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Streamline Health Solutions, Inc. (NASDAQ:STRM)

Q3 2010 Earnings Call Transcript

December 8, 2010 4:30 pm ET

Executives

Joe Diaz – IR

Brian Patsy – President and CEO

Don Vick – Interim CFO

Gary Winzenread – COO

Analysts

Mark Cahill [ph]

Walter Ramsley – Walrus Partners

Sam Rebotsky – SER Asset Management

Operator

Good afternoon and welcome to the Streamline Health Solutions reports third quarter 2010 conference call. All participants will be in listen-only mode. (Operator instructions) Please note this event is being recorded. I would now like to turn the conference over to Joe Diaz. Please go ahead.

Joe Diaz

Thanks, Amy. And thank all of you for joining us today to review the financial results of Streamline Health Solutions for the third quarter of fiscal year 2010, which ended on October 31, 2010. As the conference call operator indicated, my name is Joe Diaz. I’m with Lytham Partners. We are the Investor Relations consulting firm for Streamline Health.

With us on the call representing the company today are Mr. Brian Patsy, President and Chief Executive Officer; Mr. Don Vick, Interim Chief Financial Officer; and Mr. Gary Winzenread, Chief Operating Officer. At the conclusion of today’s prepared remarks, we will open the call for a question-and-answer session. If anyone participating on today’s call does not have a full text copy of today’s release, you can retrieve it off the company’s website at streamlinehealth.net or numerous financial sites on the Internet.

Before we begin with prepared remarks, we submit for the record the following statement. Statements made by the management team of Streamline Health Solutions during the course of this conference call that are not historical facts are considered to be forward-looking statements subject to risks and uncertainties. The Private Securities Litigation Reform Act of 1995 provides a Safe Harbor for such forward-looking statements.

The words believe, expect, anticipate, estimate, will, and other similar statements of expectation identify forward-looking statements. The forward-looking statements contained herein are subject to certain risks, uncertainties, and important factors that could cause actual results to differ materially from those reflected in the forward-looking statements included herein.

These risks and uncertainties include, but are not limited to, the impact of competitive products and pricing; product demand and market acceptance; new product development; key strategic alliances with vendors that resell the company’s products; the ability of the company to control costs; availability of products produced from third-party vendors; the healthcare regulatory environment; healthcare information systems budgets; availability of healthcare information systems trained personnel for implementation of new systems; as well as maintenance of legacy systems; fluctuations in operating results and other risks detailed from time to time in the Streamline Health Solutions’ filings with the US Securities and Exchange Commission.

Participants on this call are cautioned not to place undue reliance on these forward-looking statements, which reflect management’s analysis only as of the date hereof. The company undertakes no obligation to publicly release the results of any revision to these forward-looking statements, which may be made to reflect results or circumstances after the date hereof or to reflect the occurrence of unanticipated events.

With that, let me turn the call over to Brian Patsy, President and Chief Executive Officer of Streamline Health Solutions. Brian?

Brian Patsy

Thank you, Joe. And good afternoon, everyone. For today’s call, Don Vick, our Interim Chief Financial Officer, will summarize our financial results. After Don’s summary, I’ll discuss our third quarter results and then Don Vick, Gary Winzenread and I will participate in our question-and-answer session.

At this point, I’d like to turn the call over to Don Vick for his financial summary. Don?

Don Vick

Thanks, Brian. I would like to highlight the more significant aspects of the financial results of our third quarter of our fiscal year ended October 31, 2010. Revenues for the three months ended October 31, 2010 were $4.5 million compared to $4.1 million in the comparable quarter of 2009, representing an increase of 9%.

The increase in revenues is primarily a result of the $410,000 or 241% increase in system sales. The increase in system sales is highlighted by one new and one add-on Access Anywhere enterprise license sale. Recurring revenues from maintenance contracts also experienced a significant improvement, increasing by $217,000 or 12%.

Hosting revenues from backlog remained relatively consistent with the prior year, decreasing by only $28,000 or 3% over the prior comparable quarter. The revenue increases in the quarter were partially offset by a decrease in professional services revenues of $233,000 from the prior comparable period.

As you may have seen in our recent press releases, we were successful in closing three new purchase contracts during this quarter, two of which contributed software system sales revenues in the quarter totaling nearly $300,000. The larger of these contracts was sold through our direct sales force to an existing customer for their new premier outpatient heart and vascular clinic. This solution will integrate Streamline Health Solutions into the customer’s existing EpicCare medical record management system from Epic Systems Corporation. This contract included Streamline Health’s HIM Suite software and related professional services.

Another contract sold this quarter was an Access Anywhere 5.0 license through our remarketing partner TELUS Health in Canada, for which $184,000 was recognized in the quarter. In addition, a large contract was signed late in the quarter to deliver our referral order workflow for an existing customer in Texas, with the contract value in excess of $400,000.

The delivery of this software was delayed until the fourth quarter and therefore is not included in our reported systems sales, although $220,000 of software revenue associated with this contract is currently anticipated to be recognized in the fourth quarter. These sales, in addition to sales of professional services and third-party hardware and software into our existing customer base, allowed for total new bookings for the quarter in excess of $1.2 million.

Total operating expenses for the third quarter of 2010 were $4.3 million compared with $4.4 million in the comparable quarter of 2009. Cost savings efficiencies associated with the reorganization of the sales force and focused cost management in other operating areas drove the reduction in operating expenses. These expense improvements were partially offset by bonus reinstatement for staff and amortization of equity awards.

Additionally, amortization of capitalized software development cost increased by $127,000 over the prior comparable quarter, primarily due to the general availability of Access Anywhere 5.0 in January of 2010. This increase is included in the cost of system sales. The cost of services, maintenance and support for the three months ended October 31, 2010 was consistent at $1.3 million compared with $1.3 million in the prior period.

The cost of application hosting services for the three months ended October 31, 2010 was $480,000 compared with $408,000 in the prior period. The increase is primarily attributable to increased staffing cost, depreciation, and third-party license and maintenance fees as a result of the growing hosting center operations from the increased hosting customer base over the past two years.

Selling, general and administrative expenses for the three months ended October 31, 2010 and 2009 were $1.4 million and $1.5 million respectively. The decrease over the comparable prior period was primarily due to reorganization of the sales and marketing staff, as well as decreases in bad debt expense and a decrease in commissions expense. Reinstated bonus plans, as previously discussed, increased equity awards compensation and increased professional fees partially offset these cost reductions.

During the third quarter of fiscal 2010, research and development expenses decreased to approximately $400,000 from $466,000 in the comparable prior quarter to fiscal 2009. The company capitalized approximately $668,000 and $859,000 of product research and development cost in the third quarter of fiscal 2010 and 2009 respectively.

I also want to remind everyone that capitalized software development cost should be included when determining total R&D expenditures. For this quarter, on an income state basis, our R&D expenditures decreased by $257,000 over the prior quarter. Our R&D expense and our capitalized software for the quarter, both decreased from the third quarter of last year due to a reduction in development resources since the completion of Access Anywhere 5.0 at the end of the prior fiscal year.

As a result of the revenue and expense items discussed, the operating profit for the third quarter of fiscal 2010 was $144,000 compared to an operating loss of $285,000 in the third quarter of fiscal 2009, an improvement of $429,000. The net profit for the quarter was $95,000 or $0.01 per share compared to a net loss of $296,000 or $0.03 per share in the third quarter of 2009.

Total backlog at the end of the quarter was $19.5 million compared with $22.6 million backlog in October 31, 2010. The bulk of our backlog continues to come from hosting services and maintenance contracts versus software license sales. Third quarter hosting revenues are primarily generated out of previously reported backlogs.

In our earnings release, we included a table showing the non-GAAP financial measure of adjusted EBITDA. We define adjusted EBITDA as operating profit plus stock-based compensation, amortization of capitalized software development costs, other depreciation and amortization, and foreign currency gains or losses. Given the relatively large amount of our non-cash charges, we feel that this adjusted EBITDA measure is helpful in providing a more meaningful understanding of our underlying cash-based earnings.

For the three months ended October 31, 2010, adjusted EBITDA was $1,171,000 compared with a corresponding adjusted EBITDA of $488,000 for the comparable period last year, reflecting a 140% improvement. We will continue to provide this non-GAAP financial measure in future earnings releases.

Our cash on October 31, 2010 was approximately $665,000, with $2.4 million drawn under our line of credit. Our cash cycles are still very much dependent upon our seasonal pattern of prepaid annual maintenance billings to our clients. As has been mentioned in prior conference calls, our fourth quarter is typically our best cash collection period, thanks to large annual maintenance collections.

As such, it’s expected that we will pay down our line of credit in the fourth quarter from the strong cash generation. We are currently evaluating our funding options with an emphasis on renewal or enhancement of our current AR-based line of credit. We continue to monitor our expenses, cash balances, and receivable carefully to ensure that they are on plan. And we believe that we have the appropriate capital available to operate our business going forward.

That concludes my review of the numbers for the quarter. Let me now turn the call back to Brian Patsy. Brian?

Brian Patsy

Thanks, Don. This afternoon, I’ll briefly cover three topics. One, comments regarding our financial performance relative to our plan for Q3 and for year-to-date; two, a discussion of our sales activity since our last earnings call; and finally, an update on our guidance for the remainder of the year. After my remarks, we will conduct our usual question-and-answer session.

Regarding our financial performance in Q3 and year-to-date, as reported, we ended up approximately 9% ahead of our performance in Q3 of last year and approximately 6% ahead of last year on a year-to-date basis. Our system sales were 241% greater than Q3 of last year and are 77% ahead of last year on a year-to-date basis. This was accomplished in spite of certain customer implementation delays, which may push some services revenue into early next year.

As a result of the strong focus on sales and marketing initiatives and disciplined cost control measures, we achieved an operating profit improvement in the quarter of $429,000 over the prior comparable quarter, with net earnings of $95,000 or $0.01 a share versus a net loss of $296,000 or a negative $0.03 a share. We are definitely headed in the right direction.

Regarding our internal plans, we are ahead of our plan for system sales revenue and deal frequency. We are on plan for anticipated maintenance revenue and slightly behind our plan for hosting revenues and professional services revenues. It should be noted as a positive circumstance that the higher level of license transactions that we have experienced on a year-to-date basis make it appear that hosting revenues are lagging somewhat behind. However, we do anticipate most of our forecasted Q4 transactions to be hosted deals.

As usual, we expect that there will be some customer implementation delays in the fourth quarter due to seasonal resource constraints and that those revenues will be captured in the coming quarters of the new fiscal year. That said, we expect to have a final conclusion to the fiscal year in Q4.

For the trailing 12 months, our total revenues are slightly under $19 million; our operating profit was approximately $500,000; our EBITDA was nearly $4 million; and our adjusted EBITDA, excluding equity awards, was $4.4 million. It is important to note that the trailing 12 months results include one-time revenue recognition of approximately $2 million in system sales and service revenue associated with a large client go-live in the fourth fiscal quarter of 2009. As Don mentioned, new bookings for the quarter, excluding recurring maintenance revenue, was $1.2 million, which was a significant improvement over the comparable quarter last year.

Now I’d like to discuss our sales activity since our last earnings call. We have booked three new solution transactions in Q3 and two additional solution transactions have been sold since the end of the third quarter. In addition to the three new transactions in Q3, our largest remarketing partner signed a large hosting contract in Q3. However, we did not receive the purchase order for that transaction from our partner by the end of our quarter. So our reported backlog and bookings do not reflect the impact of that new hosting sale. We do anticipate reporting the new hosting transaction in Q4 backlog, however.

Briefly, the three transactions booked in Q3 contributed approximately $900,000 of the $1.2 million in new bookings mentioned earlier, of which approximately $309,000 was recognized in the quarter. Of the three new bookings was a new customer through our partnership with TELUS Health in Canada. Of the remaining two bookings, one was a license expansion for a new facility and one was a referral order workflow transaction with an existing customer.

In addition, since the close of the quarter, we have booked two more transactions. One included five additional workflows to an existing hosted customer in the Midwest region in the US and the second was a license expansion for an existing customer in a solid region for a new hospital facility.

Let me conclude my remarks by providing updated guidance for the remainder of the year. As I have previously noted, 2009 results were favorably impacted by the one-time revenue recognition of $2 million of systems and services revenue associated with a large customer go-live. We have revised our guidance regarding revenue growth as a result of our revenue mix between hosting and purchase sales along with projected implementation delays that will most likely extend some of our anticipated professional services revenue into early next year.

While these implementation delays have caused us to slightly revise our fourth quarter 2010 expectations, they set the stage for a strong start to fiscal year 2011. Accordingly, we are lowering our GAAP revenue expectations to minus 2% range to a positive 4% GAAP revenue growth. However, excluding the large $2 million order previously discussed, that translates into expected revenue growth of between 10% and 17% on a non-GAAP basis.

Regarding our guidance for adjusted EBITDA margin and deal frequency, we now anticipate adjusted EBITDA margin in the range of 20%, a non-GAAP measure defined as operating income plus depreciation, amortization and stock-based equity expense. Since we have already booked 12 new solution transactions to date, we now anticipate a deal frequency of between 15 and 19 new solution transactions for the entire year.

Clearly, we are pleased with our deal cadence and accelerated sales activity that have been achieved through the third quarter. We look to maintain that momentum in Q4 and into fiscal 2011. To focus in perspective, two years ago, in 2008, we closed ten total transactions, eight of which were hosted and didn’t materially contribute to our 2008 revenues due to the nature of hosting revenue recognition being spread ratably over the life of the hosting contract.

Last year, we closed four transactions in part due to a sluggish economy, two of which were very large license deals recognized in our fourth quarter. As a result, delivery of our new Access Anywhere 5.0 solution to our new customer in Canada. That extraordinary Q4 event had a substantial positive impact on our Q4 results by contributing approximately $2 million to our reported $6.2 million in Q4 revenue last year.

Despite closing only four new transactions last year versus ten the prior year, we enjoyed 12% revenue growth last year, primarily due to the $2 million in Q4 license bookings plus significant recurring revenue contributions from the eight hosting deals sold the prior year. As I mentioned, this year we anticipate between 15 and 19 new solution transactions versus 4 last year and 10 the prior year, with a mix of approximately half license and half hosted.

While these transactions represent smaller per-deal amounts as compared to some of our historical sales, we believe that the increased volume of deals will eventually offset the reduced size of individual contracts. I believe this increase in deal cadence indicates that we’re experiencing both the growth and market interests for our solution portfolio and a significant increase in sales activity that will service well in the coming quarters.

We are very pleased with the strong results for the quarter. Our solid top-line and bottom line improvements increased new system sales, and new customers are indicative of the traction that we are achieving as a result of our reorganized sales and marketing process and product differentiation.

This concludes my formal remarks. I’d like to turn the call over to Joe for the question-and-answer session. Don Vick, Gary Winzenread, and I will also be available for this quarter’s discussion.

Joe Diaz

Okay. Amy, would you please provide instructions for our callers to queue in?

Question-and-Answer Session

Operator

Thank you. (Operator instructions) Our first question comes from Mark Cahill [ph], private investor.

Mark Cahill

Good afternoon, guys. Nice sling of deals you’ve been announcing.

Brian Patsy

Thank you, Mark.

Don Vick

Thank you, Mark.

Mark Cahill

You mentioned the cash that you expected in the fourth quarter. Do you have any idea what the cash position is as of December 1?

Don Vick

Yes. Well, actually I have even a little better update because I follow that so closely. I know as of today, our cash right now is right at about $1.5 million. And then the good news is, as we’ve indicated in the conference call here, this is our quarter where we have a large amount of annual maintenance collections and we still have a large amount yet to collect between now and the end of the year.

Mark Cahill

And you kind of hinted that your intention would be to pay down the loan, but at such a low rate, fixed rate or floating rate –

Don Vick

Right.

Mark Cahill

That’s cheap money right now.

Don Vick

It is cheap money, but the one thing everyone should realize is our current line of credit is based on our accounts receivable balance. So, as we have collections that come in, that does reduce the availability under the line once those collections are made – achieved.

Mark Cahill

Okay. With respect to cash flow, are you kind of over the hump now when you have to purchase new equipment? Are you going to have that cash on hand? Is that going to improve over the next year?

Don Vick

Yes. In looking at our cash flow here for the upcoming here, what looks very encouraging to us now is the mix of transactions that we have. Now we have – we've been going some of the benefits of the purchase transactions or the license deals, which do generate upfront cash and that coupled with the strong recurring revenue from our hosted business. And as a result of some of that extra funding that we’re getting from the purchase deals, that’s certainly going a long way towards enabling the funding of any purchase items that are needed under a hosted deal.

Mark Cahill

Right. Do you see the hosted numbers improving little bit quicker going forward here?

Brian Patsy

This is Brian. Mark, I’ll take that. Year-to-date, we were a little bit surprised on the mix. It was weighted more toward purchase transactions, as Don indicated and we anticipated. I’ve talked before that over the last couple of years we’ve been running around 75% to 80% hosted and the remainder purchase or license. This year, it was a little bit skewed toward purchase through three quarters. However, Q4 is heavily skewed toward ASP or hosted. And frankly, that served us very well this year from a cash flow point of view. We went into that annual trough of cash drain until the maintenance contracts come in. And this year, fortunately, because of that upfront cash from the purchase transactions, we are in pretty good shape. And looking out a year, we feel pretty good about our cash flow situation. So, for the year, as I mentioned in the earnings call a few minutes ago, it looks like about a 50/50 split between hosted and purchase. But going forward our planning, we still anticipate slightly skewed toward the hosted as we go forward into next year, either 60% to 65% hosted and the remainder purchase or license.

Mark Cahill

Okay. With respect to marketing plan going forward into 2011, can you give us a general idea of where you’re going?

Brian Patsy

Sure. As you may know, I took over sales and marketing in my spare time. And the good news is I’ve hired a very confident and very bright individual as Executive Director of really Strategic Planning and Marketing. Name is Eric Stearns. And he was a former employee of ours and was in the product management organization. So he really knows the industry and knows our products, which allowed us to get traction right away. He has been on board and is currently kicking off four large sales and marketing campaigns. Briefly, what they are is we’re investing a lot more in terms of presence at industry – national industry conferences. So we’re upscaling our presence there in terms of size of the booth, resources, and investments in advertising prior to those shows to get more visibility. That’s one.

We’re launching actually within the next week or two a major marketing campaign for our enterprise compliance workflow solution that we call AuditACE. And that will be an email and letter campaign and speaking engagements and appearances in shows talking about that. The third one is a significant refresh of our website, which frankly is overdue, with a new message that we’re very excited about. And we’ve engaged an outside firm to help us build a world-class website with lots of great information and messaging, and that is underway. And we hope to have that implemented by mid next year and hopefully sooner. And the last one, I’ll just say generically, is a targeted sales and marketing campaign toward a specific clinical information system vendors installed base. I’d rather not go into more details for purposes of the competition, but we are very aggressively going after some targeted accounts that we think would fit very well into our world and in our solutions.

Mark Cahill

Right. I think back in August, didn’t you have some kind of a conference (inaudible) to one in particular product?

Brian Patsy

That’s right, Mark. That was very successful. That was a conference that was with this workflow called enterprise compliance or AuditACE. It’s a RAC solution, but it’s much more. It’s actually a compliant solution that includes RAC as well as other auditing needs, government-mandated or state-mandated, Medicare, Medicaid, including the private payers. As you may know, in healthcare, there the compliance officers are being overwhelmed with requests and government auditors coming in and looking at their records and taking money back. So it’s a significant problem.

So we, in conjunction with our strategic customer Children’s National Medical Center, hosted a major conference here in the Midwest region. We rented out an aquarium and invited guests. We had about 20 to 25 compliance officers and HIM directors and business people show up. Children’s National was the guest speaker, talking about the wonderful benefits of our solution. It solved a lot of their vexing problems and labor-intensive problems with compliance across the enterprise. We also had a guest speaker, Dr. Mark Pierce, who spoke about kind of the macro factors impacting compliance, particularly RAC compliance. So it’s a big success, and that’s part of our AuditACE campaign, is to do more of those.

Mark Cahill

Any chance that you guys putting some of that presentation on the website so we could all –?

Brian Patsy

Absolutely. We are in the process of doing that. So you’re going to be reading my mind again.

Mark Cahill

With respect to TELUS, can you give us an implementation update – pipeline update?

Brian Patsy

I’ll let Gary handle that.

Gary Winzenread

Yes. Thanks, Mark. I’ll be glad to. So there were really two large transactions in Canada. The first was two major facilities – actually two major sites that have multiple facilities each. The first of those two is live and it has been live for an extended period of time. The second is in the promotion process now, an expected go-live in the first quarter of next year. On the second deal, actually 29 different establishments taking our product, each with multiple facilities. The first of those is live as well and there are six more in test right now that will be promoted in the first half of next year.

Mark Cahill

You still have a lot more to go then, it sounds like.

Gary Winzenread

Yes. The second deal was a three-year program. I think it will take every bit of the three years to get them rolled out. I believe there is over 90 facilities by the time the 29 establishments are done. So we’ll be pretty well penetrated in that part of Canada.

Operator

Okay. Our next question comes from Walter Ramsley at Walrus Partners.

Walter Ramsley – Walrus Partners

Thanks very much for taking my questions. I’ve got a few here. The sales either for the nine months or for the quarter, can you break it out either direct and indirect and which channel is doing better?

Brian Patsy

Sure. I’ll be glad to. Let me pull up my list here so I can go down and give you that list. It looks like year-to-date, Walter, we have three new GE transactions, new facilities through our partner GE; five total workflow transactions, one being the AuditACE I just referred to and four others. And we build various workflows for various departments. We had one license upgrade with an existing customer. We had this new facility in Canada that we mentioned earlier through our partnership with TELUS Health. So – and I’ll circle back and total these for you. We have, since the end of Q3, signed two additional deals. One is new deal and another one is an additional facility with an existing customer. And then there was one existing customer facility expansion to a new hospital. So – and then, actually there were five more workflows that we signed out for the quarter. So if I had all this stuff, just to summarize, they have 12 total workflows sold – departmental workflows sold year-to-date through today and – by the way, we have quite a few more coming in the pipeline – and four through our partner channels and the remainder through our direct sales force.

Walter Ramsley – Walrus Partners

Okay. It sounds good. During the – well, for the nine months, the hosted service revenue went up a little, but in the third quarter by itself it declined. Did that mean you lost some customers or the existing customers did less business or how do you reconcile that?

Don Vick

What you are seeing there is in the third quarter of 2009, we had one new hosted customer that went live in the third quarter. And they had several months’ worth of revenue or billings, if you will, that had accumulated by the third quarter. However, they had acceptance criteria in their contract, which under GAAP we’re not able to recognize the revenue until that acceptance was met. And that acceptance criteria was met in the third quarter of last year. So, as a result, there was a little bit of a spike in that revenue in the third quarter of last year. So when you compare this year’s result about the spike against last year, that’s what you are seeing.

Walter Ramsley – Walrus Partners

Okay. That explains that one. Thank you. The overall market, do you have any data as to what kind of growth has been or was generated up to this point so far this year and maybe an industry forecast or something like that?

Brian Patsy

The healthcare IT market, are you referring to the –?

Walter Ramsley – Walrus Partners

Well, however you fit yourself in or however you measure it, whatever you think is the best metric.

Brian Patsy

Well, the best metric in my humble opinion is the very narrow neat niche, which is document workflow and document management, which is the space we’re in as opposed to clinical information systems, which might be misleading to this. We really complement those systems rather than compete with them. I have noticed – and this is through our own research because this is a niche that the industry analysts don’t cover because it’s too narrow. But through our own research, document management itself has consistently grown somewhere between 10% and 15% every year over the last several years. So I think that’s pretty steady growth rate. Workflow or document workflow is in its embryonic stages, and we’re excited about that. And we anticipate actually a faster growth for there because we’re just not emerging into that market. So overall, we see steady growth for our document management solutions, and we see a quite a bit faster growth for our departmental document workflow solutions. I hope that helps.

Walter Ramsley – Walrus Partners

Okay. That would definitely. So given the current economic environment, that sort of pace is likely to continue do you think?

Brian Patsy

Well, that’s a great question. Over the last 12 months – first of all, last year we had, as I would describe it a difficult year, the economy was suffering and budgets had shrunken. It affected us even though we had 12% revenue growth. That was primarily due to the recurring revenue from the deals we’ve got the prior year, plus that big pop we got in Q4 with the license revenue of $2 million. This year, we’re really doubling the pace of two years ago when we had ten transactions.

And so what we’re noticing – at least what I’m noticing is a definite pickup in activity in the marketplace probably because of the high-tech act and some of the implications of that for meaningful use where government dollars are available and we could debate for ours, you know, how much of those billings or dollars will actually be allocated. But it’s impacting us in a positive way. Budgets are being set. Projects are being launched. We’re getting inquires and we’re actually getting deals in preparation for trying to meet that meaningful use criteria to get reimbursements from the government for investments in EMRs. We go along for the ride, so to speak. So I’d say that the economy is picking up in terms of our sector, and I think the government mandates are helping that cause.

Walter Ramsley – Walrus Partners

Okay. So, as far as the company’s own pricing strategy goes, any changes on the horizon or – I mean, you’re kind of pushing the hosted services. So, is that going to slow down the revenue expansion or how is it all going to play out do you think?

Brian Patsy

Well, that’s a good question. And in prior years, we had hosting fever, and rightfully so, it’s a differentiator for us. And it certainly helps our variability from quarter to quarter. However, if everything went 100% hosted, that would create a challenge for us, one, with cash flow, and two, with reported revenue, because it gets spread over five years. This year, as luck would have it, it’s going to end up around 50/50, and I think that’s a great mix. I think that helps us pay the short-term bills and build for the long-term future. So I do anticipate next year it will skew a little bit back toward hosting, but not at an 80% cliff. So I think we’re in pretty good shape with the mix we have. We are not pushing hosted versus purchase or license. We’re letting the customers decide and let the market – and the market is always the ultimate answer to any question as what do they want, not what we want.

Walter Ramsley – Walrus Partners

Okay. So the balance is pretty good though at the time?

Brian Patsy

It’s a great balance right now. We’re enjoying it, and I hope it continues.

Walter Ramsley – Walrus Partners

Okay. And I mean, this is kind of an arcane question. I don’t know if you want to bother with it. But as far as looking at the balance sheet, there is an item there, the prepaid other assets, including the prepaid customer maintenance contracts, what’s the corresponding liability? I mean, how does that one work?

Don Vick

Yes. I mean, basically what that is, is it’s a big prepayment that we make to basically any third-party vendor where if we bill and buy a maintenance contract for be it hardware or software, service contract typically, they are one year contracts, much like we have with our customers. So we’ll pay that in advance, and then that prepaid is amortized –

Walter Ramsley – Walrus Partners

Okay. I see, I –

Don Vick

It’s amortized over the period of service.

Walter Ramsley – Walrus Partners

I misunderstood. I thought it was your own customers.

Don Vick

No, no. It’s actually us buying things from other vendors.

Walter Ramsley – Walrus Partners

Got it. Sorry about that. Okay. Anyway, thanks for taking the questions. Congratulations.

Brian Patsy

Thank you, and thanks for joining us.

Operator

The next question comes from Sam Rebotsky at SER Asset Management.

Sam Rebotsky – SER Asset Management

Yes. Good afternoon, Brian, and –

Brian Patsy

Good afternoon, Sam.

Don Vick

Hello.

Sam Rebotsky – SER Asset Management

Hi. As far as the pipeline compared to the previous July now, would you say it’s a 50% improvement? Do you say a shorter timeframe to close the contract, to close a deal, and the role that Eric is playing and what to the extent you might add to the bids that you’re going to be making going forward?

Brian Patsy

Sam, that’s a great question, because first of all, the pipeline now versus a year ago is up. I wouldn’t say it’s 50%, but it is definitely up. The reason I wouldn’t portray it as 50% better in dollars is because we’re getting a lot more deals that are smaller in nature, but we also believe over the long haul it will actually be better in terms of its overall impact. The good thing about that is we have historically been very bursty in terms of our quarterly results, very variable. The combination of these hosting deals plus smaller deals, which have shorter sales cycles, give us a heck of a lot more visibility. And the really cool thing about having more transactions, and we clearly have more, is that what you don’t see underneath the iceberg is the maintenance that goes along with those transactions, which is a recurring revenue stream. And typically over a five-year period, let’s say, a license is worth $0.5 million.

Over a five-year period, we’ll get another $0.5 million in maintenance services to support that. So every time we sell a new deal, we get – the license that we get an immediate pop is that the hosted deal that spreads over five years. But we’re building and building this backlog that’s very exciting and give us a lot more visibility going forward. So we are consciously doing two things. We still want to maintain our historical sales pattern of getting those infrequent large deals that take 18 months to sell and are in seven figures. We would love those. But if that’s what you live and die by and you slip one a quarter, it could have negative consequences. So we’re peppering [ph] matters, kind of seasoning it with a lot of smaller deals that take shorter times to close these departmental workflow deals that complement those big deals, and that’s what you’re seeing in our results.

Furthermore, we’re investing a lot of money upstream now in marketing, as I mentioned, in terms of rather than going on hiring an army of salespeople, I thought it was important that we build it upstream with marketing campaigns that create leads that get qualified that we turn over to sales force, at which time when those leads come downstream like a tidal wave. We will start adding more and more salespeople, and that is our plan. Indeed, this year we already have that process started where that flow is coming downstream of leads. It’s showing in our results, and it’s also time for us to hire additional direct salespeople, which we’re in the process of doing.

Sam Rebotsky – SER Asset Management

So you would say that the claim to close the deals are shorter than it was the previous quarter even on a comparable item because of the economy or some reason?

Brian Patsy

Well, it’s a blended thing. The large enterprise deals typically still take on average a year to sell. You got to get it in the other – there are seven figures. You got to get them into the budget; they got to go through a process; they have to be signed off by the CEO or the CFO. That takes time. So those deals are going to take the time. But what we’ve done is we’re continuing our pace on large deals, but we’re really picking up the pace on those departmental deals that can range from 200,000 up to 600,000. And those are coming much more frequently. They can be signed off typically by department head. And that’s what’s really given us this traction.

Sam Rebotsky – SER Asset Management

And do you expect Eric to generate a multiple of contracts or sales? How do you visualize that? Or is it just product – how would you explain Eric to grow in the sales function?

Brian Patsy

Well, he doesn’t get involved in contracts. He is involved in creating pipeline. He is involved in creating leads and in getting our name. I think one of the criticisms that’s been fair about our company is we’re a best kept secret. We’re not well known in the marketplace. And we’re fixing that by getting the word out, evangelize our message. And Eric is simply responsible for what we would call as upstream marketing, which is the business case analysis, the market research, and devising our marketing campaigns that put us in print and in the national trade gags [ph], gets us exposure at national trade shows, thus seminars and webinars to invite people to learn about our products, getting speaking engagements at these shows so that we have experts that tell the benefits, and down-and-dirty email campaigns and letter campaigns and website redesign and advertising. So it’s all that stuff.

Sam Rebotsky – SER Asset Management

Okay. That sounds good. Now the product research and development went from $567,000 to $400,000. Now you’ve indicated you finished with the bulk of the R&D or what does it look like going forward?

Gary Winzenread

This is Gary Winzenread. We never finished with R&D. Right? The product has been putting a new architecture, and for the majority of work in creating that new architecture and delivering a product on that, that has been done. But obviously we’re going to continue to invest in R&D to expand the functional capability of that product and other new solutions that can be built on that architecture. So – but I do think that over time, the investment you’ve seen over the last couple of years, we’re certainly not going to be spending at that level. We will be able to develop the solutions without having to go back to the architecture.

Sam Rebotsky – SER Asset Management

Okay. And in the statement where you say we expect to complete the fiscal year with a solid fourth quarter, even though you don’t have this $2 million contract, you would be decently profitable, and does it appear going forward you will be profitable on a regular quarterly basis or they could be lumpy?

Brian Patsy

Well, obviously, you know I can’t comment on expectations for Q1 and beyond. But all I can say is that elaborate explanation I gave you of keeping those deal cadence for the big deals and upping the ante [ph] on those departmental deals will even out our variability. Our goal is to be profitable quarter-to-quarter. We’ve always had our most challenging quarter in Q1 and our best quarter in Q4. But it’s getting better every year and it’s getting easier every year as we get a breath of – and reach into the market with more and more deals. So for example, two years ago, when we had a challenging year, actually last year – the year before last, there were four transactions.

So imagine, if you’re in my seat and you have four transactions and one of them sweats. It is 25% of your opportunities. This year, we’re looking at in the range of 15 to 19 transactions. You lose one or two; it’s just a minor inconvenience. So that’s the plan going forward. We have a vision, Sam, that goes back to R&D and Gary, as you know, what we’ve just been through, we spent our money. We’ve finished this – as I describe it, a rat for a snake. That’s major R&D effort with lots of expense to get this new and improved and latest generation architecture out, which opens up all kinds of avenues for us. Our next big thing, and that’s why R&D continues, is to take these departmental workflows and start connecting the dots and connecting them together and create an enterprise workflow solution that can be deployed across an entire institution. And that will up the ante and up the revenue as we sell bigger and bigger deals that have multiple workflows involved. So this is a process that builds over time.

Sam Rebotsky – SER Asset Management

Okay. It sounds good. Hopefully we accomplish these things going forward.

Brian Patsy

That’s the plan.

Sam Rebotsky – SER Asset Management

That’s the plan. Good luck.

Brian Patsy

Thank you.

Operator

(Operator instructions) Our next question comes from Mark Cahill, private investor.

Mark Cahill

Hi. I’ve got some other questions to ask.

Brian Patsy

By all means.

Mark Cahill

Back to on the TELUS pipeline update, Gary had mentioned that you have quite a few implementations to take care of. Do you see a low on the pipeline because of that?

Brian Patsy

The way I would portray the relation with TELUS is solid. It’s contributed handsomely to our results, a big success. We have done a great job there, done a great job of penetrating one major region, as Gary indicated, in Canada. There are other regions. However, I need to caution that our success in this one region is primarily because TELUS Health is the predominant clinical information system or hospital information system vendor in that region. So we’re piggy-backing on their existing customers. Our goal going forward, now that we’ve had some success, and I indicated in prior earnings calls we need to show success before we get aggressive in moving into the other regions. And we’re at that inflection point now where we’ll go and look and sit down and plan with TELUS salespeople on how to penetrate the other regions. Now, it will be more challenging because they don’t have the kind of presence as the clinical vendor in those other regions. So it will take some work and some planning and some investment and marketing to do that. We’re at that inflection point right now.

Mark Cahill

I know GE is into some of the Canadian customers. Will they help you up there?

Brian Patsy

Well, we have a partnership with both and we respect them both, but most of our activity with GE has been in the continental US to date.

Mark Cahill

With respect to GE, are they actually pushing some of your individual solutions as opposed to the system-wide solutions? How does that pipeline work?

Brian Patsy

Well, our relation with GE is such that we assist them, and basically they are out selling their clinical information systems. And it’s called Centricity Enterprise. It’s a hospital information system. More recently – I gave guidance at the beginning of the year that we’d have three to five deals. We have – I think we’ve done three year-to-date, and there is five more in the pipeline that we could potentially close between now and the end of the year. But they are picking up the pace, which has impacted us positively, and they are now focusing on the middle market and they are aggressively going after the medium size hospitals, which we’re benefiting from. So we basically go along for the ride. They win a new customer for their clinical, and those customers want the capabilities of document workflow and document management. So we go along for the ride.

Relative to the departmental sales, we have been driving that ourselves. So we send out our direct sales force and they partner with the GE Centricity Enterprise salesperson – sales professional to help them sell our enterprise document management solution as a part of their clinical contract and then we go back in either during the initial sale or afterwards and move horizontally department to department with workflows. In fact, some of the workflows you are seeing in our results are going back into our installed base, some of which are GE, with our direct sales force in selling departmental solutions.

Mark Cahill

Okay. With respect to the direct sales force, you mentioned you hired Eric. Do you have any intention to hire more regional sales types?

Brian Patsy

Well, we’ve changed the organization sales, and very briefly, we have two senior level account executives, the regional vice presidents of sales who split the country in half. They are responsible for new business. We also have two senior-level account executives who are vice presidents of customer development, and their responsibility is to expand our relationships in our existing customer base. So that’s four senior-level salespeople. We have a bunch of sales support people and inside salespeople who do a great job, and we have a support analyst and we have all kinds of resources at their disposal.

The plan, in addition to Eric who is marketing and is going to fill their plates with lots of opportunities, is to hire two more people. I’d like to have one – two more direct salespeople. In fact, I’m bringing one in, in a week from Monday to aggressively go after departmental workflow sales. And I hope to hire one early in the first quarter of next year. And so they will report to the regional VPs of sales, new sales. And I’ll also probably give those new hires additional kind of inside sales support to dollar-for-dollars in turn leads over to them. So I would say two to three incremental new salespeople within the next six months.

Mark Cahill

Of the product that you are offering on the departmental side, are there any – two that are most popular, the audit, the preoperative products?

Brian Patsy

Yes, we – we think the biggest upside is the product that we call AuditACE, which is enterprise audit compliance. Everybody is interested in that. It’s interesting we started that solution as a RAC solution, and we quickly learned that it’s much bigger than RAC, which is the federal government mandate, Medicare. We’re finding out that a lot of institutions have that plus Medicaid issues and even payer issues and all kinds of this, including (inaudible). And they were looking for a holistic enterprise solution for all in all that needs. And that was the birthing of AuditACE. That probably is our number one upside opportunity, but there are many.

We have a portfolio of about 15 workflow solutions. I’d rank AuditACE number one in terms of upside opportunity, and then there are others. One of our older workflow products called Referral Order Workflow is getting a lot of traction. That handles referrals from referring physicians, which is a problem for a lot of hospitals. And then there are others that we’re very interested in as well, such as denial management, which is garnering a lot of interest. And even custom workflows that fit our solution to unique needs of a hospital that are just unique to them.

Mark Cahill

Okay. With respect to future pipeline growth, do you see the growth coming from the direct sales force or from the partners?

Brian Patsy

Well, I hope that the growth is spread evenly over both. And the reason I say that, we definitely are going to see growth on the direct side. We’re investing more in the leads, we’re investing more on the boots on the street. But we could really get a lot of leverage through our partners because the beautiful thing about the channel is this, GE and TELUS, is that they own the relationship. They have the relationship capital. The deals are much higher probability wins for us when we go in GE because they become the clinical information system and we are their selected vendor for enterprise document workflow and document management. So, shame on us if we lose those deals. So we really do want to leverage that. So I don’t want to be a politician here, but I’d like to see the growth spread evenly between direct and indirect and both growing at a healthy cliff.

Mark Cahill

Right. You mentioned customized products. Going forward, do you – the new sale that you are making now, are they based on the 5.0 architecture that you’re going into the old system you sold the customers years ago?

Brian Patsy

No. And I’ll let Gary elaborate. But right now, in Canada, we’re selling the new architecture. It’s called Access Anywhere 5.0. In the United States, we are selling our older architecture, which is Access Anywhere 1.9. However, in the first quarter of next year, we will flip the switch and start selling the new architecture in the United States. I’ll let Gary elaborate.

Gary Winzenread

Our strategy in moving from our 1.7 architecture, which was our product release before 1.9, when I came aboard was to take an interim step in the 1.9 architecture, introduce workflow into the equation, which we did in that release. And that eventually move the customer over to the new architecture that was completed. So, as Brian mentioned, the Canadian customers were the first to go forward with the vital architecture. We’ll begin that process with the US customers in the first quarter, early second quarter of next year. But the customers that are driving the workflow pieces are one step toward the vital architecture as well, having a workflow two already in place and we’ll move them forward to the vital architecture probably in the beginning of the second half of next year.

Mark Cahill

Are some of the customers delaying their purchases of your products because they want the new architecture?

Brian Patsy

Not really. At this point, our 1.9 architecture is very functional and meets their needs. So what we’ll do is once there is a release – a sub-release coming out in Q1 that Gary was referring to, they will add additional components specifically designed for the US market. And once that happens, we will probably have all of our net new sales on the new architecture. So we’re going to have a heck of a lot of customers that we will be supporting on the 1.9 architecture probably for the next several years. So we’re really running a dual ship here.

Gary Winzenread

I think for 2013 or so, we’ll have customers on both lines, and they certainly have the ability to move up to the vital architecture or overstate 1.9 for a period of time or supporting both through this time period.

Mark Cahill

Right. Gary, you mentioned R&D always goes on. I understand that. Do you have any new product that you might be – you could tell us about that you’re working on?

Gary Winzenread

It’s a biggest – the biggest thing we’re working on right now, other than the 5.1 release that Brian mentioned, is further embedding and enabling workflow in better architecture. So I think what we’ll be talking about as we get into next year is not just products that solve one problem but products that can be configured to solve a problem for your hospital specifically with a very quick time between purchase and go-live. So if you could think about the products being smarter and less specifically coded for one problem and a little bit more able to be configured to solve the problem the way a customer likes to solve it, that’s what the embedding of the workflow that we continue to do will enable us to do. And now I think you’ll see – Brian talked about deal cadence. We’ll talk about product release cadence will go up after that portion has been embedded into the workflow because the actual coding to create solution will be very limited.

Brian Patsy

And Mark, this is Brian. One of the things I wanted to do is paint a vision for you and other investors, and this is our message that we’re – our new messaging that we’re going to be delivering to our prospects. And it’s an enterprise workflow vision. And I want you to imagine that we’re now selling departmental solutions. It solves some very specific labor-intensive problems department-by-department. If you take a step back and survey the entire enterprise of the entire landscape of a hospital, it isn’t a bunch of departmental silos that are independent of each other. If you think about you get referred to a hospital by a referring physician, the first thing that happens is a referral order comes into that hospital from outside the hospital. And that referral order most of the times isn’t on the clinical system they have. It’s coming independently from outside the hospital. So there is a document that comes over the wall. That document goes through a registration process.

There is a lot of documents created in a registration process like out-of-station forms, and then the patient gets admitted or the service is rendered, and the patient goes through a medical record cycle or health information management cycle where progress notes are gathered and physician notes are gathered, and they interact with their clinical system. And there is a lot of documentation that goes along. Once that documentation is completed in the back office of the medical record department, then it goes over the wall for the billing cycle, the revenue cycle, and they collect all the documents and they are the ones who are responsible for going and getting reimbursed. And those processes are very inefficient. And then it goes all the way through that cycle.

And so if you take a step back and look at the big picture, it’s a flow of documents from department to department, vendor to vendor, process to process. Our vision is to connect the dots by starting in the individual departments, but we are building this like you would build a bridge, trust-by-trust, bean-by-bean, and then we’re building to a position that we’re going to lay the foundation for that pavement to go across the valley from one end of the valley to the other. And that’s what’s going to be in our new messaging, is that start now, build that bridge, and you’re going to wake up one day and you’re going to have solved a major process problem of linking and connecting the dots of all your various independent systems. That’s the message, and it’s heavily, heavily dependent on workflow.

Mark Cahill

Sounds like the 5.0 architecture will make it easier to sell the business process management?

Brian Patsy

Well, the 5.0 architecture is scary. That is essential for this vision we couldn’t do a lot at. Gary, please.

Gary Winzenread

Yes. It definitely will enable the BPM work as well. So I think there will be more revenue generated in that particular line of business. We’ll see that growing at significantly higher rates than the rest of our business with the release of the 5.0 architecture.

Mark Cahill

Good. Two general questions. I think on the last call you mentioned that customers were in the planning stages of future HIT plans. Are you referring to RFPs?

Brian Patsy

Well, some of them relate to RFPs. Every chief information officer that you will talk to, very high on their list, if not number one, is something called meaningful use. And there is government criteria for certification where you meet these requirements to implement an electronic medical record and get more digital, just in layman’s terms. And if you meet this criteria, you get reimbursed by the federal government for some of those investments. So it’s kind of accelerating the investment in electronic medical records. We go along for the ride because we have some elements that relate to meaningful use. So there is a pickup in activity where the faster you get this implemented, the faster you get reimbursed, but also the more you get reimbursed. If you delay a couple of years beyond 2013, the reimbursement rates drop. So this is hurry up and get it done to get your piece of the reimbursement pie.

Mark Cahill

You should see a steady fall of RFPs for the next couple of years I would imagine?

Brian Patsy

At least. And again, I want to be clear that this is typically driven by the clinical information system vendors complying, but there are elements of meaningful use where we have parts of it that need to be in compliance with certification and we’re very active in doing that.

Mark Cahill

Last general question. A lot of this relates to what Congress passed a couple of years ago. I think it was $19 billion to $20 billion that they passed to allow the healthcare industry to purchase HIT products for this latest Obama care squabble and the politicians threatening to defund it. It seems like the original $19 billion to $20 billion is apart from all this mess.

Brian Patsy

Well, Mark, Candidly, I think it’s easier to forecast Streamline Health sales. And it is under what the federal government and the politicians will do. I don’t know. I don’t have a crystal ball, but I do see a pickup. All I can see is, as one of the famous coaches in Cincinnati says, I see better than I hear. It’s Marvin Lewis’s (inaudible) bingle. I love that quote because I see a pickup in activity, I see a pickup in interest and RFPs. That’s all I know.

Mark Cahill

Right. It just sounds something like a hospital that’s pushing ahead with HIT regardless of what the politicians are saying.

Brian Patsy

Well, they certainly need to get there, and you know, I know there are some threats to kind of unravel the healthcare plan, Obama plan. But I’m hopeful that the investments in EMRs isn’t going to be – is going to be low down the list of things they want to unravel. I do know that Neal Guinners [ph] is very active in the healthcare space and he is a big proponent of EMR technology. So hopefully that mentality will prevail across both sides of the aisle.

Mark Cahill

Okay. And that’s it for me. Thank you.

Operator

This concludes our question-and-answer session. I would like to turn the conference back over to Brian Patsy for any closing remarks.

Brian Patsy

Well, thank you, Amy. And thanks, everyone, for the great questions and for participating in our quarterly earnings call. We’re grateful for that, and we look forward to having you participate again in the next earnings call. Thanks, everyone.

Operator

The conference is now concluded. Thank you for attending today’s presentation. You may now disconnect.

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