Owens & Minor Inc (OMI) 2004 Q3 法說會逐字稿

Good morning, ladies and gentlemen and welcome to the Owens & Minor, Third Quarter 2004 Earnings Conference Call. My name is Sean, I will be your coordinator for today. At this time all participants are in a listen-only mode. We will be facilitating a question-and-answer session towards the end of this conference. If at any time during the call you require assistance, please dial "*" followed by "0" and a coordinator will be happy to assist you. As a reminder, this conference is being recorded for replay purposes. I would now like to turn the presentation over to your host for today's call Mr. Gil Minor, III, Chairman and Chief Executive Officer of Owens & Minor. Please proceed sir.

Good morning America. The king is dead. Long live the king. The fiery Yankees last night broke my heart especially how they lost. But I was most impressed with was the fire in the belly of the Red Sox, I congratulate them. They have more fields to tackle and I truly wish them well. As I've said, sorry about that Larry. Tough, tough night.

We are here today to talk about an excellent third quarter for Owens & Minor. And with me today just do that Craig Smith, President and Chief Operating Officer; Jeff Kaczka, Senior VP and Chief Financial Officer; Dick Bozard, Vice President and Treasurer; Olwen Cape, Vice President and Controller; and our General Counsel, Grace Den Hartog. Before we begin, Trudi Allcott, our Communications Manager will read a brief Safe Harbor statement and make the short announcement. Trudi?

Thank you Gil. Except for any historical information, material discussed today may constitute forward-looking statements that involve risks and uncertainties that could cause actual results to differ materially from those projected. These include the success of strategic initiatives, intense competitive pressures within the industry, the loss of major customers and they also include changes in customer order patterns, pricing pressures, changes in government funding to hospitals and other healthcare providers, and other factors discussed in reports filed by the company with the SEC. The company is in no obligation to update information contained in this release and this conference call will be archived on our website for the next 3 weeks.

And just a quick note, we would like to invite you to join us for our Annual Investor Day, which is the first Thursday, October 28 at the New York Stock Exchange. If you would like to join us, please contact our Investor Relations team as the stock exchange does require event registration. Contact information is in our press release. We have to see you at Thursday. Thank you, Gil.

Thank you, Trudi. Jeff and then Craig will have brief remarks, and then we'll be glad to take your questions and look forward to. Jeff?

Thank you. Good morning everyone. On behalf of the team I am pleased to report another solid quarter. Revenue for the third quarter continued at a strong pace growing 6.7% over last year to $1.13 billion. This growth is from a mix of new business and penetration of existing accounts and that puts our year-to-date revenue at $3.36 billion, up 7.1% versus last year. Earnings growth was very strong. Diluted earnings per share was 38 cents, up 11.8% over last year's third quarter, while net income was $15.2 million, up 18.4% from last year. Year-to-date, diluted EPS was $1.14 up 7.5% compared to last year and net income was $45.1 million, up 14.8%.

Now turning to other results, our gross margin for the third quarter was 10.1% down from last year's 10.3%. As we've said before there are continuing competitive pressures in our marketplace, but also the alternate source contributions to margin are smaller than we’ve seen the past. Although in the long-run this will be a good thing for our industry.

And finally our own solutions group, although is making progress, has not yet had the positive financial impact anticipated. But our team continues to introduce our customers to products and services that add value including MediChoice, our private label line, which has grown steadily and CostTrack, our activity based management system, which is now 36% of our business. This quarter the team successfully offset margin pressures with cost improvements including teammate healthcare cost, which were unusually high a year ago.

SG&A for the quarter was 7.4% of revenue and by the way that’s actually 7.44%, compared to 7.6% in the prior year. So for the quarter operating earnings as a percent of sales held steady with last year at 2.4% and net income is 1.3% of revenues, thanks in part to strong asset management.

Year-to-date results are somewhat similar. Gross margin was 10.2% below last year’s 10.4% while SG&A was 7.5% improved from SG&A of 7.6% at the same period last year. The year-to-date tax rate is 38.2% down slightly from 38.3% through the second quarter.

Asset management continues to be one of our greatest strength, with inventory turns in 9.6 and DSO at 25.8. Consequently, we generated operating cash flow for the quarter of $57.4 million bringing our year-to-date cash flow to a positive $128.5 million.

Turning to our outlook, our guidance for the year remains unchanged. We anticipate revenue growth in the 5 to 7% range and EPS in the range of $1.54 to $1.56 for the year. Please bear in mind that the fourth quarter will have one less sales day than the prior year making up for the one additional sales day we had in the first quarter and we continue to face some pressures in the marketplace.

So in summary, strong sales growth is 6.7%, net income growth of 18.4%, excellent asset management and cash flow, a positive $128 million in operating cash flow year-to-date and you will hear more from Craig on our strategic progress.

Thank you and now I'll turn it over to Craig.

Thank you Jeff and good morning everyone. Let's take a few moments to look back at the quarter and give you some color about where we are today. So, far this year we are pleased that revenue has grown in line with our expectations. This quarter, the increase was just about equally divided between new business and existing customers. We have achieved this growth while keeping expenses in check and headcount nearly flat in the core business. Our team is working efficiently to deliver results for customers and manage our growing business. As we've said all year, we continued to experience pressures on margin and although we are making progress we are not quite where we want to be.

As planned, we are moving more business to CostTrack expanding our MediChoice private label program and leveraging our OMSolutions effort. Our CostTrack business now accounts for 36% of our sales with 14 new customers converting to CostTrack during the quarter.

Looking back, CostTrack was 32% of our business at the end of 2003. This activity based pricing allows us to be more productive and to provide more efficient service to our customers. With our MediChoice private label program we have seen steady sales growth since we launched the program in 2002. With this year's three product launches, we now have 98 product categories with 625 SKUs, active SKUs. Within this year's launches, we have added personal care products, Minor capital equipment, and non-latex exam gloves.

Turning to OMSolutions, more and more, we find we are right on target with this service. Customers today are asking for help with outsourcing, consulting, clinical inventory management, and third party logistics. Our OMSolutions team is there to meet these needs. This quarter OMSolutions made progress in each areas. So, let's take a look at the score card. With outsourcing, we've held steady with 24, but we continue to penetrate existing customers by adding new projects and consulting since the inception of OMSolutions, we have conducted a total of 103 consulting engagements. We have added 36 projects so far in 2004 with 12 new projects in the third quarter. With clinical inventory management projects, we added 7 accounts in the third quarter for a total of 26 year-to-date, and we know have 33 WISDOM2 customers adding 3 this quarter.

Looking ahead with OMSolutions, although we had expected solutions to be accretive by the end of this year, we now believe this will not be the case. Two of six operating margin Solutions regions have underperformed their peers this year, if you will recall we faced a similar sales situation in our core business 2 years ago. We worked quickly and successfully to get back on track and we believe that we are moving in a positive direction with OMSolutions.

OMSolutions meets the growing needs of our customers and has generated uncapped revenue for our core business. With OMSolutions, we have invested in talent at a rapid pace and revenue growth is on a positive track. We remain as positive about OMSolutions today as the day we launched it and as Jeff mentioned, our guidance for the year remains unchanged.

Finally, we have just announced that we have acquired HLS, a California-based, healthcare consulting company. We are looking to our new teammates from HLS to supplement OMSolutions, especially in the West. This team has a reputation for excellence and their expertise will complement our OMSolutions efforts. We are very pleased to welcome them to Owens & Minor.

I would like to take a moment to talk about our folks in the field. Our teams in Orlando, Fort Lauderdale, Jacksonville and New Orleans and other along the East Coast did a fantastic job handling 4 hurricanes in just 6 weeks this summer. I commend our team for working so hard to make sure that our customers were satisfied and had the supply they needed. We not only swung into action before each storm had got our customers stocks appropriately but we also stepped in to help deliver water, ice, care kits and other necessities when called upon. I am proud of each and every one of our fine teammates. We've had a number of letters and e-mails from customers thanking our teams for their extraordinary service and on behalf of all of us at Owens & Minor, I want to say thank you. These teammates truly demonstrated what we are all about. Thank you and now we will take your questions.

Ladies and gentlemen, if you wish to ask a question, please press "*" followed by "1" on your touchtone telephone. If your question has been answered or you wish to withdraw your question, press "*" followed by "2.". Again, "*" "1" for any question. And your first question comes from the line of Larry Marsh with Lehman Brothers. Please go ahead.

Thank you. Good morning, Gil let me just commend you for pressing ahead of what is truly a day have been for me.

Stop Larry, I got a number of calls already this morning.

Yeah, I guess the message we got or lean on each other to get through this, I think we can.

Right, that's the only help we can get.

First of all, maybe just an update on little bit of elaboration on the solution business. Can, maybe, Craig can you give us and Gil, some perspective from what is driving net of performance in 2 of the 6ix region which Mark is doing to alleviate that and is this recent acquisition going to help in that process and maybe when you talk about it not being accretive could you give us some more quantification of what that might mean this year?

Yeah, Larry this is Craig. Couple of things, on the 4 of the 6, HLS is based in California. That was one of the regions we were having some issues with. That is a group of folks that we have had a good relationship with over the years. I have known those guys for a long time. They will directly help us in the West where we were flying literally people in from all over the country, to keep momentum going there in the West coast. So, it’s a solid group of consultants. What becomes available to them is the QSight and the WISDOM2 and other products that we have developed. So we are very encouraged in the West Coast. Second thing is some of these larger engagements are taking a little longer than we anticipated. Let me just give you an example, Stanford, which is probably one of our oldest and dearest customers. They helped us start CostTrack. They were one of our first low-unit major customers and was our first cath lab customer many years ago. About a year ago, they wanted to move to a total outsourcing their system and it took roughly a year to get that up and running to where we can be proud of it and bring other customers into it and hats off to Nick Gaich and his group out there, who is the Materials Manager. He does a wonderful job. But that is now a fully implemented outsource of the medical supply chain in the hospital. With WISDOM2, we have clinical consultants onsite. They are looking at QSight, they are doing the cath lab manually. So, I think, the second piece was is that these bigger deals like Iowa health and some of these other systems are taking a little bit longer than we anticipated. Third thing, Larry, was really getting the right people in the right positions and I think we have done a good job of that over the last couple of months. We will continue to do that. This is a different business for us. And so, Mark, you know, worked very hard to get this HLS deal on board. I am thrilled but they are there and they are going to help us in that area and now we got one area that we are focusing on right now. Third piece, I guess, I was maybe a little over enthusiastic about accretion, but let me say that we are absolutely committed to solutions. We have many customers asking for this. We have at least 4 new customers for the core business. They were competitive customers that through 3PL and OMSolutions. We were able to get that business and we are making good progress every month.

Okay. So, is your updated perspective that you think solutions will be accretive starting beginning of next year or have you not quantify?

It's not the Yankee flourish. No

Please no.

I think we are going to be a little more cautious about that but again we feel we are in the right track, we now we are on the right track because we are getting as per our customers for more OMSolutions engagements and we are very encouraged that’s it's going to be a key component of our strategy going forward.

Okay, just along with that, the CostTrack you said 36% I think before you would said the goal is to get that up 40% of mix by the end of this year is that right. Is it still ways to go?

Run-rate of 40% that's Gil and mine goals. So, he has been tracking me every month on that.

I've forgotten the 50% in the next year enough.

Yes sir, and then finally let's see D&A was down year-over-year, I think it was down sequentially as well. Can you remind us Jeff, what drives that and should we expect that to continue to come down.

Larry, one of the components of that is the new agreements that we had with Perot, I think we enacted that roughly 2 years ago, where some of the services that have been outsourced, lines up hitting in the expense category rather than the capital and that's the processing fees and so forth. So that is an element on the reduced D&A and the offset to that generally is in the SG&A and I think as you have seen the results this quarter, we have enabled to offset that with productivity gains and improvements in healthcare for us.

So is it fair to say we could continue to see D&A come down as we go into next year or no?

Well we won’t provide guidance at this point for next year, our capital expenditures fluctuate a bit from time to time but right now, it's driven principally by IT development work, software development work. So we are in the process of going through our budgeting process right now.

Okay. Let me stop there I will follow back up.

That’s fine. Thank you Larry.

And again ladies and gentlemen, please be reminded that it is "*" “1” for any questions. And your next question comes from the line of Lisa Gill with JP Morgan.

Thanks very much and good morning.

Hi, Lisa.

Craig, I think you had talked about you had some competitive wins on the O&MSolutions side, I am just wondering if you could talk a little bit about who you are competing with and where you are winning some of that business from, and then secondly Jeff, if you could just talk about some of that tax initiatives, your tax rate is a little lower than we expected and I think you've talked about some of those tax initiatives in the past. At what point, are you complete with those and where do you anticipate that the tax rate will fall out going into 2005?

Good morning Lisa. Actually, the 4 that I talked about are spread throughout the United States I mean if you really put a math out, it's from the East Coast to the West Coast and primarily the accounts that we have won have been with against other larger national distributors but they are primarily driven by customers that are looking for supply chain and process improvement. So, these are customers that are now beyond price and really looking at their overall supply chain. So, it's a little bit different base. They are probably where we have price customers and process customers but these were clearly 4 competitive accounts where we did not have the core business and because of the engagements the core business followed after we started the solutions engagement.

So, some of that the solutions that you are providing under OMSolutions. The other distributors are providing that as well. So, it's not somebody you know outsourcing company or somebody else that you are competing with, I'm just trying to understand the competitive landscape?

Correct.

And you know one other thing Lisa we are not using OMSolutions as a leader. To get this that we are maintaining it the integrity of OMSolutions as a value proposition for the hospital system. It has just taken longer to get that in sync with where we want to be.

So, the goal would be it would be paid separately for that. It's not bundled altogether when you are putting together, your pricing for the hospital?

That is great.

Okay great. And then just on that -- the tax initiative side Jeff.

Sure Lisa. I wouldn’t attribute the lower tax rate to tax initiatives. It's really the result of changes and estimates of our ultimate tax liabilities for year. It is subject to audit, so as we clear audits, this can change slightly. The 38.2% tax rate, year-to-date tax rate is our estimate for the year and there could be minor fluctuations as we go forward, again as we clear these audits.

Okay great. Thank you so much.

Thank you Lisa.

And your next question comes from the line of David Bouveau with Paradigm Capital Management. Please go ahead.

Good morning.

Good morning David.

Good morning.

The gross margin seems to be sequentially declining. Is that -- do you see that trend continuing or is it going to rebound in the fourth quarter.

There is a lot of [salads] here. Well let's -- who wants to take that one.

The [trend] seems to be getting a little bit weaker, is that correct?

Well I think what you got to look at is, you got to look at the spread margin between the gross margin and the SG&A and if you look at that, that is maintained and been fairly consistent the last 3 quarters. In distribution, you know, the 3 key factors obviously are sales, margin and SG&A and you work to leverage those. So where the margin has dipped a little bit we have seen improvement in SG&A, cost reduction and process improvement. So, the spread is still the same between the two. There is a lot of customer pressure right now. We have been talking about this for 4 quarters. The three things that we worked on to offset that were CostTrack were on track, MediChoice were on track. We are little bit behind on solutions that we felt would contribute in the last 6 months of this year. So, we are working very hard, our margin we are looking at supplier mix, which would mean profitability of manufacturers and we are also looking at customer mix within our operating units. So, its four-prong attack to take that margin back up and the whole company is focused on it.

Is gross margins be impacted by the new initiatives or could you maybe give us a sense of you know how much there having an impact on it?

Several of the new initiatives are designed to offset some of the pressures that we are experiencing. Those new initiatives as Craig has mentioned being MediChoice or private label line and OMSolutions. We mentioned OMSolutions is not yet contributed positively, but our hope is that, we know that it will in the future. Craig also mentioned the fall off in some contributions in alternate source, which will be good for the industry overall. So, we got initiatives offsetting the current pressures.

The positive David is that we continue to invest in those businesses and hit our numbers and reduce our expenses. So, that’s a very positive story for us is that while we continue to invest in these businesses for long-term growth, we are managing our expenses very effectively and we are managing our sales growth.

Can you give us a sense of how much drain it was from OMSolutions on the operating income line?

Well, we never really commented on that, that’s why we give the score card. Ultimately, we hope that that business -- we believe that business will be broken out and tracked separately so that you can see that. So, today, that’s why we gave the score card, just so that you get some feel for our progress in our improvement.

David, what I was saying the OMSolutions and the core business are separate but they help each other and solutions is helping us in our core business, we think core business would help us with solutions. That just didn’t come along yet. So, there is a lot of opportunities for us down the road. We can’t live today on reducing cost fast enough, if the gross margin continues to decline to offset that. I think that’s a false economy. What we have to do as Craig said is to increase our margins and get paid what we are worth in the marketplace and that we are working on, but as we have said, look at the whole year, look at the company and our total results, and our total results are right on target and you know, with your expectations and the Street's, and we are going to give you some more expectations, I think probably in early February or late January.

Thank you.

Thanks.

And your next question comes from the line of Robert Willoughby from Banc of America Securities. Please go ahead.

Thanks this is Matt Jackson (phonetic) for Bob. We saw you had one acquisition in the quarter and there seems to be some commentary regarding additional acquisitions, what kind of acquisition spending can we expect to see going forward?

Well, we have always said that acquisition will be healthcare related and accretive and that’s the priority. So, as we search we will continue to look to support tuck-in acquisition for OMSolutions like HLS, we are going to look for technology tools to help our customers with QSight. So, you know we are always looking but, the priority from Gil is that, it is healthcare related and it is accretive in the Board and so you know we are always looking for good tuck-in acquisition and we will continue to do that.

Okay. Thanks.

And as a reminder ladies and gentlemen, "*" "1" if you would like to ask any question. And your next question comes from the line of Jeff Allen with Silvercrest Asset Management. Please go ahead.

Hi, good morning guys.

Hi Jeff.

Could you please just elaborate on your comments about alternate sourcing remind us what's your -- what exactly are you talking about there, I mean is it analogous to what's happening to the pharmaceutical distributors kind of?

Actually, it's different. This is what we would call manufacturer overruns that they make available through alternate supply chains, which is available for purchase and Gil made some comments last quarter that that is a market because of the alternate supply chain that we are starting to exit out of. It would also be an opportunity, which is in the medical surgical business it has, I would say for lack of the better were dried up significantly opportunities of buy-ins, which we have seen dramatically reduced over the last 3 years, but primarily these are manufacturer over runs that they make available through alternate supply chain channels.

Okay, so its -- I mean I guess it would be analogous just to the extent that there is just a less inventory in the supply chain, is that a fair statement overall or--?

Actually we are -- on the alternate supply source, we have chosen to start to exit that market because we to some degree cannot guarantee the authenticity of the product. So, we are really working at is to improve our base customer margin and get improvement on that and then work with the CostTrack and the MediChoice. So that we get that and that’s the difference from the pharmaceutical and the med search. There are not huge price increases from the pharmaceutical companies. There is not forward buying in our business. The majority of our business is we get paid by our customers for the services that we provide. So we are working on Gil’s point improving that and getting paid for the value that we deliver to our customers.

The other name for alternate source is what we have referred to in the past as secondary source or secondary market and that’s what we are uncomfortable with. And so we are glad to exit that, we have been working with our manufacturing partners on improving the efficiencies in the supply chain and we work together with them to lower the cost and improve their productivity and improve our productivity and then pass that through to the customers and keep some of it ourselves through initiatives we have with our manufacturers. So we are replacing what I would call a questionable profit opportunity with something that's more substantial, it's based on performance, one with the other, which is designed to lower cost. So, I mean it's a good transition for us and we are very proactive in that area, Jeff.

Okay, and also just you know J&J a few months ago, I know there was [start-up] some fears that there are building their own distribution facility etcetera, you know anything changing with in terms of the manufacturers may be doing some self distributing?

Well, I haven't heard anything more about it. What we are focused on is making sure that from a customer stand-point, the least expensive and most efficient alternative option for them to buy our product through is us. We are closer to the market, we have time and place utility, we are tightly woven into their supply chain initiative that there is and with that technology and so forth and so we think that J&J is not trying to go around us because they are trying to be more efficient and we want to cooperate with them and work with them to make sure that happens, but you know the marketplace is going to always present some challenges for us and we look forward to them because we need to make sure we continue to just -- you know, adjust and we do that very well.

Okay and finally just to finish this off you know, when do you start lapping quarters when alternate source is essentially zero, you know portion of your business and so that at least goes away as a source of gross margin pressure?

I don’t think we have predicted when that will happen, it’s a gradual process and we are moving towards it.

Any sense you could give us of what percentage of revenue it is now?

Now, we have never talked of that. But again look at the whole company up and look at what we are doing, there is a balancing act going on right now, and a balancing act is all these variables and we are working them with. We are working with our customers to get our margins up and to be paid what we were at, we are working with their manufacturers to improve productivity and to increase operating efficiency and so we are working internally also with that technology and our teammates to push more business through an existing channel without raising costs. So, the combination of activities going on that will result in the final result, which we think is very good.

Okay, thank you.

And your next question comes from the line of Terri Powers with Robert W. Baird. Please go ahead.

Good morning everybody, can you guys hear me?

Yeah.

Hi Terri

Sorry Larry, but I got to say congratulations to the Red Sox. Turning to asset management guys, first of all our great job continues to be strong. Had a question about a couple of the specific balance sheet account sum. Looking at inventory source group, 11% in the third quarter which is 60% faster than revenue growth, was that an anomaly or should we be anticipating stronger Q4 sales on even taking into the account that there is not going to be a one fewer selling day in that quarter?

A couple of things, this is Craig. One is we are installing actually an upgraded version of Manugistics, which is our forecasting system. So, we do have a little bit heavier inventory as we move our operating unit to that new version. Second thing is we are picking up and we are ramping up 3 or 4 new accounts that have just started coming on in the third and fourth quarter and it will probably be up and fully running sometime in the middle of next year. So, there is some new customers that we are ramping up. We have another customer this quarter coming up in the fourth quarter, we will be ramping up. So, it's a combination of a Manugistics upgrade and new business that we are bringing on.

Okay, great and sort of along that same line obviously payables also increased faster [would] sooner or later the inventory build. Again year-to-date cash flow is really strong would you expect that due to changes in the timing of balance sheet account movement that year-to-date cash flow could be actually less than that was generated in the first 9 months?

It's possible Terri. Accounts payable, as you know, fluctuate from quarter-to-quarter from month-to-month with our business you can see that the accounts payable year-to-date has grown a little bit more than the inventory. So, that’s an indication of potential timing impact and we will have fluctuations just inside the quarter. So, we haven't forecasted what the total year cash flow will be but those are certainly factors.

Fair enough. Going back to obviously you guys mentioned that you won 4 competitive win during the quarter have you actually lost any competitive bids recently and if so why?

There is a lot of silence. I don’t know why the silence is. I don't know if any of that we have lost

I don’t know of any that we have lost. The four that we picked up also Terri, really actually over a period of a year, so it's not all in the quarter. Two of them are ramping up now and a third will ramp up this quarter. So, but I will say there you know, we are every day working on demonstrating our value to our customers and working on margins. So, to-date I cannot on top of my head think of any, but at normal course of slow business, you know, you pick them up and you lose them. So, we have been fortunate this year, HPG is still ramping up to some degree too although it's over a year old. We are seeing some better penetration in those customers too but those are existing customers now.

Excellent. Just a couple of more questions. Related to the HLS business, can you disclose how much you paid for that acquisition?

It's -- It’s a small acquisition

Okay and may be number of people if you can't do that, number of employees?

I think it's -- I think there are about 15 very qualified people.

Professional.

Professional, all people from the consulting business, many of them having hospital backgrounds, materials management backgrounds and again we are just thrilled to have them on board.

Their business is not only on the West Coast either, I mean they have their business all across the country and are pretty strong on the East Coast as a matter of fact as well. So they have you know, they -- its going to be a nice bid for us.

Excellent, I appreciate the color added there and then finally last question, this might be a bit of a stretch but just wanted to ask it anyway do you see a possibility that the flu vaccine shortage in the U.S. this year, could that possibly drive increase hospitalizations or is that too far of a stretch?

I hope not, because the health of America is more important than our top buy-ins by all means. The fact is that it probably will to some small extent. I don't know how much and I hope it's not material at all. But we know even when we have a real active flu season and we didn't have one- last year, the year before, we really had a -- I think I have that right, then we could see some activity. The hospital as were full and there was more activity and whether it was related to the flu or just, you know, common cold, you know older people, pneumonia and so forth I don’t' know but I hope not but there is a chance that it will.

Thanks very much for your insights guys.

Thank you.

And your next question comes from the line of Larry Marsh with Lehman Brothers. Go ahead please.

Just a follow-up. Craig, you went through some of the score card information I just want to make sure, I got it -- got it right. Let's see you said 103 through outsourcing.

That’s a little misleading Larry, that’s just the -- we have been tracking the consulting engagements since we started OMSolutions.

Right.

The new ones that we got this year are 36 new projects and we got 12 -- we received 12 new projects in the third quarter.

Okay.

Consulting engagements.

Okay, I remember in the first quarter you said 58 consulting engagements, 25 outsourcing, in the second quarter you said you were the same number. So how do we then think of what that same number is with the third quarter?

Well in the third quarter the 58 was the total from carry over. So, the third you would add to 36 and within the 36 there is 12 new ones for a total of 103.

Okay. So again you go from 58 to a 103.

My math is much better than that, Larry. These are numbers they gave me. So --

Okay.

I will tell that what we will do is Mark’s got a pretty good chunk of time next week on the agenda.

Right.

So everybody that's in here [inaudible].

I think, but my hunch is that you are having the both the consulting engagements and outsourcing accounts together to get that 108 maybe. So, may be we will find out the details from him next week as to how that’s broken down.

We will get you the exact number next time.

And then just --

But when we get it you, we will get it you by everybody else. So what we might end up doing is having a more correct and accurate number at the Investor Day.

Okay.

So that’s our way and you know, that is next week.

Next week?

We will send the tickets back.

But I think the bottom line is that we are in the right [inaudible]. We need to make sure the right numbers are.

We have seen improvement in 3 of the 4 categories and in the outsourcing category we are actually seeing now additional projects being awarded to us in the outsourcing project that we have. So, we are actually making progress in all four, but we will get everybody the exact after account on Thursday of next week.

Okay, and then right. Do you have any sense of how many consulting engagements HLS will be bringing to this from a comparison stand-point?

Well, we can't really comment on that but they've been a very active group, as Gil said all over the country, not it's just the West Coast. So, for a small group they do pretty well.

So, you would be -- would you anticipate disclosing that information when you give us the score card update with the fourth quarter.

Yes, correct.

Right. Okay.

They will be accounted in the book [inaudible]

Okay, and then let's see the 5nQ acquisition, which is really a inventory technology business in their base in Michigan is there, then let's see how would you define that acquisition to be going and is that hard -- does that spearhead one of your other regions, you know, in the consulting business.

Well, if you look at the clinical inventory management that’s really QSight. So, we did get 7 new accounts in the third quarter. So, we are up to 26, so we've had actually really good progress on that. Now, that’s going to be available for HLS to sell an WISDOM2. So, those are some new tools in their bag and they will be able to go out with their existing and new customers to sell, but overall I think and this is off the top of head. I believe we started the year with 4 SIM program. So, we have added 19 over the last two quarters where we have made some very good progress on that.

Okay.

Actually you know, this is a nice tool from the standpoint it's going to take us from the cath lab into the operating room in to other departments and so we are actually seeing additional licenses and expansion on that. Once we get in the hospital we start out in the cath lab, but we start to move into other departments also. So, that’s really I have been very pleased. We have all been very pleased with their progress.

Okay and then finally, I know that as you mentioned, you have been vocal in your opposition to the secondary gray market situations from the manufacturers, have you guys taken a statement around some of the issues associated with GPO market relative to some of the manufacturer tie ends and if so how do you think that would impact your business if at all.

Very, very little we can comment on that Larry, that's I guess, is part of the investigations going on. I don’t know exactly what they are investigating. I mean, it’s a big investigation.

Right.

So it would be better for us not to comment.

Okay.

But you know, I mean, I have been you know, this personally. That secondary market it goes back when we were in wholesale drug business, it's just a rotten market. [inaudible] and I -- we have done what we had to do and it is really is anxious to get out of that as anybody else and where we [end up] we were in the wholesale drug business.

Okay. And just have you been contacted or interviewed as part of the GPO investigation process I know you wouldn't be you know as an individual company, but just try to give us information about various practices or is it something you can't comment about?

Grace, what do you want to say about that.

Larry, this is Grace Den Hartog.

Yeah.

We have received a document and we have been in direct contact with the Department of Justice Counsel, we are target of the investigation and we are cooperating with the Justice Department to provide them the document that they need.

Okay. So, they have told you are not a target of any sort of investigation.

They have.

Okay. Very good thanks.

Thanks Larry.

Thank you Larry.

And our next question comes from the line of David Bouveau, Paradigm Capital Management. Your question please.

I just wondered if you can give us some sense of the trends that you are seeing with the hospital end markets in their business?

David, I have a report here I guess is SNG Marketing Group projection of surgical procedures, I show that in August of ‘03 and surgical procedures, inpatient and outpatients is pretty good barometer what's going on in hospitals. August of '03, there was no change, there was no growth in inpatient and outpatient surgeries and August of '04, we have shown a 2.5% improvement in inpatient and outpatient surgeries, which is pretty good indicator. The average has been running between obviously zero and 2.5, but in the 1%-1.5% range. So if its up 2.5%, that’s pretty good indicator of the business that hospitals are doing is increasing. We know that their beds are full and we know that they are doing a lot of -- they have a lot of activity in the emergency rooms and so forth. But looks like surgery is which is I think the [bell weather] of what hospital all about is improving. So that’s a good sign.

Does it matter to us if its inpatient or outpatient?

Not really, that line is blurred over the years. There is some, some inpatient, some outpatient surgeries because of the equipment costs, the endoscopic procedures cost a lot more because of the -- because of the instruments there they are using. So it is not as much of a difference as it used to be. But inpatient is up and outpatient is up also.

So shouldn’t hospitals be more profitable? And where is the pricing pressure coming from if they are doing better financially?

No, they are subsidizing a lot of care through the ER and their reimbursement schedules especially for the pharmaceutical -- some of the new pharmaceutical products, that’s what I hear the most has cost them a lot of money and I think they are you know, they are struggling with some of the things that they don’t have a whole lot of control of.

There are other hospitals, if you will, and operates very effectively. And you know, the standard has always been there is about a third there, making money a third there breaking even and there are third that are not and Medicaid expense have hit them pretty hard also. So, that’s not to say that there are hospitals and fortunately [inaudible] that are doing well but they continue to focus on operating margin and operating margin improvement.

And when you look at our customer base does it breakout the way you just said it one-third are doing well, one-third are -- is our mix break-out that way or is it?

Yeah, we really look at the credit side, I mean Dick Bozard and his team in the field has done a great job and we really look at the financial strength of an organization to do business with them. So, I don’t think we never actually categorized in the three categories but you know I think those are hospital industry averages. So, I would think that they will be fairly applicable to us but we watch credit worthiness fairly closely and that’s why our DSO is so strong and that, they were fairly careful managing our assets and managing credit worthiness.

Okay, great thank you.

I think we'll probably wrap it up. If there is one more question we will take it.

There are no further questions sir. Do you have any closing remarks?

Okay, just one more remainder, don't forget Investor Day next week. The Thursday the 28th, sign-up and [inaudible]. Thank you very much.

Ladies and gentlemen this concludes today's presentation you may now disconnect your lines and have a great day.