On June 15, Bill Simpson wrote an analysis of Medidata Solutions (MDSO). In its market debut Wednesday, June 24, Medidata shares priced for $14, above the original estimate range. The company sold 6.3 million shares, raising $88.2 million.
The text of Mr. Simpson's original writeup to TradingIPOs subscribers follows:
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Medidata Solutions plans on offering 6.3 million shares at a range of $11-$13. All of the shares are being sold by MDSO. If the over-allotments is exercised, however, insiders will be selling 945,000 shares. Citi and Credit Suisse are leading the deal, Jefferies and Needham co-managing. Post-ipo MDSO will have 22.4 million shares outstanding for a market cap of $269 million on a pricing of $12. IPO proceeds will be used to repay outstanding debt and for general corporate purposes.
Insight Venture Partners will own 21% of MDSO post-ipo. Insight also owned a significant chunk of recent ipo SolarWinds (SWI).
From the prospectus:
'We are a leading global provider of hosted clinical development solutions that enhance the efficiency of our customers’ clinical development processes and optimize their research and development investments. Our customers include pharmaceutical, biotechnology and medical device companies, academic institutions, contract research organizations, or CROs, and other organizations engaged in clinical trials to bring innovative medical products to market and explore new indications for existing medical products.'
This is an on-demand software platform for clinical trial data management. MDSO's software platform is designed to migrate clinical study data into one comprehensive online electronic point.
Customer base includes 22 of the top 25 global pharmaceutical companies. Since 2007, largest customers have been Johnson & Johnson (JNJ), AstraZeneca (AZN), Amgen (AMGN), Astellas Pharma (ALPMF.PK) and Takeda Pharmaceutical (TKPHF.PK).
Medidata Rave is MDSO's principal revenue driving platform. MDSO derives the bulk of their revenues via multi-study arrangements from customers for a defined number of studies. The Rave platform integrates electronic data capture with a clinical data management system in a single solution that replaces traditional paper-based methods of capturing and managing clinical data. It's designed for clinical trials of all sizes and phases, including those involving substantial numbers of clinical sites and patients worldwide.
Sector - Traditionally, paper-based manual entries into computerized form has been the primary data collection technique in clinical trials. MDSO believes that while electronic data capture has become widely accepted, currently the majority of clinical trials still employ a form of paper based manual entry techniques. MDSO estimates that the total potential market for clinical trial electronic data capture is $1.4 billion annually worldwide.
The clinical trial space showed explosive growth from 2000-2007. Pharmaceuticals, biotechs and life science companies easily obtained the funding necessary to conduct clinical trials during this period. Access to public market funding was open, private equity firms and venture capital funds flowed and debt financing was easy to secure. Easy funding and the aging of Europe and North America led to unprecedented clinical trial testing for prospective new drugs. That came to a stop in 2008.
One look at the charts and continued estimate cuts in the contract service organizations involved in clinical trials (CVD/PPDI/KNDL, etc.) shows a trail of tears over the past year. Some of the stocks in the sector gave back nearly all of a 7+ year huge bull run. It has not been an easy sector backdrop for a company such as MDSO the past year or so. We shall see below how MDSO weathered this worldwide clinical trial slowdown.
MDSO solution - MDSO lists all the advantages of their software platform. We could delve into that for a few paragraphs I suppose. However, essentially MDSO can be summed up as this: Real-time data from clinical trials from inception through stages I, II, III and IV all on a single scalable electronic platform. A key feature is the ability to show real-time date for a clinical trial comprised of many different locations throughout the globe. Also MDSO's platform can be used in multiple languages simultaneously.
Hosting - MDSO hosts all client/customer data in one dedicated facility. MDSO is another example of the growing 'on demand' software and e-platform segment of the software business, with a data center twist. Client information is accessible online without the need to install extensive software at various sites worldwide.
The top 5 customers accounted for 46% of revenues in 2008. AstraZeneca accounted for 11% of '08 revenues and Johnson & Johnson 10%. For the first three months of '09, Takeda Pharmaceutical accounted for approximately 12% of revenues. Approximately 30% of revenues the past 13 quarters were from international clients.
Legal - Recently MDSO settled a patent infringement lawsuit claim for $2.2 million. The infringement suit was not directed toward MDSO, rather at a company whose technology MDSO incorporated into their platform.
Accounting - pre-ipo, MDSO discovered their revenue recognition practices were not in line with approved accounting policies. This caused the restatement of 2006-2008 earnings statements. While this is fairly common with pre-ipo companies with small accounting staff, MDSO appears to have had more issues than is the norm.
Competitors include BioClinica, etrials Worldwide (ETWC), eResearch (ERES), ClinPhone, Datatrak, Omnicom (OMC), Oracle Clinical (ORCL) and Phase Forward (PFWD).
$2.50 per share in net cash post-ipo. Note that financials below assume debt on the books will be paid off on ipo, removing all debt expenses. With $2.50 in net cash post-ipo, MDSO will begin to have net interest revenues going forward instead of interest expenses.
In 3/08, MDSO acquired FastTrack, a provider of clinical trial planning solutions. Purchase price was $18.1 million. The acquisition included substantial goodwill and intangible assets, the effect being added amortization and depreciation non-cash flow charges to MDSO's earnings statement the past four quarters. In addition to the GAAP charges going forward related to this purchase, MDSO also invested heavily in their data center capacity in 2006-2007. As MDSO will have $2.50 in net cash on the balance sheet post-ipo, these depreciation/amortization charges are not really pertinent to cash flows as there will be no debt drag from the investments. This is one of the rare cases in which I feel folding out this expense line gives a better idea as to the state of the operation.
Customer base has grown from 33 at 1/1/06 to 153 at 3/31/09. Customer retention rate was 87% in 2008. **MDSO did not lose any customers in the first three months of 2009.
MDSO recognizes their backlog as 'expected to be realized in current year' backlog. Backlog as of 1/1/09 was $116.7 million. As of 3/31/09, expected to be realized in '09 backlog was $91.6 million.
Impressive revenue growth since the first quarter of 2008. Revenues in the 12/07 quarter were $17,609. In the five quarters since beginning in 3/08 and ending in 3/09 revenues have been $20,979; $25,753; $27,810; $31,182; $33,602. This quarterly revenue growth performance is very impressive considering the dreary global economic climate over this period. At a sub $300 million market cap on ipo, a company laying on 10%+ quarter to quarter revenue growth is almost an automatic recommend. Factor in the very difficult clinical trial environment due to funding issues over the past year, and MDSO's rapid revenue growth is even more impressive. The issue here is not the growth, it is the bottom line.
Revenue growth is directly tied to substantial customer gains in 2008 and first quarter of 2009. MDSO either has a superior platform or they are significantly undercutting the competition in price.
The 12/08 quarter was MDSO's first profitable quarter on GAAP operational earnings. Again, MDSO's actual cash flows will be a bit stronger each quarter than GAAP earnings due to the amortization and depreciation charges from the FastTrack purchase. While MDSO booked a substantial GAAP loss in 2008, total cash flows were slightly positive.
MDSO has significant tax loss carryforwards and should pay minimal taxes in 2009-2011.
Approximately 70% of revenues is high margin application services revenues, 30% low margin professional services revenues. Think of the higher margins side as the software revenues and the lower margin side as the data service revenues.
2008 - Revenues were $105.7 million, a 68% increase over 2007. While MDSO did make an acquisition in 2008, nearly all the growth was organic and a result of an increased customer base. Gross margins were 52%, an increase from 2007's 27%. Gross margins would be low for the software segment, except MDSO is not really a software operation. They are a combination on-demand software, data center, and electronic platform company. Operating expenses were staggering at 67% of revenues, an increase from 2007's 63%. If depreciation and amortization are removed, operating expense ratio was 59%. Folding out debt expense (as there will be no net debt post-ipo), MDSO's loss in 2007 was approximately $0.70 per share. This includes all depreciation, amortization and stock compensation expenses. As noted above, MDSO was slightly cash flow positive in 2009 overall, so this loss is a shade misleading. **To get a clearer picture here, one should fold out the depreciation and amortization expenses. Doing so puts the net loss at $0.25 per share.
2009 - MDSO gives a very good '09 blueprint thanks to their 'expected to realize in '09' backlog count. Using that and first quarter results, total revenues for 2009 should be in the $140 - $150 million ballpark. This would be a strong 38% increase over 2008. MDSO continues to improve gross margins in their lower margin 'professional services' side as they add customers. Gross margins should increase to 64% for 2009, an increase from '08's 52%. As revenues have increased strongly, operating costs have remained flat the past four quarters. This is a nice positive as MDSO has been running 'hot' on GSA expenses the past few years as they've invested in growing their business. Total operating expense margin (including depreciation & amortization) should be 56%, a nice decrease from '08's 67%. Operating margins should be in the 8% ballpark. Due to the loss carryforwards noted above, MDSO's tax rate will be approximately 10%. Net margins should be 7% with earnings per share of $0.45. On a pricing of $12, MDSO would trade 27 X's 2009 earnings.
As noted previously, this to me is a case in which folding out depreciation and amortization charges give us a better idea of overall cash flows. Folding out those charges (but keeping in stock compensation), earnings per share would be $0.88. If we normalized taxes (instead of the 10% rate), earnings per share folding out these charges would be $0.64. To me this number gives us a better picture of MDSO's 2009 operations.
MDSO is sort of a stealth ipo. Growth has been phenomenal over the past year amidst a sharp overall slowdown in the worldwide clinical trials segment. The GAAP earnings, though, look horrific for 2007 and 2008. However, MDSO is trending strongly in revenues, gross margins, operating margins and net margins each and every quarter and is quickly approaching a spot in which net earnings should look far better than the past. Factor in their actual cash flows are disguised a bit due to non-cash flow charges and this one has strong sleeper potential.
Biggest negative here is that the sector has not been strong and on the surface, first glance MDSO looks unimpressive.
A quick glance at MDSO's closest public comparable PFWD: PFWD is not a true pureplay comparable as their clinical trial offerings are just a segment of the overall business. Also ERES has a segment that competes with MDSO, however ERES has seen their business falter significantly overall the past few quarters unlike PFWD/MDSO.
PFWD - $675 million market cap. $3.5 per share in cash. PFWD currently trades 30 X's 2009 earnings estimates with an expected revenue growth rate of 24%.
Conclusion - I like this ipo. MDSO is trending very strongly on all metrics the past 6 quarters in a difficult environment for the clinical trials sector. If trends continue (and the sector just normalizes), MDSO will have a banner 2010. As always, this is a young company that spends heavily on operating expenses each quarter so any hiccup will be greatly magnified. However cash flows here are increasing impressively each quarter, and at a sub $300 million market cap, this is an easy recommend in range. Stealth ipo, looks unimpressive first glance but is trending very nicely into ipo.