Acadia Healthcare Company, Inc. (ACHC) Earnings Call Transcript & Summary

Hi, everybody. I'm A.J. Rice, the Healthcare Service Analyst at Credit Suisse, and I want to welcome you to the 30th Annual Credit Suisse Healthcare Conference. So we're very pleased to have up next presenting Acadia Healthcare, a leading provider of Behavioral Health Services. And representing the company today, we have Debbie Osteen, Chief Executive Officer; and David Duckworth, Chief Financial Officer. Always on these type of presentations, we have people that know the company very well and some that are new to the story. I thought, I'd ask Debbie, thanks again for participating, that we might start with just, if you wouldn't mind, people think of Acadia as behavioral health oriented, but they may not know that you have distinct lines of businesses covering different aspects of the sector and maybe give us a flavor for each of those segments and the growth and margin profiles associated with each, if you don't mind.

Well, good morning, A.J., thanks for having us. I'll just say that Acadia Healthcare is very unique in behavioral. And you mentioned the difference in the service lines. I'll talk just briefly about them. But we have a lot of diversification in the company and it's really diversification by services, but also geography and also our payers. And I think that does make us different than some of our peers and obviously, some of our competitors. But our largest service line is acute, and that's acute behavioral, it's the highest level of care, and that's 48% of Acadia's revenue. And we treat those that need that care, that will contain them in some way because most of the time they are either suicidal, homicidal or they're gravely disabled. So those are the medical necessity criteria they have to be. And we are spread out across 20 states, and we have 45 facilities. The other service line that I think is also very much in demand is our specialty service line, and that's 22% of our revenue. Specialty is inpatient residential programs. We are focused on providing substance use, but also eating disorder, treatment for those that need it. And it is also in a number of states. We do have national programs that have patients that travel for those specialty services, not in every setting, but in many of the settings in our specialty service line. The third service line is our CTC, which is our comprehensive treatment centers. They provide therapy as well as medication for those that have opioid disorder issues. And CTC is 17% of our revenue. We think we have a unique model, not everyone offers it the way we do. So we do combine therapy with the medication. And I think that, that has set us apart. There are other companies that do it, but we're the largest provider for CTC. And the last is our residential service line. That is our smallest, and it's 12% of our revenue. And the residential facilities oftentimes work with states. They provide very specialized services for child -- for children and adolescents. And they are our smallest, we don't target them for growth like we do our other 3 service lines, but they are very important to the company. And I think that, that's actually how Acadia started. I'll let David talk a little bit about the growth profile. But I'll just say, we have diversification, which I mentioned when I started, and I think that's given us, not only the growth pathways, but also helped us with some of the challenges. And I think that, as I think about just where the demand is right now, we cover all of the areas. And I think that David will go into more detail about that. But we are in a very fragmented industry that's underbedded in many states, and that's allowed us opportunity to grow in various ways, and we see that as the future of the company in the U.S., okay?

And we do see, across our service lines, we do see strong demand. We see an opportunity for volume and revenue growth really across all 4 of those service lines that Debbie laid out. We do, in many ways, see the growth in our service lines relating to the different growth pathways that we have. Debbie mentioned that many markets are underbedded. We have joint venture discussions across many different markets. And we have opportunities to expand the facilities that we already have within our existing markets. So that does drive the way we think about which service line will grow at a faster rate. Many of our joint ventures and really all of our joint ventures, to date, have been a key focus, where on the de novo side, we are looking at acute de novos, but also CTC de novos. And on the facility expansions, really, that's across all 4 of our service lines that we think have the opportunity to grow within our existing markets. So we do think the acute business with the demand that we see there and with more growth opportunities that we see there across the pathways. We'll continue to see the strongest revenue growth. They may be a little bit ahead of the company's targeted revenue growth, which is 6% to 8%, whereas residential, which is really staying within our existing markets, maybe slightly below that. But we do see a very strong demand environment and revenue growth expectation across our service lines. And the margin that we see across our service lines can be very similar. Margin is a function of many different factors. The market, the size of a facility, among others, many of our service lines are right at the company average, which is 28% to 29%. And that's after having grown in their markets and really capturing a lot of opportunities for efficiencies, and we think those opportunities will continue, as we continue to expand.

Okay. Great. When you think about the pandemic, and we're trying to think through this with all the different sectors, but there's certainly been a lot written about significant mental health and emotional toll that the pandemic has taken. Do you -- how is that, do you think, affected your business lines? And you -- I mean, there could be some short-term impact, but then there could be a long-term demand impact. How do you think about all of that, as it specifically relates to the businesses you're in?

Well, the pandemic has certainly had a real impact on children, adolescents, adults. And I think that with the various waves, the way that they've come about, I think that it's been a long-term impact that, frankly, I think -- and I've read research that -- expected that there would be an impact, and then that would start to gradually get to be less of an impact for those that go back to work and go back to school. I think what the research has shown A.J., is it's actually longer lasting. And it's actually individuals that now have more depression and anxiety than they did when the pandemic started, which the stay-at-home, we can understand, but the prolonged just uncertainty around COVID and just the pandemic, how it impacted so many people. We -- when we started before the pandemic, we had 1 in 5 adults needed mental health, had mental health issues and substance use issues. Now the number that we're seeing is 1 in 3, which is a big change. And recently, there's been -- from the American Association of Pediatricians and other medical bodies that treat children and adolescents. They have asked to have a crisis declared because what's happening is, individuals are coming into the ERs at a much higher rate. So we see other pandemics like SARS, they were not -- it was not contained in the year of SARS. It was prolonged, it was for 2 to 3 years afterwards. So it's hard to predict that. But right now, the literature and research is saying that there are more individuals that not only have impact, but that impact has actually worsened. And it certainly worsened for those that had mental health issues before. And we're able to manage it, and they were able to function. Now those individuals, we're seeing those individuals come to our facilities. And certainly, as we look across all the service lines in the company, we're seeing that demand. And I think that, that will continue for -- I'm not sure I can predict how long, but I know that it's not a temporary impact that we thought when we went into this.

Right. One that has been interesting is the dynamics around adolescents. I think at one point, you had said that about 15% even of your acute behavioral is adolescents. A lot of those referrals came through a school system, high school, college counselors, et cetera. Those were out for 15 months or so of people who were going. Do you think those people were picked up somewhere else in the system through the emergency room of an acute care hospital? Or do you think a lot of those people just went untreated? And if you see the schools have reopened this fall, some of that business come back?

We have seen an increase in our adolescent census across those facilities that provide that kind of here. And you're right, it's up to 15% across the acute care service line. But I do think that individuals are seeking help through ERs. And in fact, what I've read about our ERs across the country that have -- they can't even accommodate the number that are coming in for suicide ideation, other things that have occurred because they've been isolated. They've not been with their friends. They've not been connected to a school. So as they do go back to school, there are counselors, there are teachers that I think will identify even more issues that are -- have been present. The parents have coped and actually, they have had impact, and I've read studies about that where parents are seeing more issues just trying to handle their children and whether they be a child or an adolescent. So I think if you just look at all of it, we're seeing that demand. It has increased after school started, and I think that's going to continue through the future.

Yes. And with all this publicity around mental health and behavioral health, it would seem like this is a pretty good time from a reimbursement perspective. There's also been some moves by the new administration to shore up Medicaid programs, which are an important payer of some behavioral health services. Can you maybe just walk us through the different payer classes, Commercial managed care, Medicaid, Medicare, I guess. And what you're seeing in terms of reimbursement trends, maybe early read on the recontracting for next year with managed care to the extent that's relevant. Any comments there?

Yes. And I'll just say -- I'll let David take this one, but the stigma, one of the positives that's come out of the pandemic is just the attention on mental health and substance use. And I think that as people have stepped forward, that social influencers, you've got athletes, you've got others talking about this. That's been a positive where people that might not have sought care are willing to do that. And certainly, the payers understand that it's important that they have those services available. And I think that has translated in a positive way to our rates. But I'll let David go through the detail of that.

Yes, we have seen just an ongoing trend where there is better coverage as the demand has increased, there has been better coverage. And we've seen that, I guess, recently in our CTC business, but even many years before that, I think we've seen improved coverage for mental health treatment. The breakdown of the payers. We do have Medicaid at almost 50% of our revenue. We have Medicaid coverage across all 4 of our service lines. Within our acute service line, most of the states do have managed Medicaid payers. So we're fairly diversified across our states and across many different managed Medicaid payers. Commercial is about 29%, 30% of our revenue. We have -- most of that is in network with our payers. Over 90% of our Commercial is in network, long-standing relationships that we've really invested in with our payers, locally, as well as with our corporate managed care contracting team. Medicare is also a significant payer at about 16%. Medicare does cover the CTC business, effective last year, and is also a significant payer within the acute business for certain programs. So they're about 16%. Many of that is managed Medicare. That's about 60% to 70% is traditional with the remaining is some type of managed Medicare payer now. So the coverage has improved. We're very pleased with the real diversified mix that we have. Payers are supportive, understand the services and the programs that we provide, the essential nature of that and really the role that we play across our markets and across our service lines. Our approach in terms of the rate increase is just to take that long-term approach. And we do go through that with them every year. As it relates to recontracting across our different payers, we do believe the strength and the quality of the services we provide is reflected in our expectation that rate increases are 2% to 4% on average. And we have seen that recently across the diversified group of payers that we have.

A.J., we've opened programs at the request of our payers. There are co-occurring programs where there's mental health and substance use. Because often time individuals have both. And those are very specialized. So it's not just getting substance use, but also the mental health. And as we've done that, I think our payers have been very responsive with -- being willing to pay for that because it is more intense and it is more specialized, but that's something that I think we've done as a company, and I think it set us apart from some of our peers.

Yes. Yes. And we hear so much about value-based contracting in that last sort of bundled product you talked about, might be an offshoot of that. But are you seeing the terms of the contracts or the nature of the discussions with especially the managed care payers change in any way? Or is it still pretty much straightforward fee-for-service type of payment rates?

Right now, I think it's still pretty straightforward fee-for-service. But we do -- we want to maintain communication and as metrics and other things are developed to certainly look at value-based, we're at the table, and we want to be at the table. But our contracts themselves and just where things are today, it's really still fee-for-service, and that's how we get paid on most of our contracts.

Right. Right. I'd like to think I have the long list of smart questions, but I know that many of our clients have better questions. So I want to make sure I'd give them a chance to e-mail me. [Operator Instructions] When we think about -- I guess, one of the big questions in the third quarter seem to revolve around labor challenges. And the various people saw that manifest itself in various ways. Some were talking about nurses out on quarantine. Others were talking about just the general tightening of the overall supply. I'll start out broadly and just ask you what are you seeing with respect to your ability to get the labor you need and any pressure on salaries, wages and benefits that you're reflecting as you think about next year. I know you haven't formally given guidance, but is that a component of a challenge that would be worth highlighting?

Well, I think that I mentioned earlier how diversified we are. And I think that the service lines themselves utilize different health care professionals. So I do think that, that has helped. But we also recognize that there is a tough market out there for labor. We've tried to be proactive, A.J., even before COVID, but also during it, just to make sure that we are competitive in our markets. We use, over time, an agency if we need it, so that we're not limiting our volume. We have had individuals that have gone out. They've been tested positive for COVID, but they do come back. And I think that we've not seen a trend where we have individuals just not returning to the workplace. I do think that the team has tried to look, not just at recruitment, but also retention. And we have a centralized recruiting function here with the company that supports the facilities, and they are filling positions, but then the key is keeping them, obviously. So we have individualized plans for each of our hospitals in each of the service lines around onboarding, retention, what we can do to make sure that they stay with us. Training when they join, so they know what the job is. And there's a lot of other things that we're doing just to make sure that people feel important and valued because I think that goes along with the salaries. But certainly, it's a market that's challenging, and I have to give credit to the operators because I think they've managed through that and kept this in a situation where we've not had to -- if we had to limit volumes, it was very temporary and an isolated circumstance. You want to talk about wage rates, David?

Yes. We haven't provided any formal commentary around our expectations for next year. But as we think about labor, we have managed through a tight labor environment this year. And as Debbie said, our operators have done a great job recruiting and retaining employees. And despite the tight environment that we've navigated, I think our metrics have been very stable. And our margin, and as we think about our salaries, wages and benefits metrics, we've seen a real stable trend there. And even if we don't see some improvement that we hope happens really here as we go into the fourth quarter and next year, we hope there's some opportunity. But even if there is still the same labor environment, I think with our track record in managing through it, we don't see it as a big headwind going into next year. And hopefully, it's an opportunity.

And your use of contract labor, that's one thing that some of the other sectors like home health have quoted as being up in the third quarter 2x what they're used to. Have you -- what's your trend and use of contract labor look like?

Yes. The premium that we see is about 2x the base rate that we would otherwise pay. So we do want to limit our use of contract labor. But if it's supporting volumes, if it's temporary to fill in, if there's staff absences, we do have agency partners that we go to, and we have to utilize some. In our view, it has not been up in a meaningful way. It is still only about 2% of our total labor cost. Historically, it's been about that level, maybe more like 1% to 2%. So we do use it. We're glad that we have that option and availability if we need it, but it has not been up significantly over where it's been trending.

I've got someone e-mailing me about this question. It says the company has been best-in-class in managing labor challenges. Has that created M&A opportunities with peers that are struggling to deal with labor?

Well, we certainly think that there's a good pipeline for M&A. And I do think there are companies, some smaller companies and single facilities that have not had the resources that we certainly have, because we are a company in 40 states, and we have the advantage of having corporate resources, and we've deployed them to the facility. So I do think that there will be opportunity in M&A for some of those individuals that have not had the resources available. And we're certainly open. And we think we have the visibility around those opportunities. But frankly, not everyone has handled them and have the ability to do that. And certainly, we would look for opportunities to bring them to Acadia, and we think that there are opportunities out there for that, A.J.

Yes. And when -- I might broaden it out even beyond just the staffing challenges, I think still a significant chunk of the acute behavioral is in acute care hospitals that have a behavioral unit. And you mentioned already that there is a fair number of JV discussions potentially working with them. But I wonder whether the pandemic or the staffing challenges, their need to free up space, maybe even or whatever. Has that, in your mind, in any way, accelerated the discussion around potentially joint venturing with some of these health systems that maybe have units that they would like to offload in some form of fashion?

Well, I do think that there is a lot of focus on trying to make sure that these large systems can meet the needs of the -- those that have mental health issues, but also substance use. And so I think that the pandemic, which I thought might slow that because of attention elsewhere has actually -- has accelerated. And we have 7 current partnerships in place. We have 7 more that we have announced. And we have, hopefully, a couple more that we will be announcing in the fourth quarter. So I think as they look at the landscape, they see that, that's not something that many times they have expertise, but they do have units. And so in most cases, they're folding those units into a new venture with us. Many times they'll have land, and we will build on that land. But then we also have -- they have the opportunity to bring those staff over. But it's been very good for, I think, both of us because we have an opportunity to enter a market, we might not have been able to do so in a way with a strong partner. And they have the ability, as you said, to use those units for other things that they might feel that they are more equipped to do. And we also are looking, A.J., at the population and how that movement is really going towards managing those lives not looking at physical, separate and looking at mental health. So we're excited about the partnerships. And a lot of them have models around value-based that we hope to be a part of in the future. And I think that they are looking for someone that has a strong track record. It's almost always a competitive process. We've been pleased that they've been choosing us as a company.

Right. And maybe just remind us about the economics of that. Is there a drag initially? And what is the returns on those? And I'm assuming the margin profiles are similar to what you have in your core business. And one question we've been asked more recently is, there is some uptick in construction cost. I don't necessarily think of behavioral health facilities is hugely capital intensive, but has that had any impact on the return profile of these de novos?

Yes. That's a good question.

Yes. And there is a process that we go through for our joint ventures, that is similar to a de novo facility. In some cases, of course, we love the idea of a structure where there's not that start-up in that period of losses. So we work to structure it in the most favorable way possible. But many of our de novos with a joint venture partner do go through a period where they are hiring a new team and going through the survey and licensing process. I think we have seen with our JVs that we have an opportunity to ramp them up a little bit faster with the business that, in some ways, already exists in that market through our partner and their unit and relationships that they have. But there is a period that we go through before we reach the company's average margin. And we do think, joint ventures, we can build bigger facilities, and we can, in many cases, expand them faster so there's several, we think, characteristics that make it an attractive return for us. We don't really put out exact return thresholds. It is more nuanced and factors in many other factors, qualitative factors. But the -- one of the joint venture looks like, in many cases, it's very similar to the strong performance that we see from our other facilities. We think the opportunity, not only for a growing number of joint ventures, but that each one can really see a larger size and presence in the markets that we enter through the joint ventures. Construction costs, we have seen inflation there, similar to, I'm sure, what other companies see. It has not had a material impact on either the investments that we make. We do look for efficiencies in our design and our construction to hopefully offset that. But it hasn't had an impact in a material way.

And we brought on an individual, A.J., in the second quarter, to lead that effort. That's important for us with bed expansions and all the other things that we're doing. And he's got over 20 years of experience, but a lot of that's been building behavioral. So we're looking at our processes here and looking at ways that we can value engineer and making sure that there's not efficiencies we can get, and he's very engaged in that. And I think that's going to help us going forward just because he has such -- a lot of experience in building behavior, which is somewhat different than the other construction.

Right. We've got another e-mail question coming in. It's asking -- and this is a comment that's been made by other health care service companies. Can Acadia help us understand how technology can reduce the staff-to-patient ratio in their facilities and generate other efficiencies. Is that something that has applicability in any way, in a meaningful way in behavioral? Or is that -- would you say?

Well, I think that we see technology, and more specifically, using telehealth as a way to support our operations. So if we're in a market where we may have a physician shortage, for instance, or so a need for a physician rather than bringing a locum in, we are using telehealth to support that. And I think that, that has worked well. I would see the use of technology more around extending our services and our service lines. And we are opening in our specialty programs that pull from a national footprint, we are opening and we have opened a couple of new operations that are connected to that specialty facility. So I think of a more around access and extension of services than I might around replacing a staff person. We certainly -- and I think that there are various regulations and things around that in each stage of what we can do with people out of the state. But we've studied that. And if it does make sense and we can use it, certainly with this labor shortage, we will. But right now, it's mainly around physicians that we're using it.

No, that makes sense. I know you haven't yet given guidance for 2022 and as much as I wish you would. You're probably not going to do it on this meeting. But what -- and when you think about '22, what are the big unknowns for you? Are there big unknowns or items that would swing the results meaningfully one way or the other or a lot of those building blocks are already pretty well in place?

As we think about those key building blocks, I think the strong trends that we've seen for 7 quarters or so now really throughout last year and this year. We see those as continuing, and that's around the demand supporting the volume growth and us adding beds and new facilities to also support that volume growth and the reimbursement and the stability and the rate increases we're seeing there. The team has done a tremendous job managing expenses and just aligning our expenses with the volume growth that we see. So we do not see or expect any disruption to that. I think we've been able to manage through if COVID is a challenge in a certain market. We've been able to manage through that and just make sure that if it does have an impact, it's temporary, and we really bring resources to it to rebound quickly. And so we don't think about real specific headwinds going into next year and have been very pleased with the stability and those strong trends that we've seen. We will be talking more about that once we go through our budgeting process and provide guidance at the time that we typically do in February. There's -- the Medicare sequestration would be the only, I guess, headwind that many providers might be highlighting for us with our Medicare mix, that's $5 million to $6 million as we think about the impact of that, starting in January. But other than that, we've seen a lot of positive trends, and we expect those to continue.

There's nothing about the public health emergency per se that's affected other than, like you said, the sequestration came in with that. Is there anything else about the PHE that is meaningful that makes a difference?

No.

No.

Okay. Okay. Well, and wrapping up here, I'm sorry to see the announcement, but Debbie, you've announced that you're going to retire. They called you out of retirement to come to Acadia, but it's been a good run. Can you just sort of update us on where things stand with respect to finding a potential replacement? Anything you'd want to say about how the company is positioned and the management changes you've made over the last few years and facilitating the run you've had. I'll just throw that out as an open question.

Okay. Well, we mentioned during our call that there is a national search firm that has been hired by the Board, and they've been doing work, researching and looking at potential CEO candidates. I've been pleased just with the interest that we've seen. And I think that we're looking for an individual that can continue the momentum here around our growth pathways, but also someone with a track record for value creation. Because I think that's important. But I will say, and you mentioned the team, I think that someone coming into Acadia right now, we're a very strong company. And I think that with everyone's efforts and the team and the person sitting next to me, we've been able to position Acadia to have a very strong capital. We can do what we want to do, and we also are going to be careful about what we do. And I think that framework is in place. It's also in place from an operational point of view. So we have visibility around metrics that we think are important. And I do think that -- I've been able to bring in over 20 individuals that are executives. They are proven talent. They are successful. And they've been successful here at Acadia. They're very collaborative with each other. And I think that whoever comes in, and I think it will be a strong leader, will have the advantage of working with them and alongside them. I plan to stay on the Board, but I also plan to make sure that whoever comes in is acclimated to the company. I think that -- if I think about the team itself, we've added operation strength in finance, in operations, procurement. We took a view of where are our gaps. We've added marketing talent. These are highly successful marketing people that have helped our acute service line. So I don't want to leave out anyone, we have brought in someone for integration and partnerships, and she's proven that, obviously, through what we've been able to deliver in that area that we have, I think, a very, very strong opportunity ahead for growth, A.J. And so while there's never a good time, I feel very good about where the company is and certainly, the opportunity I've had to use my experience, but also work together with. I think they're the best in the industry, and I think that they're going to continue to deliver for the shareholders.

Well, that's great. Well, that's a good note to end on. I appreciate you guys, once again, participating in our conference. Thanks very much. And hopefully, next year, we'll be doing this in-person. But thanks again, and I wish you the best.

Thank you.

Thank you.