Business Combinations

9 Months Ended

Sep. 30, 2019

Inpatient Rehabilitation

During the nine months ended September 30, 2019, we completed the following inpatient rehabilitation acquisitions, none of which were individually material to our financial position, results of operations, or cash flows. Each acquisition was made to enhance our position and ability to provide inpatient rehabilitation services to patients in the applicable geographic areas.

•

In July 2019, we acquired approximately 51% of the operations of a 30-bed inpatient rehabilitation unit in Boise, Idaho when Saint Alphonsus Regional Medical Center contributed those operations to a joint venture with us. We funded our ownership interest in that consolidated joint venture through contributions of cash which the joint venture entity used to fund the construction of a 40-bed de novo inpatient rehabilitation hospital.


•	In September 2019, we acquired 75% of the operations of Heritage Valley Sewickley Hospital’s 11-bed inpatient rehabilitation unit in Sewickley, Pennsylvania, when Heritage Valley Health System, Inc. contributed those operations to our existing joint venture entity in connection with the opening of a new hospital.

We accounted for these transactions under the acquisition method of accounting and reported the results of operations of the acquired hospitals from its respective date of acquisition. Assets acquired were recorded at their estimated fair values as of the acquisition date. Estimated fair values were based on various valuation methodologies including: an income approach using primarily discounted cash flow techniques for the noncompete intangible assets and an income approach utilizing the relief from royalty method for the trade name intangible asset. The aforementioned income methods utilize management’s estimates of future operating results and cash flows discounted using a weighted-average cost of capital that reflects market participant assumptions. The excess of the fair value of the consideration conveyed over the fair value of the assets acquired was recorded as goodwill. The goodwill reflects our expectations of our ability to gain access to and penetrate the acquired hospital’s historical patient base and the benefits of being able to leverage operational efficiencies with favorable growth opportunities based on positive demographic trends in this market. None of the goodwill recorded as a result from these transactions are deductible for federal income tax purposes.

The fair value of the assets acquired at the acquisition date were as follows (in millions):



Identifiable intangible assets:
Noncompete agreement (useful lives of 2 years)	$	0.1
Trade name (useful life of 20 years)	0.4
Goodwill	4.8
Total assets acquired	5.3
Total liabilities assumed	0.2
Net assets acquired	$	5.1

Information regarding the net cash paid for the inpatient rehabilitation acquisitions during each period presented is as follows (in millions):



	Three Months Ended September 30,						Nine Months Ended September 30,
	2019			2018			2019			2018
Fair value of assets acquired	$	0.5		$	9.7		$	0.5		$	9.7
Goodwill	4.8			6.4			4.8			6.4
Fair value of liabilities assumed	(0.2		)	—			(0.2		)	—
Fair value of noncontrolling interest owned by joint venture partner	(5.1		)	(16.1		)	(5.1		)	(16.1		)
Net cash paid for acquisitions	$	—		$	—		$	—		$	—

Home Health and Hospice

Alacare Acquisition

In July 2019, we completed the acquisition of privately owned Alacare Home Health & Hospice (“Alacare”) for a cash purchase price of $217.5 million. The Alacare portfolio consisted of 23 home health locations and 23 hospice locations in Alabama. The acquisition was made to enhance our position and ability to provide post-acute healthcare services to patients across Alabama. We funded the transaction with cash on hand and borrowings under our revolving credit facility.

We accounted for this transaction under the acquisition method of accounting and reported the results of operations of Alacare from its date of acquisition. Assets acquired and liabilities assumed were recorded at their estimated fair values as of the acquisition date. Estimated fair values were based on various valuation methodologies including: replacement cost and continued use methods for property and equipment; an income approach using primarily discounted cash flow techniques for the noncompete and certain license intangible assets; an income approach utilizing the relief-from-royalty method for the trade name intangible asset; an income approach utilizing the excess earnings method for the certificates of need; and present value of the remaining lease payments for leases. The aforementioned income methods utilize management’s estimates of future operating results and cash flows discounted using a weighted-average cost of capital that reflects market participant assumptions. For all other assets and liabilities, the fair value was assumed to represent carrying value due to their short maturities. The excess of the fair value of the consideration conveyed over the fair value of the net assets acquired was recorded as goodwill. All goodwill recorded as a result from this transaction is deductible for federal income tax purposes. The goodwill reflects our expectations of favorable growth opportunities in the home health and hospice markets based on positive demographic trends.

The fair values recorded were based upon a preliminary valuation. Estimates and assumptions used in such valuation are subject to change, which could be significant, within the measurement period (up to one year from the acquisition date). The primary areas of the preliminary valuation that are not yet finalized relate to the fair value of amounts included in working capital. We expect to continue to obtain information to assist us in determining the fair value of the net assets acquired at the acquisition date during the measurement period.

The preliminary fair value of the assets acquired and liabilities assumed at the acquisition date were as follows (in millions):



Accounts receivable	$	10.2
Prepaid expenses and other current assets	1.7
Property and equipment, net	0.7
Identifiable intangible assets:
Noncompete agreements (useful lives of 5 years)	1.0
Trade name (useful life of 6 months)	1.0
Certificates of need (useful lives of 10 years)	34.3
Licenses (useful lives of 10 years)	14.6
Internal-use software (useful lives of 3 years)	0.1
Goodwill	163.9
Other long-term assets	5.0
Total assets acquired	232.5
Liabilities assumed:
Current portion of long-term debt	0.3
Accounts payable	1.2
Accrued payroll	8.1
Other current liabilities	2.3
Long-term operating lease liabilities	3.1
Total liabilities assumed	15.0
Net assets acquired	$	217.5

Information regarding the net cash paid for Alacare is as follows (in millions):



Fair value of assets acquired	$	68.6
Goodwill	163.9
Fair value of liabilities assumed	(15.0		)
Net cash paid for acquisition	$	217.5

Other Home Health and Hospice Acquisitions

During the nine months ended September 30, 2019, we completed the following home health and hospice acquisitions, none of which were individually material to our financial position, results of operations, or cash flows. Each acquisition was made to enhance our position and ability to provide post-acute healthcare services to patients in the applicable geographic areas. Each acquisition was funded using cash on hand.


•	In February 2019, we acquired the assets of Tidewater Home Health, PA in Columbia, South Carolina.


•	In March 2019, we acquired the assets and assumed the liabilities of two home health locations from Care Resource Group in East Providence, Rhode Island and Westport, Massachusetts.

We accounted for these transactions under the acquisition method of accounting and reported the results of operations of the acquired locations from their respective dates of acquisition. Assets acquired and liabilities assumed were recorded at their estimated fair values as of the respective acquisition dates. The fair values of identifiable intangible assets were based on valuations using an income approach. The income approach is based on management’s estimates of future operating results and

cash flows discounted using a weighted-average cost of capital that reflects market participant assumptions. The excess of the fair value of the consideration conveyed over the fair value of the net assets acquired was recorded as goodwill. The goodwill reflects our expectations of our ability to utilize the acquired locations’ mobile workforce and established relationships within each community and the benefits of being able to leverage operational efficiencies with favorable growth opportunities based on positive demographic trends in these markets. All goodwill recorded as a result of these transactions is deductible for federal income tax purposes.

The fair value of the assets acquired and liabilities assumed at the acquisition date were as follows (in millions):



Identifiable intangible assets:
Noncompete agreements (useful lives of 5 years)	$	0.2
Certificates of need (useful lives of 10 years)	2.0
License (useful life of 10 years)	0.8
Goodwill	10.8
Other assets acquired	0.2
Total assets acquired	14.0
Liabilities assumed:
Accrued payroll	0.1
Other current liabilities	0.1
Other long-term liabilities	0.1
Total liabilities assumed	0.3
Net assets acquired	$	13.7

Information regarding the net cash paid for the other home health and hospice acquisitions during each period presented is as follows (in millions):



	Three Months Ended September 30,					Nine Months Ended September 30,
	2019		2018			2019			2018
Fair value of assets acquired	$	—	$	41.0		$	3.2		$	42.0
Goodwill	—		97.0			10.8			102.1
Fair value of liabilities assumed	—		(8.3		)	(0.3		)	(8.3		)
Net cash paid for acquisitions	$	—	$	129.7		$	13.7		$	135.8

Pro Forma Results of Operations

The following table summarizes the results of operations of the above mentioned acquisitions from their respective dates of acquisition included in our consolidated results of operations and the unaudited pro forma results of operations of the combined entity had the date of the acquisitions been January 1, 2018 (in millions):



	Net Operating Revenues		Net Income Attributable to Encompass Health
Acquired entities only: Actual from acquisition date to September 30, 2019
Inpatient Rehabilitation	$	1.2	$	(1.0	)
Alacare	30.3		1.7
Other Home Health and Hospice	4.8		0.9
Combined entity: Supplemental pro forma from 07/01/2019-09/30/2019	1,162.6		97.6
Combined entity: Supplemental pro forma from 07/01/2018-09/30/2018	1,102.7		91.4
Combined entity: Supplemental pro forma from 01/01/2019-09/30/2019	3,490.3		296.7
Combined entity: Supplemental pro forma from 01/01/2018-09/30/2018	3,284.2		270.4

The information presented above is for illustrative purposes only and is not necessarily indicative of results that would

have been achieved if the acquisitions had occurred as of the beginning of our 2018 reporting period.

See Note 2, Business Combinations, to the consolidated financial statements accompanying the 2018 Form 10‑K for information regarding acquisitions completed in 2018.