Systems Xcellence: Prescription for profitability
The United States loves its drugs. And we’re just talking the legal kind here.
From $2.2 billion in 1996, the amount spent on prescription drugs soared to $3.7 billion in 2006.
What’s behind the rise? An ageing population, increased drug usage, higher prices, and the direct-to-consumer marketing of lifestyle drugs have all played a part. Then there’s the U.S. federal program to subsidize the cost of prescription drugs for Medicare beneficiaries that went into effect in 2006 (Medicare Part D).
It’s all good news for Systems Xcellence Inc. (Nasdaq: SXCI), which seems to have written itself a prescription for profitability by helping companies in the prescription drug supply chain process transactions and administer drug benefit programs.
While the company was founded in Canada and is headquartered in Milton, Ontario, just outside Toronto, 95% of its revenues come from the United States.
Systems Xcellence – with 400 employees – has two distinct types of customers to which it sells two different solutions.
1. The Payors
These are the groups that foot the prescription bills, including managed care organizations, Blue Cross/Blue Shield organizations, government agencies, and employer groups.
The company has some 70 payor customers – including big name customers like Caremark, medcohealth, and HealthTrans – which account for 71% of revenue.
The big product here is InformedRX. This package allows organizations to in-source their prescription drug programs on an a la carte basis. It also includes prescription claims processing, retail network contracting, and Medicare Part D transaction processing. The upside for payors? Flexible and transparent pricing, enhanced customer control, and cost savings. Systems Xcellence also offers data warehousing and information analysis, rebate contracting and formulary management, clinical initiatives, and consumer Web services.
2. The Providers
These customers are on the sales side: independent pharmacies, retail chains, and institutional and mail-order pharmacies.
For this group, the challenges are simple but substantial: dealing with the growing number of prescriptions and the ongoing shortage of pharmacists. For them, Systems Xcellence offers its RxExpress and HBS suite of services, both of which help increase efficiency in-store and at the corporate level in the filling of prescriptions. These “provider” customers account for 29% of revenues.
While to newcomers Systems Xcellence may seem like an overnight success, the company has been around since 1993. It went public on the Toronto Stock Exchange in 1995, and on Nasdaq in 2006. But it’s been a bumpy ride for investors. Adjusted for splits, the stock fell from the C$30 range in late 1995 to around C$6.00 in 1999. It had a quick dot.com-fuelled run-up in early 2000 to C$15.00, but by the start of 2002 was trading at around a loonie – a Canadian dollar. And from 2002 to 2004, revenues only grew to C$33 million, from C$29.5 million.
But then the company’s marketing efforts and competitive services started to gain traction. Sales in 2005 were C$54.1 million, and in 2006, C$80.9 million. Systems Xcellence is offering guidance of C$96 million to C$101 million in 2007. Even better is that recurring sales have also been growing, from around 50% of sales in 2002 and 2003 to 67% last year.
Those healthy sales have left the company’s profitability in fine shape. From C$2.4 million in 2004, net income grew to C$12 million in 2005 and C$22.1 million in 2006. This in turn has led to a robust balance sheet. Working capital at the end of 2006 was C$75.6 million, up from C$37.3 million a year earlier. And the company closed out last year with no debt.
The stock has responded in kind, establishing its 52-week high of $23.78 just last week, a long way from the low of $10.17 on June 23. But given that climb, and the fact that it's up some 50% so far this year alone, it’s a fair question as to whether the company - which is now trading at a P/E of 33 - has had its run, at least for now.
While the stock may trend sideways in the near term, most analysts say it’s still on an upward path. And it’s the same drivers – the increasing number and cost of prescriptions, and the growing need for control – that should keep it climbing.
In a recent report, Versant Partners predicted strong growth in transaction processing revenues, coming from expansion in the self-insured market, continued growth in Medicare and state Medicaid initiatives, and possibly a strategic acquisition.
Another key is the transparency Systems Xcellence offers, since it is only after the transaction fee for processing claims, not any mark-up. As National Bank Financial pointed out in a May 2007 report, if the desire for transparency reaches critical mass, “… it could create another inflection point leading to another step up in growth.”
Downside protection is afforded by Systems Xcellence’s near-70% rate of recurring revenues, which the company expects will grow, given the rise in transaction processing revenues.
The company has set targets for organic revenue growth of 20%-25%. With 20.3 million shares outstanding, and a market cap of C$513-million, the EPS for 2006 was C$0.69. National Bank – which has a price target of US$20.00 - is forecasting earnings of C$0.71 a share for 2007, and C$0.81 for 2008.
Meanwhile, Versant Partners has a one-year target of C$26.00, or a 45% increase from the $17.91 U.S. it was trading for at the time the report was put out. This was based on a P/E multiple of 20 X for 2007, and 23 X for 2008.
