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

All right. We can go ahead and get started this afternoon. Thanks, everyone, for joining us. I'm Whit Mayo, I lead Leerink efforts covering health care providers and managed care. I've got the team from Acadia with us, Heather Dixon and Patrick Feeley. Thank you guys for joining us today.

Maybe just to start, 2 years ago, you set some targets. You've now like reset some of the targets, can you maybe walk backwards and kind of circle the areas of underperformance versus the original expectations?

Yes, sure. I'll take you through a couple of different pieces, maybe where we are today and then what we've built in for growth for the future. So if we start with where we are today, I would talk about 2 things. The difference between what we had out there previously and what we're seeing now. The first is medical malpractice. Those costs have increased. We have talked about what we've absorbed. We think we've absorbed about 75 basis points on that front. And I think that's a step-up from what would have been anticipated in the prior guide that was out there from a longer-term perspective. And then the second is just looking at all of the, I would say, scrutiny, media attention, external attention, government attention. And I think that's something we've talked about pretty extensively over the last couple of quarters. So I won't rehash all of that, but that's obviously been a drag on the performance. And while we think that will eventually turn around, we think that is a temporary phenomenon. We just haven't put a time frame on it yet. So I think that's probably the 2 biggest things that are driving the difference to date. And then as we look forward, I think there is I know there's a big difference in what we're building in on a bed growth perspective. So for 2024, we added about 776 beds and that's roughly 35% to 40% lower than what we had anticipated in the prior guide. And then going forward for the incremental years for 2025, we've guided to 800 to 1,000. And then on an ongoing basis, we've guided $600 million to $800 million. And both of those numbers are about 25% lower than what -- little bit more than 25% lower than what we would have anticipated previously. So that is -- that was intentional. That is part of our approach of moderating cash flow growth and CapEx. So that was an intentional change. But that, I think, is what we're seeing play out. The only other thing I would add in is the mix. If you look at the mix of beds that we would have anticipated in the prior guide, there's probably more of a focus or a shift to de novos and new facilities now than what we saw. Previously we had anticipated more pure bed additions to existing facilities. And while that is a positive move from a long-term basis because that sets us up very well as we get a little further out, those facilities will continue to ramp, and then we will have the ability to add beds to those new facilities in the future, but that has an impact, a lower impact to EBITDA in the near term years.

Okay. So the med mal, all the exogenous sort of headline things that have negatively impacted the operations, but nothing around like the performance of the de novos and joint ventures relative to the expectations. Just that you're not adding as many beds as you had incorporated in the original plan.

Yes. Probably the only other thing I would add in is the timing of when the beds have been added. So if you look at the cadence throughout the year when we've added beds for the last couple of years, those have differed a bit from what would have been anticipated in the guide just because of normal construction happening. So for example in '24, a large preponderance of those beds came at the very end of the year. And that obviously would have had a difference because those beds will not ramp to a breakeven point until the beginning of 2026. So that would obviously be a difference from a timing perspective.

While I'm just thinking about the beds in the construction and all this activity, we're getting a lot of questions around just tariffs in general and how that might impact the future of a lot of the things that go into creating a new hospital. How are you thinking about how that might influence the pace of spending or how you're hedging or what you locked in? Or just anything on tariffs? How are you thinking about it?

Yes. A couple of things that I'll point out. So first, we've actually done some math on what we think that would be, and there's actually a small proportion of our construction costs that relate to, I would say, imports where there would be a direct impact and that small proportion even assuming a tariff 20%, 25%. I think there's just a very minimal impact overall to the size of the construction cost. To your point of, is there anything we're doing to hedge it, I would point out a couple of things. The first is the -- our ability to lock in prices. So for example, pretty much all of the beds that we're planning to add for '25 and largely for '26, we've locked in the price already, and that's generally how we operate on an ongoing basis. And then the second thing, and I think, we talked about this before, is we typically look to use as much prefabricated parts as possible, whether that's internal or external for the facilities, and that helped us reduce the cost and certainly moderate any cost increases as we go from year to year, but also just create consistency within the facilities.

Okay. No, that's helpful. The single largest question that I'm getting is the guidance and how we look at the first quarter range and square that versus the full year. Can you maybe walk us through some of those discrete building blocks to get us from the first quarter range?

Sure. So I'll start with what we included in the guide. We talked about Q1 2024 versus Q1 2025. If we look at a few pieces that we pointed out, the first would be start-up losses. We pointed to those being more significant in '25 in general. But certainly, largely as a result of what I just pointed out with the cadence of the bed adds last year, they are very much concentrated in Q1. So of the incremental start-up losses, I think, it's around $20 million that we think will impact just Q1. The second thing that I would point to is the supplemental payments. We talked about those being a large part timing difference for 2025 versus 2024. We think that's about $10 million to $15 million impact to Q1 '25. So that's the second thing we pointed out. And then the other thing we pointed to was a closed facility. We had 1 closed facility that we closed at the beginning of Q1, but we started ramping that down in 2024 in the fourth quarter. And as you think about how that works, you obviously can't close the facility until the last patient has discharged and it was a specialty facility with a little bit longer length of stay. So it took a little bit longer to wind that down. So what you're seeing is the drag from a subscale operation for that period of time. But I do think there's 1 thing that certainly we've heard, it's probably the same thing you're hearing is some lack of understanding or maybe confusion about normal seasonal patterns with the business. We've seen some people bridging to what they believe the normal seasonality is, Q1 versus the balance of the year. If we go back and look historically, since we closed the U.K. So about the last 4 years or so, we have seen -- we've guided certainly to Q1 being around 22.5% as a proportion of the full year. And that is largely where the actual results landed as well. So if you look at that as a proportion and these models are highly sensitive, I think, to that assumption. And so if you -- doesn't sound like a big difference, but if you use that as part of the assumption, I think, you get to a pretty reasonable place there.

Okay, just supplying the -- like a 22.5% that gets you to straight to $700 -- any other thing? There are other factors to consider.

There are always other factors to consider, but those are the major ones for sure. We also have beds that were added at the very end of '24 that will contribute more to the back half of '25. But I think if you adjust for the start-up costs, adjust for the supplemental payments, and then think about -- look at what the seasonality has been over the past 4, 5 years, I think, it gets you to a pretty -- you'll see it's a pretty reasonable assumption for the back half of the year as it compares to the first quarter.

So a question on the supplemental payments. This was -- I was -- I am confused on this still. When I think about the full year, you're guiding to 0 to $15 million more. The first half, you have $10 million to $15 million -- sorry, you have $10 million to $15 million, let's call it, $12.5 million less versus the prior year. Does the first quarter incorporate like the 0 to 15 divided by 4, like it's got a normal level of supplemental earnings in it. Is that a fair way to look at it?

I would say when you look at the 2 pieces that we talked about is you're right, 0, sort of flat to up $15 million for the full year. But if you think about what we just talked about for Q1, we've said that that's actually a bigger drag to Q1. So it's about $10 million, $15 million into Q1.

Yes. And just remember, the first quarter of last year, we also had $7 million of out-of-period supplemental that we had called out. So that's part of that down $10 million to $15 million, would just be stepping over that.

Okay. All right. That's helpful. And on malpractice, looking back historically, almost every year, there's -- I mean, you go through your internal tests, of course, and the actuaries are whether it's the third quarter or the fourth quarter, there's almost always like an increase in the malpractice charge. The charge that you took, were you incorporating an expectation in the original plan that there would be a higher level of malpractice? I know you were this year, was it just higher than what you expected? Or did it -- was the $14 million all in addition to what you would have otherwise expected?

That's a good question. So we were anticipating a higher rate of costs in the original guidance for '24. The difference and what drove the $14 million charge at the end of the year was that actuarial update. So every year, the actuaries come through and they renew their models and they have a look at what they believe the right level of claims would be for all prior years, that's all related to the tail effectively for prior years, and we adjust our balance sheet to reflect their models. This year, they very specifically took a different approach and increased the average cost per claim for all of the claims in the tail. And so that $14 million adjustment was the reflection of their increased assumption for cost per claim. And that's driven, I think, it's definitely driven by trends we're seeing in the industry and then the broader provider industry, but then just in general, sort of just litigation costs and settlements have been accelerating. So that's the charge that we took in 2024. For '25, obviously, we have called out another $10 million that we're adding to the run rate, and that's on top of the $14 million from last year. So we believe anything can change, especially with actuarial reserves, but we believe we are adequately reserved now. We think we've taken the right approach for 2025 as well.

The other thing that you called out on the conference call was that you've got a handful of facilities. I can't remember 5, 6 or something that are losing $20 million. It's not like they're underperforming by $20 million, they're losing $20 million of EBITDA, correct?

We've said -- what we've said is there are -- you're right, there's a handful of facilities that we've called out, and those are a mix across acute and specialty. We've said that in some cases, these are -- or could be running at a loss right now, and that's because they are subscale. And they are subscale in some instances because we have intentionally capped census at those facilities, while we do some incremental training of staff and just retool a little bit. And so those in that instance, are running at a loss. And so there are those pieces that are built into that. So that's definitely part of what we built into the $20 million overall headwind for 2025. The other thing that I will just point out is, obviously we are working on these facilities. We have been working on these facilities since Q4 and what I would tell you is, our intent with working on these facilities to make sure that we are using them to their fullest capacity. But in the guide what's driving the $20 million is we are not assuming any increase in volume for those facilities for the year. So we have assumed that the volume stays consistent with where it is now. Which obviously, our intent is to ensure that those volumes come up. But for now we felt it was prudent just to leave the volumes where they are.

And just to clarify, those facilities are not running at a $20 million loss. The $20 million is the delta versus the year before. So that's the year over year change.

Okay. Okay. That's helpful. And at what point in 2024 did you see that group of facilities begin? Was this more of a second half dynamic? Or was any of this in the first half? I'm just trying to think through when...

No, it was definitely a Q4 phenomenon. So if you look at those facilities across the first 3 quarters, they were running at a -- they were certainly running where we would have expected them to be, and they were pretty consistent from an EBITDA contribution perspective for the first 3 quarters. So it's definitely Q4, we saw that.

And they're all specialty.

No, they're not. They're a mix of acute and specialty.

Acute and specialty, okay. That's helpful. I went back and I was like looking at all the original like 2022 targets. I'm not trying to like, well, you didn't do this on every single thing. But like 1 thing that did stand out was CTC. That there just hasn't been as many new CTCs added as you -- and you weren't even around for it. But there weren't as many CTCs added as you committed to in that original plan, like anything to read into that?

So I wouldn't read anything into it other than it's just us taking advantage of what we're seeing as some favorable dynamics to a large part. So for example, we have found the opportunity to acquire a subscale facility from maybe an owner who just owns maybe 1, maybe 2, just a couple of clinics. That is very beneficial to us, and it's a very attractive capital deployment perspective. So we are spending less than what we might spend from a CapEx perspective to start a new facility on our own, and we also have much more contributory in the earlier periods because you're not developing a customer list. So you have sort of some incremental EBITDA pretty quickly from those. So that is part of what you're seeing that's driving the difference in the de novos that we're adding. We had said up to 14. I think that was very intentionally to recognize that the timing can be sensitive to construction and licensure timing. And so you see some that cross over the periods in that as well. And then finally, just some opportunistic acquisitions that we've made. You'll see. We've already made several in Q1, and we are planning. We have several others that are still coming in Q1. So you'll see when you get -- trying to get you back to your 14, if you sort of look at the patterns, you'll see a few of those things. But the only other thing I would point out is we did close or consolidate, I think, 3 facilities in 2024, but those were pretty small from a volume perspective.

How do you guys look at capital returns and measure capital returns? And what's the threshold with which you have internally to say, if it's not 15%, we're not going to do it. Like what is that number? And again, how do you measure it?

It's a good question. So we start with doing a pretty thorough analysis of what's our cost of capital. So we start there. We do a lot of detailed work to determine the cost of capital. And then we add a margin on top of that. That ensures we have the opportunity to ensure that we're significantly out in front of our cost of capital. And so we add that buffer in. And we don't talk about what those numbers are externally. We don't talk about our hurdle rates. Or what those thresholds are. But I would say when we look at it, we're sensible. And if you think about how to set that buffer, if you said, let's add 10 points then that would clearly be limiting what those opportunities would be that you would approve and that you would move forward with. And if you said, let's only add 100 basis points then that's obviously going to be hard to thread the needle in. And so it's -- we can talk about the ranges, but it's certainly a range that ensures we have the right balance and the right numbers above our capital costs. But then if I step back from the numbers a little bit, when we look at the opportunities, we look at all the opportunities based against the same thresholds. And we are very fortunate that we have multiple opportunities to deploy capital. So if something doesn't meet those thresholds, we just reject it and move on and move on to the next opportunity that's there. And maybe the last thing that I'll mention, and we touched on this a little bit earlier, is when we do the returns analysis for what we expect that project to deliver, we exclude the impact from future bed additions if it's a de novo. So the evaluation of the returns is done completely on what we expect just the base number of beds that we have in the first build, and we have the opportunity to add incremental EBITDA to that, obviously, at a very attractive rate. Later on with bed additions to those. And just to step back and remind you, I think, we've talked about this publicly before. We've added beds to 85% of our existing de novos that have been in situ since 2020 or previous to that. So that is definitely part of our normal playbook and something that we look to do whenever we have the opportunity.

The spreads somewhere between -- or the buffer, somewhere between 1 to 10, I got that. But is it safe to say that, look, we're safely spending money and getting a return that we think is above like our own return on invested capital.

Yes. Absolutely.

Okay. To be clear about that. Cash flow. Any reason that your cash flow from ops should be that much different. Or let me rephrase, any reason that it shouldn't grow in line with your EBITDA growth next year?

No, nothing I can think of.

Okay. And then you said on the call that you would expect CapEx to decline $100 million year-over-year. Is there any clarification to that? Or that's -- sitting here today knowing what you know, that's a good number for us.

Yes, that's a ballpark. I mean it's obviously too early for us to be too definitive on that number because as we talked about in some of our bed adds and we talked about for CTC, timing for opening facilities is very dependent on construction patterns. And if some of those shifts then some of the CapEx may shift, but that's a good ballpark.

Okay. So this year, minus 185 something like that, if I the number at the midpoint. So that would get me to something, call it flat, maybe on free cash flow.

For 2026?

For 2026, yes.

so what we've guided to and we've said publicly is we expect to be cash flow positive by the end of 2026.

So the exit rate?

Yes.

Okay. That's helpful.

But I think that's a reflection of not just the CapEx. There's a couple of other pieces in there, obviously, EBITDA contribution will continue to grow on a facility basis. And so as EBITDA grows, CapEx comes down and then also the start-up losses start to moderate, you'll see all of that.

Slope of the earnings goes up and the slope of the spending goes down. So the exit is a good way to look at it. The EMR, remind me how many years you are into that installation, what you have left, you're spending, I don't know, another $100 million this year or something?

The -- so the -- I think you're referring to the other piece of CapEx that we guided to?

A portion of that.

Yes. So that's maintenance and IT CapEx together. I think it's $105 million to $115 million is the guide. The large majority of that would be maintenance CapEx just on all the facilities that we have. But it does have a portion of the cost -- the capital cost related to the EMRs. We are several years into that journey. I would sort of maybe break it into 2 pieces. One, we're probably, I would say, roughly 50% through the hospitals that were in existence at the time that we started the process. But in addition, every hospital that we're opening these days includes the full suite of technology, not just the EMRs and say that's a different way to think about it. I think the number of hospitals that we're adding, the proportion of hospitals that comes fully equipped is certainly increasing.

So how many years -- maybe how many years will it take to fully install on the existing hospitals, 3, 4, 5?

Well, so we haven't guided to a definitive time frame. But those -- I would say that those are very much under our control from a capital deployment perspective. So those facilities, we target. We target the right level. And the reason I say the right level is, I just mentioned, we've added several pieces of technology in the facilities, and we want to make sure that the staff are certainly able to keep up with all the changes that we're making, and we can continue to train them. So we have not just the EMRs, but the remote patient monitoring, the staff remote safety devices and then also the quality dashboards and the quality metrics tracking in those facilities. So there's a moderated pace. We try to balance with all of those pieces that are in place. So it's hard to put a finite line on it, but it's not an extensive process just for the EMRs.

Try it a different way. What percent of the overall spending that you have committed to install the EMRs in all of your hospitals have you completed today?

From the original guide that we put out?

You're 30% of the way through it? 40%, 50%? I'm just trying to think through like the future capital commitment that we have. That's really what I'm trying to get to.

Okay. Okay. That makes more sense. I would say we're probably well over half, for sure, and that capital commitment obviously, from the EMR perspective. But then when you add on the increment of the other pieces of technology we've added, we're probably, I would say, probably 70%, 75% through.

Pricing, your composite rate, if you will, has moderated this year. It moderated in the fourth quarter as well. It's been very strong for the last few years. What are the factors that are really influencing that compression in your revenue per patient day this year?

So I would -- there's a few things. I can talk about the broader look into the revenue per patient day, but then also a couple of things that are specifically related to 2025. So if you think about what we have historically talked about, we've talked about the normal pattern of growth rate for this industry is low single digits. Obviously, that was elevated for a period of time in line with elevated costs associated with the business. And we feel that as labor costs were inflated around end of 2022, '23, we hit those high watermarks that the rates were also increased to cover those incremental costs. As we're seeing our labor costs moderate, we're also seeing some of the rates move back in line with where they thought they would be. And that's why we're guiding to the low single-digit. For 2025, in particular, obviously, we've talked about the impact of a couple of things specifically. One, we talked about the timing of supplemental payments. We've as you mentioned, flat to up to $15 million this year. So still a tailwind, but less of a tailwind. And those are a lot of timing that comes into play there as you think about how we go forward. But we've also talked about just some caution and some prudence that we've introduced into the guide, just given all of the conversations and all of the noise that's out there on this topic. We just felt it was -- we just felt it was appropriate, certainly this early in the year for us to have some prudence in there.

Okay. So if I could look at the individual like the rate updates you're getting, it's literally like we're just not getting as strong of rates from the payers as we did in '23, '24. Is that...

I wouldn't say that. I would say we're not anticipating that in the guide for 2025.

Okay. Is mix influencing the optics of that. I know that CTC certainly was a contributor in the past to maybe anywhere from 1 to 2 points in any given year, given the outsized revenue growth. That's not really -- you've now sort of suggested that's growing in line with the overall business. And so that shouldn't be influencing it that much, but anything about mix that's influencing it.

So there would be a little bit, I would say, in relation to the contribution proportions we had. A couple of things I would call out. CTC, you're right, that has been growing at an outsized pace in the prior periods. And that is if you think about 2023, I believe, it was over 20% of a growth rate. And so as CTC was growing, there's obviously revenue with outpatient days, that is a tailwind. And so if you think about that, that's 1 thing that's impacting it. And then I would say, just generally speaking, there's some other dynamics with just the mix of the facilities and the contributions there. For example, we talked about 1 of the facilities that we closed in early Q1. That was a higher end, longer stay, more niche facility.

So we are just out of time. So guys, thank you so much for joining us today. This is great.

Thank you.

Thanks, Whit.

Thanks.