Shares of Cerner (NASDAQ:CERN) spiked up on Friday's trading session, setting fresh all time highs in the process. Halfway during the trading session, the company announced that it has closed a strategic partnership with Intermountain, an operator of hospitals and clinics.
These kind of long term deals, which provide earnings visibility and add to the order backlog, are appreciated by investors who send shares 8% higher on the news.
While I like almost everything about the company, I don't like the valuation, a reason for me to stay on the sidelines.
Cerner announced a strategic multi-year partnership with Intermountain. Under the agreement both firms aim to improve healthcare quality while making costs sustainable.
Intermountain is a non profit operator or 22 hospitals and 185 clinics, employing some 33,000 workers. It is a leader in quality improvement and data analytics, while Cerner expertise lies in information technology. Combined, Cerner's electronics medical records will be implemented through Intermountain's hospital and clinics.
Both companies recognize the importance of advanced information technology in achieving greater outcomes for patients, as well as the need for lower costs. In essence, Cerner's system will be integrated with Intermountain's electronic data warehouse, which the company has built over the past decades.
CEO and Chairman Neal Patterson commented on the rationale behind the partnership, "Several decades ago, when I was just starting out, I would go to Intermountain to listen and learn. Intermountain has a globally recognized focus on systematically working to increase quality and decrease cost. Intermountain's vision around Shared Accountability represents the future of healthcare."
It seems that Intermountain has long searched for a partner, and eventually chose Cerner. Intermountain chose for Cerner as its software is based on an open architecture, making adjustments easier. Key expected developments include connectivity-based costing, care-process models, advanced-decision support as well as clinical workflows.
Both companies recognize that the healthcare business will transform from a volume business to payouts based on clinical outcomes and health improvements.
Cerner did not release any financial predictions regarding the outcome of the partnership.
Cerner ended its second quarter with $1.5 billion in cash and equivalents. The company operates with merely $181.9 million in total debt, for a net cash position of around $1.3 billion.
Revenues for the first six months revenues came in at $1.39 billion, up 8.5% on the year before. Net earnings rose by 19.5% to $222.9 million. Cerner guided for full year revenues of $2.95 to $3.05 billion. Full year adjusted earnings are seen around $480 million, or $1.40 per share.
Factoring in gains of 8% following the news, with shares exchanging hands at $53 per share, the market values Cerner at $18.0 billion. This values operating assets at $16.7 billion, the equivalent of 5.6 times annual revenues and 35 times adjusted earrings.
Cerner does not pay a dividend at the moment.
Some Historical Perspective
Cerner has been a long term value creating stock for its shareholders. Shares have steadily risen from $9 in 2008 to fresh all time highs of $55 on the back of the announcement of the partnership.
Between the calendar year of 2009 and 2013, Cerner is expected to grow annual revenues by a cumulative 79% to $3.0 billion. Adjusted earnings are seen up by 149% to $480 million.
Deals like these are important for Cerner adding to the predictability and long term backlog of the business. You can see the importance of the deal, by the decision to relocate key executives to Salt Lake City as well, including executive Vice President Jeff Townsend, to aid on the collaboration.
This deal once more illustrates the strength of Cerner. Second quarter bookings came in at $935 million, up 33% on the year, boosting the backlog to $8 billion, or almost 3 year's worth of revenues at the current pace. The solid bookings in the quarter led to a book-to-bill ratio of 1.33 times for the quarter, while gross margins further rose to 82.2% of revenues.
Cerner notes that recent industry consolidation, driven by the impact of ObamaCare is a net positive to the business. Cerner's clients gain larger scale, while the company already often has relationships with those businesses, allowing Cerner to provide its services to the be acquired facilities.
Given the strong backlog, ObamaCare, and increased focused on healthcare costs, Cerner is a great long term business, poised to gradually, but meaningfully grow earnings and revenues over time. Growth is already accelerating again, driven by solid bookings, which on their turn are driven by the new businesses being introduced by the firm; RevWorks and ITWorks.
Investors applaud the deal, having seen the major impact of such accretive deals in the past. Unfortunately an investment in Cerner is no chap at currently 35 times earnings, after shares have risen some 35% so far this year, trading as low as $9 in 2009.
While I agree in that I like everything bout Cerner; its management, growth potential, growth, margins and market position, I don't like the valuation at this point in time.
While the company can easily "outgrow" these valuation in the long term, if it steadily grows its operations in a profitable manner, I see few triggers for short term outperformance.
Disclosure: I 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.