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(Parenthetical)
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Income (Loss)
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Income (Loss) (Parenthetical)
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Organization (Details)
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Schedule of Revenues by Service Type (Details)
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Schedule of Revenues by Sources (Details)
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Income Taxes (Details)
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Schedule of Rollforward of Goodwill (Details)
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Schedule of Non-Controlling Interests - Redeemable
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Medicare Accelerated Payments and Deferred
Governmental Grants (Details)
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Schedule of Carrying Amount and Fair Value of
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(Exact name of registrant as
specified in its charter)
_____________________________________
iDelaware
i47-3620923
(State
or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification No.)
i340 Seven Springs Way, Suite 600
iBrentwood,
iTennessee
i37027
(Address of Principal Executive Offices)
(Zip Code)
(i615)
i234-5900
(Registrant’s telephone number, including area code)
_____________________________________
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, par value $0.01 per share
iSGRY
iThe
Nasdaq Global Select Market
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 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.
iLarge accelerated filer ☒
Accelerated
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. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No i☒
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. iOrganization
and Summary of Accounting Policies
Organization
Surgery Partners, Inc., a Delaware corporation, acting through its subsidiaries, owns and operates a national network of surgical facilities and ancillary services. The surgical facilities, which include ambulatory surgery centers ("ASCs") and surgical hospitals, primarily provide non-emergency surgical procedures across many specialties, including, among others, orthopedics and pain management, gastroenterology, ophthalmology, and general surgery. The Company's surgical hospitals also provide services such as diagnostic imaging, laboratory, obstetrics, oncology, pharmacy, physical therapy and wound care. Ancillary services are comprised of multi-specialty
physician practices, urgent care facilities and anesthesia services. Unless the context otherwise indicates, Surgery Partners, Inc. and its subsidiaries are referred to herein as "Surgery Partners,""we,""us,""our" or the "Company."
As of September 30, 2023, the Company owned or operated a portfolio of i154 surgical facilities, comprised
of i136 ASCs and i18 surgical hospitals in i31
states. The Company owns these facilities in partnership with physicians and, in some cases, health care systems in the markets and communities it serves. The Company owned a majority interest in i90 of these surgical facilities and consolidated i117
of these facilities for financial reporting purposes.
i
Basis of Presentation
The accompanying condensed consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles ("GAAP") for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and notes required by GAAP for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for fair presentation
of the Company's financial position and results of operations have been included. The Company’s fiscal year ends on December 31 and interim results are not necessarily indicative of results for a full year or any other interim period. The information contained in these condensed consolidated financial statements should be read in conjunction with the Company’s consolidated financial statements and notes thereto included in the Company's Annual Report on Form 10-K for the year ended December 31, 2022 (the "2022 Annual Report on Form 10-K").
iThe
condensed consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries, as well as interests in partnerships and limited liability companies controlled by the Company through its ownership of a majority voting interest or other rights granted to the Company by contract to manage and control the affiliate's business. All significant intercompany balances and transactions are eliminated in consolidation.
i
Use
of Estimates
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported in the condensed consolidated financial statements and footnotes. Examples include, but are not limited to, estimates of accounts receivable allowances, professional and general liabilities and the estimate of deferred tax assets or liabilities. Actual results could differ from those estimates.
i
Revenues
The
Company's revenues generally relate to contracts with patients in which the performance obligations are to provide health care services. The Company recognizes revenues in the period in which its obligations to provide health care services are satisfied and reports the amount that reflects the consideration the Company expects to be entitled to receive. The contractual relationships with patients, in most cases, also involve a third-party payor (e.g., Medicare, Medicaid and private insurance organizations, including plans offered through the health insurance exchanges) and the transaction prices for the services provided are dependent upon the terms provided by or negotiated with the third-party payors.
The payment arrangements with third-party payors for the services provided to the related patients typically specify payments at amounts less than the Company's standard charges. The Company continually reviews the contractual estimation process to consider and incorporate updates to laws and regulations and the frequent changes in managed care contractual terms resulting from contract renegotiations and renewals.
Patient
service revenues. This revenue is related to charging facility fees in exchange for providing patient care. The fee charged for health care procedures performed in surgical facilities varies depending on the type of service provided, but usually includes all charges for usage of an operating room, a recovery room, special equipment, medical supplies, nursing staff and medications. The fee does not normally include professional fees charged by the patient’s surgeon, anesthesiologist or other attending physician, which are billed directly by such physicians to the patient or third-party payor. However, in several surgical facilities, the Company charges for anesthesia services. Ancillary service revenues include fees for patient visits to the Company's physician practices, pharmacy
services and diagnostic tests ordered by physicians.
Patient service revenues are recognized as performance obligations are satisfied. Performance obligations are based on the nature of services provided. Typically, the Company recognizes revenue at a point in time in which services are rendered and the Company has no obligation to provide further patient services. As the Company primarily performs outpatient procedures, performance obligations are generally satisfied same day and revenue is recognized on the date of service.
The Company determines
the transaction price based on gross charges for services provided, net of estimated contractual adjustments and discounts from third-party payors. The Company estimates its contractual adjustments and discounts based on contractual agreements, its discount policies and historical experience. Changes in estimated contractual adjustments and discounts are recorded in the period of change.
Other service revenues. Other service revenues include management and administrative service fees derived from the non-consolidated facilities that the Company accounts for under the equity method, management of surgical facilities in which it does not own an interest, and management services provided to physician practices
for which the Company is not required to provide capital or additional assets and other non-patient services. The management agreements typically require the Company to provide recurring management services over a multi-year period, which are billed and collected on a monthly basis. The fees derived from these management arrangements are based on a predetermined percentage of the revenues of each facility or practice and are recognized in the period in which management services are rendered and billed.
The following table sets forth patient service revenues by type of payor and as a percentage of total patient service revenues for the Company's consolidated surgical facilities
(dollars in millions):
(1)Other
is comprised of anesthesia service agreements, automobile liability, letters of protection and other payor types.
i
Accounts Receivable
Accounts receivable from third-party payors are recorded net of estimated implicit price concessions, which are estimated based on the historical trend of the Company's surgical hospitals’ cash collections and contractual write-offs, and for the Company's surgical facilities in general,
established fee schedules, relationships with payors and procedure statistics. While changes in estimated reimbursement from third-party payors remain a possibility, the Company expects that any such changes would be minimal and, therefore, would not have a material effect on its financial condition or results of operations.
Accounts receivable consists of receivables from federal and state agencies (under the Medicare and Medicaid programs), private insurance organizations, employers and patients. Management recognizes that revenues and receivables from government agencies are significant to the Company's operations, but it does not believe that there is significant credit risk associated with these government agencies. Concentration of credit risk with
respect to other payors is limited because of the large number of such payors.
The Company recognizes that final reimbursement of accounts receivable is subject to final approval by each third-party payor. However, because the Company has contracts with its third-party payors and also verifies insurance coverage of the patient before medical services are rendered, the amounts that are pending approval from third-party payors are not considered significant. Amounts are classified outside of self-pay if the Company has an agreement with the third-party payor or has verified a patient’s
coverage prior to services rendered. The Company's policy is to collect co-payments and deductibles prior to providing medical services. Patient services of the Company are primarily non-emergency, which allows the surgical facilities to control the procedures for which third-party reimbursement is sought and obtained. The Company does not require collateral from self-pay patients.
The Company's collection policies and procedures are based on the type of payor, size of claim and estimated collection percentage for each patient account. The
Company analyzes accounts receivable at each of its surgical facilities to ensure the proper collection and aged category. Collection efforts include direct contact with third-party payors or patients, written correspondence and the use of legal or collection agency assistance, as required.
i
Income Taxes
The Company uses the asset and liability method to account for income taxes. Under this method, deferred income tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial
statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. If a carryforward exists, the Company makes a determination as to whether the carryforward will be utilized in the future. A valuation allowance is established for certain carryforwards when their recoverability is deemed to be uncertain. The carrying value of the net deferred tax assets assumes that the Company will be able to generate sufficient future taxable income
in certain tax jurisdictions, based on estimates and assumptions. If our expectations for future operating results on a consolidated basis or at the state jurisdiction level vary from actual results due to changes in health care regulations, general economic conditions, or other factors, we may need to adjust the valuation allowance, for all or a portion of our deferred tax assets. Our income tax expense in future periods will be reduced or increased to the extent of offsetting decreases or increases, respectively, in our valuation allowance in the period when the change in circumstances occurs. These changes could have a significant impact on our future earnings.
The Company and certain of its subsidiaries file a consolidated federal income tax return.
The partnerships, limited liability companies, and certain non-consolidated physician practice corporations also file separate income tax returns. The Company's allocable portion of each partnership's and limited liability company's income or loss is included in taxable income of the Company. The remaining income or loss of each partnership and limited liability company is allocated to the other owners.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
The Company's effective tax rate was (i7.7)% for the nine months ended September 30, 2023 compared to i17.4%
for the nine months ended September 30, 2022. For the nine months ended September 30, 2023, the effective tax rate differed from the federal corporate tax rate of 21% primarily due to earnings attributable to non-controlling interests, an increase in the Company’s valuation allowance attributable to interest expense limitations, and discrete tax benefits of (i) $i1.6 million
related to the vesting of restricted stock awards, and (ii) $i15.8 million related to entity divestitures. For the nine months ended September 30, 2022, the effective tax rate differed from 21% primarily due to earnings attributable to non-controlling interests, an increase in the Company’s valuation allowance attributable to interest expense limitations, and discrete tax benefits of (i) $i4.6 million
related to the vesting of restricted stock awards, (ii) $i1.8 million attributable to non-recurring earnings’ impact on the Company’s valuation allowance, and (iii) $i1.0 million
related to entity divestitures. Based upon the application of interim accounting guidance, the tax rate as a percentage of net income after income attributable to non-controlling interests will vary based upon the relative net income from period to period.
iGoodwill
Goodwill represents the excess of the fair value of the consideration provided in an acquisition plus the fair value of any non-controlling interests over the fair value of net assets acquired and is not amortized. Additions to goodwill include amounts resulting from new business combinations
and incremental ownership purchases in the Company's subsidiaries. A summary of the Company's acquisitions and disposals for the nine months ended September 30, 2023 is included in Note 2. "Acquisitions and Disposals."
i
A summary of activity related to goodwill for the nine months ended September 30,
2023 is as follows (in millions):
A detailed evaluation of potential impairment indicators was performed as of September 30, 2023, which specifically considered recent increases in interest rates, inflation risk and market volatility.
On the basis of available evidence as of September 30, 2023, no indicators of impairment were identified. Future estimates of fair value could be adversely affected if the actual outcome of one or more of the Company's assumptions changes materially in the future, including a material decline in the Company’s stock price and the fair value of its long-term debt, lower than expected surgical case volumes, higher market interest rates or increased operating costs. Such changes impacting the calculation of fair value could result in a material impairment charge in the future.
i
Derivative
Instruments and Hedging Activities
The Company records all derivatives on the balance sheet at fair value and any financing elements treated as debt instruments are recorded at amortized cost. The accounting for changes in the fair value of derivatives depends on the intended use of the derivative, whether the Company has elected to designate a derivative in a hedging relationship and apply hedge accounting and whether the hedging relationship has satisfied the criteria necessary to apply hedge accounting. Hedge accounting generally provides for the matching of the timing of gain or loss recognition on the hedging instrument with the recognition of the changes in the fair value of the hedged asset or liability that are attributable to the hedged risk in
a fair value hedge or the earnings effect of the hedged forecasted transactions in a cash flow hedge. The Company may enter into derivative contracts that are intended to economically hedge certain risks even though hedge accounting does not apply or the Company elects not to apply hedge accounting.
The Company made an accounting policy election to measure the credit risk of its derivative financial instruments that are subject to master netting agreements on a net basis by counterparty portfolio.
i
Non-Controlling
Interests—Redeemable
Each partnership and limited liability company through which the Company owns and operates its surgical facilities is governed by a partnership or operating agreement, respectively. In certain circumstances, the applicable partnership or operating agreements for the Company's surgical facilities provide that the facilities will purchase all of the physician limited partners’ or physician minority members’, as applicable, ownership if certain adverse regulatory events occur, such as it becoming illegal for the physician(s) to own an interest in a surgical facility, refer patients to a surgical facility or receive cash distributions from a surgical facility. The non-controlling interests—redeemable
are reported outside of stockholders' equity in the condensed consolidated balance sheets.
Net
income attributable to non-controlling interests—redeemable
i25.6
i29.9
(Disposal)
acquisition of shares of non-controlling interests, net—redeemable
(i2.2)
i11.9
Distributions
to non-controlling interest—redeemable holders
(i33.2)
(i33.2)
Balance
at end of period
$
i332.2
$
i338.8
/
Medicare
Accelerated Payments and Deferred Governmental Grants
The Company received grant funds distributed under the Coronavirus Aid, Relief and Economic Security Act (the “CARES Act”) and other governmental assistance programs. The recognition of amounts received is conditioned upon attestation with terms and conditions that funds were used for COVID-19 related healthcare expenses or lost revenues. During the three months ended September 30, 2023, the Company did inot
recognize any grant funds as a reduction in operating expenses. During the nine months ended September 30, 2023, the Company recognized grant funds as a reduction in operating expenses in the amount of $i1.1 million. During the three and nine months ended September 30, 2022, the Company recognized grant funds received as a reduction in operating expenses in the amount of $i0.5
million and $i1.8 million, respectively. There were ino remaining unrecognized grant funds as of September 30, 2023. As of December 31, 2022 approximately $i3 million
of unrecognized grant funds received was reflected as a component of other current liabilities within the condensed consolidated balance sheets.
The Company received accelerated payments under the Medicare Accelerated and Advance Payment Program. The payments received were deferred and included in the condensed consolidated balance sheets. There were iino/
remaining deferred accelerated payments as of September 30, 2023, and remaining deferred accelerated payments were minimal as of December 31, 2022. During the three and nine months ended September 30, 2022, approximately $i13 million and $i56 million,
respectively, was repaid in accordance with the terms of the program. These repayments are included as a component of the change in Medicare accelerated payments and deferred government grants in the condensed consolidated statements of cash flows.
i
Fair Value of Financial Instruments
The fair value of a financial instrument is the amount at which the instrument could be exchanged in an orderly transaction between market participants to sell the asset or transfer the liability. The Company uses fair value
measurements based on inputs classified into the following hierarchy:
•Level 1: Unadjusted quoted prices in active markets for identical assets or liabilities.
•Level 2: Inputs other than quoted prices that are observable for the asset or liability, either directly or indirectly. These may include quoted prices for similar assets or liabilities in active markets and quoted prices for identical or similar assets or liabilities in markets that are not active.
•Level 3: Unobservable inputs in which little or no market data exists, therefore requiring an entity to develop its own assumptions, depending on the nature of the item being valued.
The carrying amounts reported in the condensed consolidated balance sheets for cash and
cash equivalents, accounts receivable, restricted invested assets and accounts payable approximate their fair values under Level 3 calculations.
i
A summary of the carrying amounts and estimated fair values of the Company's long-term debt follows (in millions):
The
fair values in the table above were based on Level 2 inputs using quoted prices for identical liabilities in inactive markets. The carrying amounts related to the Company's other long-term debt obligations, including finance lease obligations, approximate their fair values based on Level 3 inputs.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
iVariable
Interest Entities
The condensed consolidated financial statements include the accounts of variable interest entities ("VIE") in which the Company is the primary beneficiary under the provisions of the Financial Accounting Standards Board's ("FASB") Accounting Standards Codification 810, "Consolidation". The Company has the power to direct the activities that most significantly impact a VIE's economic performance. Additionally, the Company would absorb the majority of the expected losses from any of these entities should such expected losses occur. As of September 30,
2023, the Company's consolidated VIEs consisted of iseven surgical facilities and ifive physician
practices.
The total assets (excluding goodwill and intangible assets, net) of the consolidated VIEs included in the accompanying condensed consolidated balance sheets as of September 30, 2023 and December 31, 2022 were $i64.7 million and $i64.9
million, respectively, and the total liabilities of the consolidated VIEs were $i38.2 million and $i40.9 million, respectively.
•The Company acquired a controlling interest in itwo surgical facilities and a physician practice for aggregate cash consideration of $i23.1 million,
net of cash acquired, and non-cash consideration of $i1.3 million, which consisted of a non-controlling interest in one of the Company's existing surgical facilities. In connection with these acquisitions, the Company preliminarily recognized non-controlling interests of $i20.4 million
and goodwill of $i39.7 million.
•The Company acquired a controlling interest in itwo surgical facilities and an in-development de novo surgical facility, which
were previously accounted for as equity method investments, for aggregate cash consideration of $i26.9 million, net of cash acquired. The Company also amended the operating agreement of a previously non-controlled surgical facility resulting in the Company obtaining a controlling interest in the facility. These transactions resulted in the consolidation of the previously non-consolidated entities.
The previously held non-controlling interests were remeasured and recorded at fair value as of the dates of the transactions. The fair value measurement utilizes Level 3 inputs, which includes unobservable data. The acquisition date fair value of the previously held non-controlling interests was $i27.3 million. As a result of increasing its ownership interest, the Company recognized a net loss of $i7.1 million
included in net loss on disposals, consolidations and deconsolidations in the condensed consolidated statements of operations for the nine months ended September 30, 2023. The net loss was determined based on the difference between the fair value of the Company's previously held non-controlling interests in the entities and the carrying values immediately prior to the transactions. In connection with the consolidation of these facilities, the Company preliminarily recognized non-controlling interests of $i55.1 million
and goodwill of $i106.3 million.
•The Company acquired non-controlling interests in ifive
surgical facilities and itwo in-development de novo surgical facilities for aggregate cash consideration of $i50.2 million.
The non-controlling interests were accounted for as equity method investments and recorded as a component of investments in and advances to affiliates in the accompanying condensed consolidated balance sheets. The Company also paid cash consideration of $i21.0 million to acquire management rights from the prior management service provider related to
four of the aforementioned surgical facilities. Management rights agreements are accounted for and recorded as a component of intangible assets, net in the accompanying condensed consolidated balance sheets. The cash paid to acquire the management rights is presented as a component of other investing activities on the condensed consolidated statements of cash flows.
•The Company acquired a controlling interest in a surgical hospital for cash consideration of $i64.3 million,
net of cash acquired, and assumed debt of $i39.4 million. As of September 30, 2022, $i61.0 million
of the cash consideration was deferred and included as a component of other current liabilities in the accompanying condensed consolidated balance sheets. In connection with the acquisition, the Company preliminarily recognized non-controlling interests of $i45.3 million and goodwill of $i146.3 million.
In October 2022, pursuant to the purchase agreement, the Company paid the deferred consideration and the debt previously assumed with available cash resources.
•The Company acquired a controlling interest in ifour other surgical facilities, itwo
of which were merged into existing surgical facilities, and a physician practice for aggregate cash consideration of $i79.3 million, net of cash acquired, and non-cash consideration of $i5.3 million,
which consisted of a non-controlling interest in two of the Company's existing surgical facilities. In connection with the acquisitions the Company preliminarily recognized non-controlling interests of $i41.5 million and goodwill of $i121.1 million.
•The
Company acquired non-controlling interests in iseven surgical facilities and iseven in-development
de novo surgical facilities for aggregate cash consideration of $i95.1 million. The non-controlling interests were accounted for as equity method investments and recorded as a component of investments in and advances to affiliates in the accompanying condensed consolidated balance sheets.
•The Company sold its interests in isix
surgical facilities for aggregate net cash proceeds of $i30.4 million, a portion of which was held in escrow pursuant to the purchase agreements for such transactions. In connection with these transactions, the Company recognized a pre-tax gain of $i26.9 million
included in net loss on disposals, consolidations and deconsolidations in the condensed consolidated statements of operations for the nine months ended September 30, 2023.
•The Company disposed of its non-controlling interests in a surgical facility and an in-development de novo surgical facility, which were previously accounted for as equity method investments, for cash proceeds of $i1.5 million.
In connection with these transactions, the Company recognized a pre-tax loss of $i13.7 million included in net loss on disposals, consolidations and deconsolidations in the condensed consolidated statements of operations for the nine months ended September 30, 2023.
•The Company sold its interests in a surgical facility, which was previously accounted for as an equity method investment, for net cash proceeds of $i11.5 million, and recognized a pre-tax loss of $i0.4 million
included in net loss on disposals and consolidations in the condensed consolidated statements of operations for the nine months ended September 30, 2022.
•The Company contributed its interests in itwo surgical facilities as non-cash consideration for non-controlling interests in itwo
new separate entities. As a result of these transactions, the Company lost control of the previously controlled surgical facilities but retains a non-controlling interest in each, resulting in the deconsolidation of the previously consolidated entities. The remaining non-controlling interests were accounted for as equity method investments, and initially measured and recorded at fair value as of the dates of the transactions. The fair value measurement utilizes Level 3 inputs, which includes unobservable data, to measure the fair value of the retained non-controlling interests. The fair value determination was based on a combination of multiple valuation methods, which included discounted cash flow and market value approach, which incorporates estimates of future earnings and market valuation multiples for certain guideline companies. The fair value of the investments of $i9.8 million
was recorded as a component of investments in and advances to affiliates in the accompanying condensed consolidated balance sheets. Further, based on the valuation, the transactions resulted in a pretax net loss on deconsolidations of $i5.6 million, which is included in net loss on disposals, consolidations and deconsolidations in the accompanying condensed consolidated statement of operations for the nine months ended September 30, 2022. The net loss was determined based on the
difference between the fair value of the Company’s retained interests in the entities and the carrying values of both the tangible and intangible assets of the entities immediately prior to the transactions.
3. iLong-Term Debt
i
A
summary of long-term debt follows (in millions):
On January 13, 2023, the Company entered into an amendment to its credit agreement, dated as of August 31, 2017 (the "Credit Agreement"), to provide a $i203.8 million
increase in the outstanding commitments under its revolving credit facility (the "Revolver").
As of September 30, 2023, the Company's availability on its Revolver was $i544.9 million (including outstanding letters of credit of $i8.9
million). There were iino/ outstanding borrowings under the Revolver as of both September 30, 2023 and December 31, 2022.
On
June 8, 2023, the Company entered into an amendment to the Credit Agreement to transition the interest benchmark from the London Interbank Offered Rate ("LIBOR") to the Secured Overnight Financing Rate ("SOFR") effective July 1, 2023.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
4. iiLeases/
The
Company's operating leases are primarily for real estate, including medical office buildings, and corporate and other administrative offices. The Company's finance leases are primarily for medical equipment and information technology and telecommunications assets.
i
The following table presents the components of the Company's right-of-use assets and liabilities related to leases and their classification in the consolidated balance sheets (in millions):
Property and equipment, net of accumulated depreciation
i571.8
i529.6
Total
leased assets
$
i816.3
$
i808.7
Liabilities:
Operating
lease liabilities:
Current
Other current liabilities
$
i35.7
$
i36.5
Long-term
Right-of-use
operating lease liabilities
i240.9
i271.4
Total
operating lease liabilities
i276.6
i307.9
Finance
lease liabilities:
Current
Current maturities of long-term debt
i24.7
i20.9
Long-term
Long-term
debt, less current maturities
i616.5
i564.8
Total
finance lease liabilities
i641.2
i585.7
Total
lease liabilities
$
i917.8
$
i893.6
/
During
the nine months ended September 30, 2023, the Company extended certain existing facility real estate leases, resulting in the reclassification of the leases from operating to finance. The modifications resulted in an increase to finance lease liabilities and assets of $i97.1 million and $i95.7 million,
respectively, including the reclassification of existing operating lease liabilities and assets of $i38.4 million and $i36.9 million, respectively.
i
The
following table presents the components of the Company's lease expense included in the condensed consolidated statement of operations (in millions):
Cash
paid for amounts included in the measurement of lease liabilities:
Operating cash outflows from operating leases
$
i47.2
$
i47.9
Operating
cash outflows from finance leases
$
i34.1
$
i30.2
Financing
cash outflows from finance leases
$
i19.3
$
i18.1
Right-of-use
assets obtained in exchange for lease obligations:
Operating leases
$
i39.9
$
i45.3
Finance
leases
$
i108.7
$
i172.5
5. iDerivatives
and Hedging Activities
The Company’s objectives in using interest rate derivatives are to add stability to interest expense and to manage its exposure to interest rate movements. To accomplish this objective, the Company primarily uses interest rate swaps and interest rate caps as part of its interest rate risk management strategy. iDuring 2023 and 2022, such derivatives have been used to hedge the variable cash flows associated
with existing variable-rate debt.
The key terms of interest rate swaps and interest rate caps outstanding are presented below:
As
of September 30, 2023, the Company had inine interest rate swaps with a total net notional amount of $i1.2 billion.
Of the inine interest rate swaps, ithree are pay-fixed, receive 1-Month SOFR (subject to a minimum of i0.75%)
interest rate swaps designated in cash flow hedging relationships with a total notional amount of $i1.2 billion and a termination date of March 31, 2025. The remaining isix interest
rate swaps are undesignated and consist of ithree pay-fixed, receive 1-Month SOFR (subject to a minimum of i1.00%) interest rate swaps and ithree
pay 1-Month SOFR (subject to a minimum of i1.00%), receive-fixed interest rate swaps with a termination date of November 30, 2023. The pay-floating, receive-fixed swaps are designed to economically offset the undesignated pay-fixed, receive-floating swaps. The Company's interest rate derivative agreements were indexed to LIBOR prior to permanent cessation on June 30, 2023 and automatically transitioned to SOFR in accordance with their respective fallback
provisions.
As of September 30, 2023, the Company had itwo interest rate caps designated in cash flow hedging relationships with a total notional amount of $i162.1 million.
The interest rate caps each have a termination date of March 31, 2025. During the nine months ended September 30, 2023, the Company partially terminated a previously undesignated portion of one of its interest rate caps. In connection with the termination, the Company received $i8.6 million,
which is included as a component of operating activities in the condensed consolidated statements of cash flows for the nine months ended September 30, 2023.
The pay-fixed, receive floating interest rate swaps did not meet the requirements to be considered derivatives in their entirety as a result of the financing component. Accordingly, the swaps are considered hybrid instruments, consisting of a financing element treated as a debt instrument and an embedded at-market derivative that was designated as a cash flow hedge.
Within the Company’s condensed consolidated balance sheets, the financing elements treated as debt instruments described above are carried at amortized cost and the embedded at-market derivatives and the undesignated swaps are recorded
at fair value. The cash flows
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
related to the portion treated as debt are classified as financing activities in the condensed consolidated statements of cash flows while the portion treated as an at-market derivative are classified as operating activities. Cash settlements related to the undesignated swaps will offset and are classified as operating activities in the condensed consolidated cash flows.
Within the Company’s condensed consolidated balance sheets, the interest rate caps, including the undesignated portion, are recorded at fair value. The cash flows related to the interest rate caps, including the undesignated portion, are classified as operating activities in the condensed consolidated statements of cash flows.
The Company's interest rate swap agreements, excluding the portion treated as debt, are recognized at fair value in the condensed consolidated balance sheets and are valued using pricing models that rely on market observable inputs such as yield curve data, which are classified as Level 2 inputs within the fair value hierarchy. The fair value of the interest rate caps is determined using the market standard methodology of discounting
the future expected cash receipts that would occur if variable interest rates rise above the strike rate of the caps. The variable interest rates used in the calculation of projected receipts on the caps are based on an expectation of future interest rates derived from observable market interest rate curves and volatilities. The interest rate caps are classified using Level 2 inputs within the fair value hierarchy.
For derivatives designated and that qualify as cash flow hedges of interest rate risk, the gain or loss on the derivative is recorded in accumulated other comprehensive income ("OCI") and subsequently reclassified into interest expense in the same period(s) during which the hedged transaction affects earnings, as documented at hedge inception in accordance with the Company’s accounting policy election. Amounts reported in
accumulated OCI related to derivatives will be reclassified to interest expense as interest payments are made on the Company’s variable-rate debt. Over the next 12 months, the Company estimates that an additional $i53.8 million will be reclassified as a decrease to interest expense.
i
The
following table presents the fair values of our derivatives and their location on the condensed consolidated balance sheets (in millions):
(1)The
balance is related to the financing component of the pay-fixed, receive floating interest rate swaps.
/i
The following table presents the pre-tax effect of the interest rate swaps and caps on the Company's accumulated OCI and condensed consolidated statement of operations (in millions):
Three
Months Ended September 30,
Nine Months Ended September 30,
Location
2023
2022
2023
2022
Derivatives not designated as hedging instruments
Loss
recognized in income
Other income, net
$
i—
$
i0.1
$
i0.6
$
i0.2
Derivatives
in cash flow hedging relationships
Gain recognized in OCI (effective portion)
$
i7.4
$
i37.0
$
i24.1
$
i100.1
(Gain)
loss reclassified from accumulated OCI into income (effective portion) (1)
Interest expense, net
$
(i9.2)
$
i1.5
$
(i23.3)
$
i14.2
/
(1)Includes
amortization of accumulated OCI related to de-designated and terminated interest rate swaps of $i5.3 million and $i5.4
million for the three months ended September 30, 2023 and 2022, respectively. Includes amortization of accumulated OCI related to de-designated and terminated interest rate swaps of $ii16.0/
million for each of the nine months ended September 30, 2023 and 2022.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
6. iEarnings
Per Share
Basic and diluted earnings per share are calculated based on the weighted-average number of shares outstanding in each period and dilutive stock options, unvested shares and warrants, to the extent such securities exist and have a dilutive effect on earnings per share. iA reconciliation of the numerator and denominator of basic and diluted earnings per share follows (dollars in millions, except per share amounts; shares in thousands):
Professional, General, Workers' Compensation and Cyber Liability Risks
The Company is subject to claims and legal actions in the ordinary course of business, including claims relating to patient treatment, employment practices and personal injuries. The Company maintains professional, general, workers' compensation and cyber liability insurance in excess of self-insured retentions through third party commercial insurance carriers. Although management believes the coverage is sufficient for the Company's operations, some claims may potentially exceed the scope of coverage in effect. Plaintiffs in these
matters may request punitive or other damages that may not be covered by insurance. The Company is not aware of any such proceedings that are reasonably possible to have a material adverse effect on the Company's business, financial position, results of operations or liquidity. Total professional, general and workers' compensation claim liabilities as of September 30, 2023 and December 31, 2022 were $i23.6
million and $i20.8 million, respectively. Expected insurance recoveries of $ii12.7/
million as of both September 30, 2023 and December 31, 2022 are included as a component of other current assets and other long-term assets in the condensed consolidated balance sheets.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
In May 2023, we experienced a cybersecurity incident that temporarily disrupted certain facilities in our Idaho market. We
estimate that this incident had an adverse pre-tax impact of approximately $i7 million during the nine months ended September 30, 2023. This estimate includes lost revenue from the associated business interruption and other related expenses. We have filed a claim with the insurance carrier related to this incident. iNo
insurance recoveries were recognized during the nine months ended September 30, 2023.
Stockholder Litigation
On December 4, 2017, a purported Company stockholder filed an action in the Delaware Court of Chancery (the "Delaware Action"). That action is captioned Witmer v. H.I.G. Capital, L.L.C., et al., C.A. No. 2017-0862. The plaintiff in the Delaware Action asserted claims against (i) certain current and former members of the Company’s Board of Directors (together, the "Directors"); (ii) H.I.G. Capital, LLC and certain of its affiliates (collectively, "H.I.G."); and (iii) Bain Capital Private Equity, L.P. and certain of its affiliates (collectively, "Bain Capital" and,
together with the Directors and H.I.G., the "Defendants"). The parties to the Delaware Action negotiated a final stipulation of settlement (the “Settlement Stipulation”), which governs the terms of the settlement of the Delaware Action, and which they filed with the Court of Chancery on November 22, 2021. On February 11, 2022, the Court of Chancery approved the settlement of the Delaware Action as memorialized in the Settlement Stipulation. That decision became final and non-appealable on March 14, 2022. The case is now closed. Pursuant to the settlement, the Company received $i32.8 million
in March 2022, which was included in litigation settlement in the condensed consolidated statements of operations for the nine months ended September 30, 2022.
9. iSegment Reporting
The Company currently operates in itwo major
lines of business that are also the Company's reportable operating segments - the operation of surgical facilities and the operation of ancillary services. The Surgical Facility Services segment includes the operation of ASCs, surgical hospitals and anesthesia services. The Ancillary Services segment consists of multi-specialty physician practices. The "All other" line item primarily consists of the Company's corporate general and administrative functions.
i
The
following tables present financial information for each reportable segment (in millions):
Net
income attributable to non-controlling interests
(i34.6)
(i30.6)
(i99.5)
(i94.9)
Interest
expense, net
i49.8
i60.7
i144.3
i173.9
Depreciation
and amortization
i28.9
i29.8
i87.0
i85.2
Equity-based
compensation expense
i4.4
i5.0
i13.2
i13.0
Transaction,
integration and acquisition costs (1)
i13.0
i13.1
i38.8
i28.4
Net
loss on disposals, consolidations and deconsolidations
i5.8
i2.2
i7.5
i3.2
Litigation
settlements and regulatory change impact (2)
i4.2
i1.5
i13.9
(i27.6)
Undesignated
derivative activity
i—
i—
i0.6
i—
Other
(3)
i1.2
i1.1
i7.7
i1.1
Adjusted
EBITDA
$
i105.5
$
i96.2
$
i295.8
$
i259.4
(1)This
amount includes transaction and integration costs of $i12.8 million and $i12.5 million for the three months ended September 30, 2023 and 2022,
respectively. This amount further includes start-up costs related to de novo surgical facilities of $i0.2 million and $i0.6 million for the three months ended September 30,
2023 and 2022, respectively.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
This amount includes transaction and integration costs of $i37.3
million and $i27.8 million for the nine months ended September 30, 2023 and 2022, respectively. This amount further includes start-up costs related to de novo surgical facilities of $i1.5
million and $i0.6 million for the nine months ended September 30, 2023 and 2022, respectively.
(2)This amount includes a litigation settlement loss of $i3.6
million for the three months ended September 30, 2023. This amount also includes other litigation costs of $i0.6 million and $i1.5 million for the three months ended September 30,
2023 and 2022, respectively.
This amount includes a litigation settlement loss of $i8.1 million and a gain of $i32.8
million for the nine months ended September 30, 2023 and 2022, respectively. This amount also includes other litigation costs of $i1.4 million and $i5.2 million
for the nine months ended September 30, 2023 and 2022, respectively. Additionally, the nine months ended September 30, 2023, includes $i4.4 million related to the impact of recent changes in Florida law regarding the use of letters of protection.
(3)This amount includes estimates for the net impact of the May 2023 cyber event for
the three months ended September 30, 2023.This amount includes estimates for the net impact of a cyber event and losses from a divested business for the nine months ended September 30, 2023.
Amounts presented for the three and nine months ended September 30, 2022 reflect losses incurred, net of insurance proceeds received, related to certain surgical facilities that were closed following Hurricane Ian.
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the condensed consolidated financial statements and related notes included elsewhere in this report and our 2022 Annual Report on Form 10-K. Unless the context otherwise indicates, the terms "Surgery Partners,""we,""us,""our" or the "Company," as used herein, refer to Surgery Partners, Inc. and its subsidiaries. Unless the context implies otherwise, the term “affiliates” means direct and indirect subsidiaries
of Surgery Partners, Inc. and partnerships and joint ventures in which such subsidiaries are partners. The terms “facilities” or “hospitals” refer to entities owned and operated by affiliates of Surgery Partners, Inc. and the term “employees” refers to employees of affiliates of Surgery Partners, Inc.
This report contains forward-looking statements, which are based on our current expectations, estimates and assumptions about future events. All statements other than statements of current or historical fact contained in this report are forward-looking statements. These statements include, but are not limited
to, statements regarding our future financial position, business strategy, budgets, effective tax rate, projected costs and plans and objectives of management for future operations. The words "projections,""believe,""continue,""drive,""estimate,""expect,""intend,""may,""plan,""will,""could,""would" and similar expressions are generally intended to identify forward-looking statements. These statements involve risks, uncertainties and other factors that may cause actual results to differ from the expectations expressed in the statements. Many of these factors are beyond our ability to control or predict. These factors include, without limitation, reductions in payments from government health care programs and private insurance payors, such as health maintenance organizations, preferred provider organizations, and other managed care organizations and employers; our ability to
contract with private insurance payors; changes in our payor mix or surgical case mix; failure to maintain or develop relationships with physicians on beneficial or favorable terms, or at all; the impact of payor controls designed to reduce the number of surgical procedures; our efforts to integrate operations of acquired businesses and surgical facilities, attract new physician partners, or acquire additional surgical facilities; supply chain issues, including shortages or quality control issues with surgery-related products, equipment and medical supplies; competition for physicians, nurses, strategic relationships, acquisitions and managed care contracts; our ability to attract and retain qualified health care professionals; our ability to enforce non-compete restrictions against our
physicians; our ability to manage material liabilities whether known or unknown incurred as a result of acquiring surgical facilities; the impact of future legislation and other health care regulatory reform actions, and the effect of that legislation and other regulatory actions on our business; our ability to comply with current health care laws and regulations; the outcome of legal and regulatory proceedings that have been or may be brought against us; the impact of cybersecurity attacks or intrusions; changes in the regulatory, economic and other conditions of the states where our surgical facilities are located; our indebtedness; the social and economic impact of a pandemic, epidemic or outbreak of a contagious disease, such as COVID-19, on our business; and the risks and uncertainties set forth under the heading "Risk Factors" in our 2022 Annual Report on Form 10-K and discussed from time to time in our reports filed with the SEC.
Considering
these risks, uncertainties and assumptions, the forward-looking events and circumstances discussed in this report may not occur, and actual results could differ materially from those anticipated or implied in the forward-looking statements. When you consider these forward-looking statements, you should keep in mind these risk factors and other cautionary statements in this report.
These forward-looking statements speak only as of the date made. Other than as required by law, we undertake no obligation to publicly update or revise any forward-looking statements, whether because of new information, future events or otherwise.
Executive Overview
As of September 30, 2023, we owned
or operated, primarily in partnership with physicians, a portfolio of 154 surgical facilities comprised of 136 ASCs and 18 surgical hospitals across 31 states. We owned a majority interest in 90 of these surgical facilities and consolidated 117 of these facilities for financial reporting purposes.
Total revenues for the third quarter of 2023 increased 8.6% to $674.1 million from $620.6 million for the third quarter of 2022. Days adjusted same-facility revenues for the third quarter of 2023 increased 14.2% from the same period last year, with a 11.0% increase in revenue per case and a 2.9% increase in same-facility cases. Additionally, for the third quarter of 2023, Adjusted EBITDA increased 9.7% to $105.5 million compared to $96.2 million for the same period last year. For the third quarter of 2023, the Company’s net loss attributable to
Surgery Partners, Inc. was $4.9 million compared to net loss of $25.0 million for the third quarter of 2022. A reconciliation of non-GAAP financial measures appears below under "Certain Non-GAAP Measures."
We continue to focus on improving our same-facility performance, selectively acquiring established facilities, developing new facilities and other portfolio management initiatives. During the nine months ended September 30, 2023, we completed the following:
•We acquired controlling interests in five surgical facilities, an in-development de novo surgical facility, and a physician practice for aggregate cash consideration of $50.0 million, net of cash acquired and non-cash consideration of $1.3 million. Three of the acquired surgical facilities were previously accounted for as equity method investments.
The Company also amended the operating agreement of a previously non-controlled surgical facility resulting in the Company obtaining a controlling interest in the facility.
•We acquired non-controlling interests in five surgical facilities and two in-development de novo surgical facility for aggregate cash consideration of $50.2 million. In connection with the acquisition of four of the aforementioned surgical facilities, we paid cash consideration of $21.0 million to acquire management rights.
•We sold our interests in six surgical facilities for aggregate net cash proceeds of $30.4 million, a portion of which will be held in escrow pursuant to the purchase agreements for such transactions.
We had cash and cash equivalents of $236.0 million and $544.9 million of borrowing capacity under our revolving credit facility at September 30, 2023. Operating cash inflows were $104.6 million in the third quarter of 2023, compared to $29.7 million in the prior year period. Net operating cash inflows, including operating cash flows less distributions to non-controlling interests, were $70.5 million for the third quarter of 2023, compared to an outflow $5.6 million for the third quarter of 2022.
Revenues
Our
revenues consist of patient service revenues and other service revenues. Patient service revenues consist of revenue from our surgical facility services and ancillary services segments. Specifically, patient service revenues include fees for surgical or diagnostic procedures performed at surgical facilities that we consolidate for financial reporting purposes, as well as for patient visits to our physician practices, anesthesia services, pharmacy services and diagnostic screens ordered by our physicians. Other service revenues include management and administrative service fees derived from our non-consolidated facilities that we account for under the equity method, management of surgical facilities and physician practices in which we do not own an interest and management services we provide to physician practices for which we are not required to provide capital or additional assets.
The following table summarizes our revenues
by service type as a percentage of total revenues for the periods indicated:
The following table sets forth by type of payor the percentage of our patient service revenues generated at the surgical facilities which we consolidate for financial reporting purposes in the periods indicated:
(1)Other
is comprised of anesthesia service agreements, automobile liability, letters of protection and other payor types.
Surgical Case Mix
We primarily operate multi-specialty surgical facilities where physicians perform a variety of procedures in various specialties. We believe this diversification helps to protect us from adverse pricing and utilization trends in any individual procedure type and results in greater consistency in our case volume.
The following table sets forth the percentage
of cases in each specialty performed at the surgical facilities which we consolidate for financial reporting purposes for the periods indicated:
A summary of significant accounting policies is disclosed in our 2022 Annual Report on Form 10-K under the caption “Critical Accounting Policies” in the Management’s Discussion and Analysis of Financial Condition and Results of Operations section. There have been no material changes in the nature of our critical accounting policies or the application of those policies since December 31, 2022.
The
following table summarizes certain results from the statements of operations for the three months ended September 30, 2023 and 2022 (dollars in millions):
Revenues. Revenues
for the three months ended September 30, 2023 compared to the three months ended September 30, 2022 were as follows (dollars in millions):
Patient
service revenues increased 8.6% to $662.3 million for the third quarter of 2023 compared to $610.1 million for the third quarter of 2022. The increase was driven by a 14.2% increase in days adjusted same-facility revenues and acquisitions completed in 2023 and 2022, partially offset by divestitures completed in 2023. The increase in days adjusted same-facility revenues was attributable to an 11.0% increase in same-facility revenue per case and a 2.9% increase in days adjusted same-facility case volumes.
Cost of Revenues. Cost of revenues was $508.3 million for the third quarter of 2023 compared to $489.4 million for the third quarter of 2022. The increase was primarily driven by acquisitions completed since the prior year period. As a percentage of revenues, cost of revenues were 75.4% for the 2023 period compared to 78.9% for the 2022 period.
General and
Administrative Expenses. General and administrative expenses were $36.8 million for the third quarter of 2023 compared to $17.9 million for the third quarter of 2022. As a percentage of revenues, general and administrative expenses were 5.5% for the 2023 period and 2.9% for the 2022 period.
Depreciation and Amortization. Depreciation and amortization expenses were $28.9 million for the third quarter of 2023 compared to $29.8 million for the third quarter of 2022. As a percentage of revenues, depreciation and amortization expenses were 4.3% for the 2023 period compared to 4.8% for the 2022 period.
Transaction and Integration Costs. We incurred $12.8 million of transaction and integration costs for the third quarter of 2023 compared to $12.5 million for the third quarter of 2022. The costs for both periods primarily
relate to ongoing development initiatives and the integration of acquisitions.
Net Loss on Disposals, Consolidations and Deconsolidations. The net loss on disposals, consolidations and deconsolidations in the third quarter of 2023 was primarily attributable to activity discussed in Note. 2. "Acquisitions and Disposals" to our condensed consolidated financial statements included elsewhere in this report. The remaining net loss was attributable to other asset disposals.
Interest Expense, Net. As a percentage of revenues, interest expense, net decreased to 7.4% for the 2023 period compared to 9.8% for the 2022 period. The decrease is primarily attributable to the pay down of certain long-term debt in the fourth quarter of 2022.
Income Tax Expense. The income tax
expense was $3.1 million and $7.8 million for the three months ended September 30, 2023 and 2022, respectively. The effective tax rate was 9.5% for the three months ended September 30, 2023 compared to 58.2% for the three months ended September 30, 2022. For the three months ended September 30, 2023, the effective tax rate differed from 21% primarily due to earnings attributable to non-controlling interests, an increase in the Company’s valuation allowance attributable to interest expense limitations. For the three months ended September 30, 2022, the effective tax rate differed from 21%
primarily due to an increase in the Company’s valuation allowance attributable to interest expense limitations.
Net Income Attributable to Non-Controlling Interests. As a percentage of revenues, net income attributable to non-controlling interests was 5.1% for the 2023 period and 4.9% for the 2022 period.
The following table summarizes certain results from the statements of operations for the nine months ended September 30, 2023 and 2022 (dollars in millions):
Net loss on disposals, consolidations and deconsolidations
7.5
3.2
Equity in earnings of unconsolidated affiliates
(9.4)
(8.1)
Litigation settlements
8.1
(32.8)
Other
income, net
(2.1)
(7.4)
1,781.3
1,581.2
Operating income
226.6
251.0
Interest expense, net
(144.3)
(173.9)
Income
before income taxes
82.3
77.1
Income tax benefit (expense)
6.3
(13.4)
Net income
88.6
63.7
Less: Net income attributable to non-controlling interests
(99.5)
(94.9)
Net
loss attributable to Surgery Partners, Inc.
$
(10.9)
$
(31.2)
Revenues. Revenues for the nine months ended September 30, 2023 compared to the nine months ended September 30, 2022 were as follows (dollars in millions):
Patient service revenues increased 9.5% to $1,976.7 million for the 2023 period compared to $1,805.1 million for the 2022 period. The increase was driven by a 10.6% increase in days adjusted same-facility revenues and acquisitions completed in 2023 and 2022. The increase in days adjusted same-facility revenues was attributable to a 6.9% increase in same-facility revenue per case and a 3.5% increase in days adjusted same-facility case volumes.
Cost of Revenues. Cost of revenues was $1,554.0 million for the 2023 period compared to $1,441.6 million
for the 2022 period. The increase was primarily driven by acquisitions completed since the prior year period. As a percentage of revenues, cost of revenues were 77.4% for the 2023 period and 78.7% for the 2022 period.
General and Administrative Expenses. General and administrative expenses were $100.0 million for the 2023 period compared to $73.5 million for the 2022 period. As a percentage of revenues, general and administrative expenses were 5.0% for the 2023 period and 4.0% for the 2022 period.
Depreciation and Amortization. Depreciation and amortization expenses were $87.0 million for the 2023 period compared to $85.2 million for the 2022 period. As a percentage of revenues, depreciation and amortization expenses were 4.3% for the 2023 period compared to 4.7% for the 2022 period.
Transaction
and Integration Costs. We incurred $37.3 million of transaction and integration costs for the 2023 period compared to $27.8 million for the 2022 period. The costs for both periods primarily relate to ongoing development initiatives and the integration of acquisitions.
Net Loss on Disposals, Consolidations and Deconsolidations. The net loss on disposals, consolidations and deconsolidations in the 2023 period was primarily attributable to activity discussed in Note. 2. "Acquisitions and Disposals" to our condensed consolidated
financial statements included elsewhere in this report. The remaining net loss was primarily attributable to other asset disposals.
Litigation Settlements. The amount of the litigation settlement in the 2022 period was primarily attributable to the resolution of the stockholder litigation matter, as discussed in Note 8. "Commitments and Contingencies" to our condensed consolidated financial statements included elsewhere in this report.
Interest Expense, Net. As a percentage of revenues, interest expense, net decreased to 7.2% for the 2023 period compared to 9.5% for the 2022 period. The decrease is primarily attributable to the pay down of certain long-term debt in the fourth quarter of 2022.
Income Tax Benefit (Expense). The income tax benefit was $6.3 million
for the nine months ended September 30, 2023 compared to income tax expense of $13.4 million for the nine months ended September 30, 2022. The effective tax rate was (7.7)% for the nine months ended September 30, 2023 compared to 17.4% for the nine months ended September 30, 2022. For the nine months ended September 30, 2023, the effective tax rate differed from 21% primarily due to earnings attributable to non-controlling interests, an increase in the Company’s valuation allowance attributable to interest expense limitations, and discrete tax benefits of (i) $1.6 million related to the vesting of restricted stock awards, and (ii) $15.8 million
related to entity divestitures. For the nine months ended September 30, 2022, the effective tax rate differed from 21% primarily due to earnings attributable to non-controlling interests, an increase in the Company’s valuation allowance attributable to interest expense limitations, and discrete tax benefits of (i) $4.6 million related to the vesting of restricted stock awards, (ii) $1.8 million attributable to non-recurring earnings’ impact on the Company’s valuation allowance, and (iii) $1.0 million related to entity divestitures. Based upon the application of interim accounting guidance, the tax rate as a percentage of net income after income attributable to non-controlling interests will vary based upon the relative net income from period to period.
Net
Income Attributable to Non-Controlling Interests. As a percentage of revenues, net income attributable to non-controlling interests was 5.0% for the 2023 period and 5.2% for the 2022 period.
The primary source of our operating cash flows is the collection of accounts receivable from federal and state agencies (under the Medicare and Medicaid programs), private insurance companies and individuals. Our cash flows provided by operating activities were $231.2
million for the nine months ended September 30, 2023 compared to $151.6 million for the nine months ended September 30, 2022. The $79.6 million increase was primarily driven by operating cash flows in 2022 that did not repeat in the current year, including repayments of approximately $56 million of Medicare advanced payments provided through the CARES Act, partially offset by the receipt of stockholder litigation proceeds of $32.8 million, a $25.2 million reduction of interest paid, net of interest income received, and the timing of routine transactions involving working capital and accrued payroll and benefits.
Net cash used in investing activities during the nine months ended September 30, 2023 was $167.5 million compared to $235.7 million for the nine months ended September 30,
2022. Key factors contributing to the change include:
•An aggregate decrease in payments for acquisitions (net of cash acquired) and purchases of equity method investments of $78.7 million;
•An aggregate increase of $15.3 million in proceeds from sales of facilities and equity method investments;
•An increase in purchases of property and equipment of $11.1 million;
•An increase in cash used of $14.7 million related to other investing activities, including $21.0 million to acquire management rights related to certain acquisitions in the 2023 period.
Net cash used in financing activities during the nine months ended September 30,
2023 was $110.6 million compared to $151.0 million during the nine months ended September 30, 2022. Key factors contributing to the change include:
•An increase of $42.6 million in borrowings of long-term debt, net of payments;
•A decrease in payments related to ownership transactions with non-controlling interest holders of $4.6 million, partially offset by an increase in distributions to non-controlling interest holders of $0.5 million;
•An increase in the payment of debt issuance costs of $1.5 million;
•An increase in cash used of $4.8 million related to other financing activities.
Capital Resources
Net
working capital was approximately $374.8 million at September 30, 2023 compared to $427.6 million at December 31, 2022. The decrease is primarily due to a decrease in cash, as discussed above.
In addition to cash flows from operations and available cash, other sources of capital include amounts available on our Revolver as well as anticipated continued access to the capital markets.
There
have been no material changes outside of the ordinary course of business to our upcoming cash obligations during the nine months ended September 30, 2023 from those disclosed under “Material Cash Requirements” in Management’s Discussion and Analysis of Financial Condition and Results of Operations in our 2022 Annual Report on Form 10-K.
Summary
Broad economic factors, including recent increases in interest rates, inflation and supply chain risks and market volatility, could negatively affect our payor mix, increase the relative proportion of lower margin services we provide and reduce patient volumes, as well as diminish our ability to collect outstanding receivables. Any increase in the amount or deterioration in the collectability of patient accounts receivable will adversely affect our cash flows and results of operations,
requiring an increased level of working capital.
If general economic conditions continue to deteriorate or remain uncertain for an extended period of time, our ability to access capital could be harmed, which could negatively affect our liquidity and ability to repay our outstanding debt.
Based on our current level of operations, we believe cash flows from operations, available cash, available capacity on our Revolver and continued anticipated access to capital markets, will be adequate to meet our short-term (i.e., 12 months) and long-term (beyond 12 months) liquidity needs.
Certain Non-GAAP Measures
Adjusted EBITDA and Adjusted EBITDA excluding grant funds are not measurements
of financial performance under GAAP and should not be considered in isolation or as a substitute for net income, operating income or any other measure calculated in accordance with GAAP. The items excluded from these non-GAAP metrics are significant components in understanding and evaluating our financial performance. We believe such adjustments are appropriate, as the magnitude and frequency of such items can vary significantly and are not related to the assessment of normal operating performance. Our calculation of Adjusted EBITDA and Adjusted EBITDA excluding grant funds may not be comparable to similarly titled measures reported by other companies. We use Adjusted EBITDA and Adjusted EBITDA excluding grant funds as measures of financial performance. Adjusted EBITDA and Adjusted EBITDA excluding grant funds are key measures used by our management to assess operating performance, make business decisions and allocate resources.
The
following table reconciles Adjusted EBITDA and Adjusted EBITDA excluding grant funds to income before income taxes, the most directly comparable GAAP financial measure (in millions and unaudited):
Condensed
Consolidated Statements of Operations Data:
Income before income taxes
$
32.8
$
13.4
$
82.3
$
77.1
Plus (minus):
Net
income attributable to non-controlling interests
(34.6)
(30.6)
(99.5)
(94.9)
Interest expense, net
49.8
60.7
144.3
173.9
Depreciation
and amortization
28.9
29.8
87.0
85.2
Equity-based compensation expense
4.4
5.0
13.2
13.0
Transaction,
integration and acquisition costs (1)
13.0
13.1
38.8
28.4
Net loss on disposals, consolidations and deconsolidations
5.8
2.2
7.5
3.2
Litigation
settlements and regulatory change impact (2)
4.2
1.5
13.9
(27.6)
Undesignated derivative activity
—
—
0.6
—
Other
(3)
1.2
1.1
7.7
1.1
Adjusted EBITDA
105.5
96.2
295.8
259.4
Less:
Impact of grant funds (4)
—
(0.3)
(1.1)
(1.4)
Adjusted EBITDA excluding grant funds
$
105.5
$
95.9
$
294.7
$
258.0
(1)This
amount includes transaction and integration costs of $12.8 million and $12.5 million for the three months ended September 30, 2023 and 2022, respectively. This amount further includes start-up costs related to de novo surgical facilities of $0.2 million and $0.6 million for the three months ended September 30, 2023 and 2022, respectively.
This amount includes transaction and integration costs of $37.3 million and $27.8 million for the nine months ended September 30, 2023 and 2022, respectively. This amount further includes start-up costs related to de novo surgical facilities of $1.5 million and $0.6 million for the nine months
ended September 30, 2023 and 2022, respectively.
(2)This amount includes a litigation settlement loss of $3.6 million for the three months ended September 30, 2023. This amount also includes other litigation costs of $0.6 million and $1.5 million for the three months ended September 30, 2023 and 2022, respectively.
This
amount includes a litigation settlement loss of $8.1 million and a gain of $32.8 million for the nine months ended September 30, 2023 and 2022, respectively. This amount also includes other litigation costs of $1.4 million and $5.2 million for the nine months ended September 30, 2023 and 2022, respectively. Additionally, the nine months ended September 30, 2023, includes $4.4 million related to the impact of recent changes in Florida law regarding the use of letters of protection.
(3)This amount includes estimates for the net impact of the May 2023 cyber event for the three months ended September 30, 2023.
This amount includes estimates for the net impact of a May 2023 cyber event as well as losses from a divested business for the three and nine months ended September 30, 2023.
Amounts presented for the three and nine months ended September 30, 2022 reflect losses incurred, net of insurance proceeds received, related to certain surgical facilities that were closed following Hurricane Ian.
(4)Represents the impact of grant funds recognized, net of amounts attributable to non-controlling interests.
We use Credit Agreement EBITDA as a measure of liquidity and to determine our compliance under certain covenants pursuant to our credit facilities. Credit Agreement EBITDA is determined on a trailing twelve-month basis. We
have included it because we believe that it provides investors with additional information about our ability to incur and service debt and make capital expenditures. Credit Agreement EBITDA is not a measurement of liquidity under GAAP and should not be considered in isolation or as a substitute for any other measure calculated in accordance with GAAP. The items excluded from Credit Agreement EBITDA are significant components in understanding and evaluating our liquidity. Our calculation of Credit Agreement EBITDA may not be comparable to similarly titled measures reported by other companies.
When we use the term “Credit Agreement EBITDA,” we are referring to Adjusted EBITDA, as defined above, further adjusted for acquisitions and synergies. These adjustments do not relate to our historical financial performance and instead relate to estimates compiled by our management and calculated in conformance with the definition
of “Consolidated EBITDA” used in the credit agreements governing our credit facilities.
The following table reconciles Credit Agreement EBITDA to cash flows from operating activities, the most directly comparable GAAP financial measure (in millions and unaudited):
Equity in earnings of unconsolidated affiliates, net of distributions received
4.0
Other non-cash income
7.5
Changes
in operating assets and liabilities, net of acquisitions and divestitures
87.3
Income tax expense
3.6
Net income attributable to non-controlling interests
(146.2)
Interest expense, net
205.3
Transaction, integration and acquisition costs
59.0
Litigation
settlements and regulatory change impact
16.8
Undesignated derivative activity
(7.4)
Other (1)
8.1
Acquisitions and synergies (2)
106.7
Credit
Agreement EBITDA
$
523.3
(1)This amount includes estimates for the impact of a cyber event, losses from divested business and hurricane-related impacts.
(2)Represents impact of acquisitions as if each acquisition had occurred on October 1, 2022. Further this includes revenue and cost synergies from other business initiatives and de novo facilities and an adjustment for the effects of adopting the new lease accounting standard, as defined in the credit agreement governing the Senior Secured Credit Facilities.
Item
3. Quantitative and Qualitative Disclosures About Market Risk
We are subject to market risk primarily from exposure to changes in interest rates based on our financing, investing and cash management activities. We utilize a balanced mix of maturities along with both fixed rate and variable rate debt to manage our exposures to changes in interest rates. Additionally, we periodically enter into interest rate swap and cap agreements to manage our exposure to interest rate fluctuations. Our interest rate swap and cap agreements involve the exchange of fixed and variable rate interest payments between two parties, based on common notional principal amounts and maturity dates. The notional amounts of the interest rate swap and cap agreements represent balances used to calculate the exchange of cash flows and are not our assets or liabilities. Our credit risk related to
these agreements is considered low because the interest rate swap and cap agreements are with creditworthy financial institutions. The interest payments under these agreements are settled on a net basis. These derivatives have been recognized in the financial statements at their respective fair values. Changes in the fair value of these derivatives, which are designated as cash flow hedges, are included in other comprehensive income.
Our variable rate debt instruments are primarily indexed to the prime rate or SOFR. Without derivatives, interest rate changes would result in gains or losses in the market value of our fixed rate debt portfolio due to differences in market interest rates and the rates at the inception of the debt agreements. Based on our indebtedness and the effectiveness of our interest rate swap and cap agreements at September 30,
2023, we do not expect changes in interest rates to have a material effect on our net earnings or cash flows in 2023.
Item 4. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
An evaluation was performed under the supervision and with the participation of our management, including the chief executive officer and the chief financial officer, of the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities and Exchange Act of 1934, as amended) as of September 30, 2023. Based on that evaluation, our chief executive officer and chief financial officer concluded that our disclosure controls
and procedures were effective.
Changes in Internal Control Over Financial Reporting
There were no changes in our internal control over financial reporting during the quarter ended September 30, 2023 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
We are, from time to time, subject to claims and suits, or threats of claims or suits, relating to our business, including claims for damages for personal injuries, breach of management contracts and employment related claims. In certain of these actions, plaintiffs request payment for damages, including punitive damages, which may not be covered by insurance or may otherwise have a material adverse effect on our business or results of operations. In the opinion of management, we are not currently a party to any proceedings that would have a material adverse effect on our business, financial condition or results of operations.
Item
1A. Risk Factors
There have been no material changes with respect to the risk factors discussed in our 2022 Annual Report on Form 10-K.
Item 2. Unregistered Sales of Equity Securities, Use of Proceeds, and Issuer Purchases of Equity Securities
The Company did not repurchase any shares of common stock during the nine months ended September 30, 2023. At September 30, 2023, the Company continued to have
authority to repurchase up to $46.0 million of shares of common stock under its board-authorized share repurchase program.
Item 3. Defaults Upon Senior Securities
None.
Item 4. Mine Safety Disclosures
Not applicable.
Item 5. Other Information
From time to time, certain of our executive
officers and directors have, and we expect they will in the future, enter into, amend and terminate written trading arrangements pursuant to Rule 10b5-1 of the Securities and Exchange Act of 1934 or otherwise. During the three months ended September 30, 2023, iiiinone
of the Company’s directors or officers adopted or terminated any Rule 10b5-1 trading arrangement or non-Rule 10b5-1 trading arrangement/// (as such terms are defined in Item 408 of Regulation S-K).
Inline
XBRL Taxonomy Extension Instance Document - the instance document does not appear in the interactive data file because its XBRL tags are embedded within the inline XBRL document.
The cover page from the Company’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2023, formatted in Inline XBRL (included in Exhibit 101).
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.
