XNYS:TMH Team Health Holdings Inc Quarterly Report 10-Q Filing - 3/31/2012

Effective Date 3/31/2012

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Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

Form 10-Q

 

 

 

þ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.

For the quarterly period ended March 31, 2012

Or

 

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.

For the transition period from              to             .

Commission File Number 001-34583

 

 

Team Health Holdings, Inc.

(Exact name of registrant as specified in its charter)

 

 

 

Delaware   36-4276525

(State or other jurisdiction

of incorporation)

 

(I.R.S. Employer

Identification No.)

265 Brookview Centre Way

Suite 400

Knoxville, Tennessee 37919

(865) 693-1000

(Address, zip code, and telephone number, including area code, of registrant’s principal executive office.)

 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 and 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter periods that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  þ    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  þ    No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, accelerated filer, non-accelerated filer or smaller reporting company. See the definitions of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer  ¨    Accelerated filer  þ    Non-accelerated filer  ¨    Smaller reporting company   ¨
      (Do not check if a
smaller reporting company)
  

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  þ

As of April 26, 2012, there were outstanding 65,849,870 shares of common stock of Team Health Holdings, Inc., with a par value of $.01.

 

 

 


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FORWARD LOOKING STATEMENTS

Statements made in this Form 10-Q that are not historical facts and that reflect the current view of Team Health Holdings, Inc. (the “Company”) about future events and financial performance are hereby identified as “forward looking statements.” Some of these statements can be identified by terms and phrases such as “anticipate,” “believe,” “intend,” “estimate,” “expect,” “continue,” “could,” “should,” “may,” “plan,” “project,” “predict” and similar expressions. The Company cautions readers of this Form 10-Q that such “forward looking statements”, including without limitation, those relating to the Company’s future business prospects, revenue, working capital, professional liability expense, liquidity, capital needs, interest costs and income, wherever they occur in this Form 10-Q or in other statements attributable to the Company, are necessarily estimates reflecting the judgment of the Company’s senior management and involve a number of risks and uncertainties that could cause actual results to differ materially from those suggested by the “forward looking statements”. Factors that could cause our actual results to differ materially from those expressed or implied in such forward-looking statements, include, but are not limited to:

 

   

the current U.S. and global economic conditions;

 

   

the current U.S. and state healthcare reform legislative initiatives;

 

   

the effect and interpretation of current or future government regulation of the healthcare industry, and our ability to comply with these regulations;

 

   

our exposure to billing investigations and audits by private payers and federal and state authorities, as well as auditing contractors for governmental programs;

 

   

our exposure to professional liability lawsuits;

 

   

the adequacy of our insurance reserves;

 

   

our reliance on reimbursements by third-party payers, as well as payments by individuals;

 

   

change in rates or methods of government payments for our services;

 

   

the general level of emergency department patient volumes at our clients’ facilities;

 

   

our exposure to the financial risks associated with fee-for-service contracts;

 

   

our ability to timely or accurately bill for services;

 

   

our ability to timely enroll healthcare professionals in the Medicare program;

 

   

a reclassification of independent contractor physicians by tax authorities;

 

   

the concentration of a significant number of our programs in certain states, particularly Florida and Tennessee;

 

   

any loss of or failure to renew contracts within the Military Health System Program, which are subject to a competitive bidding process;

 

   

our exposure to litigation;

 

   

fluctuations in our quarterly operating results which could affect our ability to raise new capital for our business;

 

   

effect on our revenues if we experience a net loss of contracts;

 

   

our ability to accurately assess the costs we will incur under new contracts;

 

   

our ability to find suitable acquisition candidates or successfully integrate completed acquisitions;

 

   

our ability to implement our business strategy and manage our growth effectively;

 

   

our future capital needs and ability to raise capital when needed;

 

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our ability to successfully recruit and retain qualified healthcare professionals;

 

   

enforceability of our non-competition and non-solicitation contractual arrangements with some affiliated physicians and professional corporations;

 

   

the high level of competition in our industry;

 

   

our dependence on numerous complex information systems and our ability to maintain these systems or implement new systems or any disruptions in our information systems;

 

   

our ability to protect our proprietary technology and services;

 

   

our loss of key personnel and/or ability to attract and retain highly qualified personnel;

 

   

our ability to comply with privacy regulations regarding the use and disclosure of patient information;

 

   

our ability to comply with federal or state anti-kickback laws;

 

   

our ability to comply with federal and state physician self-referral laws and regulations or issuance of additional legislative restrictions;

 

   

changes in existing laws or regulations, adverse judicial or administrative interpretations of these laws and regulations or enactment of new legislation;

 

   

changes in accounting standards, rules and interpretations or inaccurate estimates or assumptions in the application of accounting policies and the impact on our financial statements;

 

   

our exposure to a loss of contracts with our physicians or termination of relationships with our affiliated professional corporations in order to comply with antitrust laws;

 

   

our substantial indebtedness and ability to incur substantially more debt;

 

   

our ability to generate sufficient cash to service our debt;

 

   

restrictive covenants in our debt agreements which may restrict our ability to pursue our business strategies and our ability to comply with them; and

 

   

the interests of our sponsor may be in conflict with your interests.

For a more detailed discussion of these factors, see the information under the caption “Risk Factors” in the Company’s most recent Annual Report on Form 10-K filed with the Securities and Exchange Commission and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” herein and in the Company’s most recent Annual Report on Form 10-K.

The Company’s forward-looking statements speak only as of the date of this report or as of the date they are made. The Company disclaims any intent or obligation to update any “forward looking statement” made in this Form 10-Q to reflect changed assumptions, the occurrence of unanticipated events or changes to future operating results over time.

 

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TEAM HEALTH HOLDINGS, INC.

QUARTERLY REPORT FOR THE THREE MONTHS

ENDED MARCH 31, 2012

 

         Page  

Part 1. Financial Information

  

Item 1.

  Financial Statements (Unaudited)      5   
  Consolidated Balance Sheets—December 31, 2011 and March 31, 2012      5   
 

Consolidated Statements of Comprehensive Earnings—Three months ended March 31, 2011 and 2012

     6   
  Consolidated Statements of Cash Flows—Three months ended March 31, 2011 and 2012      7   
  Notes to Consolidated Financial Statements      8   

Item 2.

  Management’s Discussion and Analysis of Financial Condition and Results of Operations      22   

Item 3.

  Quantitative and Qualitative Disclosures About Market Risk      38   

Item 4.

  Controls and Procedures      38   

Part 2. Other Information

  

Item 1.

  Legal Proceedings      38   

Item 1A.

  Risk Factors      38   

Item 2.

  Unregistered Sales of Equity Securities and Use of Proceeds      38   

Item 3.

  Defaults Upon Senior Securities      38   

Item 4.

  Mine Safety Disclosures      38   

Item 5.

  Other Information      38   

Item 6.

  Exhibits      39   

Signatures

     41   

 

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PART 1. FINANCIAL INFORMATION

 

Item 1. Financial Statements

TEAM HEALTH HOLDINGS, INC.

CONSOLIDATED BALANCE SHEETS

 

     December 31,
2011
    March 31,
2012
 
    

(Unaudited)

(In thousands)

 

ASSETS

    

Current assets:

    

Cash and cash equivalents

   $ 9,855      $ 10,193   

Accounts receivable, less allowance for uncollectibles of $265,293 and $276,997 in 2011 and 2012, respectively

     307,874        325,427   

Prepaid expenses and other current assets

     24,021        21,554   

Receivables under insured programs

     14,129        12,845   

Income tax receivable

     1,438        —     
  

 

 

   

 

 

 

Total current assets

     357,317        370,019   

Investments of insurance subsidiary

     94,300        94,120   

Property and equipment, net

     34,674        34,432   

Other intangibles, net

     101,910        95,794   

Goodwill

     232,215        232,215   

Deferred income taxes

     36,188        38,084   

Receivables under insured programs

     31,581        27,078   

Other

     40,082        40,263   
  

 

 

   

 

 

 
   $ 928,267      $ 932,005   
  

 

 

   

 

 

 

LIABILITIES AND SHAREHOLDERS’ EQUITY

    

Current liabilities:

    

Accounts payable

   $ 22,356      $ 20,140   

Accrued compensation and physician payable

     153,674        136,547   

Income tax payable

     —          8,497   

Other accrued liabilities

     109,649        108,855   

Current maturities of long-term debt

     35,000        26,000   

Deferred income taxes

     38,068        38,266   
  

 

 

   

 

 

 

Total current liabilities

     358,747        338,305   

Long-term debt, less current maturities

     385,000        382,500   

Other non-current liabilities

     167,120        175,929   

Shareholders’ equity:

    

Common stock, ($0.01 par value; 100,000 shares authorized, 65,589 and 65,771 shares issued and outstanding at December 31, 2011 and March 31, 2012, respectively)

     656        658   

Additional paid-in capital

     541,216        544,979   

Accumulated deficit

     (527,774     (513,350

Accumulated other comprehensive income

     3,302        2,984   
  

 

 

   

 

 

 

Shareholders’ equity

     17,400        35,271   
  

 

 

   

 

 

 
   $ 928,267      $ 932,005   
  

 

 

   

 

 

 

See accompanying notes to consolidated financial statements.

 

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TEAM HEALTH HOLDINGS, INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE EARNINGS

 

                 Three Months Ended             
March 31,
 
     2011     2012  
     (Unaudited)  
     (In thousands, except per share data)  

Net revenue before provision for uncollectibles

   $ 719,134      $ 840,424   

Provision for uncollectibles

     306,640        361,762   
  

 

 

   

 

 

 

Net revenue

     412,494        478,662   

Cost of services rendered (exclusive of depreciation and amortization shown separately below)

    

Professional service expenses

     313,650        371,585   

Professional liability costs

     14,739        22,308   

General and administrative expenses (includes contingent purchase compensation expense of $2,617 and $6,343 in 2011 and 2012, respectively)

     40,754        48,364   

Other income

     (548     (1,455

Depreciation

     3,051        3,118   

Amortization

     3,638        6,116   

Interest expense, net

     3,277        3,557   

Transaction costs

     154        1,227   
  

 

 

   

 

 

 

Earnings before income taxes

     33,779        23,842   

Provision for income taxes

     13,659        9,418   
  

 

 

   

 

 

 

Net earnings

   $ 20,120      $ 14,424   
  

 

 

   

 

 

 

Net earnings per share

    

Basic

   $ 0.31      $ 0.22   

Diluted

   $ 0.31      $ 0.21   

Weighted average shares outstanding

    

Basic

     64,475        65,567   

Diluted

     65,593        67,383   

Other comprehensive income, net of tax:

    

Net change in fair value of investments, net of tax of $(109) and $(172) for 2011 and 2012, respectively

     (203     (318

Net change in fair value of swaps, net of tax of $359 for 2011

     562        —     
  

 

 

   

 

 

 

Total comprehensive earnings

   $ 20,479      $ 14,106   
  

 

 

   

 

 

 

 

See accompanying notes to consolidated financial statements.

 

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TEAM HEALTH HOLDINGS, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

 

     Three months ended
March 31,
 
     2011     2012  
     (Unaudited)  
     (In thousands)  

Operating Activities

    

Net earnings

   $ 20,120      $ 14,424   

Adjustments to reconcile net earnings:

    

Depreciation

     3,051        3,118   

Amortization

     3,638        6,116   

Amortization of deferred financing costs

     456        199   

Employee equity-based compensation expense

     606        1,123   

Provision for uncollectibles

     306,640        361,762   

Deferred income taxes

     5,334        (1,526

Loss on disposal of equipment

     18        22   

Loss on assets held for sale

     20        —     

Equity in joint venture income

     (540     (536

Changes in operating assets and liabilities, net of acquisitions:

    

Accounts receivable

     (323,892     (379,315

Prepaids and other assets

     1,897        4,640   

Income tax accounts

     7,402        9,935   

Accounts payable

     (3,517     (2,205

Accrued compensation and physician payable

     83        (14,758

Contingent purchase liabilities

     (4,253     6,343   

Other accrued liabilities

     1,174        (3,132

Professional liability reserves

     2,698        8,223   
  

 

 

   

 

 

 

Net cash provided by operating activities

     20,935        14,433   

Investing Activities

    

Purchases of property and equipment

     (2,202     (2,909

Sale of property and equipment

     90        —     

Purchases of investments by insurance subsidiary

     (16,215     (22,157

Proceeds from investments by insurance subsidiary

     14,177        21,848   

Other investing activities

     —          (2,000
  

 

 

   

 

 

 

Net cash used in investing activities

     (4,150     (5,218

Financing Activities

    

Payments on notes payable

     (1,062     (2,500

Proceeds from revolving credit facility

     —          149,800   

Payments on revolving credit facility

     —          (158,800

Proceeds from exercise of stock options

     3,559        2,642   

Stock issuance costs

     (466     —     

Payments of financing costs

     —          (19
  

 

 

   

 

 

 

Net cash provided by (used in) financing activities

     2,031        (8,877
  

 

 

   

 

 

 

Increase in cash and cash equivalents

     18,816        338   

Cash and cash equivalents, beginning of period

     30,337        9,855   
  

 

 

   

 

 

 

Cash and cash equivalents, end of period

   $ 49,153      $ 10,193   
  

 

 

   

 

 

 

Interest paid

   $ 4,334      $ 3,937   
  

 

 

   

 

 

 

Taxes paid

   $ 968      $ 958   
  

 

 

   

 

 

 

See accompanying notes to consolidated financial statements.

 

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TEAM HEALTH HOLDINGS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

Note 1. Organization and Basis of Presentation

The accompanying unaudited consolidated financial statements include the accounts of Team Health Holdings, Inc. (“the Company”) and its wholly owned subsidiaries and affiliated medical groups and have been prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) for interim financial reporting, the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and notes required by GAAP for complete financial statements.

In the opinion of management, the accompanying unaudited consolidated financial statements contain all adjustments (consisting of normal recurring items) necessary for a fair presentation of results for the interim periods presented. The results of operations for any interim period are not necessarily indicative of results for the full year. The consolidated balance sheet of the Company at December 31, 2011 has been derived from the audited financial statements at that date, but does not include all of the information and disclosures required by GAAP for complete financial statements. These financial statements and the notes thereto should be read in conjunction with the December 31, 2011 audited consolidated financial statements and the notes thereto included in our annual report on Form 10-K for fiscal year 2011 filed with the SEC.

The preparation of the financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported in the accompanying consolidated financial statements and notes. Actual results could differ from those estimates.

Note 2. Recent Accounting Pronouncements

Changes to accounting principles generally accepted in the United States of America (U.S. GAAP) are established by the Financial Accounting Standards Board (FASB) in the form of accounting standards updates (ASU’s) to the FASB’s Accounting Standards Codification. The Company considers the applicability and impact of all ASU’s. ASU’s not listed below were assessed and determined to be either not applicable or are expected to have minimal impact on our consolidated financial position or results of operations.

In September 2011, the FASB issued ASU 2011-08, “Intangibles—Goodwill and Other (Topic 350), Testing Goodwill for Impairment.” This update provides companies with the option to perform a qualitative assessment to determine whether it is more likely than not (a likelihood of more than 50%) that the fair value of a reporting unit is less than its carrying amount. If, after assessing updated qualitative factors, a company determines it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, it would not have to perform the current two-step goodwill impairment test. The provisions of this update are effective for interim and annual impairment tests performed for fiscal years beginning after December 15, 2011. The Company is evaluating whether to elect to use this new qualitative approach to its annual impairment testing.

During the first quarter of 2012, the Company adopted the provisions of Accounting Standards Update No. 2011-07, Presentation and Disclosure of Patient Service Revenue, Provision for Bad Debts, and the Allowance for Doubtful Accounts for Certain Health Care Entities (“ASU 2011-07”). ASU 2011-07 requires certain healthcare organizations to present their bad debt provision related to patient services revenue separately as contra-revenue on the face of the statement of operations. In addition, ASU 2011-07 requires the following disclosures:

 

  1) A company’s policy for considering collectability in the timing and amount of revenue and bad debt recognized;

 

  2) The amount of revenue (i.e., less contractual discounts) recognized by major payor source;

 

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  3) Quantitative and qualitative information about changes in the bad debt allowance, including judgments made and changes in estimates.

All periods presented in these consolidated financial statements and notes to consolidated financial statements are presented in accordance with ASU 2011-07. See Note 6 for the required disclosures.

In June 2011, the FASB issued ASU 2011-05, “Presentation of Comprehensive Income.” This update requires that all non-owner changes in stockholders’ equity be presented either in a single continuous statement of comprehensive income or in two separate but consecutive statements. This update eliminates the option to present the components of other comprehensive income as part of the statement of changes in stockholders’ equity. These changes became effective for the Company in the first quarter of 2012 and are reflected in the consolidated statement of comprehensive earnings.

In May 2011, the FASB issued ASU No. 2011-04, “Fair Value Measurements (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs.” (“ASU 2011-04”). This guidance contains certain updates to the fair value measurement guidance as well as enhanced disclosure requirements. The most significant change in disclosures is an expansion of the information required for “Level 3” measurements, including enhanced disclosure for: (1) the valuation processes used by the reporting entity; and (2) the sensitivity of the fair value measurement to changes in unobservable inputs and the interrelationships between those unobservable inputs, if any. The provisions of this update are effective for interim and annual periods beginning on or after December 15, 2011, with early adoption prohibited. The Company’s adoption of this standard did not have a significant impact on the Company’s fair value measurements, financial condition, results of operations or cash flows.

Note 3. Acquisitions and Contingent Purchase Obligations

Acquisitions

During the year ended December 31, 2011, the Company acquired the operations of four businesses for total cash proceeds of $125.8 million. In April 2011, the Company completed the acquisition of certain assets of a medical staffing group that provides emergency department staffing services to a hospital located in Alabama. In September 2011, the Company completed the acquisitions of certain assets and related business operations of an anesthesia staffing business located in Colorado, an emergency medical staffing business located in Illinois and a medical staffing group located in Tennessee. These acquisitions have broadened the Company’s presence within these lines of business. The purchase price for these acquisitions was allocated in accordance with the provisions of ASC Topic 805, “Business Combinations” (ASC 805), based on management’s estimates, to net assets acquired, including goodwill of $57.8 million (all of which is tax deductible goodwill), intangible assets of $58.8 million and assumed working capital assets and liabilities consisting primarily of accounts receivable of $15.1 million. In addition, the agreements have a contingent consideration provision pursuant to which, if certain financial targets are achieved within a defined performance period, then estimated maximum future cash payments totaling $36.1 million could be made at the conclusion of the respective performance periods.

The results of operations of the acquired businesses have been included in the Company’s consolidated financial statements beginning on the respective acquisition dates. Pro forma results of operations have not been presented because the effect of these acquisitions was not material, individually or in the aggregate, to the Company’s consolidated results of operations.

In March 2012, the Company made an investment in a variable interest entity that is a provider of hospital-based telemedicine consultations. The Company has determined that it is not the primary beneficiary of the entity, as it does not have the power to direct the activities that most significantly impact economic performance of the entity nor the responsibility to absorb a majority of the expected losses and therefore, the entity is not consolidated and the investment is accounted for under the cost method. The determination of whether the Company is the primary beneficiary was performed at the time of our initial investment and is performed at the

 

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date of each subsequent reporting period. As of March 31, 2012, the carrying amount of this investment was $2.0 million and is reported as other long-term investments in the accompanying consolidated balance sheets.

On April 20, 2012, the Company completed the acquisition of an anesthesia group in New Jersey and effective May 1, 2012, the Company completed the acquisition of a physician management and staffing business that provides emergency medicine, hospital medicine, and urgent care in New York, Pennsylvania, Ohio and Texas.

Total cash outlay for these acquisitions was $121.3 million with an additional $40.2 million in estimated potential contingent payments that will be recognized as contingent purchase compensation expense over the defined performance period. The Company is in the process of completing the preliminary purchase price allocation. These acquisitions were not individually or in the aggregate significant and no pro forma information has been included.

Contingent Purchase Obligations

In accordance with ASC 805, when contingent payments are tied to continuing employment, such amounts are recognized ratably over the defined performance period as compensation expense which is included as a component of general and administrative expense in the results of the Company’s operations. In all of the above described acquisitions that contain contingent consideration, such payments are tied to continuing employment.

As of March 31, 2012, the Company estimates it may have to pay $43.8 million in future contingent payments for acquisitions made prior to March 31, 2012 based upon the current projected financial performance of the acquired operations of which $19.6 million is recorded as a liability on the Company’s balance sheet. The remaining estimated liability of $24.2 million will be recorded as contingent purchase compensation expense over the remaining performance period. The current estimate of future contingent payments could increase or decrease depending upon the actual performance of the acquisition over the respective performance period. These payments will be made should the acquired operations achieve the financial targets or certain contract terms as agreed to in the respective acquisition agreements.

The changes to the Company’s accumulated contingent purchase expense liability are as follows (in thousands):

 

Contingent purchase liability at December 31, 2011

   $ 13,249   

Payments

     —     

Expense recognized

     6,343   
  

 

 

 

Contingent purchase liability at March 31, 2012

   $ 19,592   
  

 

 

 

Estimated unrecognized contingent purchase compensation expense as of March 31, 2012 is (in thousands):

 

For the remainder of the year ended December 31, 2012

   $ 13,412   

For the year ended December 31, 2013

     10,800   
  

 

 

 
   $ 24,212   
  

 

 

 

In the three months ended March 31, 2011 and 2012, the Company recognized transaction costs of $0.2 million and $1.2 million, respectively which related to external costs associated with due diligence and acquisition activity.

 

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Note 4. Fair Value Measurements

The Company applies the provisions of FASB ASC Topic 820, “Fair Value Measurements and Disclosures,” in determining the fair value of its financial assets and liabilities. This standard defines fair value, provides guidance for measuring fair value and requires certain disclosures. This standard does not require any new fair value measurements but rather applies to all other accounting pronouncements that require or permit fair value measurements.

FASB ASC Topic 820 prioritizes the inputs used in measuring fair value into the following hierarchy:

 

  Level 1 Quoted prices (unadjusted) in active markets for identical assets or liabilities;

 

  Level 2 Inputs other than quoted prices included within Level 1 that are either directly or indirectly observable;

 

  Level 3 Unobservable inputs in which little or no market activity exists, therefore requiring an entity to develop its own assumptions about the assumptions that market participants would use in pricing.

The following table provides information on those assets and liabilities the Company currently measures at fair value on a recurring basis as of December 31, 2011 and March 31, 2012 (in thousands):

 

     Carrying Amount
In Consolidated
Balance Sheet
December 31,
2011
     Fair Value
December 31,
2011
     Fair Value
Level 1
     Fair Value
Level 2
     Fair Value
Level 3
 

Investments of insurance subsidiary:

              

Money market funds

   $ 7,361       $ 7,361       $ 7,361       $ —         $ —     

U. S. Treasury securities

     15,931         15,931         —           15,931         —     

Municipal bonds

     57,194         57,194         —           57,194         —     

Agency notes

     13,814         13,814         —           13,814         —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total investments of insurance subsidiary

   $ 94,300       $ 94,300       $ 7,361       $ 86,939       $ —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Supplemental employee retirement plan investments:

              

Mutual funds

   $ 14,596       $ 14,596       $ —         $ 14,596       $ —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

     Carrying Amount
In Consolidated
Balance Sheet
March 31,
2012
     Fair Value
March 31,
2012
     Fair Value
Level 1
     Fair Value
Level 2
     Fair Value
Level 3
 

Investments of insurance subsidiary:

              

Money market funds

   $ 4,929       $ 4,929       $ 4,929       $ —         $ —     

U. S. Treasury securities

     16,726         16,726         —           16,726         —     

Municipal bonds

     58,103         58,103         —           58,103         —     

Agency notes

     14,362         14,362         —           14,362         —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total investments of insurance subsidiary

   $ 94,120       $ 94,120       $ 4,929       $ 89,191       $ —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Supplemental employee retirement plan investments:

              

Mutual funds

   $ 16,838       $ 16,838       $ —         $ 16,838       $ —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

The Company’s insurance subsidiary investments are valued using market prices on both active markets (level 1) and less active markets (level 2). Level 1 investment valuations are obtained from real-time quotes for

 

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transactions in active exchange markets involving identical assets. Level 2 investment valuations are obtained from readily available pricing sources for comparable investment or identical investments in less active markets. The fair values of the Company’s supplemental employee retirement investments are based on quoted prices. See Note 5 for more information regarding the Company’s investments.

As of December 31, 2011 and March 31, 2012, the fair value of these investments reflected net unrealized gains of $5.1 million and $4.6 million, respectively.

In addition to the preceding disclosures prescribed by the provisions of ASC Topic 820, ASC Topic 825 “Financial Instruments” (formerly SFAS No. 107 “Disclosures About Fair Value of Financial Instruments”) requires the disclosure of the estimated fair value of financial instruments. The Company’s short term financial instruments include cash and cash equivalents, accounts receivable, and accounts payable. The carrying value of the short term financial instruments approximates the fair value due to their short term nature. These financial instruments have no stated maturities or the financial instruments have short term maturities that approximate market.

At March 31, 2012, the estimated fair value of the Company’s outstanding debt was $403.6 million based on market prices on less active markets (Level 2) compared to a carrying value of $408.5 million.

Note 5. Investments

Investments are comprised of securities held by the Company’s captive insurance subsidiary and by the Company in connection with its participant directed supplemental employee retirement plan. Investments held by the Company’s captive insurance subsidiary are classified as available-for-sale securities. The unrealized gains or losses of investments held by the Company’s captive insurance subsidiary are included in accumulated other comprehensive income as a separate component of shareholders’ equity, unless the decline in value is deemed to be other-than-temporary and the Company does not have the intent and ability to hold such securities until their full cost can be recovered, in which case such securities are written down to fair value and the loss is charged to current period earnings.

The investments held by the Company in connection with its participant directed supplemental employee retirement plan are classified as trading securities; therefore, changes in fair value associated with these investments are recognized as a component of earnings.

At December 31, 2011 and March 31, 2012, amortized cost basis and aggregate fair value of the Company’s available-for-sale securities by investment type were as follows (in thousands):

 

     Cost
Basis
     Gross
Unrealized
Gains
     Gross
Unrealized
Losses
    Fair
Value
 

December 31, 2011

          

Money market funds

   $ 7,361       $ —         $ —        $ 7,361   

U. S. Treasury securities

     15,046         885         —          15,931   

Municipal bonds

     53,202         4,013         (21     57,194   

Agency notes

     13,613         202         (1     13,814   
  

 

 

    

 

 

    

 

 

   

 

 

 
   $ 89,222       $ 5,100       $ (22   $ 94,300   
  

 

 

    

 

 

    

 

 

   

 

 

 

March 31, 2012

          

Money market funds

   $ 4,929       $ —         $ —        $ 4,929   

U. S. Treasury securities

     16,054         701         (29     16,726   

Municipal bonds

     54,368         3,773         (38     58,103   

Agency notes

     14,180         186         (4     14,362   
  

 

 

    

 

 

    

 

 

   

 

 

 
   $ 89,531       $ 4,660       $ (71   $ 94,120   
  

 

 

    

 

 

    

 

 

   

 

 

 

 

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At December 31, 2011 and March 31, 2012, the amortized cost basis and aggregate fair value of the Company’s available-for-sale securities by contractual maturities were as follows (in thousands):

 

     Cost
Basis
     Gross
Unrealized
Gains
     Gross
Unrealized
Losses
    Fair
Value
 

December 31, 2011

          

Due in less than one year

   $ 16,106       $ 61       $ —        $ 16,167   

Due after one year through five years

     44,297         2,469         (6     46,760   

Due after five years through ten years

     28,819         2,570         (16     31,373   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total

   $ 89,222       $ 5,100       $ (22   $ 94,300   
  

 

 

    

 

 

    

 

 

   

 

 

 

March 31, 2012

          

Due in less than one year

   $ 20,257       $ 131       $ —        $ 20,388   

Due after one year through five years

     47,729         2,826         (37     50,518   

Due after five years through ten years

     21,545         1,703         (34     23,214   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total

   $ 89,531       $ 4,660       $ (71   $ 94,120   
  

 

 

    

 

 

    

 

 

   

 

 

 

A summary of the Company’s temporarily impaired available-for-sale investment securities as of March 31, 2012 follows (in thousands):

 

     Impaired Less
Than 12 Months
    Impaired
Over 12 Months
    Total  
     Fair
Value
     Unrealized
Losses
    Fair
Value
     Unrealized
Losses
    Fair
Value
     Unrealized
Losses
 

March 31, 2012

               

Money market funds

   $ —         $ —        $ —         $ —        $ —         $ —     

U. S. Treasury securities

     3,720         (29     —           —          3,720         (29

Municipal bonds

     4,188         (36     273         (2     4,461         (38

Agency notes

     2,076         (4     —           —          2,076         (4
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total investment

   $ 9,984       $ (69   $ 273       $ (2   $ 10,257       $ (71
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

The unrealized losses resulted from changes in market interest rates, not from changes in the probability of contractual cash flows. Because the Company has the ability and intent to hold the investments until a recovery of carrying value and full collection of the amounts due according to the contractual terms of the investments is expected, the Company does not consider these investments to be other-than-temporarily impaired at March 31, 2012.

During the three months ended March 31, 2012, the Company recorded a gain on the sale of these investments of approximately $0.1 million.

As of March 31, 2012, the investments related to the participant directed supplemental employee retirement plan totaled $16.8 million and are included in other assets in the accompanying consolidated balance sheet. The trading gains and losses on those investments for the three months ended on March 31, 2012 that were still held by the Company as of March 31, 2012 are as follows (in thousands):

 

Net gains and losses recognized during the three months ended March 31, 2012 on trading securities

   $ 1,292   

Less: net gains and losses recognized during the period on trading securities sold during the three months ended March 31, 2012

     35   
  

 

 

 

Unrealized gains and losses recognized on trading securities still held at March 31, 2012

   $ 1,257   
  

 

 

 

 

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Note 6. Net Revenue

Net revenue consists of fee-for-service revenue, contract revenue and other revenue. The Company’s net revenue is principally derived from the provision of healthcare staffing services to patients within healthcare facilities and is recorded in the period the services are rendered. Under the fee-for-service arrangements, the Company bills patients for services provided and receive payment from patients or their third-party payers. Fee-for-service revenue is reported net of contractual allowances and policy discounts. Contractual adjustments represent the Company’s estimate of discounts and other adjustments to be recognized from gross fee-for-service charges under contractual payment arrangements, primarily with commercial, managed care, and governmental payment plans such as Medicare and Medicaid when the Company’s providers participate in such plans. Contract revenue represents revenue generated under contracts in which the Company provides physician and other healthcare staffing and administrative services in return for a contractually negotiated fee. Contract revenue consists primarily of billings based on hours of healthcare staffing provided at agreed-to hourly rates. Revenue in such cases is recognized as the hours are worked by the Company’s staff and contractors. Other revenue consists primarily of revenue from management and billing services provided to outside parties. Revenue is recognized for such services pursuant to the terms of the contracts with customers. The Company also records a provision for uncollectible accounts based primarily on historical collection experience to record accounts receivables at the estimated amounts expected to be collected.

Net revenue for the three months ended March 31, 2011 and 2012, respectively, consisted of the following (in thousands):

 

     Three Months Ended
March 31,
 
     2011     2012  

Medicare

   $ 79,642        19.3   $ 96,494        20.2

Medicaid

     67,987        16.5        73,389        15.3   

Commercial and managed care

     173,895        42.2        201,610        42.1   

Self-pay

     262,116        63.5        317,896        66.4   

Other

     15,537        3.8        17,467        3.6   

Unbilled

     4,556        1.1        4,638        1.0   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net fee-for-service revenue before provision for uncollectibles

     603,733        146.4        711,494        148.6   

Contract before provision for uncollectibles

     108,477        26.3        121,130        25.3   

Other

     6,924        1.7        7,800        1.6   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net revenue before provision for uncollectibles

     719,134        174.3        840,424        175.6   

Provision for uncollectibles

     (306,640     (74.3     (361,762     (75.6
  

 

 

   

 

 

   

 

 

   

 

 

 

Net revenue

   $ 412,494        100.0   $ 478,662        100.0
  

 

 

   

 

 

   

 

 

   

 

 

 

The Company employs several methodologies for determining its allowance for doubtful accounts depending on the nature of the net revenue before provision for uncollectibles recognized. The Company initially determines gross revenue for our fee-for-service patient visits based upon established fee schedule prices. Such gross revenue is reduced for estimated contractual allowances for those patient visits covered by contractual insurance arrangements to result in net revenue before provision for uncollectibles. Net revenue before provision for uncollectibles is then reduced for management’s estimate of uncollectible amounts. Fee-for-service net revenue represents estimated cash to be collected from such patient visits and is net of management’s estimate of account balances estimated to be uncollectible. The provision for uncollectible fee-for-service patient visits is based on historical experience resulting from approximately nine million annual fee-for-service patient visits. The significant volume of patient visits and the terms of thousands of commercial and managed care contracts and the various reimbursement policies relating to governmental healthcare programs do not make it feasible to evaluate fee-for-service accounts receivable on a specific account basis. Fee-for-service accounts receivable

 

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collection estimates are reviewed on a quarterly basis for each fee-for-service contract by period of accounts receivable origination. Such reviews include the use of historical cash collection percentages by contract adjusted for the lapse of time since the date of the patient visit. In addition, when actual collection percentages differ from expected results, on a contract by contract basis, supplemental detailed reviews of the outstanding accounts receivable balances may be performed by the Company’s billing operations to determine whether there are facts and circumstances existing that may cause a different conclusion as to the estimate of the collectibility of that contract’s accounts receivable from the estimate resulting from using the historical collection experience. Contract-related net revenue is billed based on the terms of the contract at amounts expected to be collected. Such billings are typically submitted on a monthly basis and aged trial balances prepared. Allowances for estimated uncollectible amounts related to such contract billings are made based upon specific accounts and invoice periodic reviews once it is concluded that such amounts are not likely to be collected. Approximately 99% of the Company’s allowance for doubtful accounts is related to gross fees for fee-for-service patient visits. The principal exposure for uncollectible fee-for-service visits is centered in self-pay patients and, to a lesser extent, for co-payments and deductibles from patients with insurance. While the Company does not specifically allocate the allowance for doubtful accounts to individual accounts or specific payer classifications, the portion of the allowance associated with fee-for-service charges as of March 31, 2012 was equal to approximately 92% of outstanding self-pay fee-for-service patient accounts. The methodologies employed to compute allowances for doubtful accounts were unchanged between 2011 and 2012.

Note 7. Goodwill and Other Intangible Assets

As of March 31, 2012, goodwill was unchanged from December 31, 2011. The following is a summary of intangible assets and related amortization as of December 31, 2011 and March 31, 2012 (in thousands):

 

     Gross Carrying
Amount
     Accumulated
Amortization
 

As of December 31, 2011:

     

Contracts

   $ 142,713       $ 44,503   

Other

     4,240         540   
  

 

 

    

 

 

 

Total

   $ 146,953       $ 45,043   
  

 

 

    

 

 

 

As of March 31, 2012:

     

Contracts

   $ 142,713       $ 50,407   

Other

     4,240         752   
  

 

 

    

 

 

 

Total

   $ 146,953       $ 51,159   
  

 

 

    

 

 

 

Aggregate amortization expense:

     

For the three months ended March 31, 2012

  

   $ 6,116   
     

 

 

 

Estimated amortization expense:

     

For the remainder of the year ended December 31, 2012

  

   $ 17,917   

For the year ended December 31, 2013

  

     22,420   

For the year ended December 31, 2014

  

     20,485   

For the year ended December 31, 2015

  

     17,059   

For the year ended December 31, 2016

  

     11,680   

Contract intangibles are amortized over their estimated life, which is approximately four to seven years. As of March 31, 2012, the weighted average remaining amortization period for intangible assets was 3.7 years.

 

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Note 8. Long-Term Debt

Long-term debt as of March 31, 2012 consisted of the following (in thousands):

 

Term A Loan Facility

   $ 144,375   

Term B Loan Facility

     248,125   

Revolving line of credit

     16,000   
  

 

 

 
     408,500   

Less current portion

     (26,000
  

 

 

 
   $ 382,500   
  

 

 

 

On June 29, 2011, the Company entered into a new credit facility (the “New Credit Facility”), consisting of a $175 million Five-Year Revolving Credit Facility, a $150 million Five-Year Term A Loan Facility and a $250 million Seven-Year Term B Loan Facility, with a syndicate of financial institutions. The Company used borrowings under the New Credit Facility and existing cash to repay $402.7 million of its outstanding term loan as well as fees and expenses associated with the refinancing of $7.8 million of which $4.3 million was recognized as a loss on refinancing of debt in the statement of operations. In addition, the Company also recognized $1.7 million as a loss on refinancing of debt resulting from the write-off of previously recognized deferred financing costs. In December 2011, the Company increased, under the provisions of the accordion feature of its new senior credit agreement, the amount of its revolving credit facility to $225.0 million. The terms of the revolving credit facility, including pricing and maturity did not change.

The Term A Loan Facility matures on June 29, 2016. The Term B Loan Facility matures on June 29, 2018. The Revolving Credit Facility has a final maturity date of June 29, 2016. The maturity dates under the New Credit Facility are subject to extension with lender consent according to the terms of the agreement.

The interest rate on any outstanding revolving credit borrowings and Term A loans, and the commitment fee applicable to undrawn revolving commitments, is priced off a grid based upon the Company’s first lien net leverage ratio and which is initially LIBOR + 2.25% in the case of revolving credit borrowings and Term A loans and 0.45% in the case of unused revolving commitments. The interest rate on the Term B loan is LIBOR + 2.75%, subject to a 1% LIBOR floor. The interest rate at March 31, 2012 was 2.72% for amounts outstanding under the Term A Loan Facility and 3.75% for the Term B Loan Facility.

Borrowings of $16.0 million under the revolving line of credit were outstanding as of March 31, 2012, and the Company had $6.0 million of standby letters of credit outstanding against the revolving credit facility commitment. The interest rate was 4.5% for the amounts outstanding under the revolving credit facility as of March 31, 2012.

The new senior credit facility agreement contains both affirmative and negative covenants, including limitations on the Company’s ability to incur additional indebtedness, sell material assets, retire, redeem or otherwise reacquire our capital stock, acquire the capital stock or assets of another business and pay dividends, and requires the Company to comply with a maximum first lien net leverage ratio, tested quarterly. At March 31, 2012, the Company was in compliance with all covenants under the new senior credit facility agreement. The New Credit Facility is secured by substantially all of the Company’s U. S. subsidiaries’ assets.

Aggregate annual maturities of long-term debt as of March 31, 2012 are as follows (in thousands):

 

2012

   $ 26,000   

2013

     12,813   

2014

     16,563   

2015

     17,500   

2016 and thereafter

     335,624   

 

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Note 9. Professional Liability Insurance

The Company’s professional liability loss reserves consisted of the following (in thousands):

 

     December 31,
2011
     March 31,
2012
 

Estimated losses under self-insured programs

   $ 162,601       $ 170,823   

Estimated losses under commercial insurance programs

     45,709         39,923   
  

 

 

    

 

 

 
     208,310         210,746   

Less estimated payable within one year

     64,720         64,723   
  

 

 

    

 

 

 
   $ 143,590       $ 146,023   
  

 

 

    

 

 

 

The changes to the Company’s estimated losses under self-insured programs as of March 31, 2012 were as follows (in thousands):

 

Balance, December 31, 2011

   $ 162,601   

Reserves related to current period

     9,787   

Changes related to prior year reserves

     5,165   

Assumed liabilities

     1,802   

Payments for current period reserves

     (1,862

Payments for prior period reserves

     (6,670
  

 

 

 

Balance, March 31, 2012

   $ 170,823   
  

 

 

 

The Company provides for its estimated professional liability losses through a combination of self-insurance and commercial insurance programs. As of March 31, 2012, the insured loss limit under a policy provided by a commercial insurance carrier was $158.9 million. The policy, as amended, provides for an increase in the aggregate limit of coverage based upon certain premium funding levels. Losses in excess of the limit of coverage remain as a self-insured obligation of the Company. A portion of the professional liability loss risks being provided for through self-insurance (“claims-made” basis) are transferred to and funded into a captive insurance company. The accounts of the captive insurance company are fully consolidated with those of the other operations of the Company in the accompanying consolidated financial statements.

The self-insurance components of our risk management program include reserves for future claims incurred but not reported (“IBNR”). As of December 31, 2011, of the $162.6 million of estimated losses under self-insured programs, approximately $76.3 million represented an estimate of IBNR claims and expenses and additional loss development, with the remaining $86.3 million representing specific case reserves. Of the existing case reserves as of December 31, 2011, $1.1 million represented case reserves that had settled but not yet funded, and $85.2 million reflected unsettled case reserves.

As of March 31, 2012, of the $170.8 million of estimated losses under self-insurance programs, approximately $86.3 million represents an estimate of IBNR claims and expenses and additional loss development, with the remaining $84.5 million representing specific case reserves. Of the existing case reserves as of March 31, 2012, $1.9 million represents case reserves that have been settled but not yet funded, and $82.6 million reflects unsettled case reserves.

The Company’s provisions for losses under its self-insurance components are estimated using the results of periodic actuarial studies. Such actuarial studies include numerous underlying estimates and assumptions, including assumptions as to future claim losses, the severity and frequency of such projected losses, loss development factors and others. The Company’s provisions for losses under its self-insured components are subject to subsequent adjustment should future actuarial projected results for such periods indicate projected losses greater or less than previously projected.

 

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The Company’s most recent actuarial valuation was completed in April 2012. During the first quarter of 2012, the Company recorded an unfavorable adjustment to prior year professional liability reserves of $5.2 million of which $4.4 million was related to a change in the calculation of the discount rate used by the Company for calculating its professional liability reserves. During the first quarter of 2012, the Company adopted a discount factor based upon the weighted average US Treasury rates over a 10 year period which was 0.9% as of March 31, 2012. Prior to this change, the Company used the 10 year Treasury rate as a discount factor, which was 1.9% and 2.2% as of December 31, 2011 and March 31, 2012, respectively. The remaining $0.7 million of the prior year liability loss reserve change relates to unfavorable development on prior year loss estimates since the most recent actuarial analysis.

Note 10. Share-based Compensation

2009 Stock Incentive Plan

Purpose. The purpose of the Team Health Holdings, Inc. 2009 Stock Incentive Plan (“2009 Stock Plan”) is to aid in recruiting and retaining key employees, directors, consultants, and other service providers of outstanding ability and to motivate those employees, directors, consultants, and other service providers to exert their best efforts on the behalf the Company and its affiliates by providing incentives through the granting of options, stock appreciation rights and other stock-based awards.

Shares Subject to the Plan. The 2009 Stock Plan provides that the total number of shares of common stock that may be issued under the 2009 Stock Plan is 15,100,000, and the maximum number of shares for which incentive stock options may be granted is 10,000,000. Shares of the Company’s common stock covered by awards that terminate or lapse without the payment of consideration may be granted again under the 2009 Stock Plan.

The following table summarizes the status of options under the 2009 Stock Plan as of March 31, 2012:

 

     Shares
(in thousands)
    Weighted Average
Exercise Price
     Aggregate
Intrinsic Value
(in thousands)
     Weighted Average
Remaining Life
in Years
 

Outstanding at beginning of year

     7,407      $ 15.47       $ 48,901         8.3   

Granted

     13        21.22         

Exercised

     (182     13.82         

Expired or forfeited

     (51     17.40         
  

 

 

   

 

 

       

Outstanding at end of period

     7,187      $ 15.51       $ 37,921         8.1   
  

 

 

   

 

 

    

 

 

    

 

 

 

Exercisable at end of period

     4,476      $ 13.98       $ 29,445         7.7   
  

 

 

   

 

 

    

 

 

    

 

 

 

Intrinsic value is the amount by which the stock price as of March 31, 2012 exceeds the exercise price of the options. As of March 31, 2012, the Company had approximately $14.3 million of unrecognized compensation expense, net of estimated forfeitures related to unvested options which will be recognized over the remaining requisite service period. Fair value of the options granted in 2012 was based on the grant date fair value as calculated by the Black-Sholes option pricing formula with the following weighted average assumptions: risk-free interest rate of 1.2%, implied volatility of 36.7% and an expected life of the options of 6.25 years.

The Company has also granted a total of 35,609 shares of restricted stock to independent board members. The issued shares vest annually over a three-year period from the initial grant date. The Company recorded restricted stock expense of approximately $50,000 relating to these shares during the three months ended March 31, 2012 and has $0.4 million of expense remaining to be recognized over the requisite service period for these awards.

 

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Table of Contents

A summary of changes in unvested shares of restricted stock for the three months ended March 31, 2012 is as follows:

 

     Shares
(in thousands)
 

Outstanding at beginning of year

     86   

Granted

     —     

Vested

     (9

Forfeited and expired

     —    
  

 

 

 

Outstanding at March 31, 2012

     77   
  

 

 

 

Stock Purchase Plans

In May 2010, the Company’s Board of Directors adopted the 2010 Employee Stock Purchase Plan (“ESPP”) and the 2010 Nonqualified Stock Purchase Plan (“NQSPP”).

The ESPP provides for the issuance of up to 600,000 shares to the Company’s employees. All eligible employees are granted identical rights to purchase common stock in each Board authorized offering under the ESPP. Rights granted pursuant to any offering under the ESPP terminate immediately upon cessation of an employee’s employment for any reason. In general, an employee may reduce his or her contribution or withdraw from participation in an offering at any time during the purchase period for such offering. Employees receive a 5% discount on shares purchased under the ESPP. Rights granted under the plan are not transferable and may be exercised only by the person to whom such rights are granted. Offerings occur every six months in October and April. As of March 31, 2012, contributions under the ESPP totaled $0.6 million. In April 2012, approximately 31,000 shares of the Company’s common stock were issued to plan participants.

The NQSPP provides for the issuance of up to 800,000 shares to our independent contractors. All eligible contractors are granted identical rights to purchase common stock in each Board authorized offering under the NQSPP. Rights granted pursuant to any offering under the NQSPP terminate immediately upon cessation of a contractor’s relationship with the Company for any reason. In general, a contractor may reduce his or her contribution or withdraw from participation in an offering at any time during the purchase period for such offering. Contractors receive a 5% discount on shares purchased under the NQSPP. Rights granted under the NQSPP are not transferable and may be exercised only by the person to whom such rights are granted. Offerings occur every six months in October and April. As of March 31, 2012, contributions under the NQSPP totaled $0.4 million. In April 2012, approximately 21,000 shares of the Company’s common stock were issued to plan participants.

Note 11. Contingencies

Litigation

We are currently a party to various legal proceedings. Based upon currently available information, we do not believe that it is reasonably possible that the ultimate outcome of such proceedings would have a material adverse effect on our financial position or results of operations. However, litigation is subject to inherent uncertainties, and the estimate of the potential impact of such legal proceedings on our financial position or results of operations could change in the future.

Healthcare Regulatory Matters

Laws and regulations governing the Medicare and Medicaid programs are complex and subject to interpretation. Compliance with such laws and regulations can be subject to future governmental review and interpretation as well as significant regulatory action. From time to time, governmental regulatory agencies conduct inquiries and audits of the Company’s practices. It is the Company’s current practice and future intent to cooperate fully with such inquiries.

 

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Table of Contents

In addition to laws and regulations governing the Medicare and Medicaid programs, there are a number of federal and state laws and regulations governing such matters as the corporate practice of medicine and fee splitting arrangements, anti-kickback statutes, physician self-referral laws, false or fraudulent claims filing and patient privacy requirements. The failure to comply with any of such laws or regulations could have an adverse impact on our operations and financial results. It is management’s belief that the Company is in substantial compliance in all material respects with such laws and regulations.

Healthcare Reform

The President of the United States and members of the U.S. Congress have enacted significant reforms to the U.S. health care system. On March 23, 2010, the President signed into law The Patient Protection and Affordable Care Act, and on March 30, 2010, the President signed into law The Health Care and Education Reconciliation Act of 2010 (referred to collectively as the “Health Reform Laws”). The Health Reform Laws include a number of provisions that may affect the Company, although the impact of many of the changes will be unknown until they are implemented, which in some cases will not occur for several years. The impact of some of these provisions may be positive, such as increasing access to health benefits for the uninsured and underinsured populations, while other provisions, such as Medicare payment reforms and reductions that could reduce provider payments, may have an adverse effect on the reimbursement rates the Company receives for services provided by affiliated healthcare professionals.

Note 12. Earnings Per Share

The Company computes basic earnings per share using the weighted average number of shares outstanding. The Company computes diluted earnings per share using the weighted average number of shares outstanding plus the dilutive effect of restricted common shares and outstanding stock options. The following table sets forth the computation of basic and diluted earnings per share for the three months ended March 31, 2011 and 2012 (in thousands, except per share amounts):

 

     Three Months Ended
March 31,
 
     2011      2012  

Net earnings (numerator for basic and diluted earnings per share)

   $ 20,120       $ 14,424   

Denominator:

     

Weighted average shares outstanding

     64,475         65,567   

Effect of dilutive securities

     1,118         1,816   
  

 

 

    

 

 

 

Shares used for diluted earnings per share

     65,593         67,383   
  

 

 

    

 

 

 

Basic net earnings per share

   $ 0.31       $ 0.22   
  

 

 

    

 

 

 

Diluted net earnings per share

   $ 0.31       $ 0.21   
  

 

 

    

 

 

 

Note 13. Segment Reporting

The Company provides services through four operating segments which are aggregated into two reportable segments, Healthcare Services and Billing Services. The Healthcare Services segment, which is an aggregation of healthcare staffing, clinics and occupational health, provides comprehensive healthcare service programs to users and providers of healthcare services on a fee-for-service as well as a cost plus basis. The Billing Services segment provides a range of external billing, collection and consulting services on a fee basis to outside third-party customers.

The accounting policies of the segments are the same as those described in the summary of significant accounting policies. Segment amounts disclosed are prior to any elimination entries made in consolidation, except in the case of net revenue, where intercompany charges have been eliminated. Certain expenses are not

 

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allocated to the segments. These unallocated expenses are corporate expenses, net interest expense, depreciation and amortization, transaction costs and income taxes. The Company evaluates segment performance based on profit and loss before the aforementioned expenses.

The following table presents financial information for each reportable segment. Depreciation, amortization, management fee and other expenses separately identified in the consolidated statements of operations are included as a reduction to the operating earnings of each segment in each period below (in thousands):

 

     Three Months Ended
March 31,
 
     2011     2012  

Net Revenue:

    

Healthcare Services

   $ 409,452      $ 475,573   

Billing Services

     3,042        3,089   
  

 

 

   

 

 

 
   $ 412,494      $ 478,662   
  

 

 

   

 

 

 

Operating Earnings:

    

Healthcare Services

   $ 51,123      $ 42,031   

Billing Services

     782        576   

General Corporate

     (14,849     (15,208
  

 

 

   

 

 

 
   $ 37,056      $ 27,399   
  

 

 

   

 

 

 

Reconciliation of Operating Earnings to Net Earnings:

    

Operating earnings

   $ 37,056      $ 27,399   

Interest expense, net

     3,277        3,557   

Provision for income taxes

     13,659        9,418   
  

 

 

   

 

 

 

Net earnings

   $ 20,120      $ 14,424   
  

 

 

   

 

 

 

 

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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Introduction

We believe we are one of the largest suppliers of outsourced healthcare professional staffing and administrative services to hospitals and other healthcare providers in the United States, based upon revenues and patient visits. Our regional operating models also include comprehensive programs for inpatient care, anesthesiology, pediatrics and other healthcare services, principally within hospital departments and other healthcare treatment facilities. We have historically focused, however, primarily on providing outsourced services to hospital emergency departments, or EDs, which accounts for the majority of our net revenue before provision for uncollectibles.

Factors and Trends that Affect Our Results of Operations

In reading our financial statements, you should be aware of the following factors and trends we believe are important in understanding our financial performance.

General Economic Conditions

The continuation of the current economic conditions may adversely impact our ability to collect for the services we provide as higher unemployment and reductions in commercial managed care and governmental healthcare enrollment may increase the number of uninsured and underinsured patients seeking healthcare at one of our staffed EDs. We could be negatively affected if the federal government or the states reduce funding of Medicare, Medicaid or other federal and state healthcare programs in response to increasing deficits in their budgets. Also, patient volume trends in our hospital EDs could be adversely affected as individuals potentially defer or forego seeking care in such departments due to the loss or reduction of coverage previously available to such individuals under commercial insurance or governmental healthcare programs.

Acquisitions

We have historically been an acquirer of other physician staffing businesses and related interests. During the year ended December 31, 2011, we acquired the operations of four businesses for total cash proceeds of $125.8 million. In April 2011, we completed the acquisition of certain assets of a medical staffing group that provides emergency department staffing services to a hospital located in Alabama. In September 2011, we completed the acquisitions of certain assets and related business operations of an anesthesia staffing business located in Colorado, an emergency medical staffing business located in Illinois and a medical staffing group located in Tennessee. These acquisitions have broadened our presence within these lines of business. The agreements relating to these acquisitions have a contingent consideration provision pursuant to which, if certain financial targets are achieved within a defined performance period, then estimated maximum future cash payments totaling $36.1 million could be made at the conclusion of the respective performance periods. The results of operations of the acquired businesses have been included in the Company’s consolidated financial statements beginning on the respective acquisition dates. Acquisitions contributed 7.9% of the increase in our net revenue in the three months ended March 31, 2012 as compared to the three months ended March 31, 2011.

On April 20, 2012, we completed the acquisition of an anesthesia group in New Jersey and effective May 1, 2012, we completed the acquisition of a physician management and staffing business that provides emergency medicine, hospital medicine, and urgent care in New York, Pennsylvania, Ohio and Texas. Total cash outlay for these acquisitions was $121.3 million with an additional $40.2 million in estimated potential contingent payments that will be recognized as contingent purchase compensation expense over the defined performance period. See Note 3 of notes to the consolidated financial statements for further discussion of acquisitions.

Healthcare Reform

The President of the United States and members of the U.S. Congress have enacted significant reforms to the U.S. healthcare system. On March 23, 2010, the President signed into law The Patient Protection and

 

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Affordable Care Act, and on March 30, 2010, the President signed into law The Health Care and Education Reconciliation Act of 2010 (referred to collectively as the “Health Reform Laws”). The Health Reform Laws include a number of provisions that may affect us, although the impact of many of the changes will be unknown until they are implemented, which in some cases will not occur for several years. The impact of some of these provisions may be positive, such as increasing access to health benefits for the uninsured and underinsured populations, while other provisions, such as Medicare payment reforms and reductions that could reduce provider payments, may have an adverse effect on the reimbursement rates we receive for services provided by affiliated healthcare professionals.

2012 Medicare Fee Schedule Changes

The Medicare program reimburses for our services based upon the rates in its Physician Fee Schedule, and each year the Medicare program updates the Physician Fee Schedule reimbursement rates based on a formula approved by Congress in the Balanced Budget Act of 1997. Many private payers use the Medicare fee schedule to determine their own reimbursement rates.

The Medicare law requires the Centers for Medicare and Medicaid Services (CMS) to adjust the Medicare Physician Fee Schedule (MPFS) payment rates annually based on an update formula which includes application of the Sustainable Growth Rate (SGR) that was adopted in the Balanced Budget Act of 1997. This formula has yielded negative updates every year beginning in 2002, although CMS was able to take administrative steps to avoid a reduction in 2003 and Congress took a series of legislative actions (commonly referred to as a ‘patch’) to prevent reductions each year from 2004 to 2011, and then again, most recently through 2012. However, absent regulatory changes or further Congressional action with respect to the application of the SGR, Medicare physician services will be subject to significant reductions beginning in January, 2013.

In November 2011, CMS released the final rule to update the 2012 MPFS. Included in the final rule are changes in reimbursement that are overall budget neutral, but redistribute payments between different medical specialties. We estimate that the final rule will reduce 2012 reimbursement rates to emergency medicine providers by 1.5% and will increase 2012 reimbursement rates to anesthesiologists by 1%. The most recent patch prevented a potential reimbursement reduction associated with SGR in 2012 of an estimated 27.4%. Expiring in December 2012, absent Congressional action for permanent repeal of the SGR or a further extension of the patch, in January 2013 the SGR will result in estimated reimbursement reduction of the MPFS in excess of 30%.

We estimate the impact on our 2012 ED fee-for-service revenue to be a decline of approximately $4.6 million.

Also included in the CMS regulations is a 0.5% reduction in the 2012 Physician Quality Reporting Initiative (PQRI) bonus payments. The impact on our revenue is estimated to be a $1.2 million decline as compared to 2011 revenue.

Any future reductions in amounts paid by government programs for physician services or changes in methods or regulations governing payment amounts or practices could cause our revenues to decline and we may not be able to offset reduced operating margins through cost reductions, increased volume or otherwise.

Joint Select Committee on Deficit Reduction

The Joint Select Committee on Deficit Reduction was tasked with identifying savings of $1.5 trillion over a ten year period beginning in 2012. While a number of different proposals were made by various parties with different impacts to companies and industries, no agreement was reached, and across the board spending reductions (i.e., “sequestration”) will be implemented effective beginning in 2013 absent additional Congressional actions. If these reductions are implemented, based on the Budget Control Act of 2011, cuts to Medicare providers could be as much as 2%.

 

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Military Healthcare Staffing

We are a provider of healthcare professionals serving patients eligible to receive care in military treatment facilities nationwide administered by the U.S. Department of Defense and beneficiaries of other government agencies in their respective clinical locations. Our revenues derived from military and government facility healthcare staffing totaled $19.6 million and $21.7 million for the three months ended March 31, 2011 and 2012, respectively. These revenues are generated from contracts that are subject to a competitive bidding process which primarily takes place during the third quarter of each year. A portion of the contracts awarded during the third quarter of 2011 will expire during the course of 2012 and will be subject to a competitive rebidding and award process. In the event we are unable to retain these expiring contracts, the operations and financial positions of our military staffing business could be further negatively impacted.

In addition, the process of awarding military and government facility healthcare staffing contracts has shifted in recent years toward an increased bias to award certain contracts to qualified small and minority owned businesses. Although we participate in such small and minority owned business awards to the extent we can serve as a sub-contractor, our revenues from these arrangements are limited compared to an outright contract award, which has been a large contributing factor in the financial performance decline of the military staffing division. Approximately 36.4% and 34.7% of our military staffing revenue for each of the three months ended March 31, 2011 and 2012, respectively, was derived through subcontracting agreements with small business prime contractors.

In December 2011, our military staffing division was directed by the Army Medical Command to proceed with a contract originally awarded in 2009 and subsequently re-awarded in June 2011 for completing the construction of and providing clinical staffing and management services for two new Family Health Centers (FHCs) in Northern Virginia. Upon completion of the clinic construction and commencement of clinical staffing and management services which is expected to be in July 2012, annual revenues under the contract are estimated to be approximately $43 million.

Critical Accounting Policies and Estimates

The consolidated financial statements of the Company are prepared in accordance with accounting principles generally accepted in the United States, which requires us to make estimates and assumptions. Management believes the following critical accounting policies, among others, affect its more significant judgments and estimates used in the preparation of the Company’s consolidated financial statements.

There have been no material changes to these critical accounting policies or their application during the three months ended March 31, 2012.

Revenue Recognition

Net Revenue Before Provision for Uncollectibles. Net revenue before provision for uncollectibles consists of fee-for-service revenue, contract revenue and other revenue. Net revenue before provision for uncollectibles is recorded in the period services are rendered. Our net revenue before provision for uncollectibles is principally derived from the provision of healthcare staffing services to patients within healthcare facilities. The form of billing and related risk of collection for such services may vary by customer. The following is a summary of the principal forms of our billing arrangements and how net revenue is recognized for each.

A significant portion (approximately 85% of our net revenue before provision for uncollectibles in the three months ended March 31, 2012 and for the year ended December 31, 2011) resulted from fee-for-service patient visits. Fee-for-service revenue represents revenue earned under contracts in which we bill and collect the professional component of charges for medical services rendered by its contracted and employed physicians. Under the fee-for-service arrangements, we bill patients for services provided and receives payment from patients or their third-party payers. Fee-for-service revenue is reported net of contractual allowances and policy

 

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discounts. Contractual adjustments represent our estimate of discounts and other adjustments to be recognized from gross fee-for-service charges under contractual payment arrangements, primarily with commercial, managed care, and governmental payment plans such as Medicare and Medicaid when our providers participate in such plans. All services provided are expected to result in cash flows and are therefore reflected as net revenue before provision for uncollectibles in the financial statements. Fee-for-service revenue is recognized in the period in which the services are rendered to specific patients and reduced immediately for the estimated impact of contractual allowances in the case of those patients having third-party payer coverage. The recognition of net revenue before provision for uncollectibles (gross charges less contractual allowances) from such visits is dependent on such factors as proper completion of medical charts following a patient visit, the forwarding of such charts to one of our billing centers for medical coding and entering into our billing systems and the verification of each patient’s submission or representation at the time services are rendered as to the payer(s) responsible for payment of such services. Net revenue before provision for uncollectibles is recorded based on the information known at the time of entering of such information into our billing systems as well as an estimate of the net revenue before provision for uncollectibles associated with medical charts for a given service period that have not been processed yet into our billing systems. The above factors and estimates are subject to change. For example, patient payer information may change following an initial attempt to bill for services due to a change in payer status. Such changes in payer status have an impact on recorded net revenue before provision for uncollectibles due to different payers being subject to different contractual allowance amounts. Such changes in net revenue before provision for uncollectibles are recognized in the period that such changes in payer become known. Similarly, the actual volume of medical charts not processed into our billing systems may be different from the amounts estimated. Such differences in net revenue before provision for uncollectibles are adjusted in the following month based on actual chart volumes processed.

Contract revenue represents revenue generated under contracts in which we provide physician and other healthcare staffing and administrative services in return for a contractually negotiated fee. Contract revenue consists primarily of billings based on hours of healthcare staffing provided at agreed-to hourly rates. Revenue in such cases is recognized as the hours are worked by our staff and contractors. Additionally, contract revenue also includes supplemental revenue from hospitals where we may have a fee-for-service contract arrangement. Contract revenue for the supplemental billing in such cases is recognized based on the terms of each individual contract. Such contract terms generally either provides for a fixed monthly dollar amount or a variable amount based upon measurable monthly activity, such as hours staffed, patient visits or collections per visit compared to a minimum activity threshold. Such supplemental revenues based on variable arrangements are usually contractually fixed on a monthly, quarterly or annual calculation basis considering the variable factors negotiated in each such arrangement. Such supplemental revenues are recognized as revenue in the period when such amounts are determined to be fixed and therefore contractually obligated as payable by the customer under the terms of the respective agreement.

Other revenue consists primarily of revenue from management and billing services provided to outside parties. Revenue is recognized for such services pursuant to the terms of the contracts with customers. Generally, such contracts consist of fixed monthly amounts with revenue recognized in the month services are rendered or as hourly consulting fees recognized as revenue as hours are worked in accordance with such arrangements. Additionally, we derive a portion of our revenue from providing billing services that are contingent upon the collection of third-party physician billings by us on behalf of such customers. Revenues are not considered earned and therefore not recognized as revenue until actual cash collections are achieved in accordance with the contractual arrangements for such services.

Net Revenue. Net revenue reflects management’s estimate of billed amounts to be ultimately collected. Management, in estimating the amounts to be collected resulting from approximately nine million annual fee-for-service patient visits and procedures, considers such factors as prior contract collection experience, current period changes in payer mix and patient acuity indicators, reimbursement rate trends in governmental and private sector insurance programs, resolution of overprovision account balances, the estimated impact of billing system effectiveness improvement initiatives, and trends in collections from self-pay patients and external

 

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collection agencies. In developing our estimate of collections per visit or procedure, we consider the amount of outstanding gross accounts receivable by period of service, but do not use an accounts receivable aging schedule to establish estimated collection valuations. Individual estimates of net revenue by contractual location are monitored and refreshed each month as cash receipts are applied to existing accounts receivable and other current trends that have an impact upon the estimated collections per visit are observed. Such estimates are substantially formulaic in nature. In the ordinary course of business we experience changes in our initial estimates of net revenue during the year following commencement of services. Such provisions and any subsequent changes in estimates may result in adjustments to our operating results with a corresponding adjustment to our accounts receivable allowance for uncollectibles on our balance sheet.

The table below summarizes our approximate payer mix as a percentage of fee-for-service volume for the periods indicated:

 

     Three Months Ended
March 31,
 
         2011             2012      

Payer:

    

Medicare

     22.7     23.9

Medicaid

     27.6        26.4   

Commercial and managed care

     26.9        26.4   

Self-pay

     20.9        21.4   

Other

     1.9        1.9   
  

 

 

   

 

 

 

Total

     100.0     100.0
  

 

 

   

 

 

 

Estimated net revenue derived from commercial and managed care plans was approximately 36% and 37% for the three months ended March 31, 2011 and 2012, respectively. Estimated net revenue derived from the Medicare program was approximately 18% of total net revenue in the three months ended March 31, 2012 and 17% in the three months ended March 31, 2011. Estimated net revenue derived from the Medicaid program was approximately 10% of total net revenue in the three months ended March 31, 2012 and 11% in the three months ended March 31, 2011. In addition, net revenue derived from within the Military Health System (“MHS”), which is the U.S. military’s dependent healthcare program and other government agencies, was approximately 5% in the three months ended March 31, 2012 and 2011.

Accounts Receivable. As described above and below, we determine the estimated value of our accounts receivable based on estimated cash collection run rates of estimated future collections by contract for patient visits under our fee-for-service revenue. Accordingly, we are unable to report the payer mix composition on a dollar basis of its outstanding net accounts receivable. However, a 1% change in the estimated carrying value of our net fee-for-service patient accounts receivable before consideration of the allowance for uncollectible accounts at March 31, 2012 could have an after tax effect of approximately $3.2 million on our financial position and results of operations. Our days revenue outstanding at December 31, 2011 and March 31, 2012 were 62.3 days and 62.2 days, respectively. The number of days outstanding will fluctuate over time due to a number of factors. The decrease in average days outstanding of approximately 0.1 days includes a decrease of 3.7 days resulting from an increase in average revenue per day. The decrease was offset by an increase of 2.4 days related to the increase in estimated value of fee-for-service accounts receivable and an increase of 1.2 days associated with an increase in estimated value of contract accounts receivable. The increase in average revenue per day is primarily attributed to an increase in gross charges and patient volumes, increased pricing with managed care plans and increases in average patient acuity levels. The increase of 2.4 days related to fee-for-service accounts receivable and the increase of 1.2 days associated with the increase of contract accounts receivable are primarily due to timing of cash collections and valuation adjustments recorded in the period. Our allowance for doubtful accounts totaled $277.0 million as of March 31, 2012.

 

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Approximately 99% of our allowance for doubtful accounts is related to gross fees for fee-for-service patient visits. Our principal exposure for uncollectible fee-for-service visits is centered in self-pay patients and, to a lesser extent, for co-payments and deductibles from patients with insurance. While we do not specifically allocate the allowance for doubtful accounts to individual accounts or specific payer classifications, the portion of the allowance associated with fee-for-service charges as of March 31, 2012 was equal to approximately 92% of outstanding self-pay fee-for-service patient accounts.

The majority of our fee-for-service patient visits are for the provision of emergency care in hospital settings. Due to federal government regulations governing the provision of such care, we are obligated to provide emergency care regardless of the patient’s ability to pay or whether or not the patient has insurance or other third-party coverage for the cost of the services rendered. While we attempt to obtain all relevant billing information at the time emergency care services are rendered, there are numerous patient encounters where such information is not available at time of discharge. In such cases where detailed billing information relative to insurance or other third-party coverage is not available at discharge, we attempt to obtain such information from the patient or client hospital billing record information subsequent to discharge to facilitate the collections process. Collections at the time of rendering such services (emergency room discharge) are not significant. Primary responsibility for collection of fee-for-service accounts receivable resides within our internal billing operations. Once a claim has been submitted to a payer or an individual patient, employees within our billing operations have responsibility for the follow up collection efforts. The protocol for follow up differs by payer classification. For self-pay patients, our billing system will automatically send a series of dunning letters on a prescribed time frame requesting payment or the provision of information reflecting that the balance due is covered by another payer, such as Medicare or a third-party insurance plan. Generally, the dunning cycle on a self-pay account will run from 90 to 120 days. At the end of this period, if no collections or additional information is obtained from the patient, the account is no longer considered an active account and is transferred to a collection agency. Upon transfer to a collection agency, the patient account is written-off as a bad debt. Any subsequent cash receipts on accounts previously written off are recorded as a recovery. For non-self-pay accounts, billing personnel will follow up and respond to any communication from payers such as requests for additional information or denials until collection of the account is obtained or other resolution has occurred. At the completion of its active collection cycle, we transfer selected patient accounts to external and internal collection agencies under a contingent collection basis. The projected value of future contingent collection proceeds are considered in the estimation of our overall accounts receivable valuation. For contract accounts receivable, invoices for services are prepared in the various operating areas of ours and mailed to our customers, generally on a monthly basis. Contract terms under such arrangements generally require payment within thirty days of receipt of the invoice. Outstanding invoices are periodically reviewed and operations personnel with responsibility for the customer relationship will contact the customer to follow up on any delinquent invoices. Contract accounts receivable will be considered as bad debt and written-off based upon the individual circumstances of the customer situation after all collection efforts have been exhausted, including legal action if warranted, and it is the judgment of management that the account is not expected to be collected.

Methodology for Computing Allowance for Doubtful Accounts. We employ several methodologies for determining our allowance for doubtful accounts depending on the nature of the net revenue before provision for uncollectibles recognized. We initially determine gross revenue for our fee-for-service patient visits based upon established fee schedule prices. Such gross revenue is reduced for estimated contractual allowances for those patient visits covered by contractual insurance arrangements to result in net revenue before provision for uncollectibles. Net revenue before provision for uncollectibles is then reduced for our estimate of uncollectible amounts. Fee-for-service net revenue represents our estimated cash to be collected from such patient visits and is net of our estimate of account balances estimated to be uncollectible. The provision for uncollectible fee-for-service patient visits is based on historical experience resulting from approximately nine million annual fee-for-service patient visits. The significant volume of patient visits and the terms of thousands of commercial and managed care contracts and the various reimbursement policies relating to governmental healthcare programs do not make it feasible to evaluate fee-for-service accounts receivable on a specific account basis. Fee-for-service accounts receivable collection estimates are reviewed on a quarterly basis for each of our

 

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fee-for-service contracts by period of accounts receivable origination. Such reviews include the use of historical cash collection percentages by contract adjusted for the lapse of time since the date of the patient visit. In addition, when actual collection percentages differ from expected results, on a contract by contract basis, supplemental detailed reviews of the outstanding accounts receivable balances may be performed by our billing operations to determine whether there are facts and circumstances existing that may cause a different conclusion as to the estimate of the collectibility of that contract’s accounts receivable from the estimate resulting from using the historical collection experience. Contract-related net revenue is billed based on the terms of the contract at amounts expected to be collected. Such billings are typically submitted on a monthly basis and aged trial balances prepared. Allowances for estimated uncollectible amounts related to such contract billings are made based upon specific accounts and invoice periodic reviews once it is concluded that such amounts are not likely to be collected. The methodologies employed to compute allowances for doubtful accounts were unchanged between 2011 and 2012.

Insurance Reserves.

The nature of our business is such that it is subject to professional liability claims and lawsuits. Historically, to mitigate a portion of this risk, we have maintained insurance for individual professional liability claims with per incident and annual aggregate limits per physician for all incidents. Prior to March 12, 2003, we obtained such insurance coverage from commercial insurance providers. Subsequent to March 11, 2003, we have provided for a significant portion of our professional liability loss exposures through the use of a captive insurance company and through greater utilization of self-insurance reserves. Since March 12, 2003, the most significant cost element within our professional liability program has consisted of the actuarial estimates of losses by occurrence period. In addition to the estimated actuarial losses, other costs that are considered by management in the estimation of professional liability costs include program costs such as brokerage fees, claims management expenses, program premiums and taxes, and other administrative costs of operating the program, such as the costs to operate the captive insurance subsidiary. Net costs in any period reflect our estimate of net losses to be incurred in that period as well as any changes to our estimates of the reserves established for net losses of prior periods.

Our commercial insurance policy for professional liability losses for the period March 12, 1999 through March 11, 2003 included insured limits applicable to such coverage in the period. Effective April 2006, we executed an agreement with the commercial insurance provider that issued the policy that ended March 11, 2003 to increase the existing $130.0 million aggregate limit of coverage. Under the terms of the agreement, we will make periodic premium payments to the commercial insurance company and the total aggregate limit of coverage under the policy will be increased by a portion of the premiums paid. We have committed to fund premiums such that the total aggregate limit of coverage under the program remains greater than the paid losses at any point in time. During fiscal year 2011, we funded a total of $0.8 million under this agreement. For the three months ended March 31, 2012, there were no amounts funded. We have agreed to fund additional payments which will be based upon the level of incurred losses relative to the aggregate limit of coverage at that time.

As of March 31, 2012, the current aggregate limit of coverage under this policy was $158.9 million and the estimated loss reserve for claim losses and expenses in excess of the current aggregate limit recorded by the Company was $3.8 million.

The accounts of the captive insurance company are fully consolidated with those of our other operations in the accompanying financial statements.

The estimation of medical professional liability losses is inherently complex. Medical professional liability claims are typically resolved over an extended period of time, often as long as ten years or more. The combination of changing conditions and the extended time required for claim resolution results in a loss estimation process that requires actuarial skill and the application of judgment, and such estimates require periodic revision. A report of actuarial loss estimates is prepared at least semi-annually. Management’s estimate

 

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of our professional liability costs resulting from such actuarial studies is significantly influenced by assumptions and assessments regarding expectations of several factors. These factors include, but are not limited to: historical paid and incurred loss development trends; hours of exposure as measured by hours of physician and related professional staff services; trends in the frequency and severity of claims, which can differ significantly by jurisdiction due to the legislative and judicial climate in such jurisdictions; coverage limits of third-party insurance; the effectiveness of our claims management process; and the outcome of litigation. As a result of the variety of factors that must be considered by management, there is a risk that actual incurred losses may develop differently from estimates.

The underlying information that serves as the foundational basis for making our actuarial estimates of professional liability losses is our internal database of incurred professional liability losses. The Company has captured extensive professional liability loss data going back, in some cases, over twenty years, that is maintained and updated on an ongoing basis by our internal claims management personnel. Our database contains comprehensive incurred loss information for our existing operations as far back as fiscal 1997 (reflecting the initial timeframe in which we migrated to a consolidated professional liability program concurrent with the consummation of several significant acquisitions), and we also possess additional loss data that predates 1997 dates of occurrence for certain of our operations. Loss information reflects both paid and reserved losses incurred when we were covered by outside commercial insurance programs as well as paid and reserved losses incurred under our self-insurance program. Because of the comprehensive nature of the loss data and our comfort with the completeness and reliability of the loss data, this is the information that is used in the development of our actuarial loss estimates. We believe this database is one of the largest repositories of physician professional liability loss information available in our industry and provides us and our actuarial consultants with sufficient data to develop reasonable estimates of the ultimate losses under our self-insurance program. In addition to the estimated losses, as part of the actuarial process, we obtain revised payment pattern assumptions that are based upon our historical loss and related claims payment experience. Such payment patterns reflect estimated cash outflows for aggregate incurred losses by period based upon the occurrence date of the loss as well as the report date of the loss. Although variances have been observed in the actuarial estimate of ultimate losses by occurrence period between actuarial studies, the estimated payment patterns have shown much more limited variability. We use these payment patterns to develop our estimate of the discounted reserve amounts. The relative consistency of the payment pattern estimates provides us with a foundation in which to develop a reasonable estimate of the discount value of the professional liability reserves based upon the most current estimate of ultimate losses to be paid and the reasonable likelihood of the related cash flows over the payment period.

In establishing our initial reserves for a given loss period, management considers the results of the actuarial loss estimates for such periods as well as assumptions regarding loss retention levels and other program costs to be incurred. On a semi-annual basis, we will review our professional liability reserves considering not only the reserves and loss estimates associated with the current period but also the reserves established in prior periods based upon revised actuarial loss estimates. The actuarial estimation process employed utilizes a frequency severity simulation model to estimate the ultimate cost of claims for each loss period. The results of the simulation model are then validated by a comparison to the results from several different actuarial methods (paid loss development, incurred loss development, incurred Bornhuetter-Ferguson method, paid Bornhuetter-Ferguson method) for reasonableness. Each method contains assumptions regarding the underlying claims process. Actuarial loss estimates at various confidence levels capture the variability in the loss estimates for process risk but assume that the underlying model and assumptions are correct. Adjustments to professional liability loss reserves will be made as needed to reflect revised assumptions and emerging trends and data. Any adjustments to reserves are reflected in the current operations. Due to the size of our reserve for professional liability losses, even a small percentage adjustment to these estimates can have a material effect on the results of operations for the period in which the adjustment is made. Given the number of factors considered in establishing the reserves for professional liability losses, it is neither practical nor meaningful to isolate a particular assumption or parameter of the process and calculate the impact of changing that single item. The actuarial reports provide a variety of loss estimates based upon statistical confidence levels reflecting the inherent uncertainty of the medical professional liability claims environment in which we operate. Initial year loss estimates are generally recorded

 

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using the actuarial expected loss estimate, but aggregate professional liability loss reserves may be carried at amounts in excess of the expected loss estimates provided by the actuarial reports due to the relatively short time period in which the Company has provided for its losses on a self-insured basis and the expectation that we believe additional adjustments to prior year estimates may occur as our reporting history and loss portfolio matures. In addition, the Company is subject to the risk of claims in excess of insured limits as well as unlimited aggregate risk of loss in certain loss periods. As the Company’s self-insurance program continues to mature and additional stability is noted in the loss development trends in the initial years of the program, we expect to continue to review and evaluate the carried level of reserves and make adjustments as needed.

Based on the results of first semi-annual actuarial study completed in April 2012, we recorded an increase in prior year liability loss reserves of $5.2 million. $4.4 million of the increase in prior year loss reserves was related to a change in the calculation of the discount rate used by the Company for calculating its professional liability reserves. During the first quarter of 2012, the Company adopted a discount factor based upon the weighted average US Treasury rates over a 10 year period which was 0.9% as of March 31, 2012. Prior to this change, the Company used the 10 year Treasury rate as a discount factor, which was 1.9% and 2.2% as of December 31, 2011 and March 31, 2012, respectively. We believe the use of weighted average Treasury rates over a 10 year period is more closely aligned with actual claim payment patterns. The remaining $0.7 million of the prior year liability loss reserve change relates to unfavorable development on prior year loss estimates since the most recent actuarial analysis. Of the total reserve increase, approximately $6.7 million was associated with loss estimates established in prior years for the self-insurance program covering the loss occurrence periods from March 12, 2003 through December 31, 2010, partially offset by a $1.5 million decrease associated with the estimated losses in excess of the aggregate limit of coverage under the commercial insurance program that ended March 12, 2003.

The following reflects the current reserves for professional liability costs as of March 31, 2012 (in millions) as well as the sensitivity of the reserve estimates at a 75% and 90% confidence level:

 

As reported

   $ 170.8   

At 75% confidence level

   $ 176.4   

At 90% confidence level

   $ 189.7   

It is not possible to quantify the amount of the change in our estimate of prior year losses by individual fiscal period due to the nature of the professional liability loss estimates that are provided to us on an occurrence period basis and the nature of the coverage that is obtained in the commercial insurance market which is generally underwritten on a claims made or report period basis. Even though we are self-insured for a significant portion of our risk, due to customer contracting requirements and state insurance regulations, we still, at times, must place coverage on a claims made or report period basis with commercial insurance carriers. When evaluating the appropriate carrying level of our self-insured professional liability reserves, management considers the current estimates of occurrence period loss estimates as well as how such loss estimates and related future claims will interact with previous or current commercial insurance programs when projecting future cash flows. However, the complexity that is associated with multiple occurrence periods interacting with multiple report periods that contain risks and related reserves retained by us, as well as transferred to commercial insurance carriers, makes it impossible to allocate the change in prior year loss estimates to individual occurrence periods. Instead, we evaluate the future expected cash flows for all historical loss periods in the aggregate and compare such estimates to the current carrying value of our professional liability reserves. This process provides the basis for us to conclude that our reserves for professional liability losses are reasonable and properly stated. Management considers the results of actuarial studies when estimating the appropriate level of professional liability reserves and no adjustments to prior year loss estimates were made in periods where updated actuarial loss estimates were not available. The April 2012 actuarial report did not reflect a significant change, at various confidence levels, in the estimated ultimate undiscounted losses by occurrence period for the self-insured loss period from March 12, 2003 through December 31, 2011 or our exposure in excess of the aggregate limit of coverage in place on the commercial insurance program that ended March 12, 2003.

 

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Due to the complexity of the actuarial estimation process, there are many factors, trends and assumptions that must be considered in the development of the actuarial loss estimates, and we are not able to quantify and disclose which specific elements are primarily contributing to the overall favorable development in the revised loss estimates of historical occurrence periods. However, we believe that our internal investments in enhanced risk management and claims management resources and initiatives, such as the employment of additional claims and litigation management personnel and practices, and an expansion of programs such as root cause loss analysis, early claim evaluation, and litigation support for insured providers, as well as the improved legal environment resulting from professional liability tort reform efforts in certain key jurisdictions such as Florida and Texas, have contributed to the favorable trend in loss development estimates noted during the prior year occurrence periods.

Impairment of Intangible Assets

In assessing the recoverability of the Company’s intangibles, we must make assumptions regarding estimated future cash flows and other factors to determine the fair value of the respective assets. If these estimates or their related assumptions change in the future, we may be required to record impairment charges for these assets.

Results of Operations

The following discussion provides an analysis of our results of operations and should be read in conjunction with our unaudited consolidated financial statements. Net revenue is an estimate of future cash collections and as such it is a key measurement by which management evaluates performance of individual contracts as well as the Company as a whole. The following table sets forth the components of net earnings as a percentage of net revenue for the periods indicated:

 

     Three Months Ended
March 31,
 
         2011             2012      

Net revenue

     100.0     100.0

Professional service expenses

     76.0        77.6   

Professional liability costs

     3.6        4.7   

General and administrative expenses

     9.9        10.1   

Other income

     (0.1     (0.3

Depreciation

     0.7        0.6   

Amortization

     0.9        1.3   

Interest expense, net

     0.8        0.7   

Transaction costs

     —          0.3   
  

 

 

   

 

 

 

Earnings before income taxes

     8.2        5.0   

Provision for income taxes

     3.3        2.0   
  

 

 

   

 

 

 

Net earnings

     4.9     3.0
  

 

 

   

 

 

 

Three Months Ended March 31, 2012 Compared to the Three Months Ended March 31, 2011

Net Revenue Before Provision for Uncollectibles. Net revenue before provision for uncollectibles in the three months ended March 31, 2012 increased $121.3 million, or 16.9%, to $840.4 million from $719.1 million in the three months ended March 31, 2011. The increase in net revenue before provision for uncollectibles resulted primarily from increases in fee-for-service revenue of $107.8 million, contract revenue of $12.7 million and other revenue of $0.9 million. In the three months ended March 31, 2012, fee-for-service revenue was 84.7% of net revenue before provision for uncollectibles compared to 84.0% in the same period of 2011, contract revenue was 14.4% of net revenue before provision for uncollectibles in 2012 compared to 15.1% in 2011 and

 

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other revenue was 0.9% in 2012 compared to 1.0% in 2011. The increase in fee-for-service revenue was primarily a result of a 12.1% increase in total fee-for-service visits and procedures and, to a lesser extent, an increase in estimated collections per visit and procedure. Estimated collections increased due to annual increases in gross charges, managed care pricing and increases in average patient acuity levels. The increase in contract revenue was due primarily to the impact of new and acquired contracts.

Provision for Uncollectibles. The provision for uncollectibles increased $55.1 million, or 18.0%, to $361.8 million in the three months ended March 31, 2012 from $306.6 million in the corresponding period in 2011. The provision for uncollectibles as a percentage of net revenue before provision for uncollectibles was 43.0% in the three months ended March 31, 2012 compared with 42.6% in the corresponding period of 2011. The provision for uncollectibles is primarily related to revenue generated under fee-for-service contracts that is not expected to be fully collected. The period over period increase in the provision for uncollectibles is due primarily to annual increases in gross fee schedules and increases in patient volumes and procedures. Changes in payer mix, particularly the level of self-pay fee-for-service visits, also have an impact on the provision for uncollectibles. For the three months ended March 31, 2012, self-pay fee-for-service visits were approximately 21.4% of the total fee-for-service visits compared to approximately 20.9% in the same period of 2011.

Net Revenue. Net revenue in the three months ended March 31, 2012 increased $66.2 million, or 16.0%, to $478.7 million from $412.5 million in the three months ended March 31, 2011. Acquisitions contributed 7.9%, new contracts, net of terminations contributed 4.6%, and same contracts contributed 3.5% of the increase in quarter-over-quarter growth in net revenue.

Total same contract revenue, which consists of contracts under management in both periods, increased $14.5 million, or 3.8%, to $395.7 million in the three months ended March 31, 2012 compared to $381.1 million in the three months ended March 31, 2011. In the first quarter of 2012, same contract revenue benefited from an increase in fee-for-service volume of 1.1% which resulted in growth of 0.8%. Also contributing to the increase in same contract revenue growth between quarters were increases in estimated collections on fee-for-service visits in the amount of 4.2% which contributed approximately 3.1% of same contract growth between quarters. Estimated collections increased due to annual increases in gross charges, managed care pricing and increases in average patient acuity levels, partially offset by declines in payer mix and Medicare reimbursement as well as a decline in factoring revenue. These increases were partially offset by declines in contract revenue which constrained same contract revenue growth by 0.1%. Acquisitions contributed $32.4 million of growth in net revenue between quarters. Net new contract revenue increased $19.2 million between quarters. We typically gain new contracts by replacing competitors at hospitals that currently outsource such services, obtaining new contracts from facilities that do not currently outsource and responding to contracting opportunities within the military healthcare system. Factors influencing new contracting opportunities include the depth and breadth of our service offerings, our reputation and experience, our ability to recruit and retain qualified clinicians, and pricing considerations when a subsidy or contract payment is required. Contracts are typically terminated due to economic considerations, a change in hospital administration or ownership, dissatisfaction with our service offerings or, primarily relating to our military staffing arrangements, at the end of the contract term.

 

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The components of net revenue includes revenue from contracts that have been in effect for prior periods (same contracts) and from net, new and acquired contracts during the periods, as set forth in the table below:

 

     Three Months Ended
March 31,
 
     2011      2012  
     (in thousands)  

Same contracts:

     

Fee-for-service revenue

   $ 279,770       $ 294,831   

Contract and other revenue

     101,361         100,837   
  

 

 

    

 

 

 

Total same contracts

     381,131         395,668   

New contracts, net of terminations:

     

Fee-for-service revenue

     18,057         28,611   

Contract and other revenue

     13,306         21,946   
  

 

 

    

 

 

 

Total new contracts, net of terminations

     31,363         50,557   

Acquired contracts:

     

Fee-for-service revenue

     —           26,995   

Contract and other revenue

     —           5,442   
  

 

 

    

 

 

 

Total acquired contracts

     —           32,437   

Consolidated:

     

Fee-for-service revenue

     297,827         350,437   

Contract and other revenue

     114,667         128,225   
  

 

 

    

 

 

 

Total net revenue

   $ 412,494       $ 478,662   
  

 

 

    

 

 

 

The following table reflects the visits and procedures included within fee-for-service revenues described in the table above:

 

     Three Months Ended
March 31,
 
         2011              2012      
     (in thousands)  

Fee-for-service visits and procedures:

     

Same contract

     2,043         2,066   

New and acquired contracts, net of terminations

     140         380   
  

 

 

    

 

 

 

Total fee-for-service visits and procedures

     2,183         2,446   
  

 

 

    

 

 

 

Professional Service Expenses. Professional service expenses, which include physician and provider costs, billing and collection expenses, and other professional expenses, totaled $371.6 million in the three months ended March 31, 2012 compared to $313.6 million in the three months ended March 31, 2011, an increase of $57.9 million, or 18.5%. The higher cost between quarters included an increase of approximately $15.1 million associated with increases in the average rates paid per hour of provider service and number of provider hours staffed on a same contract basis. Increases in average rates paid reflect period over period wage and benefit increases associated with the provision of clinical services. Also contributing to the increase in expense was $62.1 million related to our acquisitions and growth. The increases in professional service costs were partially offset by reductions of $19.2 million in provider costs within our operations due to net contract terminations. Professional service expenses as a percentage of net revenue was 77.6% in the three months ended March 31, 2012 compared to 76.0% in the three months ended March 31, 2011.

Professional Liability Costs. Professional liability costs were $22.3 million in the three months ended March 31, 2012 compared to $14.7 million in the three months ended March 31, 2011. Professional liability costs

 

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for the three months ended March 31, 2012 included an increase in prior year liability loss reserves of $5.2 million. $4.4 million of the increase in prior year loss reserves was related to a change in the calculation of the discount rate used by the Company for calculating its professional liability reserves. During the first quarter of 2012, the Company adopted a discount factor based upon the weighted average US Treasury rates over a 10 year period which was 0.9% as of March 31, 2012. Prior to this change, the Company used the 10 year Treasury rate as a discount factor, which was 2.2% as of March 31, 2012. The remaining $0.7 million of the prior year liability loss reserve change relates to unfavorable development on prior year loss estimates since the most recent actuarial analysis. Excluding the prior year reserve adjustment in 2012, professional liability costs increased $2.4 million, or 16.3%, between periods. The increase was primarily attributable to an increase in provider hours and an increase in the average cost per hour of coverage. Excluding the prior year revenue adjustment in 2012, professional liability costs as a percentage of net revenue were 3.6% in each of the first quarter of 2012 and 2011.

General and Administrative Expenses. General and administrative expenses increased $7.6 million, or 18.7%, to $48.4 million for the three months ended March 31, 2012 from $40.8 million in the three months ended March 31, 2011. General and administrative expenses included contingent purchase expense of $6.3 million for the three months ended March 31, 2012 and $2.6 million for the three months ended March 31, 2011. Excluding the contingent purchase expense, general and administrative expenses increased $3.9 million, or 10.2%, to $42.0 million for the three months ended March 31, 2012 from $38.1 million in the three months ended March 31, 2011. The increase in general and administrative expenses was due primarily to the inflationary growth in salaries as well as the impact of recent acquisitions, including the development of infrastructure to support growth in these operations, partially offset by decreases in performance-based incentive plan costs between quarters. Total general and administrative expenses as a percentage of net revenue were 10.1% in the first quarter of 2012 compared to 9.9% in the first quarter of 2011 and were 8.8% in the first quarter of 2012 compared to 9.2% in the first quarter of 2011 excluding contingent purchase expense.

Other Income, net. In the three months ended March 31, 2012, we recognized other income of $1.5 million primarily related to the change in the fair value of assets related to our non-qualified deferred compensation plan compared to $0.5 million of other income for the same period in 2011.

Depreciation. Depreciation expense was $3.1 million in each of the three months ended March 31, 2012 and 2011.

Amortization. Amortization expense was $6.1 million in the three months ended March 31, 2012 compared to $3.6 million for the three months ended March 31, 2011. The increase of $2.5 million was primarily due to higher amortization expense related to our acquisitions in 2011.

Net Interest Expense. Net interest expense increased $0.3 million to $3.6 million in the three months ended March 31, 2012, compared to $3.3 million in the corresponding period in 2011, primarily due to an increased LIBOR spread on our new credit facility effective in June 2011 compared to the previous credit facility pricing and an increase in the revolver usage during 2012, offset by a reduction in interest rate hedging and deferred financing costs.

Transaction Costs. Transaction costs were $1.2 million for the three months ended March 31, 2012 and $0.2 million for the three months ended March 31, 2011. These costs relate to external advisory, legal, accounting and other fees incurred related to due diligence and acquisition activity during the respective periods.

Earnings before Income Taxes. Earnings before income taxes in the three months ended March 31, 2012 were $23.8 million compared to $33.8 million in the three months ended March 31, 2011.

Provision for Income Taxes. The provision for income taxes was $9.4 million in the three months ended March 31, 2012 compared to $13.7 million in the corresponding period in 2011.

Net Earnings. Net earnings were $14.4 million in the three months ended March 31, 2012 compared to $20.1 million in the three months ended March 31, 2011.

 

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Liquidity and Capital Resources

Our principal ongoing uses of cash are to meet working capital requirements, fund debt obligations and to finance our capital expenditures and acquisitions. We believe that our cash needs, other than for significant acquisitions, will continue to be met through the use of existing available cash, cash flows derived from future operating results and borrowings under our senior secured revolving credit facility.

Cash flow provided by operations for the three months ended March 31, 2012 was $14.4 million compared to $20.9 million in the same period in 2011. Included in operating cash flow were contingent purchase price payments of $6.9 million in the three months ended March 31, 2011. There were no contingent purchase payments made in the three months ended March 31, 2012. Excluding the impact of contingent purchase price payments, the operating cash flow decreased $13.4 million period over period principally due to an increased use of cash in funding working capital obligations in the first quarter of 2012, including accrued compensation and benefits and incentive plan payments. During the three months ended March 31, 2011, total net cash used for acquisitions, including contingent payments reported in operating cash flow, was $6.9 million. There was no cash paid for acquisitions in 2012. Cash used in investing activities in the three months ended March 31, 2012 was $5.2 million compared to $4.2 million in the same period of 2011. The $1.1 million increase in cash used in investing activities was principally due to our investment in a provider of hospital based telemedicine consultations and an increase in capital expenditures, partially offset by a decrease in net purchase of investments between periods at the captive insurance subsidiary. Cash used in financing activities in the three months ended March 31, 2012 was $8.9 million compared to cash provided of $2.0 million in the three months ended March 31, 2011. The change in cash associated with financing activities was due to total debt reduction in the first quarter of 2012 of $11.5 million, which reflected $9.0 million in net payments on the revolving credit facility and $2.5 million of payments on the term debt and $0.9 million of reduced proceeds from the exercise of stock options in the first quarter of 2012, partially offset by the $0.5 million of stock issuance costs in the first quarter of 2011.

We spent $2.9 million in the first three months of 2012 and $2.2 million in the first three months of 2011 for capital expenditures. These expenditures were primarily for billing and information technology investments and related development projects along with projects in support of operational initiatives.

On June 29, 2011, we completed the financing of new senior credit facilities, consisting of a $175.0 million Five-Year Revolving Credit Facility, a $150.0 million Five-Year Term A Loan Facility and a $250.0 million Seven-Year Term B Loan Facility, with a syndicate of financial institutions. We used borrowings under the new credit facilities and existing cash to repay the outstanding balance of $402.7 million under the term loan as well as $7.8 million of fees and expenses associated with the refinancing. In December 2011, under the provisions of the accordion feature of our new senior credit agreement, we increased the amount of our revolving credit facility to $225.0 million. The terms of the revolving credit facility, including pricing and maturity did not change. See Note 8 of the notes to the consolidated financial statements.

As of March 31, 2012, we had $408.5 million in aggregate indebtedness consisting of our term loans and borrowings under our senior secured revolving credit facility with an additional $209.0 million of borrowing capacity available under our senior secured revolving credit facility (without giving effect to $6.0 million of undrawn letters of credit). Under our new senior credit facility, outstanding Term A loan borrowings mature on June 29, 2016 and Term B loan borrowings mature on June 29, 2018.

Our new senior credit facility agreement contains both affirmative and negative covenants, including limitations on our ability to incur additional indebtedness, sell material assets, retire, redeem or otherwise reacquire our capital stock, acquire the capital stock or assets of another business and pay dividends, and require us to comply with a maximum first lien net leverage ratio, tested quarterly. At March 31, 2012, we were in compliance with all covenants under the new senior credit facility agreement. The new senior credit facility is secured by substantially all of our and our U.S. subsidiaries’ assets.

 

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Subject to any contractual restrictions, the Company and its subsidiaries, affiliates or significant shareholders (including The Blackstone Group L.P. and its affiliates) may from time to time, in their sole discretion, purchase, repay, redeem or retire any of the Company’s outstanding equity securities in privately negotiated or open market transactions, by tender offer or otherwise.

As of March 31, 2012, we had total cash and cash equivalents of approximately $10.2 million. There are no known liquidity restrictions or impairments on our cash and cash equivalents as of March 31, 2012. Our ongoing cash needs for the three months ended March 31, 2012 were met from internally generated operating sources and our revolving credit facility. As of March 31, 2012, there was $16.0 million outstanding under the revolving credit facility.

We have historically been an acquirer of other physician staffing businesses and related interests. We did not complete any acquisitions during the three months ended March 31, 2012. For the three months ended March 31, 2011, total cash used in acquisitions was $6.9 million, which consisted of $6.9 million of contingent payments on prior year acquisitions reported as operating cash flow. We did not pay any contingent consideration during the first three months of 2012. As of March 31, 2012, we estimate future contingent payment obligations to be approximately $43.8 million for acquisitions made prior to March 31, 2012, which we expect to fund over a period of two years. $19.6 million is recorded as a liability on our balance sheet as of March 31, 2012, while the remaining estimated liability of $24.2 million will be recorded as contingent purchase compensation expense over the remaining performance period. See Note 3 of notes to the consolidated financial statements.

We are in discussions with certain physician staffing businesses regarding potential acquisition opportunities. If we consummate these potential acquisitions, we would expect to fund such acquisitions using our existing cash, through borrowings under our revolving credit facility, or through the issuance of additional debt or equity.

Effective March 12, 2003, we began providing for professional liability risks in part through a captive insurance company. Prior to such date, we insured such risks principally through the commercial insurance market. The change in the professional liability insurance program initially resulted in increased cash flow due to the retention of cash formerly paid out in the form of insurance premiums to a commercial insurance company coupled with a long period (typically 2-4 years or longer on average) before cash payout of such losses occurs. A portion of such cash retained is retained within our captive insurance company and therefore is not immediately available for general corporate purposes. As of March 31, 2012, the current value of cash or cash equivalents and related investments held within the captive insurance subsidiary totaled approximately $94.1 million. Investments of the captive insurance subsidiary are carried at fair market value and as of March 31, 2012 reflected $4.6 million of net unrealized gains. See Note 5 of the accompanying consolidated financial statements for a discussion of the investments held by our captive insurance subsidiary.

Effective June 1, 2011, we renewed our fronting carrier program with a commercial insurance carrier through May 31, 2012. In connection with this renewal, we have paid cash premiums of approximately $8.7 million to the commercial insurance carrier. For the three months ended March 31, 2012, we funded approximately $8.5 million of premiums to our captive insurance subsidiary. For the three months ended March 31, 2012, we did not fund any amount to a commercial insurance provider in order to meet our obligation for incurred costs in excess of the aggregate limits of coverage in place on the commercial insurance policy that ended March 11, 2003. We will fund additional payments which will be based upon the level of incurred losses relative to the aggregate limit of the coverage at that time as additional claims are processed.

We present Adjusted EBITDA as a supplemental measure of our performance. We define Adjusted EBITDA as net earnings before interest expense, taxes, depreciation and amortization, as further adjusted to exclude the non-cash items and the other adjustments shown in the table below. We present Adjusted EBITDA because we believe it assists investors and analysts in comparing our performance across reporting periods on a consistent basis by excluding items that we do not believe are indicative of our core operating performance.

 

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Adjusted EBITDA is not a measurement of financial performance or liquidity under generally accepted accounting principles. In evaluating our performance as measured by Adjusted EBITDA, management recognizes and considers the limitations of this measure. Adjusted EBITDA does not reflect certain cash expenses that we are obligated to make, and although depreciation and amortizations are non-cash charges, assets being depreciated and amortized will often have to be replaced in the future, and Adjusted EBITDA does not reflect any cash requirements for such replacements. In addition, other companies in our industry may calculate Adjusted EBITDA differently than we do or may not calculate it at all, limiting its usefulness as a comparative measure. Because of these limitations, Adjusted EBITDA should not be considered in isolation or as a substitute for net income, operating income, cash flows from operating, investing or financing activities, or any other measure calculated in accordance with generally accepted accounting principles.

The following table sets forth a reconciliation of net earnings to Adjusted EBITDA.

 

     Three Months Ended
March 31,
 
     2011     2012  
     (in thousands)  

Net earnings

   $ 20,120      $ 14,424   

Interest expense, net

     3,277        3,557   

Provision for income taxes

     13,659        9,418   

Depreciation

     3,051        3,118   

Amortization

     3,638        6,116   

Other income(a)

     (548     (1,455

Contingent purchase compensation expense(b)

     2,617        6,343   

Transaction costs(c)

     154        1,227   

Employee equity-based compensation expense(d)

     606        1,123   

Insurance subsidiary interest income

     598        564   

Professional liability loss reserve adjustments associated with prior years

     —          5,165   

Severance and other charges

     792        1,071   
  

 

 

   

 

 

 

Adjusted EBITDA

   $ 47,964      $ 50,671   
  

 

 

   

 

 

 

 

(a) Reflects gain or loss on sale of assets, realized gains on investments, and changes in fair value of investments associated with the Company’s non-qualified retirement plan.
(b) Reflects contingent purchase compensation expense associated with earnout arrangements on acquisition transactions.
(c) Reflects expenses associated with acquisition transaction fees.
(d) Reflects costs related to options and restricted shares granted under the Team Health Holdings, Inc. 2009 Stock Incentive Plan.

Inflation

We do not believe that general inflation in the U.S. economy has had a material impact on our financial position or results of operations.

Seasonality

Historically, our revenues and operating results have reflected minimal seasonal variation due to the significance of revenues derived from patient visits to emergency departments, which are generally open on a year-round basis, and also due to our geographic diversification. Revenue from our non-emergency department staffing lines is dependent on a healthcare facility being open during selected time periods. Revenue in such instances will fluctuate depending upon such factors as the number of holidays in the period.

 

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Recently Issued Accounting Standards

See Note 2 of the notes to the consolidated financial statements for a discussion of recently issued accounting standards.

 

Item 3. Quantitative and Qualitative Disclosures About Market Risk

The Company is exposed to market risk related to changes in interest rates. The Company does not use derivative financial instruments for speculative or trading purposes.

The Company’s earnings are affected by changes in short-term interest rates as a result of its borrowings under its term loan facility.

At March 31, 2012, the fair value of the Company’s total debt, which had a carrying value of $408.5 million, was approximately $403.6 million. The Company had $408.5 million of variable debt outstanding at March 31, 2012. If the market interest rates for the Company’s variable rate borrowings had averaged 1% more subsequent to December 31, 2011, the Company’s interest expense would have increased, and earnings before income taxes would have decreased, by approximately $1.0 million for the three months ended March 31, 2012. This analysis does not consider the effects of the reduced level of overall economic activity that could exist in such an environment. Further, in the event of a change of such magnitude, management could take actions in an attempt to further mitigate its exposure to the change. However, due to the uncertainty of the specific actions that would be taken and their possible effects, the sensitivity analysis assumes no changes in the Company’s financial structure.

 

Item 4. Controls and Procedures

We maintain “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (Exchange Act), that are designed to ensure that information required to be disclosed by us in the reports we file or submit under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to our management, including our principal executive and principal financial officers, or persons performing similar functions, as appropriate, to allow timely decisions regarding required disclosure. Any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving desired objectives. As of March 31, 2012, we conducted an evaluation under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures. Based on this evaluation, our Chief Executive Officer and Chief Financial Officer concluded that as of March 31, 2012, our disclosure controls and procedures were effective at the reasonable assurance level.

Changes in Internal Control Over Financial Reporting: There were no changes in our internal control over financial reporting (as that term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during the quarter ended March 31, 2012 that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

 

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PART 2. OTHER INFORMATION

 

Item 1. Legal Proceedings

We are currently a party to various legal proceedings. Based upon currently available information, we do not believe that it is reasonably possible that the ultimate outcome of such proceedings would have a material adverse effect on our financial position or results of operations. However, litigation is subject to inherent uncertainties, and the estimate of the potential impact of such legal proceedings on our financial position or results of operations could change in the future.

 

Item 1A. Risk Factors

For a discussion of our potential risks and uncertainties, please see “Risk Factors” in Part 1, Item 1A of our annual report on Form 10-K for the year ended December 31, 2011, filed with the Securities and Exchange Commission on February 7, 2012. In addition, please see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Risk Factors and Trends that Affect Our Results of Operations” herein and the 2011 Form 10-K. There have been no material changes to the risk factors disclosed in Part 1, Item 1A of the 2011 Form 10-K.

 

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

None.

 

Item 3. Defaults upon Senior Securities

None.

 

Item 4. Mine Safety Disclosures

Not Applicable.

 

Item 5. Other Information

Members of the Company’s board of directors and certain employees, including senior executives and others who regularly have access to material non-public information, may from time to time enter into trading plans (“plans”) designed to comply with the Company’s Securities Trading Policy and the requirements of Rule 10b5-1 promulgated by the Securities and Exchange Commission under Section 10(b) of the Securities Exchange Act of 1934, as amended.

During 2011, David Jones, our Executive Vice President and Chief Financial Officer, entered into a plan for the purpose of long-term asset diversification. The plan extends through December 23, 2012.

The Company does not undertake any obligation to report Rule 10b5-1 plans that may be adopted by any officers or directors of the Company in the future, or to report any modifications or termination of any publicly announced plan or to report any plan adopted by an employee who is not an executive officer.

 

39


Table of Contents
Item 6. Exhibits

 

Number

  

Description

3.1    Certificate of Incorporation of Team Health Holdings, Inc. (incorporated by reference to Exhibit 3.1 of the Current Report on Form 8-K, filed on December 18, 2009: File No. 001-34583)
3.2    By-laws of Team Health Holdings, Inc. (incorporated by reference to Exhibit 3.2 of the Current Report on Form 8-K, filed on December 18, 2009: File No. 001-34583)
31.1    Certification by Greg Roth for Team Health Holdings, Inc. dated May 1, 2012 as required by Section 302 of the Sarbanes-Oxley Act of 2002. (filed herewith)
31.2    Certification by David Jones for Team Health Holdings, Inc. dated May 1, 2012 as required by Section 302 of the Sarbanes-Oxley Act of 2002. (filed herewith)
32.1    Certification by Greg Roth for Team Health Holdings, Inc. dated May 1, 2012 as required by Section 906 of the Sarbanes-Oxley Act of 2002. (filed herewith)
32.2    Certification by David Jones for Team Health Holdings, Inc. dated May 1, 2012 as required by Section 906 of the Sarbanes-Oxley Act of 2002. (filed herewith)
101    The following financial information from the Company’s Quarterly Report on Form 10-Q for the quarter ended March 31, 2012, formatted in XBRL (Extensible Business Reporting Language): (i) Consolidated Balance Sheets at March 31, 2012 and December 31, 2011, (ii) Consolidated Statements of Comprehensive Earnings for the three months ended March 31, 2012 and 2011, (iii) Consolidated Statements of Cash Flows for the three months ended March 31, 2012 and 2011, and (iv) Notes to Consolidated Financial Statements.†

 

In accordance with Rule 406T of Regulation S-T, the XBRL related information in Exhibit 101 to this Quarterly Report on Form 10-Q shall not be deemed to be “filed” for purposes of Section 18 of the Exchange Act, or otherwise subject to the liability of that section, and shall not be part of any registration statement or other document filed under the Securities Act or the Exchange Act, except as shall be expressly set forth by specific reference in such filing.

 

40


Table of Contents

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report on Form 10-Q to be signed on its behalf by the undersigned thereunto duly authorized.

 

   TEAM HEALTH HOLDINGS, INC.
May 1, 2012   

/s/    GREG ROTH        

  

Greg Roth

Chief Executive Officer

May 1, 2012   

/S/    DAVID P. JONES        

  

David P. Jones

Executive Vice President and Chief Financial Officer

 

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Table of Contents

EXHIBIT INDEX

 

Number

  

Description

3.1    Certificate of Incorporation of Team Health Holdings, Inc. (incorporated by reference to Exhibit 3.1 of the Current Report on Form 8-K, filed on December 18, 2009: File No. 001-34583)
3.2    By-laws of Team Health Holdings, Inc. (incorporated by reference to Exhibit 3.2 of the Current Report on Form 8-K, filed on December 18, 2009: File No. 001-34583)
31.1    Certification by Greg Roth for Team Health Holdings, Inc. dated November 7, 2011 as required by Section 302 of the Sarbanes-Oxley Act of 2002. (filed herewith)
31.2    Certification by David Jones for Team Health Holdings, Inc. dated November 7, 2011 as required by Section 302 of the Sarbanes-Oxley Act of 2002. (filed herewith)
32.1    Certification by Greg Roth for Team Health Holdings, Inc. dated November 7, 2011 as required by Section 906 of the Sarbanes-Oxley Act of 2002. (filed herewith)
32.2    Certification by David Jones for Team Health Holdings, Inc. dated November 7, 2011 as required by Section 906 of the Sarbanes-Oxley Act of 2002. (filed herewith)
101    The following financial information from the Company’s Quarterly Report on Form 10-Q for the quarter ended March 31, 2012, formatted in XBRL (Extensible Business Reporting Language): (i) Consolidated Balance Sheets at March 31, 2012 and December 31, 2011, (ii) Consolidated Statements of Comprehensive Earnings for the three months ended March 31, 2012 and 2011, (iii) Consolidated Statements of Cash Flows for the three months ended March 31, 2012 and 2011, and (iv) Notes to Consolidated Financial Statements.†

 

In accordance with Rule 406T of Regulation S-T, the XBRL related information in Exhibit 101 to this Quarterly Report on Form 10-Q shall not be deemed to be “filed” for purposes of Section 18 of the Exchange Act, or otherwise subject to the liability of that section, and shall not be part of any registration statement or other document filed under the Securities Act or the Exchange Act, except as shall be expressly set forth by specific reference in such filing.

 

42

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