Chemed Corporation (CHE) Earnings Call Transcript & Summary

Thanks for joining the BoA Health Care Conference and for sticking around. It's been a long day for me, and I assume for you too. So thanks so much. So now this session, I'm pleased to present or have a discussion with Chemed. But I guess before I do that, my name is Joanna Gajuk. I cover health care facilities and managed care at BoA. So Chemed, 1 of the largest hospice providers, but also owning some other business, we will talk about that. And today, with us, we have the entire team. Kevin McNamara, the CEO; Nick Westfall, who is the CEO of the VITAS business; and Mike Witzeman, who's the CFO. So I guess we're going to go right into Q&A, right?

And well, since this is a healthcare conference, so I want to start with VITAS, right? Because that business continues to really grow nicely. But this year seems like Medicare Cap is somewhat limited -- limiting that growth because I guess you're slowing down the census a little bit, still growing pretty nicely, right? So there's some worry, right, that this Cap can become a major issue. I guess some people have longer memory and maybe they've seen things play out not really nicely for some companies decades ago. So maybe we should address that. So can you talk about what's different now versus back then? And what gives you confidence that this is not going to kind of blow up in your face.

Sounds good. So yes, so for referential point a few people have asked this question today. We're really talking VistaCare and Odyssey about 20 years ago inside of the space, coincidentally about the same time in which Chemed bought in the full ownership of VITAS. And that state the obvious, a lot has changed in that 20-year period. And as we think about it on an overall basis, Medicare Cap is something that's been in since the benefit was enacted in 1983, and it's 1 in which we're constantly looking at reviewing and have been since -- I can speak to it only directly since 2012, when I took over operations is 1 we look at daily, weekly and monthly on a site-by-site basis. And so it's not new. But from 20 years ago until today, for the overall industry and the same translates to VITAS, we're really proud of for the team as we've made a lot of investments around not only our analytical capabilities that help the forecasting, but really understand the benefit and the trajectory associated with it. And what that allows us to do, when we couple it with building out our go-to-market strategy around what's the value proposition of the hospice benefit. What does it mean to different referrals versus what does it mean from a disease state standpoint? It's for us to go into a market and really identify opportunities in -- stay in a market where we're forecasting a Medicare Cap cushion over the next 12 months that is a few percentage points lower or inside of a realm of what we want. We're able to say, let's do things where we were going to dial up the time at which our team spends with hospital-based preeminent segments, and/or disease-specific components, and that allows us to balance spending time responding to all referral sources, but getting more referrals from traditional partners that may have shorter disease trajectories and that helps generate Medicare Cap cushion in those markets on a go-forward basis. So it's not new at all to us organizationally. We're talking about it a little bit more, trying to proactively answer as we were in the middle of last year, understanding the success we've had for 2.5 years of sequential volume growth, that growing at a 15% clip on a same-store basis from an ADC standpoint, in certain markets wasn't the sustainable range, and it goes into why we're very comfortable in the 8% to 10% ADC growth forecast for this year as well as for the foreseeable future. But helping people understand, well, why can't it be 15%? 1 aspect of that is the balance of Medicare Cap, which has existed since 1983 and 1 in which we have a real good handle on.

Let me just add, again, it's a capsule commentary, but think of it this way. For the last -- I can't remember how many years. We've had Medicare Cap in California, and that's driven by the fact that the reimbursement is so much higher than the national average. 70% higher than Mississippi. But the cap is the same for Mississippi and California. We build that into our strategy. We get -- we try and do the best we can. It's because of the nature of California, that is our biggest referral source in almost every market, there's some health care system that has its own hospice that we just get their spillover referrals, not something we can control. But we live with it, we make a lot of money, it's still a very good profit margin, but there's Medicare Cap in the range of -- over the last several years, $6 million to $9 million. So what's changed? Well, I'll focus mostly on -- we don't really like to talk about programs, but let's take the obvious, Florida. A whole state of Florida is 1 program, very unusual. It's good. We like it that way. And it's -- we're dominant. It's more than half our business, it's great. During the pandemic, when 20% of our healthcare staff, the tire disappeared. VITAS was in the position where -- they just didn't have the staff to deal with a lot of short-stay patients. And it's -- so it was a conscious decision, but we just said, well, we'll do the best we can. What doing the best we can at the time meant that we looked at the historical breakdown of hospital admissions, hospital admissions equals short stay and community access, doctors' offices, nursing homes, took a look at the breakdown. Historically, we ran 51%, 52% hospital admissions. Well, we just didn't have the ability to service that many short-stay patients. We still took short-stay patients. If that number fell to about 44% -- 44%, 45%, we're still very substantial. The net effect is that our average length of stay would go up, okay, in, let's say, that market. We knew that. We figured it well. What do we do now that we have full staff, change our sales perspective that is make more hospital contacts, to see if we can drive our hospital admissions up to the same range, that is 50% or higher. And actually, VITAS has already accomplished that, I mean we're doing that. But we have a legacy of the period where we weren't able to do that, and we had this cohort of longer length stay patients, okay? There's -- that largely -- we're in our system are still in our system, okay? We knew that we're planning on that, not really an issue, still very unlikely to result in as much discussion about Medicare Cap as we've had this year and today, particularly. But it's something that we deal with in the normal course. An additional factor though is the rate increase. Keep in mind that the Medicare Cap total goes up based on the national average. Our programs, each locale gives a different reimbursement. For the state of Florida, when we finally got their final number in the late summer, early fall, we saw that the good news was that it was much higher for Florida than we anticipated. In fact, it was a couple 200 basis points higher than the national average, which meant that our reimbursement for the same amount of service as we projected, was going to be 2% higher, obviously, good news, but it meant that our carefully plan to dovetail into dealing with the Medicare Cap and the government plan here was to throw a little bit out of kilter. But again, I'm just describing a little bit of change in our planning, okay? We're still not projecting Medicare Cap in Florida. I'm just saying that the Medicare Cap cushion, which doesn't do any good to have a bigger cushion rather than the lower cushion when you get to the end of the year you want to use -- you want to have as little cushion as possible. It just changed our calculus a little bit. And we just -- again, we overdisclose on it. And I think 1 of the reasons that people today asked us about it, and Joanna is asking about it, is when we released our earnings, we just -- again, we're fully transparent. We just said, yes, we've got less cap cushion than we were initially anticipated, nothing to see here. But we still have done a lot of discussion about it because it's an often -- it's a program -- it's a policy that doesn't make a lot of sense. You can't use logic to understand some of the driving factors of it. You just accept it. You take the total amount of qualifying admissions per program in a year, you multiply it by a number between $35,000 and $36,000, it goes up every year based on the rate of increase. And you take that number, you multiply it. If that number for a program equals $21 million, that's fine. You take a look at the end of the [ plan year ], what your total bills were. If the total bills were $22 million, no 1 has done anything wrong. No 1 has the wrong -- you just spent $1 million back 3 years later to the federal government. And it's something that's a cost of doing business. It's day in, day out, what VITAS does. It's -- we've had to make some more changes really by the combination of the pandemic and the greater-than-expected increase in Florida, but nothing has changed in the underlying nature of our service offering, but Nick already made this point. But keep mind, the reason you might say, well, it seems like you're shooting yourself in the foot. Why are you talking about? Well, the answer is, when people say, "Hey, you were running at 15%, 16% ADC growth average, has something happened to the business? And the answer is, yes, we've intentionally said that was unsustainable as we have less cushion. We're going back to our historic perception of the market, which is, have 51% of your admissions come from hospitals and you'll go back to what we're projecting our historical very solid growth rate at VITAS. But nothing is -- nothing untoward has happened to the business.

Maybe just 2 last things to wrap up on it. First 1 is, if you go back the last 5 to 8 years, we forecast out what our 12-month liability is, and we've come in almost spot on every single 1 of those years. We haven't made any modifications $9.5 million liability and is in many of those Northern California locations that are just a cost of doing business at the end of the day. The second one, as compared to, say, 20 years ago, and I can solely speak specifically at VITAS is, right, when we think about going back to that go-to-market strategy, we have time allocation, we have analytics of where referrals come from, what our market share opportunity looks like. And if you even get to things like we just became the first accredited hospice organization with the American Heart Association for cardiac program. We deploy that very intentionally across every market. But we have disease-specific value-add propositions and we'll lean more heavily into certain ones of those, like, say, sepsis in cap specific markets because it resonates and has a bigger value proposition to hospital-based referral systems. So we've become much more intentional around where we're providing emphasis and can modify those things on a market-by-market basis.

Joanna, 1 thing just from a financial perspective, to keep in mind, as long as we're managing the Medicare Cap appropriately, it is not a financial disaster. The $9.5 million that we have in Northern California, those are still some of or almost profitable, highest margin businesses. So it's just a matter of managing it, so it doesn't get out of control, and Nick and Feta have done a great job doing that.

If we ignored it, it'd potentially be a big issue, in fact, we're far from ignoring it.

Our only debate over last the 10 years was whether we should be not as -- because everyone else in the industry just says cost of doing business, we're going to stop talking about it. When we have a liability, it's just -- it's just a hit to EBITDA and we chose to stick with the course of being transparent.

So I guess staying on the Medicare Cap, any indication for any changes? I know MedPAC stopped recommending the change. They have this 20% cut to carbon whatever, but that didn't happen and it was taken out. So now like is there something to be said about you guys kind of asking for the change and trying to log you something there?

Yes. So we'll have conversations with MedPAC on a regular basis, both ourselves and through the National Association that I'm on the Board of. And might be coincident, might be not. We met with them and help to educate about when you start thinking about, as what Kevin was alluding to, Medicare Cap was put into 1983 to help the government get comfortable with what the cost would be because they believe the benefit was going to be so greatly desired and successful like it has been. And so now when you look at it and say, a patient that accesses the benefit earlier in their disease trajectory, meaning they're on hospice for longer, actually accelerates the total cost of care savings to the Medicare Trust Fund. You don't really want to have policies in place that limit that. And Medicare Cap is 1 of those policies that are limited, that's a 47-year-old approach. And so as the new administration settles in, and I believe based on all commentary, they understand hospice and understand the benefit to it. Maybe we'll have an opportunity to discuss should that policy continue? Or are there other alternatives to try to advocate for the industry to be a fiduciary responsibility for the overall Medicare Trust Fund and still provide really high-quality care out in the patient's home throughout the country. And I think we will. I don't know when it will happen though.

And there's halfway steps that would be very beneficial to make more sense. That is -- yes, we could say, abolish it. And here's some dollar trade-offs or something like that. Or we could just say, look, there were changes made as recently as 2019 that meant that the increase does not -- that track with the reimbursement increase.

It decoupled the local increase compared to the national.

Right. And to the extent that we can just have that type of realignment and small issues that would make more sense, okay? And that's really what we're shooting for. It's not -- again, there are some people who would say that it has positives and negatives for it. We think that there -- the Medicare Cap stops some bad actors, okay, for instance. If you can get away with it, if you control the referral sources, we wouldn't want any short-stay patients. Medicare Cap stops that type of bad actor, okay? Our view is just saying, say, give you an example of California. We don't -- our largest referral source is -- health is largely depending on the program, a health care system that has its own hospice. We get the patients that somehow they don't want for whatever reason, if they have a Medicare Cap, they keep the short stay patients, the problem patient, they refer us to us. We take them, okay. Let's say, we could be the best hospice in California and have a Medicare Cap. The health care system may or may not have one, and they're just -- they're not operating necessarily in the best interest for patients arguably based on their referrals. But any event, it's nothing we're holding our breath for. We don't need a change. We'll deal with it. And it's just -- there's some good that comes from it as well.

And being an independent provider has forced us to mature all of our offerings to have a sustainable -- not only business, but a mission, being a mission-focused provider that is so critical for all of our team members, right? We're at about 11 quarters of growing net clinical capacity with 10 quarters of ADC growth. Those 2 things are not coincidental, right? You have to have the ability to retain and grow your workforce. And 1 of the primary drivers has nothing to do with Medicare Cap, it's the fact. Hey, you allow us to go care for patients irrespective of their ability to pay. You want them to respond, you provide an open formula. We're able to provide care in the right way that only helps us continue to retain and attract talent and be a wonderful partner to all the health care entities that are referring patients to us because they know we'll be there for them in a timely fashion. So nothing's changed regarding our business model or the approach related to it.

And I guess another recent development in VITAS is the acquisition of Covenant. So that was the first 1 since I don't know how many years, right? So is it also an indication of maybe changing strategy a little bit as and like there's more assets to be acquired, and you guys are also more kind of open to it? So maybe what -- I know, but you've never really done anything. So...

From my perspective, kind of what was going on at Covenant more than what was going on with our attitude towards it. No we -- I'd say, we've always been super interested in any acquisition of any size in Florida or the county that we didn't have certificate to date, okay. We always have been. We're not in other areas of the country that is that are CON states. We've been very -- not interested in really -- companies would have a lot of really small hospice programs, and didn't have maybe 1 in a locale that was likely to provide enough patients to ever grow into a large hospice program. So those are kind of off table. But I'd say, we always were interested in Florida. Covenant was a possibility. It was a great one. It's worked out great for us. There are other hospice companies in Florida that I have certificates and needs in counties that we're not in, we remain interested in those. But it's interesting -- because there's different ways to get that ability. And that is by applying for it and getting the CON for the state. VITAS, one of the best things you can say about Nick and the staff at VITAS as they've been, I think, incredibly successful in building out those other counties and getting those admits. Nick, why don't you just talk about some of the recent developments that I got -- because I think it's underappreciated by the market. They're very significant for us.

So a few recent ones. We opened Pasco County in October of last year, and we'll be taking our first patient in Marion County on Thursday of this week, which if -- for those of you familiar with Florida, that's where the villages is located. So we're really excited about that opportunity and our ability. We have another application in for the St. Petersburg area in Florida and just to pivot as well to everything outside of Florida because we're spending a lot of time in those opportunities as well. It's public. We filed for an application to enter North Carolina. We'll see if we can get awarded that, and there are 12 other states, in particular, we are dialed in and engaged in various forms in the cycle of talking about acquisition and entering the market. And the 1 thing in which Covenant really represented to our industry, right, Covenant was a long-standing mission-focused nonprofit provider where we have a light culture. And so the acquisition and the integration and the support from the community has been phenomenal. The feedback from the team members, all of which who came over to us has been phenomenal. They're surviving old foundation's board very positive as well. And so it helped represent to the industry that, look, we're a similarly like-minded admission-focused provider, 1 of the largest in the country, but we can do things the right way. And so it's opened up other opportunities for nonprofits in other states that maybe wouldn't have thought about us that way. So we're very excited.

Our overall philosophy hasn't changed. We've always been interested in acquisitions in the right location at the right valuation, which Covenant certainly became that. The other thing I would say, more on a practical basis, Nick and the VITAS team have started really reaching out to Covenant sized providers that we would be interested in talking to about an acquisition. And I think our historical what we did was more wait for people to call us. So we're being a little more proactive, particularly based on how well Covenant went for us. And it's all relationship-based.

Covenant works one from 4 years prior to that, it may sound smaller, but it was 12 different counties in Florida was the same setup and situation. So we like to think we're a great option for many agencies and organizations out there. And so we have been much more proactive in making sure they understand we'd like to be a phone call and dialogue about it. So I think there's more to come. We have the capital on the balance sheet to do it. It's just comparing that against all the other alternatives, whether it's share buyback or anything else.

So just a few questions on Roto-Rooter business. Maybe the first 1 is be asking of the company in terms of exposure to tariffs. So can you walk us through how you're thinking about this? If there were to be tariffs on certain countries, what's your exposure specifically to things coming from China?

Very low.

But walk us through this -- since I think this is probably a higher exposure than on the feeder side.

Yes, sure. For Roto-Rooter, obviously, to the extent we have to buy plumbing supplies. There would be certainly higher cost. But for the most part, we pass the cost along to customers directly through our billing. And so on that side, we wouldn't have a big issue from a tariff perspective for Roto-Rooter at all. I would expect almost minimal with no real impact for Roto-Rooter.

For our base business, we carry very little inventory, okay? If somebody -- if a customer says they need a new bathroom fixture, we don't carry 10,000 bathroom fixtures. I mean we say, okay, I will go to home depot, I will purchase it, by the way, here's the bill for it. So that passes through, but might now with regard to ones that we do have.

Yes. So what we do have is we build the machines essentially that are used to clean the drains and that requires -- we do buy steel, of course, that would be potentially a significant tariff, but we saw kind of which way the wind was blowing, so we currently have approximately a year worth of supply on hand already for steel. So to the extent that we need to start buying steel again, that wouldn't be until 2026.

And I guess another question on Roto-Rooter since we're running out of time. I guess we saw some nice improvement in the latest quarter in Q1 when the revenues actually grew very nicely sequentially, and year-over-year, which was surprising, right? And it sounds like you're making some progress with the commercial business, right? And the residential sort of there. So maybe any update since the quarter how things are going in residential or commercial for that matter?

Let me just say that, the -- I'll try [indiscernible]. On the commercial side, we have a very small percentage of market. We said, look, during the pandemic, we've allowed commercial to slip a little bit because it's harder business to maintain and get a little bit lower margin, and we had more business than we could take on the residential side. We went back to blocking and tackling and we're very confident that the inroads we made are sustainable. It's business that in many respects, can be conducted and grown without being relying on Google, okay? So that's why it's great. We love it. We're looking to continue to put a lot of effort in growing it. On the residential side, as far as efficiently, we like what we're seeing. We have sufficient workforce, the calls that we're getting, we have a very high, 1 of our highest close rates at the dispatch side in taking the job. And with regard to when the service man goes to the customer's home, we have 1 of the close rates, the highest close rates we ever had as far as closing that business. The problem is that we're not getting the number of calls we'd like to get. Why is that? It's largely maybe the overall demand is a little bit lower. But overall, we're looking at Google and Google placement and Google marketing, and there's a lot of aspects. I know we're over the time, we can talk about it. But it's basically we're feeling with Google, who's tough to deal with, increasingly expensive. And the real push in companies like Roto-Rooter is how do you grow the business and be less dependent on Google. And I think I'll just make 1 last comment, which is, one, this was a small part of it, but you've heard us talk about our app. We started January 1 from a standing start. And since that time, we've had just about 15,000 people a month download that app, which means if they want Roto-Rooter, they push the button. We don't pay a Google fee. But more importantly, they don't see 10 other competing programs, businesses buying for the business. I mean it could be daunting. For instance, if you were to put in -- if you put Roto-Rooter Las Vegas plumbing in your phone, you probably get 4 other plumbing companies that appeared before our listing. I mean it's tough to deal. Our big approach is how do we grow the business without dependence at Google, easier to do on the commercial side, but we're making headway on the residential side. But I know we're over the time.

Thank you so much. Thanks, everyone.