Amedisys Inc (AMED) 2013 Q2 法說會逐字稿

Good day, my name is Steve and I will be your conference operator today. At this time I would like to welcome everyone to the Amedisys second-quarter earnings conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks there will be a question-and-answer session. (Operator Instructions).

I would now like to turn the conference over to Tom Dolan, Senior Vice President of Finance and Treasurer. Please go ahead, sir.

Thank you, Steve. Good morning and welcome to the Amedisys investor conference call to discuss the results of the second quarter ended June 30, 2013. A copy of our press release is accessible on the Investor Relations page on our website.

Speaking on today's call from Amedisys will be Bill Borne, Chairman and Chief Executive Officer, and Ronnie LaBorde, President and Chief Financial Officer.

Before we get started with our call, I would like to remind everyone that any statements made on this conference call today or in our press releases that express belief, estimation, projection, expectation, anticipation, intent or similar expression as well as those that are not limited to historical fact are considered forward-looking statements and are protected under the Safe Harbor of the Private Securities Litigation Reform Act.

These forward-looking statements are based on information available to Amedisys today and the Company assumes no obligation to update these statements as circumstances change.

These forward-looking statements may involve a number of risks and uncertainties which may cause the Company's results or actual outcomes to differ materially from such statements. These risks and uncertainties include factors detailed in our SEC filings including our Forms 10-K, 10-Q and 8-K. The Company disclaims any obligation to update information provided during this call other than as required under applicable securities laws.

Our Company website address is amedisys.com. We use our website as a channel of distribution for important information including press releases, analyst presentations and financial information regarding the Company.

We may use our website to expedite public access to time critical information regarding the Company in advance of or in lieu of distributing a press release or a filing with the SEC disclosing the same information.

In addition, as required by SEC Regulation G, a reconciliation of any non-GAAP measures mentioned during our call today to the most comparable GAAP measures will be available on our website on the Investors Relations page under the tab Financial Reports Non-GAAP. Thank you and now I will turn the call over to Bill Borne.

Thanks, Tom. Good morning and welcome to our second-quarter earnings call. I am pleased to report today that for the quarter Amedisys earned $0.17 per share on an adjusted basis. This is $0.03 higher than our first-quarter adjusted results, more than offsetting the additional $0.09 negative impact of sequestration we faced during the quarter. We continued to experience volume softness in both of our business units. However, we were able to generate material cost savings during the quarter which drove positive sequential results.

Before going into further operational detail, let me spend a moment on quality. During the quarter Amedisys clinicians cared for over 120,000 patients. We are particularly focused on the 30-day hospitalization rate in our Home Health division. Our hospitalization rate is approximately 16% for Medicare patients, a decrease of almost 100 basis points over the last 12 months. This represents a 6% reduction in hospitalization over the last year in real cost savings to Medicare.

For the most recent outcomes as reported by CMS which includes the 12-month period ending March 2013, we exceeded the average score of competitors in our footprint in seven out of nine measurements.

Turning to volume. In order to improve results, we are concentrating on a number of priorities, the most important of which is delivering superior clinical care. This is increasingly becoming a key differentiator and value proposition for hospitals.

Long term, we believe being the high-quality provider in our market is the best strategy to drive additional volume and capture market share. In the short term, we plan to increase our business development staff, mainly focused on hiring care transition coordinators primarily based in hospitals. They have a clinical role in helping to transition patients from the facility to their home. We believe this function serves the dual purpose of solidifying referral relationships and assisting to help reduce hospital readmissions.

We also continue to train our staff on better utilization of our CRM tools, and particularly to take a more focused approach on customer targeting.

In addition, we continue to develop closer relationships with hospitals, physician groups and payers in our markets. These can be in the form of joint ventures, provider relationships, accountable care organizations, bundled programs or others, all of which we are exploring with numerous potential partners.

Operationally, we are moving forward on a number of care management initiatives. As discussed during our last earnings call, we completed the rollout of our patient care management to all of our care centers in the late second quarter. While it is too early to see any trends associated with this initiative, we are focused on care consistency across all of our care centers while improving outcomes and efficiency.

The development of our AMS3, our new clinical operating system, will be complete in the fourth quarter and implementation will begin at that time. This operating system will enhance clinician productivity, care center efficiencies, billing functionality, interoperability, and reduce clinical compliance risk.

Conversion will be complete in two years and we expect the use of this new system to generate annual net savings of $10 million to $15 million.

AMS3 also brings functionality to support our shared service center organization model. In this model, multiple care centers within close proximity will share certain office functions and be managed as a unit with one location acting as the lead care center for back office and administrative services.

These functions include billing, clinical support, intake, authorizations, scheduling among others and will generate more operational efficiency and consistency in care delivery.

At the end of the quarter we had 40 shared service centers operating, with plans for all of our care centers to be organized into share services groups by the end of this year. We continue our preparation for participating in CMS's bundled payment for care improvement initiatives. We are currently evaluating our level of participation in this program.

The need to develop new care delivery and reimbursement models takes on a heightened importance with the backdrop of CMS's recently released 2014 proposed rule for home health.

In its proposal, CMS calls for the maximum allowable reimbursement reduction of 3.5% per year over four years. In addition to other changes, this will mean a 2014 reimbursement reduction for the industry of approximately 1.5%. Given the significant cuts the industry has faced over the last three years, we are very disappointed CMS's proposed rule proposed the full allowable cut under the healthcare reform legislation. We believe there are numerous flaws in the assumptions and methodology CMS relied on to reach this proposal. And are working with our peers in Washington in hopes that we can get a more balanced final rule for the industry.

We announced on our first-quarter call a plan to address 50 nonperforming care centers. During the second quarter we consolidated 17 home health and two hospice care centers and are holding 34 care centers for sale including three additional care centers we recently added to the divestiture list. Our efforts to divest these care centers is proceeding and we are hopeful that this process will be complete in the near term.

Separately during the quarter, we sold to home help and one hospice care center that we identified for sale earlier in the year.

Before concluding my comments I want to take a moment to thank our employees. Together we provided over 2 million visits during the quarter, providing high-quality skilled care to a very complex patient population in the lowest cost setting -- the patient's home.

Now I will turn the call over to Ronnie for his comments.

Thank you, Bill. For the quarter on a GAAP basis we generated earnings from continuing operations of $0.07 per diluted share. This compares to $0.11 per share during the first quarter.

During the second quarter we incurred legal costs of $0.03 and $0.07 of exit costs associated with care centers we consolidated. Adjusting for these items, we generated $0.17 in adjusted earnings per share compared to $0.14 in the first quarter.

In summary, we were able to improve quarterly results by $0.03 sequentially in the face of a $0.09 incremental sequestration effect and soft volumes.

Going forward, my comments will be on an adjusted continuing operations basis with a focus on sequential results except as noted.

In the second quarter we generated $313 million of revenue, a decrease of $13 million. Of the $13 million declined, just over $5 million was due to the full-quarter impact of sequestration. The remainder was due to lower volumes in both home health and hospice.

Adjusted net income for the quarter was $5.4 million, up from $4.8 million in the first quarter. Adjusted EBITDA was $19.1 million or 6.1% for the quarter, an improvement of $1.2 million and 60 basis points from Q1.

Cash flow from operations for the quarter was $33 million. Cash flow benefited from a continued drop in DSO to 34 days at quarter end from 42 days at the end of 2012. Capital expenditures were $10 million and we reduced debt balances by $4 million resulting in a levered ratio of one times EBITDA. We ended the quarter with $30 million of cash on our balance sheet.

Turning to our business segments, we experienced a $12 million decline in Home Health revenue. Our Medicare revenue declined $8 million, consistent of a $4 million incremental impact from a full-quarter sequestration and a decline in volumes. On a same-store year-over-year basis, admissions were flat. However, sequentially, total admissions were down 4.6%, an approximate $3 million impact to revenue.

Our re-cert rate was 36.5% compared to 37.8% in the first quarter, contributing approximately $1 million to the revenue decline.

Our home health non-Medicare revenue declined $4 million also reflecting lower volumes. Non-Medicare business were down 10% sequentially or approximately 40,000 visits. Most of this volume decline is by design and consistent with our efforts to rationalize our portfolio of lower margin business. We will continue to pursue relationships where per visit rate and contract terms are favorable. In fact, per visit, our revenue per visit from our non-Medicare business increased sequentially by almost $4.00 per visit.

In our hospice operating unit, we generated $65 million in revenue, a decline of approximately $1 million or about 2% from the first quarter due to the sequestration cut. Lower admissions caused our average daily census to decrease, but this was largely offset by the additional calendar day in the second quarter.

As Bill stated previously, we are pleased with our cost control efforts during the quarter, which fully offset both sequestration and lower volumes. We were able to increase our overall gross margins by 30 basis points, and more significantly total G&A expenses declined over $7 million during the quarter. Approximately $5 million of this savings was due to headcount reduction and other compensation-related costs. Cost savings fell across both of our business units and our corporate operations.

In summary, we achieved our bottom-line expectations for the quarter on lower volume, but better cost control. As a result, we are lowering our revenue guidance, but leaving EPS guidance for the year unchanged. We expect revenue from continuing operations to be in the range of $1.240 billion to $1.280 billion and earnings to be in the range of $0.45 to $0.55 per share on an estimated 31.5 million fully diluted shares outstanding.

This guidance does not include any one-time costs, such as cost we have or may incur associated with our announced market exit activity or corporate expense initiatives. It does include an estimate of legal costs associated with our ongoing government investigations which we are estimating to be $8 million to $9 million for this year. We project capital expenditures to be in the range of $45 million to $50 million for the year.

This concludes our prepared remarks. Operator, please open up the call for questions.

(Operator Instructions). David MacDonald, SunTrust.

Just a couple of quick questions. First of all, just on the cost savings if I look at the run rate for the year in terms of EPS or EBITDA and I look at the guidance that certainly looks like it's certainly very obtainable. Is there any additional cost and maybe you could just answer this, Ronnie, that we need to think about in the back half of the year that isn't in the run rate? Did you say legal is included in the guidance for the balance of the year?

Legal is included, yes.

So that's another $8 million to $9 million drag just for the back half of the year? Is that the way to think about it?

Or half of that for the back half of course.

So that is an annual number?

Yes. The other -- let me just say the other cost how will the run rate change, you know at the end of the first-quarter call we talked about a $10 million savings or opportunity there with the divested care centers. All of that is not reflected yet in our results. What we see -- what you see so far is the disc ops piece of that, those care centers that we have we are trying to divest. So that is reflecting disc ops. The other piece of that $10 million is really a G&A reduction that will happen when the divestiture is completed.

So, we do see that opportunity in the back half of the year. It will be realized when we are successful and hopefully we will be with the divestiture of those care centers.

Second question, Bill, since the preliminary rule has come out, just talk briefly about M&A, the pipeline. Are there increasing number of folks that have become more sober about the reimbursement backdrop? Are there more incoming phone calls in terms of folks who are looking at strategic alternatives? And any update that you have got there.

I think, David, we have seen an escalation of M&A activity actually probably over the last three months. You can say maybe slightly more heightened. Expectations haven't changed a lot. I think a lot of the sellers still want to get paid for the efficiencies that we can provide.

We are very focused on the type of opportunities we are looking for. We are looking for high concentrations in markets. We are looking for venture relationships with hospitals and so we are not looking for the one-offs.

So I think that the lack of demand from the big consolidators is there, but I think there's interest from other providers that may want to enter the industry. So I am not sure what is going to happen with pricing, but typically we see pricing in between 50% and 75% of revenue for the home health line right now.

And last couple of questions. One, Bill, can you run through again the hiring plans in terms of some of these folks who are going to be actually physically in the hospitals? And then any other steps you are taking either in terms of changes to the sales force, how they are compensated or whatever? Anything on that front to try to drive improved volumes?

Yes, so what we see is a direct correlation between the number of sales force we have and the admissions, we would like to be more of a relationship-driven sales force based on clinical activity and quality. We are looking for long-term relationships.

And over a period of time, we think we would like to increase the number of care transition coordinators we have. Right now it is about a 50-50 mix, so most of our focus is on care transition coordinators. All of these coordinators are clinicians. Most of them are nurses, registered nurses. We do have one or two social workers. But they actually provide a technical service that begins the episode of care in the facility.

We see a value there, as I mentioned, with the relationship from the people who work in the facility also a value on starting their care transition. So we think that if we have more care transition coordinators focused exclusively in facilities that it will drive our referral relationships and also help with our quality.

So we have a full-court press on hiring more nurses and care transition coordinators. We will maintain our level of account executives, many of which are clinicians also. And as a reminder, these guys are focused, and target hospitals and, I mean, physicians and physician groups to help develop that segment of the business.

Thanks, guys.

Kevin Ellich, Piper Jaffray.

Good morning. Just a couple of questions. First, could you talk about what trends you are seeing in the home health business in terms of volumes? Admissions seem to be improving a little bit but still flat; and then re-certifications are still pretty weak, I guess. What do you think is causing that and when do you think we are going to see a turn?

Well, if you take a look on the admission front we still have expectations to turn that around. As we mentioned we are looking for low single-digit growth in admissions. We think there's opportunities to do that by enhanced relationships with our partners. I mentioned there are all kinds of ways to develop those relationships and the opportunity is presenting itself. And we have certain types of ongoing discussions with numerous of those potential partners.

So we are not giving up on getting back to positive growth.

With the re-certifications, as you are aware they fell off over the last couple or three quarters. We do see that line flattening out. We have patient care management across all of our operations now. The acuity level that we have is pretty consistent. Doesn't really justify the drop-off. We think a lot of that is behavioral as we mentioned. Patient care management, focusing on managed care, preparing for bundles, reduction in force that we had in the fourth quarter of last year. All contributed to behavioral activity.

And we think it is going to normalize. We don't know exactly where it is going to settle, but we think over the next quarter we will find what that normal rate will be.

Understood. And, Bill, I might have missed this if you said it already, but just wondering if you can provide a little update on the bundling demonstration from Medicare, the acute post-acute demo?

Yes, well CMS has put out its last set of data which goes through 2012. We are at the end stage of analyzing that. There's a lot of opportunity. We have 60 of our care centers, that we are the sponsoring organization for, that are in five markets. And we are just coming to a final decision on how we want to proceed in which markets and what DRGs are our patient mix that we are willing to accept.

We have a lot of interest from partners and we are just going to wait until the final analysis before we decide which markets and how much. All we really need is enough to prove concept.

So we don't have to dive in. We can walk in and get enough volume and critical mass to be able to do that. So we use out lot of discretion on how we want to move forward.

Got you. In terms of the reimbursement and the payment, is it meaningfully better than what you are seeing now? And who is controlling how much is allocated to the post-acute setting?

Say that again. Ask that question again.

In terms of the bundle payment what are the -- are the levels looking better than what you are getting now and who is ultimately determining if there is a bundled amount going for a complete episode of care, how is that allocated between the various providers?

We are participating in different bundle groups, but we are the Convenia of the Model 3 which starts at discharge with patients that have the appropriate diagnosis that we choose. And the way CMS has approached that, they have taken a look at all of the cost of care for a patient 90 days post-discharge from a hospital that is admitted to a home health agency.

So the bundled reimbursement rate is an aggregation of home health, all post-acute care and all services. And then the government is looking for a 3% savings there. And then the amount is aggregated into the bundled payment.

So what we see is some refining as we get new data sets. But it dovetails in parallels what we have seen in all healthcare. Costs have come down a little bit. So the overall bundled pricing has come down a little bit. And you see some variances in different DRGs.

But if we can focus on reducing readmissions to hospitals, there is a wonderful opportunity to save CMS money and make money while doing it and providing good quality care to the patient. Which is more important, right? I think you drive satisfaction by keeping more patients out of the hospital from being readmitted.

So I think there is adequate opportunity there and they're playing in a much bigger pond with a lot more variables. And when you look at enough volume, the risk really gets blended out. So we just have to make sure we have the skill set to manage the patients that we pick.

Got it. That's very helpful.

One last question on hospice. We saw a little drop-off in growth. Anything unusual going on there? And what do you expect going forward?

Well, nothing unusual. As a reminder, our Northeast acquisition of Beacon, we converted that towards the end of last year, put in a whole new operating system. We saw the growth slow down a little bit there. And that is really driving the flatness in our hospice. All of our legacy hospices are hanging in there pretty good. And we think again that is a behavioral issue, right. That we will move forward beyond that in our expectations or to get back to single-digit growth in both our home health or in our hospice divisions.

Got it. Thank you.

[Dana Minton], Deutsche Bank.

Good morning. I want to go back to the re-cert rate and if you could maybe describe for us the re-cert rate in terms of the trend over the course of the second quarter. Just trying to get a sense for the trendline of that. And I think you said it was 36.5% versus [or miss] the number of 37% in the first quarter. But how did that look as you move through the second quarter?

I think, Dana, you would step back a little further, go all the way back to the third quarter of 2012. And we saw a 2%, 2.5% drop from the third to the fourth and then about a 2% drop from the fourth to the first quarter of this year. And now we are looking at about a 1.2%. But we really say that flattening out as we look at more current information.

So we feel relatively comfortable with that, it is at or near the bottom. We can't predict it. And we don't know what it will do from there. Again, it is driven by patients, their acuity and the care that they need individually.

And our mission is to make sure that patients get all the care that they have required, but not more than they need.

But we see the trend aligned really flattening as we move forward.

Maybe stepping back then in terms of the outlook for this year. Can you maybe help us think about what you are seeing store revenue growth ranges look like? Obviously they are in decline, but what the decline would imply for both home health and hospice given your commentary that you think the research flattening out, I am assuming we think the volume overall is flattening out in hospice. But maybe just a broad brush for organic decline in both businesses. What's the outlook?

I think with -- as Bill commented around research, I think the broad brush certainly flattish to hopefully we will be successful in our growth efforts and get single-digit admission growths in home health and see some positive admission growth and hospice. So overall, I think we can kind of flattish from where we are and if we are successful with our plan that we would begin to show a little bit of growth.

And you would expect that in the second half or is that just your overall outlook?

Well, from here, from the second-quarter results. I think sequentially going forward that it is certainly flattish is our view with, hopefully, some successful efforts bearing fruit here.

So, maybe switching gears to hospice specifically. I guess first of all, what was the amount of the Medicare cap either in dollar terms or gross revenue percentages in the second quarter?

It was very low cap impact for this quarter. We actually had a nice improvement from the first quarter where we had a settlement flow through in Q1. But in this quarter it was more normalized or actually even a little bit below normalized levels for the quarter.

So we think we are adequately reserved certainly and minimal impact for this quarter actually.

So what was very low, what's the number?

The number, the impact to this quarter was $150,000.

And so you think that is a normalized level for cap?

A little below. Yes, excuse me -- for the quarter it was a good quarter. A little bit below perhaps normal but what we might call normalized. So again good expense for this quarter.

Okay. And what's your outlook for length of stay in hospice? Any sense for how your mix is falling out and whether you are seeing directionally length of stay is up or down from where you ended in Q2?

So it is down for our patients discharged down just a couple of days and so it's at 101, I believe it was, for the second quarter. And so we don't see any significant change there. It will certainly -- as we work to again increase admits, get the right patient mix, to sustain our business, we don't think that that is -- could or would, should change materially, but we will certainly be attentive to it.

And lastly as it relates to the government investigation and I was hoping you might be able to give us an update on where things stand. Are you in settlement negotiations with the government at this point? Are you still incoming discovery phase? It has been going on for a long time so I am just curious as to maybe get a sense for where things stand at this juncture.

Well, Dana, [we can carp] that has been going on for a long time and what we have done is cooperated every step of the way. We provided all the information that the government has requested and we have ongoing dialogue with them.

So would you expect the $8 million to $9 million of expense to be evenly split over the back half of the year? I guess half of that number, or will we see more in third quarter versus the fourth quarter?

There's -- we don't really talk about the timing of that. I don't think it is an unfair view to say that would be relatively evenly split. We don't have anticipate at this point any significant shift the timing of activities surrounding this effort. So I think that is a fair assumption as we sit today.

All right. Thanks a lot.

Brian Tanquilut, Jefferies.

Good morning. Bill, wanted to hear your thoughts on DC. I know you are very involved in the industry's lobbying efforts. With the rule out and all the chatter from the Ways and Means Committee and the things they are looking at as a way to fund a [doc] pick. Where do you stand as an industry and with your -- and as executives with your lobbying efforts? And what are you hearing back in terms of feedback from those guys?

Well, Brian, as I mentioned we are disappointed, right. We have seen some cuts over the last three years and we think effectively the industry has been rebased.

We think CMS went too far. It is not using all the information, all the data and not current data to make the decision they did to basically we feel re-basis zero.

As you are aware, the partnership has been working very aggressively, establishing relationships with the legislation. And right now, we have efforts on both the Senate and the House side in sponsoring senators and representatives that put together a letter asking CMS to reconsider their positions.

Now most recently, what I am hearing is that we want to get a significant or a majority of both the Senate and the House to sign off on this letter. So we are getting a pretty good groundswell and we also have a good grassroot activity that is going on. I can't commit either way that that will be the case. But I do think that we have a lot of attentiveness to the impact, especially when the partnership has proposed really selectively going after fraud and abuse.

And as a reminder with the outliers especially in Miami-Dade and Hidalgo County, the industry made recommendation that saved over $10 billion, and we think being selective on the amount of episodes of care. On average the patients and providers numbers and looking at things like lupus that selectively we can go after the bad players and drive the cost down.

So I would hope that the groundswell would get Congress to be attentive to the fact that they can get savings and not decimate the industry and use us as a blunt instrument.

So we are hopeful, that before it is all said and final, that there will be some reconsideration of what we feel the absolutely extraordinary cut that they made to the industry.

Bill, if that is the case why are they still thinking about a home health co-pay right now? I mean, just look at the House Ways and Means discussions. It seems like there's still a target on co-pays.

Right. The quick answer, Brian, is because it has been coming up for years. It has been defeated. Home health is the only segment that does not have a co-pay in it. There's a lot of good rationale for that.

And one of the arguments the industry has made that the patient's investment is the fact that it has got its home and its family that is the primary caregiver. Stats show that $300 billion of free care is provided by family caregivers on an annual basis. So we do think that the co-pay is there.

And the other argument is that the frail people who can't afford might not be able to afford, they are going to be an higher cost setting, but as you are aware they can't really calculate. The OMV can't calculate savings from one care venue to the next. So they don't look at that.

So said simply it is the only segment that doesn't have a co-pay and it just continues to be a target.

But as a reminder, even in the proposals that have been put out there by MedPAC and the President's budget, the co-pays are very selective. It doesn't apply to patients who are discharged from hospitals. And it applies only for the first episode.

There are different various proposals out there. And also we are not sure that GAAP coverage might not cover part of that.

I will tell you that we are prepared with our systems because of the activity with managed care to collect co-pays should they be implemented. And it won't be something that we have to scurry around to put the system in place to do that.

So we hope it doesn't happen, but we will prepare to be able to collect those co-pays if that is implemented.

Got it. And, Bill, dual eligibles is a topic that pops up quite often now. Just wondering what you think your exposure is in that area and how should we think about reimbursement for duals?

Well, we did an analysis of couple of quarters ago on dual eligibles and we only had a couple of markets. I think it was specific to Tennessee that we saw a little exposure, but it wasn't meaningful. I think over time there will be more exposure.

But our intent is in our new care delivery model, as I mentioned earlier, I think we all have to move that way. We certainly have to move that way with bundles and if we want to be a good provider of care, managed-care and the way they think of things as well as to Medicare, right, and to save money that we have to figure out a way to provide better quality at a lower cost point. And if we do that, that will open up the opportunity to provide care to Medicare patients as well.

As you know, the big focus on Medicare is keeping them out of nursing homes. And many states have programs that actually supplement the care provided. They will even pay the family caregivers to do that.

So we are exploring those options. And we think there will be opportunities in that area as well.

Last question for me. Ronnie, on the guidance, just wondering what assumption you have baked in for rebasing in Q4. And also wondering what your thoughts are in terms of why we backed out the legal expense in the second quarter and, yet, we are including it in the back-half guidance.

Yes. Nothing is baked in yet for rebasing. We are going to wait for the final rule and then respond to that more specifically there.

Good question on the guidance. I know it gets a little bit confusing, what's in, what's out. And so if we look at that for the first half, our adjusted earnings are $0.31. $0.07 of that was for the legal cost. So that is $0.24 that I would say that's consistent with our guidance.

And then, if you look at Q2 precisely that $0.17 minus the $0.03 of legal that would be a net $0.14. And that is what we are giving guidance around. And I know the other part what's in, what's out the exit activity, other things are not considered in our guidance.

I got it. Thank you.

Frank Morgan, RBC Capital Markets.

Good morning. Following up on rebasing. As we start to think about next year, I guess first, what is your view on your ability to control wage inflation next year? What are you running now and where do you see that trend as you go into next year underlying wage cost inflation?

We do have -- we last had a kind of across the board wage increase in 2012. Nothing this year. And certainly it becomes a -- at least, at some point stressful to the employees and to our clinicians. We will be -- I guess the long way to say this is, we will be attentive to that. We are looking for other efficiencies and utilizations to help offset that and to deal with that over time.

So I don't think we can stay compressed on wages over the long term. We'll see what actually we think we can move on into next year. But the offset of that will be utilization and how we can be more efficient in the delivery of care inside of an episode for our Medicare patients.

I got you. And the reason I ask is on this whole topic of rebasing, if it really is -- if it turns out to be the net 1.5% cut, I guess that is assuming the market basket lists 3.5%. I mean that by itself is like a 15 -- if I am doing the math right isn't that about up $15 million headwind assuming there is no change in wage inflation? So I am just wondering how you are thinking about that issue of potential wage inflation at the same time you are facing this $15 million headwind if it turns out to be a 1.5% net cut.

That is exactly right. And we are still on a path. We made a little headway in this quarter. As we stated previously we clearly see our margins have been a little bit behind our peers. We are working to close that gap. Our efforts will continue there.

And then we'll have the additional effect and impact of what you just talked about -- rebasing and in the conversation pressures for our staff.

So it will all be folded into our overall efforts to again improve margins, get more efficient. Certainly us as well as the industry will be challenged a little bit further depending on how the final rule comes out, and assuming it comes out as is.

And Frank, we know it's kind of on the backend, but as a reminder the implementation of our AMS3 operating system will provide a significant amount of efficiencies and cost savings as well as Ronnie mentioned the ongoing part of the back half of the initiatives that we have already taken.

So we are hopeful that we can just push forward and manage the best we can to drive cost and make sure that we keep quality where it needs to be.

One final on the divestitures that you have got held in disc ops. What has been the success, so far, on divesting those? Who is buying -- who are the buyers of those typically? And any kind of characterization you could give us on your ability to go ahead and get that wrapped up. And I will hop off. Thank you.

Well, there's a lot of interest. All kinds of buyers, every kind of denomination. I am not going to give specific names, but strategic buyers, nonstrategic, associated industries. We have all had a lot of discussions of joint ventures with some of these. So there's a lot of interest across the board in the agencies.

Okay. Thanks.

John Ransom, Raymond James.

Every call has to have a stupid question. So, here's mine. I may have missed this, but did you say or disclose the EBITDA drag from the discontinued ops? I know they are out of your consolidated numbers, but what is the negative EBITDA associated with those facilities?

Well, it is not a stupid question. But let's see from the disc ops that will be -- it is a $0.01 for this quarter, so it is about $0.5 million EBITDA.

That's per quarter?

For the second quarter.

So $2 million, roughly $2 million annualized is what you pick up?

Yes.

And at this point based on Bill's comments, you don't have any anxiety about your ability to sell those for at least some price?

Well, no. We are making some good progress. Again, as we said, we hope to wrap this up in the near term. But we are pleased with what's come about so far. And, yes, looking forward to wrapping it up.

And then other and I'm sorry I was a bit on and off the call, but could you recap, please, the big reduction in AR you saw this quarter and was that related to the discontinued ops? Or was there some -- you had some good cash flow from AR collection. Could you recap that please?

Sure. It is not really disc ops. It's just we -- this year we have been working on that for a while and in 2012 AR crept up a little bit and through all of those efforts we have now had two good quarters of collections.

And so we started to feel like we can sustain this level. It would be great to see some more improvement, but it has just been good collection efforts here in the first half of the year.

And could you also just finally your -- you don't have a lot of debt, but what are your thoughts about your capital structure and timing and any work to do there, if any?

No, we don't. You are right. We don't have very much leverage. And we certainly think our facility is in good shape.

As you know, it is in the disclosure. We have $140 million thereabouts available under the facility. At this time we can't access all of that just because of the covenant structure. And so, we certainly think our facility is adequate for our plans here over the remaining term of that facility.

And lastly, based on the business today with the sequestered and with the initial trends, what percent of your agencies would you say -- and I know you took care of this with your disc ops, but what percent of your agencies would you say are EBITDA negative at this point?

Well, it is a good question. We generally don't disclose that just profile the portfolio, but no question, sequestration and our action there on the 50 kind of respond to that now looking forward to rebasing and the impact. We will again, as we always do, continue to look at our portfolio, review that, see where we think the opportunities are longer term and make decisions about our portfolio. But we haven't in the past and not ready to disclose how we stratify the portfolio.

Okay. Thank you.

Ralph Giacobbe, Credit Suisse.

Good morning. Did you guys say or have you given an acuity number? Just wondering if acuity levels are going higher?

As far as our case mix, Ralph?

Yes.

Yes, they are about stable. As I referenced we haven't seen much change in overall acuity. As a reminder, our acuity has been a little higher than the industry average over the years because of the focus on the complex patients and their age. So it has been pretty stable.

And I hate to go back to this, it has been up a little bit, but I guess I'm still a little confused on the research side. Because the volumes seem to be stabilizing. It seems like acuity is stable, but the re-cert rate continues to fall at a pretty rapid clip.

So and I know you said -- you are ultimately saying it is going to flatten out. But is there any more color you can give in terms of why it would be the case? Whether it is because of the divested facilities or anything along those lines on why that specific stat would show such a divergent trend from the other components that we generally look at?

Right. We mentioned it earlier. You just asked about the case mix so if you look at the case mix, that is pretty steady and you have to ask why did you have a drop off in the second, third quarter. And again we turned a lot of dials in the third quarter. And it manifested itself and what we saw was a drop in recertification.

So we can't put a bead on it, but from all the things I mentioned earlier, we think it really -- it just, it manifested itself from a behavioral activity. And right now we put together several programs, local, care management as well as regional with the shared service center. And essentially we put in patient care management which takes a look by exception of all patients. And it gives us an opportunity to do a couple of things.

One is to identify clinically where we can improve things, but more important educate the local care center. We have also given them some refined tools to be able to take a better 360 view. And we think just through that education and that oversight that we will see more normalized behavior. And we think it is behavior and as a result of multiple things as a result of trying to be more efficient and more effective and as I said, we do see that flattening out. But we are not sure what the trend will look like from there. It would be, it would not be good to try to make a prediction.

But I think next quarter we certainly will have an understanding of what that trend will look like more normal going forward.

Fair enough. Next question. Can you give us what percentage of your referrals now come from an acute or post-acute setting versus physician office today?

That fluctuates a little bit. But it is probably in between the 40% and 50%. So you take 45%, that would be a good average.

I'm sorry, 45% from where?

From facilities.

From facilities. 55% from direct from physician office?

Physicians' offices and other referral sources. I think facilities are kind of referring more to the hospitals. But we see referral sources coming in from L tax and from ERPs and ALFs and that kind of stuff, ILS. So I am referring more to the hospitals on that 40% to 50%.

Right. I guess another way to as the question, do you have what the percentage is just from physician office?

We haven't looked at that to give you an exact number. But I would think that's probably in the 40% range as well.

40%. Okay.

Because we usually have an equal balance as we look at that between hospitals and physicians and then the mix comes from facilities and other activity. Other types of nonhospital facilities.

And my last one. Humana recently announced an acquisition of American Eldercare, I believe down in Florida. A provider of directing sort of long-term care patients and home health services.

So I guess, one, would you expect to see any benefit potentially from that? I know it is only in one state, but any --? Would you expect anything there?

And then, two, any more interest from payers in participating in directing from that continuum of care? Any discussions there that you have had and any color you could share would be helpful.

I don't think we are going to see anything meaningful from the Humana acquisition.

But the level of communication we have with payers right now is more than just homecare. From homecare from the Medicare design we are talking about non-homecare, non-homebound patients that receive homecare and a lot of discussions about care transitions. And as you are aware, in my comments earlier with our care transition coordinators, as well as the efforts that we have had to put in to prepare for the bundles, and our partnerships with ACOs and that kind of risk activity as well as large physician group ACOs. I might add that there are more physician ACOS right now than hospital ACOs.

We find ourselves having different dialogs looking at different opportunities to create different revenue sources that are outside the Medicare homecare benefit. And that is where we see the next huge opportunity and breakthrough. And you see it in our exchanging. We are able to refine the way we relate with managed-care. Mostly contractual now, electronic exchange of information versus paper. Our reimbursement rate is going up. Our collection rate is going to go up and we think that opens the opportunity for different models.

And our mission is to be involved in overseeing and providing home health and hospice services, but overseeing the cost of the whole post-acute care continuum, and with our new technology we will have the ability to have a better visual on managing that whole cost component.

And we won't get too detailed into that, but bundling predisposes us to have to look at and manage the other providers in the post-acute care continuum.

Okay. Thanks for the comments.

Sheryl Skolnick, CRT Capital Group.

Good morning. I wanted to follow up on a couple of things, if I might. First of all, I have to go back to the re-cert number because obviously that is the number that sticks out.

So, if I understood your most -- the comments that you just made, Bill, you put in place this patient care management system, you're attempting to educate your caregivers. Just go through again for me, remind me of the timing of when that really started to get traction.

So, the patient care management we put in place as a response to Humana and some of the questions they had in reference to utilization and how they wanted their patients managed, at that time they didn't really have a [UM] function for the home care side. So we put one in and that is when we started from our perspective and focused mostly on Humana as well as the big United contract that we had signed. And what we recognized is that we had variations amongst the agencies, but less variation where we had PCM in place. And we were actually getting better quality.

So we looked at a process to be able to put that practice for the whole organization, but recognizing we didn't want to manage clinical functions centrally. So what we established was clinical tools to allow the care centers individually to manage that day-to-day clinical decision-making.

And then with the shared service centers, we had resources there that were more focused on consistency of care and narrowing down the variations. And then the patient care management is more of a central, it's designed to look at what we call outliers and if we see care that is extraordinary, too low or too much on both ends of the continuum, I might add, then we reach down and we do a clinical consultation with the local care center and give them a different perspective to look at so they can make a final decision.

And what we have seen is that has reduced variations, but more important thing is, it is an opportunity to selectively educate those clinical managers and director of operations as well as the therapists that are involved on with the best practices for the best outcome.

And at the end of the second quarter, May fully implemented by June, we were able to have that central process fully in place as well as all the tools that are needed locally and the regional oversight. So we feel pretty good that going forward we are going to see this really normalize.

That is extremely helpful. So, by June it was completely rolled out. So then the second quarter re-cert and the re-cert, the drop in the re-cert, never mind the re-cert rate. The actual drop in the number of re-cert accelerated in the first quarter. 17% decline year over year on a same-store basis. 18% in the second quarter. So it looks like it is accelerating nicely, accelerating from that perspective.

And can you attribute the decline, the actual number of declines to this process as opposed to changing the nature of the patients? Had you been able to do that work and figure out how much of that decline is self-produced as opposed to how much of it is market-driven?

What our stats show is that we had the biggest decline in the fourth quarter of last year, about 2.5%, and then we had about a 2% decline again in the first quarter and now we had about a 1.2% decline in the second quarter. So (multiple speakers).

That's in the rate, but not in the numbers and the numbers unfortunately are driving your results in terms of completed episodes. So I understand the rate argument because that is going to vary with your admissions.

So I get some interaction here, that what I am trying to isolate is how much of the number decline in research and -- sorry for interrupting -- is related to this clinical practices that are clearly admirable. They were the right things to be doing, but how much of it is related to that?

Right. So when you go back, we think that it is behavioral and the behavioral piece is a combination of all of the things that I mentioned. It is putting in clinical programs. It is taking a look at staff reductions that we made at the time. It is preparing for different types of reimbursement such as bundling.

And we think all of that really [drillable] behavioral change which has got some clinical components to it. And we think the oversight that we put in place and the education will reduce the behavioral anomaly and give us some normalization. So, I feel (multiple speakers). You have another question?

Yes, no, I understand that. And I would agree that you will see behavioral anomaly, but what I'm trying to say is that if you just fully rolled this out on an absolute numbers basis of that number of patients coming in and the number of patients that are not getting re-cert, that could well not anniversary until a year from now. So there could be presumably less steep declines numbers of re-certs year over year. Not necessarily re-cert rate, but number of re-certs year over year. There could be less steep declines going into next year, but it sounds like we are not going to anniversary the full impact of the full rollout until the year from now. Is that fair?

No, I don't think that's fair. I think that we have been preparing for the oversight. Again as a result of bundles and managed-care activity. When we get to the fourth quarter it will be a year.

It is fully in place and fully operational. So I would expect not knowing which direction it will move in I would expect for it to normalize as I mentioned in the third quarter and to be predictive of the trend going forward. So I don't think we are looking at a year. I think we are looking at a quarter.

Then I must have missed understood when you said that it was rolled out fully in June. I understand that it began last December, but okay. So we will see on that.

And then the other question that I have is if we can go through for a second just what you expect to spend on hiring the new care transition coordinators and expect to spend on the IT and clinical systems so that we can get a sense of what the incremental cost will be as against cost savings that you -- the admirable cost savings that you have achieved so far.

Let me make sure I understand. You have got two parts there. The incremental cost of hiring BD staff.

Yes, that care transition coordinators. As well as separately it is also an incremental cost question so that is why I gripped it together. The rollout of the new clinical systems and then the footnote to that is will both systems be able to exist in the transition to [ICD 10].

Well, no we shouldn't see any incremental cost as we focus on hiring additional BD staff. I mean in our -- we are not expecting to have that have an impact from that. It will just the normal operations with a focus on the care transition coordinators. So on the IT if I am understanding your question, so the development cost we are incurring this year which will finish the fourth quarter that is capitalized. And there will be as we go out with implementation over the next two years really in 2014 and 2015, that implementation cost, a big portion of that will be capitalized also.

And then the other implementation cost, I think we -- where our view is just we haven't quantified, but we will shift current resources into the rollout process. So, no, incremental cost there. That is our plan at this stage.

That is very helpful. And then the final question that I have is -- well, the last question for that part was has this been the transition to ITD 10 on October 1 of 2014? Is that the plan?

Yes. Clearly focused the organization we are clearly focused on ITD 10 implementation and it is all AMS3 is all part of that. So we certainly are preparing for that and think we have a good plan.

Great. The final question that if you will allow me is when we look at the -- when we are looking at the overall headwinds that your business is facing and you basically in this quarter have gotten $40 million of annualized cost savings year over year, just on the salary equated benefit line alone. And that does -- you have had a lot of revenue headwinds so far this year both in the hospice and in the home health business. Got that. It does a nice job of offsetting it.

How much more do you think you can have available within the organization to offset the cuts? The question was asked a little bit differently earlier to offset the anticipated cuts if indeed you don't get any relief fund rebasing?

I will start. Again, with respect to we still have a little bit more with respect to the divestiture strategy and the $10 million that we targeted. So that is not all fully baked in yet. We will realize that when the rest of these care centers are finally divested and the operating part of that is certainly being captured in disc ops. But we are certainly anticipating rightsizing the organization and seeing some reductions in G&A from that. So, more of that to come. So we believe that still will manifest itself.

Secondly, and we will go back just which we haven't quantified. It is certainly challenging, but as we sit we acknowledge that our margins have been a little bit behind our peers. And so we are working to close that gap. So we still, and as we have said before, our opportunities are in gross margin and in G&A. And so we will certainly try to -- and this is all consistent with the initiatives on patient care to be more efficient and utilization achieving and sustaining and improving outcomes, but being more efficient while we do that. And then G&A. The G&A line will reflect that.

One of the things the other initiative that shows up that allows for efficiency that is building the foundation for the AMS3 rollout and we talk about the $10 million or $15 million we will ultimately save from AMS3, that is our estimate as we sit. Hopefully that turns out to be conservative. But I don't want forecast that. We will stand with our number.

But the shared service center model and AMS3 rollout certainly allows us to have a foundation of being more efficient. Administratively, if you will, along with clinically. So those two coming together we think allow us to continue to rationalize cost and be a more efficient operator.

I guess what I am trying to get to is with the cuts that you have got already in the run rate and the cuts that are coming, can you ever get ahead of the pressures on the business shrinkage? And I guess you are trying the best you can, but that remains to be seen.

Well, that depends on what happens with the final rule. As I mentioned there is a lot of activity there. We are not giving up. We also continue to make the case both to MedPAC and to Congress that homecare is obviously a cost-effective setting.

What we have seen is obviously a shift of patients. So you have seen growth in the home health industry. And one of the things that they pick on is the fact that the home health industry has had growth.

Well, the bottom line is that -- more than hospitals -- is that a lot of the patients have shifted out of hospitals to the home health industry. So the question is how much has been shifted to the industry versus just abnormal growth. And all of our information indicates that it is a shifting.

Also indicates and we put out reports with the partnership about [some of the] very good report that showed that homecare is not only more cost-effective, but reduces readmissions which has been a buzz both in the medical as well as the political circuit.

So we just have to keep proving value proposition. We have to focus on targeting this fraud and abuse and getting savings there. And I think when it is all said and done, there will be a rational approach to home health and we will get some relief.

So I don't think it is all internal. The other thing is we have to be careful on cost and, as Ronnie said, I think there's more, but you don't want to cut something out that sort of throws the baby out with the bathwater. You have got to make sure that you still put resources in to grow. Because a big part of it is not just cutting cost, but actually getting back to that single-digit growth. That will cure a lot of the challenges that we have.

So when you balance them and then you go forward and hope to make some positive change in the rules, there's a lot of opportunity. And that is not talking about what home health can evolve into. How we can provide transition of care programs. How we can be -- take bundles and be at risk there.

There are lots of opportunities that we can evolve to as an organization to ignite our growth. I'm not talking about slow growth, but reignite the growth that we enjoyed over the years.

Thank you for letting me ask so many questions. I appreciate it.

This concludes the question-and-answer portion of the call. I will turn it back to Bill Borne for any closing comments.

Thank you, Steve, and thanks to everyone who joined the call today. We sincerely appreciate your interest in the Company. We look forward to updating you on our next quarterly earnings call. Everybody have a great day.

Ladies and gentlemen, this concludes today's conference call. You may now disconnect.