環球健康 (UHS) 2005 Q2 法說會逐字稿

Good morning. My name is Laurie and I will be your conference facilitator. At this time, I would like to welcome everyone to the Universal Health Service second quarter earnings conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question and answer period. If you would like to ask a question during this time, simply press star, then the number one on your telephone keypad. If you would like to withdraw your question, press the pound key. Thank you. I will now turn the call over to Steve Filton, Chief Financial Officer. Please go ahead, sir.

Thank you. Good morning. I'm Steve Filton. Alan Miller, our CEO, is also with us. Welcome to this review of Universal Health Services results for the second quarter ended June 30, 2005. For the quarter, the Company earned $2.34 per diluted share. Included in the reported results for the quarter ended June 30, 2005, was a $108 million after tax gain on the sale of our 81 1/2% interest in Medi-Partenaire. Excluding this item and the impact of the sale of two Louisiana and one Puerto Rico facility in last year's second quarter, our adjusted net income decreased 18% to 38.2 million during the second quarter of 2005 as compared to 46.8 million during the 2004 second quarter. Our adjusted earnings per diluted share decreased 16% to $0.64 during the quarter ended June 30, 2005 as compared to $0.76 during the comparable prior year quarter.

During this conference call, Alan and I will be using words such as "believes," "expects," "anticipates" and similar words that represent forecasts, projections and forward-looking statements. For anyone not familiar with the risks and uncertainties inherent in these forward-looking statements, I recommend a careful reading of the section on pages 17 and 18 of our Form 10-Q for the quarter ended March 31, 2005.

I would like to highlight just a couple of developments and business trends before opening the call up to questions. Cash flow from operations for the second quarter of 2005 was approximately 92 million as compared to 130 million during the second quarter of 2004. The decrease in cash flow during the second -- this year's second quarter, as compared to last year's quarter, is due primarily to an increase in income tax payments during the second quarter of 2005 as well as an unfavorable change in working capital accounts. Cash flow from operations for the six months ended June 30, 2005, was 227 million as compared to 225 million during the six months of 2004. With this cash provided by operating activities as well as the 257 million of net cash proceeds generated from the sale of our French facilities, we made net debt repayments of approximately 87 million, spent approximately 51 million on capital expenditures and 156 million on share repurchases. At quarter end, our ratio of debt net of cash to total capitalization was 24%, and the ratio of net to EBITDA was 0.85.

On a same facility basis, revenues at our acute care facilities increased 6.6% during the second quarter of 2005, as compared to the comparable prior year quarter. Revenue growth in the acute care division came mainly from a 2.7% increase in admissions and a 4.1 increase in revenue per adjusted patient day. Admissions growth was particularly strong in the Las Vegas market which has benefited from the higher occupancy rates at Spring Valley which opened late in 2003, and by additional capacity opened at Summerland in the summer of 2004.

Managed care contractual increases continue to be solid. Specifically, our Las Vegas hospitals have negotiated with Sierra to renew their contract under a multi-year agreement.

We define operating margins as operating income or net revenue less salaries, wages and benefits, other operating expenses, supplies expense and provision for doubtful accounts, divided by net revenues. Operating income at our acute care hospitals owned in both quarters ended June 30, 2005 and 2004, declined approximately $13 million or 11% during this year's second quarter as operating margins declined to 13.3% in the quarter just ended as compared to 15.9% in the prior year's quarter. The large majority of the decline in operating income can be attributed to the McAllen Edinburgh market. After a first quarter in which we saw some stabilization in this market, which we attributed to a marketwide seasonal surge in volumes, we saw second quarter volumes weaken substantially. This decline highlights again the impact we discussed several times previously of our market share losses to the division owned hospital competitor.

On a combined basis, the total bad debt expense and charity care increased in this year's second quarter as compared to the same prior year period reflecting the fact that the level of uninsured patients coming to our acute care hospitals also increased. On a same facility basis, based on gross charges, we provided $75 million of charity care during the second quarter of 2005, as compared to 62 million during the second quarter of 2004. Again, this deterioration came on the heels of some improvement in our uninsured experience in the first quarter. We do not believe, however, that there has been any substantial underlying or structural changes in the economies of our local markets. For the full six months, the total of bad debt and charity care as a percentage of revenue has increased more modestly when compared to the same six month period in 2004.

On a same facility basis at our behavioral health facilities, revenues increased 9.4% during the second quarter of 2005 over the comparable prior year quarter. Admissions to our behavioral hospitals owned for more than a year increased by 7.6%. The robust admissions growth was clearly impacted by capacity additions in certain key markets. Net revenue per adjusted day increased 2%. And operating margins for our behavioral health hospitals owned for more than a year were 25.5% in the quarter ended June 30, 2005 compared with 24.1% in the quarter ended June 30, 2004, reflecting the higher admissions. Alan will now discuss some of our recent activities and our outlook.

Thank you, Steve. As you know, in May we sold our 81.5% interest in Medi-Partenaire. During the quarter, we used a portion of the proceeds from that sale, as well as the sale of two hospitals in Puerto Rico, to repurchase 2.65 million of our shares. We continue to evaluate the appropriate use of the balance sheet -- balance of proceeds. These considerations include acquisitions, development projects, additional share repurchase and repayment of debt. In particular, the level of acquisition and development conversations in the behavioral health segment, based on our fine reputation in the industry, seem to have accelerated in recent months.

UHS spent approximately 51 million on capital expenditures in the second quarter. The 108 bed replacement for our Fort Duncan facility in Eagle Pass, Texas, should open early next year. A major renovation at our Chalmette facility in east New Orleans will be completed this fall. The first phase of our project in Aiken, South Carolina, which adds critical care beds, has opened and the second phase, which will expand our emergency room capacity, will open later this year. We also have multiple projects in process to add capacity to our busiest behavioral health facilities. Those facilities have operated at a very efficient 86% available occupancy rate in the second quarter. Just this month, we broke ground on our fifth hospital in Las Vegas. This facility is scheduled to open with 170 beds in late 2006 or very early in '07. This is in the northwestern part of the city.

As you know, we previously issued full year 2005 earnings guidance between $3.10 and $3.20 per diluted share from continuing operations. Our second quarter results, however, clearly highlight the variables that will be most critical in achieving this hurdle. As we discussed in our first quarter call, our earnings guidance presume a continued stabilization in bad debt expense. Our actual experience has been somewhat uneven. For the balance of the year, we hope to have bad debt and charity care run at the levels that we averaged for the first six months of the year. But if the adverse trends of the second quarter continue, we may have some difficulty in reaching this goal in earnings. Additionally, in our first quarter call, we explained that our guidance presumed that our operating income in the McAllen Edinburgh market would be relatively flat for the full year. Obviously our performance in that market will need to improve significantly in order to meet our goal. We believe that our previously undertaken actions in regard to physician recruitment, managed care contracting and physical improvements and expansions will begin to take hold, although the impact and timing is somewhat difficult to predict. Steve and I will be pleased now to respond to questions.

[OPERATOR INSTRUCTIONS] Your first question comes from the line of Glen Santangelo of Credit Suisse First Boston.

Yes, Steve. Just a quick question regarding some of this uninsured admission growth. I'm trying to get a better sense if you saw this uninsured growth in any key markets. Was it Texas and Las Vegas predominantly? Or would you say the problem is maybe more spread across the entire network? Any additional color would be helpful. Thanks.

I think it's fair to way that we saw the increase in uninsured sort of throughout the portfolio. I mean, obviously some hospitals more than others. Certainly, McAllen is one of those markets where we have seen for sometime, not necessarily an absolute increase in uninsured patients, but on a relative percentage basis, an increase as we've lost some of our better paying patients to the physician owned hospital. Las Vegas is a market that has been a bad debt pressure point for sometime and we have seen the level of uninsured rise in some other markets as well. The only, I think, point that I try to make in the prepared comments was that as we look at those markets where we have seen an increase, we don't necessarily see a correlation to underlying market economic data and increase in unemployment, et cetera, and so we are not exactly sure that we ought to be drawing meaningful conclusions from the lower uninsured levels in the first quarter and the higher in the second quarter. We tend to now be looking at the full six months as sort of a reasonable run rate just because of any absence of real supporting data to lead us to believe otherwise.

Hey, Steve. Just one other follow-up question regarding McAllen. It seems like the competition's getting more fierce. Does that competing hospital in that market have additional capacity coming? If so, what will you do to combat these trends or is it just going to be a tough battle from here on out?

Let me answer that question. We have been doing a number of things. For example, we are under construction with a children's hospital. And the children's hospital is being very well anticipated by the physicians and it's on the Edinburgh campus which will bring us additional business as well. That will open January or at the latest February in 06. The competitor has announced building of a children's hospital sometime down the road. We don't know how real that is. To answer your question about added capacity, they can build whatever they want to build and we have no way of knowing what is real and what is proposed and may not happen. I mention the children's hospital because we believe we have locked up the children's physicians, the pediatricians. We have the surgeons, the pediatric surgeons. So that gives you a little color on that particular end of it. We are excited about having that part of the market pretty much locked up.

I might as well cover some other things on McAllen while I'm at it. We have made a number of strategic investments. We have more to come. We have a behavioral hospital where we have had the only one in town at 65 beds. We are building a new one. It's under construction right now and will be increased to 120 beds. So we have that construction going. We have the children's hospital construction going. As we mentioned earlier, we bought and arranged a heart clinic. The group of physicians, very highly regarded, who work at our heart hospital. We have seen a decline in our heart business, but it's not nearly as much as it would have been had we not done this. We think we stabilized it at a level that we had anticipated. And we are bringing in a very, very highly regarded heart surgeon, will be the best in town. So that is another activity we are taking that will shore us up.

We also taken a number of activities from the operating standpoint with regarding the ER and how patients are directed. e have suffered from, frankly, better patients being directed to that competitive hospital even out of our own ER, and that's leaving us with lesser paying patients and we have taken steps to correct that, and all within the proper legal bounds. So we have a number of things going on there. And we are optimistic that we will prevail in this market and grow, but at the moment, as we are all aware, we have had a very strong competitor come in to town and they are paying big dividends to the doctors that support their hospital.

Thanks for the comments.

Your next question comes from the line of Darren Lehrich of Deutsche Bank.

Thanks. Good morning. Just wanted a little more commentary around your buy back plans and the decision to buy back some of the stock in the second quarter in the face of some deteriorating trends in McAllen. I guess, Alan, should we read into this that the acquisition environment on the acute care side isn't all that attractive right now? I know you commented on some opportunities in behavioral, but those may take less capital, I guess. Just I would have expected you to preserve capital a little more opportunistically with the situation in McAllen so fluid. So can you just help us out there?

I think that as we have done in the past, we are just evaluating opportunities as they come along and as we think they are fairly priced. We have seen more immediate opportunities in the psychiatric hospital business. We have a dominant position there and I think more importantly, we have a very fine reputation built over 30 years of this activity. And when people want to sell their facilities and are concerned about the future impact on their communities, it seems to me they are coming to us and giving us first opportunity, if not the only opportunity. So we have activities there which require some capital, but it's not enormous. We have made a very successful sale both in Puerto Rico and more largely in selling our French assets, a French company. So we are making investments in behavioral and I should also mention we were making investments in the acute hospitals. We are making investments in McAllen that I just covered. We have bought some stock and we have the ability to do all of those based on what appears to us to be good returns going forward.

Okay. Thanks. And I guess I know you have highlighted the weakness in south Texas and I'm sure even more questions regarding this. Just wanted to revisit something from the 10-K. You lost about 19 million in revenue there last year, but your EBITDA was down about 30 million. Obviously it's deteriorated somewhat in the second quarter here. I guess the question is, this used to be a 20% EBITDA market, margin market, four or five years ago. Where do you think you can get to? Where does it stabilize? And with all these plans you have a year or two from now, where do you think it could go from a margin perspective?

Darren, I think it's hard to say. I think it's difficult with the introduction of the physician owned competitor hospital to really kind of create a scenario in which we get back to those margins that we had prior to their entry into the market. On the other hand, I think that the underlying fundamentals and demographics of this market are very solid. And I think as Alan's comments indicate, we look at it in very long term perspectives and the reason that we are putting and investing the kind of money in the sorts of services and physicians that Alan talked about is that we view it as a market that has still potential in the future and certainly potential to grow from the current margins that we are operating at which as you suggest are much lower than our historical averages. And while I don't think we believe we will get back to those historical highs, we think we can get a good ways back over an extended period of time.

All right. Thanks a lot.

Your next question comes from the line of Gary Lieberman of Morgan Stanley.

Good morning, thanks. Your uninsured experience appears to be somewhat more negative than what some of the other companies have reported so far this quarter and I was wondering if, similar to McAllen, there are potential other operational issues in any of your other markets that you think might be driving that against you.

Gary, I think that in a couple of markets, we can point to the increase in uninsured patients as being responsive to competitive dynamics. Aiken, South Carolina, is a market that we talked about before where I think because of aggressive competition in that case from, not for property competitors in the Augusta, Georgia, market, we may have lost some paying business and some service lines that we had previously had more of a franchise on. I think in other markets, I know that HCA has talked about and then we've certainly talked before about Las Vegas being a pressure point. I don't think that's an issue of competitive dynamics. I think that's a issue of the nature of health benefits in that market. The nature of smaller employers in that market not necessarily offering health benefits. So market in which probably has one of our lowest unemployment rates in our portfolio, we still find that we have a lot of working uninsured and that's the dynamic in that market. So I can't say that as we go through our portfolio that we have a single answer. In some cases, I think the uninsured level is driven by competitive dynamics as it might be in McAllen or Aiken. In some cases, it's driven by the local underlying structure of the economy as it is in Vegas. And in some cases, frankly, we saw a jump in the second quarter that we really couldn't explain in any meaningful way. And that's why I suggested earlier in my remarks that we are tending to look and think about bad debt going forward as more of looking at our six month experience rather than the quarter because I'm not sure that in every case or frankly, even in many cases, we can draw meaningful conclusions from our bad debt or uninsured experience in the second quarter.

Okay. Thanks a lot.

Your next question comes from the line of Tim Leahy of Goldman Sachs.

Thanks. Good morning. Steve, a question on bad debt again. The margin sequential obviously went up quite a bit. Is that a pure operating number? Or is there perhaps a change in your reserve policy or is that true just operating jump relative to the number of uninsured?

No, I think the change in -- or the increase in bad debt and charity care is a reflection that we've had an increase of uninsured in the market. We certainly have in the last year and a half, seven or eight quarters, tweeked our policies to make sure that we are recognizing uninsured patients and accounting and reserving for them on as timely a basis as possible. And as a result, I think to some degree, what you are seeing is we are capturing month to month and quarter to quarter some volatility that, like I said, if you step back and try to sort of draw meaningful kind of trend conclusions from it, I think it may be harder to do. I think there is some amount of volatility again period to period in the level of uninsureds that you need to step back a little bit and try to look at it from over a longer perspective. But no, I wouldn't attribute the increase in bad debt, however, to changes in accounting methodology during the quarter.

Thanks. Then perhaps you could just address if there is any internal capital structure targets? You're obviously, it was brought up earlier that there are a lot of opportunities for development and potential acquisitions. But the leverage where we stand today, despite the fact you've done a lot on the share repurchase and debt payment side, is obviously pretty well. Any internal capital structure targets that you aspire to?

No. I don't think so, Tim. I mean, obviously, I think we are at historical lows in terms of our leverage. As Alan suggested earlier, we have a great deal of flexibility to do all of the things that he talked about, reinvestment in our own facilities, development projects, Greenfield development projects, new acquisitions, as well as share repurchases. We -- I think have had a goal for sometime of retaining our investment grade rating, but obviously we are a long ways away from that being at any sort of risk. So obviously I think our good leverage position leaves us a lot of flexibility to do whatever we think is most prudent from an investment perspective as we move from here on out.

Great, thanks.

Your next question comes from the line of A.J. Rice of Merrill Lynch.

Hi, everybody. Just a couple of questions, if I could. On the same store acute side, you were up 2.7% in admissions across the portfolio. Do you know what that would have been without McAllen?

I don't know that exact number, A.J., but obviously it would have been substantially higher. Without a doubt, McAllen had, the McAllen market had the single biggest decline in admissions that we found throughout the portfolio. On the flip side, Vegas had the single biggest increase in admissions in the portfolio. If you took the two of them out, the rest of the portfolio still would have had an increase and a decent increase. But clearly our two biggest markets are on the opposite ends of the admissions spectrum right now.

I know you talked around this with some of the earlier questions. But in the acute care business, you had 160 basis point swing in bad debts. My sense, from the way you guys have talked about it, is that a fair percentage of that might be attributable specifically to McAllen. Is it possible to quantify how much was McAllen of that swing?

Again, in answer to a previous question, I think that we -- if we really felt that the increase in uninsureds was primarily a result of McAllen, I think we would really only be talking about McAllen as an issue and not bad debt separately. While McAllen is certainly a market in which we have uninsured challenges that we conceded in response to the previous question, that the increase in uninsureds however was something that we found sprinkled in facilities throughout the portfolio.

Right.

So again, I don't know the exact number that McAllen contributed to the increase, but it's not the majority of the increase in bad debt and I think, as we said before, that's something we saw throughout the portfolio.

Okay. And then the last question would be, the seasonal swings in McAllen really dictated the outperformance in the first quarter and the underperformance in the second, just the overall market volume. As you look at the back half and the chance to sort of mirror the front half, can you just comment about what the normal seasonal pattern tends to be in McAllen? Is it typically like other hospital markets third quarter is even seasonally weaker and bounce back in the fourth quarter? Or is there some other dynamic in the flow of patients down there that mitigates that somewhat? Give us some sense about the normal underlying seasonality in the business down there.

I think, A.J., the seasonality in McAllen is what you would expect in a seasonal market. People don't necessarily think of south Texas as the sort of seasonal market the way they think about South Florida, for example. But the admission patterns and the volume patterns actually are quite similar. The McAllen area has quite a bit of seasonal traffic. There are a lot of people, particularly from the upper midwest, who come and spend the winter. They refer to them at winter Texans. Not necessarily in McAllen, per se, but in that South Padre Island area, et cetera. And so, just as you suggested and I think as we sort of suggested in the first quarter, I think as we look through the year or looked at the year early in the year, I think we thought that the first and fourth quarters would be the easiest comparisons for us in McAllen because they would be the strongest seasonal quarters and also because, quite frankly, they were the most difficult quarters for us last year and the second and third quarters would be the biggest challenges. Obviously, the second quarter proved to be a bigger challenge than we anticipated. But I suspect the third quarter will be a challenge as well. And then given our performance last year and given the normal seasonal improvement, I think the fourth quarter ought to be an easier reach for us.

And is fourth quarter typically as strong as first quarters down there? Or does it tend to be a little --

I think a lot of it, A.J., depends on weather and other dynamics. It's a little hard to predict. But clearly, the fourth and first quarters are the strongest and the second and third are historically the weakest.

Okay, that's great. Thanks a lot.

Your next question comes from the line of Adam Feinstein of Lehman Brothers.

Okay, thank you. Good morning, Alan. Good morning Steve. Several questions here. Just a start, could you quantify how much McAllen was down in other markets? I remember you giving a similar type of number in the fourth quarter and -- and gave a similar number in the first quarter also. Steve, could you give us a sense in terms of how much it was down?

I'm sorry, you are talking about --

Either revenues, operating profits, whatever metrics you could give us.

I think the one thing I would say, Adam, if you look at our shortfall from estimates, from the consensus if you will, I think that you could say that McAllen on its own accounted for most of the shortfall or frank Lee you could say that bad debt on its own could account for the shortfall. The reality is we had strong results in our other segments and we had a good quarter in behavioral. We had strong results in Las Vegas and I think we could have overcome one or the other of the problems, that being McAllen or bad debt, but we could not overcome both.

But to clarify, you had said earlier your goal was to have flat operating profits in McAllen. I guess I was trying to figure out how much your operating profits were down in the quarter. Clearly we can back into something but I wanted to see if you had a number.

And I'm not sure I have the precise numbers in front of me, Adam. But I think we've already touched on the dynamics. McAllen was relatively flat in the first quarter or the market was relatively flat in the first quarter. In the second quarter, they accounted for most of the shortfall. So I think you back into that.

Okay. Great. And secondly, do you have a number in terms of your mix of uninsured in the quarter and how that compares to the prior year or prior -- or relative to the first quarter?

We don't track uninsured admissions precisely I think the way some other companies do. But the way that we measure it is I think our uninsured volume was up in the sort of mid single digits, 6, 7% is where I would guess our uninsured admissions rose in the second quarter compared to last year.

Okay. All right. And just with the guidance, wanted to follow up to some of Alan's commentary. So you guys are staying with the guidance now in spite of other quarter and I guess just imbedded in the guidance, are you using $0.64 for the second quarter or $0.61?

First let me just describe to those who may not understand the distinction, we thought that our adjusted earnings in the quarter were $0.64. The difference between that and the $0.61 from continuing operations is essentially the result of the French operations during the period that we own them. Although that's all -- both the gain and the operating results are on a discontinued OPs line, as we talked about what we viewed as our continuing results for the quarter, we included the French operations for the part of the quarter that we owned them. So, yes, $0.64 is what we are using. As we think about our guidance and we think about where we are today, Adam, we are $0.93 in the first quarter and $0.64 in the second quarter. We are sitting at $1.57 for the six months. As Alan indicated in his comments, you asked us at the beginning of the year how we would feel at being at $1.57 after six months and getting to our guidance of $3.10 to $3.20, I think at that point we would have said that's where we would expect to be, that's fine. Obviously, the way that we got there, the roller coaster results in the first and second quarter, caused us some level of anxiety just as it does you all. And I think, as Alan highlighted the variables, if you view bad debt as an average of the first six months, then I think that is one of the presumptions of our guidance. And if you presume, as we think we can, get some improvement in the McAllen market, some substantial improvement by the latter half of the year, then I think our guidance is achievable and I think that's what Alan intended by his remarks.

And to make sure that I'm clear. The bad debt, you said it would be similar to the first half of the year. I was calculating 8.5% if you take the average for the first half. Is that the right number?

Mid eights, that's exactly right.

And just -- okay, and then just one final question and I will get off here. Just with the Sierra contract in Vegas, does that give you access to more Sierra lives than you had previously?

There is nothing sort of contractually that gives us access to more lives. I think we've had, as we look at our Sierra volumes this year compared to last year, we've had a double digit increase in our Sierra volumes already. You know, I think Sierra views the Valley Health System as a good partner as we do them. And we do get a substantial amount of referrals. I think, frankly, Sierra has a big renegotiation coming up next year with HCA which is obviously the other big provider in the market, and I think, depending on how that negotiation may go may influence what will happen to our volumes. Our general sense is we are very pleased with the fact that we have a long term, a new long-term agreement with Sierra. They are a reliable and a good payor in that market and we're just very happy that we have kind of renewed our agreement with them now for several more years.

Thank you.

Your next question comes from the line of Matthew Kanoskey of Sanford Bernstein.

Thanks. I was hoping you could give some additional color on how volumes X McAllen looked sort of intra-quarter. Specifically, was there any weakness that you saw as you got to the end of the quarter like some of your peers have been seeing?

I can't comment on our peers. I actually thought, as I listened to comments from the other companies, they talked about starting the quarter softer and ending up a little stronger. Our experience is what you described, Matthew. We started the quarter a little stronger and saw a little bit of softening come June. I don't know that I would again read anything into it. I think we've all gotten very focused on perhaps some short-term trends in this business that I'm not sure are all that meaningful. We did see the beginning of the quarter a little stronger than the end. I'm not sure I know how to interpret them the meaningful conclusion.

And just one quick follow-up. What would charity care be on a same facility basis in the first quarter? I think you gave 2Q of last year and 2Q of this year.

I will look for that number, Matthew, and hopefully give it before we finish here.

Great. Thanks.

Your next question comes from the line of John Ransom of Raymond James.

Hi, good morning. Steve, I'm going to try this again and you're probably not going to tell me, but is there anyway you can give us a year-over-year EBITDA number ex-McAllen? I think that will help everybody's mindset in terms of trying to process.

I'm not sure I have it in front of me, John. I'm not trying to avoid the question. I think, as I said, if you look at the shortfall from consensus and you can calculate that McAllen -- the decline in McAllen contributed the majority of that, I think you can get to a pretty good number.

Okay. So if you look at the first six months of the year, is it your sense that McAllen is flat or down compared to last year, or is that meaningful?

I think McAllen is down for the six months which is, again, in Alan's remarks in terms of talking about the guidance which presume that McAllen would be flat for the year, we'll have to make up some ground in order to get there. And then to what A.J. was saying earlier, I think the way likely you get there will be down in the third quarter and hopefully be up in the fourth.

Just in terms of the timing of some of these. I know you have a big physician search in place and I know you have some new capacity. When would you look at '06 and say this is fully ramping? Is it middle of the year? Toward the end of the year? Do you hope to have this going by January 1 or how do you think about the timing?

I think the way the business operates, John, unfortunately, there is not a switch that we turn at which point we say, we have done everything we're going to do in McAllen or we're fully in place. I mean, certainly many of the actions that we have take in response to the competitive pressures in the market, the recruitment of new physicians, the renegotiation of managed care contracts, the physical expansions and renovations that Alan touched on in some detail. All of those strategies take some time. And we sort of see that playing out. I do think that, as Alan indicated, the major construction renovation projects will come online early in 2006 and we think they should be helpful. And we've recruited, as you have eluded to, many tens and close to 100 new physicians into the market and each of them are at various stages in development of their practices. I think in early 2006, as the physical renovations kick in and some of these physician practices mature, we hope to start to see more measured improvement. But again, it's not like in my mind the first quarter is sort of a magic date or the second quarter and then frankly I think the McAllen story will be an evolving one. As I eluded to earlier, our general sense is that it's still a very good market. We've still got a very good franchise in the market and that over time and over an extended period of time, we will continue to regain some of this significant market share that we lost.

I know there is a new provider tax being talked about in Texas. Has that been factored into your guidance? And if not, what do you think the impact of that will be?

I think there's been some misunderstanding about what I believe is happening in Texas. The Texas legislature met in special session this week to discuss a school funding crisis that they have and they talked about ways of filling the gap in their current property tax structure. One of the proposals on the board was to make certain limited partnerships pay franchise tax where before they had been exempt. We know certain of our hospitals are structured as limited partnerships. I believe the Triad is in the same position and I think it was on elimination of this exemption on limited partnership franchise tax that people were concerned about it. I don't think it had anything to do with a provider tax. And it affects entities and companies outside the health care sector. In fact, I think it's always affected the oil and gas industry the most. And frankly, they have been the most effective lobbyist to keep the exemption in place for years. This not the first time it's arisen. Our understanding is that the bill that would have accomplished the removal of this exemption has been defeated. Texas still faces this issue. It doesn't mean it can't be resurrected, etc. But for the time being, the issue is off the table. And so no, we have not included it in our guidance. By the way, our calculation of what it means to us is that while it's measurable and probably a few million dollars, it's probably not enough to really make us think differently about even if it was there changing our guidance.

The legislature has left. It's done.

Okay, thank you very much.

Your next question comes from the line of Joseph Chiarelli of Oppenheimer and Company.

Thank you. A couple quick questions, if I may. Alan, can you give us some sense of the time frame for the use of cash? In the past, you have talked I guess over a horizon maybe out to 18 months. Is that still the case?

Joe, we use our cash depending on how the opportunities come up. So we have given a number for capital expenditures. We do that. We budget that. But depending on when opportunities come up, acquisitions, for example, we will spend the money as we see a good opportunity.

Okay. The second quarter change in the uninsured. Just after A.J.'s question, it just struck me. Is any of this due potentially to just seasonal workers, particularly when you look at some of your facilities in consonance with the changing competition from in some of your markets?

Hi, Joe. I think again, if it was due to a change in seasonal workers, et cetera, I'm not sure why we wouldn't have seen the same jump last year. In fact, I think that the second quarter of 2004 was, I think, our lowest quarter for bad debt in charity perspective in 2004. Again, I just think there is a certain amount of volatility quarter to quarter that frankly can't be explained and we do spend a lot of time analyzing it. But I think you can analyze it until the cows come home and some of the short term changes really can't be necessarily fully explained. I think obviously you need to take a look at extended periods and over six and nine and 12 months and beyond that and see what's happening to the trends. Quarter to quarter, your explanation is a perfectly rational, reasonable, legitimate one but it didn't seem to take hold in the second quarter of last year. I don't know why that would be.

Okay. Then just one final question if I may. Are there any other markets in which you are at risk to the type of competition that has arisen in McAllen? Thanks.

Just about all of our peers have discussed in the last few years. I mean, obviously, we deal with physician competition as a dynamic in every one of our markets in different forms. And I think more often than not, we are discussing it in the context of surgery centers, physician owned surgery centers or diagnostic centers, et cetera. I think what has been unique for us in the McAllen market and largely relatively unique in the scale of the health care business in nationally, is the scope of the project. The physicians were able to get financing for $150 million project. I think that that sort of financing is not generally available and those sorts of projects therefore are not being dealt routinely. I think that we will continue to face physician competition in all of our markets. We may continue to face it at a kind of ramped up level. But I don't think that we will see -- we are likely to see the sort and the magnitude of the competition that we have seen in the McAllen market. I think largely because of financing restraints or restrictions.

The lead partner there owns the bank, or is a president of a large bank and they have made the loans to the doctors. My understanding is that they have no financing. It's all equity financing. That's extraordinarily unusual and someone may want to look into the relationships between the loans and the returns and the physicians directing business. It's an unusual situation.

So then you could characterize this to some degree because of the type of competition as an anomaly and not something that you -- I mean, you have competition in Amarillo and you clearly have competition in Las Vegas and your other markets. But this is different and you are not expecting to see this type of thing in other markets.

I think that's correct.

Okay. Thank you.

Your next question comes from the line of Kemp Dolliver of SG Cowen.

Thanks, and good morning. Two questions. First on McAllen, what's your sense as to the capacity utilization of that competing hospital? Are they running full yet?

First, I would say, Kemp, there is no sort of public data and they are a private entity. The information and intelligence we have tends to be anecdotal in nature and it's what the doctors or nurses tell you. Our sense is that they run pretty darn full most of the time. In the first quarter, and we talked about this at the time, we think most of the facilities in the market ran pretty full. In the second quarter, as the seasonal decline in volumes came, a lot of the other hospitals emptied out but I think the physician owned hospital continued to run fairly full.

Okay, that's helpful. Second question is, what has been the change or what is the change in the company's med/surg mix given what's happened in McAllen?

When you say med/surg mix, Kemp, are you talking about our acuity? Is that the question?

Yes, however you measure it. Obviously a couple different ways to track it. But whatever data you have.

I think our case mix certainly from the first quarter to the second quarter has remained relatively stable and I think it's remained relatively stable over the last few years. And frankly, even our case mix in the McAllen market hasn't really declined all that much. It's really more of a payor issue than anything else. But I think from an acuity perspective, we have not seen big changes in acuity in McAllen or frankly throughout the portfolio for at least several years.

Okay. And I guess my last question to wrap up here. There is a payor -- there is a payor teachers insurance company down in that market where you had to -- where you had a contract and I think that contract has gone away. How -- is that something you had expected in your budgeting for the year? Or is that a challenge that is new?

As I think we discussed before, there is a lot of these stories and dynamics that are evolving. What you are referring to and we certainly have talked in these calls and other forums before about the fact that one of our strategies in the market was to use our market share dominance to get more exclusivity in our managed care contracting. In the instance that you cite, we had a managed care payor who refused to do that. And we chose, rather than to continue contracting with them, to terminate our contract which was effective in July. We think that's an important thing to do. We think it's a long-term view in terms of our position with other managed care contracts. We think the managed care companies will begin to feel some pain from that as they wind up sending patients to our hospital for services that no other facility in the market offers and for which they will now have to pay higher rates, et cetera. The answer to your question is, no, we didn't specifically plan or budget for it. I'm not sure I can specifically predict for you exactly what its impact will be. I think it is part of the ongoing competitive dynamics of that market and we think obviously it's the right move.

Your next question comes from the line of Gary Taylor of Bank of America Securities.

Hi, good morning. Steve, I missed the 2Q '05 charity number. I think you said 2Q 04 was 62 but I missed the first one.

Q2 '05 is 75 million and actually in response to a question I had earlier, the first quarter of '05 was approximately 76 million in charity, same store charity care.

And I wanted to -- I wanted to go back to the bad debt reserving for a second. My understanding is that you begin reserving some portion of actual uncollected revenues, somewhere between 120 and 180 days, such that by 180 you are fully reserved. Is that still the methodology you are using?

We do continue to use a clip methodology. But what we have started doing is reserving for our self-pay accounts, even or uninsured accounts, earlier in the cycle. We start reserving for our uninsured accounts at some level after 90 days and all of our self-pay accounts are reserved after 120 days and kind of as a belt and suspenders check on the adequacy of our bad debt reserve at the end of the period, at the end of the month or the end of the quarter. We also ensure that we have all of our self-pay accounts, regardless of age, reserved at approximately 97% of their total value which is where we are at, for instance, at the end of the second quarter.

And if I recall that change to kind of accelerate that self-pay reserve has either the third or fourth quarter, I was right.

I think it was before that. I think it was more towards the end of 2003, as I recall.

Maybe I'm a year off. It goes fast.

Thanks.

And then just two other -- or one other quick one, I guess. I don't think anyone has asked this directly. I apologize if they did. Do you -- a lot of the other companies actually will provide statistics in terms of uninsured admissions either as percent of total admissions or year-over-year growth.

Yes. And we don't track that. I mean the way that we assign financial class makes it a little bit difficult for us to do. But I think in answer to a previous question, I take some of our revenue information that we have and some other data and I use that to, I think, make a pretty educated guess that I think in the second quarter, our self-pay volumes or uninsured volumes rose in the mid single digits, 6, 7% or so.

Okay. And then last question. Alan, you mentioned you thought someone else in that Texas market might do also a children's hospital. Is that HCA or is that Renaissance Hospital?

No, Renaissance has, I wouldn't say announced, but they talk about doing everything. And my only point was that we are building. We are under construction. We have agreements. We think we've got all of the pediatricians and the pediatric surgeons. So we don't know whether they will build a children's hospital in the future or not. It was an answer to a question of what other services could they build?

How many beds will yours represent?

I don't have the number of the childrens. It's within the Edinburgh hospital. I don't have the number of beds. I'm sorry, right now.

Okay. Thanks.

Your next question comes from the line of Ken Weakley of UBS.

Thanks and good morning. Steve, you, in talking about bad debt, your forecast seems to imply that you think the underlying bad debt for the second half of this year will be 8.6% or so. And I was wondering if that is the case. Mathematically that's what you are saying. Does that imply the first quarter bad debt of 7.6 was just too light and you are catching up to the underlying trend here or is the 9.6 the real trend today, and if so, why would you necessarily conclude it will go back down?

Two things, Ken. I don't know that we were forecasting as much as talking about the way we were looking at it. And I think actually as I look at it, what I said was, no, I don't think when you describe the first quarter as being light, I think that is sort of an accounting comment that we were somewhat underreserved and we don't think that's the case at all. I think what we think is that we had an increase in uninsured patients in the second quarter. To your question, you know, and I tried to say this before, if we could point to a meaningful explanation that said it's clear why our uninsured volumes rose in the second quarter, no, I don't think we would be suggesting to people that we are thinking about bad debt and the ongoing bad debt as the full six month average which, by the way, as I look at it and I apologize for misstating it before, is more like 8.9% rather than 8.6. And I think it's just that issue. Without being able to explain the real change between the first and second quarter, we are sort of saying let's look at the six month as a little bit longer experience but to your point, there is clearly risk there and there is clearly volatility here that we experience all the time. But in the absence of any sort of supporting documentation, we are thinking about bad debt as sort of a full six month number.

Given the last three quarters in terms of predicting earnings, obviously the first quarter you beat by $0.25 and this quarter it was a miss. It would appear that predicting anything at this point in the cycle is very challenging. Do you think maybe having earnings estimates guidance is maybe illogical at this point? It just seems to be arbitrary guesses where the numbers may come out at.

First of all, we have had to practice for sometime now only issuing full year guidance. We never issued quarterly guidance. And your comments are somewhat sort of obvious in nature. There is a level of volatility here, and I have been in the business for a long time, that I certainly don't recall experiencing before and it makes it difficult to predict. I think which is why some of our comments tend to have a more long term perspective. We expect improvement in the McAllen market over the long term, etc. But it is very difficult to predict quarter-to-quarter swings and we're not trying to do so and give people a sense that we have a precise sense of any of that.

Okay. Do you have the bad debt ratio by division, if you will?

I know that the acute bad debt ratio was 11.3% in the second quarter. I think it's 10.5% for the full six months. I don't have the behavioral numbers in front of me. Although, I don't think they have moved dramatically from the 2 1/2 or so that they have traditionally ran.

Okay. Thank you.

Your next question comes from the line of Jerry Harris of Sirius Capital Management.

Thank you but my questions have been answered, thank you.

Your next question comes from the line of Oksanna Butler of Smith Barney.

Thank you, good morning. Just a bigger picture question here. Given these relatively wide swings relative to expectations, are you saying that essentially this degree of unpredictability is just intrinsic in your business? Or is there really something you can do about it and is there really a change in strategy at this point? Or are you basically sticking with your plans and really looking for them to just play out over time?

Well, Oksanna, I think that we have attributed certainly the volatility in the second quarter and I think it has contributed to the volatility in the most part over the last year and a half or so to two major issues. One is bad debt and obviously that is not specific to us. I would say this about our bad debt and that is we have not tried to say that an increase in bad debt in the quarter is a change in methodology or something that you should ignore, etc. We think that there is volatility inherent in it and we're not trying to discount it, et cetera. We're saying that you need to -- but I think you need to consider it and you can't ignore it. But I think it has become a part of the business. There is clearly a volatility in the level of uninsureds that faces not only us but I think all of the acute care industry that is certainly new in the last year and a half or two years. And secondly, obviously McAllen and it's important to us is I think unique again within the space and as Alan described the challenge that we face there, we think it's fairly unique. So I think between the macro issue of bad debts and the micro issue of McAllen for us, it has contributed to a level of volatility that I don't know is necessarily going to change any time in the near future.

Okay. In terms of your response, obviously you've outlined a number of investments that you are making which you have now in the works for sometime. So is there any change at this point in strategy on your behalf or are you essentially waiting for the investment that you have made and the plans you have already announced to play out?

And you are asking specifically about the McAllen market?

It seems to be the most significant driver, but I guess you have been saying it's not just McAllen where you are seeing these changes.

I think that in terms of capital investment, Oksanna, we certainly view capital investment as again a more long term decision. I think our long-term view of the McAllen market has not changed in that it is an attractive market demographically. It is still, in a broader sense, a relatively under-bedded, under-served market. And so, as Alan commented, that's why we have chosen and made decisions I think within the relative past to continue to reinvest heavily in that market. And to the same, frankly, if you go back a year, we were getting all kinds of questions about the Las Vegas market, because some new capacity had come on and there was great anxiety about the Las Vegas market. And we are building our fifth hospital there because I think our sense all along was that it's been a great market for us for the last 25 years and will continue to be so in the near future. Which doesn't mean that we won't face challenges or bumps in our performance as new capacity comes on as it will in a market that's growing at that rate. But our view of which markets to be in and how to invest in those markets tends to have a longer term perspective to it. And no, I don't think it has changed a great deal.

Okay, thank you.

Your next question comes from the line of Jeffrey Harris of Sirius Capital Management.

Hi. I did have a question. Was McAllen if you fully loaded with all its costs, was it a contributor to earnings this quarter or a detractor from earnings this quarter?

I think the question you're asking, Jeff, is whether McAllen had positive EBITDA for the quarter and in fact it did.

Okay. Thank you.

At this time, there are no further questions. Mr. Filton, are there any closing remarks?

No, as always, we thank everybody for their time and we look forward to speaking with them again in our third quarter call.

Thank you. This concludes today's Universal Health Services second quarter earnings conference call. You may now disconnect.