Accendra Health, Inc. (ACH) Earnings Call Transcript & Summary

All right. I guess we will get started here. Hello, everyone. I'm Jailendra Singh, Health Care Technology and Distribution Analyst at Crédit Suisse. Thanks, everyone, for joining us. Next up, we have Owens & Minor. From the company, we have Ed Pesicka, President and CEO, for a fireside chat conversation. Ed, thank you so much for doing this. I really appreciate.

Glad to be here.

Why don't you start us by giving -- sharing some quick thoughts on the company's recent third quarter earnings, which you guys reported recently. Maybe just highlight some -- give some highlights from that.

Sure. So obviously, well, thank you, first of all, for enabling me to have the opportunity today. And second of all, we really had a quarter, and that started with the hard work of our teammates. You think about some of the key financial indicators. On adjusted net income per share, when you compare it to Q3 of last year 2019 and now, we had over 250% increase in that. We expanded margins versus prior year by about 240 basis points. And we generated operating cash flow of over $100 million in the quarter. We took that cash flow, and we paid down additional debt of about $70 million in the quarter and reinvested the rest back in the business. I think if you look at the 2 different segments, our Global Solutions segment and our Global Products segment, our Global Solutions segment grew from Q2 to Q3 in revenue by over $300 million, and it returned to be a profitable segment again. And then our Global Products business just did an incredible job, with record profit as well as record amount of PPE produced. And then even in light of that, during that quarter, we did turn around and we finished an offering of a $200 million stock offering. So the quarter was a really strong quarter. But I think the thing that's important is recognizing that it's just not that quarter alone where we've had strong performance. It's -- if we think about it, we start to think about it in consecutive quarters, it was the fourth consecutive quarter of where we saw adjusted net income per share grow. It was the sixth consecutive quarter of both positive operating cash flow and margin expansion. So it's that consistency of what we've done. And I think the other thing on that, if you think about in the last 5, 6 quarters, we paid down debt by over $400 million in the last 6 quarters. And I'll take it a step further. Now let me do that. When we raised that $200 million of capital, which was amounted to about $190 million, we also had $135 million -- about $135 million of cash on hand already earmarked for debt. So we paid now $400 million of debt in the last 6 quarters, and we're sitting on right now committed with about another $325 million to pay down additional debt in this quarter and going forward. So a really great quarter.

Great. That's a good summary. So heading into your third quarter results, I think a lot of focus was going to be around your commentary for 2021, whether you will still reaffirm, especially given that how strong 2020 has been, will you still reaffirm your double-digit EPS growth for 2021, which you obviously did. So given the very strong performance year-to-date in 2020, what gives you confidence in that 2021 outlook, especially when you -- I mean some might argue that it's going to be a very hard comp in 2020. Give us any thoughts on that.

Yes. So we're comfortable with that. The way we think about it, first and foremost, we have a group of leaders and teammates that are executing at a very, very high level, identifying opportunities whether that's opportunities for growth, opportunity to get additional product out or opportunities to eliminate waste in the business. That's the first reason why, because of the strength of our leadership and our teammates throughout the company. Then we look at what gives us confidence going forward is continued demand for our products, whether that's our PPE products or our distribution or our home health care business. You take each one of those. So our -- I'm sorry, our products business, our manufacturing business, we still see that supply-demand imbalance out there at PPE. We see that going long into the future because of the protocols of hospitals, the people following those protocols, stockpiling, safety stock creation, replenishing nontraditional medical on PPE with traditional medical-grade PPE product. Our government contracts on N95. So that's what we see that going long into the future and gives us the high level of confidence on that aspect of it into 2021. In addition to that, we see that medical distribution, we've seen the recovery of elective procedures. We've seen the strengthening of our business. We're seeing the ability to grow with our existing customers as well as expand customers. And that gives us confidence into the future. And then our home health care business. Obviously, a fast-growing segment, we play in several categories, whether it's diabetes, incontinence, wound care and other categories. We have the ability in that business to affect about 85% of insured Americans. So we have a broad population of which we can -- we have we can service. We know that, that health -- home health care space is growing at a very fast pace. So all of those reasons are why we have a high level of comfort going into 2021, and we're able to continue to reaffirm that.

Okay. Let's look at the individual segments. Let's start with the Global Products, especially when it has been a kind of bright spot for you guys. Clearly, the segment has seen significant demand for PPE products during the COVID pandemic. Can you give us some background on how you tap into your U.S.-based manufacturing facilities to ramp up production so quickly? What is driving that margin performance such as greater efficiencies? I mean, clearly, margins in the high teens range versus like, I think what like mid-single-digit or even below that in past. That's pretty impressive margin expansion. Just talk about that, like what is driving though, what are the different drivers there?

Sure. So one of the advantages we had out of the gate was our footprints in America and in North America, let's say. The other advantage we had was we actually manufacture at Owens & Minor. It's our factories, with our people, with our technology, with our quality control, with our regulatory affair, with our raw material. So those are some of the advantages we had coming right out of the gates. In addition to that, in 2019, early 2019, we've doubled down and we added capacity in North Carolina to make nonwoven fabric, which is the raw material used for masks and gowns and gloves -- I'm sorry, masks and gowns, respirators and drapes. So we double down and added that capacity. So when we saw this beginning in January, February last year, the first thing we did was we went to 24/7 production and brought in a bunch of teammates and spent time, energy and effort training them. We didn't put them in until they were ready to go. So we saw that ramp by adding our existing -- at our existing capacity of 24/7 production. We then went back and actually retrofitted some of our machines or that -- or machines that were mothballed were brought back into production. That's the second phase. And then we took that equipment and we fine-tuned we get, we optimized it. We found ways that if we believe the historical theoretical capacity running 24/7 was here based on the output. As we optimize those machines with different continuous improvement events, we realize that our theoretical capacity on those lines is much higher. And we continue to do that with machine after machine after machine. So we kind of -- we were able to gain significant output out of our existing machines. And once we figured out how did one machine, it was just to the next to the next to the next to the next. So that created a substantial exponential output of those machines. Then Jailendra, we turned around and we added capacity. We're adding machinery to produce all of our different types of PPE. Starting with the fabric in North America -- starting with the fabric in Lexington, whether it's mask or gown or an N95, we added capacity, and we're continuing to add capacity. But here's what else makes us different is the fact that when we added that capacity, we already manufacture those products. So we could -- what we thought was going to take roughly 6 months to add an N95 line, we were able to install in 4 months or less because we had space, we had the infrastructure and we knew how to do it because we did it before. And that just continues now in the future as we're continuing to work with our customers and partnering with them for long-term commitments on PPE to make sure that, frankly, that we have the ability to service them now as well as going forward into the future.

Okay. So it looks like your -- I mean, even with this kind of margin outperformance, you're still adding lines of production and looking for ways to drive more throughput, right?

Absolutely. And we're not adding lines just making bets. As we're working with our customers on the long term needs, we're adding lines to fill those long-term needs versus building it and hoping that the business will come. And I think the other thing that's critical on this is we've done it, and we continue to price, which we believe is substantially below current market or spot buy prices and products, which enables us to be very competitive. It enables us to continue to provide that as those high market prices come down. And it also provides value, we believe, strong value in that relationship with the customer that's critical.

Okay. So you -- so you still think that there's more margin upside to current margin on Global Products side to go right here?

Yes. Well, let me clarify. There's not margin because we're going to use price the margin up. Where we have seen cost increases, we have been open and transparent about those cost increases and had open conversations with our customers. It's really continuing. Can we find incremental ways? And obviously, the first steps are always usually generally the biggest. It's now how do we find small incremental steps to get more output, more productivity. Again whether that's in our distribution centers, whether that's in our back office or whether that's in our manufacturing facilities, we're going to continue to do that.

So can you talk about how much of your Global Products business is actually distributed through your own distribution business? And what the advantages are to Owens & Minor and the customer?

Yes. So we don't disclose how much goes through, but I think you can use the intercompany elim as the easiest way to look at it. And what's interesting is we do monitor this and we watch it. So through the first half of the year, our intercompany elim was around $113 million, $114 million. In the fourth quarter, it was closer -- it was over $150 million. So you're talking about a 30% increase of additional product through our own channel. So that's an example of that specific topic. And I think really the advantage of it to our customers is when we're manufacturing, one of the things we did during the pandemic, and we continue to do today, our customers are getting 100% of what they bought in pre pandemic. We're not putting customers on allocations that are 20% or 30% or 40% of historical buying. Because we manufacture, because we have expanded capacity, we don't start the allocation until they get to 100% of their historical use. So on average, customers can get between 150% or 200% of historical use because we've expanded capacity. N95s, it's substantially higher than that. So what we've seen is as we produce products and they go through other channels, we lose control of that product and it makes it difficult to make sure the end user who ordered it or the end user who historically bought it gets it. So what we're seeing is customers asking us to try to control or have ownership of that product. So there's product that used to go through other channels that now goes through our own distribution channel so that way, the customer makes sure that when we manufacture it, the product that's earmarked for them, they get. So that's been one of the goodwill effects of having great products being manufactured and having a distribution centers throughout the U.S. that can get product to customers quickly.

Okay. That's fair. And just to clarify, the $150 million intersegment elimination, that's for third quarter, is that, right?

That's right. Yes, so the first half of the year, we averaged per quarter about $113 million. Fourth quarter, we were in north of $150 million -- on the third quarter, we're north of $150 million. I'm sorry.

I want to make sure...

Yes, third quarter, we're north of $150 million.

Yes. Global Solutions business, let's talk about that. Can you highlight some of the factors responsible for the turnaround in that business?

So yes, that business, in transparency struggle, in 2016, 2017, 2018, 2019, and it was primarily around service. So our service was really, really bad. So when I joined, the first thing we decided to focus on was safety. And people asked the question, well, why did you focus on safety if service was the problem? Because we needed to make sure we protected our teammates because we had such high workers' comp levels. One, it was costing us money from the workers' comp side of it. But two, we were bringing in temps who were not trained to do work of what we needed well-trained teammates for. So there's a direct correlation, as we've dropped 50% in worker's comp, another 40% in workers' comp claims, what we saw was, and we increased training and how -- that's how we did it. We made sure people were lifting boxes properly, making sure they were trained with the equipment properly. What we saw is now we had well-trained teammates, many of them tenured, who now were coming to work every day versus being out because they were injured and having attempt come in and try to do that job. And what we've seen because of that was drastic improvements in our on-time delivery and our accuracy. We do a blended customer service satisfaction survey. We've seen that drastically improve. Our fill rates, because we've invested in -- not just training, we've invested in algorithms and in inventory planning systems and our WMS, so that way, we could have a better fill rate. We've also invested in technology and infrastructure in our warehouse so that way our teammates can pick products also more accuracy, with voice pick, that's multilingual. So that way, we're validating that the right product is picked at the right time. We've driven operational efficiencies with train pick, being able to go through the warehouse and pick multiple codes at once using technology to validate the accuracy. So that's what we did. We started with -- our teammates are the most important thing. We focused on safety. We focused on training. And then we just created a rigor and discipline around metrics and measurement and making sure it happens. So that's what I would say, a little bit of good, old fashion management of how we drastically improved that service. And we have to maintain it going forward, which is the expectation.