Greetings and welcome to Surgery Partners Fourth Quarter and Year End 2019 Earnings Call. At this time, all participants are in listen-only mode, a question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to turn the conference over to your host Mr. Tom Cowhey, Chief Financial Officer for Surgery Partners. Thank you, you may begin.

Good morning, and welcome to Surgery Partners' fourth quarter and year-end 2019 earnings call. This is Tom Cowhey, Chief Financial Officer. Joining me today are Wayne DeVeydt, Surgery Partners' Executive Chairman and Eric Evans, Surgery Partners' Chief Executive Officer. As a reminder, during this call, we will make forward-looking statements. Risk factors that may impact those statements and could cause actual future results to differ materially from currently projected results are described in this morning's press release and the reports we file with the SEC. The company does not undertake any duty to update such forward-looking statements. Additionally, during today's call, the company will discuss certain non-GAAP measures which we believe can be useful in evaluating our performance. The presentation of this additional information should not be considered in isolation or as a substitute for results prepared in accordance with GAAP. A reconciliation of these measures can be found in our earnings release which is posted on our website at surgerypartners.com and on our most recent annual report when filed. With that, I'll turn the call over to Wayne. Wayne?

Thank you, Tom. Good morning and thank you all for joining us today. We have a lot to cover this morning regarding our fourth quarter results and our 2020 expectations. Before we begin I would like to highlight the two-year journey we've been on as a company and how we have positioned Surgery Partners for sustainable double digit adjusted EBITDA growth for the long term. This journey began in 2018 when we assembled a new team and developed both our near term and longer term strategic goals and key initiatives. In 2018, we initially focused on building the foundation for growth which included realigning our portfolio and eliminating non-core assets, integrating corporate operations to achieve economies of scale, directing investments to the highest growth specialties with the strongest return on capital, building a pipeline of acquisition opportunities aligned with our high-growth specialties and targeted geographies, de-risking the balance sheet and settling a legacy matter to eliminate distractions and finally establishing a culture of execution based on data-driven decision-making and accountability for results. For 2018 and the early part of 2019 these initiatives drove our actions and established the foundational core that we believe was critical to becoming the partner of choice for the operation of short stay surgical facilities. In 2019 we leveraged our foundation and increased our focus and investments into four key areas that we believe will differentiate us as the partner of choice. These areas included physician recruiting essentially investing in our ability to attract more doctors to perform more surgeries in our centers. Managed care; ensuring our physician partners and facilities are properly paid for the value we provide to the healthcare system. procurement; delivering the highest quality items with the best possible value to our centers and finally revenue cycle management; ensuring that our facilities…

Thank you, Wayne and good morning everyone. This morning I'd like to review highlights of our most recent results and then provide an update on the strategic initiatives that contributed to these results and that will continue to drive sustainable double-digit long-term adjusted EBITDA growth. Tom, will then close our opening remarks with greater detail on 2019 financial results as well as our 2020 outlook before we take questions. I am pleased to report we achieved our targeted double-digit full-year growth in earnings this year, reporting full-year adjusted EBITDA of $258.6 million representing growth of 10.1% over 2018. This performance was driven by strong growth in adjusted revenue which grew 2.8% on a reported basis and 7.6% on a same facility basis. The strategic initiatives we've been focusing on have started to bear fruit this year expanding our adjusted EBITDA margins 90 basis points to 13.9%. In the fourth quarter 2019, adjusted revenues grew 4.2% to $520.7 million and adjusted EBITDA grew an impressive 15.1% to $84.4 million. As we look deeper into the quarter days adjusted same facility revenue increased by 7.9% from the prior year quarter driven by strong net revenue per case and volume growth. This continued the trend of consecutive quarterly same facility revenue growth now at six quarters. As we begin 2020, we remain enthusiastic about the underlying growth dynamics of our surgical facilities and the strategic initiatives that will continue to provide meaningful growth. These initiatives include our key areas previously mentioned by Wayne in his opening remarks along with a focus on managing corporate overhead as well as a continued foundational focus on providing exceptional quality and patient experience. As we discussed in our third quarter call, we've been working for some time to enhance our physician recruiting efforts, arming our facility leadership…

Thanks Eric. Today I'll spend a few minutes on our fourth quarter and year end 2019 financial performance starting with some of our key revenue drivers then moving on to adjusted EBITDA, cash flows and our 2020 outlook. Starting with the top-line. Surgical cases increased to approximately 138,000 in the quarter and we ended the year at approximately 525,000 cases. Importantly, as Eric noted this growth included higher acuity cases which drive higher net revenue and earnings. Our case growth also benefited from targeted managed care rate improvements yielding strong revenue growth. In the fourth quarter of 2019 we reported $521 million of adjusted revenues, 4.2% higher than the same period last year. Full-year adjusted revenues rose to $1.86 billion representing year-over-year growth of nearly 3% overcoming the loss of nearly $80 million of prior year revenue from closed or divested facilities. Removing the impact of the closed or divested facilities adjusted revenue growth would have been approximately 7.6%. On a same facility basis total revenue grew 7.9% in the fourth quarter and 7.6% for the full year. Higher acuity cases and improved reimbursement rates contributed 5.9% to this growth in the fourth quarter and 5.5% for the year with the balance coming from case growth. Turning to operating earnings. Our fourth quarter 2019 adjusted EBITDA was $84.4 million, a 15.1% increase over the comparable period in 2018 bringing our full-year result to $258.6 million achieving our full-year guidance of double-digit adjusted EBITDA growth. The primary driver of the increase over the prior year quarter was strong operational performance but it is worth noting that just over a quarter of our growth in the period came from two strategic actions that we have discussed previously. The absence of operating losses from two surgical hospitals that we chose to exit at…

Thank you. At this time we'll be conducting a question and answer session. [Operator Instructions] Our first question comes from the line of Ralph Giacobbe with Citigroup. Please proceed with your question.

Thanks. Good morning. I guess, I'll start obviously a lot on Corona virus in the headlines. Can you give us any sense -- if you've seen any impact in fourth quarter and just how you think about framing potential impact – behavioral impacts etc. of folks potentially deferring procedures?

Ralph, good morning, this is Eric. We are not surprised for getting this question. Obviously, it's something it’s on everyone's mind. I'd start with just saying obviously our first priority is the safety of our colleagues, our patients and our physician partners and so we take that very seriously. To date we have not seen an impact. So from a scheduling standpoint from a same store standpoint as the year started off we haven't seen that impact but we are clearly taking steps to make sure that we are all over our triage policies in the hospitals and our ASCs making sure we appropriately screen patients. Our business is less ER dependent and there's probably less access points in most places. So we feel like in general our ability to manage this is pretty strong but it is clearly something I don't know that any of us can predict as far as the overall impact, I wouldn't want to prognosticate but I would say that to date we have not seen an impact.

Okay. And I guess just the follow-up question, the cash flow number was a little bit light in the quarter. Anything to call out there on sort of why the weakness and maybe if you can just help us on sort of operating cash flow expectations for 2020 and expected CapEx spend as well. Thanks.

Sure. Hey Ralph, it's Tom. So as you think about the cash flows and just make you think about the year, you've got higher earnings which obviously help to translate but we have higher interest expense because of some of the transactions that we've done. We took some operating cash flow losses in the quarter and in the year associated with the startup costs for Idaho Falls Community Hospital and as you think about the tax receivable agreement as well, the payments on that went one up this year and they'll go up again next year and those are fourth-quarter payments and so the tax receivable agreement combined with the IFCH opening and also just your higher level of interest as compared to last year are your three primary drivers and the partial offset there is just obviously that we grew earnings in the period by 15% over the prior year period. As you think about next year you will have some of the same dynamics. You’ll have a little bit of annualization of the interest rate in the fourth quarter associated with a 2027 notes but you'll have higher income because we expect to grow double-digit, much as we did this year and then you will have additional losses at Idaho Falls. As you look at the EBITDA impact this year, we've taken full-year probably low teens in terms of losses at that hospital and excluded them which we've reported every quarter. I would expect that the EBITDA impact in 2020 would be similar to that number perhaps a little bit better but the cash flow drain from that will be probably more than 2x that and we're fully anticipating that we will fund that in our outlook.

Okay. Thank you.

Thank you. Our next question comes from the line of Kevin Fischbeck with Bank of America. Please proceed with your question.

Great. Thanks. I just wanted to ask about deals, I guess, Wayne you kind of said that you’re positioning within your role to kind of focus more on on that side of the equation. Should we -- I know your guidance does not include deals, I guess just for us to confirm that but beyond that, should we expect deals to show up in a bigger way this year or is this the beginning of an initiative and it's really not until next year and beyond that we should expect that to actually see the deals flow through in a bigger way?

Hey Kevin, appreciate the question in good morning. Let me put in perspective a few things. Let me first just start with, when we think about our annual guidance, we view all levers as being available to that. Now obviously right now we have not baked in outright M&A but I would also tell you we still have some assets that we are planning to prune throughout the next year and so there will be some kind of re-shifting of a few assets at our core -- that are not core to ASCs and being replenished with ASCs that being said we have a very robust M&A pipeline right now and we have many transactions under LOI that started late last year. The actual process started early last year but got to LOI late last year and now we're in a place where hopefully we can get these over the finish line in the first half of this year. And we've made a number of proposals with a number of entities. I highlight this though to say that in ‘18 because our focus was pruning the asset and redeploying that capital back into our growth initiatives, that was kind of goal number one and goal number two has been establishing a foundational core and proving that we could get the effective returns through these acquisitions and then of course last year we started doing that on a smaller scale but doing the plug and play into the infrastructure we built and actually seeing it as a proof point. So the long and short to your question Kevin is -- the pipeline is robust, I would expect us to announce a lot more transactions this year than we did last year. I would expect some of these knock on wood we'll be announcing either at the end of Q1 or into early Q2 that we got some of these over the finish line. And then how those play into our double-digit earnings growth is really a reflection of the items we are looking at divesting several which are under LOI as well and whether they'll just replenish the short-term EBITDA that we've divested or whether they'll be additive to our EBITDA. I do think for the year though will be in an additive position.

Okay. Great. Thanks. And then I guess the last couple quarters you spend a lot of time talking about the ramp up of physicians that you've recruited. Can you give any color about what your guidance assumes this year as far as this is recruited this year relative to the last couple of years and then how you're seeing the ramp up of volumes of recently docs?

Sure. This is Eric. A couple things on that. We've talked a lot about our really data focused approach recruiting over the past couple years and we've been pleased with those results. This year we have added a chief growth officer and some additional resources to that goal and we do expect probably a slightly better number of our physicians recruitment numbers this year than last year. We were pleased with this year's number, in particular we're pleased with the focused specialties and the docs that we are keying in on. The big difference this year that we could say is that the doctors we had were significantly a bigger impact on our financials both earnings and the revenue and so we are seeing the acuity growth we expect as you know there's a lot of opportunities opened up for us with the CMS additions to what can be done at ASCs and we're taking full advantage of that. So we actually expect that number to continue to grow as far as physicians recruited this year we've definitely invested in that area and it will continue to be a huge focus. And Tom, I don’t know, if you want to add anything to that.

No. I mean, I think, we've gotten a lot smarter every year as we think about how it is that we want to invest and how we get our ROI and I'm confident with the folks that we have added in terms of additional focus in this area that we're going to take a very good result in 2019 and really accelerated into 2020.

Great. Thanks. I need to squeeze one last clarification in related to Ralph's earlier question about Corona virus. You said you're not seeing an impact now. Does your guidance assume that there will be an impact or is it kind of you're not seeing it, so you're not adjusting [guidance]?

No. There's no plans and there is nothing in our guidance related to Corona virus. I would say obviously look I don't think anyone's in a position to procrastinate or make a prediction as to what's going to happen but with our business so far we have not seen an impact and again ours is a very elective business. We don't have the same type of kind of acute infrastructure. Most of our facilities very few ERs and to date we feel like the impact has been very minute, actually we haven't had one. So but again it's a moving target and we get new information every day on this. I think our biggest focus here is to make sure we do our part to keep our patients, colleagues and physicians safe and then we think we're well positioned to do that.

Great. Thanks.

Thank you. Our next question comes from line of Chad Vanacore with Stifel. Please proceed with your question.

Thanks. I did actually just want to follow up on Kevin and Ralph's questions. I missed what did you say about expected startup losses for Idaho Falls in 2020?

Sure. So if you add up all the pieces for this year the EBITDA losses that we've excluded are kind of low teens in terms of an EBITDA impact and I would expect that this year we'll be excluding something similar. We've got a lot of fixed costs. We did receive licensure. So we are expecting that we will start to have revenue to offset that. So the losses will not be as bad, but we think that over the full year -- there won't be as concentrated as what you saw in the fourth quarter. And so we think that, that number is slightly better in 2020 versus what it was in 2019 and very concentrated in the fourth quarter but as you look at what the cash flow impact of that is because of the way that we finance the building and other things you're really looking at kind of a 2x impact in terms of a cash flow impact for this year. And we've fully contemplated that as we think about our guidance and we think about our liquidity and availability to ensure that we've got the appropriate capital set aside to fund that loss which we then hope is going to start to turn in 2021 and really then accelerate in terms of growth in 2022.

Yes and I would add one thing there just for context having opened a number of hospitals over the years. This market is a market where we know it well. We're well positioned from a value standpoint. We're well positioned with our reputation, our physician relationships and this is one of those hospitals while all hospitals will incur losses as a start-up, the turn on this hospital will be as fast as any I've seen and we feel really, really positive about where this hospital is going in the coming years.

All right. And then just on the M&A question. You said you plan to prune some assets but the pipeline is robust. In the past you've guided us to somewhere between 3% to 5% external growth on revenues via acquisition. Should we be thinking that growth is really flat in 2020?

Not necessarily. I think Chad the one thing I would highlight is, it's always about timing so as you know, you don't have a deal done until the deal is done and so one of the things we have going is we've got a couple of assets that we're pruning that are clearly not core to what we do as an entity and that will become clear and the timing on those we're anticipating probably closing those sometimes in 2Q. We are hopeful to get a few of these other LOIs done in early Q1 and then the pipeline is robust enough that if we can come to some terms on a couple other acquisitions we're looking at this could actually be positive, net positive this year meaning we replenish the EBITDA that we lose and we actually start growing the EBITDA through M&A again. So right now I would bias toward a positive growth from M&A even after neutralizing those that we divest.

All right. And then just one other thing, you had mentioned that a knee replacement started picking up in the fourth quarter and I think third quarter we asked about this you thought it was tough to quantify that initial impact. So now you've got a quarter under your belt. Where do you see these knee replacements going to?

Yes. So I am not going to give direct guidance on this as far as exactly how fast stuff is going to shift out of the hospitals. I will say we're seeing an increasing comfort level among stocks in many regions of the country with moving knees out of acute care hospitals and ASCs until different, the appropriate care setting. I also will say that one of the big health's we've talked about this in the past, we've been doing knees in our ASCs for a while commercial needs and now that we can do Medicare, it's a big advantage from a scheduling standpoint. Physicians don't have to split up schedules. We're seeing that that advantage and we expect that to continue to grow, I mean there's predictions out there that within the next five years up to half of the total joints could be done in ASCs. I've seen that. I don't think it's unreasonable but that timing is always tough, as an example we think about the stuff that's been added this year for cardiology. So if you guys know the PCI's and stenting was added to the ASC list this year. If you think about that in just relative terms it was 10 years ago maybe more when they first started allowing PCI's to be done in hospitals without open-heart backup, which in theory that should have been the moment they were allowed in ACSs. This stuff takes time. It's based on regulatory but it's also based on physician comfort level. So across the country we have some states where physicians are bringing all their joints and feel extremely comfortable and are having great results. In other parts of the country, it is just beginning and physicians are still getting used to this concept. So I would say the maturation levels are quite different across the country. We expect that trajectory to continue to be a really nice positive for us but it's hard to predict the exact kind of movement timing.

Hey Chad, one other thing I just want to clarify. So the fourth quarter print does not include any Medicare TKA because those procedures are eligible starting in the first quarter and so the numbers that we talked about earlier are really all commercial. So we've had a focus over the last couple of years in arming our ASCs to be able to do total joints for commercial populations in anticipation of being able to potentially start doing Medicare knees and hopefully hips in a couple of years in those same facilities and so about quarter of our ASCs today have the capability to do a total joint and we're going to add probably about 10 facilities to that list this year and really as we continue to expand our ability to service that population across our footprint.

All right. Thanks a lot.

Thank you. Our next question comes from the line of Brian Tanquilut with Jefferies. Please proceed with your question.

Hey good morning guys. I guess my first question is for Wayne. As we think about joint ventures and just on the M&A outlook it seems like there is increasing interest from hospitals to outsource in JV there. So what are you seeing in that front? And then I guess the second part of that is -- historically Surgery Partners as a company focused mostly in the two way joint partnership strategy. So if you don't mind just walking us through this thinking on potentially partnering with hospitals and what that does to your model and the economics of the business?

Hey, good morning Brian, thanks for the question. I think an important point you raised is -- it's not just about M&A, it's really about these JVs and the value creation that comes through them. As a reminder today about 5% of our business is in these three way JVs and it's generally been isolated to some academic institutions that we've got good relationships with say Vanderbilt here in Tennessee or UCLA in Southern California but as we look at that and if you compare that just to historically what some of our previous competitors had in terms of three-way JVs, we are less than 25% of where they were at on these three-way JVs on a percentage of total book basis. And so, as we've been evaluating those, I would tell you, and I've said this in the last couple of calls, that my optimism on entering into more partnerships with hospitals that need a partner to run an ASC strategy for them is high. I would tell you that we are having ongoing and regular dialog with not only local systems but regional and national systems right now. And we are in the process of doing some black box work in a number of our facilities to understand what is the mutual value creation we can bring to them with our ability to run a very efficient operation, coupled with the fact that they've got large ecosystem footprints and how they can drive volume to these facilities. And so, that work is well under way to the point that I wouldn't be surprised if we announce some JV opportunities and ventures this year. And so -- and those to me are just another tool in the toolbox that give us our confidence in our 10% plus growth model that we've laid out. And I think that's why we continue to just say double-digit. Where that lands remains to be seen, but I think for us, we like the way we're approaching it. And I do think that a couple of years of solid execution really opens up a lot of people's eyes around what we can do to manage their platform. So, very bullish on this on this opportunity for us, not only in the M&A, but I would say, probably even more bullish on the JVs right now.

Yes, the only thing I would add to that, and I think Wayne covered it very well, is that because of our historic position of not having a lot of three-way JVs, it also opens up opportunities for us to partner with health plans. And so, we're on both sides of that, depending on the region. We clearly want to make sure that we remain a value player, and we believe we create that in every one of our markets. And there are cases where we are much better off working with the health plans and being that large independent operator in a region. But there are other times where it clearly makes sense to partner with a like-minded health system. I think that is a -- the optionality we have, given our industry structure, is a really big piece of value for us.

I guess, a follow-up to that last point, Eric. Being a value player and marrying that with what you guys have been doing in terms of trying to bring your rates to market, how much juice do you left in terms of what is the percentage of contracts where you're still below market or the ability to ratchet up or get, what you call, inflation increases going forward on those contracts that you've already renegotiated?

I will say it's significant. We still have a number of markets where, just based on market data, we have a significant opportunity just to be at the market of the value-playing industry we're in. So we still see upside there. Clearly, what we would prefer to do is find a way to move that up in partnership where we're also collaborating on how we actually move business to the right place too. So it's a volume-value trade. But we have lots of opportunities in several markets. We have a lot of negotiations under way. And we see significant upside in our ability to capture more of the value we're creating and be paid fairly, while even at the same time -- and I will tell you, in the negotiations that we have completed, while we got significant increases, we also at the same time have the payers collaborating with us to move business because we're still a value player with those increases. So I think our job is to find the sweet spot of where do we create value and also remain that independent partner where people want to move additional volume because we're the right place for their patients.

Hey, Brian, one last thing. This is a tough one to really quantify, although I will tell you we've done our own math. And I don't want to put numbers out that everybody wants to see us print, but what I would tell you is, the opportunity is not millions. It's not even 10s of millions. It's well north of that. And I would simply just tell you that the key isn't about going and just capturing short-term value creation. It's about capturing sustainable value creation. So when you ask about kind of where we're at in this journey. I would say we have barely scratched the surface on the delta between what we should be getting paid versus what the market is paying today versus what we actually get paid. And so those are really three different levers you have to think about. Where we stand versus where we want to be to be the value play versus where the market is actually paying today, which is even above that. So, a lot of runway for us as a company, and that's what gives us our optimism over the long term around double-digit growth.

That's very helpful. Thanks Wayne.

Thank you. Our final question comes from line a Frank Morgan with RBC Capital Markets. Please proceed with your question.

Good morning. I guess, to stay on the total joint, in terms of that timing going from 25 facilities that have that capability up to the mid-to-high 30s, how is it staggered over the course of the year and what is the capital requirements for doing that?

Yes, it's a great question, Frank. We have a number of facilities already identified that have the space and the capabilities of doing joints quickly. So, a lot of these centers that we're adding are multi-specialty centers where we're adding total joint capability that doesn't require a lot of capital. Now, there are also obviously examples where we have to expand [ORs], we have to add new rooms, new capacity. Those get a lot more expensive. But the ones that we have identified that move us from the mid-20s to the mid-30s do not require much capital. It's simply a matter of getting docs comfortable, getting their protocols in place. And so we're quite -- we have a clear path to the centers we put out there as far as more centers adding total joints, there are additional opportunities beyond that, but some of those do require more capital.

Got you. And so, is the -- the spread of those, is it kind of back-end loaded so that the impact in the current year is not that meaningful? Or is it kind of ratably spread?

I would say, it's relatively a normal curve. And we've got varying levels of ready-to-go. We had two new centers in the first -- so far this year that have started doing program, so they've done their first joint. So it will be spread across the year. And I don't expect it to be any kind of -- it's not going to be particularly back-loaded or front-loaded.

Got you. And just one question on the volume side. I think you all called out last quarter something like 750 procedures may have been deferred because of some hurricane-related issues. Just curious, it didn't -- I kind of thought maybe you could see more of a impact of that in the fourth quarter number, but just any color around that? Thanks.

Yes. So first of all, I'd say, we were pleased with our fourth quarter growth, both acuity-wise and positive volume growth as you guys saw a couple of percent case growth. It's always hard to know on procedures like that when it comes to a day lost in surgery. I think Wayne mentioned this last time like a day lost, yes, it spreads out. You hope to get it back. It's hard to always pin all those down. I would assume some of that's in that number, but I don't think that made a huge impact. And in total, we were quite pleased with the growth we posted.

Okay. Thanks.

Yes. So with that, I think that was the last call. And before we conclude our call, I just want to take a moment to join my Surgery Partner colleagues and say thank you to our over 10,000 associates and over 4,000 physicians who make up our care system for their contributions. Surgery Partners collectively serves over 600,000 patients each year and thousands of patients each day in what are often their absolutely most vulnerable moments. We take that trust and faith that our physician partners and patients place in us incredibly seriously and are privileged to make a positive difference in so many people's lives. I'm excited about and humbled by the opportunity to lead this company as we work to more fully deliver on our mission of enhancing patient quality of life through partnership. In our efforts, we are clearly part of the solution to many of the challenges facing our nation's healthcare system and are extremely proud of the value we are creating for all of our stakeholders. As we execute against our goal to become the preferred partner for operating short-stay surgical facilities across the U.S., it is the daily efforts of each and every Surgery Partner colleague and physician that will get us there. So I want to definitely say thank you to them, and thank you for joining our call this morning and have a great day.

Thank you. This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.