Labcorp Holdings Inc. (LH) Earnings Call Transcript & Summary

Good morning, and welcome to the Barclays Virtual Healthcare Conference. This is Jack Meehan, the Life Science Tools and Diagnostics analyst at Barclays. And pleased to be hosting our first virtual presentation in the morning with the LabCorp team: CEO, Adam Schechter; CFO, Glenn Eisenberg; and IR, Clarissa Willett. We'll run through some Q&A over the next 25 minutes.

Adam, I'm disappointed in your -- this is our first conference together, and we can't be live in Miami, but I know we'll have other opportunities in the future, too. Just wanted to turn it over to you. I'd be curious if you could just weigh in maybe some of your initial learnings as CEO of the company. And I am also curious, what's the biggest change you've made since becoming CEO?

Yes. Sure, Jack, and good morning, everybody. Thanks for joining us this morning. I've done fireside chats without fires before, but a virtual fireside chat is a first, and I'm glad to be here to do this, particularly under these circumstances. Jack, I'll answer your questions specifically. I just want to make sure I remind people that during the discussion, we'll be making forward-looking statements that are based on our current expectations, so if people would review the cautionary statement regarding forward-looking statements on our website, it would appreciated. So with regard to LabCorp and my initial learnings, I would say, first and foremost, the scientific rigor of the organization has been impressive. As I've met more and more of our scientists and I've seen our capabilities, I remain very impressed with the work that we do and the way in which we do it. And I think our ability to have a coronavirus test, first, for commercial lab, up and running as of Thursday last week, is a testament to that. And our scientists were working for quite some time on building our own tests, but the fact that we were able to get that up and running so quickly, I think, shows our scientific rigor and capabilities. In addition to that, the number of tests that we do every year is just remarkable. We did over 500 million tests last year. That gives us a tremendous amount of data and information. And the question is how do we use that data and information as we move forward. I think it will come into play because of our unique capabilities that we have. When you look at the full continuum of work that we can do all the way from assay development and companion diagnostic development through all phases of clinical trial and then post-marketing surveillance work. So we have the ability to do things that I believe are unique across the industry of diagnostics and drug development. With regard to the biggest change since I've been in the role, I would say it's the launch of our focused strategy. This strategy has not changed. So I was on the board for 6 years, I was part of the strategy, part of developing the strategy. But what I've been able to do is bring a renewed focus on this strategy, and there's 5 areas that I have the organization focused on. The first one is to win in oncology. Oncology is the largest, fastest-growing segment of drug development and there's a significant amount of personalized medicine, companion diagnostics, that's occurring in that area. And I think that we have skills that will enable us to win big in oncology. The second is to continue to show the power of the combined. What I mean by that is showing how we can develop diagnostic and companion diagnostic capabilities and use that to win drug development, particularly later-stage trials. The third one is to use digital data and artificial intelligence in everything that we do. And that includes both back-office work that we're going to use data for, but also the way in which we interact with our customers and how we use that data and digitalization to improve the customer experience. The next one is improving the customer experience. We want to make sure that when people interact with LabCorp, irrespective if it's our biotechnology or pharmaceutical customers, if it's our consumers, our physicians, our payers, we want to make sure they have an extraordinary customer experience when they interact with us. And then of course, the last one is to ensure that we focus on the high-growth opportunities before us and that we fund those opportunities to ensure that we continue to have growth as we move into the future. So I've been very impressed with the LabCorp team. I've been very happy to get to understand the science that we do well. And I think that we have some significant capabilities to allow us to continue to grow in the marketplace.

Great way to start. I wanted to focus on kind of the here and now, the topic de jure is, obviously, the coronavirus. I was wondering if you could give us an update on how you expect the outbreak to impact the testing rates in your Diagnostics segment. And then just remind us of the operational exposure within Covance.

Sure. So first, I'll start off again by saying, I couldn't be more proud of the LabCorp team, particularly, our scientists and our operations teams that have been able to get a test up and running in the marketplace for the novel coronavirus. And we started to take orders and receive samples, Thursday, 6:00 p.m. of last week, and that continued through the weekend and through yesterday. And we believe that we will continue to do everything we can to build up our capacity as we move forward. In terms of impact, as I mentioned on the fourth quarter call, we believe that the range that we've given for guidance will cover what we currently believe the impact would be from the coronavirus. So there will be some pushes and pulls. We give annual guidance, we don't give quarterly guidance. But I do believe that there will be some things within the quarter that may occur, particularly when you think about our central lab in China, for example, where we had quite a backlog as China took an extended holiday through the New Year's, and therefore, that laboratory had a backlog. We're trying to work through that backlog. People are back to work in the laboratory. But whether that happens in the first quarter or second quarter is yet to be determined. In addition to that, in some of Asia, but also in certain parts of Europe, we've seen clinical trial enrollment slow down for a period of time. And we still have to wait to see the impact of that as we continue to see the coronavirus in other countries in the world, but we do believe that there may be some impact there. If you look at the diagnostic testing that we do in the United States, we haven't seen any significant impact of the number of tests or type of tests as we sit here today. But of course, we'll be watching that very closely. And when you start to think about people going in for wellness exams, for example, we're going to adopt this for routine testing. That might slow down a bit even as we see coronavirus testing go up a bit in the diagnostic area in the United States. So net-net, we still believe that we're covered with the guidance that we provided in the first quarter. There'll be some pushes and pulls across the business, and there may be some quarterly shifting. But we still feel, based upon where we are today, realizing it's still a very fluid situation, that we're within the guidance.

Yes, that all seems fair. It makes sense. Let's next just dive further into the Diagnostics segment and payer access. There's been a lot of change, which has taken place over the last year. I was wondering if you could just take a step back and tell me what you think you learned from the opening of payer networks over the last year, both plus and minus.

Sure. So obviously, there was the opening of several payer networks last year. But as we went through that, we increased our beliefs that our strategy of delivering the world-class diagnostics and the technology that we've used to improve the delivery of care is resonating with our providers. In fact, the decrease in organic volume growth in 2019 due to the managed care contract changes was less than what we expected. And I think that's a testimony to all that we do. And we saw the initial impact hardest in the first quarter of last year. We believe there will be some that will be annualized in the first quarter of this year. But as we go through the rest of the year, we don't believe that there'll be any other additional significant impact. And as we think about other managed care contracts as we go through this year into next year, we don't see any significant changes. So I believe that we've almost annualized it as we go through the first quarter this year, and we'll continue to focus on how to build our volume.

And then from there, we continue to see payers strengthening the incentives for consumers to adopt the best value options like the United Preferred Lab Network. Have you seen any benefit yet since that was implemented? And what initiatives are you putting in place to drive awareness of the benefits of the PLN?

Yes. So first of all, we are excited to work with United on the implementation of their Preferred Laboratory Network. It's still way too early to see impact. And we haven't built any material upside to the 2020 plan or guidance. United is starting to actively sell the benefit design, and majority of customers are under January 1, 2021 start cycle. But we are cautiously optimistic, I would say, that as consumers pay less co-pay, as they become more aware that if they choose the high-quality, lower-cost laboratories, that their out-of-pocket costs would be less. We believe that consumers are paying a more active role in their health care and that there could be a significant impact over time. And I believe others are watching closely. There's not a lot of other plants that have taken the approach or have been as aggressive, unnecessarily, as United. But I think as United rolls this out, if people start to hear or feel that there's an impact, we could see more people trying to move business over to the high-quality and lower-cost laboratories like ourselves.

Fair. Next, let's turn to PAMA. There was a big change end of last year with the LAB Act being implemented. Can you maybe just walk us through, in terms of the rate methodology process, what are some of the changes that the lab industry is lobbying for? And are there any structural changes that you think MedPAC can enact, which would help the situation beyond 2021?

Yes. So with regard to PAMA, we're obviously working with the trade association, ACLA, to review the data from the first couple of years of the PAMA implementation. That's going to help us to estimate how the outcomes might change if we tweak some of the PAMA requirements. So we're doing a lot of modeling, a lot of work to understand that. So for example, we're considering potential alternatives to the volume-weighted median standard for calculating the rate of each test code. That tends to overemphasize the pricing of large-volume labs. So we really do want to understand the methodology and the impact of that methodology and what it's had in the different areas. But again, this is ACLA through the trade association where the work is being done. We're part of it, but it really is the ACLA that's leading the charge on it. As I look at this year and into next year, in the base case, I'm assuming the same amount of impact this year as last year, which was about $100 million and then for the following year, 2021, I'm assuming about the same. If there are changes or if things do occur, that would be upside. But I just feel like we should continue to focus on what we know today and build our plan that will be successful based upon what we know today, and it will just be better if something positive happens.

Got it. Obviously, the combination of all these factors on the industry in terms of pressure has been really substantial. Do you get the sense that other regional labs and hospital labs are feeling this pressure harder? When do you expect consolidation to pick up?

Yes. So when you asked me about changes and focus in your first question, one of the things that we've done is put a very significant focus on the ability to acquire local laboratories or hospital laboratories. I believe that those are very good uses of capital for us. They're typically accretive in the first year, they return their cost of capital in 2 years, and we can integrate them really fast and provide high quality at lower cost. One of the big surprises, as I've started this role, is how long it takes to get those done. It's not like there's not a lot of discussions that we're having, it just takes a long time from when you start those discussions to when you actually can close the deal. But I do believe, as we look to the future, that these local laboratories and some of the hospital laboratories are feeling the impact of PAMA substantially and they are now reassessing whether or not they want to invest the type of capital that you have to invest as you need new equipment to stay current with the times. It's time to reevaluate whether it's the best use of their capital and the best use of their P&L to run those laboratories under the intense pressure that they're feeling from PAMA. So I'm hopeful that we will see more of these deals faster than we have in the past. But again, I'm not counting on the acceleration because I would have thought it would be faster as I came into the role than it actually is.

Yes, that felt pretty consistent. Last lab question is on the retail front. I wanted to touch on consumer strategy with the Walgreens partnership. Maybe just give your view now in the seat, what you think the 5-year vision, looking out with Walgreens, what that's going to look like in terms for LabCorp?

Yes. So we've got a very good relationship with Walgreens, and we continue to move forward aggressively. We have about 170 Walgreens that we're working on, either we've launched or we're in progress of launching. And that's a pretty significant number that we've moved very fast on. What we're seeing is an improved customer experience that when people come to our service centers in the Walgreens, that they are reporting a better customer experience than they would in our typical PSCs. We believe that Walgreens will see people that come in that otherwise may not have come in to their stores, because they want to have a drug or they want to have their blood test. And when they have their blood test, they'll do other things like shopping in the store. So I think it's going to be really a win-win situation for both Walgreens and for LabCorp. So we continue to monitor progress. We see more and more accessions per day happening in the Walgreens, but we're still not at the level where our typical PSCs are. So we want to see those continue to build and to show that we can have the same throughput at a Walgreens as we do in the other PSCs. So that's something we're watching carefully. And I know Walgreens will continue to monitor the impact to them of new people coming in the store and what that effect is. So it's a very strong relationship. We work very well together. We're making good progress, but we're still monitoring together the success of those stores. I believe they will be successful.

Yes, understood. Let's turn next to the Covance segment. So I wanted to start just about the divisional leadership. There's obviously been some changes since the fall. Just how are you feeling about the approach to go out and win customer business? And how hands-on are you planning to be now in the role, given your background in the industry?

Sure. So the first thing I would say is, overall, I'm very excited, and I feel very good about the team that I put in place, for both the Diagnostics business and for the Covance, the drug development business. I think we have a group of very strong individuals that come together and work extraordinarily well as a team. They have great functional expertise, so the people leading Diagnostics know that business well. And we have a very good functional expertise in the Covance business, where the people running that business know the business well. And the good news is they're now working very good together across the businesses to understand how we can maximize the power of combined. Specific to the drug development business, I feel very good about the leadership there. I am very customer-focused. I've always been customer-focused. I've always been involved in customer-facing organizations for the past 30 years. So I'm willing to engage with customers any time, all the time, because I believe that's a very important part of my role, is to ensure that particularly our biggest, most important customers are getting the type of experience that they expect from us. So you will continue to see LabCorp grow in our ability to manage our customers better than we have before, and I will play a significant role in that where it makes sense as we move forward.

And one of the factors that drove the merger of LabCorp and Covance was the ability to leverage the diagnostic data in terms of applications for the clinical trial process. Just wondering if you could give us a mark-to-market in terms of, maybe, some metrics around where you see pharma sponsors utilizing those data assets. And are there specific applications you're seeing come up in RFPs that you're responding to?

So I do believe that there is significant benefit to the data that we develop from our diagnostics and companion diagnostic capabilities, ultimately to drug development. And I think you're starting to see that more and more, particularly in areas like oncology, where, typically, drug development was you went from Phase I to Phase II, IIa to IIb, and it was very rhythmic and it took a long time. Now with areas like oncology and specialty areas, including orphan diseases, people are moving much faster than that. And understanding who's most likely to respond is becoming more and more important as our colleagues in pharma and biotech are trying to figure out how they're going to get reimbursement once they launch into the marketplace. So our ability to help them with the companion diagnostics and diagnostic testing and all that data, I believe, will help them not only enroll patients faster, but also help them develop the ability to understand who's most likely to benefit from the treatment. If you look at coronavirus, for example, it's a good example, where we've gotten the test up and running. We're doing a significant number of tests as we speak. But we're also talking to our colleagues in biotech and pharma and saying we do clinical trials. And there are many companies right now looking to do trials, either vaccines or treatments for coronavirus, and we've offered our capabilities not only from a drug development perspective but because of our vast capabilities in diagnostics. And we're in discussions as we speak. We'll see how it works out. But I think under all circumstances, our capabilities in diagnostics will pay off.

And then maybe more broadly, one of the themes with larger pharma is kind of the use of strategic partnerships. I was wondering if you've seen any changes in the way those pharma sponsors are approaching these partnerships. And are there any important renewals that we should be keeping an eye on in 2020?

Yes. So I believe that pharma is continuing to look at ways to maximize their ability to do trials with high quality, get great results, but also do them as fast as possible at a reasonable cost as possible. So therefore, that's why I think that our business is a good business to be in. I haven't seen any significant changes across the industry. I mean every pharmaceutical company goes through periods where they in-source more, they outsource more. But net-net, it's been pretty consistent, over time. And I believe that, that will continue to be consistent. No one large customer is that big in terms of amount of our total revenue in drug diagnostics, let alone as an enterprise. So I believe that the contracts that we have in place are good and strong but I don't have any significant concern about any one customer as we speak today. My bigger concern is how do we get more business in late-stage trials. We do really well in companion diagnostics, in Phase I trials and early work, and we need for that to actually turn into benefit in our later-stage trials that we get. So that's a big focus for us as we move forward throughout this year.

Makes sense. And then I want to go back to an earlier comment around the coronavirus. So in the Covance segment, you're guiding to mid- to high single-digit growth this year. How do you see the growth progressing through the year? And can you just elaborate on some of the comments around the central lab? Is that kind of the key exposure within the segment? Or anything around the site networks in China that you could weigh in with?

Yes. So again, as I stated earlier, there's pushes and pulls to what we're seeing. And it's still very early. We've seen some things happen in China and other parts of Asia, maybe parts of Europe, but things are still playing out in other parts of Europe and other countries including the United States. But what we've seen to date is that for our Covance business, we're seeing some backlog in the central lab, particularly in China, and we're working our way through that. We're seeing some slowing of enrollment in places in Asia, also a little bit in 1 or 2 markets in Europe. But we have to see if that continues and/or if that gets wider spread over time. But we don't give necessary guidance per segment. We give guidance as an enterprise. And when you look at the enterprise, we believe that there might be some continued growth in our Diagnostics business. And net-net, when you look at everything, we believe we're within the guidance range that we provided to you in the fourth quarter. And the guidance is basically revenue by segment that we provide. But if you look at our -- where we are today, we believe we're within the overall guidance of the corporation.

Great. Okay. And then maybe just going down the income statement. There's obviously been a big focus on operational improvement with the LaunchPad programs. Just as we look at 2020, are there any notable projects you would call out? And maybe walk us through the level of cost reduction you're looking for to achieve the guidance you've talked about.

Sure. And we've talked about cost reductions through LaunchPad for some time now, and we've increased those numbers over time. We currently have $150 million that we're looking for from one of our segments and $200 million from the other segment. And the timing is just a little bit different. What I'd say about that though is reducing cost is not a initiative. It will be something that we're going to have to do for a long period of time. I mean continuous productivity is just a way that you have to run your business today. So we are committed to that $150 million number and that $200 million number, but what I'm signaling is we're going to continue to look for ways to reduce costs significantly as we go forward. Whenever you go through any type of cost reduction program, there's initial cost that you can take out that are relatively quick and relatively easy. We did that in the first year of each of the programs. Now you get more into redesigning and thinking about how you can fundamentally change the way in which you run your business. So we're not only looking at the centralized groups that we have now that go across the business segments, but we're also looking to see other different ways to wire the business in order to get more efficiencies out of that. A big part of our program on digitalization, data analytics and artificial intelligence is not only to be more effective in the marketplace, but it should lead to us finding new ways to reduce cost as we roll those things out into the future.

Great. And maybe last question, if we're not cut off. Just given the environment, how are you feeling about capital deployment? Does that change your thoughts at all around use of capital either toward M&A targets or the pace to buy back?

Yes. What I would say is I think the team has done a very strong job over the last several years for the capital deployment. And first and foremost, we look for these hospital tuck-ins, these laboratory tuck-ins, there's nothing that I see today that will slow us down from doing as many of those as we possibly can. We generate about $1 billion in cash every year, so we have the wherewithal to do that. And then we'll continue after that to look at buybacks and so forth. But where we are today, I feel good about the cash that we generate, and I feel good that we'll be able to continue to do not only the hospital lab tuck-ins, local lab tuck-ins, but also the buybacks as we move into this year and towards the end of the year.

Okay. Well, thank you for joining us for the first virtual presentation. Thank you to the LabCorp team, and good luck with the calls today.

Thanks so much. All the best, everybody. Thank you for joining us.

Yes. Bye.