MedCath Corporation, F4Q08 (Qtr End 09/30/08) Earnings Call Transcript

Nov.14.08 | About: MedCath Corporation (MDTH)

MedCath Corporation (NASDAQ:MDTH)

F4Q08 Earnings Call

November 14, 2008 9:00 am ET

Executives

Edwin French - Chief Executive Officer, President

Jeff Hinton - Chief Financial Officer and Executive VP

Analysts

Darren Lehrich - Deutsche Bank Securities

Rob Hawkins – Stifel Nicolaus

Erik Chiprich - BMO Capital Markets

Gary Taylor - Citigroup

Steve Valiquette - UBS

Operator

Welcome to the MedCath Corporation conference call. Today, management will discuss the company’s operating results for its fourth fiscal quarter ended September 30, 2008. Parts of this announcement contain forward-looking statements that involve risks and uncertainties. Although management believes that these forward-looking statements are based on reasonable assumptions, these assumptions are inherently subject to significant economic, regulatory, and competitive uncertainties and contingencies that are difficult or impossible to predict accurately and are beyond its control including, but not limited to, legislative changes, which would affect the healthcare industry as a whole. Actual results could differ materially from those projected in these forward-looking statements. MedCath does not assume any obligation to update these statements in a news release or otherwise should material facts or circumstances change in ways that will affect their accuracy.

These various risks and uncertainties are described in detail in risk factors in the company’s Annual Report on Form 10-K for the year ended September 30, 2007, filed with the Securities and Exchange Commission on December 14, 2007. A copy of this form including exhibits is available on the Internet site of the Commission at www.sec.gov. These risks and uncertainties include among others the impact of healthcare reform initiatives, possible reductions or changes in the reimbursements from government or third party payers that would decrease revenue, a negative finding by a regulatory organization with oversight of one of the facilities, and changes in medical or other technology and reimbursement rates for new technologies.

In management’s review of the quarter, they will make reference to adjusted EBITDA, which is a measure used by management to measure operating performance and to allocate capital. Adjusted EBITDA and similar metrics are commonly used in the healthcare industry as an indicator of performance and are also used as a measure of debt capacity and ability to service debt. Adjusted EBITDA should not be used as a measure of financial performance as defined under generally accepted accounting principles. The calculation of adjusted EBITDA excludes many items in its calculation, and as a non-GAAP measure, is susceptible to varying calculations. Adjusted EBITDA, as presented by MedCath, may not be similar to those other companies’ definition and calculations.

MedCath’s press release issued and posted on its website prior to this call provides a reconciliation from income from continuing operations, a GAAP financial measure to adjusted EBITDA, which you may find helpful in your review of MedCath’s quarterly results.

After management’s prepared remarks, there will be a question-and-answer session. (Operator Instructions) I would now like to turn the call over to Ed French, President and CEO.

Edwin French

Good morning everyone and thank you to our fellow teammates, physicians, investors, analysts, and other friends of MedCath for joining in this fourth quarter earnings conference call. With me today is Jeff Hinton our Chief Financial Officer.

For more than two years, we’ve been steady in our dedication to expanding our legacy hospital size through incremental cost expansions, expanding the medical staff base at our hospitals and diversifying the product line. The disappointing results for this quarter validate the need for the strategy to expand beyond a few small single specialty facilities and underscore the challenges of transformation until we get more critical mass and reduced volatility around certain markets.

We continue to be steadfast in our plan believing that through larger unit size and having more critical mass, lessening dependency on one product, we can create more predictability, looking forward to expanding our capacity by 24% within the next 18 months and by 34% within the next 36 to 42 months without any acquisitions and excluding shelf space is a good thing to add value to our properties.

Our transformation path takes us from being single product dependent with an average bed size of 61 beds 2 years ago to a multi-service acute care company with a 91-bed average hospital size in less than 2 years from now. That’s an average facility growth of 36% and 46% respectively excluding shelf space.

We have and are adding services and capacity for neurosurgery, orthopedics, gynecology, bariatrics, urology, ENT, and other specialties to many of our hospitals. The majority of our doctor partners have found the value added of providing diversified services and in other hospitals our cardiac caths are so significant that we enjoy market share that compels us to not diversify.

Our motivations for the diversification strategy we’ve touched on just a moment ago in several markets are many. One, we have a high per-bed investment in our legacy hospitals because they are essentially large intensive care units. It made sense to expand these units to lever the investment base. Because we have been #1 or #2 in our markets we needed to diversify to justify the expanded capacity capitalizing also on the differentiated quality and our ability to establish and maintain good doctor relationships. By diversifying our patient population, we will mitigate the risk of being dependent on one product and the potential changes in technology and procedures that come with it. This should create more predictability. Witness of the many changes in heart care over the past couple of years as testament to the product diversification being a good thing for the future, that’s our second justification.

Third, having multiple specialties represented among different medical groups and individual practitioners mitigates the risk of the changes that may occur with some medical groups and as they go through disruptions of re-organization, retirements, and other changes that affect them, some of which have adversely affected us in nearly every quarter this year.

Four, by being diversified we increase our ability to respond to changes in technology and processes that open new business opportunities. Our large operating suites and private facilities went well to spine and orthopedic surgery, bariatric surgery by example.

Five, another benefit is that as we make this transformation over time, we will take on a persona of a mainstream acute care company but with the facilities and core competencies that differentiate us as the high acuity company because of our strong mix in heart services that we expect to continue to grow.

The transformation itself is a time-consuming challenge but the headwinds of the uncompensated care and volume disruptions and changes in procedure mix and payments for those procedures over the past couple of years add to the complexity. The first 18 months of our transformation tied to fine-tuning aspects of operations that created more consistency while at the same time laid plans for getting beyond the problem of a small footprint nationally and with even smaller hospitals. Though there are operational improvements to be made, they’re not as material as the strategics that we need to address in each of our hospital markets.

From a capital perspective, we continue to make strides to add value to our shareholders. As part of our earnings release yesterday, we also announced that we will repurchase all of our 9-7/8th senior notes resulting in a $0.16 EPS accretion. We are doing so with proceeds from the new $75 million term loan and with cash on hand. The new credit facility also includes an $85 million revolver. Securing the new facility on relative positive terms in this credit environment is an indication of MedCath’s financial strength.

We also have capacity to seek expansions at other ventures and limited share repurchases. In an environment that has a chilling effect on many company growth plans and limits opportunity for most to anticipate growth due to economic limitations, we are pleased that our balance sheet management and ability to generate significant cash from operations allow us expansion opportunities.

Some comments about revenues: This quarter, our volumes are in line with expectations overall with adjusted admissions of 3.8% year-over-year. The increase came somewhat at the expense of inpatient admissions, and we’re down about 1.8% year-over-year partly because we’ve seen a shift to outpatient from inpatient stents. In this quarter, we saw outpatient stents decrease from 27.8% of the procedures in the third quarter to over 30% and up from about 17% at the beginning of this year. Our drug-eluting stent volume increased 18.1% versus the last quarter offsetting the shift to outpatient care and consistent with our expectations as we communicated in the last quarter’s earnings call. Bare metal stent volume is down 12.3% sequentially and is flat in outpatient mix.

Revenue per adjusted admission was up 1.3% versus last quarter excluding the impact of cost report settlements and 1.9% year-over-year. Influences on revenue growth will continue to be inpatient to outpatient movement and an expectation that some of the elective procedures will be deferred due to the country’s economic lows in addition to an expectation of some increase in charity care and bad debt.

Some comments about expenses: We see relatively flat labor productivity year-over-year on an adjusted admission basis, a 7% improvement on a per patient day basis. The shortage of labor in several markets especially for nurses and other technicians and technologists continues to put pricing pressure on average hourly rates over the past year, but we anticipate that the country’s economic problems may stabilize this a bit in some markets over the next year as some departures are deferred and/or others re-enter the workforce.

A big variable for us is that though we are seeing a significant shift from inpatient to outpatient service, we’ve not generally had a difference in practice patterns or a throughput management that changes how a service is actually delivered as it shifts inpatient to outpatient.

We’ve undertaken a demonstration projection in one of our hospitals to engage doctors and our clinical staff to redefine the processes that take place with managing that throughput. We expect to identify changes in process that should reduce by several hours the time patients spend in our hospitals post-procedure thus providing additional capacity at essentially same cost or reduced costs per procedure on average. We’re transporting the acquired knowledge to all of our hospitals and expect over the next few quarters to see productivity improvements as a result.

Supply costs have increased as we see implant cost go higher due to higher numbers of implantables in electrophysiology and due to drug-eluting stent increases. Uncompensated care has increased over the past year and we expect it will continue to increase over the next year though we expect to have less exposure than most acute care companies due to our having only one OB program and no Peds programs, those being services that are often magnets for bad debt flowing through emergency rooms.

Our development efforts are timely as planned. The Arkansas expansion in 2008 was completed in second quarter ’08 adding 28 beds and creating a 112-bed heart hospital in this successful Littlerock location. TexSan Heart Hospital’s new 60-bed unit allowing for a 120-bed acute all private room facility in San Antonio came online in fourth quarter ’08. The Louisiana Medical Center and Heart Hospital is expecting to open its new bed tower in early May.

We continue to work on developing the medical staff in this medically unreserved area and have added several primary care physicians in an employed model in the past quarter as well as additional cardiologists. Over the past year, the market has seen medical departures due to death, disability, and relocations. Hualapai Mountain Medical Center in Kingman, Arizona is on time and on budget expecting to be completed on October 15, 2009. Bakersfield has been scoping an expansion plan and that will result in 72 new beds. This is a project that we would expect to take 35 to 42 months to complete.

During the next year, we expect to add more counts to MedCath Partners as we have this past year involving ventures with doctors and other hospitals in cath lab management. We’re more focused on considering larger equity positions and fewer but larger accounts in the future because the smaller units will not likely add materially to our growth for this division.

We’ve invested in new operations and development management partners to seek those opportunities and because of the part B reductions from free stented cath labs this year and next we’re exploring whether some of those now owned by doctors might be candidates to convert to ventures with hospitals under the MedCath management model.

We’ve evaluated a number of potential acquisitions and developed market specific transactions during the past year. We’re being discerning because of the planned growth of our acquisitions, but we’re still eager to develop an acquisition pipeline as not-for-profits may want or need to monetize some assets for liquidity and/or de-leveraging. We also routinely have a number of market specific transactions under consideration that may create new alignments with other local or regional providers.

During this quarter, our chief operating officer was vacated. It will not be filled. I’ve gotten closer to operations and find it easier to advance strategic and operations efforts. I’ve also identified opportunities that will allow us to better and more quickly accomplish what we must to improve the mechanisms that define a cultural accountability at the hospital level.

Because of the changes in our medical staffs and the diversity of services we continue to add in some locations, we expect to add executive support for medical staff development. This is our changing medical staff compositions and we’ll address some of the doctor group disruptions that have contributed to this past year’s volume shortcomings. We’re expanding the medical base through recruitment, development, and services to make our hospitals a preferred place for doctors to practice medicine to a wider array of patients.

Before handing this off to Jeff for financial report, I want to address our current position on providing annual guidance.

The strategic plan that has improved our cash position, de-levered the company’s balance sheet that is adding same-store capacity, and assuring good quality continues to be our plan. We enjoy financial strength and economic stability unique in this environment, and of course, our goal is to be stronger through the multi-year transformation upon which we embarked in 2006, expecting that it will create more predictability in the future as we do so.

Our transformation is going to result in continued changes in patient mix and services, facilities and ventures that will evolve at varying levels at current and new markets. The dynamics of the economy limits visibility and volumes and uncompensated care. We will be measured based on what we have and what we can accomplish rather than predictions that we make based on limited visibility. But that shouldn’t be interpreted to mean that we have fewer expectations for our growth. To the contrary, we’re working harder than ever to continue to evolve and transform MedCath to be mainstream acute care company differentiated by quality and high acuity. We have more conversations taking place for the development pipeline than we’ve had in the past. We’ve got a team committed, dedicated, ultimately qualified at our hospitals and our service centers to make this happen. We want to continue to improve our processes so that we can participate in a way that is best for our shareholders in future transactions.

Our team is energized and believes in our plans. Whether we beat or miss guidance is less important from our perspective than adding value to executing our strategic and operating plans and communicating those results. For these reasons, we’ll not be giving annual guidance now or in the future.

So, with that, let me hand this off to Jeff at this time for the financial report.

Jeff Hinton

As Ed mentioned, this week we completed the syndication of a new $160 million three-year senior secured credit facility. The credit facility consists of a $75.0 million term loan and an $85.0 million revolver. Proceeds of the term loan will be used to repurchase all of MedCath’s outstanding 9.875% Senior Notes, while the revolver will replace MedCath’s existing revolver. The fact that this refinancing was successfully completed in one of the most difficult credit environments any of us have experienced at a time when our results over the most recent 3 months were disappointing demonstrate that our lenders believe in the strength and stability of our model and our longer-term strategy.

We will use the proceeds of our new term loan plus cash on hand to repurchase all of our 9-7/8% senior notes significantly lowering our cost of capital and providing approximately $0.16 in accretion per share annually at current LIBOR rates. We will pay a $5 million premium to repurchase the note that is required under the indenture and write-off approximately $2 million in financing cost. Both of these items will be reported in our first quarter results.

Through the refinancing, we will continue our ability to invest in existing and new capital projects, make acquisitions, and participate in limited share repurchase. With the financing now in place, we have also moved $75 million in current liabilities down to long term. We received solid bank support for this financing, and I want to publicly thank our lenders, both old and new, for their participation in our new facility. We ended the year with net debt of $55.5 million, cash was $94.2 million, of which $50.2 million resides at our hospital subsidiaries. We also expended $21.4 million on development capital expenditures.

Adjusted free cash flow, defined as cash flow from continuing operations less maintenance capital expenditures and adjusted for our semi-annual bond interest payment in the fourth quarter, was $8.1 million or $0.41 per fully diluted share, significantly greater than our GAAP EPS. Also contributing to our cash flow was sequential reduction of DSO of 2 days.

And looking at the operating results for the quarter let me first address the factors that negatively impacted the quarter. First, we recorded a $1.4 million reduction in net revenue resulting from the settlement of prior year cost report at two of our hospitals. The cost report issues were back as far as 2003. Secondly, we incurred a $0.9 million increase in other operating expenses related to the settlement of a dispute in our MedCath Partners division. This is the same case we referenced last quarter discussing increased legal fees of $0.3 million.

Moving to current operations and excluding the charges I just listed, our EBITDA was approximately $8 million below anticipated levels. I believe the three most important items to focus on are; number one, the changes in volumes, primarily admissions, at two of our hospitals that contributed to lower-than-anticipated earnings; number two, the impact of uncompensated care; and number three, the impact of a change in historical payment rates by an un-contracted payer in one of our markets.

So, first to discuss volume; this quarter we had net revenue of $150.9 million versus $145.1 million in the prior year, a 4% increase. This increase was due to higher revenue in our same facility hospitals, which grew 4.7% year over year, but was down 3.6% sequentially. To put our net patient revenue in perspective, the hospital division net patient revenue was up approximately $8.3 million or 6.4% over the prior quarter, reflecting an $8 million or 22% increase in net outpatient revenue and a $0.3 million or 0.4% increase in net inpatient revenue. Sequentially, hospital division net inpatient revenue was down $4 million or 4% and net outpatient revenue was down $0.6 million or 1.4%. For the full year, hospital division net patient revenue was up $22.8 million or 4.2% increase, net inpatient revenue was down $15.8 million or 3.9%, and net outpatient revenue was up $38.6 million or 28.9%.

As I had mentioned, we are generally satisfied with our same facility hospitals year-over-year net revenue growth. However, two hospitals that did not meet revenue expectations were unable to reduce costs accordingly in the neat-term and encountered a disproportion of a large reduction in earnings when compared to their prior quarter performance. We believe that the lower volume in one of these hospitals is episodic and does not represent an adverse trend unique to that market. Lower volume in the second hospital is reflective of a recurring problem noted last quarter and will continue to present near-term challenges as we work diligently to resolve that market-specific issue. Together volume reductions at these two hospitals accounted to approximately $3 million of the $8 million sequential EBITDA shortfall.

Overall, our adjusted admissions were up 3.7% year over year, but down 3.5% sequentially. Admissions were down 1.9% year over year and down 5.5% sequentially. Our commercial mix held steady this quarter with the third quarter and self-pay admissions mix was down slightly.

The second issue is uncompensated care. For the quarter, our uncompensated care, which includes charity care and bad debts, totalled $14.9 million, up from $10 million last year and up from $13.9 sequentially. The sequential increase of $0.9 million is a net of a $2.1 million increase in bad debt expense and a $1.2 million decrease in charity care. The primary reason behind the increase in bad debts is an upward revision in reserve levels to reflect our current assessment of ultimate collections on a payer-specific hospital-specific basis. The two areas most notably identified in the increased reserves relate to the patient portion of commercially insured claims and our ultimate success in qualifying patients for Medicaid.

These reserve factors have historically been recalculated once a year at year end for all payers and supplemented on an interim basis by additional reserves as identified and required. Going forward, these factors will be recalculated each quarter, and any additional exposure not adequately addressed and looked at will continue to be added there too. The third item impacting our sequential decrease in our earnings is reserves taken for lower anticipated collection from a non-contracted health plan that has historically covered a large volume of ER business at one of our hospitals. This reserve accounted for an additional charge of $0.9 million to the quarter.

There are also two noteworthy items in the quarter below the EBITDA line, income tax expense of $1.7 million or 81.6% of pre-tax income for the quarter. The high effective tax rate in the quarter is due to lower-than-expected pre-tax earnings for the year and other year-end adjustments necessary to arrive at an annual rate of 42.5% which we believe will be required for 2008. Our best estimate of an effective tax rate going forward continues to approximately 40%. You will note a decrease in interest expense in the quarter and the decrease is primarily the result of capitalized interest of $1.1 million on our construction projects in Kingman, Arizona, and St. Tammany Parish, Louisiana. We have not had a significant amount of capitalized interest in prior quarters.

Before I turn the call back to Ed, I would want to mention a few other items that we can speak to you concerning 2009. First, as it relates to share-based compensation, we’ve made a change in our vesting policy for new grants, which will vest over a standard vesting schedule in lieu of the current immediate vesting and expense. This should reduce the volatility that we’ve had in the past regarding this expense. Secondly, we have already mentioned that we expect interest savings under our new credit facility of over $5 million or $0.16 per diluted share on an annual basis and assuming current LIBOR rates. Also, we have been notified by one of our hospital venture partners in MedCath Partners division that they will be exercising their rights to acquire our partnership interests as permitted in our partnership agreement. If they do so we expect to see adjusted EBITDA and minority interest decline approximately $2.3 million and $1.5 million respectively for this transaction. We also expect to receive approximately $7 million in cash proceeds for the sale.

With that, I’ll call turn the call back over to Ed.

Edwin French

Thank you. Julianne, we’re ready for our questions now please.

Question-And-Answer Session

Operator

(Operator Instructions) Your first question is from the line of Darren Lehrich with Deutsche Bank.

Darren Lehrich - Deutsche Bank

A few questions here; the first one, I was wondering if you could update us on your active medical staff and where you are at fiscal year end and where you were at the prior fiscal year end, I am just trying to gauge the activity on your medical staff, it sounds like you need to do some further development there, but I just wanted a square, where you are with medical staff versus the bed additions that you have?

Edwin French

It’s a market by market question. We’ve got a lot of stability in some of our markets with doctor groups that have been and are stable that are growing and performing nicely. We have others that have been around for a long time, they are mature with doctors that are developing other interests, they are still trying to bring in new partners, establishing new posts, new locations, and those disruptions obviously have a different bearing in that market. And we have of course the growth opportunities where we’re adding capacity. We’ve added in one hospital where we have a growth plan, in Louisiana, just this year six new primary care physicians, two cardiologists, and recruiting 11 more, and having discussions ongoing with a number of others so that when we open the hospital we will have other new services brought on. We recruited for that hospital over the last 18 to 20 months probably about 50 new physicians from the market as well as from outside, most of who are splitters. We have added in TexSan surgeons who have already started a bariatric program, and we’re expecting that to get off to a pretty aggressive start with 4 doctors in a major practice there, and we’re having conversations with a number of other specialties and have been about adding services. Some of the services we hope to add there would include neurosciences and orthopedics as well, and of course, Arkansas has added heart. The point I should make about this is that while we’ve announced and are embarking on a diversification strategy, until we opened Texsan’s new beds a couple of months ago, we still had the legacy heart hospital beds and the addition of Arkansas which are also heart hospital bed additions. So we’re just now really beginning to diversify capacity expansion, and that portents opportunities, and to bring in new doctors now, we have the capacity and the commitment to offer those services.

Darren Lehrich - Deutsche Bank

In this market where you’ve had a little bit more of a precision and it sounds like it’ll be continuing on with med staff issues, can you just talk to us about your strategy there? How does that resolve itself and how long does it take?

Edwin French

I’ll be a glad to do that. That’s a hospital with a mature group, and we’ve really been relying upon one group for the preponderance of our business in the decade or so that that hospital has been around, and that group is in a very dynamic market. It had to go through some transformation of its own as members had moved to other locations within the community, established other relationship, had to commute it down to where we are, and we’ve had to recruit around them. Our strategy now is to deal with other groups in addition to that core group. So for the first time to the best of my knowledge since the hospital has been there, we have been assertive just within the last weeks through our local CEO and also with the engagement of others among us in the hierarchy to meet with the new physicians, and one group has already started performing new procedures. It’s going to be an ongoing process, but I’m expecting that we’ll get a couple on the backside of this with the larger medical staff, not single group dependent, perhaps a changeup of services of some kind, vertically integrate it but still relate it to cardiovascular care, and also reexamining our commitments to parts of service that perhaps relate to research for example, closer examination of what the impact of that is on our practice and how we might change our processes to adapt. So clearly that clearly is a turnaround, and we’re very much engaged.

Darren Lehrich - Deutsche Bank

Will that require a resyndication do you believe?

Edwin French

It’s one that we’d be glad to have. We own the majority of shares in that hospital, much more than 50%, and we’ve extended the opportunity to other groups to come in and establish strong presence with equity.

Darren Lehrich - Deutsche Bank

My other question relates to bad debt. Obviously, you had some catch-up in your reserves based on the new process, and if you backed those out, I’m not sure it’s really appropriate back all of them out, but Jeff it looks like a bad debt number of about 6%, which still seems kind of low. What do you view as the number in the period you’d be moving forward with?

Jeffrey Hinton

I think that’s a fair assessment. To get comfortable around answering that question, we took the revised factors, which is not a new accounting policy. We’ve done that every year on an annual basis as I mentioned, but to take those reset factors, we also applied them to our June 30th AR trial balance and came up with about the same adjustment of $2 million, so it’s hard to build a case, and much of that erosion if any actually occurred in the fourth quarter. Our best estimate then was based on two things; the factors rebuilt for last year and supplemented by any additional known reserves required. So moving forward, we will be resetting those factors again every 90 days, so if there is any catch-up factor, it’ll be quite current going forward.

Darren Lehrich - Deutsche Bank

Lastly, just for housekeeping, pro forma for the refinancing, what would you cash balance be and then the availability on the revolver?

Jeffrey Hinton

We used $32 million of our cash to make the note repurchase, and fully utilized the $75 million term loan, and we’ll have an undrawn $85 million revolver going in to this quarter at this point.

Darren Lehrich - Deutsche Bank

So your net debt basically would be about right around $50 million?

Jeffrey Hinton

Yes, that’s about right.

Operator

Your next question comes from the line of Rob Hawkins with Stifel Nicolaus.

Rob Hawkins – Stifel Nicolaus

I know you guys really don’t want to provide guidance, but if you guys could give us a sense of what the earnings power of yours is. I took a shot at it in my note this morning, but maybe wanted go through the components with you guys. I kind of think it’s important to try to figure this out for the stock going forward at least, given where it’s opened. It looks like to me you think you’re going to still probably have problems in that one market impacting you for the better part of next year. Am I putting words in your mouth on that?

Edwin French

No, I’d say that’s pretty accurate. It’s going to make an impact, but we’re going to expect improvement in that market this next year relative to past year.

Rob Hawkins – Stifel Nicolaus

I’m troubled a little bit about the $1 million related to the folks who changed policy on you. It sounds to me like you just aren’t going to admit those people anymore, so it probably won’t be a bad debt number, but you’ll probably have some sort of revenue impact, EBITDA impact related to those folks, and so I’d probably just take the two. Am I looking at this right? I’d probably just take the $2 million out of your bad debt number to kind of come up with like a 6% to 6.5% kind of run rate on bad debt, and then if I assume the seasonality is fixed in the other hospital, I’m coming in somewhere between $0.20 and $0.25 on what you guys could do, probably not adjusted seasonality. Is that roundabout right?

Jeffrey Hinton

I’d agree with that Rob. Let me tell you how we get there. I think we’re probably arriving at the same point. If you start with our GAAP EPS of $0.02, as you run those prior year adjustments through the tax calculations and minority interest, the settlement of the MedPartners of $0.9 million, that’s $0.03 a share. As you take the prior year call support, that’s another $0.03, the $1.4 million tax affected, minority interest affected. So that takes you up to $0.08. We spoke to the tax effect, and if you were to put a more normalized tax effect on the quarter, that $0.04 a share because we were at 81.6% effective tax rate. So that’s a base if you will of $0.12. Again if you take the bad debt adjustment which can arguably be attributed to activities that were heading into the fourth quarter, that’s $0.06. Obviously there are factors that we’re looking at with unemployment and other factors, so we’ve got to look at it perspectively, and that does not take that into account, but that would put you at a base of $0.18, and applying a pro forma quarterly interest savings of $0.04, you’re sort of adjusted out at $0.22. From there, you make whatever your market assessment as to the timing of turning around the volume of these two hospitals.

Rob Hawkins – Stifel Nicolaus

So it looks like $0.22 at the base assuming you can maybe fix some of those hospitals. That’s helpful. Can we maybe go over the bad debt reserve policy, and I apologize because everybody has a little bit of a different policy, but how do you handle co-pays and deductibles? When do reserve for them? What percentages? What’s your charity care? What’s your discount policy? Can you kind of give us a sense of that, so we can see at least where we are right now relative to where some of the other guys are?

Jeffrey Hinton

We’d be happy to do that, although Rob we have not publicly stated how much our dilution is by payer class. I think generally we can say that our self-insured patients are getting somewhere in the 5-7% of charges rate, and that’s pretty typical in the market place, but let’s talk first about charity care. Charity care is the patient population that we identify upfront as qualifying with our financial hardship guidelines. We identify that, qualify that, and never record that in that revenue, so that’s why we break those two numbers out for you. In the fourth quarter for example, looking at charity care, it was $3.2 million in the fourth quarter of 2008, and $11.8 million in bad debt expense. The bad debt expense is driven by the payer class. It is specific to payer class and hospital factors, and we look back over time as to what we’ve ultimately collected by those classifications and apply that to the unpaid balance at each hospital’s AR trial balance. There are always things that we have to take into account above and beyond that as I mentioned. If you have a change in the fee schedule or a new payer, we’re always supplementing that. There could be new procedures added that don’t show up in our systems, and so we have to calculate those specifically, so we are always adding to the model, if you will, for the historical factors, but we’ve always completely rebuilt those factors once a year, and we did so in the fourth quarter, and we’ve also implemented additional tools that will make that rebuild much faster allowing us to do it each quarter, so the only thing that’s changing is just the frequency with which we’re going through that additional rebuild, and we’ll continue to look qualitatively at the AR trial balance by hospital and payer.

Rob Hawkins – Stifel Nicolaus

Do you centralize this within your own company or do you outsource part of the revenue cycle collections and booking process, or do you outsource if at all, and how is it centralized or decentralized?

Jeffrey Hinton

There is centralized management and control of a hospital process, so we have a central AR template that walks through the calculation. I personally review it with each hospital CFO each month with our corporate accounting staff, and that’s just more for me to be aware of trends and changes that are going on in each of our markets, and therefore we conduct our corporate review, but it’s actually performed at the hospital level in review with us.

Rob Hawkins – Stifel Nicolaus

With respect to your guidance, the way you’re saying that you know what our strategic plans are, are you saying you’re going to communicate your strategic plan and then kind of let us know when you’ve hit them? Will you give us the full details on the plan? Do we have any benchmarks to go with going forward?

Edwin French

If there’s one thing I feel pretty good about, it’s the fact that the plan as you know what it’s been for 2-1/2 years, that plan, to refresher, is to do the following. Standardize our systems, largely done from an operating standpoint now. Finish out incremental bed space at incremental costs; the plans are underway as you know. We have done that in two hospitals already, add bricks and mortar in Louisiana, De novo project Wallaby, add MedCath partner deals, and buy hospitals. We’ve done all of those except for buying a hospital, and we still have others of those things to do except right now we are not finishing off more incremental space on the current plans, but we’re adding capacity with new bricks and mortar. So that plan is the same, and if nothing else, I hope we take comfort knowing that it is not changing year to year and at our board of director meeting this week, we affirmed that’s the plan that we are all in agreement with, it was a good plan, it is the right plan, it’s a transformation plan, because we’re getting away from the specialty hospital monitor at some point, leveraging our strengths and our specialty in heart care, and growing exponentially quicker as we add new capacity and adding new medical staff. So it’s a transformation plan. I feel pretty good about that. Despite this quarter’s results, I sure am not going to retreat from my enthusiasm about us doing the right things the right way right now.

Rob Hawkins – Stifel Nicolaus

Say you’re adding 24% bed capacity. Is there a sense that when we might see 24% revenue growth and or 24% EBITDA or better growth? Is there some sense of guidance you can give us or give us a sense of both maybe timing and magnitude of what you’re seeing, maybe at least a 1:1 or 75% or 125% correlation to what the capacity is, maybe not today, but maybe could you think along those lines?

Jeffrey Hinton

We’ve announced in times past that our expectation on the marginal cost expansions that we’ll accrete 40% in margin, and that’s a material number. That recognizes that our flat line operating margin as it is today is materially less than that, so we’ll get the marginal cost pickup. As for new expansion, we would not assume pro forma that 100% of available beds are full. In fact, what we have said in times past is that if we build a hospital, our expectation is that at the end of the first year, we will have a run rate equal to about 50% of available beds. See I’m fixing you up here, so you can build models around this. Then in the second year, we would expect to have a run rate that gets us closer to 60% or so, and then third year maturity, so I’d say first year you can say 40-50% of available beds, second year 50-60%, and after that perhaps 60-65%. We could perhaps run as high as 70% or so because we are running all private rooms. Our average today is close to 70%. I’d rather not suggest you do that just because of our position that it’s easier to underestimate what might be and not be disappointed on that front.

Operator

Your next question comes from the line of Erik Chiprich of BMO Capital Markets

Erik Chiprich - BMO Capital Markets

A couple of questions on Louisiana; I’m not sure if you’ve mentioned it. You gave a comprehensive list of the types of doctors you’ve added. Can you give us the types of doctors who have left? What’s been the net add of doctors at that facility?

Edwin French

The net add of doctors at the facility I want to estimate. New doctors by the way from outside the community would be about 4, and net add of many more than that, so I don’t have a number for this year who are within the community who have joined the staff.

Erik Chiprich - BMO Capital Markets

I think you guys in the past have had some projections out there that with the expansion you initially thought that could provide you with maybe $7 or $8 million of EBITDA in the first year. Is that something that you still think is achievable? Can you just update us what’s the dynamics in that market?

Edwin French

Sure. When we made those estimates we made them in the context of the businesses we knew it to be then. Today, because the economy admittedly is making a difference in how we do what we do, I’d say with each market we have made a judgment based on what we best know about that market relying upon our hospitals to push up their expectations. So it’s not a matter of us going out and pushing down what ours are, except that I don’t mind telling you that in the beginning I said to everybody that the budget has to reflect the pro forma and the announcements as we publicized them to be, and we would retreat only for justifiable reason and a one-off instance based on market conditions.

Erik Chiprich - BMO Capital Markets

You mentioned the economy there. I just wanted to get a little bit more insight on that. Your comments in the press release and you talked about potential weakness in volumes. Is that stuff that you’re starting to see or you expect to see, and if you are starting to see it, in what procedures and in what regions are you seeing the most economic pressures?

Edwin French

I think that Deutsche Bank put out a study recently talking about hospitals about where they are located and various unemployment exposure, and if I recall the numbers correctly, we are most advantageously located by our markets because of higher employment and lesser risk of unemployment, so I think as the industry goes, we should probably see less volatility around weakening volumes that might be tied to demand based on folks who don’t want to exercise elective procedures. We have seen some. I would say those electives probably relate more to, certainly because of high volume is cath and is cardiovascular care, relate primarily to cath procedures, and I would suggest those are probably diagnostic caths and/or angioplasties.

Erik Chiprich - BMO Capital Markets

Could you talk a little bit in the quarter open heart, and I think you mentioned EP. How did the ICD volumes do in the quarter?

Edwin French

During the quarter, our surgeries open heart only compared to prior year on a same-store consolidating basis down 8.2% for Q4 compared to prior year same quarter. The cath lab procedures involving pacers up 4.3%, AICDs up 7.1%.

Jeffrey Hinton

Also sequentially they are down 2.2%, open heart.

Erik Chiprich - BMO Capital Markets

I know in the last call you had given some expectations for the shift of stenting from inpatient to outpatient at 33% to 50% of what it had been done inpatient can now be done outpatient. Are you still comfortable with those trends? Anything that is trending that would cause you to look differently at that?

Edwin French

Erik, let me back up for a minute. What I gave you were Q3 stats. The Q4 stats are on open heart is up 2.3%, and the ICDs and pacers are still up. The ICDs up here 10.9 and pacers are up 11.8.

Jeffrey Hinton

In terms of your question about the volume of stents that could be done on outpatient basis, I don’t think anything has changed in our assessment of what ultimately level out to. We did mention that we expected that the increased drug-eluting percentage would help offset any migration from inpatient to outpatient, and we are seeing lower supply costs on stents as well, and the net of all three of those factors was actually favorable from Q3 to Q4. We are encouraged about that.

Erik Chiprich - BMO Capital Markets

On the TexSan expansion that opened in the quarter, any thoughts there on the costs that were involved and any dilution in the quarter that you can point out to?

Edwin French

The hospital was built at $55 million cost approximately, and our commitment to the new project is about $11 million in round figures, and so that means for 20% more dollars invested, we expanded capacity by 100%, and the answer is that so far we can’t attribute any dilution to earnings because of that expansion at all.

Operator

(Operator Instructions) Your next question is from the line of Gary Taylor with Citigroup.

Gary Taylor – Citigroup

Given the extra bad debt allowance this quarter, could you give us a total balance sheet allowance for doubtful accounts?

Jeffrey Hinton

I don’t have that number handy. I think we reported net of allowance.

Gary Taylor - Citigroup

So do we see that number in the Q or only in the K?

Jeffrey Hinton

Hold on just a minute. The total allowance is $57.9 million at September.

Gary Taylor - Citigroup

On the same topic, I want to make sure I understood your answer to a previous question. I think the question was trying to get around of the $2 million impact on EBITDA this quarter related to lower collection rates, I think the analyst was trying to kind of figure out what was related to current quarter versus prior periods and I think you were suggesting that really none of that was related to the current quarter. Did I understand that correctly?

Jeffrey Hinton

Yes. Let me walk through what I said again. We rebuild those factors annually, and we did so in the fourth quarter to try and determine just how current any additional reserve requirements were actually created. I went back and applied those same factors to the June 30 trial balance, and saw that that would also yield about a $2 million increase in reserves, so it’s difficult to build a case that what we now know has been the result of erosion to any significant degree in the last three months.

Gary Taylor - Citigroup

Taking place over the course of the fiscal year, you’re saying?

Jeffrey Hinton

That’s correct.

Gary Taylor - Citigroup

On the lower collection rates, you’re saying most notably on co-pays, you talked about a 5-7% collection rate on self-pay, what is the type of collection rate deterioration you’re seeing on co-pay, from what to what?

Jeffrey Hinton

I don’t have those numbers for you. Again the only number we can give you is the self-pay, which is in that 5-7% range. I just don’t have it available, but that is the class that contributed most to the $2 million change with the Medicaid pending being the second largest contributor.

Gary Taylor - Citigroup

On the 0.9 EBITDA impact, this is essentially out of network ER payment. Can you tell us what market that was in?

Jeffrey Hinton

No. We won’t be that specific for competitive reasons.

Gary Taylor - Citigroup

We’ve seen a trend in the industry particularly in California, but how material is out of network revenue overall to the company if we saw a continuing trend? Is this potentially a material risk factor if you saw more of this?

Edwin French

Gary, at one point, it was much more material than it is today. That’s because we weren’t in managed care plans. There were managed care plans in most of our markets, and most of our markets were in the ones we wanted to be in, so we have relatively little exposure out of network. I’d say overall not material in the context as we would define materiality.

Gary Taylor - Citigroup

Your strategy has certainly to get into those contracts, so it shouldn’t be a lot of that. On the two hospitals where you’ve seen the sequential decline in patient volumes, can you tell us which two those are?

Edwin French

No. I don’t want to get specific right now with them Gary. I’ll tell you what I’ll do though. One particularly is the turnaround that I told you about, and if we don’t get that thing next quarter to the point where I can come back and say, okay, here’s the progress we’ve made, we’re pleased with the progress, I’ll be ready to speak to specifics.

Gary Taylor - Citigroup

And one other adjustment related to the settlement of a non-patient dispute between MedCath Partners. I don’t want to overlook that in light of some of the other issues in the quarter, but can you give us a brief summary of what that was and help us to understand whether there was any potential problem that could be recurring in any other of those contracts?

Edwin French

Good questions. One, it’s not a recurring problem. We don’t see that exposure elsewhere. It relates to how we valued stents that flowed through for use in patients, and when they were calculated by the hospital in the context of our overall pricing on a per procedure basis when we worked out the contract with the hospital, and quite frankly, it relates to the period when the drug-eluting stent volumes were dropping off in favor bare-metal stents and then started coming back and we had just a shift of mix that wasn’t contemplated in the original agreement, and we just had a disagreement, and frankly the disagreement was such that the hospital felt that we had received $1.8 million more in reimbursement than we were entitled to under the formula. We felt they were entitled to nothing, but as we got into it and looked at what happened, we thought perhaps there was enough ambiguity in the agreement that we essentially agreed to split the difference.

Gary Taylor - Citigroup

Where is your drug-eluting stent penetration now? I don’t believe you mentioned that in your remarks.

Jeffrey Hinton

On a consolidated basis, it’s just under 60%.

Gary Taylor - Citigroup

One of the other things I saw in the quarter was the length of stay of 7% year over year. Is that out of the mix shift towards outpatients and what you’ve got left on the inpatient side?

Edwin French

That’s good insight Gary. That’s exactly what we attributed to.

Gary Taylor - Citigroup

Are you selling a cath lab venture? You had mentioned a $2.3 million EBITDA minority interest wash for $7 million.

Edwin French

Rather than saying we’re selling it, I’d rather say if the other party wants to buy it because it wasn’t a sale, but under our agreement, it’s a 10-year-old agreement with that hospital, they have an option to purchase the cath lab at a predetermined formula at a multiple of net operating income. They chose to exercise that option. The end result though is of course we get the cash from the transaction and there will still be a run on source of income because we’ll be leasing them the technology that’s now in cath lab.

Gary Taylor - Citigroup

When should that take place?

Edwin French

We’re expecting sometime this quarter, early next quarter. It takes time to do these things, and I would say perhaps next month or two.

Gary Taylor - Citigroup

What’s the revenue that should come out of our model for it?

Edwin French

We’ll look it up here.

Jeffrey Hinton

We will go on the next question. I’ll look at that number and give it to you Gary.

Gary Taylor - Citigroup

Why is that a EBITDA minority interest wash? I would have thought that the EBITDA piece was bigger, and their minority interest was related to their percentage ownership, but you are saying 2.3 out of EBITDA and 2.3 out of minority interest.

Jeffrey Hinton

The $2.3 million is the net of two things. One the sale of our interest which goes away but the continuation as I mentioned of some equipment they were leasing to the venture that we will continue to do, and the minority interest is the run rate of minority interest.

Operator

Your next question is from the line of the Steve Valiquette with UBS.

Steve Valiquette - UBS

I’m not sure if you covered these already but question one, at what price are the bonds being redeemed? And question two, for the term loan, is this a syndicated deal and if so, is it already syndicated?

Jeffrey Hinton

Yes. In the first question, the takeout price is just out of 105, it’s half coupon, and so that will be done December 15th. It is syndicated and closed. We closed on Monday.

Steve Valiquette - UBS

I’m just trying to think through the thought pattern here because hypothetically you could have announced these earnings. The bonds could have sold off maybe dramatically more and you could have tendered for something, and price may be in between, the redemption price and something in the 70s where they might have been trading in light of the earnings. I’m not sure if you thought through some of that and also are these earnings reflected already into the term loan pricing or is this all kind of new information? The deal was already done, syndicated, etc., and now you are providing fresh earnings run rates that the market was not familiar with previously. I’m trying to get some color around all that.

Jeffrey Hinton

Certainly. Good insight there. Let me address the first one in terms of the takeout price. We did in fact think through that quite creatively, but unfortunately in getting banks to make commitments, they do not want to make unfunded commitments. It is a very difficult market. The structure that would have allowed us to receive the commitment and delay the funding is one that was accompanied by a pretty hefty take-in fee that would have in light of an uncertain outcome and a fully funded ability that’s hurting us not to take out, so it just didn’t make a lot of sense, and so that’s why we proceeded with the plan to purchase the notes as required by the indenture, and secondly the banks are fully aware of our fourth quarter results. There was absolutely no surprise there before the syndication was committed. We would not do that to our banks.

On the prior question to Gary had on the venture, that net revenue was about $12.5 million a year on full-year basis, so if you take that out on a partial year basis, one third of that depending on when it closes or one quarter of that, it will be a pretty good adjustment.

Operator

There are no further questions at this time. I’ll now turn the call back over to Mr. French for any closing remarks.

Edwin French

Thank you all for participating today and for your questions, and we appreciate you joining on the call. Thank you.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!