Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message| ()  

Executives

Kent J. Thiry - Chairman of the Board, Chief Executive Officer

Richard K. Whitney - Chief Financial Officer

LeAnne Zumwalt - Investor Relations

Analysts

Justin Lake - UBS

Gary Lieberman - Wachovia

Darren Lehrich - Deutsche Bank Securities

Kevin Ellich - RBC Capital Markets

Mark Arnold - Piper Jaffray & Co.

Arthur Henderson - Jefferies & Co.

Andreas Dirnalg - Stephens Inc.

David MacDonald - Suntrust Robinson Humphrey

John Ransom - Raymond James

Bill Plovanic - Canaccord Adams

Jack Ruff - Inside Investor

DaVita, Inc. (DVA) F1Q09 Earnings Call Transcript April 28, 2009 8:30 AM ET

Operator

Good morning. My name is Patrick and I will be your conference operator today. At this time, I would like to welcome everyone to the first quarter DaVita conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. (Operator's instruction) Thank you. I would now like to turn the call over to LeAnne Zumwalt.

LeAnne Zumwalt

Thank you, Patrick. Good morning, everyone and welcome to our first quarter conference call. We appreciate your continued interest in DaVita. I am LeAnne Zumwalt, and with me today are Kent Thiry, our CEO, and Rich Whitney, our CFO. I will start the forward-looking statement disclosure.

During this call, we may make forward-looking statements which can generally be identified by the content of such statement or the use of forward-looking terminology and includes statements that do not concern historical facts. All such forward-looking statements are subject to known and unknown risks and uncertainties that could cause the actual results to differ materially from those described in the forward-looking statement.

For further details concerning these risks and uncertainties, please refer to our SEC filings including our most recent annual report on Form 10-K. Our forward-looking statements are based on information currently available to us, and we undertake no obligation to update these statements, whether as a result of changes in underlying factors, new information, future events, or other developments.

Additionally, our Press Release and related disclosures include certain non-GAAP financial measures. These measures should be considered in addition to the results prepared in accordance with GAAP and should not be considered a substitute for GAAP results. Also included in the Press Release is a reconciliation of these non-GAAP measures to the most comparable GAAP financial measure.

I will now turn the call over to Kent Thiry, our CEO.

Kent Thiry

Okay, thank you LeAnne and welcome to all of you. Thank you for your interest. It was another solid quarter. I will provide review of one, clinical results; two, the economic and product policy environment and three, talk a little bit about the 2009 forecast and some longer term outlook perspective.

First, clinical results, we would present them first. Now, this what comes first. We are a care-giving Company serving nearly 114,000 patients at this point. With respect to adequacy which is essentially how well we are doing in removing toxins from our patient's blood, this quarter we once again had 95% of our hemodialysis patients with a Kt/V review greater than 1.2. Second, with respect to vascular access, we know have 62 plan of our patients with fistulas placed received analysis. Fistulas has been the preferred form of vascular access as many of you know, and third in the area of anemia management, we now have 87% of our patients between hemoglobin levels between 10 and 13 over the last three months across all modalities.

These and other clinical measures compared very favorably to national averages. I would like to try to anticipate a few questions you may have just to make this maximally efficient for you. Question number one potentially is how is unemployment affecting our pair mix? To date, there has not been an impact. There are some reasons why this is not surprising for our segment and we would go over those again in Q&A if you would like as Rich did last quarter. Now that said, we also want to repeat what we said last quarter that no one is totally insulated from an economic recession and we are likely to see some impact if the recession continues for a long time and as was discussed in the last quarter, the offset to any of that is this also means that competitive wages equal lower numbers in this world than it would have in a healthier economic world.

Question number two, what benefit would the dialysis received from any expansion coverage for the uninsured? The answer is simple. It would be a positive if we increase the number of insures with private insurance and neutral if the expansion were entirely Medicare. Question three, what about that public insurance option? What would that do? Well, if it would decrease the number of people in private insurance plan, that would be negative unless they paid the similar rates to what private insurance companies certainly pay and as many of you know that to wages and lively fashion in the capital as we speak.

Question number four, what about potential impact of patients being able to elect Medicare at a younger age? Well, in our segment that is already the case that people can elect Medicare at a younger age. So, something else would have to change in the dynamic but that is irrelevant.

The fifth and final question, does the government realize that this segment relies on private patients to subsidize Medicare patients? And the answer is to a little bit of extent, yes. It has been getting better at educating them with each passing year. Our job is to continue that endeavor in the next few months because the fact is if we lost any significant number of private patients, there will be a bunch of dialysis centers that would close because we are a single DRG business with 85% to 90% of centers being discrete and so the good news is the government realizes that you cannot get it wrong in our case because there is no averaging across a whole bunch of procedures, a whole bunch of pair advices, a whole bunch of DRGs. There is just one thing that we do in a lot of small discrete centers.

Lastly, under the 2009 outlook, the short characterization is that it is unchanged. We do have to confirm our guidance to reflect current changes and the coming practices and Rich will describe the specifics of that in his section. Private reimbursement and government policy are the big swing factors and on the private side, we have prepared to accept the patient losses in order to maintain private rates that is sufficient to us that that Medicare deficit, and we have been saying this of course now for several quarters, so for we not had to incur any patient losses in order to maintain adequate private rates but we are prepared to.

So, absently thread of any major government policy this continuity right now, a lot of things are going right and we should continue to generate healthy growth and cash flow. Rich?

Richard K. Whitney

Thanks, Kent. The first quarter was characterized by consistent volume growth, stable private pricing as Kent mentioned and strong cash flows. Year-over-year, treatments per day up 5%, revenue up 7.7%, operating income of 7.2%, earnings per share of 15% and our balance sheet continues to be strong with 2.8 times net leverage and approximately $400 million of cash on hand.

Now, a few more details about these results. In Q1, we had the typical seasonal decline in treatment days as Q1 had three fewer treatment days than Q4. Non-acquired growth in the quarter was 4.0% consistent with recent quarters. As of late April, we had about 53 centers completed in a waiting certification. So, the good news here is that the number has not grown over the past three months; the bad news is that we are still experiencing significant delays in certification of our de novo centers which is impacting our non-acquired growth. We continue to expect non-acquired growth of around 4% for the year.

Dialysis revenue increased about $4 per treatment sequentially from Q4. About $1.50 of the increase was due to the 1% Medicare composite rate increase and the ASP changes both effective January 1st. Another $1.50 per treatment relates to a lab Medicare rate increase, also effective January 1st and seasonally higher lab testing in Q1. The remainder, about $1 a treatment was due to private rate increases and CPI increases on contracts partially offset by a decrease in physician-prescribed Epogen.

As we had expected and noted in our capital markets presentation in February, EPO utilization did decline from Q4. However, as we exited the quarter, it was turning back up and right now where we are is about a few percent lower than where we were in Q4. Dialysis operating expense increased about $3.60 per treatment sequentially, about 2/3 of this increase was labor, the majority of that related to high payroll taxes in Q1, a seasonal effect that we see every year. The balance of the increase was primarily the impact of spreading fixed operating expenses over fewer treatment days in the quarter, offset somewhat by lower physician-prescribed EPO.

On a year-over-year basis, operating cost increased by about $5.70 per treatment or about 2.5% due to the normal labor increases across the year, somewhat offset by improvements in productivity, higher pharma cost primarily EPO and heparin pricing increases, cost related to the higher number of new and uncertified centers and one fewer treatment day in 2009 versus 2008 which was a leap year. Dialysis GNA at 7.4% of segment revenue was consistent with the full year 2008 and with our expectations for 2009.

As for the adoption of FAS 160, as we noted in our press release, this quarter we implemented FAS 160 which relates to the accounting from minority interest which is now called non-controlling interest. This has changed the geography of certain items on our financial statements but did not impacted DaVita's net income or earnings per share. The two most important changes to point out, non-controlling interest is now reported below the operating income line on the P&L and on the cash flow statement, distributions to minority partners have moved from operating cash flow down to cash flow from financing activities.

So, this adoption had the effect of increasing our Q1 reported operating income by approximately $12 million and increased our Q1 operating cash flow by approximately $14 million as compared to our previous reporting. All previous periods have been adjusted for comparability. For more details, please refer to the reconciliations to our previous accounting methodology contained in our Q1 earnings release.

Now, as for guidance, adjusting for new accounting presentation, our 2009 operating income guidance is now $870 million to $930 million. Excluding the accounting change, our guidance remains unchanged. Similarly, our 2009 operating cash flow guidance is now in the range of $550 million to $600 million. Again adjust for the accounting change, the guidance on operating cash flow remains the same. Finally after incorporating this x of FAS 160, our effective tax rate for 2009 is now expected to be 37% to 38%. Again, no change fundamentally from the previous guidance of 39.5% to 40.5%, just the change in the way the calculation works with minority interest now being below the pre tax line on the P&L.

I will now hand the call back over to Kent for a few closing remarks before Q&A.

Kent Thiry

Okay, thanks Rich. Another solid quarter, equally important, our operating and offensive capability is getting stronger each quarter. However, the biggest questions are healthcare reform and private pair activity and let us just step back a little bit on those big ones.

Without predicting exact timing, the pair world is now moving irreducibly and steadily towards broader bundles of integrated care. It just is and it is no longer long-term futuristic. This will be very much to our advantage. There are three reasons for that; One, our size. Two, our share and three, the capabilities that we have been working on for the past few years with CMS and with the private insures.

I will just give two examples. We have a globally competitive at-risk demo project with the government that has been running for over three years with over 400 members, $32 million annual revenue that achieved substantial cost savings compared to fee-for-service Medicare using rigorous actuarial payables, hit 20 of 23 CMS defined quality incentive, reduced capital usage by 35% in an area where they were already around the national average, has happier patients and happier physicians. It is a window in to what the future will look like, a demo that is predicting exact timing, took a lot of work and a lot of money to get there and we are there.

Second example; our focus kidney care pharmacy now delivers all the oral drugs to 16,000 kidney care patients and the only place where that happens in the world is just powerful because for the first time, each specialists, the cardiologist because most of our patients have cardiovascular issues, the endocrinologist because 50% of our patients are diabetics, the internist because 30% of our patients are hypertensive, etc, etc, etc; each doctor can know not only all of the drugs the patient is taking but whether or not they are taking them and have that integrated with the facility electronic medical record.

Again, it is what you read about and hear about people wanting in much of the rest of healthcare and we spent the last few years and a lot of your money to preparing for this and we are competent and credible. So, I repeat without predicting exact timing, the pair world is moving irreducibly towards broader bundles of integrated care. This would be very much to our advantage.

Finally, if economic and political pressures do adversely affect the conventional fee-for-service dialysis industry in the short term, we would likely have the opportunity to make some acquisitions at attractive prices, the need for dialysis in macro way, our strong clinical outcomes will go away and the attractiveness of being able to reduce the $90,000 in total cost of this patient's per year as oppose to focusing on the $30,000 which they spend on dialysis only a third and that includes pharma, the actual dialysis costs are only about 20% for the leverage of us doing our job right will not go away either.

Operator, let us open it up for Q&A.

Question-and-Answer Session

Operator

(Operator's instruction) Your first question comes from the line of Justin Lake - UBS.

Justin Lake - UBS

A couple of questions here. First, on the patient care cost, those were up about $3 in the quarter. Given that the EPO dosing sounds like a decline, down sequentially, I am just curios what is driving that and if that is a sustainable run rate or we might see some decline as we go through the year.

Richard K. Whitney

Yes, Justin, you are referring to the sequential increase in operating cost?

Justin Lake - UBS

Correct.

Richard K. Whitney

Yes, it is a, a big part of it is the impact of Q1 in the short treatment days and so, I think as I mentioned in my comments that about 2/3 of the increase that you are seeing there is related to labor increases. We do have some fixed labor cost about a third so you are seeing some impact just of spreading the labor cost over fewer treatments and then we have the seasonally higher payroll taxes which are material in the quarters. So, that is the biggest part of the story as well as fixed facility operating cost we would rent and things like that that are spread over fewer treatments.

So, there were some offsets of the EPO but I think we where experience sequential operating cost increases in line with where our expectation would be for this time of the year.

Justin Lake - UBS

Perfect, and now just a couple of quick numbers question, the revenue per treatment breakdown was very helpful. It sounds like most of that was sustainable, Rich. Am I missing anything there or this is a good run rate if we think about going the rest of the year?

Richard K. Whitney

Yes, based upon the drivers of the revenue per treatment increase, I think this is a sustainable rate absent any changes on the private pay side.

Justin Lake - UBS

Perfect, then just on the M&A, you spent $40 million to acquire seven centers. Can you just give us a patient down there?

Richard K. Whitney

Yes, and I guess the one thing I was reflecting Justin the $1.50 of the increase was the lab related to the seasonal testing as well as the Medicare rate increase. About 2/3s, a little bit more of that relates to the seasonal testing so I think you can think about a little more than a $1 per treatment of the sequential increase, all else being equal as not being sustainable as we move through the year.

Justin Lake - UBS

Perfect, that is what I am looking for. And then just that M&A question, how many patients did you acquire and does that $40 million matched up for the seven centers you acquired?

Richard K. Whitney

We acquired centers treating approximately 500 patients.

Operator

Your next question comes from the line of Gary Lieberman - Wachovia.

Gary Lieberman - Wachovia

I guess just to follow up a little bit on the revenue per treatment questions, it would appear that based on your comments that EPO utilization slowing in the quarter and on the other comments, it would look like the commercial rates were up nicely in the quarter. Is there anymore color you could give there? Were there any specific contracts that I guess in the past you would have characterized as having been contentious that you were able to renegotiate or anything along those lines?

Richard K. Whitney

We have a number of contracts that have CPI rate increases that tend to be more weighted towards the beginning of the year. So, I think that is a big part of what you are seeing here, not out of line with expectations.

Gary Lieberman - Wachovia

Okay and then maybe if you could give us some color on some of the startup losses, up and new initiatives, I know at the Investor Day, Kent, you talked about maybe being a little bit disappointed or behind target in terms of what some of those losses, where were you in the first quarter and does the outlook for the full year changed at all?

Kent Thiry

Could you say that question again, please, so I do not mumble?

Gary Lieberman - Wachovia

Just in terms of the Investor Day, just going back to some of the comments on the operating losses that you had accrued and were anticipating on the new initiatives, you had talked about maybe being a little bit behind schedule and so I was just looking for an update along those.

Kent Thiry

Yes, so far in 2009 we are on track.

Gary Lieberman - Wachovia

Okay, anything specifically that you were able to do differently in the first quarter?

Kent Thiry

Operate it with more confidence.

Operator

Your next question comes from the line of Darren Lehrich - Deutsche Bank Securities.

Darren Lehrich - Deutsche Bank Securities

I wanted to just first ask you about some of the recent changes you made with your advocacy efforts. I know that you had have a new person in the legislative affairs group. I also noted that KCP did reorganization. Can you just discuss your advocacy efforts in general and how you think DaVita organizationally and how the community is positioned right now in Washington?

Kent Thiry

I will take a quick stab and then you redirect me to any place you want to go. Number one, we are very excited that John Schaeffler joined us from GE Medical Systems. We have known John for a while. We tried to recruit him before and glad we got him now and I guess enough said there.

Second, the Kidney Care Partners coalition, that is the KCP one for those who are not familiar that Darren is referring to. We got that going, oh boy, five or six years ago now. It seems like a lifetime and it is level of awareness and credibility on the hill. For a segment, our size is very healthy. It is one of the few segments in American healthcare in the real world where the leading patient groups, nursing groups, physician groups, provider groups, large and small profit and for profit pharma and device actually get in the same room every three months and works through agonizing processes to deliver consensus recommendation to the hill that it literally does not happen in most of healthcare and we have done it four or five years in a row and it is not a small part of why we have been successful on a relative basis and it is at the same time in any given year, things always look very difficult keeping the coalition together and getting stuff done with the Congress has preoccupied by some of the larger policy, aircraft carriers of their like addition fee increases and hospitals and public insurance and stuff like that.

Darren Lehrich - Deutsche Bank Securities

That is responsive. Can you also maybe just touch on your views on MSP and everybody has been thinking about pay force as we get further into the reform legislative drafting and how important you think that is in terms of your lobbying priorities?

Kent Thiry

I was in it. I was in an office when they held just a week ago and that person I had not met was with her member and brought up that she had now finally gotten familiar with MSP and it was on her short list and that is just an anecdote to be enforced to the broader assertion that with respect to the policy merit of extending the private pay period as well as the magnitude of the pay for, the awareness has never been higher because it was scored by the CBO and it is very attractive in a world where sooner or later, they are going to have to start paying for some of the checks that they are writing and that thing is getting very, very intense very, very quickly when that moment arrives.

In the policy point of view, the fact that our patients are uniquely discriminated against there, no other patients in America where you are at hold, you cannot keep your private insurance even if you think it is in your and your family's best interest. More and more members of Congress are finding out that that is actually true and do not like it. In addition, what that does is create a totally progress incentive where private employers do not want to provide value-added services to kidney care patients and dialysis patients because they are hoping they drop their insurance and flip to Medicare early.

So, from all perspective it is bad policy and it is a big pay for. Therefore, we have a very solid shot at eliminating that unique discrimination from our patients' lives.

Darren Lehrich - Deutsche Bank Securities

And what is the scoring framework that you are working within right now?

Kent Thiry

Well, I am not going to merit for sure, the CBO score to that maybe $1.2 billion over 10 years but there are in few policies to follow up. We will the right number but it is the CBO number on the record is something like that.

Darren Lehrich - Deutsche Bank Securities

Fair enough, let me just ask one more question if I could on the ancillary piece and the revenue is backed up. It looks like it is just a tiny bit sequentially but you did improve the operating loss there just to touch. Can you update us a little bit more on how you see this collection of businesses is trending and what you view is on operating losses there for the balance of the year?

Richard K. Whitney

Darren, as Kent mentioned, we are feeling that we are on track here as we finish Q1 and you recall in capital markets that we had indicated that we expected the operating losses for that collection of business to be about $22 million in 2009 and we expect it to be on track to be round about $14 million as we move to 2010.

Darren Lehrich - Deutsche Bank Securities

Okay but in just terms of the revenue, it is not a big difference but we have seen sequential, pretty substantial sequential growth over the last several quarters so I just want to get a sense for what $71 million in revenue is relative to the $73 million in fourth quarter. Is there just less sequential growth now if the business is maturing particularly in the DaVita Rx side, just talk about the level of the growth perhaps?

Richard K. Whitney

Yes, the biggest difference that you are seeing from Q4 to Q1 is simply for the shorter quarter.

Operator

Your next question comes from the line of Kevin Ellich - RBC Capital Markets.

Kevin Ellich - RBC Capital Markets

Kent, I was wondering if you could talk about pharma utilizations and you talked about EPO and maybe just give us an update on heparin.

Kent Thiry

There is nothing new on heparin. We are still eagerly awaiting new suppliers and are optimistic that that will happen. We continue to think that Fresenius, not the Fresenius that does dialysis and dialysis products but I think it is FSE, it is the correct letters made a really poor business decision by engaging in the aggressive and a ballistic pricing, really poor business decision for the long term but right now, nothing new has happened there good or bad and I do not know if you want me to go beyond that or not, so I will stop.

Kevin Ellich - RBC Capital Markets

Well, I guess I was wondering if you had any specific timeframe in mind as when you expect the new suppliers to come online.

Kent Thiry

It is on the FDA's hands I believe and therefore only a fool would go into the predicting world.

Kevin Ellich - RBC Capital Markets

Okay, that is helpful.

Kent Thiry

First, there has been a lot more experience in that.

Kevin Ellich - RBC Capital Markets

Sure and then going back to the economy, you gave good color on what you are seeing and what not but I was wondering if there is any of the impact on the business in regards to over the pricing environment on the commercial side or a cost deflation given the maybe a larger supply of medical professionals in the field.

Kent Thiry

No, there was nothing else beyond what Rich said. The good news is private rates had been stable. We have been getting the annual upticks that we hope for and depend on. The bad news is that could change tomorrow and the good news on the cost front is that we do have a number of suppliers that were accommodating on prices to try to maintain market share and on the wage front, just so everyone knows, competitive wages are not going up with the same rate that they were and maybe in some places, they are going down but not really in the healthcare.

So, the [yawn and the yen] of each of those two, private revenue and labor which pretty much hit and there is nothing dramatic going on right now.

Kevin Ellich - RBC Capital Markets

Okay and then last question, going back to your comments about the demo with CMS on the capitated patient, could you give us a little bit more color on the margin differential and the cost savings that you are demonstrating to CMS?

Kent Thiry

No, at this point we actually prefer to keep all that private. It is still basically a big, big R&D project that is going well. We also have some limitations when you are working with the government on the demo. There are some of the data that they co-own with us and we cannot share it without their permission and I am worried if I started soaring too many numbers spontaneously, I might cross that boundary. The important takeaways are that it is taking a bunch of work but it is going well. We figured out a lot of stuff. We have developed some systems. We have developed operating insights. We figured out how to approach some of this stuff because every single aspect of what you do has to change somewhat, with the doctors, the hospitals, the patients, their families, the centers and so it is going nicely and I probably should just leave it there.

Kevin Ellich - RBC Capital Markets

Okay, then if I could ask one last question, Rich, interest expense was a little bit lower. Obviously you guys have some debt tied to LIBOR. Could you give us your expectation as to where interest expense should be for the year?

Richard K. Whitney

Well, it kind of depends upon what happens to LIBOR rates. If you, so maybe the way to answer that question is to indicate that our debt as we sit here right now is about 2/3s sticks and 1/3 floating and the floating rate of that is that LIBOR plus 150. So, it really depends upon your prediction for LIBOR rates going forward. It is a pretty flat yield for right now.

Kevin Ellich - RBC Capital Markets

Okay. I guess I am trying to figure out if your expectation that LIBOR is going to increase through the remainder of the year?

Richard K. Whitney

Well, the yield curve would say that it would not but I do not know that we would necessarily predict one way or another which direction LIBOR would go in which is why tend to have some fixed rate debt and some variable rate debt. Although maybe the final thing I will stand, even after is say I will not predict, the final thing I would say is we are at in amazingly low interest rate environment and so I think if you just step back and said our interest rates are likely to go up over time, I think it would be hard to answer that question in any other way than to say yes over time, they are likely to go up.

Operator

Your next question comes from the line of Mark Arnold - Piper Jaffray & Co.

Mark Arnold - Piper Jaffray & Co.

Can you just elaborate a little bit more on the cost per treatment line? I just want to clarify what the answer to a question just a minute ago, you guys talked a lot about hopefully, we would see some wage pressures abate a bit this year given the economy but it sounds like and by looking at the numbers that you did not really benefit a whole lot from that in Q1. Am I reading that correctly and kind of what is your outlook for, do you expect to see maybe some savings or at least not as big of increase you see for the rest of this year or is this something maybe going forward we see a little bit of benefit on?

Richard K. Whitney

I think it is fair to say that we did not experience much of that benefit in the first quarter of 2009. However, I do want to reiterate that sequential increases are primarily driven by the fewer treatment days in the quarter, the higher payroll taxes that you get at the beginning of the year and those two factors we see pretty much every year in the first quarter just the way the calendar falls.

Mark Arnold - Piper Jaffray & Co.

Okay and then I guess wanted to, maybe Kent if you could elaborate a little bit more on health reform discussion that you talked about in your prepared remarks. As it relates to the dialogue you are having with lawmakers on the healthcare reform legislation that is being kind of crafted right now, I am sure the discussion about broader bundles of integrated care is part of that discussion but how is it part of it? Is it something that would be laid out in the legislation or is it something that over time with CMS maybe having more power to implement projects on their own, is that something, I guess I am curios on the timing of something like that given CMS is still yet to implement any bundled care even with the pharmaceuticals here and we are still a few years away from that.

Kent Thiry

Right. We are not anticipating that government is going to do anything dramatic with respect to broader bundles of integrated care beyond that which they already decided on dialysis last year in the short term. But that is the way that they want to take the whole system and with it, at some point, they are not for just the future we will go and it will be much to the benefit of all constituents.

With respect to what is going on this year with the KCP, the Kidney Care community and the healthcare reform discussion, what we are trying to do is get them to eliminate some of those unique discriminations so in particular what I was talking about before, the fact that our, the only citizens in America, they cannot keep private health insurance in a world where they are trying to get more people insured are ours and it is historical anomaly that used to be in the 1970s with zero months and then Congress moved it up to 12 and then 18 and now it is 30. So, there is strong historical pressing in and it is a just a historical artifact and so the entire kidney care community wants that discrimination eliminated that is creating tremendous incentive for investing in wellness or virtually the entire community I guess just to be safe.

And then also the community is advocating that CMS and HHS and Congress start to encourage more care coordination experimenting along the lines of which I have talked about, nothing dramatic but have the broader kidney care system start to experiment with care coordination and so that we can bring the virtues of that in a cost effective way the big chunks of the population in the years to come. But it is not going to be this year. There is not going to be some big dramatic kidney care reform bill this year. That is not what we are pursuing.

Mark Arnold - Piper Jaffray & Co.

Then just one more question on health reform, you mentioned in your prepared remarks the understanding or at least the limited understanding by lawmakers of the private subsidization that occurs here in the dialysis sector. How is that part of the discussion right now and particular with some of the things like a public plan option being for out there and how are you guys talking to lawmakers about that issue?

Kent Thiry

Well, how it is being talked about is just by presenting the data that demonstrates that 87% of our patients are government pay, 82 of those 87 are Medicare. On average, we take a loss on them and therefore rely on the other 13 when we have for 30 months only to subsidize which is why they have rates that are much higher than they would otherwise. So, how we are doing it is just laying out the facts and try providing them enough information so that they can comfortably attempt to triangulate those facts and validate them with CMS, MedPack, CBO, OMB, etc, etc. So, it is a highly imperfect process because these are people who are not set up to do audits of every provider segment P&L nor do they have the time so that is how and then you ask them more qualitative question before that.

I think overall on this, the community is doing a solid job. It is not superb or excellent or pervasive yet but it has been solid as of the last 24 to 30 months. Prior to that, it was not even solid so the good news is we are making progress. The bad news is, we are not excellent yet. Is that responsive?

Mark Arnold - Piper Jaffray & Co.

Absolutely.

Operator

Your next question comes from the line of Arthur Henderson - Jefferies & Co.

Arthur Henderson - Jefferies & Co.

Kent, in your opening remarks, you mentioned that unemployment was not really having an impact on the pair mix and I wanted to follow up on that. You said that you had some additional details or we could ask for additional details and I thought I would.

Kent Thiry

Very fair, I will turn it over to Rich to see if we can be entirely consistent with the last call.

Richard K. Whitney

So, I will try. Alright, what we talked about the capital market's day was that there are a number of structural factors that we would want to believe that we might have some insulation from the rising unemployment that we are seeing out there and the two most important are number one, the availability of COBRA for our patients and subsidies for patients to be able to afford the COBRA premiums provided through particular not for profit foundation. So, there are very, very, very few patients that do not elect COBRA because they cannot afford to pay it because of the availability of the assistant.

Secondly, about half of our patients qualified for the particulars under a disability program that allows them an extra 11 months of COBRA on top of the initial 18 months and so because of the existence of those two facts, we believe that we have some mitigation against what other provider segments might experienced more significantly or maybe more rapidly when the economy turns and losses its many jobs that it has.

I guess third, it is our view that ESRD patients and other patients with chronic conditions are those that are much more likely to want to try to keep their private insurance when they experience a job loss or a job change and that is at least anecdotally in our experience.

Arthur Henderson - Jefferies & Co.

Okay, that is helpful.

Richard K. Whitney

With that said, I think we should reiterate we are worried about it. We are watching it closely and we are assuming that we will experience some impact but pretty reasonable I think to be at that way.

Arthur Henderson - Jefferies & Co.

Okay, that is fair. On the free cash flow side or uses of free cash flow, it looks like you consistently had about $400 million of cash on the balance sheet. You are buying back stock but that seems relatively stable. Is that the way we should think about it going forward? I know you have not bought back any shares in the quarter so far but is it acquisitions kind of first and then share repurchases and then debt repayment kind of the way to think about it?

Richard K. Whitney

Yes, really not change to the way we view it other than we take into account every quarter the specific facts and circumstances to make a judgment about how to allocate our capital. To reiterate, it is first to fund attractive growth investment to the extent that we have those opportunities and second, we then look at the tradeoff between buying back some stock and paying down some debt and then specifically in this environment has, for the last some period of time as oppose to paying down debt, that tradeoff is buying back stock or holding on to some cash for liquidity and really just because if we pay down debt right now, we do not have the ability to re-borrow it at anywhere near the same rates.

So, same tradeoffs. We still view the business the same way that it should have a certain amount of leverage on it over the long term. Well, at times it be above that level, at times it will be below that level and if you sort of look at our capital structure and note the relatively short weighted average maturities and overlay, it has been a pretty volatile debt market over the last six to nine months. I think those are two factors that would all else being equal cause us to be more conservative with our cash than otherwise.

Arthur Henderson - Jefferies & Co.

Okay last question and I will get back in the queue. The number of treatments per patient declined, I assume is that because of the fewer days? I imagine that is what it was and then secondly, Kent on the private payerside, it strikes me that things are while you are still cautious there, you are not quite as seemingly nervous about the outlook of private payerrates as you were maybe a couple of quarters ago and I just, I wanted to make sure that I was reading that correctly and maybe I was not but I wanted to ask.

Kent Thiry

I am glad you bring it up. I think our anxiety, tension, uncertainty level there is ever constant and so any fluctuations in the word choice in any given call are very coincidental. Structural realities of the fair fight between the big payers who would like to not subsidize Medicare so much in us, that is pretty unchanging every quarter.

Arthur Henderson - Jefferies & Co.

Okay and then Rich on the treatments per patient?

Richard K. Whitney

Yes, the answer to your question is yes, it is from the fewer treatment days in the quarter. The other impact although less of an impact but still important is that there were fewer Monday, Wednesday and Friday in the quarter. So, the quarter started on a Thursday and ended on a Tuesday and typically, we treat more patients on Monday, Wednesday and Fridays than we do on Tuesday, Thursday, Saturdays because of the weekend.

Operator

Your next question comes from the line of Andreas Dirnalg - Stephens Inc.

Andreas Dirnalg - Stephens Inc.

Basically, just a whole bunch of follow ups in terms of just trying to get some more detail. I can remember either Kent or Rich when talking about heparin, you said that the cost was up. Obviously, the cost is up year-over-year. I was wondering, can you give any comment? Are we still seeing an acceleration of the cost sequentially or we have sort of stabilized it in new higher level?

Richard K. Whitney

Andreas, in Q1, we stabilized. We have not seen additional increases or decreases. You recall that there was some offsetting utilization reduction.

Andreas Dirnalg - Stephens Inc.

Right and then Rich on labor cost, everytime you mentioned the $1.50 I think as it was in the quarter, no I am sorry the 2/3s of the $3.60, you kept saying that it was related to payroll taxes. Have you seen regardless of the payroll tax part sort of labor cost begin to moderate it all?

Richard K. Whitney

In the first quarter, we have not seen labor cost moderate. However, it is our expectation that going forward, they would moderate somewhat just given the environment and the change in the labor market and labor rate increases across all segments of healthcare, we are sending somewhat down.

Andreas Dirnalg - Stephens Inc.

Okay, but again, to date, you have not seen any of that. And then in terms of treatment days for the second quarter, is there any change from year-over-year and sequentially there?

Richard K. Whitney

Well, there will be more treatment days sequentially. I do not have it; I would have to look at the calendar. I do not have it in front of me but there is always a pick up from Q1 to Q2. I have not looked at Q2 versus the prior year to note the calendar differences. The best way to look at it is the number of Sundays, the fewer Sundays the better. We are free on Sundays and then the more Monday, Wednesday and Fridays the better because we have a heavier load on Monday, Wednesday and Fridays.

Andreas Dirnalg - Stephens Inc.

Great and in terms or the share repurchase program, what is left under your current authorization?

Richard K. Whitney

Around 125 million.

Andreas Dirnalg - Stephens Inc.

Okay and then when it comes to, we were talking about the various needs against versus the possible pressures from unemployment, do you, I mean I am sure you are tracking, can you share with us sort of whether you have seen an increase in the number of the percentage of your patients that are on either COBRA or they are getting subsidies from kidney fund or has that remained fairly steady?

Richard K. Whitney

We do track it and I would sort of hesitate to give you specific numbers because frankly we track it a lot better now in the last four to six months than we had previously because of the situation.

Andreas Dirnalg - Stephens Inc.

But again without specific numbers, I mean general trend, is it relatively flat? Have you seen a slight increase, a slight decrease?

Richard K. Whitney

Yes, we have not seen any dramatic change in that and that is one of the factors that influenced our thinking regarding have said to you that we have not seen at this time any change related to other point.

Andreas Dirnalg - Stephens Inc.

Wonderful and then final question maybe for Kent; Kent, we are in a period right now when it comes to sort of DC where there is obviously a lot of things going on and one of the things that is going on is there is I guess a deadline out there for establishing a new bundles rate and entirely new sort of reimbursement structure. In your discussions with CMS, I mean have they even started on this? Do they have the bandwidth to look at this in time to sort of put it in place by sort of mid or end of next year?

Kent Thiry

Yes, CMS is working very hard on the bundle that was outlined by Congress 10 months ago and we and other members of the community are coordinating to provide them with a lot of information to help them get it right.

Andreas Dirnalg - Stephens Inc.

Okay and then final question, when it comes to the bundling, I guess it is legislated that the bundling will be at 98% of spending. Can you just refresh us in terms of what timeframe that they are using to establish the base of which they will base the 98%?

LeAnne Zumwalt

It is LeAnne. Two components to that, let me be just so you understand it, pharma utilization will be that on the lower of 2007, 2008 or 2009. Once that is established, 98% applies to the bundles purposes that they would put together, they will take a 2% share cut.

Andreas Dirnalg - Stephens Inc.

And then that is on the pharma utilization. What about on the composite rate?

LeAnne Zumwalt

No, 2% across all of the services; lab services, pharmaceutical, composite rates, etc. Once that group of services is established, what they would have otherwise spent with adjustment utilization, we cut by 2%.

Andreas Dirnalg - Stephens Inc.

And that is based off at the lower of 2007, 2008 or 2009.

LeAnne Zumwalt

Correct.

Andreas Dirnalg - Stephens Inc.

Just for pharma.

LeAnne Zumwalt

Just for pharma.

Andreas Dirnalg - Stephens Inc.

The lower of 2007, 2008 or 2009. For the non pharma, what is the period that they use?

LeAnne Zumwalt

It would be otherwise what had been spent in the first year.

Richard K. Whitney

The first year of the bundle that is Andreas.

Andreas Dirnalg - Stephens Inc.

Okay, so for example it will base off of the 2010 Medicare composite rate?

LeAnne Zumwalt

Yes, since the credit is correct.

Andreas Dirnalg - Stephens Inc.

Okay, so it is the 1% increase in effect that you are getting in 2009 and 2010 basically taking back.

LeAnne Zumwalt

Correct, a long wind, a haircut against the pharmaceuticals.

Andreas Dirnalg - Stephens Inc.

Right. Okay, great.

Operator

Your next question comes from the line of David MacDonald - Suntrust Robinson Humphrey.

David MacDonald - Suntrust Robinson Humphrey

Just a couple, what I missed, Rich, can you give us the number of de novos waiting approval again? I know it is 56 last quarter, what was it this quarter?

Richard K. Whitney

Fifty three.

David MacDonald - Suntrust Robinson Humphrey

Okay and I know Texas was a state that kind of stood out last quarter. Is there any change there, any states that are overly problematic besides Texas?

Richard K. Whitney

Little Texas in California are our problem.

David MacDonald - Suntrust Robinson Humphrey

Okay, and then Kent, can you just give us a little bit more detail on what would be kind of the next steps with the pilot program in terms of bundled care with CMS, what do we look for over a kind of a next 6 to 12 months in terms of that moving forward and moving towards implementation at some point?

Kent Thiry

And you are talking in this case about the bundle that was legislated by Congress last year?

David MacDonald - Suntrust Robinson Humphrey

No, I am talking about the demonstration project where you guys, it sounds like Fresenius working on the capitated plan.

Kent Thiry

Right, over the next 6 to 12 months, we should not expect anything dramatic, nothing operationally material.

David MacDonald - Suntrust Robinson Humphrey

Okay and so when we think about timeframe, I mean is this more kind of in 2011 or 2012 type of opportunity of that, a couple of years down the road is more realistic timeframe to think about this?

Kent Thiry

Certainly, more reasonable than anything sooner and we will keep you posted. As I mentioned earlier, this movement has picked up irreducible momentum at the federal level, at the state level and in the private payer world and it is just so difficult to handicap whether it is one year before there is a big change or four years or something in between which is why we are trying to emphasize that predicting timing is just not, unfortunately is not something that we think we can do well. So, all we can do is keep you posted and when that door opens as it is starting to, we are very well positioned to stride through it.

Operator

Your next question comes from the line of John Ransom - Raymond James.

John Ransom - Raymond James

I have one peeking in question and one broader one; now, what is the ending share count in the quarter?

Richard K. Whitney

We will look it up for you. Do you have another question?

John Ransom - Raymond James

Sure, what was the subsidy in the quarter to specially our x in DaVita village? I know you are still on track for your number for the year that you mentioned that you are investing in.

Kent Thiry

People are passing it on pay for they are trying to hand over that share count. Could you repeat the question?

John Ransom - Raymond James

Sure, what was the loss, subsidy is trying on there, what was the loss in the quarter from village and specialty?

Richard K. Whitney

The loss for the entire ancillary service business segment which is how we disclose it, there are other things in there was $5 million for the quarter.

John Ransom - Raymond James

And you are still on track, if that change for the year, you are still on track for that number for the year?

Richard K. Whitney

We feel at the end of Q1, we are on track for what we told you we will do three months ago, yes.

John Ransom - Raymond James

Okay.

Richard K. Whitney

And the ending share count is 103,409 and that is not a diluted number. The diluted number is 104,409.

John Ransom - Raymond James

Okay and I guess the, I do not even know how to ask this question, I probably going to stumble but in the debate about the public plan versus product plan and Nancy-Ann DeParle indicated that the public plan could take a lot of different shapes. There is a Medicare option. There is a hybrid. There is a product plan option. I guess, you have hired a new industry guy to go talk to Washington, how are you going to track this debate and how are you going to weigh in to make sure that the so ons who were dealing this up understand the difference between $230 a treatment and $900 treatment and the requisite of solvency of the dialysis industry if you end up with Medicare for everybody?

I think the low end groups at 130 million would drop their private plans and run to Medicare. Medicare is 30% cheaper. It just seems like you have an irresistible political wedge to get people to go to Medicare if you get a hard left healthcare plan but you guys are going to be on the uncomfortable position in trying to argue up here right with the government and it just not clear to me how do you go to see the table and how do you make your case and how are you following this. I do not know if I asked that right.

Kent Thiry

No, it is a fair question and of course there is no incredibly definitive answer but it is important to point out that right now, all our private patients have the right to go on Medicare. So, we are the only segment in America for whom if that option existed just not have change.

Now, that does not meant that sort of the whole environment could change in some way that more people started making that decision but we are the only segment in America where that already exists and has existed for 20 years in our current business model reflexive.

And then second, we are doing it the old fashion way, just very straightforward blocking and tackling of going office by office, walking through the economics. Every member of Congress has dialysis centers in their district and does not want them to close and there is a lot of third-party data supporting in rough terms the description of our economic reliance on private pay which is why there have been lot of decisions made, if they has been made over the last four or five years.

So, we just have to work it a lot. If the people in Congress are loaded to implement something that could blow up in the face, that is the great fear when they started talking about this reform stuff. So, we are confident that we have a very good shot at having a nice seat at the table but that does not mean you get the outcome you want. It is just not how the process works. It is pretty sloppy.

John Ransom - Raymond James

Well, I mean I understand it is sloppy but the uncertainty this year is obviously magnified tenfold. So, it is interesting.

Operator

Your next question comes from the line of Bill Plovanic - Canaccord Adams.

Bill Plovanic - Canaccord Adams

Just how does home therapy fit in with your strategy in preparation for bundling?

Kent Thiry

Our doctors and patients pick home therapy whenever they think it is in the best interest of the patient. We do more home therapy than anyone else in America and so help me out if I am not being useful here.

Bill Plovanic - Canaccord Adams

As you see bundling coming at you, would you expect increasing usage of home therapy decrease? What would be, does that actually help you save money? Is it more profitable for you? Is there any benefit for you? I know there is benefit for the patient.

Kent Thiry

Well, there is benefit for some patients and as to the bundle whether or not one is better or soft, it depends on a bunch of variables like what the equipment is priced at and what your local scale is, things like that. But there is no black and white answer on that and in fact on the home hemodialysis, we actually lose more money on Medicare at home than we do in the center. So, it is worst.

Operator

Your next question comes from the line of Jack Ruff - Inside Investor.

Jack Ruff - Inside Investor

You talked a little bit about capital allocation with a volatile debt markets in your current majorities. Is part of the reason for the build up in cash that you see a lot of acquisition opportunities, is that also part of it and is the uncertainty with Congress and healthcare changes that part of it too? Can you just go into a little bit more the decision process to build up cash rather than buyback more stock?

Kent Thiry

In a time of uncertainty, we go to cash. We go to cash for a defensive and an offensive reason. Defensive reason is when times are uncertain and where they might turn out poorly just as you outlined in your question. In addition, it also means things might turn out more poorly for other people less well positioned than us and therefore we also like to have cash for offensive reasons because it might get to buy them at a more attractive price than otherwise. So the funny thing is the uncertainty creates equally powerful defensive and offensive reasons to ere in the side of having more cash rather than less.

Jack Ruff - Inside Investor

Okay, that is fair. It also creates a good opportunity in your stock too.

Kent Thiry

Hopefully so.

Operator

And there are no further questions at this time.

Kent Thiry

Alright, well thank you all for your thoughtful consideration of DaVita and we will work hard between today and the next day we get in the phone with you. Thank you.

Operator

This concludes today's conference call. You may now disconnect.

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

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

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

Source: DaVita, Inc. F1Q09 Earnings Call Transcript
This Transcript
All Transcripts