Ardent Health, Inc. ($ARDT)

Thank you for joining us. It's my pleasure to be kicking off day 2 of the healthcare conference with Ardent Health. With us today, we have Marty Bonick, who's the CEO; and Alfred Lumsdaine who's the CFO. Dave Styblo from Investor Relations is in the audience as well. Maybe it makes sense to kind of start off. The company is a little bit different than some of the other hospital companies out there. Maybe just makes a little sense to start off with kind of how you guys think about growing your business, the growth strategy of Ardent.

Yes. I'll start. Good morning, everybody. Great to see everybody here. Ardent Health is a health system that's grown to 30 hospitals, almost 300 sites of care across 8 states and 6 markets. Our markets are growing faster than the U.S. average, which has built in some tailwinds that we've benefited by since we've gone public, and I think people are getting to see. And we said from the onset that we've got a tri-part growth strategy. The first is improving margins inside of our core book of business and our IMPACT program, which I'm sure we'll get into today. reflects that activity. We said we were going to grow within our regions, those 8 markets, we're #1 or #2 in the majority of those markets, and we've got a unique joint venture partnership that we'll talk about some more as well that has allowed us to grow our inpatient share to leading positions, but we have room to grow our outpatient. And so we focused on access points with urgent cares and now growing into ASCs and other parts of the outpatient arena to be able to take care -- take advantage of the growth within our growing markets. And then the third is opportunistic growth, looking for M&A, either to complement our existing regions and expand our presence or to grow into new territories where it makes sense where we think we can bring value to both the community and to the company.

All right. Great. And can you just talk a little bit about -- take a step back for like the industry, there's been kind of a slowdown in volumes in the last few quarters. But in the Q1, you guys actually had a couple of percent growth in adjusted admissions, but the admission number was low. So can you just talk a little bit about the volume trends that you're seeing and have seen in the last couple of quarters?

Sure. Yes. No, we -- as Marty already touched on, we're in growing markets, and that is a built-in tailwind. And we have, as we've executed on our ambulatory growth strategy, we clearly have an opportunity to capture more share inside of our markets, and that's been a tailwind, too from a volume growth perspective. Yes, we were very happy with what we saw in Q1 from an adjusted admissions growth overall, which was right at the 2% midpoint of our range of 1.5% to 2.5% for the year. Maybe talking a little bit about what we saw from an exchange perspective because that's been on everybody's mind. As we entered the year, at the midpoint of our guidance, we had quantified about a $35 million headwind relating to exposure from an exchange perspective. Now in the states we're in, we've seen better support from the exchanges than the national averages. And again, that's really driven by the specific states that we're in. And -- we're still seeing a change in behavior inside of the exchange markets. We saw from a metal level perspective, while the gold held up very well, approximately the same from a year-over-year perspective, we saw about a 12% shift out of silver into bronze levels. And so that is having an impact on our exchange. So we remain comfortable with the guidance that we put out, but we actually saw a slight increase in admissions from exchange lives in [ queue. ]

Is there any color on where the strength in volumes were either by service line or by geography?

It was pretty consistent across the geography. We did see some weather impact in our Texas and Oklahoma and New Jersey markets that impacted the inpatient side and some surgical volume. But we saw good strength in our outpatient ASCs -- our outpatient surgical volume, I should say. And we've got a really robust clinic infrastructure and urgent care network now that we've built. And so that was a little bit less impacted by the weather. So the strength of those outpatient programs, I think, helped fuel our adjusted admissions.

Yes. And I guess when we think about the volume impact, is it -- or the volume for the quarter, was it relatively stable throughout? Or was it like lower in January and kind of rebuilt?

It started out with some of the weather impact in January and then started to get into more normal seasonal patterns with February and March. You've got spring break in there, which happens every year, just a little bit of timing issues in there. But yes, we were pleased with how we were growing through the quarter.

And clearly, we saw lighter flu volume like everybody did throughout the industry. We put that from a headwind perspective at about maybe a 200 basis point headwind from admissions overall, combined with the weather approximately. But as we have said, flu volumes are generally lower acuity. We don't generate a whole lot of incremental profit off of flu volume. So much more of an impact to the top line than the bottom line.

Okay. That's helpful. And you mentioned the JV model. Can you talk a little bit about what you benefit from the JV model, why it works, why others maybe aren't replicating it?

Yes. Well, it's not -- it adds complexity to operating. We've got partnerships and joint venture boards with our partners in each of these markets that we have a joint venture relationship. But it's well worth it from our perspective. Particularly, we look at the academic sector right now. They're being faced with cuts from NIH funding and other cuts that we're all facing across the industry. But everybody wants to grow. And so for us, it allows us to partner with a name brand organization that brings credibility and it brings stability as we come in. It helps us to recruit physicians and specialists into the market. We've been able to grow services successfully as a result of this model. And for them, it allows them to expand their brand, expand their reach, but derisks that expansion. We've got the operating and execution abilities on our end, and we know how to scale, which is something that when you're leaving your core market and expanding across the state, could be more difficult for some of those that don't have the integrating or operating experience or may not have the balance sheet for them to grow themselves, but know that they have a brand that would spread across the state in a positive way. So it's a symbiotic relationship in terms of how we can help each other. And it's generated a lot of interest with our Chief Development Officer. We've got active conversations going on with close to a dozen different academic centers that are interested and intrigued by what we're doing and how we might be able to help.

Yes. And I think that, that opportunity was a big part of kind of like the IPO a couple of years ago. We haven't seen a big acquisition yet. I mean, what would you say the odds are that in the next couple of years, we don't see a hospital transaction?

Yes, pretty low. I mean if you just look at the state of the industry, it's still a tale of 2 cities. You still have roughly 30% of hospitals still losing money, and that puts financial strain on their balance sheet and their ability to be financially solvent and stable independently. And so I think the opportunities are going to continue to be prevalent. For us, it's a matter about finding the right fit. We've talked a little bit openly about an acquisition we were looking at. There's a couple we looked at that we really like the academic partner, like the vision, had an alignment in terms of the strategy, but either found things within diligence within the target opportunity that just we didn't see that we can either overcome from a price perspective or from a value perspective to make it accretive to the company. And so we're going to be very choosy in terms of doing these acquisitions. We're not chasing growth for growth's sake. I think we had the best growth organically across the peer group last year independently of M&A, and we want to keep that going. We're looking for markets that emulate the success that we've seen in our sort of secondary sort of mid-tier urban markets where we can see that growth and expansion, but we're not going to do a bad deal and chase growth for growth's sake.

Yes. I guess where do these deals come from? Because I think you guys obviously are being very picky about that you want to be in a market that grows above average, has opportunity and you think that those hospitals are doing relatively well. So like why are they selling? What are you bringing to those hospitals in that transaction?

Yes. Well, I mean, any number of reasons, things can happen in every market and every state is a little bit different. Typically, the inner dynamics between the payers and the providers in those markets often have a big factor in terms of why hospitals and systems go up for sale. And so we are going through and proactively identifying partners that we might want to join forces with and then go look for target opportunities. And then when the system does realize that it's got to go outside and find a strategic capital partner like us and it becomes an auction process, we're getting involved there. But those are a little bit more difficult to jump into without a proactive relationship. So if we were going to do a deal together and we got a ticking clock on the other side, it's tough. So we're trying to proactively build those relationships. So if and when those opportunities come, we're ready to join forces to go after those opportunities.

Okay. I guess you mentioned a little bit about some of the payer issues that some of these hospitals come up with you guys have been dealing with payer denials. Can you talk a little bit about the trends that you're seeing on denials?

Sure. As I think most people know, last year, we saw a significant spike in our denial levels in the middle of the year. And that has stabilized for us, stabilized through Q4, and we saw much of the same through Q1. So there has not been any sort of acceleration, maybe just a little bit of an improvement from what we've seen. We continue to be very focused on the things we can control to improve the denial process. It starts at the front end with authorizations, tightening up our authorization process. We're working with our revenue cycle partner Ensemble to use advanced analytics and AI to identify root causes of denials, things like accelerating appeals processes, standardizing appeals processes and building contractual language that strengthens our ability to overturn and prevent both overturn and prevent denials on the front end.

So can you quantify kind of like what the headwind has been the last year?

Well, we talked about from the step-up that we saw in Q3 about -- on an annualized basis, about a $50 million impact to the organization when you combine denials and the professional fee headwind that we also saw in the back half of last year.

And so how much of it do you think is something fixable on your end from like the RCM perspective versus kind of necessary to kind of recontract? And how long does that kind of take to get back to where you were?

Yes. I think difficult to actually apportion that out in that way. But I think what we're focused on is certainly, first, ensuring that it doesn't get worse, control the things that we can control. And I think overall, very candidly, what we've seen from the payers is they had a challenging year last year and that has a trickle-down effect to the providers as there was a significant ramp-up in denial activity broadly. Clearly, we saw the payers, as I said, had pretty good Q1. We think there's been a re-rating and better underwriting. And we do think that, again, what we don't control is what happens on that end. But we think working with Ensemble in terms of really doing the things we can do to prevent, overturn and again, use both technology and leveraging Ensemble's expertise, we think we've gotten to a better place than we were, call it, 12 months ago.

Yes. Because it's just the managed care companies keep putting out press releases about reducing prior authorizations. Is that just not in the hospital setting that they're doing? It's more physicians or what is the disconnect there?

Yes. I mean, one, we haven't seen a huge change. So we've seen the press release. And so when we see the change on the other side, I think it's more consumer-facing, and you're going to see it more so with the outpatient test, your imaging test and those types of things, GI procedures, those things that are going to need that pre-authorization. We'll be interested to see and if that helps the flow. As Alfred said, though, we want to make sure that we've got those people precleared in terms of making sure we've got all the other things that were going to be necessary to successfully bill and collect on the opposite side of that. So I think it's -- we hear the headlines and we'll be pleasantly surprised if we start to see that trickle through.

You mentioned the professional fee pressure last year as well. So can you talk a little bit about what happened there and where you are in dealing with that?

Sure. Yes, we saw -- and again, the pro fees have been a pressure point now for a number of years, right? We're into really our third year of really significant elevation in the rate of increase. Now what we saw last year beyond our expectations in the back half, particularly on the radiology side, we saw a big step-up that was unexpected. Going into this year, Q1, year-over-year, we are at about a 13% increase, which seems high, but it is actually fully consistent with our expectations because we saw that big ramp in the back half of last year. So once we lap that from a year-over-year comp perspective, we expect to be in the high single digits from a rate of increase perspective. We do think that we're to a point in the process where essentially the recontracting has happened throughout all specialties at this point, and that will -- I think it will be way optimistic to think we'll get back to kind of a parity with inflation, but where we'll see a trend downward in the rate of increase. And again, nothing that we've seen would change our perspective on what our expectations are for 2026.

So what does that mean? Like by the end of the year, is it still -- it's out of the double digits, but it's still high single digits?

High single digits, I think, is where we expect it to end up this year. Again, the provider groups that we contract with, and we've got some great relationships across different specialties as we recontract within a given market or geography, bringing in partners, we're able to gain from the scale of that partnership and relationship, but they're facing some of the same payer challenges that we are which is driving a lot of this, and you hear a lot about the IDR process and dispute resolution for surprise bills. Most of our groups are required to be in network. And so that's not an issue unless they get forced out of network. And so we're feeling some of the sideways pressure that they're feeling from the payers that comes as a result of that professional fee increase. And then you've just got some specialties like anesthesia that have had significant wage inflation growth, particularly with CRNAs.

And at the beginning, you kind of laid out as part of the growth strategy, cost control is one of the margin improvement. Where is the opportunity greatest for the margin improvement story?

It's across the board. I mean we talked just now about some of the improvements on the revenue cycle side and some of the things that we're seeing from revenue integrity. But across the board, we've seen great improvement in our continued focus around productivity, precision staffing and decreasing contract labor. That's been a big focus for us. We're now back down to sort of pre-pandemic levels, 2.2% of our SWB was contract labor down from a peak in the high single digits during COVID when they started. And so we're finally back down to where it was before. And we're going to continue to push on that. I think as we get into more technological advances, there's probably always going to be some base level of contract labor spend, but we want to see that as low as possible. And I don't think that the step-down functions will be as dramatic as they've been over the last few years. But now that we're at pre-pandemic level, we are going to continue to push on that agenda. And then the supply chain and professional services or professional fees, continued opportunity there that we're focused. We've got a new supply chain leader who's come in with experience from another reputable health system and driving this expense down for us, focusing on physician preference items, focusing on the consumables, focusing on just the amount of supplies that we use. We continue to see opportunity in the supply chain. And so it's a combination of all of those different factors that will be continuing to press, and this is meant to be -- our IMPACT strategy is meant to be a multiyear journey. We've quantified $55 million of benefit for this year, and we feel like we're definitely on pace for that, but expect that the tail benefits and additional opportunities to come from a care transformation and business transformation side with AI to continue into the out years.

Yes. That $55 million, I guess, you got $5 million last year, correctly, $50 million this year. how do we think about -- is there an exit rate to think about? Like is that number ramping and so that it actually annualizes into something into next year? How do we think about that?

That's correct. I'd say there's 2 elements to that ramp, right, meaning it will ramp throughout the year. We talked about coming into this year that we already had $40 million achieved. So that's kind of a $10 million per quarter impact that's baked into our expectations. And then with the remainder kind of a ramp throughout the year. And as Marty mentioned, this is a multiyear journey. So we would expect more off of that run rate as we go into 2027. So there is more to come. Obviously, not going to get into '27 expectations yet, but there will be incremental contribution from the IMPACT programs into '27, both from a run rate and from a new initiative perspective.

Is there a way to think about longer term where the margin target is for the group of assets that you have today?

Yes. We've always talked about getting to a mid-teens EBITDA margin. And from a core operations perspective, we feel like we're very much on track for that achievement over the next couple of years. Now what becomes more difficult, of course, is the BBB and the expiration of the exchange subsidies and the impact that those things will have over the long term. And so we wouldn't -- while we're certainly not coming off of our expectations from a core operating perspective, I wouldn't want to predict what the overall backdrop is and what happens with the BBB cuts.

Okay. And then I guess you mentioned additional savings potentially from AI. Everyone is excited about AI. Can you talk about where you see the most opportunity? And then I don't know if people get too excited in some areas that I think people are getting over their skis on as far as AI goes?

Yes. I continue to say that I think AI is going to be a massive transformation for this industry, and it's going to be evolution versus revolution. Everybody wants it to happen tomorrow and thinks that, okay, it's here, and we're seeing the benefits. Health care is a different type of industry than most. And historically, we've been fairly impervious to technological advances. This has been a very labor-dependent industry. And we have physician shortages. We have nursing shortages. And so I think AI is going to be a deflationary aspect for us and taking out some of the increases that we've seen. But we see it broadly across, I'd say, 3 general themes. There's the clinical theme, and we've talked about some of the things that we're doing with virtual nursing and virtual attending and our BioButton initiative and some of the care advances that we've seen, which have all been great benefits to the patients from an outcomes and a safety perspective, but also to us from an efficiency. And that's -- I'd say we're still in the early innings of that, but we're encouraged by the results and continuing to rollout. The second is that from a consumer perspective, when you think about how consumers interact with their daily lives, I mean, everybody has got a phone and there's an app for whatever you're looking for and you can schedule things online. Health care has not been like that historically. And so we're really leaning into the consumer side, which again helps with that access. We've got 1,800 physician and extended providers through our network, making sure that those doors open, making sure the urgent cares are open, people can schedule easy appointments, get access to the care that they need, which then has a trickle-down effect into our facilities, into our outpatient agenda. And so everything on the consumer side to make health care easier for them, which makes it easier for us to pull them through our system and has less leakage into disruptive competitors outside of our system. And then the third is the business transformation. And again, I think we're still very early on this part of the journey, but excited about the opportunities we see when we look across labor productivity, when we look across finance, when we look across supply chain and enabling some of the things in our impact that Alfred just discussed, we see opportunities to identify a lot of the work that's happening behind the scenes to help us to harvest those gains and continue to make margin improvement that Alfred was talking about.

Okay. And then when we think about the cost side of the equation, how do we think about getting to that mid-teens? Is it kind of like step straight line to that? Or is there a there [indiscernible]?

Yes, we do think it's relatively linear, and it's a combination of the confluence of the things that we've talked about from the work around our IMPACT programs, taking cost and putting more efficiency into our underlying processes and then the build-out of our system inside of all of our markets, the ambulatory outpatient settings, which sometimes have a higher margin and then also contribute to the overall contribution to admissions inside of our acute care settings as well. So again, we see that as a multiyear journey, but we are very happy with the progress that we've made already. And again, we think we have a very clear road map from an operational perspective to optimize our underlying operating system.

You've talked about outpatient a couple of times, so let's dig into that a little bit. Where is outpatient as a percentage of revenue for you guys today? Where can that number go? And when you think about adding assets, you talked a lot about the urgent care assets. Is that where the focus is? Is it ASCs? Where are we going from here?

Yes. Today, outpatient revenue is about 55 -- call it, mid-50% of our total revenue. And we've not quantified exactly where we think we can go, but north of there for certain. If we look at just how health care is evolving, there's a tremendous amount of growth in the outpatient space. And while we've had great market share on the inpatient side, we've had relatively weaker or lower market share on the outpatient side. So given the fact that our markets are growing, there's still white space inside of those for us to expand. We made a great push on urgent care right out of the gate as a public company. We've gone from hardly any urgent care to commanding market share in most of our core markets around urgent care. And so now the focus is shifting to ASCs, imaging centers, microhospitals, freestanding EDs. And we've talked about some of the things that we've got in the plans this year. We want to make sure that we're being disciplined in that rollout, one that we can capture and bring that volume inside the system and making sure we're picking out the right sites in our core markets to be able to do that and just to be able to fund the working capital buildup of launching a new center without taking us off of our overall trajectory as a company from an EBITDA growth perspective. So -- but I would expect to see us focusing beyond the urgent care. There's still a few sites to round out in our markets, but moving into those other core operating assets like ASCs and imaging centers that are going to have a higher margin profile for the business.

Is there a way to think about that margin differential? Like what kind of -- what is an outpatient margin versus an inpatient margin?

It again depends on the specialty. But if we're currently in the low double digits from an EBITDAR margin perspective, these are going to be in the high teens to perhaps low 20s on the ASC side.

Okay. And then when we think about that -- your balance sheet is pretty strong as far as having a huge cash balance, you're generating free cash flow. Are you saving that for that large hospital deal? Is that the way to think about it? Is there any way to think about near-term capital deployment as far as ASCs or outpatient versus inpatient?

Yes. I think that's exactly right that obviously, a very strong balance sheet, very low leverage overall. And that essentially, you can think of that as preparation for and it ties to our whole reason for going public a couple of years ago to create the liquidity for that acquisition growth strategy. We've talked about the build-out of our ambulatory assets, and that has -- we have seen a step-up in our CapEx as a consequence of that, but that would never -- we would never burn through our current cash and liquidity and cash flow generation just off of executing on that ambulatory strategy. So very clearly, we are expecting that we will be acquisitive, and that will be -- one deal could -- at the right size would have a significant reduction in cash on the balance sheet. But we continue to be positioned to operate the company with a very modest leverage profile. Marty and I both worked in much higher leverage situations, and we believe in a conservative balance sheet.

Okay. And then can you talk a little bit about -- we talked a little bit about denials, but like what's commercial pricing looking like broadly speaking? And it sounds like contracting terms are just as important sometimes as the rate update, but just talk a little bit about that.

Yes. We're still seeing headline rates sort of in, call it, the low to mid-single-digit range. But to your secondary point there, yield is just as important. And so if you get the headline rate, but you're not collecting it because of denials or underpayments on the back end, you're effectively not achieving that volume growth. And so we are -- or the revenue growth. And so we are focused on both sides of that. We believe that in most of our markets that we're not the highest reimbursed. And so we want to bridge the gap to make sure that there's parity in the market and for the quality of care that we're delivering and the services that we're delivering that we're getting fairly compensated for that work. And we need to make sure that, that payment is happening from a timing and a friction perspective much better than it is today. The denials across the industry that we face, we don't believe that we're unique in that, that has been fairly prevalent across the industry. And as Alfred said, when the payers had a challenging backdrop last year, it's one of the few levers that they can pull. But -- so realizing that, strengthening our terms around medical necessity and then defining that, strengthening our terms around payment and retroactive denials, all of those things come into play in terms of making sure that we are taking out the friction points for the care that we've already delivered, and there should be contractual obligation to pay for. So just making sure that we're sort of buttoning those hatches down as best as we can.

And I would just add, internally, we've reorganized around this function because prior, we had very siloed. We had a managed care unit and a revenue cycle where we've created a unified revenue integrity unit inside of the company and enhanced our resources significantly. So again, going to Marty's point, contract terms are just as important as the headline rate. And so having both managed care and revenue cycle under the same part of the house has created a much more unified approach towards our payer negotiations.

Okay. Great. And then when you think about -- you mentioned the OBBBA and the ACA headwinds. Is there anything that you're doing -- you have the IMPACT program. I guess that's something that you guys have kind of always been thinking about doing. Is there anything special that you can do or think about doing to kind of offset those pressures? Or is it just more about continuing on the path you were on?

Yes. No, I think the expansion of the IMPACT and continuation of the IMPACT beyond this year, as we've talked about, is how we're getting ahead of that and addressing it. This is going to be a challenging piece of legislation for the industry and for low-income Medicaid patients that may or may not have access to some of these services like they used to. But our ability to continue to improve our margins, as we've talked about today and transform the way in which we deliver care is how we end up overcoming those headwinds that we foresee down the road.

Yes. And then last year was tough. Q1 was good, though. You guys beat certainly consensus expectations, but you reaffirmed guidance for the year. Is there anything to kind of read into that as far as is there something that you're worried about that might go wrong? Is it just early? How do we think about the lack of raise there?

Yes. Just as a matter of practice, I mean we just gave guidance 60 days ago. And so it's a little bit too early in the cycle as a matter of practice to be able to change that. But we're encouraged by the way in which the year started off. We definitely see the momentum from our IMPACT program carrying out as we said it would and look forward to continuing the progress this year.

All right. I think that's all we have time for. But thank you very much.