Constellation Software Inc. (CSU) Earnings Call Transcript

Greetings, and welcome to the Allscripts' Investor Call. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to turn the call over to Jenny Gelinas, Vice President of Investor Relations. Thank you. You may begin.

Thank you very much. Good morning, and welcome to the Allscripts' Investor Conference call. Our speaker today is Rick Poulton, our President and Chief Financial Officer. We will be making a number of forward-looking statements during the presentation and the Q&A part of the call, including without limitation, statements regarding management's expectations regarding the financial results of our businesses, and the amount and uses of potential net proceeds from the sale of our Hospitals & Large Physician Practices business, should the closing of the transaction occur. These statements are based on current expectations and involve a number of risks and uncertainties that can cause our actual results to vary materially. We undertake no obligation to revise these forward-looking statements in light of new information or future events. Please refer to our SEC filings for more information regarding the risk factors that may affect our results. Please reference the presentation that is available on our Investor Relations website. And with that, I'm going to hand the call over to Rick.

Okay. Jenny, thanks so much. Good morning, everybody, and thanks for joining us. Again, for those of you who are just dialing in, the slides that we're going to go through are available through an 8-K file and they're also on our Investor Relations website. What I want to do with our short time today is just real quick, I have a few slides that I want to cover really 3 topics. First, I want to talk about the what and the why of our announcement last night. Second, then give you a refresher on RemainCo, which is our Veradigm business and make sure you understand the roots of what Veradigm is doing. And then lastly, I'll finished by just updating our outlook for 2022, and then we'll take a couple of questions. So with that, Jenny, could you please start us out on the slides. So first, let me just the facts of what we did. Last night, we, of course, announced a definitive agreement to sell the net assets of our Hospitals & Large Physician Practices business segment. We're selling that to Harris Health, which is a subsidiary of Constellation Software. This business unit, again, just to make sure everybody is rooted in what it is, it's our -- essentially our hospital and -- as the name suggests, Large Physician Practices. So it's our Sunrise, our Paragon, our TouchWorks, dbMotion, and then a couple of our stand-alone financial solutions like STAR and Healthquest. The transaction does not include anything from the Veradigm business segment. So the purchase consideration is up to $700 million. It's a fixed price of $670 million paid at close. And then we have a couple of earn-out targets that are based on revenue performance in the business going forward. Now I want to just talk a little bit about why, why did we do this? Three main reasons: So the first was we are seeing a very -- a widening gap, a widening divergence in the momentum between our 2 core business segments. The Hospitals & Large Physician Practices segment has shrunk for 3 years and is expected to shrink again this year, which will make the third year in a row. And frankly, that will continue as far out as we can see. In fact, our thresholds that are tied to the earn-out targets are sequentially lower each year. In contrast, the Veradigm segment is growing 6% to 7% organically, and we think has a very strong competitive positioning, particularly relative to our Hospitals & Large Physician Practices segment. And so with these 2 diverging forces, it's becoming harder and harder to manage this under one roof, particularly when we try to be efficient with shared services functions. Our only alternative, frankly, if we were to keep it under one roof would be to replicate a lot of those shared service functions so that they could be very just tuned into the business they served and their different needs. Second big reason is focus. I think it's pretty clear over the last 2 years that our execution has improved as we have narrowed our focus. And so as we look -- think about the idea of separation, I think it allows for enhanced focus on priorities, enhanced accountability for results. And then finally, this is part of our journey to unlock value of the company. We have persistently traded at a discount to anybody that we would look at as peers. And you should think of this as another step in our 2-year journey towards -- first, illuminating the different pieces of the company and then separating them all with a goal towards maximizing value of the whole. So we think this transaction improves strategic optionality for Veradigm, and we have lots of opportunities ahead as we think about where to take that business. Next slide. So just again, to root you in the business we're selling through -- last year through 12 months, we did $928 million of revenue and also reported adjusted EBITDA of $145 million. These figures come straight from our press release that we filed last week. So you can find all the details there. However, as we think ahead to 2022, where we look ahead, this is a business segment where we expect revenue to be down 3% to 4% year-over-year. We expect adjusted EBITDA to be down approximately 10% to 15% year-over-year. And this business segment provides -- even though it's about 60% of our consolidated revenue, it is -- provides about 1/3 of our free cash flow. It's a more capital-intensive business and more delayed cash flow terms that we get from our clients there. So I want to make sure you have the right context when you think about what we're selling there. And then finally, just as we think about use of proceeds, net of some transaction costs and net of taxes, we would expect to yield approximately $600 million from this transaction. And those proceeds will be used to continue to support our share repurchase program as well as we'll consider strategic M&A for Veradigm as we see fit. We're not going to race into that, but we'll certainly be looking at opportunities to continue to enhance the value of that business. So now we pivot to just making sure we grind everybody or ground everybody into what is Veradigm doing. I want to start by just talking about how do we generate value. And we have tight connectivity between our real 3 core value drivers. And those are, as I go left to right in this diagram. First of all, it's our longitudinal data and insights that we get from that data. We have decades worth of clinical information. We've been able to link it, in many cases, to claims information. And when we combine that with some of the specialty patient registries, that we have as well as partner data that we also have. It's a very, very, very robust data set that we get to tap into. Second is our connectivity to the point of care and connectivity to patients. This is, in many -- most instances, bidirectional. And this allows us to provide patient engagement, patient recruiting, but also a lot of workflow type of interventions, whether it be gaps in care or anything of that like. And then finally is our scale. We're partnering with over 300,000 medical professionals. We're a large e-prescribing network. And again, we build that -- the building blocks to that scale, which is the proprietary relationships we have, some of our partner relationships and then again, our data relationships as well. Next slide. So combined on the slide, this gives you a little more factoids on the left of the slide about the scale where we touch, it's a formidable touch points and data set in our view. And collectively, what's happening is as value-based care is driving more and more market convergence, payers, providers that -- those lines are obviously blurring every day, but the need to coordinate amongst them, amongst the therapy providers and life science companies and with the patients we get this real network effect coming off of that. And so it's very much a mutually reinforcing network that we believe is just getting stronger and stronger. So we're excited about what it is and the scale it provides us and the proprietary nature of it as well. It's very difficult to replicate what we have. Next slide. So when we think about the opportunity set ahead of us, we want to bring this very large provider base to the large market opportunities that we see in the payer and life science end markets. We've listed several on this page. These are large markets -- large market opportunities. We don't have to grab all of it to still set up for what we think is a very nice long-term growth profile for our opportunity, well for our business. Next slide, please. This is a profile of some of our customers. Left side of the page is our biopharma clients; health plan and payer clients in the middle; and also, we do quite a bit of business with other HCIT names that you're all quite familiar with. So a very robust customer set. No specific revenue concentration in any of them, and we look to continue to grow this as we go ahead as we move forward. And then finally, I want to just ground everybody in the financial profile of Veradigm. You've seen our numbers, our revenue as reported in aggregate for 2021 and prior periods. But I want to give you a little more insight with this slide. Roughly, today we break -- 2021, I should say, we broke down, we're just a little over 80% of the revenue that Veradigm earned, came from providers, and just under 20% came from payer and life science clients. As we look into 2022, the payer and life science slice of this revenue pie is expected to grow 20% to 25% this year. And our provider side should grow in line with what you see other industry participants talking about 3% to 4% as well. So when we look at that in aggregate, on a weighted basis, that's what gives us our expected growth rate of 6% to 7% in 2022. And I would add that the gross margins that we reported in 2021 of 51% and adjusted EBITDA margin of 27% that we reported, both of them are expected to expand in 2022. So the growth that we get will provide leverage down the P&L. So with that backdrop then, I just want to formally change our guidance for 2022. In light of the transaction, we're going to withdraw the guidance that we provided last week, which was guidance on the consolidated company, and instead replace it with Veradigm specific guidance. So we expect Veradigm revenue to grow year-over-year in the range of 6% to 7%. We expect Veradigm adjusted EBITDA to grow year-over-year in the range of 10% to 15%, and we expect free cash flow from continuing operations to be in a range of $110 million to $120 million this year. The transaction, of course, has some customary closing conditions, one of which is HSR review, but we do expect the transaction will close during the second quarter of this year. So with that overview, I want to open up for a few questions and then let everybody get back to the start of their day.

[Operator Instructions] Our first questions come from the line of Sean Dodge with RBC Capital Markets.

This is Thomas Keller on for Sean. I guess, starting off on the revenue growth outlook for Veradigm. I mean you've updated the target this year of 6% to 7% growth. It's a little below the double-digit target from the previous. Where do you see that shaking out over the next few years and presumably with more growth investments and a sharper focus? Does this get you back to 10%? Or are you looking for something a little higher?

Well, we -- let's be clear, Thomas. I mean we grew in 2021, we grew a little under 5%. So we grew about 4.5% year-over-year. We talked about 10% in some of the quarters at the back half of the year to accentuate some of the momentum that we're getting -- that we're building. But when you look at in totality, it was that -- it was around 4.5%. So growth is accelerating. It's not declining when we look at in aggregate. There is a seasonality profile to the business. But we're comfortable with the range I'm disclosing now. And would we like to see that get higher? Yes, of course, we would. And our goal, again, with a narrowed focus will be to continue to pursue the opportunities in a very, very, very focused way. So we're hoping that, that will continue to go up. But I think that's -- from my standpoint right now, that's a pretty healthy start to growth rate given the scale of the company and the size of the company already.

Our next questions come from the line of Jeff Garro with Piper Sandler.

Recently, you had reallocated RCM services to the Veradigm segment. So I want to ask what the strategy is to grow that business going forward, particularly without a captive TouchWorks client footprint?

Well, we didn't really reallocate. I mean our CMS services, Jeff, is I would think about that is that as one of a multitude of things we provide to the provider base, right? So we build this provider base and we get them. We serve them and then we bring that footprint that they represent as well as the data set we collect from them to the payer and life science end markets. In keeping that strong relationship with our providers, we have a whole suite of clinical, financial, patient engagement and other services, including RCMS. So it's in the segment because it's a service we do provide to our customers as part of our value proposition to those providers. And I think we would expect that to grow going forward because we're that trend that you hear across the industry of providers wanting to step out of that responsibility is very real in the segment of the market we provide or serve as well, and we'll expect that to continue to grow.

Got it. That's helpful. And one more for me. You previously done a helpful job of allocating corporate resources down to the segment level in your reporting. Will we see any impact on profitability going forward as shared services are leveraged across a smaller business? And maybe more specifically, could you comment on resources needed to support the Practice Fusion and professional EHR regulatory needs?

Let me take those in reverse order. We have -- and all the guidance I've provided, we have an assumption in there and a better assumption about development spend. The development spend not only meets regulatory hurdles, it provides value adds above and beyond that as well. You can look at our historical report information to see what we spent last year in the segment. That's going to go up a little bit in 2022. But all of that is embedded in the guidance I've provided. In terms of allocation of corporate resources, yes, we do allocate virtually everything. We have a small unallocated slides of what I would describe as just pure public company cost. But otherwise, everything is allocated that supports the business itself. And we'll continue to do that. That also is embedded in the guidance that I provided. I think somewhere in your question, you said, is there going to be a need for any more or is there any inefficiency? We're -- everything we think we're going to have to use on a continuing basis is embedded in my guidance. We have obviously some transaction costs that are -- you'll see netted against the overall transaction. And we may have a little bit of bolus of just separating a couple of IT systems and things like that, that will also call out when that happens. But -- there's no inherent inefficiencies in this overall transaction, in fact, is the opposite from my perspective.

Got it. Makes sense. One quick follow-up there. Since you mentioned the unallocated segment and you referred to the cost. But I think there is something like $20 million plus in revenue there. So given the shift in the company, maybe you could illuminate us on what contributes to that $20 million? And how we should consider that going forward?

I think you just think of the unallocated segment as being immaterial to the overall story, okay, Jeff. And then we'll talk more about details around that, if necessary.

Our next questions come from the line of Stephanie Davis with SVB Leerink.

Congrats on the sale. So I'm going to start with a really annoying question. We've got a bunch of resegmentations since you first broke Veradigm out in 2019. And back then it had the Practice Fusion business, and life sciences were real, [indiscernible] platform, payer risk adjustment and the clinical workflow platform. The segmentation wasn't your doing, but is there a way to map what's been added and what's been taken out of Veradigm kind of in line with what you did on the rev cycle side, just kind of fully map this out?

So first, it's not an annoying question, but let me try to get at it.

It's not a fun one, right?

Yes, I mean, let's say maybe it is, maybe it isn't. Listen, I mean, here's what's happened, right? The company has evolved significantly over the last couple of years. I don't -- I would think anybody who's followed us wouldn't dispute that. In the case of Veradigm, the branding of Veradigm occurred and before we had kind of fully put all the pieces together of what it represents. So today, the Veradigm segment today represents a collective business opportunity that we had in different pieces, and we were using the data from different pieces of the company, and we were using some of the workflow connectivity from different piece of the company, but we didn't have it all in one place. And so we finally fixed that with the last kind of segmentation change that we made last year. And so you have the full opportunity, so the full provider set that feeds this business, the full payer life science end market opportunities that kind of flow from it as well is all in one place now. And that's just the reality of what we've got to. So if you're at -- part of your question is, can I look back and reconcile from here to there? I don't know, we could think about that. Basically, you had some other provider platforms and provider solutions that resided in other ways we were reporting the company at that time. And we brought them all together because they're really the full story that is fully managed by one management team right now.

Okay, that's helpful. So a completely different follow-up. It's a little bit spicier than the last question. If I look at the acquisitions in the HealthTech space over the past 2 years, just about every single press release talks about the buying of data assets and that being the most important part of the transaction. Now you have a stand-alone business that is a data asset and a data platform. I know you talk about using some proceeds for M&A, but is being a consolidatee instead of a consolidator also on the table?

Yes, absolutely. I mean, look, I mean, we've -- the last several transactions we've done going all the way back to Netsmart shows that we're not just empire-building here at Allscripts. We'll absolutely do what's right for shareholders. So if it makes more sense to think about that, then we will. If it makes sense to build value off of strict organic activities, we'll do that. That's our starting point right now. And if it makes sense to build value off acquiring a couple of things, we'll consider that as well. I mean we're not racing into it, but we'll consider it. But we are -- I think we've demonstrated from our past that we are open to whatever outcome makes the most sense for the shareholder base.

Our next questions come from the line of George Hill with Deutsche Bank.

I'll echo the congrats on the transaction. I kind of had a follow-up on Stephanie's line of questioning, which was given where you guys are right now, do you feel like the portfolio rationalization strategy is complete for the near term? Or should we expect to see kind of other parts that you guys are either looking to add or continue to as kind of -- as you think about how you guys are really focused on business go forward basis?

Yes. Thanks, George. So my answer to that is, look, what's left hangs together. And if there's one thing you take away from this call, I want you to feel like this. It's -- Veradigm is a 3-legged stool of the provider footprint that we have and the connectivity that it represents to the point of care and to the patients is what is the value asset to the payer and life science entities. And so -- that is a very, very strong, mutually dependent opportunity set. And so I do not envision having that up or carving that up in any way, shape or form, okay? So -- that's a, I guess, a long-winded way of saying, no, I think we're done on that. The only small and it's very immaterial potential exception to that is it really goes back to a question that Jeff was asking earlier. I have a couple of very kind of like orphan product lines left that are in our unallocated segment did not fit nicely into this transaction. They're in the noise from my perspective, so we're not going to talk a lot about them. But if there's a buyer at a fair price, then we might consider that.

That's helpful. And if I could go with one quick follow-up. Just as I think about the businesses that you sold, and I know this is all in the rearview mirror now and you detailed the financial profile of what you sold, I guess -- to some degree, can you talk about how much of that do you think was kind of Allscripts-specific and share loss related versus how much of it was industry related and kind of coming to the end of the maturity of the EHR life cycle?

Are you talking about all transactions, George? Are you just talking about the one...