Tenet Healthcare Corporation (THC) Earnings Call Transcript & Summary

Hi, good morning. Welcome back to the Barclays Global Healthcare Conference. My name is Andrew Mok, and I'm the facilities and managed care analyst at Barclays, and I'm pleased to be joined on screen with Saum Sutaria, CEO of Tenet Healthcare as well as Sun Park, CFO; and Will McDowell, Vice President of Investor Relations. Welcome.

Thank you. Well, thanks for having us.

Saum, maybe I'll flip it to you for some opening remarks, and then we'll kick it off.

I think Will wanted to make a quick comment here before we started.

Yes, thank you, Saum. Yes, Andrew, just in the context of our conversation today, we may be making some forward-looking statements. And I would suggest that listeners refer back to our cautionary statement within our SEC filings as well as our most recently filed earnings release, and that was the opening comment I want to make. Andrew, I'll turn it back to you, if you just want to go into Q&A, we're happy to do that.

Okay. Great. So there's obviously been a lot of attention on Medicaid reform and provider taxes from Congress and investors. I think Tenet, like most operators believe these payments are critical to sustain hospital services in the Medicaid program. But I think it would be helpful to get your perspective on the direction that policy discussions are taking in D.C. and what your -- how you're interpreting the risk not only for Tenet, but also for the broader hospital industry?

Yes. Thank you for the question. I mean this issue of how important Medicaid is to the country has obviously come front and center based upon the desire to extend the tax cuts that were made in the First Trump administration. Look, I would say that the discussion in Washington has been wide-ranging, obviously. There are many perspectives out there about how much opportunity there may be in Medicaid from an expense standpoint to pay for those tax cuts. But there are some basic facts that are hard to escape. First of all, let's just frame this roughly 10% of voters, 15% -- 10% to 15% of voters are on Medicaid. If you add the people that have 1 spin on Medicaid, you add another 20%. If you add those peoples who know a family member who's on Medicaid, you add another 20%. I mean you very quickly reach 50% of the electorate. When you think about that's from an immediate family standpoint. And our polling has shown that there is opposition to cutting Medicaid by almost a 2:1 margin among this group. And what's also interesting in this is that, that opposition is stronger among Trump voters than non-Trump voters in this past election. So there's a lot of political and electorate related fact base that is still coming out. Now when you start to add to that, you've got 875,000 veterans. You've got the children's health insurance program, 1 in 3 children with cancer are on Medicaid. The polling gets even stronger as you can imagine, right? So if you step back from this, not surprisingly, if you're trying to extend and pay for the tax cuts, there is a need to look for opportunities that offset that from the standpoint of passing a reconciliation bill. But what's important to understand is how critical Medicaid is not only to the health care ecosystem, but also politically when you start to actually get underneath the polling and understand the importance of the programs. I have no idea at this point from a -- there's no crystal ball here in terms of where this is going to land. But I do think that increasingly, the legislators understand both the political and health care implications of doing this. And I suspect that where this lands will be somewhere closer to work requirements and possibly looking to tighten up enrollment standards or criteria and verification as the final opportunity here.

Great. That's helpful. And then on the last earnings call, you noted that operating discipline and insights into the business can help you pivot as needed. What sort of pivots are you referring to should we see some of these reform measures materialize whether it's provider taxes or something else?

Well, I mean, I think there's a few things. Obviously, expense management, capacity expansion, in markets with a significant amount of Medicaid select programs that we provide access from with respect to that patient population would be less -- would be less of a focus for investment and growth, if not curtailing some of those services as we go. I mean we have to adjust the business, no differently than we adjusted the business when there was significant compression of demand during COVID. And we've demonstrated a lot of flexibility in the business. In doing that, yes, look, at the same time, this, ultimately, any cuts that are made here or any people that are made uninsured, it's not a good thing for their health care. And so we have to balance those 2 issues in the way we approach this.

Great. Let's move on to site neutral reform. I think it always surprises me that investors assign a high risk of site neutrality to ASCs when those settings arguably deliver the surgical care in the lowest cost settings already. So I think the risk is somewhat misunderstood, but I also think there's some that look at your high margins at USPI and say, that might come under pressure, should we see some sort of reform here. Maybe it's worth taking a step back to help us understand how USPI is able to achieve industry-leading EBITDA margins and how investors can get comfort with those margins as Congress contemplates site neutrality?

Well, I think the reimbursement mechanism in site neutrality is really disconnected from how we generate strong margins at USPI. So let's just first quickly address site neutrality. The ASC business, the ASC are all on freestanding rates today, and we've migrated to that. We also in general, even in our hospital business have more limited site neutrality risk than the average because our business model is not one of heavy physician employment that then drives a lot of business into the HOPD setting like in many other settings. And we don't do a lot. I mean we've moved a lot of our imaging and other things more preferentially into freestanding settings because it's more consumer friendly. And so there's a lot of this risk that is significant writ large for the industry, but significantly mitigated for the various business units at Tenet on a relative basis. So it's not just the ASC business that's somewhat insulated. It's important to understand that. And before you ask, no, we haven't quantified it, because there are 3 different proposals out there, at least that have floated around related to site neutrality. And until there's some clarity on where this may go, we won't have any more specific comments than that. Now in terms of USPI's margins, look, this is a -- first of all, USPI has always had strong performance. This is a healthy multi-specialty business. It's the most innovative surgical platform, providing the highest acuity ambulatory surgical care of the platforms that exist in the ambulatory surgery space, that pivot has been very deliberate in terms of what we have done. That creates value for the health system because things that would be more expensive in a hospital setting are coming out into the outpatient setting. We provide a broad range of management services that really run high throughput ASCs, which generate high margins. And of course, we're helped by the fact that this business model doesn't have a lot of fixed cost. And when you don't have a lot of fixed cost, you don't have to have extraordinarily high prices. A little bit of price actually hits the bottom line very, very quickly. And that's an important factor in generating the margins. We believe our pricing and our margins are highly sustainable. We don't have a lot of exposure to Medicaid, and we think the site neutrality risk at USPI is minimal. This is an incredibly sustainable, investable business even in this political uncertainty that we face.

Great. Moving on to tariffs. That's another issue currently being contemplated by the administration. How do you think about that risk for your business? And do you have enough visibility into where your supplies are sourced to size the potential risk on the tariffs?

Yes. Well, I mean, the tariff topic seems to come and go every week these days. Our -- first of all, for all of our commodities, we participate with HealthTrust, we think that they've done a nice job of staying on top of this issue and being focused with their partner base in commodity supplies. For most of our contracts, we have fixed pricing or capped escalators that are already in place. As they have said in the past, 70% of the supply profile is already contracted for this year. And we're hopeful that by the end of this year, there's some more clarity on where -- where and if a more permanent tariff environment exists. But at this point, we feel pretty comfortable with where our guidance is for 2025, and I think that it will take some more definitive action around the tariffs to actually begin to size what 2026 impact, if any, will be.

Great. Let's move on to some of the fundamentals of the business at USPI. You've made a couple of changes to guidance this year that are worth noting. First, you remove the same-store case growth and same-store pricing metric from guidance and instead shifted the focus to same-store revenue of 3% to 6%. What do you think it's better for investors to focus on that same-store revenue metric versus the underlying components?

Sun, do you want to comment on this one and then I can maybe talk a little bit about USPI strategy?

Yes, sure. Thanks, Andrew. Yes, listen, I think we stepped into '25, our initial guidance is 3% to 6% for same facility revenue growth, as you noted. It's consistent with our guidance from a year ago. And historically, we -- I think we performed at the high end of this range, at least for the last 2 years and even longer if you look at checkbook in history. As Saum's going to hit on the USPI strategy overall, but we think this guidance actually better reflects the actual strategic and day-to-day operational moves that were made taking USPI. Don't get us wrong, our long-term growth algorithm is still the 2% to 3% volume, 2% to 3% same-store pricing. But especially if you look at the last 2 years, given the variability that can take place between the 2 components year-over-year. And again, based on our intentional shift toward higher acuity procedures, we think it's investors and internally as well that it's better to focus on the revenue growth expectations.

I would add to that briefly, just that, again, as I said earlier in the USPI commentary, our focus is on continuing to build and expand our high-margin service lines. And -- that means, by definition, in some multi-specialty partnerships or even selectively some centers that we will be less focused on some of the high-volume, low acuity procedures that have some risk of going into physicians' offices in the next few years or some of them even are possible today. And we think this is the right thing for the business. And we're very comfortable with the way in which our net revenues and our earnings are growing largely ahead of expectations in this space.

Great. And as you look to expand and deploy capital and vet potential opportunities for USPI, what are the most important criteria you're looking for?

Well, the #1 thing is the quality of the partnership and the physicians who are growth-minded and refreshing -- they're proving an ability to recruit. That's #1. Obviously, that means that they are performing with high levels of quality and safety. You have an environment that is compliant. There are obviously markets that we prefer in which we want to grow where we can operate, where we have some scale and then our ability to improve those operations through the various synergies that we bring into the environment is another important factor. I mean our pipeline is very healthy. We have a lot of opportunities on the table, both small and big that exist at USPI. And as we have been, we're very disciplined about that process. I would note that for the centers that we acquired around about this time a year ago, they're performing ahead of our expectations that we outlined at that time. And so our integration processes and other things have been buttoned up, even when we do things at scale, and we feel pretty good about that.

Great. And sticking with the capital deployment, your priorities have been relatively unchanged, but your discretionary free cash flow has increased significantly with the better earnings profile of the company. Net leverage is already down to 2.5x. So how should we be thinking about the excess free cash flow? Is that largely going to share repurchase at this point?

Sun?

Yes. Andrew, I would say in general, our capital allocate parties have not changed, right? We're consistently prioritizing USPI M&A, and CapEx into our high acuity strategy in the hospitals. And then we're going to continue to deleverage, pay off debt and share repurchase. Clearly, at the moment, we're sitting in today, as we look at our valuation, no matter how you look at it whether it's free cash flow yield or multiples or other peer analysis, we feel it's a very attractive point to invest into our own shares and generate return for shareholders. So I think you'll see us -- and we've talked about it publicly before that we'll be pretty intentional about our share repurchase program in the near future. Longer-term, I think our general commentary and strategy still stands. And I think most importantly, whether or not compared to last year, we do more or less share repurchase, I think the important point is what you mentioned at the very beginning, our free cash flow after NCI is strong. It's $1.2 billion roughly at the midpoint of our guidance. That affords us the capability to do all the things that we just talked about without impacting our leverage ratios.

Great. And you sold 14 hospitals or so over the last year and now have a portfolio of hospitals under 50. Is there a number you have in mind that represents a critical mass needed to execute the enterprise strategy? And are we close to that number? Or is there still more room to go on the hospital divestitures?

Yes. Look, we're pleased with the current portfolio of hospitals. We're running them well based upon the results we're generating from them, which quarter-to-quarter, keep beating our expectations through 2024. Obviously, we feel like we have a handle on how to work in those markets. So our focus is less on numbers. It's more focused -- the focus is more on, are we running attractive facilities that insured people want to come to, that they want this part of their network, that they're insisting to their employers, provide services that have a reputation and work with doctors that have a reputation that make them desirable and communities that we serve. And that's really our focus. And I think we have a much stronger portfolio today that meets that criteria than we did 1 year, 1.5 years ago.

Great. Maybe finishing up on USPI. Total joints have been a big driver of volumes and acuity strength over the last few years with same facility total joint growth up nearly 20%, I think, in 2024, that's obviously a big number. So can you help deconstruct that? How much of that is same physician demand? And how much is that new physicians or service line expansions?

Yes. Well, it's a combination of both. I mean this is a little bit of the point I was raising with multi-specialty. We had a lot of orthopedics only centers. We acquired a bunch more through the SCD transactions a few years ago and really established ourselves at scale as the leader in orthopedics from a volume and care perspective. We then began to introduce orthopedics into our multi-specialty environment so that we're doing ortho and GI and other things side by side with each other to expand the capacity of existing ASCs. That obviously involves bringing new doctors into partnerships over time in order to create those multi-specialty opportunities. At the same time, the industry is still pushing things out from the inpatient to HOPD to the ASC setting in lower extremity joint, hips and knees. Increasingly, we've taken on new things like shoulders and grown that as the indications have become more and more available. We have expanded our robotics strategy in the ASCs specifically. Usually, when I talk about robotics, I'm talking about general surgery. But even in orthopedics, which we've participated in robotics for a long time, we've expanded that strategy. And then finally, you have -- you just have a demographic demand that's increasing faster even than a fast-aging population, right? I mean the aging of the population above 65 is moving at a pretty nice clip right now. And the frequency of total joint procedures is increasing even faster than that. And so there's demand that we are servicing as this happens. So I think there's a lot of positive things. Look, I've said all along. Our belief from 5 years ago from today is that really in the ASC space, orthopedics represent the best -- single best growth opportunity over the next decade.

Great. And if you're growing total joints 20% or so and reporting flat same-store volumes, clearly, some procedures are getting crowded out of the ASC setting, which procedures are those and where are they going?

We don't again, it's -- I don't know that it's crowded out. I mean I think we're being pretty deliberate about upgrading the acuity in USPI's portfolio based upon the work we're doing with the partnerships, with the assets, with the mix that's there. And so some of the much more lower acuity things that can sometimes be done in a physician's office are migrating out. So extraordinarily low acuity pain procedures and other things. What you want to focus on in the ASC setting is something where you're providing a deeper, more invasive level of pain management and analgesia for patients as opposed to something that's just a lot simpler and can be done in another setting. And that's just going to improve the sustainability of our business over time. It's the right thing to do.

Great. And then maybe shifting to the hospital side. We saw an acceleration of high dollar cost treatments across the health care system throughout 2024, including specialty drugs, advanced imaging and infusions. What's been your experience on the hospital side? Have you seen an uptick in higher acuity patients or procedures that's consistent with that trend?

Yes. Well, I mean our CMI has been increasing significantly. We've obviously in our operating model where our factor input costs are well controlled, our length of stay is well controlled. That acuity has driven a significant amount of revenue recovery from COVID. And obviously, the margins of the hospitals have improved significantly by being focused. It's allowed us to deploy technology and other things to stay at the cutting edge in our hospitals, which give us an opportunity to continue to grow and earn market share over the future. So I think this concept that we laid out 5 or 6 years ago that what's really sustainable in acute care hospitals is emergent and elective high-acuity procedure-based care as the way to manage a portfolio of services is working. And it's also allowing us to be more measured with how we spend capital because we're not building tower after tower to expand for low acuity med surge work that might just move out of the hospitals anyway.

Great. And moving maybe on the labor side, we've cycled through the worst of COVID, but we're still in an elevated demand environment for inpatient services. How do you manage that? And what is the labor supply and wage environment look like today?

Yes, Sun, do you want to...

Yes. Listen, on the management side, I mean, I think it's both the operational piece. Saum has talked a lot about how we leverage data and analytics to really look at our capacity and labor supply, floor by floor service line by service line. So we're very disciplined about that. And I think everyone has seen the impact of that as we drove down both our total wages and contract labor percent quicker and more effectively than the industry we feel. Going forward, yes, I mean our contract labor is at we -- in Q4, 2.1% of SWB. That's at the low end of pre-COVID historical ranges. We're very comfortable there. And to be honest, on market by market, assuming the environment continues, you might even see us invest a little bit of contract labor into certain markets or service lines. So I think we're very comfortable about the 2% to 3% range overall, 2.1% is excellent. And I think that's also in the context of base wages, we feel it's pretty stable. It's a pretty reasonable environment, pretty supportive of our overall goal. So I think we're in a reasonable spot with all that.

Great. Maybe with the last minute here, I want to touch on the ACA. You guys have talked a lot about the ACA contracting as being a driver of exchange growth and commercial mix over the last few years. Can you elaborate on that contracting strategy more broadly? And how do you think about the nice growth you've seen there against the potential expiration of enhanced subsidies?

Well, I mean, the exchange population is an incredibly important population. I mean, it covers people that aren't necessarily qualified for Medicaid, many of whom have still on the lower end of income. But importantly, what the exchange supports is small business growth, right? That -- I mean if you think about the people that are on these exchanges that are working that aren't part of a large employer, the exchanges support small business growth, which is an incredibly important priority politically today. 50% of the exchange growth that we've seen over the last few years has come in 5 red states. That's really important. That includes Texas and Florida. We've done some polling in those states. And politically, probably the most insightful thing we've heard is that not only does the average consumer and voter for this administration understand the benefits they're getting from the exchanges, but they can quantify that if those subsidies went away, their family's P&L would be hit by $1,350 per month in increased costs and they're generally aware enough to understand that the tax cuts for a middle-income family probably help them at about $1,000 a month -- $1,000 a year, I'm sorry, roughly. So $1,350 a month versus $1,000 a year. Again, I think politically, this is a very difficult thing to deal with, given the importance of these programs that exist today. Look, from our standpoint, we found that the exchange population utilizes the ER more frequently. The impact on the hospital business is more significant than it is on the ASC business. And regardless, if there were some sort of caps or other things put in, there are other ways to get coverage. You can buy down into bronze plans, et cetera, that would have very low subsidies. Maintaining coverage for people is and should be a critical priority. And I think the political dynamics, which is why I focus on that a little bit more today on Medicaid and the exchanges to share some of the facts from our polling work actually are strengthening the argument to protect these programs not weakening it.

Saum, you mentioned pulling work a few times during this conversation. Are you bringing that data and putting that in front of Congress? Just curious like what the reception level has been as you share that information with Congress?

Absolutely. And there's tremendous interest in the work, right, because there's a dearth of data in particular about how voters on both sides of the aisle are responding to these programs and the importance of these programs. Like think about it, it's somewhat surprising, but it shouldn't be to find how families -- middle income families understand the importance and can quantify for you the impact of these exchange subsidies on their family. And that's very important that these programs are well known, understood and important to these voters.

Great. Well, with that, we are out of time here. Thank you so much for joining us here today, and please enjoy the rest of the conference.

Andrew, thank you very much and we appreciate you indulging us as we work out our protocols around how we get back out to conferences. So thanks for the accommodation.

Absolutely. Thank you.