CHE

Business Context and Reporting Period

Company: Chemed Corporation (CHEMED)

Filing Type: Form 10-Q (Quarterly Report)

Reporting Period: Three months ended March 31, 2009

Business Overview: Chemed operates through two primary segments: VITAS Healthcare (hospice care services) and Roto-Rooter Group (plumbing and drain cleaning services). The company is a large accelerated filer incorporated in Delaware.

Key Financial Metrics

Margins: Consolidated gross margin was 29.8% in Q1 2009 compared to 27.9% in Q1 2008. VITAS gross margin improved to 23.4% from 20.0%, while Roto-Rooter margin decreased slightly to 45.2% from 45.8%.

Material Changes vs. Prior Period

• Revenue Growth: Consolidated revenue increased 3.4% year-over-year. VITAS revenue grew 5% driven by a 3.5% Medicare reimbursement rate increase, a $1.95 million retroactive adjustment for the Budget Neutrality Adjustment Factor (BNAF), and a mix shift to higher acuity days. Roto-Rooter revenue was essentially flat, with a 6.9% decrease in job count offset by a 7.9% price and mix increase.
• Profitability: Net income increased 21.9% to $19.3 million. Diluted EPS rose to $0.85, aided by increased earnings and a reduced share count from stock repurchases.
• Cash Flow: Net cash provided by operating activities decreased $14.4 million to $25.1 million, primarily due to a $9.3 million increase in accounts receivable. This receivable increase was driven by $4.1 million in unbilled revenue from Focused Medical Reviews (FMR) at VITAS and $4.0 million related to the BNAF adjustment.
• Debt Reduction: Long-term debt decreased by $9.1 million, resulting from an $8.2 million payment on the revolving line of credit and a $2.5 million term loan payment.
• Unusual Items: The company recorded $545,000 in other operating expenses related to a contested proxy solicitation.

Guidance, Outlook, and Risks

Management Guidance

• VITAS: Expects full-year 2009 revenue growth of 5.5% to 7.0% (prior to Medicare cap). Admissions are estimated to increase 1.5% to 3.5%. Full-year Medicare contractual billing limitations are estimated at $4.0 million.
• Roto-Rooter: Expects full-year 2009 revenue growth of 3.0% to 4.0%, driven by 5.0% pricing increases and favorable mix, partially offset by a 7.0% to 9.0% decline in job count.

Risks and Contingencies

• Government Investigation: The Office of Inspector General (OIG) continues to investigate VITAS regarding alleged improper billing of Medicare and Medicaid. The company cannot predict the outcome or financial impact.
• Litigation: VITAS is defending a class action lawsuit in California alleging failure to pay overtime and provide meal/rest periods. Liability cannot be estimated at this stage.
• Medicare Caps: VITAS monitors programs for potential Medicare cap exceedances. For the 2009 measurement period, a liability of $270,000 was recorded for one program.
• Accounting Changes: Adoption of new accounting guidance for convertible debt (FASB Staff Position APB 14-1) resulted in a $54.9 million discount on notes and a $2.3 million decrease in retained earnings as of January 1, 2009.

Investor Verification Checklist

• Verify the status and potential financial impact of the ongoing OIG investigation into VITAS billing practices.
• Monitor the resolution of the California class action lawsuit regarding employee overtime and meal periods.
• Assess the sustainability of VITAS revenue growth given the one-time $1.95 million BNAF adjustment included in Q1 2009 results.
• Review the impact of Focused Medical Reviews (FMR) on unbilled revenue and accounts receivable aging (currently $18.0 million unbilled).
• Confirm compliance with debt covenants, noting the company is currently in compliance with $149.4 million of unused credit available.