Business Context and Reporting Period
Company: Chemed Corporation
Filing Type: Form 10-Q (Unaudited)
Period Ended: September 30, 2006
Business Overview: Chemed operates through two primary segments: VITAS Healthcare (hospice care) and Roto-Rooter (plumbing and drain cleaning). The company serves over 90% of the U.S. population through its Roto-Rooter network and provides end-of-life care through VITAS.
Key Financial Metrics
| Metric (in thousands) | Q3 2006 | Q3 2005 | 9M 2006 | 9M 2005 |
|---|---|---|---|---|
| Service Revenues & Sales | $253,202 | $233,328 | $749,223 | $678,274 |
| Income from Operations | $18,539 | $24,472 | $67,541 | $69,188 |
| Net Income | $7,961 | $14,632 | $33,018 | $31,633 |
| Diluted EPS (Net Income) | $0.30 | $0.55 | $1.23 | $1.21 |
| Cash & Equivalents (End of Period) | $5,414 | $37,575 | $5,414 | $37,575 |
| Long-Term Debt | $165,796 | $234,058 | $165,796 | $234,058 |
| Operating Cash Flow (9M) | $40,653 | $44,037 | $40,653 | $44,037 |
Margins (9M 2006 vs 9M 2005):
- Consolidated Gross Margin: 27.1% (down from 29.3%)
- VITAS Gross Margin: 18.8% (down from 21.4%)
- Roto-Rooter Gross Margin: 45.4% (down from 46.1%)
Material Changes vs. Prior Period
- Revenue Growth: Consolidated revenue increased 8.5% in Q3 and 10.5% for the nine months ended Sept 30, 2006. VITAS revenue grew 9% (Q3) and 12% (9M), driven by a 10% increase in Average Daily Census (ADC). Roto-Rooter revenue grew 8% (Q3) and 7% (9M), driven by price increases and a favorable shift to commercial jobs.
- Profitability Decline: Net income for Q3 dropped 45.6% year-over-year due to significant charges. For the nine-month period, net income increased 4.4% despite margin compression.
- Medicare Cap Impact: VITAS recorded a $5.5 million revenue reduction in Q3 and $7.8 million for the nine months due to Medicare billing caps, primarily affecting the Phoenix program.
- Debt Reduction: Long-term debt decreased by approximately $68.3 million from year-end 2005 to Sept 30, 2006, following the full repayment of an $84.4 million term loan in March 2006.
- Cash Position: Cash and cash equivalents declined by $51.7 million to $5.4 million, driven by debt repayment, funding of the Costa litigation settlement ($15 million), and treasury stock purchases.
Guidance, Outlook, Risks, and Unusual Items
Unusual Items and Charges
- Phoenix Program Exit: Chemed announced an intention to exit the Phoenix, Arizona hospice market by December 31, 2006. A $2.4 million impairment charge was recorded for long-lived assets in Q3 2006.
- Investment Impairment: A $1.4 million loss was recorded on the impairment of a warrant related to the Patient Care divestiture settlement.
- Discontinued Operations: A $2.2 million after-tax charge related to the Patient Care settlement and environmental costs was recorded in discontinued operations.
Risks and Contingencies
- OIG Investigation: The Office of Inspector General is investigating VITAS regarding alleged improper Medicare/Medicaid billing. A qui tam complaint has been filed; the outcome is unpredictable, and defense costs are being incurred.
- Class Action Litigation:
- Costa Case: A wage and hour class action in California was settled for approximately $17.4 million (pretax), with $15 million funded in May 2006.
- Santos Case: A new, similar class action was filed in September 2006; liability is currently unestimable.
- Harris Case: A class action regarding unlicensed plumbers was settled in July 2006 (accrued in 2004).
- Medicare Cap Risk: Continued risk of revenue reductions if hospice programs exceed per-beneficiary Medicare caps.
Management Commentary
Management noted that VITAS margins were pressured by the Medicare Cap and excess labor capacity built in anticipation of Q4 admissions. Roto-Rooter margins were slightly impacted by a one-time insurance benefit in the prior year. The company adopted SFAS 123(R) for stock-based compensation effective Jan 1, 2006, with no material impact on financial position.
Investor Verification Checklist
- Medicare Cap Exposure: Verify the status of the three programs currently subject to Medicare Cap limitations and the potential for future revenue reductions.
- Phoenix Exit Timeline: Confirm the execution of the Phoenix program closure or sale by the stated December 31, 2006 deadline.
- Litigation Reserves: Monitor the status of the new "Santos" class action lawsuit and the ongoing OIG investigation for potential additional accruals.
- Liquidity Position: Assess the impact of the low cash balance ($5.4 million) against upcoming obligations, noting the availability of $126.3 million in unused credit lines.
- Stock Repurchase Program: Track activity under the new $50 million repurchase program announced in July 2006.