Encompass Health Corp (EHC) 2008 Q4 法說會逐字稿

Good morning, everyone, and welcome to HealthSouth fourth quarter and full year 2008 earnings conference call. After the speakers' remarks there will be a question and answer period. (Operator instructions). Today's conference is being recorded. Your participation implies consent to our recording this call. If you have any objections, you may disconnect at this time.

I would now like to turn the call over to Ms. Mary Ann Arico, HealthSouth's Senior Vice President of Investor Relations and Corporate Communications. Please go ahead.

Thank you, Melissa, and good morning, everyone. Thank you for joining us today for HealthSouth's fourth quarter 2008 earnings call. With me on the call in Birmingham today are Jay Grinney, President and Chief Executive Officer; John Workman, Chief Financial Officer; Mark Tarr, Executive Vice President of Operations; John Whittington, our General Counsel; Andy Price, Senior Vice President of Accounting; and Ed Fay, Senior Vice President and Treasurer.

Before we begin, if you do not already have a copy of the press release, financial statements and the related 8-K filings with the SEC, are available on our Website at www.healthsouth.com in the investors section. In addition to the required information, we have also provided a set of slides, which are available on our Website. The first 16 slides will be referred to during the call. The remaining 17 slides include supplemental information for our fourth quarter 2008 and full year 2008.

Moving to slide one, the Safe Harbor. During the call, we will make forward-looking statements, which are subject to risks and uncertainties, many of which are beyond our control. Certain risks, uncertainties and other factors that could cause actual results to differ materially from management's projections, forecasts, estimates and expectations are discussed in the Company's Form 10-K for 2007 and its quarterly and other SEC filings, including the Form 10-K for 2008 scheduled to be filed today. We encourage you to read them.

You are also cautioned not to place undue reliance on the estimates, projections, guidance and other forward-looking information presented. Statements made throughout the presentation are based on current estimates of future events and speak only as of today. The Company does not undertake a duty to update or correct these forward-looking statements. Our slide presentation and discussion on the call will include certain non-GAAP financial measures. For such measures, reconciliation to the most directly comparable GAAP measure is available at the end of the slide presentation or at the end of the related press release. Both of which are available on the Website and as part of the Form 8-K filed last night with the SEC. And with that, I will turn the call over to Jay Grinney.

Great. Thank you, Mary Ann. And good morning, everyone. I'd like to begin by saying how enormously proud I am of the 22,000 employees who are the heart and soul of this great Company. A year ago, HealthSouth emerged from a four year turnaround a stronger and more focused Company because of their steadfast commitment to providing outstanding rehabilitative care to patients across the country.

With the new business model in place, we began 2008 committed to achieving three basic objectives. First, to solidify our position of the nation's number one provider of rehabilitative care, by growing same-store discharges and capturing market share. Second, to strength our balance sheet, by aggressively repaying debt, thereby reducing our leverage. And third, to expand our services into new markets by adding hospitals in a highly disciplined manner. Our fourth quarter and full year results clearly demonstrate we were able to deliver on all of these commitments.

With respect to organic growth, our investment in TeamWorks continued to yield impressive results, as same-store discharges grew 9.7% in the quarter, while total discharges were up 10.6%. For the year, discharges increased a very solid 7%. Data from the Uniform Data System, or UDS, show we grew at a much faster rate than other UDS reporting providers in each of the first three quarters of 2008, indicating we were successful in gaining market share.

We also achieved our deleveraging objective. In the fourth quarter, we repaid $62.4 million of debt, bringing our total debt repayments for the year to approximately $228 million. Coupled with annual EBITDA growth of 6.4%, our leverage ratio declined from 6.3 times at the end of 2007, to 5.3 times at the end of 2008. And as you'll hear from John in just a moment, our current leverage ratio has improved further due to additional debt repayments made thus far in 2009.

Finally, with respect to development, we launched three new hospitals in 2008 and acquired another three, consolidating two of them into existing facilities. While our primary emphasis will continue to be debt repayment, when appropriate, we will add hospitals in an opportunistic, disciplined manner. The successful execution of our business plan allows us to report another quarter of better-than-expected earnings per share growth.

Adjusted EPS for the quarter was $0.24, compared to a loss of $0.01 a share in the fourth quarter of 2007. For the year, we earned $71.9 million in adjusted income from continuing operations, or $0.75 per diluted share, compared to a loss of $58.5 million, or a loss of $0.64 per diluted share in 2007. With that, I'm now going to turn the agenda over to John Workman for a more thorough review of the quarter and year end results.

Good morning. I will be referencing the slides that we filed on Form 10-K in my comments today, that Mary Ann mentioned. First regarding income statement revenues, which can be found on slide eight. In our inpatient hospitals, revenues increased by 7.7% over last year's quarter to $418.4 million. The current quarter does include revenues from our Vineland acquisition and our Arlington and Midland consolidations that Jay mentioned. Discharges increased 9.7% on a same-store basis. As a reminder, the fourth quarter of 2007 had nine hospitals at the previous 65% threshold. And most other hospitals were gearing up to go to 65%, which would have been the threshold under the original 75% rule, had there not been the permanent freeze of the rule at 60%. While we cannot specifically identify or quantify the impact, we believe it made the fourth quarter of 2007 a softer comparison.

Turning to pricing. On a per discharge basis, pricing decreased 2.6% from a year ago, which is consistent with the price increase we had in the fourth quarter of 2007, that was subsequently rolled back effective April 1, 2008. Our length of stay, or LOS was 0.6 a day shorter than the same-store a year ago. For the full year 2008, our length of stay was 0.4 a day shorter than 2007. Despite the shorter length of stay. our occupancy improved to 65.7% from 61.6% a year ago, driven by our significant discharge growth. In looking forward, we want to remind you that the first quarter of 2008 still had a pricing benefit and that TeamWorks was installed progressively through 2008 in our hospitals beginning in the first quarter of 2008. This will make our comparables more challenging in 2009.

Next, looking out our outpatient facilities. Our outpatient and other revenue declined 1.5% to the same quarter a year ago. There were 49 satellites at the end of 2008, compared to 60 at the end of 2007. For the full year, outpatient and other revenues declined 5.5%. This element of our business is more discretionary in nature than our inpatient hospitals. With this in mind, and with some potential additional closures, you should expect outpatient revenues to decline in 2009. Though, I will remind you that, outpatient is not a large proportion of our revenue base.

Next, turning to operating expenses, which can be found on slide nine. Salaries and benefits improved sequentially from the third quarter of 2008 but were still higher both in dollars and a percent of revenue to the fourth quarter of 2007. The dollar increase is generally attributable to the higher number of patients treated and a result of a 3% average merit increase to all employees except senior management, effective October 1, 2008. As a reminder, these increases will be effective for the first nine months of 2009 before we have any Medicare pricing opportunity.

We did continue to see improvement in labor productivity, expressed as an employee per occupied bed or EPOB, from 3.8 to 3.64. As we also mentioned to you in the third quarter of 2008, we have made some changes regarding benefits, including paid time off, which we believe contributed to the sequential improvement from the third quarter of 2008 as a percent of revenue.

Next looking at hospital related expenses, which constitute other operating expenses, supplies, occupancy and bad debts. As a percent of revenues, these increased 0.7% compared to a year ago but were less as a percentage of revenues sequentially from the third quarter of 2008. As we mentioned last year, we experienced a reduction in self-insurance costs due to revised actuarial estimates that resulted from current claims history, industry-wide loss development trends and our exit from businesses that were more claims intensive. This benefit was primarily reflected in the fourth quarter of 2007.

The fourth quarter of 2008 reduction in self-insurance costs was less favorable than the fourth quarter of 2007. We do not believe we'll see a favorable comparison in 2009 for the following reasons. Our business is more steady state. The economy is likely to prevent continued improvement. For example, Worker's Compensation is likely to go up coincident with the higher number of employees. And lastly, there are fewer opportunities for process improvements to lessen claims, as we have gotten to a mature process.

In addition, to insurance, there was also some elimination of expenses due to state law changes that created benefits in the fourth quarter. Of these two items, we estimate the range of these non comparable items to be $6 to $7 million in the fourth quarter of 2008. And you should reflect that in your consideration for the quarter and as we look in 2009. We do continue to see higher drug and supply costs, as well as higher utility costs than a year ago. Bad debts were improved from the fourth quarter of 2007, reflecting a provision of 1.5% of revenues. As we look in to 2009, we may experience some increase as a percent of revenue due to the worsening economy but still expect to be within the 1.5% to 1.8% run rate that we have previously mentioned.

General and administrative expenses were basically flat to the fourth quarter of 2007 but down 0.3% of revenue. Our goal remains to be at 4.75% of net operating revenues, excluding noncash stock compensation costs, but it's likely not to be achieved until we see some price relief. Depreciation and amortization is below last year for the quarter as the fourth quarter of 2007 included depreciation on the corporate complex sold in the first quarter of 2008. Depreciation and amortization will see some increase in 2009 due to the additions in 2008 and 2009.

There are several items on the income statement related to our UBS settlement. And for this, I would ask you to turn to slide 14. The gain reflected on the income statement represents the $100 million cash payment, plus the release of a guarantee of $21.3 million. Professional fees on the income statement include $26.2 million for fees and expenses due to derivative attorneys. There's also 25% of the net cash amount that is owed to securities plaintiffs, as agreed to under our securities litigation settlement. And these are included as expense in the government, class action and related settlements line on the income statement. Lastly, there was the reversal of $9.4 million of interest expense that had been accrued on the guarantee mentioned earlier. The net of all of this related to UBS is a profit and loss benefit of $88.3 million. We expect to receive approximately $60 million of net cash in the first quarter of 2009.

Turning to the government, class action and related settlements line; it also includes our mark-to-market noncash impact for the 5 million shares and 8.2 million warrants, with a $41.40 strike price that we agreed to contribute as a part of the securities litigation settlement. We expect these shares and warrants to be issued in 2009. As mentioned before, this line includes a charge for the amount to be paid to shareholders as plaintiffs from the UBS settlement. Looking at the professional fees line, it generally relates to amounts being spent in pursuit of the derivative claims against UBS, Ernst & Young, and Richard Scrushy. And does include the $26.2 million of fess and expenses to be paid to derivative attorneys, as I mentioned previously.

Next, turning to items below operating expenses. Interest expense includes a $9.4 million benefit as a result of the UBS settlement. Overall, interest expense is down due to our lower debt level and lower rates. I'm going to speak more about debt later. The mark-to-market charge on the interest rate swap was because LIBOR was lower at the end of the fourth quarter than it was at the end of the third quarter. As a reminder, our swap covers $1.121 billion notional amount and is at a 5.22% fixed rate. The swap declined by $65 million in 2009.

On the income benefit line, we have a $48.4 million benefit. This majority of this benefit related to an additional Federal refund for the taxable years 1995 through 1999 that was approved by the Joint Committee in the fourth quarter of 2008 and subsequently received in February of 2009.

Next, turning to adjusted consolidated EBITDA, which can be found on slide 10. Adjusted consolidated EBITDA was $87.8 million for the fourth quarter, compared to $86.4 million in the fourth quarter of 2007. We are pleased with the results of the quarter. The fourth quarter of 2007, included a benefit of approximately $8 million from the Medicare price increase, instituted on October 1, 2007, that was subsequently rolled back April 1, 2008. For 2008, for the full year, adjusted consolidated EBITDA was $341.8 million, compared to $321.3 million in 2007. As a reminder, 2007 included an $8.6 million gain related to the sale of our Source Medical stock.

Next, I'd like to comment on net income and then earnings per share, which can be found on slide 11. In discussing net income and EPS in the quarter, we believe there are some adjustments that should be considered. These items are either noncash or nonrecurring. When one is considering income from continuing operations.

The adjustments to EPS are similar in nature to adjusted consolidated EBITDA but not identical. The adjustments to EPS generally relate to payments on litigation, mark-to-market or fair value adjustments to liabilities, the exclusion of the interest rate recoupment related to the UBS settlement, and removal of our income tax benefit. We have also added an estimated state income tax expense to reflect a run rate for this element.

Considering these items, adjusted income from continuing operations is $24.3 million, representing a $25 million improvement in income. And adjusted EPS is $0.24 per share, representing a $0.25 per share improvement in EPS over the fourth quarter of 2007. On the same basis, full year adjusted EPS is $0.75 per share. This level of adjusted EPS validates our strategy and we believe represents a significant valuation metric when looking at HealthSouth's stock value per share.

Next, I'd like to turn to the balance sheet. Available cash was $32.2 million at December 31, 2008. The increase in restricted cash at year end is the escrow of the UBS proceeds by court order. You will also notice, our insurance recoveries receivable declined $47.2 million from the end of 2007. This relates to draws against the amounts for the fees due the attorneys representing the securities plaintiffs, as permitted by the court. There was an equal and corresponding reduction in our government, class action and related settlements liability. These two items had no cash impact whatsoever, on HealthSouth.

Looking at long-term debt, slide six, was $1.81 billion at the end of the fourth quarter of 2008. For the year, debt was reduced $228 million, representing cash repayments of $254 million, offset by $24 million of capitalized lease obligations added during the year. This included and was the benefit of $150 million of a block trade transaction at the end of the second quarter, which was also used as part of the debt reduction. As Jay has mentioned, our leverage ratio declined one full turn from a year ago.

In addition, subsequent to year end, debt was reduced an additional $64 million from the tax refund mentioned previously and cash from operations. This reduced our leverage ratio by another 0.2%, putting us at a 5.1 times ratio. Since 2006 and through today, debt has almost been cut in half. Our credit agreement contains covenants, namely a leverage covenant and an interest coverage ratio. We are in compliance with these ratios at the end of the fourth quarter.

With the uncertainty in the economy, we've also included a liquidity schedule, which can be found on slide 13. Based on our available cash and undrawn revolver, we had $339.5 million of liquidity at the end of the year. This will be increased by $33.6 million, as a result of the letter of credit requirement being removed with the UBS settlement. Since the end of the year, we have repaid our revolver draws of $40 million. And this does not include the approximately $60 million of cash from the UBS settlement that we expect in the first quarter of 2009.

Next, turning to cash flow, which can be found on slide 12. Free cash flow, adjusted for interest rate swap payments and dividends on preferred stock for 2008, was $82.1 million. Total capital expenditures, including acquisitions for the year, were $88.8 million.

The following is a breakdown of the components. For the year, $32.8 million was spent on acquisitions, that Jay had mentioned previously. Secondly, capital expenditures, not of a maintenance nature, were $18.7 million. These primarily represent payments towards already announced de novos, our cost related to reconfiguring the corporate office and some in IT infrastructure. Lastly, maintenance capital expenditures of $37.3 million were spent, which included moneys on our refresh programs in our hospitals.

On the cash flow, you will also notice we had $12.2 million use of working capital, which is related to our growth in receivables from our revenue growth. As Jay mentioned in his comments, we will be focused on deleveraging the balance sheet in the near future. As such, we will be looking to finance the real estate on new de novos from exceptions -- from inception. We will continue to be very disciplined in our use of cash, with a strong direction to reduce our leverage. Uses outside of debt reduction are being evaluated from a cash-on-cash perspective, generally expecting a payback in three to four years. With this, I'll turn it back over to Jay.

Great. Thank you, John. Before we take questions, I'd like to address 2009 guidance. When we developed our business model, we predicted it would enable us to generate mid to high single digit EBITDA growth and high teens EPS growth on a sustained basis, once we had stable pricing. We believe these results remain achievable despite the current economic environment.

As we stated on our third quarter call, we believe our business model is resilient due to the following. First, most of the services we provide are non-elective in nature. Strokes, hip fractures, debilitating neurologic conditions, all require immediate medical intervention and essential post-acute rehabilitative care. Second, since most of the services we provide are covered by Medicare, we don't have significant payer risk. The relatively small amounts of copays and deductibles we collect are primarily associated with our outpatient business, which as John said, is a small component of our total net operating revenues.

Furthermore, unlike other post-acute providers, we have virtually no exposure to Medicaid, which is coming under increasing pressure in many states due to budget shortfalls. Finally, our financial condition is improving. We have approximately $350 million in liquidity. Are aggressively repaying debt and reducing our leverage. And don't have any near-term maturities until 2012 and beyond.

As we look out in to 2009, we believe continued focus on our proven strategies; providing superior clinical outcomes, sustaining our standardized sales and marketing practices, and adding beds at hospitals experiencing capacity constraints; will allow us to achieve 4% plus growth in discharges for the year. Our 2009 net operating revenues will be determined by two factors, what happens to our Medicaid inpatient pricing and our outpatient revenues. For modeling purposes, we anticipate outpatient revenues will continue to deteriorate but at a lesser rate than in 2008.

While it's difficult to gauge how much of an inpatient increase we'll get from Medicare, we are optimistic we'll get something. In large part because by the fourth quarter, our sector will have gone for 18 months without any Medicare price adjustment. While we anticipate receiving a Medicare price increase in October, for guidance purposes, we are providing ranges based on two assumptions. At the low end, that we won't get any update. And at the high end, that we'll receive a modest update.

From an expense standpoint, our goal is to keep our labor costs increase to approximately 4% and below 51% of net operating revenues. The balance of our hospital-related expenses will be managed to an overall increase of between 3% and 3.5%. Meanwhile, we will keep G&A flat in 2009 and as a percent of net operating revenues, at 4.75% or less by the end of the year.

As John mentioned, there were approximately $6 to $7 million of non-comparable items in the fourth quarter of 2008. Excluding these, we would have been at the top end of our EBITDA guidance for the year or $335 million. The forecasted EBITDA range of $342 to $352 million for 2009, represents an increase of, between, 2.1% and 5.1% on this basis. And reflects the Medicare pricing and outpatient revenue assumptions mentioned above.

As we have stated many times, our focus is to produce solid shareholder returns by generating annual, sustainable EPS growth of 15% to 20%. Our forecasted EBITDA growth, coupled with continued progress on our deleveraging priority, make us believe we can achieve this goal in 2009. Accordingly, we are predicting adjusted EPS to be in the range of $0.85 to $0.90 per diluted share for our full-year 2009, for a forecasted increase of between 13% and 20%.

I want to reiterate how proud I am of the progress we've made this past year. We've clearly demonstrated that our business model is sound and that we can post solid results under a variety of external market conditions. While 2009 certainly won't be without its challenges, I'm confident our focus on organic growth, deleveraging and disciplined acquisitions, will continue to create value for our shareholders. With that, operator, we can begin taking questions.

Thank you. (Operator instructions). Your first question comes from Adam Feinstein with Barclays Capital.

Thank you. Good morning, everyone.

Good morning, Adam.

A really strong quarter here. Just a couple of questions, to follow up, Jay. The volumes looked great. You highlighted that volumes are holding up and the business is not being impacted by the economy. I was just curious if you can comment a little bit on mix? Any changes in terms of your mix of patients? With higher growth in some of the higher acuity areas, just curious if you could provide some clarity there?

Sure. I'm going to ask Mark Tarr, whose our Executive Vice President of Operations to respond to that.

Good morning, Adam.

Good morning.

We continued to see growth in our neurological programs. Specifically, stroke has been a nice steady performer, of course, accounting for almost 18% of our total patient mix. Other neurological continues to grow for us. This past year we saw it grow 1.5% from previous year to account for 10% of our total patient mix. As well as the injuries related to trauma, specifically brain injuries and some spinal cords in our facilities that are closely in proximity to trauma centers. So, we continue to see our neurological case mix grow and our dependence upon orthopedics decrease.

Okay. Great. And then just to follow-up, do you have a Medicare case mix for the quarter?

I'm not sure that we have provided that in the past but our range has been pretty consistent, in that 1.28 to 1.30 level. And that really hasn't changed too dramatically over the year. And maybe, unlike some of the acute care providers, we don't see major shifts in the case mix index quarter-to-quarter. If there's going to be a shift, it usually happens pretty gradually and is over a longer period of time.

Great, okay, good. And then, just a follow-up question on the guidance here. Just a couple of minor things but could you just clarify what sort of share count you're using in the 2009 guidance? And then, I know you said on the Medicare side, that you were assuming at the low end, flat pricing when the update comes out later this year. As well as, you said some modest increase at the high end. But in terms of the non-Medicare side of though business, just wanted to see if you could give us an update in terms of the range of pricing?

Yes, on the shares, 104.7 million shares is what we're using.

And that's the fully diluted count, Adam, plus the 5 million shares that relate to the shareholder litigation that we believe will be issued some time in 2009. And in terms of the non-Medicare pricing, we're looking at the low end of that 3% to 5% range that we had talked about previously, as what we think that range ought to be on a go-forward basis. And so, we're still pretty comfortable that the non-Medicare pricing will be in that range. I think in 2009, our forecast and the guidance that we're providing is based on the assumption that will be at the low end.

Okay. Thank you very much.

Sure. Next question?

Your next question comes from David Macdonald with SunTrust.

Good morning, guys. Jay, you talked about your work to add hospitals opportunistically. Is it fair to assume that de novos will kind of be served in the pecking order? That you'll be looking to do acquisitions or some type of joint venture to preserve capital as much as possible?

Yes, I think the pecking order really, is first, debt repayment. Second, is going to be bed additions. Third, would be acquisitions where there's a consolidation opportunity. Forth, would be if there was a de novo opportunity and we had the financing lined up. And then, the last would be acquisitions in new markets.

And I would add to that financing at reasonable rates, David.

Okay. And then just a couple of other questions, guys. I think the number was in the neighborhood of $8 million that you were going to spend on TeamWorks in 2008. Can you give me a sense because I know there has been chatter about a TeamWorks like initiative on the labor side, just kind of where those dollars are going to be redeployed or kind of what's going on there?

First of all, it was closer to $5.8 million in '08.

Okay.

And there will be a series of different initiatives. We're looking at three different tracks. One, is focusing on our clinical outcomes and enhancing those. Second, is looking at a variety of ways to improve our operations. The labor agenda is the number one topic in that track. And then the third, is differentiating ourselves with respect to service. So, there will be an investment. Clearly, it won't be to the same magnitude as we had in 2008, with the very focused effort on sales and marketing. But we are going to be making investments in operational improvement, clinical enhancement and service differentiation in 2009.

And then, guys, just a final question on the labor expense. That was a lot better than we were looking for. Is changes to paid time off and increased efficiency really all of it? Is there anything else in there? And then secondly, is the environment helping you guys in terms of finding people and maybe not having to pay as much to bring folks on board?

Well, there's no question that the economic environment is helping us from a recruitment and, I believe, a retention standpoint. I would say, though, that part of that retention is attributable to the fact that we are not laying people off. We've made some adjustments to our benefit programs but they remain very competitive. And you can pick up any local newspaper in virtually any market where we have a presence, and read about acute-care hospitals having to cut back. There are some reports of 401-K plan matches by the employer being discontinued, so on and so forth. So, we think we have a very competitive composition and benefits structure. And clearly, the tightening of the economy is making it a little bit easier to bring back to the workforce people who had maybe stepped out for a couple of years.

Yes, and, David, on the issue about non-comparable, we mentioned there were $6 to $7 million of non-comparable in the quarter. Part of that was in Worker's Compensation, that we had the benefit. And that's why I talked about being mature and we're not seeing that same opportunity going forward. But some of that was reflected in the fourth quarter and helped to make that percentage a little bit lower, in addition to the items that you mentioned. And as we've said before, and as Jay said in his direction, our goal, and what I think you should be looking at, is to stay within 51% or south of that as salaries and benefits for the full year, as a percentage of revenue.

Okay. Thanks, guys. Good quarter.

All right. Thank you, David.

Your next question comes from AJ Rice with Soleil Securities.

Good morning, AJ.

Hi, Jay. Hello, everybody. A couple of things real quick. You have this nice slide number 12 on the free cash flow, and you've given us a target for EBITDA for '09. And at the high end, you pick up $10 million relative to this year. As you look down that chart, John, maybe is there any other of those items that you would expect to materially swing in either direction, either as a help or a detraction from free cash flow generation in '09 that maybe is worth highlighting here?

I think a couple of things. One of which is cash interest expense should be going down. But you're also going to see, probably a little tickup in that interest rate swap because we'll be getting some benefit on the interest expense line, but clearly, some payback, if you will, because of the swap. But even if you combine those two, we should experience less cash going out the door in '09 than we had in '08. Working capital, probably some slight use. Again, it parallels pretty much our change in our revenue and hence receivable mix. So at a little bit more modest volume growth in '09, you might not see as big of use. But it still will probably be some use. If that's helpful?

Okay. And then -- obviously this year, you had a lot of success paying down debt, $228 million, ended with $1.8 billion. And I know you've got the 2010 of getting to four times debt to EBITDA. What -- any sort of range of expectations for how much debt you might pay down over the course of '09? And can you give us any flavor for what tranches of your debt would be the areas of focus and you might see that paydown?

Well, I think what we said was 4.5 times leverage ratio by the end of 2010. Clearly, we are on a track to get there sooner than that. One of the big items that we didn't talk about on the call, was the derivative action against Ernst & Young.

Right.

We are optimistic, as we've said in some of our investor presentations, that we might get proceeds from that in 2009. If we do, then we'll be easily below the 4.5 times. As my comments said, in 2009, we've already paid back the revolver. With the cash, we paid down debt an additional $64 million. That other $24 million went towards a term loan because it was required to go against the term loan because it was a tax refund and that's what the credit agreement required. We will continue to be watching for opportunities to buy higher cost debt, as we proceed through 2009. And it has traded up, as you probably know. And I'm sure there's fixed rate income people on the call, especially, our fixed rate bonds. It's not quite as attractive as when the bonds were trading a steep discount. But we will be looking to opportunistically pay down debt and our highest cost debt, obviously, as we progress through 2009. Again, with some limitations, depending on the source of the proceeds about whether they need to go against the term loan or are available for other purposes.

Okay. And then just last, a real quick question on the volumes. Thanks for the comments. I noticed you guys had strong volumes, continue to have strong volumes. You're getting a lot of comments from the orthopedic vendors and people following the device side about weakness in various of their end markets. You guys have a little bit of a lose still on the outpatient side. Can you maybe -- are you seeing that, even on the outpatient side? Obviously, you're not seeing it on the inpatient side, it would seem. And maybe, Jay, could you make any comments on that?

Yes, where we're seeing it clearly will be in our lower extremity joint replacements. And as we've said before, that represents, today, approximately 10% of our total volume and that has remained fairly consistent now for the past year. So I think that the comment that you're hearing probably refers more to the non-Medicare and elective procedures, not the kinds of patients that we treat. Now, will there be a potential impact on the outpatient side? Perhaps. And in fact, as we said, as we look at 2009, you need to build in a slight deterioration in outpatient revenue. So we are forecasting that there will be some weakness in that area but again, overall, it does not negatively impact the overall performance of the Company.

Okay. Great. Thanks a lot.

You're welcome. Next question?

Your next question comes from Pito Chickering with Deutsche Bank.

Good morning, guys. Just a couple of questions here. Sort of realizing that this is a pretty erratic number but the length of stay was down considerably in fourth quarter versus even the first quarter of this year. Realizing those impacts consolidated revs and then, it possibly impacts margin. Is there any guidance as to where it should be in 2009?

Yes, Pito, this is Mark Tarr. I don't see it changing drastically from where we were in 2008, going in to 2009. The decline that you've seen and just mentioned is, really, I think our clinical teams have just become more efficient in caring for the patient. So, it has obviously contributed to the decrease in the length of stay.

And then on the market share gains, you've obviously been outgrowing the industry by quite a bit. Is there any feeling for where those market share gains are coming from? Specifically, are you taking market share from other inpatient from rehab facilities or from other post-acute providers? Is there any split on kind of how we should look at those gains?

So, that's a great question, unfortunately, there are not data sources out there to tell us. The UDS data source is for inpatient rehabilitation providers. So if you look at the change and the slide in the deck, it would imply that we are taking market share from other inpatient rehabilitation providers. The kinds of patients that we treat in our hospitals are really very different than the kind of patients that end up in a nursing home. And despite putting the name 'rehabilitation' in front of nursing home, it's still a nursing home. And the requirement in our hospitals are that patients have to be able to tolerate at least three hours of pretty intensive rehabilitation every single day. So most of our share, we believe, is coming from other inpatient rehabilitation hospitals. But we also think that we're gaining back some volumes from physicians who were referring patients to nursing homes, out of necessity. Not because they wanted to but out of necessity, during the 75% rule implementation. So unfortunately, there's not any hard data source that would be able to quantify that, this is more sort of anecdotal and knowledge of the markets. But I think we're gaining, really, on both fronts.

One thing I would add, is I think we were encouraged and as you know the data is on a quarter lag basis. But we were encouraged to see that the industry had positive growth in the third quarter. And based on our strong results, we would also expect the fourth quarter may show the industry with growth too. So, I think that's an encouraging point.

Okay. And then, two quick follow-ups here. Obviously, you had a pretty solid same-store growth in the fourth quarter. Yet the full-time employees and contract employees had a pretty minimal increase. So, looking at productivity, do you expect to continue growing that in 2009, or are you guys pretty much maxed out as to where you are today?

Sorry, I didn't understand the question, Pito.

Looking at your same-store volumes, 9.7%. And then, if you add up the number of full-time employees and contract employees. So that change year-over-year is only about 1.7%. So as you keep growing in '09, granted at slower levels, do you think you can sort of keep that delta or will it be sort of more in line with the volume growth?

One caution is -- what you just described was looking at quarter-over-quarter. Remember, there's a -- in bringing on full-time equivalents, they typically have to precede volume increases because of the training that's involved. And as we've talked about that is, when we had some large increase in the past, being one of the reasons why salaries and benefits as a percent of revenue were higher because there is that time period. So be a little bit careful about just looking at the quarter change but I think the broader question is on productivity.

Yes, Pito, if you look at our -- there's a slide in here that refers to the EPOB, our staffing ratio, and we've made some nice progress on that in '08 versus '07. We'd like to think that our initiatives on the labor side and as we work towards standardization across our hospitals, using the best-practice approach, that we would continue to see some pickup in that. But we'll work on that every day.

And then last housekeeping question, the timing of the new beds in 2009, is is there any feel if those are more back ended or are those throughout the year?

They are back-end loaded.

Great. Thank you very much, guys.

You're welcome. Next question?

Your next question comes from Rod Hawkins with Stifel Nicolaus.

Hi, Rod.

Good morning, guys. Can you guys help me a little bit? And maybe I missed it on some of the guidance details. And what I'm seeing from the EBITDA -- a suggestion in terms of kind of rates and volumes. If you think about your commercial being kind of 3% to 5%, 0% on Medicare, you're kind of looking at somewhere between maybe 0.5 point and 1 point on revenue per discharge growth. Would I be thinking about that right? And then maybe, based on the EBITDA guidance, 4% to 6% on the volume growth?

I think that the volume assumption that I would use for 2009 is in that 4% range. We've managed this Company for the last four years through the turnaround and into 2009, in a pretty prudent manner. And we don't want to get out ahead of ourselves. We want to be able to deliver on the promises made. So I think on the volume side, you ought to be looking at 4%.

In terms of pricing, there is, really, two sets of assumptions. One, that we got no increase from Medicare and, say, a 3% increase on the non-Medicare. And then at the high end, that we get a modest. Now, we're not out there predicting what that's going to be. Clearly, we think we deserve a full-market basket update, given the fact that we've gone 18 months without anything. And there are people from CMS listening to this call just like everybody else. So, we're not going to signal that we would be happy with anything less than a full-market basket. However, for guidance purposes, we're going to be more conservative than that.

So, you've got the volume assumptions. You've got the pricing assumptions. I think that the other thing that's important is to look at the starting point as $335 million, not the $341.8 million. Because there were those con comparable items, that John mentioned, that really need to be netted out. So you start at $335 million. And at the $342 million, that's a modest increase but it's reflective of a really harsh pricing environment. And then at the top end, the $352 million is a 5% EBITDA growth, which we think, in this climate, is pretty good.

And, Rob, remember, that on the non-Medicare, they're not always effective as of the beginning of the year. Those come into effect throughout the year and are fairly even. And lastly, we gave some commentary on outpatient and I would be expecting outpatient revenues to decline in '09 versus '08. Though, perhaps not at the same level of decline that we experienced in '08 versus '07.

All right. Thanks. And then, just a clarification point then on the Medicare advantage. That's in your commercial and in your commercial pricing, correct? And then, where do do you guys stand on contracting, is most of that stuff already locked in this year?

A lot of it is locked in and it is in the commercial. And what we will hope to do is include that in to the Medicare line item because we do think that that ought to be reflective of the Medicare pricing. But right now, it is in the managed care bucket.

Okay. And then, nonprofits are struggling, obviously. And the recent AHA survey said that one of the areas they're thinking about cutting are many -- side cutting in the survey included rehab. So, any acceleration in discussions going on there?

We certainly are seeing more discussions and what I -- what you just reported, I think, is indicative of what's happening in the market. But we're going to be pretty disciplined with respect to our free-cash flow. And we clearly want to grow but our first priority is paying down debt. I think in this environment and in this market, that's the prudent thing to do. If there is an opportunity to acquire and consolidate, we'll definitely want to be at the table.

Hi, Rob. One of the other interesting dynamics that we have to watch now, in what you just described, is the referral source itself or the acute-care hospital. Because in some cases, as you know, the acute-care hospitals are under such dire strains that you have to worry about the future viability of those. So when you evaluate those, we also to think about that, not in all cases but at least in a few, we've had to consider that.

All right, fair enough. I'll jump back in the queue. Thanks, guys.

Great thank you. Next question.

Your next question is from Paxton Scott with Jefferies.

Good morning, nice quarter. You may have touched on this already but I was hoping that you could provide a little bit of color on kind of what you've seen in the volume front so far in the first quarter? And if that's comparing, in line with your 4% range, or if it's above or below? And then secondly, I was going back to the E&Y and the Scrushy litigation. Can you remind me, if you all have given a range of the expected proceeds there or any additional color that you can provide? Thanks.

Taking that in reverse order. No, we have not provided any kind of range. We think that that would be inappropriate, quite frankly. We certainly don't want to create any sort of artificial ceiling. There's no question that the damage to the Company has been significant and we're going to be pushing very, very aggressively on that litigation. In terms of volumes into the first quarter, we do feel good about where we are at this juncture. The first quarter was a big quarter, is always a big quarter for us. We have one less day this year than we did last year. So, I don't want to get out ahead of ourselves but there's no question, when we started our TeamWorks back in 2007, we knew that bringing new patients in was going to be the important component of our business model. And we remain committed to that.

Okay. Thank you.

All right. Next question?

Your next question comes from Noah Yosha with Health Core.

Noah.

Good morning, Jay, John.

How are you?

Good. I just had one quick follow-up to, I think, it was AJ's question. On the adjusted free cash flow number for the full year, that $82 million, should we think of that as growing that same 5%, Jay, that you just walked through for the EBITDA growth?

That's probably a reasonable basis, yes. I would say. It could be a little bit higher, only because we should see cash interest plus swap come down a little bit.

Okay. And then total de novo or any growth CapEx in 2009?

There will be some growth CapEx in 2009, yes.

All right. Great. Thanks.

All right. Thank you. Next question?

Your next question comes from John Ransom with Raymond James and Associates.

Good morning, John.

Probably an unanswerable question. But how do you expect the 2010 budget process to play out? I know we'll get the State of the Union, we've already has the Fiscal Responsibility Summit. But are your lobbyists telling you the earliest you might see some daylight on some of the details on some of the healthcare service subsectors?

Yes, that's a good question. What we're hearing from Washington, and it's the same thing that probably everybody on the call is hearing, is that healthcare is going to be a top priority. What we're also hearing, though, is that the priority is to address the uninsured and to provide some means of bringing that large number of uninsured down. Our piece of the overall pie, if you will, Medicare's spending pie, is relatively modest. If you look at 2008, there is about $6 billion. So it's not a huge component. We don't anticipate that our sector is going to be negatively impacted, in part, because of all of the structural changes that have occurred over the last several years. So, we'll probably start to see some visibility on healthcare spending in the latter part of the second quarter. Maybe the mid part of the second quarter.

The only thing I've have heard from Washington is that your taxes are going up. That's the only thing I know for sure. That's it. Thank you.

Yes. There are certain things that, as we all know, that are certain in life. And that's one of them. All right. Any other questions?

Our final question comes from Wei Romualdo with Stone Harbor.

All right. Just a quick one. On the restricted cash, can you just -- what does that consist of and what it is earmarked for?

Sure. Two things, as I said earlier in the comments, it's much higher than a year ago, because the UBS settlement had to be escrowed. It was actually paid into escrow before year end. That will become available cash to us some time here in the first quarter, is our expectation. And then, it will become available cash. So that would go down roughly $100 million for that, even though the Company would only net $60 million of out that because we have to pay the fees to the attorneys.

The remainder is restricted cash that is in our joint ventures with our acute-care hospitals, where we may not -- they may number one -- the cash is not accumulated with the HealthSouth accounts and is kept separate. And so, for those purposes we keep that as restricted cash. And lastly, the other big item is we have a captive insurance company. And that captive insurance company had to have a certain amount of investments in cash itself to support the reserves that on the captive insurance company. That is the single biggest component, once you back off the UBS proceeds. And that will not be coming back to the Company any time soon. The joint venture, kind of the cash gets paid back into the Company, restricted cash builds. And it's just kind of a continual cycle.

Okay. Thank you.

You're welcome.

This concludes our conference call today. If you have additional questions, we will be available later today. Please call me at 205-969-6175. As a reminder, we will be attending the Barclays Capital Global Healthcare Conference on March 10 and 11. If you are unable to attend, our presentation will be available by Webcast on the investors section of our Website. Thank you for joining us today.

Thanks, everyone.

This concludes the HealthSouth fourth quarter and full-year 2008 earnings conference call. Thank you for participating. You may now disconnect.