dialysis treatment itself but also the ancillary items and services provided to a patient during the treatment, such as laboratory services and pharmaceuticals.
We operate our clinics principally through the joint venture (“JV”) model, in which we share the ownership and operational responsibility of our dialysis clinics with our nephrologist partners and other joint venture partners, while the providers of the majority of dialysis services in the United States operate through a combination
of wholly owned subsidiaries and joint ventures. Substantially all of our clinics are maintained as separate joint ventures in which generally we have the controlling interest and our nephrologist partners and other joint venture partners have a noncontrolling interest. We believe that our focus on a JV model makes us well-positioned to increase our market share by attracting nephrologists who are interested in our service platform and want greater clinical autonomy and a potential return on capital investment associated with ownership of a noncontrolling interest in a dialysis clinic. We believe the JV model best aligns our interests with those of our nephrologist partners and their patients. By owning a portion of the clinics where their patients are treated, our nephrologist partners have a shared interest in the quality, reputation and performance of the clinics. We believe
that this enhances patient and staff satisfaction and retention, clinical outcomes, patient growth, and operational and financial performance.
Subsequent to quarter end, on October 1, 2020, we entered into an Agreement and Plan of Merger (the “Merger Agreement”) with IRC Superman Midco, LLC, a Delaware limited liability company (“Parent”) and an affiliate of Nautic Partners, LLC, and Superman Merger Sub, Inc., a Delaware corporation and wholly owned subsidiary of Parent (“Merger Sub”), pursuant to which Parent will acquire ARA for $11.50 per share through the merger
of Merger Sub with and into ARA, with ARA surviving as a wholly owned subsidiary of Parent (the “Merger”). The closing of the Merger is subject to customary closing conditions, including the approval of our stockholders and regulatory approvals.
Voting and Support Agreement
Concurrently with the execution of the Merger Agreement, Centerbridge Capital Partners, L.P. and certain of its affiliates (collectively, the “Centerbridge Stockholders”), which together beneficially own approximately 53.4% of the outstanding shares of ARA’s common stock, entered into a Voting and Support Agreement with Parent pursuant to which, among other things and subject to the terms and conditions therein, the Centerbridge Stockholders agreed to vote their shares of
Company common stock in favor of the adoption and approval of the Merger Agreement and the transactions contemplated thereby, including the Merger. In addition, each Centerbridge Stockholder waived appraisal rights.
COVID-19 Pandemic
In December 2019, there was an outbreak of a new strain of severe acute respiratory syndrome coronavirus 2, or SARS-CoV-2 (“COVID-19”), and in March 2020, the World Health Organization declared the outbreak of COVID-19, the disease caused by the SARS-CoV-2 virus, a pandemic. As a provider of essential healthcare services, we are significantly exposed to the health and economic effects of COVID-19 but have an obligation to continue
providing our life-sustaining dialysis services and are doing so with a critical focus on the safety and well-being of our patients, staff and physician partners.
We began to experience increased expenses and a reduction in treatment volume in connection with the pandemic beginning in March. The impacts on our operating and financial performance due to the COVID-19 pandemic became more significant in the second quarter and continued through the third quarter. We expect these impacts may continue beyond the fourth quarter.
The situation surrounding COVID-19 remains fluid, and we continue to carefully monitor the impacts of the COVID-19 pandemic on our operating and financial performance. We cannot at this time accurately predict the ultimate impacts that
COVID-19 will have on our operating and financial performance, but the adverse impacts may be material.
We began to experience increased expenses and a reduction in treatment volume in connection with the pandemic beginning in March. For the nine months ended September 30, 2020, we incurred an additional $14.3 million in operating expenses as a result of the measures we have taken in response to COVID-19, of which $13.4 million were offset by grant funds received under the Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”). We expect the impacts to continue.
We have undertaken measures designed to mitigate these impacts, including acceptance of government assistance intended to
offset certain impacts, but these measures may not be sufficient to fully offset the operating and financial effects on our business from the pandemic. The amounts and types of future revenue, expense and cash flow impacts will depend on numerous factors, including the rate of spread of COVID-19, impacts on our employees, patients, physician partners, suppliers and other business partners, the pandemic’s impact on the U.S. economy, the administrative developments related to the pandemic at the federal, state and local levels, and the results of our mitigation efforts, including our infectious disease prevention and control efforts. See “—Item 1A. Risk Factors—The ongoing COVID-19 pandemic and responses thereto have adversely affected, and we expect will continue to adversely affect, our business, results of operations and financial condition.”
Taking Care of our Patients and Staff
The
safety of our patients, staff and physician partners continues to be our primary focus, and we have undertaken and will continue to undertake steps to provide for their protection and enable our continued operation in the face of the pandemic. We are following Centers for Disease Control and Prevention (“CDC”) guidance and working closely with local and national health authorities to ensure we implement and maintain appropriate infection control and clinical best practices in response to COVID-19. In addition, our dedicated COVID-19 task force has proactively implemented business continuity plans and developed measures to ensure the ongoing availability of our dialysis services while maintaining patient and staff safety. Measures we have implemented include:
•Restricting entry to our clinics to only patients, staff and medical professionals;
•Screening
all individuals for symptoms and exposure to COVID-19 before allowing access to our clinics;
•Implementing a mask policy for every patient and staff member who enters our clinics and requiring that masks be worn at all times in our clinics;
•Increased purchases and use of personal protective equipment for patients and staff and of cleaning and sanitization materials at our facilities to maintain infection control protocols that meet CDC guidelines;
•Securing COVID-19 testing for patients and staff;
•Implementing screening procedures for corporate office staff prior to entering our corporate offices, requiring social distancing within workspaces and throughout our corporate offices, and restricting
access to our corporate offices to only ARA staff;
•Engaging a physician infectious disease consultant to assist us in the development of policies and procedures to protect our patients and staff;
•Establishing dedicated COVID-19 treatment shifts at certain of our clinics, where necessary, to care for patients with confirmed or suspected COVID-19 infection; and
•Modifying our sick leave policy to accommodate quarantine and isolation when warranted.
In
addition to these safety measures, in March 2020 we implemented a hazard pay program to provide increased pay to our clinic staff on the front lines of the pandemic. This program remains in place for those clinic staff who provide direct care to patients who have been identified as COVID-19 positive, but it may be further amended or discontinued as appropriate in light of developments with the pandemic.
These and other measures taken in response to COVID-19 have resulted in increased operating expenses, including higher salary and wage expense from the hazard pay program, incremental hours and overtime needed to staff the dedicated treatment shifts for patients with confirmed or suspected COVID-19, increased expenses from the higher utilization and cost of personal protective equipment, and additional costs to purchase additional supplies and cleaning materials. In addition, we have
incurred additional corporate office costs related to legal, consulting costs and cleaning costs, as well as increased purchases of computer equipment and information technology to provide additional infrastructure for staff who work remotely. For the nine months ended September 30, 2020, we estimate that we incurred an additional $14.3 million in operating expenses as a result of the measures we have taken in response to COVID-19, $13.4 million of which were offset by grant funds received under the CARES Act which was enacted on March 27, 2020 in response to the pandemic. The CARES Act is a relief package intended to assist many aspects of the American economy, and includes provisions to expand existing and introduce new programs to provide additional sources of liquidity to healthcare providers. We expect to incur many of these additional operating expenses for the duration
of the pandemic, and if the severity of the pandemic increases, these additional expenses could increase.
Lost Revenue
Patients suffering from end-stage renal disease often have co-morbidities that place them at increased risk with COVID-19, which may result in increased patient hospitalizations, missed treatments and higher mortality. While many of our COVID-19 positive patients have recovered, missed treatments, including mortality, associated with COVID-19 positive patients during the third quarter resulted in an estimated 1.7% reduction in treatment volume compared to the three months ended September 30, 2019, which resulted in an estimated $2.8 million decrease in patient service operating revenues, net of direct patient care costs, during the
quarter, $1.9 million of which were offset by grants under the CARES Act, which is reflected as Other income - CARES Act on the condensed consolidated statements of operations for the three months ended September 30, 2020.
Since the end of the second quarter, we have seen an increase in the number of infected patients, but this number currently remains below peak levels experienced during the second quarter. The adverse impact on our treatment volume could increase in the event of a prolonged or increasingly severe pandemic. Further, broad economic factors resulting from the pandemic, including increasing unemployment rates, may lead to increases in uninsured patients and patients with lower-paying government insurance programs. The impact of this may be delayed or mitigated as a result of patients accessing COBRA and exchange plans
but could have a material impact on our longer term earnings. A significant reduction in our treatment volume or in the number of patients with commercial insurance would have a material adverse effect on our revenues, earnings and cash flows.
Expense Management
In light of our increased expenses and the impact to revenue from the COVID-19 pandemic, we have and will continue to implement cost saving initiatives, including temporary reductions in executive compensation, reducing discretionary spending, including travel, increased management of existing corporate headcount and other temporary corporate expense initiatives. To date, these cost savings initiatives have not directly impacted clinic staff or regional operations teams that are providing on-site support to our clinics during the pandemic. We
also have re-prioritized our capital expenditures and continued our slower pace of de novo clinic development. Our expense reduction initiatives may not offset the additional expenses and reductions in revenue resulting from the pandemic in the event we exhaust government funds provided for this purpose.
Balance Sheet, Cash Flow and Liquidity
As of September 30, 2020, we had consolidated cash of $136.5 million, of which $59.5 million was provided by advance payments on future Medicare revenue under the Accelerated and Advance Payment Program (“Advance Payments”) as expanded by the Centers for Medicare and Medicaid Services in a regulatory action unrelated
to the CARES Act.
In addition, as of September 30, 2020, we had $9.8 million of restricted cash, representing CARES Act grant funds available for qualifying expenses and lost revenues for the remainder of the qualifying period.
As of September 30, 2020, we had $32.0 million of borrowing capacity available under our 2017 Revolving Credit Facility, and we were in compliance with the consolidated net leverage
ratio covenant in our Credit Agreement. While we believe our cash balance and cash flows from operations provide sufficient liquidity for at least the next 12 months, we continue to take steps to enhance our financial flexibility, including the expense management initiatives discussed above. Additionally, we are closely managing our working capital as we continue to bill and collect for services rendered and extend payments on traditional accounts payables where appropriate. During the third quarter of 2020, we did not experience any significant issues in billing or cash collections directly associated with the COVID-19 pandemic; however, we may experience delays in the future due to lower claims operations staffing levels and longer call waiting times at certain of our commercial payors. In connection with the Merger, we agreed to limit our drawdowns under our 2017 Revolving Credit Facility through the date of the closing of the proposed merger to $2 million plus any
fees incurred and limit total additional borrowings to $4 million.
During April 2020, our facilities received approximately $27 million in the aggregate in healthcare provider relief grant funds provided under the CARES Act. These funds are subject to terms and conditions established by the U.S. Department of Health and Human Services, including that they may only be used to offset lost revenue and increased expenses attributable to the COVID-19 pandemic. As of September 30, 2020, we had utilized $16.8 million of these funds. In accordance with the guidance issued by HHS, we can utilize these funds through June 30, 2021, at which point any unused funds will be returned.. Our ability to utilize and retain some or all of the remaining provider relief grant funds will depend on the magnitude,
timing and nature of the impact of COVID-19.
The CARES Act also provides for deferred payment of the employer portion of social security taxes through the end of 2020, with 50% of the deferred amount due December 31, 2021 and the remaining 50% due December 31, 2022. For the third quarter, we deferred payment of $3.9 million as a result of this provision. We expect this provision of the CARES Act to provide an additional $3.5 to $4.5 million of liquidity during the remainder of the current year. Furthermore, the CARES Act also provides for tax code relief that we estimate will result in cash tax benefits of approximately $5 million during the current year.
The CARES Act also suspended for the period
from May 2020 through December 2020 the 2% Medicare sequestration reimbursement reduction that has been in place since April 1, 2013. As a result, we received an increase in patient service operating revenues of $1.7 million during the third quarter from this suspension, and we currently expect to receive an estimated additional $2.0 million for the remainder of the year.
In April 2020, our facilities also applied for and received an aggregate of approximately $83 million in Advance Payments. Funds received under this program represent 90 days’ worth of advances on future Medicare payments to healthcare providers and will be required to be repaid, interest-free, by our facilities. We used $19 million of these Advance Payments to reduce clinic-level debt, and the remaining funds are included
in our consolidated cash as of September 30, 2020 to provide us with additional liquidity during the current year. Medicare payments will be reduced for 11 months beginning April 2021 by 25%. If the advances have not been fully recouped by March 2022. Medicare payments will be reduced by 50% until all advanced funds are recouped.
We continue to closely monitor legislative actions at federal and state levels, including the impact of the CARES Act and other governmental assistance, on our business.
40
Key Factors Affecting Our Results
of Operations
Clinic Growth and Start-Up Clinic Costs
Our results of operations are dependent on increases in the number of, and growth at, our de novo clinics and acquired clinics, as well as growth at our existing clinics. As of September 30, 2020, we had developed 199 de novo clinics and acquired 53 clinics. The following table shows the number of de novo and acquired clinics over the periods indicated:
(1)Clinics formed by us which began to operate and dialyze patients in the applicable period.
(2)Clinics acquired by us in the applicable period.
(3)Clinics sold or merged by us in the applicable period.
De novo
clinics. We have primarily grown through de novo clinic development. A typical de novo facility requires approximately $1.9 to $2.2 million of capital for equipment purchases, leasehold improvements and initial working capital. For the three months ended September 30, 2020 and 2019, our development capital expenditures incurred in connection with our de novo clinic development were $2.1 million and $2.9 million, respectively, representing 1.0% and 1.4% of our quarterly patient service operating revenues, respectively. A portion of the total capital required to develop a de novo clinic may be equity capital funded by us and our nephrologist partners in proportion to our respective ownership interests. The balance of such development cost may be funded through third-party debt financing or through intercompany loans provided by one of our wholly owned
subsidiaries to the joint venture entity that, in each case, we and our nephrologist partners generally guarantee on a basis proportionate to our respective ownership interests. In the three months ended September 30, 2020, as in recent quarters as we emerged from the process of restating certain of our prior financial statements during the fiscal year ended December 31, 2019, we had a slower pace of de novo clinic development. With the COVID-19 pandemic, we expect that our slower pace of de novo clinic development will continue through the remainder of 2020 and possibly beyond.
Our results of operations have been and will continue to be affected by the timing and number of openings, the
timing of certifications and the amount of clinic opening costs incurred in conjunction with our de novo clinics program. In particular, our patient care costs on an absolute basis and as a percentage of our patient service operating revenues may fluctuate from quarter to quarter due to the timing and number of de novo clinic openings, which affect our operating income in a given quarter. Our patient care costs reflect pre-opening expenses, which primarily consist of staff expenses, including the costs of hiring and training new staff, as well as rent and utilities. In addition, a de novo clinic builds its patient volumes over time and, as a result, generally has lower revenue than our existing clinics. Newly established de novo clinics, although contributing to increased revenues, have adversely affected our results of operations in the short term due to a smaller patient base to absorb operating expenses.
We
consider a de novo clinic to be a “start-up clinic” until the earlier of 18 months or the first month it generates positive clinic-level EBITDA, which differs from our consolidated EBITDA in that management fees, consisting of a percentage of the clinic’s net revenues paid to ARA for management services, are eliminated in consolidation but are reflected on a clinic-level basis.Start-up clinic losses affect the comparability of our results from period to period and may disproportionately impact our operating margins in any given quarter, including quarters during which we have a significant number of clinics qualifying as start-up clinics. The following table sets forth the number of de novo clinics opened during the periods indicated:
41
Three
Months Ended
March 31,
June 30,
September 30,
December 31,
Total
2020
1
4
1
—
6
2019
2
2
1
2
7
2018
1
5
2
5
13
2017
3
2
1
9
15
2016
2
6
5
7
20
Existing
clinics. Depending on demand and capacity utilization, we may have space within our existing clinics to accommodate a greater number of dialysis stations or operate additional shifts in order to increase patient volume without compromising our quality standards. Such expansions leverage the fixed cost infrastructure of our existing clinics. From January 1, 2015 to September 30, 2020, we added 127 dialysis stations to our existing clinics, representing the equivalent of nearly eight de novo clinics.
Acquired clinics. We have also grown through acquisitions of existing clinics, and our results of operations have been and will continue to be affected by the timing and number of our acquisitions. Our acquisition strategy
is primarily driven by the quality of the nephrologist in the market. We opportunistically pursue acquisitions in situations where we believe the clinic offers us an attractive opportunity to enter a new market or expand within an existing market.
Our clinic growth drives our treatment growth. The following table summarizes the sources of our treatment growth for the periods indicated:
Three
Months Ended September 30,
Nine Months Ended September 30,
Source of Treatment Growth:
2020
2019
2020
2019
Non-acquired treatment growth(1)
0.1
%
5.8
%
2.1
%
4.9
%
Normalized
non-acquired treatment growth(2)
3.2
%
5.7
%
3.7
%
5.6
%
Acquired treatment growth(3)
—
%
2.3
%
0.1
%
2.1
%
Total
treatment growth
0.1
%
8.1
%
2.2
%
7.1
%
Normalized total treatment growth(2)
3.2
%
7.9
%
3.8
%
7.7
%
_____________________________
(1)Represents
net growth in treatments attributable to clinics operating at the end of the period that were also open at the end of the prior period and de novo clinics opened since the end of the prior period.
(2)We calculate normalized total treatment growth and normalized non-acquired treatment growth by dividing the number of treatments performed during the applicable period by the number of treatments performed during the corresponding prior period, excluding the number of treatments performed at clinics divested subsequent to the corresponding prior period and, for the three and nine months ended September 30, 2020, the number of missed treatments, which includes mortality, associated with COVID-19 positive patients, and expressing the resulting number as a percentage. The calculation of normalized treatment growth and normalized non-acquired treatment growth
is further adjusted to equalize the number of treatment days during the applicable period with the corresponding prior period, to the extent there are differences due to the calendar. We estimate that missed treatments associated with COVID-19 positive patients resulted in an approximately 1.7% and 0.9% impact to our treatment growth for the three and nine months ended September 30, 2020, respectively.
(3)Represents net growth in treatments attributable to clinics acquired since the end of the prior period.
Sources of Payment of Revenues by Payor
Our patient service operating revenues are principally driven by our mix of commercial and government payor patients and commercial and government
payment rates. We are generally paid more for services provided to patients covered by commercial healthcare plans than we are for patients covered by Medicare or Medicaid. ESRD patients covered by employer group health plans generally transition to Medicare coverage after a maximum of 33 months. Medicare payment rates are determined under the Medicare ESRD prospective payment rate system (“PPS”), a bundled payment system, which sets a base rate on an annual basis that is subject to adjustments to arrive at the actual payment rate for individual clinics. Effective January 1, 2018, under the Medicare ESRD PPS Transitional Drug Add-on Payment Adjustment Program (“TDAPA”), calcimimetic pharmaceuticals became reimbursable as an add-on to the base rate. During the years ended December 31, 2019, 2018 and 2017,
the Medicare ESRD PPS payment rates for our clinics were approximately $279, $281 and $248, respectively, per
42
treatment, including payments under the TDAPA program for the years ended December 31, 2019 and 2018. The Centers for Medicare and Medicaid Services (“CMS”) issues annual updates to the ESRD PPS, which may impact the base rate as well as the various adjusters. The ESRD PPS final rule for 2019 released on November 1, 2018 by CMS increased the base rate from $232.37 to $235.27. The ESRD PPS final rule for 2020 was released on October 31, 2019 by CMS (the “2020
Final Rule”). The 2020 Final Rule includes a base rate of $239.33, representing a $4.06 increase from the 2019 base rate, as well as certain changes to the TDAPA program, including an extension to the TDAPA program for calcimimetics to a third year while also reducing the basis of payment for the TDAPA program for calcimimetics in 2020 from the Average Selling Price (“ASP”) plus 6% to ASP plus 0%. CMS has estimated that the 2020 Final Rule, including the TDAPA program changes, would result in an overall increase of payments to ESRD facilities of 1.6%.
On November 2, 2020, CMS issued the ESRD PPS final rule for 2021 (the “2021 Final Rule”). The 2021 Final Rule includes a base rate of $253.13, representing a $13.80 increase from the 2020 base rate of $239.33. However, the 2021 base rate includes the addition of $9.93
to reflect the inclusion of calcimimetics rather than as a separate add-on to the base rate under the TDAPA program. We are in the process of evaluating the impact of the 2021 Final Rule on our business.
Medicare and Medicaid payment rates are generally insufficient to cover our total operating expenses allocable to providing dialysis treatments for Medicare and Medicaid patients. As a result, our ability to generate operating income is substantially dependent on revenues derived from commercial payors, which typically pay us either negotiated payment rates or at a discount to our usual and customary fee schedule. Negotiated in-network rates paid by commercial payors are generally lower than out-of-network payment rates. Pressure from commercial payors over pricing and related matters and our strategy of increasing our in-network payor relationships has resulted in lower average commercial
payment rates.
The following table summarizes our percentage of patient service operating revenues by payor source for the periods indicated:
Three Months Ended September 30,
Nine Months
Ended September 30,
Percentage of Revenues by Payor:
2020
2019
2020
2019
Medicare and Medicare Advantage
69
%
69
%
69
%
68
%
Commercial
and other(1)
27
%
26
%
27
%
27
%
Medicaid and Managed Medicaid
4
%
5
%
4
%
5
%
Other(2)
—
%
—
%
—
%
—
%
100
%
100
%
100
%
100
%
The
following table summarizes the percentage of total dialysis treatments performed by payor source for the periods indicated:
Three Months Ended September 30,
Nine Months Ended September 30,
Percentage
of Treatments by Payor:
2020
2019
2020
2019
Medicare and Medicare Advantage
80
%
80
%
80
%
80
%
Commercial
and other(1)
12
%
12
%
12
%
12
%
Medicaid and Managed Medicaid
7
%
7
%
7
%
7
%
Other(2)
1
%
1
%
1
%
1
%
100
%
100
%
100
%
100
%
_____________________________
(1)Principally
commercial insurance companies and also includes the VA. Treatments covered by Affordable Care Act (“ACA”)-compliant plans (“ACA plans”) were 1.0% and 0.6% for the three months ended September 30, 2020 and 2019, respectively and 0.8% and 0.7% for the nine months ended September 30, 2020 and, 2019, respectively. Treatments covered by VA plans were 3.0% and 2.9% in the three months ended September 30, 2020 and, 2019, respectively, and 3.0% and 2.8% for the nine months ended September 30, 2020 and 2019, respectively.
(2)Other sources of payment of revenues include hospitals and patient self-pay.
“Patient self-pay” revenues consist of payments received directly from patients who are either uninsured or self-pay for a portion of the bill.
43
The percentage of treatments by payor source does not necessarily correlate with our results of operations or margins in any given period because of a number of other factors, including the effect of the difference in rates per treatment associated with each payor. We have experienced an increase in our commercial treatment mix and the percentage of our commercial treatment mix represented by in-network commercial payors as a result of our strategy to increase our
in-network commercial payor relationships. This trend has adversely affected our margins and profitability because negotiated in-network rates paid by commercial payors are generally lower than out-of-network payment rates.
Effective in November 2016, for patients enrolled in minimum essential Medicaid coverage, we suspended assistance in the application process for charitable premium support from the American Kidney Fund (“AKF”), which caused an adverse change in the mix of patients and treatments in 2017. Prior to the 2017 ACA open enrollment period, approximately 2% of our total patients chose to enhance their pre-existing minimum Medicaid coverage by electing to enroll in an ACA plan. Virtually all of these low-income patients relied on charitable premium assistance because they were ineligible for federal premium tax credits. Due to the suspension of assistance in the application
process for charitable premium support from the AKF, virtually all of our patients with ACA primary insurance coverage and secondary minimum essential Medicaid coverage reverted back to Medicaid-only coverage during 2017. We continue to advise our other patients about the potential availability of assistance with the payment of premiums from the AKF under the AKF Health Insurance Premium Program, subject to the suspension described above, and compliance with the AKF’s policies and procedures and approved regulatory guidance from CMS.
The aforementioned suspension has adversely impacted, and any CMS action relating to establishing policies to restrict or limit charitable assistance for ACA plans or other individual marketplace plans could adversely impact, the number of patients covered by ACA plans and other individual marketplace plans, our average reimbursement rate and our results
of operations and cash flows, which impact has been and may continue to be material. Further, the other changes to our patient insurance education program, whether or not the suspension continues or CMS restricts charitable premium assistance, together with the other developments in the market, including the impact of such changes on enrollment in ACA plans and other individual marketplace plans, other insurance coverage, and/or potential regulatory changes in the future, have adversely impacted, and are expected to continue to adversely impact, the number of our patients covered by insurance, as well as our average reimbursement rate in the future.
In addition to charitable premium support for patients enrolled in ACA plans, the AKF provides charitable premium support to patients with other insurance coverage, including Medicare supplemental insurance and commercial insurance. We have, from time to time, received letters
from certain insurance companies indicating that they will not insure patients who receive premium payment assistance from third-party charitable organizations. There have also been legislative efforts to impose restrictions and obligations relating to the use by patients on commercial plans of charitable premium support, including a California bill (AB 290) that was signed into law in October 2019, but is currently enjoined, that limits the amount of reimbursement paid to certain providers for services provided to patients with commercial insurance who receive charitable premium assistance. Furthermore, the AKF has suspended charitable premium assistance payments from time to time and may continue to do so in the future. If patients are unable to obtain or to continue to receive AKF charitable premium support as a result of AKF suspension or otherwise, or if payments that a dialysis provider can retain for treatment to patients receiving such support is restricted,
whether due to insurance company challenges to covering patients receiving charitable premium support, legislative changes, rules or interpretations limiting such support or other reasons, the financial impact on our company could be materially greater than the annual financial impact described above of patients previously enrolled in ACA plans and could materially and adversely affect our results of operations. See “Item 1A. Risk Factors—Risks Related to Our Business—If the number of patients with commercial insurance declines, our operating results and cash flows would be adversely affected” and “—If there is a decline in financial assistance from charitable organizations to patients with commercial insurance, our operating results and cash flows would be adversely affected” in our 2019 Form 10-K.
We believe that the operating
environment will continue to be challenging due to the ongoing and uncertain impact of COVID-19 as described above and the government’s response to it, adverse trends in our commercial payor mix, continuing pressure on commercial rates, pressure on Medicare Advantage rates due to the continued growth in this subset of the Medicare patient population, the uncertainty around the ACA and the ability of our patients overall to access charitable premium assistance from non-profit organizations such as the AKF resulting from actions by the U.S. President and Congress. In addition, the impact of many of the foregoing trends may be exacerbated by the impact of COVID-19. We believe that the pressure on commercial rates due to more restrictive health plan benefit design and our strategy of increasing our in-network payor relationships could continue to create additional challenges. In addition, certain members of Congress have proposed measures that would expand government-sponsored
coverage of healthcare expenses, including single payor proposals, which, if adopted, could materially and adversely affect our business, results of operations and financial condition. In addition, in July 2019, the U.S. President signed an executive order to launch the Advancing American Kidney Health initiative that, among other things, will further encourage dialysis in the home. We are unable to predict the full effect of the foregoing factors on our
44
business, results of operations and cash flows. See also “Item 1A. Risk Factors—Risks Related to Our Business—If the rates paid by commercial payors continue to decline, our operating results and cash flow will be adversely affected” and “—The Advancing American Kidney Health initiative may adversely affect
our business, results of operations, cash flows and revenues” in our 2019 Form 10-K.
Clinical Staff, Pharmaceutical and Medical Supply Costs
Because our ability to influence the pricing of our services is limited, our profitability depends not only on our ability to grow but also on our ability to manage patient care costs, including clinical staff, pharmaceutical and medical supply costs. The principal drivers of our patient care costs are clinical staff hours per treatment, salary rates and vendor pricing and utilization of pharmaceuticals, including Erythropoietin Stimulating Agents (“ESAs”) and medical supplies. We currently obtain the ESAs Aranesp and Epogen from Amgen Inc. and the ESAs Mircera and Retacrit from Vifor International AG. Increased utilization of ESAs for patients for whom the cost of ESAs is included
in a bundled reimbursement rate, including Medicare patients, could increase our operating costs without any increase in revenue. In addition, any shortage of supplies could have a negative impact on our revenues, earnings and cash flows. Other cost categories, such as employee benefit costs and insurance costs, can also result in significant cost changes from period to period. Our results of operations are also affected by the start-up clinic costs described above. See also “Item 1A. Risk Factors—Risks Related to Our Business—Changes in the availability and cost of ESAs and other pharmaceuticals could adversely affect our operating results and financial condition as well as our ability to care for patients” and “—If our suppliers are unable to meet our needs, if there are material price increases or if we are unable to effectively access new technology, our operating results and financial condition could be adversely affected” in our 2019 Form 10-K. See
also “Item 1A. Risk Factors—The ongoing COVID-19 pandemic and responses thereto have adversely affected, and we expect will continue to adversely affect, our business, results of operations and financial condition.”
Seasonality
Our treatment volumes are sensitive to seasonal fluctuations due to generally fewer treatment days during the first quarter of the calendar year. Additionally, our patients are generally responsible for a greater percentage of the cost of their treatments during the early months of the year due to co-insurance, co-payments and deductibles, which may lead to lower total net revenues and lower net revenues per treatment during the early months of the year. Our quarterly operating results may fluctuate significantly in the future depending on these and other factors.
Impact
of the IPO and Certain Legal Matters
We are an emerging growth company as defined in the Jumpstart Our Business Startups Act (the “JOBS Act”) and may currently take advantage of exemptions available under the JOBS Act including exemption from the auditor attestation requirements under Section 404 of the Sarbanes-Oxley Act of 2002; reduced disclosure obligations regarding executive compensation in our periodic reports and proxy statements; exemption from the requirements of holding non-binding stockholder votes on executive compensation arrangements; and exemption from any rules requiring mandatory audit firm rotation and auditor discussion and analysis and, unless the SEC otherwise determines, any future audit rules that may be adopted by the Public Company Accounting Oversight Board. We will be an emerging growth company until the earliest of (i) December
31, 2021, (ii) the last day of the fiscal year in which we have annual gross revenue of $1 billion or more, (iii) the date on which we have, during the previous three-year period, issued more than $1 billion in non-convertible debt or (iv) the first day of the first fiscal year after we have more than $700 million in aggregate market value of outstanding common equity held by our non-affiliates as of the last day of our second fiscal quarter. When the available exemptions under the JOBS Act cease to apply, we expect to incur additional expenses and devote increased management effort toward ensuring compliance with the applicable regulatory and corporate governance requirements. In addition, we have incurred and expect to incur additional legal expenses in connection with various legal and regulatory matters and related matters. See “—Operating Expenses—Certain legal and other matters” and “Item 1. Legal Proceedings.”
On
April 26, 2016, we entered into an income tax receivable agreement (the “TRA”) for the benefit of our pre-IPO stockholders, which provides for the payment by us to our pre-IPO stockholders on a pro rata basis of 85% of the amount of cash savings, if any, in U.S. federal, state and local income tax that we actually realize as a result of the option deductions (as defined in the TRA). While the actual amount and timing of any payments under the TRA will vary depending upon a number of factors, including the amount and timing of the taxable income we generate in the future and whether and when any relevant stock options, as defined in the TRA, are exercised and the value of our common stock at such time, we expect that during the term of the TRA the payments that we make will be material. We recorded a liability for the value of the TRA at the time of the IPO. We calculated fair value of the TRA by using a Monte Carlo
simulation-based approach that relies on significant assumptions about our stock price, stock volatility and risk-free rate as well as the timing and amounts of options exercised.
45
Any changes to the TRA liability will be recognized in our statement of operations as Change in fair value of income tax receivable agreement in future periods. See “Note 5 — Fair Value Measurements” of the notes to the unaudited condensed consolidated financial statements.
Key Performance Indicators
We use a variety of financial and other information to evaluate our financial condition and operating performance.
Some of this information is financial information that is prepared in accordance with U.S. generally accepted accounting principles (“GAAP”), while other financial information, such as Adjusted EBITDA and Adjusted EBITDA-NCI, is not prepared in accordance with GAAP. The following table presents certain operating data, which we monitor as key performance indicators, for the periods indicated.
(1)We calculate normalized total treatment growth and normalized non-acquired treatment growth by dividing the number of treatments performed during the applicable period by the number of treatments performed during the corresponding prior period, excluding the number
of treatments performed at clinics divested subsequent to the corresponding prior period and, for the three and nine months ended September 30, 2020, the number of missed treatments, which included mortality, associated with COVID-19 positive patients, and expressing the resulting number as a percentage. The calculation of normalized treatment growth and normalized non-acquired treatment growth is further adjusted to equalize the number of treatment days during the applicable period with the corresponding prior period, to the extent there are differences due to the calendar. We estimate that missed treatments associated with COVID-19 positive patients resulted in an approximately 1.7% and 0.9% impact to our treatment growth for the three and nine months ended September 30, 2020, respectively.
(2)Includes
approximately $1.7 million and $2.8 million, respectively, for the three and nine months ended September 30, 2020, attributable to the temporary suspension under the CARES Act of the 2% Medicare sequestration reimbursement reduction.
(3)See “—Non-GAAP Financial Measures” below.
Number of Clinics
We track our number of clinics as an indicator of growth. The number of clinics as of the end of the period includes all opened de novo clinics, acquired clinics and existing clinics. See “—Key Factors Affecting Our Results of Operations—Clinic Growth and Start-Up Clinic Costs” for a discussion of clinic growth and start-up costs as a factor affecting
our operating performance.
Patient Volume
The number of patients as of the end of the period is an indicator we use to assess our performance. Our patient volumes are correlated with our de novo clinic openings and, to a lesser extent, our marketing efforts and certain external factors, such as the overall economic environment. We believe that patients choose to get their dialysis services at one of our clinics due to their relationship with our physicians, as well as the quality of care, comfort and patient-friendly features and convenience of location and clinic hours.
46
Non-Acquired
Treatments
We evaluate our operating performance based on the growth in number of non-acquired treatments, or treatments performed at our existing and de novo clinics, including those de novo clinics opened during the applicable period. Accordingly, our non-acquired treatment growth rate is affected by the timing and number of de novo clinic openings. We calculate non-acquired treatment growth by dividing the number of treatments performed during the applicable period by the number of treatments performed during the corresponding prior period, excluding the number of treatments performed at clinics acquired during the applicable period, and expressing the resulting number as a percentage.
Per Treatment Metrics
We
evaluate our patient service operating revenues, patient care costs, and general and administrative expenses on a per treatment basis to assess our operational efficiency.
Non-GAAP Financial Measures
This Form 10-Q makes reference to certain non-GAAP financial measures. These non-GAAP financial measures are not recognized measures under GAAP and do not have a standardized meaning prescribed by GAAP. When used, these measures are defined in such terms as to allow the reconciliation to the closest GAAP measure. These measures are therefore unlikely to be comparable to similar measures presented by other companies. Rather, these measures are provided as additional information to complement those GAAP measures by providing further understanding of our results of operations from management’s
perspective. Accordingly, they should not be considered in isolation nor as a substitute for analysis of our financial information reported under GAAP. We use non-GAAP financial measures, such as Adjusted EBITDA and Adjusted EBITDA-NCI, to provide investors with a supplemental measure of our operating performance and thus highlight trends in our core business that may not otherwise be apparent when relying solely on GAAP financial measures.
Adjusted EBITDA
We use Adjusted EBITDA and Adjusted EBITDA-NCI to track our performance. “Adjusted EBITDA” is defined as net income before stock-based compensation and associated payroll taxes, depreciation, amortization and impairment, interest expense, net, income taxes and other non-income-based tax, change in fair value of income tax receivable
agreement, certain legal and other matters, severance, executive retirement and related costs and gain or loss on sale or closure of clinics. “Adjusted EBITDA-NCI” is defined as Adjusted EBITDA less net income attributable to noncontrolling interests. We believe Adjusted EBITDA and Adjusted EBITDA-NCI provide information useful for evaluating our business and a further understanding of our results of operations from management’s perspective. We believe Adjusted EBITDA is helpful in highlighting trends because Adjusted EBITDA excludes certain expenses that can differ significantly from company to company depending on, among other things, long-term strategic decisions regarding capital structure and investments, and the tax jurisdictions in which companies operate, or that we believe do not reflect our core business operations. We believe Adjusted EBITDA-NCI is helpful in highlighting the amount of Adjusted EBITDA that is available to us after reflecting the interests
of our joint venture partners. Adjusted EBITDA and Adjusted EBITDA-NCI are not measures of operating performance computed in accordance with GAAP and should not be considered as a substitute for operating income, net income, cash flows from operations, or other statement of operations or cash flow data prepared in conformity with GAAP, or as measures of profitability or liquidity. In addition, Adjusted EBITDA and Adjusted EBITDA-NCI may not be comparable to similarly titled measures of other companies and differ from the calculation of “Consolidated EBITDA” under our credit agreement. Adjusted EBITDA and Adjusted EBITDA-NCI may not be indicative of historical operating results, and we do not mean for these items to be predictive of future results of operations or cash flows. Adjusted EBITDA and Adjusted EBITDA-NCI have limitations as analytical tools, and they should not be considered in isolation, or as substitutes for an analysis of our results as reported under
GAAP. Some of these limitations are that Adjusted EBITDA and Adjusted EBITDA-NCI:
•do not include stock-based compensation expense and associated payroll taxes;
•do not include depreciation, amortization and impairment—because construction and operation of our dialysis clinics requires significant capital expenditures, depreciation and amortization are a necessary element of our costs and our ability to generate profits;
•do not include interest expense—as we have borrowed money for general corporate and facility purposes, interest expense is a necessary element of our costs and ability to generate profits and cash flows;
•do not include income tax expense
or benefits and other non-income-based taxes;
•do not include change in fair value of income tax receivable agreement;
•do not include costs related to certain legal and other matters;
47
•do not include severance, executive retirement and related costs; and
•do not reflect the gain or loss on sale or closure of clinics.
In addition, Adjusted EBITDA is not adjusted for the portion of earnings that we distribute to our joint venture partners.
The
following table presents Adjusted EBITDA and Adjusted EBITDA-NCI for the periods indicated and the reconciliation from net income to such amounts:
Three Months Ended September 30,
Nine Months Ended September 30,
(in thousands)
2020
2019
2020
2019
Net
income
$
12,787
$
17,027
$
25,292
$
17,022
Add:
Stock-based compensation and associated
payroll taxes
1,534
986
5,934
3,277
Depreciation, amortization and impairment
9,259
10,220
26,760
30,585
Interest
expense, net
9,501
12,242
30,235
32,533
Income tax expense (benefit) and other non-income-based tax(a)
(57)
(11,195)
(1,301)
(9,542)
Change
in fair value of income tax receivable agreement(b)
Less: Net income attributable to noncontrolling interests
(15,478)
(12,250)
(34,422)
(30,902)
Adjusted
EBITDA –NCI
$
25,210
$
26,455
$
63,923
$
64,635
_____________________________
(a)Non-income-based tax includes franchise, gross receipts, and similar tax assessments.
(b)See “Note 5 — Fair Value Measurements” of the notes to the unaudited condensed consolidated financial
statements.
(c)For the nine months ended September 30, 2020 and 2019, includes $3.4 million and $21.4 million, respectively, relating to our restatement of certain of our prior financial statements and other financial information, as described in our Annual Report on Form 10-K for the fiscal year ended December 31, 2018 (the “Restatement”), the related SEC investigation and Audit Committee review and litigation relating to the foregoing and other expenses relating to matters that we believe do not reflect our core business operations. Also included above are $4.6 million of legal expenses related to the Merger.
Components of Operations
Patient
Service Operating Revenues
Patient service operating revenues. Patient service operating revenues, the major component of our revenues, are derived from dialysis treatments and related services. Sources of payment of revenues are principally from government-based programs, including Medicare, Medicaid, and state workers’ compensation programs, commercial insurance payors and other sources such as the VA and hospitals, as well as patient self-pay. Patient service operating revenues are reported at the amounts that reflect the consideration to which we expect to be entitled in exchange for providing dialysis treatments and related services. Amounts may include variable consideration for discounts, price concessions and retroactive revenue adjustments due to new information obtained, such as actual payment receipt, as well as settlement of audits, reviews and investigations.
Third-party payors, patients and other payors are generally billed at least monthly, typically in the month the dialysis treatment is performed.
48
We maintain a usual and customary fee schedule for dialysis treatment and other related services. However, the transaction price is typically recorded at a discount to the fee schedule. The transaction prices for Medicare and Medicaid programs are based on predetermined net realizable rates per treatment that are established by statutes or regulations. The transaction prices for contracted payors are based on contracted rates. For
other payors, we estimate the transaction price based on usual and customary rates for services provided, reduced by contractual and other adjustments that result from differences between the rates charged for services performed and expected reimbursements from third-party payors, discounts provided to uninsured patients in accordance with our policy and/or implicit price concessions. We determine our estimates of contractual allowances and discounts based on contractual agreements, regulatory compliance and historical collection experience. We determine our estimate of implicit price concessions based on our historical collection experience with each payor, and where no prior experience exists, we consider information from the patient’s health plan. Amounts billed that have not yet been collected and that meet the conditions for an unconditional right to payment are presented as net accounts receivable.
Contractual
and other adjustments as well as discounts with third-party payors are considered variable consideration and are included in the determination of the estimated transaction price for providing patient care. In assessing the probability of these claim payments, we review previous payment history and record a reserve at the patient level that results in an estimate of expected revenue such that it is probable that a significant revenue reversal will not occur in future periods.
Operating Expenses
Patient care costs. Patient care costs are those costs directly associated with operating our dialysis clinics. Patient care costs principally include salaries, wages and benefits, stock-based compensation expense, pharmaceuticals, medical supplies, rent and utilities, laboratory
testing, medical director fees and insurance costs and exclude depreciation, amortization and impairment.
General and administrative expenses. General and administrative expenses generally consist of salaries, wages and benefits, and stock-based compensation expense to personnel at our corporate office for clinic and corporate administration, including accounting, billing and cash collection functions; costs of patient insurance education; costs of regulatory compliance and legal oversight; charitable contributions; and professional fees, and exclude depreciation, amortization and impairment.
Depreciation, amortization and impairment. Depreciation, amortization and impairment expense is primarily attributable to our clinics’ equipment and
leasehold improvements and amortizing intangible assets. We calculate depreciation and amortization expense using a straight-line method over the assets’ estimated useful lives. Impairment expense is attributable to our assets held for sale. See “Note 4 — Assets Held for Sale and Goodwill” of the notes to the unaudited condensed consolidated financial statements.
Certain legal and other matters. Certain legal and other matters include legal fees and other expenses associated with matters that we believe do not reflect our core business operations, including, but not limited to, our handling of, and response to the following:
•the SEC investigation and related Audit Committee review and Restatement process (2019-2020),
•the
securities and derivative litigation related to the foregoing (2019-2020),
•our internal review and analysis of factual and legal issues relating to the aforementioned matters,
•legal fees and other expenses relating to our previously announced execution of the Merger Agreement; and
•other legal fees and other expenses relating to matters that we believe do not reflect our core business operations.
See “Item 1. Legal Proceedings” and “Note 16 — Certain Legal and Other Matters” of the notes to the unaudited consolidated financial statements.
Operating Income
Operating
income is equal to our patient service operating revenues minus our operating expenses. Our operating income is impacted by the factors described above and reflects the effects of losses relating to our start-up clinics.
49
Interest, Change in Fair Value of Income Tax Receivable and Income Taxes
Interest expense, net. Interest expense represents charges for interest associated with
our corporate level debt and credit facilities entered into by our dialysis clinics.
Change in fair value of income tax receivable agreement. Change in fair value of income tax receivable agreement is the non-cash gain or loss associated with the change in the fair value of the TRA during the period indicated.
Income tax (benefit) expense. Income tax (benefit) expense is recorded on our share of pre-tax income from our wholly owned subsidiaries and joint ventures as these entities are pass-through entities for tax purposes. We are not taxed on the share of pre-tax income attributable to noncontrolling interests, and net income attributable to noncontrolling
interests in our financial statements has not been presented net of income taxes attributable to these noncontrolling interests.
Net Income Attributable to Noncontrolling Interests
Noncontrolling interests represent the equity interests in our consolidated entities that we do not wholly own, which are primarily the equity interests of our nephrologist partners in our JV clinics. Our financial statements reflect 100% of the revenues and expenses for our joint ventures (after elimination of intercompany transactions and accounts) and 100% of the assets and liabilities of these joint ventures (after elimination of intercompany assets and liabilities), although we do not own 100% of the equity interests in these consolidated entities. Our net income attributable to noncontrolling interests may fluctuate in future periods
depending on the purchases or sales by us of noncontrolling interests in our clinics from our nephrologist partners, including pursuant to put obligations as described below under “—Liquidity and Capital Resources—Put Obligations.” The net income attributable to owners of our consolidated entities, other than our company, is classified within the line item Net income attributable to noncontrolling interests. See also “Part II. Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations—Critical Accounting Policies and Estimates—Noncontrolling Interests” in our 2019 Form 10-K and “Note 8 — Noncontrolling Interests Subject to Put Provisions” of the notes to the unaudited condensed consolidated financial statements.
The following table summarizes our results of operations for the periods indicated:
Three
Months Ended September 30,
Increase (Decrease)
Percentage
(in thousands)
2020
2019
Amount
Change
Patient
service operating revenues
$
209,689
$
211,429
$
(1,740)
(0.8)
%
Operating expenses:
Patient
care costs
150,357
154,588
(4,231)
(2.7)
%
General and administrative
23,379
18,783
4,596
24.5
%
Depreciation,
amortization and impairment
9,259
10,220
(961)
(9.4)
%
Certain legal and other matters
6,420
9,634
(3,214)
(33.4)
%
Total
operating expenses
189,415
193,225
(3,810)
(2.0)
%
Operating income
20,274
18,204
2,070
11.4
%
Other
income - CARES Act
1,920
—
1,920
NM
Interest expense, net
(9,501)
(12,242)
2,741
(22.4)
%
Change
in fair value of income tax receivable agreement
(42)
(30)
(12)
(40.0)
%
Income before income taxes
12,651
5,932
6,719
113.3
%
Income
tax expense
(136)
(11,095)
10,959
98.8
%
Net income
12,787
17,027
(4,240)
(24.9)
%
Less:
Net income attributable to noncontrolling interests
(15,478)
(12,250)
(3,228)
26.4
%
Net income (loss) attributable to American Renal Associates Holdings, Inc.
$
(2,691)
$
4,777
$
(7,468)
156.3
%
50
_____________________
NM
– Not Meaningful
Patient Service Operating Revenues
Patient service operating revenues. Patient service operating revenues for the three months ended September 30, 2020 were $209.7 million, a decrease of $1.7 million, or 0.8%, from $211.4 million for the three months ended September 30, 2019. The three months ended September 30, 2019 included favorable resolutions of certain commercial out-of-network claims. During the three months ended September 30, 2020, the decrease was also due to lower contributions from calcimimetics reflecting lower reimbursement
rates from Medicare and adverse changes in commercial treatment reimbursement rates, which reflect a larger base of in-network commercial payor relationships, partially offset by an increase of 0.1% in the number of dialysis treatments, driven primarily by de novo clinic openings, and a recognition of $1.7 million from the temporary suspension under the CARES Act of the 2% Medicare sequestration reimbursement reduction, which became effective May 1, 2020. We estimate that treatments missed due to COVID-19 resulted in $2.8 million of reduced patient service operating revenues, net of direct patient care costs, during the quarter, $1.9 million of which were offset by grants under the CARES Act, which is reflected as Other income - CARES Act on the condensed consolidated statements of operations for the three months ended September 30, 2020. As a percentage
of revenue by payor type, government-based payors accounted for 73% of our revenues for each of the three months ended September 30, 2020 and 2019. Patient service operating revenues per treatment for the three months ended September 30, 2020 and 2019 were $335 and $338, respectively, primarily due to the suspension of the sequestration reimbursement reduction.
Non-acquired treatment growth was 0.1%. Normalized total treatment growth was 3.2% and normalized non-acquired treatment growth was 3.2% for the three months ended September 30, 2020. Missed treatments due to COVID-19 resulted in an estimated 1.7% impact to treatment growth during
the period. Patient service operating revenues relating to start-up clinics for the three months ended September 30, 2020 were $3.3 million, compared to $2.6 million for the three months ended September 30, 2019, an increase of $0.7 million due to the timing of opening and certification of de novo clinics, as described under “ – Key Factors Affecting our Results of Operations – Clinic Growth and Start-Up Clinic Costs.”
Operating Expenses
Patient care costs. Patient care costs for the three months ended September 30, 2020 were $150.4 million, a decrease of $4.2 million,
or 2.7%, from $154.6 million for the three months ended September 30, 2019, which was primarily due to reduced ancillary costs, including ESAs and calcimimetics, partially offset by the 0.1% increase in the number of treatments. We estimate that we incurred $5.6 million of COVID-19 related patient care expenses during the period, primarily attributable to higher personnel costs due to hazard pay, overtime and additional staffing expense, as well as higher supply costs for personal protective equipment and infection control materials. During the three months ended September 30, 2020, we applied CARES Act grant funds of approximately $5.0 million to offset additional expenses. Our patient care costs per treatment for the three months ended September 30, 2020 were $240, compared to $247 for the three months ended September 30,
2019.
As a percentage of patientservice operating revenues, patient care costs were 71.7% for the three months ended September 30, 2020, compared to 73.1% for the three months ended September 30, 2019.
General and administrative expenses. General and administrative expenses for the three months ended September 30, 2020 were $23.4 million, an increase of $4.6 million, or 24.5%, from $18.8 million for the three months ended September 30, 2019. During 2020, we incurred higher amounts amount for accounting fees, temporary labor
and stock compensation. In addition, 2020 included executive retirement expenses and executive search fees. During 2019, we recorded a reduction of executive compensation expense in 2019 arising from the Restatement. General and administrative expenses per treatment were $37 for the three months ended September 30, 2020, compared to $30 for the three months ended September 30, 2019.
As a percentage of patient service operating revenues, general and administrative expenses were 11.1% for the three months ended September 30, 2020, compared to 8.9% for the three months ended September 30, 2019.
Depreciation,
amortization and impairment. Depreciation, amortization and impairment expense for the three months ended September 30, 2020 was $9.3 million, compared to $10.2 million for the three months ended September 30, 2019. The decrease in the quarter is primarily related to reduced capital expenditures over the past two years, and the fact that certain clinics had been held for sale and were not depreciated. In addition, as a percentage of patient service operating revenues, depreciation, amortization and impairment expense was 4.4% for the three months ended September 30, 2020, compared to 4.8% for the three months ended September 30, 2019.
51
Certain
legal and other matters. Certain legal and other matter costs for the three months ended September 30, 2020 were $6.4 million, compared to $9.6 million for the three months ended September 30, 2019. The three months ended September 30, 2020 and September 30, 2019 include $0.8 million and $8.3 million, respectively, of expenses relating to the Restatement and related SEC investigation and Audit Committee review discussed in our Form 10-K for the fiscal year ended December 31, 2018. See “—Components of Operations—Certain legal and other matters.” In addition, during the three months ended September 30, 2020, we incurred approximately $4.6 million
of expenses associated with the Merger.
Operating Income
Operating income for the three months ended September 30, 2020 was $20.3 million, an increase of $2.1 million, from $18.2 million for the three months ended September 30, 2019, which was primarily due to the factors described above.
As a percentage of patient service operating revenues, operating income was 9.7% for the three months ended September 30, 2020, compared to 8.6% for the three months ended September 30, 2019, reflecting the factors described above.
Interest,
Change in Fair Value of Income Tax Receivable Agreement, and Income Taxes
Interest expense, net. Interest expense, net for the three months ended September 30, 2020 was $9.5 million, and for the three months ended September 30, 2019 was $12.2 million, a decrease of 22.4%. The decrease is primarily attributable to lower interest rates under the amended 2017 Credit Agreement described in “Liquidity and Capital Resources” below partially offset by the impact of higher borrowings.
Change in fair value of income tax receivable agreement. Change in fair value of income tax receivable agreement for the three months ended September
30, 2019 was - $(0.3) million and was not material for the three months ended September 30, 2020.
Income tax (benefit) expense. The income tax (benefit) expense for the three months ended September 30, 2020 and 2019 represented an effective tax rate of (1.1)% and (187.0)%, respectively. The variation from the statutory federal rate of 21% on our share of pre-tax income during the three months ended September 30, 2020 and 2019, respectively, is primarily due to the tax impact of the noncontrolling interest in the clinics as a result of the joint venture model, the valuation allowance and the change in fair value
of the TRA liability, which is not deductible for income tax purposes and also other non-deductible expenses. Additionally, as a result of the CARES Act, three months ended September 30, 2020, we determined we would be able to carry our forecasted 2019 net operating losses of $6.1 million back to tax years when the statutory tax rate was 35% resulting in an income tax benefit of $0.9 million, which is included in income tax benefit in the condensed consolidated statements of operations as well as release of $0.2 million of valuation allowance three months ended September 30, 2020. We have and will continue to incorporate and evaluate the impact the CARES Act has on our overall tax provision. See “Note 11 — Income Taxes” of the notes to the unaudited condensed consolidated financial statements for additional information.
Net
Income Attributable to Noncontrolling Interests
Net income attributable to noncontrolling interests for the three months ended September 30, 2020 was $15.5 million, representing an increase of $3.2 million, or 26.4%, from $12.3 million for the three months ended September 30, 2019. The increase was primarily due to increased profitability in our joint ventures due to the factors described above.
The following table summarizes our results of operations for the periods indicated:
Nine
Months Ended September 30,
Increase (Decrease)
Percentage
(in thousands)
2020
2019
Amount
Change
Patient
service operating revenues
$
608,021
$
616,443
$
(8,422)
(1.4)
%
Operating expenses:
Patient
care costs
451,462
455,785
(4,323)
(0.9)
%
General and administrative
70,950
68,309
2,641
3.9
%
Depreciation,
amortization and impairment
26,760
30,585
(3,825)
(12.5)
%
Certain legal and other matters
9,548
23,306
(13,758)
(59.0)
%
Total
operating expenses
558,720
577,985
(19,265)
(3.3)
%
Operating income
49,301
38,458
10,843
28.2
%
Other
income - CARES Act
3,393
—
3,393
NM
Interest expense, net
(30,235)
(32,533)
2,298
7.1
%
Change
in fair value of income tax receivable agreement
1,301
1,348
(47)
(3.5)
%
Income before income taxes
23,760
7,273
16,487
226.7
%
Income
tax benefit (expense)
(1,532)
(9,749)
8,217
84.3
%
Net income (loss)
25,292
17,022
8,270
48.6
%
Less:
Net income attributable to noncontrolling interests
(34,422)
(30,902)
(3,520)
(11.4)
%
Net loss attributable to American Renal Associates Holdings, Inc.
$
(9,130)
$
(13,880)
$
4,750
34.2
%
Patient
Service Operating Revenues
Patient service operating revenues. Patient service operating revenues for the nine months ended September 30, 2020 were $608.0 million, a decrease of $8.4 million, or 1.4% from $616.4 million. The nine months ended September 30, 2019 included favorable resolutions of certain commercial out-of-network claims. During the nine months ended September 30, 2020, the decrease was also due to lower contributions from calcimimetics reflecting lower reimbursement rates from Medicare and adverse changes in commercial treatment reimbursement rates resulting from the increase in our in-network commercial payor relationships,
partially offset by an increase of 2.2% in the number of dialysis treatments driven primarily by de novo clinic openings, and a recognition of $2.8 million from the temporary suspension under the CARES Act of the 2% Medicare sequestration reimbursement reduction, which became effective May 1, 2020. We estimate that COVID-19 related volume disruptions resulted in $4.4 million of reduced patient service operating revenues, net of direct patient care costs, during the period, of which $3.4 million were offset by grants under the CARES Act and is reflected in Other income. As a percentage of revenue by payor type, government-based payors accounted for 73% of our revenues for the nine months ended September 30, 2020 and 2019. Patient service operating revenues per treatment for the nine months ended September 30,
2020 was $325, compared with $337 for the nine months ended September 30, 2019, a decrease of 3.6%.
Non-acquired treatment growth was 2.1%, and acquired treatment growth was 0.1%. Normalized total treatment growth was 3.8% and normalized non-acquired treatment growth was 3.7% for the nine months ended September 30, 2020. Missed treatments due to COVID-19 resulted in an estimated 0.9% impact to treatment growth during the period. Patient service operating revenues relating to start-up clinics for the nine months ended September 30, 2020 were $7.5 million, compared to $6.9 million for the nine months ended September 30, 2019, an increase of $0.6 million due to the timing of opening and
certification of de novo clinics, as described under “ – Key Factors Affecting our Results of Operations – Clinic Growth and Start-Up Clinic Costs.”
Operating Expenses
Patient care costs. Patient care costs for the nine months ended September 30, 2020 were $451.5 million, a decrease of $4.3 million from $455.8 million for the nine months ended September 30, 2019, which was primarily due to reduced ancillary costs, including ESAs and calcimimetics, partially offset by the 2.2% increase in the number of treatments. We estimate that we incurred $13.9 million of COVID-19 related patient care expenses during the period,
primarily attributable to higher personnel
53
costs due to hazard pay, overtime and additional staffing expense, as well as higher supply costs for personal protective equipment and infection control materials of which $13.1 million were offset by grants under the CARES Act. Patient care costs per treatment for the nine months ended September 30, 2020 were $241, compared to $249 for the nine months ended September 30, 2019.
As a percentage of patientservice operating revenues, patient care costs were 74.3% for the nine months
ended September 30, 2020, compared to 73.9% for the nine months ended September 30, 2019.
General and administrative expenses. General and administrative expenses for the nine months ended September 30, 2020 were $71.0 million, an increase of approximately $2.7 million, or 3.9%, from $68.3 million for the nine months ended September 30, 2019. During 2020, we incurred higher amounts for accounting fees, temporary labor and stock compensation offset by lower corporate headcount. In addition, 2020 included executive retirement expenses and executive search fees and did not include charitable contributions. During 2019, we recorded a reduction of executive compensation
expense in 2019 arising from the Restatement. General and administrative expenses per treatment for the nine months ended September 30, 2020 were $38, compared to $37 for the nine months ended September 30, 2019.
As a percentage of patient service operating revenues, general and administrative expenses were 11.7% for the nine months ended September 30, 2020, compared to 11.1% for the nine months ended September 30, 2019.
Depreciation, amortization and impairment. Depreciation, amortization and impairment expense for the nine months ended September 30,
2020 was $26.8 million, compared to $30.6 million for the nine months ended September 30, 2019. The decrease in 2020 is primarily related to reduced capital expenditures over the past two years, and the fact that certain clinics had been held for sale and were not depreciated. In addition, the nine months ended September 30, 2020 included a reduction to the valuation allowance of $0.5 million related to assets held for sale. As a percentage of patient service operating revenues, depreciation, amortization and impairment expense was 4.4% for the nine months ended September 30, 2020, compared to 5.0% for the nine months ended September 30, 2019.
Certain
legal and other matters. Certain legal and other matter costs for the nine months ended September 30, 2020 were $9.5 million, compared to $23.3 million for the nine months ended September 30, 2019. The nine months ended September 30, 2020 and 2019 include $3.4 million and $9.4 million, respectively, of expenses relating to the SEC investigation and related Audit Committee examination and Restatement process discussed in our 2018 Form 10-K. See “—Components of Operations—Certain legal and other matters.” In addition, we incurred approximately $4.6 million of expenses associated with the Merger.
Operating Income
Operating
income for the nine months ended September 30, 2020 was $49.3 million, an increase of $10.8 million, or 28.2%, from $38.5 million for the nine months ended September 30, 2019, which was primarily due to the factors described above. For the nine months ended September 30, 2020 and 2019, start-up clinics reduced operating income by $5.5 million and $6.5 million, respectively.
As a percentage of patient service operating revenues, operating income was 8.1% for the nine months ended September 30, 2020, compared to 6.2% for the nine months ended September 30, 2019, reflecting the factors described
above.
Interest and Taxes
Interest expense, net. Interest expense, net for the nine months ended September 30, 2020 was $30.2 million, and for the nine months ended September 30, 2019 was $32.5 million, a decrease of 7.1%. The decrease is primarily attributable to lower interest rates under the amended 2017 Credit Agreement described in “Liquidity and Capital Resources” below partially offset by the impact of higher borrowings.
Change in fair value of income tax receivable agreement. Change in fair value of income tax receivable agreement for the nine months ended
September 30, 2020 and 2019 was $1.3 million and $1.3 million, respectively.
Income tax (benefit) expense. The income tax (benefit) expense for the nine months ended September 30, 2020 and 2019 represented an effective tax rate of (6.5)% and (134.0)%, respectively. The variation from the statutory federal rate of 21% on our share of pre-tax income during the nine months ended September 30, 2020 and 2019 is primarily due to the tax impact of the noncontrolling interest in the clinics as a result of the joint venture model, the valuation allowance and the change in fair
value of the TRA liability, which is not deductible for income tax purposes and also other non-deductible
54
expenses. Additionally, as a result of the CARES Act, during the nine months ended September 30, 2020, we determined we will be able to carry our forecasted 2019 net operating losses of $22.4 million back to tax years when the statutory tax rate was 35%, resulting in an income tax benefit of $3.1 which is included in income tax benefit in the condensed consolidated statements of operations. As a result of the CARES Act, we have released $3.4 million of valuation allowance during the nine months ended September 30, 2020. We have and will continue to incorporate
and evaluate the impacts the CARES Act has on our overall tax provision. See “Note 11 — Income Taxes” of the notes to the unaudited condensed consolidated financial statements for additional information.
Net Income Attributable to Noncontrolling Interests
Net income attributable to noncontrolling interests for the nine months ended September 30, 2020 was $34.4 million, representing an increase of $3.5 million, or 11.4%, from $30.9 million for the nine months ended September 30, 2019. The increase was primarily due to increased profitability in our joint ventures due to the factors described above.
Liquidity
and Capital Resources
Our primary sources of liquidity are funds generated from our operations, short-term borrowings under our revolving credit facility and borrowings of long-term debt. Our principal needs for liquidity are to pay our operating expenses, to fund the development and acquisition of new clinics, to fund capital expenditures, to service our debt and to fund purchases of equity held by our nephrologist partners. A significant portion of our cash flows is used to make distributions to the noncontrolling equity interests held by our nephrologist partners in our JV clinics. Except as otherwise indicated, the following discussion of our liquidity and capital resources presents information on a consolidated basis, without adjusting for the effect of noncontrolling interests.
For the nine months ended September 30,
2020, in addition to our typical requirements for operating capital and capital expenditures, we incurred approximately $4.9 million in professional accounting, consulting, legal fees and additional interest as a result of the SEC investigation, private litigation and in-process remediation of material weaknesses in our internal control over financial reporting. In addition, we incurred approximately $4.6 million of expenses associated with the Merger. We expect the merger related fees to be paid at the time the merger is completed. We believe that we will continue to incur fees for these services during 2020 in amounts in excess of our ordinary course legal and other professional expenses.
In light of the uncertainty in the global economy and financial capital markets resulting from the COVID-19 pandemic, in March 2020, we drew down
all of the $30.5 million that was available under our 2017 Revolving Credit Facility (as defined below) as a precautionary measure to strengthen our liquidity. During the three and nine months ended September 30, 2020, we repaid $19 million of these borrowings. In addition, as part of its response to the COVID-19 pandemic, the federal government has expanded existing or introduced new programs to provide additional sources of liquidity to healthcare providers. Programs that benefit us include:
•CMS Provider Relief Fund Grants. The CARES Act includes $100 billion in funds to be provided to hospitals and other healthcare providers to support healthcare-related expenses or lost revenue attributable to COVID-19 and to ensure uninsured individuals
are able to obtain testing and treatment for COVID-19. On April 10, 2020, CMS began distribution of $30 billion of the funds to providers based on the provider’s share of total Medicare fee-for-service reimbursements in 2019. As part of this distribution, our facilities received approximately $27 million in the aggregate during April 2020. As of September 30, 2020, we had utilized $16.8 million of these funds, and expect to use some or all of the funds during future periods through the second quarter of 2021. Our ability to utilize and retain some or all of the remaining provider relief grant funds will depend on the magnitude, timing and nature of the impact of COVID-19.
•Social Security Payroll Match.
The CARES Act provides for the deferral of the social security payroll tax match of 6.2% through the end of 2020. For the third quarter, we recognized $3.9 million as a result of this provision, all of which is included in our consolidated cash as of September 30, 2020. We expect this provision of the CARES Act to allow us to delay funding an additional approximately $4.0 million of social security payroll taxes during the remainder of the current year. Half of the amount ultimately deferred (approximately $3.5 to $4.5 million) will be payable in December 2021 and the remaining in December 2022. While this expense will continue to be reflected in our Condensed Consolidated Statement of Operations and accrued on our Condensed Consolidated Balance Sheet during 2020, the deferral of the payment will provide us additional liquidity during the deferral
period.
55
•Tax Benefit. The CARES Act also permits the acceleration of tax depreciation in previous income tax returns, which we estimate will result in cash tax benefits of approximately $8.0 million during the current year.
•Medicare Advance Payment Programs. In March 2020, in an action unrelated to the CARES Act, CMS expanded its existing Accelerated and Advance Payment Program to a broader group of Medicare providers and suppliers for the duration of the COVID-19 public health emergency. Payments under this program are intended to provide necessary
funds when there is a disruption in Medicare claims submission and/or claims processing. Our facilities can request up to 100% of the Medicare fee-for-service payment amount for a three-month period. CMS has instructed its Medicare Administrative Contractors to review and issue advance payments within seven calendar days of receiving an advance payment request. CMS approved our requests for substantially all of the clinics. Medicare advance payments will be reduced by 25% to recoup the funds advanced for eleven months beginning April 2021. If the advance payments have not been fully recouped by March 2022, the payments will be reduced by 50% until all advance payments have been recouped. In April 2020, our facilities applied for and received an aggregate of $83 million in advanced payments under this program. Through the third quarter, we used $19 million of these advanced payments to reduce clinic-level debt, and the remaining
funds are included in our consolidated cash as of September 30, 2020 to provide us with additional liquidity during the current year.
See also “Item 1A. Risk Factors—The ongoing COVID-19 pandemic and responses thereto have adversely affected and we expect will continue to adversely affect, our business, results of operations and financial condition.”
We believe our cash balance and cash flows from operations provide sufficient liquidity to fund our current obligations, projected working capital requirements and capital spending for a period that includes the next 12 months. If existing cash and cash generated from operations and borrowings under our revolving credit facility are insufficient
to satisfy our liquidity requirements, we may seek to obtain additional debt or equity financing. If additional funds are raised through the issuance of debt, this debt could contain covenants that would restrict our operations. Any financing may not be available in amounts or on terms acceptable to us. If we are unable to obtain required financing, we may be required to reduce the scope of our planned growth efforts, which could harm our financial condition and operating results. In connection with the Merger, we agreed to limit our drawdowns under our 2017 Revolving Credit Facility through the date of the closing of the proposed merger to $2 million plus any fees incurred and limit total additional borrowings to $4 million.
Cash Flows
The following table shows a summary of our cash flows for the periods indicated:
Nine
Months Ended September 30,
(dollars in thousands)
2020
2019
Net cash provided by operating activities
$
170,435
$
35,103
Net cash provided by (used in) investing activities
1,358
(18,195)
Net
cash (used in) provided by financing activities
(69,766)
(12,018)
Net increase in cash and restricted cash
$
102,027
$
4,890
Cash Flows from Operations
Net cash provided by operating activities for the nine months ended September 30, 2020 was $170.4 million
compared to net cash used in operating activities of $35.1 million for the same period in 2019, an increase of $135.3 million, primarily attributable to an increase in net income and the timing of working capital fluctuations, particularly those in the accounts receivable and accrued expenses and other liabilities which increased as of September 30, 2020 largely due to the $83 million of advance payments received undertheAccelerated and Advance Payment Program as described above.
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Cash
Flows from Investing Activities
Net cash provided by investing activities for the nine months ended September 30, 2020 was $1.4 million compared to $18.2 million of cash used for the same period in 2019, a decrease of $19.6 million, or 107.5%, due to the timing of acquisitions and clinic sales.
Cash Flows from Financing Activities
Net cash used in financing activities for the nine months ended September 30, 2020 was $69.8 million compared to $12.0 million net cash provided by financing activities during the same period in 2019, an increase of $57.8 million largely due to the $15.1 million net payments on
long-term debt in the nine months ended September 30, 2020 compared to net long-term debt proceeds of $32.4 million for the same period in 2019. In addition, during the nine months ended September 30, 2020, we purchased certain noncontrolling interests totaling $17.4 million compared to $8.5 million during the same period in 2019.
Capital Expenditures
For the nine months ended September 30, 2020 and 2019, we made capital expenditures of $16.3 million and $17.9 million, respectively, of which $12.1 million and $14.0 million were development capital expenditures, respectively, primarily incurred
in connection with de novo clinic development and clinic expansions, and $4.2 million and $3.9 million, respectively, were other capital expenditures, primarily consisting of capital improvements at our existing clinics, including renovations and equipment replacement. Of the capital expenditures during the nine months ended September 30, 2020, there were $0.5 million of capital expenditures recorded in accrued expenses and accounts payable on the accompanying condensed consolidated balance sheet. For 2020, we expect to spend approximately 2% to 2.5% of total annual patient service operating revenues for development capital expenditures and 0.5% to 1% of total annual patient service operating revenues on other capital expenditures.
Debt Facilities
As
of September 30, 2020, we had outstanding $584.9 million in aggregate principal amount of indebtedness, with an additional $32.0 million of borrowing capacity available under our 2017 Revolving Credit Facility (and no outstanding letters of credit). Our outstanding indebtedness included $422.4 million of term B loans under our 2017 Credit Agreement, $68.0 million of borrowings under our 2017 Revolving Credit Facility. Our outstanding indebtedness also included our third-party clinic-level debt, which includes term loans and lines of credit, totaling $87.0 million as of September 30, 2020 with maturities ranging from October 2020 to December 2028 and interest rates ranging from 2.96% to 6.55%, and $7.5 million of finance lease obligations. See “Note 9 — Debt” of the notes to the condensed consolidated financial statements
for further information about our debt.
On June 22, 2017, ARH and American Renal Holdings Intermediate Company, LLC (“ARHIC”) entered into a new credit agreement to refinance the credit facilities under ARH’s then existing prior first lien credit agreement. The credit agreement was amended on April 26, 2019 (as amended, the “2017 Credit Agreement”) as discussed below. The 2017 Credit Agreement provides for (i) a $100 million senior secured revolving credit facility (the “2017 Revolving Credit Facility”) and (ii) a $440 million senior secured term B loan facility (the “2017 Term B Loan Facility” and, together with the 2017 Revolving Credit Facility, the “2017 Facilities”). In addition, the 2017 Credit Agreement includes a feature under which maximum borrowings
under the 2017 Facilities may be increased by an amount in the aggregate equal to the sum of (i) the greater of $125 million and 100% of Consolidated EBITDA (as defined in the 2017 Credit Agreement) plus (ii) an amount such that certain leverage ratios will not be exceeded after giving pro forma effect to the increase.
On June 22, 2017, ARH borrowed the full amount of the 2017 Term B Loan Facility and used such borrowings to repay outstanding balances under the then existing prior first lien credit agreement and the payment of customary fees and expenses incurred in connection with the foregoing.
On April 26, 2019, ARH entered into an amendment (the “Amendment”) to the 2017 Credit Agreement, waiving certain actual or potential defaults
and amending certain covenants and other provisions. Among other things, the waiver addressed actual or potential defaults that may have resulted from our failure to (i) satisfy the maximum consolidated net leverage ratio when required, and (ii) deliver when required certain prior period financial information prepared in accordance with GAAP. In connection with the Amendment, we paid fees of $6.0 million including a consent fee of $5.2 million during the quarter ended June 30, 2019 and agreed to increase the interest rate on borrowings under the 2017 Credit Agreement.
57
The 2017 Revolving Credit Facility is scheduled to mature in June 2022 and the 2017 Term B Loan Facility is scheduled to mature in June 2024. The principal
amount of the term B loans under the 2017 Term B Loan Facility (“term B loan”) amortize in equal quarterly installments in an aggregate annual amount of (i) 1.00% of the original principal amount of such term B loans through December 31, 2019 and (ii) 2.00% thereafter. The maturity dates under the 2017 Revolving Credit Facility and the 2017 Term Loan Facility are subject to extension with lender consent according to the terms of the 2017 Credit Agreement. The 2017 Credit Agreement includes provisions requiring ARH to offer to prepay term B loans in an amount equal to (i) the net cash proceeds above certain thresholds received from (a) asset sales and (b) casualty events resulting in the receipt of insurance proceeds, subject to customary provisions for the reinvestment of such proceeds, (ii) the net cash proceeds from the incurrence of debt not otherwise permitted under the 2017 Credit Agreement, and (iii) a percentage
of consolidated excess cash flow retained in the business from the preceding fiscal year minus voluntary prepayments.
For the period from April 26, 2019 until September 4, 2019, the date of filing of our Form 10-Q for the fiscal quarter ended March 31, 2019 (the “Covenant Reversion Date”), the loans under the 2017 Term B Loan Facility bore interest at a rate equal to, at ARH’s option, either (a) an alternate base rate equal to the higher of (1) the prime rate in effect on such day, (2) the federal funds effective rate plus 0.5% or (3) the Eurodollar rate applicable for a one-month interest period plus 1.0% (collectively, the “ABR Rate”), plus an applicable margin of 4.50% (increased from 2.25% prior to the Amendment), or (b) LIBOR, adjusted for changes in Eurodollar
reserves (“Eurodollar Rate”), plus an applicable margin of 5.50% (increased from 3.25% prior to the Amendment). From and after the Covenant Reversion Date, the applicable margin on term B loans is 4.00% for ABR Rate loans and 5.00% for Eurodollar rate loans. As of September 30, 2020, the interest payable quarterly was 5.15%.
For the period from April 26, 2019 until the Covenant Reversion Date, outstanding loans under the 2017 Revolving Credit Facility bore interest at a rate equal to, at ARH’s option, either (a) the ABR Rate, plus an applicable margin of 4.25%, or (b) the Eurodollar Rate, plus an applicable margin of 5.25%. From and after the Covenant Reversion Date, any outstanding loans under the 2017 Revolving Credit Facility bear interest at a rate equal to, at ARH’s option, either the ABR Rate or the Eurodollar
Rate, plus, in each case, an applicable margin priced off a grid based upon the consolidated net leverage ratio of ARH and its restricted subsidiaries, which margin is 1.75% higher than the applicable margin prior to the Amendment. There were $68.0 million of borrowings outstanding under the 2017 Revolving Credit Facility as of September 30, 2020, which had an interest rate of 5.05%. Prior to the Amendment, the commitment fee applicable to undrawn revolving commitments under the 2017 Revolving Credit Facility was priced off a grid based upon the consolidated net leverage ratio of ARH and its restricted subsidiaries. For the period from April 26,
2019 until the Covenant Reversion Date, the commitment fee applicable to undrawn revolving commitments under the 2017 Revolving Credit Facility was 0.50% without regard to the consolidated net leverage ratio.
The 2017 Credit Agreement contains customary events of default, the occurrence of which would permit the lenders to accelerate payment of the full amounts outstanding. Additionally, the 2017 Credit Agreement contains customary representations and warranties, affirmative covenants and negative covenants, including restrictive financial and operating covenants. The 2017 Credit Agreement includes a springing maximum consolidated net leverage ratio financial covenant of 6.00:1.00 for the benefit of the lenders under the 2017 Revolving Credit Facility (the “Revolver Financial Covenant”) and, following the Amendment, a maximum consolidated net leverage ratio maintenance financial covenant of 7.00:1.00 for the benefit
of the lenders under both the 2017 Revolving Credit Facility and the 2017 Term B Loan Facility. As of September 30, 2020, we were in compliance with the consolidated net leverage ratio covenant in the 2017 Credit Agreement. As of September 30, 2020, we did not meet the covenants for certain loans totaling $1.9 million and therefore reclassified the $0.6 million noncurrent portion of such loans to the Current portion of long-term debt on the accompanying condensed consolidated balance sheet.
The obligations of ARH under the 2017 Credit Agreement are guaranteed by ARHIC and all of its existing and future wholly owned domestic subsidiaries (collectively,
the “Guarantors”) and secured by a pledge of all of ARH’s capital stock and substantially all of the assets of ARH and the Guarantors, including their respective interests in their joint ventures.
Our clinic-level debt includes third-party term loans and lines of credit. The loan documents for these clinic-level loans generally include representations and warranties, affirmative covenants and negative covenants, including restrictive financial and operating covenants. We have in the past and may in the future be required to seek waivers or amendments to the loan documents for one or more of our clinics as a result of clinic performance issues or otherwise. We recently entered into agreements with certain of our third-party clinic lenders waiving defaults arising from certain financial covenants at the clinic level. Pursuant to these agreements, as of September 30,
2020, we are obliged to prepay up to an aggregate of approximately $8 million during 2020 and up to an aggregate of approximately $10 million during the second quarter of 2021 of the outstanding clinic-level debt, depending on the satisfaction of certain financial covenants for these clinic loans. Of these amounts, we are responsible for up to approximately $4 million and approximately $5 million, respectively, and our physician partners are responsible for the remainder.
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Contractual Obligations and Commitments
The following is a summary of contractual obligations and commitments as of September 30, 2020 (excluding
put obligations relating to our joint ventures, dividend equivalent payments due to our pre-IPO option holders, obligations under our income tax receivable agreement, and obligations related to our United litigation settlement, which are described separately below):
Scheduled payments under contractual obligations (in thousands)
Total
Less than 1
year
1-3 years
3-5 years
More than 5
years
2017
Credit Agreement loans(1)
$
490,400
$
8,800
$
117,600
$
364,000
$
—
Operating leases(2)
181,859
31,785
78,974
33,092
38,008
Purchase
obligations(3)
173,000
74,500
94,000
4,500
—
Interest payments(4)
108,163
44,075
47,378
16,508
202
Third-party
clinic-level debt
87,007
26,909
39,003
18,521
2,574
Finance leases(5)
13,356
1,174
3,712
2,737
5,733
Total
$
1,053,785
$
187,243
$
380,667
$
439,358
$
46,517
_____________________________
(1)Includes
the 2017 Term B Loan Facility with total borrowings of $422.4 million, which bears interest at a variable rate, with principal payments of $2.2 million and interest payments due quarterly, and the 2017 Revolving Credit Facility, which also bears interest at a variable rate, with total borrowings outstanding of $68.0 million.
(2)Net of estimated sublease proceeds of approximately $8 million through 2033. The above includes $1.0 million related to lease obligations that have not yet commenced.
(3)Reflects amounts payable pursuant to minimum purchase commitments under our agreements with certain suppliers. In the event of a shortfall, we are required to pay in cash a portion or all of the amount of such shortfall or may, under certain circumstances,
be subject to a price increase or other fee.
(4)Represents interest payments on debt obligations, including the 2017 Term B Loan Facility under the 2017 Credit Agreement described above. To project interest payments on floating rate debt, we have used the rate as of September 30, 2020 which is described above.
(5)Includes $1.0 million related to lease obligations that have not yet commenced.
Put Obligations
We are party to agreements which contain put provisions that require us to purchase a portion or all of the noncontrolling interests held by third parties in certain of our consolidated subsidiaries.
These put provisions are exercisable at the third-party owners’ discretion either within specified periods (“time-based puts”) or, in certain cases, upon the occurrence of specific events (“event-based puts”), including the sale of all or substantially all of our assets, closure of the clinic, change of control, departure of key executives, third-party members’ death, disability, bankruptcy, retirement, or if third-party members are dissolved and other events, which could accelerate time-based vesting. Some of these puts accelerated as a result of the IPO, of which some were exercised during the nine months ended September 30, 2020. If the put obligations are exercised by a nephrologist partner, we are required to purchase, at the estimated fair value calculated as set forth in the applicable joint venture agreements, a previously agreed upon percentage of such nephrologist partner’s ownership interest.
See “Note 8 — Noncontrolling Interests Subject to Put Provisions” in the notes to the unaudited condensed consolidated financial statements for discussion of these put provisions. The table below summarizes our potential obligations as of September 30, 2020.
Noncontrolling interests subject to put provisions (dollars in thousands)
As of September 30, 2020, $67.6 million of time-based put obligations were exercisable by our nephrologist partners, including those
accelerated as a result of physician IPO put rights. The following is a summary of the estimated potential cash payments in each of the specified years under all time-based puts existing as of September 30, 2020 and reflects the payments that would be made, assuming (a) all vested puts asof September 30, 2020 were exercised on October 1, 2020 and paid according to the applicable agreement and (b) all puts exercisable thereafter were exercised as soon as they vest and are paid accordingly.
(dollars
in thousands) Year
Amount
Exercisable
2020
$
70,690
2021
12,584
2022
12,825
2023
7,557
2024
2,015
Thereafter
1,693
Total
$
107,364
The
estimated fair values of the interests subject to these put provisions can fluctuate, and the implicit multiple of earnings at which these obligations may be settled will vary depending upon clinic performance, market conditions and access to the credit and capital markets.
Dividend Equivalent Payments
On April 26, 2016, we declared and paid a cash dividend to our pre-IPO stockholders equal to $1.30 per share, or $28.9 million in the aggregate. In connection with the dividend, all employees with outstanding options had their option exercise price reduced and in some cases were awarded future dividend equivalent payment, which were paid on vested options and become due upon vesting for unvested options. Additionally, in connection with the cash
dividend, we have made payments to date equal to $1.30 per share, or $5.4 million in the aggregate, to option holders, and, in the case of some performance and market options, as of September 30, 2020 a future payment will be due upon vesting totaling $1.2 million.
Income Tax Receivable Agreement
On April 26, 2016, upon the completion of the IPO, we entered into the TRA, which provides for the payment by us to our pre-IPO stockholders on a pro rata basis of 85% of the amount of cash savings, if any, in U.S. federal, state and local income tax that we actually realize as a result of any deductions (including net operating losses resulting from such deductions) attributable to the exercise of (or
any payment, including any dividend equivalent right or payment, in respect of) any compensatory stock option issued by us that was outstanding (whether vested or unvested) as of the day before the date of our IPO prospectus (such stock options, “Relevant Stock Options” and such deductions, “Option Deductions”). We plan to fund the payments under the TRA with cash flows from operations and, to the extent necessary, the proceeds of borrowings under our 2017 Revolving Credit Facility. The amounts and timing of our obligations under the TRA are subject to a number of factors, including the amount and timing of the taxable income we generate in the future, whether and when any Relevant Stock Options are exercised and the value of our common stock at the time of such exercise, and to uncertainty relating to the future events that could impact such obligations. Estimating the amount of payments that may be made under the TRA is by its nature imprecise given such
uncertainty. However, we expect that during the term of the TRA the payments that we make will be material. Such payments will reduce the liquidity that would otherwise have been available to us. The amount of cash savings for 2019 is estimated to be $10.6 million as of September 30, 2020.
United Settlement
On July 2, 2018, ARA OpCo and ARM executed a binding Settlement Term Sheet with plaintiff United to resolve all ongoing litigation, and on August 1, 2018, the parties entered into a final settlement agreement (the “Settlement Agreement”) on substantially the terms provided in the Settlement Term Sheet. The Settlement Agreement included a release
of all claims that were asserted or that could have been asserted against us or against the nephrologists or other healthcare providers who have entered into joint venture arrangements or medical directorships with us (the “Joint Venture Providers”) and the joint venture entities without any admission of liability or wrongdoing. Pursuant to the Settlement Agreement, we will make total settlement payments of $32.0 million, inclusive of administrative fees and fees for plaintiffs’ counsel, in five installments, with an initial present value of $29.6 million, which is included in “Certain legal and other matters” in the Consolidated Statement of
60
Operations for the year ended December 31, 2018. We paid the
first installment in the amount of $10.0 million on August 1, 2018, the second installment in the amount of $8.0 million on August 1, 2019 and the third installment in the amount of $7.0 million on August 1, 2020, and the fourth installment in the amount of $3.5 million on August 1, 2021 and the final installment of $3.5 million on August 1, 2022. As of September 30, 2020, $3.1 million is classified as Accrued expenses and other current liabilities and $2.8 million is classified in Other long-term liabilities. We also agreed to share certain information with United and to follow certain procedures with respect to patients covered by United. Subject to the mutual releases provided
in the Settlement Agreement, United also agreed to renew, reinstate, and/or not to terminate the network agreements for any Joint Venture Providers whose network agreements United terminated or chose not to renew from August 1, 2017 through the date of the Settlement Agreement. The Settlement Agreement included customary terms and conditions. In connection with the Settlement Agreement, we also entered into a three-year national network agreement with United on August 1, 2018 that provides for specified reimbursement rates for patients covered by Medicare Advantage, Medicaid HMO and commercial insurance products over the term of the agreement. The in-network agreement went into effect on September 1, 2018.
Off Balance Sheet Arrangements
We
have no off-balance sheet arrangements that have, or are reasonably likely to have, a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that would be material to investors.
Recent Accounting Pronouncements
See “Note 1 — Basis of Presentation, Organization and Recent Events” of the notes to the condensed consolidated financial statements.
Critical Accounting Policies and Estimates
For a description of our critical accounting policies and use of estimates, refer to “Part II. Item
7. Management’s Discussion and Analysis of Financial Condition and Results of Operations—Critical Accounting Policies and Estimates” in our 2019 Form 10-K.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
For our disclosures about market risk, please see “Part II. Item 7A. Quantitative and Qualitative Disclosures About Market Risk” in our 2019 Form 10-K. Except as described below, there have been no material changes to our disclosures about market risk in “Part II. Item 7A” of such Form 10-K.
Interest Rate Risk
Our
credit facilities contain multiple interest rate options which allow us to choose between a rate based on either (a) the highest of (i) a U.S. prime rate-based interest rate, (ii) a federal funds rate-based interest rate and (iii) a London Interbank Offered Rate-based interest rate for a one-month interest period or (b) a London Interbank Offered Rate-based interest rate for an interest period duration chosen by us. We are subject to changes in interest rates on the outstanding loans under our 2017 Term B Loan Facility. As of September 30, 2020, we had $68.0 million of borrowings outstanding under the 2017 Revolving Credit Facility. Accordingly, we are subject to changes in interest rates with respect to these borrowings and are exposed to interest rate volatility.
We enter into interest swap and cap agreements from time to time as a
means of hedging exposure to, and volatility from, variable-based interest rate changes as part of an overall interest rate risk management strategy. These swap and cap agreements are not held for trading or speculative purposes and have the economic effect of converting the LIBOR variable component of our interest rate on our long-term debt to a fixed rate.
In March 2017, we entered into a forward starting interest rate swap agreement and two interest rate cap agreements (the “agreements”) with notional amounts totaling $280 million, as a means of fixing the floating interest rate component on $440 million of our variable-rate debt under our Term B Loan Facility. The agreements are designated as cash flow hedges, with a termination date of March 31, 2021.
Because
these agreements are designated as cash flow hedges, gains or losses resulting from changes in fair values of these agreements are reported in accumulated other comprehensive income (loss) until such time as each agreement is realized, at which time the amounts are classified as net income. Hedge effectiveness is tested quarterly. As of September 30, 2020, the
61
instruments were perfectly effective for accounting purposes. Net amounts paid or received for each swap or cap that has settled has been reflected as adjustments to interest expense. These instruments do not contain credit risk contingent features. Based on our interest rate swap and caps outstanding as of September 30,
2020, a 1 percentage point increase in interest rates would have increased interest expense by $1.1 million. See “Note 9 — Debt” of the notes to the unaudited condensed consolidated financial statements for further discussion of these derivative agreements.
Inflation Risk
We do not believe that inflation has had a material effect on our business, financial condition or results of operations. If our costs were to become subject to significant inflationary pressures, we may not be able to fully offset such higher costs through price increases. Our inability or failure to do so could harm our business, financial condition and results of operations.
ITEM 4. CONTROLS
AND PROCEDURES
(a) Evaluation of Disclosure Controls and Procedures.
Our management, with the participation of our Chief Executive Officer (“CEO”) and Interim Chief Financial Officer (“CFO”), evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of September 30, 2020. In designing and evaluating our disclosure controls and procedures, our management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives, and our management necessarily applied its judgment
in evaluating the cost-benefit relationship of possible controls and procedures. Based on this evaluation, our CEO and Interim CFO concluded that our disclosure controls and procedures were not effective at the reasonable assurance level as of September 30, 2020. Management based its conclusion on the fact that the material weaknesses in the operating effectiveness of our internal control over financial reporting that existed at December 31, 2019, as disclosed in our 2019 Form 10-K, had not been fully remediated at September 30, 2020. For a description of the material weaknesses, see “Part II, Item 9A. Controls and Procedures” in the 2019 Form 10-K and in our Form 10-K for the fiscal year ended December 31, 2018.
(b)
Changes in Internal Control over Financial Reporting.
To date, we have made improvements to controls in the areas of accounting for patient service operating revenues, net accounts receivable, amounts due to payors, income taxes and noncontrolling interests and in the area of review and approval of journal entries. Additionally, we have made improvements to our control environment, information and communication and monitoring to address the material weaknesses identified in those areas. We developed new processes and are in the process of evaluating the design and operating effectiveness of additional controls. We have made, and continue to make, efforts to remediate the material weakness relating to the lack of sufficient accounting and supervisory personnel through the training of our existing, and hiring additional, accounting, tax and financial reporting
personnel. The material weaknesses cannot be considered remediated until the applicable remedial controls operate for a period of time sufficient for management to conclude, through testing, that these controls are operating effectively.
Other than the changes described above under “Changes in Internal Control over Financial Reporting,” there were no changes in our internal control over financial reporting during the quarter ended September 30, 2020 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
The information required by this Part I, Item 3 is incorporated herein by reference to the information set forth in “Note 16 — Certain Legal and Other Matters” to the condensed consolidated financial statements included in this report.
ITEM 1A. RISK FACTORS
Except
as described below, there have been no material changes with respect to the risk factors described in “Part I. Item 1A. Risk Factors” in our 2019 Form 10-K.
The ongoing COVID-19 pandemic and responses thereto have adversely affected, and we expect will continue to adversely affect, our business, results of operations and financial condition.
The global spread and unprecedented impact of COVID-19 is complex and evolving and has resulted in, and we expect will continue to result in disruption to our business and adversely affect our results of operations and financial condition. On March 11, 2020, the World Health Organization declared COVID-19 a global pandemic. Further, on March 13, 2020, the U.S.
government declared the COVID-19 pandemic a national emergency. The extent, duration and magnitude of the COVID-19 pandemic’s effects on us depends on numerous factors, including the rate of COVID-19’s spread and duration of the pandemic, impacts on our staff, patients, physician partners, suppliers and other business partners, the pandemic’s impact on the U.S. economy, the administrative developments related to the pandemic at federal, state and local levels, and our infectious disease prevention and control efforts. The situation surrounding COVID-19 remains fluid, and we are carefully monitoring the impact of the COVID-19 pandemic on our operating and financial performance. Beginning in March 2020 we began to experience increased expenses to protect our patients and staff and a reduction in treatment volume in connection with the pandemic. The impacts on our operating and financial performance due to the COVID-19 pandemic became more significant in the second quarter
and continued through the third quarter. We expect these impacts may continue beyond the third quarter. We cannot at this time accurately predict the ultimate impact that COVID-19 will have on our operating and financial performance, but the adverse impact may be material. We have undertaken measures designed to mitigate these impacts, including acceptance of government assistance intended to offset certain of the impacts, but these measures may not be sufficient to fully offset the operating and financial effects on our business from the pandemic.
The COVID-19 pandemic has subjected our business, operations and financial condition to a number of significant risks:
Operations, Revenues and Expenses: The U.S. Department of Homeland Security has identified certain industries,
including ours, as a critical infrastructure sector with a special responsibility to continue operations during the pandemic. In light of this, we have undertaken and will continue to undertake measures to protect our patients, staff and physician partners and to enable our continued operation in the face of the pandemic, as discussed under “Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations—COVID-19 Pandemic.” These and other measures taken in response to COVID-19 have resulted in increased operating expenses, including higher salary and wage expense, increased supply, equipment and information technology costs and higher legal and consulting costs. For the nine months ended September 30, 2020, we estimate that we incurred an additional $14.3 million in operating expenses as a result of the measures
we have taken in response to COVID-19, of which $13.5 million of these additional expenses were offset by grant funds received under the CARES Act. We expect to incur many of these additional operating expenses for the duration of the pandemic, and if the severity of the pandemic increases, these additional expenses could increase. Further, once the effects of the pandemic subside, we expect that certain of these expenses and operational changes, particularly with respect to enhanced health and safety measures, will be necessary for the foreseeable future and will increase our ongoing costs in the future.
The COVID-19 pandemic has also resulted in a substantial impact on our patients. Patients suffering from end-stage renal disease generally have co-morbidities that often place them at increased risk with COVID-19, which may result in increased patient hospitalizations,
missed treatments, which includes mortality, and higher mortality. While many of our COVID-19 positive patients recover, missed treatments associated with COVID-19 positive patients during the second quarter resulted in an estimated 0.9% reduction in treatment volume growth compared to the nine months ended September 30, 2019. This reduction in treatment volume growth resulted approximately $4.4 million of reduced patient service operating revenues, net of direct patient costs, for the nine months ended September 30, 2020 of which was offset by $3.4 million of grant funds received under the CARES Act.The adverse impact on our treatment volume could increase in the event of a prolonged or
increasingly severe pandemic. Further, broad economic factors resulting from the pandemic, including increasing unemployment rates, may lead to increases in uninsured patients and patients with lower-paying government insurance programs. The impact of this may be delayed or mitigated as a result of patients accessing COBRA and exchange plans but could have a material impact on our longer term earnings. A significant reduction in our treatment volume or in the number of patients with commercial insurance would have a material adverse effect on our revenues, earnings and cash flows.
During the third quarter of 2020, we did not experience any significant issues in billing or cash collections directly associated with the COVID-19 pandemic. However, almost all U.S. states and many local jurisdictions previously issued and
many retain, “shelter-in-place” orders, quarantines, executive orders and similar government orders, restrictions and recommendations for their residents to control the spread of COVID-19. States and local jurisdictions may in the future re-issue similar or more restrictive orders, restrictions and recommendations. These efforts, and the resulting widespread closures of businesses not deemed “essential,” work stoppages, slowdowns and delays, work-from-home policies, and travel restrictions, may result in delays in our billing or cash collections due to lower claims operations staffing levels and longer call waiting times at certain of our commercial payors. If delays such as these become significant in number or duration, it could result in an adverse impact on our collections, which would negatively impact our earnings.
Moreover, the economic and other effects of the
pandemic may adversely impact our physician partners’ ability to continue to serve as medical directors at our facilities and to make required pro rata capital contributions, if necessary, to support the operations of the clinics they jointly own with us. We may find it necessary or in the interest of our business to provide financial or other types of support to certain of our clinics resulting from the inability of our physician partners to meet their obligations, which could materially increase our expenses. While governments have and may continue to implement various stimulus and relief programs, it is uncertain whether and to what extent we or our physician partners will be eligible to participate in such programs, whether conditions or restrictions imposed under such programs will be acceptable, and whether such programs will be effective in avoiding or significantly mitigating the financial impacts of the COVID-19 pandemic.
Financial
Condition and Indebtedness: In light of uncertainty in the global economy and financial capital markets resulting from the COVID-19 pandemic, in March 2020, we drew down all of the $30.5 million that was available under our revolving credit facility as a precautionary measure to strengthen our liquidity. While we repaid a portion of these borrowings in the third quarter, as of September 30, 2020, we still had $i68 million
of borrowings outstanding under our revolving credit facility. As we manage through the effects of the pandemic, we or our clinics may be unable to satisfy financial covenants in our debt agreements. A default under our revolving credit facility or under our clinic-level debt would enable the lenders to terminate their commitments thereunder and could trigger a cross-default, acceleration or other consequences under our other indebtedness or financial instruments. There is no guarantee that debt financings will be available in the future to fund our obligations or will be available on terms consistent with our expectations.
The CARES Act enacted in March 2020 is intended to assist many aspects of the American economy, and includes provisions to expand existing and introduce new programs to provide additional sources of liquidity to healthcare providers. We and our facilities have received
funds under certain of these programs. See “Item. 2 Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources.” Certain of these funds represent deferrals of amounts otherwise currently due from us or advances on future revenues. While funds representing deferrals or advances provide us with additional short-term liquidity, to the extent that we elect to use those funds for current expenses, the repayment of these amounts when due may result in an adverse impact on our financial condition. Furthermore, the terms and conditions published by the U.S. Department of Health and Human Services that apply to certain grants we received require that the funds may only be used to offset lost revenue and increased expenses attributable to the COVID-19 pandemic. To date we have applied $16.8 million of these grants funds to offset lost revenue and increased expenses, but our ability to utilize and retain some or
all of these remaining grant funds will depend on the magnitude, timing and nature of the impact of COVID-19 and that the terms and conditions related to such provider relief funding or other government relief programs will not change or be interpreted in ways that impact our ability to comply with such terms and conditions in the future. We continue to evaluate the terms and conditions and the financial impact of funds received under the CARES Act and the other government relief programs. Further, there can be no assurance as to whether the federal government may consider additional stimulus and relief efforts and the impact of such measures or legislation on our operations.
Growth: With the COVID-19 pandemic, the slower pace of de novo clinic development we experienced in 2019 has continued into 2020, and we expect it will continue through the remainder of
2020 and possibly beyond, which could impact revenue growth. This slower pace of development could be further impacted to the extent that the pandemic results in difficulties obtaining commercially viable financing for clinics, construction delays or delays in certification as a result of business activity restrictions. We expect that the use of these grant funds by healthcare providers will be subject to significant scrutiny by the federal government. We have structured and will continue to structure our use of these funds in accordance with
the terms and conditions, but federal regulators may disagree with our interpretation of these terms and conditions
and require that we repay some or all amounts received at our facilities and pay or impose other penalties.
The impact of the COVID-19 pandemic continues to rapidly evolve, and the continuation and resurgence of the pandemic that have been experienced in various regions, or further resurgences or waves of the pandemic, could precipitate or aggravate the other risk factors that we identified in our 2019 Form 10-K, which in turn could further materially adversely affect our business, financial condition, liquidity, results of operations and profitability, including in ways that are not currently known to us or that we do not currently consider to present significant risks.
Risks Related to Information Technology
Disruptions of information
technology systems or data security breaches could adversely affect our business.
Significant disruptions of information technology systems or security breaches of our internal systems and those of third parties, including in our remote work environment as a result of the COVID-19 pandemic, could adversely affect our business and clinic operations and/or result in the loss, misappropriation, and/or unauthorized access, use or disclosure of, or the prevention of access to, confidential information (including proprietary business information and personal information), and could result in financial, legal, business and reputational harm to us. Any such event that leads to unauthorized access or damage from computer viruses, malware, natural disasters, terrorism, war and telecommunications and electrical failures, and use or disclosure of personal information, including personal information
regarding our patients or employees, could harm our reputation, compel us to comply with federal and/or state breach notification laws, subject us to liability under laws and regulations that protect the privacy and security of personal information, which could disrupt our business, result in increased costs or loss of revenue, and/or result in significant legal and financial exposure. Moreover, the prevalent use of mobile devices to access confidential information increases the risk of security breaches. Such systems are also vulnerable to service interruptions or to security breaches from cyber-attacks by malicious third parties over the Internet or through other mechanisms. Cyber-attacks are increasing in their frequency, sophistication and intensity, and have become increasingly difficult to detect, and any delay in identifying them may further harm us. Cyber-attacks could include the deployment of harmful malware, ransomware, denial of service attacks, social engineering
and other means to affect service reliability and threaten the confidentiality, integrity and availability of information. Cyber-attacks also could include phishing attempts or e-mail fraud to cause protected health information to be transmitted to an unintended recipient. The number and complexity of these threats continue to increase over time. Cyber threats may be broadly targeted, or they may be targeted against our information systems or those of our third-party contractors. In particular, there have been increasing number of cyber threats and attempts by foreign hackers targeted towards U.S. healthcare providers and companies.
While we have not experienced any such material system failure, accident, cyber-attack or security breach to date, if such an event were to occur and cause interruptions in our business, it could result in a material disruption of our clinic operations. In
addition, as risks with respect to our information systems continue to evolve, we could incur additional costs to maintain the security of our information systems and comply with evolving laws and regulations pertaining to cybersecurity and related areas. To the extent that any disruption or security breach were to result in a loss of, or damage to, our data or applications, or inappropriate disclosure of confidential, personal or proprietary information, we could incur liability, including regulatory fines and other losses with respect to privacy claims.
Risks related to the Proposed Merger
Our inability to complete the Merger, or to complete the Merger in a timely manner, including as a result of the failure to obtain stockholder approval to adopt the Merger Agreement, the failure to obtain required regulatory approvals
or the failure to satisfy the other conditions to the consummation of the Merger could negatively affect our business, financial condition and results of operations.
The Merger is subject to various closing conditions such as the approval of our stockholders, as well as certain regulatory approvals in various jurisdictions, among other customary closing conditions. It is possible that our stockholders will not approve the Merger or that a government entity may prohibit, enjoin or refuse to grant approval for the consummation of the Merger. If any condition to the closing of the Merger is not satisfied or, if permissible, not waived, the Merger will not be completed. In addition, satisfying the conditions to the closing of the Merger may take longer than we expect. There can be no assurance that any of the conditions to closing will be satisfied or waived or that other events will not intervene
to delay or result in the failure to consummate the Merger.
If the Merger is not completed for any reason, our stockholders would not receive any payment for their shares in connection with the Merger, and we would remain an independent public company, with our shares continuing to be traded on the New York Stock Exchange. Depending on the circumstances that would have caused the Merger not to be completed, the
price of our common stock may decline materially. If that were to occur, it is uncertain when, if ever, our common stock would return to the price levels at which the shares
currently trade.
Failure to complete the Merger could trigger the payment of a termination fee, and, whether or not the Merger is consummated, we have incurred and will continue to incur significant costs, fees and expenses relating to professional services.
Under the Merger Agreement, we may be required to pay a termination fee (the “Termination Fee”) of approximately $12.1 million (or, under certain specified circumstances in connection with a bona fide written acquisition proposal received prior to November 10, 2020, approximately $5 million), if the Merger Agreement is terminated under specified circumstances, including, among others, circumstances in which (i) our board of directors changes its recommendation with respect to the transaction or we terminate the
Merger Agreement to accept a Superior Proposal (as defined in the Merger Agreement). There can be no assurance that the Merger Agreement will not be terminated under the circumstances triggering these termination fee obligations. Furthermore, whether or not the Merger is consummated, we have incurred, and will continue to incur, significant costs, fees and expenses relating to professional services in connection with the Merger. Payment of these costs, fees and expenses could adversely affect our business, financial condition and results of operations.
Uncertainties associated with the Merger may cause us to lose patients, payors, suppliers, and physician partners and make it more difficult to retain and hire key personnel, and the Merger may disrupt our current plans and operations or divert management’s attention from our ongoing business.
As
a result of the uncertainty surrounding the conduct of our business while the Merger is pending, our relationships with patients, payors, suppliers, physician partners and other parties may be adversely affected. Due to uncertainty about our future while the Merger is pending, we may lose patients, payors, suppliers or physician partners, and other parties may alter their business relationships with us.
Also, our employees, including key personnel, may be uncertain about their future roles and relationships with us following the completion of the Merger, which may adversely affect our ability to retain them or to hire new employees, and, while the Merger is pending, the potential disruption of plans or diversion of management’s attention from our ongoing business operations could adversely affect our business, financial condition and results of operations.
In
addition, the Merger Agreement generally requires us to operate in the ordinary course of business consistent with past practice, pending consummation of the Merger and restricts us from taking certain actions with respect to our business and financial affairs without Parent’s consent. Such restrictions will be in place until either the Merger is consummated or the Merger Agreement is terminated. These restrictions could restrict our ability to, or prevent us from, pursuing attractive business opportunities (if any) that arise prior to the consummation of the Merger. For these and other reasons, the pendency of the Merger could adversely affect our business, financial condition and results of operations.
The Merger Agreement contains provisions that could make it difficult for a third party to acquire us prior to the completion of the Merger.
The
Merger Agreement contains restrictions on our ability to obtain a third-party proposal for an acquisition of our company. These provisions include our agreement, from November 10, 2020 until the effective time of the Merger, not to solicit or initiate any additional discussions with third parties regarding other proposals to acquire us, as well as restrictions on our ability to respond to such proposals, subject to fulfillment of certain fiduciary requirements of our board of directors. The Merger Agreement also contains certain termination rights, including, under certain circumstances, a requirement for us to pay to Parent the Termination Fee.
These provisions might discourage an otherwise interested third party from considering or proposing an acquisition of
ARA, even one that may be deemed of greater value to our stockholders than the Merger. Furthermore, even if a third party elects to propose an acquisition, the concept of a termination fee may result in that third party offering a lower value to our stockholders than such third party might otherwise have offered.
Stockholder litigation could prevent or delay the closing of the Merger or otherwise negatively impact our business, financial results and operations.
We may incur additional costs in connection with the defense or settlement of any future stockholder litigation in connection with the Merger. Such litigation may adversely affect our ability to complete the Merger. We could incur significant costs in connection with any such litigation, including costs associated with indemnification obligations to our directors and
officers. Furthermore, one of the conditions to the closing of the Merger is the absence of any governmental order or law preventing the Merger or making the consummation of the Merger illegal. Consequently, if a plaintiff were to secure injunctive or other relief prohibiting, delaying or otherwise adversely affecting our ability to complete the Merger, then such injunctive or other relief may prevent the Merger from becoming effective within the expected time frame or at all.
Any disruptions to our business while the Merger is pending that have a material adverse impact to our
financial results could result in increased borrowings
While the Merger is pending, a significant reduction in revenues and the consequential impact on our results of operations could negatively impact our cash on hand. Accordingly, ARA would need to draw on its current revolving credit facilities or obtain financing from other sources in order to fund operations and capital expenditures.
Our executive officers and directors may have interests that are different from, or in addition to, those of our stockholders generally.
Our executive officers and directors may have interests in the Merger that are different from, or are in addition to, those of our stockholders generally. These interests include direct or indirect ownership of our common stock,
stock options and restricted stock, and the potential receipt of change in control or other severance payments in connection with the consummation of the Merger.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
During the quarter ended September 30, 2020, we repurchased 2,700 shares of common stock at an aggregate cost of $17,388 to satisfy tax withholding obligations upon the vesting of previously granted shares of restricted stock. The following table provides information about such repurchases:
Period
Total
Number of Shares Purchased
Average Price Paid per Share
Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs
Maximum Number of Shares that May Yet Be Purchased Under the Plans or Programs
Inline XBRL Instance Document - this instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document.
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
