CRH Medical Corp
Q4 2017 Earnings Call Transcript

Published: 7 Mar 2018

[Operator:]

Welcome to the CRH Medical, Fourth Quarter and Full Year 2017 Results Conference Call. As a reminder, all participants are in listen-only mode and the conference is being recorded. [Operator Instructions]. I would now like to turn the conference over to Ms. Kettina Cordero, Director Investor Relations. Please go ahead.

[Kettina Cordero:]

Thank you, operator and good morning everyone. I'm joined today by our CEO, Edward Wright; our CFO, Richard Bear; and President of CRH Anesthesia, Jay Kreger. Before we start, I would like to remind everyone that certain statements you will hear today constitute forward-looking statements within the meaning of applicable securities laws. For important assumptions, definitions and cautionary statements about forward-looking information and the risks inherent to our business, please refer to the cautionary notes in our financial report for the quarter ended December 31, 2017 and the Risk Factors section in our most recent annual information form. During this call we will discuss non-IFRS measures as indicators of our performance. You can refer to our management's disclosure and analysis for the quarter and year ended December 31, 2017 for reconciliations of non-IFRS measures to reported IFRS measures. These documents are available on SEDAR and on the Investors section of our website. In addition, please note that we use the abbreviation GI to refer to gastroenterology. Finally, please be advised that our reporting and functional currency is the U.S. dollar and that all dollar figures referenced today are in U.S. dollars. Now I’ll leave you with Edward Wright.

[Edward Wright:]

Thank you, Kettina. Yesterday we announced strong results for the fourth quarter and the year ended 2017. Both our Anesthesia business and our product business grew significantly. In 2017 our Anesthesia revenue grew by 31%. This is due in part to the six acquisitions we completed throughout the year and organic growth in patient cases. Our O'Regan business grew by 9% in 2017. The relationships with gastroenterologist who adopted the O'Regan System continues to be a strong conduit for our Anesthesia acquisition pipeline. Given our customer relationships throughout the lower 48 states, we believe that this provides fertile ground for further Anesthesia expansion. Last year we completed six Anesthesia acquisitions and invested over $33 million. We expect to continue investing in Anesthesia acquisitions in 2018 at a similar rate to that of 2016 and 2017. We will continue to finance our growth through our free cash flow and our credit facility. Last year we expanded our credit facility from $55 million to $100 million. At December 31, 2017 we had an excess of $38 million available on our credit facility. This combined with our free cash flow will provide ample funds to execute on our growth strategy. I will now turn it over to Richard for his commentary.

[Richard Bear:]

Thank you, Edward. I'd like to start by reminding everyone that in accordance with International Financial Reporting Standards also known as IFRS, we report consolidated financial statements, which means that our financial statements include those of the subsidiaries in which we hold a controlling interest such as the anesthesia practices that we own or in which we hold a majority interest. This practice is in keeping with current accounting standards. During the fourth quarter of 2017 we reported total revenue of $32.3 million and for the year ending December 31, 2017 we reported revenue of $100.2 million. During the fourth quarter of 2017 our anesthesia revenue grew 27% to $29.2 million. For the year ended December 31, 2017 Anesthesia revenue grew 31% to $88.7 million. During the fourth quarter of 2017 the percentage of commercial patient cases increased to 66% of total cases. For the year ending December 31, 2017 commercial patient cases represented 63% of the total Anesthesia case. Average revenue per case for the fourth quarter was $452, 11.5% lower than in the fourth quarter of compared to 2016. Average revenue per case for the year ended December 31, 2017 was $440, 8.5% lower than when compared to 2016. These decreases are due to the changes in commercial payor mix to GAA and changes to reach within our commercial payers at practices acquired prior to 2017. During the fourth quarter of 2017 we serviced 64,684 patient cases, 44% more than in the same period of 2016. For the year ending December 31, 2017 we serviced a total of 201,578 patient cases, 43% more than in 2016. Sales of our O’Regan System during the fourth quarter were $3.1 million, 9% higher than the same period of 2016. For the year ending December 31, 2017 our O’Regan System sales were $11.5 million, also 9% higher than last year. Total adjusted operating EBITDA for the fourth quarter of 2017 was $17 million, representing 53% of total revenue. Adjusted operating EBITDA attributable to our shareholders was $11.5 million. Total adjusted operating EBITDA for the year ending December 31, 2017 was $49 million representing 49% of total revenue and for the year ending December 31, 2017 adjusted operating EBITDA attributable to our shareholders was $34.3 million. In 2017 we generated $22.6 million in free cash flow. We define free cash flow as cash provided by operation, less payments made for interest and other finance expenses, less distributions for non-controlling interest. At December 31, 2017 we had $12.5 million in cash and $20.1 million in working capital. In addition, we had $38.4 million available on our credit facility to fund future growth. Looking forward to 2018 the company expects revenue from anesthesia services for the acquisitions completed through December 31, 2017 to be negatively impacted by the November 2, 2017 CMS final rule and changes in the per unit reimbursements received from our commercial payers as we enter into contracts for our required entities. The CMS final rule will impact our revenue per case by an estimated 12% and the contracting worth commercial payers in expected to impact our revenue per cash by an additional 5%. We expect these negative impacts to Anesthesia revenue to be offset through organic growth in patient cases and the successful implementation of our growth strategy. With that, I will leave you with Jay for his update.

[Jay Kreger:]

Thank you, Richard. As Edward stated earlier, we were active on the acquisition front last year. CRH Anesthesia is now present in seven states, providing Anesthesia at 35 facilities on behalf of 15 GI Anesthesia practices with approximately 235,000 patient visits annually. These totals do not include those facilities which are Denovo opportunities. This would include our monitoring Anesthesia care program with Puget Sound Gastroenterology in Washington State. This macro grant is on track and we still expect to exercise our options in mid-2018. We focus most of our attention in the fourth quarter of 2017 on the integration of the four acquisitions we announced in August and September. I’m proud to say that they are all firmly operating on CRH platform. This platform which includes our experienced management team is scalable in order to support best practices in revenue cycle, quality and efficiency and is solidifying our place as the GI Anesthesia partner of choice. Our business development team continues to work closely with our O’Regan team in order to further grow our acquisition pipeline and uncover more opportunities in 2018 and beyond. Again, as Edward stated we are very optimistic that we will continue our spending pace this year as in the past. I’m pleased that our financial and operational resources are adequate to support this case and so I look forward to updating you on our progress in the coming months. I will now leave you back with Edward for his closing remarks.

[Edward Wright:]

Thanks Jay. We are very pleased with our 2017 operating and financial results and we will look forward to reporting our 2018 first quarter results in approximately 90 days. And with that, I’ll turn the call back to the operator and open the call for question. Thank you.

[Operator:]

Thank you. [Operator Instructions]. And the first question is from Lennox Gibbs with TD Securities. Please go ahead.

[Lennox Gibbs:]

Good morning. Thank you. Given the incremental 5% cut discussed in the updated guidance, I just would like to circle back under migration that’s taken place in your book towards the in network, hoping to better understand that risk going forward. So what is the pricing differential between in network and out of network? That’s the first quarter. And the second one is, what percentage of your book I currently out of contract and where would you expect that percentage to drop to by year end, assuming no further acquisitions.

[Edward Wright:]

Okay, so. Yes so the term – I mean I think it’s best to use the term contracted and not contracted, because even if we are not contracted we are utilizing that provision, so patients are treated if they are in network, not out of network. As we acquire properties, as we acquire entities we structure those as new codes and despite – so we can take over the billing. We have limited legal liability on an old entity and that we can affect our revenue cycle management strategies. So at the beginning of each acquisition and for several months, possibly quarters we are kind of migrating from that as a contract – from an unconstructed to a contracted state and it’s really a continual process. So you could say that in 2017, probably a lot of the 2015s are wrapped up. In 2018 a lot of the 2016 will be wrapped up. In 2019 a lot of 2017 will be wrapped up. But its dynamic and it depends a lot on the market, our GI partners and there is really – it’s hard to put a consistent timeframe on that.

[Lennox Gibbs:]

Okay, but still wondering with respect to the price differential and also a sense as to whether the book currently stands with respect to what percentage would you say continues to be out of contract at this point and where would expect to exit the year?

[Edward Wright:]

We don’t provide the breakup between what’s uncontracted and contracted at any given point. I think the guidance that we’ve provided with the 12% cut in CMS, an additional 5% cut as an impact on the commercial contracting will put us in a pretty strong position by the end of 2017 for all the acquisitions completed, basically up through 2016, leaving 2018 to finalize some of the 2017 contract changes.

[Lennox Gibbs:]

Okay, fair enough. Now with respect to the fourth quarter numbers, any sense as to the contribution from patients who are originally booked in the third quarter and would have been differed as a result of hurricane Irma, I believe it was.

[Edward Wright:]

Yeah, I mean it would be marginal, it would be marginal. With the size that we are at now, I mean when we look at things like the weather on the East Coast today or a strong flu season, those might have an impact week-to-week, month-to-month. But I think as we learned with the hurricane that people are going to come in, it’s not that we are losing cases. It’s just the cases are being moved from one period the next. But when we do it in excess of 240,000 cases a year, these regional differences really don’t – won’t have an effect on our quarterly results.

[Lennox Gibbs:]

Good. Thanks very much.

[Edward Wright:]

You’re welcome.

[Operator:]

The next question is from Richard Close with Canaccord Genuity. Please go ahead.

[Richard Close:]

Yeah, great. Congratulations on a strong end to the year. Just maybe a follow-on onto that last question there. With respect to the strength in the quarter, obviously new number of cases was well above what we were forecasting. Can you give any granularity in terms of where you guys saw the strength, you know how are they compared to your internal projections, anything that stands out with respect to the strong demand in the quarter.

[Richard Bear:]

Yeah, I think we can attribute the strong demand Richard to that on the commercial side. I mean we had weakness in commercial as a percentage of total in Q2 and Q3 that we discussed a lot on those calls and we hoped that commercial would increase in Q4, but I think if you look at our transcripts, we did not – we weren’t saying it’s going to all come back. But based on our commercial mix for Q4 and how it impacted the year-to-date, it appears that a lot of the growth that we had in patient cases all came from commercial and that must be due to the construct of the insurance plans. I think propelled not only the number of patient cases, but also had a significant impact on the revenue per case, total revenue and EBITDA for the quarter as well.

[Richard Close:]

And then, I know you guys don’t give guidance really, but just you know thoughts on last year you just mentioned the second and third quarter. [Inaudible] that dynamic I think really across the entire US Healthcare Services sector in terms of people scratching their heads on the low volumes and you know we are two months into 2018. Did you see a big drop off in January, February? Is this going to be just a total back end loaded type of situation again this year?

[Edward Wright:]

Yeah, I mean I think look – if we look back historically on our seasonality, we’ve always seen more patient cases in Q3, excuse me Q4 than in Q1. So I think if you look at page 13 of our MD&A, we are seeing you know around 24% – 23.8% of the cases being Q1, 24.4% in Q2, 24.9% in Q3 and 26.9% in Q4. So it’s going to be weighted heavily, it’s going to be weighted more heavily in Q4, but I don’t think that those percentages show that one quarter is going be way high and one quarter is going to be way low.

[Richard Close:]

Okay, and going back to the 5% cut that you’re stating on the commercial side, you also had some, I guess write-down of intangibles. I guess that’s associated with GAA. On the 5% cut first, is that across the entire book or is that maybe more focused in on GAA and then if you could talk about the write-down that you had and I guess financing come recovery, you know what that…

[Richard Bear:]

So the 5% cap would be driven more on recent acquisitions than older acquisitions that would have a higher percentage of payers contracted. But the 5% we gave is just an overall impact to the business, just to keep it simple for the readers on the financials. In terms of the write-down, so when we did the acquisition of GAA in December 2014. As you recall, it was a $73.2 million acquisition, $58 million paid up-front, $14.6 million differed, and that $14.6 differed is something that we revalue each period based on our forecast. The measurement date for that $14.6 million ends May 31, 2019. So as of now we have significant clarity with payor mix changes, the rate changes and with the CMS cut to determine what that expected payout is going to be and now we have it set in our books at about $1.875 million. So that resulted in about a $11 million recovery recorded as finance income per IFRS on our financial statements. With that change we also looked at you know if there is any impairment of the GAA asset. So we have to compare the carrying value of the GAA intangible to the discounted future cash flows and that resulted in a $6.6 million impairment charge, which you would expect if you are not going to payout a large chunk of that $14.6 million. That impacts operating income – negatively impacts operating income on the face of the financials and net income, but is offset, more than offset by the $10 million recovery to finance income that just impacts net income.

[Richard Close:]

And finally on this point, would you have to look at you know any other acquisitions in terms of similar changes or revaluations? Obviously GAA was the platform to get into Anesthesia services and most of the other ones have been smaller, but any just sense there.

[Edward Wright:]

We’ve looked at all of them. And you know we looked at all of them and really because that one we acquired and just took over versus all the other ones where we have basically taken over their billing and putting them on our new platform and get the enhancement of our revenue cycle management. We don’t have any impairment issues with any of the other entities based on the analysis that we performed at December, 31.

[Richard Close:]

Okay, great, I’ll just back into the queue. Let some other people ask questions here.

[Edward Wright:]

Thank you, Richard.

[Operator:]

The next question is from Noel Atkinson with Clarus Securities. Please go ahead.

[Noel Atkinson:]

Hi, good morning, thanks for taking my call. Just one more question here on this, the in-contract out of contract. What is your internal target for the proportion of commercial cases that you served that have in-contract coverage?

[Richard Bear:]

We do have a number of major players. So the major players would be Cigna, Humana, Blue Cross, United, EDNA. So those would really be the five major players. There is a lot of smaller – then there is a lot of other – then there is a lot of players, but they don’t account for a whole lot individually, but could add up to be 10% or 15% of the total market. So our strategy is to work with or GI partners to establish contracting criteria for the big players, those top five that I mentioned, and then as we look at all others which are really could be a basket of 20 or more different providers, those just never will make sense to contract with. So we’ll never be fully contracted, the percentage that we are not contracted with will vary market to market just based on their payor mix.

[Noel Atkinson:]

Okay. Can you give us some sense of, I don’t think it’s in the MDA, what your same store organic sales growth was for the portfolio that was owned for all of 2017?

[Richard Bear:]

Yeah, no a fair question. We provided guidance outlook of 3% to 5% organic growth for entities acquired prior to 2017 and I would say that we achieved somewhere right in that range and we would provide similar guidance for 2018.

[Noel Atkinson:]

Okay, great. Are you undertaking any cost saving initiatives for 2018 within the Anesthesia group?

[Richard Bear:]

Yeah, I mean we are looking at all areas. We are carefully examining all areas to maximize the efficiency of our providers. Our number cost in Anesthesia is going to be our CRNA providers that are working side by side with the GI’s doing cases at each of the 35 ASCs that we service and we are looking at how they do their job, we are looking at how well we are staffed, how efficiently we are staffed, where we can assist the GIs in becoming more efficient, because when we see so many different ASCs there’s best practices that we can provide. I would expect that we will have some incremental improvements or some incremental savings in cost, but I wouldn’t say it’s anything material enough that I would talk about on the call.

[Jay Kreger:]

This is Jay. I would just remind you that as we talked about last quarter, what we pay and how we pay our providers, its very market specific, geography dictates; we’ve got many type markets. So the ability to change pay structures is somewhat limited. But to Richards point, we are looking at data in an effort to be more efficient with how we staff and we schedule as opposed to payment methodologies.

[Noel Atkinson:]

Okay. And then just lastly here before I get back in the queue; are any of the ASCs your units’ sort of planning any expansions, new centers, significant expansions for 2018?

[Edward Wright:]

They are. There is somewhat of a consolidation going on across all ASCs, across the country and so there is always that possibility and I think any of the groups out there that have ASCs, if they are not growing, then they are probably going backwards and we are very fortunate to be partnered with groups that are growing.

[Richard Bear:]

As an example, I mean the Knoxville group that we partnered with in 2015, in 2017 they opened up a facility that would probably increase capacity by more than 50%. One of the groups in Texas, over the next 12 months to 18 months we’re going to open up an additional center in Atlanta. Additional centers are also being planned. So when we do try to partner with the strong players in each market and larger players and larger players, some will think you know don’t need to add centers, but it’s a large player that actually have the intelligence and wherewithal and desire to grow, so they actually get bigger and bigger.

[Noel Atkinson:]

Okay, great. Alright, thank you very much.

[Operator:]

The next question is from David Martin with Bloom Burton. Please go ahead.

[David Martin:]

Good morning. I just had a few questions. The first one related just to the last question. The 4% growth or 3% to 5% growth, does that include the opening of new ASCs by your existing clients or would that be an addition to the 4%.

[Richard Bear:]

No, that would include the new ASCs as well.

[David Martin:]

Okay. Back to the 5% addition revenue per procedure impact you know coming from the commercial slide, is that all because of transitioning from uncontracted to contract or is there still same payer mix changes that you expecting or even some reimbursement cuts beyond unit cuts to the codes, even with already contracted payers.

[Edward Wright:]

Yeah, no. So I’ll address those and try to address those in order. So in terms of no payer mix, not expecting any payer mix changes. As we said last year, the payer mix changes that we experienced in 2017 and 2016 were primary due to a single payer in GAA and the percentage of cases we get from that payer currently is much lower than it was in 2016 and 2015, so we don’t expect any changes in revenue per case associated with payer mix changes. It’s also not related to any changes of relationships that we have with commercial payers that are contacted. We don’t expect any of those to decease. This would all be really the migration of the entering of contacts into – entering into contacts from those properties that were recently acquired.

[David Martin:]

So if you were to make no further acquisitions, once we exited 2018 you would expect your revenue per case to be stable going forward?

[Edward Wright:]

Yeah, all things being equal.

[David Martin:]

Okay, next question. So you’ve written out further GAA and reduced even on with the future earn out liability. How prescribed is that earn out amount and could a different interpretation lead to a situation on which you still pay full amount?

[Richard Bear:]

Yeah, I mean there is at the end of May 2019, there is a reconciliation process. We provide our numbers to the seller and the seller has the ability to audit our numbers. Its revenue less expenses. There is a not lot of – its not very sophisticated and we spend a lot of time analyzing it and our auditors spend a lot of time auditing it. So I wouldn’t expect that there would be a difference, a significant difference if a difference at all between what we are estimating and putting forward to the seller and what the seller would receive.

[David Martin:]

Okay, and last question. With the CMS cuts on the M&A side, are you finding there is more interest from GIs who want to sell this part of their business or has it changed at all?

[Edward Wright:]

I think the environment has – with the CMS cuts has created a position where the physicians maybe more willing to listen and see what we are willing to offer in light of those cuts. Back in November we were not sure how up to date the physicians who were even in this business were with the cuts and what they could expect in 2018. They all seem to be educated on what the cuts mean be going forward, and so they have been willing to listen and meet with us and see what we can provide. And so time will tell if it makes a difference. I don’t think it makes it any worse for us, but we’ve got more people at the table and that’s important.

[David Martin:]

Okay. Thank you.

[Operator:]

The next question is from Endri Leno with National Bank. Please go ahead.

[Endri Leno:]

Hey Ed, good morning, thanks for talking my question. The first one just as a follow up on discussions in the pipeline and future acquisitions following the CMS cuts. Are you seeing or do you expect any changes in the multiples that you were paying for any new acquisitions?

[Edward Wright:]

No, I don’t. We’ve always valued these businesses based on a predetermined multiple or an effective multiple as we move forward. The valuations overall are lowered because the earning are lowered, but if our methodology remains the same. So we are paying the same relative value for those.

[Endri Leno:]

Great, thank you. And the next question, if you can expand a little bit on the Puget Sound development and if there any other opportunities for more of these developments or if organically developing them thanks.

[Edward Wright:]

Sure. So Puget Sound is a very large great group out in the Seattle area that has four ASCs and so for the last year we have been moving them from conscious sedation to deep sedition or MAC as we call it. We are online with that where we have an option to acquire 51% of that business once they are completely up and running and we’ve got a history of the earnings. So we’ve been ramping that up throughout this year and as I mentioned, we still look for that to transact this summer. There are a lot of other opportunities out there for that or vary in sizes. Again, market specific, whereas in certain areas of the country there is Anesthesias have been generally expected. Other areas out west, predominately where they haven’t and so we are looking at some of those markets as Greenfield or our ability to get them into the Anesthesia business. So yes, I think you’ll hear more about those types of opportunities later in 2018.

[Operator:]

The next question is a follow-up from Richard Close with Canaccord Genuity. Please go ahead.

[Richard Close:]

Great, thanks. Helpful on Puget Sound there with respect to the timing, possibly in the summer. Can you talk a little bit about the cadence of the M&A. I mean you talked about expecting to do similar levels. Obviously not any in the fourth quarter. I assume that was because of the tax law change, but just thoughts around the cadence throughout 2018?

[Edward Wright:]

Sure Richard. It’s interesting as I think we mentioned before. It’s hard to time these things. Physicians have seasonality in their ability to focus and want to talk about these things. If you go back historically, outside of GAA you will see that we’ve done 80% of the acquisitions or the spend has been in either the second or the third quarter; they are timed when they are timed. I would expect that to continue this year, where most of what we do is in the middle six months of the year, and again, that’s not related to the activity level on our side, but just what it takes to kind of get ramped back up after the holidays and then close things up before the holidays, we get our physician partners paying attention to their businesses.

[Richard Close:]

I guess my final question will be on the O’Regan offering. I think in the press release you put a sentence in there about competition and I just want to get your thoughts on that seemed new to me, maybe it wasn’t, but are you seeing increased competition on that front.

[Edward Wright:]

At the moment Richard there is a number of different competitors that have been out there for quite some time. I think it’s safe to say that we are – if you talk to the gastroenterology community through the training program that we’ve developed and the different aspects to the turn key business, there is great loyalty to the product. I think in time we’ve created really a paradigm shift into gastroenterology if you look back in time. We are the device that has really helped create that paradigm shift and there will be from time to time other technologies that are going to be introduced or adopted now that we’ve created that market place, but still to-date by and large we are the market leader in that segment.

[Richard Close:]

Okay, great, thanks. Congratulations again on a solid year.

[Edward Wright:]

Thank you very much.

[Richard Bear:]

Thank you.

[Operator:]

This concludes the question-and-answer session and concludes today’s conference all. You may disconnect your lines. Thank you for participating and having a pleasant day.