Cano Health, Inc. (NYSE:CANO) Q3 2023 Earnings Conference Call November 9, 2023 5:00 PM ET
Company Participants
Mark Kent – Chief Executive Officer
Eladio Gil – Interim Chief Financial Officer
Conference Call Participants
Eduardo Ron – Truist Securities
Operator
Good afternoon, and welcome to Cano Health’s Third Quarter 2023 Earnings Call. Currently, all participants are in listen-only mode. After the speakers’ presentation, there will be a question-and-answer session. Please be advised that today’s conference is being recorded.
Joining us on today’s call are Mark Kent, Cano Health’s Chief Executive Officer, and Eladio Gil, Cano Health’s Interim Chief Financial Officer.
The Cano Health press release, webcast link, Q3 2023 Form 10-Q and other related materials are available on the Investor Relations section of Cano Health’s website. As a reminder, this call contains forward-looking statements regarding future events and financial performance. Investors are cautioned not to unduly rely on forward-looking statements and such statements should not be read or understood as a guarantee of future performance or results. We intend these forward-looking statements to be covered by the Safe Harbor provisions for forward-looking statements contained in Section 27A of the Securities Act and Section 21E of the Securities Exchange Act.
We caution you that the forward-looking statements reflect our best judgment as of today based on factors that are currently known to us. And such statements are subject to risks, uncertainties and assumptions that could cause actual future events or results to differ materially from those discussed as a result of various factors, including, but not limited to, risks and uncertainties discussed in our SEC filings. We do not undertake or intend to update any forward-looking statements after this call or as a result of new information, except as may be required by law.
During the call, we will also discuss certain financial measures that are not prepared in accordance with GAAP such as adjusted EBITDA. A reconciliation of these non-GAAP results to their most directly comparable GAAP results is provided in today’s press release and on the Investor Relations section of our website.
With that, I’ll turn the call over to Mark Kent, CEO of Cano Health. Please go ahead.
Mark Kent
Thank you and good evening, everyone. I appreciate you joining us this evening to hear how, as of today, Cano Health has achieved major changes to its operating structure that are designed to allow it to operate more efficiently and realize the embedded value for our stakeholders. At the same time, care management teams and physicians have partnered in new ways to implement critical enhancements that will improve health outcomes and lower medical costs. We have several initiatives already underway that will help you understand the scope and initial size of what we plan to achieve.
We are encouraged by the progress our team has made in a short window of time. Our third quarter results reflect the improved performance and stability of our core Medicare Advantage business due to the operational enhancements and third-party medical cost initiatives we implemented midway through this year. Among our Medicare Advantage populations in the quarter, we saw lower inpatient and pharmacy costs per member per month, and we expect to demonstrate progress on these and other medical costs through a wide range of initiatives.
Since our last earnings call, we have successfully executed a number of objectives aligned with our strategy to focus on Medicare Advantage in Florida and our ACO REACH service line. These actions have simplified our business and organizational structure, reduced costs in the near-term, and also created significant opportunities for the organization to realize the inherent profitability embedded within our assets over the long-term.
First, on September 25, 2023, we sold substantially all of our assets in Texas and Nevada to CenterWell in a transaction with a total value to Cano of approximately $66.7 million, which consisted of approximately $35.4 million in cash paid at closing, plus the release of certain liabilities owed by Cano Health. This transaction was a necessary step to improve our liquidity position, which allowed us to repay our revolving line of credit by quarter-end and simplify our organizational structure and administrative overhead. This transaction accounted for substantially all of our assets in Texas and Nevada markets.
Second, as of today, we have exited markets in California, New Mexico, and Illinois, which came with meaningful expense reductions and efficiencies. And we remain on track to exit Puerto Rico by the beginning of 2024. As a reminder, the decision to exit Puerto Rico impacts approximately 8,000 members in our affiliate operations, and we expect this exit will favorably impact consolidated Medicare Advantage margins.
Together, these actions put us on a path to begin 2024 with a much cleaner slate focused primarily on Medicare Advantage in Florida and the ACO REACH service line. And to help you understand the drag these non-Florida markets had on our operations, as of September 2023 year-to-date, these markets accounted for only approximately $130 million of revenue but $43 million of adjusted EBITDA losses, primarily due to direct patient selling, general and administrative expense that burdened these markets.
Aside from alleviating the heavy operating expenses and suboptimal margins in these geographies, we believe these actions will reduce the administrative burden and complexity of our organization and eliminate redundant functions across markets where the economics didn’t make sense. Third, we implemented a restructuring plan designed to streamline and simplify the company’s operations to improve efficiency and reduce costs.
This included reductions to our workforce of approximately 21%, approximately half of which were related to organization restructuring connected to the market exits I mentioned previously. While these decisions were difficult we recognize that the company’s historical cost structure did not align with our current objectives of approving economics and accelerating our path to positive free cash flow. We believe that in total, our workforce reductions will yield approximately $65 million of annual cost reductions beginning in the third quarter of 2023 and through the end of 2024.
This is approximately $15 million higher than when we embarked on this initiative, and we continue to find opportunities to meaningfully reduce our operating expenses and cash used in operations. These structural initiatives are critical to refocusing our business on Medicare Advantage in Florida and ACO REACH. Such that we can quickly test and implement new care management initiatives designed to improve health outcomes and lower third-party medical costs.
In addition to major changes in our cost structure, we have realigned our clinical operations so that our physicians and care management teams are partnering in new ways to improve the healthcare outcomes of our patients and lower medical costs. We are encouraged by the opportunities our care management teams have identified and implemented to reduce third-party medical costs in 2024.
Based on what we have identified to date, we are targeting over $100 million in annualized third-party medical cost reductions by the end of 2024 through medical cost initiatives and optimization of our Medicare Advantage operations. These initiatives are critical to begin rebuilding long-term value in our 122 staff model medical centers in Florida and our MSO providers in 2024.
We believe these initiatives can be achieved in 2024, and they are just the first round of medical cost management programs our teams have identified based on our confidence level where we sit today. We are striving for more as we continue to optimize our care management model.
Let me give some additional color on how these initiatives are playing out. First, we focused on stronger patient engagement programs and improving our patient retention. The marginal profitability from retaining patients we see regularly drives long-term value through enhanced risk score demographics and lower medical costs. We’ve identified that one-third of our disenrollments relate to basic scheduling challenges, and as a result, we decentralized our call center and clinic administrative functions to ensure providers and staff in the medical centers have a direct line of communication with their patients and are empowered to engage with them directly.
Second, we are enhancing our arrangements with specialty networks to reduce leakage and avoid paying twice for common procedures, once for fixed capitation, and then again for out of network referrals. We have already expanded in-house services to minimize high cost procedures performed out of network like x-rays and ultrasound, and enhance our best practices and training procedures for physicians. In several settings, we have begun cross training operational associates across multiple specialties to leverage our in-house versatility. These services and practice will create greater accountability, optimize our out-of-network referrals, and uphold our commitment to quality care.
Third, we plan to optimize the use of generic medications and capture more value for our patients and care partners by reducing the use of high cost branded medications where possible. The complexity that results from navigating many different health plans and their respective formularies have often pushed physicians to prescribe high cost branded medications.
Now, on our clinical operations teams have a number of work streams in place to ensure patients and physicians have the opportunity and awareness to use more cost effective medications. Our initial scope of brand versus generic optimization includes only the most frequently prescribed branded medications that are very addressable in higher volumes.
And finally, reducing high cost emergency room visits and hospital admissions remains a very achievable task rooted in operational and behavioral changes. This begins with better engagement with high risk members and we have expanded the capacity and functions of our urgency line and reallocated resources and capacity to accommodate walk-in emergencies. This is heavily tied to how effectively we engage with our patients and our operations teams have tools and metrics to evaluate their own effectiveness when it comes to managing patient populations.
As mentioned, we are targeting over $100 million from these actions and we are confident these initiatives will drive meaningful improvements in operating results and a meaningful inflection in our cash from operations by the end of 2024. While we have already taken many of these actions, it will take approximately four months to six months before we fully realize the cash flow benefit.
We are confident the roadmap and direction among our clinical teams is much clearer than in prior years. We have disclosed and been clear, we are pursuing potential opportunities to sell our Medicaid operations in Florida, pharmacy assets and other specialty practices, or, as appropriate, substantially all of the company’s assets in order to enhance liquidity and realize critical stakeholder value.
I want to emphasize that these potential steps are completely compatible with our intense focus on realizing the benefits from these medical initiatives and further lowering our cost structure. Not only is this what our stakeholders want in order to realize embedded value in the business, but it is also what is right for our patients.
I am confident in the embedded value within our company, and I want to stress that we continue to manage the business for long-term success. We are developing a disciplined operating culture that we will maintain into the future. Our purpose, mission and objectives are aligned with the same operating milestone that our stakeholders desire and we have a rigorous operating plan in place to achieve them. We remain committed to this focused approach, which benefits all stakeholders and enhances our ability to execute strategically, clinically and financially.
Before I finish my remarks, I’d like to note that the recent appointment of Eladio Gil as our Interim Chief Financial Officer. Eladio has had over 30 years of comprehensive experience in the healthcare industry. Having recently served in leadership roles outside of Cano Health that oversaw finance and accounting functions, management service organization operations, and other key finance leadership roles at other major healthcare companies. I have no doubt his financial expertise within the healthcare sector will help us execute our strategies, reduce complexity and ensure balanced sheet stabilization at Cano Health.
With that, I’ll turn the call over to Eladio to take you through the financials.
Eladio Gil
Thank you, Mark. Along with the rest of the leadership team, I am energized by the steps we have taken to date and committed to a path forward that is designed to unlock embedded value of our stakeholders.
Starting with the results of the quarter. Total membership increased 6% year-over-year to approximately 312,000 members in the third quarter of 2023. This represents an increase of approximately 18,000 members from the third quarter of 2022.
Total Medicare Advantage membership grew approximately 2% versus the prior year, but declined sequentially, primarily due to divestitures of assets in Texas and Nevada as well as planned termination of poor performing MSO affiliates. Membership also declined in ACA and Medicaid, which were impacted by contractual changes and redetermination, respectively. Also, as a reminder, this quarter end membership reflects the reduction in membership that resulted from the divestitures of assets in Texas and Nevada of approximately 14,500 total members.
Total revenue for the third quarter of 2023 was approximately $788 million up from approximately $665 million a year ago. Total capitated revenue in the quarter was approximately $770 million an increase from $626 million in the third quarter of 2022.
The Medicare Advantage revenue PMPM was $1,115 in the third quarter of 2023. That’s up 9% from the second quarter of 2023. This increase was driven by lower than expected MRA revenue recognized in the second quarter of 2023, which we discussed on our prior earnings call.
Medicare ACO REACH revenue PMPM was $1,333, up 2% sequentially from the second quarter of 2023. Additional information about our membership mix our PMPMs in our third quarter earnings release and third quarter financial supplement posted on our website.
Our medical cost ratio, or MCR, in the third quarter of 2023 was 91.8%, compared to 78% in the third quarter of 2022. Excluding ACO REACH the MCR was approximately 89.7% in the third quarter of 2023, compared to approximately 72% in the third quarter of 2022. This increase was primarily driven by an increase in our Medicare Advantage MCR. The year-over-year increase in the MCR was primarily driven by higher third-party medical cost in the third quarter of 2023. This is due to higher utilization, higher cost associated with supplemental benefits offered by our health plan partners, and underperforming MSO affiliates.
The prior year quarter also included a reduction in third-party medical cost due to claims that were sold to a third party. The third quarter results reflect improved performance and stability in our Medicare Advantage business. This is due to the operational enhancements and third-party cost initiatives. We saw improvement in our Medicare Advantage medical cost ratio in the third quarter of 2023 from the second quarter of 2023. Even though the previous quarter was impacted by unfavorable prior period items we began to see a lower in-patient and pharmacy cost on a PMPM basis in our third quarter trends.
Meanwhile, utilization of supplemental benefits particular OTC and flex card continues across nearly all of our health plan partners. The aggregated cost of these OTC flex cards year-to-date through September was approximately $104 million, and that was consistent with the utilization experience we saw in the first quarter and second. Direct patient expense in the third quarter of 2023 was 8.3% of our total revenue below the 9.6% in the third quarter of 2022.
SG&A expense in the third quarter of 2023 was approximately $81 million, down approximately $31 million compared to the third quarter of 2022. Total SG&A expense as a percent of revenue was approximately 10.3% and reflects our efforts to restructure the operation to streamline and simplify the organization in order to improve the efficiency and reduce cost. While this included a reduction of 21% of our workforce we expect these actions will yield approximately $65 million of annualized cost reductions through the end of 2024.
These were difficult but necessary decisions. We right size our organization and focus on our core assets. These are material cost reductions that we have seen significantly improvement in our overall cost structure since the end of 2022. However, we still believe that there’s more opportunities to prudently evaluate. Expenses across the organization particularly among our third party vendors to consolidate and align our reduced footprint, and we will continue to evaluate these opportunities and expect our SG&A expenses excluding stock compensation as a percent of revenue to continue to decline through the end of the quarter.
Net loss in the third quarter of 2023 was approximately $492 million compared to the net loss of $112 million the prior year. This was primarily driven by a non-cash goodwill impairment of $354 million and higher operating loss, primarily due to high third-party medical cost. The non-cash goodwill impairment resulted from a goodwill impairment test performed by a third-party specialist, which was triggered due to a significant decline in our company stock price in the third quarter.
Adjusted EBITDA in the third quarter of 2023 was a negative $66 million compared to a positive $18 million the prior year. We will not be providing guidance for the remaining of 2023 as our management team continues to evaluate strategic interest assess divestitures of non-core assets, these factors are dynamic and timing can vary. However, there are some positive factors to consider as you contemplate the fourth quarter. First, we expect financial performance to continue and improve in the fourth quarter of 2023. The improvement in the fourth quarter are primarily driven by the benefits of third party medical cost recoveries such as stop loss, Part D rebates, continued improvement in medical utilization, and traditional seasonality of lower medical costs in the fourth quarter of each year.
Second, as Mark noted, we recently reduced our workforce and expect to realize reduction from these organizational changes this year into the next.
Finally, following our sale of substantially all of our assets in Texas and Nevada to CenterWell, a Humana subsidiary, and as of November 3, 2023, we contemplated our exit from the California, New Mexico and Illinois market. Our current medical center footprint stands at 126 as of November 9, 2023. Following the divestitures and market exits, even with a large majority of medical centers located in Florida, we continue to assess our footprint to seek favorable economics in the areas we are located. As we have mentioned on the second quarter call, this includes approximately 23 centers in Florida, predominantly related to our Medicaid operations.
Now, let me turn to our cash flow and liquidity. In the third quarter of 2023, cash used in operating activity was approximately $40 million and was primarily due to unfavorable operating results. We ended the third quarter of 2023 with approximately $27 million in unrestricted cash and $33 million of net cash proceeds from the sale of our Texas and Nevada operations.
This will enable the company to repay a portion of the revolving line of credit under the Credit Suisse Credit arrangement such that the financial maintenance covenant of this facility was not applicable for testing period ending September 30, 2023. The company’s current liquidity as of November 9, 2023 is approximately $53 million, which consists of unrestricted cash and reflects a full draw of the Credit Suisse revolving line of credit.
As we mentioned last quarter, the immediate use of proceeds from potential asset divestitures would be used to repay the revolving line of credit, and then within 18 months, the intent is to use the net proceeds to reinvest back into the business with the balance being used to repay debt. Consistent with our view at the end of the second quarter, we do not expect the company’s current liquidity to be sufficient to cover our operating, investing, financing needs over the next 12 months. I would direct you to the disclosures we provided in our third quarter 10-Q filing.
And note that we have underway and have an opportunity to move forward with numerous actions to mitigate this risk. They include pursuing interest in a sale of the company or all or substantially all of its assets, finding short or long term financing options with our current creditors, executing new patient engagement and care management protocols that will reduce third-party medical cost and putting in place additional cost initiatives to enhance productivity.
Cano is committed to meeting the needs of our patients while taking actions designed to strengthen our financial footing and putting us in a position to implement the operational and strategic initiatives required to improve patient health and deliver value for all of our stakeholders. As you’ve heard today, and as you will see in our filing, we are actively pursuing a range of initiatives and we will continue to update you on our progress as appropriate.
And finally, I personally like to thank our finance and accounting team members for their diligence and professionalism during these times. Since I stepped into the Interim CFO role, our finance and accounting teams have worked across multiple work streams and as a result are developing stronger partnerships and collaboration with operational leaders across the organization.
And with that, I will ask the operator to open the call to your questions.
Question-and-Answer Session
Operator
Thank you very much. [Operator Instructions] Our first question comes from Jailendra Singh with Truist Securities. Please go ahead.
Eduardo Ron
Hi guys, this is Eduardo on for Jailendra. Thanks for the question. You referenced seeing lower inpatient pharmacy cost, others are calling out higher outpatient costs. Just curious if you’re seeing anything on that side of the business.
Mark Kent
We’ve seen the stable amount of utilization in the outpatient that we’ve seen all year long.
Eduardo Ron
Okay. And as you think about the $100 million of savings in third party medical cost reductions in 2024, how does the current utilization environment sort of play into that thought process? Is that $100 million expected to ramp throughout the year, or does it evenly spread?
Eladio Gil
Yes, we see that ramping throughout the rest of the year and specifically over the next twelve months. Yes.
Eduardo Ron
Okay. And just the last one here for me. I believe you guys received shares of MSP recovery as part of your receivable settlement earlier in the year. Does the Cano still hold those shares or have they been sold?
Eladio Gil
Yes, we still do have them.
Eduardo Ron
Is that a form of liquidity that you can?
Mark Kent
Yes, but no, it’s not. We’ve shared that they’re not registered and so that encumbers the sale.
Eduardo Ron
Got you. Okay. Thank you.
Operator
[Operator Instructions] Seeing no further questions, this will conclude today’s conference call. Thank you all for joining us. You may now disconnect.
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