Chemed Corp (CHE) 2004 Q4 法說會逐字稿

Welcomoe to the Chemed Corporation's conference call for the full year and fourth quarter of 2004 ended December 31, 2004. My name is Tabitha, and I will be your conference call facilitator today. Please note that today's call is being recorded. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer period. (OPERATOR INSTRUCTIONS)

Before we begin let me remind you that the Safe Harbor provisions of Private Securities Litigation Reform Act of 1995 apply to this conference call. During the course of this call, the Company will make various remarks concerning management's expectations, predictions, finance, and prospects that constitute forward-looking statements. Actual results may differ materially from those predicted by these forward-looking statements as a result of a variety of factors, including those identified in the Company's news release of March 8 and in various other filings with the SEC. You're cautioned that any forward-looking statements reflect management's current view only and that the Company undertakes no obligation to revise or update such statements in the future.

In addition, management may also discuss non-GAAP operating performance results during today's call. Including earnings before interest, taxes, depreciation, and amortization, or EBITDA, and adjusted EBITDA. A reconciliation of these non-GAAP results is provided in the Company's press release dated March 8 which is available on the Company's website.

With that, I would like to now introduce our speakers for today, Kevin McNamara, President and Chief Executive Officer of Chemed Corporation; Dave Williams, Vice President and Chief Financial Officer of Chemed; and Tim O'Toole, Chief Executive Officer of Chemed's VITAS Healthcare Corporation sibsidiary. I will now turn the call over to Mr. McNamara.

Thank you. Good morning everyone. Welcome to Chemed Corporation's fourth-quarter 2004 conference call. I will begin with an overview of the fourth quarter and certain strategic developments. David Williams, Chemed's CFO, will provide financial detail as well as earnings guidance for 2005. Tim O'Toole will follow with specifics on our hospice operation. I will then open up this conference for questions.

Before I go into the quarter, I would like to make a couple of comments on our full-year results. In 2004, we had pro forma consolidated revenue of $808 million, pro forma adjusted EBITDA of $97.9 million, and adjusted pro formua diluted earnings per share of $2.55. Beyond this strong financial performance was the fact that these results were generated in a very difficult period of transition for us. Certainly it was the dedication and diligence of our employees that made this possible.

In the fourth quarter Chemed continued to generate strong fundamental performance. On a consolidated basis our revenue increased to $214 million, our pro forma adjusted EBITDA was $30.2 million, and our adusted pro forma diluted earnings per share was $0.82, exceeding the upper end of our guidance.

The Q4 2004 Roto-Rooter segment sales of $71.7 million was an increase of 5.3% over the prior-year quarter. This growth continues to be generated across all revenue segments in both commercial and residential markets. This revenue growth was leveraged into net income of $5.2 million in the quarter, excluding $1.9 million for the anticipated settlement of the Madison County class action litigation that we previously reported. Adjusted EBITDA was $11.9 million, up 45% from the prior year.

Total job count in the quarter increased 3/10 of 1%. Commercial demand continues to show strength, with job count increasing 3.7% in the quarter. This growth was partially offset by a 1.1% decline in residential job count. For the full year, commercial jobs increased 3.3% and residential demand was relatively flat, with a modest to 2/10 of 1% increase.

By any measure, Roto-Rooter had a good year. Through re-engineering and centralization of administrative function, we have returned Roto-Rooter to its historic levels of profitability. On a go-forward basis, we will continue to focus on growing commercial accounts and expense management, in the field as well as in the areas of selling and general and administrative costs.

VITAS continues to expand its market penetration. Average daily census for the quarter increased 14% to 9,134. Revenue for the quarter totaled $142.3 million; and our adjusted EBITDA was $20.4 million. We completed two acquisitions in 2004, entering the Atlanta market in the third quarter and the Phoenix market in the fourth quarter. Although relatively small in terms of ADC, we anticipate significant organic growth from these programs, as well as the opportunity for efficient development of new starts in surrounding communities.

Looking forward, our expansion strategy for VITAS will continue to be a three-pronged approach. First and foremost will be organic growth within established programs. This will be accomplished from obtaining admissions earlier into a patient's terminal diagnosis, with a measurement call of increasing our median length of stay from the current 12 days. The second area of growth will be in the development of new starts. Although new starts do negatively impact our current earnings we view this portion of our expansion strategy to be the most cost-effective way to penetrate new markets. The third area will be in the form of acquisitions. We will continue to target programs that provide exceptional hospice care in communities that have the opportunity for significant growth. Financial return on investment will also continue to be a key metric that we will take into consideration in (technical difficulty) potential acquisition. Now I would like to turn this teleconference over to David Williams, our Chief Financial Officer.

Thanks, Kevin. Our GAAP financial statements include a number of items that need to be considered when evaluating our operating results. These items include costs related to the registration of Chemed's $110 million floating rate notes; VITAS' merger-related transaction costs and the final valuation adjustments related to that acquisition; direct expensing versus a 12-month amortization program for telephone directory costs; and the anticipated settlement of the Madison County class action litigation. I refer you to our March 8, 2005, press release that details the impact these items had on our operatings results.

Now let's turn to the Roto-Rooter plumbing segment. The fourth quarter of 2004 was our seventh consecutive quarter that showed increased revenue over the equvalent prior-year quarter. Gross profit margin in the quarter excluding depreciation was 48.1%. This is 484 basis points above the prior-year quarter.

Adjusted EBITDA for Roto-Rooter segment totaled 11.9 million for the quarter, an increase of 45% over the prior year. The fourth quarter 2004 adjusted EBITDA margin was 16.7%, resulting in a full-year adjusted EBITDA margin of 15.3%.

VITAS generated revenue of 142.2 million in the fourth quarter of 2004, an increase of 18% over the prior year. Pro forma adjusted EBITDA in Q4 was 24 million, an increase of 49% from the 13.7 million of adjusted pro forma EBITDA generated in the fourth quarter of '03. The 2004 fourth-quarter gross margin was 23.5% for VITAS. This compares to margins of 23.0% in the prior year.

Remember, included in the fourth quarter of 2004 was 1.6 million in operating losses from startups, as compared to 569,000 of startup losses in the prior-year quarter. The increase in losses from the new starts negatively impacted our comparative margins by 72 basis points. Adjusted EBITDA margin in the fourth quarter for VITAS was 14.4%. This compares to the adjusted EBITDA margin of 12.4% in the third quarter of 2004 and 11.4% in the fourth quarter of 2003. Remember, the fourth quarter is typically the strongest margin quarter VITAS has, after receiving the Medicare rate increase on October 1.

Central support expenses, or our selling, general, and administrative expenses, for VITAS continue to reflect a favorable decline over the prior year. These costs in our statement of operations declined 7.8% over the prior year and are up 2.8% from the third quarter of 2004, still below our rate of increase on our revenue.

Average length-of-stay for the quarter was 64.1 days. This compares to the third quarter of 2004 of 60.8 days, and the fourth quarter of 2003 of 59 days. Our median length of stay in the quarter stayed at 12 days. The range of our length of stay in our established programs ranged from a low of 40.5 days to a high of 112.6 days in the fourth quarter of 2004.

Our average revenue per patient day was $169.32 in the quarter, and compares to $164.10 in the third quarter of 2004, and $164.93 in the fourth quarter of 2003. Our Days Sales Outstanding or DSOs in the fourth quarter were 38.1 days. Over the past five quarters our DSOs have ranged from 35.1 days to 38.1 days.

The balance sheet is in great condition. As of December 31, 2004, we had over 71 million in cash and cash equivalents. However, after year-end, effective February 18, 2005, Chemed redeemed 110 million of floating rate notes that have a current interest rate of LIBOR plus 4%. Then on February 24, 2005, we amended and restated Chemed's bank credit facility. Terms of this amended facility increase the aggregate amount of term loan from a balance of $30.5 million to $85 million at a rate of LIBOR plus 2%. The revolving credit was increase from 100 million to 175 million at a current rate of LIBOR plus 2.5%.

The end result of this refinancing was to deleverage our balance sheet by approximately 55 million; reduce future aggregate interest expense; and expand Chemed's access to capital for acquisitions and other corporate purposes.

Looking forward to 2005, we anticipate VITAS to increase revenue in the range of 16 to 18%, with adjusted EBITDA margins increasing modestly from the 2004 levels. This operating margin expansion will be generated from leveraging our central support costs. Program or field based gross margins are anticipated to track at the historical levels. Roto-Rooter is estimated to generate a 5 to 7% increase in revenue in 2005, with operating margins at approximately those generated in 2004.

Debt refinancing that I mentioned earlier will also favorably impact interest expense in 2005, although this will be partially offset by an increase in the LIBOR rate in 2005 over 2004. Based upon these factors, a go-forward effective tax rate of 39.5%, and a current diluted share count of 12.9 million shares, our expectation is that earnings per diluted share for 2005, excludings cost associated the early extinguishment of debt, will be in the range of $3.30 to $3.50 per share. With that I would like to turn this call over to Tim O'Toole, our Chief Executive Officer of VITAS.

Thanks, David. As Kevin mentioned earlier, VITAS had an excellent quarter. Driving these results was our ADC growth in the fourth quarter that was 14% above the prior year. Even more important, our smaller programs are contributing a greater percentage of this organic census growth.

We now have six large programs that we define as programs in excess of 450 patients. The ADC growth in these programs was 12% in the fourth quarter, when compared to the prior year. Our 14 small programs -- that is, ADC less than 200 -- and our 12 medium programs -- ADC between 200 and 450 -- had a combined census growth rate of 17%. Sequentially, large programs were flat with the third quarter of 2004, and the small and medium programs grew at a combined sequential rate of 3.2%.

What this means is that our small and medium programs continue to grow at a faster rate than large programs. We believe this is indicative of long-term sustainable growth. Continuation of our startup programs is critical to ensure this steady development of new markets and organic growth.

We currently have 11 startups, eight of which are licensed, and six are Medicare certified. A program is considered to be a startup from its initial formation through the first 12 months of its Medicare billings. At that point it is transferred to our established program classification.

During the fourth quarter, startups had an ADC of 248 patients with revenues of 3.1 million and operating losses of 1.6 million. In the prior year quarter, startups had an ADC of 107, with revenues of 1.4 million and operating losses of 569,000. The third quarter 2004 had a census of 188 and losses of 1.4 million.

We recently completed the acquisition of a hospice in Phoenix, Arizona. This was a small acquisition with a census of approximately 220 and an excellent marketing focus on the assisted living community. Our goal is to continue to expand this program through increased marketing efforts in the medical community.

We still continue to analyze large stepout acquisitions. These stepouts will establish a platform for VITAS to build off of in terms of organic growth and contiguous startups. As Kevin mentioned earlier, acquisitions are part of our overall expansion strategy. It is expected that these acquisitions will provide significant organic growth within the acquired program, as well as provide opportunities for continuous contiguous development in the surrounding areas.

As of December 31, we have 160 sales representatives, up from 151 in the third quarter of '04, and up from 142 in the second quarter of '04. In addition, we have 98 admissions coordinators. We anticipate building this group on a steady and methodical basis over the next several years. With that I would like to turn this call back over to Kevin McNamara.

Thank you, Tim and David. At this point I would just -- it is appropriate to be peppered with questions. So if anybody has any questions, we will proceed to that portion of the call.

Darren Lehrich.

Just a few questions here. With regard to census growth at VITAS, I guess, Tim, should our expectation for the large programs be for flat ADC growth in '05? If so, can you just talk about what is driving that? And I guess how confident are you that the smaller programs and medium-sized programs that are ramping up nicely here can offset that?

Very good. No, we certainly (technical difficulty) flat we are expecting the growth rate to moderate modestly compared to the industry trends, which we will probably see in the 13, 14% range for the industry. Our rates have been higher. So what we're really saying is in our very large programs we have a very high market penetration. So it is reasonable to think that it will be hard for us to grow above the industry average like we have historically. But exactly what that growth rate would be, it will be much better than flat.

We're talking like high single digits.

Yes. So it will be in good shape. The small and medium programs as far as offsetting that, they are growing rapidly. As we have talked about before in our small and medium programs, in many cases we have small market share, compared to the potential we expect to have over time. We just continue to drive the growth in the programs that are small and medium by increasing the sales effort, hiring the appropriate caregivers, and doing local marketing efforts. We expect that to continue.

The good news obviously is that through out new startup program we will continue to see the base business with new smaller programs that we can grow rapidly. So the phenomena of the largest programs is just a matter of size, but we are expecting good growth in them as well.

Great. Then, you clearly have made an impact in growing your length of stay. I am just wondering if you can give us a feel for how that growth breaks down in terms of changing your mix, versus just simply driving the referral quicker at the front end. I guess the question at this point is how much more leverage do you think you have in extending length of stay from here, before certainly you need to consider cap in any of your markets? Or just in general, how much higher do you think it can go before we have to start thinking about that?

I think if you look over a several year period, it is pretty clear that some of the length of stay increases have been a mix in the type of patients that we take on. Everybody in the industry has grown nicely in the area of the dementia patient, the Alzheimer's patient, if you look back over the last several years. Some of those patients are longer length of stay patients. That has had something to do with our length of stay increasing. We do not necessarily see that mix of patients increasing further than here.

So the length of stay ew clearly expect to continue to increase based on the idea that many of the patients are hospice appropriate prior to the time that we have the admission. We are continuing to basically try to educate the referral source and the public about hospice in general so they will seek hospice sooner.

We know all information indicates that hospice appropriateness is sooner than we pick people up now. We can go in there and show our referring physicians and referral sources the good results we have had with hospice. As an example, in assisted living area we are able to show that when hospice is brought into the equation many of those residents are able to stay in the facility longer, which is their choice and their desire. So those type of things will continue to stay.

We know that, through some studies that we have done in the marketplace, that still the hospice benefit is not understood totally. We know that many of the referrals still do not understand that noncancer patients are appropriate for hospice. We know also that many of the areas of this country that are underserved, such as the inner city markets, there's many individuals there that don't understand the hospice benefit, the fact that it's a no-cost benefit to them, for example.

So we think there's many, many more opportunities to not only grow the market for hospice but also to increase the length of stay. So we would expect those trends to continue, but not as a result of the mix of patients; more as a result of the education that hospice is appropriate sooner than later for many patients.

This is Kevin McNamara. Let me just say if you follow us as we report on a program basis, length of stay, certainly our averages are very closely -- track pretty closely to the national averages. We have programs that again, when you have a median length of stay of 12 days, you have some movement with regard to any one particular group you have during one of the government measuring years.

To answer your first question, should we start, when do we start, when will we have a program or two that -- well, we're watching it very closely. We watch that now. We think we're in good shape on all of them, but we think there is a real advantage.

To give you an example, our Phoenix acquisition, I think we got a real good price on that acquisition because I think the owner was wise in looking forward and saying that, given the mix of his patient base, he was going to be looking at a Medicare cap problem in the not too distant future if he didn't really change his marketing methods and his mix of patients. Wasn't sure he was able to do that. That is really our stock in trade.

So some of what you are describing, we will intentionally take on some of those issues in some of those acquisitions, because we believe that, given our business model and some of our skills, that we will be able to confront that issue. But believe me, it is something -- again, if we have 34 programs, to the extent that we have -- that our 34th and 33rd, our list of length of stay, we're watching that very carefully. But again it seems to be very well in hand at this point.

Sure. If I could just slip one more in here, I will get back in the queue. I know it may still seem a little premature, but with Roto-Rooter at an EBITDA run rate of just about 48 million, does that accelerate your plan to sell the business? Can you just give us some indication of how proceeds might be deployed in such a scenario?

Then Dave, can you just comment if there any franchisee buy-ups this quarter or year-to-date in '05? Thanks, and good job, guys.

Let me just go on the Roto-Rooter issue. I think we are on the same timing, which was that we are not -- it is nothing that we're looking at imminently. It is a mid to long-term possibility. I would say that things are proceeding nicely there. But again it hasn't changed our schedule. It is not on the front burner, as it were. It is still what I like to describe as just what the doctor ordered for us.

We took on a fair amount of debt (technical difficulty) purchase. We're a pretty conservative company. The cash flow from it, from Roto-Rooter, is more than sufficient to pay all of our debt service, and there's 17 million or so for deployment in VITAS. I would just say that, to the extent that something that would much more -- rather than gradual increases in EBITDA at Roto-Rooter, the thing that would be much more significant in our thinking would be a real window of opportunity within the hospice side.

I will just give you an example of one that we have talked about internally. To the extent that the Medicare cap stays where it is, we anticipate there is going to be some real buying opportunities out there. Because somebody has asked me, well, what would be the best thing that could happen to this industry? I would say, well, that a lot of the very well run reasonably successful large not-for-profits decide that the for-profit side of the business is a great alternative for their patients; and they would be better off selling and using the proceeds for some other charitable purpose that is maybe not so well served by the private market.

You say, well, that would be great for you; what would ever cause that to happen? I think some of the issues about increasing length of stay in the industry and the interplay in the cap. To the extent that we have the opportunities to make large acquisitions of those types, that would speed up our thinking with regard to Roto-Rooter. But for right now, we just continue to grow EBITDA. It gives us a little safety factor. It helps our rating with regard to debt rating.

Again, just to answer your question, nothing has happened this quarter or really the short-term forseeable future to change that plan. Dave, you want to answer the second part of that question?

What I would add is I would be cautious about annualizing the fourth quarter EBITDA for Roto-Rooter, just sort of taking it times 4. Only because there is seasonality in the numbers. Fourth quarter is always our strongest quarter. Usually then Q1 is our second strongest quarter. So I would be a little cautious on that. Again one of the adjusted items we did do though is adjusted or kind of annualize out the telephone directory cost. So I think 48 million might be a little robust to just annualize that at out.

Relative to specific Roto-Rooter franchisees, we're always willing to talk to them. But we are going to value them on a financial model with a modest premium, to take us as a buyer slightly above what a financial buyer would do it at. We're not going to put a premium to get a franchisee to sell it today versus tomorrow. At this point we don't really anticipate any franchisees are on the horizon that we are going to be (multiple speakers).

No major ones. We do anticipate several smaller ones will be in our independent contractor program, which again that's real good return on capital for us; and there are a couple ones there that by definition are on the smaller side. So I expect to see some activity there. But from our end, there would be nothing that is directed from our end that would be a major development in that regard.

Okay, thanks a lot.

Jim Barrett, C. L. King & Associates.

Tim, I have a question for you. Is 11 startups a comfortable number, given your management staff, your need to staff up these startups? Or will that number vary a lot over time?

No, we are very comfortable with the 11 that we have, Jim. I think if you look into the future you will see that number increasing. As you can (technical difficulty) earlier, it it takes us about a year from when the Medicare billing starts that we feel they need to be under the guise of the new start program, before we transfer them.

We basically have an orderly plan. We expect a few of this number of 11 to be transferred out to the base operations during the year. We already have plans in place for numerous new starts during the year. So I think over time you will see the numbers go higher. That doesn't mean that in any one quarter it would not be maybe one less than where we were at the quarter before; but it is clearly a situation we can do more.

We have built a very healthy and a good team of people in the last year, accelerated the growth in the start-up area. I am very comfortable that we have added the support staff that we need to provide the startup activities in the marketplace as well as the seasoning of the business over its first year to transfer it into our base business.

So I am very comfortable that we have the horsepower to do it. We're looking to add more people in the start up area because it is growing and it has been very successful. So we are very encouraged and you will see us, I think, accelerate that.

This is Kevin McNamara. One way of thinking about it is you have to merge concepts. We have acted, (ph) especially in the middle size to small range of acquisitions. It is the same people that would be involved very early on in both the new starts and those relatively small acquisitions. So the same general type of them, not necessarily all of the field staff. But to the extent that one heats up, the other one would -- the emphasis would be reduced a little bit. So merge those two concepts in your mind for your planning purposes.

Kevin, in your '05 plan for plumbing, how much pricing do you expect to get this year in plumbing? Have you announced anything yet?

No. We have not announced anything, but again we are looking for on the total revenue side to be in the high single digits on a combination of job growth and pricing. So we hope to run a little -- obviously do a little better now on the net income side. But that should give you some indication that we look at the Roto-Rooter business has returned to its historic levels of profitability.

It's a business that is a good stable business, and again, just based on our previous comments, we're talking about same store growth. For this year we would be happy with that. The look (ph) we have done here for this year, certainly last year and continues in this year is good expense management. Hopefully we will keep that margin in a lofty position, relatively lofty for that industry and (technical difficulty) results that Dave has kind of incorporated into his guidance.

Thank you very much.

Matthew Ripperger from Smith Barney.

I have just got a couple of questions here. First of all, Tim, I was wondering if you could comment on just the broader competitive landscape in the hospice area. There has been some comments by peers that they have seen a noticeable change in that area. I want to see anecdotally in your markets if you could comment on whether you are seeing any kind of new significant capacity entering the market and whether that is changing the underlying competitive dynamic that you have observed?

I think the answer to the question from our perspective is we have not seen a dramatic change in the marketplace. It is very competitive. If you look over the history of the hospice business, at least my involvement for the last 10 or so years, there has always been these trends of small players starting up. Sometimes they are individuals that maybe leave another company, and they have a close contact with a referral source and they can start a small company.

Also we have seen over a long period of time, from time to time, different interests of associated companies like whether it be a nursing home business or today whether it be a hospital that is maybe trying to run a palliative care program.

So there is no heightened competitive environment, in my opinion. I think it is similar to what we have seen. It is a very competitive marketplace. But I think what that allows us to do, again, is to be the leader. We have the leading brand. We have the leading service model. We do things that many of the small companies can't. So we're not concerned about that, and we do not see the landscape changing.

Great, thanks very much. The second question I had is, I know from an acquisition standpoint you have got a pretty disciplined way of identifying key markets where the demographic trends meet your profile. But related to the three deals that you have done, I wanted to see, first of all, did they meet your profile? I would assume they did.

Then secondly, were these competitive bids that were auctioned off? Or did you proactively approach them in these markets to do these deals?

Sure. First of all, as far as what we look at for acquisitions, we mentioned we are a financial buyer and they have to make sense from that perspective. But also we are looking at attractive markets. So we study markets that we believe are at least somewhat underserved. In other words, we know statistics about the number of hospice-appropriate deaths that are out there; and we know statistics about how many are served by hospice in that area.

So certainly if we see that the market is underpenetrated by hospice companies, that makes it a more attractive opportunity for growth. So we clearly start there, whether it be an acquisition or a new start opportunity to see the opportunity.

When we look at the three deals that we have done, the Atlanta deal, the Phoenix deal, and the Pittsburgh deal, I would say that they were definitely all competitive. There were other players in the discussion. I would not suggest that they were auctioned because people were concerned about who they sell to. I think that VITAS image, its history, its acknowledgment of the work it does in the communities that it operates, puts us in a very strong position. That does not mean that there are not (technical difficulty) strong hospice companies that they are talking to. There are.

So the answer to your question is, there's no secrets out there. And again, as we are looking mainly for more of the medium to larger size opportunities, they are usually fully discussed, fully engaged. So we have to be a smart buyer, but we have to talk to them about issues other than money, and talk to them about how we're going to treat their employees, their patients, and how we're going to be perceived in the community. Most sellers are very concerned about that.

So we think today that we are the hospice company of choice. That is what it appears to us, and we're working very hard to keep that reputation.

The only thing I would add to that is Atlanta was a unique case. Both Pittsburgh and Phoenix fundamentally it was financially-driven model as well as a market-driven model. Atlanta we really viewed as an accelerated startup. We picked up a hospice team. We picked up licensure in a small patient base and some established referrals. But that one did fall outside of a financial model.

The one thing I would also say when you are talking about competition, what we view as a good market, it's not -- I can give you an example. Atlanta, obviously, there is other well-run hospice companies in Atlanta. But one of the things that we look at and see is to the extent that where we have a good shot at fair competition of comparable type companies, that is attractive.

In other words, if we look at a -- I mean Phoenix is one where -- classic example of very strong not-for-profit that exists in large not-for-profit in Phoenix. Other companies out there. We looked at that opportunity and said, you know, the Phoenix operation with its census levels good enough, so it had critical mass to start with. We've got a tough battle with on the not -- dealing with our real competition in that arena, which is the well-run not-for-profits. But there is one that we probably would not have gone in with a real small entry, because it would be difficult to gain traction against a well-run large not-for-profit hospice under those circumstances.

So depending on the market, we look at different sizes that we would be interested in acquiring. Atlanta, more diffuse market, we went with a small one; that is just really a running start of a startup. Pittsburgh we looked at a situation where a lot of hospice -- I think there are 33 hospice companies in Pittsburgh. Not dominated by one beloved not-for-profit.

So the different markets present different challenges. But again to the extent that we believe we can go in with our business model and attract the census just by giving good service, that is a winning strategy in most situations.

Great, thanks very much. One last (technical difficulty) I know a lot has been made about your sort of proprietary IT systems and the investment you have made historically in them. Recently there have been some more vendor options, off-the-shelf options related to IT systems. I wanted to see, Tim, if you could take a second and sort of qualitatively compare and contrast sort of the investment that you have made in your systems; what you view as competitively advantaged or disadvantaged versus sort of off-the-shelf products.

If the off-the-shelf products have improved to a point where they're comparable, are you worried about this aspect of your competitive advantage being eroded going forward?

No. Very good. That is a good question. No, we still believe that the VITAS proprietary systems are superior to anything out in the marketplace. Our systems have been developed over the last 15 to 20 years. The beauty of the VITAS system is they made a very decision very early on (technical difficulty) centric. By that I mean all the data is starting around the patient and the care that that patient receives; and that is the centerpoint of the way the Company thinks.

All of the attendant data that focuses off of that is available in reports that are used basically by the management team in the field and the oversight at the corporate level to help run the Company on a real-time basis. When I say run the Company I mean to get information.

At the field level they have a lot of real-time data about the patient, and they have a lot of data that is in one repository. So for example we have the history of the patient there, the visits, we have the pharmacy, we have the plan of care, and we have all those things in one place.

What VITAS is doing right now is extending its proprietary technology in several ways. One is simply to upgrade the face of the system to a more modern Windows-based. That is proceeding very well. The other is to add an electronic patient record, which we have talked about before, to the system.

Again the unique part about our system is that that drives off of the same database as all of the other systems. So it is very tied in. It can therefore allow us to rapidly transfer data. For example, if a call was made by the family overnight to our national telecall center, that data is immediately now available in the electronic patient record once it is synched by the caregiver out in the field.

So these are the kind of things we still do not see available out there in the world today. Our systems incorporate both. That allows them the building to be done on a very efficient manner; the payroll to be done on a very efficient manner. At the same time we have incorporated some external product into our systems, if you look over the last two or three years. We have decided not to try to build everything if there is in external product. So as an example we used PeopleSoft for the HR function. We also have leveraged off of the company salesforce.com for our customer relations management software piece.

So what we're doing is leveraging off of off-the-shelf stuff where we don't have a proprietary advantage, but to keep the proprietary advantage of our patient-centric historical system. So we feel very good about it.

The electronic patient record that I have talked about, the process that we (technical difficulty) about a year ago, we now have it in about 10% of our locations. We are extending that through this year; and next year we hope to have it completely rolled out in our Company. We are spending about $1.5 million that we are expensing annually just for the teams of people that it takes to roll out that electronic record, train them, keep developing that when they live with them for a few months, to get it in place. So we expect that will go very well.

Again our internal cost of our systems is about $10 million on our balance sheet. We expect that to grow to no more than $15 million over time. We think the amortization of that probably is a seven-year track. We think when you add up all those costs we have a very cost-effective program and truly proprietary.

When you look at our corporate area, corporate services, about a third of our corporate structure is to support the IT effort; and that is for both the ongoing maintenance as well as the development area, and that is expensed. The balance of our corporate is for finance and operational support. So probably more than you wanted to know, but we feel very good about our systems. Certainly the third-party stuff out there has gotten better over last several years; but mainly it is home health stuff that has been modified to hospice. We think we have got better systems internally than anything we have seen just to finalize the point.

Matt, this is Kevin McNamara. I will say this. To the extent that if we were starting today from scratch, I can just tell you we would probably start with the off-the-shelf systems and try to live with them, or modify them a little bit. So I am with any company on that one. Again we have spent untold millions on it over the last 14 years, and to the extent that we think that it continues to give us some advantage. But again around the edges, we are not afraid of incorporating an off-the-shelf system.

Great, thanks very much. Appreciate the detail.

Eric Gommel with Legg Mason.

If you could just expand a little bit on the acquisition? In particular you talk about large stepout acquisitions. What would you characterize as a large stepout acquisition? What is the environment for that type of acquisition look like? Are there reasonable targets out there? What would you expect the valuations on those to be?

Let me just say first of all, there is no right answer to the question of what is large. So if I tried to indicate that there is some bright line (indiscernible) it is probably not easy to answer. Clearly there are smaller programs. You know you need to be up to around, depending on the market, anything under a 50 census is a small program that is in the startup phase, probably needing to be invested further to get going. You get up to around 100 census, you are profitable. But if you going to keep taking marketshare you're going to want to invest more into the company.

So I guess what we see is probably when you get up to 150 or 200 census or higher, you have got a stable profit stream that you can grow the profits as well as grow the top line with some investments in it. So that would be a large acquisition in a given market.

I think the other thing we're also seeing out there is that in the last several years there have been companies that have grown from one location to multiple locations, maybe kind of a regional play. So there are numerous companies out there that are 500 or higher census, between 500 and 1,000 let's say; that would be multiple locations, multiple regions, and we're in discussions with numerous of those.

So I guess if one of those were to hit for us, that would be a large one. So it would be a regional play would maybe be a 500 to -- between 500 and 1,000 census. There's not a lot of those, but the ones that are out there we're aware of, and we are generally there if they want to talk.

We're talking about acquisition prices in -- 20 to 40 million type of number. As I say, there are a number of acquisition candidates that those are the kind of numbers that are being bandied about, with regard to which, when you are talking about multiples, it varies. You see profitable hospices out there, and you see relatively small ADC, and you see ones with larger ones ADCs that are not making very much, so it looks like you are paying a high multiple of earnings, other ones it is a high multiple ADC.

But there's acquisition of size that are out there, that are, quote, on the block, unquote, that we're talking to. At this point it is rare that you will get a hospice out there of that size that they are not going to want to talk with the acquisition department of VITAS.

Just to summarize a little bit what is exciting to us is that we have all these opportunities for growth. We have an industry that is growing rapidly. We have a base business in our company that is growing rapidly because of all of the reasons we have talked about. We have new start programs that we have great opportunities in. We have small acquisitions and large ones.

So depending upon your various strategy in any given market or where we are at in a point in time, the great news for us is we have all those opportunities. We try to study all of them and move on all of them at a rational pace.

Great. You may have touched on this, but the current run rate for startup loss is I think 1.6 million. Is that a good base rate? Or should we expect that to increase in 2005?

That is a good base rate. It is trending upwards, but I would not expect that to be exceeded in the near term, for example. We are running about, as we have told you, we are running about 500,000 a month of investment there. We do not expect that to go higher.

(indiscernible) double or anything.

No, no. It can be up or down a little bit month to month or quarter to quarter, but that is the pacing of it. Some of them are doing very well, so they are basically becoming profitable. Until they transfer to the base, after a year of billing, those profits are in there too. So we've got a couple of them, frankly, that are going so well that we are going to have some income streams within those 11.

(inaudible) expand on that. So when we transfer those in to established programs you may see a spike in the losses, only because we removed the profitable, graduated startup. But we still expect it average around 1.5, 1.6 million per quarter.

Great. Just one quick follow-up on the gross margins. Can you just discussed seasonality of your margins? I think you said 4Q '04 is typically the highest gross margin. Where does it go from there typically?

Typically it is going to drop in the first quarter of '05, primarily because of the unemployment tax impact for VITAS as well as for Roto-Rooter; and that is usually a one quarter event. What we're really doing is, remember, we receive our price increase from Medicare on October 1; and then we have inflation factors hitting our cost of sales and our central support costs; and really we expand our ADC and our top-line revenue to overcome that.

So high watermark in a year is usually the fourth quarter; dips in the first quarter; and we climb back out of that and then again typically hit another high watermark the following fourth quarter.

Thank you.

Kemp Dolliver, SG Cowen & Co.

First question relates to the VITAS guidance for 2005. The revenue growth of 16 to 18%, I assume that that includes the acquisitions you have done recently in Pittsburgh and Phoenix.

Yes, it does. And to put it in perspective that is probably about 1% of the revenue growth, if you just look at what they would be this year compared to the prior year. So, yes, it does.

It is not a major impact, Kemp. As well as the fact, for example on Pittsburgh, we intend to ramp up the sales and marketing effort and make investment in some feet on the street, which in a way we're kind of spending the acquired growth that we immediately get, by taking the acquisition in for further expansion. But regardless it is going to have a very small impact on our immediate profitability.

Super. Your corporate G&A on a segment basis is about $10 million. Good annual expense base, or should that deviate some this year?

That is a good number.

Okay. Depreciation was up sequentially pretty noticeably, versus the earlier quarters. What is your thinking regarding a depreciation expense in '05?

Some of the fluctuation was primarily between classification between depreciation and amortization relative to actually some software licensing. I think the number on a go-forward basis between (technical difficulty) would be about $5 million per quarter.

Okay, that is super. Thank you.

Mark Tayflin (ph), Lazard.

It's Mark (indiscernible) from Lazard. Guys, congratulations on a great year. I just had a couple of really housekeeping questions. What was the capital expenditures for VITAS and Roto-Rooter this past year. Maybe you mentioned it before; I had to jump off for a second. Any forecast of CapEx for this year. And what your actual cash taxes were in '04 and what you think the cash taxes would be in '05?

One, the capital expenditures for the year are a little over $18 million, and that is what I would call on a GAAP basis, sort of with the first two months of VITAS not being in our results. We expect on a go-forward basis for our tax rate, if that if your question, Mark?

No, actual cash taxes paid. Well, I guess tax rate (technical difficulty) deferrals, what do you think your actual cash out the door might be?

On a go-forward basis our tax rate is going to be about 39.5% on a go-forward basis; and we're going to get about a $15 million tax benefit in '05 in cash flow from the divestiture of Service America. So basically you can assume the 39.5% (technical difficulty) less the $15 million.

What were your cash taxes in '04?

Approximately $3 million.

Okay. So you guys have been generating a lot of cash, obviously, and it looks like you are generating a lot more cash as well. Any thoughts about, other than we have already talked of acquisitions; any thoughts of retiring debt, equity, things of that nature, or a dividend, or something along those lines?

I would add couple points. One of course, we -- first of all our business model is such that, in general, our cash flow per share is going to match our EPS. That is because nothing really gets caught in our balance sheet, because we are predominantly a service company; and our capital expenditures are going to roughly equal our depreciation and amortization. So that kind of averages out.

We did deploy $55 million just in February by deleveraging our balance sheet. On a go-forward basis it would be our hope that our cash flow is going to be redeployed to acquisitions. That is really are plan for future cash flow.

Thanks very much and, again, congratulations and hope you continue the good work.

Gene Fox with Cardinal Capital Management.

My questions have been answered, thank you.

Very well. Just want to thank everybody for listening to us, and hopefully we have answered your questions. We are well into the first quarter at this point, given the time frame and getting out your year-end results. But things look good and we hope to talk to you probably now in just about (technical difficulty) from now with more good results. Thank you.

This concludes today's Chemed conference call. You may now disconnect.