10-Q 1 tvty-10q_20180930.htm TIVITY HEALTH FORM 10-Q tvty-10q_20180930.htm

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C.  20549

 

FORM 10-Q

 

Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the Quarterly Period Ended September 30, 2018

 

or

 

Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

 

For the transition period from _____  to _____

 

Commission file number 000-19364

TIVITY HEALTH, INC.

(Exact name of registrant as specified in its charter)

 

Delaware

 

62-1117144

(State or other jurisdiction of

 

(I.R.S. Employer

incorporation or organization)

 

Identification No.)

 

701 Cool Springs Boulevard, Franklin, TN  37067

(Address of principal executive offices) (Zip code)

 

(800) 869-5311

(Registrant's telephone number, including area code)

 

(Former name, former address and former fiscal year, if changed since last report)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days.

 

Yes

No

 

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).

 

Yes

No

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer”, “accelerated filer”, “smaller reporting company”, and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer

Accelerated filer

Smaller reporting company

Non-accelerated filer

 

Emerging growth company

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

 

Yes

No

 

As of October 31, 2018, there were outstanding 40,249,950 shares of the registrant’s common stock, par value $.001 per share (“common stock”).

 

 

 

 


Tivity Health, Inc.

Form 10-Q

 

Table of Contents

 

 

2

 


PART I

 

Item 1. Financial Statements

 

TIVITY HEALTH, INC.

CONSOLIDATED BALANCE SHEETS

(In thousands, except share and per share data)

(Unaudited)

 

 

 

September 30, 2018

 

 

December 31, 2017

 

Current assets:

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

1,643

 

 

$

28,440

 

Accounts receivable, net

 

 

67,012

 

 

 

55,113

 

Prepaid expenses

 

 

3,787

 

 

 

3,444

 

Cash convertible notes hedges

 

 

 

 

 

134,079

 

Income taxes receivable

 

 

673

 

 

 

39

 

Other current assets

 

 

4,640

 

 

 

2,180

 

Total current assets

 

 

77,755

 

 

 

223,295

 

 

 

 

 

 

 

 

 

 

Property and equipment, net of accumulated depreciation of

   $31,636 and $28,533, respectively

 

 

14,566

 

 

 

10,658

 

Long-term deferred tax asset

 

 

1,354

 

 

 

25,166

 

Intangible assets, net

 

 

29,049

 

 

 

29,049

 

Goodwill, net

 

 

334,680

 

 

 

334,680

 

Other long-term assets

 

 

25,105

 

 

 

13,315

 

Total assets

 

$

482,509

 

 

$

636,163

 

 

 

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

 

Accounts payable

 

$

30,145

 

 

$

26,804

 

Accrued salaries and benefits

 

 

5,590

 

 

 

15,018

 

Accrued liabilities

 

 

41,236

 

 

 

34,511

 

Cash conversion derivative

 

 

 

 

 

134,079

 

Current portion of debt

 

 

52

 

 

 

145,959

 

Current portion of long-term liabilities

 

 

2,249

 

 

 

2,262

 

Total current liabilities

 

 

79,272

 

 

 

358,633

 

 

 

 

 

 

 

 

 

 

Long-term debt

 

 

52,132

 

 

 

 

Other long-term liabilities

 

 

4,525

 

 

 

5,577

 

 

 

 

 

 

 

 

 

 

Stockholders' equity:

 

 

 

 

 

 

 

 

Preferred stock $.001 par value, 5,000,000 shares authorized,

   none outstanding

 

 

 

 

 

 

Common stock $.001 par value, 120,000,000 shares authorized,

   40,045,663 and 39,729,580 shares outstanding, respectively

 

 

40

 

 

 

40

 

Additional paid-in capital

 

 

353,594

 

 

 

349,243

 

Retained earnings (accumulated deficit)

 

 

21,128

 

 

 

(49,148

)

Treasury stock, at cost, 2,254,953 shares in treasury

 

 

(28,182

)

 

 

(28,182

)

Total stockholders' equity

 

 

346,580

 

 

 

271,953

 

Total liabilities and stockholders' equity

 

$

482,509

 

 

$

636,163

 

 

See accompanying notes to the consolidated financial statements.

3

 


TIVITY HEALTH, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except earnings (loss) per share data)

(Unaudited)

 

 

 

Three Months Ended

 

 

Nine Months Ended

 

 

 

September 30,

 

 

September 30,

 

 

 

2018

 

 

2017

 

 

2018

 

 

2017

 

Revenues

 

$

151,467

 

 

$

137,703

 

 

$

453,261

 

 

$

417,588

 

Cost of services (exclusive of depreciation and

   amortization of $1,071, $699, $3,041 and $2,003,

   respectively, included below)

 

 

107,047

 

 

 

94,539

 

 

 

324,346

 

 

 

296,009

 

Selling, general & administrative expenses

 

 

7,817

 

 

 

7,838

 

 

 

24,151

 

 

 

24,376

 

Depreciation and amortization

 

 

1,204

 

 

 

850

 

 

 

3,461

 

 

 

2,426

 

Restructuring and related charges

 

 

 

 

 

(16

)

 

 

124

 

 

 

669

 

Operating income

 

 

35,399

 

 

 

34,492

 

 

 

101,179

 

 

 

94,108

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest expense

 

 

1,013

 

 

 

4,203

 

 

 

7,948

 

 

 

12,167

 

Income before income taxes

 

 

34,386

 

 

 

30,289

 

 

 

93,231

 

 

 

81,941

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income tax expense

 

 

9,029

 

 

 

10,403

 

 

 

23,856

 

 

 

29,334

 

Income from continuing operations

 

 

25,357

 

 

 

19,886

 

 

 

69,375

 

 

 

52,607

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income from discontinued operations, net of

   income tax

 

 

 

 

 

6,519

 

 

 

901

 

 

 

2,625

 

Net income

 

$

25,357

 

 

$

26,405

 

 

$

70,276

 

 

$

55,232

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Earnings per share - basic:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Continuing operations

 

$

0.63

 

 

$

0.50

 

 

$

1.74

 

 

$

1.34

 

Discontinued operations

 

$

 

 

$

0.17

 

 

$

0.02

 

 

$

0.07

 

Net income

 

$

0.63

 

 

$

0.67

 

 

$

1.76

 

 

$

1.41

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Earnings per share - diluted:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Continuing operations

 

$

0.59

 

 

$

0.46

 

 

$

1.60

 

 

$

1.25

 

Discontinued operations

 

$

 

 

$

0.15

 

 

$

0.02

 

 

$

0.06

 

Net income

 

$

0.59

 

 

$

0.61

 

 

$

1.63

 

 

$

1.31

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Comprehensive income

 

$

25,357

 

 

$

26,405

 

 

$

70,276

 

 

$

59,734

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Weighted average common shares and equivalents:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

 

40,010

 

 

 

39,443

 

 

 

39,898

 

 

 

39,254

 

Diluted

 

 

42,827

 

 

 

43,527

 

 

 

43,234

 

 

 

42,253

 

 

See accompanying notes to the consolidated financial statements.

 

4

 


TIVITY HEALTH, INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(In thousands)

(Unaudited)

 

 

 

Nine Months Ended September 30,

 

 

 

2018

 

 

2017

 

Net income

 

$

70,276

 

 

$

55,232

 

Other comprehensive income, net of tax:

 

 

 

 

 

 

 

 

Foreign currency translation adjustment, net of tax

 

 

 

 

 

1,458

 

Release of cumulative translation adjustment to loss from discontinued

   operations due to substantial liquidation of foreign entity

 

 

 

 

 

3,044

 

Total other comprehensive income, net of tax

 

$

 

 

$

4,502

 

Comprehensive income

 

$

70,276

 

 

$

59,734

 

 

See accompanying notes to the consolidated financial statements.

 

5

 


TIVITY HEALTH, INC.

CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY

For the Nine Months Ended September 30, 2018

(In thousands)

(Unaudited)

 

 

 

Preferred

Stock

 

 

Common

Stock

 

 

Additional

Paid-in

Capital

 

 

Retained Earnings (Accumulated

Deficit)

 

 

Treasury

Stock

 

 

Total

 

Balance, December 31, 2017

 

$

 

 

$

40

 

 

$

349,243

 

 

$

(49,148

)

 

$

(28,182

)

 

$

271,953

 

Comprehensive income

 

 

 

 

 

 

 

 

 

 

 

70,276

 

 

 

 

 

 

70,276

 

Exercise of stock options

 

 

 

 

 

 

 

 

1,521

 

 

 

 

 

 

 

 

 

1,521

 

Tax withholding for share-based

   compensation

 

 

 

 

 

 

 

 

(2,083

)

 

 

 

 

 

 

 

 

(2,083

)

Share-based employee compensation

   expense

 

 

 

 

 

 

 

 

4,913

 

 

 

 

 

 

 

 

 

4,913

 

Balance, September 30, 2018

 

$

 

 

$

40

 

 

$

353,594

 

 

$

21,128

 

 

$

(28,182

)

 

$

346,580

 

 

See accompanying notes to the consolidated financial statements.

6

 


TIVITY HEALTH, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

(Unaudited)

 

 

 

Nine Months Ended September 30,

 

 

 

2018

 

 

2017

 

Cash flows from operating activities:

 

 

 

 

 

 

 

 

Income from continuing operations

 

$

69,375

 

 

$

52,607

 

Income from discontinued operations

 

 

901

 

 

 

2,625

 

Adjustments to reconcile net income to net cash provided by operating activities:

 

 

 

 

 

 

 

 

Depreciation and amortization

 

 

3,461

 

 

 

2,446

 

Amortization of deferred loan costs

 

 

1,101

 

 

 

2,318

 

Amortization of debt discount

 

 

4,140

 

 

 

5,941

 

Share-based employee compensation expense

 

 

4,913

 

 

 

5,019

 

Gain on sale of TPHS business

 

 

(1,304

)

 

 

(4,782

)

Loss on release of cumulative translation adjustment

 

 

 

 

 

3,044

 

Deferred income taxes

 

 

23,812

 

 

 

27,545

 

Increase in accounts receivable, net

 

 

(12,181

)

 

 

(2,986

)

Decrease in other current assets

 

 

1,544

 

 

 

2,035

 

Decrease in accounts payable

 

 

(1,285

)

 

 

(1,247

)

Decrease in accrued salaries and benefits

 

 

(10,626

)

 

 

(10,925

)

Decrease in other current liabilities

 

 

(11,235

)

 

 

(7,487

)

Other

 

 

1,912

 

 

 

(2,525

)

Net cash flows provided by operating activities

 

$

74,528

 

 

$

73,628

 

 

 

 

 

 

 

 

 

 

Cash flows from investing activities:

 

 

 

 

 

 

 

 

Acquisition of property and equipment

 

$

(6,456

)

 

$

(3,974

)

Proceeds from sale of MeYou Health

 

 

1,416

 

 

 

 

Net cash flows used in investing activities

 

$

(5,040

)

 

$

(3,974

)

 

 

 

 

 

 

 

 

 

Cash flows from financing activities:

 

 

 

 

 

 

 

 

Proceeds from issuance of long-term debt

 

$

173,350

 

 

$

330,700

 

Payments of long-term debt

 

 

(271,923

)

 

 

(400,945

)

Proceeds from settlement of cash convertible notes hedges

 

 

141,246

 

 

 

 

Payments related to settlement of cash conversion derivative

 

 

(141,246

)

 

 

 

Payments related to tax withholding for share-based compensation

 

 

(2,083

)

 

 

(1,798

)

Exercise of stock options

 

 

1,521

 

 

 

4,314

 

Deferred loan costs

 

 

 

 

 

(2,452

)

Change in cash overdraft and other

 

 

2,887

 

 

 

2,083

 

Net cash flows used in financing activities

 

$

(96,248

)

 

$

(68,098

)

 

 

 

 

 

 

 

 

 

Effect of exchange rate changes on cash

 

$

(37

)

 

$

1,750

 

 

 

 

 

 

 

 

 

 

Net increase in cash and cash equivalents

 

$

(26,797

)

 

$

3,306

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents, beginning of period

 

$

28,440

 

 

$

1,602

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents, end of period

 

$

1,643

 

 

$

4,908

 

 

See accompanying notes to the consolidated financial statements.

 

7

 


TIVITY HEALTH, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

1.

Basis of Presentation

 

Our financial statements and accompanying notes are prepared in accordance with generally accepted accounting principles in the United States (“U.S. GAAP”).  In our opinion, the accompanying consolidated financial statements of Tivity Health®, Inc. and its wholly-owned subsidiaries (collectively, “Tivity Health,” the “Company,” or such terms as “we,” “us,” or “our”) reflect all adjustments, consisting only of normal recurring adjustments, necessary for a fair statement.  We have reclassified certain items in prior periods to conform to current classifications.

 

Our results from continuing operations do not include the results of the total population health services (“TPHS”) business, which we sold to Sharecare, Inc. (“Sharecare”) effective July 31, 2016.  Results of operations for the TPHS business have been classified as discontinued operations for all periods presented in the accompanying consolidated financial statements.  See Note 4 for further information.

 

We have omitted certain financial information that is normally included in financial statements prepared in accordance with U.S. GAAP but that is not required for interim reporting purposes.  You should read the accompanying consolidated financial statements in conjunction with the financial statements and notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2017.

 

2.

Recent Relevant Accounting Standards

On January 1, 2018, we adopted Accounting Standards Codification (“ASC”) Topic 606, “Revenue from Contracts with Customers” (“ASC Topic 606”) using the modified retrospective method, pursuant to which we applied ASC Topic 606 to (i) all new contracts entered into after January 1, 2018 and (ii) contracts that were not completed as of January 1, 2018.  In accordance with this approach, our results for periods prior to January 1, 2018 were not revised and continue to be reported in accordance with our historical accounting under ASC Topic 605, “Revenue Recognition.”  For contracts that were modified prior to January 1, 2018, we have not retrospectively restated the contract for those modifications in accordance with the contract modification guidance in ASC 606-10-25-12 and ASC 606-10-25-13 but instead, using the practical expedient available under ASC 606-10-65-1(f)(4), have reflected the aggregate effect of all modifications when identifying the satisfied and unsatisfied performance obligations, determining the transaction price, and allocating the transaction price.

The cumulative impact of our adoption of ASC Topic 606 was not material to record as of January 1, 2018, and there was no material impact on our consolidated income statement, balance sheet, or cash flows.  For example, we do not have any material contract assets or contract liabilities as defined under ASC Topic 606.  In addition, the incremental costs of obtaining a contract with a customer (for example, sales commissions) that would have been recognized as an asset on January 1, 2018 were not material to record.  See Note 3 for a further discussion of revenue recognition.

On January 1, 2018, we adopted Accounting Standards Update (“ASU”) No. 2016-15, “Statement of Cash Flows” (Topic 230) (“ASU 2016-15”).  ASU 2016-15 addresses how certain cash receipts and cash payments are presented and classified in the statement of cash flows and is to be applied using a retrospective approach.  The adoption of this standard did not have a material impact on our consolidated financial statements and related disclosures and did not result in a reclassification to items in prior periods.

On January 1, 2018, we adopted ASU No. 2017-09, “Compensation-Stock Compensation (Topic 718): Scope of Modification Accounting” (“ASU 2017-09”), which clarifies when changes to the terms or conditions of a share-based payment award must be accounted for as modifications.  ASU 2017-09 is to be applied prospectively to awards modified on or after January 1, 2018.  The adoption of this standard did not have an impact on our consolidated financial statements and related disclosures.

8

 


In February 2016, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2016-02, Leases (“ASU 2016-02” or “ASC 842”), which requires that lessees recognize assets and liabilities for leases with lease terms greater than twelve months in the statement of financial position, and will be effective for us on January 1, 2019. ASU 2016-02 also requires improved disclosures to help users of financial statements better understand the amount, timing and uncertainty of cash flows arising from leases. ASC 842 originally required entities to use a modified retrospective transition method in which companies would initially apply ASC 842 and recognize an adjustment for the effects of the transition as of the beginning of the earliest comparative period presented (January 1, 2017 for the Company). In July 2018, the FASB issued ASU No. 2018-11, “Leases (Topic 842): Targeted Improvements”, which amends ASC 842 to allow entities to change the date of initial application to the beginning of the period of adoption (January 1, 2019 for the Company), with no requirement to recast comparative periods.  We have elected to apply ASC 842 as of January 1, 2019 and to recognize the cumulative effect of initially applying the standard as an adjustment to beginning retained earnings as of January 1, 2019.  We are currently conducting analysis to quantify the adoption impact of the provisions of the new standard and evaluating our current leases. We believe we are following an appropriate timeline to allow for proper recognition, presentation and disclosure upon adoption effective January 1, 2019.    

In January 2017, the FASB issued ASU No. 2017-04, “Intangibles - Goodwill and Other” (“ASU 2017-04”), which simplifies the subsequent measurement of goodwill by eliminating step two from the goodwill impairment test.  ASU 2017-04 is effective for annual and interim impairment tests in fiscal years beginning after December 15, 2019 and is required to be applied prospectively. Early adoption is allowed for annual goodwill impairment tests performed on testing dates after January 1, 2017. We do not anticipate that adopting this standard will have an impact on our consolidated financial statements and related disclosures.

In August 2018, the FASB issued ASU No. 2018-13, “Fair Value Measurement (Topic 820): Disclosure Framework – Changes to the Disclosure Requirements for Fair Value Measurement” (“ASU 2018-13”), which changes the fair value measurement disclosure requirements of ASC 820.  ASU 2018-13 is effective for fiscal years beginning on or after December 15, 2019, including interim periods therein, and is generally required to be applied retrospectively, except for certain components that are to be applied prospectively.  Early adoption is permitted for any eliminated or modified disclosures. We do not anticipate that adopting this standard will have a material impact on our disclosures.

3.

Revenue Recognition

 

Beginning in 2018, we account for revenue from contracts with customers in accordance with ASC Topic 606.  The unit of account in ASC Topic 606 is a performance obligation, which is a promise in a contract to transfer to a customer either a distinct good or service (or bundle of goods or services) or a series of distinct goods or services provided over a period of time. ASC Topic 606 requires that a contract's transaction price, which is the amount of consideration to which an entity expects to be entitled in exchange for transferring promised goods or services to a customer, is to be allocated to each performance obligation in the contract based on relative standalone selling prices and recognized as revenue when or as the performance obligation is satisfied.

 

We earn revenue from our three programs, SilverSneakers® senior fitness, Prime® Fitness and WholeHealth LivingTM.  We provide the SilverSneakers senior fitness program to members of Medicare Advantage and Medicare Supplement plans through our contracts with such plans.  We offer Prime Fitness, a fitness facility access program, through contracts with employers, commercial health plans, and other sponsoring organizations that allow their members to individually purchase the program.  We sell our WholeHealth Living program primarily to health plans.

 

The significant majority of our customer contracts contain one performance obligation - to stand ready to provide access to our network of fitness locations and fitness programming - which is satisfied over time as services are rendered each month over the contract term.  There are generally no performance obligations that are unsatisfied at the end of a particular month.  There was no material revenue recognized during the three and nine months ended September 30, 2018 from performance obligations satisfied in a prior period.

 

Our fees are variable month to month and are generally billed per member per month (“PMPM”) or billed based on a combination of PMPM and member visits to a network location.  We bill PMPM fees by multiplying the contractually negotiated PMPM rate by the number of members eligible for or receiving our services during the month.  We bill for member visits approximately one month in arrears once actual member visits are known.  Payments from customers are typically due within 30 days of invoice date.  When material, we capitalize costs to obtain contracts with customers and amortize them over the expected recovery period. 

9

 


 

Our customer contracts include variable consideration, which is allocated to each distinct month over the contract term based on eligible members and/or member visits each month.  The allocated consideration corresponds directly with the value to our customers of our services completed for the month.  Under the majority of our contracts, we recognize revenue each month using the practical expedient available under ASC 606-10-55-18, which provides that revenue is recognized in the amount for which we have the right to invoice. 

 

Although we evaluate our financial performance and make resource allocation decisions based upon the results of our single operating and reportable segment, we believe the following information depicts how our revenues and cash flows are affected by economic factors.  For the three and nine months ended September 30, 2018, revenue from our SilverSneakers program, which is predominantly contracted with Medicare Advantage and Medicare Supplement plans, comprised approximately 81% of our consolidated revenues, while revenue from our Prime Fitness and WholeHealth Living programs comprised approximately 16% and 3%, respectively, of our consolidated revenues.

 

Sales and usage-based taxes are excluded from revenues.

 

4.

Discontinued Operations

On July 27, 2016, we entered into a Membership Interest Purchase Agreement (the “Purchase Agreement”) with Sharecare and Healthways SC, LLC, a newly formed Delaware limited liability company and wholly owned subsidiary of the Company, pursuant to which Sharecare acquired the TPHS business, which closed effective July 31, 2016 (“Closing”).

At Closing, Sharecare delivered to the Company an Adjustable Convertible Equity Right (the “ACER”) with an initial face value of $30.0 million.  The ACER became convertible into shares of common stock of Sharecare on July 31, 2018 at an initial conversion price of $249.87 per share, subject to customary adjustment for stock splits, stock dividends and other reorganizations of Sharecare.   

The Purchase Agreement provided for post-closing adjustments based on, among other things, any successful claims for indemnification by Sharecare (which may have resulted in a reduction in the face amount of the ACER, unless the Company elects, in its sole discretion, to satisfy any such successful claims with cash payments), none of which such claims had been made as of September 30, 2018.

10

 


At September 30, 2018 and December 31, 2017, we recorded the $39.8 million face value of the ACER at an estimated carrying value of $10.8 million, which was classified as an equity receivable included in other long-term assets. Upon conversion of the ACER in October 2018, we obtained 159,309 shares of Sharecare common stock.  There are certain restrictions related to selling or transferring this stock. These shares may not be sold or otherwise transferred except (i) for cash subject to the right of first refusal by Sharecare and/or one or more of its shareholders (in each case, at their option), or (ii) with the consent of Sharecare’s shareholders holding at least a majority of Sharecare stock, or (iii) pursuant to certain other exemptions.  

The following table presents financial results of the TPHS business included in “income from discontinued operations” for the three and nine months ended September 30, 2018 and 2017.

 

 

 

Three Months Ended September 30,

 

 

Nine Months Ended September 30,

 

(In thousands)

 

2018

 

 

2017

 

 

2018

 

 

2017

 

Revenues

 

$

 

 

$

 

 

$

 

 

$

 

Cost of services

 

 

 

 

 

103

 

 

 

30

 

 

 

362

 

Selling, general & administrative

   expenses

 

 

 

 

 

137

 

 

 

48

 

 

 

294

 

Distribution from joint venture

 

 

 

 

 

 

 

 

 

 

 

98

 

Pretax loss on discontinued

   operations

 

$

 

 

$

(240

)

 

$

(78

)

 

$

(558

)

Pretax loss on release of cumulative

   translation adjustment (1)

 

 

 

 

 

 

 

 

 

 

 

(3,044

)

Pretax income on sale of TPHS

   business (2)

 

 

 

 

 

5,226

 

 

 

1,304

 

 

 

4,782

 

Total pretax income on

   discontinued operations

 

$

 

 

$

4,986

 

 

$

1,226

 

 

$

1,180

 

Income tax expense (benefit) (3)

 

 

 

 

 

(1,533

)

 

 

325

 

 

 

(1,445

)

Income from discontinued operations,

   net of income tax

 

$

 

 

$

6,519

 

 

$

901

 

 

$

2,625

 

 

(1)

During the second quarter of 2017, we substantially liquidated foreign entities that were part of our TPHS business, resulting in a release of the cumulative translation adjustment of $3.0 million into loss from discontinued operations.

(2)

Includes $1.4 million received during the three months ended June 30, 2018 from a release of escrow funds related to the sale of MeYou Health, LLC in June 2016.  Also includes increases to the value of the ACER recorded during the three and nine months ended September 30, 2017 due to the resolution of certain contingencies.   

(3)

Income tax benefit for the three months and nine months ended September 30, 2017 includes the effect of a change in the estimate of net U.S. tax incurred on foreign activity classified as discontinued operations.

 

5.

Share-Based Compensation

 

We currently have three types of share-based awards outstanding to our employees and directors: stock options, restricted stock units, and market stock units. We believe that our share-based awards align the interests of our employees and directors with those of our stockholders.

 

We recognize share-based compensation expense for the market stock units if the requisite service period is rendered, even if the market condition is never satisfied. For the three and nine months ended September 30, 2018, we recognized share-based compensation costs of $1.7 million and $4.9 million, respectively.  For the three and nine months ended September 30, 2017, we recognized share-based compensation costs of $1.7 million and $5.0 million, respectively.  We account for forfeitures as they occur.  

 

11

 


A summary of our stock options as of September 30, 2018 and the changes during the nine months ended September 30, 2018 is presented below:

 

Options

 

Shares

(In thousands)

 

 

Weighted

Average

Exercise

Price

Per Share

 

 

Weighted

Average

Remaining

Contractual

Term

 

 

Aggregate

Intrinsic Value

(In thousands)

 

Outstanding at January 1, 2018

 

 

507

 

 

$

12.98

 

 

 

 

 

 

 

 

 

Granted

 

 

83

 

 

 

38.07

 

 

 

 

 

 

 

 

 

Exercised

 

 

(122

)

 

 

12.42

 

 

 

 

 

 

 

 

 

Forfeited

 

 

(1

)

 

 

39.45

 

 

 

 

 

 

 

 

 

Expired

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Outstanding at September 30, 2018

 

 

467

 

 

$

17.55

 

 

 

4.6

 

 

$

7,299

 

Exercisable at September 30, 2018

 

 

384

 

 

$

13.15

 

 

 

3.5

 

 

$

7,299

 

 

The weighted-average grant-date fair value of options granted during the three months ended September 30, 2018 was $18.65.

 

The following table shows a summary of our restricted stock units as of September 30, 2018, as well as activity during the nine months ended September 30, 2018:

 

 

 

Restricted Stock Units

 

 

 

Shares

(In thousands)

 

 

Weighted-

Average

Grant Date

Fair Value

 

Nonvested at January 1, 2018

 

 

572

 

 

$

17.60

 

Granted

 

 

73

 

 

 

38.20

 

Vested

 

 

(241

)

 

 

18.13

 

Forfeited

 

 

(23

)

 

 

24.06

 

Nonvested at September 30, 2018

 

 

381

 

 

$

20.85

 

 

The following table shows a summary of our market stock units as of September 30, 2018, as well as activity during the nine months ended September 30, 2018:

 

 

 

Market Stock Units

 

 

 

Shares

(In thousands)

 

 

Weighted-

Average

Grant Date

Fair Value

 

Nonvested at January 1, 2018

 

 

373

 

 

$

9.01

 

Granted

 

 

 

 

 

 

Vested

 

 

(6

)

 

 

6.48

 

Forfeited

 

 

(29

)

 

 

17.44

 

Nonvested at September 30, 2018

 

 

338

 

 

$

8.32

 

 

12

 


6.

Income Taxes

For the three and nine months ended September 30, 2018, we had an effective income tax rate from continuing operations of 26.3% and 25.6%, respectively.  For the three and nine months ended September 30, 2017, we had an effective income tax rate from continuing operations of 34.3% and 35.8%, respectively.  The lower effective income tax rate in 2018 is primarily a result of the Tax Cuts and Jobs Act of 2017 (the “Tax Act”).

At September 30, 2018, we had approximately $16.9 million of federal loss carryforwards, approximately $72.2 million of state loss carryforwards, and approximately $4.7 million of foreign tax credits.

We file income tax returns in the U.S. Federal jurisdiction and in various state and foreign jurisdictions.  Tax years remaining subject to examination in the U.S. Federal jurisdiction include 2015 to present.

7.

Debt

The Company's debt, net of unamortized deferred loan costs, consisted of the following at September 30, 2018 and December 31, 2017:

 

(In thousands)

 

September 30, 2018

 

 

December 31, 2017

 

Cash Convertible Notes, net of unamortized

   discount

 

$

 

 

$

145,861

 

Delayed draw term loan

 

 

45,000

 

 

 

 

Revolving credit facility

 

 

6,975

 

 

 

 

Capital lease obligations and other

 

 

209

 

 

 

549

 

 

 

 

52,184

 

 

 

146,410

 

Less: deferred loan costs

 

 

 

 

 

(451

)

 

 

 

52,184

 

 

 

145,959

 

Less: current portion

 

 

(52

)

 

 

(145,959

)

 

 

$

52,132

 

 

$

 

 

Credit Facility

On April 21, 2017, we entered into a new Revolving Credit and Term Loan Agreement (the “Credit Agreement”) with a group of lenders.  The Credit Agreement replaced the prior Fifth Amended and Restated Revolving Credit and Term Loan Agreement (the “Prior Credit Agreement”).  The Credit Agreement provides us with (1) a $100 million revolving credit facility that includes a $25 million sublimit for swingline loans and a $75 million sublimit for letters of credit, (2) a $70 million term loan A facility, (3) a $150 million delayed draw term loan facility, and (4) an uncommitted incremental accordion facility of $100 million.

We used the proceeds of the term loan A and cash on hand to repay all of the outstanding indebtedness under the Prior Credit Agreement and to pay transaction costs and expenses.  Proceeds of revolving loans and delayed draw term loans may be used to repay outstanding indebtedness (including amounts payable upon or with respect to any conversion of the Cash Convertible Notes discussed below and the repayment of any revolving loans borrowed for such purposes), to finance working capital needs, to finance acquisitions, to finance the repurchase of our common stock, to finance capital expenditures and for other general corporate purposes of the Company and its subsidiaries.  As further detailed below under “1.50% Cash Convertible Senior Notes Due 2018”, on July 2, 2018, we borrowed $100.0 million under the delayed draw term loan, which was used to repay the principal amount of the Cash Convertible Notes.  No additional amounts may be borrowed under the delayed draw term after July 2, 2018.

13

 


We are required to repay any outstanding revolving loans in full on April 21, 2022.  The term loan A was repaid in full during 2017 and may not be re-borrowed.  We are required to repay the delayed draw term loan in quarterly principal installments calculated as follows: (1) for each of the first six quarters following the time of borrowing (beginning with the fourth quarter of 2018 and ending with the first quarter of 2020), 1.250% of the aggregate principal amount of the delayed draw term loan funded as of the last day of the immediately preceding quarter; and (2) for each of the remaining quarters prior to maturity on April 21, 2022, 1.875% of the aggregate principal amount of the delayed draw term loan funded as of the last day of the immediately preceding quarter.  At maturity on April 21, 2022, the entire unpaid principal balance of the delayed draw term loan is due and payable. During the third quarter of 2018, we paid down $55.0 million on the delayed draw term loan, which satisfied all of the mandatory principal payments described in items 1 and 2 above and further reduced the principal balance due at maturity.  No further principal payments are required until maturity.  As of September 30, 2018, availability under the revolving credit facility totaled $86.9 million.   

Borrowings under the Credit Agreement generally bear interest at variable rates based on a margin or spread in excess of either (1) one-month, two-month, three-month or six-month LIBOR (or with the approval of affected lenders, 12-month LIBOR), which may not be less than zero, or (2) the greatest of (a) the SunTrust Bank prime lending rate, (b) the federal funds rate plus 0.50%, and (c) one-month LIBOR plus 1.00% (the “Base Rate”), as selected by the Company.  The LIBOR margin varies between 1.50% and 2.75%, and the Base Rate margin varies between 0.50% and 1.75%, depending on our net leverage ratio.  The Credit Agreement also provides for annual commitment fees ranging between 0.20% and 0.50% of the unused commitments under the revolving credit facility and the delayed draw term loan facility and annual letter of credit fees on the daily outstanding availability under outstanding letters of credit at the applicable LIBOR margin.  Extensions of credit under the Credit Agreement are secured by guarantees from all of the Company’s active material domestic subsidiaries and by security interests in substantially all of the Company’s and such subsidiaries’ assets.

The Credit Agreement contains financial covenants that require us to maintain, as defined, (1) specified maximum ratios or levels of funded debt to EBITDA and (2) a specified minimum ratio or level of fixed charge coverage. The Credit Agreement also contains various other affirmative and negative covenants that are typical for financings of this type.  Among other things, they limit repurchases of our common stock and the amount of dividends that we can pay to holders of our common stock.

1.50% Cash Convertible Senior Notes Due 2018

On July 16, 2013, we completed the issuance of $150.0 million aggregate principal amount of cash convertible senior notes due July 2018 (the “Cash Convertible Notes”), which bore interest at a rate of 1.50% per year, payable semiannually in arrears on January 1 and July 1 of each year, beginning on January 1, 2014. The Cash Convertible Notes matured on July 2, 2018.  All of the holders elected to convert their Cash Convertible Notes for settlement on July 2, 2018, and none of the Cash Convertible Notes were repurchased or converted into cash prior to such date.  

The cash conversion feature of the Cash Convertible Notes was a derivative liability (the “Cash Conversion Derivative”) that required bifurcation from the Cash Convertible Notes in accordance with FASB ASC Topic 815, “Derivatives and Hedging” (“ASC Topic 815”), and was carried at fair value.  The fair value of the Cash Conversion Derivative at the time of issuance of the Cash Convertible Notes was recorded as a debt discount for purposes of accounting for the debt component of the Cash Convertible Notes.

The debt discount was amortized over the term of the Cash Convertible Notes using the effective interest method.  For the three and nine months ended September 30, 2018, we recorded $0 and $4.1 million, respectively, of interest expense related to the amortization of the debt discount based upon an effective interest rate of 5.7%.  For the three and nine months ended September 30, 2017, we recorded $2.0 million and $5.9 million, respectively, of interest expense related to the amortization of the debt discount based upon an effective interest rate of 5.7%.  We also recognized interest expense of $0 and $1.1 million for the three and nine months ended September 30, 2018, respectively, and interest expense of $0.6 million and $1.7 million for the three and nine months ended September 30, 2017, respectively, related to the contractual interest rate of 1.50% per year.

14

 


In connection with the issuance of the Cash Convertible Notes, we entered into privately negotiated convertible note hedge transactions (the “Cash Convertible Notes Hedges), which were cash-settled and were intended to reduce our exposure to potential cash payments that we would be required to make if holders elected to convert the Cash Convertible Notes at a time when our stock price exceeded the conversion price. The Cash Convertible Notes Hedges were recorded as a derivative asset under ASC Topic 815 and were carried at fair value.  See Note 9 for additional information regarding the Cash Convertible Notes Hedges and the Cash Conversion Derivative and their fair values.

On July 2, 2018, we repaid the $150.0 million aggregate principal amount of the Cash Convertible Notes using a combination of available cash and proceeds from borrowings under the delayed draw term loan facility of $100.0 million.  In addition, on July 2, 2018 we settled the Cash Conversion Derivative of $141.2 million, which was fully funded by payments made by the counterparties for the settlement of the Cash Convertible Notes Hedges.

In July 2013, we also sold separate privately negotiated warrants (the “Warrants”) initially relating, in the aggregate, to approximately 7.7 million shares of our common stock underlying the Cash Convertible Notes Hedges. The Warrants have an initial strike price of approximately $25.95 per share.  Beginning on October 1, 2018, the Warrants are subject to automatic exercise on a pro rata basis each trading day continuing for a period of 160 trading days (i.e., approximately 48,000 warrants are subject to automatic exercise on each trading day).  The Warrants are net share settled by our issuing a number of shares of our common stock per Warrant with a value corresponding to the excess of the market price per share of our common stock (as measured on each warrant exercise date under the terms of the Warrants) over the applicable strike price of the Warrants. The Warrants meet the definition of derivatives under the guidance in ASC Topic 815; however, because these instruments have been determined to be indexed to our own stock and meet the criteria for equity classification under ASC Topic 815, the Warrants have been accounted for as an adjustment to our additional paid-in-capital.

When the market price per share of our common stock exceeds the strike price of the Warrants, the Warrants have a dilutive effect on net income per share, and the “treasury stock” method is used in calculating the dilutive effect on earnings per share.  See Note 11 for additional information on such dilutive effect.

 

8.

Commitments and Contingencies

 

On November 6, 2017, United Healthcare issued a press release announcing expansion of its fitness benefits (“United Press Release”), and the market price of the Company's shares of common stock dropped on that same day. In connection with the United Press Release, three lawsuits have been filed against the Company as described below.  We are currently not able to predict the probable outcome of these matters or to reasonably estimate a range of potential losses, if any.  We intend to vigorously defend ourselves against all three complaints.

 

Weiner, Denham, and Allen Lawsuits

 

On November 20, 2017, Eric Weiner, claiming to be a stockholder of the Company, filed a complaint on behalf of stockholders who purchased the Company's common stock between February 24, 2017 and November 3, 2017 (“Weiner Lawsuit”).  The Weiner Lawsuit was filed as a class action in the U.S. District Court for the Middle District of Tennessee, naming as defendants the Company, the Company's chief executive officer, chief financial officer and a former executive who served as both chief accounting officer and interim chief financial officer.  The complaint alleges that the defendants violated Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 (the “Exchange Act”) and Rule 10b-5 promulgated under the Exchange Act in making false and misleading statements and omissions related to the United Press Release.  The complaint seeks monetary damages on behalf of the purported class.  On April 3, 2018, the Court entered an order appointing the Oklahoma Firefighters Pension and Retirement System as lead plaintiff, designated counsel for the lead plaintiff, and established certain deadlines for the case.  On June 4, 2018, Plaintiff filed a first amended complaint.  On August 3, 2018, the Company filed a motion to dismiss the first amended complaint and a memorandum in support of motion to dismiss seeking dismissal on grounds that the first amended complaint fails to plead any actionable statement or omission and fails to allege facts sufficient to give rise to a strong inference of scienter (the “Motion to Dismiss”).

 

On January 26, 2018, Charles Denham, claiming to be a stockholder of the Company, filed a purported shareholder derivative action, on behalf of the Company, in the U.S. District Court for the Middle District of Tennessee, naming the Company as a nominal defendant and the Company's chief executive officer, chief financial officer, a former executive who served as both chief accounting officer and interim chief financial officer, current directors and a former director of the Company, as defendants (“Denham Lawsuit”).  The complaint asserts claims for breach of fiduciary duty, waste, and unjust enrichment, largely tracking allegations in the Weiner Lawsuit.  The complaint further alleges that certain defendants engaged in insider trading.  The plaintiff seeks monetary damages on behalf of the Company, certain corporate governance and internal procedural reforms, and other equitable relief.

15

 


 

On August 24, 2018, Andrew H. Allen, claiming to be a stockholder of the Company, filed a purported shareholder derivative action, on behalf of the Company, in the U.S. District Court for the Middle District of Tennessee, naming the Company as a nominal defendant and the Company’s chief executive officer, chief financial officer, a former executive who served as both chief accounting officer and interim chief financial officer, together with nine current or former directors, as defendants (the “Allen Lawsuit”).  The complaint asserts claims for breach of fiduciary duty and violations of the Securities and Exchange Act against all individual defendants, largely tracking allegations in the Weiner Lawsuit and Denham Lawsuit, and breach of fiduciary duty for insider trading against a former executive who served as both chief accounting officer and interim chief financial officer and one of the directors of the Company.  The plaintiff seeks to recover damages on behalf of the Company, certain corporate governance and internal procedural reforms, and other equitable relief, including restitution from the two defendants alleged to have engaged in insider trading from all unlawfully obtained profits.  On October 15, 2018, the Allen Lawsuit and the Denham Lawsuit were consolidated by stipulation, and the consolidated case was stayed pending entry of an order resolving the Motion to Dismiss filed in the Weiner Lawsuit.

 

Other

 

Additionally, from time to time, we are subject to contractual disputes, claims and legal proceedings that arise in the ordinary course of our business.  While we are unable to estimate a range of potential losses, we do not believe that any of the legal proceedings pending against us as of the date of this report, some of which are expected to be covered by insurance policies, will have a material adverse effect on our financial statements.  As these matters are subject to inherent uncertainties, our view of these matters may change in the future. We expense legal costs as incurred. 

9.

Fair Value Measurements

We account for certain assets and liabilities at fair value. Fair value is defined as the price that would be received upon sale of an asset or paid upon transfer of a liability in an orderly transaction between market participants at the measurement date, assuming the transaction occurs in the principal or most advantageous market for that asset or liability.

Fair Value Hierarchy

The hierarchy below lists three levels of fair value based on the extent to which inputs used in measuring fair value are observable in the market. We categorize each of our fair value measurements in one of these three levels based on the lowest level input that is significant to the fair value measurement in its entirety. These levels are:

 

Level 1: 

Quoted prices in active markets for identical assets or liabilities;

 

Level 2: 

Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-based valuation techniques in which all significant assumptions are observable in the market or can be corroborated by observable market data for substantially the full term of the assets or liabilities; and

 

Level 3: 

Unobservable inputs that are supported by little or no market activity and typically reflect management's estimates of assumptions that market participants would use in pricing the asset or liability.

Assets and Liabilities Measured at Fair Value on a Recurring Basis

 

As described in Note 7, the Cash Convertible Notes Hedges and Cash Conversion Derivative were settled upon their maturity on July 2, 2018 and therefore had a value of $0 at September 30, 2018.  At December 31, 2017, the fair values of the Cash Convertible Notes Hedges and the Cash Conversion Derivative were measured using Level 3 inputs because these instruments were not actively traded. The Cash Convertible Notes Hedges and the Cash Conversion Derivative were designed such that changes in their fair values would offset one another, with minimal impact to the consolidated statements of operations.

16

 


The following table presents our financial instruments measured at fair value on a recurring basis using unobservable inputs (Level 3):

 

(In thousands)

 

Balance at

December 31,

2017

 

 

Purchases

of Level 3

Instruments

 

 

Settlements of

Level 3

Instruments

 

 

Gains (Losses)

Included in

Earnings

 

 

Balance at

September 30,

2018

 

Cash Convertible Notes Hedges

   (Assets)

 

$

134,079

 

 

$

 

 

$

(141,246

)

 

$

7,167

 

 

$

 

Cash Conversion Derivative

   (Liabilities)

 

 

(134,079

)

 

 

 

 

 

141,246

 

 

 

(7,167

)

 

 

 

 

The gains and losses included in earnings noted above represent the change in the fair value of these financial instruments and were recorded each period in the consolidated statements of operations as selling, general and administrative expenses.

Fair Value of Other Financial Instruments

The estimated fair value of each class of financial instruments at September 30, 2018 was as follows:

Cash and cash equivalents The carrying amount of $1.6 million approximates fair value due to the short maturity of those instruments (less than three months).

Debt The estimated fair value of outstanding borrowings under the Credit Agreement, which includes a revolving credit facility and a delayed draw term loan facility (see Note 7), is determined based on the fair value hierarchy as discussed above.

The revolving credit facility and the delayed draw term loan are not actively traded and therefore are classified as a Level 2 valuation based on the market for similar instruments. The estimated fair value is based on the maximum of the prices set by the issuing bank given current market conditions and is not necessarily indicative of the amount we could realize in a current market exchange. The estimated fair value and carrying amount of outstanding borrowings under the Credit Agreement at September 30, 2018 were $51.9 million and $52.0 million, respectively.  

 

10.

Derivative Instruments and Hedging Activities

 

We used derivative instruments to manage risks related to the Cash Convertible Notes, which matured and were repaid on July 2, 2018.  We account for derivatives in accordance with ASC Topic 815, which establishes accounting and reporting standards requiring that certain derivative instruments be recorded on the balance sheet as either an asset or liability measured at fair value. Additionally, changes in the derivative's fair value will be recognized currently in earnings unless specific hedge accounting criteria are met.  We do not execute transactions or hold derivative financial instruments for trading or other purposes.

 

Derivative Instruments Not Designated as Hedging Instruments

 

The Cash Conversion Derivative and Cash Convertible Notes Hedges were settled on July 2, 2018 in conjunction with the maturity of the Cash Convertible Notes.  They did not qualify for hedge accounting treatment under U.S. GAAP and were measured at fair value, with gains and losses recognized immediately in the consolidated statements of operations. These derivative instruments did not have a material impact on our consolidated statements of comprehensive income for the three and nine months ended September 30, 2018 and 2017.

 

The Cash Conversion Derivative was accounted for as a derivative liability and carried at fair value. In order to offset the risk associated with the Cash Conversion Derivative, we entered into Cash Convertible Notes Hedges, which were cash-settled and were intended to reduce our exposure to potential cash payments that we would be required to make if holders elected to convert the Cash Convertible Notes at a time when our stock price exceeds the conversion price. The Cash Convertible Notes Hedges were accounted for as a derivative asset and carried at fair value.

 

17

 


The gains and losses resulting from a change in fair values of the Cash Conversion Derivative and the Cash Convertible Notes Hedges are reported in the consolidated statements of comprehensive income.

 

(In thousands)

 

For the Three Months Ended

 

 

For the Nine Months Ended

 

 

 

 

 

September 30, 2018

 

 

September 30,

2017

 

 

September 30, 2018

 

 

September 30,

2017

 

 

Statements of Operations

Classification

Cash Convertible

   Notes Hedges:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net unrealized gain

 

$

 

 

$

5,597

 

 

$

7,167

 

 

$

118,112

 

 

Selling, general and

   administrative expenses

Cash Conversion

   Derivative:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net unrealized loss

 

$

 

 

$

(5,597

)

 

$

(7,167

)

 

$

(118,112

)

 

Selling, general and

   administrative expenses

 

Financial Instruments

 

The estimated gross fair values of derivative instruments at September 30, 2018 and December 31, 2017 were as follows:

 

(In thousands)

 

September 30, 2018

 

 

December 31,

2017

 

Assets:

 

 

 

 

 

 

 

 

Derivatives not designated as hedging

   instruments:

 

 

 

 

 

 

 

 

Cash convertible notes hedges

 

$

 

 

$

134,079