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

All right. Well, thank you, everybody, for joining us here on day 2 TD Health Conference. My name is Ryan Langston. I'm the health care services analyst here. Very happy to have Universal Health Services with us. Up here on the day, we have Steve Filton, Executive Vice President and Chief Financial Officer; and Darren Lehrich, Vice President of Investor Relations. Thanks for being here. So I guess real quick, UHS, one of the largest U.S. health care providers, 29 inpatient acute care hospitals, 340-some inpatient behavioral growing outpatient footprint, insurance offering, physician network, various related services, 39 states, Washington, Puerto Rico, U.K., I'm sure I missed something, but...

I think that's pretty...

Quite extensive. Okay.

All right. We'll jump right in. Maybe a good place to start fourth quarter, maybe help us a little bit with the sequential earnings pattern, certainly on the acute side between the third and the fourth quarter. I think typical seasonality, that's usually up. I think it was down around $45 million, if I have my numbers correct on the EBITDA line. A lot of moving pieces, DC, DPP, flu, other items. So maybe just walk us through that sort of sequential move in the fourth quarter.

Yes. So I think there were, as you pointed out, a number of...good guys, positive nonrecurring items in the third quarter. When we adjust for those and adjust for any nonrecurring items in the fourth quarter, we come up with a relatively flattish sort of third quarter to fourth quarter performance. You called out the District of Columbia Medicaid supplemental payment in the third quarter. That was close to $90 million. And I'm not sure that everybody has sort of properly included that. We had an $18 million legal settlement, which was a bad guy in the quarter, but we also had an accountable care organization payment in the $10 million range. I think we had a payer settlement that I'm not sure we even disclosed in detail, also I'm forgetting there that we -- I think we talked broadly about all these things in the third quarter, but I'm not sure we spiked them out.

Yes, that's right. And so to Steve's point, there were a number of good guys. I think if you kind of take those all together between the opioid settlement, some of the RCM improvements that included some other settlements, you've got about a $30 million benefit from those items. And then sequentially, we had about a $70 million sequential step down in supplemental payments. So altogether, about $100 million of earnings that didn't carry into the fourth quarter from the third quarter. To your point, our EBITDA in the fourth quarter was down sequentially by about $45 million in the acute segment. But as Steve mentioned, the way we look at it, it was relatively flat, maybe even slightly up on an underlying basis. Normally, you would expect the seasonality of the fourth quarter to be a bit stronger. Volumes were, in fact, sequentially higher. But as we pointed out in the call, volumes for us in the fourth quarter in acute were a little softer than what our original planning was, and that was probably the biggest driver of the lack of general uplift that you typically see in the fourth quarter.

Obviously, in the fourth quarter, you set the guidance for the year for '26, included in that for both acute and behavioral volumes, 2% to 3% adjusted admissions for acute, obviously, APD for behavioral. I guess maybe just certainly on behavioral, that's been the focus in my conversations with folks. Maybe walk us through how you're getting to those numbers, what gives you sort of that confidence? I do know you disclosed, I think, 3.5% FTE growth on behavioral. So that probably sets you up nicely. But any other puts and takes that kind of gets you to that 2% to 3% between the two segments?

Yes. So I think in behavioral specifically, it's worth noting that our adjusted patient day growth in every quarter in 2025 increased, albeit incrementally, but we exited the year in the fourth quarter, about 1.5% growth. And so in our minds, we're now within shouting distance of that 2% to 3%. I think the idea of sort of what gives us the confidence that we can make that relatively small or bridge that relatively small gap. And we believe now I'll be the first to acknowledge that 2% to 3% has been an elusive goal for the last several years, but we're within shouting distance. And I think the two things that give us confidence that we can get there in 2026 are one that you mentioned. We invested, I think, a lot in hiring and improving our staffing in 2025 because that has been a real obstacle for us over the last several years, not having all of our positions filled, nurses, therapists, mental health techs has limited the amount of volume growth that we could engineer. And we invested in hiring, and you alluded to it. We disclosed, I think, in our 10-K that our behavioral headcount, our FTEs increased by a little over 4% in 2025, even though our volumes only increased by a little over 1%. And I think we were willing to make that investment because we think it positions us well for the 2026 growth. And I don't think our FTEs will -- or I think in 2026, our FTE growth will sync up much more closely to our actual volume growth. And then the other issue, which we've discussed, I think, at length is continued emphasis on outpatient growth. We believe strongly that over the next several years, outpatient volumes and outpatient demand in behavioral will outpace inpatient demand and I think that's been the case probably certainly for the last year or 2, and I don't think we've necessarily enjoyed that growth, particularly that outpatient growth. But we've really focused on it. We've restructured how we're incenting our people, how we're organized for outpatient growth. We're investing in new freestanding facilities. And while I think some of these things will -- are a multiyear process and we won't enjoy the benefits immediately, but it will take some time. I do think there'll be enough impact in 2026 that the outpatient growth will outpace inpatient and help us get broadly to that 2% to 3% adjusted patient day growth, which, by definition, reflects the outpatient side of things.

Yes. So is it fair to say maybe behavioral specifically, you think that generally, this has been sort of a staffing issue and maybe now with these FTE increases, kind of set up. Is that a fair way to get...

I think so. I mean we have cited other issues, I think, that more specific issues. But I think broadly, the single most sort of pervasive issue has been a staffing constraint that was really exacerbated during the pandemic, but even coming out of the pandemic in the last couple of years has been and we've always said it's not in every one of our facilities, but probably 1/4 to 1/3 of our facilities have had to limit the amount of patients they see because of a lack of sometimes nurses, sometimes therapists, sometimes the nonprofessional folks that we call mental health technicians.

Got it. On the fourth quarter, too, in the release, there was a fairly large gain -- unrealized gain in the P&L. I think that's related to AI investment that you have. I think you own about 3% of the company. Maybe walk us through that investment, and I'm sure you're leveraging that in your hospitals and your facilities. But maybe just walk us through what that investment looks like.

Yes. So Hippocratic AI is a company that was started by General Catalyst, a venture capitalist. And we were a seed investor, I think, at this point, close to 3 years ago, invest -- became sort of a 3% owner of the company and have kept that ownership percentage with additional investments. And Hippocratic AI, I think, was designed specifically to develop technology applications specific to health care, obviously, the name Hippocratic AI with the health care orientation. And most recently, particularly AI applications, the gain that you referred to is the last round of funding that we participated in, based on the valuation of that round of funding, our sort of $20 million cost investment is sort of now worth about $110 million based on the latest funding and the instructions that we got from our outside accountants were that we needed to recognize that through the P&L. So that's the nature of the adjustment. But sort of at its core, our investment in Hippocratic AI allows us to really be on the cutting edge of some of these really sort of recent and cutting edge developments in AI. The one that we talked about publicly and we've implemented and has been successful sort of at the outset is a thing called AI Agentic. It is these AI agents. So in an acute care facility when a patient is discharged within 24, 48 hours in their discharge, they have historically gotten a call from a nurse who we call it a post-discharge call who will say to them, how are you feeling? Are you in -- what's your pain level? Have you filled your prescriptions that you were given on discharge? Have you made the doctor's appointments you were given on discharge or recommended? And generally, we have found that, that exercise and that process helps reduce readmissions, keep patients satisfied and healthy, et cetera. A number of those calls in the last several quarters are being made by AI agents. And we find that the AI agent identifies itself as such on the call and about 50% of the patients stay on the line, they have a conversation with the AI agent. I've listened to some of those calls, and I'm sort of an old school guy and yet the calls are very seamless. And so essentially, what we've done there is we've been able to accomplish exactly what we were able to accomplish with a nurse. But now we've freed a nurse up to do something more productive and with still the same level of results. So that's the kind of application and use that I think will continue to be developed over the next several years by Hippocratic AI, by vendors that we use and have contracted with who have AI applications and as well as some internal AI development that we're doing on our own.

You sized the APTC expiration, I think, around $75 million for the year, talking about elusive, it seems to be -- current situation seems to be elusive for most companies. Do you have any insight into what is going on versus that $75 million currently or at least with your sort of building blocks to get to that number in terms of effectuation rates or just behavioral changes, volumes? Anything that you can give us currently on that particular situation? It doesn't even need to be necessarily financial.

Yes. I mean, so the two most significant assumptions that went into that $75 million impact estimate were we've assumed that about 25% to 30% of our current exchange population. And we frame that our current adjusted -- on an adjusted admission basis, a little over 6% of our acute adjusted admissions come from exchange patients. We estimate that about 25% to 30% of those people will lose their coverage. Those estimates are really based on kind of third-party estimates either from the CBO or in like organizations who've tried to frame this. And then we assume that a small percentage, somewhere between 10% and 20% of those people will be able to get other coverage. Maybe they will go from a gold metal plan to a bronze metal plan. We believe most of them will get commercial coverage through their employer. But it's a relatively small percentage. And the largest percentage of people who will lose that exchange coverage, 75%, 80%, 85% of them will turn into uncompensated or uninsured patients. And we think that's the greatest impact. So most of the $75 million estimated impact will come from people who've lost their coverage, continue to utilize the hospital, in particular, utilize the emergency room. We will treat them as we're obligated to do both legally and ethically, but we'll do so without any reimbursement. And what was reimbursed a year ago won't be reimbursed now when we convert it to bad debt or uncompensated care. There's some element of reduced volumes that we've calculated in. But again, we think the greatest impact is on that uncompensated care. Your question is, I think, in January and February, what's our experience been? And what I would say is we've definitely seen a reduction in the number of exchange patients immediately in January and February. I don't think it rises to the 25% to 30% level. But I think we think it still will. And I think we've said and I think others have said that we need another couple of months at least of activity and experience because I think one of the things that everybody acknowledges will happen is that some people that the insurers are still saying are insured under the commercial exchanges will fail to make their payments, their premium payments and will be deemed to be uninsured. So we think that 25% to 30% will ultimately be the number. But to be fair, we need another couple of months of data as I think does the entire industry to unpack it and to be more precise. But at the moment, we are comfortable that our experience in the first couple of months supports the $75 million estimate.

Got it. Fair to say you might have more commentary on the first quarter earnings call.

Yes. I think we should know more. I don't know that we'll be sort of 100% informed at that point, but I think another 2 months at that point of data will be very helpful.

So on the state-directed payments, I think you guided to a fairly nominal increase year-over-year. Obviously, there are some outstanding programs. You did have some insight last year into the D.C. program. I guess is there anything to comment on certainly in Florida, California, a couple of other states that are maybe more impactful for you?

Yes. So the Florida program, we've kind of identified the potential for that now for several quarters. We've framed the potential benefit is between $45 million and $50 million. And along with all the other providers in Florida, we've been waiting for the program to be approved. The state of Florida has, I think, repeatedly expressed optimism that the program will be approved. I think the fact that it's been delayed as long as it has, while other programs have been approved is an indication that there probably is some objection that CMS has. We don't really know what the specific conversations between CMS and the state of Florida. We've obviously not included that benefit in our guidance. We've certainly not included in our actual results. And we'll do so if and when the program is approved, and we'll look for any further commentary either from CMS or from the state of Florida. The California program, we know that CMS has had very specific issues and objections to the California program. And as a consequence, we believe that in order for a new program in California to be approved, it will have to be revamped and altered significantly from where they are today. And so we've made no effort, and I don't believe anybody has made an effort, any other provider has made an effort to quantify the potential benefit there. We think it could be material. It certainly could be beneficial to us. But until there's further clarification, we've been very sort of nonspecific about a potential benefit in California.

Got it. And I think you had talked about the California staffing issue that's going to impact not just you, but other folks. We had heard from a competitor of yours that I think the state association was potentially trying to work with the state to see if they could get some relief there. I guess, is that your understanding? And if so, do we think there's actually a potential that, that could come through at some point this year?

Yes. I mean, look, it's worth noting that the California Hospital Association has lobbied very hard to oppose these regulations. And by the way, it's not just the behavioral hospitals that have lobbied against them. Acute hospitals have been a strong voice against these regulations as well. The concern of acute hospitals is that if there is -- if these regulations result in any sort of capacity constraint in behavioral hospitals, that burden is going to fall back on Acute Hospitals and Acute Hospital emergency rooms. which will wind up having to house behavioral patients for longer than they view as appropriate, et cetera. So I will say this, I mean, the regulations originally were supposed to be implemented on January 1, and the state agreed to postpone that until June 1. At the moment, however, we have every expectation that they'll be implemented on June 1, and that's what we're preparing for. We've begun to hire particularly RNs in anticipation of that. Obviously, to whatever degree, lobbying efforts continue and the state in our minds becomes more reasonable, we would welcome that. But we're proceeding along. Obviously, we've included what we believe the negative impact to be in our guidance and are assuming that until we hear otherwise, that the regulations will be implemented on June 1.

On behavioral, you laid out your expectations for 2% to 3% pricing growth in 2026, but you've obviously been running well above that. That might strike some as a bit conservative, prudent, if you will. I guess remind us how maybe historically you've been able to sort of get those rates and maybe why you think at least at this point, the 2% to 3% is the right starting number?

So I think it's a couple of issues, Ryan. I mean one is, I think either you or Darren said that our overall projections for the increase in directed payment program reimbursement next year is relatively flat. I think it's up about $23 million. But it is up more in acute. I think it's up $58 million in acute and down $35 million in behavioral. And that accounts probably for about a 50 basis point boost in pricing on acute and a 50 basis point drag on pricing in behavioral. So that's a little bit of the softness contributor to behavioral next year. But I think other than that, we've been saying for some time that pricing over the last several years has been stronger, higher than it has historically been in behavioral. And we've talked largely about getting increased pricing from managed Medicaid payers. And I've made the point over and over again that when we talk about increased pricing, in many cases, we're getting a 5% increase from a managed Medicaid payer. But that's after a period of no increases for 3 or 4 years. So I don't want to -- I'm hesitant to describe them as outsized increases. We think they were overdue increases. But one of the things that we've made the point is if we got those increases in '24 and '25, those benefits would start to anniversary. And at some point, we would see a moderation of our pricing strength in behavioral. Honestly, and I think people who follow us closely know, it's taken longer than we thought. And we've been, I think, sort of conservatively saying we're likely to see that moderation a year ago, 2 years ago, et cetera. But I think finally, we're starting to see it in 2026. But I would make the point that the 2% to 3% pricing in behavioral and the 3% to 4% in acute beside the impact of the DPP, I think once you adjust for that, falls very much in the range of what the historical pricing increases have been in both of those segments.

On the acute side, just in terms of pricing, obviously, during COVID, those rates are not keeping up. Post-COVID, I think you and some of your peers were able to sort of garner a little bit of premium yield. We're sort of at that place now, I think, where some of those contracts or maybe the majority are starting to be negotiated. So the question becomes, are you able to sort of keep that, I'll call it, premium yield maybe versus pre-COVID? Or is that going to sort of normalize maybe over kind of a 2- to 3-year period?

So I think you described it properly. I think beginning -- towards the end of COVID, I'm going to say, late in '22 into '23, as we began to renegotiate acute care contracts at that point in time, I would say before that, during COVID, maybe pre-COVID, our average price increase in an acute care contract was in the sort of 3% to 4% range. Beginning '22, '23, maybe even a little bit into '24, I think that rose to about 4% to 5% on average as we were getting, I think, an acknowledgment from payers that inflation broadly had risen during that period and that wage inflation, I think, in particular, had risen and our rates -- renegotiated rates were reflecting that. I think as we've begun to renegotiate those contracts, I think you framed the question as they begun to expire we've renegotiated them in '24, '25 into '26, I think we've progressed back to or moderated back to, again, I'll call it, 3% to 4% on average. And I think that's reflected in our pricing. Now we do get the benefit, again, of increased DPP. We get the benefit of steady, albeit small increases in acuity, maybe 1% increase in acuity every year, which boosts pricing, decent Medicare increases. So I think we're comfortable in that 3% to 4% pricing range for the acute business for '26 with all those sort of factors coming into play.

In our January hospital survey, we had a fairly large health system respond and saying that denials activity was really a drag for them on revenue accruals in January. So I guess the question is, what are you seeing in terms of denial activity, medical necessity, just UM maybe in general from the plans, maybe taking into the backdrop that obviously, the plans are sort of struggling, not in a great spot here for at least the last 1 to 2 years?

So I think it's worth noting that I'm going to say 1.5 years ago, we embarked on a process where we hired a third-party consulting firm to review our revenue cycle processes. We have spent a great deal of time and focus and dollars on improving across the board our revenue cycle, particularly for acute care, people, process technology. And to a degree, I feel like at best, maybe what this has done is kept us current or sort of on a level playing field with the payers who, I think as your question alludes to, have been more aggressive in terms of their denials and patient status changes and kind of delays and deferrals and payments. So I think ultimately, because we've made a significant amount of improvements in our own processes, we haven't really seen a measurable increase in denials, patient status changes the way that some other providers have sort of talked about in the last few quarters or even like you said, as recently as the last couple of months. And honestly, we're going to embark on a very similar process in 2026 in our Behavioral segment and their revenue cycle. So I think that's helping us to kind of stay even with the payers. But I certainly acknowledge -- I would say when ever anybody asked me this question, if one of our revenue cycle folks was sitting in this chair or -- and we ask them the same question. They would just describe a sort of ungodly kind of daily experience of this slog with the payers. And that is really true. I mean it really is a daily sort of back and forth with payers, et cetera. But I think it's -- when we look at the overall metrics, we haven't seen a significant increase in denials, patient status changes, those sort of leading indicators.

And then just sort of maybe looking into the future, I mean, obviously, the '27 rate update, at least the advanced notice is tepid more than people thought. It looks like the payers could continue to struggle at least a little bit here. I guess what's the expectation going forward? Could be use of AI for increased denials? And maybe just more broadly, where do you expect those relationships with certainly the national payers to go as we move through '26?

Yes. So look, I don't know that anybody -- I'm sure nobody does know this for certain, but I think there are at least some who expect that the final rate from CMS for the Medicare Advantage plans will be better than the initial proposal, which was, quite frankly, I think, disappointing for the MA providers or payers. I do believe that if the rate stands and if the payers are forced to make changes, they certainly will, I think, continue to be aggressive on the utilization management changes. But I think the main initial way that they'll respond, and we've seen this, I think, to some degree in 2026 is with benefit plan design. And as you know, the way the Medicare Advantage plans have really competed with each other and competed for traditional Medicare Business is in expanding the sort of traditional benefits to include things like dental benefits and vision benefits and those kinds of things, which, quite frankly, don't generally impact us. So to the degree that those benefits are eliminated in benefit plan design changes to make the product more price reasonable, if you will, for the payers, I don't know that it's going to have an immediate impact on us.

Professional general liability reserve has been a topic certainly in Behavioral. I think you alluded to on the last earnings cycle, a little bit more on the hospital side as well. Maybe walk us through what the accrual activity was in 2025, what's built into guidance for '26. And I think the general question becomes, is that pressure sort of still high but steady? Or do we expect that to be high and potentially accelerate over the next couple of years?

So specifically, I think in 2025, we said that we added about $45 million in expense to our malpractice reserves in 2025, about $35 million of that in the third quarter and another $10 million in the fourth quarter. And we make the point that we have a very formal actuarial review, a third-party actuarial review twice a year on our malpractice reserves and are looking at them even in real time more firmly. And I think it's been a pressure point, not as I think your question suggested, not just for us, but for the industry, I think both the acute and the behavioral industry. So we've tried to stay ahead of the pressures on professional and general liability expense. I think have done a reasonable job of doing that. But it's going to be something that will be continue to be evaluated in real time. In terms of our guidance for next year, I would say that we've got malpractice insurance expense rising faster than the rate of inflation instead of, I'll call it, 5%, maybe by 10% or 15%. We think and hope that, that's adequate, but we'll continue to reevaluate that with our actuarial studies every 6 months.

Last minute or so, maybe touch on capital spending. I mean the leverage ratio, 1.7x, 1.8x, somewhere in that range. I mean, extremely low versus your competitors, to be fair. We get this question a lot. Obviously, you could buy back a pretty significant amount of shares if you felt you wanted to. There are some assets potentially out on the market. You could build some internally. So maybe last minute or 2, where do you look at capital policy now just given some of that backdrop?

Yes. I mean I think we view the sort of ideal leverage level in the 2x, 2.5x range. So we would acknowledge your comment that we're at a low level. We like to sort of keep the flexibility to respond to inorganic opportunities, M&A opportunities. I think particularly as we build -- in both of our segments, as we built out our outpatient footprint, looking to see if there are opportunities inorganically to help do that and trying to keep the flexibility open to do that. You said we could choose to be sort of an active acquirer of shares. We've been -- I think we've chosen to be and have been an active -- a very active acquirer of our shares. Probably over the last 6 years, we bought back about 1/3 of our shares. So we consider that to be a pretty active level. And I think we'll continue to be an active acquirer of shares regardless of what other opportunities are out there. But to whatever degree there are opportunities, we want to be able to pursue those as well.

All right. I think we'll have to leave it there. It's all the time we have. Steve, Darren, thanks a lot, and enjoy the rest of day 2 at TD Healthcare Conference. Thank you.

Thanks, everybody.

Thanks.