HIStalk Quotes
Mergers, Acquisitions, and Stocks in 2006 and 2007: An Interview with Jon Phillips of Healthcare Growth Partners
posted 01/18/2007
It's been a year since I last interviewed Jon Phillips, managing director of Healthcare Growth Partners. His predictions were darned good for 2006, so naturally he's the guy I want making 2007 ones.
Some caveats: Jon obviously can't tell everything he knows because of his position, so this is what he's allowed to say. Some companies he mentions are his clients, even though he's objective. And of course, nothing here should be considered advice for buying stock, choosing a vendor, or getting a job - do your own diligence.
Healthcare Growth Partners has transaction activity reports on their site.
What were the hot and not-so-hot areas of healthcare IT in 2006?
In terms of where the capital is going, what you’re seeing is a lot of interest in earlier-stage opportunities. For a while, investors were shying away from those. It’s a difficult space for success, especially when you’re selling into the provider universe. You’ve got a long sales cycle and a fragmented market. Adoption curves can be difficult. Venture funds were saying that they’d like to see companies further along in their business plans, with proven customers and a need for funding sales and marketing.
Toward the end of 2006, you started seeing investments in earlier-stage companies across the board. Some of what’s driving that is the optimism about healthcare IT in general. The caveat is that it still isn’t easy to raise money as a small company. Investments are selective and investors have lost money.
There wasn’t much of a broad theme in mergers and acquisitions this year. The general trend was company-specific, building out capabilities that individual companies will need going forward.
Cerner, for example, laid out a strategy earlier this year to expand beyond the provider environment into life sciences opportunities. They acquired Galt Associates, which is a life sciences play.
For Eclipsys, it was a year of finding smaller acquisitions that would complement their existing capabilities, like Sysware for lab and Van Slyck to broaden their acute care capabilities. Allscripts acquired A4, which was critical to make sure they had a practice management offering.
McKesson’s deal with Per-Se, which is pending, was the largest transaction of the year. That’s more of a traditional consolidation. There’s a strong strategic fit into what McKesson has and the deal will boost their ambulatory and pharmacy presence. The key question is how effectively and quickly can they integrate.
What I’m most surprised about is that I thought there would be more buyout activity, given the money that’s out there and the expressed interest in HIT.
Which 2006 deals will be the most important in five years?
MedAssets buying Avega. MedAssets and other GPOs, based on their relationships with hospitals, will present a significant challenge to traditional HIS vendors.
McKesson and Per-Se will be quite significant if the integration goes really well. If so, McKesson will continue to be leader. If not, you could see some internal pressure on McKesson. You’ve significantly increased your revenue, but you haven’t solved the growth problem. They have a lot of opportunities to grow their revenue, but they have to execute well.
Thomson is taking some steps that show they’re here to stay, as are some of the other content players. Wolters Kluwer bought Provation Medical and Thomson acquired Mercury MD and Solucient. Content players want to get closer to the application base. The question is whether they will fully get into it or are happy working with application vendors in partnership. Five years out, that will be significant.
One that I think has some real potential for shaking things up is the Microsoft deal with Azyxxi. Microsoft is starting to take a more active look at healthcare. The question is what direction they’ll decide to go. They’re more inquisitive and focused on how they’ll attack this space and they have the resources to push significant change.
You also saw non-healthcare IT companies taking significant steps into the healthcare IT space. Microsoft. Sage Software with the Medical Manager business. Bank of America buying HealthLogic. Run down the list and you see significant names making acquisitions to pull themselves into this space.
Competitively, it should be an interesting few years. Lots of people want to get into this space and are taking first steps. Some will have rough lessons they need to learn. Better or worse, the healthcare technology field is different from other industries. Folks who come into it with the assumption that their way of doing business will be successful usually have a flawed transaction. Folks who take a slower approach to learn the industry first are the ones to watch out for.
You said in January 2006 at you expected action with Picis, SIS, and A4. Picis is going public and SIS and A4 got new owners. That’s a perfect record, but you also mentioned Mediware as needing financial help. What will happen with them?
I’m really not sure. From hearing about some of their customer challenges, it’s interesting. Given the application capabilities and products that they have and their footprint, you wonder what they will decide. I don’t know that their long-term approach can be the status quo. They probably need to do something, but I’m not smart enough to say definitively what they should do.
A key focus for Mediware and others in the mid-market is to figure out how to grow organically. Once they can figure that out, they can think about acquisitions or other initiatives to increase growth. For companies like Mediware or SIS, sizable companies with strong products and decent market presence, the key is to drive organic growth. If you’re not growing with the market, you’re probably missing something. Once you’re growing, then what can you add to augment growth?
Netsmart, for example, figured out how to make sure they had a solid core business, then added acquisitions to augment that and help them maintain growth.
The challenge with any company doing less than $50 to $100 million in revenue is that the cost of being public can be expensive. That may have driven Netsmart to take themselves private. It costs hundreds of thousands of dollars for compliance, maybe $500K to $1.5 million total just to maintain your business. On $50 million in sales, that’s a significant percentage of your profits. I think you’ll find struggles on the lower end with companies trying to decide whether to stay public or not. You either get bigger so you can afford that cost or you go in a different direction.
In 2007, I don’t think you’ll see as many large transactions as there were in 2006. You look around and you see some potential deals that could be of size, but if you dive into strategic rationale, the trend of acquirers is smaller transactions with easier integration. It will be tougher for folks to rationalize bigger transactions. With a growing market, a big-bang deal can take your eyes off the market for six months to a year. You may miss key developments and lose ground to your competitors.
How important is company management?
In teams that aren’t as strong, I want to know what components they’re missing. What you often find is that few if any companies have no management talent at all. It may seem obvious, but there are always folks on the team who are very strong. Do they know how to work together and have the right people on the team based on its life cycle?
If an early cycle company has a phenomenal sales VP but a product that’s not as well-developed, that’s not a great thing. You see that mismatch of talent fairly often.
Later on, companies have to make a transition from being focused on technology and products and move to a strong sales and marketing capability. Once you have that, the next stage is implementation, support, and service.
Without naming names, a lot of companies, especially on the EMR side, are running into that stage. They need to build those areas up or risk a customer backlash. If you can’t get a customer implemented in three years, why would a customer pick you?
In practice management, the market is more mature and you’re not necessarily seeing new PM-only sales. You must be good at servicing customers. Sometimes vendors with a big installed base start to take customers for granted. That can erode their customer base.
What do you expect to happen with Misys?
My general sense is there was a lot of frustration within Misys when they were trying to run a business while going through their M&A or MBO process. That’s challenging for management teams, especially when it’s as public as it was with Misys.
They have an incredibly strong competitive position in physician practices and home health. In acute care, they have great assets, but they have work to do. The good thing is that they recognize that. They’re not saying they’re fine and can coast.
Ask who the best companies are in the HIT marketplace and Misys’s name doesn’t come up. They’ll take steps to change that one way or another. They’ll either focus on development or become more acquisitive. They’ll spend money to boost their presence in US healthcare market.
The fundamental question is should Misys Healthcare be a subsidiary of a software conglomerate with some development benefit but not much else? Or, should they be a standalone company? The senior team at the parent company will have to decide whether having healthcare as part of the business is beneficial to shareholders or not.
Their strategy will hold. They’ll focus on strengths, but they probably need to get broader and deeper and take advantage of what they have. You’ll probably will see fundamental changes there if they want to be mentioned in same breath as GE, Cerner, McKesson, and Eclipsys. They’ll need to take some steps.
What small companies or technologies do you like?
The common theme of what I like is products that aren’t just usable, but are actually being used to solve problems. I’ve seen a lot of companies with incredible ideas. A risk in what I do is getting caught up in somebody’s idea and in the trap that everybody should use it.
Lot of technology has been sold but isn't being used. That leads you to companies with more of a best-of-breed or niche focus. Long term, those companies will probably become part of a bigger entity.
Teletracking does a great job. Not everybody knows about them. They’re below the radar screen. They have a solid business. In PACS, DR Systems and Dynamic Imaging are doing a great job. Handheld folks like PatientKeeper and Medaptus are putting technologies in hands of doctors for charge capture and demonstrating ROI.
ED systems vendors like Medhost and Picis have been able to hold on to beachheads in hospitals dominated by other systems vendors. They grow and thrive because they recognize the ED’s drivers and how they’re different than other clinical systems.
I look for companies that put their customers first.
Will non-US business be important to American healthcare IT vendors?
I think you’ll continue to see people interested in non-US expansion, but there are challenges. The UK was a great opportunity, but it had challenges.
What other markets could vendors get into? Think about Europe. The EU represents a tremendous market opportunity, but you’re still talking about selling into individual countries. Can you get a presence in France and grow in France?
There’s some capability to move technology between European countries and between Asian countries, but the challenge is that the relative opportunity here, and to a lesser extent in Canada, still outpaces the opportunities in Europe or Asia. It may be a different ball game in five years, but right now, our IT budgets and fragmented market lets companies build a business without having to land the big whale. Folks will tend to prioritize the US market higher.
Your one-year stock pick a year ago was Eclipsys, which is down 5% since then. For five-year performance, you liked Cerner, Merge Healthcare, and Quality Systems. Cerner is unchanged, Merge is down 75%, and QSII is up just a little. We know about Merge’s accounting problems, but do you still like the others?
I still like Cerner over the long term. Eclipsys, Allscripts, and Quality Systems, too.
I have more skepticism about Merge today. They obviously had a rough year, but I think the question is, can they get focused back on sales? PACS and RIS is a different competitive dynamic. If you show weakness, you’ll have folks right at your neck trying to take you completely out of the game. That’s their risk. GE and Philips and Siemens will be going hard after them. With Kodak’s business sold, they’ll go after it harder, too. The independent vendors will continue to be ferocious. You have to hit on all cylinders to grow. I have to take Merge off my list as a longer term pick.
Looking across the board, my one-year pick would probably be Eclipsys again. They’re taking the right steps and I think you’ll see that return track in. For five years, I’d take Cerner, Allscripts, Eclipsys, Quality Systems, and Systems Xcellence. Their individual valuations are steep, but they have strong market presence and the ability to execute.
An investor could do worse than to buy a market basket of healthcare technology stocks.
What should HIMSS attendees look for to detect new trends or changes in the direction of companies?
Look for how well folks are able to make things work together. Lots of people will disagree, but the nature of healthcare is that we’ll see a lot of applications for different departments. You’ll never see every department and function being handled by one vendor. Enterprise vendors will grow, but if you look at small companies and how close they are to their customers, the enterprise vendors will have a tough time keeping up.
For small vendors, how well can they work with the big companies, coming into your hospital to make things seamless? Ask the big guys, “What if we want a different ED or PACS? How effectively can you make that work for us?”
Everybody, both vendors and customers, need to remember that when the customer says they want different systems that work together, vendors need to be able to serve those customers’ needs.
One of the fun things about HIMSS is to find out what everybody thinks about where the industry is going. Sometimes you hear about a groundswell and listen in on that and can catch trends early. I don’t know that there will be anything groundbreaking, but you'll probably see interesting trends.
Who I admire in the industry has changed. When I think about what goes on in the market and good things about healthcare IT, it gets back to two sets of people. First are the folks at hospitals who have to run these systems.
Second is the people at these small companies who truly believe what they’re doing and are in healthcare for a reason, looking to develop technologies that will make a difference in the lives of patients and clinicians.
The amount of enthusiasm in even an early company that's having trouble is exciting. It takes a lot for people to look at this huge landscape of a healthcare industry that has done so much, but also has so many evident problems. People who think they can do it better and put their time and effort into it are cool folks.
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