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

All right, folks. Thank you so much for joining us. Our next session is with Evolent Health. We've got the CFO, John Johnson, here, and I'm going to harass them on utilization for the next 30 minutes. So John, thank you for coming here. I think about how different your business looks than when I worked on the IPO.

Yes.

I think about it all the time, right? We'll be listening on the call, and I'll flash that. We'll talk about the Identifi platform.

Okay. Talk to me about here the company is today versus the IPO?

Yes, so the core difference, I'd highlight 3 areas that we've really changed the business at the time of the IPO. The first is who we're selling to. And so in [ 2016 ], our core market was health systems. In a way, we were a start-up selling this product, and our customers were on a business [indiscernible] our business.

[indiscernible] I don't know if you can cover this anymore.

No offense taken. The second major change [indiscernible] the payers, right, if adverse manager is great. The [ other ] major change was moving from selling just [indiscernible] to also taking this and doing that in a balanced way. We have a portfolio that is around 75% of our earnings coming from fees and 25% coming from [ risk ] business. The third major page is moving from a view of total cost-of-care focus, population health, early 2010s and reportable [indiscernible] to focus on what we see as the next wave of value-based care, which is specialty value-based year. And the core thesis there is that if you look at the major drivers of the trend within -- the skyrocketing medical trend, most of those drivers are in specialty [indiscernible] and so bringing value-based lens to that category in a way that we can underwrite and stand behind the performance that we're delivering has resonated. I guess the last thing that I'd say relative to [indiscernible] that we're actually making money now, and that generates a decent amount of operating cash flow.

So you said very interesting there that a lot of what you do is fee-based. And then I bet probably 99% of your questions today about the risk-based side of the business. Talk to me about what's going on.

Yes. Well, this is an important component of the business, right, where we believe that our platform, the specialty management platform that's focused on oncology, cardiology and musculoskeletal conditions and advanced imaging and some other specialties, can be deployed in both of these ways. And so we can drive value for our clients on a pure admin fee basis in their ALR, right? And we charge $0.35 per member per month. We generated a 50% gross margin on it, nice ROI on that for the clients. And we can roll that out very rapidly, many, many millions of lives on that platform. The second way that we can sell the platform is by taking risk. And here, the revenue profile is very different since we're taking the claims. The PMPMs may be $30, $35. And mature gross margin might be in the mid-teens, with a guaranteed outcome for the provider or a partner, which is highly attractive, particularly in a dynamic we find ourselves in today. And it's one that we've proven over time, an ability to consistently make money doing.

Let's maybe talk about that a little bit. You're seeing a lot of utilization concerns around the space, right? Is this an opportunity for you? Or is this something that could be a bigger risk?

Yes. No, it's a good question. We absolutely see it as an opportunity. The -- if you look at where are the major comments around elevated utilization in Medicare Advantage, most of them are not in the specialties where we're taking risk today, which is limited to mostly oncology and cardiology and most recently, advanced imaging. Most of the companies are around elevated utilization and supplemental benefits, outpatients, [indiscernible], dentistry, et cetera, stuff that we don't take risk on today. So we're not impacted by that broader trends, but we can benefit from it by being a solution for our existing and potential partners, where we can bring a solution that delivers cost savings with increased quality in a moment, where there are a lot of players in the industry who are needing increased margin space.

Talk to me about the opportunity met out of them. Have you considered it? Is there conversations going on?

Yes. I wouldn't limit it to Humana, right? We're here to drive value for our customers. And I think we're fortunate enough to work with a number of [ national ] players. [ We've ] ramped up quite quickly, right, Humana or Molina, and continuing to grow our relationship across the board there. I think it's a really unique opportunity to do that.

You also have better visibility on your utilization, correct?

Well, I think one of the nice things about our business is it's a smaller scope, right? So if you're managing the total cost of care -- this is with a lot, right. And a lot has happened that doesn't come through a prior authorization, where all of the specialty risk that we take requires a prior authorization. So we have that initial insight into potential volumes that might then [indiscernible] claims. That's not the whole picture, right? Ultimately, the claims are the whole picture, but it gives us a good level of insight into what's going on.

Let's get to the flip side of this. It looks like there's a big opportunity there. But also, I think about whenever these large events happen, there's a [ mine ] share issue, right? Maybe your clients could be distracted. How are you balancing that in the outlook?

Yes. That's a good question. I think I would say two things. The first is that we really seek to be [ at partner level ] and what is it that we can do in a particular moment to support our partners. And what that might mean is if we were previously talking to them about the Performance Suite expansion, it may mean something quick. Maybe we go live with the services first, right? Because it [ ready ] to go live, it's simpler, we're not going through an underwriting process together, and we'll come back later and talk about a transfer of risk. Maybe it's switching geographies, there's a particular need over here or over here. And so really seeking to be a [ partner ] to their needs, [ from that ] perspective.

So could we see a different pipeline mix then for this year, given some of these...

Yes. So I think you characterize the pipeline in a couple of different ways, and I think we've said every quarter that it's the best it's ever been, and that is being [ free ], which means getting [ gear ], which is great. It is a nice diversified pipeline right now between existing customers and expanding the end customers, those on the [ secondary ] services suites and the performance suites. So a lot of cross-sell in there, right, given the opportunity that we have there after the recent acquisitions that we've done. And then also some new [ wins ], folks who maybe -- didn't think they had a challenge with specialty 1.5 years ago or even 9 months ago. We now sort of pick their heads up after the [indiscernible] uses and realize, "Hey, there's something wining here." And that's an exciting moment for us.

How does this [ compare ] to your new metric, new revenue agreement?

Yes.

Since you launched that before, I don't know.

Different years, right? We had a new partner metric that we call [ new operating ] partners, and it was a specific designed metric you really have the view of. And as the business evolves and we've got [ shriveled ] in a lot -- we're live in over [ 112 ] countries now; it became less and less relevant, and it was also not comprehensive because it only captured a part of the growth. And the realization was, "You know what, we just need to simplify this," and say, "Instead of just capturing a portion of the new growth and this growth metric, we're going to talk about everything" And consistent with what we've been doing, we will typically give an indication when we're announcing a new deal, how big is it, ultimately? And what kind of margin profile does have? I don't know if it looks like yourself to do the [indiscernible].

When you talk about margins, I got to ask, I get a lot of pushback around your gross margin trends, pushback.

Yes. And so if you're growing a piece of the business that has a lower-percentage gross margin much more rapidly than people of the business that has a higher gross margin, you'll see a change in the percentage of gross margin. And that is what's happening, is from my perspective, if you look at the dollar opportunity on the EBITDA line of a performance fee contract versus the tech contracts, I bet it can make -- 50% on a $0.30 PMPM [ health and ] services deal or 15% on a $30 PMPM Performance Suite deal, I think $4.50 over [ $0.15 ].

So your EBITDA dollars?

An EBITDA dollars balance cash. And that's how it's oriented, that is the [ gross margin ].

How do you see that playing out? Is this going to continue with spend? Or do you think at some point you can spare [indiscernible]?

I think at some point, we're going to hit a steady state, where the amount of new performance fee revenue that we're adding is -- the nature of it getting bigger, will be a smaller percentage of our overall revenue. And the other, like [ confounding ] trends right now, of course, is Medicaid redeterminations, which is time bound. It is a downward pressure on margins because a lot of that business is in the tech and [ Performance Suite than ] has a hybrid one.

When you saw that question on the list, I can...

We probably will and for the next quarter. And I hope we're done.

Well, let's give it a refresh then.

Yes, so far, as this has played out, it has been quite consistent with our expectations, which were that it largely started for us, given where we are geographically dense, largely started last summer in July and proceed approximately linearly through this Q. So as of December, we estimated that you're right at the 50% mark. And we've seen a growth decline in Medicaid membership of 8.5%, which was right in the middle of our range than we expected, which was 8% and 10% for the year. Hopefully, [ its all said and done ] this summer, we think the gross reduction in Medicare membership and [indiscernible] to the teams. And then the last thing that I would say is we've estimated a quarterly EBITDA impact once it go through. If you compare Q4 EBITDA from '23 to all the Medicaid redeterminations that are done, we've estimated that at a $3.5 million quarterly EBITDA.

What is your absolute worst scenario because there's only a few months left?

Yes. We feel pretty good about our understanding of how this has played out. And I think it's played out according to our expectation. We are [ firing ] through the process now, right, where I would be surprised if there was a meaningful deviation from expectations.

Let this be the last time I bring [indiscernible]. So you talked about some of the adjacencies you got into, there was an imaging contract that was brand new. Tell me about that. How big is that opportunity? And is that like a cross-sell?

That is exactly right, the opportunity that we saw was there was an existing client that NIA had been [ shooting ] for many years in our tech and services capacity with a risk-bearing component. And we saw an opportunity to build on that chassis with that partner and add the components that can turn it into an Evolent Performance Suite contract. It is really orienting to the revenue value elements that are we going to put into place ultimately payment [ models ]. Are we going to engage more deeply with the network? And do we have the right [ consistency ] in to do that? Are we going to be able to put into place like [ dynamic gold carding ] on our roadmap? And so we saw this opportunity to build on an existing contract and create then a template for something that we could then go cross-sell. So what we generally indicated, it's probably not something you're going to hear us do a lot of stand-alone Performance Suite sales. But it's a really interesting [ instrumental ] add-on to an integrated package of oncology imaging. Those two are related -- or oncology or -- advancing imaging in cardiology. That's where we're sort of interested in taking this product and selling on a bundled basis.

[ Industrial ] logic does make a lot of sense together. What -- have you gotten pushback so far when trying to sell an advanced imaging? Or is it just new?

No. I mean I think the integration thesis of it resonates with everybody. It's like it's a better outcome and an better products for the member, if you're looking at there holistically. You don't have another silo of it here when you're trying to manage oncology and other silos managing imaging and say, "No, you don't want to do that test because you already have one," when we're over here trying to evaluate into [indiscernible] energy integration.

So how should we think about the [ finance ]? You've got a cross-sell opportunity, you've got zero pushback.

It's another [ arrow ] in our paper, right, to continue to grow the business. One of the core stories of Evolent over the last 18 months and I think over the next 18 months, 36 months, is the execution of this cross-sell opportunity, where we have 40 million unique numbers. On those unique members right now, we only have 2 products, on average, deployed that the account between 6 and 8 products to sell. And so taking that penetration further into our [ member ] base, moving an appropriate amount of that business into the risk model, really interesting to us.

You are the most measured person that I had on this stage. Let's put it this way, you have the [indiscernible] for the targets. It's been well above that. What idiosyncrasies have made it well above? And how sustainable are the idiosyncrasies?

Yes, it's an important question. We target 15% better on the top line. And as you point out, our CAGR over the last 4 years, [ we have ] more than doubled.

2024, I think it was [ 25% ]?

That's right. And the reason for that very strong growth has been a very strong uptick in the Performance Suite, which is great. We love that product, it delivers to our customers. And at the same time, that's a risky business. I think it was their underwriting cycles. And we thought about setting the right long-term revenue growth target in the business. We didn't want to put ourselves in a situation where we needed to face underwritten with growth at a top line number, right? Because the other piece of our growth trajectory is growing the bottom line by the year. And that is much more important to us than hitting a particular top line. So that's how we think about top line dynamics.

Given the outsized growth we have been seeing, does it open up any opportunities on cost?

Yes. So I think it does. We've been disciplined on our cost structure. You've seen our SG&A line to sort of [ break ] down over the years. At some point, it's [ posed ] to grow again. I don't think we're looking to -- and I think that cost discipline will continue. It's operating leverage is a key piece of why we think we can grow the bottom line at [ 20% ] to well over [ 15% ]. So as we continue to have rapid growth, there's some good opportunities there.

And there are some nuance that [ 300 million ] run rate, right?

In terms of the timing?

Yes.

It's just the way that we think about it, right? That's our exit run rate. Another way of saying it, right, is if you're looking at quarters, if we're on a on track, we've worked a little under [ $75 million ] and Q1 of next year is probably a little low, is the way that we're thinking about it.

Talk to me about how NIA contributes to this as well.

Two things there. The acquisition that we closed on last January, it's been a really nice performer, in part driving this cross-sell opportunity. So it contributes both to the new business opportunity, right, maybe large an opportunity there. There's also, as a part of the deal, we identified a total of $35 million in annualized synergy that comes both from a new contract phasing in between this number of that asset and NIA versus that has started phasing in this year. And then the second piece is cost synergies, which we also expect to be fully captured by the end of this year. It's an important piece of the bridge that we really are in Q4 and where we will be exiting this year.

You also highlighted an extremely large cross-sell opportunity. How much of that is near term, just given the feel of that number?

Yes, yes, very large numbers. And no, one of the rate limiters is another way to ask the question, and I think the biggest one, candidly, is [ inertia ], right, that in this particular specialty management space, to make a change, a plan is going to be asking their network with their prized possession, right, to make a change. And that's not something that they do lightly. And so there needs to be a real pain point, either on the service or on [ MRR ]. And we seek to capitalize on those moments. Yes, it's a big opportunity.

I think about [ amount ] the opportunities you have on the business model side, but you have cash.

We do have cash. Yes, we generate more cash.

I've done that. When are you doing with it?

Yes. So three capital allocation priorities. The first is investing back into the business. Last year, we spent about $50 million in R&D. Part of that is internal capitalized software, part of that is just OpEx. And we'll continue to do that. It will be a little bit more this year. It will be growing a little bit slower than [ revenue ]. The second piece is accretive M&A. I think the NIA acquisition is a great example of that. We like businesses that we can pay fair EBITDA multiples for.

Fair enough?

They are. They are paying fair now, that accelerate's our strategy of wanting to [ try ] just bigger. What was it [indiscernible] things that we might be planning to do anyway, right? So we spent $50 million a year in R&D, $150 million over the next 3 years. You can pick up another asset, right, for a reasonable price that shorter [ than the last ] that we could use. So that's interesting for us. Third priority is to do all of that with a disciplined balance sheet to [ cap ] a 4x net leverage that we'd pop up for the right assets if you had a [indiscernible] 2, where we are now, and balancing leverage cash interest and the common equity.

So it has to fit your future roadmap. Can you give us just the highlight theme of what would be in that roadmap?

Yes. So the things that we're spending a lot of focus on right now, patient navigation is important to us. A couple of quarters ago, we announced a pilot partnership with our partners to think about [ answer ] navigation. We think there's huge value to be at there, both for the member and us. So that's an interesting area of work for us. I think we're a [indiscernible] everybody else is, I'm sure, spending a lot of time taking through doing [indiscernible], how much are we partnering? Are there assets we can buy and accelerate what we're doing? That's interesting to us. And then on the other category, I would say, a new specialty, that was the NIA archetype, right, where you're buying an asset that has real IP, other specs that you didn't currently use. And that then is what creates the [ impossible ] opportunity. This tend to be chunkier.

Have you got in the [ business ]?

That's right. That's very accurate.

How many assets like that are there?

Yes, it's a good question. There are plenty. I think the refined like filter that I would put on it is like how many assets are there like that, that are for sale or EBITDA [ positive ] And that...

Recent EBITDA multiple, sale of [ enough ] that could be [ positive ] for your business.

That was the [ theme ]. But it's also, we sought to establish ourselves that has a differential [ requirer ] of that kind of asset. And so we don't feel the need to urgently go out and buy them. But we want to be here and have a [ balanced ] capacity. If there is something that we can [ optimistically ] add to this portfolio, we bring to our customers a strong solution in a way that's really driving [ their whole ] value, we think that's really interesting.

[indiscernible] have changed so much over the past few years. It feels like an entirely different business. It's running on all cylinders. You've got 15 seconds left. What keeps you open right now?

They're tiny, and they take a lot of work.

Very good answer. All right. Well, thank you so much for coming. I really appreciate it.