Computer Programs and Systems: Recurring Revenue and Beneficial Expectations (NASDAQ: CPSI )

computer program and systems company (NASDAQ: CPSI) recently made healthy expectations for long-term growth in each of its business units, noting substantial recurring revenue.I consider standardization, automation, digital innovation and SaaS offerings to accelerate FCF margin growth. Additionally, I believe new RCM solutions and cross-selling efforts could be favorable catalysts for net sales growth in the coming years. There are obviously risks of failed acquisitions or new healthcare regulations, but I think CPSI does look undervalued.

Computer Programs and Systems: Substantial Recurring Revenue and Beneficial Expectations

CPSI is a leading healthcare solutions company with six companies including Evident, AHT, TruBridge, Get Real Health, TruCode and HRG. It focuses on improving community health, connecting patients and optimizing financial operations.

Its divisions include RCM (Revenue Cycle Management), EHR (Electronic Health Records) and Patient engagement. RCM provides business and IT services and RCM solutions. EHR provides comprehensive EHRs for hospital and post-acute care. Patient engagement focuses on empowering patients and providers. CPSI serves community hospitals and health systems, with a particular focus on smaller facilities. In 2022, the company will achieve revenue of $326.6 million, Includes 93% of recurring revenue.

Computer programs and systems present optimistic expectations for the future long-term growth of RCM, EHR, and patient engagement. I believe these numbers are the most interesting part of the business model. The RCM business model is expected to grow close to 10%-20%, with patient engagement growing close to 25%. With these numbers in mind, I decided to run a financial model to see if the stock was undervalued.

Favorable market expectations, including free cash flow growth and net sales growth

Market analysts expect sales growth in 2023, 2024 and 2025, along with EBITDA and EBIT growth. The net profit margin is also expected to increase from 2023 to 2025. Net sales in 2025 will be close to US$389 million, EBITDA in 2025 will be close to US$65.4 million, EBITDA will be US$30.3 million in 2025, and the net profit margin in 2025 will be approximately 5.85%.

It’s also worth noting that most analysts expect free cash flow to grow from $11 million in 2023 to about $41.6 million in 2025. With that in mind, I think running a DCF model makes sense here.

Balance Sheet: Net debt/EBITDA ratio appears to be under control

As of June 30, 2023, Computer Programs and Systems reported cash and cash equivalents of $7 million, accounts receivable of nearly $54 million, prepaid expenses of $12 million, and total current assets of approximately $82 million.

The company also disclosed $8 million worth of property and equipment, $36 million in software development costs, $93 million in intangible assets, $198 million in goodwill, and $434 million in total assets. The gearing ratio is about 2 times, and I think the balance sheet is in good shape.

I’m not really worried about liabilities or the total amount of debt. Financial debt/EBITDA is less than 3 times, while computer programs and systems have reported much higher leverage in the past. In my opinion, further reductions in total debt could lead to higher stock prices.

The list of liabilities includes accounts payable worth $14 million, the current portion of long-term debt of close to $3 million, deferred revenue worth $9 million, long-term debt of about $141 million and total liabilities of $204 million.

Net sales No. 1 catalyst: New RCM solution and cross-selling likely to double net sales

I believe that further growth in the RCM solutions and services market, cross-selling to existing EHR customers, and expansion into new hospitals and health systems can accelerate net sales growth. In this regard, it is worth noting that the company has worked with advisors on these matters. I can’t remember the consultant’s name, but it is said to be a top international consulting company.

We engaged a top international consulting firm to evaluate our core growth strategy, and the result of an eight-week engagement was the confirmation of our current core strategy and the identification of potential growth opportunities for other innovations. Source: 10-Q

Inorganic growth can also accelerate net sales and free cash flow generation

It’s also worth noting that Computer Programs and Systems has acquired other companies in the past and expects to do so in the future. Goodwill has grown significantly since 2016. Perhaps, management may have to reduce its net debt/EBITDA to make new acquisitions, but given the expertise in the M&A market, we can expect new acquisitions.

We may also seek to achieve growth through acquisitions if we determine that acquiring businesses, technologies or products may help us achieve our strategic objectives. Source: 10-Q

Standardization, automation, digital innovation and SaaS offerings can also accelerate growth

I also believe that optimizing margins through standardization, automation, and use of external resources may lead to efficiency gains and cost savings. Additionally, driving digital innovation by providing patient engagement solutions that foster collaboration and improve health outcomes can be a catalyst for FCF growth. Finally, I am quite optimistic about the SaaS product, which may bring in more interesting customers, and existing customers may use the product of computer programs and systems more.

These SaaS offerings are attractive to our customers because this configuration allows them to obtain advanced software products without a large initial capital expenditure. We expect this trend to continue for the foreseeable future, with the impact on the company’s financial statements being a reduction in EHR revenue during installation in exchange for an increase in recurring recurring revenue during the SaaS arrangement. Source: 10-Q

limited contractual obligations

In January 2016, the company acquired HHI and entered into a $175 million syndicated loan agreement with Regions Bank. Rates are based on SOFR or an alternative benchmark rate. Debt payments will be approximately $900,000 in quarterly installments through March 2027. The maturity dates of the revolving debt are as follows.

my expectations

I made some forecasts for the three business segments reported by Computer Programs and Systems. Sales growth in all three segments was close to management’s expectations in a recent presentation. Based on these projections, RCM net sales in 2033 would be approximately $513 million, EHR net sales close to $173 million, and patient engagement approximately $80 million. Total sales in 2033 are approximately $768 million, with a net profit of $33 million, a net profit/sales close to 4%.

Net income adjustments also include provision for bad debts in 2033 – $18m, deferred tax close to -$69m, stock-based compensation in 2033 of $2m and depreciation value of $5m.

In addition, I also project acquisition-related amortization of intangible assets of $51 million and software development cost amortization of approximately $23 million through 2033, with no amortization of deferred finance costs and no contingent consideration income. Finally, since the change in accounts receivable in 2033 is close to -$32 million, the change in inventory is close to -$2 million, and the prepaid expenses are worth $1 million, the CFO will be $32 million in 2033.

If we also assume capex of around -$1M, the free cash flow in 2033 would be $31M. Now, with a WACC of 6.9% and an EV/FCF of 19x, the enterprise value is about $433 million. Note that previous EV/FCF stayed around 30x-14.9x, so my numbers are conservative.

Adding cash and cash equivalents of $7 million and subtracting the current tranche of long-term debt of $3 million and long-term debt of $141 million gives an implied price of $20.84 and an IRR of 1.617%.

Sensitivity analysis

I think the model looks solid, as a major change in WACC or EV/FCF does not lead to a major change in implied price or IRR. Assuming a WACC of 5%-7.5%, an EV/FCF of 15x-21x, an implied price of around $15-29, and a mostly positive IRR. I do think the stock appears to be undervalued.

Risks from failed acquisitions, damaged reputation or new regulations

The healthcare industry is highly regulated and subject to change due to political and legislative dynamics. Compliance with direct and indirect regulations is critical. Anti-fraud laws, e-prescribing, claims transmission, medical devices and data privacy are key areas. Additionally, the company could suffer significant losses if any upcoming regulations reduce Medicare and Medicaid reimbursements.

Health care reform laws will continue to affect hospitals differently, depending on the populations they serve and the payer structure. Community hospitals, our target market, typically serve a larger uninsured population than large urban hospitals and are more reliant on Medicare and Medicaid for reimbursement. Whether the increase in community hospital enrollment will be enough to offset the actual and proposed additional cuts in Medicare and Medicaid reimbursements in the health care reform law remains to be seen. Source: 10-k

In addition, interoperability standards, patient access rights, and ICD-10 codes affect business models. Compliance with regulations is critical, and future changes may affect product and development costs. Regulations can result in penalties and costs, and affect future reputation and free cash flow growth.

The company reports a lot of goodwill. Impairment of goodwill and impairment of intangible assets can lead to lower book value per share and lower stock price. Note, for example, that the acquisition of Healthcare Resource Group includes goodwill valued at close to $20 million, which is a significant component of net worth. The net assets acquired were $47 million.

many competitors

The market in which the Company operates is highly competitive, with ever-changing technologies, regulations and needs. Factors such as security, functionality, service, customer satisfaction, integration, and price are key to user choice. Its competitors include RelayHealth, SSI Group, Change Healthcare, Resolution Health, Ensemble Health (ENSB), Cerner, Meditech, PointClickCare and MatrixCare in the post-acute care space. Although the company faces competition, it is well positioned on these factors. Competition also arises from management system and technology providers in a dynamic and changing market.

in conclusion

I believe further growth through cross-selling, customer retention, and expansion into competitive areas could result in significant net sales growth in the coming years. Additionally, free cash flow growth is likely to be higher as well, taking advantage of efficiencies and margin optimization. Yes, there are risks associated with intense competition in an ever-changing technological and regulatory environment, but the share price has room to improve in my view.