Barring some late-breaking bombshell from Washington, 2002 is shaping up as a bit of a paradox for the home medical equipment business, and although 2002 will probably be remembered for being so unmemorable, it has been largely a year of steady progress, without much in the way of drama, change or surprises.

As a result, the story of 2002 may be a bit dull in the telling but not at all unpleasant to live through. It had some qualities that are good for business, especially stable payments to providers and predictable revenues. HME firms had absorbed the shock of earlier reimbursement cuts and had adjusted to the new realities. Michael Barish, president of AnCor Healthcare Consulting in Coral Springs, Fla., sums up the year as “a good environment for companies that had a good product mix and operated efficiently.”

Industry observers estimate that percentage growth rates for the year ranged from the high single digits into the teens. James Walsh Jr., president of Waterloo, Iowa-based VGM Management, sees growth holding in the 8 to 10 percent range. “From VGM's perspective, 2002 looks like it will finish up at least as good for revenue as 2001,” Walsh says. Melbourne, Fla.-based small-business consultant Wallace Weeks, who heads The Weeks Group, says he has seen growth mostly in the “high single digits to low double digits,” though he knows of “a couple of established companies” that have done better — in the 20 percent range — and a couple that have seen sales drop.

TOP PRIVATE COMPANIES

Rank	Company Location Top Officer URL	Gross Revenue (in millions, latest available year) % change from previous	#of branches #of branches accredited	Employees FT PT	% of revenue by payer source	% of revenue by by product service	% of revenue by business channel
1	Home Care Supply Beaumont, Texas Todd Christopher www.homecaresupply.com	$147 up 17%	57 branches 40 accredited	1,100 FT 50 PT	Medicare 45 Medicaid 20 Priv. Ins. 5 MCO 25, Self-Pay 5	HME 25, Rehab 12 Supplies 2, Resp. Equip.40 Resp. Ther. 8, Nutrition 3 Home Inf. 10	Med. Ref. 99 Retail 1
2	Medical Services of America Lexington, S.C. Ronnie Young www.msa-corp.com	$125 up 10%	94 branches 69 accredited	1,800 FT 115 PT	Medicare 69 Medicaid 8 Priv. Ins. 20 MCO 1, Self-Pay 2	HME 7, Supplies 2, Resp. Equip. 14 Rehab 1, Nutrition 2 Skilled Nurs. 55, Unskilled Nurs. 5 Diabetic Prod. 12, Home Inf. 2	Med. Ref. 99 Retail 1
3	SpectraCare Louisville, Ky. Richard Hogan	$82.90 up 6.5%	15 branches 15 accredited	438 FT 53 PT	Medicare 23 Medicaid 18 Priv. Ins. 59	Home Inf. 52 Skilled Nurs. 25 Home Dialysis 24	Med. Ref.100
4	Health Care Solutions Ann Arbor, Mich. Tim Patton www.hcs1st.com	$80 0% change	43 branches 41 accredited	703 FT 35 PT	Medicare 43 Medicaid 8 Priv. Ins. 10 MCO 35, Self-Pay 4	HME 15 Resp. Equip. 70 Nutrition 7 Home Inf. 8	Med. Ref.100
5	BJC Home Care Services St. Louis, Mo. Ruth Castellano, operations Steve Schaper, HME and infusion www.bjc.org	71.83 up 20.1%	9 branches 9 accredited	498 FT 418 PT	Medicare 45 Medicaid 19 Priv. Ins. 1 MCO 23, Self-Pay 3 Worker's Comp., Commercial 9	HME 2 Supplies 8, Resp. Equip. 14 Nutrition 10, Home Inf. 21 Skilled Nurs. 39 Unskilled Nurs. 6	Med. Ref. 98 Retail 2
6	Sentara Home Care Chesapeake, Va. Ray Darcey www.sentara.com	$57.60 up 11.3%	4 branches 4 accredited	535 FT 100 PT	Medicare 40 Medicaid 5 Priv. Ins. 10 MCO 40, Self-Pay 5	HME 14, Rehab 3, Home Inf. 11 Supplies 3, Resp. Equip. 15 Resp. Ther. 1, Nutrition 1 Skilled Nurs. 50, Pharmacy 2	Med. Ref. 97 Retail 3
7	Crescent Healthcare Anaheim, Calif. Sohail Masood, M.D. www.crescenthealthcare.com	$55 up 10%	8 branches 6 accredited	200 FT 13 PT	Medicare 2 Medicaid 5 Priv. Ins. 22 Medical Groups 25 Self-Pay 3, MCO 43	Home Inf. 100	Med. Ref.100
8	MedEquip/HomMed Ann Arbor, Mich. University of Michigan Health System, Larry Warren www.med.umich.edu	$52.98 up 8%	1 branch 1 accredited	137 FT 9 PT	Medicare 20.1 Medicaid 11 Priv. Ins. 35 MCO 27.9 Self-Pay 6	HME 18, Rehab 9 Supplies 4, Resp. Equip. 13 Nutrition 18, Home Inf. 37 Skilled Nurs. 1	Med. Ref. 99 Retail 1
9	Landauer Metropolitan Mount Vernon, N.Y. Alan Landauer www.landmetro.com	$37 up 10%	1 branch 1 accredited	245 FT 65 PT	Medicare 30 Medicaid 28 Priv. Ins. 20 MCO 20, Self-Pay 2	HME 15, Rehab 19 Supplies 20, Resp. Equip. 35 Nutrition 10 Pharmacy 1	Med. Ref. 100
10	Methodist Alliance Health Services Memphis, Tenn. Steve Welker www.methodisthealth.org	$36.16 down 23%	15 branches accredited-N/A	374 FT 300 PT	Medicare 45.28 Medicaid 20.78 Priv. Ins. 29.81 Self-Pay 4.13	HME 15.26, Supplies 7.63 Resp. Equip. 15.26 Home Inf. 19.66 Skilled Nurs. 30.58 Hospice 11.61	Med. Ref. 100
11	NORCO Boise, Idaho Jim Kissler www.norco-inc.com	$34.96 up 23.3%	20 branches 18 accredited	248 FT 10 PT	Medicare 55 Medicaid 15 Priv. Ins. 20 Self-Pay 10	HME 22, Rehab 5 Supplies 5 Resp. Equip. 65 Pharmacy 3	Med. Ref. 90 Retail 10
12	Western Medical Phoenix, Ariz. Dennis Crowl www.westernmedical.net	$30	4 branches 3 accredited	250 FT	Medicare 25 Priv. Ins. 30 MCO 40 Self-Pay 5	HME 29, Rehab 10 Supplies 5 Resp. Equip. 55 Nutrition 1	Med. Ref. 95 Retail 5
13	Home Care Medical New Berlin, Wis. John Teevan www.homecaremedical.com	$25.53 up 3%	1 branch 1 accredited	123 FT 16 PT	Medicare 24 Medicaid 13 Priv. Ins. 50 MCO 8, Self-Pay 5	HME/Rehab 17, Supplies 13 Resp. Equip./Resp. Ther. 33 Nutrition 8, Home Infusion 27 Infant Monitoring 2	Med. Ref. 75 Retail 20 Web Site 5
14	Super Care City of Industry, Calif. John Cassar www.supercaremed.com	$21 up 10%	2 branches 2 accredited	178 FT 14 PT	Medicare 12 Medicaid 19 Priv. Ins. 17, MCO 42 Self-Pay 3, Regional Centers 7	HME 12, Rehab 6 Supplies 15 Resp. Ther. 26, Nutrition 6 Home Inf. 19, Pharmacy 16	Med. Ref. 96 Retail 4
15	Arcadian Healthcare (Millennium Homecare) Livingston, N.J. www.respiratory.com	$20 up 10%	5 branches 5 accredited	109 FT	Medicare 30 Medicaid 10 Priv. Ins. 20 MCO 35, Self-Pay 5	HME 15, Supplies 6 Resp. Equip. 70 Nutrition 3 Pharmacy 6	Med. Ref. 80 Retail 20
16	Clinical Specialties Broadview Heights, Ohio Ed Rivalsky www.csi-infusion.com	$19.96 up 9%	2 branches 1 accredited	62 FT 6 PT	Medicare 2 Medicaid 18 Priv. Ins. 8 MCO 72	HME 7 Nutrition 16 Home Inf. 59 Skilled Nurs. 18	Med. Ref. 100
17	Dependicare Broadview, Ill. Roger Miller www.dependicare.com	$16.55 up 15%	3 branches 3 accredited	125 FT 2 PT	Medicare 32 Medicaid 10 Priv. Ins. 30, MCO 20 Self-Pay 7, Other 1	HME 32 Supplies 2 Resp. Equip. 57 Nutrition 9	Med. Ref. 95 Retail 5
18	Home Healthcare Resources Bensalem, Pa. Thomas Galvin www.hhcr.com	$16.38 up 14%	1 branch 1 accredited	71 FT 89 PT	Medicare 9 Medicaid 8 Priv. Ins. 19 MCO 64	Nutrition 20 Home Inf. 69 Skilled Nurs. 1 “Wrap Around” 10	Med. Ref. 100
19	Medical West and Compass Healthcare Centers St. Louis, Mo. Kenneth Sandler www.medical-west.com	$15.35 up 30%	4 branches 1 accredited	55 FT 20 PT	Medicare 20 Medicaid 5 Priv. Ins. 10 MCO 25 Self-Pay 40	HME 10, Rehab 25 Supplies 50, Nutrition 3 Skilled Nurs. 2 Unskilled Nurs. 5 Corporate Health 5	Med. Ref. 74 Retail 25
20	Ultra Care Melrose Park, Ill. Bruce Callahan www.ultracarehm.com	$14.40 up 9%	2 branches 2 accredited	105 FT 12 PT	Medicare 15 Medicaid 7 Priv. Ins. 23 MCO 50, Self-Pay 5	HME 7, Rehab 12 Supplies 8, Resp. Equip. 35 Resp. Ther. 2, Nutrition 10 Home Inf. 21, Pharmacy 5	Med. Ref. 95 Retail 3 Web Site 2
21	Carter Healthcare Oklahoma City Stanley Carter, DPh. www.carterhealthcare.com	$14.15 up 8%	11 branches 11 accredited	236 FT 383 PT	Medicare 57 Medicaid 2 Priv. Ins. 20 MCO 16, Self-Pay 5	HME 4, Rehab 2, Supplies 1 Resp. Equip. 4, Resp. Ther. 1 Nutrition 2, Home Inf. 10 Skilled Nurs. 51, Unskilled Nurs. 5 Hospice 20	Med. Ref. 99 Web Site 1
22	Home Medical Medford, Ore. Janis Monson www.home-medical.coom	$11.90 up 25%	8 branches		Medicare 29 Medicaid 11 Priv. Ins. 12 MCO 33, Self-Pay 15	HME 23.5, Rehab 13 Supplies 15 Resp. Equip. 41 Pharmacy 8	Med. Ref. 80 Retail 20
23	Associated Healthcare Systems Amherst, N.Y. Donald White www.associatedhealthcare.com	$9.88 up 19.7%	8 branches 8 accredited	99 FT 19 PT	Medicare 33 Medicaid 6 Priv. Ins. 21, MCO 12 Self-Pay 3, Institutional 25	HME 4, Resp. Equip. 55 Nutrition 6, Home Inf. 18 Skilled Nurs. 2 Pharmacy 15	Med. Ref. 95 Retail 5
24	Canadian Valley Medical Solutions El Reno, Okla. Tracey Wills, R.N. www.cvms.com	$8.2 up 40.3%	2 branches 2 accredited	71 FT 5 PT	Medicare 35 Medicaid 20 Priv. Ins. 35 MCO 5 Self-Pay 5	HME 9, Rehab 12 Resp. Equip./Resp. Ther. 29 Home Inf. 45 Skilled Nurs. 2 Pharmacy 2, Other 1	Med. Ref. 98 Retail 2
25	Ascentra Las Vegas M. Frances Sponer www.ascentrausa.com	$7.12 up 6.1%	9 branches	49 FT 30 PT	Medicare NA Medicaid NA Priv. Ins. NA (breakdown not available)	HME 10 Resp. Equip. 85 Nutrition 5	Med. Ref. 90 Retail 10

“You might say it's been a wonderful year of status quo,” says Dexter Braff, a merger and acquisition consultant, and president of Pittsburgh, Pa.-based The Braff Group. Braff says sales growth has been healthy and is expected to stay that way into next year. “Most companies we're talking to have been generating and are looking forward to growth in the range of 10 to 20 percent,” he says.

The Big Boys

It also has been another year, like 2001, that made the HME business look good by default. As the economy struggled and Wall Street sank into its worst bear market since the Great Depression, HME looked more than ever like a safe haven of reliable returns. Investors noticed this, keeping the major home-health stocks relatively strong in a very weak overall market. Merger and acquisition activity kept up a healthy pace as large industrial-gas firms stepped up to buy, along with the usual large HME players.

The 2002 performance of the two leading publicly traded HME firms, Lincare Holdings and Apria Healthcare Group, would have been a big yawn in, say, the boom year of 1999. But in the context of the 2002 stock market, both companies have stood out against the averages. As of Nov. 15, Clearwater, Fla.-based Lincare was up 21.4 percent since the beginning of the year. Apria, based in Lake Forest, Calif., was almost exactly where it started the year, down just 0.8 percent. In contrast, the Dow Jones Industrial average was down 14.4 percent, the Standard & Poor's 500 was off 20.8 percent and the Nasdaq Composite was down 26.1 percent. In the latest quarter, ending Sept. 30, Apria reported a 30 percent hike in diluted earnings per share compared to a year earlier, and a 10 percent increase in revenue. Earnings and revenues rose by the same year-over-year percentages in the first nine months of 2002. Lincare reported a 39 percent year-over-year jump in earnings-per-share and an 18 percent rise in revenue for the quarter, with EPS up 38 percent and revenue up 18 percent for the first nine months. Both companies saw the strongest revenue growth in respiratory services, which now account for about 66 percent of sales at Apria and 90 percent of sales at Lincare. Oxygen revenues at Apria were up 11.7 percent from 2001, for the first nine months of 2002. They rose 21.8 percent during the same period at Lincare. Home medical equipment sales rose more slowly at Apria — up 8.7 percent for the first nine months — and they declined by 5.1 percent at Lincare.

These two industry bellwethers also did their part to sustain healthy demand in the acquisition market. By September 2002, Lincare had bought 23 firms during the year for a total price of about $60 million. Among its more recent buys was the $14 million purchase of Provide Medical, an HME/respiratory provider operating at nine locations in Missouri and Illinois. That deal closed early in October. Apria was keeping pace with 13 acquisitions (as of mid-October), also for an aggregate price of about $60 million. “The traditional national companies have continued to be hungry with an appetite for acquisitions,” says Daryl Sakol, an M&A consultant with Orlando, Fla.-based Affinity Ventures.

The coming year may see the re-emergence of two other large HME companies, Orlando, Fla.-based Rotech Healthcare and Brentwood, Tenn.-based American HomePatient. Both are turnaround prospects that could have an impact on the M&A market, if they can put financial problems behind them. Rotech, which was spun off this year from its bankrupt parent, Integrated Health Services, has just hired former Apria CEO Philip Carter as its new chief executive. Carter was a key figure in the revival of Apria in the late 1990s, and he now will be called upon to do the same for Rotech. American HomePatient filed for bankruptcy protection in July 2002 but continues operating as a substantial company with revenue of more than $300 million a year.

In the most-noticed deal of 2002, the buyer was not one of the traditional HME-focused companies. It was Air Products & Chemicals, an Allentown, Pa.-based maker of industrial gases. On Oct. 1, it entered the U.S. HME market in a big way when it bought American Homecare Supply for $165 million. American Homecare Supply, based in Conshohocken, Pa., was one of the 10 largest home care firms at the time of its purchase, and it added more bulk this fall when, as an Air Products subsidiary, it bought Home Health Care Services of Charleston, W. Va., early in November.

In announcing its purchase of American Homecare Supply, Air Products said it foresees revenue growth of up to 10 percent in the respiratory and home medical equipment industries. That's healthy expansion in the context of an otherwise sluggish economy, so it's no surprise that other firms based outside the home care business are giving the industry a serious look.

Two active buyers in the recent past, France's Air Liquide and Danbury, Conn.-based Praxair, have been quiet in 2002, but industry experts continue to see them as potential drivers of demand. Richard Davis, vice president of the Charleston, S.C.-based M&A broker Paragon Ventures, says AGA Linde Healthcare, a unit of Germany's Linde AG, is another potential buyer to watch. He says Linde is already an established home care company in Europe and South America. Davis says the coming year “is going to see a lot of competition among the traditional large buyers and some of the newcomers on the scene who have large checkbooks.” That will make 2003 an even better environment for sellers, he says: “It's been a medium-warm year … Next year will see a stronger market.”

Doom and Gloom

Not everyone in the HME industry shares that view. Some are a good deal more gloomy about 2003, mostly because they see the long-feared arrival of competitive bidding finally having a significant impact on HME business and HME company valuations. The specter of competitive bidding — and of new reimbursement cuts possibly coming in other forms — tells the other side of the 2002 story. It may be smooth sailing for HME now, but the industry sees storm clouds on the horizon, though just how far off and how bad the storm will be is much in dispute.

On one side, there are the relative pessimists such as Wallace Weeks, who sees both competitive bidding on Medicare HME and the restoration of inherent reasonableness authority for the Centers for Medicare and Medicaid Services as “a near certainty.” Either of these steps would sharply cut reimbursement, and Weeks says the value of HME companies will start slipping as more owners see the approaching peril and try to bail out. The big buyers won't leave the scene, he says, but they will get more to choose from — and softer prices to pay — as potential sellers crowd the market. Weeks estimates that prices paid as a multiple of EBITDA (net earnings before interest, taxes, depreciation and amortization) will slip by 20 to 25 percent by the end of 2003. Late in 2002, he says, companies were fetching four and sometimes more than five times EBITDA. He says a year from now the majority of deals will have multiples in the threes.

Braff, on the other hand, says talk of a selling panic induced by competitive bidding is “as close to nonsense as anything I've heard.” To the contrary, he sees supply tightening as demand remains stable. He says competitive bidding would lead to sizable cuts in revenue, on the order of 15 to 20 percent, but he doesn't expect this blow to fall in a single year. Braff says firms that have figured out how to make a profit in the current reimbursement climate should be able to roll with this slow-moving punch: “For companies that are successful in competing in this market, competitive bidding means a price cut, not extinction.”

Oxygen Is No. 1

One point on which the industry seems to agree is that oxygen will remain the product line of choice, whatever new rules and programs come down the pike from Washington.

Respiratory was still the place to be in 2002, though companies were able to make good money in DME areas such as mobility if the companies were properly focused. VGM's Walsh says power chair sales were “very strong” this year, and AnCor's Barish says infusion “is still profitable if you negotiate your contracts correctly,” adding that it's possible to make money in wound care/ostomy products, not considered the most attractive area in the industry. But Barish tempers his views by adding that only specialized firms can expect a profit here. “When we go into companies for which [ostomy/wound care] is a small percentage of their business, I can guarantee that they're losing money at it,” he says.

As for the question of whether to stay in HME at all, the answer may lie more with personal plans than the market. Davis says he expects a lot of independent operators to want to sell their businesses and simply leave the business as tighter reimbursement rules start to bite. “But the honest answer as to when it's time to sell is still the personal answer,” he says, “When it's the owner's right time.”

The Sum of All Fears

Those who choose to stay will have plenty of other questions as the New Year gets under way. The size and scope of any competitive bidding program is just one of the unknowns, though it gets the most attention. Other areas of concern include the potential of new inherent reasonableness powers, new fraud and abuse probes from federal authorities, and upcoming compliance deadlines for the Health Insurance Portability and Accountability Act.

As it sums up all these fears, the HME industry looks nervous about the future, even as it enjoys the present-day stability while it lasts. “People were skittish [in 2002],” says Neil Caesar, an attorney who represents health care providers through his Greenville, S.C.-based Health Law Center. “People were looking over their shoulder,” this year, which he says was marked by “harbingers of change rather than change itself. We haven't seen the unveiling or implementation of significant changes, though that's likely to change next year.”

As Davis puts it, “2002 has been full of speculation. In 2003, we're going to know.” And when the questions get answered, it seems a safe bet that the HME business will have to make one of its regular adjustments to new rules, leaner payments and tougher competition. In short, it may end up having one of its more normal years, in which, unlike 2002, everything seems to change.

TOP PUBLIC COMPANIES

#1 Lincare Holdings

Location: Clearwater, Fla.
Top Officer: John Byrnes
Net Income: $134.9 million, fiscal 2001 ended Dec. 31, 2001
Branches: 564
Employees: 6,100 FT/PT
Stock Symbol: LNCR (NASDAQ)
URL: www.lincare.com

While many public companies are struggling to maintain revenues, firms such as Thomas Weisel are urging investors to “buy” Lincare's stock. How is Lincare able to achieve double-digit growth during such sluggish times?

“Lincare focuses primarily on growth in existing and nearby geographic markets, which the company believes is generally more profitable than adding additional operating centers in distant markets,” the company said. During fiscal year 2001, Lincare acquired 18 local and regional competitors with operations in 12 states, and in so doing, entered only two new state markets. Second, Lincare makes no bones about the respiratory market being the company's top priority. Lincare's HME and ancillary products serve only compliment the company's respiratory business.

The company continued to pursue an aggressive acquisitions strategy during fiscal year 2002, purchasing 23 businesses by September. Nonetheless, Lincare's profits continued to grow. Like its closest competitor, Lincare surpassed its entire 2001 earnings by September 2002, raking in a net income of more than $140 million in its first nine months. Revenue for the first three quarters of fiscal 2002 rose nearly 16 percent compared to revenues for the first nine months of 2001.

#2 Apria Healthcare

Location: Lake Forest, Calif.
Top Officer: Lawrence Higby
Net Income: $71.9 million, fiscal 2001 ended Dec. 31, 2001
Branches: 400
Employees: 8,600 FT, 1,096 PT
Stock Symbol: AHG (NYSE)
URL: www.apria.com

Apria's simple strategy of remaining true to its core businesses and acquiring respiratory therapy companies in fragmented markets seems to be paying off. During 2001, Apria spent $81.7 million on acquisitions and still managed to increase its net income by 26 percent, compared to the company's 2000 net income. Revenue for the year increased more than 11 percent, from $1.01 billion in 2000 to $1.29 billion. Deriving most revenue from managed care, Apria reported that only 23 percent of its 2001 revenues came from Medicare and 7 percent from Medicaid.

So far, fiscal 2002 is shaping up to become another banner year for Apria. By September, the company's earnings already had surpassed 2001 earnings by more than $4 million. Apria's president and chief executive officer, Lawrence Higby, attributed this consistent growth to the company's fiscal responsibility and efficient billing systems. “We are very pleased with our business growth and improving EBITDA margins while continuing to maintain our low level of DSOs,” he said. “During the current year, our cash flows enabled us to purchase 13 businesses for approximately $60 million, repurchase $31.5 million of the company's common stock and continue to reduce long-term debt.”

#3 Praxair

Location: Danbury, Conn.
Top Officers: Dennis Reilley, George Ristevski — health care
*Net Income: $430 million fiscal 2001 ended Dec. 31, 2001
Branches: 200 home care
Employees: 24,271 FT/PT
Stock Symbol: PX (NYSE)
URL: www.praxair.com

Expanding its presence in the health care gases market was a cornerstone of Praxair's growth strategy during fiscal year 2001. Despite the fact that the industrial gas giant's health care revenues accounted for only 9 percent of total revenues in 2001, Praxair said the company expected its health care segment to weather the economic storm well. “Health care is one of Praxair's faster-growing businesses, even in the global slowdown of 2001,” the company said, noting that home care is fueling that growth. “Based on the aging population and the high cost of hospital stays, home care has become a more rapidly growing segment of the health care market.”

Following a strategy of what it called “capital discipline,” Praxair was able to maintain its sales during fiscal year 2001, reporting revenues of $5.16 billion, compared to $5.04 billion in fiscal year 2000. During the same period, the company's net income increased 16 percent, from $363 million in 2000 to $430 million.

Economic conditions during 2002 continued to burden Praxair, but health care remained a silver lining for the company, according to Dennis Reilley, the company's chairman and chief executive officer.
*home care segment numbers not available, ranking estimated

#4 Walgreens

Location: Deerfield, Ill.
Top Officers: David Bernauer, Gregory Wasson — WHI
*Net Income: $1,019, fiscal 2002 ended August 31, 2002
Branches: 27 WHI, 3,880 total
Employees: 141,000 FT/PT
Stock Symbol: WAG (NYSE)
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