organic bookings -0.7%; biggest miss since 3Q14
Allscripts (MDRX) reported 3Q16 results that missed consensus expectations across all key metrics with year-to-date organic revenue growth of +1.2%, trending well below their 3-5% guidance range given at the beginning of the year. Total bookings were $291 million versus consensus of $315 million, representing the largest miss since 3Q14. Organic bookings declined -0.7% YoY to $270 million, which is better than our expectation of $250 million, but below the pre-Netsmart consensus expectations of $285M (+4.8% YoY), and a material slowdown from the +15% posted 1H16. Meanwhile, Netsmart bookings of $21 million were -52% lower sequentially and well below implied street estimate of $30 million, missing due to greater seasonality that was not properly communicated by management previously.
Management guided 4Q16 sales in-line to $420 - $435 million versus consensus at $426.7 million, which we believe is an overly optimistic target. While there is precedent for such a sequential acceleration, it would be the largest since 4Q11. We don't expect investors will place much confidence in management's forecasting ability after consistently missing their own guidance multiple times. Despite an in-line revenue guide, guidance for EPS and EBITDA are below consensus expectations, implying weaker sequential margin performance, raising questions about the impact of recent tuck-in acquisitions that may be supporting top-line in 4Q16.
enter the twilight zone
Despite slowing growth and missing expectations, management could not have sounded happier on the conference call pointing to robust business activity. Enter the twilight zone.... rarely have we encountered a situation where multiple independent data sources, financial performance, SEC filings and numerous anecdotes consistently bring us to a conclusion that is entirely counter to management commentary.
This is in addition to the frequent changes in financial reporting, reduced transparency, and financial wizardry that appears designed to mask weakness in the core business, and in our view, is incredibly misleading to investors. The timing and structure of the Netsmart deal (JV debt is real debt) ahead of a slowdown, the consolidation of the entity despite owning < 50% (just because they have budgetary control), and inconsistent disclosure into how it impacts reported metrics, is just one extreme example.
recurring software growth negative
Consolidated non-recurring organic revenue growth was +5% and offset by continued declines in non-recurring revenue, which is not a new dynamic. However, year-to-date recurring revenue is +3.2% and slower than the same period last year of +5.6%. We believe slowing recurring revenue growth despite strong bookings performance in 2015 is primarily due to attrition. The number that management didn't disclose in their prepared remarks is recurring software delivery, support and maintenance revenue. Recall that prior to management's change in financial reporting at the beginning of the year, this segment included high margin subscription and recurring transactions, as well as support and maintenance. Based on the disclosed growth rates for the rest of the business, the implied growth rate in recurring revenue for this segment is -0.50% YoY in 3Q16 and trending -1.3% YoY year-to-date.
We believe this decline is due to lower support and maintenance revenue from attrition, and a reason why management stopped reporting this metric earlier this year. If we are wrong in our view, namely that attrition continues to be a problem as we outlined in our earnings preview note, then growth should be much more robust, especially at this stage in the "turnaround story" and given recent bookings strength over the last 18 months.
backlog decline is concerning
Organic contract backlog declined sequentially by $82 million to $3,627 million in 3Q16, which represents YoY growth of +1.8% in 3Q16 compared to 5.3% average for 1H16. Management was quick to dismiss this concern attributing it to "...timing and mix of bookings and renewals relative to revenue recognition timing". However, we interpret this as another sign of attrition. Organic contract backlog has declined by $24 million year-to-date despite $840 million in organic bookings, including the Optum deal, and implies a very weak book-to-bill. We would note that contract backlog includes one-year of maintenance contracts.
enough is enough; press the short with an $8 target
We find it incredible that management has been able to maintain credibility despite years of missed expectations and the reasons we outlined above. While we acknowledge their turnaround efforts, growth is slowing and the market they are selling into is challenged. Ultimately we see many more risks than opportunities and believe consensus estimates for 2017 need to come down.
Thomas Tobin
Managing Director
@HedgeyeHC
