Rotech, Lincare and Competitive Bidding: How Will It All Play Out?

ATLANTA — Questions and concerns swirled around the HME
sector this week as news surfaced that Rotech Healthcare had netted
17 competitive bidding
contracts despite its shaky financial history and Lincare Holdings
might not be a player at all in the controversial project.

HME stakeholders were unnerved by a 32 percent average rate cut
announced for Round 1 of the bidding program July 1. The Rotech
announcement rattled them even more.

Did competitive bidding kill good business sense? That’s what
Barry Johnson wondered. The president of the Texas Alliance for
Homecare and longtime owner of Texas Medical in Duncanville, Texas,
Johnson was disturbed at Rotech’s news.

The Orlando, Fla.-based respiratory company said it was awarded
contracts for six MSAs in oxygen supplies and equipment; six
for enteral nutrients, equipment and supplies; two for CPAP, RADs
and related supplies and accessories; and two for standard power
wheelchairs, scooters and related accessories. Rotech intimated it
might accept more contracts if offered them by CMS.

Yet the oft-troubled company had been trading in mere cents; on
July 12 when it announced its contracts, Rotech’s stock closed at
$0.87; the closing price was $1 on July 14. First-quarter financial
results show the company $514.6 million in debt with $58.7 million
in cash. The Accredited Medical Equipment Providers of America
noted that in a May 10 filing with the Securities and Exchange
Commission Rotech said the company “may be required to consider all
of our alternatives in restructuring our business and our capital
structure, including filing for bankruptcy protection.”

Rotech anticipates losing $900,000 in the Round 1 MSAs in the
first quarter of 2011, according to Philip J. Carter, CEO.

New Business Model?

“Is this the new business model, that if you owe a half a
billion dollars, it’s OK to go $3.6 million in further debt [for
the year] and probably more than that because insurance companies
are going to cut their [reimbursement], too?” asked an incredulous
Johnson. “Is that the Harvard business model these days? I think
not.”

Johnson said he cannot fathom why a company that was already in
deep debt would willingly accept contracts that would push it
further.

“I was just wondering, have we missed something here? Is there
something I don’t know about? Is that the kind of business model
we’re supposed to be planning for, that kind of loss with
competitive bidding? I’m at a loss at to understand why they would
want to do that.

“They are just digging a hole deeper, and then what’s going to
happen to the people, all in the name of market share?” he
added.

That’s what concerns Esta Willman, too. Willman, owner of
Medi-Source Equipment & Supply in Yucca Valley, Calif., is
deeply worried about the bidding fallout.

If a large national like Clearwater, Fla.-based respiratory
company Lincare, for example, does not land contracts, what happens
to its customers?

“What happens if a large national doesn’t get a contract in
their product category and they decide not to grandfather their
patients in in the [competitive bidding area]?” Willman asked.

Willman, a member of CMS’ Program Advisory and Oversight
Committee, said she knows the agency anticipates most suppliers in
the Round 1 CBAs will take advantage of the option to continue
serving their Medicare patients under the grandfather provision.
But the rates are so low that Willman is concerned they may not.
What will the contract providers do with a deluge of patients, whom
they will be required to accept?

“If the demand placed on [contract suppliers] far exceeds their
capacity, it could be big trouble in patient access,” she said.

Willman said most, if not all, providers could handle a bit more
than their stated capacity. “Everybody has some excess [inventory]
that is not being used and that can be put into play,” she
said.

That is particularly true of the Rotechs and Lincares of the HME
world. Rotech has 450 locations in 48 states to draw from; Lincare
has 1,071 locations in 48 states. But if large numbers of patients
are suddenly foisted on the few providers left under competitive
bidding, there would then be the potential for a collapse in the
system and patients would be harmed, Willman noted.

Willman said she doesn’t follow the fortunes of such entities as
Rotech so she could not comment on the viability of granting the
company contracts. However, she added, “If it is questionable, then
it is even more of a reason that CMS should release the standards
they are holding people against. It does lead to speculation as to
how all this happened.”

CMS has refused to release the financial standards providers
would be required to meet. TAHCS and Texas provider Dean Cheney,
with the aid of the Center for Regulatory Effectiveness in
Washington, have
sued CMS over the issue. Johnson said he expected a response
from CMS at any time.

The lack of transparency on CMS’ part is spilling over into how
providers were chosen for contracts. Johnson said he has talked to
several providers who were offered contracts and turned them down.
Some have been unable to explain even why they were offered
contracts, he said.

“One guy told me he bid way over in one area and got a contract.
He said to me, ‘I don’t know how I did that.’ In some instances, he
bid less than the rate and he didn’t get those contracts. What is
going on up there?” Johnson asked about CMS. “We have people on
credit hold with all the major manufacturers, they’re selling off
their equipment as used to get some money, and they got contracts,”
he added.

Don’t Count Lincare Out

Wall Street analysts were a bit more charitable about Rotech’s
successful bids. “I think the initial reaction is that if they can
accept all these contracts, they must believe they can make some
money on these contracts,” said A.J. Rice, an analyst with
Susquehanna Financial Group.

He said it is not entirely clear whether Lincare is really out
of the competitive bidding game. That news should also spill within
the next few days, he said.

“In the initial conversation we had with them, they said they
probably bid so much higher than the average rates that came out
they didn’t expect to be included in the nine markets,” said Rice,
who follows Lincare. “Since then, they have hedged themselves and
said they wouldn’t say anymore until reporting financial earnings
on [July 19].”

One industry-watcher reported that Lincare has already cut a
deal to buy at least one contract winner and speculated there could
be more acquisitions in the works.

Lincare’s shares have slipped a bit since the competitive
bidding rates were released, dropping from $31.64 on July 1 to
$27.12 on July 14, below the $27.50 floor traders expected. In
June, the company announced it would begin offering a quarterly
dividend. Analysts have said they expect the respiratory giant will
report earnings of 46 cents on sales of $419 million when it
releases its report on Monday.

Rice said it is conceivable that Lincare will get some
contracts. “They could take one or two markets and see what they
could do in coming up with a new economic [model].” he said.

Rice and industry stakeholders believe the deeply discounted
rates are the product of bids from the small provider
community.

“I know that the supplier who went through the first go-round of
Round 1 saw the reality of not getting a contract and what that
would mean for the future viability of their business, and they bid
accordingly,” said Willman. “The system is so flawed that the
thinking is, ‘I have to do what I have to do to survive long enough
[until something happens].”

“The bid structure incentivizes the small provider to bid very
aggressively,” Rice said. “They didn’t have to stand by their rate
if they did not like the [new CMS] rate. They are not held to
providing the service at what they bid.”

The cuts seem very steep to him, he said. “Do these cuts reduce
the payment so much that it is going to create distress for these
frail and elderly people?” Rice asked. “It will most likely have to
play out over the next year. We’ll see if providers can provide
service at these low rates, and we’ll see if we get a beneficiary
backlash … With all the cuts that have come before, this
seems very draconian to me.”

The HME sector seems somewhat sanguine, he noted, perhaps in the
hope that Congress will intervene as it did in delaying the first
Round 1 in 2008.

Indeed, Johnson said the TAHCS lawsuit and H.R. 3790, the bill
that would repeal competitive bidding, are “the great white
hope.”

“They are the two most important [options] we have,” he said.
“Members of Congress are going to have to understand that they have
to put the American citizen first and care for them. Whatever it
costs is an investment. If you fail to invest in the future, then
you fail in the future.”

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