Welcome to the Quest Diagnostics Third Quarter 2023 Conference Call. At the request of the company, this call is being recorded. The entire contents of the call, including the presentation and question-and-answer session that will follow, are the copyrighted property of Quest Diagnostics with all rights reserved.

Any redistribution, retransmission or rebroadcast of this call in any form without the written consent of Quest Diagnostics is strictly prohibited. I would like to introduce Shawn Bevec, Vice President of Investor Relations for Quest Diagnostics. Go ahead, please..

Thank you, and good morning. I'm joined by Jim Davis, our Chairman, Chief Executive Officer and President; and Sam Samad, our Chief Financial Officer. During this call, we may make forward-looking statements and will discuss non-GAAP measures.

We provide a reconciliation of non-GAAP measures to comparable GAAP measures in the tables to our earnings press release. Actual results may differ materially from those projected.

Risks and uncertainties that may affect Quest Diagnostics' future results include, but are not limited to, those described in our most recent annual report on Form 10-K and subsequently filed quarterly reports on Form 10-Q and current reports on Form 8-K.

For this call, references to reported EPS refer to reported diluted EPS and references to adjusted EPS refer to adjusted diluted EPS. Any references to base business, testing, revenues or volumes refer to the performance of our business excluding COVID-19 testing.

Growth rates associated with our long-term outlook projections, including total revenue growth, revenue growth from acquisitions, organic revenue growth and adjusted earnings growth are compound annual growth rates. Finally, revenue growth rates from acquisitions will be measured against our base business. Now here is Jim Davis..

Thanks, Shawn, and good morning, everyone. We grew our base business nearly 5% in the third quarter, largely by driving growth in our physician and hospital channels. Our consumer channel also continued to produce solid base business revenue growth.

In addition, we are pleased that we have now successfully completed negotiations for all our strategic health plan renewals that were scheduled for this year. These strength and collaborations will position us to build on growth opportunities going forward our Invigorate program is on track to deliver 3% annual productivity improvements and savings.

In addition, the productivity of our base business improved sequentially and year-over-year. Given the strength of our business and a robust pipeline of professional lab services and M&A opportunities, we are well positioned for continued growth.

This morning, I'll discuss highlights from the third quarter, then Sam will provide more details on our financial results and talk about our updated financial guidance for 2023. Now let's turn to some of the highlights from the quarter.

Our strategy is to drive growth by continuing to meet the evolving needs of our core customers, physicians, hospitals and consumers. We are enabling growth across our customer channels through advanced diagnostics with an intense focus on faster-growing clinical areas, including molecular genomics and oncology.

In addition, acquisitions remain a key driver of our growth with an emphasis on accretive hospital outreach purchases as well as smaller independent labs. Finally, our strategy includes driving operational improvements across the business with strategic deployment of automation and AI to improve quality, efficiency and service.

Here are a few key updates on the progress we have made in these areas. In Physician Lab Services, we delivered mid-single-digit base business revenue growth driven by the strength in our cardiometabolic and general health and wellness testing. Our strong relationships with health plans were also a key driver in the quarter.

As I mentioned earlier, we successfully completed negotiations for all our strategic health plan renewals that were scheduled for this year. Our success is a result of the clinical and economic value we deliver to health plans and their members.

Today, more than 50% of the health of the health plan revenues are generated from these value-based contracts, which are fueling double-digit growth compared to our traditional health plan contracts. Together with the health plans, we have a renewed focus on initiatives to reduce leakage to high-cost out-of-network labs.

In addition, we are working together to redirect volume from high-cost labs to Quest. Importantly, this is good for both patients and employers which are paying for the majority of health care costs.

In hospital lab services, base revenues grew high single digits in the quarter as we saw strength in hospital reference testing and continued progress with our most recent PLS relationships, including Northern Light Health, Lee Health and Tower Health.

Our hospital strategy is to help health systems improve productivity and patient care by delivering innovative laboratory testing that is high quality, accessible and affordable. We continue to manage a robust pipeline of professional lab services and hospital outreach acquisition opportunities.

Health systems continue to face labor and cost pressures, which are prompting more of them to reach out to us for help with their lab strategy and in some cases, monetize their hospital outreach business. Our professional lab services can help manage hospitals labs, supply chain and workforce.

We are also providing insights from our analytical solutions to guide hospitals to deliver the right test to the right patient at the right time. In addition, hospital outreach acquisitions enable health systems to focus their expertise and capital on the areas of their business that support patient care and drive growth.

In Consumer Health, we generated solid base business revenue growth from our consumer-initiated testing channel in the quarter. In addition, our consumer channel was again profitable this quarter. We attribute the strong performance to continuing demand for our expanded test menu, including STIs, comprehensive health and tuberculosis blood testing.

Underpinning each of these key channels, physician, hospital and consumer is our advanced diagnostics. These highly innovative higher-growth test areas include molecular genomics and oncology as well as several other key areas.

During the quarter, we grew revenues double digits in multiple clinical areas including neurology, women's and reproductive health, cardiometabolic and infectious disease and immunology. We are particularly encouraged by growth in our Alzheimer's disease portfolio, which features our AD-Detect blood testing services.

These innovative services use highly sensitive mass spectrometry technologies to provide insight into Alzheimer's risk based on amyloid proteins and the APOE genetic risk marker.

During the quarter, we saw strong demand for our Alzheimer's cerebral spinal fluid panel as well, which helps providers identified levels of both amyloid and tau proteins as well as the APOE status. We also grew significantly in women's and reproductive health, especially in non-invasive prenatal and carrier screening tests.

During the quarter, the FDA granted breakthrough designation for our adeno-associated virus called AAV companion diagnostic, which we developed in collaboration with Sarepta Therapeutics for the Duchenne muscular dystrophy gene therapy.

This FDA designation places us at the forefront of AAV test innovation in the growing area of cell and gene therapies and positions us to build collaborations with other biopharmaceutical companies. Finally, the integration of Haystack Oncology remains on track.

The acquisition positions us to enter the high-growth liquid biopsy area of minimal residual disease or MRD testing. We expect to launch our first MRD test in early 2024 from our Oncology Center of Excellence in Lewisville, Texas. Now turning to operational and productivity improvement.

Our Invigorate program is well on its way to delivering our targeted 3% annual productivity improvements and savings. I'd like to share 3 examples of how we're improving operations. First, we are deploying front-end automation to enhance specimen processing in our Pittsburgh and Dallas laboratories, which will improve quality and productivity.

More sites are planned to receive front-end automation during 2024. We are expanding the use of optical character recognition, or OCR, to scan in data from samples coming into our labs. By freeing up specimen processors from this manual data entry, we will improve our productivity of paper-based recs coming into all of our regional labs by 30%.

Finally, we continue to optimize our real estate footprint. Post pandemic, we need less space for some of our call center and administrative functions. We've reduced our real estate footprint by nearly 250,000 square feet by consolidating functions into existing spaces.

Before I hand it over to Sam, I'd like to offer our perspective on the rule recently proposed by the Food and Drug Administration that would regulate laboratory developed tests as medical devices. Lab developed tests are essential medical innovations that providers use to guide care for patients every day.

These services are highly regulated under federal legislation known as CLIA. In addition to the oversight by states, accredited bodies and Medicare as it makes coverage determinations.

If enacted, the FDA's proposed rule would impact patient care by compromising access, slowing diagnostic innovation and adding unnecessary cost to our health care system.

We agree with the long-standing assertion of our trade association, ACLA, that the FDA does not have the statutory authority to unilaterally regulate LDTs under its existing medical device authority. Now I'll turn it over to Sam to provide more details on our performance and our updated 2023 guidance..

Quarter consolidated revenues were $2.3 billion, down 7.7% versus the prior year. Base business revenues grew 4.6% to $2.27 billion while COVID-19 testing revenues declined 92% to $26 million.

Revenues for Diagnostic Information Services declined 7.9% compared to the prior year reflecting lower revenue from COVID-19 testing versus the third quarter of 2022, partially offset by growth in our base business.

Total volume, measured by the number of requisitions, declined 0.5% versus the prior year, with acquisitions contributing 50 basis points to total volume. Total base testing volumes grew 5.7% versus the prior year. Revenue per requisition declined 7.2% versus the prior year, driven by lower COVID-19 molecular volume.

Base business revenue per rec declined 0.4% due to growth in our PLS relationships and lower demand for respiratory panels, partially offset by an increase in unit price reimbursement and test mix. Positive unit price reimbursement was consistent with our expectations.

Reported operating income in the third quarter was $342 million or 14.9% of revenues compared to $392 million or 15.8% of revenues last year. On an adjusted basis, operating income was $380 million or 16.6% of revenues compared to $423 million or 17% of revenues last year.

The year-over-year decline in adjusted operating income is related primarily to lower COVID-19 testing revenues, wage increases and higher benefit costs, partially offset by growth in the base business, lower performance-based compensation and headcount reductions.

We continue to closely manage the cost of our corporate and support functions and our actions to reduce support costs by approximately $100 million this year remain on track. Reported EPS was $1.96 in the quarter compared to $2.17 a year ago. Adjusted EPS was $2.22 compared to $2.36 last year.

Cash from operations year-to-date was $745 million versus $1.38 billion in the prior year period. The decline in operating cash flow was primarily related to lower operating income and timing of collections. Turning to our updated full year 2023 guidance. Revenues are now expected to be between $9.19 billion and $9.24 billion.

Base business revenues are expected to be between $8.99 billion and $9.04 billion. COVID-19 testing revenues are expected to be approximately $200 million. Reported EPS narrowed to be in a range of $7.61 to $7.71 and adjusted EPS narrowed to a range of $8.65 to $8.75 with the midpoint of $8.70, unchanged.

Cash from operations is expected to be approximately $1.3 billion and capital expenditures are expected to be approximately $400 million. With that, I will now turn it back to Jim..

Thanks, Sam. To summarize, we delivered solid base business revenue growth of nearly 5% in the quarter. We successfully completed negotiations for all of our strategic health plan relationships that were scheduled for this year. We also drove improved productivity in our base business as we have done throughout 2023.

Finally, given the strength of our base business, combined with a robust pipeline of professional lab services and M&A opportunities, we are well positioned for continued growth ahead. And now we'd be happy to take your questions.

Operator?.

[Operator Instructions] Our first question comes from Ann Hynes with Mizuho Securities..

Can you just comment on progress on what's happening with the turnover? And do you still feel good about your 16.5% margin goal for 2023?.

Yes, the employee turnover, again, improved from Q2 to Q3. So we're certainly seeing improvements as we've marched from Q1 to Q2 to Q3 and expect to see more improvements as we go to Q4. Having said that, we're still not back to 2019 or pre-COVID levels.

But we feel optimistic that as we go into next year, it will actually be a continued tailwind for us. Sam, do you want to comment on....

Yes, sure. Ann, thanks for the question. So as you recall on the Q2 call, we talked about operating margin expectations being approximately 16.5%. As Jim mentioned, we're seeing slight improvements in terms of turnover.

We have made some investments and are going to be making some investments in terms of frontline phlebotomist in anticipation of volumes coming into the winter season here, but also the strong utilization that we've seen. And with regards to margins, we now expect to be slightly below the approximately 16.5% for the year.

We're making really good progress on all the cost initiatives and also the productivity improvement initiatives. Volumes have been strong, but we -- especially in light of volumes, we have to make some targeted investments in terms of frontline staff and phlebotomist..

Yes. Ann, let me just make one other comment on the margins. If you go back and start with Q1 of this year. In Q1, we were just slightly north of 15% and in that quarter, we did $120 million of COVID revenue. And as you know, the reimbursement was still at $100 that quarter.

We go to the second quarter, and we improved our margins up to 16.7%, with COVID going from $120 million down to $41 million. And then the second quarter COVID was at a blended rate of, call it, $75. Now we go back into the third quarter and COVID is really insignificant in our results.

It's only 1% of our total revenue and the reimbursement on that small 1%, as you know, for the whole quarter was at $50. And we hit 16.6%, so basically in line with Q2, so we're really proud of the productivity efforts and it's really coming through in these numbers and the progress that the teams have made from Q1 to Q2 to Q3..

And our next call is David Westenberg with Piper Sandler..

So just -- thank you for the commentary on the FDA's proposal on LDTs. I'm not sure if you can answer it yet because, I mean, right now, it's still kind of maybe a little bit more hypothetical here. But how should we anticipate potential cost if it stands the way it is.

I mean, is this about going back to the FDA with some of the more high-value tests? Or is this maybe about switching out to maybe IVD-cleared products. I mean how does this look for Quest and I get some of this is maybe theoretical right now because we don't know what it's going to look like in a month..

Yes. I think your last statement is accurate. It's largely theoretical at this point because we don't know what it's going to look like. And the FDA certainly opened this up to commentary and response back from industry and ACLA and other associations. Look, having said all that, LDTs are not the most significant part of our operations.

In fact, it's -- on a volume basis, it's less than 10% of what we do. And the 3 labs that we do are LDTs, most -- the majority of our LDTs in are actually ISO certified. We do companion diagnostics, which is a regulated form of testing, right? You're on label for a pharmaceutical drug, so it's just not -- it's not a huge deal for us right now.

Now having said all that, we're going to work with our trade association. We don't believe the rule makes sense. We don't believe it's fair. And we'll continue to work to arrive at something that we do think is good for everyone. .

And our next question comes from Lisa Gill with JP Morgan. .

I'm just curious if you have an update as to how we should think about PAMA or SALSA going into 2024 given the current environment in DC. .

Well, you're right, the current environment is a little uncertain at this point. But here's what I would say. The current standstill in Congress, I think we'll make what we call a comprehensive PAMA reform more difficult, right? So SALSA, I think, will be more difficult to get through this year.

Having said all that, PAMA, a delay in the cuts of PAMA, again, went to the CBO. So this is a new analysis from the CBO updated versus last year. And again, the CBO scored a 1-year delay as a significant cost savings to the government.

And again, the reasons for that is because if you continue to delay the PAMA cuts, you're going to continue to delay a new data collection process. And we, our trade association and obviously, the CBO is convinced that a new data collection process will lead to higher rates. So we feel good that the likelihood of a fourth PAMA delay will occur.

But certainly, it has to be part of some broader health care package. And there's a lot of things that will be in that health care package that are important to a lot of different constituencies. So we're confident that something will get done there..

Our next question comes from Pito Chickering with Deutsche Bank..

You've got Kieran Ryan on for Pito. Just looking at the sequential margin progression implied from 3Q to 4Q this year. It looks like it's materially better than kind of what you averaged in that pre-COVID 2017 -- 2019 range.

So is that just really the tailwinds you have around CIT Invigorate better turnover and lower deferred comp just combining to drive better trends than normal.

And I was just wondering, is there any offset there on some of these oil and commodity-related costs that we've seen step-up relatively recently?.

Yeah, Kiran, this is Sam. Thanks for the question. So I think some of the drivers that you would expect in Q4 are, you know, what we've been executing and seeing in Q3 and earlier in the year. I mean, Jim talked about the sequential improvement in operating margins despite the fact that COVID is coming down significantly.

So what we would expect in Q4 is the following that helps our margins, which has been playing out so far over the course of the year. One is price. We continue to see a healthy positive environment around price and we, in fact, saw positive price in Q3, and we expect to see positive price in Q4.

And that's driven by all the work that we're doing around the strategic plan, the third-party plan renewals and some of the value-based contracting that we're doing there. So definitely, the healthiest pricing environment that we've seen in a while. CIT, as you said, is a factor. It was dilutive in the first quarter.

It turned profitable in the second quarter. It was profitable in the third, and we expect it to be profitable again in the fourth. We continue to do the cost -- I mean, we see the benefit of the cost reductions in Q4.

We talked about $100 million of annual impact of cost reductions on the SG&A line, and we expect to see that at least 1/3 of that be in Q4 as well because those savings started in Q2 and then we're taking a lot of actions as well around improving productivity. Invigorate is one of them that you mentioned, but that's also factoring into margin.

So all of that is driving the better than pre-pandemic trends that you've talked about. Now as I said earlier, we are still seeing turnover in -- higher than what we would expect. It has improved slightly in Q3, but it is still trending higher than where it was pre-pandemic.

And as I said, given the strong utilization that we're seeing across the business, and we saw that in Q3 as well, we're having to make some targeted increases across frontline staff and phlebotomists to help service some of these volumes. And we expect that to be an impact in Q4 and offsetting more of a headwind of an impact..

Our next caller is Elizabeth Anderson with Evercore..

I guess I just want to double click on the gross margin a little bit more in the third quarter. I think in different answers, you've given us bits and pieces.

But if you could just talk either sequentially or on a year-over-year basis, sort of rank or either if you have dollar amounts or sort of rank order the biggest contributing factors? And then secondly, it sounds like you have some good sightline into the Invigorate savings in fourth quarter and some continued productivity initiatives.

How do we think about the flow-through on sort of that -- as we start to think about 2024 and sort of what we might be expecting from those sort cost saving in Invigorate programs?.

Yes. Thank you. So with regards to gross margin, gross margins in Q3 were in line with our expectations. I mean, the key driver, I would say, for them being below Q2 levels, were the fact that we had lower revenues of $45 million going in Q3 versus Q2. So sequentially, we saw a $45 million lower revenues.

Now a portion of that was COVID, not the biggest portion. It was about roughly $15 million lower revenues in terms of COVID. And then because of seasonality, as expected, we saw lower revenues on the base [Technical Difficulty] as well.

So when you think about the impact on gross margins and gross margins were down a percentage point sequentially, that's almost entirely driven by revenue, the revenue decline. And then on COVID, we're also talking about -- or what we are seeing in Q3 was a lower price around COVID.

In Q2, driven by the fact that the PHE didn't end until midway through the quarter, we saw a higher price on average for COVID, we saw a lower price in Q3. So that has an impact on gross margin as well. So those are the key drivers on gross margin. It's in line with our expectations. Invigorate, and Jim will make a couple of comments on Invigorate here.

But with regards to Invigorate the actions are yielding the 3% productivity improvements and cost reductions that we expected. And those will continue into 2024. But Jim, maybe make a couple of comments..

Yes, certainly, Elizabeth. So we're going to set targets going into 2024 that are similar to what we've done in the past. So we expect to generate approximately 3% variable cost productivity throughout our entire operations. That's phlebotomy, logistics, the front end of our lab and then actually all of the processing.

We've talked broadly about the use of automation. We're Driving that as fast and furious as we can. We've talked about the use of artificial intelligence to do some of the manual work that our lab text, this could be automated reading of curves.

We've talked about in the past, the use of artificial intelligence and microbiology, hematology, urinalysis, and then we continue to work the standard things that we always work as a business, reimbursement and denials is always a big bucket of opportunity for us.

Paper [reqs], I talked in the prepared remarks about implementing OCR technology to read all of these paper [reqs] that still come in. We work them down every single year, but there's still a fair number. Even if it's 15% to 20%, when you do the math on that, close to 200 million rec, there's still a ton of opportunity there.

So we feel good about our productivity efforts going into next year. We invest in it. We put talented teams around it, and we'll continue to drive it hard..

Next caller is Derik De Bruin from Bank of America..

I've got two. The first one, just going back to PAMA. In 2023, it got delayed, and I think it will probably get delayed in '24. But in '23, we didn't see a lot of the savings dropped down to the bottom line because of Haystack and some of the other investments that you're doing.

I guess, for '24, does that drop down, if we're to get delayed, i.e., is it accretive to what your plans would be is that you're going to do it? Or does it get offset by that? So that's the first one. And then I've got a follow-up..

Yes.

Well, first, I'd say with respect to the drop down, when we look at the drop-down on the incremental growth we've gotten through our base business and we look at the drop-down on that growth, we're pretty happy with it, okay? And that is after the dilution effect that we've seen from Haystack, the investments we're making there, which are going to propel future growth.

As we go into next year, we will take -- we're not going to give guidance today, but we're going to take a close look if PAMA does get delayed, we'll obviously look at both investment opportunities to drive future growth. We'll look at investment opportunities to drive margin improvement, Invigorate investments.

And then we'll also obviously look at returning like we always do, the majority of our free cash to shareholders..

And just a follow-up on the Alzheimer's diagnostics, are you going to seek FDA approval for that? I'm just sort of curious on reimbursement, patient cost, what's the test cost in doing it? I'm just curious on sort of what your strategy is there given that it is a new diagnostic category..

Okay. So there is reimbursement for the test today. CMS has established about $100 reimbursement for the blood-based AD 4240 test. Having said all that, the preponderance of our orders and the preponderance of our reimbursement actually comes from client build, where we directly bill health systems that are carrying for these patients.

And I would tell you that the reimbursement is better than what we see on average from Medicare because it's an incredibly value-added test. So we price it appropriately. At this point, we're not seeking FDA approval for it, it's an LDT like many of the LDTs that we run. And so, we're pretty happy with it.

The growth has been substantial and I would also tell you that the growth of our CSF testing, the cerebral spinal fluid testing is also significantly up in the quarter as clinicians are using both CSF and blood-based biomarkers to make to help with the diagnosis of patients..

And Derek, maybe just to come back to the PAMA question and add a couple of points there for you and others that are on the call. Given the uncertainty around PAMA, we will plan today as if PAMA is going to come back and will not be delayed in 2024. I'd say that's the prudent thing to do.

That's the only thing we can do at this stage given the uncertainty. So we will plan as if prices will come down next year because PAMA will come back. Now if -- as we -- I would say, on balance, I'd say there's a likely chance that PAMA will get delayed.

And if that were to happen, and as we've talked about before, we could see an $80 million to $90 million benefit as a result of that delay, not benefit versus this year, but benefit versus our planning.

And when that -- and if that happens, I should say, then we will assess how much we invest in the business to everything that Jim said earlier to how much potentially could drop to the bottom line to EPS. But that decision is not made yet. We'll make that decision when we set guidance.

And will evaluate investments that we can make and then evaluate what we can drive as EPS improvement..

Our next caller is Andrew Brackmann with William Blair..

Jim, I want to go back to your comments around reducing leakage to high cost labs. I think you talked about in your opening remarks.

I know that's sort of part of the strategy here, but can you maybe just sort of talk about that opportunity broadly and just sort of quantify how big that could be for your growth going forward?.

Yes. I think there's 2 buckets of opportunity there. One is reducing leakage to out-of-network labs. And then the second is what I would call steerage of work from high-priced in-network labs generally in health systems to independent labs like Quest Diagnostics.

So generally 2 different initiatives, but it really starts with just very strong and tight collaboration with our commercial payers. We work hand-in-hand with them.

They provide us the information on what physicians are using out-of-network high-priced laboratories, and they provide us the information that what doctors are sending work into health system labs, which, as you know, not good for patients who are going to pay higher deductibles, higher co-pays and obviously not good for the people that are paying for the health care in general, that's still employers in the country.

So it's a really tight partnership. We get the information. We distribute that information out to our commercial team. We call on the customers, try to convince them to move the work.

At the same time, we're always messaging as are the commercial payers out to patients to remind them that they can save money by using independent labs like Quest Diagnostics.

We continue to message physicians and providers, and that's why we're seeing significantly higher growth rates with the commercial plans where we have established these types of relationships..

Our next caller is Kevin Caliendo with UBS..

Congrats on the contract renewals with your major payer partners. Can you maybe talk a little bit about if there's anything new in the contracts, the duration of the contracts? Is there -- the last time you did this, there were incentives that actually benefited you in terms of driving volumes.

Just wondering if anything has changed, both positively or negatively, pricing, duration, terms, incentives, that kind of thing?.

Yes. We generally don't talk about the terms, duration and things like that. But what I will tell you is that the trend continues. We seek to establish a fair price first and foremost. And then second, as I just mentioned in the previous question, where we can move these requisitions and improve our share of the commercial payer spend.

We try to design incentives around that. In addition, we try to design incentives, when we do a hospital outreach acquisition and the prices go from 300% of Medicare as an example down to our rates, we try to step those rates down over a period of time so that we derive benefit and the commercial plan derives benefit.

So we work hard to build those types of incentives into the agreement and I think the trend just continues in the direction we want..

Does this lead to sort of more value-based care potential for you guys going forward?.

Well, I separate again, value-based care from value-based contracts. These are what we call value-based contracts, meaning when we deliver value back to the commercial payer, there can be incentive payments involved in that.

When we talk about value-based care, these are really our arrangements with some of these ACO reach organizations and some of the other large physician groups that have taken on risk from Medicare Advantage plans.

And we continue to embed ourselves when these within these ACO reach programs and continue to work closely with large physician groups that take on this risk.

And as we said in the past as we said in the past, when these types of relationships are really good for the lab industry, they -- if you're managing risk, you're managing the cost of health care to a fixed number every year, you're generally going to be incented to provide early care and early diagnostics so that you don't let disease progress into more expensive inpatient care and we continue to work towards that..

Our next caller is Jack Meehan with Nephron Research..

I have a couple of cleanup questions for Sam. First is on collections. So seeing a little AR build? I know you called it out, but anything -- any color you can add on that? And then second is on the base growth, 5% pretty good.

I was just wondering if weather weekdays had any impact could have actually been better on an underlying basis?.

Yes. Sure. I'll take the first one, Jack, and Jim will talk a little bit about the -- any one-timer, so to speak, whether days. Listen, collections nothing of note there. I think AR trending or DSO is trending a bit up. That's really more normal trends given the reduction in COVID.

With COVID, I think that would help our DSOs overall a shorter collection window and DSOs were down as a result of a higher mix of COVID. But if you look back to pre-pandemic, I think the DSOs are kind of trending back to where they were pre-pandemic. So really nothing of note there.

There's some timing at the end of Q3 as well, but that's just normal timing within quarters. So I would say, in general, collections are on track, and we're happy with where things are.

But Jim, did you want to make a couple of comments around base earning growth and any one-timers?.

Yes, weather and days and things like that, versus last year, weather was a slight help I mean, not significant at all, Jack, but it was a slight help because last year's hurricane in September was worse than this year's hurricane. The only other comment on days that I would make is early in the quarter in July.

The fourth of July fell on a Tuesday this year versus a Monday last year. So in essence, your Monday and Tuesday are really, really bad days versus a year ago. You only had one bad day called a Monday because the fourth fell on a Monday. But again, that's one day out of 90. So yes, I mean, a little bit of an impact there, but not that significant..

Our next caller is Patrick Donnelly with Citi..

Maybe a couple of follow-ups on Haystack. It sounds like still a 24 time line there. Can you just talk about I guess, any more specific timing and the catalyst set there when we could expect to see some data? And then just also the spend expectations related to getting that through the approval process as we work our way through ‘24 would be helpful..

Yes, as we've said, Haystack continues on the timeline that we set for ourselves, for the team. There's been evidence generation, obviously that's what we made our -- was part of our decision-making process.

Now as we get the assay, what I call ready for commercial release, commercial production, we're in the process of establishing relationships with some of our key oncology partners.

So when the assay is ready, we'll start to do some of the testing likely we'll use a lot of that early testing to then seek reimbursement once we get a substantial buildup of testing that we feel good about approaching the Maxon and so far, so good.

We're bringing up the assay, as we mentioned, in our Lewisville, Texas Oncology Center of Excellence and feel good about that. I'll let Sam touch on the financials with respect to....

Yes, sure. I mean with regards to spend, I'll talk in dilution terms and EPS terms here this year, and then I'll talk -- address your question around '24, Patrick. So again, very pleased with the progress that the team is making. This year, we're expecting EPS dilution to be in the $0.15 to $0.20 range. We talked about that on the Q2 call.

It's still in the same range, $0.15 to $0.20. If you look towards '24, what we've said and this still applies, is that the annualized dilution in 2024 is going to be less than what we expect to see -- what you see this year. So the $0.15 to $0.20, if you annualize that, that's $0.30 to $0.40 next year.

So we expect on an annual basis next year to be less than where things are trending this year. So improvement just on an annual basis. And then as we look forward, we expect 25% dilution to be lower than 24%, and then we expect 26% to actually be accretive.

So that's consistent with what we said when we announced the deal consistent with what we said on the Q2 call..

Our next caller is Erin Wright with Morgan Stanley..

You laid out some of those key profit drivers for the fourth quarter. And as we think about what kind of continues into 2024, I think you mentioned in the previous question kind of -- or a previous question, productivity gains should continue, and I understand there's PAMA dynamics as well that are somewhat unknown.

But should we anticipate a deviation from the long-term profit guidance is like 50 to 100 basis points operating margin expansion next year?.

Well, let me clarify, Erin, and thanks for the question, by the way. So what we talked about at Investor Day is an improvement of 75 to 150 basis points over the 3 years and that's off of the rate that we have for 2023. So we had said at the time the rate was approximately 17%.

We said we could improve over the next 3 years by 75 to 150 basis points in terms of operating margin with the lower end being PAMA did come back in '24 and the higher end of 150 being either if we had comprehensive reform around SALSA or PAMA gets delayed. So the 75 to 150 over the 3 years still applies. That has not changed.

Now it's going to apply off of a lower base in 2023 because our operating margin expectations have come down. As I said earlier on the call, we expect it to be slightly below -- marginally below the approximately 16.5% that we talked about on the Q2 call.

The positive drivers and by the way, that operating margin expansion was for 3 -- over the 3 years, not for 2024. But the positive drivers in 2024 still apply. I mean, first of all, first and foremost, I would say, is the pricing environment. We are very encouraged by the pricing environment.

We talked about the strategic relationships that have been renewed, and we're seeing positive price ex PAMA, depending on what happens next year, but we're seeing positive price, and we expect that to continue. We're seeing the growth investments starting to yield fruit and CIT being one of them. And we talked about that becoming profitable.

Productivity improvement, both in terms of Invigorate and also hires that we do, for instance, phlebotomist that we're adding we expect that productivity or their productivity to improve next year as well as they gain more experience and they're more productive. So all of those drivers we expect to continue. Turnover is a bit of an uncertain item.

We don't necessarily expect it to become worse than it is today. But it's too early to say right now whether that improves markedly in 2024. The early signs that we saw in Q3. Right now, we're encouraging. We saw some slight improvement, but it's too early to say to project what that would mean for 2024..

Yes. Erin. The last thing I'd say is we're encouraged by the volume trends. And as you know, incremental volume coming into the business in a business that has lots of fixed costs certainly mixes up the existing margin rate. So we feel good about the volume trends in our physician office. We feel good about the volume trends in health systems.

And as I mentioned in the script, we feel good about our funnel of M&A opportunities that are in front of us as we march through the fourth quarter and early next year..

Our last caller is Brian Tanquilut with Jefferies..

I guess, Sam, just to follow up on Erin's question really quickly. If we think about the composition of margin between gross profit and G&A, is this the right baseline to build off of factoring all the things that you mentioned, such productivity gains and maybe PAMA. And then maybe just, Jim, a quick follow-up. Hospital deals.

Obviously, you've had some growth there.

How should we be thinking about the pipeline and your ability to sustain the growth rate given what's in the pipeline today?.

Yes. I mean with regards to the first question, Brian, we believe it is the right baseline to build off of. 2024 is not the period to look at in terms of that improvement that we talked about, the 75 to 150. There are a couple of factors in there. One of them, there's the uncertainty of PAMA, obviously.

But the other one is COVID, which is approximately $200 million this year, is going to be a factor next year in terms of the drop off. It's going to be a negative factor.

Again, albeit a much smaller one than what we saw from '22 into '23, but it's still going to be a factor in terms of the approximately $200 million going to something we believe much less than that as it becomes just another regular test like a flu test, for instance, but the baseline, we believe, is the right one, and we are still confident about the 75 to 150 basis point improvement on operating margin over the 3 years..

Yes. Brian, as I said in the script, we're encouraged by the breadth and depth of our funnel of opportunities in hospital outreach as well as PLS. And I say that our teams are working them very hard.

And the trends are pointing in our direction, right, with the cost of capital going up for health systems, their investments, I think, are truly focusing on the things that will drive growth for health systems, whether that's investments in neurology, cardiology, cancer, obstetric, those are the things that drive growth in health systems.

And so when you make all those investments, albeit now at capital costs that are significantly higher, they can turn to us to make the investments they need in laboratories. When you see institutions like New York Presby sell their outreach book of business and really focus their investments on the things that are driving their growth.

I think that's a good sign of how health care systems, they're really good strategic ones are really thinking today..

That was our last question for the day..

All right. Everyone, thanks again for joining our call today. We certainly appreciate all your continued support.

I also want to thank the Quest Diagnostics team who, as we've transitioned away from COVID, have really done a magnificent job in continuing to drive growth in our base business, drive productivity and continue to satisfy our patients, providers and all those that use Quest Diagnostics. So thanks, everyone, and have a great day..

Thank you for participating in the Quest Diagnostics Third Quarter 2023 Conference Call. A transcript of the prepared remarks on this call will be posted later today on Quest Diagnostics website at www.questdiagnostics.com.

A replay of the call may be accessed online at www.questdiagnostics.com/investor or by phone at 203-369-3502 for international callers or 1-800-945-5759 for domestic callers. Telephone replays will be available from approximately 10:30 a.m. Eastern Time on October 24, 2023, until midnight Eastern Time, November 7, 2023, Thank you, and goodbye..