Fresenius Medical Care AG
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Fresenius Medical Care AG
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Ladies and gentlemen, thank you for standing by. I'm Stuart, your Chorus Call operator. Welcome and thank you for joining the Fresenius Medical Care Earnings Release for the Second Quarter 2019 Results. [Operator Instructions] I would now like to turn the conference over to Dominik, Head of Investor Relations. Please go ahead, sir.
Thank you, Stuart. We would like to welcome all of you to the Fresenius Medical Care Earnings Call for the Second Quarter 2019. We appreciate you joining today. Now it is my pleasure, as always, to start out the call by mentioning our cautionary language that is in our safe harbor statement as well as in our presentation and in all the materials that we have distributed earlier today. For further details concerning risks and uncertainties, please refer to these documents as well as our SEC filings.Given that there have been so much news flow with the CMS rates coming out with the proposed rule for next year with President Trump's executive order and the special effects in the quarter, I assume that there might be a good number of questions. Therefore, it would be great if we could limit the number of questions again to 2 in order to give everyone the chance to ask questions. If there are further questions, we are more than happy to do a second round and I hope this works for everyone.With us today is, of course, Rice Powell, our CEO and Chairman of the management board. Rice will give you some color around how the quarter has developed. We'll go through some of the major topics of the quarter. And of course, also with us is Mike Brosnan, our Chief Financial Officer, who will give you an update on the financials and the outlook.I will now hand it over to Rice. The floor is yours.
Thank you, Dominik. Hello, everyone. It's great to have you with us today. I'll start my prepared remarks on Slide 4 and I'll give you a second to get over to that slide.Our growth trend continued in the second quarter. We provided just shy of 13 million treatments. And as you can see, we have approximately 340,000 patients that FMC cares for at the end of the second quarter.Now turning to Slide 5. We'll take a moment and look at our clinical outcomes. Our quality outcomes are the most important commitment that we make to our patients. I'm pleased that as you look across these 4 regions in the year-over-year comparison, I see stability and good performance in those metrics that we measure from quarter-to-quarter relative to our clinical outcomes.Turning to Slide 6, my commentary on the quarter in and of itself. Our underlying business performance developed in line with our expectations. We've seen healthy organic revenue growth globally. And additionally, we've seen very healthy growth in our U.S. dialysis business. With this growth prospect in mind, I believe we will achieve adjusted revenue growth in the mid to upper end of our guided range for the year.As the reconciliation for the ESCO savings has been ongoing for such a long time, it is prudent to address -- to adjust the resulting savings. Therefore, we have an adjustment in Q2 based on recent reports for prior year plans. This does not mean that we have not delivered savings, but the savings rate is lower than we had anticipated and hoped for.This ESCO adjustment was not part of our planning when we issued our guidance for the year back in February. Therefore, we believe we will now be closer to the lower end of our adjusted net income growth guidance for 2019.As you know, we are investing in increasing the home penetration in the U.S. and we've seen our efforts take root, as evidenced by an 11% increase in home growth in the second quarter. We are also executing on our cost optimization program that targets the rationalization of our geographical footprint in the United States. Detailed planning and communication took place in the first half of the year. The execution activity is on target to be worked on in the second half or H2, if you will, of this year. Our GEP program continues to progress in line with our plans over the course of this year.Before I turn to the next slide, I'd take a very brief moment to give you an update, somewhat off script, as it relates to our CFO search and trying to fill the rather large shoes of Mike Brosnan as he retires at the end of the year. We are in the final stages of our CFO search. And I will think probably in the next several weeks, we'll have more detailed update that we can provide for you. But stay tuned on that, but I thought it was worth sharing with you.Now turning to Slide 7. I will highlight the adjusted numbers to show the underlying business performance. We achieved, on a constant currency and an adjusted basis, a solid 5% revenue growth. Due to the adjustments for our ESCOs, an operating income of EUR 490 million was achieved in the quarter and a net income of EUR 279 million. Excluding the mentioned effect from the ESCO adjustment, revenue and EBIT would be EUR 41 million higher in the quarter. Net income would be EUR 26 million higher in the quarter as well.Turning to Slide 8 and looking at organic growth. We achieved global organic growth of 4.5 -- approximately 4.5%, with good contributions from North America and Asia Pacific. Please do keep in mind that the reported revenue growth in North America was impacted by the divestiture of Sound a year ago.Adjusting for the effects from Sound, IFRS 16 and NxStage, we saw growth of around 11% and 4% on a constant currency basis. The Europe, Middle East and Africa had a negative impact in their products business and I'd like to come back to this in a subsequent slide. Asia Pacific, as you can see, had continued good organic growth, and we've seen high growth in Latin America driven by price inflation.Turning to Slide 9 on our services business. We saw strong growth on an organic basis and same-market growth further improved. After a good start in the first quarter, same-market growth in North America continued to perform nicely with an increase of around 4%. And on a sequential basis, Q1 in 2019 was around 3.5%. So you're seeing about 50 bps improvement.The development in North America was impacted again by the divestiture of Sound. And in the first quarter, our second quarter payer mix continued to improve so we are continuing to see our sales better and better, month-to-month with payer mix.The EMEA services saw healthy organic growth of 5% in the quarter. Asia Pacific continued strong growth trends supported by their Care Coordination business. And obviously, currency volatility in Latin America resulted in a high organic growth and the volumes continued to grow as well.Turning to products. Product growth in the quarter was supported by the NxStage acquisition in North America. We saw an accelerated growth of 29%. Excluding the acquisition, the organic growth was solid with a 4% result, keeping in mind that a year ago in Q2, the organic growth was around 10%. So Q2 '18, 10%; Q2 '19, 4% organic growth.In the EMEA region, our dialyzer sales to North Africa and the Middle East were impacting -- impacted the product growth. The country mix in that region unfortunately does include volatility. We don't think it's a matter of will we get sales. We think it's a matter of when we will get sales as we look to the back half of the year and we're able to fill some of these tenders and things that we're counting to do in H2.Asia Pacific delivered solid growth with 7% reported in organic growth. And Latin America saw high organic growth obviously supported by pricing. So I think net-net, a good products quarter for us to beyond the issues that we had in Middle East and Africa.Turning to Slide 11, my last slide. You are all aware of President Trump's executive order on advancing kidney care. Although it was not a Q2 event, many of you asked us for commentary within hours in a day or 2 of when this was done and we've taken some time. There's more to do. But let me make the following remarks about Mr. Trump's -- President Trump's executive order.We launched our Care Coordination strategy in 2014 in order to prepare ourselves for a value-based care future. And as you know, we launched our intensified home strategy in 2016. As with all new programs, the details are important. And Health and Human Services has yet to release many of the important details for these upcoming programs. We are in the midst of commenting and asking questions on both the mandatory model as well as the voluntary models.The question one might ask is whether we as FMC will participate in these voluntary demonstrations in light of our recent experience with the ESCO program. Health and Human Services has taken steps in developing these models to address some of our concerns from the ESCOs. For instance, voluntary models will have upfront alignment and more transparency when it comes to benchmark setting. We remain cautious given the lack of claims transparency and the moving benchmark targets that have made it difficult for us to be as successful as planned in the ESCO program that is an overhang for us as we contemplate how we go forward in these future programs.We have been and we will continue to be partners in transforming kidney care. But we cannot be successful or commit to participate unless the models are fully transparent, and this transparency is essential for us to be able to impact cost and increase quality.And these comments that I'm making to you today have been made to the appropriate people in Washington, and we're going to make them again and probably again and maybe one more time in order to be able to make sure that we are doing the best we can for our patients and supporting the initiative because we believe what the President has laid out in his executive order absolutely corroborates our strategy of more people at home, finding a way to be more involved in transplantation in the right way, continuing value-based care and working on trying to delay the onset of Stage V dialysis. So we're supportive, we just want to get it right and we'll continue to fight to make that happen.And with that, I'll turn it over to Mike and let him take you through his ideas and thoughts of the quarter.
Thanks, Rice, and hello, everybody. So I'm on Chart 13, revenue and net income growth. And we have a high level reference slide to guide you through the developments in the second quarter. So if we start on the top with revenues, you can see, in the base period, we reflected a EUR 258 million revenue adjustment associated with the fact that we divested Sound in the second quarter of 2018. This would get you to a measurement base of EUR 3.9 billion and change. And you can see the 5% business growth that we had or EUR 188 million on a constant currency basis. The revenue development is clearly within the targeted range of 3% to 5% for the full fiscal year.Currency translation was favorable with EUR 140 million additional on the top line. There was EUR 18 million for transactions that, under the old leasing standard prior to IFRS 16, would have been classified as revenue. And the EUR 79 million generated from the newly acquired NxStage, which Rice mentioned a few moments ago, get us to a reported figure of just over EUR 4.3 billion in revenues.So now if we look at the development of net income. The adjustments for the gain from the divestiture of Care Coordination activities was EUR 686 million to get you to a base of EUR 308 million for the measurement period.You can see that the business development was a loss of EUR 33 million to get to growth on a constant currency basis of minus 14%. This growth is affected by the ESCO adjustment, as Rice indicated, which accounts for about 8% of that -- 8% of the 14%.Following on there was favorable currency translation effects of EUR 15 million, the unfavorable front-loading effect from the implementation of IFRS 16 of EUR 10 million, unfavorable effects from the NxStage operations of EUR 19 million and transaction and integration cost of EUR 3 million as well as EUR 2 million related to the cost optimization program and a EUR 9 million gain from divestitures of some Care Coordination activities in the second quarter. All of that brings you to a reported net income of EUR 254 million.So turning to Chart 14 and looking at the operating income and margins. You can see the strong operating income from the previous year was largely driven by the gain related to the Care Coordination divestitures of EUR 833 million. The margin decreased accordingly from 33.3% in the second quarter of '18 to 12% in the second quarter of '19.When you look at margin on an adjusted basis, consistent with our guidance and this excludes the divestitures of Care Coordination activities, the contribution from Sound in 2018, the favorable effects from the IFRS 16 leasing implementation and the integration and operational costs associated with NxStage and last but not least, costs associated with the improvement in our cost base under the cost management program -- cost optimization program, excuse me.Looking at that way, EBIT margins declined from 14.1% to 11.5%. This is about 260 basis points. And the main drivers for that decrease, as noted on the page, were higher personnel costs in North America and EMEA, again, the effect of the adjustment that we took in the ESCO program, partly offset by a favorable impact associated with higher utilization of the oral-based ancillaries.Turning to Chart 15 and continuing with cash flows. In the second quarter of 2019, you see an increase in comparison to the prior year. This is driven by the implementation of IFRS 16. And from some of the reports coming out earlier today, I think there may be a question or 2 on that, I'm happy to address that in the Q&A. The favorable impact associated with the seasonality of invoicing between the first and second quarter. Typically, Q1 cash flows are a bit lower as a percent of revenues and that we recover in the second quarter so you're seeing that again this year. And these effects were partly offset by the settlement payment we made on the agreement with the SEC and the Department of Justice. The net result of this was cash from operations of just under 20% of revenues compared to a little over 15% of revenues in Q2 2018.Looking at CapEx. It's increased by $66 million, reflecting a higher level of spend in our clinical network. Nothing extraordinary to report there. And that leads to free cash flow at EUR 559 million for the quarter. The -- as a result of the developments of our free cash flows and our acquisition spending, our net debt, this is our debt less cash flow on hand and excluding IFRS 16, has increased from EUR 5.4 billion at the end of December '19 to EUR 7.9 billion as of June 30, 2019. Including the additional lease liabilities as a result of IFRS 16, the debt increased to EUR 12.5 billion.And lastly, when you look at the leverage ratios on the bottom left of the page, excluding IFRS 16, leverage is at 2.6x, an increase -- up from 1.8 at the end of 2018, obviously inclusive of the effects of closing the NxStage deal. And the same ratio, inclusive of the change in the accounting on leasing, gets you to 3.3x debt-to-EBITDA.Turning to my last chart and talking a bit more about the outlook. Just a few more words. Revenue growth adjusted of 3% to 7% at constant currency using EUR 16.026 billion as a base, earnings growth unchanged at minus 2% to plus 2% constant currency with EUR 1.341 billion as the base. As Rice indicated, given where we are at the half year mark, we would say we're trending towards the middle or high end on the revenue side. And as -- at least in part as a consequence of the ESCO adjustment trending to the lower end of the range on the earnings side. We're also confirming our midterm targets for 2020, anticipating the increases that we had indicated to you earlier this year.And that concludes my remarks. I'll turn the call back to Dominik. Thank you.
So thank you, Mike, thank you, Rice, for the presentation. I'm happy to turn it over to Q&A. Could you please open the lines?
[Operator Instructions] The first question is from the line of Veronika Dubajova from Goldman Sachs.
I will keep it to 2 please. My first question is ESCOs and the adjustment that you've had to make today. I appreciate the mechanics of it. I'm just wondering, in light of what you are seeing and hearing from CMS around this baseline conversation, is your assessment of the growth and earnings potential of the U.S. Care Coordination business changing in any shape or form? I think historically, you've talked about this mid- to high single-digit top line growth in margin, somewhere in the low teens. Is that something we should be reassessing as a result of that? And I will ask my second question after you answer this one.
Sure.
Go ahead, Mike.
Yes. Let's see. I think when you look at -- just to give a little bit more detail to everybody on the phone, when you look at the Care Coordination margins in Q2, absolutely right, adjusted, it was negative 2.2%. The ESCOs accounted for 11.1 percentage points of that negative margin. So without considering the ESCO adjustment, we'd be at around 9% for the quarter. And on a year-to-date basis, we're at 5.2%, including the ESCOs and 10.4% excluding.So for the full year, we'd expect with the ESCO adjustment to most likely be in the mid-single-digit margins for North America. If you excluded the ESCOs for the full year, we'd be just shy of double digits, just to give some perspective.When we think about 2020 because I know your -- I'm anticipating your question in that regard, with the ESCO adjustment behind us and with what we see underlying the development of the remaining parts of our Care Coordination business, we'd expect to see, again, double-digit margins in the Care Coordination business, if that's helpful.
So even though there's potentially questions around your choice to participate in some of the ESCO programs going forward, you still think you can achieve a low double-digit margin in the overall Care Coordination business in the medium term? Is that a fair way to interpret your comments, Mike?
I think that's fair, yes.
Okay. And then my second question is just on the full year guidance. Obviously, with this ESCO headwind, it's roughly 2% to growth for the year. What is going on better in the business that gives you the confidence that you can compensate for it within the guidance range that you've given?
Yes. I think you've come up with two great questions to start the call. And maybe because -- obviously, we've spent some time with the notes that all of you published earlier this morning. So maybe I'll answer this in a fairly comprehensive way with regard to the second half versus the first half for 2019.The -- we expect an improvement to come largely from North America in order to achieve the guidance range that we indicated, which, when you look at that on a pretax basis, would be about EUR 300 million. Approximately 1/3 of that would come from top line improvements. Mostly, the positive trends you see in treatment growth and commercial mix in the U.S., which is further supported by the de novos coming online this year and supported by developments in product sales and Care Coordination, excluding the ESCOs, we are seeing some positive results in the vascular business as a consequence of the ASC conversions that we've undertaken and that we've talked about a number of times previously.About 1/3 of that improvement will come from the cost optimization program, the GEP program, from purchasing activities in the back half of 2019 and other efforts. And the last 1/3 would be from the timing effects. And in that category, Rice mentioned in particular, sales in EMEA as it relates to the Middle East, we do see product sales improving in the back half largely associated with those customers that are dependent on letters of credit.So that's a timing that -- we think we have the sale, it's just when it closes. Some cost incurred in the first half of the year that will not repeat, and then our normal truing up of our self-insurance reserves and other improvements in the back half of the year. So roughly 1/3 in terms of top line, 1/3 in terms of cost management programs and 1/3 in terms of timing effects, if that's helpful.
And our next question is from Patrick Wood of Bank of America.
Two for me please as well. On the ESCO charge, now timing thing, I mean CMS at the same time and CMMI has been putting out so many of these bundles and trial programs in CJR to rat onto BPCI, like there's been millions of them. Do you get a feeling that they're kind of running a little bit ahead of where they have the capacity to manage? And in relation to that, if that is the case, do you think that, that creates a problem for them managing the shift to home and making that shift? Or is that just a much simpler program to execute than the shared savings schemes? So that's the first question.And then the second question, on the commercial rate environment of the U.S., is it just some of the regional contracts we are seeing a little bit of the pressure there? And how should we think about commercial rates going forward? Should we expect to get back to a slight inflationary environment? That would be helpful.
So I'll take one. Mike, do you want to take two? Here's what my personal opinion is when you look at this. You're right, there are lots of pilots out there, there are lots of demo projects that are out there. I think here's what I would say to you, as we look at our ESCO situation and we talk to other people that are doing pilots of one nature or another, benchmarks that move around, timing and transparency of data and reconciliation is a general issue.Now in fairness and to the folks at CMMI, particularly at the very senior levels, they would tell you these were programs that were developed under a different administration, they've inherited them and they're trying hard to make them work as best as they can. And they will say that we're learning lessons about how we want to go forward, in my particular case, as we talk about the executive order in kidneys. And we do see that they're trying to simplify to make it easier.I will offer this to you. When we look at our Medicare Advantage programs that we are running for some of the payers, we know very well in a broad sense where we need to manage expenses, how we need to intervene, what we need to do. We see profitability, we see savings. It is a much simpler architecture, if you will, to what we have tried to understand and work with within the ESCO program.So I'm convinced that this works. Value-based care is here to stay. But yes, I think you're asking a very good question around just how busy are these folks, can they really get to all of this, is it just too overly burdensome? I think we've been awfully ambitious is the way I would say it.And I'll turn it over to Mike for the commercial rate.
Sure. Yes, Patrick. I think on just kind of overall on the revenue per treatment for this year, typically, I guide to revenue per treatment, excluding the calcimimetics, we are essentially flat at the half year mark year-over-year in terms of revenue per treatment.I would confirm that my expectation is we'll be flat to slightly down for the full year. We are seeing our commercial mix improve as we expected, and we are continuing to manage the renewals this year with the net rates being down just a bit.When you think in terms of midterm and you move out beyond this year, I think that the U.S. folks have done a really good job managing a very complicated environment over many, many years, and I would generally characterize what we see in commercial rates as relatively stable.
Next question is from Tom Jones of Berenberg.
For retail, I've got so many questions. I'm just trying to bundle them all into one really, to be honest. If you had to kind of assess the -- and I'm referring, particularly in the U.S. here, the political tailwind versus political headwinds situation. I mean you've got so many different things going on, ESCOs, the CKCC model, the ETC model, the KCF model, it's -- we've seen this tech add-on proposal come in last night, there's changes around the way the staff has been going -- handled. I mean we could talk about this all day.But just put it this way, if you -- if the sort of headwind-o-meter would say minus 10% on the day that the Medicare decides to try and cut your rates 9% back in 2013, 2014, that was kind of as bad as it's ever been, and maybe plus 10% is the opposite end of that spectrum. If you look at everything as you sit in your office today, I mean all these different programs that's going on in home, the executive order, et cetera, et cetera, where on that kind of minus 10% to plus 10% scale would you put the political environment in the U.S. at the moment?
So Tom, before I would begin to think about that, I'd probably have to have a drink if I were sitting in my study at home. But let me say this, yes, it can seem to be very schizophrenic and I understand that. Here's the way I look at it. We're winning more than we're losing. I'm frustrated about the ESCOs. And those of you that know me well understand that because we're doing good work and I don't think it's getting recognized from a financial standpoint.But here's what I would say to you. You look at the prospect -- the PPS comes out. It's roughly 1.6%, a little bit better than last year. I think that's a good thing. If people really read into the detail, there's no more ESA measurements. So for everybody that was worried about the call back, which I still say never came because they tried it and it didn't work, I think we've moved the past that boogeyman, if you will.And we see in the proposals, we are very happy with what we see for vascular access at a 2.7% increase in the renal side of the vascular business. And in the cardio side where we do some work, we've seen some procedures being included at good reimbursement levels. All of those things we take as positive. We believe in home or we shouldn't have spent the EUR 2 billion that we did.So I think in the big picture, I think the climate, as it sits today with this President, this administration, this Congress, I'm bullish. I think we have lots of work to do. We have lots of things to explain, questions to ask. The chaotic part of this is just trying to get it right and have it be more simple when I think about this mandatory piece of executive order and I think about the voluntaries.The good news is we get to decide whether we want to be part of the voluntaries or not, and we are 80% of value-based care in the U.S. So we do get a chance to sit and talk to people. So we just got to sharpen our thinking, be collaborative and try to work at getting this better for the long run.But if you had asked me, Tom, back in '13, would I ever sit on an earnings call and talk about the fact that the President put out a executive order that's dealing with moving kidney care in places that we as FMC had been talking about for years, I would have said you've had too many drinks when you ask me that question. So I do think in fact, it's not as dire as it seems, but there's going to be a lot of work that's got to go in. There's got to be a lot of listening that goes on. But it's better than I imagined it would be. We just got to be able to gather all those puppies up, so to say, and get them in the box at the same time.But think how bad it could be. I mean the flip of that is we could be looking at a whole different environment in terms of no caring about kidney, none of the opportunities. They could be doing things that make our NxStage acquisition look foolish. Thank God all of those things were in our favor, not going against us. Long-winded answer, but I hope that helps.
Don't hold your breath, we might have Medicare for all in 2 years time. My follow-up question, I guess, underlying the one I just asked is really the bit that we're all kind of salivating over is the global kidney care contract and model and what that might do to -- for your business. I know it's very early days and discussions are still relatively preliminary. But what are the key things that are giving you concern around that model? And what might you like to see improved with it before you would commit more wholeheartedly to participating in a program of that nature?
Yes. So when I -- what I think is when you look at the way they've laid it out, the fact that you've got nephrologists in there, you've got not a requirement for dialysis clinics to be there, that gives me concern that one of the first things we have to do is sit down with our physician partners make sure we're all locked and loaded about how we want to go forward and what we want to do.But I will tell you the thing that is concerning to me is when you look at attribution being based on the physicians rather than the clinic, that's a problem. I just think we've got to push back on that. It's not because I don't love our physicians, but I think that attribution has been hard enough for us in the ESCO program like I would say, "If we go into something this significant with this kind of potential and our clinic base is not part of the attribution," that's pause for concern.So we're going to push on that, we'll have to do more with it. Tom, I don't think I can drop into more detail than that, but that is the one thing that sort of drops out -- jumps out at me in that -- is we will now, I guess, start to call it forever the CKCC model.
Next question is from Michael Jungling from Morgan Stanley.
Two questions please. Firstly, on the ESCO savings. So of the profits that you've reversed of EUR 41 million, what is the amount of cost savings which you have booked in the past but have not yet impaired or adjusted? I'm just trying to work out the potential at risk at some time in the future if things don't improve in the ESCO projects.And question #2 is on Medicare Advantage. Can you comment on the progress you're making in negotiating with the commercial payers for 2020? And do you get a sense that you will get a rate above the Medicare rate? And in that, how do you feel about the disruption whereby an insurance company may actually become a dialysis service provider in their own right?
I'm just thinking about your question, Michael, because we're constrained a little bit in the following way. I think that when we finished the plan year 1 with the government, which was tail end of 2015 into '16, the agreement we have is that we don't talk specifics until the years are closed and fully reconciled. And when that happened for year 1, we've reported out in a fair amount of detail what the results were.Unfortunately, we would have loved to have been in a position to do that on year 2 some time last year. And as it's happened, that just hasn't worked out that way. There's additional work that's being done. But we do have an agreement that we don't talk about the specifics of any of the plan years until they are fully closed and reconciled. So what that leaves us with is essentially about 2.5 years of activity.We've got plan year 2, which -- the latest communication we received from the government is that they would expect that, that will be closed out some time this fall. I'd say best case, September. Worst case, Q4 hopefully. Plan year 3, which we just got the preliminary full year reports, lots of questions are going back and forth in terms of patient attribution, benchmarks and the cost savings estimates. I expect those discussions will continue. And then what we typically do in the current period is we take a very hard look at the most recent year, which would be plan year 3, 2018, and we considered that when we booked the adjustment in the second quarter.It's not really answering your question, but I'm explaining why I'm somewhat reluctant to talk about hard numbers in terms of what we recognized cumulatively in the program until we get to some closed plan years. We did it for plan year 1. We'll do it again for plan year 2 if we get through this year. And then as soon as we're fully reconciled with the government, we'll do it for 2018 or plan year 3.We are still saving money in these programs. As Rice indicated, we think it's very important that we participate in these programs to get the right basic knowledge to be successful under value-based care, whether you're talking about new executive orders or frankly even if you're talking about the PATIENTS Act and what may happen in Congress relative to getting to a capitated rate program for dialysis patients. So we see the investment we've made in the ESCOs as very important in that regard, and we are still generating savings that we're sharing with the government.
Yes. Michael, it's Rice. The only thing I'd add to that is it is a reconciliation that can go up or it can go down, and we have to be dealing with gravity right now in what we've done. But I'm not totally convinced that we'll never see any positive on this either. So I think we hold that out to see where it goes.On your question, second question, on the Medicare Advantage negotiation, those are underfoot. I don't think there's a lot I can tell you about that at the very moment other than obviously we're 6 months away from a new year, so we're into discussions on that.I think your other question about how do we feel about an insurer becoming a provider, that's certainly something that could happen. I think we're -- why we as a long-term focused provider have always been comfortable that we have quality parameters and we have quality metrics that we have to meet in these programs because it's not as easy as one might assume that they can flip from being on the insurer side of the business to provider side and they're going to necessarily be able to make that happen with whatever kind of form they take, if you will, to become a provider. But it's a little theoretical. I don't think I can say much more than that. But we stand by our ability to manage our patients and do what we need to do, and we'll see how that evolves over time.
Great. And maybe just a follow-up for Mike on this ESCO. Thank you for the explanation. Maybe I can ask it in a different way, is there a material risk or so that you would come back to us in the next 12 months of a further correction to the downside? Is there enough leftover that there could be a material amount to the downside?
Yes. I think that we do make -- we do every quarter and we did make a judgment with regard to this EUR 41 million that we took in the second quarter. So I would say these are still risk-based programs. We're still potentially plus/minus in any given period based on the most recent information we have from the government. But this EUR 41 million was substantial so I like to think that the worst is behind us.
And the nice thing, Michael, is just the fact that we've got these other programs for the executive order we're talking about. We're pushing for improvements. And what we've seen in ESCO, I hope some of that bleeds over into the ESCO conversation as well because those years are still out, as Mike has said. So we can't say no, but at the same time, I think you're trying to be as clear with you as we can be, and I think Mike just was.
Next question is from Sebastian Walker of UBS.
Two, if I could. So could you maybe comment on the ESRD PPS that we got last night in terms of how that compared relative to expectations when you're thinking about 2020 guidance. And then in particular, how large of a tailwind calcimimetics has been on the North American dialysis care products margin for 2019? So that's the first one, and I'll ask the second one after you had a chance to answer.
So we'll split that one up. Just on the PPS that came out last night, the expectation that we had going into 2020 was pretty close to where they ended up. We kind of felt like the 1.5, 1.4 we're seeing this year was going to be probably rational for 2020. And I think at this point, it seems to be -- now we have all have to remember, this is draft proposal until it gets to the final rule. But as I said, we're looking -- we think this translates to 1.6. I think everybody's got a different little number depending how you back things out. But Mike, I'll let you handle the tailwind on calcimimetics.
Yes. I mean overall, we haven't differentiated between what reimbursement is going through the services versus the products business. I'd say generally, the calcimimetics has been -- when you look at our margin reports, last year and this year, has been a positive for the business. And we would expect that to continue and make a contribution to the 1/3, 1/3, 1/3 that I mentioned at the beginning of the call when -- to Veronika's question. But I'd probably stop there rather than try to tease out products versus services.
Sorry, just to follow up. When calcimimetics go from being reimbursed at ASP plus 6% to ASP plus 0, I guess I'm trying to understand how that translates into a 2020 impact.
No. I appreciate that. That level of granularity we're probably going to wait until we see how we performed this year and talk more about that when we give 2020 guidance.
Yes. I mean Sebastian, the only thing we could add is we, I think, told you guys early in the year, we thought it'd be a couple of generics out there and we sit here today with 5. That will also play into how we look at next year where we go [ and see ] how they launch and get utilized in the ASP calculations.
Okay, great. And another just on home dialysis, and I think there's an appreciation for it to some of the potential financial implications here. But just trying to understand the transition period, if you could talk about how investments are going to be phased there. I think you talked about investments falling off in the second half of 2020. But then if you could also talk about the potential impact, are they a lower utilization rate within your traditional clinic base, that would be really helpful.
I mean I think very broadly speaking, and this goes back a ways. This goes back to kind of the discussions we had when we announced the NxStage deal in '17 and some of the additional discussions we've had. There was a home call, I didn't participate in that. But I know Rice and Dr. Maddux did.Broadly speaking, we -- and I'll repeat this a bit, but we're supporting home. We think that to the extent to which -- as a site of service, patients choose home over in center, that this is something that will be somewhat gradual over time. We indicated we thought we'd be at 15-plus percent by 2022, and we've told you recently that with the improvement we saw in 2018, that we're focusing on the plus.But we think that's very manageable in terms of our infrastructure. So over the midterm, I'd expect that -- and we've already said that we expect fewer de novos as a consequence of the move to home. And as some of the facilities come up for lease in the U.S., we think we can manage those lease renewals in such a way that we'll have the right level of clinical infrastructure to support the home patients because every home patient needs a center they can go to, to meet with the nurse, to take care of the evaluation of their clinical indicators, their bloodwork, et cetera, potentially get injections. So we think that we'll be able to manage the clinical network very smoothly over this period where patients start choosing home as site of service more and more in the midterm.
Yes. Sebastian, this is Rice. On the -- one point on the clinical utilization. As we have run out our models and we look at what we think we're capable of doing ex executive orders, set that aside for a moment, we're out in the 2030 time frame before we start to see real utilization. I'm not going to say issues. Utilization activities, we have to think about and take care of, so it is a ways out.Now I think it's fair. If you look at the executive order and you hear them say, "We want 80% of the patients either on transplant or home by 2030,” that's a great goal. I don't know exactly how you'll make that happen. But I guess we could theorize that clinical utilization discussions could come earlier if we're up at 30% or 40% instead of where we think it's rational.So I'm not going to let the order, the executive order cloud the thinking and the work we've done right now. We'll kind of get into that as we go through time and see where we are and we see how it's working. But I would caution anybody that just presumes that our acquisition of NxStage and President Trump's executive order are going to -- all of sudden, we're going to wake up one day and Mike and I are going to tell you, "Oh my God, we got 100 clinics that are going away or 1,000 clinics.” It just isn't going to work that way. And again, you have to kind of get into that detail, but Mike makes a really good point, every home patient has to have a clinic.So we've got time to work through that utilization, and that's probably one of the things that we're better at than most because we've been in this business for so long. Will there never be a utilization impact? I wouldn't say that. I'd say we've got time to plan and think about it, independent of what the administration may like to see the rates be for home and transplant.
Great. And sorry, just to confirm, in terms of thinking about the investments I think you said on that home call, expect to them to taper off in the second half of 2020, is that still your current thinking?
Yes. Yes, the -- yes, you're correct, Sebastian.
Next question is from Ed Ridley-Day from Redburn.
Firstly, on the GEP program, can you remind where you've got to in terms of about -- in terms of savings achieved so far and the savings you hope to achieve by the end of this year? And also on the age-specific margin, clearly, you well flagged the investments diluting the profitability in that region. Can you give us a bit of color on the phasing of those investments or what you have completed and what is still to come?
Well, on the GEP, I would say, as we talked -- as Rice and I talked about this leading up to the call, I think between the GEP and the cost optimization program, we probably want to talk more specifically next quarter in terms of how it's playing out year-to-date this year and maybe some indication as to what it might mean for 2020 at that time.So it's -- the program is running. It's very effective. I wouldn't change our overall expectations from what we've indicated in terms of guidance. But I think when we get into the detail on that, we'll probably do both next quarter.
Yes. The one number we'll remind you that we gave you was we were looking at savings of around -- I think it was EUR 150 million by the end of 2020. And I think what Mike is saying is we're still kind of hanging with that number at the moment, but we need to do some more work. But as you guys got jams with PPS and all that stuff, we've kind of gotten jammed with some of that, too. So we will come back and do a little more in-depth for you on cost optimization and GEP II.On China and the investments, if you recall, predominantly, we were looking at sort of 2 buckets of activity, one is production plant expansion, construction and secondly is clinic development. I think what Mike and I would say to you is the clinic development will come quicker, it's a lot easier to build clinics and begin to approach that than it is a huge construction project for adding on a factory or building a de novo factory.So think of it in terms of the investment in the clinic side. As it relates to '19 and '20 should come sooner, then you're going to see an impact from the production side because it's just a bigger construction and a longer construction window. Mike, I don't know if you want to add anything on that.
No. No, I think that's complete, Rice, yes.
Next question is from Hans Bostrom from Crédit Suisse.
I just have one question remaining that relates to your performance on the products business in EMEA. It seems like you've had comments in the last few quarters relating to tender businesses not necessarily going your way. And I'm just wondering whether this weak growth you saw in Q2 had anything to do with increased competitive nature of the products business in the region or indeed, it is just purely a timing issue.
Yes. Hans, it's Rice. So I don't know if I've commented on this previously or not, so let me do it now. When you look at the regions around the world, I would tell you, I think that Europe, Middle East and Africa region is probably the most competitive products region we have. But I would tell you that the guys in Asia Pacific would tell you it's their region. But I think they're pretty neck and neck, but it is very competitive. So I think there's a couple of things going on here.Particularly as we call out Middle East and parts of Africa, this is tender business. We've won tenders, but 2 things go on. One, we have product we're ready to ship. We can't ship without them telling us to fulfill the tender, here's what we need. So we've had some fits and starts there. We've talked about that before. It is frustrating.Secondly, we're also in situations where we're dealing in markets that we are looking for letters of credit. We want to make sure that we're not just going to ship something down a black hole, and that's a change. Honestly, 10 years ago, we probably were less worried about that. Now we're a lot more focused on making sure that we're managing that very dutifully. And I think Katarzyna and her team are doing a good job there.So it's a little bit of both. I know people get tired of hearing about that, but that's kind of the nature of where those particular markets are going on. You look at Eastern Europe and you look at the equipment business, you look at some of what's going on with solutions, tubings and things like that, it's a little bit better business, it's happening a little more, how should I say, they're probably a little bit more effective in just what we see going on.I think sometimes, we lose sight of the fact -- it wasn't that long ago, Libya was in complete uproar. Part of what we're missing are letters of credit from Libya. Egypt was a great business and it went poof with Arab uprising, and so that's just now coming back.So some of this is that we're in markets where there are fits and starts, and that makes this a little lumpy, if you will. Some people tell us we're crazy. We should stay out of those markets. We should just stay in places where we don't have those issues. It's a fair comment, but I think at this point, we believe we can try to manage our way through it.
Because I think in a quarter or 2 ago, you talked about the U.K. being a market where you've seen some weakness due to, well, failure to win tenders, I'm positive there. I imagine it's not the same reasons relating to financing in that type of market.
Yes. With the national health system in the U.K., it's not so much about disruption and things like that. It's lack of money and the price points they wanted on tenders. We do walk away from somethings. I think everybody's got to kind of remember, there's business that we're not going to go take and just completely destroy our pricing structure. I'm not going to say that is exactly is what happened in the U.K., but I think you get the message that I'm trying to deliver. Part of that is we control as well as to how bad we want a tender and what we're going to do.
Next question is from Oliver Metzger from Commerzbank.
My first one is about the ESCO interpretation and some general dynamics in the evaluation of savings. How does it came through the different use on the chief savings? Would you say that the chief savings were at the end higher than initially anticipated and therefore, adjustments to rates were made to limit payments? That's the first question.The second one is about the HHS proposals on home dialysis. Given now more public support for home dialysis, so you were bullish on this topic before. How have this proposal changed your underlying assumptions for further development in particular of PD and HHD for over next years?
Oliver, on the first question, the -- and I think you know this, but just my understanding of the way you asked the question. The ESCOs are retrospective shared savings programs, so there's no change in the reimbursement rate we're getting upfront just for the treatment. Everything else we do falls into the periodic reporting that the government gives us after the fact.So -- and essentially the 3 major elements you're dealing with is attribution -- what patients is the government crediting to your program, and that is based principally on the -- of the available treatments that, that patient should be experiencing in a given period, what percentage of those patients were done in your facility. The benchmark that's being used and changes to the benchmark and then the actual measurement for the current treatment and dialysis.And we have, in our discussions with the government both for PY 2 and for PY 3, those discussions have covered all 3 of those elements. But it's not a case where any adjustments were made to reimbursement rates upfront and then there was a disappointment. It's essentially just making sure that there's good transparency, good understanding as to how those 3 elements are aggregated and reported.And I would add to that, as we've gone from plan year to plan year, a good understanding as to -- what if any policy changes were made in the program from each of those years. That's where we spend -- that's what gets our time and attention when we're looking at these reports that are issued after the fact.
Yes. And Oliver, it's Rice. So our enthusiasm for home has not waned at all. Here's the way I'd say it. We know where we want to go and what we need to do, and we're all about going and making that happen. I think the executive order is great. I think it is helpful to put awareness out there and to put an exclamation point on home and transplants and vascular care or on value-based care. But those are some very lofty goals that the Presidential executive order lays out.We're going to keep our heads bowed as we're going to go as hard and fast as we can. We're not less enthusiastic at all. We just know what we're capable of doing and how we want to go about it. So don't read my -- anything I say to be less enthused or less motivated. It's just, at this point, the executive order and the goals of 80% of the new patients by 2030 being transplanted home -- being at home, that's a big task to figure out how you're going to get that done, and we don't have details to the program.So that's all I'm saying is we have to stay within ourselves and we know what we're capable of doing, interfaced with the government about how they want these pilots to be run and what they want and look at them that way. The ESCOs has informed us. It's helped us understand now a lot better questions to be asking about these future demos, and that's really what I'm trying to say. We're probably smarter today than we were a couple of years ago as we think about this, and that's the way we're approaching it.
Next question is from Hassan Al-Wakeel from Barclays.
A couple from me. So firstly -- and have I a follow-up on the ESCOs. If you can't answer this specific part of the question, there is a broader element to it. So in the first year of the program, you generated $8 to $9 of savings net per treatment. What was assumed for year 2 and 3? I believe likely lower because of the introduction of quality parameters? And what are you assuming now following changes to benchmarks? Any color here around the magnitude of a change would be helpful.And more broadly, I mean is this still an attractive business as it stands? And what gives you confidence that goalposts could not be changed in the future? Secondly, on cost per treatment, could you talk about the moving parts underlying the plus 3% growth year-over-year in cost per treatment relative to guidance, please?
Hassan, it's Mike. The -- for the reasons that I indicated earlier, I'm going to disappoint you on giving you a current assumption in terms of our savings rate. I think the EUR 41 million we took in the second quarter, as I mentioned earlier on the call, was substantial. So the -- I think if you measure it against year 1, which we did report, the savings rate is lower, and that's in part what led to the charge. But we still think this is very much an open discussion with the government, and we're not done yet, neither for PY -- plan year 2 or 3.
And we're still in it. As Mike said, we are saving money. The quality is good. This is a bump in the road and we're not going to run from that. We just want to get more aggressive in making sure we understand how we end up reconciling these things.
Yes. And they're...
But there being no change to their current benchmark. Is this still an attractive business?
Well, yes. As I said, we're still saving money. And again, we still think this is important to optimize our participation in the ESCOs so that as the executive order and as these things become more of the business model, the way the government wants to operate in end-stage renal disease, that we're prepared.
Yes. I think the follow-on, we all have to kind of keep in mind, this program will end in shared savings. We've laid out for you where we want to go to a capitated rate in the PATIENTS Act. We've had lots of discussions at both the House and the Senate. We haven't gotten them there yet, but this work we're doing now informs us for how we're going to go forward when we're in a capitated world, and I think we're going to get there, and we're in that world today with the certain providers in the Medicare Advantage side of the House.So even though Mike and I are disappointed about where we are today with what happened, this is still giving us experience and view and a way to think about how we're going to go forward in the future when it's capitated and when we're doing other types of arrangements. ESCOs, as they exist today, are not going to be this way forever.
And on the second question, Hassan, relative to cost per treatment, I think that when you do look at cost per treatment for the half year as reported, it's up 3.5%. I would tell you, if you exclude calcimimetics, it's still up but a bit less at about 2.6%. And we do expect it in the back half of 2019, not surprisingly with regard to how I describe the second half improvements.We do expect the cost optimization program, GEP and some other ways that we're optimizing costs to see some of that effect in the services business in the U.S. So the expectation is that the cost per treatment will decline in the back half of 2019. I would say order of magnitude, probably $10 to $12 a treatment with some decline in the calcimimetics cost but most of the decline in the underlying core business as a consequence of those programs.
Okay. So it looks like we have no further questions. Therefore, we can close the call, and we do say thank you for taking the time to be on the call with us today and we wish all of you a good summer break.
Thanks, folks.
Thank you very much for your interest. Take care. Bye-bye.
Ladies and gentlemen, the conference has now concluded and you may disconnect your telephone. Thank you for joining, and have a pleasant day. Goodbye.