Earnings Call Transcript - AVAH Q3 2023

Operator, Operator

Good morning and welcome to Aveanna Healthcare Holdings Third Quarter 2023 Earnings Conference Call. Today’s call is being recorded, and we’ve allocated one hour for prepared remarks and Q&A. At this time, I’d like to turn the call over to Shannon Drake, Aveanna’s Chief Legal Officer and Corporate Secretary. Thank you, Shannon. You may begin.

Shannon Drake, Chief Legal Officer

Good morning and welcome to Aveanna’s Third Quarter 2023 Earnings Call. This is Shannon Drake, the Company’s Chief Legal Officer and Corporate Secretary. With me today is Jeffrey Shaner, our Chief Executive Officer; Matt Buckhalter, our Interim Chief Financial Officer; and Debbie Stewart, our Chief Accounting Officer. During this call, we will make forward-looking statements. Risk factors that may impact those statements and can cause actual future results to differ materially from currently projected results are described in this morning’s press release and the reports we file with the SEC. The company does not undertake any duty to update such forward-looking statements. Additionally, during today’s call, we 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 GAAP. A reconciliation of these measures can be found in this morning’s press release, which is posted on our website, aveanna.com, and in our most recent quarterly report on Form 10-Q filed with the Securities and Exchange Commission. With that, I will turn the call over to Aveanna’s Chief Executive Officer, Jeff Shaner. Jeff?

Jeffrey Shaner, Chief Executive Officer

Thank you, Shannon. Good morning and thank you for joining us today. We appreciate each of you investing your time this morning to better understand our third quarter results and how we are continuing to progress against our near and longer-term objectives for 2023 and beyond. My initial comments will briefly highlight our third quarter results, along with the progress we are making in addressing the labor markets and our ongoing efforts with government and managed care payers to create additional capacity. I will then provide some thoughts regarding our liquidity and refreshed outlook for 2023 prior to turning the call over to Matt to provide further details into the quarter and full year guidance. Let’s start with some highlights for the third quarter. Revenue was approximately $478 million, representing a 7.9% increase over the prior year period. Gross margin was $147.3 million or 30.8%, representing a 9.4% increase over the prior year period. And finally, adjusted EBITDA was $36.2 million, representing a 46.2% increase over the prior year period, primarily due to the improved payer rate environment as well as cost reduction efforts taking hold. As we have previously discussed, the labor environment represents the primary challenge that we continue to aggressively address to see Aveanna resume the growth trajectory that we believe our company can achieve. As a reminder, we do not have a demand problem. The demand for home and community-based care has never been higher with both state and federal governments and managed care organizations asking for solutions that can create more clinical capacity. As communicated in previous quarters, our ability to recruit and retain the best talent is a function of rate. Our business model offers a preferred work setting that is mission-driven, providing a deep sense of purpose for our teammates. However, our caregivers need to be able to provide for themselves and their families in this inflationary environment, and we must offer a competitive wage. Since our second quarter earnings call, I am pleased with the continued progress we have made on several of our rate improvement initiatives with both government and managed care payers as well as early signs of improvement in the caregiver labor market. Specifically, as it relates to our private duty services business, our goal for 2023 was to execute a legislative strategy that would increase rates by double-digit percentages across our various states with particular emphasis on California, Texas and Oklahoma, which represent approximately 25% of our total PDS revenue. Year-to-date 2023, we have successfully obtained double-digit PDS rate increases in 8 key states, including Oklahoma. We have also achieved rate wins in an additional 11 states that were either in line or slightly better than our expectations. These combined 19 states represent approximately 55% of our PDS footprint, and we should continue to see positive progress throughout 2023 and into 2024 as we continue to focus on the remaining states. As a point of reference, the majority of the rate increases are effective in the second half of 2023, which will result in a full-year benefit as we head into 2024. While we are pleased that our PDS legislative messaging is being well received by state legislatures, we still have much work to do. As an example of the work ahead, we received a modest increase in Texas effective September 1st and do not anticipate being included in the California budget until fiscal year 2025. We believe that we made significant strides with both the Texas and California legislature demonstrating the importance of rate increases and how they support an overall lower healthcare costs, improve patient satisfaction and quality outcomes. However, it is clear that we need to further accelerate our preferred payer strategy and continue to focus on opportunities within our current infrastructure to allow us to pass meaningful wages through to our caregivers. This allows us to become a solution for overcrowded children’s hospitals and distraught parents who want their children to be cared for in the comfort of their home. Now moving to our progress with preferred payers. Our goal for 2023 was to double our PDS preferred payer volumes from approximately 10% to 20% by year-end. In the third quarter, we added 2 additional preferred payer agreements raising our total to 12. Our preferred payer volumes increased to approximately 17% of total PDS volumes, and we are optimistic that we will continue to execute on this strategic initiative as we head into 2024. While we are taking a national approach to our PDS preferred strategy, we are placing particular focus on the state of Texas due to the moderate rate increase and intensifying our ability to shift caregiver capacity to our preferred payers. As of September 30, we now have over 55% of our Texas PDN volumes with preferred payers and believe we have an opportunity to further improve this trend to approximately 70% in 2024. Moving on to our preferred payer progress in home health. Our goal for 2023 was to improve our episodic payer mix by 10% from approximately 60% to above 70% by year-end 2023. Year-to-date, we have signed 6 new episodic agreements and improved our episodic mix from 63% at the end of 2022 to 75% in Q3. We continue to remain focused on aligning our home health caregiver capacity with those payers willing to reimburse us on an episodic basis and are focused on improved clinical and financial outcomes. Finally, we discussed the need to shift our current labor capacity to those payers that value our services and appropriately reimburse us for the care provided. We continued several initiatives to shift caregiver capacity to our preferred payers to optimize staffing rates while minimizing days in an acute care facility. In the third quarter, our preferred payer relationships benefited from accelerated caregiver hires of approximately 3 times more than our other payers. And we continued to experience staffing rates approximately 20% to 25% greater with significantly higher patient admissions. These positive labor trends have continued into the fourth quarter and further validate our preferred payer strategy. Preferred payers reimburse us a fair rate, and we pay market competitive wage rates while also earning value-based payments for achieving positive clinical outcomes and improved caregiver capacity. We are encouraged by our 2023 rate increases and subsequent recruiting results, and our business is beginning to demonstrate signs of recovery as we achieve our rate goals previously discussed. Home and community-based care will continue to grow, and Aveanna is a comprehensive platform with a diverse payer base, providing cost-effective, high-quality alternative to higher cost care settings. And most importantly, we provide this care in the most desirable setting, the comfort of the patient’s home. Before I turn the call over to Matt, let me briefly comment on our liquidity and refreshed outlook for 2023. On the liquidity front, we continue to make progress on improving our cash flows by focusing on attaining adequate reimbursement rates and growing our volumes. We are also seeing the benefits from the cost efficiency efforts we implemented earlier this year to right-size our cost structure while optimizing our collections. As Matt will discuss further, we have ample liquidity to operate our business while we work with government and MCO payers to improve the reimbursement rates to reflect the inflationary environment. As it relates to our refreshed outlook for the year, based on the strength of our first 9 months results and the continued rate improvement, we are comfortably raising our full-year revenue guidance to a range of $1.87 billion to $1.88 billion and an adjusted EBITDA guidance range of $134 million to $137 million, respectively. We believe our revised outlook provides a prudent view considering the challenges we still face with the current inflationary labor environment and hopefully, it proves to be conservative as we close out 2023. Finally, I am really proud of our Aveanna team as they have continued to execute our 2023 strategic objectives, the power and efficiency of the home as a healthcare setting remains critical to our patients, families, payers, referral sources and government partners. The value of our clinical workforce continues to be recognized through various rate increases across the country and through our expanding preferred payer relationships. With that, I look forward to updating you on our results at the end of Q4. And let me turn the call over to Matt to provide further details on the quarter and our revised 2023 outlook.

Matt Buckhalter, Interim Chief Financial Officer

Thank you, Jeff, and good morning. I’ll begin by discussing our financial results and liquidity for the third quarter, followed by our updated outlook for 2023. Our revenues increased by 7.9% compared to last year, reaching $478 million. All three of our operating divisions contributed to this growth, particularly our private duty services, Medical Solutions, and home health and hospice segments, which grew by 8.2%, 7.3%, and 6.3% respectively. We recorded consolidated adjusted EBITDA of $36.2 million, reflecting a 46.2% increase year-over-year, driven by improvements in the payer rating environment and our cost reduction strategies. In private duty services, revenue for the quarter was about $385 million, an increase of 8.2%, supported by around 10.1 million hours of care, marking a 4.5% volume increase from the previous year. Despite this growth, we continue to face challenges in expanding our top line due to a shortage of available caregivers, although we are beginning to see some improvement in the labor market. Revenue per hour was $38.13, up by $1.29 or 3.7% compared to last year, and we anticipate further improvements in 2023 as we implement our rate increase initiatives. Regarding our labor costs, our gross margin reached $104.5 million or 27.2%, which is a 3.6% increase year-over-year. The cost of revenue was $27.78, reflecting a 5.5% increase compared to last year, highlighting ongoing labor market pressures. Our spread per hour was $10.35, down by 0.9% from the previous year, as the second quarter’s spread had benefited from timing-related factors and normalized in our expected range for the third quarter. In our home health and hospice segment, revenue was approximately $53 million, a 6.3% increase from last year, driven by 9,300 admissions, with 75% being episodic. Medicare revenue per episode was $3,046, up by 0.8% against the prior year. We have focused on aligning our growth strategy with preferred payers that reimburse episodically, which has accelerated our margin expansion and clinical outcomes. With over 70% of admissions being episodic, we have successfully adjusted our margin profile and enhanced our clinical offerings. Looking ahead to the fourth quarter, we expect modest growth in admissions and episodes, with additional improvements anticipated early next year. We are committed to a careful growth strategy, prioritizing relationships with payers who value our clinical resources. Although we were pleased with our gross margin of 47.9% in the third quarter, we also recorded a non-cash charge of $105 million related to the goodwill associated with our home health and hospice business, reflecting our focus on preferred payer relationships as our cost management initiatives mature. In our Medical Solutions segment, we generated revenue of $40.3 million during the quarter, a 7.3% increase year-over-year, with approximately 88,000 unique patients served. Gross margins remained steady at 43.2%, consistent with our target profile. We continue to seek ways to enhance operational efficiency and leverage our overhead while expanding our national presence and payer partnerships. In summary, we are navigating a challenging labor and inflationary environment while prioritizing patient care. We believe that adjusting caregiver capacity to preferred payers is essential for our progress. Our primary challenge remains adjusting reimbursement rates, but we are hopeful that the positive trends we observed in the third quarter will persist into 2024. As we make strides in improving the rate environment, we will share wage increases and other benefits with our caregivers to enhance volumes. Now, regarding our balance sheet and liquidity, we ended the third quarter with over $236 million in liquidity, which includes approximately $48.3 million in cash, $20 million available under our securitization facility, and about $168 million available on our revolver, which remains undrawn. Additionally, we had $32 million in outstanding letters of credit. I am proud of the strides we’ve made in improving our liquidity throughout the year. We maintained approximately $1.47 billion in variable rate debt at the end of the quarter, with $520 million hedged with fixed-rate swaps and $880 million protected under an interest rate cap limiting exposure above 3%. Most of our variable rate debt is hedged through June 2026 and February 2027. Importantly, we have no significant term loan maturities until July 2028. In terms of cash flow, we generated $25.7 million in operating cash flow for the quarter, with free cash flow around $16.9 million. Although Q3 saw some timing-related benefits, we expect cash flow in Q4 to face moderate headwinds. Nonetheless, we anticipate ending the year as a positive operating cash flow company, with continued benefits from our revenue and cost management strategies as we move into 2024. Before transferring to the operator for Q&A, I’d like to highlight our updated outlook for 2023. As Jeff mentioned, we are now comfortable raising our full-year revenue guidance to a range of $1.87 billion to $1.88 billion, along with an adjusted EBITDA guidance of $134 million to $137 million. To conclude, I want to express my pride in our Aveanna team and their hard work in achieving these results. I look forward to further updates at the end of Q4. Now, I’ll turn the call over to the operator.

Operator, Operator

Now I will be conducting our question-and-answer session. Our first question today is coming from Brian Tanquilut from Jefferies. Your line is now live.

Unidentified Analyst, Analyst

You have Taji on for Brian. My first question is about the final home health ruling. We noticed the 80 basis point increase, which is a positive change. I’m interested in how the team views this and its impact on the business, as well as the temporary adjuster that is still under consideration. Additionally, you've made significant progress in enhancing the episodic mix in the business, as mentioned in the call. How does this shape your outlook for 2024?

Jeffrey Shaner, Chief Executive Officer

Good morning, this is Jeff. I’ll begin by addressing your question about our initial thoughts on the guidance for 2024. Referring back to our corporate performance, we experienced significant progress with a 19% improvement in PDS state rates, which exceeded our expectations. Although we did not fully achieve the anticipated rate increase in Texas and California for 2023, the results aligned closely with our estimates. This momentum is carrying over into 2024. We recorded approximately 4.5% year-over-year growth in Q3, marking the strongest growth we have seen since the onset of COVID. Our rate increases are effective, and we are placing more caregivers in homes, which is positively impacting families. There’s a solid forward momentum from 2023 into 2024 for our PDS segment. While home health and hospice represent a smaller portion of our business, we were pleased with the final Hospira rule. We are aligned with our peers regarding the home health rule and share disappointment with CMS for not addressing the labor and inflation issues that have persisted over the past few years. While the final rule was an improvement over the proposed one, it still does not adequately address the significant wage increases and inflation the home health industry is experiencing, which is disheartening. However, that won’t hinder our progress. We have a robust business model and are satisfied with our 75% episodic mix in Q3, which we anticipate will remain above 70% as the year concludes. As Matt and I have mentioned over several quarters, our home health and hospice operations are strong in both clinical and financial aspects, and we remain focused on growing this segment with the payers who will compensate us on an episodic basis. We are enthusiastic about 2024 ahead, despite our concerns regarding the home health rule's shortcomings.

Unidentified Analyst, Analyst

Thank you for the insights. I understand that there isn’t a problem with demand, similar to the situation with labor. It’s good to hear that things are getting better, and we’ve noticed the same trends in our data. I’m interested in understanding how we should consider wage inflation for next year, without asking for specific guidance. Additionally, based on the current guidance, margins are expected to be just above 7%. Is that still a valid starting point for next year? Are there other factors we should be considering beyond just the rate increases and the initiatives you’re implementing, including the expectation for inflationary costs to ease?

Jeffrey Shaner, Chief Executive Officer

That's a great point. Our comments in the script were early. We like our peers, and we are beginning to see improvements in the overall labor markets. For the first time since COVID, Q3 behaved like it had for the previous 20 years. We noticed the impact of schools being out during summer, and then as we approached Labor Day, which traditionally marks kids returning to school, our business experienced an uptick. We observed demand for hours increasing as well as supply, with caregivers seeking work. The last 8 to 10 weeks have been positive for us in terms of recruitment and hiring, and current workers, especially in the PDS segment, are eager to work more hours, leading to a strong period. We expect this trend to continue through the end of the year and into the holiday season. It's encouraging to see our business starting to return to pre-2020 levels. Regarding 2024, as Matt mentioned, we are still monitoring inflation, wages, and rates through our spread per hour, which was 10.35 in Q3 and is projected to be in the 10 to 10.50 range for Q4. We believe this is the right way to assess margins in the PDS segment, and we may be cautious with home health. Our approach in home health is grounded in the understanding that we cannot pursue low-margin business and compensate for it with volume. We are prioritizing episodic business as critical in that segment. While carrying 75% into 2024 might be ambitious, our aim is to reach or exceed 70%. The final part of Matt's question concerned potential margin expansion.

Matt Buckhalter, Interim Chief Financial Officer

Yes, Jeff. I think on the rate side, you said it really well with 2019 rate increases so far in 2023. And so it just shows how much value that we’re providing to our payers and our patients as well. There are some states that have done a great job of being out in front of him. So that still have to play catch up to this as well. As we do get those rate increases, Taji, we will pass those wage benefits through and other benefits to our caregivers. And that’s to drive volumes and increase patient care most importantly as well. On kind of the SG&A front, our team has done a phenomenal job in addressing direct and indirect cost and looking for opportunities to just be more effective and more efficient. I mean they’ve really done a phenomenal piece of that. We’ll continue to look at our corporate infrastructure. We’ll continue to look at field infrastructure. and invest where it’s important so that we can drive our business, drive volumes, drive growth, but also provide great clinical and quality care to our patients. Thanks, Taji. Appreciate it.

Operator, Operator

Thank your next question today is coming from Peter Stringer from Deutsche Bank. Your line is now live.

Unidentified Analyst, Analyst

You've got Benjamin Schaefer on for Peter today. I have a quick question about cash flows. I understand you've projected positive cash flows for the full year, and it's currently at $26 million year-to-date. Is that correct? What are your expectations for Q4? Thank you.

Jeffrey Shaner, Chief Executive Officer

Hey Benjamin, good morning. Yes, so I think in Matt’s prepared remarks, he talked about we had some onetime benefits that did help us in Q3. Q3 would have been cash flow positive even without the onetime benefits. But some things like just how our biweekly payroll closes, it fell into an October date versus the September date, which was unusual. So, there’ll be a little bit of a swing from quarter-to-quarter. I think the most important part you’re hearing from us, and we’ve been talking about it for a couple of quarters now is we’ve been very close to breaking through and becoming a positive operating and ultimately a positive free cash flow company. And although Q4 will be a little bit of a headwind in that, I think we feel confident that you’ll see that from us for the year. And more importantly or equity important, transitioning in 2024, Aveanna is now a positive generating cash flow company, which was an important milestone for us as a company. So we’re certainly, Matt talked about it. It’s a total team effort it takes growing the volume, the growing rates, it takes managing margin, also takes taking costs out of the company. And lastly, and really important collecting our cash. And I think it’s a total team effort of Aveanna to get where we are and to continue to drive through. So, I think you’ll find us to be pretty excited less about how Q4 impacts but more about how we think of the full year.

Matt Buckhalter, Interim Chief Financial Officer

Yes, Jeff. I think that’s really, really what was said there. I mean the team’s success in driving our top line growth as well as being very disciplined on any type of spend as it really allowed some of those dollars to drop down to the bottom line for us on operating cash flow and free cash flow basis. Onetime items in Q3 that are a very moderate headwind in Q4 as well. But just wanted to be upfront about that to provide realistic expectations. But more importantly, we’re on the run rate for consistency of this and creating an organization that will be a positive operating cash flow company. I will lay shells on the beach. There’s a little bit of headwinds in Q1 with some of our TPL seasons that evolved and just some of our payroll taxes and normal spend. So, we don’t expect it during Q1, but therefore, our goal is to continue to be a positive operating cash flow business.

Unidentified Analyst, Analyst

That’s super helpful. And then one more quick one. We really like to see the leverage tick down a little bit this quarter. Can you give any color on maybe targets you have or where you see it going over the next few quarters? Thank you.

Jeffrey Shaner, Chief Executive Officer

Yes, Ben, we’re really pleased. Last year's third quarter was quite difficult for us, and the industry was experiencing a significant shift during that time. Being able to move past that and achieve a strong $36.2 million, which is a 46.2% increase year-over-year, has really improved our leverage profile. We are very mindful of this every single day, and I think that reflects in our tone and approach to costs and spending, as we aim to return to the level of performance we know this organization is capable of. By doing so, we will also enhance patient care significantly. We will continue to focus on organic growth and cost reduction efforts to improve our leverage profile. While I don't want to make any predictions that might take time to realize, it's something we will work on progressively.

Unidentified Analyst, Analyst

Thanks appreciate it guys. Congrats on the nice quarter. Thanks Ben. Appreciate you.

Operator, Operator

Thank you. We reached the end of our question-and-answer session. I’d like to turn the floor back over to Jeff for any further closing comments.

Jeffrey Shaner, Chief Executive Officer

Thanks, Kevin, and thank you for joining us for our Q3 earnings call, and thank you for your continued interest in our Aveanna story. We look forward to updating you on our continued progress and further insights into our plans in 2024. Thanks, and have a great day.

Operator, Operator

Thank you. That does conclude today’s teleconference. You may disconnect your lines at this time, and have a wonderful day. We thank you for your participation today.