Sunday, October 27, 2013

Cerner Corporation 3Q13 Earnings: EPS in Line, Tepid Guidance, Neutral Rating

Cerner Corporation reported earnings October 25th and held a corresponding conference call after market close at 4:30 E.S.T. Revenue came in at $728.0MM up 8% yoy, shy of our bullish $771MM estimate. Lower technology sales had an impact on revenue but the impact on earnings was limited. Non-GAAP EPS was reported at $0.35 which is up 17% compared to 3Q12, shy of our estimate of $0.38 but in-line with street consensus of $0.35. In 3Q13 $28 million worth of shares were repurchased bringing year to date purchases at $170 million completing the share repurchase program authorized last December. In addition, 3.6 million shares have been repurchased post stock-split. 

Q3 highlights involve international opportunities for the firm. Cerner has gained clientele at two prestigious hospitals, CHU de Nantes in France (6th French client), and their first Brazilian client, Albert Einstein. Brazil is an emerging area of opportunity with 7,000 hospitals having limited EMR penetration. The company has also signed its first contract with the Saudi Arabia ministry of health as part of a plan to cover 200 public hospitals across the country. Domestically, Cerner had a big win with Salt Lake based Intermountain Health Care against their main competitor and look to this project as an opportunity to create a unique new system. The depth and breadth of Intermountain’s information provides a challenge for Cerner and calls for innovation to solve this issue of managing the information and keeping up Intermountain’s high quality standards. Cerner has also continued success with small hospitals, adding six new clients using their CommunityWorks software suite. The cloud-based platform Cerner has released has been able to become compatible with non-Cerner systems, allowing more flexibility for clients. Also, Cerner has become an authorized reseller for all apple-computing products, which will streamline the purchasing and deployment of devices to clients.

Initial Q4 guidance was offered at sales of $775MM-$815MM up 12% yoy at the midpoint and Non-GAAP EPS of $0.38-$0.39 compared to our estimates of $850MM and $0.45 EPS. While the Quarter offered highlights of strategic wins, looking forward we are disappointed with the light revenue guidance. Lower technology margin resale was noted as impacting revenue and Q4 will be the last quarter with a tough comparable technology resale comp. We will be selling out of our position and maintain a neutral rating on the stock.

Our decision to sell out of Cerner is based largely on valuation. Historically the stock has sold at an average of 35.5x times trailing twelve-month earnings. Currently the stock is selling for 44x ttm earnings, which represents a significant premium, indeed (close to peak) for Cerner. This premium is justified due to a Class A management team, leading market position and capitalization of domestic and international growth opportunities. However, the current premium valuation against what we expect will be another lower-than-expected revenue result in Q4 is not likely to lead to multiple expansion in the near term. The stock is now valued at 41.2x our FY13 EPS estimates. While there are still significant merits to our long-term investment thesis, in lieu of the recent earnings report we are not convinced that material multiple expansion in Q4 is likely, and remain on the sidelines for a more attractive entry point.

-Jeevan Sunny

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