Craneware Shares Slump 30% As It Reveals Disappointing H2 Sales

By | 28th June 2019

Shares in US-facing computer software specialist Craneware (LON:CRW) slumped by 30% today as it warned that its previous rapid growth has not been sustained this year. The share price reaction was rather brutal, and with an already high valuation perhaps further is to come:

That said, many holders are likely to still be in profit. The share price was 1500p as late as 2018, and its share price growth was rather slow and steady. Since then, it has rapidly exploded upwards to touch over 3500p this time last year. Since then it has been a real roller-coaster and today’s price drop simply adds to that.

In some ways, Craneware are a remarkable story. An Edinburgh-based company has producing the back-end software for many health providers in the United States is quite a surprise, and evidently this is based on high quality: in recent years turnover and profits have doubled as more and more clients sign up: a win-win scenario.

Given the depth and potential of the sector, there is clearly plenty of room for growth, and indeed for a US provider to simply buy them out. This has been reflected in the valuations in the past: with many business fundamentals pointing in the right direction, the only objection has been on price, with the company attracting extremely high multiples.

Today’s announcements appears to be the first real setback, but as the share price shows it is a painful one.

The Warning

The warning comes in a trading update RNS. We start with good news and bad news:

The Group has continued to make progress on its long-term strategic aim to become ubiquitous in US Hospitals, as the intelligence layer sitting across all other systems, delivering the information required to improve financial and operational performance. This has included the launch of three new products on the Trisus platform. However, whilst the Group continues to sign new contracts with hospitals of all strata, the timing and quantity of sales closed in the second half of the year have been lower than anticipated, as the market processed these launches.

This is helpfully quantified into real figures:

As a result, revenue growth for the 12 month period over the prior year is expected to be approximately 6% and adjusted EBITDA growth approximately 10%. As flagged at the time of the Group’s interim results, capitalised R&D has increased. In the year this will be approximately $9m (FY18: $4.7m), reflecting the Group’s ongoing commitment to new product development (both recently released products and further development for the future). The EBITDA figure has also been adjusted for one-off exceptional costs of approximately $1.5m relating to professional fees for a significant and well-advanced acquisition opportunity that the Group decided not to pursue in the period. Renewal levels remain within our historic range and the Group maintains healthy cash reserves.

This is no doubt a big disappointment as profits have been growing at a faster rate than this. The $1.5m professional fees are fairly significant on previous operating profits of $18.4m, and the capex charge is double the rate of the year before, which itself has risen disproportionately with the increase in turnover.

The Business

Craneware appear to be a fantastic business and appear to have many things going for them. Their goal of wanting to be mainstream in every US hospital sounds incredibly ambitious but with the growth they have had, not a million miles off unlike other companies mission statements.

A look at their margins suggest a product with great pricing power:

Revenues have almost doubled in this time and the margins have remained relatively constant. There has been no need to discount the product to get more volume, neither does it seem that there has been any competitive response. Not being familiar with the US healthcare model apart from that there is a much larger private element to it, it does still seem that there would be some network effects. More hospitals running the same software carries many benefits.

Craneware do not seem to have sat on their laurels and the scope of software they provide is fairly comprehensive, covering patient engagement tools to cost analysis tools. The founder, Keith Neilson has been at the helm of the company since 1999 and has overseen a company that became worth $1bn. Not bad going.

Unsurprisingly, the business has been throwing off cash. Free cash flow has been always positive, capex requirements have been small (until recently), and the dividends paid have been well covered. It is no surprise then that the company is also debt-free and net cash peaked at over $53m in 2016. This changed as the company decided to start to look for acquisitions to speed up its growth, but these have been conservative and most of this cash balance is retained.

Out of all the companies covered, this has to be a contender for one in the best shape. As before, the issue has been the price.

Comment

Even after today’s 30% drop, Craneware is still an expensive share to purchase, and the opinion on whether this is value or not depends whether we can believe the profit warning is a temporary blip and normal service will be resumed next year. The reasons as to why are a little unclear: there were three new product launches, perhaps hospitals may want to get to grips with these first before moving on.

If new products result in a natural speed bump after implementation, this may have some consequences for the growth rate. Capex has only really started to ramp up since 2016, suggesting more products in the pipeline. It does seem feasible that there is a limit to how quickly one hospital can consume these products, and clearly it is not a case where disaster would strike without it, as other places where Craneware do not operate have managed fine.

This being said, the scale of the opportunity that Craneware have is large, and it does seem that across the world, the value component of healthcare is becoming more important, not just in the US, but all over the world. There appears to be a decent barrier to entry now for a competitor to try and take on Craneware, with a much more likely scenario with it simply being purchased. One small threat may be if they become too successful, you couldn’t imagine Donald Trump being too happy about a foreign company having such a position, but his part Scottish heritage might just see him being OK with it.

The valuation still seems punchy today – there is still a fair amount of growth baked into the price. I think long-term the company is a winner, although there is still room for the market to knock it down to a better price. 4/5.

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