Tenet Healthcare Corp (THC) 2008 Q2 法說會逐字稿

Good morning and welcome to Tenet Healthcare's conference call for second-quarter ended June 30, 2008. This call is being recorded by Tenet and will be available on replay. A set of slides has been posted to the Tenet web site to which management will refer during this call. Tenet's management will be making forward-looking statements on this call. These statements are based on management's current expectations and are subject to risks and uncertainties that may cause those forward-looking statements to be materially incorrect. Management cautions you not to rely on and makes no promises to update any of the forward-looking statements. Management will be referring to certain financial measures including adjusted EBITDA, which are not calculated in accordance with generally accepted accounting principles or GAAP. Management recommends that you focus on the GAAP numbers as the best indicator of financial performance. During the question and answer portion of this call, callers are requested to limit themselves to one question and one follow-up question.

At this time, I will turn the call over to Trevor Fetter, President and CEO. Mr. Fetter, please proceed.

Thank you, operator and good morning. I would like to begin by referring back to two points that I made at our investor day in early June. First, it appears that we passed an inflection point nine to 12 months ago and steadily now improving our performance. And second, our results for the quarter continue to demonstrate that our growth strategies and improvement initiatives are working and driving improving results.

I am very pleased with our same hospital admissions growth. In addition to extending our steadily improving trend over the last 12 months, this is the best result we have generated in more than four years and includes solid growth in both surgeries and paying admissions. These results included some noise in the statistics, as we once again actively managed our portfolio. As you know, results for continuing operations reflect not only our ongoing core hospitals but also two hospitals that we lease from a Real Estate Investment Trust and that we recently announced we will cease to operate when the leases expire.

I am going to give you some statistics for same hospital continuing operations that exclude those two hospitals so you can get a better idea of the performance of our ongoing core business. Going forward, we will refer to these as the core same hospitals. Those sets of statistics are laid out on Slide 4 on the presentation we posted to www.tenethealth.com this morning. Core same hospital admissions increased by 2.2%. Paying admissions also increased by 2.2%. Outpatient visits were basically flat in the quarter, marking an end to the declines that we have had for the last 18 quarters and extending the improving trend that we began showing eight quarters ago. But more importantly, paying outpatient visits were actually up by 0.6% due to a decline in the number of charity and uninsured outpatient visits.

We are gaining success from our medical eligibility program and qualifying more patients for Medicaid and other government programs. This success is coming from a new tool that is being utilized by our patient advocates to assist in the screening process. We have also placed more patient advocates in our emergency rooms. commercial managed care admissions were down by 1.7%, although negative, this is a far better number than what we reported in the first quarter. Beneath the surface, however, our success in building our commercial business is even stronger. That is because within our eight primary targeted growth initiative service lines, commercial managed care admissions were up 1.9%. The primary reason for the sizable difference between overall commercial admissions and commercial admissions in the targeted service lines is that more than 90% of the decline in commercial volumes can explain -- can be explained by a drop in obstetrics services. As we have explained on these calls and investor days for the past two years, the targeted growth initiative primarily targets OB for deemphasis. As I mentioned at the outset, our strategies are working and this is one example.

Turning to pricing from all payers, we have obtained good increases in the quarter; however, the pricing increases slowed relative to the very strong pace that we reported in the first quarter. While for competitive reasons, we no longer disclose commercial pricing alone, the overall pricing statistic masks the strengths that we are continuing to achieve with commercial payers. There are two main reasons. First, the industry tradition of using the term pricing synonymously for net revenue for adjusted admissions allows changes in patient mix to obscure true pricing changes. And second, we achieved relatively higher volume growth in lower priced markets like Florida. As we knew that this patient and geographic mix shift was likely, we said on our first-quarter call that the very strong pricing growth we reported in the first quarter will probably moderate. Having said all that, our commercial pricing growth was actually greater in Q2 than in Q1.

Our performance on cost was also solid with only a 3.2% increase in same hospital controllable operating costs for adjusted patient day. This increase even included a significant jump in supply cost, in part because the results of a strong 2.3% growth that we experienced in surgeries. I should add that the increase in surgeries is even higher at 3.0%, when we use the core same hospitals statistics. We believe that the growth in surgery represents additional evidence of our success in implementing the targeted growth Initiative. Biggs Porter will take you through the outlook regarding our strong first half performance and the financial implications of divesting certain hospitals and other assets. While the individual impact of each of these actions is relatively small, this is a good opportunity for us to walk you through the details so you can refine your models as you see fit.

Since we last discussed our 2008 and 2009 outlook with you, we have taken the following actions: First, we announced or completed the divestitures of five hospitals in California. This includes the planned divestiture of USC, as well as four other hospitals, two of which have leases that will not expire until early next year. Although we hate to part with USC, we believe the transaction will be attractive from a financial point of view. The other hospitals, in the aggregate, were unlikely to ever to free cash flow and faced economic difficulty in complying with the state's seismic regulations. Second, more than four years after we announced our intention to divest them, we completed the sale of [Encino] in June and will close on the sale of [Tarzana] later this month, removing a significant drag on free cash flow. Third, we have entered into a deal to monetize our investments in Broadlane with the cash expected to be received in the third quarter, and finally, we continued to move forward on the sale of 31 medical office buildings.

In the aggregate and in conjunction with other actions that are part of our overall balance sheet initiatives, we expect to raise cash in the range of $750 million to $950 million of which $650 million to $850 million should fall into this year. As we receive the cash, we will deploy it in the most efficient way, but at present in terms of modeling the impact, you should assume that we will use most of the cash to retire debt. As investors often focus on EBITDA, don't forget that the positive impact of these transactions on shareholder value will be driven below the EBITDA line. In the debt retirement example, this becomes very clear. So in our example, while these transactions may reduce EBITDA on a full run rate basis of $50 million, their disposition will have a net positive impact on 2009 pretax income and free cash flow of up to $30 million, after reflecting an assumed $80 million pretax savings in net interest expense and depreciation. The transactions also eliminate $50 million of one-time seismic costs and end roughly $40 million of annual negative cash flow from [Encino-Tarzana].

There are a couple of things that are important to remember. One, this doesn't happen all at once. USC, for example, have already been moved to discontinued operations, which is reduces our EBITDA from continuing operations immediately, but the cash proceeds will not be received until later in the year. Of course, we are still retaining the operating profits and cash flows of the hospital until it is sold, but those results now show up in discontinued operations. Second, it may turn out that we do not use all of the proceeds to retire debt. We remain very focused on growing our operations and should an opportunity present itself offering a superior means of deploying the cash, we will seek the highest risk-adjusted returns for our capital.

Again, Biggs will have more to say about our outlook, but at a very high level I am pleased that we can substantively confirm our existing range for adjusted EBITDA for 2008, adjusting it only for the USC divestiture and and its prior anticipated contribution of $25 million to adjusted EBITDA. I am even more pleased that we can maintain our $1 billion objective for adjusted EBITDA in 2009 and the related objective of approximately break-even free cash flow despite these divestitures and the monetization of the assets mentioned above. Bottom line is that we expect these series of transactions to unlock incremental value for our shareholders. We are strengthening net income and free cash flow and taking some risks off the table.

Finally, I would like to preempt a question we hear repeatedly, namely, are we seeing any impact from the general economic slowdown on our operations. Although you might expect a weak economy to adversely impact elective procedures, we have been unable to identify any adverse impact to date. Of course the health related economy is still strong according to the Bureau of Labor Statistics of July 10th, employment in the health care sector has increased by 350,000 jobs in the last 12 months and was only one of two sectors, along with mining, that showed positive employment growth in June. Our local markets are also doing better than the economy as a whole. The three-month change, net change in unemployment in markets that represent nearly 80% of our hospitals remains better than the national average. This is based on May 2008 data which is the most current available. The weak economy might also be expected to manifest itself in increased uninsured and charity volumes and bad debt levels. Most components of these metrics grew in the second quarter, the increase was fairly consistent with our recent trends and no cause for alarm. And finally, the credit worthiness of our overall patient population has remained stable as has the rate of employment of our uninsured patients.

And with that, let me turn it over to Steve Newman to offer his thoughts on the quarter. Steve?

Thank you, Trevor, and good morning, everyone. As Trevor said in his introduction, we are very excited about the mounting body of evidence that our strategies and initiatives are working and can be expected to drive continuing improvements in our operating results. You can see this in total admissions growth, the specific volume growth in our targeted service lines, and the significant net expansion of our active medical staff. Over the next few minutes, I will explore each of these topics, and I think you will see what I mean.

While you already know that core same hospital admissions were up by 2.2% for the quarter, you will be interested to know that with the exception of our southern states region, every other region was up by 2.5% or greater. Furthermore, Florida's turnaround is actually accelerating with admissions growth reaching 3% for the quarter. I couldn't be happier with the turnaround than the trajectory of our volume growth in Florida. The Philadelphia market also generated strong growth with admissions increasing 5%. We expect this dramatic admission growth in Philadelphia to be somewhat muted in the third quarter and beyond, because of enhancements we have made in the use of interqual screening of patients presenting to our Philadelphia hospitals. This rigorous preadmission review results in a significant number of patients being assigned observation status rather than inpatient status. I will also point out that neither Florida nor Philadelphia offers a large commercial managed care population in our primary service areas, volume growth in these markets doesn't contribute much to a rebound in aggregate commercial admissions for the Company. Nonetheless, Florida and Philadelphia growth is solidly profitable, and their growth will help to drive our profitability.

The 1.4% admissions decline in our Southern States Region was our one weak spot for the quarter and continued a softening trend we have seen for the last three quarters. These losses are concentrated in several of our hospitals that previously had been strong performers from a volume perspective. Increased competition from not-for-profit health systems and increased turnover in our A team leadership have contributed to this decline. We have recruited new leadership team members to several of these markets and are taking other actions to offset competition, including increased physician recruitment and focused capital investment. While the 1.7% decline in core same hospital aggregate admissions were a weaker result than we would like, the fact remains that growing evidence that our growth strategies are working.

Looking just at commercial admissions growth in the eight service lines which are the primary focus of TGI, these admissions and these lines grew by 1.9%. The delta between the growth rate of commercial managed care positions compared to the growth rate of the targeted service lines is 3.6%. As Trevor mentioned, this is compelling evidence of the ability of our TGI program to move the needle relative to this critical objective. Results like this don't happen by chance. We implemented many programs and initiatives that have contributed to this success. The acceleration of capital expenditures announced two years ago is now fully on stream, and our market leadership and quality metrics continues to distinguish the value proposition our hospitals offer physicians, patients and payers.

The final step in this process has been the successful execution of our Physician Relationship Program or PRP. We use PRP to deliver to physicians the message of the progress we have made in service, clinical quality, technology, and capital investment. We have made significant progress toward our ambitious goal of replicating our 2007 performance in the net expansion of our physician base. We added more than 1,000 physicians in 2007, and we are confident we can do so again in 2008. In the second quarter we made 3,836 visits to 2,109 physicians presently without staff privilege at our hospitals. This is the largest number of visits made to the largest number of unaffiliated positions since the inception of our program and the cornerstone of our redirection strategy which we continue to emphasize and expand.

These visits are really paying off. In the second quarter, we added a net of 354 new active staff physicians, including 119 physicians added to the medical staff of our new hospital in El Paso. Let me emphasize that this growth is net of attrition. To bring consistency to this analysis, I have provided these physician numbers for the 50 hospitals we will operate on a go-forward basis, specifically I have excluded USC and Norris, Garden Grove and San Dimas, as well as Irvine and Los Gatos. These new physicians are providing Tenet with a very solid flow of incremental inpatient and outpatient referrals and were critical in producing the outstanding positive admission growth numbers I shared with you a moment ago.

I know many of you would like the admissions data of these new physicians as a means of forecasting our future volumes. Let me assure you that we are tracking this metric closely. But we are not yet prepared to disclose the specific productivity of this cohort of new physicians. Before sharing the gross statistics from these new physicians, we would like to get a few more quarters of experience under our belts. This will allow the admissions data to stabilize and avoid the risk of providing misleading numbers.

Our marketing efforts are not limited to new physicians and the expansion of our medical staff, we also devote significant resources to a companion effort designed to maintain and strengthen relationships with our existing staff. To this end, in the second quarter, we made 14,657 visits to 7,642 different individual physicians with existing staff privileges at our hospital. This program identifies developing issues relative to the physician's practice experience in our facilities to address opportunities to improve satisfaction levels among our existing staff. While this program is long-term in nature, it also produces measurable direct and immediate benefits. In the second quarter, admissions to our hospital from these physicians increased 5% compared to the same group submissions in the second quarter of 2007.

Let's spend a few moments reviewing the results of our outpatient business focus. We continue to see improvements in the growth trend for outpatient volumes as the aggregate to the quarter has improved to unchanged compared to the second quarter of 2007. Our actions also drove an increase of 0.6% in paying outpatient visits for the quarter. Notably our free standing ambulatory surgery centers increased procedures 28%. This was driven by recent acquisitions, as well as organic growth in many of the free-standing centers. We are extending the lessons learned in our free-standing centers as best practices into the existing hospital and campus-based outpatient operations and expect to see an inflection point where our aggregated outpatient volumes turn positive in the near future.

Finally, I want to mention the exceptionally strong performance we saw in surgery. Our inpatient surgeries increased 1.4%, and outpatient surgeries increased 4.2% when compared to the same core hospital volumes in Q2 '07. Most notably, commercial general surgery increased 3.4% and commercial orthopedic surgery increased 5.3% compared to the second quarter of 2007. Through the activities of our performance, management and innovation group, we continue to focus on improving through put in our operating rooms as we strive to make them more efficient and inviting for our existing surgeons and as well as those we recently recruited or redirected.

In summary, the results of this quarter provide incremental evidence that we have passed the inflection point on so many metrics, most significantly inpatient volumes. We are meeting our objectives through innovative strategies including increasing focus on growing our medical staffs, refining and building our services consistent with our targeted growth initiatives, expanding and organically growing our outpatient business while simultaneously maintaining our disciplined approaches to managed care contracting and cost management.

With that, I will turn it over to Biggs Porter, our Chief Financial Officer. Biggs?

Thank you, Steve. And good morning, everyone. I have two primary objectives this morning. First to walk you through the numbers for the quarter and offer some insights into the relationships between volume, price, cost and earnings, and second, to explain the refinements to our outlook for the balance of 2008 into 2009.

I will start with a review of the quarter. As already mentioned, the quarter experienced the best volume growth in years including growth in TGI admissions, our most important growth area of profitability. Better pricing growth better than the outlook, but lower than the first quarter as expected. Cost control was good at the FTE per adjusted patient day level and we saw reductions in malpractice expense. Although we posted improved results for the quarter, the magnitude of the improvement was obscured somewhat by two nonperformance-related items, the reclassification of USC and two sold hospitals to discontinued operations and the charge we took for the dispute with the government over GME reimbursement at [Modesto]. If you normalize for these, our adjusted EBITDA for the quarter would have been $191 million.

We also had what seems to be an anomalous shift in patient mix and stop loss payments that would have further improved our results had we had what we believe would have been a more normal quarter. I will talk about this more in a moment. The decision to place USC into discontinued operations is driven by the accounting rules which require you to place a business into Disc. Ops. when its disposition becomes probable. This is a fairly high bar, but based on the current status, we believe we crossed over that point in the quarter.

As you may recall, leased facilities will stay in our reported results until the leases terminate. In order to facilitate an understanding of how our outlook is or not affected by the limitation of Los Gatos or Irvine from our core same hospital results, we have presented our outlook for 2008 both on a basis that includes and excludes those two REIT hospitals as leases will not be renewed as part of our settlement with HCPI. I encourage you to devote some time to examining all the slides we posted to our web site this morning. The financial history depicted on these slides provide restated financials after removing Garden Grove, San Dimas, Irvine, Los Gatos and most importantly USC from core same hospital results. As you look at all the slides now shown on a core same hospital basis, you will observe that broader trends of the recovery are still readily apparent, if not improved.

Before I leave the subject of dispositions, as Trevor noted, although we will lose some amount of hospital EBITDA in 2008 from USC, San Dimas, Garden Grove, the MOBs and Broadlane, there is greater value generated in terms of our ability to reduce net debt and generate a positive effect on cash going forward. While there is an immediate reduction in adjusted EBITDA from continuing operations this quarter, the benefits from the improved balance sheet will not be fully realized until all the sales are complete.

With respect to volumes, both Trevor and Steve has commented on the important resurgence in volumes in the second quarter so I won't spend a lot of time on volume; however, I will reiterate that our performance demonstrates a powerful and compelling trend for total admissions and emerging stability in our outpatient business and an improving trend in TGI commercial admissions. With respect to revenues and pricing, our second-quarter volumes were converted to strong same-hospital revenue growth of 5.9%. This growth would have been even stronger had this not been for an unfavorable swing of $22 million in prior year cost reported adjustments. Without this swing, same hospital revenues would have grown by 7%. Commercial managed care revenues in the quarter were up 7.5% or 8.1% on a core basis. Despite the 1.7% decline in core same hospital commercial admissions and the 1.8% decline in commercial outpatient visits. This clearly demonstrates that we are achieving substantial benefit from our managed care negotiations.

This increase of managed care revenue is net of payer shift in the commercial sector toward National plans which we calculate results in the reduction of revenues of approximately $6 million in the quarter. This increase of managed care revenues would have been even greater had it not been for the anomalous shift in patient mix and stop loss payments I referred to earlier. The stop loss variance to expectation was approximately 7 million. The patient mix element is difficult to estimate. But what we saw was the pricing growth in the quarter skewed slightly toward the commercial product lines where we had volume declines. This was not the case in the first quarter, and we expect it to normalize again going forward giving us even greater pricing benefit for the remainder of the year.

In general, in addition to our Q2 2008 commercial pricing trends, we have several positive impacts projected for the second half of 2008 and into 2009. The significant majority of these positive impacts are in our control since they are associated with agreements that have already been executed. With recently signed contracts in Florida, we now have signed contracts covering 91% of our commercial rates for 2008 and 74% for 2009. Our strategy of achieving commercial rate parity in all of our markets also continues to achieve its objectives and we can confirm that we are still on path to capture the $81 million we included in the EBITDA walk forward we discussed at Investor Day. We also still have some remaining opportunity on the rate parity front and will be looking to capture it in our remaining negotiations.

We are also making progress on a pay for performance front. You recall we discussed a range of $35 million to $40 million as an opportunity to receive incremental quality payments in aggregate, over the three-year 2009 to 2011 time period. For purposes of our walk forward, which I will discuss later, we have included the mid-range of $5 million in our 2009 estimate.

Turning to trends and same hospital controllable operating expenses, these were on a favorable trend rising just 3.2% in the quarter on a per adjusted patient day basis. The only cost item up significantly in the quarter was supply cost that increased by 6.5%. There are a couple of factors which need to be taken into consideration when assessing the meaning of this growth. First, we saw 2.3% same hospital growth in total surgeries or 3% in our core hospitals. This is a good business, but growth in surgeries clearly drives up our supplies cost. Secondly, our supply cost in the quarter were substantially offset by added revenues, including from pass-through provisions in many of our contracts with payers. For the remainder of the year we expect supply costs higher than the prior year, but in walk forward of 2008 and 2009 we assume this to be offset by higher revenue.

On bad debt, there are numerous drivers of the numbers for the quarter. We experienced $11 million increase in bad debt expense on the quarter due to increase in uninsured volumes but more significantly the effect of higher prices and although a more complicated matter to explain, lower reclassifications to contractual allowances also negatively affected bad debt on a sequential and year-over-year basis. The effect is on bad debt from higher pricing and contractual allowance reclassifications have no net impact on EBITDA because the effects are offset at the revenue line. Also, our collection rates and bad debt reserving levels are improving; however, movement between aging categories in the quarter offset the benefit of improved collection rates. So to summarize, although slightly off set by differing elements of mix or shift, our earnings benefited from gains in volumes, pricing and continued cost control, clearly demonstrating that our strategies are working.

Now turning to cash. As stated in the release, we had positive adjusted free cash flow in the quarter and improvement in cash provided by operations relative to last year. Our cash balance also increased from the second quarter to $352 million, due in part to our receipt of $41 million of proceeds from the sale of San Dimas and Garden Grove. Also including what we would have already collected, we continue to expect to generate between $750 million and $950 million in incremental cash from our initiatives to improve the efficiency of our balance sheet and sale of USC, with $650 million to $850 million of that expected this year. On working capital, we maintained the benefit of accounts payable and cash management discipline in the second quarter. We have not yet made progress on reducing the accounts receivable, days but we are holding steady and have initiatives in place to achieve reduction in this metric by year end. This represents one of the primary areas of subjective estimation relative to our full-year projection of adjusted cash flow from continuing operations. Having said that, adjusted cash flow for continuing operations improved by $13 million in the quarter and $87 million year to date compared to last year. As you may recall, our normal trend on cash is to have a negative cash flow in the first quarter resulting from the pay down of year-end payables and the annual payment of 401(k) match and incentive compensation. We then stabilize in the second and third quarter but the most significant cash generation from operations occurring in the fourth quarter due to the year-end build-up of accounts payable. We expect that general trend to continue this year.

Let me now turn to our outlook refinements. From a substantive standpoint, we are confirming our outlook for 2008 as we provided it on our first quarter earning conference call on May 6th and updated at our investor day in June. At those points in time I spoke of the details of value drivers and risks and opportunities, so I will not reiterate all that here but instead focus on what has changed. While we have updated our 2008 adjusted EBITDA outlook from a range of $775 million to $850 million to $750 million to $825 million, this basically only reflects the pending sale of USC which was expected to contribute approximately $25 million to EBITDA in 2008. The expected full year EBITDA on the other hospitals we disposed of in 2008 was not enough to require adjustment to the range. I might also note that we are absorbing the $16 of million charge of the [Modesto-GME] dispute without lowering our range.

We have made a parallel reduction in 2008 cash from operations to reflect the USC move to Disc. Ops. lowering it by $25 million to a range of $375 million to $475 million. We have put slides with updated cash forwards on the web. In terms of line items drivers of EBITDA based on first-half performance, we have we raised our out look for outpatient visits to be a growth of a negative 0.5% to positive 0.5%, from the previous 1% to 2%. This is offset by expected higher pricing on outpatient visits that we have raised from a range of 4.5% to 5.25% to a range of 7% to 8%. The reduction in the outlook for outpatient visits in no way undermines our belief that there is real progress being made here or a belief we will have a positive trend going forward, but rather just reflects the averaging effect of the first half results. You will note in the slides we have reduced our estimate of cost growth to per patient to 1.5% to 2.5% compared to 2007. Although we continue to drive on costs, this reduction of cost growth for APD is not due to new cost initiatives but forecasted increases in adjusted patient days for the year.

We previously discussed the full economics of the USC transaction, which includes a cash payment reflecting book value of USC which was $311 million at March 31, 2008. We continue to believe this transaction is accretive but in addition to the increasing cash and reduction in net debt, the positive financial P&L impact moves down the income statement to below the EBITDA line beginning next year. This is also true of the other dispositions including Broadlane and the MOB sales. However, even though these asset sells taken alone have a negative effect on EBITDA, at this time, we believe they can be offset at the EBITDA line 2009 primarily by improvements over the 2008 run rate resulting by slightly higher admission growth in 2009 at 2%. The maturing of Operations at Coastal Carolina and Sierra Providence East Medical Center , and from other non-acute activities. This is something that we will be able to validate as we complete our planning for next year.

You can see on slide 25 on the web we are using a lower starting point in 2008 and 2009 in our EBITDA walk forward to reflect the effect of the USC move to Disc. Ops. in 2008. However, just as I mentioned, we have offset that lower starting point in 2009 and are continuing to hold our $1 billion 2009 adjusted EBITDA objective.

To summarize one more time before we go to questions, we are making great strides in demonstrating the success of our strategies on inpatient admissions, the targeted elements of commercial admissions and in outpatient visits. We are achieving significant pricing and revenue improvements as a result of our managed care negotiations. We continue to control costs and hold bad debt expense at levels in the boundary of our outlook. We have improved cash flow year-over-year. We have -- we are substantively unchanged in our 2008 outlook, and we are holding our 2009 objective of $1 billion of adjusted EBITDA and approximately break even free cash flow.

With that, I will turn it over

Thank you. (OPERATOR INSTRUCTIONS) Our first question comes from Adam Feinstein from Lehman Brothers.

Okay, thank you. Good morning, everyone.

Good morning, Adam.

A few questions here. I guess on the mix. You know aloft focus on that here. It is helpful with all the details you guys give us. I guess as you think about that, a couple of questions. I guess I want to -- how are you thinking about the profitability of a true commercial managed care versus a Medicare emergencies patient these days. And second, you know, with respect to -- you highlighted that the TGI areas showed better growth. Just if you could talk about -- it is hard to give us specific numbers, but talk about the percentage of total volumes, revenues, profits that come from those targeted areas so we have a better sense of how significant those areas are. That will be very helpful.

Adam, there is Steve. Let me try to address that good but complicated set of questions. First of all, certainly the profitability of our managed care is significantly greater than the profitability of our Medicare managed care as that is pretty close to a DRG payment or slightly over a DRG payment in most parts of the country where we negotiate those contracts. Second, we will continue to focus on the growth of the targeted growth initiative eight service lines plus a couple of other service lines that we don't include in that eight, for example, spinal surgery where we have significant profitability and continue to work on the variable cost within those particular diagnosis. I didn't mention in my prepared remarks that in the category of open-heart surgery which is one of our targeted growth initiative areas, we had 7.2% increase in commercial admissions in that category for the quarter compared to Q2 of '07. We are focusing on each and every one of those lines, not only from a contracting point of view, but most importantly from a cost management point of view. Each and every day we have the opportunity to reduce our variable costs in the delivery of care either by length of stay initiatives, supply costs initiatives, standardization of implants in many of those surgical procedures like orthopedic surgery or some of the vascular surgery procedures and I think we can really continue to expand those margins both in Medicaid managed care, where we have that fixed patient, as well our managed care. That referable to your question?

Sure, definitely. One follow-up question, if I may here. Just -- I guess just -- one of the things I wanted to follow up on is just with the revenue per admit. You mentioned some comments regarding the stop loss payments there and the mixed shift having some impact, but wanted you to provide a little more detail -- I was under the impression that stop loss did not really provide much to your managed care revenues these days with all of the restructures and the contracts in recent years. So just wanted to just get some more clarity there. And then how do you think of normalized revenue perked a minute. I know you are not talking about -- about admin, not a personalized number but admin, how are you dealing with that?

In terms of the stop loss payment, yes it has reduced over the years certainly, and what we everywhere to in my comments with $7 million was the impact of a quarter relative to -- relative to this time last year and also the first quarter. Not a big move, not a heavy tendency, but the total stop loss for the quarter is about $70 million to $80 million. So just a slight variance in the quarter relative to that total but nonetheless a factor. As to -- I don't think I want to give a specific outlook on debt revenue per admit, I would -- for our outlook and guidance of the year for range of admissions and range of pricing and you can deduce from that where we might land on that metric but I am not sure I want to give a equipment.

Okay, great, thank you very much.

Thank you.

Thank you. Our next question is coming from Tom Gallucci with Merrill Lynch.

Thanks for the color. I guess I was curious about the volume trend and wanted to ask a couple of follow-ups. First, I think last quarter you cited there are three hospitals that are largely responsible for I think you said over half the decline in the nonTGI commercial admissions. So just curious how those three hospitals are performing. And can you give a number -- like how much was the OB actually down year-over-year. It would seem that is a pretty significant impact on the total. Curious of the magnitude there. And last one from a practical standpoint with the very stark contrast that you are showing between TGI growth and nonTGI growth, can you maybe just give us a little bit of color on the ground locally, how you are really driving one and not the other one when you are dealing with doctors and just local patients and with the managed care companies themselves.

Tom, it is Steve Newman. Let me try to respond to those points. First of all, if we look at our commercial managed care product line. In Obstetrics, we had a significant drop of the quarter of 7.8% compared to 2Q '07. That is about 581 admissions. As Trevor said in his comments, this is generally purposeful where we deemphasized Obstetrics. At the same time, we are looking at increasing the risk of the patients in Obstetrics. So focusing on high risk Obstetrics, as opposed to general Obstetrics and that drives our neonatology business of which we have significant margin.

With respect to what we are doing with the service lines at the ground level. To give you a little color on this, this is annually evaluated during the business planning process with each hospital, and once again, we have a customized list of targeted growth areas for each hospital. The areas we report as the eight key areas are the eight top areas as we look across the portfolio of 50 hospitals. But as we execute that annual business plan, we have discussions with the A Team leaders about the growth and deemphasis of certain services where they are going to put their capital resources, what they are going to do from a recruitment perspective to meet growing community need upon which the targeted growth priority is set. So we then on occasion have to help physicians relocate to other hospitals where we have multiple hospitals in a market. We tend to move them and rationalize the service. We have done that with Obstetrics in some areas, as well as some of our other more specialized services. So this is a process that we look at annually, and we work continually with our A teams to execute those particular changes at the local levels supporting them.

Okay. And just going back to what you said last quarter that there were three hospitals that were largely responsible for the decline in -- in the noncommercial -- in the -- in the commercial but nonTGI areas. Is there any update on those? And I think within TGI, you actually said also that cad EP was down 13%. Is there any update there?

Sure. With respect to cad EP ... The cad EP is still down in comparison to second-quarter '07 by about 8% or 162 procedures in the commercial managed care line. We are continuing to work with those three hospitals, as well as a couple of other hospitals in the southern states region that contributed the bulk of the decrease of commercial managed care, but one of those three hospitals that we mentioned last time has shown significant improvement. The other two are improving more slowly and we have added two more hospitals to that list as responsible for the bulk of the commercial managed care loss. Once again as I mentioned we have seen some volume erosion in our southern states region, and certainly that is an area that has a significant population of commercial managed care unlike a Philadelphia or our Florida hospital. So you will see a disproportionate loss in that region. So we are very focused through leadership changes, capital expenditures and other focus to redirect physician business to shore up commercial managed care and those very few hospitals where it's isolated.

Thank you. Our next question is coming from Sheryl Skolnick with CRT Capital Group.

Good morning and thank you for taking my question. I am going to ask this and I don't expect an answer but I would love one, when are you going to report a clean quarter so people aren't confused with what you report would be helpful. But having said that, if I heard you correctly just a couple of points to clean up and then a real question. Biggs, did I hear you say that setting aside the $16 million GME issue that is pending, you had $22 million of negative prior period adjustment in the quarter?

No that will include the $16 million.

So it would be $6 million additional negative in the quarter? Was that correct? 16 and 6 is 22?

No, it was -- there was $9 million I think -- and I may go the other way so $7 million net negative if you add everything together in the cost report category.

Okay, all right.

The 22 is the variance between this quarter and last year.

Okay.

So last year there were changes in the opposite direction.

I see. Okay. Thank you very much. Now I understand what that number is. And then the -- I guess where I am going with this is, you -- you have improved volumes. You -- so you have clearly done that. You have clearly demonstrated you can recruit physicians. You have clearly demonstrated that cash flow is not always negative and that occasionally it is positive, but I would like an explanation why the low level of Cap Ex this quarter. And you've clearly demonstrated that you can actually generate higher EBITDA from one quarter to the next. So I'm -- I guess I am concerned and confused by the stock price reaction to what clearly is the fourth quarter in a row of significant turn around. And maybe part of that is your net income guidance may be confusing people in addition to what your EBITDA number really was or really should be. I think your net EBITDA guidance may have gone down, but if you -- excuse me net income guidance, but if you can walk us through for 2008 where it was and what it is and what the difference is, that will be helpful. And if you can give us a sense for whether you can guide us for what the right EBITDA number should be on a run rate basis that we can focus on. It might be helpful.

Okay, in terms of the results for the quarter, I think -- the -- yeah, the unusual items which if you looked at it versus what the consensus was looking at which would include USC -- I already said would you add back I think, Modesto and USC and other hospitals which takes you up to that 191 level I had in my script.

Right.

I think stop loss certainly we would expect to also go to more normal level because if you look at relative to last quarter, last few quarters and going back to last year was lower than normal. So, add that $7 million back. So that would put you up --

198.

Closer to 198. $200 million level. On some of the mix issues I didn't quantify them but said there was anomalies in there. The reason I didn't quantify it because it is tougher to quantify and much more subjective by its nature and we would expect those to reverse themselves and improve going forward and have some lift from that. I don't have a number to tell you what to expect. As we look -- if you think of it in terms of where do we go from here for the remainder of the year, we would expect pricing to be 2% higher or up to 2% high other an weighted basis in the second half relative to the first half. We do expect -- back to Adams's question. We do expect continued improvement in pricing from the managed care negotiations that are out there -- we are pleased see the final inpatient rules and 5% estimate from CMS regarding large hospitals. There will be some possible reduction of that as a result of the specific -- the different markets, this is a positive solidification of where we expect to be from a Medicare standpoint.

So I think that directionally everything is positive. We expect the outpatient to continue to grow. We see the right trends coming out of the second quarter and expect it to grow going into the rest of the year, and continue into next year. We are on a good run rate on the admin side as well. So when you eliminate payer shift and the mix that I mentally haven't quantified, there is reason to expect that future results will improve. You had another question --

And so did the net income guidance change?

Net income -- I believe we reduced discontinued operation for the move from -- of USC to Disc. Ops. in an offsetting fashion from what we lowered the continuing Ops. Taxing I think actually improved, so -- taxes I think actually improved so as far as all the line items go, just a movement between the categories.

Okay.

The bottom line didn't change.

Okay. And then -- let me go back to the EBITDA. I need to just sort of drive this home a bit. If I look at my -- if I look at your prospects going forward, okay, and I just look at a run rate coming out of this quarter, given that the Company has an ongoing basis and has been argued both ways, on an ongoing basis prior period Medicare adjustments. Wouldn't it be fair to say you take the $163 million you reported and look at that number and say, okay, we have got to take that as the base because we have to exclude USC, and then you don't add back both USC and the $16 million, but at best you would add back the $16 million getting to $180 million of EBITDA and use that as your basis going forward.

I would add that back and also look at the stop loss and adding it back, but everybody has got to make their own judgments, but I think the stop loss is something that we see as an nominally in the quarter and I think, as I said, believe that there is -- the mix moved against us in the quarter and we should be able to restore that.

All right. The $102 million of adjusted Cap Ex, below trend?

We -- we are actually on -- you know, roughly on target with respect to how we plan to spend the money through the year. We are judicious, and we also try to maintain some flexibility. So that we will -- we will flex Cap Ex with our results if we need to, which means we are a little more back-end loaded in terms of how we -- how we planned it out.

Fair enough. A fabulous quarter with great fundamental trends. I appreciate all that hard work, thank you.

Thank you. Our next question is coming from Matthew Borsch of Goldman Sachs.

This is Shelley Gnall in for Matt this morning. Going back to the comment that Trevor made in his prepared comments. I think what we heard you are seeing no impact on volumes relating to the slowing economy. If I can maybe ask from a different angle. Are you seeing growth in uninsured admissions, variable by region, specifically I am wondering, in some of the regions with the highest unemployment or highest growth in unemployment markets such as Modesto, maybe Manteca, Philadelphia, you seeing any variable growth in uninsured admissions?

Not particularly. We looked -- as I mentioned -- I think the point I was trying to convey is we get asked this question all the time about, you know, are we seeing these -- any impacts from a slowing economy. People particularly the closer you get to Wall Street. People are exceedingly concerned about that, but as we examined what you would expect to see, we just don't -- we don't find it. And we looked hard. Those uninsured trends have been in evidence for a long time, and we do operate some hospitals in some of the areas, but, for example, Stockton is the foreclosure capital of the United States but Stockton is not the same thing as Modesto. And in California and Florida, we are actually seeing those trends down. I hope that I linked sufficiently the point that we also improved the effectiveness of our medical eligibility programs. So to the extent that there are people coming in that will qualify for government programs like Medicaid, we are being more effective in qualifying them and that is improving our experience in the uninsured area.

Just one additional point to follow up Trevor's comments and add some clarity about how this is really a micromarket-based issue. Our hospital in Manteca is in San Joaquin county next to Stanislaus county where Modesto is. That is a huge agriculture area and record almond crops, $2.5 billion crop for the year which is some 20% over any previous crop increasing the number of jobs in agriculture in San Joaquin county. National trends are one thing, but we are very sensitive to the local trends in the micro market.

Okay. I really appreciate the color, thank you.

Thank you. Our next question is coming from Darren Lehrich with Deutsche Bank.

Thanks, good morning, everyone. I do have a few questions here. The first relates to your comments about case mix. Can you actually give us the case mix index in the period and what it was last year just so we can put that in perspective?

Case mix -- I was careful not to call it case mix as opposed to calling it patient mix. Case mix is actually flat year-over-year at 1.29. The -- but when look at it by product line and where revenues land you end up looking a little different picture. Plus you got to remember over 55 hospitals, you can have one case mix going one way, but when you rate it by revenues get one answer and then you have on the flip side another hospital going another way. You can't correlate case mix with revenue and margin effect.

Okay. So patient mix then. If I can key into some of Steven's comments with regard to some of the shifting that you expect to see related to observation days, and I guess -- I want to ask the question in kind of two ways. First, do we see anything at all in your unit revenue trends in the current period from what we are hearing of with the shift of cardiac cast moving more to outpatient and some of the observation day trends perhaps having any kind of impact there. And going forward, what you had to say about Philadelphia how would you quantify in terms of over all admissions and some your pricing statistics in -- in the back half?

Darren, the issue with observation status is one that we have been looking at closely for a number of years. As you know, we were industry leader in the implementation of InterQual criteria so we have been very proactive in screening patients presenting to our emergency room with respect to intensity of service or severity of illness, and we have a significant number of patients going to observation status. To give you some statistics, about about 19% of patients who present to our emergency room end up being admitted to inpatient status in our hospitals. About 3.8% of patients that present to our ERs end up going into observation status. In aggregate across the country, that's not changed much from quarter to quarter, and year to year.

The issue that I mentioned with respect to Philadelphia has to do with the fact that it is an academic Medical Center and we are always working to have our residents involved in the process of screening patients and admissions and determining the status of those particular patients. Recently we made some enhancements in Philadelphia that will increase the number of patients there that present to the ER going into observation status rather than in-patient status. So you should see that decrease the aggregate Philadelphia admissions quarter over quarter as we go forward.

With respect to issues like cardiac cath, there is a third status that we don't talk about much. You mentioned observation status, inpatient status, and the other is outpatient in a bed. So that if you have a cardiac cath, standard procedure, that doesn't mean intensity of service for admission to the inpatient or doesn't meet criteria with a complication for observation status. It -- the patient simply waits in a bed until they recover from sedation or anesthesia, and, therefore, that is an outpatient in a bed. So these are all regulations, and procedures that we have in place for many, many years. And just mentioned it with respect to Philadelphia, because I think that could have some meaningful effect in the short run on the total number of admissions to inpatient compared to same quarter prior year. Is that helpful?

Yeah, that's helpful, I guess, but none of those -- none of that had any impact in your view on unit revenue this quarter. It was really the patient mix that Biggs' referenced.

That's right. I don't think it really affected unit revenue.

Okay. I do have a question as it relates to your cash initiatives and we can see that your outlook for success there is still intact, but maybe if you could help us in just thinking about the timing of some of these sales, perhaps update us on -- on your medical office building process where you are with that relative to timing. And also update us on the insurance settlement proceeds that I think we are still in discussion or negotiation from the Reding situation, and, Biggs, anything other things like land sales or anything else we might see hit this year?

Okay. Well, let me try and hit those questions as best I can here.

I will repeat them if -- yeah, go ahead.

The -- what we estimated, $750 million to $950 million of cash initiatives what we said this year in the range of $650 to $850. We haven't ever really given a specific breakdown of what's -- what's in there from a dollar standpoint because obviously it has been subject to negotiation or sales process, and we didn't want to disturb that. But what we have announced is $50 million in San Dimas, Garden Grove and some other proceeds. And I'll use round numbers here, USC in the $300 million range and Broadlane in the $150 million range. If you add that up that is $500 million from announced but not all closed transactions. And then the MOB sales which is a large one, which we have received initial offers on and will be moving toward a best and final process here over the next few weeks, but would not expect that to close probably until the fourth quarter. The -- if -- if everything closed this year and it was all cash and cash at closing, then you would get past the $650 million level. Staying at $650 million basically allows for some variation in timing or some possible change in structure on any of the transactions should they occur, although that is not anticipated. So --

In your --

Go ahead.

In your initial offers received for the medical office buildings, is that consistent with what you originally thought and maybe just comment there on, you know, whether the commercial real estate market has had any negative effect on -- on that process in your view.

Yes, the offers are within the range. I don't want to say where in the range, because obviously we are still going through a process. The -- as to -- as the commercial market had an effect. We don't think it has had an effect. Obviously we continue to watch it, as evidenced by the trading in the market of health-care related bonds, healthcare is still seen as a relative Safe Harbor compared to the rest of industry. So that does carry over still to the MOB market as being a relatively Safe Harbor within the real estate area but once again we have to get to the point of closure, so we have more work to do.

Okay. Well, we are just trying to, you know, figure how certain -- you know your year-end net debt balance is going to be, and it looks like it is more like $3.6 billion versus where we are today at $4.4 billion. And it sounds like you are certainly on track for that given what you just said. So thanks very much.

We still feel very good about operating in the range that we put out there at Investor Day and certainly believe all these transactions will close and close at a basis that is consistent with that estimate.

Great, thank you.

Thank you. As a reminder, during the question and answer portion of the call, callers are requested to limit themselves to one question and one follow-up question. Our next question is coming from Ralph Giacobbe with Credit Suisse.

Good morning, thank you. First question real quick. When do we anniversary the sort of managed care managed care.

Can you --

When do we essential anniversary the OB pressure that is stemming from -- you know the weak managed care?

Oh, probably not for a while. That is something that is an element of the target growth initiative. We have been rolling it out for several years. You missed the first part of the movie in which we started this targeted growth initiative probably three years ago, and rolled it across the country, and each hospital emphasized or deemphasized different service lines according to an unique plan. Some hospitals would have anniversaried an impact on OB already. Others will not do it for another year or more.

Okay. Fair enough. And in the past, staying on managed care admissions, you talked about splitter physicians. I guess sort of coming back to that. Is that an issue anymore? We are not really talking about it anymore. Is there some other dynamic at play?

Well I think the fact that we visited over 6,000 physicians with existing staff privilege of which 75 of them have privileges that other hospitals show we have an emphasis on redirecting a larger segment of those physicians that have privileges at other hospitals to our hospital. And the fact that that group increased their referrals to our hospitals 5% in the second quarter of '08 compared to the second quarter of '07 shows we haven't lost focus at all on that group, both the loyalists and those with privilege at other hospitals and our hospitals. But what we have added to it is the focus on physicians that don't have privilege at our hospitals. And that is going to provide great flow of work to our facilities over the coming quarters.

Okay. Just my last question on the Medicaid front, pressures you are seeing there and I guess just kind of what pricing expectation do you have for that book of business.

Well, on Medicaid, the -- the two pressure points right now in California, the reductions they made to Medical had a few minor impacts, a few million dollars we talked about previously. In Florida the budgetary reductions are there and probably have something in the range of $10 million impact on us on an annual -- or annualized basis, not -- not fully this year, but next year that kind of a range. We also -- you know see from time to time other various funding appear from the states, which offsets that, so it's -- it's largely within estimating tolerance if you look out in the future. But generally speaking, as we forecast year to year, we forecast Medicaid at no growth to flat.

All right, okay. Great, thank you.

Thank you. Our next question is coming from Justin Lake of UBS.

Thanks. Good morning.

Good morning, Justin.

Just a couple of questions as I look at the '09 guidance roll forward and really just try to think about, you know, the -- some of the key aspects there. Really around, you know, volumes specifically. It looks like you have taken up your assumptions on admissions growth not dramatically but up to 2% from 1.5%. I am just curious -- and one of the things I get concerned about for the industry is just the comps get much more difficult in '09 than they were in '09 because of the flu and some of the things that have improved volumes. What -- what is giving you the confidence to look out to '08 -- '09 versus '08 given how much better you are doing in '08 given the volumes will get better there and how much does that add next year?

Well I think there are two things there. One is you have to look at the hospitals in the portfolio now versus before, and certainly one of the hospitals with was going to be a -- a detriment for the second half of '08 standpoint and a '09 standpoint was Irvine because of the intense competition from the Kaiser hospital that opened up across the street. Irvine had 30% of its patients from Kaiser patients and losing them was a big impact which is a removal from the statistics now. So the portfolio that we have is a stronger one than the one we were talking about two months ago from a volume expectation standpoint. Secondly, I think we demonstrated that we are on a positive track with respect to both admissions and visits, and so we think that all the work that we have done is going to continue to provide increased yield. We also talked about other recruitment exercises that Steve is engaged in from a physicians standpoint and a wave of improvement associated with that, that there is a lag in when those admits and visits come in, so that will -- that will also show up as we go into the future. So as I said earlier, I think we said along -- the strategies really seem to be working from target growth quality, the recruitment side, and for that reason, we think it is very reasonable for us to increase the expectation for next year. In terms of the quantification of it. The -- I don't know if I -- if I have it year, but basically if you -- if you take that half a percent times two-thirds of the revenue base and take 40% margin on it, that would be a reasonable approximation of the inpatient margin.

That's helpful. And just the -- on the cost reduction side, is there anything that you can spike out as far as '09 where you think -- where you think the opportunities are around that $30 million you have there?

Okay. There's -- there is no specific initiative underneath that 29. They include -- you know -- changes are -- implementation and system changes around transcription and some other areas of cost improvement where we are taking things which have been operated on a very disparate bases and multiple of systems and practices, and driving significant costs out. We also expect to have a nice -- I don't think it is at $29 million but health improvement benefit cost next year. We had a spike this year, but based upon negotiations with the various carriers for next year, we expect to have a significant reduction there. So there are a number things that we expect improvement on. We didn't load the $29 million because at a point they become part of normal practice just to go drive cost out of the business.

Just to follow-up on the health benefit cost and then I will jump out. The -- I think I might have referred in the marketplace that you might be switching plans as far as your health benefit administrator for 2009. Is there anything you can tell us about that?

Yeah, we conducted a -- well, we what we basically did is we conducted a competitive process. It was very important us to, not only the cost pricing service. One particularly important thing was to make sure that physicians that practice in our hospitals were included in the networks, so a Tenet employee who needed a particular service would be able to stay in net work and have the service performed in our hospitals. And I think the big change was that rather than consolidating all of the business as one carrier as we had done some previous years, we were much more receptive to selecting the best option market by market, and so that did result in a number of changes with -- with different health plans, some gained, some lost in our business. But we are very happy with the solution.

Can you tell us who the gainers were?

You know, the -- yeah, the gainers were basically Cigna, Aetna, Well Point, and -- I think that's the -- that accounts for the bulk of it.

Who did that business go away from, is that United?

Yes. Let me also say that we still enjoy a very good relationship with United. We think they are an excellent company. We obviously continued to participate very rigorously in their centers of excellence program. And this -- you know, as I said, this was a very objective process where the objective criteria had been spelled out in advance?

That's helpful. I appreciate the color.

Thank you. We have time for one final question. Coming from Jason Gurda with Leerink Swann.

Thank you. Assuming you are at the midpoint of your year-end cash guidance. Cash balance guidance, do you have a ballpark figure of how much would you expect to use for debt paydown?

At this point, it really is going to depend upon, you know, what the opportunities are, what the market is like, what we think the right thing to do is. I think that, you know, from a cash minimum standpoint, probably, you know, we would carry something in the $400 million or greater kind of level, but that is really going to depend upon, you know, planning for next year and what we expect -- not just for next year but for the market standpoint, what the best yield might be?

Okay. That is helpful. Just lastly, how is the new hospital in El Paso doing? And how should we think about the contribution for next year?

The El Paso hospital is doing well. We've had some delay in joint commission certification. We opened the hospital about May 17, and joint commission showed up June 26. And we were certified effective that particular date. Business is ramping up. ER business is high. Obstetrics business is high. We are recruiting, redirecting and employing some specialty physicians to cover some of the surgical and medical specialty areas. In the meantime, when those services aren't available, those patients are being transferred to our other two hospitals in El Paso, Sierra and Providence which showed significant growth in the quarter.

Okay. Thank you.

Thank you. At this time, there appears to be no further questions. I will turn the floor back over to Trevor Fetter for any closing remarks.

I think there actually were further questions in the queue but we decided to cut off the call off ten minutes to 10:00 our time to enable to you move on to the next call being held by a peer company of ours. Thank you for participating and we will see you on the next call.

Thank you. This does conclude today's Tenet Healthcare conference call. You may disconnect and have a great day.