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USMD > SEC Filings for USMD > Form 10-Q on 13-Aug-2013All Recent SEC Filings

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Form 10-Q for USMD HOLDINGS, INC.


13-Aug-2013

Quarterly Report


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

This section should be read in conjunction with the accompanying condensed consolidated financial statements. As used in this Quarterly Report on Form 10-Q, the terms "Holdings," the "Company," "we," "us" and "our" refer to USMD Holdings, Inc. and its consolidated subsidiaries (collectively, "Holdings"). The purpose of this section, Management's Discussion and Analysis of Financial Condition and Results of Operations, is to provide a narrative explanation of our financial statements that enables investors to better understand our business, to enhance our overall financial disclosures, to provide the context within which our financial information may be analyzed and to provide information about the quality of, and potential variability of, our financial condition, results of operations and cash flows.

Forward-Looking Statements

This Quarterly Report on Form 10-Q contains, and from time to time management may make, statements that may constitute "forward-looking statements" within the meaning of the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements are not historical facts but instead represent management's current expectations regarding future events, many of which, by their nature, are inherently uncertain and outside its control. The forward-looking statements contained in this Quarterly Report are based on information as of the date of this Quarterly Report on Form 10-Q. Many of these forward-looking statements relate to future industry trends, actions, future performance or results of current and anticipated initiatives and the outcome of contingencies and other uncertainties that may have a significant impact on our business, future operating results and liquidity. Whenever possible, we identify these statements by using words such as "anticipate," "believe," "estimate," "continue," "intend," "expect," "plan," "forecast," "project" and similar expressions, for future-tense or conditional constructions ("will," "may," "should," "could," etc.). We caution you that these statements are only predictions and are not guarantees of future performance. These forward-looking statements and our actual results, developments and business are subject to certain risks and uncertainties that could cause actual results and events to differ materially from those anticipated by these statements. By identifying these statements for you in this manner, we are alerting you to the possibility that our actual results may differ, possibly materially, from the anticipated results indicated in these forward-looking statements. We assume no obligation to update or revise any forward-looking statements, whether as a result of new information or future events, except as required by law. Many factors that could cause actual results to differ from those in the forward-looking statements including, among others, those discussed under "Risk Factors," in our Registration Statement on Form S-4 and those described elsewhere in this Quarterly Report on Form 10-Q and from time to time in our future reports filed with the Securities and Exchange Commission (the "SEC").

Executive Overview

Background

USMD Holdings, Inc., a Delaware corporation, was formed on May 7, 2010 to facilitate the business combination of USMD Inc., a Texas corporation ("USMD"), Urology Associates of North Texas, L.L.P., a Texas limited liability partnership ("UANT"), and UANT Ventures, L.L.P., a Texas limited liability partnership ("Ventures"). On August 19, 2010, Holdings, USMD, Ventures and UANT entered into a Contribution and Purchase Agreement (such agreement, the "Original Contribution Agreement") pursuant to which the entities would combine into a single integrated health services company (such transaction, the "Contribution"). Immediately prior to the Contribution, a subsidiary of Ventures would merge into UANT, resulting in UANT's becoming a wholly owned subsidiary of Ventures, and certain of the USMD shareholders would contribute all or a portion of their shares of USMD common stock to Ventures in exchange for partnership interests in Ventures. When the Contribution was consummated, Ventures would contribute its assets, which would include its equity interests in USMD and UANT, and the remaining USMD shareholders would contribute their USMD shares, to Holdings in exchange for shares of Holdings common stock. Holdings described the Contribution in its Registration Statement on Form S-4 filed with the SEC on December 23, 2010 and declared effective by the SEC on July 25, 2011. On August 23, 2011, the shareholders of USMD and the partners of Ventures voted on and approved the Original Contribution Agreement.

Prior to the consummation of the Contribution, on December 1, 2011, Ventures and Holdings entered into a merger agreement with The Medical Clinic of North Texas, P.A., a Texas professional association ("MCNT"), and on December 15, 2011, Ventures and Holdings entered into a merger agreement with Impel Management Services, L.L.C., a Texas limited liability company ("Impel"). These merger agreements provided that subsidiaries of Ventures would merge into each of MCNT and Impel, resulting in these businesses becoming wholly owned subsidiaries of Ventures prior to the closing of the Contribution. As a result of these merger agreements, on February 9, 2012, Holdings, USMD, UANT and Ventures executed an amendment to the Original Contribution Agreement (the "Amendment") to reflect, among other changes, that Ventures would contribute to Holdings, in addition to its equity interests in USMD and UANT, its equity interests in MCNT and Impel as part of the Contribution. Holdings described these transactions in a post-effective amendment to its Registration Statement on Form S-4 filed with the SEC on February 10, 2012, which was declared effective on April 30, 2012. On May 21, 2012, Ventures, Holdings, MCNT and Impel executed corresponding amendments to the merger agreements. On May 29, 2012, the equity holders of USMD, Ventures, MCNT and Impel voted on and approved the Amendment. On August 31, 2012, Holdings and the other parties consummated the Contribution, inclusive of the mergers.

For accounting purposes, the Contribution qualifies as a business combination and was accounted for as a reverse acquisition by USMD into Holdings, previously a business combination related shell company. Under reverse acquisition accounting, the financial statements are issued in the name of the legal parent
(Holdings), but represent a continuation of the accounting acquirer's (USMD)
financial statements, with an adjustment to retroactively restate USMD's legal capital to reflect the legal capital of Holdings. The assets and liabilities of USMD continue at their pre-Contribution carrying values. The assets and liabilities of Holdings are recorded at fair value at the acquisition date, which, for Holdings, equaled their carrying values. The assets acquired and liabilities assumed from Ventures, UANT, MCNT and Impel (collectively, the "acquired businesses") are recorded at their respective fair values at the acquisition date. Holdings' statements of operations, comprehensive income and cash flows for the six months ended June 30, 2012 only include the historical results, comprehensive income and cash flows of USMD for that period.


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The Business of Holdings

The Contribution created an innovative physician-led integrated health system committed to maintaining the vital doctor-patient relationship that we believe results in higher quality and more affordable patient care. Our focus and the focus of our healthcare providers is to deliver higher quality, more convenient, cost effective health care to our patients. We believe our model brings primary care and specialist physicians together and places them in their proper role as leaders of health care delivery, and that this important shift brings quality and patient satisfaction back to the forefront where it belongs by making our providers responsible for patient outcomes and the overall clinical experience.

In April 2013, the Company became an equal co-member of a Texas non-profit corporation ("WNI-DFW") that has been approved by the Texas Medical Board as a certified non-profit healthcare organization. WNI-DFW contracts with health insurance companies to manage patient care in the North Texas service area under a "risk contract." Risk contracting, or full risk capitation, refers to a model where we receive from the third party payer a defined amount per person per month in a population (a full dollar premium) in order to manage the healthcare of that population. In such a model, we are responsible for all cost of care of the population. The entity accomplishes this by managing patient care and by contracting with downstream health care providers to provide needed health care services for the patient population. This differs from the fee-for-service model where we are paid based on specific services performed.

We intend to expand our business in the North Texas service area by developing or acquiring complementary physician group practices and building or acquiring ancillary healthcare service providers. We also intend to expand our business in other strategic service areas by developing strategic alliances with large integrated practices. We believe that developing, acquiring or collaborating with targeted physician group practices and ancillary healthcare service providers will permit us to pursue more innovative compensation arrangements with health care consumers, such as risk contracting, and will place us in a position to achieve our goal of becoming a national fully integrated health services company.

For the periods presented, we had the following:

                                                 Six Months
                                               Ended June 30,
                                                    2013
                    Patient encounters (i)             443,560
                    New patients (ii)                   47,639
                    RVUs (iii)                         734,344
                    Lab tests (iv)                     471,137
                    Imaging procedures (iv)             34,756




                                                       Six Months Ended June 30,
                                                       2013                2012
  Cancer treatment center fractions treated (iv)          27,111              35,110
  Lithotripsy cases (iv)                                   4,631               4,588

(i) A patient encounter is registered when a patient sees their physician.

(ii) New patients are registered for patients not previously seen by a service provider within our system.

(iii) Relative Value Units ("RVUs") are equivalent to physician work RVUs as defined by the Medicare Physician Fee Schedule. RVUs reflect the relative level of time, skill, training and intensity required of a physician to provide a given service. We use RVUs as measures of physician performance and utilization and RVUs are also a component of physician compensation.

(iv) Lab tests, imaging procedures, cancer treatment center fractions and lithotripsy cases are all production metrics based on Current Procedural Terminology codes.

We use various evidence-based quality metrics such as specific cancer screenings to measure how well our physicians manage their panel of patients. We believe our quality criteria have enabled us to reduce the total medical cost of care of our managed patients, including reductions in emergency room visits and hospital readmissions. We use these and other metrics to measure the performance of our business.

Results of Operations

Effects of Reverse Acquisition

As a result of the August 31, 2012 Contribution, which was accounted for as a reverse acquisition by USMD into Holdings, results of operations and cash flows have limited comparability to prior periods. Our results of operations for the three and six months ended and cash flows for the six months ended June 30, 2013 include the results of operations and cash flows of the consolidated post-Contribution Holdings. Our results of operations for the three and six months ended and cash flows for the six months ended June 30, 2012 include only the historical results and cash flows of USMD for that period.


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Three Months Ended June 30, 2013 Compared to Three Months Ended June 30, 2012

The following table summarizes our results of operations for the periods
indicated and is used in the discussions that follow (dollars in thousands):



                                                                                                   Three  Months
                                                   Three Months Ended June 30,                        Variance
                                                 2013                       2012                   2013 vs. 2012
                                          Amount        Ratio        Amount        Ratio        Amount        Ratio
Revenues:
Net patient service revenue              $ 45,740         78.6 %    $     -           0.0 %    $ 45,740           n/a
Management services revenue                 7,091         12.2 %       5,687         49.5 %       1,404          24.7 %
Lithotripsy revenue                         5,386          9.3 %       5,795         50.5 %        (409 )        -7.1 %

Net operating revenue                      58,217        100.0 %      11,482        100.0 %      46,735         407.0 %

Operating expenses:
Salaries, wages and employee benefits      39,017         67.0 %       5,245         45.7 %      33,772         643.9 %
Medical supplies and services expense       6,194         10.6 %          94          0.8 %       6,100        6489.4 %
Rent expense                                3,776          6.5 %         117          1.0 %       3,659        3127.4 %
Provision for doubtful accounts                49          0.1 %          36          0.3 %          13          36.1 %
Other operating expenses                    6,797         11.7 %       1,978         17.2 %       4,819         243.6 %
Depreciation and amortization               1,939          3.3 %         272          2.4 %       1,667         612.9 %

Total Operating Expenses                   57,772         99.2 %       7,742         67.4 %      50,030         646.2 %

Income from operations                        445          0.8 %       3,740         32.6 %      (3,295 )       -88.1 %
Other income, net                           2,389          4.1 %         371          3.2 %       2,018         543.9 %

Income before provision for income
taxes                                       2,834          4.9 %       4,111         35.8 %      (1,277 )       -31.1 %
Provision for income taxes                    168          0.3 %         279          2.4 %        (111 )       -39.8 %

Net income                                  2,666          4.6 %       3,832         33.4 %      (1,166 )       -30.4 %
Less: net income attributable to
noncontrolling interests                   (2,408 )       -4.1 %      (3,262 )      -28.4 %         854         -26.2 %

Net income attributable to USMD
Holdings, Inc.                           $    258          0.4 %    $    570          5.0 %    $   (312 )       -54.7 %

Revenues

Net operating revenue increased $46.7 million to $58.2 million for the three months ended June 30, 2013 as compared to the same period in 2012, due primarily to increases in net patient service revenue related to businesses acquired in the Contribution.

Management services revenue includes revenue earned through the provision of management and staffing services to our managed entities and increased 24.7% to $7.1 million for the three months ended June 30, 2013. Hospital management services revenue increased $0.3 million as a result of inflation adjustments to the reimbursable management costs and improvements in adjusted net operating revenue at USMD Hospital at Arlington, L.P. ("USMD Arlington") and USMD Hospital at Fort Worth L.P. ("USMD Fort Worth"). Cancer treatment center management services revenue increased $0.6 million in 2013 as compared to 2012 primarily due to a $0.9 million settlement payment offset by a $0.3 million decline in revenues in the managed Florida locations. During the second quarter of 2013, the Company entered into a settlement agreement related to the early termination of management agreements at four cancer treatment centers located in Florida. The remaining $0.5 million increase is related to businesses acquired in the Contribution.

Lithotripsy revenue consists of revenue of the consolidated lithotripsy entities, which decreased 7.1% to $5.4 million for the three months ended June 30, 2013 from $5.8 million for the same period in 2012. One of the consolidated lithotripsy entities ceased operations during the first quarter of 2013 resulting in a $0.2 million comparative decrease in revenue in the second quarter. A slight decrease in contract price rate for the remaining consolidated lithotripsy entities resulted in a $0.1 million decline.

Operating Expenses

Salaries, wages and employee benefits increased $33.8 million to $39.0 million for the three months ended June 30, 2013 from $5.2 million in 2012 due primarily to increases related to businesses acquired in the Contribution. The salaries, wages and employee benefits of the acquired businesses used to generate net patient service revenue have a higher relative cost than our historical salaries, wages and employee benefits. This higher cost of revenue accounted for the majority of the increase in salaries, wages and employee benefits as a percentage of net operating revenue to 67.0% in 2013 from 45.7% in 2012.

Medical supplies and services expense increased due to the nature of businesses acquired in the Contribution. The businesses provide health care services to patients in physician clinics and other health care facilities and utilize significant medical supplies and services in the provision of those services.

Rent expense increased related to businesses acquired in the Contribution. The acquired businesses provide their primary healthcare services in rented facilities.

Other operating expenses consist primarily of professional fees, purchased services, repairs & maintenance, travel expense and other expense. Other operating expenses increased 244% to $6.8 million for the three months ended June 30, 2013 from $2.0 million in 2012. The net increase is primarily related to expenses of businesses acquired in the Contribution.

Depreciation and amortization expense increased $1.7 million to $1.9 million for the three months ended June 30, 2013 from $0.3 million in 2012. The increase is due primarily to increases in depreciation and amortization of $1.2 million and $0.4 million, respectively, related to property and equipment and intangible assets acquired and recorded at fair value in the Contribution.


Table of Contents

Other Income, net

Other income, net increased $2.0 million to $2.4 million for the three months ended June 30, 2013 from $0.4 million in 2012 due primarily to a $2.4 million increase in equity in income of nonconsolidated affiliates. Increased ownership interests in USMD Arlington and USMD Fort Worth, as a result of the Contribution, accounted for $2.0 million of the increase. An additional $0.2 million increase is a result of increased profitability at USMD Arlington and USMD Fort Worth. Net interest expense increased $0.1 million as a result of the net increase in borrowings related to the Contribution, offset by an overall reduction in borrowing rates. A $0.1 million loss on the disposal of an asset in 2013 compared to a gain of $0.1 million in 2012 resulted in the remaining $0.2 million decrease.

Provision for Income Taxes

Holdings' effective tax rates were 5.9% and 6.8% for the three months ended June 30, 2013 and 2012, respectively. The decrease in the effective rate is primarily due to the decline of net income attributable to noncontrolling interests.

Net Income Attributable to Noncontrolling Interests

Noncontrolling interests eliminate the income or loss attributable to non-Holdings ownership interests in our consolidated entities. Net income attributable to noncontrolling interests decreased $0.9 million to $2.4 million for the three months ended June 30, 2013 from $3.3 million in 2012. Holdings' increased ownership interest in three of the consolidated lithotripsy entities as a result of the Contribution accounted for $0.7 million of the decrease and the dissolution of a consolidated lithotripsy entity accounted for $0.1 million of the decrease.

Six Months Ended June 30, 2013 Compared to Six Months Ended June 30, 2012

The following table summarizes our results of operations for the periods
indicated and is used in the discussions that follow (dollars in thousands):



                                                                                                     Six Months
                                                    Six Months Ended June 30,                         Variance
                                                 2013                       2012                   2013 vs. 2012
                                         Amount         Ratio        Amount        Ratio        Amount        Ratio
Revenues:
Net patient service revenue             $  91,371         79.4 %    $     -           0.0 %    $ 91,371           n/a
Management services revenue                13,073         11.4 %      11,707         51.6 %       1,366          11.7 %
Lithotripsy revenue                        10,665          9.3 %      11,000         48.4 %        (335 )        -3.0 %

Net operating revenue                     115,109        100.0 %      22,707        100.0 %      92,402         406.9 %

Operating expenses:
Salaries, wages and employee benefits      76,476         66.4 %      10,721         47.2 %      65,755         613.3 %
Medical supplies and services expense      11,474         10.0 %         196          0.9 %      11,278        5754.1 %
Rent expense                                7,175          6.2 %         246          1.1 %       6,929        2816.7 %
Provision for doubtful accounts                13          0.0 %          72          0.3 %         (59 )       -81.9 %
Other operating expenses                   13,311         11.6 %       3,870         17.0 %       9,441         244.0 %
Depreciation and amortization               3,882          3.4 %         537          2.4 %       3,345         622.9 %

Total operating expenses                  112,331         97.6 %      15,642         68.9 %      96,689         618.1 %

Income from operations                      2,778          2.4 %       7,065         31.1 %      (4,287 )       -60.7 %
Other income, net                           2,952          2.6 %         482          2.1 %       2,470         512.4 %

Income before provision for income
taxes                                       5,730          5.0 %       7,547         33.2 %      (1,817 )       -24.1 %
Provision for income taxes                    524          0.5 %         606          2.7 %         (82 )       -13.5 %

Net income                                  5,206          4.5 %       6,941         30.6 %      (1,735 )       -25.0 %
Less: net income attributable to
noncontrolling interests                   (4,892 )       -4.2 %      (5,988 )      -26.4 %       1,096         -18.3 %

Net income attributable to USMD
Holdings, Inc.                          $     314          0.3 %    $    953          4.2 %    $   (639 )       -67.1 %

Revenues

Net operating revenue increased $92.4 million to $115.1 million for the six months ended June 30, 2013 as compared to the same period in 2012, due primarily to increases in net patient service revenue related to businesses acquired in the Contribution.

Management services revenue includes revenue earned through the provision of management and staffing services to our managed entities and increased 11.7% to $13.1 million for the six months ended June 30, 2013. Hospital management services revenue increased $0.3 million as a result of inflation adjustments to the reimbursable management costs and improvements in adjusted net operating revenue at USMD Arlington and USMD Fort Worth. Cancer treatment center management services revenue increased $0.5 million in 2013 as compared to 2012 primarily due to a $0.9 million settlement payment offset by a $0.4 million decline in revenues in the managed Florida locations. During the second quarter of 2013, the Company entered into a settlement agreement related to the early termination of management agreements at four cancer treatment centers located in Florida. The remaining $0.6 million increase is related to businesses acquired in the Contribution.

Lithotripsy revenue consists of revenue of the consolidated lithotripsy entities, which decreased 3.0% to $10.7 million for the six months ended June 30, 2013 from $11.0 million for the same period in 2012. The decrease is primarily related to one of the consolidated lithotripsy entities that ceased operations during the first quarter of 2013.


Table of Contents

Operating Expenses

Salaries, wages and employee benefits increased $65.8 million to $76.5 million for the six months ended June 30, 2013 from $10.7 million in 2012 due primarily to increases related to businesses acquired in the Contribution. The salaries, wages and employee benefits of the acquired businesses used to generate net patient service revenue have a higher relative cost than our historical salaries, wages and employee benefits. This higher cost of revenue accounted for the majority of the increase in salaries, wages and employee benefits as a percentage of net operating revenue to 66.4% in 2013 from 47.2% in 2012.

Medical supplies and services expense increased due to the nature of businesses acquired in the Contribution. The businesses provide health care services to patients in physician clinics and other health care facilities and utilize significant medical supplies and services in the provision of those services.

Rent expense increased related to businesses acquired in the Contribution. The acquired businesses provide their primary healthcare services in rented facilities.

Other operating expenses consist primarily of professional fees, purchased services, repairs & maintenance, travel expense and other expense. Other operating expenses increased $9.4 million to $13.3 million for the six months ended June 30, 2013 from $3.9 million in 2012. The net increase is primarily related to expenses of businesses acquired in the Contribution.

Depreciation and amortization expense increased $3.3 million to $3.9 million for the six months ended June 30, 2013 from $0.5 million in 2012. The increase is due primarily to increases in depreciation and amortization of $2.5 million and $0.9 million, respectively, related to property and equipment and intangible assets acquired and recorded at fair value in the Contribution.

Other Income, net

Other income, net increased $2.5 million to $3.0 million for the six months ended June 30, 2013 from $0.5 million in 2012 due primarily to a $2.9 million increase in equity in income of nonconsolidated affiliates. Increased ownership interests in USMD Arlington and USMD Fort Worth, as a result of the Contribution, accounted for $2.6 million of the increase. An additional $0.3 . . .

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