R1 RCM Inc. (NASDAQ:RCM) Q1 2024 Earnings Call Transcript May 8, 2024

R1 RCM Inc. misses on earnings expectations. Reported EPS is $-0.08349 EPS, expectations were $-0.05. R1 RCM Inc. isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Thank you for standing by and welcome to the R1 RCM First Quarter 2024 Earnings Conference Call. [Operator Instructions] A reminder that this conference is also being recorded. I would now like to turn the conference over to Evan Smith, Senior Vice President, Investor Relations. Please go ahead.

Evan Smith: Thank you, operator and thank you everyone for joining us today. Certain statements made during this call maybe considered forward-looking statements pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. In particular, any statements about our future growth plans and performance, including statements about our review of strategic alternatives, our strategic and cost savings initiatives, our liquidity position, our growth opportunities, our future financial performance and the impacts of the Change Healthcare cyber attack and a customer bankruptcy on our business are forward-looking statements. These statements are often identified by the use of words such as anticipate, believe, estimate, intend, design, may, plan, project, would and similar expressions or variations.

Investors are cautioned not to place undue reliance on these forward-looking statements. All forward-looking statements made on today’s call involve risks and uncertainties. While we may elect to update these forward-looking statements at some point in the future, we have no current intention of doing so except to the extent required by applicable law. Our actual results and outcomes may differ materially from those included in these forward-looking statements as a result of various factors, including, but not limited to, the impact that the review of strategic alternatives could have on our business or our stock price, the outcome and timing of the review of strategic alternatives, economic downturns and market conditions beyond our control, including high inflation, the quality of global financial markets, our ability to timely and successfully achieve the anticipated benefits and potential synergies of the acquisitions of Cloudmed and Acclara, our ability to retain existing customers or acquire new customers, the development of markets for our revenue cycle management offering, variability in the lead time of prospective customers, the later unsuccessful implementation of our technologies, including AI, competition within the market and factors discussed under the heading Risk Factors in our most recent annual report on Form 10-K.

Certain results that will be referenced on this call maybe rounded to the nearest whole number. We will also be referencing non-GAAP metrics on this call. For a reconciliation of non-GAAP metrics to the most closely comparable GAAP metrics, please refer to our press release. Now let me turn the call over to Lee. Lee?

Lee Rivas: Thank you, Evan and good morning everyone. Our first quarter 2024 revenue results reflect positive trends in the underlying business as we continue to demonstrate our ability to drive value for our customers. The quarter includes Acclara’s contributions from the closing date in January, investments to onboard Providence, and continued investments in our multiyear technology transformation. We believe these technology investments will enhance our platform and drive innovation with new AI and advanced automation tools and solutions and development. We delivered approximately $604 million in revenue and $152 million in adjusted EBITDA for the first quarter. Before I provide more detail on our progress in the quarter, I want to reinforce my commitment and belief in R1’s vision and strategy to deliver long-term sustainable growth and performance to our shareholders.

Our vision is to be the automation platform of choice for the provider industry. We are distinctly positioned to solve a highly complex problem across the provider ecosystem with our combination of technology, global scale and industry expertise to deliver revenue yields and cost reductions to the largest health systems and physician groups in the country. Today, we operate with the most scale of any technology and services provider in our space with over 90 of the top 100 health systems as their customers. Our addressable market is large at over $100 billion and growing and we are well positioned to win more than our share of this growing market over time. Technology is the foundation of our strategy, our value proposition to customers and our place in the industry.

We apply automation, AI and large-scale analytics to the revenue cycle. We have visibility to large sets of structured and unstructured data across over 500 provider customers. This is where the scale of our platform matters most. For example, we apply machine learning models to automate clinical appeals and reduce payment timelines. We see clinical care episodes across all payers, all care settings and all reimbursement model types, enabling us to apply models to validate certain charges and reimbursement levels for underpaid claims. These examples scratch the surface on the potential for the application of automation and AI when we are embedded in our customers’ workflow. Global service capabilities are also core to our strategy. We are unique and that we operate our own facilities with our own people, our own processes and IP.

The combination of technology plus global scale is what allows us to deliver best-in-class unit economics and increased revenue yield to our customers. Now, let me shift to execution on our priorities and our near-term outlook. We enter 2024 in a strong position to support long-term growth and improve performance. We have executed for our end-to-end clients, achieved solid bookings for our modular solutions, closed the Acclara acquisition, and started our 10-year strategic relationship with our largest new enterprise customer. We believe the continued strength of our commercial engine, delivering results to our existing clients and ongoing investments in AI-driven technology and solutions will further support our growth throughout 2024 and over the coming years.

Now, let me turn to the Change Healthcare cyberattack, which had an impact across the healthcare industry. Given the central role R1 plays in the revenue cycle for our large, diversified customer base, it has impacted our near-term operating performance as well. Our operating team mobilized quickly and worked closely with those affected. In a matter of weeks, the team was able to successfully migrate 100% of affected customers to alternative clearinghouses. We also implemented technology and automation solutions to help mitigate both near-term and longer term impacts surrounding claim submissions, processing and ultimately, cash collections. Our unified data exchange, which is designed to integrate with every major EMR, payer, clearinghouse, bank and other data sources enabled R1 to support the implementation of alternative solutions and uphold data integrity and facilitate connections.

We believe the challenges faced by providers as a result of the cyberattack have the potential to enhance demand for partners like R1 over time. Over the past several months, we have made progress against each of our focus areas for the year. As a reminder, these are: one, ensuring our growth strategy aligns with customer needs to meet them where they are on their revenue cycle journey; two, continuing to deliver excellent operational results to our customers to maximize revenues and cash yield in these challenging times; and last, executing our technology road map to deliver innovation on behalf of our customers and drive measurable results above and beyond what they would otherwise be able to do on their own. First, our growth strategy. During the quarter, we saw traction with our flexible engagement model, enabling R1 to quickly align with new customers wherever they are in their revenue cycle journey.

We demonstrated continued strength in our modular bookings and expanded our end-to-end pipeline, enhancing its breadth with additional opportunities for medium-sized health systems. We are also gaining traction in our sales activities for our functional model, adding new opportunities to our pipeline, which will support additional embedded growth opportunities over time. Second, operational execution. Our modular business remains central to our business model, driving diversification delivering further cross-sell opportunities for both modular and end-to-end solutions and providing the core advantage of data visibility across a wide spectrum of provider customers. We are succeeding in cross-selling and have grown to an average of more than three modular solutions per customer with a long runway to drive additional growth.

During the quarter, there was considerable interest in our physician advisory solutions, DRG validation, charge capture and underpayments and we expect to see an increase in demand for denials and AR recovery going forward as a result of the Change Healthcare incident. Let me provide a couple of examples of our commercial success. We are already expanding the managed services, our functional partnership we discussed in our year end 2023 earnings call, having signed two new modular solution offerings in the recent quarter for both underpayments and retrospective Medicare bad debt. Another example is a long-standing multibillion-dollar NPR modular customer who uses most of our solutions, which further expanded the business for AR recovery solutions.

Over the last 3 fiscal years, we have delivered over $60 million in value to this customer in AR recovery and denial solutions alone. We are also seeing success with regional hospitals. In 2023, we contracted with a $400 million NTR regional hospital to provide DRG and charge capture solutions and were named vendor of choice for our CDI total Performance Solutions. In the first quarter, we added a larger deal for inpatient clinical denials and we are in discussion to expand our relationship across multiple solutions. Finally, we are also executing on our technology road map. With access to large-scale clinical financial and patient data powering our technology platform and advanced analytics, R1 remains at the forefront of helping leading providers transform their approach to financial performance and patient engagement.

We have continued to apply technology to the revenue cycle to help our customers drive cost and revenue improvement. We have increased our technology investment in key areas of the revenue cycle to develop new Gen AI solutions to further enhance or eliminate processes and leverage our global scale to address critical issues for our customers. In 2023, you heard me discuss several large language models that were launched. This included denials automation, next action prediction for AR management and physician evaluation and management coding. As a result of these automations, we have identified additional value for our customers, improve the efficiency of our operators and expanded our quality assurance capabilities enabling continuous technological advancement and improvement.

We anticipate launching several new solutions throughout 2024, which will put us at the forefront of innovating on behalf of our customers. An example of a particularly high impact use case delivered this quarter was our clinical appeal summarization large language model. This model is designed to reduce the time spent on denial appeal generation by 75% from an hour on average to 15 minutes. Instead of taking time to read through hundreds of pages of medical records, crafting the appropriate clinical argument and drafting an appeal, this model is designed to complete this process and generate a draft letter. Our auditors then complete quality control to validate and edit the content if needed. We expect this use case will expand over time as we continue to review additional areas of our business that could utilize this automated drafting capability.

In summary, we believe our vision to be the automation platform of choice for the provider industry is clear and achievable. Our strategy to meet providers where they are in their needs today matches a large and growing $100 billion addressable market, and we expect will help us continue to grow and further diversify our business. Lastly, our value proposition to the provider industry is strong, combining technology, global scale and the best people in the industry. Thank you. And with that, I’ll turn the call over to Jennifer to discuss our quarterly financials and updated outlook.

Jennifer Williams: Thank you, Lee and good morning everyone. Our first quarter financial results demonstrate the progress we are making on some of our financial objectives despite some disruption in the industry, as Lee just discussed. We delivered solid results in the first quarter with revenue of $603.9 million and adjusted EBITDA of $152.2 million. These results demonstrate continued strength across the business. As Lee mentioned, we are pleased with our ability to respond quickly on behalf of our customers to mitigate disruption across the industry by the Change Healthcare cyberattack. Overall, approximately 50% of our customers’ volumes flowed through the impacted vendor systems with some impacted more significantly than others.

We estimate that the disruption impacted the company’s results by $9.5 million for both revenue and adjusted EBITDA in the first quarter. As Lee mentioned, we also had a large customer of our modular services filed for bankruptcy protection earlier this week. We did not record revenue for any unpaid work completed in the quarter and we are fully reserved for all outstanding AR balances. This is the same customer that we reserved for in late 2023 as they were experiencing financial challenges. I will provide some details on these impacts in just a moment. But first, I want to give you an update on the financial results for the quarter. Total revenue grew by 11% year-over-year, which included growth in our base business as well as the contribution from Acclara since we closed the acquisition on January 17.

This growth was partially offset by client attrition and facility divestitures we discussed last quarter, as well as the changed healthcare outage and the bankruptcy of one of our modular customers that was filed earlier this week. Net operating fees of $381.5 million grew approximately 6% and or $20.5 million year-over-year. This was mostly driven by the $19.2 million contribution from Acclara. Low single-digit growth in cash collections across our end-to-end customer base was offset by known attrition in the physician business and expected facility divestitures. The Change Healthcare cyberattack had no impact on our net operating fees in the quarter, due to the lag of collections used in our base fee revenue calculations. Incentive fees were $15.6 million, which was below our expectations, primarily due to the Change Healthcare outage.

This incident negatively impacted balance sheet metrics related to cash and AR that gets measured at the end of each quarter. We also expect the outage to impact our full year revenue as some of these metrics will remain elevated for the next few quarters. Our modular and other revenue of $206.8 million grew by 28% or approximately $46 million year-over-year, driven by the addition of Acclara revenues as well as the expansion of services to existing customers and new customer contracts. This was partially offset by the impact of both Change Healthcare and the customer bankruptcy. Turning to expenses for the quarter. Non-GAAP cost of services in Q1 was approximately $401 million, up roughly $39 million year-over-year. This includes approximately $46 million related to Acclara.

Excluding Acclara, our underlying business expenses decreased due to the margin maturity on end-to-end customers, realization of synergies and benefits from technology, offset by investments we continue to make in our tech platform. Non-GAAP SG&A expenses were $50.6 million, up approximately $9 million from the prior year. This increase is driven by a $6.7 million of expenses related to Acclara as well as timing of expenses and corporate functions. Our adjusted EBITDA for the quarter was $152.2 million, which was in line with our internal expectations even after the impact from the incidents we faced this quarter. Continued cost discipline and the timing related to some Providence related investments, which are now expected to occur over the next few quarters, reduce the impact of the lower incentive fees in the quarter.

Lastly, we incurred $39 million in other expenses. This included roughly $16 million of transaction costs related to the Acclara acquisition. Now let me provide a couple of comments on cash flow and the balance sheet. As I previously discussed, cash generation remains a focus for the company. Cash and cash equivalents at the end of March were $178 million compared to $173.6 million at the end of December. For the quarter, we generated $46.7 million in cash from operations. Net debt at the end of the quarter was $2.1 billion, up approximately $651 million for the end of December. This increase reflects the additional debt and term loans and revolver borrowings for Acclara. Our liquidity also remained strong with approximately $697 million at the end of March.

This is both from cash on our balance sheet, and borrowing capacity on our revolver. Now let me move to our 2024 outlook. As a result of the Change Healthcare cyberattack, we’re updating our outlook to reflect the expected impact on revenue and adjusted EBITDA for the full year. We now expect revenue of $2.6 billion to $2.64 billion growing 15% to 17% year-over-year, GAAP operating income of $85 million to $105 million and adjusted EBITDA of $625 million to $650 million. These expectations reflect the full year 2024 impact of the Change Healthcare cyberattack and the contribution of Acclara as well as the new contract with Providence. As a reminder, R1’s revenue is tied to cash collections, which was impacted by the Change Healthcare cyberattack.

As Lee indicated, while we’ve successfully transitioned our clients to alternative clearinghouses the disruption will impact the timing of net operating fee revenue as we move through the year. Specifically, we expect a large shift in timing between our Q3 and Q4 and net operating fee revenues based on the backlog of claims and cash during March, April and May. We expect most of the cash from these claims will be settled by August, which is the last month of collections that will drive our Q4 net operating fees. At this point, given our utilization outlook has not changed, we believe the impact to net operating fee revenues is just a shift in timing between the quarters. As we experienced in the first quarter, we do expect a reduction in incentive fees in the full year as we will not be able to earn back lost revenues from missed balance sheet metrics for AR and cash until the recovery is complete.

In total, for the full year, we expect the impact from the outage will be approximately $20 million in revenue and approximately $25 million in adjusted EBITDA. This is driven by the revenue impact I just mentioned and additional costs of approximately $2 million per quarter for the rest of 2024, primarily related to the backlog of claims and manual efforts that will be required to support our clients. Our outlook also assumes the following: low single-digit year-over-year growth for our net operating fees from existing customers. Customer attrition and facility divestitures are consistent with our original outlook. We also remain confident in the onboarding of Providence and expect that contract to be materially in line with our previous guidance.

With respect to Acclara, we are revising our outlook to reflect that we plan to harmonize certain lines of business and customer contracts. We anticipate this will support our adjusted EBITDA outlook as we move into 2025. As a result, we now expect Acclara to contribute approximately $275 million to $280 million of revenue in 2024. $25 million of adjusted EBITDA is consistent with our original guidance. We expect modular and other revenue, excluding the impact of Acclara to grow low double-digits. Regarding the client bankruptcy, we have not removed the revenue from our outlook given RCM service providers were designated as critical vendors in the filing early this week. We estimate $45 million in modular revenue for this customer in our full year outlook.

Based on the above factors, we now expect adjusted EBITDA to be in the range of $625 million to $650 million. This outlook also assumes capital expenditures of approximately 5% of revenue; other expenses of approximately $105 million to $120 million, including Acclara transaction costs and integrated related expenses; interest expense in the range of $175 million to $180 million, including the increased debt to fund Acclara; and depreciation and amortization expense of $330 million to $350 million. In closing, we had a good quarter, and we are pleased with the great work from our 30,000 global colleagues. We came together as a team this quarter, and I’m incredibly proud and grateful to work some of the best healthcare experts in the industry to deliver for our customers.

With that, I’ll turn it back over to the operator.

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