Star Equity Holdings, Inc. (STRR) Q2 2012 Earnings Report, Transcript and Summary

Good morning, ladies and gentlemen. Thank you for standing by. Welcome to the Digirad Corporation 2012 Second Quarter and Six Months' Results Conference Call. During today’s presentation all parties will be in a listen-only mode. Following the presentation the conference will be open for questions. [Operator Instructions] This conference is being recorded today, July 26, 2012. I would now like to turn the conference over to Matt Clawson with Allen & Caron. Please go ahead.

Thank you, Ian, and thank you all very much for joining us this morning. If you didn’t receive a copy of today’s press release and would like one, please contact our office at 949-474-4300 after the call and we'll be happy to send you one. Also this call is being broadcast live over the web and may be accessed at Digirad’s website at www.digirad.com. Shortly after the call, a replay will also be available on the company’s website. I'd like to remind everyone that certain statements made during this conference call, including the question and answer period, are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and other federal securities laws. These forward-looking statements include statements about the company’s revenues, costs and expenses, margin, operation, portable imaging services, product division, financial results, estimated market share and other topics related to Digirad’s business strategy and outlook. These forward-looking statements are based on current assumptions and expectations and involve risks and uncertainties that could cause actual events and financial performance to differ materially. Risks or uncertainties include but are not limited to business and economic condition, technological change, industry trends, changes in the company’s market and competition. More information about the risks and uncertainties is available in the company’s filings with the US Securities and Exchange Commission, including annual reports on Form 10-K, quarterly reports on Form 10-Q, and current reports on Form 8-K in this morning’s press release. The information discussed on this morning’s conference call should be used in conjunction with the consolidated financial statements and notes included in those reports and speak only as of the date of this call. The company undertakes no obligation to update these forward-looking statements. Hosting the call today from Digirad is Todd Clyde, President and CEO. Todd will discuss the 2012 second quarter and 6-month results, update us on the company’s strategies and comment on the company’s outlook. A question-and-answer period will then follow. With that, I would like to turn the call over to Todd Clyde. Good morning, Todd.

Thanks Matt, and I appreciate everyone for joining us today on our second quarter 2012 conference call. I will make some brief remarks this morning, and then I will turn the floor over for questions. As many of you know, we have completed the restructuring of our board of directors over the last few weeks, and we are in the midst of a major board-driven reassessment of our corporate and business strategies going forward. When that process is complete, I will make a full report of our plans to our stockholders. That does not indicate a standstill mode at Digirad. We continue to make progress in the marketplace and in our product development efforts, both of which will deliver value as we go forward. Also we are continuing to make progress in our search process for a new CFO. We have spoken to some excellent candidates, and I expect we'll be able to select a candidate who will be a great fit for our business. From a personal standpoint, I am especially motivated to complete this task, but I also want to make sure that we hire the right person for the business at this critical juncture. I am pleased to report that we have made progress on several important issues during the quarter; most importantly we seated 4 new board members, all high-quality individuals with experience ranging from those who are current Wall Street investors to seasoned medical device executives, all of whom are dedicated to driving shareholder value. Our new board members are Chuck Gillman, Jeff Eberwein, Jim Hawkins, and John Climacohas [ph]. As a whole, we believe their mix of skills, backgrounds and perspectives, their commitment to shareholders, and their sense of strategic and value creation urgency will be a great addition to our board as we…

[Operator instructions] And we do have a question from Marc Silk from Silk Investment Advisers.

I came late on the call, but can you kind of explain to me whether the headwinds, tailwinds of all this whole Obamacare, now that the Supreme Court supported it, and then obviously if somebody else wins election they're going to try to appeal it, I know that probably is very hard for you to manage your business, but I think if you can give us an overview, that way we know what to expect going forward.

Yes, sure.

And also on the retail side, but if it affects DIS, that's fine too. Go ahead, sorry.

Yes, it certainly has an impact on both sides of the business, and I can kind of describe some of the general dynamics. If you look at the Affordable Care Act and the implementation of that act, there are required modifications in terms of reimbursement, there are standards of quality care that drive different perspectives in terms of how imaging is utilized going forward. That's a trend that's been going on for quite some time. But when we look at it from a high level, we would expect there to be continued downward pressures, both on kind of study volumes as well as reimbursements. And the reason that happens is just because, overall, as the baby booming population ages out and you have more people hitting these modalities, there's got to be a way to drive the kind of per-unit cost down. That doesn’t mean that you shouldn’t see some offset based on there being higher volumes. So that kind of happens in one scenario. Many physician practices have made decisions to kind of sell-out and align with hospitals. So there's many, many ownership modifications that are going on, either formally or some that are a little less formal. That can be in terms of true ownership, or it can also be accountable care organizations. That's a classic example of something that's inside of the Accountable Care Act, where you have hospitals and physicians kind of combining and grouping. And then, based on the population of patients that they serve, they then have kind of economic benefit and discounts that come back from, essentially, Medicare. So when you have all these relationship changes, like with large -- let's say a large cardiology practice, during those negotiating periods they're not buying assets and swapping in and out. And ultimately then the…

Okay. So now to switch gears a little bit. So on the DIS business, you have -- you say that hospitals, you're seeing they're buying practices. So do you see something, let's say there's a practice of 20 doctors and maybe they're buying -- they're using DIS. Now that they're associated with the hospital, are they just going to be using the hospital's let's say facilities, or will they still be a DIS customer?

A lot of the DIS customers are smaller in nature. Those aren’t usually the practices that hospitals are buying. You know, they're usually buying large cardiology practices or large multispecialty practices. A DIS customer, kind of the average profile would be more in the 1 to 3 or 4 man cardiology group or, in internal medicine practice, it might be in the 5 to 10 physician practice range. So those aren’t usually the groups that are being brought out, but they may link into the ACO. So far, we haven’t seen that change the way that they're subscribing to different services. But it could, right. Marc, I mean it could. So one thing that we kind of try to think about is hospitals, even if they buy certain practices, they're only going to buy so many, and it only reaches them into certain parts of the community. So could DIS also then link with them in other parts of the community where you're providing services to physicians, and then helping kind of bring the reads and the downflow traffic back into the hospital. You know, we do that with success in some areas. Other hospitals kind of don’t see the whole vision of how that would work. So you have to kind of find that right partner to have success in that type of a model.

I know the DIS, like you said, most of it is these smaller practices. Have you seen any of these small practices decide to step up and buy a device, or it's really they're just going to be a DIS customer continuously?

Yes, a lot less in recent years. You know, if you kind of look at the spectrum of time, when volumes were going up really, really fast, physicians would start to garner enough volume to justify the purchase of an asset. Smaller groups would subscribe to a DIS service as reimbursement, and let's just use as an example, reimbursement's gone from $1200, 7 or 8 years ago, down to about $600. You see small groups kind of not have the volumes and the justification, so they don’t actually subscribe to the service any longer. And some of the groups that might have been in that crossover point of buying an asset would now fit back into just a regular DIS model. Where you see some buying activity in cardiology is maybe if the splintering group or a little bit of a smaller practice, which is used to controlling and dominating the activity by owning the asset, they're sometimes going out and picking up a refurb-ed unit. There's kind of a glut of refurb-ed cameras in the market, and they can pick up a refurb-ed unit, at times, below $100,000. So they can limit their Capex requirement in doing that.

And our next question is from the line of Ross Taylor from Somerset Capital.

Yes. Todd, most of my questions were asked and answered with the previous caller. But I wanted to ask, on the ergo, what is the offshore potential and what's our strategy for penetrating in markets where we might actually be seeing new hospitals, new clinics and the like being installed, as opposed to here in the US and perhaps Western Europe where things are much more competitive and much lower growth?

Yes, so let me kind of bifurcate that maybe into a couple of different answers. If I miss part of it, ask me again. But if you think about the ergo, specifically in the international market, we did a couple of studies over the last, I guess, couple years, and the healthcare dynamics and kind of the -- I guess I'd say the imaging delivery is a little bit different in Western Europe. They don’t do the same procedures that we seem to do here. Some of that maybe driven a little bit on obesity rates. So as an example would be like gas canteen [ph] study, a lot of kind of gall bladder type procedures that are done where the ergo is just really, really clean and good at doing that type of stuff. So the marketing studies have kind of shown that there's not a huge demand for that. They tend to do a lot of thyroid imaging. Our camera works very well for that. But they can also pick up a thyroid-specific device with a smaller footprint for a lot less money than what the ergo provides. Because the ergo brings a much broader level of flexibility. So we have sold units internationally, one unit in the UK in particular, and they're using it for portability. They're using it actually for organ transplants, kind of perfusion assessment type studies. But our market research would say there is not huge demand there. A little bit more on the cardiac side, actually, because you're seeing an increase in obesity, an increase in cardiovascular disease, but then some of this -- like these studies were done kind of before the debt crisis hit Europe quite as hard. And because you have national healthcare in a lot of those countries, there's…

And the Third World market?

Yes, so the Third World markets are interesting. Brazil -- I guess you can decide if you want to call it Third World or not -- but Brazil has -- they have some dynamics where they have some very large imaging centers that are run by a couple of really formidable groups. And those could be some groups where you could sell some dedicated cardiac devices. If you look at other countries like India, China, so on and so forth, they have either very little nuclear-medicine-specific physicians in the countries, like there's very few, really, in the entire country of India, which is just shocking, right? And even in China. So what they're doing is there's either really high-end premier units that are purchased and they're buying multipurpose devices, very high-end devices, or usually they're looking for very economical devices. Especially as you kind of shift outside of the main metropolitan areas into the urban setting. So our market research has kind of been mixed there in terms of, do the dedicated devices that Digirad offers really fit that marketplace. And then also balancing that with the significant investment to gain the credibility and the positioning in the country. So it's been really hard to justify for us that way. If you could find the right distribution partner, it might have some potential, but it looks like it's maybe not quite ready.

Okay. Another -- I know that the new directors came on and all have basically stated that they intend to buy substantial amounts of common stock in the open market. And while there was a flurry of buying early on by a number of directors, it really has paused for an extended period of time, which tends to make me believe that they are aware of information that is probably non-public and are therefore frozen out of the market, because I can’t believe that they've satiated their needs with the buying that they've done. And the newest directors haven’t bought any at this point, at least that I've seen in the filings. And I would strongly encourage, whatever is going on that's keeping these guys out of the market, I think it's a very strong message to investors. And you noticed how well the stock was performing when the new directors were in the market buying, and I think whatever can be done to get them to be back in the market buying, I think both as a vote of confidence, and honestly, to soak up liquidity. Because we know that Digirad is a little bit of a orphan stock. I would encourage that you, the board, your outside counsel, all take whatever steps and get that so they're back in on a soon-as-possible basis.

Yes, and I think you did a nice job, Ross, of highlighting all of the elements and dynamics, right? So when they were able to be in the market, they were absolutely in the market. I know that Chuck and Jeff are -- I’m not trying to speak for them, but I know they're very committed to continue to find a way to be buying. And so there are certain mechanisms, right, that can be put in place. And so, I can’t obviously speak for them. I mean they have to decide how they go down that path. But yes, that's certainly understandable. And our window opens back up kind of 3 days after our earnings call today. And then -- it's a fairly short window, ultimately, but that doesn’t mean that 10b 5-1 plans or things of the like couldn't be put in place as long as they don’t have this kind of non-public material information even at that time. So yes, they are trying to figure out an effective structure. So, got the message from you. I appreciate it.

Okay, great. I appreciate it and congratulations on the nature of kind of stabilizing the business. Obviously at this point going forward, it would be nice to see if we could get cash flows moving positive and cash balances stabilizing and moving higher. it looks like actually, x the buyback and x the legal expenses, cash flow would have been slightly up for the quarter over the prior quarter.

Yes, and all of that is true, right? And there's a lot of work, and we're trying to balance -- we think there are a number of options in terms of increasing the shareholder value, and we're trying to balance all of those options with the risk and the profile of how the communication from the shareholder base is coming in. And we obviously listen to the shareholders. I mean, swapping 4 new directors on a board is a significant change, right? A lot of personalities, a lot of new ideas and suggestions. And it's great, right, but it takes a little bit of time. And I’m not as patient, because I’ve been working at this for a long time and I want to get some value out of this stock. But I’m sensitive that if you go out and ask your shareholders for recommendations and you bring on these directors, you've got to give them time to learn, to come up to speed and make a proper decision. So that doesn’t mean that there isn’t a dramatic sense of urgency around this, there is, okay? But that's the process we're in right now.

And our next question is from the line of Steve Rhode [ph] from USIP [ph].

Hi, Todd. It's been a while since I looked at the company and that we spoke, so forgive me if I'm not fully up to speed. But I seem to recall that you spent a fair amount on strategic review over the last 12 months. Can you just refresh my memory as to how much was spent and what it was spent on in general?

We have spent a little under $1.5 million in total really analyzing kind of, in the end, 4 key questions that I won’t go into, but it was analyzing elements of how to really advance the business from a strategic perspective, how to utilize the technology and move that into another vertical. It was also even had question as broad as looking at specific white space areas that we could really, really take advantage of. We had some discussion earlier with one of the questions around -- from Ross around kind of international expansion. Some of those things that are very, very specific. And then we have been going down a process of understanding that, pulling it all together, building implementation plans. And then we also, simultaneously, kind of really the beginning of this year, went into these strong negotiations on swapping out board members, bringing on new directors and now the process is -- and we've gotten most of this now where we've educated them on that entire alternative and those outcomes. And also are analyzing and assessing any other strategic alternatives for the business with kind of the fresh eyes and fresh perspective.

$1.5 million, I mean you've characterized it as a little bit of money, but to me that seems like quite a lot of money for that type of review for a company of our size. And I don’t think you went into detail in the public documents as to where that went. Can you give us a little flavor as to where it went? I mean was $500,000 to a law firm to -- I mean where did this money go? It's a lot of dough.

Yes, I didn’t mean to leave any impression of referring to the amount as a small amount. That was not my intention, so I apologize for that, however it came out. You know, what I can tell you is that part of the process was hiring a premier healthcare consultant to drive a significant assessment.

And what did that premier person cost?

I'm sorry. What did you say?

What did that premier person cost? Was it $1 million out of the $1.5 million? I mean…

We haven't broken out any of those -- the specific details to you. I mean, the ultimate view is we spent a sizable amount of money trying to really uncover the most effective strategic direction to untap the most shareholder value that we could possibly get out of the business, and really analyze some key strategic alternatives in that process.

Okay, I mean, I get the general term, but I would just encourage the board to take a look at some of that spending, because it's a little troubling. I mean, I remember being on a call about -- when the million or so was spent and saying, gosh, that’s a lot of money. And somehow this doesn't provide any further comfort. It provides a little bit of discomfort, quite frankly. All right, let me -- I was about to compliment you to your ability to hold onto the cash, x $1.3 million of the $1.5 million spent or x $1 million of the $1.5 million spent. But isn't it about -- given that this analysis took place, It took place a long time ago, it seems to me part of the analysis was whether the camera business could be, you know, brought to another arena. Obviously, on its own, the DIS business is not sufficiently profitable given our corporate structure. Without sitting on your board, I think the conclusion becomes fairly obvious that the result would be selling off both the businesses and distributing the proceeds with our cash that we've managed to hold onto to shareholders. Isn’t that about where we wind up at this point?

Well, I think that, that is certainly one of the strategic alternatives that could be deployed. And like I said, the board is looking at kind of any and all potentials. Ultimately, you're trying to weigh -- kind of the way you described, right, that's always an option. And you're trying to weigh what that economic value would represent versus any of the other alternatives, and really trying to make the best decision to increase the value. You're not trying to necessarily hold onto an asset or hold onto the company for the sake of holding on to it, you're trying to figure out the most effective way to increase the value for the shareholder.

That's right. I mean, reading between the lines, it seems to me that you fairly well have concluded that it's not seeking to bring the camera business into this whole brand-new area, because it’s brutal to create a brand-new market for ourselves and not cost-effective. And then the DIS business speaks for itself. It just can't be supported on our shoulders on a profitable basis. So with that, then we lean toward the result that I just described, which is selling off both businesses and distributing the cash.

Yes, I mean, no decision has been made on that front. Like I said, we have brand-new directors who are -- you know, we're spending a lot of time bringing them up the curve. They're spending a lot of time analyzing everything from having multiple discussions with existing shareholders, to analyzing elements of the business, to thinking about valuations on every component of the business and how you can kind of maximize that return, what are the strategic alternatives. I would not necessarily conclude because we haven't ruled out kind of the results. If you were talking about, let’s say there's an opportunity on the product side, that just because we haven’t ruled that out that, that isn’t a very viable opportunity. We've got to understand the pieces first. But that doesn't mean you couldn’t come to the conclusion that you're -- that you're purporting neither.

Yes, I mean, as a shareholder or maybe a soon-to-be shareholder again, I've been a shareholder in the past and then sold off a few times but, you know, I would be troubled if I heard of a strategic plan to roll into this new area the camera business, and that would just be like, it wouldn't -- to me, not be a good use of our cash. You know, we have a product that's probably desirable for somebody else with a bigger reach to take up, and then the DIS will go to somebody else as well and can maximize value pretty well like that. So I would hope that… Listen, the comment on the $1.5 million, you know, if you can put out some detail in one of your releases as to where that was spent. It's not a small amount of money and given that our -- our biggest call here or the biggest asset or best asset that we have is the cash, to see that go out the door such a long time ago without any particular results from it -- I understand you have a new board and you can say maybe that’s a result, but that's a lot of money to be put out for hiring a premier consultant and maybe something else. So if you could put out what that detail is, that might give us a little more comfort that, that cash is going to be safety guarded going forward and was properly spent in the past. It's not suggesting it's not, but it's disconcerting.

I appreciate the feedback, Steve, and always great to chat with you.

And our next question is a follow-up from Ross Taylor from Somerset Capital.

Can you give us a picture real quick of the public company costs or the rough public company costs that Digirad incurs on an annual basis?

Yes, I mean, my rough number would be kind of around that $2 million range. I mean, I obviously include board fees and all of the elements associated with being public to, you know, higher audit fees and so on and so forth. I mean, we recently went out and bid our audit fees pretty hard. You can see there's a little paragraph on that maybe in the proxy statement as an example of costs that we're always trying to manage those effectively down as much as we can. So I'm not going to tell you that those numbers are dramatically high. But NASDAQ fees, stock fees and all those things, right? The Delaware costs are always higher when you're public and you have more outstanding. So I would say it's kind of in that range, give or take a bit.

And I think that, you know, our views at Somerset I think are well known from prior calls and the like. I think that, you know, our belief is as well as you've managed the business and as well as you've generally husbanded the cash on an operating basis, unfortunately Digirad is of a size that is just, it's difficult to be a public company and it's going to be hard to get value realized as a public company. And we've had conversations about this with a number of directors, primarily new directors but also at least one previous or one incumbent director from the prior group. And we look forward to the process being competed. And I think that also, real quick, you guys load a lot of your costs from the corporation as a whole into the DIS business. Do you not?

Yes, we spread all of those costs between Product and DIS, and DIS takes -- you know, I don't know the exact percentage, but it's somewhere around the 60% range of those costs.

Okay. Okay. So basically the DIS business is probably more profitable than it appears at first glance when one looks at the financials.

I think you could argue that certainly if it was in a private setting, right?

Yes.

Absolutely. Yes. I mean, you could argue for both sides of the business, for sure, but you could -- if you want to think about like an EBITDA production off of the DIS business, it's a higher number in the private setting.

And it would seem the camera business would benefit from having an alliance either direct through ownership or marketing agreement with a larger player who has a much broader reach, particularly perhaps in markets geographically where you guys are not currently there.

Yes.

And we have no further questions at this time.

All right, great. Thanks, everyone. Really appreciate the great questions today as well as opinions on how to advance the company. I mean, obviously we continue to be very dedicated to increasing the shareholder value. We work every day aggressively on this business. We wish there was a higher ratio of results to the effort, right, but I think there's tremendous effort that gets put in. But we don't get paid for effort, we understand that, and we’ve got to drive that process. We’re grateful for the feedback we received from our large shareholders as we've gone out and made enhancements and modifications to the board. I believe that the board is absolutely and acutely listening to the shareholder base, and we will continue to do so. Thanks again for your patience as we're analyzing these strategic alternatives and allowing that group to come up to speed. And we look forward to chatting with you in the near future. Have a great day.

This concludes the Digirad Corporation 2012 Second Quarter and Six Months' Results Conference Call. Thank you for your participation. You may now disconnect.