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Healthcare Concepts We Keep Getting Expensively Wrong · The Operator | Healthcare Business

0:14
Everybody loves the word growth.
0:16
Boards love hearing it.
0:18
Investors love hearing it.
0:20
CEOs love saying it.
0:23
We're growing.
0:24
Usually with a chart pointed up and to
0:28
the right.
0:29
But today Larry's latest piece asks a
0:31
dangerous question,
0:32
growing how and growing what exactly?
0:36
Because in healthcare growth often means
0:39
two or more very different things.
0:42
Either the business is actually healthier
0:45
or you bought someone else's revenue and
0:47
stapled it to yours.
0:48
And those are not the same thing.
0:50
Today,
0:51
Larry breaks down how healthcare companies
0:53
confuse acquisition with progress,
0:56
why top line revenue can hide a weakening
0:59
business,
1:00
and the one metric that tells the truth
1:03
when everybody else is busy celebrating.
1:06
So, Larry,
1:06
let's start simple here on the operator.
1:09
You say growth may be the most abused
1:12
word in healthcare business.
1:14
What does most of the industry think
1:17
growth means?
1:18
And then what does it actually mean?
1:21
Well, thanks.
1:22
And Jimmy, keep in mind,
1:23
we're talking about healthcare platform
1:25
businesses.
1:26
I'm not talking about software or SaaS or
1:29
venture capital businesses that have
1:33
growth,
1:34
meaning top line as their primary
1:36
motivator and benchmark.
1:38
I'm not talking about any of them.
1:39
We're talking about healthcare platforms.
1:41
That's the industry when we refer to it
1:43
as that.
1:44
And most of them think growth is when
1:46
the revenue line went up full stop.
1:49
If the number is bigger than it was
1:51
last quarter, that's growth.
1:52
Everybody takes a bow.
1:53
Somebody updates the board deck.
1:56
And it's not necessarily a good thing.
1:58
What it should mean and almost never does
2:00
in practice is that the underlying
2:01
business got healthier.
2:03
So what you want to know is,
2:05
am I having profitable or more likely am
2:08
I having healthy growth?
2:11
More patients, are they choosing you?
2:14
Existing locations,
2:15
are they getting busier?
2:16
Referral relationships, deepening.
2:19
Clinical reputation, is it compounding?
2:21
And that's actual growth.
2:22
It's slower, it's harder to manufacture,
2:24
and it's a lot harder to put in
2:25
a press release than we doubled revenue
2:28
through six acquisitions.
2:29
Or what I see in physical therapy,
2:31
which is ridiculous,
2:33
is they talk about growth of visits.
2:36
as though every visit is a profitable
2:38
visit and that that contributes to the
2:40
bottom line.
2:41
And it's a lot harder
2:44
to do and to analyze.
2:45
And so the industry defaulted to the
2:47
acquisition definition,
2:49
partly because it's faster,
2:50
partly because private equity love to
2:53
funnel roll-ups and partly because nobody
2:55
in the room wants to ask the uncomfortable
2:57
questions, strip out what we bought.
2:59
What did we actually grow?
3:00
Are we healthier?
3:02
That question has a good way of ruining
3:05
celebrations or being buzzkill.
3:08
Well, yeah, it also, you know,
3:09
I feel like you've talked about this
3:10
before.
3:11
It's easy to look on a map.
3:12
You said pins on the map.
3:13
It's very, very,
3:14
it's simple or doesn't mean it's better.
3:17
But let's go back again before we go
3:18
forward.
3:19
Break this down like you're a clinic
3:22
owner,
3:22
a single operator hearing this for the
3:23
first time.
3:24
How do you describe the difference between
3:26
organic and inorganic growth?
3:28
And why do those lines blur?
3:32
Yeah,
3:32
and it's because they differentiate
3:35
between top line and
3:38
And bottom line, Jimmy, are you there?
3:40
Yeah.
3:40
Can you hear me?
3:41
I thought I lost you.
3:42
Let me start that question over.
3:44
Ask it again.
3:45
Yeah, please.
3:46
Yeah.
3:46
All right.
3:46
So let's go back before we go forward.
3:48
Break this down just to make sure we're
3:50
using the same terms.
3:51
Like I'm a clinic director hearing it for
3:52
the first time.
3:53
How do you explain the difference between
3:55
organic and inorganic growth?
3:57
And why did those lines between those two
3:59
terms blur?
4:00
Now that's the ultimate question here is
4:04
organic growth is,
4:05
is your existing business getting more
4:09
business,
4:10
making sure you're not adding it to other
4:12
business you may acquire or even opened.
4:14
You opened ten clinics last year and while
4:16
this year those same ten clinics that you
4:19
had, are they getting busier,
4:21
generating more revenue,
4:22
serving more patients?
4:24
And then is that converting to profitable
4:27
cash flow growth?
4:30
The growth came from the business getting
4:31
better at what it does.
4:33
That is good.
4:34
Inorganic growth is you wrote a check for
4:36
somebody else's revenue.
4:37
You acquired eight more clinics and now
4:39
their revenue is your revenue.
4:40
And so you're adding those together and
4:43
talking and celebrating.
4:45
The total got bigger because you bought
4:46
more total.
4:47
And here's the thing,
4:49
both show up in the same way on
4:51
the top line of revenue.
4:53
One chart, one number,
4:54
one board presentation.
4:56
And the reason organizations blur the two
4:59
together is that blurring them together is
5:02
convenient.
5:03
Organic growth is harder to manufacture on
5:06
a timeline.
5:07
Inorganic growth is a transaction.
5:09
It's an opening of something new.
5:12
You can close a deal faster when you
5:13
build a referral network.
5:15
So the temptation is enormous to let the
5:17
acquired revenue do the talking and not
5:20
make too much out of that distinction.
5:22
The problem is the distinction is
5:24
everything.
5:25
One of the businesses is getting stronger.
5:27
The other one just got bigger.
5:29
Those are not the same thing.
5:32
And all you hear talked about is cocktail
5:34
parties is growth, board decks,
5:37
growth in visits.
5:38
Nobody wants to talk about same store
5:41
organic cash flow growth.
5:43
It's just not a sexy thing to do.
5:45
Right.
5:46
So when a company like acquires twelve
5:48
clinics, doubles revenue,
5:49
everybody celebrates, right?
5:51
But what are the things that you're
5:52
talking about,
5:52
the blurring or the hidden problems that
5:54
can exist underneath in that exact
5:57
dangerous board slide?
5:59
Yes, so much.
6:00
I mean, where do you start?
6:01
You know, first,
6:01
same store revenue at the original
6:03
locations.
6:04
may be flat or declining.
6:06
And that's happening while nobody's
6:08
watching because everybody's focused on
6:10
the integration.
6:11
I mean,
6:12
a classic example is when you open a
6:14
location that's not far from another
6:16
location,
6:16
you expect some form of cannibalism.
6:19
when you do a lot of acquisitions you
6:22
might expect some loss at nearby or
6:25
adjacent locations those are expectations
6:28
you can model them you could pro forma
6:30
them but it's hard to do and it
6:31
takes a lot of diligence a lot of
6:33
detail the acquired clinics almost never
6:35
perform as well as what we call the
6:38
underwriting model so if we buy something
6:41
and we predict or pro forma model it
6:44
things almost never turn out as planned.
6:46
Sometimes they're better.
6:47
Most of the time they're worse.
6:49
And yet the underlying assumptions,
6:51
these rarely get revisited to the board in
6:54
an update.
6:55
Third reason is the debt service on twelve
6:58
acquisitions is starting to consume cash.
7:01
Not only that, your transaction costs,
7:03
you're paying what I call the private
7:05
equity ecosystem, the lawyers,
7:07
the advisors, the tax firms,
7:10
all of those things,
7:11
and that money eats up your capital.
7:14
So the business that generated the growth
7:16
thesis in the first place might be starved
7:18
for capital.
7:19
You might need to buy new equipment,
7:20
new IT,
7:21
integration costs that you have to factor
7:23
into these deals.
7:25
And fourth,
7:26
and this one's personal for me,
7:27
is that clinician turnover usually
7:29
accelerates
7:30
during the acquisition cycles.
7:32
Not because the acquisitions caused it
7:34
directly, but because the culture does.
7:37
People were promised something,
7:38
something changed.
7:39
Maybe it was their health insurance.
7:40
Nobody managed them through it.
7:42
And all of a sudden you've got the
7:44
attention becomes more attention on buying
7:46
things.
7:46
I call it an opiate for a reason,
7:49
because it forces you at an opportunity
7:51
cost to take away from being an operator
7:54
and taking pride in excellence
7:56
and looking at things as they are.
7:58
And if reimbursement is declining or payer
8:00
mix is worsening, denials are rising,
8:03
you could have more visits and a lot
8:05
less cash.
8:06
The board sees the hockey stick in
8:08
revenues and celebrates,
8:09
but the CFO is starting to have quiet
8:11
conversation with the lenders about all
8:13
the cash that is eaten up.
8:15
Right.
8:16
Yeah, the chart looks good,
8:17
but the balance sheet is not looking
8:18
great.
8:20
Can a healthcare company be growing on
8:22
paper while actually getting weaker in
8:24
reality?
8:25
And if so, what are the signs?
8:26
You mentioned a couple right there.
8:28
Yeah, absolutely.
8:29
This is actually the normal pattern before
8:31
a distressed situation, not the exception.
8:34
The company's growing on paper,
8:35
revenue is up, maybe even EBITDA is up,
8:38
but it's up for the wrong reasons right
8:40
up until the moment it isn't.
8:41
And when that happens, it happens fast.
8:43
And the warning signs are the same.
8:45
You have to go looking for it because
8:46
they don't show up on a dashboard or
8:48
a headline.
8:49
Same store revenue at existing locations
8:52
is flat or declining.
8:53
That's the first one.
8:54
If you strip acquisitions out of the
8:56
revenue picture and the line goes flat or
8:58
down, the core business is not growing.
9:00
The growth is actually fooling you.
9:03
And that happens a lot because board
9:05
decks,
9:06
it's easier to show total EBITDA than to
9:08
take every vintage year of your de novos,
9:11
to take every platform,
9:13
your underlying assumptions and how they
9:15
performed over time.
9:17
That's a lot harder to talk about it.
9:19
forces you to get in the weeds and
9:21
boards generally don't like to get there.
9:23
They generally like in many cases to get
9:25
their checks and move on.
9:27
The second though is debt service and that
9:30
can compress you and it eats up a
9:32
lot of the cashflow.
9:33
So while you're generating cash,
9:35
a lot of it is going to the
9:36
private equity ecosystem as well as to
9:39
fund this type of growth.
9:40
So then what happens?
9:42
You start borrowing more and more money.
9:44
It's not a problem when interest rates are
9:45
free,
9:46
but when they're high like they are now,
9:47
it becomes a problem.
9:49
And then the third is all of what
9:50
I'd call the HR interrelated factors,
9:53
culture.
9:53
Clinician turnover starts to accelerate.
9:56
Sometimes that's not a bad thing.
9:57
Sometimes clinicians are now being held
9:59
accountable and they want to be run off.
10:01
They don't like the cultural integration.
10:03
And then the fourth is major integration
10:05
issues.
10:06
Do you have integration talents?
10:08
It's a lot harder to have the competencies
10:10
and skillset around integrating something
10:12
than it is to buy something.
10:13
Is it on schedule?
10:15
What do you integrate first?
10:16
Do you do light integration,
10:17
heavy integration?
10:18
Do you integrate the EMR or do you
10:20
just do payroll?
10:21
Do you just do marketing?
10:22
Do you do talent acquisition and
10:24
recruiting?
10:24
Do you do payer contracting?
10:26
All of those are decisions and most
10:28
healthcare platforms aren't real
10:30
platforms,
10:30
don't make those decisions because they're
10:32
so focused on funneling growth to the
10:35
detriment of their own company.
10:37
You've used that term, same store growth,
10:40
as one of the few honest numbers.
10:42
Explain why to someone who doesn't know,
10:45
like me,
10:45
why that metric matters so much and why
10:48
operators should obsess over same store
10:51
growth.
10:52
Absolutely,
10:53
because it tells you what's actually
10:54
happening.
10:55
You'll notice unprofessional managers,
10:58
they'll say, oh, we're growing.
11:00
And maybe they had an increase in volume
11:02
in two to three percent.
11:03
But at the same time,
11:04
maybe their labor costs, their rents,
11:06
their supplies and everything else went
11:08
up,
11:08
causing margin encroachment and therefore
11:12
their cash flow actually went down,
11:14
but they're calling it growth.
11:16
And that's why it is the pure number.
11:19
Are existing locations busier?
11:21
Is the referral engine getting stronger?
11:23
All these are harder things to do,
11:24
but you have to take the time to
11:26
take it each individual one and compare it
11:29
over time.
11:30
I like to compare it to the last
11:31
twelve months,
11:32
the rolling twelve month average.
11:33
I like to compare it to a variance
11:35
graph,
11:35
a three month over three month variance
11:37
graph.
11:38
And that will tell me based on cash
11:39
flow, visits, total EBITDA and margin,
11:43
Am I really, really grown?
11:44
But you know what?
11:45
That takes a lot of detail and takes
11:46
sophisticated operators to do that.
11:49
Good news is we have AI that can
11:51
model and do a lot of that for
11:52
you,
11:53
but AI is only going to produce the
11:54
data.
11:55
The real question is,
11:56
can you take the data to get the
11:57
insights?
11:58
And then what are your actions off that
11:59
insight?
12:00
Well,
12:00
if your only action is to create a
12:02
very fancy PowerPoint deck for your board
12:04
and tells you how much you're growing,
12:06
you're really,
12:07
really misleading and misrepresenting your
12:09
company.
12:09
You see it every day,
12:11
particularly in PT platforms.
12:13
All right, let's do a hypothetical.
12:15
If you ran a hundred clinic healthcare
12:17
platform tomorrow and you're only allowed
12:20
five numbers on your dashboard every
12:22
Monday morning,
12:22
you could have a snapshot of them,
12:24
what would they be?
12:25
Yeah,
12:26
first I would call it sort of the
12:28
same store revenue growth by location,
12:31
not the total portfolio, but by cluster.
12:33
So that might be organic performance
12:36
within a neighborhood where I got five
12:37
locations, for example.
12:39
You want to break them down individually,
12:40
but it's okay to do it by cluster.
12:43
Did those clinics or did that cluster have
12:46
enough cash to pay what it owes?
12:48
Not EBITDA, cash.
12:49
So
12:50
Revenue growth,
12:51
cash conversion outside of debt.
12:53
So that's sort of the first two.
12:56
The third is the plan of care completion
12:58
rates.
12:58
You and I have gone around on this,
13:00
but our people now,
13:03
eradicating the culture and the focus on
13:05
what patients' outcome are getting.
13:07
Are they finishing their care?
13:08
Are they dropping out?
13:10
It's both a clinical and a financial
13:12
number, really.
13:13
And so you might be getting this growth
13:15
in new patients,
13:15
but you might be getting a growth and
13:17
dropout after the two to three visit cliff
13:19
that you and I have talked about many
13:21
times.
13:22
So that has a revenue leak in it.
13:24
It's one metric, two problems.
13:26
And I would say the fourth would be
13:27
clinician turnover by vintage.
13:29
In other words, what I mean by vintage,
13:31
you would look at pre-acquisition,
13:33
post-acquisition.
13:34
You would also look at it by new
13:36
clinicians first year,
13:38
new clinicians year two to three,
13:40
and then above three.
13:41
What is happening there include voluntary
13:43
and involuntary turnover because the
13:46
unprofessional managers,
13:47
those with the souped up CVs that are
13:50
always in constant talks with their search
13:51
firms, aren't doing that.
13:53
They're only putting on their resume
13:55
growth so that they will get hired by
13:56
another multi-site and talk about what
13:58
great success they had.
14:00
Meanwhile,
14:00
the clinic's mounting debt uncontrollably
14:03
and headed towards restructure.
14:05
Yeah, you see that in LinkedIn pro,
14:06
like I never saw this until maybe two,
14:08
three years ago.
14:09
It's not even just on the resume,
14:10
it's on their LinkedIn profile bio.
14:12
You know, four X exit, you know,
14:14
five times a year over year growth.
14:18
You wrote something sharp in your latest
14:21
operator blog.
14:22
Anyone can look smart in a free money
14:24
era.
14:24
You alluded to that a few minutes ago.
14:26
So when hiring, you know,
14:28
CEOs or executives now,
14:31
how do you tell who's real and who's
14:33
just surfing that cheap debt?
14:36
That's a great question.
14:37
And I look at sort of two types
14:39
of time periods.
14:41
I look at when there was a recession.
14:43
So the last real bad recession we had
14:45
was called kind of a way to nine
14:47
period.
14:48
How did they manage through that?
14:49
Because we've always believed health care
14:51
and dental care to be recession and
14:53
inflation proof.
14:55
We've now shown that that is not correct.
14:56
So that's one period of time.
14:58
And the other one I've talked about
14:59
before, which is post pandemic.
15:02
Talk to me about same store performance
15:04
when everybody got back into the office
15:05
during sort of two thousand twenty two,
15:07
two thousand twenty three.
15:09
Or did the hangover still persist in the
15:11
system and you started to lose a bunch
15:12
of therapists and therefore your margins
15:15
got eroded and therefore your cash flow
15:18
and lever free cash flow went down?
15:20
That's real.
15:21
That's a real good period of time compared
15:23
to say the two thousand nineteen and
15:25
twenty vintage.
15:26
Everybody looks good when money is free
15:28
and multiples are expanding.
15:29
The question is,
15:31
What happened when the conditions got
15:33
really, really difficult,
15:35
when the headwinds became really,
15:37
really strong?
15:38
The second thing I look for is do
15:39
they know the difference between adjusted
15:41
EBITDA and free cash flow?
15:43
And do they lead with the right one?
15:46
Adjusted EBITDA versus free cash flow and
15:49
levered free cash flow.
15:50
An executive who leads every conversation
15:52
with adjusted EBITDA gets evasive when you
15:54
ask about cash conversion.
15:56
That tells you the same story.
15:58
Most CEOs don't even know what the cash
16:00
conversion is.
16:01
And third,
16:01
how do they talk about integration?
16:03
Is it with pride?
16:04
Do they have a team that does it?
16:05
Have they developed competencies over the
16:08
long run based on feedback and how they
16:11
improve it or not?
16:12
For a while in my prior company,
16:14
I had two integration teams that were
16:15
trained by each other,
16:16
got real time feedback by the very groups
16:19
we were partnering with.
16:20
The operators who do all this well can
16:22
tell you exactly if integration broke,
16:25
how it broke, what happened.
16:27
But the ones who surf cheap,
16:29
cheap debt tend to give you a slide
16:31
about synergies.
16:32
Right.
16:33
A smooth sea never made a skilled sailor.
16:35
So you want to know how those people
16:37
navigated the rough waters of.
16:39
of a turbulent time.
16:40
If someone listening runs clinics right
16:42
now and keeps saying we need growth,
16:45
what would you challenge that person to
16:47
ask themselves tomorrow morning before
16:50
they get going?
16:51
Yeah,
16:51
so I'd ask them to reflect and I
16:53
would say at what economic cost and what
16:55
cost to your business.
16:57
Growing companies consume a lot of cash.
17:00
What growth is worthwhile in consuming
17:03
that cash?
17:04
Strip out any clinic you acquired in the
17:07
last two years.
17:08
Now look at the remaining locations.
17:10
Are they busier?
17:11
Are they producing more free cash flow
17:12
than they were the year before?
17:14
Is revenue per location up?
17:16
Is the organic new patient rate improving?
17:18
If the answer to those questions is yes,
17:20
great,
17:20
you understand your business and you're
17:22
growing it, go forward.
17:23
But if the answer is same store is
17:25
flat and negative,
17:26
and the only reason the top line looks
17:28
good is acquisitions,
17:29
then you don't have a growth business.
17:31
You have a buying business.
17:32
Buying businesses are fine,
17:34
but they're completely different risk
17:35
profile.
17:37
They have a different capital requirement
17:38
and completely different set of things
17:40
that can go wrong.
17:41
So I say the question I challenge every
17:43
operator with,
17:44
I challenge myself is what would my
17:46
revenue look like if I couldn't make
17:48
another acquisition?
17:51
Would I focus on my operational excellence
17:53
and pride and tighten my systems and do
17:56
much more with accountability?
17:57
Because that's the actual business.
18:00
You know,
18:01
acquisition buying takes time from
18:04
something else.
18:04
And usually that time from something else
18:06
is solid operation.
18:07
Don't confuse acquisitions with what's
18:09
sitting on the top in terms of your
18:11
revenue.
18:12
That's a great question.
18:13
What would you be doing if you could
18:14
never acquire again?
18:16
The answer is obviously make sure that the
18:18
ship you're on is running smoothly.
18:20
Yeah.
18:21
All right,
18:22
we'll wrap this by saying not all growth
18:23
is progress.
18:24
You can head to Larry Substack right now,
18:26
the operator,
18:27
and sometimes growth is just borrowed
18:28
revenue,
18:29
borrowed time or borrowed confidence
18:32
before maybe someone moves on.
18:34
But if you want sharper thinking on
18:35
healthcare business leadership,
18:37
private equity operators,
18:38
and the numbers people misuse every day,
18:41
subscribe to the operator on Substack.
18:43
You can find the link in the show
18:44
notes here.
18:45
That's where Larry publishes the full
18:46
breakdown and the ideas behind these
18:49
episodes.
18:50
Larry, thanks for the insight.
18:52
absolutely all right you got time to do