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AIRM > SEC Filings for AIRM > Form 10-Q on 10-May-2013All Recent SEC Filings

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Form 10-Q for AIR METHODS CORP


10-May-2013

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

The following discussion of the results of operations and financial condition should be read in conjunction with our condensed consolidated financial statements and notes thereto included in Item 1 of this report. This report, including the information incorporated by reference, contains forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. The use of any of the words "believe," "expect," "anticipate," "plan," "estimate," and similar expressions are intended to identify such statements. Forward-looking statements include statements concerning the integration of Sundance; our possible or assumed future results; flight volume and collection rates for patient transports; size, structure and growth of our air medical services and products markets; continuation and/or renewal of air medical services contracts; acquisition of new and profitable UR Division contracts; impact of the Patient Protection and Affordable Care Act and other changes in laws and regulations; and other matters. The actual results that we achieve may differ materially from those discussed in such forward-looking statements due to the risks and uncertainties described in the Risk Factors section of this report, in Management's Discussion and Analysis of Financial Condition and Results of Operations, and in other sections of this report, as well as in our annual report on Form 10-K. We undertake no obligation to update any forward-looking statements.

Overview

We provide air medical transportation services throughout the United States and design, manufacture, and install medical aircraft interiors and other aerospace products for domestic and international customers. We also provide tourism operations in the Grand Canyon and Las Vegas areas. Our divisions, or business segments, are organized according to the type of service or product provided and consist of the following:
Air Medical Services (AMS) - provides air medical transportation services to the general population as an independent service (also called community-based services) and to hospitals or other institutions under exclusive operating agreements (also called hospital-based services). Patient transport revenue consists of flight fees billed directly to patients, their insurers, or governmental agencies, and cash flow is dependent upon collection from these individuals or entities. Air medical services contract revenue consists of fixed monthly fees (approximately 80% of total contract revenue) and hourly flight fees (approximately 20% of total contract revenue) billed to hospitals or other institutions. In the first quarter of 2013 the AMS Division generated 92% of our total revenue, compared to 96% in the first quarter of 2012.

United Rotorcraft (UR) Division - designs, manufactures, and installs aircraft medical interiors and other aerospace and medical transport products for domestic and international customers. In the first quarter of 2013 the UR Division generated 2% of our total revenue, compared to 4% in the first quarter of 2012.

Tourism Division - provides helicopter tours and charter flights, primarily focusing on Grand Canyon tours. The division was started with the acquisition of Sundance Helicopters, Inc., (Sundance) in December 2012. In the first quarter of 2013, the Tourism Division generated 6% of our total revenue.

See Note 7 to the condensed consolidated financial statements included in Item 1 of this report for operating results by segment.

We believe that the following factors have the greatest impact on our results of operations and financial condition:

Flight volume. Almost all of patient transport revenue is derived from flight fees, as compared to approximately 20% of AMS contract revenue. By contrast, 82% of our costs primarily associated with flight operations (including salaries, aircraft ownership costs, hull insurance, and general and administrative expenses) incurred during the quarter ended March 31, 2013, are mainly fixed in nature. While flight volume is affected by many factors, including competition and the effectiveness of marketing and business development initiatives, the greatest single variable has historically been weather conditions. Adverse weather conditions-such as fog, high winds, or heavy precipitation-hamper our ability to operate our aircraft safely and, therefore, result in reduced flight volume. Total patient transports for community-based locations were approximately 11,800 for the first quarter of 2013 compared to approximately 12,700 for the first quarter of 2012. Patient transports for community-based locations open longer than one year (Same-Base Transports) were approximately 11,400 in the first quarter of 2013, compared to 12,500 in the first quarter of 2012. Cancellations due to unfavorable weather conditions for community-based locations open longer than one year were 427 higher in the first quarter of 2013, compared to the first quarter of 2012. Requests for community-based services decreased by 6.2% for bases open greater than one year.


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Reimbursement per transport. We respond to calls for air medical transports without pre-screening the creditworthiness of the patient and are subject to collection risk for services provided to insured and uninsured patients. Medicare and Medicaid also receive contractual discounts from our standard charges for flight services. Patient transport revenue is recorded net of provisions for contractual discounts and estimated uncompensated care. Both provisions are estimated during the period the related services are performed based on historical collection experience and any known trends or changes in reimbursement rate schedules and payer mix. The provisions are adjusted as required based on actual collections in subsequent periods. Net reimbursement per patient transport is primarily a function of price, payer mix, and timely and effective collection efforts. Both the pace of collections and the ultimate collection rate are affected by the overall health of the U.S. economy, which impacts the number of indigent patients and funding for state-run programs, such as Medicaid. Medicaid reimbursement rates in many jurisdictions have remained well below the cost of providing air medical transportation. In addition, the collection rate is impacted by changes in the cost of healthcare and health insurance; as the cost of healthcare increases, health insurance coverage provided by employers may be reduced or eliminated entirely, resulting in an increase in the uninsured population. Most of the significant provisions of the Patient Protection and Affordable Care Act are not scheduled to take effect until 2014, and the impact on our reimbursement rates is, therefore, unknown. Net reimbursement per transport decreased 9.7% in the quarter ended March 31, 2013, compared to the quarter ended March 31, 2012, attributed to a change in payer mix, described below. Provisions for contractual discounts and estimated uncompensated care related to patient transport revenue are as follows:

                                               For quarters ended March 31,
                                                2013                  2012
      Gross billings                                  100 %                 100 %
      Provision for contractual discounts              49 %                  44 %
      Provision for uncompensated care                 23 %                  19 %

Although price increases generally increase the net reimbursement per transport from insurance payers, the amount per transport collectible from private patient payers, Medicare, and Medicaid does not increase proportionately with price increases. Therefore, depending upon overall payer mix, price increases will usually result in an increase in the percentage of uncollectible accounts. The number of transports covered by insurance decreased from 34.0% of total transports for the quarter ended March 31, 2012, to 32.7% of total transports for the quarter ended March 31, 2013, with the decrease moving primarily to Medicare. Although we have not yet experienced significant increased limitations in the amount reimbursed by insurance companies, continued price increases may cause insurance companies to limit coverage for air medical transport to amounts less than our standard rates.

Aircraft maintenance. AMS and Tourism operations are directly affected by fluctuations in aircraft maintenance costs. Proper operation of the aircraft by flight crews and standardized maintenance practices can help to contain maintenance costs. Increases in spare parts prices from original equipment manufacturers tend to be higher for aircraft which are no longer in production. Two models of aircraft within our fleet, representing 15% of the rotor wing fleet, are no longer in production and are, therefore, susceptible to price increases which outpace general inflationary trends. In addition, on-condition components are more likely to require replacement with age. Since January 1, 2012, we have taken delivery of seven new aircraft and have commitments to take delivery of 47 additional aircraft through the end of 2015. We have replaced discontinued models and other older aircraft with the new aircraft, as well as provided capacity for base expansion. Replacement models of aircraft typically have higher ownership costs than the models targeted for replacement but lower maintenance costs. Total aircraft maintenance expense, excluding maintenance on Sundance aircraft, increased 1.9% from the first quarter of 2012 to the first quarter of 2013, while total flight hours for AMS operations decreased 4.8% over the same period.

Competitive pressures from low-cost providers. We are recognized within the industry for our standard of service and our use of cabin-class aircraft. Many of our competitors utilize aircraft with lower ownership and operating costs and do not require a similar level of experience for aviation and medical personnel. Reimbursement rates established by Medicare, Medicaid, and most insurance providers are not contingent upon the type of aircraft used or the experience of personnel. However, we believe that higher quality standards help to differentiate our service from competitors and, therefore, lead to higher utilization.


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Employee recruitment and relations. The ability to deliver quality services is partially dependent upon our ability to hire and retain employees who have advanced aviation, nursing, and other technical skills. In addition, hospital contracts typically contain minimum certification requirements for pilots and mechanics. Our pilots are represented by a collective bargaining unit and are covered under a collective bargaining agreement (CBA) which is effective through December 31, 2013. Other employee groups may also elect to be represented by unions in the future.

Results of Operations

We reported a net loss of $5,689,000 for the three months ended March 31, 2013, compared to net income of $12,474,000 for the three months ended March 31, 2012. The results for 2013 include the impact of the Sundance acquisition which closed in December 2012. Same-Base Transports were 8.7% lower in the first quarter of 2013 compared to the first quarter of 2012, while net reimbursement per patient transport decreased 9.7%, primarily as a result of a change in payer mix.

Air Medical Services

Patient transport revenue is recorded net of provisions for contractual discounts and uncompensated care and decreased $19,744,000, or 15.5%, for the three months ended March 31, 2013, compared to 2012, for the following reasons:
Decrease of 9.7% in net reimbursement per transport for the first quarter of 2013, compared to 2012, due primarily to the change in payer mix described above.

Decrease in Same-Base Transports of 1,081, or 8.7%, in the first quarter of 2013 compared to 2012. Cancellations due to unfavorable weather conditions for bases open longer than one year were 427 higher in the first quarter of 2013, compared to the first quarter of 2012. Requests for community-based services decreased by 6.2% for bases open greater than one year.

Incremental net revenue of $4,496,000 generated from the addition of eleven new bases subsequent to the first quarter of 2012.

Closure of five bases due to insufficient flight volume subsequent to the first quarter of 2012, resulting in a decrease in net revenue of approximately $2,311,000.

Air medical services contract revenue decreased $110,000, or 0.2%, for the quarter ended March 31, 2013, compared to 2012, for the following reasons:
Cessation of service under five contracts and the conversion of one contract to community-based operations during or subsequent to the first quarter of 2012, resulting in a decrease in revenue of approximately $4,570,000.

Incremental revenue of $3,985,000 generated from the addition of three new air medical services contracts and the expansion to additional bases of operation under five contracts during or subsequent to the first quarter of 2012.

Decrease of 9.0% in flight volume for all contracts excluding new contracts, contract expansions, and closed contracts described above.

Annual price increases in the majority of contracts based on stipulated contractual increases, changes in the Consumer Price Index or spare parts prices from aircraft manufacturers, and the renewal of contracts at higher rates.

Flight center costs (consisting primarily of pilot, mechanic, and medical staff salaries and benefits) increased $6,170,000, or 7.8%, for the quarter ended March 31, 2013, compared to 2012, for the following reasons:
Increase of approximately $4,737,000 for the addition of personnel to staff new base locations described above.

Decrease of $2,612,000 due to the closure of base locations described above.

Increase in salaries for merit pay raises.


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Aircraft operating expenses increased $579,000, or 1.6%, for the quarter ended March 31, 2013, in comparison to the quarter ended March 31, 2012. Aircraft operating expenses consist primarily of fuel, insurance, and maintenance costs and generally are a function of the size of the fleet, type of aircraft flown, and number of hours flown. The increase in costs is due to the following:
Increase of $511,000, or 1.9%, in AMS aircraft maintenance expense to $27,085,000. Total flight volume for AMS operations decreased 4.8% for the first quarter of 2013 compared to 2012. Costs incurred for engine overhauls on one model of aircraft increased by approximately $1.6 million in the first quarter of 2013, compared to the first quarter of 2012, primarily due to erosion damage. We expect to mitigate the impact of erosion with the installation of engine barrier filters as operations permit.

Increase of approximately 19.4% in the cost of aircraft fuel per hour flown for AMS. Total fuel cost increased by $357,000 to a total expense of $5,852,000 for 2013. During both 2013 and 2012 we had commodity call options to protect against aircraft fuel price increases greater than 20%, covering approximately 75% of our anticipated fuel consumption for 2013 and essentially all of our fuel consumption for 2012. Fuel expense for the first quarter of 2013 included a non-cash mark to market derivative loss of $117,000 compared to a gain of $27,000 in the first quarter of 2012. There were no cash settlements under the terms of the agreements in the first quarters of 2013 and 2012. Excluding the impact of fuel derivative agreements, the cost of aircraft fuel per hours flown increased 16.4% in the first quarter of 2013 compared to the first quarter of 2012.

Decrease in hull insurance rates effective July 2012.

Medical Interiors and Products

Sales of medical interiors and products decreased $2,798,000, or 38.7%, for the first quarter of 2013 compared to the first quarter of 2012. Significant projects in process during the first quarter of 2013 included work under two contracts to produce a total of 53 multi-mission interiors for the U.S. Army's HH-60M helicopter and two aircraft interiors for commercial customers. Revenue by product line was as follows:
$2,809,000 - governmental entities

$1,625,000 - commercial customers

Significant projects in process during the first quarter of 2012 included 50 multi-mission interiors for the U.S. Army's HH-60M helicopter and six aircraft interior kits for commercial customers. Revenue by product line was as follows:
$3,033,000 - governmental entities

$4,199,000 - commercial customers

Cost of medical interiors and products increased $148,000, or 3.4%, for the first quarter of 2013, as compared to the previous year, due primarily to warranty costs of $463,000 related to previously installed aircraft interiors. Cost of medical interiors and products also includes certain fixed costs, such as administrative salaries and facilities rent, which do not vary with volume of sales and which are absorbed by both projects for external customers and interdivisional projects.

Tourism

Tourism and charter revenue totaled $10,391,000 for the first quarter of 2013 and consists of fees earned for the transport of passengers primarily for tours of the Grand Canyon. During the first quarter of 2013, we transported approximately 39,800 passengers on tourism flights. Due to weather and traditional vacation schedules, flight volume for tourist operations tends to be lower during the first quarter than during the remaining quarters of the year. Based upon pre-acquisition Sundance flight data, approximately 60% of annual revenue from tourism operations has been earned during the second and third quarters of a calendar year.

Tourism operating expenses consist primarily of pilot and mechanic salaries and benefits; aircraft maintenance, fuel, and insurance; landing fees; commissions; and cost of tour amenities. Expenses totaled $7,841,000 for the first quarter of 2013 and typically vary with passenger count, flight volume, and number and type of aircraft. Based on pre-acquisition operating results for Sundance, tourism operating expenses have historically averaged approximately 75% of tourism and charter revenue.


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General

Depreciation and amortization expense decreased $757,000, or 3.6% for the first quarter of 2013, compared to 2012. Since March 31, 2012, we have bought out 59 aircraft which were previously leased under capital lease obligations and which had total depreciable basis of $100 million. Aircraft under capital leases are amortized over the terms of the underlying leases with no assigned salvage value. Aircraft which are owned directly are depreciated over a 25-year life, based on the year of manufacture, with a 25% salvage value. As a result, the buyout of aircraft from capital lease obligations contributed to a decrease in depreciation for the first quarter of 2013. The decrease was offset in part by $589,000 in depreciation and amortization related to Sundance's assets during the first quarter of 2013.

General and administrative (G&A) expenses increased $3,648,000, or 14.7%, for the first quarter of 2013, compared to the first quarter of 2012. G&A expenses include executive management, accounting and finance, billing and collections, information services, human resources, aviation management, pilot training, dispatch and communications, AMS program administration, and Tourism customer service and reservations. Total G&A expenses related to Sundance operations were $1,646,000 for the first quarter of 2013. Excluding the impact of Sundance, G&A expenses increased 8.0% in the first quarter of 2013, compared to 2012, reflecting certain business development and government relations initiatives, as well as an increase of $518,000 in board of directors compensation.

Interest expense decreased $791,000, or 14.1%, for the first quarter of 2013, compared to the first quarter of 2012, primarily due to the retirement of $31.2 million in capital lease obligations subsequent to March 31, 2012, and to regularly scheduled payments of long-term debt and capital lease obligations. The weighted average effective interest rate on retired capital lease obligations was approximately 4.6%. The resulting decrease in interest expense was offset in part by an additional $100 million term loan under our senior credit facility originated in December 2012 and an average balance of $69.8 million against our line of credit during the first quarter of 2013, compared to $20.0 million during the first quarter of 2012. The additional term loan and increased borrowings against the line of credit were used primarily to fund the acquisition of Sundance and payment of a special dividend in December 2012. The average interest rate was 1.8% on the term loan and 2.0% on the line of credit in the first quarter of 2013, compared to 2.5% and 3.3%, respectively, in the first quarter of 2012.

Income tax benefit was $3,684,000 in the first quarter of 2013, compared to expense of $7,901,000 in the first quarter of 2012, at effective tax rates of approximately 39.3% and 38.8%, respectively. The effective rate for 2013 increased primarily because of an increase in certain permanent book-tax differences. Changes in our effective tax rate are affected by the apportionment of revenue and income before taxes for the various jurisdictions in which we operate and by changing tax laws and regulations in those jurisdictions.

Liquidity and Capital Resources

Our working capital position as of March 31, 2013, was $177,884,000, compared to $163,353,000 at December 31, 2012. Cash generated by operations was $14,722,000 in the first quarter of 2013, compared to $35,613,000 in the first quarter of 2012, reflecting the results of operations described above. Receivables decreased during the first quarter of 2013 by $15.3 million, reflecting the decrease in net revenue described above. Days' sales outstanding (DSO's) for community-based services, measured by comparing net patient transport revenue for the annualized previous three-month period to outstanding open net accounts receivable, were as follows:

                  As of                  As of                 As of
              March 31, 2013       December 31, 2012       March 31, 2012
                          128                     106                  101


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DSO's measured by comparing net patient transport revenue for the annualized previous six-month period to outstanding open net accounts receivable, were as follows:

                  As of                  As of                 As of
              March 31, 2013       December 31, 2012       March 31, 2012
                          106                     106                  100

The increase in DSO's is largely attributed to increases in claims processing timeframes for two insurance payers. The increase in processing time is not expected to have an adverse effect on collection rates from these payers. DSO's calculated using a three-month measurement period are more significantly impacted by seasonality in revenue than DSO's using the six-month measurement period. Net patient transport revenue decreased 29.5% in the first quarter of 2013 compared to the fourth quarter of 2012 and 15.5% compared to the first quarter of 2012. In the first quarter of 2012, we received approximately $7.7 million in refunds of aircraft deposits upon taking delivery of the aircraft and arranging permanent financing for the purchase.

Cash used by investing activities totaled $24,892,000 in 2013 compared to $24,104,000 in 2012. In the first quarter of 2013 we bought out 21 previously leased aircraft for $22.7 million and sold three aircraft for $7.4 million. Equipment acquisitions in the first quarter of 2012 included the buy-out of thirteen previously leased aircraft for approximately $22.3 million.

Financing activities provided $17,731,000 in 2013 compared to using $13,431,000 in 2012. The primary uses of cash in both 2013 and 2012 were regularly scheduled payments of long-term debt and capital lease obligations and capital lease buyouts. During the first quarter of 2013, we originated sixteen notes secured by aircraft to finance lease buyouts, retire variable rate debt, and finance the acquisition of two aircraft. The notes have ten-year terms and a weighted average fixed interest rate of 3.7%. Lease buyouts in 2012 were funded primarily through borrowings under our line of credit and cash from current operations.

We currently intend to exercise early lease buyout options on up to 25 aircraft totaling approximately $57.4 million prior to the end of 2013. We expect to finance approximately $33.9 million of the buyouts with aircraft financiers under long-term notes and to fund the balance with internally generated cash flow or availability under the line of credit. We expect to use additional cash generated by operations in 2013 to, among other uses, pay down long-term debt with variable interest rates.

Critical Accounting Policies

Our condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period.

On an on-going basis, management evaluates our estimates and judgments, including those related to revenue recognition, deferred income taxes, and valuation of long-lived assets and goodwill. Management bases its estimates and judgments on historical experience and on various other factors that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. Management believes the following critical accounting policies affect its more significant judgments and estimates used in the preparation of our consolidated financial statements.


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Revenue Recognition

Revenue relating to tourism and charter flights is recognized upon completion of the services. Fixed contract revenue under our operating agreements with hospitals is recognized monthly over the terms of the agreements. Revenue relating to patient transports is recognized upon completion of the services and is recorded net of provisions for contractual discounts and estimated uncompensated care. Both provisions are estimated during the period related services are performed based on historical collection experience and any known trends or changes in reimbursement rate schedules and payer mix. The provisions are adjusted as required based on actual collections in subsequent periods. We have from time to time experienced delays in reimbursement from third-party payers. In addition, third-party payers may disallow, in whole or in part, claims for reimbursement based on determinations that certain amounts are not reimbursable under plan coverage, determinations of medical necessity, or the need for additional information. Laws and regulations governing Medicare and . . .

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