Gentiva Covenant at Risk From Medicare Cuts: Corporate Finance

Cuts in Medicare payments may force Gentiva Health Services Inc. to breach a loan covenant this year, Credit Suisse AG said, as trading prices drop for debt of the largest U.S. home-health and hospice company by sales.

The federal Centers for Medicare & Medicaid Services last month proposed a 3.4 percent reduction to home health payments for 2012 to promote greater payment accuracy. New Medicare cuts issued in November forced the company to trim its projected 2011 sales by as much as $150 million to a range of $1.8 billion to $1.85 billion, Atlanta-based Gentiva said in its second-quarter earnings announcement on Aug. 4.

Medicare may be subject to further cuts if Congress fails to agree on alternative measures to remain in compliance with the debt-ceiling agreement struck this month. Gentiva receives 85.3 percent of its revenue from the program, and a further reduction in the company’s sales could cause it to fall out of compliance with its debt-to-earnings loan covenant. Its loans have fallen 3.5 percent since July 27.

“The health-care sector overall is under pressure from reimbursement rate cuts from Medicare,” Christina Padgett, a New York-based analyst at Moody’s Investors Service, said in a telephone interview. “Gentiva had a number of things happen to them in a short period of time and this was the first quarter where you saw the net impact. And they have this amorphous overhang of likely additional pressure.”

‘Negative Factors’

Moody’s put the company’s Ba3 corporate family rating on review for a possible downgrade, citing “a confluence of negative factors affecting the home health sector,” according to an Aug. 4 statement. The current rating is three steps below investment grade.

“We’ll continue to monitor the situation and potential rule changes, and once that rule is finalized, we’ll look at our business model and how we operate going forward, and act accordingly,” Tony Herrling, a spokesman for the company, said in an e-mailed statement. “We have a lot of levers that we can pull regarding costs.”

Gentiva had $1 billion of outstanding long-term debt as of June 30, according to an Aug. 8 regulatory filing, including two term loans and $325 million of 11.5 percent senior notes maturing in September 2018.

The company reported second-quarter adjusted earnings before interest, taxes, depreciation and amortization of $52.8 million, according to the Aug. 4 statement. This number isn’t comparable to past figures as it includes the results of Odyssey HealthCare Inc., acquired in August 2010.

Leverage Covenant

“As our results indicate, this has been a challenging quarter for Gentiva and our industry as a whole,” said Tony Strange, chief executive officer, in an conference call Aug. 4, following the release of the company’s earnings. “The complexity of the new regulatory requirements, along with the overall softness in healthcare services volumes, has impacted our ability to meet our growth expectations.”

If Gentiva’s earnings continue to deteriorate it could trigger the maximum consolidated leverage ratio covenant in its credit agreement, which measures the ratio of the company’s debt to Ebitda, according to Moody’s Padgett.

As of June 30, Gentiva’s leverage ratio was 3.93 times and the financial maintenance covenant requires the company to have a ratio equal to, or less than, 4.5 times on Oct. 1, the company said in the Aug. 8 filing.

In an Aug. 4 Credit Suisse research note, analysts led by Ralph Giacobbe in New York projected Gentiva will have a consolidated leverage ratio of 4.54 times in the fourth quarter, putting the company out of compliance with its covenant, which would force the company to seek a waiver from lenders.

‘Constant Communications’

“We are in constant communications with our banks,” said Herrling. “While neither we nor the banks would take any action on something that is merely a proposal, once we know what the final regulatory structure is going to be, we will look at this all again, and if there is a need to secure any waiver of covenants, we’ll address that with our banks, at the appropriate time.”

Gentiva has fallen $11.57 this month, or 64 percent, to $6.42 at 11:47 a.m. New York time in Nasdaq trading to its lowest level since January 2002. The company’s term loan B that expires August 2016 recently traded at 95.5 cents on the dollar, according to information provider Markit Group Ltd., down from 98.9 cents on July 27. A term loan B is sold mainly to non-bank lenders such as collateralized loan obligations, bank loan mutual funds and hedge funds.

Medicare Cuts

Its bonds plunged 9 cents on the dollar yesterday, to 90.25 cents, for a yield of 13.7 percent, according to Trace, the bond-price reporting system of the Financial Industry Regulatory Authority. The debt traded at 104.5 cents on July 25.

Medicare has proposed a 3.4 percent cut to home health payments for 2012, or about $640 million, according to a July 5 press release from the agency. That follows a 4.9 percent cut for this year that reduced payments by $960 million.

“There’s a sense with all the deficit-reduction issues that have been spawned by the debt-ceiling drama that if there are areas that are going to get cut that are really easy targets then home nursing is one of them,” said Arthur Henderson, a Nashville, Tennessee-based analyst at Jefferies & Co.

Cuts to the industry’s Medicare rates were on the table in debt talks led by Vice President Joe Biden, according to a slide presentation prepared by House Majority Leader Eric Cantor’s office. In the slides, the Virginia Republican cited home health and nursing homes as the target of a possible $50 billion cut over a decade. Industry lobbyists organized homecare nurses to come to Washington and lobby lawmakers against more cuts.

Further Reductions

“We’re still dealing with the same sort of issues,” said Val Halamandaris, president of the National Association for Homecare and Hospice. The Washington-based lobby group represents home care companies and not-for-profits, including Gentiva Health Services Inc. and Amedysis Inc.

Halamandaris predicts that lawmakers won’t be able to reach a deal on deficit reduction and that there will be a further 2 percent cut to his industry and others paid by Medicare. “It’s not good for anybody,” he said in a telephone interview.

The additional reductions come after the 2010 health law set up $39.7 billion cuts over 10 years to home health payments, according to the Congressional Budget Office. “That was worth doing,” Halamandaris said, because it was meant to provide stability for the industry in return for sacrifice. The new reductions mean “there wasn’t a honeymoon period,” he said.

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