Item 2. Management’s Discussion and Analysis
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion of our financial condition and results of operations should be read in conjunction with our consolidated financial statements and the related notes included elsewhere in this Quarterly Report on Form 10-Q. The discussion contains forward-looking statements that are based on the beliefs of management, as well as assumptions made by, and information currently available to, our management. Readers are cautioned not to place undue reliance on any forward-looking statements, as forward-looking statements are not guarantees of future performance and the Company’s actual results may differ significantly due to numerous known and unknown risks and uncertainties, including those discussed below and in the section entitled “Cautionary Note on Forward-Looking Statements.” Those known risks and uncertainties include, but are not limited to, the risk factors identified in the section titled “Risk Factors” in this Quarterly Report on Form 10-Q and in our 2021 Annual Report on Form 10-K.
Overview
InnovAge Holding Corp. (“InnovAge”), formerly TCO Group Holdings, Inc., became a public company in March 2021. The Company serves approximately 6,990 PACE participants, and operates 18 PACE centers across Colorado, California, New Mexico, Pennsylvania and Virginia.
Impact of COVID-19
The rapid spread of COVID-19 around the world and throughout the United States has altered the behavior of businesses and people, with significant negative effects on federal, state and local economies, the duration of which continues to be unknown at this time. The virus has and continues to disproportionately impact older adults, especially those with chronic illnesses, which describes our participants.
Despite the challenges brought on by COVID-19, as of September 30, 2021, we continue care delivery through telehealth and at our centers, all of which remain fully opened. As economies around the world have reopened in 2021, sharp increases in demand are creating significant disruptions to the global supply chain. Global logistics network challenges have resulted in higher prices for the medical supplies we require. Uncertainties related to the magnitude and duration of global supply chain disruptions have adversely affected, and may continue to adversely affect, our business and outlook.
For additional information on the various risks posed by the COVID-19 pandemic, please see ‘Risk Factors’ included in our 2021 10-K.
Key Factors Affecting Our Performance
Our historical financial performance has been, and we expect our financial performance in the future to be, driven by the following factors:
● Our participants. We focus on providing all-inclusive care to frail, high-cost, dual-eligible seniors. We directly contract with government payors, such as Medicare and Medicaid, through PACE and receive a capitated risk-adjusted payment to manage the totality of a participant’s medical care across all settings. InnovAge manages participants that are, on average, more complex and medically fragile than other Medicare-eligible patients, including those in Medicare Advantage (“MA”) programs. As a result, we receive larger payments for our participants compared to MA participants. This is driven by two factors: (i) we manage a higher acuity population, with an average RAF score of 2.40 based on InnovAge data as of September 30, 2021, compared to an average RAF score of 1.08 for Medicare fee-for-service non-dual enrollees, as calculated in an analysis by Avalere Health in June 2020 of a cohort of individuals enrolled in Medicare Fee-for-Service in 2019 ; and (ii) we manage Medicaid spend in addition to Medicare. Our participants are managed on a capitated, or at-risk basis, where InnovAge is financially responsible for all of participant medical costs. Our comprehensive care model and globally capitated payments are designed to cover participants from enrollment until the end of life, including coverage for participants requiring hospice and palliative care. For dual-eligible participants, we receive PMPM payments directly from Medicare and
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Medicaid, which provides recurring revenue streams and significant visibility into our revenue growth trajectory. The Medicare portion of our capitated payment is risk-based on the underlying medical conditions and frailty of each participant.
● Our ability to grow enrollment and capacity within existing centers. We believe our demonstrated ability to drive sustained, organic census growth is a key indicator of the attractiveness of the InnovAge Platform to our key constituents: participants; their families and government payors. We have driven 10% annual, organic census growth over the last four fiscal years. Awareness of PACE programs remains low among potential participants, despite high levels of participant satisfaction. To improve awareness of InnovAge and attract new participants, our sales and marketing teams educate prospective participants and their families on our powerful value proposition, superior health outcomes and participant satisfaction. We have a large, embedded growth opportunity within our existing center base. As of September 30, 2021, our eligible participant penetration rate was, on average, 13% across our existing markets, and as the only designated PACE provider in most of the MSAs that we serve, we believe there is significant runway for further growth. We also believe that we will continue to conduct a portion of visits via telehealth after the COVID-19 pandemic subsides, which could potentially increase the average capacity of our centers.
● Our ability to maintain high participant satisfaction and retention. Our comprehensive individualized care model and frequency of interaction with participants generates high levels of participant satisfaction. We have multiple touch points with participants and their families, which enhances participant receptivity to our services. We achieved an 83% participant satisfaction rating as of July 1, 2021 and average participant tenure was 3.0 years as of September 30, 2021, measured as tenure from enrollment to disenrollment, among our centers that have been operated by us for at least five years. Furthermore, we experience low levels of voluntary disenrollment, averaging 5% annually over the last three fiscal years. Approximately 75% of our historical disenrollments have been involuntary, due primarily to participant death or otherwise due to participants moving out of our service areas.
● Effectively managing the cost of care for our participants . We receive capitated payments to manage the totality of a participant’s medical care across all settings. Because our participants are among the most frail and medically complex individuals in the U.S. healthcare system, our external provider costs and cost of care, excluding depreciation and amortization, represented approximately 76% of our revenue in the three months ended September 30, 2021. While we are liable for potentially large medical claims, our care model focuses on delivering high-quality medical care in cost efficient, community-based settings as a means of avoiding costly inpatient and outpatient services. However, our participants retain the freedom to seek care at sites of their choice, including hospitals and emergency rooms; we do not restrict participant access to care.
● Center-level Contribution Margin . Over time, we plan to grow both our number of centers and the number of participants at each center. As we add participants to existing centers, we further leverage our fixed cost base at those centers and the value of a center to our business increases over time . We have a history of achieving profitable Center-level Contribution Margin, as defined and described below under Key Business Metrics and Non-GAAP Measures .
● Our ability to expand via acquisition or de novo centers within existing and new markets. We have a large addressable market and believe we serve a very small portion of PACE-eligible participants in those markets, reflecting significant unmet demand for PACE services and creating opportunities for us to grow in new and existing markets. We have proven our ability to integrate and improve acquired organizations, as well as expand and operationalize new centers across multiple geographies while generating consistent center-level performance. Based upon our success to date, we believe our innovative care model can scale nationally, and we expect to continue selectively and strategically expanding into new geographies.
● Execute tuck-in acquisitions. We believe there is a sizeable landscape of potential tuck-in acquisitions to supplement our organic growth strategy. Over the past three fiscal years, we have acquired and integrated three PACE organizations, expanding our InnovAge Platform to one new state and four new markets through those acquisitions. We are disciplined in our approach to acquisitions and have executed multiple types of
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transactions, including turnarounds and non-profit conversions. When integrating acquired programs, we work closely with key constituencies, including local governments, health systems and senior housing providers, to ensure continuity of high-quality care for participants. Based on our experience, joining the InnovAge Platform enables revenue growth and improved operational efficiency and care delivery post-integration. We believe our track record of and reputation for integrating and improving acquired organizations, while continuing to prioritize high-quality patient care, positions us as the acquirer of choice in this market.
● Contracting with government payors . Our economic model relies on our capitated arrangements with government payors, namely Medicare and Medicaid. We view the government not only as a payor but also as a key partner in our efforts to expand into new geographies and access more participants in our existing markets. Maintaining, supporting and growing these relationships, particularly as we enter new geographies, is critical to our long-term success.
● Investing to support growth . We intend to continue investing in our centers, value-based care model, and sales and marketing organization to support long-term growth. We expect our expenses to increase in absolute dollars for the foreseeable future to support our growth and due to additional costs we are incurring and expect to incur as a public company, including expenses related to compliance with the rules and regulations of the SEC and the listing standards of Nasdaq, additional corporate and director and officer insurance, investor relations and increased legal, audit, reporting and consulting fees. We plan to invest in future growth judiciously and maintain focus on managing our results of operations. Accordingly, in the short term we expect the activities noted above to increase our expenses as a percentage of revenue, but in the longer term, we anticipate that these investments will positively impact our business and results of operations.
● Seasonality of our business . Our operational and financial results, including medical costs and per-participant revenue true-ups, will experience some variability depending upon the time of year in which they are measured. Medical costs vary most significantly as a result of (i) the weather, with certain illnesses, such as the influenza virus, being more prevalent during colder months of the year, which generally increases per-participant costs and (ii) the number of business days in a period, with shorter periods generally having lower medical costs all else equal. Per-participant revenue true-ups represent the difference between our estimate of per-participant capitation revenue to be received and actual revenue received by CMS, which is based on CMS’s determination of a participant’s RAF score as measured twice per year and is based on the evolving acuity of a participant. Based on the difference between our estimate and the final determination from CMS, we may receive incremental true up revenue or be required to repay certain amounts. Historically, these true-up payments typically occur between May and August, but the timing of these payments is determined by CMS, and we have neither visibility nor control over the timing of such payments.
Components of Results of Operations
Revenue
Capitation Revenue . In order to provide comprehensive services to manage the totality of a participant’s medical care across all settings, we receive fixed or capitated fees per participant that are paid monthly by Medicare, Medicaid, Veterans Affairs (“VA”) and private pay sources.
Medicaid and Medicare capitation revenues are based on PMPM capitation rates under the PACE program. The PACE state contracts between us and the respective state Medicaid administering agency are amended annually each June 30 in all states other than California and Pennsylvania, which contract on a calendar-year basis. New agreements have been executed for the periods (i) January 1, 2021 through December 31, 2021 for California and (ii) July 1, 2021 through June 30, 2022 for all other states, except Pennsylvania, for which we are currently operating in good standing under the 2020 amended agreement while the agency finalizes its 2021 amendment. For a discussion of our revenue recognition policies, please see Critical Accounting Policies and Estimates below and Note 2 “Summary of Significant Accounting Policies” to our consolidated financial statements included in our 2021 10-K.
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Other Service Revenue. Other service revenue primarily consists of revenues derived from fee-for-service arrangements, state food grants, rent revenues and management fees. We generate fee-for-service revenue from providing home-care services to non-PACE patients in their homes, for which we bill the patient or their insurance plan on a fee-for-service basis. For a discussion of our revenue recognition policies, please see Critical Accounting Policies and Estimates below and Note 2, “Summary of Significant Accounting Policies” to our consolidated financial statements included in our 2021 10-K.
Operating Expenses
External Provider Costs. External provider costs consist primarily of the costs for medical care provided by non-InnovAge providers. We separate external provider costs into four categories: inpatient (e.g., hospital), housing (e.g., assisted living), outpatient and pharmacy. In aggregate, external provider costs represent the largest portion of our expenses.
Cost of Care, Excluding Depreciation and Amortization. Cost of care, excluding depreciation and amortization, includes the costs we incur to operate our care delivery model. This includes costs related to IDTs, salaries, wages and benefits for center-level staff, participant transportation, medical supplies, occupancy, insurance and other operating costs. IDT employees include medical doctors, registered nurses, social workers, physical, occupational, and speech therapists, nursing assistants, and transportation workers. Center-level employees include clinic managers, dieticians, activity assistants and certified nursing assistants. Cost of care excludes any expenses associated with sales and marketing activities incurred at a local level as well as any allocation of our corporate, general and administrative expenses. A portion of our cost of care is fixed relative to the number of participants we serve, such as occupancy and insurance expenses. The remainder of our cost of care, including our employee-related costs, is directly related to the number of participants cared for in a center. As a result, as revenue increases due to census growth, cost of care, excluding depreciation and amortization, typically decreases as a percentage of revenue. As we open new centers, we expect cost of care, excluding depreciation and amortization, to increase in absolute dollars due to higher census and facility related costs.
Sales and Marketing. Sales and marketing expenses consist of employee-related expenses, including salaries, commissions, and employee benefits costs, for all employees engaged in marketing, sales, community outreach and sales support. These employee-related expenses capture all costs for both our field-based and corporate sales and marketing teams. Sales and marketing expenses also include local and centralized advertising costs, as well as the infrastructure required to support our marketing efforts. We expect these costs to increase in absolute dollars over time as we continue to grow our participant census. We evaluate our sales and marketing expenses relative to our participant growth and will invest more heavily in sales and marketing from time-to-time to the extent we believe such investment can accelerate our growth without negatively affecting profitability.
Corporate, General and Administrative Expenses. Corporate, general and administrative expenses include employee-related expenses, including salaries and related costs. In addition, general and administrative expenses include all corporate technology and occupancy costs associated with our regional corporate offices. We expect our general and administrative expenses to increase in absolute dollars due to the additional legal, accounting, insurance, investor relations and other costs that we incur as a public company, as well as other costs associated with continuing to grow our business. However, we anticipate general and administrative expenses to decrease as a percentage of revenue over the long term, although such expenses may fluctuate as a percentage of revenue from period to period due to the timing and amount of these expenses.
Depreciation and Amortization. Depreciation and amortization expenses are primarily attributable to our buildings and leasehold improvements and our equipment and vehicles. Depreciation and amortization are recorded using the straight-line method over the shorter of estimated useful life or lease terms, to the extent the assets are being leased.
Equity Loss. Equity loss relates to our equity method investment in InnovAge Sacramento, which began operations in July 2020 and subsequently became a consolidated entity effective January 1, 2021.
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Other Operating Income. Other operating income consists of the re-measurement of contingent consideration to fair value relating to our acquisition of NewCourtland.
For more information relating to the components of our results of operations, see Results of Operations below and Note 2 “Summary of Significant Accounting Policies” to our consolidated financial statements included in our 2021 10-K
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Results of Operations
The results of our operations for the three months ended September 30, 2021 include those of InnovAge Sacramento, which during the same period of the prior year was not a consolidated entity. The following table sets forth our consolidated results of operations for the periods presented:
Three Months Ended
September 30,
in thousands
2021
2020
Revenues
Capitation revenue
$
172,554
$
151,944
Other service revenue
516
622
Total revenues
173,070
152,566
Expenses
External provider costs
90,012
73,681
Cost of care, excluding depreciation and amortization
40,728
38,283
Sales and marketing
6,293
4,112
Corporate, general and administrative
21,084
71,577
Depreciation and amortization
3,293
2,959
Equity loss
—
801
Other operating income
—
(668)
Total expenses
161,410
190,745
Operating Income (Loss)
$
11,660
$
(38,179)
—
—
Other Income (Expense)
Interest expense, net
(547)
(5,631)
Loss on extinguishment of debt
—
(991)
Other expense
(493)
(62)
Total other expense
(1,040)
(6,684)
Income (Loss) Before Income Taxes
10,620
(44,863)
Provision for Income Taxes
2,996
4,937
Net Income (Loss)
$
7,624
$
(49,800)
Less: net loss attributable to noncontrolling interests
(62)
(146)
Net Income (Loss) Attributable to InnovAge Holding Corp.
$
7,686
$
(49,654)
Revenues
Three Months Ended
September 30,
2021
2020
$ Change
% Change
in thousands
Capitation revenue
$
172,554
$
151,944
$
20,610
13.6
%
Other service revenue
516
622
(106)
(17.0)
%
Total revenues
$
173,070
$
152,566
$
20,504
13.4
%
Capitation revenue. Capitation revenue was $172.6 million for the three months ended September 30, 2021, an increase of $20.6 million, or 13.6%, compared to $151.9 million for the three months ended September 30, 2020. This increase was driven by (i) a 5.1% increase in capitation rates and (ii) an 8.1% increase in member months (as defined below). The increase in capitation rates was primarily driven by an expected annual increase in Medicaid capitation rates.
Other service revenue. Other service revenue was $0.5 million for the three months ended September 30, 2021, a decrease of $0.1 million, or 17%, from $0.6 million for the three months ended September 30, 2020.
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Operating Expenses
Three months ended September 30,
2021
2020
$ Change
% Change
in thousands
External provider costs
$
90,012
$
73,681
$
16,331
22.2
%
Cost of care (excluding depreciation and amortization)
40,728
38,283
2,445
6.4
%
Sales and marketing
6,293
4,112
2,181
53.0
%
Corporate, general, and administrative
21,084
71,577
(50,493)
(70.5)
%
Depreciation and amortization
3,293
2,959
334
11.3
%
Equity loss
—
801
(801)
(100.0)
%
Other operating income
—
(668)
668
(100.0)
%
Total operating expenses
$
161,410
$
190,745
$
(29,335)
(15.4)
%
External provider costs. External provider costs were $90.0 million for the three months ended September 30, 2021, an increase of $16.3 million, or 22.2%, compared to $73.7 million for the three months ended September 30, 2020. The increase is primarily driven by (i) an increase of 13.0% in cost per participant and (ii) an increase of 8.1% in member months. The increase in cost per participant is primarily driven by the net effect of an increase in housing, outpatient, inpatient and specialist care expenses.
Cost of care (excluding depreciation and amortization). Cost of care (excluding depreciation and amortization) expense was $40.7 million for the three months ended September 30, 2021, an increase of $2.4 million, or 6.4%, compared to $38.3 million for the three months ended September 30, 2020, primarily due to the net effect of (i) an increase of 8.1% in member months and (ii) a decrease of 1.6% in cost per participant. The decrease in cost per participant was driven by a decrease in supplies expense offset by an increase in transportation costs due to the reopening of our centers.
Sales and marketing. Sales and marketing expenses were $6.3 million for the three months ended September 30, 2021, an increase of $2.2 million, or 53.0%, compared to $4.1 million for the three months ended September 30, 2020, primarily due to an increase in (i) employee compensation and benefits due to an increase in FTEs and (ii) costs associated with certain new advertising campaigns to raise PACE awareness and accelerate growth.
Corporate, general and administrative. Corporate, general and administrative expenses were $21.1 million for the three months ended September 30, 2021, a decrease of $50.5 million, or 70.5%, compared to $71.6 million for the three months ended September 30, 2020. The decrease was primarily due to the fees incurred during fiscal year 2021 as a result of the Apax Transaction (as defined below). In connection with the Apax Transaction, $45.4 million was recorded related to the cancellation of 16,994,975 common stock options outstanding under the Company’s 2016 Equity Incentive Plan and $13.1 million of transaction related costs were recorded as corporate, general and administrative expenses. Offsetting the decrease of $58.5 million related to the Apax Transaction were expenses of $8.0 million primarily from Company growth and the additional costs associated with being a publicly traded company.
Depreciation and amortization. Depreciation and amortization expenses are primarily attributable to our buildings and leasehold improvements and our equipment and vehicles. Depreciation and amortization are recorded using the straight-line method over the shorter of estimated useful life or lease terms, to the extent the assets are being leased. Depreciation and amortization expense was $3.3 million for the three months ended September 30, 2021, an increase of $0.3 million, or 11.3%, compared to $3.0 million for the three months ended September 30, 2020. This increase is due to an increase in depreciation expense as a result of capital additions in the normal course of business.
Equity loss. Equity loss of $0.8 million for the three months ended September 30, 2020 related to our equity method investment in InnovAge Sacramento. InnovAge Sacramento began operations in July 2020 and was subsequently consolidated into operations effective January 1, 2021, therefore there are no equity earnings for the three months ended September 30, 2021.
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Other operating income. Other operating income was $0.7 million for the three months ended September 30, 2020 due to the change in fair value of contingent consideration. The contingent consideration was paid in March 2021 and there were no amounts outstanding as of September 30, 2021.
Other Income (Expense)
Three Months Ended
September 30,
2021
2020
$ Change
% Change
in thousands
Interest expense, net
$
(547)
$
(5,631)
$
5,084
90.3
%
Loss on extinguishment of debt
—
(991)
991
N/A
Other expense
(493)
(62)
(431)
(695.2)
%
Total other expense
$
(1,040)
$
(6,684)
$
5,644
84.4
%
Interest expense, net. Interest expense, net, consists primarily of interest payments on our outstanding borrowings, net of interest income earned on our cash and cash equivalents and restricted cash. Interest expense, net was $0.5 million for the three months ended September 30, 2021, a decrease of $5.1 million, or 90.3%, compared to $5.6 million for the three months ended September 30, 2020. The decrease was primarily due to (i) a lower outstanding debt balance and (ii) to a lesser extent, a lower average interest rate. For additional information regarding our outstanding indebtedness, see Note 8, “Long-Term Debt” to our consolidated financial statements.
Loss on extinguishment of debt. We recognized a loss on extinguishment of debt of $1.0 million for the three months ended September 30, 2020 and no loss on extinguishment of debt for the three months ended September 30, 2021.
Provision for Income Taxes
The Company and its subsidiaries calculate federal and state income taxes currently payable and for deferred income taxes arising from temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured pursuant to enacted tax laws and rates applicable to periods in which those temporary differences are expected to be recovered or settled. The impact on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the date of enactment. The members of SH1 and Sacramento have elected to be taxed as partnerships, and no provision for income taxes for SH1 or Sacramento is included in these consolidated financial statements.
A valuation allowance is provided to the extent that it is more likely than not that deferred tax assets will not be realized. Tax benefits from uncertain tax positions are recognized when it is more likely than not that the position will be sustained upon examination based on the technical merits of the position. The amount recognized is measured as the largest amount of benefit that has a greater than 50% likelihood of being realized upon settlement. The Company recognizes interest and penalty expense associated with uncertain tax positions as a component of provision for income taxes.
During the three months ended September 30, 2021 and 2020, we reported provision for income taxes of $3.0 million and $4.9 million, respectively. The decrease of $1.9 million is primarily due to (i) our pretax book loss recognized during the three months ended September 30, 2020, as compared to pretax book income recognized during the three months ended September 30, 2021 and (ii) certain permanent differences between the financial and tax accounting treatment in 2020 of (a) the Section 162(m) limitation on compensation of five highest paid officers, (b) transaction costs associated with the Apax Transaction and (c) the change in our valuation allowance.
Net Loss Attributable to Noncontrolling Interests.
InnovAge Senior Housing Thornton, LLC (“SH1”) is a Variable Interest Entity (“VIE”). The Company is the primary beneficiary of SH1 and consolidates SH1. The Company is the primary beneficiary of SH1 because it has the power to direct the activities that are most significant to SH1 and has an obligation to absorb losses or the right to receive benefits
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from SH1. The most significant activity of SH1 is the operation of the housing facility. The Company has provided a subordinated loan to SH1 and has provided a guarantee for the convertible term loan held by SH1. The SH1 interest is reflected within equity as noncontrolling interests. Our share of earnings are recorded in the consolidated statements of operations and the share of the other noncontrolling interest holders’ earnings are recorded as net loss attributable to noncontrolling interests.
The Company has a controlling interest in InnovAge Sacramento. As of January 1, 2021, our share of earnings are recorded in the consolidated statements of operations and the share of the other noncontrolling interest holders’ earnings are recorded as net loss attributable to noncontrolling interests.
Net Income (Loss)
During the three months ended September 30, 2021 and 2020, we reported net income of $7.6 million and a net loss of $(49.8) million, respectively, consisting of (i) income (loss) from operations of $11.7 million and ($38.2 million), respectively, (ii) other expense of $1.0 million and $6.7 million, respectively, and (iii) provision for income taxes of $3.0 million and $4.9 million, respectively, each as described above.
Key Business Metrics and Non-GAAP Measures
In addition to our GAAP financial information, we review a number of operating and financial metrics, including the following key metrics and non-GAAP measures, to evaluate our business, measure our performance, identify trends affecting our business, formulate business plans and make strategic decisions. We believe these metrics provide additional perspective and insights when analyzing our core operating performance from period to period and evaluating trends in historical operating results. These key business metrics and non-GAAP measures should not be considered superior to, or a substitute for, and should be read in conjunction with, the GAAP financial information presented herein. These measures may not be comparable to similarly-titled performance indicators used by other companies.
Three months ended September 30,
2021
2020
dollars in thousands
Key Business Metrics:
Centers (a)
18
17
Census (a)(b)
6,990
6,500
Total Member Months (a)
20,906
19,342
Center-level Contribution Margin
$
42,330
$
40,602
Center-level Contribution Margin as a % of revenue
24.5
%
26.7
%
Non-GAAP Measures:
Adjusted EBITDA (c)
$
18,212
$
23,110
Adjusted EBITDA Margin (c)
10.5%
15.1%
(a) Amount for 2021 includes InnovAge Sacramento, which the Company owns and controls through a joint venture and is consolidated in our financial statements.
(b) Participant numbers are approximate.
(c) Adjusted EBITDA and Adjusted EBITDA margin are non-GAAP measures. For a definition and reconciliation of these non-GAAP measures to the most closely comparable GAAP measures for the period indicated, see below under “Adjusted EBITDA.”
Centers
We define our centers as those centers open for business and attending to participants at the end of a particular period.
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Census
Our census is comprised of our capitated participants for whom we are financially responsible for their total healthcare costs.
Total member months
We define Total Member Months as the total number of participants multiplied by the number of months within a year in which each participant was enrolled in our program. We believe this is a useful metric as it more precisely tracks the number of participants we serve throughout the year.
Center-level Contribution Margin
We define Center-level Contribution Margin as total revenues less external provider costs and cost of care, excluding depreciation and amortization, which includes all medical and pharmacy costs. For purposes of evaluating Center-level Contribution Margin on a center-by-center basis, we do not allocate our sales and marketing expense or corporate, general and administrative expenses across our centers. Center-level Contribution Margin was $42.3 million and $40.6 million for the three months ended September 30, 2021 and 2020, respectively.
Adjusted EBITDA
We define Adjusted EBITDA as net income adjusted for interest expense, depreciation and amortization, and provision for income tax as well as addbacks for non-recurring expenses or exceptional items, including charges relating to management equity compensation, M&A diligence, transaction and integration, business optimization, electronic medical record (“EMR”) implementation, financing-related fees and contingent consideration. For the three months ended September 30, 2021 and 2020, our net income (loss) was $7.6 million and ($49.8 million), respectively, and Adjusted EBITDA was $18.2 million and $23.1 million, respectively, representing a year-over-year decrease of 21.2%. The decrease in Adjusted EBITDA and Adjusted EBITDA margin is primarily from i) the impact of normalization of center-level contribution margin as COVID-19 transmission rates declined period over period ii) an increase in sales and marketing expense as a result of our investment in digital and other sales initiatives and ii) higher corporate, general and administrative expenses, including those associated with being a publicly traded company.
A reconciliation of Adjusted EBITDA to net income, the most directly comparable GAAP measure, for each of the periods is as follows:
Three Months Ended
September 30,
in thousands
2021
2020
Net income (loss)
$
7,624
$
(49,800)
Interest expense, net
547
5,631
Depreciation and amortization
3,293
2,959
Provision for income tax
2,996
4,937
Stock-based compensation
958
46
M&A diligence, transaction and integration (a)
327
58,338
Business optimization (b)
2,117
503
EMR implementation (c)
350
172
Financing-related fees (d)
—
992
Contingent consideration (e)
—
(668)
Adjusted EBITDA
$
18,212
$
23,110
(a) For the three months ended September 30, 2020, this primarily represents (i) $45.4 million related to the cancellation of options and the redemption of shares and (ii) $13.1 million of transaction fees and expenses recognized in connection with
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the July 27, 2020 transaction between us, an affiliate of Apax Partners and our then existing equity holders entering into a Securities Purchase Agreement (the “Apax Transaction”).
(b) Reflects charges related to business optimization initiatives. Such charges relate to one-time investments in projects designed to enhance our technology systems and improve the efficiency and effectiveness of our operations.
(c) Reflects non-recurring expenses relating to the implementation of a new electronic medical record vendor.
(d) Reflects fees and expenses incurred in connection with amendments to our credit agreements. See Note 8, “Long Term Debt” to the consolidated financial statements.
(e) Reflects the contingent consideration fair value adjustment made during the reporting period associated with our acquisition of NewCourtland.
Adjusted EBITDA margin
Adjusted EBITDA margin is Adjusted EBITDA expressed as a percentage of our total revenue less any exceptional, one-time revenue items. For the three months ended September 30, 2021, our net income margin was 4.4%, as compared to our net income margin of (32.6)% for the three months ended September 30, 2020. For the three months ended September 30, 2021, our Adjusted EBITDA margin was 10.5%, as compared to our Adjusted EBITDA margin for the three months ended September 30, 2020 of 15.1%.
Adjusted EBITDA and Adjusted EBITDA margin are supplemental measures of operating performance monitored by management that are not defined under GAAP and that do not represent, and should not be considered as, an alternative to net income (loss) and net income (loss) margin, respectively, as determined by GAAP. We believe that Adjusted EBITDA and Adjusted EBITDA margin are appropriate measures of operating performance because the metrics eliminate the impact of revenue and expenses that do not relate to our ongoing business performance, allowing us to more effectively evaluate our core operating performance and trends from period to period. We believe that Adjusted EBITDA and Adjusted EBITDA margin help investors and analysts in comparing our results across reporting periods on a consistent basis by excluding items that we do not believe are indicative of our core operating performance. These non-GAAP financial measures have limitations as analytical tools and should not be considered in isolation from, or as a substitute for, the analysis of other GAAP financial measures, including net income (loss) and net income (loss) margin. In evaluating Adjusted EBITDA, you should be aware that in the future we may incur expenses that are the same as or similar to some of the adjustments in this presentation. Our presentation of Adjusted EBITDA should not be construed to imply that our future results will be unaffected by the types of items excluded from the calculation of Adjusted EBITDA. The use of the term Adjusted EBITDA varies from others in our industry.
Liquidity and Capital Resources
General
To date, we have financed our operations principally through cash flows from operations and through borrowings under our credit facilities, and from the sale of common stock in our IPO that occurred in March 2021. As of September 30, 2021, we had cash and cash equivalents of $215.5 million. Our cash and cash equivalents primarily consist of highly liquid investments in demand deposit accounts and cash.
Our capital resources are generally used to fund (i) debt service requirements, the majority of which relate to the quarterly principal payments of the Term Loan Facility (as defined in Note 8, “Long Term Debt” to the condensed consolidated financial statements) due 2026, (ii) capital and operating lease obligations, which are generally paid on a monthly basis and include maturities through 2025 and 2032, respectively, (iii) the operations of our business, including special projects such as our transition to a new electronic medical record vendor, with respect to which we expect to incur non-recurring implementation costs over the next 18 months, and ongoing costs through 2026, and (iv) income tax payments, which are generally due on a quarterly and annual basis. We also expect to use capital resources for capital additions, which we expect to primarily relate to the development of de novo centers to the extent and as they are opened. Collectively, these obligations are expected to represent a significant liquidity requirement of our Company on both a short-term and long-term basis. For additional information regarding our lease obligations, debt and commitments, see Note 7, “Leases”, Note 8, “Long Term Debt” and Note 9, “Commitments and Contingencies” to our condensed consolidated financial statements.
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We believe that our cash and cash equivalents and our cash flows from operations will be sufficient to fund our operating and capital needs for at least the next 12 months. We have based this estimate on assumptions that may prove to be wrong, and we could use our available capital resources sooner than we currently expect. Our actual results could vary because of, and our future capital requirements will depend on, many factors, including our growth rate, the timing and extent of spending to open new centers and the expansion of sales and marketing activities. We may in the future enter into arrangements to acquire or invest in complementary businesses, services and technologies. We may be required to seek additional equity or debt financing. In the event that additional financing is required from outside sources, we may not be able to raise it on terms acceptable to us or at all. If we are unable to raise additional capital when desired, or if we cannot expand our operations or otherwise capitalize on our business opportunities because we lack sufficient capital, our business, results of operations, and financial condition would be adversely affected.
On March 8, 2021, concurrently with the closing of the IPO, the Company entered into a new credit agreement, the 2021 Credit Agreement, that replaced the 2016 Credit Agreement, as further discussed in Note 8, “Long Term Debt” to our condensed consolidated financial statements. The 2021 Credit Agreement consists of a senior secured term loan, Term Loan Facility, of $75.0 million principal amount and a revolving credit facility, Revolving Credit Facility, of $100.0 million maximum borrowing capacity, each as defined and described in Note 8, “Long Term debt” to the consolidated financial statements. Principal on the Term Loan Facility is paid each calendar quarter beginning September 2021 in an amount equal to 1.25% of the initial term loan on closing date. Proceeds of the Term Loan Facility, together with proceeds from the IPO, were used to repay amounts outstanding under the 2016 Credit Agreement.
Any outstanding principal amounts under the 2021 Credit Agreement accrue interest at a variable interest rate. As of September 30, 2021, the interest rate on the Term Loan Facility was 1.84%. Under the terms of the 2021 Credit Agreement, the Revolving Credit Facility fee accrues at 0.25% of the average daily unused amount and is paid quarterly. As of September 30, 2021, we had no borrowings outstanding under the Revolving Credit Facility and, therefore, had full capacity thereunder, subject to applicable covenant compliance restrictions and any other conditions precedent to borrowing. As of September 30, 2021, we also had $2.4 million principal amount outstanding under our convertible term loan. Monthly principal and interest payments are approximately $0.02 million, and the loan bears interest at an annual rate of 6.68%. The remaining principal balance is due upon maturity, which is August 20, 2030.
For more information about our debt, see Note 8 “Long Term Debt” to our consolidated financial statements.
We currently intend to retain all available funds and any future earnings to fund the development and growth of our business.
Condensed Consolidated Statements of Cash Flows
Our consolidated statements of cash flows for the three months ended September 30, 2021 and 2020 are summarized as follows:
Three Months Ended
September 30,
2021
2020
$ Change
in thousands
Net cash provided by (used in) operating activities
$
20,559
$
(18,058)
$
38,617
Net cash used in investing activities
(5,042)
(4,629)
(413)
Net cash used in financing activities
(1,452)
(40,001)
38,549
Net change in cash, cash equivalents and restricted cash
$
14,065
$
(62,688)
$
76,753
Operating Activities. The change in net cash provided by (used in) operating activities was primarily due to the net effect of (i) net income of $7.6 million in the current year period compared to a net loss of $49.8 million in the prior year period, as described further above, (ii) a net increase in working capital primarily as a result of the impact of the completion of the Colorado Department of Health Care Policy & Financing’s (‘HCPF’) reconciliation, as described below, and the timing of prepaid expenses.
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In fiscal year 2021, the Company and the HCPF completed the reconciliation for fiscal years 2018 and 2019. The reconciliation resulted in a net adjustment of reduction of accounts receivable of $3.4 million, which was recorded in fiscal year 2021. The Company does not expect adjustments related to the reconciliation to be significant in future periods.
Investing Activities. The increase in net cash used in investing activities was primarily due to an increase in cash used of $3.0 million for growth-related capital expenditures and a $2.0 million cost method investment.
Financing activities. The decrease in net cash used in financing activities was primarily due to the net effect of the Apax Transaction in fiscal year 2021, which included net proceeds on long-term debt of $87.4 million, $77.6 million related to treasury stock purchases and $32.4 million related to stock option cancellation payments, those payments of which did not recur in fiscal year 2022.
Contractual Obligations and Commitments
Our principal commitments consist of repayments of long-term debt and obligations under operating and capital leases. As of September 30, 2021, we had $76.4 million of long-term debt outstanding. See Note 8, “Long Term Debt” in our consolidated financial statements for more information. As of September 30, 2021, we had future minimum operating lease payments under non-cancellable leases through the year 2032 of $31.4 million. We also had non-cancellable capital lease agreements with third parties through the year 2027 with future minimum payments of $6.9 million. See Note 7, “Leases” in our consolidated financial statements for more information.
Off Balance Sheet Arrangements
We did not have any off balance sheet arrangements as of September 30, 2021 .
JOBS Act
We qualify as an “emerging growth company” pursuant to the provisions of the Jumpstart Our Business Startups (“JOBS”) Act. For as long as we are an “emerging growth company,” we may take advantage of certain exemptions from various reporting requirements that are applicable to other public companies that are not “emerging growth companies,” including, but not limited to, not being required to comply with the auditor attestation requirements of Section 404(b) of the Sarbanes-Oxley Act, only being required to present two years of audited financial statements, plus unaudited condensed consolidated financial statements for applicable interim periods and the related discussion in the section titled “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” reduced disclosure obligations regarding executive compensation in our periodic reports, proxy statements and registration statements, exemptions from the requirements of holding non-binding advisory “say-on-pay” votes on executive compensation and stockholder advisory votes on golden parachute compensation.
In addition, under the JOBS Act, emerging growth companies can delay adopting new or revised accounting standards until such time as those standards apply to private companies. We take advantage of the longer phase-in periods for the adoption of new or revised financial accounting standards under the JOBS Act until we are no longer an emerging growth company. Our election to use the phase-in periods permitted by this election may make it difficult to compare our financial statements to those of non-emerging growth companies and other emerging growth companies that have opted out of the longer phase-in periods permitted under the JOBS Act and who will comply with new or revised financial accounting standards. If we were to subsequently elect instead to comply with public company effective dates, such election would be irrevocable pursuant to the JOBS Act.
Critical Accounting Policies and Estimates
The discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with GAAP. The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts
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of revenues and expenses during the reporting period. Actual results may differ from these estimates under different assumptions or conditions, impacting our reported results of operations and financial condition.
Certain accounting policies involve significant judgments and assumptions by management, which have a material impact on the carrying value of assets and liabilities and the recognition of income and expenses. We consider these accounting policies to be critical accounting policies. The estimates and assumptions used by management are based on historical experience and other factors, which are believed to be reasonable under the circumstances.
For a description of our policies regarding our critical accounting policies, see “Critical Accounting Policies and Estimates” in the 2021 Annual 10-K. There have been no significant changes in our critical accounting policies, estimates, or methodologies to our condensed consolidated financial statements .
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Text extracted from the filing as submitted to EDGAR. Formatting, tables and exhibits are simplified for reading; the original document is authoritative for anything you rely on.