CHE

Business Context and Reporting Period

Company: Chemed Corporation
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: September 30, 2002
Business Overview: Chemed operates primarily through two segments: Roto-Rooter (plumbing and drain cleaning services) and Service America (home healthcare services). The reporting period includes the classification of Patient Care, Inc. (a home healthcare subsidiary) as discontinued operations following its sale in October 2002.

Key Financial Metrics

Material Changes vs. Prior Period

• Revenue Decline: Total service revenues decreased 9% in Q3 2002 and 7% for the nine-month period compared to 2001.
  • Roto-Rooter: Revenues declined 8% (Q3) and 6% (9 months) due to decreases in drain cleaning and plumbing services.
  • Service America: Revenues declined 12% (Q3 and 9 months) due to lower contract renewals, lower retail sales, and the prior divestment of the Tucson branch.
• Profitability Improvement: Despite revenue declines, Net Income surged from $92,000 in Q3 2001 to $7,107,000 in Q3 2002. This is largely driven by:
  • Discontinued Operations: Q3 2002 includes $3,929,000 from discontinued operations (Patient Care earnings and a tax refund from a 1997 sale), compared to $604,000 in Q3 2001.
  • Adjusted Earnings: Excluding goodwill amortization and one-time charges (wage settlements, branch closures), adjusted income from continuing operations increased from $461,000 (Q3 2001) to $3,178,000 (Q3 2002).
• Debt Reduction: Long-term debt decreased by approximately $10.3 million year-over-year due to refinancing at lower interest rates and debt repayments. Interest expense dropped from $1,373,000 (Q3 2001) to $709,000 (Q3 2002).
• EBITDA Decline: Adjusted EBITDA declined 12% for the nine-month period to $29,165,000, primarily due to lower operating profits in both segments and higher labor costs as a percentage of revenue.

Outlook, Risks, and Unusual Items

• Discontinued Operations Sale: On October 11, 2002, Chemed sold Patient Care, Inc. for $57.5 million in cash (plus a $12.5 million note and warrants). Proceeds are designated for acquisitions and corporate purposes. A small gain on this sale is expected in Q4 2002.
• Unusual Items in 2001: 2001 results were impacted by a $3,000,000 wage settlement with the Department of Labor (Roto-Rooter) and a $1,031,000 impairment loss for closing the Service America Tucson branch. These are excluded from adjusted 2001 comparisons.
• Accounting Changes: The company adopted SFAS No. 142 (Goodwill) effective Jan 1, 2002, eliminating goodwill amortization. No goodwill impairment was found in the transition evaluation.
• Liquidity: Management considers liquidity satisfactory with $15.6 million in cash and $29.2 million in available lines of credit. The recent sale of Patient Care adds significant liquidity.
• Risks:
  • Legal: A class action lawsuit regarding unlicensed employees in Roto-Rooter operations is ongoing; liability is currently indeterminable.
  • Operational: Continued pressure on margins due to rising labor costs and competitive contract renewals in the Service America segment.

Investor Verification Checklist

• Discontinued Operations Impact: Verify the sustainability of earnings by excluding the $3.9 million Q3 gain from discontinued operations (Patient Care sale and tax refund).
• Adjusted Margins: Review adjusted after-tax margins (excluding goodwill amortization and one-time charges) to assess core operational performance, which shows improvement despite revenue declines.
• Labor Cost Trends: Monitor the ratio of labor costs to revenue, which management cites as a primary driver for margin compression in both segments.
• Debt Service: Confirm the impact of lower interest rates on future cash flows given the reduced debt load.
• Legal Contingency: Track the status of the Roto-Rooter class action lawsuit for potential future liabilities.