Health Catalyst – Looks Cheap But Where Is The Catalyst? (NASDAQ:HCAT)

I covered Health Catalyst (HCAT) when the company went public in the summer of last year. At the time of the offering, I noted that the company seems an interesting play to bet on health care improvements as the company combines data, technology and experts, resulting in rapid growth of the business, although accompanied by big losses. Fast forwarding a year it seems that the company sees stable growth, yet has real work to be done on the margin front, as the situation, that of relative appeal which was apparent at the time of the IPO continues to be the case.

A Look At The Thesis

Little over a year ago I looked at the company which has developed the so-called Health Catalyst Flywheel, a data platform with analytics applications and service expertise. The company believes that all of this should drive measurable improvements in patient outcomes, drive engagement of team members, as the solution is applied in academic medical centers, community hospitals, delivery networks and physician practices. With roughly a fifth of the economy spent on healthcare and the system being full of flawed and ill-thought out incentive plans, the potential to make this segment more efficient is huge.

The company went public last year at $26 per share as the 35 million shares gave the company an equity value of just over $900 million at the time, although valuations dropped to $725 million if we adjust for net cash holdings.

In exchange for this valuation the company delivered on rapid sales growth, although accompanied by fat losses. 2017 sales came in at $73 million on which a $45 million operating loss was reported. Revenues rose 54% in 2018 to $113 million, with losses increasing to $60 million, up in absolute terms, but down a bit on a relative basis.

At the time of the IPO first quarter results for 2019 were known with sales up 70% to $35 million, and losses actually down in absolute terms to $11 million. The company guided for sales of $36.5 million for the second quarter and losses around $10 million, as I noted that the annualized 5 times sales multiple looked compelling given the growth, and the fact that losses were coming down. As shares rose to $39 per share on their opening day, valuations rose to more than 8 times annualised sales which killed some appeal, and while I promised to keep a close eye on the company, interest faded.

What Happened?

By November the third quarter results were released, after second quarter results came in according to expectations, although a touch better than guided for. Reported revenues came in at $39.4 million and while they keep increasing on sequential basis, annualised growth slowed down to 20%. Operating losses ballooned to $20.7 million, mostly cause stock-based compensation increased a factor of about 10 times to about $10 million. With this being the first quarter after the IPO, stock-based compensation typically runs high, as the question is what the real run rate would be.

The company guided for fourth quarter revenues of $40-$43 million and stable results in terms of the losses with shares trading around $35 at the time, as some initial IPO enthusiasm had already faded.

Ahead of Covid-19 the company reported its 2019 results and announced a bolt-on acquisition. Fourth quarter sales rose 21% and came in above the guidance at $43.5 million. Operating losses narrowed to $13.7 million, mostly as stock-based compensation fell back to $4.8 million.

The 2020 guidance looked reasonable with sales seen at $185-$188 million, more or less suggesting 20% revenue growth as (negative) margins are practically stable. By May when the first quarter numbers were released shares were basically flat and back at the IPO price, trading around $28 at the time.

First quarter revenues rose 23% to $45.1 million as operating losses rose a bit again due to higher stock-based compensation expense. For the second quarter the company guided sales of $41-$44 million, a sequential decline mostly due the impact of Covid-19. Over the summer two bolt-on deals were announced, one together with the release of the second quarter results.

Second quarter revenues came in at $43.2 million, still up 18% on the year before as operating losses came in at $15 million, now incorporating approximately $9 million in stock-based compensation. The company continues to muddle through a bit with third quarter sales seen at $43-$46 million and announcing a modest cut in the full year sales guidance. Note that the company can not claim that the business model is to be blamed for modest growth (in the sense that it is moving to a SaaS model) with deferred revenue balances up about $5 million on the year before, creating about 3 points headwind to topline sales.

Current Thoughts

With a share count of 38 million trading at $31 currently, I peg the equity value at $1.18 billion, which given a net cash position of nearly $200 million works down to a billion operating asset valuation. With annualised sales trending around $180 million, revenue multiples at 5-6 times are the same as they were last year. The reality is that growth has been flattish around 20% which is a touch light if this were to be a great solution, and furthermore no real progress on the bottom line ins made in a huge way.

I must say that I am quite surprised that the market has not picked on this stock as anything relating to healthcare, innovative practices in his sector, and usage of smart technology and telehealth is seeing huge momentum runs these days.

Hence, I have a gut feeling that shares look cheap, but mostly driven by relative comparisons as the reality is that 20% growth is suboptimal if you have a great solutions and lack of progress on the bottom line is somewhat disappointing. Nonetheless, I am happy to pick up a few shares if they revisit the mid-twenties based on the argument above, although I continue to proceed with some caution.

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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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