Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  

athenahealth, Inc (NASDAQ:ATHN)

Q4 2008 Earnings Call

February 27, 2009, 08:30 am ET

Executives

Jennifer Heizer - Senior Manager, IR

Jonathan Bush - CEO, President and Chairman

Carl Byers - SVP, CFO and Treasurer

Analysts

Richard Close - Jefferies

Newton Juhng - BB&T Capital Markets

Constantine Davides - JMP Securities

Sean Wieland - Piper Jaffray

Donald Hooker - UBS

Corey Tobin - William Blair & Company

Glenn Garmont - Thinkequity

Sandy Draper - Raymond James

Frank Sparacino - First Analysis Corp.

Leo Carpio - Caris & Company

David Bayer - Cantor Fitzgerald

Operator

Welcome to the athenahealth Fourth Quarter and Full Year 2008 Conference Call. As a reminder today's call is being recorded. At this time, I would like to turn the call over to Jennifer Heizer, Senior Manager of Investor Relations for athenahealth. Please go ahead, Ms. Heizer.

Jennifer Heizer

Good morning and thank you for joining us. With me on the call today is Jonathan Bush our Chairman and CEO; and Carl Byers, our Chief Financial Officer.

Certain statements contained in this conference call may be considered forward-looking as defined by the Private Securities Litigation Reform Act of 1995. In particular, any statements we make about our expectations for future financial and operational performance or the benefits of our service offerings.

Forward-looking statements may often be identified with words such as we expect, we anticipate, upcoming or similar indications of future expectations. These statements involve various risks and uncertainties that could cause our actual results to differ materially from those expressed in such forward-looking statements and these include the risks and uncertainties under the heading Risk Factors in our most recent annual report on Form 10-K and other periodic reports filed with the SEC, which are available on our web site at investors.athenahealth.com and on the SEC's website at www.sec.gov.

Investors are cautioned not to place undue reliance on such forward-looking statements, as there is no assurance that the matter contained in such statements will occur. The forward-looking statements we make on today's call are based on our beliefs and expectations as of today, February 27, 2009 only. We do not undertake any obligation to revise or update such forward-looking statements.

Finally, please note that on today's call we will refer to certain non-GAAP financial measures in which we exclude certain non-cash or non-recurring items from our GAAP financial results. We believe that in order to properly understand our short-term and long-term financial trends, investors may wish to consider the impact of these items as a supplement to financial performance measures, determined in accordance with GAAP.

Please refer to yesterday's press release announcing our fourth quarter and full year 2008 results available on our website for reconciliation of those non-GAAP performance measures to our GAAP financial results.

With that, I will now turn the call over to Jonathan Bush.

Jonathan Bush

Thank you, Jennifer, good morning everyone and thank you for joining us. 2008 was our first year as a public company and we are pleased to report that it was a tremendous success. We made significant progress on our mission of becoming medical groups most trusted business service and we did so while serving our shareholders better than we had originally expected.

For several quarters we have discussed our expectations for strong growth in Q4, I am pleased to say that the investments we made to prepare for that growth worked exceptionally well. For the fourth quarter of 2008 we generate a record revenue growth of 47% over Q4 of 2007 achieving $41.4 million of total revenue.

Our gross margin in the fourth quarter expanded to a record 60% driven by continued automation improvement. In terms of the bottom line we have achieved $0.19 of adjusted net income per diluted share excluding a one time tax gain. It was $0.68 including that gain which Carl will discuss in more detail.

For the full year of 2008 we grew revenue by 38% to $139.6 million versus revenue of $100.8 million in 2007. Our adjusted gross margin for the full year expanded to 58% from 54% in 2007 and we achieved $0.53 of adjusted net income per diluted share in 2008 excluding that tax gain. With the gain included adjusted net income per diluted share was $1.01 for the full year.

Importantly, we made these achievements in 2008 without diverting our focus from the internal drivers of our long term success. For example employee engagement in the quarter was 3.9 out of 5 up from 3.8 in Q3.

Our culture is our greatest asset and the collective performance of more than 800 athenistas is what led to our accomplishments in 2008. Second, on client days and account receivable or DAR, which measures a financial performance of our clients was 3.0 days in Q4 which was a 2.8 days sequential improvement and 1.7 day a year-over-year improvement. This was a result of our ongoing focus on understanding payer rules and managing the work flow of our clients to yield more rapid payments.

Finally, client satisfaction came in at 84% in the quarter. This was flat compared to Q2 when the same cohort was measured, but down sequentially from 87% in Q3. For all of 2008 this measure averaged 85% compared to 88% in 2007. We believe that the evolution of our client service organization will have a positive impact on this metric during 2009 enabling us to expand high client satisfaction and the business benefits that go with that.

Additionally, we saw encouraging signs related to external drivers of our long term success, first the emergence of the pay-for-performance programs such as the HITECH Act, favor athenahealth's to meet ability to manage information across thousands of practices and report it flexibly in exchange for payment.

Second, the economic recession favors the unique no money down aspect of our value proposition. It also favors our, we get paid, when you get paid, service pricing approach. Lastly as employers shift more responsibility for healthcare cost to employees the revenue cycle is becoming more complex. It's becoming harder to know how much patients owe, while at the same time it's becoming more important to know that answer while the patient is still in the office.

This trend also favors our abilities to keep pace with changes in benefit plan because we can make immediate updates through our software rules engine and services through out our network.

I believe that now more than ever the industry shares our vision about how to make healthcare work as it should. There is mounting focus on outcomes and results and a heightened need to measure and report on them more efficiently and consistently.

The do-it-yourself, with software model is not driven by results and struggles to keep pace with the demands on clinicians to navigate ever changing requirement policies, plans and programs.

Our unique network based services are gaining momentum because we are able to manage all of this complexity on behalf of our clients with a constant focus on what gets them paid and ultimately our debt is that it is what matters the most.

As our Q4 results show we have a significant opportunity and competitive advantage in the marketplace therefore during this next year we are intensifying our efforts to take full advantage of this unique position in order to continue 2008's success and capitalize on this opportunity we plan on making additional investments during 2009. Carl, will go into greater details but I want to highlight three key elements of our 2009 agenda.

First of all we will continue to invest in our client service infrastructure this will enable us to scale more easily as our client base continues to grow and to enhance the quality of our clients' experience on the network.

Second, we will accelerate product development in order to more rapidly capture market share and to extend the value proposition we offer to our clients as their needs continue to evolve and finally for the same reason we will increase sales and marketing.

Given this agenda I’m thrilled to welcome David Robinson our Senior Health new Chief Operating Officer. David, will lead our efforts across client services, service operations and technology. Before I turn it over to Carl I want to emphasize how I'm pleased with our performance heading into 2009.

We grew revenue in 2008 by nearly 40%, expanded our profitability and increased our investments in the future. We have generated significant momentum as a disruptive software enabled service in healthcare and we have never been in a better position to succeed. Carl, will now walk you through our financials after which we will be happy to take your questions.

Carl Byers

Thank you. As Jonathan mentioned we were pleased to see robust revenue growth in Q4 to $41.4 million up 47% over the same period last year. This represents our 36th consecutive quarter of revenue growth and we would emphasize that this is organically driven. 2008 full year revenue grew by 38% to $139.6 million over 2007.

As we mentioned during past calls we expected that our performance will be very strong in the fourth quarter due to the unprecedented number of providers implemented during the year.

In this regard, during Q4 we enjoyed the revenue benefit of a large new account that has its strongest revenue during that period. So any analysis of the quarter and its implication should bear that in mind.

In terms of our client base, we grew our physician count by 622 to 12,589 in Q4 an increase of 34% compared to Q4 2007.

Counting those physicians and also non-physician providers we added 1,488 net new medical providers in the quarter. Bringing the total provider count to 18,785 an increase of 55% over Q4 2007. And finally we added 249 net new providers to athenaClinicals our electronic health record or EHR based chart room service. Brining our total provider account to 798 of which 485 are physicians.

Notably, we crossed the $1 billion threshold in client collection posted to athena net within a single quarter processing $1.1 billion of our clients money in Q4 2008 up from $759.1 million in Q4 of last year.

For the whole year we posted client collections of $3.7 billion compared to $2.7 billion in 2007.

In Q4 of 2008 collections per physician of $85,296 were up by 5% over Q4 of 2007. Our business services revenue per physician of $3,155 was up by 12% year-over-year driven in part by increased contribution to business services revenue from non-physician provider added during past quarters.

In terms of profitability in Q4 our adjusted gross margin increased to 59.7% up 300 basis points compared to Q4 of last year. For the whole year our adjusted gross margin was 58.5% up 410 basis points compared to all of 2007.

Our improvements in adjusted gross margin are driven by automation and scale within our operations. One key metric for automation is our Electronic Remittance Advice rate or ERA rate which measures the degree to which we have automated the processing of information about payments.

Our ERA rate increased significantly to 56.3% in Q4 up from 52.3% in Q3 and 42.6% in Q4 of 2007. This substantial improvement in ERA was a result of automating more connections with more payers which we call ERA coverage by also enrolling and maintaining providers on ERA once we have setup that capability, which we refer to as our ERA yield.

There remains significant room for improvement in the ERA rate in addition to many other automation opportunities across multiple transaction type in our revenue cycle and clinical cycle operations.

Moving to operating expense we had a couple of unique items in the fourth quarter that I would like to highlight. Our G&A expense increased sequentially due in part to our legal settlement with Billingnetwork Patent, Inc.

As we indicated during our Investor Summit in December this resulted in less than $0.02 of expense during the fourth quarter. Our adjusted EBITDA margin was 19.3% in Q4 an increase of 620 basis points compared to Q4 2007.

For the entire year our adjusted EBITDA margin was 17.0% up 570 basis points compared to 11.3% in 2007. This expansion is the result of our rapid revenue growth and our low variable marginal cost.

A phenomenon driven by the power of our rules engine to eliminate work and the benefits of our automation of the work that remains.

I want to comment on two items below the operating income line that were unusual in Q4 first when we put in place a $6 million mortgage on our new operating center in Maine in September.

We locked in our interest rate by exchanging our floating rate for a fixed rate with our lender. We did this so that we could ensure a low cost of capital over the 20 year expected life of the loan.

Accounting rules require us to put the market value of this interest rate swap on to our balance sheet each quarter. With fluctuations in that number running through the income statements.

We expect these market adjustments to net to zero over the life of the loan as interest rates change and as the loan amortizes. Because this is an unpredictable and an ultimately non-cash item, like other companies with similar arrangements we will exclude this from our adjusted earnings metric.

Second we recognized a gain in Q4 of $16.7 million on our tax line. This reflects our achievement of sustainable profitability, nearly all of these gain is reflected at year end as a deferred tax asset.

In addition to the $16.7 million benefit the company is likely to receive additional tax benefits that are not currently reflected as assets due to accounting rules related to stock compensation.

Given this change, in 2009 we will expense taxes at a fall rate, which we expect to be approximately 41%, number which could vary by a few points in any given period due to variety of factors. Though we will be expensing the full tax rate on a GAAP basis we will continue to pay much less on a cash basis until our tax benefits are exhausted.

During our Investor Summit, we shared our initial plan to continue reporting cash taxes within our adjusted earnings numbers after the reversal of this valuation allowance. After considering feedback from the investment community we have elected to use GAAP taxes in our adjusted earnings metric from this point forward.

As a result of our operating income and these unusual items our adjusted net income for diluted share in the fourth quarter which excludes the impact of stock-based compensation and the unrealized loss on the interest rate swap, were $0.68, $0.49 of which are related to the reversal of the valuation allowance on the deferred tax assets.

Excluding the reversal of our valuation allowance adjusted net income for diluted share was $0.19 in the fourth quarter. For the full year adjusted net income per diluted share was $1.01 excluding the reversal of the valuation allowance our adjusted net income per diluted share was $0.53 in 2008.

We have included the separate reconciliation table within our earnings press release that breaks down the impact of the reversal of our valuation allowance on these GAAP and non-GAAP results.

In terms of the balance sheet despite the turbulent financial environment the company's cash and investments remain liquid and secure. We ended the quarter with cash, cash equivalents and short-term investments of $87 million.

Our fourth quarter and full year 2008 results demonstrate that we are tracking well toward our 2011 goal and our longer term target model. We have invested wisely. Our fundamentals are solid and our success affords us the opportunity to intensify our efforts.

As Jonathan mentioned to take advantage of our unique competitive position we will elevate our investment level during 2009 in a few key areas.

First, enhancements to our client services organization are entering their final stages and call for a temporary increase in direct operating expense as we transition this organization.

Given this plan the first half of 2009 gross margin will be roughly inline with gross margins in the first half of 2008. This will represent a brief pause in gross margin expansion even as our automation work continues to drive down variable cost.

Second, we will continue to expand our product development efforts which will be evident in higher R&D expense. We are confident that R&D will become a smaller portion of revenue overtime as implied by our 2011 target.

But this year is not one where we expect to drive that ratio down. We believe the yield on this spending will be very strong in terms of our longer term gross margins, our product value proposition and related growth.

Finally, we will make increased investments in sales and marketing to attract new clients. We have noted many times that we spend about $0.50 to get every dollar of ongoing recurring revenue. And then such spending has a very high internal rate or return. When we see opportunity to grow through these investments we take it, even if it impacts short terms expense.

It's important to note that these plans as I have described in today align with the 2011 margin targets we updated our during Investors Summit in December. We believe that these investments will bring us to that 2011 point of arrival as a larger firm with even more momentum.

With that we will be happy to take your questions.

Jonathan Bush

And before we do so I just want to make one quick additional comment. We are revealing ahead of our 10-K filing on Monday the final Q4 share count, we believe there is a modest understatement of the count which does not affect the $0.19 earnings number as I said it's a very modest, immaterial amount. We encourage you to see the K on Monday for that final count.

So again we are happy to take your questions.

Question-and-Answer-Session

Operator

(Operator Instructions) And we will go to Richard Close of Jefferies.

Richard Close - Jefferies

Yes, thank you and congratulations on a good year. And quickly your first question would be the customer satisfaction, the little bit of a fall-off there what are thoughts on this progressing or improving as we go into 2009 considering you are ramping up sales and marketing and all that and growing so fast?

Jonathan Bush

Good question Richard. I know you heard me talk about that for several calls when I first mentioned the impact, where I first mentioned the arrival of Jody Blakeway, Jody has done her assessment put together a plan and is in the midst now of having a very sizeable roll out of a new client servicing infrastructure which is kind of more of a higher fixed cost, more sophisticated and more variable cost infrastructure for managing both issues that come up. But also managing the relationships with customers.

The pilot was just included last month, was extremely successful. It's reviewing all of our account managers in new roles and all of our clients are putting on with new roles that fit in this infrastructure in course of the first-half of the year.

She is very methodical about her roll-outs she is much more about making these things work but the long haul I admire her patience incredibly. And so what you will see is a very different service approach in place and running by the second quarter.

It will be a little bit of above focus but in higher, in advance to get those positions fair with this new infrastructure not much as Carl, mentioned but a little bit. And that's where in the second half of the year where I think we would be position to see even larger and larger volumes both in infrastructure it’s ready for the new 2011 sites to keep bidding the original 30% and do not looking backwards, that is looking backwards causing heart attacks here at the investor relations test.

We are ready for the 2011 side that one would imply by that and still be able to get those higher clients out fashion thereafter.

Richard Close - Jefferies

Okay. So are those hires related to the investments in sales and marketing, or is that in the cost of services line, where did those fall?

Jonathan Bush

The one that we are describing now in client support are or above in gross margin. Those are account managers and client support desk and whole new issue was elution desk that's been created by some of our best executives some of the client operations side.

Richard Close - Jefferies

Okay. And then with respect to sales and marketing, are you essentially telling us that your pipeline is surging the fact that you're making these investment in sales and marketing here in the first half of '09?

Jonathan Bush

Yes, So number Carl told us in the formal presentation there, that we would like to spend $0.50 to get a dollar revenue. Well, if we beat our goal instead of spend to $0.50 to half of the bookings number if you think about it that way in sales and marketing.

Well, if we go beat the number. Now we have got to go and increase in order to keep going after the 50% of bookings ratio. We have to increase our sales and marketing quite handily in order to, both grow the companies 30% on the new base and expect the $0.50 on the dollar. So the actual upfront sales in marketing investment is going to look a lot bigger, but it's still should be coming in at $0.50 on the dollar booking. Is does that make sense?

Richard Close - Jefferies

Yeah, with the ERA, Carl, and the automation, where do you think that tops out for you guys?

Carl Byers

What I mentioned earlier that there are a couple of drivers there. Their availability almost payer of the capability, which is now very high, the amount to which we have setup that capability in that and that pulling out some of our R&D expense growth is exactly for that purpose. We have grown in a subsidiary in India for example and then a lot of the efforts here at headquarters are focused on establishing great payer relationships that we can use to increase our automation.

So the coverage now that we setup matters, and then lastly the degree to which we get our own providers enrolled in those programs, which can be a rather manual process payer-by-payer. So overall in the long run, ERA could certainly any automation very frankly many of them that we can push on over the years, any automation rate could certainly top 70% within the foreseeable future. But it's always a long slog, if you will, to take each transaction type each payer and go build it and test it and run it.

And bit by bit, we are eating away at the menu or variable cost. And so our variable contribution today is significantly higher than our gross margin. What Jonathan is describing is the tieback to his point is fixed cost growth into our operating expense, so that when we are company that's two or three times our current size, we will have a highly affected infrastructure with a better client experience.

But underneath those numbers, if you look at the variable contribution of the work we do is very high because of the automation we have done and given what I just described increasing automation cost around your transaction types that can go much higher.

Richard Close - Jefferies

Okay, and just two final question here. With respect to the implementation and other line item on income statement that was somewhat little below what we were looking for, is there anything going on there, any changes and then can you give us the employee count for the direct operating expenses?

Carl Byers

Sure, I will be happy to. First, with regard to implementation, which is the small component of our two revenue component. That was essentially flat year-over-year, because a deferral of one-time items that we used to recognize as they happened.

It used to be a material number, it became a bigger number. And so it was what we call provider adds, when we add doctors to existing account, there is a professional services charge for that work to configure them a provider. We used to recognize it as it happened in abundance of caution after the auditor starts debating with themselves what they thought, we decided to defer that into '09, so there is about a penny of revenue in pure margin that we pushed into '09.

Richard Close - Jefferies

And then the direct operating employees?

Carl Byers

The direct operating, 508 at the end of the year, and we let that grow for a couple of reasons. Jonathan mentioned the client services initiative. There is also the main initiative, as we have been growing in Maine, we have been shifting some work to that new operating center, and so that will add this some headcount growth.

Richard Close - Jefferies

Okay, thank you. Congratulations.

Carl Byers

Thanks Richard.

Operator

Our next question comes from Newton Juhng of BB&T Capital Markets.

Newton Juhng - BB&T Capital Markets

Thanks just a quick following question here. The R&D expectations, should we expect an increase in cap software development cost as well, or just kind of ratably could that capitalized number go up a little bit?

Jonathan Bush

At this time, we don’t expect a significant increase in the capitalized software number. Today, we expense the vast majority of our development efforts. The clinical effort is very focused team. That's highly productive it has grown and will continue to grow to some extent. But we don't expect that number to ramp up radically.

Newton Juhng - BB&T Capital Markets

Okay, great. And then just CVS Caremark, we heard in the call that they are not planning on adding anymore MinuteClinic in 2009, basically exiting the year kind of the same level they are entering it. Does there more muted enthusiasm for that business alter your expectations for using that spaced to augment growth and just considering your own growth prospects. Obviously, you got a lot of other areas, but we are just kind of curious as to how you are viewing that space right now?

Jonathan Bush

We were counting on MinuteClinic to bring more than they brought. When they wise, I know that there is significant amount of exciting new management. I just met CVS's VP of Marketing who is now over the MinuteClinic marketing, They knocked our shocks for the marketing effort around the flu shots season. Almost knocked our hats with the volume that they were able to drive with the quick marketing bullets around the flu shot.

And obviously they have a new Chief Marketing Officer who has now taken over MinuteClinic. So we are eager to see what this incredible important new team added to the team that did the deal with us, that's still there can do, but we don’t have anything internally here that is counting on something for MinuteClinic to make 2009 a success.

Newton Juhng - BB&T Capital Markets

Okay. Thanks for the comment, Jon.

Jonathan Bush

Sure.

Operator

We go to Constantine Davides of JMP Securities.

Constantine Davides - JMP Securities

Thanks. Carl, a quick house keeping item, first. It looks like stock comp expense spiked a little bit in the fourth quarter, and I was just wondering if that's good way to sort of think about run rate for next year?

Carl Byers

Yeah. As we said before, we are not big fans of the Black-Scholes methodology. We are trying to figure out the impact on shareholders and stock and option. We always point people to the growth in the share based, and we have a very disciplined focused compensation committee that has targets that are fairly modest in terms of that count.

With regard to the actual expense, its functions are lot like when you capitalize and depreciate an asset. Once you recognize through Black-Scholes, the value of a given contract. It then layers on to the other items that are amortizing. When we have had a couple of folks, we from the senior management team that has moved that number around because whatever were they amortizing, stop amortizing. But in general, the number can bounce around a little bit because of events like that when it tends to go up, that tends to ratchet it up for some period of time.

Constantine Davides - JMP Securities

And then on the investment side, it sounds like Jonathan is talking about some of the client services investments, and are you sort of looking at another Maine-type facility coming online in the next year or two, and what are your CapEx assumptions gong forward?

Carl Byers

Sure. We do not anticipate a significant investment like the one we did in Maine any time soon. We have tremendous capacity there, but virtually we had done some hiring certainly in their subsidiary in India, which is a software development oriented group that is the seller of excellence, if you will, for on the last mile, connecting our network to have a payer, pharmacy and lab.

And so that's certainly another geography where we will put the right resources in place to accomplish our plan. But in terms of a major capital expenditure, we wouldn't expect that. We are going to shift locations in India, but that shouldn't be a huge number for us in terms of CapEx. Overall with CapEx, I think in the past we have talked about 6% of revenue. And towards the backend of our five-year plan, we are most likely less than that and we would stay with that guidance.

Constantine Davides - JMP Securities

Great, and then may be a couple of questions on clinical if I could. First, when you guys talk about your target model, in 2011, what kind of clinical assumptions are sort of underlying those target margin goals?

Carl Byers

That's a good question. I think historically we assume that Clinicals would inch in terms of a percentage of our clients that use for Collector and Clinicals here. More or less each quarter inch that up. We currently have about 4% cost penetration, which isn't a big number, but if you are saying that [Jen] announced that only about 4% of doctors are actually using a fully functional electronic health record today. So our cost penetration came to near that, because it is fully functional, a CCHIT certified on the '06 standards and we expect it will be '08 certified soon.

So we feel that that part has matured nicely, and it's so not right on time, because the big change out of Washington is shifting to a result-based approach to reimbursement on a value based reimbursement. And stimulus act essentially injected a significant amount of caveats into the stakes that they are going to use to get doctors to do the right thing, which includes providing clinical data, certain transaction sites that are known to be more higher quality with electronics.

We are absolutely committed to making sure we are the best in the world against commissions paid, and so we will be making sure that our clients are taking advantage of those opportunities. And as their revenue cycle partner, we are actually in a position to make sure that they are actually paid when they do the right thing.

So, in terms of the Clinicals ratio, as before what is expected a modest increase, because there wasn't real money on the table. As more money goes on the table, the reason to adopt goes up. And so it certainly could factor into being a larger portion of the mix going into 2011. And that does a couple of things.

First of all, you can actually grow revenue with less expenditure in the sales and marketing lines, because our Clinicals cross-sell is basically out of the direct operating expense, it’s account managers or professional services team for the fully expense in the gross margin for having those conversations and implementing.

At the same time Clinicals is its operating leverage cycle, and so that can work against that extremely high variable margin in Collector. So the point I think is just like everybody there is uncertainty about exactly how much adoption there will be. But we are thrilled that we have the capability and the value proposition set this apart so that we can actually make it worthwhile for doctors to adopt.

Constantine Davides - JMP Securities

Last question and I will hop out, is there a strategy here where could your growth in the Clinicals has been around cross-selling will you look to break that product apart and market it as a standalone, or will it be let's focus on the base we have, we know those customers and that's sort of an easier penetration opportunity?

Jonathan Bush

This is Jonathan. First of all, it's worth noting that 85% of our upfront sales of Collector include a picture of NOL kind of assessment of Clinicals. So, we are being in way selected for clinical if not contracted for clinical in most of Collector sale. But as Carl mentioned, it is necessarily cash ROI for slowing yourself down to writing prescription quite yet.

are looking on making that a positive cash ROI on the cost side without the government and the payer community's help. Obviously the government just stepped in and potentially helps the revenue side of this adoption cycle, and so maybe more of those 85% of our new sales that sign for Collector will say yeah, flowing clinical right upfront as well.

Certainly our long-term direction is what we lovingly refer to as a senior one, where you get collector, clinical communicator maybe someday there is product cost Controller will allow the scanning area, there will be scan your bills and payrolls for you. And the goal is to get the doctor out and start work. And genuinely they have been brining health for May. And so the last direction it's really much the opposite of the direction of breaking things apart further.

In fact by the end of the year, the user experience that every customer on Collector users would be same the one existing that are on clinical. So we are really minor event and much more minor event for them to say heck, why didn't you turned on clinical for me as well?

Constantine Davides - JMP Securities

Got it. Alright, thanks for color guys.

Operator

Our next question comes from Sean Wieland of Piper Jaffray.

Jonathan Bush

Hi, Sean.

Sean Wieland - Piper Jaffray

Hi, guys. Thanks, good morning. So I apologies I got dropped off the call. If any of these questions have been asked just let me know. My first question is how are things going in the large group practice market, specifically is there anything changing in that market you got university physicians in the quarter.

How that pipeline look and the increase that you are anticipating in sales and marketing does that have anything to do with your target in that market?

Jonathan Bush

So yeah, we were very excited about that market. We have four more years, I think I have mentioned in the last call. We have formed, formally an enterprise services group at Athena that unlike our other segment approaches stands marketing, product development, sales and long-term ongoing enterprise relationship management.

On theory that we can show those guys for six months and have them disappear, given that elaborate some of these conversations are. We got some wonderful executive level sales folks into that new group, which is being lead by Nancy Brown and the sales part that lead by [Derrick] here at Athena.

We just added some terrific guys from the audits formerly known as IDX that have tremendous track record here that we have already appeared as we saw them across the room. So we are very, geared up to really go after this segment. There is changes to the way we do some of our administrative reporting inside. athenaNet, so we have larger queues and largest staff can be managed to the more simple manner. As you know the core looking at networks perfectly from enterprise and as the some of the national core profits that we serve have already earned pleasantly, so we are very focused on it, outlined my goal of getting third of revenue from that booking, from that segment from good practices and from small.

Obviously, it's a much more scalable segment to sell into. If not a scalable its sort of service as an executive, but yes saying that very bullish on that segment, very invested in it and certainly a part of what our increase in sales of marketing and that sales salaries staff is focused on.

Sean Wieland - Piper Jaffray

Right, and so if your goals are get a third from that market, what percentage is coming from it today?

Jonathan Bush

Well, it bounces all around. I can't get you the details of where it is. If you can imagine that to sign one more $8 million deal or $5 million or $10 million or whatever it is $1 million dollar deal, if the customer is ready that much more time for sales person, so it can bounce all over the place.

I do not want to be an exclusively enterprise-dependent company one of the things love most, about leadership integrators our revenue comes from over 1,300 different customers. And so we can do the right thing by each customer, without co-dependently being sort of boxed into doing something that they need right now, but may not benefit from.

Sean Wieland - Piper Jaffray

Okay. Second question, I know it just come out, but is there anything that you saw on the Obama budget, if you had a chance a look at that, that would impact athenahealth?

Jonathan Bush

Obviously the High Tech Act impacted athenahealth incredibly, closely in so far as $18,000 in one year, down to 12, down to 8, down to 4. is enough to move it after . We are certainly moving the athena first,. especially, if this definition of meaningful news its core meaningful. So, that High Tech Act it should be all good.

It's not a continuum from incredibly good to pretty good. And we don't know how will they execute it, if they don't have a secretary etcetera. In terms of budget itself, we didn’t see $600 billion and whatever they call it, backup money from Medicare and Medicaid, we don’t know what that does for or against that, Carl?

Carl Byers

Primarily full quarter I mention is regardless of the politics of it more people are having health coverage is generally good for the volumes going through our practices. People got caused in the wallets, unrealized they hit one of our customers. Then, people go into ER and getting reimbursed by the state government for a uncompensated care.

So, marginally empirically, more people caused in a lot this is good for business. But obviously the Medicare piece requires a lot of focus and works to our advantage when we have to prove your results to get paid more. Works to our disadvantage I would say cut reimbursements.

Sean Wieland - Piper Jaffray

Okay, last question the delayed flu season would that have any impact on our Q1 numbers, just given the timing of the receivables.

Carl Byers

John this is Carl I think we would try to stay away from comments that are so particularly related to one very large customer except to say, it's some what early in the quarter to tell.

Sean Wieland - Piper Jaffray

Okay all right thanks a lot.

Operator

We will go next to Donald Hooker of UBS.

Donald Hooker - UBS

Hey great. Thanks for taking my question. Going back to the earlier question of patient satisfaction I think you all had targeted 90% or something if I am correct. I do not if there was a timeline to that is that still kind of a longer term goal is that we should hope for a longer term.

Jonathan Bush

It is my longer term goal and I do not have timeline to give you on it, I think that it would make a big difference. I think those incremental points really, really drives enthusiasm in the support of our sales force more than anything else from our customers. We do not plan on getting that high as we roll-out this new infrastructure in '09 but it is what I want to see some day. And I am not done yet.

Donald Hooker - UBS

So like '10 or '11 may be, is that fair?

Jonathan Bush

We are not getting specific that sounds like a great year.

Donald Hooker - UBS

Okay that's fine. Moving on the rental rates, so I guess on the opposite side of that are there more people turning off the service or is the renewal rates are same?

Jonathan Bush

In Q3 we mentioned that we have little bit of a spike in enterprises where we had a happy customer who is performing really well and they are owned by some one far away, who did not even know it existed. And is that okay, we are consolidating to this or that, that turned out to be a blip as expected into Q4 we were turning to normal levels of churn.

Donald Hooker - UBS

That's like 2% or something right?

Jonathan Bush

Historically, we stated and that related by about 97%.

Donald Hooker - UBS

And one last question, and let other ask as I know we are running out of time. The first pass resolution rate I think is a metric that people like to watch, did you say that number?

Jonathan Bush

We did say that first, but I am happy to say it again because that's a great number, its 92% in Q4 which was up about 111 basis points sequentially.

Donald Hooker - UBS

Got you, and NOL balance.

Jonathan Bush

You know the NOL actually went up in '08 I have always remembered that accounting professor who said there is no where in all accounting with what happens to tax is the same with what happens with GAAP. And except if you are in manufacturing and its true here. We actually lost money on a tax basis in '08 because we have $24 million of in the money exercise stock options that are deductible for tax purposes. So NOL actually increased about $59 million by the end of '08.

Donald Hooker - UBS

Okay. Thank so much.

Operator

We go next to Corey Tobin of William Blair.

Corey Tobin - William Blair & Company

Hi good morning, congrats on a great first year. The couple of things if I could here, number one, Carl, can you comment on patient volumes I mean there is a lot of letter in the press about can you give us your updated thoughts there.

Carl Byers

I am happy to we did re-run the analysis that we shared at the Investor Summit in December. It remains the case that there is no material change in appointment volumes for position that we have seen in aggregate, specialty-by-specialty that maybe differences. I think, one question is as we have pointed employment rate to high enough that the shift from commercial to Medicaid, moves the needle you would have to get pretty high, I think to churn the numbers that's the other thing to sort of look at, but in general patient volume seems to be inline with expectations.

Corey Tobin - William Blair & Company

Okay. This is your recognition of revenue is you are minusing is it one month delayed or two month delayed?

Carl Byers

Its not delayed it's just defined by when we have actually not just put cash in our customer's bank account, but also reflected all the information about that posting. Posting today is less than two days. So, basically the revenue recognition is when cash goes into our client's account and then we can say that our service is complete and we can take our percentage of that cash.

Corey Tobin - William Blair & Company

Great. Shifting gears for a second. Collections per provider just even what's going on with the mix in the customer base? Can you give us a bit of feeling for how you expect that to trend over the next year? I guess what sort of increase in terms of order of magnitude would you think is realistic to model for that metric in 2009?

Carl Byers

Well, it comes down to ultimately higher modeling the cash of our clients which we talked about through collections. And I talked that two investors who shall we name, who predicted our collections in Q4 within $1 million out of $1.1 billion. I think that the most successful method for doing that is to come up with a MD equivalents number which is the physicians counting as one and the non-physicians counting as a portion of one.

I think the most successful model to-date for those who want to play with the numbers count the non-physician as half a physician and some people have modified the mid equivalent expectations to be a different ratio because of dynamics of that account. But the one way of saying that revenue per MD equivalent collections per MD equivalent is probably the way to go because then has there is a diversions in a way as the ratio of non-physicians changes that number can adjust for it.

If you look at business services revenue per MD equivalent that was up 2.8% in Q4. So basically returning to year-over-year growth, we had a reduction in Q3 because of the very large number of new providers in that quarter before the full effect of their collections that kicked in.

Historically, it bounced from anywhere from 1% to 8% or 9% and I think though it's helpful to stay at the lower end of those ranges and then be pleasantly surprised.

Corey Tobin - William Blair & Company

So you would expect it to continue some positive growth in '09?

Carl Byers

I do not see a reason why it would not I mean only if somehow there is a radical shift towards Medicaid from commercial, or a real change in the average productivity of the people in our network and we do not anticipate that.

Corey Tobin - William Blair & Company

Right. And finally just can you please update us with respect to what to where the EMR product stands regarding CCHIT certification.

Jonathan Bush

That was, and we are ready to give you the answer and that's probably a set of muscle memory we are going to need to develop application in to the Federal Government waiting to hear the answer. We do not know the role of CCHIT certification in the new payment plan but whatever happens we will only be CCHIT certified just in case. And ready certify anything else to make sure that money is available all goes to our clients. And also about to finish just did finish our [Echub] certification which is a big, actually much more profitably usable for our customers.

Corey Tobin - William Blair & Company

Great, congrats again thanks.

Jonathan Bush

Thanks.

Operator

We will got next to Glenn Garmont of Thinkequity.

Glenn Garmont - Thinkequity

Thanks good morning. I will make this real quick. Carl appreciate the comments regarding your gross margin expectation in the first half, but just to be clear. Would you expect the gross margins you sort of characterize that as a temporary pause, would you expect gross margins to be up year-over-year for the full year?

Carl Byers

Sure as you know we are talking about the first half of the year in those comments. Then here the margins potential of the business is very, very high and I mentioned that when talking about the incremental variable margin being well above our gross margin. These investments that Jonathan described and then I elaborated on are really fixed costs investments in serving clients, building a team that does new things that will be scaled over the entire the network.

So I look at it really as in when we say investments on the, what we really mean is some increases in fixed cost but underneath the hub you have this very predictable and lucrative variable margin that contributes against it. So certainly as you, if we step on the gas pedal of some of these investments which we think as raising the business over a long run as soon as ease back on that gas pedal of fixed cost growth you should return to very healthy margin expansion. And so the back-half of the year, I would expect that.

Glenn Garmont - Thinkequity

Okay and in a real quick final follow-up with regards to the ERA and specifically the coverage component it’s 100% payer coverage visible and what are some of the reasons why you wouldn’t be able to connect with the payers, are there just payers out there that are so small that it just does not make sense to make that investment?

Carl Byers

Yeah I think it is a nail on the head it is feasible and is conceivable but it would not be economically advantageous to get the last guy up and running and I think that speaks to our business model. Lot of people have entered Healthcare thinking they want to create something that's 100% electronic and they fail because they can not meet all the needs of the customer or the payer or whoever.

Because the reality is there will always be a paper trail, however small. And so having the ability to take all transactions paper or electronics is where we have core competencies. Obviously we want to drive those electronic rate as high as we can to drive up margins and increase scalability, but it is the fact that we can actually operate electronically and in the analog growth that gives us our strength in EMR especially because no matter how hard you push an electronic lab rates and electronic prescriptions. There will be a paper trail, if only you are dealing with other doctors but certainly dealing those transaction types.

So, that is a huge strength of ours, it will always be paper trail. They are still is for stock settlement. There still is for Visa Cars, there still is for any highly scalable network based business service but obviously over the long run you want those ratios to be as attractive as possible.

Glenn Garmont - Thinkequity

Okay, excellent. Very helpful, thank you.

Operator

We will go next to Sandy Draper of Raymond James.

Sandy Draper - Raymond James

Thank you very much. I know it's been a long call, so I will try to limit my questions and follow-up with Carl later. I guess the first question comes back to something Jonathan said earlier in response to a question about the 85% of new doctors who are looking at system look at Clinicals. I am just curious if you can add to that. The doctors you actually have, how many of those were people who used the financial of Collector first then added Clinicals or maybe there is another way to look at it. How many docs are going signing up for both at the very front or they want to get to the Collector first before they turn on Clinicals?

Carl Byers

It is in fact our recommendation that they do that. They get the money that they are going to get from that flush of cash flow. The dates are dropdown in the first 90 days and if their raring to do more at the end of day 90 then turn on Clinicals and if it’s a year or two or if they want to wait until this stimulus package kicks in, obviously that would be to bad, but totally understandable. We are really focused on making sure that all of our customers are making more money then they were making before and we are not going to profit long-term by having them do something with us, try reverse to that trend. So that’s the way we treat that.

Sandy Draper - Raymond James

Okay, thanks and that’s very helpful and then on the obviously that the big step up in non-MD providers or was that pretty much all from many clinic was there, was there much other stock that drove that big step up?

Carl Byers

While we obviously had non-physician providers all the time for all the accounts operating wide. But if you look at the difference between the physician growth and the total provider growth, a big portion of that delta can be attributed to the new clinic which is exclusively non-physicians. So and they also point out we measure providers based on when we submit a claim the number of discrete providers for whom it's at least one claim and. So as they get folks potential, as they get going, there were some incremental growth in Q4 for that.

Sandy Draper - Raymond James

Okay great, final question and I will drop off, your comments about the increased investment and R&D, be obvious we actually step that up and in 2008 as well, and I am just curious if you look at are you suggesting you could actually see more dollar growth or just similar type of year-over-year percentage growth as you step up R&D?

Carl Byers

We are specifically saying is that R&D as a percentage of revenue, will be lower in 2011 and inline with our target model but right now, we do not think it be economic to reduce R&D as a percentage of revenue because that what’s driving up the gross margins for automation work, that's what's expanding the value proposition across the products we and so what we are saying, it certainly will be the case that by 2011 R&D as a small percentage of revenue but we do not expect it to fall, the percentage of revenue in this year.

Sandy Draper - Raymond James

Okay perfect that's helpful thanks Carl.

Operator

We will go to Frank Sparacino of First Analysis Corp.

Frank Sparacino - First Analysis Corp.

Hi guys real quick, Carl could you just give the year end headcount in a year by functions including the sales headcount?

Carl Byers

Sure, we had 824 employee at year-end. 508 were direct, 96 sales and marketing, overall within that 35 people carrying quota, 15 with small group segment. 96 folks I am sorry I mentioned, 118 in R&D, 102 in G&A.

Frank Sparacino - First Analysis Corp.

Okay thanks guys.

Carl Byers

Thank you.

Operator

We will go to Leo Carpio of Caris & Company.

Leo Carpio - Caris & Company

Good morning gentleman just wanted question quickly. Regarding competitive environment have you seen any notable changes among your competitors in this quarter?

Jonathan Bush

Notable changes among our competitors, I try to keep our sales guys from not even worrying about, most of the people that are naming the competitors of ours are software companies. And so I view we are notion of trying to do things yourselves with software as the competitor.

So I do not really keep much probably don’t no, no I do not know anything that happened amongst the software companies that is notable. I mean once in a while we hear about software company buying a billing service which we consider to be a form of flattery although in the last quarter we don’t know anybody who went and bought one.

And I think its also true that if you shift your business model from a license software one to what we do is almost impossible as a public company and I think the folks who have bought billing services are probably using them in same boxes to learn the hard way what entails.

Leo Carpio - Caris & Company

Okay, and then last question, in term of the economy, have you seen any effects in terms of your customer interest and demand?

Carl Byers

Hi, this is Carl. I think our value proposition which is almost no money down and we get paid when you get paid, plays very well this environment. We are not asking people to cut a check that comes out of a bonus pool, or a CapEx fund, or a big institution that has to be financed. So, well, so the advantage is that we do not have the negative that others do, whereas before, that may have been less of an issue. So, I think as a result, we are not seeing a tremendous amount of an issue there.

I think, the economy in general causes a few people to freeze, but also causes other people to say when times get tough. You know, its time to take action here. And so, our positioning and the fact that we can actually help you make money and be a source of cash, by getting your AR down. I think that nets to our benefit in this economic climate.

Leo Carpio - Caris & Company

Okay. Thank you, and congrats for the quarter.

Carl Byers

Thank you.

Operator

We'll go to David Bayer of Cantor Fitzgerald.

David Bayer - Cantor Fitzgerald

Hi there. Thanks for taking the call. I appreciate this has been a long one for you. So, I'll try and keep the questions brief. I have a couple of revenue side questions and then one G&A question. May be I'll ask the mundane G&A question first. I know, you talked in the past that the settlement for the patent suit was about $0.02 a share. And then, apparently it was reflect in the G&A line. I wonder if you can tell us the exact dollar amount and then may be if you just give us some sense as to how you see G&A playing out for the year, just sort of put that into perspective for us, as we move that from the baseline? And then, I have a couple of the revenue question after that.

Carl Byers

Okay. Sure, in terms of G&A, you are right, the Billingnetwork settlement was in Q4. There is a settlement announced. There was also outside legal expense and people traveling the mediation hearings and so forth. What we said is there was no more than $0.02 per share, but we take it more specific kind of the terms of the settlement.

In addition in G&A in the fourth quarter, you have some year end compensation items, the company achieved higher than its goal in terms of it balance score card, and so entire bonus accrual, the company was increased as a result and people who are paid for out performance or paid accordingly.

And so obviously, we want to keep outperforming every year, compared to original expectations we did better and so in the back part of the year, you actually start accruing more and more bonus accrual as the results are strong. And lastly, I point out this is our first year where we will be filing your SOX audit on Monday. Everything is going extremely well in that regard.

And in the back part of the year, we had higher audit tax consulting and so forth related to that first year of Sarbanes. So there were some one-time items certainly in the G&A area, but I would also caution that its best to look at our business year-over-year, because some dynamics are seasonal, so we said year end there is some salaries are going up as a result of year end appraisal.

We also have the phenomenon where you a full payroll tax at the beginning of the year for everybody, and then people start toping out in $90,000 and so by the last quarter a significant portion of the company is, there is no tax and so seasonal elements mean that you will have to look at the expenses of the business year-over-year as oppose to sequentially.

David Bayer - Cantor Fitzgerald

Okay. So I mean, I guess, I am just wondering should we just sort of look at the similar G&A line from last year and then have a percentage added it to it, is that the way to think about it perhaps?

Jonathan Bush

We leave it to you guys to figure out the best way to model it. I will remind you, we did have an S-1 write-down in Q1 of '08, so that's another item to adjust for in your thinking. But at the same time, this is one of the reasons we don't give lot of short-term guidance, as we are not sure that as constructive is focusing on the business model and strategy in long-term.

David Bayer - Cantor Fitzgerald

Okay. So let me try and question to probably what are the more exciting step on the revenue side. On the hospital, Cleveland roughly 450 providers are part of that, is there still and then you will probably pick them up somewhat ratably over the year or give me thought on that, and I have a couple of other questions along those lines.

Jonathan Bush

Obviously, how that happens. We are in favor of more sooner, but we would never do more sooner that that will hurt plan, orders that back into stability of their organization. So again, why not spread it out over the year. I don't know yet.

Carl Byers

Well, I think also is important is call segment-by-segment your different average duration for implementation. There is no practice segment the of sales cycles and implementation could be less than a quarter each whereas in enterprise segment the implement could be long, since you have phase implementation, our you have interfaces or you have bureaucracy that you have to navigate in any context like that.

So, I will just urge caution on implementation cycles for large accounts that we announced for that very reason. But at the same time, as we have shown in quarter whether our big names going wise, the business itself is constitute of loss and accounts that are too small to mention is itself doing extremely well and therefore driving the growth.

David Bayer - Cantor Fitzgerald

Okay. One of the thing that we all try to do is make sure that we don't get over ambitious in our modeling for the company in the first quarter and so you had mentioned that once we get a new customers in the MinuteClinic, and I know you mean I wanted a verbal, I think we can.

Roughly the multiple figure you have the equivalent, 1,000, physician equivalents there in the quarter, but there is a big season from them flu shots whatever. As we think about the year as a whole, may be just give us some thoughts that how to think about that businesses is part of our monitoring process would be able to get a little incremental.

Jonathan Bush

Sure. It's revenue for us too, because any time we have a new client need, we come to learn more and more as time goes by. This is one where we sign the deal and then went wide in a very short timeframe. We work very closely with their team to do that in that timeframe.

Lot of people thought couldn't be done. And we were able to get them and running ahead of flu season. So I think the short answer is we can't tell you precisely what to expect in that regard. A, because we wouldn't want to give you a lot of customer-specific information. But, B, it's our first time around the track. And so we are ready for as much business as can come our away in terms of serving it, but we don't have specific forecast to show that.

David Bayer - Cantor Fitzgerald

And I know this question has been addressed on the call once before, but I think it's a very important question for those institutional investors. So I would like to sort of go back to it one more time. What's the scenario would economic slowdown, really starts impacting you are thinking about the collections improving physician in a meaningful way? Could you give us some sense of this pressure a little bit more?

Carl Byers

I think what we would like to do. I think I'm referring to marks we made earlier. And we don't have a crystal ball on every aspect of the economy and healthcare except we believe it is resilient we have not seen it drop off in payment volumes and that would be our real indicator.

It was a shift in payer mix that can affect reimbursement amounts. But then that’s just something really you have to wait and see how it plays out. I just think that healthcare is a priority for any family and people make it happen when they need to see a doctor, and so we will see what happens overtime and beyond that it’s hard for us to give specific guidance.

David Bayer - Cantor Fitzgerald

Okay I appreciate it.

Carl Byers

Guys who have been cutback upon in the medical space aren’t typically the guys who are billing third-party payers, they are typically the guys who are doing things largely for cash and those guys don't typically come to athena for help since our expertise is in dealing with all of these claims and stuff like that.

David Bayer - Cantor Fitzgerald

So for highly vector procedure, you're not seeing physicians anyway?

Carl Byers

Correct.

David Bayer - Cantor Fitzgerald

Fair enough. Thank you.

Operator

And at this time, there are no other questions in the queue. I'll turn the conference back to management for any additional remarks.

Carl Byers

Thanks everybody for listening in and we look forward to following up with you later.

Operator

That does conclude today's conference call. We thank you for your participation. You may disconnect at this time.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: athenahealth, Inc., Q4 2008 Earnings Call Transcript
This Transcript
All Transcripts