Healius Limited (HLS) Earnings Call Transcript & Summary

Good morning, everyone, and thank you for joining our interim results presentation for the first half of the financial year 2023. Before I hand you over to Maxine, I'd like to acknowledge the Gadigal people of the Eora Nation, as the traditional custodians of the land on which we gather today here at our new offices in Liberty Place. And I'd like to pay our respects to their elders past, present and emerging. I'll pass you over to Maxine Jaquet, who is our CEO elect, take you through the presentation. And then afterwards, as usual, we'll reserve a little bit of time for Q&A at the end. Thank you, Maxine.

Thank you, Janet, and good morning, everyone. Given where a month since the last trading update, there shouldn't be any surprises today. So what I want to do is take you through the progress we've made over the last 6 months and what that means for the future of Healius. That is how we are now positioned for sustainable and profitable growth. There are a few messages we want to leave you with today. First, it's been extraordinary and volatile last 3 years. But what the volume highs and lows have demonstrated is that having a national and at-scale network in pathology delivers a high degree of operating leverage. It also shows how operationally the Healius team is able to flex capacity up and down when required. Secondly, we've done a lot of in the last 6 months to position for BAU volume recovery. We've reset the cost base, refocused on diagnostic businesses and progressed our digital agenda. Thirdly, looking ahead, we're pursuing a strategy for growth under 4 pillars, operating leverage, service, insights and people. You'll hear more about this in a moment, but in detail in a strategy day later in the year. We will continue to pursue disciplined and conservative capital management with a priority in the medium term being organic growth. As I said, it has been extraordinary in the last 3 years given the swings in volume experienced by our pathology network. COVID test volumes went from as high as 46,500 tests per working day in H1 '22 to 6,500 in H1 '23. The EBITDA margins peaking at over 40% demonstrated the high degree of latent operating leverage in the pathology network. As COVID volumes started to decline in September and October of 2022, we took immediate action. Using levity in New South Wales as an example, costs were pulled out in a structured way each month. When volumes dropped to a certain number of collects a day, this triggered a 2-week exit plan for a site. No redundancies were incurred as they were all COVID casuals. Now obviously, the question for the whole sector is what's going to happen to BAU volumes in the medium term. The view of those in the sector is that catch-up is required for BAU volumes to revert to the long-term median trend. This chart here is analysis prepared by the peak body Australian Pathology. We at Healius shared this view because pathology volumes and mix is determined by the clinical needs of the Australian population, which continued to trend upwards along demographic lines. So we are confident in this reversion and catch-up growth. It is our strategy to capture a disproportionate share of that recovery and enjoy the corresponding margin expansion. We've got a strategy and place to do this. Our current priorities are twofold: to leverage every aspect of our existing operations to drive organic growth, this is what I mean by operating leverage; and to invest in our service insights and people to drive sustainable above market growth. In the shorter term, this includes leveraging networks we have in general pathology and imaging, increasing the modalities towards higher and higher margin and increasing clinician capacity. In the medium term, we will be growing into new clinical domains and testing technologies, and have in place an internal scientific advisory board to lead the introduction and commercialization of these new areas. Our capital management framework is how we fund that strategy, and we wanted to use this framework as something we can return to over time. For the short to medium term, our focus is clearly on organic growth. There are several levers to this increasing the size of our networks. In Pathology, we'll see in the last 6 months, we are starting to increase our number of ACCs after a period of consolidation, investing in modality capacity expansion, expanding the scope of our testing, including as assisted by AI and changing our product and pricing mix. M&A is not a priority for us currently, but inorganic growth in the form of bolt-on acquisitions to increase the network are part of BAU and necessary for growth. We will not be paying an interim dividend as the focus is on debt reduction, especially given the more muted volumes of the last period. Moving forward, growing sustainably is becoming more important. Sustainability and how we engage with all our stakeholders is fundamental to how we are perceived and valued as a high-quality organization. Whilst there is a lot of work happening across all these areas, including in the digital customer-facing initiatives, which we will address later, the main call-outs here for the half are an 8% reduction in our Scope 1 and 2 emissions despite already being a low emitter. And secondly, entering into a purchasing group for renewable energy under the agreement that was struck with QIC with the sale of the day hospitals business. Here are the group results, which I won't dwell on given the recent trading update. The main call-outs from the half are, we reset the cost base in response to COVID volumes dropping off and anticipation of BAU recovery. There was a 100%-plus cash conversion and aligned to the market pathology is recovering, but at a slower rate than imaging, which is growing ahead of market. I'll go through more detail in the divisional slides. I want to go into more detail on what it means to say we have reset the cost base. Essentially, we have reduced our overall group costs to FY '20 levels. Following this reset, we are 1% off this base. This is no mean feat, given that this is net of 3 years of inflation, and most importantly, over 55% of our labor and network costs are patient-facing insights and collection centers areas which are revenue generating and critical for growth. The areas of the cost base we have targeted are rightsizing lab labor significant procurement savings across consumables and a wide range of other categories. The rapid removal of COVID costs, which I've already described, and in addition, our management and corporate function costs. As you can see, while we have delivered the dollar savings set out in SIP, and this is being demonstrated at the EBITDA level, this hasn't translated yet into EBIT margin. We expect that the EBIT margins will be achieved once the industry has seen a return to long-term growth trends. As we saw earlier in the Pathology Australia analysis, the sector lost that level of growth over the last 3 years. At the full year, we will provide a more detailed update of SIP achievement and actual volumes against the original target. We expect that cost transformation will be a constant in our business. Taking a closer look at Pathology for the period. There are a few things I would like to call out here. The division continued to be clearly aligned to the group results given its contribution. The scale down of the cost base is clear in labor numbers. Following the reset, there will be 500 fewer FTEs in pathology than there were in 1H '20. But the network is positioned for growth. According to our strategic pillars of operating leverage, service, insights and people. On service, for example, there has been significant progress on the rollout of digital tools and experience for our patients, clinician referrers and frontline staff. Agilex continues to show promising revenue growth in line with the global clinical trials market. I will go a bit deeper into Agilex in a moment. But first, I want to take you through how we're positioned for growth in pathology. We are focused on sustainable organic growth. So after a period of consolidating the tail of our ACC footprint that was less profitable, we are now expanding the network again. You can see from the middle row of this chart that Healius is ACC count increase versus the prior period. So while our BAU revenue is off 1% compared to 1H '20, the productivity of our ACC network has increased by 8%, compared to the total market, which declined by 3%. This 11-point difference underscores our strategic positioning around sustainable and profitable revenue growth as opposed to growth at all costs. Which in this industry has never been a winning position beyond the short term. Beyond ACC productivity, we are pursuing the full range of growth levers in pathology. These other levers include yield, customer experience, clinical domains and contracting. Breaking these out into initiatives, there is a mix here of nearer- and longer-term priorities. In the nearer term, customer experience changes we're implementing mostly through the digital agenda are happening already or very close to being rolled out. Like telehealth for GPs, E-referrals are here to stay and growing. So we've deployed a new referrals hub. This allows us to seamlessly obtain electronic referrals from Medical Centres for both pathology and radiology tests. We then engage the patient directly through a simple SMS experience to help them get the test done at a time and place of their convenience. In terms of growing specialist referrals, we have already introduced some leading clinical programs, including Surgical Skin, and the National Cervical Audit programs. In the new clinical domains and testing technologies, we've already announced the C2N exclusive partnership for Alzheimer's disease, but there's more coming around the areas of highest disease burden, and we're building on offering in emerging diagnostic testing areas. Turning to specialty pathology and clinical trials. I want to give you an update on Agilex. First, I want to be transparent about Agilex. We remain confident in the investment case, the strategy and the financials continue to be promising. However, the start-up of a new facility, and the scaling of operations is taking longer than planned. The setting up of the new facility and getting it operational was impacted by COVID-related global supply chain issues, and fulfilling clinical trial demand was also impacted in the period by trial participants impacted by COVID. To support the ongoing growth, we have appointed a new CEO in January, who is experienced in scaling up clinical trials businesses in Australia. We're making disciplined and necessary capacity investments, such as the second lab in Adelaide and the new tox facility in Brisbane. Again, we're doing all this because the upside for Healius here is above market returns and diversification within the diagnostic sector. The growth we anticipated remains in both Agilex and the global market in which it operates. For example, the growth rate of new Phase I trials averages 10% per annum for the last 5 years. The market remains strong as does Agilex's position as a leading bioanalysis provider in Australia. Turning now to Imaging. The focus for the last period has been investing for organic growth, and that is already paying off. Excluding Medical Centres, Imaging is up 10% versus the prior comparable period. January is trading up 11%. A $39 million impairment of the Medical Centres segment is a necessary reset of the asset base, and provides a better opportunity to compare to peers. The super initiatives realized in Imaging were 50-50 cost and revenue, including 100 FTE reduction in labor since 1H '20, while increasing productivity in the form of exams per hour by over 10%. Now our focus is very much on accelerating this growth, and we are delighted to have a new divisional CEO, Dr. Phil Lucas, who has many years experience in scaling imaging businesses having been one of the founding partners of PRP. I'd like to give you a bit more flavor on how we're approaching growth in both the near and medium term. Our immediate focus is growing our radiologist sonographer coverage where there is demand and adding capacity in higher modalities such as MRI and PET with 8 on order. In the medium term, we are looking to transition some of our community sites to full comprehensive sites plus adding some greenfields. We have already deployed the best technology in PET/CT in St. Vincent's North side that is the GE Omni Legend. This machine is clinically better with detectors that are 2x as sensitive as other machines are halving scanning time. With this growth, I am looking forward to greater recognition of Imaging's contribution to the portfolio. As a pure diagnostics operator, we are sharing some of the assets and capabilities across Pathology and Imaging, particularly in the digital products like the Referral's Hub. Turning now to cash flow. The main call-out here is the cash flow conversion, which was above 100% for both reported and underlying lines. This shows a strong alignment of cash to revenue, as you would expect, with Medicare paying after 3 days. COVID periods move things around with large invoices to state governments, but the last period was back to normal in terms of billing. As you can see from the profile over time, $20 million to $25 million of maintenance CapEx each 6 months is the level for long-term sustainability for Healius' network post the Medical Centres disposal. This ensures adequate investment and renewal of facilities and equipment. Turning now to debt management. The thing to note here is that our gearing is within covenants, but above our 1.7 to 2x long-term target due to the temporary drop in EBITDA. So our focus remains disciplined cost control to minimize our debt position. I wanted also to give you an update on our digital agenda to underscore our commitment to sustainable organic growth. The purpose of our digital agenda is to build a competitive service model for our customers and generate efficiencies through standardization and automation. As we announced to the market previously, we are focused on building a platform of modular solutions that progressively replace our legacy systems. Where relevant, these solutions are shared across Pathology and Imaging, for example, in managing referrals, making bookings and delivering results. In the first half of FY '23, there has been rapid progress on delivery, everything we're doing in digital serves the strategy of increasing operating leverage, improving the customer experience for patients and referrers, improving the quality and speed of our clinical insights and improving the experiences of our staff. All our new solutions have a nationally standardized design, serving the needs of multiple brands, making them easier to maintain and change on an ongoing basis. Overall, the digital program is progressing as planned within budget. Now they say a picture tells a thousand words, which is why we've given you these images. On the left here is what an ultra screen looks like, which was our old laboratory information system. On the right is Healius new Lab Portal. 2 out of 6 main pathology departments are now out of Ultra, they've got standardized workflows. While the technology can be complicated, in this case, it's easy to see which one of these is ready for the future. The next version of our results portal for doctors is due for release next month. This is long overdue, and we are delighted to have such a great platform to support our referring doctors. The portal provides a rich experience and self-service with many features. Well, I think that is a good place to end the presentation. As you can see, despite the operating environment, management has taken strong action, focusing on managing the cost base whilst progressing the digital agenda and other initiatives to drive growth into the future. I'll now hand back to Janet, and Steve Humphries and I will take questions.

Thank you, Maxine. Can I please get the questions online?

[Operator Instructions] Your first question comes from David Low from JPMorgan.

Maybe you could start with just the commentary about the variable cost increase of only 1% versus FY '20. I guess what I'd like to understand is, if we saw pathology recover rapidly, let's say, numbers are up 10%. How much of that is going to drop through to operating profits do you expect? I guess I'm asking how much is going to be a variable cost? And how much do you think you've locked down with fixed costs?

Thanks, David. Great question. It's -- we work off a base of about 80% in Pathology is fixed, and about 20% is variable and with the variable components being mainly the consumables. And it really depends on how much volume increase you get. So small increments you can absorb in the fixed cost base, but if you do get a major step change in volume, there is obviously a bit of a step-up in terms of what's required in terms of other areas.

Would it be safe to assume that given demand BAU has been below expectations, both yours and industry that there is a bit of capacity in the structure at the moment. So if we saw a normal recovery it wouldn't require much in the way of additional fixed costs.

Yes, that's exactly right, David.

I'm going to squeeze in another question. I think that was one topic. Just on the doctor portal in the next few months, I mean it looks like a great improvement in the technology. But historically, change is not something that's welcomed by doctors all the time. Just wondering, do you see much risk with this rollout that it's a sort of thing that can trigger your customers to leave or alternatively, there's an opportunity to bring in more doctors with the new system? What's your expectation?

Look, our expectation is -- look, it's a significant step forward from where we are today. And it also has additional features, which we don't offer. So it's not just the visual output in terms of what it looks like. But there are many other features, which we know are desired. We've done a lot of user testing with our clinical group and a lot of the design work has been done in consultation with that clinical referring group. So look, we're pretty confident that it will be very well received.

Your next question comes from Lyanne Harrison from Bank of America.

I'm looking at that Slide 12, which I found quite interesting and well done increasing revenue per collection center. Can you provide a little bit more color on what the expansion plans for collection centers might be in the next 6 to 12 months in terms of how many you might be adding? And then also what would a target revenue per center look like? If there's anything you can share, Maxine?

Yes. Thanks, Lyanne. So a great question. Look, I think the first thing to say is, as you can see, our strategy is based on profitable expansion. We would say the market has grown less effectively in the last period. And for us, there is no target in terms of what we would like to add. We do have very clear areas where we call white space in terms of where we think we would like to be, whether that's in terms of independents or we think we're underpenetrated in terms of market share. Looking at [ SI 2 ] levels. But no sort of target because it really does obviously come down to what you have to pay for that growth. Independence can be a lot less expensive in terms of the rent outlay, but they do take more time to ramp up. But for us and what we've added, most of those have been profitable wins against incumbent operators. So yes.

Okay. And in terms of the second question, what are you seeing from a honing -- sorry, a coning perspective in terms of -- does that still drag on revenues? Are you seeing the average number of tests per patient start to reduce over the course of the half? Or is it still quite elevated?

No. It is actually still quite elevated. And so we haven't seen a change. And yes, so it's still at the same levels of where it was. Look, there are ways in which when we can offset this. There are some initiatives that we are discussing with the Department of Health at the moment, which may assist around how we better manage clinical disease management. So we will just have to see how those play out. And look, we think it is temporary. But it really is related to the volume of activity with GPs as people go to the GP and more frequently, they're more likely to order in smaller increments. But we'll just have to see how that plays out.

Your next question comes from David Bailey from Macquarie.

Just on Slide 10, I just want to understand exactly what we're sort of talking about is the $824 million to $766 million is that a cost base we should be expecting for the second half? Or is that something you're expecting to be realized on some additional initiatives have been concluded?

So look, the H1 '23 after cost reset, that is either costs that we have taken out to date, or they are costs which certain to come out because they are people with identified people or contracts signed with suppliers. So that's really the base from which we're working with now.

Is it more of a FY '24 run rate then as opposed to on second half '23?

Yes, yes.

Yes. okay. And just in terms of timing on some of the BAU stuff for FY '20, I mean, when should we be thinking about that being completed relative to expectations?

So if you look at the overall slide where we've got the different modules, so the -- in terms of the lab cut over, really by the end of this calendar year, we should have all modules cut over. We've got the results portal, which is going out in market in March, collections portal for our collection sites is currently being rolled out in Queensland and will be nationally rolled out. So look, over a progressive rollout over the next sort of 12 months. I can't see it being much more than sort of 12 months for the bulk of it from here.

And can you just remind us the benefits that we've talked to on the back of this change from a financial perspective?

Yes. So so it was $10 million to $20 million in benefits. I think we were part of the original capital envelope when that was out. And look, that comes in the form of when we're retiring the legacy system of Ultra, there's a sort of depreciation charge that sits there plus doubling up of resources. So it's mainly just in the cost of carrying 2 systems.

Your next question comes from Mathieu Chevrier from Citi.

My first one is just on your long-term EBIT margin target in Pat. And in Imaging, you were previously targeting margin improvements of around 300 basis points over time. Do you think that sort of target is still achievable once you return to, I guess, a normal run rate?

Yes. Thanks, Mathieu. Look, it certainly is. The greatest demonstration of that is when you look at what happened with COVID volumes even when we were getting an additional 10,000 tests a day and you adjust for the incremental fee coming through from COVID, you were still getting margins of around 18%, right? So that was a net about 5,000 tests a working day on the system. So absolutely, we expect as volume recovers, those margins are achievable. And in terms of imaging, my one call-out, which I have mentioned before is the Medical Centre segment. And so that continues to be a drag on the Imaging performance. And look, at the EBITDA line, it's not so noticeable. But when you get down to EBIT, it really is, because we've essentially got 142 sites, and those Medical Centre sites, which make up a chunk of that portfolio, just have a really poor revenue per site. So those contracts have still got a few years to run. But Imaging will be held back until we can resolve those Medical Centre sites. But looking to boost our community sites in imaging of them today are not fully comprehensive, and we see a big upside in looking at that for the community segment. So [ Centres ] the Medical Centres, the margins and the prospect around those for imaging look incredibly strong.

And then just in terms of being able to attract employees in the Imaging space. I mean some of your competitors have highlighted some shortages of staff not only in radiologists. I see that you mentioned that you have a new employment model that attractive for radiologists. Could you give us a sense of what sort of changes you've made and what sort of labor cost pressures you're seeing in that division?

Yes, look, great question. look, the change in model has been really marked for us. So previously, it was only a -- we're a facilities and services provider, and it was a revenue share agreement, which is okay for more established radiologists, but it limits your pipeline in terms of getting younger radiologists. And it also limits the work that is done in the hospital segment. So there are 2 pretty key elements of building up a business which has got a comprehensive portfolio, and a good mix of hospital and community work. So it's been pretty marked and so we're not quoting numbers in terms of what we've -- what our radiologists are and how many we've added. But in the last -- I think in the last 6 months, it's been something like 20, and it's been incredibly well received. So we're really happy with that. Having said that, though, it is correct that getting sonographer capacity is challenging. And so there are a lot of areas in our business where if we could get better coverage, we would be -- we've got waiting lists that we could fulfill. So it's -- I know it's not unique to us, but it's certainly a challenge, yes.

Your next question comes from Andrew Goodsall from MST Marquee.

First one, just looking at the sort of last 2 months of the year, it does look like you get your costs down about 15% relative to the overall 6 months. Just trying to understand how with your SIP and the 500 staff exiting how that -- what sort of percentage if you've got a sense of what percentage we might see that fall in the second half?

I think the FTEs versus the H1 '20 number. And then, look, we've got additional heads that are coming out, which we haven't given a headcount number for the second half. But you're right, we did take out a lot of costs in -- a lot of people costs in November, December, it was continuing to January, February and will continue for the next couple of months.

With that 15% or another 15% be reasonable, do you think? Or just -- I'm just [indiscernible] a run rate?

Yes, I think that's right. Yes.

Okay. And that's net, including SIP, I guess, and everything else?

Yes. Yes. So look, I mean, we've had to do more on the cost side with the SIP piece. I mean there are a couple of initiatives in there that we just -- we hadn't originally planned for. Most of them are what was originally planned, and I've said before, of areas which were not appropriate given the lab work that we had with COVID. And now that, that's sort of settled that's where that works mainly being focused on is in those original areas. And then the spans and layers work that we've just done around looking at, okay, we've got 2 businesses now. How do we consolidate across Pathology and Imaging. We do have support costs, which cover both areas and trying to bring all those costs together as one.

Okay. And Just, I guess, a clarification or any comments you can make on the second half D&A. Because obviously, you've got the movement in the impairment of leased assets and you've got some assets held for sale or I guess have now exited. You're just trying to get a sense of where that might land relative to the first half?

Yes. Andrew, it's down -- it will be down fractionally in the second half due to that the imaging but up a little bit -- but you've got offsetting up a little bit with the ACCs we've opened in the first half. So I've got us at about 133 for the second half, all up. So not much different really.

Yes, but just a bit of movement down.

Yes, small bit.

Your next question comes from Craig Wong-Pan from Royal Bank of Canada.

Just wanted to understand about restructuring costs. You incurred $3.8 million in the half, but it sounds like there's still a bit of restructuring continuing into the second half. Just wondered if you could provide any comments about what we might expect for restructuring costs?

Yes. So look, the first half, the smaller proportion was actually restructuring costs. There was a the contractual separation agreement from Malcolm is covered in that first half number, which is the bulk of that number, which we have to recognize upfront. And so for the second half, we're talking about $1 million to $2 million in restructuring costs.

Okay. Okay. It's not too significant. And then just a second question around CapEx, given you've got some new investment going into imaging, some other initiatives, too, could you provide any expectations for second half CapEx?

Look, Yes, maximum same as the first half. It might be a little bit less, but we'll just have to see how some of the initiatives come out.

Thanks, guys. I think we're going to close the call now. Apologies if there's anybody else on the line who wants to ask a question, but please give me a bell after the call. Thank you all for attending today.