Good evening. My name is Michelle, and I’ll be your conference facilitator today. At this time, I’d like to welcome everyone to the DaVita Second Quarter 2022 Earnings Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer period. Thank you. Mr. Ackerman, you may begin your conference.

Thank you, and welcome, everyone, to our second quarter conference call. We appreciate your continued interest in our company. I’m Joel Ackerman, CFO and Treasurer and joining me today is Javier Rodriguez, our CEO. Please note that during this call, we may make forward-looking statements within the meaning of the federal securities laws. All of these statements are subject to known and unknown risks and uncertainties that could cause the actual results to differ materially from those described in the forward-looking statements. For further details concerning these risks and uncertainties, please refer to our second quarter earnings press release and our SEC filings, including our most recent annual report on Form 10-K and all subsequent quarterly reports on Form 10-Q and other subsequent filings that we make with the SEC. Our forward-looking statements are based on information currently available to us, and we do not intend and undertake no duty to update these statements except as may be required by law. Additionally, we’d like to remind you that during this call, we will discuss some non-GAAP financial measures. A reconciliation of these non-GAAP measures to the most comparable GAAP financial measures is included in our earnings press release furnished to the SEC and available on our website. I will now turn the call over to Javier Rodriguez.

Thank you, Joel, and thank you for joining the call. Today I will cover five topics: health equity and the Supreme Court case, second quarter performance, an update on our Integrated Kidney Care business, and I will conclude with our current thinking for 2023. Before discussing business matters, I want to address a crucial clinical topic: Health Equity. Given the disproportionate impact of kidney disease on patients of color, health equity is of utmost importance. DaVita has achieved unparalleled equity in the kidney care community in terms of access to care, access to information, and clinical outcomes compared to other disease states. We've utilized our scale to ensure consistent equitable access to care and education. Our leading clinical outcomes and protocols have minimized variability across all patient populations, regardless of race or socioeconomic status. Our Black and Hispanic patients have comparable outcomes concerning dialysis adequacy, phosphorus, and calcium lab values, as well as hospitalizations and mortality rates. Additionally, our Kidney SMART program is now accessible in 10 languages, and we are involved in a pilot program to create culturally tailored education for underrepresented and underserved patient communities. Regarding access, most patients can reach dialysis services within 10 miles of their homes. We take pride in these results and aim to enhance access to transplant and home dialysis. Next, I will discuss the Supreme Court ruling in the Marietta Memorial Hospital case, which has created a loophole for plans to bypass the historic protections outlined in the Medicare Secondary Payer Act. We believe this narrow interpretation contradicts Congressional intent and could harm vulnerable patient populations, hindering health equity efforts. We are collaborating with the community on multiple initiatives to close this loophole and enforce anti-discrimination provisions to safeguard patients' rights to choose appropriate insurance options. The first step involves supporting legislative efforts by members of Congress dedicated to protecting dialysis patient rights and the Medicare trust fund. Recently, bipartisan legislation was introduced aimed at amending the MSPA to eliminate the loophole created by the Marietta decision. This legislation clarifies that benefit plans attempting to limit benefits due to the need for renal dialysis services, like the one in Marietta, would violate the MSPA. Although passing any legislation is challenging in an election year, we believe restoring the MSPA is a non-controversial matter, and we will collaborate with the Congressional Budget Office to ensure its passage is seen as a cost saver. The community is also engaging with regulators to ensure additional anti-discrimination protections address the type of discrimination seen in the Marietta Memorial Hospital case. Proposed revisions to the Affordable Care Act's anti-discrimination provisions indicate that HHS is committed to upholding protections against discriminatory insurance benefits based on various factors, including disability. Should employer groups attempt to alter benefit plans to exploit the MSPA loophole established by the Marietta decision, legal actions may arise under these anti-discrimination provisions. Now, moving on to our financial results for the second quarter, we reported an operating income of $433 million and earnings per share of $2.30. Operating income increased sequentially by $95 million, helped by seasonal impacts from the first quarter. Treatments per day rose approximately 1% quarter-over-quarter. Although COVID infections and mortality within our patient population decreased after the Omicron surge in the first quarter and through May, they rose again in June and July. Treatment rates also fell significantly from the highs seen in the first quarter but remained above seasonal norms in the second quarter. The impact of COVID on mortality during treatment and treatment volumes remains difficult to predict and continues to be the primary variable affecting our performance in the latter half of 2022 and into 2023. Labor costs posed challenges in the second quarter, with increased utilization of contracted labor and base wage hikes similar to those experienced in the first quarter. We are managing other patient care costs and general and administrative expenses to offset the impact of wage and inflationary increases. Despite these challenges, we believe our performance will likely fall within the lower half of our guidance range of $1.525 billion to $1.675 billion for 2022. Regarding our Integrated Kidney Care business, operating losses were better than anticipated in the second quarter, due to recognizing some shared savings revenue earlier than projected. We also benefited from positive adjustments in our special needs plan. For the full year, we expect overall IKC performance to surpass initial expectations. Looking ahead, we are confident in our model of care based on the early results of our 2021 Share Saving Trust. In 2023, we foresee significantly increased growth in our membership and dollars under management in both the [indiscernible] and [CKCD] programs. As a result of improved performance in 2022 and the first-year costs associated with substantial growth, we now predict a lesser improvement in IKC operating income in 2023 than previously expected. Finally, I want to provide an update on our overall thoughts for 2023. To assist our investors and analysts with these updates, I refer you to a table in the outlook section of our press release outlining our views on the primary drivers of operating income growth from 2022 to 2023. We still anticipate a significant rebound next year, but challenges and uncertainties surrounding treatment volume growth and the healthcare labor market have led us to lower the projected improvement range to $200 million to $300 million. To summarize for 2023, we expect a meaningful increase of $200 million to $300 million, but due to volume and wage pressures, we are lowering that range.

Thanks, Javier. First, let me start with some additional details on our second quarter results. U.S. dialysis treatments were up 2.3% compared to the first quarter. This was the result of one additional treatment day and an increase of approximately 1% in treatments per day. Excess mortality was down significantly from Q1 as the impact of the first Omicron surge receded. I will note this benefit appears to have reversed in June and July, as a new wave is having a negative impact on volumes. Mistreatment rates declined in the quarter as a result of typical seasonal patterns but remained higher than usual in Q2 because of the new Omicron subvariants. Revenue per treatment grew quarter-over-quarter by $4.19, primarily due to normal seasonal improvements driven by patients meeting their coinsurance and deductibles, as well as the continued shift to MA plans, partially offset by a seasonal decrease in acute treatment volume and the partial loss of Medicare sequestration relief in Q2. Patient care costs per treatment were lowered by $5.47 per treatment quarter-over-quarter, primarily due to the seasonality of health benefits, payroll taxes, and lower costs across multiple other categories. G&A was up approximately $24 million versus Q1. In Q2, there was approximately $23 million of contributions to the industry's campaign against the ballot initiative in California. This is a pull-forward of expenses originally planned for Q3. Our estimates for the full-year impact of the spend on the ballot initiative have not changed, although it does impact the timing between Q2 and Q3. Additionally, there was a one-time gain on the sale of some self-developed properties of $22 million, which approximately offset the pull-forward of the ballot initiative spend. The increase in G&A relative to Q1 was largely the result of higher compensation expense and increased T&E. Putting this all together, to help you understand how we think about the results in Q2 as a starting point for understanding the rest of the year, I'd point out a couple of things. First, the ballot initiative expense in the quarter was offset by the gain on the sale of self-developed properties. Both of these items flow through the G&A line and combined had no significant impact on the quarter. Second, results in IKC for the quarter were significantly higher than anticipated for two reasons. First, we recognized shared savings revenue of approximately $15 million that was expected in the back half of 2022. Second, we had positive prior period development of approximately $10 million. Together these resulted in approximately $25 million of benefit in the quarter that we do not anticipate recurring in the back half of 2022. In addition to these components, there were other items as there are every quarter, but these largely offset one another. The result of all this is that earnings for the quarter benefited from a net of approximately $25 million compared to what we would use as a baseline for modeling earnings for the back half of the year. For Q3 and Q4, the spending on the California budget initiative is the only significant seasonal or unusual item that we currently anticipate. In Q2, we repurchased approximately 3.9 million shares of our stock, and we have repurchased an additional 901,000 shares since the quarter-end. Finally, I want to add one detail to Javier’s comments about the bridge to 2023 operating income. As he said, we're bringing the range of adjusted OI increase in 2023 down to $200 million to $300 million. The initiatives we are undertaking to deliver on this range are expected to result in non-recurring expenses in 2022 and 2023. These non-recurring costs are not included in our guidance.

Operator, please open the call for Q&A.

Okay, great, thanks. A couple of questions here. So it sounds like you're saying you took up your pricing outlook for next year. I guess, is there any way to think about what has changed along those lines, like how much of it is because of a better view on the Medicare rate update versus MA rates versus commercial?

Yes, Kevin, there are really three components to it. One is the Medicare rate, as you referenced. The second is some operational and systems changes that we're going to make internally that we think can drive higher yield or higher cash collections, which ultimately results in a higher revenue per treatment. The third are some benefit changes that will impact the patient component and improve our bad debt because the lower the patient component comes back related to out-of-pocket costs, the lower that goes, the higher we will ultimately collect. None of this is about our expectation of higher rates on commercial or MA.

Okay. And is there any negative view, I guess, obviously, with this Marietta there and you just talked about the initiatives that the industry is pursuing to fix that, but I guess, is there an expectation or any early indication around how commercial contracts are being negotiated?

Kevin, it's Javier. The short answer is it's too early to tell, and so we continue to watch it. And we will let you know if we see anything. As we said last time, there's a segment that's more likely than not, which is that small employer, but these things take time. And so we don't have anything new to report on it.

Okay. And then I guess, you mentioned that you've changed versus your original outlook, a bridge for '23, you have a different view about volumes, how much of that is because of mass versus what's already happened in the math of that going forward versus kind of your changed view or more conservative view about how things might develop going forward?

I think it's more about what will happen going forward than what we've seen so far. Volume is a little bit below where we were expecting. But this is more about our expectations for excess mortality going forward, rather than what we've seen so far.

Remember, Kevin, we talked a little about a pull-forward, we call it sort of COVID unwind at one point, which is we thought that once that excess mortality unwound, that we would have a little richer growth in one year, and now we just don't have visibility. Mathematically, of course, it will happen but we don't have visibility as to when it will happen. And so that's the math that Joel just talked about.

Okay, so the total operating income number has not changed. It's just the timing is too difficult to predict. So you're just taking some of that out next year?

Well, the total operating income for 2023 has changed; it has been brought down in the middle of the range by $75 million. So it was $250 million to $400 million. We've moved it to $200 million to $300 million. So $75 million at the middle of the range, I think it's fair to say that $75 million is fully accounted for by our change in volume expectations. There are some other puts and takes as well.

I guess I thought that you guys talked about $150 million to $200 million operating income from the COVID normalization on the volumes over time. Is that still the right way to think about? That number hasn't changed?

I don't think our views on normalization from COVID have changed in terms of volumes. I think we've stopped thinking about what's the negative impact on operating income from COVID and more recognizing where we are today as the new baseline, and how are we going to move forward from here. But the comments we've made about the pull-forward, and ultimately, excess mortality, at some point needing to go away and become lower than normal, we still believe in that.

Excellent, thank you.

Thanks. A couple of follow-ups from Kevin's question there. First, you talked about some benefit changes that are going to help reduce patient out-of-pocket costs. Could you give us a little more color?

Yes. This is related to how Medicare is adjusting the calculation for the maximum out-of-pocket expenses, particularly affecting dual eligibles. Our Medicare Advantage book has a significant number of dual participants, and as these changes in Medicare's maximum out-of-pocket occur, these individuals will reach their limits sooner compared to the patient component, of which we collect very little. They will hit that limit earlier in the year, resulting in a decrease in the patient bad debt number.

How is that going to impact that half of the revenue for treatment, if we're thinking about next year in dollar terms?

I'd say somewhere in the $1.50 range.

Got it. And is that just effectively show profitability in terms of that falls right to the bottom line in terms of price?

Yes.

Got it. And then, thinking about the mix for next year, I know it's possible to say what employers are going to do with this Marietta stuff at this point. But have you built into that range that you've updated any assumption around deteriorating payer mix? Or are you assuming that stays constant?

We're not expecting any material impact in '23 from Marietta, so no change to the mix.

Got it. And then just a question on salaries and benefits. So I think that number you would put in for this year in terms of your framework of typically 2% to 3% increases? I think you added something like $75 million for this year. Can you give us an update versus that target, that extra $75 million this year? And then what are you assuming in that number next year? By our calculation, it looks like it might be more mid-single digits assumed again next year. How much above that 2% to 3% normal are you assuming per wage pressure next year?

Yes. So Justin, as a reminder, we called out a number more like $125 million for this year, so call it a salary wage and benefit increase year-over-year in '22 of about 6%. And that's what we saw in the first quarter. It's what we saw in the second quarter. We're expecting that for the full year. As you look forward to next year, we're expecting the number to come down but remain well above that 2% to 3%. So somewhere roughly halfway between the 3% and the 6% number.

Hey, good afternoon, guys, thanks for taking my questions. Going back to the IKC part, you broke the $50 million of shared savings and $10 million of prior period. Can we just step back a little bit and say, what's changed sort of in 2Q versus what you're expecting at the Analyst Day and expectations? Can you remind us, what's your process for getting true-ups from managed care plans at this point? And then any more details as you get this true-up about how these cost savings progressed in '21?

Well, I'll let Joel answer some of those technical questions you asked. But one of the things that I really want to make sure that we jot down on this one is that this business has a lot more ups and downs. And to look at it quarter-over-quarter, it’s probably not a great way to look at it, but rather to look at it on an annual basis because of these true-ups and the lumpiness and the seasonality of the flu and all the things that happen in this type of business. But that said, Joel, one chance at the technical part.

Sure. So the prior period development is on the SNP business, and it's no different than the kind of prior period development you'd see in a managed care plan. Our accounting there is that we take the full revenue and the full expense through the P&L. The $15 million of shared savings, the process there obviously has to end; the claims have to run out to some extent, data is exchanged and reconciled, and when we become confident that the shared savings numbers are clarified, that's when we will recognize that revenue. So for some of the 2021 plan years, we got that level of confidence earlier than we expected, and that's what led to the $15 million of revenue in Q2 versus the back half of the year when we originally expected it. If you step back in terms of where we are versus Capital Markets Day, we were anticipating a loss for the year from IKC roughly $175 million. We now expect that number to come in a bit better, maybe I'd say probably a $10 million to $30 million improvement relative to where we were. Part of that is prior period development, part of it is a lower cost structure as we're scaling the business; we're seeing some advantages relative to what we thought. But overall, I would emphasize it is still early in the development of this business. We are expecting ups and downs, but it was a good quarter for IKC.

Just probing a bit more, I have another question before moving on. Regarding the patients you have from the first quarter of 2021, could you provide some insight into where those margins stand today? Are these patients becoming profitable after 18 months? Do you have any insight on how you transition from being unprofitable to generating profit with these patients?

Yes. So first, let's be clear, we're not making money; we just had positive prior period development and positive savings. There's still a huge expense base against those. So it's to some extent playing out as we expected, with 2021 just the timing is a bit different in the year.

Okay. I guess let me ask that in a different way: with what you're tracking today, how fast before you convert from losing money on these patients into making money?

Look at Capital Markets Day; we laid out a plan where the business should become breakeven in 2025 plus or minus as the year where we think we'll crossover. Anything on our views around the path to IKC profitability has not changed yet.

Okay. Moving to the cost side of the equation, just a follow-up questions: How easy is it to hire people today? Where is the turnover today versus the net hires? So how is it progressing throughout the year, and do you see pressure on treatment growth in the back half of the year due to lack of staff?

I’d grab that. It's hard to talk about the entire country as a unit because sub-markets and labor markets are very different market-by-market. I would say that it feels that we have crossed the most difficult period, and this quarter feels a lot easier than last quarter, but that was the hardest quarter in the history of the company. So contextually speaking, it's still a difficult labor market. As it relates to the second part of your question about whether there are markets where we're not accepting patients: the vast majority of our clinics are accepting patients, and there are a couple of pockets, around five or so markets, where we have pressure. The way to look at it is that if you're a patient, the first thing you want to do is, of course, get out of the hospital. There's a lot of stress around acclimating to your new life on dialysis. But that said, the most important thing is you want safety, and once you get to the right staffing, then you save time away from home in the right location. Right now, we have more centers than usual where a person has to travel longer than they wish, but they are getting placed, and so we're working through those dynamics and hope to revert to normal over the course of the year.

Great. And three quick number questions. Where is your home penetration today? How should we think about both interest expenses in the back half of the year as well as the tax rate? Thanks so much.

Thanks. On the home penetration, we had flattish growth due to all the COVID dynamics, so that mix is still in the 15% range. As it relates to the interest expense, Joel?

Yes. Interest expense, we expect it to go up in Q3 and Q4. There are really three dynamics there: one is just the outstanding amount on our revolver is higher than normal. Second, LIBOR continues to increase, and while we are capped on most of our floating-rate debt, we're not capped on all of it. Third, because our leverage level is above 3.5, we go into a different tier on our floating-rate debt, and we're now paying 175 above LIBOR, rather than the spread of 150 above LIBOR. You put that all together, I think, $100 million a quarter of interest expense for Q3 and Q4 is a reasonable estimate.

And then, tax rate; I guess, how should we think about the tax rate for the back half of the year?

Tax rate, I'd say we're not changing our guidance for the year, so staying at 25% to 27%.

Thank you. I was wondering if you guys have given any more thought to the expansion of the KPIs to give insight into the commercial mix, breaking out things like pricing versus volume but understanding some of the dynamics going on there?

Sorry, Sarah, did you say IKC? Is that where you started? Or did you say something at the beginning? I didn't catch it.

Yes, I was wondering if you’re thinking about expanding key performance indicators, or the metrics you disclosed around the commercial mix, to break out pricing so we can understand the dynamics going on a little bit better.

I think, Sarah, we’re relying on giving the commentary during the call to ensure that analysts and investors understand what's moving up and moving down. In terms of putting this in a table on the press release, that's not something we've been thinking about recently.

Okay. Are there aspects of partnerships that you guys can explore for efficiency and thinking about companies that look at efficient dosing to help bring down costs or transportation, just anything that would help offset the headwinds in the next few years?

Yes, Sarah. We've been looking at them for quite some time. Hopefully, our track record, if you look compounded year-after-year, our cost structure has gone up less than a percent over time, and so that takes maniacal focus and discipline and execution of some of the types of things that you've said. If you look at ESA, which has been historically our most expensive pharmaceutical, we have personalized dosing and AI algorithms of the type that you described.

Okay. Any sense on what scale of savings opportunity there could be over time in that area?

It's included in the $200 million to $300 million we mentioned for next year, and it's within that range. In that slide, we have the cost savings included in the pharmaceutical line.

Hi, good afternoon, guys. A couple of numbers questions. First, just going back to the last call, and I missed the first couple of minutes here, so I apologize. But I thought on the first quarter, you had said towards the bottom half of the operating income range this year; you reiterated that range in the release, but is there any commentary around the bottom half for this year? Does that still hold?

Yes, Gary, I think we're sticking with that. No change to where in the range we think will come in.

Okay. And then, I hadn't realized before, certainly we've seen the proceeds on the self-developed properties to the cash flow statement, but I hadn't realized any accounting gains were running through G&A. So I appreciate you calling that out this quarter. Has it ever been as large as this? Like when I look back on proceeds last year, $56 million; in 2020, $93 million. I was just curious if there were any other material gains that ran through G&A?

Yes. So the reason it was so big this quarter is that it related to one of our central business offices, so a much bigger building. Historically, they generally relate to clinics, so the numbers for individual clinics were much smaller. Yes, you would have seen numbers like this that were, I'd say, reasonably consistent historically. The reason we call this out is because it was so big and it was anomalous relative to what you've seen recently.

Got it. Cash flow a little softer than we thought, DSOs still hanging up there around 65, and I thought some of that was related to what you thought at one point or sort of a timing-related issues. Any updated thoughts on DSO and if and when that could head lower?

Yes, so cash flows were hurt by cash taxes this quarter, so that was the big hit there. In terms of DSOs, we do think there's an opportunity to bring it down. That said, I would call out that the shift to MA from Medicare Fee-For-Service that we've seen over the last couple of years will structurally increase our DSOs by a couple of days. Medicare is a very quick payer; the MA, DSOs are more typical to the DSOs you'd see in a commercial book. As we have less Medicare Fee-For-Service and more MA, it does structurally increase the DSOs, but I think there is an opportunity to bring it down a little bit.

Can you provide an update on the ESA contract? Are we back to a year-to-year basis now, or is it still multi-year? How should we consider potential opportunities regarding the rate on the ESA?

Yes, Gary, good memory. Our contract does expire at the end of this year. We have renewed a contract on the ESA front, and the savings are embedded in the $200 million to $300 million increase year-over-year.

Thanks. Just a few quick follow-ups here, first on leverage, in the press release, you were at 3.8 times. Can you give us an update on where you see your leverage targets and where you see this kind of going by year-end?

Yes. So our leverage target hasn't changed at 3 to 3.5 times, and I think we've always been consistent that this is a range we want to be in most of the time, but not necessarily all of the time. If you go back a few years, you would have seen us well above it and well below it. Where we wind up at year-end and in 2023, I think will depend on a few things: share buybacks being one of them; obviously, earnings being another; free cash flow being a third. So we're not going to give out a number because it will depend on all these factors. But I'd say, over time, we continue to believe 3 to 3.5 times is the right range for us, and we plan to get back there.

Got it. And then in terms of share repurchase, the company has been extremely consistent in deploying cash back to shareholders via repurchase. Any thoughts on, you talked about leverage potentially being even higher? Is it possible that you buy back more shares over the next 6 to 18 months versus just free cash flow? Would you keep that at a higher level and use some of that debt to buy back more stock?

Justin, we’re staying at it. As you know, it's a complicated topic, but the one thing you can count on is that we're going to stay consistently focused on returning to shareholders. On the margin, the question is: do you get a little more aggressive and you lever up a bit because you think it's a good opportunity? You also have to consider that the world has a little more uncertainty. There is a little more uncertainty right now, so you have to take all those trade-offs, but everything is on the table.

Okay. And then just lastly, in terms of leverage, I've gotten a couple of questions just because your debt is trading at a decent discount to par at the moment. Any thoughts on buying back that debt at a discount to lower leverage versus share repurchase?

Yes, we view the different options as opportunities to return capital to our shareholders. We'll evaluate both based on their market performance. However, our history shows that we generally prefer share buybacks over debt repurchases.

Got it. And last question: just the industry was facing a dialysis shortage earlier in the year. I haven't heard much about it recently. Just I know they expected to kind of get back to normal in the June-July timeframe, so just wanted to get an update on that.

Yes. Thanks, Justin. The inventory levels are a little below what they normally are, but we've passed the period of high anxiety and having to share, et cetera. So I think the worst is behind us and we can move forward.

Hey, guys, just one last follow-up here, just on that Medtronic deal that you guys announced in May. Can you go into a little more detail on the goals of the transaction and why you thought that was the best use of shareholder cash?

Well, there's not much to report, Pito. We're excited to partner and develop medical innovation and technologies with Medtronic. The only thing that we have to report is that the FTC has passed the period of Hart-Scott-Rodino, and so it's a pro-competitive deal. We anticipated it to be low scrutiny, and that's how it went. Of course, the FTC can always come back and ask, but that was a positive thing and directionally exciting for us. It's early, of course; the transaction will probably close in Q1 of next year, and so not a lot more to report.

And at this time, I am showing no further questions.

All right. Thank you, Michelle. Just got two closing thoughts. First, we've been talking for over a decade about the potential contributions of Integrated Kidney Care toward improving the quality of life of our patients and lowering total costs. Now we have a sizable population, and we are very hard at work, building systems and the capabilities needed to deliver on this potential. Second, the operating environment and macro landscape, as we discussed, are very tough. I am very proud of the teammates' resilience and agility to offset some of these headwinds by creating the cost savings. We appreciate your interest in our company, and we'll be talking soon. See you all.

Thank you. This concludes today's conference call. You may go ahead and disconnect at this time.