Brian Tanquilut — Analyst, Jefferies
Hey, good morning, guys. Maybe my first question is, I think about your comments on the cap, right? It sounds like we shouldn't see any impact or carryover of that after Q3. If you can walk us through the levers you're pulling to ensure that that happens, and then maybe how you're thinking about the carryover impact of that in 2026 on margins and the growth rate in VITAS revenues. Thanks.
Kevin McNamara — CEO and President, Chemed Corporation
Mike, why don't you start with some of the technical aspects?
Mike Witzeman — CFO, Chemed Corporation
Sure. From a levers standpoint, we're still emphasizing hospital admissions, short-stay patients over long-stay patients. That's, I think, job number one in the levers we're pulling. The other thing to keep in mind is the community access program that we ran in 2022, 2023, and some part of 2024 has created a bubble of long-stay patients. Those patients will, just by definition of what we do, attrit over time. That bubble is going to moderate just with the passage of time as well. I think shorter-stay patients and the moderation of the bubble we essentially created with the community access program will certainly help over time. As far as adjusted EBITDA margins, probably, and we haven't put pen to paper, so I'm speculating a little bit, but they're going to be below, say, what we were in 2024, which is a little over 19%.
I'm guessing, and again, we haven't really put pen to paper, but I would suggest maybe 17.5%-18.5% is probably a pretty good range for 2026. Again, we're coming up with those numbers as we speak.
Kevin McNamara — CEO and President, Chemed Corporation
Yeah, I'd just like to reiterate some of the things Mike said with regard to why it was that we have a cap problem this year. It started with the fact that the national rate for hospice went up approximately a little over 2% last year. That's what the cap limitation, the cap percentage, goes up to, that number. The differential, or 3%, I said 2%. 2% delta, we got 5% in Florida. That 2% delta is about $22 million. In other words, we started the year with the fact that the same reimbursement, the rate of reimbursement we were currently getting then, was going to be $22 million higher than the cap limitation that we were going to face in the 2025 cap year. We started last year, 2024, with about a cushion of about $15 million, a little over $15 million.
We said, okay, we've got to make some, you know, we have to make some changes. It turns out that we were on par to make those changes. Two terrible months with regard to admissions, for whatever reason, occurred in April and May. That was enough to knock us off the trend that we were on. Given the fact that we were starting with an approximately $22 million hole to get out of, that explains why 2025 is so unusual. The other point that I was going to make with regard to this bubble of patients that we're going through, the bubble is getting smaller at this point. I think, and this is going into something very subjective, but during the pandemic, we saw a change in the type of, we're talking about super elderly patients. A lot of those super elderly patients, with COVID, perished.
The ones that came out the other end were a little bit hardier and tended to have, for us, a very long length of stay. Our average length of stay went up substantially, particularly in Florida. Those conditions are abating. Those are two significant levers. The other thing, not to be discounted, is something that VITAS is spending night and day working on, which is getting a good running start on the new CON properties for our programs. I think that should, that almost alone is enough to carry the day. Be that as it may, yes, we are very confident that on a run rate basis, we're not looking at any, we're projecting a surplus next year. Let's put it that way. I would also say that we've always been attuned to cap in Florida, but we've never had a cap in Florida.
I mean, yes, the organization starting at the Chemed level has changed its orientation and its attention levels to this issue, and we're confident we will keep it under control. In other words, internally, we say it's 19 going to 0, not 19 going to 40. We're pretty confident on that.
Brian Tanquilut — Analyst, Jefferies
That makes sense. Maybe, Kevin, just to follow up on that comment you made about the COVID impact. Is that, you think, what's driving the relative underperformance or kind of just trend below average on admissions? I mean, 4.9, pretty good number, but still below trend. Just curious what your thoughts are. Is that just the flow-through of hospital admissions being soft as we look at the HCAs and Tenets of the world putting up lower admissions?
Kevin McNamara — CEO and President, Chemed Corporation
I think it's possible, but I think the biggest issue in that is, remember, basically all of Florida averaged this 5% increase for this planned year. That put pressure on hospices everywhere in Florida to avoid a cap. Some of the dynamics for attracting particularly short-stay patients changed. The answer to your question is, why is it 4.9% instead of 6.9% as far as increase? You might say, a little bit harder fight on the short-stay patients. Again, we don't have the community access orientation. We're not pushing to, we could admit a lot more patients and have a lot more revenue, but the number one thing we're trying to avoid is providing service for free and not getting any reimbursement for it.
Mike Witzeman — CFO, Chemed Corporation
I think the proof in the pudding is that, as Kevin made in his prepared remarks, hospital admissions in the quarter were up over 9%. The thing that brings that down is that we are admitting fewer patients from all the long-stay pre-admission locations like ALFs. That's intentional for the Medicare cap. In total, in aggregate, you're right, the 4.9% is a little bit less than the admissions we've had in the past. There's some intentionality to that because the hospital admissions are the ones we're really focused on, and we have to take in fewer admissions from those long-stay things to right-size the patient mix in our portfolio in Florida.
Brian Tanquilut — Analyst, Jefferies
Yeah, it makes a lot of sense. Thank you so much. Appreciate it.
Ben Hendrix — VP, RBC Capital Markets
Great. Thank you very much. Appreciate the commentary around those post-COVID demographic factors that point to a more stable cap environment next year. I wanted to talk a little bit about the assumption you made for 4Q this year and into next about the spread between the wage-adjusted or wage-indexed rates and the cap, and your assumption that that doesn't persist. Can you talk a little bit about how you're thinking about that ahead of the final rate and what’s informing your view that that might not persist?
Kevin McNamara — CEO and President, Chemed Corporation
Let me start by saying, it's a good thing if it's higher. As far as we're concerned, we want it to be as high as possible. We will manage the business as though it was the same as the national average. In other words, if it comes in at 5% and, I mean, if the national average comes in at 2.1% and it comes at 4.1% for Florida, that would be a good thing. All we're saying is that probably the first month or the first quarter, the first numbers you'll see, we'll probably assume that there'll be a Medicare cap in Florida equal to that difference. We will manage the business as though we were just getting a 2.1% increase. In other words, we'd have it in a sense of reserve. We would reserve anything over that national average.
To the extent the admissions then, in fact, came in, they would all fall to the bottom line. I mean, it would, but we wouldn't get to the position we're in this year, which is being dependent on a continuation of a positive trend, for instance. It is a good thing if it's higher. To answer your question, I think it will be a little bit higher. Just because you look at the factors that we look at that are informative on a prediction of rate suggest that Florida is higher than the national average. It will be a good thing if it's higher, but we'll manage differently this year than last year. Does that make sense?
Ben Hendrix — VP, RBC Capital Markets
Absolutely. That's very helpful. I appreciate that color. On the Roto-Rooter side, I think you noticed in, or mentioned in recent quarters that there were some local management issues at some of the locations that had driven some weakness. I was just wondering if there's any linkage between efforts you've made or initiatives you have at the local management level and some of the recovery you've seen in June and July.
Mike Witzeman — CFO, Chemed Corporation
I don't think, I think we're pretty much past the management issues that we've talked about in the past. I think a lot of those were caused by people, particularly private equities poaching some of our management, not only General Managers, but also the next level down where we have Water Restoration Managers. I think that's pretty much abated. I do think that in general, if you look at our management team in the field, not at the corporate level, but at the field, probably the tenure is a lot less than it would have been, say, pre-pandemic. I don't think, I think we're past that now. There's always going to be, we have 51 branches, all with General Managers, all with Excavation Managers. There's always going to be a subset of those that are going to be on some sort of performance improvement kind of plan.
I think we're more in a normal cycle as it relates to managers. I don't think that's a huge factor.
Kevin McNamara — CEO and President, Chemed Corporation
No, I would say if I was to summarize, just to think of remedy, you know, to answer your question, if I saw two issues currently at Roto-Rooter revenue, they'd be, and they're not small. The small one is that Mike, what Mike mentioned is, you know, we had a new insurance program for basically general casualty last year. I mean, it also covered workers' comp and whatnot. Workers' comp costs tend to go higher as revenue goes down. Employees are more likely to take time off for injuries, that type of thing. That was a little bit higher than it's usually a credit for us because we're pretty conservative in our accounting for that. It's usually a credit.
When they did the, and on the casualty side, it came as a surprise because you look at the number of car accidents and the severity of car accidents, they were reduced. They were lower than the expectation. You might say when we expected the outside firm to analyze our exposure, given the fact that there were some differences in our ultimate coverage for those accidents, we expected a credit. It came out to a big negative. It was half of our decline of the margin in Roto-Rooter. Do we expect that to reoccur? No. We're continuing to work on the safety, and our actual results with regard to the number of accidents and severity is getting better. I think that, but that's an issue that wrecked the second quarter in many respects for Roto-Rooter.
Their sales, aside from the fact that they also had a bad April and May, no question about it. They're there. I would put all the other issues as one other, what's the problem at Roto-Rooter? Why is it underperforming? It's not management. It's not the labor force. The labor force has good close rates. We have good retention. As Mike said, the outflow of managers, the private equity firms, if anything, is reversing. They're realizing trees don't grow to heaven, and they're coming back or attempting to come back, some of the managers. The biggest issue is the phone is not ringing like it did in the past. One answer for that is that most, currently, and this is changing, we're in the process of making some groundbreaking changes with AI and whatnot. The phone's not ringing as much.
Where potential customers go, they go to the internet, they go to Google. If you were to type in Roto-Rooter plumbing in Google, before you even see the word Roto-Rooter, there'd be probably four other advertisements for rival plumbing. It's just, Google does an excellent job monetizing that monopoly position. It's changing. We're making adjustments. Mike made a reference to the fact that we used to get 60% basically of order output, as we used to get 40% of our calls from paid search. Now it's 50%. The reason that is, is because the free ones, where we used to appear on maps on the Google entries, we don't appear anymore. They're saying if we can get money for making them pay for advertisements, we'll make sure they don't show up in the free areas. We deal with it. It's a bit of adjustment for us.
I think we ultimately will win that battle. We're doing better, I think, at this point every month. It all relates to what's the problem with Roto-Rooter. The phone isn't ringing as much as we'd like it to, plain and simply. We've got the workforce. Our development of water restoration and the continued refinement of our excavation business, we're as much of an excavation and water restoration business as we are plumbing and drain cleaning at some point. One business feeds the other. A lot of our services are those ancillary services. We have no worry with regard to the long-term persistence of success at Roto-Rooter. A bit of a problem right now, no question about it. We have to say that we've really had some tough issues at Roto-Rooter, but it's not nearly as many on the horizon. Mike, anything, what's your reaction to that?
Mike Witzeman — CFO, Chemed Corporation
Yeah, I would say there's no doubt, as we've talked about in the past, that the private equity competition is hurting us, particularly on the drain cleaning and the plumbing side. The number of jobs we do in those two segments are continuing to decline slightly. We would love to see those increase. We're doing everything we can to combat that. One of the things you see in the results specifically is, as Kevin mentioned, we are doing a much better job at identifying and converting add-on sale opportunities. We've really supported the revenue at Roto-Rooter with water restoration and excavation, which a lot of our private equity competitors do not do. We're never going to be in a place where we offer $77 or $88 drain cleaning. We view that as a race to the bottom, and we're not going to engage in that.
Kevin McNamara — CEO and President, Chemed Corporation
It's the loss leader. They're doing that for air conditioning business, really, is why they're offering that.
Mike Witzeman — CFO, Chemed Corporation
We're doing everything we can to combat that, get around that. We've talked a lot about the app. We've talked about the service agreements that we've started selling. Like I said, our conversion rate is higher now than it's ever been. In the second quarter, we converted almost 50% of our leads to paying jobs, which is significantly higher than the historical average. I think we're doing a great job when the calls come in. We would like to have more calls, but I think from an operating standpoint, we're doing a really good job at Roto-Rooter, making sure that every opportunity is converted to a paying job.
Ben Hendrix — VP, RBC Capital Markets
I appreciate that color, guys. Last thing for me, just if you could comment on the tax rate favorability you saw in the second quarter. I just want to see if that's a timing issue or what was behind that. Looks like about 120 basis points sequential, decline in effective tax rate. That's it for me. Thank you.
Mike Witzeman — CFO, Chemed Corporation
It's a bit of an accounting thing, but we get a credit when people exercise stock options. The company gets essentially a larger tax deduction when the stock option, with what they realize compared to what we've recorded as the expense. It's just a function of how the accounting works. Obviously, with where our stock price is, we haven't had too many stock option exercises in the quarter. That really drives the change in the rate. When we get a credit in our expense, when we have a lot of exercises, it drives down the rate. We didn't have as many exercises in the second quarter, and that's really the big driver.
Joanna Gajuk — Analyst, Bank of America
Hey, good morning. Thanks so much for taking the question. First on VITAS, the comment around the weaker admissions, right, especially the short-stay in Florida. Why that came at that time versus earlier if you're saying that everyone was chasing, so to speak, these short-stay patients? Why did it show up kind of later versus, say, when the Medicare cap situation started already in October of 2024? What gives you confidence in being able to get this higher mix of short-stay patients going forward?
Mike Witzeman — CFO, Chemed Corporation
Joanna, I think our confidence in the higher things going forward is really that we've seen a trend. April and May were pretty bad. Before that, I think we were on track. June and July seemed to be back on track. I can't tell you exactly why April and May weren't that strong. What I can tell you is when we model out the current operating statistics that we have for June and July, we are pretty confident in the $19 million number for 2025. We are also pretty confident, excluding the impact of the rate issue, that 2026 will not have a cap problem.
Kevin McNamara — CEO and President, Chemed Corporation
Let's say this. We need, we like admits, number one. We like all admits. We want the mix to be right. How do you get a lot of admits? You have a good reputation. You keep doing what we've been doing. We could probably have 5% higher admits right now if there was no Medicare cap limitation just by snapping our fingers. That's there, it's more than doable. How do you get the right mix is really your question, Joanna. The answer is, it's by what we've historically said, pulling the right levers. It's emphasis. It's where your salespeople are calling. It's how fast you respond to a lead, where somebody has expressed an interest in having a meeting or a discussion. You make sure that with regard to the hospital referral, you make sure you're there within an hour.
It's that type of emphasis which can put this over the top. Just so you know what we're talking about, we're talking about small changes. We're talking about small improvements affecting the results by 1% or 2%, which is more than what we're talking about as far as the issues we're facing. I'll just say that one of the things, the point that I made during the point is the type of things we've done in the past when we wanted to emphasize more short-stay admissions were a little less, they were a little more unavailing just because other people were doing the same thing. They were following our lead. We just had to refine our efforts. As Mike suggested, the results of those refined efforts are suggested to be more than adequate. We'll continue those, and we'll continue to refine them.
Joanna Gajuk — Analyst, Bank of America
All right. The other piece, when you were talking about your confidence in not having the comp issue, is the new counties that you're entering in Florida. Can you talk about the ramp-up there? Is there a way to think like how much offsets could come from that growth in Florida?
Kevin McNamara — CEO and President, Chemed Corporation
Let's put it this way. We think it's tough. I mean, because we, you know, we're new in one, and it's been a big success. Pinellas County is one that we got most recently. It's big. I mean, I'll just give you an order of magnitude. Mike, what do you say? There's 8,800 admits?
Mike Witzeman — CFO, Chemed Corporation
Yeah, 8,600 admits in 2024.
Kevin McNamara — CEO and President, Chemed Corporation
If you multiply that number by $36,000, you see that that's maybe $350 million for coverage for Medicare cap billing. The opportunity is there. Now, with regard to, let's say, Pinellas County, we just have awarded it. There are elements of finalization and dealing with appeals that we have to do. In our projections, where I said we're projecting no cap in the fourth quarter or any significant cap next year, that does not depend on Pinellas County.
Mike Witzeman — CFO, Chemed Corporation
None of our projections include any projection for Pinellas County.
Kevin McNamara — CEO and President, Chemed Corporation
Now, if you ask me, will we be operating and thriving in Pinellas County in the next governor plan year? I have no doubt we will. That is not the basis. Our basis is just making slight improvements in the state as well as a whole. Those are, we mention those regularly for the next, it begs the question, what about the next year? The answer is Pinellas County, for one, should be booming by then. Let's put it that way.
Mike Witzeman — CFO, Chemed Corporation
Yeah, I mean, ultimately, the new CON locations will buy us a little bit of extra time to right-size the patient mix, which is what we're doing and which is what we've talked about for, you know, the second half of 2025 and all of 2026.
Joanna Gajuk — Analyst, Bank of America
Right. I guess you alluded to the idea of like you don't know for sure in the Florida rate update yet, right, because we didn't see the details yet. It sounds like you, based on some other data points, where you're thinking that it's likely that it's going to be some of that issue with, repeat. It sounds like you think it's smaller, right? I guess you're saying that despite the fact that you think that there's a consideration that there could be the gap built out, there's enough of these other things you could do in terms of the mix, and then potentially, you know, that's not even a considerate the new counties, right?
Mike Witzeman — CFO, Chemed Corporation
Right. Our current models would show that we are projecting a $15 to $20 million cushion next year in Florida. That does not include any potential credit we could get in Pinellas County. It also doesn't include any of the rate differential. I think we've done some analysis on what we think the hospital wages look like in Florida. We think it is going to be above the national average. Having said that, what we saw in 2025 was a wider spread than we've ever seen in the 20 years we've owned VITAS. Keep in mind.
Kevin McNamara — CEO and President, Chemed Corporation
I don't know that we would expect that to continue, but even if it does, we will manage to that number either way.
Mike Witzeman — CFO, Chemed Corporation
We want it to be as high as possible.
Kevin McNamara — CEO and President, Chemed Corporation
Okay. We'd like it to, we'd like a 3% delta. I mean, give us, but we would reserve it. In other words, all we're saying in that case, if they get, if there was a 2% delta, if we got 4% in Florida and 2% nationwide, that Medicare cap limitation went up 2%. The first month, what we would do in our results, until proven otherwise, we would take, we would then say we have quote Florida Medicare cap billing limitation until we, you know, and we'd take the money that we got from the government. We'd set it aside knowing we were probably going to have to give it back unless the admits, you know, came in the door, the additional admit. It's a heads, you win, tails, you don't lose situation if the cap is high.
If the increase in reimbursement is higher than Florida national average, it's good.
Mike Witzeman — CFO, Chemed Corporation
Ultimately, what we're trying to say, Joanna, is that our current operating model and the current trends that we're on will not result in any cap in 2026. There's an unknown with the rate differential. We'll deal with that when that comes. We'll let you know what it is when it comes. Our current operating model will suggest that we will not have any cap.
Kevin McNamara — CEO and President, Chemed Corporation
It's a little bit like.
Mike Witzeman — CFO, Chemed Corporation
If we tried to put into the model some sort of rate differential, it would purely be a swag. We don't think that that makes sense to do, when we're trying to essentially portray that the 19% is going to 0%, not 19% to 50%, as Kevin mentioned.
Kevin McNamara — CEO and President, Chemed Corporation
I guess what you'll see next year, and I'm putting myself in your position, you say, okay, what should we do for estimates and expectations? Just for Florida, you should assume that the Medicare cap limitation will go up in a sense, the national average. Anything above that, ignore because we will, it'll be like California for us. In other words, we know right now California is very profitable. Why not? We make all our estimates. We say, you know, okay, there's going to be about $8 million of cap in the state. If we got an increase of, if it was 2% higher than the national average, we'd say, well, technically, we're going to come in exactly where we thought, but we will have a Medicare cap reporting of, in Florida, in that case, all things being equal, let's say $20 million. Okay? We would know that.
We would state that on the day that we had the information from the Florida reimbursement, you know, what it was. We will ignore that internally. We suggest analysts kind of ignore that and just say, you know, they may have to give $20 million back to the state of Florida, but there's a good chance they'll do better than that and have to give less or none back to the federal government. I mean, it, we'll see how it comes, but it's not a big issue to us. Our view is, we're not holding our breath waiting for that number. The bigger it is, the better upside for us, but we're going to try and make it next year for everyone, for people whose job it is to predict and analyze the results of the company, a non-entity, something that does not affect the ultimate task that you're doing.
Does that make sense, Mike? I have a,
Mike Witzeman — CFO, Chemed Corporation
Yeah.
Kevin McNamara — CEO and President, Chemed Corporation
I mean, it's kind of a tough one because we, it sounds like a bogeyman, Medicare cap, but that wouldn't surprise me at all if it's different. I mean, what are the odds it's going to be exactly the same?
Mike Witzeman — CFO, Chemed Corporation
Right. Right.
Joanna Gajuk — Analyst, Bank of America
All right. Thanks for that. Maybe just quickly on the other business, just to clarify, you called out this higher insurance, I guess, accrual in the quarter, and then you said something about you don't think it's going to persist, but you did lower your margin for the segment, for the Roto-Rooter segment by 200 basis points. Do you assume that the issues you're seeing in Q2 persist for the rest of the year?
Kevin McNamara — CEO and President, Chemed Corporation
First of all, there's a catch-up element to it. I mean, the extents we took is more than what we took in the, you know, effectively a quarter is more than one quarter's result impact, number one. Number two, the point that if Roto-Rooter can continue to do a good job reducing the number of accidents and the severity of them, it's got nowhere to go but down. Let me start by saying that we had a new, you know, based on the insurance market, we have a new policy, different deductible, different elements. There are some adjustments we have to make as far as managing it. No, we don't expect big surprises in the Roto-Rooter expense side of that regard. When I say don't persist, there's no magic bullet other than it was a lot to take in in one quarter, number one.
Number two, we're going to do a better job managing and predicting it. Ultimately, the answer to your question, Joanna, is just that our emphasis on safety and reducing those types of expenses, doing a much better job monitoring the insurance adjusters who are settling these claims, that type of thing, that's where we're going to see the improvement. If you combine it with good experience and much more emphasis on what happens after the accident occurs, there's a lot of confidence on our part that, you know, that level of expense you saw and the level of deterioration in the margin that you saw in the second quarter will not persist.
Mike Witzeman — CFO, Chemed Corporation
As Kevin mentioned, in the almost $5 million extra hit we took, there's probably at least some of that that is out of period. Just so you know, when you're doing your model, Joanna, we did include an increase in those costs of $4 million in total for the second half of the year. We didn't want to be caught short again, not at least considering those costs in the guidance we put out.
Kevin McNamara — CEO and President, Chemed Corporation
The improvements that I'm talking about will take some time to put in.
Mike Witzeman — CFO, Chemed Corporation
In the guidance that we've put out, Roto-Rooter has baked in $4 million, so $2 million each quarter of additional expense for this issue. Could it be better than that? We think it could be, but it's hard to say, but we didn't want to get caught short.
Kevin McNamara — CEO and President, Chemed Corporation
We won't have a hard bat until the next report by the outside auditing firm.
Joanna Gajuk — Analyst, Bank of America
All right. That's helpful. If I may say a last one on capital deployment, raise the cash flow pretty good. Note that, yes, there's, you know, issues in one business and the other. Do those things change your view of things? I want to say, you did this hospice acquisition, and at that time, you kind of were alluding that there could be more like that. Can you kind of refresh your commentary around that? Is there any change in that thought process around maybe there's some consolidation in the hospice to be done? Thank you.
Mike Witzeman — CFO, Chemed Corporation
There's no change in strategy, Joanna. We would love to make acquisitions that are at the right valuation and on the VITAS side in the right location. We continue to monitor and have those conversations. It's a bit of a long lead time because we're contacting people, we're contacting organizations, essentially cold calling them in some instances to see their appetite for making such a transaction. There's a bit of a long lead time for those, but there's no change in the direction of what we would like to do. Having said that, regardless of the cash or what's on, you know, no debt on the balance sheet, we're not going to just buy things to grow. They have to be at the right valuation. They have to be at the right place in the right location.
I would also tell you, there's no change in the idea that because of the strength of our balance sheet, significant share buybacks and acquisitions are not mutually exclusive. We can do both. That's why we've kept the balance sheet the way it is. I would expect some movement in the third quarter, probably on a share buyback perspective, but otherwise, there's no change to our overall strategy.
Joanna Gajuk — Analyst, Bank of America
Great. Thank you.
Kevin McNamara — CEO and President, Chemed Corporation
I just want to thank everyone for their kind attention. It was going to be a tough quarter for our operating units, and I think we're well on the way to improving the outlook. We'll see in our next report three months from now. Thank you.