Universal Health Services, Inc. (UHS) Earnings Call Transcript & Summary

Welcome back to the Barclays Global Healthcare Conference. My name is Andrew Mok, and I cover managed care facilities here at Barclays. I'm pleased to welcome Steve Filton, CFO of UHS on stage here with me. Thank you, Steve.

Thanks for having me.

To start, maybe let's touch on -- in health care, I've been asking all the providers, in your experience so far, has it been disruptive at all to your operations? And do you think this is a transient impact? Any comments on change in health care to start?

Yes. So from a current processing perspective, which seems to be generally the biggest impact on providers. We don't use change for any of our outbound claims. We do know that part of our payers use them for their inbound claims, we think it affects maybe 5% to 6% of our total claims. Obviously, not a term material amount especially if this issue doesn't persist for a whole lot longer. And I think in this commentary in the last few days has been more optimistic about being able to get a bunch of their applications back online this week, that seems good. Otherwise, kind of miscellaneous applications like automated cash post payment [indiscernible], we use them for. And that's disruptive. But again, over the short term, I don't think it should be a big deal. So yes, I mean, it feels to me like this is a mostly transitory impact. We'll extend over 3, 4, 5 weeks. But after that, It really shouldn't be much of an issue.

When you see some types of vendor or just reevaluate vendor usage more broadly, maybe talk about dynamic?

Yes. I mean I do think it causes you to think about maybe a greater level of redundancy among all these applications. I think it's easier. I think we had some [ positions change ] for their outbound claims, and we were able to switch them over to another vendor because we had another vendor that we have contracted with experience. I think it just makes sense in a lot of these applications, you don't have a single use or a single source vendor just in case of something like this arises.

Great. With that out of the way, let's turn to the behavioral segment. How would you characterize the current demand environment for behavioral. It's been pretty strong since pandemic, has that surprise you? Characterize kind of the forward outlook here?

For an extended period of time, I think we have argued that behavioral demand has been -- our underlying behavioral demand has been quite strong. I think during the pandemic, there's a lot of evidence, both in our own internal metrics, but also a lot of macro data that suggest that the need for behavioral care actually grew and increased in some cases, dramatically during the pandemic. Our biggest challenge around the pandemic was not the demand itself, but our ability to meet that demand often was limited by labor scarcity dynamic where we simply couldn't hire enough nurses, therapists, psychologists, psychiatrists, in some cases, even nonprofessionals, mental health technicians to treat the patients who were being presented to us. I think the good news is that situation, you have labor, supply, demand disconnect has been steadily improving, I would say, for the last certainly 15, 18 months and makes us, I think, more bullish about our ability to grow behavioral patient base in 2024 by more than we had really since the beginning of the pandemic. So I think that's the function of again, the strength to the underlying demand had our ability to improve the ability to meet that demand.

Can you walk us through the trade-off on that marginal volume and marginal labor? How does that like cost of labor compared to the existing cost base? And what prevents you from your more forcefully hiring to meet that demand?

So I think that incremental demand is sort of what has given rise to the use of temporary labor, traveling nurses, temporary nurses. So when you have a temporary surge in labor -- excuse me, temporary surge in demand, it makes sense to pay a premium rate and that premium rate could either be to your own employees for over time or shift differential or to a traveling or temporary nurse. That's kind of an easy decision to make. I think the limiting factor in behavioral is because it's a much smaller industry, a lot of the big national companies that specialize in temporary nurse supply don't really have kind of a behavioral component to them. So in a number of cases, it wasn't that we -- call it unwilling, we didn't think it was economic recruitment to use a temporary nurse, we just didn't get one. Maybe a more detailed question is, how much should you be willing to increase your wages to be able to treat that incremental patient? And the challenge with that is there's really no such thing as sort of increasing the incremental wages of the one nurse who's treating your next 3 or 4 patients, once you increase that nurse's salary, now you're obligated -- maybe not obligated, but I think practically obligated to increase your base wage rates across the facility. So that becomes, I think, a much more nuanced detailed calculation about how much you want to be increasing your overall wage rate in a facility to allow you to accommodate how you're seeing those incremental patients.

How wide are those spreads, do you think, between just marginal cost of labor and existing cost of labor?

Yes. I think historically, premium pay is usual paid on a blended rate at a rate of about maybe 40% to 50% higher than your underlying wage rate. And if it's overtime, it's probably a little bit less than that. If it is a temporary traveling nurse, it's probably a little bit more than that.

Great. Let's move on to margins. Margins in both the behavioral and acute segment have taken a step back over the last few years. It sounds like you're more optimistic that you can recover some of that on the behavioral side. One, is that a fair characterization? And two, what are the key factors that you need to drive margin expansion in that segment?

Yes. So I think on the behavioral, I don't mean to oversimplify it, but I do think it is pretty straightforward. I think it is largely a volume -- a question of volume. If you go back and look at our behavioral business over an extended period of time in the last 10, 20 years, I think you'd see that in those periods where we were able to grow patient base by, let's say, 3% or 4% or certainly more than that but by at least 3% or 4%. And generally, in those periods, we had EBITDA growth, we have margin expansion, et cetera. In periods where we grew patient base by less than 3% to 4%, which I think characterizes most of the pandemic, we don't. We don't have EBITDA growth. We have EBITDA either flat or down. We have margin contraction. And so again, I think that this is largely a volume play. Now again, I think as your earlier question addressed, I think our view is now that the labor scarcity issue, I don't mean to imply that it's completely resolved by any state because it's still a pretty tight labor market. But now that I think our -- we've got a number of consecutive quarters with net hires where our retention rates and turnover -- our retention rates are going up, our turnover rates are down. I think we're in a much better position to be able to meet demand so that 3% or 4% patient day growth, which we have embedded in our 2024 guidance, isn't that an unreasonable stretch.

Great. And if we kind of similarly think about the acute care business, what have been some of the challenges to margins there? And what sort of time horizon do you have in mind for improvement in that segment?

Well, I mean, certainly, they had the same -- well, maybe not the same, but certainly they had similar labor supply-demand challenges in acute care. I think different in the acute care business is we tended to be able to meet the vast majority of our basic needs. So we would have that you can see at more times than not, we'd fill that vacancy, albeit we'd often fill it with much more expensive labor, which is why premium pay has been so much higher on the acute side than it was on the behavioral side. But that has moderated significantly. We talked about on the most recent call that premium pay, which had reached the peak of, I think $153 million plus in the first quarter 2022, has declined to the $60 million, $65 million range in the last couple of quarters. So that's a significant improvement. And maybe there's more room to go there, especially if acute care volumes moderate somewhat further. Another big headwind for the acute business for us, I think about the acute business were in large, has been this increase largely in 2023 and physicians subsidies expense for -- hospital-based physician, primarily emergency room physician, anesthesiologists to a lesser degree, radiologists. That's probably cost us in the last 15, 18 months to 150 basis points of acute care margin. And that's tough to recapture. I don't see that expense coming down anytime soon. We certainly will endeavor to make every effort to get some of our payers to contribute to that, but -- and I think it's a bit of an extended process. And then I think we've also seen that the continued shift of inpatient procedures to outpatient or procedures from an inpatient setting to an outpatient setting, where it's generally less profitable for us. That's, I think, another challenge. And finally, I would just say there's been sort of an acuity challenge over the last year. We've seen a pretty strong increase in the acute care volume, but acute care pricing has lagged better, and I think it's because a lot of that incremental volume increase has been in the older Medicare population who is, I guess, exhausting some of their postponed and deferred procedure volume from the high end volume.

Where do you think we are in that shift from inpatient to outpatient? And when you do lose procedures from the inpatient side, is that mostly -- are you recapturing some of that on the outpatient side? Or what's the impact there in terms of outpatient recapture versus losing the ASC?

Yes. No, I appreciate the question because I do think that there is sometimes a misconception that the idea when we say, there's been a shift from inpatient to outpatient is a confession that we've lost that business, that it has gone from inpatient in our hospital to outpatient somewhere else. The fact of the matter is, is that our outpatient surgical volumes have been growing at a fairly healthy clip. I think for the 2023 year, they were up at least by mid-single digits, 5% or 6%, which I think indicates that certainly, some of this shift is occurring within the hospital itself. And it's just -- it's a hip implant that a year ago would have been done on an inpatient basis that today is being done on an outpatient base, being done by the same surgeon, being done in our facility that we're getting paid for it, but it is likely to be less revenue, certainly less revenue and probably less operating income. Certainly, some of that business has been lost to other providers, stand-alone ASCs physician-owned ASCs, et cetera. But I think during the pandemic, that shift really accelerated, especially in the orthopedic service line. And I think what you hear a lot of hospitals saying, and I think it's consistent with our own experience is that 5 years ago, 80% of hip total joint replacement, hips, knees would have been done on an inpatient base. And today, 5 years later, the absolute business has flipped and 80% of those procedures are now being done on the outpatient basis. But it feels like, again, this orthopedic shift, which I think was most dramatic during the pandemic has played itself out. And while I think in all of our other diagnoses or service we see -- we've returned to kind of a steady clip of inpatient to outpatient migration nearly as dramatic as it was during the pandemic.

Great. Turning to the pricing side of the equation. I think your 2024 guidance corporate side is about 2% to 3% growth in the acute segment. Walk us through the underlying components of that? And do you think your underlying commercial rates are strengthening in 2024? Or are you just lapping some of the mix and acuity headwinds that we just discussed?

Yes. I think that the main issue is that post acute care, again, pricing or revenue per adjusted admission growth to lag in 2023 was not actual contractual pricing because I think you said that I would say beginning in the back half of 2022, we've been getting, what I would consider to be more inflationary appropriate increases from our payers. You've seen, I would say, again, beginning in the back half of '22, maybe 150, 170 basis point increase in the contractual price increases, we will be from payers. I think what has been more of the cause of the lagging care, again, pricing or revenue recurrent admission or adjusted admission is a little bit of the inpatient outpatient shift that we talked about earlier, a little bit of this acuity dynamic where I think some of the strength and maybe a lot of the strength intake volumes in the last couple of years have been these procedures, these lower acuity procedures, particularly in the Medicare population that had been deferred earlier in the pandemic, but now we're making the form. And then finally, I think the dynamic that we've talked about certainly in the last several quarters is, I think acute care volumes generally increased in 2023 converse significant loss ratios and medical loss expense on the part of the payers increased. You saw their, I'll call it, payer behavior, processing behavior become more aggressive in the context of an elevated level of denials, level of patient status changing, meaning it used to be a claim as an inpatient claim and they change it to an observation claim with lower reimbursement, et cetera. I will say that our Q4, pricing, or Q4 revenue per adjustment did increase undoubtedly over where it had been running earlier in the year. And I think that's a function of this dynamic payer, payer behavior, the acuity of mix procedures, et cetera, kind of stabilizing and anniversarying after 2 nights, 12 months or so.

Maybe just a follow-up to that as you alluded to this behavior and, I think, the two-midnight rule. What's been your experience to date thus far, how have you seen that progress? And maybe like what flexibility do payers actually have here given the rule.

Yes. I think unfortunately, from our perspective, there's still a lot of flexibility. The two-midnight rule, I think some of the people misconstrue, has a very sort of cut and dry kind of dynamic with CMS [indiscernible] facility that they have to be paid as an inpatient. But the thing underlying that is still, potential debate over whether they need inpatient criteria. If they meet inpatient criteria two-midnight sort of requirement then they have to be paid as an inpatient. But if a payer is going to argue that some of that doesn't meet inpatient criteria then whatever -- however long it last for really doesn't matter. And again, we believe that payers will fall back on that argument more than anyone else. And one thing payers have is we have the advantage of, call it, the retrospective look at its day in the half of the other works. Patient comes into the emergency room, the most obvious example and the one I kind of use all the time is with chest pain, suspected cardiac, et cetera. And again, depending on the age of the patients, their medical history, comorbidities, a doctor is going to take you for her time trying to rule out in every way that they have [indiscernible] a bunch of procedure to cardiac caths or whatever it may be. If at the end of whatever that is 2 or 3 days stay, they conclude that patients didn't have a cardiac disease and get discharge further like we're not getting paid from the payer as if it was just an observation visit. Which sort of implies the shorter [indiscernible] visit even though the patients had a significant amount of diagnostics, several days of nursing care, et cetera. And I think in my view is a medically necessary to rule out what could be a potentially [indiscernible]. So in any event, we see as a provider community, certainly [indiscernible] pain, I would call it healthily skeptical that payers will still find ways, CMS is stronger ruling language on the [indiscernible] to still deny a lot of inpatient or convert a lot of inpatient [indiscernible].

If that is the case, then they will necessarily comply with maybe the series of the rule with the next steps that you would take as an organization, do you think a formal complain, pursue legal action and kick them out of network potentially, what's the follow-on impact of this?

I mean so a great number of our either denied claims or emergency where patients had a change, and we do a PO. We have a pretty good, I think -- we're generally successful when we push or appeal. So we certainly do that, to a lot, I don't think that, that process involves a lot of at least the time and effort. In some cases, we feel like denials of patient status changes are really just we have to become good payers. I think we brought legal action against payers. More frequently in the last year or 2 that I can remember. And I think it was a fairly long time, that's the most, but going to litigation activity, I can remember for years and years and years. So there are those options. There are the options as you said if payers is really, in our minds, sort of behavior [ increase ] to contractually with that. The [indiscernible].

Great. Going back to the pricing discussion for a minute. Another item impacting revenue in both segments is supplemental payments. There was a big one for Nevada this year, but it seems like this is an area that's seeing nice growth for several years now. Can you help frame me these programs for investors? What's the historical experience been like in these programs? And why do you suspect states maybe need more heavily on these programs from the peers?

I think it's driven by a couple of factors. I mean, one is I do think there is more and more of an acknowledgment on the part of states that their Medicaid reimbursement, particularly over the last several years when at an elevated level of inflation when there clearly has been much more wage pressure that Medicaid reimbursement in those states has simply not kept up even remotely with those cost pressures. So -- and I think there's an acknowledgment on the part of the states that if they don't increase their Medicaid reimbursement, then somehow there may be a significant number of hospitals could be not able to function and unable to treat this, for the critical part of the population that's not going to be find care in other places. So that's, I think, what motivates the states. Why they, I think, largely to the supplemental programs as opposed to, for example, just a [indiscernible] is the supplemental to attract a federal component. And so there's a cost to the state you are getting from the Feds to bear at least half, et cetera. So I think it's really a combination of those and in terms of their sustainability, and I think this is true of almost all reimbursement programs, reimbursement benefit in place, whether it's Medicare [indiscernible] or disproportionate share or [indiscernible] the supplemental payment programs. They're very hard to take away, you can look, we probably have more disclosure, more detailed disclosure on these. And then if you go back whatever period you like 4 years or 5 years or 6 years, you can take your volatility, tax reimbursement goes up in market down in the next [indiscernible]. But you really don't see any programs alternated or reduced in dramatic fashion and again, I think the reason for that is because I think if they [indiscernible], the public policy outcome, which would be, I think, the closure of dramatic to treat that population [indiscernible] I think is a public [indiscernible] not acceptable now. What I do think you're likely to see and certainly, CMS has begun to talk about this and address this issue is, if you acknowledge that there's been a significant increase over the last several years, and they talked about it, the capping, the rate of increase and some sort of [indiscernible], I think, is certainly a likely outcome over the next several years.

I want to go back to the discussion around labor, I think there was consequence in 2023 on physician subsidy side. How would you characterize that? Do you think that's marginally stabilized? And is there any potential for operation throughout 2024. Just curious what your biggest thoughts are on physician subsidies.

I think What happened with the physician subsidies is, again, late into '22, around in 23, these companies that were providing our ER doctors and our anesthesiologist into our e-services were unprofitable. They needed to be recast. And [indiscernible] arrangements, we either recast them to pay the incumbent that or to a greater subsidy [indiscernible] but still paying them a greater subsidy than we were previously paying. When we brought the service in-house, we employed doctors and they were operating the service themself. But those instances had a greater cost. But I think what has happened is, from our perspective, most of these arrangements were recast back in late '22, 2023. Coming out to the beginning of '24, we really anniversaried, a big increase. It's really a big increase. I think I mentioned earlier, it's on 150 basis points of the acute care margin that we launched in about a 12- to 15-month period increased physician subsidies, but it does feel like they have large margins [indiscernible] and now we're just looking at a regular inflationary increase.

Maybe staying on this topic, but in terms been a lot of activity in that state over the last 6 months or so between new health care minimum wages and some you can headline -- has your view of the operating environment in the state you used to roll in, what's your latest headcount, just the overall state dynamic around labor?

Yes. California, always been sort of talent, there are elements of operating in California they are very attractive, demand is good in a growing population. We [indiscernible] from an acute care perspective, so it's probably California from a minimum perspective sort of across all state. On the other hand, wage rates have been particularly high, I think it is -- can [indiscernible] et cetera. I think overall, we reviewed California has operated greater, we are navigating around these challenges but to be fair, it's expanding.

Great. Maybe last question here. Most of your behavioral business is on the inpatient side, you decide, you know when you think about the opportunities in front of you? Is it similarly on outpatient side? Or do you see growing opportunities in inpatient side that look compelling?

I think we always had a view, and we have had outpatient programs that are independent with in our inpatient but we generally sort of describe them as step-down program. So [indiscernible] step down into an intensive outpatient program, hospitalization program where they're not staying overnight, has always been a part of our continuum of care. I think what we're looking for is either step-up programs, meaning to step-up, kind of the operation program which are between inpatients and the outpatients basis, et cetera, they can step up into inpatient. We're just freestanding, but really are associated physically or in some more perspective with our inpatient, because there is certainly a need for [indiscernible] for patients [indiscernible].

Great. We're out of time, so let's wrap it there. Steve, thank you for joining us at our Annual Global Healthcare Conference.

Thank you.