ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
(Dollars in thousands, except per share and admissions data)
Forward-Looking Statements
This Quarterly Report and the documents that are incorporated by reference in this Quarterly Report contain certain forward-looking statements within the meaning of the safe harbor for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995. Forward-looking statements include all statements that do not relate solely to historical or current facts and may be identified by the use of words such as “may,” “believe,” “will,” “seeks to”, “expect,” “project,” “estimate,” “anticipate,” “plan” or “continue.” These forward-looking statements are based on the current plans and expectations and are subject to a number of risks, uncertainties and other factors which could significantly affect current plans and expectations and our future financial condition and results. Throughout this annual report and the notes to the condensed consolidated financial statements, SunLink Health Systems, Inc., and its consolidated subsidiaries are referred to on a collective basis as “SunLink”, “we”, "our”, “ours”, “us” or the “Company.” This drafting style is not meant to indicate that SunLink Health Systems, Inc. or any particular subsidiary of SunLink Health Systems, Inc. owns or operates any asset, business, or property. Healthcare services, pharmacy operations and other businesses described in this filing are owned and operated by distinct and indirect subsidiaries of SunLink Health System, Inc. These forward-looking statements are based on current plans and expectations and are subject to a number of risks, uncertainties and other factors that could significantly affect current plans and expectations and our future financial condition and results. These factors, which could cause actual results, performance, and achievements to differ materially from those anticipated, include, but are not limited to:
General Business Conditions
•general economic and business conditions in the U.S., both nationwide and in the states in which we operate;
•the effects of the coronavirus (“COVID-19”) pandemic, both nationwide and in the states in which we operate, including among other things, on demand for our customary services, the efficiency of such services, availability of staffing, availability of supplies, costs and financial results;
•the effects of COVID-19 on our ability to provide for customary services including the large number of unvaccinated persons and plateaued or stagnant vaccination and booster rates in Georgia, Louisiana and Mississippi, the primary states in which we conduct healthcare operations. Future COVID-19 or other pandemics of other contagious diseases could result in the unavailability of personnel to provide services, regulatory bans on certain services or admissions, decreased occupancy levels, increase costs, reduce our revenues and otherwise adversely affect our business;
•increases in uninsured and/or underinsured patients due to COVID-19, unemployment or other conditions, higher deductibles and co-insurance, or other terms of health insurance and drug coverage resulting in higher bad debt amounts;
•the competitive nature of the U.S. community hospital, extended care and rehabilitation center, nursing home, and pharmacy businesses;
•demographic characteristics and changes in areas where we operate, including resistance to vaccination for COVID-19;
•any new variants of the COVID-19 virus and other SARS-COV-2 viruses and other infectious diseases;
•the availability of cash or borrowings to fund working capital, renovations, replacements, expansions, and capital improvements at existing healthcare and pharmacy facilities and for acquisitions and replacement of such facilities;
15
•changes in accounting principles generally accepted in the U.S.;
•the impact of inflation on our patients, operating costs, ability and feasibility of raising funds, and on our ability to achieve cash flow and profitability, including our inability to cover cost increases because most of our revenue is from government programs whose payments are fixed; and
•fluctuations in the market value of equity securities including SunLink common shares, including fluctuations based on fears of actual inflation or recession.
Operational Factors
•the ability or inability to operate profitably in one or more segments of the healthcare business;
•the availability of, and our ability to attract and retain, sufficient qualified staff physicians, management, nurses, pharmacists, and staff personnel for our operations;
•timeliness and amount and conditions on of reimbursement payments received under government programs;
•the lack of availability of future governmental support that may be required to offset the continuing effects of the COVID-19 pandemic and absence of forgiveness features in any such future loans or an inability to meet the usage or forgiveness requirements;
•the ability to achieve compliance with requirements of the expenditure and retention of Provider Relief Funds (“PRF”);
•the ability or inability to fund our obligations under capital leases or new or existing obligations and/or any existing or potential defaults under existing indebtedness;
•restrictions imposed by existing or future contractual obligations including existing or new indebtedness;
•the cost and availability of insurance coverage including professional liability (e.g., medical malpractice) and general, employment, fiduciary, and other liability insurance;
•the efforts of governmental authorities, insurers, healthcare providers, and others to contain and reduce healthcare costs;
•the impact on hospital, clinic, and nursing home services of the treatment of patients in alternative or lower acuity healthcare settings, such as with drug therapy, in surgery centers, and urgent care centers, retirement homes or at home;
•changes in medical and other technology;
•changes in estimates of self-insurance claims and reserves;
•increases in prices of materials and services utilized in our Healthcare Services and Pharmacy segments;
•increases in wages as a result of inflation or competition for physician, nursing, pharmacy, management, and staff positions;
•any impairment in our ability to collect accounts receivable, including deductibles and co-pay amounts;
•the functionality of or costs with respect to our information systems for our Healthcare Services and Pharmacy segments and our corporate office, including both software and hardware;
•the availability of and competition from alternative drugs or treatments to those provided by our Pharmacy segment;
•the restrictions, clawbacks, processes, and conditions relating to our Pharmacy segment imposed by pharmacy benefit managers, drug manufacturers, and distributors; and
•the ability of our Pharmacy segment to sustain its claims for exemption from sales taxes position in Louisiana on any revenue from sales of products and services to beneficiaries of government insurance programs to the extent reimbursed by administrators of such programs.
16
Liabilities, Claims, Obligations and Other Matters
•claims under leases, guarantees, disposition agreements, and other obligations relating to asset sales or discontinued operations, including claims from sold or leased facilities and services, retained liabilities or retained subsidiaries;
•potential adverse consequences of any known and unknown government investigations;
•claims for medical malpractice product, environmental or other liabilities from continuing and discontinued operations;
•professional, general, and other claims which may be asserted against us, including claims based on a failure currently unknown to us of our physicians and other personnel to comply with COVID-19 vaccination mandates;
•potential damages and consequences of natural disasters and weather-related events such as tornados, earthquakes, hurricanes, flooding, snow, ice and wind damage, and population evacuations affecting areas in which we operate; and
•potential adverse contingencies of terrorist acts, crime or civil unrest.
Regulation and Governmental Activity
•negative consequences of existing and proposed governmental budgetary constraints or modification or termination of existing government programs or the implementation and related costs and disruptions of new government programs such as environmental, social and governance programs;
•negative consequences of Federal and state insurance exchanges and their rules relating to reimbursement terms;
•the continuing decision by Mississippi (where we operate our remaining hospital and nursing home) to not expand Medicaid;
•the regulatory environment for our businesses, including state certificate of need laws and regulations, pharmacy licensing laws and regulations, rules and judicial cases relating thereto;
•changes in the levels and terms of government (including Medicare, Medicaid and other programs) and private reimbursement for SunLink’s healthcare services including the payment arrangements and terms of managed care agreements; indigent care and other reimbursements (Medicare Upper Payment Limit “UPL” and Disproportionate Share Hospital “DSH” adjustments) and governmental assessments for such programs;
•the failure of government and private reimbursement to cover our increasing costs;
•changes in or failure to comply with federal, state or local laws and regulations and enforcement interpretations of such laws and regulations affecting our Healthcare Services and Pharmacy segments; and
•the possible enactment of additional federal healthcare reform laws or reform laws in states where our subsidiaries operate hospital and pharmacy facilities (including Medicaid waivers, bundled payments, managed care programs, accountable care and similar organizations, competitive bidding and other reforms).
17
Dispositions, Acquisition and Renovation Related Matters
•the ability to dispose of underperforming facilities, underperforming business segments and surplus assets;
•the availability of cash and the terms of capital to fund acquisitions or replacement facilities, improvements or renovations to existing facilities or both; and
•competition in the market for acquisitions of hospitals, rehabilitation centers, nursing homes, pharmacy facilities, and other healthcare businesses.
The foregoing are significant factors we think could cause our actual results to differ materially from expected results. However, there could be additional factors besides those listed herein that also could affect SunLink in an adverse manner. You should read this Quarterly Report completely and with the understanding that actual future results may be materially different from what we expect. You are cautioned not to unduly rely on forward-looking statements when evaluating the information presented in this Quarterly Report or our other disclosures because current plans, anticipated actions, and future financial conditions and results may differ from those expressed in any forward-looking statements made by or on behalf of SunLink.
We have not undertaken any obligation to publicly update or revise any forward-looking statements. All of our forward-looking statements speak only as of the date of the document in which they are made or, if a date is specified, as of such date. We disclaim any obligation or undertaking to provide any updates or revisions to any forward-looking statement to reflect any change in our expectations or any changes in events, conditions, circumstances or information on which the forward-looking statement is based, except as required by applicable law. All subsequent written and oral forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by the foregoing factors and the other risk factors set forth elsewhere in this report.
Business Strategy: Operations, Dispositions and Acquisitions
The business strategy of SunLink is to focus its efforts on improving its operations and services generally and achieving and maintaining profitability in its existing Healthcare Services and Pharmacy businesses. While the Company intends primarily to pursue that business strategy, the Company also intends to pursue growth by selective healthcare and pharmacy acquisitions subject to available capital and other resources. We believe; however, the COVID-19 pandemic and its aftermath have resulted in substantial additional uncertainties and risks in our businesses which are not subject to reliable estimation at this time, particularly because the COVID-19 pandemic was novel in nature, its effects uncertain in duration, and may be materially affected by government actions. In response to the pandemic, the Company has discontinued certain services, laid off or furloughed employees where necessary, reduced cash outlays where practicable, and deferred other strategic activities. Our ability to resume fully the pursuit of our normal business strategy in the aftermath of the COVID-19 pandemic, including growth initiatives, has been challenging and will continue to depending on the effect of, among other things, the nature, extent and timing its lasting effects and potential new COVID-19 variants or other pandemics, and government actions in response thereto.
The Company expects to use existing cash primarily to sustain it operations for growth initiatives, including acquisitions, when available and appropriate, and for other general corporate purposes. There is no assurance that any acquisitions or dispositions of assets will be authorized by the Company’s Board of Directors or, if authorized, that any such transactions will be completed. Although the Company believes certain portions of its businesses continue to under-perform, and the Company periodically entertains overtures for the purchase of its businesses or offers portions of its businesses for sale when deemed appropriate.
COVID-19 Pandemic and CARES Act Funding
COVID-19 was declared a global pandemic by the World Health Organization on March 11, 2020 and we continue to monitor the impact on our operations of the COVID-19 pandemic and its aftermath. In certain of our healthcare businesses, we experienced operational disruptions, COVID-19 illness, including deaths, and some employees who tested positive and were placed on leave or in quarantine. We believe the effect of the COVID-19 pandemic and certain public and certain governmental responses to it have in varying degrees negatively affected each of our last twelve quarter’s results.
18
During the COVID-19 pandemic and its aftermath our Healthcare business experienced material reductions in demand and net revenues in. Shortages of and increased cost of certain medical supplies and equipment related to the COVID-19 pandemic as well as increases in the levels of salaries, wages and benefits, have continued adversely to affect our Healthcare businesses. In addition, we experienced loss of some employees, including clinical staff, believed due to, among other things, federally mandated vaccination of healthcare workers against COVID-19.
Our Pharmacy business also experienced reduced sales trends in certain areas, increased costs and reduced staff due to the COVID-19 pandemic and its aftermath as well as material reductions in demand and net revenues. Many of our primary physician referral sources operated at reduced capacity, and not all have resumed operating at full capacity. We believe the COVID-19 pandemic and its aftermath continues negatively to affect the cost of, and result in a lack of, inventory for, certain DME products and Retail and Institutional Pharmacy drugs and products. Our Institutional Pharmacy services also experienced increased costs and operational inefficiencies due to measures taken by us and restrictions implemented by our institutional customers in response to the COVID-19 pandemic and its aftermath.
Our Healthcare and Pharmacy segments have received approximately $6,182 in general and targeted Provider Relief Funds ("PRF") during the period April 1, 2020 through December 31, 2022 under the CARES Act, which was enacted in March 2020 in response to the COVID-19 pandemic. The PRF distributions have been accounted for as government grants, and a total of $5,713 have been recognized since April l, 2020 as other income under the gain contingency recognition method.
During the quarter ended June 30, 2020, our Healthcare and Pharmacy segments received $3,234 in Paycheck Protection Plan (“PPP”) loans provided under the CARES Act. These loans were forgivable upon compliance with conditions specified under the PPP loan program. As of December 31, 2022, all our PPP loans have been forgiven.
The Taxpayer Certainty and Disaster Tax Relief Act of 2020, enacted December 27, 2020, made a number of changes to employer retention tax credits previously made available under the CARES Act, including modifying and extending the Employee Retention Credit ("ERC") for the six calendar months ending June 30, 2021. As a result of such legislation, the Company qualified for ERC for the first and second calendar quarters of 2021 due to the decrease in its gross receipts and has applied for ERC of $3,586 through amended quarterly payroll tax filings for the applicable quarters. Through the date of this filing, the Company has received all of the ERC which we applied for. We continue to monitor compliance with the terms and conditions of the ERC and PPP programs and developing interpretations and enforcement of the ERC and PPP program rules and the regulations.
PRF distributions, PPP loan forgiveness and other grants received during the pandemic are subject to Federal audits and Single Audits and not subject to repayment provided we are able to attest to and comply with the terms and conditions of the funding, including demonstrating that the funds received have been used for designated, allowable healthcare-related expenses and capital expenditures attributable to COVID-19 and for "Lost Revenues" as defined by the department of “HHS”. We continue to monitor compliance with the terms and conditions such funds received, as well as the impact of the pandemic on our revenues and expenses. If we are unable to attest to or comply with current or future terms and conditions, and there is no assurance we will continue to be able to do so, our ability to retain some or all of such funds received may be impacted, and we may have to return the unutilized portion of those funds, if any, in the future. The Company filed its Schedule of Grant Income of HHS awards and audit report for the year ended June 30, 2021 with the Health Resources and Services Administration (“HRSA”) agency of HHS on September 30, 2022.
The Company is unable to determine the extent to which the COVID-19 pandemic and its aftermath will continue to affect its assets and operations. Our ability to make estimates of any continuing effect of the COVID-19 pandemic on revenues, expenses or changes in accounting judgments that have had or are reasonably likely to have a material effect on our financial statements is currently limited. The nature and extent of the continuing effect of the COVID-19 pandemic and its aftermath on our balance sheet and results of operations will depend on the severity and length of the evolving strains of COVID-19; any further government actions and regulatory changes to address the continuing effect of the pandemic; regulatory changes in response to the pandemic, especially those that affect our hospital, extended care, rehabilitation center, nursing home, clinics, and our pharmacy operations; existing and
19
potential government assistance that may be provided; and the requirements of PRF, including our ability to retain such PRF received.
For additional discussion of the risks presented by continuing effects of the COVID-19 pandemic to our results, see Risk Factors in Part II, Item 1A of this Form 10-Q.
Critical Accounting Estimates
The preparation of financial statements in accordance with U.S. GAAP requires us to make estimates and assumptions that affect reported amounts and related disclosures. We consider an accounting estimate to be critical if it requires assumptions to be made that were uncertain at the time the estimate was made; and changes in the estimate or different estimates that could have been made could have a material impact on our consolidated results of operations or financial condition.
Our critical accounting estimates are more fully described in our 2022 Annual Report on Form 10-K and continue to include the following areas: receivables – net and provision for doubtful accounts; revenue recognition and net patient service revenues; goodwill, intangible assets and accounting for business combinations; professional and general liability claims; and accounting for income taxes. There have been no material changes in our critical accounting estimates for the periods presented other than amounts readily computable from the financial statements included in this form 10-Q.
Financial Summary
The Company’s operations for the three and six months ended December 31, 2022 continued, although mitigated somewhat from prior quarters, to be impacted by the effects of the COVID-19 pandemic, including among other factors, difficulty hiring qualified employees, rising labor costs and supply chain challenges resulting in inability to obtain pharmacy and DME products on a timely, cost effective basis.
The results of continuing operations shown in the financial summary below are for our two business segments, Healthcare Services and Pharmacy.
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Three Months Ended |
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Six Months Ended |
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|
December 31, |
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|
December 31, |
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|
|
2022 |
|
|
2021 |
|
|
% Change |
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|
2022 |
|
|
2021 |
|
|
% Change |
|
Net Revenues - Healthcare Services |
|
$ |
3,940 |
|
|
$ |
3,335 |
|
|
|
18.1 |
% |
|
$ |
7,724 |
|
|
$ |
6,833 |
|
|
|
13.0 |
% |
Net Revenues - Pharmacy |
|
|
10,452 |
|
|
|
7,076 |
|
|
|
47.7 |
% |
|
|
17,705 |
|
|
|
14,103 |
|
|
|
25.5 |
% |
Total Net Revenues |
|
|
14,392 |
|
|
|
10,411 |
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|
|
38.2 |
% |
|
|
25,429 |
|
|
|
20,936 |
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|
|
21.5 |
% |
Costs and expenses |
|
|
(12,352 |
) |
|
|
(11,483 |
) |
|
|
7.6 |
% |
|
|
(25,002 |
) |
|
|
(23,001 |
) |
|
|
8.7 |
% |
Operating profit (loss) |
|
|
2,040 |
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|
|
(1,072 |
) |
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|
(290.3 |
)% |
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|
427 |
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|
|
(2,065 |
) |
|
|
(120.7 |
)% |
Interest income (expense) - net |
|
|
9 |
|
|
|
(3 |
) |
|
|
(400.0 |
)% |
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|
5 |
|
|
|
(17 |
) |
|
|
(129.4 |
)% |
Federal stimulus - Provider relief funds |
|
|
0 |
|
|
|
614 |
|
|
NA |
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|
|
61 |
|
|
|
614 |
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|
|
(90.1 |
)% |
Forgiveness of PPP loans and accrued interest |
|
|
0 |
|
|
|
0 |
|
|
NA |
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|
|
0 |
|
|
|
3,010 |
|
|
NA |
|
Gain on sale of assets |
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|
2 |
|
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|
7 |
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|
(71.4 |
)% |
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|
14 |
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|
|
12 |
|
|
|
16.7 |
% |
Earnings (loss) from continuing operations before income taxes |
|
$ |
2,051 |
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|
$ |
(454 |
) |
|
NA |
|
|
$ |
507 |
|
|
$ |
1,554 |
|
|
|
(67.4 |
)% |
20
Results of Operations
Our net revenues are from our two business segments, Healthcare Services and Pharmacy. The Company’s revenues by payor were as follows for the three and six months ended December 31, 2022 and 2021:
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Three Months Ended |
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Six Months Ended |
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|
December 31, |
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December 31, |
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2022 |
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2021 |
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2022 |
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2021 |
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Medicare |
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$ |
4,734 |
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|
$ |
5,292 |
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$ |
9,747 |
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$ |
10,347 |
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Medicaid |
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|
3,183 |
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|
|
2,699 |
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|
|
6,039 |
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|
|
5,067 |
|
Retail and Institutional Pharmacy |
|
|
4,278 |
|
|
|
1,396 |
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|
|
5,777 |
|
|
|
2,963 |
|
Managed Care & Other Insurance |
|
|
2,129 |
|
|
|
1,074 |
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|
|
3,514 |
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|
|
2,394 |
|
Self-pay |
|
|
32 |
|
|
|
(81 |
) |
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|
291 |
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|
|
103 |
|
Other |
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|
36 |
|
|
|
31 |
|
|
|
61 |
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|
|
62 |
|
Total Net Revenues |
|
$ |
14,392 |
|
|
$ |
10,411 |
|
|
$ |
25,429 |
|
|
$ |
20,936 |
|
The Healthcare Services segment in the current year is composed of one hospital, one extended care and rehabilitation center and four clinics, a subsidiary which provides information technology services to outside customers and SunLink subsidiaries and two subsidiaries holding undeveloped real estate. Healthcare Services net revenues increased $605, or 18%, for the three months period and increased $891 or 13% for the six month period ended December 31, 2022 compared to the prior year periods. Increased revenues were primarily from increased extended care patient days and admissions this year.
Pharmacy segment net revenues for the three months period ended December 31, 2022 increased $3,376 or 48% from the three months period ended December 31, 2021 and increased $3,602 or 26% from the six months period ended December 31, 2022. The increased net revenues include the recognition of prior periods' accrued sales tax of $2,615 in the three months ended December 31, 2022.
Retail pharmacy sales increased 16% for the three month period ended December 31, 2022 from the prior year period due to a 13% increase in per script net revenues and a 2% increase in scripts filled. Institutional pharmacy sales increased 10% for the three month period ended December 31, 2022 from the prior year period due to a 4% increase in per script net revenues and 8% increase in scripts filled. Durable Medical Equipment (“DME”) sales increased 2% for the three month period ended December 31, 2022 from the prior year period due to a 3% increase in per order net revenues despite a 1% decrease in DME orders filled.
Retail pharmacy sales increased 11% for the six month period ended December 31, 2022 from the prior year period due to a 13% increase in per script net revenues. Institutional pharmacy sales increased 10% for the six month period ended December 31, 2022 from the prior year period due to a 4% increase in per script net revenues and 8% increase in scripts filled. Durable Medical Equipment (“DME”) sales decreased 2% for the six month period ended December 31, 2022 from the prior year period due to a 5% decrease in DME orders filled.
21
Costs and expenses, including depreciation and amortization, were $12,352 and $11,483 for the three months ended December 31, 2022 and 2021, respectively. Costs and expenses, including depreciation and amortization, were $25,002 and $23,001 for the six months ended December 31, 2022 and 2021, respectively.
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Cost and Expenses
as a % of Net Revenues |
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Three Months Ended |
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Six Months Ended |
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|
|
December 31, |
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|
December 31, |
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|
|
2022 |
|
|
2021 |
|
|
2022 |
|
|
2021 |
|
Cost of goods sold |
|
|
31.4 |
% |
|
|
38.6 |
% |
|
|
35.0 |
% |
|
|
38.4 |
% |
Salaries, wages and benefits |
|
|
32.4 |
% |
|
|
46.0 |
% |
|
|
39.3 |
% |
|
|
45.3 |
% |
Supplies |
|
|
2.8 |
% |
|
|
3.0 |
% |
|
|
2.9 |
% |
|
|
2.9 |
% |
Purchased services |
|
|
6.9 |
% |
|
|
7.6 |
% |
|
|
8.0 |
% |
|
|
7.9 |
% |
Other operating expenses |
|
|
8.7 |
% |
|
|
10.6 |
% |
|
|
9.2 |
% |
|
|
10.4 |
% |
Rent and lease expense |
|
|
0.9 |
% |
|
|
1.2 |
% |
|
|
1.0 |
% |
|
|
1.4 |
% |
Depreciation and amortization expense |
|
|
2.7 |
% |
|
|
3.6 |
% |
|
|
3.0 |
% |
|
|
3.3 |
% |
Almost all categories of costs and expenses decreased as a percent of net revenues in the three and six months ended December 31, 2022 compared to the prior fiscal year due to the increased net revenues this year which included the sales tax recognition of $2,615. Cot of goods sold increased in total due to higher cost of certain pharmaceuticals and DME products which resulted from supply chain issues. Salaries, wages and benefits ("SWB")increased in total for the six months ended December 31, 2022 compared to the prior period last year due to higher salaries and wages required in connection with current labor markets and operating challenges of labor allocation relating to the pandemic, including contract labor. For the three months ended December 31, 2022, SWB decreased 3% for the same period last year, due primarily to cost reduction efforts at our Healthcare Services facility. Purchased services cost increased this year due to increased cost of fuel, outsourcing at our Healthcare Services facility of certain services (due to challenges in hiring labor locally) and increased costs of software support services. Depreciation expense also increased this year due to the $3,190 of capital expenditures last fiscal year.
Operating Profit (Loss)
The Company reported an operating profit of $2,040 and $427 for the three and six months periods ended December 31, 2022 compared to operating losses of $1,072 and $2,065 for the three and six months periods ended December 31, 2021 due to the increased net revenues this year due to the sales tax recognition of $2,615 in the three months ended December 31, 2022.
Forgiveness of PPP loans and accrued interest
During the six months ended December 3, 2021, $2,972 of our PPP loans and related $38 of accrued interest were forgiven by the SBA and $3,010 was recorded as income relating to PPP loan.
Other Income – Federal Stimulus – Provider relief funds
As part of the CARES Act, two subsidiaries have received PRF payments. The Company recognized $0 and $614 during the three months ended December 31, 2022 and 2021, respectively and recognized $61 and $614 during the six months ended December 31, 2022 and 2021, respectively.
Income Taxes
Income tax benefit of $1 (all state taxes) and income tax expense of $23 (all state taxes) was recorded for continuing operations for the three months ended December 31, 2022 and 2021, respectively. Income tax benefit of $1 (all state taxes) and income tax expense of $25 (all state taxes) was recorded for continuing operations for the six months ended December 31, 2022 and 2021, respectively.
Of the CARES Act provisions, the currently most material income tax considerations affecting the Company are related to the amounts for ERC and amounts received as general and targeted PRF. Based on the latest published IRS guidance as of the preparation of the December 31, 2022 financial statements, PRF (to the extent the applicable terms and conditions required to retain the funds are met “Retainable PRF”) are fully includable in taxable income in
22
the Company’s tax returns in the fiscal year received. ERC are included in taxable income in the quarter in which the payroll expenses which the credits offset are deductible. ERC results in qualified wages being disallowed as a deduction for the portion of the wages paid equal to the sum of the payroll tax credit taken in the associated quarter. For amounts received and forgiven under the PPP loans, due to the enactment of the Consolidated Appropriations Act, 2021, on December 27, 2020, Congress specifically allowed the deduction of any expenses associated with forgiven PPP loan proceeds. Our assumption at December 31, 2022 that all PPP loan associated expenses will be deductible for income tax.
In accordance with the Financial Accounting Standards Board Accounting Standards Codification (“ASC”) 740, we evaluate our deferred taxes quarterly to determine if adjustments to our valuation allowance are required based on the consideration of available positive and negative evidence using a “more likely than not” standard with respect to whether deferred tax assets will be realized. Our evaluation considers, among other factors, our historical operating results, our expectation of future results of operations, the duration of applicable statuary carryforward periods and conditions of the healthcare industry. The ultimate realization of our deferred tax assets depends primarily on our ability to generate future taxable income during the periods in which the related temporary differences in the financial basis and the tax basis of the assets become deductible. The value of our deferred tax assets will depend on applicable income tax rates.
At December 31, 2022, consistent with the above process, we evaluated the need for a valuation allowance against our deferred tax assets and determined that it was more likely than not that none of our deferred tax assets would be realized. As a result, in accordance with ASC 740, we recognized a valuation allowance of $7,759 against the deferred tax asset so that there is no net long-term deferred income tax asset at December 31, 2022. We conducted our evaluation by considering available positive and negative evidence to determine our ability to realize our deferred tax assets. In our evaluation, we gave more significant weight to evidence that was objective in nature as compared to subjective evidence. Also, more significant weight was given to evidence that directly related to our current financial performance as compared to less current evidence and future performance. A long-term deferred tax liability of $69 is recorded at December 31, 2022 to reflect the deferred tax liability for the non-amortizing trade name intangible asset.
The principal negative evidence that led us to determine at December 31, 2022 that all the deferred tax assets should have full valuation allowances was the projected current fiscal year tax loss. For purposes of evaluating our valuations allowances, we have disregarded unusual items associated with the CARES Act discussed above, the Company’s history of losses, as well as the underlying negative business conditions for rural healthcare in which our Healthcare Services operates, and we have recognized none of our federal income tax net operating loss carry-forward of approximately $21,772.
For federal income tax purposes, at December 31, 2022, the Company had approximately $21,772 of estimated net operating loss carry-forwards available for use in future years subject to the limitations of the provisions of Internal Revenue Code Section 382. These net operating loss carryforwards expire primarily in fiscal year 2023 through fiscal year 2038; however, with the enactment of the Tax Cut and Jobs Act on December 22, 2017, federal net operating loss carryforwards generated in taxable years beginning after December 31, 2017 now have no expiration date. The Company’s returns for the periods prior to the fiscal year ended June 30, 2018 are no longer subject to potential federal and state income tax examination.
Earnings (Loss) from Continuing Operations after Income Taxes
The earnings from continuing operations after income tax was $2,052 for the three months ended December 31, 2022 as compared to a loss from continuing operations after income tax of $ 477 for the three months ended December 31, 2021. The increase in earnings results from the increased net revenues of $2,615 resulting from the recognition of accrued sales tax payable. The earnings from continuing operations after income tax was $508 for the six months ended December 31, 2022 as compared to earnings from continuing operations after income tax of $1,529 for the six months ended December 31, 2021.The decreased earning from continuing operation compared to the prior year income from continuing operations was due to the non-reoccurrence of the PPP loan forgiveness this year.
Loss from Discontinued Operations after Income Taxes
The loss from discontinued operations after income taxes was $101 for the three month period ended December 31, 2022 compared to a loss from discontinued operations after income taxes of $116 for the three months period ended December 31, 2021. The loss from discontinued operations after income taxes was $115 for the six month
23
period ended December 31, 2022 compared to a loss from discontinued operations after income taxes of $183 for the three months period ended December 31, 2021. The loss from discontinued operations this year results primarily from legal expenses related to a nursing home the Company sold in 2019. The loss from discontinued operations for the periods ended December 31, 2021 are for the settlement of a workers' compensation claim remaining from a sold business and pension expense for a sold business
Discontinued Operations
Sold Hospitals and Nursing Homes– Subsidiaries of the Company have sold substantially all the assets of four hospitals and a nursing home (“Sold Facilities”) during the period July 2, 2012 to March 17, 2019. The loss before income taxes on the Sold Facilities results primarily from legal expense related to a nursing home the Company sold in 2019, the effects of retained professional liability insurance and claims expenses and settlement of a lawsuit.
Life Sciences and Engineering Segment —SunLink retained a defined benefit retirement plan which covered substantially all of the employees of this segment when the segment was sold in fiscal 1998. Effective February 28, 1997, the plan was amended to freeze participant benefits and close the plan to new participants. Pension expense and related tax benefit or expense is reflected in the results of operations for this segment for the three and six months ended December 31, 2022 and 2021, respectively.
Net Earnings (Loss)
Net earnings for the three months period ended December 31, 2022 was $1,951 ($0.28 per fully diluted share) as compared to a net loss of $593 (or a loss of $0.09 per fully diluted share) for the three months period ended December 31, 2021. Net earnings for the six months period ended December 31, 2022 was $393 ( $0.06 per fully diluted share) as compared to net earnings of $1,346 ($0.19 per fully diluted share) for the six months period ended December 31, 2021.
Liquidity and Capital Resources
Overview
Our primary source of liquidity is unrestricted cash on hand, which was $5,156 at December 31, 2022. The Company also received a payment of approximately $1,737 from its ERC filing in early January 2023. The Company and its subsidiaries currently are funding working capital needs primarily from cash on hand. From time-to-time, we may, nevertheless, seek to obtain financing for the liquidity needs of the Company or individual
24
subsidiaries based on anticipated need. However, currently, the Company’s ability to raise capital (debt or equity) in the public or private markets on what it considers acceptable terms is uncertain.
CARES Act Funds - The CARES Act was enacted by the U.S. government on March 27, 2020. Among the relief provided to health care providers under the CARES Act are grants under PRF and forgivable loans under PPP. We have received a total of $9,416 under the CARES Act programs consisting of $6,182 in general and targeted PRF and $3,234 of PPP loans. During the first two calendar quarters of 2021, the Company became eligible for, and we applied for $3,586 of ERC through amended quarterly payroll tax filings, all of which the Company has received as of the date of this filing.
Subject to the effects, risks and uncertainties associated with the COVID-19 pandemic and our ability to retain the CARES funds described above, we believe we have adequate financing and liquidity to support our current level of operations through the next twelve months.
Contractual Obligations, Commitments and Contingencies
Contractual obligations, commitments and contingencies related to outstanding debt, noncancelable operating leases and interest on outstanding debt from continuing operations at December 31, 2022 were as follows:
|
|
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|
|
|
|
|
|
|
|
|
|
|
Payments
due within: |
|
|
|
Long-Term
Debt |
|
|
Operating
Leases |
|
|
Interest on
Outstanding
Debt |
|
1 year |
|
|
|
$ |
30 |
|
|
$ |
361 |
|
|
$ |
1 |
|
2 years |
|
|
|
|
0 |
|
|
|
348 |
|
|
|
0 |
|
3 years |
|
|
|
|
0 |
|
|
|
309 |
|
|
|
0 |
|
4 years |
|
|
|
|
0 |
|
|
|
42 |
|
|
|
0 |
|
5 years |
|
|
|
|
0 |
|
|
|
9 |
|
|
|
0 |
|
Over 5 years |
|
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
|
|
$ |
30 |
|
|
$ |
1,069 |
|
|
$ |
1 |
|
As of December 31, 2022, we had outstanding debt of $30 of capital lease debt.
The Company expects to purchase approximately $1,000 of capitalizable DME by the Pharmacy segment (to be rented to customers) during the next twelve months. The timing and actual amount which will be expended is difficult to predict due to various factors including varying demand for such equipment as well as its availability given current supply sourcing challenges. Other capital expenditures for replacement and upgrade of current facilities and equipment of the Healthcare Services and Pharmacy segments will be needed during the next twelve months although there is no estimate of those expenditures. The Company anticipates funding such expenditures primarily from cash on hand. Other cash expenditures for the next twelve months currently are expected to be in-line with expenditures for the six months ended December 31, 2022, subject to further operating and administrative cost increases, and other settlements of cost reports in the ordinary course of business, and the Company’s ability to retain unrecognized CARES Act grants, PPP funds and ERC funds received or previously received. Other than reported above, there have been no material changes outside the ordinary course of business relating to our upcoming cash obligations which have occurred during the six months ended December 31, 2022. Other than with respect to scheduled cash expenditures (based on current operating levels) for long-term debt, operating leases, and interest on current outstanding debt, the debt, the specific items previously disclosed here, as well as continued uncertainties relating to the continuing impact of the COVID-19 pandemic, the Company is currently unaware of other trends or unusual uncertainties that are likely to cause a material change in its cash expenditures in periods beyond the next twelve months. See Notes 7, 9, 10, and 11 to our financial statements. The Company is also unaware of events that are reasonably likely to cause a material change in the relationship between its costs and revenues (such as known or reasonably likely future increases in costs of labor or materials, price increases or inventory adjustments, beyond those discussed herein); however, we are unable
25
to predict with any degree of accuracy when, or the extent to which, recent inflationary price trends, labor disruptions and supply chain challenges in 2021 and 2022 will mitigate.
Related Party Transactions
A director of the Company is a member of a law firm which provides services to SunLink. The Company expensed an aggregate of $130 and $66 for legal services to this law firm in the three months ended December 31, 2022 and 2021, respectively. The Company expensed an aggregate of $185 and $111 for legal services to this law firm in the six months ended December 31, 2022 and 2021, respectively. Included in the Company’s condensed consolidated balance sheets at December 31, 2022 and June 30, 2022 is $120 and $15, respectively,