National Research Management Discusses Q3 2013 Results - Earnings Call Transcript

Nov. 6.13 | About: National Research (NRCIB)

National Research (NASDAQ:NRCIB)

Q3 2013 Earnings Call

November 06, 2013 11:00 am ET

Executives

Michael D. Hays - Founder, Chief Executive Officer and Director

Kevin R. Karas - Chief Financial Officer, Principal Accounting Officer, Senior Vice President of Finance, Treasurer and Secretary

Analysts

Ryan Daniels - William Blair & Company L.L.C., Research Division

Frank Sparacino - First Analysis Securities Corporation, Research Division

Operator

Ladies and gentlemen, thank you for standing by. Welcome to the National Research Corporation's Third Quarter 2013 Earnings Release Conference Call. [Operator Instructions] And as a reminder, this conference is being recorded, Wednesday, November 6, 2013.

And it is now my pleasure to turn the conference over to Mr. Michael Hays. Please go ahead, sir.

Michael D. Hays

Thank you, Jason, and welcome, everyone, to National Research Corporation's third quarter conference call. My name is Mike Hays, the company's CEO. And joining me on the call today is Kevin Karas, our Chief Financial Officer. Before we continue, I'd ask Kevin to review conditions related to any forward-looking statements that may be made as part of today's call. Kevin?

Kevin R. Karas

Thank you, Mike. This call -- conference call includes forward-looking statements related to the company that involve risks and uncertainties that could cause actual results or outcomes to differ materially from those currently anticipated. These forward-looking statements are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. For further information about the facts that could affect the company's future results, please see the company's filings with the Securities and Exchange Commission.

With that, I'll turn it back to you, Mike.

Michael D. Hays

Thank you, Kevin, and again, welcome, everyone. Two noteworthy achievements this past quarter were record net new sales of $6.2 million as well as our surpassing the $100 million mark in total contract value. Of equal importance was the performance of our post-acute product group, which returned to positive growth in contract value through robust new sales in the quarter.

With that, Kevin, I will turn the call over to you before I take the call back and highlight some additional accomplishments. Kevin?

Kevin R. Karas

Thanks, Mike. As we mentioned on the earnings call last quarter, we'll be reviewing our results going forward both in terms of our consolidated financial performance as well as referencing the impact on our performance from the Customer Connect subsidiary that was created in June of this year.

So for the third quarter, net new sales of $6.2 million were added, which helped increase our total contract value for the third quarter to $100.6 million. Subscription-based agreements continue to represent 83% of our recurring contract value. The third quarter total contract value includes approximately $400,000 from new Customer Connect agreements, of which 100% are subscription based.

Our revenue for the third quarter was $22.4 million, an increase of 5% over the second quarter of 2012. Revenue growth for the quarter continues to be comprised entirely from organic growth, which is driven by a combination of continued gains in market share and vertical growth from cross-selling, as well as increasing contract value in our existing client base.

Third quarter results do include approximately $20,000 of revenue from Customer Connect. Our consolidated operating income for the third quarter of 2013 was $6.0 million or 27% of revenue compared to $5.6 million or 26% of revenue for the same period last year. The third quarter consolidated operating income includes $471,000 in operating losses from Customer Connect.

Operating income for the third quarter without Customer Connect was $6.4 million, which represents a 29% operating income margin and an increase in operating income of 14% over the third quarter of 2012.

Our total operating expenses for the third quarter increased by 4% from $15.7 million in 2012 to $16.4 million this year. Direct expenses increased to $9.5 million for the third quarter compared to $8.6 million for the same period in 2012. This is the result of increased variable costs related to revenue growth and higher survey volumes for subscription-based products. Our direct expenses, as a percent of revenue, were 42% for the second quarter of 2013 and are expected to be at 41% of revenue for the full year of 2013.

Our selling, general and administrative expenses increased to $6.0 million over -- or 21% -- 27% of revenue for the 3-month period ended September 30, 2013, compared to $5.8 million or 27% of revenue for the same period in 2012. The SG&A expense for the third quarter without Customer Connect was $5.7 million in 2013 or 25% of revenue.

With the incremental expenses that are projected to be incurred for Customer Connect resources, our consolidated SG&A expense is expected to be at 28% of revenue for the full year of 2013.

Depreciation and amortization expense for the third quarter 2013 was $907,000 compared to $1.1 million in the third quarter of 2012. The decrease was attributed to declining intangible asset amortization expenses. Our depreciation and amortization expense was 4% of revenue for the third quarter and is also expected to be at 4% of revenue for the full year of 2013. The provision for income taxes totaled $2.1 million for the 3-month period ending September 30, 2013, compared to $1.9 million for the same period in 2012. The effective tax rate was 35.9% for the second quarter of this year compared to an effective tax rate of 34.9% for the same period last year. Our effective tax rate is expected to average 36.5% for the full year of 2013.

And our net income for the third quarter of 2013 increased by 7% to $3.8 million compared to $3.6 million in 2012. For the third quarter of 2013, our combined non-GAAP diluted earnings per share increased by 6% to $0.16 a share compared to $0.15 for the third quarter of 2012.

With that, I'll turn the call back to Mike.

Michael D. Hays

Thank you, Kevin. I'd like to make just a few remarks before opening the call for any questions that the audience may have.

As mentioned, our post-acute product group turned a corner in the third quarter with positive growth in contract value driven by strong new sales. This reverses what has been a negative 6-quarter trend, which contributed to the company's top line growth being far less than desired. As the post-acute group's increasing contract value is recognized as revenue, the growth rate of the company overall will be greatly enhanced.

As a point of reference, the other side of the house, the acute care product group have generated 18% revenue growth rate over the past 4 quarters, which of course, is clearly in line with our desires for the entire company. The fastest-growing products within our portfolio, all of which exceeded 25% revenue growth rates are market insights, CG-CAHPS, and what is now known as Customer Connect. Our plan is to pour more gas on what is currently working in addition to launching new offerings, which represent great growth runways for the future. One of these important new growth runways that we have talked briefly about is the Picker Institute. We announced at the launch -- we announced the launch of Picker Institute at our Annual Client Conference and received overwhelming support. In fact, now the Picker Institute will be modeled after our very successful Governance Institute, and plans are being finalized to commence selling membership the first of the year.

As we invest in enhancing current product offerings and launching new products, shareholders should expect a few changes. We've announced previously that we are and will continue to spend heavily on new product development, which is being funded from what otherwise would be funding dividend payments to shareholders. You should also expect slower growth rate in net income, as was the case this quarter, as a direct result of those investments.

And finally, before I open the call for questions, it's as important, you should expect greater organic and inorganic top line growth as these investments take hold.

With that, Jason, I'd like to open the call to questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from the line of Ryan Daniels with William Blair.

Ryan Daniels - William Blair & Company L.L.C., Research Division

A quick one just on the top line outlook. I know the acute care business continues to trend very strongly. And with the growth in contract value in post-acute, do you have enough visibility now to say that looking out to 2014, given the CV, that you think you'll return back to that double-digit growth rate for the full year?

Michael D. Hays

I don't know if we have 100% visibility yet, Ryan -- this is Mike. Clearly, the $100 million worth of contract value just in and of itself creates a strong foundation to get to, at least, single-digit growth, all things being the same. And if we continue the traction that the post-acute care group has generated, one clearly would assume that would put you into the double digit. But I think we ought to wait 1 or 2 quarters just to see whether their performance of late as continuity, which again, it appears to.

Ryan Daniels - William Blair & Company L.L.C., Research Division

Okay, that's fair. And then in the Picker Institute, I know you talked a little bit about that launching. I'm curious just what the early response has been in the customer base. I don't know if that really has been a contributor to some of the strength in contract value growth that you're seeing or the net new sales, maybe it's too early for that. But just any more color on how the market's receiving that would be helpful.

Michael D. Hays

Well, the qualitative and quantitative information we're getting is just all real new, but it's all positive. But to specifically answer your question, we have not sold any Picker Institute memberships yet. That will commence at the beginning of the year. So none of the record sales that we had in this quarter or sales that we'll have in fourth quarter or obviously none of the revenue that we've recognized as anything or any contribution from the Picker Institute yet.

Ryan Daniels - William Blair & Company L.L.C., Research Division

Okay, that's helpful. And then I guess final question just on Customer Connect. Obviously, it sounds like some pretty good early progress there on the sales front. I'm hoping to get an update and some details on the IT front. I think you talked about Illuminate being extended to kind of a full 30-day transition period module versus the initial callback. So any update on how that's progressed and then any other IT investments you're making there to kind of continue with the Phase I roll-off?

Michael D. Hays

Well you're right on track. The IT underpinnings or foundation is clearly where we're focusing. We have a very sophisticated IT development partnership in the joint venture, and they are in -- all in relative to working out the product roadmap. There will be fairly significant deliverables for -- right after the first of the year which start to elongate the longitudinal perspective on transitions, as well as then through the course of next year, added feature functions that create quite a bit of incremental upside to even current installed clients on the old Illuminate product. So to answer your question, simply, is yes, the IT underpinnings are critical part of the investment.

Ryan Daniels - William Blair & Company L.L.C., Research Division

Okay. And then, I'm sorry, one last one, I will get off. Just for Kevin, I'm not sure if I caught this right. Did you say direct expenses should hover around 41% for the full year? And the reason I ask is you've been trending in the mid-42% level. Would require a nice step-down in Q4 to get there, but I may have heard that wrong.

Kevin R. Karas

No, that's correct, Ryan. We're still projecting close to 41%. It could be slightly higher, but that's what we're seeing right now.

Operator

Our next question comes from the line of Frank Sparacino with First Analysis.

Frank Sparacino - First Analysis Securities Corporation, Research Division

Maybe first, Kevin, on the expense side of things with Customer Connect, I'm just trying to figure out what the total spend is right now?

Kevin R. Karas

So the operating loss, as we mentioned, Frank, was $471,000 for the quarter. We did recognize approximately $20,000 in revenue, so the total expenses would be the sum of those, so approximately $500,000 in expense for the quarter.

Frank Sparacino - First Analysis Securities Corporation, Research Division

And do you have a sense as to where that's going to trend over the next couple of quarters?

Kevin R. Karas

I think as Mike mentioned on the last call, our expectation was to invest or spend approximately $1 million in 2013, and then up to $1.5 million in 2014. So that $500,000 rate that we saw in Q3, I would expect Q4 to be similar or slightly higher.

Frank Sparacino - First Analysis Securities Corporation, Research Division

Okay. And then just following up on CG-CAHPS, maybe can you just talk about kind of where we're at in that market in terms of adoption? It's not a requirement yet, but I'm curious as to how aggressively your clients are moving forward? And I suspect that's got a fairly long runway, and will be a good gross right over [ph] 2014.

Michael D. Hays

Yes, I would agree. This is Mike. The runway, I would guess, we're closer to the front end than the middle or nowhere near the end of the particular runway. So it should run through the entire year of 2014. The more progressive medical groups and healthcare systems that have acquired physician practices are jumping on board as kind of early adopters, but we're still on that side of the product adoption curve. So I would assume that will increase at an increasing rate through the course of next year before it starts tailing off, moving more into the laggers and later adopters of a particular product. But it's fairly aggressive and pretty heated activity right now in the industry. I would say, I think without exception to our other product portfolios, it's probably as a percentage growth rate period over period, the fastest-growing product as we sit today.

Frank Sparacino - First Analysis Securities Corporation, Research Division

Great. And maybe lastly, Mike or Kevin, just on market insight. I'm curious -- the growth rates, obviously, have been very strong. I'm trying to figure out what is driving that growth today?

Michael D. Hays

It has been strong, and it continues and looking into 2013, mid-2012, I don't know that I would have anticipated the ramp-up to be as strong as it continues to be. We're seeing quite a bit of interest among healthcare and healthcare systems in and around the concept of branding and brand equity. Clearly, with a more consumer oriented and engaged population, the sentiments of that population, the consumers in the marketplace are more and more important. And we're finding, even at the highest levels of the healthcare systems, at the board level, significant interest and better understanding of what the customer at large considers healthcare and needs and unmet needs and brand equity. So it does continue to have a very robust runway. The sales team is doing just a fabulous job of uncovering incremental need. And I think, knock on wood, that it will continue.

Frank Sparacino - First Analysis Securities Corporation, Research Division

Okay. And just kind of circling back to Ryan's question earlier around -- I know you haven't given guidance for 2014. But safe to assume on the post-acute side of things, that going forward, that business no longer could be a drag on the overall top line. So by default, we're probably looking at the acute side, that business should be growing at healthy rates. Is that the right way to look at it?

Michael D. Hays

Yes. Our reference point that we're looking at is over the last 4 quarters, the acute care product group, if you want to call it that, had an 18% revenue growth rate. So I would assume if that continues and post-acute turns positive as it has, that clearly, we will see our organizations tracking towards those double-digit top line growth rates through the course of next year.

Kevin R. Karas

This is Kevin. One follow-on, Ryan, to your question on direct expenses, just to add some precision to my answer, we are expecting to be just under 41% in direct expense in this fourth quarter, which would actually put us closer to 41.5% for the year. So I just want to add a little more precision on that estimate.

Operator

[Operator Instructions] We have a follow-up question from Frank Sparacino with First Analysis.

Frank Sparacino - First Analysis Securities Corporation, Research Division

Just maybe one more. I'm curious, so first, congratulations on the modern healthcare ranking piece. And just looking at those numbers, I'm somewhat surprised at the gap between you and the number 2 player there. And just curious if you had any insight, Mike or Kevin, on those sort of results?

Michael D. Hays

This is Mike, Frank. I really don't. We submit our data from client lists and contract value files that we maintain. So I know ours is exactly what it is. But I don't really have any color on how the other organizations report or don't report. And so I don't really know what creates the difference.

Operator

And there are no further questions at this time.

Michael D. Hays

Thank you, Jason. And again, thank you, everyone, for your time today. And Kevin and I look forward to reporting our progress next quarter. Thank you.

Operator

Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines.

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