AAC Holdings' (AAC) CEO Michael Cartwright on Q2 2018 Results - Earnings Call Transcript

AAC Holdings, Inc. (AAC) Q2 2018 Earnings Conference Call August 2, 2018 11:00 AM ET

Executives

Andrew McWilliams – Chief Financial Officer

Michael Cartwright – Chairman and Chief Executive Officer

Michael Nanko – President and Chief Operating Officer

Analysts

John Ransom – Raymond James

Operator

Good morning, and welcome to the American Addiction Centers Second Quarter Earnings Call. [Operator Instructions] Please note this event is being recorded.

I would now like to turn the conference over to Andrew McWilliams, Chief Financial Officer. Please go ahead.

Andrew McWilliams

Good morning, and welcome to our second quarter 2018 earnings conference call. I’m Andrew McWilliams, Chief Financial Officer of AAC Holdings.

To the extent any non-GAAP financial measure is discussed in today’s call, you’ll find a reconciliation of that measure to the most directly comparable financial measure calculated according to GAAP on our website, by following the Investor Relations link to yesterday’s afternoon’s news release

This conference call may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, including statements among others regarding AAC’s expected annual performance for 2018 and beyond. For this purpose, any statements made during this call that are not statements of historical facts may be deemed to be forward-looking statements.

Without limiting the foregoing, the words believes, anticipates, plans, expects and similar expressions are intended to identify forward-looking statements. You are hereby cautioned that these statements may be affected by the important factors among others set forth in AAC’s filings with the Securities and Exchange Commission and in the company’s second quarter 2018 earnings release. And consequently, actual operations and results may differ materially from the results discussed in the forward-looking statements. The company undertakes no obligation to update publicly any forward-looking statements, whether as a result of new information, future events or otherwise.

I would now like to turn the call over to our Chairman and Chief Executive Officer, Michael Cartwright.

Michael Cartwright

Thank you, Andrew, and good morning, everyone. On today’s call, I’ll be discussing some of our highlights from the second quarter and then turn it over to Dr. Nanko to talk about some of the operational highlights of the quarter before Andrew walks through the financials and we open it up to your questions.

As we said at the beginning of this year, our primary focus in 2018 is on our sales and marketing initiatives, continual operational improvements and integration of AdCare. Overall, I’m pleased with this year-to-date performance as results for the first half of 2018 were in line with our expectations. Operations during the second quarter remained strong with a 27% increase in revenue and continued improvements in both cash collections and DSOs.

The integration of AdCare continues to go as planned and AdCare is delivering the operational results we anticipated. I continue to be excited about the investments we’re making in our clinical programs, which help in our mission of delivering the best clinical care. For example, we have nearly completed our implementation of EarlySense technology that monitors patients without direct contact by advanced sensors placed beneath the bed mattress to allowing the nurses better care for patients.

We continue to remain focused on our sales and marketing initiatives and begun to make substantial changes in the leadership, processes and technology. For example, at the beginning of July, we welcomed our new Vice President of Admissions, who was most recently with Cancer Center Treatment of America and brings over 20 years of experience working with billion-dollar operations.

As we said at the beginning of the year, our sales and marketing initiatives that we have been working on for the last six months will begin to have positive impact in the second half of 2018. I’m pleased to report that we are starting off the third quarter with stronger admissions than we were – when we began the second quarter. Looking ahead, I’m confident we will meet our annual financial goals as we continue to support our patients with the best clinical care. Our balance sheet is strong, our senior management team is extremely focused and I continue to spend my time working with the sales and marketing team.

Dr. Nanko will now provide some additional color on our operational advancements during the quarter.

Michael Nanko

Thanks, Michael. As shared last quarter, operationally, we are focused on continuing to improve our infrastructure, strengthening our systems and processes and getting the right talent on board as we launch the next phase of growth here at ACC. I mentioned last call that we’re in the middle of the hunt for talent, and I’m pleased to report that we’ve had some great successes in this effort.

On the physician side, we’re excited to announce that Dr. Lawrence Weinstein has been named our new Chief Medical Officer, and he will take the helm in mid-August. Dr. Weinstein comes to AAC with extensive experience and expertise in Psychiatry as well as Addiction Medicine. He was most recently the Chief Medical Officer for Behavioral Health Services at Humana.

Further, Dr. Mark Clarkow, our current National Medical Director is transitioning to the new role of National Medical Director for Clinical Diagnostics. In this role, Dr. Clarkow will be instrumental in integrating advances in diagnostic testing into our clinical programs. He is a known leader in this work. We’re fortunate here at AAC to have both of these accomplished physicians on our team. We have also made a few other very important operational hires during the quarter. First, we’ve brought on to new facility CEOs, each of whom has previous experience and demonstrated success at large for-profit healthcare organizations.

We’ve also made a hire of a Vice President In Charge of Utilization Management and Utilization Review. She will lead the work in improving overall access to care and working with the facility and the medical leadership to enhance our continuity of care. We also brought on a Director of Provider Services and Practice Management, who will work with our physician groups to ensure strong productivity, patient coverage and overall efficiencies.

As we continue to strengthen our operations, our recruiting team is focused on hiring and retaining the best clinicians possible. We believe that this clinical excellence is foundational to our company and a cornerstone for high quality of care and patient experience, and it will lead to long-term operational results.

I will now turn the call over to Andrew to discuss our second quarter financials.

Andrew McWilliams

Thanks, Dr. Nanko. Before I discuss our second quarter results, I’d like to quickly remind everyone of the impact of revenue recognition changes associated with FASB Topic 606, which we adopted on January 1 and has affected our first and second quarter results. Under ASC 606, the provision for doubtful accounts, which historically reported as an operating expenses now reported as the direct reduction to our revenue. This change in presentation reduced revenues and operating expenses by the same amount and did not have an impact on net income, cash flows or earnings per share.

For the second quarter of 2018, total revenues less the provision for doubtful accounts was up 27% to $86.8 million compared with $68.5 million in the second quarter of 2017. Inpatient treatment facility revenue less the provision for doubtful accounts increased 21% to $66.7 million in the second quarter of 2018 compared with $55.1 million in the second quarter of 2017. The increase was primarily related to the full quarter benefit of revenue from AdCare, combined with 11.8% increase in our ADR. Consistent with prior quarters, the increase in ADR is partially attributable to a favorable shift in the service level mix within our inpatient treatment facility and improvements and billing and collections activity as a result of revenue cycle improvements in both processes and technology.

Outpatient and sober living facility revenue less the provision for doubtful accounts increased 60% to $9 million in the second quarter of 2018 compared with $5.6 million in the second quarter of 2017.

Outpatient business increased over 200% to approximately 51,000 in the second quarter of 2018 from approximately 15,000 last year. The increase in Outpatient visits was primarily related to the full quarter benefit of AdCare as well as an increase in our average daily sober living census, which increased 83% to 285.

Average revenue per visit decreased 56% to 177 in the second quarter of 2018 compared with 403 in the prior-year period. The decrease in outpatient average revenue per visit is primarily related to the significantly higher mix of in-network and Medicaid outpatient visit as a result of the AdCare acquisition.

Client-related diagnostic services revenue increased $2.1 million or 39% in the second quarter of 2018 to $7.5 million from $5.4 million in the second quarter of 2017. The increase in client-related diagnostic services revenue is primarily due to reduction in reserves based on the aging and receivable as a result of improvements in collections, which have reduced the number of days outstanding.

Adjusted EBITDA was $14.8 million or 70% of revenue and adjusted earnings per diluted share was $0.09 for the second quarter of 2018. Our earnings press release includes the full reconciliation of these non-GAAP measures.

As Dr. Michael Nanko commented earlier, we have been improving our infrastructure in getting right talent on board to launch the next phase of growth. These initiatives led in part to approximately $1.1 million of additional salaries and professional fees that negatively impacted our adjusted EBITDA in the second quarter that are not expected to reoccur in the second half of 2018.

We continue to see positive trends in billing and cash collections with DSOs at 89 days for the second quarter of 2018, representing a 24-day improvement year-over-year and a 12-day improvement year-to-date. Cash flows from operations for the quarter, excluding the $1 million payment related to the summon of the Nevada derivative shareholder law suit was $4.3 million for the quarter, an 8% increase year-over-year. Free cash flows, which we define as operating cash flows less maintenance CapEx was $3.2 million for the second quarter of 2018, a 28% improvement from the second quarter of 2017. As Michael commented earlier, we are reiterating our guidance for the full year of revenue of $325 million to $340 million, adjusted EBITDA of $68 million to $72 million and adjusted EPS of $0.75 to $0.80.

That concludes our prepared remarks for this morning’s call. I’d now like to turn the call over to the operator, who’ll open up the lines to investors for your questions.

Question-and-Answer Session

Operator

Thank you. We will now begin the question-and-answer session. [Operator Instructions] Our first question comes from John Ransom with Raymond James. Please go ahead.

John Ransom

Hi. Andrew, could you help us – you called out $1 million, $1.1 million of nonrecurring costs in the second quarter. But even if you include that your run rate EBITDA in 2Q is, call it, $15.5 million and to get to your numbers you have to be running well above that by 3Q and 4Q. So what other assumptions are you making to get to that back half run rate, number one? And number two, what evidence do you have other than the costs and improvement in July that those are running on track?

Andrew McWilliams

Thanks, John. Maybe I’ll take the first part of that question and then Mike will take the second part of that question. So as you mentioned, if we look at a bridge from the first half of the year to the second half or even from Q2 to the back half, however, you want to look at it, you mentioned the nonrecurring expenses are called out on the call about $1.1 million nonrecurring. There is also another – about another $400,000 related to, if you look at, there is a provision for doubtful accounts one about $400,000. That’s unusual now, given Topic 606, we only have items in there related to a specific item related to the creditworthiness of a client or payer.

This related to one client in our advertising that filed for bankruptcy that we had to recognize as a write-off this period. That’s very unusual in that line of business. We don’t historically have write-offs, wouldn’t expect anymore, so that’s also another $400,000 to bring it to $1.5 million kind of nonrecurring expenses. There is also AdCare synergies and other expense reductions around $2 million, a little over $2 million, that are expected to come in at the back half of the year. As I mentioned, that relates to – some of that relates to AdCare. There is also other cost reductions in salaries, wages and benefits, professional fees, client-related and others.

Some of those are coming from some of the recent hires that we talked – Dr. Nanko mentioned in his remarks that will drive results in the back half of the year and in terms of efficiencies around professional fees, et cetera. The remaining increase comes from – since it’s an admission increase in the back half of the year that we’ve been talking about really for the last six months. And if you do the math on that, that’s about – we’re looking at to get to the numbers we need about a 3% lift in our admissions over the first half of the year to get to that and kind of a revenue per mission numbers that we’ve projected. And I’m going to let Michael comment about some of the sales and marketing initiatives.

Michael Nanko

Yes, and I feel very confident on that, John. Internally, our budget shook out about where we are right now. We don’t feel like that we’re off track at all in terms of our own internal projections for 2018. That’s why we didn’t revise anything. We feel very confident in the back half of the year. I’ve stated that since the very beginning of the year. It’s about a 3% lift in census. If you take a look at July, where we started, where we ended and progress that we’ve been making over the last three, four months in the call center conversion, I feel very confident that we can get a 3% lift in the back half of the year.

John Ransom

Okay. Another question, Andrew, as the revenue per day numbers obviously have jumped all over the place with the big ramp you had last year and also the AdCare acquisition, also the change in accounting. If you had to guess on your legacy business before AdCare, where are you shaking out in terms of your revenue per day?

Andrew McWilliams

The revenue per day and this – there are a lot of factors as you mentioned from that. So as we look at it, in Q1 and Q2, we did see a slight – and I will say a very slight decrease in kind of the ADR absent AdCare kind of what I’d call the legacy business from that and we talked a little bit about that. That’s really coming from as we fill up the additional beds in our system, filling up the some of the inpatient center or in-network centers, et cetera. It’s really where that’s coming from. But from a rate pressure standpoint, we really haven’t seen anything from that standpoint. In fact, on the managed care side with in-network payers we’re seeing some really encouraging signs as we renegotiate contracts and enter into new contracts that are in-network facilities. We’ve seen some nice rate increases.

John Ransom

Okay. So the way the business has changed, and also you guys have a big California hospital that shortly stayed. But the way the business changed as you described it was a 30-day residential stay is sometimes now a low 20s stay with the rest kind of being intact on with your sober living beds in your outpatient. Are those dynamics stable or are you still seeing more of a shift from residential to outpatient on your legacy business?

Michael Cartwright

No, they’re very stable. I don’t see any changes in that. Look, we’ve added on AdCare, which has an much lower length of stay in the hospital setting. Same thing with Laguna you have a much lower length of stay in a hospital setting or Detox setting. But in terms of level of care and how many days that the insurance company authorizes for those different levels of care is very consistent across the board.

Andrew McWilliams

Yes. I mean, we all along AdCare has – as Michael mentioned, a low average length of stay, when we look at the length of stay absent AdCare that they are very stable. We haven’t seen any declines in that. Really in the total episode of length of stay, we haven’t seen – it’s pretty consistent with where we’re at last year this time and consistent with Q1.

John Ransom

Okay. And just lastly, this is for Michael. I know you’ve been beavering away and you’ve not had some bars on the marketing initiative. So the first thing to go back to what you said earlier, may be it would help to compare your census at the beginning of the second quarter to what you saw in July, it’s may be some evidence that things are turning. And secondly, maybe you could just describe qualitatively your journey of what you’ve learned and what – specifically what changes you’re making and what changes are you yet to be made in your whole process? As you said before, the issue is not lead, the issue was converting more leads into paying customers, and so maybe we could get a little more color on all that? Thanks. I’ll jump back into queue.

Michael Nanko

Yes. I mean, absolutely, I think starting in February, we’ve done a deep dive into kind of all things, sales and marketing. It’s not just the call center, it’s our outside team that’s on the ground, talking to physicians and hospitals across America letting them know about American Addiction Centers. It’s our web side that let people know about American Addiction Centers or our sub-brands like Desert Hope or Greenhouse.

And really, just looking at all of that and asking where can we make improvements, how can we see more census from similar calls so that we need to generate additional calls. I think one of the things that I came away in the first half of the year with is I’m very confident in the sales and marketing that we have on the outside, I’m very confident in our web assets and the generation of phone volume that we have, certainly should support a census of 85% to 88%, and so when you dig down into the conversion rates.

And I think there is a variety of reasons that the conversion rate’s not exactly where we wanted to be. So we’ve done a variety of things, from changing some of the people. We brought in [indiscernible] our VP of Admission. She is bringing a wealth of knowledge and experience of a much larger player in system. I think that’s already bringing impact and changes to the way we do things in our operations. The other thing that we’ve done is just training, a lot more training on the different products.

We went from having five out-of-network facility that looked very similar to having 39 different products over nine different states into the laboratories that someone would have to explain over the telephone. So how we train our staff, what type of information they have at their fingertips and then also redesigning the call center software system. That’s been an ongoing process for the last four months is to when you sit in that seat, you answer calls that better being able to let people know about their local market, local community. So we’ve also regionalized the call centers.

So now if a phone call comes in from California, it’s being answered by our team that is very, very knowledgeable at California options and resources in that area. So it’s not just one thing that we’ve done, John, it’s really a total deep dive into the people processes and technology that we use to do sales and marketing, very, very similar to what we did in 2017 related to operations. We did a very similar process and we came out to the other side and now we have somewhat new team members and some existing team members that I think would all agree that we’re much more operationally stronger company in 2018 than we were in 2016.

We feel the same way about sales and marketing, by the time we get to end of 2018 going into 2019, we feel very confident the systems and processes we’re putting in place will have us at 85% to 88% occupied. I feel very confident at the back half of the year. July, we started off exactly where we needed to be to hit our back half numbers.

John Ransom

Thank you.

Operator

[Operator Instructions] Our next question comes from Ryan Daniels with William Blair.

Unidentified Analyst

Hi guys. This is Nick speaking out in for Ryan. Thanks for taking my questions. Going on marketing efforts right now, I was wondering if you could give us a little color on exactly how does your biz development team is at this point?

Michael Cartwright

In terms of the outside team, it’s about 80 folks on the outside. Few more than that it’d be 85 folks on the outside team. Again, we’ve been looking to ramp that up a little bit, but that’s not really are call volume or the number of people inbound asking for help. It’s not really been the issue. It’s really been more on the conversion. For example, when somebody calls from Louisiana, it may be 15, 20 minutes from one of our outpatient centers, but you may have someone in the cost center, but that’s not fully knowledgeable, where we thing we’re doing in the State of Louisiana.

That’s why we’ve regionalized the call center. So now calls are coming into team members that just answer calls in that area. So the first thing they would say is, let’s set you an appointment to go to one of our outpatient centers. You wouldn’t even have a long conversation about the assessment. You would just try to get them to allow a person to do an assessment in person much quicker and we’re already seeing that in July. It’s actually been a good, good experience watching the teams will learn a lot more deeply about what’s going on in their regions, the different options not a with a – not just with AAC, but in the area for help. So I feel like that we’re even helping more people generally. So I think we’re making the progress that we thought we would.

Unidentified Analyst

Great. And then do you have any thoughts on kind of like the opioid legislation that’s going on right now. Do you see any impact currently or any increase kind of focus on treatment in the future. Just what your thoughts on that?

Andrew McWilliams

I’m very excited Congress has taken an interest to mean to see that we have in front of Congress today that are on addiction, that’s rare. We normally kind of been put together with some other bill like transportation and we may be tacked on, but the focus that Congress has on the opioid epidemic more specifically, but addiction broadly is encouraging in any kind of legislation that they do welcome.

I think when it comes, I was had fortunate enough to go and speak to the Congress last week about marketing and sales and what they could do, and I’m hoping to see legislation from Congress on a variety of fronts related to sales, marketing, facilities themselves, right now, we have license to your body’s. In each state, they operate a little bit differently in California than they do in Texas or Tennessee. You would love to see more consistency across the board. So I think it’s a welcome to see Congress take this much interest.

Unidentified Analyst

Great. And then looking into 2019, do you guys have any thoughts or plans on de novos or any other M&A in 2019?

Andrew McWilliams

No we haven’t started down that path. I think we could crank up Ringwood pretty easily and add some beds. There are several opportunities even within existing sites like Tampa, where we could add sober living beds. There is definitely things that we could do organically as well as acquisitions. There’s lots of amount there, but we’re not ready to even turn our attention to that yet. I think Michael Nanko, Andrew, myself, the entire management team still wants to stay focused on our 2018 goals and objectives, and that’s really all about getting our census up, getting our occupancy up. And more importantly making sure that we have great clinical quality across the board. I’m really excited about some of the staff that Michael Nanko has brought into the organization and really think that they’ll bring us to the next level in terms of clinical excellence.

Unidentified Analyst

Great. Thanks guys. I’ll hop off then.

Andrew McWilliams

Thank you.

Operator

[Operator Instructions] At this time I’m seeing no further questions. This concludes our question-and-answer session. I would like to turn the conference back over to Michael Cartwright for any closing remarks.

Michael Cartwright

Thank you very much. I appreciate your interest in American Addiction Centers. Appreciate your patience during 2018, while we make all the changes to the company that I think in the long term is going to benefit all shareholders. Definitely a big shut off to our staff that’s working to tell off to provide exceptional quality care to their clients across the country. Thank you, and have a good day.

Operator

The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect.