RadNet, Inc. (RDNT) Earnings Call Transcript & Summary

All right. Great. We're going to get started with our next session here. I'm Steven Valiquette, the Health Care Services Analyst here at Barclays. Next session here will be with RadNet. With us from the company, we have Mark Stolper, the company's CFO. And this will be a fireside chat. So I think with that, I guess we'll just go ahead and dive right in.

Sounds good.

All right. Great. Just kicking things off RadNet and also however the hospital space as well, there's been obviously a pretty well-documented shift in volumes from the inpatient to the outpatient setting. That's been a tailwind for you guys for multiple years. Maybe just start with some -- few minutes here talking about some of your JV structures with hospitals and what you maybe update us what you said in terms of new JV through 2023 and 2024.

Our hospital's JV business is really an outgrowth of that shift that you mentioned in your question of volumes leaving the hospitals in favor of lower-cost freestanding and [indiscernible] What's happening in radiology is not unique to health care. You've probably seen it in all the other disciplines with urgent care centers, surgery, outpatient surgeries, home health and the like. And the hospitals that are losing business, many of the more entrepreneurial, forward-thinking hospitals, realize that they're fighting against an inevitable trend. Therefore, some of the more forward-thinking hospitals are looking for a strategy that gives a long-term viability in diagnostic imaging and one of those strategies is to partner with an outpatient player in that market have already either has assets or has the expertise to run outpatient centers efficiently. And so we've seen much more demand from hospitals looking to have these partnerships. Today, 119 of our 357 centers are in joint ventures with some of the larger hospital systems in our markets, including the likes of, on the West Coast, Cedars Sinai, you've got -- we've got MemorialCare, Adventist Health, Dignity Health on the East Coast. We have a statewide joint venture with the RWJ Barnabas system in New Jersey, University of Maryland and a number of other prominent health systems. And they're valuable to us and valuable to them for a variety of reasons. From RadNet's standpoint, hospitals become instrumental in driving incremental volumes to now our jointly owned facilities. In the past, some of those volumes were going into the hospital and their outpatient departments. Now they're directing that business to a jointly owned centers. So we see an improvement in the economics and the volumes of those jointly owned facilities. Secondly, the health systems can be instrumental if needed, in helping us establish long-term fair and equitable pricing. We've had to use that leverage once or twice when aggressive payers have kind of come our way to look to lower our costs. And I think that, that has been very valuable to RadNet and will continue to be valuable. From the hospital standpoint, it gives them a mechanism to recapture revenue that they have lost and will continue to lose as the payers become more aggressive in trying to move that business out of the hospitals through plan designed through pre-authorization departments -- through pre-authorization efforts as well as, as patients have migrated more and more frequently to higher deductible health plans. The patients are becoming more educated as to the lower-cost settings to get their work done. And so we think that this is a growing -- or it is a growing aspect of our business. And we've said publicly, and I'll say it again here that we think in the next 3 or 4 years, we think north of 50% of our centers could be in health system joint ventures.

Okay. Great. Just kind of shifting gears here a little bit. When you talked about the positive influence that payers have had in shifting volumes to lower cost settings because that's pretty obvious anybody follows managed care. But the -- I guess I'm curious that any specific reimbursement adjustments that investors should be aware of '23 and then there's any read for '24 at this stage, but just any changes that maybe you're keeping in your eye and that might impact the reimbursement beyond '23?

Yes. So Medicare from 2015 through 2020, those 6 years have been very stable reimbursement in our industry, and that comes on the heels of a period in about 8 years where Medicare really targeted diagnostic industry as the growth in advanced imaging, the growth in the number of centers created significant cost inflation for Medicare. As the number of centers in this country have curtailed, I think the peak of the data that I have seen was in 2012 was the greatest number of imaging centers that existed out there. Medicare has really kind of laid off our industry. Having said that, about 2 years it was 2 or 3 years ago, Medicare increased reimbursement for these E&M codes, evaluation and management codes, which increased reimbursement for primary care docs family practitioners, and they did it on a budget neutrality basis. So they took the conversion factor in the Medicare fee schedule down for every other specialty. And so we have faced a phase-in of that cut over the last couple of years. For us, in 2023, we estimate that to be a $6 million to $8 million revenue hit, and we think that there might be 1 or 2 years of additional phase in of that cut. But it wasn't targeting specifically diagnostic imaging. In terms of the private payers and just to level set, Medicare is about 22% of our business. So we're much more concerned as an entity about what we can do and how we could impact the rest of our business, which is the other 78%, most of which are commercial contracts. And our strategy has always been to be an indispensable or grow to be an indispensable provider in the provider network so that if we were to leave that provider network that would create access issues and quality issues. And a lot of the volumes that we would do would find its way back into the hospital at costs that are 2x the buybacks what we charge. So we've gotten to that level of scale in most all of our markets with the exception of Florida, where we're a small player in Arizona, where we're continuing to build out our network, and that has allowed us to create not only stable pricing over the last 5 or so years, but also we're getting some nice increases from the private payers as they recognize that we're really at their partner in trying to drive the business out of the hospitals into the lower-cost settings. We have over 200 marketing reps that go from a physician office to -- physician office and market our services against the hospital and the private payers recognize that we're being effective in trying to drive that business just like they are at the hospitals into our freestanding settings. So they're not concerned. They don't seem to be concerned about whether they pay us 2% more or 2% less it's really how do they get the business out of the hospital into the freestanding centers.

Okay. Okay. Thinking about your volume growth and just thinking about growth of just overall patient volumes and/or surgeries in the U.S. market and what that means for radiology demand, just curious, remind about just kind of where you stack up on your current volume base versus your pre-COVID baselines. And let me stop there, and then I have a follow-up kind of tied into that.

Sure. I mean I think like every other provider, we were impacted significantly during COVID. We had at one point furloughed 3,600 employees. We had closed down 109 centers, which at that time was about 1/3 of our centers temporarily until that volume came back, and we hired almost all of those employees back and reopened the centers. Since COVID, and I think there may have been some pent-up demand right after COVID kind of late in 2020 going into 2021. But at this point, we're not seeing any pent-up demand from COVID that have the demand for our services, our increase in volumes really is just a function of the continuing migration of hospitals into freestanding centers, our own efforts in capturing market share vis-a-vis our competitors and our own expansion. I mean, we're at this point, building 15 de novo facilities that will open up throughout 2023 and early into 2024. We're expanding a number of our hospital joint ventures, which we'll be excited to talk about later on in the year. We will likely have established new joint ventures during this year. We continually have an active M&A pipeline of small tuck-in transactions within our markets, which are highly accretive and where we have very little competition from others in going after these targets. So there's a lot of reason to be very optimistic going into 2023. We came off a very strong quarter in 2024, where we had record volumes, record revenue, record EBITDA. That -- those record volumes seem to be [indiscernible]. We had record volumes in January and February and assuming good weather conditions or continually good weather conditions in the East Coast. We'd expect the first quarter of this year to also be the top quarter.

Okay. Great. I think just digging deeper into '23 guidance, I think you guided for 3% to 5% same-center growth for the year. Maybe just help investors unpack that a little bit more with some of the embedded assumptions or components that are driving that growth.

Sure. And it's not something extraordinary, honestly. We've been growing 3% to 5% organically for many years with the exception of the COVID period and a couple of years after the credit prices in 2010, '11 time frame, that's -- the industry is growing. I mean depending upon the research we read out there, we think that the routine imaging, which is the x-rays, ultrasound and the mammography, which represent 75% to 80% of what a normal population needs with respect to its imaging. That's growing kind of at the rate of population growth. And then you've got the advanced imaging, MRI, CT and PET CT that are growing more quickly, probably in the low single-digit rates, which is a function of advances in technology and the equipment, advances in contrast materials, radioactive pharmaceuticals, faster scanning times, which -- greater throughput and capacity as well as physician awareness, patient awareness. And so we think that the industry itself will continue to grow. We'll grow with it. We'll continue to take market share from our smaller players. This industry remains a very fragmented industry. There's very few players that are upscale like RadNet. And so I think that there's no reason to think that the industry won't grow, that we'll continue to take market share to predict 3% to 5% same-store sales growth for us seems to be very achievable. If you look, there's a slide in our investor deck that shows the last 14 years of our history, and we've averaged about an 8.5% compound annual growth rate on the top line, which is a function of that 3% to 5% same-store sales growth plus inorganic growth, such as M&A opportunities as well as the expansion of hospital joint ventures and de novo facilities. And we think that, that 8% to 9% growth is continually achievable as we move forward.

Okay. I think to the answer to the prior question, you made a comment on the first quarter. We're asking every company whether the payers or providers, just how things are trending so far in calendar '23 if you're able to opine on that. But just curious, maybe build on your comment kind of what you are seeing in the first quarter, volume-wise, just are you able to give any additional color would be great.

Yes, sure. I mean first quarter tends to be our most challenging quarter as the reset of deductibles occur, there tends to be lower utilization in general of health care services. Additionally, 45% of our business is on -- in the Northeast Mid-Atlantic region, which tends to have some weather impact. Having said all that, we've seen record volumes in January and February. We've been blessed so far. Is there any wood around second knot on it with very good weather conditions in the Northeast. Additionally, if you remember, last at the end of December of '21 going into January of '22, the Omicron wave of COVID and -- that was a double impact for us, both on the cost side as well as the revenue side in the first quarter of last year because we reached our peak in terms of the number of RadNet employees that were out on COVID leave, about 8.4% of our employees during the first week of January last year were out on COVID leave. Right now, we've got very few employees out, less than 0.3% of our employees out with COVID. So not only did that raise our costs last year because we had to rely further on temporary staffing and paying over time to the existing employees that weren't sick last year, but it also impacted our ability to staff our centers fully to meet the demand that we had. So I would expect that relative to last year's first quarter that we have a pretty good quarter this year.

Okay. Great. And I think further upside to 23% guidance could come from incremental staffing improvements throughout the year. Maybe just remind investors kind of what you baked in the guidance around the level of improvement, but also just any updates on snapping trends, contract lab utilization, if it makes sense to break it down geographically or not, but probably not maybe for this the context of this discussion. But just overall, maybe remind investors kind of what's baked into guidance and could there be upside based on what you care for?

Sure. I mean staffing was a challenge for us and really starting in the second half of [ 2021 ] really as we emerge from COVID. And last year, it probably hit its peak. It's worse in September where we had upwards of 800 unfilled positions that we're looking to hire talent for. And since September, it seems to have stabilized significantly. We've been much more successful in filling open positions. We've beefed up our recruiting, our talent acquisition teams. The market seems to have softened a little bit. It doesn't mean that we're able to hire employees at lower rates. There has been a structural shift and unfortunately, in terms of the way that we have to pay our employees. And so we -- the good news is that it seems to not be getting worse. It's still challenging out there, particularly for technologists who are in great demand, both from hospitals as well as other imaging centers. And we have -- in our budget, in our guidance, we've embedded $17 million of additional salary benefits and wages, which is simply annualization of increases that we gave to our own staff last year 2022 or new staff that we brought on in '22, and that's the full year impact of that. Plus, we had embedded over $5 million of additional cost of expected wages increase, merit-based increases that we will give in 2023. And so we think that, that's conservative. And so hopefully, I think what we've moved to is just a structural change in the cost of labor and the cost of doing business, but it doesn't seem to be getting worse.

Okay. Great. Maybe just shifting gears here a little bit, but talk about some of the inorganic growth for a moment. You guys have highlighted that I think tuck-in M&A is still part of the growth algorithm for you guys. I think earlier in our discussion, you talked about there's really no more heads up demand in the overall health system per se, but you also I think from time to time, you talked about M&A being focused on markets where there appears to be some backlog. Maybe just if that's still relevant or not. Maybe just talk about what you are looking for in your criteria for M&A targets.

Sure, sure. Certain acquisitions have been a part of our strategy really since our inception. We have found that the most accretive transactions are the ones that in our markets that generally we can buy it somewhere between 3x and 5x EBITDA. There's unique synergies and efficiencies with centers when we buy them in our own markets. We can eliminate employees. We can centralize call centers, pre-authorization departments, scheduling, we can have techs that float amongst facilities. Our marketing teams are already in those markets and we don't need additional marketing talent. So it's up and down the cost structure. We have unique synergies when we buy within our markets, which is why our focus has been to continually to penetrate and create more density in 7 states in which we operate. We have an active pipeline and we'd like to do bigger transactions. We have looked in past years, recent years at larger regional platforms that would take us into other areas in the United States. Unfortunately, we've been -- well, fortunately or unfortunately, however you look at it, you haven't done those transactions. They've been bought by private equity firms who've been willing to pay significantly higher multiples than we've been willing to pay. I think that strategy or that discipline has proven to be wise, given that we've kept our leverage very conservative relative to the private equity firms. We've got -- today, we're sitting here between 3x and 3.5x leverage. We have a lot of liquidity on the balance sheet and have significant capacity if you wanted to do something bigger or more transformative. And I think that, that discipline has proven to be the right strategy at this point.

All right. Great. Maybe just shifting gears to a smaller and faster-growing part of the -- fast growing part of the business. The -- as far as your AI segment, I think you've been successfully improving the AI capabilities. It's kind of deeper into medical technology, et cetera. But I guess maybe a question just might be what inning do you think in terms of commercialization of the initial product and just talk about it from a sort of therapeutic category perspective as well.

Sure, sure. No, we're very excited about AI. It's going to have, we believe, a transforming impact on our business and in the industry at large. And I'd say we're in the top of the first inning. We just started commercializing and monetizing our AI. We launched a program that we call EBCD, Enhanced Breast Care Diagnostics, in our Delaware market on November 1 of last year. We're now rolling out that program nationwide. By the end of this month, we should have all of our East Coast facilities offering this service. And what it is, is it a AI assisted package of services that we're offering to women for $60 out of market, that includes an AI-assisted, a second opinion read for suspicious exams, a lifetime risk score that's based upon a measure of breast density as well as family history and then access to [indiscernible] number for women to talk to the clinician about the results of their exams. And it's been met with really good adoption, given how early we are in this. We're seeing right now, 20% to 25% adoption on the East Coast. You're seeing that trend upwards towards as the center matures with this offering, our front office people or schedulers are becoming more effective at communicating this offering to women and the value of these women and -- 2 women, and we've already found over 300 cancers that otherwise would not have been found, but for the AI. So I think we're going to end up saving lives. And I -- and what's interesting is that hopefully, the CMS and other payers will take note of this and ultimately, I think, describe a reimbursement to the use of AI with respect to mammography. So really excited about monetizing that. About half of our AI revenue, we gave guidance of $16 million to $18 million of revenue this year in 2023. Our AI division, over half of that or half of that is going to come from EBCD program, and we're expecting that in 2024, our AI division will be actually be profitable. We also launched a lung AI product from a company that we bought in the Netherlands called Aidence, and we're rolling out a program with the National Health System in the U.K. called a Targeted Lung Health Check Program, where it's mandated for high-risk patients that they come in and get a lung cancer screening test, then it is assisted with AI. Aidence right now as, I think, upwards of an 80% market share in the rollout of this test. And so we're hoping that with the success that may come out of the data in the U.K. that we can import that product and that offering here to the United States and refer it to the payers here.

Okay. Great. We've got maybe 1 or 2 minutes left, maybe 2 final questions here. We'll keep a more financial maybe CFO-oriented. First one, I guess, just on -- you guys have a CapEx budget within that kind of beyond the maintenance portion, what's the priority for the discretionary part of your CapEx budget?

Sure. We spent extraordinarily in 2022 and that's carrying over in 2023, primarily the result of this de novo strategy that we launched last year. We have 15 centers in various stages of development. These are de novo facilities that we're building out in markets that we feel have untapped demand or where we need access points to service certain patient populations that we're currently not servicing. So I would say almost half of our CapEx budget for 2022 and 2023 have been focused on these de novo facilities. So those will open at various times throughout '23 and they fall into the first quarter of 2024. That should provide us additional obviously, growth of revenue and EBITDA, but hopefully, after 2023, our CapEx budget can be more normalized. We think today, given the size of our business, we think that about $60 million to $70 million is the right number for a true maintenance CapEx level.

Okay. Great. Final question. I guess sort of tying all these initiatives together and how it's all going to be financed. Obviously, with the current interest rate environment, every company, a facility-based provider needs to be cognizant of debt loads, et cetera, and manage that effectively with the growth initiatives. But I think you guys got your debt down by about 3.5x, I think. Just curious is that the appropriate number just given the current environment? Is there more to do on that front? Also in the context of, again, all these growth initiatives that you have?

Sure. Well, from a liquidity standpoint, we ended last quarter or last year with over $125 million of cash on the balance sheet. We had full availability of $195 million revolver. We mentioned we're between 3x and 3.5x leverage. Our cost of capital is fairly low at LIBOR Plus 300 right now. We were fortunate to have entered into interest rate swaps in 2019 that fixed our LIBOR at around 2%. Those roll off in $400 million to $500 million of the notional value of the swaps roll off in October of '25. We have $100 million rolling off towards the end of this year. So we're sleeping very well at night with a $40 million to $45 million cash interest expense, $200-million-plus, $220 million, $230 million of EBITDA. So we have no problems in terms of meeting our fixed charges or our financial obligations. And we would like to get the company under 3x. That's kind of our goal and I think that's highly achievable if we continue to -- we're projecting $70 million to $80 million of cash flow after CapEx and after our fixed charges this year. So we should be [indiscernible] significantly over the next couple of years.

Okay. Great. And with that, I think we're out of time. I want to thank Mark for your time today and for the rest of the conference.

Thanks, Steve. Really appreciate it. Thanks, everyone, for coming.