Terveystalo Oyj (TTALO) Earnings Call Transcript & Summary

Good morning, everybody, and welcome to Terveystalo's Q3 Results Call and Webcast. My name is Kati Kaksonen. I'm responsible for Terveystalo Investor Relations, Sustainability and Communications. Today, our CEO, Ville Iho; and Interim CFO, Mikko Tainio, will take you through the results and, more importantly, the ongoing profit improvement program, followed by Q&A. Ville, you already know, but maybe a couple of words on Mikko Tainio. He has a long history with the company, leading the public partnerships and now in the role of Interim CFO. He's been closely involved with the preparations of the profit improvement program and the related operating model design. But without further ado, I'll give over to Ville then.

Thank you, Kati. Good morning from my behalf, and thanks for joining Terveystalo webcast. Today, the focus will be profit improvement program and associated actions with which we are reenergizing our profitability and getting fast impact into our P&L. But of course, as you already know, the starting point for the plan is unsatisfactory Q3, which we will also lay out for you very clearly. I will share in detail how we see the drivers behind the result and Mikko will continue from that base. But let's get started. So unsurprisingly, we are extremely disappointed with our Q3 performance. That's, of course, not enough. There will need to be a plan how to get to the level where Terveystalo needs to be and will be in the future. We have analyzed the results. We have very clear diagnostics in place and now also clear and decisive plan in place how to get rapid improvement into our performance. We'll also touch upon unrelated, but parallel write-down during Q3, isolated write-down in intangible assets, i.e., digital development, which had one-off negative impact in our Q3, but has no long-term implications into our digital agenda going forward. And then we'll concentrate on the profit improvement program. But let's go first to Q3 and break it down a little bit more. I will start with the overview, and then Mikko will shed some more light on drivers and Q3 details. Starting from revenue. As you can see and as you have well read from the numbers, growth was flattish, revenue was flattish from last year, year-on-year. And growth came mainly from Sweden and inside Finland, growth in activities came mainly from digital, which has implications into our mix, which I will explain in detail in a while. Q3 breakdown behind unsatisfactory numbers and a disappointing result. We have 3 main points. The biggest driver, which we have discussed earlier already is the change in sales mix. There's an impact from last year, year-on-year, of course, from the drop in COVID-19, but even more importantly and more interestingly, there's a change in a mix from pre-pandemic levels. And those drivers, I will explain in more detail. And what now needs to be done against the new realities of the buying behavior and a mix in the marketplace. Second point is costs. There are inflationary pressures inside Terveystalo as well, we are operating with tight labor market and especially with the mix that we -- and supply that we were able to grow appointments and activities drove up the cost. That will be addressed in Alpha program. Thirdly, over last couple of years, we have grown our support functions to support the growth and, I would say, overly complex structure of Terveystalo and services portfolio. So those are the main 3 drivers. I said, Mikko will dive a little bit more in detail into those. But the most important thing, as I said, is the mix, and that one I will cover in more detail in the next slide. So if you think about mix and changes from pre-pandemic levels due to current day, you can slice it in basically 2 different dimensions, channel mix and then mix between different customer groups. Then further on, there are further dimensions, but those are on a detailed level. Starting from channel mix, Terveystalo has been the biggest sponsor for boosting digital sales and digital appointments in the industry. We continue to do so. There are a lot of benefits for customers and our productivity alike in the longer term. But in the short term, this has a negative impact into our profitability and mix. The reason behind that one is simply the fact -- or it's a twofold. Firstly, digital appointments generate way less referrals to specialist appointments and diagnostics, i.e., higher-margin services in our portfolio. Secondly, we are running today sort of dual system, physical and digital, and we have not been able to capture full value in our productivity from digital transformation. And that will be addressed in Alpha program also. Turning our view on to customer group mix. There's an additional negative driver for our mix related to supply bottlenecks at least partly. As you can see from the number of appointments for different groups, the good news here is that the activities are growing. We have been able to boost up appointments, i.e., activities inside Terveystalo. Demand continues to be strong. We have been able to increase the supply and activities, especially during last couple of weeks and post summer season. But the activities concentrate in a lower-margin customers currently due to the bottlenecks. What it means in practice is that the share of consumer customers in our sales mix decreases. And as you well know, they are the highest-margin customers for Terveystalo. In supply restricted world, where we are living in, we have been sold out basically for 1 year now. We are obliged to serve the contracted customers, they claim shares of the lion's share of the supply and hence, the sales mix that goes to the negative territory. As a result of this one and on top of these 2 sort of internal phenomenon, there's also more sort of a global phenomenon post pandemic, where share of diagnostics in activities inside health care industry is decreasing. This might be temporary. This might be phased out. But as we have now seen the post-summer activities in our own services, we need to assume that the level of diagnostics will remain for an extended period of time on a lower level, and we need to adjust to that reality. And the way to adjust is obviously changed our pricing, changed our service packaging and address the cost base. So we need to adjust. But I want to stress the fact still that underlying demand continues to be there. Terveystalo position is very strong. We need to address new market realities to get to the profitability that Terveystalo is known for and will get to. Then totally isolated, but parallel write-down, which affected Q3 numbers. We have been running for years, a program to modernize part of our core IT systems. Inside that program, one element has been renewing the patient record system. The program was run by external supplier for years. We have now redesigned the ecosystem. And based on the redesign, we have decided to discontinue that part of the renewal program. The rest will continue as earlier planned, but that part has now been suspended. And hence, we do the associated write-down. The new plan will deliver the same elements as we planned originally. But with the smaller elements, smaller modules and actually going forward with lower CapEx. The write-down does not impact in any way Terveystalo's internal digital service development. We continue to sponsor that part of the business. We continue to lead the industry in this field. Now the performance improvement program. So negative trends have been analyzed. The diagnostics is there and performance improvement program is in place, consisting of 3 different elements. First of all, we have already disclosed new streamlined operating model, which allows each part of the business, the focus on their respective targets in a better way, not mixing between different services and creating overly complex structure. We establish a portfolio business inside which there will be independent value creation plan for each and every business area. For core business, thirdly, we have already started a EUR 50 million program performance improvement, profitability improvement Alpha program. Starting from the operating model, it's very clear, very transparent. We have a very focused, very clear core business part, Healthcare Services, Finland, consisting of commercial and operations. That continues to drive profitability, concentrates on improving that one. And there, we will have this EUR 50 million Alpha program, sort of extra legs, extra speed to return to the profitability that we, Terveystalo is known for and we'll get in a rapid manner. Portfolio businesses, on the other hand, will concentrate on individual value creation plans. We will not, in the future, mix between core business and portfolio businesses. Portfolio businesses do have value. This -- what we are saying today does not mean that they are bad businesses as such. But under umbrella of Healthcare Services, running them as a smaller businesses, different type of businesses is way too complex. That has created too much complexity and associated cost. So they will, in a way, have a new life, more independent life on the portfolio business. Sweden, thirdly, continues to be a growth driver for Terveystalo going forward. The strategy there is intact. Plan is on track, and we see promising growth prospects in Sweden in future. Operating model, asset management structure, very clear asset Healthcare Services divided into operations and commercial led by Siina Saksi and Marja-Leena Tuomola portfolio businesses, these independent businesses under one portfolio led by Mikko Tainio and then growth area Sweden, led by Joachim Morath. This, as I said, already been disclosed. This is reality inside Terveystalo. And even though operating model changes always have some pain associated internally. The feedback on the clarity and the focus has been very positive from the Terveystalo ranks. So we have operating model. We have independent value creation plans for portfolio businesses, and then we have Alpha program to improve fast performance for core business. And let's dive now in the Alpha program. Alpha program, I said, the focus is on core business. The focus is to drive down the cost base with a simpler structure. We need to address new realities of the marketplace, and there's a lot of potential to do that. We'll build profitability over time. So there are longer-term investments associated into that one. And we are going hard after the supply to really capture the value from our position and high demand marketplace. If we look at the timing of the impact, there's a cost obviously associated with the program, restructuring and performance-based advisory will, of course, carry some cost and they will be front-loaded and then benefits also come in first, as you can see. And as we have communicated, more than 50% of the benefits will already hit 2023. The first implementation in commercial and also addressing our cost base are well underway. So we are confident that the program in place will contribute EUR 50 million run rate profit improvement over the next 12 to 24 months, and ensures that will reach 12% to 13% EBITDA margin. Breaking down the program a little bit more. As I said before, there are elements addressing cost base. New realities as to the Terveystalo structure and also sales mix warrant and require addressing overhead cost and external cost. And that's already being implemented as we speak. The second bucket is commercial upgrades and improvements. I said, positive thing and a tailwind from the marketplace still endures Terveystalo position is strong, market is strong and demand is there with the changes that we have started already to implement into our pricing models, into agreement structures, they will ensure that we will be able to first capture the value from this high demand market and our position. Thirdly, there will be more long-term strategic initiatives that will address productivity and sales mix going forward. And they will ensure that also long term development of Terveystalo continues as a positive. With these 2 first categories, the impact will be fast, and we'll see results already during first quarter, some already during fourth quarter this year and will ensure a rapid development to our targets of 12% to 13% EBITDA. This is a realistic and balanced plan. It's made in detail. It's granular. I have seen a couple of these during my professional career, and I'm confident that this will deliver and it has already started to deliver. There are detailed work streams under Alpha program. I will not go through them all, obviously, here, but just a couple of examples where we are already today, I said, operating model is in place and simplicity and focus that has put in place into Terveystalo is already sort of revealing additional potential in our cost base. And I said, it's getting positive feedback from the ranks. It's clear everybody understands there's a focus for each and every action. In commercial arena, we have already implemented first changes to our policies, to our pricing structures, to our agreement structures, and we have adopted sort of a war-room or situation room approach to renegotiations in our agreement portfolio. When it comes to mix and supply, best example of our progress from recent weeks is doctor recruitment. We are actually breaking records now every month. And we need to still -- even though we are going hard after cost, we also need to get the supply up. That remains intact and signs and the recruitment numbers that we are now hitting are very, very promising. So I hope this gives adequate detail into what we are implementing and also what we are planning to implement. This was a rapid go through, but there will be, for sure, will be some questions related to this one also. I'm happy to take them. So as a recap before Mikko sheds some light -- more light on Q3 numbers. We have diagnostics in place. So the sales mix has trended negatively post-pandemic. We have gathered too much cost due to the complex structure. And we are addressing these issues with Alpha program operating model, independent portfolio business, value creation plans. And fourthly, Sweden, strategy and plan remains intact and is on track to deliver future growth for Terveystalo. So Q3 was a disappointment. We have analyzed it. We have diagnostics in place, and now we have actions already in place and well underway to fast and drastically improve the performance. With that one, I will give floor to Mikko to share some more light on Q3 numbers.

Thank you, Ville. And as we acknowledge the change in the marketplace and the poor Q3 in a result of that one, I will now go on and illustrate a bring a little more life and detail on the Q3 messages that were already partly highlighted in Ville's section. So first of all, if we look at the longer-term perspective, it's very easy to see the profitability deteriorating, both on absolute and relative terms, due to the reasons that Ville covered earlier. As you know, the Q3 is also seasonally weaker for Terveystalo because of the holiday season. But even on that one with the Alpha program steps, we will be able to reach profitability level that is much closer to the 12% to 13% target that we have. Now if we jump back and go into a little more detail on the Q3 drivers. So recapping, first of all, what Ville said, 2 main components impacting the profitability were the changes in the sales mix and also the increased costs. And going through them one by one. So first of all, of course, there is the COVID-19 impact here as well, but the single largest impact making up more than half of the overall EUR 19 million deterioration came from a weaker sales mix and was driven by the channel shifts, customer mix change and shorter care change, actually, as explained by Ville in detail. On the positive side, our recruitment is going strong, and we were able to reach -- increase the capacity profitably. But unfortunately, it was partly offset by the increase in sick leaves and also the cost inflation, which we can see in a couple of the next blocks. First of all, there's cost inflation related to salary increases, premises, IT and digital costs, but also we are seeing some certain elements that were not present in the comparable period in the pandemic era such as travel and events. In the group functions, the cost increase was related to digital development and IT, increased marketing and also here for certain elements, not that we're not really present in the pandemic period. On the public business, the performance was very much impacted by not only the inflation, but also the very tight labor market situation that, as you well know, is also affecting the general Finnish public health sector. The feel good performance is seasonally weak in Q3 as well, but we are on track with the plan on that one. So as a highlight from this one, so as we are going on, we need to make extra sure -- are making extra sure that we can tackle the inflation and pass on any incurred inflation that we then experience to our customers through the pricing actions. Good. If we're now turning to CapEx and the CapEx profile. This is the last 12 months figures. You can already see a small decline there, but we will be seeing a reduction in our CapEx going forward for 2 main reasons. First of all, the Alpha program, which in addition to OpEx is, of course, tackling CapEx as well. But also, as Ville explained, the new asset-light development plan for the digital EMR system will be more CapEx light than the earlier adaptation. Jumping to our cash flow and financial position. As you can see, the cash flow remains strong as does the balance sheet and hence the credit profile. And perhaps as a highlight from Q3, we have also completed a EUR 120 million loan refinancing. And hence, we do not have any immediate refinancing terms coming towards us. So maybe to conclude the whole finance section, despite the disappointing Q3, first of all, we see a strong continued demand. And with the steps we are taking with the Alpha program, we expect to see a rapid improvement in the profitability going forward, while the CapEx is also decreasing. And secondly, the strong cash flow and the balance sheet support the execution of the program and also would enable a stable dividend, while we are progressing with that one. Good. That's the Q3, and I will now hand it back over to Ville.

So one more recap on what has been said today. First of all, the outlook, as Mikko said and I said earlier, the fundamentals for Terveystalo growth and profitability as to the market, they are in place. So the demand is strong. Terveystalo position in the marketplace is strong. With the presented plans, we are confident that we will achieve the Terveystalo financial targets, growth, profitability and indebtedness. The program is in place for rapid performance improvement. Diagnostics is clear, and we are already well underway with the implementation. And with that one, we'll go, I guess, for the Q&A.

Ville and Mikko, we are now ready for your questions. And just as a reminder, we are taking questions from the phone lines as well as the webcast. So if you have any questions that you would like to address, send them over. First, do we have any questions from the phone lines?

[Operator Instructions] The next question comes from Sami Sarkamies from Danske Bank.

I have a couple of questions. Firstly, on growth. So can you still open up why you didn't show any growth in the Finnish market, even though demand has continued to be solid? I think you've been talking about the bottlenecks and supply constraints already since last year, you did new hires in the second quarter. So why aren't these measures contributing to improved supply in the third quarter?

Thanks, Sami. So if I may. If you look at the activities graphs, which I presented earlier in the presentation, you can see that from activities point of view, which then reflects the physical and digital supply at our end, and we are growing nicely. So the recruitments are yielding results. But with the worsening sales mix, that does not fully reflect into the revenue growth. So that's the -- that is the reason behind that one.

Okay. And then moving on to that sales mix. I think the EBIT bridge that you presented is very helpful. When you look at the change in sales mix parts and sort of make a comparison to last year, is it safe to assume that this is mostly about declining COVID-19 testing?

So compared to last year and sort of cutting some corners, yes. But then as I said in the presentation, the diagnostics and conclusions that we need to draw from Q3 are more related to 2019 and changes from pre-pandemic era to this day.

Yes. Okay. And then coming to that part, you're saying that sort of growing digital appointments are weakening margins in the short-term. Just wanted to understand why that wouldn't be the case also in the long-term as the issue seems to be that you're not able to generate those high-margin referral sales through the digital channel?

Yes. There are a couple of different drivers that we can impact. First of all, the pricing model for digital services can be most asked further, both from the sort of a platform supply point of view and then sales point of view. We have high demand for digital services from our customers, and we don't have difficulties in getting supply today to the channels. What that means is we have not priced the services correctly. So there's over demand from both sides, and we are not capturing the value. So the conclusion is very clear. And there's wiggle room in that space. Secondly, digital services and digital appointments continue to be for longer-term, slightly different from physical services. There's different type of mix of medical issues that are being addressed in those services, et cetera. But looking at diagnostics apples-to-apples comparison, we can improve the conversion over longer period to higher-margin services purely by sort of optimizing the interface for professionals and also for our customers. There will be most probably a slight difference also in the future between physical and digital. But we can close the gap with the actions we are taking and also we can price better so that we will get or will capture more of the value of these high-demand services.

Okay. And then moving on to IT investments. You have done material write-downs in the third quarter. I think you opened up sort of the projects in more detail. But I would just like to understand that since when were these projects started and how will you kind of like replace them going forward? So will you be, for example, using off-the-shelf systems instead of sort of our custom developed systems?

Yes. These are long-term projects. I think the start of the programs were in 2018 for several different modules in our core IT systems. And there were 3 main parts, one of which -- 2 of them will deliver or have delivered and third part, i.e., the patient record system has now been discontinued in a form originally set for the development. There are -- first of all, there's no immediate impact in our services. So we have the current working ecosystem. And during the period from 2018, actually, we have been -- we have even been forced to sort of complement the current -- old core system. So even the need for full renewal has decreased, and to your point, whether or not we'll take off-the-shelves program to support our internal development, that is a possibility. We'll always look, and this new plan allows us more -- in more agile and nimble manner to look at different modules and sort of pick and choose the right way, internal or external.

Okay. Then moving on regarding the sales mix. You complained that you're not able to service the highest-margin consumer customers. Just curious where are these customers going at the moment, are rivals servicing them more or is it so that they are not just able to get the service they want?

Of course, we don't have our competitors' numbers. So difficult to give you an exact answer to that one. But we are spilling, it's clear that we are spilling consumer demand at this stage. So we have been fully booked for quite some time, and they will need to go to competitor other than to public sector. Those are the options available.

Okay. And then finally, on the cost-cutting program. I mean, this seems quite challenging in a sense that as demand is not the problem rather supply. I mean, can you just try to explain in which areas you will be able to cut costs as obviously, you will need to increase the supply also as you go?

Yes. Very, very good question. So first of all, as we have -- we are facing a strong demand from the marketplace. The Alpha program is not targeted at sort of downgrading our recruitment needs for health care professionals. We'll -- we continue to boost that one on the contrary. So the frontline personnel will continue to grow and supply needs to get there to the right levels addressing the high demand. But in the background, in making our digital development smarter going forward in our overhead functions, we have -- first of all, in digital, we have now a clear focused plan in place. We can do better. We'll continue investing in that area and lead that development but with smarter cash usage. The even easier part is the overhead. So we have been driving with a fairly complex operating model for, I would say, 4 years now. And addressing that one isn't actually rocket science. So just put in place more focused, more simplified operating model allows us actually to achieve a bulk of the savings targets in our plan.

And then just curious, what is the role of external consultants in the sort of productivity improvement program that you will be implementing? I think in the release, you were sort of disclosing that there were some advisory fees that have -- are success fee based?

That is correct. Operating in this environment and serving our customers, of course, organization is busy in doing what they need to do. And we have deemed that it's beneficial for us to get some extra legs to boost the activities needed to -- needed for transformation, cost-cutting initiatives and also the commercial activities. And hence, we have taken, as you said, performance-based advisory to help us shoulder to shoulder.

Okay. I don't have any other questions.

[Operator Instructions] There are no more questions at this time. So I hand the conference back to the speakers for any closing comments.

Thank you. Before going into closing comments, we have quite a few questions still from the webcast. So maybe starting from the wage inflation, what's the current level we're seeing there? And what should be expected for next year? And also where are we still having open job vacancies where we continue to recruit people?

Starting from the last question. So basically we are growing in our frontline personnel across the board based on the high demand. So we are continuously recruiting health care professionals, depending, of course, on the region where we are having our services, it varies. But across the board, looking at the old Terveystalo portfolio, we are recruiting with good success as we speak, health care professionals. And to cater for growth that continues to be the case. So Alpha program, as said, does not impact our recruitment pace in any way for the frontline. Then as to the salary inflation, there are 2 elements. If you cut some corners, there are 2 elements in our cost base related to personnel. We have private practitioners' fees, which are not salary, but, of course, play a big role in our cost base. And there, we are not talking about salary increases. We are talking about rent level that will -- or shares between private practitioners and Terveystalo. And they're actually looking at the trends, we don't see drastic changes to either direction. So that has been stable and seems to be stable going forward. Then the biggest salaried personnel group is our nurses. There we have in place now 2-year contract with labor union put in place during the summer time. And there, the nominal prices are fairly modest. So we are looking at the first year 2% salary increase, then the second year is tied to export industries of Finland. And depending where they go, we will then see the salary increase level. What industries seem to be contemplating right now as to the next salary increase is between 3% and 4%. But, of course, market is in quite a bit of flux. So you don't know if it's going down or if inflation takes it even high.

Then a question on the investment level. What are -- what will be the investments in the future for the intangible assets or namely digital and IT in our case?