CHE

Business Context and Reporting Period

Company: Chemed Corporation (CHEMED)
Filing Type: Form 10-Q (Unaudited)
Period Ended: March 31, 2008
Business Overview: Chemed operates through two primary subsidiaries: VITAS Healthcare (hospice care) and Roto-Rooter Group (plumbing and drain cleaning services). The company is a large accelerated filer incorporated in Delaware.

Key Financial Metrics

Material Changes vs. Prior Period

• Revenue Growth: Consolidated revenue increased 5.5% year-over-year. VITAS revenue grew 8% driven by a 3.4% increase in Average Daily Census (ADC) and a 3% Medicare reimbursement rate increase. Roto-Rooter revenue was flat, with a 7% decrease in job count offset by a 7.8% price/mix increase.
• Margin Compression: Consolidated gross margin declined from 30.4% to 27.9%. VITAS margins dropped from 22.8% to 20.0% due to increased admissions expenses ($2.1 million) and higher direct patient care labor costs (4.2% salary increase vs. 3.0% reimbursement increase). Roto-Rooter margins declined slightly due to a litigation settlement charge.
• Expense Reduction: Selling, General, and Administrative (SG&A) expenses decreased 11% to $42.8 million, primarily due to the absence of a $5.4 million Long-Term Incentive Plan (LTIP) stock grant expense recorded in Q1 2007.
• Interest Expense: Interest expense dropped significantly from $3.7 million to $1.6 million following debt refinancing in 2007.
• Balance Sheet: Accounts receivable decreased $14.2 million due to timing of government payments, though unbilled revenue related to Focused Medical Reviews (FMR) increased by approximately $3 million. Notes receivable from Patient Care were fully collected.

Guidance, Outlook, and Risks

• Outlook: Management anticipates VITAS margins returning to historical levels in the second half of 2008 as the impact of increased admissions staffing stabilizes.
• Liquidity: The company maintains approximately $147.5 million in unused credit lines. Management believes liquidity is satisfactory for foreseeable needs.
• Regulatory Risks:
  • OIG Investigation: The Office of Inspector General continues to investigate VITAS regarding alleged improper Medicare/Medicaid billing. The outcome and financial impact remain unpredictable.
  • Medicare Caps: VITAS monitors programs for potential Medicare cap exceedances. As of the filing date, no programs were projected to require billing reductions for the 2007 or 2008 measurement periods.
• Legal Contingencies:
  • VITAS Class Action: A lawsuit regarding overtime and meal/rest periods for California employees is in early stages; liability is currently unestimable.
  • Roto-Rooter Class Action: A tentative settlement of approximately $1.8 million regarding wage and hour violations was agreed to in January 2008 and accrued in 2007 financials.
• Capital Allocation: The company repurchased 300,000 shares of treasury stock in Q1 2008 at a weighted average price of $49.19. Approximately $50.2 million remains available under the $150 million repurchase program.

Investor Verification Checklist

• Margin Recovery: Verify if VITAS gross margins improve in subsequent quarters as management projects, given the lag between increased staffing costs and revenue realization.
• Unbilled Revenue: Monitor the $10.6 million in unbilled revenue at VITAS related to Focused Medical Reviews (FMR) and the potential for future write-offs or delays in cash collection.
• Regulatory Exposure: Track developments in the OIG investigation and the California class action lawsuits for potential material financial impact.
• Debt Structure: Review the terms of the $200 million convertible notes and the impact of stock price fluctuations on potential dilution (conversion price $80.73).
• Reimbursement Rates: Assess the sensitivity of VITAS profitability to future CMS reimbursement rate adjustments versus actual labor inflation.