Edgar Filing: SELECT MEDICAL HOLDINGS CORP

Document

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)



ý	QUARTERLY REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period Ended September 30, 2018



o	TRANSITION REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from to

Commission file numbers: 001-34465 and 001-31441

SELECT MEDICAL HOLDINGS CORPORATION

SELECT MEDICAL CORPORATION

(Exact name of Registrant as specified in its Charter)



Delaware Delaware		20-1764048 23-2872718
(State or Other Jurisdiction of Incorporation or Organization)		(I.R.S. Employer Identification Number)

4714 Gettysburg Road, P.O. Box 2034

Mechanicsburg, PA 17055

(Address of Principal Executive Offices and Zip code)

(717) 972-1100

(Registrants’ telephone number, including area code)

Indicate by check mark whether the Registrants (1) have 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 periods as such Registrants were required to file such reports), and (2) have been subject to such filing requirements for the past 90 days. Yes ý No o

Indicate by check mark whether the Registrants have 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 Registrants were required to submit such files). Yes ý No o

Indicate by check mark whether the Registrant, Select Medical Holdings Corporation, 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. (Check one):



Large accelerated filer x		Accelerated filer o
Non-accelerated filer o		Smaller reporting company o
		Emerging Growth Company o

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. o

Indicate by check mark whether the Registrant, Select Medical Corporation, 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. (Check one):



Large accelerated filer o		Accelerated filer o
Non-accelerated filer x		Smaller reporting company o
		Emerging Growth Company o

Indicate by check mark whether the Registrants are shell companies (as defined in Rule 12b-2 of the Exchange Act). Yes o No ý

As of October 31, 2018, Select Medical Holdings Corporation had outstanding 135,331,864 shares of common stock.

This Form 10-Q is a combined quarterly report being filed separately by two Registrants: Select Medical Holdings Corporation and Select Medical Corporation. Unless the context indicates otherwise, any reference in this report to “Holdings” refers to Select Medical Holdings Corporation and any reference to “Select” refers to Select Medical Corporation, the wholly owned operating subsidiary of Holdings, and any of Select’s subsidiaries. Any reference to “Concentra” refers to Concentra Inc., the indirect operating subsidiary of Concentra Group Holdings Parent, LLC (“Concentra Group Holdings Parent”), and its subsidiaries. References to the “Company,” “we,” “us,” and “our” refer collectively to Holdings, Select, and Concentra Group Holdings Parent and its subsidiaries.

Table of Contents

TABLE OF CONTENTS



PART I	FINANCIAL INFORMATION	3

ITEM 1.	CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

	Condensed consolidated balance sheets	3

	Condensed consolidated statements of operations	4

	Condensed consolidated statements of changes in equity and income	6

	Condensed consolidated statements of cash flows	7

	Notes to condensed consolidated financial statements	8

ITEM 2.	MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS	33

ITEM 3.	QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK	59

ITEM 4.	CONTROLS AND PROCEDURES	59

PART II	OTHER INFORMATION	60

ITEM 1.	LEGAL PROCEEDINGS	60

ITEM 1A.	RISK FACTORS	62

ITEM 2.	UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS	63

ITEM 3.	DEFAULTS UPON SENIOR SECURITIES	63

ITEM 4.	MINE SAFETY DISCLOSURES	63

ITEM 5.	OTHER INFORMATION	63

ITEM 6.	EXHIBITS	64

SIGNATURES

Table of Contents

PART I: FINANCIAL INFORMATION

ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Condensed Consolidated Balance Sheets

(unaudited)

(in thousands, except share and per share amounts)



	Select Medical Holdings Corporation				Select Medical Corporation
	December 31, 2017		September 30, 2018		December 31, 2017			September 30, 2018
ASSETS
Current Assets:
Cash and cash equivalents	$	122,549	$	160,413	$	122,549		$	160,413
Accounts receivable	691,732		746,816		691,732			746,816
Prepaid income taxes	31,387		19,852		31,387			19,852
Other current assets	75,158		96,214		75,158			96,214
Total Current Assets	920,826		1,023,295		920,826			1,023,295
Property and equipment, net	912,591		965,390		912,591			965,390
Goodwill	2,782,812		3,311,459		2,782,812			3,311,459
Identifiable intangible assets, net	326,519		444,847		326,519			444,847
Other assets	184,418		235,190		184,418			235,190
Total Assets	$	5,127,166	$	5,980,181	$	5,127,166		$	5,980,181
LIABILITIES AND EQUITY
Current Liabilities:
Overdrafts	$	29,463	$	23,291	$	29,463		$	23,291
Current portion of long-term debt and notes payable	22,187		24,175		22,187			24,175
Accounts payable	128,194		137,540		128,194			137,540
Accrued payroll	160,562		176,221		160,562			176,221
Accrued vacation	92,875		106,026		92,875			106,026
Accrued interest	19,885		23,648		19,885			23,648
Accrued other	143,166		188,079		143,166			188,079
Income taxes payable	9,071		6,129		9,071			6,129
Total Current Liabilities	605,403		685,109		605,403			685,109
Long-term debt, net of current portion	2,677,715		3,305,533		2,677,715			3,305,533
Non-current deferred tax liability	124,917		148,227		124,917			148,227
Other non-current liabilities	145,709		174,170		145,709			174,170
Total Liabilities	3,553,744		4,313,039		3,553,744			4,313,039
Commitments and contingencies (Note 10)
Redeemable non-controlling interests	640,818		779,574		640,818			779,574
Stockholders’ Equity:
Common stock of Holdings, $0.001 par value, 700,000,000 shares authorized, 134,114,715 and 135,140,269 shares issued and outstanding at 2017 and 2018, respectively	134		135		—			—
Common stock of Select, $0.01 par value, 100 shares issued and outstanding	—		—		0			0
Capital in excess of par	463,499		477,822		947,370			964,683
Retained earnings (accumulated deficit)	359,735		296,635		(124,002		)	(190,091		)
Total Select Medical Holdings Corporation and Select Medical Corporation Stockholders’ Equity	823,368		774,592		823,368			774,592
Non-controlling interests	109,236		112,976		109,236			112,976
Total Equity	932,604		887,568		932,604			887,568
Total Liabilities and Equity	$	5,127,166	$	5,980,181	$	5,127,166		$	5,980,181

The accompanying notes are an integral part of these condensed consolidated financial statements.

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Condensed Consolidated Statements of Operations

(unaudited)

(in thousands, except per share amounts)



	Select Medical Holdings Corporation						Select Medical Corporation
	For the Three Months Ended September 30,						For the Three Months Ended September 30,
	2017			2018			2017			2018
Net operating revenues	$	1,077,014		$	1,267,401		$	1,077,014		$	1,267,401
Costs and expenses:
Cost of services	939,079			1,087,062			939,079			1,087,062
General and administrative	27,065			29,975			27,065			29,975
Depreciation and amortization	38,772			50,527			38,772			50,527
Total costs and expenses	1,004,916			1,167,564			1,004,916			1,167,564
Income from operations	72,098			99,837			72,098			99,837
Other income and expense:
Equity in earnings of unconsolidated subsidiaries	4,431			5,432			4,431			5,432
Non-operating gain	—			2,139			—			2,139
Interest expense	(37,688		)	(50,669		)	(37,688		)	(50,669		)
Income before income taxes	38,841			56,739			38,841			56,739
Income tax expense	14,017			14,060			14,017			14,060
Net income	24,824			42,679			24,824			42,679
Less: Net income attributable to non-controlling interests	6,362			9,762			6,362			9,762
Net income attributable to Select Medical Holdings Corporation and Select Medical Corporation	$	18,462		$	32,917		$	18,462		$	32,917
Income per common share:
Basic	$	0.14		$	0.24
Diluted	$	0.14		$	0.24
Weighted average shares outstanding:
Basic	129,142			130,387
Diluted	129,322			130,447

The accompanying notes are an integral part of these condensed consolidated financial statements.

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Condensed Consolidated Statements of Operations

(unaudited)

(in thousands, except per share amounts)



	Select Medical Holdings Corporation						Select Medical Corporation
	For the Nine Months Ended September 30,						For the Nine Months Ended September 30,
	2017			2018			2017			2018
Net operating revenues	$	3,270,996		$	3,816,575		$	3,270,996		$	3,816,575
Costs and expenses:
Cost of services	2,788,411			3,247,606			2,788,411			3,247,606
General and administrative	83,415			90,951			83,415			90,951
Depreciation and amortization	119,644			149,022			119,644			149,022
Total costs and expenses	2,991,470			3,487,579			2,991,470			3,487,579
Income from operations	279,526			328,996			279,526			328,996
Other income and expense:
Loss on early retirement of debt	(19,719		)	(10,255		)	(19,719		)	(10,255		)
Equity in earnings of unconsolidated subsidiaries	15,618			14,914			15,618			14,914
Non-operating gain (loss)	(49		)	9,016			(49		)	9,016
Interest expense	(116,196		)	(147,991		)	(116,196		)	(147,991		)
Income before income taxes	159,180			194,680			159,180			194,680
Income tax expense	59,593			47,460			59,593			47,460
Net income	99,587			147,220			99,587			147,220
Less: Net income attributable to non-controlling interests	23,200			34,053			23,200			34,053
Net income attributable to Select Medical Holdings Corporation and Select Medical Corporation	$	76,387		$	113,167		$	76,387		$	113,167
Income per common share:
Basic	$	0.57		$	0.84
Diluted	$	0.57		$	0.84
Weighted average shares outstanding:
Basic	128,745			129,972
Diluted	128,916			130,066

The accompanying notes are an integral part of these condensed consolidated financial statements.

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Condensed Consolidated Statements of Changes in Equity and Income

(unaudited)

(in thousands)



				Select Medical Holdings Corporation Stockholders
	Redeemable Non-controlling Interests			Common Stock Issued		Common Stock Par Value		Capital in Excess of Par			Retained Earnings			Total Stockholders’ Equity			Non-controlling Interests			Total Equity
Balance at December 31, 2017	$	640,818		134,115		$	134	$	463,499		$	359,735		$	823,368		$	109,236		$	932,604
Net income attributable to Select Medical Holdings Corporation											113,167			113,167						113,167
Net income attributable to non-controlling interests	25,896													—			8,157			8,157
Issuance of restricted stock				1,222		1		(1		)				—						—
Forfeitures of unvested restricted stock				(88	)	0		0						—						—
Vesting of restricted stock								15,059						15,059						15,059
Repurchase of common shares				(285	)	0		(2,989		)	(2,651		)	(5,640		)				(5,640		)
Exercise of stock options				176		0		1,633						1,633						1,633
Issuance and exchange of non-controlling interests	163,659							1,553			74,341			75,894			1,921			77,815
Distributions to and purchases of non-controlling interests	(215,847		)					(932		)	(83,617		)	(84,549		)	(7,471		)	(92,020		)
Redemption adjustment on non-controlling interests	164,065										(164,065		)	(164,065		)				(164,065		)
Other	983										(275		)	(275		)	1,133			858
Balance at September 30, 2018	$	779,574		135,140		$	135	$	477,822		$	296,635		$	774,592		$	112,976		$	887,568



				Select Medical Corporation Stockholders
	Redeemable Non-controlling Interests			Common Stock Issued	Common Stock Par Value		Capital in Excess of Par			Accumulated Deficit			Total Stockholders’ Equity			Non-controlling Interests			Total Equity
Balance at December 31, 2017	$	640,818		0	$	0	$	947,370		$	(124,002	)	$	823,368		$	109,236		$	932,604
Net income attributable to Select Medical Corporation										113,167			113,167						113,167
Net income attributable to non-controlling interests	25,896												—			8,157			8,157
Additional investment by Holdings							1,633						1,633						1,633
Dividends declared and paid to Holdings										(5,640		)	(5,640		)				(5,640		)
Contribution related to restricted stock award issuances by Holdings							15,059						15,059						15,059
Issuance and exchange of non-controlling interests	163,659						1,553			74,341			75,894			1,921			77,815
Distributions to and purchases of non-controlling interests	(215,847		)				(932		)	(83,617		)	(84,549		)	(7,471		)	(92,020		)
Redemption adjustment on non-controlling interests	164,065									(164,065		)	(164,065		)				(164,065		)
Other	983									(275		)	(275		)	1,133			858
Balance at September 30, 2018	$	779,574		0	$	0	$	964,683		$	(190,091	)	$	774,592		$	112,976		$	887,568

The accompanying notes are an integral part of these condensed consolidated financial statements.

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Condensed Consolidated Statements of Cash Flows

(unaudited)

(in thousands)



	Select Medical Holdings Corporation						Select Medical Corporation
	For the Nine Months Ended September 30,						For the Nine Months Ended September 30,
	2017			2018			2017			2018
Operating activities
Net income	$	99,587		$	147,220		$	99,587		$	147,220
Adjustments to reconcile net income to net cash provided by operating activities:
Distributions from unconsolidated subsidiaries	14,542			10,734			14,542			10,734
Depreciation and amortization	119,644			149,022			119,644			149,022
Provision for bad debts	914			(373		)	914			(373		)
Equity in earnings of unconsolidated subsidiaries	(15,618		)	(14,914		)	(15,618		)	(14,914		)
Loss on extinguishment of debt	6,527			484			6,527			484
Gain on sale of assets and businesses	(9,499		)	(9,129		)	(9,499		)	(9,129		)
Stock compensation expense	14,227			17,175			14,227			17,175
Amortization of debt discount, premium and issuance costs	8,546			9,845			8,546			9,845
Deferred income taxes	(6,126		)	(2,092		)	(6,126		)	(2,092		)
Changes in operating assets and liabilities, net of effects of business combinations:
Accounts receivable	(143,308		)	23,495			(143,308		)	23,495
Other current assets	(2,677		)	(10,274		)	(2,677		)	(10,274		)
Other assets	1,407			4,828			1,407			4,828
Accounts payable	3,913			(3,507		)	3,913			(3,507		)
Accrued expenses	18,752			49,391			18,752			49,391
Income taxes	19,141			9,072			19,141			9,072
Net cash provided by operating activities	129,972			380,977			129,972			380,977
Investing activities
Business combinations, net of cash acquired	(19,371		)	(519,258		)	(19,371		)	(519,258		)
Purchases of property and equipment	(173,800		)	(121,039		)	(173,800		)	(121,039		)
Investment in businesses	(11,374		)	(12,936		)	(11,374		)	(12,936		)
Proceeds from sale of assets and businesses	34,555			6,691			34,555			6,691
Net cash used in investing activities	(169,990		)	(646,542		)	(169,990		)	(646,542		)
Financing activities
Borrowings on revolving facilities	805,000			420,000			805,000			420,000
Payments on revolving facilities	(705,000		)	(585,000		)	(705,000		)	(585,000		)
Proceeds from term loans	1,139,487			779,904			1,139,487			779,904
Payments on term loans	(1,176,567		)	(8,625		)	(1,176,567		)	(8,625		)
Revolving facility debt issuance costs	(4,392		)	(1,333		)	(4,392		)	(1,333		)
Borrowings of other debt	27,571			30,134			27,571			30,134
Principal payments on other debt	(15,112		)	(17,971		)	(15,112		)	(17,971		)
Repurchase of common stock	(3,603		)	(5,640		)	—			—
Dividends paid to Holdings	—			—			(3,603		)	(5,640		)
Proceeds from exercise of stock options	1,634			1,633			—			—
Equity investment by Holdings	—			—			1,634			1,633
Decrease in overdrafts	(20,439		)	(6,172		)	(20,439		)	(6,172		)
Proceeds from issuance of non-controlling interests	8,986			2,926			8,986			2,926
Distributions to non-controlling interests	(9,276		)	(306,427		)	(9,276		)	(306,427		)
Net cash provided by financing activities	48,289			303,429			48,289			303,429
Net increase in cash and cash equivalents	8,271			37,864			8,271			37,864
Cash and cash equivalents at beginning of period	99,029			122,549			99,029			122,549
Cash and cash equivalents at end of period	$	107,300		$	160,413		$	107,300		$	160,413
Supplemental Information
Cash paid for interest	$	101,341		$	134,378		$	101,341		$	134,378
Cash paid for taxes	46,553			40,460			46,553			40,460
Non-cash equity exchange for acquisition of U.S. HealthWorks	—			238,000			—			238,000

The accompanying notes are an integral part of these condensed consolidated financial statements.

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SELECT MEDICAL HOLDINGS CORPORATION AND SELECT MEDICAL CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

1. Basis of Presentation

The unaudited condensed consolidated financial statements of Select Medical Holdings Corporation (“Holdings”) include the accounts of its wholly owned subsidiary, Select Medical Corporation (“Select”). Holdings conducts substantially all of its business through Select and its subsidiaries. Holdings and Select and its subsidiaries are collectively referred to as the “Company.” The unaudited condensed consolidated financial statements of the Company as of September 30, 2018, and for the three and nine month periods ended September 30, 2017 and 2018, have been prepared pursuant to the rules and regulations of the Securities Exchange Commission (the “SEC”) for interim reporting and accounting principles generally accepted in the United States of America (“GAAP”). Accordingly, certain information and disclosures required by GAAP, which are normally included in the notes to consolidated financial statements, have been condensed or omitted pursuant to those rules and regulations, although the Company believes the disclosure is adequate to make the information presented not misleading. In the opinion of management, such information contains all adjustments, which are normal and recurring in nature, necessary for a fair statement of the financial position, results of operations and cash flow for such periods. All significant intercompany transactions and balances have been eliminated.

The results of operations for the three and nine months ended September 30, 2018, are not necessarily indicative of the results to be expected for the full fiscal year ending December 31, 2018. These unaudited condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto for the year ended December 31, 2017, contained in the Company’s Annual Report on Form 10-K filed with the SEC on February 22, 2018.

2. Accounting Policies

Use of Estimates

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, including disclosure of contingencies, at the date of the financial statements and reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

Recent Accounting Pronouncements

Lease Accounting

Beginning in February 2016, the Financial Accounting Standards Board (the “FASB”) issued several Accounting Standards Updates (“ASU”) which established Topic 842, Leases (the “standard”). This standard includes a lessee accounting model that recognizes two types of leases: finance and operating. This standard requires that a lessee recognize on the balance sheet assets and liabilities for all leases with lease terms of more than twelve months. Lessees will need to recognize almost all leases on the balance sheet as a right-of-use asset and a lease liability. For income statement purposes, the FASB retained the dual model, requiring leases to be classified as either operating or finance. The recognition, measurement, and presentation of expenses and cash flows arising from a lease by a lessee will depend on its classification as finance or operating lease. For short-term leases of twelve months or less, lessees are permitted to make an accounting election by class of underlying asset not to recognize right-of-use assets or lease liabilities. If the alternative is elected, lease expense would be recognized generally on the straight-line basis over the respective lease term.

The amendments in the standard will take effect for public companies for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Earlier application is permitted as of the beginning of an interim or annual reporting period. There are two transition approaches available under the standard: a modified retrospective approach for leases that exist, or are entered into, after the beginning of the earliest comparative period in the financial statements or a cumulative-effect approach with an adjustment to the opening balance of retained earnings in the period of adoption.

Upon adoption, the Company will recognize significant assets and liabilities on the consolidated balance sheets as a result of the operating lease obligations of the Company. Operating lease expense will still be recognized as rent expense on a straight-line basis over the respective lease terms in the consolidated statements of operations.

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The Company will implement the new standard beginning January 1, 2019, using the cumulative-effect approach, without adjusting the comparative periods. The Company has completed its inventory of leases and has begun to implement a new technology platform to account for leases under the new standard. The Company has substantially completed validating its lease data to ensure it is complete and accurate. The Company’s remaining implementation efforts are focused on designing accounting processes, disclosure processes, and internal controls in order to account for its leases under the new standard.

Cloud Computing Arrangements

In August 2018, the FASB issued ASU 2018-15, Intangibles - Goodwill and Other-Internal-Use Software which aligns the requirements for capitalizing implementation costs incurred in a cloud computing arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software. This guidance is effective for interim and annual reporting periods beginning after December 15, 2019, and early adoption is permitted. The Company is currently evaluating the impacts that adoption of this ASU will have on its consolidated financial statements.

Recently Adopted Accounting Pronouncements

Revenue from Contracts with Customers

Beginning in May 2014, the FASB issued several ASUs which established Topic 606, Revenue from Contracts with Customers (the “revenue recognition standard”). This revenue recognition standard supersedes existing revenue recognition requirements and seeks to eliminate most industry-specific guidance under current GAAP. The core principle of the new guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services.

The Company adopted the new revenue recognition standard on January 1, 2018, using the full retrospective transition method. Adoption of the revenue recognition standard impacted the Company’s reported results as follows:



	Three Months Ended September 30, 2017
	As Reported		As Adjusted⁽¹⁾		Adoption Impact
	(in thousands)
Condensed Consolidated Statements of Operations
Net operating revenues	$	1,097,166	$	1,077,014	$	(20,152	)
Bad debt expense	20,321		169		(20,152		)



	Nine Months Ended September 30, 2017
	As Reported	As Adjusted⁽¹⁾	Adoption Impact
	(in thousands)
Condensed Consolidated Statements of Operations
Net operating revenues	$