LHC Group Inc (LHCG) 2010 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the LHC Group Q1 2010 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time.

(Operator Instructions). As a reminder, this conference is being recorded.

I would now like to turn the conference over to your host today, Eric Elliott, Vice President of Investor Relations. Please begin.

Thank you and welcome, everyone, to LHC Group's earnings conference call for the first quarter of 2010. Hopefully, everyone has received a copy of our earnings release. If not, you may obtain a copy of this, along with other key information about LHC Group and the industry, on our website at www.lhcgroup.com.

In a moment, we will hear from Keith Myers, President and Chief Executive Officer; Don Stelly, Chief Operating Officer; and Pete Roman, Chief Financial Officer of LHC Group.

Before that, I would like to remind everyone that statements included in this conference call and in our press release may constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act. These statements include but are not limited to comments regarding our financial results for 2010 and beyond. Actual results could differ materially from those projected in forward-looking statements because of a number of risk factors and uncertainties which are discussed in our annual and quarterly SEC filings.

LHC Group shall have no obligation to update the information provided on this call to reflect subsequent events. Now I am pleased to introduce the CEO of LHC Group, Keith Myers.

Thanks, Eric, and good morning, everyone. During the first quarter of 2010, our dedicated caregivers and employees have once again exceeded expectations. So I would like to begin by congratulating and thanking our entire team for their unwavering commitment to excellence and to delivering the highest quality of care to the growing number of patients, families and communities we serve.

I would like to especially welcome all of our new team members that have recently joined LHC Group family in Monett, Missouri, Spokane, Washington and Salem, Oregon.

As most of you know, on March 30, President Obama signed into law the Patient Protection Affordable Care Act, effectively bringing to an end the year-long uncertainty of healthcare reform. In the face of proposed deep cuts to reimbursement rates, the industry worked ardently to ensure that the voices of home healthcare providers and patients were heard and treated fairly.

Ultimately, the reimbursement cuts in the bill that passed were far less than those originally proposed by the House. While reimbursement cuts are never welcome news, as an efficient larger company focused on growth, we at least now have a clear picture of the future, making it easier to establish more precise multiyear strategic goals and objectives with regard to our growth strategy.

Also as a company with 53.9% of our patients we serve today residing in rural America, we could not have supported any health reform legislation that did not include a multiyear rural add-on; and we worked very hard in 2009 in conjunction with the National Association for Home Care or NAHC to educate members of Congress and key policy officials on this issue.

Each day, home health agencies that provide essential clinical and supportive care services to Medicare beneficiaries in rural communities stretch limited resources to meet the unique needs of the patients they serve. Since 2001, Congress has sought to mitigate the financial pressures faced by rural home health agencies and the related access barriers encountered by rural residents through the creation of a special payment adjustment or so-called rural add-on to the prospective payment systems' base rates.

Congress authorized the payment adjustment for home health services delivered in rural areas during most of the period from April 1 through December of 2006 -- April of 2001 through December 2006, that is. However, the rural add-on expired on December 31 of 2006 and we haven't had a rural add-on since that time.

Therefore, we were pleased with the inclusion of a six-year 3% rural add-on that became effective on April 1 of this year. We believe this is a clear sign that decision-makers in Washington have finally come to more fully understand the additional costs and challenges associated with providing home health services to patients in rural communities and their commitment to ensuring access to these vital cost-effective services.

I will briefly go over some of the highlights of the quarter and Pete and Don will elaborate more on these in a few minutes.

As you have seen, we've raised our guidance for 2010 to revenue in the range of $615 million to $625 million and fully diluted earnings per share in the range of $2.75 to $2.85. This is solely to account for the impact of the rural add-on for the remaining three quarters of 2010.

Our quality outcomes homecare compare scores improved in all 12 categories this quarter, or in the last reporting period. Our net service revenue was $145.9 million and our diluted earnings per share was $0.64. Our DSOs decreased another 4.5% to 45 days as compared to 47 days at December 31, 2009.

We made significant advancements in our quest to become the only national provider of home care services that has all of its agencies Joint Commission accredited. As of today, 51% of our locations are Joint Commission accredited with the other 49% scheduled to be accredited by December 31, 2010.

It is important to understand that nationally only 7% of home health agencies are accredited by the Joint Commission. The Joint Commission accreditation is significant because it is the standard of excellence, universally recognized by hospitals and many other providers for more than 50 years now.

And in the area of compliance, our compliance team, along with our partners at Deloitte & Touche, followed through on our commitment to share our compliance program and best practices with the industry through the National Association for Home Care at the annual policy conference in Washington DC earlier this month. This same team will be making the same presentation at the NAHC Financial Managers Conference in Chicago in June and then, again, at the NAHC Annual Meeting in Dallas in October.

Now turning to growth, since our last earnings call, we have added locations in Monett, Missouri, Spokane, Washington and Salem, Oregon. On April 1, we completed the previously announced acquisition of 100% of the assets of Salem Hospital Home Care located in Salem, Oregon. The primary service area of this acquisition spans six counties in Oregon.

The estimated population of the service area is one million with roughly 12% of that population over the age of 65. Net revenue for this agency during the most recent 12 months was approximately $5.5 million.

In our last call, which was less than 60 days ago, I mentioned an increase in activity with regard to our acquisition pipeline. This trend has continued over the past two months. We believe that many potential sellers or joint venture candidates were awaiting the outcome of the health care reform debate before making final decisions regarding the future of their agencies. We have added significant new resources towards our external growth efforts to take advantage of the increased opportunities during this period of consolidation.

These resources include the full-time efforts of Johnny Indest and a significant portion of my time that I now allocate to external growth initiatives. After adding 83 new locations through acquisitions and de novos in 2008, we added only 29 locations in 2009 as a result of the weak M&A environment during the health care reform debate.

As of this morning, I am pleased to report that our active pipeline now consists of 38 locations in 14 states, representing $72 million in trailing 12-month revenue. 21 of these are hospital-based and 17 are freestanding. In addition, we have 30 to 40 new greenfield locations for 2010, which Don will give an update on in his session of the call.

We believe this significant increase in the volume of opportunities is a result of more astute providers beginning to explore their options in response to the passage of health care reform and its projected impact on reimbursement in the future. This is especially true in the case of more sophisticated nonprofit hospitals and health systems.

We have been successfully operating hospital joint ventures for more than a decade now, since 1999. Today, we operate more than 100 joint venture locations across the country, making us the clear leader within this niche market in the home health and hospice industry.

Because of our deep understanding and connections to the hospital industry, and the many years of both clinical and administrative hospital experience our management team brings to the table, we have an impeccable track record with regard to our ability to successfully model and operate hospital-based home health and hospice agencies while, at the same time, improving quality scores, improving patient and referral source satisfaction scores and helping our hospital partners to reduce overall costs through avoiding unnecessary re-hospitalizations and emergency room visits.

And our commitment to Joint Commission accreditation strengthens this position even more.

And now, I'll turn it over to Pete for a review of our financial results. And I will be back to close the call before we go to questions.

Thank you, Keith. Good morning, everyone. Consolidated net service revenue for the first quarter of 2010 was $145.9 million, an increase of $21.4 million or 17.2% compared to the first quarter of last year. Net income attributable to LHC Group for the first quarter of 2010 totaled $11.6 million or $0.64 per diluted share compared with net income of $11.1 million or $0.62 per diluted share for the first quarter of last year.

For the home-based segment, revenue for the first quarter of 2010 was $128.7 million, an increase of $19.3 million or 17.7% compared to the same quarter in 2009 and consists of $118.8 million in organic revenue and $9.9 million in revenue from acquisitions. For the facility-based segment, revenue for the first quarter of 2010 was $17.2 million, an increase of $2.1 million or 13.9% compared to the same quarter last year and consists of $14.6 million in organic revenue and $2.6 million in revenue from acquisitions.

For the home-based segment for the first quarter of 2010, total organic revenue growth was 8.7% and organic Medicare revenue growth was 8.4%. Medicare revenue was 81.1% of consolidated net service revenue in the quarter, compared to 83% in the first quarter of last year. And the home-based segment made up 88.2% of total revenue in this quarter.

In the first quarter of 2010, our consolidated gross margin was 48.8%, as compared to 49.2% in the fourth quarter of last year and 50.1% in the first quarter of last year. Comparing the gross margins this quarter to last, the decrease is in the facility-based segment and is partly due to a reduction in commercial revenue per patient day in the LTACs caused by commercial payer contract mix in the quarter.

In addition, the gross margin was reduced from an increase in pharmaceutical supplies in three of our LTAC locations whose acuity was higher this quarter than in the fourth quarter last year. Home-based gross margin remained the same between the quarters.

Comparing the gross margin this quarter to the March quarter of last year, the decrease is in the home-based segment and was caused by specific agencies acquired over the last nine months that had lower gross margins in this quarter than in same-store agencies.

Throughout the remainder of 2010, we expect consolidated gross margin to be between 49% and 50% of consolidated net revenue. Our G&A expense in the first quarter of 2010 was 31.4% of revenue, compared to 32% in the fourth quarter of last year and 31.2% in the first quarter of last year. G&A expense was reduced in the quarter by a lower than expected workers' comp insurance audit adjustment. Throughout the remainder of 2010, we expect consolidated G&A expense to remain between 31% and 32% of consolidated net revenue.

Days sales outstanding or DSO at March 31, 2010 improved to 45 days, compared to 47 days at March 31 of 2009 and 48 days at December 31 of 2009. In the quarter we billed approximately $146 million, collected approximately $147 million. Bad debt expense this quarter was $2.1 million or 1.4% of revenue, compared to 0.4% last quarter and 1% in the March quarter of last year. We wrote off $1.5 million in receivables in the current quarter. We expect bad debt expense to remain about 1.5% of consolidated net revenue for the remainder of 2010.

Noncontrolling interest or the expense associated with noncontrolling ownership of our joint venture partners was 2.9% of consolidated net revenue this quarter. I expected noncontrolling interest to remain around 2.5% throughout 2010 and it could end up there for the entire year. However, it is hard to predict this number to that degree of precision because it really has to do with how profitable those joint ventures or agencies are and that can fluctuate from quarter to quarter and certainly has.

Going forward, I estimate noncontrolling interest expense to remain between 2.5% and 2.9% of consolidated net revenue.

The effective tax rate for the first quarter was 39.2%, compared to 37.8% for the March quarter of last year. We expect the tax rate to stay around 39% for the remainder of this year.

Cash provided by operations was approximately $31.8 million in the first quarter of 2010. During the first quarter, we acquired three home health agencies and one hospice entity. The total purchase price of the acquisitions was $5.5 million which was paid in cash generated by operations.

The amount outstanding on the line of credit at December 31, 2009 has been repaid during this quarter. We currently have nothing drawn on the line and $75 million is fully available to us.

CapEx for the quarter was $1.8 million and we expect it to be between $2 million and $2.5 million per quarter for the remainder of this year. Depreciation expense was $1.5 million in the quarter. We expect depreciation expense to be between $6 million and $6.5 million for the entire year.

We can drill down into these results further during Q&A if anyone desires. Now I am pleased to turn the call over to Don Stelly. Don?

Thank you, Pete. Before I discuss our operations, I also want to acknowledge our entire LHC Group team. We appreciate you and we thank you for your commitment to our mission and your constant desire to exceed our expectations.

As I am accustomed to doing on these calls, I also want to thank all of you who have just joined our team. We know you have a choice and we thank you for the decision to be part of the LHC Group family.

Now I will provide you with a few of our operations. I will start with quality. I will only mention highlights, but will be more than happy to expand during the Q&A session.

We continue our sequential scoring improvement in our Home Health Compare data set. The last reported period as Keith mentioned has us demonstrating improvement in all 12 nationally reported outcome measures. Inside of our HHQI, or the Home Health Quality Initiative categories, acute care hospitalization and medication management scoring both improved by 9% over the last reported period.

In regards to our Joint Commission difference, we presently have 119 of our home care agencies accredited and have 113 in queue to be surveyed this year. As previously stated, these will begin in the third quarter and we are clearly on track as all applications have been finalized and submitted as of April 16.

Our hospice operations will see 21 of the 22 locations go through the Joint Commission survey this year as well. And the remaining one location -- Branson, Missouri -- will be completed early next year.

Sticking with quality, I do want to take a minute to expand on the progress of our chronic disease management initiatives. In tandem with our many hospital partners across this country, we initiated our early intervention program back in the latter part of 2009. This was the first step in fulfilling our leadership role of reducing unnecessary readmissions to the acute care setting while improving overall quality for the patients once discharged to home.

Inside the 97 [important] locations this program was a huge win for our patients, our JV partners and clearly demonstrated our ability to make an immediate impact in the realm of continuity. Since that time, we have fully deployed this early intervention program across the portfolio of Home Health. In fact, it was a contributory factor inside of our admission growth that I will touch on in a bit.

The second phase of our continuity of care initiative will begin deployment in the third quarter of this 2010 year. We have a multitude of multidisciplinary clinicians developing specific programs that include the following. Diabetes, congestive heart failure, COPD, hypertension, stroke, and our vestibular/imbalance program.

Our implementation of these programs is systematically planned and is expected to be completed by the end of this year.

Turning toward our internal growth, total new admissions growth in Q1 2010 was 20.4%, as compared to the first quarter of 2009, while organic growth for total new admissions in Q1 2010 was 8.9%. Total new Medicare admissions growth was 31.9% in Q1 of 2010, as compared to the first quarter of 2009, while organic growth for new Medicare admissions was 21.1%.

Out of complete transparency, I must remind you that our organic admissions growth in the first quarter of 2009 was only 0.8%. So while I just reported a tremendous number, we do not expect this type of growth quarter to quarter throughout the remainder of this year. Instead, we re-emphasize that we expect organic Medicare admissions growth to be in the range of 5% to 10%.

Capturing greenfield opportunities is an integral piece of our growth strategy and on our last call we discussed how (inaudible) plan throughout this year. These opportunities consist of 25 to 30 actual de novo locations with the remaining being drop sites of our full offices. We opened two de novos and one drop site in the first quarter 2010 and we have six de novos and two drop sites scheduled in this second quarter.

In closing, I would like to thank each of you for joining the call this morning and we will answer any questions you may have shortly. But now, I will turn the call back over to Keith.

Thanks, Don. Before we go to questions, as you saw in our earnings release, we are raising our previously stated guidance range issued on March 3, 2010 with respect to fiscal year 2010. Net service revenue from the original range of $610 million to $620 million to $615 million to $625 million and with respect to fully diluted earnings per share from the original range of $2.60 to $2.70 up to $2.75 to $2.85.

This guidance does not take into account the impact of any future acquisitions if made or de novo locations, if opened.

In closing, I want to once again congratulate our entire team on a job well done. And to our shareholders, our team says thank you once again for your investment, confidence and support.

And with that, Operator, we are ready to take questions at this time.

(Operator Instructions). Art Henderson with Jefferies & Co.

Good morning. Thanks for taking the question. Keith, you made some comments on acquisitions. And relative to kind of what you did a couple of years ago versus what you did last year, and obviously, with the health care reform visibility that you have now, the opportunities are going to accelerate.

I'm just curious from a business perspective how do you think about the opportunities or evaluate the opportunities that are out there in terms of what you look for in a particular kind of acquisition versus something that you might walk away from? Is there any sort of criteria that you could kind of give us as to what you are really particularly interested in moving forward?

Sure. That's a good question. The simple answer is that we have not changed our growth strategy. We have only increased our volume.

So specifically, we have historically tried to locate and bring in opportunities that are licensed for larger geographical areas but that don't have a fully developed -- haven't fully developed that area. So they have a low revenue base, and then we grow those up to much larger revenue.

And if you look at what we are reporting in the pipeline now, we are giving you visibility in the 38 locations and with just over $70 million in revenue, trailing 12-month revenue.

But all of these have significant upside potential. So the short answer is the first thing we look for is upside potential. I mean, we are looking for areas that we can grow. And we try to stay away from opportunities where the market has been tapped out and there is no upside potential.

So does the 36-month limitation out there have much of a bearing on your ability to do acquisitions in the markets that you are looking at?

You know, we are very familiar with the 36-month rule and we are involved with the National Association. We think it's a bad rule. But at the same time, it really doesn't have any impact in our pipeline. We've only seen it affect a couple of opportunities that have come across our desk.

And in those cases, they were not organizations that changed ownership. It was just a re-org and so I don't know if it would have applied anyway.

But the type of acquisitions that we typically make are agencies that have been long established and there has been no change of ownership or re-organization. If we were acquiring agencies from -- more of our volume came from private equity-sponsored groups or roll-ups that we were acquiring in a second consolidation phase, I guess it would have more of an impact. But we don't see it in our current strategy.

Okay and then just two other quick questions. First, in looking at your average reimbursement per completed billed Medicare episode at $2,481. I know that is somewhat significantly lower than some of your peers.

Could you walk us through the reasons why it's lower relative to some of the urban guys? I assume it is a rural aspect to it, but if you can elaborate on that. And then also I have got to throw this in there as well. If we could just get your impressions of the Wall Street Journal article that came out earlier this week and any thoughts you have around that. Thanks very much.

Okay. Let me take the last part of that first and then I'll let Don help out on the episodic [rake up] question.

You know, with regard to the Wall Street Journal article, I figured we would probably draw a question somewhere in here on that. So I appreciate you getting it out of the way early.

I think the biggest challenge this reporter is having is trying to compare one fiscal period to another fiscal period. We had very limited contact with Ms. Martinez. Eric Elliott sent her a written response to questions that she provided and we provided her some data and he pointed out where their analysis was -- where it was flawed. The only thing that she picked up was a statement.

He said that he agreed with the analysis and the way they were looking at it, but then he said if you look at it this way, comparing period to period, but none of that was picked up in the article. But the biggest challenge is comparing 2007 patients that were served to 2008 patients that were served.

In our case, that patient population is much different. I think they try to assume that the patient population is static and that the geographic location you are serving does not change.

Don, do you want to --? Maybe you can jump in on this one too.

Yes. I would be glad to. And Art, it is a good question and I will stick with the Wall Street Journal question. But it is actually going to lead into the revenue per episode.

Keith is absolutely right in that he -- his opening remarks and prepared remarks, he talked about us adding 83 locations in 2008. 63 of those were acquisitions and that brought aboard in that 12-month period just south of 5,000 Medicare patients in that one year.

At that time that represented almost 25% of LHC Group's total census. And of course, those patients did not, and they will never, mirror the existing patient base in diagnoses and specific metrics. So whether you are looking at therapy and trying to compare it at the same period, part of the year or you are looking at other metrics, such as case mix, it is extremely difficult because of the way we roll these up.

And that actually does flow into your other question about our revenue per episode. In my prepared remarks, I talked about the early intervention campaign and us trying to grab these patients to care for them earlier in the disease process so they don't get as acute and sick. Or when we did that, it was very effective, but we effectively added a very large number of patients who actually require a less or a shorter length of stay and, therefore, you have to discharge them when it's appropriate.

And they come with a smaller reimbursement, a lower case mix and we have always disclosed that case mix. And right now, our case mix for this quarter is 1.26 and it is actually down just a little bit from where we were running at 1.27, 1.268. So I guess in summary to tie both of these together is you've got dynamic nonstatic patient populations month in and month out for our Company. And in the case of our revenue per episode, it trailed with case mix and trailed the type of patients that we admitted in the period.

Okay, great.

Let me just give you this. I am not going to read the whole e-mail, but I'm reading from the e-mail that Eric sent to this reporter and to the kind of thing you kind of asked what Don was saying.

He says "when looking at our top 10 patient diagnosis that required therapy in 2007 as compared to those same patient diagnosis in 2008, the number of therapy visits was very consistent. For example, of patients diagnosed with nervous or [multi skeletal] system symptoms was given an average of 11.1 therapy visits in 2007 and 11.7 therapy visits in 2008. This shows that we did not change our plan of care inside diagnosis between 2000 and 2008 and that we consistently care for the patients in the same way, year after year."

So we --. I mean, we did our best to try to communicate to her where they might look. But we -- again we had very limited communications.

I will say this. I do know that I did find out this morning that the National Association for Home Care, in fact you'll -- Bill, specifically, Bill Dombi, the Vice President for Law, sent a letter to -- sent out a letter to the Editor of the Wall Street Journal yesterday afternoon. And they are going to publish that letter on their website later today.

Okay. Great. That's very helpful. Thanks for the color there.

Kevin Ellich with RBC Capital Markets.

Good morning. Thanks for taking my questions. Keith, I just wanted to follow up on the acquisitions. Just wondering how the landscape has changed since healthcare reform has passed and if any of the pricing has changed? Are the valuations still holding in or has that changed at all?

I think valuations went down in 2009 on the transactions that were completed. And I see those values holding right now.

I haven't seen values go down any further because I think everyone was anticipating some reduction in reimbursement. We had already kind of built that into pricing in 2009.

It's pretty early in the game. I mean, we are only April now, but I can't say that I see any downward pricing movement right now from 2009 to now.

Okay. And then I -- maybe I missed this in the prepared remarks, but have you seen any impact or noticed any impact from the 36-month [Child] Rule?

We haven't. We had one agency, Feliciana Home Health in Baton Rouge, that came on board in the fourth quarter of -- fourth quarter, right, of 2009. And in that case, this was an agency that the same family has owned since it was founded nearly 30 years ago and there was no change in ownership.

But the brother, who is the sole owner, transferred a minority position to his brother and another operating partner. And that internal re-org technically would have triggered the 36-month rule. We spoke to provider enrollment at CMS. They reviewed it and that one was approved.

But that was really odd for us. I mean, we don't typically see even those in the type of acquisitions we make.

So as Art mentioned that in his question and I mean, while we think it is a bad rule, it misses the whole intent and we are working feverishly to turn it to have it -- get it corrected, it really hasn't affected us. And we don't see it affecting us in our current acquisition strategy.

Okay. That's helpful. And then just thinking about the admission growth and I guess the timing of admissions. Just wondering if that had any impact on the revenue in the quarter?

I'll let Don take that now.

Yes. I mean, I think we have always said that what you see this quarter will have an impact in between 30 and 60 days out and I think it did have an effect because of where we started that early intervention campaign, Kevin, back in the latter part of 2009.

I think we will see that flush through the second quarter as well and that is why in my prepared remarks said that we didn't want to let you guys model that kind of growth in, that we do believe that 8% to 10% range is where you need to be.

But I do want to say that some of this was predictable on our part and it is why we exceeded our internal expectations. But we also have a different push that's coming through with our sales and marketing force in the third quarter that includes those other disease management processes.

But I want to finish my remark by saying that, because of our -- and I think Keith used the word weak acquisition [dump-ins] last year, that growth number that you see is truly a same-store growth number. There is no acquisitions flushing through that. So there's no hidden component inside that. And honestly we feel that it's a good growth number for our same-store agencies.

Do you think, are you -- you know, you mentioned that 8% to 10%, but I guess, given the rate it came in this quarter, would you be comfortable with even that kind of 10% to 15% type of range especially now that reform -- healthcare reform is out of the way? Could we see that accelerate?

I think we could possibly see that accelerate the latter part of the year, and in the next earnings call, I can update you more clearly on that. But as simply as I can put it is when we rolled out this program, our sales force caused a gain in traction, we gained traction quickly because it tapped into a patient base and an education base that we hadn't done so before.

So just like any bell curve, we saw a steep accentuated curve and now it is actually tailoring off. So that is all a nice way to say, no, I don't think you can model that into the next six months. That 8% to 10% should be the number.

Okay. Got it. And then just one maybe for Pete. Cash flow looked pretty good this quarter, relative to my model. Just wondering if there is anything unusual and I guess what should our expectations be for operating cash this year?

I think there's nothing really unusual in the cash flow this time. Maybe the unusual thing is that we didn't have any specific payable event that caused us to adjust operating cash flow. Like in the past, when hurricanes -- when I think it was Hurricane Gustav came through, the IRS allowed everybody in the hurricane area to postpone paying their estimated taxes.

And that had a pretty significant buildup of a payable at year-end. And then in the first quarter we paid all that. You had to pay them I think on January 5. And so it had a pretty significant negative effect to the operating cash flow model.

Now we have had things like that happen. It seems like every quarter something occurs on the working capital accounts that reduces the operating cash flow from net income. But this time, I agree with you. It was pretty good compared to EBITDA and I think myself I believe that EBITDA is the right number at operating cash flow. And if you manage the working capital accounts effectively, then in the year, it will true up to that number.

Got it. Thanks, guys.

Newton Juhng with BB&T Capital Markets.

I was curious about just in terms of recertifications. And have you guys been seeing any reduction in that rate, I guess, in your current population? Just looking at the number of new Medicare admissions that you had versus the completed episodes you had, it seemed to be a pretty decent fall-off in the quarter. And so I'm just wondering if recertifications were the cause for that?

I wouldn't use the word 'significant', but I will tell you that the patients that we admitted into the first quarter did overall have a shorter length of stay than the population had been previously. And that is actually reflected in our completed episodes per admission on a 12-month rolling period or 1.54 this period, compared to [about a 0.61] rate in the prior three quarters.

So I think that is accurate, but I do think that is probably a floor that you will see and you will see it normalize going back for the next three to six months.

Don, while I have you here, on the LTAC side, that gross margin number being a little bit lower, you know, normally we did see Q4, Q1 being a little bit stronger than Q2 and Q3. Can you talk to me a little bit about what we should expect I guess going forward in terms of the gross margin in that business, in terms of maybe is it not going to recover until the fourth quarter really? It's kind of [my question].

Yes. I think it's a good question, but if you remember last year, that first quarter for our LTACs was by far the best we had ever seen, certainly that I have been here in the five-year period. The answer to your question is I think what you see right now for our LTACs is a very good number for you to model out to the rest of the year. That is not going to wobble one way or the other.

I will say that we are shifting and adding some capacity in our LTAC beds for managed care. And on a per day basis, it is slightly lower, but that's also very important because that's why we have seen our occupancy rate go up. It is all part of our strategy considering where we are going to be going with criteria in Medicare and [Mimsy] and all those type things.

But I think, again, the summary is what you see is a very nice model going forward for the rest of this year.

Thanks, Don, it's helpful.

Jerry Doctrow with Stifel Nicolaus.

Just a couple of things. A lot has been covered. I want to start with sort of the new care initiatives that you were talking about, sort of early interventions and some you've done, some where you will be rolling out.

I guess just to try and get a little bit more color on understanding those, I mean, they are basically -- you know, it is certainly clear that eligible under Medicare has been under Medicare before. So I guess they are trying to understand a little bit what changes, kind of a new package of services, you are marketing more to hospitals -- so you are getting the physicians' scripts signed earlier or getting them quicker. If you'd just help me understand how the process is changing?

I think the process, Jerry, is changing and that, with our joint venture relationships, it is much more collegial in our care programming. And let me just take a second to explain that.

The type of patient isn't changing, the necessity to get a script earlier to take care of it, but what is changing is the dramatic education that we have done with our case management partners on what truly does qualify for a home care admission. And when we get them in and we send nurses out there to do medication reconciliation, teaching and training, those interventions, while we don't keep the patient as long and while they may not be as acutely ill, gets them on the road so to speak to recovery. So they don't go back to the hospital as often.

So that helps the hospital in their 30-day readmission rate. It certainly helps us on admission side, but more importantly it does what we intend it to do. It keeps the patient independent at home. And what we've done is, honestly, we've become more sophisticated in our approach by taking them as a partner and finding out what they need.

I don't want to get too detailed, but I will say, for example, they are under Joint Commission scrutiny for something called core measures or performance measures that they have to do. We have aligned their core measure performance to our Home Health Compare performance and done what is best for the patient and then we both win.

So I think I've answered your question. But if you have a follow-up, I will dive deeper.

Right. So basically it's the discharge plan at the hospital is understanding your business better, understanding these sort of specific service packages better, understand that they qualify for health care. So you are more likely to get a script written coincident with discharge or before discharge so you can pick somebody up quicker.

Is that -- [another way to say it] --

I think you said -- I think you said about 80% of which I totally agree with. The bigger part is is, though, back in nursing school, we were kind of taught that discharge planning starts upon admission. And I think what we have done better is educate who is going to be appropriate for home care and at what part will length of stay in the hospital and they are going to have that in their mind.

But it doesn't because it is the second time you mentioned it and I want to make sure I'm clear.

It doesn't have anything to do with where the script is written. It really has to do when they are appropriate for discharge. Instead of sending them home, with no home care, there are reasons and skills that we can go in there and teach, train, do medication, reconciliation and get out faster and it helps.

Okay. That's helpful. And then I just wanted to get a little more color sort of some of the expense side. You know, I think there were a number of things you were doing, point of care and that sort of stuff that had both increased in capital spending, and I think you were hopeful it would get some, maybe, efficiencies down the road. So I was wondering if you had a little more color on how that roll-out is going, particularly how it is going to affect expenses.

And we had also gotten some feedback from some private operators that they are seeing if not maybe even actual declines in some of the labor costs, because more nurses have entered the labor force part-time, that kind of thing. So I was curious if you could touch on those two?

Do you want to take the first part, Pete?

Yes. I will start with the point of care stuff and the efficiencies and I think we have been very conservative about how we address point of care and how it would affect our margins. We are managing that process very closely and have a roll-out plan that goes all the way to 2012 to get the entire Company on point of care. Certainly we believe there are some efficiencies that are in there. We are not sure they all go to the operating margin. They may just be time efficiencies and may not, in fact, cause those margins to be any better than an agency that is working off of paper.

But one of the things that is certainly of benefit is the time and expense that we build on the back end as we work our way through, maybe, Oasis assessments that are inconsistent within that assessment -- within the assessment. And that is done by a coding group over here when they review it. Or if the bill itself, if the claim is not complete and not fully documented, that backup and that follow-up is done by our revenue cycle team on the back end.

So you may not see it in the gross margin, but the benefit may be in the operating margin after and in G&A (multiple speakers).

That's what I was going to ask you. So those follow-up people are basically a G&A cost, not an operating expense?

Yes. That's really where we think there is going to be some benefit that we see.

And just -- so in that rollout are we sort of 10% done, 20% done, 50% -- you know, where kind of are you in the process?

We have 10% of the agencies right now on point of care and that is about where we are standing. But I do want to say something that you touched on that's very accurate. There is -- we are bumping up against some staffing issues in some of our newer markets, especially in the Northwest, and even in the Northeast with some of our agencies.

So the good news is that our programs are truly being sought after by the referral sources. So I am really excited about some of the recruitment efforts that our HR department has done centrally and some of the strategies we've put in that area. And I think you'll see that our costs actually will go down when we continue to ship contract labor to FTEs.

But I would caution I don't think that is going to happen until probably mid third quarter flushing through the rest of this year.

So you are using more contracts now and that will burn off --?

That's correct. That's absolutely correct.

Okay, great. Thanks a lot.

Kevin Campbell with Avondale Partners.

This is Wes Huffman speaking for Kevin this morning. I just have a few quick questions for you.

As a result of the rural add-on in the home-based segment, what level of improvement do you guys expect in gross margins from the first quarter to, say, the second quarter?

We have kind of baked that into what we said. I mean, I think that the -- I think we will see some improvement. I mean, clearly, we have a topside increase of about $5 million off of what our guidance was before. That's 100% due to the rural add-on and so, if you just twitch that number through the quarters, that will -- we expect that to fall to the operating margin line. And we expect the operating margins to stay within the 49% to 50% range.

Okay. And the revenue per average weekly census, it was, I believe, flat sequentially. And it's despite the increase in rates beginning in January. What was the main reason for that? And should we expect a decrease in April by more than just the impact of the rural add-on?

I'll take the first part. I think I had explained a little bit earlier about those early intervention campaign patients being dumped into that and [cleaning] out that rate at just a little bit lower per episode and that was the reason for it in the first quarter. And I will let Pete take the anticipatory part.

Yes. I think -- you know, the -- when you break it down to an episode by episode basis like that and try to look at that on such a -- on a level that may be nugatory, I think it's best to get back to the consolidated numbers and look at the gross growth that we have built into that.

So to anticipate what our reimbursement is on a patient by patient basis, it is very difficult to do. I mean, it's just a hybrid group of patients that is -- it's a calculation. And at the end of the day you -- we really just -- it's difficult to affect this.

And my last add-in is you have got some variables in there such as length of stay and some of these other discharge factors that I think Pete is absolutely right. When you are modeling out it is better to stay at that 30,000 foot view there. When you get caught up in this per patient basis, length of stay is an independent variable in that piece that I think can get you off guard.

Okay. All right. That's helpful. And I think you quickly touched on this in your opening remarks. But with respect to the facility-based segment, the revenue per patient day was down sequentially.

What was the main driver there? And should we expect it to recover next quarter?

Yes. The main driver was the contract mix. You know, if you have -- you don't see it in Medicare and you don't see it in Medicaid except in the individual states. But for commercial patients, particularly LTAC commercial patients because each patient is a pretty significant dollar amount generally when they go in, the individual commercial contracts can affect the revenue per patient day.

And so -- I mean, to put it simply we had 11 patients that were Freddie's insurance company in the prior quarter. And we had those same 11 patients or 11 patients with the same diagnoses that were [Joey's] insurance company in March and the reimbursement rates between those two is what made the difference.

That's very helpful. And one final question getting back to the average weekly census. As far as the balance of the year goes, should that stat trend up each quarter? Or you think it will be softer in the third quarter like it was last year?

No. I actually -- this is Don again -- I don't. I think again what you see is a good model going forward on that growth rate. I don't think it is going to be softer than it was prior period in the third quarter.

David McDonald with SunTrust.

You guys, I hate to beat this to death but just wanted to follow up on the facility-based side for one second. You know, with the payer mix, is it fair to assume that there are some contracts in there that may be inadequately priced? And could we see an initiative like we saw in the Home Health side where you guys circle back on some of these managed care contracts where you are getting maybe a little bit less attractive reimbursement and try to get those kind of in-line with some of the higher reimbursed contracts? And then I have got one follow-up.

I'll take it. I actually negotiate those myself so the answer is no. We are actually very pleased with those rates. There is a factor that I failed to say that I need to fully disclose. We also streamline some of our Medicare admissions because we are bumping up on our fiscal year-end and you always have to manage that length of stay with the balance of short stay. So let me just explain a little bit more.

Even if you have an appropriate patient and your length of stay is teetering on 26 or 27 days, if you disproportionally admit more of them and they pass away or die, that actually hurts your length of stay on Medicare. So we have got to always manage that.

And what I'm trying to tell you is those commercial payers, even though they are adequate, it was a disproportionate share as a total of our census than it was same period prior year. And that is why you saw the aggregate amount go down. As we get closer to fiscal year-end, we feel that we can take those short stay or potentially short stay patients. I think you'll see it get back to historical amounts.

But again, caution. It's not because the managed-care rates are bad. It's because we fill more beds with those patients.

Okay. Thank you. And then just the second question for whoever. Just on the acquisitions. I mean, can you guys give us a little sense in terms of appetite for not only more transactions but larger, more material transactions? And then it has been quite a while since we've talked about leverage, but can you remind us, you know, is a couple of times EBITDA a leverage ratio --? You know, where you will be willing to take leverage on the Company just to give us a sense of how much money you guys have to spend?

I will take that. Our position is that we continue to be very comfortable at 2 times pro forma EBITDA. So it would give us a lot of room for leverage obviously. And to the appetite question, our appetite is pretty strong right now for the higher volume of smaller deals and also for larger deals, if we can locate larger deals that meet the other requirement of having upside potential.

So, you know, that is really the challenge when you get to larger deals is to try to find something that has the upside potential and that is priced fairly.

And Keith, I would assume that if you did find one of those larger deals that fit all your criteria, that would take you north of that 2 times EBITDA, that that would be something you would certainly be willing to do.

Yes.

Okay, thank you very much.

Whit Mayo with Robert Baird.

Thanks for squeezing me in. I realize the call has gone over the hour mark. I'll be brief. I just want to clear something up first.

You guys seem to be pretty happy with the quarter so I'll just ask the question. Was the street off from your budgets and really how did the quarter meet with your internal budgets?

I can tell you that. This is what I think. I think there were two things that happened this quarter.

The first thing that happened was the fourth quarter of last year was excellent. And I do believe that that raised expectations maybe a little bit too high. The second thing that happened was we didn't really have a lot of acquisitions in the first quarter of last year. And so when acquisitions rolled into the 13th month, that actually increases our organic revenue number. And usually an acquisition over a year, I mean, we have had growth, revenue growth of 30% in the first year.

So you have got a significant component of quarter-over-quarter revenue really kind of missing, not because of anything that was done in the first quarter of this year, but really what was done in the first quarter of last year. And I think that those two things sort of came together and weren't really considered in the street estimates.

So that is what I think happened. And yes, we did beat our internal budgets.

Okay. And one other question just on the admission growth. The Medicare admits were up 20% and if your total admits were only up 9%, that implies that the rest of our math is close to being correct, that your non-Medicare admissions were down 60% in the quarter. A pretty big number.

So I know you know where I'm going with this, Pete. So how do I reconcile that? And maybe if Don wants to comment on some of the strategic initiatives that may have had an impact on that shift.

Don, you want to --?

Whit, I will take both of them because I think it is the same answer, as a matter of fact. I think what you're seeing in that number right now was a real strong reflection of two assets that we purchased history -- Ochsner and Maryland. When you see that shift, it's because we actually shifted the mix inside both of those agencies from commercial and Medicaid into that Medicare. And that is the flush through you see.

For example, when we bought Maryland they were owned by UnitedHealthcare and Medicare. I don't even know if they knew that word. Now they do.

And so what we've done is we shifted that, we've done the same at Ochsner, and that is why we kind of took that last comment and said at the end of the day when you get back to Medicare, that will be the basis for that 8% to 10%.

Yes. So we should see probably muted total admission growth rates for the next couple of quarters as that phenomenon continues to take hold? Is that fair?

I think it goes back to what Pete was saying. When you don't have acquisitions rolling in, they are one and the same.

Okay. I think I got it. Thanks a lot, guys.

Michael Martin with SmallCap Report.

Thanks for taking my question. Can you give us some sense of your thoughts about how to maintain margins, operating margins in the environment beyond this year?

I will touch that at a high level and then let Don dig in a little deeper. I don't think we are going to maintain margins is the short answer. We are --. We have visibility now and we see that we are going to have reimbursement cuts folding in year after year for the next four to five years. Not significant perhaps but still cuts.

And so I really don't see us maintaining margin. I see us growing significantly in volume. I think this consolidation period is going to result in the most significant consolidation possibly we have seen in the history of the industry. So I think we will benefit from that and grow in volume, and so our absolute earnings will increase attractively.

But I don't think our margin -- I don't think we have a chance at holding margins. Don, do you agree?

Keith, I think you're absolutely right and I think, Mike, the important part to note there is that we have plans to grow internally as well as acquisitively. And while the margins on that revenue may not be where we are now, we think we can still sustain what I will call nice EPS growth with that.

So this is absolutely a case where volume will cure that evil. But to say that we are going to stay in the teens, midteens on an EBITDA margin, we have said that for the last year and a half, I guess, Keith, that that is not going to be the case.

Thanks very much.

I'm not showing any other questions at this time.

Thanks, everyone, for joining in on the call this morning, for taking the time to listen and participate. As always, we are available if you have any questions as a follow-up. So thanks for participating in the call. Have a great day and we will talk to you on the next call.

Thank you. Ladies and gentlemen, thank you for your participation in today's conference. This does conclude the conference. You may now disconnect. Good day.