Community Health Systems Inc (CYH) 2017 Q4 法說會逐字稿

Good morning. My name is Denise, and I'll be your conference operator today. At this time, I'd like to welcome everyone to the Community Health Systems Fourth Quarter and Year-end 2017 Conference Call.

I would now like to turn the call over to Mr. Ross Comeaux, Vice President of Investor Relations. Please go ahead.

Thank you, Denise. Good morning, and welcome to Community Health Systems fourth quarter and year-end conference call.

Before we begin the call, I'd like to read the following disclosure statement. This conference call may contain certain forward-looking statements, including all statements that do not relate solely to historical or current facts. These forward-looking statements are subject to a number of known and unknown risks, which are described in headings such as Risk Factors in our annual report on Form 10-K and other reports filed with, or furnished to, the Securities and Exchange Commission. As a consequence, actual results may differ significantly from those expressed in any forward-looking statements in today's discussion. We do not intend to update any of these forward-looking statements.

Yesterday afternoon, we issued a press release with our financial statements and definitions and calculations of adjusted EBITDA and adjusted EPS. For those of you listening to the live broadcast of this conference call, a supplemental slide presentation has been posted to our website. We will refer to those slides during this earnings call.

As a reminder, our discussion of our results excludes Quorum Health Corporation, the joint venture in Las Vegas that was sold to UHS, the company's home care division and the 30-hospital divestitures. All calculations we will discuss also exclude the overall impact due to the change in estimate to increase contractual allowances and provision for bad debts, discontinued operations, loss from early extinguishment of debt, impairment expense as well as gains or losses on the sale of businesses, expenses incurred related to divestitures, gain on sale of investments and unconsolidated affiliates, expenses related to government and other legal settlements and related costs, expenses related to employee termination benefits and other restructuring charges, expense from fair value adjustments on the CVR agreement liability related to the HMA legal proceedings and related legal expenses.

With that said, I'd like to turn the call over to Mr. Wayne Smith, Chairman and Chief Executive Officer. Mr. Smith?

Thank you, Ross. Good morning, and welcome to our fourth quarter conference call. Tim Hingtgen, our President and Chief Operating Officer, is with me on the call today; along with Tom Aaron, our Executive Vice President and Chief Financial Officer.

On the call today, I'll provide some comments on the company as well as our performance during 2017. Then I will turn the call over to Tim, who will discuss some additional detail around our operations and Tom, who will provide some more color on our fourth quarter financial results and walk through our initial guidance for 2018.

In terms of the quarter, we're pleased with our progress during the fourth quarter, which produced results largely in line with our internal expectations. In the fourth quarter, we drove improved net revenue performance, both sequentially and year-over-year. Looking at our year-over-year performance, our same-store net revenue was up 1.8%. Adjusted EBITDA of $409 million for the fourth quarter came in within our guidance, and adjusted EBITDA margin of 11.2% was an improvement compared to our performance in the second and third quarters of the year.

As you know, we've been optimizing our portfolio through select divestitures of noncore assets to refine our portfolio to better -- refine our portfolio to better markets. At the same time, we've also been investing capital and resources in these core remaining markets to position our company for improved growth.

During 2017, we completed the divestiture of 30 hospitals, the last 2 of which closed November 1. So with those 30 divestitures largely out of our portfolio during the fourth quarter, we're pleased to see improved same-store net revenue and EBITDA margin performance to close out 2017. As such, we believe our portfolio is well positioned with strong momentum heading into 2018, and we see a number of opportunities to driving better performance in 2018.

Before our comment on 2018, I'd first like to highlight a number of achievements in 2017. First, improvement in the quality and safety of care for our patients and communities remains a key component of our strategy. We remain committed through both investments and resources to deliver the highest level of care to our patients throughout their continuum of care within the health care system.

One quality metric that we track is Serious Safety Event Rates, or SSER, the most recent measure of our Serious Safety Rate showed an overall 81% reduction from the baseline set in 2013 for our legacy hospitals and a 57% reduction since the baseline set in 2015 for our HMA hospitals. We're pleased with the progress and what it says about our organization-wide commitment to patient safety. It's also worth noting that we saw a decrease in hospital-acquired conditions and hospital-acquired infections.

Second, we executed on a number of strategic initiatives across multiple fronts that have strengthened the foundation of our company for improved growth. I'll mention just a couple of these, and Tim will provide additional detail on those later in the call.

During 2017, we reinforced our competitive position in our core markets, we enhanced our connectedness with patients and we made investments to improve our operational efficiency. A few examples of these include: the opening of a number of access points in 2017, with a healthy pipeline for 2018 and '19 to strengthen our core markets; the build-out of our proprietary transfer center here in Franklin; the planning and subsequent launch of our ACO program in early 2018; implementation of centralized and online scheduling across our physician practices; and other enhanced capabilities to connect patients across our continuum of care; and the leveraging of our data analytics technologies across the organization. We believe all of these initiatives, as well as a number of others, position our company for improved performance during 2018.

Third, we continue to make progress on our portfolio optimization efforts. During 2017, we closed on 30-hospital divestitures. These 30 hospitals had below-corporate-average volume and payer rate growth, mid-single-digit EBITDA margin and were a drag on our cash flow. These divestitures were excluded -- executed at attractive multiples, allowing us to pay down our debt during 2017. The divestitures of these assets has -- allows us to shift more of our resources to hospitals and networks with stronger market positions, higher growth potential and better profitability. And while we're getting closer to where we would like to be as it relates to the number of hospitals we operate, we're currently working on additional divestitures.

As we look at 2018, we expect to close hospital divestitures by the end of 2018 that accounted for approximately $2 billion of net revenue in the full year of '17 and mid-single-digit EBITDA margin. In 2018, we expect these divestitures to generate approximately $1.3 billion of gross proceeds, which does not include the retention in net working capital. We expect the proceeds from these divestitures to be used for incremental debt paydown. And on Slide 15 and 16, we highlight the benefit of removing these hospitals out of our portfolio.

During the fourth quarter of 2017, if these divestitures are removed from the results, our adjusted admissions are improved 30 basis points, and our EBITDA margin improved 60 basis points higher. Beyond the $2 billion of divestitures, I'd just mention, we will continue to work to optimize and strengthen our portfolio.

Now I'd like to talk about our full year 2018 guidance, and Tom will provide more details in a minute. Our 2018 guidance includes net operating revenues adjusted for expected divestiture timing are anticipated to be $13.6 billion to $13.9 billion. Adjusted EBITDA is anticipated to be $1.55 billion to $1.65 billion.

We are pleased with our progress in the fourth quarter and expect to carry that momentum through 2018 as we execute strategies that we believe will strengthen our core business and drive improved results.

I'll now turn the call over to Tim for additional comments.

Thank you, Wayne. Overall, we had a good fourth quarter. We drove better same-store net revenue growth and converted a higher percentage of that revenue to EBITDA during the fourth quarter than the prior 2 quarters, and we are entering 2018 with improved momentum across the business and a stronger portfolio of hospitals and markets.

As Wayne mentioned, we made a number of strategic investments in 2017 that should help to drive better growth in 2018 and beyond. During the middle of 2017, we completed the build-out of our proprietary transfer center and access program here in Franklin, Tennessee, which has the infrastructure to be leveraged across multiple hospitals and markets. As a reminder, this is a program that we centralized and in-sourced to help to better manage the inbound referrals to our hospitals and their emergency departments from both our affiliated and nonaffiliated hospitals in a particular region. To date, we have deployed this model in select regional networks that include 25 of our hospitals, and we will substantially increase the count with our scheduled market implementations through the balance of 2018.

While this in-house service has been in operation for a relatively short amount of time, we are experiencing the benefits we expected. First, we are able to safely and promptly transfer patients to the most appropriate care setting. We are also seeing increased admissions in most markets included in the launch, particularly in service lines such as critical care, GI, cardiovascular and neurosciences. In general, we are experiencing better patient retention within our health care systems and increasing referrals from non-CHS hospitals. The program is also providing greater transparency into the daily operations of our emergency department, bed management and case management functions, which has resulted in some refinement of internal processes to improve throughput at the hospital level. And we now have real-time data that shows where we can accelerate strategic service line development to support patient care needs and to appropriately retain even more patients within our health care systems.

We have been -- we have also been leveraging the lessons learned from our initial deployments and have created and shared playbooks with those other hospital leaders ahead of their scheduled deployment of our in-house transfer center model so that they can begin identifying operational and growth opportunities in advance. All in all, we are seeing solid results and expect to see further improvement going forward.

Another priority strategy that we have been broadly -- that we have broadly launched is our Accountable Care Organization initiative, or ACOs, which just commenced on January 1, following months of detailed planning and development in 2017. Nearly every CHS-affiliated hospital is enrolled in one of these 15 newly created ACOs, and we are now partnering with more than 4,000 employed and independent physicians in this coordinated population health model. Of note, 2/3 of these providers are independent providers within our markets. Through these ACOs, we are focused on caring for more than 260,000 attributed Medicare fee-for-service patients. In addition to advancing quality and outcomes for this particular Medicare population, we are committed to stronger alignment with both employed and independent physicians for all of their patients. We believe this strategy will provide multiple benefits, including the ability to further advance value-based care and population health management with other payers into the future.

Along with these initiatives, we have continued to invest in access points and other outpatient capabilities to ensure we are strategically advancing our market development across the broader continuum of care. During the fourth quarter, we opened 2 new freestanding EDs, or FSEDs, one in Las Cruces, New Mexico, the first FSED to open in that state; and the other in Clarksville, Tennessee. In the first half of 2018, we are opening an FSED in Petersburg, Virginia, as well as our second FSED location in the Tucson market. We've also been focused on the addition of new urgent and walk-in care centers across our markets.

In 2017, we expanded these immediate care locations by approximately 20%, and we have a very robust access point development plan to open additional FSEDs, urgent and walk-in care clinics, ASCs and imaging centers through 2018 and 2019.

I would also like to comment on our corporate divisional operation structure and other expense management opportunities. Throughout 2017, as we divested certain assets, we have also worked to incrementally reorganize our corporate team and to lower corporate overhead while maintaining a high level of support and resources for our local markets. Entering 2018, we eliminated an operating division at our headquarters and, at the same time, created 2 new regional leadership roles. So we now have 2 division teams at the corporate office and regional presidents in 6 key markets. You may recall that last year, we established the new regional leadership roles for tenured, experienced hospital and market CEOs. These were for our operations in Tucson, Arizona, the Lutheran market in Fort Wayne, Indiana, our Alabama markets and Merit Health in Mississippi. We have now added our Bayfront hospitals in Florida and our Tennova hospitals in Tennessee to this model, which we believe is working well and can help accelerate progress moving forward.

Regional presidents directly avail themselves of our corporate resources and supporting departments, so we are not duplicating corporate services in each of these regions. The regional presidents are based in their markets and have a broad responsibility to drive forward key strategies and to build deeper relationships in our communities. The regional presidents report directly to me, and together, we remain focused on delivering our hospital leaders heightened responsiveness and support, which will invariably lead to stronger market competitiveness.

In terms of cost management, we continue to focus on improved efficiency across all 3 of our primary expense lines. For SWB, we have demonstrated improvements but continue to see opportunity by utilizing our labor analytics tools. On the supply expense front, while we have performed well on the drug side, we expect to drive savings in other categories by leveraging recent data enhancements and by implementing a more coordinated supply formulary approach which utilizes data. And on the other expense line, we are working on a number of strategies to lower this cost, including the potential to in-source certain hospital-based services from an outsourced model.

So in summary, we saw better performance during the fourth quarter. We are encouraged by the potential we still see moving forward, and we expect to build upon recent achievements as we drive additional improvements throughout 2018 and enhance our organizational effectiveness.

Tom?

Thanks, Tim. Before we discuss the specifics of the quarter, we would like to first talk about 2 noncash accounting adjustments recorded during the fourth quarter. As mentioned in our earnings release, during the 3 months ended December 31, 2017, we recorded a noncash impairment charge of $1.76 billion for the impairment of goodwill and other long-lived assets. This included a write-down of $1.42 billion to goodwill for the company's hospital reporting unit, primarily due to the decline in our market capitalization, fair value of long-term debt, as well as lower-than-expected earnings performance. We also recorded a noncash impairment charge of $341 million to reduce the value of long-lived assets in hospitals sold or identified for sale at certain nonperforming hospitals. These impairment charges are excluded from our calculation of adjusted EBITDA and do not impact our financial covenant calculation.

Also mentioned in our earnings release, we adopted the new revenue recognition accounting standard on January 1, 2018, as required by generally accepted accounting principles. This new standard impacts our revenue and receivables estimates by moving to a model that recognizes revenue only to the point that it is probable that a significant reversal in the amount of revenue will not occur and requiring that revenue recognized be disaggregated into categories that depict how the nature, amount, timing and uncertainty in revenue cash flows are impacted by economic factors.

In anticipation of adopting the new standard during the 3 months ended December 31, 2017, we completed an extensive analysis of our patient revenue and receivable transactions. We developed and tested new programming that enabled us to extract and disaggregate data in accordance with the standard and finalized new accounting processes and methodologies. This analysis resulted in a change in estimate we recorded in the fourth quarter to increase contractual allowances by approximately $197 million and the provision for bad debts by approximately $394 million for a total of $591 million.

Based on our modeling of this new method against recent prior years and comparing results with the 2017 impact, the method did not materially impact those recent prior years. And we do not expect the application of these new accounting processes or the adoption of the new revenue recognition standard to impact our go-forward net revenue, EBITDA, earnings or cash flow run rates. Also, this change in estimate is excluded from our calculation of adjusted EBITDA and excluded from our calculation of financial covenants under our credit facility.

Back to our fourth quarter performance. First, thanks to our net revenue increase of approximately 1.8%, which was slightly ahead of our internal forecast, during the fourth quarter, we drove improved adjusted admissions and net revenue per adjusted admission growth. Overall, adjusted EBITDA of $409 million was within our implied guidance range. On the expense front, we made sequential same-store progress across salaries, wages and benefits in our other operating expense line. And we saw the continued recovery in hospitals impacted by the hurricanes in the third quarter.

Moving to the results of the fourth quarter on a quarter-over-quarter basis. As a reminder, calculations discussed on this call exclude items we have noted earlier. On a same-store basis, for the quarter, we noted the following: On a comparative fourth quarter of 2016 versus 2017 basis, net revenues increased 1.8%. This was comprised of a 2.7% increase in net revenues per adjusted admissions and a 0.9% decrease in adjusted admissions. Our inpatient admissions declined 1.7%, an increase in observation days and lower child deliveries drove the majority of the decline. Our ER visits were up 1.4%. Our surgeries decreased 0.9%.

Our net outpatient revenues, before the provision for bad debts, was 57% of our revenues. Consolidated revenue payer mix for the fourth quarter 2017 compared to fourth quarter 2016 shows managed care and other, which includes Medicare Advantage, increased to 120 basis points. Medicare fee-for-service decreased 190 basis points. Medicaid decreased 40 basis points, and self-pay increased 110 basis points. Consolidated revenue payer mix on a full year basis shows managed care and other increased 80 basis points, Medicare fee-for-service decreased 130 basis points, Medicaid increased 20 basis points, self-pay increased 30 basis points.

In terms of Medicaid supplemental programs such as DSH, LIP, UPL, Texas Supplemental, et cetera, since 2015, we have experienced reimbursement reductions of over $100 million. However, as we think about the outlook for 2018, we expect the reimbursement environment to be more stable. For the full year, the sum of consolidated charity care of self-pay discounts and bad debt expense for the 3-month comparative periods has increased from 26.5% to 30.4% of adjusted net revenue, a 390 basis point increase. During the same period, same-store increased 130 basis points to 30.4%. Our bad debt expense as a percent of net revenue before bad debt was higher during the fourth quarter of 2017 compared to the first 3 quarters of the year. For the full year, the sum of consolidated charity care, self-pay discounts and bad debt expense increased from 26.2% to 29.6% of adjusted net revenue, a 340 basis point increase. The year-over-year increase for the quarter and for the full year was driven by higher self-pay discounts as a percentage of total revenue. For the full year, same-store increased 160 basis points to 30.7%.

For the same-store expense items, our salaries and benefits as a percent of net operating revenues for the same stores decreased approximately 20 basis points. The decrease was driven primarily by improved FTE management. Supplies expense as a percent of net operating revenues for our same stores increased 70 basis points, driven primarily by higher implant cost. Other operating expenses as a percent of net operating revenues for our same stores increased 230 basis points. Increases in fourth quarter 2017 versus fourth quarter 2016 were driven primarily by higher medical specialist fees, purchase services, taxes and insurance.

On a same-store basis, sequentially versus the third quarter of 2017, we drove improved expense as a percent of net revenue by 2 operating expense lines. Salaries, wages and benefits decreased 110 basis points, and we delivered 50 basis points improvement on our other operating expense line.

Switching to cash flows. Our cash flows provided by operations were $156 million for the fourth quarter of 2017. For full year 2017, our reported cash flow from operations was $773 million. This compares to fourth quarter 2016 cash flow from operations of $327 million and full year 2016 cash flow from operations of $1.137 billion.

In terms of the year-over-year decrease during 2017, there are a few items worth noting versus the prior year. Divestitures, working capital changes and other decreases reduced cash flow by approximately $140 million. The timing of payments for payroll negatively impacted cash flow by approximately $70 million. Retirement, benefit plan payments for retirees and for payments to employees at divested hospitals were an approximately $70 million reduction. The decrease in cash received from HITECH was roughly an $80 million reduction. During the fourth quarter of 2017, we experienced a $37 million reduction to our cash flow from operations related to retirement benefit plan payments for retirees and employees at divested hospitals. We expect these retirement benefit payments to be lower in 2018.

Turning to CapEx. Our CapEx for the fourth quarter of 2017 was $136 million or 3.7% of net revenue, while our full year 2017 CapEx was $564 million or 3.5% of net revenue. During full year 2016, our CapEx was $774 million or 4.0% of net revenue. When comparing net year-to-date CapEx to previous year amounts, 2017 CapEx is lower due to limited replacement hospital spending and more targeted CapEx focused on our higher-return core hospitals. We're also allocating a higher percentage of CapEx towards additional access points as well as service line build-outs around cardiology, orthopedics and other high-acuity areas. Looking at CapEx spend in 2018, we expect for these trends to continue.

Moving to the balance sheet. Our net debt has improved by $1.66 billion during the year. At the end of the fourth quarter, we had approximately $13.9 billion of long-term debt, which is down from $14.8 billion of long-term debt at the start of the year. Our current maturities of long-term debt at the end of the year were $33 million versus $455 million at the end of 2016. And at the end of the fourth quarter, we had approximately $560 million of cash on hand on the balance sheet compared to roughly $240 million at the end of 2016. We had no outstanding balance on our revolver at December 31, 2017.

As it relates to our pending HMA legal matters, there has been no material change for several quarters. We continue to revalue the estimated liabilities covered by the CVRs on a quarterly basis. Our current estimate includes probable legal fees, continues to reflect that there will be no payment to the CVR holders.

As part of our comprehensive approach to our capital structure, on February 26, 2018, our credit facility was amended with requisite revolving lender approval to remove the EBITDA to interest expense ratio financial covenant to replace the senior secured net debt-to-EBITDA ratio financial covenant with a first lien net debt-to-EBITDA financial ratio covenant and to reduce the extended revolving credit commitments to $650 million. The new financial covenant provides for a maximum first lien net debt-to-EBITDA ratio of 5.25:1, reducing to 5.0:1 on July 1, 2018; 4.75:1 on January 1, 2019; 4.5:1 on January 1, 2020; and 4.25:1 on July 1, 2020. In addition, we agreed pursuant to the amendment to modify our ability to retain asset sale proceeds and instead to apply them to prepayments of term loans based on pro forma first lien leverage. So overall, with this amendment, we've replaced our covenants and we've reduced our revolver.

I'll now walk through our 2018 guidance. For 2018, our full year guidance includes the following. First, our guidance assumes the divestiture of hospitals that account for approximately $2 billion of net revenue in 2017 with mid-single-digit EBITDA margins. We expect these divestitures to close in 2018 and contribute revenue of approximately $1 billion to our 2018 results. So we want to reiterate the divestitures are in our guidance because -- anticipated divestitures because all Street models did not appear to contemplate divestitures. Same-store adjusted admission growth is anticipated to be 0.5 to -- down 0.5% to up 0.5%. For 2018, net operating revenues less provision for doubtful accounts are anticipated to be $13.6 billion to $13.9 billion after adjusting for the timing of expected divestitures. Adjusted EBITDA is anticipated to be $1.55 billion to $1.65 billion. Cash flow from operations is forecasted at $700 million to $800 million. In terms of taxes, the Tax Cuts and Jobs Act was signed in December and went into effect in 2018, resulting in a decrease in corporate tax rates from 35% to 21% as well as changes to interest deductibility and the expensing of CapEx. At the end of 2017, we had a gross federal net operating loss carryforward of approximately $610 million. Due to our NOL, we do not expect to be a federal cash taxpayer in 2018. CapEx is expected to be at $475 million to $575 million. We expect HITECH incentives to be close to 0 compared to $28 million in 2017. Income from continuing operations per share diluted is anticipated to be a negative $1.50 to $1.10 based on weighted average diluted shares outstanding of $113 million to $114 million (sic) [113 million to 114 million].

Turn it back to Wayne.

Thanks, Tom. At this point, Denise, we're ready for you to open it up for questions. (Operator Instructions) But as always, we're available to talk to you. You can reach us at area code (615) 465-7000.

(Operator Instructions) Your first question comes from A.J. Rice with Credit Suisse.

I'm going to ask Tom about a couple nonoperating things he's saying here. Two parts, I guess, to this question there. In terms of what you're doing with the banks, you describe it as replacing the covenants and downsizes to the credit lines and I guess getting flexibility on the asset sale proceeds. Obviously, there's been a lot of focus on your 2019 and 2020 maturities. Is this a stepping stone to what you're trying to do there? Does it relate to that in any way? And then second on that, can you give us any sense of how much relief, at least relative maybe to your 2018 outlook, the change in covenants gives you? How much cushion do you -- are you running with at this point? And then we're all scratching our heads, I think, a little bit on these changes you did with what you did with contractual allowances and bad debt seems very similar to what one of your peers did, but still the numbers are so big. Trying to understand, does that call into question the quality of the operating income over the last few years? And does it not have some implications for going forward in the way you'd report bad debt and revenues and so forth?

All right. Thanks, A.J.

A.J., that was a unique way to get in 3 questions.

All right. So let me start on this. So first of all, we've been messaging that our nearest maturities are November of 2019, and that we intended to proactively manage those so those don't become current in November of '18. So this amendment, A.J., I think it's fair to say, that was a first step for us. It does give us additional cushion than we otherwise would have had under the covenants. We're currently -- under that calculation, we're about 4.04 on first lien. And so we like where that places it and, like I said, a good first step for us. The second part of your question, on the accounting adjustment, so that is going from really GAAP that we were following with respect to our receivables, which was preparing your best estimate of where you're going to be coming in on the value of receivables, to a new standard that basically indicates that you do not recognize revenue unless you're pretty assured the amount you're recognizing will not reverse. So it's a -- very much a different -- it's not necessarily a net realizable value. It's a you do not recognize the revenue. So when you compare the size of the adjustments, it's going to depend on how filers would have historically set their reserves. We've had higher days. We've kept our self-pay on our books internally. We've pursued those and gone after those for collection. So moving to this new method, it is a more conservative method. We had to anticipate with the new standard, we felt things that might impact the collectability and make sure that the amounts we set up were more conservative. So that included for -- if you take a look at third-party payments, anticipated denials using our history on the transactions to anticipate denials from third-party payers, any audits that may come out from third-party payers and also our self-pay. So we did run the model backwards, as I mentioned and -- to several prior years to see the impact of that. And if you think about going from a standard where you were maybe less conservative to one that's more conservative, really, when we look at ours, it did not have an impact. And if you think about it, it probably has an impact when the size of your balance sheet is growing through acquisitions and, potentially, receivables that come on board from a large acquisition. We've had a couple of very large ones. So we've been pretty steady. We're down to 127 hospitals from nearly 200. Our balance sheet has been shrinking. And so running this model backwards, we clearly did not see any material changes in our run rate. And we don't expect -- because of that, we don't expect any impact on our future EBITDA, cash flows or operations from the new standard.

Your next question comes from Chris Rigg from Deutsche Bank.

Just a follow-up on those last comments here. Just to make sure I'm getting the math correct. So on a prospective basis, the operating revenue that you would recognize would be less, but so would the bad debt so you kind of end up in the same spot, if I'm saying that correctly. And then with regard to the receivables reduction, is it your opinion that the collectability of the $591 million is unchanged because of the accounting change? Or do you think that $591 million is actually going to be less as those receivables run out over the long term?

Well, whatever we were going to recover on our receivables is unchanged by the accounting. That's merely how we report it financially. And I think I went through -- we had a method that, historically, we were booking exactly to what our historical experience had been. And with the new standard, we felt that, that was requiring a more conservative amount that you set those on your books. And so that was the adjustment. And I think the point we're making, when you reset your balance sheet for the -- this new standard in prior years and what we anticipate down the road, they're going to be adjusted consistently. And that's why there's not -- we didn't see it historically and we don't expect it going forward, any impact on the run rate.

Your next question comes from Brian Tanquilut from Jefferies.

This is Jason Plagman on for Brian. So on the expense side, you mentioned the opportunity to bring down the medical specialist fees. So what are the key components of that opportunity? Is it reducing coverage? Is it improving productivity somehow? Or is it reducing subsidies? What are the moving parts that'll help you better manage that expense in 2018?

So the first issue is that whatever we do, will not in any way adversely affect the quality in our delivery of care. So that's the first thing. And we have a number of initiatives, but I'll let Tim kind of talk about that.

Thanks, Wayne, and thanks, Jason, for the question. We've been very focused on a by-market review of the coverage, as you suggested, to make certain that we have the appropriate mix of providers and hours of coverage commensurate with the costs of the program and the volumes of those programs. So as we've said on previous calls, there is -- it does take some time to adjust those contracts due to normal out clauses 90, 120 days in some cases. So those are underway. The other thing, as I mentioned in my comments, that we're focused on is, in some cases, where we cannot get what we believe is a fair price from a contracted partner, I mean, the hospital, a service, ED group, whatever the case may be, we have started looking at in-sourcing those models. We actually have a couple of markets where we're bringing the program in-house with the support of the physicians in those markets, augmenting our physician practice services support here at corporate to make sure that we can do a good job on billing, collections and some management support of those services as well.

And your next question comes from Ralph Giacobbe from Citi.

Sorry to beat up the bad debt, but just wanted to make sure I'm squared away on this. So over what period of time, I guess, was it -- can you tell us what was there for 2017? Anything around sort of it being from recently acquired versus legacy? And then I wanted to understand the MCO denials. That was, I think, almost $200 million as a true-up. My understanding is that typically goes into a bucket that either gets cleared through sort of future rate negotiations or litigation, ultimately. So can you just help us understand sort of the process of that and how that changes sort of with the new accounting policy?

Yes. So Ralph, on the contractual adjustments, there is a component of that, that relates to reimbursements that we received or are expected to receive from mostly Medicare and Medicaid, cost report and related. It's about less -- it's a little less than 10% of the total, so then the rest would be for receivables. And so historically -- and this, again, this could vary by filer, but historically, we've looked at those. We've successfully depended ourselves with denials. And under the standard, we just have to anticipate what the future denial activity is going to be from payers and how we think we're going to outcome to a point where we don't think our estimate is going to be short. And so that is a new component where you proactively think about what the future denials are going to come in, as one example on that.

Your next question comes from John Raskin (sic) [Josh Raskin] with Nephron Research.

This is Mary in for Josh. Just in terms of 2018 guidance, are you assuming any margin improvement in the underlying core business? Or you're expecting margin improvement primarily as a result of divestitures in 2018? And then how should we think about the timing of margin improvement in the core business as you complete these divestitures?

Okay. So on the margin improvement, we think we're going to have to work to improve margin. We've got -- we think on utilization, as we've called out with respect to labor and supplies and so forth. On utilization, we can control that. Sometimes, we cannot control the rate as much. So we'll have some pressures on that. Also becoming a smaller company puts pressure on our base cost as a percentage of net revenue. We do believe that we're getting better with our service line focus and improving our acuity there, which improves our rates, which will offset that. And ultimately, with our initiatives that Tim talked about around growth, the transfer centers, the ACOs, our service line initiatives, that's what we're hoping on, in the long term, drives up volume and the increased volume we're able to capture, just like we did in the fourth quarter, a good portion of that to the bottom line.

Tim, do you want to add anything to that?

I was going to echo that we're focused on the net revenue conversion. As we grow these volumes, as the growth strategies take root in the markets with very defined strategic plans, keeping a close eye on what we're generating in incremental revenue, making sure that our costs are managed appropriately to drive additional portion of amount of that into margin.

Your next question comes from Ana Gupte with Leerink Partners.

The question is about can you give us some more color on the volume trends you saw in the fourth quarter and what the underlying drivers were around that? And given that the fourth quarter has seen severe flu and seasonality and all that, what gives you confidence on your, I think, the point of flat volume growth into 2018?

Sure, Ana, this is Tim. I'll take the first crack at it. As far as fourth quarter volumes, as I said, we were pleased that we saw some of the earlier work that we had done in the year in terms of service line development, recruiting the right doctors, the transfer centers. All of those things did show that we were driving our core book of business favorably. We saw those indicators move up rather consistently throughout the quarter in many of our markets. And as we've said, we have some divestitures or potential divestitures. We're still focused on maintaining and growing those markets but in a capital-prudent fashion. So with our capital investments throughout 2017, we have been keeping a close eye on the returns on capital. Are they generating the volumes in the fourth quarter that we expected? And overall, we were pleased with the prognosis there. As far as any flu impact, we certainly took a look at that. We saw ED visits accelerate in the latter part of December. However, we saw a relatively concurrent drop in some of our elective ED cases. We monitored that by same-day cancellation indicators that we have on a daily basis. So we think it was kind of offset, meaning there was little, I guess, overall adjusted admission or earnings from the flu in the fourth quarter.

Ana, I would just add, the -- when we look at our 2017 versus 2016 volumes, we had a Leap Day that happened to be a Monday, which is our best day of the week in 2016 that we lost in 2017. We also had the impact of hurricanes in 2017. And then just to call out the Pages 15 and 16 in our deck that shows the impact of divestitures, the 28 -- 2018 divestitures that we expect. If you pull those out, it improves all of our volume trends, which is consistent with what we saw with our divestitures in 2017. So those are a few opportunities for improvement there.

Your next question comes from Steve Tanal with Goldman Sachs.

I guess I just wanted to understand a little bit better on the CapEx number. So as a percent of revenue budgeted for '18, it implies some savings coming from somewhere, especially kind of giving the planned build-outs that you're talking to. So if you could just give us a little more color on that. And relatedly, I'd like to understand what you kind of view as the right level of maintenance CapEx for the core portfolio.

Sure. Good question. So we've been talking in 2017 about the impact that the divestitures had on that. Early in 2017, we had identified the 30 hospitals we'd be divesting. And we made a decision to make the maintenance capital to keep things running and patients safe, but we start -- we did not make strategic capital expenditures on those 30 divested hospitals. We let the buyers decide what to -- where they wanted to put that money. And so if you think about those, that would take your normal spend, but let's say, around -- on an average run rate of 4% down to about 1.5% or 1.9%, depending on the hospital. So that was one factor that had our CapEx as a percentage of revenue lower in 2017 versus 2018. The other factor was the fact that we did not have replacement hospital spend of any amount in 2017, and you compare that to it's probably been 50 to 60 basis points in prior years. So when we look at 2018, we're going to have the benefit again of a divestiture portfolio, $2 billion in revenue that is going to be coming out. We are going to have the benefit of -- we don't have replacement hospital spend in 2018. And really in both years, we also benefit from -- as we're investing, Tim mentioned, more in the outpatient setting. That's a little bit lower cost spending on outpatient than we would see with replacement hospitals. We do -- I will call out that we do have replacement hospital commitments. They will be starting very late in 2018 and 2019, 2020.

Your next question comes from Peter Costa with WF Securities.

Not to beat a dead horse, but I want to go back to the provision conversation and the write-off there. If that didn't impact 2017 performance, does it impact the revenue guide to 2018? Is that the way we should think about that? Because it's monies that you're not going to be collecting going forward or wouldn't have put into the provision going forward? Is that how we should think about it, and that's why the revenue guide is lower other than just the divestitures?

No, it does not impact our adjusted run rate. And maybe the way to look at that, Peter, is if -- had we adopted that in 2016, we would have knocked our carried receivables down in that year. And we would have them down again in this year, so you would not have the impact of that. That's where we're going to be in 2018. They've been adjusted on the balance sheet for the new standard. They're going to be -- at the end of '18, they're going to be consistently presented, just like we were consistently presenting our old method. And that's why I mentioned we did run it backwards to see of it impacted our run rate. And again, think about if you're going to a more conservative method where you get into impact on run rate or when you have significant growth or you have significant reductions in those amounts.

Okay. And then if you don't mind, just the restriction on not using your cash going forward for other things besides paying down debt, how restrictive is that relative to your operations?

It really flexes with our first lien leverage, so it goes anywhere from being highly restrictive if our leverage gets too high to it opens that up to give us up to 100% ability if we keep our first lien leverage down. Net-net, it is a credit enhancement for the lenders, but it does give us opportunity with performance that we could retain higher percentages.

Your next question comes from Kevin Fischbeck with Bank of America Merrill Lynch.

Wanted to better understand what you guys think the core EBITDA growth is at the company in this guidance in 2018. And what kind of same-store revenue growth you really need kind of long term to show EBITDA growth or consistent margin stability or improvement?

Yes. We have been, just high level, our net revenue for adjusted admissions has been around 2% for the last several years. If you go back earlier than that, you would have seen it in the 5% to 7%. So in the 2%, it's been a challenge to grow the margin. We called out recently with the fourth quarter, we've had a service line initiative going for a good portion of 2017. We've seen higher acuity across every one of our payer mixes in the fourth quarter, and a lot of those throughout 2017, which we think is a good indicator that we're concentrating our services in these focused service lines. And so we think that is -- that will give us lift. We've also seen, from the divestitures, that the divested hospitals is for the same reason that the strategic buyers want to buy them, that they have opportunities to plug them into their networks and increase their rates. But in some markets, like for example, our Tomball hospital in the Houston market, that was our only hospital in that market, we were not able to get the rates that the strategic hospitals in that market could get. So just by eliminating with the divestitures in 2017, we think our ability to get rates will improve. The remaining hospitals are better positioned. We think the same thing is going to play out with the 2018 divestitures. So we think our rate environment -- and as we called out earlier, some of the -- we've lost $100 million the last 2 years in just supplemental payments. We don't see any of that on the horizon. So we do think it's a better rate environment for us that should help us out -- chip away on the growing our revenues in excess of the expenses and growing our core EBITDA.

And our last question comes from Whit Mayo with Robert Baird.

Just two quick questions. Tom, what will the other investment spend be this year? And then on the supplemental funding, can you just remind us on Florida, Texas, Medicaid, LIP, et cetera, what the headwinds and tailwinds are this year? I think you sort of characterized it as being more stable. Are there any numbers that you can put around that? That would be helpful.

Okay. Whit, what was the first part of the question again?

On the cash flow statement, the increase in other investment spend.

Okay. So let me get on the supplemental payment side. I mean, most of the decrease there, I believe, in probably 2016, we had, I think, about $80 million just in Florida and Texas alone. We've looked at that. It was not as significant last year, but it was a headwind. And in 2018, what we're looking at so far, it's pretty stable. I mean, the LIP monies in Florida are so low, they can't go much lower. There's not much they can take there. And when we see what we've got in Texas, that looks pretty stable. We do think there's some opportunities, there are some things going on in certain states for Medicaid expansion, which we think could be helpful to us. And also, Texas-like programs in other states that we know are being considered, that could give us lift on that front. So it's, I'd say, a very stable environment relative to what we've seen with the new administration and all the other things going on. On the cash flow statement, the other investments, if you're asking what those are, a lot of those are primarily on the deferred IT spend, so capitalized IT projects. And there's a little bit in there for physician recruiting, where we recruit independent physicians and we place them with an income guarantee. The biggest portion is capitalized IT cost. And that has been trending down in recent years, and we'd see that trend continuing.

There are no further questions queued up at this time. I'll turn the call back over to Mr. Smith for closing remarks.

Thank you again for spending time with us this morning. We're focused on the strategies we have outlined today, and we are looking forward to a strong 2018. More specifically thank our management team and staff hospital chief executive officers, hospital chief financial officers and chief nursing officers and division operators for their continued focus on operating performance and quality. This concludes our call today. We look forward to updating you on our progress throughout the year. Once again, if you have any questions, you can always reach us at area code (615) 465-7000.

This does conclude today's conference call. You may now disconnect.