Can This Tiny Healthcare IT Outsourcer Play With the Big Boys?

Robert is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Domestic spending on healthcare is clearly on an unsustainable growth path, with $2.8 trillion spent in 2012 according to the Centers for Medicare and Medicaid Services, roughly 17% of GDP.  The potential solutions to the problem are varied, but technology will certainly play an increasingly large role in lowering costs.  The federal government has been doing its part to foment the adoption of technology products, offering approximately $35 billion in technology incentives as part of its health care overhaul legislation.  While a few major companies dominating the sector, small-cap Streamline Health Solutions (NASDAQ: STRM) has been picking up its fair share of customers.  So, is this company worth a look?

What’s the value?

Streamline primarily offers a web-based content management platform that integrates with healthcare providers’ legacy IT and electronic record systems to create a centralized database that can be accessed anywhere.  The company also added enhanced coding functionality to its system with the 2012 acquisition of Meta Health Technology, which should help improve clients’ billing accuracy and associated profitability.  Despite Streamline’s size disadvantage vis-à-vis its major competitors, it grew its operating footprint sharply in 2012, ending the year with 104 health systems under contract.

In its latest fiscal year, Streamline reported strong financial results, with increases in revenues and adjusted operating income of 38.9% and 51.6%, respectively, versus the prior year.  The company’s sales growth was aided by an increase in its enterprise customer base, as well as synergies from its August 2012 acquisition of coding specialist Meta Health Technology.  In addition, Streamline’s adjusted profitability increased due to operating leverage from its larger customer base.  The future is also looking bright, with a near doubling of the company’s backlog from the prior fiscal year end.

Fighting the giants

However, Streamline needs to scale up its operations significantly to increase its efficiency and compete with the industry’s giants, like Cerner (NASDAQ: CERN) and Athenahealth (NASDAQ: ATHN).  Cerner is the industry’s gold standard, with compounded annual revenue growth of 21% over the past twenty-five years.  As of December 2012, the company boasted a customer base of 10,000 facilities and 45,000 physicians across its operating footprint.

In its latest fiscal year, Cerner reported another solid financial performance, with increases in revenues and operating income of 21% and 24.4%, respectively, compared to the prior year.  The company’s sales growth benefited from gains across its business units and a focus on recurring revenues, which accounted for 72% of sales during the period.  While Cerner’s gross margin was affected by lower margins on its resale of third-party technology products that it incorporates into its solutions, it generated a higher operating margin through leveraging its sales and administrative workforce.

Meanwhile, competitor Athenahealth has also built a sizable operating footprint, with over 31,000 physicians utilizing at least one of the company’s services, which include electronic health records, patient communications, and revenue management offerings.  The company also moved into the data analysis and quality management area through its October 2012 of Healthcare Data Services.  With government and private payers moving to outcomes-based payment schemes versus service-based schemes, health care providers are going to increasingly need advanced analytical data to manage their practices and provide positive patient outcomes.

In FY2013, Athenahealth has been continuing to attracting greater numbers of healthcare providers to its cloud-based services, with double-digit customer gains across its product lines, led by a more than doubling of the physician user base for its AthenaCommunicator product.  The company’s focus on creating critical mass in its operations has led to strong sales, up 35.9% in the first six months of FY2013, though its adjusted operating income slipped due to investments in personnel and intellectual property.  However, investors seem to like the company’s preference for sales over profits in the short run, bidding the company’s share price up to a new high after the recent announcement of a deployment agreement with Ascension Health and its 4,000 plus healthcare providers.

The bottom line

The healthcare IT sector is in a race to gain massive scale and a large installed base of users, to which it can then sell high-margin back-end services, like maintenance and professional services.  While Streamline’s content management system is currently in demand, it will likely need to team with a larger competitor to level the playing field with the healthcare IT giants and their large marketing organizations.  Looking at the potential risks and rewards, investors should probably stick with the industry’s long-running gold standard, which is Cerner.

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Robert Hanley owns shares of Streamline Health Solutions. The Motley Fool recommends Athenahealth. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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