EX-99.1 2 d800392dex991.htm EX-99.1 EX-99.1
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Exhibit 99.1

September 9, 2019

Dear Stockholder of The Ensign Group, Inc.:

I am pleased to inform you that the board of directors of The Ensign Group, Inc. (“Ensign”) has approved the spin-off (the “spin-off”) of The Pennant Group, Inc. (“Pennant”), a wholly-owned subsidiary of Ensign. Upon completion of the spin-off, the stockholders of Ensign will own substantially all of the outstanding shares of common stock of Pennant, and will continue to own 100% of the outstanding shares of common stock of Ensign. Pennant will be a new, publicly-traded holding company comprised of Ensign’s home health and hospice agencies and substantially all of Ensign’s senior living businesses. Pennant’s operating subsidiaries provide services to the growing senior population across Arizona, California, Colorado, Idaho, Iowa, Nevada, Oklahoma, Oregon, Texas, Utah, Washington, Wisconsin and Wyoming. Following the spin-off, Ensign will continue to be a holding company comprised of post-acute service providers, including skilled nursing, senior living and other ancillary operations in Arizona, California, Colorado, Idaho, Iowa, Kansas, Nebraska, Nevada, South Carolina, Texas, Utah, Washington and Wisconsin.

We believe the spin-off is in the best interests of Ensign, its stockholders and other constituents, as it will result in two publicly-traded companies, each with enhanced focus and leadership opportunities, increased ability to raise funds through capital market offerings and enhanced opportunity to continue executing their respective acquisition strategies. The success of Pennant and Ensign following the spin-off will illustrate the power of Ensign’s innovative operating model to improve the clinical, cultural and financial results in the communities we serve.

The spin-off will be completed by way of a pro rata distribution of Pennant common stock to Ensign’s stockholders of record on September 20, 2019, the spin-off record date. Each Ensign stockholder will receive one share of Pennant common stock for every two shares of Ensign common stock held by such stockholder on the record date. The distribution of these shares will be made in book-entry form, meaning no physical share certificates will be issued. Ensign stockholder approval of the distribution is not required, and you will automatically receive your shares of Pennant common stock upon the consummation of the spin-off.

The distribution is subject to the satisfaction or waiver of certain conditions, including, among other things: final approval of the distribution by the Ensign board of directors; the Registration Statement on Form 10, of which this information statement forms a part, being declared effective by the Securities and Exchange Commission; Pennant common stock being approved for listing on the NASDAQ Global Select Market (“NASDAQ”); the receipt of an opinion from Kirkland & Ellis LLP with respect to certain tax matters related to the distribution; the receipt of any required material governmental approvals; no order, injunction or decree issued by any governmental entity preventing the consummation of all or any portion of the distribution being in effect; and the completion of the financing transaction described in this information statement. We expect that your receipt of shares of Pennant common stock in the spin-off will be tax-free for U.S. federal income tax purposes, except for cash received in lieu of fractional shares. You are urged to consult your tax advisor as to the particular tax consequences of the distribution to you, including potential tax consequences under state, local and non-U.S. tax laws.

Immediately following the spin-off, you will own common stock in Ensign and Pennant. Ensign common stock will continue to trade on NASDAQ under the symbol “ENSG.” We intend to have Pennant common stock listed on NASDAQ under the symbol “PNTG.”

We have prepared the enclosed information statement, which describes the spin-off in detail and contains important information about Pennant, including historical financial statements. Ensign stockholders will receive via mail a notice with instructions on how to access the information statement online. We urge you to carefully read the information statement.

We thank you for supporting our company, and look forward to your continued support in the future.

 

Very truly yours,

        /s/ Christopher R. Christensen

        Christopher R. Christensen

        Executive Chairman


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September 9, 2019

Dear Stockholder of The Pennant Group, Inc.:

It is my pleasure to welcome you to The Pennant Group, Inc. (“Pennant”). Following the distribution of all of the shares of our common stock owned by The Ensign Group, Inc. (“Ensign”) to its stockholders, we will be a newly listed, publicly-traded holding company of operating subsidiaries that provide home health, hospice and senior living services across Arizona, California, Colorado, Idaho, Iowa, Nevada, Oklahoma, Oregon, Texas, Utah, Washington, Wisconsin and Wyoming.

As a Pennant stockholder, you will be an investor in a publicly-traded holding company comprised of healthcare providers serving the growing senior population in the United States. We strive to be the provider of choice in the communities we serve through our innovative operating model. We believe our key differentiators are (i) our innovative operating model focused on empowering and developing strong local leaders, (ii) our disciplined growth strategy, and (iii) our ability to achieve quality care outcomes in lower cost settings. In our experience, healthcare is a local endeavor, largely dependent upon personal and professional relationships, community reputation and an ability to adapt to the changing needs of patients, partners and communities. As our operational leaders build strong relationships with key partners in their local healthcare communities, they are empowered to make informed and critical operational decisions that produce quality care outcomes and more effectively meet the needs of our patients.

We believe a spin-off of our businesses from Ensign expands our ability to provide life changing home health, hospice and senior living services to the communities we serve. Like Ensign, our unique organizational structure empowers our highly dedicated local leaders and staff to make key operational decisions, while providing them with a platform of support from industry expert resources and top-of-the-line clinical and financial systems. An essential ingredient of our model is our mentality of shared ownership and peer accountability. Our leaders and resources feel a collective sense of ownership for the clinical, financial and cultural success of our affiliated operations and hold each other accountable for successes and failures in an environment that fosters transparency and improvement.

We also believe the spin-off will foster better understanding by public stockholders, analysts and other stakeholders about how the application of Ensign’s core operating principles to these lines of business has the ability to produce extraordinary results. More education about and visibility into these uniquely situated operations will create a better understanding of the value we believe remains somewhat hidden and overshadowed by the market’s perception of the skilled nursing industry at large, despite Ensign’s successful history of outperforming industry peers in many key metrics. We also will be well positioned amongst publicly-traded peers in the post-acute care marketplace because of a well-diversified payor mix between government, third-party and private sources.

Following the spin-off, we will have the ability to tap public markets for capital as we execute on our strategic and organic growth objectives, which in many ways overlap but in other ways diverge from Ensign’s, resulting in different capital needs and pressures. As Ensign and Pennant each pursue its independent strategies, we expect our common core values, guiding principles and operating model will create continued opportunities to collaborate, create accountability around quality clinical and financial outcomes, and work together on joint opportunities as appropriate and when such action is in the best interests of each organization. Furthermore, we believe our position as a separate company following the spin-off will be a powerful recruiting tool that will attract strong leaders from both within and outside the post-acute care continuum looking for opportunities to grow and develop meaningful careers.

We invite you to learn more about Pennant by reviewing the enclosed information statement. We look forward to our future as an independent, publicly-traded company and to your support as a holder of Pennant common stock.

 

Sincerely,

 

 

        

 

/s/ Daniel H Walker

   

Daniel H Walker

   

Chairman, Chief Executive Officer and President


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LOGO

Information Statement

Distribution of Common Stock of

THE PENNANT GROUP, INC.

by

THE ENSIGN GROUP, INC.

to

THE ENSIGN GROUP, INC. STOCKHOLDERS

 

 

This information statement is being sent to you in connection with the separation of The Pennant Group, Inc. (collectively with its consolidated subsidiaries, “Pennant”) from The Ensign Group, Inc. (collectively with its consolidated subsidiaries, “Ensign”), following which The Pennant Group, Inc. will be an independent, publicly-traded company. As part of the separation, Ensign will undergo an internal reorganization, after which it will complete the separation by distributing substantially all of the outstanding shares of common stock of The Pennant Group, Inc., par value $0.001 (“Pennant common stock” or “our common stock”), on a pro rata basis to the holders (“Ensign stockholders”) of The Ensign Group, Inc.’s common stock, par value $0.001 (“Ensign common stock”). We refer to this pro rata distribution as the “distribution” and we refer to the separation, including the internal reorganization and distribution, as the “spin-off.” We expect that the distribution will be tax-free to the stockholders of The Ensign Group, Inc. for U.S. federal income tax purposes, except to the extent of cash received in lieu of fractional shares. Each Ensign stockholder will receive one share of our common stock for every two shares of Ensign common stock held by such stockholder on September 20, 2019, the record date. Ensign will not distribute any fractional shares of Pennant common stock. Instead, the distribution agent will aggregate fractional shares into whole shares, sell the whole shares in the open market at prevailing market prices and distribute the aggregate net cash proceeds from the sales pro rata to each holder who would otherwise have been entitled to receive a fractional share in the spin-off. The distribution of shares will be made in book-entry form only. The distribution will be effective as of October 1, 2019. Immediately after the distribution becomes effective, The Pennant Group, Inc. will be an independent, publicly-traded company.

No vote or other action of Ensign stockholders is required in connection with the spin-off. We are not asking you for a proxy and Ensign requests that you do not send Ensign a proxy. Ensign stockholders will not be required to pay any consideration for the shares of Pennant common stock they receive in the spin-off, and they will not be required to surrender or exchange their shares of Ensign common stock or take any other action in connection with the spin-off.

All of the outstanding shares of Pennant common stock are currently owned by The Ensign Group, Inc. Accordingly, there is no current trading market for Pennant common stock. We anticipate that a limited market, commonly known as a “when-issued” trading market, will develop shortly before the record date, and that “regular-way” trading in shares of Pennant common stock will begin on the first trading day following the distribution date. If trading begins on a “when-issued” basis, you may purchase or sell Pennant common stock up to and including the distribution date, in which case your transaction will settle within two trading days after regular-way trading commences following the distribution. We intend to list Pennant common stock on the NASDAQ Global Select Market (“NASDAQ”) under the ticker symbol “PNTG.” As discussed under “Trading Market,” if you sell your Ensign common stock in the “regular-way” market before the distribution date, you also will be selling your right to receive shares of Pennant common stock in connection with the spin-off. However, if you sell your Ensign common stock in the “ex-distribution” market before the distribution date, you will still receive shares of Pennant common stock in the spin-off.

We are an “emerging growth company” as defined under the federal securities laws and, as such, may elect to comply with certain reduced public company reporting requirements. See “Summary—Implications of Being an Emerging Growth Company.”

 

 

In reviewing this information statement, you should carefully consider the matters described in “Risk Factors ” beginning on page 31 of this information statement.

Neither the Securities and Exchange Commission (the “SEC”) nor any state securities commission has approved or disapproved these securities or determined if this information statement is truthful or complete. Any representation to the contrary is a criminal offense.

This information statement is not an offer to sell, or a solicitation of an offer to buy, any securities.

The date of this information statement is September 9, 2019.

A Notice of Internet Availability of Information Statement Materials containing instructions describing how to access this information statement was first mailed to Ensign stockholders on or about September 9, 2019.


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TABLE OF CONTENTS

 

SUMMARY

     1  

RISK FACTORS

     31  

SPECIAL NOTE ABOUT FORWARD-LOOKING STATEMENTS

     70  

THE SPIN-OFF

     71  

TRADING MARKET

     82  

DIVIDEND POLICY

     84  

CAPITALIZATION

     85  

SELECTED HISTORICAL COMBINED FINANCIAL DATA

     86  

UNAUDITED PRO FORMA COMBINED FINANCIAL STATEMENTS

     87  

OUR BUSINESS

     94  

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

     120  

MANAGEMENT

     149  

EXECUTIVE AND DIRECTOR COMPENSATION

     157  

CERTAIN RELATIONSHIPS AND RELATED PARTY TRANSACTIONS

     163  

DESCRIPTION OF CERTAIN INDEBTEDNESS

     169  

SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

     171  

DESCRIPTION OF CAPITAL STOCK

     173  

WHERE YOU CAN FIND MORE INFORMATION

     178  

INDEX TO FINANCIAL STATEMENTS

     F-1  

 

 

Unless otherwise indicated or the context otherwise requires, references herein to “Pennant,” “we,” “our,” “us,” the “Company” and “our company” refer (i) prior to the consummation of our internal reorganization described under “The Spin-Off—Manner of Effecting the Spin-Off—Internal Reorganization,” to the home health and hospice agencies and substantially all of the senior living businesses of The Ensign Group, Inc. (the combination of these assets is also referred to herein as “New Ventures”) and (ii) after the consummation of such internal reorganization, to The Pennant Group, Inc. and its consolidated subsidiaries. Unless otherwise indicated or the context otherwise requires, references herein to “Ensign” refer to The Ensign Group, Inc. and its consolidated subsidiaries prior to the consummation of the spin-off.

Each of the Company’s affiliated operations is owned and operated by a separate, independent subsidiary that has its own management, employees and assets. Each of Ensign’s affiliated operations is operated by a separate, independent subsidiary that has its own management, employees, and assets. References herein to the consolidated “Pennant,” “Company,” “Ensign,” “Parent” and “its,” “their” or “our” assets and activities are not meant to imply, nor should they be construed as meaning, that The Pennant Group, Inc. or The Ensign Group, Inc. has any direct operating assets, employees or revenue, or that any of the subsidiaries are operated by The Pennant Group, Inc. or The Ensign Group, Inc.

Unless otherwise indicated or the context otherwise requires, all information in this information statement gives effect to the effectiveness of our amended and restated certificate of incorporation and amended and restated bylaws, the forms of which are filed as exhibits to the registration statement of which this information statement forms a part.

 

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FINANCIAL STATEMENT PRESENTATION

This information statement includes certain historical combined financial and other data for New Ventures. To effect the separation, The Ensign Group, Inc. will undertake an internal reorganization, following which The Pennant Group, Inc. will hold, directly or through its subsidiaries, New Ventures. The Pennant Group, Inc. is the registrant under the registration statement of which this information statement forms a part and will be the financial reporting entity following the consummation of the spin-off. Our historical combined financial information as of December 31, 2018 and 2017 and for the years ended December 31, 2018, 2017 and 2016 has been derived from the audited combined financial statements of New Ventures (the “Audited Combined Financial Statements”) included elsewhere in this information statement. Our historical combined financial information as of June 30, 2019 and for the six months ended June 30, 2019 and 2018 has been derived from the unaudited condensed combined financial statements of New Ventures (the “Interim Financial Statements”) included elsewhere in this information statement.

This information statement also includes an unaudited pro forma combined balance sheet as of June 30, 2019 and unaudited pro forma combined statement of income for the year ended December 31, 2018 and for the six months ended June 30, 2019, which present our combined financial position and results of operations after giving effect to the spin-off, including the internal reorganization and the distribution, and the other transactions described under “Unaudited Pro Forma Combined Financial Statements.” The unaudited pro forma combined financial statements are presented for illustrative purposes only and are not necessarily indicative of the operating results or financial position that would have occurred if the relevant transactions had been consummated on the date indicated, nor is it indicative of future operating results.

You should read the sections titled “Selected Historical Combined Financial Data” and “Unaudited Pro Forma Combined Financial Statements,” each of which is qualified in its entirety by reference to the Audited Combined Financial Statements and Interim Financial Statements and related notes thereto and the financial and other information, including in the sections titled “Risk Factors,” “Capitalization” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” in each case included elsewhere in this information statement.

The Pennant Group, Inc. was formed on January 24, 2019 in connection with the spin-off. The financial statements of The Pennant Group, Inc. as of June 30, 2019 and January 24, 2019 have been included in this information statement. In connection with the internal reorganization, The Pennant Group, Inc. will become the parent of the subsidiaries included in the Audited Combined Financial Statements and Interim Financial Statements of New Ventures.

INDUSTRY AND MARKET DATA

The industry, market and competitive position data and certain other statistical information used in this information statement are based on independent industry publications, government publications or other published independent sources. These sources generally state that the information they provide has been obtained from sources believed to be reliable, but that the accuracy and completeness of the information are not guaranteed. The forecasts and projections are based on industry surveys and the preparers’ experience in the industry, and there is no assurance that any of the projected amounts will be achieved. We believe that the surveys and market research others have performed are reliable, but we have not independently verified this information. The Centers for Medicare and Medicaid Services and the U.S. Census Bureau are the primary sources for third-party market data and industry statistics in this information statement. Forward-looking information obtained from third-party sources is subject to the same qualifications and the uncertainties regarding the other forward-looking statements in this information statement. See “Risk Factors” and “Special Note About Forward-Looking Statements.”

 

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CERTAIN DEFINED TERMS

Except where the context suggests otherwise, we define certain terms in this information statement as follows:

 

   

“ACA” is defined as the Patient Protection and Affordable Care Act of 2010 and the Healthcare Education and Reconciliation Act;

 

   

“average daily census” is defined as the average number of patients who are receiving hospice care during any measurement period divided by number of days during such measurement period;

 

   

“average Medicare revenue per completed 60-day episode” is defined as the average amount of home health revenue for each completed 60-day episode generated from patients who are receiving care under Medicare reimbursement programs;

 

   

“average monthly revenue per occupied unit” is defined as the revenue for senior living services during any measurement period divided by actual occupied senior living units for such measurement period;

 

   

“CAGR” is defined as the compound annual growth rate;

 

   

“CMS” is defined as the Centers for Medicare and Medicaid Services;

 

   

“Code” is defined as the Internal Revenue Code of 1986, as amended;

 

   

“Ensign Leases” is defined as certain “triple-net” lease agreements between our operating subsidiaries and subsidiaries of Ensign for the lease of certain senior living properties, which we anticipate will amend and restate or replace existing leases in connection with the spin-off;

 

   

“FASB” is defined as the Financial Accounting Standards Board;

 

   

“FCA” is defined as the federal False Claims Act;

 

   

“FERA” is defined as the Fraud Enforcement and Recovery Act;

 

   

“GAAP” is defined as accounting principles generally accepted in the United States of America;

 

   

“HIPAA” is defined as the Health Insurance Portability and Accountability Act of 1996;

 

   

“HUD” is defined as the Department of Housing and Urban Development;

 

   

“IRS” is defined as the U.S. Internal Revenue Service;

 

   

“MACRA” is defined as the Medicare Access and Chip Reauthorization Act;

 

   

“New Ventures” is defined as the home health and hospice agencies and substantially all of the senior living businesses of The Ensign Group, Inc., which will be transferred to The Pennant Group, Inc. in connection with the spin-off;

 

   

“Occupancy” is defined as the ratio of actual number of days our units are occupied during any measurement period to the number of units available for occupancy during such measurement period;

 

   

“OIG” is defined as the Office of the Inspector General;

 

   

“Parent” is defined as The Ensign Group, Inc.;

 

   

“PDGM” is defined as the Patient-Driven Groupings Model;

 

   

“SEC” is defined as the Securities and Exchange Commission;

 

   

“SNF” is defined as skilled nursing facility; and

 

   

“Tax Act” is defined as the Tax Cuts and Jobs Act of 2017.

 

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SUMMARY

This summary highlights information contained in this information statement and provides an overview of the Company, our spin-off from Ensign and the distribution of our common stock by Ensign to its stockholders. For a more complete understanding of our business and the spin-off, you should read this entire information statement carefully, particularly the sections titled “Risk Factors” and “Unaudited Pro Forma Combined Financial Statements” and the Audited Combined Financial Statements and Interim Financial Statements and the notes thereto included in this information statement.

Our Company

We are a leading provider of high quality healthcare services to the growing senior population in the United States. We strive to be the provider of choice in the communities we serve through our innovative operating model. We operate in multiple lines of business including home health, hospice and senior living across Arizona, California, Colorado, Idaho, Iowa, Nevada, Oklahoma, Oregon, Texas, Utah, Washington, Wisconsin and Wyoming.

We believe our key differentiators are (i) our innovative operating model focused on empowering and developing strong local leaders, (ii) our disciplined growth strategy, and (iii) our ability to achieve quality care outcomes in lower cost settings. In our experience, healthcare is a local endeavor, largely dependent upon personal and professional relationships, community reputation and an ability to adapt to the changing needs of patients, partners and communities. As our operational leaders build strong relationships with key partners in their local healthcare communities, they are empowered to make informed and critical operational decisions that produce quality care outcomes and more effectively meet the needs of our patients.

In our home health and hospice business, we believe we are able to achieve quality outcomes—as measured by many industry and value-based metrics such as hospital readmission rates—in a lower cost setting. In our senior living business, we believe we are able to offer our residents a better quality of life experience at an affordable cost, thus appealing to a broader population. With our platform of diversified service offerings, we believe that we are well-positioned to take advantage of favorable demographic shifts as well as industry trends that reward providers offering quality care in lower cost settings.

As of June 30, 2019, we provided home health and hospice services through 62 agencies. Our home health services generally consist of providing some combination of clinical services including nursing, speech, occupational and physical therapy, medical social work and home health aide services. Home health is often a cost-effective solution for patients and can also increase their quality of life by allowing them to receive excellent clinical services in the comfort and convenience of a familiar setting. Using CMS’s star rating criteria, our home health agencies achieved an average of 4 out of 5 stars across all agencies compared to the industry average of 3.5 stars. Our hospice services focus on the physical, spiritual and psychosocial needs of terminally ill patients and their families and consist primarily of clinical care, education and counseling. During the six months ended June 30, 2019 and the year ended December 31, 2018, we generated 67.9% and 68.6%, respectively, of our home health and hospice revenue from Medicare.

As of June 30, 2019, we provided senior living services at 51 communities with 3,872 total units in our assisted living, independent living and memory care business. Our senior living operations provide a variety of services based on residents’ needs including residential accommodations, activities, meals, housekeeping and assistance in the activities of daily living to seniors who are independent or who require some support, but not the level of clinical care provided in a skilled nursing facility. We generate revenue at these communities primarily from private pay and other sources, with a portion earned from Medicaid. During the six months ended June 30, 2019 and the year ended December 31, 2018, 78.7% and 79.8%, respectively, of our senior living revenue was derived from private pay sources.



 

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Payor Mix for the Six Months Ended June 30, 2019

 

Combined    Home Health and Hospice    Senior Living

 

LOGO

   LOGO   

 

LOGO

Our Innovative Operating Model

Our innovative operating model is the foundation of our superior performance and success. Our operating model is founded on two core principles: (1) healthcare is a local business where providers are most successful when key operational decision-making meets local community needs and occurs close to patients and employees, and (2) peer accountability from operational and resource partners is more effective at driving excellent clinical and financial results than traditional hierarchical or “top-down” accountability structures.

Our model is innovative because each operation has been and will continue to be an independent operating subsidiary that functions under the direction of local clinical and operational leaders, each of whom are empowered to make decisions based on the unique needs of the patients, partners and communities they serve. This is in contrast to typical models where control and key decision-making is centralized at the corporate level. Moreover, we utilize a “cluster model,” where every operation is part of a defined “cluster,” which is a group of geographically proximate operations working together to allow leaders to communicate and provide support and accountability to each other. This creates incentives for leaders to share best practices and real-time data and benchmark clinical and financial performance against their cluster partners. We believe this locally-driven data-sharing and peer accountability model is unique amongst healthcare providers and has proven effective in improving clinical care, enhancing patient satisfaction and promoting operational efficiencies. This “cluster” operating model is the same model used by local leaders prior to the spin-off and will be key to the success of our future operations.

This organizational structure empowers our highly dedicated leaders and staff at the local level to make key decisions and creates a sense of ownership over operational and clinical results and the employee experience. Each leader and his or her staff are encouraged to make their operations the “provider of choice” in the community they serve. To accomplish this goal, leaders work closely with clinical staff and our expert resources to identify unique patient needs and priorities in a given community and create superior service offerings tailored to those needs. We believe that our localized approach to program development and patient care leads prospective patients and referral sources to choose or recommend our operations to others. Similarly, our emphasis on empowering local decision-makers encourages leaders to strive to become the “employer of choice” in the community they serve. One of our core values is the principle that the best patient care is provided by employees that experience significant work satisfaction because they are valued as individuals. Our leaders work hard to embody this core value and to attract, train and retain outstanding clinical staff by creating a work environment that fosters critical thinking, measurement, and relevance. Our local teams are motivated and empowered to quickly and proactively meet the needs of those they serve, without waiting for permission to act or being bound to a “one-size-fits-all” corporate strategy. In many markets, we attribute census growth and



 

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excellent clinical and financial outcomes to a healthy organizational culture built on these principles. With strong employee satisfaction across the organization, we believe we can continue to attract and retain the best talent in our industries.

Lastly, while our teams are local, they are also supported by cutting-edge systems and a “Service Center” staffed with teams of subject matter expert resources that advise on their respective fields of information technology, compliance, human resources, accounting, payroll, legal, risk management, education and other services. The partnership and peer accountability that exists between our local leaders and Service Center resources allows each operation to improve while benefiting from the technical expertise, systems and accountability of the Service Center.

Our Disciplined Growth Strategy

Much of our historical growth can be attributed to our expertise in acquiring strategic and underperforming operations and transforming them into market leaders in clinical quality, staff competency and financial performance. Our local leaders are trained to identify these opportunities for long-term organic growth as we strive to become the provider of choice in our local communities. Accordingly, we plan to continue to drive organic growth and acquire additional operations in existing and new markets in a disciplined manner.

From 2013 to 2018, we grew our home health and hospice services and senior living services revenue by 330.2%.

Revenue Growth Since 2013 (Dollars in Millions)

 

 

LOGO

 

(1)

Reflects the adoption of ASC 606, which includes a reduction to revenue of $1.8 million and $1.4 million for the year ended December 31, 2018 and the six months ended June 30, 2019, respectively.



 

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From 2013 to June 30, 2019, we grew the number of our home health and hospice agencies and senior living units by 287.5% and 208.3%, respectively.

Agency and Unit Growth Since 2013

 

Home Health and Hospice Agencies    Senior Living Units

LOGO

  

LOGO

Partner of Choice in Local Healthcare Communities

We view healthcare services primarily as a local business driven by personal relationships, reputation and the ability to identify and address unmet community needs. We believe our success is largely a result of our ability to build strong relationships within local healthcare communities based on a solid foundation of reliably superior care.

We believe we are a partner of choice to payors, providers, patients and employees in the healthcare communities we serve. As a partner, we focus on improving care outcomes and the quality of life of our patients in home or home-like settings. Our local leadership approach facilitates the development of strong professional relationships, allowing us to better understand and meet the needs of our partners. We believe our emphasis on working closely with other providers, payors and patients yields unique, customized solutions and programs that meet local market needs and improve clinical outcomes, which in turn accelerates revenue growth and profitability.

We are a trusted partner to, and work closely with, payors and other acute and post-acute providers to deliver innovative healthcare solutions in lower cost settings. In the markets we serve, we have developed formal and informal preferred provider relationships with key referral sources and transitional care programs that result in better coordination within the care continuum. These partnerships have resulted in significant benefits to payors, patients and other providers including reduced hospital readmission rates, appropriate transitions within the care continuum, overall cost savings, increased patient satisfaction and improved quality outcomes. Positive, repeated interactions and data-sharing result in strong local relationships and encourage referrals from our acute and post-acute care partners. As we continue to strengthen these formal and informal relationships and expand our referral base, we believe we will continue to drive revenue growth and operational results.

Industry Trends

The healthcare sector is one of the largest and fastest-growing sectors of the U.S. economy. According to the Centers for Medicare and Medicaid Services, national healthcare spending increased from 8.9% of U.S. gross



 

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domestic product (“GDP”), or $255 billion, in 1980 to an estimated 18% of GDP, or $3.6 trillion, in 2018. CMS projects national healthcare spending will grow by an average of 5.6% annually from 2018 through 2026, accounting for approximately 20% of U.S. GDP in 2026.

The home health, hospice and senior living segments are growing within the overall healthcare landscape in the United States. The home health market is estimated at approximately $90 billion and is growing at an estimated CAGR of 7%. The hospice industry is estimated at approximately $35 billion and is growing at an estimated CAGR of 5%. The senior living market is estimated at approximately $53 billion and growing at an estimated CAGR of 5%. We believe that the industries in which we operate will continue to benefit from several macroeconomic and regulatory trends highlighted below:

 

   

Increased Demand Driven by Aging Populations. As seniors account for an increasing percentage of the total U.S. population, we believe the demand for home health and hospice and senior living services will continue to increase. According to the census projection released by the U.S. Census Bureau in early 2018, between 2010 and 2030, the number of individuals over 65 years old is projected to be one of the fastest growing segments of the United States population, growing from 13% to 21%. The Bureau expects this segment to increase nearly 90% to 73 million, as compared to the total U.S. population which is projected to increase by 17% over that time period. Furthermore, the generation currently retiring has accumulated less savings than in the past, creating demand for more affordable senior housing and in-home care options. As a high quality provider in lower cost settings, we believe we are well-positioned to benefit from this trend.

 

   

Shift of Patient Care to Lower Cost Alternatives. The growth of the senior population in the U.S. continues to increase healthcare costs, often faster than the available funding from government-sponsored healthcare programs. In response, government payors have adopted measures that encourage the treatment of patients in their homes and other cost-effective settings where the staffing requirements and associated costs are often significantly lower than the alternatives. With our emphasis on the home health, hospice and senior living industries, which are among the lowest cost settings within the post-acute care continuum, we expect this shift to continue to drive our growth.

 

   

Transition to Value-Based Payment Models. In response to rising healthcare spending, commercial, government and other payors are generally shifting away from fee-for-service payment models toward value-based models, including risk-based payment models that tie financial incentives to quality, efficiency and coordination of care. We believe that payors will continue to emphasize reimbursement models driven by value and that our clinical outcomes combined with our services in lower cost settings will be increasingly rewarded. Many of our home health agencies already receive value-based payments, and we are well-positioned to capitalize on this growth.

 

   

Significant Acquisition and Consolidation Opportunities. The home health, hospice and senior living industries are highly fragmented markets with thousands of small and regional providers and only a handful of large national players. There are over 12,300 Medicare-certified home health agencies, with the top ten largest operators accounting for about 21.0% of the market. There are approximately 4,200 hospice agencies in the U.S. with the top five largest operators accounting for about 14.0% of the total market share. As with the home health and hospice industries, there is significant fragmentation in the senior housing industry, with approximately 17,000 providers in the U.S. We believe that our strategy of acquiring strategic and underperforming operations in these highly fragmented markets will be an instrumental piece of our future growth.

 

   

Changing Regulatory Framework. Regulations and reimbursement change frequently in our industries. Our model is designed to successfully navigate these regulatory and reimbursement changes. For example, in January 2017, CMS announced its intent to significantly modify the home health conditions of participation. Prior to the effective date in January 2018, our resources and operators worked together with local teams to formulate systems, policies and procedures to meet the



 

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new regulatory requirements at each operation, resulting in strong outcomes at our home health operations that have been surveyed. Similarly, CMS has proposed changes to the home health prospective payment system with the proposed implementation of the Patient-Driven Groupings Model (“PDGM”). This new reimbursement structure involves case mix calculation methodology refinements, changes to low utilization payment adjustment (“LUPA”) thresholds, the elimination of therapy thresholds, a change to the unit of payment from a 60-day episode to a 30-day episode, and phase out in 2020 and full elimination in 2021 of requests for anticipated payment (“RAP”). Just as we have navigated other major reimbursement and regulatory changes, we believe that our unique operating model will mitigate the negative impacts of PDGM as local operations and clinical leaders, supported by our expert resources, effectively adapt to the new reimbursement environment.

Our Competitive Strengths

We believe that we are well-positioned to benefit from the ongoing changes within the home health, hospice and senior living industries. We believe that we will achieve clinical, financial and cultural success as a direct result of the following key competitive strengths:

 

   

Innovative Operating Model. We believe healthcare services is primarily a local business. Our local leadership-centered operating model encourages our leaders to make key operational decisions that meet the individualized needs of their patients and community partners. Recognizing the local nature of our business, our leaders develop each operation’s reputation at the local level, rather than being bound by a traditional organization-wide branding strategy. In addition, our local leaders work closely with their cluster partners to share data and improve clinical and financial outcomes. Moreover, we do not maintain a traditional corporate headquarters, rather we operate a Service Center that accelerates operational results by developing world-class systems and by providing expertise in fields such as information technology, compliance, human resources, accounting, legal and education. This enables individual operations to function with the strength, synergies and economies of scale found in larger organizations without the disadvantages of a top-down management structure or corporate hierarchy. We believe this approach is unique within our industries and allows us to preserve the “one-operation-at-a-time” focus and culture that has contributed to our success.

 

   

Proven Track Record of Successful Acquisitions. We adhere to a disciplined acquisition strategy focused on sourcing and selectively acquiring operations within our target markets. Local leaders are heavily involved in the acquisition process and are recognized and rewarded as these acquired operations become the provider of choice in the communities they serve. Through our innovative operating model and disciplined approach to strategic growth, we have completed and successfully transitioned dozens of value-add operations. Our expertise in acquiring and transforming strategic and underperforming operations allows us to consider a broad range of potential acquisition targets and will be a key element of our future success.

 

   

Superior Clinical Outcomes and Quality Care. We will continue to achieve success by delivering high quality home health, hospice and senior living services. Our locally-driven, patient-centered approach to clinical care allows us to meet the unique needs of our patients, resulting in improved clinical outcomes including reduced hospital readmission rates. These improved outcomes are driven by both our talented local clinicians and our data-driven analytical approach to patient care and risk stratification. We believe that our achievement of high quality clinical outcomes positions us as a solution for patients and referral sources, leading to census growth and improved profitability.

 

   

Diversified Portfolio by Payor and Services. As of June 30, 2019, we operated 62 home health and hospice agencies and 51 senior living communities across 13 states. Because of this diversified portfolio, our blended payor mix was approximately 40.7% Medicare, 13.4% Medicaid, 8.6% managed care and 37.3% private pay for the six months ended June 30, 2019. Our balanced payor mix provides



 

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greater business stability through economic cycles and mitigates volatility arising from government-driven reimbursement changes. For the six months ended June 30, 2019, we generated approximately 60.0% of our revenue from home health and hospice services and 40.0% of our revenue from senior living services. This diversified service portfolio allows us to opportunistically execute on our acquisition strategy as valuations fluctuate over industry cycles.

 

   

Proven Track Record of Talent Recruitment, Development and Retention. We have been successful in attracting, developing and retaining outstanding business and clinical leaders to lead our operating subsidiaries. Our unique operating model, which emphasizes local decision-making and team building, supported by our platform of expert resources and best-in-class systems, attracts a highly talented and entrepreneurial group of leaders. Our operational leaders are committed to ongoing training and participate in regular leadership development and educational programs. We believe that our commitment to professional development strengthens the quality of our operational leaders and staff and will continue to differentiate us from our competitors.

Our Strategy

We believe that the following strategies are primarily responsible for our growth to date and will continue to drive the growth of our business:

 

   

Grow Talent Base and Develop Future Leaders. Our growth strategy is focused on expanding our talent base and developing future leaders. A key component of our organizational culture is our belief that strong local leadership is a primary ingredient to operational success. We use a multi-faceted strategy to identify and recruit proven business leaders from various industries and backgrounds. To develop these leaders, we have a rigorous “CEO-in-Training Program” that includes significant in-person instruction on leadership, clinical and operational topics as well as extensive on-the-ground training and active learning with key leaders from across the organization. After placement in a local operation, our leaders continue to receive training and regular feedback and support from operational and resource peers as they seek to achieve great results. We believe our model of empowering local leaders and providing them a platform of support from expert resources and systems will continue to attract and retain highly talented and entrepreneurial leaders.

 

   

Focus on Organic Growth. We believe that we have a significant opportunity to drive organic growth within our current portfolio and recently acquired operations. As we improve clinical outcomes, quality of care and operational results at each of our existing and newly acquired operations, we become a provider of choice in the communities we serve, which leads to census growth. Through this census growth, and as we continue to expand our service offerings, we believe we will continue to translate revenue growth into bottom line success with rigorous adherence to our core operating principles. By effectively using data systems and analytics and embracing a culture of transparency and accountability, our local leaders have a track record of steadily improving operational results. We believe our unique operating model will continue to cultivate steady and consistent organic growth in the future.

 

   

Pursue Disciplined Acquisition Strategy. The disciplined acquisition and integration of strategic and underperforming operations is a key element of our past success and future growth. We have proven the ability to successfully transition both turnaround and stable acquisitions, transforming them into top-quality operations preferred by referral sources, thus creating a strong return on investment. We plan to continue to take advantage of the fragmented home health, hospice and senior living industries by acquiring strategic and underperforming operations within both our existing and new geographic markets. With experienced leaders in place at the local level and demonstrated success in significantly improving operating conditions at acquired businesses, we believe we are well positioned to continue successfully expanding our footprint.



 

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Leverage Our Operational Capabilities to Expand Partnerships. We have a unique and proven operating model with a track record of becoming the provider of choice through deep local payor and provider relationships. Our local leadership approach enables us to adapt to and efficiently meet the needs of our partners in the communities we serve. Our clinical and data analytics capabilities foster solutions and allow us to optimize clinical outcomes. We use this data to communicate with key partners in an effort to reduce overall cost of care and drive improved clinical outcomes. We will continue to expand formal and informal partnerships throughout the healthcare continuum by strategically investing in programs and data analytics that help us and our partners improve care transitions, achieve better outcomes and reduce costs.

 

   

Strategically Invest In and Integrate Other Post-Acute Healthcare Businesses. Another important element to our growth strategy includes in-house development and acquisition of other post-acute care businesses that are adjacent to our existing service offerings. These businesses either directly or indirectly benefit our patients, help us collaborate more effectively with our partners, and allow us to compete more effectively in the rapidly-changing healthcare environment. Our leadership development programs facilitate these investments, and we have supported local leaders in exploring new business opportunities. We expect to continue to selectively incubate ancillary solutions in a disciplined manner that incentivizes our local leaders and bolsters the depth and breadth of services we offer within the post-acute care continuum.

Implications of Being an Emerging Growth Company

As a company with less than $1.07 billion in revenue during our last fiscal year, we qualify as an “emerging growth company” as defined in the Jumpstart Our Business Startups Act of 2012 (the “JOBS Act”). We will continue to be an emerging growth company until the earliest to occur of:

 

   

the last day of the fiscal year following the fifth anniversary of the distribution;

 

   

the last day of the fiscal year with at least $1.07 billion in annual revenues;

 

   

the last day of the fiscal year in which we are deemed to be a large accelerated filer, which means that we have been public for at least twelve months, have filed at least one annual report and the market value of our common stock that is held by non-affiliates exceeds $700 million as of the last day of our then-most recently completed second fiscal quarter; or

 

   

the date on which we have issued more than $1 billion of non-convertible debt during the prior three-year period.

Until we cease to be an emerging growth company, we may take advantage of reduced reporting requirements generally unavailable to other public companies. Those provisions allow us to:

 

   

provide reduced disclosure regarding our executive compensation arrangements pursuant to the rules applicable to smaller reporting companies, which means we do not have to include a compensation discussion and analysis and certain other disclosure regarding our executive compensation;

 

   

not provide an auditor attestation of our internal control over financial reporting as required under Section 404 of the Sarbanes-Oxley Act of 2002, as amended; and

 

   

not hold a nonbinding advisory vote on executive compensation and stockholder approval of any golden parachute payments not previously approved.

We have elected to adopt the reduced disclosure requirements described above for purposes of the information statement. In addition, for so long as we qualify as an emerging growth company, we expect to take



 

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advantage of certain of the reduced reporting and other requirements of the JOBS Act with respect to the periodic reports we will file with the SEC and proxy statements that we use to solicit proxies from our stockholders. As a result of these elections, the information that we provide in this information statement may be different than the information you may receive from other public companies in which you hold equity interests. In addition, it is possible that some investors will find our common stock less attractive as a result of these elections, which may result in a less active trading market for our common stock and higher volatility in our stock price.

In addition, the JOBS Act permits an emerging growth company to take advantage of an extended transition period to comply with new or revised accounting standards applicable to public companies. We have elected to not take advantage of the extended transition period that allows an emerging growth company to delay the adoption of certain accounting standards until those standards would otherwise apply to private companies, which means that the financial statements included in this information statement, as well as financial statements we file in the future, will be subject to all new or revised accounting standards generally applicable to public companies. Our election not to take advantage of the extended transition period is irrevocable.



 

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Summary Risk Factors

Our business is subject to numerous risks described in the section entitled “Risk Factors” and elsewhere in this information statement. You should carefully consider these risks before making an investment. Some of these risks include, but are not limited to:

 

   

Our revenue could be impacted by federal and state changes to reimbursement and other aspects of Medicaid and Medicare.

 

   

Reforms to the U.S. healthcare system could impose new requirements upon us and may lower our reimbursements.

 

   

Increased competition for, or a shortage of, nurses and other skilled personnel could increase our staffing and labor costs and subject us to monetary fines.

 

   

We are subject to extensive and complex federal and state government laws and regulations which could change at any time and increase our cost of doing business and subject us to enforcement actions.

 

   

We are subject to litigation that could result in significant legal costs and large settlement amounts or damage awards.

 

   

We may be unable to complete future acquisitions at attractive prices or at all, which may adversely affect our revenue; we may also elect to dispose of underperforming or non-strategic operating subsidiaries, which would also decrease our revenue.

 

   

We face significant competition from other healthcare providers and may not be successful in attracting patients and residents to our affiliated operations.

 

   

If we do not achieve and maintain competitive quality of care or if the frequency of CMS surveys and enforcement sanctions increases, our business may be negatively affected.

 

   

If we are unable to obtain insurance, or if insurance becomes more costly for us to obtain, our business may be adversely affected.

 

   

Our systems are subject to security breaches and other cyber-security incidents.

 

   

We may be unable to achieve some or all of the benefits that we expect to achieve from our spin-off from Ensign.

 

   

We may have received better terms from unaffiliated third parties than the terms we received in our agreements with Ensign entered into in connection with the spin-off.

 

   

Our success will depend in part on our ongoing relationship with Ensign after the spin-off.

 

   

If the distribution, together with certain related transactions, were to fail to qualify as a reorganization for U.S. federal income tax purposes under Sections 368(a)(1)(D) and 355 of the Code, then our stockholders, we and Ensign might be required to pay substantial U.S. federal income taxes (including as a result of indemnification under the tax matters agreement).

 

   

We may not be able to engage in desirable strategic transactions and equity issuances following the spin-off because of certain restrictions related to preserving the tax-free treatment of the spin-off. In addition, we could be liable for adverse tax consequences resulting from engaging in significant strategic or capital-raising transactions.

 

   

There is no existing market for our common stock, and a trading market that will provide you with adequate liquidity may not develop for our common stock, which could limit your ability to sell your shares of our common stock at an attractive price, or at all.



 

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We are an “emerging growth company” under the JOBS Act, and any decision on our part to comply with certain reduced reporting and disclosure requirements applicable to emerging growth companies could make our common stock less attractive to investors.

 

   

Our stock price may be volatile or may decline regardless of our operating performance, and you may not be able to sell your shares at an attractive price or at all.

 

   

Your percentage ownership in Pennant may be diluted in the future because of equity awards that we expect will be issued to our directors, and officers and employees of our subsidiaries and the accelerated vesting of certain equity awards with respect to our common stock.

 

   

Anti-takeover provisions in our organizational documents and Delaware law might discourage or delay acquisition attempts for us that you might consider favorable.

These and other risks relating to our business, our industry, the spin-off and our common stock are discussed in greater detail under the heading “Risk Factors” in this information statement. You should read and consider all of these risks carefully.

Company Information

The Pennant Group, Inc. was incorporated in Delaware on January 24, 2019. Our principal executive offices are at 1675 East Riverside Drive, Suite 150, Eagle, Idaho 83616, and our telephone number is (208) 506-6100. Our website is www.pennantgroup.com. The information and other content contained in, or accessible through, our website are not part of, and is not incorporated into, this information statement, and investors should not rely on any such information in deciding whether to invest in our common stock.



 

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The Spin-Off

The following provides only a summary of the terms of the spin-off. For a more detailed description of the matters described below, see “The Spin-Off.”

Overview

On May 6, 2019, Ensign announced its intention to implement the spin-off of Pennant from Ensign, following which The Pennant Group, Inc. will be an independent, publicly-traded company, and Ensign will have no continuing stock ownership interest in Pennant.

Before our spin-off from Ensign, we will enter into a master separation agreement and several other agreements with Ensign related to the spin-off. These agreements, including an employee matters agreement, a tax matters agreement, a transition services agreement and the Ensign Leases, will govern the relationship between us and Ensign after completion of the spin-off and provide for the allocation between us and Ensign of various assets, liabilities, rights and obligations. In addition, subsidiaries of Ensign and Pennant may opt into a voluntary joint post-acute care preferred provider network called the Ensign Pennant Care Continuum, which will allow participants to collaborate together to enhance voluntary transitions between clinical care settings. See “Certain Relationships and Related Party Transactions.”

The distribution is subject to the satisfaction or waiver of certain conditions. In addition, until the distribution has occurred, the board of directors of The Ensign Group, Inc. (the “Ensign board of directors”) has the right to not proceed with the distribution, even if all of the conditions are satisfied. See “The Spin-Off—Conditions to the Distribution.”

Financing Transactions

We expect to put in place a capital structure that provides us with the flexibility to grow and a cost of debt capital that allows us to compete for investment opportunities. Subject to market conditions, we expect to enter into a credit agreement (the “Credit Agreement”), which is expected to provide for a revolving credit facility with a syndicate of banks with a borrowing capacity of $75.0 million (the “Revolving Credit Facility”). We anticipate the interest rates applicable to loans under the Revolving Credit Facility to be, at the Company’s election, either LIBOR (“Adjusted LIBOR” as defined in the Credit Agreement) plus a margin ranging from 2.5% to 3.5% per annum or Base Rate plus a margin ranging from 1.5% to 2.5% per annum, in each case based on the ratio of Consolidated Total Net Debt to Consolidated EBITDA (each, as defined in the Credit Agreement). In addition, we expect that we will pay a commitment fee on the undrawn portion of the commitments under the Revolving Credit Facility that is estimated to be 0.6% per annum.

We anticipate that the Revolving Credit Facility will not be subject to interim amortization. We expect that the Company will not be required to repay any loans under the Revolving Credit Facility prior to maturity. We expect that the Company will be permitted to prepay all or any portion of the loans under the Revolving Credit Facility prior to maturity without premium or penalty, subject to reimbursement of any LIBOR breakage costs of the lenders. This information is based on our current negotiations with the lead banks in an anticipated syndicate.

As a result of the financing transaction, we expect to have outstanding indebtedness of approximately $30.0 million. The amount reflects proceeds from issuance of indebtedness under the Revolving Credit Facility, including approximately $1.2 million in estimated financing cost. The foregoing summarizes some of the currently expected terms of the Revolving Credit Facility. However, the foregoing summary does not purport to be complete, and the terms of the Revolving Credit Facility have not yet been finalized. There may be changes to the expected size and other terms of the Revolving Credit Facility, some of which may be material.



 

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We expect that we will use approximately $25.0 million of the proceeds from the financing transaction to pay transaction fees and to pay a dividend to Ensign in connection with the contribution of assets to us by Ensign prior to the spin-off. We expect to retain approximately $5.0 million in cash for working capital, acquisitions and other general purposes. We expect that Ensign would use the funds received from us to repay certain outstanding third-party bank debt and other indebtedness and/or pay dividends to Ensign’s stockholders. After the spin-off, we expect that we will use borrowings under the Revolving Credit Facility for working capital purposes, to fund acquisitions and for other general purposes. See “The Spin-Off—Financing Transactions” and “Description of Certain Indebtedness.”

Questions and Answers About the Spin-Off

The following provides only a summary of the terms of the spin-off. For a more detailed description of the matters described below, see “The Spin-Off.”

Q: What is the spin-off?

A: The spin-off is the method by which we will separate from Ensign. In the spin-off, The Ensign Group, Inc. will distribute to Ensign stockholders substantially all of the outstanding shares of Pennant common stock. We refer to this as the distribution. Following the spin-off, The Pennant Group, Inc. will be an independent, publicly-traded company, and Ensign will not retain any ownership interest in Pennant.

Q: What will I receive in the spin-off?

A: As a holder of Ensign common stock, you will retain your shares of Ensign common stock and will receive one share of Pennant common stock for every two shares of Ensign common stock you own as of the record date. The number of shares of Ensign common stock you own and your proportionate interest in Ensign will not change as a result of the spin-off. You will receive only whole shares of Pennant common stock in the distribution, as well as cash payment in lieu of any fractional shares. See “The Spin-Off.”

Q: What is The Pennant Group, Inc.?

A: After the spin-off is completed, The Pennant Group, Inc. will be a new independent, publicly-traded holding company of Ensign’s home health and hospice agencies and substantially all of Ensign’s senior living businesses. The Pennant Group, Inc. is currently a wholly owned subsidiary of The Ensign Group, Inc.

Q: Why is the separation of Pennant from Ensign structured as a spin-off?

A: Ensign determined, and continues to believe, that a spin-off that is generally tax-free to Ensign and Ensign stockholders for U.S. federal income tax purposes will enhance the long-term value of both Ensign and Pennant. Further, Ensign believes that a spin-off offers the most efficient way to accomplish a separation of its home health and hospice agencies and substantially all of its senior living businesses, a higher degree of certainty of completion in a timely manner and a lower risk of disruption to current business operations. See “The Spin-Off—Reasons for the Spin-Off.”

Q: What are the conditions to the distribution?

A: The distribution is subject to the satisfaction, or waiver by the Ensign board of directors, of the following conditions:

 

   

the final approval of the distribution by the Ensign board of directors, which approval may be given or withheld in its absolute and sole discretion;



 

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our Registration Statement on Form 10, of which this information statement forms a part, shall have been declared effective by the SEC, with no stop order in effect with respect thereto, and a notice of internet availability of this information statement shall have been mailed to Ensign stockholders;

 

   

the mailing by Ensign of this information statement (or notice of internet availability thereof) to record holders of Ensign common stock as of the record date;

 

   

Pennant common stock shall have been approved for listing on NASDAQ, subject to official notice of distribution;

 

   

Ensign shall have obtained an opinion from Kirkland & Ellis LLP, Ensign’s tax counsel, in form and substance satisfactory to Ensign, to the effect that, subject to the assumptions and limitations described therein, the distribution of Pennant common stock and certain related transactions will qualify as a reorganization under Sections 368(a)(1)(D) and 355 of the Code, in which no gain or loss is recognized by The Ensign Group, Inc. or its stockholders, except, in the case of Ensign stockholders, for cash received in lieu of fractional shares;

 

   

any required material governmental approvals and other consents necessary to consummate the distribution or any portion thereof shall have been obtained and be in full force and effect;

 

   

the absence of any events or developments having occurred prior to the spin-off that, in the judgment of the Ensign board of directors, would result in the spin-off having a material adverse effect on Ensign or its stockholders;

 

   

the adoption by Pennant of its amended and restated certificate of incorporation and amended and restated bylaws filed by Pennant with the SEC as exhibits to the Registration Statement on Form 10, of which this information statement forms a part;

 

   

no order, injunction or decree issued by any governmental entity of competent jurisdiction or other legal restraint or prohibition preventing the consummation of all or any portion of the distribution shall be in effect, and no other event shall have occurred or failed to occur that prevents the consummation of all or any portion of the distribution;

 

   

the internal reorganization shall have been completed, except for such steps as Ensign in its sole discretion shall have determined may be completed after the distribution date;

 

   

each of the master separation agreement, the tax matters agreement, the employee matters agreement, the transition services agreement, the Ensign Leases and the other ancillary agreements shall have been executed and delivered by each party thereto and be in full force and effect;

 

   

Ensign shall have completed its own financing transactions, including amending and restating its existing credit facility, to be effective on or prior to the distribution date; and

 

   

the financing transaction described herein shall have been completed on or prior to the distribution date.

See “The Spin-Off—Conditions to the Distribution.”

Q: Can Ensign decide to not proceed with the distribution even if all of the conditions to the distribution have been met?

A: Yes. Until the distribution has occurred, the Ensign board of directors has the right to not proceed with the distribution, even if all of the conditions are satisfied.

Q: What is being distributed in the spin-off?

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on the number of shares of Ensign common stock that we expect will be outstanding as of the record date, the distribution ratio and the anticipated exchange of equity awards in Ensign’s majority-owned subsidiary, Cornerstone Healthcare, Inc. (“Cornerstone”) for Pennant equity awards in anticipation of the distribution. The shares of Pennant common stock distributed by The Ensign Group, Inc. will constitute substantially all of the issued and outstanding shares of Pennant common stock immediately prior to the distribution. Pennant is also anticipating that Cornerstone equity awards granted to certain individuals will be exchanged for Pennant common stock immediately prior to the distribution. See “Description of Capital Stock—Common Stock.”

Q: When is the record date for the distribution?

A: The record date will be the close of business of NASDAQ on September 20, 2019.

Q: When will the distribution occur?

A: The distribution date of the spin-off is October 1, 2019. We expect that it will take the distribution agent, acting on behalf of Ensign, up to two weeks after the distribution date to fully distribute the shares of Pennant common stock to Ensign stockholders.

Q: What do I have to do to participate in the spin-off?

A: Nothing. You are not required to take any action, although we urge you to read this entire information statement carefully. No stockholder approval of the distribution is required or sought. You are not being asked for a proxy and Ensign requests that you do not send Ensign a proxy. No action is required on your part to receive your shares of Pennant common stock. You will neither be required to pay anything for the new shares nor be required to surrender any shares of Ensign common stock to participate in the spin-off.

Q: Do I have appraisal rights in connection with the spin-off?

A: No. Holders of Ensign common stock are not entitled to appraisal rights in connection with the spin-off.

Q: How will fractional shares be treated in the spin-off?

A: Fractional shares of Pennant common stock will not be distributed. Fractional shares of Pennant common stock to which Ensign stockholders of record would otherwise be entitled will be aggregated and sold in the public market by the distribution agent at prevailing market prices. The distribution agent, in its sole discretion, will determine when, how, at what prices to sell these shares and through which broker-dealers, provided that such broker-dealers are not affiliates of Ensign or Pennant. The aggregate net cash proceeds of the sales will be distributed ratably to those stockholders who would otherwise have received fractional shares of Pennant common stock. See “The Spin-Off—Treatment of Fractional Shares” for a more detailed explanation. Receipt by a stockholder of proceeds from these sales in lieu of a fractional share generally will result in a taxable gain or loss to those stockholders for U.S. federal income tax purposes. Each stockholder entitled to receive cash proceeds from these shares should consult his, her or its own tax advisor as to such stockholder’s particular circumstances. We describe the material U.S. federal income tax consequences of the distribution in more detail under “The Spin-Off—Material U.S. Federal Income Tax Consequences of the Spin-Off.”

Q: Why has Ensign determined to undertake the spin-off?

A: The Ensign board of directors has determined that the spin-off is in the best interests of Ensign, Ensign stockholders and other constituents because the spin-off will provide a number of benefits, including:



 

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(1) amplification of the results of Ensign’s unique operating model in the home health, hospice and senior living industries; (2) creation of additional opportunities for key leaders within Pennant and Ensign; (3) enhanced ability to continue both companies’ growth strategy; (4) increased ability to raise funds through capital market offerings; (5) improved opportunities for partnership outside of Ensign; (6) highlight Pennant’s uniquely diversified payor mix; (7) equity compensation awards more closely tied to value created by our leaders and employees; and (8) improved investor understanding about our businesses. For a more detailed discussion of the reasons for the spin-off, see “The Spin-Off—Reasons for the Spin-Off.”

Q: What are the U.S. federal income tax consequences of the spin-off?

A: The spin-off is conditioned on the receipt of an opinion of Kirkland & Ellis LLP to the effect that, subject to the assumptions and limitations described therein, the distribution and certain related transactions will be treated as a reorganization for U.S. federal income tax purposes under Sections 368(a)(1)(D) and 355 of the Code in which no gain or loss is recognized by The Ensign Group, Inc. or its stockholders, except, in the case of Ensign stockholders, for cash received in lieu of fractional shares. Although Ensign has no current intention to do so, such condition is solely for the benefit of Ensign and Ensign stockholders and may be waived by Ensign in its sole discretion. The material U.S. federal income tax consequences of the distribution are described in more detail under “The Spin-Off—Material U.S. Federal Income Tax Consequences of the Spin-Off.”

Q: Will Pennant common stock be listed on a stock exchange?

A: Yes. Although there is not currently a public market for Pennant common stock, before completion of the spin-off, Pennant will apply to list its common stock on NASDAQ under the symbol “PNTG.” We anticipate that a limited market, commonly known as a “when-issued” trading market, will develop shortly before the record date, and that “regular-way” trading in shares of Pennant common stock will begin on the first trading day following the distribution date. If trading begins on a “when-issued” basis, you may purchase or sell Pennant common stock up to and including the distribution date, in which case your transaction will settle within two trading days after regular-way trading commences following the distribution. If you sell your Ensign common stock in the “regular-way” market before the distribution date, you also will be selling your right to receive shares of Pennant common stock in connection with the spin-off. However, if you sell your Ensign common stock in the “ex-distribution” market before the distribution date, you will still receive shares of Pennant common stock in the spin-off. We cannot predict the trading prices of Pennant common stock before, on or after the distribution date. See “Trading Market.”

Q: Will my shares of Ensign common stock continue to trade?

A: Yes. Ensign common stock is expected to continue to be listed on NASDAQ under its symbol, “ENSG.”

Q: If I sell, on or before the distribution date, shares of Ensign common stock that I held as of the record date, am I still entitled to receive shares of Pennant common stock distributable with respect to the shares of Ensign common stock I sold?

A: Beginning on or shortly before the record date and continuing through the distribution date for the spin-off, it is expected that there will be two markets in Ensign common stock: a “regular-way” market and an “ex-distribution” market. If you hold shares of Ensign common stock as of the record date for the distribution and choose to sell those shares in the “regular-way” market after the record date for the distribution and on or before the distribution date, you will also be selling the right to receive the shares of Pennant common stock in connection with the spin-off. However, if you hold shares of Ensign common stock as of the record date for the distribution and choose to sell those shares in the “ex-distribution” market after the record date for the distribution and on or before the distribution date, you will still receive the shares of Pennant common stock in the spin-off.



 

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Q: Will the spin-off affect the trading price of my Ensign common stock?

A: Yes. The trading price of shares of Ensign common stock immediately following the distribution is expected to be lower than immediately prior to the distribution because its trading price will no longer reflect the value of Pennant’s home health, hospice and senior living businesses. However, we cannot predict the price at which the shares of Ensign common stock will trade following the spin-off.

Q: What financing transactions will be undertaken in connection with the spin-off?

A: We expect to put in place a capital structure that provides us with the flexibility to grow and a cost of debt capital that allows us to compete for investment opportunities. Subject to market conditions, we expect to enter into the Revolving Credit Facility with a syndicate of banks with a borrowing capacity of $75.0 million. We anticipate the interest rates applicable to loans under the revolving credit facility to be, at the Company’s election, either LIBOR plus a margin ranging from 2.5% to 3.5% per annum or Base Rate plus a margin ranging from 1.5% to 2.5% per annum, in each case based on the ratio of Consolidated Total Net Debt to Consolidated EBITDA (each, as defined in the Credit Agreement). In addition, we expect that we will pay a commitment fee on the undrawn portion of the commitments under the Revolving Credit Facility that is estimated to be 0.6% per annum.

We anticipate that the Revolving Credit Facility will not be subject to interim amortization. We expect that the Company will not be required to repay any loans under the Revolving Credit Facility prior to maturity. We expect that the Company will be permitted to prepay all or any portion of the loans under the Revolving Credit Facility prior to maturity without premium or penalty, subject to reimbursement of any LIBOR breakage costs of the lenders. This information is based on our current negotiations with the lead banks in an anticipated syndicate.

As a result of the financing transaction, we expect to have outstanding indebtedness of approximately $30.0 million.    The amount reflects proceeds from issuance of indebtedness under the Revolving Credit Facility, including approximately $1.2 million in estimated financing cost. The foregoing summarizes some of the currently expected terms of the Revolving Credit Facility. However, the foregoing summary does not purport to be complete, and the terms of the Revolving Credit Facility have not yet been finalized. There may be changes to the expected size and other terms of the Revolving Credit Facility, some of which may be material.

We expect that we will use approximately $25.0 million of the proceeds from the financing transaction to pay transaction fees and to pay a dividend to Ensign in connection with the contribution of assets to us by Ensign prior to the spin-off. We expect to retain approximately $5.0 million in cash for working capital, acquisitions and other general purposes. We expect that Ensign would use the funds received from us to repay certain outstanding third-party bank debt and other indebtedness and/or pay dividends to Ensign’s stockholders. After the spin-off, we expect that we will use borrowings under the Revolving Credit Facility for working capital purposes, to fund acquisitions and for other general purposes. See “The Spin-Off—Financing Transactions” and “Description of Certain Indebtedness.”

Q: Who will form the senior management team and board of directors of The Pennant Group, Inc. after the spin-off?

A: The executive officers and members of the board of directors of The Pennant Group, Inc. (“our board of directors”) following the spin-off will include: Daniel H Walker, our Chairman, Chief Executive Officer and President; Christopher R. Christensen, director; John G. Nackel, Ph.D, director; Stephen M. R. Covey, director; JoAnne Stringfield, director; Scott E. Lamb, director, Roderic W. Lewis, director; Jennifer L. Freeman, Chief Financial Officer; John J. Gochnour, Chief Operating Officer; and Derek J. Bunker, Chief Investment Officer, Executive Vice President & Secretary. See “Management” for information on our executive officers and board of directors.



 

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Q: What will the relationship be between Ensign and Pennant after the spin-off?

A: Following the spin-off, The Pennant Group, Inc. will be an independent, publicly-traded company, and Ensign will have no continuing stock ownership interest in Pennant. We will have entered into a master separation agreement and several other agreements with Ensign related to the spin-off. These agreements, including an employee matters agreement, a tax matters agreement, a transition services agreement and the Ensign Leases, will govern the relationship between us and Ensign after completion of the spin-off and provide for the allocation between us and Ensign of various assets, liabilities, rights and obligations. In addition, subsidiaries of Ensign and Pennant may opt into a voluntary joint post-acute care preferred provider network called the Ensign Pennant Care Continuum, which will establish methodologies and protections for operational data sharing and guiding principles for the mutually beneficial collaboration on acquisition, and ancillary business opportunities. See “Certain Relationships and Related Party Transactions.”

Q: What will Pennant’s dividend policy be after the spin-off?

A: We do not intend to pay dividends on our common stock for the foreseeable future. Instead, we anticipate that all of our future earnings will be retained to support our operations and to finance the growth and development of our business. Any decision to declare and pay dividends will be made at the sole discretion of our board of directors and will depend on a number of factors, including: our historic and projected financial condition, liquidity and results of operations; our capital levels and needs; tax considerations; any acquisitions or potential acquisitions that we may consider; statutory and regulatory prohibitions and other limitations; the terms of any credit agreements or other borrowing arrangements that restrict our ability to pay cash dividends; general economic conditions; and other factors deemed relevant by our board of directors. See “Dividend Policy.”

Q: What will happen to equity awards in connection with the spin-off?

A: The board of directors of Ensign has determined that outstanding equity awards of Ensign and Cornerstone will be treated in a manner as set forth below, in connection with the spin-off. Generally, for each holder of outstanding Ensign and Cornerstone equity awards as of immediately prior to the spin-off, Ensign’s intent is that the economic value and substantive terms and conditions associated with such awards shall effectively be maintained and continued as of immediately following the spin-off.



 

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The following table provides additional information regarding each type of Ensign equity award held by employees who will remain as an employee of a subsidiary of Ensign or Pennant following the distribution date after giving effect to the spin-off:

 

Type of Award    Treatment in Connection with the Spin-Off

Restricted Stock Awards

  

Awards of restricted stock held by employees of subsidiaries of Ensign or Pennant will be treated in the same manner as other shares of Ensign common stock regardless of the employer following the spin-off and remain subject to the same vesting schedule, if any.

Stock Options

  

Employees of Ensign subsidiaries shall continue to hold Ensign stock options, but the number of options covered by such awards and exercise prices associated with such awards will be adjusted to maintain economic value.

 

Ensign stock options held by employees of Pennant subsidiaries will be converted into Pennant stock options but the number of options covered by such awards and exercise prices associated with such awards will be adjusted to maintain economic value.

The following table provides additional information regarding each type of Cornerstone equity award after giving effect to the spin-off and the reverse merger between Cornerstone and a subsidiary of Pennant, whereby Cornerstone shall be the surviving entity and a direct subsidiary of Pennant:

 

Type of Award    Treatment in Connection with the Spin-Off

Restricted Stock Awards

  

Cornerstone restricted stock will be converted into restricted stock of Pennant pursuant to the 2016 Cornerstone Omnibus Incentive Plan (the “Subsidiary Equity Plan”), with the number of shares covered by such awards adjusted to maintain economic value.

Stock Options

  

Cornerstone stock options will be converted into Pennant stock options pursuant to the Subsidiary Equity Plan, with the number of shares covered by such awards and exercise prices associated with such awards adjusted to maintain economic value.

Q: What are the anti-takeover effects of the spin-off?

A: Some provisions of Delaware law, certain of our agreements with Ensign, and our amended and restated certificate of incorporation and our amended and restated bylaws (as each will be in effect immediately following the spin-off) may have the effect of making it more difficult to acquire control of Pennant in a transaction not approved by our board of directors. For example, our amended and restated certificate of incorporation and amended and restated bylaws will, among other things, require advance notice for stockholder proposals and nominations, place limitations on convening stockholder meetings, authorize our board of directors to issue one or more series of preferred stock and provide for the classification of our board of directors. In addition, Ensign and Pennant may mutually agree to enter into certain restrictive covenants restricting certain activities of each for a period of time following the spin-off. Further, under the tax matters agreement, Pennant will agree, subject to certain terms, conditions and exceptions, not to enter into certain transactions for a period of two years following the distribution date involving an acquisition of Pennant common stock or certain other transactions that could cause the distribution to be taxable to Ensign. The parties will agree to indemnify each other for any tax resulting from any transaction to the extent a party’s actions caused such tax liability, regardless of whether the indemnified party consented to such transaction or the indemnifying party was otherwise permitted to enter into such transaction under the tax matters agreement, and for all or a portion of any tax liabilities resulting from the distribution under certain other circumstances. Generally, Ensign will recognize a taxable gain on the distribution



 

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if there are (or have been) one or more direct or indirect acquisitions (including issuances) of Pennant capital stock representing 50% or more of Pennant common stock, measured by vote or value, and the acquisitions are deemed to be part of a plan or series of related transactions that include the distribution. Any such acquisition of Pennant common stock within two years before or after the day of the distribution (with exceptions, including public trading by less-than-5% stockholders and certain compensatory stock issuances) generally will be presumed to be part of such a plan unless that presumption is rebutted. As a result, these obligations may discourage, delay or prevent a change of control of Pennant. See “Description of Capital Stock—Anti-Takeover Effects of Our Amended and Restated Certificate of Incorporation, Amended and Restated Bylaws and Delaware Law” and “The Spin-Off—Treatment of the Spin-Off” for more information.

Q: What are the risks associated with the spin-off?

A: There are a number of risks associated with the spin-off and ownership of Pennant common stock. These risks are discussed under “Risk Factors.”

Q: Who will be the distribution agent, transfer agent and registrar for Pennant common stock?

A: The distribution agent, transfer agent and registrar for Pennant common stock will be Broadridge Corporate Issuer Solutions, Inc. (“Broadridge”). For questions relating to the transfer or mechanics of the stock distribution, you should contact Broadridge toll-free at (877) 830-4936.

Q: Where can I get more information?

A: If you have any questions relating to the mechanics of the distribution, you should contact the distribution agent at:

Broadridge Corporate Issuer Solutions, Inc.

P.O. Box 1342

Brentwood, NY 11717

Toll-Free Number: (877) 830-4936

Toll Number: (720) 378-5591

Before the spin-off, if you have any questions relating to the spin-off, you should contact Ensign at:

The Ensign Group, Inc.

Investor/Media Relations

29222 Rancho Viejo Road, Suite 127

San Juan Capistrano, CA 92675

Phone: (949) 487-9500

Email: ir@ensigngroup.net

http://investor.ensigngroup.net/investor-relations

After the spin-off, if you have any questions relating to Pennant, you should contact Pennant at:

The Pennant Group, Inc.

Investor/Media Relations

1675 East Riverside Drive, Suite 150

Eagle, Idaho 83616

Phone: (208) 506-6100

Email: ir@pennantgroup.com

http://investor.pennantgroup.com/investor-relations



 

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Summary of the Spin-Off

 

Distributing Company

The Ensign Group, Inc., a Delaware corporation. After the distribution, Ensign will not own any shares of Pennant common stock.

 

Distributed Company

The Pennant Group, Inc., a Delaware corporation and, prior to the spin-off, a wholly owned subsidiary of The Ensign Group, Inc. After the spin-off, The Pennant Group, Inc. will be an independent, publicly-traded company.

 

Distributed Securities

All of the outstanding shares of Pennant common stock owned by The Ensign Group, Inc., which will be substantially all of the Pennant common stock issued and outstanding immediately prior to the distribution.

 

Record Date

The record date for the distribution is September 20, 2019.

 

Distribution Date

The distribution date is October 1, 2019.

 

Internal Reorganization

As part of the spin-off, Ensign will undergo an internal reorganization, pursuant to which, among other things: (i) the assets and liabilities associated with Ensign’s home health and hospice agencies and substantially all of its senior living businesses will be transferred to Pennant; and (ii) all other assets and liabilities of Ensign will be retained by Ensign. The senior living communities that will become part of Pennant consist primarily of those that are geographically and operationally strategic to its home health and hospice operations. The operational synergies and resource infrastructure support available in each market will better position each individual operation to best benefit the local healthcare community by providing consistent quality care, resulting in an overall better patient experience across the continuum of care. See “The Spin-Off—Manner of Effecting the Spin-Off-Internal Reorganization.”

 

 

After completion of the spin-off:

 

 

The Pennant Group, Inc. will be an independent, publicly-traded company (NASDAQ:PNTG), and through its subsidiaries will own Ensign’s home health and hospice agencies and substantially all of Ensign’s senior living businesses; and

 

 

The Ensign Group, Inc. will continue to be an independent, publicly-traded company (NASDAQ:ENSG) and will include transitional and skilled services, rehabilitative care services, healthcare campuses, post-acute-related new business ventures and real estate investments.

 

Distribution Ratio

Each holder of Ensign common stock will receive one share of Pennant common stock for every two shares of Ensign common stock held at the close of business on September 20, 2019.



 

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Immediately following the spin-off, The Pennant Group, Inc. expects to have approximately 300 record holders of shares of its common stock and approximately 28.0 million shares of common stock outstanding, based on the number of stockholders and shares of Ensign common stock that we expect will be outstanding as of the record date, the distribution ratio and the anticipated exchange of Cornerstone equity awards for Pennant equity awards in anticipation of the distribution. The estimation of the number of shares of common stock outstanding following the spin-off incorporates the currently available valuations and assumptions which may vary from the actual number. The actual number of shares to be distributed will be determined as of the record date and will reflect any repurchases of shares of Ensign common stock and issuances of shares of Ensign common stock in respect of awards under The Ensign Group, Inc. equity-based incentive plans between the date the Ensign board of directors declares the dividend for the distribution and the record date for the distribution.

 

 

In connection with the internal reorganization, we expect individuals holding Cornerstone equity awards, including the Named Executive Officers, will receive equity awards of The Pennant Group, Inc., in exchange for their Cornerstone equity awards.

 

The Distribution

On the distribution date, The Ensign Group, Inc. will release the shares of Pennant common stock to the distribution agent to distribute to Ensign stockholders. The distribution of shares will be made in book-entry form only, meaning that no physical share certificates will be issued. It is expected that it will take the distribution agent up to two weeks to issue shares of Pennant common stock to you or to your bank or brokerage firm electronically on your behalf by way of direct registration in book-entry form. Trading of our shares will not be affected during that time. You will not be required to make any payment, surrender or exchange your shares of Ensign common stock or take any other action to receive your shares of Pennant common stock.

 

Fractional Shares

The distribution agent will not distribute any fractional shares of Pennant common stock to Ensign stockholders. Fractional shares of Pennant common stock to which Ensign stockholders of record would otherwise be entitled will be aggregated and sold in the public market by the distribution agent. The aggregate net cash proceeds of the sales will be distributed ratably to those stockholders who would otherwise have received fractional shares of Pennant common stock. Receipt of the proceeds from these sales generally will result in a taxable gain or loss to those stockholders for U.S. federal income tax purposes. In addition, each Cornerstone stockholder who exchanges Cornerstone equity for interests in Pennant will also generally recognize taxable income to the extent of cash received in lieu of fractional shares. Each stockholder entitled to receive cash proceeds from these shares should consult his, her or its own tax advisor as to such stockholder’s particular circumstances. The material U.S. federal income tax consequences of the distribution are described in more detail under



 

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“The Spin-Off—Material U.S. Federal Income Tax Consequences of the Spin-Off.”

 

Conditions to the Distribution

The distribution is subject to the satisfaction, or waiver by The Ensign Group, Inc., of the following conditions:

 

   

the final approval of the distribution by the Ensign board of directors, which approval may be given or withheld in its absolute and sole discretion;

 

   

our Registration Statement on Form 10, of which this information statement forms a part, shall have been declared effective by the SEC, with no stop order in effect with respect thereto, and a notice of internet availability of this information statement shall have been mailed to Ensign stockholders;

 

   

the mailing by Ensign of this information statement (or notice of internet availability thereof) to record holders of Ensign common stock as of the record date;

 

   

Pennant common stock shall have been approved for listing on NASDAQ, subject to official notice of distribution;

 

   

Ensign shall have obtained an opinion from Kirkland & Ellis LLP, in form and substance satisfactory to Ensign, to the effect that, subject to the assumptions and limitations described therein, the distribution of Pennant common stock and certain related transactions will qualify as a reorganization under Sections 368(a)(1)(D) and 355 of the Code, in which no gain or loss is recognized by The Ensign Group, Inc. or its stockholders, except, in the case of Ensign stockholders, for cash received in lieu of fractional shares;

 

   

any required material governmental approvals and other consents necessary to consummate the distribution or any portion thereof shall have been obtained and be in full force and effect;

 

   

the absence of any events or developments having occurred prior to the spin-off that, in the judgment of the Ensign board of directors, would result in the spin-off having a material adverse effect on Ensign or its stockholders;

 

   

the adoption by Pennant of its amended and restated certificate of incorporation and amended and restated bylaws filed by Pennant with the SEC as exhibits to the Registration Statement on Form 10, of which this information statement forms a part;

 

   

no order, injunction or decree issued by any governmental entity of competent jurisdiction or other legal restraint or prohibition preventing the consummation of all or any portion of the distribution shall be in effect, and no other event shall have occurred or failed to occur that prevents the consummation of all or any portion of the distribution;



 

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the internal reorganization shall have been completed, except for such steps as Ensign in its sole discretion shall have determined may be completed after the distribution date;

 

   

each of the master separation agreement, the tax matters agreement, the employee matters agreement, the transition services agreement, the Ensign Leases and the other ancillary agreements shall have been executed and delivered by each party thereto and be in full force and effect;

 

   

Ensign shall have completed its own financing transactions, including amending and restating its existing credit facility, to be effective on or prior to the distribution date; and

 

   

the financing transaction described herein shall have been completed on or prior to the distribution date.

 

 

We are not aware of any material federal, foreign or state regulatory requirements that must be complied with or any material approvals that must be obtained, other than compliance with SEC and OIG rules and regulations, approval for listing on NASDAQ and the declaration of effectiveness of the Registration Statement on Form 10, of which this information statement forms a part, by the SEC, in connection with the distribution. Some of these conditions may not be met and The Ensign Group, Inc. may waive any of the conditions to the distribution. In addition, until the distribution has occurred, the Ensign board of directors has the right to not proceed with the distribution, even if all of the conditions are satisfied. For more information, see “The Spin- Off—Conditions to the Distribution.”

 

Trading Market and Symbol

We intend to list Pennant common stock on NASDAQ under the ticker symbol “PNTG.” We anticipate that a limited market, commonly known as a “when-issued” trading market, will develop shortly before the record date, and that “regular-way” trading in shares of Pennant common stock will begin on the first trading day following the distribution. If trading begins on a “when-issued” basis, you may purchase or sell Pennant common stock up to the distribution date, in which case your transaction will settle within two trading days after regular-way trading commences following the distribution. If you sell your Ensign common stock in the “regular-way” market before the distribution date, you also will be selling your right to receive shares of Pennant common stock in connection with the spin-off. However, if you sell your Ensign common stock in the “ex-distribution” market before the distribution date, you will still receive shares of Pennant common stock in the spin-off. We cannot predict the trading prices of Pennant common stock before, on or after the distribution date. For more information, see “Trading Market.”

 

Tax Consequences of the Distribution

The distribution is conditioned upon, among other things, the receipt of an opinion from Kirkland & Ellis LLP to the effect that, subject to



 

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the assumptions and limitations described therein, the distribution and certain related transactions will be treated as a reorganization for U.S. federal income tax purposes under Sections 368(a)(1)(D) and 355 of the Code, in which no gain or loss is recognized by The Ensign Group, Inc. or its stockholders, except, in the case of Ensign stockholders, for cash received in lieu of fractional shares. See “The Spin-Off—Material U.S. Federal Income Tax Consequences of the Spin-Off.”

 

 

Each stockholder is urged to consult his, her or its tax advisor as to the specific tax consequences of the spin-off to such stockholder, including the effect of any state, local or non-U.S. tax laws and of changes in applicable tax laws.

 

Relationship with Ensign after the Spin-Off

Before our spin-off from Ensign, we will enter into a master separation agreement and several other agreements with Ensign related to the spin-off. These agreements will govern the relationship between us and Ensign after completion of the spin-off and provide for the allocation between us and Ensign of various assets, liabilities, rights and obligations. These agreements include:

 

   

a master separation agreement with The Ensign Group, Inc., which will provide for the allocation of assets and liabilities between us and Ensign and will establish certain rights and obligations between the parties following the distribution;

 

   

a transition services agreement with The Ensign Group, Inc., pursuant to which certain services will be provided by each of Ensign and Pennant to the other, in each case on an interim basis following the distribution;

 

   

a tax matters agreement with The Ensign Group, Inc., regarding the sharing of tax liabilities incurred, and tax assets generated, before and after completion of the spin-off, certain indemnification rights with respect to tax matters;

 

   

an employee matters agreement with The Ensign Group, Inc., which will set forth the agreements between us and Ensign concerning certain employee, compensation and benefit-related matters; and

 

   

certain “triple-net” lease agreements between our operating subsidiaries and subsidiaries of Ensign for the lease of certain senior living properties, which will amend and restate or replace existing leases in connection with the spin-off.

 

 

In addition, subsidiaries of Ensign and Pennant may opt into a voluntary joint post-acute care preferred provider network called the Ensign Pennant Care Continuum, which will allow participants to collaborate together to enhance voluntary transitions between clinical care settings.

 

 

We describe these arrangements in greater detail under “Certain Relationships and Related Party Transactions” and describe some of



 

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the risks of these arrangements under “Risk Factors—Risks Related to the Spin-Off.”

 

Dividend Policy

We do not intend to pay dividends on our common stock for the foreseeable future. Instead, we anticipate that all of our future earnings will be retained to support our operations and to finance the growth and development of our business. Any decision to declare and pay dividends will be made at the sole discretion of our board of directors and will depend on a number of factors, including: our historic and projected financial condition, liquidity and results of operations; our capital levels and needs; tax considerations; any acquisitions or potential acquisitions that we may consider; statutory and regulatory prohibitions and other limitations; the terms of any credit agreements or other borrowing arrangements that restrict our ability to pay cash dividends; general economic conditions; and other factors deemed relevant by our board of directors. See “Dividend Policy.”

 

Financing Transactions

We expect to put in place a capital structure that provides us with the flexibility to grow and a cost of debt capital that allows us to compete for investment opportunities. Subject to market conditions, we expect to enter into the Revolving Credit Facility with a syndicate of banks with a borrowing capacity of $75.0 million. We anticipate the interest rates applicable to loans under the Revolving Credit Facility to be, at the Company’s election, either LIBOR plus a margin ranging from 2.5% to 3.5% per annum or Base Rate plus a margin ranging from 1.5% to 2.5% per annum, in each case based on the ratio of Consolidated Total Net Debt to Consolidated EBITDA (each, as defined in the Credit Agreement). In addition, we expect that we will pay a commitment fee on the undrawn portion of the commitments under the Revolving Credit Facility that is estimated to be 0.6% per annum.

 

 

We anticipate that the Revolving Credit Facility will not be subject to interim amortization. We expect that the Company will not be required to repay any loans under the Revolving Credit Facility prior to maturity. We expect that the Company will be permitted to prepay all or any portion of the loans under the Revolving Credit Facility prior to maturity without premium or penalty, subject to reimbursement of any LIBOR breakage costs of the lenders. This information is based on our current negotiations with the lead banks in an anticipated syndicate.

 

 

As a result of the financing transaction, we expect to have outstanding indebtedness of approximately $30.0 million. The amount reflects proceeds from issuance of indebtedness under the Revolving Credit Facility, including approximately $1.2 million in estimated financing cost. The foregoing summarizes some of the currently expected terms of the Revolving Credit Facility. However, the foregoing summary does not purport to be complete, and the terms of the Revolving Credit Facility have not yet been finalized. There may be changes to



 

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the expected size and other terms of the Revolving Credit Facility, some of which may be material.

 

 

We expect that we will use approximately $25.0 million of the proceeds from the financing transaction to pay transaction fees and to pay a dividend to Ensign in connection with the contribution of assets to us by Ensign prior to the spin-off. We expect to retain approximately $5.0 million in cash for working capital, acquisitions and other general purposes. We expect that Ensign would use the funds received from us to repay certain outstanding third-party bank debt and other indebtedness and/or pay dividends to Ensign’s stockholders. After the spin-off, we expect that we will use borrowings under the Revolving Credit Facility for working capital purposes, to fund acquisitions and for other general purposes.

 

 

See “The Spin-Off—Financing Transactions” and “Description of Certain Indebtedness.”

 

Transfer Agent

Broadridge.

 

Risk Factors

We face both general and specific risks and uncertainties relating to our business and our industry, the spin-off and our common stock. We also are subject to risks relating to our relationship with Ensign and our being an independent, publicly-traded company following the spin-off. You should carefully read the risk factors set forth in the section titled “Risk Factors” in this information statement.



 

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Summary Historical and Unaudited Pro Forma Combined Financial Data

We derived the summary historical statement of income data for the years ended December 31, 2018, 2017 and 2016 and the summary historical balance sheet data as of December 31, 2018 and 2017 from the Audited Combined Financial Statements of New Ventures included elsewhere in this information statement. We derived the summary historical combined statement of income data for each of the six months ended June 30, 2019 and 2018, and the summary historical balance sheet data as of June 30, 2019 from our Interim Financial Statements included elsewhere in this information statement.

Following the consummation of the spin-off, The Pennant Group, Inc. will hold, directly or through its subsidiaries, New Ventures and will be the financial reporting entity. The following summary unaudited pro forma combined financial data of Pennant has been prepared to reflect the spin-off and related transactions described under “Unaudited Pro Forma Combined Financial Statements.” The summary unaudited pro forma combined balance sheet data as of June 30, 2019 has been prepared to reflect the spin-off and related transactions as if they had occurred on June 30, 2019. The summary unaudited pro forma combined statement of income data for the year ended December 31, 2018 and the six months ended June 30, 2019 has been prepared to reflect the spin-off and related transactions as if they had occurred on January 1, 2018. The summary unaudited pro forma financial data is presented for illustrative purposes only and is not necessarily indicative of the operating results or financial position that would have occurred if the relevant transactions had been consummated on the date indicated, nor is it indicative of future operating results. The assumptions used and pro forma adjustments derived from such assumptions are based on currently available information, and we believe such assumptions are reasonable under the circumstances.

This summary historical and unaudited pro forma combined financial data is not indicative of our future performance and does not necessarily reflect what our financial position and results of operations would have been had we been operating as an independent, publicly-traded company during the periods presented, including changes that will occur in our operations and capitalization as a result of the spin-off from Ensign. For example, the historical combined financial statements of New Ventures include certain indirect general and administrative costs allocated from the subsidiaries of The Ensign Group, Inc. for certain functions and services, including executive management, finance, legal, information technology, human resources, employee benefits administration, treasury, risk management, procurement, and other shared services. These costs may not be representative of the future costs we will incur as an independent, public company.



 

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The summary historical and unaudited pro forma combined financial data below should be read together with the Audited Combined Financial Statements and Interim Financial Statements of New Ventures and related notes thereto, as well as the sections titled “Capitalization,” “Selected Historical Combined Financial Data,” “Unaudited Pro Forma Combined Financial Statements,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Description of Certain Indebtedness,” and the other financial information included elsewhere in this information statement.

 

    Six Months Ended June 30,     Year Ended December 31,  
    Pro forma
2019
    2019     2018     Pro forma
2018
    2018     2017     2016  
    (In thousands)  

Summary Statement of Income Data

   

Total revenue

  $ 160,641     $ 160,641     $ 137,768     $ 286,058     $ 286,058     $ 250,991     $ 217,225  

Total expenses

    152,650       155,502       127,656       268,371       265,427       235,589       204,243  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income from operations

    7,991       5,139       10,112       17,687       20,631       15,402       12,982  

Interest expense

    1,039       —         —         1,944       —         —         —    
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income before provision for income taxes

    6,952       5,139       10,112       15,743       20,631       15,402       12,982  

Provision for income taxes (benefit)

    421       (32     2,200       3,130       4,352       5,375       5,065  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income

    6,531       5,171       7,912       12,613       16,279       10,027       7,917  

Less: net income attributable to noncontrolling interest

    —         350       370       —         595       160       26  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income attributable to New Ventures

  $ 6,531     $ 4,821     $ 7,542     $ 12,613     $ 15,684     $ 9,867     $ 7,891  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Selected financial data by business segment:

           

Revenue

           

Home health and hospice services

  $ 96,325     $ 96,325     $ 81,007     $ 169,037     $ 169,037     $ 142,403     $ 115,813  

Senior living services

    64,316       64,316       56,761       117,021       117,021       108,588       101,412  

Segment income before provision for income taxes(1)

             

Home health and hospice services

    12,888       12,888       11,087       23,375       23,375       16,832       13,676  

Senior living services

    5,638       7,434       8,016       12,399       16,099       13,033       11,754  

 

(1)

General and administrative expenses are not allocated to any segment for determining segment profit or loss.

 

     As of June 30,      As of December 31,  
     Pro forma
2019
     2019      2018      2017  
     (In thousands)  

Summary Balance Sheet Data

        

Total assets

   $ 403,168      $ 356,665      $ 98,151      $ 88,289  

Total liabilities

     336,957        270,177        32,863        28,373  

Total equity

     66,211        86,488        65,288        59,916  


 

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     Six Months Ended June 30,     Year Ended December 31,  
         2019             2018         2018     2017     2016  

Operating Statistics

          

Home health services

          

Average Medicare revenue per 60-day completed episode

   $ 3,024     $ 2,951     $ 2,982     $ 3,028     $ 2,986  

Hospice services

          

Average daily census

     1,544       1,275       1,329       1,102       905  

Senior living services

          

Occupancy

     80.1     78.7     79.5     79.9     79.2

Average monthly revenue per occupied unit

   $ 3,109     $ 3,054     $ 3,044     $ 2,979     $ 2,916  

Other Financial Measures

We believe that certain non-GAAP measures, such as combined and segment EBITDA and Adjusted EBITDA and combined Adjusted EBITDAR when presented in conjunction with comparable GAAP measures, are useful because they are appropriate measures for performance, valuation or liquidity. These measures should be considered in addition to, not a substitute for or superior to, measures of financial performance evaluating our operating results prepared in accordance with GAAP. The non-GAAP financial measures presented below may not be comparable to similarly titled measures.

Combined and segment EBITDA and Adjusted EBITDA and combined Adjusted EBITDAR are non-GAAP financial measures we use in evaluating our operating performance and trends as well as our performance and valuation relative to competitors and peers. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Results of Operations” for an explanation of how we define each of these measures, a detailed description of why we believe such measures are useful and the limitations of each measure, and a reconciliation of net income to each of these measures.

 

     Six Months Ended June 30,      Year Ended December 31,  
Non-GAAP Measures    Pro
forma
2019
     2019      2018      Pro
forma
2018
     2018      2017      2016  
Combined Non-GAAP Measures    (In thousands)  

EBITDA

   $ 9,763      $ 6,561      $ 11,177      $ 20,651      $ 23,000      $ 17,786      $ 15,811  

Adjusted EBITDA

     11,757        13,203        12,403        23,192        26,297        21,480        18,345  

Adjusted EBITDAR

     30,374        30,024           58,061        57,466        

 

     Six Months Ended June 30,      Year Ended December 31,  
Segment Non-GAAP Measures(1)    Pro
forma
2019
     2019      2018      Pro
forma
2018
     2018      2017      2016  
     (In thousands)  

EBITDA(1)

  

Home health and hospice services

   $ 13,468      $ 13,118      $ 11,243      $ 24,420      $ 23,825      $ 17,617      $ 14,574  

Senior living services

     6,780        8,576        8,925        14,318        18,018        14,632        13,685  

Adjusted EBITDA(1)

                    

Home health and hospice services

     14,319        13,969        11,387        24,771        24,176        19,220        15,020  

Senior living services

     6,917        8,713        9,075        14,612        18,312        14,903        13,889  

 

(1)

General and administrative expenses are not allocated to any segment for determining segment profit or loss.



 

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RISK FACTORS

You should carefully consider each of the following risk factors and all other information set forth in this information statement. The risk factors generally have been separated into three groups: risks relating to our business and industry, risks relating to the spin-off and risks relating to our common stock. Based on the information currently known to us, we believe that the following information identifies the most significant risk factors affecting our company in each of these categories of risks. However, the risks and uncertainties we face are not limited to those set forth in the risk factors described below. Additional risks and uncertainties not presently known to us or that we currently believe to be immaterial may also adversely affect our business. In addition, past financial performance may not be a reliable indicator of future performance and historical trends should not be used to anticipate results or trends in future periods.

If any of the following risks and uncertainties develops into actual events, these events could have a material adverse effect on our business, financial condition or results of operations. In such case, the trading price of our common stock could decline.

Risks Related to Our Business and Industry

Our revenue could be impacted by federal and state changes to reimbursement and other aspects of Medicaid and Medicare.

We derived 54.1% and 52.7% of our revenue from the Medicaid and Medicare programs for the six months ended June 30, 2019 and 2018, respectively, and 53.1% for the year ended December 31, 2018. If reimbursement rates under these programs are reduced or fail to increase as quickly as our costs, or if there are changes in the way these programs pay for services, our business and results of operations would be adversely affected. The services for which we are currently reimbursed by Medicaid and Medicare may not continue to be reimbursed at adequate levels or at all. Further limits on the scope of services being reimbursed, delays or reductions in reimbursement or changes in other aspects of reimbursement could impact our revenue. For example, in the past, the enactment of the Deficit Reduction Act of 2005, the Medicaid Voluntary Contribution and Provider-Specific Tax Amendments of 1991 and the Balanced Budget Act of 1997 caused changes in government reimbursement systems, which, in some cases, made obtaining reimbursements more difficult and costly and lowered or restricted reimbursement rates for some of our patients.

The Medicaid and Medicare programs are subject to statutory and regulatory changes affecting base rates or basis of payment, retroactive rate adjustments, annual caps that limit the amount that can be paid (including deductible and coinsurance amounts) for rehabilitation therapy services rendered to Medicare beneficiaries, administrative or executive orders and government funding restrictions, all of which may materially adversely affect the rates and frequency at which these programs reimburse us for our services. For example, the Medicaid Integrity Contractor program is increasing the scrutiny placed on Medicaid payments, and could result in recoupments of alleged overpayments in an effort to rein in Medicaid spending. Recent budget proposals and legislation at both the federal and state levels have called for cuts in reimbursement for healthcare providers participating in the Medicare and Medicaid programs. Measures to reduce or delay reimbursement could result in substantial reductions in our revenue and profitability. Payors may disallow our requests for reimbursement based on determinations that certain costs are not reimbursable or reasonable because either adequate or additional documentation was not provided or because certain services were not covered or considered medically necessary. Additionally, revenue from these payors can be retroactively adjusted after a new examination during the claims settlement process or as a result of post-payment audits. New legislation and regulatory proposals could impose further limitations on government payments to healthcare providers.

Various healthcare reform provisions became law upon enactment of the ACA. The reforms contained in the ACA have affected our business in some manner and are directed in large part at increased quality and cost reductions. Several of the reforms are very significant and could ultimately change the nature of our services, the

 

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methods of payment for our services and the underlying regulatory environment. These reforms include the possible modifications to the conditions of qualification for payment, bundling of payments to cover both acute and post-acute care and the imposition of enrollment limitations on new providers. As discussed below under the heading “—Our business may be materially impacted if certain aspects of the ACA are amended, repealed, or successfully challenged,” any further amendments or revisions to the ACA or its implementing regulations could materially impact our business.

Home Health

On July 11, 2019, CMS issued a proposed rule updating the Medicare Home Health Prospective Payment System (“HH PPS”) rates and wage index for calendar year 2020. The rule proposes a 1.3% increase in home health payments, resulting from a 1.5% payment percentage update and a 0.2% decrease in aggregate payments because of changes to the rural add-on policy. The proposed rule implements PDGM, a revised case mix adjustment methodology, for home health services beginning on or after January 1, 2020, and proposes to adjust reimbursement under PDGM for assumed provider behavioral changes. The proposed rule also changes the unit of payment from 60-day episodes of care to 30-day periods of care, modifies payment regulations related to the content of the home health plan of care; allows therapist assistants to furnish maintenance therapy under the supervision of a licensed therapist; and proposes to change and phase out in 2020 and full elimination in 2021 of RAPs. Finally, this rule will include proposals related to the implementation of the permanent home infusion therapy benefit in 2021. These include proposed payment categories, amounts, and required and optional adjustments.

On November 13, 2018, CMS published a final rule which updates the HH PPS rates, including the conversion factor and case-mix weights for calendar years 2019 and 2020. This rule finalizes the definition of remote patient monitoring which will be allowed as an administrative expense on the home health agency’s cost report. Further, effective January 1, 2020, CMS will implement PDGM as mandated by the Bipartisan Budget Act of 2018. Under PDGM, the initial certification of patient eligibility, plan of care, and comprehensive assessment will remain valid for 60-day episodes of care, but payments for home health services will be made based upon 30-day payment periods. PDGM refines case mix calculation methodology by removing therapy thresholds and calculating reimbursement based on clinical characteristics including clinical group coding, comorbidity coding, and achievement of LUPA thresholds. While the proposed changes are to be implemented in a budget neutral manner to the industry, CMS’s current proposal includes a negative 6.42% adjustment to account for assumed provider behavioral changes. The ultimate impact of these changes will vary by provider based on factors including patient mix and admission source. The finalization of these assumptions could negatively impact our future rate of reimbursement and could have a material adverse effect on our business and consolidated financial condition, results of operations and cash flows. This rule also finalizes changes to the Home Health Value-Based Purchasing (“HHVBP”) model and Home Health Quality Reporting Program (“HHQRP”). These changes focus on providing value over volume of services to patients. Once the changes are implemented, health payments will no longer be based on the number of visits provided, but rather the patient’s medical condition and care needs. In calendar year 2019, there was an increase of 2.2% in reimbursement to home health agencies based on the agency’s finalized policies.

On November 1, 2017, CMS issued a final rule that became effective on January 1, 2018 and updated the calendar year 2018 Medicare payment rates and the wage index for home health agencies serving Medicare beneficiaries. The rule also finalized proposals for the HHVBP model and the HHQRP. Under the final rule, Medicare payments will be reduced by 0.4%. This decrease reflects the effects of a 1% home health payment update, an adjustment to the national, standardized 60-day episode payment rate to account for nominal case-mix growth for an impact of negative 0.9%, and the distributional effects of a 0.5% reduction in payments due to the sunset of the rural add-on provision.

On January 13, 2017, CMS issued a final rule that modernized the Home Health Conditions of Participation (“CoPs”). This rule is a continuation of CMS’s effort to improve quality of care while streamlining provider

 

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requirements to reduce unnecessary procedural requirements. The rule makes significant revisions to the conditions currently in place, including (1) adding new conditions of participation related to quality assurance and performance improvement programs and infection control; and (2) expanding or revising requirements related to patient rights, comprehensive evaluations, coordination and care planning, home health aide training and supervision, and discharge and transfer summary and time frames. The new CoPs became effective on January 13, 2018.

On October 31, 2016, CMS issued final payment changes to HH PPS for calendar year 2017. Under this rule, Medicare payments were reduced by 0.7%. This decrease reflects a negative 0.97% adjustment to the national, standardized 60-day episode payment rate to account for nominal case-mix growth from 2012 through 2014; a 2.3% reduction in payments due to the final year of the four-year phase-in of the rebasing adjustments to the national, standardized 60-day episode payment rate, the national per-visit payment rates and the non-routine medical supplies conversion factor; and the effects of the revised fixed-dollar loss ratio used in determining outlier payments; partially offset by the home health payment update of 2.5%.

On November 5, 2015, CMS issued final payment changes to HH PPS for calendar year 2016. Under this rule, Medicare payments were reduced by 1.4%. This decrease reflected a 1.9% home health payment update percentage; a 0.9% decrease in payments due to the 0.97% payment reduction to the national, standardized 60-day episode payment rate to account for nominal case-mix growth from 2012 through 2014; and a 2.4% decrease in payments due to the third year of the four-year phase-in of the rebasing adjustments to the national, standardized 60-day episode payment rate, the national per-visit payment rates, and the NRS conversion factor. Along with the payment update, CMS revised the International Classification of Diseases 10 (“ICD-10”) CM translation list and adding certain initial encounter codes to the HH PPS Grouper based upon revised ICD-10-CM coding guidance.

Pursuant to the rule, CMS also implemented a HHVBP model effective for calendar year 2016, in which all Medicare-certified home health agencies in selected states are required to participate. The model applied a reduction or increase to Medicare payments depending on quality performance, for all agencies delivering services within nine randomly-selected states. Payment adjustments are applied on an annual basis, beginning at 3% in the first payment adjustment year, 5% in the second payment adjustment year, 6% in the third payment adjustment year and 8% in the final two payment adjustment years.

Lastly, CMS implemented a standardized cross-setting measure for calendar year 2016. The CoPs require home health agencies to submit OASIS assessments within 30 days of completing the assessment of the beneficiary, as a condition of payment and also for quality measurement purposes. Commencing on April 3, 2017, if the OASIS assessment is not found in the quality system upon receipt of a final claim for a home health episode and the receipt date of the claim is more than 30 days after the assessment completion date, Medicare systems will deny the claim. Home health agencies that do not submit quality measure data to CMS incur a 2% reduction in their annual home health payment update percentage. Under the rule, all home health agencies are required to timely submit both Start of Care (initial assessment) or Resumption of Care OASIS assessment and a Transfer or Discharge OASIS assessment for a minimum of 70% of all patients with episodes of care occurring during the annual reporting period starting July 1, 2015 and ending June 30, 2016, 80% of all patients with episodes occurring during the reporting period starting July 1, 2016 and ending June 30, 2017, and 90% for all episodes beginning on or after July 1, 2017.

Hospice

On July 31, 2019, CMS issued a final rule that updated the fiscal year 2020 hospice payment rates, wage index and cap amount. The final rule calls for a 2.6% increase in hospice payment rates for fiscal year 2020. This increase is based on the proposed fiscal year 2020 hospital market basket increase of 3.0% reduced by the multifactor productivity adjustment of 0.4%. The rule establishes a rebasing of the continuous home care, general inpatient care, and the inpatient respite care per diem payment rates in a budget-neutral manner to more

 

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accurately align Medicare payments with the costs of providing care. Specifically, the rule proposes to increase these rates by 36.6%, 161.2%, and 31.0%, respectively, to account for the disparity between reimbursement and cost. In order to maintain budget neutrality, CMS also proposes to correspondingly reduce the Routine Home Care (“RHC”) rate by 2.7%. Hospices that fail to meet quality reporting requirements receive a 2.0% reduction to the annual market basket update for the year. Further, the rule establishes the hospice cap amount for the fiscal year 2020 cap year at $29,964.78, which is equal to the fiscal year 2019 cap amount of $29,205.44 updated by the final rule for fiscal year 2020 hospice payment update percentage of 2.6%. In addition to payment updates, the final rule contains new regulations to modify the election statement requirements and require hospices to prepare an addendum to the election entitled “Patient Notification of Hospice Non-Covered Items, Services, and Drugs,” which will provide the patient with information related to any diagnoses, treatment, or medications that are considered by the hospice to be unrelated to the terminal diagnoses. In addition to its preparation, the hospice is required to provide the addendum upon request by the patient or the patients representative within five days, if requested at the time of election, or within 72 hours if requested thereafter.

On August 1, 2018, CMS issued its final rule outlining the fiscal year 2019 Medicare payment rates, wage index, and cap amount for hospices serving Medicare beneficiaries. Under the final rule, the hospice payment update is 1.8%, which reflects a market basket update of 2.9%, reduced 0.8% by a MFP adjustment, as well as another 0.3% reduction, which decreases are mandated by the ACA. Hospice payments will be reduced by an additional 2%, for a net negative 0.2%, for hospices that do not submit the required quality data. The final rule also specifies that the hospice cap will be updated using the hospice payment update percentage rather than the consumer price index, thus it is anticipated there will be a 1.8% increase in aggregate cap payments made to hospices annually. The final rule also includes language that reflects the change in the Bipartisan Budget Act of 2018 which recognizes physician assistants as attending physicians for Medicare hospice beneficiaries, effective January 1, 2019. Physician assistants will be reimbursed at 85% of the fee schedule amount for their services as designated attending physicians. This change may positively impact reimbursement from Medicare as this may increase the number of episodes that can be reimbursed by Medicare in the aggregate by physicians, nurse practitioners and physician assistants. Additionally, the rule finalizes changes to the Hospice Quality Reporting Program (“HQRP”), also effective January 1, 2019, including changes to the data review and correction timeline for data submitted using the Hospice Item Set.

On August 1, 2017, CMS issued its final rule outlining the fiscal year 2018 Medicare payment rates, wage index and cap amount for hospices serving Medicare beneficiaries. The final rule used a net market basket percentage increase of 1% to update the federal rates, as mandated by section 411(d) of the MACRA. Although, if a hospice fails to comply with quality reporting program requirements, there will be a net 2% reduction to the market basket update for the fiscal year involved. The hospice cap amount for fiscal year 2018 was increased by 1%, which is equal to the 2017 cap amount updated by the fiscal year 2018 hospice payment update percentage of 1%. In addition, this rule discussed changes to the HQRP, including changes to the Consumer Assessment of Healthcare Providers & Systems (“CAHPS”) hospice survey measures and plans for sharing HQRP data in fiscal year 2017.

On July 29, 2016, CMS issued its final rule outlining fiscal year 2017 Medicare payment rates, wage index and cap amount for hospices serving Medicare beneficiaries. Under the final rule, there was a net 2.1% increase in hospices’ payments effective October 1, 2016. The hospice payment increase was the net result of a 2.7% inpatient hospital market basket update, reduced by a 0.3% productivity adjustment and by a 0.3% adjustment set by the ACA. The hospice cap amount for fiscal year 2017 increased by 2.1%, which is equal to the 2016 cap amount updated by the fiscal year 2017 hospice payment update percentage of 2.1%. In addition, this rule changes the hospice quality reporting program requirements, including care surveys and two new quality measures that will assess hospice staff visits to patients and caregivers in the last three and seven days of life and the percentage of hospice patients who received care processes consistent with guidelines.

On July 31, 2015, CMS issued its final rule outlining fiscal year 2016 Medicare payment rates and the wage index for hospices serving Medicare beneficiaries. Under the final rule, there was a net 1.1% increase in

 

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payments effective October 1, 2015. The hospice payment increase was the net result of a hospice payment update to the hospice per diem rates of 2.1% (a “hospital market basket” increase of 2.4% minus 0.3% for reductions required by law) and 1.2% decrease in payments to hospices due to updated wage data and the phase-out of its wage index budget neutrality adjustment factor, offset by the newly announced Core Based Statistical Areas delineation impact of 0.2%. The rule also created two different payment rates for RHC that resulted in a higher base payment rate for the first 60 days of hospice care and a reduced base payment rate for 61 or more days of hospice care and a Service Intensity Add-On (“SIA”) Payment for fiscal year 2016 and beyond in conjunction with the proposed RHC rates.

Senior Living Communities

Senior living services revenue is primarily derived from private pay residents at rates we establish based upon the needs of the resident, the amount of services we provide the resident, and market conditions in the area of operation. In addition, Medicaid or other state-specific programs may supplement payments for board and care services provided in senior living communities. A majority of states provide, or are approved to provide, Medicaid payments for personal care and medical services to some residents in licensed senior living communities under waivers granted by or under Medicaid state plans approved by CMS. State Medicaid programs control costs for assisted living and other home and community based services by various means such as restrictive financial and functional eligibility standards, enrollment limits and waiting lists. Because rates paid to senior living community operators are generally lower than rates paid to SNF operators, some states use Medicaid funding of senior living services as a means of lowering the cost of services for residents who may not need the higher level of health services provided in SNFs. States that administer Medicaid programs for services in senior living communities are responsible for monitoring the services at, and physical conditions of, the participating communities. As a result of the growth of assisted living in recent years, states have adopted licensing standards applicable to assisted living communities. Most state licensing standards apply to assisted living communities regardless of whether they accept Medicaid funding.

Since 2003, CMS has commenced a series of actions to increase its oversight of state quality assurance programs for assisted living communities and has provided guidance and technical assistance to states to improve their ability to monitor and improve the quality of services paid for through Medicaid waiver programs. CMS is encouraging state Medicaid programs to expand their use of home and community based services as alternatives to institutional services, pursuant to provisions of the ACA, and other authorities, through the use of several programs.

Regulations

The Improving Medicare Post-Acute Care Transformation Act of 2014 (the “IMPACT Act”), which was signed into law on October 6, 2014, requires the submission of standardized assessment data for quality improvement, payment and discharge planning purposes across the spectrum of post-acute care providers (“PACs”), including home health agencies. The IMPACT Act requires PACs to begin reporting: (1) standardized patient assessment data at admission and discharge by January 1, 2019 for home health agencies; (2) new quality measures, including functional status, skin integrity, medication reconciliation, incidence of major falls, and patient preference regarding treatment and discharge at various intervals between October 1, 2016 and January 1, 2019; and (3) resource use measures, including Medicare spending per beneficiary, discharge to community, and hospitalization rates of potentially preventable readmissions by January 1, 2017 for home health agencies. Failure to report such data when required would subject a PAC to a 2% reduction in market basket prices then in effect.

The IMPACT Act also included provisions impacting Medicare-certified hospices, including: (1) increasing survey frequency for Medicare-certified hospices to once every 36 months; (2) imposing a medical review process for operations with a high percentage of stays in excess of 180 days; and (3) updating the annual aggregate Medicare payment cap.

 

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Our future revenue, financial condition and results of operations could be impacted by continued cost containment pressures on Medicaid spending.

Medicaid, which is largely administered by the states, is a significant payor for our services. Rapidly increasing Medicaid spending, combined with slow state revenue growth, has led many states to institute measures aimed at controlling spending growth. Historically, state budget pressures have resulted in reductions in state spending. Given that Medicaid outlays are a significant component of state budgets, we can expect continuing cost containment pressures on Medicaid outlays for our services.

To generate funds to pay for the increasing costs of the Medicaid program, many states utilize financial arrangements such as provider taxes. Under provider tax arrangements, states collect taxes or fees from healthcare providers and then return the revenue to these providers as Medicaid expenditures. Congress, however, has placed restrictions on states’ use of provider tax and donation programs as a source of state matching funds. These restrictions may reduce Medicaid reimbursement rates, which would adversely affect our revenue, financial condition and results of operations.

Future cost containment initiatives undertaken by payors may limit our future revenue and profitability.

Our non-Medicare and non-Medicaid revenue and profitability may be affected by continuing efforts of third-party payors to maintain or reduce costs of healthcare by lowering payment rates, narrowing the scope of covered services, increasing case management review of services and negotiating pricing. In addition, sustained unfavorable economic conditions may affect the number of patients enrolled in managed care programs and the profitability of managed care companies, which could result in reduced payment rates. There can be no assurance that third-party payors will make timely payments for our services, or that we will continue to maintain our current payor or revenue mix. We are continuing our efforts to develop our non-Medicare and non-Medicaid sources of revenue and any changes in payment levels from current or future third-party payors could have a material adverse effect on our business and combined financial condition, results of operations and cash flows.

Reforms to the U.S. healthcare system could impose new requirements upon us and may lower our reimbursements.

The ACA includes sweeping changes to how healthcare is paid for and furnished in the United States. As discussed below under the heading “—Our business may be materially impacted if certain aspects of the ACA are amended, repealed, or successfully challenged,” any further amendments or revisions to the ACA or its implementing regulations could materially impact our business. Presidential and congressional elections in the United States could result in significant changes in, and uncertainty with respect to, legislation, regulation, implementation of Medicare and/or Medicaid, and government policy that could significantly impact our business and the healthcare industry. We continually monitor these developments in an effort to respond to the changing regulatory environment impacting our business.

The ACA is projected to expand access to Medicaid for approximately 11 million to 13 million additional people each year between 2015 and 2024. It also reduces the projected growth of Medicare by $106 billion by 2020 by tying payments to providers more closely to quality outcomes.

To address potential fraud and abuse in federal healthcare programs, including Medicare and Medicaid, the ACA includes provider screening and enhanced oversight periods for new providers and suppliers, as well as enhanced penalties for submitting false claims. It also provides funding for enhanced anti-fraud activities. The new law imposes enrollment moratoria in elevated risk areas by requiring providers and suppliers to establish compliance programs. The ACA also provides the federal government with expanded authority to suspend payment if a provider is investigated for allegations or issues of fraud. Section 6402 of the ACA provides that Medicare and Medicaid payments may be suspended pending a “credible investigation of fraud,” unless the Secretary of the United States Department of Health and Human Services (“HHS”) determines that good cause

 

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exists not to suspend payments. To the extent the Secretary applies this suspension of payments provision to one of our affiliated operations for allegations of fraud, such a suspension could adversely affect our results of operations.

Under the ACA, HHS will establish, test and evaluate alternative payment methodologies for Medicare services through a five-year, national, voluntary pilot program, which started in 2013. This program will provide incentives for providers to coordinate patient care across the continuum and to be jointly accountable for an entire episode of care centered around a hospitalization. HHS will develop qualifying provider payment methods that may include bundled payments and bids from entities for episodes of care. The bundled payment will cover the costs of acute care inpatient services; physicians’ services delivered in and outside of an acute care hospital; outpatient hospital services including emergency department services; post-acute care services, including home health services; inpatient rehabilitation services; and inpatient hospital services. The payment methodology will include payment for services, such as care coordination, medication reconciliation, discharge planning and transitional care services, and other patient-centered activities. Payments for items and services cannot result in spending more than would otherwise be expended for such entities if the pilot program was not implemented. Payment arrangements among providers on the backside of the bundled payment must take into account significant hurdles under anti-kickback statutes and the Stark laws.

The ACA attempts to improve the healthcare delivery system through incentives to enhance quality, improve beneficiary outcomes and increase value of care. One of these key delivery system reforms is the encouragement of Accountable Care Organizations (“ACOs”). ACOs will facilitate coordination and cooperation among providers to improve the quality of care for Medicare beneficiaries and reduce unnecessary costs. Participating ACOs that meet specified quality performance standards will be eligible to receive a share of any savings if the actual per capita expenditures of their assigned Medicare beneficiaries are a sufficient percentage below their specified benchmark amount. Quality performance standards will include measures in such categories as clinical processes and outcomes of care, patient experience and utilization of services.

On June 9, 2017, CMS issued revised requirements for emergency preparedness for Medicare and Medicaid participating providers, including long-term care facilities, hospices, and home health agencies. The revised requirements update the conditions of participation for such providers. Specifically, outpatient operations, such as home health agencies, are required to ensure that patients with limited mobility are addressed within the emergency plan; home health agencies are also required to develop and implement emergency preparedness policies and procedures that are reviewed and updated at least annually and each patient must have an individual plan; hospice-operated inpatient care facilities are required to provide subsistence needs for hospice employees and patients and a means to shelter in place patients and employees who remain in the hospice; all hospices and home health agencies must implement procedures to follow up with on duty staff and patients to determine services that are needed in the event that there is an interruption in services during or due to an emergency; and hospices must train their employees in emergency preparedness policies.

On February 2, 2016, CMS issued its final rule concerning face-to-face requirements for Medicaid home health services. Under the rule, the Medicaid home health service definition was revised consistent with applicable sections of the ACA and MACRA. The rule also requires that for the initial ordering of home health services, the physician must document that a face-to-face encounter that is related to the primary reason the beneficiary requires home health services occurred no more than 90 days before or 30 days after the start of services. The final rule also requires that for the initial ordering of certain medical equipment, the physician or authorized non-physician provider must document that a face-to-face encounter that is related to the primary reason the beneficiary requires medical equipment occurred no more than six months prior to the start of services.

On July 6, 2015, CMS announced a proposal to launch the HHVBP model to test whether incentives for better care can improve outcomes in the delivery of home health services. The model applies a payment reduction or increase to current Medicare-certified home health agency payments, depending on quality

 

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performance, for all agencies delivering services within nine randomly-selected states. Payment adjustments would be applied on an annual basis, beginning at 5.0% in each of the first two payment adjustment years, 6% in the third payment adjustment year and 8% in the final two payment adjustment years.

On June 28, 2012, the U.S. Supreme Court ruled that the enactment of the ACA did not violate the Constitution of the United States. This ruling permits the implementation of most of the provisions of the ACA to proceed. The provisions of the ACA discussed above are only examples of federal health reform provisions that we believe may have a material impact on the long-term care industry and on our business. However, the foregoing discussion is not intended to constitute, nor does it constitute, an exhaustive review and discussion of the ACA. It is possible that these and other provisions of the ACA may be interpreted, clarified, or applied to our affiliated businesses in a way that could have a material adverse impact on the results of operations.

CMS has issued and will continue to issue rules to implement the ACA. Courts will continue to interpret and apply the ACA’s provisions. We cannot predict what effect these changes will have on our business, including the demand for our services or the amount of reimbursement available for those services. However, it is possible these new laws may lower reimbursement and adversely affect our business.

The ACA and its implementation could negatively impact our business.

In addition, the ACA could result in sweeping changes to the existing U.S. system for the delivery and financing of healthcare. The details for implementation of many of the requirements under the ACA will depend on the promulgation of regulations by a number of federal government agencies, including the HHS. It is impossible to predict the outcome of these changes, what many of the final requirements of the ACA will be, and the net effect of those requirements on us.

A significant goal of federal healthcare reform is to transform the delivery of healthcare by changing reimbursement for healthcare services to hold providers accountable for the cost and quality of care provided. Medicare and many commercial third-party payors are implementing ACO models in which groups of providers share in the benefit and risk of providing care to an assigned group of individuals at lower cost. Other reimbursement methodology reforms include value-based purchasing, in which a portion of provider reimbursement is redistributed based on relative performance on designated economic, clinical quality, and patient satisfaction metrics. In addition, CMS is implementing programs to bundle acute care and post-acute care reimbursement to hold providers accountable for costs across a broader continuum of care. These reimbursement methodologies and similar programs are likely to continue and expand, both in public and commercial health plans. Providers who respond successfully to these trends and are able to deliver quality care at lower cost are likely to benefit financially.

The ACA and the programs implemented by the law may reduce reimbursements for home health and hospice services and may impact the demand for our services. In addition, various healthcare programs and regulations may be ultimately implemented at the federal or state level. Failure to respond successfully to these trends could negatively impact our business, results of operations and/or financial condition.

Our business may be materially impacted if certain aspects of the ACA are amended, repealed, or successfully challenged.

A number of lawsuits have been filed challenging various aspects of the ACA and related regulations. In addition, the efficacy of the ACA is the subject of much debate among members of Congress and the public. On December 14, 2018, U.S. District Judge Reed O’Connor of the Northern District of Texas held the individual mandate provisions, and therefore the entirety of ACA, unconstitutional. The impact of the ruling is stayed as it is appealed to the Fifth Circuit Court of Appeals. Our business may be materially impacted if the ACA in part or in its entirety is ruled unconstitutional.

 

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Presidential and congressional elections in the United States could result in significant changes in, and uncertainty with respect to, legislation, regulation, implementation of Medicare and/or Medicaid, and government policy that could significantly impact our business and the healthcare industry. In the event that legal challenges are successful or the ACA is repealed or materially amended, particularly any elements of the ACA that are beneficial to our business or that cause changes in the health insurance industry, including reimbursement and coverage by private, Medicare or Medicaid payers, our business, operating results and financial condition could be harmed. While it is not possible to predict whether and when any such changes will occur, specific proposals discussed during and after the election, including a repeal or material amendment of the ACA, could harm our business, operating results and financial condition. In addition, even if the ACA is not amended or repealed, the President and the executive branch of the federal government, as well as CMS and HHS have a significant impact on the implementation of the provisions of the ACA, and the new administration could make changes impacting the implementation and enforcement of the ACA, which could harm our business, operating results and financial condition. If we are slow or unable to adapt to any such changes, our business, operating results and financial condition could be adversely affected.

Increased competition for, or a shortage of, nurses and other skilled personnel could increase our staffing and labor costs and subject us to monetary fines.

Our success depends upon our ability to retain and attract nurses, certified nurse assistants, social workers and speech, physical and occupational therapists. Our success also depends upon our ability to retain and attract skilled personnel who are responsible for the day-to-day operations of each of our affiliated operations. Each operation has a leader responsible for the overall day-to-day operations of the business, including quality of care, social services and financial performance. Depending upon the size of the operation, each leader is supported by staff that is directly responsible for day-to-day care of the patients, marketing and community outreach programs. We compete with various healthcare service providers in retaining and attracting qualified and skilled personnel.

Increased competition for, or a shortage of, nurses or other trained personnel, or general inflationary pressures may require that we enhance our pay and benefits packages to compete effectively for such personnel. We may not be able to offset such added costs by increasing the rates we charge to the patients of our business. Turnover rates and the magnitude of the shortage of nurses or other trained personnel vary substantially from operation to operation. An increase in costs associated with, or a shortage of, skilled nurses, could negatively impact our operating subsidiaries. In addition, if we fail to attract and retain qualified and skilled personnel, our affiliated subsidiaries’ ability to conduct their business operations effectively could be harmed.

We depend on our management team and the loss of their service could harm our business.

We believe that our success depends in part on the continued services of our executive management team. The loss of such key personnel could have a material adverse effect on our business and could adversely affect our strategic relationships and impede our ability to execute our business strategies. The market for qualified individuals may be highly competitive and finding and recruiting suitable replacements for senior management may be difficult, time consuming and costly.

We are subject to various government reviews, audits and investigations that could adversely affect our business, including an obligation to refund amounts previously paid to us, potential criminal charges, the imposition of fines, and/or the loss of our right to participate in Medicare and Medicaid programs.

As a result of our participation in the Medicaid and Medicare programs, we are subject to various governmental reviews, audits and investigations to verify our compliance with these programs and applicable laws and regulations. We are subject to regulatory reviews relating to Medicare services, billings and potential overpayments resulting from the Recovery Audit Contractors, Zone Program Integrity Contractors, Program Safeguard Contractors, Unified Program Integrity Contractors and Medicaid Integrity Contributors programs, (collectively referred to as “Reviews”), in which third party firms engaged by CMS conduct extensive reviews of

 

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claims data and medical and other records to identify potential improper payments under the Medicare programs. Private pay sources also reserve the right to conduct audits. We believe that billing and reimbursement errors and disagreements are common in our industry. We are regularly engaged in reviews, audits and appeals of our claims for reimbursement due to the subjectivities inherent in the process related to patient diagnosis and care, record keeping, claims processing and other aspects of the patient service and reimbursement processes, and the errors and disagreements those subjectivities can produce. An adverse review, audit or investigation could result in:

 

   

an obligation to refund amounts previously paid to us pursuant to the Medicare or Medicaid programs or from private payors, in amounts that could be material to our business;

 

   

state or federal agencies imposing fines, penalties and other sanctions on us;

 

   

loss of our right to participate in the Medicare or Medicaid programs or one or more private payor networks;

 

   

an increase in private litigation against us; and

 

   

damage to our reputation in various markets.

All findings of overpayment from CMS contractors are eligible for appeal through the CMS defined continuum. With the exception of rare findings of overpayment related to objective errors in Medicare payment methodology or claims processing, we utilize all defenses reasonably available to us to demonstrate that the services provided meet all clinical and regulatory requirements for reimbursement.

If the government or court were to conclude that such errors and deficiencies constituted criminal violations, or were to conclude that such errors and deficiencies resulted in the submission of false claims to federal healthcare programs, or if it were to discover other problems in addition to the ones identified by the probe reviews that rose to actionable levels, we and certain of our officers might face potential criminal charges and/or civil claims, administrative sanctions and penalties for amounts that could be material to our business, results of operations and financial condition. In addition, we and/or some of the key personnel of our operating subsidiaries could be temporarily or permanently excluded from future participation in state and federal healthcare reimbursement programs such as Medicaid and Medicare. In any event, it is likely that a governmental investigation alone, regardless of its outcome, would divert material time, resources and attention from our management team and our staff, and could have a materially detrimental impact on our results of operations during and after any such investigation or proceedings.

In cases where claim and documentation review by any CMS contractor results in repeated poor performance, an operation can be subjected to protracted oversight. This oversight may include repeat education and re-probe, extended pre-payment review, referral to recovery audit or integrity contractors, or extrapolation of an error rate to other reimbursement outside of specifically reviewed claims. Sustained failure to demonstrate improvement towards meeting all claim filing and documentation requirements could ultimately lead to Medicare decertification. As of June 30, 2019, five of our independent operating subsidiaries had Reviews scheduled, on appeal, or in a dispute resolution process, both pre- and post-payment.

Public and government calls for increased survey and enforcement efforts toward the home health, hospice and senior living industries could result in increased scrutiny by state and federal survey agencies. In addition, potential sanctions and remedies based upon alleged regulatory deficiencies could negatively affect our financial condition and results of operations.

Our home health, hospice and senior living operating subsidiaries are subject to regulation and licensing by federal, state and local regulatory authorities. The regulatory environment for our businesses continues to change and CMS and several states have undertaken several initiatives to increase or intensify Medicaid and Medicare survey and enforcement activities, including federal oversight of state actions. CMS is taking steps to focus more

 

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survey and enforcement efforts on operations with findings of substandard care or repeat violations of Medicaid and Medicare standards, and to identify providers with patterns of noncompliance. CMS is also increasing its oversight of state survey agencies and requiring state agencies to use enforcement sanctions and remedies more promptly when substandard care or repeat violations are identified, to investigate complaints more promptly, and to survey operations more consistently. The intensified and evolving enforcement environment impacts providers like us because of the increase in the scope or number of inspections or surveys by governmental authorities and the severity of consequent citations for alleged failure to comply with regulatory requirements. We also divert personnel resources to respond to federal and state investigations, audits and other enforcement actions. The diversion of these resources, including our management team, clinical and compliance staff, and others, take away from the time and energy that these individuals could otherwise spend on routine operations. As noted, from time to time in the ordinary course of business, we receive deficiency reports from state and federal regulatory bodies resulting from such inspections or surveys. The focus of these deficiency reports tends to vary from year to year and state to state. Although most inspection deficiencies are resolved through an agreed-upon plan of corrective action, the reviewing agency typically has the authority to take further action against a licensed or certified agency or facility, which could result in the imposition of fines, imposition of a provisional or conditional license, suspension or revocation of a license, suspension of new admission or denial of payment for new admissions, loss of certification as a provider under state or federal healthcare programs, or imposition of other sanctions, including criminal penalties. In the past, we have experienced inspection deficiencies that have resulted in the imposition of a provisional license and could experience these results in the future.

Furthermore, in some states, citations in one operation can impact other operations in the state. Revocation of a license or decertification at a given operation could therefore impair our ability to obtain new licenses or to renew existing licenses at other operations, which may also trigger defaults or cross-defaults under our leases and our credit arrangements, or adversely affect our ability to operate or obtain financing in the future. If state or federal regulators were to determine, formally or otherwise, that one operation’s regulatory history ought to impact another of our existing or prospective communities, this could also increase costs, result in increased scrutiny by state and federal survey agencies, and even impact our expansion plans. Therefore, our failure to comply with applicable legal and regulatory requirements in any single operation could negatively impact our financial condition and results of operations as a whole.

Depending on the type of operation and state regulation, unannounced surveys or inspections may occur annually, every other year, or every third year and following a regulator’s receipt of a complaint from a patient, resident or employee of an affiliated operation. During such surveys or inspections, operations may be found to be deficient under Medicare, Medicaid or state licensing standards. Most deficiencies can be resolved through a written plan of corrective action, but the reviewing agency may also have authority to impose additional sanctions on a provider, including civil monetary penalties or other fines, provisional or conditional license, the suspension or revocation of a license, or a suspension of new admissions or denial of payment for new Medicare and Medicaid admissions, focused state and federal oversight and even loss of eligibility for Medicaid and Medicare participation or state licensure. Sanctions such as denial of payment for new admissions often are scheduled to go into effect before surveyors return to verify compliance. Generally, if the surveyors confirm that the operation is in compliance upon their return, the sanctions never take effect. However, if they determine that the operation is not in compliance, the denial of payment goes into effect retroactive to the date given in the original notice. This possibility sometimes leaves affected operators, including us, with the difficult task of deciding whether to continue accepting patients after the potential denial of payment date, thus risking the retroactive denial of revenue associated with those patients’ care if the operators are later found to be out of compliance, or simply refusing admissions from the potential denial of payment date until the operation is actually found to be in compliance. In the past, some of our affiliated operations have been in denial of payment status due to findings of continued regulatory deficiencies, resulting in an actual loss of the revenue. In addition, from time to time, we have opted to voluntarily stop accepting new patients pending completion of a new state survey, in order to avoid possible denial of payment for new admissions during the deficiency cure period, or simply to avoid straining staff and other resources while retraining staff, upgrading operating systems or making other operational improvements. If we elect to voluntarily close any operations in the future or to opt to stop

 

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accepting new patients pending completion of a state or federal survey, it could negatively impact our financial condition and results of operation. The Company did not incur material losses of revenue related to denial of payment status due to findings of continued regulatory deficiencies in the six months ended June 30, 2019 or the years ended December 31, 2018, 2017 and 2016.

Operations with otherwise acceptable regulatory histories generally are given an opportunity to correct deficiencies and continue their participation in the Medicare and Medicaid programs by a certain date, usually within nine months, although where denial of payment remedies are asserted, such interim remedies go into effect much sooner. Operations with deficiencies that immediately jeopardize patient health and safety and those that experience repeat survey findings, however, are not always given an opportunity to correct their deficiencies prior to the imposition of remedies and other enforcement actions. Accordingly, operations that have poor regulatory histories before we acquire them and that develop new deficiencies after we acquire them are more likely to have sanctions imposed upon them by CMS or state regulators. The imposition of such sanctions could negatively impact our financial condition and results of operation.

Our hospice operating subsidiaries are subject to annual Medicare caps calculated by Medicare. If such caps were to be exceeded by any of our hospice providers, our business and combined financial condition, results of operations and cash flows could be materially adversely affected.

With respect to our hospice operating subsidiaries, overall payments made by Medicare to each provider number are subject to an inpatient cap amount and an overall payment cap, which are calculated and published by the Medicare fiscal intermediary on an annual basis covering the period from October 1 through September 30. The caps are detailed below:

The inpatient cap limits hospice care provided on an inpatient basis. This cap limits the number of days that are paid at the higher inpatient care rate to 20.0% of the total number of days of hospice care that are provided to all Medicare beneficiaries served by a provider. The daily rate for all days exceeding the cap is the standard Medicare hospice daily rate, and the provider must reimburse Medicare for any payments in excess of that amount.

The overall payment cap is calculated by the Medicare fiscal intermediary at the end of each hospice cap period to determine the maximum allowable payments to a hospice provider during the period. We estimate our potential cap exposure by using available information to compare our actual reimbursement for all hospice services provided during the period to the number of beneficiaries we served multiplied by the statutory per beneficiary cap amount.

If payments received by any one of our hospice provider numbers exceeds either of these caps, we are required to reimburse Medicare for payments received in excess of the caps, which could have a material adverse effect on our business and combined financial condition, results of operations and cash flows.

Failure to comply with quality reporting requirements may negatively impact reimbursement to our home health and hospice operating subsidiaries.

The ACA mandated the establishment of quality reporting requirements for home health and hospice providers. Beginning in fiscal year 2014, CMS mandated that failure to submit required quality data would result in a 2% reduction to a hospice provider’s market basket percentage increase for that fiscal year. For 2019, hospices are required to submit 12 months of data to the CAHPS Hospice Survey Data Warehouse. The participation requirements for calendar year 2019 will affect the fiscal year 2021 annual payment update. Participation requirements for subsequent years will impact subsequent annual payment updates. The HQRP is currently “pay-for-reporting,” meaning it is the act of submitting timely and complete data that determines compliance with the requirements.

 

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In the calendar year 2015 Home Health Final Rule, CMS established a new “Pay-for-Reporting Performance Requirement” with which provider compliance with quality reporting program requirements is measured. Home health providers that do not submit quality reporting data to CMS are subject to a 2% reduction in their annual home health payment update percentage. Home health providers are required to report prescribed quality assessment data for a minimum of 90.0% of all patients with episodes of care that occur on or after July 1, 2017.

Should our operating subsidiaries fail to meet quality reporting requirements in the future, it may result in one or more of our operations seeing a reduction in its Medicare reimbursements. We have incurred and are likely to continue to incur additional expenses in attempting to comply with these quality reporting requirements.

We are subject to extensive and complex federal and state government laws and regulations which could change at any time and increase our cost of doing business and subject us to enforcement actions.

We, along with other companies in the healthcare industry, are required to comply with extensive and complex laws and regulations at the federal, state and local government levels relating to, among other things:

 

   

operation and professional licensure, certificates of need, permits and other government approvals;

 

   

adequacy and quality of healthcare services;

 

   

qualifications of healthcare and support personnel;

 

   

quality of medical equipment;

 

   

confidentiality, maintenance and security issues associated with medical records and claims processing;

 

   

relationships with physicians and other referral sources and recipients;

 

   

constraints on protective contractual provisions with patients and third-party payors;

 

   

operating policies and procedures;

 

   

certification of additional providers by the Medicare or Medicaid program; and

 

   

payment for services.

The laws and regulations governing our operations, along with the terms of participation in various government programs, regulate how we do business, the services we offer, and our interactions with patients and other healthcare providers. These laws and regulations are subject to frequent change. We believe that such regulations may increase in the future and we cannot predict the ultimate content, timing or impact on us of any healthcare reform legislation. Changes in existing laws or regulations, or the enactment of new laws or regulations, could negatively impact our business. If we fail to comply with these applicable laws and regulations, we could suffer civil or criminal penalties and other detrimental consequences, including denial of reimbursement, imposition of fines, temporary suspension of admission of new patients, suspension or decertification from the Medicaid and Medicare programs, restrictions on our ability to acquire new operations or expand or operate existing operations, the loss of our licenses to operate and the loss of our ability to participate in federal and state reimbursement programs.

We are subject to federal and state laws, such as the FCA, state false claims acts, the illegal remuneration provisions of the Social Security Act, federal anti-kickback laws, state anti-kickback laws, and federal Stark laws, which govern financial and other arrangements among healthcare providers, their owners, vendors and referral sources, and that are intended to prevent healthcare fraud and abuse. Among other things, these laws prohibit kickbacks, bribes and rebates, as well as other direct and indirect payments or fee-splitting arrangements that are designed to induce the referral of patients to a particular provider for medical products or services payable by any federal healthcare program, and prohibit presenting a false or misleading claim for payment under a federal or state program. They also prohibit some physician self-referrals. Possible sanctions for violation of any of these restrictions or prohibitions include loss of eligibility to participate in federal and state

 

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reimbursement programs and civil and criminal penalties. Changes in these laws could increase our cost of doing business. If we fail to comply, even inadvertently, with any of these requirements, we could be required to alter our operations, refund payments to the government, enter into a corporate integrity agreement, deferred prosecution or similar agreements with state or federal government agencies, and become subject to significant civil and criminal penalties.

In May 2009, Congress passed FERA which made significant changes to the FCA, expanding the types of activities subject to prosecution and whistleblower liability. Following changes by FERA, healthcare providers face significant penalties for known retention of government overpayments, even if no false claim was involved. Healthcare providers can now be liable for knowingly and improperly avoiding or decreasing an obligation to pay money or property to the government. This includes the retention of any government overpayment. The government can argue, therefore, that a FCA violation can occur without any affirmative fraudulent action or statement, as long as it is knowingly improper. The ACA supplements FERA by imposing an affirmative obligation on healthcare providers to return an overpayment to CMS within 60 days of “identification” or the date any corresponding cost report is due, whichever is later. On August 3, 2015, the U.S. District Court for the Southern District of New York held that the 60 day clock following “identification” of an overpayment begins to run when a provider is put on notice of a potential overpayment, rather than the moment when an overpayment is conclusively ascertained. On February 12, 2016, CMS published a final rule with respect to Medicare Parts A and B clarifying that providers have an obligation to proactively exercise “reasonable diligence,” and that the 60 day clock begins to run after the reasonable diligence period has concluded, which may take at most 6 months from the from receipt of credible information, absent extraordinary circumstances. Retention of any overpayment beyond this period may result in FCA liability. In addition, FERA extended protections against retaliation for whistleblowers, including protections not only for employees, but also contractors and agents. Thus, there is no need for an employment relationship in order to qualify for protection against retaliation for whistleblowing.

We are also required to comply with state and federal laws governing the transmission, privacy and security of health information. HIPAA requires us to comply with certain standards for the use of individually identifiable health information within our company, and the disclosure and electronic transmission of such information to third parties, such as payors, business associates and patients. These include standards for common electronic healthcare transactions and information, such as claim submission, plan eligibility determination, payment information submission and the use of electronic signatures; unique identifiers for providers, employers and health plans; and the security and privacy of individually identifiable health information. In addition, some states have enacted comparable or, in some cases, more stringent privacy and security laws. If we fail to comply with these state and federal laws, we could be subject to criminal penalties and civil sanctions and be forced to modify our policies and procedures.

On January 25, 2013, HHS promulgated new HIPAA privacy, security, and enforcement regulations, which increase significantly the penalties and enforcement practices of the Department regarding HIPAA violations. In addition, any breach of individually identifiable health information can result in obligations under HIPAA and state laws to notify patients, federal and state agencies, and in some cases media outlets, regarding the breach incident. Breach incidents and violations of HIPAA or state privacy and security laws could subject us to significant penalties, and could have a significant impact on our business.

Our failure to obtain or renew required regulatory approvals or licenses or to comply with applicable regulatory requirements, the suspension or revocation of our licenses or our disqualification from participation in federal and state reimbursement programs, or the imposition of other harsh enforcement sanctions could increase our cost of doing business and expose us to potential sanctions. Furthermore, if we were to lose licenses or certifications for any of our affiliated operations as a result of regulatory action or otherwise, we could be deemed to be in default under some of our agreements, including agreements governing outstanding indebtedness and lease obligations.

 

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Increased civil and criminal enforcement efforts of government agencies against home health and hospice agencies and senior living communities could harm our business, and could preclude us from participating in federal healthcare programs.

Both federal and state government agencies have heightened and coordinated civil and criminal enforcement efforts as part of numerous ongoing investigations of healthcare companies. The focus of these investigations includes, among other things:

 

   

cost reporting and billing practices;

 

   

quality of care;

 

   

financial relationships with referral sources; and

 

   

medical necessity of services provided.

If any of our affiliated operations is decertified or loses its licenses, our revenue, financial condition or results of operations would be adversely affected. In addition, the report of such issues at any of our affiliated operations could harm our reputation for quality care and lead to a reduction in the patient referrals of our operating subsidiaries and ultimately a reduction in census at these operations. Also, responding to enforcement efforts would divert material time, resources and attention from our management team and our staff, and could have a materially detrimental impact on our results of operations during and after any such investigation or proceedings, regardless of whether we prevail on the underlying claim.

Federal law provides that practitioners, providers and related persons may not participate in most federal healthcare programs, including the Medicaid and Medicare programs, if the individual or entity has been convicted of a criminal offense related to the delivery of a product or service under these programs or if the individual or entity has been convicted under state or federal law of a criminal offense relating to neglect or abuse of patients in connection with the delivery of a healthcare product or service. Other individuals or entities may be, but are not required to be, excluded from such programs under certain circumstances, including, but not limited to, the following:

 

   

medical necessity of services provided;

 

   

conviction related to fraud;

 

   

conviction relating to obstruction of an investigation;

 

   

conviction relating to a controlled substance;

 

   

licensure revocation or suspension;

 

   

exclusion or suspension from state or other federal healthcare programs;

 

   

filing claims for excessive charges or unnecessary services or failure to furnish medically necessary services;

 

   

ownership or control of an entity by an individual who has been excluded from the Medicaid or Medicare programs, against whom a civil monetary penalty related to the Medicaid or Medicare programs has been assessed or who has been convicted of a criminal offense under federal healthcare programs; and

 

   

the transfer of ownership or control interest in an entity to an immediate family or household member in anticipation of, or following, a conviction, assessment or exclusion from the Medicare or Medicaid programs.

The OIG, among other priorities, is responsible for identifying and eliminating fraud, abuse and waste in certain federal healthcare programs. The OIG has implemented a nationwide program of audits, inspections and investigations and from time to time issues “fraud alerts” to segments of the healthcare industry on particular

 

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practices that are vulnerable to abuse. The fraud alerts inform healthcare providers of potentially abusive practices or transactions that are subject to criminal activity and reportable to the OIG. An increasing level of resources has been devoted to the investigation of allegations of fraud and abuse in the Medicaid and Medicare programs, and federal and state regulatory authorities are taking an increasingly strict view of the requirements imposed on healthcare providers by the Social Security Act and Medicaid and Medicare programs. Although we have created a corporate compliance program that we believe is consistent with the OIG guidelines, the OIG may modify its guidelines or interpret its guidelines in a manner inconsistent with our interpretation or the OIG may ultimately determine that our corporate compliance program is insufficient.

In some circumstances, if one operation is convicted of abusive or fraudulent behavior, then other operations under common control or ownership may be decertified from participating in Medicaid or Medicare programs. Federal regulations prohibit any corporation or operation from participating in federal contracts if it or its principals have been barred, suspended or declared ineligible from participating in federal contracts. In addition, some state regulations provide that all operations under common control or ownership licensed within a state may be de-licensed if one or more of the operations are de-licensed. If any of our operating subsidiaries were decertified or excluded from participating in Medicaid or Medicare programs, our revenue would be adversely affected.

The OIG or other regulatory authorities may choose to more closely scrutinize billing practices in areas where we operate or propose to expand, which could result in an increase in regulatory monitoring and oversight, decreased reimbursement rates, or otherwise adversely affect our business, financial condition and results of operations.

In July 2018, the OIG released a report entitled “Vulnerabilities in the Medicare Hospice Program Affect Quality Care and Program Integrity: an OIG Portfolio” (the “OIG Portfolio”). The OIG Portfolio’s methodology included a review of hospice services provided and claims billed since 2005, including looking at eligibility determinations and billing practices. The OIG found that improper billing by hospices costs Medicare hundreds of millions of dollars each year, including billing for ineligible patients, improper levels of care, duplicative services, and other forms of fraud. Among a total of 15 recommendations, the OIG recommended that CMS (1) strengthen the hospice survey process, including analyzing claims to identify hospices that engage in concerning practices, (2) create additional remedies for poor regulatory performance, and (3) improve billing oversight, including taking steps to tie payment to patient acuity and needs. Of these recommendations, CMS concurred with six recommendations and did not concur with nine recommendations. The OIG remains committed to enhanced oversight of the hospice benefit.

In March 2016, the OIG released a report entitled “Hospices Inappropriately Billed Medicare Over $250 Million for General Inpatient Care.” The report analyzed the results of a medical record review of hospice general inpatient care stays occurring in 2012 to estimate the percentage of such stays that were billed inappropriately, and found that hospices billed one-third of general inpatient stays inappropriately, costing Medicare $268 million in 2012. Consequently, the OIG recommended, and CMS concurred with such recommendations, that CMS (1) increase its oversight of hospice general inpatient stay claims and review Part D payments for drugs for hospice beneficiaries; (2) ensure that a physician is involved in the decision to use general inpatient care; (3) conduct prepayment reviews for lengthy general inpatient care stays; (4) increase surveyor efforts to ensure that hospices meet care planning requirements; (5) establish additional enforcement remedies for poor hospice performance; and (6) follow up on inappropriate general inpatient care stays.

In January 2015, the OIG released a report entitled “Medicare Hospices Have Financial Incentives to Provide Care in Assisted Living Facilities.” The report analyzed all Medicare hospices claims from 2007 through 2012, and raised concerns about the financial incentives created by the current payment system and the potential for hospices-especially for-profit hospices-to target beneficiaries in senior living communities because they may offer the hospices the greatest financial gain. Accordingly, the report recommended that CMS reform payments to reduce the incentive for hospices to target beneficiaries with certain diagnoses and those likely to have long

 

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stays, target certain hospices for review, develop and adopt claims-based measures of quality, make hospice data publicly available for the beneficiaries, and provide additional information to hospices to educate them about how they compare to their peers. CMS concurred with all five recommendations.

Additionally, following recommendations made by the OIG in an April 2014 report entitled “Limited Compliance with Medicare’s Home Health Face-to-Face Documentation Requirements,” CMS committed to implement a plan for oversight of home health agencies through Supplemental Medical Review Contractor audits of every home health agency in the country. In addition, in many of its recent OIG Work Plans, it indicated that it will review compliance with various aspects which impact reimbursement to home health or hospice providers, including the documentation in support of the claims paid by Medicare. Recent OIG Work Plans provides that the OIG will review documentation to determine if it meets the requirements for certain billing documentation related to Medicare payments for hospice and home health services to ensure they were made in accordance with Medicare requirements.

In August 2012, the OIG released a report entitled “Inappropriate and Questionable Billing for Medicare Home Health Agencies.” The report analyzed data from home health, inpatient hospital, and skilled nursing facilities claims from 2010 to identify inappropriate home health payments. The report found that in 2010, Medicare made overpayments largely in connection with three specific errors: overlapping with claims for inpatient hospital stays, overlapping with claims for skilled nursing facility stays, or billing for services on dates after beneficiaries’ deaths. The report also concluded that home health agencies with questionable billing were located mostly in Texas, Florida, California, and Michigan. The report recommended that CMS implement claims processing edits or improve existing edits to prevent inappropriate payments for the three specific errors referenced above, increase monitoring of billing for home health services, enforce and consider lowering the ten percent cap on the total outlier payments a home health agency may receive annually, consider imposing a temporary moratorium on new home health agency enrollments in Florida and Texas, and take appropriate action regarding the inappropriate payments identified and home health agencies with questionable billing. CMS concurred with all five recommendations.

Moratoria on enrollment of new home health agencies were subsequently put in place effective July 31, 2013, and were extended multiple times through January 31, 2019. These moratoria were enforced in states or various counties in Florida, Michigan, Texas, Illinois, Pennsylvania and New Jersey. Effective February 1, 2019, all moratoria have been lifted, and there are no active Medicare provider enrollment moratoria in the United States.

Efforts by officials and others to make or advocate for any increase in regulatory monitoring and oversight, reduce payment rates, revise methodologies for assessing and treating patients, conduct more frequent or intense reviews of our treatment and billing practices, or implement moratoria in areas where we operate or propose to expand, could reduce our reimbursement, increase our costs of doing business and otherwise adversely affect our business, financial condition and results of operations.

State efforts to regulate or deregulate the healthcare services industry or the construction or expansion of the number of home health, hospice or senior living operations could impair our ability to expand, or result in increased competition.

Some states require healthcare providers, including home health, hospice, and senior living operators to obtain prior approval, known as a certificate of need, for:

 

   

the purchase, construction or expansion of home health, hospice, or senior living operations;

 

   

capital expenditures exceeding a prescribed amount; and

 

   

changes in services or unit capacity.

In addition, other states that do not require certificates of need have effectively barred the expansion of existing operations and the establishment of new ones by placing partial or complete moratoria on the number of

 

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new providers they will certify in certain areas or in the entire state. Other states have established such stringent development standards and approval procedures for constructing new healthcare communities that the construction of new facilities, or the expansion or renovation of existing communities, may become cost-prohibitive or extremely time-consuming.

Our ability to acquire or establish new home health, hospice or senior living operations or expand or provide new services at existing operations would be adversely affected if we are unable to obtain the necessary approvals, if there are changes in the standards applicable to those approvals, or if we experience delays and increased expenses associated with obtaining those approvals. We may not be able to obtain licensure, certificate of need approval, Medicare or Medicaid certification, Attorney General approval or other necessary approvals for future expansion projects.

Conversely, and specific to the highly competitive industry of senior living, the elimination or reduction of state regulations that limit the construction, expansion or renovation of new or existing communities could result in increased competition to us. In general, regulatory and other barriers to entry into the senior living industry are not prohibitive. Over the last several years there has been a significant increase in the construction of new senior living communities, including in many of the states where we provide services. This new construction has resulted in increased competition in many of our markets. Such new competition may limit our ability to attract new residents, raise rents or otherwise expand our senior living business, which could have a material adverse effect on our revenues, results of operations and cash flow.

Changes in federal and state employment-related laws and regulations could increase our cost of doing business.

Our operating subsidiaries are subject to a variety of federal and state employment-related laws and regulations, including, but not limited to, the U.S. Fair Labor Standards Act which governs such matters as minimum wages, overtime and other working conditions, the Americans with Disabilities Act (the “ADA”) and similar state laws that provide civil rights protections to individuals with disabilities in the context of employment, public accommodations and other areas, the National Labor Relations Act, regulations of the Equal Employment Opportunity Commission, regulations of the Office of Civil Rights, regulations of state Attorneys General, family leave mandates and a variety of similar laws enacted by the federal and state governments that govern these and other employment law matters. Because labor represents such a large portion of our operating costs, changes in federal and state employment-related laws and regulations could increase our cost of doing business.

The compliance costs associated with these laws and evolving regulations could be substantial. For example, all of our affiliated operations are required to comply with the ADA. The ADA has separate compliance requirements for “public accommodations” and “commercial properties,” but generally requires that buildings be made accessible to people with disabilities. Compliance with ADA requirements could require removal of access barriers and non-compliance could result in imposition of government fines or an award of damages to private litigants. Further legislation may impose additional burdens or restrictions with respect to access by disabled persons. In addition, federal proposals to introduce a system of mandated health insurance and flexible work time and other similar initiatives could, if implemented, adversely affect our operations. We also may be subject to employee-related claims such as wrongful discharge, discrimination or violation of equal employment law. While we are insured for these types of claims, we could experience damages that are not covered by our insurance policies or that exceed our insurance limits, and we may be required to pay such damages directly, which would negatively impact our cash flow from operations.

Required regulatory approvals could delay or prohibit transfers of our healthcare operations, which could result in periods in which we are unable to receive reimbursement for such properties.

The operations of our operating subsidiaries must be licensed under applicable state law and, depending upon the type of operation, certified or approved as providers under the Medicare and/or Medicaid programs. In

 

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the process of acquiring or transferring operating assets, including in connection with the spin-off, our operations must receive change of ownership approvals from state licensing agencies, Medicare and Medicaid as well as third party payors. If there are any delays in receiving regulatory approvals from the applicable federal, state or local government agencies, or the inability to receive such approvals, such delays could result in delayed or lost reimbursement related to periods of service prior to the receipt of such approvals.

Compliance with federal and state fair housing, fire, safety and other regulations may require us to make unanticipated expenditures, which could be costly to us.

We must comply with the federal Fair Housing Act and similar state laws, which prohibit us from discriminating against individuals if it would cause such individuals to face barriers in gaining residency in any of our affiliated communities. Additionally, the Fair Housing Act and other similar state laws require that we advertise our services in such a way that we promote diversity and not limit it. We may be required, among other things, to change our marketing techniques to comply with these requirements.

In addition, we are required to operate our affiliated communities in compliance with applicable fire and safety regulations, building codes and other land use regulations and food licensing or certification requirements as they may be adopted by governmental agencies and bodies from time to time. Surveys occur on a regular (often annual or biannual) schedule, and special surveys may result from a specific complaint filed by a patient, a family member or one of our competitors. We may be required to make substantial capital expenditures to comply with these requirements.

We depend largely upon reimbursement from Medicare, Medicaid, and other third-party payors, and our revenue, financial condition and results of operations could be negatively impacted by any changes in the acuity mix of patients in our affiliated operations as well as payor mix and payment methodologies.

Our revenue is determined in part by the acuity of home health and hospice patients and senior living residents. Changes in the acuity level of patients we attract, as well as our payor mix among Medicaid, Medicare, private payors and managed care companies, significantly affect our profitability because we generally receive higher reimbursement rates for high acuity patients and because the payors reimburse us at different rates. For six months ended June 30, 2019 and the year ended December 31, 2018, 54.1% and 53.1%, respectively, of our revenue was provided by government payors that reimburse us at predetermined rates. If our labor or other operating costs increase, we will be unable to recover such increased costs from government payors. Accordingly, if we fail to maintain our proportion of high acuity patients or if there is any significant increase in the percentage of the patients of our operating subsidiaries for whom we receive Medicaid reimbursement, our results of operations may be adversely affected.

Initiatives undertaken by major insurers and managed care companies to contain healthcare costs may adversely affect our business. Among other initiatives, these payors attempt to control healthcare costs by contracting with healthcare providers to obtain services on a discounted basis. We believe that this trend will continue and may limit reimbursements for healthcare services. If insurers or managed care companies from whom we receive substantial payments were to reduce the amounts they pay for services, we may lose patients if we choose not to renew our contracts with these insurers at lower rates.

Compliance with state and federal employment, immigration, licensing and other laws could increase our cost of doing business.

Our operating subsidiaries have hired personnel, including nurses and therapists, from outside the United States. If immigration laws are changed, or if new and more restrictive government regulations proposed by the Department of Homeland Security are enacted, our access to qualified and skilled personnel may be limited.

Our subsidiaries operate in at least one state that requires them to verify employment eligibility using procedures and standards that exceed those required under federal Form I-9 and the statutes and regulations

 

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related thereto. Proposed federal regulations would extend similar requirements to all of the states in which our affiliated operations operate. To the extent that such proposed regulations or similar measures become effective, and our subsidiaries are required by state or federal authorities to verify work authorization or legal residence for current and prospective employees beyond existing Form I-9 requirements and other statutes and regulations currently in effect, it may make it more difficult for our subsidiaries to recruit, hire and/or retain qualified employees, may increase our risk of non-compliance with state and federal employment, immigration, licensing and other laws and regulations and could increase our cost of doing business.

We are subject to litigation that could result in significant legal costs and large settlement amounts or damage awards.

Our business involves a significant risk of liability given the age and health of the patients and residents of our operating subsidiaries and the services we provide. We and others in our industry may be subject to a large and increasing number of claims and lawsuits, including professional liability claims, alleging that our services have resulted in personal injury, elder abuse, wrongful death or other related claims. The defense of these lawsuits has in the past, and may in the future, result in significant legal costs, regardless of the outcome, and can result in large settlement amounts or damage awards. Plaintiffs tend to sue every healthcare provider who may have been involved in the patient’s care and, accordingly, we respond to multiple lawsuits and claims every year.

In addition, plaintiffs’ attorneys have become increasingly more aggressive in their pursuit of claims against healthcare providers, including home health, hospice and senior living providers, and have employed a wide variety of advertising and publicity strategies. Among other things, these strategies include establishing their own Internet websites, paying for premium advertising space on other websites, paying Internet search engines to optimize their plaintiff solicitation advertising so that it appears in advantageous positions on Internet search results, using newspaper, magazine and television ads targeted at customers of the healthcare industry generally, as well as at customers of large for-profit providers such as us. These advertising and solicitation activities could result in more claims and litigation, which could increase our liability exposure and legal expenses, divert the time and attention of the personnel from day-to-day business operations, and materially and adversely affect our financial condition and results of operations. Furthermore, to the extent the frequency and/or severity of losses from such claims and suits increases, our liability insurance premiums could increase and/or available insurance coverage levels could decline, which could materially and adversely affect our financial condition and results of operations.

Healthcare litigation (including class action litigation) is common and is filed based upon a wide variety of claims and theories, and we are routinely subjected to varying types of claims. Future claims could be brought that may materially affect our business, financial condition and results of operations. Other claims and suits, including class actions, could be filed against us and other companies in our industry. For example, there has been an increase in the number of wage and hour class action claims filed in several of the jurisdictions where we are present. Allegations typically include claimed failures to permit or properly compensate for meal and rest periods, or failure to pay for time worked. If there were a significant increase in the number of these claims or an increase in amounts owing should plaintiffs be successful in their prosecution of these claims, this could have a material adverse effect to our business, financial condition, results of operations and cash flows. In addition, we contract with a variety of landlords, lenders, vendors, suppliers, consultants and other individuals and businesses. These contracts typically contain covenants and default provisions. If the other party to one or more of our contracts were to allege that we have violated the contract terms, we could be subject to civil liabilities which could have a material adverse effect on our financial condition and results of operations.

Were litigation to be instituted against one or more of our subsidiaries, a successful plaintiff might attempt to hold us or another subsidiary liable for the alleged wrongdoing of the subsidiary principally targeted by the litigation. If a court in such litigation decided to disregard the corporate form, the resulting judgment could increase our liability and adversely affect our financial condition and results of operations.

 

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We conduct regular internal investigations into the care delivery, recordkeeping and billing processes of our operating subsidiaries. These reviews sometimes detect instances of noncompliance which we attempt to correct, which can decrease our revenue.

As an operator of healthcare operations, we have a program to help us comply with various requirements of federal and private healthcare programs. Our compliance program includes, among other things, (1) policies and procedures modeled after applicable laws, regulations, government manuals and industry practices and customs that govern the clinical, reimbursement and operational aspects of our subsidiaries, (2) training about our compliance process for all of the employees of our operating subsidiaries, our directors and officers, and training about Medicare and Medicaid laws, fraud and abuse prevention, clinical standards and practices, and claim submission and reimbursement policies and procedures for appropriate employees, and (3) internal controls that monitor, for example, the accuracy of claims, reimbursement submissions, cost reports and source documents, provision of patient care, services, and supplies as required by applicable standards and laws, accuracy of clinical assessment and treatment documentation, and implementation of judicial and regulatory requirements (i.e., background checks, licensing and training).

From time to time our systems and controls highlight potential compliance issues, which we investigate as they arise. Historically, we have, and would continue to do so in the future, initiated internal inquiries into possible recordkeeping and related irregularities. Through these internal inquiries, we have identified potential deficiencies in the assessment of and recordkeeping for small subsets of patients. We have also identified and, at the conclusion of such investigations, assisted in implementing, targeted improvements in the assessment and recordkeeping practices to make them consistent with the existing standards and policies. We continue to monitor the measures implemented for effectiveness, and perform follow-up reviews to ensure compliance. Consistent with healthcare industry accounting practices, we record any charge for refunded payments against revenue in the period in which the claim adjustment becomes known.

If additional reviews result in identification and quantification of additional amounts to be refunded, we would accrue additional liabilities for claim costs and interest, and repay any amounts due in normal course. Furthermore, failure to refund overpayments within required time frames (as described in greater detail above) could result in FCA liability. If future investigations ultimately result in findings of significant billing and reimbursement noncompliance which could require us to record significant additional provisions or remit payments, our business, financial condition and results of operations could be materially and adversely affected and our stock price could decline.

We may be unable to complete future acquisitions at attractive prices or at all, which may adversely affect our revenue; we may also elect to dispose of underperforming or non-strategic operating subsidiaries, which would also decrease our revenue.

To date, our revenue growth has been significantly impacted by our acquisition of new operations. Subject to general market conditions and the availability of essential resources and leadership within our company, we continue to seek both home health, hospice and senior living acquisition opportunities that are consistent with our geographic, financial and operating objectives.

We face competition for the acquisition of operations and businesses and expect this competition to increase. Based upon factors such as our ability to identify suitable acquisition candidates, the purchase price of the operations, prevailing market conditions, the availability of leadership to manage new operations and our own willingness to take on new operations, the rate at which we have historically acquired home health, hospice and senior living operations has fluctuated significantly. In the future, we anticipate the rate at which we may acquire these operations will continue to fluctuate, which may affect our revenue.

We have also historically acquired a few operations, either because they were included in larger, indivisible groups of operations or under other circumstances, which were or have proven to be non-strategic or less

 

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desirable, and we may consider disposing of such operations or exchanging them for operations which are more desirable. To the extent we dispose of such an operation without simultaneously acquiring an operation in exchange, our revenues might decrease.

We may not be able to successfully integrate acquired operations, and we may not achieve the benefits we expect from our acquisitions.

We may not be able to successfully or efficiently integrate new acquisitions with our existing operating subsidiaries, culture and systems. The process of integrating acquisitions into our existing operations may result in unforeseen operating difficulties, divert management’s attention from existing operations, or require an unexpected commitment of staff and financial resources, and may ultimately be unsuccessful. Existing operations available for acquisition frequently serve or target different markets than those that we currently serve. We also may determine that renovations of acquired operations and changes in staff and operating management personnel are necessary to successfully integrate those acquisitions into our existing operations. We may not be able to recover the costs incurred to reposition or renovate newly operating subsidiaries. The financial benefits we expect to realize from many of our acquisitions are largely dependent upon our ability to improve clinical performance, overcome regulatory deficiencies, rehabilitate or improve the reputation of the operations in the community, increase and maintain census, control costs, and in some cases change the patient acuity mix. If we are unable to accomplish any of these objectives at the operating subsidiaries we acquire, we will not realize the anticipated benefits and we may experience lower than anticipated profits, or even losses.

From January 1, 2018 through June 30, 2019, we expanded our operations through the acquisition of eight stand-alone senior living operations, six home health agencies, six hospice agencies, and four home care agencies. This growth has placed and will continue to place significant demands on our current management resources. Our ability to manage our growth effectively and to successfully integrate new acquisitions into our existing business will require us to continue to expand our operational, financial and management information systems and to continue to retain, attract, train, motivate and manage key employees, including our local leaders. We may not be successful in attracting qualified individuals necessary for future acquisitions to be successful, and our management team may expend significant time and energy working to attract qualified personnel to manage operations we may acquire in the future. Also, the newly acquired operations may require us to spend significant time improving services that have historically been substandard, and if we are unable to improve such operations quickly enough, we may be subject to litigation and/or loss of licensure or certification. If we are not able to successfully overcome these and other integration challenges, we may not achieve the benefits we expect from any of our acquisitions, and our business may suffer.

In undertaking acquisitions, we may be adversely impacted by costs, liabilities and regulatory issues that may adversely affect our operations.

In undertaking acquisitions, we also may be adversely impacted by unforeseen liabilities attributable to the prior providers who operated the acquired operations, against whom we may have little or no recourse. Many operations we have historically acquired were underperforming financially and had clinical and regulatory issues prior to and at the time of acquisition. Even where we have improved operating subsidiaries and patient care at affiliated operations that we have acquired, we still may face post-acquisition regulatory issues related to pre-acquisition events. These may include, without limitation, payment recoupment related to our predecessors’ prior noncompliance, the imposition of fines, penalties, operational restrictions or special regulatory status. Further, we may incur post-acquisition compliance risk due to the difficulty or impossibility of immediately or quickly bringing non-compliant operations into full compliance. Diligence materials pertaining to acquisition targets, especially the underperforming operations that often represent the greatest opportunity for return, are often inadequate, inaccurate or impossible to obtain, sometimes requiring us to make acquisition decisions with incomplete information. Despite our due diligence procedures, operations that we have acquired or may acquire in the future may generate unexpectedly low returns, may cause us to incur substantial losses, may require unexpected levels of management time, expenditures or other resources, or may otherwise not meet a risk profile

 

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that our investors find acceptable. For example, in April 2010, one of our affiliated operating subsidiaries acquired a home health agency that had a history of intermittent noncompliance. Although the agency rapidly improved its compliance after acquisition, the review continued for a significant period of time and resulted in the expenditure of significant agency resources. The affiliated operation has successfully graduated from the targeted medical review and has developed a reputation for quality clinical care.

In addition, we might encounter unanticipated difficulties and expenditures relating to any of the acquired operations, including contingent liabilities. When we acquire an operation we generally assume its existing Medicare provider number for purposes of billing Medicare for services. If CMS later determines that the prior operator had received overpayments from Medicare for the period of time during which it operated, or had incurred fines in connection with service provided prior to our acquisition of the operation, CMS could hold us liable for repayment of the overpayments or fines. For example, one of our operating subsidiaries acquired a home health agency that had a history of intermittent noncompliance. In October 2012, a ZPIC reopened claims at the agency for home health services provided prior to our period of ownership. In March 2014, the ZPIC completed its review and notified the agency of its findings, including a finding that the agency would be required to repay a significant amount of its Medicare reimbursement. While in this instance our operating subsidiary was indemnified for its losses by the prior operator, in future situations where the prior operator is defunct or otherwise unable to reimburse us, we may be unable to recover these funds. We may be unable to improve every operation that we acquire. In addition, these operations may divert management time and attention from other operations and priorities, negatively impact cash flows, result in adverse or unanticipated accounting charges, or otherwise damage other areas of our company if they are not timely and adequately improved.

We also incur regulatory risk in acquiring certain operations due to the licensing, certification and other regulatory requirements affecting our right to operate the acquired operations. For example, in order to acquire operations on a predictable schedule, or to acquire declining operations quickly to prevent further pre-acquisition declines, we frequently acquire such operations prior to receiving license approval or provider certification. We operate as the interim manager for the outgoing licensee, assuming financial responsibility, among other obligations, for the operation. To the extent that we may be unable or delayed in obtaining a license, we may need to operate under a management agreement with the prior operator. Any inability in obtaining consent from the prior operator of a target acquisition to utilizing its license in this manner could impact our ability to acquire additional operations. If we were subsequently denied licensure or certification for any reason, we might not realize the expected benefits of the acquisition and would likely incur unanticipated costs and other challenges which could cause our business to suffer.

Termination of our residency agreements and the resulting vacancies in our affiliated senior living operations could cause revenue at our affiliated operations to decline.

Most state regulations governing senior living communities require written residency agreements with each resident. Several of these regulations also require that each resident have the right to terminate the residency agreement for any reason and without prior notice. Consistent with these regulations, all of our senior living resident agreements allow residents to terminate their agreements upon thirty days’ notice. Residents terminate their agreements from time to time for a variety of reasons, causing some fluctuations in our overall census as residents are admitted and discharged in normal course. If an unusual number of residents elected to terminate their agreements within a short time, census levels at our affiliated operations could decline. As a result, units may be unoccupied for a period of time, which would have a negative impact on our revenue, financial condition and results of operations.

We face significant competition from other healthcare providers and may not be successful in attracting patients and residents to our affiliated operations.

The home health, hospice and senior living industries are highly competitive, and we expect that these industries may become increasingly competitive in the future. Increased competition could limit our ability to

 

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attract and retain patients, attract and retain skilled personnel, maintain or increase private pay and managed care rates or expand our business.

We may not be successful in attracting patients to our operating subsidiaries, particularly Medicare, managed care, and private pay patients who generally come to us at higher reimbursement rates. Some of our competitors have greater financial and other resources than us, may have greater brand recognition and may be more established in their respective communities than we are. Competing companies may also offer newer communities or different programs or services than we do and may thereby attract current or potential patients. Other competitors may have lower expenses or other competitive advantages, and, therefore, present significant price competition for managed care and private pay patients. In addition, some of our competitors operate on a not-for-profit basis or as charitable organizations and have the ability to finance capital expenditures on a tax-exempt basis or through the receipt of charitable contributions, neither of which are available to us.

If we do not achieve and maintain competitive quality of care or if the frequency of CMS surveys and enforcement sanctions increases, our business may be negatively affected.

Providing quality patient care is the cornerstone of our business. We believe that hospitals, physicians and other referral sources refer patients to us in large part because of our reputation for delivering quality care. Clinical quality is becoming increasingly important within our industry. Effective October 2012, Medicare began to impose a financial penalty upon hospitals that have excessive rates of patient readmissions within 30 days from hospital discharge. We believe this regulation provides a competitive advantage to home health providers who can differentiate themselves based upon quality, particularly by achieving low patient acute care hospitalization readmission rates and by implementing disease management programs designed to be responsive to the needs of patients served by referring hospitals. We are focused intently upon improving our patient outcomes, particularly our patient acute care hospitalization readmission rates. If we should fail to attain our goals regarding acute care hospitalization readmission rates and other quality metrics, we expect our ability to generate referrals would be adversely impacted, which could have a material adverse effect upon our business and combined financial condition, results of operations and cash flows.

Medicare has established consumer-facing websites, Home Health Compare and Hospice Compare that present data regarding our performance on certain quality measures compared to state and national averages. If we should fail to achieve or exceed these averages, it may affect our ability to generate referrals, which could have a material adverse effect upon our business and combined financial condition, results of operations and cash flows.

CMS has undertaken an initiative to increase Medicaid and Medicare survey and enforcement activities, to focus more survey and enforcement efforts on facilities with findings of condition level deficiencies or repeat violations of Medicaid and Medicare standards, and to require state agencies to use enforcement sanctions and remedies more promptly when substandard care or repeat violations are identified.

On July 17, 2015, CMS announced Home Health Star Ratings for home health agencies. All Medicare-certified home health agencies are potentially eligible to receive a Quality of Patient Care Star Rating. The Star rating includes assessments of quality of patient care based on Medicare claims data and patient experience of care. The Star rating may impact patient choice of home health agencies and reimbursement from home health agencies, as a higher Star rating indicates better patient care than a lower Star rating. A low Star rating may decrease the number of patients for Medicare reimbursement. On December 14, 2017, CMS announced that the influenza vaccination measure would be removed from consideration in the Quality of Patient Care Star Rating beginning with the April 2018 Home Health Compare refresh, reducing the number of quality measures used from nine to eight.

 

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If we are unable to obtain insurance, or if insurance becomes more costly for us to obtain, our business may be adversely affected.

It may become more difficult and costly for us to obtain coverage for patient care liabilities and other risks, including property and casualty insurance. For example, the following circumstances may adversely affect our ability to obtain insurance at favorable rates:

 

   

we experience higher-than-expected professional liability, property and casualty, or other types of claims or losses;

 

   

we receive survey deficiencies or citations of higher-than-normal scope or severity;

 

   

we acquire especially troubled operations that present unattractive risks to current or prospective insurers;

 

   

insurers tighten underwriting standards applicable to us or our industry; or

 

   

insurers or reinsurers are unable or unwilling to insure us or the industry at historical premiums and coverage levels.

If any of these potential circumstances were to occur, our insurance carriers may require us to pay substantially higher premiums for the same or reduced coverage for insurance, including workers compensation, property and casualty, automobile, employment practices liability, directors and officers liability, employee healthcare and general and professional liability coverages.

In some states, the law prohibits or limits insurance coverage for the risk of punitive damages arising from professional liability and general liability claims or litigation. Coverage for punitive damages is also excluded under some insurance policies. As a result, we may be liable for punitive damage awards in these states that either are not covered or are in excess of our insurance policy limits. Claims against us, regardless of their merit or eventual outcome, also could inhibit our ability to attract patients or expand our business, and could require our management to devote time to matters unrelated to the day-to-day operation of our business.

With few exceptions, workers’ compensation and employee health insurance costs have also increased markedly in recent years. To partially offset these increases, our insurance deductibles in connection with general and professional liability and auto claims also increased. We also have implemented a self-insurance program for workers compensation in all states, except Washington and Texas, and elected non-subscriber status for workers’ compensation in Texas. In Washington, the insurance coverage is financed through premiums paid by the employers and employees. If we are unable to obtain insurance, or if insurance becomes more costly for us to obtain, or if the coverage levels we can economically obtain decline, our business may be adversely affected.

Self-insurance programs may expose us to significant and unexpected costs and losses.

Pennant may maintain certain self-insurance programs including general and professional liability insurance and workers’ compensation insurance to insure our self-insurance reimbursements (“SIR”) and deductibles as part of a continually evolving overall risk management strategy. Should we establish such programs, we will be required to establish the insurance loss reserves based on an estimation process that uses information obtained from both company-specific and industry data. The estimation process will require us to continuously monitor and evaluate the life cycle of the claims to develop information about the size of ultimate claims. The most significant assumptions used in the estimation process include determining the trend in costs, the expected cost of claims incurred but not reported and the expected costs to settle or pay damages with respect to unpaid claims. It is possible, however, that the actual liabilities may exceed our estimates of loss. We may also experience an unexpectedly large number of successful claims or claims that result in costs or liability significantly in excess of our projections. For these and other reasons, our self-insurance reserves could prove to be inadequate, resulting in liabilities in excess of our available insurance and self-insurance. If a successful claim is made against us and it is not covered by our insurance or exceeds the insurance policy limits, our business and operational results may be negatively impacted.

 

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We may also elect to self-insure our employee health benefits. The related reserves and premiums will be computed based on a mix of company specific and general industry data that is not specific to our own company. Even with a combination of limited company-specific loss data and general industry data, our loss reserves are based on actuarial estimates that may not correlate to actual loss experience in the future. Therefore, our reserves may prove to be insufficient and we may be exposed to significant and unexpected losses.

The actions of a national labor union that has pursued a negative publicity campaign criticizing our business in the past or unionization of our workers may adversely affect our revenue and our profitability.

We maintain our right to inform the employees of our operating subsidiaries about our views of the potential impact of unionization upon the workplace generally and upon individual employees. With one exception, to our knowledge the staffs at our affiliated operations that have been approached to unionize have uniformly rejected union organizing efforts. If employees decide to unionize, our cost of doing business could increase, and we could experience contract delays, difficulty in adapting to a changing regulatory and economic environment, cultural conflicts between unionized and non-unionized employees, strikes and work stoppages, and we may conclude that affected operations would be uneconomical to continue operating.

Because we lease all of our affiliated senior living communities, we could experience risks associated with leased property, including risks relating to lease termination, lease extensions and special charges, which could adversely affect our business, financial position or results of operations.

As of June 30, 2019, we leased all of our senior living communities and administrative offices. Most of our leases are triple-net leases, which means that, in addition to rent, we are required to pay for the costs related to the property (including property taxes, insurance, and maintenance and repair costs). We are responsible for paying these costs notwithstanding the fact that some of the benefits associated with paying these costs accrue to the landlords as owners of the associated communities.

Specifically, as of June 30, 2019, our operating subsidiaries leased 28 senior living operations pursuant to certain “triple-net” lease agreements between our operating subsidiaries and subsidiaries of Ensign, which we anticipate will be amended and restated or replaced by the Ensign Leases in connection with the spin-off. The existing leases with subsidiaries of Ensign are for initial terms of 15 years. After the spin-off, the Ensign Leases will be for initial terms ranging between 14 and 16 years. Fifteen of our affiliated senior living communities, excluding those operated under the Ensign Leases, are operated under two separate master lease arrangements. Under these master leases, a breach at a single community could subject one or more of the other communities covered by the same master lease to the same default risk. Failure to comply with provider requirements is a default under several of the leases and master lease agreements. In addition, other potential defaults related to an individual community may cause a default of an entire master lease portfolio and could trigger cross-default provisions in our outstanding debt arrangements and other leases. With an indivisible lease, it is difficult to restructure the composition of the portfolio or economic terms of the lease without the consent of the landlord.

Each lease provides that the landlord may terminate the lease for a number of reasons, including, subject to applicable cure periods, the default in any payment of rent, taxes or other payment obligations or the breach of any other covenant or agreement in the lease. Any default under the Ensign Leases or the other master lease agreements could be declared an event of default under such agreements, which could result in an acceleration of our indebtedness and the potential loss of certain of our communities. Any such occurrence would have a material adverse effect on our business, financial condition, results of operations, cash flows and profitability. There can be no assurance that we will be able to comply with all of our obligations under the leases in the future.

A housing downturn could decrease demand for assisted living services.

Seniors often use the proceeds of home sales to fund their admission to assisted living communities. A downturn in the housing markets could adversely affect seniors’ ability to afford our resident fees and entrance

 

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fees. If national or local housing markets enter a persistent decline, our occupancy rates, revenues, results of operations and cash flow could be negatively impacted.

If our referral sources fail to view us as an attractive provider, or if our referral sources otherwise refer fewer patients, our patient base may decrease.

We rely significantly on appropriate referrals from physicians, hospitals and other healthcare providers in the communities we serve to attract appropriate residents and patients to our affiliated operations. Our referral sources are not obligated to refer business to us and may refer business to other healthcare providers. We believe many of our referral sources refer business to us as a result of our quality patient care and our commitment to partnerships and communication. If we lose, or fail to maintain, existing relationships with our referral resources, fail to develop new relationships, or if we are perceived by our referral sources as not providing high quality patient care, our census could decline and our patient mix could change. In addition, if any of our referral sources have a reduction in patients whom they can refer due to a decrease in their business, our census could decline and our patient mix could change.

Our systems are subject to security breaches and other cyber-security incidents.

Our business is dependent on the proper functioning and availability of our computer systems and networks. While we have taken steps to protect the safety and security of our information systems and the patient health information and other data maintained within those systems, we cannot assure you that our safety and security measures and disaster recovery plan will prevent damage, interruption or breach of our information systems and operations. Because the techniques used to obtain unauthorized access, disable or degrade service, or sabotage systems change frequently and may be difficult to detect, we may be unable to anticipate these techniques or implement adequate preventive measures. In addition, hardware, software or applications we develop or procure from third parties may contain defects in design or manufacture or other problems that could unexpectedly compromise the security of our information systems. Unauthorized parties may attempt to gain access to our systems or operations, or those of third parties with whom we do business, through fraud or other forms of deceiving our employees or contractors.

On occasion, we have acquired additional information systems through our business acquisitions. We have upgraded and expanded our information system capabilities and have committed significant resources to maintain, protect, enhance existing systems and develop new systems to keep pace with continuing changes in technology, evolving industry and regulatory standards, and changing customer preferences.

We license certain third party software to support our operations and information systems. Our inability, or the inability of third party software providers, to continue to maintain and upgrade our information systems and software could disrupt or reduce the efficiency of our operations. In addition, costs and potential problems and interruptions associated with the implementation of new or upgraded systems and technology or with maintenance or adequate support of existing systems also could disrupt or reduce the efficiency of our operations.

A cyber-security attack or other incident that bypasses our information systems security could cause a security breach which may lead to a material disruption to our information systems infrastructure or business and may involve a significant loss of business or patient health information. If a cyber-security attack or other unauthorized attempt to access our systems or operations were to be successful, it could result in the theft, destruction, loss, misappropriation or release of confidential information or intellectual property, and could cause operational or business delays that may materially impact our ability to provide various healthcare services. Any successful cyber-security attack or other unauthorized attempt to access our systems or operations also could result in negative publicity which could damage our reputation or brand with our patients, referral sources, payors or other third parties and could subject us to substantial penalties under HIPAA and other federal and state privacy laws, in addition to private litigation with those affected.

 

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Failure to maintain the security and functionality of our information systems and related software, or a failure to defend a cyber-security attack or other attempt to gain unauthorized access to our systems, operations or patient health information could expose us to a number of adverse consequences, the vast majority of which are not insurable, including but not limited to disruptions in our operations, regulatory and other civil and criminal penalties, fines, investigations and enforcement actions (including, but not limited to, those arising from the SEC, Federal Trade Commission, the OIG or state attorneys general), fines, private litigation with those affected by the data breach, loss of customers, disputes with payors and increased operating expense, which either individually or in the aggregate could have a material adverse effect on our business, financial position, results of operations and liquidity.

Failure to generate sufficient cash flow to cover required payments or meet operating covenants under our long-term debt, including debt entered into in connection with the spin-off and long-term operating leases, could result in defaults under such agreements and cross-defaults under other debt or operating lease arrangements, which could harm our operating subsidiaries and cause us to lose operations or experience foreclosures.

We have significant future operating lease obligations. We intend to continue financing our operations through long-term operating leases, mortgage financing and other types of financing, including borrowings under our future credit facilities we may obtain. We may not generate sufficient cash flow from operations to cover required interest, principal and lease payments.

Our ability to make payments of principal and interest on our indebtedness and to make lease payments on our operating leases depends upon our future performance, which will be subject to general economic conditions, industry cycles and financial, business and other factors affecting our business, many of which are beyond our control. If we are unable to generate sufficient cash flow from operations in the future to service our debt or to make lease payments on our operating leases, we may be required, among other things, to seek additional financing in the debt or equity markets, refinance or restructure all or a portion of our indebtedness, sell selected assets, reduce or delay planned capital expenditures or delay or abandon desirable acquisitions. Such measures might not be sufficient to enable us to service our debt or to make lease payments on our operating leases. The failure to make required payments on our debt or operating leases or the delay or abandonment of our planned growth strategy could result in an adverse effect on our future ability to generate revenue and sustain profitability. In addition, any such financing, refinancing or sale of assets might not be available on terms that are economically favorable to us, or at all.

Additionally, in connection with the spin-off, we expect to incur indebtedness, and we will be responsible for servicing our own indebtedness and obtaining and maintaining sufficient working capital and other funds to satisfy our cash requirements. Our financing arrangements may contain restrictions, covenants and events of default that, among other things, could limit our ability to respond to market conditions, provide for capital investment needs or take advantage of business opportunities by restricting our ability to incur or guarantee additional indebtedness or requiring us to offer to repurchase such indebtedness in the event of a change of control or a change of control triggering event; pay dividends or make distributions; make investments or acquisitions; sell, transfer or otherwise dispose of certain assets; create liens; consolidate or merge; enter into transactions with affiliates; and prepay and repurchase or redeem certain indebtedness. In addition, our financing costs may be higher than they were prior to the spin-off from Ensign.

We may need additional capital to finance our growth, and we may not be able to obtain it on terms acceptable to us, or at all, which may limit our ability to grow.

Our ability to maintain and enhance our operating subsidiaries and equipment in a suitable condition to meet regulatory standards, operate efficiently and remain competitive in our markets requires us to commit substantial resources to continued investment in our affiliated operations. We are sometimes more aggressive than our competitors in capital spending to address issues that arise in connection with aging and obsolete facilities and

 

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equipment. In addition, continued expansion of our business through the acquisition of existing operations, expansion of our existing operations and construction of new communities may require additional capital, particularly if we were to accelerate our acquisition and expansion plans. Financing may not be available to us or may be available to us only on terms that are not favorable. In addition, some of our long-term leases restrict, among other things, our ability to incur additional debt. If we are unable to raise additional funds or obtain additional funds on terms acceptable to us, we may have to delay or abandon some or all of our growth strategies. Further, if additional funds are raised through the issuance of additional equity securities, the percentage ownership of our stockholders would be diluted. Any newly issued equity securities may have rights, preferences or privileges senior to those of our common stock.

The condition of the financial markets, including volatility and deterioration in the capital and credit markets, could limit the availability of debt and equity financing sources to fund the capital and liquidity requirements of our business, as well as negatively impact or impair the value of our future portfolio of cash, cash equivalents and investments.

Financial markets experienced significant disruptions from 2008 through 2010. These disruptions impacted liquidity in the debt markets, making financing terms for borrowers less attractive and, in certain cases, significantly reducing the availability of certain types of debt financing. As a result of these market conditions, the cost and availability of credit has been and may continue to be adversely affected by illiquid credit markets and wider credit spreads. Concern about the stability of the markets has led many lenders and institutional investors to reduce, and in some cases, cease to provide credit to borrowers.

Further, we anticipate that our future cash, cash equivalents and investments may be held in a variety of interest-bearing instruments. As a result of the uncertain domestic and global political, credit and financial market conditions, investments in these types of instruments pose risks arising from liquidity and credit concerns.

Though we anticipate that the cash amounts generated internally, together with amounts available under our future debt instruments, will be sufficient to implement our business plan for the foreseeable future, we may need additional capital if a substantial acquisition or other growth opportunity becomes available or if unexpected events occur or opportunities arise. We cannot assure you that additional capital will be available or available on terms favorable to us. If capital is not available, we may not be able to fund internal or external business expansion or respond to competitive pressures or other market conditions.

Delays in reimbursement may cause liquidity problems.

If we experience problems with our billing information systems or if issues arise with Medicare, Medicaid or other payors, we may encounter delays in our payment cycle. From time to time, we have experienced such delays as a result of government payors instituting planned reimbursement delays for budget balancing purposes or as a result of prepayment reviews.

In August 2016, CMS initiated its implementation of a three year Medicare pre-claim review demonstration for home health services provided to beneficiaries in the state of Illinois. As of December 10, 2018 this demonstration was set to expand to other states including Ohio, North Carolina, Florida and Texas; however, CMS suspended the program indefinitely, but can restart the demonstration in the announced states after providing 30 days’ notice. If the program were to restart, this process could result in increased administrative costs or delays in reimbursement for home health services in states subject to the demonstration. Our operating subsidiaries currently provide home health services in the state of Texas and would be impacted by the expansion of the demonstration in that state.

With the phaseout in 2020 and elimination in 2021 of RAPs, we may experience higher receivables as collections are delayed upon implementation.

 

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Compliance with the regulations of the Department of Housing and Urban Development may require us to make unanticipated expenditures which could increase our costs.

Seventeen of our affiliated senior living communities are currently subject to regulatory agreements with HUD that give the Commissioner of HUD broad authority to require us to be replaced as the operator of those communities in the event that the Commissioner determines there are operational deficiencies at such communities under HUD regulations. Compliance with HUD’s requirements can often be difficult because these requirements are not always consistent with the requirements of other federal and state agencies. Appealing a failed inspection can be costly and time-consuming and, if we do not successfully remediate the failed inspection, we could be precluded from obtaining HUD financing in the future or we may encounter limitations or prohibitions on our operation of HUD-insured communities.

Failure to comply with existing environmental laws could result in increased expenditures, litigation and potential loss to our business and in our asset value.

Our operating subsidiaries are subject to regulations under various federal, state and local environmental laws, primarily those relating to the handling, storage, transportation, treatment and disposal of medical waste; the identification and warning of the presence of asbestos-containing materials in buildings, as well as the encapsulation or removal of such materials; and the presence of other substances in the indoor environment.

Our affiliated operations generate infectious or other hazardous medical waste due to the illness or physical condition of the patients. Each of our affiliated operations has an agreement with a waste management company for the proper disposal of all infectious medical waste, but the use of a waste management company does not immunize us from alleged violations of such laws for operating subsidiaries for which we are responsible even if carried out by a third party, nor does it immunize us from third-party claims for the cost to cleanup disposal sites at which such wastes have been disposed.

Some of the affiliated senior living communities we lease or may acquire may have asbestos-containing materials. Federal regulations require building owners and those exercising control over a building’s management to identify and warn their employees and other employers operating in the building of potential hazards posed by workplace exposure to installed asbestos-containing materials and potential asbestos-containing materials in their buildings. Significant fines can be assessed for violation of these regulations. Building owners and those exercising control over a building’s management may be subject to an increased risk of personal injury lawsuits. Federal, state and local laws and regulations also govern the removal, encapsulation, disturbance, handling and disposal of asbestos-containing materials and potential asbestos-containing materials when such materials are in poor condition or in the event of construction, remodeling, renovation or demolition of a building. Such laws may impose liability for improper handling or a release into the environment of asbestos- containing materials and potential asbestos-containing materials and may provide for fines to, and for third parties to seek recovery from, owners or operators of real properties for personal injury or improper work exposure associated with asbestos-containing materials and potential asbestos-containing materials. The presence of asbestos-containing materials, or the failure to properly dispose of or remediate such materials, also may adversely affect our ability to attract and retain patients and staff, to borrow when using such property as collateral or to make improvements to such property.

The presence of mold, lead-based paint, underground storage tanks, contaminants in drinking water, radon and/or other substances at any of the affiliated senior living communities we lease, own or may acquire may lead to the incurrence of costs for remediation, mitigation or the implementation of an operations and maintenance plan and may result in third party litigation for personal injury or property damage. Furthermore, in some circumstances, areas affected by mold may be unusable for periods of time for repairs, and even after successful remediation, the known prior presence of extensive mold could adversely affect the ability of a community to retain or attract patients and staff and could adversely affect a community’s market value and ultimately could lead to the temporary or permanent closure of the community.

 

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If we fail to comply with applicable environmental laws, we would face increased expenditures in terms of fines and remediation of the underlying problems, potential litigation relating to exposure to such materials, and a potential decrease in value to our business and in the value of our underlying assets.

In addition, because environmental laws vary from state to state, expansion of our operating subsidiaries to states where we do not currently operate may subject us to additional restrictions in the conduct and management of our affiliated operations.

We are a holding company with no operations and rely upon our independent operating subsidiaries to provide us with the funds necessary to meet our financial obligations. Liabilities of any one or more of our subsidiaries could be imposed upon us or our other subsidiaries.

We are a holding company with no direct operating assets, employees or revenues. Each of our affiliated operations is operated through a separate, independent subsidiary, which has its own management, employees and assets. Our principal assets are the equity interests we directly or indirectly hold in our operating subsidiaries. As a result, we are dependent upon distributions from our subsidiaries to generate the funds necessary to meet our financial obligations and pay dividends. Our subsidiaries are legally distinct from us and have no obligation to make funds available to us. The ability of our subsidiaries to make distributions to us will depend substantially on their respective operating results and will be subject to restrictions under, among other things, the laws of their jurisdiction of organization, which may limit the amount of funds available for distribution to investors or stockholders, agreements of those subsidiaries, the terms of our financing arrangements and the terms of any future financing arrangements of our subsidiaries.

Changes in federal and state income tax laws and regulations could adversely affect our provision for income taxes and estimated income tax liabilities.

We are subject to both state and federal income taxes. Our effective tax rate could be adversely affected by changes in the mix of earnings in states with different statutory tax rates, changes in the valuation of deferred tax assets and liabilities, changes in tax laws and regulations, changes in interpretations of tax laws, including pending tax law changes. In addition, in certain cases more than one state in which we operate has indicated an intent to attempt to tax the same assets and activities, which could result in double taxation if successful. Unanticipated changes in our tax rates or exposure to additional income tax liabilities could affect our profitability.

The Tax Act was approved by Congress and signed into law in December 2017. This legislation made significant changes to the Code. Such changes include a reduction in the corporate tax rate and limitations on certain corporate deductions and credits, among other changes. Certain of these changes could have a negative impact on our business. In addition, further legislative action could be taken to address questions or issues caused by the Tax Act or the interpretations or guidance thereunder. State governments may also enact tax laws in response to the Tax Act that could result in further changes to our tax obligations and adversely impact our business, results of operations and financial condition.

The U.S. Treasury Department, the Internal Revenue Service, and other standard-setting bodies could interpret or issue additional guidance on how provisions of the Tax Act or other provisions of the Code will be applied or otherwise administered that is different from our interpretations. As we continue our ongoing analysis of the Tax Act and recent regulations promulgated thereunder and the related interpretations, collect and prepare necessary data, and interpret any additional guidance, we may be required to make adjustments to amounts and positions that we have, or intend to, record that may adversely impact our business, results of operations and financial condition.

We may be subject to the continuous examination of our income tax returns by the Internal Revenue Service and other local, state and foreign tax authorities. We regularly assess the likelihood of outcomes resulting from

 

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these examinations to determine the adequacy of our estimated income tax liabilities. The outcomes from these continuous examinations could adversely affect our provision for income taxes and estimated income tax liabilities.

Risks Related to the Spin-Off

The distribution may not be completed on the terms or timeline currently contemplated, if at all.

While we are actively engaged in planning for the distribution, unanticipated developments could delay or negatively affect the distribution, including those related to the filing and effectiveness of appropriate filings with the SEC, the listing of our common stock on a trading market and receiving any required regulatory approvals. In addition, until the distribution has occurred, the Ensign board of directors has the right to not proceed with the distribution, even if all of the conditions are satisfied. Therefore, the distribution may not be completed on the terms or timeline currently contemplated, if at all.

We may be unable to achieve some or all of the benefits that we expect to achieve from our spin-off from Ensign.

We believe that as a standalone, independent public company, our results will benefit from, among other things, allowing our management to design and implement corporate policies and strategies that are based primarily on the characteristics of our business, allowing us to focus our financial resources wholly on our own operations and implement and maintain a capital structure designed to meet our own specific needs. However, by separating from Ensign, we may be more susceptible to market fluctuations and other adverse events than we would have been were we still a part of Ensign. If we fail to achieve some or all of the benefits that we expect to achieve as an independent company, or do not achieve them in the time we expect, our results of operations and financial condition could be materially adversely affected.

We have no operating history as a separate public company; our historical and pro forma financial information is not necessarily representative of the results we would have achieved as a separate publicly-traded company and may not be a reliable indicator of our future results; we may be unable to make, on a timely or cost-effective basis, the changes necessary to operate as an independent company, and as a result, we may experience increased costs.

Prior to the spin-off, Ensign performed various corporate functions for us, including executive management, accounting, human resources, information technology, legal, payroll, insurance, tax, treasury, and other general and administrative items. Our historical and pro forma financial results reflect allocations of corporate expenses from Ensign for these and similar functions that may be less than the comparable expenses we would have incurred had we operated as a separate publicly-traded company. Prior to the spin-off, we shared economies of scope and scale in costs, employees, vendor relationships and relationships with our partners. While we expect to enter into short-term transition agreements and certain other longer-term agreements that will govern certain commercial and other relationships between us and Ensign, those arrangements may not capture the benefits our business has enjoyed as a result of being integrated with the other affiliates of Ensign.

Generally, our working capital requirements, including acquisitions and capital expenditures, have historically been satisfied as part of the company-wide cash management policies of Ensign. Following the completion of the spin-off, Ensign will not be providing us with funds to finance our working capital or other cash requirements, and we may need to obtain financing from banks, through public offerings or private placements of debt or equity securities, strategic relationships or other arrangements. We may be unable to replace in a timely manner or on comparable terms and costs the services or other benefits that Ensign previously provided to us.

The loss of the benefits from being a part of Ensign could have an adverse effect on our business, results of operations and financial condition following the completion of the spin-off. Other significant changes may occur

 

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in our cost structure, management, financing and business operations as a result of our operating as a company separate from Ensign.

We may have received better terms from unaffiliated third parties than the terms we received in our agreements with Ensign entered into in connection with the spin-off.

The agreements related to the spin-off from Ensign were negotiated in the context of the spin-off from Ensign while we were still part of Ensign. Although these agreements are intended to be on an arm’s-length basis, they may not reflect terms that would have resulted from arm’s-length negotiations among unaffiliated third parties. The terms of the agreements being negotiated in the context of the separation are related to, among other things, allocations of assets and liabilities, rights and indemnification and other obligations between us and Ensign. To the extent that certain terms of those agreements provide for rights and obligations that could have been procured from third parties, we may have received better terms from third parties because third parties may have competed with each other to win our business. See “Certain Relationships and Related Party Transactions—Agreements with Ensign Related to the Spin-Off.”

Our accounting and other management systems and resources may not meet the financial reporting and other requirements to which we will be subject following the spin-off, and failure to achieve and maintain effective internal controls could have a material adverse effect on our business and the price of our common stock.

As a result of the spin-off, we will be directly subject to reporting and other obligations under U.S. securities laws and will be required to comply with internal controls and reporting requirements thereunder. These reporting and other obligations may place significant demands on our management, administrative and operational resources, including accounting systems and resources and may require us to upgrade our systems, implement additional financial and management controls, reporting systems and procedures and hire additional accounting and finance staff. If we are unable to obtain or maintain adequate financial and management controls, reporting systems, information technology systems and procedures in a timely and effective fashion, our ability to comply with the financial reporting requirements and other rules that apply to reporting companies under U.S. securities laws may be impaired. We expect to incur additional annual expenses for the purpose of addressing these requirements that may be significant.

The spin-off and related transactions may expose us to potential liabilities arising out of state and federal fraudulent conveyance laws and legal distribution requirements.

While we believe that we and Ensign will be adequately capitalized immediately after the spin-off, the spin-off could be challenged under various state and federal fraudulent conveyance laws. An unpaid creditor could claim that Ensign did not receive fair consideration or reasonably equivalent value in the spin-off, and that the spin-off left Ensign insolvent or with unreasonably small capital or that Ensign intended or believed it would incur debts beyond its ability to pay such debts as they mature. If a court were to agree with such a plaintiff, then such court could void the spin-off as a fraudulent transfer and could impose a number of different remedies, including without limitation, returning our assets or your shares in our company to Ensign or providing Ensign with a claim for money damages against us in an amount equal to the difference between the consideration received by Ensign and the fair market value of our company at the time of the spin-off.

Our success will depend in part on our ongoing relationship with Ensign after the spin-off.

In connection with the spin-off, we will enter into a number of agreements with Ensign that will govern the ongoing relationships between Ensign and us after the spin-off. We also intend to establish the Ensign Pennant Care Continuum, a voluntary post-acute preferred provider network that will provide for robust data sharing and the implementation of tailored transitional care pathways between Ensign and Pennant affiliates. Our success will depend, in part, on the maintenance of these ongoing relationships with Ensign, and Ensign’s performance of its obligations under these agreements. If we are unable to maintain a good relationship with Ensign, or if Ensign

 

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does not perform its obligations under these agreements or does not renew such agreements following their expiration, our profitability and revenues could decrease and our growth potential may be adversely affected.

Certain of our directors will continue to serve as directors of the Ensign board of directors, and ownership of shares of Ensign common stock or equity awards of Ensign by our directors and executive officers may create conflicts of interest or the appearance of conflicts of interest.

Certain of our directors who serve on our board of directors will continue to serve on the Ensign board of directors. This could create, or appear to create, potential conflicts of interest when our or Ensign’s management and directors face decisions that could have different implications for us and Ensign, including the resolution of any dispute regarding the terms of the agreements governing the spin-off and the relationship between us and Ensign after the spin-off, any commercial agreements entered into in the future between us and Ensign and the allocation of such directors’ time between us and Ensign.

Because of their current or former positions with Ensign, substantially all of our executive officers and some of our non-employee directors will own shares of Ensign common stock. The continued ownership of Ensign common stock by Pennant’s directors and executive officers following the spin-off creates or may create the appearance of conflicts of interest when these directors and executive officers are faced with decisions that could have different implications for us and Ensign.

If the distribution, together with certain related transactions, were to fail to qualify as a reorganization for U.S. federal income tax purposes under Sections 368(a)(1)(D) and 355 of the Code, then our stockholders, we and Ensign might be required to pay substantial U.S. federal income taxes (including as a result of indemnification under the tax matters agreement).

The distribution is conditioned upon Ensign’s receipt of an opinion of Kirkland & Ellis LLP to the effect that, subject to the assumptions and limitations described therein, the distribution, together with certain related transactions, will qualify as a reorganization for U.S. federal income tax purposes under Sections 368(a)(1)(D) and 355 of the Code in which no gain or loss is recognized by Ensign or its stockholders, except, in the case of Ensign stockholders, for cash received in lieu of fractional shares. The opinion of Kirkland & Ellis LLP will be based on, among other things, certain assumptions as well as on the continuing accuracy of certain factual representations and statements that we and Ensign make to Kirkland & Ellis LLP. In rendering its opinion, Kirkland & Ellis LLP will also rely on certain covenants that we and Ensign enter into. If any of the representations or statements that we or Ensign make are or become inaccurate or incomplete, or if we or Ensign breach any of our covenants, the distribution and such related transactions might not qualify for such tax treatment. The opinion of Kirkland & Ellis LLP is not binding on the Internal Revenue Service or a court, and there can be no assurance that the Internal Revenue Service will not challenge the validity of the distribution and such related transactions as a reorganization for U.S. federal income tax purposes under Sections 368(a)(1)(D) and 355 of the Code eligible for tax-free treatment, or that any such challenge ultimately will not prevail.

If the spin-off or any other related transaction does not qualify as a tax-free transaction for any reason, including as a result of a breach of a representation or covenant, Ensign or other members of its affiliated group would recognize a substantial gain attributable to us for U.S. federal income tax purposes. In such case, under U.S. Treasury regulations, each member of the Ensign consolidated group at the time of the spin-off would be jointly and severally liable for the entire resulting amount of any U.S. federal income tax liability. Additionally, if the distribution of our common stock does not qualify as tax-free under Section 355 of the Code, Ensign stockholders will be treated as having received a taxable distribution equal to the value of our stock distributed, treated as a taxable dividend to the extent of Ensign’s current and accumulated earnings and profits, and then would have a tax-free basis recovery up to the amount of their tax basis in their shares, and then would have taxable gain from the sale or exchange of the shares to the extent of any excess.

 

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We may not be able to engage in desirable strategic transactions and equity issuances following the spin-off because of certain restrictions related to preserving the tax-free treatment of the spin-off. In addition, we could be liable for adverse tax consequences resulting from engaging in significant strategic or capital-raising transactions.

Our ability to engage in significant strategic transactions and equity issuances may be limited or restricted after the spin-off in order to preserve, for U.S. federal income tax purposes, the tax-free nature of the spin-off. Even if the spin-off otherwise qualifies for tax-free treatment under Sections 368(a)(1)(D) and 355 of the Code, it may result in corporate level taxable gain to Ensign under Section 355(e) of the Code if 50.0% or more, by vote or value, of shares of our stock or Ensign’s stock are acquired or issued as part of a plan or series of related transactions that includes the spin-off. The process for determining whether an acquisition or issuance triggering these provisions has occurred is complex, inherently factual and subject to interpretation of the facts and circumstances of a particular case. Any acquisitions or issuances of our stock or Ensign stock within a two-year period after the spin-off generally are presumed to be part of such a plan, although we or Ensign, as applicable, may be able to rebut that presumption.

Under the tax matters agreement that we will enter into with Ensign, we also will generally be responsible for any taxes imposed on Ensign that arise from the failure of the spin-off to qualify as tax-free for U.S. federal income tax purposes, within the meaning of Sections 368(a)(1)(D) and 355 of the Code, to the extent such failure to qualify is attributable to actions, events or transactions relating to our stock, assets or business, or a breach of the relevant representations or any covenants made by us in the tax matters agreement or the representation letter provided to counsel in connection with the tax opinion of Kirkland & Ellis LLP.

Risks Related to Ownership of Our Common Stock

There is no existing market for our common stock, and a trading market that will provide you with adequate liquidity may not develop for our common stock, which could limit your ability to sell your shares of our common stock at an attractive price, or at all.

There is currently no public market for our common stock and an active trading market for our common stock may not develop as a result of the distribution or be sustained in the future. We cannot predict the extent to which investor interest in our company will lead to the development of an active trading market in our common stock or how liquid that market might become. An active public market for our common stock may not develop or be sustained after the consummation of the spin-off. If an active public market does not develop or is not sustained, it may be difficult for you to sell your shares of common stock at a price that is attractive to you, or at all. Further, an inactive market may also impair our ability to raise capital by selling shares of our common stock and may impair our ability to enter into strategic transactions by using our shares of common stock as consideration.

We are an “emerging growth company” under the JOBS Act, and any decision on our part to comply with certain reduced reporting and disclosure requirements applicable to emerging growth companies could make our common stock less attractive to investors.

We are an emerging growth company, and, for as long as we continue to be an emerging growth company, we currently intend to take advantage of exemptions from various reporting requirements applicable to other public companies but not to “emerging growth companies,” including, but not limited to, not being required to have our independent registered public accounting firm audit our internal control over financial reporting under Section 404 of the Sarbanes-Oxley, reduced disclosure obligations regarding executive compensation in our registration statements, periodic reports and proxy statements, and exemptions from the requirements of holding a nonbinding advisory vote on executive compensation and stockholder approval of any golden parachute payments not previously approved. We will cease to be an emerging growth company upon the earliest of: (i) the end of the fiscal year following the fifth anniversary of the distribution; (ii) the last day of the first fiscal year during which our total annual gross revenue is $1.07 billion or more; (iii) the date on which we have, during the

 

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previous three-year period, issued more than $1 billion in non-convertible debt securities; or (iv) the end of any fiscal year in which the market value of our common stock held by non-affiliates exceeded $700 million as of the end of the second quarter of that fiscal year. We cannot predict if investors will find our common stock less attractive if we choose to rely on exemptions from certain disclosure requirements. If some investors find our common stock less attractive as a result of any choices to reduce future disclosure, there may be a less active trading market for our common stock and the price of our common stock may be more volatile.

In addition, as our business grows, we may cease to satisfy the conditions of an “emerging growth company.” 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 have irrevocably elected not to avail ourselves of this exemption from new or revised accounting standards and, therefore, we will be subject to the same new or revised accounting standards as other public companies that are not “emerging growth companies.”

We are currently evaluating and monitoring developments with respect to these new rules, and we may not be able to take advantage of all of the benefits from the JOBS Act.

Our stock price may be volatile or may decline regardless of our operating performance, and you may not be able to sell your shares at an attractive price or at all.

After consummation of the spin-off, the market price for our common stock is likely to be volatile, in part because our shares have not been traded publicly. In addition, the market price of our common stock may fluctuate significantly in response to a number of factors, most of which we cannot control, including:

 

   

quarterly variations in our operating results compared to market expectations;

 

   

public reactions to our press releases, public announcements and/or filings with the SEC;

 

   

speculation in the press or investment community;

 

   

size of the public float;

 

   

stock price performance and valuations of our competitors;

 

   

fluctuations in stock market prices and volumes;

 

   

default on our indebtedness;

 

   

actions by competitors;

 

   

changes in senior management or key personnel;

 

   

actions by our stockholders;

 

   

changes in financial estimates by securities analysts or our failure to meet any such estimates;

 

   

publication of research reports by securities analysts about us, our competitors or our industry;

 

   

strategic decisions by us or our competitors, such as acquisitions, divestitures, spin-offs, joint ventures, strategic investments or changes in business strategy;

 

   

negative earnings or other announcements by us;

 

   

downgrades in our credit ratings or the credit ratings of our competitors;

 

   

issuances (or sales by our stockholders) of common stock;

 

   

changes in accounting principles;

 

   

litigation and governmental investigations;

 

   

terrorist acts, acts of war or periods of widespread civil unrest;

 

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natural disasters and other calamities;

 

   

general market conditions;

 

   

global economic, legal and regulatory factors unrelated to our performance; and

 

   

the realization of any of the risks described in this section, or other risks that may materialize in the future.

For many reasons, including the risks identified in this information statement, the market price of our common stock following the spin-off may be more volatile than the market price of Ensign common stock before the consummation of the spin-off. These factors may result in short-term or long-term negative pressure on the value of our common stock. Stock markets in general have experienced volatility that has often been unrelated to the operating performance of a particular company. These broad market fluctuations may adversely affect the trading price of our common stock.

Your percentage ownership in Pennant may be diluted in the future because of equity awards that we expect will be issued to our directors and officers and employees of our subsidiaries and the accelerated vesting of certain equity awards with respect to our common stock.

Your percentage ownership in Pennant may be diluted in the future because of equity awards that we expect will be issued to our directors and officers and employees of our subsidiaries and the accelerated vesting of certain equity awards with respect to our common stock. Based on information available as of the date of this information statement, we estimate that approximately 28.0 million shares of Pennant common stock will be outstanding immediately after the spin-off, based on the number of shares of Ensign common stock that we expect will be outstanding as of the record date, the distribution ratio, the anticipated exchange of Cornerstone equity awards for Pennant equity awards in anticipation of the distribution.

Anti-takeover provisions in our organizational documents and Delaware law might discourage or delay acquisition attempts for us that you might consider favorable.

Our amended and restated certificate of incorporation and amended and restated bylaws that will become effective immediately prior to the consummation of this spin-off will contain provisions that may make the merger or acquisition of our company more difficult without the approval of our board of directors. Among other things, these provisions:

 

   

would allow us to authorize the issuance of undesignated preferred stock, the terms of which may be established and the shares of which may be issued without stockholder approval, and which may include super voting, special approval, dividend, or other rights or preferences superior to the rights of the holders of common stock;

 

   

would provide for the election of directors by a plurality of the votes cast at the annual stockholder meeting;

 

   

establish advance notice requirements for nominations for elections to our board or for proposing matters that can be acted upon by stockholders at stockholder meetings;

 

   

creating a classified board of directors whose members serve staggered three-year terms;

 

   

limiting the liability of, and providing indemnification to, our directors and officers;

 

   

limiting the ability of our stockholders to call and bring business before special meetings; and

 

   

controlling the procedures for the conduct and scheduling of board of directors and stockholder meetings.

Further, as a Delaware corporation, we are also subject to provisions of Delaware law, which may impair a takeover attempt that our stockholders may find beneficial. These anti-takeover provisions and other provisions

 

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under Delaware law could discourage, delay or prevent a transaction involving a change in control of our company, including actions that our stockholders may deem advantageous, or negatively affect the trading price of our common stock. These provisions could also discourage proxy contests and make it more difficult for you and other stockholders to elect directors of your choosing and to cause us to take other corporate actions you desire.

We do not expect to pay any cash dividends for the foreseeable future.

The continued operation and expansion of our business will require substantial funding. Accordingly, we do not anticipate that we will pay any cash dividends on shares of our common stock for the foreseeable future. Any determination to pay dividends in the future will be at the discretion of our board of directors and will depend upon results of operations, financial condition, contractual restrictions, restrictions imposed by applicable law and other factors our board of directors deems relevant. Additionally, our ability to pay dividends on our common stock will be limited by restrictions on the ability of our subsidiaries and us to pay dividends or make distributions, including restrictions under the terms of any agreements governing any of our future indebtedness.

We will incur increased costs as a result of becoming a public company, particularly after we are no longer an “emerging growth company.”

As a public company, we will incur significant legal, accounting, insurance and other expenses that we have not incurred as a private company, including costs associated with public company reporting requirements. As a result of the spin-off, we will become obligated to file with the SEC annual and quarterly reports and other reports that are specified in Section 13 and other sections of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). We will also be required to ensure that we have the ability to prepare financial statements that are fully compliant with all SEC reporting requirements on a timely basis. In addition, we will become subject to other reporting and corporate governance requirements, including certain requirements of NASDAQ, and certain provisions of Sarbanes-Oxley and the regulations promulgated thereunder, which will impose significant compliance obligations upon us.

The expenses incurred by public companies generally for reporting and corporate governance purposes have been increasing. We expect these rules and regulations to increase our legal and financial compliance costs and to make some activities more time-consuming and costly. These laws and regulations could also make it more difficult or costly for us to obtain certain types of insurance, including director and officer liability insurance, and we may be forced to accept reduced policy limits and coverage or incur substantially higher costs to obtain the same or similar coverage. These laws and regulations could also make it more difficult for us to attract and retain qualified persons to serve on our board of directors, our board committees or as our executive officers. Furthermore, if we are unable to satisfy our obligations as a public company, we could be subject to delisting of our common stock, fines, sanctions and other regulatory action and potentially civil litigation. In addition, if we fail to implement the requirements with respect to our internal accounting and audit functions, our ability to report our operating results on a timely and accurate basis could be impaired. If we do not implement such requirements in a timely manner or with adequate compliance, we might be subject to sanctions or investigation by regulatory authorities, such as the SEC and NASDAQ. Any such action could harm our reputation and the confidence of investors and customers in us and could materially adversely affect our business and cause our share price to fall.

After we are no longer an “emerging growth company,” we expect to incur additional management time and cost to comply with the more stringent reporting requirements applicable to companies that are deemed accelerated filers or large accelerated filers, including complying with the auditor attestation requirements of Section 404 of the Sarbanes-Oxley Act of 2002 (“Sarbanes-Oxley”). See “—We are an “emerging growth company” under the JOBS Act, and any decision on our part to comply with certain reduced reporting and disclosure requirements applicable to emerging growth companies could make our common stock less attractive to investors.”

 

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Our amended and restated certificate of incorporation will designate the Court of Chancery of the State of Delaware as the sole and exclusive forum for certain types of actions and proceedings that may be initiated by our stockholders, which could limit our stockholders’ ability to obtain a favorable judicial forum for disputes with our company or our company’s directors, officers or other employees.

Our amended and restated certificate of incorporation will provide that, unless we consent in writing to the selection of an alternative forum, the Court of Chancery of the State of Delaware shall, to the fullest extent permitted by law, be the sole and exclusive forum for any (1) derivative action or proceeding brought on behalf of our company, (2) action asserting a claim of breach of a fiduciary duty owed by any director, officer, employee or agent of our company to our company or our stockholders, or any claim for aiding and abetting any such alleged breach, (3) action asserting a claim against our company or any director or officer of our company arising pursuant to any provision of the Delaware General Corporation Law (the “DGCL”) or our amended and restated certificate of incorporation or our amended and restated bylaws, or (4) action asserting a claim against us or any director or officer of our company governed by the internal affairs doctrine except for, as to each of (1) through (4) above, any claim (a) as to which the Court of Chancery determines that there is an indispensable party not subject to the jurisdiction of the Court of Chancery (and the indispensable party does not consent to the personal jurisdiction of the Court of Chancery within ten days following such determination), (b) which is vested in the exclusive jurisdiction of a court or forum other than the Court of Chancery, or (c) arising under the federal securities laws, including the Securities Act of 1933, as amended (the “Securities Act”), as to which the Court of Chancery and the federal district court for the District of Delaware shall concurrently be the sole and exclusive forums. Notwithstanding the foregoing, the provisions of this paragraph will not apply to suits brought to enforce any liability or duty created by the Exchange Act or any other claim for which the federal district courts of the United States of America shall be the sole and exclusive forum. Any person or entity purchasing or otherwise acquiring any interest in any shares of our capital stock shall be deemed to have notice of and to have consented to the forum provisions in our amended and restated certificate of incorporation. If any action the subject matter of which is within the scope the forum provisions is filed in a court other than a court located within the State of Delaware (a “foreign action”) in the name of any stockholder, such stockholder shall be deemed to have consented to: (x) the personal jurisdiction of the state and federal courts located within the State of Delaware in connection with any action brought in any such court to enforce the forum provisions (an “enforcement action”), and (y) having service of process made upon such stockholder in any such enforcement action by service upon such stockholder’s counsel in the foreign action as agent for such stockholder.

This choice-of-forum provision may limit a stockholder’s ability to bring a claim in a judicial forum that it finds favorable for disputes with our company or its directors, officers or other employees, which may discourage such lawsuits. Alternatively, if a court were to find this provision of our amended and restated certificate of incorporation inapplicable or unenforceable with respect to one or more of the specified types of actions or proceedings, we may incur additional costs associated with resolving such matters in other jurisdictions, which could materially and adversely affect our business, financial condition and results of operations and result in a diversion of the time and resources of our management and board of directors.

 

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SPECIAL NOTE ABOUT FORWARD-LOOKING STATEMENTS

This information statement contains forward-looking statements including in the sections titled “Summary,” “Risk Factors,” “The Spin-Off,” “Trading Market,” “Dividend Policy,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Our Business,” that are based on our management’s beliefs and assumptions and on information currently available to our management. Forward-looking statements include, but are not limited to, statements related to our expectations regarding the performance of our business, our financial results, our liquidity and capital resources, the benefits resulting from the spin-off, the effects of competition and the effects of future legislation or regulations and other non-historical statements. Forward-looking statements include all statements that are not historical facts and can be identified by the use of forward-looking terminology such as the words “outlook,” “believes,” “expects,” “outlook,” “potential,” “continues,” “may,” “might,” “will,” “should,” “could,” “seeks,” “approximately,” “goals,” “future,” “projects,” “predicts,” “guidance,” “target,” “intends,” “plans,” “estimates,” “anticipates” or the negative version of these words or other comparable words.

The risk factors discussed in “Risk Factors” could cause our results to differ materially from those expressed in forward-looking statements. Factors that could cause actual results to differ materially from those in the forward-looking statements include, but are not limited to:

 

   

federal and state changes to, or delays receiving, reimbursement and other aspects of Medicaid and Medicare;

 

   

changes in the regulation of the healthcare services industry;

 

   

increased competition for, or a shortage of, skilled personnel;

 

   

government reviews, audits and investigations of our business;

 

   

changes in federal and state employment related laws;

 

   

compliance with state and federal employment, immigration, licensing and other laws;

 

   

competition from other healthcare providers;

 

   

actions of national labor unions;

 

   

the leases of our affiliated senior living communities;

 

   

inability to complete future community or business acquisitions and failure to successfully integrate acquired communities and businesses into our operations;

 

   

general economic conditions;

 

   

security breaches and other cyber security incidents;

 

   

the performance of the financial and credit markets;

 

   

uncertainties that may delay or negatively impact the spin-off or cause the spin-off to not occur at all;

 

   

uncertainties related to our ability to realize the anticipated benefits of the spin-off;

 

   

uncertainties related to our ability to successfully complete the spin-off on a tax-free basis within the expected time frame or at all, unanticipated developments that delay or otherwise negatively affect the spin-off; and

 

   

uncertainties related to our ability to obtain financing or the terms of such financing.

Forward-looking statements involve risks, uncertainties and assumptions. Actual results may differ materially from those expressed in these forward-looking statements. You should not place undue reliance on any forward-looking statements in this information statement. We do not have any obligation to update forward-looking statements after we distribute this information statement except as required by law.

 

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THE SPIN-OFF

Background

On May 6, 2019, Ensign announced its intention to implement the spin-off of Pennant from Ensign, following which The Pennant Group, Inc. will be an independent, publicly-traded company, and Ensign will have no continuing stock ownership interest in Pennant. As part of the spin-off, Ensign will effect an internal reorganization to properly align the appropriate businesses within each of Pennant and Ensign whereby, among other things: (i) the assets and liabilities associated with Ensign’s home health and hospice agencies and substantially all of its senior living businesses will be transferred to Pennant; and (ii) all other assets and liabilities of Ensign will be retained by Ensign. See “—Manner of Effecting the Spin-Off—Internal Reorganization.”

To complete the spin-off, Ensign will, following the internal reorganization, distribute to Ensign stockholders substantially all of the outstanding shares of Pennant common stock. The distribution will occur on the distribution date, which is expected to be October 1, 2019. Each holder of Ensign common stock will receive one share of our common stock for every two shares of Ensign common stock held at the close of business on September 20, 2019, the record date. After completion of the spin-off:

 

   

The Pennant Group, Inc. will be an independent, publicly-traded company (NASDAQ:PNTG), and through its subsidiaries will own Ensign’s home health and hospice agencies and substantially all of Ensign’s senior living businesses; and

 

   

The Ensign Group, Inc. will continue to be an independent, publicly-traded company (NASDAQ:ENSG) and will include transitional and skilled services, rehabilitative care services, healthcare campuses, post-acute-related new business ventures and real estate investments.

Each holder of Ensign common stock will continue to hold his, her or its shares in Ensign. No vote of Ensign stockholders is required or is being sought in connection with the spin-off, including the internal reorganization, and Ensign stockholders will not have any appraisal rights in connection with the spin-off.

The distribution is subject to the satisfaction or waiver of certain conditions. In addition, until the distribution has occurred, the Ensign board of directors has the right to not proceed with the distribution, even if all of the conditions are satisfied. See “—Conditions to the Distribution.”

Reasons for the Spin-Off

The Ensign board of directors believes that the spin-off is in the best interests of Ensign and Ensign stockholders because the spin-off is expected to provide various benefits, including the following:

Amplification of Ensign’s Operating and Accountability Model. Our innovative operating model is built upon the balance between providing locally-driven healthcare services with the backing of a strong balance sheet that helps our local leaders maintain focus on becoming the provider of choice in the healthcare communities they serve. An essential ingredient of our model is our mentality of shared ownership and peer accountability. Our leaders and resources feel a collective sense of ownership for the clinical, financial and cultural success of our affiliated operations and hold each other accountable for successes and failures in an environment that fosters transparency and improvement. A spin-off of our businesses expands that model and provides our local leaders even more transparency, accountability and support from cutting-edge data systems and an innovative Service Center.

Creation of Additional Leadership Opportunities within Pennant and Ensign. We believe the spin-off will create more opportunities for leadership and growth within our talented pool of existing leaders. We also believe our position as a separate company following the spin-off will be a powerful recruiting tool that will attract strong leaders from both within and outside the post-acute care continuum looking for opportunities to grow and develop meaningful careers.

 

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Enhanced Ability to Continue Our Growth Strategy. We plan to continue to take advantage of the fragmented home health, hospice and senior living industries by acquiring strategic and underperforming operations within both our existing and new geographic markets. With experienced leaders in place at the local level in each of these industries and demonstrated success in significantly improving operating conditions at acquired businesses, we will be well equipped to successfully expand our footprint. We believe a spin-off will generate even more opportunities for off-market strategic acquisitions as we increase understanding of our innovative operating model, patient-centered approach to care, and emphasis on healthy culture in the home health, hospice and senior living markets.

Increased Ability to Raise Funds Through Capital Market Offerings. Following the spin-off, we will have the ability to tap public markets for capital as we execute on our strategic and organic growth objectives, which in many ways overlap but in other ways diverge from Ensign’s, resulting in different capital needs and pressures. Following the spin-off, we will be able to raise capital in ways and at times that Ensign may not. Relatedly, the public market appetite for investments (both debt and equity) in the skilled nursing space stands in contrast to the appetite for similar investments in home health, hospice and senior living businesses, which may attract better equity valuations and more favorable debt financing via certain offerings.

Improved Opportunities for Partnership Outside of Ensign. Some organizations unaffiliated with Ensign may hesitate to refer patients to Ensign-affiliated ancillary service providers despite superior service and clinical outcomes, for no apparent reason other than their affiliation with a competitor. A separation of our home health and hospice and senior living operating subsidiaries allows us freedom to provide services to a broader base of payors, patients and other providers in the acute and post-acute care continuum. Simultaneously, since Ensign-affiliated companies are not, and never have been, obligated to contract with each other or with our businesses, existing partnerships between Ensign’s SNFs and our operations are built on a foundation of quality clinical outcomes, effective care coordination and transparent communication. These partnerships will continue to model the deep community relationships that are necessary for success in today’s integrated care delivery models.

Pennant’s Diversified Payor Mix. We will be well positioned amongst publicly-traded peers in the post-acute care marketplace because of a well diversified payor mix between government, third-party and private sources. While home health and hospice agencies primarily rely on Medicare for reimbursement of services, with a moderate amount of revenue coming from private and commercial payors, our senior living communities receive a majority of their revenue from private pay sources, with a smaller amount from Medicaid and other state-specific programs. Together, these companies will share a balance sheet that we believe will position us well to weather reimbursement changes, market downturns, labor shortages, and a number of other macroeconomic changes.

Equity Compensation Awards More Closely Tied to Value Creation. An important component of a successful personnel recruiting and retention program is an active equity compensation plan that supports our service-minded leaders with opportunities to participate in the financial upside they help create by becoming the provider of choice in the healthcare communities they serve. An appropriate stock incentive plan helps reward leaders and employees that focus on improving the clinical, cultural and financial outcomes of their organizations. An equity plan that allows leaders and employees of our subsidiaries to share in ownership of Pennant helps better align the value created by those leaders and employees with the value of Pennant’s common stock.

Improved Investor Understanding. While home health and hospice services and senior living services are disclosed as separate businesses on many of Ensign’s public financial disclosures, we believe a spin-off of Pennant’s businesses will foster better understanding by public stockholders, analysts and other stakeholders about how the application of Ensign’s core operating principles to these lines of business has the ability to produce extraordinary clinical, cultural and financial results. More education about and visibility into these uniquely situated operations will create better understanding of the value that we believe remains somewhat hidden and overshadowed by the market’s perception of the skilled nursing industry at large.

 

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Manner of Effecting the Spin-Off

The general terms and conditions relating to the spin-off will be set forth in the master separation agreement between The Pennant Group, Inc. and The Ensign Group, Inc.

Internal Reorganization

The Pennant Group, Inc. was incorporated as a Delaware corporation on January 24, 2019 for the purpose of holding Ensign’s home health and hospice agencies and substantially all of its senior living businesses. The senior living communities that will become part of Pennant consist primarily of those that are geographically and operationally strategic to its home health and hospice operations. The operational synergies and resource infrastructure support available in each market will better position each individual operation to best benefit the local healthcare community by providing consistent quality care, resulting in an overall better patient experience across the continuum of care.

As part of the spin-off, Ensign will effect an internal reorganization, pursuant to which, among other things: (i) the assets and liabilities associated with Ensign’s home health and hospice agencies and substantially all of its senior living businesses will be transferred to Pennant; and (ii) all other assets and liabilities of Ensign will be retained by Ensign.

Distribution of Shares of Our Common Stock

Under the master separation agreement, the distribution will be effective as of October 1, 2019, the distribution date. As a result of the spin-off, on the distribution date, each holder of Ensign common stock will receive one share of our common stock for every two shares of Ensign common stock that he, she or it owns as of the close of business on September 20, 2019, the record date. The actual number of shares to be distributed will be determined based on the number of shares of Ensign common stock expected to be outstanding as of the record date and will be reduced to the extent that cash payments are to be made in lieu of the issuance of fractional shares of Pennant common stock. The shares of Pennant common stock to be distributed by The Ensign Group, Inc. will constitute substantially all of the issued and outstanding shares of Pennant common stock immediately prior to the distribution. Pennant is also anticipating that Cornerstone equity awards will be exchanged for Pennant equity awards in connection with the distribution. See “—Results of the Spin-Off.”

On the distribution date, The Ensign Group, Inc. will release the shares of our common stock to our distribution agent to distribute to Ensign stockholders. Our distribution agent will credit the shares of our common stock to the book-entry accounts of Ensign stockholders established to hold their shares of our common stock. Our distribution agent will send these stockholders a statement reflecting their ownership of our common stock. Book-entry refers to a method of recording stock ownership in our records in which no physical certificates are issued. For stockholders who own Ensign common stock through a broker or other nominee, their shares of our common stock will be credited to these stockholders’ accounts by the broker or other nominee. It may take the distribution agent up to two weeks to distribute shares of our common stock to Ensign stockholders or to their bank or brokerage firm electronically by way of direct registration in book-entry form. Trading of our stock will not be affected by this delay in distribution by the distribution agent.

Ensign stockholders will not be required to make any payment or surrender or exchange their shares of Ensign common stock or take any other action to receive their shares of our common stock. No vote of Ensign stockholders is required or sought in connection with the spin-off, including the internal reorganization, and Ensign stockholders have no appraisal rights in connection with the spin-off.

Treatment of Fractional Shares

The distribution agent will not distribute any fractional shares of Pennant common stock to Ensign stockholders. Instead, as soon as practicable on or after the distribution date, the distribution agent will aggregate

 

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fractional shares of Pennant common stock to which Ensign stockholders of record would otherwise be entitled into whole shares, sell them in the open market at the prevailing market prices and then distribute the aggregate net sale proceeds ratably to Ensign stockholders who would otherwise have been entitled to receive fractional shares of Pennant common stock. The amount of this payment will depend on the prices at which the distribution agent sells the aggregated fractional shares of Pennant common stock in the open market shortly after the distribution date and will be reduced by any amount required to be withheld for tax purposes and any brokerage fees and other expenses incurred in connection with these sales of fractional shares. Receipt of the proceeds from these sales generally will result in a taxable gain or loss to those Ensign stockholders. In addition, each Cornerstone stockholder who exchanges Cornerstone equity for interests in Pennant will generally recognize taxable income to the extent of cash received in lieu of fractional shares. Each stockholder entitled to receive cash proceeds from these shares should consult his, her or its own tax advisor as to the stockholder’s particular circumstances. The tax consequences of the distribution are described in more detail under “—Material U.S. Federal Income Tax Consequences of the Spin-Off.”

Transaction and Separation Costs

One-time separation costs related to the spin-off are expected to be approximately $14.0 million, consisting of estimated transaction costs, including debt issuance costs, legal, accounting, capital markets fees and expenses, investment banking, transaction bonuses, modifications to incentive equity awards, and other costs relating to the internal reorganization. Pursuant to the master separation agreement, these separation costs and expenses are to be borne by Pennant.

Material U.S. Federal Income Tax Consequences of the Spin-Off

The following is a summary of the material U.S. federal income tax consequences to the holders of shares of Ensign common stock in connection with the distribution and certain related transactions. This summary is based on the Code, the Treasury regulations promulgated thereunder, and judicial and administrative interpretations thereof, all as in effect as of the date of this information statement, and all of which are subject to differing interpretations and may change at any time, possibly with retroactive effect. Any such change could affect the tax consequences described below. This summary assumes that the spin- off will be consummated in accordance with the master separation agreement and as described in this information statement.

This summary is limited to holders of shares of Ensign common stock that are U.S. Holders, as defined immediately below. For purposes of this summary, a U.S. Holder is a beneficial owner of Ensign common stock that is, for U.S. federal income tax purposes:

 

   

an individual who is a citizen or a resident of the United States;

 

   

a corporation, or other entity taxable as a corporation for U.S. federal income tax purposes, created or organized under the laws of the United States or any state thereof or the District of Columbia;

 

   

an estate, the income of which is subject to U.S. federal income taxation regardless of its source; or

 

   

a trust (i) with respect to which a court within the United States is able to exercise primary jurisdiction over its administration and one or more U.S. persons have the authority to control all of its substantial decisions, or (ii) that has a valid election in place under applicable Treasury regulations to be treated as a U.S. person.

This summary does not discuss all tax considerations that may be relevant to Ensign stockholders in light of their particular circumstances, nor does it address the consequences to Ensign stockholders subject to special treatment under the U.S. federal income tax laws, such as:

 

   

persons acting as nominees or otherwise not as beneficial owners;

 

   

dealers or traders in securities or currencies;

 

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broker-dealers;

 

   

traders in securities that elect to use the mark-to-market method of accounting;

 

   

tax-exempt entities;

 

   

cooperatives;

 

   

banks, trusts, financial institutions or insurance companies;

 

   

persons who acquired shares of Ensign common stock pursuant to the exercise of employee stock options or otherwise as compensation;

 

   

stockholders who own, or are deemed to own, at least 10% or more, by voting power or value, of The Ensign Group, Inc. equity;

 

   

holders owning Ensign common stock as part of a position in a straddle or as part of a hedging, conversion, constructive sale, synthetic security, integrated investment, or other risk reduction transaction for U.S. federal income tax purposes;

 

   

regulated investment companies;

 

   

real estate investment trusts;

 

   

former citizens or former long-term residents of the United States or entities subject to Section 7874 of the Code;

 

   

holders who are subject to the alternative minimum tax;

 

   

pass-through entities (such as entities treated as partnerships for U.S. federal income tax purposes); or

 

   

persons that own Ensign common stock through partnerships or other pass-through entities, including any persons subject to Section 1061 of the Code.

This summary does not address the U.S. federal income tax consequences to Ensign stockholders who do not hold shares of Ensign common stock as a capital asset. Moreover, this summary does not address any state, local or non-U.S. tax consequences, or any federal tax other than U.S. federal income tax consequences (such as estate or gift tax consequences or the Medicare tax on certain investment income).

If a partnership (or any other entity or arrangement treated as a partnership for U.S. federal income tax purposes) holds shares of Ensign common stock, the tax treatment of a partner in that partnership generally will depend on the status of the partner and the activities of the partner and the partnership. Such a partner or partnership is urged to consult its tax advisor as to the tax consequences of the spin-off.

WE URGE YOU TO CONSULT WITH YOUR TAX ADVISOR AS TO THE SPECIFIC U.S. FEDERAL, STATE AND LOCAL, AND NON-U.S. TAX CONSEQUENCES OF THE SPIN-OFF IN LIGHT OF YOUR PARTICULAR CIRCUMSTANCES.

Treatment of the Spin-Off

The distribution is conditioned upon Ensign’s receipt of the opinion of Kirkland & Ellis LLP to the effect that, subject to the assumptions and limitations described therein, the distribution of our common stock and certain related transactions will qualify as a reorganization under Sections 368(a)(1)(D) and 355 of the Code in which no gain or loss is recognized by The Ensign Group, Inc. and its stockholders, except, in the case of Ensign stockholders, for cash received in lieu of fractional shares. Assuming the distribution of our common stock qualifies for such treatment, for U.S. federal income tax purposes:

 

   

no gain or loss will be recognized by Ensign as a result of the spin-off (except possible gain or loss arising out of certain internal reorganization transactions undertaken in connection with the spin-off);

 

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no gain or loss will be recognized by, or be includible in the income of, a U.S. Holder solely as a result of the receipt of our common stock in the spin-off;

 

   

the aggregate tax basis of the shares of Ensign common stock and shares of our common stock, including any fractional share deemed received, in the hands of each U.S. Holder immediately after the distribution will be the same as the aggregate tax basis of the shares of Ensign common stock held by such holder immediately before the distribution, allocated between the shares of Ensign common stock and shares of our common stock, including any fractional share deemed received, in proportion to their relative fair market values immediately following the distribution; and

 

   

the holding period with respect to shares of our common stock received by U.S. Holders will include the holding period of their shares of Ensign common stock, provided that such shares of Ensign common stock are held as capital assets immediately following the spin-off.

U.S. Holders that have acquired different blocks of Ensign common stock at different times or at different prices are urged to consult their tax advisors regarding the allocation of their aggregate adjusted basis among, and their holding period of, our common stock and Ensign common stock.

If a U.S. Holder receives cash in lieu of a fractional share of our common stock as part of the distribution (or in the case of a former Cornerstone stockholder, if a U.S. holder receives cash in lieu of a fractional share of our common stock as part of the exchange of Cornerstone equity for interests in Pennant), the U.S. Holder will be treated as though it first received a distribution of the fractional share in the distribution and then sold it for the amount of cash actually received. Such U.S. Holder will generally recognize capital gain or loss measured by the difference between the cash received for such fractional share and the U.S. Holder’s tax basis in that fractional share, as determined above. Such capital gain or loss will be long-term capital gain or loss if the U.S. Holder’s holding period for the Ensign common stock exceeds one year on the date of the distribution. The deductibility of capital losses is subject to significant limitations.

The opinion of Kirkland & Ellis LLP will not address any U.S. state or local or non-U.S. consequences of the spin-off. The opinion will assume that the distribution and certain related transactions will be completed according to the terms of the master separation agreement, and will rely on the facts as stated in the master separation agreement, the tax matters agreement, the other ancillary agreements, this information statement and a number of other documents. The opinion will also be based on, among other things, current law and certain assumptions and representations as to factual matters made by Ensign and us. Any change in currently applicable law, which may or may not be retroactive, or the failure of any factual representation or assumption to be true, correct and complete in all material respects, could adversely affect the conclusions reached by Kirkland & Ellis LLP in the opinion. The opinion will be expressed as of the date issued and does not cover subsequent periods. The opinion will represent Kirkland & Ellis LLP’s best legal judgment based on current law. The opinion of Kirkland & Ellis LLP will not be binding on the IRS or the courts, and the IRS or the courts may not agree with the conclusions expressed in the opinion. We cannot assure you that the IRS will agree with the conclusions set forth in the opinion, and it is possible that the IRS or another tax authority could adopt a position contrary to one or all of those conclusions and that a court could sustain that contrary position. If any of the facts, representations, assumptions or undertakings described or made in connection with the opinion are not correct, are incomplete or have been violated, our ability to rely on the opinion could be jeopardized. We are not aware of any facts or circumstances, however, that would cause these facts, representations or assumptions to be untrue or incomplete, or that would cause any of these undertakings to fail to be complied with, in any material respect.

If, notwithstanding the conclusions included in the opinion, it is ultimately determined that the spin-off of our common stock or certain related transactions do not qualify for tax-free treatment for U.S. federal income tax purposes, then Ensign would recognize taxable gain or loss in an amount equal to the difference, if any, of the fair market value of the shares of our common stock over its tax basis in such shares, or other amounts including such that are recognized by certain subsidiaries of Ensign. In addition, if the distribution of our common stock does not qualify as tax-free under Section 355 of the Code, each Ensign stockholder that receives shares of our

 

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common stock in the spin-off would be treated as receiving a distribution in an amount equal to the fair market value of our common stock that was distributed to the stockholder, which would generally be taxed as a dividend to the extent of the stockholder’s pro rata share of The Ensign Group, Inc.’s current and accumulated earnings and profits, including The Ensign Group, Inc.’s taxable gain, if any, on the spin-off, then treated as a non-taxable return of capital to the extent of the stockholder’s basis in the Ensign stock and thereafter treated as capital gain from the sale or exchange of Ensign common stock.

Under current U.S. federal income tax law, certain non-corporation citizens or residents of the United States (including individuals) currently are subject to U.S. federal income tax on dividends (assuming certain holding period requirements are met) and long-term capital gains (i.e., capital gains on assets held for more than one year) at reduced rates.

Even if the distribution otherwise qualifies for tax-free treatment under Section 355 of the Code, the spin-off may result in corporate level taxable gain to Ensign under Section 355(e) of the Code if 50% or more, by vote or value, of the Ensign stock or our stock is treated as directly or indirectly acquired or issued as part of a plan or series of related transactions that includes the distribution (including as a result of transactions occurring before the spin-off). The process for determining whether an acquisition or issuance triggering these provisions has occurred is complex, inherently factual and subject to interpretation of the facts and circumstances of a particular case, and any such acquisitions may not be within our or Ensign’s control. For this purpose, any acquisitions or issuances of Ensign stock within two years before the day of the distribution, and any acquisitions or issuances of our stock or Ensign stock within two years after the day of the distribution generally are presumed to be part of such a plan (subject to certain exceptions and safe harbors), although we or Ensign, as applicable, may be able to rebut that presumption. If an acquisition or issuance of our stock or Ensign stock triggers the application Section 355(e) of the Code, Ensign or we could incur significant U.S. federal income tax liabilities attributable to the distribution and certain related transactions, but the distribution would generally be tax-free to each of Ensign stockholders, as described above.

Treasury regulations require each U.S. Holder that owns immediately before the distribution at least 5% of the total outstanding Ensign common stock to attach to their U.S. federal income tax returns for the year in which the spin-off occurs a statement setting forth certain information with respect to the transaction. U.S. Holders are urged to consult their tax advisors to determine whether they are required to provide the foregoing statement and the contents thereof.

Results of the Spin-Off

After the spin-off, we will be an independent, publicly-traded company. Immediately following the spin-off, we expect to have approximately 300 record holders of shares of our common stock and approximately 28.0 million shares of our common stock outstanding, based on the number of stockholders and shares of Ensign common stock that we expect will be outstanding as of the record date, the distribution ratio and the anticipated exchange of Cornerstone equity awards for Pennant equity awards in connection with the distribution. The actual number of shares to be distributed will be determined as of the record date and will reflect any repurchases of shares of Ensign common stock and issuances of shares of Ensign common stock in respect of awards under The Ensign Group, Inc. equity-based incentive plans between the date the Ensign board of directors declares the dividend for the distribution and the record date for the distribution.

 

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The following table provides additional information regarding each type of Ensign equity award held by employees who will remain as an employee of a subsidiary of Ensign or Pennant following the distribution date:

 

Type of Award

   Treatment in Connection with the Spin-Off

Restricted Stock Awards

  

Awards of restricted stock held by employees of subsidiaries of Ensign or Pennant will be treated in the same manner as other shares of Ensign common stock regardless of the employer following the spin-off and remain subject to the same vesting schedule, if any.

Stock Options

  

Employees of Ensign subsidiaries shall continue to hold Ensign stock options, but the number of options covered by such awards and exercise prices associated with such awards will be adjusted to maintain economic value.

 

Ensign stock options held by employees of Pennant subsidiaries will be converted into Pennant stock options but the number of options covered by such awards and exercise prices associated with such awards will be adjusted to maintain economic value.

The following table provides additional information regarding each type of Cornerstone equity award:

 

Type of Award

   Treatment in Connection with the Spin-Off

Restricted Stock Awards

  

Cornerstone restricted stock will be converted into restricted stock of Pennant pursuant to the Subsidiary Equity Plan, with the number of shares covered by such awards adjusted to maintain economic value.

Stock Options

  

Cornerstone stock options will be converted into Pennant stock options pursuant to the Subsidiary Equity Plan, with the number of shares covered by such awards and exercise prices associated with such awards adjusted to maintain economic value.

For information regarding the treatment of equity awards of directors and executive officers of The Pennant Group, Inc. after the distribution, see “Certain Relationships and Related Party Transactions—Agreements with Ensign Related to the Spin-Off—Employee Matters Agreement” and “Management.”

Based on the best information available to date, it is expected that all cash bonuses in respect of the 2019 performance year will continue to accrue through the distribution date, based on actual levels of performance, and will be paid by Pennant at a later date, and that no payment will become immediately due at the time of the spin-off. Subsequent bonuses and other incentive compensation structures, related to any program established in respect of the 2020 performance year, shall be determined and established by the compensation committee.

Before the spin-off, we will enter into several agreements with Ensign to effect the spin-off and provide a framework for our relationship with Ensign after the spin-off. These agreements will govern the relationship between us and Ensign after completion of the spin-off and provide for the allocation between us and Ensign of the assets, liabilities, rights and obligations of Ensign. See “Certain Relationships and Related Party Transactions—Agreements with Ensign Related to the Spin-Off.”

 

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Trading Prior to the Distribution Date

Beginning shortly before the record date and continuing up to and including the distribution date, we expect that a limited market, commonly known as a “when-issued” trading market, will develop in our common stock. “When-issued” trading refers to a sale or purchase made conditionally because the security has been authorized but not yet issued. The “when-issued” trading market will be a market for shares of our common stock that will be distributed to Ensign stockholders on the distribution date. If you own shares of Ensign common stock at the close of business on September 20, 2019, you will be entitled to shares of Pennant common stock distributed pursuant to the spin-off. You may trade this entitlement to shares of Pennant common stock, without trading the shares of Ensign common stock you own, on the “when-issued” market. On the first trading day following the distribution date, “when-issued” trading with respect to our common stock will end and “regular-way” trading will begin. See “Trading Market.”

Following the distribution date, we expect shares of our common stock to be listed on NASDAQ, under the ticker symbol “PNTG.” We will announce the when-issued ticker symbol if and when it becomes available.

It is also anticipated that, beginning shortly before the record date and continuing up to and including the distribution date, we expect that there will be two markets in Ensign common stock: a “regular-way” market and an “ex-distribution” market. Shares of Ensign common stock that trade on the “regular-way” market will trade with an entitlement to shares of Pennant common stock distributed pursuant to the spin-off. Shares that trade on the “ex-distribution” market will trade without an entitlement to shares of our common stock distributed pursuant to the spin-off. Therefore, if you own shares of Ensign common stock at the close of business on the record date and sell those shares on the “regular-way” market before the distribution date, you will be selling your right to receive shares of our common stock in connection with the spin-off. If you own shares of Ensign common stock at the close of business on the record date and sell those shares on the “ex-distribution” market before the distribution date, you will still receive the shares of our common stock that you would be entitled to receive pursuant to your ownership of the shares of Ensign common stock on the record date. However, if Ensign stockholders own shares of Ensign common stock as of the close of business on September 20, 2019, and sell those shares on the “ex-distribution” market up to and including the distribution date, the selling stockholders will still receive the shares of our common stock that they would otherwise receive pursuant to the distribution. See “Trading Market.”

Financing Transactions

We expect to put in place a capital structure that provides us with the flexibility to grow and a cost of debt capital that allows us to compete for investment opportunities. Subject to market conditions, we expect to enter into the Revolving Credit Facility with a syndicate of banks with a borrowing capacity of $75.0 million. We anticipate the interest rates applicable to loans under the Revolving Credit Facility to be, at the Company’s election, either LIBOR plus a margin ranging from 2.5% to 3.5% per annum or Base Rate plus a margin ranging from 1.5% to 2.5% per annum, in each case based on the ratio of Consolidated Total Net Debt to Consolidated EBITDA (each, as defined in the Credit Agreement). In addition, we expect that we will pay a commitment fee on the undrawn portion of the commitments under the Revolving Credit Facility that is estimated to be 0.6% per annum.

We anticipate that the Revolving Credit Facility will not be subject to interim amortization. We expect that the Company will not be required to repay any loans under the Revolving Credit Facility prior to maturity. We expect that the Company will be permitted to prepay all or any portion of the loans under the Revolving Credit Facility prior to maturity without premium or penalty, subject to reimbursement of any LIBOR breakage costs of the lenders. This information is based on our current negotiations with the lead banks in an anticipated syndicate.

As a result of the financing transaction, we expect to have outstanding indebtedness of approximately $30.0 million.    The amount reflects proceeds from issuance of indebtedness under the Revolving Credit Facility,

 

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including approximately $1.2 million in estimated financing cost. The foregoing summarizes some of the currently expected terms of the Revolving Credit Facility. However, the foregoing summary does not purport to be complete, and the terms of the Revolving Credit Facility have not yet been finalized. There may be changes to the expected size and other terms of the Revolving Credit Facility, some of which may be material.

We expect that we will use approximately $25.0 million of the proceeds from the financing transaction to pay transaction fees and to pay a dividend to Ensign in connection with the contribution of assets to us by Ensign prior to the spin-off. We expect to retain approximately $5.0 million in cash for working capital, acquisitions and other general purposes. We expect that Ensign would use the funds received from us to repay certain outstanding third-party bank debt and other indebtedness and/or pay dividends to Ensign’s stockholders. After the spin-off, we expect that we will use borrowings under the Revolving Credit Facility for working capital purposes, to fund acquisitions and for other general purposes.

Conditions to the Distribution

We expect that the distribution will be effective as of on October 1, 2019, the distribution date. The distribution is subject to the satisfaction, or waiver by The Ensign Group, Inc., of the following conditions:

 

   

the final approval of the distribution by the Ensign board of directors, which approval may be given or withheld in its absolute and sole discretion;

 

   

our Registration Statement on Form 10, of which this information statement forms a part, shall have been declared effective by the SEC, with no stop order in effect with respect thereto, and a notice of internet availability of this information statement shall have been mailed to Ensign stockholders;

 

   

the mailing by Ensign of this information statement (or notice of internet availability thereof) to record holders of Ensign common stock as of the record date;

 

   

Pennant common stock shall have been approved for listing on NASDAQ, subject to official notice of distribution;

 

   

Ensign shall have obtained an opinion from Kirkland & Ellis LLP, in form and substance satisfactory to Ensign, to the effect that, subject to the assumptions and limitations described therein, the distribution of Pennant common stock and certain related transactions will qualify as a reorganization under Sections 368(a)(1)(D) and 355 of the Code, in which no gain or loss is recognized by The Ensign Group, Inc. or its stockholders, except, in the case of Ensign stockholders, for cash received in lieu of fractional shares;

 

   

any required material governmental approvals and other consents necessary to consummate the distribution or any portion thereof shall have been obtained and be in full force and effect;

 

   

the absence of any events or developments having occurred prior to the spin-off that, in the judgment of the Ensign board of directors, would result in the spin-off having a material adverse effect on Ensign or its stockholders;

 

   

the adoption by Pennant of its amended and restated certificate of incorporation and amended and restated bylaws filed by Pennant with the SEC as exhibits to the Registration Statement on Form 10, of which this information statement forms a part;

 

   

no order, injunction or decree issued by any governmental entity of competent jurisdiction or other legal restraint or prohibition preventing the consummation of all or any portion of the distribution shall be in effect, and no other event shall have occurred or failed to occur that prevents the consummation of all or any portion of the distribution;

 

   

the internal reorganization shall have been completed, except for such steps as Ensign in its sole discretion shall have determined may be completed after the distribution date;

 

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each of the master separation agreement, the tax matters agreement, the employee matters agreement, the transition services agreement, the Ensign Leases and the other ancillary agreements shall have been executed and delivered by each party thereto and be in full force and effect;

 

   

Ensign shall have completed its own financing transactions, including amending and restating its existing credit facility, to be effective on or prior to the distribution date; and

 

   

the financing transactions described herein shall have been completed on or prior to the distribution date.

We are not aware of any material federal, foreign or state regulatory requirements that must be complied with or any material approvals that must be obtained, other than compliance with SEC and OIG rules and regulations, approval for listing on NASDAQ and the declaration of effectiveness of the Registration Statement on Form 10, of which this information statement forms a part, by the SEC, in connection with the distribution. Some of these conditions may not be met and The Ensign Group, Inc. may waive any of the conditions to the distribution. In addition, until the distribution has occurred, the Ensign board of directors has the right to not proceed with the distribution, even if all of the conditions are satisfied. In the event the Ensign board of directors determines to waive a material condition to the distribution, to modify a material term of the distribution or not to proceed with the distribution, Ensign intends to promptly issue a press release or other public announcement and file a Current Report on Form 8-K to report such event.

Reasons for Furnishing this Information Statement

This information statement is being furnished solely to provide information to Ensign stockholders that are entitled to receive shares of Pennant common stock in the spin-off. This information statement is not, and is not to be construed as, an inducement or encouragement to buy, hold or sell any of our securities or any securities of Ensign. We believe that the information in this information statement is accurate as of the date set forth on the cover. Changes may occur after that date and neither Ensign nor we undertake any obligation to update the information.

 

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TRADING MARKET

Market for Our Common Stock

There is currently no public market for our common stock and an active trading market may not develop or may not be sustained. Beginning shortly before the record date and continuing up to and including the distribution date, we expect that a limited market, commonly known as a “when-issued” trading market, will develop in our common stock. “When-issued” trading refers to a sale or purchase made conditionally because the security has been authorized but not yet issued. The “when-issued” trading market will be a market for shares of our common stock that will be distributed to Ensign stockholders on the distribution date. If you own shares of Ensign common stock at the close of business on September 20, 2019, you will be entitled to shares of Pennant common stock distributed pursuant to the spin-off. You may trade this entitlement to shares of Pennant common stock, without trading the shares of Ensign common stock you own, on the “when-issued” market. On the first trading day following the distribution date, “when-issued” trading with respect to our common stock will end and “regular-way” trading will begin. We intend to list our common stock on NASDAQ under the ticker symbol “PNTG.” We will announce our when-issued trading symbol when and if it becomes available.

It is also anticipated that, beginning shortly before the record date and continuing up to and including the distribution date, there will be two markets in Ensign common stock: a “regular-way” market and an “ex-distribution” market. Shares of Ensign common stock that trade on the “regular-way” market will trade with an entitlement to shares of Pennant common stock distributed pursuant to the spin-off. Shares that trade on the “ex-distribution” market will trade without an entitlement to shares of our common stock distributed pursuant to the spin-off. Therefore, if you own shares of Ensign common stock at the close of business on the record date and sell those shares on the “regular-way” market before the distribution date, you will be selling your right to receive shares of our common stock in connection with the spin-off. If you own shares of Ensign common stock at the close of business on the record date and sell those shares on the “ex-distribution” market before the distribution date, you will still receive the shares of our common stock that you would be entitled to receive pursuant to your ownership of the shares of Ensign common stock on the record date. However, if Ensign stockholders own shares of Ensign common stock at the close of business on September 20, 2019 and sell those shares on the “ex-distribution” market up to and including the distribution date, the selling stockholders will still receive the shares of our common stock that they would otherwise receive pursuant to the distribution.

We cannot predict the prices at which our common stock may trade before the spin-off on a “when-issued” basis or after the spin-off. Those prices will be determined by the marketplace. Prices at which trading in our common stock occurs may fluctuate significantly. Those prices may be influenced by many factors, including anticipated or actual fluctuations in our operating results or those of other companies in our industry, investor perception of Pennant and the home health, hospice and senior living industry, market fluctuations and general economic conditions. In addition, the stock market in general has experienced extreme price and volume fluctuations that have affected the performance of many stocks and that have often been unrelated or disproportionate to the operating performance of these companies. These are just some factors that may adversely affect the market price of our common stock. See “Risk Factors—Risks Related to Ownership of Our Common Stock” for further discussion of risks relating to the trading prices of our common stock.

Transferability of Shares of Our Common Stock

Based on information available as of the date of this information statement, we estimate that approximately 28.0 million shares of our common stock will be outstanding immediately after the spin-off, based on the number of shares of Ensign common stock that we expect will be outstanding as of the record date, the distribution ratio, and the anticipated exchange of Cornerstone equity awards for Pennant equity awards in connection with the distribution. The shares of our common stock that you will receive in the distribution will be freely transferable, unless you are considered an “affiliate” of ours under Rule 144 under the Securities Act. Persons who can be

 

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considered our affiliates after the spin-off generally include individuals or entities that directly, or indirectly through one or more intermediaries, control, are controlled by, or are under common control with, us, and may include certain of our officers and directors. As of the distribution date, we estimate that our directors and officers will beneficially own in the aggregate less than seven percent of our shares. In addition, individuals who are affiliates of Ensign on the distribution date may be deemed to be affiliates of ours. Our affiliates may sell shares of our common stock received in the distribution only:

 

   

under a registration statement that the SEC has declared effective under the Securities Act; or

 

   

under an exemption from registration under the Securities Act, such as the exemption afforded by Rule 144.

In general, under Rule 144 as currently in effect, an affiliate will be entitled to sell, within any three-month period commencing 90 days after the date that the registration statement of which this information statement is a part is declared effective, a number of shares of our common stock that does not exceed the greater of:

 

   

1% of our common stock then outstanding; or

 

   

the average weekly trading volume of our common stock on NASDAQ during the four calendar weeks preceding the filing of a notice on Form 144 with respect to the sale. Sales under Rule 144 are also subject to restrictions relating to manner of sale and the availability of current public information about us.

We expect to adopt new equity-based compensation plans and issue stock-based awards. We currently expect to file a registration statement under the Securities Act to register shares to be issued under these equity plans. Shares issued pursuant to awards after the effective date of that registration statement, other than shares issued to affiliates, generally will be freely tradable without further registration under the Securities Act.

Except for our common stock distributed in the distribution and employee-based equity awards, we will have no equity securities outstanding immediately after the spin-off.

 

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DIVIDEND POLICY

We do not intend to pay dividends on our common stock for the foreseeable future. Instead, we anticipate that all of our future earnings will be retained to support our operations and to finance the growth and development of our business. As a result, you will need to sell your shares of common stock to receive any income or realize a return on your investment. You may not be able to sell your shares at or above the price you paid for them. Any decision to declare and pay dividends will be made at the sole discretion of our board of directors and will depend on a number of factors, including:

 

   

our historic and projected financial condition, liquidity and results of operations;

 

   

our capital levels and needs;

 

   

tax considerations;

 

   

any acquisitions or potential acquisitions that we may consider;

 

   

statutory and regulatory prohibitions and other limitations;

 

   

the terms of any credit agreements or other borrowing arrangements that restrict our ability to pay cash dividends;

 

   

general economic conditions; and

 

   

other factors deemed relevant by our board of directors.

As a Delaware corporation, we will be subject to certain restrictions on dividends under DGCL. Generally, a Delaware corporation may only pay dividends either out of “surplus” or out of the current or the immediately preceding year’s net profits. Surplus is defined as the excess, if any, at any given time, of the total assets of a corporation over its total liabilities and statutory capital. The value of a corporation’s assets can be measured in a number of ways and may not necessarily equal their book value.

 

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CAPITALIZATION

The following table presents our unaudited cash and capitalization as of June 30, 2019 on a historical basis, and on a pro forma basis to give effect to the spin-off as if it occurred on June 30, 2019. You can find an explanation of the pro forma adjustments, including our financing transaction, made to the historical combined financial statements under “Unaudited Pro Forma Combined Financial Statements.” The capitalization table below should be read together with “Selected Historical Combined Financial Data,” “Unaudited Pro Forma Combined Financial Statements,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the Audited Combined Financial Statements and Interim Financial Statements and accompanying notes included in the “Index to Financial Statements” section of this information statement.

We are providing the capitalization table below for informational purposes only. The capitalization table below may not reflect the capitalization or financial condition that would have resulted had we been operated as a stand-alone public company at that date and is not necessarily indicative of our future capitalization or financial condition.

 

     As of June 30, 2019  
     (In thousands, except per
share data)
 
     Actual      Pro Forma(2)  

Cash

   $ 43      $ 5,043  
  

 

 

    

 

 

 

Debt:

     

Revolving credit facility

     —          30,000  
  

 

 

    

 

 

 

Total debt

     —          30,000  
  

 

 

    

 

 

 

Equity:

     

Common stock, $0.001 par value

     —          28  (1) 

Additional paid-in capital

     —          66,183  (1) 

Net parent investment

     73,315        —    

Non-controlling interest

     13,173        —    
  

 

 

    

 

 

 

Total equity

     86,488        66,211  
  

 

 

    

 

 

 

Total capitalization

   $ 86,488      $ 96,211  
  

 

 

    

 

 

 

 

(1)

Represents adjustments to reflect the pro forma recapitalization of our equity.

(2)

The assumptions used, and pro forma adjustments derived from such assumptions, are based on currently available information, and we believe such assumptions are reasonable under the circumstances.

We currently expect to incur indebtedness in the amount of approximately $30.0 million, of which approximately $5.0 million will be included in cash on hand at the time of the spin-off. The amount of indebtedness reflects proceeds from issuance, including approximately $1.2 million in estimated financing cost.

 

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SELECTED HISTORICAL COMBINED FINANCIAL DATA

The following selected historical combined statement of income data for the years ended December 31, 2018, 2017 and 2016 and the historical balance sheet data as of December 31, 2018 and 2017 are derived from the Audited Combined Financial Statements of New Ventures included elsewhere in this information statement. The unaudited interim combined statement of income data for the six months ended June 30, 2019 and 2018 and the historical balance sheet data as of June 30, 2019 are derived from the Interim Financial Statements of New Ventures included elsewhere in this information statement.

This selected historical financial data is not necessarily indicative of our future performance and does not necessarily reflect what our financial position and results of operations would have been had we been operating as an independent, publicly-traded company during the periods presented, including changes that will occur in our operations and capitalization as a result of the spin-off from Ensign. For example, the historical combined financial statements of New Ventures include allocations of expenses for certain functions and services provided by Ensign subsidiaries, including executive management, accounting, human resources, information technology, legal, payroll, insurance, tax, treasury, and other general and administrative items. These costs may not be representative of the future costs we will incur as an independent, public company.

The selected historical combined financial data below should be read together with the Audited Combined Financial Statements and the Interim Financial Statements of New Ventures, including the notes thereto, and the sections titled “Capitalization,” “Unaudited Pro Forma Combined Financial Statements,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Description of Certain Indebtedness” appearing elsewhere in this information statement.

 

     Six Months Ended June 30,      Year Ended December 31,  
             2019                     2018              2018      2017      2016  
     (In thousands)  

Summary Statement of Income Data

  

Total revenue

   $ 160,641     $ 137,768      $ 286,058      $ 250,991      $ 217,225  

Total expenses

     155,502       127,656        265,427        235,589        204,243  
  

 

 

   

 

 

    

 

 

    

 

 

    

 

 

 

Income from operations

     5,139       10,112        20,631        15,402        12,982  

Provision for income taxes

     (32     2,200        4,352        5,375        5,065  
  

 

 

   

 

 

    

 

 

    

 

 

    

 

 

 

Net income

     5,171       7,912        16,279        10,027        7,917  

Less: net income attributable to noncontrolling interest

     350       370        595        160        26  
  

 

 

   

 

 

    

 

 

    

 

 

    

 

 

 

Net income attributable to New Ventures

   $ 4,821     $ 7,542      $ 15,684      $ 9,867      $ 7,891  
  

 

 

   

 

 

    

 

 

    

 

 

    

 

 

 

 

     June 30,      December 31,  
     2019      2018      2017  
     (In thousands)  

Balance Sheet Data

        

Total assets

   $ 356,665      $ 98,151      $ 88,289  

Total liabilities

     270,177        32,863        28,373  

Total equity

     86,488        65,288        59,916  

 

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UNAUDITED PRO FORMA COMBINED FINANCIAL STATEMENTS

The following unaudited pro forma combined financial statements are derived from the Audited Combined Financial Statements of New Ventures and Interim Financial Statements of New Ventures, which are included elsewhere in this information statement.

The following unaudited pro forma combined financial statements give effect to the spin-off and the related transactions, including: the distribution of Pennant common stock by Ensign to Ensign stockholders and the financing transaction, resulting in expected total indebtedness of approximately $30.0 million. The unaudited pro forma combined statement of income presented for the six months ended June 30, 2019 and for the year ended December 31, 2018 assume the spin-off and the related transactions occurred on January 1, 2018. The unaudited pro forma combined balance sheet assumes the spin-off and the related transactions occurred on June 30, 2019. The pro forma adjustments are based on currently available information and assumptions we believe are reasonable, factually supportable, directly attributable to our separation from Ensign, and for purposes of the statement of income, are expected to have a continuing impact on us.

The historical financial data has been adjusted to give pro forma effect to events that are directly attributable to the transactions described above, have an ongoing effect on our statement of income and are factually supportable. Our unaudited pro forma combined financial statements and explanatory notes present how our financial statements may have appeared had our capital structure reflected the above transactions as of the dates noted above.

Our unaudited pro forma combined financial statements were prepared in accordance with Article 11 of Regulation S-X, using the assumptions set forth in the notes to our unaudited pro forma combined financial statements. The following unaudited pro forma combined financial statements are presented for illustrative purposes only and do not purport to reflect the results we may achieve in future periods or the historical results that would have been obtained had the above transactions been completed on January 1, 2018 or as of June 30, 2019, as the case may be. Our unaudited pro forma combined financial statements also do not give effect to the potential impact of current financial conditions, any anticipated synergies, operating efficiencies or cost savings that may result from the transactions described above.

The unaudited pro forma combined financial statements of New Ventures are derived from and should be read in conjunction with the Audited Combined Financial Statements and Interim Financial Statements of New Ventures and with the accompanying notes included elsewhere in this information statement. To the extent that facts and circumstances change between now and the distribution date, amounts included in the unaudited pro forma combined financial statements may change.

 

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NEW VENTURES

UNAUDITED PRO FORMA

CONDENSED COMBINED BALANCE SHEET

 

 

     June 30, 2019  
     Historical      Pro Forma
Adjustments
         Pro
Forma
Combined
 
     (In thousands, except per share data)  

Assets

          

Current assets:

          

Cash

   $ 43      $ 5,000     (1)     $ 5,043  

Accounts receivable—less allowance for doubtful accounts of $935

     27,704        —            27,704  

Prepaid expenses and other current assets

     4,461        —            4,461  
  

 

 

    

 

 

      

 

 

 

Total current assets

     32,208        5,000          37,208  

Property and equipment, net

     13,158        —            13,158  

Right of use asset

     237,948        40,347     (9)       278,295  

Restricted and other assets

     2,611        1,156     (7)       3,767  

Intangible assets, net

     62        —            62  

Goodwill

     42,392        —            42,392  

Other indefinite-lived intangibles

     28,286        —            28,286  
  

 

 

    

 

 

      

 

 

 

Total assets

   $ 356,665      $ 46,503        $ 403,168  
  

 

 

    

 

 

      

 

 

 

Liabilities and equity

          

Current liabilities:

          

Accounts payable

   $ 4,902      $ (3,567)     (6)     $ 1,335  

Accrued wages and related liabilities

     12,458        —            12,458  

Lease liability—current

     13,152        3,665     (9)       16,817  

Other accrued liabilities

     12,521        —            12,521  
  

 

 

    

 

 

      

 

 

 

Total current liabilities

     43,033        98          43,131  

Long-term lease liability—less current portion

     226,453        36,682     (9)       263,135  

Other long-term liabilities

     691        —            691  

Long-term debt

     —          30,000     (1)       30,000  
  

 

 

    

 

 

      

 

 

 

Total liabilities

     270,177        66,780          336,957  
  

 

 

    

 

 

      

 

 

 

Commitments and contingencies

          

Equity:

          

Common stock, $0.001 par value

     —          28     (2)(3)(4)       28  

Additional paid-in capital

     —          66,183     (2)(3)(4)       66,183  

Net parent investment

     73,315        (48,315   (2)       —    
        (14,000   (12)    
        (11,000   (12)    

Non-controlling interest

     13,173        (13,173   (3)       —    
  

 

 

    

 

 

      

 

 

 

Total equity

     86,488        (20,277        66,211  
  

 

 

    

 

 

      

 

 

 

Total liabilities and equity

   $ 356,665      $ 46,503        $ 403,168  
  

 

 

    

 

 

      

 

 

 

See accompanying notes to unaudited pro forma condensed combined financial statements.

 

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NEW VENTURES

UNAUDITED PRO FORMA

CONDENSED COMBINED STATEMENT OF INCOME

 

     Six Months Ended June 30,  
     Historical     Pro Forma
Adjustments
         Pro Forma
Combined
 
     (In thousands, except per share amounts)  

Revenue

   $ 160,641     $ —          $ 160,641  

Expense

         

Cost of services

     121,767       —            121,767  

Rent—cost of services

     16,830       1,796     (5)       18,626  

General and administrative expense

     15,133       (4,648   (6)       10,485  

Depreciation and amortization

     1,772       —            1,772  
  

 

 

   

 

 

      

 

 

 

Total expenses

     155,502       (2,852        152,650  

Income from operations

     5,139       2,852          7,991  

Interest expense

     —         1,039     (7)       1,039  
  

 

 

   

 

 

      

 

 

 

Income before provision for income taxes

     5,139       1,813          6,952  

Provision for income taxes

     (32     453     (8)       421  
  

 

 

   

 

 

      

 

 

 

Net income

     5,171       1,360          6,531  

Less: net income attributable to noncontrolling interest

     350       (350   (3)       —    
  

 

 

   

 

 

      

 

 

 

Net income attributable to New Ventures

   $ 4,821     $ 1,710        $ 6,531  
  

 

 

   

 

 

      

 

 

 

Earnings per share:

         

Basic earnings per share

       (10)     $ 0.24  

Diluted earnings per share

       (11)     $ 0.23  

Weighted average number of shares outstanding:

         

Basic

       (10)       27,418  

Diluted

       (11)       28,354  

See accompanying notes to unaudited pro forma condensed combined financial statements.

 

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NEW VENTURES

UNAUDITED PRO FORMA

COMBINED STATEMENTS OF INCOME

 

     Year Ended December 31, 2018  
     Historical      Pro Forma
Adjustments
           Pro Forma
Combined
 
     (In thousands, except per share amounts)  

Revenue

       

Service revenue

   $ 169,037      $ —          $ 169,037  

Senior living revenue

     117,021        —            117,021  
  

 

 

    

 

 

      

 

 

 

Total revenue

     286,058        —            286,058  

Expense

       

Cost of services

     212,421        —            212,421  

Rent—cost of services

     31,199        3,700       (5)         34,899  

General and administrative expense

     18,843        (756     (6)         18,087  

Depreciation and amortization

     2,964        —            2,964  
  

 

 

    

 

 

      

 

 

 

Total expenses

     265,427        2,944          268,371  

Income from operations

     20,631        (2,944        17,687  

Interest expense

     —          1,944       (7)         1,944  
  

 

 

    

 

 

      

 

 

 

Income before provision for income taxes

     20,631        (4,888        15,743  

Provision for income taxes

     4,352        (1,222     (8)         3,130  
  

 

 

    

 

 

      

 

 

 

Net income

     16,279        (3,666        12,613  

Less: net income attributable to noncontrolling interest

     595        (595     (3)         —    
  

 

 

    

 

 

      

 

 

 

Net income attributable to New Ventures

   $ 15,684      $ (3,071      $ 12,613  
  

 

 

    

 

 

      

 

 

 

Earnings per share:

          

Basic earnings per share

          (10)       $ 0.46  

Diluted earnings per share

          (11)       $ 0.44  

Weighted average number of shares outstanding:

          

Basic

          (10)         27,418  

Diluted

          (11)         28,354  

See accompanying notes to unaudited pro forma combined financial statements.

 

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NOTES TO UNAUDITED PRO FORMA COMBINED FINANCIAL STATEMENTS

Pro Forma Adjustments

 

(1)

We expect to enter into the Revolving Credit Facility with a syndicate of banks with a borrowing capacity of $75.0 million. We anticipate the interest rates applicable to loans under the Revolving Credit Facility to be, at the Company’s election, either LIBOR plus a margin ranging from 2.5% to 3.5% per annum or Base Rate plus a margin ranging from 1.5% to 2.5% per annum, in each case based on the ratio of Consolidated Total Net Debt to Consolidated EBITDA (each, as defined in the Credit Agreement). In addition, we expect that we will pay a commitment fee on the undrawn portion of the commitments under the Revolving Credit Facility that is estimated to be 0.6% per annum. We currently expect the foregoing summary of terms to be an accurate description of the Revolving Credit Facility based on preliminary negotiations with the lead banks of our anticipated syndication. There may be changes to the expected size and other terms of the Revolving Credit Facility as the Credit Agreement is finalized, some of which may be material.

The target outstanding balance of borrowings at the time of the separation arrangement was determined by management based on a review of a number of factors including credit rating considerations, forecasted liquidity and capital requirements, expected operating results and general economic conditions. Cash on hand following the separation is expected to be used for working capital and other general corporate purposes.

 

     June 30, 2019
Pro Forma Adjustments
 

Draw on the Revolving Credit Facility

   $ 30,000  

Less: Uses

  

Payment of transaction fees

     14,000  

Dividend to The Ensign Group, Inc.

     11,000  
  

 

 

 

Total Uses

     25,000  
  

 

 

 

Net cash proceeds

   $ 5,000  
  

 

 

 

 

(2)

On the separation and distribution date, Ensign’s net investment in Pennant will be redesignated as Pennant shareholders’ equity and will be allocated between common stock and additional paid-in capital based on the number of shares of Pennant common stock outstanding at the distribution date. The cash distribution back to parent will impact Ensign’s net investment in Pennant prior to the redesignation of the investment as Pennant shareholders’ equity. The assumptions used, and pro forma adjustments derived from such assumptions, are based on currently available information, and we believe such assumptions are reasonable under the circumstances.

 

(3)

Represents an adjustment to reflect the pro forma recapitalization of our equity. The Company is anticipating that the equity awards granted under the Subsidiary Equity Plan will be exchanged for shares of common stock of Pennant as part of the recapitalization of its equity. As of the distribution date, non-controlling shareholders net investment in subsidiaries of Pennant will be eliminated. These shareholders will receive a distribution of shares of Pennant’s common stock based on a conversion ratio established by a third-party valuation.

 

(4)

Represents the issuance of approximately 28.0 million common shares at a par value of $0.001 per share. The number of common shares is based on the number of Ensign common shares outstanding at the end of the period and a distribution ratio of one share of Pennant common stock for every two shares of Ensign common stock. The number of shares also includes the capital structure conversion of non-controlling interest shareholders into Pennant common stock based on third party valuation. The assumptions used, and pro forma adjustments derived from such assumptions, are based on currently available information, and we believe such assumptions are reasonable under the circumstances.

 

(5)

Reflects changes in rent resulting from the removal of intercompany rental charges and replacement of such in accordance with the Ensign Leases, and new third-party master lease agreements based on negotiations

 

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with landlords that will replace the existing lease agreements between our subsidiaries and such landlords. We anticipate that the Ensign Leases and new third-party master lease agreements will have initial terms ranging between 14 and 16 years, with extension options and annual rent escalators based on changes in the Consumer Price Index.

 

(6)

Represents the removal of non-recurring transaction and pre-separation costs and related unpaid payables or accrued expenses incurred in the historical periods that are directly related to the separation of Pennant from Ensign.

 

(7)

Represents the adjustments to deferred financing fee of $1.2 million and interest expense related to approximately $30.0 million of debt that we expect to incur as described in note (1). Interest expense was calculated assuming constant debt levels throughout the periods. The estimated variable interest rate of 5.2% for the six months ended June 30, 2019 and 4.8% for the twelve months ended December 31, 2018 is an estimate and may be higher or lower if there are changes in market conditions or the banking environment, or if our leverage ratio or the actual LIBOR rate following the spin-off are different than the estimate we used. This estimate is based on an average of the LIBOR daily rate for the past five quarters plus a percentage spread we expect to incur based on current negotiations with the lead banks in our anticipated syndication. Each 1.0% change to the annual interest rate would change interest expense by approximately $0.3 million on an annual basis.

 

     June 30, 2019
Pro Forma Adjustments
     December 31, 2018
Pro Forma Adjustments
 

Net increase to amortization of deferred financing costs

   $ 116      $ 231  

Interest related to revolving debt expected to be issued by Pennant and unusued revolving credit facility fee

     923        1,713  
  

 

 

    

 

 

 

Net increase to interest expense

   $ 1,039      $ 1,944  
  

 

 

    

 

 

 

 

(8)

Reflects the tax effects of the tax deductible pro forma adjustments at the applicable jurisdictional statutory income tax rates of 25.0%.

 

(9)

Represents the adjustments to the right-of-use (ROU) assets and lease liability as a result of the removal of intercompany rental charges and replacement with new or amended master lease agreements see note (5). In accordance with Topic 842, Leases, these new and amended master lease agreements are considered to be modified and subjected to lease modification guidance. The ROU asset and lease liability related to these agreements were remeasured based on the change in the lease terms and conditions such as rent payment and lease terms. The incremental borrowing rate has also been adjusted to mirror the revised lease terms which become effective at the date of the modification. As the unaudited pro forma combined balance sheet assumes the spin-off and the related transactions occurred on the most recent reporting date.

 

(10)

The pro forma basic weighted average shares outstanding were based on the weighted average number of Ensign’s common shares outstanding for the period adjusted for an assumed distribution ratio of one share of Pennant common stock for every two Ensign common shares, including the conversion of non controlling interest shareholders into Pennant common stock. Earnings per share is computed by dividing net income less earnings allocable to participating securities by the estimate of weighted average number of shares outstanding. The assumptions used, and pro forma adjustments derived from such assumptions, are based on currently available information, and we believe such assumptions are reasonable under the circumstances.

 

(11)

The pro forma weighted-average number of Pennant shares used to compute pro forma diluted net income per share is based on the weighted-average number of basic shares of Pennant common stock as described in note (10) above, plus incremental shares assuming exercise of dilutive outstanding options and restricted stock awards granted to our employees assuming no fractional shares under Ensign’s stock based compensation programs converted into the Pennant awards based on the assumed distribution ratio. The incremental shares also assumed exercise of diluted outstanding options and restricted stock awards granted under the Subsidiary Equity Plan converted into the Pennant awards based on the most recent third-party

 

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valuation. The actual effect of the dilution on a go-forward basis will depend on various factors, including the employment of our personnel in one company or the other, the value of the equity awards at the time of distribution and the fractional share. We estimated the dilutive effects at this time based on applying the distribution ratio as described in note (10) above to the Ensign weighted-average shares outstanding for identified Pennant employees and the conversion of the non controlling interest shareholders into Pennant common stock provides a reasonable approximation of the potential dilutive effect of the equity awards based on the currently available information.

 

(12)

Represents reduction in net parent investment related to the payment of transaction fees and dividend to The Ensign Group, Inc. as disclosed in note (1).

 

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OUR BUSINESS

Our Company

We are a leading provider of high quality healthcare services to the growing senior population in the United States. We strive to be the provider of choice in the communities we serve through our innovative operating model. We operate in multiple lines of business including home health, hospice and senior living across Arizona, California, Colorado, Idaho, Iowa, Nevada, Oklahoma, Oregon, Texas, Utah, Washington, Wisconsin and Wyoming.

We believe our key differentiators are (i) our innovative operating model focused on empowering and developing strong local leaders, (ii) our disciplined growth strategy, and (iii) our ability to achieve quality care outcomes in lower cost settings. In our experience, healthcare is a local endeavor, largely dependent upon personal and professional relationships, community reputation and an ability to adapt to the changing needs of patients, partners and communities. As our operational leaders build strong relationships with key partners in their local healthcare communities, they are empowered to make informed and critical operational decisions that produce quality care outcomes and more effectively meet the needs of our patients.

In our home health and hospice business, we believe we are able to achieve quality outcomes—as measured by many industry and value-based metrics such as hospital readmission rates—in a lower cost setting. In our senior living business, we believe we are able to offer our residents a better quality of life experience at an affordable cost, thus appealing to a broader population. With our platform of diversified service offerings, we believe that we are well-positioned to take advantage of favorable demographic shifts as well as industry trends that reward providers offering quality care in lower cost settings.

As of June 30, 2019, we provided home health and hospice services through 62 agencies. Our home health services generally consist of providing some combination of clinical services including nursing, speech, occupational and physical therapy, medical social work and home health aide services. Home health is often a cost-effective solution for patients and can also increase their quality of life by allowing them to receive excellent clinical services in the comfort and convenience of a familiar setting. Using CMS’s star rating criteria, our home health agencies achieved an average of 4 out of 5 stars across all agencies compared to the industry average of 3.5. Our hospice services focus on the physical, spiritual and psychosocial needs of terminally ill patients and their families and consist primarily of clinical care, education and counseling. During the six months ended June 30, 2019 and the year ended December 31, 2018, we generated approximately 67.9% and 68.6%, respectively, of our home health and hospice revenue from Medicare.

As of June 30, 2019, we provided senior living services at 51 communities with 3,872 total units in our assisted living, independent living and memory care business. Our senior living operations provide a variety of services based on residents’ needs including residential accommodations, activities, meals, housekeeping and assistance in the activities of daily living to seniors who are independent or who require some support, but not the level of clinical care provided in a skilled nursing facility. We generate revenue at these communities primarily from private pay and other sources, with a portion earned from Medicaid. During the six months ended June 30, 2019 and the year ended December 31, 2018, approximately 78.7% and 79.8%, respectively, of our senior living revenue was derived from private pay sources.

 

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Payor Mix for the Six Months Ended June 30, 2019

 

Combined    Home Health and Hospice    Senior Living

 

 

LOGO

  

 

LOGO

  

 

 

LOGO

Our Innovative Operating Model

Our innovative operating model is the foundation of our superior performance and success. Our operating model is founded on two core principles: (1) healthcare is a local business where providers are most successful when key operational decision-making meets local community needs and occurs close to patients and employees, and (2) peer accountability from operational and resource partners is more effective at driving excellent clinical and financial results than traditional hierarchical or “top-down” accountability structures.

Our model is innovative because each operation has been and will continue to be an independent operating subsidiary that functions under the direction of local clinical and operational leaders, each of whom are empowered to make decisions based on the unique needs of the patients, partners and communities they serve. This is in contrast to typical models where control and key decision-making is centralized at the corporate level. Moreover, we utilize a “cluster model,” where every operation is part of a defined, “cluster”, which is a group of geographically proximate operations working together to allow leaders to communicate and provide support and accountability to each other. This creates incentives for leaders to share best practices and real-time data and benchmark clinical and financial performance against their cluster partners. We believe this locally-driven data-sharing and peer accountability model is unique amongst healthcare providers and has proven effective in improving clinical care, enhancing patient satisfaction and promoting operational efficiencies. This “cluster” operating model is the same model used by local leaders prior to the spin-off and will be key to the success of our future operations.

This organizational structure empowers our highly dedicated leaders and staff at the local level to make key decisions and creates a sense of ownership over operational and clinical results and the employee experience. Each leader and his or her staff are encouraged to make their operations the “provider of choice” in the community they serve. To accomplish this goal, leaders work closely with clinical staff and our expert resources to identify unique patient needs and priorities in a given community and create superior service offerings tailored to those needs. We believe that our localized approach to program development and patient care leads prospective patients and referral sources to choose or recommend our operations to others. Similarly, our emphasis on empowering local decision-makers encourages leaders to strive to become the “employer of choice” in the community they serve. One of our core values is the principle that the best patient care is provided by employees that experience significant work satisfaction because they are valued as individuals. Our leaders work hard to embody this core value and to attract, train and retain outstanding clinical staff by creating a work environment that fosters critical thinking, measurement, and relevance. Our local teams are motivated and empowered to quickly and proactively meet the needs of those they serve, without waiting for permission to act or being bound to a “one-size-fits-all” corporate strategy. In many markets, we attribute census growth and excellent clinical and financial outcomes to a healthy organizational culture built on these principles. With strong employee satisfaction across the organization, we believe we can continue to attract and retain the best talent in our industries.

 

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Lastly, while our teams are local, they are also supported by cutting-edge systems and a “Service Center” staffed with teams of subject matter expert resources that advise on their respective fields of information technology, compliance, human resources, accounting, payroll, legal, risk management, education and other services. The partnership and peer accountability that exists between our local leaders and Service Center resources allows each operation to improve while benefiting from the technical expertise, systems and accountability of the Service Center.

Partner of Choice in Local Healthcare Communities

We view healthcare services primarily as a local business driven by personal relationships, reputation and the ability to identify and address unmet community needs. We believe our success is largely a result of our ability to build strong relationships within local healthcare communities based on a solid foundation of reliably superior care.

We believe we are a partner of choice to payors, providers, patients and employees in the healthcare communities we serve. As a partner, we focus on improving care outcomes and the quality of life of our patients in home or home-like settings. Our local leadership approach facilitates the development of strong professional relationships, allowing us to better understand and meet the needs of our partners. We believe our emphasis on working closely with other providers, payors and patients yields unique, customized solutions and programs that meet local market needs and improve clinical outcomes, which in turn accelerates revenue growth and profitability.

We are a trusted partner to, and work closely with, payors and other acute and post-acute providers to deliver innovative healthcare solutions in lower cost settings. In the markets we serve, we have developed formal and informal preferred provider relationships with key referral sources and transitional care programs that result in better coordination within the care continuum. These partnerships have resulted in significant benefits to payors, patients and other providers including reduced hospital readmission rates, appropriate transitions within the care continuum, overall cost savings, increased patient satisfaction and improved quality outcomes. Positive, repeated interactions and data-sharing result in strong local relationships and encourage referrals from our acute and post-acute care partners. As we continue to strengthen these formal and informal relationships and expand our referral base, we believe we will continue to drive revenue growth and operational results.

Company History

The Pennant Group, Inc. was incorporated as a Delaware corporation on January 24, 2019, for the purpose of holding the home health and hospice agencies and substantially all of the senior living businesses of The Ensign Group, Inc. (NASDAQ: ENSG), which was formed in 1999 with the goal of establishing a new level of quality care within the skilled nursing industry. The name “Ensign” is synonymous with a “flag” or a “standard,” and refers to Ensign’s goal of setting the standard by which all others in its industry are measured. The name “Pennant” draws on similar imagery and themes to represent our mission of becoming the “Ensign” to the home health, hospice and senior living industries. We believe that through our innovative operating model, we can foster a new level of patient care and professional competence at our independent operating subsidiaries and set a new industry standard for quality home health and hospice and senior living services.

On May 6, 2019, Ensign announced its intention to implement the spin-off of Pennant from Ensign, following which The Pennant Group, Inc. will be an independent, publicly-traded company, and Ensign will have no continuing stock ownership interest in Pennant. As part of the spin-off, Ensign will effect an internal reorganization to properly align the appropriate businesses within each of Pennant and Ensign whereby, among other things: (i) the assets and liabilities associated with Ensign’s home health and hospice agencies and substantially all of its senior living businesses will be transferred to Pennant; and (ii) all other assets and liabilities of Ensign will be retained by Ensign.

 

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Our independent operating subsidiaries are organized into industry-specific portfolio companies, which we believe has enabled us to maintain a local, field-driven organizational structure, to attract qualified leaders and expert resources, and to effectively identify, acquire, and improve operations. Each of our portfolio companies has its own leader. These experienced and proven leaders are generally taken from the ranks of operational leaders to serve as resources to independent operating subsidiaries within their own portfolio companies and have the primary responsibility for recruiting qualified talent, finding potential acquisition targets, and identifying other strategic and organic growth opportunities. We believe this decentralized organizational structure will continue to improve the quality of our recruiting and facilitate successful acquisitions.

We have two reportable segments: (1) home health and hospice services, which includes our home health, hospice and home care businesses, and (2) senior living services, which includes our assisted living, independent living and memory care communities. We also report an “all other” category that includes general and administrative expense. Our reporting segments are business units that offer different services and that are managed separately to provide greater visibility into those operations. For more information about our operating segments, as well as financial information, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and Note 6, Business Segments, to the Audited Combined Financial Statements.

Our Segments

Home Health and Hospice

As of June 30, 2019, we provided home health and hospice services through 62 agencies. Our home health services generally consist of providing some combination of clinical care services including nursing, speech, occupational and physical therapy, medical social work and home health aide services. Home health is often a cost-effective solution for patients and can also increase their quality of life by allowing them to receive quality clinical services in the comfort and convenience of a familiar setting. Using CMS’s star rating criteria, our home health agencies achieved an average of 4 out of 5 stars across all agencies compared to the industry average of 3.5. Our hospice services focus on the physical, spiritual and psychosocial needs of terminally ill individuals and their families and consist primarily of palliative care, education and counseling. During the six months ended June 30, 2019, we generated 67.9% of our home health and hospice revenue from Medicare.

Senior Living

As of June 30, 2019, we provided assisted living, independent living and memory care services at 51 communities with 3,872 total units located across Arizona, California, Nevada, Texas, Washington and Wisconsin. Our senior living operations provide a variety of services based on residents’ needs, including residential accommodations, activities, meals, housekeeping and assistance in the activities of daily living to seniors who are independent or who require some support, but not the level of clinical care provided in a skilled nursing operation. We generate revenue at these units primarily from private pay sources, with a portion earned from Medicaid or other state-specific programs. During the six months ended June 30, 2019, 78.7% of our senior living revenue was derived from private pay sources.

Our Competitive Strengths

We believe that we are well-positioned to benefit from the ongoing changes within the home health, hospice and senior living industries. We believe that we will achieve clinical, financial and cultural success as a direct result of the following key competitive strengths:

 

   

Innovative Operating Model. We believe healthcare services is primarily a local business. Our local leadership-centered operating model encourages our leaders to make key operational decisions that meet the individualized needs of their patients and community partners. Recognizing the local nature of our business, our leaders develop each operation’s reputation at the local level, rather than being bound by a traditional organization-wide branding strategy. In addition, our local leaders work closely with their cluster partners to share data and improve clinical and financial outcomes. Moreover, we do not

 

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maintain a traditional corporate headquarters, rather we operate a Service Center that accelerates operational results by developing world-class systems and by providing expertise in fields such as information technology, compliance, human resources, accounting, legal and education. This enables individual operations to function with the strength, synergies and economies of scale found in larger organizations without the disadvantages of a top-down management structure or corporate hierarchy. We believe this approach is unique within our industries and allows us to preserve the “one-operation-at-a-time” focus and culture that has contributed to our success.

 

   

Proven Track Record of Successful Acquisitions. We adhere to a disciplined acquisition strategy focused on sourcing and selectively acquiring operations within our target markets. Local leaders are heavily involved in the acquisition process and are recognized and rewarded as these acquired operations become the provider of choice in the communities they serve. Through our innovative operating model and disciplined approach to strategic growth, we have completed and successfully transitioned dozens of value-add operations. Our expertise in acquiring and transforming strategic and underperforming operations allows us to consider a broad range of potential acquisition targets and will be a key element of our future success.

 

   

Superior Clinical Outcomes and Quality Care. We will continue to achieve success by delivering high quality home health, hospice and senior living services. Our locally-driven, patient-centered approach to clinical care allows us to meet the unique needs of our patients, resulting in improved clinical outcomes, including reduced hospital readmission rates. These improved outcomes are driven by both our talented local clinicians and our data-driven analytical approach to patient care and risk stratification. We believe that our achievement of high quality clinical outcomes positions us as a solution for patients and referral sources, leading to census growth and improved profitability.

 

   

Diversified Portfolio by Payor and Services. As of June 30, 2019, we operated 62 home health and hospice agencies and 51 senior living communities across 13 states. Because of this diversified portfolio, our blended payor mix was 40.7% Medicare, 13.4% Medicaid, 8.6% managed care and 37.3% private pay for the six months ended June 30, 2019. Our balanced payor mix provides greater business stability through economic cycles and mitigates volatility arising from government-driven reimbursement changes. For the six months ended June 30, 2019, we generated 60.0% of our revenue from home health and hospice services and 40.0% of our revenue from senior living services. This diversified service portfolio allows us to opportunistically execute on our acquisition strategy as valuations fluctuate over industry cycles.

 

   

Proven Track Record of Talent Recruitment, Development and Retention. We have been successful in attracting, developing and retaining outstanding business and clinical leaders to lead our operating subsidiaries. Our unique operating model, which emphasizes local decision-making and team building, supported by our platform of expert resources and best-in-class systems, attracts a highly talented and entrepreneurial group of leaders. Our operational leaders are committed to ongoing training and participate in regular leadership development and educational programs. We believe that our commitment to professional development strengthens the quality of our operational leaders and staff and will continue to differentiate us from our competitors.

Our Strategy

We believe that the following strategies are primarily responsible for our growth to date and will continue to drive the growth of our business:

 

   

Grow Talent Base and Develop Future Leaders. Our growth strategy is focused on expanding our talent base and developing future leaders. A key component of our organizational culture is our belief that strong local leadership is a primary ingredient to operational success. We use a multi-faceted strategy to identify and recruit proven business leaders from various industries and backgrounds. To develop these leaders, we have a rigorous “CEO-in-Training Program” that includes significant

 

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in-person instruction on leadership, clinical and operational topics as well as extensive on-the-ground training and active learning with key leaders from across the organization. After placement in a local operation, our leaders continue to receive training and regular feedback and support from operational and resource peers as they seek to achieve great results. We believe our model of empowering local leaders and providing them a platform of support from expert resources and systems will continue to attract and retain highly talented and entrepreneurial leaders.

 

   

Focus on Organic Growth. We believe that we have a significant opportunity to drive organic growth within our current portfolio and recently acquired operations. As we improve clinical outcomes, quality of care and operational results at each of our existing and newly acquired operations, we become a provider of choice in the communities we serve, which leads to census growth. Through this census growth, and as we continue to expand our service offerings, we believe we will continue to translate revenue growth into bottom line success with rigorous adherence to our core operating principles. By effectively using data systems and analytics and embracing a culture of transparency and accountability, our local leaders have a track record of steadily improving operational results. We believe our unique operating model will continue to cultivate steady and consistent organic growth in the future.

 

   

Pursue Disciplined Acquisition Strategy. The disciplined acquisition and integration of strategic and underperforming operations is a key element of our past success and future growth. We have proven the ability to successfully transition both turnaround and stable acquisitions, transforming them into top-quality operations preferred by referral sources, thus creating a strong return on investment. We plan to continue to take advantage of the fragmented home health, hospice and senior living industries by acquiring strategic and underperforming operations within both our existing and new geographic markets. With experienced leaders in place at the local level and demonstrated success in significantly improving operating conditions at acquired businesses, we believe we are well positioned to continue successfully expanding our footprint.

 

   

Leverage Our Operational Capabilities to Expand Partnerships. We have a unique and proven operating model with a track record of becoming the provider of choice through deep local payor and provider relationships. Our local leadership approach enables us to adapt to and efficiently meet the needs of our partners in the communities we serve. Our clinical and data analytics capabilities foster solutions and allow us to optimize clinical outcomes. We use this data to communicate with key partners in an effort to reduce overall cost of care and drive improved clinical outcomes. We will continue to expand formal and informal partnerships throughout the healthcare continuum by strategically investing in programs and data analytics that help us and our partners improve care transitions, achieve better outcomes and reduce costs.

 

   

Strategically Invest In and Integrate Other Post-Acute Healthcare Businesses. Another important element to our growth strategy includes in-house development and acquisition of other post-acute care businesses that are adjacent to our existing service offerings. These businesses either directly or indirectly benefit our patients, help us collaborate more effectively with our partners, and allow us to compete more effectively in the rapidly-changing healthcare environment. Our leadership development programs facilitate these investments, and we have supported local leaders in exploring new business opportunities. We expect to continue to selectively incubate ancillary solutions in a disciplined manner that incentivizes our local leaders and bolsters the depth and breadth of services we offer within the post-acute care continuum.

Growth and Acquisition History

Much of our historical growth can be attributed to our expertise in acquiring strategic and underperforming operations and transforming them into market leaders in clinical quality, staff competency and financial performance. Our local leaders are trained to identify these opportunities for long-term organic growth as we strive to become the provider of choice in our local communities. Accordingly, we plan to continue to drive organic growth and acquire additional operations in existing and new markets in a disciplined manner.

 

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From 2013 to 2018, we grew our home health and hospice services and senior living services revenue by 330.2%.

Revenue Growth Since 2013 (Dollars in Millions)

 

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(1)

Reflects the adoption of ASC 606, which includes a reduction to revenue of $1.8 million and $1.4 million for the year ended December 31, 2018 and the six months ended June 30, 2019, respectively.

 

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From 2013 to June 30, 2019, we grew the number of our home health and hospice agencies and senior living units by 287.5% and 208.3%, respectively.

Agency and Unit Growth Since 2013

 

Home Health and Hospice Agencies    Senior Living Units

 

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We aim to continue to grow our revenue and earnings by acquiring additional operations in existing and new markets and expanding and renovating our existing operations.

 

     December 31,      June 30,  
     2011      2012      2013      2014      2015      2016      2017      2018      2019  

Cumulative number of home health and hospice agencies

     7        10        16        25        32        39        46        54        62  

Cumulative number of senior living communities

     8        10        12        15        36        36        43        50        51  

Cumulative number of senior living units

     887        1,034        1,256        1,587        3,184        3,184        3,434        3,820        3,872  

Total number of home health, hospice, and senior living operations

     15        20        28        40        68        75        89        104        113  

Industry Trends

The healthcare sector is one of the largest and fastest-growing sectors of the U.S. economy. According to the Centers for Medicare and Medicaid Services, national healthcare spending increased from 8.9% of U.S. GDP, or $255 billion, in 1980 to an estimated 18% of GDP, or $3.6 trillion, in 2018. CMS projects national healthcare spending will grow by an average of 5.6% annually from 2018 through 2026, accounting for approximately 20% of U.S. GDP in 2026.

The home health, hospice and senior living segments are growing within the overall healthcare landscape in the United States. The home health market is estimated at approximately $90 billion and is growing at an estimated CAGR of 7%. The hospice industry is estimated at approximately $35 billion and is growing at an estimated CAGR of 5%. The senior living market is estimated at approximately $53 billion and growing at an

 

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estimated CAGR of 5%. We believe that the industries in which we operate will continue to benefit from several macroeconomic and regulatory trends highlighted below:

 

   

Increased Demand Driven by Aging Populations. As seniors account for an increasing percentage of the total U.S. population, we believe the demand for home health and hospice and senior living services will continue to increase. According to the census projection released by the U.S. Census Bureau in early 2018, between 2010 and 2030, the number of individuals over 65 years old is projected to be one of the fastest growing segments of the United States population, growing from 13% to 21%. The Bureau expects this segment to increase nearly 90% to 73 million, as compared to the total U.S. population which is projected to increase by 17% over that time period. Furthermore, the generation currently retiring has accumulated less savings than in the past, creating demand for more affordable senior housing and in-home care options. As a high quality provider in lower cost settings, we believe we are well-positioned to benefit from this trend.

 

   

Shift of Patient Care to Lower Cost Alternatives. The growth of the senior population in the U.S. continues to increase healthcare costs, often faster than the available funding from government-sponsored healthcare programs. In response, government payors have adopted measures that encourage the treatment of patients in their homes and other cost-effective settings where the staffing requirements and associated costs are often significantly lower than the alternatives. With our emphasis on the home health, hospice and senior living industries, which are among the lowest cost settings within the post-acute care continuum, we expect this shift to continue to drive our growth.

 

   

Transition to Value-Based Payment Models. In response to rising healthcare spending, commercial, government and other payors are generally shifting away from fee-for-service payment models toward value-based models, including risk-based payment models that tie financial incentives to quality, efficiency and coordination of care. We believe that payors will continue to emphasize reimbursement models driven by value and that our clinical outcomes combined with our services in lower cost settings will be increasingly rewarded. Many of our home health agencies already receive value-based payments, and we are well-positioned to capitalize on this growth.

 

   

Significant Acquisition and Consolidation Opportunities. The home health, hospice and senior living industries are highly fragmented markets with thousands of small and regional providers and only a handful of large national players. There are over 12,300 Medicare-certified home health agencies, with the top ten largest operators accounting for about 21% of the market. There are approximately 4,200 hospice agencies in the U.S. with the top five largest operators accounting for about 14% of the total market share. As with the home health and hospice industries, there is significant fragmentation in the senior housing industry, with approximately 17,000 providers in the U.S. We believe that our strategy of acquiring strategic and underperforming operations in these highly fragmented markets will be an instrumental piece of our future growth.

 

   

Changing Regulatory Framework. Regulations and reimbursement change frequently in our industries. Our model is designed to successfully navigate these regulatory and reimbursement changes. For example, in January 2017, CMS announced its intent to significantly modify the home health conditions of participation. Prior to the effective date in January 2018, our resources and operators worked together with local teams to formulate systems, policies and procedures to meet the new regulatory requirements at each operation, resulting in strong outcomes at our home health operations that have been surveyed. Similarly, CMS has proposed changes to the home health prospective payment system with the proposed implementation of the PDGM. This new reimbursement structure involves case mix calculation methodology refinements, changes to LUPA thresholds, the elimination of therapy thresholds, a change to the unit of payment from a 60-day episode to a 30-day episode, and phase out in 2020 and full elimination in 2021 of RAPs. Just as we have navigated other major reimbursement and regulatory changes, we believe that our unique operating model will mitigate the negative impacts of PDGM as local operations and clinical leaders, supported by our expert resources, effectively adapt to the new reimbursement environment.

Effects of Changing Prices

Medicare reimbursement rates and procedures are subject to change from time to time, which could materially impact our revenue. Our Medicare reimbursement rates and procedures for our home health and

 

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hospice operations are based on the severity of the patient’s condition, his or her service needs and other factors relating to the cost of providing services and supplies.

Various healthcare reform provisions became law upon enactment of the ACA. The reforms contained in the ACA have affected our operating subsidiaries in some manner and are directed in large part at increased quality and cost reductions. Several of the reforms are very significant and could ultimately change the nature of our services, the methods of payment for our services and the underlying regulatory environment. These reforms include modifications to the conditions of qualification for payment, bundling of payments to cover both acute and post-acute care and the imposition of enrollment limitations on new providers. Elections in the United States could result in significant changes in, and uncertainty with respect to, legislation, regulation, implementation of Medicare and/or Medicaid, and government policy that could significantly impact our business and the healthcare industry. We continually monitor these developments in an effort to respond to the changing regulatory environment impacting our business.

Home Health

On July 11, 2019, CMS issued a proposed rule updating the Medicare HH PPS rates and wage index for calendar year 2020. The rule proposes a 1.3% increase in home health payments, resulting from a 1.5% payment percentage update and a 0.2% decrease in aggregate payments because of changes to the rural add-on policy. The proposed rule implements the Patient Driven Groupings Model (PDGM), a revised case mix adjustment methodology, for home health services beginning on or after January 1, 2020, and proposes to adjust reimbursement under PDGM for assumed provider behavioral changes. The proposed rule also changes the unit of payment from 60-day episodes of care to 30-day periods of care, modifies payment regulations related to the content of the home health plan of care; allows therapist assistants to furnish maintenance therapy under the supervision of a licensed therapist; and proposes to change and eventually eliminate the split percentage payment approach under the HH PPS. Finally, this rule will include proposals related to the implementation of the permanent home infusion therapy benefit in 2021. These include proposed payment categories, amounts, and required and optional adjustments.

On November 13, 2018, CMS published a final rule which updates the Medicare HH PPS rates, including the conversion factor and case-mix weights for calendar years 2019 and 2020. This rule finalizes the definition of remote patient monitoring which will be allowed as an administrative expense on the home health agency’s cost report. Further, effective January 1, 2020, CMS will implement PDGM, as mandated by the Bipartisan Budget Act of 2018. Under PDGM, the initial certification of patient eligibility, plan of care, and comprehensive assessment will remain valid for 60-day episodes of care, but payments for home health services will be made based upon 30-day payment periods. PDGM refines case mix calculation methodology by removing therapy thresholds and calculating reimbursement based on clinical characteristics including clinical group coding, comorbidity coding, and achievement of LUPA thresholds. While the proposed changes are to be implemented in a budget neutral manner to the industry, CMS’s current proposal includes a negative 6.42% adjustment to account for assumed provider behavioral changes. The ultimate impact of these changes will vary by provider based on factors including patient mix and admission source. The finalization of these assumptions could negatively impact our future rate of reimbursement and could have a material adverse effect on our business and consolidated financial condition, results of operations and cash flows. This rule also finalizes changes to the HHVBP model. These changes focus on providing value over volume of services to patients. Once the changes are implemented, health payments will no longer be based on the number of visits provided, but rather the patient’s medical condition and care needs. In calendar year 2019, there was an increase of 2.2% in reimbursement to home health agencies based on the agency’s finalized policies.

On November 1, 2017, CMS issued a final rule that became effective on January 1, 2018 and updated the calendar year 2018 Medicare payment rates and the wage index for home health agencies serving Medicare beneficiaries. The rule also finalized proposals for the HHVBP model and the HHQRP. Under the final rule, Medicare payments will be reduced by 0.4%. This decrease reflects the effects of a 1% home health payment update, a 0.9% adjustment to the national, standardized 60-day episode payment rate to account for nominal case-mix growth, and a 0.5% adjustment in payments due to the sunset of the rural add-on provision.

 

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On January 13, 2017, CMS issued a final rule that modernized CoPs. This rule is a continuation of CMS’s effort to improve quality of care while streamlining provider requirements to reduce unnecessary procedural requirements. The rule makes significant revisions to the conditions currently in place, including (1) adding new CoPs related to quality assurance and performance improvement programs and infection control; and (2) expanding or revising requirements related to patient rights, comprehensive evaluations, coordination and care planning, home health aide training and supervision, and discharge and transfer summary and time frames. The new CoPs became effective on January 13, 2018.

On October 31, 2016, CMS issued final payment changes to HH PPS for calendar year 2017. Under this rule, Medicare payments were reduced by 0.7%. This decrease reflects a negative 0.97% adjustment to the national, standardized 60-day episode payment rate to account for nominal case-mix growth from 2012 through 2014; a 2.3% reduction in payments due to the final year of the four-year phase-in of the rebasing adjustments to the national, standardized 60-day episode payment rate, the national per-visit payment rates and the non-routine medical supplies (“NRS”) conversion factor; and the effects of the revised fixed-dollar loss ratio used in determining outlier payments; partially offset by the home health payment update percentage of 2.5%.

On November 5, 2015, CMS issued final payment changes to HH PPS for calendar year 2016. Under this rule, Medicare payments were reduced by 1.4%. This decrease reflects a 1.9% home health payment update percentage; a 0.9% decrease in payments due to the 0.97% payment reduction to the national, standardized 60-day episode payment rate to account for nominal case-mix growth from 2012 through 2014; and a 2.4% decrease in payments due to the third year of the four-year phase-in of the rebasing adjustments to the national, standardized 60-day episode payment rate, the national per-visit payment rates, and the NRS conversion factor. Along with the payment update, CMS revised the International Classification of Diseases 10 (“ICD-10”) CM translation list and adding certain initial encounter codes to the HH PPS Grouper based upon revised ICD-10-CM coding guidance.

Pursuant to the rule, CMS also implemented a HHVBP model effective for calendar year 2016, in which all Medicare-certified home health agencies in selected states are required to participate. The model applied a reduction or increase to Medicare payments depending on quality performance, for all agencies delivering services within nine randomly-selected states. Payment adjustments are applied on an annual basis, beginning at 3% in the first payment adjustment year, 5% in the second payment adjustment year, 6% in the third payment adjustment year and 8% in the final two payment adjustment years.

Lastly, CMS implemented a standardized cross-setting measure for calendar year 2016. The CoPs require home health agencies to submit OASIS assessments within 30 days of completing the assessment of the beneficiary, as a condition of payment and also for quality measurement purposes. Commencing on April 3, 2017, if the OASIS assessment is not found in the quality system upon receipt of a final claim for a home health episode and the receipt date of the claim is more than 30 days after the assessment completion date, Medicare systems will deny the claim. Home health agencies that do not submit quality measure data to CMS incur a 2% reduction in their annual home health payment update percentage. Under the rule, all home health agencies are required to timely submit both Start of Care (initial assessment) or Resumption of Care OASIS assessment and a Transfer or Discharge OASIS assessment for a minimum of 70% of all patients with episodes of care occurring during the annual reporting period starting July 1, 2015 and ending June 30, 2016, 80% of all patients with episodes occurring during the reporting period starting July 1, 2016 and ending June 30, 2017, and 90% for all episodes beginning on or after July 1, 2017.

Hospice

On July 31, 2019, CMS issued a final rule that updated the fiscal year 2020 hospice payment rates, wage index and cap amount. The final rule calls for a 2.6% increase in hospice payment rates for fiscal year 2020. This increase is based on the proposed fiscal year 2020 hospital market basket increase of 3.0% reduced by the multifactor productivity adjustment of 0.4%. The rule establishes a rebasing of the continuous home care, general

 

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inpatient care, and the inpatient respite care per diem payment rates in a budget-neutral manner to more accurately align Medicare payments with the costs of providing care. Specifically, the rule proposes to increase these rates by 36.6%, 161.2%, and 31.0% respectively to account for the disparity between reimbursement and cost. In order to maintain budget neutrality, CMS also proposes to correspondingly reduce the RHC rate by 2.7%. Hospices that fail to meet quality reporting requirements receive a 2.0% reduction to the annual market basket update for the year. Further, the rule establishes the hospice cap amount for the fiscal year 2020 cap year at $29,964.78, which is equal to the fiscal year 2019 cap amount of $29,205.44 updated by the final rule for fiscal year 2020 hospice payment update percentage of 2.6%. In addition to payment updates, the final rule contains new regulations to modify the election statement requirements and require hospices to prepare an addendum to the election entitled “Patient Notification of Hospice Non-Covered Items, Services, and Drugs,” which will provide the patient with information related to any diagnoses, treatment, or medications that are considered by the hospice to be unrelated to the terminal diagnoses. In addition to its preparation, the hospice is required to provide the addendum upon request by the patient or the patients representative within five days, if requested at the time of election, or within 72 hours if requested thereafter.

On August 1, 2018, CMS issued its final rule outlining the fiscal year 2019 Medicare payment rates, wage index, and cap amount for hospices serving Medicare beneficiaries. Under the final rule, the hospice payment update is 1.8%, which reflects a market basket update of 2.9%, a 0.8% reduction for the MFP adjustment and an additional 0.3% reduction as mandated under the ACA. For hospices that do not submit required quality data, the hospice payment update percentage will be reduced by an additional 2%, for a net negative 0.2%. The final rule also specified that the hospice cap was updated using the hospice payment update rather than the consumer price index. Accordingly, there was be a 1.8% increase in aggregate cap payments made to hospices annually. The final rule also includes language that reflected the change in the Bipartisan Budget Act of 2018 which recognizes physician assistants as attending physicians for Medicare hospice beneficiaries effective January 1, 2019. Physician assistants are reimbursed for their services at 85% of the fee schedule amount for designated attending physicians. Additionally, the rule finalized changes to HQRP, also effective January 1, 2019, including changes to the data review and correction timeline for data submitted using the Hospice Item Set.

On August 1, 2017, CMS issued its final rule outlining the fiscal year 2018 Medicare payment rates, wage index and cap amount for hospices serving Medicare beneficiaries. The final rule used a net market basket percentage increase of 1% to update the federal rates, as mandated by section 411(d) of the MACRA. Although, if a hospice fails to comply with quality reporting program requirements, there will be a 2% reduction to the market basket update for the fiscal year involved. The hospice cap amount for fiscal year 2018 was increased by 1%, which is equal to the 2017 cap amount updated by the fiscal year 2018 hospice payment update percentage of 1%. In addition, this rule discusses changes to the HQRP, including changes to CAHPS hospice survey measures and plans for sharing HQRP data in fiscal year 2017.

On July 29, 2016, CMS issued its final rule outlining fiscal year 2017 Medicare payment rates, wage index and cap amount for hospices serving Medicare beneficiaries. Under the final rule, there was a net 2.1% increase in hospice payments effective October 1, 2016. The hospice payment increase was the net result of 2.7% inpatient hospital market basket update, reduced by a 0.3% productivity adjustment and by a 0.3% adjustment set by the ACA. The hospice cap amount for fiscal year 2017 increased by 2.1%, which is equal to the 2016 cap amount updated by the fiscal year 2017 hospice payment update percentage of 2.1%. In addition, this rule changes the HQRP requirements, including care surveys and two new quality measures that assess hospice staff visits to patients and caregivers in the last three and seven days of life and the percentage of hospice patients who received care processes consistent with guidelines.

On July 31, 2015, CMS issued its final rule outlining fiscal year 2016 Medicare payment rates and the wage index for hospices serving Medicare beneficiaries. Under the final rule, there was a net 1.1% increase in payments effective October 1, 2015. The hospice payment increase was the net result of a hospice payment update to the hospice per diem rates of 2.1% (a “hospital market basket” increase of 2.4% minus 0.3% for reductions required by law) and 1.2% decrease in payments to hospices due to updated wage data and the

 

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phase-out of its wage index budget neutrality adjustment factor, offset by the newly announced Core Based Statistical Areas delineation impact of 0.2%. The rule also created two different payment rates for RHC that resulted in a higher base payment rate for the first 60 days of hospice care and a reduced base payment rate for 61 or more days of hospice care and a Service Intensity Add-On (“SIA”) Payment for fiscal year 2016 and beyond in conjunction with the proposed RHC rates.

Medicare Coverage Settlement Agreement. A proposed federal class action settlement was filed in federal district court on October 16, 2012 that would end the Medicare coverage standard for skilled nursing, home health and outpatient therapy services that a beneficiary’s condition must be expected to improve. The settlement was approved on January 24, 2013, which tasked CMS with revising its Medicare Benefit Manual and numerous other policies, guidelines and instructions to ensure that Medicare coverage is available for skilled maintenance services in the home health, skilled nursing and outpatient settings. CMS was also required to develop and implement a nationwide education campaign for all who make Medicare determinations to ensure that beneficiaries with chronic conditions are not denied coverage for critical services because their underlying conditions will not improve, after which the members of the class were given the opportunity for re-review of their claims. The major provisions of this settlement agreement have been implemented by CMS, which could favorably impact Medicare coverage reimbursement for our services. However, healthcare providers may be subject to liability in the event they fail to appropriately adapt to the newly clarified reimbursement rules and consequently overbill state Medicaid programs in connection with services rendered to dual-eligible Medicare patients (i.e., by not maximizing Medicare coverage before billing Medicaid).

Historically, adjustments to reimbursement under Medicare have had a significant effect on our revenue. For a discussion of historic adjustments and recent changes to the Medicare program and related reimbursement rates, see “Risk Factors” under the headings “Risks Related to Our Business and IndustryOur revenue could be impacted by federal and state changes to reimbursement and other aspects of Medicaid and Medicare,” “—Our future revenue, financial condition and results of operations could be impacted by continued cost containment pressures on Medicaid spending,” and “—Reforms to the U.S. healthcare system could impose new requirements upon us and may lower our reimbursements.” The federal government and state governments continue to focus on efforts to curb spending on healthcare programs such as Medicare and Medicaid. We are not able to predict the outcome of the legislative process. We also cannot predict the extent to which proposals will be adopted or, if adopted and implemented, what effect, if any, such proposals and existing new legislation will have on us. Efforts to impose reduced allowances, greater discounts and more stringent cost controls by government and other payors are expected to continue and could adversely affect our business, financial condition and results of operations.

Payor Sources

We derive revenue primarily from the Medicare and Medicaid programs, private pay patients and residents and managed care payors.

Medicare. Medicare is a federal program that provides healthcare benefits to individuals who are 65 years of age or older or are disabled. The Medicare home health benefit is available both for patients who need care following discharge from a hospital and patients who suffer from chronic conditions that require ongoing but intermittent care. As a condition of participation under Medicare, beneficiaries must be homebound (meaning that the beneficiary is unable to leave his/her home without a considerable and taxing effort), require intermittent skilled nursing, physical therapy or speech therapy services, and receive treatment under a plan of care established and periodically reviewed by a physician. Medicare rates are based on the severity of the patient’s condition, his or her service needs and other factors relating to the cost of providing services and supplies, bundled into 60-day episodes of care. There is no limit to the number of episodes a patient may receive as long as he or she remains Medicare eligible.

 

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The Medicare hospice benefit is also available to Medicare-eligible patients with terminal illnesses, certified by a physician, where life expectancy is six months or less. Medicare rates are based on standard prospective rates for delivering care over a base 90-day or 60-day period (90-day episodes of care for the first two episodes and 60-day episodes of care for any subsequent episodes). Payments are based on daily rates for each day a beneficiary is enrolled in the hospice benefit. Rates are set based on specific levels of care, are adjusted by a wage index to reflect healthcare labor costs across the country and are established annually through Federal legislation. Medicare payments are subject to two fixed annual caps, which are assessed on a provider number basis. The annual caps per patient, known as hospice caps, are calculated and published by the Medicare fiscal intermediary on an annual basis and cover the twelve month period from November 1 through October 31. The caps can be subject to annual and retroactive adjustments, which can cause providers to owe money back to Medicare if such caps are exceeded.

Medicaid. Medicaid is a state-administered program financed by state funds and matching federal funds. Medicaid programs are administered by the states and their political subdivisions, and often go by state-specific names, such as Medi-Cal in California and the Arizona Healthcare Cost Containment System in Arizona. Medicaid programs generally provide health benefits for qualifying individuals, and may supplement Medicare benefits for financially needy persons aged 65 and older. Medicaid reimbursement formulas are established by each state with the approval of the federal government in accordance with federal guidelines.

Medicaid reimburses home health and hospice providers, senior living communities, physicians, and certain other healthcare providers for care provided to certain low income patients. Reimbursement varies from state to state and is based upon a number of different systems, including cost-based, prospective payment and negotiated rate systems. Rates are subject to statutory and regulatory changes and interpretations and rulings by individual state agencies.

Managed Care and Private Insurance. Managed care patients consist of individuals who are insured by certain third-party entities, or who are Medicare beneficiaries who have assigned their Medicare benefits to a senior managed care organization plan. Another type of insurance, long-term care insurance, is also becoming more widely available to consumers, but is not expected to contribute significantly to industry revenues in the near term.

Private and Other Payors. Private and other payors consist primarily of individuals, family members or other third parties who directly pay for the services we provide.

Billing and Reimbursement. Our revenue from government payors, including Medicare and state Medicaid agencies, is subject to retroactive adjustments in the form of claimed overpayments and underpayments based on rate adjustments, audits or asserted billing and reimbursement errors. We believe billing and reimbursement errors, disagreements, overpayments and underpayments are common in our industries and, when necessary, we engage government payors and their contractors in reviews, audits and appeals of our claims for reimbursement due to the subjectivity inherent in the processes related to patient diagnosis and care, recordkeeping, claims processing and other aspects of the patient service and reimbursement processes, and the errors or disagreements those subjectivities can produce.

We take seriously our responsibility to act appropriately under applicable laws and regulations, including Medicare and Medicaid billing and reimbursement laws and regulations. Accordingly, our subsidiaries employ accounting, reimbursement and compliance specialists who train, mentor and assist our clerical and clinical staffs in the preparation of claims and supporting documentation, regularly monitor billing and reimbursement practices within our operating subsidiaries, and assist with the appeal of overpayment and recoupment claims generated by Medicare contractors and other auditors and reviewers. In addition, due to the potentially serious consequences that could arise from any impropriety in our billing and reimbursement processes, we investigate allegations of impropriety or irregularity relative thereto, and sometimes do so with the aid of outside auditors (other than our independent registered public accounting firm), attorneys and other professionals.

 

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Whether information about our billing and reimbursement processes is obtained from external sources or activities such as Medicare and Medicaid audits or probe reviews, internal investigations, or our regular day-to-day monitoring and training activities, we collect and utilize such information to improve our billing and reimbursement functions and the various processes related thereto. While, like other operators in our industry, we experience billing and reimbursement errors, disagreements and other effects of the inherent subjectivities in reimbursement processes on a regular basis, we believe that we are in substantial compliance with applicable Medicare and Medicaid reimbursement requirements. We continually strive to improve the efficiency and accuracy of all of our operational and business functions, including our billing and reimbursement processes.

The following table sets forth our total revenue by payor source generated by each of our reportable segments and as a percentage of total revenue for the periods indicated (dollars in thousands):

 

     Six Months Ended June 30, 2019  
         Home Health and Hospice Services                           
     Home Health
Services
     Hospice Services        Senior Living  
Services
       Total Revenue          Revenue %    

Medicare

   $ 23,360      $ 42,039      $ —        $ 65,399        40.7

Medicaid

     2,953        4,887        13,697        21,537        13.4  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Subtotal

     26,313        46,926        13,697        86,936        54.1  

Managed care

     13,185        690        —          13,875        8.6  

Private and other (1)

     9,149        62        50,619        59,830        37.3  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total revenue

   $ 48,647      $ 47,678      $ 64,316      $ 160,641        100.0
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

(1) 

Private and other payors in our home health and hospice services segment includes revenue from all payors generated in our home care operations.

 

     Six Months Ended June 30, 2018  
         Home Health and Hospice Services                           
     Home Health
Services
     Hospice Services        Senior Living  
Services
       Total Revenue          Revenue %    

Medicare

   $ 20,353      $ 35,584      $ —        $ 55,937        40.6

Medicaid

     2,215        3,543        10,933        16,691        12.1  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Subtotal

     22,568        39,127        10,933        72,628        52.7  

Managed care

     11,590        308        —          11,898        8.6  

Private and other (1)

     7,347        67        45,828        53,242        38.7  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total revenue

   $ 41,505      $ 39,502      $ 56,761      $ 137,768        100.0
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

(1) 

Private and other payors in our home health and hospice services segment includes revenue from all payors generated in our home care operations.

 

     Year Ended December 31, 2018  
         Home Health and Hospice Services                           
     Home Health
Services
     Hospice Services        Senior Living  
Services
       Total Revenue          Revenue %    

Medicare

   $ 42,091      $ 73,906      $ —        $ 115,997        40.5

Medicaid

     4,680        7,729        23,624        36,033        12.6  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Subtotal

     46,771        81,635        23,624        152,030        53.1  

Managed care

     23,541        918        —          24,459        8.6  

Private and other (1)

     16,067        105        93,397        109,569        38.3  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total revenue

   $ 86,379      $ 82,658      $ 117,021      $ 286,058        100.0
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

(1) 

Private and other payors in our home health and hospice services segment includes revenue from all payors generated in our home care operations.

 

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The following table demonstrates the impact of adopting ASC 606 on the Company’s segment revenues by major payor source for the year ended December 31, 2018, by showing revenue amounts as if the previous accounting guidance was still in effect.

 

     Year Ended December 31, 2018
(Adjusted to reflect prior revenue guidance)
 
         Home Health and Hospice Services                           
     Home Health
Services
     Hospice Services        Senior Living  
Services
       Total Revenue          Revenue %    

Medicare

   $ 42,405      $ 74,321      $ —        $ 116,726        40.5

Medicaid

     5,042        7,760        23,624        36,426        12.7  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Subtotal

     47,447        82,081        23,624        153,152        53.2  

Managed care

     24,103        946        —          25,049        8.7  

Private and other (1)

     16,178        116        93,397        109,691        38.1  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total revenue

   $ 87,728      $ 83,143      $ 117,021      $ 287,892        100.0
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

(1) 

Private and other payors in our home health and hospice services segment includes revenue from all payors generated in our home care operations.

 

     Year Ended December 31, 2017  
       Home Health and Hospice Services                         
     Home Health
Services
     Hospice Services        Senior Living  
Services
       Total Revenue          Revenue %    

Medicare

   $ 36,592      $ 61,422      $ —        $ 98,014        39.0

Medicaid

     4,398        6,832        19,813        31,043        12.4  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Subtotal

     40,990        68,254        19,813        129,057        51.4  

Managed care

     21,058        765        —          21,823        8.7  

Private and other (1)

     10,997        339        88,775        100,111        39.9  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total revenue

   $ 73,045      $ 69,358      $ 108,588      $ 250,991        100.0
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

(1) 

Private and other payors in our home health and hospice services segment includes revenue from all payors generated in our home care operations.

 

     Year Ended December 31, 2016  
       Home Health and Hospice Services                         
     Home Health
Services
     Hospice Services        Senior Living  
Services
       Total Revenue        Revenue %    

Medicare

   $ 32,376      $ 48,124      $ —        $ 80,500        37.1

Medicaid

     4,131        6,367        16,708        27,206        12.5  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Subtotal

     36,507