奎斯特診斷 (DGX) 2012 Q2 法說會逐字稿

Welcome to the Quest Diagnostics second-quarter 2012 conference call.

At the request of the Company this call is being recorded.

The entire contents of the call, including the presentation and question-and-answer session that will follow, are the copyrighted property of Quest Diagnostics with all the rights reserved.

Any redistribution, retransmission, or rebroadcast of this call in any form without the express written consent of Quest Diagnostics is strictly prohibited.

Now I would like to introduce Kathleen Valentine, Director of Investor Relations for Quest Diagnostics.

Please go ahead.

Thank you and good morning.

I am here with Steve Rusckowski, our President and Chief Executive Officer, and Bob Hagemann, our Chief Financial Officer.

During this call we may make forward-looking statements.

Actual results may differ materially from those projected.

Risk and uncertainties that may affect Quest Diagnostics' future results include, but are not limited to, those described in Quest Diagnostics' 2011 annual report on Form 10-K, 2012's quarterly reports on Form 10-Q, and current reports on Form 8-K.

A copy of our earnings press release is available and the text of our prepared remarks will be available later today in the Investor Relations Quarterly Updates section of our website at www.QuestDiagnostics.com.

A PowerPoint presentation and spreadsheet with our results and supplemental analysis are also available on the website.

Now here is Steve Rusckowski.

Thanks, Kathleen, and thanks, everyone, for joining us today.

Over the last two months I have had an opportunity to meet with many of you.

And for those of you that I have not had an opportunity to meet, I would like to spend just a minute explaining why I joined Quest Diagnostics.

First of all, this is a company that has an impact on healthcare.

We touch about 150 million patients each year and I believe there is an opportunity to touch more lives.

Second, this is a high-quality company in many ways.

Healthcare professionals particularly have a high regard for Quest Diagnostics.

Then, finally, and most importantly, I believe there is a significant opportunity to drive shareholder value.

So over the past two months I have met with many of our stakeholders.

I have met with employees, customers, and investors.

I visited many of our operations and I am rounding out my perspective on Quest Diagnostics, where the Company is today, and how it can grow stronger.

I really appreciate the feedback I have received.

Now I would like to share the results for the second quarter.

In our Q1 call we cautioned that despite our positive volume performance the underlying market conditions remained sluggish, and that it was premature to conclude that the market was recovering.

Our caution was warranted.

In the second quarter our volume growth slowed.

Sluggish market conditions continued to affect our business and we saw softness across many of our businesses.

We also could have executed better in the quarter.

For example, we did not see the benefits we expected from actions we have taken to drive revenue growth in areas like women's health and the benefit from the narrowing of certain health plan networks.

As a result, we intensified our actions to manage our costs, allowing us to deliver bottom-line growth and margin expansion in the quarter and maintain our earnings outlook for the year.

Specifically, despite essentially flat revenues we increased adjusted earnings per share by $0.05, or 4.5%.

We expanded adjusted margins by 70 basis points to 18.4% and we generated $251 million of operating cash flow.

Clearly, it is imperative that we continue to be vigilant in improving productivity, reducing costs, and improving quality.

We are executing a plan in this regard and we now call it Invigorate.

It is expected to deliver $500 million in run rate cost savings versus 2011 as we exit 2014.

And I will share with you that we are firmly on track.

Well, this is a top priority for me.

From my first week on the job I have been personally involved in Invigorate.

I have shared with the organization that I am personally chairing this effort.

I have met with the teams focused on the biggest priority -- areas like lab operations, procurement, general administration, IT to name a few.

We will continue to meet on a regular operating rhythm.

Each of these teams are required to manage their projects with structured discipline and rigorous program management approaches, and I am assuring that proper resources are properly deployed to these efforts.

Finally, I am challenging the teams to look for additional opportunities and to accelerate the pace at which we implement the program.

An opportunity we have already acted on was to accelerate the launch of a voluntary retirement program offered to certain qualified employees.

We expect this program to deliver $40 million in annualized cost savings, a portion of which will be realized this year with the full amount realized as we exit the first quarter of 2013.

Now as we look at the market we continue to see weakness in the near term, but we believe that this industry will grow 4% to 5% in a normal economy and that Quest Diagnostics should be able to grow at or above the market growth rate.

One thing that we believe will enable growth is the Affordable Care Act, which we expect will have a positive net impact on our company and the industry's growth rate beginning in 2014.

The Act will increase covered lives which will drive diagnostic testing volume.

But at the same time many of the newly insured will be covered by insurance products with lower price points and, therefore, the full impact on our business is still unfolding.

In parallel with Invigorate, we have work to do to restore growth and be in a stronger position when the market recovers.

Over the past two months we have been conducting a thorough review of our businesses and our operations.

This effort includes an evaluation of our selling and marketing efforts, how we prioritize our innovation investments, and our ability to leverage our unique assets to bring diagnostic solutions to the market.

We do have some good examples of what we need to replicate to grow this business.

Specifically our expanding prescription drug monitoring business, our introduction of neurological tests at Athena, and our launch of new companion diagnostics like STRATIFY JCV test are a few good growth examples.

So I look forward to sharing with you later this year the growth plans that results from this process.

Now I would like to turn over to Bob for a more detailed analysis of the numbers.

Bob?

Thanks, Steve.

Starting with revenues, Q2 revenues of $1.9 billion reflect growth of 20 basis points over the prior year.

In the second quarter comps were more challenging than in the first quarter, specifically the anniversary of the acquisitions of Athena and Celera, and did not experience the favorable weather impact we saw in the first quarter.

These two factors combined contributed just over 5% growth in Q1.

Excluding the impact of acquisitions, Q2 revenues were down about 0.5% from the prior year.

This compares to about 1% underlying growth in Q1.

As Steve noted, market softness continued to impact our business.

We didn't execute as we had planned and, as a result, our volume growth slowed.

Our clinical testing revenues, which account for over 90% of total revenues, grew about 1% for the quarter -- all attributable to volume.

Revenue per requisition was essentially unchanged from the prior year with reimbursement pressure offset by favorable test mix and an increased number of tests per requisition.

Recall that year-over-year growth in revenue per requisition we reported in Q1 was principally due to the increased esoteric mix contributed by Athena and Celera, and we have anniversaried that benefit this quarter.

Drugs of abuse testing volumes have continued to rebound and grew about 5% in the quarter, in line with the growth of the last two quarters.

Q2 revenues in our non-clinical testing businesses, which include risk assessment, clinical trials testing, products, and healthcare IT, were about 5% below the prior year.

As you have heard, despite what was an essentially flat top line, we expanded earnings and margins in the quarter as a result of disciplined expense management and beginning to realize the benefits of our Invigorate program.

Adjusted EPS of $1.17 was $0.05 above the prior year, and adjusted operating income at 18.4% was 70 basis points above the prior year.

The restructuring, integration, and CEO transition costs totaling about $16 million reduced reported operating income by 80 basis points and reported EPS by $0.06.

Last year's second quarter included $20 million of acquisition-related transaction and integration costs, which reduced reported operating income by a full percentage point and reported EPS by $0.10.

Our Invigorate program continues on track to deliver roughly $100 million in run rate savings as we exit this year.

This represents about 20% of our $500 million goal with the remainder expected in 2013 and 2014.

As you heard from Steve, we are continuing to evaluate opportunities which could potentially increase our goal for this program.

As we have previously shared, common themes across most areas include standardizing systems, processes and databases, increased use of automation and technology, and centralizing and selective outsourcing.

As we noted last quarter, over the next few years this will require some increased level of capital spending to standardize systems and upgrade IT infrastructure.

In addition, as we disclosed in last quarter's 10-Q, our high level estimates of charges we expect to incur over the next several years in connection with this program are between $100 million and $175 million, consisting primarily of employee separation costs, facility-related closure costs, asset impairments, and systems conversion and integration costs.

As Steve mentioned, in connection with the Invigorate initiative we have offered a voluntary retirement program to certain qualifying employees.

We estimate this program will contribute approximately $40 million of annualized savings once fully implemented, which we expect by the first quarter of next year.

The program will allow us to reduce the size of our workforce, reduce our average wage bill, and update the skills of the workforce.

In connection with the program, we expect to record charges estimated at about $50 million over the course of the next several quarters as employees leave the workforce.

An area which is already benefiting from Invigorate is billings and collections.

We have consistently produced industry-leading metrics in this area, but still have room to improve.

Bad debt expense as a percentage of revenues was 3.5% in the quarter that reflects improvement in both Q1 and in prior year.

DSOs were 44 days, unchanged from last quarter.

Cash from operations was $251 million in the quarter compared to $60 million in the prior year.

Note last year's cash flow was reduced by the net impact of the Medi-Cal settlement payment.

Capital expenditures were $47 million in the quarter compared to $40 million a year ago.

During the quarter we read purchased 882,000 common shares at an average price of $56.70 for a total of $50 million.

We also repaid $112 million of outstanding debt in connection with our stated objective to delever by $500 million to $700 million this year.

Turning to guidance, based on our performance for the first half and our latest view of the market, we now expect results from continuing operations before special items as follows.

Revenue to grow between 1% and 2%, operating income to approximate 18% of revenues, cash from operations to approximate $1.2 billion, capital expenditures to approximate $200 million, and lastly, diluted earnings per share to be between $4.45 and $4.60.

Now I will turn it back to Steve.

Thanks, Bob.

So in closing, we delivered earnings growth and margin expansion in the quarter despite flat top-line growth.

We are accelerating our efforts to improve productivity, reduce costs, improve quality, and restore top-line growth.

I want to reaffirm our commitment to increasing shareholder returns and improving our ROIC.

This includes our intention to return the majority of our free cash flow to investors upon achieving our targeted leverage ratio.

In the near term we do not expect to complete any large acquisitions; however, we will continue to consider value-creating fold-in acquisitions.

We are being thoughtful and disciplined in developing our plan to restore top-line growth and improve shareholder returns, and are performing a thorough review of our businesses and operations as part of this process.

I will share with you that I believe we are moving with the appropriate speed and intend to share our plan with you in the fall.

Now we would be happy to take your questions.

Operator?

(Operator Instructions) Tom Gallucci, Lazard.

Good morning.

Thank you for the details.

I guess I had two questions.

Steve, when you had met with some of the analysts recently at a breakfast in New York I think you had mentioned that you were meeting with a lot of different constituencies within the Company and outside the Company.

And I think specifically you had talked about maybe having some upcoming meetings with some of the payers, like an Aetna for example.

Lack of pricing of late has stood out, so can you discuss any takeaways maybe that you have had thus far with your interactions with major payers?

How they are viewing you and what again your key takeaways may be so far?

Sure.

I appreciate the question, Tom.

First of all, I have done that -- met with a number of payers.

Specifically what I would share with you is they are thinking about our business, and specifically us, to help them manage their cost structure.

Yes, that will be a discussion around price at some point, but more importantly, more at a strategic level is what we can do to help manage plans together to improve quality and lower costs.

Specifically some of that conversation has lended itself to what we have from information, what they have from information, and how we can provide more helpful insight into managing overall cost with the lives that they are managing.

In parallel with that they are also understanding that the US market will go through tremendous change with the Affordable Care Act.

They are trying to prepare themselves for the change; we obviously are preparing ourselves for the change.

And in that context they believe that they need to do a better job of working with us on narrowing their networks for what they provide.

So, therefore, they hope to work more closely with us to make sure that we work together because we are both incented to do that.

So the conversations I've had so far, Tom, have been very good conversations with a spirit of cooperation.

We are working together to do what is right for this industry -- improving quality, lower costs -- and at the same time we find some opportunities to help our businesses.

Okay, great.

Thank you.

My other quick question was just on healthcare reform.

Sorry I jumped on a couple seconds late, so if you covered it I apologize.

But just wanted to see if you had any takeaways at this stage on how you think about the impact and what some of the moving parts are for Quest in particular.

So healthcare reform, the Affordable Care Act we do expect to have a net positive impact on our company and the industry growth rates.

And we believe this will start in 2014.

First of all, the number of lives will increase; we know that and that will drive volumes.

So that is good news.

But at the same time, what is not clear yet is what will happen with those newly-insured lives and what insurance products they will move to.

Our sense is that some, if not a large majority, will go to lower price point products.

Therefore, it is not quite clear at this point how this will all unfold.

So we have not put together a specific indication of what it will mean for a business.

We are watching it carefully.

There are some positive signs of it and there is clearly some negative signs of it.

In collective perspective it will have an effect.

We believe again it is net positive impact for our business and for the industry, but it still has to be cleared up over time.

Thank you very much.

Thank you.

Kevin Ellich, Piper Jaffray.

Good morning.

Thanks for taking the questions.

Steve, just wondering if you could provide a little bit more color on some of the reimbursement pressure that you saw this quarter.

Is that coming from any specific contracts or what is going on on that front?

First of all, we don't share specifics on what is going on with our contracts but we have shared in the past that we are seeing pressure on price.

Let me give the microphone over to Bob to share some of the specifics of what we have shared in the past and how that has folded through our numbers.

Kevin, I would tell you that this is nothing new.

We have been talking about increased reimbursement pressure for a while.

What we are seeing is fully contemplated in the guidance that we put together at the end of the year, so there is no change from our perspective there.

Essentially what you are seeing is that reimbursement pressure now is being offset, though, by the number of tests per requisition and a continued favorable test mix.

As we go forward we expect that those dynamics will continue.

Continued reimbursement pressure to a large degree offset, if not fully offset, by test per req and positive mix.

Sure.

Then I guess since I have you, Bob, just wondering what are your thoughts on the Medicare pricing headwinds that you face in 2013 and also the impact of the new molecular diagnostic codes that are likely to go in effect in 2013.

Kevin, the Medicare change for 2013 is estimated to be about 5% or so.

I think we have shared with folks in the past that we have got roughly $1 billion in Medicare business, the vast majority of that reimbursed off of the clinical lab fee schedule.

So we are looking at a $40 million to $50 million impact next year.

As you think about that we are hoping that much of that now is going to be offset by the actions that we have taken with the voluntary severance program which fully kick in by the time we exit the first quarter of next year.

With respect to the impact of the changes around molecular diagnostics and the new coding there, we don't expect that to have a significant impact to us.

There are a number of codes which are impacted, but total revenues that are subject to those changes are less than 5% of our total revenues.

As we have said in the past, the objective there is really to get better visibility into what is being billed, making sure that what is being billed is medically necessary.

And we do feel very good about the tests that we have in our profiles and the medical necessity attached to that.

Kevin, as you know, CMS hasn't been determined yet how they are going to reimburse for these new molecular codes and also which fee schedule they will be placed on.

At this stage, based on the meetings they had earlier this week in Washington, it sounds like won't hear anything definitively until later in the fall sometime on that.

Thanks, Kathleen.

Then just one last quick one for Steve.

As you have gone around the Company and looked at the various business units and met with different people, just wondering if you have had a chance to think about some of the other businesses, like India and the point-of-care, [HemoCue] business.

If you have any opinions on those fronts, we would love to hear what you have to think or have to say.

Sure.

I appreciate that and what I have said in my opening remarks is that we are conducting a thorough review of all businesses and operations, and we have nothing to share beyond that today.

What I have also shared is that sometime in the fall we will be giving an update of our strategy.

And in that update we will give you more forward-looking visibility and transparency of what we are thinking about in terms of restoring growth, improving our margins, and going forward for the Company.

Got you.

Thanks a lot.

Thank you.

Dane Leone, Macquarie.

Thanks for taking the questions.

Welcome aboard, Steve.

Thank you.

I was actually just kind of looking for some clarity on the revenue line and maybe some additional commentary on the Athena and Celera business.

Maybe I just kind of misheard, I think maybe Bob's comments, but it seems like the product line may have declined year over year because the revenue per req was flat, volume was up, but overall revenues were flat.

Can you just maybe add some color or provide some clarity on that?

Dane, let me try and give you some more color on it.

Year-over-year consolidated revenues were essentially flat, up 20 basis points versus the prior year.

In that the clinical testing business was up about 1% or so.

The other businesses, which make up about 10% of our revenues, which include clinical trials testing, risk assessment, the point-of-care business, the healthcare IT business, they in total were down about 5% versus the prior year.

When you look at the clinical testing business the year-over-year revenue improvement was principally driven by volume.

As we indicated, the revenue per req was essentially flat year over year.

Okay.

I guess the product growth had been additive up until this point for the last couple of quarters.

What kind of changed there?

Dane, the principal contribution to product revenue growth that we had in the last several quarters was a result of the operations that we -- the products operations we acquired with Celera which anniversaried this quarter.

Okay, that is helpful.

Just on Athena, is that business still growing much higher than the regular business?

It closed at the end of February last year, so it still had -- thinking about the higher growth rate of that business maybe it could have added something to revenue per req this quarter.

I was just curious if there was anything there and maybe the Celera business as well.

Athena is continuing to perform very well, growing nicely, highly profitable business.

Celera, as you know, there were multiple pieces to that business.

There was the products business, which continues to perform solidly, and then there was [BHO], which as we noted is in a turnaround and we are still working through that.

Although I would tell you that we are making some progress there as we integrate that now and start to leverage the infrastructure that Quest Diagnostics has to offer to Celera.

Okay, great.

Then a final question for me.

Just looking at the working capital inventories and accounts receivable they kind of edged up year over year even though revenues were flat.

Is there anything to read into that or is it just timing?

It's just timing.

If you look at DSOs, they were essentially flat.

We are actually down a day from either end, and if you look historically at how receivables themselves tracked from Q1 to Q2 -- from year-end to Q2 that is pretty consistent.

Okay, great.

Thank you very much.

Ricky Goldwasser, Morgan Stanley.

Good morning.

Couple of follow-up questions here, the first one is on healthcare reform.

Steve, what percent of your book currently do you estimate is from the uninsured population today?

Ricky, this is Bob.

It is a small portion of our total revenues.

If you look at what we describe as patient build revenues, it is in the range of 5% to 10% of our total revenues.

Roughly half of that is from the uninsured.

The other half is really deductibles and co-pays and things like that.

Okay.

When you think about the opportunity you expect to basically see a similar share gains that reflect your overall exposure to government business.

Do you think that you have an opportunity here to gain share above the 15% government that you have currently?

As we said, we do believe it is a net positive impact for our company and, as you know, this is still unfolding so we are trying to understand it better and better every day.

There will be more lives, there will be more people getting tested, but the question is how will they be insured.

And then, specifically, how does that factor into our business.

We have not provided a specific effect on the business because it is not quite clear yet.

So can't provide you any more transparency or visibility beyond that at this point.

Okay.

Then a top-line question and I apologize if you have discussed it already; I just had to jump on a little bit late.

When we think about the top-line growth for the second half of the year your guidance implied some continued declined.

It sounds as if your view is based on pricing trend in the second half of the year.

Can you share with us your views on volume trends in the second half?

And how can you drive volume growth with your internal initiatives?

First of all, what we did share is that sluggish market conditions did continue in the second quarter that did affect our business.

Then, in fact, in Q2 we did see the volume growth slow, but we saw slowness across many of our businesses.

But what I also shared in my opening comments is we do have an opportunity to execute better.

We missed some opportunities in Q2.

We specifically called out that our women's health business could have executed better and specifically we had some opportunities around narrowing of certain health plan networks and we didn't see the impact of that in Q2.

And so what I have shared is that in the process of building our plan going forward we do need to restore growth.

And so we are looking at the effectiveness of our sales and marketing programs, we are looking at our investments, we are looking at how we productize solutions to the marketplace.

That work will be helping us, to some extent, in the second half, but we still need some help from the market.

And Ricky, just a little more color on your question.

If you look at the implied guidance for the second half, at the midpoint it implies that revenues are sort of flat for the most part.

At the high end it implies revenues are up about 1% and at the low end it implies they are down about 1%.

Okay.

At that high end where revenues are going to be up 1%, based on your pricing comment should we assume that most of the growth is going to come from volume in the second half?

Again, as you know, we don't give guidance relative to price or volume and at this point we don't necessarily see that changing.

Although I don't think that the dynamics in the second half are going to be materially different than the dynamics in the first half.

Okay, that is helpful.

Thank you very much.

Thank you.

Lisa Gill, JPMorgan.

This is actually Gavin Weiss in for Lisa Gill.

You mentioned your conversations you have been having lately with payers.

Do any of these conversations include discussions around different payment models or is it still really around a fee for service?

Well, there is conversation around different payment models.

We are going through this transition and the question is, as we go forward with the Affordable Care Act (technical difficulty)

Gary Lieberman, Wells Fargo Securities.

Steve, for a long time there was pricing stability and then it seems like five to six years ago the industry started to see pressure on price.

I mean given what you have seen so far, do you think there is a path back towards pricing stability and what are the challenges with getting there?

First of all, that was quite the interruption.

Gary, good question and, frankly, as Bob said, we don't give guidance on price.

The market is unfolding with all the different changes and we have this mix issue going on, so we are managing it carefully.

There is no question in our mind, though, that we need to be vigilant on productivity improvements, reducing costs, and improving operations.

And that is why I have been personally involved in Invigorate and will continue to be involved.

We need to improve our cost structure and that will help us offset whatever price erosion we see going forward.

Bob, I don't know if you would like to add to that?

The only thing I would add, Gary, is we are going to continue to be price disciplined as we go forward.

As Steve mentioned, the payers and our other partners are looking for ways that we can work with them to reduce their total costs.

Pricing is an element of that, but there are other ways as well that we can help them manage their costs down and we expect to use all of those opportunities.

I guess maybe if I could ask it another way, Steve, without you guys commenting on price specifically but more generally.

With the large labs being the low-cost provider of the service, significantly less in some cases than hospitals, what is putting the pressure on the price?

What was the catalyst that started the pricing pressure and how do we get away from that?

There is price pressure in this whole industry, as you know, so the catalyst is healthcare in general.

Healthcare costs from a provider perspective continues to rise and that is the challenge with health plans.

They are trying to manage an aging population, sicker and sicker lives every year, and, therefore, costs are continuing to rise.

So there is [no] pressure throughout this entire industry and as you know we have been in this industry over 28 years.

That price pressure will continue.

The question is how does that unfold and how does that relate to this market, specifically with the changes that we see going forward.

We are seeing people wanting to narrow their networks; therefore, there should be more consolidation in volumes around fewer suppliers and laboratory testing services.

That plays nicely into what we are all about and what this industry is all about.

Second is as hospital systems are acquiring physician practices they are looking at what they need to do in terms of what of their capabilities are strategic or nonstrategic, as they start to look at forming accountable care organizations, what they do with their laboratory operations.

They are starting to have more conversations with us in terms of how we can help them with laboratory management services, where we could potentially look at outsourcing, where we can look at reference testing.

And so the future trend, despite price pressure, I think lends itself to support the long-term normal growth rates we see in this industry.

So I see some other dynamics that will help us offset some of that price pressure that we will see like the rest of the industry.

And, Gary, when we talk about price pressure we are not talking exclusively about the commercial payers.

As you see on the government side there is continued reimbursement pressure.

Medicare is a great example.

The Medicaids, each of the states is looking at how they can reduce their overall costs and healthcare is a big element of their total costs and trying to manage down.

So it is not exclusively the commercial payers that we are talking about when we talk about reimbursement pressure.

Okay.

Thanks for taking my question.

Appreciate it.

Thank you.

Ralph Giacobbe, Credit Suisse.

Thanks, good morning.

There has been articles on benefit design and you certainly talked about narrower networks, and particularly we have seen or heard about changes at Aetna that could potentially push more volume your way.

I guess did you recently renegotiate with Aetna beyond the extension from a couple years ago, sort of in exchange for some of the narrowing network there?

We don't comment on specific renegotiations or discussions with our health plan partners, but we do believe there is an opportunity to work with (inaudible) their network and you brought up Aetna as an example of that.

Okay.

Then going back to sort of some of the discussion around reform.

Can you help us -- right now in terms of collection on the uninsured, what percentage of what bill do you collect?

Bob will handle that.

One way of thinking about it is the majority of our bad debt, which this quarter was 3.5%, comes from patient bill and about half that bad debt is related to co-pays and deductibles for people that have insurance.

The other half is related to the uninsured.

That is the big opportunity that we have as part of healthcare reform.

What we can get that down to it is not clear at this point, but certainly there is a big opportunity to reduce that piece of the bad debt.

But, again, that is a little less than half of our overall bad debt.

But I guess I am getting at do you have sort of an average price point for the uninsured today?

What is that average price point?

It's significantly higher than it is for the average that we have across the network.

If you look in our 10-Q you will see that the volumes associated with patient bill are -- the percentage of volumes associated with patient bill are about half of the revenues associated with patient bill.

So it implies that the revenue per requisition is in the range of 2x or more the average revenue per requisition.

So it is a very rich requisition, but it carries a significant bad debt attached to it.

And, Bob, just to run through the numbers though, is it fair to say that today that you would rather have an insured or uninsured patient walk through the door, given net collectability?

Certainly from a collectability standpoint an uninsured patient is much more difficult, but I am not sure that at this point with the payer as to make a call as to what sort of patient we would rather have walk through the door.

We are happy to serve all patients.

Okay, thank you.

Isaac Ro, Goldman Sachs.

Good morning.

Thank you for taking the question.

Good morning.

First off, I realize this is somewhat of a hypothetical question, but in the event that some of those CRA royalties do become material revenue streams would you be able to comment on whether you would let those flow through the P&L or would you try to seek to monetize those assets in another way?

Look, I think that we would certainly consider monetizing future royalty streams but, yes, I think we have to have some better visibility as to what they are before we would do that.

But certainly it is something we would consider.

Sure.

Steve, if I could just maybe ask a question on the cost savings plan.

If you could maybe bucket the low-hanging fruit as you see them across a couple of major areas -- labor, supply chain, and then maybe vendor pricing.

Just trying to think about how you see the best opportunities in the next couple of quarters to start realizing those savings.

Appreciate the question.

As I mentioned in my opening comments, I am personally spending a lot of time on this and I have shared with some of you that you really needed to think about this in two categories.

Yes, there will be some shorter-term opportunities that we are going after and then there will be some harder opportunities that will require investment that will take a longer period of time.

And we are looking at both.

In the short run we already mention that we're looking at productivity.

Specifically our voluntary severance program that we put together was one of those options for us to look at being more productive where we can do that.

So we selectively identified qualified individuals and that will help us some in the short term.

Second is we are continuously looking at productivity opportunities, because a large portion of our cost structure is our wage bill.

And, therefore, we are very, very tight on any hire we make and specifically looking for opportunities to drive productivity.

Now some of this, as you would expect, happens in our operational teams throughout the Company.

This is in lab operations, logistics operations, patient service centers, but also what we are looking at is what we need to do in, let's just say, broadly defined general administration areas.

There will be some opportunities to look at becoming more efficient, if you will, with our cost structure of our overhead going forward.

I also commented to that I spent some time with the procurement team.

We did see some opportunities show up in Q2 related to doing a better job of managing our purchases from outside suppliers.

It is the second category to a wage bill that we will see some near-term improvement in that we will see sooner rather than later.

And that will continue throughout the period of Invigorate.

Then, finally, there is opportunities related to a number of improvement efforts that are happening at the grass roots level.

There is a number of our regional labs that are working through improvement programs and I could tell you the support for employees to contribute to this effort is very, very remarkable.

We are seeing some nice short-term gains from small, incremental improvements at the regional level, but if you take those and add them all up it is real numbers.

And if you take those and extrapolate it throughout the entire business it's substantial.

So we will see those in the short run, but as I said there is also some longer-term reengineering change management programs that we will need to invest in.

And that will be in the later part of the period of Invigorate.

Great, thanks.

Last question if I could on capital allocation.

You guys certainly continue to generate pretty healthy cash flow given a tough volume environment, so can you maybe update us on the Board's latest thoughts regarding how that cash will be deployed?

Last year you obviously hiked the dividend quite nicely.

Is there a walk to the long-term dividend profile that you can give us here as an incremental update?

Absolutely.

Bob will give you an update on that.

We told you this year our priority is to do some delevering to make sure that we can sustain the credit rating that we have.

We believe that that is critically important to us, because at the end of the day it allows us to minimize the overall cost of capital and ensure that we have got appropriate access and liquidity.

So that is the priority now.

As we have indicated, though, beyond that once we have gotten the delevering done we expect to return the majority of the free cash flow to investors, whether it be through dividends or share repurchases.

We did a pretty significant increase to the dividend this year.

We would expect that the dividend is going to grow with cash flows and earnings over time.

At this point we are not prepared to make a commitment as to what the dividend rate will be.

I think as we go into the fall and as we figure out what the strategy is going to be that is going to drive the capital allocation.

So in the near term no change, but you will hear more about this in the fall when we come out and share with you some of the longer-term plans for the Company.

Great.

Thanks so much.

Amanda Murphy, William Blair.

Steve, I had a follow-up question for you on the sales infrastructure.

So given the cost-cutting initiative that you have in place, I am just curious how you are thinking about the sales force and the patient service center infrastructure.

You talked, for example, about productivity and effectiveness.

I am curious if you can provide a little more color there.

That would be helpful, thanks.

Thanks, Amanda.

First of all, everything is on the table.

We are focusing on improving our productivity and reducing cost, and in that respect we are looking at every area which includes all overhead.

Overhead on the backs of people in our labs, overhead on the backs of our sales force, overhead on the backs of our patient service centers, so that is critical.

But we are also looking at improving in the workflow of how we take a sample and then eventually collect cash, and Bob shared with you one example of how we feel pretty good about some progress we made in our billing center.

But specifically to the sales force, at the same time and I mentioned in my introductory comments we do need to restore growth.

And so we are and I am personally looking into how we have gone to market, what type of investments we made in our sales and marketing efforts, and specifically how that has contributed to what we have done so far, how we have executed against the plan so far, and what are the right investments for this company going forward to restore growth.

I don't have specific comments to make in that regard as I speak, but I will assure you that we will make the appropriate investments in our sales force and in our go-to-market organizations to restore growth, which may mean that we will take some of the freed-up spending that we see in the big rate and reinvest it in portions of our organization to help with restoring growth, and that may mean our sales and marketing efforts.

But it is too early to share with you specifics on that, but it is being reviewed as I speak with you today.

Got it.

Okay.

Then just another comment you made earlier is just about the missed opportunities when it comes to narrowing networks in women's health.

I am curious if you could provide a little more color about specifically what was missed there and has that or will that change your strategy going forward in those two areas?

Obviously, you have talked a lot about private payer conversations.

Well, let me take narrowing the network.

We do have an opportunity with some of our partners, our health plan partners, to help them narrow the network.

And we are working -- and this is a great example -- working together with the health plans to get more volume.

And they see it as an opportunity in their cost structure, and we see it as an opportunity with our volumes to do that with them.

We hoped for some in the second quarter.

It did not materialize, but we still see it as a great opportunity going forward.

And so that is what my comment was about is that we hope for some in the second quarter and frankly think if we executed better, we would have gotten some pickup in our volumes in the second quarter but unfortunately did not materialize.

But as I said with an overview of our sales and marketing efforts, we will look at that and we will deliver more of that in the second half.

I would like to turn it over to Bob in terms of his comments on women's health.

Yes.

Women's health is an area that we have seen as an opportunity.

It is an area that has continued to grow, but as we have stated earlier, we have had some product gaps which we have filled.

We expected that after having filled as product gaps we would be able to start to regrow that business at a faster rate.

Again, that hasn't materialized yet, but we continue to see that as an opportunity.

We continue to focus on it from both the sales side and the product offering side.

Again, it is an area that while we didn't execute as well as we would have liked in the second quarter, we believe that it will be an opportunity that will drive growth as we go forward and address some of the execution issues.

Okay, thanks very much.

Gary Taylor, Citigroup.

Good morning.

Just had two relatively simple questions.

First, on the sequential slowdown in volume.

Are there any takeaways in terms of geography, type of testing, physician specialty, anything that is notable that you saw sequentially?

Gary, nothing specifically.

Obviously we don't comment on geographies, but Steve mentioned in his remarks earlier we saw a slowdown across most of our businesses.

So it was relatively widespread, nothing specific to point to.

Okay.

On the growth in revenue per session, can you just remind us a little bit what is the driver behind that?

Again, a specific type of physician specialty outside of primary care that is helping to drive that, or how do you view the sustainability of that trend?

Well, certainly physician specialists and the esoteric mix that they order contributes to improvements in revenue per requisition, but it is also the number of tests ordered per requisition.

Some of which we may think of as esoteric today, but ultimately are going to be routine, like vitamin D for example.

The benefit of growth in vitamin D has really shown up in revenue per requisition to a large degree.

That and other new tests that we introduce in many cases show up in revenue per requisition, because they are ordered in conjunction with other tests.

And that is an area that we believe will continue, because we expect that the pace with which new tests are introduced will continue to accelerate over time.

I may have misspoke.

I meant to ask about number of tests per requisition, but you kind of covered that.

Is it fair to say that vitamin D is still growing, but not nearly, I would imagine, the growth rate we saw a year or two ago.

Is that correct?

That is a very fair assessment.

As you think about that it had a really rapid ramp up.

It has become much more of a mature test at this point and, as a result, the growth rate just obviously slows down.

Okay, thank you.

Sandy Draper, Raymond James.

Thanks.

Actually all my questions have been asked and answered, so thanks.

Thank you very much.

Darren Lehrich, Deutsche Bank.

Good morning, everybody.

So we have heard you comment a few times on disappointing execution in the second quarter in a number of areas.

I guess my question, Steve, is just as you think about how you are setting expectations for the team, attempt to increase the accountability, can you just talk about some of the process changes you are making in running the Company and just how you are managing that execution question as you move forward?

Sure, sure.

First of all, in this review of businesses and operations clearly we need to look at do we have the right structure to execute any strategy we have in place.

And we are looking at that.

Then the second is -- I have been asked this before.

Clearly, you need to have the right leadership team in place to restore growth and improve our shareholder returns.

As everyone would expect, that has been in considered as well.

But specific to the approach, and I mentioned it in my Invigorate comments, what I am bringing into the company is a disciplined structure and a rigorous approach to deployment of strategy.

I gave the example of Invigorate, but I will also share with you that will be my approach for restoring growth as well.

So strategy is important, but it is also very important and I would argue more important to work on the deployment.

In my past experiences what I will do going forward, and I will share this in the fall, is we will have a very structured, rigorous deployment of each of the strategic programs we put in place.

Some of which will be around productivity gains and improving our cost structure going forward, but also it will be equally put in place related to restoring growth.

And related to that is once we agree what we are going to do then we need to make sure we have the right and proper plan that is properly resourced.

So with that rigor, with that discipline, and with that structure I am insisting once we agree to do something that we have the resources and then those resources are held accountable to deliver.

So that is my philosophy in general, and, again, Invigorate is an example of that, but it will extend itself to everything we do in the Company going forward.

That is helpful.

Then if I could just ask you have talked about the $40 million associated with retirements.

I am curious just to know on the senior management team have there been any decisions made about who will take early retirement?

Is that something that has been decided yet?

We are not prepared to share anything related to specific individuals.

What I will share with you is that participation in the program is broad throughout the organization.

I don't know if, Bob, you would like to share any insight into the people that opted in to the program and how that ties into the savings?

There is not a lot specifically, Steve.

It is a very broad-based program; it is covering just about every part of the organization.

Although I would tell you that we very thoughtfully designed the program, there were certain parts of the organization, certain employees that we felt were critical that were not offered the plan.

And we maintain the ability to not accept certain people as well so that we could manage any potential adverse impact that the program would have.

Then, lastly, we maintained the ability to determine when a person would actually leave the workforce.

So we had enabled ourselves I think to manage it pretty effectively, but it is a broad-based program.

Just adding to that, we surgically looked at specific work areas and thought forward in terms of the skill mix of some of those work areas.

So we used it as an opportunity to think about the workforce in general.

So, yes, some people will leave from this program but also we saw it as an opportunity to affect our wage bill in specific areas where we have a skill mix going on with our operations.

So it is a very comprehensive, robust program that will help reduce some costs but at the same time help improve our productivity as well.

That is great.

Then just one last thing to clarify, a comment Bob made in response to the royalty portfolio from Celera.

Bob, you said you need better visibility on the revenue opportunity I think is sort of the comment.

But does that mean that you need those products to be commercialized and in the market?

Just trying to understand at what point you would seriously consider monetizing the royalty.

It is an interesting question and I don't want to be too specific at this point, because it is premature to gauge what the actual opportunity will be.

Not only from the Merck drugs but the other drugs that Celera has rights to as well.

But I think for us to get the appropriate value for those drugs and those assets and those royalties we have to have a pretty good view as to what they will realize for us.

Well, I think it is an interesting situation nonetheless, so a nice position for you to be in.

Thanks.

Thank you, Darren.

Robert Willoughby, Bank of America.

Bob, I was just surprised the deleveraging wasn't more material in the quarter.

I thought that was a bigger part of the strategy going forward.

Are you kind of happy with the outstanding debt levels currently?

Bob, it is pretty much as we had planned.

As you know, we generate the majority of our free cash flow in the back half of the year and the delevering is really following the way the cash flows come in.

So this is pretty consistent with what we had anticipated.

Okay, thank you.

Lisa Gill, JPMorgan.

I apologize for earlier; that was directed at a salesperson, clearly not at Quest.

I just had a quick follow-on question around acquisition opportunities, just around hospital outreach labs and what you are seeing in the marketplace and how things have gone with your existing relationship and if you see opportunities going forward.

Thanks.

Sure, I appreciate that.

First of all, as I said in my opening comments, we don't anticipate any large acquisitions but we will consider what we call tuck-in acquisitions we could fold in to operations and that could be reasonably accretive in the short term.

That would include what we could do on a regional level.

Also, I made some comments about what hospital systems are looking at and integrated delivery systems are looking at in terms of where they add value, what is strategic, and what they need to rely on others to do and there might be some opportunities for us in that.

So we have looking at all that and there are some opportunities.

Lisa, I would add too that as we think about hospitals and the opportunity to work with them to grow our business certainly there is the opportunity to acquire their outreach business.

There is still a big opportunity to gain additional reference testing from them.

We look to manage some hospital laboratories, and in selective cases we have looked to joint venture in certain markets where it makes sense.

So we continue to think about multiple ways to work with hospitals to grow our business and help them compete effectively as well.

Great, thank you.

Thanks, Lisa.

This concludes the question-and-answer session.

Thank you for participating in the Quest Diagnostics second-quarter conference call.

A transcript of prepared remarks on this call will be posted later today on Quest Diagnostics' website at www.QuestDiagnostics.com.

A replay of the call may be accessed online at www.QuestDiagnostics.com/investor or by phone at 888-673-3567 for domestic callers or 402-220-6430 for international callers.

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Telephone replays will be available from 10.30 a.m.

Eastern Time on July 19 until midnight Eastern Time on August 19, 2012.

Thank you for joining.

Goodbye.