UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 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 March 31, 2020

OR 

☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission File Number 001-10315

______________________________ 

Encompass Health Corporation

(Exact name of Registrant as specified in its Charter)

Delaware	63-0860407
(State or Other Jurisdiction of Incorporation or Organization)	(I.R.S. Employer Identification No.)

9001 Liberty Parkway

Birmingham, Alabama 35242

(Address of Principal Executive Offices)

(205) 967-7116

(Registrant’s telephone number)

 Securities registered pursuant to Section 12(b) of the Act:

Title of each class	Trading Symbol(s)	Name of each exchange on which registered
Common Stock, par value $0.01 per share	EHC	New York Stock Exchange

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 ý No o

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 during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ý No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, 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	x	Accelerated filer	o	Non-Accelerated filer	o
Smaller reporting company	☐	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.   o

Indicate by check mark whether the registrant is a shell company (as defined in Exchange Act Rule 12b-2). Yes ☐ No ý

The registrant had 99,405,112 shares of common stock outstanding, net of treasury shares, as of May 4, 2020.

TABLE OF CONTENTS

		Page
PART I	Financial Information
Item 1.	Financial Statements (Unaudited)	1
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	25
Item 3.	Quantitative and Qualitative Disclosures about Market Risk	44
Item 4.	Controls and Procedures	44
PART II	Other Information
Item 1.	Legal Proceedings	45
Item 1A.	Risk Factors	45
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	46
Item 6.	Exhibits	48

NOTE TO READERS

As used in this report, the terms “Encompass Health,” “we,” “us,” “our,” and the “Company” refer to Encompass Health Corporation and its consolidated subsidiaries, unless otherwise stated or indicated by context. This drafting style is suggested by the Securities and Exchange Commission and is not meant to imply that Encompass Health Corporation, the publicly traded parent company, owns or operates any specific asset, business, or property. The hospitals, operations, and businesses described in this filing are primarily owned and operated by subsidiaries of the parent company. In addition, we use the term “Encompass Health Corporation” to refer to Encompass Health Corporation alone wherever a distinction between Encompass Health Corporation and its subsidiaries is required or aids in the understanding of this filing.

i

CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS

This quarterly report contains historical information, as well as forward-looking statements that involve known and unknown risks and relate to, among other things, future events, changes to Medicare reimbursement and other healthcare laws and regulations from time to time, our business strategy, our dividend and stock repurchase strategies, our financial plans, our growth plans, our future financial performance, our projected business results, or our projected capital expenditures. In some cases, the reader can identify forward-looking statements by terminology such as “may,” “will,” “should,” “could,” “expects,” “plans,” “anticipates,” “believes,” “estimates,” “predicts,” “targets,” “potential,” or “continue” or the negative of these terms or other comparable terminology. Such forward-looking statements are necessarily estimates based upon current information and involve a number of risks and uncertainties, many of which are beyond our control. Any forward-looking statement is based on information current as of the date of this report and speaks only as of the date on which such statement is made. Actual events or results may differ materially from the results anticipated in these forward-looking statements as a result of a variety of factors. While it is impossible to identify all such factors, factors that could cause, and in the case of the COVID-19 pandemic has already caused, actual results to differ, such as decreases in revenues or increases in costs or charges, materially from those estimated by us include, but are not limited to, the following:

• each of the factors discussed in Item 1A, Risk Factors, of our Annual Report on Form 10-K for the year ended December 31, 2019, as well as uncertainties and factors, if any, discussed elsewhere in this Form 10-Q, including in the “Executive Overview—Key Challenges” section of Part I, Item 2, Management’s Discussion and Analysis of Financial Condition and Results of Operations, in our other filings from time to time with the SEC, or in materials incorporated therein by reference;

• a pandemic, epidemic, or other widespread outbreak of an infectious disease or other public health crisis, such as the COVID-19 pandemic, which could decrease our patient volumes, pricing, and revenues, lead to staffing and supply shortages and associated cost increases, or otherwise interrupt operations;

• state and local executive actions in response to the COVID-19 pandemic, such as shelter-in-place orders, facility closures and quarantines, which could impair our ability to operate and provide care;

• our ability to maintain infectious disease prevention and control efforts that are required and effectively minimize the spread of COVID-19 among patients and employees;

• changes in the rules and regulations of the healthcare industry at either or both of the federal and state levels, including those contemplated now and in the future as part of national healthcare reform and deficit reduction (such as the re-basing of payment systems, the introduction of site neutral payments or case-mix weightings across post-acute settings, the Patient-Driven Groupings Model for home health, the new patient assessment measures, which we refer to as “Section GG functional measures,” for inpatient rehabilitation, and other payment system reforms), which may decrease revenues and increase the costs of complying with the rules and regulations;

• reductions or delays in, or suspension of, reimbursement for our services by governmental or private payors, including our ability to obtain and retain favorable arrangements with third-party payors;

• restrictive interpretations of the regulations governing the claims that are reimbursable by Medicare;

• our ability to comply with extensive and changing healthcare regulations as well as the increased costs of regulatory compliance and compliance monitoring in the healthcare industry, including the costs of investigating and defending asserted claims, whether meritorious or not;

• any adverse outcome of various lawsuits, claims, and legal or regulatory proceedings, including disclosed and undisclosed qui tam suits;

• the use by governmental agencies and contractors of statistical sampling and extrapolation to expand claims of overpayment or noncompliance;

• delays in the administrative appeals process associated with denied Medicare reimbursement claims, including from various Medicare audit programs, and our exposure to the related delay or reduction in the receipt of the reimbursement amounts for services previously provided, including through recoupment of ongoing claims reimbursement by CMS;

• the ongoing evolution of the healthcare delivery system, including alternative payment models and value-based purchasing initiatives, which may decrease our reimbursement rate or increase costs associated with our operations;

ii

• our ability to attract and retain nurses, therapists, and other healthcare professionals in a highly competitive environment with often severe staffing shortages, including as a result of the COVID-19 pandemic, and the impact on our labor expenses from potential union activity and staffing recruitment and retention;

• competitive pressures in the healthcare industry, including from other providers that may be participating in integrated delivery payment arrangements in which we do not participate, and our response to those pressures;

• our ability to successfully complete and integrate de novo developments, acquisitions, investments, and joint ventures consistent with our growth strategy, including realization of anticipated revenues, cost savings, productivity improvements arising from the related operations and avoidance of unanticipated difficulties, costs or liabilities that could arise from acquisitions or integrations;

• increased costs of defending and insuring against alleged professional liability and other claims and the ability to predict the costs related to claims;

• potential incidents affecting the proper operation, availability, or security of our or our vendors’ or partners’ information systems, including the patient information stored there;

• new or changing quality reporting requirements impacting operational costs or our Medicare reimbursement;

• the price of our common stock as it affects our willingness and ability to repurchase shares and the financial and accounting effects of any repurchases;

• our ability and willingness to continue to declare and pay dividends on our common stock, which could be affected by reduced cash flow resulting from the COVID-19 pandemic;

• our ability to maintain proper local, state and federal licensing, including compliance with the Medicare conditions of participation and provider enrollment requirements, which is required to participate in the Medicare program;

• our ability to attract and retain key management personnel;

• changes in our payor mix or the acuity of our patients affecting reimbursement rates; and

• general conditions in the economy and capital markets, including any disruption, instability, or uncertainty related to armed conflict or an act of terrorism, a governmental impasse over approval of the United States federal budget, an increase to the debt ceiling, an international trade war, a sovereign debt crisis, or a widespread outbreak of an infectious disease such as COVID-19.

The cautionary statements referred to in this section also should be considered in connection with any subsequent written or oral forward-looking statements that may be issued by us or persons acting on our behalf. We undertake no duty to update these forward-looking statements, even though our situation may change in the future. Furthermore, we cannot guarantee future results, events, levels of activity, performance, or achievements.

iii

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements (Unaudited)

Encompass Health Corporation and Subsidiaries

Condensed Consolidated Statements of Comprehensive Income

(Unaudited)

	Three Months Ended March 31,
	2020			2019
	(In Millions, Except Per Share Data)
Net operating revenues	$	1,182.0		$	1,124.0
Operating expenses:
Salaries and benefits	679.1			620.8
Other operating expenses	159.6			150.1
Occupancy costs	20.2			19.6
Supplies	45.7			40.1
General and administrative expenses	35.6			53.4
Depreciation and amortization	58.8			52.5
Government, class action, and related settlements	2.8			—
Total operating expenses	1,001.8			936.5
Interest expense and amortization of debt discounts and fees	43.2			37.2
Other expense (income)	1.9			(3.7		)
Equity in net income of nonconsolidated affiliates	(0.8		)	(2.5		)
Income from continuing operations before income tax expense	135.9			156.5
Provision for income tax expense	27.1			30.8
Income from continuing operations	108.8			125.7
Loss from discontinued operations, net of tax	(0.1		)	(0.5		)
Net and comprehensive income	108.7			125.2
Less: Net and comprehensive income attributable to noncontrolling interests	(21.7		)	(22.9		)
Net and comprehensive income attributable to Encompass Health	$	87.0		$	102.3
Weighted average common shares outstanding:
Basic	98.2			98.4
Diluted	99.6			99.7
Earnings per common share:
Basic earnings per share attributable to Encompass Health common shareholders:
Continuing operations	$	0.88		$	1.05
Discontinued operations	—			(0.01		)
Net income	$	0.88		$	1.04
Diluted earnings per share attributable to Encompass Health common shareholders:
Continuing operations	$	0.87		$	1.04
Discontinued operations	—			(0.01		)
Net income	$	0.87		$	1.03
Amounts attributable to Encompass Health common shareholders:
Income from continuing operations	$	87.1		$	102.8
Loss from discontinued operations, net of tax	(0.1		)	(0.5		)
Net income attributable to Encompass Health	$	87.0		$	102.3

The accompanying notes to condensed consolidated financial statements are an integral part of these condensed statements.

1

Encompass Health Corporation and Subsidiaries

Condensed Consolidated Balance Sheets

(Unaudited)

	March 31, 2020		December 31, 2019
	(In Millions)
Assets
Current assets:
Cash and cash equivalents	$	104.9	$	94.8
Restricted cash	56.7		57.4
Accounts receivable	543.4		506.1
Other current assets	79.5		97.5
Total current assets	784.5		755.8
Property and equipment, net	2,003.3		1,959.3
Operating lease right-of-use assets	267.9		276.5
Goodwill	2,312.1		2,305.2
Intangible assets, net	464.7		476.3
Deferred income tax assets	1.5		2.9
Other long-term assets	303.7		304.7
Total assets(1)	$	6,137.7	$	6,080.7
Liabilities and Shareholders’ Equity
Current liabilities:
Current portion of long-term debt	$	40.2	$	39.3
Current operating lease liabilities	40.8		40.4
Accounts payable	98.0		94.6
Accrued expenses and other current liabilities	407.2		546.7
Total current liabilities	586.2		721.0
Long-term debt, net of current portion	3,321.9		3,023.3
Long-term operating lease liabilities	235.1		243.8
Other long-term liabilities	163.3		159.9
	4,306.5		4,148.0
Commitments and contingencies
Redeemable noncontrolling interests	34.0		239.6
Shareholders’ equity:
Encompass Health shareholders’ equity	1,443.9		1,352.2
Noncontrolling interests	353.3		340.9
Total shareholders’ equity	1,797.2		1,693.1
Total liabilities(1) and shareholders’ equity	$	6,137.7	$	6,080.7

⁽¹⁾  Our consolidated assets as of March 31, 2020 and December 31, 2019 include total assets of variable interest entities of $222.2 million and $215.0 million, respectively, which cannot be used by us to settle the obligations of other entities. Our consolidated liabilities as of March 31, 2020 and December 31, 2019 include total liabilities of the variable interest entities of $39.3 million and $41.1 million, respectively. See Note 2, Variable Interest Entities.

The accompanying notes to condensed consolidated financial statements are an integral part of these condensed statements.

2

Encompass Health Corporation and Subsidiaries

Condensed Consolidated Statements of Shareholders’ Equity

(Unaudited)

	Three Months Ended March 31, 2020
	(In Millions)
	Encompass Health Common Shareholders
	Number of Common Shares Outstanding		Common Stock		Capital in Excess of Par Value			Accumulated Deficit			Treasury Stock			Noncontrolling Interests			Total
Balance at beginning of period	98.6		$	1.1	$	2,369.9		$	(526.5	)	$	(492.3	)	$	340.9		$	1,693.1
Net income	—		—		—			87.0			—			19.7			106.7
Receipt of treasury stock	(0.2	)	—		—			—			(15.6		)	—			(15.6		)
Dividends declared ($0.28 per share)	—		—		(27.9		)	—			—			—			(27.9		)
Exchange of Holdings shares	0.6		—		27.1			—			19.2			—			46.3
Stock-based compensation	—		—		7.1			—			—			—			7.1
Distributions declared	—		—		—			—			—			(15.5		)	(15.5		)
Capital contributions from consolidated affiliates	—		—		—			—			—			5.8			5.8
Repurchases of common stock in open market	(0.1	)	—		—			—			(4.9		)	—			(4.9		)
Other	0.5		—		—			—			(0.3		)	2.4			2.1
Balance at end of period	99.4		$	1.1	$	2,376.2		$	(439.5	)	$	(493.9	)	$	353.3		$	1,797.2

	Three Months Ended March 31, 2019
	(In Millions)
	Encompass Health Common Shareholders
	Number of Common Shares Outstanding		Common Stock		Capital in Excess of Par Value			Accumulated Deficit			Treasury Stock			Noncontrolling Interests			Total
Balance at beginning of period	98.9		$	1.1	$	2,588.7		$	(885.2	)	$	(427.9	)	$	280.3		$	1,557.0
Net income	—		—		—			102.3			—			18.9			121.2
Receipt of treasury stock	(0.3	)	—		—			—			(15.9		)	—			(15.9		)
Dividends declared ($0.27 per share)	—		—		(26.9		)	—			—			—			(26.9		)
Stock-based compensation	—		—		7.0			—			—			—			7.0
Distributions declared	—		—		—			—			—			(15.3		)	(15.3		)
Capital contributions from consolidated affiliates	—		—		—			—			—			7.1			7.1
Fair value adjustments to redeemable noncontrolling interests	—		—		(20.3		)	—			—			—			(20.3		)
Repurchases of common stock in open market	(0.2	)	—		—			—			(11.0		)	—			(11.0		)
Other	0.7		—		2.8			—			(0.4		)	11.2			13.6
Balance at end of period	99.1		$	1.1	$	2,551.3		$	(782.9	)	$	(455.2	)	$	302.2		$	1,616.5

The accompanying notes to condensed consolidated financial statements are an integral part of these condensed statements.

3

Encompass Health Corporation and Subsidiaries

Condensed Consolidated Statements of Cash Flows

(Unaudited)

	Three Months Ended March 31,
	2020			2019
	(In Millions)
Cash flows from operating activities:
Net income	$	108.7		$	125.2
Loss from discontinued operations, net of tax	0.1			0.5
Adjustments to reconcile net income to net cash provided by operating activities—
Depreciation and amortization	58.8			52.5
Stock-based compensation	7.1			19.4
Deferred tax expense	1.4			2.6
Other, net	7.7			(0.8		)
Change in assets and liabilities, net of acquisitions—
Accounts receivable	(36.6		)	(29.6		)
Other assets	15.8			(3.8		)
Accrued payroll	(24.0		)	(14.8		)
Other liabilities	(109.6		)	11.7
Net cash used in operating activities of discontinued operations	(0.1		)	(3.0		)
Total adjustments	(79.5		)	34.2
Net cash provided by operating activities	29.3			159.9
Cash flows from investing activities:
Purchases of property and equipment	(83.5		)	(72.3		)
Acquisitions of businesses, net of cash acquired	(1.1		)	(13.7		)
Other, net	1.6			(5.5		)
Net cash used in investing activities	(83.0		)	(91.5		)
Cash flows from financing activities:
Borrowings on revolving credit facility	330.0			25.0
Payments on revolving credit facility	(25.0		)	(30.0		)
Dividends paid on common stock	(29.0		)	(28.3		)
Purchase of equity interests in consolidated affiliates	(162.3		)	—
Distributions paid to noncontrolling interests of consolidated affiliates	(19.1		)	(19.5		)
Taxes paid on behalf of employees for shares withheld	(15.6		)	(15.9		)
Other, net	(7.9		)	(13.0		)
Net cash provided by (used in) financing activities	71.1			(81.7		)
Increase (decrease) in cash, cash equivalents, and restricted cash	17.4			(13.3		)
Cash, cash equivalents, and restricted cash at beginning of period	159.6			133.5
Cash, cash equivalents, and restricted cash at end of period	$	177.0		$	120.2
Reconciliation of Cash, Cash Equivalents, and Restricted Cash
Cash and cash equivalents at beginning of period	$	94.8		$	69.2
Restricted cash at beginning of period	57.4			59.0
Restricted cash included in other long-term assets at beginning of period	7.4			5.3
Cash, cash equivalents, and restricted cash at beginning of period	$	159.6		$	133.5
Cash and cash equivalents at end of period	$	104.9		$	56.1
Restricted cash at end of period	56.7			59.0
Restricted cash included in other long-term assets at end of period	15.4			5.1
Cash, cash equivalents, and restricted cash at end of period	$	177.0		$	120.2
Supplemental schedule of noncash financing activity:
Adoption of ASC 842	$	—		$	349.4

The accompanying notes to condensed consolidated financial statements are an integral part of these condensed statements.

4

Encompass Health Corporation and Subsidiaries

Notes to Condensed Consolidated Financial Statements

1. Basis of Presentation

Encompass Health Corporation, incorporated in Delaware in 1984, including its subsidiaries, is one of the nation’s largest providers of post-acute healthcare services, offering both facility-based and home-based patient services in 37 states and Puerto Rico through its network of inpatient rehabilitation hospitals, home health agencies, and hospice agencies. We manage our operations and disclose financial information using two reportable segments: (1) inpatient rehabilitation and (2) home health and hospice. See also Note 10, Segment Reporting.

The accompanying unaudited condensed consolidated financial statements of Encompass Health Corporation and Subsidiaries should be read in conjunction with the consolidated financial statements and accompanying notes contained in Encompass Health’s Annual Report on Form 10-K filed with the United States Securities and Exchange Commission on February 27, 2020 (the “2019 Form 10‑K”). The unaudited condensed consolidated financial statements have been prepared in accordance with the rules and regulations of the SEC applicable to interim financial information. Certain information and note disclosures included in financial statements prepared in accordance with generally accepted accounting principles in the United States of America have been omitted in these interim statements, as allowed by such SEC rules and regulations. The condensed consolidated balance sheet as of December 31, 2019 has been derived from audited financial statements, but it does not include all disclosures required by GAAP. However, we believe the disclosures are adequate to make the information presented not misleading.

The unaudited results of operations for the interim periods shown in these financial statements are not necessarily indicative of operating results for the entire year. In our opinion, the accompanying condensed consolidated financial statements recognize all adjustments of a normal recurring nature considered necessary to fairly state the financial position, results of operations, and cash flows for each interim period presented.

Net Operating Revenues—

Our Net operating revenues disaggregated by payor source and segment are as follows (in millions):

	Inpatient Rehabilitation				Home Health and Hospice				Consolidated
	Three Months Ended March 31,				Three Months Ended March 31,				Three Months Ended March 31,
	2020		2019		2020		2019		2020		2019
Medicare	$	641.9	$	638.9	$	226.2	$	214.8	$	868.1	$	853.7
Medicare Advantage	111.5		85.2		29.4		25.5		140.9		110.7
Managed care	90.2		83.5		12.1		8.4		102.3		91.9
Medicaid	30.7		26.2		4.2		4.3		34.9		30.5
Other third-party payors	11.0		10.0		—		—		11.0		10.0
Workers’ compensation	6.9		8.2		0.3		0.2		7.2		8.4
Patients	5.5		6.1		0.4		0.4		5.9		6.5
Other income	11.5		12.0		0.2		0.3		11.7		12.3
Total	$	909.2	$	870.1	$	272.8	$	253.9	$	1,182.0	$	1,124.0

See Note 1, Summary of Significant Accounting Policies, to the consolidated financial statements accompanying the

2019 Form 10-K for our policy related to Net operating revenues.

Risks and Uncertainties—

The novel coronavirus disease 2019 (“COVID-19”) pandemic has caused a disruption to our nation’s healthcare system. Such disruption includes reductions in the availability of personal protective equipment (“PPE”) to prevent spread of the disease during patient treatment and increases in the cost of PPE. Generally, elective procedures were postponed by physicians and acute-care hospitals in order to prepare for the expected volume of COVID-19 patients and reduce the risk of

5

Encompass Health Corporation and Subsidiaries

Notes to Condensed Consolidated Financial Statements

exposure to COVID-19. In March, we experienced decreased volumes in both segments which we believe resulted from a number of conditions related to the COVID-19 pandemic including: lower acute-care hospital censuses due to the deferral of elective surgeries and shelter-in-place orders, restrictive visitation policies in place at acute-care hospitals that have served to severely limit access to patients and caregivers by our clinical rehabilitation liaisons and care transition coordinators, lock down of assisted living facilities, and heightened anxiety among patients and their family members regarding the risk of exposure to COVID-19 during acute-care and post-acute care treatment.

In March and April 2020, the federal government began to undertake numerous legislative and regulatory initiatives designed to provide relief to the healthcare industry during the COVID-19 pandemic. A specific initiative impacting us is the Coronavirus Aid, Relief, and Economic Security Act of 2020 (the “CARES Act”) which temporarily suspends the automatic 2% reduction of Medicare program payments known as “sequestration” for the period of May 1 through December 31, 2020 and authorizes the cash distribution of relief funds from the United States Department of Health and Human Services (“HHS”) to healthcare providers in response to the COVID-19 pandemic. On April 10, 2020, we began to receive the CARES Act relief fund payments, for which we did not apply, from HHS. To date, our inpatient rehabilitation hospitals and home health and hospice agencies have received in aggregate approximately $238 million. On May 7, 2020, we informed HHS we would not accept any of the CARES Act relief funds. We are currently seeking direction on how to process the repayment of those funds.

Additionally, the CARES Act and a series of waivers and guidance issued by the Centers for Medicare and Medicaid Services (“CMS”) suspend various Medicare patient coverage criteria and documentation and care requirements in an effort to provide regulatory relief. For inpatient rehabilitation, the regulatory relief includes the temporary suspension of the requirement that patients must be able to tolerate a minimum of 3 hours of therapy per day for 5 days per week, waiver of the requirement that at least 60% of a facility’s patients must have a diagnosis from at least 1 of 13 specified medical conditions that typically require intensive therapy and supervision, and waiver of the requirement for a physician to conduct and document a post-admission evaluation. In addition, the requirement of physician face-to-face visits at least 3 days a week may be fulfilled using telehealth. For home health, the relief includes the allowance of nurse practitioners and physician assistants under certain conditions to certify, establish and periodically review the plan of care, as well as supervise the provision of items and services for beneficiaries under the Medicare home health benefit and expands the use of telehealth. For hospice, the relief includes the temporary waiver of the requirement to use volunteers and to conduct a nurse visit every two weeks to evaluate aides, as well as the expanded use of telehealth for routine services and patient recertification.

As discussed in Note 3, Long-term Debt, in April 2020, we amended our credit agreement primarily to provide covenant relief due to business disruptions from the COVID-19 pandemic. The amendment included, among other things, the carve-out of the COVID-19 pandemic from the definition of material adverse effect for 364 days and modifications to the interest coverage and leverage ratios under the agreement.

The foregoing and other disruptions to our business as a result of the COVID-19 pandemic have had and are likely to continue to have an adverse effect on our business and could have a material adverse effect on our business, results of operations, financial condition and cash flows.

Recently Adopted Accounting Pronouncements—

In June 2016, the FASB issued ASU 2016-13, “Financial Instruments – Credit Losses (Topic 326),” which provides guidance for accounting for credit losses on financial instruments. The new guidance introduces an approach based on expected losses to estimate credit losses on certain types of financial instruments and modifies the impairment model for available-for-sale debt securities. The new guidance was effective for us beginning January 1, 2020. The adoption of this guidance resulted in an immaterial change to our condensed consolidated financial statements.

In August 2018, the FASB issued ASU 2018-15, “Intangibles—Goodwill and Other—Internal-Use Software (Subtopic 350-40): Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract.” The update helps entities evaluate the accounting for fees paid by a customer in a cloud computing arrangement (hosting arrangement), by providing guidance in determining when the arrangement includes a software license. It requires entities to account for such costs consistent with the guidance on capitalizing costs associated with developing or obtaining internal-use software. The new guidance was effective for us beginning January 1, 2020. The adoption of this guidance did not have a material impact to our condensed consolidated financial statements.

Recent Accounting Pronouncements Not Yet Adopted—

In December 2019, the FASB issued ASU 2019-12, “Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes.” The standard removes certain exceptions to the general principles of ASC 740 and simplifies other areas such as accounting for outside basis differences of equity method investments. Either prospective or retrospective transition of this

6

Encompass Health Corporation and Subsidiaries

Notes to Condensed Consolidated Financial Statements

standard is dependent upon the specific amendments. The new guidance is effective for us beginning January 1, 2021, including interim periods within that reporting period. Early adoption is permitted. We continue to review the requirements of this standard and any potential impact it may have on our condensed consolidated financial statements.

We do not believe any other recently issued, but not yet effective, accounting standards will have a material effect on our condensed consolidated financial position, results of operations, or cash flows.

2. Variable Interest Entities

As of March 31, 2020 and December 31, 2019, we consolidated nine and eight, respectively, limited partnership-like entities that are variable interest entities (“VIEs”) and of which we are the primary beneficiary. Our ownership percentages in these entities range from 50.0% to 75.0% as of March 31, 2020. Through partnership and management agreements with or governing each of these entities, we manage all of these entities and handle all day-to-day operating decisions. Accordingly, we have the decision making power over the activities that most significantly impact the economic performance of our VIEs and an obligation to absorb losses or receive benefits from the VIE that could potentially be significant to the VIE. These decisions and significant activities include, but are not limited to, marketing efforts, oversight of patient admissions, medical training, nurse and therapist scheduling, provision of healthcare services, billing, collections, and creation and maintenance of medical records. The terms of the agreements governing each of our VIEs prohibit us from using the assets of each VIE to satisfy the obligations of other entities.

The carrying amounts and classifications of the consolidated VIEs’ assets and liabilities, which are included in our consolidated balance sheet, are as follows (in millions):

	March 31, 2020		December 31, 2019
Assets
Current assets:
Cash and cash equivalents	$	1.1	$	0.2
Accounts receivable	31.3		29.3
Other current assets	7.7		6.4
Total current assets	40.1		35.9
Property and equipment, net	120.9		122.6
Operating lease right-of-use assets	5.8		6.0
Goodwill	19.2		15.9
Intangible assets, net	4.8		3.3
Other long-term assets	31.4		31.3
Total assets	$	222.2	$	215.0
Liabilities
Current liabilities:
Current portion of long-term debt	$	0.9	$	0.8
Current operating lease liabilities	1.5		1.4
Accounts payable	5.6		6.7
Accrued expenses and other current liabilities	16.6		17.0
Total current liabilities	24.6		25.9
Long-term debt, net of current portion	10.3		10.5
Long-term operating lease liabilities	4.4		4.7
Total liabilities	$	39.3	$	41.1

7

Encompass Health Corporation and Subsidiaries

Notes to Condensed Consolidated Financial Statements

3. Long-term Debt

Our long-term debt outstanding consists of the following (in millions):

	March 31, 2020			December 31, 2019
Credit Agreement—
Advances under revolving credit facility	$	350.0		$	45.0
Term loan facilities	261.9			265.2
Bonds payable—
5.125% Senior Notes due 2023	297.5			297.3
5.75% Senior Notes due 2024	697.5			697.3
5.75% Senior Notes due 2025	345.8			345.6
4.50% Senior Notes due 2028	491.9			491.7
4.75% Senior Notes due 2030	491.8			491.7
Other notes payable	44.5			44.7
Finance lease obligations	381.2			384.1
	3,362.1			3,062.6
Less: Current portion	(40.2		)	(39.3		)
Long-term debt, net of current portion	$	3,321.9		$	3,023.3

Borrowings under our revolving credit facility as of March 31, 2020 were primarily used for the purchase of equity and vested stock appreciation rights from management investors of our home health and hospice segment. For additional information see Note 4, Redeemable Noncontrolling Interests, and Note 6, Share-Based Payments.

In April 2020, we amended our existing credit agreement. The following are the changes made to the material

provisions of the credit agreement:

1. Amendment of the financial covenants to update the applicable interest coverage ratio and leverage ratio included in that covenant. The revised applicable ratios are set forth below.

Fiscal Quarters Ending	Interest Coverage Ratio
December 31, 2019 and March 31, 2020	3.00 to 1.00
June 30, 2020, September 30, 2020, December 31, 2020, March 31, 2021, June 30, 2021, September 30, 2021 and December 31, 2021	2.00 to 1.00
March 31, 2022 and thereafter	3.00 to 1.00

Fiscal Quarters Ending	Leverage Ratio
December 31, 2019 and March 31, 2020	4.50 to 1.00
June 30, 2020	4.75 to 1.00
September 30, 2020	5.50 to 1.00
December 31, 2020	6.50 to 1.00
March 31, 2021	6.50 to 1.00
June 30, 2021	6.00 to 1.00
September 30, 2021	5.50 to 1.00
December 31, 2021	5.00 to 1.00
March 31, 2022 and thereafter	4.25 to 1.00

8

Encompass Health Corporation and Subsidiaries

Notes to Condensed Consolidated Financial Statements

2. Amendment of the definition of “Material Adverse Effect” to carve out the direct and indirect impacts of COVID-19 and the related legislative, regulatory and executive actions on us from that definition for a period of 364 days; and

3. Amendment of the investment limitation covenant and the restricted payment limitation covenant, to add to each a leverage ratio condition (not in excess of 4.50x) to the provisions allowing unlimited investments and restricted payments in the event certain conditions are met including a senior secured leverage ratio (not in excess of 2:00x) and the existence of no events of default in addition to the new leverage ratio condition.

All other material terms of the existing credit agreement remain the same and are described in Note 10, Long-term Debt, to the consolidated financial statements accompanying the 2019 Form 10‑K.

4. Redeemable Noncontrolling Interests

The following is a summary of the activity related to our Redeemable noncontrolling interests during the three months ended March 31, 2020 and 2019 (in millions):

	Three Months Ended March 31,
	2020			2019
Balance at beginning of period	$	239.6		$	261.7
Net income attributable to noncontrolling interests	2.0			4.0
Distributions declared	(2.1		)	(1.8		)
Contribution to joint venture	3.1			—
Reclassification to noncontrolling interests	—			(11.2		)
Purchase of redeemable noncontrolling interests	(162.3		)	—
Exchange transaction	(46.3		)	—
Change in fair value	—			20.3
Balance at end of period	$	34.0		$	273.0

The following table reconciles the net income attributable to nonredeemable Noncontrolling interests, as recorded in the shareholders’ equity section of the condensed consolidated balance sheets, and the net income attributable to Redeemable noncontrolling interests, as recorded in the mezzanine section of the condensed consolidated balance sheets, to the Net and comprehensive income attributable to noncontrolling interests presented in the condensed consolidated statements of comprehensive income for the three months ended March 31, 2020 and 2019 (in millions):

	Three Months Ended March 31,
	2020		2019
Net income attributable to nonredeemable noncontrolling interests	$	19.7	$	18.9
Net income attributable to redeemable noncontrolling interests	2.0		4.0
Net income attributable to noncontrolling interests	$	21.7	$	22.9

On December 31, 2014, we acquired 83.3% of our home health and hospice business when we purchased EHHI Holdings, Inc. (“EHHI”). In the acquisition, we acquired all of the issued and outstanding equity interests of EHHI, other than equity interests contributed to Encompass Health Home Health Holdings, Inc. (“Holdings”), a subsidiary of Encompass Health and an indirect parent of EHHI, by certain sellers in exchange for shares of common stock of Holdings. Those sellers were members of EHHI management, and they contributed a portion of their shares of common stock of EHHI, valued at approximately $64 million on the acquisition date, in exchange for approximately 16.7% of the outstanding shares of common stock of Holdings. At any time after December 31, 2017, each management investor had the right (but not the obligation) to have his or her shares of Holdings stock repurchased by Encompass Health for a cash purchase price per share equal to the fair

9

Encompass Health Corporation and Subsidiaries

Notes to Condensed Consolidated Financial Statements

value. In February 2018, each management investor exercised the right to sell one-third of his or her shares of Holdings stock to Encompass Health, representing approximately 5.6% of the outstanding shares of the common stock of Holdings. On February 21, 2018, Encompass Health settled the acquisition of those shares upon payment of approximately $65 million in cash. In July 2019, we received additional exercise notices, representing approximately 5.6% of the outstanding shares of the common stock of Holdings. In September 2019, Encompass Health settled the acquisition of those shares upon payment of approximately $163 million in cash. In January 2020, we received additional exercise notices, representing approximately 4.3% of the outstanding shares of the common stock of Holdings. On February 18, 2020, Encompass Health settled the acquisition of those shares upon payment of approximately $162 million in cash. Upon settlement of these exercises, approximately $46 million of the shares of Holdings held by two management investors remained outstanding.

On February 20, 2020, Encompass Health entered into exchange agreements (each, an “Exchange Agreement”) with these two management investors, pursuant to which they had the right to exchange all of the remaining shares of Holdings held by them for shares of common stock of Encompass Health (the “EHC Shares”). Each of the Exchange Agreements provided that the management investor must deliver a written exchange notice (an “Exchange Notice”) to Encompass Health in order to exchange his or her remaining shares of Holdings for EHC Shares. Each Exchange Agreement further provided that the number of EHC Shares to be delivered to the management investor was to be determined by dividing the fair value of the shares of Holdings held by the management investor on the date of the Exchange Agreement by the last reported sales price of Encompass Health’s common stock on the New York Stock Exchange (the “NYSE”) on the date of delivery of the Exchange Notice.

On February 20, 2020, Encompass Health received an Exchange Notice from each of the management investors. Based on the last sales price of Encompass Health’s common stock on the NYSE on February 20, 2020, Encompass Health delivered an aggregate 560,957 EHC Shares to the management investors. The total number of EHC Shares issued pursuant to the exchange agreements on March 6, 2020 represented less than 0.6% of the outstanding shares of Encompass Health common stock. Encompass Health issued the EHC Shares from its treasury shares. Encompass Health now owns 100% of Holdings and EHHI.

See also Note 5, Fair Value Measurements.

5. Fair Value Measurements

Our financial assets and liabilities that are measured at fair value on a recurring basis are as follows (in millions):

			Fair Value Measurements at Reporting Date Using
As of March 31, 2020	Fair Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Valuation Technique (1)
Other long-term assets:
Equity securities	$	61.8	$	—	$	61.8	$	—	M
Debt securities	9.4		9.4		—		—		M
Redeemable noncontrolling interests	34.0		—		—		34.0		I
As of December 31, 2019
Other long-term assets:
Equity securities	$	63.5	$	—	$	63.5	$	—	M
Debt securities	12.6		12.6		—		—		M
Redeemable noncontrolling interests	239.6		—		—		239.6		I

⁽¹⁾ The three valuation techniques are: market approach (M), cost approach (C), and income approach (I).

10

Encompass Health Corporation and Subsidiaries

Notes to Condensed Consolidated Financial Statements

The decrease in Redeemable noncontrolling interests from December 31, 2019 to March, 31, 2020 primarily resulted from the final purchase of equity interests in Holdings from management investors discussed in Note 4, Redeemable Noncontrolling Interests.

The fair values of our financial assets and liabilities are determined as follows:

• Equity and Debt securities - The fair values of our equity and debt securities are determined based on quoted market prices in active markets or quoted prices, dealer quotations, or alternative pricing sources supported by observable inputs in markets that are not considered to be active.

• Redeemable noncontrolling interests - The fair value of the Redeemable noncontrolling interests related to our home health segment was determined using the product of a twelve-month adjusted EBITDA measure and a specified median market price multiple based on a basket of public home health companies and transactions, after adding cash and deducting indebtedness that included the outstanding principal balance under any intercompany notes. To determine the fair value of the Redeemable noncontrolling interests in our joint venture hospitals, we use the applicable hospitals’ projected operating results and cash flows discounted using a rate that reflects market participant assumptions for the applicable facilities. The projected operating results use management’s best estimates of economic and market conditions over the forecasted periods including assumptions for pricing and volume, operating expenses, and capital expenditures.

In addition, there are assets and liabilities that are not required to be measured at fair value on a recurring basis. However, these assets may be recorded at fair value as a result of impairment charges or other adjustments made to the carrying value of the applicable assets. During the three months ended March 31, 2020 and March 31, 2019, we did not record any material gains or losses related to these assets.

As discussed in Note 1, Summary of Significant Accounting Policies, “Fair Value Measurements,” to the consolidated financial statements accompanying the 2019 Form 10‑K, the carrying value equals fair value for our financial instruments that are not included in the table below and are classified as current in our condensed consolidated balance sheets. The carrying amounts and estimated fair values for all of our other financial instruments are presented in the following table (in millions):

	As of March 31, 2020				As of December 31, 2019
	Carrying Amount		Estimated Fair Value		Carrying Amount		Estimated Fair Value
Long-term debt:
Advances under revolving credit facility	$	350.0	$	350.0	$	45.0	$	45.0
Term loan facilities	261.9		263.3		265.2		266.6
5.125% Senior Notes due 2023	297.5		298.5		297.3		306.6
5.75% Senior Notes due 2024	697.5		703.5		697.3		708.8
5.75% Senior Notes due 2025	345.8		344.3		345.6		369.7
4.50% Senior Notes due 2028	491.9		491.3		491.7		519.4
4.75% Senior Notes due 2030	491.8		496.1		491.7		520.0
Other notes payable	44.5		44.5		44.7		44.7
Financial commitments:
Letters of credit	—		36.7		—		38.9

Fair values for our long-term debt and financial commitments are determined using inputs, including quoted prices in nonactive markets, that are observable either directly or indirectly, or Level 2 inputs within the fair value hierarchy. See Note 1, Summary of Significant Accounting Policies, “Fair Value Measurements,” to the consolidated financial statements accompanying the 2019 Form 10‑K.

11

Encompass Health Corporation and Subsidiaries

Notes to Condensed Consolidated Financial Statements

6. Share-Based Payments

In the first quarter of 2020, we issued a total of 0.4 million restricted stock awards to members of our management team and our board of directors. Approximately 0.2 million of these awards contain only a service condition, while the remainder contain both a service and a performance condition. For the awards that include a performance condition, the number of shares that will ultimately be granted to employees may vary based on the Company’s performance during the applicable two year performance measurement period. Additionally, we granted 0.1 million stock options to members of our management team. The fair value of these awards and options was determined using the policies described in Note 1, Summary of Significant Accounting Policies, and Note 14, Share-Based Payments, to the consolidated financial statements accompanying the 2019 Form 10‑K.

In conjunction with the EHHI acquisition discussed in Note 4, Redeemable Noncontrolling Interests, we granted stock appreciation rights (“SARs”) based on Holdings common stock to certain members of EHHI management at closing. Half of the SARs vested on December 31, 2018 and the remainder vested on December 31, 2019. Upon exercise, each SAR must be settled for cash in the amount by which the per share fair value of Holdings’ common stock on the exercise date exceeds the per share fair value on the grant date. As of December 31, 2019, the fair value of the remaining 115,545 SARs was approximately $101 million, all of which was included in Accrued expenses and other current liabilities in the condensed consolidated balance sheet. In January 2020, members of the management team exercised the remaining SARs, and in February 2020, we settled those awards upon payment of approximately $101 million in cash.

For additional information, see Note 14, Share-Based Payments, to the consolidated financial statements accompanying the 2019 Form 10‑K.

7. Income Taxes

Our Provision for income tax expense of $27.1 million and $30.8 million for the three months ended March 31, 2020 and March 31, 2019, respectively, primarily resulted from the application of our estimated effective blended federal and state income tax rate offset by tax benefits resulting from share-based compensation windfalls.

12

Encompass Health Corporation and Subsidiaries

Notes to Condensed Consolidated Financial Statements

8.Earnings per Common Share

The following table sets forth the computation of basic and diluted earnings per common share (in millions, except per share amounts):

	Three Months Ended March 31,
	2020			2019
Basic:
Numerator:
Income from continuing operations	$	108.8		$	125.7
Less: Net income attributable to noncontrolling interests included in continuing operations	(21.7		)	(22.9		)
Less: Income allocated to participating securities	(0.3		)	(0.4		)
Income from continuing operations attributable to Encompass Health common shareholders	86.8			102.4
Loss from discontinued operations, net of tax, attributable to Encompass Health common shareholders	(0.1		)	(0.5		)
Net income attributable to Encompass Health common shareholders	$	86.7		$	101.9
Denominator:
Basic weighted average common shares outstanding	98.2			98.4
Basic earnings per share attributable to Encompass Health common shareholders:
Continuing operations	$	0.88		$	1.05
Discontinued operations	—			(0.01		)
Net income	$