Chemed Corporation (CHE) Earnings Call Transcript

Good afternoon, everyone. Thank you for joining us this week at the JPMorgan Healthcare Conference. My name is Andrew Lang, and I'm an associate here on the JPMorgan health care team. It is my pleasure to introduce Kevin McNamara, President and CEO of Chemed; Nick Westfall, CEO of VITAS; and Mike Witzeman, CFO of Chemed. With that, Kevin, I'll turn it over to you.

Thank you. Whenever I speak in with the group that is bigger than maybe [ 4 and 111 ], I always like to start with a little bit of history of Chemed because the question is bagged, what was the grand strategy between -- behind putting a hospice company together with a plumbing company? And so I'll just spend a couple of minutes talking about it. Chemed was a subsidiary of W.R. Grace & Company during the '70s. At that point, it had a couple of specialty chemical companies and some health care companies. And it spun off the health care companies as Omnicare, a company now I guess part of CVS. And during the aftermath in 1980, Chemed spun off from W.R. Grace & Company in 1982. And so no longer any connection between Chemed and W.R. Grace. And so 1982 to 2004, Chemed just bought and sold a number of companies. It sold its interest in Omnicare. So it was totally completely spun off. In approximately 1994, VITAS was shopped to us. We were interested, wanted to buy it. At that point, they were just doing a recapitalization though, and they -- all we could do to get an investment interest in it. It's a pretty good deal. It was a preferred stock that paid about 9.5% after-tax return. We're happy with it. But again, it was kind of a company that were very interested in. We get to closer to 2004. By that point, we have sold off a number of companies, including a home health care company, a sanitary -- a company called National Sanitary Supply and a couple of other smaller ones. So we had Roto-Rooter, a company that Chemed had purchased in 1980 for $17 million. We had cash and this interest in VITAS. And we were asked if we were interested in selling the -- our interest. We said at what price, and they told us. And we said well really at that price we'd rather be a buyer than a seller. So it was 2004, we actually borrowed more than our market cap to buy the 2/3 of VITAS that we didn't already own. And we completed the deal. At that point, we said like many of the people in this room would have said "Well, Wall Street loves a pure play. " Those 2 pretty different businesses. We were very familiar with both of them. There's no grand strategy behind owning them other than we've been associated with one owning at the holding Roto-Rooter since 1980 and an interest in VITAS from the early '90s. So we just said, look, we're going to think what we think put out very transparent information making it very easy with investing public to do the sum of the parts. And if the sum of the parts was going at a discount, if our stock price is a discount at the sum of the parts, we'd be maybe an aggressive seller of the Roto-Rooter business. If not, if we were selling at a premium, we'd hold firm and [indiscernible] until such time as it makes sense to create value to do something differently. And so the question becomes, I think, first and foremost, how the 2 companies have done being together? They had -- they've both kind of grinded out businesses, single-digit top line growth companies. They've grown largely through small acquisitions kind of [indiscernible] acquisitions. The risk profile of the 2 companies in our growth has been low. And just through the magic of having good solid results for a 19-year period, and also both companies having very good cash flow, basically, cash flow is equal -- free cash flow is basically equal to reported net income, buying in over $2 billion in stock, reducing the share count. That effect is that on an EPS basis, over the 19-year period, Chemed's EPS is up 22.5% per annum on a compounded basis. So the company -- in other words the companies have done very well. So that's the history of how we came about the 2 very different companies. The next thing I'd like to spend just a couple of minutes on is the pandemic. The pandemic was -- I won't go into the tail two cities but it was great for Roto-Rooter. For the 3 years of the pandemic, that is '20 through 2022, Roto-Rooter's net income grew 20% per annum. It's not a very basic business, right? I mean everything was perfect for Roto-Rooter. Competition was troubled. We had the service people. People were in their homes, so available for a very -- on a logistical basis, very, very easy access and pandemic was great for Roto-Rooter and companies like it that have the workforce. And VITAS is a completely different situation. it was almost an existential crisis for many companies like VITAS in the health care field. I mean we had 20% of our workforce, our clinical workforce quit almost day 1. Afraid for their own health, safety. We had facilities from which we serve patients and get referrals were closed outsiders. We saw our average daily census fall from about a little over 19,300 to 17,200. And again, at that time, we had insufficient clinical staff to really serve any kind of upswing in the company. Now I'm going to first talk about Roto-Rooter for a few minutes, then I'm going to turn it over to Nick, who's the CEO of VITAS, and he's going to talk about what he did to -- over this period at the end of the pandemic to build back to where we were from prepandemic levels. But with Roto-Rooter, great business, great service mark. Operating profit margin approaching and exceeding occasionally 20%, so a great operating margin for a service business, very predictable. We've added some service lines over the last several years, including expanded excavation and something we call water restoration, which is just where water has gone into a finished area, getting the water out, drying it out. So mold does not form. And so it's been a very good business. I think we're getting towards the end of geographical expansion. I mentioned we purchased Roto-Rooter in 1980, at that point was just a franchisor. So we've been buying back the franchises in major metropolitan areas. So the issue we've had recently on Roto-Rooter is, okay, you're coming off a period, a 3-year period where you had unprecedented growth. Last year was tougher. We saw it early last year, our phone calls for service fell off just dramatically down 15%, unprecedented. And we spent a lot of time talking about that in the last several days. And we said, well, there's a lot of good things going on with Roto-Rooter. I mean during a period of 18 months of 7%, 8% inflation, we were able to pass in the last 2 years, price increases of 5% to 7% along. You might say, well, then are you pricing yourself out of the business? I'd say, well, number one, we don't quote prices over the phone. And we say we'll send a service person to your commercial establishment or residence and they'll make an evaluation and give you a written estimate. And the close rate at the dispatch level for booking that job over the last 2 years has increased actually. Our -- when the service man shows up at the customer's residence, the close rate on selling that job, those close rates have gone up. So it's more of the marketing issue. What we think is the explanation lies on the cyclical side, and that is we've gone -- we went through a period where inflation dramatically exceeded the increases in wages. And to the extent we had a customer-facing business like Roto-Rooter and you've seen this with a number of companies. To the extent that there's aspects of the business that can be delayed that is request for service. I mean that's what we're seeing. And we don't hold ourselves out to be economists or predictors of the macroeconomic activity levels of the country. But again, we believe it's -- we believe what we've been dealing with largely is a tough macroeconomic environment. Our operating results have been very good. The question is, I think, that are well founded that during the period of the pandemic years, maybe there was some front-loading of some activities. That is people fixed everything in their house, second and third jobs when they were being called out on a plumbing fix. All those are very likely, but generally speaking, I'd say that Roto-Rooter great pandemic, experienced a little bit of a pandemic hangover. And to the extent we've been asked in the one-on-ones, how do -- where do we see the improvement? And I'd say that's largely when calls returned to normalcy. And I think when they do, as I said, our workforce is very solid. Our pricing is right where it has to be. And we'll go from a period of flat to up 5% range to -- back to the 8% to 10% that we've achieved over an extended period of time. So I just wanted to spend -- I have Nick talk for a few minutes about VITAS of the totally different issues that he's been facing. That is the evisceration of the business during the pandemic and the triumph of return of it.

That's good. Thanks, Kevin. Afternoon, everybody. Just want to spend a few minutes as we close up our presentation, as Kevin alluded to, just talk about VITAS as well as spend a few minutes to talk about the outlook for the industry overall. For those of you that have been following our story, you know where we sit right now and where we're heading forward at VITAS, we're extremely positive and optimistic about. For everyone who hasn't followed the story, there's really been 2 drivers as we talk about the pandemic. We want to spend a minute or 2 to discuss that has led to our success right now. Our ability to sustainably build our clinical bedside capacity and the corresponding growth in census that we've seen and anticipate continuing on a go-forward basis. On the first one, for our ability to grow clinical capacity, early part of '22, we realized with the pandemic subsiding that we had a unique opportunity to really differentiate ourselves. And what we put in place at that point that started in July of '22 was a 1-year recruiting and retention program that was very successful, where we actually added a net 784 bedside clinicians across 5 disciplines. But with that being said, in parallel, what we also wrapped around it were a whole host of other items that really elevated our culture at every single one of our sites, whether that is a host of employee recognition programs, whether that's continued education, it really was us focusing in on reinforcing why clinicians and why our team members come to VITAS and why they come to hospice and that really is truly a calling. And so in parallel, with the recruiting and retention program, combined with the cultural wraparounds, what we translated to and where we sit right now and as we alluded, when we issued our third quarter results, is not only were we able to sustainably grow clinical capacity over the last 5 quarters ending in the third quarter and anticipate discussing the continued trend when we release results in February. But once the one-year retention or recruiting program expired, we didn't see any elevated turnover. That cultural wraparound became very sustainable. And in the third quarter of 2023, we were still able to add a net 157 team members without that recruiting and retention program in place. The second piece that's led us to sustainable census growth was our ability to really penetrate all the communities in which we're accessing, demand never waned during the pandemic. What we didn't have, as Kevin alluded to, were a sufficient amount of clinicians to meet that demand. And so back in end of '21, early '22, we really spent intentional time for all of our sales force and educators when we were out in the market honing in on servicing all 4 segments of the market, both hospital and then we have 3 nonhospital segments. And what that meant and translated to us through our community access initiative was our ability to continue to bring on patients but earlier in their disease trajectory, which had an incremental compounding effect for us growing our census at that time. And when we bring the 2 things together, as we sit here today or as we sat at the end of the third quarter, we illustrated 5 quarters of sequential ability to grow our clinical capacity, which has continued, and we'll talk about it when we release full year results and '24 guidance. And couple that with 4 quarters of strong census growth that in September of last year, we crossed the 19,000 milestone, which was around our high watermark prepandemic. And so when you put the 2 things together, that puts us in a position as we sit here today to feel really good about our ability to have predictable and sustainable, top and bottom line growth to our shareholders for the outlook of VITAS for all of '24. If I can spend 1 more minute since it's a health care conference to also talk about the industry in general, there's a few things that are important to note inside of the pandemic that starting in March of '20, as I said in the West Wing and they talked about the importance that they saw, that the COVID task force saw, the hospice community helping the country get through the pandemic. What it helped to illustrate was our ability as a country and as an industry to provide high-quality safe care at home. And there were some things as well in March of '23 from a research standpoint that have really helped to positively influence the policy outlook for hospice over time. So there was a study released in March of '23 by the University of Chicago, the North Institute. And what it helped to illustrate was the total cost of care reduction that the hospice benefit provides to the Medicare trust fund. And so in 2019, it was $3.5 billion of total cost of care reduction when we -- as an industry, we reimbursed $20 billion. The other important novel concept that helped to dispel some misperceptions and misunderstandings at a federal level was the longer patients on the hospice benefit, the greater that total cost of care reduction up to almost fourfold that number if we started getting patients to understand and access the benefit even 2 weeks earlier than they do today. So I bring all that up to say, as an industry, in '24, our total addressable market is about $35 billion. And they're all independent forecasts, it has hospice as the second highest growth rate through 2030 at an 8% growth rate. And that would make the TAM in 2030, a $65 billion industry. And when you combine that along with the fact that the industry helps solvency from a Medicare Trust Fund, but also improves quality to all the patients that access the benefit. We're really optimistic about where VITAS sits as a unique national platform in the outlook and the value that we can add both to our shareholders as well as to the country and the overall solvency of the Medicare Trust Fund on a go-forward basis. So really excited for where we sit, but it was a multiyear path that led us to this point, and we're really excited to talk about '24 and beyond. That's all.

Great. Thank you very much. At this point, we will open it up to any questions from the audience. We got a question over here on the right side. I think the microphone will be coming around.

Thank you. Nick, I really appreciate your comments about the possibility of benefits of hospice care. However, I see when I look at the headwinds facing VITAS here going forward, how are you looking at the Medicare Advantage carbon? We know it's coming. It's eventually going to get there for hospice care. And as everyone can tell, dealing with Medicare Advantage with the home health, it certainly doesn't lead to extended profitability for agencies and certainly, the hospice and as a national player with multiple MA programs all over the country. What are VITAS' plans? How are you going to deal with that? And what are you making -- what are your plans going forward for that?

Yes. No, I appreciate the question, [ Darren ]. Obviously, the question around the future of the carbon has continued to be one of the biggest questions for the overall industry. If it is a foregone conclusion that it happens, a lot of the current experience would really indicate the opposite of it. When you start thinking about some of the plans today that have come in and become owners of those hospice assets and either divested their interest in desiring to operate those or taken a minority interest, I think that will really determine if there is a speed, velocity and closure towards the carve-in ultimately happening. The carve-out right now, I would argue, really operates pretty effectively when you think about our little small sliver of the hospice benefit, right, being a pioneer of an industry in the early '80s, being arguably one of the first capitated value-based reimbursement models, and that's why it provides total cost of care reduction. With all that being said, if we're migrating to a future where there ultimately is a carbon, I think the one saving grace for any national provider is, it is a unique delivery model, right? There is something special about all the hospice providers out in the country, the mission-focused ones that are able to provide high quality of care. And it's not something that will be replicated inside of a boardroom. And so there aren't too many providers as well as platforms that could do it at the size and scale that these insurance companies ultimately need. And at the end of the day, they also see the quality as well as total cost of care reduction as indicated by direct dialogue that comes along with. And so the hope becomes as opposed to negotiating on a pricing and a rate standpoint, it's really -- we're talking about how do we help patients in a journey realize they need both prehospice community-based palliative care as well as hospice earlier in their disease trajectory and the components of that become very attractive to the business model over time. I think the only other comment using the VBID carve-in demonstration where [ year 2 ] results just came out recently over the last few weeks from one of the studies is, it's still granted there are pandemic potential disruptions embedded inside of it. But the [ year 2 ] experience really helped to further indicate that there has not been any material progress for those hospice providers who are caring for patients that are participating in the VBID plan. We haven't seen any substantial changes in outcomes and the total number of patients that access the benefit while inside of a carve-in Medicare plan was still less than 1% of the total patients that got cared for in '22, and 80% of the providers providing the care were out of network. And so I think it will take time like many things do in health care, while we may theorize and think about how great some of the upside is related to it. We're ready and able to ebb and flow based on how it plays out, but our primary focus is just continuing to further penetrate every market in which we operate in, and that should give us the best leverage we have if we get back to -- from a negotiation standpoint.

And I'd like just to add that to the extent you look at it and say, what they'll be driving factor for some change from the status quo? First of all, I don't assume. Generally the status quo of anything, it's going to last forever. But one of the things I look at is what we have under the current situation. The first we have is it's already capitated. I mean the federal government first and foremost, Medicare Advantage, let's capitate our exposure here. Hospice has always done that, and we've always -- already achieved that goal. The second thing and Nick alluded to it, goes to the issue of an element of any future countries' health care is going to be some type of rationing of care. I mean, the issue -- it's already happened in all the European countries. You just wait longer for a hip replacement. You can't see a doctor, they limit those options. Rationing of care in the United States is politically untenable, it's worrisome. When you start talking about ending the carve-out, you're talking about insurance companies basically convincing their patients to opt out of the curative setting, the so-called death panel risk. But -- which is something that is not in their interest. And to the extent that we say, what is the government trying to achieve? They're trying to achieve capitation and rationing. And in the current system and the status quo already achieves both those very important objectives. And Nick, his problem is he's looking to see any other advantage that could be so additive that they would upset the status quo and maybe create some uncertainty. I don't see it, but it's certainly a possibility.

Yes. I think the only other comment that tells us we're sitting in the right space, and we'll figure out where the ownership and where everything else ultimately ends up going with it is, when you take even the sub-delegated providers that are part of those Medicare Advantage plans, they have a very strong appetite and appreciation for the role hospice as well as a community-based palliative care benefit can play in terms of helping to manage total risk and that entire population. And as long as we're moving directionally in that way, sitting in the space, being a mature provider and having the clinicians and a culture that attracts more clinicians, we think provides a strategic advantage to continue to provide a real valuable service for the country and puts us in the best position to try to avoid some of the disruption that potentially could have happened like is currently going on for rate negotiations with home health.

And the one thing I'd add is, again, as an employee -- speaking as an employee or an investor, and/or investor in Chemed, what I think gives me some comfort with regard to the potential change in the status quo. It's one thing that they won, we don't have an advantage. That is the Medicare population is 65-plus. Hard to say that Florida isn't the most important state under any program that they would be providing service. And in Florida, VITAS is synonymous with hospice, very strong presence in every county in which we've been able to secure certificate of need. And we'll continue to secure more. But again, I guess, my point is there may be some situation where we're going to have to zig or zag, but we hold a key position in the key state for providing service to this Medicare population.

Great. Thank you. Are there any other questions? We got one in the back. I don't know if we can get the microphone back there.

In a -- thank you for the presentation today. In a carve-out world to shift back to that side of what we live in today. Can you provide some comments on the outlook for reimbursement rates relative to cost inflation and how you see that trending over time?