Nuance Communications, Inc.
Q2 2015 Earnings Call Transcript

Published: 7 May 2015

[Operator:]

Ladies and gentlemen, thank you for standing by, and welcome to Nuance's Second Quarter Fiscal 2015 Conference Call. [Operator Instructions] As a reminder, this conference is being recorded. With us today are the Chairman and Chief Executive Officer of Nuance, Mr. Paul Ricci; CFO, Mr. Tom Beaudoin; EVP of Corporate Strategy and Development, Mr. Bruce Bowden; SVP of Finance and Controller, Dan Tempesta; and Vice President of Investor Relations, Mr. Kevin Faulkner. At this time, I would like to turn the call over to Mr. Faulkner. Please go ahead, sir.

[Kevin Faulkner:]

Thank you. Before we begin, I'll remind everyone that matters we discuss this afternoon include predictions, estimates, expectations and other forward-looking statements. These statements are subject to risks and uncertainties that could cause actual results to differ materially. You should refer to our recent SEC filings for a detailed list of risk factors. All references to income statement metrics are non-GAAP unless otherwise stated. As noted in our press release, we also issued a set of prepared remarks in advance of this call, which are available on our website. Those remarks are intended to serve in place of extended formal comments, and we will not repeat them here. Now let me turn the call over to Paul Ricci.

[Paul A. Ricci:]

Good afternoon. Before taking your questions, I'd like to highlight some key points from today's earning announcement. We continued our strong start to FY '15 by again achieving revenue at the high end of our guidance range, EPS above our guidance range, 26% year-over-year growth in deferred revenues and strong cash flows that grew 38% year-over-year and represented 121% of non-GAAP net income. Last quarter, we committed to enhancing shareholder value through renewed stock repurchases. Through May 6, we repurchased 13.9 million shares for a total of $197 million, leaving $92 million in our original authorization. We expect to exhaust the remaining authorization in the third fiscal quarter. Today, we announced that our board has authorized a $500 million addition to the plan. We intend to commit a meaningful portion of our future cash flows to stock repurchases and debt reduction. As we stated previously, we are balancing investments in key growth areas with an increasing emphasis on operational efficiencies and cost controls. We've initiated a more formal program targeted to deliver $125 million in expense reductions by the end of FY '16. This initiative includes reduction to services and products from third parties, real estate site consolidation, streamlining management layers and global labor optimization, including workforce reductions. The program is already delivering measurable results. Operating expenses were down compared to Q1, we exceeded our EPS target and we delivered our third consecutive quarter of year-over-year improvement in both EPS and operating margins. Operating margins improved 200 basis points year-over-year. Also, within these initiatives, we're accelerating the realignment of our product portfolio and sales and marketing investments towards our highest growth opportunities. By narrowing our focus, we believe we can strengthen our most strategic product and service offerings and improve our bookings and revenue growth rates. One example of this focus is our investment in the computer-assisted physician documentation as a natural connection between the value we are currently providing in clinical documentation and clinical information management. Another example is expanding our connected services and value-added services offerings in the automotive market. Additionally, we are further shifting our investments to cloud offerings and recurring revenue solutions, which we expect to comprise a growing proportion of our revenues as we look to FY '16 and FY '17. Finally, our program will streamline our business operations and channel more of our resources to customer-facing activities, which we believe will further assist our growth over the next 2 years. Nuance has created a strong position in several large attractive markets through innovative solutions. Our objective with these initiatives we have announced today is to improve revenue growth by concentrating our investments in those opportunities, to increase profitability by streamlining operations and through additional prioritization of our product portfolio and to further increase shareholder value through a sustained commitment to our share repurchase program. And we're now happy to take your questions.

[Operator:]

[Operator Instructions] First question comes from the line of Jennifer Lowe of Morgan Stanley.

[Sanjit Kumar Singh:]

This is Sanjit Singh for Jen Lowe. Relating to the guidance, if you could -- or of the net new bookings side, this guidance has come down for a couple of quarters in a row now. It didn't seem like FX was much of an incremental impact to the net new bookings guidance. So if you can just walk us through some of the components in terms of the lower guidance on the net new bookings side?

[Paul A. Ricci:]

Okay. Well, our bookings includes a number of large deals that -- across several of our businesses, Healthcare, Mobile in particular. These are important to our overall performance this year. And while we have reasonable confidence in their being completed this year, it's difficult to know for sure when they will happen. So some of our Q2 expectations moved into Q3 and Q4. And we may see some additional slippages as we go through the remainder of the year.

[Sanjit Kumar Singh:]

And just sort of 2 quick follow-ups. Related to the Healthcare Transcription business, we sort of have seen the volume erosion. How do you see that trending going forward? Is it sort of a steady sort of measured decline? Or do you see that accelerating further? And then, lastly, on the cost savings, $125 million in cost savings, what base should we be using in terms of our models and in terms of sort of modeling that $125 million savings by the end of fiscal year 2016? Is that Q2 based or if you could give any color on that?

[Paul A. Ricci:]

Okay. With respect to the first question, which was related to erosion of the Healthcare on-demand business, we have reasonable predictive models of that now. And in fact, it has been relatively stable. So we're not seeing an acceleration of that. With respect to the second question, I'm going to turn it over to Tom.

[Thomas L. Beaudoin:]

On the cost savings, I think the best bet is that you -- it's approximately, our Q1 cost savings. We did achieve some of the $125 million savings in Q2. And we will have continuous programs to continue to get the benefit within the next few quarters, within the full year effect of those initiatives into FY '16 and then $61 million in '17.

[Operator:]

[Operator Instructions] Question from the line of Daniel Ives of FBR.

[Daniel H. Ives:]

Can you talk about, Paul, what you're seeing specifically in Healthcare in terms of the transition and just maybe anecdotally things that you've seen that have really changed in that business over the last, call it, 3 or 6 months, with some of the new leadership and new initiatives?

[Paul A. Ricci:]

Just wanted to make sure -- your voice is soft. I want to make sure I understand your question. You were asking about the transition in Healthcare in particular?

[Daniel H. Ives:]

Yes, exactly.

[Paul A. Ricci:]

And you mean the transition from perpetual to term? I just wanted to make sure.

[Daniel H. Ives:]

Yes, that transition as well as just from a customer perspective in terms of changing buying dynamics and...

[Paul A. Ricci:]

Okay. Well, I think that there are perhaps 3 things I should cite. It's trends we've seen in the Healthcare business. We are continuing to see a migration to recurring revenue streams. And we expect that to continue, perhaps to accelerate, into FY '16. Secondly, we are enjoying real strength in several of our product lines in Healthcare, which are offsetting the HIM erosion. And those include ones that you're familiar with, Dragon and Diagnostics. But perhaps, more importantly, we're seeing a real expansion in our Clintegrity product line, which has been a business for which we've had significant hopes and we've made investments. And bookings growth this year appears to be on track for a very strong performance in particular. And the third trend that we're seeing is increased demand of purchasing at a higher level in large health care providers of a full suite of our products and a broader set of solutions, which has been an initiative underway over the last year in the health care organization -- in our Healthcare business. And it seems to be gaining traction as we sit here halfway through the year.

[Daniel H. Ives:]

Okay. And just on Mobile. Maybe you could just talk about some of the dynamics you're seeing in terms of specifically on the smartphone side versus Automotive maybe in terms of the different opportunities?

[Paul A. Ricci:]

Okay. Well, I think we think about our Mobile business now as being led by the Automotive opportunities. That has been a strong performer for us for some years. And this year has been particularly good performance in the Automotive segment. Secondarily, we have growing expectations around mobile operator services. And we expect to see contributions in growth performance as we look in the second half of this year and next year in that. As we've discussed previously, we have muted expectations for the smartphone segment and because of the industry dynamics, of which you are aware, there and the consolidation going on in that industry. And we have smaller contributions from some growing subsegments, such as smart TVs and so forth.

[Operator:]

[Operator Instructions] And the next question, it comes from the line of Jeff Van Rhee of Craig-Hallum.

[Jeffrey Van Rhee:]

Paul, apologies if I missed this. With respect to the Healthcare side, can you just touch on the transcription and in particular, some of the trends you're seeing in pricing as well?

[Paul A. Ricci:]

We don't have anything new to report in pricing trends. There's been some, as we talked about previously, there's some erosion related to pricing in that business and some erosion related to the migration to electronic records. And there's nothing new in those trends. I think as I mentioned a few minutes ago, fairly stable.

[Jeffrey Van Rhee:]

And as you look at the EHR sort of perspective as it's impacted the health business, has your perspective on its impact on your business changed over the last year or again steady in terms of how it's playing out?

[Paul A. Ricci:]

Just to make sure I understand, are you asking what the EMR effect is on that business?

[Jeffrey Van Rhee:]

Yes.

[Paul A. Ricci:]

Yes. Again, I think that trend has been relatively stable now.

[Jeffrey Van Rhee:]

Okay. And then on the services line, how do we think about the gross margin going forward, specifically as the on-demand side of the business continues to gain scale? Just how does that progress in terms of where does it bottom, when do we start to see meaningful increases out of it?

[Paul A. Ricci:]

You're asking about total, which service...

[Jeffrey Van Rhee:]

The services line, the gross margin, your services line, which includes subscriptions and hosting.

[Thomas L. Beaudoin:]

Yes. As you know, the Professional Services line in there, and that's been fairly steady. It will fluctuate slightly, depending upon some PSE revenues and things in there. On the Hosting and Transcription line, we're seeing some steady progress. And clearly, as a part of the initiative that was announced today, there will be continued efforts around efficiency and productivity in that area around infrastructure and the way we support those activities. So I would hope that we'd see some improvement in that over the next few quarters.

[Operator:]

And we do have a follow-up question from the line of Jennifer Lowe of Morgan Stanley.

[Sanjit Kumar Singh:]

It's Sanjit again for Jen Lowe. I have a quick follow-up on the Consumer and Mobile (sic) [Mobile & Consumer] performance this quarter. Had a nice step function up. Can you just walk us through what are some of the drivers for the improved performance and how you see that trending for the balance of 2015?

[Paul A. Ricci:]

We had a number of license transactions close in the quarter in Automotive, but also, elsewhere in the quarter and that contributed to this quarter. As we talked about for a couple of quarters now, we expect that the overall trends in Mobile to turn -- to improve, and I think we're seeing that occur. But we wouldn't want to suggest that this quarter's growth is indicative of the near- to medium-term. I think growth will improve for the reasons I talked about earlier. But there are some headwinds in that business offsetting the Automotive and the Mobile operators services and I think I mentioned those.

[Operator:]

And now back to Mr. Ricci for final comments.

[Paul A. Ricci:]

Okay. Well, we thank you for joining us and we look forward to speaking to you again next quarter.

[Operator:]

Okay. Thank you. And ladies and gentlemen, this conference will be made available for replay after 4