Healthstream Inc Q3 FY2023 Earnings Call

Good morning, and welcome to HealthStream's Third Quarter 2023 Earnings Conference Call. This call is being recorded. I will now turn the conference over to Mollie Condra, Vice President of Investor Relations and Communications. Please go ahead, Ms. Condra.

Thank you, and good morning, everybody. Thank you for joining us today to discuss our third quarter 2023 results. Also in the conference call with me today is Robert Frist, Jr., CEO and Chairman of HealthStream; and Scotty Roberts, CFO and Senior Vice President of Finance and Accounting. I would also like to remind you that this conference call may contain forward-looking statements regarding future events and the future performance of HealthStream that involve risks and uncertainties that could cause the actual results to differ materially from those projected in the forward-looking statements. Information concerning these risks and other factors that could cause the results to differ materially from those forward-looking statements are contained in the company's filings with the SEC, including Forms 10-K, 10-Q and our earnings release. Additionally, we may reference measures such as adjusted EBITDA, which is a non-GAAP financial measure. A table providing supplemental information on adjusted EBITDA and reconciling it to net income attributable to HealthStream is included in the earnings release that we issued yesterday and may refer to in this call. So with that start, I'll now turn the call over to CEO, Bobby Frist.

Thank you, Mollie. Good morning, everyone. We have a lot to cover for our third quarter 2023 earnings call. In the third quarter, we achieved record revenue and record adjusted EBITDA. Top line revenue reached $70.3 million in the quarter, which was up 5% over the same period of 2022, and adjusted EBITDA increased to $16.2 million, which is a 28% improvement over the same period of 2022. If I reflect back, it was a quarter of financial high watermarks, also excellent progress on our single platform strategy, and some exciting sales wins I'm going to talk about. But most of all, the quarter was characterized by the strong leveraged EBITDA growth we delivered and expect to continue delivering. Another way to think about performance is through the higher margins and greater operating efficiency we delivered. For example, through our investments in proprietary content and applications, our gross margins have improved to be in line with our medium-term financial goals of 65% to 68%. In addition, our single platform approach continues to streamline how we organize our workforce. For example, we delivered increasing revenue per employee for the past 4 consecutive quarters. Let's take a minute just to kind of refresh and really define HealthStream for our audience. I think we might have some new folks out there that want to hear how we describe and position our business. First and foremost, HealthStream is a healthcare technology company dedicated to developing, credentialing, and scheduling the healthcare workforce through SaaS-based applications and solutions, each of which are becoming more valuable because of the interoperability they are achieving through our hStream technology platform. We sell our solutions on a subscription basis under contracts, which average 3 to 5 years in length. That means our revenues are recurring and predictable. In fact, and we checked this yesterday, 96% of our revenues are subscription-based. We are profitable, we have no interest-bearing debt, and we have a strong cash balance of $71 million, and we are solely focused on healthcare and more specifically the healthcare workforce. In fact, the way we define our addressable market is as the 11.2 million healthcare professionals working in the United States in healthcare organizations. Though our market is also beginning to show signs of expansion into the pre-professional markets like nursing schools as well, and we're going to talk about that in the second half of this presentation this morning. As we enter the fourth quarter, we are confident that HealthStream will continue to provide results in line with our guidance range, importantly, including our increased guidance range for adjusted EBITDA of $59 million to $62 million. In addition to expanding into new markets like nursing schools, this quarter, we demonstrated some increasing share of wallet with existing customers. And I'm really excited to highlight 2 examples of that in the quarter. First, one of our large customers renewed their HealthStream Learning Center and their hStream subscriptions for learning for 16,000 users, but they didn't stop there. They also decided to leverage our marketplace of workforce solutions, and they added EBSCO clinical skills, our checklist product, Psych Hub, Skillsoft, HealthEquity and Belonging curriculum, and Talent Tracks, one of our development programs as part of their 5-year subscription. That 6 new products added at the time of renewal. And as a result, this account is moving from approximately $16.52 per person per year to $30.99 per person per year. And this was not an isolated example. Another one of our large accounts expanded their HealthStream Learning Center contract and their hStream subscriptions for learning from 15,000 to 19,000. But while they're expanding the subscriptions, they also renewed their SafetyQ product, their checklist, and their CE Unlimited orders. They also added new products to the contract, our Quality OB program and our Jane products while additionally expanding their subscriptions to our nurse residency program. So for all for a 3-year term, this account is moving from approximately $81.24 per person per year to $108.58 per person per year. And remember, the count went up from 15,000 to 19,000 all in the same renewal process. So we're excited to be demonstrating this expansion of wallet share at the customers that we already have. These 2 examples are customers that are deeply engaged in our ecology. Our partners and programs are promoted to them in our various applications that are increasingly interoperable and become more interesting to them. So these are 2 great examples. We have a strategic accounts program. The goal is to expand like this at our top 150 accounts. So we're really excited to see these 2 great renewals, extensions, and product additions, increasing share of wallet. So we're grateful for the significantly expanding commitments to these customers and others like them that they're making each time they come for renewal. And we want them to know that HealthStream is committed to ensuring they get even greater leverage out of their hStream membership. That underlying infrastructure is making it all work together. Each time the renewal rolls around, we try to make sure they appreciate the interoperability that every quarter we release new capabilities that show interoperability of our various application suites. It's also a strong quarter for our CredentialStream solutions, and this is important because we put a lot of capital into building out our CredentialStream solutions in the credential privilege area of our company. So it's great to see that we're finally beginning to see really strong growth. In the third quarter, we contracted 32 new customers for our CredentialStream solutions. That, importantly, represents about 114,000 new subscriptions collectively. And remember, when you subscribe to our CredentialStream application suite, you also become a member of our hStream for credentialing and hStream platform technology. So we're excited to add through part of the model 114,000 new subscriptions. New customers include highly respected health organizations like Northwell Health, AlohaCare, and Banner Health. Revenues from subscriptions to CredentialStream in the third quarter grew 56% over the same period last year. It's still in our top 10 for sure, but we're really excited to see this application suite that we've been consistently investing in for several years now show this exciting growth. Again, with 32 new customers and 56% year-over-year revenue growth. But not to be outdone, we have another area of our business that's performing. In the third quarter, revenues from ShiftWizard, which is our scheduling business, grew 33% over the prior year quarter as customers continue to report high customer satisfaction. So we are really excited to see this growth in this area, even though we have a lot of building to do with increased investment as well. We're really excited to deliver 33% year-over-year growth in the ShiftWizard subscriptions. We have selected ShiftWizard as our primary go-forward application set, and we're significantly expanding its ability to perform at an enterprise scale. We continue to invest to add scale and capacity and new features and capabilities to the ShiftWizard application suite. Exciting developments during the quarter. After I turn it over to Scotty, we're going to talk about market expansion opportunities.

All right. Thank you, Bobby, and good morning. I'll jump right in and hit the financial highlights for the third quarter. Unless otherwise noted, the comparisons will be against the same period last year. As Bobby mentioned, it was a record quarter in which we achieved new high watermarks for revenue and adjusted EBITDA. We achieved record revenues of $70.3 million, up 5%. Operating income was $4.9 million, up 104%. Net income was $3.9 million, up 5%. Earnings per share were $0.13 per share, up from $0.12 per share. Finally, adjusted EBITDA was a record high, coming in at $16.2 million and was up 28%. Now let's start with revenues, which surpassed the $70 million-mark for the first time and were up $3.1 million or approximately 5% compared to last year's third quarter. Revenues from subscription products accounted for 96% of total revenues, and our subscription revenue came in at $67.5 million or an increase of 5%, while revenues from professional services were $2.9 million and declined by 11%. As a software company, our focus is growing subscription revenue versus services revenue, and the quarter's performance reflects just that. Gross margin was 66.5%, up from 65.3% last year and positively benefited from changes in revenue mix, including growth from products that we own. Additionally, the cost of revenues only increased by $0.2 million or 1%, which was due in part to lower compensation expenses resulting from the organizational changes that we implemented earlier in the year. Though these were partially offset by our hosting and software costs. Operating expenses, excluding cost of revenues were up $0.4 million or 1% over last year's third quarter. Depreciation and amortization were up 8% and G&A was up 2%, while product development and sales and marketing were down 5% and 1%, respectively. Our product development costs declined by 5%, which is net of labor costs that were capitalized for software development. We maintain a consistent level of staffing and base compensation compared to last year. Our capitalized labor costs increased approximately $600,000 over the prior year quarter. Sales and marketing expenses were down 1% or less than $100,000. Staffing levels were down slightly, resulting in lower base compensation, but this was partially offset by higher sales commissions, which is consistent with the growth in revenues. G&A expenses increased by 2% or around $200,000, and were mostly a result of higher bad debt charges and professional service fees but were also partially offset by lower staffing costs and other general expenses. Our adjusted EBITDA was a record high of $16.2 million, which was up 28%, and our adjusted EBITDA margin improved to 23.1% compared to 18.9% last year. The growth in revenues, improved gross margins, and operational efficiencies from the consolidation efforts we made during the first quarter led to this improvement. Now let me mention our hStream subscription count before moving on to the balance sheet. In the third quarter, hStream subscriptions increased by 113,000 over the previous quarter, totaling approximately 5.7 million. Now let's take a look at the balance sheet metrics. We ended the quarter with cash and investment balances of $71.8 million, which was up from $56 million last quarter. During the quarter, we deployed $6.7 million for capital expenditures, paid $0.8 million to shareholders through our dividend program, and we repurchased $2.1 million of our common stock under the share repurchase program that we announced in September. Day sales outstanding increased to 43 days compared to a record low of 38 days last year. But DSO came down by 7 days when compared to last quarter. As a matter of context, I'm comfortable with our receivables metrics and the improvement we made during the quarter with cash collections. On a year-to-date basis, our cash flows from operations improved by $7.1 million or 16% versus last year, coming in at $50.2 million, and free cash flows also improved to $28.8 million compared to $24.1 million last year. As for the third quarter, free cash flows were $18 million, another record high for us, which helped boost the cash balance to over $71 million. Remember, our free cash flows are seasonal with the first and third quarters generally being the strongest and cash flows tending to be closer to breakeven in the second and fourth quarters. With regard to our capital allocation, aside from the capital investments that we make into our products, we're also deploying capital to improve shareholder value through cash dividends and share repurchases. Since the adoption of a dividend policy by our Board of Directors earlier this year, we have made 3 quarterly cash dividend payments so far this year, returning $2.3 million back to shareholders. And yesterday, our Board of Directors declared a fourth quarter dividend that will be paid in December. In respect to share repurchases, last month we announced a $10 million share repurchase program. We made $2.1 million of share repurchases during the third quarter and through yesterday, we had purchased a total of $8.9 million under the $10 million program. This program will terminate on the earlier of March 31, 2024, or when the maximum dollar amount under the program has been extended. We may suspend or discontinue making purchases under the program at any time. Also, earlier this month, we entered into an agreement with Truist Bank to renew our line of credit facility for another 3 years. The credit facility terms and conditions are basically the same as before, and you can find out more details about this transaction in the Form 8-K we filed on October 10. You'll notice that we capped the facility at $50 million, which we feel is an appropriate size for us given our strong balance sheet and growing free cash flows. Now as for guidance expectations, we have updated our financial expectations as follows. We continue to expect that consolidated revenues will range between $277.5 million and $283 million. We have updated adjusted EBITDA, which is now expected to range between $59 million and $62 million compared to the previous range of $57.5 million to $60.5 million. Capital expenditures are still expected to range between $27 million and $29 million. While our guidance includes the acquisition of eeds, which occurred late last year, it does not include assumptions for any acquisitions that we may complete during the remainder of the year.

Let me take a brief moment to provide some additional thoughts on the guidance before turning the call back over to Bobby. Our forecasted revenues for the year are trending to around the midpoint of the range, which would imply around a 5% growth rate over the last year. As for adjusted EBITDA, our focus on operating efficiency and higher gross margins is translating into financial leverage. At the midpoint of our increased guidance range, this would imply around 13% growth over last year. Furthermore, I want to share 2 other metrics that reinforce our performance. Our annualized revenue per employee has improved from $234,000 to $259,000, and annualized adjusted EBITDA per employee has improved from $44,000 to $60,000 compared to the third quarter of last year. That concludes my comments for this quarter's call. Thanks for your time this morning, and I'll now turn the call back over to Bobby for some additional updates. In the first half of the call, we focused on how we're selling more products to existing customers. Now I want to take this portion and focus on some market expansion that we're working on and very excited to see some traction in. By selling directly to nursing students and nursing schools, we're just beginning to sell our products to a whole new set of customers, and we saw some traction on that in the third quarter. Some of you may recall that we acquired a company called myClinicalExchange in December of 2020. You can think of myClinicalExchange, both the company and the product, as a bridge between students, these nursing students, and the hospitals that hire them and put them into rotations to gain experience and ultimately become a nurse. So myClinicalExchange is like a connection bridge between the student and those rotations, and it's also used to credential, profile, and onboard these nurses into these internships and rotations. Year-to-date, we generated just over $3 million of revenue from this product, again, kind of a new category for us, and that's a 27% increase over the same period last year. We placed over 161,000 clinical rotations, connecting students with hands-on experience in hospitals. The hospitals love this because, as they become nurses, they become candidates to work at that hospital. This product, myClinicalExchange, which grew 27% over the prior year, is doing 2 great things for us: helping us be an ally to our hospital customers by bringing them the best nursing students, and allowing us to build a business relationship with these nursing students before they enter the market as professionals. It's exciting for them to enter the market with stronger credentials as they'll automatically populate into the learning application. We are in the early days of this journey, and you can tell from myClinicalExchange traction, the 27% growth, that we’re getting to this new market and they're entering the market with their hStream ID. This is an exciting new way to think about how we define our market overall, and we’re excited for the graduates to have this credential included. To close this portion of the call, I want to highlight how we demonstrated our values. We were able to serve the healthcare professionals on the front line in Maui. HealthStream teamed up with one of our partners, Psych Hub. We organized a complete online offering of psychological first aid training and education, and we did this free of charge. We are honored to be a crucial resource to these healthcare professionals during a time of need. As we close this portion of the call, I want to remind you about our dividend policy, which we began earlier this year. We made the third payment under this policy about a month ago. Just yesterday, our Board approved what will be the fourth installment of quarterly payments under the plan, which will be paid on December 22. We’re on track to meet our goal of returning approximately $3 million to shareholders over the course of full year 2023.

Our first question comes from the line of Matt Hewitt with Craig-Hallum.

Thank you for all the detailed commentary so far. Maybe first off, what are you hearing from hospitals, just the broader market trends? Obviously, you had a couple of companies report this morning, talking about procedure volumes up, but still seeing some difficulties or headwinds on the income side of the equation. What are you hearing from customers? And how are you able to navigate that?

The challenge for them is a lot of their issues around workforce. We do think our solutions are a great aid in the development, retention, and better management of the workforce. Part of that cost structure they’re working hard to manage relates to workforce retention, engagement, and development. So I feel aligned with our customers and trying to help them through this period.

Understood. That's helpful. And then a question on the 11.2 million employees that your applications address. Does that include the nursing schools, the students, that you are now kind of opening up this new market?

I don't think it does. I'm about 98% sure it does not. We believe nursing schools are an expansion of our opportunities. We'll adjust that number over time as we onboard tens of thousands of new nursing students into our network.

That makes a ton of sense going after those potential future nurses. One last question for Scotty, but gross margins, obviously, another nice step up there. What would prevent you from growing beyond the 67%, 68% over the near term? Is there anything that stands in the way?

I think one of the things we're excited about is that almost all of our new products are being built using our platform technologies, which gives us more leverage and a faster rate of production of new products. So I believe over time, there could be continued upward pressure on gross margins as we define our target within that range.

One thing to keep in mind as we transition to a PaaS company, one of the influences on margins will be our investment in cloud, which can impact margins. But as our products migrate towards higher-margin solutions, we think that will overcome some of these costs.

Was hoping to get more color on the credentialing application suite. How are you thinking about the demand environment for the CredentialStream suite, and how's HealthStream positioned relative to the market?

The CredentialStream suite is highly competitive, and we believe it is one of the most complete application suites in the market, increasingly connected to our hStream technologies. We think we're positioning well, demonstrated by adding 32 customers across that suite during the quarter.

Okay, great. And just as a follow-up, can you provide an update on broader hiring needs? You mentioned having a handful of open positions expected to fill during the second half of the year.

We have about 50 open positions, and we are recruiting for approximately 20 of them. We’re shaping the business with new hiring models where we bring in teams together.

Can you share if the growth in CredentialStream and ShiftWizard is cannibalizing legacy products? I was curious about how that affects the overall revenue.

There’s definitely some of that. Some of that growth comes from migration, and we are moving customers from legacy applications. It’s in the range of about 50% migrating versus new business.

The small contribution from acquisitions to the growth rate was around 0.5% during this quarter.

What’s the growth rate for the renewals? Is there some anecdotal indicator as to where the overall metric may be headed?

We currently don’t have a wide metric for the renewals. However, we are focused on growing revenue per subscriber across our accounts.

Regarding product expenses, they declined sequentially as we were more strategic about how we deploy funds into the business. We continue to increase our capitalized software development.

MyClinicalExchange helps connect students to hospitals for rotations. Revenue generated comes from both hospitals and students, about 50% each. We are not integrating myClinicalExchange and NurseGrid yet, but we are planning to make them more interoperable within the next 60 days. To HealthStream's team that made this all happen, a great quarter. I'm looking forward to wrapping up a strong year-end. Thank you, everyone, for participating.

Thank you. Ladies and gentlemen, this does conclude today's conference. Thank you all for participating, and have a great day. You may all disconnect.