01—Abstract
Summary
Summary of the 10-K filed March 14, 2006. Cited figures are marked; the original filing is the authoritative source.
HCA Inc. reported a solid 2005 for its 10-K filed March 14, 2006.
Revenues rose 4.1% to $24.455 billiona and net income grew 14.2% to $1.424 billion, or $3.19 per diluted share, versus $2.58 in 2004. Results were helped by several one-time items, including $83 million of professional liability reserve reductions, a $48 million favorable tax settlement, $78 million of facility sale gains, and a $24 million tax benefit from repatriated foreign earnings, partly offset by $60 million of hurricane-related costs. Underlying same-facility volume was nearly flat, with same-facility admissions up only 0.1%.
Revenue per equivalent admission grew 3.2% on a reported basis, but this was flattered by the new uninsured discount policy. Adjusting for the $769 millionb in uninsured discounts, growth was 6.3% to 6.5%, and that adjustment is central to reading the quality of the top line. The key credit and cash-flow issues are the balance sheet and collections.
Long-term debt was $10.475 billionc at year-end, and the company became more leveraged after a $2.5 billion modified Dutch auction tender offer, in which it repurchased 36.7 million shares for $1.856 billion in 2005. Operating cash flow was $3.159 billion, and the company issued $1.0 billion of 6.5% notes due 2016 in February 2006. The provision for doubtful accounts fell to 9.6% of revenues from 11.4%, but only because of the discount accounting change; adjusted for that, the provision rose to 12.4%.
Uninsured accounts remain a meaningful risk, and the filing shows the allowance covering about 85% of the $3.404 billiond patient-due receivable balance. Investors also face material legal and regulatory overhang. The company is under a federal securities class action, shareholder derivative suits, an ERISA suit, an SEC formal investigation, and a U.S. Attorney subpoena, all tied to trading in HCA securities and the July 2005 preliminary results announcement.
The IRS is also contesting about $776 million in claimed taxes, interest and penalties. Management says the company is cooperating, that the litigation is without merit, and that it does not expect a material adverse effect, but the outcome is uncertain. Future Medicare and Medicaid reimbursement pressure, including the DEFRA 2005 Medicaid cuts of about $4.8 billion over five years and the IRF 75-percent rule, adds further uncertainty to revenue growth.
02—Key points
Key Highlights
- Revenue grew 4.1% to $24.455 billion, but same-facility admissions rose only 0.1%, so growth depended on pricing and the uninsured discount accounting change.
- Net income rose 14.2% to $1.424 billion ($3.19 diluted EPS), helped by one-time items including $83 million of professional liability reserve reductions, a $48 million tax settlement, and $78 million of facility sale gains.
- Adjusted for the $769 million uninsured discount policy, revenue per equivalent admission rose 6.3%, and the provision for doubtful accounts was 12.4% of revenues rather than the reported 9.6%.
- Long-term debt was $10.475 billion at year-end 2005 after the $2.5 billion share repurchase program. The company issued $1.0 billion of 6.5% notes in February 2006, and its credit ratings were downgraded to BB+ range by S&P and Fitch in late 2004.
- Operating cash flow was $3.159 billion, and capital expenditures were $1.592 billion, with planned capex of about $1.9 billion for 2006.
- Securities class action, derivative suits, an ERISA suit, an SEC formal investigation, and a U.S. Attorney subpoena relate to trading in HCA stock and the July 2005 preliminary results announcement.
- The IRS is contesting about $776 million in claimed income taxes, interest and penalties, and began a new examination of 2003-2004 returns in February 2006.
- Medicare and Medicaid policy risk is significant: DEFRA 2005 includes about $4.8 billion of Medicaid cuts over five years, and the IRF 75-percent rule is already reducing rehabilitation admissions.
03—Questions
Frequently Asked Questions
How much of HCA's 2005 earnings growth came from operations versus one-time items?
Net income rose $178 million, to $1.424 billion from $1.246 billion. Several non-recurring items helped: $83 million of professional liability reserve reductions ($0.12 per diluted share), a $48 million favorable tax settlement ($0.11), a $24 million tax benefit from repatriated foreign earnings ($0.05), and $78 million of facility sale gains ($0.08). These were partly offset by $60 million of hurricane costs ($0.08). Excluding these items, earnings growth was more modest, and management's operating performance is harder to isolate.
Is HCA's revenue growth real, or is it an accounting effect?
Part of the reported 4.1% revenue growth is an accounting effect. The January 2005 uninsured discount policy reduced reported revenue by $769 million. Same-facility admissions grew only 0.1%, and equivalent admissions grew 0.9%. Adjusting for the discount policy, revenues rose about 7.3%, and revenue per equivalent admission rose 6.3%. This suggests pricing and mix drove growth, but volume was weak, and the reported figures are not directly comparable to 2004.
What is the main financial risk from the share repurchase program?
The company borrowed to fund its $2.5 billion modified Dutch auction tender offer and repurchased about 36.7 million shares for $1.856 billion in 2005. Long-term debt stood at $10.475 billion, interest expense rose to $655 million, and the average interest rate increased to 7.0%. Stockholders' equity was $4.863 billion. Credit ratings had already been downgraded to the BB+ range in late 2004, so higher leverage limits financial flexibility and increases sensitivity to rising interest rates.
How serious are the legal and investigative matters facing HCA?
They are significant but unresolved. The matters include a federal securities class action, shareholder derivative suits in federal and state court, an ERISA suit, a shareholder demand letter, a U.S. Attorney subpoena, and an SEC formal investigation. These relate to trading in HCA securities and the July 2005 preliminary results announcement. Management says the allegations lack merit and it is cooperating. However, the company also operates under an eight-year Corporate Integrity Agreement with the OIG, and breach of that agreement could result in substantial penalties or exclusion from Medicare and Medicaid.
What are the main uncertainties for HCA's future revenue?
The main uncertainties are government reimbursement and payer mix. DEFRA 2005 includes about $4.8 billion of Medicaid cuts over five years, and proposed regulations could cut federal Medicaid funding by a further $12.2 billion. The IRF 75-percent rule is already reducing rehabilitation admissions. Medicare inpatient and outpatient updates may be reduced if Congress adopts MedPAC's recommendation of market basket minus 0.45 points. Managed care payers are pressing for discounts, and the uninsured population and bad-debt pressure continue to grow.
04—Continue