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Five Star Quality Care, Inc (NYSE:FVE)

F4Q08 Earnings Call

February 25, 2009 5:00 pm ET

Executives

Tim Bonang - Director of Investor Relations

Bruce J. Mackey Jr. - President, Chief Executive Officer

Francis R. Murphy III - Chief Financial Officer, Treasurer

Analysts

Kevin Ellich - RBC Capital Markets

Joel Ray - Davenport & Company

Jerry Doctrow - Stifel Nicolaus & Company

George Walsh - Gilford Securities

Operator

Good morning ladies and gentlemen and welcome to the Five Star Quality Care Quarter Fourth Quarter 2008 Financial Results Conference Call. (Operator Instructions) At this time for opening remarks and introductions I would like to turn the call over to the Director of Investor Relations Mr. Tim Bonang. Please go ahead, sir.

Tim Bonang

Thank you, Jason, and good afternoon everyone. Joining me on today’s call are Bruce Mackey Five Star’s President and Chief Executive Officer and Fran Murphy, Five Star’s Chief Financial Officer. The agenda for today’s call includes a presentation by management followed by a question-and-answer session.

Before we begin today’s call I would like to state that today’s conference call contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and Federal Securities Laws. These forward-looking statements are based on Five Star’s present beliefs and expectations as of today, February 25, 2009.

The company undertakes no obligation to revise our publicly release the results of any revisions of the forward-looking statements made on today’s conference call other than through filings with the Securities and Exchange Commission regarding this reporting period. Actual results may differ materially from those projected in these forward-looking statements.

Additional information concerning factors that could cause those differences is contained in our filings with the SEC. Investor’s are cautioned not to place undue reliance upon any forward-looking statements.

With that I would like to turn the call over to Bruce Mackey.

Bruce Mackey

Thanks Tim and thanks everyone for joining us this afternoon. Let me begin with a brief overview of Five Star Quality Care.

Five Star is primarily a senior living services company that owns, leases, and operates senior living communities with approximately 22,000 living units located in 30 states. The units in our 210 communities break down by product type as follows: 28% are independent living units, 43% are assisted living units, and 28% are skilled nursing beds. In total, our senior living operations account for nearly 85% of our revenues. In addition, we operate five institutional pharmacies, and two rehabilitation hospitals as complimentary ancillary businesses that together make up approximately 15% of Five Star’s revenues.

Even though we are her to talk about the fourth quarter and year-end results, I would like to note an event that occurred just after year-end. In January of 2009 Five Star repurchased and retired $46.5 million par value of our convertible senior notes. The transactions were executed at an average price of 43% of the par value of the notes and at a total cost before accrued interest of $20 million. The remaining $80 million of our convertible senior notes can be put to us in October of 2013. This redemption reflects 37% of the outstanding senior notes and was principally financed by drawing on our UBS credit facility which I will discuss in more detail in a moment.

We will record a one time $25 million gain or $0.78 per share basic on early extinguishment of debt during the first quarter of 2009. The board and management believe this repurchase to be a good use of capital, providing a 24% return to Five Star and its shareholders. It deleverages our balance sheet and going forward reduces our diluted share count by 3.7 million shares. I think it also underscores the board’s confidence in Five Star’s long-term prospects.

Since we reported our fourth quarter and year-end results a year ago, the economic landscape has changed greatly. 2008 has been a difficult year for Five Star as a result of tumultuous market and economic conditions. With increasing pressures to our bottom line, appropriate areas of emphasis for single operators, or any company for that matter, are mitigating risk, enhancing liquidity, and shoring up balance sheet strength.

We believe that Five Star has positioned itself to withstand a prolonged economic downturn for the following reasons:

Five Star has no near-term debt maturities for our senior notes or mortgages. The closest maturity we face is in October 2013 when our senior notes can be put to us. In November 2008 we reached a settlement with UBS concerning our option rate securities. We’ve a put right to UBS to sell these securities at their par value of approximately $75 million in June 2010. In the interim, we’ve established a non-recourse credit facility equivalent to 60% of the fair market value of the auction rate securities. The availability under the credit facility as of December 31, 2008 was currently just under $40 million.

In December 2008 we extended our $40 million credit facility with Wachovia until May 2010. It is well documented in the press that commercial banks are extremely reluctant to lend. This renewal in this challenging environment is a third-party endorsement of Five Star’s long-term viability.

We own 22 unencumbered communities with a net book value of $126 million. These are assets that we can finance with debt or use for sale lease back financing with a REIT. Our communities require no entrance fees. One of our communities has it as an option, but a large up front commitment is not required at any of our communities. This gives potential residents much more financial flexibility in this trying economy.

We have a well-diversified portfolio of communities. Our product mix ranges from mid to high end with locations in 30 states. We also service a variety of resident and patient needs, from independent living, assisted living, memory care, and skilled nursing. In my mind our biggest advantage may be our cost-controlled culture. As a company we were born out of adversity, losing money for our first few years of existence. Controlling costs helped us move to profitability in 2004.

Now I will move on to our fourth quarter results.

Total revenues in the fourth quarter increased 16% from the 2007 period to $292 million. Net loss from continuing operations were $0.21 per share, basic and diluted, compared to net income per share of $0.22 and 40.20 basic and diluted respectively for the same period last year.

There were a number of one-time items in the fourth quarter. First, a $5.9 million unrealized loss as a result of our holdings of auction rate securities. We continue to record fluctuations in the pricing of our auction rate securities. In the last quarter of the year these investments declined by an additional $5.9 million. The impact was largely offset by an increase in the value of our put rights, which I will discuss in a minute.

Second, we had a $5.4 million unrealized loss due to the impairment of certain investments in marketable securities. These investments are held by our captive insurance companies. In recording our investment impairments we applied current accounting pronouncements which require the use of judgment. We will continue to monitor these investments for impairment on a quarterly basis. The vast majority of these investments are in preferred securities which are currently paying their originally stated dividends.

Third, an $11.1 million gain on our receipt of put rights from UBS related to our investments in auction rate securities. In the fourth quarter we recognized this gain as a result of UBS’s agreement to buy our auction rate securities at par beginning on June 30, 2010. These rights were valued in relationship to the fair value of our auction rate securities and the largest risk associated with these put rights is UBS’s continued financial solvency. The value of our put rights should fluctuate inversely with the value of the auction rate securities that we hold. Any change in the value of our auction rate securities to be closely tracked by an offsetting change in the value of our put rights.

Our fourth quarter results were further impacted by a goodwill and fixed asset impairment charge. We test impairment for goodwill and long-term assets on an annual basis, or more frequently, as circumstances indicate that a possible impairment has taken place during the year. Based on the results of our review of the long-lived assets of the pharmacy and hospital businesses, it was determined that our recorded goodwill of $5.9 million at the pharmacies, and fixed assets amounting to $1.8 million at the hospitals, were not supported by these businesses estimated cash flows at our current long-term discount rate and were therefore written off. We will continue to assess these assets quarterly. Without these items we would have reported diluted earnings per share from continuing operations in the three months ended December 31, 2008 of $0.03.

In spite of the difficult economic conditions our core single ceiling business was profitable in the fourth quarter. Nearly 85% of our total company revenues come from this business. Approximately 70% of our ceiling revenues are coming from private pay sources. To reflect our focus of this business going forward, we will be using the name Five Star Senior Living in our marketing materials to identify this business.

In the fourth quarter of 2008 Five Star Senior Living produced $20.6 million of EBITDAM compared to $20.2 million for the third quarter of 2008. In terms of our key metrics, while occupancy was down, we were still able to push rate and control costs. Our average daily rate increased 2% year-over-year overall and 4% on a same store basis. For the full year 2008 we increased average daily rate by 4.3% overall and 5.2% on a same store basis. On average Five Star’s increased same store average daily rate by over 4% over the last five quarters.

Wages and benefits as a percent of ceiling revenues were 50.4% in the fourth quarter up from 49.8% a year ago and 50% last quarter. In 2007 and 2008 we have kept this under 51% and expect to be able to continue this trend going forward.

G&A as a percent of revenues moved up to 4.5% as expected, but we still maintain the leanest operation in the industry. We expect this percentage to be in a similar range in 2009.

On the occupancy front senior living occupancy for the fourth quarter of 2008w as 87.6% compared with 90.3% for the same period last year and 88.2% a quarter ago. Same store occupancy for the fourth quarter of 2008 was 88.0% compared with 90.3% for the same period last year and 88.5% a quarter ago. Same store occupancy as of this past Friday was 87.4%.

While occupancy is a challenge for all of us in the industry, Five Star may be different than many of its peers in that while we have a community with an occupancy level under 85%, we are offering concessions, but not all out rate reductions.

The question we’re asked about frequently these days has to do with rental concessions. Rental concessions increased 6.3% on a same store basis in 2008 over 2007, but were flat sequentially from Q3 to Q4.

It is our belief that actual rate reductions are a dangerous game. Once you provide rate cuts to one resident, the rest looks like you provide those same cuts to them. Instead, we believe that a professional, highly skilled sales force is essential to Five Star meeting its occupancy targets. Accordingly, we’ve begun rolling out a new program called “selling the five star difference”, the first part of our proprietary comprehensive sales training initiatives. The program will have a number of ongoing training seminars.

This program will help attract new residents coming through our front doors, but in addition, we are focusing on controlling the number of residents who are exiting through our back doors due to increased financial pressure associated with the recession and diminishing retirement accounts. To do so, within the last few weeks we’ve rolled out a program called Five Star Financial Solutions. A piece of this program includes educating our communities’ executive directors to become a financial resource within their community. This program includes working in conjunction with the following companies:

First, a company called Elder Life Care helps to establish a bridge loan for individuals within a 48-hour approval window. This program allows six family members to back the loan and factor into the credit approval process. Elder Life Care is a third party. None of the risks of these loans falls to Five Star.

Second, a company called Life Care Funding Group provides life insurance settlements for policyholders. The program is essentially an eBay for life insurance policies. This company will bid our for residents, or prospective residents, life insurance policies to investors who will pay cash for them today.

Last is a company called A Place for Mom, which is a national third party referral company. In addition to generating leads for Five Star, this company recently created a division designed specifically to work with veterans and/or spouses of veterans to help obtain senior living benefits due to them from the Federal Government.

Our financial solutions program in addition to helping residents stay in our communities, we believe, will also help increase the number of people coming through the front door as well.

We will also be rolling out a new website in the next month or two. It will capitalize on search engine optimization and dovetails on the back end with our lead generation and lead tracking system. We believe this website, over time, will help us to drive occupancy.

Moving on to acquisitions: in December we purchased seven independent living, assisted living, and memory care communities for $44 million. Four of these communities are located in North Carolina and three communities are in South Carolina. They have a total of 628 living units, so we purchased them at about $70,000.00 per unit in a process directed by the US Bankruptcy Court. Including these seven properties, Five Star currently operates nine human communities in North Carolina and 16 communities in South Carolina.

Our ancillary businesses, which make up only 15% of our revenues, continued to struggle in the fourth quarter. The rehabilitation hospitals, which account for 9% of our total revenues, lost $1 million of EBITDAM during the fourth quarter. On the positive side, we finally opened one new wing at New England Rehab and expect to open a new wing at Braintree within weeks. We expect to be working on the second wing at each hospital soon and one of the benefits of this tough economy is that we believe we’ve been able to reduce the cost of these renovations by just under 10%.

The pharmacy, which makes up under 6% of our total revenues, lost $539,000.00 of EBITDAM during the fourth quarter. Our fourth quarter pharmacy results were negatively impacted primarily by an inventory adjustment of approximately $1 million. As of last Friday, we are currently servicing approximately 11,500 customers and have expectations to add over 1,000 customers during the next several quarters.

Before I turn the call over to Fran, I would like to update you on the status of our discontinued operations.

We sold the institutional pharmacy located in California on January 15, 2009.

We were unable to sell the mail order pharmacy on acceptable terms and expect to discontinue all operations on or about March 31, 2009.

We and senior housing are still in the process of selling the two assisted living communities in Pittsburgh. Upon their sale our annual rent payables to senior housing will decrease by approximately 9.5% of the net proceeds of the sale.

At this point I would like to turn the time over to Fran Murphy, our Chief Financial Officer.

Fran Murphy

Thanks Bruce and good afternoon everyone. In the fourth quarter of 2008 our senior living revenues increased $40 million or 19.3% to $249 million from the fourth quarter of 2007. Additional revenues from the 47 senior living communities that we began to operate in 2008 were responsible for $37 million or 93% of this increase. The remainder was due to high daily rates offset by decreased occupancy at our same store communities.

Senior living operating expenses were $188 million in the fourth quarter, an increase of $31 million, or 9.8%, from the same period last year. $27 million of this increase was due to communities we began to operate in 2008. Increases in same store expenses, particularly for wages and benefits, explains the remainder of this increase.

On a same store basis, senior living revenues were $211 million in the fourth quarter, an increase of 1.3% from last year, reflecting a 4% increase in average daily rates offset by a 230 basis point decline in occupancy.

Same store senior living expenses were $161 million in the fourth quarter, an increase of 2.5% from last year due largely to increases in wages, benefits, and utility expenses.

For all of 2008 our same store operating margins before rent, or EBITDARM, increased 3.4% over the prior year, while EBITDARM at our new communities was $28 million or 29% of these communities 2008 revenues.

As Bruce mentioned earlier, we are keenly focused on building census and controlling labor, two key drivers of profitability for us. However, it is worth noting that we are always looking for ways to reduce costs, particularly in this challenging environment. Let me tell you about a few of the things that we’ve done or plan to do.

In January we purchased 37% of our convertible senior notes, which has reduced our annual interest expense by $1.7 million. In the last few weeks we have entered into several multi-year electricity agreements in deregulated states that will save us nearly $500,000.00 a year and we are still exploring other opportunities in this area.

Recently we entered into a new office supply contract that saves us $400,000.00 annually. On Monday of this week we entered into a three-year agreement with Omni Care that provides us with pharmacy services in areas that are wholly owned pharmacies don’t currently service. We believe that this agreement provides us with an opportunity for significant savings and control over this vital expenditure.

Finally, we will be putting our $40 million annual food services contract out for bid later this year. We believe that many very good opportunities for savings exist in the current economic environment and we plan to take advantage of them.

I will now discuss the operating result of our other business lines.

First, at our hospitals revenues were flat in the fourth quarter compared with the fourth quarter of 2007, but down 3.5% for the year. The full year decline was due primarily to lower Medicare rates and the closing of several unprofitable outpatient clinics offset by a small increase in occupancy. Hospital expenses increased by 3.4% during the fourth quarter compared with last year, but decreased by 1.4% for the year, mainly due to reductions in labor costs and the closing of outpatient clinics. Rent at the hospitals we up slightly in 2008 due to added rent from the sale of capital improvements to senior housing.

In 2009 we’ve embarked on another round of cost cutting and consolidation initiatives at the hospitals and these are already making a positive impact on their operating results.

At our institutional pharmacy business both revenues and expenses increased by about 15% in the fourth quarter compared to the prior year, mainly as a result of adding additional Five Star residents to our customer base: on a sequential quarterly basis pharmacy sales increased by 8% while pharmacy expenses increased by 7%. In the fourth quarter we took further charge of $291,000.00 related to the contractual allowances recorded in the third quarter as we obtained better information about this liability. We also took a $731,000.00 charge due to over stated inventory levels at one of our pharmacies.

It is worth noting that in 2008 we made a total of $1.8 million of unusual adjustments related to the contractual allowance and inventory problems at our pharmacies and that these adjustments related almost entirely to prior years. I feel that these problems are now behind us. We have provided the pharmacies with additional control and oversight from the corporate level and have changed the accounting leadership in this business.

In the fourth quarter general and administrative expenses necessary for supporting our corporate and regional operations increased by 12% or $1.4 million from the same period a year ago. Most of this increase was caused by the need to expand our regional infrastructure to support the communities that we began to operate in 2008. As Bruce noted earlier, our G&A expenses were 4.5% of total revenues in the fourth quarter, in line with our expectations and still, we believe, the lowest in the senior living industry.

Rent expense increased 33% to $43 million in the fourth quarter, as compared to the prior year, due mainly to the leasing of new communities in 2008, but also because of additional rent expense from the sale of capital improvements to senior housing since January 2008.

Apart from the possible income taxes related to our repurchase of convertible senior notes, which we are still reviewing, we expect the taxes in 2009 will be approximately $7 million.

Before concluding, I would like to spend a few minutes discussing our balance sheet, cash flows, and liquidity.

At year-end we had unrestricted cash and cash equivalents of $16.1 million in unrestricted investments, including our UBS put right of $81.9 million. We had no amounts outstanding on our $40 million revolving line of credit with Wachovia and $21.9 million outstanding on our $38 million line with UBS. As of today we have nothing drawn on our Wachovia line and $37.6 million drawn on UBS.

Consolidated EBITDA was $5.9 million in the fourth quarter, after adjusting for the unusual items noted in our press release, and $6.9 million after accounting for the unusual items at the pharmacy that I just mentioned.

During the fourth quarter we reported $1.8 million of operating cash flow, a $13 million reduction from our average over the prior three quarters. Some of this decline is related to normal year-end payment trends, but an increase in accounts receivable of $8.3 million was also responsible for the shortfall. While we have seen an up tick in our days sales outstanding through 2008, we are now concerned that this situation has become precarious. Private accounts receivable are not to blame for most of the fourth quarter rise, instead this increase was due mainly to delayed Medicare and Medicaid payments; however, we continue to monitor our receivables very closely and have added a paralegal with extensive collection experience to our AR team who will provide additional over sight and expertise in protecting this most valuable of assets.

Our day sales outstanding, including the rehabilitation hospitals and pharmacy operations, was 22.6 days.

During the fourth quarter we made $27.3 million of capital investments in property, plants and equipment, including improvements to our lease holds. In December we sold $27.4 million of CapEx to senior housing and anticipate recovering over $11.3 million in the future.

During the quarter we also completed the purchase of seven senior living communities with 628 units for $44 million, as well as the purchase of an assisted living development parcel adjacent to a leased community for $3.7 million.

At the end of the fourth quarter we had $191 million of net property and equipment, which included 25 properties that were directly owned by Five Star; 22 of these 25 properties are unencumbered by debt.

In addition to the lines of credit mentioned previously, we had $126.5 million of convertible senior notes and $12 million of HUD mortgages outstanding at year end; however, as a result of our purchase of convertible senior notes in January, our outstanding balance on these notes is now just $80 million. We believe that we are in compliance with all material terms of our credit lines, notes, and mortgage agreements.

As we have noted on past conference calls, our performance in the coming quarters will be greatly influenced by the future occupancy levels that we are able to obtain. Looking forward to 2009, given the difficult environment, our goal is to maintain and possibly increase occupancy through the various initiatives Bruce discussed earlier and to be as cost effective as possible in running our operations.

We are confident that Five Star will persevere in these very difficult conditions that we will continue to generate positive operating cash flow, and at the end of this recession, Five Star will find itself both prosperous and growing.

That concludes our prepared remarks. We are now ready to take questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Kevin Ellich with RBC Capital Markets.

Kevin Ellich - RBC Capital Markets

I would like to discuss the Five Star Solutions that Bruce talked about. Can you talk about the arrangements and costs associated with providing those services to the residents, are there any costs associated with that?

Bruce Mackey

Breaking the three out, two of them don’t have any costs, elder life care or the elder loans do not. Those are, again, third party arrangements that the resident or perspective resident would enter into with the company. The veteran benefit has a minimal cost for an applications fee, but a nominal amount, several hundred dollars.

Kevin Ellich - RBC Capital Markets

Are those exclusive arrangements or not?

Bruce Mackey

No they are not. There was also marketing costs associated with them, but again it was not that material of an amount.

Kevin Ellich - RBC Capital Markets

Okay. Then moving on to the cost savings that Fran talked about, how much was the interest expense savings?

Fran Murphy

It was $1.7 million.

Kevin Ellich - RBC Capital Markets

That is annually, from the convert?

Fran Murphy

Yes, it is.

Kevin Ellich - RBC Capital Markets

Okay and then the Omni Care agreement, is that going to be a significant expense savings?

Fran Murphy

We’re not disclosing that at this time. It’s a combination of things that are coming into place. We’ve got a preadjudication consultant that’s involved in the process, so some of this will develop over time and we can report back to you later.

Kevin Ellich - RBC Capital Markets

Okay, that’s helpful. Then moving down the line to food services contract that you’re putting out for bid, who is that contract currently with and what is your expectation for cost savings?

Fran Murphy

It’s with FISCO. If we can pick up a few points it means a lot of money at a $40 million annual spend.

Kevin Ellich - RBC Capital Markets

Okay that’s helpful and then Fran, you also talked about the delayed Medicare and Medicaid receivables. I’ve seen some other healthcare providers see some of these issues. Have you identified what the issue is? You have obviously made some personnel changes to try and prove that, so what is your expectation going forward?

Fran Murphy

The personnel change wasn’t directly made to collect Medicare and Medicaid, it’s more directly related to private. The Medicare and Medicaid appear to be several unrelated conditions. Some of them are related to new facilities and getting their licenses.

Bruce Mackey

That is probably the biggest piece and it is the Medicare provider numbers associated with the new community that we’ve taken on and a portion of Medicaid as well. Some of these new acquisitions, and I’m going back a little bit, do take Medicaid so it’s getting the provider numbers for those as well.

Kevin Ellich - RBC Capital Markets

Right and with the purchase of the convert, could you have bought more or was there a certain limit that you guys were restricted to?

Bruce Mackey

We had board authorization for a certain amount that we were under on. In addition if you purchased a majority of the convert and you have to go through a tender offer process, so we had to make sure that we didn’t violate that rule.

Kevin Ellich - RBC Capital Markets

Is it possible you could purchase more or are you at that threshold where you can’t buy any more?

Bruce Mackey

I think anything’s a possibility, but we’re not actively purchasing additional converts right now, but we’ll have to take a look at it in the future. It depends on the prices and the opportunities that are in the marketplace.

Kevin Ellich - RBC Capital Markets

Definitely given the discount it seems like a very good use of cash and return of capital to the shareholders. Lastly, Bruce, what are you seeing on the economic front given the census kicked down a little bit and average daily rate was only up a couple percent. Is that what we should expect going forward, or what do you think on the pricing side?

Bruce Mackey

On the pricing side we did hit 4% Q4 ’08 to Q4 ’07. I think you’ll see a similar range. We’ve been talking the first quarter of ’08 to the first quarter of ’07 we were probably north of closer to 5%. So we were down probably 10 basis points year-over-year, but I think we’ve been saying that for several quarters now that we expected it to come down a little bit, but we’ll still be in that 4% range.

Kevin Ellich - RBC Capital Markets

Lastly on the free cash flow, what do you think the normalized run rate for the free cash is? Do you think $8 to $10 million per quarter is the run rate?

Bruce Mackey

I think it’s going to the highly dependent on our occupancy levels. If you take into account for instance the paid remarks we had EBITDA, excluding all of the usual adjustments of close to $7 million that you invest in the cost savings initiatives and things like that that Fran talked about, so it’s not out of the realm, but again, it’s going to be highly dependant upon what future occupancy levels are going to be.

Operator

Your next question comes from Joel Ray with Davenport & Company.

Joel Ray - Davenport & Company

When I look at the number that have come through it sounds like there are lots of other unusual items here. But, am I correct that your pre tax number before a lot of these one-time items was about $1.8 million in the quarter? You’ve got the post tax of

Fran Murphy

You’ve got the post tax of $0.03, but the tax amount is $470,000 of tax.

Bruce Mackey

That would be right for the pre tax before the unusual items noted.

Joel Ray - Davenport & Company

Okay and it looked like you had about a 2% operating margin. When you cut through all of this, what is a reasonable target, or do you have a target for, what type of operating margin you’ll be able to sustain in 2009 given the economy that we have today? Is this a reasonable one to try to sustain that?

Bruce Mackey

I think it is. Again, it is going to go almost back to the same answer I just gave to Kevin. It is going to be highly dependant upon our occupancy. We think there are opportunities to improve at our pharmacy so that should improve our margin right away and then the cost initiatives that Fran outlined and then after that what the occupancy is going to factor into that.

Fran Murphy

But that is a good point because the $1.8 million also includes the $1 million on the pharmacy and that was a one-time hit.

Joel Ray - Davenport & Company

Very good, that is what I was kind of wondering about as well. So the point is operationally you, if you start x-ing out some of the stuff was actually better than the $0.03 type number.

Fran Murphy

That is correct.

Joel Ray - Davenport & Company

I take it at this juncture we’re probably going to hold back on making further acquisitions, focus on cleaning up what we have and focus internally versus looking at the exterior opportunities?

Fran Murphy

Yes I think that’s fair, but we have to take a look at what’s coming in the door as well, so we will take a look. As of right now, though, the pipeline is very thin, there are not a lot of opportunities out there. What you are seeing really is, I am seeing a lot of not for profit CCRC’s going into bankruptcy. I’m seeing larger regional operators getting close to that point and it’s more who is facing a liquidity crisis right now? A lot of these people pulled their company’s together in the last few years and the property is really not worth a dent on the books. So it is going to be an interesting time for a lot of small operators and like I said those not for profits that run the CCRC’s.

Bruce Mackey

Right and any time you look at liquidity it looks like well over $100 million, so it looks like we should be able to continue surviving. Just hang in there.

Fran Murphy

That’s correct.

Operator

Your next question comes from Jerry Doctrow from Stifel Nicolaus & Company.

Jerry Doctrow - Stifel Nicolaus & Company

Bravo for buying back converts, we’re happy to see it. And just maybe to start on that one, was any thought given to buying back common as well or, did you just decide that converts were the better deal or just any more color you could give us there?

Bruce Mackey

We think converts was the better deal, especially as they can be put to us on October 2013, deleveraging our balance sheet was really a big piece of that story.

Jerry Doctrow - Stifel Nicolaus & Company

Then I would like a little more color on kind of the operational stuff. Staring with senior housing, the way I think of that, first of all, is you’ve got kind of same store, you’ve got a bunch of new acquisitions, new seasons and stuff you just bought. Within even the same store there’s obviously a mix of skilled and private pay. I was thinking more quarter-over-quarter and the bucket it the same, it looked like quarter-over-quarter there was a little bit of jump in units on the same store, like 44 units were added. Occupancy was down like 88.5 to 88. Did you actually expand something there quarter-over-quarter?

Fran Murphy

We did have some new units come on line through expansions yes.

Jerry Doctrow - Stifel Nicolaus & Company

Okay and was that really driving the occupancy or was it you were seeing deterioration?

Bruce Mackey

No, I think you’re seeing a little bit of deterioration.

Jerry Doctrow - Stifel Nicolaus & Company

The rate growth, it looked like you got more Medicare percentage, that the mix would rate great growth as well. So, I was really just trying to get a better feel for just on the private pay side what was going on with rates quarter to quarter there. Were they kind of flat, were they slipping a little bit? I’m trying to sort out what’s the Medicare impact from what the private pay impact is going to be?

Bruce Mackey

Well as you know on the Medicare side we’ve the 3% bump effective 10-01. Private pay rates were up and they are slipping down from the rate increases that we’ve seen historically, but they’re still in the positive area.

Jerry Doctrow - Stifel Nicolaus & Company

Okay and even quarter-over-quarter private pay rates would be up a little bit?

Bruce Mackey

That’s correct, yes.

Jerry Doctrow - Stifel Nicolaus & Company

Do you do most of them on January 1 or do you sort of just rotate it on the anniversary of whenever anybody comes in?

Bruce Mackey

The majority of our contracts are on the anniversary date, however we almost really do it how the communities were acquired when we took them over. You’ve got a number of communities that do go January 1 and then you’ve got some communities that they have various dates throughout the year New Seasons is a lot like that. A lot of the New Seasons kind of go in the middle of the year.

Jerry Doctrow - Stifel Nicolaus & Company

Okay so it may be up a little bit first quarter versus the rest of the year, but not dramatically so?

Bruce Mackey

That is an accurate statement, yes.

Jerry Doctrow - Stifel Nicolaus & Company

Okay and it looked like you had increase Medicare mix in addition. That was just really because the Medicare rate increase was sort of driving the revenue, it wasn’t like you were adding more Medicare beds, or was it a little bit of both?

Bruce Mackey

No addition of Medicare beds, but I mean the census of Medicare patients was slightly higher in the fourth quarter but then it is predominantly the rate increase.

Jerry Doctrow - Stifel Nicolaus & Company

If we can shift to the rehab hospital and the pharmacy a little bit. You were throwing a bunch of things out there and I’m just trying to get a simple sense of what those businesses might look like on a run rate basis go forward.

I don’t know that I’ve quite dissected all of the fourth quarter numbers yet, but rehab hospitals you have 25, I think $0.3 million, the expenses were like $23.6 so there was a little bit of profit in those [interposing}

Bruce Mackey

You really need to wait, we’re going to file the K probably on Monday, and you can see the segment reporting, because I gave an EBITDAM number in my prepared remarks. So, after rent the hospital’s lost about $1 million. In the fourth quarter that was the EBITDAM loss was about $1 million. You know we’ve got the new units and the new wings coming on line. We’ve got plans to add additional inpatient units, but these are long-term initiatives. We hope to see some improvements year-over-year in our hospitals, but I wouldn’t think it’s going to be a dramatic improvement, at least to start.

Jerry Doctrow - Stifel Nicolaus & Company

So thinking of them as maybe break even for the year, starting off with perhaps a little bit, the loss, is that a little bit profitable. I mean it’s not going to be dramatic one way or the other, is that kind of what you’re thinking?

Bruce Mackey

We’re driving to profitability, but it’s going to take several quarters.

Jerry Doctrow - Stifel Nicolaus & Company

Pharmacy, again, there were some one-time charges. Could you maybe give any [interposing].

Bruce Mackey

Correct. Pharmacy we lost again at that EBITDAM level about $550,000. Included in that was about $1 million of charges from prior quarters. So net we made maybe $500,000.00 of EBITAM, taking that into account, which is still low. I mean that’s a business that should be, again, historically we’ve guided people in that 5% to 6% range. Again, I think it is going to take us several quarters to get there with the addition of the new business and some initiatives we have in place to drive that margin for business. But, that is a small money maker for us. It is positive and I think it has opportunity for additional growth in the future.

Jerry Doctrow - Stifel Nicolaus & Company

Okay but eliminating the one-time charge you’ve got a $500,000 positive and hopefully you build up a little bit from there as we go through the year?

Bruce Mackey

That’s fair, yes.

Jerry Doctrow - Stifel Nicolaus & Company

Do you have a maintenance CapEx number?

Fran Murphy

Yes, Jerry, well 46% of the capital expenditures of $27.3 million in the quarter were for projects of $250,000.00 or more.

Jerry Doctrow - Stifel Nicolaus & Company

Okay so it’s basically whatever the inverse of that is?

Fran Murphy

Yes.

Jerry Doctrow - Stifel Nicolaus & Company

Okay. You have referred a couple of times now to occupancy and where that could go. What we’ve been hearing from some of the other folks, I mean the calls are really just starting, was fourth quarter starting okay in terms of, again, really focused on private pay, move in, move outs, with the economy sort of falling off a cliff in November. A very ugly November and people feeling a little bit of recovery sort of January. Do you just have any feel for sort of market of what your people are telling you out in the field? Do you have any additional color as to what the backlog is, what your conversion rates are, how much move outs we’re having etc…

Fran Murphy

I think it was at your conference where the new phrase was coined, the flat is the new up. I’ve heard that a lot actually, on your conference probably three or four times now, so it is definitely catching out there. It is a tough outlook; there is no question about it. We are hearing a lot of stories. We actually have all of our regional directors of operations in Korea meeting this week, just planning and getting ready for execution of a lot of these new programs we’ve talked about and how to drive occupancy. But, it’s not going to be an easy year.

On the positive side, if I just looked at my January admissions to December, we had a net increase actually in the number of admissions coming through the door and we actually had less discharges, so far, through the end of January. That was a positive.

February, so far, I gave the same store number. That’s come down a little bit through the Q1 seasonality. Most of it is related to our health care operations we’ve had in a number of buildings affected by the flu and things like that that have had admissions bans. But January didn’t look that bad on an occupancy front. Again, we’re still getting a lot of people through the door. The tours are there. A lot of people are still waiting to sell their houses and that’s a big issue, but they’re very interested in some type of option. We are admitting close to what we were in the past. Like I said, January we are actually up a little bit, which is a positive.

Jerry Doctrow - Stifel Nicolaus & Company

The new stuff in the Carolina’s you’re taking up. Obviously they’re coming out of bankruptcy. Some of it had low occupancy. General problems people have with transition. Is that going to materially affect things one way or the other? Is there going to be a drag, is there break even?

Bruce Mackey

No it’s probably close to a break even, at least where it was December and January. We’ve got some Cap x that needs to go into those buildings. We’ve probably got about a $2.5 to $3 million target that’s inline with what we originally thought when we took them over. That will happen between now and probably the first and second, maybe even into the third quarter. Then hopefully if this market might turn around we will see some traction there.

Operator

Your next question comes from George Walsh with Gilford Securities.

George Walsh - Gilford Securities

Bruce with the cap on insurance that took an impairment of $5.4 million on the quarter, could you just talk about the portfolio exposure there that you still see and what’s going on with the balance?

Bruce Mackey

A lot of these are invested in preferred securities and a lot of financial institutions. We’ve got some REID exposure, utilities, a fair portion of utilities. The market unfortunately is down from 12-31-08, as we all know, there is potential future exposure. I do want to point out thought that all of these securities we have, almost all are still paying their originally stated dividend from years ago when they were acquired. So these are long-term investments. They always have been long-term investments. A lot of the losses were actually all ready reflected in the balance sheet. They are available from CS Securities, so any change in their value was previously tracked through the equity section of our balance sheet and we are really just moving that equity section to the P&L, Really just because they were there for so long, GAAP requires that we take an impairment.

George Walsh - Gilford Securities

Okay and on the UBS line, the way that works, that 60% of the market value of the ARS’s that’s what is available?

Bruce Mackey

That’s correct, so as that market value fluctuates our line capacity can fluctuate as well.

George Walsh - Gilford Securities

Okay if it goes down, if you’re over drawn on it, so to speak, does that mean you have to pay down the line that you borrowed against?

Bruce Mackey

Yes it does. As a point of reference, I believe the auction rate securities have actually increased in value in the month of January by about $4 million.

George Walsh - Gilford Securities

And that line is, I think you pay one-year LIBOR plus about 50 basis points?

Bruce Mackey

That was the maximum potential rate. It’s actually a no net cost line, so any interest that we would have earned on the auction rate securities is offset.

George Walsh - Gilford Securities

So does that work out you use these finance the buy back in the convert so you get all that benefit of the interest cost reduction, there is no buy back?

Bruce Mackey

Less any of the interest that we would have gained on the auction rate securities, which has been very minimal the last few quarters.

Fran Murphy

Right I think the auction rate securities are yielding just over 1% right now.

Bruce Mackey

So it is, not all, but very close to it.

George Walsh - Gilford Securities

What is the net interest savings the way you’ve calculated so far, on the converts?

Bruce Mackey

Close to 300 basis points, $1.7 million of interest on the converts.

George Walsh - Gilford Securities

Okay, very good.

Operator

Your next question is a follow up from Jerry Doctrow with Stifel Nicolaus & Company.

Jerry Doctrow - Stifel Nicolaus & Company

Is the preferred stock in any harm or related entities or other things?

Fran Murphy

Good question, Jerry. It is not.

Jerry Doctrow - Stifel Nicolaus & Company

Okay, thanks.

Operator

At this time there are no further questions in the question queue, so I will turn the call back over to Mr. Bruce Mackey for any additional or closing remarks.

Bruce Mackey

Great, thank you for joining us on today’s call. We look forward to updating you on our progress in the future. Thank you.

Operator

This does conclude today’s teleconference. Have a great day.

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