HCA Healthcare, Inc. (HCA) Earnings Call Transcript & Summary

All right. Let's get started here. I want to thank everybody for being here today at our Wolfe Research Conference. This is my first meeting of the day in the conference, so excited to have the management team here from HCA. We've got the CEO, Sam Hazen; CFO, Bill Rutherford; [ Czar ] of IR, Frank Morgan here in the room. I want to kick it off, maybe give Sam a minute to give us a quick state of the union. I know it's a pretty dynamic environment, Sam. Third quarter, you talked about inflation and what that might mean for the business and leaving a little more uncertainty going into 2023 than we usually have at this point of the year. So maybe you could take it there and just kind of give us kind of a level set.

Sure. Well, good morning to everybody. I think, obviously, it's been an amazing 3 years for our company. I'm pretty proud of the outcomes that we've had, as I think about the last 3 years. And I think going into the pandemic, our company had a ton of momentum. I think we had an organizational momentum. We had competitive momentum. We were growing and then obviously, the pandemic hit and we had a responsibility to take care of the communities that we serve. And we did it, I think, exceptionally well. I think we did it in ways that were reflective of a conservative philosophy around making sure we achieved our priorities with respect to our people in the organization. And so as we pushed through the pandemic and we look at where we are today, I think across some very important dimensions, we've improved the organization. I think our reputation with our stakeholders and our culture has grown during the pandemic. Again, that's reflective of how we dealt with people. It's reflective of how we dealt with our customers and stakeholders, and I think it's reflective of how we dealt with the government and our shareholders as we went through that. The second thing I would tell you is we improved our competitive positioning throughout this period. We've grown our market share, but I think we've added more importantly, to our networks and created more capability, allowing us to hopefully continue to advance our systems in ways that are helpful to the relevance in the communities we serve, helpful to our growth agenda, in our quality agenda and so forth. So we have improved our competitive positioning. And then thirdly, I think our financial position has improved as a result of the 3 years that have passed. One of the challenges we had throughout the period was that we did not have any sustained period of what I'll call normal activity really until this year. And at the end of the third quarter, I mentioned that we've now had 7 months in a row where we have not had a significant COVID surge that was disruptive to our business. So it gave us a chance to make some judgments about where we were. Obviously, our industry has experienced what I like to say is our own supply chain shock with respect to the labor market. And that's a big challenge for us. But the good news on that front is that we're making progress, we believe, across our labor agenda in ways that are encouraging to us with respect to new hires, our recruiting is up, and we've hired almost 15% more people in this year than we did last year. Our turnover is down 5 points from what it was at the high watermark in January. We've improved our capabilities. Our compensation programs have been adjusted contract labor is trending down. So we got a lot of positives. We still are struggling to meet all the demand that's in the market. We see demand as a positive. There's continued signs of positive demand for services across really almost all of our segments. And in particular, the emergency room has come back in a way that has surprised us and the resiliency of that service offering has proven to be very strong. So demand is there, and we've grown our non-COVID business continues to grow at really good levels. It's actually accelerating in growth as we move through the years -- through the year. And within that demand, we've seen very solid payer mix, and we've seen really strong acuity. So that's again, encouraging as we think about the forward view on the organization. Inflation, yes, it is real. It's real with labor. It's real with respect to commodities and utilities and insurance just like at your home, it's the same kind of dynamic for us. Fortunately, we have ways, we believe, to mitigate it some, and we're focused on that in many of our initiatives. The last thing I would say is our long-term view, again, is really around positive viewpoints with respect to where we compete. Our markets are really strong from a demographic standpoint, from sort of a job growth standpoint, just from an overall beneficiary of the migration that's taking place in the country with people moving from different parts of the country to a lot of the communities that we serve. So that's a sort of a natural lift we believe, for long-term demand as well. And our company continues to invest heavily in who we are. And so our investments around building out our network, building out our clinical capabilities, improving our technology, continue to be very important to our long-term success. So we're pleased with where we are. Obviously, there are challenges as we push into the next year, but I think HCA is uniquely positioned to navigate those challenges.

I appreciate that. So let's talk a little bit about some of the opportunities. The -- for instance, some of your competitors are looking to kind of narrow their service lines, close beds, right, because of the labor shortage. You've got other not-for-profits that are -- you see headlines all the time are truly hurting, right? So you talked about market share gains, for instance, are there any numbers you can put around that? Physician recruitment, how you handed back the government their money, you've kept your CapEx of $4 billion a year? Clearly, you're kind of on the offensive while a lot of people are kind of on their back foot. How do you think that? How has that played itself out in the market as of today and some of those things that maybe we can measure a little bit, like physician recruitment, retention, all that? And where do you think we go over the next 2 to 3 years in terms of what are the opportunities for HCA to continue investing in?

Well, we're spending $4.2 billion this year. We've done some, what I'll call, tuck-in acquisitions as well. With respect to our network development, mainly in the outpatient and ambulatory space. And so our investments are going to really the same things they were going to pre-pandemic, and that is building out our outpatient networks, which we have a very robust pipeline of urgent care centers, ambulatory surgery centers, freestanding emergency room, clinic expansions, all those fundamental pieces that wrap around our hospitals and create what we call an ecosystem or network of offerings for our patients in ways that are more convenient and at a better price point. So we're investing in that. Fortunately, it doesn't require a lot of capital. Those are small dollar investments they're quick to market. And so we're continuing to do that, Justin, in a very significant way. And it's given us more girth, if you will, in the market. And some of that shows up in the short run, but it's really more about the long-run positioning of the company, allowing us again to grow our share over time. And this model in many respects is what we did from 2011 to now, and we've grown our market share from 23% to 28% almost. And so we see continued opportunities there with that. Our physician platform continues to grow. We're adding physicians to our medical staffs through outpatient facility offerings as well as through hospital offerings. And so we're investing in that part of our business, just like we typically do I don't have the exact number as to what our headcount is this year versus last year, but I do know we've been strategic in adding to our medical staff to support the service offerings that we have. I mean, we run the company today at a 72% occupancy. That's actually higher than it was in 2019 for us, which is people say, Oh, inpatient business is going to go away. I'm like, okay, we're at 72%. We were at 71% in 2019. And that's with new beds being added. So we do have capacity constraints in some situations that are bed constraints and that's what a lot of our capital is going to relieve is capacity constraints in those situations. But today, our biggest capacity constraint is labor. We literally turn away about 1.5% of admissions of our admissions in the third quarter because we couldn't staff up at the time these patients needed service. And so we had to find them alternative situations, and that's something we've never really done is had to turn away people. So part of our labor agenda is critical to not only reducing the cost through contract labor reductions, but also opening up capacity in order to take advantage of some of the business opportunities that exist. So our focus is in that area in building out those capabilities. So we think there are some markets where that's creating a lot of advantage for us. There are others that we're still just incrementally gaining advantage that will show up over time, we believe.

Got it. So no real inflection points that you're seeing. You're just doing the blocking and tackling and maybe it's yielding you a little bit more than it used to in some markets because of the fallout that's happened here over the last couple of years in the pain that's being felt. But no -- you don't feel like your physician recruitment is going to take a step function or...

Not as a whole. I think, if anything, we will see it from one market to the other, but it's not going to be in 43 markets that we have that opportunity. But I mean, for us, details when execution wins, and that's where we shine. So in the moment, in the market, that's what we're focused on is what's the next opportunity, how do we execute on it timely and get the resources, get the decisions made that allow us to move in the marketplace as quickly as we possibly can. I think a lot of the struggles that our competitors are having broadly are going to normalize some of the, I'll call it, irrational decisions that we're making maybe over the last 2 years. And that in and of itself could create some opportunities for us also.

Got it. Let's talk a little bit about labor. The -- this year, you came into the year expecting a really significant increase versus typical, right? I think your typical expected labor inflation is 2% to 3% on a per adjusted admission basis. Came into the year expecting 4% to 5%. And this -- and it looks like it's going to be closer to 4% than 5% for -- if I'm looking at the model correctly. Next year, you're going to have the tailwind from contract labor and a lot of people have called me and said, like, shouldn't that be a good guy and it is. But I think what you've been trying to communicate is that there's an offset in terms of salaries, just having to -- to get that -- your contract labor off the books, you got to pay a full-time person a little bit more to stick around, right? So you focused on retention, you're investing in your existing labor force. So what I think you've been saying and I just want to make sure we've read it right, is that the -- it's probably going to be better than it was this year, that 4% to 5%, but probably not back to the 2% to 3%. So it's still going to be a headwind, just not as big a headwind to kind of the normal algorithm that gets you to 4% to 6% growth?

Yes. I think that's right. Fall somewhere between our high watermark this year and kind of pre-COVID pandemic. We're really pleased -- a couple of things. One, we're really pleased with the progress we're making on contract labor. We saw almost a 20% reduction sequentially from Q2 to Q3. Half of that was in the average hourly rate and half of that was reduced utilization. And we knew the rate of contract labor would probably be the first step down, and we're continuing to work on utilization as we improve recruitment, reduce turnover and the like. And so we would fully anticipate that trend to continue. And that has given us a little bit of a pay for, if you will, as we adjust our base wages to be responsive to the market. And overall, I think we can -- and we have managed the overall wage environment, labor environment, I think, pretty well in light of the disruption that occurred during COVID. And as we look forward to '23, we're going to go through our planning exercise. But I think generally, how you characterize it is right. We're probably going to be somewhere in that 3% to 4% range. And we have a lot of tools available to us, whether it be trying to reduce the premium labor, working on skill mix, the fact that it doesn't necessarily come in every market in every cohort. So that's what we'll work through. But I think given the context of our revenue portfolio, if we can keep it at or below our revenue growth, that's a probably a good outcome in today's environment.

Got it. And just to touch on labor one more in terms of -- a lot of questions I'm getting right now are on the flu. And we've seen during higher COVID spikes that the cost of labor, the amount of contract labor you need the absenteeism in your workforce picks up -- so we're seeing flu spike in a bunch of regions, I think, in the Southeast, where they're seeing a little bit of a bigger pickup. So just curious in terms of when -- if we -- what are you seeing from flu today? And then how do you want us to think about flu in terms of how it might impact your business if it is out there? So when I think we were talking before the -- what I always -- when people used to call me on flu, I'd say, look, not that big a deal for you guys. You see a little bit more volume, but it's not high acuity. It's not high -- there's costs that come with it, and it's not higher revenue. So it really doesn't affect the bottom line much. And that's the way I kind of would look at flu. Now there's all the -- with labor this tight, any incremental flu might crowd out something else, for instance, right? So can you talk a little bit about what you're seeing and how we should think about how it might be more dynamic to the business or impactful than it used to be?

Well, I'm not going to give any sort of what I'll call specifics to what's going on in the quarter. That's not what we want to do here, Justin. I'll just say, generally speaking, I'm not hearing that the flu is creating any unique pressures for us at this particular point. Could it possibly, I think we've learned how to manage capacity and surges pretty effectively through the 5 different COVID surges that we went through. And there were a couple of them, especially the Omicron surge where we did see a lot of pressure from our employees getting COVID and that created some challenges. I've never really seen the flu create the same kind of challenge for us in the past that the Omicron did. So I wouldn't anticipate it being impactful in that same way. Obviously, from a profit production standpoint, yes, you're probably about right on the flu. It's not as intense as COVID. But we do create contribution margin from it, and we're a fixed cost business. If it squeezes out higher contribution margin, okay, in the short run, that may swap some dollars around. But for the most part, if we have capacity, it's a good thing for us.

Got it. Got it. And kind of flipping over to volumes on the inpatient side. You talked about while you felt like it was too early given the dynamic environment to give 2023 guidance, you give us a couple of bright chromes. And one of those was inpatient growth. Typically, the algorithm is -- I think it's more adjusted admissions, 2% to 3%, right, than inpatient admissions. But you did kind of focus on inpatient saying 1% to 2% instead of 2% to 3%. So one, I just wanted to see like -- is that a COVID issue where you're just assuming a little bit less COVID volume contribution and otherwise, the business is kind of running typical, meaning 2% to 3% kind of inpatient and adjusted admissions? Or is there something more than that going on the inpatient side?

No, I think it's primarily that we would anticipate few COVID patients next year than this year. And you're right, historically, there are 2% to 3% is equivalent admissions and we did, I think, also indicate -- we expect outpatient revenue growth to probably be in that mid-single digits. So when we blend it, we'll see where we come out, but it could be equivalent admissions at 2% to 3%. But the inpatient number 1 to 2, I wouldn't read anything more into that other than we expect fewer COVID next year than this year.

Got it. That's helpful. And then flipping over the other piece that you talked about that's a little abnormal, again, the inflation environment. And I think you've delineated labor and given us as much as you can -- the -- obviously, their supply costs, right? There are professional fees, other stuff going through, just running a cafeteria, things like that, right, cafeteria workers paying for food in the cafeteria, all that kind of stuff. So -- the -- I guess where I'm going with this is, how should we think about that piece in terms of pressure it might put on the business? Maybe you could delineate supplies versus everything else and then just any kind of numbers we can put around that?

Well, let's start with supplies. One, we've been very pleased with the progress our teams have done in supplies. We've kept our supply expense per adjusted admission really low this year, and I think that's fantastic in line of the circumstances. We were benefited that during COVID, we extended many of our supply contracts. And so much of our supply spend this year has been under firm contract pricing. And so that's been a benefit this year. It does pose a little risk when those contracts do get renegotiated and inflationary discussion comes into that conversation. Our teams do a really nice job being able to manage through that, looking at alternatives where necessary. And overall, we've got to go through our planning process. But I think when we keep supply cost in check and in line with maybe historical trends and at or below our revenue trends. And then inflation does flow through kind of all other cost categories that we have. You mentioned professional fees. That's an area that it's small dollars relative to our total expense spend. But that is an area that is feeling some pressure as their revenue model gets squeezed and they've got wage. Their own wage adjustments, they often will come to their host hospital for consideration of increased subsidies, and we have to manage through that for hospital-based physicians. And again, I think just given our backdrop, we can manage through that, although it may be under some more pressure than has historically been.

Got it. Got it. So if we think about half of your cost being labor, give or take and half of your cost being non-labor. Is there any -- you've given -- you've talked about, let's call it, 100 basis points of pressure, right, 2% to 3% versus 3% to 4%. Anything you want us to think about in terms of what's normal and what we might be looking at 2023?

Not with any specifics. That was kind of what we indicated on the call. We want a little bit more time to assess the inflationary environment. We have a host of initiatives that we have in flight to kind of counteract those inflationary pressures. We've talked about it many times, our resiliency programs. We've got a number of them around, advanced shared services of using our scale to consolidate other support functions. We've got analytics and benchmark, trying to advance best practices across the enterprise. We have certain other things underway. And so we want to go through that analysis as we complete the year, and we'll go forward next year. But that's -- the inflationary trends the same set are real and something we're managed through. We think we have a track record of being able to manage our cost structure in light of the revenue that we have, and that's going to continue to be our goal.

Got it. So I don't think anybody has done a better job of kind of reacting to an environment than you guys over the last 20 years. So I certainly get the impression from investors that they're going to bet on this management team figuring it out. The -- but when I sit down and think about the good -- the -- you've kind of laid out inpatient admissions probably being a little weaker, inflation being a little bit higher, more likely and labor not being as big a pressure as this year but still a pressure. Is there anything you'd point to in terms of relative to the 4% to 6% growth, right? You're going to run a bunch of initiatives to try to offset that. Any you would point to, in particular, that you would say, okay, here are the good guys that might offset some of that to get us back in that range, back in the normal range?

I think we're starting to see better pricing on the commercial side. And that will play out a little bit in '23. It hasn't really played out this year because we were similar to our supply contracts. We were locked into certain terms. Those terms when they came up for renewal, we're starting to achieve targets that we felt were necessary for us as we push into '24. We won't reprice the entire book in '23, but we'll reprice a component of that. So we're encouraged by that. I think the point we were talking about earlier or movements in the market, some of our incremental acquisitions as well as our new capital that's coming online, if we can keep improving the labor scenario could be upside for us as we think about volume growth and market share. So that's out there. And I've just got confidence in our teams finding opportunities that we don't even know about that are on the margin, but there are opportunities, and they add up to, hopefully, a good guy to use your term, and they're helpful to us, sort of pushing through to reach our objectives next year.

Great. One of the -- as if we don't have enough going on, obviously, the economies and an interesting spot. The -- we typically think about a recession in a couple of terms, right? Like obviously, job losses are not good in that commercial mix starts to deteriorate, now you have the exchanges as a potential catchers met that is much better than Medicaid or the uninsured, which is what you were dealing back in 2008. But the dynamics on the labor environment could be better, right? Like, obviously, you're starting from a tough point and that could get better in terms of recession. So I guess the -- can you tell us how typically this business operates in a recession? And how you think this one might be different? I'd just go back to 2008 and said -- when people ask me about HCA and in a recession, I said, look, in 2008, the things were tough, and again, you give this management team some time with in any environment, and they figure it out. And in 2009, things got materially better and you were back on track. So how would you say if the economy did go into recession in 2023? Sam, how would you want investors to think about that in terms of the moving parts and the impact of the business?

Well, if you look at the historical behavior of our business in a recessionary cycle, we tended to lag the sort of the rest of the economy and the rest of the country in that respect with regard to demand. So our demand would show up early and then it would fade later than maybe what other parts of the economy would have. And so -- but what -- for us, we're not sure what happens to demand because of the exchanges. We've never gone through a recession with the safety net. And now people have a safety net for at least 3 years with respect to the extended subsidies. And then beyond that for sort of the core elements of the exchange. And that, we think, again, to use your term, is a good guy, and it's a good guy with respect to a recession in that it gives some support to people, whereas in the past, they only had COBRA for some period of time and COBRA was very expensive. So we're more hopeful that it will support payer mix and support demand vis-a-vis old recessionary cycles. Clearly, on the labor side, we expect that labor will improve just because people will be under pressure, and we'll see more people come back to the workforce in ways that really start to shuffle the mix of our labor in hopefully a more efficient way and creates opportunities for us to get our capacity back online and then take advantage of the demand that we see in the marketplace. So I think from that standpoint, those would be the nuances that we could possibly see with a recession.

That's helpful. As we think about -- you mentioned one of the potential good guys is commercial pricing in '23. Medicare was a little bit disappointing in that. It feels like Medicare rate is lagging from a picking up on the inflationary trends that are going on, right, the inputs. So I need to get smarter on this, frankly, but the -- I'm sure you guys have taken a hard look over time at the inputs to those rates. When do the -- when would Medicare start to pick up some of the CPI that we're seeing out there and build that in the rates? Does that get picked up? Like do you feel like you have visibility to better Medicare rates in 2024, just mechanically?

Not yet. I mean typically, wage rates would be a leading indicator that MedPAC and others would use to advise Medicare on rates. So we would expect it to lag. So it wasn't necessarily a surprise to us that they weren't really [indiscernible] in terms of the rates reflected today's inflation. But we would be hopeful it will begin to be reflected in future rate adjustments. But at the same token, I don't think we believe it's going to be fully recognizing the inflationary pressures. But hopefully, it will continue to be a factor and I think wage indexes is the primary indicator that they would utilize for wage -- for future increases.

Got it. And then on the commercial side, Sam, the number that I've heard pretty consistently is about 100 basis points of better rate than, let's say, pre-COVID, right, is what you're getting out of pre-inflationary pressures. Is that a reasonable ballpark? And how should we think about that? What percentage of the book? Like is it as simple as these are 3-year contracts, 1/3 of the book got repriced at a plus 100 basis points, and we'll see another third and then finally, the rest? And so one is the 100 right, two is the third, right, and then three? Does that number start ticking up a bit as we get deeper into this inflationary environment?

I don't know where the 100 basis -- we talked about mid-single digits for our new contracts. So we have sort of a targeted range whenever we go into a contract, one contract may be priced a little differently than the other. And so we're still trying to operate within our range. I would submit that the low side of the range would be 100 basis points. And we've been able to negotiate more in the middle of the targets that we were after, which is a little bit more than that. And so we are maybe 40% renewed, if you will, on contracts for 2023. We had a tail from the previous inventory contracts at maybe the legacy price escalators. So we're blending that a little bit. We still have some more contracts to renew in '23. In '24, you'll start to see more of these renewed rates. And we're, I think, overall about 40% contracted for 2024, get a little bit of a tail from some of the other contracts. So that's how it sort of plays out. They're feathered in at different times. We do not have all of our contracts coming up at one point in time. They come in over different periods, depending on the payer and so forth. But we're having sort of a receptive discussion with the payers. They understand the input costs and the pressures that are going on with providers, and they see it with a lot of our competitors and so forth. And so I think from that standpoint, we've been able to close our contracts timely within our targeted range and not disrupt our business and create a satisfactory result, we think, for the payer as well.

Got it. And so just to go back to your point on the 100 basis points, just to make sure I'm being clear. The -- I would think of the typical rates is 300 to 500 basis points kind of increases annual kind of inflationary adjusters, is that what was normal?

I think, our historical had been about 3.5% or so, heading into it, 3.5% to 4%. And so we're north of that, obviously, because we have pressures on our cost.

Got it. So that's what I mean. We would take 3.5% to 4% being normal, and now you're closer to 5%, let's say?

Mid-single digits.

Okay. Perfect. Let's talk quickly about Medicare just in terms of -- you guys have a great DC presence. I'm sure we all miss Vic. But the I'm already starting to get some questions, I'd just be curious on your view of like there's post, let's say, 2024 elections. The Medicare trust fund is out there looking to expire, I think it's in 2025, do you think there's going to be a call, right, given where the budget is, given what health care costs are doing, that there's going to be a call for something legislatively to take a look at the budget and to take a look and Medicare will probably be part of that. Post, let's say, I assume not the '22 election, but tell me if you think I'm wrong, more than '24. How do you think kind of in healthcare investors that are looking that far ahead should think about it?

It's difficult to predict. Obviously, what the government is going to do on that front. I mean, there's concerns. There's been concerns around the Medicare trust fund. My sense is it's moderated in some respects around how poorly the rest of the hospital industry is doing. And that creates a bit of a buffer around what they can do because of the disruptive force that it could have for others. So I don't really have an opinion on it at this point. I think inflation will be reflected in some of the reimbursement down the road, how they deal with the trust fund, could be more on the Medicare Advantage side than it is on the provider side. And I say that simply because that part of the equation maybe isn't fully embraced as an opportunity for impacting the trust fund. So I don't know that it will be as much on the providers. And so we're not anticipating anything radical at this point.

Got it. Maybe time for 1 or 2 more questions. Anybody in the audience want to raise their hand? Otherwise, I'll ask Bill about capital. So the company has done an incredible job of returning capital to shareholders over time, right? Obviously, you're going to fund your business first. You've got a big capital base there. But beyond that, you pay a dividend that's been growing and then you've been really opportunistic in terms of buying back your stock, right? So the typical equation you think of for a company like yours is, first, we're going to do CapEx and then need the tuck-in M&A. We're going to pay our dividend and what's left, it typically gets returned to the shareholder in terms of repo. You've actually enhanced that over the last couple of years because you've grown your EBITDA, you delivered -- the company was naturally delevered and you relevered it by buying back stock above and beyond free cash flow. How should we think about that in the current environment going into 2023? Should we think about it more returning to norm where share repo equals the incremental free cash flow you have left after doing A and B? Or is there an opportunity to continue kind of taking on leverage in order to enhance that?

Well, it's a great question. And you laid out our capital philosophy very well. It's first. First to tend to our CapEx, maintain the balance sheet in a strong position, so that we can be opportunistic as strategic growth opportunities present, small dividend. And our base model was dedicated free cash flow to a share repurchase program, pre-COVID. In '21, we had -- we did $8 billion of share repurchase, mostly making up the slack from 2020 when we had the pause share repurchase. This year, we went into the year saying let's take free cash flow. And to your point, we are running the company below the low end of our stated leverage. So let's use that excess. And that's what -- this year will be about $7 billion. Every year, we'll evaluate kind of our capital opportunities as well as the market environment, and we'll give you our indication of that. But I think the base model is exactly what you laid out. Is utilizing our free cash flow for share repurchase. And then we continue to look are there opportunities to enhance shareholder return through an enhanced share repurchase or are the reasons why we should devote capital to other areas. We look forward and we have this belief about the long-term intrinsic value of the company. It's been part of I think, delivering value over time in a balanced way. So we look at that every year, but our base model is free cash flow to share repurchase and then we'll adjust on either side of that based on our read of the market environment.

Got it. So just to put a point on that, maybe you could tell us where you expect to end the year on a leverage -- from a leverage perspective? And how that compares to your targets?

So we're running the company right now right at the low end of our state of leverage, which is 3 to 4x leverage. So we're right at the low end of our stated leverage.

Perfect. With that, I want to close it out, Sam, Bill.

Thank you, Justin.

Thank you for being here with us today. I really appreciate it, everybody. Thanks.