Good day, and thank you for standing by, and welcome to the InnovAge Third Quarter 2023 Earnings Conference Call [Operator Instructions]. Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today, Ryan Kubota, Director of Investor Relations. Please go ahead..

Thank you, operator. Good afternoon, and thank you all for joining the InnovAge Fiscal 2023 Third Quarter Earnings Call. With me today is Patrick Blair, President and CEO; and Barbara Gutierrez, CFO. Dr. Rich Feifer, Chief Medical Officer, will also be joining the Q&A portion of the call.

Today, after the market closed, we issued a press release containing detailed information on our quarterly results. You may access the release on our company website, innovage.com.

For those listening to the rebroadcast of this call, we remind you that the remarks made herein are as of today, Tuesday, May 9, 2023, have not been updated subsequent to this call. During our call, we will refer to certain non-GAAP measures.

A reconciliation of these measures to the most directly comparable GAAP measures can be found in our fiscal third quarter 2023 earnings press release, which is posted on the Investor Relations section of our website.

We will also be making forward-looking statements, including statements related to our remediation measures, including scaling our capabilities as a provider, expanding our payer capabilities and strengthening our enterprise functions, future growth prospects, the status of current and future regulatory actions, Florida De Dovo centers and other expectations.

Listeners are cautioned that all of our forward-looking statements involve certain assumptions and are inherently subject to risks and uncertainties that can cause our actual results to differ materially from our current expectations.

We advise listeners to review the risk factors discussed in our Form 10-K annual report for fiscal year 2022 and our subsequent reports filed with the SEC, including our quarterly report on Form 10-Q for our fiscal third quarter 2023. After the completion of our prepared remarks, we will open the call for questions.

I will now turn the call over to our President and CEO, Patrick Blair.

Patrick?.

the health and well-being of our participants; and enhance discipline at the corporate level to better leverage our fixed cost base. On the growth front, we've been focusing on adding the right talent, ensuring the team has the right tools for the job, expanding our referral channels and improving forecasting effectiveness.

In the last few months, we've seen more lead volume than any other time across both field and digital channels. We're focused now on qualifying these leads and on enrollment conversion. This is a team effort between us and our state partners who ultimately process the enrollments.

We continue to challenge ourselves to improve each dimension of the enrollment funnel to be more productive, consistent and predictive each month. In Colorado specifically, I wanted to spend a minute detailing the shape of the anticipated enrollment over the coming months. Recall, we were released sanctions at the end of January.

We enrolled our first group of new participants on the first available date of March 1, consistent with required PACE enrollment processing time lines. At the same time, we are actively developing a pipeline of potential PACE participants who have expressed an interest in enrolling.

We are facilitating the necessary third-party approvals to satisfy Medicare and/or Medicaid requirements to join PACE, which can take on average between 60 and 90 days. And critically, we have been intentional within our centers to gradually reintroduce new enrollments as it's a muscle and mindset we have not flexed in over a year.

It's been a deliberate ramp-up in Colorado over the last few months, and we anticipate it will take at least another quarter to have confidence in our enrollment run rate. In addition to the organic focus, we're pleased with the level of activity in the market for tuck-in acquisitions and new partnership opportunities.

That said, we're resolved that nothing distract us from our compliance focus in filling the existing center capacity. We will continue to be opportunistic and will focus on organizations that share our commitment to quality and participant-centric care.

Last quarter, I mentioned the importance of using the rate setting process both on and off cycle as an opportunity to work closely with states to ensure we receive actuarially sound rate adjustments that properly consider the acuity and underlying risk of our participants as well as the inflationary factors inherent in our business.

Primarily as a byproduct of sanctions, our risk mix now comprises a disproportionate share of participants with greater health care and supportive housing needs, like assisted living. And as we have discussed before, our population was also disproportionately impacted by COVID.

Now more than ever, it is incumbent on us to empirically prove out our medical cost experience to our state partners, which we believe to be higher today than is reflected in the historical data that can be used to set future rates. To support our work here, we recently hired [Randy Brock] as Senior Vice President of Medical Economics.

Randy brings decades of experience from Anthem and Amerigroup working to ensure rates for Medicaid managed long-term care and dual-eligible programs reflect the true cost of serving these high-need populations. Barb will provide an update on the current rate-setting activity and timing of when new rates will go into effect.

Our portfolio of clinical initiatives, or CVIs, continues to progress. We now have a strong perimeter around the near-term opportunities and accountable leaders to drive these initiatives forward.

However, as I've mentioned in the past, these will be dials, not switches, and we do not expect the financial impact of these initiatives to materially contribute to our financial results until next fiscal year.

I would also note that the current portfolio of initiatives is primarily prophylactic and that we're looking for improvement to offset currently elevated cost until we have added enough new participant growth to balance the risk pool.

As an example, our focus on resource management led to the identification of short-stay skilled nursing facility, or SNF, utilization is a top priority. We launched an initiative to determine where and when this service is clinically needed for participants and defined alternative care settings for times when it is not necessary.

As a result of these efforts, we have achieved a meaningful reduction in monthly short-stay SNF utilization over the last 12 months. Furthermore, for those participants needing a SNF for short-stay medical care, our average monthly short-stay SNF days has dropped approximately 25% over the fiscal year to date.

This is great progress on an important cost driver, but we have other cost categories like inpatient admissions that are stubbornly higher than our current expectations. In addition to our initiatives discussed last quarter, we're kicking off a new effort focused on lowering external provider unit costs went out of line with benchmarks.

We'll also be streamlining our assisted living facility network to match our capacity to provide compliance oversight and to better meet the needs of our census. We believe this initiative will help lower our external provider costs and improve the participant experience. Turning to center operations.

As I mentioned earlier, we have 9 of our 17 centers live on Epic with the remainder scheduled for the first half of fiscal year '24. We've made the decision to pull forward the Colorado market go live to early fiscal year '24.

Pulling forward the 6 centers in Colorado earlier than originally anticipated will likely create modest G&A headwinds in fiscal year '24, but we believe the expected benefit will more than offset the incremental investment.

Though it takes many months to achieve full adoption and the expected benefits of a new system, we're encouraged by the operational efficiencies that are emerging and the positive feedback our administrative and clinical teams are sharing.

We expect the Epic investment to be a powerful enabler to drive better compliance, productivity and clinical staff satisfaction.

We also continue to make meaningful progress implementing our new triad operating model, which focuses on the partnership among the center directors, nursing directors and medical directors at the center, regional and national levels.

The triad model is predicated on driving better participant care, making faster operating decisions and improving center level contribution margin. We're starting to see the impact of forming this tight-knit team with aligned incentives and joint accountability.

Regarding corporate costs, we continue to maintain discipline to hold corporate staffing costs constant as we grow back into our fixed cost base. The hiring controls we put in place 6 months ago have helped us better match our hiring pace and volume to our financial targets.

We continue to focus on actions to ensure our G&A relative to revenue is aligned while using savings as a funding mechanism for tools and technology that will improve efficiency and effectiveness. We believe there is a virtuous cycle behind these efforts in which our employees can be more productive, satisfied and scalable.

Additionally, we've also looked beyond the P&L and found opportunities to optimize our working capital, which we believe will drive approximately $10 million of benefit once fully implemented by the start of fiscal year '24. Turning to financial performance.

We reported revenue of $172.5 million, a sequential improvement of approximately 3% compared to last quarter. We ended the quarter serving approximately 6,310 participants.

For the quarter, we reported center level contribution margin of $28.8 million and a corresponding center level contribution margin ratio of 16.7% compared to second quarter fiscal year '23 center-level contribution margin of $22.6 million, an increase of $6.2 million and margin improvement of 320 basis points.

The quarter overall demonstrated incremental progress in our core focus areas. However, as I mentioned at the outset, it remains too early to take the results of the quarter and extrapolate them into the future.

We had the benefit of a few onetime tailwinds, which Barb will discuss, and we continue to face medical cost pressures from our deconditioned participant risk mix, which will take some time to normalize.

To help contextualize that point, our consolidated RAF score as of March 31 was 2.53, which is up approximately 5% relative to our year-to-date average. To accelerate rebalancing of our risk pool, we will continue to focus on employing this flat capacity at our existing centers.

Particularly in the Colorado market, resuming enrollment growth will drive better labor utilization in our centers and help rebalance our mix of new and tenured participants, which should improve participant expense PMPMs.

In closing, the team's collective dedication to our participants and hard work through this last chapter, along with numerous investments in new processes, is beginning to unlock the full potential of the organization. I greatly appreciate their tireless efforts and continued commitment and the ongoing support of our valued government partners.

We look forward to continuing to demonstrate incremental improvement quarter-over-quarter in each of our focus areas and are seeking additional catalysts to deliver breakthrough impact and value to the organization over time.

I know I speak for the entire organization that we are thrilled to be returning to our core mission of expanding PACE to the many deserving underserved seniors across the country. Now I will turn it over to Barb..

one, salaries, wages and benefits, which accounts for approximately 80% of the total variance increased due to higher headcount as a result of filling key vacancies, higher wage rates and increased labor costs associated with ongoing audit remediation and compliance efforts; two, third-party audit and compliance support as we work through the audit and proactively performed self-audit in our non-sanctioned markets; three, fleet and contract transportation driven by higher average daily attendance in our centers, an increase in external appointments and higher fuel costs; and four, increased building maintenance and security costs associated with growth in average daily attendance.

Cost of care increased 5% over the second quarter of fiscal 2023, primarily due to increased wage rates and headcount, coupled with an increase in building maintenance.

Central level contribution margin, which we define as total revenue less external provider costs and cost of care, excluding depreciation and amortization, was $28.8 million for the third quarter compared to $28 million in the prior year and $22.6 million in the second quarter of fiscal 2023.

As a percentage of revenue, center level contribution margin for the quarter was 16.7%, representing a 90 basis point improvement over the prior year and a 320 basis point improvement over the prior quarter. Sales and marketing expense was $5.3 million, an $800,000 decrease compared to the prior year.

The decrease was mainly due to lower sales headcount as a result of the sanctions, partially offset by onetime costs related to organizational realignment completed in the third quarter of 2022.

Compared to the second quarter of fiscal year 2023, sales and marketing expense increased by $1.5 million, primarily due to increased marketing spend and sales headcount following the Colorado sanction lift and the addition of traditional media in all non-sanctioned markets.

Corporate, general and administrative expense was $27.6 million, a $3 million increase compared to the prior year. This was primarily due to an increase in headcount to support compliance and bolster organizational capabilities, an increase in third-party legal spend and an increase in software license and maintenance expenses including Epic.

These costs were partially offset by a reduction in bad debt expense and lower consulting expense associated with laying the groundwork for strengthening organizational capabilities.

Sequentially, corporate, general and administrative expense decreased $1.2 million due to lower third-party legal expense, reduction in contract services associated with Epic implementation in our centers in the East region, continued tapering of certain third-party consultant expenses associated with improving organizational capabilities and a reduction in bad debt expense.

These decreases were partially offset by an increase in headcount and employee-related costs and an increase in software license and maintenance expenses. Net loss was $7.3 million compared to a net loss of $3.2 million in the third quarter of fiscal 2022.

We reported a net loss per share for the fiscal third quarter of $0.05 on both a basic and diluted basis. Our weighted average share count was 135,601,327 shares for the third quarter on both a basic and fully diluted basis.

Adjusted EBITDA, which we calculate by adding interest, taxes, depreciation and amortization, onetime adjustments for transaction and offering related costs and other nonrecurring or exceptional costs to net income, was $3.8 million compared to $1.9 million in the third quarter of fiscal year 2022 and negative $2 million in the second quarter of fiscal year 2023.

Our adjusted EBITDA margin was 2.2% for the third quarter compared to 1.1% for the third quarter of fiscal year 2022 and negative 1.2% for the second quarter of fiscal year 2023.

The sequential quarter-over-quarter improvement in adjusted EBITDA and adjusted EBITDA margin is primarily a function of increased Medicare capitation rate, improvement in external provider cost per member per month resulting from pharmacy rebates and lower G&A, partially offset by increased cost of care and increased sales and marketing.

We do not add back any losses incurred in connection with our de novo centers in the calculation of adjusted EBITDA. De novo center losses, which we define as net losses related to preopening and start-up ramp through the first 24 months of de novo operations, were approximately $880,000 for the third quarter primarily related to centers in Florida.

Turning to our balance sheet. We ended the quarter with $121.7 million in cash and cash equivalents plus $45.8 million in short-term investments. We had $89.1 million in total debt on the balance sheet, representing debt under our senior secured term loan plus finance lease obligations and other commitments.

For the third quarter, we recorded cash flow from operations of $29.1 million, inclusive of $26 million of deferred revenue, and we had $4.7 million of capital expenditures.

As Patrick indicated, in this quarter, we benefited from certain onetime or timing-related tailwinds which cannot be extrapolated for the remainder of fiscal 2023 or into fiscal 2024.

Over the remainder of the fiscal year and into the next fiscal year, trends will evolve related to enrollment growth, post-sanction cost structure and the impact of CVIs. With that said, I will provide some additional visibility around the following trends we are seeing.

Regarding census, while our focus remains on ramping up our enrollment efforts in Colorado and Sacramento, I want to briefly provide some additional detail on the impact of Medicaid redetermination as a result of the end of the public health emergency.

The nature of our population and the complexity of the Medicaid services our participants receive results in a comprehensive financial qualification as compared to the more traditional Medicaid-only population.

Additionally, we completed annual Medicaid redetermination throughout the public health emergency with a dedicated team to support these efforts.

Our process enables us to provide a high degree of service to participants to monitor eligibility, assist with the redetermination process, address potential issues with eligibility in real-time and track future renewal dates, which we believe will result in minimal pre-COVID levels of financial disenrollment. Regarding revenue.

As we said last quarter, effective January 1, we experienced a low double-digit Medicare rate increase associated with an annual increase in county rates, coupled with an increase in risk scores.

This positive outcome was tempered by a low single-digit Medicaid rate decrease from the state of California, resulting in a net mid-single-digit rate increase in the aggregate.

To appropriately optimize our opportunity to be accurately compensated for the full risk profile of our participants, we are building out our internal competencies around revenue participants and around the rate-setting process to more actively engage with our regulators.

Most of our states, including Colorado, are on a July 1 fiscal year, and we plan to utilize these augmented capabilities during the rate setting cycle currently in progress. Finally, some thoughts on cost of care, external provider costs and overall central level margins.

In the midterm, we continue to believe that we can obtain margins similar to what we experienced before the sanctions, although the composition of our central level costs may look slightly different.

The investments that we have made, particularly in staff-related costs, have elevated our cost of care expense compared to historical levels, but we are driving value through other revenue and cost focus areas such as our payer initiatives and CVIs to bend the curve and deliver margin over time.

Though it will take multiple quarters to return to more robust margins, our focus remains on the key drivers, specifically, accelerating census growth which also serves to rebalance the participant risk pool as well as to unlock staffing capacity; optimizing revenue per participant through diligence on the accuracy of risk scores; and executing on clinical value initiatives to improve participant care and reduce unnecessary costs.

all of which we expect will drive a meaningful improvement in our margin profile. In closing, we are excited to be turning a page as we begin to focus on growth and expansion once again.

We remain extremely proud of the hard work and accomplishments that have brought us to this point, and we look forward to expanding access to PACE in the future to the many seniors who could benefit from the program. Operator, that concludes our prepared remarks. Please open the call for questions..

[Operator Instructions] And our first question comes from Lisa Gill from JPMorgan..

Congratulations on getting everything back up online. But let me just first start with -- you've given us a lot of information but really not quantifying anything. I'm just curious as to when you think you'll be in a position to maybe give us some incremental numbers and when you'll bring back guidance, would be my first kind of overarching question.

And then secondly, maybe if you can just also help us to think about the speed at which you'll be able to backfill your capacity in your center.

Like how quickly can you start to ramp back up again?.

Let me just kind of jump in on the guidance question and then I'll hand it off to Barb to fill in anything I missed. Clearly, it's our intention to provide guidance on a go-forward basis. But I think the question is, we're not ready today to say exactly when that will be.

We do believe it's appropriate to take a bit of a conservative posture on the timing for that.

And there's sort of a few reasons that I think we hit in the script, but just sort of come to mind, for one, it's still a pretty dynamic business as we just exit the sanctions and begin to grow again in our largest market, which has really had a pretty significant impact on the company.

And then there's still a number of drivers that we just like a bit more clarity on before providing guidance. I think one which we touched on is we're making great progress in Florida, but it's still a question of exactly when is Florida going to start generating revenue. And I think that's something we want to have a better read on.

Barb mentioned our participant mix. And there's still a question just how quickly is that risk pool going to rebalance and normalize as a result of the growth? And so we're trying to get as much of a read on that as quickly as we can. And then we talk about the staffing ratios in Colorado. It's a big market, there's a lot of people.

And so the growth rate in Colorado following a year of not growing can have real impact on those ratios. We have to understand that. And we also -- I also mentioned, I think, in my prepared remarks, just this notion of the post monitoring oversight by the regulators continues to be pretty resource intensive.

And so we're going to work hard over the next few months to dial all these things in. But I don't think we're ready to say today exactly what date guidance will be reinstituted but we're very committed to getting there as quickly as possible.

Barb, anything you'd add?.

No..

And maybe her second question..

Yes -- and yes, glad to answer any other specific questions, Lisa. That was helpful..

And the second one was just really around the ramp.

Now that Sacramento is back online, how quickly can you start to get new patients into your facilities?.

So the sanctions were lifted in Colorado, I think it was January 23. It took us a bit of time to ramp up the enrollment process. So our March enrollment was, I'll say, good given the time that we had, but it was limited as you -- if you compare that to sort of historical run rates. But in April and May, we've had nice momentum.

So I think we're tracking well with our internal targets, and we've got a solid pipeline of prospects who are interested in joining PACE. I think we're probably seeing a few more that need to get their Medicaid coverage, which can take 60 to 90 days, but that's not everyone in the pipeline.

So we still have some -- we definitely have some folks that are ready to enroll now. I expect that we're going to get back to our historical run rate in Colorado in the first quarter of the new fiscal year. We're certainly challenging ourselves to pull that forward and improve productivity in every market.

But I think that's -- and if I sort of zoom out and think about the full business, I would say, excluding de novos, we expect to be back at historical net monthly enrollment levels in the first quarter of 2024 of our fiscal year. We're certainly challenging ourselves to do it faster.

But right now, that feels like the right trajectory to get back to those historical levels..

[Operator Instructions] And our next question comes from Matt Larew from William Blair..

This is actually Madeline on for Matt.

I was just wondering, obviously, small sample size right now, but have you seen -- anything you can say about acuity trends in the population that you're enrolling in Colorado so far or like risk score trends there?.

I think it's a bit too early before that. We're just a couple of months in here, and it takes a little time for the participant profile and the claims history to build. So it's just a little early to answer that..

And just thinking about the enrollment process in general. I think you mentioned that you're sort of learning to exercise that muscle again.

Anything that you've learned from the Colorado process that you think would make Sacramento more smooth or make it easier to start on adding new patients in Sacramento?.

No, I think one of the things that we focused on a lot is really spending time to build our referral engagement channels. So we have a variety of community-based organizations that we work with, everything from sort of benefits counseling to faith-based organization to food pantries, foster care, housing alternatives. I mean, the list goes on.

I think we did a really nice job of building a game plan in Colorado for each of those channels. And we've gotten a jump-start on that in Sacramento. So I think just getting a great view of the landscape is really important. And I also think that Sacramento is just one center.

So it's a lot less complex to sort of ramp up than the whole -- our largest market has been in Colorado. So I think we got our first enrollment already in Sacramento. So I think we're feeling good about the ramp up there, and we think it will kind of follow the shape of Colorado in terms of build-out..

And then just one more for me. Thinking about the Florida centers, I think you mentioned last quarter that you were leading on some licensures, like adult day care license and things like that. Is that still sort of what's holding up the process or can you talk a little bit about what more there is to do in Florida from a regulatory standpoint? ..

Well, first thing I would say is we're very pleased with the progress. We've had great engagement with the state. I think we're sort of blessed to have them -- to have the state so interested in us entering the market as a PACE provider. We resumed as soon as the sanctions were lifted, in Colorado, we resumed the application process.

We're pleased with the adult day care application. It's -- that's what we're executing on right now, is the adult day care application. And then there's a state readiness review and a CMS review and then there's the 3-way agreement.

So overall, I think we're tracking nicely to get this done before the end of the calendar year, and we're going to do everything we can that's in our control to pull that forward even earlier in the year if possible. So I couldn't be more excited about Florida..

And our next question comes from Jamie Perse from Goldman Sachs..

This is [Najib] on for Jamie Perse. So I was just wondering about external provider costs, I mean, they were down this quarter.

And I was just wondering if -- where do you expect it to trend going forward or past this quarter in terms of percentage?.

I'll take that question. So the -- you're right, the trend is down this quarter. We did mention that in large part, that was due to a pharmacy rebate that we received during the quarter. So about 2/3 of that decrease relates to that.

But there is definitely, we are seeing some improvement as it relates to some of our clinical value initiatives and other things we're focusing on. I think both Patrick and I in our prepared remarks, for example, mentioned some efforts related to the short-stay skilled nursing facility that we're seeing some nice trends.

So embedded in that decrease are some nice trends related to the medical cost. But for this quarter, in particular, that was -- the bulk of it, 2/3 of it was related to the pharmacy rebate..

And thank you. And I am showing no further questions. I would now like to turn the call back over to Patrick Blair, President and CEO, for closing remarks..

Well, thank you very much. I appreciate everyone who joined the call. We continue to believe that the company is on the right track, and we're excited about our future and excited about closing one chapter and beginning a new chapter. And we look forward to the discussion on our incremental progress in another few months.

So thank you for your time today..

This concludes today's conference call. Thank you for participating. You may disconnect. Thank you..