Amedisys Inc (AMED) 2018 Q2 法說會逐字稿

Greetings, and welcome to the Amedisys Second Quarter 2018 Earnings Conference Call. (Operator Instructions) As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Nick Muscato, Vice President of Strategic Finance. Thank you, sir. You may begin.

Thank you, operator, and welcome to the Amedisys investor conference call to discuss the results of second quarter ended June 30, 2018. A copy of our press release, supplemental slides and related Form 8-K filings with the SEC are available on the Investor Relations page of our website.

Speaking today on today's call from Amedisys will be Paul Kusserow, President and Chief Executive Officer; and Scott Ginn, Chief Financial Officer. Also joining us are Chris Gerard, Chief Operating Officer; and Dave Kemmerly, General Counsel and Senior Vice President of Government Affairs.

Before we get started with our call, I would like to remind everyone that statements made on this conference call today may constitute forward-looking statements and are protected under the safe harbor of Private Securities Litigation Reform Act.

These forward-looking statements are based on information available to Amedisys today. The company assumes no obligation to update information provided on this call to reflect subsequent events, other than as required under applicable securities laws.

These forward-looking statements may involve a number of risk 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.

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 also be available in our forms 10-K, 10-Q and 8-K.

Thank you. And now I'll turn the call over to Amedisys' CEO, Paul Kusserow.

Thanks, Nick, and welcome to the Amedisys Second Quarter 2018 Earnings Call. It has been another very strong quarter for Amedisys. And we are extremely pleased with our results, the progress we've made and the progress we're continuing to make. First, I want to thank all of my colleagues at Amedisys, over 18,000 strong, who delivered these great results. As I keep saying, we're nothing but people. And our people keep raising the bar, which drives our ultimate goal: taking care of our employees and providing better care for our patients, wherever they call home.

Now for the second quarter results. For the quarter, we generated $413 million in adjusted revenue, up 10% year-over-year; adjusted EBITDA of $50 million, up 38% year-over-year; and adjusted earnings per share of $1, up 61% year-over-year. During the quarter, we were able to accretively buy back 7.1% of our common stock from our partners at KKR. We doubled our borrowing capacity by over $250 million to $550 million. And we saw another quarter of strong growth in all 3 lines of business.

I'm also happy to announce that our continued outperformance has led us to increase our full year guidance ranges to better reflect how we see the rest of the year shaping up. Scott will discuss the details of our revised guidance later, but by any measure, this is a performance our employees and shareholders should feel good about and be very proud of.

Now let's review how we are doing in our 4 strategic areas of focus, starting with clinical excellence and distinction. Once again, our unwavering focus on clinical quality has paid dividends, as our October 2018 STARS score preview puts us at an average of 4.41 STARS, up from 4.38 in the July preview. We now have 73 care centers rated at 5 STARS, with 94% of our overall portfolio rated at 4 STARS or better. This is now the 13th straight quarter of sequential improvement in STARS. I would like to acknowledge all of our clinicians, who are constantly providing outstanding care and always trying to best our already impressive results.

Great care equals great business. And our focus on clinical quality also continues to generate financial returns as our performance in the home health value-based purchasing, VBP, pilot indicates. For the second quarter, we received approximately $250,000 in bonus payments from CMS. This year is the first year of bonus payments and the CMS pilot is limited to 9 states, 7 of which we have operations in.

As the percentage of payments in VBP grows from 3% to 8% by 2022, we will see meaningful revenue upside from our continued industry-leading quality performance. Again, we hope CMS will use VBP more widely as a way to continually drive quality and reward quality players in our industry.

For our hospice business, the hospice compare May 2018 release of quality metrics shows Amedisys outperforming the national average in all 7 measurement categories. We are very pleased with these results and expect to see more of the same when the updated metrics are released in August.

Moving on to Employer of Choice. We surpassed our goal of hiring 800 home health BD employees, ending the second quarter with 808 employees and have now increased our BD headcount for 5 consecutive quarters. As we have consistently stated, equally as important as hiring is retaining the talent we bring in. To that point, we have improved our full time voluntary turnover again, ending the second quarter at 18.1%.

I'm very pleased with our efforts here, but believe we still have room for further improvement, especially within our key nursing workforce. Again, we are a people business and retaining our people underpins many of our strategic priorities, such as readmission reductions and continued industry-leading quality scores. Further, reducing turnover will be a theme we will continue to focus on for the remainder of 2018 and beyond.

Now let's discuss operational efficiency. Our focus on maximizing the efficiency of our operations is reflected in operating leverage we are achieving throughout our organization. For the quarter, our total adjusted EBITDA margin was 12%, up 240 basis points year-over-year. As you will recall, a 12% EBITDA margin was our stated goal back in early 2015 and I'm extremely proud that we have achieved this margin. Keep in mind we did this in spite of larger-than-anticipated cumulative rate cuts since that time. The main driver of our margin expansion has been continued productivity improvement. In fact, we have once again improved our skilled nursing productivity, increasing 0.6 weighted visits per week sequentially or a 1.9% productivity increase over the 7% year-over-year we reported last quarter.

Finally, driving growth. In our home health division, we continue to make improvements on our growth efforts, ending the quarter at 8% same-store total volume growth, which is admissions plus recertifications. This is the growth number we really focus on as this metric shows all sources of growth.

Our total same-store admission growth was 6%, 1% above the total admission growth target we laid out in our 2018 guidance. We continue to focus on Medicare fee-for-service growth, which has been increasing quarter-over-quarter for the past 5 quarters. We still think there is ample opportunity to increase our home health growth and are working hard to drive it higher.

Hospice continues to build ADC at an impressive pace, growing at 12% to 7,554 for the quarter; admissions were up 7%. Both impressive numbers given the year-over-year comps our hospice business faces.

In personal care, total hours per quarter grew approximately 29%. We are very pleased with the progress our personal care team has made integrating the assets we have acquired since 2017. And we plan to continue to scale, grow and expand the business, both organically and inorganically, across our footprint.

To that point, I am also pleased to announce that last night we signed a definitive agreement to acquire Bring Care Home, a personal care provider in Northeastern Massachusetts. Bring Care Home adds even more density to our Massachusetts personal care presence. And I'd like to extend a heartfelt welcome to the newest member of the Amedisys caregiver family.

On the M&A front, multiples for bigger deals continue to be challenging for us. And we continue to see financial sponsors desperate to put dollars to work and willing to pay nosebleed multiples for deals. We remain very interested in hospice assets and are focusing on tuck-ins and deals of size that we have internally sourced. As we mentioned last quarter, in priority geographies, where there are no- or low-quality tuck-ins, we plan to supplement our acquisition strategy with de novos. As we continue to assess market priority and asset availability, we will update you with our de novo goals for 2019.

In personal care, we continue to focus on good value tuck-ins where we have a strong home health and hospice presence, much like the Bring Care Home acquisition and our recently closed deal in Knoxville, Tennessee. In home health, we remain interested in strategic assets in priority geographies and where we can get a good deal. The further evaluation of the proposed rule recently issued by CMS will undoubtedly influence what types of deals and where we focus our M&A at priorities in home health moving forward. We will continue to evaluate opportunities as more clarity around 2020 payment reform emerges and settles into final form.

Overall, our M&A message remains the same. We will continue to be disciplined with regard to valuations. However, the pipeline for all 3 lines of business is very full. And we look forward to deploying the substantial capital we have access to through our new credit facility.

Finally, on the regulatory front. On July 2, CMS released the calendar year 2019 proposed rule for home health that included a 2.1% payment update for 2019, and proposed a revised case mix adjustment methodology for calendar year 2020. The payment increase for 2019 is naturally welcome news for our industry, as this is the first positive payment update for home health since 2009.

Amedisys is also well positioned with our hospice business as the full year 2019 preliminary rule for hospice, released in early April, included a plus 1.8% update and is set to take effect on October 1. We expect the hospice final rule to be released by CMS within the coming days.

As it relates to the new case mix model for home health, or the Patient-Driven Groupings Model, PDGM, this is something that we at Amedisys have been expecting, since CMS did not finalize the Home care Health Groupings Model, or HHGM, in November of 2017. As you will recall, in the Bipartisan Budget Act of 2018, Congress mandated home health payment reform be implemented January 1, 2020. This inclusion of PDGM in the proposed rule was not surprising. In February, we have plotted Congress for mandating budget neutrality for any transition to a 30-day payment period and a 2020 start date.

I cannot overstate how significant those 2 changes are from last year's HHGM proposal. Our team and consultants are still modeling and analyzing the structural changes proposed in PDGM, how will it impact our patients; how will we provide the same quality of care going forward? We have significant time to understand the impact, provide formal comments to CMS, work with CMS and Congress to improve upon the model, and transition and prepare to operationalize this new payment system across the entire Amedisys footprint.

Over the next 17 months, we will be extremely focused and diligent on successfully moving to the new payment system with minimal disruption to the business. We'll keep you updated on our progress as things move forward.

As you all can see, we had another great quarter and are riding the wave of a very positive momentum going into what has traditionally been a more difficult back half of the year. Again, thank you to all the Amedisys employees for all they did to drive this success, it's well-earned.

With that, I'll turn it over to Scott Ginn, who will take us through a more detailed review of our financial performance for the quarter. Scott?

Thanks, Paul. I'm very pleased to report another excellent quarter of financial results. For the second quarter of 2018, on a GAAP basis, we generated $412 million in revenue, an increase of $37 million or 10% compared to 2017. We had net income of $0.98 per diluted share, an increase of $0.85.

For the quarter, our results were minimally impacted by income or expense items, adjusting our GAAP results that we have characterized as noncore, temporary or onetime in nature.

Slide 14 of our supplemental slides provides details regarding these items and detailed income statement line items each adjustment impacts.

For the quarter, on an adjusted basis, our results were as follows. Revenue grew $38 million or 10% to $413 million; EBITDA increased nearly $14 million or 38% to $50 million; and EPS increased $0.38 or 61% to $1 per share. Impressively, our EBITDA as a percentage of revenue was 12% for the quarter, which we achieved in the face of reimbursement cuts and planned wage increases. Additionally, Q2 marks the seventh straight quarter of a sequential increase in EBITDA.

Now turning to our second quarter adjusted segment performance. In home health, revenue was $239 million (sic) [$293 million], up $22.8 million compared to prior year. Revenue growth was driven by an 8% increase in same-store total volumes, which includes both admissions and recertifications from all payer sources. On a same-store basis, total admissions were up 6%, episodic admissions were up 5% and episodic volumes were up 6%.

Our Medicare recertification rate was 38%, a 170 basis point improvement from prior year. Segment EBITDA was $48.4 million, up $11.8 million with an adjusted EBITDA margin of 16.5%, representing a 300 basis point improvement. This segment EBITDA margin is the highest it has been since Q2 of 2016, which was 14.9%. We are very encouraged by this increase, which is a result of the segment's focus on growth and operational efficiency.

Visiting clinician cost per visit decreased $0.54 compared to prior year, with overall cost per visit down $1.22 or 1.4% decrease. Increases in clinician productivity were a key driver in our ability to achieve an 80 basis point improvement in gross margin despite reduction in reimbursement and planned wage increases that went into effect during the third quarter of 2017.

Other items impacting the second quarter results of our home health segment include a reduction in reimbursement of approximately $2 million impacting gross margin. Revenue per episode increased $45 despite the 70 basis point rate cut. This was driven by the acuity level of our patients, which was offset by a 1.7% increase in visits per episodes. G&A was down $600,000 or 220 basis points compared to 2017 and was at 23.3% of home health revenue for the quarter, which is as low as it has been in over 2 years. The reorganization and closures and consolidations we announced in the latter half of 2017 helped to offset the cost of additional BD resources. We are very pleased with the segment's ability to support a $23 million increase in revenue by reducing overall G&A spend.

Now turning to our hospice segment. For the second quarter, revenue was $101 million, up $11 million over prior year, an increase of 12%. Same-store average daily census was up 12%, and same-store total admissions were up 7%. Segment EBITDA was $29 million, an increase of $3.5 million or 14% versus prior year. Net revenue per day was mostly flat and cost of service per day was up 1% to $75.20.

The hospice segment benefited from an increase in reimbursement of approximately $1 million. The segment expanded EBITDA margin by 30 basis points despite additional G&A investments in our business development staff and administrative employees to drive and support continued growth.

Our personal care segment generated approximately $19 million in revenue in the second quarter, representing growth of 31% with over 797,000 billable hours. Our results are not comparable to prior year as they include the results of 2 acquisitions completed since the second quarter of 2017. We're pleased with the integration process we have made and continue to invest in the platform's infrastructure to allow for future growth.

Turning to our total general and administrative expenses. On an adjusted basis, total G&A was $122 million or 29.5% of total revenue. Total G&A was down 230 basis points as a percentage of revenue compared to prior year. We remain focused on driving operational efficiency across all levels of the company.

From a cash flow perspective, we generated $51 million in cash flows from operations for the quarter, and spent $1.8 million as we closed on our East Tennessee Personal Care acquisition. Our cash flow from operations was impacted by CMS payment and billing issues resulting in approximately an $18 million delay in cash collections. All but $1 million related to these issues has been resolved.

Days sales outstanding were 41.1 days, which is a decrease of 0.3 days, sequentially. DSO was impacted approximately 1 day by the CMS billing issue.

As Paul mentioned, we executed on 2 major strategic initiatives to better optimize our capital structure. First, we used available cash on hand in our existing revolver to buy back one half of KKR's position or 2.4 million shares at a 4% discount to our closing price on June 4, amounting to $179 million. This buyback of 7.1% of our outstanding common stock leaves us with a post-transaction lever ratio as of June 30 of only 0.6x.

Second, we entered into a new secured revolving credit facility expanding our borrowing capacity to $550 million, providing us with better pricing terms and more access to capital. Our cash balance combined with our available revolver gives us access to $414 million. The new facility replaces our $100 million term loan A and our $200 million revolver. Our continued strong cash generation and low debt levels provide us ample flexibility for M&A and other strategic capital deployment opportunities.

Finally, as you can see on Page 16 of our supplemental slide deck, we are updating our guidance ranges for the year. Our new ranges are: revenue of $1.63 billion to $1.65 billion; EBITDA of $168 million to $172 million; and EPS of $3.32 to $3.41. This will conclude our prepared remarks.

Operator, please open the line for questions.

(Operator Instructions) Our first question comes from the line of Brian Tanquilut with Jefferies.

Paul, I guess, the first question for you. As I think about the growth rate, the organic growth that you see in the company, obviously, it's been accelerating, picking up and a lot of it has been in the non-Medicare side of the business, right, or the non-fee-for-service. So how should we think about the breakdown of the growth? Where do you think that can go? And how much room do you have to push organic growth going forward?

Sure. I think while we've seen that, obviously, I think there's more penetration in terms of Medicare Advantage. So we're -- this is an area we're looking at and moving toward trying to create some more -- we're having a lot of conversations actually with the folks -- some of the larger players in Medicare Advantage. It's something we want to change the game on. As you know, Medicare Advantage now is not as good of a business as fee-for-service. We don't make as much. It's slow pay. We have some bad debt issues there. So we're having conversations with most of the major payers and saying what can we do to change the game. And I think the interest there is in producing high-quality, driving down ACH rates. And then finding ways that we can start to take -- keep some of their chronically ill patients at home. So we're watching that really carefully. On the fee-for-service side, we did a nice job. We're growing. We've had sequential growth over the past 3 quarters. I still think there is a lot of juice in the orange there. I think there's a lot of things we can be doing to increase that. We expect to be increasing that over the next few quarters. I'll let Chris -- I don't know, Chris, if you have anything to add on that in terms of what we've been doing?

Yes, I just would -- just add to support that. We all know about the BD FTE initiative that we started last April. We came out of Q2 with 808 full-time reps out for our home health side. We added about -- we added 76 in Q2, which was actually our largest incremental add since we started this last April. 42% of those reps were 2017 and 2018 hires. So as we're looking at it and as we're working on focusing -- ramping these reps to full productivity, that's where we see the opportunity for the organic fee-for-service growth.

And on the other side of that, Brian, I think the key is are we going to be able to hire enough clinicians and we've -- our recruitment team has done a very nice job, bringing in the clinicians where we need them. There's a couple of rough spots out there, but we haven't been really that affected by what people perceive as a tightening labor market. So we feel good about our abilities there. And our turnover is an area we're clearly focusing on, so that once we bring them in, we don't lose them.

I guess -- this is a follow-up question that I was thinking about. As I think about cost per visit, you were talking about how productivity is driving that and all that stuff. But how much room do you have there to drive productivity, drive margins higher? And then I noticed on the slide deck, there's the increase in contract labor. What's driving that? And how much can you really bring that down by over the next few quarters?

Sure. I mean, Scott, why don't you...

Yes, just...

I think just, we -- the good thing is, we -- just this quarter, we had a 1.9% productivity increase over what has been this year-to-date 7%. So that's close to 9% productivity growth. So we're still -- our folks are still doing a wonderful job there. And we're still starting -- we're at stage 1.0, moving to 2.0 in terms of optimizing HomeCare HomeBase. So we still believe there is a lot more that can be done from a productivity perspective.

Yes. No, I think that's correct. We focused on that. If you look at the salary line, which is the biggest driver, gave raises, that's where that would show up, but to Paul's point, productivity has driven that, that ability to improve, so we're excited about that. There is some fixed cost in there. So as we continue and we're hitting on better growth numbers, we're certainly getting leverage there. To your point on contractors, that's something that last year or late in '16 was a big project for us to pull back and we did that successfully. What we've been focused on now is making sure we have the bodies we need to -- the clinicians we need to take all the growth that we can get. So that's -- we've kind of shifted away from that, but we've got room to pull that back on that as well as work on LPN and then RN shift. So still a lot to work on there. It will still give some raise increases, effective in August. So that'll impact that metric a bit. But we still think there's room to continue to moderate that growth from wage increases.

Yes, and we did this purposely, Brian. We want to -- we're pushing the growth element and we're finding that recruitment can keep up with our growth. We're -- and then we're very focused on turnover and obviously have brought that down. We're obviously focused on clinician turnover. And so we continue to hire up on BD. And we continue to make sure that when we pitch, we catch with having enough clinicians to fulfill what -- kind of the orders that are coming in.

Our next question comes from the line of Matt Larew with William Blair.

A couple of questions on EBITDA margin. First of all, Scott, if you could walk us through some of the puts and takes in the back half of the year? What things will carry through in terms of the strong performance from one half versus the incremental headwinds in the second half? And then, Paul, you obviously alluded to hitting the 12% target that you laid out several years ago on (inaudible). Is one quarter not a full year quarter -- full year number? But if you have any thoughts on what potentially you look out 3 to 4 years, maybe that next margin target that you think about?

Sure, Scott?

Yes, I'll start with just talking through the second half. And just from a gross margin, if we were to normalize things, I think certainly we're at a sustainable level. But we do have and you can see in our charts, we've added to the back of the guidance section, there's some second-half costs that come through. The largest one, Matt, is around health insurance. We're going to spend somewhere around $70 million on health insurance, we think, for the full year. We've only spent about 40% of that in the first half. So the balance will come in the second half. So that's something we're mindful of. We also have raises we mentioned that go into effect in August of this year. We have 2 additional holidays. So those are some of the things that we traditionally see. And then just from a top line perspective, Q3 is a more difficult quarter for us just from a -- additional holidays as well as the summer months. So that's kind of the back half pressures that we see. And we're kind of contemplating as we give you all the guidance for the full year update.

Yes, and on the 12%, Matt, I think we're very happy to have gotten there. Clearly, it's something that we had been aspiring to do over the past 3.5 years. And to get here feels very good. I think a lot of that has been done on margin management. As we continue to grow, particularly, in fee-for-service Medicare, we're going to expect some margin expansion. We're very tight on the costs. We're still running -- we still run this place like we're -- from a cost perspective. And I think we need -- probably need to rethink it like we're back in 2015, like we're still turning things around. So we're very, very tight on costs. We understand how we can lose margin and we don't want to go back there again. I think the idea though is there's a certain point where you have to start to reinvest. And I think what we're starting to do is look at some of these places where we need to be investing. And I think that's what we'll be -- you'll start to see some areas. We want to take very good care of our employees. We want to make sure that we pay for some of the things that are important for us, quality, turnover, some of the things that are -- operational excellence. So we're looking at that. And also, I think one of the things we're starting to look at where we could put some efforts is in some -- in innovating and some of the capabilities that we're going to need to be the most attractive source for payers to turn to, because MA is growing, we do need to change the game, we think we understand the elements that we need to build to change the game. We have started on a lot of these, but we need to bring them to fruition, so that in the next 6 months or so, we can have a good deal and show that we actually are changing the game with payers. I think that's important.

Okay. And then a follow-up actually on personal care. The business today is now about double what it was in 2016, and you've been focused on building a regional scale in Tennessee and Massachusetts. Just wondering, Paul, you mentioned there are both organic and inorganic opportunities there. Can you just update on what the longer-term strategy is? Are there additional states like North Carolina, Georgia, South Carolina where you have scale in home health that you might look to build out scale? Just be curious to hear the updated thoughts there, Paul.

Yes. I -- this is a very important element for us. As you saw with -- CMS came out basically saying that they're going to start paying for some of the services or that that'll be -- that can be included in the MA benefit, so we think that's a smart thing to do. We're getting a lot more of our payer friends asking about these types of service. How do they -- how do we start to work both having good clinicians coming into the home and then having personal care taking care of activities of daily living, how does that combination work so that we can really attack some of their high-cost chronically ill people? So I'd say where we're pretty focused on this point is expanding in Pennsylvania, continuing in Florida. We like Georgia, also Tennessee. I think those are the types of areas where we have very good overlap, where we're strong. And we believe that -- we believe also we need that full package. We need to do this in a coordinated way, and we need to be able to offer those benefits of having personal care, home health and hospice. We believe if we go in and do that as well as a little palliative -- we're expanding our palliative as well. We've expanded that into 2 other areas. So we believe if we have all that, that'll be very attractive to start to drive different conversations with some of the managed care companies.

Our next question comes from the line of David MacDonald with SunTrust.

Just want to come back to the MA conversation for a minute. Look, we're hearing all of these sizable payers talk about value-based care. So I was wondering if you can just give us some sense around contracting, just conversations you're having. Does value-based care kind of provide a gateway in, in terms of potentially better contracting, more collaborative relationships with some of these payers? And then in the same vein, just what is kind of the industry trying to do at the government level with regards to further pushing the value-based concept with regards to Medicare?

So I'll answer your last question first, Dave. I think the government, we -- clearly, we're doing very well in value-based purchasing. Our numbers there have done well. We've gotten a nice bonus. The problem is it's in 9 states, we're in 7 of those, but we got $0.25 million this quarter for that. Obviously, that's going to ratchet up in these states, so we're excited about what's going to happen when it's 8% versus 3%. We're -- we think that this is a way that the government can cull the fragmented industry a bit in terms of home health. We think that if you can actually reward the quality and quality delivery in value-based care, that's going to -- and push the proportion of rewards to those people who are delivering it and take away from those people who aren't, we believe this is the right indication for the government to send. So we've been as active as we can trying to say this needs to go out across the country. We're hoping that it comes out of CMMI and is actually implemented. We haven't heard anything about it, but that's something we really believe. So we're quite -- we'd love to see that occur. Obviously, it benefits us because we focus on quality just religiously, so -- and we're going to continue to because it's good -- it's the right thing to do and it's good business. So -- and we hope the government starts to see that. On the value-based care in general with payers, the types of conversations -- the world has changed since Humana bought Kindred, and I think there's a lot of payers who are trying to see what they saw. And they believe that the home is a place where, particularly if they're going to be involved in Medicare Advantage and if they're going to want to grow Medicare Advantage, this is something the consumer of MA really wants. They want to be able to be taken care of in their home. They want to be able to stay in their homes. And so we've had -- the level of interest and the type of conversations have really changed. We've got a couple very small initiatives, largely built around ACH rates and quality results that we're teeing off right now; we don't have results in. But we'd like to have a bigger deal going forward, I think though, particularly focusing on those 2 areas. Again, I think we're going to have to build our capabilities in care coordination, discharge planning, some of the other areas that -- taking -- shifting share in post-acute to bring more people sicker in the home, so hospital in the home. So we're focusing on all those issues and trying to build out or partner with people as quickly as we can so that we can offer a full package that would create a differentiated offering.

I guess just one quick follow-up. I mean, obviously, the question's been asked at the government level. But when you talk to CMS, I mean, it seems like this would be -- the further rollout would be best-case scenario. I mean, it doesn't cost them any incremental dollars, and the quality likely goes up pretty dramatically. So what is the answer that comes back in terms of why further expanding this wouldn't make sense?

It's cricket so far, but I'll let Dave -- Dave can -- Dave will give you a more modulated answer.

Dave, Dave Kemmerly. I'd take you back for a moment. First of all, I'll reiterate what Paul said. We support expansion of VBP to all 50 states. I believe there was and probably still is industry-wide support for that. You may recall in late 2017, before CMS chose not to file out of the HHGM, the industry coalesced around a proposal to expand VBP to 50 states. And we went to congress with it, but there wasn't really a lot of time. Congress wasn't open to it at that moment. They were waiting to see what came out in the rule. We haven't really, I believe, had the opportunity to really sit down with CMS and really vet it and really dive into it. We've been dealing with HH -- they've been dealing with HHGM last year, dealing with PDGM in the interim. So I don't think there's really -- I wouldn't necessarily say that CMS has rejected it. But we -- I don't know if we've been able to have a deep and meaningful conversation about it as a kind of alternative payment reform or supplements payment reform. So I'm still hopeful that we can have that conversation, and I'm hopeful too that there's consensus in the industry that VBP is the way to go. Does that kind of answer your question?

Yes. And then, guys, just one quick follow-up question. If you look at the hospice clinical numbers that you're posting, obviously, very good on both an absolute and relative basis. Can you talk a little bit about what you're trying to do to kind of push quality in hospice a little bit more to the fore and ideally, over time, start to get portions of reimbursement tied to outcomes and the quality of care?

You want to take that, Chris?

Sure. Dave, it's Chris. Since CMS has recently started to publish publicly hospice performance ratings, we obviously had some significant focus on where we stand. We're pleased with where we stand today. Now I think the key for us to actually get some sort of benefit from that is for us to work with CMS to demonstrate that actually the better scoring and the better rated hospice agencies out there are actually driving better outcomes and better levels of care for the patients. So I think it's early stages for that. It took a while for home health to even get to VBP. So -- but that's the ideal for us, is to have a system where the best quality providers out there are getting the upside and the worst quality providers out there are getting the downside.

Our next question comes from the line of Kevin Ellich with Craig-Hallum.

I guess just following up on David's question with hospice seeing such good growth and notice the average discharge length of stay increased by about 8 days. I guess, what's driving that? And I guess, where should we be thinking about where that's going to shake out?

Sure. Kevin, I'm going to have Chris answer that one, but I don't think you'll see it go much higher. So -- but I'll let Chris deal with that.

Yes, sure. It's Chris. We alluded to this the last earnings call. What we started focusing on is, is although the aggregate average length of stay has gone up to 97 days, where it is today, it was really more of a focus on a subset of care centers that had very low length of stay based on, really, primarily where their referrals were coming from. So we put a concerted effort around kind of diversifying that referral source, and that's what brought up the average length of stay to where it is. As Paul mentioned, we don't anticipate it going north much further than where it is right now. This is at a level that we can -- we're managing cap appropriately, and we also, I think, got it -- have the right mix with regards to our referral sources.

And I'll just add that Q2 2017 was probably one of the lower -- lowest points of that. We've kind of been in that low 90-ish range. So that's -- from a comparable standpoint, that's -- it's a little different.

That's helpful, Scott. And actually, since I have you, going back to cost per visit. We've seen you guys have done a great job there in lowering that, but gross margin keeps coming down as well, especially in home health. How -- did I hear you say -- is it stabilizing? And I guess, how should we be thinking about gross margin in the segments for the rest of this year and even as we head into 2019?

Yes. So actually, on the gross margin, just on home health, we were up 80 basis points on an adjusted basis. So -- and that was in light of probably, I think, a 30 to 40 basis point impact for reimbursements. So really, we're excited about that performance around margin at the home health segment. So they've done well. Continually, as we grow that top line, there are some fixed costs around cost per visit, as I've said earlier. So we're just getting expansion off of that. We can pull on the contract utilization. Certainly, we'll focus on LPN and RN utilization. It's probably something that's more into '19 as we do some things structurally to get ready for that, but there's a lot of opportunity there. But from a home health perspective, we saw revenue per episode up $45 on a rate cut. So if you think about that, where we are, we increased visits per episode by about 0.3. So from a margin per episode, we probably dropped an additional $30, which is -- that's in a $2 million range of gross margin improvement. So we're excited about where we are right now. If you normalize out for the noise around additional holidays, raises, we would expect that we're going to be able to maintain kind of where we are as long as that top line number continues to do what we expect it to do. But as you put in additional health cost and raises, you'll see that margin tighten in the back half of the year.

Okay. No, that's helpful. And then CapEx, it looks like the guidance has been maintained, but it's abnormally low this quarter and then you've got a step up in the back half of the year. I guess, anything unusual with this quarter? And I guess, what's really driving that big increase in the back half?

Yes. Some of that, if you looked at what we said from a cash flow perspective, is just timing of payments. But we just got some bigger projects we've kind of shifted around as we looked at priorities and other things we're trying to accomplish during the year. We're still guiding to that $7 million to $9 million, probably closer to the lower piece of that right now, if I look forward, but I don't expect us to get too outside of that.

And then $50 million of operating cash flow and free cash flow, are you willing to give us free cash flow guidance yet?

I think if you looked at what we expect to be in the -- kind of in that -- from a -- if you think about free cash flow for full year, we're looking to be in that 170-ish range. I mean, right now, what's happening, we're pretty tight now. With our new revolver, we don't have any required debt payments. So I'm pretty close on free cash flow and cash flow from ops other than CapEx.

Our next question comes from the line of Frank Morgan with RBC.

A couple of random questions here. Going back to those value-based purchasing, the demo payments, the $250,000 bonus. Is there any upside to that? I mean, are you -- is that basically capped out now at that 3% bonus level? Or is there any upside to that?

Right now, it's -- it goes on an annual basis. We're in the 3% range. And then it goes, I think, 5%, 6%, 7% and 8% after that, is how it's going up to 2022. So next year, it'll be 5% and then the year after, 6% and then 7% and then 8%. So we're excited by that. Obviously, what we really like is since we're in 35 states, we'd like to be -- we'd love it to be in all 50 states. So -- because we're -- clearly, we're performing well with 94% of our care centers being 4 STARS and above.

Got you. But the bonus payment is sort of an all or none. You get a 3% bonus or you get no bonus. And so there's -- you can't do any better...

No, it's very graduated and clustered in the middle so that in order to just hit it out of the park, you have to get almost impossible scores. So they -- again, we'd love them to spread it out a little so that you can really hit that. We've done a nice job there, but -- again, because we produced very strong results, but we'd love for them to leave the middle and push it out towards the sides and punish the bad and reward the good.

And when it steps up each year, are the requirements expanding and getting more difficult? I mean, I would assume that they're raising the bar if they're giving you a potentially higher bonus. Is that fair?

Well, they're using STARS as a result, and STARS, what they often do is shift things in and out. And often, if they achieve a great star number and everybody's hit it, what they'll do is they'll bring in new measurements to try to up the game. And the bar there is always raised as people improve because the average keeps moving.

Got you, okay. Shifting gears over. You mentioned the possibility of some select de novo development. Just curious if you could kind of walk us through how the economics of that works in terms of total capital deployed and time to breakeven and kind of long-term returns. And then a final one. This is more of a -- related to M&A. You referenced that you're having to look a little harder to find things that are off the -- not so on the mainstream in the marketplace. But when you talk to these smaller players, what is it that's really driving them actually to sell there? Is it just value -- they're seeing valuations -- seeing your stock go up? Or is it -- is there anything -- are they worried about this move to the new Patient-Driven Groupings Model? Or just any color there?

Sure. So Frank, I'll do the first question, and then Scott can talk about the de novos. But on the M&A front, we decided about 6 months ago, and I think Chris Gerard did a wonderful job here, we decided that we needed -- that anything involving private equity or that was banked, that the multiples were getting beyond what we could justify. And we still think we -- we still think the game has probably changed a little. We were looking in the 9 and 10 range for various things. Now probably, reality is in 11 to 13 range. But we've seen a lot of deals particularly in the hospice world go for well north of 15x, so that's a little crazy. And so we decided -- we tried it. We basically brought some people on, some proprietary people who hunt and gather, and they went out and brought us some deals. And we've got a lot of deals we're looking at, and we like them. We think they're interesting. They're tougher to bring in, but at least we're just talking to these folks solo. And so we got enough to chew on in this area, and we clearly need to start to deploy our capital. I mean, we got to where we are largely organically, and I think it's been a great run that way. But we now have -- we now should start to exercise the inorganic element of our company and really start to buy well. So we're happy with what we've got. We need to execute on some of these things clearly, I think, in this year and prove we can do it and prove we can buy and integrate and all that. So we're on it. The pipes are good. They're nice and full, and they're quality assets, some large ones, mainly medium-sized ones that we like. And again, if -- in the hospice word, if we don't -- if we -- for some reason, we aren't successful here, we're going to build. And so we have aggressive plans to build if we can't bring in some of these deals in the near term. And so that's what -- Scott has the backup plan, which is largely the de novo piece. We'll still do both, but probably we'll do less -- if we bring in a big deal, we'll probably do less de novos.

Frank, just from the economics around de novos, it's going to depend by state by state for the most part. To get these things up and running, it's probably going to take us about 9 months. The costs will accelerate as we staff which would -- and take on some patients before we get final approval. We'll probably spend -- we'll be spending around $40,000 a month if you think about that. We get to revenue positive probably, let's say, around the 9-month time frame, with breakeven potentially at around 18 months. That's going to be vary depending on how long that start-up period takes. But that's generally what the economics would look like. We've got a couple in progress right now, so we'll be able to update more statuses as we move forward and look at the model we're building.

We'll -- I think pure play, what are we thinking about? We're thinking double digits on de novos. If we don't buy anything, we will be in that -- next year, we will be putting a lot of these into play.

We'll -- so yes, as Paul said, we're going to go market to market. We're going to go where we want to be. And we'll certainly get these things started, but we'll still be active looking for the other tuck-ins. So if I can switch and use my balance sheet to get in some areas we'd like to be, we'll do that as well. But we certainly will invest and build a de novo machine.

And when you develop those, can you sort of capitalize costs during that ramp up? Or is this basically all going to flow through that P&L?

It's all on OpEx spend.

Believe me, we've tried on this front.

We have not tried.

I've tried. I've tried.

But we didn't have to try. But yes, so listen, it's an OpEx spend. So that's just -- we'll give up. And certainly, where we are from a leverage perspective, we would very much prefer to find some nice tuck-ins in geographies that make sense to us, and where we're strong on home health.

Our next question comes from the line of Joanna Gajuk with Bank of America Merrill Lynch.

I know we're running out of time, so quickly, a couple of follow-ups on the quarter, the metrics here. So obviously, home health since their organic volumes improved nicely, can you -- or did you provide the breakdown in terms of same-store growth, Medicare versus non-Medicare, in the quarter? And also, is there any target you have in mind for the Medicare fee-for-service growth in terms of volumes for the year or maybe the medium term?

Chris, you want to take that?

Sure. So the breakdown of our growth for Q2 is the Medicare was 2% -- 2% Medicare growth. The episodic, which would include also the PPS payers, they pay us on an episodic basis, along with the Medicare was 4.5%. And then our total growth was 5.5%. Our non-episodic admits were 8.6%. And the way we're looking at it, we want to obviously grow the Medicare fee-for-service at a faster pace than the others. That's where our focus is. That's where we have our BD team focused on as well. We've had 4 consecutive quarters of improvement in that number. And we anticipate -- with this strategy moving forward, we would love to get that into the mid-5 to 6, mid-single-digit range and be able to sustain there. So that's what our target is.

And Joanna, just -- this is Scott. Just to add a little bit. From a total volume perspective, we did about 8% for the quarter, so that's important. You saw our recert rate improve 170 basis points year-over-year. So as we look at the business, as we figure out what we need from a staffing perspective, we're really focused on this total volume number, and that's certainly something that's been helpful in driving our performance.

Great. And then on the proposal, the home health proposal, the PDGM. The data implies, right, it's maybe a 1.7% cut for Amedisys. But I guess that assumes some of the behavioral adjustment that CMS put in. So how should we think about some of the things you could do to try to offset the headwind from these changes? I know that, that number includes some assumptions that CMS made, which we don't know exactly what they assume. But nevertheless, when you think about or when you prepare for 2020, how do you plan to go about it? I mean, there's some things around, I guess, staffing levels because, I guess, you're going to -- you'd maybe shift [to] more therapists, more home health aides. But any other things you're trying to consider now given the changes?

Joanna, thank you. I'll just kind of start with the numbers piece. You're kind of right, we're around in that 1.6% range from what CMS has put out. So that's kind of where we're starting from. One thing just I'll remind everyone is we do -- it's mandated to get a 1.5% market basket improvement in 2020, so that's not in that number as well. We're going to let Chris talk about some other items we can work on as we think about '20.

Yes. So in the near term, I think one of the first things we do is look at our referral sources and where our referrals are coming from. Obviously, the intent of the proposed rule is to pay a different rate for patients coming out of institutions. So we're evaluating kind of our institutional referral mix versus our community mix. If there's an opportunity to shift there, then we can do that in the near term, and that will prepare us going into PDGM. And then you hit on the other one. It's going to be really a function of having the capacity and the staff to be able to work in a new environment. It may be a little different mix of clinicians in PDGM versus what we see today. So that's kind of led into our focus around our RN retention. We've got opportunities around RN and LPN utilization. And as you mentioned as well, home health aides may play a key component in the future state under PDGM.

Right. And lastly, if I may, for that reg, I guess, you're working still on your comments to CMS. So what are you focusing on in terms of any changes you will seek from CMS to their proposal? And any big, I guess, surprises or disappointments with this proposal? Because, in general, it looks better. Obviously, I mean, we knew that budget neutrality is the key here, but any other commentary you have that you're working on for CMS?

So let -- I'm going to have Dave respond to you on that, Joanna, but just in general, we feel good about it as long as it sticks to budget neutrality and as long as it's 2020, which it is. So I think with 18 months or 17 months now to prepare for it and based on what we've seen, we've got plenty of time. We still have some negotiating to do potentially to get some better definition. And I think once we do that -- we're talking with obviously CMS and Congress on that.

Yes. Joanna, to add some specifics to that. We'll be talking to -- we'll be commenting on the behavioral adjustments, which you mentioned. We'll want a little more detail around the methodology, how they arrived at these numbers and how they'll track it each year, et cetera. So we'll be commenting on that, as well, I'm sure, everyone else in the industry. We'll want some more color around the community and institutional referrals. We think we know most of that. We'll be commenting on the early and late designation in the 30-day payment periods. We'll be looking at clinical grouping categories and the impact these will have on chronic patients. We'll be asking a few more questions around the LUPA threshold. So there's a lot in there. 600-page rule of payment reform, biggest payment reform and movement in the industry in probably 20 years, so there's a lot to ask about and a lot we want to understand. But again, as Paul said, feel really good about the budget neutrality. Think about a year ago, you had HHGM, you were looking at 4.3% cut along with the behavioral assumptions. This year, you're looking at budget neutrality, again, with some behavioral assumptions. But we're -- and also, as Scott mentioned, we've got the 1.5% market basket update that's mandated for 2020. So we're still in analysis, modeling, trying to understand. You heard from Chris how we'll -- we're early, how we're looking at how we may react to this. But there's a lot to learn, so that's kind of where we'll focus our comments.

Our next question comes from the line of Matthew Gillmor with Robert W. Baird.

Just had one question left. I was hoping to -- if you could provide some insight into how you're going to use that 2.1% rate increase for Medicare in 2019. And will the emphasis sort of be on the wage side and hopefully improving nurse turnover even more and increasing the supply to emphasize the growth? Or does that get reinvested into some of the capabilities Paul mentioned? Or does that drop down and benefit margins? Just wanted to get some insight in terms of how you're thinking about how to use that.

Thanks, Matt. Just from -- the 2.1% that's in the proposed rule, and that's industry-wide, we would expect us to probably, once the rule is final -- just based on our case mix and case mix adjustments, we've historically been slightly under that, so we'd expect that number to be a little tighter. But yes, we're looking, as we go into the budget season, talking about how to reinvest in the organization, from preparing for PDGM to putting things for our employees that we'd like to do to help them out. So yes, we are focused on that. So some of that -- we will certainly spend some of that money, and it's just nice heading into that year from a net positive reimbursement. We're really excited about that and things we can do and focus on. So we'll certainly see what the final rule is. We don't expect much movement, but we'll have plans to utilize that to help us reduce turnover and as well as prepare for PDGM.

Yes. I think a lot of it will go into the prep on PDGM, Matt. And the other one is we're clearly going to do some innovations work. Our hope is we can do that off the balance sheet. We're trying to figure out ways to do that. So -- but we're pretty excited. We think where there's -- when we look at this, we think we'll be well prepared for it, and when there's change, there's always opportunity. So we -- there could -- particularly, if we take some of the -- what we think we're going to generate next year and really start to prep well and lock things down, we think 2020 will be a good year.

We have no further questions at this time. I would now like to turn the floor back over to management for closing comments.

Great. Thank you very much. Thanks to everyone who joined us on our call today. We appreciate your interest in Amedisys. We'd also like to thank again all of the employees who delivered these fantastic results.

We hope everyone has a wonderful day, and look forward to updating you on our progress out on the road and our next quarterly earnings call in October. Take care, everyone.

Ladies and gentlemen, this does conclude today's teleconference. You may disconnect your lines at this time. Thank you for your participation, and have a wonderful day.