Enhabit, Inc. (EHAB) Earnings Call Transcript & Summary

Awesome. Good afternoon, everyone, and welcome again to the 2023 Jefferies Global Healthcare Conference. I'm Brian Tanquilut, healthcare services analyst here at Jefferies. With us this afternoon is Enhabit. They're one of the largest home health companies in the country. And joining us this afternoon is Barb Jacobsmeyer, the company's CEO; and Crissy Carlisle, the company's CFO.

Barb, the home health industry has been busy. And you were just joking how you -- in a few months, you'll be the only pure-play publicly traded home health company out there -- or home nursing company, right? So maybe just if you could share some thoughts on what's been going on with Enhabit. You're coming up on a year since going public. And what you're seeing in the industry right now, especially with all the moving pieces?

Sure. Well, what I would say is what we've seen in this last year is it's been nice to see labor start to stabilize. So that's been the plus. One of the things I think I've learned the most of is how slow progressing it is as we have worked with the managed care companies, particularly the Medicare Advantage side of things. It's been nice to see the progress that we talked about in our first quarter earnings call, but that certainly has come with a lot of work and a lot of time. But certainly, I think everyone is kind of feeling the effects of that move to Medicare Advantage.

So a few things to talk about, right? So since you mentioned Medicare Advantage, topic du jour for a lot of folks is United seems to be doubling down in home health. And we know that Humana has already entered the space. So from where you sit, how are you thinking about payer interest in owning home health? And how are you strategizing around that as some of your key payers are owning more home health assets?

Well, I think, first and foremost, it reinforces the value that the payers see in the home health space. I mean, certainly, if they're going to look to control overall health expenditures, particularly the more costly facility settings, they need home care, the lowest cost provider. So I think it reinforces the value. I think as we look forward, we kind of look hopeful for the day that Humana wants [ certainly all ] to see all of their patients and may be United to have LHCG and potentially Amedisys, because that would leave the fee-for-service for us and would also give us the opportunity, I think, to sit even closer at the table with the other payers for negotiations.

So while we're in the topic of Medicare Advantage, obviously, one of the key concerns or headwinds in a way, right, for your business has been that shift, as you mentioned, to Medicare Advantage, and there is a wide [indiscernible] MA payers [indiscernible] does. I know you've had some success, number one, getting new contracts; and number two, potentially, I know you're working on trying to reprice some of those contracts. So maybe anything you can share with us in terms of where the Medicare Advantage contracting stands for you, guys?

Sure. So I think, obviously, we've seen that shift. When we look back at just in the last year or so, when we were doing the Analyst Day presentations prior to the spin, there was a CMS public metric out there that said they anticipated that MA penetration would reach 50% by the year 2030. And we already reached that in January of this year. So now that updated metric is that we're going to reach 70% MA by the year 2030. So it certainly reinforces the importance of our payer innovation team. I would say, the only probably positive side of that incredible shift in the market is that, while a lot of the mom-and-pops could accept substandard rates for 20% to 30% of their business, it's not sustainable to do that winning market starting to shift to 50, 60-plus percent of MA. So that's allowed us to be at the table with the payers, and we really focus on talking about the value proposition. The best value we bring is our quality from a low rehospitalization, low readmission and low emergency room visit utilization. And so that really starts -- that's money to the payers. And so helping us to be able to negotiate those better rates with the payers. As we announced on the first quarter call, we were successful in getting a new national agreement. And so that's been helpful for us, not only to grow volume but to shift volume from some of these lower paying into the new national.

So as we think about what the industry could look like if we really get to 70% Medicare Advantage penetration, number one, are the payers understanding or realizing that situation now that these mom-and-pops cannot take more than 20% to 30% MA? And number two, are they receptive to your -- like your quality discussions and data that you give them that justifies a higher rate than what you're getting today?

So we certainly have gotten that with our -- with the regional agreements that we've been able to successfully negotiate, both at either an episodic or an improved per visit rate, they certainly understand the value proposition as well as with the new national one that we signed. With some of the others, it is still slow and steady work to try to get there. Unfortunately, I think it's going to take them having some significant access issues for them to really understand. And that's whether it's more consolidation or whether it's us making progress with some of the other payers so that we can kind of deprioritize them, so that they feel access issues to really get them to take it more seriously.

That makes sense. Maybe, Crissy, I'll shift gears here a little bit. On your Q1 call, I think you mentioned that labor remained a constraint in your business. Where does nurse recruitment retention stand today and contract labor utilization? And how are you thinking about just the labor environment as a whole for you, guys?

Yes. So the labor environment is improving. We've been very pleased with our ability to not only recruit but to retain nurses and the trends that we've seen since the latter part of last year. In both the fourth quarter of '22 as well as the first quarter of '23, we recruited 100 net new nursing hires, which we believe is helping us be more successful in getting rid of some of our capacity constraints. So really pleased with that. I think on the wage side, again, the trend that we started seeing in the fourth quarter of last year is, given prior to that, we had done a lot of updates to our national pay grids. And as a result of that, by the time we got to the fourth quarter of last year, wage wise, we were seeing more of that 3% kind of normalized merit similar to historic run rates. And so as we headed into 2023, what we talked about in our guidance considerations was a 4% to 5% increase in cost per visit on the Home Health side. Remember that wages, salaries and benefits are about 90% of our cost per visit. And so we went with a 4% to 5% range because, while we're good with our national grids and comfortable with the 3%, we still acknowledge that there's likely markets out there, whether that be a high-growth potential market where we need to recruit more nurses to be able to meet that volume demand or other reasons that we may have to still make a few market adjustments. We've done some of that already this year, kind of April, May time frame, where we looked at some of our high-growth markets. I believe there were 16 or 17 markets where we made some adjustments, again, to not only recruit but to retain existing personnel. So we're really positive about the trends.

Crissy, I'll follow up on that. So BLS just released their data this week for April -- from March to April. And they're showing home nursing wage rates up 9% month-over-month. I want to hear what you're thinking. Like did you see 9% or because you just mentioned like a much lower number than that?

We are not seeing a 9%. Again, nationally, what we're seeing is that we're having success again with that kind of 3% year-over-year normalized merit increase and then in certain markets, doing something more again. And that's -- part of that is on us because we know there's high growth potential in those markets.

Now that makes a lot of sense. And then maybe as I think about broad -- taking it up a step further past labor -- or clinical labor, how should we be thinking about opportunities for incremental margin expansion, operating efficiencies, maybe taking out payer mix in that discussion?

Yes. I think when I think about Enhabit and some of the reimbursement uncertainties and the ongoing shift, the rapid shift to Medicare Advantage, I don't know that I would spend a lot of time talking about margin expansion. I do think it is a volume play and EBITDA growth in capturing that market. We do have room on the cost per visit and cost per day side for additional efficiencies, but that's going to come again at the benefit of volumes, right? So the more volume we have, the more we can spread out our fixed cost and utilize that structure. We have some room with productivity and optimization. Again, the more volume we have, then the better we're able to optimize our staff, meaning that we send an RN to do an RN's work and an LN to do an LN's work. The other factor that we have, of course, is you may have noticed in the latter part of 2022 as well as in the first quarter of this year, we did have some increased use of contract labor. But again, in our industry and our business, given that, our work is done on a 1:1 ratio. So we only use contract labor when -- at a short-term fix, when we know we have clinical staff in the onboarding and orientation process and we want to keep those referral sources strong. And so when we do that, there's always, again, an end to the use of the contract labor. When we ended the first quarter of 2023, our Hospice, again, that's where we've been most heavily using it, only had 4 locations with capacity constraints. So again, we've seen kind of that tipping point and started to go down. I think, a little over 5% of our hospice visits in Q4 were done via contract labor. That was down to just a little over 3% in the first quarter. And so we expect that trend to also continue in the latter part of 2023.

That's awesome. Maybe taking a little pivot here. CMS has scheduled to put out their 2024 rate rule proposal coming up in the next 15, 20 days. We have our views, but just curious what you're expecting from your side.

So with our participation, both with NAC and with the partnership, I would say that we do anticipate to see in the proposed rule the other half of the behavioral adjustment. We expect to see the clawbacks or the temporary adjustments to be commented or to be mentioned like they were in last year's proposed rule. I think we would be surprised if the actual impact of those would be projected to occur in 2024. We see those as potentially being pushed out there a little bit. Because it would be a lot for the industry to sustain the other half of the behavioral and any sort of clawbacks in 2024. I think the big unknown is there was a letter sent by both NAC and the partnership regarding the forecast error for the market basket and had calculated about a 5.1% forecast error that would be a positive to the industry. It will be interesting to see is that taken into any consideration, as we look at the market basket proposed for 2024 to offset the behavioral adjustments.

Yes. That's interesting because, I mean, none of it -- like the hospitals, hospice, no one really got inflation updates that match costs.

No. That's right. And hospice Follows the acute cares. They don't have a separate, so they do follow the acute cares, and you're right. There's -- so...

Yes. So fingers crossed.

Yes.

All right. Maybe shifting gears here a little bit, Crissy. When you went public last year, I mean, M&A was part of the story. Obviously, there's a lot of uncertainty right now. So where do you stand in that? And how are you thinking about balance sheet and cash flows?

Yes. So let's start with M&A. It's been well publicized that the mergers and acquisitions opportunities in home care have been at a low point. I think in the first quarter 2023, there were about 14 home care-related transactions that took place, and that was the lowest since the first quarter of 2018. Part of what's happening there is you've got a different tougher capital market. But I think what's really driving it is the bid-ask spread. There's so much friction between the bid and ask from buyer to seller that they're unable to come to an agreement. I think that M&A continues to be an important part of our growth strategy. We certainly have a -- continue to have an active development part on department. We have ingoing calls. We have outgoing calls on both, but it's a matter of finding an attractive asset at an appropriate price. And so we're being very disciplined in that regards. I think that it's also fair to say that given our balance sheet, we are much more attuned right now to deleveraging our balance sheet. So, so far in 2023, we've had a 5:1 ratio for our use of free cash flow. Meaning that we used 5x as much to pay down debt as we did to make acquisitions. The only acquisition that we've done, we did complete one in March of 2023. It was a Home Health location in Evansville, Indiana. We paid about $3 million for it, and we got it at a 5x EBITDA multiple. That seller was very aware that we were willing to walk. And so that's what happens again when you have that friction and somebody is really in the market to sell. I think a lot of our focus right now, when you think about growing the company, we like our de novo strategy. And I would say that our de novo strategy is a bit more focused on Hospice, given that they don't face some of the same uncertainties as Home Health does and that rapid shift to MA as well. For us, the de novo location cost generally $250,000 to $350,000 per location. And our expectation and hope is to do 10 of those in 2023. The expectation for de novo is that within 24 months, their revenue run rate is $2 million and the EBITDA run rate is $500,000. For those de novo locations that we opened up in 2022, 2 of those locations anniversaried in the first quarter. And I can tell you that one of those is on track to meet that run rate at 24 months, and the other is a little bit ahead of that run rate. So again, we're very pleased with that. Brian, in regards to the balance sheet in general, we are experiencing an increase in our leverage. A lot of that is being driven by EBITDA. I should say, all of it is being driven by the decline in EBITDA over the last 12 months. Our total debt is actually a little bit less than it was when we spun off. What is happening is that the highest quarters of 2022 are rolling off and being replaced by what we expect to be the lowest quarters of 2023. And so that's causing some pressure. I'm very confident in our bank group. We have a great group backed by mostly large banks, not a lot of regional risk in the credit agreement. And that if we felt those pressures and needed to do something, that they understand what's happening in the industry, especially related to MA, and that we would be able to get some relief if it came to that point.

No, it makes a lot of sense. There are a few things I want to follow up there, Crissy. So number one, first, maybe sequential growth and earnings expectations for the year. We get the question a lot, like how do you get confidence in your ability to hit guidance after the Q1 results?

That's a good question. I think that out of the gate, when we first gave that guidance in February, I don't know that the investment community fully understood or appreciated the ramp-up that we talked about. We talked about the fact that ongoing labor and recruiting more and retaining more and the impact that would have as the year ramps up, as well as the ongoing shift to Medicare Advantage and getting new contracts and shifting existing business into those contracts. Of course, one of the biggest drivers for the year that we mentioned on our first quarter call is that we did negotiate a new national Medicare Advantage agreement. It became effective May 1. In addition, we also signed 2 new agreements with conveners with national reach. And so those are just some of the items that are causing this ramp up. When you think about the 3 most sensitive factors to our guidance, the first -- and I'll even give them to you in order of magnitude and priority, right? You think about episodic admissions. From Q4 to Q1, we saw a sequential improvement of about 1.3% in episodic admissions. And we noted that, that trend needs to accelerate because, again, episodic is our highest and best payer. Second, the smooth and quick transition of non-episodics into these new Medicare Advantage payer contracts is also another success factor that's going to be very important. And the third is improved clinical productivity in Hospice. As I mentioned earlier, when we talked about our shift to what we call the case management model for our clinical staff in hospice and the use of contract labor as those staff came on board, we've got to ensure that we turn off that contract labor spigot and move forward with productivity of our full-time staff throughout the remainder of the year.

All right then, you touched on hospice for the de novo discussion. But maybe broadly speaking, how is the Hospice business going? And how far are we from normalization in that space?

I think the part with hospice is that there were a lot of articles last year talking about how the death during COVID of the Medicare beneficiaries, right? And they tended to be those older patients with a lot of chronic comorbidities, the types of patients that, frankly, ended up on hospice, right? And it's why we've had to focus so much on diversifying our referral sources. We historically received the majority of our admissions from physicians. Those referrals tend to be your patients with that longer length of stay, the dementia patients, the patients that have neurological conditions. And so when you see that volume of patients start to decline, you have to be able to go out and diversify. And so we've spent more times how we -- why we had to create the case management model. Because to get patients referred to us from a facility like an acute care setting, you have to be able to say yes today and get that patient initiated today. Now those referral sources do tend to drive patients with a shorter length of stay. And that's what we saw in the first quarter, right? We saw a nice strong sequential admission growth but didn't see that same impact on ADC. Because when you start having that growth be more of your shorter length-of-stay patients, it's really hard to kind of get out of that ADC hole. So I think to really get back to those previous census levels, we do need to have even more admissions, and they need to come from the more diversified locations because you're going to see that impact from a length-of-stay perspective.

That makes sense. Maybe I'll go back to the home nursing side. One of the things that you mentioned was that as the payers acquire more of these -- of your competitors, there's more fee-for-service business to go around for you, guys, right? Potential share gains in fee-for-service. Humana has had Kindred for a while now, and LHC deal's been closed for a few months. Are you seeing any of that yet?

We have not seen any of that yet. I think a lot of it is because, again, it's such a fragmented industry, right? So even though they're large, it's still, in any given market, one of a large number of different providers.

Got you. And then, Crissy, as you talked about de novos, is there a focus on CON versus non-CON? How are you approaching that?

Well, for de novo, it pretty much has to be a non-CON thing.

Non-CON, yes. So you're not buying licenses?

No. A lot of the strategy there is to put hospice where we already have existing Home Health locations because we can build off of the brand recognition and referral sources. We do gain a small amount of synergies just when we can co-locate, meaning in the same small office within a strip mall, but it's really more about the hospice play and in building up the brand recognition.

Got you. Got a few minutes here, so I've got a couple of questions. Barb, I know this is probably a tougher question, but given all the things that are happening in the space, in 3 to 5 years, how -- what does Home Health going to look like? I mean you were talking earlier about how you're the last company standing. And a few years ago, there were like 4 or 5, right? So what does -- what will this look like? Are there new companies that are going to emerge and come public? Or just emerge as independent large-scale home health players?

Yes. I think it's a great question because if you would ask me this a couple of years ago, I'm not sure I would have seen us this fast this far and with the changes that have happened in the last couple of years. I do think it, again, continues to reinforce the value of Home Health. I do think that there will continue to be a lot of consolidation going on. I think that will happen, particularly with some of the smaller folks. And we're seeing that already, where I'm not even sure if some of them are going to even get to the point of being able to sell. I think some are going to face some issues with the MA and particularly Medicare pricing that volume may just become available for us in a market.

And then maybe for both of you guys, I know we've spoken about this in the past how the spin-off happened and you're both dealt a pretty tough situation, right? I mean it was pretty abrupt and all that. So where we stand today? What do you think is -- how much work or what's the work left to bring and have it to a point of stabilization where there's better visibility into operating metrics and the ability to hit earnings goals on a quarterly basis?

I think from a labor perspective, I think we are in a much better place, right? I think we are now in a place where we are staffing to grow versus if you look at even a year ago was staffing to stabilize, right? So I think we have kind of turned the corner of staffing to grow. It's a great question on when are these -- is there going to be more visibility. We used to look at it and say, wow, when our mix gets close to our other peers, we're going to probably see a stable level. Well, now that even continues to shift, right, with this rapid movement. So I do think that we'll get there faster, the more we can not only get better contracts, but really learn how to move our current non-episodic into these new agreements.

And Brian, I go back to what we said earlier, when we were having our pre-spin non-deal roadshows, this time last year, the data said that we would have a Medicare Advantage mix reaching 50% of Medicare eligibles in 2030. That was 12 months ago, and we know we reached it back in January. So that tells you how rapid this is and that nobody really saw it coming, even that soon ago. So I think it is about the speed with which the changes are happening and just staying ahead of it.

Yes. All right. Well, we've got a minute left. Barb, any parting thoughts for the audience here as they think about Enhabit and investing in the company?

No, I mean I think I would reinforce, obviously, May 1 was a critical date for us to get the new national agreement. It really is now about us having all the tools in the hands of our individuals in the field to be able to move away from that historic 35% to 40% discount to much better contracts. I do think as we're successful doing that, it is going to be putting pressure on the previous access to the others, and hopefully, that gets us a lot of voice back to the table.

Awesome. Thank you, everyone. Really appreciate it.

Thank you.