Chemed Corp

NYSE:CHE

Earnings Call Transcript 2023-Q1

[Operator]

Thank you for standing by, and welcome to the Chemed First Quarter 2023 Earnings Conference Call. [Operator Instructions] As a reminder today's call is being recorded.

I would now like to turn the conference to your host, Holley Schmidt, Assistant Controller. Ma'am, you may begin.

[Holley Schmidt, Assistant Controller]

Good morning. Our conference call this morning will review the financial results for the First Quarter of 2023 ended March 31, 2023.

Before we begin, let me remind you that the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 apply to this Conference Call.

During the course of this call, the company will make various remarks concerning management's expectations, predictions, plans and prospects that constitute forward-looking statements. Actual results may differ materially from those projected by these forward-looking statements as a result of a variety of factors, including those identified in the company's news release of April 26 and in various other filings with the SEC.

You are cautioned that any forward-looking statements reflect management's current view only and that the company undertakes no obligation to revise or update such statements in the future.

In addition, management may also discuss non-GAAP operating performance results during today's call, including earnings before interest, taxes, depreciation and amortization or EBITDA and adjusted EBITDA. A reconciliation of these non-GAAP results is provided in the company's release -- press release dated April 26, which is available on the company's website at chemed.com.

I would now like to introduce our speakers for today: Kevin McNamara, President and Chief Executive Officer of Chemed Corporation; Dave Williams, Executive Vice President and Chief Financial Officer of Chemed; and Nick Westfall, President and Chief Executive Officer of Chemed's VITAS Healthcare Corporation subsidiary.

I will now turn the call over to Kevin McNamara.

[Kevin McNamara, President and Chief Executive Officer]

Thank you, Holley. Good morning. Welcome to Chemed Corporation's First Quarter 2023 Conference Call. I will begin with highlights for the quarter, and David and Nick will follow up with additional operating detail. I will then open up the call for questions.

Our first quarter 2023 operating results released last night continue to show a return to a more normalized growth and operating results, post-pandemic. For VITAS, normalization involves methodically increasing capacity by expanding our staff of licensed health care professionals. In the first quarter of 2023, VITAS added 200 licensed professionals, 60% of which are licensed nurses. Since we implemented our hiring and retention program in July 2022, VITAS expanded license staffing by 475 professionals. Nick will provide more detailed information on this issue later in the call.

Although we continue to see disruption in our referral patterns when compared to pre-pandemic admissions, these disruptions continue to dissipate and reflect methodical improvement in admissions, average daily census and key pre-admit patient locations.

Roto-Rooter had a solid first quarter, increasing revenue 7.9% over the prior year. Revenue in the first quarter of 2023 exceeded our internal estimates with January 2023 being exceptionally strong. March revenue was somewhat lighter than we anticipated, but still within normal patterns.

Overall, demand for key services in both commercial and residential segments continue at levels significantly above our pre-pandemic demand. This is demonstrated with commercial revenue increasing 41% and residential revenue expanding 73% when compared with the first quarter of 2019.

Roto-Rooter continues to be well positioned, and we anticipate continued expansion of market share by pressing our core competitive advantages in terms of brand awareness, customer response time, 24/7 call centers and Internet presence.

With that, I'd like to turn this teleconference over to David.

[David Williams]

Thank you, Kevin. VITAS' net revenue was $310 million in the first quarter of 2023, which is an increase of 3.8% when you compare to our prior year period. This revenue increase is comprised primarily of a 3% increase in days of care, a geographically-weighted average Medicare reimbursement rate increase of approximately 2.9%, partially offset by 200 basis points as a result of CMS reimplementing the 2% sequestration cut that was suspended at the start of the pandemic in 2020. Our acuity mix shift had minimal impact in the quarter when compared to the prior year revenue and level of care mix.

Our combination of Medicare Cap and other contra revenue changes negatively impacted growth by about 10 basis points. In the first quarter of 2023, VITAS accrued $2.75 million in the Medicare Cap billing limitations. This compares to a $2.5 million Medicare Cap billing limitation in the first quarter of 2022. Of our 30 Medicare provider numbers, 25 of these provider numbers have a trailing 6-month Medicare Cap cushion of 10% or greater. One provider number has a cushion between 5% and 10%, and 1 provider has a cushion between 0% and 5%. 3 of our provider numbers do have a trailing 6-month billing limitation liability.

Our average revenue per patient per day in the first quarter of 2023 was $198.86, which is 100 basis points above the prior-year period. Reimbursement for routine home care and high acuity care averaged $173.39 and $1,042.06, respectively. During the quarter, high acuity days of care was 2.9% of total days of care, essentially equal to the prior-year quarter.

The first quarter 2023 gross margin, excluding Medicare Cap and the hiring and retention bonus program was 22.5%. This is a 220 point basis margin decline when compared to the first quarter of 2022. VITAS' adjusted EBITDA margin in the quarter, excluding Medicare Cap, was 15.1%, which is a 234 basis points below the prior-year period. These margin declines are the result of CMS reimplementing sequestration, which reduced our gross margin and EBITDA margin 200 basis points.

In addition, VITAS increased the licensed health care staff by 200 professionals in the first quarter of '23. The net increase of 200 professionals hired throughout the first quarter is estimated to have negatively impacted gross margin and adjusted EBITDA margin by 50 basis points.

Roto-Rooter generated quarterly revenue of $250 million in the first quarter of 2023, which is an increase of 7.9% compared to the prior-year period. Roto-Rooter branch commercial revenue in the quarter totaled $59.9 million, which is an increase of 10.1% over the prior year. This aggregate commercial revenue growth consisted of drain cleaning increasing 4%, plumbing expanding 10.7%, excavation increasing 26.2% and water restoration expanding 7.4%. Roto-Rooter branch residential revenue in the quarter was $169 million, an increase of 7.5% over the prior-year period.

The components of this is aggregate residential growth rate of drain cleaning decreasing 2.9%, plumbing expanding 3.6%, excavation expanding 3.9% and water restoration increasing 27.4%. Roto-Rooter's gross margin in the quarter was 53.1%, which is a 37 basis point increase when compared to the first quarter of 2022.

Adjusted EBITDA in the first quarter of '23 totaled $71.8 million, which is an increase of 9%, and the adjusted EBITDA margin in the quarter was 28.8%, which is a 29 basis point expansion compared to the prior year.

I will now turn this call over to Nick Westfall, President and Chief Executive Officer of our VITAS Healthcare business segment.

[Nicholas Westfall]

Thanks, David. As we've mentioned in the past, we implemented a targeted hiring and retention bonus program at VITAS, effective July 1, 2022. This program is focused on licensed nurses, nurse managers, home health aides and social workers. These onetime retention bonuses range from $2,000 to $15,000 per licensed health care professional. The total 12-month forward-looking cost of this program, including payroll taxes and government mandated overtime calculations, is estimated at $40 million.

All retention bonus payments are individually cliff-vested and paid out after the employee has successfully completed 12 additional months of continuous employment.

During the first quarter, we expanded this licensed health care professional staff by 200 employees, bringing total licensed health care staffing expansion attributed to this program to 475. It is important to note the majority of this increase in staffing is for licensed nurses, including admission nurses.

In the first quarter of 2023, our average daily census was 17,830 patients, an increase of 517 or 3% when compared to the prior year and an increase of 396 or 2.3% sequentially. The sequential monthly ADC growth within the fourth quarter of 2022 and the first quarter of 2023 is very encouraging, given the timing lag of increased staffing following subsequent admissions and census expansion.

In the first quarter of 2023, VITAS' total admissions were 16,179. This is a 2.1% decline when compared to the first quarter of 2022 and a 9.1% sequential improvement when compared to the fourth quarter of 2022. I'm very encouraged by the last 2 quarters of sequential growth in admissions. A primary driver for our admissions growth is a result of our increased capacity expansion derived from our hiring and retention program.

In the first quarter, our nursing home admissions increased 6.6% and assisted facility admissions increased 10.6%. Hospital-directed admissions declined 4.9% and home-based patient admissions declined 2.9% in the quarter. As compared to the fourth quarter of 2022, all pre-admit segments improved, with our nursing home admissions increasing 5.2%, assisted facility admissions expanding 13%, hospital-directed admissions increasing 8% and home-based patient admissions improving 10.4% in the quarter.

Our average length of stay in the quarter was 99.9 days. This compares to 104.8 days in the first quarter of '22, and 103.9 days in the fourth quarter of '22. Our median length of stay was 15 days in the quarter and compares to 14 days in the first quarter of '22 and 16 days in the fourth quarter of '22.

To recap, what our team has recently accomplished, we have now generated 3 quarters of sequential growth in licensed health care workers, 2 quarters of sequential growth in both admissions as well as ADC. We have developed what I believe is a very sustainable path to building back our capacity and patient base to pre-pandemic levels and beyond.

With that, I'd like to turn this call back over to Kevin.

[Kevin McNamara, President and Chief Executive Officer]

Thank you, Nick. Now it's an appropriate time for considering questions.

[Operator]

[Operator Instructions] Our first question comes from Joanna Gajuk of Bank of America.

[Joanna Gajuk, Bank of America]

So first, I could, please. You don't plan to update the guidance like you just typically do with this quarter, but can you talk about how the quarter came in versus your internal expectations? I mean you made a comment that Roto-Rooter was better on the revenue side, but I guess how would VITAS and then when you -- and how do you view the quarter on the consolidated basis?

[David Williams]

Yes, I'll take it on a macro basis, Joanna, and then flip it to Kevin and Nick for more detail. But no, our internal estimates, both Roto-Rooter and VITAS exceeded them. So we were very pleased on a macro basis with the quarter in both segments.

[Kevin McNamara, President and Chief Executive Officer]

What I would say is, again, capital commentary on how the quarter came in. VITAS, we saw continued improvement in what has been a key aspect of what Nick is trying to do, and that is adding more licensed health care professionals. We're adding those. The expectation is that we want to add them faster than the average daily census comes in for a couple of reasons.

One is stay ahead of the power curve and we want to build up a cushion for the end of the retention program. So that's going well according to plan, Roto-Rooter capsule commentary, I'd say, very strong early part of the quarter. Little bit slower down -- a little bit from those halcyon days, a little slower in the latter part of the quarter. We get some questions. Is that indicative of the economy slowing down. Some of the activities Roto-Rooter that are less emergency, is that kicking in? Maybe to a small extent.

It largely comes down for us, taking advantage of the opportunities with experienced management. And we're still suffering a little bit in Roto-Rooter from the fact that a lot of our managers have been hired away by private equity for various service offerings. We've -- I think we've done a good job in closing the door on that, but we're still suffering from some of the losses we had in the 12 months period preceding the recent quarter.

So the capsule commentary is overall good, some expenses at VITAS that we knew about dealing with the end of the relaxation of sequestration, adding the employees and -- in Roto-Rooter, it's a little bit different business in Roto-Rooter. We want the phone ringing in Roto-Rooter, and then we want to effectively respond to those phone calls. And that's a constant battle. So -- but overall, happy with the results. Nick, anything to add?

[Nicholas Westfall]

VITAS is in just one level deeper. When you think about the expansion of clinical capacity that continues to be a result actually of better performance, both from a hiring and turnover improvement, which is very encouraging. On the admission side, as I referenced on sequential admissions growth compared to the fourth quarter.

Every segment was up high single digits to low single digits on a percentile basis and the resulting days of care expansion are coming in line to beating some internal expectations. So really pleased with a lot of the granular pieces that result in some of the metrics we report.

[Joanna Gajuk, Bank of America]

On the last point on improving capacity, adding the staff, it sounds like you're going faster than you initially expected. So if you continue at this pace, right, does that change your view in terms of when you expect to be back to pre-COVID census levels? And I guess what's your latest view on that?

[Kevin McNamara, President and Chief Executive Officer]

Let me start by saying, yes, generally, we -- it's a range. And to be very helpful, I'd say, yes, it looks like a little bit sooner rather than later. But it's hard to be precise on that. But it's not surprising that in this environment, if you have the staff, we have a better shot at getting the patients. And that's all -- so the way we look at it is VITAS' internal metrics during the pandemic were worsening on a month-by-month basis. And it was inevitable, what was going to happen to the ADC.

It's just one of the other side of that. It's almost just as inevitable on the improvement on ADCs as it is once you have the staff. And we have not done. I mean we're not being coy. We haven't done precise calculations as far as when the -- when we're going to get back to that to, let's say, our pre-pandemic ADC level.

But if we wanted to invest in an algorithm, it probably could come up with a pretty good estimate, but not too much use for that. But that's one of the reasons why we compare and contrast, we mentioned about Roto-Rooter. I mean it's such a difference. In VITAS, we're fighting very hard to get back to where we were at the start of the pandemic. In Roto-Rooter, residential sales were up 73% from that period. So it's a tale of 2 cities, and Nick and the people are making progress at a good, solid pace.

[Nicholas Westfall]

Yes. Directionally, if you were to say, is it faster today than what we would have anticipated 4, 5 months ago? Obviously, I think that answer is yes. And the bottom line is if we can continue to win the war on talent, which is very thoughtful, and we have the demand there for that talent to admit and care for patients, which we do. It's just a question of trajectory, right, at this point.

So as long as we can continue to do that, whether it's 200 a quarter, whether it's 250, whether it's 150, we are right now in many of the markets in which we operate, the teams are very -- being very successful in that, and it has a compounding effect for existing staff and their level of satisfaction and what we're able to do for the community. So really, really excited about the compounding morale and cultural impact that comes with that.

[Joanna Gajuk, Bank of America]

And I guess, as it relates to expanding of -- expansion of staff and how it translates into census to your point that you've seen this nice sequential growth. So would you characterize that it's also been happening faster? I mean, you haven't guided for the full year. And I guess prior comments were that we expect more of this census growth in the second half of the year. So this 3% growth year-over-year this quarter, was it better than expected or kind of -- way you've been thinking previously when it comes to the full year?

[David Williams]

Joanna, this is Dave. It's gone better than I expected. As you remember, when we developed the business plan, we conservatively estimated would add 25 net increase in licensed health care workers per month, 75 per quarter. And obviously, we've been beating that in all 3 quarters, we had the hiring and retention program, almost tripled it what we did in Q1.

So I guess what we're trying to avoid, but -- is having a line in the sand of when we get back to normal. But I'll stick my neck out a little bit and just say if the current rate of capacity expansion continues in running more like 50, 75 increased licensed health care workers per month, 200 plus per quarter. In '24, where we returned to our pre-pandemic census. But that's a big -- if the rate of expansion of capacity continues at the same pace.

[Kevin McNamara, President and Chief Executive Officer]

And Dave, it's interesting because of the lag, we'll be at our pre-pandemic licensed health care professional level months before with this census level.

[Nicholas Westfall]

Almost by definition.

[David Williams]

Yes. And that's what's straining our margins now is we have to build capacity before it contributes to census and then that census is negative margin until they've been in program for about 30 days or longer, that incremental piece. So that's why we're having margin pressure today because we're building back capacity. But that capacity, as Joanna you pointed out, is getting to work pretty quick to subsequent quarter, much faster than we first anticipated when we put this program in place in July of '22.

[Kevin McNamara, President and Chief Executive Officer]

So nothing changes regarding timing expectations inside of the year related to that, but really excited about getting off to a very fast start.

[Joanna Gajuk, Bank of America]

Got it. Definitely good traction there for sure. And I guess another topic on VITAS side in terms of Medicare, right? So the proposal that came on calls only for 3% market basket year update, which is worse than the 4% in '23. So kind of what is your expectation there? I know you -- on the last call, you said you would assume it should be more closer to like 5%.

So obviously, well below that. But is there a reason why you would think that the final rate update will be better similar to what happened last year? Or are we kind of back to maybe not much of an improvement and you're going to have to deal with the 3% market basket.

[David Williams]

And what I would say, Joanna, as we talked to a number of shareholders and analysts, we put a number out in the fourth quarter what we think the minimum should be given inflation within the hospital wage index basket and what the hospice industry is experiencing. CMS has basically been caught using what I would call forecasted data that maybe historically forecast and actual turns out to be pretty similar in terms of inflation by component.

But with the spike in inflation that happened over the last 18 months, it appears from our perspective that CMS uses forecasted data that is badly below actual inflation, and they never true up from forecasted to actual inflation measurements as done by the Bureau of Labor and Statistics. So CMS has been caught lagging the increase, and it really hasn't been noticed though because forecast in actual have been running pretty low 2.5% historically for what, a decade plus.

Now inflation is running through health care more significantly. And CMS, I think, has been caught, not passing through true inflation, and that's why MedPAC issued 2 separate reports in March of '23 and April 23, frankly, pointing out how badly flawed the market basket CMS is utilizing because they are not accurately measuring appropriate inflation in health care models. And it is a problem. And we will do just fine.

We have scale, so we have leverage. So we end up with the upper quartile of adjusted EBITDA and gross margins. Most of the competitors in hospice are small not-for-profit hospices, many in rural markets, who lack the scale to have really good margins, but to provide a needed care they're getting squeezed Joanna. And if CMS does not fix this issue of not passing through appropriate inflation reimbursement increases, capacity for some of our small competitors will shrink and access to hospice in rural markets specifically will be limited. So we are pointing out painfully if CMS does not start approaching hospice in giving increases in inflation, the smaller hospices will struggle and probably go out of business.

[Kevin McNamara, President and Chief Executive Officer]

Which is also -- just to add here, but no, we don't anticipate a significant change from the preliminary number at this point. And again, it doesn't -- we're -- it just gives us our marching orders. And we tried -- in the fourth quarter, we tried to send the message out to CMS and the market as far as what we're observing as far as the inflation factor for hospice. But again, from some -- I think, some poor structure with regard to the adjustment mechanism. We're -- comes out as approximately 2.8, I mean, which is -- no one thinks that's what the inflation factor is in the wage market for hospitals and hospices.

[Nicholas Westfall]

Only other piece to highlight is, I think it is better understood inside of DC now being openly advocated for and debated, not only within the hospice segment, but just as importantly, within the hospital segment and those trade associations since we're paid against that hospital market basket index, as everybody knows.

[Joanna Gajuk, Bank of America]

This proposal, and there were other things included in there around increased service more oversight. Some questions there from CMS and also even higher penalty for those not submitting the quality data. So in that context, how is VITAS positioned there? Do you expect to look at some assets, maybe that would be there to be acquired as they look to kind of to your point, scale up? And would VITAS kind of act on that? And I guess for this increased services and other things in the rack, I guess, also how VITAS is positioned there?

[Nicholas Westfall]

So Joanna, just to speak to that, many of the things, and I'll bucket it as program integrity. We are in support of as well as the trade associations who had made those joint recommendations on behalf of their membership to be proactive in the way in which the government could go thinking about helping the industry and supporting long-standing, mission-driven providers.

The issue is more abuse of expansion of licenses that are not providing care in local markets, heavily concentrated in 4 states, including California. And so some of the pieces they're talking about of expanding penalties to 4%, et cetera, don't have -- first and foremost, don't have applicability to VITAS. We conform and comply with everything on day 1. And some of those providers that would be impacted by it wouldn't necessarily become acquisition targets because they're not submitting the data because they're not caring for patients.

Therefore, they have no real strategic value from an acquisition standpoint. There's some actions that can be taken to clean up optics of provider expansion that wouldn't impact members inside of the community. And I think that's really what a lot of those items are focused on. Not the fact that something is wrong with the benefit or that there's quality concerns around going back to mission-focused long-standing providers that are actually providing care in the communities.

[Operator]

[Operator Instructions] Our next question comes from the line of Ben Hendrix of RBC.

[Benjamin Hendrix, RBC Capital Markets]

I was hoping you could give us your thoughts on the Medicare Cap runway. You had shifted your referral strategy amid staffing shortages, which you noted could eventually press Cap limitations. Any update on the Cap trajectory overall now that hiring capacity is opening back up?

[David Williams]

Yes. Ben, this is Dave Williams. Of course, during the pandemic, we were actually -- stayed out of any significant Cap problem because although our admissions had dropped, our revenue dropped as well and specifically a shift to less high acuity care as we are capacity constrained. So it's actually the drop in that high acuity care that really gave us room under the Medicare Cap building limitation liability.

So during the pandemic, we were actually just fine and many programs had actually expanded. However, there is a limitation, and we can't have length of stay go up indefinitely. And that's why we were -- as we would have expected and in our modeling, we actually saw our average length of stay drop below 100. What was at 99...

[Kevin McNamara, President and Chief Executive Officer]

99.9.

[David Williams]

And now at 15 median length of stay, too, that's kind of in our sweet spot where historically pre-pandemic it averaged between 14 and 16.

So it's a long-winded way of saying is we've avoided any Medicare Cap billing limitation with the drop in admissions because we had a drop in high acuity care. Now that we're back to admissions growing and actually now that we're back to slowly increasing our presence in hospitals as a pre-admit location of referrals we should be back into expanding admissions and once again being -- or continuing to be nicely below the billing limitations.

But it would have been a problem if we didn't start growing admissions with capacity expansion. That's what was done now, basically for 3 quarters.

So I think Medicare Cap as a risk continues to dissipate, except in California, where we have exceptionally high reimbursement geographically, but the Medicare Cap protection is a uniform rate throughout the country. So high reimbursement markets continue to run a bit of risk on Medicare Cap billing. On the other hand, even with Medicare Cap and the 2 programs we're watching, they're very, very profitable. We don't anticipate Medicare Cap being a material issue, certainly in 2023.

[Nicholas Westfall]

And just to reinforce it, I want to go back to sequential admissions growth in the hospital pre-admit segment. Fourth quarter to first quarter was up 8%. So while we talk about it from a community access, we still are servicing all of our key partners in the market, including the hospital segment. That helps to provide a data point and a full agreement around lack of concern. Correct.

[Benjamin Hendrix, RBC Capital Markets]

And clearly, better-than-expected progress on the hiring front. Any change in your thoughts on how retention shakes out on those new hires? And any chance that you could re-up your retention program with more funding to address that?

[Kevin McNamara, President and Chief Executive Officer]

So let me start by saying it's -- we've been pretty clear that we -- the program was to address some historical -- I mean not historical, but things that were happening for the first time in history. As an accountant, so I'd like to say onetime events, but we do not anticipate reinstituting a different retention program, making it permanent.

Well, our view was for one moment in time. And it seemed to -- we put it in. We waited for an inflection point. We put the system in at that point. It had great success, but it's -- I think at a certain point, it becomes self-propagating.

I mean there's an element that Nick said. To the extent that you have more staff, everyone who is on your staff is happier and thinks that the company is doing a better job and people are not wrapped around the axle. So to the extent that you have those forces working with you, we do not anticipate continuing it.

Now having said that, I can't imagine any set of circumstances where we will continue it. I don't want to sound doctrinaire on the point and say if there was some reason that made abundant sense to reinstitute another program, we would do it, but we don't see those facts lining up, yet could be in the realm of possibility.

[Nicholas Westfall]

Just a little more color with that, Ben. I don't see that as a need, while we talk about it on these calls, as though it's a singular item driving it. There is a large subset of well north of a dozen plus other complementary pieces that also contribute to a lot of the metric improvement. And obviously, we track both hiring turnover satisfaction on a bunch of different layers. And all those things are directionally improving. And so that tells me the program itself has been very beneficial.

But in the same regard, getting back to a lot of our more normalized pieces, but also making sure there's sufficient time being spent, recognizing, rewarding, celebrating employees, highlighting the mission of why people join hospice, but also what makes VITAS special in that situation is all the real compounding effect that's helping these things in a substantial way and makes it sustainable. That's why I can use the word confidently sustainable on a go-forward basis.

[Operator]

Thank you. I'm showing no further questions at this time. I'd like to turn the call back over to Kevin McNamara for any closing remarks.

[Kevin McNamara, President and Chief Executive Officer]

Well, I just wanted to thank everyone for their kind attention, and we're very comfortable with the results, and we'll get back about 3 months from today and report on what's going on presently. Thank you.

[Operator]

Thank you. Ladies and gentlemen, this does conclude today's conference. Thank you all for participating. You may now disconnect. Have a great day.