NightHawk Radiology Holdings, Inc. Q3 2008 Earnings Call Transcript

NightHawk Radiology Holdings, Inc. (NHWK)

Q3 2008 Earnings Call Transcript

October 29, 2008 4:15 pm ET

Executives

Andrea Clegg – VP of Finance and Corporate Treasurer

Paul Berger – Chairman, President and CEO

Tim Murnane – EVP and COO

Dave Sankaran – SVP and CFO

Analysts

David Veal – Morgan Stanley

Nicole Viglucci – Accipiter Capital

Shelley Gnall – Goldman Sachs

Sean Wieland [ph] – Piper Jaffray

Kevin Elliot – RBC Capital Markets

Brook O'Neill – Dougherty & Company

Kemp Dolliver – Cowen & Company

Presentation

Operator

Good afternoon, ladies and gentlemen. Thank you for standing by. Welcome to the NightHawk Radiology Services third quarter 2008 earnings call. (Operator instructions) This conference is being recorded today, Wednesday, October 29, 2008. At this time, I'd like to turn the conference over to Ms. Andrea Clegg, Vice President of Finance. Please go ahead, ma'am.

Andrea Clegg

Thank you. And good afternoon, everyone, and thank you for joining us. I would like to welcome you to the NightHawk Radiology conference call to discuss the Company's results for the third quarter 2008. By now you should have received a copy of the press release which was sent out a short while ago, and if you still need a copy you can access it on the Investor Relations section of our website at www.NightHawkRad.net. On the call this afternoon we have Dr. Paul Berger, our Chairman and Chief Executive Officer; Tim Murnane, our Chief Operating Officer; and Dave Sankaran, our Chief Financial Officer. After management completes their prepared remarks, we will open the lines for your questions. Please note this afternoon’s conference call is being recorded and will be available for three weeks on our website. I want to remind you that management will be making certain forward-looking statements in their remarks. All statements, other than statements of historical fact that address activities events or developments that the Company believes, anticipates, intends, estimates or projects and similar expressions are forward-looking statements. These forward-looking statements are based on assumptions and assessments made by the company’s management, based on factors they believe to be appropriate in light of their experience. However, these forward-looking statements are subject to risks and uncertainties that could cause actual results and business decisions to differ materially from those contemplated by these statements.

We describe these uncertainties and risks in the Risk Factors section of our periodic reports filed with the US Securities and Exchange Commission. The Company undertakes no duty to update or revise any forward-looking statements made during this call whether as a result of new information, future events or otherwise.

Finally, we will be presenting certain financial measures on this call that will be considered non-GAAP under SEC Regulation G. For reconciliation of each non-GAAP financial measure to the most directly comparable GAAP financial measure, please refer to the information included in our press release and in our SEC filings, which can be found in the Investor room section of our corporate website.

Now at this point, I will turn the call over to Dr. Berger, NightHawk's Chairman and Chief Executive Officer.

Paul Berger

Thank you, Andrea. Good afternoon everyone, and thank you for joining us. Well, these are certainly unprecedented economic times. For NightHawk, this past quarter was a mixed bag of encouraging signs and clear challenges. To start with the challenges, we did not see the typical, sequential growth in volumes that historically occurs during the summer months. To be clear volumes did grow sequentially, just not at the levels we have historically experienced. There is little doubt that the changing economic situation has impacted our volumes, as evidenced by lower ER visits and some healthcare being deferred by patients. This volume shortfall created a clear challenge to prudently manage the business, and in that regard, we made progress.

We carefully managed our costs driving a 13% sequential increase in adjusted net income on modest revenue growth of 1%. I am pleased that our business model remains on very solid ground as we continue to add new customers and demand for our services remains strong.

Another strength for NightHawk is our healthy balance sheet and robust operating cash flow. We ended the quarter with over $55 million in cash and during the third quarter we reported record cash flow from operations of $9.6 million. That makes a total of $22.9 million in cash flow from operations during just the first nine months of 2008. Dave will update you on the details of our financial performance in a few moments.

On the operational front, Tim and his team are making good progress. On our last call we identified key areas where we were underperforming, namely sales execution, physician scheduling and overhead spending. Tim and the rest of the management team have quickly moved from diagnosing the problem to solving them. Tim will update you on our progress on these fronts following my remarks.

As I've mentioned on earlier calls, the landscape is changing in the field of radiology, and I believe NightHawk is best positioned to help our customers successfully navigate those changes. As our customers face increasing reimbursement and economic pressures along with continued recruiting challenges, and increasing requirements for subspecialization, I believe radiologists will increasingly turn to NightHawk for our solutions. We are confident that our offering will allow our customers to drive increased efficiency, and to enhance and grow their practices while improving patient care.

I'll come back prior to taking questions and provide some additional comments but for now, let me turn the call over to Tim.

Tim Murnane

Thanks, Paul. I'm pleased to report that we are seeing the initial results of the improvement efforts we outlined on our last earnings call. You will recall that we are focused on process, quality, and productivity improvements in the key areas of sales execution, customer service and satisfaction and cost leverage.

We are seeing clear impact of our efforts in improved customer service levels, higher sales bookings, and lower overall costs. Although we are pleased with the progress we have made, we will continue to make further improvements in each of these areas in the months and quarters ahead. As mentioned a quarter ago, we installed new sales leadership and reorganized and expanded the sales team from top to bottom. These changes broadened our sales reach and improved our responsiveness to customer needs. We are impressed with this new team, as they have rapidly made an impact, most notably demonstrated by increased bookings in the third quarter from the second quarter.

In fact, each quarter this year has shown a sequential increase in new business bookings. We are also showing marked progress in gaining traction with our new service offerings, namely final reads and contracts that include business services. During the quarter, over 70% of our new bookings were from these types of services. Looking forward, the new sales team’s efforts have resulted in strong growth in our sales pipeline, and we are optimistic about our ability to continue to drive new bookings.

The second area of improvement focuses on service levels and customer satisfaction. On this front we made solid progress, as our average turnaround times declined by an additional 10% during the quarter, and are well below customer expectations. While lower average turnaround time is important, outlier studies with long turnaround times are an even more critical measure. In this regard, we also track the percentage of studies for which the turnaround time exceeds customer expectations. This critical metric improved by another 22% during the quarter. Bottom line, these improved service levels are having a positive impact on customer retention.

The third area of focus is our cost structure. You will recall from our last call, that in May we began to focus on productivity in all functions, and to take action to improve the efficiency and lower overhead costs. To start, we reduced headcount in May and reduced other spending in several areas of the Company. Those actions resulted in annualized savings of $3 million. In the third quarter, we continued this effort focusing on redundant facilities and again on productivity. As part of that effort, we consolidated our headquarters into one facility in Coeur d'Alene, Idaho and closed facilities in Dallas and Ann Arbor. We also reduced headcount during the third quarter and combined these actions will result additional annual savings of $1 million.

Finally, we are constantly focused on utilizing technology to increase physician productivity through scheduling enhancements and work flow improvements that impact our physician services costs. We made headway on that front in the third quarter as our average cost per preliminary study declined 5% from the prior year, and I'm confident we have additional leverage opportunities in this area.

So, we are actively and prudently managing our costs during the period – this period of economic uncertainty, to ensure that we continue to leverage the business. Looking forward, we will continue to evaluate opportunities to reduce costs in all areas of the Company, while at the same time making targeted investments to foster growth.

In summary, I'm pleased with the progress we have made and the early results of our efforts, but there is still significant opportunity for additional improvement over the coming months and I look forward to updating you on our progress during our next call.

With that, I'll turn the call over to Dave to discuss the financial details of the quarter.

Dave Sankaran

Thanks, Tim. Let's start with revenue. Third quarter revenue was $43.4 million, down $1.7 million or 4 % from last year, but up $600,000 or 1% sequentially. The year-over-year decline consists of a $1.1 million decline in professional services revenue and a $600,000 decline in business services revenue. The sequential increase was related primarily to seasonally higher preliminary read volume in the typically busy months of July and August.

Looking at professional services revenue, the $1.1 million or 3% decline in professional service revenue from the third quarter of last year, is largely driven by the unfortunate but real effect of customer loss. As Tim mentioned, customer service problems that peaked in late 2007 and the first half of 2008 impacted customer retention. Despite this impact, total scan volume of 792,000 during the quarter was up slightly from the year ago quarter. Offsetting this was an overall average price decline of 3%, which consisted of a decline in preliminary pricing offset by an increase in finals pricing.

Preliminary read revenue of $34.4 million was down 6.5%, or $2.4 million year-over-year predominantly due to a 6% price decline. Volume was essentially flat as same site growth of 5% and 7% growth in volumes from new customers were offset by the volume impact of customers lost over the past 12 months.

Final read revenue of $4.9 million was up 34% year-over-year due to a combination of 10% higher volumes and a 22% increase in average prices. Final reads now represent 11% of total revenue, up from 8% last year. The growth in final read volume relates primarily to the addition of volumes acquired from ERS, as well as the impact from new customers; however these gains were partially offset by lower same site volumes from current customers. Historically finals volume has tended to spike initially as we help our customers fill a need and then to moderate over time. Going forward, we expect the nature of our Finals offering to evolve to where we are a more permanent part of our customers practice.

Business services revenue was $3.9 million compared to $4.5 million in the year ago quarter. You'll recall that we acquired this business in the third quarter of last year, and that initial year ago quarter reflected two one-time impacts, which had a net effect on revenue of positive $600,000. Without those items, the business was essentially flat year-over-year.

One further comment on revenue. A key metric for us is the percentage of revenue that comes from our new services. In this area we continue to see the positive impact from our new finals and business services offerings. During the quarter the revenue from these new services combined was $8.9 million, or 20% of total revenue, up from 18% in the prior year.

Before I continue, similar to my comments from last quarter, I want to remind investors how we present our adjusted or pro forma results. To start, we do of course publish GAAP results in our press release and in our SEC documents. Having said that, internally our management and board analyze our results in a number of ways, including looking at a cash basis income statement, and viewing our results on an ongoing basis to normalize for one-time items to provide a clearer financial picture. Similar to other companies, we remove significant non-cash items such as stock compensation and intangible amortization. We also remove the impact of unpredictable non-cash items such as adjustments to our non-cash IB&R malpractice reserve, any adjustment to this reserve is driven solely by third party actuarial reports.

Finally, as I previewed during last quarters conference call, we did have a discrete charge this quarter, related to the closure of redundant administrative facilities. Part of our overall cost reduction initiative, these closures will result in lower expenses going forward, but they also resulted in a one-time charge of $700,000. Like many companies we prepare our adjusted earnings analysis without these types of charges. We do, of course, fully describe these to our investors and give you the details on each of these adjustments so that you have the same insights into our numbers that we do. For your reference, we include a comprehensive reconciliation of each of these items in our press release and on our website.

With that said, let me continue with the details of the quarter and turn to our expenses. Adjusted professional service expenses, which excludes non-cash stock compensation and non-cash IB&R malpractice reserve adjustments, increased 2.5% to $17.5 million for the quarter. These costs are virtually all variable cost of service and thus we expect this item to move largely in line with the overall change in volume and to a lesser extent due to changes in mix. The increase in cost is largely due to a mix shift towards more complex final exams, principally CTs.

Offsetting this impact, we saw a 4% decline in the average cost per study for a preliminary exam as our scheduling improvement initiatives and productivity enhancements take hold.

Adjusted SG&A expense, excluding stock comp and the facility closure charge detailed earlier was $13.3 million compared to $12.6 million in the third quarter of 2007, and down 6% from $14.2 million in the second quarter. Driving the sequential decline are the results of our cost reduction initiatives, including the impact of reduced headcount, lower facilities cost, and lower total overhead spending.

Looking forward we continue to evaluate our operations for efficiency opportunities and additional cost reduction. Adding it all up, third quarter adjusted earnings were $6.2 million or $0.21 per diluted share in line with Consensus estimates. This result is up from $5.5 million, or $0.18 sequentially but down from $8 million or $0.26 in the year ago quarter. We are pleased to report the in line EPS results which represent a healthy 13% sequential increase in adjusted earnings despite the modest sequential revenue increase.

GAAP net income was $3.3 million or $0.11 per diluted share, which is $0.01 better than consensus estimates. We also looked carefully at adjusted EBITDA, which was $12.6 million for the quarter, up sequentially from $11.8 million in Q2, but down from $15.5 million last year. As a percentage of revenue adjusted EBITDA margins were 29.1% during the quarter, up from 27.6% in the second quarter reflecting cost improvements we have taken.

Other key metrics that I focus on are operating cash flow and free cash flow. On both of these measures, Q3 was a record quarter.

First, our operating cash flow for the quarter was $9.6 million, a 100% increase over the prior year and a 28% sequential increase. Among other drivers of this performance was better working capital utilization. And free cash flow was also very strong at a record $8.8 million for the quarter, up 144% from prior year and up 52% sequentially.

Beyond free cash flow, there was one other large cash item during the quarter. We paid the outstanding final escrow amount on our TDS acquisition in the amount of $1.2 million.

Finally, lately I've noticed some noise level and frankly some misunderstanding of the facts regarding our debt and liquidity position. To start, we have very strong free cash flow. In fact in the past 12 months alone, our free cash flow was $ 24 million and we currently have over $55 million in cash on our balance sheet. This puts NightHawk in a very healthy liquidity position. It's worth noting all of our cash is currently invested in money-market funds and T-bills. We have no investments in corporate debt or auction rate securities.

Simply put, we have always been very conservative with our cash investments and this has served us particularly well during the current market turmoil. With regard to our debt, we have a $99 million fully syndicated term loan, but to be clear, it only has $1 million in annual principal repayments for each of the next five years through 2013. In fact, the balance is not due until July of 2014, or nearly six years from now. This term loan was taken out last year to finance the acquisitions of Radlinx and our business services group. This loan has below market pricing and very light covenants.

Finally, with our healthy 12 month trailing adjusted EBITDA of $48 million, our debt leverage ratio was a very low two times EBITDA, well below the four times EBITDA debt covenant requirement. Bottom line, we are fortunate to have this below cost term loan and we only owe principal payments of a total of $5 million over the next five years combined. For perspective, we could cover the next five years principal payments with one quarter’s free cash flow. For example, our free cash flow in the past 90 days alone of $8.8 million, was well above the principal to be repaid under the term loan over the next five years combined. So, we are obviously very comfortable with our liquidity and with our ability to service our debt.

Finally, as we mentioned in the press release, given the lower than expected volumes we are seeing together with the highly uncertain economic outlook, we have revised our guidance for the year. We now expect total revenue of $165 to $168 million with adjusted EPS of $0.64 to $0.67.

Now let me turn the call back over to Dr. Berger for some additional comments.

Paul Berger

Thanks, Dave. While we believe that certain – the current uncertain macroeconomic climate is impacting our short-term growth, we remain excited by the longer-term opportunity to transform the practice of radiology. Looking forward, I'm confident that our strategy of offering a comprehensive, differentiated, high value, suite of services to radiology groups will enable NightHawk to build upon our unique competitive position in the market place.

Simply put, our efforts to get closer to our customers and to leverage the full suite of our service offerings to address multiple customer needs will prove immensely valuable. In short, the improvements we've made over the past several months were vitally important, perhaps more so in the current economic environment, and will be the foundation of our future growth. I am confident that the investments we are making in technology, in broadening our service offerings, and in building a more effective sales presence will result in enhanced opportunity for shareholder return. And with that, we'll take your questions. Operator?

Question-and-Answer Session

Operator

Thank you sir. (Operator instructions) And our first question comes from the line of David Veal with Morgan Stanley. Please go ahead.

David Veal – Morgan Stanley

Great. Thank you, Dr. Berger, just looking at the volume numbers, it seems this is the first time we've seen really an organic volume decline. I just wonder if you could speak to kind of where your customers’ heads are at in terms of running their own practices, and how they might view you as a resource.

Paul Berger

David, I think there are multiple factors involved. I think the volumes are related to a number of different things. One is the economic environment. We've touched on that. The second I think is a concern on the part of the radiologists, our customers, that the current economic climate may be affecting them, it may well be that they would assume some uptake or decrease in some of the hours that we're covering. I don't think that will be a substantial factor, but it will be a factor. I think that there are a lot of concerns that the radiologists themselves have but in the long run, I believe that their needs for services like ours will become more and more and more apparent. There are local competitive pressures in the area, David, as well which impact what we're doing. Again, I think our broad suite of opportunities and our broad suite of services that we provide will carry the day when the final bell rings.

David Veal – Morgan Stanley

Right, and I guess when you look at the trends sort of on a month-by-month basis through the quarter, is there anything to talk about there?

Paul Berger

Yes. I think the problem we've had, is that the volumes, the seasonality adjusted increase in volumes that we usually see, were somewhat less than we usually see even though July and August were good months. September went down slightly and October is similar to September in that regard. So there has been some lesser volumes than we would have anticipated, but these are for the reasons I just articulated.

David Veal – Morgan Stanley

Right. So it was more or less associated with the credit crisis and the headlines around that, is that fair?

Paul Berger

You know, I think that's a significant part of it. It's very, very hard to put your finger on those sort of things, but I think clearly that has something to do with the issue.

David Veal – Morgan Stanley

Okay, great. Thanks for the commentary.

Paul Berger

Thanks David.

Operator

Thank you. Our next question comes from the line of Nicole Viglucci with Accipiter Capital. Please go ahead.

Nicole Viglucci – Accipiter Capital

Yes, hi. I guess what are your – the Q3 EPS, was that in line with internal expectations, below internal expectations, the $0.21 adjusted.

Dave Sankaran

Yes, that was a little bit lighter than what we thought, like the Street we had planned, this is Dave by the way, we had planned on higher revenue during the quarter, better volumes as we mentioned. We thought we would see the traditional seasonal up tick. So it was a little bit below our internal expectations and that's part of kind of what's resetting the full year number.

Nicole Viglucci – Accipiter Capital

And Q4, what are your assumptions for organic volume? Organic volume growth or same site volume growth.

Dave Sankaran

Yes, good question. We look at a number of factors when we try to come up with the model for the quarter, and we're assuming relatively modest same site growth. We're not really expecting any significant change in trends from what we were seeing literally as little as a month ago, with relation to the third quarter. So essentially for the next 60 days, we expect a continuation of what we saw. And we gave a relatively large range for the fourth quarter, especially on the revenue line and I think that's frankly just informed by the uncertainty in the economic environment we thought it was the prudent thing to do.

Nicole Viglucci – Accipiter Capital

So you're assuming some growth in same site volumes for Q4?

Tim Murnane

I think if you do the math within the range you'd find almost nothing.

Nicole Viglucci – Accipiter Capital

Okay. And how do we think about the fourth quarter run rate and extrapolating that to 2009?

Dave Sankaran

We haven't really thought ahead to 2009 in any great detail yet. I think that the trends that we like seemingly every other Company, not just in our space but every conference call I've had the chance to see the results of or read about in the press, is that we're in a pretty unprecedented economic time. Extrapolating forward this quarter, we ended up with a pretty large range and looking at what the possibilities are for next year, I think we are going to let the economic situation become a little bit more clear and look to update you on that in the next call.

Nicole Viglucci – Accipiter Capital

I guess is there anything sort of one-time or non-recurring in Q4 that would make it not a good sort of base to project 2009?

Tim Murnane

Not from a revenue perspective and I can't think of anything from an expense perspective either.

Nicole Viglucci – Accipiter Capital

Okay.

Tim Murnane

There's typical seasonality in the business and I think if you are starting to look ahead in your own models you'd want to factor in.

Nicole Viglucci – Accipiter Capital

Okay. And did you give EBITDA guidance, adjusted EBITDA guidance for 2008?

Tim Murnane

I didn't.

Nicole Viglucci – Accipiter Capital

Can you help us out with what that would be?

Tim Murnane

Yes, I don't know if I have that at my fingers but I can try and track it as we go through the call here.

Nicole Viglucci – Accipiter Capital

Okay. And then just while you're doing that a question on share repurchase. It doesn't look like you purchased much in the quarter. Can you please update us on your plans in your authorization?

Dave Sankaran

Yes, it's Dave again. Obviously we did not purchase any shares in the open market during the quarter. For those who are following along or are new to the story, we did execute a tender offer back in the second quarter in June, I believe. And there's essentially two reasons we didn't participate in the market this quarter. When the window opened in August, the stock price was largely above the price of the prior tender offer. So we didn't participate at that level. And then when the prices did start to come to

us in September, it was clear that there was something larger than NightHawk going on in the markets and it wasn't clear where it was going to settle out. So, we I think prudently in retrospect chose to sit on the sidelines through that.

Nicole Viglucci – Accipiter Capital

Okay. Thank you.

Dave Sankaran

You're welcome. Thanks.

Operator

Thank you. Our next question comes from the line of Shelley Gnall with Goldman Sachs. Please go ahead.

Shelley Gnall – Goldman Sachs

Hi. Thank you. I guess I would like to start with whether the guidance has been lowered sufficiently, from these levels given what we've seen, and I apologize I'm trying to do this on the back of the envelope. So the new guidance range for the top line 165 to 168 versus the first three quarters of this year, implies what amount of growth in the fourth quarter? I think I've done this wrong, it is looking a little bit high.

Paul Berger

What amount of growth from what number, Shelley, from last year?

Shelley Gnall – Goldman Sachs

No – yes. So for the three – so the implied revenue for the fourth quarter, I'm just wondering what growth is at over the fourth quarter from last year. I think I've done this wrong.

Dave Sankaran

Yes, it would actually be a decline from the fourth quarter of last year.

Shelley Gnall – Goldman Sachs

Okay. So when we think about the components price, just following up on Nicole's question, the various trends that we saw in the third quarter, they're all expected to stay largely in line. So we're still looking at pricing declines of I think you've guided just 5% to 7% for the year, and then similar growth rates to what we've seen in the third quarter?

Dave Sankaran

Yes, you bring up a good point on the pricing. We haven't seen any real change in pricing in the last – at least in several months that I've been here, so I think that 5% to 7% range is still a good number. It was 6% in each of the last couple quarters and then additionally, I could give you with regards to the fourth quarter guidance range and it is a pretty broad range. I think we tried to be prudent with regard to that. So take that for what it is. And then also, we saw a marked decline in volumes in September and into the early part of October. And we are essentially in the low end of the range, assume that those kinds of things would continue as the economy kind of finds its footing here.

Shelley Gnall – Goldman Sachs

This maybe a tough one to ask and without you having a chance to prepare for it, and maybe I'll have to follow-up with you, but what is the sort of sustainable top line growth you would need to see to generate margin expansion? So can we talk a little bit about operating leverage and what level of top line growth you're comfortable with on a longer-term horizon?

Dave Sankaran

We did speak to a couple of leverage opportunities that we're actively working on over the course of the summer and are working on as we speak. In particular, around our completely variable costs in the physicians' compensation area and scheduling efficiency has a significant impact when you're this size on your ultimate margin capability. So historically we've seen some leverage there. We are working on a number of plans right now that will result in leverage on the physician cost side. On the SG&A side, I think about almost less as a lever, than I do as putting in the right infrastructure at the right cost to support the business today and to be capable of supporting growth in volumes and I think we're doing that exactly. You saw that we brought cost down in absolute terms, each of the last couple of quarters on the SG&A side of the business and we're targeting continuations of that trend for the next couple of quarters.

Shelley Gnall – Goldman Sachs

Okay. And then I guess just switching gears for a bit then, and I think I'll follow-up with you off line. Dr. Berger mentioned that his customers, your customers are facing reimbursement pressures. Is it still the case that most of your customers are hospital based rather than freestanding imaging centers and can you talk a little bit about what specific reimbursement pressures they're seeing?

Paul Berger

Yes. Most of our customers are radiologists that either work in the hospital, Shelley, or work in and some of them own some of those imaging centers. The much smaller percentage of our customers or payors are the hospitals themselves. I think the principal issues that the doctors themselves are facing are really two things. The DRA had a major impact on revenues that were accruing from the ownership of outpatient imaging centers, big, big impact on those things. There has been some potential decrease in volumes in the hospital but I don't think that's a great deal. There are concerns about Medicare and reimbursement to physicians, and then I think the other kind of elephant [ph] in there, is the fact that the doctors are just not – are very concerned about the macroeconomic issues that we're all facing.

Shelley Gnall – Goldman Sachs

Okay, so – if the same sort of pricing or reimbursement pressures they've been seeing all through 2007 from the DRA, Medicare, similar pressures to what they've been seeing. So there's nothing really new on that horizon – the only thing that's really new it sounds like the potential pressures from the economy.

Paul Berger

I think that's correct.

Shelley Gnall – Goldman Sachs

Okay, and then I guess in this environment does – have you rethought the overseas expansion opportunity? We haven't heard any sort of updates on that front for some time.

Paul Berger

We're just – it would be directly honest of me to say that yes, we're continuing discussions in that regard with various people.

Shelley Gnall – Goldman Sachs

Okay, great. Thanks.

Dave Sankaran

Thanks Shelley.

Operator

Thank you. Our next question comes from the line of Sean Wieland [ph], Piper Jaffray. Please go ahead.

Sean Wieland – Piper Jaffray

Hi, thanks. My first question is around bookings. Can you just tell me exactly how you quantify the total bookings in the quarter? Are you taking a net present value or how does that work?

Dave Sankaran

Yes hi, it's Dave. For bookings purposes, we calculate that as an annual estimated contract value. So essentially an attempt to estimate the volume of the customer through discussions with them, and using the pricing that's in the contract to come up with an annual amount.

Sean Wieland – Piper Jaffray

Okay. And then final read, did I get this right that the average price increase was 22%?

Dave Sankaran

Absolutely.

Sean Wieland – Piper Jaffray

Okay, so what drove that?

Paul Berger

Yes, it's largely mix. I think if your – what we get reimbursed and what the radiologists themselves get reimbursed is very variable depending on what the case mix is and things like CT and MRI's reimburse the physicians and us at a much higher level, such that the reimbursement for plain film radiology is at a much lower level. So as your mix becomes significantly lower in plain films and significantly higher in CTs and MRI's which has been the situation with us, our – we'll have increased pricing.

Sean Wieland – Piper Jaffray

Do you think that kind of pricing growth will be able to be sustained?

Dave Sankaran

Just depends on the mix.

Paul Berger

And depends on what the customers want us to be doing.

Sean Wieland – Piper Jaffray

Okay. And then last question, your physician recruitment strategies and physician and radiologist retention, you mentioned your customers were having challenges with that. How are you doing with that?

Paul Berger

You know, that – I wish the rest of the business was as easy as that. We have a tremendous retention of our radiologists and there is a huge – we haven't recruited anybody to be very candid. We've never gone out and tried to recruit a doctor. The doctors basically call us because they're interested in the opportunities and it has been extremely well received by our physicians. Having access to and contracting with the radiologists themselves is something we have no trouble with.

Sean Wieland – Piper Jaffray

Okay, great. Thank you very much.

Paul Berger

Thanks.

Operator

Thank you. Our next question comes from the line of Kevin Elliott with RBC Capital Markets. Please go ahead.

Kevin Elliot – RBC Capital Markets

Good afternoon. Thanks for taking my questions. First of all, is there any way you can break out the pressure that you're seeing on the volume side between heightened competition, customer attrition, and lower utilization, or how you started out the call talking about lower ER visits?

Dave Sankaran

Yes, it's Dave. We don't have as Dr. Berger alluded to earlier the ability to perfectly distill out those impacts. We certainly have been talking about in my tenure here and earlier than that, some of the impact of the regional radiology groups – regional radiology players competing with us and that impact I think is real. In fact, if you talk to our sales guys you'll see that every deal for our preliminary business in particular is competitive. On the other hand we did see a, what I called, a marked change in trajectory in the preliminary market in particular, in September, which as I sit here a few weeks later I can look at the calendar, and it's almost coincident with the really sort of intense publication of the credit market and other economic problems. So there seems to be a pretty good correlation between those two things as well, but I'd be misleading you if I thought I had it pulled out perfectly.

Paul Berger

Let me just add to that, one issue. I think with respect to the local small competitors that we have, I think that's a real entity that occurs, that the local radiologists have a local presence, they know the people in their communities and surrounding communities. From a pricing perspective they can be more than competitive at times. But what I need to make clear at least to our investors, is that we do not consider ourselves in the intermediate and long term on a – as those same physicians. We're in a bit of a different business. We have – we are in the solutions business for radiology practices. That means helping them with their night call, their subspecialty call, their weekend call, their technologic efficiency, their billing and collecting, any kind of problems that the radiologists have, we need to be the solutions for. When that message becomes loud and clear in the local and national radiology practices, we will find that the competition will change and we'll have a major advantage in that regard.

Kevin Elliot – RBC Capital Markets

Okay. Thank you for that color. And then given your revised guidance, what type of pricing assumptions are you making? Do you think you'll see further deterioration or can you give us a little color on that?

Dave Sankaran

It's Dave. I can try. As I mentioned I think a couple of callers ago, we haven't seen any real change in the preliminary pricing in several quarters. It's between 5% to 6% down. I don't see any reason to believe that that will change in the next couple of quarters. And on the final side, as we also alluded to to a couple of earlier questions, our mix is changing dramatically, has changed dramatically towards more complex exams, notably CTs, and so today those are over 50% of our volume, and we've seen that 22% increase in finals pricing. I think there may be more there but we'll just have to see how the mix plays out.

Kevin Elliot – RBC Capital Markets

And then Dave, can you give us the modality mix? Have you guys done that in the past?

Paul Berger

We haven't. We don't give that out in detail.

Kevin Elliot – RBC Capital Markets

And then last question, since you have $55 million in cash on the balance sheet, can you talk about future uses? I think in the prepared remarks, Tim made comments some comments about targeted investments to foster growth. Any color on that?

Dave Sankaran

I can give you some and it's Dave again. We are making some investments in fulfilling the strategy that Dr. Berger just outlined, around becoming a more comprehensive solution provider to our customers. Part of that is technological capability. Part of that is a field presence. And part of that is service delivery. So we're trying to be prudent in those regards, and make sure that we make the investments to be successful with that strategy. And that's really the primary focus of that, and we're trying to pay for that out of operations. I wouldn't want you to think about that in terms of the cash on the balance sheet being used for that currently.

Kevin Elliot – RBC Capital Markets

Okay, and actually I did have one last follow-up. Recently, EMS I don't know if you've ever viewed them as a competitor, who made an acquisition in the radiology space. So I was just wondering if you guys had any feeling as to heightened competition coming from other participants like EMS.

Paul Berger

Yes, I think that is a concern to some degree. They actually were in the business on a limited basis before. Their acquisition was not a large company in any way, shape or form but it does indicate an intent to be involved in the business to some degree. So, yes, I've taken notice of that.

Kevin Elliot – RBC Capital Markets

Okay, thanks.

Operator

Thank you. Our next question comes from the line of Brook O'Neil with Dougherty & Company. Please go ahead.

Brook O'Neill – Dougherty & Company

Thank you, I have a couple of questions. You guys talked a lot about the local competitors, and I have to say I get a lot of calls from institutional investors about how you're doing specifically in relation to VRAD. So perhaps you could just give us a feel, maybe even a trend. I have a sense you lost some accounts to them when you were having your service issues, but how has it been more recently?

Tim Murnane

Yes, Brooks, this is Tim. We're doing very well in that regard. We actually see more on the competitive landscape. I think we see more competition from the small local entities than from the larger ones, and in this past quarter, we were very successful on a head-to-head basis versus the larger competitors, and we think the trend is a very positive one.

Brook O'Neill – Dougherty & Company

That's great. Maybe just following on there, obviously you've done a lot in terms of bringing in the new head of sales and a number of initiatives to revitalize your sales effort. I guess I didn't catch any metrics that you could give us with regard to the strength of the pipeline or the progress you feel you're making in terms of new sales wins.

Tim Murnane

Yes, we haven't given out in the past, nor are we today our bookings number nor the size of the pipeline, but I can assure you as I said in my comments that our bookings improved over the second quarter and have improved each quarter this year, and we're very strong. And our pipeline is gaining momentum each quarter, and has grown significantly from the second quarter.

Brook O'Neill – Dougherty & Company

That's very helpful. Obviously, Dr. Berger mentioned the strength of your physician recruiting and the success you've had there. Clearly, and I don't mean to harp on VRAD, but one of the things VRAD mentioned is, given the long lead time in terms of physician recruitment and the more recent slowdown in business that there's a temporary, if you will, supply-demand imbalance with regard to their physician capacity. I'm just curious if you could comment how you feel your positioned in the current environment in that regard.

Paul Berger

That isn't the problem for us, Brooks because the way we compensate physicians is directly related to the anticipated volumes that we expect to have in any given day or week for that matter, and as a result, if the physicians aren't working they don't get paid. So they aren't – we're not bound by overpopulation of physicians. We try and keep the balance between physicians and the expected work in general, a very solid relationship, but at times the volumes will diminish and the doctors will be there. So the doctors work less, and the other times the volumes are picking up and the doctors will work harder, and so there's a titration that occurs but it doesn't cost us anything extra.

Brook O'Neill – Dougherty & Company

Great. I'm just curious, and like Shelley I did the math fairly quickly, but it looked to me if I was doing the math right, and I didn't use a calculator so forgive me, but it looked to me like revenues you expect to be down, I don't know, $2 million or $3 million, and EPS down maybe $0.06 to $0.09. And if I'm looking at it correctly, it looks like you're anticipating some more margin compression and if you could comment on where you see the greatest source of that in the fourth quarter that would be a big help.

Dave Sankaran

Yes, Brooks, it's Dave. The revenue range that we gave for the fourth quarter, and we didn't give one but the implied one, so I can do the math with you would be $37 million to $40 million if the full year number is 165 to 168.

Brook O'Neill – Dougherty & Company

Yes.

Dave Sankaran

So we did 43 and changed this quarter. So it would be a $3 million to $6 million-decline range. And the EPS, if you do the math again would be something like $0.12 to $0.15 for the fourth quarter to get to that full year guidance.

Brook O'Neill – Dougherty & Company

Yes.

Dave Sankaran

So there's a lot of permutations within that range, but essentially we're not planning on margin compression to use your word.

Brook O'Neill – Dougherty & Company

Okay.

Dave Sankaran

So we can pick a combination in there that would have pretty similar margins. As Paul alluded to and I thought I covered in my prepared remarks, have pretty good linearity on our variability on our physician services costs. Our costs of revenues are relatively flexible with volume. And on the SG&A side which clearly is not as flexible, you seen that we have taken literally chunks out and driven that number down over the last couple quarters. So I think we're doing what we can on the EBITDA margin front. And we expect to see that sort of margin level continue.

Brook O'Neill – Dougherty & Company

Yes, that's great. I guess one or two more quickies. Appetite for future acquisitions, how are you feeling about that? Obviously,

I'm guessing pricing for acquisitions may be coming in. On the other hand the uncertainty makes deploying your capital a more risky proposition.

Paul Berger

Yes, I think deploying the capital for acquisitions at this point in time is a riskier proposition than it's ever been considering credit markets and considering cash flow needs. So I think in the near term, our appetite for acquisitions is much less than it has been in the past.

Brook O'Neill – Dougherty & Company

I think that's great. I applaud that personally. And then just last question, obviously, it makes sense to me to be cautious with regard to corporate repurchases of stock. How are you guys viewing it from a personal perspective in terms of management maybe stepping up in here?

Paul Berger

I can speak from a personal perspective. There's probably no one on this call, at least as an individual that has more of a personal interest than I. I have several million shares of stock, and it's my responsibility not on a personal level but on a shareholder level to do the best we possibly can for all of those shareholders and that's my principal focus now.

Brook O'Neill – Dougherty & Company

Anybody else?

Dave Sankaran

I Think Paul covered it well Brooks.

Brook O'Neill – Dougherty & Company

All right, thank you very much.

Dave Sankaran

Thank you.

Operator

Thank you. (Operator instructions) And our next question comes from the line of Kemp Dolliver with Cowen & Co. Please go ahead.

Kemp Dolliver – Cowen & Company

Hi, thanks. Just a couple of number questions. First, has the customer count changed much since the second quarter, the press release refers to roughly 1500 but that could be a little above, a little below. Could you give more specifics on that?

Tim Murnane

Yes. I'm just looking it up as we speak. It's still a little over 1500 at the end of the September quarter.

Kemp Dolliver – Cowen & Company

Okay. But no further detail regarding where it was versus the second quarter level? Up, down?

Tim Murnane

It's almost exactly the same actually.

Kemp Dolliver – Cowen & Company

Okay, so you didn't lose any business this quarter?

Tim Murnane

I think the way I'd say it on a net basis, if we did see some customers depart, we certainly were successful finding new customers.

Kemp Dolliver – Cowen & Company

Okay, that's good. And how many radiologists did you have on staff during the quarter? I forgot if you've given average or a period end number.

Tim Murnane

We had around 130 essentially throughout the quarter that were under contract and then they work varying amounts.

Kemp Dolliver – Cowen & Company

Okay. Good. And that's all I have for the moment. Thank you.

Tim Murnane

All right, thanks.

Operator

Thank you. At this time, there are no additional questions. I'd like to turn it back to management for any closing remarks.

Paul Berger

Just want to thank everybody again for attending the call and any questions off line, please don't hesitate to give us a call. Thank you very much.

Operator

Thank you, sir. Ladies and gentlemen, if you'd like to listen to a replay of today's conference, please dial 1-800-405-2236 or 303-590-3000 using the access code of 11121223 followed by the pound key. That does conclude the NightHawk Radiology Services Third Quarter 2008 earnings call. ACT would like to thank you for your participation. You may now disconnect.

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