Humana Inc. (HUM) Earnings Call Transcript & Summary

Look, we're comfortable with 11% to 15%. Yes, yes. We're comfortable with the 11% to 15% range. I'm not prepared to say which part of the range we're going to be in. Clearly, I think we've demonstrated, as you said, over a number of years that we've actually, I would say, grown above even with the taxes, grown above the EPS target of 15% over a multiyear period on a CAGR basis. Certainly, our goal is to get to the higher end of that range. I'm not going to commit on this call because I just don't know what the rate environment is, the competitive environment is. But we feel good about our 11% to 15%. We continue to reiterate that. I think we have delivered that to investors. And so we're focused on it. Now you pointed out rightly our health care services business. If you look at just our guide in 2020, although I'd say there's a bunch of moving pieces because of COVID, but nonetheless, we've had a really good year in health care services. We have a pretty healthy EBITDA guide '20 over '19, just on a sort of guidance to sort of '19 full year. I think when you roll this forward to '21, you also see some nice EBITDA improvement there, too. And that's driven by what you said. I mean one is our provider business, particularly Conviva, which are our established clinics, I think, are really starting to perform and getting to a margin that we feel better about. There's still a bunch of work to do, but that was an amalgamation of multiple acquisitions we've done over a decade, and I think the team is really focused on and starting to create value there. I also think on the pharmacy side, you're seeing a nice increase in mail order penetration as well as volume just from greater membership, notwithstanding the PDP variability that we've had, but strong MA and then penetration within that MA book, coupled with the fact our cost to fill on our pharmacies continue to get better. So I think there's just a lot of opportunity there. And then there's also the Kindred, 40% that gets consolidated into that services business. And that's also been growing at a really nice EBITDA, notwithstanding some of the COVID stuff. So all in all, I feel good about how our services business is positioned. I think you're going to see nice -- continued nice EBITDA growth in that segment, and we're committed to driving that.

Great. I do want to talk more about that, Brian, specifically so you mentioned Conviva, for instance. Off the top of my head, if I remember correctly, what is that, about a $2 billion position top line?

Yes, a little bit greater than that, but you're in the ballpark.

And I think the last thing you've said is that it's gotten to breakeven, maybe slightly profitable.

On an EBITDA basis, that's correct, yes.

Okay. And what's -- there are numbers all over the place, right? Where for Oak Street has 20% plus target margins at a mature business. It looks like United runs about 10% in the physician groups, give or take. What's a reasonable number to target? When you sit down with those folks at Conviva, where are you trying to get that business to versus kind of breakeven, slightly profitable for that?

Yes. I would say on a fully allocated EBITDA basis, so not at the center level, true full allocation because that's how we look at our business because these businesses have a bunch of incremental costs that aren't necessarily at the center level. I would say high singles, low doubles is kind of a reasonable thing to think about over time. And that's certainly the goal of the team. And that's at a mature -- that's when the business is mature and all the clinics are mature, et cetera. Some clinics are going to run a lot less than that as they're ramping up. So your blend will probably be a little bit less. But Conviva is not opening a lot of new clinics right now. It's mainly in sort of turnaround mode. And so I think there's opportunity there.

Got it. So we're looking at maybe a 10% margin on north of $2 billion of revenue, even maybe $200 million, $250 million of pent-up EBITDA there. Is there a viewpoint of where -- the time line to get there? What's keeping you from getting there given the current environment?

Well, I think it's a lot of work. I mean these clinics are not easy to get every single one operating where you want them to be. There are going to be some clinics that run very well, some clinics that don't run as well, and that's going to be true in any clinic business. Part of it is getting -- making sure that the clinics are full. So you have some clinics that probably aren't running where you need to, and so you need to consolidate some. So we've certainly done a bunch of that because you want a full clinic because it's a pretty significant high, I would say, high overhead model just by definition. The reason why that you're able to drive the MERs is [indiscernible] ours because the care model is very intense. It's team-based and see a number of people involved in the members' care, but that's expensive if you don't have enough membership there. I think there's documentation questions and the ability to make sure that you're documenting the members' conditions appropriately so that you can then treat them. And that -- we find that actually when your risk score goes up, your cost PMPM go down in the best-run clinics. And that's because you immediately identify the disease and you treat it. And so you get sort of a double whammy, which, by the way, is the goal of risk adjustment, right? It's the pay for the risk you're taking, but also get people to run to that risk because they can do well with it. So I think there's work we need to do in some of those clinics. I think, frankly, there's work across the industry inside and outside Humana to follow the risk score with better clinical PMPMs and then get to a scale where your admin loads are supportable when you have a full clinic. So I think there's a bunch of work to do. I think the guys have made a lot of progress at Conviva. I'd still say it's going to take some time to get to where it's really humming. But the EBITDA increase has been meaningful, and I think that's been an important contributor to our EBITDA growth over the last few years in the services space.

Got it. And let's talk about that clinic model for a minute. You entered into a joint venture partnership with Welsh, Carson to grow out your own clinic model there. And I think that it's certainly exciting. But when we look at that, the clinic model that's out there, Oak Street is the one, obviously, that people focus on. A tremendous amount of excitement there from investors, trades in a multiple that one day, Humana, I assume, aspires to, but it's certainly pretty significant. And then I look at you and obviously, you're excited about the business, but clearly, you must see something that a -- that we maybe need to think about in terms of puts and takes just because, obviously, you decided to break it apart, right? You certainly could have funded this yourself, but I know it would have driven a little more earnings volatility. So I think you're in a unique position to maybe give us both the -- both the glass half full and the glass half empty view of how these things ramp up and why you decided to bring in a partner to help you with this from a funding perspective. So do you mind sharing your thoughts there with us?

Sure, no, it's a great question. I think we're very undervalued relative to Oak Street, I would agree. And when you start saying we should trade on a revenue multiple, we're -- I'm looking forward to that day. And I think that's fundamentally the difference. They trade on a revenue multiple, we trade on an earnings multiple, and we actually have to generate earnings to get value, which I think is frankly right. I think businesses should have to earn a return for their investors in a reasonable period of time. And so the challenge with these businesses is that when you take risk on day 1, you're going to have a cash flow/earnings burn which is not immaterial. And if you multiply through by a number of clinics, you can get to a pretty quick burn right away. I mean you can look at the income statement of some of these companies and see that they're burning through cash pretty, pretty quickly. And so that's something that we weren't prepared to do. And so we thought bringing in a party like Welsh, Carson, where we have the ability to bring them back on balance sheet when these assets are mature, was a nice way to thread the needle and effectively use their capital, let them take the burn so that we don't. I would say also that Welsh, Carson brings a wealth of knowledge and experience and outside discipline that I also think helps us be better. And so as you know, we're pretty open to partnering with private equity. We've done it in a number of circumstances, Kindred being obviously the biggest example of that. But we find our partnerships with private equity, they have their unique attributes for sure, but ultimately, I think, make the company better. These guys are very focused on driving returns, and I think they provide a discipline that's helpful. So I think the combination of sort of their discipline and expertise as well as the capital to allow us to frankly expand faster because we're big supporters of this model because of the outcomes they create, that creates, we thought this was the way to go. And so far, so good. It's been -- we're through our first cohort with Welsh, Carson. We've started the second cohort planning with them, and I would say everyone is pretty happy with the way the relationship's gone. The last point I make is when you look at where these companies are trading on a revenue basis, we feel really good about our ability to bring back our assets on balance sheet at much more affordable multiples, which I'm sure Welsh, Carson doesn't like to hear, but they'll be fine. So we feel pretty good about the relationship there.

Right. Can you share with us how long is the ramp in your mind in terms of where they become cash flow positive? And is that when you bring them on? And then can you share with us what multiples kind of you would be bringing them back at?

So I would just say at a significantly lower multiple than what's currently out there. But I would say, typically, it's, call it, 4 to 5 years where they start really breaking even and start turning a profit and sort of after that where you get the nice return. Some clinics go faster because you're able to fill them up more quickly. And these are, to be clear, I'm talking about full risk Medicare Advantage-focused clinics. I think there are different models out there, but I think that's an important distinction. And so it does vary by clinic. But I think that's, call it, a 4- to 5-year time frame where you start earning a positive return. Sometimes it's shorter, sometimes it's a little bit longer.

Got it, got it. And while we're talking about Healthcare Services, the -- your Kindred partnership or that acquisition, either you're going to have the opportunity to buy in the remaining 60% of the business at a pretty reasonable multiple. How do you see that growing? And what has it done for your business in terms of how -- if you would think about your most integrated market there, how would you kind of brought that -- has made a difference in your kind of ability to drive care management in your Medicare Advantage membership?

Yes. And this is, as we've said all along, this is a multiyear transformation. It's going to take a while. We had to sort of separate out the businesses, get a management team fully focused on driving some of the clinical outcomes that we've mentioned, get an IT stack and converting the IT stack at the care home base just to get the basic workflows going, which we can then connect back into Humana. So there's been a bunch of work the teams have had to do. But the idea is to, as you said, have a sort of an ecosystem in a local market where you're coordinating with the home health nurse, with the primary care doctor, with other sort of clinical services in the post-acute world, both in the home and outside the home. And you've seen different investments we've made, whether it's in Heal or Dispatch where you're creating sort of a medical ecosystem within the home that we're pretty excited about. I think there's a ways to go. But I would say that the Kindred at Home side has performed as we've expected from a clinical development point of view. From an EBITDA perspective, it's also done well, which was another reason why we did the structure we did was so we could make sure that there were people focused on the day-to-day sort of fee-for-service business to make sure that the value of the assets stay in good shape, while we could focus on the transformation. And I would say we're in the early innings of that transformation. You will continue to see us make investments like we've done in Heal. And -- but we're very pleased with the Kindred investment. As you mentioned, the multiple -- the put calls at 11x with some adjustments, but assets are trading at double that level today. And so again, we feel good about the deal we struck. And I think there's a lot of good stuff we can do. Kindred effectively could be what we call sort of an anchor tenant in our network where we can provide sort of a top-level sort of home health, what we call MSO, where we're effectively managing the post-acute space in both on the utilization management side as well as the care management side. And you think about Kindred as a downstream provider that allows us to do all the things that we want to do. It's kind of analogous to the primary care space where you have a risk-taking entity and then you have downstream doctors that you provide all these capabilities and technology to that allows you to get better clinical outcomes. Obviously, this is in the post-acute space, but we're excited about the potential that Kindred brings and all the sort of services we're going to surround it with over time.

Got it. The -- just going back to Medicare Advantage for a minute, your growth in D-SNP you talked about has been really significant. The -- there's -- I think you talked about this before, but there's a potential that at some point CMS in the States are going to force integration there between the Medicaid side with the dual and the Medicare Advantage side. And I know you started -- you've kind of pushed for years and you've had some success in growing that Medicaid business organically. But certainly, it seems like your footprint is wider in D-SNP than it is in Medicaid. And that adds some risk if the states ever starts trying to integrate that where you need the Medicaid contracts. So one, there has been a number of smaller Medicaid assets trading that would seem like reasonable multiples. And it seems like one company in particular is grabbing most of them. And I'm curious, given your acknowledged need for a broader footprint in Medicaid, why you haven't been participating more aggressively.

Well, look, I think you're right in that we continue to look to expand our Medicaid platform. We do have D-SNPs that are sort of beyond our Medicaid footprint, obviously. Our Medicaid footprint right now is Florida and Kentucky and Illinois, a small sort of duals ABD participation. So we are mindful that I would say that convergence has gone more slowly. And that I think there's a less -- it's less pressing than perhaps it was at one point. But still definitely top of mind, and you'll see us bid in a number of states, at least a few over the next few months where we actually feel good about our chances. We're disappointed that Louisiana canceled the contract. We felt really good about that. And you've heard me say, you can check out the scores that Louisiana published, and we beat the various public players pretty handily. And so it's for us, it's less a question of capabilities than it is of sort of procurement and distribution and getting the opportunity to participate where we think we'll win our fair share. We have looked at acquisitions and some of these tactical deals you've seen. Some of the prices that are being paid or just we're not prepared to do it, just the returns -- the returns on capital don't work for us. And so we'll continue to be disciplined, but we will look. We have looked and people know to call us if there is a Medicaid asset that's out there. And I would also say we're aggressively prospecting, looking for sort of those tactical fill-in deals in various states.

Got it. And from a capital perspective, the -- how are -- is there anything we should be considering as you look ahead? I mean, obviously, you generate a bunch of cash. I know the first call on net cash is always funding your own growth. You have a CapEx number that's materially above your depreciation, so you're continuing to invest in the business. I guess, one, any thoughts on that CapEx number, it is fairly material? Is that a number that you think is going to need to continue to grow over time? And then two, it looks like you've been pretty consistently doing a pretty -- a meaningful share repurchase usually via an ASR and continuing your dividend. Any thoughts on capital back to the shareholders in terms of maybe dividend versus that ASR? Should we expect it to kind of stay similar?

Yes. On the CapEx side, I would say that we are committed to investing in our business. Health care is changing rapidly, and we believe we've been on the sort of front end of the innovation of health care. And we think part of our value prop is to continue to do that. That allows us to grow the way we have, both top and bottom line. So you will see us to continue to invest in that. A lot of that CapEx that we're spending is around technology, not surprisingly. We're converting to the cloud, working with Microsoft. It's an extensive proposition. And so that's certainly part of that. There's also a lot of P&L burn in that as well. But it's the right thing to do, and we believe it's important if we're going to be -- you basically have the clinical model we need to go to the future here. So you will see us to continue to invest in the business, both capital as well as operating expense that you don't necessarily see directly in the P&L, but it's there. And so therefore, when you see those declining [indiscernible] shares that we've been very focused on over the last few years, a lot of that is just taking out sort of core cost stuff that's redundant so we can fund some of the new innovation that we think is so important. With respect to other capital deployment, I think you're right, we do like the ASR form of getting dollars back to shareholders. We're committed to that. I think you'll see us continue to do that. We think it's an important part of the value prop we provide to shareholders. And we have, on the dividend side, continued to increase our dividend. We are in high-growth mode, and so there's funding the growth from the MA side, it's expensive. It's $12 of capital for every $100 of premium we write. So that's the [ fund ] insignificant number as we continue to grow. And as I said, we're funding all these other innovations. So we're very mindful of making sure that shareholders get some dividend returned, but also trying to balance that with the need for cash flow to invest in the business.

Got it. And look, we're 5 minutes over. I want to squeeze in one more question, and I'll thank you for your time. Your commercial business, right, I noticed it bounced around all over the place. I know it's a place -- it's obviously the tail, not the dog. But the -- I've seen you guys report numbers anywhere from 0 to closer to breakeven up to the $300 million or $400 million of profit in a good year. Any way, any help you can give us in terms of where to think about in that range? Is it closer to a breakeven business next year? Is it in turnaround mode? Or anything you could tell us on what you think normal earnings are in that business and as you look out even 2 or 3 years?

Yes, and I think you've characterized it right. Remember, there's 3 businesses inside that segment. There's the commercial traditional group medical business, there's the specialty business and then there's the military business. And I would say the specialty business is in growth mode. The military business is pretty stable. It's an ASO contract today, though we're gearing up for the next procurement. And then there's the group commercial business, where the teams have been very focused on, I would say, a turnaround there where it hasn't gotten the attention it deserves. And I think we have an opportunity there to disrupt the commercial space. As you've heard me say, we have a lot less to lose there, and so we think employers are looking forward for different solutions. We partnered with, I think, really far thinking companies like the Accolades of the world to help us create a product that's pretty compelling. So I do think -- and I would say also, this year's pandemic didn't help matters just because of all the craziness we've had to deal with, with the employers, and so it's harder to make the pivot that we want to make. But we brought in some great talent into the business, both at the sort of corporate level as well as at the market level. I think it's going to take several years to get this where we want it to be. I think next year will be fine. I don't expect any meaningful changes in the performance there. We're focused on where the membership levels are. But I think over a several-year period, we really hope and expect that the pretax profit will grow and get to a good spot. So -- but I'd say it's a multiyear play. And I would have said that had the pandemic not happened, we would have taken more ground for 2021, just on the earnings side, but it's a little bit more challenged because of the pandemic.

Got it. Brian, I really appreciate all the color today. Amy, thank you for all the help as usual. Everybody, have a great rest of the day. We've got plenty going on today at the conference, and I'm always here if you need anything. Keep safe, and thanks again.

Bye.

Thank you very much, Justin. Take care. Bye-bye.

Take care.