Cerner Corporation
Q2 2017 Earnings Call Transcript
Published:
- Operator:
- Welcome to Cerner Corporation's Second Quarter 2017 Conference Call. Today's date is July 27, 2017. And this call is being recorded. The company has asked me to remind you that various remarks made here today constitute forward-looking statements, including without limitation those regarding projections of future revenues or earnings, operating margins, operating and capital expenses, solution development, new markets or projects for the company's solutions and services and plans for CEO succession. Actual results may differ materially from those indicated by forward-looking statements. Additional information concerning factors that could cause actual results to differ materially from those in the forward-looking statements may be found under Item 1A in Cerner's Form 10-K together with the company's other filings. A reconciliation of non-GAAP financial measures discussed in this earnings call can be found in the company's earnings release which was furnished to the SEC today and posted on the Investors section of cerner.com. Cerner assumes no obligation to update any forward-looking statements or information except as required by law. At this time, I'd like to turn the call over to Marc Naughton, Chief Financial Officer of Cerner Corporation.
- Marc Naughton:
- Thank you, Jonathan. Good afternoon, everyone, and welcome to the call. I'd like to start with the very sad news we all got on July 9 when we learned of Neal's passing. It's been tough for us these past few weeks. And we appreciate the many people have reached out to offer condolences and share their thoughts and stories about Neal. Neal firmly believed he had a lot more work to do and he didn't stop working until the very end. He believed healthcare was broken and it was our job to fix it. He was not done, but he built a company with 25,000 people who were inspired by his vision and passion for changing healthcare. We believe the best way to honor his legacy is to keep up the very hard and important work toward achieving the vision he established. We believe Cerner is well positioned to do this and given the talent of our associates and the depth and breadth of our management team which Neal often called the best leadership team in healthcare IT. With Neal at the helm, we were always recognized as a company with a visionary. But Neal engrained a vision in our culture and now is our chance to prove that we are also a visionary company. As we announced, Cliff Illig has been named Chairman of the Board and Interim CEO. And the board is nearing completion of its ongoing succession planning process to identify our next CEO. We'll let you know as soon as that process is complete. With that, I'll transition to a review of our numbers. Zane Burke, our President, will follow me with results highlights and marketplace observations. And then Mike Nill, our Chief Operating Officer, will provide operational highlights. Regarding our results, Q2 was another good quarter that demonstrated execution against our established targets. Staring with bookings. Our bookings in Q2 was $1.636 billion, which is an all-time high and reflects a 16% increase over Q2 of 2016. Our revenue backlog ended the quarter at $16.65 billion, which is up 11% from $15.013 billion a year ago. Revenue in the quarter was $1.292 billion, which is up 6% over Q2 of 2016. The revenue composition for Q2 was $348 million in system sales, $260 million in support and maintenance, $658 million in services and $26 million in reimbursed travel. System sales revenue for the quarter was up 4% compared to Q2 of 2016 with growth in licensed software and subscriptions being partially offset by a decline in technology resale. Our system sales margin percent of 66.3% was up 50 basis points over the year-ago period reflecting the growth in software and down from 68.6% in Q1 of 2017 through the mix of technology resale that included lower levels of third-party software. Moving to services. Total services revenue, including professional and managed services, was up 9% compared to Q2 of 2016. Support and maintenance revenue increased 1% for the quarter, was slightly below our full-year expected growth rate. But we still expect growth of 3% to 4% for the rest of the year. Looking at revenue by geographic segment. Domestic revenue increased 8% over the year-ago quarter to $1.16 billion and non-U.S. revenue of $136 million declined 5% against the Q2 2016 comparable that included a higher-than-normal amount of hardware and software revenue. Another factor in the non-U.S. year-over-year decline was that currency fluctuations impacted non-U.S. revenue growth by about 3% in the quarter. Moving to gross margin. Our gross margin for Q2 was 82.7% which is down 40 basis points compared to a year ago and down 150 basis points compared to Q1 of 2017 primarily due to the lower mix of sublicensed software and our technology resale business that I mentioned. Now I'll discuss spending, operating margin and net earnings. For these items, I provide both GAAP and adjusted or non-GAAP results. The adjusted results exclude share-based compensation expense, share-based compensation permanent tax items, Health Services acquisition related amortization, acquisition-related deferred revenue adjustments and other acquisition-related adjustments, which are detailed and reconciled to GAAP in our earnings release. Looking at operating spending, our second quarter GAAP operating expenses of $820 million were up 7% compared to $769 million in the year-ago period. Adjusted operating expenses were $771 million, which is up 7% compared to Q2 of 2016. This growth was primarily driven by an increase in personnel expense related to revenue-generating associates and non-cash items. Looking at the line items, sales and client service expense increased 8%. Software development increased 6% driven by non-cash items as we had $8 million less capitalized software and $7 million more amortization in Q2 of 2016. G&A expense was up 1%. Amortization of acquisition-related intangibles decreased by $1 million. Moving to operating margins. Our Q2 GAAP operating margin was 19.3% compared to 19.8% in the year-ago period. Our adjusted operating margin was 23% in Q2, which is down 80 basis points from the year-ago period due to the previously discussed technology resale mix and non-cash expense. Moving to net earnings and EPS. Our GAAP net earnings in Q2 were $180 million or $0.53 per diluted share. Adjusted net earnings were $206 million and adjusted diluted EPS was $0.61, up 5% from $0.58 in Q2 of 2016. Our GAAP tax rate for the quarter was 29%. When excluding the share-based compensation permanent tax items, the Q2 tax rate was 32% which is basically flat compared to a year ago and consistent with our expectations. Now I'll move to our balance sheet. We ended Q2 with $748 million of total cash and investments, which is up from $609 million in Q1. Moving to debt. Our total debt, including capital lease obligations, was $543 million which is down slightly compared to Q1. Total receivables ended the quarter at $1.037 billion which is up from $986 million in Q1. Our Q2 DSO was 73 days which is up from 71 days in Q1 and down from 74 days in the year-ago period. Operating cash flow for the quarter was $292 million. Q2 capital expenditures were $101 million and capitalized software was $72 million. Free cash flow, defined as operating cash flow less capital purchases and capitalized software development costs, was $119 million for the quarter. As we noted the last quarter, our operating cash flow reflects classification changes required by new accounting standards. For Q2 of 2017, this impact resulted in approximately $12 million more operating cash flow than under the prior accounting guidance. We have also recast 2016 cash flows to reflect this change, which resulted in Q2 2016 operating cash flows increasing by $5.5 million over what was previously recorded. Regarding free cash flow for the year, we still expect to increase our free cash flow by at least $150 million under the prior classification method. It is also likely we'll drive a similar increase under the new method unless the tax impact of share-based compensation is materially lower in 2017. Either way, we expect strong free cash flow this year. Now I'll go through guidance. We expect revenue in Q3 to be between $1.265 billion and $1.325 billion with the midpoint reflecting growth of 9% over Q3 of 2016. For the full year, we expect revenue between $5.15 billion and $5.25 billion. This range represents a tightening of our previous range and still reflects an 8% full-year growth at the midpoint. We expect Q3 adjusted diluted EPS to be $0.61 to $0.63 per share with the midpoint reflecting 5% growth over Q3 of 2016. For the full year, we expect adjusted diluted EPS to be $2.46 to $2.54 which also represents a tightening of our previous range and still reflects 9% growth over 2016 at the midpoint. Moving to bookings. We expect bookings in Q3 of $1.45 billion to $1.60 billion with the midpoint reflecting 6% growth compared to Q3 of 2016. In summary, we are pleased with our good Q2 and look forward to a strong second half of the year. And with that, I'll turn the call over to Zane.
- Zane M. Burke:
- Thanks, Marc. Good afternoon, everyone. Today, I'll provide color on our results and make some marketplace observations. I'll start with bookings. As Marc mentioned earlier, we had an all-time high level of bookings of $1.64 billion that reflects 16% growth over Q2 of 2016. The strength in booking this quarter was well balanced with good contributions from new and existing clients, short- and long-term contracts and strong growth across all business models except technology resale. Looking at long-term bookings, 35% of bookings came from long-term contracts, which is up compared to Q2 of 2016 due to good contributions from ITWorks and a strong managed services quarter. A key highlight of our quarter was that we continued our momentum in winning new footprints as reflected in 32% of bookings coming from outside our core Millennium install base. One of the many noteworthy new relationships this quarter was established with LifePoint Health, a large investor-owned health system that owns and operates more than 70 hospitals and has a significant number of post-acute and outpatient facilities. The contract currently covers a small group of sites that can be expanded to future sites as necessary and includes clinical revenue cycle and ambulatory solutions as well as remote hosting. I remain pleased with our competitiveness and the amount of activity in EHR placement market. Our new footprints this quarter again demonstrate the trend of hospitals, large and small, looking to get off legacy systems to be on a more modern platform to keep up with regulatory requirements, drive operational efficiencies and prepare for ongoing shifts in reimbursement models. We believe we're doing very well against our primary competitor in this environment. Given our ability to provide a predictable total cost of ownership on contemporary architecture and demonstrate value and return on investment. Additionally, our demonstrated commitment to an open and interoperable platform with the ability to use data more broadly is increasingly important to clients and prospects like. Beyond our success outside our installed base, our existing clients remained active in rounding out their solution and service portfolios at their existing Cerner sites while also moving more of their sites to Cerner as they look to drive efficiencies through standardization on Millennium. This activity contributes to growth across acute and ambulatory EHR and includes sales of Population Health and Revenue Cycle solutions and services. We also saw more ITWorks activity this quarter and continue to view it as a major opportunity in our installed base. In Population Health, while uncertainty remains regarding exactly when the broader shift from fee-for-service to value-based care will occur, there continues to be a high interest in our Population Health solutions. Currently, much of the focus is on analytic capabilities and tools that will support and optimize fee-for-service models while also preparing our clients for the shift to value-based models. In our smaller venues, we had a strong quarter with our Ambulatory and CommunityWorks offerings. In Ambulatory, we had success at extending our solutions to the ambulatory facilities of our large health system clients, which led to the displacement of several different ambulatory competitors. We also had a noteworthy Ambulatory win at the Massachusetts Institute of Technology Medical, which contracted with us for ambulatory EHR, practice management and Population Health solutions. MIT Medical serves more than 20,000 students, faculty, staff and retirees as well as members and their families. Our solutions will support MIT Medical clinical processes and facilitate proactive patient health management across its two locations, in Cambridge and Lexington, Massachusetts. In CommunityWorks, we had an all-time high level of bookings, which was driven by strong levels of new clients as well as our first ITWorks deal with a CommunityWorks client. Another example of our competitive success is in the state and local market where we were selected by the Wisconsin Department of Health Services. Cerner will implement Millennium at all seven of the WDHS facilities, which include two psychiatric hospitals, two secure treatment facilities and three centers for the developmentally disabled. Moving to our business outside the U.S. where we had mixed results. Despite the revenue decline, which was driven mostly by foreign currency translation and technology resell, we had several regions with good bookings and a good operational quarter with a client in Brazil achieving HIMSS Stage 6. Areas of bookings strength included Canada, Australia, Belgium and the UK. Looking ahead, we have a strong bookings outlook for our global business, which we expect to lead to better non-U.S. revenue growth, particularly as we move into next year. Next, I'd like to provide an update on our project with the Department of Defense. Last week, we went live at Naval Hospital Oak Harbor in Washington State. This is a second site to come online as part of the Department of Defense's Initial Operating Capability program, and the go-live marks a significant milestone as the in-patient components of MHS GENESIS are now officially deployed. Capabilities deployed include a single integrated record across ambulatory, acute and all other venues in the Oak Harbor medical enterprise; medical device interoperability; advanced clinical decision support; specialty provider workflows and embedded clinical calculators; and barcode medication administration. We also deployed a maternity-specific module designed to create a new infant record upon barcode scan and treatment plans tailored to mother and child. At its core, MHS GENESIS is the same commercially available off-the-shelf electronic medical record that is deployed at thousands of facilities worldwide. This project is creating an integrated and longitudinal patient record and coordination across the continuum of care regardless the environment, scope or size of military and dental treatment facilities. The ability to integrate and share interoperable patient information with the U.S. Department of Veterans Affairs and civilian health systems is critical and is inherently built into the system. We are pleased with this milestone that reflects the ongoing good work at the Department of Defense, Cerner, Leidos and other partners. We expect additional go-lives as we move through the year. Now I'll briefly discuss our opportunity with the Department of Veterans Affairs. In June, Secretary of Veteran Affairs, Dr. David Shulkin, announced Cerner's selection to lead the next-generation electronic health record system for the Department of Veterans Affairs. We feel a great sense of pride and responsibility to now have the opportunity to support our veterans and extend the reach of the platform being established through our work of Department of Defense. Ensuring a seamless care for our veterans is one of the nation's top priorities and we are honored and humbled to have the opportunity to play a key role in improving the care experience of our former servicemen and women. We're working closely with the Department of Veterans Affairs on scoping the full work effort, designing the project plan and negotiating a contract. We're also in the process of building our team and selecting partners. Please keep in mind there is little more we can say at this point. We look forward to sharing more information once there is a contract, which we believe will happen by the end of the year. With that, I'll turn the call over to Mike.
- Michael R. Nill:
- Thanks, Zane. Good afternoon, everyone. I'll start with ITWorks. As Zane mentioned, ITWorks was a larger contributor to our bookings in Q2 than it had been in recent quarters. We had a large existing ITWorks client expand the relationship to include additional services. This large expansion of services is a good example of the opportunity we still have within our base of ITWorks clients. We also added a client to our ITWorks model in this quarter. The client, Western Missouri Medical Center, has been a CommunityWorks client for several years and has deployed Millennium solutions to their 84-bed general medical and surgical hospital and their ambulatory clinics throughout the community. The addition of ITWorks will provide more resources through Cerner Centralized Services and help them increase system speed, enhance usability and stability, and improve issue resolution through an enhanced help desk. Looking ahead, our pipeline for ITWorks remains strong and we expect good contributions in the second half of the year. Now I'd like to highlight a recent client accomplishment. Our first client in Brazil, Albert Einstein, recently achieved Stage 6 on HIMSS EMR Adoption Model. This accomplishment came just six months after their go-live. This was a large and complex project that required high levels of adoption and engagement from approximately 8,000 staff members and physicians. Stage 6 is considered a major accomplishment as it signals that hospitals have achieved a significant advancement in their IT capabilities. The hospital is currently making strides to reach HIMSS Stage 7, which is considered a paperless hospital. Finally, I'd like to mention our recent Developers Conference, which we call DevCon, as I think it is an important part of our development culture and our success. DevCon is an associate-driven conference, designed to increase collaboration and continued learning for all Cerner associates who contribute to the development process. With 3,600 associates attending, its size is second only to the Cerner Health Conference. Attendees learn new concepts, brainstorm ideas and network with fellow associates in a fun and interactive environment. I believe the value of the interaction and collaboration that comes out of an event like this is immeasurable. It is clearly an important part of our culture, which I believe is a differentiating factor for Cerner when it comes to recruiting development talent and delivering high quality solutions. With that, I'll turn the call over to questions.
- Operator:
- Certainly. Our first question comes from the line of Matthew Gillmor from Robert Baird. Your question, please.
- Matthew D. Gillmor:
- Hey, thanks for taking the question, and let me offer my condolences on Neal's passing. So, on bookings, wanted to ask about the performance relative to guidance. I believe the second quarter bookings guidance didn't include any meaningful contributions from ITWorks. So, can you give us a sense for how much that large expansion added and did that represent most of the difference versus the initial guidance or did the underlying bookings also outperformed?
- Zane M. Burke:
- This is Zane, Matthew. Thanks for the question. You're correct that the initial bookings guidance, we were not anticipating significant contributions from ITWorks in the second quarter, although there are typical expansion opportunities in our base, which would have been part of our core guidance. We did have the small ITWorks offering. So, it's a smaller addition. So the bookings itself actually represented significant over-attainment overall. So it's a combination of the two. We did have this one that came forward a little bit as well as we saw bookings performance in excess of what we anticipated.
- Matthew D. Gillmor:
- Got it. And then maybe one follow-up on the LifePoint news. Can you just give us a little bit of background on that relationship and how many hospitals you're going to cover with some of the initial rollout?
- Zane M. Burke:
- Sure. It's an opportunity we've been working for a number of years. It's a great organization. I think it's one of the really fine examples of operating organization in the for-profit segment. Our initial phasing is a small group of hospitals and with good success should yield more opportunity.
- Matthew D. Gillmor:
- Got it. Thank you.
- Operator:
- Thank you. Our next question comes from the line of David Larsen from Leerink. Your question, please.
- David M. Larsen:
- Congratulations on a good quarter. Can you talk a bit about your Patient Accounting solution and what you're doing in the Revenue Cycle area? And I find it intriguing that – I think you said LifePoint is signing on with Revenue Cycle solutions and Patient Accounting, is that correct? Maybe talk about that process, please. Thanks very much.
- Zane M. Burke:
- Sure. This is Zane. Again, we've had very good success on the Revenue Cycle solutions and made a significant amount of progress there. LifePoint is signed up for full financials as well as the clinical and ambulatory. They are the third investor-owned organization to align along those lines. Previously, we've announced that both IASIS and UHS also made those decisions and they have gone live with the Cerner solutions in that space. So we've seen a lot of significant advancement, acceleration in terms of our acceptance of what we're doing in the Revenue Cycle space and we continue to gain momentum.
- David M. Larsen:
- Great. And then I think, Mike, if you're on the line, any thoughts on Intermountain, and how – I think they're using your Revenue Cycle solution there, how are they progressing? Thanks.
- Michael R. Nill:
- We continue to advance the rollout at Intermountain. We recently completed the rollout within the Salt Lake area and the system is performing very well, the applications are delivering the value that was anticipated. So, Intermountain is serving as kind of a model experience that we're replicating across the rest of our client base, so we're very pleased with the progress thus far.
- David M. Larsen:
- Okay, great. Thanks and congrats on a good quarter.
- Operator:
- Thank you. Our next question comes from the line of Sean Dodge from Jefferies. Your question, please.
- Sean Dodge:
- Hi. Good afternoon. Thanks. So maybe going back to guidance, maybe more specifically on revenue guidance. When you first gave your full year target, it didn't sound like it assumed much in the way of bookings growth to get there. And if I look at bookings, if you hit the midpoint of your third quarter guide, bookings for the first nine months of the year would have grown 10%. So, can you help me square what looks like bookings growth running well ahead of your expectations and only a narrowing of the full year revenue target as opposed to tracking towards something maybe above that?
- Marc Naughton:
- Yeah, Sean. This is Marc. The key element to that bookings number is to keep track of the long-term component of that. So I think Q1 was 37%, this quarter is well over 30%. So, strong bookings, but the near-term impact of some of that revenue is not as significant as it would be from things that are not long term in nature. So I think that's the reconciling item, if you will, as to why these bookings beat doesn't drive it. Obviously, we assumed some growth, but we just didn't guide to the specific growth exactly. So we certainly look to increase the bookings. We're pleased with the bookings growth we've had. But the long-term nature does limit some of the impact that we see currently. The good news is I love those long-term bookings because they basically go into the backlog and they create higher visibility as we continue to see every year as we've gone forward.
- Sean Dodge:
- Okay, thanks. And then on ITWorks, the deals generate revenue pretty quickly after you sign them. You've got the one that you signed in the second quarter. It sounds like there is a couple of more you expect to land in the back half of the year. What does that mean for consolidated margins then as those revenues ramp as we're heading to 2018?
- Marc Naughton:
- Yeah. This is Marc. Relative to the ITWorks, they obviously – once they turn on, start driving their 8 to 10 years worth of revenue and it starts impacting the quarter, but there is not necessarily a bunch of one-time revenue that comes from those. There is usually some software that's involved with some of those initial ITWorks deal, so that nature has some one-time and there are some projects that often go along with implementing that software in the early stage of an ITWorks. So when you really look at it overall and balance the outsourcing element initially of the ITWorks deal against some of that software that comes in, in some of the projects, which is higher margin elements, there is a slight negative impact from some of the outsourcing revenues that are kind of lower double-digit type revenues from a margin perspective. But some of that is offset by the higher software margin and the higher project margin certainly in the early years of those. So it doesn't hit the margin significantly in those early years.
- Sean Dodge:
- All right. Thank you, again.
- Marc Naughton:
- Sure.
- Operator:
- Thank you. Our next question comes from the line of Ross Muken from Evercore ISI. Your question, please.
- Elizabeth Anderson:
- Hi. This is Elizabeth Anderson in for Ross. My condolences about Neal's passing. Thank you for taking the question. I was wondering about, if you had any further color on sort of the changes in the tech resale versus subscription versus licensing fees in the quarter or just sort of generally trends like you're seeing in that market this year?
- Marc Naughton:
- Well, this is Marc. From the tech resale line item, we kind of talked a little bit about it. Relative to revenue growth, the tech resale kind of hurt us on a quarter-over-quarter comparison. That actually doesn't necessarily reflect it. Our tech resale was actually up pretty significantly over Q1. It was up against a very tough Q2 quarter, but the level that we delivered, even though was less than last year, was still a good amount of tech resale for us. So I think we're still seeing there is a level of appetite for that. We actually had a stronger hardware quarter in tech resale this quarter than we've had in a while. So that was good from a revenue standpoint. We didn't see as much sub license software just from a mix standpoint this quarter, which meant that from a margin standpoint, you saw a probably little lower margins when you come in and look at the system sales volume. But overall tech resale, we kind of said last quarter that it felt like we're kind of back on path where we could develop a plan for tech resale and deliver against that plan. And I think we're doing that in the first half of the year. Q2, we just had a tough comp to go again. So I think from tech resale, things are actually going pretty well relative to subscription. And from license, we had a strong license quarter, continue to do well there. We continue to see strong uptake on the SaaS type of license with that still being over 30% of our revenues we get from a license perspective. So both of those were strong elements in the quarter as well continuing the trend we've seen.
- Elizabeth Anderson:
- Perfect. Thank you very much.
- Operator:
- Thank you. Our next question comes from the line of Richard Close from Canaccord Genuity. Your question, please.
- Richard Collamer Close:
- Great. Thanks for taking the question. Congratulations here on the quarter. Marc, I was wondering if you could just give us your thoughts on margins overall and how we should think of them longer term. I think you talked about possibly returning to margin expansion. And then maybe more near term as we think about the annual guidance and the third quarter guidance, what gets you up into your higher end on the annual? It would seem to imply a pretty big ramp in the fourth quarter.
- Marc Naughton:
- Yeah. I mean, relative to the fourth quarter, we usually – Q4 has traditionally been a time when you see a ramp-up, particularly in some of the one-time fee things, it tends to have higher margins. So, that's kind of logical for us that you're going to see the ramp up in earnings hitting in Q4. I think overall margins, as we've indicated from a non-cash impact of amortization, you've seen us that 2017 and 2018 are going to be challenges with those non-cash increases and amortization and depreciation being a headwind that we're going to fight against and basically probably will limit that margin expansion for those two periods. We also saw this quarter where we had a little bit lower capitalized software number net that obviously hit us about a penny of earnings per share relative to year-over-year. But I think as we get out of this 2017, 2018 timeframe with the non-cash headwind, we've always said that this is a business that should drive 50 basis points to 100 basis points of operating margin at the size we are today and the ability to drive leverage in most of our business models, particularly as you get into 2019 and 2020 and you start seeing an uptick in some of the HealtheIntent and some of the other SaaS and cloud-based models that are higher margin. I think that remains inherent in the business and I think that's kind of what we would look to get back to our normal margin growth. I think we work very hard to try to keep an eye on our costs and try to grow costs relative to driving revenue, and we'll continue that process. But I think as we get to 2019 and 2020, I think getting back to seeing margin growth is absolutely on our radar.
- Richard Collamer Close:
- So, as a follow-up, just based on your pipeline, the way you guys look at it now, there's enough near-term or short-term bookings in there to definitely get to the higher end of the annual range – EPS range?
- Marc Naughton:
- We provide a range of guidance based on our best estimates. So I can't talk to where in that range we expect to meet. We certainly go through a lot of work in our forecasting process and certainly track a lot of deals and lot of opportunities to put those guidance ranges out there. So we don't comment on whether we're going to be – where we're going to land within that range. If I knew where we were going to land in that range, I would give you a precise number, but that's why it's a range. There's obviously lots of work and lots of things to go accomplish as we go through the business. But once again, as we get more toward the second half of this year, particularly on the bookings side, and we've talked about seeing some more Works businesses coming to the forefront, the bookings numbers feel pretty good, and we talked about growing bookings this year. I think we're certainly on track to be able to do that in a meaningful way. But I think our guidance range is consistent and I wouldn't want to pinpoint where we think we're going to land in that.
- Richard Collamer Close:
- Okay. Thank you.
- Marc Naughton:
- Sure.
- Operator:
- Thank you. Our next question comes from the line of Steve Halper from Cantor Fitzgerald. Your question, please.
- Steven Halper:
- Yeah, hi. One housekeeping question and then another question. Just the number of contracts over $5 million and $10 million, if that's available?
- Marc Naughton:
- Yeah, it's in the Trend File, Steve, I don't have it right in front of me.
- Steven Halper:
- Okay. You'll be sending that out, the Trend File?
- Marc Naughton:
- It's out right now.
- Steven Halper:
- Okay. Thank you. And then the real question, you talked around your HealtheIntent being used to optimize your fee-for-service and clients prepare to move into value-based reimbursement arrangements. Is that a recognition that the market itself and the clients themselves are not necessarily ready for what you have to offer or is it a function of the product capabilities and where you're at in the marketplace?
- Zane M. Burke:
- Steve, I think it actually is representative of how broad a scope of solutions that we have, which is when you get access to data in a very broad way, it opens your mind to how you can use that data to run your current fee-for-service world as well as prepare you for an at-risk world. So I think the beauty of what the Cerner team has done with the application set is really create a platform by which clients can embrace the technology today to get significant value out of going after fee-for-service world elements and knowing that those same toolsets they can use to actually to flip to the at-risk basis, because it's really that access to data, additional data outside the EMR itself, that really helps clients think about how to enhance their business in a different way. And I think what we've done is shine a light on some of those kind of opportunities in the fee-for-service world at the same time we're talking about the at-risk model. So it's really a breadth and depth conversion. And it also has us where we're feeling comfortable about continued growth in our Population Health solutions no matter what the timing of fee-for-service or the flip to the value-based care is.
- Steven Halper:
- Right. So we shouldn't look at that comment as, oh, this might not be as important as we previously expected, correct?
- Zane M. Burke:
- Actually, I'd look at it quite the opposite.
- Steven Halper:
- Okay.
- Zane M. Burke:
- I'd say this is much more important, especially given that you're seeing some parts of organizations that are having some softness on certain areas in their marketplace, that they'll need tools like what we offer in the population health space to actually go maximize their fee-for-service world.
- Steven Halper:
- Great. Thank you.
- Operator:
- Thank you. Our next question comes from the line of Michael Cherny from UBS. Your question please.
- Michael Cherny:
- Hi. Good afternoon, guys. And I also want to pass along my thoughts on the whole team relative to Neal's passing. Jumping into business and in terms of thinking more big picture, there's been a lot of noise across the market in terms of potentially non-traditional players entering into the space in some way, shape or form. As you think about the competitive moats that you've created, be it just the single installed base, the years of R&D and product development; how do you think about your ability to work with, work in conjunction with or fend off some of these new untraditional partners and maybe looking at when stuff like this has happened in the past, what have been the failures or what at least has allowed you to contain and maintain your share levels?
- Zane M. Burke:
- This is Zane. I'll take it. And, Mike, if you'd like to add any comments toward the end, that'd be great. But I look at it and say, first off, working with some of these non-traditional competitors, I think, as we're all talking about; we see those as great opportunities to work with others to really bring the value of some of the datasets. And I think it's really the value of being an open and interoperable platform. The core transactional EMR is a place where I think we have a significant moat built around us. The ability to get data out of our solutions is becoming increasingly important to clients overall. I don't currently anticipate that any of those non-traditional players are truly looking at the types of systems that we're operating in today. I fully actually anticipate that you'll see us embrace many, many organizations to use the full capabilities of the dataset and the EHR and our HealtheIntent solutions such that I think we embrace that part of the world. So I think that's sort of the non-traditional piece of today. What I will say is many people have tried to get into this marketplace over time. Many large companies over a course of years have tried to engage in this space. And it's very hard and very different. And it is a very challenging and complex business. And there are many companies that have operated, that have tried to engage. So from an IBM to a McDonnell Douglas, there is a number of them. You can McKesson on that same line as well. And it's just very, very challenging for those who are not totally focused on the thing – the only thing they can get up and think about is healthcare and IT. And we stand at that cross-section of that. I think competition's a great thing. I actually don't think that those that are rumored to be doing things in this space are thinking about how they're going to create the next EHR. They're thinking about how can they add value into the whole entire healthcare supply chain and how can they think about making the consumer experience a better one because all of us are about to have a better patient experience at the end of the day.
- Michael R. Nill:
- Yeah. I can make a couple of comments as well. We have an ongoing relationship with, I think, many of these companies that you're referring to. And as Zane mentioned, the fact that our strategy to be an open and interoperable platform has made it fairly simple for us to work with these companies to exploit the large datasets and combine that with their capabilities around artificial intelligence and processing these massive amounts of data to drive intelligence back into the workflow. So I think as we move forward, you'll see how we leverage those capabilities to bring some very new concepts to market.
- Michael Cherny:
- Great. Thanks.
- Operator:
- Thank you. Our next question comes from the line of Nicholas Jansen from Raymond James. Your question please.
- Nicholas M. Jansen:
- Hey, guys. Congrats on a strong bookings quarter. Just quickly on cash flow. Obviously, it's seen a nice improvement year-over-year. But we haven't seen any share repurchase activity in the first half of the year. So I'm just trying to get a sense of how we should be thinking about capital deployment priorities and whether or not M&A is of interest now that the Siemens deal has been fully integrated. Thanks.
- Marc Naughton:
- Yeah. This is Marc. Certainly, we're always looking at capital deployment. We went into the market very strong last year on a stock repurchase, spent a lot of cash in the market against our target of certainly buying enough shares to offset any option dilution, over-attained that target significantly. As we come into this year, an environment of somewhat rising interest rates; it's not a good time to sell out of any of our relatively short term but still existing investments and take a loss to go execute on these – on a share repurchase. Absolutely still on our plan to do share repurchase. Given that the additional $500 million was approved in May, I think that certainly gives us an opportunity to look at that as we get into the second half of the year and get some available cash. Relative to M&A, we're not acquisitive. That's not the kind of company we are. Siemens was certainly a mark – a we're being successful in the marketplace today. There's not really any of those opportunities out there that look attractive to us. That being said, we continue to look at opportunities that we could enter new markets, leverage our existing capabilities. And we'll continue to do that constantly, which we have done. The number of those that actually make it to a point where they would make any sense has been significantly limited. But we certainly want to make sure that in an environment that's very quickly changing, that we keep an eye out and look for things that – especially when it's not relative to Millennium, but it's related to our HealtheIntent platform, which is – both of those platforms are interoperable. But HealtheIntent certainly allows us to look at opportunities that could integrate very quickly to that platform. So we'll keep our mind open. But from a stock repurchase which is where we're really focused on our capital deployment recently, we'll certainly be looking at that in the second half.
- Nicholas M. Jansen:
- I'll keep it to one. Thanks for the color.
- Marc Naughton:
- Yeah.
- Operator:
- Thank you. Our next question comes from the line of Stephanie Davis from JPMorgan. Your question please.
- Stephanie J. Davis:
- Hey, guys. Thank you for taking my question and my condolences on the news. Given the strength in 2Q bookings, could you talk to the drivers of moderation for your 3Q bookings guidance especially at the low end? And could you also touch on if this year-to-date strength impacts your full-year view just given previously modest bookings expectations?
- Marc Naughton:
- Can you repeat the second part of that question?
- Stephanie J. Davis:
- I just wanted to ask if the year-to-date strength in bookings impacts your full-year view, just that you had previously modest expectations for the full-year outcome.
- Marc Naughton:
- Well, I think our outcome coming into the year was one of we expect to grow bookings. And so I think, obviously, in the first two quarters, we've done that relatively successfully. We don't provide bookings guidance beyond the quarter. So relative to anything we've talked about for the full year, we certainly are on track for that, for growth. As most of you know, our guidance for bookings is created out of our forecast meetings where we go through on a deal-by-deal basis and look at the opportunities that we see out there. And that is the basis for the number that comes out in Q3. It's not going to be more conservative or more aggressive. It is based on our best view of what the opportunities out there. Now, certainly, as we've talked about in the second half of the year, we see an opportunity with more ITWorks deals in our pipeline. And certainly, some of those have upside potential that we might not put into our forecast. So there could be an upside to some of the numbers that we've talked about. But once again our guidance is based on our normal practices. So it's not one way or the other relative to trying to achieve a goal. It is the best number we see. Zane, do you have a comment?
- Zane M. Burke:
- Yeah. I would just say we started out the year saying we would grow bookings. That's the extent of the guidance. But, obviously, we've had very strong year-to-date performance. And our Q3 guidance puts us in a great position to have good growth. And my outlook for the back half of the year is very strong. But it all aligns with what Marc said about how we have a discipline around forecasting. We feel very strong about the marketplace and our solution set and how we're being received in that marketplace. And the thoughts that we had about both our core EMR replacement marketplace as well as the works businesses overall are coming into play as we look at what's happened for the first half of the year and then particularly as we look at the second half of the year.
- Marc Naughton:
- Yeah, and this is Marc. I think really Q3 is actually a pretty strong guided quarter given the significant over-attainment that we had in Q2 that was broad strength across all of our businesses. So we're actually pretty pleased with the Q3 number we have out there.
- Stephanie J. Davis:
- Okay, all right. Thank you.
- Operator:
- Thank you. Our next question comes from the line of Jamie Stockton from Wells Fargo. Your question please.
- Jamie Stockton:
- Hi, yeah. Good evening. Let me just say I was very sorry to hear about Neil. I guess maybe Marc, on the support revenue, the dollars here aren't that significant. But I'm sure that there are some people wondering, so I figured I'll ask. Seems like it's coming in a little light. Is there anything going on there where maybe the subscription business is cannibalizing it a little bit or you guys are folding some of that into some of these works deals that you're doing, any color there?
- Marc Naughton:
- Yeah. The primary thing for support, Jamie, is usually deals with maintenance contracts that are included in there that relate to the hardware we sell. As more and more clients opt for hosting and that's part of the impact this quarter on the strong long-term bookings, those maintenance contracts go away. They get out of their hardware. We don't buy their hardware, but they don't maintain their hardware. And a lot of times, it's at a time when they would be looking at purchasing new hardware, they go to hosting. That takes away the maintenance. Certainly, this quarter was a little bit lower and the primary impact was that. I think for the year, we would expect to be 3% to 4%. It's kind of where we started the year and I think that's kind of what we would like. I think, certainly, as we've talked about with the Siemens acquisition, we've seen – there was a small set of clients, when we made that purchase, that had already made a decision to go outside of Cerner or Siemens. And as those complete their projects, then that support will turn off. So there's a little bit of impact on that in addition to the maintenance. We're still maintaining 75% of that base. So we're very pleased about how that acquisition has gone. But this is kind of the window where some of that – as those projects move forward with their other supplier, we'll have a small impact on that. But still for the year, 3% to 4% feels right.
- Jamie Stockton:
- Okay, that's great. And then maybe one other quick one. You guys have made a number of comments that it seems like the ITWorks businesses is picking up a little momentum here. If we think about the RevWorks services business, my perception is you've had some decent deal flow in kind of the ambulatory setting. But it's been quite a while on the inpatient side. I guess I kind of came away late last year thinking that maybe things would pick up in 2017. But it doesn't really feel like that's happened yet. Can you just give us some color on what's going on there and when you think things will actually start to come back?
- Zane M. Burke:
- Jamie, this is Zane. So I think your characterization is pretty accurate in terms of we've had very good success particularly in the ambulatory RevCycle space. There's a couple of things. First off, we want to do very well with our alpha client, Adventist HealthCare, and really make sure that we deliver and have this figured out before we go roll out aggressively into the marketplace. So we have been almost a self-limiting factor for ourselves in terms of some of the acute side of doing a full RCO outsourcing arrangement. We have begun accelerating that. We're feeling good about where we are in that project and the work that's been done and our ability to scale more broadly. And we are seeing things move through the pipeline that reflect larger opportunities. And whether those hit in 2017 or not, I can't say at this point. I'm looking at that more as a 2018 growth opportunity for us. But I'm feeling very good about how things are progressing through the pipeline. Similar to how we looked at the end of 2016 and said we see ITWorks returning back into the model for us and we thought as a second half of 2017 and that's exactly how it's playing out; that's how I would anticipate the RevWorks portion hitting.
- Jamie Stockton:
- Okay, that's great. Thank you.
- Zane M. Burke:
- Thank you.
- Marc Naughton:
- Jonathan, do we have some more questions?
- Operator:
- Can you hear me?
- Marc Naughton:
- I can hear you now.
- Operator:
- Great. Our next question comes from the line of Sean Wieland [Piper Jaffray]. Your line is open.
- Sean W. Wieland:
- Great, thanks. So it's been some tough sledding in the for-profit hospital market or at least some of them. And I just want to hear from you. Are you seeing any of this in the nonprofit community hospital setting? And given some of these headwinds that we're reading about, how has your dialogue changed with some of these hospitals that are maybe facing pressure on admissions or expense management, that kind of thing? How has your dialogue changed with these customers over the past, say, three to six months?
- Zane M. Burke:
- Great question, Sean. I have not been seeing as much in the not-for-profit space as I have seen in the investor-owned space. And I can't get a great explanation for that. So what I am seeing in both spaces is we continue to see, like the LifePoint example, that organizations are going to use technology to help themselves in terms of operating at a higher performance level and that particularly in the for-profit space, they've got to operate as true clinically integrated organizations versus financial portfolio companies. And I think that's part of why their investment continues in that space and our proven capabilities across a number of different investor-owned organizations, and really our ability to drive hard value to the bottom line. So even in spite of some of the headwinds that they've had in this particular last quarter, we are seeing good buying in that space. It is a little unique in that I'm not seeing some of those same kinds of conversations around the admissions on the not-for-profit side. And I'm not sure if that's just a lagging indicator. I'll be paying attention to that as we kind of move forward over the back half of the year. But to date, not really changing the dialogue with us.
- Sean W. Wieland:
- Okay, thanks. And, Marc, one quick follow-up just to clarify. You had given us a couple of data points on what the incremental contribution margin would be from a new ITWorks client. But I'm not sure I understood those. What is the incremental contribution margin for a new ITWorks client?
- Marc Naughton:
- Yeah, Sean. The point I was trying to make is that a new ITWorks client comes with the ITWorks outsourcing services, which are low double-digit margins but also usually comes with a software transaction, which is going to be software, it's going to be additional professional services to implement. So that first two year or so period of an ITWorks client, new ITWorks client, is going to have a mix of that margin which is some very high margin, some medium margin and some lower margin, which overall usually will balance out to being something that helps support our margins overall. Potentially in that period, it's slightly accretive but certainly isn't going to be something that's a big negative impact as opposed to if you just added some of the lower-margin services business. Right now, if you look at an ITWorks client, the contribution margin is probably overall about 40% contribution margin. And with all of the elements that go into that and a lot of the – certainly the software and the implementation services kind of help keep the overall margins high in the early years.
- Sean W. Wieland:
- That's super helpful. Thank you.
- Marc Naughton:
- Hey, I think we'll take one more question. Before we get to that question, I did want to make a point. I think when I was talking earlier about some of the impact of tech resale for the quarter relative to revenue growth, I want to make sure tech resale year-over-year was lower but relative. So it did have a negative impact on our revenue growth, but it was still actually over Q1 was up. And so it was strong performance over Q1. So I think that was the point I was trying to make. And Allan was trying to clean me up, so I just wanted to make sure I got that out before our last question. So if we can go for one more question.
- Operator:
- Certainly. Our final question comes from the line of Jeff Garro from William Blair. Your question please.
- Jeff R. Garro:
- Yeah. Good afternoon, guys, and thanks for taking the question and squeezing me in here. I think there is some sentiment that a couple of areas of positive bookings contributors like the EHR replacement market and the Siemens client conversations are due to taper at some point. And that's certainly mostly due to your success in capturing those opportunities. But wanted to hear your outlook on the near-term pipeline in those areas and for other large categories that could grow to fill in as needed as we look out past the next quarter. Thanks.
- Zane M. Burke:
- Thanks, Jeff. We remain very excited about the near-term EHR market. There's still 50% of the marketplace that is on a non-currently-marketed solution set from our competitors. And so I think it represents great opportunity and the pipeline remains very strong and robust. In addition to that, we're starting to see the ITWorks development growth that we had indicated at the end of the year and we thought would happen and is in fact coming together as we thought. I've already discussed the RevWorks and how we see that playing out for 2018. In addition to that part, there is strength in the state and local marketplace and what that represents for us. And you're seeing a significant amount of buying behavior in that segment. And we've done very well and performed very well in that segment, which is incredibly important as you try to go out and do procurements in that space. Finally, we have a couple of very large whales out there in the form of the DoD, the Department of Defense. So our ability to go execute on the four initial sites will free up basically the additional bookings over the course of time for that project. And so that represents significant growth for us around the DoD. And really that contract, it's already in place but just – it requires the performance. And that's why I always say our best indicator for future success is how we're performing. And we're very pleased with what we've done to date. We have to get through these next two sites and then that releases an additional flow over time. Finally, we have the Veterans Administration opportunity, where we are the prime contractor. So we anticipate that happening by end of year. And that will be a multiyear additional solution set for us. So while we do think that over time there is an inevitable slowdown in the EMR marketplace, we don't see that at this point in time as we look out. And we see significant large opportunities beyond that core EMR marketplace where we're uniquely positioned to succeed and win across a number of different areas. In addition to that, we like our position in the global presence. So what we've done from a global perspective, the results haven't necessarily matched up with where we feel like we can take this marketplace and really drive that into a different perspective. So there are a number of reasons and I didn't even talk about Population Health as part of that dialogue. So we're incredibly bullish on the future of the company and our opportunities moving forward. And really ours will be much more about what opportunities should we focus on and less about there won't be enough opportunities. So that's the job of our management team is to figure out our focus and where we're going to focus our attention such that we can grow at the largest and most appropriate rate while we deliver value for our clients.
- Marc Naughton:
- Great. Thank you, Zane. In closing, I want to thank everybody for joining the call. We're certainly pleased with the results and the outlook we provided today. I also want to thank you for the kind words and condolences on Neal's passing. We certainly appreciate your thoughts. And with that, have a good day.
- Operator:
- Thank you, ladies and gentlemen, for your participation in today's conference. This does conclude the program. You may now disconnect. Good day.
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