ModivCare Inc. (NASDAQ:MODV) Q3 2023 Earnings Call Transcript

ModivCare Inc. (NASDAQ:MODV) Q3 2023 Earnings Call Transcript November 3, 2023

Operator: Good morning, and welcome to ModivCare’s Third Quarter 2023 Financial Results Conference Call. [Operator Instructions] Please note this conference is being recorded. I would now turn the call over to Kevin Ellich, Head of Investor Relations. Mr. Ellich, you may begin.

Kevin Ellich: Good morning, and thank you for joining ModivCare’s Third Quarter 2023 Earnings Conference Call and Webcast. Joining me today is Heath Sampson, ModivCare’s President and Chief Executive Officer; and Barbara Gutierrez, ModivCare’s Chief Financial Officer. Before we get started, I want to remind everyone that during today’s call, management will make forward-looking statements under the Private Securities Litigation Reform Act. These statements involve risks, uncertainties and other factors that may cause actual results or events to differ materially from expectations. Information regarding these factors is contained in today’s press release and in the company’s filings with the SEC. We will also discuss non-GAAP financial measures to provide additional information to investors.

A definition of these non-GAAP financial measures and to the extent applicable, a reconciliation to their most directly comparable GAAP financial measures is included in our press release and Form 8-K. A replay of this conference call will be available approximately one hour after today’s call concludes and will be posted on our website, modivcare.com. This morning, Heath Sampson will begin with opening remarks, Barbara Gutierrez will review our financial results, then we’ll open the call for questions. With that, I’ll turn the call over to Heath.

Heath Sampson: Good morning, everyone, and thank you, Kevin. I’m proud of our commitment to deliver high-quality supportive care to our 34 million members. This quarter, we were able to show significant improvement in many areas, which resulted in strong third quarter results. We generated robust free cash flow of approximately $45 million. Our NEMT or mobility adjusted EBITDA margins sequentially improved by 150 basis to 7.3%. Additionally, we delivered on our commitment and paid down $43.5 million on our revolving credit facility. Lowering our bank-defined net leverage ratio to 4.6x. It’s been a year since I took the permanent reign and the journey has been enlightening. Our strong performance are a direct result from the enhancements and progress we’ve made across numerous parts of our business, recognizing the near-term challenges we face, which may have been more pronounced than initially perceived, addressing and demanded targeting investments in bold, decisive actions.

While these actions caused some short-term headwinds, particularly in Q1 and Q2 cash flow margin, they were undeniably the right choices essential and position us for a promising future. As we navigated this transformative year, our course has been guided by four strategic pillars: people; operational excellence; growth; and innovation. Now let’s dive into a few of these achievements within these pillars. In regards to people, we’ve rebuilt the organization and have been laser focused on optimizing talent, aligning our teammates with our vision and values. During the quarter, we welcomed two new members to our executive leadership team. Enrique Toledo as our new Chief People Officer. And Barb Gutierrez as our new Chief Financial Officer. I couldn’t be more excited to partner with them and all the new leaders we have – that have joined ModivCare over the last year or so.

Through disciplined financial management, a structured accountability framework and streamlined process management, we have significantly advanced towards operational excellence, which has enabled us to address challenges, including the repayment of contracts payable in our mobility business, reducing our leverage this quarter and laying the groundwork to improve the flexibility of our capital structure. We are dedicated to developing scalable operations fortified by automation and AI technologies. Such initiatives are important to enhancing operational efficiency, elevating service quality, expanding our revenue model and ensuring long-term margin stability. With respect to growth, we broadened and strengthened our customer base with new and existing relationships.

In the area of innovation, we’ve modernized across all pillars and enhanced our data and analytics capabilities, investing in platform technology and people to bridge supportive care to clinical care, particularly as the U.S. health care system accelerates to more value-based payments. Our distinct advantage lies in the fact that we have more frequent access to our customer members more than maybe they themselves do. Through the provision supportive care services that assist members in managing their daily lives. We foster genuine connections with them and build trust. This established trust subsequently empowers us to engage and intervene on behalf of our customers. We now have earned the right to do more for the members because we now deliver exceptional service.

Now let’s provide some segment highlights for the third quarter. Starting with mobility. This segment has been transformed through three main initiatives: multimodal trip assignment, omnichannel member engagement and customer integration. These initiatives are the drivers of our $30 million to $50 million cost savings, targeted over the next 12 months. Drilling down on each initiative, starting with multimodal trip assignment. We’ve deployed sophisticated automation and AI algorithms to an array of transportation modalities that best fit our members’ needs. Whether it’s through our network of providers offering everything from standard sedans to wheelchair-accessible vehicles to advanced or basic life support or through our TNC or rideshare partnerships or even mass transit and mileage reimbursement.

We ensure that our members receive the right service, at the right time, at the optimal cost. Next is our omnichannel member engagement, which is more customer oriented and focused on reaching our members where they are, whether it’s through the phone, the Internet, mobile apps, IVA/IVR, text message or even automated chatbot. By providing flexible points of engagement, we’re not only enhancing member satisfaction, but also reducing operational costs. Lastly, customer integration is crucial, enhancing both our operational efficiency and customer relationships. We’ve introduced real-time eligibility and insights directly into our customers’ digital platform. Furthermore, we aim to merge our technology into our customers’ call centers, allowing them a closer management of member experience and concurrently reducing our operational costs.

The financial impact of our mobility operational excellence initiatives is primarily reflected in our payroll and other expense per trip metric, which decreased 1.5% quarter-over-quarter and drove $1 million of cost savings during the quarter. Keep in mind, some of our mobility initiatives were implemented mid- to late quarter. And on a run rate basis, our cost savings would have been more like $2 million to $3 million, had they been operationalized for the full quarter. Other initiatives, specifically our multimodal strategy, will reduce purchase service expense per trip, which is an important metric for our full risk contracts and honoring our commitments to all our customers. Moving to Medicaid redetermination, which is unfolding as expected and tracking in line with our internal projections as further corroborated by external sources such as Kaiser and CMS.

Our shared risk contracts are operating effectively and as intended, safeguarding our gross margins against the backdrop of increasing utilization and costs. The challenges brought about by Medicaid redetermination notwithstanding, our margins consistently match our forecast. This instills confidence in the accuracy of our internal redetermination model. As it stands, we are going to be in line with our 2023 expectations for redetermination as well as our expectations for 2024, which we expect to be a $20 million to $40 million impact. This impact will be mitigated by our $30 million to $50 million cost-saving initiatives over the next 12 months, plus our sales growth. Over the past year, as we frequently pointed out, our mobility revenue has been grossed up by pass-through trip volume and costs.

This trend has become increasingly evident as health care utilization returns to an expected and normalized level. Although this may make challenge to understand our percent margins within this pass-through revenue, our shared risk contracts with the customers are protecting the downside to our cash flow, creating a win-win situation for us and our customers. Again, from a revenue perspective, our primary focus is growing our sales pipeline. We’re optimistic about realizing the benefits from new wins this year and next year. For example, we continue to add wins. This quarter, we won new mobility MCO business with a total contract value of $138 million, most of which will start in 2024. We also renewed and were awarded additional regions in our state mobility business, and we received an extension on another sizable state contract.

Our pipeline is strong and continues to grow. Now to Personal Care. Our revenue is healthy and growing in mid-single digits. Personal care hours continue to trend in the right direction, and we expect 3% to 5% hours growth for the year. The personal care reimbursement environment remains good, as we received rate increases in several states that correspond with the higher wages for caregivers. Our margins are stable and as expected. As noted earlier, we expect operating expenses to decrease as we complete centralizing, standardizing and automating in 2024, which will enable us to maintain our adjusted EBITDA margin target of 10% to 12%, while continuing to invest in growth. On the regulatory front within PCS, specifically, CMS’ proposed HCBS rule, we remain aligned with other industry stakeholders and expect the final rule could be issued during the first half of 2024 and then would be implemented over the next four years.

Other than the 80/20 provision, we are generally supportive of the proposed role. It is focused on quality and safety measures, increased transparency and the rate setting process. We also believe the proposed rule could benefit companies like ours that have professionalized operations at scale with enterprise level compliance programs. In the remote patient monitoring segment, revenue growth is solid and driven primarily by industry-leading referral sales penetrating new Medicaid markets with Personal Emergency Response or PRS. Going beyond PRS, our monitoring and innovation teams are making meaningful strides in exceeding our customers’ expectations by improving quality measures and increasing member satisfaction, while reducing cost. Additionally, our sales team has taken advantage of these new capabilities, having closed 17 new programs this year, including six this quarter.

Our customers find our services make a real difference, beyond the services that we provide. We’re not just sending emergency alerts to case managers. We’re providing insights that improves patient care, while driving down costs. For example, a recent pilot study with a leading commercial payer showed that members who are integrated with our tech-enabled care center anchored by our foundational support of care services experienced a remarkable 71% reduction in costs. This pertained to individuals with disabilities, the elderly and those in need of long-term care services. Understandably, this customer is eager to expand with us to the next phase of the program. Digital risk assessments are another example of our innovative offering. Unlike our customers, who struggle to proactively risk stratify the population because of the challenges they face, engaging their members, we can do it and if this is unique.

These new value-added services on the shoulders of our trusted relationships and differentiate us from our competition, we’ll share more about the financial aspects of these new services when we discuss our plans for 2024 early next year. Next, a quick update on our equity investment in Matrix Medical, which holds significant value. Matrix has consistently performed well over the last few quarters, aligning with our monetization expectations for adjusted EBITDA between $50 million to $100 million. We own 43.6% minority stake in Matrix, and we remain aligned with our partner on a timeline to monetization. We look forward to unlocking its unrealized value, as it also helps to fortify our balance sheet, further positioning us to capitalize on growth opportunities.

Before handing the call over to Barb, I want to extend my deepest appreciation to the entire ModivCare team for their relentless dedication and effort. The past year presented a number of changes, each with a set of challenges, yet the team has undeniably fortified our foundation. Our robust third quarter results, not only underscores the financial resilience of our platform, but also highlights the substantial cash flow generation of our business. This, in turn, aids in our deleveraging so we can focus on growth and driving long-term shareholder value. Now I’d like to pass the call to our CFO, Barb Gutierrez, who will provide an overview of our financial performance for the third quarter. Barb?

Barbara Gutierrez: Thank you, Heath, and good morning, everyone. Before I provide the third quarter financial review, I’d like to say that I’m thrilled to be here and very excited for the future of ModivCare. As Heath mentioned in his remarks, our quarter was highlighted by strong free cash flow of $45 million. NEMT adjusted EBITDA margins improved by about 150 basis points sequentially to 7.3% as repayment of $43.5 million on our revolver, which reduced our bank-defined net leverage ratio to 4.6x. Third quarter 2023 revenue increased 6% year-over-year to $687 million driven by approximately 6% growth in our Mobility segment, 6% growth in our Personal Care segment and 5% growth in Remote Patient Monitoring. Net loss was approximately $4 million.

However, adjusted net income was $20 million or $1.44 per diluted share. Adjusted EBITDA in the third quarter was $51 million. G&A expense was lower on a year-over-year and sequential basis due to leverage created from our restructuring efforts, net of strategic reinvestments made in innovation and growth activities. We will continue to balance our opportunities to drive efficiencies and leverage in our cost structure, while promoting and generating growth. NEMT third quarter revenue of $486 million was driven by a 10% increase in paid trips, partially offset by a 4% decrease in revenue per trip. The decrease in revenue per trip was attributed to 3% lower purchase services expense per trip, which flows through to revenue in our shared risk contracts.

Total membership decreased 6.6% year-over-year to 33.7 million members. On a sequential basis, average monthly members during the quarter decreased 2%, driven primarily by the impact from Medicaid redetermination, which was in line with our expectations. Sequentially, NEMT gross margin increased 80 basis points as transportation cost per trip decreased 5% sequentially to $41.21. While payroll and other costs per trip decreased 1.5% to $7.30, driven by our strategic initiatives to improve unit cost through our multimodal delivery strategy and our omnichannel communication strategy, respectively. Paid trip volume in the third quarter increased 1% sequentially and monthly utilization per member increased to 8.7% compared to 8.5% in the second quarter, which was in line with our expectations.

As a result of our strategic initiatives, NEMT adjusted EBITDA for the third quarter was $35 million or 7.3% of revenue, which was a 150 basis point sequential improvement from 5.8% in the second quarter. The improvement was driven by a $4 million reduction in adjusted G&A as well as improved gross profit per trip. During the quarter, Medicaid redetermination reduced our Medicaid membership by approximately 1 million members, bringing our Medicaid membership to approximately 27 million members. Since April 1, redetermination has adversely impacted our Medicaid membership by about 5% and is tracking in line with our original target of a 10% to 15% growth impact on membership. Redetermination impacted adjusted EBITDA by approximately $3 million in the third quarter, and the effect was all within our full risk contracts.

The impact was in line with our expectations for the quarter and our full year expectations. We continue to expect the impact of redetermination for the second half of 2023 to be $5 million to $10 million, which is reflected in our guidance. We also continue to expect a $20 million to $40 million adjusted EBITDA impact from redetermination in 2024. It’s important to remember that we are materially protected from redetermination on our shared risk contracts, which account for 65% of our NEMT revenue. Even though we’ll lose some Medicaid members in shared risk contracts, we will receive a corresponding increase in revenue PMPM on the remaining Medicaid members, resulting from higher utilization because of the construct of these contracts, thereby protecting our gross margin dollars on the majority of the NEMT business.

Our risk or exposure to redetermination is primarily on the members we lose in full risk contracts, which account for approximately 20% of our NEMT revenue. Turning to our Home division. Third quarter Personal Care Services, or PCS revenue increased 6% year-over-year to $180 million, driven by a 2% growth in hours and a 4% increase in revenue per hour. Third quarter PCS adjusted EBITDA was approximately $18 million or 9.8% of revenue, which is in line with our commentary from last quarter, and at the lower end of our long-term expected range of 10% to 12%. In our remote patient monitoring or RPM segment, revenue increased 5% year-over-year to approximately $20 million driven by new referral sales and business wins. While year-over-year growth this quarter was lower than prior quarters, we expect growth to rebound going forward and still expect full year revenue growth in our long-term range in the mid-teens.

Third quarter RPM adjusted EBITDA was $7.2 million or 36% margin. We continue to expect long-term RPM adjusted EBITDA margins will be in the mid-30% range. Our monitoring business is performing well and 2023 is proving to be one of its most productive years for winning new deals, referrals growth and adding strategic programs with customers. Turning to our cash flow and balance sheet. During the third quarter, we generated strong free cash flow of $45 million, driven by cash flow from operations of $53 million less capital expenditures of $9 million, which was 1.3% of revenue. Positive operating cash flow was driven by lower working capital needs as contract payables was a source of $24 million and contract receivables was a use of $9 million for a net benefit of $15 million.

Now that contract payables and receivables are at more normalized levels, going forward, we believe the net balance of payables and receivables could be plus or minus $20 million to $30 million annually in either direction based on our contracts and timing of payments and settlements. During the third quarter, we repaid $43.5 million on our revolving credit facility, ending the quarter with a balance of $83 million as of September 30, 2023. Our $1 billion of long-term senior unsecured debt was flat sequentially and at fixed rates with a weighted average cost of long-term debt at 5.4%. In the fourth quarter, we have semiannual interest payments of approximately $30 million, which means our free cash flow is expected to be nearly flat after these payments.

This still puts us on track to achieve our second half of 2023 target of repaying $30 million to $50 million on our revolver. Our bank-defined net leverage ratio declined sequentially to 4.6x as of September 30, 2023 compared to 4.7x in the second quarter. Our primary use of free cash flow going forward will be to pay down on our revolver and delever as we remain committed to a disciplined capital allocation strategy. There’s an updated cash flow bridge in our quarterly investor presentation on our IR website, which illustrates cash flow for each quarter. Frequently, we are asked about the refinancing plan for our 2025 unsecured senior notes. As a reminder, the interest rate on these notes is 5% and 7%, 8%, and the bonds mature in November of 2025.

We are diligently assessing options based on deep market insights and actively monitoring market trends to determine the optimal time to refinance with the goal of maintaining the maximum flexibility in our capital structure. Turning to our 2023 guidance, we are maintaining our guidance for revenue in a range of $2.75 billion to $2.8 billion and adjusted EBITDA in a range of $200 million to $210 million. However, we currently expect full year revenue to be near the low end of our guidance range due to lower revenue pass-throughs in mobility as a result of lower-than-expected purchased services expense per trip. In summary, we are extremely encouraged by the financial results and significant cash generated in the third quarter. We continue to make progress on our strategic initiatives and the results are showing up in our operating metrics which all trended in the right direction this quarter.

We still have more work to do, but it’s great to see the progress and the momentum. I’d like to thank Heath and the team for welcoming me. And once again, I’m thrilled to be here. I know it’s all our team members from our caregivers and drivers in the field to all of our support functions that make our company succeed and provide high-quality service and care to our 34 million members. I want to express a heartfelt thank you to all of our team members for their passion and commitment. I also look forward to speaking with and meeting many of you on this call over the next several months. This concludes our prepared remarks. Operator, please open the call for questions.

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Q&A Session

Operator: [Operator Instructions] Our first question comes from Pito Chickering with Deutsche Bank. Please proceed.

Pito Chickering: Good morning, guys. Thanks for taking my questions. On NEMT, you talked about this in the script, but if you can just go back, looking at sort of 2Q to 3Q, revenues were a bit softer due to the revenue per trip and the utilization ticked up 8.5%, 8.7%. You have lower G&A and also lower service expense per trip. Just trying to understand how the utilization goes up sequentially, but service trip expense goes down. How sustainable are these G&A levels and service per trip? And how much of these savings are from G&A from automation or getting better costs and drivers.

Heath Sampson: Yes. Pito, so first, on the revenue side, as you – from an NEMT perspective, the big discussions that we’ve been having for the last quarter and this continues as well, it all kind of relates to our pass-through revenue, shared risk contracts and those. So that’s the main driver for the revenue being lighter is the nature of our shared risk contracts and not as much pass-through as prior quarters. So again, contract is working, which is why we automatically go to what does that mean to the bottom line for us, really, which is the EBITDA and the margin improvement you’re seeing. So you see strong EBITDA dollars and also margin recovery A lot of that is the phenomenon that I talked about with revenue being a little bit lower.

But it’s also the initiatives that are starting to take hold, whether that’s in service expense for G&A. So we’re getting leverage. We’re seeing automation and it’s starting. So it’s strong margins improvement. We’ve got a way to go still, but we’re on the right track, and we’re performing as expected.

Pito Chickering: Okay. So just be clear, sort of these margins are the right ones to model in the near term for NEMT?

Heath Sampson: Yes. The right way to think about it then continue to improve. This one was a little bit higher because of the revenue being a little bit lower, but we’re making progress, and we expect the margins to continue to tick up each quarter as we get into 2024 and exit 2024.

Pito Chickering: Okay. And then on cash flow, you talked about payables and receivables for at these normal levels, and that’s $20 million, $30 million swing annually. I guess, looking specifically at DSOs, they’re down significantly to about 26.8 days, which is the lowest I actually have in my model. Is this the right run rate going forward? Or anything is a onetime in the collection process. Do you have any cash flow guidance we should be thinking about for fourth quarter? Thanks so much.

Heath Sampson: Yes. So the DSO is sometimes hard to calculate because of the capitated nature of our contracts. So you’re looking at it right. But the way I would talk about DSO is from our receivables within our around six to nine months payment terms and our payables are around nine to 12 month payment terms. And those are big contracts. So sometimes you see it being a little bit lumpy each quarter because of those payment terms. But unlike in the past where we had to – had a lot of payables because of COVID, now they’re at a more matching level. So we expect that the swings will be as large as the swings that we have now are right in line with our expectations, and I would expect to see those each quarter these more normalized, but still have some swings each quarter, whether that’s positive or negative from a net perspective on receivables and payables.

And then to do with the cash flow, consistent with what we said last quarter, we gave a second half year guidance of $30 million to $50 million. And why we gave a second half year is because, one, we’re generating cash, as you see. We expect to continue that fourth quarter and beyond. But in the fourth quarter, we also have our twice a year interest payment of about $30 million as well. So obviously, with being $45 million of cash generation now, we feel really good about hitting our target between $30 million and $50 million for the end of the year as well.

Pito Chickering: Great. Thanks so much. Nice quarter.

Heath Sampson: Thank you.

Operator: Our next question comes from Bob Labick with CJS Securities. Please proceed.

Bob Labick: Good morning. Congratulations on a strong quarter, and welcome to Barb and looking forward to working with you.

Barbara Gutierrez: Thank you, same, looking forward to working with you.

Bob Labick: Great. So I wanted to start, you gave us a ton of good information. You talked about redetermination and you talked about some additional contract wins. Can you give us a sense of kind of member numbers over the next six to 12 months and how it plays out? And maybe more so just listening to your script too, discuss it a little bit in the context of full risk member number changes as we play out. Your wins come in, redetermination goes out, just to kind of give us a sense of your visibility and what we should expect over six to 12 months?

Heath Sampson: Yes. So from a win perspective, again, we couldn’t be more proud of the team that we have in place, whether that’s in people that have been hired to do hunting, whether that’s account management, that it’s growing, whether that’s marketing, whether that’s products. Our entire new go-to-market strategy is taking hold and resonating. And we are winning, and we’re getting lots of attention in the market. So we’re giving these kind of guidance – not guidance – we’re giving results every quarter around kind of TCV, or total contract value. Why we’re doing that is, is be successful. And then in addition, it’s more than one year. So we’re going to – you’re going to start seeing the stacking of our revenue coming in. As we know, it’s still a long sales cycle and a lot of these wins that we’ve recently had, a lot of it is going to come on in ’24 or mid-’24.

So we’re still kind of recovering on how we’re going to flow through the revenue, but we feel really good. So the right way to think about the membership is kind of the contracts where you’re winning are not any different from a pricing perspective or volume perspective of what we had in the past. So you just take the revenue and you divide it by the numbers of members. So we haven’t guided to the membership increase, but we’re winning more than what’s coming out the door, and we feel really good about the revenue side of things. And then that’s a really important driver for us to continue to get scale on our expenses and in our G&A, and you’re seeing that now, and that will continue into 2024. But the other item within redetermination that needs to happen and is happening is to modernize and automate our platform within NEMT.

And that’s happening, and we started to give some metrics and guidance around that. And that will – that coupled with revenue. We feel really good about managing our redetermination. We reconfirmed what redetermination is. We feel really good about it. We were right on in predicting what is happening in 2023. This gives us more conviction on what’s happening in 2024 as well. So anything else Barb, would you add?

Barbara Gutierrez: Yes. The only thing we did mention that we do think, overall, the impact on our membership will be in that 10% to 15% range in terms of membership from redetermination.

Bob Labick: Yes. Got it. Okay. Great. And then just you kind of alluded to this a little bit, but maybe discussing the actions that you’re taking in order to drive the $30 million to $50 million in savings, I think you bucketed maybe multimodal omnichannel membership and digital customer integration on the right slide. Can you give us a sense of kind of order of magnitude, which are the like, not exact dollars, but the most money is coming from multimodal or which is the highest and which is lowest in terms of those savings and how hard they are to get them.

Heath Sampson: Yes. So omnichannel member engagement, so that’s the – how we engage with our members, whether that’s on the phone or via technology, that’s probably 50-plus percent of the cost savings. The multimodal is probably another 20%, 25% and then the delta is in that kind of digital customer integration side. So all those, specifically the first 2, the omnichannel and the multimodal, are initiatives that are starting some further along than others, but we have a really strong plan. We’re making a lot of progress, specifically the automation of our – in the omnichannel side. We have our app up and running. It’s one of the top apps within Apple Store and within the other – Google, yes. So we’re really doing well, text is improving.

We had a message that went out a couple of weeks ago about us moving to Genesys, that coupled with bots. So we’re really happy about our omnichannel approach as well as multimodal. Multimodal for us has been a long strategy for us, and it’s a strategic shift, ensuring that we are moving to partners within the transportation providers. So we’re really narrowing the network and giving volume. Uber and Lyft are partners of ours, and we’re integrated more with them. So you just go across the board. There’s numerous initiatives under each of these. So yes, lots of execution hard, it’s just worked to us. And we feel really good about getting that $30 million to $50 million within next year. And even more so, if you look at the cost base, which is made up of manual people right now, we feel really good about the $60 million to $80 million in total.

And the last one on digital. And this is – this does get cost out, but it also is really high on customer satisfaction. And that’s where we are integrating and providing data to our customers so they can properly manage the member experience and even start changing outcome. So all three of these are getting cost out. All three of these are having higher member satisfaction and higher customer satisfaction and couldn’t be more excited about the team we got in place. And we will keep updating you every quarter on these metrics, these per trip metrics that really show that we’re making progress.