Quest Diagnostics Q3 2007 Earnings Call Transcript

Quest Diagnostics Inc. (DGX)

Q3 2007 Earnings Call

October 24, 2007 8:30 am ET

Executives

Laure Park - VP of IR

Surya Mohapatra - Chairman and CEO

Bob Hagemann - CFO

Analysts

Ralph Jacobi - Credit Suisse

Adam Feinstein - Lehman Brothers

Bill Bonello - Wachovia Securities

Dave Clair - Piper Jaffray

Robert Willoughby - Banc of America Securities

Art Henderson - Jefferies & Company

Kemp Dolliver - Cowen & Company

Andreas Dirnagl - JP Morgan

Ricky Goldwasser - UBS

Tom Gallucci - Merrill Lynch

Bill Bonello - Wachovia Securities

Presentation

Operator

Welcome to the Quest Diagnostics Third Quarter 2007 Conference Call. At the request of the company, this call is being recorded. The entire contents of the call, including the presentation and the question-and-answer session that will follow, are copyrighted property of Quest Diagnostics with all rights reserved. Any redistribution, retransmission, or rebroadcast of this call in any form, without the expressed written consent of Quest Diagnostics, is strictly prohibited.

Now, I would like to introduce Laure Park, Vice President of Investor Relations for Quest Diagnostics. Go ahead, please.

Laure Park

Thank you and good morning. I am here with Surya Mohapatra, our Chairman and Chief Executive Officer, and Bob Hagemann, our Chief Financial Officer. Some of our commentary and answers to questions may contain forward-looking statements. You are cautioned not to place undue reliance on forward-looking statements which speak only as of the date that they are made and reflect management's current estimates, projections, expectations or beliefs and involve risks and uncertainties that could cause actual results and outcomes to be materially different.

Risks and uncertainties that may affect the future results of the company include, but are not limited to, the competitive environment; changes in government regulations; changing relationships with customers, payers, suppliers and strategic partners; and other factors described in the Quest Diagnostics' 2006 Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K.

A copy of our earnings press release is available, and the text of our prepared remarks will be available later today in the quarterly update section of our website at www.questdiagnostics.com. A downloadable spreadsheet with our results and supplemental analysis is also available on the website. Now here is Surya Mohapatra.

Surya Mohapatra

Thank you, Laure. During the quarter, we continue to grow our revenue, improve margins and generate strong cash flow. Consolidated revenues grew to $1.08 billion, operating margin grew to 17.3%, a second consecutive quarter of strong improvement, and cash flow was strong approaching $300 million.

We started the year with uncertainties in a competitive environment with health plans and our ability to manage costs and growth. We have made excellent progress in reducing that uncertainty by renewing, and in some cases, extending our relationship with health plans. We have aggressively reduced our cost structure while improving service and return margins to the level we realized as a contracted provider to United.

We continue to retain approximately 25% of the United business and have seen no change in their associated discretionary work. This is a clear testament to our strong and differentiated value proposition. We have also begun to implement plans to further reduce costs by $500 million over the next two years, and we have made important acquisitions, which positions us to accelerate growth.

Later I will elaborate on our growth plans, but first, Bob will review our performance and guidance.

Bob Hagemann

Thanks, Surya. As Surya indicated, we continue to make excellent progress in improving margins over the course of the year. Now essentially, back to the profitability levels of last year, we are considering the acquisition of AmeriPath.

In addition, we've begun discussions with the government in an effort to reach a settlement regarding its investigation of NID, a test kit manufacturing subsidiary closed in 2006. In connection with these discussions, we've established a reserve of $51 million and recorded the charge as part of discontinued operations.

We've been working diligently to bring closure to this matter, but it remains unclear as to how long it may take and what the ultimate cost will be to resolve this issue. Given that we are in ongoing discussions regarding this matter, what we can say is limited and is contained in footnote 8 of the earnings release.

In order to assist in making comparisons, as I go through our results, I'll highlight the impact of AmeriPath on a number of key metrics. In addition to highlight our progress, I'll point down improvements in certain metrics over the last several quarters.

Revenues were $1.8 billion, 11.6% above the prior year, with AmeriPath contributing about 13% growth. Revenues for our clinical testing business, which accounts for over 90% of our total revenues, were 10.6% above the prior year, with AmeriPath contributing 14% growth.

Volume was 2.4% below the prior year, and approximately 8% below, without the AmeriPath acquisition. Revenue per acquisition increased 13.3%, with 8.5% of the increase due to AmeriPath. The balance of the increase in revenue per acquisition continues to be primarily driven by a positive test mix.

AmeriPath's organic revenue growth for the third quarter was 7%, with particular strength in dermatopathology and hospital testing. We estimate that consolidated revenues were reduced by almost 5% due to our change in status with United, with clinical testing volume reduced by about 7%, partially offset by a positive impact of revenue per acquisition of about 2%.

Positive impact of revenue per acquisition is associated with higher reimbursement on the retained, United work. Throughout the third quarter we saw little change in our United volume and continued to remain at about 25% of the previously contracted level. We expect that some additional United volume will move overtime due to United's ongoing efforts.

We continue to be encouraged by physician's decisions to select Quest Diagnostics when given a choice, and I have seen no further loss of discretionary work during the quarter.

Adjusted for the change associated with Untied, we saw about 1% improvement in our base volume growth compared to that of the second quarter. Improvement, principally related to our new Aetna agreement, which went into effect July 1.

Organic revenue growth in our non-clinical testing physicians, as a group, which include our clinical trials testing business and the risks assessment business, was a little over 5% for the third quarter.

The acquisition of HemoCue contributed 1.5% to consolidated revenue growth. Operating income, as a percentage of revenues, was 17.3% for the quarter compared to 18.5% in the prior year, with the difference due to the acquisition of AmeriPath. Before including the results of AmeriPath, margins have now returned to the prior year level, only nine months after the contract change with United.

This is a further improvement of about two full margin points from the year-over-year comparison in the second quarter, which itself reflects significant improvement from the first quarter comparison. Improvements are due to actions we have taken to reduce our cost structure, avoidance of certain costs incurred in the first quarter, associated with business retention and workforce reductions, and higher revenue per acquisition.

Bad debt expenses as a percentage of revenues, was 4.8% and 4% before the inclusion of AmeriPath. AmeriPath, which carries a higher bad debt rate than the rest of our business, much of it due to the in patient work done for hospitals and billing systems conversions, will increase our bad debt expense by about 1% for the time being. At this point we have not reduced the AmeriPath's bad debt as quickly as we had planned. However the eventual synergy opportunity related to bad debt remains unchanged.

Diluted earnings per share from continuing operations were $0.77 compared to $0.82 in the prior year. The impact of the change in contract status with United has been essentially mitigated. Differences from the prior year is principally due to the AmeriPath acquisition, which will be somewhat more dilutive in the near-term and initial estimates, and in large part, are due to higher bad debt.

Included in footnote 6 to the earnings release is a table which summarizes the impact for various measures for a number of the items discussed.

Cash from operations for the quarter was strong at $291 million, up sharply from Q2 and $56 million above the prior year. During the quarter we reduced debt by $152 million, bringing the total debt reduction since the AmeriPath acquisition to $192 million.

Cash at quarter-end was $165 million, up $42 million from the second quarter. Capital expenditures were $54 million in the quarter and we repurchased $41 million of common stock.

Day sales outstanding were 50 days, 1 day below the Q2 level and 2 days above the same point last. The increase over the last year is due to AmeriPath's impact on our DSOs, which we expect to decrease overtime.

Now, I will turn to our full-year outlook for 2007. Our current guidance for results from continuing operations is as follows, we expect revenues to approximate $6.6 billion to $6.7 billion. We expect operating income as a percentage of revenues to approximate 16%. This is reduced by just over 0.5% due to the inclusion of AmeriPath, which currently carries lower margins than the rest of our business.

We continue to expect cash from operations to approximately $800 million, and we expect capital expenditures of between $210 million and $220 million. And lastly, we expect diluted earnings-per-share, adjusted to exclude the $0.04 in first quarter charges, to be between $2.84 and $2.91, the mid-point unchanged in previous guidance.

Please note these estimates exclude any additional special charges. Before turning you back to Surya, one last comment on performance. So far this year is best characterized as one of significant progress in the phase of substantial challenges.

Despite the loss of a contract with our largest private payer, intensified pricing pressures, and an increased competitive environment, we've managed to grow our business and return it to its underlying profitability of the prior year.

We have renewed or expanded our relationships with a number of important health plans for multi-year periods. We developed plans to redesign and streamline our operations for substantial savings, totaling $500 million over the next two years.

With our recent acquisitions, we put in place the major pieces needed to drive future growth. And our focus is now on integrating and aligning the capabilities we have assembled, as we delever and reposition our capital structure for the next wave of growth and investment.

Now, I will turn it back to Surya.

Surya Mohapatra

Thanks Bob. As you have heard, we are making great progress and are well positioned to drive top and bottom line growth. While our business has become much more competitive over the last year, diagnostic testing remains and will always represent a vital healthcare service. Our strategy based on patients, growth and people, positions us well to continue to drive profitable growth.

We put patients first with the highest standard for quality and superior service. We give patients and physicians even more reasons to choose Quest Diagnostics, and we continue to differentiate ourselves competitively.

Our Patient Service Centers are electronically connected to physicians' offices and our labs, and are now connected to patients through electronic appointment scheduling. More than 10% of all visits to our Patient Service Centers are now scheduled, and adoption continues to grow more than 50% in some locations.

Additionally, we are piloting a portable electronic patient health record called MyCare360. It enables patients to avoid the need to fill out forms when they visit our Patient Service Centers.

Patients can also create, store and manage their own personal health records. We have introduced a new program called Quest Care in two markets to make testing available to the uninsured. This compliments our existing needs best testing assistance program and addresses the unmet need in the market for access to healthcare services.

These actions in power patients assist physicians and add value to health plans and employers. We also continued to raise the bar for quality and safety through technology and Lean Six Sigma. We recently launched a specimen tracking initiative that enables us to accurately track irreplaceable specimens, such as biopsies, at every stage of their journey to our lab.

We have joined the National ePrescribing Patient Safety Initiative, a coalition of healthcare and technology companies working to drive improvements in patient care and safety.

Our growth strategies focus on high-growth, high-margin production services. We continue to pursue innovative new tests and technologies that improve quality in patient care. For example, volume for our LEUMETA plasma-based leukemia test more than doubled compared to last year.

The LEUMETA family represents a suite of proprietary tests that one day may replace painful bone marrow biopsies.

We are the leader in cancer diagnostics. Together with AmeriPath, we are able to offer a unique combination that includes routine testing, anatomic pathology, and molecular diagnostics.

We are in the process of aligning the two organizations to accelerate growth. We continue to lead the industry in advanced healthcare IT solutions. More than 120,000 doctors use our Care360 for lab orders and results. We are beginning to see traction with physicians using it to write prescriptions, with more than 100,000 scripts written in September.

We are also pursuing growth opportunities outside the United States. Around the world, emerging markets are creating an educated middle class that can afford private healthcare services. We are building operations in India and we see opportunities in other countries, such as, the UK and Ireland.

In summary, we are driving topline growth. We continue to improve margins and we are generating strong cash flow. We are empowering patients and doctors, and creating differentiated services to own their trust and loyalty.

Within the world of healthcare, diagnostic testing is a critical tool that can detect disease early, drive treatment decisions early, and improve health. The opportunities are enormous and I am excited about our future.

We'll now take your questions. Operator?

Question-and-Answer Session

Operator

Thank you. (Operator Instructions). [Ralph Jacobi] from Credit Suisse. Your line is open.

Ralph Jacobi - Credit Suisse

Hi, thanks. Can you maybe give us more details around Aetna? How much of that business is shifted to you all, and maybe the contribution this quarter versus the year ago quarter?

Bob Hagemann

Just keep in mind with respect to Aetna, we have the lion share of that business already. The vast majority of what was available to us, has moved to us at this point, but again, we didn't see that as a significant volume opportunity because of the fact that we had most of the business already. And as I mentioned in the prepared remarks, the Aetna increase contributed about 1% improvement in our volume growth in this quarter compared to the second quarter.

Ralph Jacobi - Credit Suisse

Okay. And then just looking at organic growth or actually, I guess I should say, just growth excluding AmeriPath and UNH, it looks like revenue was up around 3.5%, a little below the industry average. So, we are just hoping to get some of your comments around that, more that whether you think that's still a function of UNH distraction or if there is something else and basically when will we get return?

Bob Hagemann

There is certainly some of that. Yes, we stated in the first quarter and the second quarter, the sales force has, for the most part of this year, been focused on business retention as opposed to selling new business. We are starting to shift that over now. And I think we are starting to see in the underlying numbers. But it's not something that turns on a dime. But there is no reason for us to believe that we will continue to grow organically overtime at/or slightly above the rate of the industry.

Ralph Jacobi - Credit Suisse

Great, thanks.

Operator

Our next question comes from Adam Feinstein with Lehman Brothers. Your line is open.

Adam Feinstein - Lehman Brothers

Okay, thank you. Good morning, everyone and great job in turning around the operations here. Maybe just Bob, I just want to get you to elaborate, you mentioned that AmeriPath has being slightly dilutive for the time being. I just want to make sure I heard you correctly as you were talking about the bad debt. Were you implying that the bad debt is going to be worse in the fourth quarter? Was there something this quarter that led to it being lower, so it will be more dilutive later in the year? Just wanted to make sure I was following your comments before.

Bob Hagemann

Adam, the point that I was making, it's taking us longer to get at the bad debt improvements, than we thought. A number of AmeriPath systems and their processes are not providing us the information necessary to make some of the plans that we have actionable at this time. So, it's taking sometime to get those systems and processes in place. But as you know, this is an area billing bad debt that we have got some particular expertise in, and we will get out of it. It's just taking us a little longer. We're not necessarily anticipating that AmeriPath's bad debt is going to go up. It is just that we're not getting at the reductions as quickly as we would like.

Adam Feinstein - Lehman Brothers

Okay. And then just on that topic, maybe you could just talk a little bit more. I know you have only asset for that long, but I am certainly just curious in terms of, you talked about the bad debt, and maybe just talk about some other aspects of the bad debt business in terms of the integration process.

Bob Hagemann

I mean, first thing I will tell you is, there is nothing changed regarding our excitement about the opportunity. The acquisitions were invested to accelerate growth for both Quest Diagnostics and AmeriPath. Remember, accelerating growth was the principal rationale for this deal. And for the most part, yeah, it’s a matter of being very deliberate as we integrate the businesses. As we told you, we want to make sure that, we keep the brand identify of AmeriPath intact, particularly on the demand of pathology side, and we've been very deliberate about the integration. But generally there is nothing there that, we just believe, that the outlook for this business is any different than we thought it was when we acquired it.

Surya Mohapatra

Adam, this is Surya. If you remember, we acquired AmeriPath because of growth. And we are focusing the company on more high-margin, high-growth products and services and cancer diagnostics is an important area and we are really excited about becoming the number one in this area and very, very pleased with the reception we've got from AmeriPath doctors and their employees.

Adam Feinstein - Lehman Brothers

All right. And then just a final question here is just on some of the cost cutting. Last quarter, you had said that, you've got a $20 million run rate in terms of what you had already implemented, and then you have touched on $500 million in future periods. I just want to see if you have any update there, and just any additional thoughts on cost cutting. Thank you.

Bob Hagemann

Nothing specific to add to what we've said before. We continue obviously to manage costs pretty aggressively, but at the same time being very focused on maintaining the service levels that we have got, because we see those services levels as one of the principle differentiators that we bring to our customers. We've continued to reduce the size of the work force, most of it through voluntary attritions.

And as we look at the $500 million in savings that we expect to get over the next several years, certainly a significant piece of that is going to come from reduced people cost. But again, we expect that we will get that through normal attrition over the next several years, and we feel good about being able to get it. It's starting to show up in the numbers, as you can see. And yeah, I think our focus has to be on continuous improvement in both our efficiency, as well as our service levels.

Adam Feinstein - Lehman Brothers

Okay. Thank you very much.

Operator

Our next question comes from Bill Bonello from Wachovia Securities. Your line is open.

Bill Bonello - Wachovia Securities

Yeah. Hey, good morning. Couple of questions. It looks like if we strip out AmeriPath and United then your revenue per requisition was up about 2.5%, being a little better than that and even after excluding those, is that a pretty reasonable expectation for the underline increase, going forward? Or are there any price cuts that you negotiated, but that haven’t taken effect yet, which could potentially bring it down a little bit?

Bob Hagemann

Bill, as you know, we don’t provide guidance on revenue per requisition growth or volume growth. We try to manage the business for profitable revenue growth overall. And there will be times when we can come to agreement on a particular contract and, as such, might walk away with all the impact of volume. But in the end, I think it will help our overall profitability in many cases. So, I would rather not start now giving guidance on revenue per rack or volume. Rather point you to the fact that we believe organic revenue growth, overtime, will continue to grow at or slightly above the industry rate. And as you know, as we have gone through these managed care negotiations, we have had to make some pricing concessions and hopefully, with much of that behind us now, we will start to see some stability.

Bill Bonello - Wachovia Securities

And that's all I am trying to understand is, is this quarter's results pretty representative of whatever pricing concessions you know that you have to make?

Bob Hagemann

Yet again, you are asking me to give you guidance on revenue per rack. I think we are going to continue to see pressure on price as we go forward and frankly that's one of the reasons that we embarked on this program, to pull $500 million in costs out of our business, because that's going to allow us to continue to drive towards that 20% operating income that we have spoken about.

Bill Bonello - Wachovia Securities

Okay. That's helpful, and then just, I am little confused by the volumes stat you drew out. I just wanted to make sure I understand what you were getting at, if AmeriPath, if ex of AmeriPath, your volume was down about 80%, I thought you said that sort of ex United, you were growing volume about 1%. Something is not matching up, are you saying that there was maybe about a 2% impact from business that you lost, that you sort of attributed, it wasn't United, but it was sort of attributable to having lost the United contract?

Surya Mohapatra

No, Bill. What I am saying is when you strip out acquisitions and then you strip out the impact of United the underlying year-over-year volume growth that we saw in the third quarter was about a point better than we saw in the second quarter.

Bill Bonello - Wachovia Securities

Well, in the second it was a point better than what you saw in the second quarter, okay but not necessarily positive?

Surya Mohapatra

Correct.

Bill Bonello - Wachovia Securities

Okay, great. That's very helpful. Thank you.

Operator

Out next question comes from Bill Quirk from Piper Jaffray. Your line is open.

Dave Clair - Piper Jaffray

Hey everybody, its Dave Clair here for Bill. How are you?

Surya Mohapatra

Very good.

Dave Clair - Piper Jaffray

Hey, just a question on competitive bidding, with the first competitive bidding demonstration site announced, I was hoping if you could give us your initial thoughts on the process and any expectations for impact to the San Diego business?

Laure Park

Well, we really [came] here with the first site out there obviously we are evaluating and looking at the whole process. We still have concerns with the process and we are working through albeit, through the appropriate channels. That being said the addition in the naming of the first site doesn't change our belief that competitive bidding is not everything for the industry and we are continuing to work through ACLA to get that message out and obviously are hopeful that some of the bills introduced in Congress will have an impact.

Dave Clair - Piper Jaffray

Okay, just on kind of the international front, you guys talked about India, and the UK and Ireland are looking attractive. Are there any additional emerging markets that you guys are looking at? And just on the India front is, that going to be strictly processing India testing volume or you are going to thinking about outsourcing anything from the States?

Surya Mohapatra

Dave, this is Surya. First of all, we are looking at international very seriously but we are focusing on developing countries rather than developed countries. That means Asia and South America. We have started building our operations in India. The middle class population is 300 million people there and there is a lot of private payers. And we are building the business first to address the local market, there is tremendous opportunity there, and we will concentrate and put our expertise and the experience to make ourselves a leader there. And after that, obviously we are looking at other opportunities. We have some small operations in UK and Mexico, and as you know we had some work from the Irish government to reduce our backlog. So the international opportunity is really a growth opportunity, and in five to six years you will see a significant traction there.

Dave Clair - Piper Jaffray

Okay. And then just kind of on AmeriPath, going forward, it was a little bit [lighter] than what we are looking for over here, just your thoughts, and what you expect as kind of a longer-term growth rate for that business?

Bob Hagemann

We haven't given any specific guidance on the growth rate for that business, but the two areas that they are focused on are dermatopathology, anatomic pathology in general; and specialty testing. They are two of the fastest growing areas in clinical testing and we don't see any reason for that to change, certainly demographics are driving some of that growth.

Surya Mohapatra

They are growing at 7% which is something we had in that sector, which is higher than clinical pathology.

Dave Clair - Piper Jaffray

Okay. Thanks guys.

Operator

Next question comes from Robert Willoughby from Banc of America Securities. Sir, you may ask your question.

Robert Willoughby - Banc of America Securities

Just a clarification on that, you said it grew 7%, I thought you did have a 10% growth expectation out there for AmeriPath, am I just remembering wrong?

Bob Hagemann

I am not sure we ever put 10% growth expectation out there. I think we have generally said the 17% range or so. And actually, in this quarter, even though we reported 7% when you look at the business days impact, it's almost right on top of the last quarter growth for us.

Robert Willoughby - Banc of America Securities

Okay. And just the plans for the cash, I was bit surprised by the share repurchase in the quarter, are we likely to see more of that or really is the de-leveraging here the priority? And any change on your view on when acquisitions again are likely?

Bob Hagemann

Well, as I said to you, when we did the AmeriPath acquisition, we committed to our vendors to improve our credit stats, as part of the penny in the AmeriPath financing. We think that's the prudent thing to do. We want to get back within what I will call the credit parameters that we had previously used. And once we are within those parameters, the first objective is to invest our cash into growth opportunities, as we believe that generates sustainable cash flows.

And then secondly, when they are not available at the right price, we will then divert it into share repurchases. But right now, and for the time being, you should expect that share repurchases are going to be at a much more modest level, until we get the credit stats back inline with where we were.

Robert Willoughby - Banc of America Securities

And I think Surya had said that 18 months was a likely timeframe to be out of the acquisition market is that correct or--?

Bob Hagemann

Well, we are not going to be completely out of the acquisition market, that's important to understand. In fact, we did a small acquisition this quarter, which added to our MedPlus operations, an important one with respect to healthcare IT. But we don't expect to be doing large acquisitions over the next 12 to 18 months or so.

Surya Mohapatra

We still have that calendar, Robert.

Robert Willoughby - Banc of America Securities

Okay. Thank you.

Operator

Our next question comes from Art Henderson from Jefferies & Company. You may ask your question.

Art Henderson - Jefferies & Company

Hi. Good morning. Kind of following up on what Bob was just asking there. Bob, in your guidance, do you have share buybacks in those numbers and sort of anticipated debt repayment levels?

Bob Hagemann

We do, and again, I have not provided specific guidance for either share repurchases or debt repayment. The cash that we generate over the course of the year will principally go into debt repayment, but it will be potentially in modest share repurchases. But we've historically not given specific guidance on share repurchases.

Art Henderson - Jeffeies & Company

Okay, that’s fair. And then --

Bob Hagemann

Cash to work.

Art Henderson - Jefferies & Company

Yeah. Understood. Okay, thanks. And then one other question, looking ahead, obviously this last year was a big contract renewal year. How much contract renewal activity do you have next year?

Bob Hagemann

Well, certainly not nearly as much as this year. Almost 60% of our managed care patients which was contracted coming into the year has been renewed and with the majority of that under multiyear agreements and in some of those extending until 2010. So 2008, is certainly not going to be the sort of year that we had here, but keep in mind that we have probably as much as a third or so of our managed care business, that is, either one-year agreements, or actually not contracted. So we are dealing with that on a regular basis all the time.

Art Henderson - Jefferies & Company

Okay. And then one last question, it appeared, I guess, from the commentary you made earlier that you really haven’t yet started tapping into $500 million of opportunity that’s out there from a cost-savings standpoint. Is that a fair assessment, is it something that we are going to see more, later on down the road, or where do you stand on that?

Bob Hagemann

We certainly had started tapping into it. We've started to deploy some of those actions and, in fact, that's what's gotten us to where we are at in terms of the operating margin improvement that you see in this quarter. But the vast majority in that is still to come, and we will see a significant piece of it in '08 and another significant chunk in '09. And as we said, we expect that $500 million to be the run rate savings that we generate actually into '09.

Art Henderson - Jefferies & Company

Okay. One last question I'll jump back in the queue. On AmeriPath, I know you guys have talked about operating that business at least for the short-term, somewhat separately from the main core business. At what point do you start thinking about bringing it in more formally?

Surya Mohapatra

First of all, that is actually a main business for us. I think when we say that we are going to use it separately, we wanted to make sure that the service quality and the client services and the brand image and all those things remain intact. But they are integrated in the company as far as finance, legal and compliance, and we are aligning the two sales organizations to accelerate growth. But also AmeriPath has facilities and we are integrating this facility with Nichols Institute. So, they are an integral part of the company, but we are going to focus more on hospital and esoteric and cancer diagnostics. That’s the reason why we want to run a little bit differently from what we've done in the clinical business.

Art Henderson - Jefferies & Company

Okay, great. Great work. Nice quarter.

Surya Mohapatra

Thank you.

Operator

Our next question comes from Kemp Dolliver from Cowen & Company. Your line is open.

Kemp Dolliver - Cowen & Company

Hi, thanks, and good morning. With AmeriPath, over what timeframe do you think you will be in the position to start driving the accelerated sales growth that you are looking for?

Bob Hagemann

We have just started integrating the organization and the first one we are doing is at the facility in Nichols Institute. And we will, probably in the next couple of quarters, will see more and more of that integration to strengthen our product offering. So this is not actually a synergy story, but this is actually how do you really grow. How do you keep our 400 pathologists from AmeriPath, and another 400 pathologists from Quest Diagnostics, busy and engaged with the patients?

Kemp Dolliver - Cowen & Company

Great. Thank you

Operator

Our next question comes from Andreas Dirnagl from JP Morgan. Your line is open.

Andreas Dirnagl - JP Morgan

Yeah. Good morning. Most of my questions have been answered, but Surya, I was wondering, maybe just a little bit more color on India. I guess you are about six months away from completing construction. I just wanted to see what you are expectations were there. And then also, maybe just some thoughts about what appears to be kind of a "do it alone" strategy, as opposed to be maybe joint venturing or even buying a local operator?

Surya Mohapatra

Okay. Good question, Andreas. First of all, I've always said there are 300 million middle class in India and frankly, there is so much discretionary expenses that they can provide for healthcare services. But the issue in India is who can bring high quality test technology which is not available and create a diagnostic service which people can trust. And that's the reason why we have decided to do it alone rather than buying any local businesses, because our business model is going to be different from other business models.

Apart from just doing the routine testing, we'll be doing esoteric testing. We will have a test menu for clinical trials, so this is going to be a full-fledge laboratory to provide services to different segments of customers.

Now as far as acquisition and JV, as we establish ourselves and create the value system, then we will see what is available. But we want to establish a completely new diagnostic testing service which will bring trust, transparency and technology to the Indian healthcare system.

Andreas Dirnagl - JP Morgan

Great. And just to confirm, it will be about six months until you are up and running there.

Surya Mohapatra

That’s our target.

Andreas Dirnagl - JP Morgan

Okay. Great. Thank you very much.

Surya Mohapatra

Thank you.

Operator

Our next question comes from Ricky Goldwasser with UBS. Your line is open.

Ricky Goldwasser - UBS

Thank you. Good morning. Just a couple of follow-up questions. First of all, on the AmeriPath bad debt, I think you said that the synergy opportunity is unchanged. Can you just quantify for us are you looking to get the AmeriPath bad debt levels down to Quest standalone levels, or what number are you looking for?

And then secondly, follow up on the managed care contracts, and as you said that 60% of managed care business is renewed in the third of demand care business, is that in annual renewals or is non-contracted. And while I anticipate your answer that you don’t talk about specific contracts, without getting into details, just for us to understand, is the managed in the outstanding bucket in the third or should we factor it in the 60% of increasing renewals?

Bob Hagemann

Okay. Let me start with AmeriPath and the opportunity that we have identified there is to reduce their bad debt. Although, we don’t expect that we will be able to get it to the level of Quest Diagnostics, simply because of their business mix, the fact that they do a lot of in-patient hospital work, and there is some indigent work in there. So, it will always be somewhat higher than we have, as a result of that. But on the rest of the business, there is no reason that we can't get it down to the levels of Quest Diagnostics. And as we bring our processes there and as we deploy the new systems that they are rolling out, we see opportunity to get at that. We haven't given specific guidance on what that bad debt number would be, because we haven't given any specific guidance on cost synergies there. But just remember, cost synergies were not the principal driver behind this acquisition. It's the opportunity to accelerate growth over the long-term.

Ricky Goldwasser - UBS

Now Bob, just as a follow up on the bad debt, have you seen any negative impact from the bad debt side that is related to United?

Bob Hagemann

We saw in the first quarter. We saw some. And we have quantified that for you. But since then, I would say that United has not had a significant impact on our bad debt. They have been reimbursing us pretty timely and appropriately for the work that we have been performing. And with respect to managed care contracts in Humana, Ricky, you have guessed right. Your intuition is very good. We don't comment on specific contracts, but we expect that we will continue to be a contracted provider to Humana, but that is still being worked out.

Ricky Goldwasser - UBS

Okay. Thank you.

Operator

Our next question comes from Tom Gallucci. Your line is open from Merrill Lynch.

Tom Gallucci - Merrill Lynch

Thank you. Good morning, everybody. Just a couple of follow ups as well. Bob, you were talking before about seeing new organic revenue growth similar or better than the industry. Where would you pick industry revenue growth out of at this point?

Bob Hagemann

Pull it around 5% or so, overall.

Tom Gallucci - Merrill Lynch

Okay. And then also on use of cash, you said you wanted to sort of get back to the credit parameters that you used to talked about. Can you just maybe make sure that we are clear on sort of what your goal is there, in terms of the specific parameter?

Bob Hagemann

What I would tell you is generally, we really don’t want to amount debt to EBITDA to be much over two in a quarter times for an extended period. And that's what we are targeting to get back. Certainly, if I look at it from a balance sheet perspective, when I look at debt to total capital, we'll be back there sooner, the upper end to that range was around 50% and move back within that sooner, but the debt to EBITDA numbers could take us a little longer to get back to.

Tom Gallucci - Merrill Lynch

Okay. And then you also talked about the cost cutting in, sort of voluntary attrition. What areas really, I guess when you think about efficiency and reducing the work force, what areas have the bulk of the cuts been made or do you anticipate making just so we can get a better understanding of really what's changing internally at Quest?

Bob Hagemann

That will certainly hit the majority of the costs that have come out from our laboratories and the infrastructure that supports those labs, the logistics, et cetera. We've really not done anything in terms of reducing PSCs and in fact we've added PSCs over the course of the year to expand our access there. And as time goes by what we will continue to do is streamline the way we operate the existing labs and the patient service centers.

We've mentioned Lean in the past. We are deploying Lean principles in a number of our laboratories, which help us to make better use of our existing capacity, and I think I previously mentioned that we don't expect to have significant facility closures as a result of this. We believe that the redesign that we are doing will allow us to make better use of our existing capacity.

Then on top of that there are areas like purchasing, billing, logistics are the administrative activities that we've looked at, and we're taking action there as well.

Surya Mohapatra

Let me make in the comment on, as I said, we started the year with a lot of uncertainty, with the health plan but more on [centers new laws], can we really take costs out, can we grow, and the cost reductions related to the United volume has gone very well, and we are back to the margin as we had with the contract. But also, I wanted to really emphasize although people are talking about cost cutting, the $500 million is actually the deliberate process to take work out and redesign our laboratories, so that amount is gone for good. So that includes the use of Six Sigma, Lean Six Sigma and technology and it is going to take a couple of years. But once we've done that, we will have a different type of operational organization than what we had before. But in any case we are not going to do anything that's going to change our risk level and our value proposition for patients and the physicians.

Tom Gallucci - Merrill Lynch

Okay, thank you. And then I had just one another one, I know again not talking a lot about the specific contracts, but I think you did expand your relationship in Ohio with Medical Mutual. I was just trying to gauge, how should we think about that? What that can contribute to growth sort of in the coming quarters or year?

Surya Mahapatra

Well, certainly it is an important relationship, but I would tell you that it's not going to be significant, in that, you'll see a material change in our numbers as a result of it. It's important to get access there, but it's a relatively small opportunity, relative to some of the others.

Tom Gallucci - Merrill Lynch

Even relative to some of the incremental and the business, which you already had the lion's share, but that did seem to make a difference on volume?

Surya Mahapatra

Yeah, I would say so.

Tom Gallucci - Merrill Lynch

Okay, thank you.

Operator

Before we go to our next question (Operator Instructions). Our next question comes from Bill Bonello from Wachovia Securities.

Bill Bonello - Wachovia Securities

Just a follow-up. Can you tell us whether HemoCue and Focus are contributing positively to earnings at this point?

Bob Hagemann

It is very modest Bill. It's neither accretive nor dilutive at this point. I think with both HemoCue and Focus we expect that overtime we'll see increased contributions there, but they are really not big enough to have a significant impact either way right now.

Bill Bonello - Wachovia Securities

Okay, and do you anticipate that at some point in time that they could have a significant contribution?

Bob Hagemann

We certainly expect that we'll see accelerated growth on the HemoCue side. Point of care, we believe is going to be a big growth opportunity for us, and that carries higher margins in the rest of the business, so I expect that it will be accretive and certainly Focus has products as well, which is going to drive growth. But in terms of significant, I don't necessarily see those two businesses as driving significant accretion. But over time, I think you'll see that in our point of care business, as it continues to grow and as we look at other opportunities there beyond, Focus and HemoCue could contribute significant growth to earnings.

Surya Mahapatra

Right and when we bought HemoCue, we said that we are creating the platform HemoCue, Enterix and Focus Diagnostics to create and make available products which will be used in the doctor's office, in the hospital and at the patient bedside, and that remains as a platform. And as we move forward, we will add some other products to that particular platform, which will be a significant platform for us in coming years.

Bill Bonello - Wachovia Securities

Okay. That's helpful. Thank you.

Surya Mohapatra

Thank you.

Operator

(Operator Instructions). Please hold a moment for any further questions. At this time, we have no further questions.

Thank you for participating in the Quest Diagnostics third quarter conference call. A transcript of prepared remarks on this call will be posted later today on Quest Diagnostics' website at www.questdiagnostics.com. The replay of the call will be available for investors from 10:30 am on October 24th through 11:00 pm on November 21st of 2007, to all investors in the US by dialing 866-380-6722.

Investors outside of the US may dial 203-369-0343. No passcode is required for either number. In addition, registered analysts and investors may access an online replay of the call at www.streetevents.com. The call will also be available to media and individual investors at the Quest Diagnostics' Website. The online replay will be available 24 hours a day beginning at noon. Goodbye and thank you for joining.

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