德維特 (DVA) 2010 Q1 法說會逐字稿

Good afternoon. I will be your conference operator today. At this time, I would like to welcome everyone to the DaVita first quarter 2010 earnings conference call. All lines have been placed on mute to prevent any background noise.

After the speakers' remarks, there will be a question-and-answer session. (Operator Instructions). Thank you. Mr. Jim Gustafson, you may begin your conference.

Thank you, Tamika. And welcome, everyone, to our first quarter conference call. We appreciate your continued interest in our Company.

I am Jim Gustafson, Vice President of Investor Relations, and with me today are Kent Thiry, our CEO; Rich Whitney, our CFO; and LeAnne Zumwalt, Vice President; and Luis Borgen, who will be our CFO starting next month.

I'd like to start with our forward-looking statement disclosure statements. During this call, we may make forward-looking statements within the meaning of the federal securities laws. All of these statements are subject to known and unknown risks and uncertainties that could cause actual results to differ materially from those described in the forward-looking statements.

For further details concerning these risks and uncertainties, please refer to our SEC filings including our most recent Annual Report on Form 10-K. Our forward-looking statements are based on information currently available to us and we do not intend and undertake no duty to update these statements for any reason.

Additionally, we would like to remind you that during this call we will discuss some non-GAAP financial measures. A reconciliation of these non-GAAP measures to the comparable GAAP financial measures is included in our Form 8-K submitted to the SEC and available on our Web site. I will now turn the call over to Kent Thiry, our Chief Executive Officer.

Thank you, and thank all of you for your interest in DaVita. We had another solid quarter. I'll cover five quick topics. Number one, clinical outcomes; number two, bundling; number three, government investigations; number four, outlook; and number five, industry dynamics.

First, clinical outcomes which we always cover first because we are first and foremost a caregiving Company serving about 119,000 patients now. First, with respect to adequacy, which is essentially how well we are doing at removing toxins from our patients' blood, this quarter 96% of our hemodialysis patients had a KTRB greater than 1.2.

Second, with respect to vascular access, 66% of our patients had [fistula], which is a preferred form of vascular access. Third, anemia management, physicians that manage 65% of our patients to hemoglobin levels between 10 and 12 over the last three months. For these and virtually all other clinical measures, our patient outcomes compare very favorably to the national averages.

Our high quality clinical care not only results in healthier patients, but it also drives reductions in hospitalizations and surgical procedures and, therefore, significant savings to the American taxpayer. Topic number two, the bundle. There's simply no new information to report. We are waiting for the final rule just as you are.

CMS is still likely to release it in late May or June. While we hope the rule will be much better than the intro rule, in fact we expect it, I want to remind everyone that a bad bundling rule would mean that centers will close which would hurt both access to care and the quality of care.

Topic number three, government investigations. We were recently notified by the Department of Justice that it is conducting a civil investigation into the Company's financial relationships with physicians. We have not received any more detail than that, but are expecting a subpoena sometime in the near future.

As most of you know, investigations of this nature generally take years to conclude. Also as most of you know, our comments at this stage must necessarily be quite generic, namely, with 34,000 teammates in more than 1800 locations across the country, it would be naive to assert that we are sure that we are perfect everywhere and every day and we wholeheartedly respect the government's responsibility to ensure the appropriateness of our and other provider practices.

However, for any perspective shareholders out there listening and are doing due diligence on DaVita, you will find that our ten-year track record with respect to these types of investigations is almost uniquely positive in the world of American healthcare.

Topic number four, outlook. Very simply, we are maintaining our 2010 operating income guidance of $950 million to $1.02 billion. Looking into 2011, everyone knows we face the challenges and opportunities of adapting to the new bundle and that could mean and probably will mean two to four quarters of transitional activities.

The fifth and final topic, just stepping back for a moment and looking at fundamental industry dynamics and the fundamental risk/reward characteristics of your investment or potential investment in us. On the risk side, there's no understating the fact that there is unusual government rate pressure these days in all of American healthcare and there is normal private rate pressure. There's simply no getting away from those risks.

On the upside side, however, point A, the bundle does create $1.1 billion of innovation potential and in that sphere scale helps. Point B, if government funding becomes more inadequate, centers will close and given CMS shares accountability for 88% of American dialysis patients, center closings are appropriately highly visible and highly sensitive.

Point C, the structure of our industry and, of course, our own business model, therefore, is still marked by, one, stable demand. Number two, distinctively transparent economics and clinical performance with 85% of the centers being stand-alone and all doing essentially one DRG.

Point three, about 75% of the centers in America being owned by rational shareholders who recognize the sad fact that the government does not cover the expenses of taking care of the patients for whom they have assumed responsibility and, therefore, the private sector must unfortunately subsidize that deficit, and point four, the proximity and continuity of care for these patients is incredibly important.

And then the final point to be made on the upside side is recently three of the MDOs, the Medium Dialysis Organizations, the small chains, if you were, have received private equity funding which appears to reflect a compatible read on the risk/reward characteristics that I just walked us all through. Now, on to Rich Whitney, our CFO.

Thanks, Kent. Overall the first quarter came in as expected and was characterized by very strong cash flow, a continued [private] mix decline, and solid commercial rate improvement. Compared to Q1 of last year, revenue was up nearly 8%, operating income up 10%, and EPS up 13%.

Non-acquired growth was 4.2% in the quarter. This is somewhat lower than recent quarters and growth in the quarter was adversely impacted by the heavy snow storms in the first quarter as well as a slowdown in a few key markets. Taking the storm impact into account, we are around the middle of our recent non-acquired growth range of 4% to 5%.

Dialysis revenue per treatment increased $4.27 sequentially. The main contributors were an improvement in commercial rates, the 1% Medicare composite rate update and seasonally higher lab revenues. These positives were partially offset by a decline in physician prescribed pharmaceuticals, lower EPO ASP reimbursement and the deterioration in private mix that I mentioned.

Dialysis operating expenses per treatment increased $2.82 sequentially. About 80% of this increase was labor including seasonally higher payroll taxes and lower teammate productivity. The balance of the increase in cost was primarily the impact of spreading fixed operating expenses over fewer treatment days in the quarter and an EPO price increase and those items offset somewhat by the lower physician prescribed pharmaceuticals mentioned above.

Okay. On to cash flow. Q1 was a very strong cash flow quarter. Operating cash flow $263 million. Free cash flow, $222 million and net cash flow, $216 million.

A two-day reduction in DSO to 66 days. Timing of working capital items and the timing of cash taxes all contributed to the strong operating cash flow. At this time, we are maintaining our 2010 operating cash flow guidance of $675 million to $725 million as we expect some of these timing items may turn around as the year progresses.

Finally, regarding cash flow both capital spending and acquisitions were low in Q1, about $70 million less than Q1 by comparison. So this also contributed to the strong net cash flow and the growth in our cash balances in the quarter. Our quarter end cash balance was a little over $750 million.

As you know, over the last year or so, we have been conservative in our net leverage levels and in the use of our cash given the financial market disruptions, uncertainty around healthcare reform and the [NAY] discussions and, of course, the impending bundling rule. While much of that uncertainty is now cleared, we still do not expect to take any dramatic actions ahead of the bundling rule.

Once we have clarity around the rule, we would expect to make some more significant decisions regarding the allocation of our cash amongst growth, buybacks and debt repayment.

In the meantime, as you saw in the release, we have called $200 million of our senior notes. Given our ample liquidity and the recent stepdown in the call premium on these notes as well as the fact that these notes need to be repaid in connection with any refinancing of our senior credit facilities, we view this as a prudent use of our excess cash that will reduce our ongoing interest expense by approximately a million dollars per month. That's a pre-tax number.

Okay. Next, a few words about the Veterans Administration. The average rates we received from the VA are currently above Medicare rates but well below commercial rates.

In late February, the VA announced a proposed rule that would unilaterally and significantly cut our rates if implemented. If they go forward with this rule, number one, it may not hold up to legal scrutiny. Number two, many veterans' access to care will be severely compromised.

Number three, some centers will undoubtedly close, and number four, they will likely have a big operating mess on their hands as they try to implement a Medicare payment system which is in transition and yet to be [fully find.] The industry opposes this dramatic and unilateral rate cut and is working with the VA and Congress to find hopefully a more responsible alternative.

So we do not know if, how, or when the VA will implement any rate changes, but if they do, it would be a meaningful headwind as we move into 2011.

As for our financial outlook, Kent mentioned we remain comfortable with our full year guidance. That said, our current view is that certain timing issues will probably cause Q2 to be flat to Q1 in terms of operating income with more improvement coming in quarters three and four. There are five primary drivers of that reality.

Number one, acquisition timing. While the pipeline and the full year look solid, we got off to a slower start on acquisitions this year. Point number two, our nationwide leadership meeting. This meeting of more than 2,000 center-level and other leaders of our Company takes place in Q2, causing seasonally high expenses.

Point number three, Q2 typically has between one and two more treatment days than Q1. This year, it happens to have, Q2 happens to have only one additional treatment day. Point number four, Q2 has another sequential reduction in ASP for EPO reimbursement. And then point number five, we do anticipate somewhat higher labor costs in Q2, in part due to the transition to mandatory patient care technician certification, which is effective April 15 of this year.

So I want to be sure to emphasize that this is no change in our outlook for the year, but that it is likely that OI growth will be more back loaded this year than is typical. Similarly, as we look to Q2, given that we haven't bought back any shares year-to-date, street share count estimates are high.

Also as you would expect, we are not likely to do anything dramatic ahead of the bundling rule. And so while we may buy back some stock, any Q2 buybacks would only impact weighted average share counts for a partial quarter. And then, finally, as previously announced in the coming days, Luis Borgen will step into the role of Chief Financial Officer.

Luis comes to DaVita with a breadth of finance experience having served in a number of senior finance roles in his 13 years at Staples. We are excited to welcome Luis to our team. As for my part, I enjoyed serving our team and our shareholders as CFO for the last two years and I look forward staying on to help Luis with his transition.

And someone just handed me a note and indicated that I misspoke. That we are saying that share count estimates are too low, not too high. Thank you very much, Jim. Okay. Tamika, can you please open it up for Q&A, please?

Yes, sir. (Operator Instructions). We'll pause for just a moment to compile the Q&A roster. Your first question comes from the line of Kevin Fischbeck with Bank of America.

Okay. Great. Thank you. Question for you, Kent. You mentioned earlier that there's been a few regional deals at pretty good multiples, multiples which I assume are above the range that you were hoping to pay for some of these transactions.

Does that in any way change your outlook about your hope to essentially use your cash to do a large transaction? And if so, what then moves up the priority list?

Fair question, and you are correct in your premise that given the multiples that some of these transactions were done at, the odds that we would offer a premium to that anytime in the near future and do a transaction are necessarily lower than they were ahead we'd done the deal itself. And so your premise is correct.

There are still other potential acquisitions in this space and then there are, of course, the options that Rich outlined of buying back stock or paying down debt. And then we have the final option of investing in accelerating growth in our home infusion business or elsewhere. So those are the things that start to move up the priority list given a number of the small chains might be temporarily off the table at a reasonable price.

Is there a view that you guys obviously have been doing a number of tuck-in acquisitions anyway. Is there a view that that might accelerate or logistically it's very difficult to make up a small regional chain with a large number of small one-off type transactions.

Once again your premise is correct. It's hard to do enough tiny ones to equal doing a medium one. Although the bundle may lead to an increase in the number of small properties on the market. We really can't predict that without any certainty at this time.

Okay. Just obviously it makes sense to wait on the bundle regulation before you figure out the best use of capital, but is there a view that, within a few months you guys would know what the best use of capital is or is this still something that could take some time to evolve the decision process?

A fair question. We've historically been incredibly reticent to put some kind of timeframe on making a decision like that because who knows what will change between now, today, when we say the day of whatever timeline that we would offer up.

So I guess we prefer rather than commenting on the short-term future instead look back at our history and it's clear that we never go too long without making a definitive decision and acting on it in a relatively clear way. I think the past is the most useful guide in this case.

And for decisions like this, unless you think you are a superb predictor of the future in a way that no one is plus or minus a month or two is just not relevant to long-term shareholder value.

That makes sense. That's helpful. Last question. I know that historically you haven't given this number out, but would love to see if you can answer it this time or at the very least as we head into the bundling.

What percent of your commercial contracts are bundled? I know in the past, at your investor day in particular, you mentioned that the commercial contract bundling is one of the factors that might go into whether you would move all in into the bundled rate or whether you might phase in and given the importance of the decision process, we would like more color on that breakout on the commercial contract side?

Kevin, this is Rich. We are not going to change our position that doesn't make sense for us to disclose that number. But I think what I would say is that we have fair amount of our business bundled. We expect to bundle more in the current year, and I think that we are comfortable with where we stand at this point in time. That's probably the only color that I think we can offer.

Okay. Great. Thanks.

Thank you, Kevin.

Your next question comes from the line of Kevin Ellich with RBC Capital Markets.

Good afternoon. Just a couple of questions. Kent, I was wondering if you can talk about the competitive landscape especially with some of the mid-sized deals that we've been seeing and capital infusion? And then with that could you also talk about the pricing environment, pricing has been pretty good for you guys, obviously there are some moving parts. Just wondering what we should expect for the rest of the year?

Yes, I wish we knew what pricing would look like on deals for the balance of the year. Whenever there's new capital infused into a segment and we don't know at this point exactly what the net amount of new capital is, but it's appropriate to have the concern that that might drive up some pricing.

On the other hand, most of the companies we are talking about have a history of being quite disciplined in their deployment of capital and that's a good thing. And then in addition, the uncertainty around bundling makes a lot of folks a little more hesitant, not necessarily more hesitant to invest in the space generally, but in deciding which centers are most attractive.

At this point, if you ask everybody on the side of the speaker phone whether prices are likely to be higher or lower or the same, you probably get a mixture of opinions with a slight bias towards being higher, but it's really slight.

Okay. That's helpful. And then I guess the other pricing aspect I was looking for was the average revenue per treatment. Rich gave some detail in his prepared remarks. I was just wondering should we expect the 2% type of pricing growth to continue?

Kevin, on revenue per treatment there's a number components, of course. One is the pricing and the other is, at least until we are bundled, the fluctuations that we see quarter-to-quarter in our physician prescribed pharmaceutical intensities. And then, of course, we have the mix of -- our payer mix. Currently, our commercial pricing is solid and pretty consistent with our recent experience.

So there hasn't been much of a change there. As it relates to intensities, what we have seen over the last couple of quarters is really fluctuation within the normal band of how it's moved historically. But obviously it's important enough to mention as a driver of revenue per treatment.

And then, finally, we have experienced this continued deterioration in mix and it's been seven quarters now. As we've said, in the past it's roughly half patients staying with us longer, meaning lower mortality primarily, and half the mix of new patients, which is really tracking the changes we have seen in the economy and unemployment and more directly the lower number of insured lives that all the insurance companies are reporting.

So it's very difficult for us to predict with any accuracy revenue per treatment direction right now. I think those are the underlying components. We are looking for a signal on mix in terms of bottoming, we haven't seen that yet, and not much changing right now. We are doing fine on commercial pricing and intensities we would expect the same quarter-to-quarter fluctuation within reasonable bands that we have seen for the last four, six quarters.

Last question. Back to Kent. I wonder if we can get an update on DaVita Rx and the disease management programs.

Sure. DaVita Rx continues to be profitable, continues to grow, continues to do wonderful things for patients and the taxpayer. And so absent any structural changes out there and, of course, there could be some, we are feeling very good about having traded that capability for all the different reasons we were interested in doing so.

And then on the disease management front, that continues to be R&D, which is, of course, a code word for saying it loses money. And we continue to get better at managing down total cost of kidney care which we think for our shareholders is an asset and a capability that some day we are going to be able to monetize in a very healthy manner.

But not yet because at this point there aren't enough buyers for that integrated care to support the scale of the costs associated with delivering it, but we are getting better every year both in terms of adding value and adding it more efficiently, and, as you know, from everything you've read about healthcare reform, the market is getting more and more interested.

The market is defined as the government and the private sector in purchasing the kind of integrated care that we are prepared to deliver. Did I answer the question?

Yes. Thank you.

Thanks, Kevin.

Your next question comes from the line of Gary Lieberman with Wells Fargo.

Thanks. I was hoping maybe you could talk a little bit more about how you are thinking in terms of the bundle and transitioning, whether your thoughts are towards transitioning all at once or transitioning over time and maybe you can give us a little bit of color in terms of what would make you more likely to transition over time versus what would make you more likely to go in all at once?

As to the basic question, which we will do, we have no idea until we see the rule, and as to the variables, boy, Gary, as you know, the list gets pretty long given everything that was in the proposed rule, that will probably be different. We don't know how different, and so it's, I think, too long a list to be useful because the rules could affect so many parts of our cost and revenue structure. So I think it's better to just say at this point we are totally open minded.

Okay. And then maybe just ask a question on the VA.

Is there some event you can point to that made the VA focus more on their rates this year than in past years? Did someone increase the rates significantly on the VA that caused them to focus on it? Or is there some other event that you're aware of?

What caused them to focus on it was just their general budget situation, the VA particularly and the government more generally. And then it's important to point out that the rule applies to all aspects of the healthcare they provide, not just dialysis.

Okay. And then I guess maybe ultimately do you think it gets negotiated out with the VA or do you think they take a hard line and you guys will have to do what you have to do?

It's too early, I guess, calling it a conversation might not be the right label. It is too early in the process to handicap the outcome. There are a number of people in the VA who are still very resolved to do exactly what they set out to do X months ago.

There are a number of other people who are now very worried that if they do that for dialysis patients, they may cause harm to a lot of veterans and significantly increase total healthcare costs. And so what's the point. It's our responsibility as a community and as a leading provider to go to them with responsible, coherent, implementable proposals which get them hard dollar savings and at the same time preserve vets access to the kind of care that we provide that they can't get otherwise.

So it is simply too early to handicap and we are making a little bit of progress every month. But to express any optimism would be unfair to you.

Great. Thanks a lot.

Thank you, Gary.

Your next question comes from the line of Justin Lake with UBS.

Thanks. A few questions here. First, Kent, you mentioned this new investigation. I might have only heard half of it.

I apologize. If you can flush out specifically, it sounds like you said they were looking at physician partnerships. Is that right? Is there anything else you can tell us?

Financial relationships with physicians and we don't have any details beyond that. What that typically means, of course, is joint ventures and medical director arrangements and things like that. But that's just speculating. We just know the label of financial relationships with the physicians.

Right. There's been investigations of this sort in the industry before, right?

Quite a few.

And you've been looked at in this manner at both your medical directors and any agreement you have there, as well as the partnerships you have on the facility side, is that correct?

Well, the short answer is, yes, based on our guess about what they are going to look at. Until we know more about what they are going to look at we can't say definitively that someone else has already looked at it. But a lot of our physician-related stuff has been looked at a couple of times over the last ten years. That does not mean that this new process might not focus on something that has not been looked at before. So I want to be very careful in my word choice.

Got it. I guess just one last question on this piece of the call. Like you said, we have seen this before, ten years you have a pretty good track record or very good track record.

Is there anything new that you might be able to point in the industry as far as practices here? You've had medical directorships have been out there. You've had the same language in the case for a while and then on physician partnerships you've also had these facility agreements for a long time.

Is there anything new there that they might be looking at that they haven't had a chance to look at the last time?

Not that we know of, but it's pretty impossible to answer given we don't have anything from them. So I -- probably the best answer to the question you asked is we don't know because we don't know anything beyond that which we've said.

That's very helpful, Kent. I just have a couple of questions on the business and then I'll jump back out of the queue. One, Rich, you mentioned the continue private mix decline, I think, was the way you put it. Can you give us any color here when you say it's continuing, I would assume that means it has deteriorated further from where the mix was coming out of the year?

Yes. Deteriorated further as it has for the past seven quarters and in Q1 the deterioration was not as significant as it was in Q4.

Okay, so the second derivative has improved a little bit.

I don't know whether to call that a trend or not. I just report the facts.

Okay. That is helpful. It just becomes a little bit more curious and I'm sure you have seen your largest competitor out there the last few quarters as you've been reporting this has been saying the exact opposite. Is there any way you can reconcile that given the place in the industry you two sit at?

Yes. Well, I think we should start by saying there's some confusion on our side as to whether they are talking about revenue mix or volume mix. We are talking about volume mix. So let's start by saying that.

And then as it relates to our own trends, as we've often said, it's sort of half improve mortality and half declining mix of newer patients, which to us, given everything that is going on around us broadly in healthcare and the economy, is pretty expected. We would think that both of those factors would be impacting FMC in the same kind of way and, in fact, we have looked at the mix changes in our markets where we share our presence with FMC and the decline in those markets has been consistent with the overall decline in the rest of our business.

We don't really see any difference in the markets where we are sharing markets or competing head to head with FMC. So, of course, we don't have [precenious] data. We only have our own which we monitor incredibly closely, but the difference could be in this definition of what does one mean by commercial mix.

It's possible there could be geographic differences. Although we don't see in the markets that we look at, and then finally we sort of have to be open to the possibility that they may just be outperforming that. So we are taking it pretty seriously.

That's helpful. And then just one last question on the VA. So in the preliminary announcement they said the dialysis cut was 40% on average, I'm sure that varies. Can you tell us whether that is a reasonable number to think about for DaVita?

I think what we could say is that there's at least one highly respected analyst that's offered up a number of $50 million as an estimate of the impact. And I think what we would say is that is a fair and reasonable estimate of what the exposure could be here.

Okay. When does that typically, if it just happens, when would it happen? If that goes through, would it be calendar year, government fiscal year?

Well, as proposed, October 1 of 2010. Whether that actually can happen on that timetable is another question. But that is as proposed.

Perfect. Thanks a lot, guys.

Thanks, Justin.

Your next question comes from the line of Darren Lehrich with Deutsche Bank.

Thanks, and good afternoon. This is Brian Zimmerman filling in for Darren. I was wondering if you can talk a little bit about de novos and how 2010 is shaping up on that front?

Sure, Brian. Really no change from what we said at capital markets day, which is that it's our expectation that in the current year that ought to open around the same number of de novos that we opened last year. And so you can think about it as around 80.

Maybe the only other thing to report is that while we are still experiencing de novo certification delays, we have been successful in working down that backlog of uncertified de novos and the number that we have right now is about 44. So it's down quite a bit from, I think the peak levels were around almost 60 if I'm not mistaken.

That gives you a sense. We probably won't continue to report on the exact number because the issue is moderating from a shareholder perspective, but, of course, we are still dealing with it day-to-day and some states are worse than others, et cetera.

Okay, thanks. And then also, can you discuss a little bit about your JV strategy and whether it is becoming more important in your development plans?

We have done more JVs with nephrologists than any other company ever, and we continue to be very comfortable with that model, and, therefore, our position today is the same as it has been. When they are done correctly, they are very good for all stakeholders and we'll continue to do them with great regularity.

Okay. And then I guess one final question. I notice that your strategic initiatives business was better sequentially from an income perspective, do you think that this segment could turn break-even by the end of the year?

That's really just a timing issue. Our guidance really remains the same on what we expect from the strategic initiatives, better first quarter than they were tracking at. But no change in outlook for the year.

Okay. Thanks a lot. That's it.

Thank you.

Your next question comes from the line of Mark Afrasiabi with PIMCO.

Hi, there. You answered a couple of my questions already, but on the bond buyback, the call, $200 million of that $900 million senior note tranche is about, it's a small percentage of the bond, I was wondering if you can explain your rationale there in terms of taking out $200 million of that and why you won't look at the higher coupon subordinated bond, the 7.25% of 2015, and also just can you touch on your plans to refinance the capital structure given the bank debt maturity?

Okay. So I think there's a few questions in there. I believe it, the first question was why only $200 million, why not more?

Yes. That's right.

Okay. And that really is just a function of continuing to keep our options open in terms of the relative mix of the allocation of our free cash. Again, we are on the eve here of a reimbursement rule change so we kind of want to keep our options open. That said, we have ample liquidity and generated a lot of cash this quarter and felt it was time now to use some of that cash to relieve a bit of interest burden.

So that's why $200 million and not more. I believe that your second question was is why not take out the higher coupon subnotes? And the reason is because they are longer dated maturities. They have substantially higher call premiums as a result, and, third, the senior notes for all practical purposes will likely have to be refinanced at the time that we do a refinancing of the senior credit facilities.

And so by calling them now we are essentially just accelerating something that we would ultimately do inevitably. The longer dated subnotes, that's not the case. We don't have to take them out to refinance our senior credit facilities. Did that answer the second question?

Yes. Thank you. Some sense that when you refinance the credit facilities and given, they're longer dated but not by much, I guess, sort of 2015, here we are in mid-2010, et cetera. I mean, as you refinance that bank facility some sense that people have that you might just refinance the whole capital structure in terms of all the debt. But it sounds like you are saying you'll probably just do the seniors?

TBD. But we know the seniors would have to come out, most likely have to come out to facilitate a refinancing. And then, I think your third question was what are you thinking about in terms of doing refinancing, and I don't have a concrete answer for you at the moment.

Again, we are kind of waiting to get through this bundling rule here. However, given the maturities, it would be certainly our expectation that by the time we got into first or second quarter of 2011, that we would have expected to have refinanced by then.

Thanks a lot.

You're welcome.

Your next question comes from the line of Mark Arnold with Piper Jaffray.

Good afternoon. That last question answered a few of mine, so I'll just skip over here.

But one question that came up earlier, and I was interested in your comments, Kent, in response to this, but discussing your acquisition plans and how that may have changed given the new private equity investment in the dialysis space, and you mentioned beyond the debt paybacks and stock buybacks, the possibility of potentially expanding your home infusion business.

Can you just talk a little bit more about your home infusion business? Have you looked at any home infusion opportunities over the past year? And just what you are thinking about with that business and has that changed at all given the changing landscape on the dialysis side?

First, a moment of history which would be helpful to anyone who is new to DaVita. The first year after we bought the home infusion company, we almost killed it. We smothered it with mothership love.

The second year, the team, which was fortunately still there, and a new group of DaVita partners did a wonderful job of turning it around and getting it back not only to where it had been but beyond where it had been. So we are only about nine months, 12 months into phase three, post hurting it, post turning it around, and coming off a very nice 12 months of growth in a whole bunch of dimensions and improved capability.

So with that as a factual backdrop, we do want that business to grow much more in 2010 and 2011 than they did in 2008 and 2009. At this point, we are focused significantly on de novo growth versus acquisition growth because we are not quite comfortable yet with paying the multiples and exposing your capital in that fashion.

However, we have looked at a couple of opportunities, and we are not totally closed to it. But I repeat, our primary growth focus is on a dramatic expansion of our de novos in that space.

Just one follow-up question to that. When you guys think about your home infusion business, do you think about potential synergies or -- in the future with your DaVita Rx business?

It's very possible that what we have, and this is in response to your question, so it's not a point of view that we are pushing, but in response to your question, everyone knows that over the next X years, coming down the biological pipeline, and the pharma pipeline, there are a number of more complex drugs and biologicals that scream out for more coherent distribution, value added distribution, if you will, in order to get to the right patients under the right clinical protocols with the right data collected, et cetera.

And with our network of 1,600, 1,700 dialysis centers with caregivers and integrated electronic medical system, with the home infusion company's experience in taking care lots of different pharmaceutical deliveries both at home and in infusion suites and the DaVita Rx's capability to deliver either to a center or to the home all the drugs that a patient needs that don't require being handed over and infused or injected by a nurse, it is possible that we could become a highly differentiated value-added distributor and partner to a lot of those pharma and biotech companies.

We will see, but we've put together the ingredients. How long it might take to cook that into something that is attractive to you guys is not clear, but we certainly do think about it.

And one more follow-up to that and I recognize that your answer will just be answering my question again, but when you guys think about (inaudible) described or that possibility, how does that play into how you look at home hemodialysis as well?

Short answer is not very much. On the one hand, it has been useful as we were hoping to use the home infusion company as a way of getting a whole other lens of looking at home dialysis because you necessarily end up of having a whole bunch of conventional wisdom embedded in your thinking that yo don't even realize and by having another successful business that does a lot of stuff at home and helped us call into question certain operating assumptions that we didn't even know we were making with respect to home dialysis, whether it's hemo or PD.

So that was and is useful. Having said that, at this point still most of the investment dynamics around home hemodialysis are not affected by anything going on in home IV.

Okay. Just one last question and it just relates to the investigation you announced. I think you mentioned it's a civil investigation by the DOJ? Is that correct?

Yes.

And so the question was just, separate from that investigation, what's the status of the Missouri, the 2005 Missouri U.S. Attorney's investigation?

I cannot do a good job of responding, so people on this end will scurry about while we are taking other questions and see if we can get you something useful for everyone else to hear. If not, you can follow up with a phone call and we'll give you that update.

Great. Thank you.

I think the bottom line is it has not been active in some time, but we'll get you a couple more factoids.

Well, in fact now with another ten seconds to reflect and being a little slow here today, when you said Missouri, I didn't quickly align that with St. Louis. St. Louis has been very quiet for a couple of years now. That's the answer to that question. I apologize for my inability to do any geographic matching in my head.

I can add on to that that we were in document production all the way, really through the end of 2009, but in terms of having any kind of substantive contact with the government, it's been since 2008 that we have had any. So not a lot going on right now.

Your next question comes from the line of Gary Taylor with Citigroup.

Hi. Good afternoon. Incidentally, calling from St. Louis, so, Kent, I'm appalled at your geography.

(laughter) So am I.

A few questions, but I think very quick answers. Just going through the investigation again, your sense is this would be a national look at your practices? Or your physician relationships on a national basis?

Yes.

Any sense that others might be receiving the same inquiries as we have seen sometimes historically?

We have no insight into that.

And do you have an idea which U.S. Attorney this might come out of? Would this be one of the culprits, Missouri, Pennsylvania, New York that we have seen before?

Yes. I think all we can say now is what we've said.

Okay. Rich, on the call premium on the notes, did you say what that was? Did I miss that?

I did not say what it was. I believe it's 101.5, but I will check for you.

That would just be a non-recurring item in the 2Q, I guess?

Correct.

Also I noted the new disclosure, or I think a little bit different disclosure, of the equity investment income being called out on its own line item. Am I right, that that's new?

It's not new. I'm not sure what you might be looking at.

The fact that that's growing, that is reflective of JVs, is that what that is primarily?

No. The JVs would show up in the minority interest.

So what is this line item?

We have some dialysis businesses that we don't own, that we own less than 50%, and there are a few other things in there. Let me get back to you on that.

Okay. A quick question just on the AR strength. It's about $50 million better. You called it out, but it was about $50 million better than our model both on the balance sheet and the cash flow statement.

Any color at all, just pure timing, nothing really to look at there? Obviously, a good result and you'll take it, but anything else beyond that?

I'm sorry. Did you say AR?

Yes.

Yes. Two-day improvement sequentially and it's really a function of a strong cash collection quarter and some improvements being made over time, and we hope it's sustainable, but not ready to predict that at the moment.

And then finally just going to the VA issue, this isn't kind of, I guess, a federal or CMS rulemaking process that we are all kind of used to, seeing the proposed rule, whatever. If they were to proceed attempting to implement this on 10/1, is there some public notice that you think we might see or would you know that before the public would know that?

Let me take a stab at answering and then, LeAnne, you correct me if I get it wrong. The fact is there was a comment period and the industry did submit a number of written comments for their reflection, and they are now in the reflecting stage, and LeAnne is nodding her head up and down saying that all those words are accurate.

But not a definitive idea when, I guess, a final decision? Just sometime between now and October?

No. That is correct. We do not know when they will make their decision.

Okay. That's all I had. Thank you.

Gary, let me circle back and let me give you the answers to some of the things that we didn't have at our fingertips. The call premium is 101.656. Our estimate is that we would have a one-time pre-tax charge of about $4 million to account for that in Q2.

And then your question about the equity income, I hesitated there because I wasn't sure if there was something else in there. Here is what it is. In centers that we don't own 100% of but are consolidated in our financial statements, the owner share of that income shows up in minority interest or what used to be called minority interest.

What shows up in the equity income is our centers where we have a minority interest and we don't consolidate those centers. We only pick up our share of their income. That's the difference and what I wanted to check is whether that was everything and, in fact, that is everything you see that runs through that line item.

Is there a business reason why that type of non-consolidated investment would be increasing?

No.

Do you do more of those types of --

No. We had one large and one in the not too distant past. I think it's really more a function of the changing profitability in some of those investments. We only have a handful of those. It's not really a core part of our strategy.

Great. Thank you.

Your next question comes from the line of John Ransom with Raymond James.

Hi. Just a quick one here at the end. As you move into bundling have you noticed any change of behavior on behalf of your vendors? Are they coming to you with proactive solutions or is this a typical sort of interaction?

I'd say the conversations are spirited,.

(laughter) You have a lot of good euphemisms today. That's a good one.

They know that we are pretty intense on this subject, the entire provider community, so there will be some major league opportunities for some of them to dramatically improve or secure their strategic position. But the details around that will require some thrashing.

Okay. And my other question is, and this goes back to the disease management business, but would you have expected it by this point in time that maybe some forward-thinking payors might be willing to talk about some kind of global capitation for their dialysis patients or is this progressing like you thought it would?

Well, I think the honest answer to the question is if you asked me four years ago, I would have predicted that more would have happened by then. And so that's the answer to your question.

If you had asked me two years ago, I would have said we'd be right about where we are because the private payors have so many other larger segments that got some serious data issues, and they have this issue understandably around their need to subsidize the government.

And when the X percent that are private are subsidizing a deficit created by the 85% to 88% that are government, that leads to higher rates which don't exactly put you in the mood to want to do all sorts of other things.

So I think that's some of why it has moved slowly and I wouldn't anticipate any dramatic change in the next year or two either.

Okay. And then lastly, looking at healthcare reform, one of the things will happen is fairly large expansion of the Medicaid population, I think 15 million is the number. Have you guys done any analysis to try to predict what percent of your patients which are currently privately insured might get moved to Medicaid?

No. We don't have a belief that that is, that will be a significant trend. What we expect the impact will likely be is that we'll see a shifting from Medicare covered patients to Medicaid covered patients. Unlike other provider segments, we don't have the uninsured issues because virtually all patients can qualify for Medicare.

That would be the primary, the other factor that plays into this is secondary coverage. A lot of our patients are covered by Medicare in the primary physician and don't have secondary coverage for the copay because they don't meet the income tests to qualify for the secondary, to qualify for Medicare. That also would be where we would expect to see the trends on Medicaid.

All that is independent from funding changes in Medicaid which are a whole different story.

Okay. Thank you.

Thank you.

Your next question comes from the line of Andreas Dirnagl with Stephens.

Good evening, guys. A couple of quick nits and nats here. Kent, I just always want to make sure that I'm hearing correctly what you are saying.

Going back to your discussion in your prepared remarks on bundling, did you say that you, obviously, you are highlighting the risk that it might not happen, but at this point you are expecting the final rule to be better than the proposed rule?

Yes.

Okay. Great. Looking at your outlook for 2011 you talked about two to four quarters of transitional activity. I'm wondering do you think that bundling will require any sort of increase in spending on your part or is that more sort of a way of saying that it might take two or three quarters, two or four quarters, for you to institute some clinical and other operating changes to mitigate some of the impact of the bundle?

Primarily the latter, but I would not want to claim that the former is zero.

Sure. But as you said, primarily the latter then. Okay.

Just quickly on the Department of Justice announcement, having been through this a couple of times with you guys, I realize there's no commentary really is necessary on what you think is going do happen, but maybe just to clarify. You touched on it.

In terms of financial relationships that you do have with physicians, they are primarily medical directorships in terms of the salaries there and then in terms of joint ventures. Are there any other significant financial relationships that you have with physicians?

We have a small number of physicians who are employed full time or part-time but that's it. Tiny number. We, of course, do acquisitions and joint ventures, acquisitions and divestitures, separate from joint ventures.

So those are a couple of the other categories that I can think of, but the categories you mentioned are the ones that are numerically most prominent.

Okay. Great. And then finally, Rich, just a couple of questions, again, on the VA. What percentage of your revenue is VA?

Around 2%.

Around 2%. Great. Is there any, I'm just trying to figure out how this works literally on a day-to-day dialysis basis. Are there any centers that you have concentrations of VA patients or are they spread geographically?

They are spread geographically, but as Kent mentioned earlier, maybe they were in my remarks, if the cut goes through, undoubtedly some centers that have enough VA patients to make a difference will have a tough go and may have to close.

Andreas, let me step in because I am a little closer to this one. The primary answer to your question is that they are quite spread. However, it is definitely true what Rich hypothesized about in the last part of his answer, that there are a small number of centers with a high number of beds and it would be very difficult to keep them open.

Okay. I just want to be clear. You are talking about a small number of DaVita centers?

Correct. So you would assume reasonable proportionality in thinking about the impact overall.

Overall. Okay, great. Thank you very much.

Andreas, just to be complete, the other thing that we would add to Kent's answer about financial relationships with physicians is that we do from time to time have leases with physicians where we are leasing offices from them or, in fact, sometimes they may be leasing offices from us. And that's an area where we have a whole set of procedures to make sure that those leases are done at an arm's length on a fair market value basis.

Sure. Absolutely. And I guess it just bears asking the question while I've got you, I would assume that the answer is yes in terms that you consider your medical directorship agreements to be arm's length in market?

Same market value is the mantra.

Okay. Great. Thanks a lot.

Thank you, Andreas.

(Operator Instructions). Your next question comes from the line of Chuck Ruff with Insight Investments.

Hello, all. Regarding the VA, can you give us any feel for the percentage cut that they are proposing?

The VA pays us in different ways in different parts of the country, so I think the best we can do for you right now is really point to the estimates that are out there, which are in the neighborhood of $50 million. We don't want cut it any finer than that and that's about -- that's a reasonable characterization of the risk.

Okay. Well, let me think about it this way then. If your revenues this year is about $6.6 billion and their 2%, that's $132 million. If we are talking about $50 million out of $132 million, that's about a 38% cut.

Yes. Again, you have all the pieces you can do the math and kind of get close. I just don't want to quote you a number because --

Okay. But I'm thinking about that right. Okay. Secondly, you talk about the uncertainty with bundling and obviously now there's the uncertainty here with the VA.

Is that also part of why your, at least for now, a little hesitant on acquisitions and de novo, are you slowing those a little bit too until at least the bundling is clear?

The short answer is no. We are not hesitant on conventional acquisitions nor on de novos.

Why would you not be hesitant there at all, but obviously be hesitant on share repurchase?

Because when we are doing acquisitions, we can allow for a range of potential bundling outcomes and at a satisfactory price feel very comfortable that risk adjusted, our shareholders are likely to get a good return and the same with de novos. Those decisions tend to come in much smaller chunks than some other decisions.

If we think about batching acquisitions together into a single $300 million acquisition, then as opposed to sort of buying all, it's the same as if you buy stock all in one day or do you buy it over time. It doesn't necessarily provoke different thinking as you evaluate it than if you are doing 100 smaller transactions but over a year.

Okay. So the share repurchase you would think of in the same way, in other words, if the price was such that you felt like it was a good return under any reasonable scenario, you'd be willing to do it. It just hasn't been that recently because of the uncertainty?

I don't know if I'd use those exact words. I'd probably repeat the words I said. The good news about buying back our own stock, if we don't do it today, we know we can do it tomorrow.

The tough thing about acquisition is if you don't buy it today, someone else maybe will, and you can't come back and say in 60 days, yes, say I changed my mind. It's pretty hard to compare those two decisions given there's such a radical difference in the context in which you are making them.

Okay.

I think the other thing is, and this is a bit redundant to my prepared remarks, is that you have to step back and look at the context. There were a series of reasons why we were being conservative with our cash for the last 12 months, and none of those really had anything to do with what the price of our stock was.

They had to do with preserving financial flexibility and liquidity for potential opportunities and because of uncertainty in the marketplace, financial markets and otherwise. So I think that it is sort of tempting as some of these things start to clear to forget that it hasn't been that long since a bunch of these uncertainties began to fall away, including literally in the last several weeks when a number of mid-sized dialysis organizations did transactions that would lead us to believe that maybe the odds of a near-term transaction might be lower.

So these things are evolving. We still have the bundling rule ahead of us and that would keep us from doing anything dramatic, but I don't think you should read too much into what our views are on the stock price by the fact that we have built up this amount of cash.

It's really the other factors that we mentioned. Hopefully, that helps.

Yes. I think I understand your thinking better. So thank you.

Thank you.

Your next question is a follow-up from the line of Kevin Ellich with RBC Capital Markets.

Hey, guys, just two quick follow-ups. One, the VA, or the proposed VA cut, is that in your guidance or not?

It is not.

Okay. And then, two, I was wondering, Rich, if you could provide any more detail or color on the five items that you said would impact Q2 operating income, how much will the Nationwide meeting add to, I assume that is G&A, any of those details would be helpful?

Yes, I think the way to look at it is we gave you five of the primary reasons and each one of these reasons individually is only really a couple million dollars.

Okay.

The collection of them that leads us to a different kind of sequential trend and operating income this year than maybe you are used to. And, again, still feel fine about the year. It's really just how this develops quarter-by-quarter.

Got it. Okay. Thanks.

Sure.

(Operator Instructions). There are no further questions at this time.

Okay. Thank you, operator. Thanks to everyone else for your interest between now and the next time, we will do our best.

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