奎斯特診斷 (DGX) 2016 Q1 法說會逐字稿

Welcome to the Quest Diagnostics first-quarter 2016 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 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 Dan Haemmerle, Executive Director of Investor Relations for Quest Diagnostics.

Go ahead, please.

Thank you and good morning.

I am here with Steve Rusckowski, our President and Chief Executive Officer; and Mark Guinan, our Chief Financial Officer.

Before we begin, I'd like to share that I will be transitioning into a new role in the Company over the next few months.

Now, I would like to introduce our new Executive Director of Investor Relations, Sean [Vaddick].

Sean?

Thanks, Dan.

During this call, we may make forward-looking statements and also discuss the non-GAAP measures.

Actual results may differ materially from those projected.

Risks and uncertainties that may affect Quest Diagnostics' future results include, but are not limited to, those described in Quest Diagnostics' 2015 annual report on Form 10-K, quarterly reports on Form 10-Q, and current reports on Form 8-K.

Our earnings press release is available.

The text of our prepared remarks in a PowerPoint presentation will be available later today in the Investor Relations quarterly updates section of our website at www.QuestDiagnostics.com.

Now, here is Steve Rusckowski.

Thank you, Sean, and welcome aboard and thanks, everyone, for joining us today.

This morning I will provide you with highlights of the quarter.

We will share a few comments on industry dynamics.

We will review the progress in our five-point strategy, and then Mark will provide more detail on the results and take you through guidance.

But before I get started, I would like to recognize the sad passing of Dr. John Baldwin, a Quest Diagnostic board member since 2004.

John provided important independent and thoughtful perspective as a director and was a responsible steward of shareholder interests.

John's life pursuits transcended his work as a practicing physician.

Our board will miss him.

Our thoughts and prayers are with the Baldwin family.

Well during the first quarter, revenues grew by 3.6% on an equivalent basis.

Adjusted EPS, excluding amortization, grew by almost 7%, and this is our eighth consecutive quarter on year-on-year EPS growth.

Before I get into our strategy update, I would like to briefly update you on PAMA.

Late last month, 27 members of Congress urged the administration to delay changes to the Medicare clinical add fee schedule under PAMA.

Given delays in the rule-making process, they argue that the January 2017 effective date for the updated fee schedule is not feasible and should be delayed.

Our view that PAMA needs to be built on a representative view of the hospital is shared by the American Hospital Association, the American Medical Association, and a number of members of Congress.

So we remain optimistic that together, the industry and government can still achieve a reasonable outcome.

But given all that remains to be done, we think that the implementation by January 2017 deadline is highly unlikely.

Now, I would like to shift to the progress we are making on our five-point strategy, which as you know is to restore growth, drive operational excellence, simplify the organization, refocus on our diagnostic information services business, and deliver disciplined capital deployment.

So let's start with growth.

We continued to see improvement in our diagnostic information services revenues.

Diagnostic information service revenues grew by 3.8% versus the prior year.

We have now grown organically on an equivalent basis for the sixth consecutive quarter, and our organic growth rate continues to improve.

Our performance reflects our continued focus on advanced team-based and esoteric test testing by our clinical franchise team and expanding our hospital relationships.

We delivered solid volume growth across a number of areas, but with particular strength [of testing] for prescription drug monitoring.

We continue to drive innovation in advance testing, and what I would like to do is to share a few examples.

Well first, as you saw last week, we've been very active on hepatitis C testing.

As many as 3.9 million Americans are chronically infected with HCV.

We've recently expanded our HCV offering with the launch of a new test that meets a new FDA recommendation to help physicians determine the type, dose, or duration of newly approved HCV drugs from Merck and Bristol-Myers Squibb.

These new Quest services underscore the central role of diagnostics in delivering precision medicine.

A second good example is our new companion and complementary diagnostic solutions for non-small-cell lung cancer and melanoma.

And then finally, Zika testing.

We are prepared to address the growing Zika public health concern in the United States, which has been getting more attention [and then funding] recently.

We currently have two Zika tests awaiting FDA clearance.

In addition to advanced testing, our hospital strategy also contributed growth in the quarter.

Our acquisition of Hartford HealthCare's outreach business closed at the end of February.

Inspiration is off to a good start, and we are excited to expand our service offerings in Connecticut.

In addition to acquiring growth, our professional lab services strategy provides us with a strong growth of organic component of our hospital strategy.

Our latest organic, contractual professional lab services relationship with Barnabas Health, New Jersey's number one healthcare system, is off to a great start.

During the quarter, we began to manage laboratory operations at some of the hospital locations, and I'm pleased that all planned locations are now operational.

We can now focus on improving operational efficiencies with a great new partner in New Jersey.

This hospital professional lab services pipeline remains strong, and we continue to be encouraged by the growth opportunities.

We continue to make progress on the second element of our strategy, driving operational excellence.

Our invigorate program continues on track, and what I'd like to do additionally is to share some examples of how we're using technology to improve the customer experience, and at the same time, drive operational efficiency.

So what we have done is installed kiosks in a select number of patient service centers that are benefiting patients with shorter wait times, but also freeing our professional phlebotomists to do what they are trained to do: provide great service to patients.

I

n the area of logistics, our new pathfinder software platform is helping customers and driving efficiencies.

This platform integrates our dispatching, dynamic route optimization, and specimen tracking systems into one end-to-end logistics solution.

And lastly, more clients are using our QuestConnect self-service portal to get results faster and more efficiently.

As adoption has grown, we've seen a decrease in calls from clients for their test results.

So as you can see, these initiatives that were able to do make us more efficient, while at the same time delivering a customer experience that is better that will allow us to grow faster.

We continue to simplify and strengthen our organization, which is the third element of our strategy.

We are very proud to again be recognized as one of Fortune's most admired companies.

The fourth element of our strategy is to refocus on our diagnostic information service business.

Since our first investor day in 2012, we've taken a number of actions, including the sale of our HemoCue point-of-care products business, oral DNA, (inaudible) royalty rights, and the contribution of our clinical trials business to Q2 Solutions joint venture.

And most recently, we exited the Celera products business and announced the sale of our focused products business to DiaSorin.

With these moves, we have substantially completed our effort to refocus on our diagnostic information services business, which has grown at a 3% CAGR rate since 2013.

We expect the Focus sale to close in the second quarter, and when it does, it will generate approximately $300 million of pretax cash, which brings us to the fifth element of our strategy, delivering disciplined capital in the quarter.

As you all know, we are committed to deploying our cash in a balanced way, between investing in business, our business, M&A, and returning cash to our shareholders through buybacks and dividends.

We will deploy the after-tax proceeds from the Focus sale in a manner consistent with our strategy.

Now Mark will provide an overview on the first-quarter results and provide you an update on our 2016 outlook.

Mark?

Thank you, Steve.

Starting with revenues, consolidated revenues of $1.86 billion increased by 1.3% versus the prior year on a reported basis.

Equivalent revenues grew 3.6% for the Company.

Revenues for diagnostic information services, or DIS for short, grew by 3.8% compared to the prior year.

Volume, measured by the number of requisitions, increased 2.6% versus the prior year.

Recent acquisitions contributed approximately 20 basis points to volumes in the quarter.

Revenue per acquisition also improved 1.1% versus a year ago, with the benefit of favorable test mix.

The quarter had favorable compares related to both a milder winter and leap year, partially offset by an earlier Easter.

Our diagnostic solutions revenues were lower, reflecting the actions taken to refocus on diagnostic information services.

Adjusted operating income for the quarter was $281 million, or 15.1% of revenues, compared to $269 million, or 14.6% of revenues a year ago.

Adjusted operating income benefited from stronger revenues and our invigorate initiative.

For the quarter, adjusted EPS, excluding amortization, was $1.12, 6.7% better than a year ago.

The Company recorded after-tax charges totaling $45 million in the quarter, $30 million of which is associated with the debt retirement in the first quarter.

The balance of charges relates primarily to restructuring and integration costs.

These reference charges reduced our reported EPS by $0.32.

Bad debt expense as a percentage of revenues was 4.6%, compared to 4.3% a year ago.

As a reminder, bad debt expense is typically highest in the first quarter, due to increased patient responsibility associated with high deductible plans.

The drivers of the increase were a continue shift to greater patient responsibility and a change in our business mix, as our clinical trials and products businesses had lower bad debt rates.

Our DSOs were 44 days, 1 day lower than a year ago and 3 days lower than the prior quarter.

Reported cash provided by operations was $143 million in the quarter compared to $52 million a year ago.

Excluding the debt retirement impact in both periods, operating cash flow would have been $190 million in 2016 and $130 million in 2015.

Capital expenditures were $47 million in the quarter compared to $56 million a year ago.

I want to mention a few factors I'd like you to keep in mind to help you understand our outlook for the rest of the year.

First, after we close on the Focus Diagnostics sale, we expect to provide an update to our revenue outlook to reflect our exit from our products businesses, including both Focus and Celera products.

This update will reflect a change to revenues, but at this time, we do not anticipate changing earnings guidance.

Second, I would like to discuss the two recent hospital relationships we announced and the impact of each.

In February, we completed the acquisition of Hartford HealthCare's lab outreach business.

In this relationship, we will be paid on a fee-for-service basis by payers at our traditional rates.

This is good for patients and payers, as our commercial rates are typically more competitive than those of hospital labs.

Like M&A transaction, margins will improve as we integrate the business, eventually reaching our historical margins for that market.

During the quarter, we began to manage Barnabas Health's hospital laboratory rate operations under a new professional lab services, or PLS agreement.

Traditionally, these agreements, which represent organic revenue growth, cover management of inpatient and outpatient testing for the hospital and do not require the same level of services, such as phlebotomy or logistics.

Here, we bill and collect directly from the hospital.

Due to the nature of this business, Barnabas will pressure our revenue per requisition as we move through the year.

In addition, keep in mind that PLS margins for any given relationship will improve over time, as we implement our processes and protocols, though it will lag our Company-wide average.

We are very pleased with our first-quarter performance, which was in line with our expectations.

Given that, our guidance before special items continues to be the following: revenues to be between $7.52 billion and $7.59 billion; adjusted diluted EPS, excluding amortization expense, to be between $5.02 and $5.17; adjusted cash provided by operations to approximately $1 billion; and capital expenditures to be between $250 million and $300 million.

Now let me turn it back to Steve.

Thanks, Mark.

Well, we are off to a good start in 2016 with a solid performance in the first quarter.

Adjusted earnings grew by approximately 7% and our diagnostic information services revenues grew by nearly 4%.

And we are largely completed with our strategy to refocus our business.

So now we'd be happy to take any of your questions.

Operator?

(Operator Instructions)

Amanda Murphy, William Blair.

I had a question actually on just given your focus on advanced testing that you talked about and the mix shift that you had this quarter.

I guess if you look at Medicare, they've put out some pricing on some of the next-gen panels that maybe isn't so great.

And I think the rationale, obviously, is that the older codes are based on [sanger] and with next-gen sequencing you gain some efficiencies.

So, I just had a question round lot as you move more into that type of testing and it becomes a bigger part of your business.

What is your perspective on Medicare pricing and your ability to service that market in a lower pricing environment?

And then two, how our private payers looking at those types of tests?

And are they recognizing the value-add from looking at more genes in the same assay and the difficulty around interpretation the comes along with that?

We appreciate the question.

First of all, as we all know, this an evolving market.

We entered the bracket market.

It is a growing market, and we are gaining share.

A portion of our growth is coming from our growth that we are seeing from our entry in bracket, so we feel good about that.

At the same time, we also realize this is far from a commoditized market.

We offer a great solution in the marketplace.

We offer great value.

Yet, there's different price point in the marketplace, and there's new contributions being added every day to the panels, which I believe will continue to advance the science going forward.

So that's not going to stop.

With the specifics of Medicare and the codes, Dan, why don't you bring us through the view on the panels and the Medicare and eventually with PAMA, how could this fold out?

Yes, so specific to the BRCA coding changes that I think that came out earlier this week, our BRCA offerings leverage some different codes, codings, getting more and more complex with respect to genetic testing.

So it's something that we do use some different codes based on the methodologies that we are following.

And we also working very closely with a number of payers on how they would like to see things coded.

So there's constant dialogue, and it's not just coding, it's also about looking at other things that go along with the services.

How we leverage the information, how we share the information back with the providers as well as payers.

How we work through prior-off processes when necessary, because many of the payers have different approaches to approvals and what types of information they require to get paid on these claims.

So as Steve mentioned, it's an evolving marketplace that will continue to move.

And as PAMA moves forward, many of these codes could, we would expect, get refreshed as well as part of the whole PAMA data collection process.

I just had one unrelated question.

You've also talked about working with Quintiles beyond the central lab to leverage the diagnostic data between the two companies.

Have the moved forward with that or can you provide an update there?

Yes we have.

We continue to work with Quintiles in a very productive way.

As I mentioned in the comments that with our refocusing strategy, we are very pleased with our integration of our central lab clinical trial business into Q2 Solutions.

That is off and running well; we are very pleased with the first plans that we have in place for integration being completed, so that's all very, very good.

And as we said, with our relationship, there's two other areas that we want to collaborate with Quintiles.

One is around deeper engagement with direct discovery around companion diagnostics and complementary diagnostics.

And what we're doing is trying to understand where they engage with pharma and where we can engage -- where we have real specific opportunities to work together, and I would say that's opportunity by opportunity.

And then second is how we can more smartly use our data and their data and other data to accelerate direct discovery.

And again, I would describe it this way is we have the dialogue.

We have put in place an outline of how we will approach it.

There's some work underway, and we're testing the logic with some potential customers.

So work is in progress, more to come, but we still believe there is still that opportunity there.

But working at it carefully because it is, like BRCA, an evolving marketplace.

Got it, thanks very much.

Thank you.

Gary Lieberman, Wells Fargo.

I'm not sure if you guys mentioned it, but where we on the integrate run rate savings and where do you expect to be from here?

Mark, why don't you take that?

We did not mention it, Gary.

We haven't update it.

Typically, we do that at the end of a year.

So we talked about $600 million of opportunity from 2015 to 2017, and we did report that we delivered over $200 million in 2015.

So we never laid out how that $600 million would break and year by year, but just by mathematics, you can see that we're certainly not behind.

And we feel confident that we're on track to deliver the $600 million that we shared at the investor day.

We still feel bullish about the prospects there.

What we wanted to share in my opening remarks are the broader technology-based innovation that we bring and this thinking about how you become more efficient and how you have a better patient experience.

We are finding more and more examples where frankly, we can do both and we're pleased about that.

So off and running in a good way in the first quarter.

We still have fabulous prospects for 2016, and we still have our sights, with good line of sight that that $600 million that Mark spoke to.

Gary, I'm sure you've seen that in 2015 we grew our operating margin by over 100 basis points, and in the recent quarter we improved it by 50.

So, that's -- as we said, certainly revenue growth is helping some of that with the drop through.

But invigorate is a critical component of us continuing to improve our margins.

Great.

And then you guys mentioned having a Zika test in clearance.

Can you give us the timing for that coming to market, and then, is there any way to quantify your initial expectations for what the volume in that test might be?

As I mentioned in my introductory remark, we have two solutions with the FDA for now.

We cannot comment on what the timeframe will be for that, but we're optimistic about that and optimistic about the opportunity.

And as we all know, there has been a lot of dialogue about the changing nature of the potential risk for the American public.

We think we'll be very well positioned, if we have our test approved, to be able to deliver good solutions in the marketplace to deal with that risk.

So we are encouraged.

Any thoughts from a clinical perspective on how pervasive that test is going to be?

Hard to say.

I mean, you read the newspapers as do we.

We're close with the Centers for Disease Control.

We are staying close to what the clinical protocol would be and how we can implement that, and it's evolving like so much in healthcare every day.

We are hopeful that we can make a contribution like we do in so many areas with this as well.

AJ Rice, UBS.

Thanks, everybody.

Hello.

First, let me say good luck to Dan and welcome aboard, Sean, there.

I might just first drill down, obviously, you're showing a nice sequential improvement in both volume and pricing, 2.6% and 1.1%.

I know you said that volume was helped by about 20 basis points with the acquisition.

Can you give us any more color about what the underlying apples-to-apples volume was, if there's anything else that needs to be backed out?

Or should we think of that as really the underlying trend?

And similar on the pricing, is there any breakdown between mix and absolute pricing in your mind?

AJ, the numbers that we've shared are accurate, so 20 basis point of organic.

So there is really nothing else that needs to be backed out.

As we did mention, the compares were favorable in terms of the extra day and better weather, although weather wasn't perfect.

We did have a significant snowstorm that really paralyzed DC and Baltimore for a while, but definitely better than the prior year, partially offset by and earlier Easter and the holidays and vacations that tend to take place, which definitely impacts our business.

So that's only other consideration, but there's nothing else in that performance that you should be taking into account.

In terms of the revenue per req, which is not price, we did have continued price headwinds, but they were more than offset to the extent that we actually got 1.1% lift in our revenue per req, really driven by test mix.

So test mix not only offsets price, but actually gave us 110 basis points lift on our revenue per req, and that's certainly an outcome of some of the innovation that we've been driving on the new test that were introducing and our focus on higher value offerings and really being priced disciplined as we continue to negotiate and operate in the market.

Let me just add that we feel really good about progress made on growth.

Hopefully, you picked up in the script we thought it would be helpful to highlight our growth in what we defined as diagnostic information services, which grew by about 3.8%.

And the reason why we did that is we know there's a little noise, if you will, with our changes with the refocus strategy with diagnostic solutions.

So it's a very clean compare.

And also if you go back and look at the historical growth rate now, three-year CAGR going back to 2013, it grew by about 3%.

So as we shared before, we are on a march of improvement and growth sequentially and year on year, and we think this is just another quarter of progress against that goal.

Okay, and maybe just a follow-up on one area that you don't get asked as much about anymore, but anatomic pathology.

I know that that was a drag for a while and it's dropped below 10%.

Is that at this point bottomed out or is it even possibly growing again?

Can you give us a flavor on that?

Sure, we have a very big business.

We've made a lot of changes over the last few years, integrated into our regional operations.

We feel good about that.

And actually this quarter, we actually saw a small single-digit increase in tissue this year.

So it's a becoming less of a drag that, as you say before, it once was.

So we feel good about the progress we've made and improvement in the underlying business.

Lisa Gill, JPMorgan.

Good morning, thanks for the question.

Just really to follow up on a couple of things.

One, as we think about the impact of the leap day in this quarter as well as the overall utilization, I think in the past, Steve, you've talked about high-deductible health plans having an impact in the first quarter where services are pushed back toward the back half of the year, as well as the impact on the bed debt.

But can you maybe just talk about what you're seeing in the overall utilization environment?

And is it possible to quantify what the impact was from the leap day?

Yes, so, as you know, it's complex.

And we do the best to try to understand the underlying business, so let's provide some perspective.

I will start and then I will turn it to Mark as well.

As we've shared before, what we do is we take a number of our accounts, so we know our accounts.

And we go back and do a dipstick reading, if you will, on year-on-year comparison on volumes within those existing accounts.

What we'll share with you is that there's still a notable underlying improvement or decrease in those account, so it would describe it as stable, the volumes from those accounts.

And then secondly, is Mark will share what we think the extra day would do and also the quality of the days, given some of the holiday effects on the first quarter.

And then also the notable bad winter, particularly in Boston last year and that.

So Mark, why don't you bring people through that once again.

As Steve mentioned, I don't want to suggest this is precise; however, with that said, if you take in a 13-week quarter times five days, you get 60-plus billing days in a quarter.

We have an extra day.

So basically, the math would suggest we got about 150 basis point lift, all other things equal, for the extra day.

And then the weather, as we said, is imprecise, but probably something north of 100 basis points according to our estimate.

But as we also mentioned, the earlier holiday, the Easter holiday had a negative headwind for us this quarter.

So we still feel overall that the underlying business grew at 1% in terms of organic revenue for the quarter.

That is a continued improvement; we feel really good about it.

And then we had the extra bonus, as you noticed, of the leap day and also the better weather, which certainly helped us.

Just to follow-up on -- close off on this topic, and we're happy too that this was our expectation for Q1.

We said this in our remarks.

We hit our expectation for revenue.

We hit our expectation for EPS.

We've made some investments in the first quarter to continue to invest in accelerating our growth throughout the year.

When we get into some of the effects that had on SG&A, I'm sure you saw that.

But we're tracking to our plan for the year and we're consistent with our guidance for 2016.

Then, if I think about just one other impact, at least versus our model, was the tax rate and the effective tax rate coming in higher than we anticipated.

Is there something there that is more one time for this quarter, or should we think about this being more of a run rate from a tax-rate perspective?

I would say something in between, Lisa.

So it wasn't driven by a one-time event, but it will not be the run rate for the year.

So really each quarter is dependent on some mix items within our business between our international and our domestic.

And so again, we didn't break down by quarter.

We gave you some guidance for the year and you should assume that the guidance for the year is still appropriate.

That's helpful.

Thank you, Mark.

Isaac Ro, Goldman Sachs.

I want to talk a little bit about the operating leverage in the business.

You've obviously done a lot of restructuring over the last few years, and now you're getting a little bit more top-line growth.

If I look at my model, there wasn't as much operating leverage as I might have hoped for and I'm wondering if you could talk a little more specifically around where you need to be on revenue growth to see better margins.

Does it have to be closer to the midpoint of that 2% to 5% target that you have?

Or is there -- I know there's some other factors, just seasonally this quarter, but I'm just wondering if you could talk more generally about operating leverage and what it will take to see a little more.

Thanks for the question, Isaac.

Growth provides operating leverage.

It doesn't need to be several hundred basis points.

As Steve mentioned earlier, we made a conscious choice to make some investments.

So as we put our plan together for the year, obviously, there's always an opportunity to deliver even more earnings, but we want to be long-term focused as well.

We have a couple of critical things going on in the Company that we think will drive future growth and are important, such as the launch of Quantum, our data diagnostics initiative.

We've talked about one of the major pieces in that being our partnership with Inovalon and getting us in a position to drive the growth that we aspire to and we think is possible.

We really needed to make some investments.

We've also been investing in our what we call our everyday excellence initiative, which is critical around what people do every day in terms of customer excellence and focus on quality.

And those required some investments earlier in the year, just to cite a few examples.

So it wasn't a question of how much operating leverage.

As Steve said, this is the plan we put together.

It did involve some incremental investments in the first quarter that we've made a conscious decision to do so in that quarter.

If you look at the lift of gross margins, we feel good about that year on year.

We, despite what we just shared, we did continue to seek improvement in our operating income margin, which we feel good about.

And as you know, we've been on a long track record now of improvement in operating income for a number of consecutive quarters.

So we feel the growth rate, coupled with improvement in EPS is right in line with what we want to started with the year and we are off to a very good start.

Got it, that's helpful.

And then maybe just a little bit more of a speculative question around the state of the managed care sector, given the potential consolidation we're going to see there.

Can you talk a little bit about your plan to try and capitalize on that consolidation if and when it happens?

And to what extent should we be thinking about the opportunity to gain share?

And as part of the conversation, I imagine there is always a conversation about price when you try to get the share.

But just curious about how you're planning for it conceptually and from a process standpoint, how we should think about timing if and when those deals go through.

Thanks, Isaac.

First of all, we think conceptually this trend, in terms of consolidation in healthcare overall, is consistent with where we think we're going to continue to build value as Quest Diagnostics.

We continue to offer and it's getting stronger and stronger a day, a great value proposition in the marketplace.

We offer great solutions, we offer great service at very, very affordable and good prices in the market.

And we continue to work on our presence and our access with all the healthcare insurance companies.

One of the things we invested in, in the first quarter, along with what Mark mentioned, is improving our team and also our reach into the healthcare insurance portion of our sales force.

And so we've made some adds there.

We've continued to invest in that, and we put some of that in the first quarter as well.

So I would say that we are now as, if not more, engaged than ever before with this evolving marketplace.

Obviously, we are very engaged with the national players.

We feel very good about those relationships.

We have relationships with all of the national players.

But as I said before in my comments, we can't lose sight, because a large part of this country and this market that is also affected by all the other players, the regional players and the other [blues], and we're as equally engaged on that portion of the market as well.

So we think, going back to where I started, conceptually given where the market is headed, that it plays very nicely into what we're all about, which is being the strongest in what we do and very focused on diagnostic information services that offer incredible value to delivering great quality health care at affordable prices.

So nicely positioned for the short run but also the long term.

The other comment I'd make is that to your pricing question, I think it's really related to what are some of the critical things that people are going to ask about in terms of consolidation.

And the two areas I would point to are access and value.

I think we do really well in both of those.

So as a national lab, we can help to ensure that as this consolidation takes place, while partnering with those payers, we can ensure that access remains or improves.

And the second piece is as you are aware, they already get excellent value from us.

So we're part of this solution.

And certainly that doesn't require, in our minds, additional price concessions.

We already can bring in tons of value by just further consolidation into Quest.

Thank you for the color.

I appreciate it.

Ricky Goldwasser, Morgan Stanley.

This is actually Ashley on for Ricky this morning.

Congratulations, Dan, on the new role.

Thank you.

You said in the past that, and this is kind of piggybacking on Isaac's question, to start off with real quick.

But you said in the past that you need 2% volume growth to start seeing leverage down to the bottom line.

So at 2.6% for the quarter and you did expand margins, are you expecting us to see an acceleration in margin expansion through the rest of the year?

Or is what we're seeing in Q1 more of a steady state?

Hi, Ashley.

It's Mark.

I don't believe I've ever made the statement that we need to present volume growth in order to leverage margin.

What I talked about was we're going to grow our earnings, not earnings per share, but earnings faster than our revenue growth.

And really we've been focused more on revenue than volume.

Because as we've also talked about, not all volume is created equal and there's definitely a fair amount of volume in this market that is not value creating.

So we're focused on the volume that has a reasonable revenue, a reasonable price.

And as we do that and we laid out a picture of 2% to 5% growth, which 1% to 2% we said would come from M&A.

And I also pointed out that I was not counting on significant earnings from unexecuted M&A when we talked at the investor Day in late 2014.

So really, the earnings were coming from the book of business largely, that we had at the investor day.

Then we would grow that 8 to 10.

And I said there were three pieces to that.

One was we did get some continued synergy value early in 2015 for some of the acquisitions we had done in 2014, including Solstice.

The second piece was our invigorate program being large enough to offset price headwinds that we anticipated, as well as our wage inflation.

And then the third piece was as we did improve our overall revenue momentum and returned to growth, that we get a drop-through and a reasonably high drop-through on that.

So it doesn't require 2%.

As I said a minute ago, any sort of revenue growth is going to have, and especially in the short term, a reasonably high drop-through.

In terms of the balance of the year, we've given the guidance.

I'm not going to specifically do the math, but you can see what we are expecting in terms of our overall revenue and our earnings.

So I think you can see that we are projecting a consistent improvement in our margin, but haven't talked about accelerating or decelerating or anything like that.

That's helpful.

Thank you.

And then just a really quick follow up on revenues, because they came in a little bit above what we were expecting.

Was there any pull through from 2Q or do you expect -- was that just more of a steady-state as well?

It's all straight up business within the quarter.

I wouldn't say there was any pull through from this quarter.

Our model, we're not a products business, so our model is basically to bill when the service is performed.

So there's really very little swing in any given quarter from one quarter to another.

It's very clean.

(Operator Instructions)

Ross Muken, Evercore ISI.

Hi, this is Elizabeth Anderson in for Ross Muken.

You guys have obviously talked about some of the opportunities in hospitals and managed care over the past call and on this call.

What do you think the other vertical integration opportunities might be, like for example drugstores or something like that?

First of all, I'm glad you commented on the hospital strategy; it's is a big part of our growth strategy and we saw a portion of our growth coming from that in this quarter.

I mentioned -- there's two aspects of her hospital strategy.

One is related to what we call professional lab services, and a great example of that is what we're doing now with Barnabas, and that's off and running in a good way.

And some portion of our growth came from Barnabas ramping up and it's continuing to ramp up.

Second is we do engage with hospital systems, and typically in these conversations, some consider selling their business to us, their outreach business.

And Hartford Hospital is another great example of that happening.

And we started the integration of Hartford, so that's off and running.

So our hospital strategy is well underway; we feel good about the growth prospects.

And then your specific question is -- I will share that over the last several years with healthcare becoming more and more consumer-oriented, we are becoming more consumer-oriented.

And we have brought a lot to the marketplace in a variety of places.

Let me comment on a few.

First of all, we now serve up our results with an application called MyQuest.

This came out about two years ago, and we're approaching 3 million registrations for that service, which is remarkable.

People are quite interested in results and we're serving that up, and for a small fee, will be able to look back at their history.

Second, as you know, we have a great and growing wellness business that we invested in over the years, and then also augmented with our acquisition of Summit, where we're deeply engaged with employers and healthcare insurance companies.

Third is, we have unparalleled access, to your specific question.

We have over 2,200 patient service centers.

We have over 3,500 phlebotomists in physician offices, so close to 6,000 access points for testing.

And we're trying to understand how we can augment that with pilots that we're running.

And we've done some work with Walmart, where we have pilots off and running in some of their stores, because they are looking at healthcare and how they can provide access to healthcare in their stores.

And what I would also share is we're exploring other possibilities with retail in general, because I would say retail in general is very interested in how they can assess to providing more access to healthcare.

Because there is a fair percentage of ordered [requisitions] for laboratory testing that go unfulfilled.

And we believe if there is better and better access, it's an opportunity for us to fulfill those requisitions and provide better healthcare.

More to come on this, but we're becoming increasingly more and more consumer-focused and oriented.

When we have more, we will share it with you, but work is in progress.

Perfect.

That's really helpful.

Thank you.

Bill Quirk, Piper Jaffray

First off, Steve, on PAMA, thank you very much for sharing the likely delay.

I do think that is pretty consistent with many on the line here, our thinking as well.

To think on a go-forward basis, where are you guys thinking about in terms of date for the final regulations?

There's certainly some talk here that it will be out before the election.

We really have shared what we know, and that is that we all know it's been delayed.

We have shared our perspective.

We think it's highly unlikely, given we're sitting here in April of 2016, that somehow magically we're going to get the guidelines and we're going to get all the data and they're going to refresh the clinical add for fee schedule by January 2017.

That is highly unlikely.

With all that said, they've missed many dates, and so we don't want to project when [they're back].

Eventually, we will come up with a final guidance.

But we're hopeful that we'll see something this year.

And if we see something this year, then they will lay out the exact timetable.

What we've been very strong on is when the come out, they need to give us enough time.

We've been very strong on this with our trade association, American Clinical Lab Association, to make sure they give us enough time to understand what they are asking for, allow us to put in place the systems, and then allow us to get the data, send it to them.

And then they need some time to go through that.

What we've shared is once they communicate the final guidance, that's at least 18 months for us to go through that whole cycle before they can refresh the clinical add fee schedule.

But the question you asked, we really don't have any more insight than what we have said.

And that is, we're hopeful that we will see something this year, and then from that, give us enough time to work through it.

And then that will determine the date that they refresh the schedule with.

Got it.

And then just staying on another controversial topic, the FDA [LDT] regulation, or the final rule rather.

Also hearing that this may be out as soon as before the election.

Obviously, there's a couple of legislative potential alternatives working their way through Congress as well, and so I would love to hear your latest thoughts there.

Thanks.

First of all, as you know, our perspective on this is the FDA does not have the statutory authority to regulate laboratories.

We've been consistent on that.

With all that said, we've been working with the FDA.

We've been working with energy and commerce in the House, and also with a committee in the Health Committee in the Senate on a potential legislative solution to this.

We do believe that a legislative solution is the best option for this country when it comes to the FDA potentially having some more oversight, and also rationalizing how they integrate that work with CMS and CLIA.

And we're actually encouraged, you might not have seen it, but actually this week, the House Appropriations Committee just included some new language in their Agricultural FDA Spending Bill that just came out of committee.

What they are stating in this bill is that in their view, the FDA should support what Congress is doing to try to put together a legislative solution for this FDA discussion that's going on.

And not issue their guidance.

So that's just come out of committee.

We obviously need to go to the House and then go to the Senate, but we're encouraged by that.

We think that's a good piece of work.

We're obviously supportive of that and we're continuing to work on making sure that this goes through the process in Washington.

More to come, but this is a step in the right direction, we hope.

Got it.

Thanks a lot, guys.

Brian Tanquilut, Jefferies.

Good morning, Steve.

A question for you revenue per requisition.

In the past, you guys have commented that we should expect the slight decline in that statistic [3 point] (inaudible).

Given that it's still only downturn, is there any change to that view that we should see that inflect after 2017?

Mark?

Brian, we wouldn't expect that trend to change within the core fee-for-service business.

As we mentioned, as we increase our professional laboratory services book of business, just based on the mathematics, that's going to reduce our revenue requisition.

We've also talked about the fact that from quarter to quarter it could change.

So for instance, our wellness business has some seasonality, as you might imagine.

It's very heavy towards the back end of the year.

As employers are getting ready for benefits enrollment plan, a lot of them sponsor that kind of testing later in the year.

And that wellness business does have a lower revenue per req, but as we've also shared, that doesn't necessarily mean a lower margin.

So other than some of the quarter-to-quarter variability and then the mathematics as we build a book of business and PLS that might grow faster than our core book, really you should expect that the revenue per req trend is something that as far as we're expecting, will continue as we continue to come out with new innovative solutions which tend to have a higher price and a higher revenue per requisition.

Some portion of the 110 basis points improvement this quarter for revenue per req is related to what Mark just said around our stronger mix of more advanced diagnostics in our portfolio, which is you deliver part of our strategy.

As we shared before, we're all about revenue growth and we're all about earnings growth.

And revenue per req is an interesting calculation, but there's a lot, as we all know, that goes into that calculation with multiple variables.

As we go through our business plan and execute it, there will be some changes in the calculation.

And one of those, as Mark pointed out already in our comments, our professional lab services business we think is a great business.

It offers great growth opportunities, great return on invested capital.

But on a revenue price basis, it would put some pressure around that calculation.

But that does not in any way affect our optimism about the opportunity of that business.

Got it, my follow-up for you, Steve, clearly you're very excited at Hartford and Barnabas.

So what did the pipeline look like for hospital deals at this point?

As we said, it's very robust and it's encouraging.

The more we get into these dialogues, the more we understand we're on the right track.

The hospitals are quite interested in us helping them with their lab strategy.

That lab strategy includes what we can do for them, if we don't do it already, around advanced diagnostics for their inpatient environment.

What they can do with us to become more efficient in their hospitals, and that's what we're doing with Barnabas.

And then finally, as many are thinking that it's best for them to rely on Quest for all of their diagnostics needs, and in some cases like Hartford, they sold us their outreach business.

Typically, when we get in there, on any of the three fronts, we have a dialogue about all three.

And we think it's a way of the future, and we think it's a great growth opportunity.

And we think we made the right investment over the past couple of years and it's starting to pay off and you see it in our growth.

Bill Bonello, Craig-Hallum

A big picture question.

Steve, since you've come on board, you've done a tremendous amount to clean the Company up in terms of what it looks like, as strategically obviously divesting a lot of what might be non-core assets.

You guys have paid down a significant amount of debt.

I think the leverage is pretty reasonable at this point in time.

You generate free cash flow.

How are you thinking about your use of capital?

I would be curious on two things.

One, what are your thoughts around any large-scale laboratory acquisitions?

And two, about something, I know you've expanded your share repurchase, but about something more aggressive on that front?

Thanks, Bill.

I will start and then turn it to Mark.

Hopefully, what you have seen from us, and we deliver on it quarter upon quarter, is we do what we say.

So we've launched our five-point strategy back in 2012, and part of that is to refocus on our diagnostic information services business.

We think the business is a good business.

We think there is plenty of growth prospects in it, and we have our strategies to grow that business.

And we're happy to actually that, if you go back and do a look-back, and I said this in my remarks, if you look at 2013, and look at the CAGRs since then, our Diagnostic Information Services business, it's up by 3%.

Included, Bill, in that 3% is our delivered strategy to look for acquisitions that are strategically aligned with that strategy and that are accretive, that we can make money at.

And we said that we believe there's 1% to 2% top-line growth from those type of acquisitions, and we continue to deliver on that.

Hartford Hospital continues to be a good example of that this year.

Then finally, when it comes to our fiscal and capital deployment, we've been, again, very consistent with doing what we said we would do, returning the majority of our free cash flow to our shareholders.

We have been consistent with that in regards to raising our dividend, our share buyback program.

Finally, as we've been investing in the business, which is a big part of what we do every year with our capital budget, and then our acquisition strategy is consistent with our growth strategy.

Again, at the same time, looking for those assets that we think we could make some money at.

So we're doing what we said we could do, and we're tracking well against it.

We're very pleased that with the sale of Focus, hopefully we will close that in the second quarter, as I said in the remarks.

Our refocusing strategy is largely complete and behind us.

So that portion of our portfolio change is in good shape.

So let me turn it to Mark to add more color to this.

Thanks, Steve.

Bill, thanks for the question.

We've been very intentional with our strategy.

As Steve said, hopefully, as people look at what you laid out in 2012 that we've been doing what we told people we would do.

And so therefore, while we always have fiduciary responsibility to look at any opportunities for cash deployment that seems like the best way for our shareholders to recognize value and a return, at this point, we've been pretty consistent saying M&A of 1% to 2%, a return of majority of free cash flow to shareholders.

And so, therefore, when you do the math, you can see that we could fund a 1% to 2% top-line growth within our operating cash flow.

As we've also said year to year depending on what opportunities were there, we could always potentially spend a little more and drive a little more growth in one given year, or we could potentially buyback more shares.

So we're not going to be wed to any sort of formula, because as you might imagine, as we go through every deal, we want to make sure that any deployment of our cash and our capital is the best opportunity in that window to create shareholder value.

I also want to point out that by increasing the dividend 5 times in a period of several years, we've gotten to a significant portion of that coming from the dividend.

And so versus the uncertainty of how much we might buy in any given year, so on and so forth, we've made a significant commitment to our ongoing shareholders to return a chunk of cash through that dividend.

That gets us most of the way to the 50%.

And then anything beyond that in terms of share repurchases are really going to be driven by, in a short period of time, a lack of M&A opportunities that see more value creating than buying back share.

So nothing that you should expect in terms of significant changes in our leverage in the near term.

Certainly nothing you should expect, and I think your question was around more significant share buybacks.

I certainly wouldn't go to the balance sheet to do that.

So whatever we do will be driven by our operating cash flow or by some strategic aspect of divestitures such as we did with [birdnib] in the past.

And while we haven't said specifically what we're doing with Focus, we can assure you we will deploy the cash in a manner that is consistent with what I just said.

Great.

Thank you.

Nicholas Jansen, Raymond James

Two questions.

One on in the quarter you spent $135 million on acquisitions.

I was just wondering, get a sense of, is that entirely on the Connecticut transaction?

And if so, what are these types of outreach multiples that you're paying?

And then the second question would be on the bad debt.

Obviously, it's seasonally always higher in 1Q, but sequentially it was up about 110 basis points.

If I go back in my model the last few years, it's usually 50 to 60 basis points sequentially.

So just trying to get a sense of was there anything moving parts here that was a little bit higher low than what you were expecting either this quarter or last quarter?

Thanks.

Sure Nick.

Appreciate the questions.

First off, on the acquisitions, yes that was a Hartford Health acquisition.

In terms of multiples, as I'm sure you can appreciate, there's really no multiple that makes sense in terms of the sellers' revenue and EBITDA, because the business in our hands is completely different.

So the revenue tends to be lower, as we've mentioned, as we move the reimbursement to our negotiated rates.

But obviously in all cases, when we do an acquisition, the EBITDA and the earnings are much better than what the seller had.

So really if the best way to think about it is that because we apply the financial metrics, which we do around ROIC hurdle around an NPV hurdle, and really driving earnings accretion in the near term.

The math would make it impossible for us to overpay.

And so what I've said to people on a pro forma basis, if you saw our models you'd see that the multiple, what we're paying on an EBITDA multiple would not be above our overall market multiples.

So it would be in the ballpark of lower.

So you can feel good about we're not going out and buying companies or assets or businesses at a significantly high premium.

On the bad debt question, we did have a one-time favorable adjustment in Q4, if you look back at what we've shared in the quarter.

So the bad debt was not a run rate Q4 bad debt; it was favorable given a one-time collection that we had that helped Q4 disproportionately.

So the sequential, historical sequential would be impacted by that.

That's why you're seeing a larger increase from Q1 -- Q4 to Q1.

But also the other thing is that we do have this continued increase in high deductible plans.

And while our invigorate program is very focused on offsetting a lot of that mix shift through earlier collections, upfront collections, or PFCs and other initiatives we have going on, the reality is that the bad debt rate on patient responsibility is [a quarter] magnitude higher than the rest of our business.

We will continue to work on that.

We expect to certainly mitigate that impact, but it does have some impact.

Thank you for the color, guys.

Thanks again for joining our call today.

As you can hear, we're making good progress executing our strategy.

We want to thank you for your time, and have a great day.

Thank you for participating in the Quest Diagnostics first-quarter 2016 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 866-509-6774 for domestic callers, or 203-369-1933 for international callers.

Telephone replays will be available from 10:30 AM Eastern time today until midnight Eastern time on May 19, 2016.

Goodbye.