NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2018
(unaudited)
1.
|
BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES
|
The consolidated financial statements include the accounts of U.S. Physical Therapy, Inc. and its subsidiaries (the “Company”). All significant intercompany
transactions and balances have been eliminated. The Company primarily operates through subsidiary clinic partnerships, in which the Company generally owns a 1% general partnership interest in all the Clinic Partnerships. Our limited partnership
interests range from 49% to 99% in the Clinic Partnerships. The managing therapist of each clinic owns, directly or indirectly, the remaining limited partnership interest in the majority of the clinics (hereinafter referred to as “Clinic
Partnerships”). To a lesser extent, the Company operates some clinics, through wholly-owned subsidiaries, under profit sharing arrangements with therapists (hereinafter referred to as “Wholly-Owned Facilities”).
The Company continues to seek to attract for employment physical therapists who have established relationships with physicians and other referral sources by
offering these therapists a competitive salary and incentives based on the profitability of the clinic that they manage. The Company also looks for therapists with whom to establish new, de novo clinics to be owned jointly by the Company and such
therapists; in these situations, the therapist is offered the opportunity to co-invest in the new clinic and also receives a competitive salary for managing the clinic. For multi-site clinic practices in which a controlling interest is acquired by
the Company, the prior owners typically continue on as employees to manage the clinic operations, retaining a non-controlling ownership interest in the clinics and receiving a competitive salary for managing the clinic operations. In addition, the
Company has developed satellite clinic facilities as part of existing Clinic Partnerships and Wholly-Owned facilities, with the result that a substantial number of Clinic Partnerships and Wholly-Owned facilities operate more than one clinic
location. For the foreseeable future, we intend to continue to acquire clinic practices and continue to focus on developing new clinics and opening satellite clinics where appropriate, along with increasing our patient volume through marketing and
new clinical programs.
On April 30, 2018, the Company acquired a 65% interest in a business in the industrial injury prevention market. A 55% interest in the initial industrial
injury prevention business acquired by the Company was purchased in March 2017. On April 30, 2018, the Company made the second acquisition and subsequently combined the two businesses. After the combination, the Company owns a 59.45% interest in
the combined business. Services provided include onsite injury prevention and rehabilitation, performance optimization and ergonomic assessments. The majority of these services are contracted with and paid for directly by employers, including a
number of Fortune 500 companies. Other clients include large insurers and their contractors. The Company performs these services through Industrial Sports Medicine Professionals, consisting of both physical therapists and highly specialized
certified athletic trainers (ATCs).
On February 28, 2018, the Company, through one of its majority owned Clinic Partnerships, acquired two clinic practices. These practices will operate as
satellites of the existing Clinic Partnership.
During the first nine months of 2018 and the year ended 2017, the Company acquired an interest in the following clinic groups:
|
|
Date
|
|
% Interest Acquired
|
|
Number of Clinics
|
|
|
|
|
|
|
|
January 2017 Acquisition
|
|
January 1
|
|
70%
|
|
17
|
May 2017 Acquisition
|
|
May 31
|
|
70%
|
|
4
|
June 2017 Acquisition
|
|
June 30
|
|
60%
|
|
9
|
October 2017 Acquisition
|
|
October 31
|
|
70%
|
|
9
|
|
|
|
|
|
|
|
August 2018 Acquisition
|
|
August 31
|
|
70%
|
|
4
|
Also, during the 2017 year, the Company purchased the assets and business of two physical therapy clinics in separate transactions. One clinic was
consolidated with an existing clinic and the other operates as a satellite clinic of one of the existing Clinic Partnerships.
As of September 30, 2018, the Company operated 588 clinics in 42 states, as well as the industrial injury prevention business. The Company also manages
physical therapy facilities for third parties, primarily hospital and physicians, with 26 third-party facilities under management as of September 30, 2018.
The results of operations of the acquired clinics have been included in the Company’s consolidated financial statements since the date of their respective
acquisition. The Company intends to continue to pursue additional acquisition opportunities, develop new clinics and open satellite clinics.
The accompanying unaudited consolidated financial statements were prepared in accordance with accounting principles generally accepted in
the United States of America for interim financial information and in accordance with the instructions for Form 10-Q. However, the statements do not include all of the information and footnotes required by accounting principles generally accepted
in the United States of America for complete financial statements. Management believes this report contains all necessary adjustments (consisting only of normal recurring adjustments) to present fairly, in all material respects, the Company’s
financial position, results of operations and cash flows for the interim periods presented. For further information regarding the Company’s accounting policies, please read the audited financial statements included in the Company’s Annual Report on
Form 10-K for the year ended December 31, 2017.
The Company believes, and the Chief Executive Officer, Chief Financial Officer and Corporate Controller have certified, that the financial statements included
in this report present fairly, in all material respects, the Company’s financial position, results of operations and cash flows for the interim periods presented.
Operating results for the nine months ended September 30, 2018 are not necessarily indicative of the results the Company expects for the entire year. Please
also review the Risk Factors section included in our Annual Report on Form 10-K for the year ended December 31, 2017.
Clinic Partnerships
For non-acquired Clinic Partnerships, the earnings and liabilities attributable to the non-controlling interests, typically owned by the managing therapist,
directly or indirectly, are recorded within the balance sheets and income statements as non-controlling interests. For acquired Clinic Partnerships with mandatorily redeemable non-controlling interests, the earnings and liabilities attributable to
the non-controlling interest were recorded within the consolidated statements of income line item:
Interest expense – mandatorily redeemable non-controlling
interests – earnings allocable
and in the consolidated balance sheet line item:
Mandatorily redeemable non-controlling interests
. For acquired
Clinic Partnerships with redeemable non-controlling interests, the earnings attributable to the redeemable non-controlling interests are recorded within the consolidated statements of income line item –
net income attributable to non-controlling interests
and the equity interests are recorded on the consolidated balance sheet as
redeemable non-controlling interests
.
Effective December 31, 2017, the Company entered into amendments to its acquired limited partnership agreements replacing the mandatory
redemption feature. No monetary consideration was paid to the partners to amend the agreements. The amended limited partnership agreements provide that, upon certain events, the Company has a call right (the “Call Right”) and the selling entity
has a put right (the “Put Right”) for the purchase and sale of the limited partnership interest held by the partner. Once triggered, the Put Right and the Call Right do not expire, even upon an individual partner’s death, and contain no mandatory
redemption feature. The purchase price of the partner’s limited partnership interest upon the exercise of either the Put Right or the Call Right is calculated per the terms of the respective agreements. The Company accounted for the amendment of
its limited partnership agreements as an extinguishment of the outstanding Seller Entity Interests, as defined in Footnote 5, classified as liabilities through the issuance of new Seller Entity Interests classified in temporary equity. Pursuant to
Accounting Standards Codification (“ASC”) 470-50-40-2, the Company removed the outstanding liability-classified Seller Entity Interests at their carrying amounts, recognized the new temporary-equity-classified Seller Entity Interests at their fair
value, and recorded no gain or loss on extinguishment, as management believes the redemption value (i.e. the carrying amount) and fair value are the same. In summary, the redemption values of the mandatorily redeemable non-controlling interest
(previously classified as liabilities) were reclassified as redeemable non-controlling interest (temporary equity) at fair value on the December 31, 2017 consolidated balance sheet. The remaining balance of $327,000 in the line item
– Mandatorily redeemable non-controlling interests
– relates to one limited partnership agreement that was not amended, as the non-controlling interest was
purchased by the Company in January 2018. See Footnote 5 - Mandatorily redeemable non-controlling interests – and Footnote 6 - Redeemable non-controlling interests – for further discussion.
Wholly-Owned Facilities
For Wholly-Owned Facilities with profit sharing arrangements, an appropriate accrual is recorded for the amount of profit sharing due to the profit sharing
therapists. The amount is expensed as compensation and included in operating costs – salaries and related costs. The respective liability is included in current liabilities – accrued expenses on the balance sheets.
Significant Accounting Policies
Cash Equivalents
The Company maintains its cash and cash equivalents at financial institutions. The Company considers all highly liquid investments with a maturity of three
months or less when purchased to be cash equivalents. The combined account balances at several institutions typically exceed Federal Deposit Insurance Corporation (“FDIC”) insurance coverage and, as a result, there is a concentration of credit
risk related on deposits in excess of FDIC insurance coverage. Management believes that the risk is not significant.
Long-Lived Assets
Fixed assets are stated at cost. Depreciation is computed on the straight-line method over the estimated useful lives of the assets. Estimated useful lives
for furniture and equipment range from three to eight years and for purchased software from three to seven years. Leasehold improvements are amortized over the shorter of the lease term or estimated useful lives of the assets, which is generally
three to five years.
Impairment of Long-Lived Assets and Long-Lived Assets to Be Disposed Of
The Company reviews property and equipment and intangible assets with finite lives for impairment upon the occurrence of certain events or circumstances which
indicate that the amounts may be impaired. Assets to be disposed of are reported at the lower of the carrying amount or fair value less costs to sell.
Goodwill
Goodwill represents the excess of the amount paid and fair value of the non-controlling interests over the fair value of the acquired business assets, which
include certain identifiable intangible assets. Historically, goodwill has been derived from acquisitions and, prior to 2009, from the purchase of some or all of a particular local management’s equity interest in an existing clinic. Effective
January 1, 2009, if the purchase price of a non-controlling interest by the Company exceeds or is less than the book value at the time of purchase, any excess or shortfall is recognized as an adjustment to additional paid-in capital.
The fair value of goodwill and other identifiable intangible assets with indefinite lives are tested for impairment annually and upon the occurrence of
certain events, and are written down to fair value if considered impaired. The Company evaluates goodwill for impairment on at least an annual basis (in its third quarter) by comparing the fair value of its reporting units to the carrying value of
each reporting unit including related goodwill. The Company evaluates indefinite lived tradenames using the relief from royalty method in conjunction with its annual goodwill impairment test. The Company operates a business which is made up of
various clinics within partnerships. The partnerships are components of regions and are aggregated to the operating segment level for the purpose of determining the Company’s reporting units when performing its annual goodwill impairment test. In
the third quarter of 2018, there were six regions. In addition to the six regions, during 2018, the impairment test included a separate analysis for the industrial injury prevention business, a separate reporting unit.
An impairment loss generally would be recognized when the carrying amount of the net assets of a reporting unit, inclusive of goodwill and other identifiable
intangible assets, exceeds the estimated fair value of the reporting unit. The estimated fair value of a reporting unit is determined using two factors: (i) earnings prior to taxes, depreciation and amortization for the reporting unit multiplied by
a price/earnings ratio used in the industry and (ii) a discounted cash flow analysis. A weight is assigned to each factor and the sum of each weight times the factor is considered the estimated fair value. For 2018, the factors (i.e.,
price/earnings ratio, discount rate and residual capitalization rate) were updated to reflect current market conditions. The evaluation of goodwill in 2018 and 2017 did not result in any goodwill amounts that were deemed impaired.
The Company has not identified any triggering events occurring after the testing date that would impact the impairment testing results obtained. The Company
will continue to monitor for any triggering events or other indicators of impairment.
Redeemable Non-Controlling Interests
The non-controlling interests that are reflected as redeemable non-controlling interests in the consolidated financial statements consist of those that the
owners and the Company have certain redemption rights, whether currently exercisable or not, and which currently, or in the future, require that the Company purchase or the owner sell the non-controlling interest held by the owner, if certain
conditions are met. The purchase price is derived at a predetermined formula based on a multiple of trailing twelve months earnings performance as defined in the respective limited partnership agreements. The redemption rights can be triggered by
the owner or the Company at such time as both of the following events have occurred: 1) termination of the owner’s employment, regardless of the reason for such termination, and 2) the passage of specified number of years after the closing of the
transaction, typically three to five years, as defined in the limited partnership agreement. The redemption rights are not automatic or mandatory (even upon death) and require either the owner or the Company to exercise its rights when the
conditions triggering the redemption rights have been satisfied.
On the date the Company acquires a controlling interest in a partnership, and the limited partnership agreement for such partnership contains redemption
rights not under the control of the Company, the fair value of the non-controlling interest is recorded in the consolidated balance sheet under the caption – Redeemable non-controlling interests. Then, in each reporting period thereafter until it
is purchased by the Company, the redeemable non-controlling interest is adjusted to the greater of its then current redemption value or initial value, based on the predetermined formula defined in the respective limited partnership agreement. As a
result, the value of the non-controlling interest is not adjusted below its initial value. The Company records any adjustment in the redemption value, net of tax, directly to retained earnings and are not reflected in the consolidated statements
of income. Although the adjustments are not reflected in the consolidated statements of income, current accounting rules require that the Company reflects the adjustments, net of tax, in the earnings per share calculation. The amount of net
income attributable to redeemable non-controlling interest owners is included in consolidated net income on the face of the consolidated statements of income. Management believes the redemption value (i.e. the carrying amount) and fair value are
the same.
Non-Controlling Interests
The Company recognizes non-controlling interests, in which the Company has no obligation but the right to purchase the non-controlling interests, as equity in
the consolidated financial statements separate from the parent entity’s equity. The amount of net income attributable to non-controlling interests is included in consolidated net income on the face of the statements of net income. Changes in a
parent entity’s ownership interest in a subsidiary that do not result in deconsolidation are treated as equity transactions if the parent entity retains its controlling financial interest. The Company recognizes a gain or loss in net income when a
subsidiary is deconsolidated. Such gain or loss is measured using the fair value of the non-controlling equity investment on the deconsolidation date.
When the purchase price of a non-controlling interest by the Company exceeds the book value at the time of purchase, any excess or shortfall is recognized as
an adjustment to additional paid-in capital. Additionally, operating losses are allocated to non-controlling interests even when such allocation creates a deficit balance for the non-controlling interest partner.
Revenue Recognition
Revenues are recognized at the point in time in which services are rendered. See Footnote 3 for further discussion of revenue recognition.
Allowance for Doubtful Accounts
The Company determines allowances for doubtful accounts based on the specific agings and payor classifications at each clinic. The provision for doubtful
accounts is included in operating costs in the statements of net income. Net accounts receivable, which are stated at the historical carrying amount net of contractual allowances, write-offs and allowance for doubtful accounts, includes only those
amounts the Company estimates to be collectible.
Income Taxes
Income taxes are accounted for under the asset and liability method. Deferred 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 and operating loss and tax credit carryforwards. 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.
The Company recognizes the financial statement benefit of a tax position only after determining that the relevant tax authority would more likely than not
sustain the position following an audit. For tax positions meeting the more-likely-than-not threshold, the amount to be recognized in the financial statements is the largest benefit that has a greater than 50 percent likelihood of being realized
upon ultimate settlement with the relevant tax authority.
The Tax Cuts and Jobs Act of 2017 (the “TCJA”) was passed by Congress on December 20, 2017 and signed into law by President Trump on December 22, 2017. The
TCJA makes significant changes to U.S. corporate income tax laws including a decrease in the corporate income tax rate to 21% effective January 1, 2018.
The Company did not have any accrued interest or penalties associated with any unrecognized tax benefits nor was any interest expense recognized during the
nine months ended September 30, 2018. The Company records any interest or penalties, if required, in interest and other expense, as appropriate.
Fair Value of Financial Instruments
The carrying amounts reported in the balance sheets for cash and cash equivalents, accounts receivable, accounts payable, notes payable and redeemable
non-controlling interests approximate their fair values due to the short-term maturity of these financial instruments. The carrying amount under the Amended Credit Agreement approximates its fair value. The interest rate on the Amended Credit
Agreement, which is tied to the Eurodollar Rate, is set at various short-term intervals, as detailed in the Amended Credit Agreement.
Segment Reporting
Operating segments are components of an enterprise for which separate financial information is available that is evaluated regularly by chief operating
decision makers in deciding how to allocate resources and in assessing performance. The Company identifies operating segments based on management responsibility and believes it meets the criteria for aggregating its operating segments into a
single reporting segment.
Use of Estimates
In preparing the Company’s consolidated financial statements, management makes certain estimates and assumptions, especially in relation to, but not limited
to, purchase accounting, goodwill impairment, allowance for receivables, tax provision and contractual allowances, that affect the amounts reported in the consolidated financial statements and related disclosures. Actual results may differ from
these estimates.
Self-Insurance Program
The Company utilizes a self-insurance plan for its employee group health insurance coverage administered by a third party. Predetermined loss limits have been
arranged with the insurance company to minimize the Company’s maximum liability and cash outlay. Accrued expenses include the estimated incurred but unreported costs to settle unpaid claims and estimated future claims. Management believes that the
current accrued amounts are sufficient to pay claims arising from self-insurance claims incurred through September 30, 2018.
Restricted Stock
Restricted stock issued to employees and directors is subject to continued employment or continued service on the board, respectively. Generally, restrictions
on the stock granted to employees, other than officers, lapse in equal annual installments on the following four anniversaries of the date of grant. For those shares granted to directors, the restrictions will lapse in equal quarterly installments
during the first year after the date of grant. For those granted to officers, the restriction will lapse in equal quarterly installments during the four years following the date of grant. Compensation expense for grants of restricted stock is
recognized based on the fair value per share on the date of grant amortized over the vesting period. The restricted stock issued is included in basic and diluted shares for the earnings per share computation.
Recently Adopted Accounting Guidance
In May 2014, March 2016, April 2016, and December 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2014-09,
Revenue from Contracts with Customers, ASU 2016-08, Revenue from Contracts with Customers, Principal versus Agent Considerations, ASU 2016-10, Revenue from Contracts with Customers, Identifying Performance Obligations and Licensing, ASU 2016-12,
Revenue from Contracts with Customers, Narrow Scope Improvements and Practical Expedients, and ASU 2016-20, Technical Corrections and Improvements to Topic 606, Revenue from Contracts with Customer (collectively “the standards”), respectively,
which supersede most of the current revenue recognition requirements. 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. New disclosures about the nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with customers are also required.
The original standards were effective for fiscal years beginning after December 15, 2016; however, in July 2015, the FASB approved a one-year deferral of these standards, with a new effective date for fiscal years beginning after December 15, 2017.
The standards require the selection of a retrospective or cumulative effect transition method.
The Company implemented the new standards beginning January 1, 2018 using a modified retrospective transition method. Adoption of the new standard did not
result in material changes to the presentation of net revenues and bad debt expense in the consolidated statements of income, and the presentation of the amount of income from operations and net income will be unchanged upon adoption of the new
standards. The principal change relates to how the new standard requires healthcare providers to estimate the amount of variable consideration to be included in the transaction price up to an amount which is probable that a significant reversal
will not occur. The most common forms of variable consideration the Company experiences are amounts for services provided that are ultimately not realizable from a customer. Under the new standards, the Company’s estimate for unrealizable amounts
will continue to be recognized as a reduction to revenue. The bad debt expense historically reported will not materially change.
Recently Issued Accounting Guidance
In August 2018, the Securities Exchange Commission (“SEC”) issued Final Rule 33-10532, Disclosure Update and Simplification, which amends certain disclosure requirements
that were redundant, duplicative, overlapping or superseded by other SEC disclosure requirements. The amendments generally eliminated or otherwise reduced certain disclosure requirements of various SEC rules and regulations. However, in some cases,
the amendments require additional information to be disclosed, including changes in stockholders’ equity in interim periods. The rule is effective 30 days after its publication in the Federal Register. The rule was posted on October 4, 2018. On
September 25, 2018, the SEC released guidance advising it will not object to a registrant adopting the requirement to include changes in stockholders’ equity in the Form 10-Q for the first quarter beginning after the effective date of the rule. The
Company is currently assessing the impact that this standard will have on its consolidated financial statements upon adoption and expects to adopt the guidance in its Form 10-Q for the period ended March 31, 2019.
In January 2017, the FASB issued ASU 2017-04, Simplifying the Test for Goodwill Impairment (Topic 350), which eliminates the requirement to calculate the
implied fair value of goodwill to measure a goodwill impairment change. ASU 2017-04 is effective prospectively for fiscal years, and the interim periods within those years, beginning after December 15, 2019. The Company does not expect adoption of
this ASU to have a material impact.
In June 2016, the FASB issued ASU 2016-13, Financial Instruments – Credit Losses, which added a new impairment model (known as the current expected credit loss (CECL) model) that is based on expected losses rather than
incurred losses. Under the new guidance, an entity recognizes as an allowance its estimate of expected credit losses. The CECL model applies to most debt instruments, including trade receivables. The CECL model does not have a minimum threshold for
recognition of impairment losses and entities will need to measure expected credit losses on assets that have a low risk of loss. These changes become effective for the Company on January 1, 2020. Management is currently evaluating the potential
impact of these changes on the Consolidated Financial Statements.
In February 2016, the FASB issued amended accounting guidance (ASU 2016-02, Leases) which replaced most existing lease accounting guidance under U. S.
generally accepted accounting principles. Among other changes, the amended guidance requires that a right-to-use asset, which is an asset that represents the lessee’s right to use, and a lease liability, which is a lessee’s obligation to make lease
payments arising for a lease measured on a discounted basis, be recognized on the balance sheet by lessees for those leases with a term of greater than 12 months. The amended guidance is effective for reporting periods beginning after December 15,
2018; however, early adoption is permitted. Entities can use to use 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 recognize the
cumulative effect of applying the new standard as an adjustment to the opening balance of retained earnings.
Since the Company leases all but one of its clinic facilities, 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 continue to be recognized as rent expense on a straight-line basis over the respective lease terms in the consolidated
statements of income.
The Company will implement the new standard beginning January 1, 2019, and expects to elect certain of the practical expedients permitted, including the expedient that
permits the Company to retain its existing lease assessment and classification. The Company also expects to elect the transition method in ASU 2018-11 which allows the Company to forego any prior year comparisons. Instead the Company will
recognize a cumulative effect adjustment, which is expected to be immaterial, to the opening balance of retained earnings at the adoption date. The Company’s implementation efforts are focused on populating and verifying the data in a lease
accounting software package and developing internal controls in order to account for its leases under the new standard.
Subsequent Event
The Company has evaluated events occurring after the balance sheet date for possible disclosure as a subsequent event through the date that these consolidated
financial statements were issued. No disclosures were required.
2.
|
ACQUISITIONS OF BUSINESSES
|
On February 28, 2018, the Company purchased the assets and business of two physical therapy clinics, for an aggregate purchase price of $760,000 in cash
and $150,000 in seller note that is payable, plus accrued interest, on August 31, 2019.
On April 30, 2018, the Company purchased a 65% interest in the assets and business of an industrial injury prevention services company, for an aggregate
purchase price of $8.6 million in cash and $400,000 in seller note that is payable, plus accrued interest, on April 30, 2019. An initial industrial injury prevention business was acquired in March 2017 and, on April 30, 2018, the Company made the
second acquisition, with the two businesses then combined. After the combination, the Company owns a 59.45% interest in the combined business.
On August 31, 2018, the Company acquired a 70% interest in a four-clinic physical therapy practice. The purchase price for the 70% interest was $7.3
million in cash and $400,000 in a seller note that is payable in two principal installments totaling $200,000 each, plus accrued interest, in August 2019 and August 2020.
The purchase price for these 2018 acquisitions has been preliminarily allocated as follows (in thousands):
Cash paid, net of cash acquired
|
|
$
|
16,303
|
|
Seller notes
|
|
|
950
|
|
Total consideration
|
|
$
|
17,253
|
|
|
|
|
|
|
Estimated fair value of net tangible assets acquired:
|
|
|
|
|
Total current assets
|
|
$
|
1,691
|
|
Total non-current assets
|
|
|
29
|
|
Total liabilities
|
|
|
(247
|
)
|
Net tangible assets acquired
|
|
$
|
1,473
|
|
Referral relationships
|
|
|
1,879
|
|
Non-compete
|
|
|
386
|
|
Tradename
|
|
|
2,172
|
|
Goodwill
|
|
|
19,488
|
|
Fair value of non-controlling interest (classified as redeemable non-controlling interests)
|
|
|
(8,145
|
)
|
|
|
$
|
17,253
|
|
On January 1, 2017, the Company acquired a 70% interest in a seventeen-clinic physical therapy practice. The purchase price for the 70% interest was $10.7
million in cash and $0.5 million in a seller note that was payable in two principal installments totaling $250,000 each, plus accrued interest. The first installment was paid in January 2018 and the second installment is due in January 2019.
On May 31, 2017, the Company acquired a 70% interest in a four-clinic physical therapy practice. The purchase price for the 70% interest was $2.3 million in
cash and $250,000 in a seller note that is payable in two principal installments totaling $125,000 each, plus accrued interest. The first installment was paid in May 2018 and the second installment is due in May 2019.
On June 30, 2017, the Company acquired a 60% interest in a nine-clinic physical therapy practice. The purchase price for the 60% interest was $15.8 million
in cash and $0.5 million in a seller note that is payable in two principal installments totaling $250,000 each, plus accrued interest. The first installment was paid in June 2018 and the second installment is due in June 2019.
On October 31, 2017, the Company acquired a 70% interest in a nine-clinic physical therapy practice and two physical therapy management contracts with third
party providers. The purchase price for the 70% interest was $4.0 million in cash and $0.5 million in a seller note that is payable in two principal installments totaling $250,000 each, plus accrued interest, the first of which was paid in October
2018 and the second is due in October 2019.
In addition to the above, as previously mentioned in March 2017, the Company acquired a 55% interest in a company which is a leading provider of industrial
injury prevention services. The purchase price for the 55% interest was $6.2 million in cash and $0.4 million in a seller note which was paid in September 2018. Also, in 2017, the Company purchased the assets and business of two physical therapy
clinics in separate transactions. One clinic was consolidated with an existing clinic and the other operates as a satellite clinic of one of the existing partnerships.
The purchase price for the 2017 acquisitions has been preliminarily allocated as follows (in thousands):
Cash paid, net of cash acquired
|
|
$
|
36,682
|
|
Seller notes
|
|
|
2,150
|
|
Total consideration
|
|
$
|
38,832
|
|
Estimated fair value of net tangible assets acquired:
|
|
|
|
|
Total current assets
|
|
$
|
5,850
|
|
Total non-current assets
|
|
|
1,434
|
|
Total liabilities
|
|
|
(2,974
|
)
|
Net tangible assets acquired
|
|
$
|
4,310
|
|
Referral relationships
|
|
|
4,612
|
|
Non-compete
|
|
|
736
|
|
Tradename
|
|
|
6,228
|
|
Goodwill
|
|
|
47,111
|
|
Fair value of non-controlling interest (classified as redeemable non-controlling interests)
|
|
|
(13,883
|
)
|
Fair value of non-controlling interest (originally classified as mandatorily redeemable non-controlling interests)
|
|
|
(10,282
|
)
|
|
|
$
|
38,832
|
|
The purchase prices plus the fair value of the non-controlling interests for the acquisitions in first, second and third quarter of 2017 were allocated to the
fair value of the assets acquired, inclusive of identifiable intangible assets, i.e. trade names, referral relationships and non-compete agreements, and liabilities assumed based on the fair values at the acquisition date, with the amount exceeding
the fair values being recorded as goodwill are finalized. For the acquisitions occurring on or after October 1, 2017, the Company is in the process of completing its formal valuation analysis to identify and determine the fair value of tangible and
identifiable intangible assets acquired and the liabilities assumed. Thus, the final allocation of the purchase price may differ from the preliminary estimates used at September 30, 2018 based on additional information obtained and completion of
the valuation of the identifiable intangible assets. Changes in the estimated valuation of the tangible assets acquired, the completion of the valuation of identifiable intangible assets and the completion by the Company of the identification of
any unrecorded pre-acquisition contingencies, where the liability is probable and the amount can be reasonably estimated, will likely result in adjustments to goodwill.
For the acquisitions in 2017 and 2018, the values assigned to the referral relationships and non-compete agreements are being amortized to expense equally
over the respective estimated lives. For referral relationships, the range of the estimated lives was 7½ to 12 years, and for non-compete agreements the estimated lives were five to six years. The values assigned to tradenames are tested annually
for impairment.
For the 2017 and 2018 acquisitions, total current assets primarily represent accounts receivable. Total non-current assets are fixed assets, primarily
equipment, used in the practices.
The results of operations of the acquired clinics have been included in the Company’s consolidated financial statements since the date of their respective
acquisition.
The consideration paid for each of the acquisitions was derived through arm’s length negotiations. Funding for the cash portions was derived from proceeds
from the Company’s revolving credit facility. The results of operations of the acquisitions have been included in the Company’s consolidated financial statements since their respective date of acquisition. Unaudited proforma consolidated financial
information for the acquisitions in 2018, and 2017 acquisitions have not been included as the results, individually and in the aggregate, were not material to current operations.
Categories
Revenues are recognized at the point in time in which services are rendered. Net patient revenues (patient revenues less estimated contractual adjustments)
are reported at the estimated net realizable amounts from third-party payors, patients and others for services rendered. The Company has agreements with third-party payors that provide for payments to the Company at amounts different from its
established rates. The allowance for estimated contractual adjustments is based on terms of payor contracts and historical collection and write-off experience.
Management contract revenues, which are included in other revenues in the consolidated statements of net income, are derived from contractual arrangements
whereby the Company manages a clinic owned by a third party. The Company does not have any ownership interest in these clinics. Typically, revenues are determined based on the number of visits conducted at the clinic and recognized at the point in
time when services are performed. Costs, typically salaries for the Company’s employees, are recorded when incurred.
Revenues from the industrial injury prevention business, which are also included in other revenues in the consolidated statements of net income, are derived
from onsite services provided to clients’ employees including injury prevention, rehabilitation, ergonomic assessments and performance optimization. Revenues are determined based on the number of hours and respective rate for services provided.
Additionally, other revenues include services provided on-site, such as schools and industrial worksites, for physical or occupational therapy services, and
athletic trainers and gym membership fees.
Contract terms and rates are agreed to in advance between the Company and the third parties. Services are typically performed over
the contract period and revenue is recorded at the point of service. If the services are paid in advance, revenue is deferred over the period of the agreement and recognized at the point in time when the services are performed.
The following table details the revenue related to the various categories:
|
|
Three Months Ended
|
|
|
Nine Months Ended
|
|
|
|
September 30, 2018
|
|
|
September 30, 2017
|
|
|
September 30, 2018
|
|
|
September 30, 2017
|
|
Net patient revenues
|
|
$
|
103,354
|
|
|
$
|
96,273
|
|
|
$
|
309,895
|
|
|
$
|
287,584
|
|
Management contract revenues
|
|
|
1,922
|
|
|
|
1,703
|
|
|
|
6,319
|
|
|
|
5,177
|
|
Industrial injury prevention services revenues
|
|
|
7,281
|
|
|
|
4,364
|
|
|
|
18,407
|
|
|
|
10,252
|
|
Other revenues
|
|
|
565
|
|
|
|
692
|
|
|
|
1,941
|
|
|
|
1,835
|
|
|
|
$
|
113,122
|
|
|
$
|
103,032
|
|
|
$
|
336,562
|
|
|
$
|
304,848
|
|
Net Patient Revenues - Physical / Occupational Therapy Revenue
Net patient revenues consists of revenues for physical therapy and occupational therapy clinics that provide pre-and post-operative care and treatment for
orthopedic related disorders, sports-related injuries, preventative care, rehabilitation of injured workers and neurological-related injuries.
For ASC 606, there is an implied contract between the Company and the patient upon each patient visit. Separate contractual arrangements exist between the
Company and third party payors (e.g. insurers, managed care programs, government programs, workers' compensation) which establish the amounts the third parties pay on behalf of the patients for covered services rendered. While these agreements
are not considered contracts with the customer, they are used for determining the transaction price for services provided to the patients covered by the third party payors. The payor contracts do not indicate performance obligations of the
Company, but indicate reimbursement rates for patients who are covered by those payors when the services are provided. At that time, the Company is obligated to provide services for the reimbursement rates stipulated in the payor contracts. The
execution of the contract alone does not indicate a performance obligation. For self-paying customers, the performance obligation exists when the Company provides the services at established rates. The difference between the Company’s established
rate and the anticipated reimbursement rate is accounted for an as offset to revenue – contractual allowance.
Contractual Allowances
Contractual allowances result from the differences between the rates charged for services performed and expected reimbursements by both insurance companies
and government sponsored healthcare programs for such services. Medicare regulations and the various third party payors and managed care contracts are often complex and may include multiple reimbursement mechanisms payable for the services provided
in Company clinics. The Company estimates contractual allowances based on its interpretation of the applicable regulations, payor contracts and historical calculations. Each month the Company estimates its contractual allowance for each clinic
based on payor contracts and the historical collection experience of the clinic and applies an appropriate contractual allowance reserve percentage to the gross accounts receivable balances for each payor of the clinic. Based on the Company’s
historical experience, calculating the contractual allowance reserve percentage at the payor level is sufficient to allow the Company to provide the necessary detail and accuracy with its collectability estimates. However, the services authorized
and provided and related reimbursement are subject to interpretation that could result in payments that differ from the Company’s estimates. Payor terms are periodically revised necessitating continual review and assessment of the estimates made by
management. The Company’s billing system does not capture the exact change in its contractual allowance reserve estimate from period to period in order to assess the accuracy of its revenues, and hence, the need for a manual process for determining
its contractual allowance reserve. Management regularly compares its cash collections to corresponding net revenues measured both in the aggregate and on a clinic-by-clinic basis. In the aggregate, historically the difference between net revenues
and corresponding cash collections has generally reflected a difference within approximately 1% of net revenues. Additionally, analysis of subsequent periods’ contractual write-offs on a payor basis reflects a difference within approximately 1%
between the actual aggregate contractual reserve percentage as compared to the estimated contractual allowance reserve percentage associated with the same period end balance. As a result, the Company believes that a change in the contractual
allowance reserve estimate would not likely be more than 1% at September 30, 2018.
A contract’s transaction price is allocated to each distinct performance obligation and recognized when, or as, the performance obligation is satisfied. To
determine the transaction price, the Company includes the effects of any variable consideration, such as the probability of collecting that amount. The Company applies established rates to the services provided, and adjusts for the terms of payor
contracts, as applicable. These contracted amounts are different from the Company’s established rates. The Company has established a “contractual allowance” for this difference. The allowance is based on the terms of payor contracts, historical
and current reimbursement information and current experience with the clinic and partners. The Company’s established rates less the contractual allowance is the revenue that is recognized in the period in which the service is rendered. This revenue
is deemed the transaction price and stated as “Net Patient Revenue” on the Company’s consolidated statements of income.
The Company’s performance obligations are satisfied at one point in time. After the clinic has provided services and satisfied its obligation to the customer
for the reimbursement rates stipulated in the payor contracts (i.e. the transaction price), the Company recognizes the revenue, net of contractual allowances, in the period in which the services are rendered. The Company recognizes the full amount
of revenue and reports the contractual allowances as a contra (or offset) revenue account to report a net revenue number based on the expected collections.
Medicare Reimbursement
The Medicare program reimburses outpatient rehabilitation providers based on the Medicare Physician Fee Schedule (‘‘MPFS’’). For services provided in 2018, a
0.5% increase has been applied to the fee schedule payment rates; for services provided in 2019, a 0.25% increase will be applied to the fee schedule payment rates, subject to other CMS adjustments for budget neutrality. For services provided in
2020 through 2025, a 0.0% percent update will be applied each year to the fee schedule payment rates, subject to adjustments under Merit Based Incentive Payment System (
‘‘
MIPS
’’
) and any alternative payment
models (“APMs”). Beginning in 2021, payments to individual therapists (Physical/Occupational Therapist in Private Practice) under the fee schedule may be subject to adjustment based on performance in MIPS, which measures performance based on
certain metrics in quality and improvement activities.
Under the MIPS requirements, a provider's performance is assessed according to established performance standards and used to determine an adjustment factor
that is then applied to the professional's payment for a year. The specifics of the MIPS and APM adjustments begin in 2021 and will be subject to future notice and comment rule-making.
The Budget Control Act of 2011 increased the federal debt ceiling in connection with deficit reductions over the next ten years, and requires automatic
reductions in federal spending by approximately $1.2 trillion. Payments to Medicare providers are subject to these automatic spending reductions, subject to a 2% cap. On April 1, 2013, a 2% reduction to Medicare payments was implemented. The
Bipartisan Budget Act of 2015, enacted on November 2, 2015, extended the 2% reductions to Medicare payments through fiscal year 2025. The Bipartisan Budget Act of 2018, enacted on February 9, 2018, extended the 2% reductions to Medicare payments
through fiscal year 2027.
Historically, the total amount paid by Medicare in any one year for outpatient physical therapy, occupational therapy, and/or speech-language pathology
services provided to any Medicare beneficiary was subject to an annual dollar limit (i.e., the ‘‘Therapy Cap’’ or ‘‘Limit’’). For 2017, the annual Limit on outpatient therapy services was $1,980 for combined Physical Therapy and Speech Language
Pathology services and $1,980 for Occupational Therapy services. As a result of Bipartisan Budget Act of 2018, the Therapy Caps have been eliminated, effective as of January 1, 2018.
Under the Middle Class Tax Relief and Job Creation Act of 2012 (‘‘MCTRA’’), since October 1, 2012, patients who met or exceeded $3,700 in therapy expenditures
during a calendar year have been subject to a manual medical review to determine whether applicable payment criteria are satisfied. The $3,700 threshold is applied to Physical Therapy and Speech Language Pathology Services; a separate $3,700
threshold is applied to the Occupational Therapy. The Medicare Access and CHIP Reauthorization Act of 2015 (“MACRA”) directed Centers for Medicare and Medicaid Services (“CMS”) to modify the manual medical review process such that those reviews
will no longer apply to all claims exceeding the $3,700 threshold and instead will be determined on a targeted basis based on a variety of factors that CMS considers appropriate. The Bipartisan Budget Act of 2018 extends the targeted medical review
indefinitely, but reduces the threshold to $3,000 through December 31, 2027. For 2028, the threshold amount will be increased by the percentage increase in the Medicare Economic Index (“MEI”) for 2028 and in subsequent years the threshold amount
will increase based on the corresponding percentage increase in the MEI for such subsequent year.
CMS adopted a multiple procedure payment reduction (‘‘MPPR’’) for therapy services in the final update to the MPFS for calendar year 2011. The MPPR applied to
all outpatient therapy services paid under Medicare Part B — occupational therapy, physical therapy and speech-language pathology. Under the policy, the Medicare program pays 100% of the practice expense component of the Relative Value Unit
(‘‘RVU’’) for the therapy procedure with the highest practice expense RVU, then reduces the payment for the practice expense component for the second and subsequent therapy procedures or units of service furnished during the same day for the same
patient, regardless of whether those therapy services are furnished in separate sessions. Since 2013, the practice expense component for the second and subsequent therapy service furnished during the same day for the same patient was reduced by
50%. In addition, the MCTRA directed CMS to implement a claims-based data collection program to gather additional data on patient function during the course of therapy in order to better understand patient conditions and outcomes. All practice
settings that provide outpatient therapy services are required to include this data on the claim form. Since 2013, therapists have been required to report new codes and modifiers on the claim form that reflect a patient’s functional limitations and
goals at initial evaluation, periodically throughout care, and at discharge. Reporting of these functional limitation codes and modifiers are required on the claim for payment.
Medicare claims for outpatient therapy services furnished in whole or in part by therapist assistants on or after January 1, 2022 must include a new modifier
indicating the service was furnished by a therapist assistant. CMS is required to establish a modifier to indicate services provided in whole or in part by a therapist assistant by January 1, 2019, and then submitted claims must report using the
new modifier starting January 1, 2020. Outpatient therapy services furnished on or after January 1, 2022 in whole or in part by a therapist assistant will be paid at an amount equal to 85% of the payment amount otherwise applicable for the service.
Statutes, regulations, and payment rules governing the delivery of therapy services to Medicare beneficiaries are complex and subject to interpretation. We
believe that we are in compliance, in all material respects, with all applicable laws and regulations and are not aware of any pending or threatened investigations involving allegations of potential wrongdoing that would have a material effect on
the Company’s financial statements as of September 30, 2018. Compliance with such laws and regulations can be subject to future government review and interpretation, as well as significant regulatory action including fines, penalties, and exclusion
from the Medicare program. For nine months ended September 30, 2018 and 2017, net patient revenue from Medicare were approximately $76.6 million and $68.5 million, respectively.
The following tables provide a detail of the basic and diluted earnings per share computation. In accordance with current accounting guidance, the
revaluation of redeemable non-controlling interest (see Footnote 6), net of tax, charged directly to retained earnings is included in the earnings per basic and diluted share calculation.
|
|
Three Months Ended September 30,
|
|
|
Nine Months Ended September 30,
|
|
|
|
2018
|
|
|
2017
|
|
|
2018
|
|
|
2017
|
|
Computation of earnings per share - USPH shareholders
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income attributable to USPH shareholders
|
|
$
|
8,102
|
|
|
$
|
5,150
|
|
|
$
|
24,465
|
|
|
$
|
14,907
|
|
Charges to retained earnings:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revaluation of redeemable non-controlling interest
|
|
$
|
(8,680
|
)
|
|
$
|
-
|
|
|
|
(18,105
|
)
|
|
|
-
|
|
Tax effect at statutory rate (federal and state) of 26.25%
|
|
|
2,279
|
|
|
|
-
|
|
|
|
4,753
|
|
|
|
-
|
|
|
|
$
|
1,701
|
|
|
$
|
5,150
|
|
|
$
|
11,113
|
|
|
$
|
14,907
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic and diluted per share
|
|
$
|
0.13
|
|
|
$
|
0.41
|
|
|
$
|
0.88
|
|
|
$
|
1.19
|
|
Shares used in computation:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic and diluted
|
|
|
12,685
|
|
|
|
12,581
|
|
|
|
12,660
|
|
|
|
12,563
|
|
5.
|
MANDATORILY REDEEMABLE NON-CONTROLLING INTERESTS
|
Prior to the second quarter of 2017, when the Company acquired a majority interest (the “Acquisition”) in a physical therapy clinic business (referred to as
“Therapy Practice”), these Acquisitions occurred in a series of steps which are described below.
|
1.
|
Prior to the Acquisition, the Therapy Practice exists as a separate legal entity (the “Seller Entity”). The Seller Entity is owned by one or more individuals (the “Selling
Shareholders”) most of whom are physical therapists that work in the Therapy Practice and provide physical therapy services to patients.
|
|
2.
|
In conjunction with the Acquisition, the Seller Entity contributes the Therapy Practice into a newly-formed limited partnership (“NewCo”), in exchange for one hundred
percent (100%) of the limited and general partnership interests in NewCo. Therefore, in this step, NewCo becomes a wholly-owned subsidiary of the Seller Entity.
|
|
3.
|
The Company enters into an agreement (the “Purchase Agreement”) to acquire from the Seller Entity a majority (ranges from 50% to 90%) of the limited partnership interest
and, in all cases, 100% of the general partnership interest in NewCo. The Company does not purchase 100% of the limited partnership interest because the Selling Shareholders, through the Seller Entity, want to maintain an ownership
percentage. The consideration for the Acquisition is primarily payable in the form of cash at closing and a small two-year note in lieu of an escrow (the “Purchase Price”). The Purchase Agreement does not contain any future earn-out or
other contingent consideration that is payable to the Seller Entity or the Selling Shareholders.
|
|
4.
|
The Company and the Seller Entity also execute a partnership agreement (the “Partnership Agreement”) for NewCo that sets forth the rights and obligations of the limited and
general partners of NewCo. After the Acquisition, the Company is the general partner of NewCo.
|
|
5.
|
As noted above, the Company does not purchase 100% of the limited partnership interests in NewCo and the Seller Entity retains a portion of the limited partnership interest
in NewCo (“Seller Entity Interest”).
|
|
6.
|
In most cases, some or all of the Selling Shareholders enter into an employment agreement (the “Employment Agreement”) with NewCo with an initial term that ranges from
three to five years (the “Employment Term”), with automatic one-year renewals, unless employment is terminated prior to the end of the Employment Term. As a result, a Selling Shareholder becomes an employee (“Employed Selling
Shareholder”) of NewCo. The employment of an Employed Selling Shareholder can be terminated by the Employed Selling Shareholder or NewCo, with or without cause, at any time. In a few situations, a Selling Shareholder does not become
employed by NewCo and is not involved with NewCo following the closing; in those situations, such Selling Shareholders sell their entire ownership interest in the Seller Entity as of the closing of the Acquisition.
|
|
7.
|
The compensation of each Employed Selling Shareholder is specified in the Employment Agreement and is customary and commensurate with his or her responsibilities based on
other employees in similar capacities within NewCo, the Company and the industry.
|
|
8.
|
The Company and the Selling Shareholder (including both Employed Selling Shareholders and Selling Shareholders not employed by NewCo) execute a non-compete agreement (the
“Non- Compete Agreement”) which restricts the Selling Shareholder from engaging in competing business activities for a specified period of time (the “Non-Compete Term”). A Non-Compete Agreement is executed with the Selling Shareholders
in all cases. That is, even if the Selling Shareholder does not become an Employed Selling Shareholder, the Selling Shareholder is restricted from engaging in a competing business during the Non-Compete Term.
|
|
9.
|
The Non-Compete Term commences as of the date of the Acquisition and expires on the later of:
|
|
a.
|
Two years after the date an Employed Selling Shareholders’ employment is terminated (if the Selling Shareholder becomes an Employed Selling Shareholder) or
|
|
b.
|
Five to six years from the date of the Acquisition, as defined in the Non-Compete Agreement, regardless of whether the Selling Shareholder is employed by NewCo.
|
|
10.
|
The Non-Compete Agreement applies to a restricted region which is defined as a 15-mile radius from the Therapy Practice. That is, an Employed Selling Shareholder is
permitted to engage in competing businesses or activities outside the 15-mile radius (after such Employed Selling Shareholder no longer is employed by NewCo) and a Selling Shareholder who is not employed by NewCo immediately is
permitted to engage in the competing business or activities outside the 15-mile radius.
|
|
11.
|
The Partnership Agreement contains provisions for the redemption of the Seller Entity Interest, either at the option of the Company (the “Call Option”) or on a required
basis (the “Required Redemption”):
|
|
i.
|
Once the Required Redemption is triggered, the Company is obligated to purchase from the Seller Entity and the Seller Entity is obligated to sell to the Company, the
allocable portion of the Seller Entity Interest based on the terminated Selling Shareholder’s pro rata ownership interest in the Seller Entity (the “Allocable Portion”). Required Redemption is
|
triggered when both of the following events have occurred:
|
1.
|
Termination of an Employed Selling Shareholder’s employment with NewCo, regardless of the reason for such termination, and
|
|
2.
|
The expiration of an agreed upon period of time, typically three to five years, as set forth in the relevant Partnership Agreement (the “Holding Period”).
|
|
ii.
|
In the event an Employed Selling Shareholder’s employment terminates prior to the expiration of the Holding Period, the Required Redemption would occur only upon expiration
of the Holding Period.
|
|
i.
|
In the event that an Employed Selling Shareholder’s employment terminates prior to expiration of the Holding Period, the Company has the contractual right, but not the
obligation, to acquire the Employed Selling Shareholder’s Allocable Portion of the Seller Entity Interest from the Seller Entity through exercise of the Call Option.
|
|
c.
|
For the Required Redemption and the Call Option, the purchase price is derived from a formula based on a specified multiple of NewCo’s trailing twelve months of earnings
before interest, taxes, depreciation, amortization, and the Company’s internal management fee, plus an Allocable Portion of any undistributed earnings of NewCo (the “Redemption Amount”). NewCo’s earnings are distributed monthly based on
available cash within NewCo; therefore, the undistributed earnings amount is small, if any.
|
|
d.
|
The Purchase Price for the initial equity interest purchased by the Company is also based on the same specified multiple of the trailing twelve-month earnings that is used
in the Required Redemption noted above.
|
|
e.
|
Although, the Required Redemption and the Call Option do not have an expiration date, the Seller Entity Interest eventually will be purchased by the Company.
|
|
f.
|
The Required Redemption and the Call Option never apply to Selling Shareholders who do not become employed by NewCo, since the Company requires that such Selling
Shareholders sell their entire ownership interest in the Seller Entity at the closing of the Acquisition.
|
|
12.
|
An Employed Selling Shareholder’s ownership of his or her equity interest in the Seller Entity predates the Acquisition and the Company’s purchase of its partnership
interest in NewCo. The Employment Agreement and the Non-Compete Agreement do not contain any provision to escrow or “claw back” the equity interest in the Seller Entity held by such Employed Selling Shareholder, nor the Seller Entity
Interest in NewCo, in the event of a breach of the employment or non-compete terms. More specifically, even if the Employed Selling Shareholder is terminated for “cause” by NewCo, such Employed Selling Shareholder does not forfeit his
or her right to his or her full equity interest in the Seller Entity and the Seller Entity does not forfeit its right to any portion of the Seller Entity Interest. The Company’s only recourse against the Employed Selling Shareholder for
breach of either the Employment Agreement or the Non-Compete Agreement is to seek damages and other legal remedies under such agreements. There are no conditions in any of the arrangements with an Employed Selling Shareholder that would
result in a forfeiture of the equity interest held in the Seller Entity or of the Seller Entity Interest.
|
As previously mentioned, due to the amendments that were made to partnerships agreements effective December 31, 2017, the Call Option and Required Redemption
provisions described in number 11 of this Footnote 5 have been modified to be consistent with the provisions described in Footnote 6 below. As a result, the redemption values of the mandatorily redeemable non-controlling interest (previously
classified as liabilities) were reclassified as redeemable non-controlling interest (temporary equity) at fair value on the December 31, 2017 consolidated balance sheet. For 2017, the earnings and liabilities attributable to mandatorily redeemable
non-controlling interests were recorded within the consolidated statements of income line item:
Interest expense – mandatorily redeemable non-controlling interests
– earnings allocable
and in the consolidated balance sheet line item:
Mandatorily redeemable non-controlling interests
.
6.
|
REDEEMABLE NON-CONTROLLING INTERESTS
|
When the Company acquires a majority interest in a Therapy Practice, those Acquisitions occur in a series of steps as described in numbers 1 through 10 of
Footnote 5 – Mandatorily Redeemable Non-Controlling Interests. For the Acquisitions that occurred after the first quarter of 2017, and for the acquisitions that occurred during and prior to the first quarter of 2017 but for which the partnership
agreements were amended, the applicable Partnership Agreement contains provisions for the redemption of the Seller Entity Interest, either at the option of the Company (the “Call Right”) or at the option of the Seller Entity (the “Put Right”) as
follows:
|
a.
|
In the event that any Selling Shareholder’s employment is terminated involuntarily by the Company without “Cause” pursuant to Section 7(d) of such Employed Selling
Shareholder’s Employment Agreement prior to the third to fifth anniversary, as applicable, of the Closing Date, the Seller Entity thereafter shall have an irrevocable right to cause the Company to purchase from Seller Entity the
Allocable Portion at the purchase price described in “number 3” below.
|
|
b.
|
In the event that any Employed Selling Shareholder is not employed by NewCo as of the fifth anniversary of the Closing Date and the Company has not exercised its Call Right
with respect to the such Employed Selling Shareholder’s Allocable Portion, Seller Entity thereafter shall have the Put Right to cause the Company to purchase from Seller Entity the Allocable Portion at the purchase price described in
“number 3” below.
|
|
c.
|
In the event that any Employed Selling Shareholder’s employment with NewCo is terminated for any reason on or after the fifth anniversary of the Closing Date, the Seller
Entity shall have the Put Right, and upon the exercise of the Put Right, such Employed Selling Shareholder’s Allocable Portion shall be redeemed by the Company at the purchase price described in “number 3” below.
|
|
a.
|
If any Selling Shareholder’s employment by NewCo is terminated (i) pursuant to a voluntary termination by the Employed Selling Shareholder or (ii) by NewCo with “Cause” (as
defined in the Employed Selling Shareholder’s Employment Agreement), prior to the fifth anniversary of the Closing Date, the Company thereafter shall have an irrevocable right to purchase from Seller Entity such Employed Selling
Shareholder’s Allocable Portion, in each case at the purchase price described in “number 3” below.
|
|
b.
|
In the event that any Employed Selling Shareholder’s employment with NewCo is terminated for any reason on or after the fifth anniversary of the Closing Date, the Company
shall have the Call Right, and upon the exercise of the Call Right, such Employed Selling Shareholder’s Allocable Portion shall be redeemed by the Company at the purchase price described in “number 3” below.
|
|
3.
|
For the Put Right and the Call Right, the purchase price is derived from a formula based on a specified multiple of NewCo’s trailing twelve months of earnings before
interest, taxes, depreciation, amortization, and the Company’s internal management fee, plus the Allocable Portion of any undistributed earnings of NewCo (the “Redemption Amount”). NewCo’s earnings are distributed monthly based on
available cash within NewCo; therefore, the undistributed earnings amount is small, if any.
|
|
4.
|
The Purchase Price for the initial equity interest purchased by the Company is also based on the same specified multiple of the trailing twelve-month earnings that is used
in the Put Right and the Call Right noted above.
|
|
5.
|
The Put Right and the Call Right do not have an expiration date, but the Seller Entity Interest is not required to be purchased by the Company or sold by the Seller Entity.
|
|
6.
|
The Put Right and the Call Right never apply to Selling Shareholders who do not become employed by NewCo, since the Company requires that such Selling Shareholders sell
their entire ownership interest in the Seller Entity at the closing of the Acquisition.
|
An Employed Selling Shareholder’s ownership of his or her equity interest in the Seller Entity predates the Acquisition and the Company’s purchase of its
partnership interest in NewCo. The Employment Agreement and the Non-Compete Agreement do not contain any provision to escrow or “claw back” the equity interest in the Seller Entity held by such Employed Selling Shareholder, nor the Seller Entity
Interest in NewCo, in the event of a breach of the employment or non-compete terms. More specifically, even if the Employed Selling Shareholder is terminated for “cause” by NewCo, such Employed Selling Shareholder does not forfeit his or her right
to his or her full equity interest in the Seller Entity and the Seller Entity does not forfeit its right to any portion of the Seller Entity Interest. The Company’s only recourse against the Employed Selling Shareholder for breach of either the
Employment Agreement or the Non-Compete Agreement is to seek damages and other legal remedies under such agreements. There are no conditions in any of the arrangements with an Employed Selling Shareholder that would result in a forfeiture of the
equity interest held in the Seller Entity or of the Seller Entity Interest.
For the three and nine months ended September 30, 2018 and 2017, the following table details the changes in the carrying amount of redeemable non-controlling
interest (in thousands):
|
|
Three Months Ended
September 30, 2018
|
|
|
Nine Months Ended
September 30, 2018
|
|
|
Three Months Ended
September 30, 2017
|
|
|
Nine Months Ended
September 30, 2017
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Beginning balance
|
|
$
|
117,027
|
|
|
$
|
102,572
|
|
|
$
|
11,940
|
|
|
$
|
-
|
|
Operating results allocated to redeemable non-controlling interest partners
|
|
|
2,456
|
|
|
|
6,802
|
|
|
|
155
|
|
|
|
155
|
|
Distributions to redeemable non-controlling interest partners
|
|
|
(2,497
|
)
|
|
|
(6,576
|
)
|
|
|
(16
|
)
|
|
|
(16
|
)
|
Changes in the fair value of redeemable non-controlling interest
|
|
|
8,681
|
|
|
|
18,106
|
|
|
|
-
|
|
|
|
-
|
|
Purchase of new business
|
|
|
3,282
|
|
|
|
8,145
|
|
|
|
-
|
|
|
|
11,940
|
|
Other
|
|
|
(43
|
)
|
|
|
(143
|
)
|
|
|
-
|
|
|
|
-
|
|
Ending balance
|
|
$
|
128,906
|
|
|
$
|
128,906
|
|
|
$
|
12,079
|
|
|
$
|
12,079
|
|
The following table categorizes the carrying amount (fair value) of the redeemable non-controlling interests (in thousands):
|
|
September 30, 2018
|
|
|
December 31, 2017
|
|
|
|
|
|
|
|
|
Contractual time period has lapsed but holder's employment has not been terminated
|
|
$
|
34,587
|
|
|
$
|
32,416
|
|
Contractual time period has not lapsed and holder's employment has not been terminated
|
|
|
94,319
|
|
|
|
70,156
|
|
Fair value
|
|
$
|
128,906
|
|
|
$
|
102,572
|
|
The changes in the carrying amount of goodwill consisted of the following (in thousands):
|
|
Nine Months Ended
September 30, 2018
|
|
|
Year Ended
December 31, 2017
|
|
Beginning balance
|
|
$
|
271,338
|
|
|
$
|
226,806
|
|
Goodwill acquired during the year
|
|
|
19,488
|
|
|
|
44,292
|
|
Goodwill adjustments for purchase price allocation of businesses acquired in prior year
|
|
|
2,804
|
|
|
|
706
|
|
Goodwill written-off - closed clinic
|
|
|
-
|
|
|
|
(466
|
)
|
Ending balance
|
|
$
|
293,630
|
|
|
$
|
271,338
|
|
8.
|
INTANGIBLE ASSETS, NET
|
Intangible assets, net as of September 30, 2018 and December 31, 2017 consisted of the following (in thousands):
|
|
September 30, 2018
|
|
|
December 31, 2017
|
|
Tradenames
|
|
$
|
29,631
|
|
|
$
|
29,673
|
|
Referral relationships, net of accumulated amortization of $8,857 and $7,209, respectively
|
|
|
17,771
|
|
|
|
16,811
|
|
Non-compete agreements, net of accumulated amortization of $4,560 and $4,100, respectively
|
|
|
1,909
|
|
|
|
2,470
|
|
|
|
$
|
49,311
|
|
|
$
|
48,954
|
|
Tradenames, referral relationships and non-compete agreements are related to the businesses acquired. The value assigned to tradenames has an indefinite life
and is tested at least annually for impairment using the relief from royalty method in conjunction with the Company’s annual goodwill impairment test. The value assigned to referral relationships is being amortized over their respective estimated
useful lives which range from five to sixteen years. Non-compete agreements are amortized over the respective term of the agreements which range from five to six years.
The following table details the amount of amortization expense recorded for intangible assets for the three and nine months ended September 30, 2018 and 2017
(in thousands):
|
|
Three Months Ended
|
|
|
Nine Months Ended
|
|
|
|
September 30, 2018
|
|
|
September 30, 2017
|
|
|
September 30, 2018
|
|
|
September 30, 2017
|
|
Referral relationships
|
|
$
|
569
|
|
|
$
|
527
|
|
|
|
1,648
|
|
|
|
1,466
|
|
Non-compete agreements
|
|
|
172
|
|
|
|
231
|
|
|
|
460
|
|
|
|
632
|
|
|
|
$
|
741
|
|
|
$
|
758
|
|
|
$
|
2,108
|
|
|
$
|
2,098
|
|
Based on the balance of referral relationships and non-compete agreements as of September 30, 2018, the expected amount to be amortized in 2018 and thereafter by year is as follows
(in thousands):
Referral Relationships
|
|
|
Non-Compete Agreements
|
|
Years
|
|
|
Annual Amount
|
|
|
Years
|
|
|
Annual Amount
|
|
Ending December 31,
|
|
|
|
|
|
Ending December 31,
|
|
|
|
|
2018
|
|
|
$
|
2,196
|
|
|
2018
|
|
|
$
|
635
|
|
2019
|
|
|
$
|
2,166
|
|
|
2019
|
|
|
$
|
649
|
|
2020
|
|
|
$
|
2,166
|
|
|
2020
|
|
|
$
|
436
|
|
2021
|
|
|
$
|
2,166
|
|
|
2021
|
|
|
$
|
358
|
|
2022
|
|
|
$
|
2,117
|
|
|
2022
|
|
|
$
|
176
|
|
2023
|
|
|
$
|
2,009
|
|
|
2023
|
|
|
$
|
115
|
|
Thereafter
|
|
|
$
|
6,599
|
|
|
|
|
|
|
|
|
Accrued expenses as of September 30, 2018 and December 31, 2017 consisted of the following (in thousands):
|
|
September 30, 2018
|
|
|
December 31, 2017
|
|
Salaries and related costs
|
|
$
|
24,064
|
|
|
$
|
16,828
|
|
Credit balances due to patients and payors
|
|
|
6,727
|
|
|
|
4,158
|
|
Group health insurance claims
|
|
|
2,807
|
|
|
|
2,929
|
|
Income taxes payable
|
|
|
-
|
|
|
|
2,833
|
|
Other
|
|
|
6,530
|
|
|
|
6,594
|
|
Total
|
|
$
|
40,128
|
|
|
$
|
33,342
|
|
10. NOTES PAYABLE AND AMENDED CREDIT AGREEMENT
Amounts outstanding under the Amended Credit Agreement and notes payable as of September 30, 2018 and December 31, 2017 consisted of the following (in
thousands):
|
|
September 30, 2018
|
|
|
December 31, 2017
|
|
Credit Agreement average effective interest rate of 4.0% inclusive of unused fee
|
|
$
|
54,000
|
|
|
$
|
54,000
|
|
Various notes payable with $4,769 plus accrued interest due in the next year,
interest accrues in the range of 3.25% through 5.0% per annum
|
|
|
5,428
|
|
|
|
6,772
|
|
|
|
|
59,428
|
|
|
|
60,772
|
|
Less current portion
|
|
|
(4,769
|
)
|
|
|
(4,044
|
)
|
Long term portion
|
|
$
|
54,659
|
|
|
$
|
56,728
|
|
Effective December 5, 2013, the Company entered into an Amended and Restated Credit Agreement with a commitment for a $125.0 million revolving credit
facility. This agreement was amended in August 2015, January 2016, March 2017 and November 2017 (hereafter referred to as “Amended Credit Agreement”). The Amended Credit Agreement is unsecured and has loan covenants, including requirements that the
Company comply with a consolidated fixed charge coverage ratio and consolidated leverage ratio. Proceeds from the Amended Credit Agreement may be used for working capital, acquisitions, purchases of the Company’s common stock, dividend payments to
the Company’s common stockholders, capital expenditures and other corporate purposes. The pricing grid which is based on the Company’s consolidated leverage ratio with the applicable spread over LIBOR ranging from 1.25% to 2.0% or the applicable
spread over the Base Rate ranging from 0.1% to 1%. Fees under the Amended Credit Agreement include an unused commitment fee ranging from 0.25% to 0.3% depending on the Company’s consolidated leverage ratio and the amount of funds outstanding under
the Amended Credit Agreement.
The January 2016 amendment to the Amended Credit Agreement increased the cash and noncash consideration that the Company could pay with respect to
acquisitions permitted under the Amended Credit Agreement to $50,000,000 for any fiscal year, and increased the amount the Company may pay in cash dividends to its shareholders in an aggregate amount not to exceed $10,000,000 in any fiscal year.
The March 2017 amendment, among other items, increased the amount the Company may pay in cash dividends to its shareholders in an aggregate amount not to exceed $15,000,000 in any fiscal year. The November 2017 amendment, among other items,
adjusted the pricing grid as described above, increased the aggregate amount the Company may pay in cash dividends to its shareholders to an amount not to exceed $20,000,000 and extended the maturity date to November 30, 2021.
On September 30, 2018, $54.0 million was outstanding on the Amended Credit Agreement resulting in $71.0 million of availability. As of September 30, 2018 and
the date of this report, the Company was in compliance with all of the covenants thereunder.
The Company generally enters into various notes payable as a means of financing a portion of its acquisitions and purchases of non-controlling interests. In
conjunction with the acquisition of the four clinic practices on August 31, 2018, the Company entered into a note payable in the amount of $400,000 that is payable in two principal installments of $200,000 each, plus accrued interest, on August
2019 and August 2020. Interest accrues at the rate of 5.00% per annum. In conjunction with the acquisition of the industrial injury prevention business on April 30, 2018, the Company entered into a note payable in the amount of $400,000 that is
payable in two principal installments of $200,000 each, plus accrued interest, on April 2019 and 2020. Interest accrues at the rate of 4.75% per annum. In conjunction with the acquisition of the two clinic practices on February 28, 2018, the
Company entered into a note payable in the amount of $150,000, which is payable on August 31, 2019. Interest accrues at the rate of 4.5% per annum and is payable on August 31, 2019. In conjunction with the acquisitions in 2017, the Company
entered into notes payable in the aggregate amount of $2.2 million of which an aggregate principal payment of $1.3 million is due in 2018 (of which $1.0 million was paid in the first six months of 2018) and $0.9 million in 2019. Interest accrues
in the range of 3.25% to 4.75% per annum and is payable with each principal installment.
Aggregate annual payments of principal required pursuant to the Amended Credit Agreement and the above notes payable subsequent to September 30, 2018 are as
follows (in thousands):
|
|
|
|
During the twelve months ended September 30, 2019
|
|
$
|
4,769
|
|
During the twelve months ended September 30, 2020
|
|
|
659
|
|
During the twelve months ended September 30, 2021
|
|
|
-
|
|
During the twelve months ended September 30, 2022
|
|
|
54,000
|
|
|
|
$
|
59,428
|
|
The revolving credit facility (balance at September 30, 2018 of $54.0 million) matures on November 30, 2021.
From September 2001 through December 31, 2008, the Board authorized the Company to purchase, in the open market or in privately negotiated transactions, up to
2,250,000 shares of the Company’s common stock. In March 2009, the Board authorized the repurchase of up to 10% or approximately 1,200,000 shares of its common stock (“March 2009 Authorization”). The Amended Credit Agreement permits share
repurchases of up to $15,000,000, subject to compliance with covenants. The Company is required to retire shares purchased under the March 2009 Authorization.
Under the March 2009 Authorization, the Company has purchased a total of 859,499 shares. There is no expiration date for the share repurchase program. There
are currently an additional estimated 126,475 shares (based on the closing price of $118.60 on September 30, 2018) that may be purchased from time to time in the open market or private transactions depending on price, availability and the Company’s
cash position. The Company did not purchase any shares of its common stock during the nine months ended September 30, 2018.