HealthSouth – Robust Recovery, Peak Performance

Jay Grinney is CEO of HealthSouth Corp. (NYSE: HLS), which owns and operates the largest network of post-acute, inpatient rehabilitation hospitals in the U.S.

Grinney was president of the eastern group at Hospital Corporation of America (NYSE: HCA), the nation’s largest healthcare company, before taking over at HealthSouth in 2004 — when the company was still struggling to recover from the accounting scandal that emerged in 2002 under the oversight of former CEO and company founder Richard Scrushy. 

HealthSouth has recovered from the scandal, weathered the recession and emerged in the last two years as a robustly growing company. HealthSouth is Alabama’s third largest nonfinancial public company. The company’s stock price grew 22 percent between December 31, 2014 and June 10, the day of this interview — far outpacing the S&P Index and Dow. In June, HealthSouth announced the $730 million acquisition of Reliant Hospital Partners LLC, a chain of 11 rehab hospitals based in Dallas. And an earlier acquisition, completed in January — the $750 million purchase of Encompass Home Health and Hospice — put the company into a strategically aligned new business.

The Encompass acquisition gives us an additional growth platform for the company and positions us to be competitive in the evolving healthcare delivery system. The Affordable Care Act mandated that the Medicare program test a new delivery system and new payment system that would pay healthcare providers a single payment for coordinated care. Our belief is that, in this new system, our performance would be enhanced if we offer the patient both the hospital level care in rehab hospitals, as well as care needed after they are discharged. The two businesses are highly complementary. We discharge about 70 percent of our patients to a home health provider today.

But the number one reason for the Encompass acquisition is that it gives us an additional growth platform. The inpatient rehab sector is about an $8 billion industry. The home health industry is a $30 billion industry. It gives us another sector of healthcare that we can expand into, while positioning the company to be successful if that evolution does indeed occur the way some experts are predicting. 

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Encompass is the fifth largest Medicare-certified home health company in the U.S. But this is a highly fragmented industry, with over 12, 000 home health providers in the U.S. As the fifth largest, the company has 140 units, which represents about a 5 percent market share. That leaves a lot of very small mom-and-pop operators, who will be having a hard time functioning in an increasingly regulated industry. There are many other smaller providers out there who may be looking for an acquirer.

Over the last five years, Encompass has acquired numerous smaller home health companies. They are absolutely able to turn them around. They’ve developed an integrated technology platform to better manage their workforce, while insuring coding accuracy and compliance, and they utilize that platform because they are larger than their competitors.

We will be pretty aggressive about continuing acquisitions in home health care. We’ve stated publicly that we will be devoting $40 million to $50 million a year to acquisitions. If there are larger acquisitions there, we will pursue those.

We go to the debt market to finance growth. We look at the metric of the leverage ratio, total debt divided by EBIDA, and we historically have a very conservative and some would say ultra conservative balance sheet, and we maintain that to have the dry powder to pursue acquisitions when they are in the best interest of shareholders. Even with our most recent acquisitions, the leverage ratio is going to be considered very reasonable, not stressing the balance sheet.

We’re not assessing any other service lines for acquisition at this point. We’ll certainly look at other service lines, but now we’re focused on inpatient rehab and home health.

We think there will continue to be very compelling growth in inpatient rehab. Last week we announced we are acquiring a $730 million company called Reliant Hospital Partners, based in Dallas, which has a portfolio of 11 inpatient rehab hospitals. That indicates that there is a lot of exciting growth in inpatient.

Since December 31, 2014, our stock price is up 22 percent. The Dow is up 0.5 percent, the S&P 1.8 percent. I would surmise that Wall Street has looked on this very favorably.

Health care historically has been seen as a defensive play, but increasingly investors are seeing it as a growth industry, as well. Health care is 17 percent of our GDP, a huge industry.

Eighty-five percent of our revenues come from Medicare or Medicaid. The way that I look at it is that, with the aging of the population, there is a 3 percent annual growth in the over-65 population, which is a very significant demand profile. And, while we do know that regulations will affect business, we also know that if we provide high quality, cost-effective care, we will be competitive. The demand for services is really the tail wind for our business.

The new payment system being tested (under the Affordable Care Act) essentially lumps individual fees into a single payment, and that goes to an entity that has organized all the various, disparate parts, called accountable care organizations (ACOs). 

The results from the early ACOs are very mixed. If you look at the national data, on average, the ACOs that have been formed have realized a savings of about $6 million for each ACO. If you look at how much it costs to start and run and operate that ACO, it’s about $6 million. So, clearly, the concept does not have the kind of economic value, as it’s currently configured, to motivate a lot of providers to jump on that bandwagon.

The Medicare program would like to see 30 percent of payments paid in this environment by 2016 and 50 percent by 2018. If you asked me if it was conceivable to see 50 percent by the year 2020, I would say most definitely.

Investors recognize that regulations may change, the government may decide to change how they pay, but the Medicaid program is not going to stop.

We did not access the debt market for growth during the recession. HealthSouth didn’t complete its turnaround until 2008. From 2004 to 2008 we were resolving matters with the Department of Justice and paying debt and turning around the company, and when we emerged it was around 2008.

It was in 2009 that we felt the economic climate was starting to improve. The big growth came last year, with the Encompass acquisition, $750 million, and then Reliant this year, $730 million.

Chris McFadyen is the editorial director of Business Alabama.

Interview by Chris McFadyen

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