Chemed Corporation (CHE) Earnings Call Transcript & Summary

All right. Great. I want to thank everyone for joining us today. This is Kevin Fischbeck from BofA. I want to welcome everyone to the BofA Securities Healthcare Conference. Unfortunately, it's virtual. But so far, things are generally going well. I want to thank Chemed for joining us today. Chemed is one of the largest, right, the largest provider of hospice services in the country. Also a provider of drain cleaning services through its Roto-Rooter business. With us today, we have Dave Williams, who is the CFO of the company; and Nick Westfall, who is the President and CEO of the VITAS business. So I want to thank you guys for joining us today, and maybe I'll jump right into questions here.

Obviously, COVID is kind of the topic du jour this week. Can you just talk a little bit about how COVID has been impacting the business? And maybe we'll start off on the VITAS side of things. Obviously, you think hospices are relatively insulated from demand pressures, but how are you seeing how demand is firming up?

Yes. So this is Nick. As we discussed when we issued our first quarter results and have seen for the first -- throughout the month of April and then the first 2 weeks of May, we definitely saw an impact as the health care system was disrupted, starting primarily in the middle of March as it -- whether it's a hospital system, a physician practice or sort of the long-term care community, I'll keep those in all 3 -- in 3 separate buckets. Each were uniquely impacted, but at the same time continue to see patients traversing the health care system and being referred to us as we modified our protocols and procedures and continue to make sure we were available 24/7 to our partners on the community. Inside of the last 1.5 weeks, 2 weeks, as different communities have begun the phase-in of some of the reopening protocols, we really continued to prioritize our time, making sure we're in lockstep and aligned with each of our health care partners so that we're aware of the protocol updates, their pace, how they're planning on doing things. So we can make sure we're readily accessible to continue to respond to what will be an increasing number of hospice-appropriate patients being referred out to VITAS. The reason I went to the 3 categories is the hospital systems, by definition, are reopening. And for all intents and purposes, given the economic strain the pandemic has caused to the overall hospital environment, they're motivated in a safe way to reopen -- fill bed capacity and start to bring in the elective procedures back into the hospital system as quickly as possible. That combined with physician practices that will pivot away from almost exclusive telemedicine interaction with their patients towards allowing them to come back into the office and go back towards sort of a normal flow. Both of those, we're encouraged in seeing trend -- positive trend changes over the last few weeks as the different communities have begun to reopen. I think the long-term care environment is going to be one that is very much a state and community-specific situation. As we all know, all the different communities have been impacted to a differing degree. And so while we've been able to continue to care for our patients that reside in those long-term care facilities, each one has its own unique requirements and is really in the early phases of figuring out how to appropriately reopen and either allow for new patients to be placed inside of their facility, and balance that out with access restriction for families who have been unable to see their loved ones as we've all seen throughout the media for the last 8 weeks or so. So we're encouraged by what we're seeing. We're making sure we're differentiating ourselves and being present and available to all of our partners. And at the same time, not forgetting about all the patients we have on service today and have had on service throughout the entire pandemic and their families to make sure that they're getting all the care they need. And being creative in ways in which we can continue to ensure our patients are interacting with their families, who either may be remote or maybe unable to access their loved one when we're -- when we can access them, care for them and connect them as part of that, as part of the overall service we're providing to them.

And I guess, in general, you've been able to keep volumes relatively stable during this time period. What about the cost side of things? How has that been disrupted?

We've been very prudent, and we're early cycle as well. We have not -- unlike a lot of our other health care partners, we have not furloughed or laid anyone off from the organization. But with that being said, we've really tried to come together as an organization, ensure we continue to care for all the patients on service, as well as make prudent modifications to the ways in which we're interacting with patients, leveraging some of the 1135 waiver CMS allowed, whether it's through telehealth and other provisions. And at the same time, making sure the #1 priority was ensuring we were protecting and taking care of all of our employees and their safety, whether they're out in the communities servicing patients or whether they're reporting to an office or a call center or one of our inpatient units. And so we've been focused a lot on that. But from an overall labor management perspective, we've also been very prudent in pulling back on what would have been some of our traditional hiring practices. So that we're managing with our existing staff to protect the P&L, make it through the pandemic. And yet at the same time, recognize there's going to be some onetime or pandemic time-related costs, particularly related to medical supplies and a few other things, that we need to endure. And we'll have the potential to use some of the CARES Act funding to offset that. But we'll manage through it and sort of manage the overall P&L and outlook on a go-forward basis.

Yes. I would say it's safe to say, Kevin, that a combination of the CARES Act protection that we got, the $80 million, which again was based upon a percentage of our 2019 Medicare fee-for-service revenue. I think it actually worked out to be about 6%. We think the government has provided resources that allows us to fully absorb any increase in operating costs from the pandemic. And anything left over, of course, we'll return to the federal government. That, coupled with -- if we estimate the number, about $16 million to $17 million of increased revenue by relaxing sequestration from May through December, we think actually Roto-Rooter will probably get -- will generate normalized free cash flow that would have been equivalent to what we would have done without the pandemic. So Roto-Rooter is insulated -- or VITAS, Roto-Rooter -- VITAS is insulated, Roto-Rooter not so much. But VITAS is in great shape in that regard on any reasonable increase in expenses is covered by the CARES Act funding.

And because of the fact we've continued to motivate and bring our staff and folks together, we really try to rally -- because we've dealt with the hurricanes, wildfires, et cetera, we think that puts us in a very good position as the country reopens, as the health care systems reopen for us to have our full workforce able to be deployed to bring on as many eligible patients as possible and continue to care for all the ones we have on service today.

All right. Great. And then, I guess, Dave, and pivoting to the Roto-Rooter side of things, obviously, a big shift in how the economy is working, more stay at home, less restaurants and businesses. So how is that all netting out to the impact on Roto-Rooter?

Yes. So if you look at Roto-Rooter, historically, it's been what we would call very, very, very recession-resistant, and I would still use that term. We're not completely pandemic-resistant in that regard. And really, what's turned out to be exposed is 28% of our 2019 revenue is what we would have called commercial. And the #1 commercial cohort would have been our retail businesses. I think the customer/employee bathroom in a hair salon or the customer bathroom in a Hallmark card store, things like that. Those have all been furloughed. Those have been shut down. So obviously, we're not doing revenue in those categories because if the bathrooms aren't being used, then they're not going to have plumbing and drain cleaning problems. Right now, it looks like we're going to -- in the short term, about 30% to 40% of our commercial revenue was materially impacted or 30% to 40% of 28 points. So you're really talking about 10%, 11% of our overall revenue on Roto-Rooter is being compromised. It's not happening right now. That's partially offset by some pretty decent strength right now in the residential side as everyone is staying at home and using all of their plumbing and drain cleaning infrastructure. We're seeing an uptick certainly on the residential, but not enough to overcome the drop in commercial as these businesses are just shut down. We haven't furloughed any of our employees at this point in time, and we're anticipating these businesses slowly ramping up. That's along -- but -- so let's just talk a little bit about this compromise, this 10% or 11% softness that we might see in the quarter for our revenue. Keep in mind, our technicians are commission-based. If the revenue is not happening, a large portion of the payroll cost isn't happening. We're going to continue to pay their health care, the fringes on that side, but not the raw pay. So our technicians, to a certain degree, are taking a little bit of a hit to their income as well as we're spreading over less jobs over the same-sized workforce. But the point being, we're -- our 3 call centers that are 24/7, 365 are still operating. And as businesses ramp up, we'll absorb that demand. And we fully expect 2021 to be an extremely profitable year with a decent chance of being record profitability for both Roto-Rooter and for VITAS. For 2020, yes, Roto-Rooter is going to give a little bit back of some of the profitability growth we've been enjoying, but it'll still be phenomenally profitable. And the fact is we have, as of today, no net debt. We have actually eight figures of net cash and we're going to pay off the next tranche of our revolver draw when it's up next month. So we can go a long time with slightly soft revenue on Roto-Rooter and still be very, very, very cash flow positive. Prior to the pandemic, we were thinking we were going to generate about $270 million in 2020 of free cash flow. $20 million of that $270 million would have gone to our dividend, $250 million would have been for acquisitions or increasing dividend and share repurchase. And we're going to probably end up close to that number. It will be a little soft on the Roto-Rooter side, but we're going to be just fine on a cash flow basis for all of 2020. I think the real question is, is our business remotely compromised or will it be disrupted post pandemic? And the short answer is no. We'll be -- we'll operate largely normalized starting in 2021, unless this pandemic takes a real turn south for everybody.

That's really helpful. I guess that comment about Roto-Rooter being potentially at an all-time high, is that taking into account the potential for a recession? Or that's just kind of based on your trajectory at the beginning of this year, what it would have been, and just being back to normal next year?

If you take a look at how the great recession impact us in '08 and '09, that -- '08 and '09 tied for, back then, the second-best year ever. 2007 was the best year we had. And it was -- and 2008 and '09 was above 2006. So we can weather a recession quite nicely. The concern may be on the residential -- at the commercial side of restaurants, to the extent those are severely limited in capacity and volume, that could impact our business a little bit. So maybe it takes a little longer in 2021 to get the commercial side back. But we're kind of quibbling. The fact of the matter is, as long as water and raw sewage is going someplace that it shouldn't go, Roto-Rooter, with our market share, is going to pick up that volume, that demand, and the profits will be there. So I -- from -- that's just a long way of saying as the cash flow earning characteristics of both of our segments are only temporarily impeded on the Roto-Rooter side and will return to normal as soon as the pandemic is out of our economy.

Okay. That's great. And I guess when we think about the [ assets ] of all of the company, so you just kind of answered, I guess, the recession kind of question maybe on the Roto-Rooter side. At VITAS, is there a thought about the ability to grow during a recession? It doesn't seem like demand should be impacted. Do you grow faster as the labor offsets? How do you think about a recession impact in VITAS?

Yes. So from a demand perspective and a referral perspective, by definition, the number of patients that continue to present themselves that are hospice appropriate is not -- is in no way, shape or form impacted by a recession or not. From a labor force perspective, a recession -- and if inflationary numbers and other components decline, is our ability to manage our workforce as well as attract and retain employees improve as a result of just sort of a decline in the overall economic environment? Typically, that answer would be yes, and that's what we could see. But it just allows us to continue to retain our staff and manage annualized merit increases that are in line with some of the rate increases. So we could see a benefit from it, but primarily, for the most part, VITAS is isolated even more than Roto-Rooter is from any recessionary impact.

Okay. That's helpful. I guess shifting to the -- to reimbursement, Chemed was a beneficiary of the hospice reweighting that happened this year. We didn't see a reweighting for 2021. Do you expect that this, I think just because of COVID, enough to make disruptions? Do you expect your weightings to continue? Or do you think that CMS is done making those changes?

I think time will tell, right? The proposed rule that's out that would once -- would be finalized typically in August and going into effect October 1 of this year, is still stated at 2.6%, silent on if there would continue to reinforce some of the weighting that they put in last year. However, some of the language inside of last year's rule and everything gives them -- gives CMS the full flexibility to analyze the data and decide whether or not they want to continue that action if they see that either the cost component of providing high acuity care is still not sufficiently offset by the rate that they're providing or there is an unspoken recognition of the need and the value of how high acuity, not just general inpatient but continuous care provided at home or in another setting, what it really does to prop up the value proposition of the hospice benefit for patients and families to improve outcomes. And at the same time, keep appropriate and eligible patients on the hospice benefit during a period of crisis and avoid an unnecessary revocation to go back into the health care system that is very disruptive and highly costly. So it's a long-winded way to say, yes, they're silent on it inside of the proposed rule, however, we'll see what comes from it. Worst-case scenario would be that 2.6% applies uniformly across all levels of care like it did a few years back.

I think it's safe to say, though, Kevin, that CMS is definitely focused on the subsidization that's been going on within hospice, not just between levels of care by continuous -- routine home care to continuous care and patient care. But obviously, with the initial rebasing a few years ago going to the U-shape curve, they recognized short-stay patients are subsidized by long-stay patients, and it's our expectation over multiple years, CMS will try to nullify that subsidization. I think the pandemic has actually pointed out the dangers of subsidization when there's a disruption to the health care system. I think hospitals are now getting economically crushed because they can't have the very profitable elective surgeries versus taking care of, call it, in this case, the pandemic COVID-19 patients. So I think I would expect to see, if anything, reenergized focus on understanding subsidization and minimizing that where possible, and that would certainly fit within hospice. But we're all just sitting around here spitballing, who knows?

Yes. I guess speaking of long-stay patients, I mean, you have a handful of sites that are in cap and you guys disclosed the sites in your cap. I mean how do you think about managing that long stay side of the equation? I mean is -- do you feel like you're getting to the -- or close to a point where that is going -- that the cap itself is going to be a barrier to being able to grow the business?

Well, Kevin, this is going to be Nick's wheelhouse. But let me just point out, though, when you say long-stay patients triggering Medicare cap, in California, actually, that's not the case. It's the fact that it's the same Medicare cap protection across the country, whether it's San Francisco or Cincinnati, but we have $30,000 per first-time Medicare admin in the hospice as billing protection in that provider number. But we're running $260 for a day of routine home care in San Francisco that would be about $140 in Baton Rouge, Louisiana. So in our case, it's not long stays that are triggering the cap, it's the fact that we have extremely high cost of living in San Francisco with an anemic cap protection. So it's the size of a per diem reimbursement, not length of stay that causes us our cap problem. But I'll let Nick answer the rest of that.

And I think that's really the case. And we recognize that operating in those environments that are reimbursed at a higher rate than the national par value that is used to compute that 30,000 comes with it unique circumstances that -- because by definition, every patient that comes on to the hospice benefit in those markets receives a lower number of days than anywhere else in the country before that provider would begin to experience a Medicare cap billing limitation. And so we're doing all that we can to continue to build federal awareness around that in equity so that it does not negatively impact access to -- for hospice patients in those higher reimbursed locations. And at the same time, balances out just some of the normal ebbs and flows of certain markets where there aren't as many hospitals, which have highly acute low length-of-stay patients. Said differently, there are a lot of different interplays that have -- that the Medicare cap benefit is an outcome to that weren't intended and could have negative consequences towards access and the ability to service a community when those rules got written in 1984 -- 1983, 1984. So going back to Dave's first comment, don't make the assumption that the Medicare cap liability is driven due to a longer length of stay in those markets than anywhere else or any difference from an industry, it's typically and almost exclusively primarily driven by the disconnect between the revenue and the rate being reimbursed in that market as compared to the standardized uniform cap rate applied throughout the country that doesn't take that into consideration.

All right. Great. And then, Dave, you mentioned the strong cash flow of the company and the cash balance sheet and how you normally spend money on deals. I guess you've been spending a lot more money on the Roto-Rooter side equation than the hospice side of the equation. Do you -- is it just valuation? Or is there anything else that's stopping you from going out there and buying? It seems like a lot of other providers who maybe are more home health focused are buying a lot more in the hospice space. What are your thoughts there?

From my standpoint, the starting point has always been valuation is a tough hurdle. But even if you got past the valuation, I mean, Nick and I took a look at some large deals that were tempting, even if you could get past the valuation, but it's still -- it's like 1/3 of the program's on a potential target you'll love, a 1/3 of the programs you'll tolerate and a 1/3 you'll hate, and then there's typically a combination also of home health and hospice that are carefully intertwined and it just makes these deals complex. Even pure-play hospices, it just -- they tend to be a bad fit. They tend not to have the depth of providing all levels of care the same way we do or they tend to have an unholy dependence on nursing homes. It's like being in rural markets, we think that are potential cap problems because they don't get short lengths of stay. It's not that they have a long length of stay, they can't get the short ones, it's like more than one of the above. All of those factors still exist. If anything, there's more money that's flooded in the marketplace at a 60 basis point, if that's the return for a 10-year treasury annually, quite frankly, people are borrowing at negative rates on a real basis, we just see valuations will continue to be excessive. But I mean I'm looking at Nick, if he's -- I don't think he's seen anything that was incredibly attractive on a fitting together for the VITAS model.

And for some of the other providers out in the space, as you were alluding to, that have other non-hospice service lines that they offer, they're out -- and the ones that are public or even the ones that are private, their stated goal and objections strategically is to try to find avenues to enter into the hospice space. And enter into the hospice space where they may already have an existing home health or other service offering. So that the hospice, they're able to provide hospice care in those markets. And what that also says is not only a recognition of maybe where the industry continues to trend from a positive perspective, but really it goes back towards the importance of how the hospice industry really has a value proposition to the overall health care environment and everything CMS is trying to accomplish related to reduction of total cost of care and improvement of quality of care and the terminologies of value-based bundling, taking on risk for every patient, that is actually what the hospice benefit, the Medicare hospice benefit that was enacted in 1983. That's how it was constructed. It is a value-based, capitated bundle for the most part. And every hospice provider that's taken on patients since then has taken on risk for every patient they bring on service, because you get paid the same amount per day from a routine home care perspective. So it's a long-winded way to say people are wanting to get in the hospice space and complement it with other businesses from a geographic footprint. And so they have a different valuation thesis than sometimes what we do looking at it look and saying, is this something we want to add into the portfolio for a variety of other reasons and what's the price we're willing to pay, as opposed to try to even attempt to do it ourselves just from a de novo activity, if we can.

And maybe that's a good pivot to the next question, which is, how do you think about MA? I guess there's a move to kind of carve hospice into MA? What are your thoughts there and your ability to work within that payment structure?

So we probably could have taken the entire fireside chat to talk about that component with it. But to date, in that desire to carve in and as the hospice industry and the insurance plans and CMS and CMMI and as we all navigate what the real goal and objective of that is, is the strong desire to try to move as much as possible out of -- I call it a bundled service, CMMI would refer to it as a fee-for-service payment. But to try to carve as much of that into the insurance plan's purview with a recognition that the number of patients that potentially could get impacted negatively because they elect the hospice benefit and revoke for some reason and reenter the hospital system is a relatively low percentage of the 1.2 million beneficiaries that elect the hospice benefit for any 12 months. The other component of it -- and that's why there's been a, to date, sort of a low appetite both from the plans as well as from the providers until the rules continue to get refined and highlighted with the VBID demo, it's one in which the total number of lives in Medicare that are subscribing to the Medicare Advantage plans runs roughly 35%, 36%. And yet, the average age of those people subscribing tends to be traditionally be in that 65% to 75% age range. And after that, they choose to elect traditional Medicare. The typical patient that we see at VITAS and the industry sees is that 80-year-old-plus when they come into the benefit. So we're not -- by definition, only 1/3 of the Medicare population could apply to that carve-in component and a smaller component of that is on an MA plan when they're choosing to elect the hospice benefit. So I understand the need and desire long term, but I still think we have a long way to go as a country to describe how it's going to interplay in the correct way and be beneficial for everyone, including, most importantly, the patients out in the communities across the United States.

Kevin, I know we're close on time, but just to put in perspective the numbers Nick ran through. So there's about 19% live discharge rate. So if you just call it 20% for simple numbers. If 1.2 million Medicare beneficiaries elect hospice annually, that means 240,000 of those potentially will go back into the continuum. They'll leave hospice alive. The other 80% pass away in hospice, never go back to the continuum. Then of that 20% of the 1.2 million or 240,000 for simple round numbers, only about 35% to 40% of those folks are even in an MAO -- with MAO group. So now you're talking about -- really, you're talking about 80,000 patients a year would turn around a live discharge and go back to an MA plan. It's a really, really small group. I mean at the end of the day, CMS appropriately so has an economic need to go to purely capitated programs and exit fee-for-service. They're playing around on the periphery of hospice, which is 2% of the total Medicare budget annually. What can they do to turn around and work with MA plans? But there's really not a lot to work with. So we expect the demo project to yield some interesting results, but we think anything on the carve in/carve out is years away just because it's a very small issue.

All right, great. Maybe just last question because we are running in on time. Is there anything about COVID that's happening right now that you think might be an enduring impact to how you provide care, operate your business, et cetera?

Yes. Absolutely. Some of the waivers that have been able to be enacted, such as appropriate utilization of telehealth, are a great value-add and one which, as an industry, we've been advocating for, not to diminish the value of all the physical interaction that happens across the benefit. That's a big one. Some of the other things are more internally facing where it's forced us to take things that were either on our strategic road map for improving overall quality or becoming more efficient in the way in which we deliver care and accelerated those when we typically would have piloted them maybe to push them full force. And in the same way has also forced us to think about the ways in which every aspect of our care delivery process occurs. And so there's going to be -- there's some real positives that come from that, that are able to improve quality for patients, improve outcomes for the patient -- for the family members, the primary caregiver. And at the same time allowed us to accelerate how we can become more efficient as an organization and be prudent in the way in which we are using the funding that the federal government provides for the care we deliver. So there definitely are some positive developments that have occurred as part of the pandemic that we'll continue to take with us post pandemic. And like many of the crises that have occurred for VITAS since I've been with the organization, whether it's natural disasters with hurricanes, wildfires, et cetera, I'm really proud of all 12,000-plus members of our team, how these situations really force us to rally together to overcome all of these challenges. And so just that morale boost and teaming approach only serves -- will serve a positive benefit for us as we continue to provide care post pandemic long term. We're trying to take everything that's a negative and gleam out all the positives, no different than anyone else has through this, and there definitely will be some positives that we'll take with us long term.

Great. Well, I think that's all we have time for. Thank you very much, guys, for presenting. And hopefully, we can do this in person in Vegas next year.

I miss Vegas, Kevin.

Yes. Me too. All right. Talk to you later.

Okay. Thank you.

Thank you. Bye-bye.