Hanger Inc (HNGR) 2005 Q3 法說會逐字稿

Good morning. My name is Staplin and I will be your conference facilitator. At this time, I would like to welcome everyone to the Hanger’s Orthopedic Third Quarter Results 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 period. If you would like to ask a question during this time, simply press "*" then the number "1" on your telephone keypad, if you would like to withdraw your questions press "*" then the number "2" on your telephone keypad.

Thank you, Mr. Ivan Sabel, Chairman and Chief Executive Officer, you may begin your conference.

Thank you. Good morning everyone. Thank you for participating in our third quarter 2005 earnings conference call. Before we get started, I need to read our Safe Harbor statement.

This document contains forward-looking statements relating to the Company's results of operations, contracts and credit arrangements. The United States Private Securities Litigation Reform Act of 1995 provides a "safe harbor" for certain forward-looking statements. Statements relating to future results of operations, contracts and credit arrangements in this document reflect the current views of management. However, various risks, uncertainties and contingencies could cause actual results or performance to differ materially from those expressed in, or implied by, these statements, including the Company's ability to enter into and derive benefits from managed care contracts, the demand for the Company's orthotic and prosthetic services and products and the other factors identified in the Company's periodic reports on Form 10-K and Form 10-Q filed with the Securities and Exchange Commission under the Securities Exchange Act of 1934. The Company disclaims any intent or obligation to update publicly these forward-looking statements, whether as a result of new information, future events or otherwise.

Now let move on to the Company's third quarter performance. As you know we reported net sales of a 146.6 million, EBITDA of 20.2 million and earnings per share of $0.13. These results include a decline in same center sales at our patient-care facilities during the quarter of 0.7 percent, seven-tenths of a percent or $1 million in the third quarter.

As we reported earlier, we did not anticipate that storms would have a material impact on our revenue. In fact in the direct hurricane zone, we had approximately 14 patient care centers that were closed for some period of time and resulted in about $600,000 loss in revenue. What we have not anticipated was the disruption on the surrounding hurricane region, which suffered pressure on sales due to the peripheral disruptions in daily activities.

Now based on the revenue run rates through August '05, we estimate total revenue impact of about 1.7 million for the entire effected region including the closed offices. With out the impact of those storms, same center sales growth could potentially have been 0.7 million better or an increase of about 0.5%. In addition, the revenue strength in Q2 2005, left our working in process inventory lower than what our historical norms have been and the work in process inventory was higher than the historical norms at the end of Q3, 2005. So if you went back and smooth the two quarters, even with the effect of the hurricanes, we would have had potentially results of same center sales growth of approximately 1% in both quarters. Of course compared to the results from last year, the company continues to show signs of improvement.

As we further analyze our sales year-to-date, sales are up 1.10 to 1% or about $300,000. Lets us see if we can isolate now where that -- some of the declines have occurred and in three of our 14 markets, we have experienced sales decline that total about 11.3% or $8.5 million through the third quarter and that of course includes our Down State New York area. Just as a comment on the Down State New York area and West Hempstead, we received no additional inquiries or requests related to the investigation at West Hempstead and we believe most of the weakness in this particular area continues to be the result of the earlier negative publicity. Management continues to evaluate strategies for each one of these markets and we will report any updates as appropriate.

As a result of the reimbursement fees and the inflationary pressures on our business, we have reduced SG&A by modifying the calculation of our variable compensation plan for this year as well as the future. This modification will more closely align our variable compensation program with the interest and returns to our shareholders. Now when George goes into the financial presentation, he will give you more details surrounding this.

Let me update you now in the status of our Linkia initiative. As you know we signed a contract with CIGNA on September 7th and I am pleased to announce that that contract has gone live as planned on October 17th. Many of you know we have had negotiations with several additional national payors and we continue to make progress on that.

Let me just comment, we had talked earlier about a second potential contract, we had agreed to a second national Linkia contract in principal to all terms and that particular payor came back with a request for additional reduction in fees which we have at this point rejected. We don’t believe that it is in the best interest of the company and certainly not in our shareholder's best interest to agree to any further cuts in order to have that contract going into effect. So we are back at the table negotiating pricing that is the only issue right now. Certainly there is still a desire on their part to move forward. It's just this question of what price.

Prior to signing the CIGNA contract, we entered into two contracts as you know, with United Healthcare on a preferred provider basis and MSC, on an exclusive basis. And year-to-date, I am pleased to report that these contracts have added an additional four million of sales over historical levels from these two payors.

As previously disclosed, we have several sales initiatives underway and Tom Kirk certainly will go into detail providing an update in his part of the presentation. However, I want mention that Innovative Neurotronics has received its 510(k) approval from the FDA for our product WalkAide. The WalkAide is currently undergoing its final clinical trials and we expect these to be complete hopefully early in the first quarter of 2006 and commercial activities to commence thereafter.

So, in summary, we continue to see steady improvement over the last year even though our sales growth in the third quarter of '05 was somewhat lower than anticipated. And we continue to manage our costs aggressively and from that we were able to report $0.13 net income per share for the quarter which is about $0.01 ahead of on this consensus. George will go into the specific details surrounding our financial results and of course, the business environment in orthotics and prosthetics remains challenging but we are confident that our growth initiatives are starting to bear fruit. Innovative Neurotronics will begin to generate revenue in '06 and the launch of the CIGNA Linkia relationship and perhaps future potential Linkia contracts will provider positive momentum in the fourth quarter and into '06. With that I would like to turn it over to George.

Thank you, Van. Thank you everybody for joining us today. First I will highlight the quarter. Our sales increased to slightly by $261,000. Comp sales in our patient-care centers as Van mentioned decreased by seven-tenths a percent or $1 million for the quarter. SPS we had $1.3 million or 12.4% sales increase.

Now turning to cost of sales, for the quarter they increased by 2.9% as a percentage of sales compared to 2004. Our labor costs increased by $900,000 or six-tenths of a percent. And the percentage increase is simply due to the increased labor costs that were affected by salary increases planned at the beginning of the year in relation to flat sales. Material costs increased by $3.5 million or 2.3 percent as a percentage of sales.

Purchases increased during the quarter in part due to a mix change in favor of orthodics which has higher material costs. And we had higher shipping costs partially due to the rising in energy costs caused by the storms in September. It really is more relevant to look at the materials year-over-year as opposed to just looking at quarter-by-quarter. When you focus on the year, our material costs had increased from 28.4% in 2004 to 28.7 up three-tenths of a percent increase.

SG&A increased by $6 million compared to 2004 principally due to the reduction bonus expense. Roughly half of that change is due to simply the change in the capitalization that Van mentioned a moment ago. And the balance is due to the impact of increased material costs, labor costs on the calculation of sales and a reduced management accrual. So, when you are focused on that, keep in mind that half of that change would have flowed through the P&L anyway just by virtue of the fact that costs had changed during the year and the rest was the change that Van mentioned.

EBITDA as result of all this increased by $1.8 million to 20.2 million from 18.3 million in the prior quarter. Interest was $400,000 higher than last year despite the overall reduction in borrowings due to increased variable interest rates. Depreciation increased only slightly by just under $100,000 compared to prior year due to the low level of additions in the first nine months. Our additions in the first nine months were $6.5 million versus over $15 million last year, it’s the same period.

For the year, our sales increased by $6.2 million. SPS reported a $3.2 million or 10.8% increase in the first nine months. Comp sales in our patient-care centers increased by one tenth of 1%, which is $300,000. And the balance of the increase was due to acquisitions that were made in 2004 and were not yet part of the comp store calculation.

If you factor in the lost sales that Van mentioned from the storm same center sales for the year would have increased by 0.5% and actually the number for the quarter was then exactly the same 0.5% increase. Cost of sales year-over-year increased by six tenths of a percent from 49.1% in 2004 to 49.7% in 2005. The principal reason was a three tenths of a point increase in material costs and a four tenths of an increase in labor costs again due to the impact of salary increases.

SG& A increased by $500,000 compared to '04 for the following reasons. First, we had a $5.5 million decline in the bonus expense. Then going in the other direction we had $2.4 million in labor costs associated with the increase as I mentioned before as well as the increased cost of healthcare. We had $1.4 million associated with our growth initiatives at Linkia and Innovative Neurotronics. That is basically the G& A component of those efforts. And we had $2.2 million related to inflationary pressure on fixed operating costs such as rent, travel and another operating costs.

EBITDA was $54.2 million in '05 compared to 54.8 million in 2004, a $600,000 decrease. Depreciation increased by 400,000 for the year again because of the low level of CapEx and our interest expense increased by $2 million in the first nine months due to the variable interest cost.

Turning to the balance sheet, our AR increased by $6 million despite of the 1.5% sales increase. Our DSO’s improved to 65 days compared to 69 days at 12/31/04, and the decrease was due principally to an overall reduction on receivables over a 120 days old. Those receivables were reduced to $24.8 million or 21.8% of total AR compared to 28.2 million or 23.8% of total AR at the end of the year. So we're continuing to make good progress there.

Inventory increased by $3.4 million to 71.2 million from 67.7 in the last year to support the sales increase both in our practices and the distribution segment and to meet purchase commitments at SPS, which we are happy to say for the most part have now been satisfied.

Our CapEx for the quarter was 2.5 million and 6.5 for the year, which I mentioned before is significantly below our plans -- it's below our planned 17.5 million and it's below last year's actual of over 15 million. Cash flow from operations for the quarter was 9.6 million compared to 27.9 million last year, an $18.3 million decrease. And for the year it was 13.4 million compared to 32.6 last year or up $19.2 million decrease. That decrease was due entirely to build on working capital. Last year's working capital grew in the first nine months by only $5.9 million. This year some of the changes we made that we just discussed, the change in bonus expense had and an impact on accruals, which had an impact on working capital and was part and partial to those needed changes. So we had a $9.8 million change there related to that issue and the change in our accruals or payroll accruals just due to timing.

We also had a $6.6 million change in working capital that was tied into the frequency of payments which changed as a result of the amending of our agreements and we had some build in inventory that I just talked about of 2.9 million. So those three items where most of the changes. You should keep in mind that in first nine months of last year we had not paid down the revolver. It was basically at the same level it was at the end of year in '03. This year we paid it down by $4 million by managing our CapEx down (ph).

That summarizes the results for the quarter. I would like to move on to our current expectations from a stand point of Q4 and 2006. Based on our current expectations, we expect revenue in Q4 to be in the range of 147 to 149 million and our EBITDA in the range of $20 to $21 million. And I would take our revenues for the year to be between 577 and 579 million and our EBITDA between 74 and 75 million for the year ended 12/31/05.

Moving on to 2006, we want to give you our view of 2006 based only on what we have in house that is measurable and quantifiable today so that we can establish a baseline for the business. In 2006, we will be living through the last year of a freeze and we expect our base business to remain flat but slightly positive. Volume increases for the new Linkia contract with CIGNA, approximately 5% growth form sales in SPS as well as the marketing of our first new product from Innovative Neurotronics that Van mentioned has just been approved. It should generate sales growth of between $22 and $27 million between 4% and 5%. That results in revenue in arrange of 600 million to 605 million in EBITDA and a range of 78 to 79 million for the year ended 12/31/06. With that I would like to turn the call over to Tom Kirk, our Chief Operating Officer.

Thank you George, pleasure to be with you this morning. First, I will provide a little bit of color on some of the events that are impacting our operations for the quarter and then I will update you on some of our new growth initiatives. Let us turn our attention first to SPS. You are seeing for the number that we have reported that their growth is above the level that we forecasted and discussed with you on the last call. SPS was able to exceed our expectations by advancing a new sales strategy that features the proactive formations of what we call regional buying groups. This effort involves identifying a respected member in the O&P patient care community, and working with this company to build a small group of customers that will dedicate their purchases to SPS in exchange for favorable purchasing terms.

SPS has done this in three areas and is now developing two others at present. In addition, SPS has continued to benefit from the recent publishing of its new catalogue. Our vendor programs which provides SPS with the broadest and deepest range of product lines in the industry. And it's quite unique compared to other distributors that are out there. It gives SPS a unique competitive advantage. And finally SPS continues to implement a 2005 marketing plan through a sales department which has as its center thrust stealing share from other competitors by reinforcing all of SPS’s advantages particularly its very strong customer service.

Over on the HPO side, as you’re aware we divide the country into 14 markets or regions. Experience has shown that different regions of the country perform differently during the same period. The ebb and flow of this diversity provides balance to our overall portfolio; tending to damp out the severity to some of the peaks and valleys. And some of the key impact that were affecting the results of this quarter based upon this diversity of markets are as follows. Van alluded to some of this before. So, I won’t go into any real detail here but I want to give you a picture of what’s going on.

In three of the four markets that Van mentioned that were exhibiting some performance difficulties, we experienced a reduction in the number of patients needing microprocessor prosthesis and lower extremity prosthesis. This can be attributed to a combination of some cyclical patient conditions which do occur in the business. And we know this because in some of these areas we are the exclusive provider. By that I mean that we really have no competition. We have very strong relationships with the referral sources and we know that these things go through a bit of the cycle.

To try and counter this trend, we're increasing our market presence in this field through what we have called the patient evaluation clinic. We have set these up such that we go through our files, ensure that patients are coming back on a regular basis, much the same as the dentist does to ensure that they’re checked, to ensure that they have got the best fitting functionality and that their devices are in good order. By bringing these patients back in is not only good patient care but allows us the opportunity to try and make sure that we can flatten out some of the peaks and valley in this patient cyclicality.

In addition to that, we've instituted a new program which we call people in motion. This program goes out into the local areas and demonstrates to those entities that there are better ways. There are new technologies, and we work with the ACA and we work with regional hospitals and regional rehab clinics to go in and demonstrate the best available technology. And when appropriate to put advanced prosthesis on these patients on a trial basis so that they can know and understand the benefits of using some advanced technology. Those things are starting to gain traction and we think they are going to counter some of this cyclical influence that is out there.

In addition, we've also seen some intensified competitive activity in one of the three markets in our orthotics area. To counter this we're instituting a new program and changing our delivery model to supersede some of these competitors' actions. Once this is established, we’ll then take this program and diffuse it into all of our other regions over the next year.

Finally the fourth market is greater New York and Van has already talked about that in terms of trying to regain credibility and bring it back up to norm. Suffice it to say that we wish this thing will come to a speedy conclusion but that's out of our control. So we will be using our ground(ph) forces to make us much headway as possible.

On an overall basis for our operations, we still see the same challenging conditions out there in the O&P business that we've talked to you about in the past. Those things specifically revolve around four points and that is that the government payors are looking for ways to trim costs they say tough economic conditions. Third party payers are continuing to use their side(ph) to extract large discounts even some times going in to take it or leave it kinds of negotiating stances. Third, changes in health insurance benefit design continues to pressure patients in the form of caps and in the form of deductibles. We've mounted a force with the entity coalition of America to educate state legislators on the true negative impact of allowing these caps to exist. And we've already achieved some success in three states and are working our way through the others. And the fourth point is we're still seeing some aggressive pricing by some other individuals that are not qualified O&P care providers. They are just really under cutting the business.

Now let me provide a brief update on some of the other projects we have underway to counter these trends and try to advance our top line. As you know our fixed labor cost business provides substantial fall through to the bottom line with each dollar of incremental sales. The question is what are we doing to provide incremental sales beyond our field business development efforts? And some of the key projects in this area are first in the national contracting area. We have used Linkia, as Van has provided an update on that in terms of where we are going and what we are doing but we still see this as they are offering significant benefits in terms of volume and exclusive position.

Second area is we're continuing the roll out of our Insignia laser scanning system for a variety of patient indications. We used it not only for prosthetic limb replacement but several orthotic applications such as cranial bands, body jackets, and ankle foot orthoses. We now have over 625 certified users compared to the 450 that we told you about at the end of the first quarter and these folks are using 385 scanners compared to the 300 we reported to you at the end of the first quarter, and these scans are being sent to our three national and 26 regional Fab centers for carving. So just in the last six months, we have had a significant increase.

I’ve also mentioned on prior calls that we see benefit in expanding Insignia into other applications, such has using it in making burn masks to help patients in their recovery and also to control scaring. We’ve completed the software to enable this application. We have held two clinical and marketing seminars, one in the South West and one in the Mid Atlantic region. Our marketing and clinical personnel have gone into hospitals and are currently securing some of this business. We are watching this ramp up. And the interesting thing that we see is in addition to obtaining existing business that is out there, we found that this technology actually is capable of expanding the number of potential patients. It’s a much better alternative to what is currently used. Now we plan to use the technology into the Compression Garments business to complement the mass(ph). We have assigned our people to the major burn centers to demonstrate the efficiency of this tool and we are prepared to move forward on a national roll out.

The next area, the third area is we are commercializing a line of custom orthotic and diabetic shoes. All designs are finalized, we are receiving shipments today. Sales are occurring within our patient care centers. We are also using SPS to sell into the mom and pops, and we have hired a Marketing Director to penetrate the podiatric market segment. In time we will bring additional styles and SKUs to suit various sports and exercise market segments. And by the way, this is a natural complement to some of our existing businesses. Today, we provide over 100,000 AFOs and typically when one of those devises is provided, a pair of custom shoes is required. So, it is complementary to business we have and we already know these patients in our patient care centers very well.

Another exciting opportunity is occurring within our Innovative Neurotronics subsidiary. As Van mentioned, we are developing the WalkAide product, for improved ambulation on stroke and other patients. Today we've received both the approvals from the FDA and the FCC and we're beginning our clinical evaluation studies, which are going to be key to our marketing, training and commercialization activity and we expect that these key clinical developments and learning’s are going to provide a competitive advantage. All other aspects of the projects in terms of manufacturing, documentation and marketing are building and we are adding the staff to make this happen. We'll receive our first small shipment before year-end and anticipate full commercial activities in early '06.

Finally we're progressing on a new delivery model to provide a bundled orthotic rehab package solution. We've talked to you about this is in the past in terms of what we call total care and elite care and total spinal solutions. These are nothing more than bundling together devices, orthotic rehab equipment in pace and training, all delivered in a high quality, mobile and responsive manner. We're expanding our total care network and we've also launched three pilots in three cities which are targeted to improving the service in a very narrow area in the spinal market where we care for both surgical patients as well as the non-surgical patients. Those three pilots will be on going during the fourth quarter of this year. We expect to take the learning from that incorporated into a national role out program in the beginning of next year.

And finally we're in discussions with an existing player in the rehab space, to find ways to leverage our combined position, so that we can offer a comprehensive O&P offering. This will bring the best of both worlds by extending our relationships with referral sources and cross-selling back into our custom business. So in closing, the environment for our business continues to be trying. But we know that in this situation opportunities exist and we're determined to put into motion the initiatives that are going to capture benefits.

At the same time, we feel the margin compression and know we must continuously improve our productivity and control our cost structure. The projects we've undertaken are geared to meeting these two goals. Thank you, and I'll turn it over to Van for Q&A.

Thanks Tom, we can open it up now for Q&A.

At this time I would like to remind everyone, if you would like to ask a question, please press "*" "1" now. We will pause for just a moment to compile the Q&A roster. Your first question comes from Henry Reukauf, Deutsche Bank.

Good morning guys, I just want to say congrats on really keeping up the fight here on what's just a persistently difficult market. But just a couple of questions. On the storm with September and the 1.07 million impact. Is that going to be recurring and are you seeing anything this quarter from the storms?

Yes, as we all know around the country there’s been a particularly high level of hurricane activity. We have been impacted in Florida in this most recent one there is -- Tom?

Ten of our facilities.

Ten of our facilities sustained some sort of, actually two sustained some damage. The other eight are out of, I believe, electricity is the power issue. And obviously without power we can't see patients. That particular market just you know up till this last hurricane has been doing quite nicely. They are showing some significant growth this year. And hopefully this occurred early enough in the quarter that the electricity obviously will come back on, we will get the two that are down up, and we‘ll be able to move forward and still meet our expectations and goals for the fourth quarter.

How about the impact from Rita and Katrina since that was the surrounding area that seemed to have some impact, any continuing issues there?

Not really. Those are basically with the exception of one facility in New Orleans everything else both in the direct zone of the hurricane as well as the peripheral areas are all back on target and back in operation.

And as you know Henry, I mean the big issue that we had was the flood of refugees, the gas prices and some of the states in the surrounding area actually had no gas; and that affected our sales. The good news is the sales didn’t go away. We just couldn’t get them delivered. And so, we don’t – we would expect that to mitigate during the fourth quarter.

And that’s partially why we saw a rise in our historical norms of work in process.

Great. When you mentioned cyclical aspects of I think it was two of the markets that you were seeing a down turn. Is that cyclical because of again gas prices and more cost to the consumer or what causes that cyclicality?

And two things, Henry, the first is the cyclicality of device in itself. We, as you remember from the last couple of years, we really jumped out of the blocks very quickly and took the lead on the national basis and putting in microprocessor devices. By a very comprehensive program with combing our files as well as making sure that we have evaluated every patient who came in the door to see if they were suitable candidates for those devices.

We really led the charge and we had a disproportionately high percentage of the installation of these microprocessor devices compared to others in their areas. And we know that these things have a life cycle to them. And so we had pretty much saturated all the files and captured all the people in the existing bank as well as the new one. And it takes for those devices about 2 to 3 year cycle to work through.

So, what we are seeing is fast out of the gate build up and those people are going to be walking on these devices. And we're still providing those devices but in fact what we have seen is, there has been a fall-off in the neighborhood of about 15% of those, simply because we have saturated into the existing patient base. We are going to see that run at a lower level and then we expect that it will come back up again. So, it is part of the technology in the life cycle of the design. So that’s the big factor that is occurring. And as you know, those micro processor devices had very high price points relative to other kinds of procedures and so that, that’s what we are experiencing.

Have you thought about that in the future for other areas, that cycling through in your guidance?

Oh, yes.

Okay. On the bonus structure I will try to keep this short, just a couple. What is that--did you change the definition of the bonus structure or is it just that you know you collected a little less or something like; what was the change there in the variable compensation plans?

The actual change, Henry, was one of the metrics that is using in calculating the variable compensation program is a labor charge. Up to this point that has just been a straight charge of actual labor. There has never been any benefits included in that labor charge. We are now going to be adding into that or charging a small portion of the benefit portion back to the labor calculation. Basically, it works out to about a 25% charge of the benefit line. And that, those benefits have increased substantially over the last several years and we just felt that we're not looking to artificially lower the plan.

What we're looking to do is to align the plan with current business conditions and the current inflationary pressures that we see in particular in the healthcare cost arena. It's just part of the philosophy as the plan has always been a shared responsibility model and by incorporating those in; it does encourage people to think about them. And it is consistent with the philosophy of sharing in the cost of the labor pool. And we know that benefits are essential for the health and well being of our employee population. So, it's a cost that is justified to put in there and we've targeted in at about the same proportion as the Company and the employees split the cost throughout on an overall basis.

Okay. Then just, the last two are quick. One, is just CapEx for 2006 and then in your 5% growth, how much is Linkia, how much is Linkia supposed to contribute to that topline growth in 06?

In ‘06, in the numbers we've discussed earlier, Henry, it's roughly $16 to $17 million of the total for Linkia and --

Okay. Are they are CapEx in ‘06?

CapEx for all of ‘06, the fourth quarter should be a little higher. We're 2.5 million in Q3. So, we won’t come in at 9 million, we should be in the $10 to $11 million range.

Okay for '05 and then '06?

I’m sorry '06 you were asking for, I’m sorry was giving of '05. Our budget at present, we're not really that far along with that number.

That is fine, alright, thanks very much guys, don’t want hold up your call.

Your next question comes from Arnie Ursaner, CJS Securities.

Hey, two questions related to Linkia. Given that you would do 16 or 17 million for all of '06, that’s materially lower than you would have thought six months ago. Will Linkia be profitable in your view in '06?

Yes, the reason that is down, Henry, and Van has been explained, and George has footnoted to the forecast is we're trying to give you the straight line based on exactly what we know and where we are. And obviously the impact of that second contract that we had talked to you about enters into that logic. But at this level, naturally we aim to run Linkia consistent with the revenue. It will be profitable. And bear in mind that the way Linkia works is that the overall revenues that will come in the door, at the Linkia level, are split into two portions. One, that the company takes into it's HPO operations, and the second is what goes out into the network to those areas where we are not going to be providing coverage and we’ll rely on a network. And for those funds that will be going out to the network, Linkia extracts the management through an admin fee, so they will be recovering a portion of their costs as well. So that will help offset its SG&A cost which of course will lower the bar so that we can be profitable.

Arnie, keep in mind that what George is giving you here is, the '06 forecast is based solely on what we have in house today and not what we anticipate we may be able to have if we sign additional contracts. There is discussions going on at multiple payor levels right now, and to be honest with you, it all just comes down to price. This is not a question of whether or not they buy or see the efficacy of the Linkia strategy and the Linkia network management; that’s not the issue. The issue is all around price, and we have continued to hold what we believe is a prudent line in not giving up a lot of our margin just simply to turn sales. We want these to be profitable sales, and we believe ultimately that will happen, that we will get there with a multiple number of Linkia players.

The market is, obviously they want to try and test what the bottom is here and we are just part of a delay in signing these contracts and in all candor the failure at this point to sign the second contract relates solely to price; not to the concept, not to the efficacy of their wanting us to help them manage their O&P book. And those -- and nobody has walked away from the table; this is all still a matter of negotiations. And what we have given you today for '06 simply quantifies what we know we have in-house and what we know we believe we can deliver.

Specific question, your Q4 guidance relative to what you gave in Q3, is about 10% lower. How much of that would you attribute to the timing of the Linkia contract and how much of it to weather or are there other factors?

All of it is related to the signing of the Linkia contract.

And when you think about the revenue, I do agree with you that it is 10% lower. When you think about Q4, look at the Q2 results and then with the correction or the change in the variable compensation program, you are going to be about $1 million more profitable than you were in Q2.

Final question from me if I could, is more conceptual for years you were viewed as the consolidator of the industry and for a couple of years backed off that. You know, you have a lot of internal things keeping you busy. You have had very few acquisition announcements at all over the last couple of years. Is there someone else evolving as the consolidator or should we assume you will be back in this market growing by acquisition at some point?

Well two points to that. First is that we are not aware of anyone else and we have got a lot of ground signals that are out there with our networks. So, we are not certainly aware of anyone and we would pick it up very, very quickly. Secondly to the overall strategy as a business, when you look at the way the business or the profession is evolving, we recognize that we could walk out and pay multiples on EBTIDA today for values that may not be there tomorrow because some of the changing landscape; and frankly we are the guys that are doing the changing.

So while we still have a vision, being the foremost provider of O&P services to at least the US anyways, it is going to evolve into a bit of a different pattern. And the route to get there isn’t going to be by acquisitions, but it is going to be by using the size we have via national contracts, by putting in some of these new delivery models, and by bringing out some of this new technology. And we think those things are going to change dramatically the value and the position of all the moms and pops out there. And so we still see ourselves as the leader in the industry but it is unlikely that it’s going to be through a continued intensive acquisition program of existing mom and pops. So we may be buying other things, but it’s unlikely that we will be buying them the way we did in the past.

Thank you.

Your next question comes from the Kevin Fischbeck with Lehman Brothers.

Okay. Thank you good morning guys. Question here on the change in the bonus structure, I just wanted to make sure I was understanding your comments correctly that about half or about 3 million of the lower bonus was because of the way things normally happen because of the variable comp tied to the cost of goods sold; and it's tough to get sold when that variable comes back(ph) down. But the other $3 million kind of relates to this shift in the compensation expense and the benefit expense to be the bonus pool?

That’s correct, Kevin.

Okay. So then if we we're to say that, that would be about 3 million; so that would be about a $1 million per quarter, about 1 million for this quarter, about 2 million for the first half of the year, if I reverse some over accruals -- is that?

Right. That was the 3 million for this quarter and then you should see that expense being a million dollars lower in Q4. So, like what Jason was saying earlier is if you look at SG&A for Q2, pull a million dollars out of that, that's roughly where we should be for Q4.

Okay. And then I just wanted to clarify, I think Van said this but the contribution of Linkia in the quarter, was that $4 million?

That’s year-to-date.

That’s year-to-date. What, do you have the number for the quarter?

Kevin, I got to get back to you. I don’t have that in front of me.

It was about 1.6 million but let me verify that for you.

It's about 1.6 yes, but let's verify that for you.

Okay.

And that incremental year-over-year, the total is much higher than that but year-over-year we have additional $4 million in 2005 that we didn’t have in 2004.

Okay. So, I guess my question is if we would have back out that revenue from Linkia, I know we talked about how you know there is a negative same store number but if you back out the hurricanes, the number was actually up but should we be backing out the Linkia to see what the core business is doing?

No, Linkia is a contracting strategy that drives core business.

Right.

So, in order to stimulate organic growth that was one of the pillars of the Linkia strategy. And we see that $4 million helping organic growth because it is going through our patient-care centers. It's not through acquisition and it's not through distribution or other arms it's through patient care.

Okay. So there was I think some talk previously about kind of separating Linkia into a kind of a third division for you kind of it is part of the --?

The service fee that Linkia will take that skim off the top if you will, from outside providers will be a separate line item.

Okay.

But the $4 million we're talking about here is additional business that was directed into our HPO patient-care division by Linkia contracts.

So, those contracts are not significantly different from the ones that we have everybody else. They are preferred provider contracts. They are not similar to the kind of contract that we signed with CIGNA where we are managing their network.

Okay. That makes sense, when you talk about Linkia being a third division, it's just going to be the network management fees?

Correct.

Right.

Okay. Great thanks.

No problem, Kevin.

Your next question comes from William Kaiser with [Lake] Fund Management.

Hi good morning. A couple of questions, going back to the SG&A line that was a big variance positive when in the past I think it had been negative. The $6 million in the prior question it got divided $3 million to the cost of materials and $3 million to competition but you outlined it a little bit different in the press release. You divided it between the senior management plan and variable comp plan. Can you split that out between those two?

Well the difference never, there is no cost of materials impact on SG&A that was I don't know, I don't think anybody said that. What we are talking about when we were talking about SG&A was that the principle reason for the decline was a $6 million decline in bonus expense. And half of that would have been realized without regard to any change to the calculation that we did have any bonus plan or variable compensation plan just because of changes in operations. And what I did, what we did say is that things like material costs which are a factor in the calculation of the variable to compensation did play a part in that $3 million change in the bonus expense. The other $3 million was because of the change in the calculation that we made.

But what was the split between the senior management plan and variable comp plan?

What was the split in terms of the change in – about a million dollars of the six was the management plan and the other 5 million was variable compensation plan.

Okay. Just if I understand it correctly, about the prior question, 2 million was really a catch up from prior accruals?

From the first six months, correct.

Right. So that's sort of a one time of gain there?

That is correct.

Right and then the -- what you should expect in fourth quarter as we mentioned before is about $1 million reduction in the accrual from what the normal accrual would be.

Okay.

And just to level set the answer when you look at the variable compensation pool and the senior management pool, the proportional declines are about the same.

Got you. And with the variable compensation plan, when were those changes implemented?

Pardon me, we didn’t catch that.

The variable comp changes, when were they implemented?

During Q3.

The other question I had is in the press release it talks about income from operations, I’m sorry cash flow from operations, a pretty substantial decrease and the reduction you attribute to a $9.8 million change in the bonus accruals. So I just wanted to see if you could walk me through that. Given the fact that the bonus accruals went down I would have assumed that cash flow from operations would have benefited from that?

Well, the P&L benefited from it. And then the flip side of the coin is that you have a lower accrual, when you reduce the liability that’s a use of working capital. So it's just the math. So cash flow being generated through the P&L is about the same as last year, but our working capital change simply by virtue of the reduction in expense. So that will be a lower accrual.

Okay, may be I will walk you through that with you offline --

Keep in mind the way the bonus is paid. There is a mid-year payout that occurs usually in the third quarter and then the final reconciliation occurs in the first quarter of next year. So during those interim periods and also keep in mind that that mid year payout is not a 100%, there is a hold back. So, during the interim periods between the payments, it builds on the balance sheet; since that went down, you lowered that.

And why would there have been a change in the interest accrual? I think your capital structure was similar.

We were paying it differently. We were paying it on a different time schedule quarterly, which had an impact on how much accrual you have on the books. That should catch up by year-end and not be a use of working capital.

There is really a timing difference because last year we made the term loan B payment the first day of the fourth quarter. This year made at the last day of the third quarter. And on top of that when we did our amendments to the credit facility during Q3 of '05, we made payments mid-quarter that last year were scheduled at the end of the quarter or the first part of the fourth quarter. So it's really just timing differences and interest payments.

Right. That piece should just get wiped out by year-end in the fourth quarter results.

Okay, thank you.

your next question comes from Todd Corsair, Bear Stearns.

Hi, thanks. Just want, I mean, I am just trying to -- I’m just looking at kind of what you guys had talked about previously and I guess, if you could summarize it for me. I mean it seems like before the second quarter call, you guys were originally thinking you were doing 82 million to 83 million in EBITDA for '05. Now, then I think you lowered that down to I want to say, 75 to 77, I think, 75 to 78. And then now we are looking at 74 to 75, and probably more importantly for '06, rather than 82 to 83 for '05 or '06, we're now looking at, you said 78 to 79?

Correct.

Right, so, I mean I’m just trying to understand how much of that is the -- I mean does that -- how much of that is the delay on this second contract and I guess if you can kind of explain to us, that basically this is second major potential major national contract. The payor you mentioned has apparently come back to you on a pricing issue. I guess I am just trying to understand what happens from here on that, to make that change to actually go ahead and move forward?

Well, it is just a continued negotiation. Obviously, in any negotiation there will hopefully be some sort of a meaning somewhere between the bid the ask (ph).

And, you know on the projections we just thought it was time to just give the markets a base line from where a business can do based on everything we have under our control today.

How much incremental EBITDA from Linkia are you anticipating in '06 over '05 in terms of looking at that number?

We don’t break that out yet.

Okay.

We really look at the sales side and obviously we will be doing some segment accounting on a go forward basis but at present and certainly to try and preserve our ability to negotiate, we're very reluctant to talk about that for the obvious reasons.

Okay and in terms of Innovative Neurotronics, I mean is that a very low dollar amount in terms of revenues?

As we mentioned, we've just received the regulatory clearance. We're in the clinical trials. We will be introducing next year. So, it's a ramp up, obviously we have expectations that would exceed next year, but it's a very -- it's a modest amount to reflect what we we’re contemplating. Forty-one training sessions across the country and we still have not absolutely decided on price points that will come off of our clinical economic study. So it's a modest amount for next year and we’ll give probably a little more visibility into that right after we get finished with those clinical economic studies in the beginning of the year.

Okay and last thing is just that I apologize I was off the call for a sec, but, on the reduction in SG&A. The part that relates to the reduction in management bonus and variable compensation. I mean, I’m just trying to understand how much, I mean is that something that we are likely to see reverse itself in the fourth quarter or could you just kind of explain exactly what the numbers are there?

Sure it's about a $1 million out of there 6 million and some of it we would have reduced the accrual because of performance and some of it we reduced the accrual additionally in view of the changes we're making in the variable compensation plan. We’re all essentially sharing the pain of that change.

Okay. And that but that's only a $1 million of the total.

Yeah, it’s a much smaller plan.

Okay.

Much, much smaller.

Okay. All right. That's good.

It's a much bigger piece of that small plan, for the other change.

Right. And in terms of how do we get comfortable that I mean it is clearly incentive based compensation on the field level with the practitioners, clearly positive, on the upside when things are going good. But I mean I guess just in terms of --how do we get comfortable that these guys aren't feeling too much pain and that we are not likely to see some attrition in terms of your practitioner base?

Well, I can’t guarantee that we won’t. This is still an extremely lucrative variable compensation plan for our practitioners. And on an after tax basis we're going to see minimal really because it’s spread over a great number of people. We're going to see minimal impact. I’m not going to diminish the fact that there is going to an impact but it really is not a major impact; and it's still an extremely lucrative variable compensation program and an incentive program for our practitioners.

And when you compare when you think about four years to the attrition issues that we talked about stemming from the Innovative(ph) acquisition, the operating environment in the O&P industry was a different place. And the economics outside of Hanger and inside of Hanger were more commiserate with one another.

Today, Hanger does a pretty good job of trying to insulate our practitioners from a lot of the cost increases and price erosions that the industry is facing. So the attrition decision is a little bit different for the practitioner today as it was four years ago. There again like Van said we identified costs that are specifically associated with the branch that we have not passed on in the past and as the plan calculated in proportion to the Company’s profits, it became disproportionate. And we felt the need to expense some of those increases to the plan.

I mean and we're still bearing of 75% of the costs of those benefits.

Yeah.

We're only asking the plan participants to bear 25% of those benefit costs.

Right. Okay. Fair enough. And final, last question on the fourth quarter guidance, how much, I mean how much impact just ballpark are you guys are figuring you're having on the EBITDA results of continuing effect of the hurricanes?

The continuing effect of Katrina and Rita probably it's very minimal. Only one location remains closed in New Orleans; and quite honestly we probably won't reopen that location. But the business in and around the affected regions is starting to return. The only thing that I can't quantify today is what hurricane Wilma did to us as far as revenue but as everyone has mentioned, a hurricane at the beginning of the quarter is a lot less devastating than a hurricane at the end of the quarter.

Right. Okay. Great thanks very much.

No problem.

Your next question comes from Rick Gordon.

Thanks, I have a couple. First with I just wanted to get back to this change in variable compensation. And I think you also alluded one of deltas in the cash flow from ops was you made some changes in the way those payments terms were structured as part of the change in the program. Could you just give us a little bit more color around that?

The actual payment of the variable compensation has not been changed. There is a mid-year payout at year-end. It’s an annual plan. There’s an advance and then we settle up at year-end when we have the year-end operating results available.

Okay but you didn’t, I thought when you we're explaining the change in working capital you alluded to the fact that there was a change in the program that maybe demonstrated faster payment or something but there is no change in the way that that is restructured?

There is no change, that's the simple fact that changed the working capital was that the accrual is less and we reduce the liability through the use of working capital but it wasn't reduced.

Yeah. I guess if you accrue something though ---that's a non-cash item, so unless you pay?

That’s not correct on cash flow. Anything you accrue is a -- the accrual liability is a source of working capital.

Okay. Well I just wanted, I guess I understand now. I just wanted to make sure that there was no change in the payment terms which I thought I heard but I misheard?

Yes, there were no changes.

Okay. And a couple of other quick ones, with respect to your FY '06 guidance, can you just give us a breakdown of your assumptions for pricing and volume that kind of build into that?

The pricing and volume, we believe that pricing is going to be somewhat negative and volume is going to be slightly positive. In the base business, it's going to be neutral year-over-year. We expect 16 or 17 million volume increases from the Linkia contracts. We expect approximately $4 to $6 million from the Innovative Neurotronics project, and we expect a little more than 5% growth from our distribution segment.

Okay, that's very helpful thanks. And then in terms of DSO’s you've been doing a nice job improving that metric. Is there still room to go there from your perspective or is this kind of a good run rate?

Well, this is pretty good run rate. When we get to the point of having more electronic payors that can help us some more. The Linkia national contracts can help our overall DSO’s, because those are going to be electronic submission and electronic payment. It's going to take some time to get that to be implement into other contracts. But I would say that's a good run rate for right now.

Alright, I know on an earlier question, you said you're still kind of working through with your CapEx budget for '06. But, obviously, significantly lower spending this year. Was some of that going to, should we assume that's going to carry over or I guess how did you reduce the CapEx so much relative to your original expectation?

First, I would say that in 2003 and 2004 we had two pretty significant projects that consumed CapEx our new billing system and Insignia scanning system, which were largely completed in '04, at the end of '04. In '05, what we've done is we held down projects or IT projects, we had held down projects to expand or move facilities. In the environment that we're in, we intend to continue to be thrifty, I guess a good word would be when it comes to CapEx and to measure returns on capital projects very carefully. So whereas, we had a budget, we anticipate our 2006 budget previously probably in the $15 million to $17 million range. Where probably reality will be somewhere between where we ended up this year which where we will end up this year which we expect to be somewhere in the $11 million range to those numbers. It will probably be where we end up with CapEx for '06.

Okay, that is helpful, and then I missed if gave this, did you give the cash balance at the end of the quarter?

The cash balance at the end of the quarter was $6.7 million.

And then final, is your current forecast for '06, what was utilized in connection with the amendment to your credit facility.

The amendment to the credit facility was done on base business and some of the similar metrics were used.

Okay, so is that another way, do you feel comfortable that the credit facility is where it should be from a covenant prospective given your current outlook?

Yes, we do.

Thank you.

Your next question comes from Kyle Smith, Jefferies & Company.

Hi, good morning. First I want to take care of a couple of house keeping items. I think I heard you say that it was 650 practitioners that have been trained on Insignia at this point.

That is right.

Okay, and the $16 million to $17 million Linkia number for '06, that is a growth number, not an absolute.

That is a growth number. That is correct.

And then the revolver, what was availability at the end of the quarter?

Availability was roughly $30 million and we had 11 million drawn at the end of the quarter.

Eleven million drawn, and what is availability today?

Availability today is roughly the same because we used quarter end covenant calculation and the revolver is only slightly higher today as opposed to the end of the quarter.

Okay, great. On earlier calls you had talked about, I think it was $9 million of cost saving initiatives for this year and I just wanted to get an update on the progress. Are you still tracking with those, how is that going?

We are still tracking with those, absolutely. As you recall there were four pieces to that. Piece one involves review of all the staff and support and that project is largely complete because the subs aren’t here anymore or we have made changes in the way that we have allocated the salary. For example, the salary of some of our business development people now is the direct charge against the 30% plan. So it is absorbed by the field and that is providing greater alignment. So that is in place, and that has provided 2.5 million, our G&A efforts are still under way, targeted 2.5 in that area, which is to reduce spending, renegotiate contracts on telecommunications. If you look across the board and to say 2.5 million. We are tracking that and we still expect to hit that number by the end of this year.

On the material side, that is certainly shown to be a bit of a challenge, we have targeted $4 million in that area. Obviously, the runaway energy prices impacted all of our polymers and that combined with the metals industry has really thrown quite a wrench into this overall things. We have documented savings through contract negotiations, through substitution of products, and through changes in sourcing of over 1.5 million in that area. We still have the pressure on and we know had we not undertaken it; it would have at least been a 1.5 million higher.

Last but not least is in the area of AR. The stats that George has reported directly represents all the work that those teams have done. It remains to be seen, we're going to have to establish a little bit of history in this area to see if we're going to get a P&L impact from that but once we lower our bad debt it will report directly over to our P&L. And obviously we get the history and we sit down with the auditors and we review where we are and what’s out there and the size of the accrual on the balance sheet.

So net, net while we had targeted on a gross basis, bringing in roughly 12 million to 13 million and on a net after sharing through the 30% plan, more like 10. What we're now seeing is we're going to be still around that $7 million to $8 million levels by year-end and we're still pushing towards that. So we're still very much tracking those.

Great and you mentioned bad debt, what was the bad debt expense in the quarter?

Bad debt for the quarter was 3.5%.

3.5%, great a little better than last quarter?

Correct.

Looking at the raw materials that was up 230 basis points as a percentage of revenues and you just mentioned polymers. What commodity should we be looking at to get a sense for where raw materials are going in future quarters and do you ever hedge your exposure?

First off, we're not undertaking any hedging program something that we obviously are taking a look at. It will be new to the Company and we're not going to launch into that, so we know exactly what we're doing. Where we see the impact and the percentage as you remember drive off of two things: the actual cost of the materials and our product mix. That we have experienced the product mix to the orthotic side. Orthotics run higher in terms of the percentage of materials to sales ratio. So that’s one of the things that drove it up.

The second thing is when you look at where the cost impacts are coming, look at the thermoplastics. That is an area that we buy a lot of plastic for many of our orthotic devices. We buy a lot of plastic for the formation of our prosthetic socket. So thermoplastics in terms of polypropylene, polyethylene, high density PE, they are the kinds of things that we've buy any index that you add that would reflect those would be a good tracking mechanism.

On the metal side, we buy aluminum, we buy steel, stainless steel not too much of that. And of course, the higher end devices are titanium and we've seen significant increases over 50% in the price of titanium stock. Directly as we are told, related to some of the worldwide dynamics of that particularly the consumption of that metal in China.

Great, that's extremely helpful. The -- you mentioned that the disruptions from the hurricanes caused some increase in your work in process inventory and obviously, the revenue impact. Did that contribute it all to the increase in cogs?

Not directly at all. What it did was in the broadest terms it clogged the pipeline. The inability to get the materials out and it accounted for part of the inventory builds obviously because that whips (ph)sat there and couldn’t get delivered, not to the cog.

And back to the materials question, keep in mind it's really more accurate to take a look at our first nine months instead of just looking at the quarter separately. That material cost increase in Q3 is not necessarily indicative of what our cost will be going forward every quarter.

When you look at the two, we're up 30 basis points year-over-year. And part of our cost in material or our cost of sold include labor as a percentage of revenue and because revenues only up one-tenth of a percent and you have inflationary pressures on labor, you are going to worsen by about 40 basis points on labor. The other piece is going to be true materials and looking at the first nine months to first nine months you are only up three-tenths. So I don’t want Tom's explanation of pressures on cost of materials to have you go away thinking we have a 230 basis points increase going forward.

Okay, that’s good to know.

And keep in mind how we do materials, you know we use a gross profit method, we do an annual book to physical and then we do periodic checks through the year. So we do our best efforts to track purchases, to track the sales and then to use spot checks in between trying to adjustments. But it all trues-up after our annual inventory on October 1st, which then sets the stage for the ensuing year.

Can you comment on that October 1st true-up?

Results of the inventory are not known yet, that’s the fourth quarter event.

Okay and then one last thing, it seems like there has been a change in philosophy with your approach to guidance that earlier this year you were giving guidance based on your expected growth with risk of things, risk of the downside of the things didn’t go as planned. And now your approach for 2006 guidance is to give sort of a closure to the best number and if things go well, that you might do better than you have given, is that an appropriate way to look at it?

I believe it is.

Okay and when you talked about the baseline guidance and this disagreement with the one payor. If that reaches an agreement would that be an increase of the guidance next year?

We would look at the contract and adjust guidance appropriately.

Okay, great. Thank you very much and my condolences on the lower bonuses this year.

And thanks.

You have a follow-up from Kerstin Laser.

Hi, quick question, I’m still trying to example with reconciling that EBITDA over the nine months sort of comparing 2005 and 2004 is more or less flat, but change in cash flow from operations is down substantially. And so I'm trying to understand the bridge and without the benefit of the cash flow statement it’s a little bit more difficult on my end to do that.

You will have that as soon as we issue the 10-Q.

But can you, in other words, you do attribute and this goes back to my prior question, changes in the bonus accrual and the interest accrual. I somewhat understand the interest accruals but I'm still grappling with the bonus accruals. I understand that you reduced bonuses so that the accruals going forward shouldn’t be as high but I'm not sure why that would result in unless you changed or accelerated the payout, I don’t understand --

We didn’t accelerate any payouts. There is two ways you can reduce the accrual, you either pay it or you just don’t accrue it. So in this $9 million case, it's $6 million of that 9 million is we just didn’t accrue it. And so we had a lower liability and a lower liability is a use of working capital.

And you know when you compare the nine months over nine months EBITDA numbers last year that EBITDA number included a higher costs for the variable compensation program, which was not paid in the periods. So if you have a higher expense and you still make your EBITDA number and you didn’t pay that expense to George's point, that liability increase is generating cash on your cash flow statement. This year we had a similar EBITDA number with a lower variable compensation number creating a lower liability and a use of cash on your cash flow statement on a year-over-year change.

Right, so keep in mind this accrual at the end of September is being compared to the accrual at the end of December which had the full boat liability for the variable compensation plan last year that paid about $24.5 million. So that’s why it's a $9 million decrease because that’s tracked in the period of time for the nine months after 12/31/04.

Right, okay, that’s helpful.

I think it's more appropriate that we spend time on this after the cash flow statement comes out.

Yes, and when do you expect that?

When we file the 10-Q in the next ten days.

Okay, I appreciate it, thank you.

No problem.

Your last question comes from Steve Abrahams, [Graywolf Capital].

Hey guys, a couple of questions. The first is you talked a lot about the baseline for '06. In the events that you would sign another Linkia contract and let's just say that contract generated an incremental 15 million of revenues. Can you talk at all even in the range of that EBITDA impact of that would be?

No, we won't.

Okay, and--

No, we just can't. Going back to Tom's point, we're in negotiation point with a couple of payors. And if we start talking about identifying profitability of contracts, we're showing our cards and we're not prepared to do that. I don’t think it's in the best interest of the shareholders to do that.

Okay, now that’s fair, that’s fair. And just based on your baseline number, it looks like roughly speaking free cash flow next year would be in the $25 million range, does that seem reasonable?

Are you just taking EBITDA cash taxes, interest expense and CapEx?

Pretty much.

Yes, it will be a little bit lower because we're a full tax payer now.

Okay, okay, thanks.

Your next question comes from [Don Brosz].

Good morning. I actually like to ask a few questions on Linkia, if I could. The first is probably following up in the last question which is with CIGNA at 16 million to 17 million in incremental revenue, would you consider this to be a small contract, average, large? I think what I am trying to determine is how many contracts would be included in the original 40 million to 50 million in incremental revenue guidance for Linkia that you gave last year?

This is probably best described as a mid -- upper mid-sized contract.

Okay.

And keep in mind that when the contracts are awarded, we sit down with the insurance company and decide on what we call a network strategy and that strategy then dictates the percentage of business that comes to Hanger HPO versus the remaining parties in the network. And that's all dictated by coverage to the membership. So the piece that we see is ultimately determined by two factors, the size of the local business and the network strategy that the insurance company wants to employ.

And then keep in mind that 16 million to 17 million we're talking about is the incremental fees. We already had some of this book of business in house. So the total piece, we consider kind of an average contract.

And there is some ramp up in that number.,. We won’t get the whole benefit in '06 because we just started implementing in October, mid-October '05.

Okay. Just the second question is, could you guys give us some color on just the mechanics of the Linkia model from a cost perspective. So far as what are the SG&A cost and then what exactly are you expecting on administration -- on the administrative fees. I think what I am trying to come up with this some quantification of the Linkia profitability. The effective breakdown in the revenue between admission, the administrative fees and the incremental sales revenue?

Don, in the past we have talked about G&A roughly $3.5 million to $4 million expense run rate with the Linkia product. And that includes people that we have in house that are handling contract negotiation, claim adjudication and the IT and marketing functions. We have also talked about ramping out another $1.5 million to $2 million over time as we bring on additional contract and add additional services. And obviously at this level we are going to do our best to keep the SG&A spend where it is today as opposed to ramping that up. And as future contracts come, then we will start to increase it closer to the $6 million level. And in your last report you identified these costs and I think it’s appropriate but these costs are additional costs. These costs are already in our financial statements. So it is a disservice to add these costs above and beyond what we already have in our run rate.

Okay. Thank you very much.

No, problem.

Your next question comes from [Mike Petsky] from [Thomson Davidson Company]

Couple of question. WalkAide as I understand it, it sounds like you guys are targeting Q2 '06 revenues, is that fair to say?

We are going to be into the market in Q1 but we really expect to see real traction in Q2 so I think it’s fair.

Okay. And how you -- if you mentioned it, I didn’t catch it. Could you guys give any update on the burn garments?

I talked about that as part of our developmental effort. There are two pieces to that. The mass(ph) which have been deployed and are out there in terms of the software and the teams have already moved into their respective customer targets. On the garments, we are in the beta testing of the software and we are working with a couple of the garment producers to insure that they can accept the digital inputs for garment manufacture. And on the clinical side, we are working with one burn rehab center to demonstrate the efficacy of certain fabrics in compression strength in the treatment of the grafting and treatment of scaring.

So is there any estimated revenue in your '06 guidance from burned garments or not really.

Not really.

And just a last question and, I don’t know if this is going to go anywhere, I am kind of ask you guys to speculate a little but Van mentioned the bid and the ask in terms of the second contract. I guess I am wondering, how close is the bid and the ask? Is this likely a win or is this, has this kind of moved back to be gift category. And also if you could just also talk about Jason seemed to mention that there was a second contract that was really at kind of deep in the negotiations. I am just wondering what you guys truly hope for in terms of the new Linkia, meaningful Linkia signups in '06.

Let’s take both pieces. The first piece was the number two that we talked about. What we saw was sort of a continuous erosion along this line and we just finally reached the point where it didn’t make sense for us to pursue it. The gap is not overwhelming. We are actually going to make a calendar, which will involve some other changes in terms, conditions and offerings and the way we would approach it, and see if that makes any sense to them. Certainly where they wanted us to go didn’t make sense to us. So we think at the end of the day, that we will still get the deal done.

We believe that’s the case, particularly, since we have got the CIGNA contract out there, and it has started up. And we think that’s going to be the gold standard and others are going to look at that and recognize not only are there great operational savings in their house but there is benefits to their memberships. And we think that will spill over into the competitive arena when insurance go to sell service, because nowhere will they be able to get all the other amenities that the Insignia contractors are doing.

So, we don’t see it as a bridge too far, and we think it is going to be a little bit of a learning exercise. But we still see it as a possibility.

To the second point, we are negotiating and discussing with all of the large regionals and the other nationals. And we have seen the history of this thing, we are someone who will run hot for a 30 to 60 days and then something will come along. Always keep in mind that O&P is a really small piece of their business and other things preempt that. Then it will go cold.

So I think it is fair to say, that we have open dialog. Proposals are on the table and discussions are ongoing with all of the big ones that we think could bear fruition. Trying to estimate a probability of success on those, closing time, lead times, would probably be a little irresponsible based on what we have seen from our history.

Last quick question. Any chance of going back to United Health and trying to make it more CIGNA like for lack of a better term.

Absolutely. United is very innovative, as we have seen, you know, with their health accounts and other things. They are exploring in a number of directions and we believe that what we have to be able to do is go back and demonstrate that there is a better world out there than the preferred base that they are on. We think that that demonstration is going to occur in only one way and that's we're going take real facts to them and say look at how it works for others without giving away anything proprietary. So, just going back on the promise probably isn’t going to get it done but we do think that their innovativeness will cause them we've to listen if we went back with some real fact. So that is something that we've talked about, we intend to do and it is just a matter of timing.

Great. Thank you.

At this time there are no further questions.

Thank you very much. I appreciate all your participation today. Thank you.

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