Health Catalyst, Inc. (NASDAQ:HCAT) Q3 2023 Earnings Call Transcript
Health Catalyst, Inc. (NASDAQ:HCAT) Q3 2023 Earnings Call Transcript November 3, 2023
Operator: Welcome to the Health Catalyst Third Quarter 2023 Earnings Conference Call. [Operator Instructions] I would now like to turn the call over to Adam Brown, Senior Vice President of FP&A and Investor Relations.
Adam Brown: Good afternoon and welcome to Health Catalyst’s earnings conference call for the third quarter of 2023, which ended on September 30, 2023. My name is Adam Brown. I am the Senior Vice President of Investor Relations and Financial Planning and Analysis for Health Catalyst. And with me on the call is Dan Burton, our Chief Executive Officer and Bryan Hunt, our Chief Financial Officer. A complete disclosure of our results can be found in our press release issued today as well as in our related Form 8-K furnished to the SEC. Both of which are available on the Investor Relations section of our website at ir.healthcatalyst.com. As a reminder, today’s call is being recorded and a replay will be available following the conclusion of the call.
During today’s call, we will make forward-looking statements pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995 regarding trends, strategies, the impact of the macroeconomic challenges including high levels of inflation and high interest rates, the tight labor market, our pipeline conversion rates and the general anticipated performance of our business. These forward-looking statements are based on management’s current views and expectations as of today and should not be relied upon as representing our views as of any subsequent date. We disclaim any obligation to update any forward-looking statements or outlook. Actual results may materially differ. Please refer to the risk factors in our Form 10-Q for Q2 2023 filed with the SEC on August 9, 2023 and our Form 10-Q for the third quarter 2023 that will be filed with the SEC.
We will also refer to certain non-GAAP financial measures to provide additional information to investors. A reconciliation of these non-GAAP financial measures to their most comparable GAAP measures is provided in our press release. With that, I will turn the call over to Dan. Dan?
Dan Burton: Thank you, Adam and thank you to everyone who has joined us this afternoon. We are excited to share our third quarter 2023 financial performance along with additional highlights from the quarter. I will begin today’s call with some summary commentary on our third quarter results and outlook. We are pleased with our third quarter 2023 financial results, including total revenue of $73.8 million and adjusted EBITDA of $2 million with these results beating the midpoint of our quarterly guidance on each metric. Additionally, we are tracking slightly ahead of our previous full year revenue guidance. And as a result, we are raising our 2023 revenue guidance range. Likewise, we are pleased with our strong bookings performance through Q3 2023 and we are reiterating our full year 2023 bookings expectations, inclusive of net new DOS subscription client additions and dollar based retention rate.
Now, let me highlight some additional items from the quarter. You will recall from our previous earnings calls that we measure our company’s performance in the three strategic objective categories of improvement, growth and scale and we will discuss our quarterly results with you in each of these categories. The first category improvement is focused on evaluating our ability to enable our clients to realize massive measurable improvements, while also maintaining industry-leading clients and team member satisfaction and engagement. Let me begin by sharing an example of a client improvement from a recently published case study. WakeMed Health lacked the data and analytics infrastructure to enable widespread clinical improvement work across its system.
After evaluating its options, WakeMed decided to both establish internal clinical transformation teams as well as implement our DOS data platform along with a robust suite of our analytics applications. WakeMed now integrates data from its numerous source systems within our data platform and has employed the resultant high value data and analytics to execute on its clinical transformation strategy, inclusive of improving the consistency of care provided to its patient populations, streamlining its clinical workflows and improving health equity and care quality. As a result of these initiatives, in just 1 year, WakeMed achieved $10 million in direct variable cost reductions and improved care processes for 23 of its distinct patient populations.
Within the improvement category, I’d also like to highlight our team member engagement. For many years, we have utilized the Gallup organization to help measure our team member’s engagement levels. In our most recent results, we achieved an overall team member engagement score in the 94th percentile. This latest engagement level continues a pattern that has been in place for many years of industry leading team member engagement consistently ranking at or above this percentile level in terms of overall team member engagement scores. We as a leadership team continue to maintain a primary prioritized focus on team member engagement, the center of our strategic flywheel, because we recognize the central and foundational contributions that our team members make in building the software and providing the services expertise that enable our clients to achieve massive measurable improvements.
Also in the improvement category, we have been fortunate to receive several additional external recognitions related to our team member engagement. First, we were excited to be included in U.S. News & World Report’s inaugural Best Companies to Work For in the healthcare industry list. Next, we are pleased to be included in Fortune’s list for Best Places to Work in Healthcare for 2023, ranking 10th among the top 40 healthcare companies in the large company category, as well as Fortune’s Best Place to Work for Women in 2023 list. Lastly, we are excited to have been included in Top Workplaces Best Workplaces in Healthcare 2023 list as well as the Salt Lake Tribune’s Top Workplaces in Utah list. Our next strategic objective category is growth, which includes expanding existing client relationships and beginning new client relationships.
To summarize, our operating environment continues to align with what we have shared in prior quarters with some slight improvement in recent months. This has translated to strong bookings performance through Q3 of 2023 that was consistent with our expectations. Entering the fourth quarter of 2023, our pipeline continues to grow and our anticipated Q4 bookings are also in line with our previously shared expectations. As such, we are reiterating our full year 2023 bookings expectations, inclusive of dollar-based retention rate between 102% and 110% and net new DOS subscription client additions in the low double-digits. As it relates to our current selling environment, we continue to experience similar tailwinds and headwinds that are consistent with what we have described over the last few quarters.
While health system operating margins continue to be challenged relative to longer term historical levels, we are encouraged to see their operating margins improving in recent months. Given the budgeting cycles of most health systems and the typical length of our sales cycle, we anticipate this will translate as a mid-term bookings tailwind. Related to our full year 2023 bookings expectations, let me first share a reminder that Q4 2023 is anticipated to be a large bookings quarter consistent with our commentary since the beginning of the year and consistent with what we have experienced historically in terms of our annual bookings cadence. We anticipate the largest component of our Q4 2023 bookings will be from our tech-enabled managed services offering, supported by our robust pipeline in this offering area that continues to grow.
Next, we continue to anticipate 2023 professional services bookings achievement to be higher than technology bookings achievement driven by strong tech-enabled managed services bookings. Next, within the growth category, I am excited to announce a meaningful new DOS client partnership with Accountable Health Partners, a clinically integrated network in the Greater Rochester, New York area. Accountable Health Partners will leverage our DOS data platform, including Healthcare.AI and a subset of our applications, such as measurable, along with our professional services expertise in an effort to improve its operations across clinical, financial and operational use cases, we are honored that Accountable Health Partners has entrusted us to provide technology and professional services to support their mission.
And we look forward to supporting the realization of meaningful improvements that we anticipate they will achieve through our partnership. Lastly, as it relates to growth, we have continued to maintain a pipeline of tuck-in acquisition opportunities that provides software and/or services to support our clients in their improvement goals. In that vein, we are excited to have closed the acquisition of Electronic Registry Systems, Inc. also known as ERS, at the beginning of October. This small tuck-in acquisition provides us with an oncology registry development and data management technology solution to complement Health Catalyst’s existing chart abstraction offering. ERS’ software solution provides similar capabilities within oncology as ARMUS provides within the cardiology domain.
As a reminder, we acquired ARMUS in April 2022. The combination of oncology registry technology from ERS and cardiology registry technology from ARMUS further strengthens our strategic differentiation within our tech-enabled managed services offering area of chart abstraction. The purchase price for this tuck-in transaction was $13.5 million and the impact of this acquisition on our 2023 financials will be immaterial. We are thrilled to welcome ERS’ talented team members and we look forward to working together with them in support of our shared mission. Lastly, as you will hear from Bryan later in our prepared remarks, we are pleased to raise our revenue guidance for the full year. We continue to track well towards our mid-term targets, including a reacceleration of our revenue growth rate in 2024, a 10% adjusted EBITDA margin in 2025 and meaningful positive adjusted free cash flow in 2025.
Additionally, we continue to feel confident in our long-term revenue growth target of 20% plus and our long-term adjusted EBITDA margin target of 20% plus. We continue to see material operating leverage in our financial model inclusive of significant tech-enabled managed services expansion that require little incremental operating expenses. Likewise, we anticipate seeing more material R&D operating leverage beginning in 2024 as we streamline and work to complete certain investments in our data platform. With that, let me turn the call over to Bryan.
Bryan Hunt: Thank you, Dan. Before diving into our quarterly financial results, I want to echo what Dan shared and say that I am pleased with our third quarter performance. I will now comment on our strategic objective category of scale. For the third quarter of 2023, we generated $73.8 million in total revenue. This represents an outperformance relative to the midpoint of our guidance and it represents an increase of 8% year-over-year. Technology revenue for the third quarter of 2023 was $46 million, representing 4% growth year-over-year. Professional services revenue for Q3 2023 was $27.8 million, representing 14% growth relative to the same period last year. For the third quarter of 2023, total adjusted gross margin was 47%, representing a decrease of approximately 430 basis points year-over-year.
In the technology segment, our Q3 2023 adjusted technology gross margin was 68%, an increase of approximately 5 basis points relative to the same period last year and in line with previously shared expectations. This year-over-year, performance was mainly driven by headwind due to the continued costs associated with transitioning a small subset of our client base from on-premise to third-party data centers and Microsoft Azure as well as from cost associated with migrating a subset of our client base to our multi-tenant Snowflake and Databricks enabled data platform environment. Offset by existing clients paying higher technology access fees from contractual built in escalators without a commensurate increase in hosting cost. In the Professional Services segment, our Q3 2023 adjusted professional services gross margin was 12%, representing a decrease of approximately 890 basis points year-over-year and a decrease of roughly 540 basis points relative to the second quarter of 2023.
This quarterly performance was slightly below the expectations that we shared on our last earnings call. Primarily driven by slightly lower utilization rates than anticipated. As we move into 2024, our utilization rates will be positively impacted by a reduction in force starting in Q4 2023 that I will describe when sharing guidance commentary. In Q3 2023, adjusted total operating expenses were $32.6 million as a percentage of revenue; adjusted total operating expenses were 44% which compares favorably to 58% in Q3 2022. Adjusted EBITDA in Q3 2023 was $2 million with this performance exceeding the midpoint of our guidance and represents an improvement of $6.5 million relative to the same period last year. This Q3 2023 adjusted EBITDA result was mainly driven by the quarterly revenue outperformance mentioned previously.
Along with the timing of some non-headcount expenses that we anticipate will be pushed out to the fourth quarter. Our adjusted basic net income per share in Q3 2023 was $0.03. The weighted average number of shares used in calculating adjusted basic net income per share in Q3, was approximately $56.7 million shares. Turning to the balance sheet, we ended Q3 2023 with $347.7 million of cash, cash equivalents and short-term investments compared to $343.8 million as of Q2 2023. In terms of liabilities, the face value of our outstanding convertible notes is the principal amount of $230 million due in 2025. As it relates to our financial guidance for the fourth quarter of 2023, we expect total revenue between $70.1 million and $75.1 million and adjusted EBITDA between $0.3 million and $2.3 million.
And for the full year 2023, we expect total revenue between $291 million and $296 million. At their respective midpoints, this represents an increase of $0.5 million, compared to the full year revenue guidance we provided last quarter. We also continue to expect full year 2023 adjusted EBITDA between $10 million and $12 million. Now let me provide a few additional details related to our Q4 2023 guidance. In terms of our adjusted gross margin, we continue to anticipate that our adjusted technology gross margin will be in the high 60s in the fourth quarter. In the Professional Services segment, we anticipate that our Q4 adjusted professional services gross margin will be roughly similar to Q3 2023. Importantly, in late Q4 2023, we will affect a reduction of approximately 10% of our company wide team member base, which will optimize our cost structure and focus our investment of resources in key strategic priority areas.
While the reductions are taking place across our operating segments, it is focused within professional services. As we right size our cost structure to the appropriate utilization levels and within research and development. As we conclude, a large portion of the spend we have been making in our next generation Snowflake and Databricks enabled data platform. We also anticipate additional but smaller cost savings initiatives to be finalized in Q1 2024, these cost reduction streamlining initiatives will result in our Q1 2024 professional services gross margin being several points higher, as well as continuing to see material incremental operating leverage in 2024. With that, I will conclude my prepared remarks. Dan?
Dan Burton: Thanks Bryan. In conclusion, I would like to recognize and thank our clients and team members for their high levels of engagement and consistent contributions to our shared mission. And with that, I will turn the call back to the operator for questions.
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