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Rural/Metro Corporation (NASDAQ:RURL)

Q4 2008 Earnings Call

September 15, 2008 11:00 am ET

Executives

Liz Merritt - IR

Jack Brucker - President & CEO

Kristy Ponczak – Sr. VP & CFO

Analysts

Sal Kamalodine - B. Riley Investments

Robert Wetenhall - Royal Bank of Canada

Kyle Smith - Jefferies & Company

[Jason Almiro] – ING Investment Management

Unidentified Analyst

Operator

Good day everyone and welcome to the Rural/Metro fourth quarter and fiscal year 2008 year end financial results conference call. At this time for opening remarks and introductions, I would like to turn the call over to Ms. Liz Merritt; please go ahead.

Liz Merritt

Prior to the opening of the market today, Rural/Metro reported results for its fiscal 2008 fourth quarter and full year ended June 30, 2008. If you have not our news release, it is available on our website at www.ruralmetro.com.

This call is being webcast and can be accessed at the Rural/Metro website where an archived replay will be available for the next 90 days. We have also arranged for a recorded replay of today’s call, which will take effect approximately two hours after the conclusion and remain in effect through midnight Eastern on Tuesday, September 16, 2008. Instructions to access the replay are contained in today's news release.

Please note that today's call is copyright material of Rural/Metro and cannot be used without the company's express written consent.

As a reminder during the course of this call, management may make projections or forward-looking statements regarding the company's beliefs about its business prospects and disclosure about what management believes is affecting it the company’s financial performance. These statements may involve risks and uncertainties that could cause actual results to differ materially from those described in such statements.

Although the company believes the expectations reflected in such forward-looking statements are reasonable, they can give no assurance that such expectations will prove to be correct. Important factors that could cause actual results to differ materially from those expected are included in the company’s Annual Report on Form 10-K for the period ended June 30, 2008 as well as the company’s press release and other filings with the Securities and Exchange Commissions.

I will now turn the call over to Jack Brucker, President and Chief Executive Officer.

Jack Brucker

Good morning everyone. Thank you for joining us this morning for our fourth quarter and fiscal 2008 investor conference call. With me are Kristy Ponczak, Senior Vice President and Chief Financial Officer and Liz Merritt, Managing Director of Investor Relations and Corporate Communications.

We are very pleased for fiscal 2008 with revenue up 8%, EBITDA up 28%, net income of $4.1 million and earnings per diluted share of $0.16, average patient charge and day sales outstanding continued positive trends while we finished the year with free cash flow of $21.5 million.

Throughout fiscal 2008 we continued to win new contracts, retain current key business and reduce write-offs related to uncompensated care. This progress has enabled us to successfully execute our strategic goals to improve operational performance, invest in the technology necessary to remain an industry leader and reduce long-term debt.

All of these activities support our mission to enhance stockholder value by providing the highest quality patient care and fire protection services.

We will begin our discussion today with a brief overview of operating results for the fiscal year and fourth quarter ended June 30, 2008.

We were pleased to continue to deliver steady growth in consolidated revenue, both on an annual and quarterly basis. Fiscal 2008 net revenue was $487.5 million representing an increase of 8% when compared to fiscal 2007 net revenue of $451.3 million.

Fourth quarter net revenue was $125.9 million or an increase of 10% when compared to net revenue of $114.3 million in the same prior year period.

Payroll and employee benefits represented 61.8% and 60.4% of consolidated net revenue for the full fiscal year and fourth quarter respectively. These percentages have improved from 62.4% and 61.4% for the same periods in fiscal 2007.

Operating expenses represented 24.3% and 24.1% of net revenue for fiscal year ended June 30, 2008 and 2007 respectively.

The percentage increase was driven primarily by fuel prices. In fiscal 2008 fuel expenses represented 2.9% of net revenue or $14.3 million compared to 2.4% or $10.9 million in fiscal 2007.

While fuel as a percentage of net revenue is relatively low we continue to research and implement ways that we can save in this area. One way to limit the impact is by requesting rate increases to help offset the added cost of fuel which we have successfully implemented in certain markets.

Additionally we are continuing to negotiate national fuel discount programs which save cents per gallon and when applied across our business would help mitigate rising fuel costs.

EBITDA for the full year and fourth quarter showed ongoing improvement. EBITDA from continuing operations for fiscal 2008 increased to $53.7 million compared to $41.8 million in fiscal 2007. The fourth quarter EBITDA from continuing operations increased to $14.7 million when compared to $8.4 million for the same prior year period.

These improvements were driven primarily by our efforts throughout the year to reduce write-offs related to uncompensated care. On a related note, we generated an $18.00 per transport increase in APC in the fourth quarter when compared to the third quarter of fiscal 2008.

This increase was due primarily to our extensive collection efforts. While these collection efforts are continuous we experienced an upsurge in receipts on accounts older than 180 days during the fourth quarter. While we expect APC to return to a more normal range in the mid to high 350s in the first fiscal quarter ended September 30, 2008 we believe this trend signifies our collection strategies continue to pay off.

When we look at cash flow and specifically cash from operations after capital expenditures momentum continued throughout the year with free cash flow of $21.5 million in fiscal 2008 compared to $16.4 million in fiscal 2007.

Turning now to contract activities during the fourth quarter and in recent weeks, we are very pleased to secure key 911 contract renewals in Knox County, Tennessee, Tacoma, Washington, and Orlando, Florida.

In Knox County, Rural/Metro has provided emergency ambulance and subscription fire protection services for more than 25 years. A contract renewal we announced last month was for our exclusive agreement as the County’s 911 ambulance service. This early renewal signaled the County’s desire to retain Rural/Metro as their long-term provider of choice and reinforces our competitive strength in today’s marketplace.

Knox County is one of our largest operations in the south region generating approximately $14.5 million in net revenue annually from the 911 ambulance contract.

We were very gratified by the County Commissioner’s 19-0 unanimous vote and believe their actions say a lot about the quality of our services and our long-standing commitment to the community.

In Tacoma, Washington, our contract as exclusive 911 ambulance service was unanimously extended by the City Counsel last week. We have been the exclusive provider to the City of Tacoma for the past four years and are pleased to continue providing exceptional service to the community in the future.

The 911 contract in Tacoma represents annual net revenue of approximately $4 million which does not include the significant non-emergency ambulance services we provide for area hospitals and other healthcare facilities.

In the City of Orlando, we recently entered a one-year extension as the city’s exclusive 911 provider. Rural/Metro has served the City of Orlando as its 911 provider since 1985 and maintains a significant presence as central Florida’s largest non-emergency ambulance provider.

We are very proud to continue to serve the City of Orlando as we have for the past 23 years.

Moving on to uncompensated care, as many of you are aware we entered fiscal 2008 with a momentum of a multi-faceted program designed to reduce write-offs related to uncompensated care. In March, 2007 we began to deploy a series of internal billing and collection initiatives that we believe would enhance collection results by reducing denials from Medicare, Medicaid and commercial insurance providers.

Our efforts in this area have been successful as we have reduced write-offs related to ensured accounts such as Medicare and commercial insurance. This has resulted in an overall positive trend in average patient charge, or APC, which is the key indicator of cash collected per transport.

APC was $367 per transport in the fourth quarter and trended higher throughout the past year when compared to the same periods of fiscal 2007. On an annual comparison APC was $354 per transport in fiscal 2008 compared to $337 per transport in fiscal 2007.

We are very pleased to deliver on our goal to improve APC and remain committed to reducing write-offs related to uncompensated care.

We are also improving upon our technological resources with the ongoing national implementation of our electronic patient care reporting system, or EPCR. Very briefly the EPCR system enables our paramedics and EMTs to create and transmit high quality patient care records quickly and efficiently in a fully paperless environment.

Custom build interfaces allow uploads directly into our billing system, thereby creating electronic invoices that then undergo quality control processes before being submitted to payers. Our goal is to generate high quality patient documentation that supports medical necessity and also expedites reimbursement.

We are encouraged so far by early reports from operations that utilize the system. During the fourth quarter we completed implementation and training in our Western New York market which included hardware installation in approximately 100 ambulances and training for approximately 400 paramedics and emergency medical technicians.

Locations slated for EPCR implementation the balance of this calendar year include Orlando, Florida and Rochester, New York with additional locations scheduled in early 2009.

We are also in the process of capturing and analyzing key system data points so that we can communicate performance benchmarks to investors in the future.

Turning to our next topic our commitment and ability to deliver on our deleveraging goals continue today with a $7 million voluntary principal payment made to further reduce our secured senior Term Loan B.

The balance on this loan following this payment is now $71 million which represents an overall decrease of $64 million from the loan’s original issue of $135 million in March, 2005.

Deleveraging the balance sheet remains a key goal for the company and it is our intention to continue to reduce debt through the application of periodic voluntary principal payments supported by strong and steady cash flow.

We also continue to contemplate the best timing to refinance all or a portion of our debt. At this time we are not prepared to announce a definitive timetable or discuss details of such a transaction however we can assure you that we are in continuous communication with our financial advisors and are prepared to act quickly when we identify a favorable refinancing opportunity.

We would now like to discuss our announcement concerning The Board of Directors’ recent actions regarding the company’s anti takeover provisions and shareholder rights plan.

In accordance with the settlement agreement entered into prior to the annual meeting to stockholders held in March, 2008, the Board has reviewed the anti takeover provisions and concluded that certain of these provisions should be reduced or eliminated.

The Board further directed the company to present such proposals at its next Annual Meeting of stockholders.

In light of these proposals and the company’s ongoing analysis of change in ownership rules under Section 382 of the Internal Revenue Service Code, the Board also took protective action to amend the company’s shareholder rights plan and preserve its net operating loss assets or NOLs.

The Board reduced the threshold at which the plan is triggered from 15% to 4.99%. Current stockholders at 5% or more of the company’s shares were grandfathered in under the amendment and as such their current holdings do not trigger the plan.

Additionally the threshold percentage is subject to review at regular periodic intervals. We are pleased by the Board’s recommendation to reduce or eliminate certain of our anti takeover measures including some super majority voting provisions. At the same time we must be diligent in protecting the company’s NOLs and other tax benefits which at the close of fiscal 2008 were valued at approximately $76 million.

The Board also recognizes it may be in the interest of company stockholders to grant exceptions to the amendment and they will give thoughtful consideration to such requests on a case-by-case basis.

In closing we have provided guidance for the fiscal year ending June 30, 2009 of $54 million to $58 million in EBITDA and $15 million to $18 million in capital expenditures. The underlying assumptions driving our guidance include the addition of one to three significant new 911 or non-emergency contracts in fiscal 2009, continuing expansion in current markets and further increases in APC as a result of the application of EPCR technology, coupled with ongoing improvements in overall collections.

As far as operating are expenses are concerned we will continue to explore programs to reduce fuel costs, however we do expect moderate pressure on fuel prices to continue in fiscal 2009. We expect this to be partially offset by a reduction in professional fees as well as the benefit of additional cost containment efforts.

Guidance for capital expenditures includes ongoing investments during fiscal 2009 in EPCR technology, as we continue the national phase-in of our key 911 markets.

We closed fiscal 2008 with 99 exclusive contracts for 911 services nationwide and a 97% contract retention rate in addition to nearly 650 agreements with hospital systems and other healthcare facilities for non-emergency ambulance services.

We believe we are well positioned to build on our success and look forward to focusing on the business strategies and tactics that will enable us to achieve our goals in fiscal 2009.

This concludes our review of fourth quarter and full year financial results and other business matters. At this time we are now ready to take your questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Sal Kamalodine - B. Riley Investments

Sal Kamalodine - B. Riley Investments

Let’s start with the known cash adjustments to the quarter if there were any, just looking at the cash flow statement it looks like there was $1.8 million in reversals to the claim reserves, is that correct?

Kristy Ponczak

Yes, in total when you look at the statement of cash flow, we did have—for the fiscal year we did have a net $1.5 million pickup in overall insurance adjustments between Workers’ Compensation and the Auto and General Liability program. And the non-cash component of that was $6.3 million as can be seen on the cash flow statement.

Sal Kamalodine - B. Riley Investments

And the $1.8 million reversal to operating expenses went through the other operating line?

Kristy Ponczak

A component ran through the—there was actually some comparative year-over-year from a Workers’ Compensation perspective, there was about $900,000 of additional expense. Last year in Workers’ Compensation we had a positive actuarial adjustment of $5.8 million. This year it was $4.9 million so a difference of about $900,000 and then from a general auto liability program perspective there was a net pickup of $2.4 million which was a negative actuarial adjustment last year of $1.1 million and a current year positive of $1.3 million.

Sal Kamalodine - B. Riley Investments

With respect to the spike in APCs for the quarter, if you could just explain how the accounting works for that? It looks like there was a benefit to net revenue as you collected on these old receivables, if you could talk about how that ran through the P&L and if you could clarify if these were previously written off receivables?

Kristy Ponczak

If we speak about the $18 year-over-year net increase in APC, to break that down, approximately $3 of that was related to rate increases with the balance broken up between improvements in billing and also just some service level nicks which can always impact the APC. But from a P&L perspective with the improved collections we saw a surge in collections on the receivables over 180 days so the receivables we collected had not been written off so the way it impacts the P&L is that as we go through and evaluate our provisioning we have described historically that we look at our provisioning over a sort of a 12 month period and estimate what our provisioning should be for the current period.

So as we are seeing improved collections on older receivables we are able to reduce our provisioning as we go forward and that hits both on contractual and on compensated care line items so that’s how net revenue increases as a result of collections of older receivables.

Sal Kamalodine - B. Riley Investments

So in Q4 what was the amount of the upsurge as you called it in the press release, what was that specific amount that benefited revenues in Q4? Just that little portion.

Kristy Ponczak

I don’t have actual dollars collected in fourth quarter in front of me in terms of what was over 180 but in terms of in fourth quarter we did see an increase of $32 in our APC which if we just look at, you can assume that the majority of that was as a result of reduction in provisioning so up somewhere just shy of a high $20 was related to increase in billing.

Sal Kamalodine - B. Riley Investments

And what were your uncompensated care expenses as a percentage of gross revenue in Q4?

Kristy Ponczak

Q3 was 14.9% and Q4 it came down to 13.2% so for the year it’s ending up at 14.4% on an annual basis.

Operator

Your next question comes from the line of Robert Wetenhall - Royal Bank of Canada

Robert Wetenhall - Royal Bank of Canada

Your DSO has declined significantly and is now at 60 days; do you think that’s maintainable going forward?

Kristy Ponczak

Yes, we have seen our DSO come down in the last 12 months from 65 days to 60 days. We absolutely believe that’s sustainable. That isn’t reflective yet of all of the initiatives around our EPCR program. So I think we have expectations that that will continue to trend positively.

Robert Wetenhall - Royal Bank of Canada

That should release a significant amount of cash. Also baked in your 2009 guidance what APC are you using for the year?

Kristy Ponczak

Well we’re trying to guide you when we’re saying that Q1 is coming up to the high 350 range so I think in terms of if—as I mentioned earlier, if current year about $4 is related to rate increases alone, I think in terms of our expectation we’re somewhere in that range in terms of in our assumptions of the high 350 range.

Robert Wetenhall - Royal Bank of Canada

In 2007 335, 354 for the current fiscal year ended and kind of somewhere between 355 and 360 for 2009? With your DSO somewhere between 55 and 60 days, correct?

Kristy Ponczak

That’s right. That’s a reasonable assumption yes.

Robert Wetenhall - Royal Bank of Canada

Also you mentioned efforts to capture additional performance benchmarks, is this related to the EPCR rollout?

Kristy Ponczak

As we rollout the EPCR program we do have 11 primary financial and operational metrics that we are monitoring on a monthly basis. Those include everything from monitoring DSO collection rate, days to bill, percentage of denials and service level mix to from the billing office, time on [tap], compliance, etc. so we do have some significant metrics that we’re monitoring internally and hope to be out there in the market, our plan is to be out there in the market at Q2 and be able to talk to the market a little bit about what we’re seeing in those.

If history runs true for us, as you recall we did a beta run of this program, a significant beta test for us in Youngstown and as a result of that, we saw some significant reductions in denial during that testing, we saw about a 20% reduction in denials related to Medicare. So we’ll have to see how that holds true across all of the markets.

Operator

Your next question comes from the line of Kyle Smith - Jefferies & Company

Kyle Smith - Jefferies & Company

Regarding the guidance, it looks like $53.7 million of EBITDA in fiscal 2008, $54 to $58 million guidance would imply zero percent to 8% growth, give or take, but I’m wondering how we should be thinking about that in light of some of the non-cash actuarial adjustments in insurance reversals. If we strip out the $6.3 million from current EBITDA from continuing, that gives $47 million of adjusted EBITDA and that would imply pretty hefty growth up in the double-digits. Are you baking in some further positive adjustments next year or is that $54 to $58 clean and how should we be thinking about that?

Kristy Ponczak

As we’re looking at our guidance we do expect to continue to see positive insurance actuarial adjustments albeit as we have communicated historically we would expect those to get smaller as we move forward and as we are able to negotiate with our insurance carriers to record more what we believe to be an actual run rate versus what they do because as we have spoken, that’s what results in some of these actuarial adjustments after the fact. So we do expect to see continued positive actuarial adjustments but I think in terms of guidance we have certain factors in there that we’re looking at. As you all saw in July, there were some assumptions, Medicare and Medicaid; there is a 2% and 3% temporary rate increase in there. We have factored that into our consideration and certainly transport and APC growth is in there as well as management of professional fees throughout the year.

Kyle Smith - Jefferies & Company

So would $4 to $6 million be a reasonable ballpark for the actuarial adjustments for next year or you just don’t know?

Kristy Ponczak

I just don’t know. It’s just—we never know, as you know we do have those adjustments in December and June of each year but it’s very hard for us to predict certainly at this time.

Operator

Your next question comes from the line of [Jason Almiro] – ING Investment Management

[Jason Almiro] – ING Investment Management

I was wondering if you could walk us through your capital structure, I know you mentioned where your Term Loan B balance stands at, but also if you could walk us through what the senior subordinated debt balance and the whole [co] notes and where they stand and the revolver and if there’s any lines, letters of credit outstanding?

Kristy Ponczak

We have—yes, we—as of today we have $71 million outstanding under our Term Loan B debt. We have $125 million on our senior subordinated debt and we have $76 million on our senior discount debt. We do have a $20 million revolver that is undrawn. And we also have a $45 million letter of credit facility of which at June 30, we had about $43 million outstanding under that facility.

Operator

Your next question comes from the line of Unidentified Analyst

Unidentified Analyst

Since you mentioned where your Term Loan B is as of today, what is your cash position as of today?

Jack Brucker

Cash position as of today, its $24.688 million. That’s before the $7 million—this was as of Friday so we’re going to make a $7 million principal payment. We also have a semiannual interest payment on the junior secured which is $6.2 million which will be paid today also.

Unidentified Analyst

So after that you should have roughly $11 million on hand?

Jack Brucker

Right, after those two payments actually with collections today, we are projecting about $12.9 million after those two payments. We have a payroll coming up on Friday, of approximately $10 million which we’re gearing up for also.

Unidentified Analyst

So after that you’ll probably have $3 or $4 million assuming collections between now and then?

Jack Brucker

Correct.

Unidentified Analyst

The markets that you’ve had the EPCR, I know that one of them was Youngstown, I believe Buffalo and I believe you had Portland, is that correct?

Kristy Ponczak

We have tablets out in several of our markets. We have tablets in Salem, Cleveland, Buffalo, Youngstown and Aurora. Some of those are not completely paperless at this time because some of those we are working with the local municipalities in terms of interfaces with their CADs and everything. But those are the active markets right now.

Operator

Your final question is a follow-up from the line of Kyle Smith - Jefferies & Company

Kyle Smith - Jefferies & Company

The guidance is based on one to three new contracts for exclusive 911 and non-emergency ambulance, I just want to clarify, is that net new contracts and are those one to three new contracts ones you’ve already discussed or are those future ones that you expect to win?

Jack Brucker

These are to be future. We have not announced. There are several we’re working on but these would be new, new either 911 or significant non-emergency hospital contracts.

Kyle Smith - Jefferies & Company

Could you talk a little bit more on the early rollout of the EPCR program, some of the highlights and lowlights in terms of what’s gone better than expected or worse than expected so we can have a little bit more of a feel for how that’s rolling out.

Jack Brucker

We got a very good reception from the Teamster’s Union in Buffalo, New York. We have approximately 400 paramedics and EMTs that were trained, organized by the Teamster’s Union and we’ve had a very good reception from the Union with the device and the whole program which we also had the SCIU in Youngstown and we had a good reception there but we were looking forward to getting the reaction from the Teamster’s in Buffalo and it was very, very positive.

Kristy Ponczak

The only thing I would add to that because we have experienced very positive from our employees’ perspective and also from the customers’ perspective, I would say in terms of challenges, the thing that we continue to—that we’d expected but continue to work with very closely is as you know there are certain municipalities in which we don’t—where we are dispatched and we don’t manage the CAD and those tend to just take a bit more time as we’re working with the municipalities to interface our product with their CADs but overall we are very pleased with it and are very much looking forward to presenting to the market our results from that as we roll it out farther.

Operator

There are no additional questions at this time; I would like to turn it back over to management for any additional or closing comments.

Jack Brucker

Thank you to everyone for calling in this morning and joining us today and for your continued interest and investment in Rural/Metro Corporation. Thank you all very much.

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