Customers clearly believe in the quality of the service being provided. In the health care business, the gold standard for performance ratings is KLAS performance ratings. Nuance has 6 products that are #1 in their category and one product that has been #1 in its category for 8 years running. Even with Nuance’s large share of physicians, there is still a lot of room for growth. Nuance can leverage its current market by increasing the number of Nuance products that each physician uses, and it has a lot of room to grow in expanding its access to the remaining 47% of physicians who don’t yet use Nuance’s health care products.
Management concluded the quarter by guiding towards $1 billion in revenue for the health care business in the next year and is clearly expecting the health care business to accelerate in 2013. I don’t think management is being too aggressive with this estimate given how stable and dominant Nuance is and has been in the health care business. Ultimately, if Nuance is to be a winning stock, it will be the health care segment that carries it to high returns.
3 reasons to buy Nuance
1) Dual threat: stable and disruptive
On one side you have the health care business with a huge share of the market, becoming ever more entrenched in its market through a strong recurring revenue model. On the other hand you have a disruptive mobile business with a potentially gigantic market and limitless opportunities to expand the technology(cars, voicemail, and TVs are only the beginning). Nuance is clearly ramping up for growth as we see a 64% increase in employees in 2012, and this dual threat combined with scale increases to accommodate growth will be guide Nuance to a market beating performance.
2) Innovation:
Of course you have a disruptive business with the Mobile segment and the applications of the technology already in place, but there is a lot more to Nuance Communications than that. Nuance prides itself in its innovation, and they have two new technologies on hand that are ready to produce. Nina, a disruptive virtual assistant, is one of these products. To quote management:“We note in particular that early bookings and the breadth of our pipeline for our enterprise virtual assistant, Nina, indicate a reception well beyond our expectations.” Nuance has also been developing voice biometrics technology that could help in many areas of the business including customer service, where Nuance could allow companies to recognize repeat customers and provide more effective services.
3) Catalysts:
Finally, there are a few catalysts that could bump up Nuance’s stock in the future. First, Nuance took on a lot of debt recently to finance its growth. If that growth comes to fruition, Nuance will pay off its debt and pressure will be reduced on the stock. There is also a lot of goodwill on Nuance’s balance sheet. Management’s promises that acquisitions will be reducing as a portion of Nuance’s growth strategy over time should allow for organic growth which would strengthen Nuance’s balance sheet as well. However, apart from financial statement catalysts, there are material aspects of the business that could help Nuance. In hospitals, medical practitioners must all use a uniform code as prescribed by the government. Currently, most hospitals use ICD9, but by Oct. 1st 2014, all hospitals are required to change to ICD10. Nuance sees a large productivity loss in this switch to ICD10 unless hospitals begin to use Nuance products, a possible growth catalyst in 2013 and 2014.
3 reasons to sell Nuance
1) Is the growth fake?
The biggest concern with Nuance is with the level of Nuance’s acquisitions. Nuance had 10% organic growth in revenue in 2012 compared to its 25% total revenue growth. If organic growth can’t grow as a portion of total revenue, Nuance may run into problems as M&A activities aren’t known to be very value accretive for shareholders.
2) Financial statement and valuation questions
Goodwill makes up 50% of total assets, a level that is quite big enough to worry shareholders. Moreover, GAAP earnings per share is still only $.67, so Nuance isn’t at all cheap at 35x earnings.
