Tenet Healthcare Corporation (THC) Earnings Call Transcript & Summary

All right. Great. I want to thank everyone for joining us today at the second day of the BofA Virtual Health Care Conference. It's my pleasure to introduce Tenet Healthcare. Tenet is one of the largest providers of hospital services and large provider of ambulatory surgery in the country. Presenting today, we have Ron Rittenmeyer, who's the Chairman and CEO; Saum Sutaria, the President and COO; Dan Cancelmi, CFO; and Regina Nethery from Investor Relations is on as well. So I think we're going to spend lots of time in Q&A. But I don't know, Ron, do you have any opening comments that you wanted to make?

Well, let me -- I'll be very brief. First of all, thank you for joining us and giving us this opportunity. We're coming right off of the Q1 reports in an earnings call, so I don't want to be redundant. But I would say, in general, as you step back and think about the evolution of where we've been, and the transformation that we've been working on since really late in '17, and the changes we've made throughout the system, I think our earnings and our trends are indicative of the fact that what we've done is sustainable. We said it would be, and it is. We've made significant progress in the field, much of which I would lay at Saum's feet, as the leader of that, and who has done a great job bringing the company forward operationally. We have also made a lot of changes in the background that most of our investors don't see around building a very strong analytical team, focusing our decisions now on fact versus mostly opinion and also ensuring that we are consistent. We have very tight controls in costs. And I would say we have very tight controls across the board now in many areas. Equally, we don't believe we're done. The pandemic, I believe, from our standpoint, is just one more disease that we now treat. We're still probably averaging about 800 cases, I'd say, some them across the country, and -- including in patients and people of interest who are under investigation. So we've pretty much leveled out in terms of how we deal with the pandemic at this stage in terms of at least operationally. And we've been very active on the vaccine side. We run vaccine clinics. We use volunteers for that. We sometimes employ people to go do that. Our own people, of course, have been vaccinated. We've worked really hard at continuing to get that available and out there. And we do service, as you know, many communities that are serving the -- as defined, the underserved, and we're working hard at helping the vaccines get into those communities. But from an overall business perspective, I'm very pleased with our direction. We clearly have tightened up our organization. I know there's always a continued question on volume. Saum will talk about that in the questions probably. But volume to us is not as important as the quality of the volume. And the acute care kind of stuff we've seen, the level of acuity, the fact that we've added some very -- many highly specialized physicians, focusing on dealing with chronic care, long-term illness, et cetera, and providing what we believe are gaps in the market also contributes to our ability to sustain the business on the low acuity end. I'm sure some of that will come back. But honestly, we're not out hunting that. And as it comes back, we'll deal with it. Because in the end, we believe that we're displacing that with really better acuity from a business standpoint, and serving the community better in that respect. So I'm sure we'll get into that. I know, Larry (sic) [ Kevin ] that was one of your questions, so we can spend some further time in that. But overall, I'm very pleased where the company is. I think our results speak for themselves, and we appreciate the support that we're getting from the investors and the long-term debt people as well as just the general population. So thank you. And with that, I'll open it up because I really think that we'll learn more by questions than we do by me rambling on, so...

Sure. Yes. So I guess, maybe going back to that -- especially the comment about volumes, that is the focus here for a lot of people is that timing and pace of utilization returns. So how are you guys thinking about that within your guidance? When do we get back really to normal? And is there a period of -- is there a potential for pent-up demand to bring that above baseline for period of time?

Yes. Kevin, it's Saum. Well, I think a few things. One, just to reemphasize sort of finer point on the quality of the volume. Obviously, for the last 3 years, our strategy has been focused on building higher acuity service lines with a good quality and safety record. And I think the pandemic has only accentuated the importance of that strategy because -- partially because some of the low acuity volume has not come back, especially emergency department low acuity volume. And secondly, because the contestable market today is about those that can provide a high quality service and safety environment within some of those higher acuity service lines, right? Patients have choice. There's a little bit of excess capacity out there, patients have choice. And so our focus in that is paying off well. I mean, we're focused, obviously, on making sure that we deliver consistency in the earnings from the quality of volume that we want. We recognize that some of that lower acuity volume will come back over time. It's inevitable, right? Schools will open up. There will be sports. Some of those pediatric and other sports injuries will start to occur again. And obviously, we'll be ready to service them in the emergency departments. And that may reduce the acuity that we see over time, and we're prepared for that because we've put a lot of effort into our, as Ron mentioned, cost control. I would say that the way the pandemic is flowing now and especially with these variants and other things that are percolating around different cities, 2021 will be -- I will be surprised if the general acute care hospital sees 2019 volumes from that perspective. I think that is unlikely, but it's mostly the lower acuity work that comes into the ER, in particular, that we're likely to see being deficient from 2019.

Yes. So I guess, maybe it seems like a lot of the companies are talking about focusing on this higher acuity population. Is there -- are you seeing more and more competition for that? Or is Tenet uniquely positioned to capture that volume? And I guess, where are you on your programs? You know everyone likes the baseball analogy, what inning are you in, in kind of going after this high acuity population?

Yes. Well, I think it's both. I mean I do think that because that business is really the contestable business out there, the intensity of focus from a variety of folks in the market is increasing. And then if you look at it from our perspective because we've been focused on this for the last few years, I think we have some natural advantages. We have relationships with some of the highest quality physicians in the marketplace. Those physicians' offices are opening up and getting full faster than perhaps other physicians. So -- and that, by the way, is proving out in our employed physician population as well as the tremendous number of independent doctors that choose to work in our hospitals. So we have an advantage there. The opportunity or option for many of these doctors to have an ambulatory surgery or procedure location in their markets, whether it's with our hospitals or others, that is safe, easily accessible, has incredibly high service ratings is a real advantage for us within Tenet. And so the USPI platform is just month-over-month steadily recovering very, very nicely relative to 2019 volumes. I mean you saw that progression in the first quarter, and we continue to see that progression at this point. And I am optimistic that we may even break through on some consistent basis what we saw in 2019 on the ambulatory surgery side, again, just as a testament to the quality of those assets and physicians that choose to work with us. So that is an advantage for us. And then finally, there is -- importantly, there is cost pressure out there because the volumes haven't returned. And so the ability to deliver these services efficiently, run efficient operating rooms, have discipline in the way that we manage the operations creates a better service environment for doctors. It's easier for them to come and choose to work in our operating rooms versus another choice they may have. And so on the margin, we obviously focus our time in making an environment for the splitters to be easier for them to do business and take care of their patients in our hospitals. That's an ongoing area of focus for us. So all of those things, I think, play in our favor.

Yes. And so I guess, we are going ahead with the baseball analogy, what inning do you think you're in on that kind of shift to capturing this high acuity volume?

Strategically, from our perspective, like I said, we've been focused on this almost 3 years now. We're in the last third of the ballgame in terms of -- in our markets, having what we feel are very good cardiovascular, neuro, general surgery, bone and joint spine. I mean if you think about the major surgical service lines plus the specialty areas that have a hospital component, urology, other things, we've put in place systematically market-by-market a foundation in all of those areas. We feel like now is the time for us to capture the opportunities from those. So we're not -- this is not the early stages of building those programs.

Okay. But it's still runway to kind of capture that volume?

Absolutely.

And I think that runway will last some time as we continue to build it up. And I mean, that's what our focus has been, and I see that focus continuing.

Yes. And I guess you've talked Saum a lot about how the acuity volumes is slow to come back to normal in '20 -- back to 2019 levels per se, but you guys have been adjusting your cost structure to be profitable and grow even without that. Talk to me a little bit about where that opportunity has been? And where going forward, there might be additional opportunity to improve margins?

Yes. Well, I mean, I think the first thing is that you have to align the nursing and other clinical talent at the frontline to where the demand is. And so we've made the adjustments from that perspective in terms of where our staff is focused based upon the demand that we are seeing. And that's an important adjustment, right? If you continue to place the clinical labor in areas where the demand used to be there, you end up with structural costs that you can't actually manage. The second thing is, I think on prior calls, in particular, Dan and I have talked about the fact that we've taken a very comprehensive look at both our supply and purchase services environment in order to look for opportunities to variabilize our costs more than they were. That would be in the area of physician services, other professional and IT services, for example. And then on the supply cost side, we've worked closely with our manufacturer partners and our physicians to look at opportunities to consolidate vendors effectively, and move market share to those where we get better pricing for more expensive physician preference implants, and we've demonstrated the ability to move that market share, but also partner fairly with the manufacturers that are willing to partner fairly to take on that market share and deliver for the demand that we have. And that's been very constructive to improving the unit margins on many of the high implant cost procedure type activities. That extends all the way through USPI, as you can imagine, because the supply environment can be very similar. And then finally, I would say, from a cost perspective, there are a number of other, frankly, structural costs in hospitals. I mean we've been doing a review of all of our malpractice expenses, for example, in certain service lines over the last year, just using the opportunity of the pandemic to step back and look at where can we put in place process improvement to mitigate our risk and reduce our malpractice liability, for example. And there are a number of initiatives like that, that are longer-term that are underway that ought to help reduce cost. So we don't feel that there's a shortage of margin expansion opportunities. We do recognize, obviously, the 2 big things that will change over the course of this year are, COVID could create contract labor expenses that could be expensive. And at the same time, PPE and other expenses regardless of whether COVID has gone, are still there. We haven't moved away from that kind of safety environment.

Yes, Kevin, I think our cost performance may be somewhat underappreciated by some investors. When Ron came onboard at the end of '17, we initially set a target of $150 million. Shortly, thereafter, we raised that to $250 million and ultimately, to $450 million. And we executed on that and, in fact, exceeded that. And then the pandemic hit, and it really caused us to even dive deeper and be even more diligent and look for additional efficiencies. And we've done that. And it is one thing we feel good about our ability to continue to identify cost efficiency opportunities going forward, which will enhance margins. Saum's point about malpractice, in addition to process improvements. There are some cases where it may make sense to maybe exit a particular service line, if the return isn't robust enough, and there's no worthy malpractice exposure. But we've really been going through the entire cost structure, whether it's labor management, more data-driven decisions. But Saum and Ron's point about making our cost structure more variable, that was a key area of focus of ours in terms of our mix of fixed staffing versus variable staffing going through various premium labor costs. Yes, there has been some pressure on contract labor pricing. Those prices have started to moderate. But we're still dealing with that. And we're doing a pretty good job with that, and we will expect those type of pressures to continue to moderate as we move through this year. From a supply chain perspective, you may have seen we just renewed our relationship with HPG, HealthTrust. We'll continue to reap the benefits from that and from a supply chain perspective. And the other operating expense spend, there's still a lot of opportunity there. There's disparate contracts with same vendors throughout the system, which it happens when you go through growth periods through acquisitions. So we still have a lot of room there to continue to improve our contracts, service-level requirements. Terminating contracts, if necessary, we've been doing that where it makes sense. And we'll continue to focus on those type of things. In addition to the normal type of cost actions, you would think administratively, consolidation of various space throughout the organization has been a key area of focus. And our development of our global business center in Manila is -- in addition, to creating cost efficiency, it's created significant amount of process improvement and enhanced consistency and best practices being shared across the entire platform.

I think it's important to realize, too, that whether it's cost management or clinical management, et cetera, we don't see this as we're at the endgame. It is a continual change, continual focus and we talk about it continually. And we discuss where to go next, and how do we look at what we're doing? And does that make sense? And is there a more efficient, effective way to do that? How do we take steps out of processes? How do we eliminate drag on the system? And that becomes a mindset that you begin to live with, so you're always looking at it, and you're always questioned. And I think that's what makes us better than we were. So I don't think there's, have you achieved the end result? The answer is no. Are we satisfied? No. Do we feel we've made progress? You're damn right. And I think that we will continue to make progress. Maybe in some cases, in smaller increments, maybe some will take a little longer now because we're into a much more complicated whatever. But as an example, we have taken all of our policies internally and put them through a pretty strict review process, with the goal of eliminating ones that no longer make sense and streamlining the ones that we have written down to just 1 page to 2 pages, focusing on what's the intent, what do we have to do and who does it? And then how do we hold what we tell them? So we're in that process now going through it, and that alone is very revealing. Because again, it forces you to go look at what the hell are you doing? And why are you even doing that? So -- and then all of that ties to stuff, right, because you got to have stuff. You got to have a program that you're running. You got to have computers. You got to have people supporting it. It just helps you begin to take stuff and squeeze the package down. And that makes us more effective. And some of that ripples out into the hospitals, ripples out into the surgeries. So anyway, I don't know if that's helpful, but that's how we think.

No. That definitely is. I guess when we think about some of the comments have been that the low acuity stuff that's kind of come out, I don't know it's not -- whether you're trying to bring back per se, but it's likely to start to come back. And I guess the thing that's going to help in the near term has been payer mix has been positive as well. As we think about volumes normalizing and lower acuity coming back, which usually is lower margin and then care mix normalizing, is what you're doing on the cost side enough to kind of keep margins where they are or improve margins? Or should we expect kind of a dip before we kind of rebase and can go from there?

We're not planning for a dip. With at least the type of volume that we're seeing that hasn't come back from a lower acuity standpoint, we're not planning for a dip in margins as a result of that coming back. We are planning on needing to adjust the way in which we staff for those volumes and the things that may come back that we might find an alternative place for them to be serviced. It's not necessarily the case. Dan sort of alluded to this. It's not necessarily the case that every service that existed before in an acute care hospital should be reopened again from that standpoint. I mean, obviously, the ER is the ER, right? You're going to take whatever you can get. But even from an ER standpoint, there may be certain things that are better done -- in a few markets, we've developed greater relationships with federally qualified health centers in a manner to help people find a little bit more continuity of care, for example, if they have Medicaid or otherwise rather than being in a revolving door of an ER. And I think what we've learned is we're not necessarily in a business model that is requiring that in and out business to come back. So if we can help find a better place for that business, actually, everybody benefits, right? So anyway, those types of opportunities we'll have to continue to look at.

But the difference is we're looking at them actively versus just letting them happen. And that's a big difference, and it's a big focus.

Yes. So we spent a lot of time talking about the hospital business and the transformations you're making there. I think equally as important or maybe even more important is the transformation you're talking about moving towards the ASCs with the goal of getting half of your EBITDA from surgery centers. I mean, as we think about the progress that you've already made on that and kind of going from here, how do you think about that? How much of that is kind of growing the ASCs versus potentially shrinking your hospital footprint? And just maybe just talk a little bit about what that would mean to the company from a margin perspective, from a cash flow and return perspective, when you get to that 50-50 number?

Well, I'll start off and then Ron and Saum can weigh in. In terms of, Kevin, the -- growing the ambulatory portfolio to 50% or more. We get a lot of questions on, is that pure organic growth or just traditional M&A? Or is there a larger type of M&A involved there? And how much of it relates to divestitures on the hospital side? We haven't gone into specifics in terms of the exact dollars and cents associated with that. But we have been clear that when we think about it, it would probably involve some form of hospital divestitures, if it makes sense. If it makes sense, if we get -- if we have -- started having the right conversation, and the economics make sense and to reallocate that capital to maybe different particular hospital within the portfolio or onto the ambulatory side. But there -- we would anticipate some type of hospital divestiture in that mix. And the growth on the ambulatory side, we've talked about 10% to 15% growth. And will there be another similar-sized transaction like we consummated in December? Maybe. We believe there's sufficient opportunities out there. Pipeline is strong. And we think the benefits that Tenet and USPI brings to physician partners in the ambulatory space are very significant, whether it's from enhanced operating management of the centers to the contracting capabilities of the company and the efficiencies that, that can drive.

I mean, I think, Kevin, the only addition I would make there is that we are very focused on the expansion of service lines in our existing centers that the organic growth opportunities are real. And obviously, having a very mature market-based business development team also helps to not only refresh, but add positions to the centers we've reported on those statistics before. So this will be both an organic and an inorganic expansion of the surgical opportunities at USPI. And remember, USPI centers tend to be slightly larger for operating rooms, a couple of procedure rooms with room built in for growth in many of them as opposed to otherwise. So the tailwinds right now in the industry from a move to ambulatory is an important thing for us because we can accommodate that growth operationally, whereas many smaller centers cannot. And that's an important feature that, I think, for us, at this point in time, is playing to our advantage.

That's an interesting point. I guess, everyone seems to be trying to recruit more physicians. I guess, how much capacity do you have within your current ASC footprint to accommodate this higher volume that you need before you need to add capacity to build sites or at ORs?

Adequate. I mean we don't have very many OR addition projects that are going on right now. We have, again, pandemic forces a lot of things. I mean, we built a comprehensive operating model that's new with the new USPI, including OR by OR utilization. Because if you think about the business shut down like a year ago and instead of bringing it back up center-by-center, we built a model that allowed us to bring it up operating room by operating room to manage capacity utilization in the process, that just created a new level of operating efficiency and insight. So we understand our capacity situation much better, and we're using that to help add services into our USPI centers.

Got it. And then I guess the other kind of transformation that's been happening over the last couple of years has been on the balance sheet side. Can you just talk a little bit about where your leverage is? It seems like your leverage target seems quite conservative for this year since you're basically there. And how we should think about the free cash flow generation going forward?

Yes. So to your point about leverage, we ended the quarter at -- leverage at 4.37x. On an EBITDA basis -- on an EBITDA minus NCI basis, it was roughly 5x. And a lot of people asked what that ratio is on EBITDA minus NCI basis? So I guess, we have made a lot of progress there. Wanted to get below 5. We've accomplished that. We want to stay below 5. The cash flow generation performance of the company has improved significantly over the past several years. We generated over $400 million in the first quarter. We anticipate generating close to $1.3 billion of free cash flow this year before we repay some of the Medicare advances and the payroll tax deferral. Listen, we fully expect our fee cash flow generation to continue to grow as we move forward in 2022 and beyond. We're going to continue to grow the business. Every investment decision we make, one of the first things we evaluate is, what does it mean from a free cash flow perspective? What does it mean from a leverage perspective? We've retired $478 million of debt in the quarter. We'll continue to look for opportunities to do that. We have a number of tranches available where we can either retire them at reasonable retirement premiums or refinance them. So we're going to continue to do that. As Ron likes to always remind us, it's not just about the leverage ratio. It's about reducing the absolute dollar amount of the debt, and we're going to continue to focus on that, and that's the priority of ours.

The other thing is going back in time when everybody was hammering on the leverage ratio, our earnings were weak. Our free cash flow was not very impressive. We were inconsistent in reporting, I get it. So today, free cash flow is better, we show stronger streams of earnings with more sustainability. And yes, we're down in the low 4s for the -- whatever. So in my mind, we're doing the right things. And when you say it's concerned, I take exception to that because I don't know if it is or isn't. It depends on what other acquisitions we want to do. Do we use cash or debt? It depends on how we restructure some of the debt that's out there in the short term, if there's an opportunity, which we will take. So I'm not sure I buy in May that we're being overly conservative. If you just do the math and look at the numbers, you could argue that. I could equally argue depending on what we're going to do when you look at our track record last year on acquisitions, there may be some room there that we want to use. So I think we're trying to be thoughtful as compared to being conservative. We're not trying to hedge the bet. We're just trying to be realistic. And I don't want to overpromise in May and then be a May hero and a December martyr. I just want to say that we're here, and I think we have tried to run very transparently. So the reason I'm pushing back is I just want you to know how we think about this. And so conservative is one view. The other view is maybe we're opportunistic if we see opportunities to make another substantial positive move for the strength of the company. So that's fair.

That makes a lot of sense. I think that would be well received if you found a good use of capital. It's still the standard, the 5x leverage. But I think that's all we have time for. So I want to thank you for joining us, and looking forward to doing this in-person in Vegas next year.

Yes. Thank you.

Thank you.

Thanks, Kevin.

Thank you very much.