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LHC Group (NASDAQ:LHCG)

Q4 2012 Earnings Call

March 07, 2013 11:00 am ET

Executives

Eric C. Elliott - Vice President of Investor Relations

Keith G. Myers - Co-Founder, Chairman and Chief Executive Officer

Peter J. Roman - Chief Financial Officer, Principal Accounting Officer, Executive Vice President and Treasurer

Donald D. Stelly - President and Chief Operating Officer

Analysts

Darren Lehrich - Deutsche Bank AG, Research Division

Ralph Giacobbe - Crédit Suisse AG, Research Division

Operator

Good day, ladies and gentlemen, and welcome to the LHC Group Fourth Quarter and Year End Earnings Conference Call. [Operator Instructions] Today's conference is being recorded. I would now like to turn the call over to Eric Elliott, Investor Relations. Please go ahead, sir.

Eric C. Elliott

Thank you, Jaimie, and welcome, everyone, to LHC Group's earnings conference call for the fourth quarter and year ended December 31, 2012. Hopefully everyone has received a copy of our earnings release. If not, you may obtain a copy along with other key information about LHC Group and the industry on our website at www.lhcgroup.com. In a moment, we'll hear from Keith Myers, Chief Executive Officer; Don Stelly, President and Chief Operating Officer; and Pete Roman, Chief Financial Officer of LHC Group.

Before that, I would like to remind everyone that statements included in this conference call and in our press release may constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act. These statements include, but are not limited to, comments regarding our financial results for 2012 and beyond. Actual results could differ materially from those projected in forward-looking statements because of a number of risk factors and uncertainties, which are discussed in our annual and quarterly SEC filings. LHC Group shall have no obligation to update the information provided on this call to reflect subsequent events.

Now I'm pleased to introduce the CEO of LHC Group, Keith Myers.

Keith G. Myers

Thank you, Eric, and good morning, everyone. We're pleased with our operating results and the overall performance of our company and our team in 2012. Most importantly, our team of dedicated caregivers in communities throughout the country continue to provide the highest quality of care for the patients, families and communities we serve day-in and day-out. As we look ahead to the remainder of 2013 and beyond, we are well-positioned to continue increasing shareholder value by focusing on operating efficiencies and continuing to leverage overhead, while capitalizing on the opportunities we see ahead for both internal and external volume growth. We ended the year with solid momentum in both volume growth and cost containment. From 2011 to 2012, we were able to decrease G&A expense by $5 million, net of an approximately $3 million in additional annual G&A cost associated with our ongoing conversions to point-of-care technology, which is on budget and on schedule to be completed in early 2014. We are encouraged by the efficiencies being realized and the agencies that have already been converted. As most of you know, President Obama signed the sequestration order last Friday, March 1. Despite the broad unpopularity, there appears to be little in the works at this time to undo the across-the-board cut that has been ordered. Sequestration's impact on Medicare spending is triggered on the first day of the first month after the order is put into effect. In other words, the 2% sequestration cut to Medicare will begin on April 1.

With respect to Home Health services, there remains some uncertainty as to what will be impacted on and after April 1. Some observers have publicly commented that claims filed on and after that date will be subject to the 2% cut, while others believe episodes initiated on and after April 1 will be impacted by sequestration. For our 2013 guidance, we decided to calculate the impact of sequestration using the conservative approach of assuming they have stayed in place, as is for the remainder of 2013, and that all episodes ending on and after April 1 will be affected.

Turning to acquisitions. While we complete a few acquisitions in the first half of 2012, we have completed 2 of our best acquisitions in terms of potential over the last 8 months. The volume of inbound calls to our corporate development team related to potential acquisition or partnership opportunities continues to increase. With the triggering of sequestration, we anticipate this volume to increase even more. In July of 2012, we entered into a Home Health joint venture with Texas Health Resources and Methodist Health System. Texas Health Resources, headquartered in Arlington, is one of the nation's largest state-based non-for-profit health systems, with 25 owned and affiliated hospitals; and Dallas-based Methodist Health System is comprised of 7 hospitals. On March 1 of this year, we completed the acquisition of the Home Health service line of Addus HomeCare. The acquisition encompasses 19 Home Health agencies and 2 hospice agencies in 5 states, which includes Arkansas, South Carolina, California, Illinois and Nevada.

I'll now turn the call over to Don and Pete, but before doing so, I want to once again commend and thank our dedicated, hardworking employees for their unwavering commitment to those we are privileged to serve in communities across the country. I've never been more proud of our team. Their hard work, ingenuity and commitment to excellence, by all of the professional caregivers that make up this company, have positioned us to be very successful, not only in the current environment but long into the future.

And now, I'll turn it over to Pete for a review of the financial results.

Peter J. Roman

Thank you, Keith. Good morning, everyone. For the fourth quarter of 2012, our consolidated net service revenue was $161.8 million and net income attributable to LHC Group was $7.4 million or $0.43 per diluted share. For the year, revenue was $638 million, generating net income of $27.4 million and $1.53 per diluted share. Home-based segment revenue in the quarter was $143.9 million, all but $1.9 million was organic. Compared to the same quarter last year, total Home-based segment revenue growth is 3.4%, while Medicare revenue growth is approximately 1%. Facility-based segment revenue was $17.9 million in the fourth quarter. We recorded a $1 million negative adjustment to revenue to recognize outlier reconciliation adjustments and settlements of some cost reports. The company matches 401(k) contributions and these matching contributions vest over time. In the event the that employee leaves the company before they are fully vested, the unvested portion is forfeited by the employee and is available to the company to offset cost of the 401(k), including plan expenses and future matching contributions. In the December quarter, we recognized $1.7 million benefit generated from utilizing these forfeitures. The net effect on the December quarter of the benefit from utilizing the matching contribution forfeitures partially offset by the outlier reconciliation adjustments reducing revenue and legal costs related to the previously disclosed shareholder lawsuit and investigation was to increase EPS by about $0.01.

Comparing our December margins to last quarter, our consolidated gross margin was 42.9% of revenue, up from 42.6% last quarter. Our G&A expense decreased as a percent of revenue to 31.3% compared to 33% last quarter. DSO in the quarter was 48 days, which is 4 days lower than last quarter and 5 days lower than last year end. Our patient receivables, net of reserves, decreased $7 million from last year end, approximately $1 million from higher bad debt reserves and the rest from improved collections, particularly in the fourth quarter. Our patient receivables from commercial payors are 32.6% of total receivables at December 31. This is an increase of over 2%. Commercial payors have less efficient settlement systems and as a result, higher write-off rates than do government payors. As these receivables increase relative to our totable receivables, our bad debt reserves increase as a percent of receivables. Bad debt expense in this quarter was $3.5 million or 2.2% of revenue, the same as the fourth quarter of 2011. For the year, bad debt expense is 1.9% of revenue, which is about the same as it was in 2011.

For our 2013 guidance, we are expecting net service revenue to be in the range of $660 million to $680 million, and fully diluted earnings per share to be in the range of $1.10 to $1.30. Our guidance includes the recently completed acquisition of the Home Health service line of Addus HomeCare. We expect a $0.04 reduction to EPS in the March 2013 quarter, which includes the results of operations of Addus from March 1 and the acquisition costs and other fees associated with the transaction. However, we estimate that over all of 2013, the acquisition will breakeven with respect to earnings per share.

The effect of sequestration is included in our 2013 guidance. We have reduced our 2013 Medicare revenue by approximately $9 million and EPS by $0.30, for sequestration applied over the period from April 1 to December 31, 2013. As Keith described earlier, we have applied the sequestration cut, reducing revenue for all patients discharged on or after April 1. For 2013 as a percent of revenue, net of the effect of sequestration, we expect gross margins in the range of 40% to 41%, G&A in the range of 31.5% to 32.5%, bad debt expense to remain around 2% and noncontrolling interest expense to remain around 1.2%. We can drill into these results further in Q&A. Now I'm pleased to turn the call over to Don Stelly. Don?

Donald D. Stelly

Thank you, Pete, and thanks to all joining in this morning. Like any other year, 2012 saw a share of challenges. The year began with a strategic alternative process and then went on to present a 106 Joint Commission surveys, 67 point-of-care conversions, partnerships with 2 nationally recognized health systems, 2 hurricanes and more snow than our team care to remember. Through all, we produced celebrated results in 2012 for our patients, partners and shareholders.

Specifically to the fourth quarter, our organic growth and total new Home Health admissions was 5.6% compared to the same period prior year and organic growth in new Home Health Medicare admissions was 3.3%, as compared to the fourth quarter of 2011. For the year, our organic growth and total new Home Health admissions was 5.1% and fell within the range that I consistently shared with you as our target. Our Home Health average daily census increased 4.5% to 33,103 in Q4 of 2012, as compared to 31,692 in the same period prior year, while organic growth in our Home Health ADC was 3.3%. We're pleased with the overall execution of our growth initiatives, but also remain clearly focused on closing what we call the opportunity gap we see present especially now.

Turning to point-of-care. We continue to convert agents to -- agencies to our point-of-care model and are pleased with our process and our results thus far. From a macro view, we have 117 agencies now inside of this model and in the aggregate, we have improved operating margin by 180 basis points from their pre-conversion baseline. A good number, but one that we will continually improve through skill mix, productivity and other operational enhancements inside of our 2013 business plan. As usual, I will keep you up to speed on our conversion track as we head into the heart of this year.

Next I'll briefly touch on the Addus acquisition. The estimated 65 and older population in the acquired service area totals 2.6 million people. In preparation to impact those lives, we are presently working through an integration plan, focused on team member training, operational modeling, referral source diversification and attention to detail. Even though we're just inside of the first week, I like our progress and am extremely happy to welcome our new team of healthcare professionals.

In closing, I'd like to recognize and thank our entire LHC Group team. Regardless of what challenges come along, you don't rationalize, you don't waver. You excel through them and truly make a huge impact along the way. Jaimie, we'll now go into the Q&A portion of our call.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from Darren Lehrich from Deutsche Bank.

Darren Lehrich - Deutsche Bank AG, Research Division

Yes, I just wanted to ask a few things here. The first question is just really around guidance and I'm wondering if you can help us sort of bridge what was the run rate here that we saw in the fourth quarter to what obviously, you've got about a $0.30 impact plugged in from sequestration. We'd expect you to have some volume growth, so I'm curious just to understand what potentially get to the low end of the range. Is there anything else, from a margin perspective, that we might be missing? Just some comment there would be helpful.

Peter J. Roman

Okay. Darren, this is Pete, and I'll take some of this. The revenue growth that we forecast in 2013 is really based on the 5% census growth that we expect and that's significantly higher growth than we had in 2012. So you have that affecting our revenue. We're -- it's offset -- we expect about a 1.2% decrease from Medicare even prior to the -- prior to sequestration, and that's baked into 2013. If you look at our 2012 operating margin, right now, we're at about 42.8%, and the -- and I think the piece that everybody is kind of missing in this total puzzle, we forecast really almost completely offsetting the cuts, the Medicare cuts prior to sequestration, so we forecast essentially flat gross margins in 2013. However, you have to consider $30 million to $35 million coming in from Addus and they're -- without a margin. We don't expect that, for 2013, to generate any contribution. We think that that's a significant improvement from the historical run rate and kind of are expecting the operating shortfall in the first -- in the March to June period, to be offset with improved operations toward the second half of the year. I think if you take a look at the models that you have and incorporate the $30 million or $35 million worth of Addus at a significantly lower margin, I think you'd get back to the guidance numbers that we're talking about and the margins that we guided to.

Darren Lehrich - Deutsche Bank AG, Research Division

Got it. That's helpful. And then just while you're on the topic for Addus, it sounds like this is a multiyear opportunity to get into the profitability levels that we'd expect from something you run. What is the timeline and in terms of key mileposts, I guess, what do you think we need to be focused on as you integrate this asset?

Donald D. Stelly

Hi, Darren, this is Don, I'll take that one. What I'll say, I think some key milestones, and Pete said it best, we've got a lot of upside here with Addus but it's losing a lot of money. And in order for us to go ahead and save the throughput on top line, we had to make some decisions to carry forth some loss runs. So the first milestone or that goalpost is 3 months and we want it to quit losing money and that's what Pete is alluding to and what the prepared comments that Keith had about the EPS drag was referring. The other key milestone, as November 1, we will then start our last point-of-care conversion into this. And then I think the third and final milestone is in the 12th month, this thing will be up to corporate margins and we will have grown its population and revenue base.

Darren Lehrich - Deutsche Bank AG, Research Division

That's great. That's real helpful. And then just, maybe the last thing for me here. In hospice, can't help but notice the really strong census growth. I think it looks like almost double digit, but can you just maybe update us on what you're seeing and experiencing in hospice and how you think about the overall trends in that part of the business?

Donald D. Stelly

Well, I'll take that, too, Darren. I think first of all, I do want to commend and thank our team because I think we clearly have our arms operationally around hospice. I think we clearly recognize the difference in the sell-in of the service to referral sources because it is different, but I also now think we have more confidence in our ability to organically lump that into cluster markets for us where we have strong partnerships and increases based organically. And that's what you're seeing in our census. So in fact, the tipping point happened about 2 months ago and we have higher volume to-date in the service line that we do. All of that to say, I still don't think you'll see us go and jump into substantial-type acquisition and lead that way, but I do think you'll see, organically, we're going to press forward with putting these adjunctive to -- especially hospital partnership basis. And I got to tell you, I think the margins for us now are as predictable as they come. Now externally, where the -- this gets in the crosshairs or not, I'm probably not the one to answer that, Keith would be. But I will say that within the framework of today, we're very confident of keeping this double-digit growth that you just alluded to.

Operator

[Operator Instructions] The next question comes from Ralph Giacobbe from Crédit Suisse.

Ralph Giacobbe - Crédit Suisse AG, Research Division

Just a couple here. I guess, one, just going back, I just wanted to make sure I heard it right. The underlying assumption within the guidance, exclusive of Addus and sequestration and the minus 1.2, is for growth of sort of mid single-digit, is that fair?

Peter J. Roman

Yes, that's fair. We're looking for -- on the hospice side, it's higher, but hospice is a lower component in our Home-based group. So we're thinking about 5% growth in census in 2013.

Ralph Giacobbe - Crédit Suisse AG, Research Division

Okay, and the comfort in that, because to your commentary sort of it is higher than, I guess, the overall '12, but the comfort in that is just seeing where trends were toward the back end of the year.

Peter J. Roman

Yes, and a couple of things, really. We've had some changes in the leadership on top, on the sales side, and I think that's had an impact. The census that we ended the year with was really strong. It kind of lulled a little bit in the summertime. Last year, it came down a little bit lower than we thought and it lagged getting back, but toward the end of the year, it came on very strong. This year, forecasting, I think when we were -- what we've done in the past is probably underestimated the summer decay [ph] and I think this year, we probably got it pretty accurate and right. And then when we added all those factors together, honestly, I think the 5% organic growth, in particular in the markets that we're in, overall is actually pretty strong.

Ralph Giacobbe - Crédit Suisse AG, Research Division

Okay. Second thing, I guess, can you give us a sense at all of the amount guidance would change if you assume the cuts only for patients after April 1?

Peter J. Roman

It's about $0.03. The...

Ralph Giacobbe - Crédit Suisse AG, Research Division

$0.03, okay.

Peter J. Roman

Yes. It almost rolls out to about $0.03 a month and that would kind of take off the individuals who are on service, kind of toward the end of February and through March.

Ralph Giacobbe - Crédit Suisse AG, Research Division

Okay, and then, I guess, in terms of Medicare Advantage. I'm just wondering if you could just remind us what your strategy is as you're talking to payors. I think there's a little bit of a difference between the way some providers are going at it, in terms of talking more about sort of a per visit sort of reimbursement and sort of essentially giving up price and volume, while as others seem to be more inclined to want to continue sort of thinking about things on an episodic basis versus a per visit basis. So can you help us just understand the strategy around and MA and what your thought process is there, as you're talking to payors?

Keith G. Myers

Yes, this is Keith. I'll take the front end of that and let the guys jump in and detail. But just at a high level, we exited, years ago, the approach of taking any business as a loss leader, we just -- we simply don't do that. So the gaining requirement is that if we enter a contract, it has to be a profitable relationship for us. Because of the strategy we have of partnering with hospitals or in co-locating even where there aren't equity ventures, we have to deal with more of that, than most would. I think it's fair to say and -- but the exchange is that we get access to more Medicare volume by doing so. When we look at a managed care contract opportunity, we look at the volume associated with it and the profitability, and one thing that I hear a disconnect in is, when people talk about episodic rate, there seems to be an assumption that episodic reimbursement is more profitable than per-visit reimbursement. And that's really not our experience. We have per-visit contracts with commercial payors that are more profitable than even traditional Medicare. Granted, not a lot of those, but there are some that are. And then we have episodic contracts that some were paid 100% of Medicare rates, but those are very few now, and some were 90%, some were as low as 80%, and those would be less profitable than a per-visit model. So we tend to look at it all together, but I think I want to go back to what I said at the beginning, we don't accept any business that's a loss leader, losing money in managed care in hopes of getting a Medicare business. Don and Pete, you want to elaborate anymore?

Donald D. Stelly

No, I think you've summed it up, Keith. I think Rob just kind of keeping it real. I'd say it like this, too. I don't think diving in holistically is the answer, no more than running scared is. I think you got to do it prudently. You got to look at the contracts on an individual basis, and I don't think you'll ever hear us make a blanket statement one way or the other. Keith's right. I mean, part of our job is to do due diligence on everyone, make sure that the services that we're rendering, whether it's through skill mix variances or extender use, make sure that we're making money off of it while delivering them their value. And if we can't do it, we won't sign the contract, and if we do, we will. It's pretty a cut-and-dry for us, the way we look at these things.

Ralph Giacobbe - Crédit Suisse AG, Research Division

Okay, now that's helpful. Can you help us at all though -- in terms of length of stay, is there a difference when you're looking at a contract that's on a per-visit versus episodic basis? I would guess per visit has a lower length of stay, but is that not the way I should be thinking about it?

Keith G. Myers

It's actually not. I mean, because that really isn't the case. But I'll tell you one thing what we do focus on, is on the restriction around number of visits and pre-authorizations. So to be specific, if we're negotiating with a payor, really regardless of what rate they want to pay, if they refuse to pre-authorize at least 8 to 10 visits upfront, where you're literally having to call to get authorization for every visit a nurse goes out to do, or a therapist, whatever, we'll turn that business down. Because regardless of what you're paid on a per-visit basis, the administrative costs will eat you alive, just making phone calls and permission-giving and when you schedule nurses to go out on a route, if you don't have the authorization to see a patient that lives in that zip code on that day, we have to send someone out on a special trip to make that visit. It's just common sense.

Ralph Giacobbe - Crédit Suisse AG, Research Division

Okay, all right. That's helpful. And then just last one, if I could. Just on the Addus side, I guess, first is maybe help on that margin ramp. It sounds like it's sort of a little bit dilutive in the beginning and then sort of ramps up to get you sort of a flat for -- or mutual to earnings for the year. I guess, one, is just help us with that margin ramp and I'm probably getting a little ahead of myself, but how we should think about that coming on in that ramp in 2014, if you will, and then kind of go there. And then the second part of the question is, are there -- or should we expect, and are there more deals like Addus out there that you think are in the pipeline? Or is that not the kind of thing we should be thinking about in terms of size?

Keith G. Myers

Okay, so it's Keith again. If it's okay, we'll answer that in reverse. I'll take the pipeline piece first. I do think there are more of those type situations out there. There are a lot of conversations we're having now that are follow-up conversations to contacts that we may have made several years ago, but people just weren't ready. In fact, Addus is one that we've talked about before. Mark Heaney and I are good friends and I have a lot of respect for him. But as reimbursement pressure continued to be applied, it pushed them to a different place in their decision-making. So yes, I think we do have more of those coming our way, and that's really what I was alluding to when I was talking about taking advantage of opportunities that would come our way. So Don, you want to talk about the specific?

Donald D. Stelly

Yes, Ralph earlier I talked, when Darren asked the question about the timelines and the milestones, if you will. I think the what I would call improvement trajectory is steep between today and the beginning of June, to get it to essentially a 0% operating margin, and that's what we have in factored in the plan. But from June through the next 9 months, I think you can see that be incremental from that 0-point to our corporate margin point and therefore, 2014, we would expect the entire book of business to be at corporate margins.

Operator

[Operator Instructions] I am showing no further questions. I would now like to turn the call back over to Keith Myers for closing remarks.

Keith G. Myers

Okay. Well, thank you, everyone. Thank you for dialing in this morning, and thank you for your interest in LHC Group.

Operator

Ladies and gentlemen, that does conclude the conference for today. Again, thank you for your participation. You may all disconnect. Have a good day.

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