Chemed Corp (CHE) 2014 Q4 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Fourth Quarter 2014 Chemed Corporation Earnings Conference Call. My name is Derek and I'll be your operator for today.

(Operator Instructions)

As a reminder, this conference is being recorded for replay purposes. I would now like to turn the conference over to Ms. Sherri Warner, Chemed Investor Relations. Please proceed.

Good morning. Our conference call this morning will review the financial results for the fourth quarter of 2014 ended December 31, 2014. Before we begin, let me remind you that the Safe Harbor provisions of the 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, plans, and prospects that constitute forward-looking statements.

Actual results may differ materially from those projected by these forward-looking statements, as a result of a variety of factors, including those identified in the Company's news release of February 17 and in various other filings with the SEC. You are 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 February 17, which is available on the Company's website at Chemed.com.

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

Thank you, Sherri. Good morning. Welcome to Chemed Corporation's Fourth Quarter 2014 Conference Call. Chemed's fourth quarter 2014 operating results were very solid in both operating segments. Let's first start with VITAS. As we have discussed over the past year, certain admission coding changes, initiated by the Centers for Medicare and Medicaid Services, severely disrupted admissions patterns over the past several quarters.

I reported to you last quarter that we believed we had resolved these issues and that our operating metrics improved in the third quarter and this would continue into the fourth quarter of 2014. This was the case and I'm pleased to report that the two key operating metrics, admissions and average daily census, grew nicely in the quarter. During the fourth quarter of 2014, VITAS generated a 5.6% increase in admissions.

Our aggregate admissions increased 6.6% in the second half of 2014. This is a significant turnaround when compared to the first six months of 2014, which had a 2.1% decline in admissions. Average daily census experienced a similar pattern, with ADC increasing 4.6% in the fourth quarter of 2014 and averaged 3.7% for the second half of 2014. This compares to ADC declining 0.9 percentage point in the first half of 2014 when compared with the prior year period.

Based upon this improvement in the second half 2014, VITAS is well-positioned in the coming year. Now let's turn to our Roto-Rooter business segment. During the fourth quarter of 2014, Roto-Rooter's plumbing and drain cleaning business generated sales of $105 million; a 13.7% increase over the prior year. This sales increase translated into $21.1 million of adjusted EBITDA, an increase of 14.5%, and equated to an adjusted EBITDA margin of 20.1%.

2014 was a record year for our Roto-Rooter business, expanding full year revenue 6.5% to $392 million, gross profit increased 5.9% to $183 million, and our adjusted EBITDA expanded to a record $75.1 million. We are optimistic that 2015 has the potential to be a record year in revenue and profitability. Now let's discuss Chemed's use of capital.

VITAS is keenly focused on providing the best possible care and responsiveness to our patients and their families. Roto-Rooter is equally focused on providing our customers quick, dependable service to resolve all their plumbing and drain cleaning issues. Being in these two service sectors, field based labor and related fringe expenses are by far and away our most significant costs. Capital expenditures typically are not a significant portion of our uses of cash, averaging roughly 2% of revenue.

As a result, these labor-intensive business models generate fairly predictable free cash flow in the range of 7% to 8% of revenue. Given Chemed's strong cash flow, we are continually evaluating the best use for capital to maximize returns and long-term shareholder value with an appropriate level of risk. Acquisitions are always a consideration when evaluating effective use of cash. Historically, this has been an excellent source of growth and profitability for Chemed.

In our current high valuation environment, potential synergies are going to the seller and the timeframe to recover the cost of capital is as long as 20 years and this is before any consideration is given to integration and operating risks of these acquisitions. Given these economics, it should be no surprise that we concluded acquisitions currently are high risk, low return, and not a viable growth strategy for us.

Absent reasonable valuation of acquisitions, we have determined share repurchase and dividends are the best use of cash to maximize long-term shareholder value. To put this into context, since May of 2007, Chemed has repurchased 11.6 million shares of Chemed stock, aggregating $707 million at an average share cost of $61.13. In addition, during this period, Chemed has consistently raised its dividend, distributing over $85 million in dividends.

Combined, share repurchases and dividends totaled just under $800 million over the past eight years, which is almost exactly the free cash flow generated over this period. With that, I would like to turn the teleconference over to David Williams, our Chief Financial Officer.

Thank you, Kevin. Net revenue for VITAS was $274 million in the fourth quarter of 2014, which is an increase of $18.2 million or 7.1% when compared to our prior-year period. The revenue increase is comprised of an average Medicare reimbursement rate increase of approximately 1.4%, a 4.6% increase in average daily census, and a favorable comparison relative to the Medicare cap billing limitation.

In the fourth quarter of 2014, VITAS reversed $500,000 in estimated Medicare cap billing limitations. This compares to $3.8 million of Medicare cap billing limitations recorded in the fourth quarter of 2013. At December 31, 2014, VITAS had 35 Medicare provider numbers with one provider number having an estimated 2015 Medicare cap billing limitation. The fourth quarter of 2014 gross margin, excluding the impact of Medicare cap, was 24.3%, which is a 12 basis point decline when compared to the fourth quarter of 2013.

Our routine home care direct gross margin was 54.9% in the quarter, an increase of 110 basis points when compared to the prior-year period. Direct inpatient margins in the quarter were 7.2%, which compares to 5% in the prior year. Occupancy of our 34 inpatient units averaged 74.7% in the quarter and compares to 71.2% occupancy in the fourth quarter of 2013.

Continuous care had a direct gross margin of 18.2%, an increase of 210 basis points when compared to the prior-year quarter. Average hours billed for a day of continuous care was 18.6 hours in the quarter, a slight decrease when compared to the average billing hours in the fourth quarter of 2013. Now let's discuss Roto-Rooter. Roto-Rooter's plumbing and drain cleaning business generated sales of $105 million for the fourth quarter of 2014, an increase of $12.6 million or 13.7% over the prior-year quarter.

Roto-Rooter utilizes a universal calendar of four 13- week quarters equating to a 52-week full year reporting period, then it accrues for an additional one or two days of operating results in the fourth quarter to equate to a full 365 or 366 day year. In the fourth quarter of 2014, Roto-Rooter had 14 weeks of operating activity during the quarter. Roto-Rooter's revenue increased 10.7% when you exclude the impact from the net result of the universal calendar true-up.

Roto-Rooter's gross margin in the quarter was 46.7%, a 59 basis point decline when compared to the fourth quarter of 2013. Adjusted EBITDA in the fourth quarter totaled $21.1 million, an increase of 14.5%. Adjusted EBITDA increased 9.8% if you exclude the impact of the universal calendar I noted earlier. The adjusted EBITDA margin was 20.1% in the quarter, 15 basis points higher than the prior year.

On a unit per unit basis, Roto-Rooter's commercial drain cleaning revenue increased 14.5% and commercial plumbing and excavation increased 10.5%. The other commercial category, which is approximately $2 million, increased $1.3 million over the prior year. Overall, commercial revenue increased 16.9%. Residential plumbing and excavation revenue increased 9.7% and residential drain cleaning increased 8.4%.

The other residential category, which generated approximately $7 million in revenue in the fourth quarter of 2014, increased $6.1 million over the prior-year period. Overall, unit per unit residential sales increased 21%. The expansion in the other category for both commercial and residential is due primarily to revenue from additional service work related to the removal of water and water soaked materials after flooding and sewer backup.

We refer to this as water restoration. For Chemed, our 2015 earning guidance is as follows. Full year 2015 revenue growth for VITAS, prior to Medicare cap, is estimated to be in the range of 3% to 4%. Admissions in 2015 are estimated to increase 4% and full-year adjusted EBITDA margin prior to Medicare cap is estimated to be 14% to 15%. Medicare cap billing limitations for calendar year 2015 are estimated to be $5.5 million.

Roto-Rooter is forecasted to achieve full year 2015 revenue growth of 3% to 4%. This revenue estimate is based upon increased job pricing of approximately 1%. Adjusted EBITDA margins for 2015 is estimated in the range of 19% to 20%. Based upon these metrics, Management estimates that full year 2015 adjusted earnings per diluted share, which excludes non-cash expense for stock options, cost-related litigation, and other discrete items, will be in the range of $6.50 to $6.70.

This compares to Chemed's 2014 reported adjusted earnings per diluted share of $6.07. I will now turn this call over to Tim O'Toole, our Chief Executive Officer of VITAS.

Thanks, David. As Kevin discussed earlier, the hospice industry's admissions pattern had been severely disrupted over the past year for patients who traditionally would have been admitted with a principal hospice diagnosis of debility or failure to thrive. As of October 1, 2014, we have completely eliminated the utilization of debility and failure to thrive as primary diagnosis codes.

Patients, who in the past would have been admitted with a primary condition of debility or failure to thrive, are now being admitted utilizing a primary code which, in our physician's judgment, represents the single most significant condition that contributes to a terminal prognosis. In some instances, our physicians need to factor in additional conditions of the patient beyond the primary disease in reaching a terminal prognosis.

In these cases, subcoding is provided for these underlying conditions. During the fourth quarter of 2014, admissions from hospital referrals, which represent over 50% of the source of our admissions, increased 8.3%. Home based referrals rose 1%, nursing home admissions increased 5.9%, and assisted living facilities increased 1.1%. Our per patient per day pharmaceutical cost averaged $6.90 in the quarter, which is 8.5% favorable to the prior year.

Medical equipment per patient per day cost in the quarter totaled $6.41, which is equal to the prior year period. VITAS' average length of stay in the quarter was 82.7 days, which compares to 82.6 days in the prior year quarter and 83.7 days in the third quarter of 2014. Average length of stay is calculated using total discharges during the period. Median length of stay was 15 days in the quarter.

Median length of stay is a key indicator of our penetration into the high acuity sector of the market. Our days of care totaled 1,365,139 days in the quarter, an increase of 4.6%. Non-nursing home routine home care days increased 4.8% in the quarter and nursing home routine home care increased 4.6%. At December 31, 2014, we had one program classified as a startup and this program is admitting patients.

This new startup is Medicare-certified and is billing under an existing provider number. With that, I'll turn the call back over to Kevin.

Thank you, Tim. I will now open the teleconference to questions.

(Operator Instructions)

First question will be coming from the line of Darren Lehrich, Deutsche Bank.

Thanks. Good morning, everybody. Just a few questions I had, first, just in terms of the Roto-Rooter revenue guidance and the outlook for 2015 of 3% to 4%, I understand you've got the extra week in the 2014 numbers. I guess I just was curious to get your thoughts on whether you think the 3% to 4% in the context of some of the other services you've talked about and a little bit of a bigger recovery economically is the right framework for 2015?

The universal calendar -- remember, we were accruing for revenue as well in prior years, building up to when you actually leave the books open for that extra week in the fourth quarter. So it impacted it, but the numbers I reported just a few minutes ago factor that out. So it's not going to be a significant impact on a comparable basis full year.

I think the bigger question is does that sound conservative, given our growth of the other and water restoration?

I understand. I would say there's no noticeable results that's going to happen from the universal calendar impact. We are being conservative relative to our overall revenue growth and that's primarily because we want to see if there's a continuation of revenue growth due to the water restoration. We've done very well. We've penetrated the market.

There's a lot of self-referring that happens when we come out to do drain cleaning work where we do the water restoration. But it's, right now, very difficult for us to gauge. We're very optimistic that there's some upside, but we remain conservative until we have really a couple years of track record in water restoration, until we see how sustainable and how much growth we can generate.

Okay.

The other point is, it also has a slightly lower margin than our typical business, which is why you're seeing a slight decline in our EBITDA margins, say in the fourth quarter, than we typically would have had.

Okay. That's helpful. Just to confirm, Dave, you gave us the numbers but that new service offering added roughly 2 percentage points to your 2014 revenue growth? Is that the right way to size it?

I haven't done the raw math on that, but I think the contribution in the quarter, incrementally, was about $4 million to $5 million. So $4 million to $5 million in the quarter.

Okay.

Incremental.

Got it. Okay. So it's probably even a little higher than that. On the CapEx side of things, obviously the investment has moved up a little bit. Can you just frame for us your CapEx outlook for 2015? It's been running more like 3% of revenue in the last few quarters versus I guess we were more in the kind of 2%, 2.5% range for some time. So should we be thinking more 3% and is most of the incremental spend in these new areas that you're talking about?

Yes, great question. So over the last several years, our depreciation and amortization has averaged between, say, $27 million and $30 million and typically our CapEx has been averaging between $27 million and $30 million. Last year, 2013 and 2014, we deviated. In 2014, I think we ended up in the low $40 millions, about $42 million of CapEx.

We're about $12 million higher than you would have expected and that is almost exclusively due to increased investments in water restoration for Roto-Rooter and a little bit increase in VITAS, but only a couple million dollars relative to durable medical equipment. We don't expect that to be as high in 2015. We think we're going to be more like low $30 millions, say $32 million, $33 million and then we expect to get back on track where depreciation and amortization and CapEx are more closely aligned.

Okay. That's real helpful. Last thing from me here, I'll jump back in the queue, we've seen about $2 million of annual expense in your supplementals in just the investigation expense, which I guess has sort of been level throughout the last 12 months each quarter. Can you just give us an update on the level of activity that you're seeing and any kind of updated thoughts on where -- what you think the status is of that overall situation?

I'd just say no significant developments. It's proceeding slowly, as these things are expected, very much the discovery phase. There's some activity in similar cases that we think is very interesting, but again, if it's pending before a different court, it has limited applicability to us. I hesitate to say anything of real significance, but I guess we're spending about $500,000 per quarter and that's in our estimate.

We exclude those from relative to our estimate, though, in terms of the earnings per share, the $2 million.

As far as our guidance. As far as what we internally estimate.

The only thing we'd say is it comes in very lumpy during the year, Darren. It's really almost impossible to predict. The DOJ, things could be very quiet, all of a sudden there's a flurry of activity that produces legal billings. Then it dies down again. So it's very difficult to predict.

Understood.

As I said, if you ask me, virtually every meeting I'm asked to comment on it and I think that it's proceeding in a professional manner by both sides. We have a very experienced counsel and I think that the Federal Government, they have a tough job in that they kind of pick up and go from scratch. No matter what the industry is that deals with the Federal Government and there's a learning curve for them as well and the discovery, given that, the discovery stage is more than just both sides staking out positions.

For our purposes, it's really corralling and putting a lot of information in a way that we think makes sense and puts our best foot forward with regard to the Federal Government, they're understanding a new industry from scratch. So when I say it's proceeding slowly, that's not because of any foot dragging by either party.

Darren, the DOJ has a very important job to make sure, in terms of the Medicare system, everyone is playing by the rules. Of course, the DOJ has to make sure they have a thorough understanding of what the rules are and how the industry works. Although, we've been watching with great interest a number of other government agencies that have been looking at hospice and the questions they're asking relative to quality of care, the number of visits patients are receiving, hospices that don't provide any high acuity care, zero continuous care or zero inpatient, the number of high live discharges when high acuity care isn't provided.

We think there's a greater appreciation among a number of government agencies that have a responsibility to make sure quality of care is provided within the Medicare system. They're asking all of the right questions and how the industry's behaving, particularly small hospices that may not have the capabilities of providing all levels of care, even though it's required. So we're actually -- we're very positive on the long-term impact hospice can have on Medicare, quality of care and spending. We're very optimistic that the government is asking the right questions right now.

It really comes down to, you've got to take the long-term view, but to the extent that the government makes everyone play by the rules, that's going to [rebound] to our benefit. That's certainly our intention and has been and the people who we can't compete with are the unfair competitors. To the extent that the government roots those unfair competitors out, ultimately the more efficient provider will win out. I think when you give us our size and some of our benefits of good systems and professional management, we usually do pretty well in that situation.

Okay. Thanks for taking the questions.

Your next question is from the line of Jim Barrett, CL King and Associates.

Good morning, everyone.

Good morning.

Tim, I just had a couple of questions for you. Continuous care days were up in the second half, up 5% in Q4. Should I infer from that, that referring physicians, admitting physicians, are once again comfortable referring patients for continuous care? I realize it's still below the level you achieved in 2012, but how should I think about that process?

Continuous care is up because our average daily census is up. We're still seeing the same rough statistical mix when episodic events are there that we're providing between inpatient continuous at about 7% of our census. So when average daily census goes up, you can expect about roughly equivalent change in all levels of care.

We did see, Jim, the high acuity levels did grow at a lower rate year-over-year, which is what we would expect. We have a lot of systems and checks and balances in for when continuous care is necessary for the patient. As far as the physicians that are referring, I think they're very comfortable with hospice in general and they're not necessarily into the detail of the levels of care. We communicate, educate them about it.

As far as the issues with continuous care needing to be around a crisis event, I think people in the industry are working well with that. As far as the need for high acuity care, the inpatient care, the continuous care, is certainly one of the reasons we do well with large referral sources that need these type of things to bridge individuals and to transition away from high acuity hospitals.

They need to know that they're not going to be readmitted based on the current rules and guidelines and hospice is the number one way to have that happen effectively with good quality care. Some component of that care will need to be continuous care and inpatient care when our doctors' judgments perceive that's necessary. As far as has the marketplace gotten back on track, the answer to that is yes.

You can see by our growth and I think hospice, palliative care, hospice, transition care programs are very much in the vogue. Hospitals need them. ACOs need them. Everybody needs them and the number one Company that can perform these services across the United States is VITAS. We feel very good about it.

Jim, you're also referring to the fact that it's the human nature issue of when this first thing hit and the allegations of fraud, it's just human nature to think that the physicians who make this call, not the business people, would just be dotting their I's and crossing their T's and maybe have a slight impact on their designations and we saw that in a very limited respect. It's kind of reached its equipoise.

The only two comments I'd like to leave you with as far as continuous care, is first of all, it was kind of interesting for me to see, just showing how separate that determination was, a year ago in the fourth quarter, we had a large California unit that was in cap, which basically meant, and you can take it, that we were the very high cost continuous care, we were basically providing for free with no reimbursement.

Not a net effect, because we were already at our cap for revenue. You might say if the business people were running that unit, you'd have less continuous care. In the fourth quarter, we had just as much continuous care in that unit as we did in the previous quarter, showing that the disassociation between the medical decision and kind of the business decision.

The second thing I'd say, always keep in mind whenever you see that number and compare it to everybody else, you've got to remember that over 50%, well over 50% of our referrals come from hospital discharge planners, a significant number of our patients come right from the intensive care unit. Are they going to have more continuous care, especially in the early stages as they adapt from the highest acuity setting into a relatively normal setting, maybe back in their apartment or home? The answer, of course.

When you compare that to a hospice with just a nursing home system, a captive hospice business that has 0% coming from hospital discharge planners, you can see those differentials. But yes, when we think of continuous care, we think it is part of a high acuity offering. We don't make a big designation between continuous care and inpatient. That's up to the patient and their family to choose. To the extent that one pops up a little bit one quarter or the other one goes down, again, we react to it. It's not anything that we push one way or the other.

Jim, just to put that in perspective, continuous care as a percentage of our total days of care was 3.82% in the quarter compared to 3.79%, so barely up. Then again, overall high acuity was compared, 6.7% in the quarter to 6.8% in the prior year quarter. So it really runs at a comparable level.

That's helpful. Then my second question, you're guiding to 4% admission growth in 2015. When you look out long term, for argument's sake, three to five years, is that a reasonable expectation for admission growth as I look out beyond 2015, given what you're seeing?

The only thing I'd say and Tim, you can jump in here. I would say yes, we think that's kind of in the -- a little bit -- if we said that we expect the industry to be between 2% and 4%, that's a solid number, 2% and 5%, that's a solid number at 4%, as we say. You've got to remember also, a significant percentage of our business is in Florida where we basically have the lion's share of the market in the programs we're in.

It's hard to do anything other than just demographic growth in those programs, which means you have to do a lot better in the other programs in the country to overachieve and do better than the overall national numbers. So it's a number that we think, given the Florida orientation, when we look out in the short or medium run, that's an aggressive number for planning purposes.

Well, thanks again, everyone.

I don't see any other questions. Failing that, I'll just thank everyone for their attention. We'll reconvene in about three months with reports of our first quarter of 2015.

Ladies and gentlemen, that concludes today's conference. We thank you for your participation. You may now disconnect. Have a great day.