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Q3 2014 Earnings Call Transcript

Published: 7 Nov 2014

[Operator:]

Good afternoon, ladies and gentlemen, and welcome to the Alliance HealthCare Services Third Quarter 2014 Earnings Call. My name is Rick Johns, and I am the company's Executive Vice President and General Counsel. This conference is being recorded for rebroadcast and all lines have been placed on mute. As is customary, we will open the conference up for questions and answers after the presentation. This conference call will contain forward-looking statements, which are based on the company's current expectations, forecasts and assumptions, including statements related to our business strategy, growth opportunities, the impact of the Affordable Care Act, the 2014 Medicare fee schedule, our 2014 guidance, our expected capital expenditures for 2014, expected cost reductions and the company's effective tax rate. As most of you know, forward-looking statements involve risks and uncertainties, which could cause actual outcomes and results to differ materially from the company's expectations, forecasts and assumptions. These risks and uncertainties are described in the 2013 guidance release under the heading Forward-Looking Statements, as well as in the Risk Factors section of the company's Annual Report on Form 10-K for the year ended, December 31, 2013, as such report may be modified. The company disclaims any intention or obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. Financial and other statistical information presented on this conference call or information required by the SEC's Regulation G may be accessed through the Investor Relations section of the company's website. Please visit our website for replay information of this call. On today's call, our CEO, Tom Tomlinson, will provide a brief overview of our business, our third quarter 2014 results, the progress of our strategic transformation and growth strategy initiatives and our priorities for the remainder of 2014 and beyond. Our Chief Financial Officer, Howard Aihara, will follow with the details of the third quarter 2014 results and our 2014 guidance. With that, I will now turn the conference over to Tom. Tom, please go ahead.

[Tom Tomlinson:]

Thanks, Rick, and good afternoon, everyone. Welcome to Alliance's third quarter 2014 earnings call. We appreciate your time today. I am happy to report that our results for the third quarter of 2014 delivered organic growth for the second consecutive quarter this year. Revenues of approximately $110 million are up 90 basis points over the same quarter last year after adjusting for the sale of our Professional Radiology Services and the pruning of unprofitable accounts in our radiology division. Overall we're pleased with our continued progress in transforming Alliance as a outsourced partner of choice for hospitals, health systems and providers. We continue to experience markedly different results in our two lines of business. Driven by revenues from our MUSC partnership and strong same-store growth, Alliance Oncology again delivered double-digit revenue growth, up 19% when compared to the prior year. Alliance Radiology revenues trailed prior year by 3% primarily due to radiology benefit management or RBM pressures reducing volume in PET/CT and some increased price pressure in MRI. Fortunately, we've begun to gain traction with some growth initiatives in our radiology business, which partially offset these challenges in the current period. I'll particularly note, we delivered strong same center store growth in MRI and are seeing good results in our initial RAD360 partnerships. For many companies in the healthcare sector, 2014 has proven to be a challenging year, as healthcare providers navigate a rapidly evolving industry landscape. Amidst this change, some trends are coming clear. First, more care is being delivered through hospital-affiliated care networks. Second, ongoing pressure on reimbursement rates is creating a strong drive to increase efficiency and lower costs. Third, payer coverage restrictions are impacting patterns of care. And finally, we're seeing an increase in covered lives resulting from the Affordable Care Act. The investments we're making to drive our ongoing transformation position us to offer the deep service line expertise, efficiency and clinical resources that hospitals are seeking to help them navigate the competitive challenges they face. Our value proposition in both divisions enable our hospital customers to expand their clinical service offerings, grow volumes through increased market share and become more efficient in delivering healthcare services. A great example of the compelling value proposition that we deliver to our hospital partners can be seen in the same-store volume increases we delivered in both our Oncology and Radiology divisions during the third quarter. Keep in mind that approximately 80% of our revenues are generated via hospital-affiliated operations. So our success also drives success for our hospital partners. In Oncology, our same-store volumes grew 9% for stereotactic radiosurgery or SRS and 3% in the Linear Accelerator business. In Radiology, overall MRI same-store volumes were up 6% in the third quarter. And while PET/CT same-store volumes continue to be under pressure from payer and RBM actions, our trends compare favorably with what we see in the industry overall. We're also strongly encouraged by the significant same-store performance at the two RAD360 multimodality joint venture sites we added in Q2 where overall site volume increased 26% since inception. We commenced operations at both sites last quarter as part of a single market joint venture with a large for-profit hospital system and in short order have delivered double-digit volume growth across all modalities. This is a compelling demonstration of our RAD360 strategy, tools and investments that are having a significant impact on our ability to move market share and generate volume growth for our partners. During our previous earnings calls, we've talked about our strategy to expand Alliance into attractive high-growth adjacent space segments of the healthcare services industry. Interventional radiology and pain management is one of those areas. And I'm excited to report that earlier this week, we entered into a letter of intent to partner with a leading interventional radiology and pain management practice. This investment will serve as a platform for growth going forward. We have a dedicated business development effort in this strategy and in the last several months have built a strong pipeline of additional growth opportunities. A number of these opportunities are with existing hospital customers who are already providing diagnostic radiology services. As we continue to move forward with the interventional radiology and pain management space, we'll be providing further details on this initial investment. We're keenly focused on building upon the success of the projects in Alliance Oncology and Alliance Radiology and replicating these results in other markets and with other customers. Our pipeline of opportunities and sales activities are tracking well and we anticipate announcing additional joint venture opportunities in both divisions in the coming quarters. We remain confident that our strategy to transform Alliance remains on track. And despite the industry changes and price pressures we're all grappling with in healthcare, our growth strategy, our service line expertise, ability to leverage best practices in order to drive operational efficiencies has positioned us to benefit from the opportunities present within the challenging marketplace. Our third quarter adjusted EBITDA results of $35 million represent a decline from prior year, primarily due to a one-time gain of about $1.1 million in the prior year resulting from the renegotiation of an OEM service contract and some higher repair and maintenance cost in the current year. Now more specifically in Radiology, I mentioned earlier that the third quarter revenue results in Alliance Radiology were down after adjusting for the sale of our Professional Radiology Services business, and we'll talk more about the reasons we're seeing this softening. Last quarter, we mentioned the challenging dynamics present in the PET/CT marketplace. This quarter, we experienced a continuation of payer coverage tightening and RBM utilization management, shifting overall PET/CT volumes down 7%. Now while we're disappointed with this result, when we look at overall market trends in FDG production, which is the radioactive tracer used in PET/CT scans, we're confident that we're holding or even gaining market share. Now as we look to the future, we expect to reestablish same-store growth in PET/CT from this new industry baseline. We also continue to price pressure in the MRI market shifting average price per MRI scan down 4% as hospitals look to save costs. Focusing on and leveraging our Alliance RAD360 program is just one of the ways we're looking to offset these downward pressures and achieve long-term growth in Alliance Radiology. As a reminder, RAD360 is our comprehensive radiology service line offering that employs the proprietary diagnostic tool that assesses several key areas and market factors to diagnose and deliver growth for a hospital in their radiology service line. RAD360 helps hospital partners leverage best practices and strategies to excel in key areas, including scheduling, operational management, building patient care, satisfaction, service quality, reimbursement and payer contracting. We're most encouraged by the double-digit growth we're seeing at a number of our RAD360 multimodality joint venture sites. This is the RAD360 model of outsourcing and partnership solutions we're looking to replicate in additional markets with this first customer and in other markets with other customers. In pursuit of this, our planned RAD360 investments of $5 million in 2014 are tracking in line with expectations and we continue to gain traction with the growing robust pipeline of business development opportunities. Another way we're nurturing growth is by increasing our competitive intensity in the core radiology business. Part of this effort includes focused improvements in our physician-facing sales and marketing efforts, which as evidenced by our MRI same-store volume growth for this second straight quarter is lifting volume at existing sites. In pursuit of this, we have developed a plan to strategically invest in our equipment to ensure we're providing high-quality services and maintaining competitive technology. We've also added new sales leadership focused on the hospital segment with efforts targeted both at retaining existing and acquiring new customers. This new leadership brings core hospital sales and disciplined sales cycle management expertise, and it's allowed us to rapidly grow our pipeline of business development opportunities and to optimize our sales cycle. The combination of this new hospital-focused sales leadership leveraging our differential advantages such as RAD360 and related services and the OnPoint data analytics technology offering we acquired in Q2 of this year has led this quarter to 14 new customer contracts. It's important to note that these combined efforts are not only driving a transformation phase we've been talking about in ushering in for Alliance Radiology will also be a key part to us moving into the traction phase of our long-term growth. In our Oncology business, third quarter revenues grew by 19% when compared to the prior-year period. Driving this growth is a combination of revenues from our new partnership with the Medical University of South Carolina or MUSC and very strong same-store performance. As I mentioned earlier, our Linac centers delivered same-store volume growth of 3% and our SRS centers generated growth of 9%. These strong same-store results are the result of our emphasis on clinical excellence, patient service quality and a highly effective marketing and referring physician education program. Our new partnership with MUSC initiated on March 1st of this year continues to track ahead of expectations operationally and financially. The support of the MUSC partnership is seeing the benefits of technology investments made since the inception of our program, including the installation of the first Varian TrueBeam STx where we began treating patients in mid-August and reloading the Cobalt radiation source for the Gamma Knife. Looking forward, I'm pleased to report that we're tracking in line with expectations for the installation of a second TrueBeam at a more pleasant location in the fourth quarter and we anticipate that we'll be treating the first patients with this upgraded equipment in mid-January. These technology investments are critical to expanding MUSC's stereotactic body radiosurgery program and will help to drive our ability to expand service offerings and further growth in 2015. In the third quarter, we also entered into a new three-way partnership with the Charleston Area Medical Center or CAMC and Charleston Radiation Therapy Consultants or CRTC to establish a new radiation therapy department in cancer program at the CAMC cancer center. In creating this transaction, Alliance is acquiring a majority interest in the existing radiation therapy center owned by CRTC and bringing all three parties into a single joint venture. The existing cancer center currently sees more patients than any other cancer center in the state with more than 20,000 patient visits and over 9,000 chemotherapy treatments last year. As the managing and majority partner with a 50% ownership stake, Alliance Oncology will assume full operational responsibility for the existing radiation oncology units at multiple locations in Charleston, West Virginia as soon as we receive final CON approval. Now I had planned to say that we expect to get that approval any day now. I would tell you I'm pleased to report that we actually received the needed CON approval earlier today. You'll see another announcement come out in a couple of days providing a little bit more detail on this transaction. We're also leading the development and construction of the new radiation oncology department at the new cancer center located across the street from the existing facility, indicative of Alliance Oncology's ability to rapidly deploy and operationalize cancer centers, bringing cutting-edge programs to life. The building and land purchased 10 years ago by CAMC is now expected to open and begin treating patients in early 2015. The new cancer center will offer new state-of-the-art comprehensive cancer care services including medical and radiation oncology treatments, radiosurgery through brain and body, mammography, ultrasound and other cancer support services. We expect the new radiation therapy units to be installed by mid-summer of 2015. First year revenues from the new radiation therapy department at the CAMC cancer center are expected to yield Alliance approximately $10 million in annual revenues. Similar to our investments in Alliance Radiology, we've also added business development resources in Alliance Oncology to build our pipeline of opportunities and accelerate revenue and earnings growth. And as a result of these planned investments, we were able to focus the resources needed to close the CAMC transaction, taking it from letter of intent to final documents in less than 11 months. Due to the complexities inherent in the hospital and physician joint ventures, these transaction cycles traditionally have taken 18 months or longer to finalize. Also in the third quarter, we finalized negotiations on a new partnership in the northeast with a large for-profit hospital operator. We'll provide more information on this transaction as we progress towards opening next year. Our pipeline of growth opportunities continues to be robust and we're anticipating 2015 to be another strong growth year for Alliance Oncology. Ultimately, our track record of rapid deployment along with our success in developing and executing sales and marketing strategies that maximize share capture, driving efficiency through operational expertise and leveraging a national network of clinical excellence to rapidly expand treatments into new disease states are critical competitive advantages that we bring to hospitals through Alliance Oncology. We believe the investments we've made to transform Alliance Oncology into the full-service comprehensive oncology partner that we are today is just beginning to reap rewards. Our year-to-date results show that we're continuing to see growth in oncology at a pace north of 20% annually. And based on our pipeline of opportunities, we expect to continue on this growth trajectory in 2015. We feel we've got the right components in place and are focusing on increasing our execution and intensity to deliver more long-term strategic partnerships like MUSC and CAMC. In summary, we believe our growth strategy and efforts to transform our business across both divisions is really starting to take hold. We're developing new hospital partnerships in key markets, driving same-center volume growth across modalities and increasing our sales and business development activity in both divisions. Today, the value we bring our hospital partners has never been more clear. With double-digit volume growth and market share gains at our first two RAD360 joint venture sites, operations and financial results ahead of expectations on MUSC and rapid deployment on the new construction at CAMC, we're confident that we'll continue to deliver growth and long-term value to both our hospital partners and our shareholders. Now I'll hand the call over to Howard to provide additional details on our financial results for the quarter.

[Howard Aihara:]

Thanks, Tom, and good afternoon. Today I'll review the highlights of our third quarter 2014 financial performance, discuss the impact of the final 2015 CMSB schedule, which are not significant to Alliance, and outline our tightened full year 2014 guidance ranges. Following the highlights from Q3, revenue totaled $110.1 million in this year's third quarter. After adjusting for the sale of our professional radiology services business line in December of 2013 and to a much lesser degree some pruning in Alliance Radiology totaling $4.3 million in the aggregate, we posted Q3 organic revenue growth of 00 basis points over last year's third quarter. Alliance Oncology revenue continued to grow, primarily driven by a combination of strong same-store volumes across both stereotactic radiosurgery and Linear Accelerator and our new MUSC strategic partnership, which started in March. Alliance Oncology revenue totaled $23.6 million in the quarter, 19% increase over Q3 of last year. Our Oncology division now represents 21% of our total revenue. Oncology same-store results continue to trend favorably. Same-store volume growth for stereotactic radiosurgery was up 9.1% and for Linear Accelerator was up 2.6% in this quarter. Alliance Radiology revenue totaled $86.6 million in the third quarter and after adjusting for the sales of professional radiology services business in Q4 2013 represented a 3% decrease over Q3 of last year. This was primarily driven by scan volume pressure in our PET/CT business, as payers' updated policies require CTs and other less expensive diagnostic tests, continued pressure from radiology benefit managers in PET/CT and pricing pressure in MRI, as Tom mentioned. In the third quarter on a same-store basis, radiology MRI volumes were a positive 5.9% and PET/CT volumes were a negative 1.9%. This continued positive same-store volume trend for MRI is related to both our increased marketing efforts for the referring physician community as well as a positive impact for patients that are now insured through the ACA. Third quarter adjusted EBITDA was $35 million and totaled almost $105 million for the first nine months of 2014. In the third of this year, we invested $1.2 million to build our sales, business development and marketing capabilities in our Alliance RAD360 program and have invested $3.8 million year-to-date. In addition, we recorded $1.1 million of an expense reduction in last year's Q3 related to OEM service contract renegotiation. In terms of our bottomline profitability, pro forma diluted EPS was a profit of $0.52 in the third quarter 2014 compared to $0.41 in last year's third quarter. As reported, GAAP diluted EPS for the third quarter was a profit of $0.37 compared to a loss of $0.19 a year ago. Included in the as-reported diluted EPS was a $0.15 charge in the third quarter of 2014 and a $0.60 charge in the third quarter of 2013 due to the following items

[Operator:]

(Operator Instructions) Your first question is from Brooks O'Neil with Dougherty & Company.

[Brooks O'Neil:]

I had a couple of questions on oncology first. More specifically, I'm just curious, obviously you're having good success with these new partnerships. My understanding is the big opportunity in the United States oncology market is with replacement systems as opposed to new bunkers. Do you see big opportunities for Alliance to participate in hospitals replacing existing machines with the machines and upgrading their capabilities in that regard?

[Tom Tomlinson:]

It's a good perspective to have, certainly one we share. We recently got some updated data from IMV, which is an independent market research related to future expectations for replacement of radiation therapy equipment. And that research would indicate that there is clearly somewhere north of 700 specific sites where radiation therapy is current being delivered that based on the survey work are likely to be upgraded over the next several years. And we think that's our highest priority target market. If you look at the dynamics behind the MUSC transaction and then the West Virginia transaction we just announced, a lot of those kinds of transactions really come out of the hospital evaluating or current provider evaluating their current radiation therapy service, looking at it and understanding that they have a need to upgrade the equipment so that they can treat some additional disease states. And as they look at that, they are also looking at how can we take this service line and how can we significantly improve our ability to drive revenue at these sites, so that those upgrades of equipment become economically viable, how do they have more efficient operations, how do they quickly adopt best practices with their radiation oncologists and physicists and other staff. And they've come to realize that partnering with Alliance, given our national network of resources of physicians that we work with, is a great way for them to partner with someone that can help upgrade that equipment and bring dramatically better performance and do it very, very quickly. And so we certainly are very excited about the opportunity of over 700 sites to go after, and we think we can convert quite a number of those to new opportunities.

[Brooks O'Neil:]

I was listening to [ph] Ovarian presentation, I think it was just yesterday, and they said the average age of systems in the United States is over 10 years right now. So clearly, there's been a lot of technological innovation among the radiation oncology equipment vendors and the SRS opportunity you mentioned is enormous. Isn't it a great opportunity for you guys?

[Tom Tomlinson:]

I appreciate the comments. We're certainly excited about it.

[Brooks O'Neil:]

Secondly, I now you said you'll provide additional details down the road about interventional radiology and the pain management opportunity. But is there anything more in terms of color you can talk about the overall opportunity you see in those areas and what approach you think you might take to attacking those opportunities going forward?

[Tom Tomlinson:]

There's probably a couple of things we would be comfortable sharing. Overall, we think it's a very large, very fragmented market, well north of $8 billion of opportunities based out there for us to pursue. Highly fragmented, there is no single large provider in that space. It's an area where procedures have been evolving out of hospitals and into an outpatient arena at a pretty good clip over the last 10 years. And we think that fits well with our expertise in running clinical services. And the last point I would make is that given our positioning and our existing relationships with the 1,000 hospitals, every one of those hospitals that we're engaged with in diagnostic radiology, when you talk about radiology, part and parcel of what you're talking about with them from their perspective is not just diagnostic radiology, it's interventional radiology. And so in every one of those relationships, we can bring not only a diagnostic radiology solution, but also an interventional radiology solution. And so our first couple of investments, including the one that we recently signed a letter of intent with, we're really looking to bring onboard together with us a platform investment with some extraordinary talented physicians that will be our partners that can bring us the clinical expertise that we can match up with our operational and marketplace expertise and bring that as a solution set to hospitals and to other markets and grow that business quite aggressively. So we think it's a tremendous opportunity.

[Operator:]

Your next question is from (inaudible).

[Unidentified Analyst:]

I just had a couple of questions on the expansion and is it difficult to get the employees? Are you picking them up from the hospitals? What's the reason behind the reduction in the upside and the revenue and EBITDA projections for the year? What causes that?

[Tom Tomlinson:]

As it relates to finding the talented people we can add to our team as we continue to grow the business, we're fortunate that we've got a really capable HR team that is actually quite good at recruiting the people that we need to come join our team. As a healthcare provider, one of the things that's really critical is that you have to have a culture that's a really high touch culture, because what the vast majority of the team members do here is provide care to patients every day. And so having an HR team that's really aligned with our values as a care provider is really critical to our long-term success. And we're fortunate that we've got a great team that does that and does it very well every day. So we have not found it uniquely difficult to find the right team members as we grow. Certainly it's something we work at very hard, but I don't think it's an inhibitor to growth at all.

[Howard Aihara:]

To answer your second question about the reduction or the tightening of our guidance ranges, the issues are we had several growth projects that were actually pushed into 2015. An example of this is the San Francisco CyberKnife project that's been on the board. And we actually received approval, but it takes quite a while to get the California state to grant and give us all the construction approvals to move forward. So that project has moved into really 2015. That's an example of a growth project that was supposed to start in 2014 and just got delayed. Also we have a couple of RAD360 projects that looks like they're going to get started early in 2015 as well rather than in 2014. So some of our growth projects just got pushed to next year, and that's what's the reason for the tightening of the revenue and adjusted EBITDA guidance ranges.

[Unidentified Analyst:]

From the presentation, that seemed like quite a few opportunities that you're setting up for 2015. When do you normally give guidance on 2015? Is that in February when you release your year-end numbers?

[Tom Tomlinson:]

Yes, Mark, we will plan on giving our 2015 guidance along with our fourth quarter and full year 2014 results. Typically that happens around the first week of March.

[Operator:]

If there are no further questions, I will now conclude this conference call.

[Tom Tomlinson:]

Well, everyone, thank you for joining our call today. We'll look forward to talking to you again in March when we'll give you an update on how we did for the full year and some guidance for the coming year, as Howard mentioned. So thanks again for your time today.

[Operator:]

Ladies and gentlemen, this concludes the Alliance HealthCare Services conference call for today. I thank all of you for participating and have a nice day. All parties may disconnect now.