Medicover AB

STO:MCOV B

Earnings Call Transcript 2022-Q2

[Operator]

Good day, and thank you for standing by and welcome to Second Quarter 2022 Results Presentation from Medicover. [Operator Instructions]

I'd now like to turn the conference over to your speaker today, Fredrik Ragmark. Please go ahead.

[Fredrik RÃ¥gmark, executive]

Thank you. Good morning, everyone, and welcome to Medicover second quarter 2022 results. So we start with Slide 3. We put the headline here, a challenging quarter, but still robust delivery is I think a summary of where we feel we are. Undoubtedly this has been a rather challenging quarter not unexpectedly with COVID-19 testing largely dropping out during the quarter, a full quarter impact of the war in Ukraine and still an accelerating cost inflation situation and finally, us expanding at an unprecedented pace and then quite a few units still aiming to reach maturity. All of those factors are sort of creating headwinds. Despite that, we grow. So although the sort of top line single-digit growth number may historically look a bit low, I think the fact that we've had so much revenue dropping out from both testing and Ukraine and despite that, we still managed a positive growth number I think is significant.

Underlying netting out the impact of COVID and Ukraine, we still grow organically above 20%, which I think is a strong reflection of our business and strength of the brand and the position we're in. We also came in with adjusted EBITDA in the financial target range be it at the lower end for this quarter, but still at the upper end for the 6 months. I think that's also satisfactory considering all these headwinds around us. We have also had a first 6 months with again in our history an unprecedented capital deployment. Here in the second quarter more than EUR 40 million in organic capital deployment and just short of EUR 40 million in acquisitions. And for the first half you see more than EUR 200 million of capital deployed, which will then -- the vast majority of that, as you know, is growth capital. Actually in fact a very small piece of the organic is maintenance capital. So the vast majority of all of that will drive growth in the quarters to come.

If we then go in a bit more specifically to the challenges. You will all know, read and have seen and experienced the reduction in testing. It is certainly not, as you all know, that the virus has gone away. In fact now we have a more intense spread of the latest variant than what we have had for a long time. But now no one is testing so we don't really know in fact how widespread the virus is. Luckily so far it doesn't cause very much really illness so we don't really see the rates picking up of inpatient care and let's hope it remains like that. We're pretty certain, I think it's fair to say, that you're going to have lots of virus waves to come still. What is not clear or what is rather very uncertain is how different governments will respond to that and where the new restrictions will come in and where the new testing regimes will come in, et cetera, et cetera. Obviously no one knows that and it's no use trying to speculate.

What we do is we maintain a high level of preparedness for this. So we carry a higher cost structure than we otherwise would in order to be able to respond quickly should that be needed and time will tell during the autumn and winter what that will look like. War in Ukraine, it's obviously a terrible awful situation and we all feel, I'm sure everyone on this call, strongly all of us for how the Ukraine population is suffering. And I think it's -- so on a personal level, I must express I think it's fantastic to see how Ukraine as a country is certainly supported with arms from the West, but how they are able to stand up against this big foreign aggressor I think is impressive and very encouraging. Now besides the war as such if we look at our specific operation, I think it's important to make the caveat upfront that it's a large degree of uncertainty around this.

So I don't think once you draw out too much from what we see now other than saying that so far outside of the conflict zone, which sort of represents about 80% of Ukraine territory, no doubt have our business pickup been much faster than what we expected a couple of months ago, which is a good thing obviously. I think that it's a reflection of the fact that even if there's a war going on, people need health care and we're an extremely essential component in terms of in vitro diagnostics in the Ukraine health structure. So I think that's really the upshot of what we see here. You see revenue was EUR 8.5 million for the quarter versus EUR 28.5 million last time around. About sort of 40-odd percent of our quarter 2 revenue here came in the month of June so you have a rather steep pickup towards the end of the quarter.

And while we incur an EBITDA loss, again that EBITDA loss is certainly much less than what we projected ourselves some months back, but you see the swing versus where we were prior year obviously is rather significant. But again I think from where we were a couple of months ago encouraging, full of respect for how our people work, et cetera, but also signal the unusual high level of uncertainty in making any projections for Ukraine business going forward. Then we flip to expanded footprint. I think last time around when we reported the first quarter, we talked quite extensively about the sort of roll out of new hospital facilities in India, of sort of the gym footprint to support our sports business in Poland. We kept up the pace of expansion there also in the second quarter. We are encouraged and confident in terms of how we see the performance of these new units.

But as made clear last time around when you have quite a few of these that are working towards maturity, as you will see here soon on some of our graphs, they do short term dilute margins. No doubt about that. Finally, I think perhaps the topic every company is talking about nowadays being the accelerating inflation situation, which impacts us primarily in terms of increasing salary costs. And then it's important to point out that while we talk quite a bit about this time lag impact between the cost impact hitting you right away whereas the price compensation takes some time to come through in your revenue stream. Now if you have a rather static business where your staff count is not growing very much, it would also take some time to see that impact coming through on the cost side.

However, when you have a very fast expanding business where you hire a lot of new people every day, then that sort of marginal cost impact comes through right away because for each new person you hire, you obviously will pay the going rate for that particular position or specialty. So that is also quite a significant impact on us. Important to say that we are confident that we see customer acceptance for price increases. Remind you again that 80% of our revenues is private pay where obviously it's nothing automatic just to increase price, but where we have a market position and customers accept it which we do see. We're in a position to compensate ourselves, which is really, really important. Now we believe that inflation will be around for quite some time and the central banks of the world has a little bit of a dilemma here in terms of how to push up int rates to tamper inflation while not being too partial on the economy and I think that's probably going to take slightly longer.

That's our view than perhaps some other people expect. But important to remind you that high inflation as such is not necessarily a big issue for us. It's much more when you have big accelerations in inflation. That's when we have this time lags to catch up. So while we all probably won't wish inflation to go down even if it's on a high level, it makes a big difference for us if it's stable on a higher level as opposed to these very short-term movements. And last point on this one is just to point out that we've had higher utilization of medical services, which is then particularly impacting the insured model where some of that has been sort of pent-up demand from post-COVID lockdown situation. And secondly, we're of the opinion that in general immunity has gone down a little bit from the whole sort of isolation during the pandemic. So we've seen more infectious diseases spreading in the population than what we normally would see in a spring season like this.

Then going specifically into the quarter, we said business as usual underlying so business as usual ex-COVID. Organic growth above our financial targets of 13.7%, which is good I think. Net of Ukraine as well and we're above 20%. So just north of EUR 360 million so 4% growth. But overall headline, a negative organic growth of 5% with the various headwinds coming in. We reported EUR 28 million of COVID revenue. You see sharply down from the second quarter last year and also sharply down from the just preceding first quarter and the drop-off has really been rather sharp. So most of that COVID revenue is centered on the early part of the current quarter. Acquired revenue EUR 32 million. And overall for the group, Fee-For-Service revenue so private customer paying us directly out of pocket is now up to 59% of revenue. EBITDA then significantly impacted so down from a bit over EUR 70 million last time to EUR 53 million, 14.6% so just short of 600 basis point contraction. We'll take you through here just in a second sort of how that is made up.

Adjusted EBITDA EUR 56.2 million so 15.5%, which I remind you is just then at the bottom end of the public target. We have 15.5% to 16.5% for the 6-month period, that is then just above at 16.6%. And also the adjusted EBITDAaL of just short of EUR 35 million and equal margin contraction to just below 10% and again I'll sort of talk you through what are the factors driving this. We have made and we show you here for the group and then we take you through a similar one for each of the 2 divisions. And this is then looking -- you see the waterfall at the bottom right of the slide where we look at the adjusted EBITDAaL profit metrics and compare the quarter 2 last year to quarter 2 this year and sort of trying to give you a more detailed view in terms of what is driving that. And unsurprising then you see the impact of COVID reduction, the war in Ukraine, the impact from expansion and unmature units and preopening expenses and then some positive elements from acquired units and then getting down to a normalized level.

Then going into the specifics of Healthcare Services where growth was good, even very good. You see 18.2% up. Of that, organic growth was 4.3%. But you recall that second quarter last year, India was exceptionally strong in terms of COVID sales. So if we strip out COVID in this division, you see organic growth in the underlying business of over 30%, which is a super strong number. Then of course you need to remind yourselves that particularly India where basically all activities second quarter last year was COVID whereas now we have no COVID inpatients. So all of that call it restarted normal activity would then come through comparatively as organic growth. So about 10% of that 30% is solely isolated from that impact from India alone, but still it's a very strong number so one should not disqualify that. And you see a point I just made last time around, this division had close to EUR 38 million of COVID revenue. This time around it's EUR 1 million.

We continue to be busy acquiring things here. A mental health business, quite a few gym and dental businesses acquired in Poland during the quarter. Fee-For-Service growing very well on the back of still a strong consumer market. We continue to see very good demand and very good development in our corporate paid business with just about 13% member growth and 29,000 members joining over the quarter. If you recall the first quarter this year so the last quarter we reported was also exceptionally strong. So if we're looking at the first 6 months this year in terms of growth in the employer paid business in Poland, we are significantly up on the prior year 6 months and that again was with 2021 being the strongest growth year we've ever had in that business. So again it's a really strong situation there. So robust demand levels I think summarized. So EBITDA down obviously for Healthcare Services, margin of 13.5% just short of EUR 30 million and EBITDAaL just short of EUR 15 million.

And you see here the third bullet, our medical cost ratio being at 81%, which is over 700 basis points up on last year. And again that is -- you see the waterfall down to the right, which is sort of where you see the impact of that high margin COVID business dropping out, a number of new still immature units as well as the inflation impact on our cost structure until the sort of pricing impact has caught up, which again I reiterate we're confident it will. We just sort of work our way through this time lag that I just talked about. All right. Then we go to Diagnostic Services where the impact is obviously stronger from COVID dropping out because they were really busy with that last time around. So revenue just short of EUR 150 million where we have negative organic growth of 15%. If we strip out COVID and strip out Ukraine for a fair comparison, we have organic growth in this division of 4%. And we see COVID revenue at EUR 27 million versus EUR 44 million last time around.

Less acquired revenue here at EUR 5 million and 66% being Fee-For-Service in this division. You see this table that we put in on the bottom left here to sort of help you a little bit understand what's going on with the test volumes that overall then a reduction of some 11% total tests. You see underlying we're up about 4% test-wise, which then obviously corresponds rather well with the underlying organic growth ex Ukraine and COVID. And here you see -- and perhaps also make that point on this table that while you see the COVID revenue obviously very sharply down, you see the test numbers actually significantly up versus last year and that's a result of a couple of things. One is a significantly different mix of tests with much more sort of lower value antigen test than PCR last time around. It's also a difference in terms of customer mix where largely, as a point we just made, the general -- the public testing across our geographies has gone away during the quarter.

But some of these very large customers in the cruise industry for example, they still operate where pricing would be significantly different. And thirdly, in terms of the general -- the third is the general reimbursement rates have gone down during the quarter although the impact of that is much less because with large volumes disappearing, obviously that is not so visible. But that impact should it come back, I don't want to speculate too much in terms of if and when COVID volumes may come back. But if they do, we should be aware that they are coming back likely at lower price levels than what we saw last time around. Then we go to the profit side of Diagnostics. So EBITDA just short of EUR 30 million, down from EUR 43 million, 19.6% versus 25.7% last time around.

And again if we use the same EBITDAaL measure to look at the waterfall what has happened and you can see a quite similar picture with the COVID-19 dropout, the swing from the war in Ukraine, acquisitions we have made and how that breaks out across the activities. We have continued to grow our BDP network. So we continue to invest obviously as you see on the capital deployment, which is important. We see really good strong demand across the markets for our services so we keep investing ahead of that. And I think that's pretty much it.

Then I hand over to Joe for the financial overview.

[Joe Ryan, executive]

Thank you, Fredrik. So just a quick look then in terms of some of the balance sheet issues and where we are in terms of that side of the business. So if we look at our interest costs and put that in perspective of our debt levels. Interest charge was EUR 7.9 million for the quarter. We had some interest income as well, which reduced that on a net basis. But if we look at the split between the amounts and where they fall so EUR 5.4 million related to our lease interest components for IFRS 16 and EUR 2 million were sort of real debt issues, if you like, real debt costs. And so if you put that in context of our lease liabilities at the end of the quarter, that was just short of EUR 400 million. So that sort of implies the interest rate that we put in in our calculations for IFRS 16 around about 5.4%. And if you look at then the gross debt that we had in terms of real sort of like third-party debt issues, then that was around about EUR 490 million so that implies an interest rate around about 1.6%.

If you look at then in terms of the composition of that EUR 490 million. You've got about EUR 348 million, which is German bond issues schuldschein, and about EUR 135 million of that is fixed rates and the rest is floating rates. We have a floor of 0 in respect to those bond issues. So with the ECB being a little bit more active on Thursday, then we come obviously up to that floor now so from here on in, it will cost us a little bit more as floating rates move up. Then we have short-term borrowing EUR 97 million and within that, we also have EUR 45 million of deferred consideration for acquisitions that we've done before which is noninterest-bearing. If you look at the liquidity on those bonds, we have around about 5.6 years on average at the end of June. On top of this, we have now put in place a new revolving credit facility, which is -- one which is 3 years with the right to extend for another 2 years on that so 3 plus 2. So that gives us a good secured funding line with our main banks.

And our CP program in Sweden is still working, a SEK 2 billion CP program. So that gives us an access to now around about EUR 190 million in addition. So if you look at the RCF and our cash holdings, then we've got around about EUR 430 million of liquidity available. We had 2 acquisitions which were outstanding at the end of the quarter, which we're waiting on regulatory issues in terms of closing. Those commitments are around about EUR 28 million for those 2. If you look at where we are in terms of our indebtedness levels, we're running now up obviously as we deployed quite a bit of capital as I'll talk about in a minute. So our ratio in terms of adjusted EBITDAaL LTM to our real net debt components excluding leases at 1.9x so up from 0.6x at the year-end. Our cash flow has been quite okay. Our operational cash flow has been still coming in even with the lower level of results for COVID going away.

Working capital has gone up a little bit, part of that is an increase in our day sales outstanding that's slightly up. It's not really in terms of receivables from clients. It's about prepayments where we've been prepaying some of our construction work, which although it's not really working capital, it does still end up in that part of the cash flow element. So we've been prepaying some of the supplier price -- some of the suppliers in respect to securing some of the contract prices for some of the construction work we're doing and that will probably come down in the second half of the year. Effective tax rate we're working at looking at 28%, slightly higher than the 27% we had last year as the composition of where our profits within the group change with the changing COVID situation and with Ukraine. So we move on and look at our right-of-use lease liabilities. Those have increased around about almost EUR 50 million over the 6 months. I've broken out in this sort of chart here for you what's driving that.

So obviously as we've brought acquisitions on, that brings lease properties that they are leasing into the balance sheet as well. We've repaid some of those -- some of the leases we have and the leases change. One of the components then is indexation in those leases so we add that on each year as those leases are indexed up. And we're also still increasing our footprint and expanding our businesses as well. So those are the major drivers in terms of the changes on our lease liabilities. And if we look at our equity side then obviously besides the profit and the OCI element, we've also acquired some noncontrolling interest in subsidiaries in India and in Serbia we acquired 100% now of the business there and also we've had some changes in the put liquidity obligations that we have in Germany and India being the largest components on there and we paid out a dividend to our shareholders.

Our capital investment has been very strong. So we've invested some EUR 40 million in the quarter and some just short of EUR 68 million in the 6 months. A strong as always component of that has been orientated to our growth of our businesses and we've also been very active in terms of making sure our existing businesses are fully maintained with a very good asset base in terms of what our customers are looking for. We've been in pretty much all the different markets, we've been very busy. We have quite a bit of components [Audio Gap] as we've been expanding the lab automization and our central lab capacity in Germany, which should see us -- should be getting payback in the following periods. So overall if we look at the organic and the inorganic components, we've invested over EUR 200 million in the 6 months. So I think we've been pretty active in terms of the 6 months of this year, EUR 145 million in terms of inorganic.

I broke out for you there on the right-hand side of the table, you can see in terms of where we've been busy. So these are the full enterprise values of the businesses we picked up. Obviously that's different from the cash that we paid. So we've been pretty diverse in terms of where we've been investing in terms of geographies. We've invested across quite a few different capabilities as well. So I think we've got a good set of assets that we've brought on there and we expect that to be quite contributory in terms of increasing our returns in the coming quarters.

Fredrik, I hand back to you.

[Fredrik RÃ¥gmark, executive]

All right. Thank you, Joe. So with that, we hand over to take any questions you may have.

[Operator]

[Operator Instructions] The first question from the line of Mattias Vadsten.

[Mattias Vadsten, analyst]

First one on Diagnostics, which showed growth of organically 4% excluding Ukraine and the sharp decline in COVID contribution then. That's somewhat lower than what I had expected I think. Also true for test volumes I believe. So firstly, what was the growth then excluding this lost hospital outsourcing contract, if you can provide that? And is this a normal part of business? Can you provide any color to why that was lost? That's the first one.

[Fredrik RÃ¥gmark, executive]

Well, we see the -- if I remember exactly the size of the -- give me a second on the exact size of the hospital contract, Mattias. But I think the broader answer to your question is that when you have the -- if we switch over from dropping out COVID into a, call it, more normalized diagnostic market, I think there is an element of also picking up normal testing which takes some time on the back of reducing COVID. So there is some softness in terms of general testing growth, which I think is sort of, call it, a switchover impact. And let's see -- did you have that number, Joe?

[Joe Ryan, executive]

Yes. So the contract was in terms of volumes of tests is around about 2.2 million tests per annum so you can talk about sort of 550 per quarter. Not quite equal every quarter, but sort of that gives you an idea. I think we did pretty well actually. It was a Polish contract and we think we replaced something of about 450,000 of those 550 in the quarter in terms of our growth and that's fundamentally because of this BDP investment program. So we've been active in Poland in terms of rolling that out. We will continue to be active in rolling that out obviously in other countries as well. But if it hadn't been for that, then it would have been quite difficult. You ask about why did we lose the contract. It was a loss-making contract, we've had it very many years.

It doesn't mean necessarily that a loss-making contract can be a bad contract because you can get other tests coming in, you've got access to hospital patients that you can sell other tests to as well. But fundamentally in terms of regaining that contract on retendering, we probably would have had -- we would have had to put in a lower price than we were already losing. You've got massive salary -- it would have been a 4-year fixed contract. We've got massive salary costs coming through in terms of staffing and we just knew we were going to get killed on it, financially it just wasn't going to be interesting. So we just didn't want to do that business. We've got that strategy of moving our business to individual Fee-for-Service direct pay and that's where we see that we can make money and do business in the future. And the contract outsourcing for public hospitals can be productive, but at some level you can't do it.

[Mattias Vadsten, analyst]

Perfect. Good flavor there. And if I keep to Diagnostic Services, I mean you stated that Fee-for-Service price component represented 1.6% of the increase. This sounds a tad small to me at least. Can you just elaborate on how to interpret this and the sort of contribution? How that contribution will develop on a year-on-year basis ahead when you sort of add additional price increases?

[Joe Ryan, executive]

I think that puts into context for you what we just discussed in terms of that contracting. We can see the writing on the wall in terms of what's coming in terms of price increases, in terms of staffing, we see it every day and that's why we stepped out from that contract. But basically the components where we have got ability in terms of the laboratory work to effect price increases at our will is in terms of the public paid work when people come into our BDPs and our Fee-for-Service business and private work in terms of the Fee-for-Service. The private work is government reimbursed work that is set by the government tariffs so when or will in terms of how we change that. And then we have contractual business, whether that's public hospital outsourcing or commercial companies. Most commercial company contracts generally are working on an annual basis or that sort of a longer-term basis.

So we will change those as we come to renegotiate those contracts and move those prices up. We have moved up at the beginning of the year fee-for-service prices in some of our markets, but we were quite selective on what we did because at that point in the stage; remember this is decisions made back in November, December; we wanted to be a bit careful in terms of putting price through. Obviously with accelerating inflation, we will be moving prices up whether it's towards the end of this year or earlier. So you will see a larger component of that, but it takes time for that to work through and that's what you see the central bankers are frightened about. Now you're getting anchoring of inflation expectations and I think that's already happened. So that's going to be the problem in terms of getting inflation out of the system. But we will certainly like everyone else start to work on those inflation expectations.

[Mattias Vadsten, analyst]

Moving on to Healthcare Services, I mean very strong organic growth in business as usual as you mentioned. Can you just talk little bit about the sort of fundamentals in H2 to keep in mind? I mean any reason that it will fall back somewhat in H2? I mean you have continued the organic investment at an accelerating pace and I guess you can just give some flavor on economic activity, availability of employees as well as the comps in H2 from last year if that becomes more difficult or if we should expect this run rate to continue?

[Fredrik RÃ¥gmark, executive]

Well, I think we have a pretty robust demand situation, Mattias. So if I take specifically Poland being by far the largest geography, Poland as well as pretty much the rest of the developed world is obviously heading into tougher economic times; lower GDP growth, higher interest rates, et cetera. So there is an element of a softer economy coming, which will impact us. So I think 6, 12, 18 months out, I think we will have somewhat a revenue growth impact coming from a softer economy. I don't think it will be very significant. Obviously where our client companies in the corporate paid model, if they hire less staff which some of them may do, you have less organic growth from those employers, et cetera. So going into 2023, I can see the run rate growth in that business tapering off somewhat, but I wouldn't really expect if you take the sort of general consumer demand side in Fee-for-Service to be significantly impacted.

And that just to remind you why we're saying that is because most of the stuff we do is pretty affordable services. So if you need to go and do your teeth or if you need to do a visit at some of our medical facilities, the price for that is affordable in most situations and it's needed. It's not going to the cinema. You can skip a cinema visit, but most of the things we do is sort of important then for people. So there will be some impact depending on how soft the economy goes, Mattias, but I wouldn't expect it very significant. Plus, as you correctly pointed out, we have invested very heavily and we keep investing very heavily in terms of organic capital expansion. So you're going to get a lot of new business by filling up these facilities that we have rolled out, which we point out as being one of the elements, which is sort of short-term margin dilutive to us right now.

[Mattias Vadsten, analyst]

One more and then I will jump back to the queue I think. Last one, could I ask you what you're doing in terms of margins during June revenue run rate in Ukraine? And what can you comment on the initial 22 days of July here in terms of revenue run rate out of normalized revenue?

[Fredrik RÃ¥gmark, executive]

You ask specifically Ukraine?

[Mattias Vadsten, analyst]

Yes, specifically Ukraine. The margin in June and what we're doing in terms of run rate.

[Fredrik RÃ¥gmark, executive]

As I said of that quarter 2 revenue, about 40% of that came in June and effectively June was sort of breakeven nominally positive on EBITDA. I sort of expect the current -- the June run rate revenue bar any new bad surprise so to speak. But if it sort of is the way the world is right now Ukraine, the sort of June level is a likely sort of third quarter run rate and then we expect a next sort of step up again if the situation looks like now when we come into the sort of autumn season with regular seasonality. What I remind you or the audience here, I think I did say that we're operating on about 80% of the territory pre-war. You also got to remember that about 1/3 of the target population in the diagnostic market, women and children have left the country. So the overall lab diagnostic market is probably at least 1/3 smaller currently than it was before the war broke out. So operating at 50%, 55, if the market has contracted perhaps whatever 35%, 40% is quite significant as you see.

[Mattias Vadsten, analyst]

That's interesting. I mean I guess what I'm after also is if there are any obvious sort of further BDPs that you can take operational as you see it right now because there are some of them [Technical Difficulty].

[Fredrik RÃ¥gmark, executive]

No, no, no. The current run rate, Mattias, is we're sort of actually running the business at full speed wherever we can and where we're not operating is because it's either full scale work or just too dangerous. So the further pickup from here will be that more customers are returning.

[Operator]

The next question from Kristofer Liljeberg.

[Kristofer Liljeberg-Svensson, analyst]

I have 3 questions. First one is I see on the slides that you're now talking about a 3 to 9-month lag until you get price compensation for higher costs. In Q1 you said 3 to 6 months. Is there a difference there and why? And then this graph -- on the same topic, the picture on the graph on Slide 7, I think you haven't included cost inflation there impacting earnings. Is that because the impact is or the dilution from -- is that because it's a much less impact than the dilution from expansion? And then my final question just on the lease depreciation, I might have done something wrong in my calculation, but it seems to be a very steep sharply increased quarter-over-quarter for lease depreciation. Is that correct and if so, what's the reason?

[Fredrik RÃ¥gmark, executive]

Can you take the last one, Joe?

[Joe Ryan, executive]

Sorry. Could you just repeat the last one, Kristofer, question?

[Kristofer Liljeberg-Svensson, analyst]

Yes. I tried to calculate the level of lease depreciation in the quarter. I'm not sure I'm correct, but it seems that they are up pretty sharply quarter-over-quarter. I just wonder if that's correct and if so, why?

[Joe Ryan, executive]

For lease depreciation?

[Kristofer Liljeberg-Svensson, analyst]

Correct.

[Joe Ryan, executive]

Okay. We have a separate set of metrics reconciling all of those on a Excel sheet, which is available for download from the website so you've got the amount out there for lease depreciation. But just dealing with that question and sort of working backwards in that order. We've got a lot more leases and that's pretty much it.

We're running with a lot more leases. Nothing has changed in terms of the outlook. We're adding more leases on and that means more lease depreciation and more lease interest. This is part of the [indiscernible] with leases and you have lease liabilities or you've got costs in there, but we see it as the potential to fill those facilities and fill that capacity with business over time.

So for us, it's really something which is essential for us to be able to maintain our very high growth rates. I think we haven't got those lease facilities because we're so dependent upon physical delivery of our business and we can't grow. I hope that helps, Kristofer. Cost inflation we didn't split out because it's part of our business. It's what we deal with. It's what we've got to do in terms of performing and delivering.

So the purpose of that graph is there so we sort of take the comparative and give you a sort of an adjusted comparative in terms of where you can really start to assess the business in terms of how the underlying business has performed and that was the purpose of that graph and that waterfall to be able to say okay, you guys are down. And obviously we are down in some of those components in the DX side and that's because we have been facing inflation and we haven't been able to deal with that as well as we've been able to deal with that with the mix of businesses we have in the Healthcare Services side where we've been able to deal with some of the inflation with various different elements. And our mix of our business means that we've been able to compensate on some of them with more volume, which then gets more marginal contribution, which then helps to mitigate some of the cost inflation. And the first question, I think I'd leave that to you, Fredrik.

[Fredrik RÃ¥gmark, executive]

Yes. I mean we said 3 to 6 months last time around and now we say 3 to 9 months. Is there something specific that has changed? Not really, Kristofer. Perhaps we should have said 3 to 9 months last time around. I think it's -- remember, we talked about this with particularly the point indexation points in the corporate paid business being in February and October. So there's a big traction in terms of seeing coming through in that part of the business will be in the fourth quarter. So that's basically sort of 9 months from 1st of January. So I think it's more that we probably should have said 3 to 9 months last time around this one rather than 3 to 6 months.

[Kristofer Liljeberg-Svensson, analyst]

So from the fourth quarter, we should start to see some help on the pricing from what's happening there in the cost inflation?

[Joe Ryan, executive]

Yes. And I think it is worth making the observation, Kristofer. I think inflation is with us for a little bit of time and I think the central bankers are waking up to that fact. So it's the acceleration of the inflation, which is a problem for us where we get caught out on that. So our next round of indexation starts next year when we start indexing in 2023. So as I mentioned earlier in terms of the DX side of the business, some of those contracts are annual contracts and we'll be negotiating them at the end of the year for the following year. So I think you're going to see quite a lot of price movements in those as well with some of the commercial contracts.

[Operator]

The next question from Grace Lee from Jefferies.

[Grace Lee, analyst]

Two questions, please. I'll ask the first question and separately second follow-up. First question, following up on the pricing negotiation questions. Can I just clarify? Can you help us share insight how the sort of negotiation process works on the corporate side? Because you mentioned -- I understand about the indexation and everything. But because it's based on the trailing index i.e. last year, does that mean when sort of October indexation happens, that would be based on the last year indexation and then anything happening in terms of negotiation next year is based on this year? So can you just help us understand how that discussion happens? What the current process is at the moment and any conversation going on? Just want to understand how the impact is likely to be sort of impacting phasing.

[Fredrik RÃ¥gmark, executive]

Yes. So we have basically -- I simplify it a little bit to make it understandable on 2 minutes, Grace. But basically we have 2 types of contracts; one, which is regular CPI-based and another type of contract, which is based on a medical cost inflation KPI; both which are published by the statistical audit and the February 1 is the CPA number and the October 1 is the medical cost inflation number. And they are for the sort of prior -- for the prior period and they are published a couple of months before the time of indexation. So you do have a time lag impact, but in terms of coming into 2000 and -- this is the reason I said before where we have significant impact is when you have a very sharp change in inflation over a very short period of time.

That's when we are hit with this. So when we are indexing here if you should take in what is October '22 so in a couple of months, it's then largely the kind of inflation that we see right now that will be reflected. When we indexed in February 2022 given that the sharp acceleration really hadn't yet started then, that's where you see this sort of lag impact. So the point also Joe just made that inflation as such at a high level is certainly not good for the economy, but then we don't have these problems with, call it, catching-up effect because then you're sort of constantly at a higher level. I hope I made myself clear there.

[Joe Ryan, executive]

And that's the contract business, Grace, in terms of the contract for the Healthcare Services side Fredrik was referring to. But we have also lots of other business that we do as well in terms of where we have Fee-for-Service prices where people come in and pay for the services they use. Those obviously we have a lot more freedom in terms of indexing and changing those. We haven't been aggressive on that so far as you see in the numbers for the DX side.

So I think can't afford really to be as gracious as we probably have been in the past. So we need to be reflective I think of what's happening around us in that. We are though in a business where we need to make sure that our services are affordable for our patients, but we need to have a balance as well in terms of making sure we can get the margin coming through.

So that's our challenge. That's what we need to do. And then on the DX side, we have quite a bit of contract work as well where we have contracts with clinics or hospitals or other users and diagnosticians. So those we have contracts and those can be generally 1-year contracts, but they can be slightly longer contracts as well and obviously when those come up for renegotiation, we'll be pushing prices up on those as well.

[Grace Lee, analyst]

Next question is on the cost reduction side of it. I'm just curious how are you sort of thinking about sort of margin evolution from here, 3Q for example at least? And then what can you do in terms of those reduction efforts because you mentioned 740 basis point increase in medical cost in the Healthcare Service side at least. Is there sort of anything you can do right now to offset that immediate pressure until that sort of lagging pricing impact kicks in?

[Fredrik RÃ¥gmark, executive]

No. I mean that's why we sort of gave you this waterfall here that the headline number may look a bit sort of scary. But the largest component of our medical cost ratio is salaries with quite a long distance. So the biggest impact we can have on that ratio is to increase price, which we've just talked about. We are in a market where the cost for medical staff continues to rise. So the point I made earlier on in this call if you have a static situation, you're not so much impacted. But if you have a business that is growing very rapidly so you hire a lot of new people every day, then you see a much more immediate impact from the cost of staff picking up. And hence the importance, if you wish, and we recognize that that is a top of mind issue for everyone around us in terms of addressing price growth.

And again I remind you that we're in a good position because we have a private pay model, we have a brand that is recognized and people, customers want to stay with us. So I think it's an okay situation, but that's the big challenge. Then you have that sort of facility expansion is also quite significant because when you bring in all of these new facilities, the cost of those facilities, they fit all in our medical cost structure. And before we have filled them up with revenue, it obviously pushes up that ratio. So there is, what I said, there's nothing immediate you can do. We do a lot of things, but I want to sort of keep this focus on what is the important things and the important things are to address the price compensation and to bring up our utilization levels in our new facilities acquired or built. Those are the 2 most important elements.

[Grace Lee, analyst]

One just quick follow-up on that. I can see the admin costs for example in Q2 was reduced sort of partially offsetting that medical cost increase. Is there anything different? Anything to highlight there?

[Joe Ryan, executive]

No. Not particularly, Grace.

[Operator]

The next question from Klas Palin from Penser.

[Klas Palin, analyst]

This raised inflation, if it does affect and make it more difficult to hire new staff and also perhaps if it has any impact on the stat turnover?

[Fredrik RÃ¥gmark, executive]

Well, it's a situation where prices go up because more people are sort of demanding the same kind of staff. So we're not in a position where growth is negatively impacted by us not being able to find staff. That's important to say. But the point I made 2 times already is that when you hire new staff, obviously the price of the day is what you have to pay. So in a model where you expand fast, you will see the difference in salary expectations coming through much quicker because you hire on a continuous basis.

[Joe Ryan, executive]

I think just in terms of in say for instance the Polish market, you've got higher staff turnover in professional staff. Medical staff not so much, it's about the expansion so we're seeing expanding at quite a pace so we've got to take on quite a few -- quite a lot of medical staff so that's an issue. But I think in the sort of professional back office staff, the non sort of like front medical staff, we see higher turnover which is also sort of like positive for our business to a certain degree as well because whenever in Poland you hire someone, you need to do medical checks or you need to do an occupational health check and stuff like that. So when you've got a high and hot employment market, that's good for our business; but also it's bad for our business because we kind of stuck with the same elements. So you just take it in the mix.

[Klas Palin, analyst]

And then just a question about Ukraine and the health of the Ukraine health care system outside of your business. How badly hurt is it and what kind of patients do you get into your units? Is there any newly diagnosed patients and do you treat military personnel as well?

[Fredrik RÃ¥gmark, executive]

Well, the Ukrainian public health care system was very poor before all of this happened. It has certainly not improved, I'm not trying to be cynical. But there's a lot of public health care facilities that has been destroyed in the areas impacted by the war. So it's a very difficult situation in the public health care system. Now if you look at the private health care side, obviously there's no sort of public statistics you can get hold of. But I'd think an educated guess, Klas, is that the sort of pickup that we see is probably reasonably reflective also of what other people see because while it would be wrong to try and say life is normal outside of the conflict zone. But sort of life goes on and people need to go to the doctor, they need to get their blood works done, et cetera, et cetera. And so from that point of view, it sort of is a situation not terribly dissimilar before the war broke out. But clearly all of the destruction that has happened has very negatively impacted the public resources that were again poor before the whole war situation broke out.

[Joe Ryan, executive]

So all the ratios in terms of the test demand, types of tests, they're all sort of pretty similar to what they were before the conflict -- before the war, but just obviously at a lower level. So our ratios are quite similar in terms of it. So if you think about it, it's not so striving. It's the same population, but just a smaller number of people that are buying the services.

[Hanna Bjellquist, executive]

I think we have 3 more questions in our chat. So the first one is how much will a full write-off of the activities in Ukraine amount to Medicover?

[Joe Ryan, executive]

We did put quite extensive information in terms of our Ukrainian position, balance sheet exposures, et cetera, in the report on Page 16. So all of that information is there. Our net assets at the end of Q2 2022 in Ukraine were carrying value with EUR 34.6 million.

[Hanna Bjellquist, executive]

And could you provide more color on exactly which of your new unit businesses make losses?

[Joe Ryan, executive]

Yes. So this is really about in terms of the waterfall graphs in terms of where we were trying to sort of give a sort of an adjusted comparative number that gives them on a sort of similar basis. So we have a hospital unit in Cluj in the northwest of Romania; it's quite a big unit, a sort of full service hospital. So that had its first full quarter in this quarter so that was generating losses as we expected. Give some details in the report there. It did around about 550 procedures. We need that to be up around about between the 700 and 800 procedures for a quarter for it to be at the sort of breakeven level. So we're still on our way in terms of making that work as we would expect. And then we have a number of units over the last 12 months that we opened in India, So we have 4 units in particular.

We pulled out from that in terms of in those numbers and again those are both developing. So we will have other ones coming in. We have then preopening costs. And particularly in those numbers, I've got 3 units. One in Bucharest hospital, which we're opening and working on. That will be next year so that's in construction now and so again a full general hospital in a good location in Bucharest. And then we have 2 units in India; Navi Mumbai just near the financial capital of India in this new developing area and then in Pune, one of the other -- the second major city probably in Maharashtra state. So those 2 we expect to open this year. Navi Mumbai actually should be open next week or the week afterwards hopefully for a soft opening so that will be good.

[Hanna Bjellquist, executive]

And what do you believe the organic growth can be for the full year adjusting for COVID and Ukraine? Regarding Ukraine, can you repeat the evolution of revenues during the quarter? What was the exit rate for the month of June annualizing at COVID?

[Joe Ryan, executive]

So we just deal with both those questions. I know, [ Danny ], you have some other questions as well. Our growth is good, you see that in the underlying sort of growth adjusted for COVID and Ukraine. And we've been investing heavily, you saw in terms of the amount of money that we invested in terms of capital spend. So we expect to see a very robust underlying growth outlook for the rest of this year and the investment program that we're doing with the new openings and everything should be supportive in terms of all of that capital that we're putting to work in terms of keeping our ability to deliver at those relatively high or very high levels of organic growth. Do you want to add anything, Fredrik?

[Fredrik RÃ¥gmark, executive]

No, that's fine.

[Hanna Bjellquist, executive]

COVID revenues of H1 were higher than I anticipated. Do you have any visibility on contracted COVID revenues in H2 or should we just use a place of EUR 10 million in 3Q and 4Q?

[Joe Ryan, executive]

Yes. I mean sequentially what we've seen is in terms of the COVID revenues in terms of public reimbursed stuff is pretty much disappeared ex Germany. So you're talking about very low levels in all the other countries outside of Germany. Germany still has a testing regime in place so they actually know what's happening in terms of COVID within their population. But obviously testing levels have been at a much lower level in terms of PCR testing.

So they have a price reduction which comes in effective from July now. So as Fredrik mentioned, even if it comes back, will probably be at lower levels. But it's about the volume and we'll see in respect to that. In terms of the commercial side, yes, we expect to see some reasonable revenues still continuing because for quite a few companies, it's sort of existential.

So what do you do? Do you sort of like completely sort of like pretend that is gone away or realize that the potential for a resurgence and damage to your business is there so you continue to ensure that you've got the ability to deal with it. So we expect some reasonable level, but softer level of contracted business to carry on.

[Hanna Bjellquist, executive]

And the last one, maintenance CapEx for the year is running at around 30% of total spend. Where do you see the full year CapEx spend for maintenance lending?

[Joe Ryan, executive]

We've got a pretty aggressive organic expansion in terms of our organic deployment and you see that's that accelerated Q2 on Q1. I think you need to be thinking that that's actually going to accelerate in the second half as well because we've got quite a bit of capital deployment, I mean we talked about the preopening costs and stuff like that for a few units. We haven't really talked about that last year before because we had less new capacity being put in place. So we're spending the money on that now and so you're going to see a larger capital spend on the second half than you've seen on the first half. So you really need to look at the Q2 numbers and probably add a little bit more in terms of for each of the coming quarters. And then in terms of the ratio between growth and maintenance, more of that is going to be growth because those are new projects.

[Hanna Bjellquist, executive]

I think we hand over to operator for a final question on the telephone line.

[Operator]

The question is from the line of Mattias Vadsten.

[Mattias Vadsten, analyst]

I acknowledge we are running over time and I think my question got fairly well answered. But my question was the organic investment of some EUR 65 million to EUR 70 million in H1. I mean if you could give a rough split in terms of to what segments those are directed to between Diagnostics and Healthcare Services?

[Joe Ryan, executive]

Yes, I can. I thought we did that in the presentation. We gave that in the presentation. In terms of for the first half Healthcare Services -- so EUR 68 million, EUR 46 million of that was Healthcare Services, EUR 22 million was with Diagnostic Services. And again in the second half, as I mentioned, you're going to see a continuing level of high capital deployment and you're still going to see a sort of split on those sort of levels in terms of more capital organically being deployed to the Healthcare Services because that's where we're doing the large hospital investments so that costs quite a bit of money. And on the Diagnostics side where our biggest investment area is in terms of the facilities and the lab automization in Germany, which we've got quite a big program to finalize for the second half of this year.

[Operator]

There are no further question at the moment.

[Fredrik RÃ¥gmark, executive]

All right. Thank you, everyone, for listening in and being with us today. So we look forward to be back with the quarter in early November. Thank you.

[Operator]

That concludes the conference for today. Thank you for [Audio Gap].