EMIS Group — Returning to innovative roots

EMIS reported 6.1% revenue growth in FY18, marginally below our forecast. Recurring revenues made up 83% of total revenues and grew 5.4% y-o-y. Primary, Community and Acute Care revenues came in slightly below our forecast, but were up 3.5% year-on-year, helped by the signing of a perpetual licence in the acute business for legacy software. CP saw strong growth of 14.4%, as it benefited from the roll-out of ProScript Connect to its direct customer base. Specialist and Care grew 13.2% y-o-y, as new contracts signed in FY17 took full effect in FY18. Patient revenues only grew 3.9% y-o-y, with H218 revenues flat versus H118. The company noted that changes in Google algorithms reduced traffic in H2.

Adjusted operating profit was marginally ahead of our forecast, resulting in an adjusted operating margin of 22.1%. This declined from the 23.3% achieved in FY17 mainly due to increased investment in headcount to deal with the customer support issues, but also to support the development of the EMIS-X platform.

Adjusted diluted EPS of 47.3p was slightly higher than we forecast and grew 0.5% y-o-y, tracking the growth in adjusted operating profit.

The company announced a final dividend of 14.2p per share, to make a full year dividend of 28.4p (+10% y-o-y).

On a reported basis, the company benefited from a £1.7m exceptional credit. In FY17, the company had made an £11.2m provision to cover the costs of the NHS Digital service issue uncovered early last year. The company ended up resolving the issues for a total cost of £9.5m. This credit was offset by higher than expected amortisation of capitalised development costs – overall reported EPS was substantially in line with our forecast.

At year-end, net cash stood at £15.6m, c £11m ahead of our forecast. Of the difference, £1.7m was accounted for by the lower than expected exceptional charge. The remainder was due to lower than expected working capital at year-end.

With the customer support issue in England now resolved, EMIS’s strategic priorities are:

In Primary Care, the company grew its share of the UK GP market by 1% to 57%. The company was selected for the NHS National Services Scotland (NSS) framework to supply software to Scottish GPs (where it has a market share of c 54%). The company expects to develop software on the EMIS-X platform to meet the requirements of the new framework.

Since the start of 2018, the company has been working to strengthen its customer support function. It has invested in a new service management software solution, ServiceNow, which will be used across all three care settings and by Egton; the roll-out started towards the end of Q1. The software will provide one online portal for all support and training requirements.

In conjunction with Patient and Primary Care, Egton launched the Online Triage solution towards the end of last year; 74 practices have since signed up to use it. Egton is also seeing strong demand for its digitisation service (converting paper records to digital records).

The Community Care business grew its market share from 17% to 20% over the year and maintained its number two position, with 100% customer retention. As highlighted at interim results last year, the business completed all 18 outstanding legacy contracts by year end. The business has 37 customers and won 90 new deals in FY18, which ranged from new software installations to training packages. Management sees scope for growing this market, with various greenfield areas that it could supply. An example is the hospice sector; it supplied clinical systems to 11 additional hospices in FY18.

The direction of the NHS is towards increasing interoperability between different care settings. Within primary care, via EMIS Web GP users can access 149 partner products from 104 different partners. In community care, all customers can use EMIS software to securely exchange data with other local services. The business is focused on working with the recently formed integrated care system areas – these evolved out of the sustainability and transformation partnerships that were formed in 2016 – and bring together NHS organisations and local councils.

The Acute business moved to a joint leadership position in A&E (from 19% to 22% market share) and maintained its number two position in hospital pharmacy (from 29% to 36% market share). As for community care, the vast majority of legacy contracts were completed (29 out of 30, with the remaining project expected to be completed in H119). Aside from the sale of a perpetual licence for legacy software to the Northern Territory Government of Australia, the business also won two new contracts for Symphony and one to deploy EMIS Health software into hospital pharmacy. It has also re-engaged in the national rollout of Symphony in Wales.

This business continues to perform well. A market share of 37% was maintained, as was its position as joint market leader. The rollout of ProScript to direct customers is 95% complete. In FY18 CP signed up 54 new group customer branches and c £1.4m in contracted value.

The work the group has undertaken to improve customer service was extended to CP. The division saw a 16% reduction in support calls per customer per month in 2018 and a 19% improvement in its overall customer service satisfaction score.

The Specialist software business maintained its leadership position for diabetic retinopathy screening software in England, although its share slipped to 74% from 76%. It is working with the national NHS diabetic eye screening programme to increase screening intervals to free up capacity and increase the number of patients that can be screened.

The Care screening business maintained its leading position in outsourced diabetic eye screening. It extended contracts with Central Mersey and Ireland DESP and won a new contract for digital surveillance of optical coherence tomography for Ireland. The profitability of this business improved as a result of the restructuring and the ramp up of new contracts that started in 2017.

As planned, the business launched version two of the Patient Access app in H118. This means that video consultation and online triage can be offered via the app. Over H218, unique users booking appointments with the app increased by 25% and those ordering repeat medications increased by 44%.

The majority of revenues in this business are generated from advertising. Since the end of H118, a change in Google algorithms reduced traffic to the patient.info site and had a negative impact on advertising revenues in H218, such that Patient H218 revenues were marginally lower than in H118. We note that Patient.info has been affected by Google search algorithms changing in the past; in our view this is an ongoing cost of doing business when the majority of traffic is generated via Google.

In H218, the business focused on building Patient Access for Professionals (known as the Patient marketplace). This will include community pharmacy and other health professional services such as physiotherapy and is due for launch in H219, at which point we would expect revenues to start to ramp up.

In addition to the work underway to build the EMIS-X platform, product development is ongoing within each business line. Examples include:

The company now has a core technology team totalling 450, up 150 over the year, and expects nearly half this number will be working on the development of EMIS-X by 1 April.

The company expects to generate revenue growth at a similar rate to FY18 and adjusted operating profit growth in the mid-single digits. We have revised our forecasts to take account of the following:

The EMIS share price has increased 21% over the last 18 months, following confirmation that the NHS Digital service issue had been resolved within the budgeted provision. However, it continues to trade at a discount to peers on a P/E, EV/EBIT and EV/EBITDA basis for FY19e and FY20e (we use our normalised forecasts to calculate these multiples, as we believe this is on the same basis as consensus forecasts for peers). The company generates operating margins at the top end of its peer group, but generates revenue growth just below the average for the group.

Uncertainty over the outcome of IT Futures is likely to weigh on the share price in the short term; although we think it is highly unlikely the company would not be selected for the framework, there is still uncertainty around the price that can be charged and the precise requirements of the software as well as the future competitive environment. In the longer term, evidence that the company is making progress towards the targets set at the recent capital markets day (revenue growth 5–9%, operating margins approaching 30%) will be the key catalysts for share price upside.