Australian Clinical Labs Limited (ACL) Earnings Call Transcript & Summary

Good morning, everyone. On behalf of ACL, I'd like to start by acknowledging the traditional custodians of the land on which we meet today. Today, I'm joining you from Sydney on the lands of the Wangal Peoples of the Eora Nation. Melinda and Matt are joining us from the lands of the Wurundjeri and Bunurong Peoples of the Kulin Nation. We acknowledge the traditional custodians of country throughout Australia and the places from which our participants join us on this webinar and their connections to land, sea and community. We pay our respects to their elders past and present and extend that respect to Aboriginal and Torres Straight Islander Peoples here today. Welcome to the Investor Webinar for Australian Clinical Labs' Full Year Financial Results. My name is Eleanor Padman. I'm the Company Secretary here at ACL. I'm joined today on this webinar, by our Group CEO and Executive Director, Melinda McGrath; our CFO, Matthew Cordingley; and our National Marketing Director, Joe Geran. Today's webinar will run for approximately an hour and will be recorded. A copy of the recording will be made available on ACL's website after the event. By choosing to attend or providing your consent to participating in the recording. If you'd like more information, a copy of our privacy policy can be found on our website. During the webinar, you'll hear presentations from Melinda and from Matt, and then we'll have time for Q&A. [Operator Instructions] I'd now like to hand over to our group CEO, Melinda McGrath.

Thanks, Ellie. On to Slide 4, thanks. Welcome to our financial year 2025 result presentation. ACL is now entering its fifth year post listing on the ASX. In that time, we've delivered improved performance in the underlying business year-on-year. The increase in earnings and cash flow that are presented today are the result of a whole of team focus. Our work over several years to integrate disparate systems and combine them into one operating platform sets ACL apart from competitors and ensures we're uniquely positioned to capitalize on opportunities and manage any external challenges in the current environment. Despite a challenging external environment, which saw slower market growth in the second half of financial year 2025. The second half performance delivered our earnings guidance. We saw revenue growth of 6.4%, with our MBS outlays growing more than almost 8%, just ahead of market. Despite market growth slowing in the second half, with quarter 3 growth at 2.3% and quarter 4 at 1.6%, our underlying EBIT is up 8.7% with a full year EBIT margin of 9.2%. We had a strong EBIT margin in half 2 of 10.9%, continuing the skew we saw in previous years. Our underlying EPS was $0.178 per share, up 13.4%. Free cash flow before interest, tax and financing was up 30%. We retain a strong balance sheet, noting that we purchased $19 million of ACL shares as part of a buyback program. In financial year '25, we've paid almost $25 million in dividends and combined with the share buyback, we will have returned $44 million to our shareholders. In addition, we are announcing a financial year '25 final dividend of $0.09. The full year dividend, including the interim dividend already paid will be $0.125 per share. On top of that, we've invested in our business and reduced our net debt, excluding lease liabilities by $8.4 million. Our core strategy remains focused on driving margin accretive top line through disciplined network expansion, investment in strategic new business and implementation of revenue and billing enhancements. Overlaying this, we'll continue to invest in and apply innovation to our operations. Slide 5, thank you, Ellie. I'd like to present some operational highlights. We have an outcomes-focused culture. We expect the things we say we will do to be done, and we also expect them to shop in the numbers and be visible to shareholders as we progress, so they can have confidence in us. As I mentioned, we are now entering our fifth year post listing, and we have a good evidence-based track record. This slide highlights some of our outcomes that have contributed to our results this year. Our sustainable competitive advantage is that ACL is the only national pathology provider with a single national Laboratory Information System. That is our operating system, which reduces duplication, drives cost efficiencies and enhances customer services. Our pathologists and scientists workflows are designed into one system across the country, and it links to our billing system and interacts at the front end with medical practices, and the back end with automated results delivery to referrers. Having one version of the lab system reduces duplication, IT effort, management staff, professional staff, duplicated rosters, compliance on accreditation costs, et cetera. It enables the first to market on efficiency projects and also on revenue maximizing activities. This is most evident in our labor as a percentage of revenue, which improved 60 basis points to 43% this year despite the slow growth. A few of the other outcomes from our work this year. Lab operational efficiency rose 12.3%. Logistics efficiency increased 8%. We're leveraging a national shared services operation. We have a patient NPS score of plus 79, and we're commencing the rollout of AI, which I will talk about a little bit later. And from a revenue point of view, our human genetics -- in our human genetics service, our carrier screening testing grew 102%. Oncology & Pharma testing has seen significant revenue and volume increases with revenue rising over 50% year-on-year. We had a positive specialist private inpatient growth of 0.2% against a market decline of 2.3%. We had strong GP growth with volume up 6.4% and an average fee up 2.1%. Of note, our 5-year non-Medicare funded revenue CAGR is 12%. And we've invested in e-commerce and digitalization to collect upfront payments. On to Slide 6, please, Ellie. We continue our ESG journey. I'll highlight a few achievements. The full report is available on our website. Our work with our fleet of cars has yielded 1 million kilometers less travel than the previous year. Our cold chain logistics has led to a reduction of 32,000 kilograms of packaging. We've reached our target of 40/40/20 with 4 female and 3 male directors, and we have also launched our reconciliation action plan. I'll hand over to you now. Thanks, Matt. Matt, you're on mute.

Sorry, everyone. Okay. Thanks, Melinda. Good morning, everyone. We're now on Page 8 of the presentation, and I'll run you through some more detail on our financial results. As you review them, you'll also see that there is not a material difference between our underlying and statutory earnings for the year. ACL has delivered growth across all of our key financial metrics. Revenue was up $741.3 million, up by 6.4% on FY '24, and we generated an underlying EBIT of $68 million, up 8.7% on '24. Our underlying EBIT margin, as Melinda said, was 9.2%, 20 basis point improvement on the prior year, and the underlying net profit after tax was $34 million, 7.7% higher and when combined with our share buyback program contributed, to a 13.4% increase in our underlying earnings per share. Melinda just described the factors contributing to our performance, but clearly, we've delivered a result here that again demonstrates the first half/second half skew, comfortably landing within our guidance range. Despite the overall pathology market softening in the second half relative to the first half, ACL was able to grow volumes and revenues and leverage operational efficiencies that delivered a nearly 11% underlying EBIT margin in half 2. Our average fee was just over 2% higher than the prior year. There was a strong focus from management in the second half of FY '25 on portfolio optimization, ensuring that we were pursuing growth and profit margins we saw as being attractive over the longer term. And to that end, we saw a net reduction of 34 ACCs during FY '25. In terms of operating costs, as Melinda mentioned, labor was well managed and showed improvement, reducing by 60 basis points to 43% of our revenues. And this is despite cost of inflationary pressures, including the increase in wages linked to modern awards and 1 new enterprise bargaining agreement. Cash rent expense pre AASB 16 came in at 20.1% of revenue which was just a tick higher than last year, but it really reflects some new ACCs that were leased in the first half as well as rent escalation. Consumables were 17.3% of revenue, only slightly up on the prior year, and this is due to higher volumes in respiratory and carrier screening tests, which are a more expensive test to provide. AASB 16 depreciation was 7% higher this year, but in line with FY '24 as a percentage of our revenues. Fixed assets depreciation was 3.3% lower than the prior year. Slide 9, Thanks, Ellie. ACL generated strong cash flows this year and returned a material portion of it to our shareholders. Free cash flow before interest tax and financing was $70.8 million, up over 30%, driven by our operating leverage and a positive working capital benefit. Conversion of operating cash flow to EBITDA was 113.6%. The positive outcomes partly informed by our strong focus on improved debt collection, specifically across our commercial and bulk build debtors, and we're enlivening further strategies to improve this in FY '26. As Melinda noted, we returned $44 million to shareholders via dividends and our share buyback this year. This is the equivalent to approximately 9% of our market capitalization. And added to that, we reduced borrowings by $13 million. Capital expenditure was $8.4 million and consistent with our historical and ongoing capital expenditure requirements, which are in the vicinity of $8 million to $10 million per annum. Next slide. Thanks, Ellie. ACL has a strong balance sheet, and it affords us business and financial flexibility. We're conservatively leveraged with net debt, excluding lease liabilities of $20.5 million, equivalent to a net debt to cash EBITDA ratio of just 0.3x. This represented a reduction of $8.4 million from the prior year, and we're well within our banking covenants. And to that end, we, in the first half, refinanced our banking facilities, extending them to the 31st of July 2027. A few other key highlights worth noting in our balance sheet include a net reduction in working capital, primarily driven by an $8.6 million reduction in trade and other receivables on the back of increased collection of debtors that I just referred to. Our right-of-use assets showed a decline of $6.5 million, primarily driven by higher AASB 16 depreciation. Plant and equipment was also lower as a result of depreciation being higher than our CapEx during the year. Finally, just restating that we've declared a fully franked final dividend of $0.09 per share payable on the 23rd of September of this year. Back to you, Melinda.

Thanks, Matt. On to Slide 12. Thanks, Ellie. Slide 12 provides an overview of our growth strategy, which has 5 areas of focus. We have a disciplined approach to network expansion. Our team is very focused on profitable growth. We've restructured our collection center portfolio, as Matt mentioned, and as well as withdrawn from some contracts that would have become underperforming this year to maintain our margins. The effect of this, even in the face of lowered market volumes, has been a lowering of the point at which we achieved operational leverage this half. And I noted earlier, our labor as a percentage of revenue is a great result. We've also invested in some group practices that are growing strongly through their own turnaround strategies via acquisition of underperforming smaller practices. These are typically practices that we have a long-term relationship and several sites with that have performed well, who approach us to partner with them. And as they grow, we grow. They're a little bit of a drag for us until they mature, which usually takes around 12 months. This approach of disciplined revenue growth is a large contributor to our margin performance. In addition, across the country, KPIs and incentives are aligned with an EBIT focus, which also extends to lab managers and sales teams. Strategic partnerships. We have a number of partnerships and pilot programs underway aimed at diversifying our revenue and focusing on high-value, high-volume testing and innovative arrangements with pharma, CROs, biosciences and health funds. As an example, Geneseq Biosciences is a company we invested in, in 2018. And together, we have developed a world-first micro RNA test for melanoma and that uses tissue biopsy and liquid biopsy via plasma to diagnose melanoma at all stages of cancer. This year, we've achieved regulatory approval for both tests and have started a soft launch of both products. We have Australian exclusivity for these tests. And we anticipate that the trajectory of the demand will be similar to our noninvasive prenatal testing, that is via customer demand for the test. Patents have been issued in Australia, Japan and South Korea. U.S. is approved, just waiting on fee to be paid, I should add, and patents are pending in EU and Canada. An explanation of the test is in the appendix, if investors would like further information, we can arrange this. We are planning the next stage of commercialization this financial year. These strategies will contribute to growth in future years, and most of them are not in the forward-looking numbers at this stage. On the M&A front, we remain focused on domestic acquisitions and adjacencies that are accretive. We've looked at a couple of interesting opportunities, although found them unattractive from an accretion point of view. Our intention is to continue to grow SunDoctors business via acquisition as well, of course, organic growth. And on to revenue initiatives. We have a key project to digitalize our billing process to enable upfront billing of patients. This is a project we commenced in financial year '25 and will pay off into this and future years. The project required reprogramming parts of the Lab Information System to enable the upfront billing process. We are targeting tests we already built. In addition to those that are currently unfunded via the MBS or have changed patient rebate funding rules within the MBS and now flow through to debtors or write-offs. Most of these tests we currently complete for free, absorbing the cost over many years. To quantify this, I just point out a study that Australian Pathology commissioned in 2020 that estimated approximately 25% of testing we do is unfunded by the Medicare schedule. This project involves a range of revenue-enhancing activities, including digitalization of the billing process to recover unfunded patient testing, targeted upfront patient billing, targeted billing of unfunded tests, non-Medicare billing and pricing enhancement, other funding enhancement, and we have indexation for part of the schedule from this financial year. We are also applying AI to manual billing practices for greater billing accuracy. And lastly, operational efficiency. Over the years, we've implemented a range of tools and automation that continue to provide year-on-year benefits. In part, our labor ratio is a result of continued refinement of our forecasting tool. This tool was complex to implement and we continue to refine its use year-on-year. It assists us to forecast volume and matched labor at the lowest cost roster for the skills required to do the work. It really assists with volatile volumes and downtimes. We have an AI road map that we're progressing, which applies AI to OCR, machine learning and other tools and manual processes. We are anticipating applying these further to our operations, including relating to our robotic laboratory instrumentation. This year, for example, we've undertaken a pilot project to reduce manual data entry using OCR and AI combined at an accuracy rate that started at 50%, but it's now better than humans. This is being implemented this financial year. We've also applied machine learning that we use in biochemistry to hematology for improved diagnostic accuracy and less reliance on manual intervention, saving pathologists some scientific time. The Lab of the Future design is progressing to a business case and shows it will add benefits into the future. This takes the learnings of COVID where we were able to move work efficiently around the country in a borderless manner, enabled by having the same Lab Information System in each state and reducing our footprint. Matt mentioned our CapEx earlier. I'll just talk a little bit about CapEx again here. We have a consistent CapEx requirement of $8 million to $10 million per year, which includes lab, vehicle, BAU, new collection center, capital requirements, amongst others. IT and digital costs are embedded in our P&L as operational costs. The Lab of the Future costs will be part of a business case and will demonstrate a return on any investment but well within our envelope given our balance sheet. We anticipate the revenue opportunities in Lab of the Future projects will add at least $8 million to EBIT in 2027. Next slide, Thanks, Ellie. On to Slide 13. This slide shows longitudinal GP and pathology attendance trends. Of note, the trend pathology gap is closing, although it's still 6% below historical trend, which implies a $35 million revenue shortfall for ACL. The ongoing shortfall to trend is driven by continued softness in GP attendances which are still lagging at 24% below historical trend. And there'll be a targeted expansion of the tripling of the GP bulk bill incentive in November. Slide 15, thanks, Ellie. On to guidance. We guide for 2026 to revenue of $760 million to $780 million, with an underlying EBIT of $67 million to $73 million. The guidance range for financial year '26 is informed by factors noted on this slide, primarily the impact of initiatives focused on offsetting the negative impact of patient rebate cuts, restructuring our revenue to remove underperforming sites and contracts and at the lower end of guidance reflects the potential for slower pathology market growth compared to financial year '25, noting the slowdown in half 2 '25 I mentioned earlier has continued into July and August on strong comps last year. In addition, we have several initiatives in development that contribute to a positive outlook beyond financial year '26, which I mentioned in detail earlier, and are expected to generate at least $8 million of EBIT in financial year 2027. I'd like to conclude by taking the opportunity to thank our pathologists and scientists for their leadership and all clinical labs team members for their focus on excellent patient care. And thank you to our shareholders for your support of ACL. I'll pause now, Ellie, for questions. Thanks.

Thanks, Melinda. We've had a number of analysts with their hand up. I'll go in order. So Andrew Goodsall from MST Marquee, I think you were the first out of the block. So I'm going to take you off mute. Go ahead.

Just hoping you can hear me.

Yes.

Excellent. Just with the guidance and just thinking about the bottom end, I think you indicated that if you saw the second half '25 conditions continue, that sort of sort of where you think you're going to land. Just going to ask within that, what are you thinking around the impact of the B12 and urine test cut? And then just anything you can indicate in trading financial '26 year-to-date, just if there's any signals out of that?

Yes, Andrew. So the slowed growth has continued, as I said, into August, noting that it was on very high growth last year. So July and August last year were really high. So the B12 cuts, we are dealing with several ways, including patient billing. And so far, going fairly well, but it's a little bit early to be commenting too much on that. But we're pretty happy with that. So the guidance includes that, that will be pretty much net-net.

Okay. And then when you say net-net, against the indexation?

Yes, including indexation. Yes.

But before any other clawback or just including...

Including indexation and clawback.

Okay. Got it. And then just the buyback, I assume that's ongoing, just to clarify?

That's still on foot, Andrew.

Yes. I think you've sort of bought $5 million to $6 million and your target was $20 million.

Yes, we bought $6 million of shares. We've spent just under $20 million in the buyback. The buyback is due to expire mid-September, and we'll consider refreshing that as part of an ongoing capital management plan that we'll take to the Board.

Andrew, it wasn't a target of $20 million, it was up to $20 million. So we went trying to -- it's been hard to do it when you've got blackout periods, et cetera.

No, I understand. And then just a final one for me. Just in terms of being able to sort of, well, pick up out-of-pockets and so on. How is that journey going? I mean, in terms of reaction you're getting from referring doctors and patients?

So we put a lot of effort last year into this digitized upfront billing process so that the patient pays before they receive the test, and most of these tests are not funded by Medicare. So if the patient walks out the door and goes to a competitor. They're not going to be funded by the competitor -- at the competitors' shop either. So we're currently doing the work for no revenue. And so far, it's been pretty good. It's been targeted. We've had experience of billing before and so we learned a lot out of that, and it's been targeted, but digitalization process at the front end, it's really the big difference to that. So that's going pretty well. We're tracking at volume drop off and so far, doctors have been pretty good with it. They went happy with the 12 fee cut and changes at all, and July had a lot of management of general practitioners and education of general practitioners. So they were not happy with the fee cut actually with the patient rebate in March.

And sorry, just to clarify with out of pocket, it's credit card upfront. So like just like Diagnostic Imaging or others where you're paying upfront, which is making a big difference?

Like what we did in COVID, the same system that we did in COVID, except we're applying it to other tests.

So next on my list is Lyanne Harrison from Bank of America.

Hello, can you hear me okay?

They're doing credit card up front.

Andrew, we can hear you.

So others aren't doing that. There we are, which are quite good.

We did put a lot of work into that last year, so we foresaw that we might have to do this. Sorry, Lyanne, we can hear you.

Sorry, can you hear me, okay?

Yes. Yes, we can.

Okay. Fantastic. I might start with labor costs. Obviously, you've got some very good improvements in labor costs as a percentage of revenue for the second half. Can you comment on your expectations going into '26 in terms of how much more you can go and what else we can expect in terms of percentage of revenue improvement there?

I'll let Matt take a bit more detail on that. But the -- all of the projects, the operational improvement projects that I mentioned earlier have got a labor impact, and it's really important to note that we match volume to labor. So behind the scenes, it's not cost cutting, it's actually the staff getting the labor they need when they need it based on how many widgets they should be able to put through per hour, whatever the metric is. So the staff have got the resources they need to do the work. What we are doing, and this is with the contribution of staff coming up with ideas as well, is changing the way we do the work, the way it's automated or the way we use AI. And there's quite a lot of energy within the business about how we improve, knowing the challenges that the industry might have into the future. So that 43% has continued into July, but I'll just pass over to Matt. He can talk about how that fits in with guidance.

Yes. I mean it's embedded in the guidance, Lyanne. Look, I won't guide line by line through the P&L other than to say our expectation is that we should be able to increase efficiencies in labor, and that should drive our percentage down. The only outworking of that is we've got a couple of EBAs in Victoria that are coming up for renewal, and there's some outstanding in. And so in terms of any inflation or price increase in labor, we'll just need to take that into account, that's unknown at this stage. But I probably can't add much more than what Melinda said in terms of the improvement in the efficiency of labor.

And just to add one more, Lyanne, the Lab of the Future project, that would have a step change in our labor management.

Okay. But that comes through more in '27. Is that right?

That's right, yes.

Okay. Okay. And then can we talk then again some of these conversations around efficiency feeds into your EBIT margin? And if I look at guidance, at the high end, you're guiding to, by my calculations, an EBIT margin of about 9.6% or mid-9%. You certainly finished the second half quite strong in terms of delivering double-digit EBIT margin. Why is it that you think that some of that can't carry over and carry through into fiscal '26?

I'm smiling because actually, it's quite an art to give guidance because it's not as straightforward as you think but we do want to give guidance so that we can give to some kind of direction. But Matt might just go into a bit more detail with that.

Yes. I mean you understand the skews. So from 1 July, we've got an increase in labor cost. We've got an increase in rent costs. And from 1 July, we've got a fee reduction for B12 and urine, which is not offset completely by the indexation 1/3 of the schedule. So from 1 July, you're obviously basically working into a year to catch up with some impost of cost, and which is partly why we see the skew, but also because we have some stronger months in the second half. Not sure I can say too much more beyond that other than the guidance reflects all of those things that we've called out. But for the fee cuts, I think we would have been very, very happy with how we're going to perform in '26.

Okay. Great. And just one more for me. With obviously, volumes starting to slow or slowing as you've seen in July and August of this year, are you seeing any change in competitive dynamics as you compete for volume?

Well, we're not -- as I mentioned earlier, Lyanne, we're not just competing for volume at any cost. There is a portion of the market that is totally unprofitable. So I know we all have market growth, when we say market growth, that's the number we're looking at, but there's a lot that we don't want to be part of because it's just not worth it. And as I mentioned, we've withdrawn from some collection centers. I can't remember the number, matter was 30-something, I think, of 40 centers because they just are not -- do not add to the bottom line. And so we're very judicious with how we approach revenue growth, and we don't want to just grow for the sake of growing. It's not going to the bottom line. From a competitive point of view, we still have the same, obviously, Foresight is growing very, very fast, and I won't really comment too much on them, except to say that we're not competing for sites that are negative or don't work for us.

So next, I have Davin Thillainathan from Goldman Sachs.

I guess just trying to try to get some perspective here on some of the comments that you're making on making patients building a bit better for your business. But if I look at your accounts, it looks like the allowance of expected credit loss has increased about 30% in FY '25 or in '24. Could you give me some perspective on what's driven that increase, please?

Yes. There's a formula approach in terms of providing for doubtful debts, Davin. So the longer they're outstanding, they move through a continuum in terms of the provision. It's also a reflection of higher revenue as well. So the provision relative to total revenue is a factor that will influence that as well. But I think what I would say going into FY '26 is the initiatives we've got in terms of upfront billing. I think we'll show positive green shoots in terms of arresting debts. And we've got -- and the automation of building for tests that we struggle to recover sometimes will help that as well.

Yes. But it is quite a material number, if I think about the dollars because, I guess, by making the business better from a collection perspective, that could sort of notch up your guidance towards the top end, I assume, if it actually comes through?