Community Health Systems, Inc. (CYH) Earnings Call Transcript & Summary

Everyone, thanks for joining us for our next presentation. We have the President and CFO of Community Health Systems to talk about -- give us an overview of the company. We are -- Kevin and I were just talking earlier, we're going to kind of run through his priorities and hit on some of the top things that have been -- certainly been topical to everyone. But thank you, Kevin. Thank you for joining this conference.

Thanks.

And I'll open it up by -- good stats at from your initiatives you highlighted on the call and what you -- where you are today in terms of opportunities and so forth?

Sure. Thanks, Larry, and thank you for hosting us today, and thank you, everyone, for joining us and the time you're spending here. Yes, we mentioned a couple of kind of top priorities, one being kind of opportunistic growth. We continue to make some investments in growth opportunities. We believe that our portfolio is a result of some of the demographic shift, the economic shift, it's positioned well for the future. We're in a number of low-tax jurisdictions, and those areas are experiencing some greater growth at the moment, and we think that, that's going to be in our favor. We mentioned we are opening, I believe it's 118 inpatient beds in our Naples markets between this quarter and the first quarter of next year, is one of our bigger investments that we believe will have a very positive impact. We've got a number of outpatient access points that we continue to focus on. So there's a lot of opportunity there. On the expense side, continuing to make some big improvements in expense reductions, our margin improvement program that we're focused on, putting some discipline around that and how we track and report and manage some of that. We think there's runway. We've been at that now for a couple of years, starting late 2019, and believe we've got some couple of years in front of us on that to continue to drive some of the margin improvement.

Great. As it relates to your outpatient footprint, I know it's been a priority. Can you just speak to your deployment of capital into the outpatient footprint, be it primary care, ED, urgent care centers and your kind of footprint within certain markets? Is -- that is presumably a key priority given especially given the trends?

It is. And patient care really starts with that primary care physician. So we continue to focus on adding more primary care physicians to our portfolio, but we're also investing in urgent care, freestanding EDs. We're adding approximately 5 ambulatory surgery centers a year. We have -- I think, about 85% of our markets now we have ASCs in those markets continuing to look for opportunities. Now I think that we feel good about where we're at there. The markets where we don't have an ASC presence are markets where we probably don't need one. Because that convenience factor of having an ASC versus outpatient at the hospital doesn't exist. That convenience isn't as big a differentiator in certain markets.

Right. Have you seen -- in terms of the outpatient strategy, I know you've seen a shift. Is that something you think that is permanent in nature in terms of the shift? It seems like a more aggressive shift out of the inpatient setting to an outpatient. We're seeing that across the board.

We are. There's been a number of procedures taken off the inpatient-only list by Medicare, and commercial payers kind of follow suit and start to direct more of that business. There is certainly, as I mentioned, a convenience factor, I think, for the patient to be able to get those procedures done as an outpatient versus inpatient. And we believe we're capturing that business in our networks, but there is a focus. I think if you look at our net revenue, certainly the growth of outpatient net revenue is outpacing the growth of inpatient revenue. And part of that is I think as a result of the pandemic and recovery, we're seeing an absence of some of the inpatient business, that I do think that comes back and balances that a little bit going forward. But I do believe outpatient will continue to grow.

Is that something that you think potentially comes back in '23 in the near term? Or the longer...

We had expected it to come back probably sooner than it has. But I do believe that some of that does come back in '23 as we continue to recover from the pandemic.

Extending that conversation to just your volume metrics. You had talked about on your call that bonds picked up as you move through the third quarter. I know for the year, they're below what your expectations were. We saw there's pick up through the quarter. Can you just kind of walk through what your thought process are on volumes kind of throughout the year and as you're kind of looking at? Have there been material shifts in times of what you're seeing in the market that kind of alter your thought process about where volumes are?

They have. So to start the year with the big COVID surge, we really expected the recovery of that deferred business to occur quite quickly after the surge was over, which was similar to what we saw during the very first wave of COVID, that during the Delta wave or following the Delta wave, we saw a fairly quick recovery of that deferred business. After Omicron, it really stalled. It started. March was strong, and then that recovery stalled. And what we really attribute is somewhat of a working theory, but I think it's played out now over the year is about that time that recovery was starting, restrictions were lifted on people. That was the spring. Weather was getting nice. People were able to travel. The Omicron surge was of much lower acuity, and people felt the risk of maybe a follow-on surge would be even lower acuity. And people started to get back to more normal activities, taking vacations, traveling. Our doctors were taking significantly more time off traveling. So through the summer and into the third quarter, I believe our business was largely disrupted because of that. As the kids got back to school in the fall, people returned home to their primary residents, travel season was over, doctors are coming back, starting to practice at a higher degree. More patients then getting referred back to the hospitals, we saw volumes pick up, and that was kind of the back half of the third quarter, and we're seeing that continue on into the fourth.

Could I ask, are you seeing a little bit of a bump from flu as well?

We are. Although the flu has been relatively low acuity. So not to a great degree in terms of admissions, but we are seeing a pickup in clinic visits and some ED visits as a result of the flu. But again, generally lower acuity.

Okay. Great. Moving on to probably -- was a wonderful topic for you, but in terms of contract labor, I know -- I think the data points are on the call were $60 million in 3Q of '21, $190 million 1Q, coming down to $150 million, coming down to $100 million. So obviously trending very favorably. Can you walk us through kind of a little bit of history there and kind of how you're thinking about that going forward? It's obviously improved material, then been more rate, actually, rate has been a part of it. It's been utilization a little bit of both.

Sure. So pre-pandemic, we averaged maybe $30 million a quarter of contract labor. It's something that we've always used. You use it for seasonal business here in Florida that has a much higher seasonal fluctuation during the year, always utilized more contract labor. But again, average about $30 million a quarter. We saw the spikes that you just mentioned really beginning in the fourth quarter of 2021 when it was $140 million, then up to $190 million, $150 million, $100 million. We expect to see continued decrease into the fourth quarter, although not the same level of decline we saw sequentially from Q2 to Q3. And probably, as we look out into '23, continuing to improve. It is both a decrease in rate and utilization. I would say at this point, at least through the third quarter, it was probably evenly split between a decline in rate and decline in utilization. I believe that we'll -- part of what we're going to see in the fourth quarter is as the rate comes down to a level where we may have suspended some services, because it just didn't make sense to staff with such high-rate staffing. As the rate continues to come down, we may bring some of that contract labor back. We also have a higher seasonal fourth quarter and first quarter in Florida, which will bring some additional contract labor back as we normally would. That does slow down some of that decline, but I continue to say we'll see continued improvement.

Substantial improvement.

Yes. Yes, throughout '23 then.

Just from a longer-term perspective, is it reasonable to think that you could get back to anywhere near $30 million a quarter versus kind of a...?

Yes, I would not expect us to. I would expect something probably -- if we get down to the $50 million to $60 million range a quarter, it really, at that point, is probably no longer part of the story.

Right. Yes. Okay. And I know you've talked about on the call you had referenced recruiting. You make progress more full-time side. I think you're in your up 12%, a reference point. Can you just walk us through your strategy around recruiting and how much opportunity that present you to offset that contract labor?

Sure. And we made really big strides, I believe, in the third quarter -- really second, third quarter, which contributed to our ability to take out more contract labor. We're up for the year, roughly 1,500, a little over 1,500 nurses full time. We moved our recruiting function into a centralized environment in the beginning of '22. That's been very beneficial for a number of reasons. One, we're able to cast a wider net by doing it centrally, using more technology and online type recruiting efforts, as opposed to what was going on locally. We have better control over it. And then Tim and I are able to get kind of daily reports, where we're able to track number of interviews, a number of applications, offers made, acceptances, declines, gives us much better management insight into that whole function. And that's led to a much better kind of flow-through of improved recruiting effort.

Recruiting, okay. So at the end of the day, that's playing a part in the substantial decrease from Q1 to Q3, Q4, is that fair to say?

Yes, that's fair to say. Because our overall staffing, if you think about including both employed and contract labor, has not increased significantly, kind of the total number of SCEs. The contract labor was not all incremental to treat COVID patients. The overall staffing size has remained relatively flat. So as we bring down contract labor, it's contingent upon us being able to backfill some of those headcount with full-time employees.

Okay. One last point on labor. I know you've heard and you had referenced as well some of the incremental costs that you incurred in the third quarter with regards to recruiting, incentive bonuses, other related incentives you may incur to bring people. Was that a cost, if I look at it sequentially, that was -- I won't call it largely embedded, but was it part of 3Q that we may not see going forward as you brought the labor on board?

I do think we had a bigger impact in Q3 than we may see going forward. Some of that is really some of the onboarding costs of new hires or training, it's unproductive time, getting them up to speed. As those employees then get into the workforce and stream and becoming more productive, you're able to leverage that time and expense more. We'll see some continued costs on that as we go forward. But I think it becomes more normalized, we don't see that bigger spike that we saw in the third quarter.

Is there -- if I may and feel free to not answer this question, is there any way we could quantify that?

Yes. I have not quantified that yet. So -- at least not publicly.

Okay. Commercial rate discussions has obviously been a topic that has been in the inflationary environment, pricing leverage and kind of how you think about today, what you're going to get on the rate side potentially, and those discussions with payers, how those are progressing? Are you able to push through some of this message to the payers and will we see that going forward?

We have been. Are we getting what we're asking for? No. Are we getting a rate lift that's greater than what we've historically gotten? Yes. I would say on the commercial side, all in, when you factor in the contracts, some of them aren't renewing this year, so they're rolling over at 0 or maybe they just have an inflator in them. So kind of an all-in number, I would expect commercial rates to be up 4% to 6% next year. That's about 100 basis points higher than we've seen historically, so some success. Individually, we have contracts that we're seeing in the high single-digit rate increases. I would expect that some of the contracts that we were not -- that did not renew this year that will renew next year, that I would expect us to be able to get some additional rate lift as we renew those in '23 for '24. So there's still some tailwind on the commercial rates for us.

And Kevin, you've mentioned, I think, in -- recently that you think '23 will get back to kind of a normalized kind of top line, kind of mid-single digits. Is that the thinking largely being the recovery on the volume side that drives that from where we are today?

Yes. Well, I think there's a couple. There's a number of moving parts in there. But certainly expect volume continue to recover, and that the recovery probably occurs throughout the year. But I also look at some of our investments into higher acuity services, some of our expansion of -- like the beds we're adding. Next year, we've opened a de novo hospital in Tucson this year, that was June 1, I believe, that opened up. We'll have a full year of operations next year that are relatively fully ramped up by the time we get to January, and we'll have a full year of operations. So that should add some additional volume in that market, acuity. And then there's a payer mix. And as we continue to push and target and hope to achieve better payer mix, there should be some benefit there.

Right. Okay. Great. Capital allocation strategy, just how you think about it from a deployment of capital into your portfolio? And maybe as part of that conversation you're talking about, you talked about recently about potentially monetization of assets coming into play as well. Could you just talk -- hit on those 2 points in the sense that they're like -- but more of the capital allocation strategy? You've purchased part of the capital structure to bonds back. So if you could just walk us through your mindset in terms of capital allocation and where the deployment -- the monetization of assets plays into that?

Sure. So we have some medium-term targets to get out below 5x leverage. Our leverage has been high. We're working to get that down. And as part of that, obviously EBITDA growth is a significant portion of that. As we have opportunities like we had in this past quarter where we had cash available to us and the markets were trading at some pretty attractive levels in terms of debt buyback, we believe that utilization of that cash to buy back some debt and help contribute to that deleveraging made a lot of sense. We'll continue to look at those opportunities in a market where, say, we exited 2021, where most of our debt structure was trading near par, then you have other choices. Do you -- if you have excess cash or proceeds from an asset sale, do you reinvest that in something that's going to add more EBITDA and delever that way? Or do you use it to pay down debt? I think in the current market with pricing, it makes sense to buy down debt. As I think about asset monetization, we do have some assets that, as we really continuously look at our portfolio, and as we kind of exit now the pandemic and look at what the prospects are in some of our markets, have there been changes, either favorable or unfavorable, do we have still some assets that don't quite fit into the network structure that we're building that we can leverage scale. And are there opportunities where there might be a willing participant to transact with. Kind of all those things combined, there are some assets that we're advancing some discussions. We had one in West Virginia that we've announced that we have a signed APA on. Some other assets that we are in some further advanced discussions on that may come to fruition or may not. But if we have those opportunities at the time that we transact that, we would take a look at what makes the most sense and how to use those proceeds.

You don't have a targeted -- I know in the past time you've talked about having targeted proceeds you'd like to monetize. You don't have kind of a target at this point in time? Or you don't think it's more just opportunities as they present themselves?

Right. At this point, we've not targeted a proceeds number, it's really looking at opportunistic transactions.

Okay. Okay. Great. I know we'll probably have a few questions in the audience. So kind of answer my questions and I'll go ahead and open it up. Thanks, Kevin. Thanks for coming.

Sure. Thank you.

Can you discuss on your other operating expenses, excluding contract labor, what are the largest buckets of that expense? And what have been the growth drivers, because that line item has been increasing over the past few quarters?

Sure. There's a couple of big ones. One is supplies. And then we have a number of other insurance -- kind of our fixed cost type utilities, insurance and so forth that are in that. Medical specialist fees is one in there. And we've had really good success. We had kind of through the second quarter, I think 6 quarters in a row, that we were able to hold those nonlabor expenses flat from an absolute dollar spend. In the third quarter, we did see about a 2.5% year-over-year increase in nonlabor expenses. But if you think about the inflationary environment we're in, to hold those nonlabor expenses to only 2.5% increase, we felt pretty good about that. Some of that increase -- that 2.5%, was attributed to some of the onboarding costs that Larry had mentioned earlier. Some of it was some utility cost increases. If you think about our footprint across the Southeast and Southwest in the third quarter, it's the most extreme temperatures and is our highest quarter of utility utilization. And with utility prices increasing as they have, that's contributed. I think going forward, we won't be able to hold that flat continuously, not in this inflationary environment. But if we're in the 2% to 3% kind of range, I think that would be a very good target for us to hit.

[indiscernible].

Absent the supplies, yes. I'm not sure what the percentage is, including supplies in there. Because supplies is clearly a variable cost. But other than the supplies, the vast majority of that is more of fixed cost.

I just want to jump in, if I could, one question as well. Can you talk about the dynamics and economics around -- I know you've talked about closing service sides or capacity and bed constraints just largely based off of the labor? What is that -- how challenging has that been? Is that an opportunity going forward as labor, I'll call, comes back or able to restaff and open up as,will that create a revenue opportunity, greater revenue opportunity going forward? And what are the kind of the decision points around that, if you will?

I do think it creates an opportunity. Part of the headwind, it is labor, but it's also demand. I think it's patient behavior. And a lot of the kind of volume restrictions we're seeing today, I believe, are really patient behavior versus us kind of limiting ourselves because of labor. If we think about second quarter coming, we were fully expecting much more volume recovery. We staffed for more volume recovery, added incremental, some contract labor in the second quarter, expecting that the volume just wasn't there. So in the third quarter, we were able to pull back on some of the additional staffing. We consolidated some service lines. We consolidated a couple of facilities, suspended some services where the volume just isn't there, so we're able to get rid of the staffing. So I think it's a combination, but I do think that it is an opportunity for us going forward. because we do have some additional capacity.

And as the labor challenges also translate into length of stay, challenges in terms of...

It has. And part of that is the labor challenges in the post-acute care space, which was preventing us from discharging patients and then contributing to longer lengths of stay. And as that continues to work its way out of the system, it will allow us to further reduce our length of stay.

[indiscernible] referred to a new normal for salaries, wages and benefits, that's probably 200 to 300 basis points above the 2019 levels. Can you share with us what your new normal would be?

I do think there is a new normal in kind of that base rate, because once you give the base rate, it's not something you're -- that's easily taken away. What we are doing though to offset some of that is looking at our care delivery model, utilizing additional LPNs, nurse practitioners, allowing our RNs to practice at the top of their license, utilizing -- adding things like partial shifts into the mix to make it more attractive for nurses, if they -- or maybe a caregiver outside of the workplace, at home, and they're able to work 4-hour shifts instead of your traditional 8- or 12-hour shifts that have been scheduled. Doing things like that to make it more attractive is going to allow us to offset. There's also been, through the pandemic and through this labor market, utilization of like sign-on bonuses, stay bonuses that have contributed to a significant increase in labor expense. I don't see those continuing. So I think that is something that isn't part of the permanent increase in the labor structure.

[indiscernible]

I would say for next year, we're thinking that -- right now, our thinking is that the base rates probably increase about 4%, kind of 4% inflation next year.

Next year.

Kevin, just curious, could you just help me understand how you guys will get down to less than 5x leverage? Like what specifically if -- what's the goal to get there? What are you guys going to do? Just help me understand that.

So it's a combination of EBITDA growth and debt pay down. So I think kind of the combined with as we grow EBITDA and we're getting ourselves back to being free cash flow positive, we think that free cash flow can help further our debt paydown to get us there.

What would you say your realistic, long-term EBITDA margin profile looks like on a normalized basis?

Our medium-term goal is to be above 16%, and we're confident that we can get there.

Have you disclosed how much of your revenue is from your ambulatory surgery centers?

No. We do not manage our ambulatory surgery centers as a separate segment of our business, it's integrated into our hospitals. So we don't disclose that separately.

Is that something you consider breaking out in the future.

It's not how we're structured, not how we manage the business. So no, probably not.

Just a follow-up. On the ASCs that you plan on opening up in the year, are you doing JVs and are you working with specialties to build those out? Are you a majority interest or a minority interest?

I'm sorry, I missed the first part of that.

Sir, your ASCs.

For ASCs, so we're probably evenly split between owning outright and JV ASC. So we're kind of pursuing both. We have some in the majority of our JVs, we're the majority owner. We have just a couple that we're a minority owner in, but probably even -- pretty evenly split between wholly owned and JV.

Running along on time. Maybe time for one more question if there's one more question out there. Okay. I want to go ahead and wrap -- oh, one more.

Can you -- for your CapEx, what's the mix between spend on the outpatient side or your initiatives versus inpatients?

I don't have that percentage [indiscernible]. The majority probably, at least recently, has been on the inpatient side for a couple of reasons. One, where we've added some pretty significant, like in Naples, adding inpatient beds is a higher cost construction. On the outpatient side, the majority of that spend, we're able to get into those access points at a lower cost point from capital. It's more tied to some equipment. Oftentimes, we're leasing space. So it's pretty capital light in terms of entry into the outpatient space.

Can I ask one last question. I'm sure you've been getting this a little bit. But the guide for 4Q, without getting into specifics, but looking at some of those, obviously, contract labors, it's quite -- it's just a stronger quarter as we've talked about. Contract labor is beneficial maybe just 1x in 3Q. Are we missing anything that sequentially plays into that, and data points that could help drive a sequential benefit?

Those are the big ones. It's volume recovery. It's kind of some normal seasonality in terms of volume as well. But I think our expectation is the volume recovery is greater than what we it maybe had seen historically because of the disruption that we experienced in Q3 -- Q2 and Q3, contract labor being a big piece. And those are the big pieces.

Okay. Okay. Great. Thank you. Thank you, Kevin. Thank you for joining us.

Thank you, everyone.

Thanks, everyone.