HearUSA, Inc. (EAR)
2004 Interview with:
Paul A. Brown, M.D., Chairman
Business News, Financial News, Stocks, Money & Investment Ideas, CEO Interview
and Information on their
156 hearing care centers in the U.S and and the province of Ontario Canada and network of 1,400 affiliated audiologists in 49 states.

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The Medicare Prescription Drug Improvement and Modernization Act has put HearUSA in position to receive a greater share of the Hearing Aid market

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Services
Service Retail
(EAR: AMEX)

HearUSA, Inc.

1250 North Point Parkway
West Palm Beach, FL  33407
Phone: 561-478-8770




Paul A. Brown, M.D.
Chairman

Interview Conducted By:
Diane Reynolds
Associate Publisher

CEOCFOinterviews.com
September 2004

BIO:
Paul A. Brown, M.D., age 66.  Dr. Brown holds an A.B. from Harvard College and an M.D. from Tufts University School of Medicine. Dr. Brown founded HearUSA in 1986 and has served as Chairman of the Board since that time and Chief Executive Officer until July 2002.  From 1970 to 1984, Dr. Brown was Chairman of the Board and Chief Executive Officer of MetPath Inc. (“MetPath”), a New Jersey-based corporation offering a full range of clinical laboratory services to physicians and hospitals, which he founded in 1967 while a resident in pathology at Columbia Presbyterian Medical Center in New York City.  MetPath developed into the largest clinical laboratory in the world with over 3,000 employees and was listed on the American Stock Exchange prior to being sold to Corning in 1982 for $140 million.  This lab is now called Quest Diagnostics (NYS-DGX) with over $4 billion in annual revenues.  Dr. Brown is formerly Chairman of the Board of Overseers of Tufts University School of Medicine, an Emeritus member of the Board of Trustees of Tufts University, a past member of the Visiting Committee of Boston University School of Medicine and is currently a part-time lecturer in pathology at Columbia University College of Physicians and Surgeons.

Company Profile: HearUSA provides hearing care to patients whose health insurance and managed care organizations have contracted with the company for such care and to retail “self-pay” patients. The 156 centers are located in California, Florida, New York, New Jersey, Massachusetts, Ohio, Michigan, Wisconsin, Minnesota, Missouri and Washington and the province of Ontario Canada.  In addition, the company has a network of 1,400 affiliated audiologists in 49 states. For additional information, click on “investor information” at HearUSA’s website www.hearusa.com.

CEOCFOinterviews: Dr. Brown, please tell us about HearUSA.

Dr. Brown: “We are a healthcare company in the hearing care field with 156 company owned centers in 11 states and 1 Canadian Province. In addition to that, we have a network of 1400 audiologists in 49 states. In the event we have a contract with a healthcare provider that needs coverage in an area that we don’t have company-owned centers, we can use our network. The company had revenue last year of $70 million dollars and trades on the American Stock Exchange (EAR).”

Interview with: Paul A. Brown, M.D.

CEOCFOinterviews: The audiologists, how do know who you want and get them on board?

Dr. Brown: “An Audiologist is a college graduate with a Master’s Degree in Speech and Hearing.   In the last 2 or 3 years many audiologists have been earning a Doctorate of Audiology. So, they are clearly scientists. The problem in this field is that you are dealing with two very difficult populations. You are dealing with pediatrics and geriatrics.  Although, there is a shift away from the geriatric population as the younger generation becomes hearing impaired. Because of the demography of our patients, interpersonal skills are critical in order to discuss hearing loss. We have to find a scientist with interpersonal skills. Since the patient will be asked to take money out of their pocket, this necessitates marketing skills. We hire maybe 1 out of 5 Audiologists who come to us and who can work in our type of environment. It is very different from working in a hospital or doctor’s office where the doctor sends the patient down the hall to the Audiologist with a prescription to buy a hearing aid. Here we are talking about patients coming directly to us, from a physician, from a health insurance company or because of family pressure…but it is a product that they don’t want to wear, so it is real challenge for our professional staff.”

CEOCFOinterviews: A lot of the elderly are experiencing hearing loss and they really don’t want to address it.

Dr. Brown:
“It is a combination of stigma, believing that hearing aids do not work or the cost. When I grew up it was acceptable to have something in your ear if you worked for the Secret Service, or NBC Broadcasting. With anyone else, it meant that they were old. Well, young people today have had a walkman in their ear for a decade, a cell phone in their ear for the last 5 or 6 years and now an MP3 Player or IPOD in their ear for the last few years. The stigma aspect of wearing something in your ear is not going to exist. Hearing aids are now digital and the microphones are directional, so some of the old problems with an analog device, such as, background noise no longer exists. I wear a behind the ear hearing aid and can go into a restaurant and hear just fine…they do work.

The primary reason for not buying is cost. They have become much more expensive. The price of a hearing aid can be anywhere from $600 to $3,000. Medicare does not pay anything toward the cost of a hearing aid. This is an out of pocket expense. Only 1 out of 5 hearing aids sold in the United States have any insurance coverage. When the patient discovers they have an interpersonal communications problem and they discover it by themselves, (not because their spouse or children tell them about the problems) that is when they come in and buy a hearing aid.”

CEOCFOinterviews: How is the Medicare Prescription Drug Improvement and Modernization Act that was signed last year going to help Hear USA?

Dr. Brown: “This is very exciting for us because the administration wants to increase Medicare Managed Care membership by 9 million people bringing the total to 13 million by January 1, 2007. Of the 4.5 million current Medicare Managed Care Members, we have capitation contracts covering 600,000. This represents one third of the members with a hearing aid benefit. Maintaining our percentage (13%) of the new members will generate significant revenue for the company.

To affect that change, the government has given the managed care companies two big financial boosts. One, they increased their monthly payments for patients by 5% and two, they gave them a bonus of $4.3 billion a year for the next three years. They are expected to use that money to increase benefits or decrease costs to the patient in order to encourage the shift.  If the delusions of grandeur of the government are achieved and they can get another 9 million people into managed care and we only got half the percentage that we have, we would be doubling our Medicare membership.”

CEOCFOinterviews: What is the current size of the hearing care market both in dollars and the amount of units sold?

Dr. Brown: “About $2.8 billion a year is spent in the United States. This is about one third of the worldwide market. Another one third is in Asia. The final  third is in Western Europe. There are about 2 million hearing aids provided in the United States. Of that number, the government, through the veteran’s administration, provides about 320,000. Another source that I consider noncommercial is the ear, nose and throat physician who has an audiologist working for them. About 5% of the hearing aids are dispensed in that fashion…or another 100,000. That means that the number of hearing aids that are being provided through the commercial segment of the market is about 1.6 million hearing aids. Of those hearing aids, 100,000 of them are provided through the Miracle Ear System, another 100,000 are provided through Beltone and 50,000 are provided by HearUSA. The remaining units are provided through 9,000 independent practitioners. This is clearly a classic cottage industry…9,000 people providing 1.3 million hearing aids.”

CEOCFOinterviews: What is going to cause the market to grow and to what size?

Dr. Brown: “Well, the federal government believes that this industry is going to go from $2.8 billion to over the $10 billion mark over the next ten to fifteen years. This would be from a combination of factors. People are living longer. It is hard to believe, but we have over 70,000 people in the US that are over 100 years old and 200 people turn 100 every single week of the year. Part of the reason for hearing loss is aging. The longer the population lives the more hearing aids will be sold. The second reason is that people tend to buy one hearing aid the first time when they actually need to buy two. As they progress in age, they become less concerned about the stigma and more concerned about being able to hear better. We are selling approximately 60% of the people today two hearing aids, when in fact, 80-90% of the people should be wearing two hearing aids. So, for several reasons the growth is going to come from the aging population.

The next reason for the market to expand is from the youth of America who are traumatizing their hearing on a regular basis through everything they live with on a day-to-day basis. There was an interesting article in the Wall Street Journal, which indicated that, a study of people 45-65 years old shows that 18% are hearing impaired. Another study showed that 15% of college students today have a hearing loss equivalent to their parents.

The people who are younger and hearing impaired are going to be in the work environment. I think when there is a need for amplification from the working population there will be a higher level of acceptance. I also believe these employees are going to demand coverage from the insurance industry for their hearing aids. Once the insurance industry is paying for hearing aids there will be concern about the quality of hearing care. The whole industry will change dramatically and become a regulated segment of healthcare.”

CEOCFOinterviews: Now, do you see that happening soon?

Dr. Brown: “I think we are seeing increasing trends in that direction which is one of the reasons why we are getting more contracts. We are the only company in the United States that is offering capitated contracts to this segment of the business. The Joint Commission of Healthcare Organizations has accredited us as a preferred provider organization in hearing care which enhances our ability to obtain contracts.”

CEOCFOinterviews: I know you came out with your second quarter results, which were a little lower than the norm; what accounted for this?

Dr. Brown: “The new Medicare legislation which was signed in the fall of last year included an opportunity for the Medicare-Managed Care organizations to restate their benefits for 2004. Under normal circumstances the health insurance companies have to file their benefits in the fall, are approved on December 1st and go into effect by the first of the year. But because this bill was delayed so long into the fall, the companies had already filed their benefits for 2004. The government gave them a two to three month extension to go back and review their benefits for 2004. As a result of that, our normal marketing program, which consists of mailings to approximately a hundred thousand managed care members per month was delayed until late spring.

Our first quarter, which is normally one of our strongest quarters, is now going to be the weakest quarter of the year. The marketing, which finally started in April, is still continuing. We have provided some guidance for the current 3rd quarter-- $18.5 million which would be the fourth sequential quarter with improved revenues.”

CEOCFOinterviews: How much of the increase that you are talking about is coming from new business and will it add profits?

Dr. Brown: “We are now talking to a number of organizations about either increasing their hearing aid benefits or adding a hearing aid benefit for 2005, but not for this fiscal year. We have told the shareholders that we make $.50 on the dollar for new sales. If we could add a significant amount of new contracts or benefits for 2005, then obviously we will be adding a lot of profits.”

CEOCFOinterviews: So for the balance of the year has earning guidance been given?

Dr. Brown: “We’ve given revenue guidance for only Q3. We have also given guidance for a breakeven point of about $19 million for the third quarter, which means that the company could have a positive cash flow of $600,000. If we hit the guidance, we will be well on our way toward profitability.”

CEOCFOinterviews: With other companies entering into the market, what makes Hearing USA unique?

Dr. Brown: “First you have to look back at the structure of the industry; Miracle Ear is primarily a network of franchises.  Of those franchisees no more than 10% are audiologists. The Beltone chain is a network of authorized distributors and includes only about 50% of audiologists. If you believe this is going to be a medical business, then a healthcare organization is not going to be signing a contract with Costco or WAL-MART. We have 500 contracts with healthcare organizations and we don’t need any additional contracts to make money. What we need is for our contract providers to get some of those 9 million people that are going to be changing into managed care. We are unique because of our contracts, because of our Accreditation from JCAHO. The government regulation for providing service under these types of contracts is that you must have a facility within 20 minutes or 20 miles from the patient population…something we do in New York, New Jersey, Florida and Southern California and something our competitors don’t have.

Elsewhere in the country, we can provide service through our network of audiologists.   The first example of the use of our network so far is the Veterans Administration contract that we announced earlier this year, (which includes Southern Georgia, all of Florida and parts of Texas). We have no centers in Southern Georgia, Northern Florida or Texas, but we do have our network of audiologists there. We were able, with the VA’s approval, to subcontract that work…we monitor it, check the quality control, handle the money and decide what center will see what patients.

A final factor that makes us a little unique is that we have an unusual finance arrangement with Siemens, the world’s largest manufacturer of hearing aids. They have provided us with a $52 million finance package…a portion of which does not have to be paid back to Siemens as long as we buy 80% of our products from them. They are the world’s largest manufacturer and deliver a quality product on a timely basis…it’s a great relationship.”

CEOCFOinterviews: You were operating in many of the markets under multiple names.  Your ultimate goal was to combine all of North America’s entities under the company name of HearUSA; has this been completed?

Dr. Brown: “No, this hasn’t been done yet. Basically we have the following names:  a. In Canada where we have some 20 centers in Ontario Providence, we operate under their old name—Helix; b. Our original stores (those that are accredited by the Joint Commission) operate under the names of HEARx and HEARx West (HEARx in New York, New Jersey and Florida and HEARx West in Southern California) and c. The remaining 80 stores are operating under the HearUSA name.”

CEOCFOinterviews: Why do you believe investors should be interested in HearUSA?

Dr. Brown: “Well, I think there are a number of reasons. Number one—this is a real company. It has $70 million of revenue and is about to turn the corner and become profitable. Number two—it’s a growing market going from about $28 billion to $10 billion over the next 10 years. Number three—the management of the company has had extensive experience with the company.  In addition, both the Chairman and the President/CEO have had experience in running large successful businesses. My first company is now called Quest Diagnostics and has annual revenue of  $4.5 billion a year.   I started that company over 30 years ago with $500 in a two room apartment and when I sold it for $140 million I had 3600 employees in three countries. Stephen Hansbrough who is the President/CEO worked for the Haft family in Washington, DC before coming here 10 years ago.  He ran 220 retail centers, including Track Auto, Crown Books and the Dart Pharmacy Chain. He had thousands of employees and some $400 million in annual revenue.   So, we have the management talent to execute the strategy.  Number four—We have a unique financing relationship with Siemens. And Number 5—the value of the company right now is absurd. The industry is trading at 1 to 3 times revenue and HearUSA is trading at times revenue.

The company is an undervalued equity at $1.20.  It should be accumulated all the way to $2.50. Then wait and see what happens in the first quarter in 2005 to decide if you are willing to acquire more shares.”

CEOCFOinterviews: In closing, are future acquisitions a part of your growth strategy?

Dr. Brown: “We have a $25 million line of credit with the Siemens to make acquisitions, but I don’t think this is going to be a major way the company is going to grow.

There are four possibilities of growing this business from its present $70 million (to our challenge number of $100 million in annual revenues with a breakeven point at $70 million) as follows:  a. marketing; b. acquisitions; c. new contracts and d. the growth of the membership of our current contracts. It is the latter which will get us where we want to go in the shortest timeframe.”

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“This is very exciting for us because the administration wants to increase Medicare Managed Care membership by 9 million people bringing the total to 13 million by January 1, 2007. Of the 4.5 million current Medicare Managed Care Members, we have capitation contracts covering 600,000. This represents one third of the members with a hearing aid benefit. Maintaining our percentage (13%) of the new members will generate significant revenue for the company." - Paul A. Brown, M.D.

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