Item 1. Business
Overview
Tivity Health, Inc. was founded and incorporated in Delaware in 1981. Through our three programs, SilverSneakers® senior fitness, Prime® Fitness and WholeHealth LivingTM, we are focused on advancing long-lasting health and vitality, especially in aging populations. The SilverSneakers senior fitness program is offered to members of Medicare Advantage, Medicare Supplement, and Group Retiree plans. We also offer Prime Fitness, a fitness facility access program, through commercial health plans and employers. Our national network of fitness centers delivers both SilverSneakers and Prime Fitness. In addition, a small portion of our fitness center network is available for discounted access through our WholeHealth Living program. Our fitness network encompasses approximately 16,000 participating locations and more than 1,000 alternative locations that provide classes outside of traditional fitness centers. Through our WholeHealth Living program, which we sell primarily to health plans, we offer a continuum of services related to complementary, alternative, and physical medicine. Our WholeHealth Living programs include relationships with over 80,000 complementary, alternative, and physical medicine practitioners to serve individuals through health plans and employers who seek health services such as chiropractic care, acupuncture, physical therapy, occupational therapy, speech therapy, and more.
Effective July 31, 2016, we sold our total population health services ("TPHS") business to Sharecare, Inc. ("Sharecare"). The TPHS business took a systematic approach to keeping healthy people healthy, eliminating or reducing lifestyle risks and optimizing care for persistent or chronic conditions. The TPHS business included our partnerships with Blue Zones, LLC, and Dr. Dean Ornish (the Blue Zones Project by Healthways™ and Dr. Dean Ornish's Program for Reversing Heart Disease™, respectively), our joint venture with Gallup, Inc. ("Gallup"), Navvis Healthcare, LLC ("Navvis"), MeYou Health, LLC ("MeYou Health"), and our international operations. While Navvis and MeYou Health were part of our TPHS business, they were sold separately to other buyers in November 2015 and June 2016, respectively. Results of operations for the TPHS business have been classified as discontinued operations for all periods presented in the consolidated financial statements.
The Company is headquartered at 701 Cool Springs Boulevard, Franklin, Tennessee 37067.
Customer Contracts
Our customer contracts generally have initial terms of approximately three years. Some of our contracts allow the customer to terminate early and/or determine on an annual basis to which of their members they will offer our programs.
Business Strategy
Our "A-B-C-D" strategy, which will leverage both our traditional physical footprint and developing digital platforms, is designed to (A) add new members in our three existing networks - SilverSneakers®, Prime® Fitness and WholeHealth LivingTM, (B) build engagement and participation among our current eligible members, (C) collaborate with partners to add new products and services that will leverage the value of our brand, and (D) deepen relationships with our partners and their instructors within our national network. In addition to the A-B-C-D strategy, we are focused on supporting the ability of our health plan customers to meet the needs of their members as well as providing a valuable service to improve the health and well-being of the consumers we serve through our networks and with our programs.
We engage and support our members based on the needs and preferences of our customers. Within our fitness networks, we have approximately 16,000 participating locations and more than 1,000 alternative locations that provide classes outside of traditional fitness centers. More than 14,000 of these participating locations within the national network deliver our proprietary SilverSneakers fitness program, and more than 10,000 of these locations offer Prime Fitness.
Segment and Major Customer Information
We have one operating and reportable segment. During 2017, Humana, Inc. ("Humana") and United Healthcare, Inc. ("United Healthcare") each comprised more than 10%, and together comprised approximately 38%, of our revenues from continuing operations. Our primary contract with Humana was renewed in 2018 and continues through December 31, 2022. Our primary contract with United Healthcare continues through December 31, 2020. No other customer accounted for 10% or more of our revenues from continuing operations in 2017. See Note 19 to the notes to consolidated financial statements included in this Report relating to revenues from external customers and customer concentration.
Competition
The healthcare industry is highly competitive, and the manner in which services are provided is subject to continual change. Other entities, whose financial and marketing resources may exceed our resources, may choose to initiate or expand programs in competition with our offerings.
We believe we have certain advantages over our competitors such as our proprietary class programming; the brand recognition of programs such as SilverSneakers; the depth and breadth of our fitness center network relationships, which encompass approximately 16,000 participating locations; and the trusting connections with our members developed over 25 years that have generated nearly 600 million member visits to participating locations. However, we cannot assure you that we can compete effectively with other entities such as those noted above.
Industry Integration and Consolidation
Consolidation remains an important factor in all aspects of the healthcare industry. While we believe the size of our membership base provides us with the economies of scale to compete even in a consolidating market, we cannot assure you that we can effectively compete with companies formed as a result of industry consolidation or that we can retain existing customers if they are acquired by other entities that already have or contract for programs similar to ours or are not interested in our programs.
Governmental Regulation
Governmental regulation impacts us in a number of ways in addition to those regulatory risks presented under Item 1A.
Item 1A. Risk Factors
In the execution of our business strategy, our operations and financial condition are subject to certain risks. A summary of certain material risks is provided below, and you should take such risks into account in evaluating any investment decision involving the Company. This section does not describe all risks applicable to us and is intended only as a summary of certain material factors that could impact our operations in the industry in which we operate. Other sections of this Report contain additional information concerning these and other risks.
A significant percentage of our revenues is derived from health plan customers.
A significant percentage of our revenues is derived from health plan customers. The health plan industry may continue to consolidate, and we cannot assure you that we will be able to retain health plan customers, or continue to provide our products and services to such health plan customers on terms at least as favorable to us as currently provided, if they are acquired by other health plans that already participate in
competing programs or are not interested in our programs. Increasing vertical integration efforts involving health plans and healthcare providers or entities that provide wellness services may increase these challenges. Our health plan customers that are part of larger healthcare enterprises may have greater bargaining power, which may lead to further pressure on the prices for our products and services. In addition, a reduction in the number of covered lives enrolled with our health plan customers or in the payments we receive could adversely affect our results of operations. Our health plan customers are subject to continuing competition and reduced reimbursement rates from governmental and private sources, which could lead current or prospective customers to seek reduced fees or choose to reduce or delay the purchase of our services. Finally, health plan customers could attempt to offer services themselves that compete directly with our offerings, stop providing our offerings to certain or all of their members, or offer fitness benefits in addition to SilverSneakers, which could adversely affect our business and results of operations.
We currently derive a significant percentage of our revenues from two customers.
For the year ended December 31, 2017, Humana and United Healthcare each comprised more than 10%, and together comprised approximately 38%, of our revenues from continuing operations. Our primary contract with Humana was renewed in 2018 and continues through December 31, 2022. The term of our contract with United Healthcare continues through December 31, 2020. The loss or restructuring of a contract with Humana, United Healthcare or any of our other significant customers could have a material adverse effect on our business and results of operations. Neither of these contracts allows Humana or United Healthcare to terminate for convenience prior to the expiration of the contract.
In 2018, United Healthcare discontinued offering SilverSneakers to its individual Medicare Advantage beneficiaries in nine states and instead provided those beneficiaries a fitness benefit offered by its wholly owned subsidiary Optum, while continuing to offer SilverSneakers to its individual Medicare Advantage beneficiaries in 34 states and to its group Medicare Advantage members in all 50 states. While we believe United Healthcare values the health benefits that SilverSneakers presents to its Medicare Advantage beneficiaries as well as the brand recognition of SilverSneakers among active seniors, United Healthcare may discontinue offering SilverSneakers to its Medicare Advantage beneficiaries in additional states in 2019 or 2020 within contractual limitations and/or may offer multiple fitness benefits, including SilverSneakers.
Our inability to renew and/or maintain contracts with our customers could adversely affect our business and results of operations.
If our customers choose not to renew their contracts with us, our business and results of operations could be materially adversely affected.
Reductions in Medicare Advantage health plan reimbursement rates may negatively impact our business and results of operations.
A significant portion of our revenue is indirectly derived from the monthly premium payments paid by HHS to health plans, who are our customers, for services provided to Medicare Advantage beneficiaries. As a result, our results of operations are, in part, dependent on government funding levels for Medicare Advantage programs. Any changes that limit or reduce Medicare Advantage reimbursement levels, such as reductions in or limitations of reimbursement amounts or rates under these programs, reductions in funding of these programs, expansion of benefits without adequate funding, elimination of coverage for certain benefits, or elimination of coverage affecting the services that we provide, could have a material adverse effect on our customers, and as a result, on our business and results of operations.
Our business strategy relating to the development and introduction of new products and services exposes us to risks such as limited customer acceptance and additional expenditures that may not result in additional net revenue.
An important component of our business strategy is to focus on new products and services that enable us to provide immediate value to our customers. Customer acceptance of these new products and services cannot be predicted with certainty, and if we fail to execute properly on this strategy or to adapt this strategy as market conditions evolve, our ability to grow revenue and our results of operations may be adversely affected.
If we fail to successfully implement our business strategy, our financial performance and our growth could be materially and adversely affected.
Our future financial performance and success are dependent in large part upon our ability to implement our business strategy successfully. Implementation of our strategy will require effective management of our operational, financial and human resources and will place significant demands on those resources. See Item 1. "Business - Business Strategy" for more information regarding our business strategy. There are risks involved in pursuing our strategy, including the ability to hire or retain the personnel necessary to manage our strategy effectively.
In addition to the risks set forth above, implementation of our business strategy could be affected by a number of factors beyond our control, such as increased competition, legal developments, government regulation, general economic conditions, increased operating costs or expenses, and changes in industry trends. We may decide to alter or discontinue certain aspects of our business strategy at any time. If we are not able to implement our business strategy successfully, our long-term growth and profitability may be adversely affected. Even if we are able to implement some or all of the initiatives of our business strategy successfully, our operating results may not improve to the extent we anticipate, or at all.
Our results of operations could be adversely affected by severe or unexpected weather, health epidemics or outbreaks of disease.
Adverse weather conditions or other extreme changes in the weather may cause people to refrain, or prevent people, from visiting participating locations and using our services. Additionally, widespread health epidemics or outbreaks of disease, such as influenza, may cause members to avoid public gathering places and negatively impact their use of our services. As some of the fees that we charge our customers are based on a combination of PMPM and member participation, a decrease in member participation could adversely affect our business and results of operations.
We may experience difficulties associated with the implementation and/or integration of new businesses, services (including outsourced services), technologies, solutions, or products.
We may face difficulties, costs, and delays in effectively implementing and/or integrating acquired businesses, services (including outsourced services), technologies, solutions, or products into our business. Implementing internally-developed solutions and products, and/or integrating newly acquired businesses, services (including outsourced services), and technologies could be time-consuming and may strain our resources. Consequently, we may not be successful in implementing and/or integrating these new businesses, services, technologies, solutions, or products and may not achieve anticipated revenue and cost benefits.
Changes in macroeconomic conditions may adversely affect our business.
Economic difficulties and other macroeconomic conditions could reduce the demand and/or the timing of purchases for certain of our services from customers and potential customers. Loss of a significant customer or a reduction in a customer's enrolled lives could have a material adverse effect on our business and results of operations. In addition, changes in economic conditions could create liquidity and credit constraints. We cannot assure you that we would be able to secure additional financing if needed and, if such funds were available, that the terms and conditions would be acceptable to us.
The performance of our business and the level of our indebtedness could prevent us from meeting the obligations under our credit agreement or the cash convertible senior notes or have an adverse effect on our future financial condition, our ability to raise additional capital, or our ability to react to changes in the economy or our industry.
On July 16, 2013, we completed the issuance of $150.0 million aggregate principal amount of cash convertible senior notes due July 1, 2018 (the "Cash Convertible Notes"), all of which are still outstanding. On April 21, 2017, we entered into a new Revolving Credit and Term Loan Agreement (the "Credit Agreement") with a group of lenders. As of December 31, 2017, our long-term debt under these arrangements, including the current portion but excluding the debt discount, was $150.0 million.
Our ability to service our indebtedness (including any debt outstanding under the Credit Agreement and the Cash Convertible Notes) will depend on our ability to generate cash in the future. We cannot assure you that our business will generate sufficient cash flow from operations or that future borrowings will be available in an amount sufficient to enable us to service our indebtedness or to fund other liquidity needs.
The Credit Agreement contains various financial covenants and limits repurchases of our common stock and the amount of dividends that we can pay to holders of our common stock. A breach of any of these covenants could result in a default under the Credit Agreement in which all amounts outstanding under the Credit Agreement may become immediately due and payable and all commitments under the Credit Agreement to extend further credit may be terminated. In addition, a payment default, including an acceleration following an event of default,
under the Credit Agreement or under our indenture for the Cash Convertible Notes could each trigger an event of default under the other debt instrument, which could result in the principal of and the accrued and unpaid interest on such debt becoming due and payable.
Our indebtedness could adversely affect our future financial condition or our ability to react to changes in the economy or industry by, among other things:
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increasing our vulnerability to a downturn in general economic conditions, loss of revenue and/or profit margins in our business, or to increases in interest rates, particularly with respect to the portion of our outstanding debt that is subject to variable interest rates;
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potentially limiting our ability to obtain additional financing or to obtain such financing on favorable terms;
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causing us to dedicate a portion of future cash flow from operations to service or pay down our debt, which reduces the cash available for other purposes, such as operations, capital expenditures, and future business opportunities; and
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possibly limiting our ability to adjust to changing market conditions and placing us at a competitive disadvantage compared to our competitors who may be less leveraged.
The accounting for the Cash Convertible Notes and related cash convertible notes hedge transactions may result in volatility to our consolidated statements of comprehensive income (loss).
The cash conversion derivative that is part of the Cash Convertible Notes ("Cash Conversion Derivative") is accounted for as a derivative liability pursuant to Accounting Standards Codification ("ASC") Topic 470, Debt, relating to derivative instruments and hedging activities. In general, the initial valuation of the conversion option was bifurcated from the debt component of the Cash Convertible Notes and is measured at fair value each reporting period. For each financial statement period after issuance of the Cash Convertible Notes, a hedge gain (or loss) will be reported in our consolidated statements of comprehensive income (loss) to the extent the valuation of the Cash Conversion Derivative changes from the previous period. In connection with the issuance of the Cash Convertible Notes, we entered into privately negotiated convertible note hedge transactions (the "Cash Convertible Notes Hedges"), which are cash-settled, recorded and carried at fair value as a derivative asset and intended to offset the gain (or loss) associated with changes to the valuation of the Cash Conversion Derivative. Although we do not expect there to be a material net impact to our consolidated statements of comprehensive income (loss) as a result of our issuing the Cash Convertible Notes and entering into the Cash Convertible Notes Hedges, we cannot assure you these transactions will be completely offset, which may result in volatility to our consolidated statements of comprehensive income (loss).
We are subject to counterparty risk with respect to the Cash Convertible Notes Hedges.
The counterparties to the Cash Convertible Notes Hedges (the "Counterparties") are financial institutions or affiliates of financial institutions, and we will be subject to the risk that these Counterparties may default or otherwise fail to perform, or may exercise certain rights to terminate their obligations, under the Cash Convertible Notes Hedges. Our exposure to the credit risk of the Counterparties will not be secured by any collateral. If one or more of the Counterparties to one or more of the Cash Convertible Notes Hedges becomes subject to insolvency proceedings, we will become an unsecured creditor in those proceedings with a claim equal to our exposure at the time under those transactions. Our exposure will depend on many factors but, generally, the increase in our exposure will be correlated to the increase in the market price of our common stock and in volatility of our common stock. In addition, upon a default or other failure to perform, or a termination of obligations by one of the Counterparties we may suffer adverse tax consequences and dilution with respect to our common stock. We can provide no assurances as to the financial stability or viability of any of the Counterparties.
We have a significant amount of goodwill and intangible assets, the value of which could become impaired.
We have recorded significant portions of the purchase price of certain acquisitions as goodwill and/or intangible assets. At December 31, 2017, we had approximately $334.7 million and $29.0 million of goodwill and intangible assets, respectively. We review goodwill and intangible assets not subject to amortization for impairment on an annual basis (during the fourth quarter) or more frequently whenever events or circumstances
indicate that the carrying value may not be recoverable. If we determine that the carrying values of our goodwill and/or intangible assets are impaired, we may incur a non-cash charge to earnings, which could have a material adverse effect on our results of operations for the period in which the impairment occurs.
A failure of our information systems could adversely affect our business.
Our ability to deliver our services depends on effectively using information technology.
We rely upon our information systems for operating and monitoring all major aspects of our business. These systems and, therefore, our operations could be damaged or interrupted by natural disasters, power loss, network failure, improper operation by our employees, data privacy or security breaches, computer viruses, computer hacking, network penetration or other illegal intrusions or other unexpected events. Any disruption in the operation of our information systems, regardless of the cause, could adversely impact our operations, which may adversely affect our financial condition, results of operations and cash flows.
A cybersecurity incident could result in the loss of confidential data, give rise to remediation and other expenses, expose us to liability under HIPAA, consumer protection laws, or common law theories, subject us to litigation and federal and state governmental inquiries, damage our reputation, and otherwise be disruptive to our business.
The nature of our business involves the receipt and storage of individually identifiable health information about the participants in our programs. The secure maintenance of this confidential information is critical to our business operations. To protect our information systems from attack, damage and unauthorized use, we have implemented multiple layers of security, including technical safeguards, processes, and our people. Our defenses are monitored and routinely tested internally and by external parties. Despite these efforts, threats from malicious persons and groups, new vulnerabilities, and advanced attacks against information systems create risk of cybersecurity incidents. There can be no assurance that we will not be subject to cybersecurity incidents that bypass our security measures, result in loss of personal health information or other data subject to privacy laws or disrupt our information systems or business. As a result, cybersecurity and the continued development and enhancement of our controls, processes and practices remain a priority for us. We may be required to expend significant additional resources in our efforts to modify or enhance our protective measures against evolving threats or to investigate and remediate any cybersecurity vulnerabilities. The occurrence of a breach in security of our systems or those of our third-party vendors and other service providers could result in interruptions, delays, the loss, access, misappropriation, disclosure or corruption of data, liability under privacy, security and consumer protection laws or litigation under these or other laws, including common law theories, and subject us to federal and state governmental inquiries, any of which could have a material adverse effect on our financial condition and results of operations and harm our business reputation.
In order to be successful, we must attract, engage, retain and integrate key employees and have adequate succession plans in place, and failure to do so could have an adverse effect on our ability to manage our business.
Our success depends, in large part, on our ability to attract, engage, retain and integrate qualified executives and other key employees throughout all areas of our business. Identifying, developing internally or hiring externally, training and retaining highly-skilled managerial and other personnel are critical to our future, and competition for experienced employees can be intense. Failure to successfully hire executives and key employees or the loss of any executives and key employees could have a significant impact on our operations. The loss of services of any key personnel, the inability to retain and attract qualified personnel in the future, or delays in hiring may harm our business and results of operations. Further, changes in our management team may be disruptive to our business, and any failure to successfully integrate key new hires could adversely affect our business and results of operations.
We face competition for staffing, which may increase our labor costs and reduce profitability.
We compete with other healthcare and services providers in recruiting qualified management, including executives with the required skills and experience to operate and grow our business, and staff personnel for the day-to-day operations of our business. These challenges may require us to enhance wages and benefits to recruit and retain qualified management and other professionals. Difficulties in attracting and retaining qualified management and other professionals, or in controlling labor costs, could have a material adverse effect on our
profitability.
We are or may become a party to litigation that could potentially force us to pay significant damages and/or harm our reputation.
We are subject to certain legal proceedings that arise in the ordinary course of business. These legal proceedings and any other claims that we may face in the future, whether with or without merit, could result in costly litigation, and divert the time, attention, and resources of our management. Although we currently maintain various types of liability insurance, there can be no assurance that the coverage limits of such insurance policies will be adequate or that all such claims will be covered by insurance. Although we believe that we have conducted our operations in full compliance with applicable statutory and contractual requirements and that we have meritorious defenses to outstanding claims, it is possible that resolution of these legal matters could have a material adverse effect on our results of operations. In addition, legal expenses associated with the defense of these matters may be material to our results of operations in a particular financial reporting period.
Damage to our reputation could harm our business, including our competitive position and business prospects.
Our ability to attract and retain customers, members and employees is impacted by our reputation. Harm to our reputation can arise from various sources, including employee misconduct, security breaches, unethical behavior, litigation or regulatory outcomes, which could, among other consequences, increase the size and number of litigation claims and damages asserted or subject us to enforcement actions, fines and penalties and cause us to incur related costs and expenses.
We could be adversely affected by violations of the FCPA and similar anti-bribery laws of other countries in which we provided services prior to the sale of our TPHS business.
Because of the international operations that we previously conducted as part of our TPHS business that we sold to Sharecare in July 2016, we could be adversely affected by violations of the FCPA and similar anti-bribery laws of other countries in which we provided services prior to the sale. The FCPA and similar anti-bribery laws generally prohibit companies and their intermediaries from making improper payments to government officials or other third parties for the purpose of obtaining or retaining business or gaining any business advantage. While our policies mandated compliance with these anti-bribery laws, we cannot provide assurance that our internal control policies and procedures always protected us from reckless or criminal acts committed by our employees, contractors or agents. Failure to comply with the FCPA and similar legislation prior to the sale of our TPHS business could result in the imposition of civil or criminal fines and penalties and could disrupt our business and adversely affect our results of operations, cash flows and financial condition.
Compliance with existing or newly adopted federal and state laws and regulations or new or revised interpretations of such requirements could adversely affect our results of operations or may require us to spend substantial amounts, and the failure to comply with applicable laws and regulations could subject us to penalties or negatively impact our ability to provide services.
Our customers are subject to considerable state and federal government regulation, and a substantial majority of our business involves providing services to Medicare Advantage beneficiaries. As a result, we are subject directly to various federal laws and regulations, including the federal False Claims Act, billing and reimbursement requirements and other provisions related to fraud and abuse. CMS is in the process of expanding its Recovery Audit Contractor ("RAC") program for Medicare Advantage, which may result in increased government enforcement. Further, our contracts with Medicare Advantage plans require us to comply with a number of regulatory provisions and permit these customers to perform compliance audits. Many of these regulations are vaguely written and subject to differing interpretations that may, in certain cases, result in unintended consequences that could impact our ability to effectively deliver services. Further, we are required to comply with most requirements of the HIPAA privacy and security laws and regulations and may be subject to criminal or civil penalties for violations of these regulations. Certain of our services, including health utilization management and certain claims payment functions, require licensure and may be regulated by government agencies. We are subject to a variety of legal requirements in order to obtain and maintain such licenses, but little guidance is available to determine the scope of some of these requirements.
We continually monitor the extent to which federal and state legislation and regulations govern our operations. New federal or state laws or regulations or new interpretations of existing requirements that affect our operations could have a material adverse effect on our results of operations. If we are found to have violated applicable laws, to have caused any of our customers to submit false claims or make false statements, or to have failed to comply with our contractual compliance obligations, we could be required to restructure our operations, be subject to contractual penalties, including termination of our customer agreements, and be subject to significant civil and criminal penalties.
Healthcare reform efforts may result in a reduction to our revenues from government health programs and private insurance companies or otherwise directly or indirectly impact our business.
The healthcare industry is subject to various political, regulatory, scientific, and technological influences. Efforts at federal and state levels of government have resulted in laws and regulations intended to effect significant change within the healthcare system. The ACA, the most prominent of these efforts, affects coverage, delivery, and reimbursement of healthcare services. Among other effects, several of its provisions may increase the costs and/or reduce the revenues of our customers or prospective customers. For example, the ACA eliminates pre-existing condition exclusions by commercial health plans, bans annual benefit limits, and mandates minimum MLRs for health plans.
However, there is substantial uncertainty regarding the net effect and future of the ACA. The presidential administration and certain members of Congress continue to attempt to repeal or make significant changes to the ACA, its implementation and its interpretation. The president signed an executive order that directs agencies to minimize "economic and regulatory burdens" of the ACA, but it is unclear how this executive order will be implemented. It is possible that the reforms imposed by the ACA or uncertainty regarding its repeal or significant changes to the law will adversely affect the profitability of our customers and cause our customers or prospective customers to reduce or delay the purchase of our services or to demand reduced fees. Because of this uncertainty and many other variables, including the ACA's complexity and the difficulty of predicting the impact of changes on other healthcare industry participants, we are unable to predict all of the ways in which the ACA could impact the Company. Furthermore, we could also be impacted by future healthcare reform legislative and regulatory initiatives.
The Tax Cuts and Jobs Act could have material effects on the Company.
The Tax Cut and Jobs Act (the "Tax Act") was signed into law on December 22, 2017 and includes a number of changes to existing U.S. tax laws that impact us, most notably a reduction of the U.S. corporate income tax rate from 35% to 21% for tax years beginning after December 31, 2017. The Tax Act also provides for a one-time transition tax on certain foreign earnings and the acceleration of depreciation for certain assets placed into service after September 27, 2017. In addition, it provides for prospective changes beginning in 2018, including acceleration of tax revenue recognition and additional limitations on executive compensation and the deductibility of interest.
We are currently evaluating the Tax Act with our professional advisers; we cannot predict at this time the full impact of the Tax Act on the Company in future periods and make no assurances in that regard.
Item 1B.
Item 1B. Unresolved Staff Comments
None.
Item 2.
Item 2. Properties
We lease approximately 264,000 square feet of office space for our corporate headquarters in Franklin, Tennessee, approximately 221,000 square feet of which is subleased, pursuant to an agreement that expires in February 2023. We also lease approximately 92,000 square feet of office space in Chandler, Arizona (pursuant to an agreement that expires in April 2020), and approximately 6,000 square feet of office space in Ashburn, Virginia.
Item 3.
Item 3. Legal Proceedings
On November 6, 2017, United Healthcare issued a press release announcing expansion of its fitness benefits ("United Press Release"), and the market price of the Company's shares of common stock dropped on that
same day. In connection with the United Press Release, two lawsuits have been filed against the Company as described below. We intend to vigorously defend ourselves against both complaints.
On November 20, 2017, Eric Weiner, claiming to be a stockholder of the Company, filed a complaint on behalf of stockholders who purchased the Company's common stock between February 24, 2017 and November 3, 2017 ("Weiner Lawsuit"). The Weiner Lawsuit was filed as a class action in the U.S. District Court for the Middle District of Tennessee, naming the Company, the Company's chief executive officer, chief financial officer and chief accounting officer as defendants. The complaint alleges that the defendants violated Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 (the "Exchange Act") and Rule 10b-5 promulgated under the Exchange Act in making false and misleading statements and omissions related to the United Press Release. The complaint seeks monetary damages on behalf of the purported class. On January 19, 2018, the Oklahoma Firefighters Pension and Retirement System filed a motion to appoint counsel and lead plaintiff.
On January 26, 2018, Charles Denham, claiming to be a stockholder of the Company, filed a purported shareholder derivative action, on behalf of the Company, in the U.S. District Court for the Middle District of Tennessee, naming the Company as a nominal defendant and the Company's chief executive officer, chief financial officer, chief accounting officer, current directors of the Company and a former director of the Company, as defendants. The complaint asserts claims for breach of fiduciary duty, waste, and unjust enrichment, largely tracking allegations in the Weiner Lawsuit. The complaint further alleges that certain defendants engaged in insider trading. The plaintiff seeks monetary damages on behalf of the Company, certain corporate governance and internal procedural reforms, and other equitable relief.
Additionally, from time to time, we are subject to contractual disputes, claims and legal proceedings that arise from time to time in the ordinary course of our business. While we are unable to estimate a range of potential losses, we do not believe that any of the legal proceedings pending against us as of the date of this Report, some of which are expected to be covered by insurance policies, will have a material adverse effect on our financial statements. As these matters are subject to inherent uncertainties, our view of these matters may change in the future.
Item 4.
Item 4. Mine Safety Disclosures
Not applicable.
Executive Officers of the Registrant
The following table sets forth certain information regarding our executive officers as of February 28, 2018. Executive officers of the Company serve at the pleasure of the Board.
Officer
Age
Position
Donato Tramuto
Chief Executive Officer of the Company since November 2015. Chief Executive Officer and Chairman of the Board of Physicians Interactive Holdings from July 2013 to October 2015. Chief Executive Officer, Founder and Vice Chairman of Physicians Interactive Holdings from October 2008 to July 2013. Chief Executive Officer of i3 from 2004 to 2006. Chief Executive Officer and Co-Founder of Constella Health Strategies from 1998 to 2003.
Adam Holland
Chief Financial Officer of the Company since June 2017. Chief Financial Officer of Kirkland's, Inc. from February 2015 to June 2017, Chief Accounting Officer of Kirkland's, Inc. from August 2014 to February 2015 and Vice President of Finance of Kirkland's, Inc. from August 2008 to February 2015.
Glenn Hargreaves
Chief Accounting Officer of the Company since July 2012 and Controller since January 2011. Interim Chief Financial Officer from November 2016 until June 2017. Director of Tax of the Company from April 2005 until January 2011.
Mary Flipse
Chief Legal Officer of the Company since November 2015. General Counsel of the Company from July 2012 to March 2016. Director, Corporate Counsel of the Company from February 2012 to July 2012. Operations Counsel of the Company from August 2011 until February 2012. Assistant General Counsel of King Pharmaceuticals from May 2005 to July 2011.
PART II
Item 5.
Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Market Information
Our common stock is traded on The Nasdaq Stock Market ("Nasdaq") under the symbol "TVTY".
The following table sets forth the high and low sales prices per share of our common stock as reported by Nasdaq for the relevant periods.
Performance Graph
The following graph compares the total stockholder return of $100 invested on December 31, 2012 in (a) the Company, (b) the Nasdaq U.S. Stocks Benchmark index and (c) the Nasdaq Health Care Providers index, assuming the reinvestment of all dividends.
The stock price performance shown on this graph is not necessarily indicative of future price performance.
Notes:
A.
The lines represent annual index levels derived from compounded daily returns that include all dividends.
B.
The indexes are reweighted daily, using the market capitalization on the previous trading day.
C.
If the annual interval, based on the fiscal year end, is not a trading day, the preceding trading day is used.
D.
The index level for all series was set to $100.00 on December 31, 2012.
Unregistered Sales of Equity Securities
Pursuant to the Investment Agreement with CareFirst Holdings, LLC ("CareFirst") (as described in footnote 7 in our Annual Report on Form 10-K for the fiscal year ended December 31, 2016, which is hereby incorporated by reference into this Report), CareFirst had an opportunity to earn warrants based on achievement of certain quarterly thresholds for revenue. On April 8, 2016, we issued to CareFirst warrants to purchase 22,895 shares of our common stock at an exercise price of $11.94 per share, and on June 13, 2016, we issued to CareFirst warrants to purchase 17,008 shares of our common stock at an exercise price of $12.97 per share. The issuance of these warrants was exempt from registration under Section 4(a)(2) of the Securities Act of 1933, as amended, because it was a transaction not involving a public offering.
In accordance with the terms of the Investment Agreement (as described in footnote 7 in our Annual Report on Form 10-K for the fiscal year ended December 31, 2016, which is hereby incorporated by reference into this Report), in September 2016, CareFirst exercised its right to convert 590,683 CareFirst warrants for a total of 218,162 shares of our common stock. In December 2016, CareFirst exercised its right to convert 39,903 CareFirst Warrants for a total of 18,104 shares of our common stock. The issuance of shares of our common stock as a result of the conversion of the CareFirst Warrants was exempt from registration under Section 4(a)(2) of the Securities Act of 1933, as amended, because it was a transaction not involving a public offering.
Holders
At February 21, 2018, there were approximately 10,600 holders of our common stock, including 192 stockholders of record.
Dividends
We have never declared or paid a cash dividend on our common stock. We intend to retain any earnings to finance the growth and development of our business and do not expect to declare or pay any cash dividends in the foreseeable future. Our Board of Directors will review our dividend policy from time to time and may declare dividends at its discretion; however, our Credit Agreement places restrictions on the payment of dividends. For further discussion of the Credit Agreement, see Item 7. "Management's Discussion and Analysis of Financial Condition and Results of Operation - Liquidity and Capital Resources."
Securities Authorized for Issuance Under Equity Compensation Plans
See Part III, Item 12. "Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters," for information regarding securities authorized for issuance under our equity compensation plans, which is incorporated by reference herein.
Annual Report
A copy of the Tivity Health, Inc. Annual Report on Form 10-K for 2017 filed with the Securities and Exchange Commission is available on the Company's website, www.tivityhealth.com. It is also available from the Company (without exhibits) at no charge. These requests should be directed to Chip Wochomurka, Vice President - Investor Relations, or Jill Meyer, Senior Director - Public Relations, at the Company's corporate office.
Item 6.
Item 6. Selected Financial Data
The following table represents selected consolidated financial data. The table should be read in conjunction with Item 7.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
Please read the following discussion and analysis of our financial condition and results of operations together with our consolidated financial statements and related notes included under Item 8. "Financial Statements and Supplementary Data" of this Report.
Overview
Tivity Health, Inc. was founded and incorporated in Delaware in 1981. Through our three programs, SilverSneakers® senior fitness, Prime® Fitness and WholeHealth LivingTM, we are focused on advancing long-lasting health and vitality, especially in aging populations. The SilverSneakers senior fitness program is offered to members of Medicare Advantage, Medicare Supplement, and Group Retiree plans. We also offer Prime Fitness, a fitness facility access program, through commercial health plans and employers. Our national network of fitness centers delivers both SilverSneakers and Prime Fitness. In addition, a small portion of our fitness center network is available for discounted access through our WholeHealth Living program. Our fitness network encompasses approximately 16,000 participating locations and more than 1,000 alternative locations that provide classes outside of traditional fitness centers. Through our WholeHealth Living program, which we sell primarily to health plans, we offer a continuum of services related to complementary, alternative, and physical medicine. Our WholeHealth Living programs include relationships with over 80,000 complementary, alternative, and physical medicine practitioners to serve individuals through health plans and employers who seek health services such as chiropractic care, acupuncture, physical therapy, occupational therapy, speech therapy, and more.
Effective July 31, 2016, we sold our TPHS business to Sharecare. The TPHS business took a systematic approach to keeping healthy people healthy, eliminating or reducing lifestyle risks and optimizing care for persistent or chronic conditions. The TPHS business included our partnerships with Blue Zones, LLC and Dr. Dean Ornish (the Blue Zones Project by Healthways™ and Dr. Dean Ornish's Program for Reversing Heart Disease™, respectively), our joint venture with Gallup, Navvis, MeYou Health, and our international operations. While Navvis and MeYou Health were part of our TPHS business, they were sold separately to other buyers in November 2015 and June 2016, respectively. Results of operations for the TPHS business have been classified as discontinued operations for all periods presented in the consolidated financial statements.
The Company is headquartered at 701 Cool Springs Boulevard, Franklin, Tennessee 37067.
Forward-Looking Statements
This Report contains forward-looking statements, which are based upon current expectations, involve a number of risks and uncertainties, and are subject to the "safe harbor" provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements include all statements that are not historical statements of fact and those regarding the intent, belief, or expectations of the Company, including, without limitation, all statements regarding the Company's future earnings, revenues, and results of operations. Readers are cautioned that any such forward-looking statements are not guarantees of future performance and involve significant risks and uncertainties, and that actual results may vary from those in the forward-looking statements as a result of various factors, including, but not limited to:
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our ability to develop and implement effective strategies;
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the effectiveness of the reorganization of our business and our ability to realize the anticipated benefits;
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our ability to sign and implement new contracts for our solutions;
·
our ability to accurately forecast the costs required to successfully implement new contracts;
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our ability to renew and/or maintain contracts with our customers under existing terms or restructure these contracts on terms that would not have a material negative impact on our results of operations;
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our ability to effectively compete against other entities, whose financial, research, staff, and marketing resources may exceed our resources;
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our ability to accurately forecast our revenues, margins, earnings and net income, as well as any potential charges that we may incur as a result of changes in our business and leadership;
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our ability to anticipate change and respond to emerging trends for healthcare and the impact of the same on demand for our services;
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the risks associated with deriving a significant concentration of our revenues from a limited number of customers;
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our ability and/or the ability of our customers to enroll participants and to accurately forecast their level of enrollment and participation in our programs in a manner and within the timeframe anticipated by us;
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the impact of severe or adverse weather conditions on member participation in our programs;
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the ability of our customers to maintain the number of covered lives enrolled in the plans during the terms of our agreements;
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our ability to service our debt, make principal and interest payments as those payments become due, and remain in compliance with our debt covenants;
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the risks associated with changes in macroeconomic conditions;
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counterparty risk associated with the Cash Convertible Notes Hedges;
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the risks associated with valuation of the Cash Convertible Notes Hedges and the Cash Conversion Derivative, which may result in volatility to our consolidated statements of operations if these transactions do not completely offset one another;
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our ability to integrate new or acquired businesses, services, technologies, solutions, or products into our business and to accurately forecast the related costs;
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our ability to anticipate and respond to strategic changes, opportunities, and emerging trends in our industry and/or business and to accurately forecast the related impact on our revenues and earnings;
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the impact of any impairment of our goodwill, intangible assets, or other long-term assets;
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our ability to develop new products and services;
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our ability to obtain adequate financing to provide the capital that may be necessary to support our operations;
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the risks associated with data privacy or security breaches, computer hacking, network penetration and other illegal intrusions of our information systems or those of third-party vendors or other service providers, which may result in unauthorized access by third parties to customer, employee or our information or patient health information and lead to enforcement actions, fines and other litigation against us;
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the impact of any new or proposed legislation, regulations and interpretations relating to Medicare or Medicare Advantage;
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current geopolitical turmoil, the continuing threat of domestic or international terrorism, and the potential emergence of a health pandemic or infectious disease outbreak;
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the impact of the Tax Act and any additional new or proposed tax legislation;
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the impact of legal proceedings involving us and/or our subsidiaries; and
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other risks detailed in this Report, including those set forth in Item 1A. "Risk Factors."
We undertake no obligation to update or revise any such forward-looking statements.
Critical Accounting Policies
We describe our significant accounting policies in Note 1 of the notes to the consolidated financial statements. We prepare the consolidated financial statements in conformity with generally accepted accounting principles in the United States ("U.S. GAAP"), which requires us to make estimates and judgments that affect the reported amounts of assets and liabilities and related disclosures at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results may differ from those estimates.
Following the sale of the TPHS business, we believe the following accounting policies are the most critical in understanding the estimates and judgments that are involved in preparing our financial statements and the uncertainties that could impact our results of operations, financial condition and cash flows.
Revenue Recognition
We recognize revenue as services are performed when persuasive evidence of an arrangement exists, collectability is reasonably assured, and amounts are fixed or determinable.
Our fees are generally billed per member per month ("PMPM"), or a combination of PMPM and member participation. For PMPM fees, we generally determine our contract fees by multiplying the contractually negotiated PMPM rate by the number of members eligible for or receiving our services during the month. We generally bill our customers each month for the entire amount of the fees contractually due for the prior month's enrollment. Fees for participation are typically billed in the month after the services are provided.
We recognize PMPM fees and fees for participation as revenue during the period in which we perform our services.
On January 1, 2018, we adopted ASU No. 2014-09 (as discussed in Note 2 of the notes to consolidated financial statements included in this Report) using the modified retrospective transition method applied to contracts that were not completed as of January 1, 2018. The cumulative impact of our adoption of this standard was not material.
Impairment of Intangible Assets and Goodwill
We review goodwill for impairment at the reporting unit level (operating segment or one level below an operating segment) on an annual basis (during the fourth quarter of our fiscal year) or more frequently whenever events or circumstances indicate that the carrying value may not be recoverable. We have a single reporting unit.
We may elect to perform a qualitative assessment to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying value. If we conclude during the qualitative assessment that this is the case or if we elect not to perform a qualitative assessment, we perform a quantitative review as described below.
During a quantitative review of goodwill, we estimate the fair value of a reporting unit using a combination of a discounted cash flow model and a market-based approach, and in the event we were to have multiple reporting units, we reconcile the aggregate fair value of our reporting units to our consolidated market capitalization. Estimating fair value requires significant judgments, including management's estimate of future cash flows, which is dependent on internal forecasts, estimation of the long-term growth rate for our business, the useful life over which cash flows will occur, and determination of our weighted average cost of capital, as well as relevant comparable company earnings multiples for the market-based approach. Changes in these estimates and assumptions could materially affect the estimate of fair value and potential goodwill impairment for each reporting unit.
If we determine that the carrying value of goodwill is impaired based upon an impairment review, we calculate any impairment using a fair-value-based goodwill impairment test as required by U.S. GAAP. The fair value of a reporting unit is the price that would be received upon a sale of the unit as a whole in an orderly
transaction between market participants at the measurement date.
Except for a tradename that has an indefinite life and is not subject to amortization, we amortize identifiable intangible assets over their estimated useful lives using the straight-line method. We assess the potential impairment of intangible assets subject to amortization whenever events or changes in circumstances indicate that the carrying values may not be recoverable. If we determine that the carrying value of other identifiable intangible assets may not be recoverable, we calculate any impairment using an estimate of the asset's fair value based on the estimated price that would be received to sell the asset in an orderly transaction between market participants. We estimated the fair value of our indefinite-lived intangible asset, a tradename, using a present value technique, which requires management's estimate of future revenues attributable to this tradename, estimation of the long-term growth rate and royalty rate for this revenue, and determination of our weighted average cost of capital. Changes in these estimates and assumptions could materially affect the estimate of fair value for the tradename.
Income Taxes
The objectives of accounting for income taxes are to recognize the amount of taxes payable or refundable for the current year and deferred tax liabilities and assets for the future tax consequences of events that have been recognized in an entity's financial statements or tax returns. Accounting for income taxes requires significant judgment in evaluating tax positions and in determining income tax provisions, including determination of deferred tax assets, deferred tax liabilities, and any valuation allowances that might be required against deferred tax assets.
Valuation allowances are established when necessary to reduce deferred tax assets to the amounts that are expected to be realized. When we determine that it is more likely than not that we will be able to realize our deferred tax assets in the future, an adjustment to the deferred tax asset is made and reflected in income. This determination will be made by considering various factors, including the reversal and timing of existing temporary differences, tax planning strategies and estimates of future taxable income exclusive of the reversal of temporary differences.
We recognize the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position. The tax benefits recognized in the financial statements from such a position should be measured based on the largest benefit that has a greater than 50% likelihood of being realized upon ultimate settlement. U.S. GAAP also provides guidance on derecognition of income tax assets and liabilities, classification of current and deferred income tax assets and liabilities, accounting for interest and penalties associated with tax positions, and income tax disclosures. Judgment is required in assessing the future tax consequences of events that have been recognized in our financial statements or tax returns. Variations in the actual outcome of these future tax consequences could materially impact our consolidated financial position, results of operations, and cash flows.
The Tax Act was signed into law on December 22, 2017 and includes a number of changes to existing U.S. tax laws that impact us, most notably a reduction of the U.S. corporate income tax rate from 35% to 21% for tax years beginning after December 31, 2017. The Tax Act also provides for a one-time transition tax on certain foreign earnings and the acceleration of depreciation for certain assets placed into service after September 27, 2017. In addition, it provides for prospective changes beginning in 2018, including acceleration of tax revenue recognition and additional limitations on executive compensation and the deductibility of interest. We are currently evaluating the Tax Act with our professional advisers; we cannot predict at this time the full impact of the Tax Act on the Company in future periods.
Executive Overview of Results
The key financial results for the year ended December 31, 2017 are:
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Revenues from continuing operations of $556.9 million for the year ended December 31, 2017, up 11.2% from $501.0 million for the year ended December 31, 2016;
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Pre-tax income from continuing operations of $104.8 million for the year ended December 31, 2017, up 34.2% from $78.1 million for the year ended December 31, 2016;
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Income from continuing operations of $61.2 million for the year ended December 31, 2017, compared to $56.1 million for the year ended December 31, 2016;
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Restructuring charges of $3.2 million for the year ended December 31, 2017, compared to $4.9 million for the year ended December 31, 2016.
Results of Operations
The following table sets forth the components of the consolidated statements of operations for the years ended December 31, 2017, 2016, and 2015 expressed as a percentage of revenues from continuing operations.
Revenues
Revenues from continuing operations for 2017 increased $55.9 million, or 11.2%, over 2016, primarily as a result of the following: an increase of $67.8 million due to both a net increase in the number of members eligible to participate in our fitness solutions as well as a net increase in the average participation per member in such solutions, an increase of $8.9 million due to contracts with new customers or expanded contracts with existing customers, and a decrease of $20.8 million due to contract terminations.
Revenues from continuing operations for 2016 increased $48.9 million, or 10.8%, over 2015, primarily as a result of the following: an increase of $49.0 million due to both a net increase in the number of members eligible
to participate in our fitness solutions as well as a net increase in the average participation per member in such solutions, an increase of $5.4 million due to contracts with new customers or expanded contracts with existing customers, and a decrease of $5.5 million due to contract terminations.
Cost of Services
Cost of services from continuing operations (excluding depreciation and amortization) as a percentage of revenues did not materially change from 2016 (71.3%) to 2017 (71.0%).
Cost of services from continuing operations (excluding depreciation and amortization) as a percentage of revenues increased slightly from 2015 (70.4%) to 2016 (71.3%). Overall, this slight increase is primarily attributable to an increase in short-term incentive compensation due to the Company's financial performance against established targets.
Selling, General and Administrative Expenses
Selling, general and administrative expenses from continuing operations as a percentage of revenues decreased from 7.9% for the year ended December 31, 2016 to 6.2% for the year ended December 31, 2017. This decrease is primarily attributable to cost savings from the reorganization of our corporate support infrastructure that we began implementing in the third quarter of 2016 and completed in the first quarter of 2017 (the "2016 Restructuring Plan") as well as decreased consulting costs related to the sale and separation of the TPHS business in 2016.
Selling, general and administrative expenses from continuing operations as a percentage of revenues remained consistent at 7.9% for 2016 and 2015.
Depreciation and Amortization
Depreciation and amortization expense from continuing operations decreased $0.7 million from 2016 to 2017, primarily due to a decrease in the amount of amortization expense, as all intangible assets subject to amortization became fully amortized during 2016.
Depreciation and amortization expense from continuing operations decreased $2.8 million from 2015 to 2016, primarily due to a decrease in the amount of depreciable assets.
Restructuring and Related Charges
During the fourth quarter of 2017, we began and completed a reorganization primarily related to streamlining our operations support (the "2017 Restructuring Plan"). We incurred restructuring charges from continuing operations of $2.6 million related to the 2017 Restructuring Plan, which consisted entirely of severance and other employee-related costs. We expect the 2017 Restructuring Plan to result in total annualized savings of approximately $3.0 million to $4.0 million beginning in 2018, which we expect to reinvest into the business in 2018 into initiatives intended to drive growth in 2018 and beyond.
During 2017 and 2016, we incurred restructuring charges from continuing operations of $0.7 million and $4.9 million, respectively, related to the 2016 Restructuring Plan, which we began implementing in the third quarter of 2016 and completed during the first quarter of 2017. Since its inception, we have incurred a total of approximately $5.6 million in restructuring charges related to the 2016 Restructuring Plan, which consisted primarily of severance and other employee-related costs. The 2016 Restructuring Plan began to create cost savings in 2017, and we expect total savings of approximately $15.0 million to $16.0 million on an annualized basis, approximately half of which we reinvested into the business in 2017, primarily related to initiatives intended to drive growth beginning in 2018.
During 2015, we incurred restructuring charges from continuing operations of $0.7 million in connection with our reorganization and cost rationalization plan (the "2015 Restructuring Plan"), which primarily consisted of one-time termination benefits.
Interest Expense
Interest expense from continuing operations decreased $1.7 million from 2016 to 2017, primarily due to a
lower average level of outstanding borrowings under our credit agreement during 2017 compared to 2016.
Interest expense from continuing operations was relatively consistent for 2016 and 2015.
Income Tax Expense
See Note 6 of the notes to consolidated financial statements in this Report for a discussion of income tax expense.
Liquidity and Capital Resources
Overview
As of December 31, 2017, we had a working capital deficit of $135.3 million, including the Cash Convertible Notes, which mature on July 1, 2018, net of unamortized discount, of $145.9 million as a current liability at December 31, 2017 (as discussed in Note 7 of the notes to consolidated financial statements in this Report). As of February 28, 2018, the holders of the Cash Convertible Notes have not elected to convert their Cash Convertible Notes.
On June 8, 2012, we entered into the Fifth Amended and Restated Revolving Credit and Term Loan Agreement (as amended, the "Prior Credit Agreement"). For further description of the Prior Credit Agreement, please see Note 7 of the notes to consolidated financial statements in this Report.
On April 21, 2017, we entered into the Credit Agreement, which replaced the Prior Credit Agreement. The Credit Agreement provides us with (1) a $100 million revolving credit facility that includes a $25 million sublimit for swingline loans and a $75 million sublimit for letters of credit, (2) a $70 million term loan A facility, (3) a $150 million delayed draw term loan facility, and (4) an uncommitted incremental accordion facility of $100 million.
We used the proceeds of the term loan A and cash on hand to repay all of the outstanding indebtedness under the Prior Credit Agreement and to pay transaction costs and expenses. As of December 31, 2017, our availability under the Credit Agreement included $92.6 million under the revolving credit facility and $150 million under the delayed draw term facility (which can be borrowed at our option until July 2, 2018). Proceeds of revolving loans and delayed draw term loans may be used to repay outstanding indebtedness (including amounts payable upon or in respect of any conversion of the Cash Convertible Notes discussed below and the repayment of any revolving loans borrowed for such purposes), to finance working capital needs, to finance acquisitions, to finance the repurchase of our common stock, to finance capital expenditures and for other general corporate purposes of the Company. Delayed draw term loans may not be borrowed after July 2, 2018.
We are required to repay the term loan A and any outstanding revolving loans in full on April 21, 2022. The term loan A was repaid in full as of December 31, 2017. If we elect to borrow the delayed draw term loans, we will be required to repay the delayed draw term loans in quarterly principal installments calculated as follows: (1) for each of the first 12 quarters following the time of borrowing, 1.250% of the aggregate principal amount of the delayed draw term loans funded as of the last day of the immediately preceding quarter; and (2) for each of the remaining quarters prior to maturity on April 21, 2022, 1.875% of the aggregate principal amount of the delayed draw term loans funded as of the last day of the immediately preceding quarter. At maturity on April 21, 2022, the entire unpaid principal balances of the delayed draw term loans will be due and payable.
Cash Flows Provided by Operating Activities
Operating activities during the year ended December 31, 2017 provided cash of $105.3 million compared to $45.6 million during the year ended December 31, 2016. The increase in operating cash flow resulted primarily from the following:
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an increase in net income, coupled with the use of tax loss carryforwards to offset taxable income and thus reduce cash taxes; and
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an improvement in days' sales outstanding, in part related to the composition of our customer base following the sale of the TPHS business.
Operating activities during 2016 provided cash of $45.6 million compared to $64.5 million during 2015.
The decrease in operating cash flow resulted primarily from the following:
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a decrease in cash collections on accounts receivable;
•
payments associated with the sale of the TPHS business, including consulting and transaction fees and certain employee-related payments; and
•
increased payments related to restructuring activities, such as severance and lease costs.
These decreases were partially offset by an increase in operating cash flows related to legal settlement payments in 2015 that did not recur in 2016.
Cash Flows Used in Investing Activities
Investing activities during the year ended December 31, 2017 used $5.9 million in cash, compared to $38.9 million during the year ended December 31, 2016, which was primarily due to decreased capital expenditures in 2017 compared to 2016 and payments related to the sale of the TPHS business in 2016 that did not recur in 2017. These items were slightly offset by proceeds from the sale of the MeYou Health business in 2016. Capital expenditures in 2016 were primarily associated with our technology platform, while capital expenditures in 2017 were primarily related to computer hardware and applications/software and the development of a digital platform related to member awareness and engagement. We expect capital expenditures to remain at lower levels when compared to the period prior to the sale of the TPHS business due to the profile of the remaining business.
Investing activities during 2016 used $38.9 million in cash, as compared to $37.4 million during 2015, which was primarily due to decreased capital expenditures in 2016 associated with our technology platform, offset by payments made to Sharecare related to the sale of the TPHS business.
Cash Flows Provided By/Used in Financing Activities
Financing activities during the year ended December 31, 2017 used $74.3 million in cash, while financing activities during the year ended December 31, 2016 used $6.7 million in cash. This change is primarily due to higher net payments on debt related to accelerated repayment of our term loan A facility during 2017 totaling $70 million.
Financing activities during 2016 used $6.7 million in cash, while financing activities during 2015 used $25.4 million in cash. This change is primarily due to a decrease in net payments under the Prior Credit Agreement during 2016 and increased proceeds from the exercise of stock options.
Credit Facility
For a detailed description of the Credit Agreement, refer to Note 7 of the notes to consolidated financial statements in this Report. The Credit Agreement contains financial covenants that require us to maintain specified ratios or levels at December 31, 2017 of (1) a maximum total funded debt to EBITDA of 3.75 and (2) a minimum total fixed charge coverage of 1.50. We were in compliance with all of the financial covenant requirements of the Credit Agreement as of December 31, 2017.
Cash Convertible Senior Notes
For a detailed description of the Cash Convertible Notes, Cash Convertible Notes Hedges, Cash Conversion Derivative, and Warrants (as such terms are defined in Note 7 of the notes to consolidated financial statements) entered into in July 2013, refer to Note 7 of the notes to consolidated financial statements included in this Report. Aside from the initial premium paid, we will not be required to make any cash payments under the Cash Convertible Notes Hedges and could be entitled to receive an amount of cash from the option counterparties generally equal to the amount by which the market price per share of common stock exceeds the strike price of the Cash Convertible Note Hedges during the relevant valuation period. The strike price under the Cash Convertible Notes Hedges is initially equal to the conversion price of the Cash Convertible Notes.
Pursuant to the indenture under which we issued the Cash Convertible Notes, the Cash Convertible Notes became convertible into cash (at the option of the holder) during the period that began on January 1, 2018 and ends on June 28, 2018. The cash conversion rate (subject to adjustment, as set forth in the indenture) is 51.3769 shares of the Company's common stock per $1,000 principal amount of the Cash Convertible Notes (equivalent to
an initial conversion price of $19.4640 per share of common stock). The settlement of any Cash Convertible Notes surrendered for conversion during this period will occur on July 2, 2018, which is the third business day following the end of the applicable observation period with respect to such conversion (i.e., the 80 consecutive trading day period beginning on the 82nd scheduled trading day immediately preceding the maturity date, which 82nd scheduled trading day is March 6, 2018). The indenture requires the Company to satisfy the entire settlement amount for any conversions (determined in accordance with the provisions of the indenture) in cash, and the notes are not convertible into the Company's common stock or any other securities under any circumstances.
The estimated fair value based on the last traded price of the Cash Convertible Note at December 31, 2017 was $278.8 million (as discussed in Note 9 of the notes to consolidated financial statements included in this Report). We anticipate that we will satisfy the Cash Convertible Notes upon their maturity on July 1, 2018 through a combination of available cash, the Cash Convertible Notes Hedges, and available credit under the Credit Agreement, as needed. Additionally, if the market price per share of our common stock exceeds the strike price of the Warrants on any warrant exercise date, we will be obligated to issue to the option counterparties a number of shares based on the amount by which the then-current market price per share of our common stock exceeds the then-effective strike price of each Warrant. We will not receive any additional proceeds if the Warrants are exercised.
General
We believe that cash flows from operating activities, our available cash, the Cash Convertible Notes Hedges, and our anticipated available credit under the Credit Agreement will continue to enable us to meet our contractual obligations and fund our current operations and debt payments for at least the next 12 months. We cannot assure you that we will be able to secure additional financing if needed and, if such funds are available, whether the terms or conditions would be acceptable to us.
If contract development accelerates or acquisition opportunities arise, we may need to issue additional debt or equity securities to provide the funding for these increased growth opportunities. We may also issue debt or equity securities in connection with future acquisitions or strategic alliances. We cannot assure you that we would be able to issue additional debt or equity securities on terms that would be acceptable to us.
Any material commitments for capital expenditures are included in the "Contractual Obligations" table below.
Contractual Obligations
The following schedule summarizes our contractual cash obligations as of December 31, 2017:
(1)
Consists of payments under a non-qualified deferred compensation plan.
(2)
Consists of scheduled principal payments and estimated interest payments on outstanding borrowings under the Credit Agreement. Also includes payments in respect of the Cash Convertible Notes and payments of cash interest thereon. The Cash Convertible Notes will mature on July 1, 2018, unless earlier repurchased or converted into cash in accordance with their terms prior to such date (see Note 7 of the notes to consolidated financial statements included in this Report). Total estimated interest payments included in the table above are $1.8 million for 2018 and $0.5 million for 2019 and 2020 combined and for 2021 and 2022 combined.
(3)
Excludes cash receipts from sublease contracts of $5.5 million, $11.3 million, $11.4 million, and $1.0 million, respectively.
(4)
Consists of scheduled principal payments on capital lease obligations. Estimated interest payments are zero.
(5)
Other contractual cash obligations primarily include payments related to a joint venture with Gallup that was transferred to Sharecare but for which we agreed to be responsible for two-thirds of the remaining payment obligations in respect of the purchase price to be paid in connection with Sharecare's acquisition of additional membership interest in the joint venture.
Off-Balance Sheet Arrangements
We do not have any off-balance sheet arrangements as of December 31, 2017.
Recent Relevant Accounting Standards
See Note 2 of the notes to consolidated financial statements included in this Report for discussion of recent relevant accounting standards.
Item 7A.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
Interest Rate Risk
We are subject to market risk related to interest rate changes, primarily as a result of the Credit Agreement. Borrowings under the Credit Agreement generally bear interest at variable rates based on a margin or spread in excess of either (1) the one-month, two-month, three-month or six-month LIBOR rate (or with the approval of affected lenders, the 12-month LIBOR rate), which may not be less than zero, or (2) the greatest of (a) the SunTrust Bank prime lending rate, (b) the federal funds rate plus 0.50%, and (c) one-month LIBOR plus 1.00% (the "Base Rate"), as selected by the Company. The LIBOR margin varies between 1.50% and 2.75%, and the Base Rate margin varies between 0.50% and 1.75%, depending on our net leverage ratio.
We estimate that a one-point interest rate change in our floating rate debt would have resulted in a change in interest expense of approximately $0.6 million for the year ended December 31, 2017.
Item 8.
Item 8. Financial Statements and Supplementary Data
Report of Independent Registered Public Accounting Firm
To the Board of Directors and Stockholders of Tivity Health, Inc.
Opinions on the Financial Statements and Internal Control over Financial Reporting
We have audited the accompanying consolidated balance sheets of Tivity Health, Inc. and its subsidiaries as of December 31, 2017 and 2016, and the related consolidated statements of operations, comprehensive income (loss), changes in stockholders' equity, and cash flows for each of the three years in the period ended December 31, 2017, including the related notes (collectively referred to as the "consolidated financial statements"). We also have audited the Company's internal control over financial reporting as of December 31, 2017 based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of the Company as of December 31, 2017 and 2016, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2017 in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2017, based on criteria established in Internal Control - Integrated Framework (2013) issued by the COSO.
Change in Accounting Principle
As discussed in Note 2 to the consolidated financial statements, the Company changed the manner in which it accounts for employee share-based payments in 2017.
Basis for Opinions
The Company's management is responsible for these consolidated financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in Management's Annual Report on Internal Control over Financial Reporting appearing under Item 9A. Our responsibility is to express opinions on the Company's consolidated financial statements and on the Company's internal control over financial reporting based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) ("PCAOB") and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud, and whether effective internal control over financial reporting was maintained in all material respects.
Our audits of the consolidated financial statements included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.
Definition and Limitations of Internal Control over Financial Reporting
A company's internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company's internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable
assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company's assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
/s/ PricewaterhouseCoopers LLP
Nashville, Tennessee
February 28, 2018
We have served as the Company's auditor since 2014.
TIVITY HEALTH, INC.
CONSOLIDATED BALANCE SHEETS
(In thousands)
ASSETS
See accompanying notes to the consolidated financial statements.
TIVITY HEALTH, INC.
CONSOLIDATED BALANCE SHEETS
(In thousands, except share and per share data)
LIABILITIES AND STOCKHOLDERS' EQUITY
See accompanying notes to the consolidated financial statements.
TIVITY HEALTH, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except earnings per share data)
See accompanying notes to the consolidated financial statements.
TIVITY HEALTH, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(In thousands)
See accompanying notes to the consolidated financial statements.
TIVITY HEALTH, INC.
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
(In thousands)
See accompanying notes to the consolidated financial statements.
TIVITY HEALTH, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
See accompanying notes to the consolidated financial statements.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Years Ended December 31, 2017, 2016, and 2015
1.
Summary of Significant Accounting Policies
Tivity Health, Inc. was founded and incorporated in Delaware in 1981. Through our three programs, SilverSneakers® senior fitness, Prime® Fitness and WholeHealth LivingTM, we are focused on advancing long-lasting health and vitality, especially in aging populations.
Our results from continuing operations do not include the results of the total population health services ("TPHS") business, which we sold effective July 31, 2016. The TPHS business included our partnerships with Blue Zones, LLC and Dr. Dean Ornish (the Blue Zones Project by Healthways™ and Dr. Dean Ornish's Program for Reversing Heart Disease™, respectively), our joint venture with Gallup, Inc. ("Gallup"), Navvis Healthcare, LLC ("Navvis"), MeYou Health, LLC ("MeYou Health"), and our international operations, including our joint venture with SulAmérica. While Navvis and MeYou Health were part of our TPHS business, they were sold separately to other buyers in November 2015 and June 2016, respectively. Results of operations for the TPHS business have been classified as discontinued operations for all periods presented in the accompanying consolidated financial statements. See Note 3 for further information on discontinued operations.
On March 11, 2015, we formed a joint venture with SulAmérica, one of the largest independent insurers in Brazil, to sell total population health services to the Brazilian market. With its contribution, SulAmérica acquired a 49% interest in the joint venture, Healthways Brasil Servicos de Consultoria LTDA ("Healthways Brazil"). We determined that our interest in Healthways Brazil represented a controlling financial interest and, therefore, prior to selling the TPHS business, consolidated the financial statements of Healthways Brazil and presented a non-controlling interest for the portion owned by SulAmérica. The net assets and results of operations of Healthways Brazil were part of the sale of the TPHS business and are included within discontinued operations in the accompanying consolidated financial statements.
As used throughout these notes to the consolidated financial statements, unless the context otherwise indicates, the terms "we," "us," "our," or the "Company" refer collectively to Tivity Health, Inc. and its wholly-owned subsidiaries.
a.
Principles of Consolidation - See discussion above regarding the TPHS business, including a non-controlling interest. We have eliminated all intercompany profits, transactions and balances.
b.
Cash and Cash Equivalents - Cash and cash equivalents primarily include cash on deposit.
c.
Accounts Receivable, net - Accounts receivable includes billed and unbilled amounts. Billed receivables represent fees that are contractually due for services performed, net of contractual allowances (reflected as a reduction of revenue) and allowances for doubtful accounts (reflected as selling, general and administrative expenses). These combined allowances totaled $0.2 million at December 31, 2017 and $0.7 million at December 31, 2016. Unbilled receivables primarily represent fees recognized for monthly member utilization of fitness facilities under our SilverSneakers fitness solution, billed one month in arrears. Historically, we have experienced minimal instances of customer non-payment and therefore consider our accounts receivable to be collectible; however, we provide reserves, when appropriate, for doubtful accounts and for contractual allowances (such as data reconciliation differences) on a specific identification basis.
d.
Property and Equipment - Property and equipment is carried at cost and includes expenditures that increase value or extend useful lives. We recognize depreciation using the straight-line method over useful lives of three to seven years for computer software and hardware and four to seven years for furniture and other office equipment. Leasehold improvements are depreciated over the shorter of the estimated life of the asset or the life of the lease, which ranges from two to fifteen years. Depreciation expense for the years ended December 31, 2017, 2016, and 2015 was $3.4 million, $3.6 million, and $6.3 million, respectively, including depreciation of assets recorded under capital leases.
e.
Other Assets - Other assets consist primarily of an adjustable convertible equity right (see Note 3), which is accounted for as a cost method investment.
f.
Intangible Assets - Intangible assets subject to amortization include customer contracts, acquired technology, and distributor and provider networks, which we amortized on a straight-line basis over estimated useful lives ranging from three to ten years. All intangible assets subject to amortization were fully amortized at December 31, 2017.
We assess the potential impairment of intangible assets subject to amortization whenever events or changes in circumstances indicate that the carrying values may not be recoverable. If we determine that the carrying value of identifiable intangible assets may not be recoverable, we calculate any impairment using an estimate of the asset's fair value based on the estimated price that would be received to sell the asset in an orderly transaction between market participants.
Intangible assets not subject to amortization at December 31, 2017 and 2016 consist of a trade name of $29.0 million. We review intangible assets not subject to amortization on an annual basis or more frequently whenever events or circumstances indicate that the assets might be impaired. See Note 5 for further information on intangible assets.
g.
Goodwill - We recognize goodwill for the excess of the purchase price over the fair value of tangible and identifiable intangible net assets of businesses that we acquire.
We review goodwill for impairment at the reporting unit level (operating segment or one level below an operating segment) on an annual basis (during the fourth quarter of the fiscal year) or more frequently whenever events or circumstances indicate that the carrying value may not be recoverable. We have a single reporting unit.
We may elect to perform a qualitative assessment to determine whether it is more likely than not that the fair value of the reporting unit is less than its carrying value. If we conclude during the qualitative assessment that this is the case or if we elect not to perform a qualitative assessment, we perform a quantitative review as described below.
During a quantitative review of goodwill, we estimate the fair value of a reporting unit using a combination of a discounted cash flow model and a market-based approach, and in the event we were to have multiple reporting units, we reconcile the aggregate fair value of our reporting units to our consolidated market capitalization. Estimating fair value requires significant judgments, including management's estimate of future cash flows, which is dependent on internal forecasts, estimation of the long-term growth rate for our business, the useful life over which cash flows will occur, and determination of our weighted average cost of capital, as well as relevant comparable company earnings multiples for the market-based approach. Changes in these estimates and assumptions could materially affect the estimate of fair value and potential goodwill impairment for a reporting unit.
If we determine that the carrying value of goodwill is impaired, we calculate any impairment using a fair-value based goodwill impairment test as required by generally accepted accounting principles in the United States ("U.S. GAAP"). The fair value of a reporting unit is the price that would be received upon a sale of the unit as a whole in an orderly transaction between market participants at the measurement date.
h
Accounts Payable- Accounts payable consists of short-term trade obligations and includes cash overdrafts attributable to disbursements not yet cleared by the bank.
i.
Income Taxes - We file a consolidated federal income tax return that includes all of our wholly-owned subsidiaries. U.S. GAAP generally require that we record deferred income taxes for the tax effect of differences between the book and tax bases of our assets and liabilities. We recognize the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position. The tax benefits recognized in the financial statements from such a position are measured based on the largest benefit that has a greater than 50% likelihood of being realized upon ultimate settlement.
Valuation allowances are established when necessary to reduce deferred tax assets to the amounts that are expected to be realized. When we determine that it is more likely than not that we will be able to realize our deferred tax assets in the future, an adjustment to the deferred tax asset is made and reflected in income.
j.
Revenue Recognition - We recognize revenue as services are performed when persuasive evidence of an arrangement exists, collectability is reasonably assured, and amounts are fixed or determinable.
Our fees are generally billed per member per month ("PMPM"), or a combination of PMPM and member
participation. For PMPM fees, we generally determine our contract fees by multiplying the contractually negotiated PMPM rate by the number of members eligible for or receiving our services during the month. We generally bill our customers each month for the entire amount of the fees contractually due for the prior month's enrollment. Fees for participation are typically billed in the month after the services are provided.
We recognize PMPM fees and fees for participation as revenue during the period we perform our services.
On January 1, 2018, we adopted Accounting Standards Update ("ASU") No. 2014-09 (as discussed under "Recent Relevant Accounting Standards" below) using the modified retrospective transition method applied to contracts that were not completed as of January 1, 2018.
k.
Earnings (Loss) Per Share - We calculate basic earnings (loss) per share using weighted average common shares outstanding during the period. We calculate diluted earnings (loss) per share using weighted average common shares outstanding during the period plus the effect of all dilutive potential common shares outstanding during the period unless the impact would be anti-dilutive. See Note 15 for a reconciliation of basic and diluted earnings (loss) per share.
l.
Share-Based Compensation - We recognize all share-based payments to employees in the consolidated statements of operations over the required vesting period based on estimated fair values at the date of grant. See Note 13 for further information on share-based compensation.
m.
Derivative Instruments and Hedging Activities - We use derivative instruments to manage risks related to interest expense and the cash convertible senior notes (as discussed in Note 7). We account for derivatives in accordance with Financial Accounting Standards Board ("FASB") Accounting Standard Codification ("ASC") Topic 815, which establishes accounting and reporting standards requiring that certain derivative instruments be recorded on the balance sheet as either an asset or liability measured at fair value. Additionally, changes in the derivative's fair value will be recognized currently in earnings unless specific hedge accounting criteria are met. As permitted under our master netting arrangements, the fair value amounts of our interest rate swaps are presented on a net basis by counterparty in the consolidated balance sheets. See Note 10 for further information on derivative instruments and hedging activities.
n.
Management Estimates - In preparing our consolidated financial statements in conformity with U.S. GAAP, management must make estimates and assumptions that affect: (1) the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements; and (2) the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
2.
Recent Relevant Accounting Standards
In May 2014, the FASB issued ASU No. 2014-09, which creates ASC Topic 606, "Revenue from Contracts with Customers" ("ASC Topic 606") and supersedes ASC Topic 605, "Revenue Recognition." The provisions of ASC Topic 606 provide for a single comprehensive principles-based standard for the recognition of revenue across all industries and expanded disclosure about the nature, amount, timing and uncertainty of revenue, as well as certain additional quantitative and qualitative disclosures. The standard is effective for annual periods beginning after December 15, 2017, including interim periods within those years. The guidance permits the use of either a full retrospective or modified retrospective transition method. On January 1, 2018, we adopted ASC Topic 606 using the modified retrospective transition method applied to contracts that were not completed as of January 1, 2018. The cumulative impact of our adoption of ASC Topic 606 was not material.
In February 2016, the FASB issued ASU No. 2016-02, "Leases" ("ASU 2016-02"), which requires that lessees recognize assets and liabilities for leases with lease terms greater than 12 months in the statement of financial position. ASU 2016-02 also requires improved disclosures to help users of financial statements better understand the amount, timing and uncertainty of cash flows arising from leases. The update is effective for fiscal years beginning after December 15, 2018, including interim reporting periods within those years. We are currently evaluating the impact that the adoption of ASU 2016-02 will have on our financial position, results of operations and cash flows.
In March 2016, the FASB issued ASU No. 2016-09, "Compensation-Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting" ("ASU 2016-09"), which we adopted on January 1, 2017. ASU 2016-09 requires all income tax effects of share-based awards to be recognized on a prospective basis in the income statement, of which excess tax benefits were previously presented as a component of shareholders' equity. In addition, any excess tax benefits that were not previously recognized because the related tax deduction had not reduced current taxes payable are to be recorded on a modified retrospective basis through a cumulative-effect adjustment to retained earnings as of the beginning of the period of adoption, which resulted in an increase of $6.5 million to our retained earnings as of January 1, 2017. Regarding the statement of cash flows, the standard requires the presentation of excess tax benefits as an operating activity rather than as a financing activity and that cash paid by the Company when directly withholding shares for tax withholding purposes be classified as a financing activity on a retrospective basis. The standard also allows for an accounting policy election to estimate the number of awards that are expected to vest or to account for forfeitures when they occur. We elected to account for forfeitures as they occur, which did not result in a material cumulative effect adjustment to our retained earnings as of January 1, 2017. Finally, the standard no longer allows excess tax benefits to be included in the assumed proceeds when applying the treasury stock method for computing diluted earnings per share ("EPS"), which results in share-based awards having a more dilutive effect on EPS.
In August 2016, the FASB issued ASU No. 2016-15, "Statement of Cash Flows" (Topic 230) ("ASU 2016-15"), which we adopted on January 1, 2018. ASU 2016-15 addresses how certain cash receipts and cash payments are presented and classified in the statement of cash flows and is to be applied using a retrospective approach. We do not anticipate that adopting this standard will have a material impact on our consolidated financial statements and related disclosures.
In January 2017, the FASB issued ASU No. 2017-04, "Intangibles - Goodwill and Other" ("ASU 2017-04"), which simplifies the subsequent measurement of goodwill by eliminating step two from the goodwill impairment test. ASU 2017-04 is effective for annual and interim impairment tests in fiscal years beginning after December 15, 2019 and is required to be applied prospectively. Early adoption is allowed for annual goodwill impairment tests performed on testing dates after January 1, 2017. We do not anticipate that adopting this standard will have an impact on our consolidated financial statements and related disclosures.
In May 2017, the FASB issued ASU No. 2017-09, "Compensation-Stock Compensation (Topic 718): Scope of Modification Accounting" ("ASU 2017-09"), which provides guidance about which changes to the terms or conditions of a share-based payment award require an entity to apply modification accounting in ASC Topic 718. The update is effective for fiscal years beginning after December 15, 2017, including interim reporting periods within those years, with early adoption permitted. We do not anticipate that adopting this standard will have a material impact on our consolidated financial statements and related disclosures.
3.
Discontinued Operations
On July 27, 2016, we entered into a Membership Interest Purchase Agreement (the "Purchase Agreement") with Sharecare, Inc. ("Sharecare") and Healthways SC, LLC ("Healthways SC"), a newly formed Delaware limited liability company and wholly owned subsidiary of the Company, pursuant to which Sharecare acquired the TPHS business, which closed effective July 31, 2016 ("Closing").
At Closing, Sharecare delivered to the Company an Adjustable Convertible Equity Right (the "ACER") with an initial face value of $30.0 million, which will be convertible into shares of common stock of Sharecare 24 months after Closing at an initial conversion price of $249.87 per share, subject to customary adjustment for stock splits, stock dividends and other reorganizations of Sharecare. Additionally, pursuant to the Purchase Agreement, we paid Sharecare $25.0 million in cash at Closing to fund projected losses of the TPHS business during the year following Closing (the "Transition Year").
The Purchase Agreement provided for post-closing adjustments based on (i) net working capital (which resulted in an increase in the face amount of the ACER due to a net working capital surplus, as further discussed below), (ii) negative cash flows of the TPHS business during the Transition Year in excess of $25.0 million (which could have resulted in a reduction in the face amount of the ACER up to a maximum reduction of $20.0 million but did not result in any reduction, as further discussed below), and (iii) any successful claims for indemnification by Sharecare (which may result in a reduction in the face amount of the ACER, unless the Company elects, in its sole discretion, to satisfy any such successful claims with cash payments).
During 2016, we recorded $10.0 million of the ACER's $30.0 million face value (and did not yet record the $20.0 million face value related to the maximum negative cash flow adjustment) at its estimated fair value of $2.7 million as of Closing. In May 2017, we entered into an agreement with Sharecare regarding the final working capital amount delivered at Closing, which resulted in a final net working capital surplus of $9.8 million and a corresponding increase to the face value of the ACER (per the terms of the Purchase Agreement), bringing the adjusted total face value of the ACER to $39.8 million. We recorded the $9.8 million of additional face value at its estimated fair value of $2.6 million. Finally, in September 2017, Sharecare indicated that the contingency was resolved with respect to the portion of the ACER (having a face value of $20.0 million) subject to the negative cash flows adjustment described above, and we recorded it at its estimated fair value of $5.5 million. Therefore, as of December 31, 2017, we have recorded the $39.8 million face value of the ACER at an estimated carrying value of $10.8 million, which is classified as an equity receivable included in other assets.
Pursuant to Sharecare's acquisition of the TPHS business, our ownership interest in the joint venture with Gallup (the "Gallup Joint Venture") was transferred to Sharecare. We agreed with Sharecare to be responsible for two-thirds of the remaining payment obligations in respect of the purchase price to be paid in connection with Sharecare's acquisition of additional membership interest in the Gallup Joint Venture. As of December 31, 2017, the remaining obligation totaled $0.8 million and was included in accrued liabilities.
The terms of the Purchase Agreement also impacted other existing contractual commitments, including the elimination of the minimum fee requirements under our technology services outsourcing agreement with HP Enterprise Services, LLC.
Effective July 31, 2016, in connection with the Closing, the Company and CareFirst Holdings, LLC ("CareFirst"), agreed to terminate the Investment Agreement between them (see Note 7). Also in connection with the Closing, all of the Commercial Agreements (defined in Note 7) between the Company and CareFirst relating to the TPHS business were transferred to Healthways SC that, effective at the Closing, became a wholly-owned subsidiary of Sharecare. As a result, CareFirst no longer has the opportunity to earn CareFirst Warrants (as defined in Note 7) in respect of the periods following the Closing. The Convertible Note, the Registration Rights Agreement and the CareFirst Warrants previously issued to CareFirst were not affected by the termination of the Investment Agreement.
The following table presents financial results of the TPHS business included in "loss from discontinued operations" for the years ended December 31, 2017, 2016, and 2015.
(1)
During the second quarter of 2017, we substantially liquidated foreign entities that were part of our TPHS business, resulting in a release of the cumulative translation adjustment of $3.0 million into loss from discontinued operations.
(2)
Income tax benefit for the year ended December 31, 2017 includes the effect of a change in the estimate of net U.S. tax incurred in 2016 on foreign activity classified as discontinued operations.
The depreciation, amortization and significant operating and investing non-cash items of the discontinued operations were as follows:
4.
Goodwill
The change in carrying amount of goodwill during the years ended December 31, 2017, 2016, and 2015 is shown below:
On November 1, 2015, we sold Navvis, a provider of healthcare consulting and advisory services, for $4.4 million in cash, which resulted in a gain of $1.9 million.
In June 2016, we sold the assets of MeYou Health, a wholly-owned subsidiary of the Company that was engaged in the business of developing and delivering certain digital health applications, for $5.5 million in cash and additional contingent consideration up to $1.5 million, which resulted in a loss of $4.8 million. This loss is included in loss from discontinued operations in our consolidated statement of comprehensive income (loss) for the year ended December 31, 2016.
No goodwill was allocated to the disposal group in connection with the sale of the TPHS business.
At each of December 31, 2017 and December 31, 2016, the gross amount of goodwill totaled $517.0 million, and we had accumulated impairment losses of $182.4 million.
5.
Intangible Assets
Intangible assets subject to amortization at December 31, 2017 consisted of the following.
Intangible assets subject to amortization at December 31, 2016 consisted of the following.
As all intangible assets subject to amortization were fully amortized as of December 31, 2017, no amortization expense is expected over the next five years and thereafter. Total amortization expense for the years ended December 31, 2017, 2016, and 2015 was $0, $0.5 million, and $0.5 million, respectively.
Intangible assets not subject to amortization at December 31, 2017 and 2016 consist of a tradename of $29.0 million.
6.
Income Taxes
Income tax expense is comprised of the following:
Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. The following table sets forth the significant components of our net deferred tax asset and liability as of December 31, 2017 and 2016:
In December 2017, we recorded $5.0 million of tax expense necessary to revalue our deferred tax assets and liabilities at the new 21% federal rate as enacted in the Tax Cuts and Jobs Act of 2017 (the "Tax Act").
At December 31, 2017, we provided valuation allowances for $3.4 million of deferred tax assets associated with our international net operating loss carryforwards and $8.1 million for deferred tax assets related to capital loss carryforwards incurred in the sale of the TPHS business. We recorded a total decrease in our valuation allowance of $3.7 million for the year ended December 31, 2017, which included a $4.0 million decrease recorded to continuing operations related to the change in federal tax rate from 35% to 21% under the Tax Act for deferred tax assets subject to valuation allowance. The remaining $0.3 million offsetting increase in valuation allowance for 2017 related to international net operating loss and capital loss carryforwards and was recorded to discontinued operations. Our valuation allowance at December 31, 2017 is $11.5 million.
At December 31, 2017, we had international net operating loss carryforwards totaling approximately $12.9 million with an indefinite carryforward period, approximately $99.2 million of federal net operating loss carryforwards, approximately $151.9 million of state net operating loss carryforwards expiring between 2018 and 2036, approximately $30.5 million of capital loss carryforwards expiring in 2021, and approximately $4.6 million of foreign tax credits expiring between 2022 and 2027. Of the federal net operating loss carryforwards, $2.8 million is subject to annual limitation under Internal Revenue Code Section 382 and expires in 2021, if not utilized. The remainder of the federal net operating loss carryforwards expire between 2035 and 2036.
Upon adoption of ASU 2016-09 on January 1, 2017, we recorded a $6.5 million increase in deferred tax assets as a cumulative-effect adjustment to retained earnings. The increase in deferred tax assets related to the previously suspended portion of net operating losses attributable to excess tax deductions from share-based payment awards. In 2016, pursuant to ASC Topic 718-740, "Stock Compensation", we tracked in a separate memo account the portion of our cumulative net operating losses attributable to excess tax deductions from share-based payment awards, which totaled $16.5 million at December 31, 2016. The tax benefits related to these amounts were not included in our gross or net deferred tax assets and were not recorded to additional paid-in capital at December 31, 2016 since the related tax deduction would not have reduced cash taxes payable.
In 2017, our undistributed foreign earnings were subject to the mandatory deemed repatriation ("toll charge") provision included in the Tax Act, and we repatriated these earnings during 2017. Due to the mandatory deemed repatriation, we recorded $2.5 million of tax expense in continuing operations as of the date of enactment. We have no undistributed earnings at December 31, 2017. We recorded a $1.6 million deferred tax liability on $13.9 million of undistributed foreign earnings at December 31, 2016.
The difference between income tax expense computed using the statutory federal income tax rate and the effective rate is as follows:
Uncertain Tax Positions
As of December 31, 2017, we had $0.6 million of unrecognized tax benefits that, if recognized, would affect our effective tax rate. Our policy is to include interest and penalties related to unrecognized tax benefits in income tax expense. During 2017 and 2016, there were no interest and penalties related to unrecognized tax benefits recorded as income tax expense. During 2015, we included an immaterial amount of net interest related to uncertain tax positions as a component of income tax expense.
The aggregate changes in the balance of unrecognized tax benefits, exclusive of interest, were as follows:
We file income tax returns in the U.S. Federal jurisdiction and in various state and foreign jurisdictions. Tax years remaining subject to examination in the U.S. Federal jurisdiction include 2014 to present.
7.
Debt
The Company's debt, net of unamortized deferred loan costs, consisted of the following at December 31, 2017 and 2016:
Credit Facility
On June 8, 2012, we entered into the Fifth Amended and Restated Revolving Credit and Term Loan Agreement (as amended, the "Prior Credit Agreement"). The Prior Credit Agreement provided us with a $125 million revolving credit facility that included a swingline sub facility of $20 million and a $75 million sub facility for letters of credit. The Prior Credit Agreement also provided a $200 million term loan facility and an uncommitted incremental accordion facility of $100 million. Borrowings under the Prior Credit Agreement generally bore interest at variable rates based on a margin or spread in excess of either (1) the one-month, two-month, three-month or six-month rate (or with the approval of affected lenders, nine-month or twelve-month rate) for Eurodollar deposits ("LIBOR", which may not be less than zero), or (2) the greatest of (a) the SunTrust Bank prime lending rate, (b) the federal funds rate plus 0.50% and (c) one-month LIBOR plus 1.00% (the "Base Rate"), as selected by the Company. The LIBOR margin varied between 1.75% and 3.00%, and the Base Rate margin varied between 0.75% and 2.00%, depending on our leverage ratio. The Prior Credit Agreement also provided for an annual fee ranging between 0.30% and 0.50% of the unused commitments under the revolving credit facility.
On April 21, 2017, we entered into a new Revolving Credit and Term Loan Agreement (the "Credit Agreement") with a group of lenders, which replaced the Prior Credit Agreement. The Credit Agreement provides us with (1) a $100 million revolving credit facility that includes a $25 million sublimit for swingline loans and a $75 million sublimit for letters of credit, (2) a $70 million term loan A facility, (3) a $150 million delayed draw term loan facility, and (4) an uncommitted incremental accordion facility of $100 million.
We used the proceeds of the term loan A and cash on hand to repay all of the outstanding indebtedness under the Prior Credit Agreement and to pay transaction costs and expenses. Proceeds of revolving loans and delayed draw term loans may be used to repay outstanding indebtedness (including amounts payable upon or in respect of any conversion of the Cash Convertible Notes discussed below and the repayment of any revolving loans borrowed for such purposes), to finance working capital needs, to finance acquisitions, to finance the repurchase of our common stock, to finance capital expenditures and for other general corporate purposes of the Company and its subsidiaries. Delayed draw term loans may not be borrowed after July 2, 2018.
We are required to repay the term loan A and any outstanding revolving loans in full on April 21, 2022. The term loan A was repaid in full as of December 31, 2017. If we elect to borrow the delayed draw term loans, we will be required to repay the delayed draw term loans in quarterly principal installments calculated as follows: (1) for each of the first 12 quarters following the time of borrowing, 1.250% of the aggregate principal amount of the delayed draw term loans funded as of the last day of the immediately preceding quarter; and (2) for each of the remaining quarters prior to maturity on April 21, 2022, 1.875% of the aggregate principal amount of the delayed draw term loans funded as of the last day of the immediately preceding quarter. At maturity on April 21, 2022, the entire unpaid principal balances of the delayed draw term loans are due and payable. As of December 31, 2017, we had not borrowed any amounts under the delayed draw term loan, and availability under the revolving credit facility totaled $92.6 million.
Borrowings under the Credit Agreement generally bear interest at variable rates based on a margin or spread in excess of either (1) the one-month, two-month, three-month or six-month LIBOR rate (or with the approval of affected lenders, the 12-month LIBOR rate), which may not be less than zero, or (2) the greatest of (a) the SunTrust Bank prime lending rate, (b) the federal funds rate plus 0.50%, and (c) one-month LIBOR plus 1.00% (the "Base Rate"), as selected by the Company. The LIBOR margin varies between 1.50% and 2.75%, and the Base Rate margin varies between 0.50% and 1.75%, depending on our net leverage ratio. The Credit Agreement also provides for annual fees ranging between 0.20% and 0.50% of the unused commitments under the revolving credit facility and the delayed draw term loan facility. Extensions of credit under the Credit Agreement are secured by guarantees from all of the Company's active material subsidiaries and by security interests in substantially all of the Company's and such subsidiaries' assets.
The Credit Agreement contains financial covenants that require us to maintain, as defined, specified ratios or levels of (1) funded debt to EBITDA and (2) fixed charge coverage. The Credit Agreement also contains various other affirmative and negative covenants that are typical for financings of this type. Among other things, they limit repurchases of our common stock and the amount of dividends that we can pay to holders of our common stock.
1.50% Cash Convertible Senior Notes Due 2018
On July 16, 2013, we completed the issuance of $150.0 million aggregate principal amount of cash convertible senior notes due 2018 (the "Cash Convertible Notes"), which bear interest at a rate of 1.50% per year, payable semiannually in arrears on January 1 and July 1 of each year, beginning on January 1, 2014. The Cash Convertible Notes will mature on July 1, 2018, unless earlier repurchased or converted into cash in accordance with their terms prior to such date. Accordingly, we have classified the Cash Convertible Notes, net of the unamortized discount, and related deferred loan costs as a current liability at December 31, 2017 and as long-term debt at December 31, 2016.
At the option of the holders, the Cash Convertible Notes are convertible into cash based on the conversion rate set forth below only upon occurrence of certain triggering events as defined in the indenture dated as of July 8, 2013 by and between the Company and U.S. Bank National Association, none of which had occurred as of December 31, 2016 and one of which had occurred as of December 31, 2017, as further detailed below.
Pursuant to the indenture under which we issued the Cash Convertible Notes, the Cash Convertible Notes became convertible into cash (at the option of the holder) during the period that began on January 1, 2018 and ends on June 28, 2018. The cash conversion rate (subject to adjustment, as set forth in the indenture) is 51.3769 shares of the Company's common stock per $1,000 principal amount of the Cash Convertible Notes (equivalent to an initial conversion price of $19.4640 per share of common stock). The settlement of any Cash Convertible Notes surrendered for conversion during this period will occur on July 2, 2018, which is the third business day following the end of the applicable observation period with respect to such conversion (i.e., the 80 consecutive trading day period beginning on the 82nd scheduled trading day immediately preceding the maturity date, which 82nd scheduled trading day is March 6, 2018). The indenture requires the Company to satisfy the entire settlement
amount for any conversions (determined in accordance with the provisions of the indenture) in cash, and the notes are not convertible into the Company's common stock or any other securities under any circumstances.
The Cash Convertible Notes are our senior unsecured obligations and rank senior in right of payment to any of our indebtedness that is expressly subordinated in right of payment to the Cash Convertible Notes. As a result of this transaction, we recognized deferred loan costs of approximately $3.9 million, which are being amortized over the term of the Cash Convertible Notes using the effective interest method.
The cash conversion feature of the Cash Convertible Notes is a derivative liability (the "Cash Conversion Derivative") that requires bifurcation from the Cash Convertible Notes in accordance with FASB ASC Topic 815, "Derivatives and Hedging" ("ASC Topic 815"), and is carried at fair value. At December 31, 2016, because the Cash Convertible Notes were classified as long-term debt, the Cash Conversion Derivative was classified as a long-term liability. Due to the classification of the Cash Convertible Notes as a current liability at December 31, 2017, the Cash Conversion Derivative is recorded in current liabilities at December 31, 2017. The fair value of the Cash Conversion Derivative at the time of issuance of the Cash Convertible Notes was $36.8 million, which was recorded as a debt discount for purposes of accounting for the debt component of the Cash Convertible Notes. The debt discount is being amortized over the term of the Cash Convertible Notes using the effective interest method. For the years ended December 31, 2017 and 2016, we recorded $8.0 million and $7.6 million, respectively, of interest expense related to the amortization of the debt discount based upon an effective interest rate of 5.7%. We also recognized $2.3 million of interest expense for each of the years ended December 31, 2017 and 2016 related to the contractual interest rate of 1.50% per year. The net carrying amount of the Cash Convertible Notes at December 31, 2017 and December 31, 2016 was $145.9 million and $137.9 million, respectively, net of the unamortized discount of $4.1 million and $12.1 million, respectively.
In connection with the issuance of the Cash Convertible Notes, we entered into privately negotiated convertible note hedge transactions (the "Cash Convertible Notes Hedges"), which are cash-settled and are intended to reduce our exposure to potential cash payments that we would be required to make if holders elect to convert the Cash Convertible Notes at a time when our stock price exceeds the conversion price. The initial cost of the Cash Convertible Notes Hedges was $36.8 million. At December 31, 2016, because the Cash Convertible Notes were classified as long-term debt, the Cash Convertible Notes Hedges were classified as long-term assets. Due to the classification of the Cash Convertible Notes as a current liability at December 31, 2017, the Cash Convertible Notes Hedges are classified in current assets at December 31, 2017. The Cash Convertible Notes Hedges are recorded as a derivative asset under ASC Topic 815 and are carried at fair value. See Note 9 for additional information regarding the Cash Convertible Notes Hedges and the Cash Conversion Derivative and their fair values.
In July 2013, we also sold separate privately negotiated warrants (the "Warrants") initially relating, in the aggregate, to a notional number of shares of our common stock underlying the Cash Convertible Notes Hedges. The Warrants have an initial strike price of approximately $25.95 per share. The Warrants will be net share settled by issuing a number of shares of our common stock per Warrant corresponding to the excess of the market price per share of our common stock (as measured on each warrant exercise date under the terms of the Warrants) over the applicable strike price of the Warrants. The Warrants meet the definition of derivatives under the guidance in ASC Topic 815; however, because these instruments have been determined to be indexed to our own stock and meet the criteria for equity classification under ASC Topic 815, the Warrants have been accounted for as an adjustment to our additional paid-in-capital.
When the market value per share of our common stock exceeds the strike price of the Warrants, the Warrants have a dilutive effect on net income per share, and the "treasury stock" method is used in calculating the dilutive effect on earnings per share. See Note 10 for additional information on such dilutive effect.
CareFirst Convertible Note and CareFirst Warrants
On October 1, 2013, we entered into an Investment Agreement (the "Investment Agreement") with CareFirst"), which was in addition to certain commercial agreements between us and CareFirst relating to, among other things, disease management and care coordination services (the "Commercial Agreements").
Pursuant to the Investment Agreement, we issued to CareFirst a convertible subordinated promissory note in the aggregate original principal amount of $20 million (the "CareFirst Convertible Note") for a purchase price of $20 million. The CareFirst Convertible Note was convertible into shares of our common stock at the conversion rate determined by dividing (a) the sum of the portion of the principal to be converted and accrued and unpaid interest
with respect to such principal by (b) the conversion price equal to $22.41 per share of our common stock. In October 2016, CareFirst elected to convert the full amount of the CareFirst Convertible Note into 892,458 shares of our common stock with a conversion price equal to $22.41 per share.
In addition, CareFirst had an opportunity to earn warrants to purchase shares of our common stock ("CareFirst Warrants") based on achievement of certain quarterly thresholds for revenue derived from both the Commercial Agreements and from new business to us from third parties as a result of an introduction or referral to us by CareFirst. As discussed in Note 3, CareFirst no longer had the opportunity to earn CareFirst Warrants in respect of the periods following the Closing. All CareFirst Warrants earned by CareFirst prior to Closing were exercised by CareFirst as of December 31, 2016.
The following table summarizes the minimum annual principal payments and repayments of the revolving advances under the Credit Agreement and the Cash Convertible Notes for each of the next five years and thereafter:
8.
Commitments and Contingencies
Summary
On November 6, 2017, United Healthcare issued a press release announcing expansion of its fitness benefits ("United Press Release"), and the market price of the Company's shares of common stock dropped on that same day. In connection with the United Press Release, two lawsuits have been filed against the Company as described below. We intend to vigorously defend ourselves against both complaints.
On November 20, 2017, Eric Weiner, claiming to be a stockholder of the Company, filed a complaint on behalf of stockholders who purchased the Company's common stock between February 24, 2017 and November 3, 2017 ("Weiner Lawsuit"). The Weiner Lawsuit was filed as a class action in the U.S. District Court for the Middle District of Tennessee, naming the Company, the Company's chief executive officer, chief financial officer and chief accounting officer as defendants. The complaint alleges that the defendants violated Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 (the "Exchange Act") and Rule 10b-5 promulgated under the Exchange Act in making false and misleading statements and omissions related to the United Press Release. The complaint seeks monetary damages on behalf of the purported class. On January 19, 2018, the Oklahoma Firefighters Pension and Retirement System filed a motion to appoint counsel and lead plaintiff.
On January 26, 2018, Charles Denham, claiming to be a stockholder of the Company, filed a purported shareholder derivative action, on behalf of the Company, in the U.S. District Court for the Middle District of Tennessee, naming the Company as a nominal defendant and the Company's chief executive officer, chief financial officer, chief accounting officer, current directors of the Company and a former director of the Company, as defendants. The complaint asserts claims for breach of fiduciary duty, waste, and unjust enrichment, largely tracking allegations in the Weiner Lawsuit. The complaint further alleges that certain defendants engaged in insider trading. The plaintiff seeks monetary damages on behalf of the Company, certain corporate governance and internal procedural reforms, and other equitable relief.
Additionally, from time to time, we are subject to contractual disputes, claims and legal proceedings that arise from time to time in the ordinary course of our business. While we are unable to estimate a range of potential losses, we do not believe that any of the legal proceedings pending against us as of the date of this Report, some of which are expected to be covered by insurance policies, will have a material adverse effect on our financial statements. As these matters are subject to inherent uncertainties, our view of these matters may change in the future. We expense legal costs as incurred.
Contractual Commitments
In October 2012, we entered into the Gallup Joint Venture that required us to make payments over a five-year period beginning January 2013. Pursuant to Sharecare's acquisition of the TPHS business, our ownership interest in the Gallup Joint Venture was transferred to Sharecare. We agreed with Sharecare to be responsible for two-thirds of the remaining payment obligations in respect of the purchase price to be paid in connection with Sharecare's acquisition of additional membership interest in the Gallup Joint Venture. As of December 31, 2017, the remaining obligation totaled $0.8 million and was included in accrued liabilities. The financial impact of the strategic relationship with Gallup and the Gallup Joint Venture are reflected in discontinued operations for all periods presented as each of these were a part of the TPHS business.
9.
Fair Value Measurements
We account for certain assets and liabilities at fair value. Fair value is defined as the price that would be received upon sale of an asset or paid upon transfer of a liability in an orderly transaction between market participants at the measurement date, assuming the transaction occurs in the principal or most advantageous market for that asset or liability.
Fair Value Hierarchy
The hierarchy below lists three levels of fair value based on the extent to which inputs used in measuring fair value are observable in the market. We categorize each of our fair value measurements in one of these three levels based on the lowest level input that is significant to the fair value measurement in its entirety. These levels are:
Level 1: Quoted prices in active markets for identical assets or liabilities;
Level 2:
Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-based valuation techniques in which all significant assumptions are observable in the market or can be corroborated by observable market data for substantially the full term of the assets or liabilities; and
Level 3: Unobservable inputs that are supported by little or no market activity and typically reflect management's estimates of assumptions that market participants would use in pricing the asset or liability.
Assets and Liabilities Measured at Fair Value on a Non-Recurring Basis
Based on our estimate of fair value prior to the disposition of the TPHS business, we determined in 2015 that the present value of our remaining contractual cash obligations in the Gallup Joint Venture exceeded the estimated fair value, resulting in the recognition of a liability associated with the forward option to acquire additional membership interest (the "Gallup Derivative"). Prior to July 31, 2016 and the sale of the TPHS business, the Gallup Derivative was recorded as a derivative liability in accordance with FASB ASC Topic 815 and was carried at fair value. Upon the sale of the TPHS business, we remain obligated to Sharecare for two-thirds of the remaining payment obligations in respect of the purchase price to be paid in connection with Sharecare's acquisition of additional membership interest in the Gallup Joint Venture as discussed in Note 8 above. These payment obligations are recorded as a liability at December 31, 2017 but not as a derivative; since the Gallup Joint Venture was transferred to Sharecare, the Gallup Derivative was written off to discontinued operations.
Further, we measure certain assets at fair value on a nonrecurring basis in the fourth quarter of the year, including the following:
•
reporting units measured at fair value as part of a goodwill impairment test; and
•
indefinite-lived intangible assets measured at fair value for impairment assessment.
Each of these assets above is classified as Level 3 within the fair value hierarchy.
During the fourth quarter of 2017, we reviewed goodwill for impairment at the reporting unit level
(operating segment or one level below an operating segment). We have a single reporting unit. The fair value of a reporting unit is the price that would be received to sell the unit as a whole in an orderly transaction between market participants at the measurement date. We elected to perform a qualitative assessment to determine whether it was more likely than not that the fair value of the reporting unit was less than its carrying value. Based on our qualitative assessment, we determined that the carrying value of goodwill was not impaired.
Also during the fourth quarter of 2017, we estimated the fair value of our indefinite-lived intangible asset, a tradename, using a present value technique, which required management's estimate of future revenues attributable to this tradename, estimation of the long-term growth rate and royalty rate for this revenue, and determination of our weighted average cost of capital. Changes in these estimates and assumptions could materially affect the estimate of fair value for the tradename. We determined that the carrying value of the tradename was not impaired based upon the impairment review.
Assets and Liabilities Measured at Fair Value on a Recurring Basis
The following tables present our assets and liabilities measured at fair value on a recurring basis at December 31, 2017 and December 31, 2016:
(1) This column reflects the impact of netting derivative assets and liabilities by counterparty when a legally enforceable master netting agreement exists.
The fair values of the Cash Convertible Notes Hedges and the Cash Conversion Derivative are measured using Level 3 inputs because these instruments are not actively traded. They are valued using an option pricing model that uses observable and unobservable market data for inputs, such as expected time to maturity of the derivative instruments, the risk-free interest rate, the expected volatility of our common stock, and other factors. The Cash Convertible Notes Hedges and the Cash Conversion Derivative were designed such that changes in their fair values would offset one another, with minimal impact to the consolidated statements of operations. Therefore, the sensitivity of changes in the unobservable inputs to the option pricing model for such instruments is mitigated.
The following table presents our financial instruments measured at fair value on a recurring basis using unobservable inputs (Level 3):
The gains and losses included in earnings noted above represent the change in the fair value of these financial instruments and are recorded each period in the consolidated statements of operations. The gains and losses on the Cash Convertible Notes Hedges and Cash Conversion Derivative are recorded as selling, general and administrative expenses.
Fair Value of Other Financial Instruments
In addition to the Cash Convertible Notes Hedges and the Cash Conversion Derivative, the estimated fair values of which are disclosed above, the estimated fair value of each class of financial instruments at December 31, 2017 was as follows:
Cash and cash equivalents - The carrying amount of $28.4 million approximates fair value because of the short maturity of those instruments (less than three months).
Long-term debt - The estimated fair value of outstanding borrowings under the Credit Agreement, which includes a revolving credit facility and a term loan facility (see Note 7), and the Cash Convertible Notes are determined based on the fair value hierarchy as discussed above.
The revolving credit facility and the term loan facility are not actively traded and therefore are classified as Level 2 valuations based on the market for similar instruments. The estimated fair value is based on the average of the prices set by the issuing bank given current market conditions and is not necessarily indicative of the amount we could realize in a current market exchange. There were no outstanding borrowings under the Credit Agreement at December 31, 2017.
The Cash Convertible Notes are actively traded and therefore are classified as Level 1 valuations. The estimated fair value at December 31, 2017 was $278.8 million, which is based on the most recent trading price of the Cash Convertible Notes as of December 31, 2017, and the par value was $150.0 million. The carrying amount of the Cash Convertible Notes at December 31, 2017 was $145.9 million, which is net of the debt discount discussed in Note 7.
10.
Derivative Instruments and Hedging Activities
We use derivative instruments to manage risks related to interest (through December 30, 2016), the Cash Convertible Notes, and, prior to the sale of the TPHS business, foreign currencies. We account for derivatives in accordance with ASC Topic 815, which establishes accounting and reporting standards requiring that certain derivative instruments be recorded on the balance sheet as either an asset or liability measured at fair value. Additionally, changes in the derivative's fair value will be recognized currently in earnings unless specific hedge accounting criteria are met. As permitted under our master netting arrangements, the fair value amounts of our prior interest rate swaps and foreign currency options and/or forward contracts are presented on a net basis by counterparty in the consolidated balance sheets.
Derivative Instruments Designated as Hedging Instruments
Cash Flow Hedges
Derivative instruments that are designated and qualify as cash flow hedges are recorded at estimated fair value in the consolidated balance sheets, with the effective portion of the gains and losses being reported in accumulated other comprehensive income or loss ("accumulated OCI"). We did not maintain any cash flow hedges during the year ended December 31, 2017. Cash flow hedges for the year ended December 31, 2016 consisted solely of an interest rate swap agreement, which effectively modified our exposure to interest rate risk by converting a portion of our floating rate debt to a fixed rate obligation, thus reducing the impact of interest rate changes on future interest expense. Under this agreement, which terminated on December 30, 2016, we received a variable rate of interest based on LIBOR, and we paid a fixed rate of interest with an interest rate of 1.480% plus a spread. Gains and losses on this interest rate swap agreement were reclassified to interest expense in the same period during which the hedged transaction affected earnings or the period in which all or a portion of the hedge became ineffective.
The following table shows the effect of our cash flow hedges on the consolidated balance sheets during the years ended December 31, 2017 and 2016:
Gains and losses representing either hedge ineffectiveness or hedge components excluded from the assessment of effectiveness are recognized in current earnings. During the years ended December 31, 2017 and 2016, there were no gains or losses on cash flow hedges recognized in our consolidated statements of comprehensive income (loss) resulting from hedge ineffectiveness.
Derivative Instruments Not Designated as Hedging Instruments
Our Cash Conversion Derivative, Cash Convertible Notes Hedges and, prior to July 31, 2016, foreign currency options and/or forward contracts, do not qualify for hedge accounting treatment under U.S. GAAP and are measured at fair value, with gains and losses recognized immediately in the consolidated statements of comprehensive income (loss). These derivative instruments not designated as hedging instruments did not have a material impact on our consolidated statements of comprehensive income (loss) for the years ended December 31, 2017 and 2016.
The Cash Conversion Derivative is accounted for as a derivative liability and carried at fair value. In order to offset the risk associated with the Cash Conversion Derivative, we entered into Cash Convertible Notes Hedges, which are cash-settled and are intended to reduce our exposure to potential cash payments that we would be required to make if holders elect to convert the Cash Convertible Notes at a time when our stock price exceeds the conversion price. The Cash Convertible Notes Hedges are accounted for as a derivative asset and carried at fair value.
The gains and losses resulting from a change in fair values of the Cash Conversion Derivative and the Cash Convertible Notes Hedges are reported in the consolidated statements of comprehensive income (loss).
Prior to the sale of the TPHS business, we also entered into foreign currency options and/or forward contracts in order to minimize our earnings exposure to fluctuations in foreign currency exchange rates. Our foreign currency exchange contracts required current period mark-to-market accounting, with any change in fair value being recorded each period in the consolidated statements of comprehensive income (loss) in selling, general and administrative expenses. We do not execute transactions or hold derivative financial instruments for trading or other purposes.
Financial Instruments
The estimated gross fair values of derivative instruments at December 31, 2017 and December 31, 2016, excluding the impact of netting derivative assets and liabilities when a legally enforceable master netting agreement exists, were as follows:
See also Note 9 for more information on fair value measurements.
11.
Other Long-Term Liabilities
Other long-term liabilities consist primarily of the Cash Conversion Derivative (at December 31, 2016 only), accrued severance and restructuring liabilities, deferred rent (see Note 12), and a deferred compensation plan.
We have a non-qualified deferred compensation plan under which certain employees may defer a portion of their salaries and receive a Company matching contribution plus a discretionary contribution based on the Company's performance against targets (the "Plan"). Company contributions vest equally over four years. We do not fund the Plan and carry it as an unsecured obligation. In December 2017, the Board of Directors of the Company determined effective as of December 31, 2017 to (i) cease deferrals and Company matching and discretionary contributions under the Plan and to freeze any additional growth additions under the Plan; (ii) fully vest the participants in their account balance(s) under the Plan; and (iii) terminate the Plan and distribute to participants the vested benefits accrued thereunder in accordance with the Plan and applicable regulations under the Internal Revenue Code.
As of December 31, 2017 and 2016, other long-term liabilities included vested amounts under the Plan of $1.3 million and $1.6 million, respectively. The current portions under the Plan (recorded in current portion of long-term liabilities) were $1.3 million and $5.9 million as of December 31, 2017 and 2016, respectively. We must make estimated Plan payments of $1.3 million for each of 2018 and 2019.
12.
Leases
We maintain operating lease agreements principally for our office spaces. We lease approximately 264,000 square feet of office space for our corporate headquarters in Franklin, Tennessee, approximately 221,000 square feet of which is subleased. This lease commenced in March 2008 and expires in February 2023. We also lease approximately 92,000 square feet of office space in Chandler, Arizona, and approximately 6,000 square feet of office space in Ashburn, Virginia. The Chandler, Arizona lease began in April 2009 and expires in April 2020.
Our corporate office lease agreement in Tennessee contains escalation clauses and provides for two renewal options of five years each at then prevailing market rates. The base rent for the initial 15-year term ranges from $4.3 million to $6.6 million per year over the term of the lease. The landlord provided a tenant improvement allowance equal to approximately $10.7 million. We record leasehold improvement incentives as deferred rent and amortize them as reductions to rent expense over the lease term.
Most of our operating leases include escalation clauses, some of which are fixed amounts, and some of which reflect changes in price indices. We recognize rent expense on a straight-line basis over the lease term. Certain operating leases contain renewal options to extend the lease for additional periods. For the years ended December 31, 2017, 2016, and 2015, rent expense under lease agreements, net of sublease income, was approximately $2.5 million, $4.2 million, and $3.7 million, respectively. Our capital lease obligations are included in long-term debt and the current portion of long-term debt.
The following table summarizes our future minimum lease payments, net of total cash receipts from subleases of $29.2 million, under all non-cancelable operating leases for each of the next five years and thereafter. As of December 31, 2017, future minimum lease payments under capital leases were not material.
13.
Share-Based Compensation
We have several stockholder-approved stock incentive plans for our employees and directors. During the year ended December 31, 2017, we had three types of share-based awards outstanding under these plans: stock options, restricted stock units, and market stock units. We believe that our share-based awards align the interests of our employees and directors with those of our stockholders.
We grant options under these plans at market value on the date of grant. The options generally vest over four years based on service conditions and expire ten years from the date of grant. Restricted stock units and restricted stock awards generally vest over three or four years. Market stock units granted during 2016 and 2015 have a multi-year performance period ending in 2019 and 2018, respectively, and will vest at the end of the three-year performance period based on total shareholder return.
We recognize share-based compensation expense for options, restricted stock units, and restricted stock awards on a straight-line basis over the vesting period. We account for forfeitures as they occur. We recognize share-based compensation expense for the market stock units if the requisite service period is rendered, even if the market condition is never satisfied. All awards generally provide for accelerated vesting upon a change in control or normal or early retirement (as defined in the applicable stock incentive plan). At December 31, 2017, we had reserved approximately 1.2 million shares for future equity grants under our stock incentive plan.
Following are certain amounts recognized in the consolidated statements of operations for share-based compensation arrangements for the years ended December 31, 2017, 2016 and 2015. We did not capitalize any share-based compensation costs during these periods.
(1)
Includes the acceleration of vesting in 2016 of all unvested stock options, market stock units and restricted stock units held by two former senior executives as of the Closing who had accepted employment with Sharecare.
(2)
Includes the acceleration of vesting in May 2015 of all unexercisable stock options and unvested time-based restricted stock units held by our former president and chief executive officer at the time of the termination of his employment.
As of December 31, 2017, there was $7.6 million of total unrecognized compensation cost related to
nonvested share-based compensation arrangements granted under the stock incentive plans. That cost is expected to be recognized over a weighted average period of 1.3 years.
In connection with the sale of the TPHS business, we modified approximately 92,000 options, 396,000 restricted stock units, and 75,000 market stock units by accelerating the vesting dates to July 31, 2016 (the date on which the sale of the TPHS business was consummated) for approximately 100 employees of the TPHS business. This resulted in share-based compensation expense of $7.4 million, all of which is included in discontinued operations for the year ended December 31, 2016.
Stock Options
We use a lattice-based binomial option valuation model ("lattice binomial model") to estimate the fair values of stock options. We base expected volatility on historical volatility due to the low volume of traded options on our stock. The expected term of options granted is derived from the output of the lattice binomial model and represents the period of time that options granted are expected to be outstanding. We used historical data to estimate expected option exercise and post-vesting employment termination behavior within the lattice binomial model. No stock options were granted during the years ended December 31, 2017 or 2016.
A summary of option activity as of December 31, 2017 and the changes during the year then ended is presented below:
The total intrinsic value, which represents the difference between the market price of the underlying common stock and the option's exercise price, of options exercised during the years ended December 31, 2017, 2016 and 2015 was $10.5 million, $10.2 million, and $5.3 million, respectively.
Cash received from option exercises under all share-based payment arrangements during 2017 was $5.7 million. The actual tax benefit realized during 2017 for the tax deductions from option exercise totaled $4.1 million. We issue new shares of common stock upon exercise of stock options or vesting of restricted stock units and market stock units.
Nonvested Shares
The fair value of restricted stock and restricted stock units is determined based on the closing bid price of the Company's common stock on the grant date. The weighted average grant-date fair value of restricted stock and restricted stock units granted during the years ended December 31, 2017, 2016, and 2015 was $32.06, $12.37, and $11.97, respectively. The fair value of market stock units is determined based on the closing bid price of the Company's common stock on the grant date, except that the Monte Carlo simulation valuation model is used to determine the fair value of market stock units with a market condition. The weighted average grant-date fair value of all market stock units granted during the years ended December 31, 2016 and 2015 was $10.67 and $6.53, respectively. No market stock units were granted during 2017.
The two tables below set forth a summary of our nonvested shares as of December 31, 2017 as well as activity during the year then ended. The total grant-date fair value of shares vested during the years ended December 31, 2017, 2016 and 2015 was $5.7 million, $13.9 million, and $5.2 million, respectively.
The following table shows a summary of our restricted stock and restricted stock units as of December 31, 2017, as well as activity during the year then ended:
The following table shows a summary of our market stock units as of December 31, 2017, as well as activity during the year then ended:
14.
Share Repurchases
In accordance with the terms of a Separation and Release Agreement entered into with our former president and chief executive officer, Ben R. Leedle, Jr., whose employment was terminated on May 15, 2015 (the "Separation Date"), Mr. Leedle elected to net exercise (net of the applicable exercise price and tax withholding) on the Separation Date certain performance awards granted to Mr. Leedle in the form of options to purchase 434,436 shares of common stock of the Company at an exercise price of $9.96 per share. The Company repurchased from Mr. Leedle 106,408 shares of common stock resulting from this net exercise at $17.23 per share, which was the per share purchase price equal to the closing price of the common stock on the Separation Date as reported on The Nasdaq Global Select Market.
15.
Earnings (Loss) Per Share
The following is a reconciliation of the numerator and denominator of basic and diluted earnings (loss) per share for the years ended December 31, 2017, 2016, and 2015:
Market stock units outstanding are considered contingently issuable shares, and certain of these market stock units were excluded from the calculations of diluted earnings per share for all periods presented because the performance criteria had not been met as of the end of the reporting periods.
16.
Accumulated OCI
The following tables summarize the changes in accumulated OCI, net of tax, for the years ended December 31, 2017 and 2016:
(1)
This amount was reclassified out of accumulated OCI to gain (loss) on discontinued operations during the year ended December 31, 2017 and had a tax effect of $0.
The following table provides details about reclassifications out of accumulated OCI for the year ended December 31, 2016. There were no reclassifications out of accumulated OCI for the year ended December 31, 2017.
See Note 10 for further discussion of our interest rate swaps.
17.
Restructuring and Related Charges
In the third quarter of 2015, we began developing our reorganization and cost rationalization plan (the "2015 Restructuring Plan") that commenced in October 2015, which was intended to improve efficiency and deliver greater value to our customers and stakeholders. Completion of the 2015 Restructuring Plan occurred with the completion of the sale of the TPHS business in July 2016. We incurred a total of approximately $24 million in restructuring charges related to the 2015 Restructuring Plan, substantially all of which resulted in or will result in cash expenditures.
The following table shows the activity in accrued restructuring and related charges for the years ended December 31, 2017, 2016, and 2015 related to our 2015 Restructuring Plan:
(1) Consulting and other costs primarily consist of third-party consulting charges. Consulting and other costs also include approximately $0.2 million and $0.4 million of lease termination costs in 2016 and 2015, respectively.
(2) Non-cash charges consist primarily of share-based compensation costs as well as asset retirements.
(3) Adjustments resulted primarily from actual employee tax and benefit amounts differing from previous estimates.
In the third quarter of 2016, we began the reorganization of our corporate support infrastructure (the "2016 Restructuring Plan"), which was intended to deliver greater value to our customers and stakeholders. Completion of the 2016 Restructuring Plan occurred during the first quarter of 2017. We incurred a total of approximately $5.6 million in restructuring charges related to the 2016 Restructuring Plan, substantially all of which resulted in or will result in cash expenditures.
The following table shows the activity in accrued restructuring and related charges for the years ended December 31, 2016 and 2017 related to our 2016 Restructuring Plan:
(1) Consulting and other costs consist of third-party consulting charges.
(2) Non-cash charges consist of share-based compensation costs.
(3) Adjustments consist primarily of actual employee tax and benefit amounts differing from previous estimates.
In the fourth quarter of 2017, we began and completed a reorganization primarily related to streamlining our operations support (the "2017 Restructuring Plan"). We incurred a total of approximately $2.6 million in restructuring charges related to the 2017 Restructuring Plan, substantially all of which resulted in or will result in cash expenditures. We do not expect to incur any further charges related to the 2017 Restructuring Plan.
The following table shows the activity in accrued restructuring and related charges for the year ended December 31, 2017 related to our 2017 Restructuring Plan:
(1) Non-cash charges consist of share-based compensation costs.
18.
Employee Benefits
We have a 401(k) Retirement Savings Plan (the "401(k) Plan") available to substantially all of our employees. Employees can contribute up to a certain percentage of their base compensation as defined in the 401(k) Plan. The Company matching contributions are subject to vesting requirements. Company contributions under the 401(k) Plan totaled $0.9 million, $2.2 million, and $3.3 million for the years ended December 31, 2017, 2016, and 2015, respectively.
19.
Segment Disclosures and Concentrations of Risk
During 2017, we had one operating and reportable segment. Therefore, all required segment information can be found in the consolidated financial statements. Long-lived assets and revenue from external customers attributable to our operations in the United States accounted for 100% of our consolidated long-lived assets and revenues as of and for the years ended December 31, 2017 and December 31, 2016.
During 2017, we had two customers that each accounted for 10% or more of our revenues from continuing operations and individually comprised approximately 20.3% and 17.4%, respectively, of our revenues for 2017. No other customer accounted for 10% or more of our revenues in 2017. In addition, at December 31, 2017, we had two customers that each accounted for 10% of more of our accounts receivable, net and individually comprised approximately 31% and 11%, respectively, of our accounts receivable, net at December 31, 2017.
During 2016, we had two customers that each accounted for 10% or more of our revenues from continuing operations and individually comprised approximately 20.4% and 15.2% of our revenues for 2016. No other customer accounted for 10% or more of our revenues in 2016. In addition, at December 31, 2016, one customer accounted for approximately 28% of our accounts receivable, net.
20.
Quarterly Financial Information (unaudited)
(1)
We calculated earnings per share for each of the quarters based on the weighted average number of shares and dilutive securities outstanding for each period. Accordingly, the sum of the quarters may not necessarily be equal to the full year income per share.
(2)
Figures may not add due to rounding.
(3)
The Tax Act was signed into law during the fourth quarter of 2017, and we incurred a non-cash charge of $7.4 million during the quarter related to both the re-measurement of our deferred tax assets to the lower tax rate and the requirement to recalculate the impact of repatriation of our foreign earnings, which occurred earlier in the year, under provisions of the new law.
(4)
Income from continuing operations for the fourth quarter of 2016 includes the impact of a $2.2 million out of period adjustment to decrease depreciation expense included in continuing operations (with a corresponding increase to depreciation expense included in discontinued operations). This adjustment was recorded after having completed our asset separation analysis and related to the correction of our previous allocation of 2016 depreciation expense between continuing and discontinued operations. The previous interim periods in 2016 were not materially misstated, nor is the correction material to the interim results for the fourth quarter of 2016.
Item 9.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Not applicable.
Item 9A.
Item 9A. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
The Company's principal executive officer and principal financial officer have reviewed and evaluated the effectiveness of the Company's disclosure controls and procedures (as defined in Rule 13a-15(e) and 15d-15(e) promulgated under the Exchange Act) as of December 31, 2017. Based on that evaluation, the principal executive officer and principal financial officer have concluded that the Company's disclosure controls and procedures are effective. They are designed to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in the SEC's rules and forms and to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act is accumulated
and communicated to the Company's management, including the principal executive officer and principal financial officer, to allow timely decisions regarding required disclosure.
Management's Annual Report on Internal Control over Financial Reporting
Management, including the principal executive officer and principal financial officer, is responsible for establishing and maintaining adequate internal control over financial reporting. Internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies and procedures may deteriorate.
Management has performed an assessment of the effectiveness of the Company's internal control over financial reporting as of December 31, 2017 based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (the "COSO framework"), and believes that the COSO framework is a suitable framework for such an evaluation. Based on this assessment, management has concluded that the Company's internal control over financial reporting was effective as of December 31, 2017.
PricewaterhouseCoopers, LLP, the independent registered public accounting firm that audited the Company's consolidated financial statements for the year ended December 31, 2017, has issued an attestation report on the Company's internal control over financial reporting, which is included in this Report.
Changes in Internal Control Over Financial Reporting
There have been no changes in the Company's internal controls over financial reporting during the quarter ended December 31, 2017 that have materially affected, or are reasonably likely to materially affect, the Company's internal control over financial reporting.
Item 9B.
Item 9B. Other Information
Not applicable.
PART III
Item 10.
Item 10. Directors, Executive Officers and Corporate Governance
Information concerning our directors, director nomination procedures, audit committee, audit committee financial experts, code of ethics, and compliance with Section 16(a) of the Exchange Act will be included under the headings "Election of Directors," "Code of Conduct," "Corporate Governance," and "Section 16(a) Beneficial Reporting Compliance" in our Proxy Statement for the 2018 Annual Meeting of Stockholders to be held on May 24, 2018 and is incorporated herein by reference.
Pursuant to General Instruction G(3) of Form 10-K, information concerning our executive officers is included in Part I of this Report, under the caption "Executive Officers of the Registrant."
Item 11.
Item 11. Executive Compensation
Information required by this item will be included under the headings "Executive Compensation" and "Director Compensation" in our Proxy Statement for the 2018 Annual Meeting of Stockholders to be held on May 24, 2018 and is incorporated herein by reference.
Item 12.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Information required by this item will be included under the headings "Security Ownership of Certain Beneficial Owners and Management" in our Proxy Statement for the 2018 Annual Meeting of Stockholders to be held on May 24, 2018 and is incorporated herein by reference.
Equity Compensation Plan Information
The following table summarizes, as of December 31, 2017, certain information concerning the Company's equity compensation plans under which equity securities of the Company are currently authorized for issuance.
(1)
Represents 507,000 stock options, 572,000 restricted stock units and shares of restricted stock, and 373,000 market stock units.
(2)
The weighted average exercise price does not take into account the shares issuable upon vesting of outstanding unvested restricted stock units and market stock units, which have no exercise price. The weighted average remaining contractual term of the outstanding stock options is 4.3 years.
Item 13.
Item 13. Certain Relationships and Related Transactions, and Director Independence
Information required by this item will be included under the heading "Corporate Governance" in our Proxy Statement for the 2018 Annual Meeting of Stockholders to be held on May 24, 2018 and is incorporated herein by reference.
Item 14.
Item 14. Principal Accounting Fees and Services
Information required by this item will be included under the heading "Ratification of Independent Registered Public Accounting Firm" in our Proxy Statement for the 2018 Annual Meeting of Stockholders to be held on May 24, 2018 and is incorporated herein by reference.
PART IV
Item 15.
Item 15. Exhibits, Financial Statement Schedules
(a)
The following documents are filed as part of this Report:
1.
The financial statements filed as part of this Report are included in Part II, Item 8 of this Report.
2.
We have omitted all Financial Statement Schedules because they are not required under the instructions to the applicable accounting regulations of the SEC or the information to be set forth therein is included in the financial statements or in the notes thereto.
3.
Exhibits
2.1
Membership Purchase Agreement dated July 27, 2016 by and among Sharecare, Inc., Healthways SC, LLC and Healthways, Inc. [incorporated by reference to Exhibit 2.1 to the Company's Current Report on Form 8-K dated August 2, 2016, File No. 000-19364]
3.1
Restated Certificate of Incorporation, as amended [incorporated by reference to Exhibit 3.1 to Form 10-Q of the Company's fiscal quarter ended February 29, 2008, File No. 000-19364]
3.2
Certificate of Amendment to Restated Certificate of Incorporation, as amended, dated as of October 10, 2013 [incorporated by reference to Exhibit 3.2 to Form 10-Q of the Company's fiscal quarter ended September 30, 2013, File No. 000-19364]
3.3
Certificate of Amendment to Restated Certificate of Incorporation, as amended, dated as of January 4, 2017 [incorporated by reference to Exhibit 3.1 to the Company's Current Report on Form 8-K dated January 10, 2017, File No. 000-19364]
3.4
Second Amended and Restated Bylaws of Tivity Health, Inc. [incorporated by reference to Exhibit 3.2 to the Company's Current Report on Form 8-K dated January 10, 2017, File No. 000-19364]
4.1
Article IV of the Company's Restated Certificate of Incorporation (included in Exhibit 3.1)
4.2
Indenture dated as of July 8, 2013 between the Company and U.S. Bank National Association [incorporated by reference to Exhibit 4.1 to the Company's Current Report on Form 8-K dated July 8, 2013, File No. 000-19364]
4.3
Form of 1.50% Cash Convertible Senior Note due 2018 (included in Exhibit 4.2)
10.1
Office Lease dated as of May 4, 2006 between the Company and Highwoods/Tennessee Holdings, L.P. [incorporated by reference to Exhibit 10.1 to the Company's Current Report on Form 8-K dated May 5, 2006, File No. 000-19364]
10.2
Fifth Amended and Restated Revolving Credit and Term Loan Agreement dated June 8, 2012 between the Company and SunTrust Bank as Administrative Agent, JPMorgan Chase Bank, N.A.as Documentation Agent, and U.S. Bank National Association and Fifth Third Bank as Co-Syndication Agents [incorporated by reference to Exhibit 10.1 to Company's Current Report on Form 8-K dated June 11, 2012, File No. 000-19364]
10.3
First Amendment to Fifth Amended and Restated Revolving Credit and Term Loan Agreement dated February 5, 2013 between the Company and SunTrust Bank as Administrative Agent [incorporated by reference to Exhibit 10.1 to the Company's Current Report on Form 8-K dated February 7, 2013, File No. 000-19364]
10.4
Second Amendment to Fifth Amended and Restated Revolving Credit and Term Loan Agreement dated March 15, 2013 between the Company and SunTrust Bank as Administrative Agent [incorporated by reference to Exhibit 10.2 to Form 10-Q of the Company's fiscal quarter ended March 31, 2013, File No. 000-19364]
10.5
Third Amendment to Fifth Amended and Restated Revolving Credit and Term Loan Agreement and First Amendment to Second Amended and Restated Subsidiary Guarantee Agreement [incorporated by reference to Exhibit 10.1 to the Company's Current Report on Form 8-K dated July 1, 2013, File No. 000-19364]
10.6
Fourth Amendment to Fifth Amended and Restated Revolving Credit and Term Loan Agreement dated April 14, 2014 between the Company and SunTrust Bank as Administrative Agent [incorporated by reference to Exhibit 10.1 to Form 10-Q of the Company's fiscal quarter ended June 30, 2014, File No. 000-19364]
10.7
Fifth Amendment to Fifth Amended and Restated Revolving Credit and Term Loan Agreement dated December 29, 2014 between the Company and SunTrust Bank as Administrative Agent [incorporated by reference to Exhibit 10.1 to the Company's Current Report on Form 8-K dated December 30, 2014, File No. 000-19364]
10.8
Sixth Amendment to Fifth Amended and Restated Revolving Credit and Term Loan Agreement [incorporated by reference to Exhibit 10.1 to Form 10-Q of the Company's fiscal quarter ended June 30, 2015, File No. 000-19364]
10.9
Seventh Amendment to Fifth Amended and Restated Revolving Credit and Term Loan Agreement [incorporated by reference to Exhibit 10.1 to the Company's Current Report on Form 8-K dated October 29, 2015, File No. 000-19364]
10.10
Eighth Amendment to Fifth Amended and Restated Revolving Credit and Term Loan Agreement [incorporated by reference to Exhibit 10.1 to the Company's Current Report on Form 8-K dated August 4, 2016, File No. 000-19364]
10.11
Revolving Credit and Term Loan Agreement dated April 21, 2017 [incorporated by reference to Exhibit 10.1 to the Company's Current Report on Form 8-K dated April 27, 2017, File No. 000-19364]
10.12
Call Option Transaction Confirmation dated as of July 1, 2013 between the Company and JPMorgan Chase Bank, National Association, London Branch [incorporated by reference to Exhibit 10.1 to the Company's Current Report on Form 8-K dated July 8, 2013, File No. 000-19364]
10.13
Amendment to Call Option Transaction Confirmation dated as of July 11, 2013 between the Company and JPMorgan Chase Bank, National Association, London Branch [incorporated by reference to Exhibit 10.1 to the Company's Current Report on Form 8-K dated July 16, 2013, File No. 000-19364]
10.14
Call Option Transaction Confirmation dated as of July 1, 2013 between the Company and Morgan Stanley & Co. International plc [incorporated by reference to Exhibit 10.2 to the Company's Current Report on Form 8-K dated July 8, 2013, File No. 000-19364]
10.15
Amendment to Call Option Transaction Confirmation dated as of July 11, 2013 between the Company and Morgan Stanley & Co. Internal plc [incorporated by reference to Exhibit 10.2 to the Company's Current Report on Form 8-K dated July 16, 2013, File No. 000-19364]
10.16
Base Warrants Confirmation dated as of July 1, 2013 between the Company and JPMorgan Chase Bank, National Association, London Branch [incorporated by reference to Exhibit 10.3 to the Company's Current Report on Form 8-K dated July 8, 2013, File No. 000-19364]
10.17
Additional Warrants Confirmation dated as of July 11, 2013 between the Company and JPMorgan Chase Bank, National Association, London Branch [incorporated by reference to Exhibit 10.3 to the Company's Current Report on Form 8-K dated July 16, 2013, File No. 000-19364]
10.18
Base Warrants Confirmation dated as of July 1, 2013 between the Company and Morgan Stanley & Co. International plc [incorporated by reference to Exhibit 10.4 to the Company's Current Report on Form 8-K dated July 8, 2013, File No. 000-19364]
10.19
Additional Warrants Confirmation dated as of July 11, 2013 between the Company and Morgan Stanley & Co. International plc [incorporated by reference to Exhibit 10.4 to the Company's Current Report on Form 8-K dated July 16, 2013, File No. 000-19364]
Management Contracts and Compensatory Plans
10.20
Employment Agreement, dated October 27, 2015, between Healthways, Inc. and Sidney Stolz [incorporated by reference to Exhibit 10.24 to Form 10-K of the Company's fiscal year ended December 31, 2015, File No. 000-19364]
10.21
Amended and Restated Corporate and Subsidiary Capital Accumulation Plan [incorporated by reference to Exhibit 10.25 to Form 10-K of the Company's fiscal year ended December 31, 2015, File No. 000-19364]
10.22
Employment Agreement dated January 1, 2012 between the Company and Peter Choueiri [incorporated by reference to Exhibit 10.1 to Form 10-Q of the Company's fiscal quarter ended March 31, 2012, File No. 000-19364]
10.23
Amendment to Employment Agreement dated September 2, 2014 between the Company and Peter
Choueiri [incorporated by reference to Exhibit 10.3 to Form 10-Q of the Company's fiscal quarter ended September 30, 2014, File No. 000-19364]
10.24
Employment Agreement dated July 29, 2012 between the Company and Glenn Hargreaves [incorporated by reference to Exhibit 10.1 to Form 10-Q of the Company's fiscal quarter ended June 30, 2012, File No. 000-19364]
10.25
Employment Agreement dated July 29, 2012 between the Company and Mary Flipse [incorporated by reference to Exhibit 10.2 to Form 10-Q of the Company's fiscal quarter ended June 30, 2012, File No. 000-19364]
10.26
Employment Agreement dated August 8, 2016 between the Company and Robert E. Dries [incorporated by reference to Exhibit 10.1 to Form 10-Q of the Company's fiscal quarter ended September 30, 2016, File No. 000-19364]
10.27
Separation Agreement and General Release dated October 31, 2016 between the Company and Robert E. Dries [incorporated by reference to Exhibit 10.2 to Form 10-Q of the Company's fiscal quarter ended September 30, 2016, File No. 000-19364]
10.28
Separation and General Release Agreement dated July 27, 2016 between the Company and Alfred Lumsdaine [incorporated by reference to Exhibit 10.3 to Form 10-Q of the Company's fiscal quarter ended September 30, 2016, File No. 000-19364]
10.29
Amendment to Separation and General Release Agreement dated October 10, 2016 between the Company and Alfred Lumsdaine [incorporated by reference to Exhibit 10.4 to Form 10-Q of the Company's fiscal quarter ended September 30, 2016, File No. 000-19364]
10.30
Amendment to Separation and General Release Agreement dated October 16, 2016 between the Company and Alfred Lumsdaine [incorporated by reference to Exhibit 10.5 to Form 10-Q of the Company's fiscal quarter ended September 30, 2016, File No. 000-19364]
10.31
2014 Stock Incentive Plan [incorporated by reference to Exhibit 99.1 to the Company's Registration Statement on Form S-8 dated June 25, 2014, Registration No. 333-197025]
10.32
2007 Stock Incentive Plan, as amended [incorporated by reference to Exhibit 10.16 to Form 10-K of the Company's fiscal year ended December 31, 2012, File No. 000-19364]
10.33
Form of Non-Qualified Stock Option Agreement under the Company's 2007 Stock Incentive Plan [incorporated by reference to Exhibit 10.24 to Form 10-K of the Company's fiscal year ended August 31, 2007, File No. 000-19364]
10.34
Form of Restricted Stock Unit Award Agreement under the Company's 2007 Stock Incentive Plan [incorporated by reference to Exhibit 10.25 to Form 10-K of the Company's fiscal year ended August 31, 2007, File No. 000-19364]
10.35
Form of Non-Qualified Stock Option Agreement (for Directors) under the Company's 2007 Stock Incentive Plan [incorporated by reference to Exhibit 10.2 to Form 10-Q of the Company's fiscal quarter ended June 30, 2010, File No. 000-19364]
10.36
Form of Restricted Stock Unit Award Agreement (for Directors) under the Company's 2007 Stock Incentive Plan [incorporated by reference to Exhibit 10.3 to Form 10-Q of the Company's fiscal quarter ended June 30, 2010, File No. 000-19364]
10.37
Form of Non-Qualified Stock Option Agreement under the Company's 2007 Stock Incentive Plan [incorporated by reference to Exhibit 10.2 to Form 10-Q of the Company's fiscal quarter ended March 31, 2012, File No. 000-19364]
10.38
Form of Restricted Stock Unit Award Agreement under the Company's 2007 Stock Incentive Plan [incorporated by reference to Exhibit 10.3 to Form 10-Q of the Company's fiscal quarter ended March 31, 2012, File No. 000-19364]
10.39
Form of Non-Qualified Stock Option Agreement under the Company's 2007 Stock Incentive Plan [incorporated by reference to Exhibit 10.28 to Form 10-K of the Company's fiscal year ended December 31, 2012, File No. 000-19364]
10.40
Form of Restricted Stock Unit Award Agreement under the Company's 2007 Stock Incentive Plan [incorporated by reference to Exhibit 10.29 to Form 10-K of the Company's fiscal year ended December 31, 2012, File No. 000-19364]
10.41
Form of Non-Qualified Stock Option Award Agreement (for Executive Officers) under the Company's 2014 Stock Incentive Plan [incorporated by reference to Exhibit 10.4 to Form 10-Q of the Company's fiscal quarter ended June 30, 2014, File No. 000-19364]
10.42
Form of Restricted Stock Unit Award Agreement (for Executive Officers) under the Company's 2014 Stock Incentive Plan [incorporated by reference to Exhibit 10.5 to Form 10-Q of the Company's fiscal quarter ended June 30, 2014, File No. 000-19364]
10.43
Form of Non-Qualified Stock Option Award Agreement (for Directors) under the Company's 2014 Stock Incentive Plan [incorporated by reference to Exhibit 10.8 to Form 10-Q of the Company's fiscal quarter ended June 30, 2014, File No. 000-19364]
10.44
Form of Restricted Stock Unit Award Agreement (for Directors) under the Company's 2014 Stock Incentive Plan [incorporated by reference to Exhibit 10.9 to Form 10-Q of the Company's fiscal quarter ended June 30, 2014, File No. 000-19364]
10.45
Form of Restricted Stock Unit Award Agreement (for Executive Officers) for November 1, 2016 under the Company's Amended and Restated 2014 Stock Incentive Plan [incorporated by reference to Exhibit 10.46 to Form 10-K of the Company's fiscal year ended December 31, 2016, File No. 000-19364]
10.46
Form of Restricted Stock Unit Award Agreement (for Directors) under the Company's Amended and Restated 2014 Stock Incentive Plan [incorporated by reference to Exhibit 10.2 to Form 10-Q of the Company's fiscal quarter ended June 30, 2015, File No. 000-19364]
10.47
Form of Restricted Stock Unit Award Agreement (for Directors) under the Company's Amended and Restated 2014 Stock Incentive Plan [incorporated by reference to Exhibit 10.3 to Form 10-Q of the Company's fiscal quarter ended June 30, 2016, File No. 000-19364]
10.48
Form of Restricted Stock Unit Award Agreement (for Executive Officers) 1-Year Cliff Vesting under the Company's Amended and Restated 2014 Stock Incentive Plan [incorporated by reference to Exhibit 10.3 to Form 10-Q of the Company's fiscal quarter ended June 30, 2015, File No. 000-19364]
10.49
Tivity Health, Inc. Amended and Restated 2014 Stock Incentive Plan [incorporated by reference to Exhibit 99.1 to the Company's Registration Statement on Form S-8 dated May 19, 2015, Registration No. 333-204313]
10.50
Form of Restricted Stock Unit Award Agreement (for Executive Officers) for July 1, 2015 under the Company's Amended and Restated 2014 Stock Incentive Plan [incorporated by reference to Exhibit 10.1 to Form 10-Q of the Company's fiscal quarter ended September 30, 2015, File No. 000-19364]
10.51
Employment Agreement, dated August 3, 2015, between Healthways, Inc. and Donato Tramuto [incorporated by reference to Exhibit 10.1 to the Company's Current Report on Form 8-K dated August 7, 2015, File No. 000-19364]
10.52
Form of Restricted Stock Unit Award Agreement for Mr. Tramuto [incorporated by reference to Exhibit 10.1 to the Company's Current Report on Form 8-K dated August 7, 2015, File No. 000-19364]
10.53
Form of Market Stock Unit Award Agreement for Mr. Tramuto [incorporated by reference to Exhibit 10.1 to the Company's Current Report on Form 8-K dated August 7, 2015, File No. 000-19364]
10.54
Form of Market Stock Unit Award Agreement for September 24, 2015 [incorporated by reference to Exhibit 10.1 to the Company's Current Report on Form 8-K dated September 28, 2015, File No. 000-19364]
10.55
Revised Form of Market Stock Unit Award Agreement for September 24, 2015 [incorporated by reference to Exhibit 10.70 to Form 10-K of the Company's fiscal year ended December 31, 2015, File No. 000-19364]
10.56
Form of Market Stock Unit Award Agreement for March 31, 2016 [incorporated by reference to Exhibit 10.1 to Form 10-Q of the Company's fiscal quarter ended March 31, 2016, File No. 000-19364]
10.57
Form of Restricted Stock Unit Award Agreement (for Executive Officers and Other Senior Officers) for September 24, 2015 [incorporated by reference to Exhibit 10.2 to the Company's Current Report on Form 8-K dated September 28, 2015, File No. 000-19364]
10.58
Revised Form of Restricted Stock Unit Award Agreement (for Executive Officers and Other Senior Officers) for September 24, 2015 [incorporated by reference to Exhibit 10.73 to Form 10-K of the Company's fiscal year ended December 31, 2015, File No. 000-19364]
10.59
Form of Director Indemnification Agreement [incorporated by reference to Exhibit 10.1 to the Company's Current Report on Form 8-K dated June 2, 2016, File No. 000-19364]
10.60
Employment Agreement, dated May 22, 2017, between Tivity Health, Inc. and Adam C. Holland [incorporated by reference to Exhibit 10.1 to the Company's Current Report on Form 8-K dated May 25, 2017, File No. 000-19364]
21 Subsidiary List
Consent of PricewaterhouseCoopers LLP
31.1
Certification pursuant to section 302 of the Sarbanes-Oxley Act of 2002 made by Donato Tramuto, Chief Executive Officer
31.2
Certification pursuant to section 302 of the Sarbanes-Oxley Act of 2002 made by Adam Holland, Chief Financial Officer
Certification Pursuant to 18 U.S.C section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 made by Donato Tramuto, Chief Executive Officer, and Adam Holland, Chief Financial Officer
(b)
Exhibits
Refer to Item 15(a)(3) above.
(c)
Not applicable
Item 16. Form 10-K Summary
None.
SIGNATURES
Pursuant to the requirements of section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized.
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
Signature
Title
Date
/s/ Donato J. Tramuto
Chief Executive Officer and Director (Principal Executive Officer)
February 28, 2018
Donato J. Tramuto
/s/ Adam C. Holland
Chief Financial Officer (Principal Financial Officer)
February 28, 2018
Adam C. Holland
/s/ Glenn A. Hargreaves
Controller and Chief Accounting Officer (Principal Accounting Officer)
February 28, 2018
Glenn A. Hargreaves
/s/ Kevin G. Wills
Chairman of the Board and Director
February 28, 2018
Kevin G. Wills
/s/ Archelle Georgiou, M.D.
Director
February 28, 2018
Archelle Georgiou, M.D.
/s/ Robert J. Greczyn, Jr.
Director
February 28, 2018
Robert J. Greczyn, Jr.
/s/ Peter A. Hudson, M.D.
Director
February 28, 2018
Peter A, Hudson, M.D.
/s/ Bradley S. Karro
Director
February 28, 2018
Bradley S. Karro
/s/ Paul H. Keckley
Director
February 28, 2018
Paul H. Keckley
/s/ Conan J. Laughlin
Director
February 28, 2018
Conan J. Laughlin
/s/ Lee A. Shapiro
Director
February 28, 2018
Lee A. Shapiro