February 10, 2015 athenahealth Inc. Current Recommendation SUMMARY DATA NEUTRAL Prior Recommendation Outperform Date of Last Change 10/23/2011 Current Price (02/09/15) $136.28 Target Price $143.00 52-Week High $204.41 52-Week Low $106.84 One-Year Return (%) -21.65 Beta 0.96 Average Daily Volume (sh) 311,194 Shares Outstanding (mil) 38 Market Capitalization ($mil) $5,191 Short Interest Ratio (days) 26.96 Institutional Ownership (%) N/A Insider Ownership (%) 3 Annual Cash Dividend $0.00 Dividend Yield (%) 0.00 5-Yr. Historical Growth Rates Sales (%) 32.7 Earnings Per Share (%) 3.0 Dividend (%) N/A using TTM EPS 340.7 using 2015 Estimate 801.6 using 2016 Estimate 252.4 Zacks Rank *: Short Term 1 3 months outlook * Definition / Disclosure on last page 2 - Buy SUMMARY Risk Level * Type of Stock (ATHN-NASDAQ) athenahealth reported a better-than-expected fourth quarter of 2014. Although earnings of $0.32 per share plummeted almost 26.4% year over year, it managed to beat the Zacks Consensus Estimate by $0.13. Revenues surged 24.3% year over year, driven by healthy growth across athenahealth-branded services. Most importantly, the company continued to add physicians at all three software suites. We believe that the company s strong product portfolio, growing physician base and solid business model are key tailwinds. We are also encouraged with the company s focus on mobile innovation. However, lack of enterprise-sized deals, winding up of government funded stimulus and increasing competition are major concerns in the near term. We maintain our Neutral recommendation and set a price target of $143.00. Average, Large-Growth Industry Med Info Sys Zacks Industry Rank * 110 out of 267 ZACKS CONSENSUS ESTIMATES Revenue Estimates (In millions of $) Q1 Q2 Q3 Q4 Year (Mar) (Jun) (Sep) (Dec) (Dec) 2013 126 A 146 A 152 A 172 A 595 A 2014 163 A 186 A 190 A 213 A 753 A 2015 205 E 228 E 233 E 254 E 920 E 2016 1,122 E Earnings Per Share Estimates (EPS is operating earnings before non-recurring items, but including employee stock options expenses) Q1 Q2 Q3 Q4 Year (Mar) (Jun) (Sep) (Dec) (Dec) 2013 $0.16 A -$0.25 A $0.16 A $0.43 A $0.47 A 2014 -$0.08 A $0.09 A $0.07 A $0.32 A $0.40 A 2015 -$0.09 E $0.06 E $0.09 E $0.11 E $0.17 E 2016 $0.54 E Projected EPS Growth - Next 5 Years % 28 2009 Zacks Investment Research, All Rights reserved. www.zacks.com 10 S. Riverside Plaza, Chicago IL 60606
RECENT NEWS Fourth Quarter Highlights athenahealth posted adjusted EPS of $0.32 in the fourth quarter of 2014 which exceeded the Zacks Consensus Estimate by $0.13. However, EPS plummeted almost 26.4% year over year, primarily due to rising operating expenses. Revenues in the fourth quarter augmented 24.3% to $213.2 million, topping the Zacks Consensus Estimate of $207 million. The upside was driven by healthy growth across athenahealth-branded services, which rose 31.5% year over year to $195.9 million. However, this was offset by a 32.3% decline in revenues from Epocrates-branded services, reaching the figure to $12.8 million. Third-party tenant and other non-core revenues stood at $4.5 million, reflecting an increase of 21.6% over the prior-year quarter. Segment-wise, revenues from Business Services rose 23.7% year over year to $201.1 million while Implementation and Other revenues grew 34.2% to stand at $12.1 million. During the fourth quarter, athenahealth added 2,317 physicians to athenacollector, 1,353 physicians to athenaclinicals, and 2,480 physicians to athenacommunicator. Adjusted gross margin expanded 60 basis points (bps) to 65.6% in the quarter. Total operating expenses, as a percentage of revenues, expanded nearly 510 bps to 57.2%. Consequently, adjusted EBITDA and adjusted operating margins contracted 360 bps and 440 bps year over year to 18.4% and 10.3%, respectively. Financial Position As of Dec 31, 2014, athenahealth had cash and cash equivalents of $73.8 million, up from $59.5 million as of Sep 30, 2014 and $65.0 million as of Dec 31, 2013. Long-term debt declined to $173.8 million from $177.5 million as of Sep 30, 2014 and $188.75 million as of Dec 31, 2013. In 2014, athenahealth generated operating cash flow of $149.1 million, as compared with $93.3 million generated in 2013. 2015 Guidance For full-year 2015, athenahealth projects total revenues in the range of $905 $925 million, up 28.1% at the mid-point. Adjusted EPS is forecasted in the $1.10 $1.20 band. For 2015, the company forecasts adjusted gross margin in the range of 62.5% 63.5%, while operating income is expected in the range of $75 $85 million. The above guidance is athenahealth s updated fiscal 2015 projection which incorporates the impact of the company s acquisition of RazorInsights in Jan 2015 and the purchase of webomr the web-based clinical applications and electronic health record platform from Beth Israel Deaconess Medical Center. Equity Research ATHN Page 2
On Dec 11, 2014, athenahealth had communicated initial guidance for fiscal 2015. As per the preliminary guidance, total revenues were expected in the $900 $925 million band. The company forecasted 2015 earnings in the band of $1.20 $1.30. The company also projected adjusted gross margin in the range of 63% 64%, while operating margin is expected in the range of $80 $90 million. athenahealth aims to expand gross margin in 2015, driven by increasing operational scale. The company expects to continue to invest in sales and marketing to achieve bookings growth of 30%. In line with its growth strategy, athenahealth plans to continue to spend on research & development (R&D) and general & administrative (G&A) activities. VALUATION Year-to-date, athenahealth shares are down 6.5% compared to a 0.6% fall for the S&P 500. athenahealth s price-to-book value ratio in the last quarter was 12.1x, compared to 5.4x for the industry and 5.3x for the S&P 500. Over the last five years, the company s shares have traded in a range of 6.2x to 18.4x of its book value. Currently athenahealth s valuations are trading lower to the mid-point of its historical range, indicating chance of an upside. Moreover, athenahealth s 5 year earnings growth rate of 21% is better than peer group average of 16.8%. Thus, we maintain our Neutral recommendation and set a price target of $143.00. Key Indicators F1 F2 Est. 5-Yr EPS Gr% P/CF 5-Yr High 5-Yr Low athenahealth Inc. (ATHN) 801.6 252.4 21.0 66.9 340.7 641.0 73.4 Industry Average 131.3 55.5 16.8 28.2 75.9 153.6 19.9 S&P 500 16.3 15.3 10.7 15.1 18.9 19.4 12.0 Allscripts Healthcare Solutions, Inc. (MDRX) 40.4 28.9 14.4 10.9 87.1 200.3 14.4 Cerner Corporation (CERN) 35.9 30.0 16.8 31.8 46.4 46.5 28.9 Quality Systems Inc. (QSII) 32.6 26.8 11.8 10.7 33.9 42.1 13.1 HMS Holdings Corp. (HMSY) 28.4 19.0 19.6 15.0 39.2 63.9 25.7 TTM is trailing 12 months; F1 is 2015 and F2 is 2016, CF is operating cash flow athenahealth Inc. (ATHN) P/B Last Qtr. P/B 5-Yr High P/B 5-Yr Low ROE D/E Last Qtr. Div Yield Last Qtr. EV/EBITDA 12.1 18.4 6.2 4.7 0.4 0.0 82.1 Industry Average 5.4 5.4 5.4-10.1 0.3 0.8 6.2 S&P 500 5.3 9.8 3.2 25.5 N/A 2.1 N/A Equity Research ATHN Page 3
Earnings Surprise and Estimate Revision History NOTE: THIS IS A NEWS-ONLY UPDATE; THE REST OF THIS REPORT HAS NOT BEEN UPDATED YET. Equity Research ATHN Page 4
OVERVIEW Headquartered in Watertown, MA, athenahealth Inc (ATHN) through its cloud-based network athenanet provides services that manage the administrative duties of medical providers. The company s software platform handles billing management, quality measurement and reporting, clinical documentation and data exchange, patient communication and referrals, and many other related tasks. athenahealth posted revenues of $595 million in fiscal 2013. In the nine months ended Sep 30, 2014, revenues jumped 27.4% year over year to $539.4 million. athenahealth reports revenues in two segments: Business Services (95% of total revenues in the nine months) and Implementation and Other (5%). Business Services revenue is typically 2% to 8% of a practice s total collections, depending upon the services purchased, the size, complexity, and other characteristics of the practice, plus a per statement charge for certain billing statements that are generated for patients. The Business Services segment comprises athenacollector (revenue cycle management or RCM), athenaclinicals (electronic health record management or EHR), athenacommunicator (patient communication management), athenacoordinator (referral cycle management) and subscriptions, sponsored clinical information, and decision support services for point of care clinical application (Epocrates). Epocrates was acquired by athenahealth in Mar 2013. The company offers subscription-based and sponsored clinical information and decision support services under this brand. Implementation revenues consist of amortization of deferred revenue on implementation services, as well as third-party tenant and other non-core revenues. REASONS TO BUY The HITECH Act, which has authorized the EHR Incentive program or the Meaningful Use program, presents significant opportunities for EHR vendors like athenahealth. In order to qualify for the HITECH incentives and other payment reform opportunities, the EHR buying activity of individual hospitals, health systems and integrated delivery networks has increased. Further, as these practices choose to replace older EHR technology, it represents additional prospects in the replacement market. athenahealth s cloud-based software reduces cost and time of its EHR deployment. The company utilizes its in-built proprietary rules engine to produce higher efficiency in claims settlement. We believe that these features will not only help retain but also attract new customers, which will continue to drive top-line growth and profitability. athenahealth leads the healthcare industry in Meaningful Use Stage 2 attestations. Per data available from Centers for Medicare & Medicaid Services, its clients comprise 37.4% of the total providers in the U.S. who have successfully attested to Stage 2 of the Meaningful Use EHR incentive program as of Aug 2014. Meaningful Use is a Medicare and Medicaid program introduced by the U.S. Government that awards incentives to caregivers who adopt and implement the certified EHR technology to improve patient care. The program is executed in a phased approach over a series of 3 stages with increasing requirements for participation. In 2013, athenahealth led the industry in Meaningful Use Stage 1 attestations, with 95.4% of its participating providers attesting successfully. Equity Research ATHN Page 5
Advancing to Meaningful Use Stage 2, athenahealth introduced the same across its nation-wide cloud based network in Oct 2013. Currently, athenahealth is the only EHR vendor to publicly track its clients' Meaningful Use performance and offer a Meaningful Use Guarantee for successful attestations. athenahealth s unique business model makes it a strong niche provider of RCM services to small physician practices. The Software as a Service (SaaS)-based approach allows for a lower cost and more flexible delivery mechanism that is expected to help athenahealth win deals. Its EHR product is a key player in ambulatory billing market. The company s updated knowledge base gives its customers real time information that no other competitor has exactly replicated. athenahealth will continue to benefit from its extensive athenacollector client base, as only a minority of its subscriber base also utilizes athenaclinical. Cross selling therefore represents a solid growth opportunity in the near term. In this regard, we are pleased with the growing number of double-barrel and triple-barrel deals in which the company sold either two or three products to a single customer. The Epocrates acquisition enhanced athenahealth s user network. Through its mobile offerings, Epocrates served over a million healthcare professionals, including 330,000 physicians in the U.S. Further, the buyout enhanced athenahealth s brand awareness as Epocrates was recognized by 90% of physicians in the U.S. Given the widespread mobile user base of Epocrates, athenahealth is expected to improve efficiency of new mobile workflows. Moreover, the mobile expertise of Epocrates in conjunction with athenahealth s cloud-based network should enable the latter to commercialize novel mobile applications. REASONS TO SELL Hospitals are subsidizing EHR adoption for their affiliated physicians. Hospitals are likely to choose EHR systems that are developed by their incumbent vendors. athenahealth is at a disadvantage as it lacks adequate alignment with hospitals and, further, it has a nascent presence in enterprise-size deals. As the government-sponsored EHR program winds down over the next few years, it is expected to create a significant headwind for athenahealth. As a result, the company may need to develop alternative growth drivers as well as rely on the growing replacement market. Further, athenahealth s industry is highly regulated by the government and it is currently undergoing a change due to the gradual withdrawal of the federal Stimulus. athenahealth s long-term goal of 30% top-line growth is challenging, given the consolidation trend among small physician practices. The company struggles to close enterprise-size deals as many large medical providers partner with traditional IT vendors. Investments in sales and marketing are perceived to have not yielded commensurate returns, given that the pace of recruitment of doctors has not adequately accelerated. athenahealth s EHR solution faces significant competition from the likes of Allscripts Healthcare Solutions and others. Competitors such as Cerner offer long-standing seamless products integrating inpatient and ambulatory-care systems. In fact, Cerner is one of the only two EHR vendors who are gaining market share in the mid- to large-hospital segment. Competition is also fierce with well reputed names such as Quality Systems and others. Further, SaaS-based models and low-end EHR Equity Research ATHN Page 6
vendors put pricing under pressure. Stringent hospital budgets also lead to weak pricing, which will continue to negatively impact profitability. DISCLOSURES & DEFINITIONS The analysts contributing to this report do not hold any shares of ATHN. The EPS and revenue forecasts are the Zacks Consensus estimates. Additionally, the analysts contributing to this report certify that the views expressed herein accurately reflect the analysts personal views as to the subject securities and issuers. Zacks certifies that no part of the analysts compensation was, is, or will be, directly or indirectly, related to the specific recommendation or views expressed by the analyst in the report. Additional information on the securities mentioned in this report is available upon request. This report is based on data obtained from sources we believe to be reliable, but is not guaranteed as to accuracy and does not purport to be complete. Because of individual objectives, the report should not be construed as advice designed to meet the particular investment needs of any investor. Any opinions expressed herein are subject to change. This report is not to be construed as an offer or the solicitation of an offer to buy or sell the securities herein mentioned. Zacks or its officers, employees or customers may have a position long or short in the securities mentioned and buy or sell the securities from time to time. Zacks uses the following rating system for the securities it covers. Outperform- Zacks expects that the subject company will outperform the broader U.S. equity market over the next six to twelve months. Neutral- Zacks expects that the company will perform in line with the broader U.S. equity market over the next six to twelve months. Underperform- Zacks expects the company will under perform the broader U.S. Equity market over the next six to twelve months. The current distribution of Zacks Ratings is as follows on the 1121 companies covered: Outperform - 15.6%, Neutral - 76.5%, Underperform 7.1%. Data is as of midnight on the business day immediately prior to this publication. Our recommendation for each stock is closely linked to the Zacks Rank, which results from a proprietary quantitative model using trends in earnings estimate revisions. This model is proven most effective for judging the timeliness of a stock over the next 1 to 3 months. The model assigns each stock a rank from 1 through 5. Zacks Rank 1 = Strong Buy. Zacks Rank 2 = Buy. Zacks Rank 3 = Hold. Zacks Rank 4 = Sell. Zacks Rank 5 = Strong Sell. We also provide a Zacks Industry Rank for each company which provides an idea of the near-term attractiveness of a company s industry group. We have 264 industry groups in total. Thus, the Zacks Industry Rank is a number between 1 and 264. In terms of investment attractiveness, the higher the rank the better. Historically, the top half of the industries has outperformed the general market. In determining Risk Level, we rely on a proprietary quantitative model that divides the entire universe of stocks into five groups, based on each stock s historical price volatility. The first group has stocks with the lowest values and are deemed Low Risk, while the 5 th group has the highest values and are designated High Risk. Designations of Below-Average Risk, Average Risk, and Above-Average Risk correspond to the second, third, and fourth groups of stocks, respectively. Equity Research ATHN Page 7