R1 RCM Inc

NASDAQ:RCM

Earnings Call Analysis

Revenue Growth and Strong EBITDA Performance

The company reported revenue of $2.25 billion with a robust adjusted EBITDA of approximately $614 million and margins of 27%. Looking ahead to 2024, they anticipate revenue to range between $2.625 billion and $2.675 billion and adjusted EBITDA to fall between $650 million and $670 million. Revenue grew nearly 8% compared to the previous year with Q4 adjusted EBITDA surging 33.5% and margins increasing to 29%. Modular and other revenue, excluding Acclara, are projected to experience low-double-digit growth. The company's core adjusted EBITDA margins are expected to expand by about 200 basis points, signaling a continuation of their operational strength and financial discipline.

Solid Foundation for Future Growth

In the past, the company built a strong position with significant achievements. Particularly in the last year, executive engagement with current and potential customers, and the time invested in understanding the evolving market dynamics and provider needs, has formed a solid foundation for the company. This has resulted in a compelling value proposition: a partner that can deliver across a spectrum from flexible value delivery to anticipating future regulatory and market challenges.

Financial Performance and Growth Trajectory

The company delivered an admirable financial performance with $2.25 billion in revenue and an adjusted EBITDA of approximately $614 million, maintaining strong adjusted EBITDA margins of 27%. Looking into the future, they expect revenue to ascend to $2.625 billion to $2.675 billion with adjusted EBITDA ranging between $650 million to $670 million. This trajectory includes contributions from recent strategic moves such as the Acclara acquisition and the Providence commercial contract. They anticipate these ventures to supplement an incremental growth in 2024 and project over $625 million in revenue and $185 million in adjusted EBITDA by the fifth year.

Strategic Acquisitions and Market Diversification

The acquisition of Acclara, along with a 10-year partnership with Providence, underscores a significant opportunity for growth and reflects the first integration of an operating partner relationship into the Cloudmed base, which is central to their strategic acquisitions. This notion is supported by the robust performance of modular bookings and anticipates embedding further growth opportunities in the near term. Additionally, their commitment to technological advancements continues to drive their operational model, enhancing process efficiencies and positioning them for quicker, cost-effective service deliverance.

Realized and Expected Synergies

The team's focus on core operations and the integration of technology leadership has not only stabilized vital customer metrics but also paved the way for increased operating efficiency. The Cloudmed integration, in particular, demonstrates this success, delivering approximately $30 million in synergies in 2023, with expectations of achieving an additional $20 million in 2024.

Earnings Call Transcript 2023-Q4

[Operator]

Good day. My name is Ellie, and I will be your conference operator for today. At this time, I would like to welcome everyone to the R1 RCM Incorporated conference call. [Operator Instructions] Evan Smith, you may now begin the conference.

[Evan Smith, executive]

Thank you, operator, and good morning. Certain statements made during this call may be considered forward-looking statements pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. In particular, any statements about our future growth plans and performance, including statements about our strategic and cost-savings initiatives, our liquidity position, our growth opportunities and our future financial performance are forward-looking statements.

These statements are often identified by the use of words such as anticipate, believe, estimate, intend, design, may, plan, project, would and similar expressions or variations. Investors are cautioned not to place undue reliance on such forward-looking statements. All forward-looking statements made on today's call involve risks and uncertainties. While we may elect to update these forward-looking statements at some point in the future, we have no current intention of doing so except to the extent required by applicable law.

Our results and our outcomes may differ materially from those included in these forward-looking statements and as a result of various factors, including, but not limited to, economic downturns and market conditions beyond our control, including high inflation, the quality of global financial markets or the ability to timely and successfully achieve the anticipated benefits of potential synergies of the acquisitions of Cloudmed and Acclara, our ability to retain existing customers or acquire new customers, the development of markets for our revenue cycle management offering, the variability and lead time of prospective customers, competition within the market and factors discussed under the heading Risk Factors in our most recent annual report on Form 10-K.

Certain results that will be referenced on this call may be rounded to the nearest whole number. We will also be referencing non-GAAP metrics on this call. For a reconciliation of non-GAAP metrics to the most closely comparable GAAP metrics, please refer to our press release. Lee?

[Lee Rivas, executive]

Thank you, Evan, and good morning, everyone. As I reflect on the last year, I want to share some of my learnings and why I believe we are in the strongest position in the company's history. I spent a great deal of time with current and prospective customers, learning about their strategies, their needs and involving provider market dynamics. The increasing challenges faced by providers has heightened their need for partners that can be flexible in how they deliver value over time. The conversations are centered around needing a partner who has a wide breadth of capabilities, with the scale and technology to ensure they realize value quickly while also being confident in future cost, quality and revenue yield improvements over time.

Customers want a partner who has the ability to apply AI and automation to an otherwise labor-intensive process, along with domain expertise to help them anticipate regulatory, labor and technology challenges over time. They want a partner that can evolve with them and their patients' needs to improve the overall patient experience. We believe R1 fits this role with our ability to leverage structured and unstructured data from almost half of the acute physicians in the market, global scale and a technology platform that is accelerating the application of Gen AI and leveraging our data sets to build large language models and automation into the revenue cycle.

I also spent time with our global operations team to support the continued execution and deployment of our end-to-end and modular solutions, including the recent onboarding of our largest new end-to-end customer. Whether a customer wants an end-to-end solution with comprehensive support, a functional partnership across a targeted revenue cycle area or modular solutions to accelerate, optimize and navigate revenue recovery. R1 has cross-functional teams that are highly focused on performance management and capable of expanding with customers over time.

We have the flexibility to enter into more managed services deals with functional and modular capabilities that address near-term pain points for a broader set of customers. This also brings the potential for higher blended margins while establishing embedded opportunities to expand into an end-to-end partnership in the future. I would also point out that our modular solutions, which drive higher margins and are a significant portion of our adjusted EBITDA are already deployed successfully with more than 500 customers.

We believe this is a great anchor for cross-sell and expansion opportunities. As a team, we have also spent time focused on our core operations, stabilizing key metrics for several customers. aligning our global resources to deliver functional solutions at scale and continuing to advance our technology leadership and initiatives. We believe these efforts will create new opportunities to deliver increased value to our customers, further reduce our operating costs and enhance our growth.

It has been a productive year and one where I believe we have made significant progress and have built a solid foundation for sustainable growth and strong financial performance over the coming years. Our full 2023 results demonstrate our commitment to delivering value for our customers. We delivered $2.25 billion in revenue, strong adjusted EBITDA of approximately $614 million with adjusted EBITDA margins of 27%. We delivered double-digit growth driven by the full ramp of new end-to-end customers and continued strong performance in our modular solutions. This growth highlights the market demand for our solutions and our ability to effectively leverage our global operating scale.

As we consider 2024, we expect revenue of $2.625 billion to $2.675 billion and adjusted EBITDA in the range of $650 million to $670 million, including contributions from both the Acclara acquisition and Providence commercial contract. As we outlined in our earnings release, our 2024 outlook reflects continued underlying growth across R1's business, including low-single-digit growth in our existing end-to-end customer base, offset by customer facility divestitures and previously disclosed customer attrition, as well as continued double-digit growth in our modular revenue.

We entered the year with more than 90% of our modular and other revenue target already booked or recurring from 2023 and last, we expect that the Acclara acquisition and Providence contract will provide incremental growth in 2024 and more than $625 million in revenue and $185 million in adjusted EBITDA by year 5.

Jennifer will cover the fourth quarter and full year 2023 financial results and our 2024 financial outlook in more detail. But first, I would like to give a quick business update on our 2023 achievement and 2024 focus areas. First, demand for R1 solutions remains strong as the industry continues to face financial pressure, regulatory complexity and labor challenges. Continued strength in our modular bookings, combined with the acquisition of Acclara and the Providence end-to-end deal demonstrates our continued ability to drive growth, as well as increased diversification within our business.

The acquisition of Acclara and resulting 10-year partnership with Providence represents a significant growth opportunity and marks the first cross-sell of an operating partner relationship into the Cloudmed base. This was a key investment thesis of the Cloudmed acquisition. While all the opportunities may not be at this scale, the Providence relationship demonstrates the significant potential within the current customer base.

In addition, R1 has already seen initial traction for our go-to-market activity, leveraging our flexible model which we believe will add new opportunities in the near term with solid embedded growth potential over time. As an example, late in the fourth quarter, we signed a smaller NPR customer who is initially interested in our end-to-end solution. Working closely with their leadership, the R1 team assessed their financial needs as well as their operational setup and determined the best path forward for both parties was to enter into a managed services and modular offering partnership. The deal includes full outsourcing of their back office, and we anticipate adding at least 4 additional modular solutions by the end of the year.

Second, R1 continues to apply technology to the revenue cycle to help our customers drive down costs and increase revenue yield. We expect to continue to invest, develop and deploy new technology solutions, enhance processes and leverage our global scale to address critical issues for the customer base. With more than 500 customers now representing over $1 trillion of covered NPR, we have a growing structured and unstructured data set based on over 500 million patient encounters annually.

We believe our global footprint, including approximately 30,000 employees across the U.S., India and Philippines, along with access to this real-time performance data, will enable our Gen AI and automation initiatives to deliver optimized revenue yield at a lower cost more quickly. We believe Gen AI and more specifically large language models, will power our incremental automation throughout many parts of our business and the provider revenue cycle.

Our initial focus areas are in denials automation, next action prediction for our AR management teams, coding automation and revenue intelligence rules improvement which represents some of our largest areas of operational spend. In the most recent quarter, we rolled out several new models, 1 of which is available to thousands of our AR follow-up staff numbers. When 1 of our operators opens an account to work, oftentimes that account has been worked before, perhaps multiple times and frequently, the operator begins by reading the account history to understand those details.

With this new feature, the operators immediately presented with a summary of the relevant details and current state of that account. This is a foundation for predicting what the appropriate next action should be and then automating that action when possible. Third, as I mentioned, legacy Cloudmed solutions have been and will continue to be a key driver for the company's growth and profitability, accelerating our technology road map and enhancing our opportunity with a larger potential customer base.

In addition, the synergy realization from the Cloudmed integration is progressing very well. We delivered approximately $30 million in synergies in 2023 and anticipate an additional $20 million from Cloudmed synergies in 2024. We believe this success provides additional confidence in our ability to meet or exceed our synergy targets for the Acclara deal. Finally, we have executed several initiatives to strengthen our operations and customer service. We believe these initiatives will create a strong foundation for embedded and sustainable growth in revenue, adjusted EBITDA and free cash flow.

In summary, as I said at the beginning of last year, 2023 was a year of execution, and we delivered on several priorities. We stabilized our customer metrics, realized synergies ahead of our targets, strengthened and diversified our customer base, including signing Providence, which positions the company to create a solid growth outlook for at least the next several years. We accomplished all of this while addressing several challenges in the base business, which are reflected in our 2024 outlook.

We are leveraging the full scale of our global capabilities and deploying both functional models and managed services, which will better leverage our platform and provide greater flexibility to address each customer's specific needs. We believe this better aligns resources, objectives and responsibilities. In 2024, our team will continue to expand upon these focus areas by: one, ensuring our go-to-market strategy aligns with our customers' needs in order to meet them wherever they are in their revenue cycle journey; two, continuing to deliver excellent results to our customers who have recently onboarded or who have long-standing relationships with R1; three, executing against our technology road map to drive measurable results; and four, focusing on operational excellence to drive improved financial performance, which in turn will deliver improved shareholder value.

Now let me turn it over to Jennifer to discuss financials.

[Jennifer Williams, executive]

Thank you, Lee, and good morning, everyone. We are very pleased with our financial results for both the fourth quarter and for the full year of 2023 as well as the forward progress we are making as a business. In 2023, we were focused on 3 key financial objectives: one, continued revenue growth; two, operational execution and cost discipline to drive margin expansion; and three, improved cash generation and pay down of outstanding debt.

We made significant progress across all 3 objectives despite some headwinds to the overall business. These results would not be possible without the contributions across our team. I would like to thank all 30,000 plus of our global associates for their continued efforts to deliver results for our customers and our shareholders. This morning, I would like to walk you through our fourth quarter 2023 financial results, our full year results and then spend some time on our 2024 outlook.

We delivered solid results in the fourth quarter with revenue of $575.1 million and adjusted EBITDA of $167.7 million demonstrating continued strength across our business and the ability to manage cost effectively to drive operating leverage. Revenue in the quarter grew almost 8% year-over-year. Let me provide a little more detail on the revenue drivers.

Our net operating fees of $369 million increased 7% year-over-year. Growth was driven by the onboarding of new business that annualized in the fourth quarter as well as continued low-single-digit growth in cash collections from our existing end-to-end customer base. Our incentive fees were $24 million and in line with our expectations. Our modular and other revenue posted another strong quarter with revenue of $182 million. Double-digit revenue growth year-over-year was primarily driven by cross-selling solutions to our existing customers.

Turning to expenses for the quarter. Non-GAAP cost of services in Q4 was approximately $358 million, down $6.8 million year-over-year and down nearly $7 million from the prior quarter. The year-over-year decrease was primarily driven by margin maturity across customers onboarded in 2022, combined with synergy realization from the Cloudmed acquisition. Non-GAAP SG&A expenses were nearly $50 million, up 15% from the prior year. The fourth quarter included a provision for credit losses of $10.5 million related to our receivables.

In particular, 2 customers account for the majority of the charge due to specific factors in their business and the current macroeconomic environment. Excluding the impact of the provision, SG&A expenses were down 7% year-over-year, driven by synergy realization, offset by investments we are making in technology. Our adjusted EBITDA in the fourth quarter was $167.7 million, with growth of 33.5% year-over-year and margins of 29%. Revenue growth, combined with continued cost discipline and execution of our integration priorities drove these results.

Lastly, in Q4, we incurred almost $29 million in other expenses related to Cloudmed technology and integration efforts as well as facility related charges. Other expenses also includes roughly $5 million of transaction costs for the Acclara acquisition we announced in early December. Other expenses decreased by almost $19 million or 39% year-over-year as our teams progressed through the integration. And as Lee mentioned earlier, we realized more than $30 million of cost synergies from the Cloudmed acquisition in year.

Our fourth quarter results bring our full year revenue to $2.25 billion and adjusted EBITDA to approximately $614 million. Our full year margin was 27%, up nearly 380 basis points, driven by our revenue growth, mix of revenue across our solutions, continued operating discipline and synergy realization.

Now let me provide a couple of comments on cash flow and the balance sheet. As I previously mentioned, past generation has been a focus over the last year, and we've seen a significant improvement in cash flow in 2023. Cash and cash equivalents at the end of December were $173.6 million compared to $164.9 million at the end of September. For the full year, we generated $340 million in cash from operations, and we are very pleased with our execution in this area. We also fully paid down our outstanding balance of the revolver totaling $60 million in the fourth quarter and $100 million across the full year.

As a result, net debt at the end of December was $1.48 billion, with a net leverage ratio of 2.25x. Our liquidity also remained strong with approximately $772 million at the end of December, both from cash on our balance sheet and availability on our revolver. As we announced last month, we completed the acquisition of Acclara in January for $675 million of cash and a warrant to acquire up to 12.2 million shares of common stock. The company funded the cash consideration and related fees and expenses with cash on hand, additional borrowings of $575 million in Term B loans and an $80 million draw on the senior revolving credit facility.

Now let me move to our 2024 outlook. For 2024, we expect revenue of $2.625 billion to $2.675 billion, growing 16% to 19% year-over-year. GAAP operating income of $105 million to $135 million, and adjusted EBITDA of $650 million to $670 million with growth of 6% to 9% year-over-year. These expectations reflect the 2024 impact of both the contribution of Acclara and the new contract with Providence.

Our guidance also assumes low-single-digit year-over-year growth for our base net operating fees driven by improved cash collections. In the fourth quarter, our base customers were generally at their go-forward run rate of $369 million. Adjustments to this run rate include normal seasonality and the impact of attrition and facility divestitures we expect to occur in 2024. Customer attrition is related to APP and pediatrics as well as the impact of facility divestitures we expect for 2 customers, including several AMITA Health hospitals, which were part of the Ascension and AdventHealth JV dissolution, as announced in 2022.

In addition, we expect Providence to contribute net operating fees of approximately $45 million to $50 million for the year beginning in the second half of 2024. While we continue to have constructive conversations with federal leadership on scope and timing, we have excluded any contribution from Sutter Phase II in our 2024 outlook. We expect modular and other revenue, excluding the impact of Acclara to grow low-double digits. This includes the following assumptions: mid-teens growth for legacy Cloudmed solutions and low-single-digit growth in the legacy R1 modular business.

And finally, we expect Acclara to contribute approximately $290 million to $295 million in revenue. We are in the process of determining the classification of Acclara revenue between net operating fees and modular and other revenue and we'll provide more detail when we report our first quarter results. We expect adjusted EBITDA to be in the range of $650 million to $670 million. Within this outlook, we expect Acclara to contribute approximately $25 million to adjusted EBITDA. And based on the upfront investment for the ramp of the Providence new business, we expect the Providence contract to have a negative impact on adjusted EBITDA of approximately $45 million in 2024.

Excluding the impact of Acclara and Providence, core adjusted EBITDA margins are expected to increase approximately 200 basis points. We also expect significant improvement in 2025 adjusted EBITDA margins through synergy realization and the maturation of the Providence contract in 2025. This outlook also assumes capital expenditures of approximately 5% of revenue, other expenses $105 million to $125 million, including Acclara transaction and integrated-related expenses. Interest expense in the range of $160 million to $165 million, which includes the impact of the incremental $575 million in Term B loans and the $80 million draw on the revolver related to the acquisition of Acclara.

Depreciation and amortization expense of $330 million to $350 million. We will update depreciation and amortization guidance in future quarters once the Acclara acquisition purchase price allocation has been completed. As Lee stated, we believe we have established a solid foundation for future growth and performance. We remain focused on the opportunities ahead of us in 4 key areas: number one, delivering value for our existing customers; two, expanding our market position with new customers, including Providence and other new modular wins; three, operating discipline and execution; and four, automation through technology.

We are optimistic that our focus in these areas will allow us to deliver sustainable revenue growth, operating profit and free cash flow in 2024 and beyond.

Operator, I will now turn it back over to you.

[Operator]

[Operator Instructions] Our first question comes from Craig Hettenbach from Morgan Stanley.

[Craig Hettenbach, analyst]

Just starting with Cloudmed, any additional color on the next phase of synergies of $20 million this year? What's key to driving that? And then also, there's been some concerns about slowing or moderating growth in Cloudmed, but mid-teens growth looks good for 2024. So just wanted to get some more color, Lee, in terms of visibility you mentioned and key drivers that could help sustain the mid-teens growth in Cloudmed?

[Lee Rivas, executive]

Thanks, Craig. Let me start at the highest level with Cloudmed. So as you and others know, this is a business that helps providers identify sources of revenue leakage through broad data technology and AI-driven platform that cuts across many use cases and has 500-plus customers, 95 of the top 100 systems by NPR and has grown really strongly in the last couple of years.

I'll answer your question in a few ways. One, the business had very strong bookings last year, which is our proxy for ARR, which gives us confidence in what Jennifer highlighted in the growth rate this year. The growth comes from all our solutions with particular focus on some of our denials and AR solutions, which deploy a technology platform to help providers in that area in a place where we've seen some increases post COVID. And the market has been very -- the customers have been very receptive to our strategy, which is essentially to land and expand cross-sell solutions into the base.

So we feel very confident coming into the year on the growth rate. We expect to have another strong year of bookings and feel really good about how we're progressing that business. Over the long run, we haven't given guidance on '25, '26, but we expect continued strong growth. But obviously, over the long run, as the business gets bigger, you could see growth rates changing a bit.

On the synergy side, just to back up, we feel -- I'm very proud of the teams on what they've accomplished on behalf of the business, our customers. We've achieved our synergy targets in the first 2 years largely through solid execution, the experience the business has in integrating. And by the way, it also gives us a lot of confidence on execution related to Acclara, just a playbook that has worked across multiple dimensions.

So this year, the $20 million, we also feel good about this. The biggest opportunity for us is continued automation, continued deployment of rules and analytics to drive down costs and identify synergy opportunities and moving resources -- really as we incrementally hire resources, doing more of that hiring in our global facilities. That's the main driver of the $20 million as well as like a few other areas we can go into detail later. But overall, I feel very good about both the quality of the business, the receptiveness of the marketing customers for those solutions and our synergy targets. Anything to add, Jennifer?

[Jennifer Williams, executive]

No, 2020 -- the only thing I would add is in 2023, most of the synergies were driven by G&A functions, integration of all the back-office systems and the -- more of the corporate teams' facility rationalization, et cetera. So as Lee indicated in 2024 most of the synergy realization will come from the operational integration primarily related to the global transitions.

[Craig Hettenbach, analyst]

That's helpful. And then just a quick follow-up. Lee, I want you to touch on just how the strategy has evolved under your leadership, kind of seeing a more balanced approach between growth, focus on margins and cash flow. And if you can just touch on how that shapes kind of your priorities for this year and beyond.

[Lee Rivas, executive]

Yes. So Craig, great question. So let me just step back and say look, we, the team feel very good about the fundamental growth prospects for the entire business, okay? That said, we have talked a lot in my first year as CEO about the end-to-end business and today, we have a much more diversified business, right? A lot less customer concentration. The Cloudmed business plus the legacy modular business is a much more substantial part of our business.

So when I say flexible, you've heard me use that word a couple of times, that means meeting providers wherever they are. You heard the example I gave. There are situations where we -- a prospective customer may say, look, the initial thought is in end-to-end engagement. And we may say, just like the example I gave, that what is better for that customer, given their financial situation, given the dynamics, maybe it's the fragmented nature of their technologies and processes that we should do more of the managed services, use our coding resources, use our AR follow-up resources, our technology, our global scale and you all the customer manage that and then accelerate the adoption of Cloudmed, right? Which is a very powerful solution that delivers significant revenue yield or what a customer would know as revenue integrity, identifying sources of revenue they would not otherwise see due to leakage for many reasons.

So that's the main change in strategy. The other thing I would say is, look, the Cloudmed business has a lot of experience, a lot of capabilities around data platform, analytics, deployment of AI. So you'll hear me and the team talk about a continuation of the strategy of deploying automation, AI and technology. Just to give you a little bit of color there, we have a significant right to win in the space of AI and large language models because we are embedded in the customer workflow. So just think of any end to end, could be front, middle, back, we have access to EMRs, the host systems, billing systems, all the data structured and unstructured, the example I gave is in the denial space because we see the denials, we know what successful claims looks like, we can deploy AI models to respond to those denials as an example, I can give you 10 other examples. But you'll see -- you'll hear me and Jennifer talk more and more about the adoption of AI, which in turn drives greater revenue yield, lower cost and just generally increased customer satisfaction and confidence in our growth rates and margin expansion.

[Operator]

Next question comes from Jailendra Singh from Truist Securities.

[Jailendra Singh, analyst]

My first question is on customer health. You guys had another $10.5 million of allowance for losses in 4Q. You called out 2 customers representing a big portion of that. Can you share how much of your total NPR or revenues these customers represent? And how are you thinking about contribution from these 2 customers in '24? Are you assuming any reversal of this allowance or even increase and Lee, beyond those 2 contracts, if you can comment on generally your customer health, in particular.

[Lee Rivas, executive]

Okay. Jailendra, let me start with the last part of your question, then I'll hand it over to Jennifer. We made a lot of progress in 2023, okay? So just to give you the high level on metrics, post COVID, clearly, there's been more payer pressure, changes in time lines on payments. We've actually seen increases in certain areas, denials. But broadly, we have done what we set out to do in '23, which is stabilized core metrics, looked across our scorecards, and you've kind of heard what Jennifer said about our incentives remaining flat or moderate growth.

So overall, we made a lot of progress. Now that said, you take 1 metric Jailendra, HDR, which is a challenge across the industry. You can look at a lot of data points post-COVID on days payable, et cetera. while we've seen those stabilize, they're still elevated post-COVID, right? So depending on an individual customer, we've seen some variance across customers. So what I would say, Jailendra, is we are not done on performing for our customers. We have more work to do to continue to improve with some of our newly onboarded customers in '21 and '22, where we need to continue to accelerate automation, adoption of technology, integrating the customers' technologies and processes to drive progress in some areas where there's hot [indiscernible] some of our newly onboarded customers.

Large customers, Jailendra, we feel very good about the Phase I of Sutter, we're performing well for the largest, most mature customers. So lots and lots of good things around metrics. I would also say on the customer engagement side, we are doing a couple of things there. One is deploying our Cloudmed solutions as much as possible, which is a high class rated set of solutions. And we're also just changing our approach on how we engage with customers. I can go in more detail there, Jailendra, but just really thinking about how can we, in our end-to-end business be even more customer-centric as we continue to scale the business, adopt new technologies to pull automation and AI through the enterprise.

So that's at the high level. What I would say is a lot of progress in '23, still more work to do in '24. Jennifer?

[Jennifer Williams, executive]

Sure. On the allowance specifically and the size of the customer, I would say, 1 is small and other is midsize. It is 1 end-to-end customer and 1 modular customer. And as far as continuing to do business with them and what the outlook or the guidance assumes, we do expect that we'll continue to still do business with them in 2024. However, they -- both of the businesses are doing a bit of restructuring in their business. And so that's factored into our guidance.

[Jailendra Singh, analyst]

And then -- that's helpful. And then my follow-up, and I completely understand you guys might not be willing to comment on the new Mountain filing but Lee and Jennifer, you had experience of successfully running a private company, and now you're running a public company. Just curious about your general views on executing on R1's strategy and approach and creating long-term shareholder value as an independent public company versus contemplating other options to create near-term shareholder value?

[Lee Rivas, executive]

Yes. What I'd say, Jailendra, you're right. I can't comment on a lot of the specifics. Here's what I'd say. Look, we are very confident as a team of the prospects of the business. There is a high level of end market demand in both end-to-end managed services and Cloudmed macro growth across the industry and needs, especially for providers who may be struggling with financial pressure, high labor, inconsistent adoption of technology, payer pressure, et cetera.

So I and the team feel very confident of running this business in any context, okay? So what I would respond specifically to the question on the letter that came, our board received a letter, is reviewing the request. We will evaluate that letter as a proposal, and we would, as any public company work with our advisers to determine the course of action that is most beneficial to our shareholders, customers and employees.

[Operator]

Our next question comes from Stephanie Davis from Barclays.

[Stephanie Davis, analyst]

I have -- let me start with an AI question because, Lee, I feel like you really want to talk about that. And I'll get to some questions on Sutter. But could you tell us a little bit more about what your cost structure could look like as you kind of build out your AI solutions and how much of it is going to be more near-term investments on the engineering side or the LLM investment side versus the kind of cost yields you can get as you don't have to have as much hiring to build out?

[Lee Rivas, executive]

Yes. So let me start with the strategy and then Jennifer, if you have any questions on cost structure add in. Look, the reason I am excited, Stephanie, and the team is very excited is we see a massive value unlock for our customers and shareholders on deploying large language models into our systems, tools and technology.

The examples I gave are all exciting, and they barely stress the surface, Stephanie. So denials, automating appeals, running the first pass, reducing the need for additional auditing and follow-up, that has immediate implications to our own cost structure. Automating summarizing charts and deploying that in our coating business has immediate value to customers on accelerating cash collections and value related to our cost structure. AR follow-up, sounds benign, Stephanie, but these are thousands of workers we have that are following up on claims and having the ability to summarize the claim through a large language model on claims we see from that payer in that setting, in that geography reduces the work time for any individual AR follow-up person in our system, and that leads directly to increased cash collection, revenue, speed to revenue and obviously, our overall cost structure.

A couple of other things. We partnered with Microsoft. We feel very good about that partnership. We have a robust road map. This has become at the top of our road map along with automation, along with deployment of data and analytics from our Cloudmed business and continued net new product innovation that we haven't spent that much time talking about, Stephanie. But this area gives us a lot of confidence on more rapid deployment of products, shipping new products to our customers into our operating systems and it's just something we're very excited about. Jennifer, any thoughts on cost structure?

[Jennifer Williams, executive]

As far as the early investments, Stephanie, you're right, it's going to be in 2 areas: investments in data to make sure that we can consolidate the data and we have clean data to be able to deploy in the model and then engineering to build those large language models and make sure that they're operating, and we're getting the benefits out of it. Longer term, as Lee mentioned some of the specific use cases is where we have the largest number of people in coding and auditing and then on the back -- the back end in follow-up where we have thousands of people that are doing AR follow-up in some capacity, whether it could be responding to denials, follow-up with payers. And as we deploy these models and we see opportunities to be able to automate that we'll be able to grow and the incremental margin on that will be much higher. We're still in the early days, so we're monitoring it very closely, but we feel very good about the opportunity there.

[Stephanie Davis, analyst]

That's helpful. And then on the Sutter Health side, there's a lot that makes their Phase II deployment a little bit more unique, right? They're an EPIC system. They have had a management change over. Could you give us a little color on kind of what the time line could be for that and what some of the biggest holdups are? And if there's any potential they would want to keep the front end in-house?

[Lee Rivas, executive]

Yes, Stephanie, let me just talk about -- this is a great topic. Let me start with the first phase is a fulsome phase that looks not too dissimilar to the Providence engagement. So the entirety of the middle and back, okay? So just -- and that's the first thing I just want to remind everyone. This is a very comprehensive engagement. You'll notice, Stephanie, that as we articulated how we're moving forward with Providence, we did not phase it on purpose.

We have a lot of learnings on how to contract, how to deploy, integrate with a net new customer. You'll hear -- you'll hear us do that going forward. The second thing I'd say is we -- there's always room to improve. But Phase I from an operational metric standpoint has progressed very well. A couple of advantages, if you will, of that deployment is -- it was a centralized revenue cycle, strong executive leadership and support, and we already have, in particular, through our Cloudmed business, experience with EPIC. So regarding Phase II, what I'd say and just as simply as possible is we continue to dialogue with the executives, the most senior executives at Sutter. We have not assumed anything in our '24 numbers and we'll keep you updated each quarter, Stephanie, but there's no new news. But overall, I kind of -- I look at this as an opportunity in our customer base just as there are opportunities with all of our other end-to-end customers.

[Operator]

Our next question comes from Charles Rhyee from TD Cowen.

[Charles Rhyee, analyst]

Jennifer, maybe -- and Lee, I just wanted to dive into the guidance then for this year. Obviously, a lot of moving parts here with customers coming in and out and some pause here on the Sutter side. But assuming nothing changes from here and how should we think about what underlying sort of fundamental EBITDA growth for these businesses? Because I would think particularly Lee, with all your comments around the opportunity with Gen AI, we should see continued margin expansion. I would imagine a lot of that discussion happened sort of post when you guys were talking about long-term margin targets. Maybe can you give us a sense -- I think, Jennifer, you said at 1 point that this is at least a 15% plus EBITDA growth kind of business. Is that still sort of in your mind frame or particularly with Gen AI, could we expect to see actually faster growth over time?

[Lee Rivas, executive]

Why don't I start, Charles, and then Jennifer you go. Just the way I'd frame it is the following, okay? So you're right, Charles, you're hearing me be very optimistic about the long-term prospects of the business across all areas, end-to-end, managed services and Cloudmed. The way I think about it is -- and you've heard us say this before, but just to frame it, it's base business maturity. And you heard Jennifer, what you said about the end-to-end base business.

The addition of Cloudmed and other modular services, which is incremental to EBITDA and growth. And then you get into this kind of the topic we just talked about with Stephanie is the adoption -- continued adoption of technology which is a significant unlock for value for our customers and additional margin. Then we have synergies, continued Cloudmed synergies, and that's the other factor. And then last is Acclara and Providence. So the combination of onboarding both the acute and physician business, the assumptions we made this year, potential for us to do even better there in '24, but certainly confidence in '25 and then synergy realization for Acclara, which is really, as you know, from what we said, not a ton in '24, but a high confidence in '25 and '26.

So those are the pieces and parts. Overall, we feel very good about what we've said in guidance and have a lot of confidence in the business. But Jennifer, any specifics?

[Jennifer Williams, executive]

Specific to EBITDA growth, if you look at the 2024 guidance, the core margins for R1 are improving. And I think that's indicative of the margin maturity, continued growth on the modular side with higher margins and synergy realization as we indicated. And then the drivers on the other side, where we're doing a bit of investment is on the Providence new business, where there's a significant investment in year and the Acclara business, which is admittedly operating today at a lower margin than what our core business is. And we expect significant synergy realization over the next couple of years. As far as AI, we're making a lot of investments in the business right now.

A lot of those investments will begin to pay back in 2025. So there's not a lot of contribution from AI, significant contribution from those AI investments that we're making in '24, most of that will come in 2025 and beyond, which is part of the reason that we feel good and very confident in the long-term growth.

[Charles Rhyee, analyst]

And if I could follow up. So if we think -- not to jump too far ahead. But if we think out to next year, right, we're going to get back sort of the tailwind from no onboarding costs related to Providence, we're going to get another half year of net operating fee contribution. Obviously, there's some margin to that, synergies related to Acclara. Is it hard not to think that we're going to have a significant uplift in growth and as we get through this sort of kind of rebasing year?

[Jennifer Williams, executive]

We haven't given longer-term guidance on '25, but that's the way we're thinking about the business generally. There will be a lot of growth coming from maturity of the Providence contract as we annualize some of the investments we're making this year and then start to see some of the benefits, incremental benefits for AI and some of the automaton in the future.

[Operator]

Our next question comes from Daniel Grosslight from Citi.

[Daniel Grosslight, analyst]

I'd like to focus on Providence revenue recognition and investment this year, really the cadence, how should we think about that as the year progresses? And then do you have any visibility at this point on the cadence of the pediatrics attrition?

[Lee Rivas, executive]

Yes. So let me start with Providence, just the kind of high-level and handover to Jennifer then I'll also cover pediatrics and if Jennifer has anything to add. So just to remind everyone, this was a flagship win, a very sophisticated buyer, very strong, experienced executive team that -- and a commercial contract that closed in January. For the acute and physician business, $14 billion of NPR, not including the Swedish business, comprehensive engagement for the entirety of the middle and back.

We are very much on track with regard to onboarding. We are applying lessons learned from other -- the last large EPIC onboarding, which was Sutter. The teams are working very well. We are meeting daily, have a lot of just operational checkpoints on making sure that onboarding goes really well. And all the data we have points to a high level of confidence on meeting our timing goals. Guidance assumes revenue second half, Jennifer any additional comments on timing?

[Jennifer Williams, executive]

Yes. As far as the phasing, from a revenue perspective, we do expect that revenue will ramp second half of the year, $45 million to $50 million of net operating fees in the second half. And as far as the investments that we're making, we're starting to make investments right out of the gate. We're starting to ramp resources so that we can deploy and be ready for the transitions that we expect to happen midyear. So those investments will start in Q1. As far as Acclara, obviously, the revenue will begin to be recognized at the time of close. That's an existing business.

So the $290 million to $295 million of revenue will begin mid-January and we've adjusted for the timing of close in that $290 million to $295 million estimate for the year. And there's not a ton of seasonality there. So you can phase that across the year.

[Daniel Grosslight, analyst]

And can you remind -- sorry.

[Jennifer Williams, executive]

I was just going to say as far as pediatrics and the transition, our guidance assumes a midyear transition. The reality is there may be some things that transition earlier in the year, but go a little longer. So I don't think it's going to be everything transitioned at the end of Q2. I think there will be some things that will begin to transition in Q2, but it will go into the second half of the year as well.

[Daniel Grosslight, analyst]

Right -- got it. Okay. Okay. Can you remind us how many employees you have now in the Philippines? And how much more juice there is left to squeeze out a margin by further shifting folks to the Philippines in '24?

[Lee Rivas, executive]

Yes. So look, this is an area that we don't get to talk about that much, Daniel. So I'm glad you brought the question, but this is a very valuable global center for us that helps diversify outside of India. We have just over 2,000 people in the facility historically mostly focused on customer service, front end, patient registration and so on. We've actually had some really good successes with some of our large customers, deploying technology, leveraging that facility. So -- this is, for sure, an area we will continue to expand and will deliver opportunities for a lot of value to our customers that deploy not just front end, but also customer service. And we're also diversifying outside of other areas. So we are realizing the value of that facility as it matures, just like India did 10-plus years ago as it matures, that facility is able to take on more and diversified parts of customer workflow. So overall, feel really good about the strategy there.

[Operator]

Our next question comes from Sean Dodge from RBC Capital Markets.

[Sean Dodge, analyst]

So your earlier comments on EBITDA growth. If we bridge that into cash flow, Jennifer, you mentioned stronger performance in 2023. And then for '24, you've laid out the EBITDA guidance you give much more detail on CapEx and other items. I guess if we bake all of this in, how should we be thinking about free cash flow trajectory both into this year and then any update to how we should expect that to unfold over the next couple of years? And maybe what the big drivers of that should be?

[Jennifer Williams, executive]

On the cash flow front, we said last year that we expect cash flow for the core R1 business before Providence and Acclara to be in the mid-30s percent from a cash flow conversion as a percentage of EBITDA, and that's still the expectation. We had very strong cash flow in the second half of this year. So we feel very confident in that.

There are some investments, as we indicated on the Providence new business that will bring down that cash flow conversion in 2024 for Providence as we invest early on in that revenue contract. And then Acclara, with the integration, we expect that it will be a drag on free cash flow in 2024 as we have transaction costs in the first half of the year, we have higher interest expense associated with the debt, and we're going to be integrating the business and realizing costs associated with synergies as we began to execute on that.

So the cash flow in 2024 is in the 20%-plus range for 2024. But as we move into 2025 and beyond, we would expect that we continue to improve on what we would look at as a core free cash flow conversion of the mid-30% to continue to increase that. And we've said that, that cash flow conversion target is in the 50% plus range. So we still don't think that there's any reason why we wouldn't be able to get to those cash flow conversion rates.

[Sean Dodge, analyst]

Okay. Great. And then for this year's guidance -- 2024 guidance, can you share what you've assumed or baked in there in terms of credit allowances? There's a lot of noise there in 2023. Should 2024 be more normal and then what does normal look like now you think going forward?

[Jennifer Williams, executive]

It will be improved. Our guidance assumes that will be improved off of 2023. But I do think it will still be a bit elevated from a historical number. What new normal looks like is probably in the range of $10 million a year in that range, and that's what's assumed in the 2024 guidance. So some improvement coming off of 2024, but still higher than historical -- or 2023, but higher than historical.

[Operator]

Our next question comes from Evercore Partners.

[Elizabeth Anderson, analyst]

It's Elizabeth Anderson. One question I had, can you talk maybe about that customer approach change you referenced in your other question? It would be helpful to hear a little bit more details about that.

[Lee Rivas, executive]

Yes. Elizabeth, it's simple. One is just from a go-to-market standpoint, being a lot more flexible on how we meet the needs for customers. Two is continuing to leverage the Cloudmed customer position -- market position to expand and to manage services, expand into end-to-end. Three is flexible contracting, so Elizabeth, this is kind of think about Providence, right? Could we have pushed harder on the front end? Could we have pushed harder on some expansion opportunities? For sure. But it's being flexible on what the customer wanted to do and not phasing anything and just leaving some of the expansion opportunities for later.

The thing I specifically mentioned is, look, as the business has scaled, from an operations standpoint, really thinking about how we scale to the next phase of NPR, you could imagine our business over time being a lot more than $70 billion of NPR, right? With just natural tailwinds at the market level. So how do we continue to scale what has historically been a centralized operation. And at what level can we be more customer-specific on the operational side. On the customer-facing side, we've also scaled.

So this means we have to be more aggressive about hiring talent that it's customer-facing, be a lot more customer-centric in our approach, be more systemic or systematic on how we engage with customers, the level of executive that engages and this is about expanding our talent pool really and the other thing I would highlight, Elizabeth, is I didn't mention is deploying a more data and analytic approach and highlighting to customers this macro dynamic that's happening around payer mix and how that factor is somewhat in our control with some of the payer escalation processes we have. But to some extent, is a macro dynamic, we can help arm our customers to address and paint a picture for them that R1 is best equipped to help them through these, but there are, for sure, macro dynamics that are maybe less in our control. So I could go deeper in that Elizabeth, but that's at the high level, what I'm talking about.

[Elizabeth Anderson, analyst]

Got it. That's super helpful. And I was wondering if there's any more detail that you can provide in terms of how you feel about the pipeline for incremental new deals as we think about 2024 and the potential timing on that? I appreciate the additional color on the 4Q win.

[Lee Rivas, executive]

Yes, just in the interest of time, Elizabeth, very good. So good across all fronts, end-to-end modular. We've learned a lot of lessons from last year about not projecting a deal, but a couple of color -- pieces of color. The land of large, large deals, $10-plus billion is less and less as some of those choose end-to-end partners. I do think the next phase of deal is something in the couple of billion up to $5 billion range. But we have a healthy pipeline on both the end-to-end, and I expect another strong year of bookings on the Cloudmed and R1 modular side.

[Operator]

Our next question comes from Vikram Kesava from Baird.

[Vikram Kesavabhotla, analyst]

I wanted to ask about the incentive fees. It looks like those stepped down sequentially in the fourth quarter. I was curious if you could talk about the drivers there. I know you called out some onetime factors in the previous conference call. But just wondering if we can get some color on how that ultimately played out relative to your expectations and what the guidance assumes for incentive fees in 2024. And then on a related topic, just wondering if you could talk about just what you're observing more broadly in terms of payer reimbursement time lines.

I think in the past, you've suggested that you're starting to see signs of stabilization. Just curious if that's still the case or if you're seeing any signs of it getting particularly better or worse? And I'll leave it there.

[Jennifer Williams, executive]

Sure. On incentive fees. Last quarter, we had some onetime items that increased our incentive fees in the quarter. And so we had reflected that we knew we would have a decrease quarter-over-quarter in incentive fees. Incentive fees landed right in line with our expectations. So there was no surprise there. Those onetime fees were really twofold. One was related to an acceleration of some incentive fees for a contract that ended in Q4. And it accelerated.

So we had extra, if you will, incentive fees in Q3. And then 1 was where we had a reclass based on a contractual change where it's just a reclass out of incentive fees and into net operating fees. So it was just a movement but no change to either total revenue or EBITDA from that perspective. So that's the change. As we look to 2024, we do expect that payer reimbursement timelines, first of all, they stabilized in 2023. We saw some very modest improvements kind of quarter-over-quarter, a little bit of puts and takes across the quarter, but very modest improvement year-over-year. And I would expect the same for 2024. I don't think there's going to be significant improvement in payer time lines. I would love to be pleasantly surprised there, but that's not what it -- what we're assuming. So we expect that those will remain stable to where they were in 2023. And then as a result, I expect given our run rate in Q4 for our existing customer base is kind of at a run rate, I would expect that incentive fees are relatively stable and consistent with what we saw in 2023.

[Operator]

Our next question comes from Bank of America.

[Allen Lutz, analyst]

This is Allen Lutz at BofA. One of your largest customers reported really nice revenue growth in the most recent quarter. And it seems like the utilization environment seems to be improving more broadly. How should we think about your guidance for low-single-digit growth of core customers that's embedded in the guide? How does that compare with 2023?

[Lee Rivas, executive]

Look, I'd say the short answer, Allen, is kind of what you're saying. We expect volumes or utilization to be very similar to 2023, each provider is unique. We have a different base of business than what you might see at a macro level, especially related to some of the public providers. We have projected low-single-digit growth in cash collections, which, as we said before, blends volume acuity and mix throughout our customer base. So low-single digits, is there upside? We'll see, but we've been -- we're pretty confident in our projections just as we were in '23.

[Allen Lutz, analyst]

Great. And then, Lee, I guess, on strategy, it seems like there is now a greater focus on managed services and modular. Has that changed the way the sales force is speaking with prospects in 2024?

[Lee Rivas, executive]

Yes. Look, it's changed the way we think about prospective customers. And I think the major change is -- and I'm glad you asked the question, Allen, I haven't articulated this is being very thoughtful about what customers we take on. So being thoughtful if a customer has highly fragmented technologies, processes, systems, isn't centralized from a revenue cycle that we are going to be very thoughtful on how we take those on. It doesn't mean we can't handle complexity but we may project longer onboarding. We may err towards managed services, which has essentially let the customer keep control but deploy our AR coding, other resources with global scale and technology and probably be more aggressive on deployment of Cloudmed, which drives 1 very important metric around revenue integrity and that could help them with 1 of the bigger problem areas around denials and AR.

[Operator]

All right. This closes our question-and-answer session for today. I'd now like to hand back over to Lee to close the session. Thank you.

[Lee Rivas, executive]

Thank you, everyone. What I want to say in closing is, we believe we've established a solid foundation for future growth and performance. We remain focused on opportunities ahead of us. As Jennifer articulated, 1 is delivering value for existing customers. We want to really focus on customer satisfaction, deploying, continuing to expand our base business with our existing customers; two, is expanding our market position with new customers, including Providence and other new modular wins; three, is operational discipline and execution as we continue to expand our global footprint. And fourth, and this is the part that you'll hear me and Jennifer talk about a lot more is automation through technology with specific focus on AI.

So we are confident as we execute on these areas, we will deliver for our customers, first and foremost, and deliver sustainable growth, EBITDA and cash flow for our shareholders. Thank you.

[Operator]

This concludes today's conference call. You may now all disconnect. Thank you.