Catholic Health Initiatives Third Quarter Financial Report, FY 2017

Is it good enough to turn the tide for CHI?

Catholic Health Initiatives released today its most recent quarterly report covering the first 9 months ending March 31, 2017. Making sense out of the raw financial numbers is for me probably like having a banker decipher a complicated clinical trial or biochemical research paper. I will leave it to the financial experts to explain it to us. To my first pass and naive evaluation, it looks like CHI is hanging on, but not improving to the extent needed to deal with its $8.8 Billion dept. I suspect this is not going to help their bond rating very much. This report reveals much about why CHI is taking the drastic downsizing actions in Kentucky that we are now seeing unroll. This may be an existential move for the company.

At the end of this article, I show extracted verbatim text from the report that I think will be of interest to us here in Louisville and Kentucky. You can read the full report yourself here.

In summary:

• It is very clear that KentuckyOne Health is the weak sister of the CHI regions.

•In Louisville, University Medical Center (UMC) making a profit. (This is not the same as University of Louisville Hospital, is it?) On dissolution of the UofL partnership. CHI expects to incur a loss of $279.4 million, but I have no understanding what that means. Who can help us?

•CHI hopes to close on its facilities that have been designated for sale by the end of 2017. Those facilities lost $61 million in the first three quarters. The estimated total assets for the KentuckyOne operations being divested as of March 31 2017 is $534.9 million. KentuckyOne/CHI hopes to complete the sale(s) by the end of the year.

•The possible merger with Dignity is not a sure thing.

•CHI has been selling other of its physical assets to raise money to the tune of over $1 billion in gross proceeds. (Does this go to its current bottom line and make matters look better in the current year?) It now must pay rent to the new owners of $52.7 million yearly.

•KentuckyOne Health won its first few cases in the litigation over unnecessary angioplasties in St. Joseph London, but began to lose the most recent cases with high monetary verdicts. Settlements are now being made for at least some cases. I suspect this is not going to be cheap.

What does the statement say to you? I expect many others in the business world are going to help us tomorrow. If I have made mistakes in reading this report, help me fix them.

Peter Hasselbacher, MD
President, KHPI
Emeritus Professor of Medicine, UofL
May 19, 2017

Text Extracted from the Report:

About Dissolution of JOA With UMC:
For the nine months ended March 31, 2017, UMC reported total operating revenues of $382.0 million and excess of revenues over expenses of $13.1 million. The CHI consolidated balance sheets also included UMC total assets of $543.3 million as of March 31, 2017. Upon the disposition described herein. CHI expects to incur a loss of approximately $279.4 million.

In May 2017, CHI approved a plan to sell certain of the KentuckyOne operations located in Louisville, Kentucky. CHI will begin to market the sale of these operations and anticipates to close on a sale by the end of the calendar year.

Yield on Sale of KentuckyOne Facilities:
Estimated results for the KentuckyOne operations being divested were as follows: For the three months ended March 31, 2017 and 2016, total operating revenues of $231.0 million and $221.3 million, respectively, and a deficit of revenues over expenses of $(12.7) million and $(23.8) million, respectively. For the nine months ended March 31, 2017 and 2016, total operating revenues of $679.0 million and $661.5 million, respectively, and a deficit of revenues over expenses of $(61.0) million and $(72.0) million, respectively. The CHI consolidated balance sheets also included estimated total assets for the KentuckyOne operations being divested of $534.9 million and $485.5 million as of March 31, 2017 and June 30, 2016.

About Dignity Merger:
Dignity owns and operates health care facilities in California, Arizona and Nevada, including 39 hospitals. As of and for the fiscal year ended June 30, 2016, Dignity reported approximately $17.1 billion of total assets, $6.2 billion of net assets and $12.6 billion in total operating revenue. Any definitive agreement would need to be approved by Dignity’s governing body and both organizations’ Boards, and also requires the approval by the California Attorney General and other regulatory agencies as well as satisfaction of customary closing conditions. CHI can give no assurance that the transaction will occur.

Real Estate Asset Sales.
In April 2016, CHI entered into an agreement to sell certain real estate assets as part of a long-term effort to improve the mix of owned and leased real estate. The sale of the majority of that real estate portfolio closed in fiscal year 2016 for gross proceeds of $601.7 million and a total net book value of $323.3 million.

During the nine months ended March 31, 2017, CHI sold certain additional real estate assets and entered into multi-year operating lease agreements with the buyers. Those assets were sold for gross proceeds of $247.7 million and had a total net book value of $216.9 million.

Paying rent of $40.1 M and $12.6 M yearly to the new owners.

CHI expects to close on the sale of certain additional real estate assets by June 30, 2017, with gross proceeds of approximately $175 million.

Operating EBIDA:
However, operating EBIDA before restructuring, impairment and other losses in the Arkansas, Iowa, Texas, Nebraska, North Dakota/Minnesota and Kentucky regions decreased $(36.2) million for the three months ended March 31, 2017, compared to the same period of the prior fiscal year.

Kentucky had the lowest Operating EBIDA of all the regions- 3.3% FY to date.

CHI continues to address labor productivity in certain regions, most notably in the Kentucky and Texas regions, as well as growth initiatives in certain physician practices where labor costs have been added in anticipation of future increased patient volumes. CHI is currently implementing several ongoing labor productivity improvement initiatives throughout CHI, with a particular focus on the Kentucky and Texas regions.

Kentucky Notes:
The region’s operating EBIDA before restructuring, impairment and other losses totaled $20.0 million for the three months ended March 31, 2017, and decreased $(2.3) million compared to the corresponding period of the prior fiscal year. Net patient services revenues increased $17.9 million, for the three months ended March 31, 2017, including $12.6 million in patient volumes offset by unfavorable shirts in payer mix of $(6.9) million compared to the same period of the prior fiscal year. Total labor as a percentage of net patient services revenue decreased to 47.8% compared to 48.4% in the same period of the prior fiscal year, representing a favorable expense variance of $3.4 million. The Kentucky region is continuing its efforts to address nursing and other staff shortages which have resulted in increases to overall labor costs, including contract labor costs, and overtime and premium pay.

Operating Results Nine Months Ending March 341, 2017:
Kentucky – the region’s operating EBIDA before restructuring, impairment and other losses totaled $31.7 million for the nine months ended March 31, 2017, and decreased $(55.6) million compared to the corresponding period of the prior fiscal year due to increased operating expenses, primarily in labor costs, outpacing net patient services revenues growth. Net patient services revenues increased $11.6 million, including unfavorable shifts in payer mix ($20.2) million, acuity ($12.3) million and service mix ($8.9) million, offset by improved collections and contract rate improvements. Total labor as a percentage of net patient services revenues increased to 49.2% compared to 45.7% in the same period of the prior fiscal year, representing an unfavorable expense variance of $(59.2) million. The Kentucky region is continuing its efforts to address nursing and other staff shortages which have resulted in increases to overall labor costs, including a $16.6 million increase to contract labor costs as well as overtime and premium pay. Operations for the nine months ended March 31, 2017 were favorably impacted by a $14.3 million decrease in a contingent consideration liability as a result of planned payments related to certain obligations to the UofL affiliation with KentuckyOne Health.

Debt:
Total CHI Debt $8.81 Billion.

Litigation:
St. Joseph–London. Following a voluntary disclosure of compliance-related issues concerning cardiac stent cases performed at a CHI direct affiliate, St. Joseph London (“SJHS”), by a single, independent/non-employed interventional cardiologist, on January 22, 2014, SJHS entered into a settlement agreement with the federal government, the Commonwealth of Kentucky, and three relators and paid $16.5 million to resolve civil and administrative monetary claims raised in a qui tam lawsuit relating to certain diagnostic and therapeutic cardiac procedures performed at SJHS’s facility and the financial relationship with certain cardiac physicians and physician groups. In addition, SJHS entered into a five-year corporate integrity agreement (“CIA”) with the OIG that imposes certain compliance oversight obligations solely at SJHS’s facility. The CIA is approaching the end of its third year.

In a separate matter, numerous civil lawsuits have been filed against the Corporation and SJHS claiming damages for alleged unnecessary cardiac stent placements and other cardiac procedures. Both CHI and SJHS are vigorously defending these lawsuits. The first case, Edward Marshall, et al. v. Catholic Health Initiatives et al., Case No. 11-CI-00972, was tried to a defense verdict in favor of both CHI and SJHS. Plaintiffs agreed to dismiss the second case to be tried, Blair Apgar and Mary Apgar, his wife v. Catholic Health Initiatives, et al., Case No. 12-CI-00445. CHI and SJHS were dismissed before trial from the third case to be tried, James Davis, part of Anthony Adams et al. v. Catholic Health Initiatives, et al., Case No. 12-CI-00802, which resulted in a defense verdict in favor of the remaining defendants. The fourth case, LeMaster v. Catholic Health Initiatives, et al., Case No. 12-CI-00975, which was originally scheduled for trial in April 2016, was dismissed by the court following a grant of summary judgment in favor of SJHS due to plaintiff’s failure to establish a causal link between the alleged negligence and plaintiff’s injuries. The fifth case, Dolly Wathen, also part of Anthony Adams, et al. v. Catholic Health Initiatives, et al., Case No. 12-CI-00802, was dismissed by plaintiffs prior to trial. The sixth case, Kevin Ray Wells, Sr. v. Catholic Health Initiatives, et. al., Case No. 12-CI-00090, was tried to verdict in August 2016. The jury found in favor of the plaintiff and awarded compensatory damages in an amount just under $1.3 million and punitive damages of $20.0 million. Post-trial motions have been filed and, while the trial court did not set aside the verdict, it did reduce the punitive damage award to $5.0 million. The rulings of the trial court are now being appealed. The E/O Vada Owens v. Catholic Health Initiatives, et al. Case No. 12-CI-00405 commenced trial on January 9, 2017 in the Circuit Court of Laurel County with the Honorable Judge Lay presiding. Prior to the case going to the jury, a Settlement in Principle was reached with Plaintiffs on all of the cardiac claims, including the E/O Owens, but excluding Kevin Wells which is on appeal. Management believes that adequate reserves have been established and that the outcome of the current litigation will not have a material adverse effect on the financial position or results of operations of CHI.