Evolent Health, Inc. (EVH) Earnings Call Transcript & Summary

Good morning. My name is Lisa Gill, and I'm the health care technology and distribution analyst of JPMorgan. This morning it is with great pleasure that I introduce Evolent Health. With us this morning, we have CEO, Seth Blackley; as well as CFO, John Johnson. They'll make some opening remarks and present their slides, and then we'll come back for a Q&A session. Let me turn it over to Seth.

All right. Great. Thank you, Lisa. Welcome to everybody. I hope you and your families are staying healthy. I'm joined today by John Johnson, our CFO. And as we dive into the materials, I'll just say that we feel that Evolent is at an inflection point, we believe we're continuing to accelerate execution against the plan that we laid out at IR Day a couple of months ago, and we have some exciting news to share in that regard later today. So with that, let's turn into Slide 3, Evolent in Brief. All right, so what problems are we solving? It is ultimately the ability to improve quality while we decrease cost. We've been all seeing the data for a long time of $1 trillion of waste in the U.S. health care system. Evolent was founded to help address that issue, and we've all been hearing about that waste for a long time and yet the status quo certainly persists. Evolent addresses the health care waste problem through 3 specific solutions, as you can see on the slide. First, through our specialty cost management platform, New Century Health. We engaged specialists to reduce cardiology and oncology costs, which are specialties that represent about 25% of all Medicare spending. Second, we address the waste through our total cost of care solution, Evolent Care Partners. And in that solution, we better coordinate care for complex patients through our primary care partners around the country. And third, through our administrative solution, which is Evolent Health Services, we connect the data between payers and providers. In terms of profile of the business for those of you who are new to it, we are approximately $1 billion in LTM revenue, with LTM EBITDA of about $34 million. Our 35 customers are roughly evenly split between providers and payers. And through those customers, we provide a range of services to roughly 3.5 million Americans. Okay. So flipping to Page 4, what makes Evolent unique. A lot of people ask us, why does the waste persist? Biggest issue, in our view, is that the payers and providers are pitted against each other with competing incentives. The providers often have the ear of the patient or traditionally have less incentive to manage the costs. Payers, on the other hand, have the incentive to manage the cost, but generally less ability to engage with the patient. So Evolent's founding and our evolution has left us in a unique position with this bridge to be able to solve these issues. Our heritage is certainly as a value-based care company. We grew up on the provider side of the business. But as we've evolved over the last decade, we're now in relationships with many of the top insurance companies, payers across the country. And so everything we do across our 3 solutions is about bridging the divide between the 2, between payers and providers. We think we're uniquely able to work on both sides of the bridge. Okay. So you can see that as you flip into Page 5 and you think about where we've been in the market landscape, we think about 3 categories of companies who are like us, working to disrupt the status quo in health care. On the far right, you have innovative provider models like Oak Street Health. They're standing up new capacity to reduce waste. On the other side, you have innovative payer models, let's use Oscar as an example. We're in the middle, seeking to disrupt the status quo by working with existing payers and existing providers. Their business model, pros and cons, each of these 3 models. Ultimately, our model, we like, given its limited capital requirements and ability to scale very quickly. So if you turn into Slide 6. I'll just stay at the start of this slide with respect to the market context. While we grew up as a value-based care company, we are not dependent on the pace of value. Less than 10% of our pipeline is tied to anything that has a regulatory movement tied to it, but there are some upsides to our revenue and market targets. We think the wind is at our back in general. The winds are at back, but regardless of who's in Washington, things like the budget pressure and the specialty drug price and cost increases you see on the left. But also on the right-hand side, there's some near-term catalysts, think what CMMI is doing with their geographic model, with some of the things they're doing with direct contract and even COVID has been generally a net positive for us. And finally, we do get asked, hey, does the fact that Biden, one, help us and yes, we do think that will likely be a positive in our view. Okay. So what are our solutions. Flipping into the next slide, we have 3 solutions, 2 of which are clinical and 1 is administrative. First is our specialty care management platform, New Century Health. We're going to go a lot deeper on the next slide around New Century case studies, I'll be very brief here. But in this model, we support payers and risk-bearing providers and reducing the cost of oncology and cardiology. It's a huge industry problem, given that for many payers, oncology costs, as an example, are going up 10%, 15% a year. For us, this is a $50 billion market and we get paid on a per member per month basis to reduce the total cost of the oncology and cardiology expenses while improving quality. We get paid a mix of guaranteed fees as well as some performance basis, and our margin is tied to our success on the performance side. So this is a excellent solution for us, and we'll go a lot deeper here on the next page. Second solution, in the middle, is our total cost of care solution, Evolent Care Partners. Here, we partner with independent primary care groups with the goal of reducing the total cost of care. We and our primary care partners take a total budget contract from CMS or from a payer. We then use our technology and our services to coordinate care for the sickest, most vulnerable patients to reduce the cost of care and really beat the budget that we set out. As of New Century, some of it's committed fees and some of it is a performance basis. This, for us, is a $60 billion market, and our work here has targeted the independent physicians that really would prefer to do something like this rather than be acquired by an existing payer or one of the local health systems. Finally, on the far right is our administrative services solution, Evolent Health Services. We think this is a leading platform for care management technology and claims management for health plans and risk-bearing providers. Most differentiated, really, we think, for organizations that want to integrate closely with provider networks, $23 billion market in our view. Across all 3 of these are 3 things that are common. One is they're underpinned by proprietary technology, CarePro on the New Century side and Identifi on the Evolent Care Partners and Evolent Health Services side. Second, as you can see in the middle, scalable intellectual, clinical IP and infrastructure pathways and the like. And then third, an efficient services model cuts across all these. We've invested a lot in automation, a lot in AI, a lot in our offshore capabilities. Today, we have about 600 staff and a captive audience office in Pune, India. Okay. Flipping in one more slide here to the new centric case study. It's a short presentation, so I'll go quickly. But we did want to give an in-depth example of how our solutions drive value. So for New Century, the first step of our work at New Century is to engage with a payer or a risk-bearing provider. Let's use our recent Florida Blue announcement as an example. In this example, New Century becomes accountable for improving the cost and quality of cancer care for about 125,000 Medicare Advantage enrollees at Florida Blue. So here's how we improve that cost and quality. So step one on the left-hand side of the page, New Century has designed across about 15 years a set of proprietary evidence-based clinical pathways. A pathway is, of course, a treatment for a specific patient or cancer type, you can see on the far left that we developed those pathways using our scientific advisory board, our data, a bunch of national best practices. Step 2 in the middle of the slide here is that for 125,000 patients in this Florida Blue example who are diagnosed with cancer, New Century receives a detailed care plan from the treating oncologist. In this case, from one of the oncologists in Florida, the care plan comes to us through our proprietary platform called CarePro. This example in the middle, we're looking at a patient who's been diagnosed with small cell lung cancer. CarePro's algorithms compare the proposed treatment plan with our pathways. You can see there might be as many as 9 possible treatment regimens with different cost and quality outcomes. So using our data, we can narrow down first on efficacy, what's best for the patient, then toxicity, finally on cost. If there's 2 of the 9 that make sense, if the oncologist is proposing 1 of those other 7 treatment plans, we intervene, which happens about 15% of the time. Intervention can be automated through CarePro, could be to the oncologist staff directly from one of our hundreds of trained nurses on staff or it ultimately could be a peer-to-peer from one of our highly trained oncologists to the treated oncologist or if this was a cardiology example, cardiology. Remember, there's a couple of hundred new journal articles a month that are coming out in oncology. The average oncologist is probably reading 2 to 3 of those on average, so we find that treated oncologists are supportive of this kind of work. It's a little bit like a B2B telemedicine opportunity for that physician. And we also, of course, use our value-based experience to put in place incentives for the oncologist to follow best evidence. So you can see on the far right, those 15% of cases where we do drive change is a big difference in the cost of care and the quality. You add that up across thousands of patients and we showed at IR day, I think, an example where we were projecting saving about $79 million over 5 years for one of our payers. So that gives you a flavor of how New Century works. Honestly, having Evolent Care Partners and some of the things we do in our Evolent Health Services side are similar. Okay. So flipping into the next slide, recent updates. You've been following Evolent. You know we have 3 basic investments themes: one, strong organic growth; two, expanding margins; and three, thoughtful capital allocation. We'll spend the rest of the presentation, reiterating those themes. But before we do that, just a couple of updates, and I'll turn it over to John shortly, so flipping to Page 9. On the growth side, we closed out 2020 with 8 new partners, which was the top end of our range. We had successful go-lives on 1/1 for Florida Blue; Molina, Kentucky; and Maryland Physicians Care; and obviously, we've talked about Molina, Washington and we expect that to go live later in the first half of the year. Earlier in the year, we raised guidance for the full year 2020, over $1 billion revenue, $35 million to $38 million on EBITDA. We expect to be at or above those numbers when we give you our Q4 numbers in February, so good performance across the year. And overall, I'd just say qualitatively, a very strong renewal and growth environment setting up 2021. In the middle, updates on our noncore divestitures. We're on track here, 2 big announcements today. One, we signed a definitive agreement a couple of days ago to sell our New Mexico plan to Bright HealthCare, which is a innovative organization, touching both the payer and provider side. The base purchase price of the deal is $22 million, plus a return of excess capital, all told. We would expect the transaction to return around or slightly more than the amount of capital that we had invested in the plan initially. And importantly, we'll also be retaining our services contract with Bright. Two, Miami Children's health plan signed a definitive agreement for certain assets, including its Florida Medicaid contract to Anthem. We expect both of these deals will close in the first half of the year, so excited about both of these. With these 2 definitive agreements in place, we'll have delivered on our commitment to exit the health plan business. We'll have returned significantly more capital than we invested. We're fully focused on our high-growth services business. And these moves support our path to mid-teens EBITDA for Evolent. And then finally John will speak more of this in a few minutes, but thanks to these divestitures and our discipline. Cost focus, we're deleveraging. Passport is ahead of schedule on returning capital, as you can see on this page. And given that we've paid down -- given all that, we've paid down our senior term loan on January 8, and so we have no senior debt going forward, and I think the balance sheet is in a very good place. So turning to Page 10. I wanted to reiterate our 3 strategic pillars for shareholder value creation before I turn it to John. First, we're focused on driving strong organic growth with our existing 3 products. We've committed to mid-teens growth for a long time to come, including for 2021, on the core non-Passport services business. We'll obviously get it in February but based just on the contracts already signed, we expect to be ahead of that and exceed the mid-teens organic growth for '21. It's obviously nice to have that visibility already at this point in the year. One final note, you may have seen a press release this morning announcing that Kim Keck, the CEO of the Blue Cross Blue Shield Association, has joined our Board effective this week. Kim's outstanding addition is another signal around the opportunity that exists for us in the health plan segment. We're very excited to welcome Kim to the Board. Second, with respect to margins, we are on a path to mid-teens. We're on track here. John will go into a lot more detail, but I'll just say that we feel good about margin expansion headed into '21. And then finally, we've talked about capital allocation. We're -- exited our noncore plan assets, as I mentioned, and we're deleveraging. And just in general, as I wrap and hand it to John, we're on plan and things are accelerating headed into next year. So, John?

All right. Thanks, Seth, and good morning, everyone. We'll flip into Page 11 here in the deck. As Seth mentioned, the strength of our products has driven a multiyear track record of strong growth here, with CAGRs of almost 30% since 2017 at an average annual organic growth rate of 15%. As you think about our revenue, it is principally subscription-based. We're paid on a per member per month basis. Often, it has a performance component, as Seth mentioned, so we're participating in the value that we're creating for our partners, and our partners tend to be long-term and recurring in nature. As an example there, our recent revenue renewal rate for the last couple of years has averaged about 105%. So we tend to grow with our customers on average. Flipping into Page 12, we have 3 main ways to grow our top line. We can add new customers where we target 6 to 8 new additions per year. As Seth mentioned, we were at 8 in 2020. And given both the depth of our pipeline and the breadth of our offering into the market right now, we have a high level of confidence in continuing to hit that 6% to 8% target. We can -- once we have a customer, we can add lives with them, whether that's adding a new line of business, perhaps serving a Medicare Advantage population in addition to a Medicaid population, or growing as the macro trends grow with Medicare Advantage growth and most recently, growth that we've seen across the country in Medicaid populations. Finally, we can sell -- cross-sell new solutions to existing customers. As an example, we could sell cardiology solutions to an oncology customer or sell clinical solutions to an administrative customer. As you look at new customers, on Page 13 here in the deck, this is a snapshot of some of our recent announcements. And importantly, I think what you see here is we are serving the full health care ecosystem. So you see national payers, regional payers, Blue Cross Blue Shield plans, physicians, ACOs, in Medicare, Medicare ACOs, Medicare Advantage, Medicaid and on down the left, really speaking to the broad applicability of our services and demand for our solutions. As you flip to 14, same-store growth has accounted for about 40% of our growth over the last 4 years. And this slide demonstrates what that can look like and could look like into the future. As an example, if we were to cross-sell cardiology into a hypothetical New Century client, that could add $15 million of revenue on an installed base. If we were to further expand with that customer, both across oncology and cardiology to a national footprint, that could add nearly $0.5 billion of revenue. So this opportunity that we have in front of us to continue to grow into our installed base of partners, combined with our proven ability to drive that, is an important part of our growth story going forward. As we've grown, if you flip to Page 15, we've also been able to drive leverage to the bottom line and scale to drive EBITDA margin expansion and cash flow -- positive cash flow beginning in 2020. As we look out into the future, we have 3 identified initiatives for driving that EBITDA margin up into the mid-teens in 2024, and you see those on the page here. The first main opportunity is identified cost reductions. Now these are quantified and actionable opportunities that we've developed, both internally and working with external cost experts that include our previously identified and noted $20 million to $25 million SG&A savings target as we come into this year. These cost reductions are around process automation, offshoring and SG&A streamlining and will phase in over time. The second key bucket here is new customer maturation. As we continue to work with the significant new growth that we've had over the last 18 months and those customers reach run rate profitability, we'll see a couple of points of EBITDA margin expansion from that. Finally, as we grow at our mid-teens target, we expect to drop about 1 point of margin expansion per year from SG&A leverage over our fixed cost base. All together, this represents a very real 200 to 300 basis point improvement opportunity per year, starting from our 2021 baseline. As we look at 2021, the combination of our cost work plus the divestiture of True Health will be more than enough to mitigate the EBITDA impact from the loss of revenue from Passport, so we expect EBITDA margin expansion from our 2020 results, as Seth noted. Finally, last page for me is 16 here, I'll talk briefly about the balance sheet. We ended Q3 with $159 million of cash and equivalents and $232 million of net debt. Since then, we received $85 million in cash back from our investment in Passport. And we are still on track and feeling quite good about our target cash back of $130 million to $170 million. That $85 million allowed us to pay off our senior term loan early. We paid it off last Friday. We now have no senior leverage, no maturities until 2024 and a very healthy cash balance as we come into the year. With that, I'll hand it back to Seth to wrap.

All right. Great. Yes. Just to close, we were on plan across all 3 of these, we're very focused, and we're going to continue to be incredibly disciplined and we're going to achieve or beat these numbers you see on 17, have a good plan to do that across this year, as John laid out, and we're excited to continue to stay focused and execute. So with that, I'll turn it to Lisa.

Great. Thank you very much. And thanks for all the detail. As many of you know, I'm filling in for my colleague, Annie, who had her first baby in December. So hopefully, I learned a lot from your presentation today. And one of the first questions is really going to be about revenue, but I think you laid that out pretty well in Slides 12 and 14. So let's talk more about the margin opportunity, Seth and John. You talked about margin expansion targets to the mid-teens. What are some of the actions you've taken already to get there? And what's left to achieve that, number one? And number two, are there certain components of your business that are going to help you to drive that margin versus other areas of your business?

Yes. Good question. So let me start with just a little bit of history, too. As folks are aware, this has been a focus of ours for a long time. And year-over-year, if you compare '19 and '20, we have taken a substantial amount of cost out of the business already with more than $65 million of SG&A out as an example from Q2 annualized '19 to Q2 annualized '20. This is an ongoing project for us. As we look out into the future, the main areas that we're wanting to communicate here is, first, the specificity around some of these cost reduction opportunities. So I'll give you an example. Within our claims processing business, it's a pretty manual business, can be. And the unit costs are driven by how many times the person has to touch a claim, and so work that we can do to automate that process has meaningful impact on our unit cost going forward. So that represents about a 5% opportunity across all our -- of this cost reduction efforts, that will phase in over the next couple of years as we execute on that. So the second question, this is a good one. Are there areas of the business that will dominate our margin expansion going forward? I think the neat thing there, Lisa, about the business is we see that opportunity across all 3 parts of the business. So continuing to drive expansion within the New Century business with some of the product innovation work that we have done, continuing to drive cost efficiency and performance within the administrative business and, again, in the total cost of year, also an opportunity there.

And then, Seth or John, maybe you can just give a little bit more color around the divestiture you announced today. I know that this is something that the market has been anticipating. But the services agreement that you put in place and the length of that, can you maybe just talk a little bit more in detail around the relationship that you'll have on an ongoing basis?

Yes. So I think taking a step back, this is a great outcome for both us and for the plan as we set out to evaluate strategic alternatives for that plan, finding a good home for the members was important to us, unlocking the capital that was in the plan, a return to us was important to us and also preserving our services relationship with the plan. So it feels like a pretty nice outcome from that perspective. It will be a long-term arrangement on the services side. That should look pretty similar to what you see in the eliminations line today from an aggregate revenue number in terms of the services business.

Great. And then last year, you raised the addressable market fairly substantially. Can you maybe speak to the 3 components, the specialty care management, total cost of care management and administrative? And what the market drivers are for each and where you see the biggest opportunities?

Yes. Yes. Sure, Lisa. So first, on New Century Health, we think of that as a $50 billion market, Lisa. And I think, as I mentioned, the big issue there is that oncology, in particular, but cardiology, well, these are pain points for the payer community. And if you think about trying to manage oncology costs with the new drug pipeline that's coming out, it's a very thorny issue for everyone there. Regional, national, and it really benefits from deep expertise. So that market is a big one, and it's reasonably greenfield, I'll call it, Lisa, just -- there's just a few competitors, but I think our approach where we take on and manage the cost and commit to delivering is a very unique value proposition. I think we've got a head start on a lot of the market. And so that one is a nice market, that's big and growing, those are the dynamics. With respect to the total cost of care space, you think of that as $60 billion. That really, for us, is any primary care position that's independent in the country that has the interest of not being in the fee-for-service game or at least diversifying a way. I think COVID, Lisa, is going to help us there, a lot of primary care physicians realize that there's something nice about capitation as a balance for fee-for-service, particularly when they saw their fee-for-service payments really drop during COVID, they realized that there's a balance there. And so that market is also pretty wide open. It's big. And I think we have a very unique position in where we're addressing these independent physicians, primary care roots primarily. And the third one, administrative services is a little smaller. 20 -- we think of it as sort of just above $20 billion. Really, we're focused there on the lease plans, Lisa. So think of it as any plan that maybe is -- feels like there is benefit from a third-party that can add scale and sophistication on technology or software-as-a-service platform, those sorts of things of offshore, in Pune, and understands that, and yet doesn't want to be signing up with a partner that doesn't understand the provider market. And that's our real differentiation across all 3 of these is the kind of depth of understanding of how to integrate and align with the physician community.

Yes. Seth, one of the things you said in your presentation today that kind of stuck out to me was around the Biden administration, that change in the administration is expected to be positive for you. And I think that -- anticipation that first, at least, part of this administration is going to be all about COVID and trying to get all of us vaccinated, et cetera. But what are your thoughts around what the Biden administration could change or do when we start to think about value-based programs, or as we start to think about -- maybe you're looking back to what happened with the Obama administration. But any thoughts you have or anything you've heard thus far, as I know you're down on the belt around what Biden could do next, and that would be positive for Evolent?

Yes. Look, I think the big message, Lisa, and we've shared this across the last 6 months is that if we had a Republican administration, it would not have made a difference in our medium-term targets. And the reason is that under Seema Verma they continued many of the same things. And so I think in general, everything that's happening with CMS, CMMIs is pretty bipartisan. I think the incremental uptick you might get from Biden would just be, as you said, reprioritizing in a bigger way. A couple of the things that came out of the ACA to begin with, which the whole framework for the ACO model obviously came out of that, so as an example, the direct contracting model, which actually started under the Trump administration, there are some things that could be done to that model that would accelerate it, make it more broad-based, and could you see a world where direct contracting is a companion model to Medicare Advantage and add it as the kind of heft that is just not going to be as big as MA, obviously, but could it actually have substance that looks like that, I think that's the kind of thing that I could see a Biden administration leaning into. There's a similar opportunity around oncology with an oncology care model. Again, which are bipartisan, but our view is that we might have a little bit of acceleration formalizing it.

Great. Well, we're unfortunately out of time. It was nice to see you both virtually. I hope to see you in person in San Francisco in 2022. Thanks, everyone, for tuning in. If you have any questions, feel free to reach out to us or to Evolent. Thanks, guys.

Thanks, Lisa.

Thank you.

Bye-bye.