This conference call transcript was computer generated and almost certianly contains errors. This transcript is provided for information purposes only.EarningsCall, LLC makes no representation about the accuracy of the aforementioned transcript, and you are cautioned not to place undue reliance on the information provided by the transcript.
spk08: ladies and gentlemen thank you for standing by my name is brent and i will be your conference operator today at this time i would like to welcome everyone to the r1 rcm inc third quarter 2022 earnings conference call all lines have been placed on mute to prevent any background noise after the speaker's remarks there will be a question and answer session If you would like to ask a question at that time, simply press star followed by the number one on your telephone keypad. If you would like to withdraw your question, again, press star one. Thank you. It is now my pleasure to turn today's call over to Mr. Atif Rahim, head of investor relations. Sir, please go ahead.
spk09: Thank you, Brent. Good morning, everyone, and welcome to the call. Certain statements made during this call may be 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 cost-saving initiatives or liquidity position, growth opportunities, and future financial performance are forward-looking statements. These statements are often identified by the use of words such as anticipate, believe, estimate, expect, intend, design, plan, project, would, and similar expressions or variations. Investors are cautioned not to place undue reliance on such forward-looking statements. All statements made on today's call involve risks and uncertainties. While we may elect to update these looks and statements in the future, we have no current intention of doing so, except to the extent required by applicable law. Our actual results and outcomes with different materially footprints was included in this forward-looking statement as a result of various factors. including not limited to geopolitical, economic, market conditions, high inflation, slow growth or recession, and other risk factors discussed under the risk factors heading in our most annual report on Form 10-K and our quarterly report on Form 10-Q. We will also be referencing non-GAAP metrics on this file. For reconciliation of non-GAAP amounts mentioned to the equivalent GAAP amounts, please refer to our press release. Now, I'll turn the call over to Joe.
spk14: Thank you, Atif, and thank you all for joining us today. I'd like to start today's call by reviewing our Q3 results and business outlook, and then discuss the leadership succession plan we announced this morning. I'll then turn the call over to Lee for additional comments, followed by Rachel to cover financials in more detail. Starting with Q3 results, we made progress on our strategic priorities, including integrating CloudMed, advancing our technology roadmap, and onboarding new customers. all of which keep us on our long-term growth and profitability trajectory. However, our results fell short of our expectations for three main reasons. First, the largest impact to Q3 revenue and adjusted EBITDA was lower incentive fee revenue. Two factors are affecting incentive fees. We experienced an elongation in payer reimbursement turnaround times, which in turn impacted several key performance metrics that our incentive fees are tied to, We have initiated a detailed plan to reduce these turnaround times, including the following, increasing our operating standards for frequency of follow-up, engaging with payers via our provider customers to ensure accounts receivable are handled in a timely manner, and via CloudMed, expanding our capacity to respond to a marked increase in clinical review requests from payers. While we are confident that payer turnaround times will improve, we currently anticipate continued impact on our performance into 2023. Incentive fee revenue was also lower than we expected due to volatility in KPI metrics at two operating partner customers where we commenced onboarding in 2021. These customers have unique complexities, which is resulting in us taking longer to achieve our expected performance goals. We have implemented remediation plans and have line of sight to return to our financial performance targets when these customers are in the steady state phase. Most importantly, our long-term earnings potential from both of these customers remains unchanged. Second, net operating fees were lower than expected, primarily due to weaker volumes and consolidation that was unfavorable to us in the emergency department physician space. Third, we increased our allowance for credit losses by $9.5 million to account for financial challenges facing one of our large emergency department aggregator customers, which directly impacted adjusted EBITDA in the quarter. CloudMed performed well in the quarter with revenue of $120.2 million and strong year-over-year growth. Revenue from R1's legacy modular solutions was flat year-over-year. As a reminder, one of the key growth and profit drivers underpinning the strategic rationale for the CloudMed acquisition is the ability to accelerate growth for R1's legacy modular solutions via CloudMed's world-class commercial organization. We've consolidated accountability for Modular, and the teams have made significant progress preparing and launching legacy R1 modules, including entry pay and physician advisory services via the CloudMed commercial channel. Early indications from this activity are encouraging, with a number of large IDNs in active discussions. Based on the positive customer feedback and momentum we're seeing within CloudMed's core offerings, we're excited about the progress being made to fully unlock the growth potential of these combined offerings over time. Let me now provide an update on our customer onboarding activities. Onboarding at Sutter is progressing on schedule, and we have welcomed 800 employees to R1 to date, with roughly 700 employees transitioning just this past weekend. Our teams are focused on operational and technological readiness. We have also added 250 employees to provide incremental near-term capacity and respond to ongoing payer dynamics and to position us for a smooth transition. At Scion Health, training for select leaders and change management activities have been completed on plan and we continue to work through deployment baselining activities. Deployment activities at St. Clair Health are underway and progressing on plan with employees scheduled to transition later in the fourth quarter. One thing I would like to note is that the final scope of work definition at our end-to-end IDN customers can vary until baselinings complete. Geographic dynamics also affect the cost to collect percentage rates due to differences in payer reimbursement rates or local labor costs. To account for this variation, we're updating the illustrative contract economics for our end-to-end IDN operating partner contracts. The most notable change is moving the midpoint of revenue generated per billion of NPR from IDN customers to 4% from 4.5%. Importantly, margins remain unchanged across key phases of onboarding new customers, and we continue to expect 30% contribution margin at steady state. Onboarding of the physician customers we announced earlier this year, Kepler, Vision, Samsung Clinic, and EPPA are also progressing on schedule, with Samsung due for completion by the end of the year. Collectively, we're in the process of onboarding more than 8 billion of new NPR, and I'm pleased to say the deployment teams have been focused on meeting their deliverables as planned, preparing us for successful long-term relationships with our new customers. In light of our third quarter results, as we look out to the fourth quarter, we expect the factors I discussed earlier to continue to pressure our financial performance. While we expect modest recovery and incentive fees from Q3 levels, our expenses will be higher because we will incur incremental costs to respond to the challenges I highlighted above. We also expect net operating fees to be impacted by lower volumes than we had forecasted across both acute and physician customers. We are therefore lowering our 2022 revenue guidance to a range of $1.79 to $1.8 billion and adjusted EBITDA guidance range to $420 to $425 million. As we turn to 2023, while we're in the budgeting process and will not be providing formal guidance until January, our current view is that 2023 EBITDA is expected to be 10 to 15% below consensus estimates. Several key drivers for this updated view are as follows. We will be increasing our investment to ensure execution on our operating partner contracts exceeds our and our customers' performance goals. We expect this approach to maximize the long-term earnings potential of these contracts. We are assuming a longer ramp to higher growth for legacy R1 modular solutions than previously expected. However, as mentioned, the CloudMed commercial engine is exceeding growth expectations, and early indications from customers around the legacy modular solutions is very encouraging. We continue to believe there is meaningful future growth to unlock in these offerings. We expect higher technology investments to support our long-term growth strategy around a consolidated platform and data architecture. Finally, we are taking a cautious view in our budget assumptions for 2023 on a couple of environmental factors, namely the effect of inflation as well as consumer payments for patient out-of-pocket expenses. Given that we now expect lower results in the near term, it's important to emphasize our continued confidence in the four key drivers that underpin our long-term growth and earnings trajectory. First, we believe we have the best value proposition in the industry with a strong competitive position, as shown by the $13 billion-plus in new NPR signed onto our end-to-end platform in 2022. CloudMed's industry-leading revenue intelligence platform has unparalleled scale, serving 40% of the provider NPR across the country. Second, end market dynamics also remain strong. We believe R1 is better positioned to address ongoing macro challenges as a result of our technology coverage, global scale, and investment in automation. This is evidenced by our continued pipeline growth at our end-to-end offerings. In fact, our end-to-end pipeline is up more than 50% in Q3 compared to Q2. We also remain on track to commence onboarding of at least $9 billion in new NPR in 2023, inclusive of Phase 2 at Sutter. Third, we have a compelling financial model with high recurring revenue, a long runway for margin expansion via our automation efforts, and a strong balance sheet to fund future growth. Fourth, the integration with CloudMed is going very well, and we continue to be positive about the strategic rationale for the combination. We are seeing early signs of customer benefits, including additional revenue yield opportunities for our end-to-end customers associated with CloudMed solutions and benefits to our modular channel from best-in-class commercial engine and the ability to leverage CloudMed's technology and data platform across our infrastructure. Before I turn it over to Lee, let me discuss the leadership succession we held this morning. To provide some background, our board regularly discusses succession planning from a corporate governance standpoint. And given my tenure at the company, I have been actively involved in these discussions. As I approach 10 years with the company, including nearly seven in my current role, the board and I determined this is the right time to execute an orderly succession plan and turn the helm to new leaders at the company. I'm very pleased that Lee Revis, president of the company, will succeed me as CEO effective January 1st. John Sparby, chief operating officer, will succeed Lee as president, also effective January 1st. Lee will immediately assume the CEO elect title to facilitate his transition into the new role. Following the transition, I will continue to serve on R1's board of directors and serve as an executive advisor to Lee and the board to assist in the transition. Lee has extensive data and technology experience, strong leadership experience, and a deep understanding of the revenue cycle industry. As part of the CloudMed transaction process, I could see that Lee was the right person to succeed me as CEO. Since his appointment as president, we have been working together to ensure his broad-based engagement within the organization, meeting customers, and learning our business. I could not be more excited about the impact Lee will have in the coming years given his demonstrated track record of business performance, technology expertise, and proven ability to build high-performing teams. The board and I are confident that he is the right person to lead our company forward. I know R1 will be in capable hands under his care and stewardship. In closing, I'm very proud of what we've accomplished at R1 over the last seven years, from overhauling our operational infrastructure to advancing our technology roadmap and adding some of the leading health systems in the country onto our platform. It's been an exciting and fulfilling journey. Our accomplishments would not have been possible without the tremendous efforts of thousands of R1 team members across the globe. And I want to end by saying a heartfelt thank you to everyone for their help and dedication along the way.
spk13: Now I'll turn the call over to Lee. Thank you, Joe. First, I want to thank you personally for your support over the last several months and express my gratitude to our board of directors for this opportunity. I am excited to lead an amazing group of more than 26,000 associates who are working with our customers to simplify healthcare. What I'm most passionate about is that our business starts with an incredibly important mission to help providers solve a complex problem, managing revenues and enabling them to prioritize what they do best, caring for patients. This mission is important to our customers and to our team members. Second, I believe in our team members and I am humbled to lead a group of professionals who have deep expertise in technology, revenue management, and delivering for our customers at scale. Having run technology, data, and growth businesses for the last 20 plus years, my fundamental belief is that a strong mission coupled with an experienced, dedicated team is key to creating long-term value. Third, I want to emphasize that Joe and the team have created a very strong foundation. R1 has a long track record of successfully delivering both end-to-end revenue management and technology-led modular solutions for some of the top health systems and physician groups in the country and has the capacity to scale even further through technology and data. Together, our end-to-end and modular solutions touch over $800 billion of net patient revenue. I am confident that with our continued investment in technology and people, we will continue to deliver incredible results for our customers and team members. Next, I'd like to briefly discuss a couple of areas I've been leading at R1 as president. First, the legacy CloudMed business, which is part of our modular offering. This business's mission is to help solve a $100 billion revenue leakage problem through the use of advanced data and analytics and a team of revenue cycle experts working closely with our clients to ensure that revenue is captured. I am pleased to say that CloudMed continues to deliver strong results and is tracking ahead expectations coming into the year. Demand overall for CloudMed remains strong, given our unique capabilities and the ongoing labor-driven challenges that providers are facing. Second, integration of the two teams is progressing well. The team has completed several key components of our integration, including establishing our modular commercial organization, completing the back-office integration of HR systems, and consolidating our product and technology groups. The focus for 2023 will be on leveraging our modern technology platform across the R1 enterprise and further consolidating parts of our organization to drive efficiency and scale. Third, we continue to advance our technology agenda with an overarching goal of creating a revenue intelligence platform on a single database powered by our immense data assets at Legacy CloudMed, touching over 40% of the provider market. Our strategy will be focused on leveraging the cloud-based architecture deploying our clinical and payment data assets across R1, and building a best-in-class technology team. I am very excited about this part of the journey, and I'm confident that the application of technology will be a key enabler to drive even higher customer satisfaction, growth, and margin expansion. In closing, I'd like to emphasize the value Joe and the team have created over the last decade and the role he has played in creating a company I am now proud to lead. Thank you, Joe, for your dedication. your leadership, and your vision that helped create an amazing company. I look forward to working with you over the next several months as I transition into my new role. Now I'd like to turn the call over to Rachel.
spk06: Thank you, Lee. I want to start by thanking Joe for his leadership and transforming the company since joining in 2013. It's been a true pleasure to work together. I'd also like to congratulate Lee, and I look forward to continuing to work closely with you as we enter our next chapter at R1. Turning to our third quarter results. As Joe has covered the key trends and impacts on Q3 performance, I will focus my discussion on year-over-year and quarter-over-quarter comparison. Q3 revenue of $496 million was up 30.6% year-over-year, and adjusted EBITDA of $124 million was up 38.9% year-over-year, different by the contribution from the CloudMed acquisition. Starting with a detailed breakdown of revenue, net operating fees of $324.2 million, grew 15.7 million year-over-year and 5.9 million compared to Q2, primarily driven by contribution from Nuenta and customers. However, physician volumes came in below our expectations. Incentive fees of 20.8 million declined by 9.1 million compared to the prior quarter due to the payer dynamics Joe discussed, as well as our execution at two recent customers. On a year-over-year basis, incentive fees declined by 20.7 million due to a combination of these factors as well as a shift in incentive fees to net operating fees for one of our customer contracts, as discussed on previous calls. Modular and other revenue of $151 million was up $121.3 million over the prior year and $107.3 million over the prior quarter, driven by a $120.2 million contribution from CloudMed. Excluding the contribution from CloudMed, modular and other revenue was relatively flat year-over-year due to slower-than-anticipated growth of visit pay. The non-GAAP cost of services in Q3 was $326.9 million, up $59.4 million year-over-year, and $46.4 million relative to last quarter driven by the CloudMed acquisition, expansion of deployment capacity, and onboarding of new customers. Our automation and digitization efforts continue to offset the increase in cost of services, and we remain on track to generate $45 million in cumulus cost savings over a three-year period exiting 2022. Non-GAAP SG&A expenses of $45.1 million were up $22.2 million year-over-year, at $20.9 million relative to Q2 due to CloudMed acquisition, and a $9.5 million increase in allowance for credit losses related to a physician customer. Adjusted EBITDA for the quarter was $124 million, up $34.7 million year-over-year, and up $36.8 million compared to Q2. driven by contribution from CloudMed and partly offset by lower incentive fees in the quarter. Lastly, we incurred $30.1 million in other costs, primarily related to establishing our new business service center in the Philippines and integration expenses related to CloudMed. Turning to the balance sheet, cash and cash equivalents at the end of September were $131.1 million, compared to $163.5 million at the end of June. Our cash balance declined by $32.4 million quarter over quarter, As cash generated from operations of $26 million was more than offset by cash use of $31.9 million for capital expenditures, $14.3 million for debt pay down, and $12.6 million for share purchases. We repaid $14.3 million of our debt in the quarter, including a $10 million voluntary pay down on our revolver. However, net debt at the end of Q3 increased by $18 million quarter over quarter to $1.67 billion. due to the $32.4 million decline in cash balance for the reasons I just described. Our net leverage ratio, as calculated under our credit agreement, was 2.92 times, and we expect it to remain below three times in the coming quarters, given continued debt paydown and growth in EBITDA. $500 million, or approximately 30% of our floating rate exposure, is currently hedged at a rate of 3.01%. At current SOFR rates, the average interest expense across our debt portfolio is in the 6% to 6.5% range. Our liquidity position remains strong, with over $650 million of available liquidity. We intend to remain opportunistic with regards to share of purchases, as we'll be responsive to market conditions and other factors, applying a balanced approach towards capital allocation. Turning to our financial outlook, given the factors discussed on the call, we are updating our 2022 revenue guidance to a range of $1.79 billion to $1.8 billion, and updating our adjusted EBITDA guidance to a range of $420 million to $425 million. This includes the incremental allowance for credit losses recorded in Q3. This range implies Q4 revenue guidance of $516 to $526 million and adjusted EBITDA guidance of $120 to $125 million. Looking to 2023, as Joe mentioned, we anticipate providing formal guidance in January after completing our budgeting process. In closing, Demand for our solutions remain robust, and we are focused on successfully onboarding the new customers we asked earlier this year. That performed strongly in the quarter, and while we saw pressure on our incentive fees, we remain confident that the factors affecting performance should improve in the coming quarters. I look forward to continuing to update you on our progress towards our financial goals. Now, I'll just call over to the operator for Q&A. Operator?
spk08: At this time, I would like to remind everyone, in order to ask a question, Press star followed by the number one on your telephone keypad. Your first question comes from the line of Charles Rhee with Cowan. Your line is open.
spk02: Yeah, thanks for taking the questions. And Joe, congrats on the 10 years here and good luck with everything. And Lee, congratulations on the new position here and look forward to working with you. You know, I want to jump into, obviously lots on tax here, but maybe if I could ask about this issue with the payer elongation turnaround times. You've had a long track record of nothing like this seems to have come up before. Maybe can you go into a little bit more about this? And just trying to understand, you're saying it's going to go into 2023. Is this something that can be fixed with increased use of automation, or is this really a a people issue that you need to staff up more.
spk14: I think, Charles, thanks. And what I would say on this is, and we're in active discussions with all of our customers in a coordinated way just to work together to respond to this dynamic. In the short term, Charles, as I mentioned in my commentary, we are going to increase capacity because that's the main lever that we have. And so that capacity increase is really in two areas. One, and it's driven by changing our operating standards on frequency of follow-up and the number of times and on what cycle time we set that standard to work the receivable or the claim in the billing and follow-up process. Our follow-up touches are up about 17% in the trailing four weeks, and we continue to expect to hold at that capacity through Q3 and into Q4. We've also added capacity in our physician advisory services in partnership with the CloudMed team that has capabilities in that area as well, and that's to respond to increases in in clinical requests in the billing and follow-up process. So in the short term, that's the response that we are in the midst of putting in place. And we do expect that to yield results. Over the long term, we expect two things to happen. This to normalize. We don't think this is a structural change per se. We expect this to normalize and get back to the normal response times that we're used to. And then automation will absolutely continue to evolve in this area. This is an area where most of our cost sits in this function of our operating partner contracts. And so it's a high priority for us from an always on an ongoing basis from an automation standpoint.
spk02: And if I could just follow up, you know, obviously looking at the pre-market here, you know, shares are looking to open up down significantly again, and obviously the stock's been weak for a while. You know, you reiterated sort of the long-term growth outlook and the capacity building, the new business we're bringing on, obviously sounds like CloudMed's doing well. You know, I know that you have a bit of debt on the balance sheet, but what is the capacity here for the board to authorize a share repurchase or something, the statement for investors to see that obviously the board also has confidence and looks at the shares and feels maybe that it's undervalued or not reflecting obviously what we're facing is a short-term issue versus the long-term outlook. Thanks.
spk06: Hi, Charles. It's Rachel. We've had a balanced approach towards our capital allocation, and as you know, we have $478 million left in our repurchase authorization, $500 million total, because we did use in the quarter about $12 million.
spk02: Any thoughts to accelerate that, you know, given where shares are?
spk06: This is obviously an interesting time. We'll see how we open, but it's clearly an opportunity, and again, As we've discussed, I think on the long term, as we look at the factors and we look at where we are with the business and where we're heading, we remain very confident there's nothing different in our models, the margin profile, the longevity and durability of our contract.
spk03: So, yes, I would expect this would be a nice opportunity.
spk02: Great. Thank you.
spk08: Your next question is from the line of Sean Dodge with RBC Capital Market. Your line is open.
spk11: yeah thanks uh good morning and joe i'll i'll add my congratulations we're certainly uh certainly gonna miss you and and lee um congratulations uh as well to you um joe the the customers you mentioned implementing right now with unique complexities um we all know transitioning an entire revenue cycle is big and complicated that they're going to be bumpy you know i guess in a bigger scheme of things how unusual are the issues you're facing there compared to all the other implementations you've completed in the past and then the additional resources you're committing um you you said shouldn't affect the long run economics but maybe can you kind of parse out how much of an impact those will have in the interim versus some of these other macro um factors that you you've talked about yeah i think um let me just first talk about um
spk14: the underlying drivers of the complexity in these two engagements that I referenced. And one I'll talk about kind of on a named basis, just because they've also publicly talked about our partnership, which is pediatrics. So in that area, just to put in context, We've got about 1300 employees are 1 employees that are managing that pediatrics operation. And 1 of the biggest drivers of complexity there for us. is that we are interfacing those employees into 400 different hospital systems. And in that interface and the complexity that sits there, the credentialing, the technology integration, et cetera, is very, very high. The second driver of complexity is pediatrics has had a change in their host system strategy which initially put us in a position not to deploy our technology. We've gotten clarity on that host system strategy, and we're largely through deploying our technology, which is critical for us to drive our operating standards, etc., So as we sit right now, our trailing three-quarter cash collection there is the highest that we know going back to 2020 data. We've got, we mobilized a recovery plan starting in Q2. That recovery plan has good momentum. We expect to be back to target performance in early 23, if not as we end this year. We are disconnected or we don't fully understand always pediatrics reserve model. As a general matter, that reserve model will lag our operating performance a bit. But that's really the dynamic on that partnership. Now, given some of their public commentary, we have proactively provided our customer-facing teams with the right talking points around this engagement. We've had one inbound call from a current customer in contracting. We talked with that customer. They understood fully the complexity, and that contracting is proceeding as planned. I think the big takeaway for us is, one, when we see this complexity, we really have to incorporate into our deployment plans the right schedules and dependencies. The second thing I'll say is we have a long track record of managing some of the most complicated deployments. This is one of them. And as we recover and drive the partnership forward, this will turn into a positive as we talk about future customers, just our learnings, how we went through this process, our commitment to the customer and the journey, et cetera. The other contract is not that dissimilar. However, it's at a more traditional IDN where we're consolidating 27 different CBOs and integrating our technology into 15 different host systems. So really, again, a common theme around the technology architecture and the fragmented footprint. But we've got a full plan in place. We are seeing progression. of progress, and we're confident that, two things we're confident on, we'll be fully recovered on these heading into 23. And as I said in my comments, the long-term earnings potential, while it will take us a little bit longer than we normally model to get to, remains unchanged on these contracts.
spk11: Okay, that's very helpful. Thank you. And then Just quickly, you mentioned collecting directly from patients certainly can get a little bit more difficult in a recessionary environment. Can you give us an idea of what proportion of your collections right now are from the patient self-paced portion?
spk04: Roughly 20%. Okay. Thanks again. Thanks, Sean. Operator?
spk08: Your next question comes from the line of Scott Schoenhaus with KeyBank Capital Market. Your line is open.
spk12: Hi, team. Just wanted to touch on your comments on 2023, if I could. You said you expect EBITDA, just an EBITDA, to be 10% to 15% lower versus current consensus. CloudMed, I believe, was running around $200 million in an adjusted EBITDA. This would imply only modest declines on your legacy business. Can you help us with bridge what's baked into these assumptions? Or is it just cloud meth growth is expected to be more outsized next year? Thanks.
spk14: Yeah, as I commented, there's a couple of things that are incorporated into our current view on 2023. One is we are going to increase our investment to ensure execution on our operating partner contract succeeds our and our customers' performance goals. And inside of that increase in investment, that's to the commentary discussions that we've just had around whether it be kind of the payer interface and making sure that we are controlling our destiny, so to speak, in terms of that cycle time. The contracts that I referenced that we are working on right now in terms of complexity or the new deployments that we've got ongoing. I commented around Sutter specifically where we're adding 250 people onto that engagement. And as Sutter comes in, we're also seeing the same thing in their operation that we're absorbing. around elevated AR days, and they're seeing the same trends that we're seeing. So to account for that, and as a general matter, one big driver is increase of investment in those core. And we feel strongly that making that investment in 23 will ensure these contracts maximize their long-term earnings potential, which we're very, very excited about. The second thing is we are making the assumption that the ramp to higher growth for the legacy module solutions will be longer than we had originally planned. Now, we think that's appropriate just to account for the sales cycle and the mobilization efforts But to be very clear, we don't see any changes to our view in terms of the potential to unlock significant growth, cross-selling those solutions into the modular or into the commercial engine of CloudMed. CloudMed's commercial engine is performing ahead of expectations, and early signs are encouraging around that. The third thing is higher technology investments that we're going to be making, and that's really to continue to expand on our value prop and take advantage of the technology scale and coverage we have, as well as provide the foundation for data innovation over time. And then finally, we're going to take a cautious view on some of our environmental assumptions in the budget, namely the potential impact of inflation and to consumer payments for patient out-of-pocket expenses, just given unknowns in the economic environment on a macro basis going into 2023.
spk12: That's very helpful. And just as a follow-up, I just want to talk about your executions, you know, what you guys are doing to avoid these issues with the new contracts. You mentioned the capacity for Sutter with the increase of 250 additions. I just want to be clear, you're not moving resources away from current contracts to fix challenges, that these are all new capacity and you have it up and running. Thanks.
spk14: Yeah, no, we are. To be clear, we are not just shifting resources from other contracts. We are adding incremental capacity. That's why we're incurring that kind of in our going forward views on on financial plans. And we think we think making that the priority to address some some short term execution challenges. will yield significant benefit looking forward. And it's really in a couple areas. I talked about it in terms of just increasing operational capacity. The second area is in our technology deployment, and that was a key kind of contributing factor in some of these contracts I talked about. And then making sure we've got the right oversight on driving our standards and driving our deployment models.
spk08: Your next question is from the line of Michael Cherney with Bank of America. Your line is open.
spk10: Good morning, and thanks for all the color so far. Maybe a question either for Joe or Lee. When you talked about the changing modeling expectations on the take rate on your operating partner customers from 4.5% to 4%, is that just for new customers, or was there some type of contract renegotiation you went through with your existing customers?
spk14: No, no contract renegotiation with our existing customers. It's primarily to model the current the current contracts we have in deployment and really what we're seeing in what we're seeing in our sales pipeline, late stage sales pipeline activity where we do baselining and impact assessment to give initial pricing targets. You know, we do have changes from time to time in scope that we add scope or we may change scope in prior contracts, but I would not characterize those as material or significant in changes to our current contracted book.
spk10: And then thinking through some of the incremental hiring you're doing and the staffing up, as you think about, you know, call it Band-Aid, call it filling a gap, Is this expected to be over time the new elevated level of deployment capabilities that you're going to have in place? Obviously a good problem to have on winning a lot of new business, but then the flip side is you have to make sure that you're servicing that business. So should we think about now going forward a different level of investment in terms of a permanent baseline for your own employee base?
spk14: No, I don't think so. So the first thing is the short-term execution, increase in investment to make sure we're executing ahead of our expectations and our customers. We would view that as just that, something that we have to make and it'll We expect to recover. We have line of sight to the profile on that recovery. And then we would expect that capacity to either be shifted to the new growth and the new deployments that are occurring or to just normalize over time. And as a reminder, in our operations, we have a fair amount of churn in the employee base. That's not unique to us. That's just something that's part of this type of operation. So we have an ability to flex our resourcing up and down. Longer term, we don't see any change to the contract modeling from a cost to serve basis on our side, nor do we see any change from a impact of automation. And that's why we're making those investments that I referenced in a consolidated platform. And we think that accelerates some of the opportunities along those lines.
spk04: Got it. Thank you.
spk08: Your next question is from the line of George Hill with Deutsche Bank. Your line is open.
spk15: Yeah, good morning, guys, and thanks for taking the question. I guess, Joe, one of the things, I'd probably come back to this, the topic of kind of the payer elongation, and can you talk about whether this is an, I think we talked a little bit, is this more of an R1 issue from an execution perspective, or is this payer-specific? And then I'd ask if we're talking about any specific payer buckets, either by carrier or by payer type, kind of trying to get to the core of what's driving the elongation here.
spk14: Yeah. Listen, from the best we can tell, this is not an R1 specific issue. And the reason I say that is we're able to see kind of in our footprint, we're able to see kind of captive operations within our customers. We're able to see books of business that are coming into us. what are those, what are the dynamics in this area? And we see a lot of consistency. That's the first point. The second point is, For most of our customers, we've got active discussions with their managed care organizations, the provider interface to the payers around really working through that. So as best we can tell, the majority of this is environmental. However, what I'll say is my expectations of the team is that we control that operation. And so what I don't want to leave you with is that there's no response that we have to this. And we absolutely um are making very specific changes uh to drive this on behalf of our customers um and so you know when i look at it i can call it environment or i can call it execution i would tend to say george um that um you know my comments to our team is that um you know we just need to execute at a higher level to respond to that. And that's really how I think about it. But we are seeing this and we are having active discussions with our customers on a broader basis. No specific to pay or to highlight. And listen, our sense is this is just driven by the labor constraints that are in the market at large. And as those labor constraints, we have them, payers have them, et cetera. So we don't see this as something that's long-term or structural.
spk15: Okay, that's helpful. And then another question I would ask is, I want to make sure I heard you correctly, where you said that the growth ramp of the legacy modular solutions appears to be slower than expected. So first, I just want to make sure I heard you right. Second, I wanted to know if you could talk about how big are those legacy modular solutions when we think about that inside the context of the business. And then my step back question is, given the macroeconomic environment, are we just seeing an elongation of sales cycles, generally speaking? And again, you said the CloudMed pipeline is strong. The pipeline is strong, but are we seeing sales cycles elongating and are we seeing close times elongate is kind of where I'm going with that line of questioning.
spk14: Yeah, let me do this, George. Let me answer the first question, and then I'm going to turn it over to Lee to answer the second question because he's got a great perspective given CloudMed's business model and commercial engine. The first thing is our annual spend on legacy modular solutions, about $120 million a year revenue. And what we're targeting is a 20% growth rate on that revenue base. And I think one of the things, as we look at 2023, is our assumptions in 2023 on how fast we would mobilize getting close to that target were a bit aggressive. And so we're going to reduce those assumptions. However, as I said in my comments, the CloudMed business is already running at well above 20% growth rates. They've got a demonstrated ability to cross-sell and incorporate new solutions into that channel. We've got the teams consolidated under one leadership organization. They've already identified the first two modules to launch. And so while it's going to take us a little bit longer than we had previously planned, we are very, very encouraged and excited about the long-term uh growth to unlock nothing's changed in terms of that thesis let me let me turn it over to lee now just to comment on what he's seeing on close rates and the cycle times um of selling these types of offerings thanks joe george let me touch on cloudmed and then you know address the other part of your question cloudmed plus the legacy
spk13: uh r1 modular solutions so just to hit the headline up front uh we you know year to date are actually ahead of plan on cloudbed full year in line and what's happening there's there's market demand actually created by some of these later labor shortages uh across the board from on the provider side and pair side so we are seeing significant demand uh very strong pipeline for the underlying CloudMed business. And so that's the market side. From a competitive differentiation side, just to remind you, we believe CloudMed is a unique platform that covers 800 billion of NPR. What that allows this business to do is see across all 50 states, all payer types, all clinical denials, all payment types, and allows us to identify revenue for our customers and address this $100 billion market opportunity. And that's part of the reason why we're seeing so much traction in our pipeline and growth. Just to touch the second point, one of the points Joe mentioned earlier is leveraging the CloudMed commercial channel. I just want to go a little deeper in that. We, over the last five plus years, built a best-in-class commercial channel. And this is an industry, as you know, that is very tight, talks to each other. We have 93 of the top 100 systems and a lot of referenceability. So part of what's happening is Our sales team, our commercial teams are introducing some of the new R1 modular solutions to our current base of customers. And so we feel very strongly about the future growth prospects of the R1 modular solutions. But as Joe said, some of the ramp-ups will take time.
spk15: Okay, that's helpful. I'll hop back in the queue. I appreciate the call.
spk08: Your next question is from the line of Elizabeth Anderson with Evercore ISI. Your line is open.
spk07: Thanks so much for the question, guys. I had a question regarding sort of the underlying assumptions and the overall like healthcare utilization as we think about the fourth quarter. Can you talk about sort of what you're thinking about in terms of the underpinnings of that from a sort of broader macro trend? And then if you could extend that into your sort of thinking for 2023, that would be helpful.
spk14: Yeah, we've, as we look at it, maybe to answer the fourth quarter, I'll just put in perspective the progression we've seen over the course of the year. And essentially, against our expectations, so just to provide that reference point, we were on, if not a little bit ahead of kind of our internal modeling assumptions on customer volumes and underpinning customer volumes is utilization in Q1 and Q2. Q3 and Q4 were below our plans. And so as we look to 2023, incorporated into our thinking on the budget assumptions, we're taking a conservative approach. uh to uh utilization as we think about 2023 um uh and um what drives that is just you know coming out of coming out of covid and you know really trying to establish uh the baseline to forecast office um is a challenge for us and you know we think that um that's um that informs the view we're taking for 2023.
spk07: Got it. And is there anything you can say now in terms of what you're assuming for your underlying interest expense for 2023? I mean, I know there's a lot of interest rate volatility, but sort of maybe given current rates.
spk03: Yeah, I think we'd say about 7% is probably fair to use right now. As you know, 30%-ish of our debt is hedged. It feels like a blended average would be about that. Okay, thank you.
spk04: Your next question is from the line of Jayalendra Singh with Truist Securities.
spk08: Your line is open.
spk01: Thank you. Good morning and thanks for taking my questions. Joe, thanks and good luck. Lee, congrats and best wishes for your new role. Let me start with a follow-up related to George's question earlier on longer payer turnaround times. Why do you think it is not just a bit of normalization given payers are not really deploying utilization management and payment integrity during the pandemic for the last couple of years? And is it just a timing issue in terms of collection, or are you also seeing a pickup in payer denial rates than what you were experiencing in the recent quarters?
spk14: Yeah, we're not seeing any change in denial rates, but we are having to do more, to your point, to make sure we drive the right payment for the services provided. My sense is when we look at kind of where the elongation sits, the two areas that are highlighted for us in that elongation, one is high dollar accounts. Those those accounts normally need a manual review before they get released on the payer side, our our current view is that's tied up in this uh labor market shortage environment we have and that's why we feel that will be transitory over time and you know we we're navigating a challenging labor market um as are our payers and so um you know that that's what leads us to that conclusion on the increased clinical requests um that may uh you know, there's a potential that that's elevated and it stays elevated. But what our teams are working through is really how do we use automation and how do we use technology to respond if that were to occur? And in the short term, we're responding to it on a manual basis. But we just don't know. And we think, and what we've seen over time is you know, as there's requests for things that are not required, they tend to normalize back. And so we see these ebbs and flows in our experience over many years. Okay.
spk01: And then my follow-up, I was wondering if you guys can take a step back and maybe share thoughts around how much of these operational challenges could have been driven by the fact that you guys have seen some significant expansion in PR in recent years. while you were still working through deployment capacity. And if we should read anything in terms of your willingness to explore near term new RFP opportunities and pipeline, should we expect a pause here in terms of you guys announcing new contracts until these issues are taken care of?
spk14: Well, let me take the question in two parts. And the first one, as I said in my commentary, in the opening or in the formal remarks, we do think it's important for us to invest and invest above what we had planned going into 2023 to make sure we exceed our customers' expectations and exceed our expectations for performance and financial potential on these contracts over the long term. We're in the process of doing that. We have good, good progress on all of those fronts, and I expect that to pay significant benefits in the first half of 2023. Given that we're already mobilizing along those lines over the course of Q3 into Q4 and into the first half, right now we don't see any changes to our ability to onboard new opportunities. And in fact, as I commented, our pipeline is up and we've got good progression in that pipeline. So we have good line of sight around our NPR growth targets for 2023. But I will emphasize we are taking a conscious priority to invest and to make sure we have execution in order. And I think that will set us up to serve 2023 growth opportunities. Yeah, I think, you know, as you think about root causes of that dynamic, the team has been absorbing a lot of growth, and I think the complexity in some of these engagements has contributed to the need for us to make this a priority in the short term. But I think that the other thing to point to is The earnings potential that we see longer term, these are long-term partnerships. They're very complicated to deploy. It's not uncommon that we see variation in the early stages of deployment. We have to address that, and we are. But what I would emphasize is long-term, we're excited, encouraged about the growth potential that we're going to unlock as a direct result of taking this approach. And so that's our thinking as we look to finalize our budget for 2023.
spk08: Your final question comes from the line of Stephanie Davis with SVB Securities. Your line is open.
spk05: Hey, guys. Congrats on the new role, Lee. And, Joe, it's sad to see you go. It's been an awesome run since the creative days. Lee, before we get into the quarter, I was hoping to hear a little bit more about your goals for the seat. As we think of the Joe Flanagan years as characterized by an operations turnaround, How should we think about the ribbous years going forward?
spk13: Yeah, Stephanie, great question. But let me start by saying I'll reiterate what I said in the comments earlier. First of all, I'm very excited about this being such a mission driven business. I have a fundamental belief that that mission drives incredible inspires employees and allows us to do great things for customers. The other thing I would say is I am very confident in the combination of the two businesses. and the underlying business model for R1. And just to reiterate my own words, Stephanie, this is a business with long-term contracts, great earnings power, and high visibility into revenues and EBITDA. The global scale is a unique differentiator. And Joe and team have already invested at scale in technology investment. The other thing I'd say is the addition of CloudMed is an even more unique differentiator. We already have a very modern cloud-based technology platform that can be extended to R1. A data footprint that actually is an incredible differentiator, seeing all clinical codes, payment types across the country allows us to help R1 end-to-end customers. And a very diversified customer base with 400 customers You know, one solution sold into 93 of the top 100 systems. So with that as a backdrop, just my fundamental belief in the strength of the underlying business, I'll give you the kind of quick headlines on the plan. One, continue integration. This is going very well. I can go into plenty of detail there later, but this is something we and the team take pride in, making sure the integration goes well. As Joe mentioned, leveraging the CloudMed modular channel is a very important value driver. The two things I'd mention, Stephanie, just to give you a bit of sense on the vision going forward without going too far, given that I've been here, you know, post-close only a few months. The things I'd say is, you know, given my experience, Stephanie, is both in data and technology businesses and also businesses have a service component. So I'm very familiar with this kind of business. and the application of technology. So the first thing I'd say is you will hear me talk more about and really just extend what Joe just said, which is the application of automation to resolve what we all know are super inefficient processes across an operation of hospital systems and physician groups. And you'll hear me talk not just about automation, but the application of a data platform that can be extended across all workflows for internal operators that are one and to our customers. The other piece for me is on the end-to-end side, clearly we need a lot of focus on delivery. This team has a track record of delivering, and to Joe's point, we have incredible earnings power in spite of any short-term issues. So I will be very focused on delivery. I will be very focused on our pipeline pursuits, as Joe mentioned. We have an increase in pipeline from Q2 to Q3, and personally engaging with customers. Stephanie, I've already met our largest customers recently. the top five and will be on the road the next few weeks. I don't expect a major change in strategy, Stephanie. The strategy is sound. The combination of end-to-end global scale combined with CloudMed already started investing in technology. This is as much about an execution story with some refinements on how we apply technology.
spk05: Understood. Looking forward to seeing what you guys put together in the future.
spk04: Thanks, Stephanie. At this time, I would like to turn the call back over to Mr. Joel Flanagan.
spk14: Well, first, Brett, thank you for all your help moderating the call today. And thanks for everybody for joining the call. As we end the call, I'd like to emphasize a few things. We are maniacally focused on addressing our short-term operational challenges. We've got very detailed plans already mobilized, and we're starting to see progression along those lines. As you think about 2023, I'm really excited for two things. One, I feel like we're building a plan that is going to set ourselves up for future success and maximizing the potential that the market affords and that our commercial arrangements afford. And the second thing is I've had the opportunity to work with Lee since we started the discussions on CloudMed. And Lee and I have engaged in many, many facets of our business. We've talked with all of our customers, met with all of our employees. And I could not be more proud to transition my responsibility to Lee and more excited about the impact he's going to have on the company looking forward. His focus on driving transformation through a technology agenda is what is really going to differentiate us looking forward. And he's got a long track record along those lines. And we're lucky to have him leading the company starting January 1st. And so I just want to emphasize that from my perspective. So thanks again for your participation. I look forward to further discussions going forward.
spk08: Ladies and gentlemen, thank you for participating on today's call. This concludes today's conference.
Disclaimer