Q4 2023 Healthcare Services Group Inc Earnings Call

Participants

Ted Wahl; President, CEO, & Director; Healthcare Services Group Inc

Matt McKee; Chief Communications Officer; Healthcare Services Group Inc

Sean Dodge; Analyst; RBC Capital Markets

Jackson Tworek; Analyst; William Blair & Company

Presentation

Operator

Thank you for standing by, and welcome to the HCSG 2023 fourth-quarter earnings call. I would now like to welcome Ted Wahl, President and CEO, to begin the call. Ted, over to you.

Ted Wahl

Thank you, and good morning, everyone. Matt McKee and I appreciate you joining us today. We released our fourth quarter results this morning, and plan on filing our 10-K by the end of the week today and my opening remarks, I'll first discuss our Q4 financial highlights and key accomplishments. I'll then share our perspective on the latest industry trends and developments. And then lastly, I'll discuss our 2024 outlook. I'll then turn the call over to Matt to provide a more detailed discussion on the quarter.
So with that overview, I'd now like to discuss our Q4 financial highlights and key accomplishments for the three months ended December 31, 2023. We reported revenue of $423.8 million and adjusted revenue of $425 million, which was in line with expectations. Net income and diluted EPS of $22.6 million and $0.31 and adjusted net income and adjusted diluted EPS of $14.6 million and $0.20 adjusted EBITDA of $26.5 million, up 14.2% increase over Q4 2022, and cash flow from operations of $49.5 million and adjusted cash flow from operations of $27.9 million, a 7.1% increase over Q4 2022.
Our team delivered strong fourth quarter results, building on our momentum throughout 2023 against the backdrop of an ongoing industry recovery, we achieved 98% cash collections, managed adjusted cost of services under 86% and exceeded cash flow projections for the quarter and second half of 2023. We also continue to grow our new business and manager and training pipelines and remain confident that we will deliver on our goal of year-over-year growth in 2024.
I'd now like to share our perspective on the latest industry trends and developments. Industry operating metrics continued to improve, highlighted by a stabilizing labor market with the sector adding over 60,000 jobs in 2023, bringing the total workforce to $1.45 million, 100,000 jobs higher than the April 2022 low, but still 140,000 jobs below pre-pandemic levels, a solid reimbursement environment with the October Medicare increase of 4% and continued positive trends at the state level and rising occupancy, which now sits at 79.2%, only 100 basis points below pre-pandemic levels.
On the regulatory front, on September first, 2023, CMS proposed a minimum staffing rule, which triggered a 60-day comment period that remained open through November six over 46,000 comments were submitted. And although the timing of a final rule remains uncertain. Cms has indicated it hopes to publish a final rule by the end of the year. There is a growing list of stakeholders opposed to the rule, including health care industry leaders, trade associations like aka MedPAC members and a bipartisan group of legislators, including 30 senators and counting.
The reasons for their opposition include the unfunded nature of the mandate. The one size fits all approach the apparent disregard for the realities of present and future nursing availability and the near certainty that if implemented as proposed rule, would lead to facility closures and ultimately reduced access to care, especially in rural areas. In addition to the public comment period, any rule would have to survive inevitable litigation potential legislation, political changes in administration and at least on some level be funded from our perspective, there remains great uncertainty as to whether any final rule would ultimately be implemented at least the rule that resembles the current proposal. That said, we remain hopeful that CMS will fully consider the significant impact on operators before finalizing a rule. And if one is ultimately implemented, I have confidence in our customers' ability to manage it in a prudent manner.
As far as our outlook for 2020 for our top three priorities continue to be as follows. First is managing adjusted cost of services in line with our target of 86%. We do not take operational execution for granted, but have full faith in the ability of our operators to deliver the services on budget. It took a considerable amount of work in 2022 to modify our contracts to better capture wage inflation and cost increases in our pricing on a closer to real time basis. Those contract enhancements, along with recent positive trends in customer experience, systems, adherence, regulatory compliance and budget discipline, provide strong operating momentum heading into 2024 we expect Q1 adjusted cost of services of 86%.
Our second priority is delivering year-over-year growth by executing on our organic growth strategy through hiring, training and developing future manager candidates, converting opportunities from our sales pipeline into new business adds and retaining our existing facility business. We estimate a Q1 adjusted revenue range of $420 million to $430 million.
Third priority is collecting what we bill. We view cash collections as a lagging indicator of industry recovery. And while our recent trends have improved compared to 2022 and the first half of 2023. This remains an area of opportunity for the company in 2024. We expect some continued choppiness in the year ahead, but anticipate that our cash collections will continue gaining strength throughout 2024 and further still into 2025. We estimate Q. one and 2024 adjusted cash flow ranges of zero to $10 million and $40 million to $55 million respectively.
It's an incredibly exciting time for the company as we're rounding the turn of what has been a prolonged recovery for the industry. The challenges we navigated the past few years have further solidified our value proposition, the durability of our business model and our market leading position as we enter 2024. The Company's underlying fundamentals are stronger than ever. And with the industry at the beginning of a multi-decade demographic tailwind, we are favorably positioned to capitalize on the opportunities ahead and deliver meaningful long-term shareholder value.
So with those introductory comments, I'll turn the call over to Matt for a more detailed discussion on the quarter.

Matt McKee

Thank you, Ted, and good morning. Everyone. revenue was $423.8 million. Adjusted revenue was $425 million, in line with the Company's expectations of $420 million to $430 million. Housekeeping and laundry and dining and nutrition segment revenues were $191.4 million and $232.4 million, respectively.
Adjusted housekeeping and laundry and dining and nutrition segment revenues were $191.7 million and $233.3 million respectively. Housekeeping and laundry and dining and nutrition segment margins were 7.5% and 6.2% respectively. Adjusted housekeeping and laundry and dining and nutrition segment margins were 7.7% and 6.5%, respectively. Cost of services was $350.4 million. Adjusted cost of services was $362.6 million or 85.3%.
The Company's goal is to continue to manage adjusted cost of services in the 86% range. SG&A was $46.3 million. Adjusted SG&A was $42.2 million or 9.9%, and the Company's goal continues to be achieving adjusted SG&A in the 8.5% to 9.5% range. Net income and diluted earnings per share were $22.6 million and $0.31, respectively. Adjusted net income and adjusted diluted earnings per share were $14.6 million and $0.2 respectively.
Adjusted EBITDA was $26.5 million, a 14.2% increase over the fourth quarter of 2020 to Q4 cash flow and adjusted cash flow from operations were $49.5 million and $27.9 million, respectively. DSO for the quarter was 82 days, also as part of our adjusted results, we adjust for the impact of the change in the payroll accrual. But since it will still be included in our reported cash flow from operations, we would point out that the Q1 payroll accrual is eight days. That compares to the 15 days that we had in the fourth quarter of 2023 and six days that we had in the first quarter of 2023. But again, the payroll accrual only relates to quarter-to-quarter timing.
So with those opening remarks, we'd now like to open up the call for questions.

Question and Answer Session

Operator

(Operator Instructions) Sean Dodge, RBC Capital Markets.

Sean Dodge

Yes, thanks. Good morning and congratulations on the strong finish to the year. Ted, you mentioned guide new business pipeline and manager and training recruiting. You're ramping both to continue to position for growth this year. Can you help quantify some of that how many new managers have you hired? How many are you looking to hire for growth? And then will that start to flow through in the first half of the year? Or will this be more of a kind of a second half of 2014?

Ted Wahl

Yes. I think in terms of the cadence of the new business ramp up, we definitely see it being not so linear and more of a chunky aspect to it, depending on the timing of the new business. But second half of the year being heavier than the first half of the year, Sean, but we definitely anticipate new business adds coming online certainly towards the end of the first quarter.
And then that again, that will ramp up throughout the year in terms of our manager and training pipeline, which is great to be able to speak about again because prior to COVID, we talked about that as being the gating factor on our ability to grow, knowing that demand for the services was rate greater than what we are capable of managing at any point in time. So we're really in a business as usual state. Obviously, if we're planning for new business adds in certain markets, we're going to we that heavier and the leaders, the local leadership are going to be more focused on hiring and training and developing more candidates, disproportionate amount of candidates.

Sean Dodge

But we're well positioned to be able to take advantage of the growth opportunity and really see the year ahead as a year of returning to growth, is this growth are largely going to come from the dining cross-sell or is there going to be any contribution or scaling on the education side? And then maybe just a quick update on how the education pilots are going and when that could be a more meaningful contributor.

Matt McKee

Yes, good morning, Sean. This is Matt. I'll address this when keynote, there will be a combination of drivers of organic growth, the first of which and most obvious of which you pointed out being the cross-sell of dining services into the existing housekeeping and laundry customer base. Obviously, with the challenges that we have faced and the industry more broadly has faced through the course of the past four years, or so we've had an opportunity to really dig in and understand the operational intricacies of each and every facility where we're operating environmental services, but not dining services.
And perhaps more importantly, we have a front row seat to determine the financial health and wherewithal of those clients and the degree to which they hold our relationship and the contract with integrity, meaning are they paying us on-time and in-full? Are they a good partner with whom we would like to expand the relationship?
So plenty of opportunity for us to continue to expand those environmental services partnerships to include dining services. Outside of that, the one other growth engine that you didn't mention was organic opportunities, greenfield opportunities to start environmental services relationships. We still do view within the skilled space in the long-term and post-acute care space, Environmental Services, largely as the sell-in opportunity, the greenfield sales opportunity and continue to view dining at the cross sell for a lot of the reasons that I just outlined a moment ago, so that that will be a contributor as well.
And then on education and really exciting opportunity, that's really progressed from what had been. It's sort of an experiment to a pilot, and it's now a component of our business that we're very much committed to that we're sort of in that selling season right now, we've talked about some of the seasonality and the cadence of new business opportunities that arise within the education space. So we'll likely have some more substantial or more detailed updates that we can offer shown on the next call, but definitely building some momentum internally. And as that brand presence begins to further grow in that marketplace, we remain very much committed and enthusiastic about the opportunity that it presents.

Sean Dodge

Good to hear, and thanks again.

Operator

Ryan Daniels, William Blair.

Jackson Tworek

Hey, good morning, guys. This is Jackson on for Ryan Daniels. Congrats on the strong finish to 2023 as well. In terms of client restructurings, I know this is an event brought up last quarter as well. I'm curious if the client restructurings noted this quarter are tied to the same restructurings as last quarter and you expect this to be finished by now? Or is there a possibility we see the surface again in 2024 in first quarter of 2024?

Ted Wahl

Thanks. Yes, you're exactly right that it was really a carryover. It was just the completion of the two client restructurings we called out last quarter that were fully resolved in this quarter and that we're expecting no residual impact in 2024 from those two events.

Jackson Tworek

Okay, perfect. Makes sense. Thanks. And then just a quick follow-up to given that you're entering into this growth mode phase in 2024, and it's now been about a year since the new capital allocation strategy. I guess, have you guys identified any investment areas, M&A areas to help kind of supplement and support this growth maybe besides the manager pipeline? And if so, can you maybe just discuss the areas and potential market opportunity ahead?

Ted Wahl

Yes. I think I think for us, it continues to be from a growth from a growth perspective. Priority number one is organic growth. That is the lowest-hanging fruit. That is what we're prepared for in 2024. We are continuing to evaluate numerous inorganic opportunities. And as they are either engaged in or completed, we would certainly share that with everyone from a from a capital allocation perspective, we remain opportunistic with the buyback, we did buy back over 1 million shares over the course of 2023, and we'll continue to be opportunistic on that front. But 2024, certainly where we're prioritizing and where we're focused on is organic growth.

Jackson Tworek

Perfect. Thank you and congrats again.

Ted Wahl

Thank you.

Operator

I would now like to turn the call over to Ted Wahl for closing remarks.

Ted Wahl

Fantastic. Well, thank you, Mandeep. We appreciate you hosting the call today. I just wanted to reiterate what an incredibly exciting time it is for the company as we're rounding the turn of what has been a prolonged recovery for the industry in the year ahead, we're going to remain focused on executing on our strategic priorities. So as to capitalize on the opportunities ahead and deliver meaningful long-term shareholder value.
So on behalf of Matt and all of us at Healthcare Services Group, thank you for hosting the call, Mandeep, and thank you to everyone for joining us today.

Operator

That concludes today's call. You may now disconnect.