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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
Quarterly Report Under Section 13 or 15 (d) of the Securities
Exchange Act of 1934 For the Quarterly Period Ended September
X 30, 2007
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Transition Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
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Commission File Number: 1-8351
CHEMED CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 31-0791746
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
2600 Chemed Center, 255 E. Fifth Street, 45202
Cincinnati, Ohio
(Address of principal executive offices) (Zip code)
(513) 762-6900
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter periods that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
---- ----
Indicate by check mark whether the registrant is a large accelerated filer, an
accelerated filer or a non-accelerated filer (as defined in Rule 12b-2 of the
Exchange Act).
Large Accelerated Non-accelerated
accelerated filer X filer filer
---- ---- ----
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act).
Yes No X
---- ----
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Class Amount Date
Capital Stock 23,926,680 Shares September 30, 2007
$1 Par Value
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1
CHEMED CORPORATION AND
SUBSIDIARY COMPANIES
Index
Page No.
PART I. FINANCIAL INFORMATION:
Item 1. Financial Statements
Unaudited Consolidated Balance Sheet -
September 30, 2007 and December 31, 2006 3
Unaudited Consolidated Statement of Income -
Three and nine months ended September 30, 2007 and 2006 4
Unaudited Consolidated Statement of Cash Flows -
Nine months ended September 30, 2007 and 2006 5
Notes to Unaudited Financial Statements 6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 20
Item 3. Quantitative and Qualitative Disclosures about Market Risk 29
Item 4. Controls and Procedures 29
PART II. OTHER INFORMATION
Item 6. Exhibits 30
2
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
CHEMED CORPORATION AND SUBSIDIARY COMPANIES
UNAUDITED CONSOLIDATED BALANCE SHEET
(in thousands except share and per share data)
September 30, December 31,
2007 2006
------------- --------------
ASSETS
Current assets
Cash and cash equivalents $ 16,730 $ 29,274
Accounts receivable less allowances of $ 9,905
(2006 - $10,180) 81,718 93,086
Inventories 6,824 6,578
Current deferred income taxes 20,344 17,789
Current assets of discontinued operations - 5,418
Prepaid expenses and other current assets 6,983 9,968
------------- --------------
Total current assets 132,599 162,113
Investments of deferred compensation plans held in trust 28,824 25,713
Notes receivable 14,701 14,701
Properties and equipment, at cost, less accumulated
depreciation of $86,973 (2006 - $77,107) 73,285 70,140
Identifiable intangible assets less accumulated
amortization of $16,235 (2006 - $13,201) 66,186 69,215
Goodwill 436,262 435,050
Noncurrent assets of discontinued operations - 287
Other assets 16,382 16,068
------------- --------------
Total Assets $ 768,239 $ 793,287
============= ==============
LIABILITIES
Current
liabilities
Accounts payable $ 46,389 $ 49,744
Current portion of long-term debt 10,161 209
Income taxes 9,854 6,765
Accrued insurance 37,725 38,457
Accrued compensation 37,147 35,990
Current liabilities of discontinued operations - 12,215
Other current liabilities 20,972 22,684
------------- --------------
Total current liabilities 162,248 166,064
Deferred income taxes 3,370 26,301
Long-term debt 224,735 150,331
Deferred compensation liabilities 28,407 25,514
Other liabilities 5,818 3,716
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Total Liabilities 424,578 371,926
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STOCKHOLDERS' EQUITY
Capital stock - authorized 80,000,000 shares $1 par; issued
29,205,791 shares (2006 - 28,849,918 shares) 29,206 28,850
Paid-in capital 264,374 252,639
Retained earnings 259,578 215,517
Treasury stock - 5,279,111 shares (2006 - 3,023,635 shares), at cost (211,959) (78,064)
Deferred compensation payable in Company stock 2,462 2,419
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Total Stockholders' Equity 343,661 421,361
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Total Liabilities and Stockholders' Equity $ 768,239 $ 793,287
============= ==============
See accompanying notes to unaudited consolidated financial statements
3
CHEMED CORPORATION AND SUBSIDIARY COMPANIES
UNAUDITED CONSOLIDATED STATEMENT OF INCOME
(in thousands, except per share data)
Three Months Ended September 30, Nine Months Ended September 30,
--------------------------------- --------------------------------
2007 2006 2007 2006
--------------- ---------------- ---------------- ---------------
Continuing Operations
Service revenues and sales $ 272,503 $ 253,695 $ 814,329 $ 746,684
--------------- ---------------- ---------------- ---------------
Cost of services provided and goods sold
(excluding depreciation) 192,882 185,399 569,845 540,537
Selling, general and administrative expenses 42,526 39,139 136,686 116,214
Depreciation 5,220 4,171 14,897 12,385
Amortization 1,292 1,355 3,901 3,968
Other operating expense/(income) - 272 (1,138) 272
--------------- ---------------- ---------------- ---------------
Total costs and expenses 241,920 230,336 724,191 673,376
--------------- ---------------- ---------------- ---------------
Income from operations 30,583 23,359 90,138 73,308
Interest expense (2,515) (4,081) (9,657) (13,726)
Loss from impairment of investment - (1,445) - (1,445)
Loss on extinguishment of debt (83) - (13,798) (430)
Other income--net 11 715 3,068 2,734
--------------- ---------------- ---------------- ---------------
Income before income taxes 27,996 18,548 69,751 60,441
Income taxes (11,080) (5,673) (27,181) (21,978)
--------------- ---------------- ---------------- ---------------
Income from continuing operations 16,916 12,875 42,570 38,463
Discontinued operations, net of income taxes 1,201 (4,914) 1,201 (5,445)
--------------- ---------------- ---------------- ---------------
Net income $ 18,117 $ 7,961 $ 43,771 $ 33,018
=============== ================ ================ ===============
Earnings Per Share
Income from continuing operations $ 0.71 $ 0.49 $ 1.72 $ 1.47
=============== ================ ================ ===============
Net income $ 0.76 $ 0.30 $ 1.77 $ 1.26
=============== ================ ================ ===============
Average number of share outstanding 23,933 26,190 24,711 26,147
=============== ================ ================ ===============
Diluted Earnings Per Share
Income from continuing operations $ 0.69 $ 0.48 $ 1.69 $ 1.44
=============== ================ ================ ===============
Net income $ 0.74 $ 0.30 $ 1.73 $ 1.23
=============== ================ ================ ===============
Average number of share outstanding 24,466 26,633 25,249 26,750
=============== ================ ================ ===============
Cash Dividends Per Share $ 0.06 $ 0.06 $ 0.18 $ 0.18
=============== ================ ================ ===============
See accompanying notes to unaudited consolidated financial statements
4
CHEMED CORPORATION AND SUBSIDIARY COMPANIES
UNAUDITED CONSOLIDATED STATEMENT OF CASH FLOWS
(in thousands)
Nine Months Ended
September 30,
--------------------
2007 2006
---------- ---------
Cash Flows from Operating Activities
Net income $ 43,771 $ 33,018
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation and amortization 18,798 16,353
Write off unamortized debt issuance costs 7,235 430
Noncash long-term incentive compensation 6,154 -
Provision for uncollectible accounts receivable 6,025 5,938
Provision for deferred income taxes (1,388) 2,896
Discontinued operations (1,201) 5,445
Amortization of debt issuance costs 970 1,325
Loss on asset impairment - 1,445
Changes in operating assets and liabilities, excluding
amounts acquired in business combinations:
Decrease/(increase) in accounts receivable 4,819 (20,256)
Decrease/(increase) in inventories (246) 118
Decrease in prepaid expenses and other
current assets 2,964 2,673
Decrease in accounts payable and other current liabilities (9,896) (21,323)
Increase in income taxes 11,825 9,087
Increase in other assets (3,109) (248)
Increase in other liabilities 3,908 2,390
Excess tax benefit on share-based compensation (2,506) (4,943)
Other sources 2,020 1,373
---------- ---------
Net cash provided by continuing operations 90,143 35,721
Net cash provided by discontinued operations - 4,932
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Net cash provided by operating activities 90,143 40,653
---------- ---------
Cash Flows from Investing Activities
Capital expenditures (20,145) (15,955)
Net uses from disposals of discontinued operations (6,121) (3,360)
Proceeds from sales of property and equipment 3,072 287
Business combinations, net of cash acquired (1,079) (1,489)
Other
uses (1,415) (805)
---------- ---------
Net cash used by investing activities (25,688) (21,322)
---------- ---------
Cash Flows from Financing Activities
Proceeds from issuance of long-term debt 300,000 -
Repayment of long-term debt (215,644) (84,500)
Purchases of treasury stock (130,873) (8,253)
Purchases of note hedges (55,093) -
Proceeds from issuance of warrants 27,614 -
Debt issuance costs (6,887) (154)
Dividends paid (4,441) (4,739)
Increase in cash overdraft payable 2,554 2,145
Excess tax benefit on share-based compensation 2,506 4,943
Issuance of capital stock 2,429 3,854
Net increase in revolving line of credit - 15,400
Other sources 836 254
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Net cash used by financing activities (76,999) (71,050)
---------- ---------
Decrease in Cash and Cash Equivalents (12,544) (51,719)
Cash and cash equivalents at beginning of year 29,274 57,133
---------- ---------
Cash and cash equivalents at end of period $ 16,730 $ 5,414
========== =========
See accompanying notes to unaudited consolidated financial statements
5
CHEMED CORPORATION AND SUBSIDIARY COMPANIES
Notes to Unaudited Financial Statements
1. Basis of Presentation
As used herein, the terms "We," "Company" and "Chemed" refer to Chemed
Corporation or Chemed Corporation and its consolidated subsidiaries.
We have prepared the accompanying unaudited consolidated financial
statements of Chemed in accordance with Rule 10-01 of SEC Regulation S-X.
Consequently, we have omitted certain disclosures required under generally
accepted accounting principles in the United States for complete financial
statements. However, in our opinion, the financial statements presented herein
contain all adjustments, consisting only of normal recurring adjustments,
necessary to present fairly our financial position, results of operations and
cash flows. These financial statements are prepared on the same basis as and
should be read in conjunction with the Consolidated Financial Statements and
related notes included in our Annual Report on Form 10-K for the year ended
December 31, 2006. Certain 2006 amounts have been reclassified to conform with
current period presentation in the balance sheet and statement of income
primarily related to the presentation of the discontinued operations of our
former Phoenix hospice program.
2. Refinancing Transactions
On May 2, 2007, we entered into a new senior secured credit facility with
JPMorgan Chase Bank (the "2007 Facility") to replace our existing credit
facility. The 2007 Facility includes a $100 million term loan, a $175 million
revolving credit facility and a $100 million expansion feature. The facility has
a 5-year maturity with principal payments on the term loan due quarterly and on
the revolving credit facility due at maturity. Interest is payable quarterly at
a floating rate equal to our choice of various indices plus a specified margin
based on our leverage ratio. The interest rate at the inception of the agreement
is LIBOR plus 0.875%. In connection with replacing our existing credit facility,
we wrote-off approximately $2.3 million in deferred debt costs. The write-off of
deferred debt costs has been recorded as loss on extinguishment of debt in the
accompanying statement of income.
On May 4, 2007, we used the proceeds from the 2007 Facility to fund the
redemption of our $150 million, 8.75% Senior Notes due 2011. The redemption was
made pursuant to the terms of the indenture at a price of 104.375% plus accrued
but unpaid interest. In connection with the redemption, we wrote-off
approximately $4.8 million in deferred debt costs. The premium payment of $6.6
million and the write-off of deferred debt costs have been recorded as loss on
extinguishment of debt in the accompanying statement of income.
On May 8, 2007, we entered into a Purchase Agreement with J.P. Morgan
Securities Inc. and Citigroup Global Markets Inc. (the "Initial Purchasers") for
issuance and sale of $180 million in aggregate principal amount of our 1.875%
Senior Convertible Notes due 2014 (the "Notes"). On May 9, 2007, the Initial
Purchasers exercised an over-allotment option to purchase an additional $20
million in aggregate principal amount of Notes. On May 14, 2007 a total of $200
million in aggregate principal amount of the Notes were sold to the Initial
Purchasers at a price of $1,000 per Note, less an underwriting fee of $27.50 per
Note. The Notes are to be resold by the Initial Purchasers pursuant to Rule 144A
of the Securities Act of 1933, as amended (the "Securities Act").
We received approximately $194 million in net proceeds from the sale of the
Notes after paying underwriting fees, legal and other expenses. Proceeds from
the offering were used to purchase treasury shares of our stock, as discussed
further in Note 3 and to pay down a portion of the 2007 Facility. We will pay
interest on the Notes on May 15 and November 15 of each year, beginning on
November 15, 2007. The Notes will mature on May 15, 2014. The Notes are
guaranteed on an unsecured senior basis by each of our subsidiaries that are a
borrower or a guarantor under any senior credit facility, as defined in the
Indenture. The Notes are convertible, under certain circumstances, into our
Capital Stock at a conversion rate of 12.3874 shares per $1,000 principal amount
of Notes. This conversion rate is equivalent to an initial conversion price of
approximately $80.73 per share. Prior to March 1, 2014, holders may convert
their Notes under certain circumstances. On and after March 1, 2014, the Notes
will be convertible at any time prior to the close of business three days prior
to the stated maturity date of the Notes. Upon conversion of a Note, if the
conversion value is $1,000 or less, holders will receive cash equal to the
lesser of $1,000 or the conversion value of the number of shares of our Capital
Stock. If the conversion value exceeds $1,000, in addition to this, holders will
receive shares of our Capital Stock for the excess amount. The Indenture
contains customary terms and covenants that upon certain events of default,
including without limitation, failure to pay when due any principal amount, a
fundamental change or certain cross defaults in other agreements or instruments,
occurring and continuing; either the trustee or the holders of 25% in aggregate
principal amount of the Notes may declare the principal of the Notes and any
accrued and unpaid interest through the date of such declaration immediately due
and payable. In the case of certain events of bankruptcy or insolvency relating
to any significant subsidiary or to us, the principal amount of the Notes and
accrued interest automatically becomes due and payable.
6
Pursuant to the guidance in Emerging Issues Task Force ("EITF") 90-19,
"Convertible Bonds with Issuer Option to Settle for Cash Upon Conversion", EITF
00-19 "Accounting for Derivative Instruments Indexed to, and Potentially Settled
in a Company's Own Stock" and EITF 01-6 "The Meaning of Indexed to a Company's
Own Stock", the Notes are accounted for as convertible debt in the accompanying
consolidated balance sheet and the embedded options within the Notes have not
been accounted for as separate derivatives.
We, our subsidiary guarantors and the Initial Purchasers also entered into
a Registration Rights Agreement (the "RRA") dated May 14, 2007. Pursuant to the
RRA, we agreed to, no later than the 120th day after May 14, 2007, file a shelf
registration statement covering resale of the Notes and the Capital Stock
issuable upon conversion pursuant to Rule 415 under the Securities Act. On
August 17, 2007, we filed a shelf registration statement, that became
immediately effective, to register the Notes and Capital Stock issuable upon
conversion.
On May 8, 2007 we entered into a purchased call transaction and a warrant
transaction (written call) with JPMorgan Chase, National Association and
Citibank, N.A. (the "Counterparties"). The purchased call options cover
approximately 2,477,000 shares of our Capital Stock, which under most
circumstances represents the maximum number of shares of Capital Stock that
underlie the Notes. Concurrently with entering into the purchased call options,
we entered into warrant transactions with each of the Counterparties. Pursuant
to the warrant transactions, we sold to the Counterparties warrants to purchase
in the aggregate approximately 2,477,000 shares of Capital Stock. In most cases,
the sold warrants may not be exercised prior to the maturity of the Notes.
The purchased call options and sold warrants are separate contracts with
the Counterparties, are not part of the terms of the Notes and do not affect the
rights of holders under the Notes. A holder of the Notes will not have any
rights with respect to the purchased call options or the sold warrants. The
purchased call options are expected to reduce the potential dilution upon
conversion of the Notes if the market value per share of the Capital Stock at
the time of exercise is greater than approximately $80.73, which corresponds to
the initial conversion price of the Notes. The sold warrants have an exercise
price of $105.44 and are expected to result in some dilution should the price of
our Capital Stock exceed this exercise price. See Note 7 for further detail with
respect to the potential impact of these transactions on our Earnings Per Share.
Our net cost for these transactions was approximately $27.3 million.
Pursuant to EITF 00-19 and EITF 01-6, the purchased call option and the sold
warrants are accounted for as equity transactions. Therefore, our net cost was
recorded as a decrease in shareholders' equity in the accompanying consolidated
balance sheet.
Since May 2007, we have repaid $65.5 million of the $100 million term note
under the 2007 Facility using cash on hand. Of the amount paid, $60.5 million
represents a prepayment. The following is a schedule by year of required
long-term debt repayments as of September 30, 2007 (in thousands):
September 2008 $ 10,161
September 2009 10,059
September 2010 10,059
September 2011 4,559
September 2012 58
Thereafter 200,000
-------------------
Total debt 234,896
Less: Current portion (10,161)
-------------------
Total long-term debt $ 224,735
===================
We are in compliance with all debt covenants as of September 30, 2007. We
have issued $30.1 million in standby letters of credit as of September 30, 2007,
mainly for insurance purposes. Issued letters of credit reduce our available
credit under the revolving credit agreement. As of September 30, 2007, we have
approximately $144.9 million of unused lines of credit available and eligible to
be drawn down under our revolving credit facility, excluding the expansion
feature.
7
3. Capital Stock Transactions
On April 26, 2007, our Board of Directors authorized a $150 million stock
repurchase program. For the nine months ended September 30, 2007 we repurchased
2.1 million shares at a weighted average cost of $59.82 per share. For the nine
months ended September 30, 2006 we repurchased 111,380 shares at a weighted
average cost of $37.30 per share.
4. Revenue Recognition
Both the VITAS segment and Roto-Rooter segment recognize service revenues
and sales when the earnings process has been completed. Generally, this occurs
when services are provided or products are delivered. VITAS recognizes revenue
at the estimated realizable amount due from third-party payers. Medicare
payments are subject to certain caps, as described below.
We actively monitor each of our hospice programs, by provider number, as to
their specific admission, discharge rate and median length of stay data in an
attempt to determine whether they are likely to exceed the annual
per-beneficiary Medicare cap ("Medicare cap"). Should we determine that revenues
for a program are likely to exceed the Medicare cap based on projected trends,
we attempt to institute corrective action to influence the patient mix or to
increase patient admissions. However, should we project our corrective action
will not prevent that program from exceeding its Medicare cap, we estimate the
amount of revenue recognized during the period that will require repayment to
the Federal government under the Medicare cap and record the amount as a
reduction to patient revenue. The Medicare cap measurement period is from
September 29 through September 28 of the following year for admissions and from
November 1 through October 31 of the following year for revenue. As of the date
of this filing, for the 2007 measurement period, no programs have a required
Medicare billing reduction. Our current estimates for the projected full year
2007 measurement period anticipate no programs with a Medicare cap billing
limitation. Therefore, no revenue reduction for Medicare cap has been recorded
for the three or nine-month period ended September 30, 2007.
In October 2007, we received notification from the Federal government's
fiscal intermediary regarding our Medicare cap liabilities related to the 2006
measurement period. The notification revealed that we were over accrued by $1.2
million, consisting of an under accrual related to continuing operations of
$714,000 and an over accrual related to our discontinued Phoenix operation of
$1.9 million. Prior to this, we had $9.5 million accrued for the 2006
measurement period related to 3 programs, including our discontinued Phoenix
program. The difference between our estimates and the amount calculated by the
Federal government's fiscal intermediary was primarily the result of allocations
made for patients transferring between our hospice programs and other providers.
We continue to believe that our estimation methodology provides a reasonable
basis to record potential Medicare cap liabilities.
5. Segments
Service revenues and sales and aftertax earnings by business segment are as
follows (in thousands):
Three months ended Nine months ended
September 30, September 30,
------------------- -------------------
2007 2006 2007 2006
--------- --------- --------- ---------
Service Revenues and Sales
--------------------------
VITAS $188,474 $175,289 $558,224 $512,873
Roto-Rooter 84,029 78,406 256,105 233,811
--------- --------- --------- ---------
Total $272,503 $253,695 $814,329 $746,684
========= ========= ========= =========
Aftertax Earnings
-----------------
VITAS $ 13,921 $ 10,486 $ 43,062 $ 33,273
Roto-Rooter 8,942 8,509 29,123 22,713
--------- --------- --------- ---------
Total 22,863 18,995 72,185 55,986
Corporate (5,947) (6,120) (29,615) (17,523)
Discontinued operations 1,201 (4,914) 1,201 (5,445)
--------- --------- --------- ---------
Net income $ 18,117 $ 7,961 $ 43,771 $ 33,018
========= ========= ========= =========
8
6. Patient Care Notes Receivable
We have notes receivable of $14.7 million from Patient Care, Inc. related
to our sale of this subsidiary in 2002. In February 2007, the parties amended
the terms of the promissory notes receivable. The amended notes are due October
2009. The interest on the notes receivable is the higher of Patient Care's
current floating rate plus 2% or 11.5% per year. Interest payments are due
quarterly. As of September 30, 2007, Patient Care is current on all interest
payments related to these notes.
7. Earnings per Share
Earnings per share are computed using the weighted average number of shares
of capital stock outstanding. Earnings and diluted earnings per share for 2007
and 2006 are computed as follows (in thousands, except per share data):
Income from Continuing Operations Net Income
----------------------------------------- -------------------------------------
Earnings Earnings
For the Three Months per per
Ended September 30, Income Shares Share Income Shares Share
--------------------- --------------- --------------- --------- --------------- ----------- ---------
2007
Earnings $ 16,916 23,933 $ 0.71 $ 18,117 23,933 $ 0.76
========= =========
Dilutive stock options - 462 - 462
Nonvested stock awards - 71 - 71
--------------- --------------- --------------- -----------
Diluted earnings $ 16,916 24,466 $ 0.69 $ 18,117 24,466 $ 0.74
=============== =============== ========= =============== =========== =========
2006
Earnings $ 12,875 26,190 $ 0.49 $ 7,961 26,190 $ 0.30
========= =========
Dilutive stock options - 393 - 393
Nonvested stock awards - 50 - 50
--------------- --------------- --------------- -----------
Diluted earnings $ 12,875 26,633 $ 0.48 $ 7,961 26,633 $ 0.30
=============== =============== ========= =============== =========== =========
Income from Continuing Operations Net Income
----------------------------------------- -------------------------------------
Earnings Earnings
For the Nine Months per per
Ended September 30, Income Shares Share Income Shares Share
--------------------- --------------- --------------- --------- --------------- ----------- ---------
2007
Earnings $ 42,570 24,711 $ 1.72 $ 43,771 24,711 $ 1.77
========= =========
Dilutive stock options - 463 - 463
Nonvested stock awards - 75 - 75
--------------- --------------- --------------- -----------
Diluted earnings $ 42,570 25,249 $ 1.69 $ 43,771 25,249 $ 1.73
=============== =============== ========= =============== =========== =========
2006
Earnings $ 38,463 26,147 $ 1.47 $ 33,018 26,147 $ 1.26
========= =========
Dilutive stock options - 546 - 546
Nonvested stock awards - 57 - 57
--------------- --------------- --------------- -----------
Diluted earnings $ 38,463 26,750 $ 1.44 $ 33,018 26,750 $ 1.23
=============== =============== ========= =============== =========== =========
Diluted earnings per share may be impacted in future periods as the result
of the issuance of our $200 million Notes and related purchased call options and
sold warrants, as described in Note 2 above. Under EITF 04-8 "The Effect of
Contingently Convertible Instruments on Diluted Earnings per Share" and EITF
90-19, we will not include any shares related to the Notes in our calculation of
diluted earnings per share until our average stock price for a quarter exceeds
the conversion price of $80.73. We would then include in our diluted earnings
per share calculation those shares issuable using the treasury stock method. The
amount of shares issuable is based upon the amount by which the average stock
price for the quarter exceeds the conversion price. The purchased call option
does not impact the calculation of diluted earnings per share as it is always
anti-dilutive. The sold warrants become dilutive when our average stock price
for a quarter exceeds the strike price of the warrant.
9
The following table provides examples of how changes in our stock price
impact the number of shares that would be included in our diluted earnings per
share calculation. It also shows the impact on the number of shares issuable
upon conversion of the Notes and settlement of the purchased call options and
sold warrants:
Shares Total Treasury Shares Due Incremental
Underlying 1.875% Method to the Company Shares Issued by
Share Convertible Warrant Incremental under Notes the Company
Price Notes Shares Shares (a) Hedges upon Conversion (b)
----------------- ------------------ ---------------- ---------------- ------------------- ----------------------
$ 80.73 - - - - -
$ 90.73 273,061 - 273,061 (273,061) -
$ 100.73 491,905 - 491,905 (491,905) -
$ 110.73 671,222 118,359 789,581 (671,222) 118,359
$ 120.73 820,833 313,764 1,134,597 (820,833) 313,764
$ 130.73 947,556 479,274 1,426,830 (947,556) 479,274
(a) Represents the number of incremental shares that must be included in the
calculation of fully diluted shares under U.S. GAAP.
(b) Represents the number of incremental shares to be issued by the Company
upon conversion of the 1.875% Convertible Notes, assuming concurrent
settlement of the note hedges and warrants.
8. Other Operating Income
During the first quarter of 2007, we completed the sale of Roto-Rooter's
call center building in Florida. The proceeds from the sale were approximately
$3.0 million, which resulted in a pretax gain of $1.1 million. The gain was
recorded in other income from operations in the accompanying consolidated
statement of income.
9. Other Income -- Net
Other income -- net comprises the following (in thousands):
Three Months Ended Nine Months Ended
September 30, September 30,
-------------------- ----------------------
2007 2006 2007 2006
---------- --------- ---------- -----------
Interest income $ 897 $ 426 $ 2,608 $ 1,977
(Loss)/gain on trading investments of employee benefit trust (522) 340 927 825
(Loss)/gain on disposal of property and equipment (57) (50) (250) (105)
Other - net (307) (1) (217) 37
---------- --------- ---------- -----------
Total other income $ 11 $ 715 $ 3,068 $ 2,734
========== ========= ========== ===========
10
10. Other Current Liabilities
Other current liabilities as of September 30, 2007 and December 31, 2006
consist of the following (in thousands):
2007 2006
----------- ------------
Accrued legal settlements $ 618 $ 1,889
Accrued divestiture expenses 842 2,612
Accrued Medicare Cap estimate 8,279 3,373
Other 11,233 14,810
----------- ------------
Total other current
liabilities $ 20,972 $ 22,684
=========== ============
Accrued Medicare cap as of September 30, 2007 includes $4.7 million
related to our Phoenix program that we sold in November 2006. This amount was
recorded in current liabilities from discontinued operations as of December
31, 2006.
11. 2002 Executive Long-Term Incentive Plan
In February 2007, we met the cumulative earnings target specified in the
LTIP and on March 9, 2007 the Compensation/Incentive Committee of the Board
of Directors approved a stock grant of 100,000 shares and the related
allocation to participants. The pre-tax cost of the stock grant was $5.4
million and is included in selling, general and administrative expenses in
the accompanying consolidated statement of income.
In May 2007, the Compensation/Incentive Committee of the Board of
Directors approved a pool of shares to be awarded based on new earnings
before interest, depreciation and amortization (EBITDA) targets. The
participants of the LTIP may be awarded 80,000 shares of our capital stock if
we attain adjusted EBITDA of either $465 million for the three year period
beginning January 1, 2007 or $604 million for the four year period beginning
January 1, 2007.
In June 2007, we met the $62.00 per share stock price hurdle specified in
the 2002 Long-Term Incentive Plan (LTIP) and on June 27, 2007 the
Compensation/Incentive Committee of the Board of Directors approved a stock
grant of 22,200 shares and the related allocation to participants. The
pre-tax cost of the stock grant was $1.6 million and is included in selling,
general and administrative expenses in the accompanying statement of income.
12. Loans Receivable from Independent Contractors
The Roto-Rooter segment sublicenses with approximately sixty-one
independent contractors to operate certain plumbing repair and drain cleaning
businesses in lesser-populated areas of the United States and Canada. As of
September 30, 2007, we had notes receivable from our independent contractors
totaling $1.6 million (December 31, 2006-$1.9 million). In most cases these
loans are fully or partially secured by equipment owned by the contractor.
The interest rates on the loans range from 5% to 8% per annum and the
remaining terms of the loans range from two months to 5 years at September
30, 2007. During the three and nine months ended September 30, 2007, we
recorded revenues of $5.3 million and $16.2 respectively (2006-$4.5 million
and $14.1 million, respectively) and pretax profits of $2.3 million and $7.1
million, respectively (2006-$1.7 million and $5.5 million, respectively) from
our independent contractors.
We have adopted the provisions of Financial Accounting Standards Board
("FASB") Interpretation No. 46R "Consolidation of Variable Interest
Entities--an interpretation of Accounting Research Bulletin No. 51 (revised)"
("FIN 46R") relative to our contractual relationships with the independent
contractors. FIN 46R requires the primary beneficiary of a Variable Interest
Entity ("VIE") to consolidate the accounts of the VIE. We have evaluated our
relationships with our independent contractors based upon guidance provided
in FIN 46R and have concluded that some of the contractors who have loans
payable to us may be VIE's. We believe consolidation, if required, of the
accounts of any VIE's for which we might be the primary beneficiary would not
materially impact our financial position, results of operations or cash
flows.
13. Pension and Retirement Plans
All of the Company's plans that provide retirement and similar benefits
are defined contribution plans. Expenses for the Company's pension and
profit-sharing plans, excess benefit plans and other similar plans were $2.0
million and $9.7 million for the three and nine months ended September 30,
2007, respectively. Expenses for the Company's pension and profit-sharing
plans, excess benefit plans and other similar plans were $2.6 million and
$7.5 million for the three and nine months ended September 30, 2006,
respectively.
11
14. Litigation
Like other large California employers, our VITAS subsidiary faces
allegations of purported class-wide wage and hour violations. It was party to
a class action lawsuit filed in the Superior Court of California, Los Angeles
County, in April of 2004 by Ann Marie Costa, Ana Jimenez, Mariea Ruteaya and
Gracetta Wilson ("Costa"). This case alleged failure to pay overtime wages
for hours worked "off the clock" on administrative tasks, including voicemail
retrieval, time entry, travel to and from work, and pager response. This case
also alleged VITAS failed to provide meal and break periods to a purported
class of California nurses, home health aides and licensed clinical social
workers. The case also sought payment of penalties, interest, and Plaintiffs'
attorney fees. VITAS contested these allegations. During 2006, we reached a
tentative settlement and on June 26, 2006, the court granted final approval
of the settlement ($19.9 million).
VITAS is party to a class action lawsuit filed in the Superior Court of
California, Los Angeles County, in September 2006 by Bernadette Santos, Keith
Knoche and Joyce White ("Santos"). This case, filed by the Costa case
Plaintiffs' counsel, makes similar allegations of failure to pay overtime and
failure to provide meal and rest periods to a purported class of California
admissions nurses, chaplains and sales representatives. The case likewise
seeks payment of penalties, interest and Plaintiffs' attorney fees. VITAS
contests these allegations. The lawsuit is in its early stage and we are
unable to estimate our potential liability, if any, with respect to these
allegations.
Regardless of outcome, defense of litigation adversely affects us through
defense costs, diversion of our time and related publicity. In the normal
course of business, we are a party to various claims and legal proceedings.
We record a reserve for these matters when an adverse outcome is probable and
the amount of the potential liability is reasonably estimable.
15. OIG Investigation
In April 2005, the Office of Inspector General ("OIG") for the Department
of Health and Human Services served VITAS with civil subpoenas relating to
VITAS' alleged failure to appropriately bill Medicare and Medicaid for
hospice services. As part of this investigation, the OIG selected medical
records for 320 past and current patients from VITAS' three largest programs
for review. It also sought policies and procedures dating back to 1998
covering admissions, certifications, recertifications and discharges. During
the third quarter of 2005 and again in May 2006, the OIG requested additional
information from us. The Court dismissed a related qui tam complaint filed in
U.S. District Court for the Southern District of Florida with prejudice in
July 2007. The plaintiffs are appealing this dismissal. Pretax expenses
related to complying with OIG requests have been immaterial for the
three and nine-month periods ended September 30, 2007. We incurred pretax
expense related to complying with OIG requests and defending the litigation
of $344,000 and $818,000 for the three and nine months ended September 30,
2006, respectively.
The government may continue to investigate the complaint's allegations. We
are unable to predict the outcome of this matter or the impact, if any, that
the investigation may have on our business, results of operations, liquidity
or capital resources. Regardless of outcome, responding to the subpoenas and
defending the litigation can adversely affect us through defense costs,
diversion of our time and related publicity.
16. Related Party Agreement
In October 2004, VITAS entered into a pharmacy services agreement
("Agreement") with Omnicare, Inc. ("OCR") whereby OCR provides specified
pharmacy services for VITAS and its hospice patients in geographical areas
served by both VITAS and OCR. The Agreement has an initial term of three
years that renews automatically for one-year terms. Either party may cancel
the Agreement at the end of any term by giving written notice at least 90
days prior to the end of said term. In June 2004, VITAS entered into a
pharmacy services agreement with excelleRx. The agreement has a one-year term
and automatically renews unless either party provides a 90-day written
termination notice. Subsequent to June 2004, OCR acquired excelleRx. Under
both agreements, VITAS made purchases of $8.6 million and $25.1 million for
the three and nine months ended September 30, 2007, respectively (2006 - $8.0
million and $22.3 million, respectively) and has accounts payable of $912,000
at September 30, 2007.
Mr. E. L. Hutton is non-executive Chairman of the Board and a director of
the Company and OCR. Mr. Joel F. Gemunder, President and Chief Executive
Officer of OCR, Mr. Charles H. Erhart, Jr. and Ms. Sandra Laney are directors
of both OCR and the Company. Mr. Kevin J. McNamara, President, Chief
Executive Officer and a director of the Company, is a director emeritus of
OCR. We believe that the terms of these agreements are no less favorable to
VITAS than we could negotiate with an unrelated party.
17. Cash Overdrafts Payable
Included in accounts payable at September 30, 2007 is cash overdrafts
payable of $13.1 million (December 31, 2006 - $10.6 million).
12
18. Uncertain Tax Positions
On January 1, 2007, we adopted FASB Interpretation No. 48 (FIN 48),
"Accounting for Uncertainty in Income Taxes - an Interpretation of FASB
Statement 109", which prescribes a comprehensive model for how to recognize,
measure, present and disclose in financial statements uncertain tax positions
taken or expected to be taken on a tax return. Upon adoption of FIN 48, the
financial statements reflect expected future tax consequences of such
uncertain positions assuming the taxing authorities' full knowledge of the
position and all relevant facts. FIN 48 also revises disclosure requirements
and introduces an annual, tabular roll-forward of the unrecognized tax
benefits.
The cumulative effect upon adoption of FIN 48 was to reduce our accrual
for uncertain tax positions by approximately $4.7 million, which has been
recorded in retained earnings as of January 1, 2007 in the accompanying
consolidated balance sheet. After adoption, we had approximately $1.3 million
in unrecognized tax benefits. The majority of this amount would affect our
effective tax rate, if recognized in a future period. The years ended
December 31, 2004 and forward remain open for review for Federal income tax
purposes at Chemed and Roto-Rooter. For VITAS, fiscal years beginning after
February 24, 2004 (the date of acquisition) remain open for review for
Federal income tax purposes. The earliest open year relating to any of our
material state jurisdictions is the fiscal year ended December 31, 2002.
During the next twelve months, we anticipate that the net change in
unrecognized tax benefits will be a decrease of approximately $200,000 to
$250,000 due to normal quarterly provisions, releases upon expiration of
certain statutes of limitation and the settlement of current audits.
As permitted by FIN 48, we reclassified interest related to our accrual
for uncertain tax positions to separate interest accounts. We believe this
change in accounting method is preferable as it more accurately classifies
the impact of interest in our consolidated balance sheet and consolidated
statement of income. As of September 30, 2007, we have approximately $137,000
accrued in interest related to uncertain tax positions. These accruals are
included in other current liabilities in the accompanying consolidated
balance sheet. For the three and nine months ended September 30, 2007, we
have recorded approximately $1,000 and $28,000, respectively for net interest
expense related to uncertain tax positions in interest expense in the
accompanying consolidated statement of income.
19. Recent Accounting Statements
In February 2007, the FASB issued Statement No. 159, "The Fair Value
Option for Financial Assets and Financial Liabilities" ("SFAS 159"), which
permits an entity to measure certain financial assets and financial
liabilities at fair value. Entities that elect the fair value option will
report unrealized gains and losses in earnings at each reporting date. The
fair value option may be elected on an instrument-by-instrument basis, with a
few exceptions, as long as it is applied to the entire instrument. The fair
value election is irrevocable unless a new election date occurs. SFAS 159 is
effective as of the beginning of the first fiscal year that begins after
November 15, 2007. We believe there will be no impact on our financial
condition and results of operations as a result of the adoption of SFAS 159.
In September 2006, the FASB issued Statement No. 157, "Fair Value
Measurements" ("SFAS 157"), which addresses how companies should measure fair
value when they are required to use a fair value measure for recognition or
disclosure purposes under generally accepted accounting principles (GAAP). It
sets a common definition of fair value to be used throughout GAAP. The new
standard is designed to make the measurement of fair value more consistent
and comparable and improve disclosures about those measures. This statement
is effective for financial statements issued for fiscal years beginning after
November 15, 2007. We are currently evaluating the impact SFAS 157 will have
on our financial condition, results of operations and footnote disclosures.
13
20. Guarantor Subsidiaries
Our 1.875% Notes are fully and unconditionally guaranteed on an unsecured,
joint and severally liable basis by certain of our 100% owned subsidiaries.
The following unaudited, condensed, consolidating financial data presents the
composition of the parent company (Chemed), the guarantor subsidiaries and
the non-guarantor subsidiaries as of September 30, 2007 and December 31, 2006
for the balance sheet, the three and nine months ended September 30, 2007 and
2006 for the income statement and the nine months ended September 30, 2007
and 2006 for the statement of cash flows (dollars in thousands):
Condensed Consolidating Balance Sheet
As of September 30, 2007
------------------------ Guarantor Non-Guarantor Consolidating
Parent Subsidiaries Subsidiaries Adjustments Consolidated
------------- --------------- --------------- -------------- -------------
ASSETS
Cash and cash equivalents $ 15,694 $ (1,282) $ 2,318 $ - $ 16,730
Accounts receivable, less allowances 878 80,272 568 - 81,718
Intercompany receivables 22,050 - (3,756) (18,294) -
Inventories - 6,174 650 - 6,824
Current deferred income taxes (67) 20,135 276 - 20,344
Prepaid expenses and other current assets 1,100 5,801 82 - 6,983
--------------------------------------------------------------- ----------
Total current assets 39,655 111,100 138 (18,294) 132,599
--------------------------------------------------------------- ----------
Investments of deferred compensation
plans held in trust - - 28,824 - 28,824
Note receivable 14,701 - - - 14,701
Properties and equipment, at cost,
less accumulated depreciation 4,396 67,092 1,797 - 73,285
Identifiable intangible assets
less accumulated amortization - 66,185 1 - 66,186
Goodwill - 431,570 4,692 - 436,262
Other assets 12,601 2,993 788 - 16,382
Investments in subsidiaries 497,376 10,839 - (508,215) -
--------------------------------------------------------------- ----------
Total assets $ 568,729 $ 689,779 $ 36,240 $ (526,509) $ 768,239
=============================================================== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Accounts payable $ (1,603) $ 47,636 $ 356 $ - $ 46,389
Intercompany payables - 14,691 3,603 (18,294) -
Current portion of long-term debt 10,000 161 - - 10,161
Income taxes 4,352 4,133 1,369 - 9,854
Accrued insurance 1,281 36,444 - - 37,725
Accrued salaries and wages 2,778 33,726 643 - 37,147
Other current liabilities 3,181 17,620 171 - 20,972
Deferred income taxes (23,088) 36,479 (10,021) - 3,370
Long-term debt 224,500 235 - - 224,735
Deferred compensation liabilities - - 28,407 - 28,407
Other liabilities 3,667 1,978 173 - 5,818
Stockholders' equity 343,661 496,676 11,539 (508,215) 343,661
--------------------------------------------------------------- ----------
Total Liabilities and Stockholders' Equity $ 568,729 $ 689,779 $ 36,240 $ (526,509) $ 768,239
=============================================================== ==========
14
As of December 31, 2006
----------------------- Guarantor Non-Guarantor Consolidating
Parent Subsidiaries Subsidiaries Adjustments Consolidated
------------- --------------- -------------- -------------- -------------
ASSETS
Cash and cash equivalents $ 25,258 $ (1,314) $ 5,330 $ - $ 29,274
Accounts receivable, less allowances 1,547 91,065 474 - 93,086
Intercompany receivables 84,784 - - (84,784) -
Inventories - 6,169 409 - 6,578
Current deferred income taxes (117) 17,591 315 - 17,789
Current assets of discontinued operations - 5,418 - - 5,418
Prepaid expenses and other current assets 809 9,087 72 - 9,968
------------- --------------- -------------- -------------- -------------
Total current assets 112,281 128,016 6,600 (84,784) 162,113
------------- --------------- -------------- -------------- -------------
Investments of deferred compensation
plans held in trust 12,214 13,499 - - 25,713
Note receivable 14,701 - - - 14,701
Properties and equipment, at cost,
less accumulated depreciation 6,412 62,023 1,705 - 70,140
Identifiable intangible assets
less accumulated amortization - 69,213 2 - 69,215
Goodwill - 430,671 4,379 - 435,050
Noncurrent assets of discontinued operations - 287 - - 287
Other assets 12,845 2,514 709 - 16,068
Investments in subsidiaries 430,399 8,628 - (439,027) -
------------- --------------- -------------- -------------- -------------
Total assets $ 588,852 $ 714,851 $ 13,395 $ (523,811) $ 793,287
============= =============== ============== ============== =============
LIABILITIES AND STOCKHOLDERS' EQUITY
Accounts payable $ (189) $ 49,502 $ 431 $ - $ 49,744
Intercompany payables - 84,036 748 (84,784) -
Current portion of long-term debt - 209 - - 209
Income taxes (5,906) 11,680 991 - 6,765
Accrued insurance 2,938 35,519 - - 38,457
Accrued salaries and wages 2,530 32,731 729 - 35,990
Current liabilities of discontinued operations - 12,215 - - 12,215
Other current liabilities 9,568 11,715 1,401 - 22,684
Deferred income taxes (6,946) 32,780 467 - 26,301
Long-term debt 150,000 331 - - 150,331
Deferred compensation liabilities 12,247 13,267 - - 25,514
Other liabilities 3,249 467 - - 3,716
Stockholders' equity 421,361 430,399 8,628 (439,027) 421,361
------------- --------------- -------------- -------------- -------------
Total Liabilities and Stockholders' Equity $ 588,852 $ 714,851 $ 13,395 $ (523,811) $ 793,287
============= =============== ============== ============== =============
15
Condensed Consolidating Income Statement
For the nine months ended September 30, 2007
-------------------------------------------- Guarantor Non-Guarantor Consolidating
Parent Subsidiaries Subsidiaries Adjustments Consolidated
------------- --------------- -------------- -------------- --------------
Continuing Operations
Net sales and service revenues $ - $ 795,912 $ 18,417 $ - $ 814,329
----------------------------------------------------------- --------------
Cost of services provided and goods sold - 560,630 9,215 - 569,845
Selling, general and administrative expenses 14,513 119,397 2,776 - 136,686
Depreciation 366 14,075 456 - 14,897
Amortization 871 3,028 2 - 3,901
Other operating income (1,138) - - - (1,138)
----------------------------------------------------------- --------------
Total costs and expenses 14,612 697,130 12,449 - 724,191
----------------------------------------------------------- --------------
Income/ (loss) from operations (14,612) 98,782 5,968 - 90,138
Interest expense (9,065) (365) (227) - (9,657)
Loss on extinguishment of debt (13,798) - - - (13,798)
Other income - net 12,436 (8,885) (483) - 3,068
----------------------------------------------------------- --------------
Income/ (loss) before income taxes (25,039) 89,532 5,258 - 69,751
Income tax (provision)/benefit 9,439 (34,182) (2,438) - (27,181)
Equity in net income of subsidiaries 59,371 2,988 - (62,359) -
------------- ------------ ------------ -------------- --------------
Income from continuing operations 43,771 58,338 2,820 (62,359) 42,570
Discontinued Operations - 1,201 - - 1,201
------------- ------------ ------------ -------------- --------------
Net Income $ 43,771 $ 59,539 $ 2,820 $ (62,359) $ 43,771
============= =============== ============== ============== ==============
For the nine months ended September 30, 2006
------------------------------------------------- Guarantor Non-Guarantor Consolidating
Parent Subsidiaries Subsidiaries Adjustments Consolidated
------------- --------------- -------------- -------------- --------------
Continuing Operations
Net sales and service revenues $ - $ 731,406 $ 15,278 $ - $ 746,684
----------------------------------------------------------- --------------
Cost of services provided and goods sold - 532,921 7,616 - 540,537
Selling, general and administrative expenses 8,095 105,178 2,941 - 116,214
Depreciation 361 11,585 439 - 12,385
Amortization 960 3,006 2 - 3,968
Other operating expenses - 272 - - 272
------------- ----------------- -------------- ------------ --------------
Total costs and expenses 9,416 652,962 10,998 - 673,376
----------------------------------------------------------- --------------
Income/ (loss) from operations (9,416) 78,444 4,280 - 73,308
Interest expense (13,290) (418) (18) - (13,726)
Loss on extinguishment of debt (430) - - - (430)
Investment impairment charge (1,445) - - - (1,445)
Other income - net 15,925 (13,209) 18 - 2,734
----------------------------------------------------------- --------------
Income/ (loss) before income taxes (8,656) 64,817 4,280 - 60,441
Income tax (provision)/benefit 3,516 (23,676) (1,818) - (21,978)
Equity in net income of subsidiaries 40,384 2,462 - (42,846) -
----------------------------------------------------------- --------------
Income from continuing operations 35,244 43,603 2,462 (42,846) 38,463
Discontinued Operations (2,226) (3,219) - - (5,445)
----------------------------------------------------------- --------------
Net income $ 33,018 $ 40,384 $ 2,462 $ (42,846) $ 33,018
=========================================================== ==============
16
For the three months ended September 30, 2007
--------------------------------------------- Guarantor Non-Guarantor Consolidating
Parent Subsidiaries Subsidiaries Adjustments Consolidated
----------------- --------------- --------------- -------------- --------------
Continuing Operations
Net sales and service revenues $ - $ 266,382 $ 6,121 $ - $ 272,503
---------------------------------------------------------------- --------------
Cost of services provided and goods sold - 189,854 3,028 - 192,882
Selling, general and administrative expenses 4,155 37,755 616 - 42,526
Depreciation 123 4,940 157 - 5,220
Amortization 282 1,008 2 - 1,292
----------------- --------------- --------------- -------------- --------------
Total costs and expenses 4,560 233,557 3,803 - 241,920
---------------------------------------------------------------- --------------
Income/ (loss) from operations (4,560) 32,825 2,318 - 30,583
Interest expense (2,169) (120) (226) - (2,515)
Loss on extinguishment of debt (83) - - - (83)
Other income - net 2,838 (2,258) (569) - 11
---------------------------------------------------------------- --------------
Income/ (loss) before income taxes (3,974) 30,447 1,523 - 27,996
Income tax (provision)/benefit 1,570 (11,749) (901) - (11,080)
Equity in net income of subsidiaries 20,521 790 - (21,311) -
---------------------------------------------------------------- --------------
Income from continuing operations 18,117 19,488 622 (21,311) 16,916
Discontinued Operations - 1,201 - - 1,201
----------------- --------------- --------------- -------------- --------------
Net Income $ 18,117 $ 20,689 $ 622 $ (21,311) $ 18,117
================= =============== =============== ============== ==============
For the three months ended September 30, 2006
--------------------------------------------- Guarantor Non-Guarantor Consolidating
Parent Subsidiaries Subsidiaries Adjustments Consolidated
----------------- --------------- --------------- -------------- --------------
Continuing Operations
Net sales and service revenues $ - $ 248,512 $ 5,183 $ - $ 253,695
---------------------------------------------------------------- --------------
Cost of services provided and goods sold - 182,793 2,606 - 185,399
Selling, general and administrative expenses 3,026 35,126 987 - 39,139
Depreciation 113 3,903 155 - 4,171
Amortization 355 1,000 - - 1,355
Other operating expenses - 272 - - 272
----------------- --------------- --------------- -------------- --------------
Total costs and expenses 3,494 223,094 3,748 - 230,336
---------------------------------------------------------------- --------------
Income/ (loss) from operations (3,494) 25,418 1,435 - 23,359
Interest expense (3,996) (85) - - (4,081)
Investment impairment charge (1,445) - - - (1,445)
Other income - net 5,121 (4,396) (10) - 715
---------------------------------------------------------------- --------------
Income/ (loss) before income taxes (3,814) 20,937 1,425 - 18,548
Income tax (provision)/benefit 1,665 (6,733) (605) - (5,673)
Equity in net income of subsidiaries 12,336 820 - (13,156) -
---------------------------------------------------------------- --------------
Income from continuing operations 10,187 15,024 820 (13,156) 12,875
Discontinued Operations (2,226) (2,688) - - (4,914)
---------------------------------------------------------------- --------------
Net income $ 7,961 $ 12,336 $ 820 $ (13,156) $ 7,961
================================================================ ==============
17
Condensed Consolidating Statement of Cash Flows
For the nine months ended September 30, 2007
-------------------------------------------- Guarantor Non-Guarantor
Parent Subsidiaries Subsidiaries Consolidated
----------------- ----------------- ---------------- -----------------
Cash Flow from Operating Activities:
-------------------------------------
Net cash provided by operating activities $ 4,819 $ 83,915 $ 1,409 $ 90,143
----------------- ----------------- ---------------- -----------------
Cash Flow from Investing Activities:
-------------------------------------
Capital expenditures (175) (19,469) (501) (20,145)
Business combinations, net of cash acquired - (1,079) - (1,079)
Net payments from sale of discontinued operations (2,382) (3,739) - (6,121)
Proceeds from sale of property and equipment 2,964 83 25 3,072
Other uses - net (680) (721) (14) (1,415)
----------------- ----------------- ---------------- -----------------
Net cash used by investing activities (273) (24,925) (490) (25,688)
----------------- ----------------- ---------------- -----------------
Cash Flow from Financing Activities:
-------------------------------------
Increase/(decrease) in cash overdrafts payable (352) 2,906 - 2,554
Change in intercompany accounts 66,460 (63,165) (3,295) -
Dividends (paid to)/received from shareholders (4,441) 1,446 (1,446) (4,441)
Purchases of treasury stock (130,873) - - (130,873)
Proceeds from exercise of stock options 2,429 - - 2,429
Realized excess tax benefit on share based compensation 2,506 - - 2,506
Purchase of note hedges (55,093) - - (55,093)
Proceeds from issuance of warrants 27,614 - - 27,614
Proceeds from issuance of long-term debt 300,000 - - 300,000
Debt issuance costs (6,887) - - (6,887)
Repayment of long-term debt (215,500) (144) - (215,644)
Other sources and uses - net 27 (1) 810 836
----------------- ----------------- ---------------- -----------------
Net cash used by financing activities (14,110) (58,958) (3,931) (76,999)
----------------- ----------------- ---------------- -----------------
Net increase/(decrease) in cash and cash equivalents (9,564) 32 (3,012) (12,544)
Cash and cash equivalents at beginning of period 25,258 (1,314) 5,330 29,274
----------------- ----------------- ---------------- -----------------
Cash and cash equivalents at end of period $ 15,694 $ (1,282) $ 2,318 $ 16,730
================= ================= ================ =================
18
For the nine months ended September 30, 2006
-------------------------------------------- Guarantor Non-Guarantor
Parent Subsidiaries Subsidiaries Consolidated
---------------- ----------------- ---------------- -----------------
Cash Flow from Operating Activities:
-------------------------------------
Net cash provided/(used) by operating activities $ (14,107) $ 52,297 $ 2,463 $ 40,653
---------------- ----------------- ---------------- -----------------
Cash Flow from Investing Activities:
-------------------------------------
Capital expenditures (128) (15,215) (612) (15,955)
Business combinations, net of cash acquired - (1,489) - (1,489)
Net payments from sale of discontinued operations (3,360) - - (3,360)
Proceeds from sale of property and equipment 42 222 23 287
Other uses - net (524) (281) - (805)
---------------- ----------------- ---------------- -----------------
Net cash used by investing activities (3,970) (16,763) (589) (21,322)
---------------- ----------------- ---------------- -----------------
Cash Flow from Financing Activities:
-------------------------------------
Increase/(decrease) in cash overdrafts payable (139) 2,284 - 2,145
Change in intercompany accounts 38,715 (37,564) (1,151) -
Dividends paid to shareholders (4,739) - - (4,739)
Purchases of treasury stock (8,253) - - (8,253)
Proceeds from exercise of stock options 3,854 - - 3,854
Realized excess tax benefit on share based compensation 4,943 - - 4,943
Net increase in revolving credit facility 15,400 - - 15,400
Debt issuance costs (154) - - (154)
Repayment of long-term debt (84,363) (137) - (84,500)
Other sources - net 47 207 - 254
---------------- ----------------- ---------------- -----------------
Net cash used by financing activities (34,689) (35,210) (1,151) (71,050)
---------------- ----------------- ---------------- -----------------
Net increase/(decrease) in cash and cash equivalents (52,766) 324 723 (51,719)
Cash and cash equivalents at beginning of period 54,871 (1,419) 3,681 57,133
---------------- ----------------- ---------------- -----------------
Cash and cash equivalents at end of period $ 2,105 $ (1,095) $ 4,404 $ 5,414
------------------------------------------ ================ == ============== ================ =================
19
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Executive Summary
-----------------
We operate through our two wholly owned subsidiaries, VITAS Healthcare
Corporation and Roto-Rooter Group, Inc. VITAS focuses on hospice care that helps
make terminally ill patients' final days as comfortable as possible. Through its
team of doctors, nurses, home health aides, social workers, clergy and
volunteers, VITAS provides direct medical services to patients, as well as
spiritual and emotional counseling to both patients and their families.
Roto-Rooter's services are focused on providing plumbing and drain cleaning
services to both residential and commercial customers. Through its network of
company-owned branches, independent contractors and franchisees, Roto-Rooter
offers plumbing and drain cleaning service to over 90% of the U.S. population.
The following is a summary of the key operating results for the three and
nine months ended September 30, 2007 and 2006 (in thousands except per share
amounts):
Three Months Ended Nine Months Ended
September 30, September 30,
----------------------- ----------------------
2007 2006 2007 2006
------------ ---------- ---------- -----------
Consolidated service revenues and sales $ 272,503 $ 253,695 $ 814,329 $ 746,684
Consolidated income from continuing operations $ 16,916 $ 12,875 $ 42,570 $ 38,463
Diluted EPS from continuing operations $ 0.69 $ 0.48 $ 1.69 $ 1.44
For the three months ended September 30, 2007 compared to 2006, the
increase in consolidated service revenues and sales was driven by a 7.5%
increase at VITAS and a 7.2% increase at Roto-Rooter. The increase at VITAS was
primarily the result of a 4.6% increase in average daily census (ADC) from the
third quarter of 2006 and the October 1, 2006 Medicare reimbursement rate
increase. The increase at Roto-Rooter was driven primarily by increases due to
price and job mix changes. Job count was essentially unchanged for the three
months ended September 30, 2007 compared to 2006.
For the nine months ended September 30, 2007 compared to 2006, the
increase in consolidated service revenues and sales was driven by an 8.8%
increase at VITAS and a 9.5% increase at Roto-Rooter. The increase at VITAS was
primarily the result of a 6.9% increase in average daily census (ADC) from the
first nine months of 2006 and the October 1, 2006 Medicare reimbursement rate
increase. The increase at Roto-Rooter was driven primarily by a 1.2% increase in
job count combined with an approximate 8% increase due to price and job mix
changes.
In October 2007, we received notification from the Federal government's
fiscal intermediary regarding our Medicare cap liabilities related to the 2006
measurement period. The notification revealed that we were over accrued by $1.2
million, consisting of an under accrual related to continuing operations of
$714,000 and an over accrual related to our discontinued Phoenix operation of
$1.9 million. Prior to this, we had $9.5 million accrued for the 2006
measurement period related to 3 programs, including our discontinued Phoenix
program. The difference between our estimates and the amount calculated by the
Federal government's fiscal intermediary was primarily the result of allocations
made for patients transferring between our hospice programs and other providers.
We continue to believe that our estimation methodology provides a reasonable
basis to record potential Medicare cap liabilities.
Financial Condition
Liquidity and Capital Resources
Significant changes in the balance sheet accounts from December 31, 2006
to September 30, 2007 include the following:
o The decrease in accounts receivable from $93.1 million at December
31, 2006 to $81.7 million at September 30, 2007 is due mainly to the
timing of payments received from Medicare.
o The increase in current portion of long-term debt and long-term debt
is the result of our refinancing transactions described in detail
below.
o The decrease in long-term deferred income taxes of $22.9 million
relates mainly to the treatment of the premium payment made in
conjunction with our purchased call options described below.
o The increase in treasury stock of $133.9 million relates mainly to
our share repurchase program.
20
Net cash provided by continuing operations increased $54.4 million from a
source of cash by continuing operations of $35.7 million for the first nine
months of 2006, to a source of cash of $90.1 million for the first nine months
of 2007, due primarily to higher net income and the timing of cash collections
and payments in accounts receivable and accounts payable.
On May 2, 2007, we entered into a new senior secured credit facility with
JPMorgan Chase Bank (the "2007 Facility") to replace our existing credit
facility. The 2007 Facility includes a $100 million term loan, a $175 million
revolving credit facility and a $100 million expansion feature. The facility has
a 5-year maturity with principal payments on the term loan due quarterly and on
the revolving credit facility due at maturity. Interest is payable quarterly at
a floating rate equal to our choice of various indices plus a specified margin
based on our leverage ratio. The interest rate at the inception of the agreement
is LIBOR plus 0.875%. In connection with replacing our existing credit facility,
we wrote-off approximately $2.3 million in deferred debt costs. The write-off of
deferred debt costs has been recorded as loss on extinguishment of debt in the
accompanying statement of income.
On May 4, 2007, we used the proceeds from the 2007 Facility to fund the
redemption of our $150 million, 8.75% Senior Notes due 2011. The redemption was
made pursuant to the terms of the indenture at a price of 104.375% plus accrued
but unpaid interest. In connection with the redemption, we wrote-off
approximately $4.8 million in deferred debt costs. The premium payment of $6.6
million and the write-off of deferred debt costs have been recorded as loss on
extinguishment of debt in the accompanying statement of income.
On May 8, 2007, we entered into a Purchase Agreement with J.P. Morgan
Securities Inc. and Citigroup Global Markets Inc. (the "Initial Purchasers") for
issuance and sale of $180 million in aggregate principal amount of our 1.875%
Senior Convertible Notes due 2014 (the "Notes"). On May 9, 2007, the Initial
Purchasers exercised an over-allotment option to purchase an additional $20
million in aggregate principal amount of Notes. On May 14, 2007 a total of $200
million in aggregate principal amount of the Notes were sold to the Initial
Purchasers at a price of $1,000 per Note, less an underwriting fee of $27.50 per
Note. The Notes are to be resold by the Initial Purchasers pursuant to Rule 144A
of the Securities Act of 1933, as amended (the "Securities Act").
We received approximately $194 million in net proceeds from the sale of
the Notes after paying underwriting fees, legal and other expenses. Proceeds
from the offering were used to purchase treasury shares of our stock and to pay
down a portion of the 2007 Facility. We will pay interest on the Notes on May 15
and November 15 of each year, beginning on November 15, 2007. The Notes will
mature on May 15, 2014. The Notes are guaranteed on an unsecured senior basis by
each of our subsidiaries that are a borrower or a guarantor under any senior
credit facility, as defined in the Indenture. The Notes are convertible, under
certain circumstances, into our Capital Stock at a conversion rate of 12.3874
shares per $1,000 principal amount of Notes. This conversion rate is equivalent
to an initial conversion price of approximately $80.73 per share. Prior to March
1, 2014, holders may convert their Notes under certain circumstances. On and
after March 1, 2014, the Notes will be convertible at any time prior to the
close of business three days prior to the stated maturity date of the Notes.
Upon conversion of a Note, if the conversion value is $1,000 or less, holders
will receive cash equal to the lesser of $1,000 or the conversion value of the
number of shares of our Capital Stock. If the conversion value exceeds $1,000,
in addition to this, holders will receive shares of our Capital Stock for the
excess amount. The Indenture contains customary terms and covenants that upon
certain events of default, including without limitation, failure to pay when due
any principal amount, a fundamental change or certain cross defaults in other
agreements or instruments, occurring and continuing; either the trustee or the
holders of 25% in aggregate principal amount of the Notes may declare the
principal of the Notes and any accrued and unpaid interest through the date of
such declaration immediately due and payable. In the case of certain events of
bankruptcy or insolvency relating to any significant subsidiary or to us, the
principal amount of the Notes and accrued interest automatically becomes due and
payable.
Pursuant to the guidance in Emerging Issues Task Force ("EITF") 90-19,
"Convertible Bonds with Issuer Option to Settle for Cash Upon Conversion", EITF
00-19 "Accounting for Derivative Instruments Indexed to, and Potentially Settled
in a Company's Own Stock" and EITF 01-6 "The Meaning of Indexed to a Company's
Own Stock", the Notes are accounted for as convertible debt in the accompanying
consolidated balance sheet and the embedded options within the Notes have not
been accounted for as separate derivatives.
We, our subsidiary guarantors and the Initial Purchasers also entered into
a Registration Rights Agreement (the "RRA") dated May 14, 2007. Pursuant to the
RRA, we agreed to, no later than the 120th day after May 14, 2007, file a shelf
registration statement covering resale of the Notes and the Capital Stock
issuable upon conversion pursuant to Rule 415 under the Securities Act. On
August 17, 2007, we filed a shelf registration statement, that became
immediately effective, to register the Notes and Capital Stock issuable upon
conversion.
21
On May 8, 2007 we entered into a purchased call transaction and a warrant
transaction (written call) with JPMorgan Chase, National Association and
Citibank, N.A. (the "Counterparties"). The purchased call options cover
approximately 2,477,000 shares of our Capital Stock, which under most
circumstances represents the maximum number of shares of Capital Stock that
underlie the Notes. Concurrently with entering into the purchased call options,
we entered into warrant transactions with each of the Counterparties. Pursuant
to the warrant transactions, we sold to the Counterparties warrants to purchase
in the aggregate approximately 2,477,000 shares of Capital Stock. In most cases,
the sold warrants may not be exercised prior to the maturity of the Notes.
The purchased call options and sold warrants are separate contracts with
the Counterparties, are not part of the terms of the Notes and do not affect the
rights of holders under the Notes. A holder of the Notes will not have any
rights with respect to the purchased call options or the sold warrants. The
purchased call options are expected to reduce the potential dilution upon
conversion of the Notes if the market value per share of the Capital Stock at
the time of exercise is greater than approximately $80.73, which corresponds to
the initial conversion price of the Notes. The sold warrants have an exercise
price of $105.44 and are expected to result in some dilution should the price of
our Capital Stock exceed this exercise price.
Our net cost for these transactions was approximately $27.3 million.
Pursuant to EITF 00-19 and EITF 01-6, the purchased call option and the sold
warrants are accounted for as equity transactions. Therefore, our net cost was
recorded as a decrease in shareholders' equity in the accompanying consolidated
balance sheet.
Since May 2007, we have repaid $65.5 million of the $100 million term note
under the 2007 Facility using cash on-hand. Of the amount paid, $60.5 million
represents a prepayment. The following is a schedule by year of required
long-term debt repayments as of September 30, 2007 (in thousands):
September 2008 $ 10,161
September 2009 10,059
September 2010 10,059
September 2011 4,559
September 2012 58
Thereafter 200,000
--------------
Total debt 234,896
Less: Current portion (10,161)
--------------
Total long-term
debt $ 224,735
==============
We are in compliance with all debt covenants as of September 30, 2007. We
have issued $30.1 million in standby letters of credit as of September 30, 2007
mainly for insurance purposes. Issued letters of credit reduce our available
credit under the revolving credit agreement. As of September 30, 2007, we have
approximately $144.9 million of unused lines of credit available and eligible to
be drawn down under our revolving credit facility, excluding the expansion
feature.
Commitments and Contingencies
-----------------------------
Collectively, the terms of our credit agreements provide that we are
required to meet various financial covenants, to be tested quarterly. We are in
compliance with all financial and other debt covenants as of September 30, 2007
and anticipate remaining in compliance throughout 2007.
Like other large California employers, our VITAS subsidiary faces
allegations of purported class-wide wage and hour violations. It was party to a
class action lawsuit filed in the Superior Court of California, Los Angeles
County, in April of 2004 by Ann Marie Costa, Ana Jimenez, Mariea Ruteaya and
Gracetta Wilson ("Costa"). This case alleged failure to pay overtime wages for
hours worked "off the clock" on administrative tasks, including voicemail
retrieval, time entry, travel to and from work, and pager response. This case
also alleged VITAS failed to provide meal and break periods to a purported class
of California nurses, home health aides and licensed clinical social workers.
The case also sought payment of penalties, interest, and Plaintiffs' attorney
fees. VITAS contested these allegations. During 2006 we reached a tentative
settlement and on June 26, 2006, the court granted final approval of the
settlement ($19.9 million).
VITAS is party to a class action lawsuit filed in the Superior Court of
California, Los Angeles County, in September 2006 by Bernadette Santos, Keith
Knoche and Joyce White ("Santos"). This case, filed by the Costa case
Plaintiffs' counsel, makes similar allegations of failure to pay overtime and
failure to provide meal and rest periods to a purported class of California
admissions nurses, chaplains and sales representatives. The case likewise seeks
payment of penalties, interest and Plaintiffs' attorney fees. VITAS contests
these allegations. The lawsuit is in its early stage and we are unable to
estimate our potential liability, if any, with respect to these allegations.
22
Regardless of outcome, defense of litigation adversely affects us through
defense costs, diversion of our time and related publicity. In the normal course
of business, we are a party to various claims and legal proceedings. We record a
reserve for these matters when an adverse outcome is probable and the amount of
the potential liability is reasonably estimable.
In April 2005, the Office of Inspector General ("OIG") for the Department
of Health and Human Services served VITAS with civil subpoenas relating to
VITAS' alleged failure to appropriately bill Medicare and Medicaid for hospice
services. As part of this investigation, the OIG selected medical records for
320 past and current patients from VITAS' three largest programs for review. It
also sought policies and procedures dating back to 1998 covering admissions,
certifications, recertifications and discharges. During the third quarter of
2005 and again in May 2006, the OIG requested additional information from us.
The Court dismissed a related qui tam complaint filed in U.S. District Court for
the Southern District of Florida with prejudice in July 2007. The plaintiffs are
appealing this dismissal. Pretax expenses incurred related to complying with OIG
requests have been immaterial for the three and nine-month periods ended
September 30, 2007. We incurred pretax expense related to complying with OIG
requests and defending the litigation of $344,000 and $818,000 for the three and
nine months ended September 30, 2006, respectively.
The government may continue to investigate the complaint's allegations. We
are unable to predict the outcome of this matter or the impact, if any, that the
investigation may have on our business, results of operations, liquidity or
capital resources. Regardless of outcome, responding to the subpoenas and
defending the litigation can adversely affect us through defense costs,
diversion of our time and related publicity.
Results of Operations
Three -months ended September 30, 2007 versus 2006-Consolidated Results
-----------------------------------------------------------------------
Our service revenues and sales for the third quarter of 2007 increased 7.4%
versus revenues for the third quarter of 2006. Of this increase, $13.2 million
was attributable to VITAS and $5.6 million was attributable to Roto-Rooter, as
follows (dollars in thousands):
Increase/(Decrease)
--------------------------
Amount Percent
---------------- ---------
VITAS
Routine homecare $ 11,476 9.1%
Continuous care (1,219) -4.0%
General inpatient 1,031 4.7%
Medicare cap 1,897 72.7%
Roto-Rooter
Plumbing 2,636 8.1%
Drain cleaning 1,324 3.8%
Other 1,663 15.1%
----------------
Total $ 18,808 7.4%
================
The increase in VITAS' revenues for the third quarter of 2007 versus the
third quarter of 2006 is attributable to an increase in ADC of 5.4% for routine
homecare and a 3.2% increase in general inpatient care offset by a 7.6% decline
in continuous care. ADC is a key measure we use to monitor volume growth in our
hospice business. Changes in total program admissions and average length of stay
for our patients are the main drivers of changes in ADC. The remainder of the
revenue increase is due primarily to the annual increase in Medicare
reimbursement rates in the fourth quarter of 2006. In excess of 90% of VITAS'
revenues for the period were from Medicare and Medicaid. We recorded a $714,000
reduction in revenue in September 2007 related to Medicare cap billing
limitations for the 2006 measurement period for 3 programs. The adjustment for
the 2006 measurement period was due to the normal allocation of transferred
patients performed by the Federal government's fiscal intermediary. We did not
record any Medicare cap billing limitations related to the 2007 measurement
period. We recorded a Medicare cap billing limitation for the three months ended
September 30, 2006 of $2.6 million.
23
The increase in the plumbing revenues for the third quarter of 2007 versus
2006 comprises a 6.1% increase in the number of jobs performed and a 2.0%
increase caused by increased prices and job mix. The increase in drain cleaning
revenues for the third quarter of 2007 versus 2006 comprised a 3.2% decline in
the number of jobs offset by a 7.0% increase caused by increased prices and job
mix. The increase in other revenues is attributable primarily to increased
revenue from the independent contractor operations.
The consolidated gross margin was 29.2% in the third quarter of 2007 as
compared with 26.9% in the third quarter of 2006. On a segment basis, VITAS'
gross margin was 21.4% in the third quarter of 2007 and 18.6% in the third
quarter of 2006. The increase in VITAS' gross margin in 2007 is attributable to
a reduction in the Medicare cap expense in 2007 of $1.9 million, a
reclassification of approximately $1.0 million of costs from cost of revenue to
central support in 2007, as well as excess patient care capacity in the prior
year period. We corrected our excess capacity during the later part of the
second quarter and early part of the third quarter in 2006. The Roto-Rooter
segment's gross margin was 46.8% in the third quarter of 2007 and 45.4% in the
third quarter of 2006. The increase in Roto-Rooter's gross margin in 2007 is
primarily attributable to price increases and better retention of service
technicians, which enhances overall productivity of our workforce as well as
reduces our workers' compensation costs.
Selling, general and administrative expenses ("SG&A") for the third quarter
of 2007 were $42.5 million, an increase of $3.4 million (8.7%) versus the third
quarter of 2006. The increase is due to higher revenue, which increase our
variable selling expenses as well as the reclassification of approximately $1.0
million of costs from cost of revenue to SG&A at our VITAS subsidiary.
Income from operations increased $7.2 million from $23.4 million in the
third quarter of 2006 to $30.6 million in the third quarter of 2007. The
increase is primarily the result of the increase in sales and gross margin.
Interest expense, substantially all of which is incurred at Corporate,
declined from $4.1 million in the third quarter of 2006 to $2.5 million in the
third quarter of 2007. This decline is due primarily to the refinancing
transactions in May 2007, discussed above.
Other income-net decreased from $715,000 in the third quarter of 2006 to
$11,000 in the third quarter of 2007. The decrease is attributable to market
losses from investments held in our deferred compensation benefit trusts.
Our effective income tax rate was 30.6% in the third quarter of 2006
compared to 39.6% in the third quarter of 2007. The increase in the effective
income tax rate is due to a $1.8 million reduction in our tax provision in 2006
related to the expiration of certain statutes of limitations. No significant
adjustment was required in 2007.
Income from continuing operations increased $4.0 million or 31.4% in the
third quarter of 2007 as compared to the third quarter of 2006 due mainly to the
sales and gross margin increases as discussed above. The $1.2 million gain from
discontinued operations in the third quarter of 2007 relates to VITAS' Phoenix,
AZ program that we sold in November 2006. We received notification from the
Federal government's fiscal intermediary that we were over accrued with respect
to the Medicare cap by approximately $1.9 million on a pretax basis. The loss
from discontinued operations in 2006 also results from the Phoenix, AZ program.
Income from continuing operations and net income for both periods included the
following aftertax special items/adjustments that (increased)/reduced aftertax
earnings (in thousands):
Three Months Ended
September 30,
---------------------------
2007 2006
------------ --------------
Stock option expense $ 1,011 $ 379
Loss on extinguishment of debt 52 -
Legal expenses of OIG investigation 30 213
Loss from impairment of investment - 918
Costs related to class action litigation - 169
Tax adjustments upon expiration of certain statutes - (1,791)
------------ --------------
$ 1,093 $ (112)
============ ==============
24
Three-months ended September 30, 2007 versus 2006-Segment Results
-----------------------------------------------------------------
The change in aftertax earnings for the third quarter of 2007 versus the
third quarter of 2006 is due to (in thousands):
Net Income
Increase/(Decrease)
-------------------------
Amount Percent
--------------- ---------
VITAS $ 3,435 32.8%
Roto-Rooter 433 5.1%
Corporate 173 2.8%
Discontinued operations 6,115 124.4%
---------------
$ 10,156 127.6%
===============
Nine-months ended September 30, 2007 versus 2006-Consolidated Results
---------------------------------------------------------------------
Our service revenues and sales for the first nine months of 2007 increased
9.1% versus revenues for the first nine months of 2006. Of this increase, $45.3
million was attributable to VITAS and $22.3 million was attributable to
Roto-Rooter, as follows (in thousands):
Increase/(Decrease)
--------------------------
Amount Percent
---------------- ---------
VITAS
Routine homecare $ 43,818 12.2%
Continuous care (3,937) -4.4%
General inpatient 2,502 3.8%
Medicare cap 2,968 92.0%
Roto-Rooter
Plumbing 12,669 13.6%
Drain cleaning 5,787 5.4%
Other 3,838 11.3%
----------------
Total $ 67,645 9.1%
================
The increase in VITAS' revenues for the first nine months of 2007 versus
the first nine months of 2006 is attributable to an increase in ADC of 8.0% for
routine homecare and 1.5% for general inpatient care offset by a 7.2% decline in
continuous care. ADC is a key measure we use to monitor volume growth in our
hospice business. Changes in total program admissions and average length of stay
for our patients are the main drivers of changes in ADC. The remainder of the
revenue increase is due primarily to the annual increase in Medicare
reimbursement rates in the fourth quarter of 2006. We recorded a $714,000
reduction in revenue in September 2007 related to Medicare cap billing
limitations for the 2006 measurement period for 3 programs. The adjustment for
the 2006 measurement period was due to the normal allocation of transferred
patients performed by the Federal government's fiscal intermediary. We did not
record any Medicare cap billing limitations related to the 2007 measurement
period. We recorded a Medicare cap billing limitation for the nine months ended
September 30, 2006 of $3.2 million.
The increase in the plumbing revenues for the first nine months of 2007
versus 2006 comprises an 8.2% increase in the number of jobs performed and a
5.4% increase due to increased price and job mix. The increase in drain cleaning
revenues for the first nine months of 2007 versus 2006 comprised a 1.6% decline
in the number of jobs offset by a 7.0% increase due to increased price and job
mix. The increase in other revenues is attributable primarily to increased
revenue from the independent contractor operations.
25
The consolidated gross margin was 30.0% in the first nine months of 2007 as
compared with 27.6% in the first nine months of 2006. On a segment basis, VITAS'
gross margin was 22.1% in the first nine months of 2007 and 19.5% in the first
nine months of 2006. The increase in VITAS' gross margin in 2007 is primarily
attributable to $3.0 million less in Medicare cap billing reductions in 2007 as
well as excess patient care capacity in the prior year period. We corrected our
excess capacity during the later part of the second quarter and early part of
the third quarter in 2006. The Roto-Rooter segment's gross margin was 47.3% in
the first nine months of 2007 as compared to 45.4% in the first nine months of
2006. The increase in Roto-Rooter's gross margin in 2007 is primarily
attributable to price increases and better retention of service technicians,
which enhances overall productivity of our workforce as well as reduces our
workers' compensation costs.
SG&A for the first nine months of 2007 were $136.7 million, an increase of
$20.5 million (17.6%) versus the first nine months of 2006. The increase is
largely due to increased revenue which increases our variable selling expenses
as well as 2007 expenses of $7.1 million related to the LTIP and $3.0 million
related to stock option grants made in May 2007 and June 2006. LTIP and stock
option expense recorded in the first nine months of 2006 was approximately
$615,000.
Income from operations increased $16.8 million from $73.3 million in the
first nine months of 2006 to $90.1 million in the first nine months of 2007. The
increase is primarily the result of the increase in sales and gross margin.
Interest expense, substantially all of which is incurred at Corporate,
declined from $13.7 million in the first nine months of 2006 to $9.7 million in
the first nine months of 2007. This decline is due to the reduction in debt
outstanding that occurred in February 2006 when we refinanced and repaid a
significant portion of our debt as well as the refinancing transactions in May
2007, discussed above. The loss on extinguishment of debt is also the result of
the May 2007 refinancing transactions.
Our effective income tax rate was 39.0% for the first nine months of 2007
as compared to 36.4% for the same period of 2006. The increase in the effective
income tax rate is due mainly to a $1.8 million reduction in our tax provision
in 2006 related to the expiration of certain statutes of limitations. No
significant adjustment was required in 2007.
Income from continuing operations increased $4.1 million or 10.7% in the
first nine months of 2007 as compared to the first nine months of 2006.
Increased income from continuing operations was due to increases in sales and
gross margin in 2007, which was offset by the $13.8 million loss on
extinguishment of debt. The $1.2 million gain from discontinued operations in
the third quarter of 2007 relates to VITAS' Phoenix, AZ program that we sold in
November 2006. We received notification from the Federal government's fiscal
intermediary that we were over accrued with respect to the Medicare cap by
approximately $1.9 million on a pretax basis. The loss from discontinued
operations in 2006 also results from the Phoenix, AZ program. Income from
continuing operations and net income for both periods included the following
aftertax special items/adjustments that (increased)/reduced aftertax earnings
(in thousands):
Nine Months Ended
September 30,
--------------------------
2007 2006
------------ -------------
Loss on extinguishment of debt $ 8,778 $ 273
Long-term incentive compensation award 4,427 -
Stock option expense 1,952 391
Legal expenses of OIG investigation 117 507
Loss from impairment of investment - 918
Costs related to class action litigation - 169
Tax adjustments upon expiration of certain statutes - (1,791)
Gain on sale of Florida call center (724) -
Other (296) -
------------ -------------
$ 14,254 $ 467
============ =============
26
Nine-months ended September 30, 2007 versus 2006-Segment Results
----------------------------------------------------------------
The change in aftertax earnings for the first nine months of 2007 versus
the first nine months of 2006 is due to (in thousands):
Net Income
Increase/(Decrease)
---------------------------
Amount Percent
--------------- -----------
VITAS $ 9,789 29.4%
Roto-Rooter 6,410 28.2%
Corporate (12,092) -69.0%
Discontinued operations 6,646 122.1%
---------------
$ 10,753 32.6%
===============
27
The following chart updates historical unaudited financial and operating data
of VITAS: (dollars in thousands, except dollars per patient day)
Three Months Ended Nine Months Ended September
September 30, 30,
--------------------------- ---------------------------
2007 2006 2007 2006
------------ ------------ ------------ ------------
OPERATING STATISTICS
Net revenue (a)
Homecare $ 137,406 $ 125,930 $ 403,748 $ 359,930
Inpatient 22,861 21,830 69,068 66,566
Continuous care 28,921 30,140 85,650 89,587
------------ ------------ ------------ ------------
Total before Medicare cap
allowance 189,188 177,900 558,466 516,083
Medicare cap allowance (714) (2,611) (242) (3,210)
------------ ------------ ------------ ------------
Total $ 188,474 $ 175,289 $ 558,224 $ 512,873
============ ============ ============ ============
Net revenue as a percent of total
before
Medicare cap allowance
Homecare 72.6% 70.8% 72.3% 69.7%
Inpatient 12.1 12.3 12.4 12.9
Continuous care 15.3 16.9 15.3 17.4
------------ ------------ ------------ ------------
Total before Medicare cap
allowance 100.0 100.0 100.0 100.0
Medicare cap allowance (0.4) (1.5) (0.0) (0.6)
------------ ------------ ------------ ------------
Total 99.6% 98.5% 100.0% 99.4%
============ ============ ============ ============
Average daily census ("ADC") (days)
Homecare 7,039 6,480 6,914 6,231
Nursing home 3,567 3,587 3,572 3,479
------------ ------------ ------------ ------------
Routine homecare 10,606 10,067 10,486 9,710
Inpatient 412 400 417 411
Continuous care 511 553 512 553
------------ ------------ ------------ ------------
Total 11,529 11,020 11,415 10,674
============ ============ ============ ============
Total admissions 13,436 12,686 41,204 39,446
Total discharges 13,403 12,524 40,823 38,352
Average length of stay (days) 76.7 71.0 76.7 70.5
Median length of stay (days) 14.0 14.0 13.0 13.0
ADC by major diagnosis
Neurological 32.8% 33.6% 33.1% 33.4%
Cancer 20.3 20.1 19.9 20.1
Cardio 14.2 14.7 14.5 14.9
Respiratory 6.8 6.9 6.9 7.1
Other 25.9 24.7 25.6 24.5
------------ ------------ ------------ ------------
Total 100.0% 100.0% 100.0% 100.0%
============ ============ ============ ============
Admissions by major diagnosis
Neurological 18.2% 19.3% 18.5% 19.9%
Cancer 37.5 37.0 35.9 35.4
Cardio 12.1 12.4 12.8 13.2
Respiratory 7.1 6.7 7.6 7.2
Other 25.1 24.6 25.2 24.3
------------ ------------ ------------ ------------
Total 100.0% 100.0% 100.0% 100.0%
============ ============ ============ ============
Direct patient care margins (b)
Routine homecare 51.0% 49.1% 50.9% 48.8%
Inpatient 15.9 16.5 18.3 20.2
Continuous care 16.9 17.5 18.2 18.7
Homecare margin drivers
(dollars per patient day)
Labor costs $ 48.86 $ 48.28 $ 48.98 $ 49.25
Drug costs 7.88 8.46 7.95 8.10
Home medical equipment 5.65 5.66 5.73 5.57
Medical supplies 2.22 2.21 2.16 2.14
Inpatient margin drivers
(dollars per patient day)
Labor costs $ 274.64 $ 269.72 $ 263.11 $ 258.48
Continuous care margin drivers
(dollars per patient day)
Labor costs $ 490.94 $ 467.64 $ 479.83 $ 461.89
Bad debt expense as a percent of
revenues 0.9% 0.9% 0.9% 0.9%
Accounts receivable --
days of revenue outstanding 39.6 42.1 N.A. N.A.
--------------------------------------
(a) VITAS has 6 large (greater than 450 ADC), 15 medium (greater than 200 but less than 450 ADC) and
22 small (less than 200 ADC) hospice programs. There are two programs with Medicare cap cushion
of less than 10% for the 2007 measurement period.
(b) Amounts exclude indirect patient care and administrative costs, as well as Medicare cap billing
limitation.
28
Recent Accounting Statements
----------------------------
In February 2007, the FASB issued Statement No. 159, "The Fair Value Option
for Financial Assets and Financial Liabilities" ("SFAS 159"), which permits an
entity to measure certain financial assets and financial liabilities at fair
value. Entities that elect the fair value option will report unrealized gains
and losses in earnings at each reporting date. The fair value option may be
elected on an instrument-by-instrument basis, with a few exceptions, as long as
it is applied to the entire instrument. The fair value election is irrevocable
unless a new election date occurs. SFAS 159 is effective as of the beginning of
the first fiscal year that begins after November 15, 2007. We believe there will
be no impact on our financial condition and results of operations as a result of
the adoption of SFAS 159.
In September 2006, the FASB issued Statement No. 157, "Fair Value
Measurements" ("SFAS 157"), which addresses how companies should measure fair
value when they are required to use a fair value measure for recognition or
disclosure purposes under generally accepted accounting principles (GAAP). It
sets a common definition of fair value to be used throughout GAAP. The new
standard is designed to make the measurement of fair value more consistent and
comparable and improve disclosures about those measures. This statement is
effective for financial statements issued for fiscal years beginning after
November 15, 2007. We are currently evaluating the impact SFAS 157 will have on
our financial condition, results of operations and footnote disclosures.
Safe Harbor Statement under the Private Securities Litigation Reform Act of 1995
--------------------------------------------------------------------------------
Regarding Forward-Looking Information
-------------------------------------
In addition to historical information, this report contains forward-looking
statements and performance trends that are based upon assumptions subject to
certain known and unknown risks, uncertainties, contingencies and other factors.
Variances in any or all of the risks, uncertainties, contingencies, and other
factors from our assumptions could cause actual results to differ materially
from these forward-looking statements and trends. Our ability to deal with the
unknown outcomes of these events, many of which are beyond our control, may
affect the reliability of projections and other financial matters.
Item 3. Quantitative and Qualitative Disclosures about Market Risk Our primary
market risk exposure relates to interest rate risk exposure through
variable interest rate borrowings. At September 30, 2007, we had $34.9 million
of variable rate debt outstanding. A 1% change in the interest rate on our
variable interest rate borrowings would have a $349,000 full-year impact on our
interest expense. At September 30, 2007, we believe the fair value of our Senior
Convertible Notes approximates $196.7 million.
Item 4. Controls and Procedures
We carried out an evaluation, under the supervision of our President and
Chief Executive Officer and with the participation of the Vice President and
Chief Financial Officer and the Vice President and Controller, of the
effectiveness of the design and operation of our disclosure controls and
procedures as of the end of the period covered by this report. Based on that
evaluation, the President and Chief Executive Officer, Vice President and Chief
Financial Officer and Vice President and Controller have concluded that our
disclosure controls and procedures were effective as of the end of the period
covered by this report. There has been no change in our internal control over
financial reporting that occurred during the quarter covered by this report that
has materially affected, or is reasonably likely to materially affect, our
internal control over financial reporting.
29
PART II OTHER INFORMATION
Item 6. Exhibits
Exhibit No. Description
------------ ---------------------------------------------
31.1 Certification by Kevin J. McNamara pursuant
to Rule 13a-14(a)/15d-14(a) of the Exchange
Act of 1934.
31.2 Certification by David P. Williams pursuant
to Rule 13a-14(a)/15d-14(a) of the
Exchange Act of 1934.
31.3 Certification by Arthur V. Tucker, Jr.
pursuant to Rule 13a-14(a)/15d-14(a) of the
Exchange Act of 1934.
32.1 Certification by Kevin J. McNamara pursuant
to Section 906 of the Sarbanes-Oxley Act of
2002.
32.2 Certification by David P. Williams
pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
32.3 Certification by Arthur V. Tucker, Jr.
pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
30
SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Chemed Corporation
----------------------------
(Registrant)
Dated: November 1, 2007 By: Kevin J. McNamara
------------------- ----------------------------
Kevin J. McNamara
(President and Chief
Executive Officer)
Dated: November 1, 2007 By: David P. Williams
------------------- ----------------------------
David P. Williams
(Vice President and Chief
Financial Officer)
Dated: November 1, 2007 By: Arthur V. Tucker, Jr.
------------------- ----------------------------
Arthur V. Tucker, Jr.
(Vice President and
Controller)
31