Medical Transcription Billing Is An Acquisition Machine

Summary

• The company seems to have managed the art of acquiring companies and integrate them quickly and profitably.
• They have a long leeway as the industry is very fragmented, so we think the company can rinse and repeat.
• All the while, they are generating substantial cost and revenue synergies and are becoming a more valuable platform in the process.
• The only thing to watch out for is the substantial dividend on the preferred shares which they use as a way of financing the acquisitions.

Medical Transcription Billing (MTBC) is a fairly small player in the so-called RCM (Revenue Cycle Management) market, you can find a fine introduction to this written by fellow SA contributor Adrián Hernández.

MTBC has been doing pretty well, it has four-folded revenues, although it hasn't yet moved to GAAP profitability, at least not consistently. But it is close:

Data by YCharts

The main reason for this is that the company thrives on acquisitions and these have a habit of throwing GAAP figures off with reorganization cost and the amortization of intangibles as the main culprits.

They have plenty of targets, it's a fragmented market and the company has become really good at these acquisitions. Their latest acquisition is that of Orion, which they managed to get out of bankruptcy, with the following elements of interest:

• Purchased for just 0.5x revenues.
• Purchased out of bankruptcy with favorable terms like not assuming any accounts payable obligations (but including accounts receivables!).
• Paid entirely out of cash ($12.6M), no additional debt or equity.
• Revenues will almost double as a result (Q3 revenues reached $17M versus $8.68M in Q2). Management argues the acquisition will generate roughly $30M on an annualized basis.
• Cost synergies: multiple cost-cutting leading to higher margins (see below).
• Broadening the service offering ('revenue synergies').
• There were 28 other companies interested in acquiring Orion.

From the earnings deck:

Let's expand on the latter point because the reader might wonder how MTBC was able to beat so many other suitors. Management provided several reasons:

• Quick DD capabilities.
• Scale with more than 200 team members worldwide and the experience with acquisitions, having done it many times before.
• Technological expertise, which management believes is a key differentiator for the company.

On the latter (Q3CC):

We've developed one of the most comprehensive proprietary platforms in the industry. We have extensive experience working with other platforms and we have a team of more than $300, IT and R&D professionals. This technological expertise is a critical differentiator and a key to our success.

The company has ample experience with acquisitions, having acquired 13 companies since their IPO in 2014

Basically, what happened is that the other companies balked (Orion was in bankruptcy for a reason, of course), but MTBC saw the opportunity and had faith it could quickly integrate Orion and achieve the cost reductions to make it worthwhile (Q3CC, our emphasis):

With regard to expense reductions, we have reduced service costs associated with third party vendors by more than 65%. We've also renegotiate it, facility leases, consolidate locations, and otherwise taking steps to reduce our facility expenses by more than 35%. Moreover, we've rationalized other operating costs while leveraging our core team members who bring additional expertise. When we view these initial reductions in operating costs, in the context of our strong client retention, we expect to materially expand our margins during the quarters to come.

How do they get these costs down? Well, here is SA contributor Adrián Hernández again:

for each new acquisition, in a few months the company reduces dramatically the operating expenses, completing and repeating the same process:

• Eliminating subcontractors.
• Centralizing 'Selling, General and Administrative' (SG&A) costs.
• Replacing high-cost employees by offshore workforce.

It isn't actually rocket science, they've done it before:

Apart from cost cutting, the acquisition also delivers new services like:

• Medicaid and Charity Care eligibility services.
• Practice management services ($3.3M in the quarter) like pediatric practices in Ohio and Illinois.
• GPO (Group purchasing organization) enabling 40,000 physicians across the country to purchase vaccines at discounted rates.

And, where new solutions and services are added, opportunities for cross-selling materialize (Q3CC):

the GPO generates about $1.2 million roughly in annualized revenue... But where we really see the opportunity is exactly where you alluded to, which is being able to cross sell between the GPO and the RCM base... The second phase of this will be going to our GPO customer base, those 4,000 physicians and cross selling our RCM and other solutions into that base. And just to kind of illustrate the reason why we're so excited about that is, for every one provider who moves from being simply a GPO customer to a GPO plus RCM customer, we believe, we'll be able to increase the revenue for that provider by roughly 40 times.

That could add up...

Innovation

Apart from acquiring new capabilities and services, the company also develops these in-house:

TalkEHR and blockchain solutions are some of the innovations they are working on (Q3CC):

In addition to further enhancing voice recognition and AI functionality in our talkEHR. We had started to develop an incorporate telehealth capabilities in our talkEHR and mobile app. My using our mobile app or a PC patient will be able to book and have a telehealth session with the doctor using our talkEHR. We have also completed development of our first blockchain based interoperability solution this first EHR vendor. It is currently being tested and we anticipate this to be in production this quarter.

Margins

Data by YCharts

With so many acquisitions, it isn't a surprise that GAAP figures aren't much to write home about, but we can expect better (Q3CC):

The Orion transaction has helped us to significantly scale our business, enabling us to grow revenues without a corresponding increase in overhead.

But even GAAP gross margin has been over 50% for quite a few quarters which is an indication of where these can be when most of the acquisitions are absorbed.

Adjusted EBITDA margin was 5.1%, non-GAAP earnings were also positive ($507K).

Cash

Data by YCharts

This is a much better picture of what's going on compared to the GAAP margins, the company has rapidly improved cash flow. The company didn't add shares nor debt to pay for the Orion acquisition.

Investors need to realize that the company raises cash for acquisitions by selling preferred stock, which pays a pretty hefty monthly dividend. The company sold an additional 600,000 of these preferred shares in the quarter, raising $13.4M in the process. From the earnings deck:

They argue this is a big advantage (Q3CC):

Is it not dilute common stockholders had no restrictive covenants like those which you've got a lot of industry participants into trouble. And it's perpetual, and has no mandatory redemption, although we have the right to redeem shares at $25.00 per share starting in November 2020 if we choose to. How many other forms of financing do you know of where you have the flexibility to redeem it whenever you want or tap or easily tap into it further as we have over the last two years without any convertibility or dilution.

Management argues that they don't have a problem paying the dividend on the convertibles (2,136,000 to be precise) out of their cash flow (Q3CC):

our dividends are $490,000 a month. When you think about our Q3 cash flow, our cash flow in the quarter was $2.8 million which was a $1 million more than our Q4 level of dividends.

But as you can see, with free cash flow for the past 12 months at $5.4M, it's a bit of a stretch to pay for the dividend entirely out of cash flow, even if the latter has improved really substantially.

Their balance sheet is pretty sound:

Guidance

Management reaffirmed their guidance for 2018:

• Revenues: $49M-$50M
• Adjusted EBITDA: $4M-$5M

Revenues are 50%+ higher from 2017 and adjusted EBITDA roughly doubling from 2017, and management isn't done yet (Q3CC, our emphasis):

Now that we're confident we can achieve 50% growth in revenue and 100% growth in adjusted EBITDA in 2018 in far due to a great acquisition, we set our sights on doing something similar in 2019.

Valuation

Since the company is a serial acquirer of other companies, their GAAP figures are marred by the accounting effects of these. Here is CEO Bill Korn on the Q3 earnings PR:

The difference of $2.7 million between adjusted EBITDA and the GAAP net loss in the third quarter of 2018 reflects $822,000 of non-cash amortization and depreciation expense, $987,000 of stock-based compensation, $806,000 of integration and transaction costs related to acquisitions, $80,000 of net interest expense, an $25,000 increase in our contingent consideration liability, $227,000 of foreign exchange losses and other expenses, offset by a $250,000 tax benefit

But on a revenue basis the company has a moderate valuation:

Data by YCharts

And that valuation is much more modest as it doesn't include the Orion acquisition with which revenues nearly doubled from Q2 to Q3 and are now on a run rate of $68M, which exceeds the market cap ($50M) by quite a bit so the sales multiple is really very modest indeed.

Here are their non-GAAP earnings and consensus outlook according to analysts, from SA:

The company has become non-GAAP profitable since Q4 2017 and managed to beat expectations every quarter, sometimes by significant amounts. We can only find analyst expectations for GAAP EPS (which are still solidly negative at -$0.63 for 2018 and -$0.30 for 2019).

With $5M of adjusted EBITDA in 2018 (the high-end of their guidance), the company would be valued at 10x EV/EBITDA.

Given the fact that the first three quarters yield a positive non-GAAP EPS of $0.21, we are fairly comfortable that valuation is modest. One thing to keep in mind is that the company does have a pretty hefty dividend obligation on the preferred shares (nearly $6M a year).

Conclusion

The company seems to have mastered the art of acquiring other companies, and there is plenty of leeway for them to have a go at in the future. They can buy companies in distress or even, as Orion, out of bankruptcy and leverage that with really substantial amounts of cost and revenue synergies.

All the while, they are becoming a bigger, more compelling platform which should strengthen their core profitability as well. Given that the shares have modest valuation multiples, we think they offer an interesting play for investors here, even if they have to keep in mind that the company has substantial dividend obligations on the preferred shares.

Management owes just over half the company, so they are on the side of investors. Investors could also consider the preferred shares, while fairly illiquid, they do offer a 10.5% dividend yield.

Analyst’s Disclosure: I/we 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.