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IPCM > SEC Filings for IPCM > Form 10-Q on 30-Jul-2013All Recent SEC Filings

Show all filings for IPC THE HOSPITALIST COMPANY, INC.

Form 10-Q for IPC THE HOSPITALIST COMPANY, INC.


30-Jul-2013

Quarterly Report


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

The following management's discussion and analysis should be read in conjunction with the unaudited consolidated financial statements and the notes thereto included in this Quarterly Report. In addition, reference is made to our audited consolidated financial statements and notes thereto and related Management's Discussion and Analysis of Financial Condition and Results of Operations included in our most recent Annual Report on Form 10-K for the year ended December 31, 2012 filed with the Securities and Exchange Commission (SEC) on February 26, 2013.

The following discussion contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 regarding future events and the future results of IPC that are based on management's current expectations, estimates, projections, and assumptions about our business. Words such as "may," "will," "could," "should," "target," "potential," "project," "expects," "anticipates," "intends," "plans," "believes," "sees," "estimates" and variations of such words and similar expressions are intended to identify such forward-looking statements. These statements are not guarantees of future performance and involve risks, uncertainties and assumptions that are difficult to predict. Therefore, actual outcomes and results may differ materially from what is expressed or forecasted in such forward-looking statements due to numerous factors, including, but not limited to, those discussed in our most recent Annual Report on Form 10-K, including the section entitled "Risk Factors," as well as those discussed from time to time in the Company's other SEC filings and reports. In addition, such statements could be affected by general industry and market conditions. Such forward-looking statements speak only as of the date of this Quarterly Report or, in the case of any document incorporated by reference, the date of that document, and we do not undertake any obligation to update any forward-looking statement to reflect events or circumstances after the date of this Report, or for changes made to this document by wire services or internet service providers. If we update or correct one or more forward-looking statements, investors and others should not conclude that we will make additional updates or corrections with respect to other forward-looking statements.

Company Overview and Recent Developments

We are a leading provider of hospitalist services in the United States. Hospitalist medicine is organized around inpatient care and is primarily focused on providing, managing and coordinating the care of hospitalized patients. Hospitalists practice in inpatient facilities, including acute care hospitals, long-term care facilities, specialty hospitals, psychiatric facilities and post-acute care facilities. We believe we are the largest dedicated hospitalist company in the United States based on revenues, patient encounters and number of affiliated hospitalists. Our early entry into the emerging hospitalist industry has permitted us to establish a reputation and leadership position that we believe is closely identified with hospitalist medicine.

Business Acquisitions

During the six months ended June 30, 2013, we acquired five hospitalist physician practices for a total estimated purchase price of $13,798,000. In connection with these acquisitions, we recorded property and equipment of $15,000, goodwill of $13,606,000 and identifiable intangible assets of $177,000. Total transaction costs of $26,000 for our acquisition activities during the six months ended June 30, 2013 were expensed as incurred.

In connection with these acquisitions, we recorded liabilities of $3,498,000 representing the fair value of future contingent considerations to be paid based upon the estimated achievement of certain operating results of the acquired practices as of certain measurement dates. The contingent consideration for two of these acquisitions was recorded on a provisional basis pending completion of the valuation studies as of the acquisition dates. The finalized fair value of contingent considerations is re-evaluated on a quarterly basis based on changes in our estimate of the operating results of future payments. The changes, if any, in fair value are recognized in our results of operations.

Rate Changes by Government Sponsored Programs

The Medicare program reimburses for our services based upon the rates set forth in the annually updated Medicare Physician Fee Schedule, which relies, in part, on a target-setting formula system called the Sustainable Growth Rate (SGR). Many private payors use the Medicare Physician Fee Schedule to determine their own reimbursement rates. Effective January 1, 2013, the Medicare update resulted in a slight increase in our net patient revenue per encounter. On July 19, 2013, the Centers for Medicare and Medicaid (CMS) published its proposed Medicare Physician Fee Schedule for calendar year 2014. We are currently evaluating the impact of this proposed Medicare Physician Fee Schedule on our financial position, results of operations and cash flows.

The annual Medicare Physician Fee Schedule update, based on the SGR, is adjusted to reflect the comparison of actual expenditures to target expenditures. Because one of the factors for calculating the SGR is linked to the growth in the U.S gross domestic product (GDP), the SGR formula may result in a negative payment update if growth in Medicare beneficiaries' use of services exceeds GDP growth, a situation which has occurred every year since 2002 and the reoccurrence of which we cannot predict.


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The SGR payment update for 2013 would have been a cut of 26.5 percent; however, the American Taxpayer Relief Act of 2012, enacted on January 2, 2013, delayed the implementation of the negative SGR payment update until January 1, 2014. In March 2013, CMS estimated a negative 24.4 percent update under the statutory SGR formula for calendar year 2014. The actual values used to compute physician payments for calendar year 2014 are scheduled to be published by November 1, 2013. While Congress has repeatedly intervened to mitigate the negative reimbursement impact associated with the SGR formula, there is no guarantee that Congress will continue to do so in the future. Moreover, the existing methodology may result in significant yearly fluctuations in the Medicare Physician Fee Schedule amounts, which may be unrelated to changes in the actual costs of providing physician services. Unless Congress enacts a change in the SGR methodology, the uncertainty regarding reimbursement rates and fluctuation will continue to exist. In June 2013, the House Energy and Commerce Committee leaders released a proposal to replace the SGR with a quality measure system, but House lawmakers have yet to formally adopt a plan for replacement.

Another provision that affects physician payments is an adjustment under the Medicare statute to reflect the geographic variation in the cost of delivering physician services, by comparing those costs to the national average. This concerns the "work" component of the Geographic Practice Cost Indices (GPCI). If Congress does not block this adjustment, payments would be decreased to any geographic area with an index of less than 1.0. The enactment of the American Taxpayer Relief Act of 2012 again delayed the GPCI payment adjustment through the end of 2013. Although Congress has delayed the GPCI payment adjustment several times, there is no guarantee that Congress will block the adjustment in the future, which could result in a decrease in the payments we receive for physician services. Because more than one year has lapsed since the last GPCI payment adjustment, in July 2013 CMS proposed for calendar year 2014 to phase in half of the GPCI payment adjustment that would otherwise be made.

The Budget Control Act of 2011 (BCA) established a Joint Select Committee on Deficit Reduction, which was tasked with achieving a reduction in the federal debt level of at least $1.2 trillion. That Committee did not draft a proposal by the BCA's deadline. As a result, automatic cuts in various federal programs were scheduled to take place, beginning in January 2013, including a two percent cut in Medicare payments to providers. The American Taxpayer Relief Act of 2012 again delayed implementation of the BCA's automatic cuts until March 1, 2013, and on March 1, 2013, President Obama signed a sequestration order that triggered the BCA's automatic cuts, including the two percent cut in Medicare payments to providers that was implemented effective April 1, 2013. Thus far, this two percent net reduction in Medicare reimbursement rates for the codes applicable to the services performed by our affiliated hospitalists reduced our net patient revenue per encounter by approximately 1.0 percent.

Several proposed rules recently released by CMS could also have implications on provider reimbursement if finalized. For example, on March 18, 2013, CMS published a proposed rule that would allow Medicare Part B payment for hospital inpatient services when a Part A claim is denied because the beneficiary should have been treated as an outpatient, rather than being admitted to the hospital as an inpatient. CMS issued another proposed rule on May 15, 2013 that reduces Medicaid disproportionate share hospital allotments in accordance with healthcare reform provisions. The final rule is scheduled to go into effect October 1, 2013, unless Congress enacts the President's Budget proposal to delay the Medicaid disproportionate share hospital allotment reductions until fiscal year 2015. On July 19, 2013, in its proposed Medicare Physician Fee Schedule for calendar year 2014, CMS proposed to, among other things, retool certain clinical quality measures in the Physician Quality Reporting System (PQRS) to more accurately assess the quality of care provided by hospital-based physicians who bill for Medicare Part B services. The impact of such modified measures on PQRS-based payment adjustments for hospitalists cannot be determined at this time.

In addition to these proposed regulatory changes affecting government reimbursement for health care services, the current instability of the federal budget may lead to legislation that could result in further cuts in Medicare and Medicaid payments to providers.

Healthcare Reform

In March 2010, the Patient Protection and Affordable Care Act, as amended by the Health Care and Education Reconciliation Act of 2010 (collectively, ACA) was enacted. The ACA includes a number of provisions that may affect our Company, although the impact of many of the changes will be unknown until they are implemented, which in some cases will not occur for a couple of years. The impact of some of these provisions have already proven to be positive, such as the ten percent Medicare bonus payment for primary care services (including outpatient and nursing home visits) from 2011 through 2015 to primary care practitioners for whom primary care services represented a minimum of 60 percent of Medicare allowed charges in a prior period, and the increase in Medicaid rates up to the level of Medicare rates (Medicaid Parity) in 2013 and 2014 for primary care services. Another positive provision is the expansion in the number of individuals with health insurance starting in January 2014.

The impact of other provisions is unknown at this time, such as the establishment of an Independent Payment Advisory Board that could recommend changes in payment for physicians under certain circumstances not earlier than January 15, 2014, which the U.S. Department of Health and Human Services (HHS) generally would be required to implement unless Congress enacts superseding legislation. Fraud and abuse penalty increases and the expansion in the scope of the reach of the federal False Claims Act and other government enforcement tools may adversely impact entities in the healthcare industry, including our Company.

The impact of certain provisions will depend upon the ultimate method of implementation. For example, the ACA requires HHS to develop a budget neutral value-based payment modifier that provides for differential payment under the Medicare Physician Fee Schedule for physicians or groups of physicians that is linked to quality of care furnished compared to cost. CMS has begun implementing the modifier through the Medicare Physician Fee Schedule rulemaking for 2013, by, among other things, specifying the initial performance period and how it will apply the upward and downward modifier for certain physicians and physician groups beginning January 1, 2015, as well as all physicians and physician groups starting not later than January 1, 2017. In July 2013, CMS proposed expanding the scope of physicians subject to the value-based payment modifier in calendar year 2016 from physicians in groups of 100 or more eligible professionals, to physicians in groups with at least 10 eligible professionals. Although CMS has considered whether it should develop a value-based payment modifier option for hospital-based physicians, it has decided to deal with this issue in future rulemaking. The impact of this payment modifier cannot be determined at this time.

In addition, certain provisions of the ACA authorize voluntary demonstration projects, which include the development of bundling payments for acute, inpatient hospital services, physician services, and post-acute services for episodes of hospital care. The Medicare Acute Care Episode Demonstration is currently underway at five health care system demonstration sites. The impact of these projects on our Company cannot be determined at this time.


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Seasonality and Quarterly Fluctuations

We have historically experienced and expect to continue to experience quarterly fluctuations in net revenue and income from operations. Absent the impact and timing of acquisitions, our net revenue has historically been higher in the first and fourth quarters of the year primarily due to the following factors:

the number of physicians we have on staff during the quarter, which may fluctuate based upon the timing of hires due to the end of the academic year for graduating resident physicians, the schedule of the Internal Medicine Board exams and terminations in our existing practices; and

fluctuations in patient encounters, which are impacted by hospital census, which can be volatile, and physician productivity and often reflect seasonality due to the higher occurrence of illnesses such as flu and pneumonia in patient populations in the first quarter.

We have significant fixed operating costs, including physician practice salaries and benefits and, as a result, are highly dependent on patient encounters and the productivity of our affiliated hospitalists to sustain profitability. Additionally, quarterly results may be affected by the timing of practice acquisitions and the hiring and termination of our affiliated hospitalists.

Results of Operations and Operating Data

The following table sets forth operating data and selected consolidated
statements of income information stated as a percentage of net revenue:



                                             Three Months Ended                    Six Months Ended
                                                  June 30,                             June 30,
                                          2013               2012              2013               2012

Operating data - patient encounters      1,513,000          1,345,000         3,089,000          2,700,000

Net revenue                                  100.0 %            100.0 %           100.0 %            100.0 %
Operating expenses:
Cost of services - physician
practice salaries, benefits and
other                                         73.1 %             73.2 %            73.2 %             73.2 %
General and administrative                    15.9 %             15.9 %            15.7 %             15.7 %
Net change in fair value of
contingent consideration                      (3.6 )%             0.3 %            (2.1 )%             0.2 %
Depreciation and amortization                  0.9 %              0.8 %             0.8 %              0.7 %

Total operating expenses                      86.3 %             90.2 %            87.6 %             89.8 %

Income from operations                        13.7 %              9.8 %            12.4 %             10.2 %

Investment income                              0.0 %              0.0 %             0.0 %              0.0 %
Interest expense                               0.0 %              0.0 %             0.0 %             (0.1 )%

Income before income taxes                    13.7 %              9.8 %            12.4 %             10.1 %
Income tax provision                           5.3 %              3.7 %             4.8 %              3.8 %

Net income                                     8.4 %              6.1 %             7.6 %              6.3 %

Three months ended June 30, 2013 compared to three months ended June 30, 2012

Our patient encounters for the three months ended June 30, 2013 increased by 168,000 encounters or 12.5% to 1,513,000, compared to 1,345,000 for the same period in the prior year. Net revenue for the three months ended June 30, 2013 was $145.8 million, an increase of $17.3 million, or 13.5%, from $128.5 million for the three months ended June 30, 2012. Of this $17.3 million increase, 72% was attributable to same-market area growth and 28% was attributable to revenue generated


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from operations in new markets. Same-market encounters increased 7.7%, same-market revenue increased 9.8% and same-market patient revenue per encounter increased 1.3%. The 1.3% increase was largely due to a combination of Medicare fee schedule rate increases and Medicaid parity, partially offset by the sequestration that took effect April 1, 2013. Medicaid parity represents an increase in Medicaid payments up to Medicare reimbursement levels for 2013 and 2014 in accordance with the Patient Protection and Affordable Care Act of 2010, as amended. Same-market areas are those geographic areas in which we have had operations for the entire current period and the entire comparable prior period. Because in-market area acquisitions are often small practice groups which become subsumed within our existing practice groups and are managed by our existing regional management staff, we consider these as part of our same-market area growth.

Physician practice salaries, benefits and other expenses increased by $12.6 million or 13.4% to $106.6 million, or 73.1% of net revenue, for the three months ended June 30, 2013 as compared to $94.0 million, or 73.2% of net revenue, for the same period in the prior year. The increase in practice costs is largely related to the increase in the number of hospitalists added through hiring and acquisitions during the period. Same-market area physician costs increased a total of $9.2 million, which was primarily the result of increased costs related to our new hires or acquired physician practices. In addition, $3.4 million of the $12.6 million overall cost increase is attributable to physician costs associated with our entrance into new markets.

General and administrative expenses include all salaries, benefits and operating expenses not specifically related to the day-to-day operations of our physician group practices, including billing and collections functions, our regional and market-area administrative offices and our corporate management and overhead. General and administrative expenses increased $2.8 million, or 13.7%, to $23.2 million, or 15.9% of net revenue, for the three months ended June 30, 2013, as compared to $20.4 million, or 15.9% of net revenue, for the same period in the prior year. The increase in expense was primarily the result of increased costs to support the continuing growth of our operations and acquisitions, including new regional office costs and other expenses. Excluding stock based compensation, general and administrative expenses were 14.7 % and 14.6% of revenue for the three months ended June 30, 2013 and 2012, respectively.

The net change in fair value of contingent consideration for acquisitions ("net change in fair value") was a $5.3 million credit to expense and a $0.4 million increase to expense for the three months ended June 30, 2013 and 2012, respectively. The $5.3 million credit was largely associated with an acquisition in the behavioral health subspecialty. Though the acquisition has proven to be profitable and continues to grow, it is growing slower than our original assumption, resulting in a reduction of our estimate of contingent consideration payable and a credit to expense. Because the fair value of contingent consideration is generally based on a certain multiple of operating results of the acquired practices during a certain measurement period, a moderate change in projected operating results can result in a large change to the fair value of such contingent consideration.

Income from operations increased $7.4 million, or 58.6%, to $20.0 million from $12.6 million for the same period in the prior year. Our operating margin was 13.7% and 9.8% for the three months ended June 30, 2013 and 2012, respectively. Excluding the net change in fair value, income from operations for the three months ended June 30, 2013 increased 13.1% to $14.8 million, or an operating margin of 10.1%, compared to income from operations of $13.1 million, or an operating margin of 10.2% for the same period in 2012.

Our effective tax rate for the three months ended June 30, 2013 was 38.3% compared to 37.5% for the three months ended June 30, 2012. The increase in the effective tax rate was primarily related to a change in state tax laws in November 2012. The effective tax rate differs from the statutory U.S. federal rate of 35.0% due primarily to state income taxes.

Net income for the three months ended June 30, 2013 increased to $12.3 million from $7.8 million for the three months ended June 30, 2012, and our net income margin was 8.4% for the three months ended June 30, 2013, as compared to 6.1% for the same period in the prior year. Earnings per share for the three months ended June 30, 2013 was $0.71 diluted earnings per share, compared to $0.46 diluted earnings per share for the same period in 2012. Excluding the net change in fair value, net income for the three months ended June 30, 2013 increased 11.7% to $9.1 million, or $0.53 diluted earnings per share, compared to net income of $8.1 million, or $0.48 diluted earnings per share for the same period in 2012.

Six months ended June 30, 2013 compared to six months ended June 30, 2012

Our patient encounters for the six months ended June 30, 2013 increased by 389,000 encounters or 14.4% to 3,089,000, compared to 2,700,000 for the same period in the prior year. Net revenue for the six months ended June 30, 2013 was $298.8 million, an increase of $40.5 million, or 15.7%, from $258.3 million for the six months ended June 30, 2012. Of this $40.5 million increase, 75% was attributable to same-market area growth and 25% was attributable to revenue generated from operations in new markets. Same-market encounters increased 9.9%, same-market revenue increased 11.9% and same-market patient revenue per encounter increased 1.6%. The 1.6% increase was largely due to a combination of Medicare fee schedule rate increases and Medicaid parity.


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Physician practice salaries, benefits and other expenses increased by $29.5 million or 15.6% to $218.7 million, or 73.2% of net revenue, for the six months ended June 30, 2013 as compared to $189.1 million, or 73.2% of net revenue, for the same period in the prior year. The increase in practice costs is largely related to the increase in the number of hospitalists added through hiring and acquisitions during the period. Same-market area physician costs increased a total of $22.2 million, which was primarily the result of increased costs related to our new hires or acquired physician practices. In addition, $7.3 million of the $29.5 million overall cost increase is attributable to physician costs associated with our entrance into new markets.

General and administrative expenses increased $6.6 million, or 16.2%, to $47.1 million, or 15.7% of net revenue, for the six months ended June 30, 2013, as compared to $40.5 million, or 15.7% of net revenue, for the same period in the prior year. The increase in expense was primarily the result of increased costs to support the continuing growth of our operations and acquisitions, including new regional office costs and other expenses. Excluding stock based compensation, general and administrative expenses were 14.5% of revenue for the six months ended June 30, 2013 and 2012.

The net change in fair value of contingent consideration for acquisitions ("net change in fair value") was a $6.4 million credit to expense and a $0.5 million increase to expense for the six months ended June 30, 2013 and 2012, respectively. The $6.4 million credit was primarily associated with an acquisition in the behavioral health subspecialty. Though the acquisition has proven to be profitable and continues to grow, it is growing slower than our original assumption, resulting in a reduction of our estimate of contingent consideration payable and a credit to expense. Because the fair value of contingent consideration is generally based on a certain multiple of operating results of the acquired practices during a measurement period, a moderate change in projected operating results can result in a large change to the fair value of such contingent consideration.

Income from operations increased $10.9 million, or 41.2%, to $37.2 million from $26.3 million for the same period in the prior year. Our operating margin was 12.4% and 10.2% for the six months ended June 30, 2013 and 2012, respectively. Excluding the net change in fair value, income from operations for the six months ended June 30, 2013 increased 14.8% to $30.8 million, or an operating margin of 10.3%, compared to income from operations of $26.8 million, or an operating margin of 10.4% for the same period in 2012.

Our effective tax rate for the six months ended June 30, 2013 was 38.3% compared to 37.5% for the six months ended June 30, 2012. The increase in the effective tax rate was primarily related to a change in state tax laws in November 2012. The effective tax rate differs from the statutory U.S. federal rate of 35.0% due primarily to state income taxes.

Net income for the six months ended June 30, 2013 increased to $22.8 million from $16.3 million for the six months ended June 30, 2012, and our net income margin was 7.6% for the six months ended June 30, 2013, as compared to 6.3% for the same period in the prior year. Earnings per share for the six months ended June 30, 2013 was $1.33 diluted earnings per share, compared to $0.97 diluted earnings per share for the same period in 2012. Excluding the net change in fair value, net income for the six months ended June 30, 2013 increased 13.3% to $18.9 million, or $1.10 diluted earnings per share, compared to net income of $16.7 million, or $0.99 diluted earnings per share for the same period in 2012.

Liquidity and Capital Resources

As of June 30, 2013, we had approximately $77.6 million in liquidity, which is composed of $7.9 million in cash and cash equivalents and an available line of credit of $69.7 million. During the three months ended June 30, 2013, we repaid $15.0 million of our outstanding revolving line of credit. We had borrowings of $5.0 million from our revolving line of credit outstanding at June 30, 2013, which was subsequently paid off in July 2013.

Net cash provided by operating activities was $20.5 million and $18.2 million for the six months ended June 30, 2013 and 2012, respectively. The changes in . . .

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