Tenet Healthcare Corporation (THC) Earnings Call Transcript & Summary

All right. Thank you all for joining us. My name is Sarah James. I'm the emerging health care delivery model and provider analyst at Barclays. We're very pleased to have with us this morning, [ rated ] Tenet. We have CEO, Saum Sutaria; and CFO, Dan Cancelmi. And I'm going to turn it over to Dan for some cautionary statements.

Thanks, Sarah, and good morning, everyone. Before we begin, I need to remind everyone that today's fireside chat will include forward-looking statements. These represent Tenet management's expectations based on currently available information. Actual results and plans could differ materially. Tenet is under no obligation to update any forward-looking statements based on subsequent information. Investors should take note of the cautionary statement published on Tenet's Investors Relations presentations website as well as the risk factors discussed in our filings with the SEC. Thank you.

So when I step back and think about our Tenet thesis, we feel pretty strongly that the market is not giving you guys credit for the transformational change your company has gone through. And over the past 5 years, $450 million in savings, 500 basis points margin expansion. You've rolled out really the best tech that I've seen from a dashboard perspective, and I think you can really see that in 2021 when you guys could keep active surgeries open when some of your local peers couldn't. So as you think about what efficiency looks like as it's fully rolled out, taking advantage of the investments that you've already made, how much more room do we have to go? And what does a fully rolled out platform look like for you guys?

Yes. No, Sarah, I appreciate the question and certainly the commentary. One thing I would say is that we're on a journey, right? Over the last 3 or 4 years, 4 years really, we've done a lot to reframe what the company is doing in the marketplace, really focusing on high acuity, elective and emergent services in the acute care sector. That's been a significant shift in strategy across the board, capital that we choose to spend on, physicians that we choose to partner with. And there's a lot more runway there because, ultimately, we're building a business in the acute care sector that's more defensible from the standpoint of things that could migrate into ambulatory, right? The ambulatory surgery business obviously has scaled tremendously because of the unique abilities of Tenet across the portfolio to deliver synergies into that market, plus having an outstanding baseline platform within USPI, that's always been very acquisitive, but we've really chosen to scale that up. We're at a unique moment in time where there's a lot of business moving into that ambulatory setting. We see a long, long run -- it's an incredibly fragmented market, we see a long runway there in terms of what we would be able to do. And the nice thing is physicians are coming to us choosing USPI as a preferred partner. And then finally, from a Conifer standpoint, and we may get into this a little bit more, but we've been very encouraged by the fact that the work over the past 3 or 4 years is pretty quickly improved client performance, enhanced margins 1,000 basis points, part of that $400 million, $500 million that you described. And that's only partially taking advantage of technology, automation and offshoring with respect to the broader Conifer client base. So we see more runway there in addition to our point solutions taking [ up ]. So when you really look at what's happened over the past 4 or 5 years, we look at the -- and look, we acknowledge and appreciate what has happened with Tenet's equity over the last 4 years, right? We can't complain about that in some sense. But I think a lot of that has been demonstrated performance, restoring faith and trust in the management team, us delivering what we say we're going to deliver. And now, you're right, as you look at it in terms of the cash flows that USPI in particular as it scales will generate with a stronger acute care platform, there is a lot more runway in fact. And that's what we're looking forward to.

Okay. And as we think about just on the acute side, if we could touch the margins for a moment. Efficiency-wise, how far are you guys down the path of setting up the business model? And then maybe a little bit on labor, how that factors in?

Yes. I mean, listen, we -- I think we've done a pretty good job over the past several years managing costs, but that doesn't mean we're done. We initially started off with -- beginning of 2018 with the $250 million cost reduction program. We -- shortly thereafter, we increased that to $450 million. And over the next several years, we executed on that. And actually, we ended up performing on that. Then the pandemic occurred, and we had to dig even deeper and identify administrative -- further administrative efficiencies to make sure we have the appropriate resources to provide care and continue to provide care to our patients. We get the question very often, what inning are we in or where are we at? Listen, we don't view it like that. We view that each and every day and every month, each and every quarter, each and every year, we continue to identify and execute on cost efficiency matters that continue to grow the platform, create more cash flow, create more capital to be allocated to continue to grow all our businesses. So we've -- in terms of labor, obviously, over the past year or so, there's been labor pressures from a rate perspective, but also from a labor availability perspective due to the pandemic, particularly on the temporary contract labor side, nursing and other clinicians. We've talked in the past about -- before the pandemic, our contract labor costs were typically 2% to 3% of our consolidated SW&B. And more recently, that's been in the mid-single digits, 5%, 6%. And we do anticipate, as COVID levels continue to wane, that there should be some moderation as we move through this year. I haven't seen really much of that yet, but we do anticipate that cost pressure to start to ease a bit after some period of time. The question is you don't know exactly when that will be. But obviously, in the meantime, we're just focus on continuing to execute on efficiencies. The margin, you mentioned margin, the -- our overall margins have increased about 500 basis points since 2017. When you consider our $20 billion revenue platform, it's about $1 billion of margin improvement. And it's not just been on the Ambulatory segment, Hospital margins have improved about 200 basis points. And I just want to remind everyone, we do report our Ambulatory business separately from our Hospital business as opposed to on a combined basis.

And on the contract labor, one of the things that's been very impressive is the percent of your overall clinical staff, that contract labor is about half that of your largest peer. And even throughout the pandemic, you've still maintained that better ratio. Is there anything that you can attribute that to? How you're seeing, by potential employees in the market, where your pay rates are or just how you can differentiate yourself?

Well, let me back up for a second. And I don't know exactly what the statistics look like for our peers. But the way we have thought about contract labor is in the context of an overall strategy with our workforce during the pandemic, which includes other things like premium pay and perhaps extra shifts for existing staff, right? So we've been focused on ensuring, first and foremost, that our existing staff, full-time or part time, are given the opportunity to expand what they want to do in our hospitals before we bring in contract labor. Now at the same time, what we have done is -- been intensely focused on length of stay management using our analytics platform to understand where we have excess stays. The excess stays obviously create excess demand for staffing, which then creates this conundrum of do you bring more contract labor or do you push the existing staff to do more or both, right? And so that's -- the operational approach to managing contract labor isn't as simple as, okay, we're going to cut off contract labor at 5% to 6% of SWB. We've been thinking about that continuum, again, in particular, around length of stay management. So there are a number of things from a clinical standpoint that we've been working on, getting people out of the ICU when it's appropriate to a lower ratio setting, things of that nature, that helps with this overall patient flow in the hospitals. And we've just tried to institute that discipline across the network. And in fact, even into some of the surgical hospitals at USPI. So this will be an ongoing effort to better manage the clinical throughput as a way to adjust what we spend in various premium labor categories.

Great. You mentioned your analytics platform. I didn't want you guys to go without talking a little bit about your tech stack. So can you hit on what are the key points you think investors in thinking about what your differentiated tech?

Well, I would say that the most important thing to realize is really what we made a decision about 4 years ago, which is that there are plenty of repeated activities that occur across hospitals and ASCs and even in terms of the tens of millions of claims that we process at Conifer from which basic data extraction and development of data warehouses that are simple, not complicated, don't require an extensive capital investment allow you to drop out analytics that help our operators in the field manage on a daily basis. So we're able to look at our staff labor relative to volume and acuity not on a weekly basis, but on a daily basis, not just by hospital but by floor. And we do that because it helps our operators make better decisions every day. And importantly, work quickly and as close to real time as we can do that. And that's really the philosophy. I mean there's -- I don't think there's anything about that, that is different than other distributed retail outlet businesses in other industries that are just more advanced. We feel like, in this sector, we're trying to get to where those more advanced industries are rather than staying where kind of the hospital sector has been.

Great. Let's talk a little bit about Conifer. So you guys recently updated your strategy there to keep it in-house. What changed in the marketplace or how you see it fitting into your overall business model that drove that decision?

Well, I think first of all, the context changed. The amount of success that we've had with Conifer, first of all, and the additional runway that we see changed, right? The context within Tenet changed. I mean if you look at where Tenet was at the time, not just in terms of how the market viewed Tenet but Tenet's ability to consistently deliver on earnings and others, that's changed substantially over that period of time. So when you really look at, which has always been how we thought about this, what would be best for shareholders with respect to what we do with Conifer, we went through a number of iterations or possibilities. And honestly, when you look at it right now and you look in addition to those factors at the market, it's not obvious that having Conifer spin into its own public entity made a lot of sense. Probably for us, more importantly, is we see upside in the business and we see good uses for the cash flow.

Yes, that's right. And Saum mentioned earlier that during the time period we were evaluating either or not, right, sale or spin, the performance of Conifer improved significantly. We've talked about this, about 1,000 basis points improvement since 2017. We set up our global business center offshore in Manila. And there's -- and we've developed that. And there's a little over 2,000 associates there right now, but there's further opportunity for additional growth there. And so there is still a runway out there, Conifer's strong free cash flow generating ability, very capital-light business. Well, we believe at this point in time, it's in the best interest of shareholder value creation to retain Conifer, use those cash flows to continue to grow the entire enterprise.

Great. Staying on this topic of cash. So I sometimes get questions around what your priorities are, keeping Conifer changes the priority, but it sounds like it's more just a way to feed your strategy. So maybe you can hit on what you see out there for opportunities for cash flow deployment.

Yes, we do not -- retaining Conifer, we do not believe will have any significant impact on capital available for the other business, whether it's hospitals or surgery center business. As I mentioned, Conifer's business is very capital-light, so it doesn't require a significant amount of capital every year. In terms of our capital allocation priorities over the next several years, certainly, we will continue to allocate capital to grow our surgery center business. We usually think about it -- this as a starting baseline each and every year, allocating roughly $200 million, maybe $250 million, for surgery center acquisitions, de novo development, et cetera. But as you've seen over the past several years, when the right opportunities are there, certainly the SCD centers were -- fell into that category, we will invest more capital than our sort of starting baseline. And as we've talked about, the pipeline is very strong. We have -- we believe we have some very strong competitive advantages. And we're going to continue to execute, we believe, in continuing to grow the surgery center business. And as we've outlined in our slides on the fourth quarter presentation, we're roughly 438 centers, USPI centers at the end of '21. We believe there's a strong path to get us to roughly 600 centers by the end is part of 2025. As part of the most recent SCD transaction, we entered into this pretty innovative arrangement where we have a partnership with SurgCenter to develop at least 50 de novo new centers over the next 5 years. So that's in addition to the normal pipeline development that our USPI team has developed and executed on through the years. So continue to allocate capital to grow our surgery center business. We're also going to continue to allocate capital to our Hospital business to continue to focus on the higher-acuity, more complex service lines, and enhance and expand health care access in several of our key markets where we will either -- like for example, we're in the process of building a new facility outside of Charlotte, where we've been in the market for many years. We know the market. We're very excited about the -- that facility which should open sometime in September this year. We feel very low risk of execution. We feel comfortable with the returns from that new hospital. We're also -- we'll also be allocating capital to expand our hospital presence in the San Antonio market. Again, we know the market very well. We think there's much lower risk with that type of capital decision. And we're comfortable that -- we're optimistic they'll have a nice return on that new round of expansion in San Antonio market. We're doing similar things in the Phoenix market as well. So allocating capital, surgery center business, the hospital center business. We will also continue to look for opportunities to retire and reduce debt. Over the past year or so, we've retired about $2.6 billion of debt, early retirement of debt, and so we will continue to look for those type of opportunities to either outright retire debt or refine several tranches depending on market conditions. And then as we mentioned on our earnings call, as we move into 2023, we expect our foundation of free cash flow to grow upon will be about $1.5 billion. And so we'll -- yes, depending on market conditions, we'd also consider share repurchases, too.

Great. As we think about this macro shift from inpatient to ambulatory, we think of it as about [ $60 billion ], maybe that could move in the next 5 years. What does that look like near term in '22 or '23? And what are some of the key things that you're looking for to define the cadence of how that shift happens?

Yes. No, it's a good question, Sarah. I think a couple of thoughts. First of all, from USPI's standpoint and our affiliation with USPI, the move from -- whether it's inpatient and ambulatory or actually just creating new demand in the ambulatory environment has been something that USPI has been ahead of for 20 years, right? I mean if you really think about the business and how it's grown, the services that started USPI and the diversity of services that we provide in the USPI environment today have grown tremendously, probably in order of magnitude. And that's important because, operationally, one of the unique features about USPI is that we operate more complex, multi-operating room centers that can handle multiple service lines in one setting. So it gives us flexibility to grow and develop those centers more than if you were running smaller, single-service line centers. And that is the complement of USPI's portfolio and SCD's portfolio, which was more single-service line in the orthopedic space. When we stepped back 4 years ago and we looked at the market for ambulatory, basically said, look, over the next decade, 1.5 decades, probably the bone-joint-spine area is going to be the biggest driver of growth in this sector. We have to become the leaders in that area. And that drove a lot of choices in terms of what we did within the USPI portfolio to enhance what we're doing in orthopedics and other areas. And also, it drove the strategy around SurgCenter versus other assets that we could have potentially look at to start with, because we wanted to solidify that position. So our view is that there's a long runway here of growth. It's a pretty consistent year-over-year increase. But it's not all inpatient to outpatient, new demand is being stimulated. And as the population ages, you have demographics behind you for the next decade in this area, right? Last point I'd make is this is a value-based health care play. The cost of performing one of these procedures is sometimes half or less what it is in an acute care hospital. So the service levels are better and the costs are that much lower. So for Tenet as an enterprise, the value we're bringing both to government and private payers through this platform is tremendous, right? It's very hard to ignore in markets.

Maybe you could talk a little bit about catchment area. So as you develop these multiservice line areas or you add a new specialty to an acute hospital, how does that affect your catchment area? Are you seeing consumers engage and seek you out?

Yes, so I would say a couple of things. I mean one of the things in terms of our acute care strategy with respect to high acuity services is while there is a component of what we're doing, which is based upon what you might -- what I might describe what you're saying is a retail component, right, direct-to-consumer, reputation building, the service and results we're getting, which we're intensely focused on; the other part of it that we have put a great focus on is what I would describe as our kind of B2B component, where our specialists interfacing with both the payer community and the primary care community is able to demonstrate what they can do for their patients, right? So we've developed a service model that is communicative, returns patients to their primary care doctors, quantifies the outcomes and complications that we deliver in those relationships so that those relationships can form on a basis that allows us to earn more patients in those specialties. And there's an important component of picking the right specialists, we're willing to engage in that type of activity in order to bring consumers in. So again, I think the B2C part of this is important when you think about how people perceive us, the B2B part of it is a really important driver of earning referrals into our platform.

You touched a few times on value-based care. So can you unpack that a little bit how are your conversations going with the payers and what does that value proposition look like?

Well, I think value-based care has so many different definitions. So I don't know how to -- I personally struggle with that. I look at value-based care all the way on kind of a continuum from full capitation, where an insurer or other entity is just trying to push the risk on to us as a provider. Well, we don't want that, right? I mean that's not really necessarily what we're here to do is absorb somebody else's risk. On the other side, site of care efficiencies, especially when the service levels and the quality levels are so high, represent an enormous value-based care opportunity. And we feel like by leading the way at USPI of growing and expanding those centers, what we're really doing is lowering the cost for that care relative to another setting. I mean I -- at the extreme, you could say, USPI generates [ x billion dollars ] and just multiply that by 2 at a minimum and talk about what it would have cost in another setting. That's an enormous contribution to health care efficiency and affordability in this country. And we plan on continuing to grow and develop that.

Great. I'll see if I can squeeze 2 more questions in here. Dan, can you talk a little bit about what you're seeing out there for the pipeline of opportunities in the ASC and ambulatory space?

We're very optimistic about the pipeline, and that's after investing in, what, 135 centers over the past several years, just with SCD in addition to some of the other centers. So we are -- when we look at the pipeline, when we -- the conversations we're having, we're very optimistic in terms of being able to see a clear path to increasing our centers as we've talked about, to roughly 600 by 2025. We're not going to overpay. And as we've mentioned, the initial EBITDA minus NCI multiple is one thing, but what we're very, very focused on is the EBITDA minus NCI multiple after a year or 2, after we start managing the centers, after some of the synergies that we bring to the table are executed on and are embedded into the results. And so we like the pipeline. And so that gives us a lot of optimism as we think about the next several years in terms of USPI's growth.

Great. And then last question, just -- do you guys have any closing thoughts on what you think the market is really undervaluing in your company?

Well, I think at a very fundamental level, I think the market should continue, we hope, to appreciate the amount of runway we have in this Ambulatory business, but also the value that's generated from being integrated with the overall Tenet business, including the acute care enterprise. That's probably number one on the list, right? Number two on the list is just the improvements in consistency and margin enhancement in the acute care segment relative to how it was valued in the past probably has some upside in terms of how it's viewed. And look, the third thing, I think, ultimately is just having enough of an understanding of how different the operating model is at Tenet today. I mean just think about this, just in 4 years, we've gone from having an organization that had a return on invested capital in not just the single digits, but low single digits to a very healthy double-digit 12%. That type of -- that's reflective of a very different discipline in the business model that we've instilled. And so investors should feel good about how we will deploy capital looking forward because we set a very high bar for ourselves on that dimension.

Okay. Thank you guys so much for your time.

Thank you.

Thank you.