HealthStream, Inc. — Q3 2015 Form 10-Q
Business context and period. HealthStream provides workforce development, patient experience, and provider solutions to healthcare organizations. This unaudited quarterly report covers the three and nine months ended September 30, 2015, compared with the corresponding 2014 periods.
Financial performance
| Metric | Q3 2015 | Q3 2014 | Nine months 2015 | Nine months 2014 |
|---|---|---|---|---|
| Revenue | $53.8 million | $44.5 million | $153.1 million | $125.4 million |
| Operating income | $4.3 million | $4.7 million | $11.7 million | $12.1 million |
| Net income | $2.6 million | $3.4 million | $6.8 million | $7.7 million |
| Diluted EPS | $0.08 | $0.12 | $0.23 | $0.28 |
| Adjusted EBITDA (non-GAAP) | $9.3 million | $7.9 million | $26.5 million | $21.3 million |
- Q3 revenue rose 21%; nine-month revenue rose 22%. GAAP operating margin was approximately 8.0% in Q3 (versus 10.6%) and 7.6% for the nine months (versus 9.7%). Net margin was approximately 4.9% in Q3 (versus 7.7%) and 4.4% year to date (versus 6.2%).
- Q3 revenue by segment: Workforce $41.1 million, up 17%; Patient Experience $8.8 million, up 7%; Provider $4.0 million, up 264%. Nine-month growth was 21%, 8%, and 174%, respectively. Provider growth chiefly reflects the HealthLine Systems acquisition.
- Q3 cost of revenues excluding depreciation and amortization was $23.1 million, or about 43% of revenue, approximately unchanged as a share of revenue year over year. Operating expenses increased, including depreciation and amortization, which rose 65% to $4.6 million.
- Nine-month cash from operations was $25.5 million, down from $28.7 million. Cash used in investing was $140.8 million, including $88.1 million for acquisitions; financing provided $100.7 million, primarily from the May public stock offering.
- At September 30, cash and cash equivalents were $67.4 million and marketable securities were $77.4 million, totaling $144.8 million. Working capital was $116.2 million. No revolving-credit borrowings were outstanding; the $50 million facility was available, and the company reported covenant compliance. The filing reports no debt balance at period end.
Material changes and notable items
- On March 16, 2015, HealthStream acquired HealthLine Systems (HLS) for approximately $88.1 million. HLS contributed $5.4 million of revenue and an operating loss of $1.9 million from acquisition through September 30.
- HLS purchase accounting included a preliminary $9.1 million reduction in acquired deferred revenue. This reduced recognized revenue by $2.1 million in Q3 and $5.3 million for the first nine months, weighing on GAAP operating income and net income. Management also presented non-GAAP results excluding deferred-revenue write-down effects; these measures are not substitutes for GAAP results.
- Revenue growth in Workforce was supported by increased subscribers and courseware consumption. Implemented subscribers rose 16% year over year to 4.45 million; total subscribers rose 10% to 4.53 million. ICD-10 training revenue declined to $6.3 million in Q3 from $7.4 million a year earlier as some subscriptions expired.
- Q3 net income and EPS declined despite revenue growth, reflecting higher expenses, the HLS deferred-revenue adjustment, and a higher effective tax rate. The 2014 comparison benefited from approximately $670,000 in research and development tax credits.
- In May, the company issued approximately 3.9 million shares and received $98.0 million in net proceeds. In June, the CEO contributed shares used to award stock to more than 600 employees; the company recorded approximately $1.5 million of stock-based compensation in Q2.
Outlook, risks, and contingencies
- Management expected approximately $6.0 million of ICD-10 readiness training revenue in Q4 2015. It believed cash, securities, operating cash generation, and available revolver capacity would fund anticipated needs for at least 12 months.
- The company expected remaining federal and state net operating loss carryforwards to be fully used during 2015, after which cash tax payments were expected to increase significantly.
- The HLS purchase-price allocation remained preliminary and subject to revision during the measurement period. It included a $1.5 million estimated contingent tax liability and a $500,000 indemnification asset.
- Management cited risks related to acquisitions and integration, potential dilution from stock issuance, dependence on operating cash flow and financing availability, and compliance with revolving-credit covenants. Market risk primarily concerns interest rates; a hypothetical 10% decline in rates was estimated to reduce annualized interest income by about $92,000.
- The filing reports effective disclosure controls and no material change in internal control over financial reporting during the quarter. The company was evaluating the future impact and adoption method for the new revenue-recognition standard, with adoption then scheduled for periods beginning after December 15, 2017.
Important facts for investors to verify
- How much of reported revenue growth reflects organic performance versus HLS and other acquisitions, and how the preliminary HLS purchase accounting may change.
- Whether subscriber growth and recurring Workforce revenue can sustain growth as ICD-10 training subscriptions expire.
- Whether operating profitability and cash generation improve as acquisition-related deferred-revenue effects and integration costs evolve.
- The magnitude and timing of increased cash taxes after the expected use of net operating loss carryforwards.
- Available revolver capacity, covenant headroom, acquisition funding needs, and the potential dilution from future equity issuance.