Good morning, everyone, and welcome to Enhabit Home Health & Hospice Second Quarter 2022 Earnings Conference Call. [Operator Instructions] Today's conference call is being recorded. If you have any objections, you may disconnect at this time. I will now turn the call over to Jennifer Hills, Enhabit Home Health and Hospice, Chief Investor Relations Officer. Please go ahead.

Thank you, Sarah, and good morning, everyone. Thank you for joining Enhabit Home Health & Hospice Second Quarter 2022 Earnings Call. With me on the call today are Barb Jacobsmeyer, President and Chief Executive Officer; Crissy Carlisle, Chief Financial Officer; and Chad Knight, General Counsel. Before we begin, if you do not already have a copy, the second quarter earnings release, supplemental information and related Form 8-K filed with the SEC are available on our website at enhabit.com. On Page 2 of the supplemental information, you will find the safe harbor statements, which are also set forth in greater detail on the last page of the earnings release. During the call, we will make forward-looking statements, which are subject to risks and uncertainties, many of which are beyond our control. Certain risks and uncertainties that could cause actual results to differ materially from our projections, estimates and expectations are discussed in the company's SEC filings, including the earnings release and related Form 8-K, the Form 10 registration statement filed on May 25, 2022, as amended on June 8, 2022 and June 14, 2022. We encourage you to read them. You are cautioned not to place undue reliance on the estimates, projections, guidance and other forward-looking information presented, which are based on current estimates of future events and speak only as of today. We do not undertake a duty to update these forward-looking statements. Our supplemental information and discussion on this call will include certain non-GAAP financial measures. For such measures, reconciliation to the most directly comparable GAAP measure is available at the end of the supplemental information at the end of the earnings release and as part of the Form 8-K filed yesterday with the SEC, all of which are available on our website. [Operator Instructions] With that, I'll turn the call over to Barb.

Thanks, Jennifer. Good morning, everyone. Thanks for joining us today for our First Enhabit Earnings Call. Let me begin by recognizing our field staff. They are the Enhabit our patients and families experience each day. It is so rewarding to receive the letters, e-mails and calls from our patients and families, sharing their stories with me about the impact our staff has made on their lives. I'm very proud of our entire team's work over the past year and particularly over these past 3 to 4 months as we work towards our spin-off from Encompass Health. It has been a busy and rewarding time for all of us. We are proud to be Enhabit, and we are excited for what the long-term future holds as we focus on a better way to care for our patients. We are confident in the growth potential for Enhabit as more and more seniors prefer to age in place in their homes. Now let's discuss the home health proposed rule. On June 17, CMS published its proposed rule for 2023, which includes a 7.69% permanent negative behavioral assumption adjustment. The cut would be partially offset by a 3.3% market basket update, reduced by a 0.4% productivity adjustment that would result in an approximate 4.2% negative payment impact for 2023. The proposed rule also includes language around a clawback of an additional $2 billion from the industry for assumed overpayments from 2020 and 2021. We are opposed to these cuts and strongly disagree with CMS' approach, interpretation and resulting recommendations. Enhabit, along with its trade associations and industry partners, are pushing back hard on this rule. We are currently working with our legislative supporters on Capitol Hill to mitigate these cuts. On Monday of last week, Senator, Debbie Stabenow, Democrat from Michigan; and Senator, Susan…

Thanks, Barb. Before we get too far into the numbers, I want to do a little level setting as to how the financial information presented in our earnings release and supplemental slides differs from our historic presentation as a segment of Encompass Health. The financial information in these documents is presented on a carve-out basis of accounting. That means our adjusted EBITDA includes an allocation of overhead from Encompass Health. We provided a schedule on Page 30 of our supplemental slides posted on our website and filed yesterday as part of the Form 8-K that reconciles the historic adjusted EBITDA as a segment of Encompass to Enhabit adjusted EBITDA as a stand-alone company. For the second quarter of 2022, the net overhead allocation was $3.5 million compared to $3.7 million for the second quarter of 2021. Effective July 1, post separation, we will use actual cost of being a stand-alone company. Consistent with our previous guidance considerations, we estimate stand-alone costs will be in the range of $15 million to $17 million in the back half of 2022. Now let me provide some additional comments on the quarter. First, as Barb mentioned, the second quarter of 2021 was the strongest quarter of last year as the world attempted to reopen. In contrast, the second quarter of this year was impacted by the continued shift to more non-episodic payers in home health, the partial resumption of sequestration, a slow recovery in hospice and inflation. The partial resumption of sequestration decreased our revenue $3.4 million in the second quarter of 2022, $3 million in home health and $400,000 in hospice. In addition, our mileage reimbursement program is an important part of our ability to attract and retain a mobile workforce. In late March of this year, we updated our mileage reimbursement formula…

[Operator Instructions] Your first question comes from the line of Joanna Gajuk with Bank of America.

So I guess just thinking about gas margins, obviously, the guidance came down largely on the higher labor costs. But if I'm trying to kind of parse through these numbers and what is implied for second half, so if I look at the stand-alone costs, you previously talked about $4 million in Q1. So if I assume a similar number for Q2, the standalone company margins, I guess, pro forma would be $14.6 million since first half, but this guidance now implies maybe $13.7 million in second half. So is my math, I guess, is a ballpark? And is this kind of the good starting point for the margins going forward?

So Joanna, this is Crissy. And I hope I understand your question correctly, and if not, please correct me. The original guidance assumption for what I'm just going to refer to as stand-alone company cost for full year 2022 was $22 million to $24 million. In the first half of 2022, and I'm going to use rounded numbers, the overhead allocation from Encompass Health was about $7 million. So the back half of the year is going to be more than that as we continue to stand up the company and move to these actual costs. So it is back-end loaded. When you assume that we have $7 million going into the back half, the additional overhead that's being taken on is that $8 million to $10 million that we talked about. Does that help?

Yes. But I'm just trying to think about because, yes, the first half versus the second half and the stand-alone costs coming in. So -- and then when you look at the guidance for the year, just trying to see what this impact was the second half kind of stand-alone company fully loaded cost structure margins?

Yes. Yes, absolutely. So the back half of the year is, if you think about stand-alone costs, the range would be $15 million to $17 million. That's more than the $7 million included in the first half of the year. So when we talk about the $8 million to $10 million of additional, that's where that's coming from. The ultimate run rate still remains in that $26 million to $28 million run rate. It's likely, Joanna, that we won't hit that run rate until sometime in 2023, likely the back half of 2023. But ultimately, that is -- that remains the stand-alone operating cost for Enhabit.

And if I may, you mentioned the Medicare proposal on the home health side, calling for negative rate update next year. It seems like the market basket for the -- what we have seen is clearly moving up, at least 100 basis points, maybe 110 basis points, so that's good. But if this behavior adjustment was to stay and there was, say, a slight decline in rates or maybe at best flattish if it's spread out over 2 years, what can you do to kind of manage through that next year when you are having a flattish rate versus your labor cost inflation obviously much higher than that?

Yes. Obviously, the big focus for us will be as we have continued to see our net new hires improving to be able to focus on using those for our productivity and our optimization because we do have room to continue to improve in both of those areas as well as when you think about being more fully staffed, you can also plan your visits around improving the mileage that our staff are driving. So while the mileage costs have gone up, we can actually offset that by improving and making them more productive with their mileage as well. So there will be some big focuses on those components.

And if I may, just a quick last question. In terms of the -- your guidance and how you on the slides talk about still, including $50 million to $100 million spending on deals. So is that also the assumption for this year?

Yes.

That's right.

Okay. So would it be more on the hospice side than home health? Because it sounds like we're hearing from other companies that are pretty acquisitive for that -- the kind of pause in the home health given the proposed -- the Medicare proposal.

We are seeing more of the hospice in the pipeline than we are home health at this point.

Your next question comes from the line of Scott Fidel with Stephens.

First question, just appreciate some of the color you gave us around the revised outlook. I thought it may be helpful, too, if you could -- to the extent you can maybe broke down the revised outlook for the EBITDA guidance between the 2 segments: home health, hospice and then the corporate side, sort of how that lower EBITDA guidance sort of splits out across the 3 segments?

Yes, Scott, unfortunately, we don't give guidance on a segment basis. So everything that we talk about is on a consolidated level. When you think about the drivers, it's volume on both home health and hospice. The payer mix shift obviously only impacts home health. The cost initiatives, productivity and optimization, productivities on both sides, optimization is more on the home health side of the house. A few other things that PRN usage and some of those factors that Barb discussed, they're on both sides. The one factor that is cost related to hospice that's not part of home health is when we think about one of the changes that the new Executive Vice President of Hospice is piloting is a new staffing model based off of a case load, which is more hospice specific than it is home health specific. Historically, we've ran that operation more like a home health productivity measure. So when you move to this case load model, there's also some premium pay associated with things such as after our visits and on call that could increase the cost associated with some of our hospice visits. And so that's also being considered in the revised guidance.

Understood. And then a follow-up question just around cost per visit. And in the slide deck you have, you're guiding for 5% to 6% CPV for home health for the full year. Clearly, that was substantially higher at around 10% in the second quarter. Just interested in terms of how you think that 10% number sort of moderates over the course of the back half from 3Q to 4Q? And what the key drivers of that moderation would be? It's -- obviously, you laid out sort of a number of the headwinds that you experienced in 2Q. Should we think about sort of driving improvement across each of those factors? Or is the improvement more weighted to a couple of those items in terms of the back half improvement?

Sure. So certainly, the increase in CPV that we saw in Q2 was a consideration as we revised guidance. That's a little bit higher than what we expected and what we had planned for. In the back half of the year, we do anniversary the market rate adjustments that we put into place last summer. So that's a helpful item. We are seeing the increased PDO usage. And of course, with that, when someone goes on PDO, you do have to put someone back in the field to service that volume. That can be done through premium rates to a PRN staff or to our own staff, extra visit pay, if you will. So those are some of the factors that we're considering when we think about that. The bigger drivers will be getting the volumes, and that will lower -- that will improve productivity because that is one of the more significant items impacting our fixed cost structure right now.

Your next question comes from the line of John Ransom with Raymond James.

And I'm sorry if I missed this, but could you just say again what the top 1, 2, 3 things were between your initial guidance and your updated guidance? And specifically, what changed in the last few weeks that cause you to alter your view?

Sure, John. So a lot of it is we have June and July actuals at this point, and volumes have been slower to recover than anticipated. We also had increased PDO usage. While that supports staff retention, there is premium pay associated with putting people in the field to try and take care of those outages. We're also going to be examining our PRN rates, as Barb mentioned in her script, to see if we're being competitive because we did see a decline in PRN usage and availability during the quarter. And then, of course, I think the one thing that people may not realize is that our gas prices are in arrears, right? So we base what we pay in July on June prices. I think some of the comments we received last night where rates are going down. Well, they are. They did go down some in July, and those will be adjusted somewhat for August, but the rates we paid in July were the highest we had seen based off of what happened in June. And then, of course, as I mentioned just a few minutes ago on the response to Scott, we do have a new staffing model that we're piloting in hospice. And if we so choose to implement that more fully, then there will be some premium pay for after hours and [indiscernible] on department.

Okay. And then my follow-up question is, I mean, obviously, getting on the other side of this Medicare Advantage mix shift risk and changing the rate structure is critical. Do you think year-end is a realistic time frame to think about getting this negotiated? Or is there no way to put a time frame on it at the moment?

It's hard to put a time frame. What I will say is when in our discussions with the larger payers, we've been talking about things like episodic or case rates because I think we're all very interested in going in that direction. But what we've been asking for is consideration now to our visit rates because if it's going to take time for them to build out in their systems, how they pay either episodically or case rates, we'll understand that, we'll be patient with that. But what we've said is without a fix now to where we are on a per visit rate, we're left with continuing to de-prioritize their patients. And so we've gone in with data around wage inflation, gas prices. And so I think that it's hard to say timing on getting us to that episodic or case rate. But I do feel that by the end of the year, we will have made some progress at least on some of these larger per visit rates.

So I mean, you've called out the United contract, in particular, is one that's putting some pressure on you. Is that open for renegotiation? Or is there an expiry where you're just kind of stuck with the legacy deal until the renewal date?

Well, it's always, I think, open for renegotiations. As you look for one of the things that we're realizing as we've met with United and others is that access for their members is critical. And so I think things are always open for renegotiations and through that, we can commit better access for their patients. So I feel good that we could at least come up with something midterm.

[Operator Instructions] Your next question comes from the line of Brian Tanquilut with Jefferies.

Welcome to, I guess, being public as Enhabit. I guess, Barb, my question for you. Obviously, a good percentage of your referral flows right now come from the Legacy Health South relationship. How are you thinking about the durability of that? And just kind of like the -- yes, how should we be thinking about that?

Sure. Well, I guess, just to give a little bit of color on the quarter. So [indiscernible] from the Encompass Health IRFs the second quarter year-over-year. What I will say, though, is that the care model we've put in place to be able to take care of those types of patients that need such an intensity of nursing and therapy. We've done so well with that, that we've made sure that our care transition coordinators are beyond our Encompass Health IRF. So admissions from all IRFs actually were relatively flat year-over-year. And so I think really being able to go out and kind of sell that care model to all has been helpful for us. The other thing that's helpful to know is that 68 of the IRFs were generally flat year-over-year, 35 declines and 28 increased. So what we're focusing on as a team here are when we look at those that actually increased, what were some of those best practices that were in place so that we can focus that on the areas that declined.

Got you. That makes sense. And then maybe, Crissy, as I think about the guidance you had given previously on admissions CAGR for home health at roughly 10%, just to clarify, does that include anticipated acquisitions?

It does. It's all in.

Your next question comes from the line of Jason Cassorla with Citi.

Just going back to the MA conversation you've been having, you noted the 35% to 40% rate differential. How should we think about the pull-through of that lower reimbursement on a relative basis, kind of directly to EBITDA? Or are there ways to offset maybe the cost per visit on the Medicare Advantage member versus perhaps the cost per visit on the fee-for-service side? Just trying to understand if that rate differential falls right to the bottom line? Or are there some offsets as we think about the go-forward and this mix shift towards -- or Medicare Advantage?

Yes. Unfortunately, today, that falls straight through the bottom line. Now what I would say is we would focus with Medicare Advantage, just like we do on fee-for-service on the optimization piece, and that's where you have someone working at the top of their license. So if that visit can be performed by an LN versus an RN or a PT assistant versus a PT, that is a way to lower that cost per that visit. So you continue that focus, but that we have both on fee-for-service as well as MA.

And then, Jason, the only thing that I would add to that is that when you're having these discussions with the MA payers, you're also talking about certain administrative expenses that we incur to service those contracts. So you put things on the table like if we don't have pre-off and such that, again, require administrative time and people for us, that also helps us with the A&G costs.

Got it. Understood. And then just shifting to that $50 million to $100 million of acquisitions. Sorry if I missed this, but did you delve into where the focus of those dollars are going either on the home health or hospice side? And then I guess just given the backdrop, can you give us an idea on how multiples are developing for both home health and hospice, just given the backdrop and all the pressures you're kind of flagging here?

Sure. So I'll touch the first question. And what we're seeing is a little bit higher hospice potential development projects in the pipeline compared to home health. We actually are interested very much in both. On the hospice front, we continue to want to increase the overlap of our hospice where we have home health. For home health, we look at opportunities that allow us to have those tuck-ins. So if there's markets that we could benefit from our productivity and optimization by adding home health locations to kind of build out a territory, then that's a continued focus for us. But at this point, we are seeing a little bit more of a hospice than home health in the pipeline.

And then, Jason, on your multiple question, multiples very widely based on what you're buying. Some of those variables include the CON status, what states it in, the referral concentration, the market penetration, the patient mix. All of those factors are considered when we approach a company with a potential offer I would say that right now, multiples are generally sub-10%. They do run higher for hospice. You have fewer hospice assets across the country. And then, of course, when you run hospice, you can earn a little bit higher margin than you can in home health. I would say that hospice is probably at the higher single digits right now versus a home health, which is going to be closer to the mid-single digits. And those are for the onesie-twosie, the smaller. That's not if you had a portfolio of assets, which would obviously attract a higher multiple.

There are no further questions at this time. I will turn the call back to Jennifer.

Thank you, Sarah. If anyone has additional questions, please call me at (469) 621-6496. Thank you again for joining today's call.

This concludes today's conference. You may now disconnect your lines.