LifeStance Health Group, Inc. (LFST) Earnings Call Transcript & Summary

Great. Well, good morning, everyone. My name is Craig Hettenbach, I cover health care technology and providers from Morgan Stanley. I'm very pleased to have LifeStance CFO, David Bourdon, joined us this morning for a discussion. For disclosures, you can see the Morgan Stanley website, www.morganstanley.com/researchdisclosures.

So with that day, welcome. I thought we'd start just big picture, just behavioral health, right? It's a large and fragmented market and really led to dig into kind of what differentiates LifeStance from a model perspective as a starting point?

Yeah, sure. Thanks for having me. So first of all, from a big macro perspective, I think everybody is aware, the societal need for mental health care just keeps increasing. And that's both, I think, from the stressors that are in our society, but also the social stigma associated with getting mental health care is -- has been diminishing. And I like to use the example, I have four kids. They're all in their 20s. And they think of going to a therapist like going to your PCP, whereas my generation, there was more of a stigma. So you have more stress in -- stressors in society, leading to more people seeking care and then you have the social stigma decreasing. So the combination of those two results in this tremendous patient demand. And then it's a matter of like supply -- the clinician supply being adequate. So you have these tailwinds pushing that. So that's one big macro factor. The other than is as you mentioned, Craig, it's a very fragmented market. And historically, payers, both commercial and the government, have not reimbursed for mental health care at the same level as physical health care. And as a result, many, over half of mental health clinicians don't accept insurance. So they're cash pay only. And so you go -- now you go to the mission of LifeStance, which what we want to do is increase the access to quality, affordable outpatient mental health care. And the affordable piece is really important there because that is we define that as being able to use your insurance card. So we think -- we all -- our employers all provide insurance for us and our families. Well, okay, you're getting money taken out of your paycheck to cover that and you have a deductible dissatisfying all these things. The last thing that you should be doing is having to pay out of pocket for 100% of the bill for mental health care. And so that was the mission of the company. And the -- so you have all these societal tailwinds as far as pushing demand. And then it's even more so when you think about those that want to use their insurance card because affordability -- because last thing you'd want is affordability to be a barrier to care. So that's kind of the macro backdrop and how LifeStance fits into it and then how do we differentiate ourselves. So the first thing is we do accept that insurance card, 90% of our revenue comes from the commercial payers, various business lines, but within the commercial payers and then about 5% from government and then another 5% from cash -- from the cash pay where patient -- normally, they've been receiving care through insurance and then maybe they get dropped or whatever the cases is and they continue to care with cash pay. But those are -- those are our -- so that's the first thing. The second thing is that we're a hybrid model. We have both virtual as well as in person. And we have over 550 centers spread across 33 states. That's a big differentiator for us. Most of the expansion when you think of in-network care has been -- since COVID has been private equity-backed virtual-only providers. So being able to have both that in-person and virtual is a big differentiator for us. Next thing is we have the full spectrum of licenses. So on the therapy side, we have master's level therapists and psychologists. And then on the psychiatry or the prescribing of medications, we have nurse practitioners and psychiatrists. And that's a big attractor to clinicians to LifeStance because it's an opportunity for them to get holistic care for their patients. That's a problem when you're in the small mom-and-pop shops because you might have therapy, but then you don't have access to psychiatry or vice versa. And so having that full spectrum of licenses is a really big deal. And then the last thing I'd mention is that our clinicians are W-2 employed. We're not at 1099. That allows us to provide competitive compensation as well as benefits for our full-time employees and clinicians. And so that's something that differentiates us many are either salaried model or our 1099, we're going to hybrid in the middle and it allows us to kind of pull from clinicians that are cash pay only or salaried and they're looking for flexibility or things like that. And so that's been one of the reasons I think we believe our model has been successful. I said I'm mouthful there, but kind of ask for the macro and then the -- then what differentiates us.

Yes. No, it's good to set the stage and plenty of opportunity to dig in here as we go along. So, at a high level, you're growing, I think, mid-teens organically. What does the runway for growth look like for both the industry and LifeStance?

Yes. Well, we were just talking about you have this kind of the structural tailwinds pushing the industry, and then you have more tailwinds that are pushing in-network utilization. Because, again, people don't want to pay out of pocket and they're getting -- and they're frustrated by that, and they're letting their commercial insurance companies or the payers, no. So you have -- so you have those tailwinds. For us, we're continuing to deliver attractive growth in our clinician numbers. We're at almost 7,000 clinicians now. Our value proposition is resonating with them. And is -- like in the last 18 months, our growth algorithm is primarily a little bit of rate, a lot of clinician growth, which drives the visit volume. And then last year, we had some modest productivity improvements. So you're getting a little bit more visits from the same clinician population. But that's really been our growth algorithm. We expect that to continue into 2025. Again, low single-digit rate increase, and then we'll get the majority of our visit growth from the clinician growth. And then that will be from an organic perspective. And then as we get in -- and then anything we get in productivity would be on top of that. And then we'll start becoming more acquisitive next year once we've become free cash flow positive this year, and we strengthened the balance sheet. So you could see us starting to become -- starting to get some additional growth from an inorganic perspective.

Got it. I want to touch on just the hybrid model that differentiates versus, like you said, some virtual only and your footprint, you mentioned 550 clinics. One of the things that you and Ken did was just the optimization. And so kind of what led you to kind of look more deeply at your footprint? And then also, what are the financial implications that you've seen from it?

Yes, yes. I mean, first of all, it's common sense, right? We walked in and we had over 600 centers, we've been building centers at a clip of about 100 new ones a year, but we were at over 70% virtual. And so we -- what we did was we looked at the usage of our clinics or centers, which hadn't been done previously. And we looked -- we looked at the usage level, which in many -- on average was below 50% -- probably below 30% in many of our states. And so we looked at the usage and we looked at the proximity of centers to each other and what we are trying to do was we wanted to optimize the footprint with little to no disruption to our clinicians and our patients. And so what we did was we collapsed or consolidated where we could and we closed over 80 centers last year as a result, again with little to no disruptions to our patients. And so we did that. And then we've dramatically slowed the building of new centers. We built 35 last year and right now, we're guiding to less than 10 this year. And we really -- there's two -- when we're looking at building a new center, there's two reasons. The first is, it's a replacement. So you might be building a new center because you have an acquired center that's like an inefficient size or it's a substandard property or whatever the case is. And so we think of that as like a replacement de novo. And then you have the growth de novos because we have markets where we've been recruiting where there's enough in-office usage that you're like, okay, we're going to run out of space, and it's going to be a limiter to our recruiting, and we look 12 to 18 months out, and that's where we're selectively building growth de novos. And so that's really been our approach. It's resulted in some -- obviously, some rent savings this year, which we're seeing part of the improvement of the center margin improvement. That you're seeing in our margin -- overall margin improvement as a result of the initiative.

Got it. And can you touch on how many visits roughly are virtual today? And where do you see that trending? I know there's been a pickup in person post pandemic?

Yes. So think of it just a little over 70% is virtual and 30% in person. And another interesting statistic, which we've started to talk about is that the initial appointment in person is about 10% higher. So that's almost 40% is in person for that first appointment. Think of it as a patient is establishing a report with their clinician, and then depending on convenience, they may do virtual only or they might do a mix of virtual and in person. And that has been -- the in-person utilization has been slowly increasing. Over the -- I've been at the company a little shy of 2 years. It seems like it's just been slowly increasing. We're not sure exactly where it's going to settle out. But there are things in the macro environment that could accelerate in-person utilization. An example of that would be the prescribing controlled substances. And so there was a relaxation during COVID and the public health emergency that allowed the prescribing of controlled substance to be done virtually. Previously, it was a requirement that you had to do it in person. And the DEA is evaluating that and there's a chance that starting next year that, that might be -- that, that relaxation may expire and we go to the requirement of in-person for control substances. So whether it happens next year, like at some point, it's likely things like that are going to happen. There could be different state regulations that could require it. And so the great thing about our model is we're prepared for any of that. We can kind of flex in whatever direction the regulations take us. But there could be things like that, that could accelerate in-person utilization.

Got it. I want to spend some time just on the leadership and Board changes. The company had kind of a volatile time after the IPO. We've seen that more broadly across digital health. Both you and Ken come from much larger organizations, right? UnitedHealth, Cigna. So what are some of the things that you've done just from an organizational perspective, operating initiatives that have helped get you on a little bit more steady footing these days?

Yes. Yes. I mean -- I've talked about this about -- think of the company in two chapters. The first chapter was prior to Ken and I and really the focus was growth in getting to scale and it was heavy M&A, almost 100 acquisitions. And that was the focus. And then post IPO, it was 6 bad quarters in a row and growth wasn't going to get us to the destination that we needed to achieve. And so when Ken and I got here, we kind of shifted to the second chapter of the company, which is really more balanced, profitable growth, capital discipline, operational excellence. And that's been the second chapter. And to do that, we stopped M&A. So we did three small acquisitions in the beginning of last year, and we said no more acquisitions for '23, at least '23 and '24. And we did that so that we could really standardize and simplify the operation. So now we're on 1 EMR, 1 phone system. Just basics, right? Where we rationalize the real estate footprint. We rationalized the number of payer contracts that we had so that we could become more efficient, really doing things so that we could better scale the business. And then we -- it's people, tools and process. So some of the tools, we have a new credentialing onboarding system for our clinicians. We're in the process right now of rolling out a digital patient check-in tool. And these are basics. They're not sexy, cool stuff. They're things that we just as a good -- as to be -- run a good business, that's what we needed to do. Second on this is digital patient check-in tool. So prior to COVID, we were 100% in person. Then COVID hit and then we were almost 100% virtual. So we have tools for our clinicians to be able to deliver the care. So we have a great -- we have a patient NPS of over 85. I mean it's an amazing number of patients love the care that they receive. All right? Our problem was that we didn't build the tools and the process to do the administration of virtual visits. And that's been a challenge for us. So it creates tons of manual work. It creates tons of rework. And so it's a barrier to us being able to scale the business effectively in the future. So this digital patient check-in tool, the rolling out of our new operational model this year, establishment of roles, responsibilities, standard processes, things like that, these are all initiatives that are going to allow us to scale the business more effectively, and you're seeing that already in 2024 with the expansion of margins, but even more so as we get into '25 and beyond. And I think that's really been this second chapter focus that Ken and I brought.

Got it. Perfect. I do want to spend some time on growth and just starting with clinicians. You've been growing kind of mid-teens organically. Talk to us about just the LifeStance recruiting engine. What's attractive? You touched on some of this, but maybe we can elaborate in terms of what's attracting clinicians for LifeStance?

Yes. So first of all, if we -- when we -- Ken and I got here a couple of years ago, say the one thing that -- one area on the company that was firing on all cylinders was the recruiting engine. And we have a recruiting engine like no other. It's very established, operating really well, and it led to us growing net growth of over 1,000 clinicians last year from an organic perspective. So that's been going really well. So where do we get our clinicians from? There's 3 areas I'd point to. The first, as I mentioned, over a half clinicians today are cash pay, don't accept insurance. That's a tough business. Think of a mom-and-pop shop or an individual clinician, you've got to find your patients. You've got to collect. You've got -- if you're going to do any insurance now, you've got all of the requirements that a payer is going to have. So it's not an easy business and they're under significant duress, especially again as patients are less and less apt to want to pay 100% out of pocket. And so what's attracting those kinds of clinicians to a LifeStance model is just come to LifeStance, we will support you and you get to do what you really enjoy, which is deliver care. And so you can come to us and we'll do the administration, we'll find the patients for you. We'll do all of that. And so that's attracting -- that's what we're getting clinicians from the cash pay environment. The second one that I highlight is the opposite end of the spectrum, a salaried clinician. So you might be at a health system or there are certain mental health practices that have their clinicians on salary. The problem with that model is it's 40 hours a week. It's a very fixed time frame. And the only way to make that work is you've got to have really high production goals. And the mental health conditions don't -- like some just don't like that. And so they want benefits. They want those kinds of things, but they don't -- and compensation, but they don't like the inflexibility of a salaried model. And so they come to us where we give them that flexibility. They can work Mondays to Saturdays and they can work in the morningns, the afternoons, the evenings. They can take breaks during the day if they've got to get kids off the bus or like whatever their personal needs are. We give them that flexibility versus a salaried model. And then the third area that we attract is new clinicians out of school. And they haven't established -- they don't have a practice. It's really, really hard to get going in the industry. And so we attract those new clinicians. So that's -- those are the areas we get them from, again, some of the -- the reasons why we've hit on hybrid model, both in-person and virtual, the flexibility of ours, the competitive compensation, the full range of licensure of being able to deal with their patients holistically, I mean, those are a lot of the value proposition that we're offering these clinicians.

Got it. I do want to spend some time just on clinician turnover. If I go back to some of the bad quarters before you got there, that was one of the issues, right? And it's not LifeStance specifically, it's across the industry. We've seen it. The company since commented that it's stabilized. You don't report it necessarily quarter by quarter. But can you just talk about kind of what happened more importantly? Why it's stable today? And then is there an opportunity longer term, whether it's productivity, whether it's tools or providing clinicians to actually see that turnover go down longer?

Yes. Yes, I mean, so our retention like the last time we reported it, it was about 80%, and we've said it's been stable at that level. And we like to say it's stubbornly stable. We're doing a lot to try to improve retention, and it has not improved. Now, at the same time, we are doing other things to make the business more sustainable long term. So an example is we've increased the requirements for a clinician to be able to get equity or long-term incentive. And that's in response to our stock-based compensation for a company of our size is too much. And so it wasn't sustainable the program. So obviously, that's not a positive for the clinicians. Also, we are focusing more on getting clinicians that are full time. So that's 30 to 40 hours of availability a week is how we classify full time. And -- so as a result, we're requiring that if you want health benefits, if you want a matching 401(k). And last year, you got a matching 401(k), no matter how many hours you work. And so not everything we're doing is sunshine and rainbows for the clinicians. Like we're also -- so it's a mix. We're doing things that are improving the value proposition, but we're also doing some things that aren't viewed favorably by the clinicians to make the business more sustainable over the long run. And so all those things going on, net-net, we've been stable, we'd still like to move it north. We think that retention level north. So we think mid- to high 80s is going to be -- is a best-in-class. That's what we're shooting for. We are making enhancements this year around the staffing levels of our front office staff because that has a direct impact on both clinician and patient satisfaction. So that's something we're doing. We've changed our operating model so that the clinicians have a more clear line to operational and clinical leadership. That's part of the operating model changes we're making this year. So there's things -- there's other things we're doing, which will really take hold more as we get late in this year, end of next year, along with some of the tools that we're -- that were rolling out that we believe will be received positively by the clinicians. But only time will tell. I think that retention level is kind of a lagging indicator of all of the work that we're doing. But it is a big focus area for us. We don't make an investment decision without thinking about how does it -- does it directly benefit clinicians and patients? And those are -- that's the lens at which we evaluate everything that we do at LifeStance.

Got it. Want to shift gears just to the payer arrangement that you have. That was another initiative. You had a list of over 400. You've cut that by 30%. I think you're still kind of weaning that down. Why was that important operationally and as well as the economic value that you're seeing in LifeStance see in the business longer term?

Yes. I mean, the big thing is, we want to work with payers who value the services that our clinicians provide. And we also want to work with payers that are easy to work with. So from an administrative perspective. So an example is delegated -- we have delegated credentialing with a payer. We can have that clinician onboard and seeing patients within a month. If they're not delegated and we have to go through a process with the payer that could take 3 months. And so we're -- it's not just -- so it's not just about rates. It's about administrative ease. And so we evaluated payers on those, along with how much volume that we had with them. And so as a result, as you mentioned, we cut about 30% last year. We'll cut it, get another 10, 20 percentage. So think of it as probably in the end, we'll be somewhere around roughly half of the number of contracts with payers that we started with. But most of these had very little volume. And so we did this again just really from an administrative efficiency perspective. It's just less payers that we have to load rates into our system, less payers that our billing team has to be familiar with and deal with that our payer contracting [indiscernible] negotiate rates with. So it's primarily an efficiency play, but also again, wanting to work with payers that value the services that we provide.

Got it. I do want to touch on 2 quarters ago, part of the earnings call, there's a discussion on one large payer rates came down to market. So I want to give you an opportunity to talk about that. But also an opportunity, I think there's a lot of other instances where payer rates are coming up [indiscernible] much attention. So if you can maybe compare and contrast?

Yes, we probably talked more about the first and not as much about the rates going up. So look, 2 quarters ago, and I would remind everybody, as we were explaining a beat and raise, so we were not explaining a miss. As we're explaining a beat and raise, we highlighted that we had one large national payer who has significant share with us, whose rates will be going down significantly, and it's in various -- they have multiple business lines, and it was over multiple dates that this is happening. We said it would impact, especially the back half of this year and the beginning of next year. And the reason we did that was that we wanted to provide transparency primarily into the quarterly phasing of our TRPV, which is our total revenue per visit as well and therefore, also the adjusted EBITDA as you think about first half and second half of this year. We didn't want you to straight line what we achieved in the first half and think that was going to happen in the second half as well. And it was because of this one outlier payer. So that was why it came up again, an explanation of a beat and raise. The flip side of that is that we -- when -- as Ken and I came in, we talked about '23 and '24 being simplify, standardization and foundation -- strengthening the foundation, what we realize, we're both payer, payer guys. And we didn't have a payer engagement team. We didn't have a dedicated team that went out and negotiated contracts with payers, which just shocked us. And so that was an investment that we made at the beginning of last year, and that's starting to bear fruit. We saw TRPV increase in the fourth quarter of last year, and we've seen some nice progress in the first half of this year. We have TRPVs up about 4% year-over-year in the first half of '24, and that's the benefits of this payer contracting team that we stood up. And we're getting 5%, 10%, 25% plus rate increases from really the full continuum of payers. So it isn't just small payers that we're getting big rate increases from. We're getting them from sizable ones as well. Now there's also other payers that we have work to do, where we're not getting as big of rate increases or their reimbursement level isn't where we'd like it to be. So there's still a lot of work to be done but we're getting a lot of wins on the board, which is how we got mid-single-digit TRPV growth in the first half of this year. And the last thing I'll say on this is that we've had a lot of questions about the one payer whose rates went down. I've been at LifeStance not quite 2 years. That's the only one that went down. Every other negotiation that we've had, the rates have gone up, which is what you would expect in the mental health space. And with payers under -- they're under duress from their -- especially their employer clients, but also their members around access to mental health care. And so we show up -- we're helping solve a problem for them. And so for the most part, rates are continuing to go up, and they'll still go up this year even with this one outlier reduction and they'll go up next year even with the outlier just because we're getting wins on the board with the other payers.

Got it. I want to shift gears just to margin expansion. And when Ken kind of came on board, you talked about kind of exiting 2025 at 10%. Now that seemed at the time of weighs off, right? I mean, a lot of work do to kind of get there. So maybe just update where you are today in the confidence level of hitting 10%? That's part one. The second part would be longer term. I know you haven't given a target, but like, what is -- what are the operating levers to expand beyond 10 longer term?

Yes, yes. So if you take a step back, Craig, and you think about last year, at the fourth quarter call, we set out -- we gave like 3-year guidance. And we said mid-teens organic for '23 through '25, we said we'd be free cash flow positive in '25. We've now moved that up to 2024. And then the third piece is what you're referencing, which is we said we'd be at exiting 2025 with double-digit margins. And last year, we were at about 5.5% adjusted EBITDA margins. So that seemed like a really tall task at the time. And last year, we approved that we could deliver mid-teens organic growth, which, again, we had not done because we were focused on M&A and we grew revenue by 23% last year. So this year, our guide right now is at about 16% revenue growth. But coming into this year, the big question was, can you expand margins because we didn't really -- we didn't expand margins last year. This year, we have expanded margins attractively in the first half of the year and our full year guide is between about 7.5% and 8%. So a nice step up over last year. But now we get into 2025. We still have ways to go to be able to exit next year with double-digit margins. And next year, you should -- you will see the benefits of operating leverage. So you'll see more margin expansion from -- really from the G&A than we did this year. This year was more center margin. But you also will see center margin expansion as well as we have single-digit revenue per visit growth and growth in the higher revenue, higher-margin specialty lines like neuropsych testing and things like that. So we still have work to do. But I think we're proving that we can do the things that we said we would do when we gave the fourth -- when we gave that guidance on the fourth quarter call. Now in regards to beyond 2025, we expect to continue to keep growing margins. And the levers that will get us there in growing revenue per visit, which we believe once we get clearer this one outlier payer reduction will be in mid-single-digit revenue per visit growth as we get into 2026, that will be a big lever for us. The expansion of the specialty service lines will be a big lever for us and the operating margins -- the operating leverage. Those things that are contributing in '24 and in '25 will be there in 26 and for years after that. We have not provided long-term guidance, but we don't see -- there's nothing in the near -- in the coming years that we see as a cap or a ceiling on margin expansion.

Got it. Well, as we come up on time here and just wrap up, I would like to kind of -- we covered a lot of ground, just talk about kind of investor sentiment. And really, sometimes from a company perspective, there's the internal view, right, how you view you're doing? And then there's the external view. What is it externally that investors are still looking for are things that you think would be more apparent as you look to execute on the business?

Yes. I think -- so certainly, investors are, they're looking for us to continue to sustain the organic growth. And I'm getting now that we're in -- we're guiding to free cash flow positive, we were free cash flow positive in the first half of the year. Investors are asking a lot about M&A? And what does that look like in the future. And they're continuing to [indiscernible] your last question around EBITDA margins and like what is that going to look like as they're getting more confidence that we're going to achieve what we said we were, which is exiting next year with double-digit margins. But those are the -- those are the big things that we're getting a lot of questions on.

Great. Well, I think we're right of time. So I appreciate the time spent today, Dave.

Thanks, Craig. Appreciate it.