Healius Limited (HLS) Earnings Call Transcript & Summary

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Thank you, Janet. Thank you all for joining our first half results call today. First, as you will have seen today, we have received an unsolicited and nonbinding indicative offer from Partners Group for Healius. Partners Group have also announced that they have acquired a relevant interest in Jangho's 16% stake. Now we can't make any comment at this early stage. But of course, the Board will undertake their assessment in due course, and we will certainly keep the market informed as we go. So turning to the first half overview and turning to our results, let me reiterate that our strategic review last year identified the best opportunities for long-term growth and for portfolio simplification to drive shareholder value. We have a clear view of where we are heading with our strategy. And as part of this, we'd like to confirm that we intend to explore a sale process for part or all of the Medical Centre business to see what value can be obtained and what is in the interest -- or the best interest of our shareholders. Naturally, we want a buyer who has a long-term commitment to investing in and growing medical centers, and any potential sale of medical centers would enable us to support the growth strategy in the diagnostic divisions and in time, the day hospital business. In the first half of this year, we undertook an organizational redesign to streamline the oversight of the group and to improve the agility and autonomy of the individual businesses. We introduced our Sustainable Improvement Program or SIP as we call it. This is already delivering significant cost reductions, as you will see from the margin expansion in Pathology and Imaging. We see the SIP as a 3-year program to progressively improve our results. The target, as you know, is $70 million out of underlying -- out of an underlying cost base of $1.5 billion, so roughly 4% or 5% in savings. At the end of the period, we delivered leverage ratios well within our covenants with a pause on major capital investment in medical centers as we look to fill the capacity created and to deliver the required returns. As heralded last year, our non-underlying spend on strategic projects and redundancies will peak this year and then rationalize and reduce rapidly. Now turning to the divisions. Pathology and Imaging both did very well in the half. Pathology's revenue was up 6% from a mix of volume and fees, underpinned by a strong flu season in quarter 1. Its EBIT grew 10%. Imaging was also a great story with EBIT up 16% on revenue growth of 5%, underpinned by our Northern Beaches and ADF contract wins last year. Both divisions have progressed on the implementation of their core technology platforms. In Medical Centres, implementation of our strategy continues. We've put a slide in the deck, which summarizes the journey we've been on. And where we are in this process. I think it's useful to reflect on how far we've come in repositioning the model to deliver quality services and sustainable growth. A strong second half last year showed the uplift achievable from Project Leapfrog, however, this half saw a temporary step backwards with a competitive recruitment market impacting our service fee, higher retirement of GPs and a short-term dip in productivity from system familiarization. And I'll cover this in more detail as we go through this presentation. Pleasingly though, Monserrat delivered a strong result with $3.5 million in EBITDA. Its new hospitals are successfully ramping up, and we expect the division to continue to grow. Westside Private, its flagship hospital, is doing especially well, and I see this as a blueprint for the future of day hospitals in this country. Turning to the group results. In summary, we delivered revenue growth of 7.5% to $945 million and underlying NPAT growth of 8% to $42 million. In the reported results, in addition to the usual investment in strategic projects, we have recognized the benefit of a refund on a favorable tax ruling in November, partially offset by the impact of AASB 16. There is a detailed reconciliation at the back of the pack between reported and underlying results, together with the slides on the strategic project spend on AASB 16 and on the tax ruling. As we have modified -- adopted a modified approach under AASB 16, the half-on-half figures are not comparable, and this is why we've shown the underlying results before the impacts of the standard. In regards to our interim dividend, we've continued the payout we paid in the second half of 2019 of around 40% of underlying NPAT. This is in order to balance our gearing level and our capital requirements with rewarding our shareholders. Turning to Slide 6. Through the SIP, we have successfully reduced our underlying spend by $20 million or 2.6% of the cost base in the first half of the year. The largest savings were in labor and IT. This $20 million is above our short-term target. Now there will be more savings to come in the second half of the year as we move towards our $70 million annualized target. As you can see from the chart, the SIP has partially offset the inflationary and other non-volume-related increases in our cost base. This underscores the fact that our businesses operate with constrained price growth, and we must continually find ways to become more efficient, balancing investment in growth with cost restraint. The cash flow and gearing slide, Slide 7, self-explanatory and show us to be well within our bank covenants. You can see the level of capital investment is reduced in this half as we pause the major Medical Centre investment to ensure our spend to date delivers the expected returns. Of course, we have and will continue to selectively invest for growth. In this half, we bought a small pathology business and 3 more M&A roll-ins in Medical Centres as well as funding the strategic projects. Now turning to Pathology. Pathology produced a very good performance with revenue growth above the market's 12-month rolling average and EBITDA up 10%. Genomics, although a relatively small part of that business, continues to be a stellar performer for us. Pleasingly, we have recorded EBIT margin expansion in Pathology in the last 2 halves, as we have moved into clear air following the $30 million hit from the sale of the old Healthscope Queensland ACCs, the loss of the occult blood contract and the Dorevitch EBA issue. Excluding this, as you can see from the graph, we've grown the EBIT of the business by a compound growth rate of 11% since the first half of 2017. This rise should continue as we progressively make productivity savings in our footprint of collection centers and laboratories and in our management of labor, consumables, IT and other costs. In terms of investment, the upgrade to our core instruments known as the Serum Work Area is now complete in New South Wales and Queensland, with Victoria now underway. Importantly, we have decided to change the pathway for our Laboratory Information System upgrade to support the future growth of the Pathology division. We are now upgrading our existing systems and standardizing our processes before moving onto one unified database. This is a lower-risk approach, a slower and safer pathway and one which will also better align the benefits and costs as we go. As previously announced, SCC remains part of the destination. We'll need to update our forecast and costs and timing once we have finished our current analysis. In our Imaging division, we've delivered another great result with revenue up 5% and EBIT up 16%. The EBIT margin was over 10% again, and we have achieved a compound growth rate of 14% since the first half of 2017. In this 6-month period, we have successfully started the Australian Defense Force Health Services contract in partnership with BUPA. This is proving to be a large boost for many of our facilities. The Northern Beaches contract is also growing nicely and making a positive contribution to our results. As well as the hospital and commercial contracts, we continue our strategy of investing in high-end community sites and targeted M&A. We're also reviewing our portfolio of New South Wales community sites to improve the performance of the business with selective consolidations or closures anticipated. The rollout of iCAR is nearing completion. That's our technology platform. It is already delivering a reduction in operating costs and improvement in the way we interact with our referrers. We continue to project around $9 million in annualized benefits over time. Now turning to Slide 13 and our Medical Centre division. Revenue for the group was up 18% due to growth in Healius' medical centers and the addition of Montserrat. At the EBIT line, Montserrat and Health & Co delivered a good EBIT growth in the first half of the year. However, overall, the division's contribution declined $1.6 million due to the performance of Healius' medical centers. As you are aware, Healius is investing in its people, its processes and property to deliver long-term growth. After a strong second half last year, the first half of 2020 saw a temporary step backwards. We had good recruitment with 101 new GPs joining and continued strong patient demand. However, these were offset by higher numbers of retirements, service fee pressure and a short-term productivity dip from system integration. With several GPs leaving us due to retirement or ill health, our successful recruitment of younger GPs will progressively address this problem. In addition, we are focused on better service levels to existing GPs through improved local engagement and investment in frontline staff. The service fee was 31.3% in December 2019. The recruitment market remains competitive with supply constrained by visa constrictions of overseas-trained GPs at a lower number of registrars in the system. In terms of productivity, I guess it's not surprising that the amount of change we've introduced has caused a short-term dip. All medical centers now have the same software and appointment capability. The second wave of training is helping to increase familiarization with new technology, particularly for the older GPs and in -- and to improve productivity levels. While explaining what happened in this half, let's not lose sight of what we have achieved. A strong GP pipeline is testament to the quality of our brand. M&A roll-ins proved successful. Our new center at Greensborough in Melbourne is the best example of how roll-ins are helping to ramp up greenfield sites, and we will selectively pursue the range of infill opportunities, which remain. We have a single-practice management system in all our centers, and the efficiencies which will come from this cannot be underestimated. We now have appointment capability in all our centers, which is attracting both GPs and consumers and delivering more comprehensive care. We've grown our chronic disease management revenue by over 60% and brought in diverse revenue streams in skin cancer clinics and occupational medicine. We've also set up 4 urgent care clinics, with 2 more opening next month. In South Australia, we have additional state-based funding to support the 2 centers there. Digital enablement is being progressively rolled out through e-Recalls, Self Check-in Kiosks in centers and a unique Join the Queue Remotely application. These will deliver better medicine, better consumer service and better performance overall. We have successfully improved the utilization and the experience in 16 of our strongest centers with additional uplifts elsewhere in skin, dental and treatment rooms. The property program has been stage-gated, and the current focus is on filling the newly created capacity. To date, 19 full-time equivalent GPs have commenced in these sites with a further 30-plus in the pipeline. In terms of our targets, we've invested $59 million to date, which represents around 40% of the initial estimate, with another $12 million that may be spent in the second half. But we're slowing down our spend to focus on achieving the required returns from what's been invested. The target increase in GPs has been tempered in response to the current competitive market situation, while the uplift to gross billings per hour of 10% to 15% is expected to be achieved. Increased benefits of the new systems and the rapid guidance growth in chronic disease management and diverse revenue streams will drive this. Around 40% of the centers in the portfolio are already achieving the $1 million per annum EBIT target before group overhead costs or around 30% after allocation of these overheads. We have a range of initiatives to deliver the divisional head office efficiencies and a review of underperforming centers to optimize the portfolio. Overall, the 1 million EBIT per center target remains an achievable goal, but it will be beyond the initial time frame. Turning to Slide 17, our emergency -- emerging businesses. I'm not going to run through the emerging businesses in detail. It's all set out in the presentation. But just a few points, most pleasingly is the contribution from Montserrat at over $3 million in EBITDA in this period. The new flagship Westside Private Hospital in Brisbane is growing exceptionally well. Last week, we officially opened our IVF clinic there, one of the most modern and advanced embryology laboratories in Queensland. IVF itself continues to grow its revenue streams and to contribute on a whole-of-business basis. Health & Co and Dental are also both doing well, while our own day surgeries are in turnaround. In our corporate division, the cost reductions from the simplified management structure partially offset increases in price and activity and property costs and insurance premiums, with the run rate remaining at second half 2019 levels. Further savings will come through the second half of the year. First financial year we've increased the bottom of the forecast range with increasing confidence in our initiatives. Guidance for underlying NPAT is increased to between $96 million and $102 million, and this is, of course, before the impact of AASB 16. Market conditions have been softer in Pathology after the strong flu season in quarter 1, and the volumes in Imaging and the GP community space remain lower. Achievement of the top end of the range will be dependent upon conditions improving in this half, as indeed they did last year. Rounding back on where I started, we have the right strategy and the best optionality in our portfolio today to deliver both high-quality affordable frontline health care for Australians and sustainable growth for shareholders. It's a slow journey and one which does not always move in a straight line. However, progress has been made, and there's more to come in the second half, which will drive further shareholder value. Overall, we're in a far better position than we've been in for a long time. Thank you for listening, and let me hand you back to Janet.

Thank you, everyone. We'll now open the lines for questions. So I'll throw it back to the operator on the line.

[Operator Instructions] Your first question comes from Lyanne Harrison from Bank of America.

I guess first of all, Malcolm, I think about 6 months ago, you stated that no part of the business or the Healius business was for sale. Can you comment on the turnaround in thought and the reasons for considering the sale of the Medical Centre business?

Yes. Look, we've been going through a strategic review over the last 12 months or so in terms of working out where that is and reviewing what the opportunities are in terms of where the best return for shareholders would be over time. We still absolutely believe in the Medical Centre business and its future. But it clearly will take longer than we anticipated and we were anticipating at that point in time. And so we've flagged a sale, which could be either partial or complete. And I think the willingness to participate in a partial sale reflects our ongoing commitment to that business. So it is a change. We have other opportunities that we believe we can pursue. And so this is the path that our analysis has suggested is the best way forward.

Okay. And to clarify, if you were to sell all of the business, would that include Health & Co as well? Or is that a part of the business that you're going to keep?

It would include the medical centers, Health & Co and the Dental business, but not IVF and day hospitals.

Okay. And what sort of time frame have you put on the sale process?

We haven't put a time frame on the sale process, but we wouldn't be announcing it unless we were well progressed with that.

Okay. So in the event that you don't sell all of the business and you sell part of the business, just thinking about some of the challenges you faced this half, what -- I'm trying to understand in terms of certainly, the GP retirement and also some of the short-term productivity dips that you'd faced. It's not -- it doesn't seem to me that -- you certainly had good traction in the second half of last year. What was it that was different this time around? And certainly, on the GP retirements, was it something that you'd not expected?

Yes. Look, I think the reality is that we've changed a lot about our -- the services and systems that operate within our medical centers, including technology. And so that's made us a much more attractive place for GPs to work. But we -- to some extent, we have a cohort of GPs who were attracted to a walk-in model. And changes to technology tend to trigger earlier -- perhaps earlier retirements than they might have been otherwise for older GPs, who struggled to change to that sort of technology. And we underestimated the effect -- the impact of that. We think that's a fairly short-term impact. And so now that -- all that technology changes happen now. But you can see from the recruitment numbers that that's where the real growth is for the future. And so we expect those retirements to slow dramatically going forward. So -- and we have a very strong pipeline of recruitment for the second half, in fact, recruitment for this year looks like it will be similar to what it was last year, in a similar pattern to last year. So as I said, we still have a very positive view of that -- of the Medical Centre business in terms of where it is, but it is going to take longer to get there than we thought.

Your next question comes from David Low from JPMorgan.

Firstly, I'd just start with the cost reduction program, that there was a slide there, $20 million of savings this period. Malcolm, can I get you to just talk to where the starting point was? And where we're up to now? And when we should expect the $70 million number to be delivered?

Yes, I might ask Maxine to respond to that, David.

Yes. Thanks for the question, David. So the $20 million is for the last 6 months. And what we've tried to do in the slide pack is highlight from where we were in terms of our cost base to where that ended. We have set ourselves a target of $70 million. We said for this year, it was going to be $30 million. We're well ahead of that now. A lot of that is -- has been the restructuring and the labor component, but we continue to challenge ourselves in terms of what that look like, not only for the second half, but also into FY '21, particularly as some of our bigger contracts come up for renewal and how we seek to get price reductions out of those. So look, it's a pretty intense ongoing process in the business. I think as I've said in the past, it's over 200 initiatives that we're focused on, and the lion's share of those have been labor in this first half being the $20 million.

Okay. Yes. I mean I think as an observation, I mean we had about $30 million of savings in Path and Imaging in the past. The $70 million number, best I can tell, has only been reported in the press. It does seem to be a bit of a moving piece so it'd be very useful to understand sort of where the starting point is and where we're up to. The question I have in that -- in all of that is if the $20 million is done, does that mean there's $50 million to go to get to the $70 million?

Yes. So the $70 million wasn't in this financial year. That was over 2 years. So we said $30 million this year. And what I'm saying is we're ahead of that already. So I am very confident in still achieving the $30 million this year. And then as we look forward, we're -- I think, for our FY '21 initiatives, getting to the $70 million should be, again, achievable. I mean we've -- we're ahead. We've got a pipeline of initiatives that we're working through, so pretty confident of where we're sitting on that.

Okay. That's clear. Just in terms of acquisitions, I noticed that there were comments there on $11 million on acquisitions. From memory, there was a Pathology acquisition at the back end of last year. Could we just start or could you perhaps give us some indication of where you think organic growth was in the Pathology operations?

So the $11 million, David, was actually part of the earn-out for Montserrat. There's no big acquisition this year, just a small one in Pathology. So really, the bulk of the growth in Pathology is organic.

Okay. But there was an acquisition last year?

No, that's the one we're talking to. It came at the end of last year, and we actually paid for it this year. Just a small one, yes.

That's right.

Okay. I'm with you. All right. So that would have made some contribution in this half then?

Yes, but it's not very much. It's not...

It's immaterial to -- I mean what's happened in Pathology is that first quarter of growth was very strong. Second quarter, not so strong, and that is the lion's share of underlying growth. It's not acquisitive growth that's driven the Pathology growth number.

Okay, great. And just, look, one last one. The Medical Centre, the sale or potential sale of some or all. And what are the implications to the cost base? It always struck me that this business carries a lot of head office costs or -- in the Medical Centre operations, and I know a lot of that has changed. But just sort of wondering what your thinking is there? If you sold some or all of the medical centers to the corporate costs and any other legacy costs?

Yes. Look, you're right, it does carry a pretty heavy cost burden and we're going through a process now. This is obviously part of the SIP process as well to look at what that right-sized corporate cost structure needs to be because it certainly has been taking more than its fair share of costs. So particularly when we look at that Medical Centres' $1 million a center, and I know Janet's called out where that sits with medical center overhead and then group overhead, it's instructive to say that, that group overhead has been very large. So we're working through a process now of rightsizing that down to make sure that it's appropriate for what the portfolio looks like afterwards in the event of a sale.

Your next question comes from Andrew Goodsall from MST Marquee.

Just the performance in Montserrat, I guess, on track. Just trying to understand if that would trigger a milestone payment at the end of this year and into next year, I guess?

Yes.

Yes. Well -- so Montserrat is on track to business case. So we're expecting 2 earn-out payments. The first one being in the first half of FY '21 and then the following year, FY '22. And so they've been tracking along very well. And so yes, we're expecting those earn-out payments.

Andrew, we had a note in the accounts at the end of last year, which detailed an amount of $16.6 million recognized for those earn-outs, and that's really where we're standing at the moment, which gives us a total -- would give us a total cost of $95 million.

Okay, great. And just with the sale of Medical Centres, just any measures you're taking to mitigate downside risk to the balance of the business? So any tie-in with Pathology or DA that you might have post that sale or you might require as a requirement of those sales?

Yes, Andrew, look, we believe that it's possible to shore that up. The Pathology operates licensed collection centers within our medical centers, and I think it's possible to contract that over a longer period of time. I mean obviously, if it's a partial sale and we retain some ownership of it, that would provide additional certainty around that. Imaging, likewise, has leases that are long term in those centers. So we think that it's possible to take care of that. I mean at the end of the day, our Medical Centre business delivers about 8% of our Pathology revenue. So it's not as big as I often hear in the marketplace as to what people think it is.

That's great. And one final point, just on clarification. Just the recognition of the gains from the tax case. In terms of cash flow, I guess, that's pending the appeal. Is that right?

Yes, that is. And we've booked it as a current tax asset with our expectation we'll actually receive the money in the first half of FY '21.

Your next question comes from Chris Cooper from Goldman Sachs.

Three, I believe, on the Medical Centres business, please. Just firstly, I noted your answer to a previous question, just that the turnaround is taking a bit longer than you'd expected, even just 6 months ago. I see your commentary in the slide here, 40% of centers are achieving the $1 million of EBIT that you'd hoped. Clearly, there's a decent proportion that are underperforming, right? I'm just curious to hear your thoughts on compared to 6 months ago, is it the successful centers that are doing less well than you'd expected? Or is it the less successful ones which are taking longer?

I'll take that. Thanks, Chris. Look, it's the less successful centers. A lot of those are still those new centers. So there are about 16 of them that where we would say performance is not where we would like it to be. Now we've just been through a whole review of the Medical Centres business site by site and we have impaired 4 sites which were at the end of their lease tail and we didn't feel were worth keeping within the portfolio. So of those 16, we do have a range of initiatives to improve performance. But some of those do have larger property costs so it does make that ramp-up slower in terms of the returns that we want, and we'll keep a careful on those. But the rest of the 16, we do have a very credible plan around recruitment and retention. And as Malcolm said, it's largely retention that has held those centers back. So the good performing centers are still doing very well and are very stable, and we'll continue to grow as we look at ancillary revenue growth in those centers. Our focus is really on the 16.

Okay. Just on the GP numbers. I believe the retirement rate is in contrast to what you were suggesting, again, maybe versus 6 months ago. I appreciate that these things don't have perfect visibility. Can you just confirm, you're talking about here tempering the GP recruitment targets you previously guided to. Is that the 1,400 FTEs that you suggested were possible by '21? Perhaps if you could confirm that first.

Yes, it is.

Yes, that's correct, Chris.

And do you have a new specific number in mind?

No, we haven't disclosed that. But we think -- look, in reality, the solution to this business is not more recruitment. The solution is in better services and better retention in terms of where our GPs are. And we've done a lot of the groundwork to achieve that over time, and we're attracting the kind of GPs that we really want in our centers, and we've got a lot of great GPs already. So look, I think the departures in the last 6 months is a temporary blip that, to some extent, was caused by sort of changes to services that tend to challenge people as they get older to sort of cope with new technology and all sorts of stuff and it triggers a decision when you're in your 70s around sort of whether you want to keep doing it or not. So it's a short-term thing that goes away. People get used to the technology pretty quickly. It's not as though we've introduced stuff that's not what is used everywhere else in the market. So it's -- MedicalDirector is a pretty widely used product. So we expect it will -- that part of things will settle down.

I think what is also important, as we have tempered the -- our expectations around recruitment, that our focus is very much on the return on invested capital, which we said is 20%, and we're certainly not stepping away from that. So keeping a very careful watch on effective service fees and the capital that we put into the business to make sure we generate return on invested capital. So I mean, when we plan all our initiatives internally, that's what we're focusing on is return. I understand the $1 million EBIT per center has been a marker, but return on invested capital is certainly something that we are highly focused on.

And just last one for me. Just on sort of a bigger picture one on the day hospital side of things. I mean you've always advocated this as an important trend in Australia. And clearly, you're having some success. I mean can you just give us an update on where the industry is holistically and how you expect the kind of infrastructure within that sort of side of the health care facilities in this country to develop over the next sort of year or 2, that would be helpful.

Yes. Look, I mean, we base this on what we see has happened internationally in this space, how there's a -- there's certainly been a strong trend in many other countries for surgery that has traditionally been done in long-stay hospitals to gradually move to short-stay to day-only procedures and the care to follow the patient into the home. So surgeries that we wouldn't have thought of as being day procedures, things like hip replacements, in the U.S., the percentage of people having a hip replacement and going home the same day is now just over 50%. So I mean it obviously requires the services that can come to the patient's home and provide that postoperative care, but the outcomes are actually better in that scenario, too. So that readmission rates, post-op infection rates if the patient is not spending longer periods of time in hospital are lower. So better outcomes all around from a patient perspective. And we expect that, that trend will continue to happen in Australia so that the growth will be over time in day hospitals that can deliver that. Now that's not a day hospital that's been doing endoscopies and intraocular lens replacements, cataracts, suddenly turning over to doing hip replacements. It's -- there are facilities that are purpose-built for this. So -- and that's what Westside is in Brisbane. It has 8 overnight beds, but they're really there just for backup in case somebody is unable to go home. It has 4 theaters. It has an oncology center. It has a full imaging suite. And then it's got a medi hotel that sits above it. Now we don't -- I mean all that stuff has led to -- a lot of those things are let to third parties, but the reality is patients can stay with nurse cover for longer if they want, and some patients will do that, but they stay in a hotel-type accommodation with nurses on-call to that. So it is a different model. It's certainly significantly lower cost than the one we're used to here, and we think that the cost of care will drive the Australian health care system in the same direction. And so that will happen over years, though, as that trend changes, and those trials have started. We will start in the next few months a trial of hip replacements in our facility in Brisbane, and there are other providers around the country that are doing that as well.