Q2 2020 Surgery Partners Inc Earnings Call

Greetings and welcome to the surgery partners Inc. second quarter 2020 earnings call. At this time all participants are in listen only mode. A question and answer session will follow the formal presentation. If anyone should require operator assistance. During the conference. Please press star zero on your telephone keypad as a reminder, this call.

Friends is being recorded I would now like your turn the conference over to your host Mr., Tom Kelly Chief Financial Officer for surgery partners. Thank you you may begin good morning, and welcome to surgery partners second quarter 2020 earnings call. This is Tom Kelly Chief Financial Officer, joining me today, our Wayne device surgery partners executive.

<unk> Chairman and Eric.

Surgery partners Chief Executive Officer.

A reminder, during this call we will make forward looking statements.

Factors that may impact those statements and could cause actual future results to differ materially from currently projected results are described in this mornings press release and the reports we file with the FCC.

The company does not undertake any duty to update such forward looking statements.

Additionally, during today's call the company will discuss certain non-GAAP measures, which we believe can be useful in evaluating our performance.

The presentation of this additional information should not be considered in isolation or as a substitute for results prepared in accordance with gap.

Reconciliation of these measures can be found in our earnings release, which is posted on our web site at surgery partners Dot Com and our most recent quarterly report when filed with that I'll turn the call over to wane Wayne.

Thank you Tom Good morning, Thank you all for joining us today.

Before we begin our call. This morning, I wouldn't like to acknowledge and recognized our 10000 plus associates and physician partners that continue to support the health care system and the needs of their patients. These are clearly unprecedented times and we are proud to be affiliated with these heroes within bodied our mission of enhancing patient quality of life through partnership.

During this public health crisis.

Behalf of surgery partners Board of Directors and management. Thank you for your service and the sacrifices that you and your families are making each and every day.

Turning to our second quarter results.

Over the past two plus years, we built our company for growth and appointed data driven approach to decision making.

Before to our strategy based on key data points, including but not limited to specialties expected to grow at a disproportionate rate versus industry averages.

Contribution margin per minute based on specialty type.

And anticipated tailwinds, such as the transition of many Medicare related procedures from a higher cost inpatient setting.

To a lower cost high quality outpatient setting.

We also use data to support our physician recruiting efforts and to hold ourselves accountable for execution.

Our strategy was built to support sustainable long term double digit growth.

However.

Data driven approach can only answer so many questions, including how a business model and team may perform during an unanticipated and unprecedented crisis like cold good 19.

More importantly, with the growth engine, we established be able to survive and continue to thrive given our differentiated strategy and assets.

As you can see from our second quarter results. Despite the unique environment impacting both our country and company our business model is proven to be quite resilient.

We took decisive actions early many of which required shared sacrifice across our organization.

And supported our colleagues and physician partners in a manner that would enable us to reopen quickly and address the needs of the communities we serve.

And while the disruption of coping 19 is pressured our business model in the near term.

It is also reinforced the value of the key pillars that support our long term growth model.

As an example through June of this year.

Despite the severe disruption we experienced in late March and April.

Revenue from physicians recruited this year through June are up approximately 37% compared to the same period in 2019.

Further we are completing an increasing number of high acuity procedures in our centers and programs like CMS is hospitals without walls highlight that ambulatory surgical settings are an appropriate care setting for many high acuity procedures.

Just yesterday.

Yes noted the significant developments in the practice of medicine.

Have a lot more procedures to be done safely and on an outpatient basis and it should be up to physicians to determine when inpatient care as required.

We believe that recent experience and the underlying acceleration of trends just described emphasize the importance of care delivery migrating to lower cost high quality purpose built settings like our short stay surgical centers and that patient and physician preference is seem to be increasingly aligned with is accelerating trend.

Well, Eric will go into greater detail regarding the results of the actions we undertook I wanted to share a few data points that highlights the strength of our short stay surgical platform.

Our muscular skeletal service line.

Which represents nearly 44% of the procedures, we performed at our facilities in the second quarter.

We remain resilient.

Of particular note given the disruption we have experience.

Muscular skeletal procedures were more than 700 basis points of mix ahead of the prior year period.

And the number of orthopedic cases in the month of June 2020 increased by 18% versus the prior year period.

The mix shift to higher acuity orthopedic procedures also favors our strategic focus on higher margin and higher dollar value per minute of operating room procedures.

In May and June our average adjusted revenue per case increased by 21% compared to the prior year, which helped to partially offset lower volumes and these periods.

And finally.

The transition of procedures out of traditional acute care inpatient settings accelerated during the quarter.

In June.

We perform 2.6 times as many joint replacements in our ambulatory surgery centers as we did during June of 2019.

For the year.

Even with the disruption of coded joint replacements, and our ambulatory surgery centers have increased by 70%.

Let me conclude by saying that while we're pleased with our second quarter results and is very challenging environment. There is still much uncertainty.

We are humbled at the opportunity to support the health of our communities. During these unique times I look forward to being able to continue to demonstrate the important value the surgery partners brings to our country's healthcare system.

With that let me turn the call over to Eric Eric.

Thank you Wayne and good morning.

Today I'd like to review highlights of our most recent results provide an update on our cobot 19 response and outline our plans to navigate this crisis throughout the second half of 2020, Tom will then close our prepared remarks with greater detail on second quarter financial results before we take questions.

From March 14, when the surgeon General CMS in some states starting to recommend suspension of elective surgeries to help preserve critical resources, we saw a wide variety of impacts to our facilities with both regional differences as well as differences based on specialties.

In general are short stay surgical hospitals prove more resilient in the initial downturn that are as fees and higher acuity cases were slightly less impacted the lower acuity cases, such as JCI procedures.

Encouragingly each month from April through June experienced larger increases in volume than we had projected in these trends appear to be continuing through July and our current August scheduling.

For the quarter, the temporary suspension of elective procedures depressed overall volume, but we remain cautiously optimistic as we look into the second half the year based on our most recent results Andy outstanding efforts of all of our team members.

As disclosed in our 8-K on July 22nd our same store cases volumes as a percentage of prior year totals increase from 19% to 93% from April to June.

Today, we announced that our second quarter 2020, adjusted EBITDA was 58.2 million inclusive of 27 million in care as the act grants.

Tom will go into more detail on the financials, but we're quite pleased to be able to demonstrate such strong performance in these difficult times.

Thats solid financial results would not have been possible without the efforts of lawmakers local officials and most importantly of our team members and physicians, who mobilized quickly to adapt the new protocols and procedures required based on national and local regulations and continue to provide critical services in a challenging environment.

We're confident that our frontline colleagues doctors and particularly our nurses and medical staff aided by our corporate teams can keep us squarely on this path to recovery.

Some key priorities from which we continue to remain focused include the following.

Ensuring that our facilities are safe places to conduct procedures as mentioned we are strictly following CDC guidelines to ensure compliance.

Our facilities follow stringent cleaning policies, which had been further enhanced in focused and frequency and most see only pre screen patients by appointment, which helps reduce our overall risk profile, making our facilities highly attractive options for patients and physicians in this environment.

We also has remained focused on ensuring appropriate use in quantity of ERP personal protective equipment.

Our teams have been hard at work navigating the supply chain implications of covert 19, while demand for critical items remains high we believe we have sufficient inventory to continue to perform surgeries as needed.

Finally, we're closely monitoring situational changes and evolving regulation across the country to ensure our compliance.

As most of you are aware there has been an uptick in the number of cobot cases throughout the country, resulting in certain county specific elective procedure restrictions.

To date, the elective van issued had been generally not applicable to our facilities. However, we are monitoring both macro and micro factors on a real time basis with a particular focus on certain hotspot geographies, including Texas, Florida, and California to understand emerging trends and to take mitigating actions.

I have personally visited a number of the hotspot locations over the past two weeks meeting with our colleagues and physician partners and I continue to be encouraged by their commitment to our mission of enhancing patient quality of life through partnership there resilience and their optimism about our value propositions growth prospects moving forward.

Based on the strict protocols, we have implemented and because our facilities generally do not Sri Koby patients. We continue to believe we are uniquely positions to be a safe haven for elective surgeries and we are committed to serving the healthcare needs of our communities as this crisis continues to unfold.

Let me take a moment now to address our ongoing actions as we prepare for the back half of 2020.

Surgical volumes started to recover during the second quarter, we sought to manage our expenses. So the return would like revenue.

Many of our expenses that were one not considered to be variable have proven otherwise and management will continue to remain vigilant in our cost control efforts moving forward.

This prudence is reflected in our results and even in the month of June when volume started to recover our gionee plus our salary and benefit expense as a percent of revenues was nearly 800 basis points lower than the prior period year.

We also use this time as an opportunity to look for new ways to enhance our long term productivity, which would further support our long term goals of double digit adjusted EBITDA growth.

We continue to pursue consolidation and outsourcing opportunities to gain efficiencies and also provide enhanced services to our facilities and physician partners.

Do you need challenges that we have faced during this quarter of also provided new growth opportunities mini standalone facilities across the country now more than ever see the value of being part of a larger organization.

Given the cobot 19 backdrop, we expect the shift of surgeries to short stay surgical facilities to accelerate even more quickly than our previous expectations.

Technological improvements cost savings and patient safety had been the primary drivers of this shift pre covance and we believe that patient and physician sentiment and our current environment will further propel the shift for 2020 and beyond.

This has been our company's differentiation and now more than ever due to cobot 19. This value proposition is resonating with key stakeholders in the healthcare environment patients physicians and payers.

To help capitalize on this trend on July 22nd we raised an additional 115 million of gross proceeds via an add on offering to our 2027 notes.

With the proceeds from this most recent offering we plan to focus on growth related activities, including the following service line expansions, where our teams are working to capitalize on the accelerated transition of orthopedic and spine cases in the short stay surgical facility setting as well as broader cardiology and robotic migration trends.

For this recruiting and technology infrastructure investments to further improve the effectiveness of our lead generation in ROI as well as to make improvements in our data and analytics that will enhance our managed care and revenue cycle efforts and importantly to help fund a robust M&A pipeline of transactions heavily focused in orthopedics cardiology.

And other key specialties across the country.

We believe this crisis is fundamentally change the way patients and surgeons will thinking about the role that purpose built short stay surgical facilities will play in healthcare delivery.

We continue to see strong surgical volume trend through July and remain as confident as ever in our long term organic growth model and believe that scaled independent operators such as surgery partners will be uniquely positioned to grow in this new marketplace.

Given the level of uncertainty that remains relative to the cobot impact in the back half the year, we will not be providing formal guidance today.

That said barring a significant change in recent trends. We currently project that we can deliver adjusted EBITDA consistent with our original guidance for the back half of 2020.

More importantly, if we are able to return to our pre cobot run rate in the back half of 2020, we believe that will position us well to maintain a double digit adjusted EBITDA growth trajectory into 2021 and beyond.

Finally, I want to take a moment to talk about the proposed 2021 Medicare Hospital outpatient ambulatory surgical center payment update that was released yesterday.

While our teams continue to evaluate the specific impact to surgery partners based on the proposed increases in our specific business mix. We were encouraged by the proposed 2.6% aggregate increased contained in the release.

CMS is also proposing the elimination of the inpatient only list over the course of three calendar years, beginning in 2021 with the removal of approximately 300 muscular skeletal related services procedures, our facilities are particularly well suited to capture.

Further. The addition of 11 new procedures to the ASV covered procedures list include including total hip replacements speaks to the value in quality that are short stay surgical facilities can provide to the system.

Finally, CMS is also soliciting comments on procedural alternatives to enhance the cover procedures list at AMC as they look to further increase the availability of Asps as an alternative site of care for Medicare beneficiaries and to allow for a more efficient use of healthcare resources and infrastructure in light of the current covert 19.

Crisis.

We look forward to continuing to serve our providers and communities by providing safe convenient high quality alternatives to traditional hospital environment.

With that I will turn the call over to Tom who will provide additional color on our financial results.

Tom.

Thanks, Eric first I'll spend a few minutes on our second quarter financial performance before moving on to liquidity and some considerations as we move into the second half 2020.

Starting with the topline surgical cases declined to just under 83000 in the quarter, primarily caused by coven 19 related restrictions.

Adjusted revenues for the quarter were 383 million, 16% lower than the prior year period reported results included approximately 12 million of contribution from our new community Hospital in Idaho Falls.

On a same facility basis total revenue declined approximately 18.6% in the second quarter.

Looking at the components of this decline our case volume was 39% lower than the prior year period offset by higher net revenue per case that increased by over 32% driven by acuity mix and pricing.

Turning to operating earnings our second quarter 2020, adjusted EBITDA was 58.2 million just under a 5% decrease as compared to the comparable period into in 2019.

During the second quarter, we received approximately 48 million in cares act funds of which we recognized approximately $43 million as other income based on lost revenue since the cobot outbreak after non controlling interest the grants we recognized in the second quarter contributed approximately 27 million to our adjusted EBITDA.

During the quarter, we recorded 10.1 million of transaction integration and acquisition costs of note second quarter 2020 transaction integration and acquisition costs included approximately 5 million of EBITDA losses associated with our de Novo Hospital in Idaho Falls as I've noted before we expect to report results.

From this facility separately throughout 2020, and although this new hospital experienced lower volume in the second quarter associated with Cobot 19, the underlying momentum remains very positive.

Moving onto cash flow and liquidity, we ended the quarter with a strong cash position of $326 million, which includes approximately 120 million of Medicare advance payments.

We have helped these advance payments as deferred revenue in our financial statements. As a reminder, these advanced payments will reduce reimbursement for Medicare services that are provided starting in August.

Our liquidity position is further enhanced by our Undrawn revolver, which has the capacity of approximately $113 million after giving consideration to outstanding letters of credit.

Of note during the second quarters surgery partners had operating cash flows of approximately 182 million.

We raised approximately 120 million of incremental capital through an incremental term loan issuance in April.

And subsequent to the quarter raised an additional 115 million of incremental senior notes due 2027.

Finally, we deployed approximately $7 million in the quarter, primarily related to the expansion of existing facility in the state of Georgia, and the acquisition of an FC adjacent to one of our facilities in Texas.

The company's ratio of total net debt to EBITDA at the end to the second quarter as calculated under the company's credit agreement was down slightly at approximately seven times, primarily as a result of higher cash balances, partially offset by lower trailing 12 month adjusted EBITDA in the current quarter due to covert 19.

Normalizing for the impact of Medicare advance payment funds the ratio of total net debt to EBITDA would have been 7.35 times.

The company has an appropriately flexible capital structure with no financial covenants on the term loan or senior notes as mentioned in the first quarter call. The company's lenders under its revolving credit facility waved our leverage covenant for the remainder of 2020 and provided substantial flexibility for the calculation in 2021.

Looking forward to the back half of 2020, although surgical volumes were depressed in the second quarter. We saw some of our strategic initiatives start to bear fruit.

Our emphasis on investing in the procedures that produced the highest dollar contribution per minute has manifested itself in our results.

The significant increase in revenue per case during the second quarter is a testament to one the natural shift of higher acuity procedures to short stay surgical facilities to our targeted physician recruitment efforts and three our strategic rate negotiations in multiple markets across the country.

Well the evolution of this pandemic and to what extent the economy will improve as unknown, we have not yet seen a material shift in payer mix due to higher unemployment levels, rather we have seen the slight improvement in commercial rates and acuity mix in the second quarter.

We are encouraged by the piece of recovery during the second quarter and remain confident in our long term growth model as we look out to the remainder of the year. If the current recovery persist we project that we could generate adjusted EBITDA in the range of $250 million to $260 million this year.

This indicative range assumes that the volume levels and corresponding specialty mix payer mix and net revenue per case metrics that we have seen in June persist and improve over the remainder of the year.

That we do not see broad based elective procedure restrictions or stay at home orders issued in our key geographies.

And that we can continue to make progress on our initiatives in the midst of this crisis.

As Eric mentioned in his comments if we can realize this outlook for 2020, we believe this will position us well to get back onto the double digit adjusted EBITDA growth trajectory that we entered 2020 projecting we could achieve.

With that I'd like to turn the call back over to the operator for questions operator.

Thank you at this time will be conducting question and answer session. If you'd like to ask a question. Please press star one our new telephone keypad, a confirmation code will indicate your line is on the question can you maybe first start to if you'd like to remove your question from the Q for participants using speaker equipment, you may be necessary to pick up your handset before.

Sorry.

Our first question comes from the line of Kevin Fischbeck with Bank of America. Please proceed with your question.

Okay.

No.

Thanks, Eric.

Well that's common equity.

Yes.

Hey, Kevin you are not coming through well I don't know if you're on a mobile line could you maybe try to ask the question again.

Im sorry, Kevin, but unfortunately, we can't hear you operator can you still hear us.

Yes, I can hear you. His line is is breaking up Mr. Fischbeck, perhaps if you dial back in on our land line. We can take your question.

I'm sorry. Your next question comes from the line of Brian included with Jefferies. Please proceed with your question.

Hey, good morning, guys Congrats I.

I guess my first question Oh wait as I think about MSK, obviously, a big opportunity just what do you think.

And the from an acceleration perspective, because there's a shifting volumes from hospital settings to yours, what are the things that you still need to do to get this going and then how do you make this sticky so that.

Even post coveted doesn't move back into the hospitals.

Hey, Brian Good morning, Thanks for the question.

Yes. Thanks.

During replacement surgery, sorry about that.

Yes, so a couple things that I would respond to regarding your question first and foremost what's what's what's been interesting as you know isn't just the shift that we've been pursuing in terms of recruiting physicians and what we've been getting is kind of regular momentum as we've mentioned historically.

There is really several factors we have to go after to get these things not only to move but tend to become sticky one as you've got to actively recruit docs into your facilities and you've got to show them that value of the quality to support that but even if the technology and as you heard Eric and the prepared remarks comment that we're doubling down on our investments in robotics, we know that will actually help us not only recruit.

And more physicians into the facilities, but the level of technology that we can bring which would be similar to what they could get in an inpatient setting will enable app to become more sticky.

Two is clearly the advantage we have with our facilities is the flexibility and scheduling and that is something that many inpatient organizations cannot offer to docs and so we don't generally find that stickiness is the concern in fact, we think during this environment Kogan 19 is actually giving us an opportunity to showcase our facilities to even more doctors.

MSK and show them that we cannot only accommodate their needs, but we can be highly flexible with their schedules and so all similar to what you heard from Eric and my comments, we actually believe that not only will these procedures come over but they will actually become sticky and we're actually seeing that as we looked at May June July and even early scheduling now for all.

I guess that those are in fact trends we are seeing.

And then the last thing I would simply say is this the more that CMS continues to move procedures off the inpatient only list and the over 300 MSK procedures that as of yesterday now are being recommended the transition over the next three years is just another example in another sign of what we think will encourage doctors to to move these procedures over and.

Candidly patients prefer it so.

All in all right I would just said we've got really all tailwinds going in our favor right now I don't know Eric anything else you want to add you've been on boots on the ground out visiting with our with our dog. So we've been recruiting and others, yes, Brian good morning.

The question I do think that one of the really interesting things for us as as as more and more procedures are moved into our setting are able to be done in our setting it's easier positioned for physicians to think about moving their practice, making an investment right. They don't have the split business and so every time, we add one of these procedures. It makes their life easier they get it come to a place where they have a consists.

And schedule they know that it's going to move on time, they're going to be I'll get back to their office and now they can bring more and more cases. So it's not just that now bring the Medicare habits that they can bring their whole lineup on Wednesday, and so we we see that has an incremental positive clearly one of the other things that we have to continue to do which we've been quite successful out over the last couple of years is make more and more of our centers capable.

All of doing total joint and spine cases, and so we continue to add every year the number of centers, where we've invested in the space. The technology. The the adequate capacity to allow those procedures to be added and so that's one of those things that were.

We're excited about and then the last thing and Wayne mentioned. This I mean, there are there are certain places where we have either existing partners are physicians I'd say, if it weren't for a robot or a piece of technology, we would do it as Nancy space and we're solving those problems actively so we do feel like all of this net net continues to add to this natural transition that we only see access.

Alright.

No I appreciate that and I guess my follow up when you're obviously sitting on a lot of cash on the balance sheet.

Successful debt raise and I know, you're very active M&A world, but how should we be thinking about the pace of deal. The the makeup of deals are you looking at bigger transactions given the amount of capital that you have in front of view or is it still the same kind of strategy or you're rolling up.

Relatively smaller one off transactions.

Hi, Brian Thanks for the question a couple of things I would highlight first and foremost the M&A pipeline is robust as we've ever seen it I think that is both a function of the value creation that SP is able to show two potential partners. The independence of our value creation and candidly cobot has really put a spotlight on those standalone facility.

Is that are struggling in this environment and they can see what we can do to actually help them. During this time.

And so when you think about that I would tell you that a couple of things to hone in on one is we're very focused on those those facilities that are heavy MSK and cardiovascular we think cardiovascular is the next wave and we don't want to wait two or three years start hitting that way in fact, we've got a number of facilities now that are doing that we think MSK is got to good.

Five to 10 year running it still and and it's just starting the growth trajectory, but we actually want to start the next run as well.

I would tell you that our pipeline has several transactions under LOI currently that we could close between now and ended the year subject to our due diligence and final procedures.

And in terms of size and scale.

I think they take on kind of all shapes and forms we will not do a bet the farm.

Transaction, there is no need to bet. The farm things are going well our process works well, we're able to plug and play these things inefficiently, but we are looking at some slightly larger transactions may we've done over the last couple years, all but focused on a multi specialty of cardiovascular and MSK.

But again not much bigger than what you've seen historically, but things that will really drive value creation to where we see the growth trajectory going.

Do you got am I right.

Just one one quick one quick addition.

Clearly we pipeline has been fantastic, but we remain focused on those end market into novel opportunities, they're extremely attractive. So we kind of have both going for us now but I.

I would I would just reiterate we certainly will love.

The end market de Novo and roll of transactions in those continue to be very accretive and they continue to be available to us.

All right got it thanks, guys Congrats again.

Thanks.

Thank you ladies and gentlemen, as reminder, if he'd like to join the question can you. Please press star one at this time, we'll pause a moment to allow for questions.

Thank you. This concludes our question and answer session I will turn the floor back to Mr. Evans for any final comments.

Thank you and we realize it's the busy morning of calls and so we've done maybe if your questions a normal I just want to wrap up the conclude by saying. Thank you on behalf of Tom weighing it myself to all of our colleagues across the country, who have been contributing during this very difficult period, and we're absolutely committed to delivering on our mission of improving.

Agent quality of life through partnership we're humbled by the efforts of our positions our nurses and other first responders across the nation as we all deal with this pandemic and certainly just want to say thanks for all they do with that thank you for joining the call today and we hope that you all remained safe and healthy.

Thank you. This concludes today's conference you may disconnect. Your lines at this time. Thank you for your participation.