Skilled Healthcare Group, Inc. Q4 2008 Earnings Call Transcript

Skilled Healthcare Group, Inc. (SKH)

Q4 2008 Earnings Call Transcript

February 10, 2009 11:00 am ET

Executives

Roland Rapp – General Counsel & Chief Administrative Officer

Boyd Hendrickson – Chairman & CEO

Dev Ghose – EVP & CFO

Jose Lynch – President & COO

Mark Wortley – President, Hallmark Rehabilitation

Analysts

Ralph Giacobbe – Credit Suisse

Jason Gurda – Leerink Swann

Brendan Strong [ph] – Barclays Capital

Eric Gommel – Stifel Nicolaus

Rob Mains – Morgan Keegan

Gary Taylor – Citigroup

Pakstein Scott [ph] – Jefferies and Company

Andreas Dirnagl – Stephens Inc.

James Bellessa – D.A. Davidson & Co.

Presentation

Operator

Good day, ladies and gentlemen, and welcome to the fourth quarter 2008 Skilled Healthcare Group Incorporated earnings conference call. My name is Damali and I will be your operator for today. At this time all participants are in listen-only-mode. We will be facilitating a question-and-answer session towards the end of today’s conference. (Operator instructions). As a reminder this conference is being recorded for replay purposes.

I would now like to turn the presentation over to your host for today’s conference, Mr. Roland Rapp, General Counsel. Please proceed.

Roland Rapp

Thank you, Damali. Good morning. I’d like to welcome everybody to Skilled Healthcare’s quarterly earnings conference call and introduce our presenters Boyd Hendrickson, Chairman and Chief Executive Officer and Dev Ghose, our Chief Financial Officer.

Before we begin I'd like to note that certain statements and information that we discuss this morning may be deemed to be forward-looking statements, including but not limited to guidance for our 2009 financial performance. These statements include statements relating to our objectives, plans and strategies as well as statements other than statements of historical facts that address activities, events or developments that we expect or anticipate will occur in the future.

Any forward-looking statements discussed on this call are made as of the date of this call and Skilled Healthcare undertakes no duty to update or revise any such statements. Forward-looking statements are not guarantees of future performance and are subject to risks and uncertainties. Important factors that could cause actual results, developments, and business decisions differ material from our forward-looking statements are described in our filings with the Securities and Exchange Commission.

Additionally, as we discuss performance, we will be referring to EBITDA, adjusted EBITDA, and adjusted EBIDAR, which we use as measures of performance, but are not considered as measures of financial performance under Generally Accepted Accounting Principles. Adjusted EBITDA includes adjustments in 2007 for premium on redemption of debt and write-off of related deferred financing cost, changes in the fair value of an interest rate hedge as well as the loss in the sale of assets in 2008.

Adjusted EBITDAR is adjusted EBITDA excluding rent cost of revenue. Therefore, please see the reconciliations included in our earnings release issued this morning, which can be located on our Investor Relations section of our Web site at www.skilledhealthcaregroup.com.

With the exception of EBITDA, adjusted EBITDA and adjusted EBIDAR, this report and our discussion today are presented on a consolidated basis under Generally Accepted Accounting Principles and as such references to the Company, Skilled Healthcare Group, Skilled Healthcare, “us”, “we” “our” refer to Skilled Healthcare Group, Inc. and each of its consolidated wholly-owned companies and subsidiaries.

I will now turn the call over to Boyd Hendrickson, Chairman and Chief Executive Officer. Boyd.

Boyd Hendrickson

Thank you, Roland, and good morning everyone. I’d just like everybody to know upfront that we said in our earnings call way ahead of the Secretary of Treasury today to get going his call at 8 O’ Clock or his press conference. Anyway we're thankful that everybody could join us, we're pleased to have you on our call today. First I'd like to say there are 2008 results that are testaments, there is strong underlying fundamentals of our company. Our commitment to the Company’s long-term care strategy is illustrated in the revenue and earnings growth we posted in 2008.

Now before I review our results and details I'd like to take a moment to acknowledge our employees on a commendable year. With their hard work, dedication and commitment to excellence, we're able to achieve our over 16% annual revenue growth over 115% annual net income growth before accretion of the preferred stock and over a 36% increase in our normalized annualized diluted earnings per share to our shareholder; all in all – all in a very challenging economic environment.

Reflecting on last year we recognized that the macroeconomic environment has changed. In the path the long-term care industry appeared to be less affected by those economic cycles; that the scope and depth of the current cycle has impacted the industry as today such as California struggle to balance their budget. However, we feel confident that we have the cash flow and the debt capacity to meet the challenge should they arrive.

With that said, the demographics of the country suggest additional need for long-term care. The over 65-year-old population is projected to increase 16% by 2015 while a sub-section of that population, the over 85-year-old is projected to increase 8% during the same period.

As the demand for long-term care continues to increase, we are confident that the legislature will keep reimbursement as a top priority in the coming years. Our continuous reinvestment into facilities including Express Recovery Units and new building developments, we believe, have and will continue to position our company to meet the long-term care, long-term demand for the industry. In addition, our high acuity model creates a lower cost alternative to inpatient rehab facilities and the long-term acute care hospitals.

In regards to building developments, we are happy to announce that the Dallas Center of Rehabilitation, our new 136-bed state-of-the-art SNF is completed and waiting final inspection. We consider this innovative facility the wave in the future which encompasses various physical amenities of long-term acute care hospitals and inpatient rehab facilities.

The Dallas Center of Rehabilitation offers over 4,500 square feet of rehab area and 66-bed Express Recovery Units, hyped in wall glasses [ph], physician work areas, nursing management on patient floors, four glass wall private rooms on each floor from – with easy access from the nursing station, space allocated to living and dining at chapel and various other plan design atypical of a facility of this licenser type. The facility is located near the downtown Dallas campus at Baylor University Medical Center, 1,000-bed general acute care hospital.

In addition, we expect to break ground on a second skilled nursing facility which is located next to several downtown Fort Worth acute care hospitals before the end of the first quarter of 2009. The facility will be similar to our new Dallas facility and will be built in accordance with nationally recognized standards for green certification.

Now turning to our investments in Express Recovery Units. During the fourth quarter of 2008, we added 11 new ERUs and extended four existing ERUs for a total of 410 additional ERU beds. That brings our total number of Express Recovery Units to 49 and annual growth rate of 48% over 2007, and the total number of ERU beds to approximately 1,640, an increase of 55% year-over-year. ERU bed now represent over 18% of our total SNF available beds. Furthermore, the 49 units are located in 46 different facilities, which mean that over 60% of our SNFs at the end of the year now have an Express Recovery Units.

Additionally we have three different offering of the ERU

the Renew Unit; the specialized women’s unit; Pulmonary Advantage, a respiratory specialty unit; and our traditional Express Recovery Unit, which includes a larger variety of rehabilitation services.

For the full year of 2008, our facilities with an Express Recovery Unit had a combined skilled mix, which is defined as the number of Medicare plus managed care days as a percentage of total of 27.7 versus 19.9 for those without an ERU. Additionally in 2008, our facilities with an Express Recovery Unit had a combined adjusted EBITDAR margin that was 200 basis points higher than those without an ERU.

Our occupancy rate in facilities with an ERU was 410 basis points higher than those without an ERU. This year we plan to open an additional 12 new Express Recovery Units and expand nine other units for a total of approximately 500 additional ERU beds, a 30% annual growth rate year-over-year.

In 2008, our growth strategy also included acquisitions. As you know in April of last year we acquired a 152-bed skilled nursing facility and a 34-unit assisted living in Kansas. In September, we acquired seven assisted living facilities which added approximately 200 additional units to our Kansas portfolio.

In addition, we are providing administrative services to four external facilities in California, three of which began on January 1 of the current year. Our strategy to acquire underperforming facilities and improve the skilled mix margin has been very successful. For example in New Mexico, our largest acquisition in 2007, we improved the skilled mix by nearly 500 basis points, 19.5 in 2008 compared to the prior year. In addition, adjusted EBITDAR margin increased 300 basis points in 2008 year-over-year.

2008 was the first full year of operation under Skilled Healthcare’s management, as the New Mexico facilities were acquired in late 2007. Today, our ownership percentage of operating assets in the long-term care, an industry leading 73%, and we strongly believe that this gives us an additional flexibility with regard to our operation, financing and development activities.

Turning now to our key operating statistics. Our skilled nursing occupancy majored on available skilled beds, 84.5 for the fourth quarter of 2008 compared to 85 in the same quarter last year. For full year 2008, our occupancy was 84.5 compare to 84.9 in 2007. Occupancy was lower, as new admission volume in the fourth quarter remained consistent with that of third quarter which is not typical for this time period. In addition, delays in our plan to open Express Recovery Unit in 2008 resulted in lower occupancy as we temporarily took that to (inaudible).

Now that these units have been completed we expected to have a very positive impact in our skilled mix and occupancy in future quarters. We are firm believers in the model and are excited that our construction of new units slowed down a little bit in 2009. So our operators will be able to focus their efforts on all new units we opened during the fourth quarter. Our skilled mix was 23.3 in the fourth quarter of 2008 versus 23.1 in the fourth quarter of 2007. For full year 2008, our skilled mix is 24.2, up from 24.1 in a comparable – in comparable prior year period.

Our quality mix defined as the amount of non-Medicaid revenue from each of our business units of the percentage of total revenue, the 67.8 in the fourth quarter '08 versus 67.4 in the same quarter a year ago, and 68.6 for 2008 versus 69 in 2007. This measures above industry average and is the testament to our focus on the high acuity model.

Another key operating statistics is the percentage of patient in the upper nine Medicare Resource Utilization Group or RUG categories. We regarded as a key major of providing high acuity care because the RUG categories provide greater reimbursement for the admission of a patient. With higher clinical intervention the – with the fourth quarter of 2008 our upper nine RUG category utilization was 40.1 compared to 40.3 in the fourth quarter a year ago. For 2008 it was 40.1 compared to 39.1 in 2007. In addition, our total rehab RUGs were 92.8 in the fourth quarter versus 92.1 for the prior year quarter.

Now I'd like to turn the call over to Dev Ghose, Chief Financial Officer to discuss the company's financial results in more detail. Dev?

Dev Ghose

Thank you, Boyd, and good morning. As you know we operate our business in two reportable segments, long-term care services and ancillary services. Our long-term care services segment is the most significant part of our business and includes the operation of skilled nursing and assisted living facility representing approximately 85% and 3% of revenue respectively in 2008. Our ancillary services segment includes our third party rehabilitation therapy and hospice businesses representing approximately 9% and 3% respectively of revenue over the same period.

I'll begin with the discussion of the fourth quarter results and then move on to our full-year results. For the fourth quarter, revenue increased to $189.8 million or 7% over the same period last year and adjusted EBITDA increased to $30.9 million, an increase of 12.6% from the fourth quarter of 2007.

Revenue in our long-term care services segment increased $9.8 million or 6.3% to a $166 million in the fourth quarter of 2008 from $156.2 million in the same quarter last year. Approximately $3.8 million is the increase in long-term care service revenues resulted from healthcare facilities acquired or developed after October 1, 2007. The remainder of the increase representing same store growth was due to a 6.6% improvement in patient per diem rates offset by a 50 basis point decrease in occupancy.

Revenue in our ancillary services segment increased $2.7 million or 12.6% to $23.8 million in the fourth quarter 2008 compared to $21.1 million in the equivalent prior year period. Net income for the fourth quarter of 2008 was $10.3 million, an increase of $3.1 million or 43% compared to net income of $7.2 million for the fourth quarter of 2007.

Earnings per diluted share in the fourth quarter of 2008 was $0.28, up 47% compared to earnings of $0.19 per share for the same period in 2007. In addition, our adjusted EBITDAR margin increased 70 basis points from 18% in the fourth quarter of 2007 to 18.7% in the fourth quarter of 2008. Our adjusted EBITDA margin increased 80 basis points from 15.5% in 2007 to 16.3% in the fourth quarter this year.

For the quarter ended December 31, 2008, we saw increased revenue due to our acquisition of the New Mexico and Kansas facilities discussed earlier and the same stock growth, reductions in the general liability and workers compensation reserve of approximately $1.5 million and lower interest expense of approximately $900,000 from a decrease of 120 basis points in the average interest rates.

These were offset by slightly – total occupancy as discussed earlier and by approximately $1 million of additional bad debt reserve in our ancillary services business. These reserves included $400,000 related to the CMS pilot program that utilizes private recovery audit contractor firm to recoup alleged Medicare overpayments. As we mentioned last quarter, this is unique to our location as we were one of a small group of ancillary companies impacted primarily due to the geography of the pilot program.

Moving on to full year performance. For 2008, revenue increased to $733.3 million, up 15.6% from 2007; and adjusted EBITDA increased to $114.9 million, an increase of 12.6% compared to the full year 2007.

In 2008, earnings per diluted share were $1.01, up 36% compared to earnings of $0.74 per share in 2007. That number was calculated on a normalized basis which excluded the cost associated for the pay down of debt and executive management changes as well as accretion of preferred stock, all for 2007.

Net income for 2008 increased to $37.2 million, up 116% from $17.1 million of normalized net income in 2007. As a recap, our net income in 2007 was negatively impacted by approximately $11.6 million of redemption charges relating to the early payment of $70 million of our 11% senior subordinated notes. After adjusting for that payment, majority of our year-over-year growth in EPS during 2008 came from organic growth in our long-term care business, acquisitions discussed earlier, reversal of insurance reserves not deemed necessary and tax credits received specifically during the third quarter, which were offset by increases in receivable reserves, mostly for our ancillary business.

Turning now to our statement of cash flows. During the 12 months ended December 31, 2008, we invested $23.4 million in acquisitions, $31.1 million in developments and ERUs, and finally $18.5 million in routine CapEx, which was financed by $67 million in operating cash flows and investment inflows to the balance of approximately $4 million from additional borrowings. You can see, we were able to fund most of our capital expenditures through internal sources. It's important to note that it provides the company greater flexibility in 2009.

We were able to meet the challenge of delayed Medicare payments without interruption to the daily care of our patients or a reduction in capital expenditures particularly during the third quarter 2008 when California Medicare payments of approximately $1.5 million a week or about $12 million in the aggregate were suspended

By the end of September, we were fully reimbursed by Medicare for their time period. Our days sales outstanding improved from 55 days at year-end 2007 to 52 days at the end of 2008.

Moving now to long-term debt, as of December 31, 2008, we had $470 million in aggregate debt outstanding comprised of approximately $130 million of our 11% senior subordinated notes, $251 million of first lien senior secured term loan, $81 million outstanding under our revolving line of credit, and finally capital leases and other debt of approximately $9 million.

Furthermore, we had approximately $5 million in outstanding lines of credit against our revolving credit facility leaving approximately $49 million of additional borrowing capacity under our line.

As we mentioned before, we do not have any debts due this year. Our revolving line of credit is due in June 2010. Our $251 million term loan is due in June 2012. And finally our $113 million senior subordinated notes are due in January 2014.

Nearly 50% of our total debt is fixed rate. Our debt today has a weighted average remaining duration of 3.6 years, and at the end of the fourth quarter, our leverage ratio defined under our senior lending agreement was 3.9 times and our interest coverage ratio was 3.5 times.

Management is focused on initiatives to increase the duration of the debt. We believe that there are several viable options available to us. We will have more to say about this once we finalize our strategy.

With regard to guidance, we are initiating our 2009 full year guidance. We expect full year 2009 guidance of between $792 million and $802 million. 2009 EBITDA is expected to be in the range of $125 million or $130 million. 2009 EBITDAR is expected in the range of $144 million or $149 million. Finally, net income per share is expected to be between $1.08 and a $1.14.

Our guidance presumes the following

One, market basket increases for Medicaid in the fourth quarter 2009, consistent with prior years. Two, estimated increases up 2% for Medicaid, for the 2009-2010 fiscal year. Three, development capital expenditures of approximately $30 million for new facilities in ERU. And routine our preservation capital expenditures of approximately $18 million or $1,700 per bed. Four, startup losses of approximately $1.3 million on our newly completed development. Five, the current debt structure and existing interest rates. Six, cost control program to improve efficiencies, and finally an effective tax rate of 39.5%.

With that, I’d like to turn it back to Boyd.

Boyd Hendrickson

Thank you, Dev. We are very excited about the opening of our new Dallas facility this year. You know just as our Express Recovery Units have been extensively copied on a wide spread basis in one form or another we also expect that our Dallas facility will – that a new standard for state-of-the-art and rehabilitation services delivered – and the rehabilitation service delivery model.

We look forward to the opportunities that lie ahead it's an innovative leader in our sector. While we recognize that the overall economy is the difficult situation, we remain focused on our priorities to maintain great patient care. We are very closely monitoring and watching the development of the California budget and we'll take any necessary steps should the situation arise to preserve cash.

Now before we open up to Q&A, I would like to let everyone know that our management group will be available for Q&A beside Dev and I, are Jose Lynch, the President and Chief Operating Officer of the company, Mark Wortley, the President of our Ancillary Services segment and Roland Rapp, our General Counsel.

With that operator, we are ready to take questions.

Question-and-Answer Session

Operator

(Operator instructions). Your first question comes from the line of Ralph Giacobbe with Credit Suisse. Please proceed.

Ralph Giacobbe – Credit Suisse

Great, thanks. Just wonder you talk about the expectations, mainly around sort of the Medicaid, the 2% rate increase. I was wondering first if you could just remind us maybe put that in the context of what the expectations have been in the past and sort of the difference between and then maybe specifically on the state level what the expectations are from Medical and maybe even Texas Medicaid for the back half of the year?

Dev Ghose

Yes, most of – this is Dev. The 2% growth in Medicaid really is a result of sort of what we've seen historically. Again we're – we've kind of said this before, we're really in a majority of our Medicaid days are in states that are well below the national average so we still think there is room to move in several other states including Texas and those areas where we've seen new Medicaid systems. So we think the 2% a good solid number for us to shoot for 2009.

In regards to California, as of right now, the nursing homes are not affected by the California State budget based on the AB 1629 that was passed so we'll see how that plays out. We've seen solid rate growth there in California, we've seen sort of back-to-back 4% to 5% growth year-over-year. So we think with the blended 2% California generates about 37% of the days for all the Medicaid.

And then in Texas, we predicted about a 5%, 6% growth with the new rate increase in September in the conversion of the RUG system and we actually realized about a 12% rate growth over where we ended in August month end, so we ended about $110 and we're running about 124, 125 right now. So we are optimistic. Again anytime we move to a case mix, state which Texas has now moved to sort of a RUG system it's really benefited us. We feel that we – anytime the acuity comes in to play we get benefited by that.

Ralph Giacobbe – Credit Suisse

Okay, great. And then just at the beginning of the call you mentioned sort of the economic back drop and is it fair to say that the risk around the economy largely still is as sort of on the Medicaid side and potential State budget cuts or is there anything on the utilization side we should also consider?

Boyd Hendrickson

On the economic front on the – I think with the FMAP money coming in, that’s probably going to help out the Medicaid program unilaterally across the country. I think that even before we found out about that money coming in to the system, like Dev indicated, we felt fairly comfortable with the states where we operated. The only real state with a horrific budget problem seemed to be California. And here again, we got treated very well here last year. And the only thing that we are confronted with right now would be the cash flow. But from an economic standpoint around the country we feel a little more encouraged due to the FMAP money coming in to the system.

Ralph Giacobbe – Credit Suisse

And just to be clear there, is there FMAP sort of expectation built into that Medicaid expectation?

Boyd Hendrickson

No. I think the expectation of 2% is fairly conservative.

Ralph Giacobbe – Credit Suisse

Okay. That’s helpful. And then just my last one. In your release you mentioned, cost controls. Could you just help us out there? What are some of the things you are doing? Are you benefiting on labor cost side in this economic environment?

Boyd Hendrickson

Yes, we kind of – we put together sort of at a higher level just in preparation for what could be to come with the economy. We've sort of – officers in that have taken sort of a free VP level physicians that's also kept at freezing wage, and we've sort of reduced our expectations for sort of cost diluting adjustments for employees below those levels. But in regards to the influx of sort of new – without an employment it is affecting us, I mean we are starting to see in a non-professional type position. We are starting to see lot more applicants. But on the other hand we still have a lot more openings.

So, in positions such as line works housekeepers, dietary workers, we are starting to see some folks get in to the certified nursing assistant and training programs in that. But it sort of can buy because in times like in the past, you see a lot – you tend to see some more extra turnover in those areas, because being a seen is a little harder than some would imagine it to be. So we haven't seen a huge drop in our openings that we have, the shortage of our ends is still out there. The shortage of therapists are still out there, but we're seeing a little bit of help in our labors, and so far coming out of the gate, it was looking pretty good.

Ralph Giacobbe – Credit Suisse

Okay, great. Thank you.

Operator

Your next question comes from line of Jason Gurda with Leerink Swann. Please proceed.

Jason Gurda – Leerink Swann

Good morning, guys. Dev, I just want to confirm a couple of numbers. How much was in the revolving line of credit that was doing 2010?

Dev Ghose

We have available capacity of just under 50 million – 49 million capacity at the end of the year.

Jason Gurda – Leerink Swann

And how much was already taken out on it?

Boyd Hendrickson

It’s 135 million.

Jason Gurda – Leerink Swann

Okay. And so it sounds like, obviously in your guidance it's based on current interest rates, but to the – if you guys are successful in extending the duration of some of these long deal obviously update guidance at that time. Is that fair?

Boyd Hendrickson

That would be our expectation, yes.

Jason Gurda – Leerink Swann

Looking at your expectations focusing on the ERUs. And of the 49 units that are open right now, are most of them traditional units with a very small percentage of the renew and pulmonary?

Boyd Hendrickson

Yes, like probably 90% are traditional and only about 10% or less are those other specialty units.

Jason Gurda – Leerink Swann

Okay. And thinking about the 12 units you want to open next year, do you have an idea of the mix?

Boyd Hendrickson

Yes. It’s probably a little bit heavier weighted towards about 50-50 with women and pulmonary units. A lot of our pulmonary units that have been real slow, most of it in California areas than later units, they should come into play in 2009. So we’ll see probably more like a 50-50 swap with specialty units versus traditional '09.

Jason Gurda – Leerink Swann

Is there a big difference in the performance between the two?

Boyd Hendrickson

Not necessarily. We are typically where we have it, the specialty unit. We also have in ARU, so lot, in those facilities, lot of times will combine those units. We have seen a lot of success in driving sort of higher acuity with giving sort of patients that you see go to an L-pack or that come in. We have seen a lot of ventilator and respiratory increases in occupancies. So we’ve seen a nice jump so far with the few pulmonary managed units we have.

Jason Gurda – Leerink Swann

And just the last question was just on, the Texas case mix, I just want to confirm. Was that system – did that start in the fourth quarter?

Boyd Hendrickson

It actually started in September, and it's kind of a RUG system, but it's basically like the traditional Medicaid program minus a lot of the highest categories.

Jason Gurda – Leerink Swann

So you have another eight months before that anniversary?

Boyd Hendrickson

Correct.

Jason Gurda – Leerink Swann

Okay, great.

Boyd Hendrickson

As of now, it looks like it's the first year we've seen the RUG systems, Texas, I don’t – there's no talks about it changing.

Jason Gurda – Leerink Swann

Okay. Thank you.

Boyd Hendrickson

Thank you.

Operator

Your next question comes from the line of Brendan Strong [ph] with Barclays Capital. Please proceed.

Brendan Strong – Barclays Capital

Hi, good morning. Thanks for taking the question. Boyd, I just wanted to go back to your comments around the occupancy rate. I mean is it – were you trying you suggest that really the key reason for the decline on occupancy rates year-over-year was because of the introduction of the Express Recovery Units at some facilities. And I guess, if so, the number I kind of back into would suggest that occupancy rates at those facilities probably drop below 79% and I am just curious if that sounds about right?

Boyd Hendrickson

Yes, the comments that I made was relative to the fact that we – we thought we were going to have more recovery units open prior to the end of the year. We ended up opening several of them up in the fourth quarter and more importantly later on in the fourth quarter. What I try to indicate was the fact we do take beds out, when we were doing the renovation and converting them into the Express Recovery Unit and there is a little bit of start-up time after we get them open back up again and getting functional. We didn’t have that done as early as we thought, which we felt like had a little bit of an impact on fourth quarter occupancy and then I went on to say that we think now that we can really focus on the units, we are only going to – we are opening up fewer units in 2009, which will give our people ample opportunity to concentrate on the new openings and we feel like that, that will be able to nudge the overall occupancy sum.

Brendan Strong – Barclays Capital

Okay. Great, so there wasn’t any other competitive dynamic shift or anything like that you think led to the declines in occupancy?

Boyd Hendrickson

Yes, we did have – today, we have – still have some competitive pressures in Texas, we have three facilities or four facilities that new build around those. That probably contributes to total occupancy drop of about 60 patients, 70 patients. And we just had some markets that are just lower than typical in Q4. Overall, our new admission volume was up over Q3, but not as we have seen in the previous Q4 – fourth quarter. So, some of its related to a little bit of a slower volume, we started of fourth quarter pretty high and it’s really slowed in November, we got busy again, early December and then it really dropped up in late December which we have not typically have seen in the past and now we’re seeing it pick back up a little bit, so.

Brendan Strong – Barclays Capital

Okay. And then just one question on guidance, you guys overall guiding towards revenue growth of, call it 8% to 9%. Just as you think about those components there, how do you see that breaking out? I mean some of this is going to be coming from the new facility in Dallas and some from price and just you can give me some break down there?

Jose Lynch

Well, you got your rate growth too that will carry on through the – through the beginning, you had Medicare go up in the fourth quarter but you really pick-up three quarters of growth, three quarters of year rate growth. A fair amount of it is in rate moving more in to the higher occupancy we're in to the –

Boyd Hendrickson

Higher acuity.

Jose Lynch

Higher acuity and then the overall occupancy picking up.

Brendan Strong – Barclays Capital

Okay. So as I look at these very strong rates in the fourth quarter, it sounds like you'd expect that to continue?

Jose Lynch

Then to our ancillary companies, if you look at therapy and even the little hospice company is showing fairly good revenue growth year-over-year too.

Brendan Strong – Barclays Capital

Great. And then just maybe one last question on the managed care rates; is there any reason why we don’t see some stronger rates there given the overall shift in the business towards trying to treat higher acuity patients?

Boyd Hendrickson

Yes, we've not been too aggressive. I mean we're going to see some jumps in the coming quarters with some big contracts we’ve renegotiated. But we've – we've not really pushed it too hard because we've seen a lot of ADC growth out of managed care and it just depends on the markets we've grown and for example in New Mexico, we've grown a lot there with managed care and the rates are little bit softer than our 363 average. So, we are on – we are just trying to ask you not bullish and losing business because it’s still a handsome margin at that 363. So, we have some current contracts that we move past, actually three that we – we’ll start to realize in the coming quarters.

Brendan Strong – Barclays Capital

Thanks very much.

Jose Lynch

Sure.

Operator

Your next question comes from the line of Eric Gommel with Stifel Nicolaus. Please proceed.

Eric Gommel – Stifel Nicolaus

Hi, good morning. Do you guys have the patient day mix for the SNF business for the quarter handy?

Jose Lynch

Yes, what do you, which particular –?

Eric Gommel – Stifel Nicolaus

It’s a private managed care Medicaid medic and you know the private managed care, the Medicare and the Medicaid patient day mix – not the revenue mix patient day?

Jose Lynch

Sure, so it’s Medicare 16.5%, managed care at 6.8%, Medicaid at 58.3%, private at 11.6% and other at 6.8%.

Eric Gommel – Stifel Nicolaus

Great. Thanks. Relative to the guidance here you’re factoring in full market basket in the fourth quarter ’09, I am curious if you could give us some thoughts on what gives you the comfort that you will receive a full update I mean where given some of the med pack recommendations obviously they have made recommendations of past Congress has chosen not to follow up on those recommendation they did in the last year, but I was – I would like to just get your thoughts on how do you see things stacking up from a legislator policy standpoint over the next few months relative to the market basket?

Jose Lynch

Well, I think like every year we got our work cut out between now and the end, when they finally finalize the budget, but we just didn’t feel like there was any other way to go for a five-year period now if you are looking historically why they come out with the same type of the recommendation, if you look at the economics they probably haven’t been it bad if they are today. However, I think one thing that’s – well they eluded to it a minute ago but on any given day long-term care is a job creator, there are a 100,000 jobs available in the country for long-term care and I think that – that kind of place in to our favor in terms of our abilities to negotiate, but I think that – we’ve got the same uphill battle that we always have and trying to get our fair share out of the program.

The one thing that I think we’re kind of confronted with this year that we are probably going to have to deal with the doctor problem, and that may take a little bit of the market basket away. I think with Medicare they probably don’t go back, and my opinion would be that they don’t go back there. The only other thing they've got going on would be to drive project, and this drive project isn't meant to take any money out of the system only to reallocate or rebalance the payment within the RUG category. So all in all, like every year, we've got a battle, but I think that we're going to prevail. The best case would be that we get the full market basket. Now the worst case would be we'll probably can get zero. And a highly probable would be a little bit of a give back from the market basket to take care of the doctors.

Eric Gommel – Stifel Nicolaus

Fair enough. And then you mentioned this drive project in some of the (inaudible) of the RUG and I was curious relative to your ERU strategy, you have these other sort of specialty units. I mean I’m curious how much difference is it really if you chose to maybe pursue more of these specialty units versus rehab units and have you kind of thought about that as you look at your longer term strategy in relation to the – to potential changes or is it really just local market-by-market you look for the opportunity and that’s where you developed the unit?

Jose Lynch

It’s pretty much market driven. It’s very, very difficult to look inside and try to figure out what they are doing with which drive and come up with any conclusion or come up with any direction for the company from what we don’t know that much about. The only thing you configure with drive is that if they move money around, you’re going to get affected positively – negatively part of it. Its kind of – like I told people before, its kind of like having your head in a refrigerator and you’re feeding the oven on the average you’re probably going to be comfortable. And I think the other would be more market driven. It would be – if we find a need in a market to go with pulmonary advantage unit, where we feel like that we can deal and treat the inpatient and get a Medicaid rate that will support it even a long side of the Medicare rate then we'll do it.

The women’s unit is something that has worked very well where we've – in a – being – putting a second unit into a building, where we've had a real good traditional ERU unit up and running, and we wanted to do something a little bit different, a little more unique and rather than just double the unit, we put a second unit in and kind of concentrated on the women, and that’s worked out very well. So that’s more market driven rather than anything that we're trying to figure out with any kind of a re-RUG distribution.

Eric Gommel – Stifel Nicolaus

And then just the last question, so that I think you kind of answered this with some of the other questions. But, fourth quarter jump in Medicaid rates, so is that really related – much of that related to Texas and the TILEs?

Jose Lynch

There was all that and there was a retroactive, there was a pick up of some California money, remember?

Eric Gommel – Stifel Nicolaus

Alright, okay.

Jose Lynch

We had that California money that didn’t get – we didn’t have the rate letters at the end of the third quarter.

Eric Gommel – Stifel Nicolaus

Right. Okay. Thanks.

Jose Lynch

Thank you.

Operator

Your next question comes from the line of Rob Mains with Morgan Keegan. Please proceed.

Rob Mains – Morgan Keegan

Thanks. Good morning.

Boyd Hendrickson

Good morning.

Rob Mains – Morgan Keegan

Want to make sure I get a couple of things straight on the per diems. Medicaid, you say in the guidance, a 2% rate increase year-over-year, I’m assuming that your fourth quarter number was 147 per diem and year average is 139. I assume we're talking based on the 147 not the 139?

Boyd Hendrickson

It's normalized to take out the one-time pick-ups that are driving the fourth quarter rate.

Rob Mains – Morgan Keegan

Okay. How much were those the one-time pick-ups? That was just in California, right?

Boyd Hendrickson

Yes, that’s correct. Yes. So I can – we can e-mail you the exact.

Jose Lynch

It’s a two-month pick up of the California rate increases, that’s what we picked up in the fourth quarter.

Rob Mains – Morgan Keegan

Okay, yes. You can shoot me that that would be good. And then Medicare per diem if I look at the fourth quarter over the third quarter, it wasn’t as high as the market basket plus the wage adjustments that you got. Can I summarize that you had a little bit of a decline in mix during for the Medicare sense – for your Medicare census during the fourth quarter?

Boyd Hendrickson

Not really. If you take out like B, I think there is – the 5.7 includes part B. If you look at like just A only, part A is like 493 over 478, which is like 3%. Most of it actually, because the other nine stayed pretty much flat. Slight drop in the up – in the higher rehab categories but most of its a swap in the – we had a drop in California days, which we had like about a 6% growth. So the days dropped by like 4% in California and then like for example, New Mexico, which was held flat with the market basket, they had like a 14% growth in Medicare days. So, most of it was just some movement in state Medicare rates and days that drove that but I think we are still realizing the company overall per diem of about 4% to 4.1%.

Rob Mains – Morgan Keegan

Okay. So it's more a geographic mix than acuity mix. And one of the drivers then I would assume for the Medicare increases that you are assuming this year above and beyond whenever you get the market basket would be the opening of the ERUs?

Boyd Hendrickson

Correct.

Rob Mains – Morgan Keegan

Okay. And that would also drive higher Medicare census as well as a percentage of days?

Boyd Hendrickson

It should.

Rob Mains – Morgan Keegan

Okay. Just last question, when you look at kind of projecting on over the year first half of the year has had kind significantly higher skilled mix than in the second half of the year. Is that a pattern that you think you are going to – it’s going to be normal for you or would you expect some sort of normalization going for it – first half getting a little lower and second half getting a little higher?

Boyd Hendrickson

First quarter has always been our stronger quarter for Medicare and managed care. And in second quarter tapering of and then third quarter is the low and then fourth quarter probably is the third. I think that first quarter from preliminary indication would be that it’s going to be strong again.

Rob Mains – Morgan Keegan

Okay so similar during past years?

Boyd Hendrickson

Right.

Rob Mains – Morgan Keegan

Got you. Thank you very much.

Operator

Your next question comes from the line of Gary Taylor with Citigroup. Please proceed.

Gary Taylor – Citigroup

Hi, good morning. Well since you mentioned it I'd say your release has been better received than Treasury Secretary's comments today if you look at what’s happened to the market since we started the call so that's good.

Boyd Hendrickson

So wee like the good one every now and again.

Gary Taylor – Citigroup

Yes, sure. Hey, did you guys mention – when you look at your sequential revenue increase of about 7 million was Medicare about 3 million of that I think you disclosed where you thought that was going to be back in the fall and I just don't remember?

Boyd Hendrickson

Sequential quarter-over-quarter Medicare –

Jose Lynch

Yes it was about 2 about 1.9 I think it came out right around there, 2.9% growth to 67.3 million over 65.4 right around that.

Gary Taylor – Citigroup

No I am just I am talking on a dollar basis your revenue grew about $7 million sequentially, so I was calculating look like Medicare was may be a little less than 3 million of that?

Boyd Hendrickson

That’s correct.

Gary Taylor – Citigroup

So then if you exclude that then revenue grew about 4 million sequentially in operating cost too which is a pretty good ratio, was part of that what – that was talking about with the reserves you took in the prior quarter? That’s in the same line item or not?

Boyd Hendrickson

Yes, it could all be in the operating expenses.

Gary Taylor – Citigroup

Okay. And that probably explains it. Alright. On your 48 million in CapEx total for next year, what's the average useful life on that?

Boyd Hendrickson

Well, it’s would vary under development CapEx and Express Recovery Units, it would tend to be much more longer life than the 18 million, 18 million would have a shorter life term if its actually expense in terms it would be depending on, let’s say we put in new doors and what's like the door, that type of thing we would look through and do a specific allocation. But the modeling purposes the first bucket is usually considered a longer life and then the second bucket a shorter life.

Gary Taylor – Citigroup

So I guess 30-year on the 30 million?

Boyd Hendrickson

Right.

Gary Taylor – Citigroup

And as far as the new Dallas facility, can you give us anything in terms of your expectations for what that might contribute in '09 revenue, EBITDA, patient days, is there anything you can share on what do you think the occupancy might be by the end of the year or anything?

Boyd Hendrickson

Well I think the one thing that we did tell you that we got the Dallas building opening up and we’ve got a small 41 unit building in Taganasky [ph] and our retirement living opening approximately in April and May. And from EBITDA standpoint we budgeted about 1.3 million in startup losses and we feel like that the breakeven for Dallas will be –

Jose Lynch

Probably about 8 months.

Boyd Hendrickson

8 Months. And then the first fall year of operation for Dallas complete after we hit our breakeven point, we anticipate somewhere in the neighborhood of 3 million to 3.2 million in EBITDA.

Gary Taylor – Citigroup

Okay. I miss that, sorry. And are those beds, when you have available beds in the period for the 4Q, I assume Dallas is not in there.

Boyd Hendrickson

They are not, not in there.

Dev Ghose

Not yet in operation.

Gary Taylor – Citigroup

Okay.

Boyd Hendrickson

I think we’ve got our life safety code, our final inspection on the 18th of February and then we'll bring the – as soon as we open it up and take patients like – we will bring the 100 beds – 136 beds on.

Gary Taylor – Citigroup

Got it. My last question on the California Medicaid rate pick-up. Did you mention just on a total dollar amount what that contribute to the quarter, was it material to the quarter at all?

Boyd Hendrickson

It was about 685,000 something like that for the quarter.

Jose Lynch

Yes I think what we have – we ended up the California put about 5% in to the rate in August.

Gary Taylor – Citigroup

Yes.

Boyd Hendrickson

And we got our rate letters, which basically ran somewhere in that area. Each individual specific, we got the rate letters in November. I know there has been some concern about California Medicaid and the payment. And we continue to get paid in fact about two to three payments ago. We began getting the new rate included in our payment, there is going to be a final settlement on the 12th of March, catching is up on all the retro money, back to August from a cash standpoint.

The other thing in California, we just – let everybody know we – week and about – week and half ago, there is meeting with the Governor and with the controller. And I know a lot of people that concerned about payment in California. They are pretty well committed that through the end of March long-term care will continue to get paid without interruption of cash flow. Now that was a commitment, who's to say but we feel fairly confident that we'll continue to get paid as a kind of a preferred provider. A lot of people are reading the news everyday and I think reading more into it as would relate to long-term care. The other thing that they've committed to do, they extended AD1629 for another two-year period. But we anticipate in August of this year more money being put into the rate like we have in prior years according to AD1629. But we are – although the cash would always be a concern, California is moving in a fairly positive direction as far as long-term care.

Gary Taylor – Citigroup

Got it. The provider rate free that’s in the news, has that been implemented for other facilities, but excluding SNF or that’s not in place yet?

Boyd Hendrickson

I don’t think there is a provider. There are some vendors that they haven’t currently been paying, but I am not sure if you told them we are a provider in there and if that would encompass healthcare, but we – anybody with experience any kind of reference [ph].

Gary Taylor – Citigroup

Okay. Thank you.

Operator

Your next question comes from the line of Pakstein Scott [ph] with Jefferies and Company. Please proceed.

Pakstein Scott – Jefferies and Company

Hey, good morning. Boyd, going back to your – I believe you made the comment in your prepared remarks about acquisitions still being a part of your strategy. And I was wondering if you could provide a little bit of color as far as what you are seeing out there and then also I know you are doing out a little bit of room on your revolver, but given that you could see a payment freeze and some other issues that might tie that up. Kind of what's your expectation for funding those acquisitions if you were to see some?

Boyd Hendrickson

I think we got room on our revolver. One thing is that we'll be doing – we generate positive cash flow too during the year. And although if you look at the CapEx that we've got budgeted for the year, while in addition to covering the CapEx and any debt payment down – paying any debt down, we are creating some pre-cash flow. We were continuing to look at the one or two opportunity where we can go in and buy an underperforming asset like we did in Kansas, like we did in New Mexico and bringing them up to our level of operation. We are not. There seems to be a number of them around.

I think the pricing will be a little bit of a – you can't afford to pay the multiple that you paid historically and I think right now we are going through a little bit of check-in balance between the seller and the buyer. The seller has the higher expectation and the buyer is willing to pay, but I think that the two are coming together right now and then there'll be opportunity. So, and we probably won’t do anything. New Mexico is the biggest thing that we did. And I think that, that requires somewhere in the neighborhood of $50 million of cash. And we will look for smaller opportunities along with the new buildings that we’re planning on building down in Fort Worth.

Pakstein Scott – Jefferies and Company

Okay. And one final question, I know we touched a little bit on utilization in the economic impact, but specifically looking at the upper 9 RUG categories, looking – going from the third quarter to the fourth quarter remains flat versus the spike or the uptick we saw going from the third quarter to the fourth quarter last year I was wondering if you saw anything in the trends late in the quarter or early this quarter, they would imply that, that is somewhat stabilizing or if you are seeing any trend down?

Boyd Hendrickson

Typically what drives upper 9 is the volume of new admissions. The more admissions you have coming in from the acute hospitals, they usually see that number trend up. So again, we are not realizing sort of the capacity that we’re expecting on new admission volumes and over those previous quarters you're referring to. I think the new admission volume hampered with a slight tick-up. So, the more patients we get indirect from the acute, the higher that number goes. So I think that some – we are in a comfort zone right around that 40%. We have good documentation in all of those categories, but as new admission from – and readmission pickup, we should probably see those numbers potentially grow a little bit.

Pakstein Scott – Jefferies and Company

Okay, thank you.

Operator

Your next question comes from the line of Andreas Dirnagl with Stephens Inc.. Please proceed.

Andreas Dirnagl – Stephens Inc.

Yes, good afternoon guys. Most of my questions have been covered, but I did want to get back to Boyd. Just one comment you made in terms of 2009 guidance specifically, your expectations for the Medicare are reimbursement changes. Obviously, in the press release and sort of initially in the call, it was stated that you were looking at consistent with previous year, which would be a full market basket update and during your commentary you then said, well, you think that as we go forward we could get some cuts to that just given the physician issues. And then I guess you characterized. I just want to make sure it's sort of the best case scenarios of full update sort of likely cases some cutoff of that and then worst case would be a freeze. Is that correct?

Boyd Hendrickson

Yes.

Andreas Dirnagl – Stephens Inc.

And then I guess the only question is, given that it only impacts one quarter of fiscal 2009, can we assume that sort of worst case to best case scenario can probably all be incorporated in the spread of your guidance that you have out there now?

Boyd Hendrickson

I think if you're looking at worse, why you know maybe not, if you are looking at some proportion of that why maybe.

Andreas Dirnagl – Stephens Inc.

Okay.

Boyd Hendrickson

You can cover.

Andreas Dirnagl – Stephens Inc.

Sure. And then maybe just one question for Ghose. Ghose, specific to the assisted living side of the business, are you seeing any more of an economic impact there than you might be on the more skilled nursing side or do you still feel comfortable given your price point in that business?

Dev Ghose

We were anticipating it's going to – again it's like 11% of our debt and its performing really, really well. Our price points again right around the $80 a day or in the 2,500 a month range as occupancies are doing really, really well. It’s a performing business, the seven we acquired and Kansas are performing really, really well, they’re up 20% above our expectations and they are doing well. So it’s a – it's still a price point where we want to be, we've not got into the high end stuff and we don’t plan on it as of now.

Boyd Hendrickson

And then I think we told you there, I mentioned when I was talking about Dallas that we're opening up a new unit probably in April, May which will be a 41 unit, 41 unit in Taganasky [ph]. And so we’re continuing to like to expand a little model as opportunities come up.

Andreas Dirnagl – Stephens Inc.

Okay, great. Thank you very much.

Operator

(Operator instructions). And your next question comes from the line of James Bellessa with D.A. Davidson & Co. Please proceed.

James Bellessa – D.A. Davidson & Co.

Good Morning.

Boyd Hendrickson

Good Morning.

Jose Lynch

Morning.

James Bellessa – D.A. Davidson & Co.

In your guidance you say your (inaudible) effective tax rate of 39.5%. In the most recent quarter, the tax rate was almost 200 basis points lower. Was there just true-ups or was there something above ’08 tax rate that will be different going forward?

Dev Ghose

Most of that James is from enterprise on credits that we got in the quarter it has had a challenging effect on the rate.

James Bellessa – D.A. Davidson & Co.

And you don’t have that enterprise credit going forward?

Dev Ghose

We’re not protecting much of that in the future. It’s something that we have been looking on; we got some of it – most of it in the third quarter and some of it in the fourth quarter.

James Bellessa – D.A. Davidson & Co.

In the assisted living facility bed count, it seemed like it went down the same amount that your skilled nursing facility bed count went up. Did you just move some beds from assisted living facilities over SNFs? This is sequentially from the third quarter to the end of the fourth quarter.

Dev Ghose

I’m sorry. I was looking somewhere else when you were asking the question. We have a couple of facilities that actually – a couple of SNFs that tap out. And we reconverted, we removed all the out beds in Missouri to turn the facility into an entirely SNF beds, so just a drop in that unit. We thought we could sell those out beds with SNF patients. So, that’s the whole change right there.

James Bellessa – D.A. Davidson & Co.

And then on your rehabilitation therapy facility account, can you give us color on what – where you stand at the end of the year?

Dev Ghose

Under what?

James Bellessa – D.A. Davidson & Co.

Owned facilities and unaffiliated facilities?

Mark Wortley

Yes. This is Mark Wortley. I'd be glad to. We ended the quarter in 187. 75 were affiliated and 112 were not. And as of today, we are at 194.

James Bellessa – D.A. Davidson & Co.

And the unaffiliated went down sequentially during the fourth quarter, what caused that?

Mark Wortley

We did careful analysis, our payer capabilities. We had some customers that had some difficulties in payment and so we proactively trend the portfolio.

James Bellessa – D.A. Davidson & Co.

Thank you very much.

Operator

You have no further questions. So at this time, I would now like to turn the call over to Boyd Hendrickson for closing remarks. Please proceed.

Boyd Hendrickson

Hey, thank you everybody for joining the call and we'll talk to you in the quarter.

Operator

Thank you for your participation in today’s conference. This concludes the presentation. You may now disconnect. Have a good day.

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