Oak Street Health, Inc.

Good morning and welcome to Oak Street Health third quarter 2020 earnings call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question and answer session. In order to ask a question, please press star 1 on your telephone keypad. Please be advised that today's conference is being recorded. Hosting today's call are Mike Pajkowski, Chief Executive Officer, and Tim Cook, Chief Financial Officer. The Oak Street Press Release webcast link and other related materials are available on the Investor Relations section of Oak Street's website. These statements are made as of November 10, 2020, and reflect management's views and expectations at this time and are subject to various risks, uncertainties, and assumptions. This call contains forward-looking statements, that is, statements related to future, not past events, In this context, forward-looking statements often address our expected future business and financial performance and financial conditions and often contain words such as anticipate, believe, contemplate, continue, could, estimate, expect, intend, may, plan, potential, predict, project, should, target, will, or would, or similar expressions. Forward-looking statements, by their nature, address matters that are to be different degrees. Uncertain for us, Particular uncertainties that could cause our actual results to be materially different than those expressed in our forward-looking statements include our ability to achieve or maintain profitability, our reliance on limited number of customers for a substantial portion of our revenue, our expectations and management of future growth, our market opportunity, and our ability to estimate the size of our target market. The effects of increased competition as well as innovations by new and existing competitions in our market, and our ability to retain our existing customers and to increase our number of customers. Please refer to our quarterly report where the quarter ended September 30, 2020, filed on Form 10-Q with the Securities and Exchange Commission, where you will see a discussion of factors that could cause the company's actual results to differ materially from these statements. This call includes non GAAP financial measures. These non GAAP financial measures are in addition to and not as a substitute for or superior to measures of financial performance prepared in accordance with GAAP. There are a number of limitations related to the use of these non GAAP financial measures. For example, other companies may calculate similar titled non GAAP financial measures differently. refer to the appendix of our earnings release for the reconciliation of these non-GAAP financial measures to the most directly comparable GAAP measures. With that, I will now turn the call over to Mike Peikos, CEO of Oak Street. Mr. Peikos?

Mike Peikos Thank you, operator, and thank you to everyone that is joining us this morning. On the call with me is Tim Cook, our Chief Financial Officer. Before we review our operational and financial performance for the quarter, I want to start by once again thanking our Oak Street team for their exceptional dedication to patient care during COVID-19. It starts with our care teams and center-based staff, which work diligently every day to engage our patients and ensure we are properly executing our care model while maintaining strict safety protocols to minimize any transmission risks to our team, our patients, and our communities. I'm proud to report that our centers have remained open throughout all of 2020, and our infection control protocols have proven to be exceptionally effective at preventing the spread of the virus. Given the effectiveness of our protocols and our performance this year, we are confident that, regardless of the duration we extend the pandemic, we'll continue to be able to operate successfully and provide outstanding care to our patients. I also want to acknowledge and thank our outreach teams that are working to bring more patients to our platform in these unprecedented times. By engaging patients in their care and ensuring they have access to the care they need, they are making an impact on our communities and chipping away at health disparities every day. Finally, I want to thank our corporate teams which has now been remote for seven months, yet still managed to help achieve all that we will discuss today. Over the last several months, either as part of the IPO process or since, we've had an opportunity to describe our care model and its success to the investment community, including many on this call. As some of you have heard me say, what we do is hard and requires tremendous focus across all of our team members. There is no silver bullet when it comes to improving the health and well-being of our patients. Instead, it's about consistently applying a focused and differentiated approach every day across all of our centers for all of our patients. I always find that stories from our centers can be helpful in bringing our care model to life. We have a patient at one of our Chicago centers who first came to Oak Street about a year ago. Prior to being engaged by our community outreach team and deciding to give Oak Street a chance, he hadn't been to the doctor in over 40 years. As part of our screenings and vaccination program, he was given a fit test. and had a positive result. Our provider recommended he get a colonoscopy, but the patient was very resistant to getting one. However, because of the relationship he had with his provider, Oak Street, as well as her persistent follow-up, he finally completed one. A large malignant mass was found, but caught just in time before it spread. The patient is currently cancer-free. This is just one of thousands of stories about how our team failed to provide patients the care they need to improve their overall well-being. Pushing gears, We are pleased with our third quarter performance, which demonstrated the financial and operational strength of Oak Street's business model. We generated record revenue of $217.9 million, exceeding the top end of the guidance range we had communicated to investors. This represents an increase of 57% from third quarter 2019. We cared for roughly 59,500 at-risk patients, up 38% from third quarter 2019. We generated this patient growth despite essentially putting a halt on our community outreach and marketing efforts from early spring through mid-summer due to uncertainties around COVID. As I'll discuss in more detail, we ramped up these activities over the course of Q3. As we mentioned on our last call, while we had temporarily halted new center openings, we restarted our center expansion in August, opening 13 centers in the third quarter and finishing the quarter with 57 centers. This represents the greatest number of centers we have opened in a quarter in the company's history. I'm incredibly proud of our team for delivering this level of center growth amidst both the operational challenges prompted by COVID-19 and the effort required to complete our IPO on August 6th. I will now touch briefly upon a few of our key initiatives that will position us for sustainable long-term growth. First, as I mentioned earlier, we continue to look to scale our network with de novo centers. As we discussed, we proactively chose to halt new center openings earlier this year as we learned more about how to effectively operate during the COVID pandemic. However, in addition to the 16 we opened in the first nine months of 2020, we expect to open an additional six to eight standalone centers in the fourth quarter, bringing us to 22 to 24 openings for the year, excluding our Walmart centers. In October, we also opened our first center in the state of New York, in Brooklyn, and we expect to expand into additional states over the next several months, which will bring our innovative care model to even more communities. Second, I want to provide a brief update on our pilot collaboration with Walmart that we announced in September. I'm pleased to report that we recently opened our first Walmart location and remain on track to open up all three pilot locations by year's end. The partnership remains in its early days, but we look forward to communicating our progress as we gain experience with the collaboration. Third, in addition to opening new locations, we are also squarely focused on driving growth within our existing infrastructure. As a reminder, a typical Oak Street Center can serve approximately 3,500 patients at full capacity. implying that our quarter-ending portfolio of 67 standalone centers has the capacity to care for approximately 235,000 patients, which is over two and a half times the actual patients on our platform in Q3. We are constantly refining, expanding, and improving our outreach processes, embedding lessons learned throughout our history. We have continued to deliver strong patient growth, despite being forced by COVID to limit many of our core community events-based patient acquisition channels. To do this, we've developed alternative engagement channels that can be effective despite the limitations caused by COVID. We are confident that we can continue to be successful and drive strong patient growth in the current environment. When community events return, we believe we can leverage our broadened portfolio of patient acquisition channels to take our patient growth to yet another level. Lastly, I'm delighted to announce that in October, we began enrolling patients on traditional Medicare in the Medicare Direct Contracting Program which is a new, voluntary, risk-based program that allows CMS to directly contract with eligible providers for traditional Medicare patients. We are very excited this program will allow us to capture risk-based economics similar to what we receive on our Medicaid-managed patients on our traditional Medicare patients, allowing us to benefit financially from the investment we are making in our patients' care. Yesterday evening, we posted an updated investor presentation to our investor relations website that includes several slides detailing how we are participating in the program and our initial thoughts on both membership and patient economics. For those less familiar with the direct contracting program, it is part of CMS's strategy to use the redesign of primary care to reduce expenditures and improve quality for Medicare beneficiaries. Through this program, Oak Street and other participants will contract directly with CMS in a similar fashion to how Oak Street currently contracts with MA plans. We are currently operating our care model for our traditional Medicare patients in a similar manner to our Medicare Advantage patients. When we move from the fee-for-service payments we are currently receiving for our traditional Medicare patients to an adverse model similar to how we are paid for our MA patients, we believe we are well-positioned to generate similar patient economics for our traditional Medicare patients as we achieve for our MA patients today. If this expectation is correct, it will significantly improve patient economics for our traditional Medicare patients. The slides, which begin on page 23 of our current investor presentation, detail how we were participating in the program. I want to voice over the fly as related to membership and patient economics. There are two ways in which CMS can align beneficiaries to direct contracting entities. The first is claims-based alignment, whereby CMS will assign beneficiaries to providers based on historical claims data. Second is volunteer alignment, where beneficiaries choose to align with a direct contracting entity by designating a specific provider. We've been offering eligible patients the option to voluntarily align with Oak Street over the past month, and the vast majority of patients we have seen have filled out the required paperwork for voluntary alignment. It's still early, and we don't have full visibility to how many of our current traditional Medicare patients will end up choosing Medicare Advantage or how CMS will treat patients that are aligned to multiple CMS programs, so it remains premature for us to communicate any firm estimates on precisely how many patients will ultimately flow through the program beginning in April 2021. Per patient revenue will vary based upon how a patient is enrolled. For voluntarily aligned patients, per patient revenue will be determined by applying the risk adjustment model using Medicare Advantage to a county-level benchmark. This methodology is similar to the way per patient revenue is determined for MA patients at Oak Street. For claims-aligned patients, the primary differences from voluntary-aligned patients are, one, benchmarks for claims-aligned patients incorporate the patient's specific historical costs and risk scores. first, only a regional baseline rate for voluntary aligned, and two, there's a cap on the annual growth for risk scores of claims-based patients. Because we do not know which patients will be aligned to the DCE at this time, it is not possible to calculate per patient revenue. Based on our understanding of the program and our expectations around which patients will be aligned, we would expect per patient revenue for voluntary aligned patients to be greater in direct contracting than it is in MA, assuming the same documented patient risk level. primarily because there are no supplemental benefits provided if there are in MA, and we do not have to share a larger portion of the surplus with CMS as we do with MA plans. For claims-aligned patients, we expect the per-patient revenue to be lower than voluntary-aligned patients, as our historical work with these patients results in lower healthcare expenditures, which are incorporated into their historical benchmark. Due to the lack of traditional health plan functions, such as network design, prioritization, and utilization management, We expect the medical costs of direct contrasting patients to be greater than our average MA patients for both alignment methods. We expect the net profitability of voluntary aligned patients to be roughly comparable to our MA economics, assuming comparable risk in the population. We expect claims aligned patients to have worse economics than voluntary aligned patients driven by lower revenue and comparable medical costs, although still significantly better than what we are reimbursing fee-for-service today to care for our traditional Medicare patients. I want to stress that we are still working with CMS to make sure we understand the nuance of the program, and our economics will ultimately depend upon the underlying factors of the specific patients that enroll with Oak Street. In summary, we are pleased with our third quarter results. As I said in the beginning, I could not be prouder of the way our teams have navigated through incredibly challenging circumstances to make a massive impact on our patients and our communities. Despite these challenges, our teams continue to provide outstanding care for our patients and therefore drive strong results through our organization. As we navigate through the remainder of the year, we'll continue to focus on positively impacting our patients and communities at a time when they greatly need our support and delivering on our mission to rebuild healthcare that should be. I will now turn it over to Tim Cook, who will walk you through our financial results in Margisa. Tim?

Thank you, Mike, and good morning, everyone. As Mike mentioned, we delivered record results in the third quarter, despite the challenges of the COVID-19 pandemic, highlighted by both our recurring revenue model as well as continued growth in the markets which we serve. As a reminder, we expand our network in two important ways. First, we seek to drive patient growth in our existing centers, and second, we strive to expand our network of centers across existing and new markets. In terms of membership, total patients grew roughly 28% year-over-year, while our at-risk patient base, which drives most of our financial performance, grew by 38%. At the end of the third quarter, we operated 67 centers, an increase of 13 centers from the second quarter of 2020, and an increase of 21 centers compared to the third quarter of 2019. We generated capitated revenue of $211.8 million, representing 59% year-over-year growth, driven by the aforementioned growth in our at-risk patient base. Total revenue grew 57% year-over-year to $217.9 million, driven entirely by growth in capitated revenue. Our medical claims expense for Q3 2020, $154.6 million, representing growth at 58% compared to Q3 2019. Q3 medical claims expense was not immediately impacted by prior period adjustments. We continue to assess the impact on medical claims expense related to COVID. However, it is still too early to determine the net effect, particularly as many of our markets are experiencing surging cases similar to national trends. Our cost of care excluding depreciation and amortization was $43.2 million in the third quarter, an increase of 17% versus the prior year due to the growth in the number of centers we operated, as well as growth in our total patients. I would note that the recognition of CMS provider relief funds favorably impacted cost of care by $3.9 million in the third quarter. Sales and marketing expense was $15.5 million during the third quarter, representing an increase of 29% year-over-year, but slightly below our expectations simply due to timing, which we expect to reverse in Q4. Corporate general and administrative expense was $57.1 million in the third quarter, an increase of 164% year-over-year. The majority of this year-over-year increases are related to an increase in stock-based compensation expense, which was $29.7 million in the third quarter of 2020, compared to $1.4 million in the third quarter of 2019. Excluding stock-based compensation, corporate general and administrative expense was $27.5 million in the third quarter of 2020, an increase of 36% compared to the third quarter of 2019, driven by increases in headcount support our organizational growth. The increase in stock-based compensation in the third quarter of 2020 compared to the second quarter of 2020 was related to primarily two items. First, awards granted to employees in June 2020 ahead of our then-planned IPO, which represented $5.7 million of stock-based compensation expense in the third quarter of 2020, was only partially reflected in our second quarter financial results due to the timing of their issuance. And second, the modification of the vesting terms of our equity incentive awards following our IPO, which represented $18.2 million of expense in the third quarter of 2020. This incremental expense is not related to new equity award issuances. Beyond those awards described in our prospectus dated August 5, 2020. I would note that less than $200,000 of our stock-based compensation expense in the third quarter of 2020 related to new equity awards issued since the IPO in August. I will now discuss three non-GAAP financial metrics that we find useful in evaluating our financial performance. Patient contribution, which we define as capitated revenue less than medical claims expense, grew 63% year-over-year to $57.2 million. We expect at-risk per patient economics to improve the longer that our patients are on the Oak Street platform. Platform contribution, which we define as total revenue less than some medical claims expense and cost of care excluding depreciation and amortization, was $20.1 million. an increase of 387% year-over-year. As an individual center matures, we would expect both platform contribution dollars and margins to expand as we leverage the fixed cost base associated with our centers, as well as improving patient economics over time. Adjusted EBITDA, which we calculate by adding depreciation and amortization and stock-based compensation by excluding other income to net loss, was a loss of $22.8 million in the third quarter of 2020 compared to a loss of $28.1 million in the third quarter of 2018. We finished the third quarter with $474.6 million in unrestricted cash. Cash used by operating activities totaled $22.4 million in the first nine months of 2020. Our capital expenditures totaled $12.6 million in the first nine months of 2020. I now want to talk about our 2020 financial outlook. We are increasing our expected revenue to a range of $854 to $858 million, up from our prior outlook of $843 million to $853 million. We are also forecasting an adjusted EBITDA loss of between $93 million and $99 million versus our prior outlook of a loss between $100 and $110 million. We anticipate having 73 to 75 standalone centers open by December 31st, 2020, slightly above our prior forecast of 72 to 74 centers. We are also narrowing our expected at-risk patient counts to a range of 61.5 to 63,000 patients. As a reminder, our standalone center outlook for 2020 does not include Walmart pilot locations, which would represent an incremental three centers. In summary, this was a strong quarter financially and operationally, and we anticipate a strong fourth quarter as well, while at the same time continuing to make the necessary investments required to maximize long-term shareholder value. And with that, we'll now take any questions you may have. Operator?