Health Catalyst, Inc. (HCAT) Q1 2020 Earnings Report, Transcript and Summary

Ladies and gentlemen, thank you for standing by, and welcome to the Health Catalyst Inc., First Quarter 2020 Earnings Conference Call. At this time all participants are in a listen only mode. [Operator Instructions] Please be advised that today's conference is being recorded. [Operator Instructions] It is now my pleasure to introduce Senior Vice President of Investor Relations, Adam Brown.

Good afternoon and welcome to Health Catalyst's earnings conference call for the first quarter of 2020, which ended on March 31, 2020. My name is Adam Brown. I'm the Senior Vice President of Investor Relations for Health Catalyst. And with me on the call is Dan Burton, our Chief Executive Officer; and Patrick Nelli, our Chief Financial Officer. A complete disclosure of our results can be found in our press release issued today as well as in our related Form 8-K furnished to the SEC, both of which are available on the Investor Relations section of our website at ir.healthcatalyst.com. As a reminder, today's call is being recorded, and a replay will be available following the conclusion of the call. During the call, we will make forward-looking statements pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 regarding trends, strategies, the impact of the COVID-19 pandemic on our business and results of operations and our general anticipated performance of the business. These forward-looking statements are based on management's current views and expectations as of today and should not be relied upon as representing our views as of any subsequent date. We disclaim any obligation to update any forward-looking statements or outlook. Actual results may materially differ. Please refer to the risk factors in our form 10-K for 2019, filed with the SEC on February 28, 2020, and our form 10-Q for the first quarter 2020, which will be filed with the SEC. We will also refer to certain non-GAAP financial measures to provide additional information to investors. A reconciliation of these non-GAAP measures to their most comparable GAAP measures is provided in our press release. During the call, we may offer incremental metrics to provide a greater insight into the dynamics of our business. These details may be one time in nature and we may or may not provide updates in the future. Lastly, I note that we asked for everyone's patience should we run into any technical difficulties given the unique circumstances of hosting this call. With that, let me turn the call over to Dan for his prepared remarks. And then Patrick will subsequently provide his prepared remarks. Dan and Patrick will then take your questions. Dan.

Thank you, Adam. And thank you to everyone who has joined us this afternoon. Let me first take this opportunity to share that our thoughts and prayers are with all those impacted by the COVID-19 pandemic, especially those who have lost loved ones. We recognize that there are certainly a series of unprecedented challenges associated with the global spread of COVID-19. If we also see reason for optimism and hope for the future in general, and specifically as it relates to the mission of Health Catalyst. Our mission to be the catalyst for massive measurable data informed healthcare improvement is needed now more than ever. And COVID-19 has shined a light on the benefits of a robust, scalable, flexible and open data and analytics infrastructure that when combined with the right expertise can lead to extraordinary outcomes, even in the face of a rapidly evolving global pandemic. As a reminder, Health Catalyst places our team members at the center of our flywheel with the belief that when team members feel connected to our mission at an extraordinary level, they will produce outstanding work for our customers. And holding true to that thesis I want to thank our team members who remain committed during this COVID-19 pandemic, to working tirelessly to support our customers, many of which are risking their lives to provide care with the goal of ensuring that their courageous efforts are as effective and as data informed as possible. And to date, we are both grateful and honored that our heroic health system customers have trusted us so meaningfully to support them in this time of great need. I'll begin today's call by sharing our first quarter 2020 financial results. As a reminder, in connection with our recent convertible senior notes offering on April 8, 2020, we preannounced our preliminary estimated financial results for Q1, 2020. I am happy to now share our finalized Q1 2020 financial results and to reiterate that I am pleased with our performance across the board. Our total revenue for Q1 2020 was $45.1 million. This represents an outperformance relative to the midpoint of our guidance and results in 28% growth relative to the first quarter of 2019. Total adjusted gross margin in the first quarter was 49%. And our Q1 2020 adjusted EBITDA was a loss $6.0 million, which represents an outperformance relative to the midpoint of our guidance, and shows an improvement from a loss of $6.7 million for the same period in the prior year. I'll now focus much of my commentary on our response to the COVID-19 pandemic, both in our support of our customers, and the corresponding impact COVID-19 is having on our business. First, I'd share that as the COVID-19 crisis has progressed, we've been heartened to see our customers leveraging our existing technology, now more than ever, in meaningful and significant ways, as they respond to COVID-19. The benefit of a cloud based open and flexible data platform means that customers can rapidly build their own ad hoc analytics with minimal development time. This architectural design coupled with our data platform's self-service tool has proven instrumental in enabling our customers to quickly make data informed decisions as this crisis has rapidly unfolded. In addition to customers utilizing our existing technology, we have works to quickly develop and deploy our series of COVID-19 specific technology and services solutions. We began developing our first three COVID-19 solution, in the early days of the pandemic. Based on a meaningful increase in direct customer dialogue and feedback, which has persisted throughout this pandemic, and we’ve brought based foundational solutions to market over the course of just a few weeks, in line with the timeline needed to enable our customers' preparedness during the rapid onset of the pandemic. Our next round of insights was gathered through frequent additional discussions with health system customers directly informing our next wave of COVID-19 development culminating in the release of 10 total technology and services solutions in less than two months. Importantly, in our effort to support all our existing customers in an expedited timeframe, the technology associated with these COVID-19 solutions is offered to Health Catalyst customers at no incremental cost. Additionally in response to requests from health systems who are not currently Health Catalyst customers, we have made available a modular bundle consisting of a light version of our data platform bundled with our patient safety application suite inclusive of the COVID-19 specific public health surveillance module. This offering can be installed in as little as a few weeks and the technology is also being made available to any U.S. healthcare system with the only fees charged in 2020 including our direct costs to recuperate cloud hosting and other implementation fees. The adoption of these COVID-19 specific solutions has occurred at a much faster pace than we initially anticipated. Likewise, the customer successes we've witnessed utilizing these solutions have reinforced the significant value of advanced capabilities in data analytics and expertise, especially in the face of such complexity and uncertainty. And with that I will now share some of the highlights we have witnessed over the last several weeks as customers have meaningfully leveraged our solutions in their response to COVID-19. First, I'd comment that usage of our data and analytics solutions has never been higher. Of particular note, are Population Builder, Leading Wisely and Patient Safety Analytics applications. Crucial components of our COVID-19 technology response have seen a significant increase in usage averaging greater than 20% increases in just the past several weeks since the onset of the pandemic. I'd also share that we have greater than 115 active implementations of COVID related analytics at our customers, each leveraging one or more of our COVID-19 solutions. Next I'd call out that our COVID-19 patient and staff tracker solution which is proving mission critical for customers because of its capability to track for COVID-19 positive patients have been within their health system setting and the staff with which they've interacted is already one of the most utilized analytics accelerators in our company's 12 year history. I'd also highlight that our COVID-19 capacity planning tool and epidemiologic approach to capacity management based on modeling an outbreak in local communities and the subsequent impact of infection rates on the healthcare system's ability to respond in terms of beds, ventilators, staff, and personal protective equipment has resulted in hundreds of users attending our training webinars and thousands of visits and views of our web based tool. Lastly, I'd share that we are fortunate to have one of the largest national repositories of health data in the world with our touchstone application, accessing data from our data operating system, which contains greater than 80 million de-identified patient records and tens of thousands of facts per patient. This application leverages its vast repository of clinically rich, de-identified patient data to produce real world COVID-19 insights related to surveillance, testing, capacity planning, and treatment response. And we are sharing those findings with customers, health systems, public health authorities and biopharma organizations. I'll conclude my comments on this topic by sharing with you a real world example of our support of one of our long standing customers during the COVID-19 crisis, leveraging a subset of the solutions that I just described. As the COVID-19 pandemic increasingly impacted aspects of organizational functioning, leaders at one of our large regional health system customers realized that their data requirements and the critical metrics they needed to track were beyond what their electronic medical record could provide. This organization quickly pivoted to our DOS platform to integrate data from numerous diverse source systems, producing an integrated view of data across more than five hospitals and hundreds of clinics spread across more than 45 different locations. In less than a week, it then deployed our COVID-19 dashboard technology powered by our leading wisely analytics application to transform data into timely information to guide management. This tool has allowed hundreds of employees, including this help systems, most senior leaders, and incident command teams to track greater than 60 trending metrics associated with COVID testing, employee health, outpatient and virtual volumes, inpatient volumes, negative pressure rooms, TPE inventory, ventilator availability, length of stay, and more, while also delivering the ability to quickly add new data based on emerging needs. Moving on from our technology and services respond to COVID-19, let me now spend some time discussing the current and prospective business impact of this health crisis. First, from an internal operations perspective, we are fortunate to have extensive work from home operations experience, as greater than half of our staff were already remote team members before the pandemic. Additionally, as a result of our solution being cloud based, all of our professional services can be delivered remotely, and thus we have not experienced any professional services disruptions due to the shift to a remote only model. Lastly, from an internal operations perspective, I'd share that in response to the COVID-19 crisis. We quickly developed an internal task force, utilizing this team to enable a rapid, consistent and centralized response across our customer base. With respect to the forward looking financial impact of COVID-19, let me first share that we view the process of issuing guidance as a significant commitment to the public markets to provide our anticipated forward looking performance with a very high level of confidence and accuracy. And as we've demonstrated by our financial performance relative to our guidance since becoming a public company, we take this commitment seriously. Later in our prepared remarks, Patrick will share our Q2 2020 guidance. The fluidity and uncertain timeline of the COVID-19 pandemic, however, precludes our ability to provide the precise magnitude of its impact on our full year 2020 financial results, as such, consistent with our 8-K issued on April 8, 2020, in conjunction with our convertible debt offering. We have determined that at this time, it is necessary to continue to wait to provide full year 2020 financial guidance. With that being said, I will now aim to provide as much color on our forward looking financials as possible. First, we are fortunate to have a highly recurring revenue model in which greater than 90% of our revenue is recurring in nature. And as such we entered 2020 with greater than 90% revenue visibility relative to our initial full year total revenue guidance. This revenue model helps curtail the potential negative impact of the COVID-19 pandemic on our 2020 total revenue. As it relates to our existing customer relationships, I'd first share that our dialogue with the vast majority of customers has increased meaningfully as a result of the COVID-19 crisis. Next, I would share that we benefit from a high level of technology revenue predictability, especially our all access DOS subscription customers that have built in contractual technology revenue escalators. I am pleased to report that since the onset of the COVID-19 pandemic, our customers' overall usage of our data platform has never been higher highlighting the significant value of data and analytics in responding to this crisis. As discussed earlier, we have developed a number of technology solutions designed specifically to support healthcare providers during the COVID-19 pandemic. We believe these solutions coupled with our open data platform should help us continue to drive high levels of customer retention and technology expansion as it relates to our professional services relationship with our existing customers. We have seen the vast majority of our customers choose to divert their contracted FTEs away from other improvement oriented projects and focus these resources on supporting their response to COVID-19. And in certain cases, we have even seen customers expand their professional services relationships with us. As we augment their staff in support of COVID-19 preparedness. That being said, we are also observing that many of our healthcare provider customers are being challenged financially as a result of the COVID-19 pandemic. As their higher margin elective procedures have been delayed or cancelled, particularly during March and April of this year. In light of this, we anticipate that we will likely see lower levels of professional services revenue growth in 2020. Importantly, we intend to support our customers through the near-term financial strength they may experience. As such, there have been situations and there may be additional situations where we proactively and temporarily provide our professional services to customers at a discounted rate, resulting in lower revenue and gross margin. We believe this long-term customer partnership oriented approach is deeply consistent with our mission reinforces our commitment to customers, and will enable us to maintain and expand these customer relationships overtime. As it relates to beginning new DOS subscription customer relationships, I am pleased to share that a number of late-stage deals have continued to move through our pipeline, including adding multiple new DOS subscription customers, even during the COVID-19 crisis. In particular, I would highlight our recently announced long-term partnership with the Carle Foundation, a meaningful customer relationship that began last month. This new DOS subscription relationship includes Health Catalysts serving both the Carle Health System, and Carle's Health Alliance, health plan more broadly related to new DOS subscription customer relationships. We have observed that the COVID-19 crisis has forced the majority of U.S. healthcare providers to prioritize their response to this healthcare pandemic as their number one priority. In many instances, we anticipate this will lead to these organizations realizing a high level of distraction from beginning new vendor relationships. As we've shared previously, the majority of our new customer sales typically occur in the second and fourth quarters aligned with health system budgets. This fact pattern, coupled with the uncertain timeline of the COVID-19 crisis has contributed to our need for additional time and data before we can speak to our 2020, net new DOS subscription customer metric with a high level of precision. I would share however, that we do anticipate seeing some near-term negative impact on new DOS subscription customer additions. The extent of which is likely proportionate to the length of time that COVID-19 is the main focal point of prospective customers. On the other hand, we believe our rapid development of extensive technology and services solutions, designed specifically to support healthcare providers during the COVID-19 pandemic may provide a partial offset, enabling us to acquire some level of new customers during the COVID-19 pandemic. While it is challenging at this point in time, to forecast new customer sales following the COVID-19 pandemic, we would anticipate some sales processes may accelerate from their normal timeline, as a result of pent-up demand. While others are likely to simply elongate proportionate to the link of the COVID-19 crisis. Importantly, the impact on our 2020 and 2021 revenue growth rate will largely depend on the rate at which we are able to acquire new customers during and shortly following the COVID-19 crisis. Patrick will spend some time in his prepared remarks articulating how new customers flow through our finances this year and next, to help provide a modeling framework for potential 2020 and 2021 income statement impact. Lastly, on this topic, I would share that we cannot think of any event in recent history that has galvanized the awareness and importance of data and analytics more than COVID-19 not only at the healthcare provider level, but also at the state and national health care infrastructure level. As such, we believe that we have reached an inflection point in our healthcare delivery model which is likely to serve as a medium to long-term tailwind in the industry's adoption of data and analytics. In terms of adjusted EBITDA, we plan to partially offset any negative revenue impact through selective cost containment efforts, thereby curtailing the adjusted EBITDA impact. Importantly, in our response to the COVID-19 crisis, we remain centrally committed to our team members ensuring they stay at the center of the Health Catalyst flywheel. As such, any cost containment efforts implemented will have a bias towards non-headcount related items. Now let me comment on our senior convertible debt offering completed in April, 2020. I am pleased to share that we successfully executed against an up-sized convertible debt offering of $200 million plus another $30 million green shoe with pricing at the favorable end of our marketing range. This offering strengthened our cash position by over $140 million, after retiring our all the med debt facility, resulting in a total of over $340 million in cash, cash equivalents and short term investments on our balance sheet at the end of April. As we've shared previously prior to this convertible debt raise, we anticipated we have plenty of coverage to reach cash flow breakeven. As such, we viewed this capital raise as enhancing our ability to opportunistically pursue M&A activities, especially at the analytics applications there of our technology stack. Given the challenging environment imposed by COVID-19 we believe that many of these applications companies will struggle to fundraise. This will likely present us with a number of favorable situations where acquisition targets will be eager for their team members to join the best place to work and we will be in a position to benefit from accretive technology solutions offering an enhanced value proposition to our existing and prospective customers. Before I turn the call over to Patrick, I'd like to share that we have taken steps to appoint a new member to our Board of Directors. Effective June 15th, 2020 Mark Templeton will join our Board. By way of background, Mark most recently served as the CEO of Digital Ocean, a cloud infrastructure provider. Prior to Digital Ocean, Mark spent 20 years of his career at Citrix Systems Incorporated, serving for 14 years as its President and CEO. During his tenure, Mark led the vision for a software defined virtual workplace to enable new ways for business and people to work together from anywhere. Under Mark's leadership, Citrix grew into a global enterprise with annual revenues of more than $3 billion with 100 million users worldwide. Mark's tremendous depth of experience growing an organization through both the innovation of an extensive product portfolio and dramatic global expansion will be a valuable addition to our board. And I am certain of his world class expertise in leading scalable growth will contribute meaningfully to the maturation of our company. Mark's board appointment fills an upcoming vacancy after Promod Haque's current term expires at our stockholder meeting on June 12, 2020. I want to take this opportunity to share my sincere gratitude for Promod, and his more than seven years of impactful service on our Board. Without Promod's countless contributions to our company over many years, starting in its early stages, I am confident that we would not be where we are today. Now, I'll turn the call over to Patrick, who will review our first quarter 2020 financial results and our outlook for Q2 2020. Patrick?

Thank you, Dan. Before diving into our quarterly financial results, I want to echo Dan's sentiment and say that I'm pleased with our first quarter results, especially in light of the macroeconomic backdrop. For the first quarter of 2020, we generated $45.1 million in total revenue. As Dan mentioned, this represents an out performance relative to the midpoint of our guidance, and it represents an increase of 28% year-over-year. The outperformance relative to the midpoint of our guidance was driven primarily by new customers and expansion contracts signing earlier in the quarter than expected, increasing the revenue we were able to recognize within the quarter. And this organic year-over-year growth was driven primarily by recurring revenue from new customer additions from existing customers paying higher technology access fees as a result of contractual built in escalators, and from existing customers expanding their services relationships with us. Technology revenue was $24.7 million, an increase of 23% compared to the same period last year, and professional services revenue was $20.4 million, an increase of 36% year-over-year. For Q1 2020, we achieved total adjusted gross margin of 48.9%, a decrease of approximately 280 basis points year-over-year. On the technology side, our adjusted gross margin was 68.7%, an increase of approximately 210 basis points year-over-year. This year-over-year increase was mainly driven by existing customers paying higher technology access fees from contractual built in escalators without the corresponding increase in hosting costs, partially offset by headwinds, due to the continued costs associated with transitioning a portion of our customer base to third party cloud hosted data centers in Microsoft Azure. And on the professional services side, our adjusted gross margin was 24.8%. This represents a decrease of approximately 670 basis points year-over-year, and a decrease of roughly 800 basis points relative to Q4 2019. As mentioned on our Q4 2019 earnings call, we anticipated that we will continue to see quarterly fluctuations, depending on the mix of services provided and our hiring patterns. And as we noted on our Q4 2019 earnings call in the first half of 2020, we anticipated that the mix of services provided, coupled with annual Health Catalyst team member pay increases would likely result in lower adjusted professional services gross margins in that period. I would also like to take this opportunity to reiterate Dan's prior comments, that in order to support our customers during the COVID-19 crisis, there have been and they continue to be selected near term situations, where we provide professional services at a discounted rate, resulting in lower professional services gross margin. In Q1 2020, adjusted operating expenses totaled $28.0 million as a percentage of revenue. Adjusted total operating expenses were 62% which compares favorably to 71% in Q1 2019. Adjusted EBITDA in Q1 2020 was a loss of $6 million, which compares favorably to an adjusted EBITDA loss of $6.7 million in the first quarter 2019. As Dan mentioned earlier, we are pleased to report that we outperformed the midpoint of our guidance. This adjusted EBITDA performance was mainly driven by the revenue outperformance mentioned previously. Our adjusted net loss per share in Q1 2020 was $0.16. The weighted average number of shares used in calculating adjusted net loss per share in Q1 was 37.1 million shares. Turning to the balance sheet, we ended the first quarter of 2020 with $205 million of cash and short term investments compared to $228 million at year-end 2019. As of March 31 2020, we had $48.5 million in total debt. As Dan mentioned previously, on April 14, 2020, we completed our convertible senior notes offering of $230 million inclusive of the green shoe. The convertible note includes a coupon rate of 2.5% and conversion premium of 27.5%. Concurrent with this offering, we purchased a cap call option, effectively increasing the conversion price to $42 a share. This offering allowed us to retire our more expensive form of net debt facility, which carried a 10% interest rate while keeping our annual interest payments, approximately the same as what we've previously been paying for over 4.5 times as much principal. Accounting for transaction fees, the purchase of a cap and the payoff of our former net debt facility, our balance sheet cash, cash equivalents, and short term investments are greater than $340 million as of the end of April. I'd also mentioned that consistent with our 8K filing on March 30, we entered into a long-term lease agreement with an initial term of 11 years for new headquarters. This new lease will provide us with increased space at a meaningfully lower price per square foot relative to our current office space. Additionally, there will be capital expenditures associated with the office space remodel that will be realized over the next year or so. This CapEx will support our anticipated growth and use of this new space over the next decade. Next, I'll share our guidance for the second quarter 2020. Our guidance for total revenue is between $40.8 million and $43.8 million. And our guidance for adjusted EBITDA loss is between $7.8 million and $5.8 million. As Dan mentioned previously, given the fluid nature and still unfolding timeline and impact related to COVID-19. At this time, we are not sharing full year 2020 guidance. Additionally, we are not sharing a specific update on our anticipated performance on our key metrics of net new DOS subscription customers and dollar based retention. In light of this, I wanted to spend some time articulating how our revenue model works relative to existing customer dollar based retention and new DOS subscription customer sales in order to help provide the audience with a modeling framework for any 2020 and 2021 income statement impact resulting from COVID-19. First, I'll comment on existing customer dollar based retention. As a reminder, we calculate our dollar based retention rate by starting with the sum of the annual recurring revenue, or ARR from all customers as of the date 12 months prior to the period end. We then calculate the sum of the ARR from those same customers as of the current period end. Current period ARR includes any upsells and also reflects contraction or attrition over the trailing 12 months, but excludes revenue from new customers added in the current period. We then divide the current period ARR by the prior period ARR to arrive at our dollar based retention rate. Our dollar based retention excludes publicity. But importantly, it includes both technology and professional services ARR. Our historical dollar based retention rates have been driven roughly half by technology net expansion, and roughly half by professional services net expansion. On the technology side, the majority of the net expansion occurs as a result of built in contractual revenue escalators. Given the contractual nature of this expansion, coupled with the increased usage of our technology during the COVID-19 crisis, we would anticipate minimal impact on our technology dollar based retention in 2020, as a result of COVID-19. On the professional services side, expansion comes from upselling a customer additional recurring FTEs or outsource services. Given the upsell nature of this expansion, coupled with as Dan shared, that our customers are experiencing a high level of distraction and financial strain, we would expect to see a more meaningful impact from COVID-19 on our professional services, net retention. On the flip side, we have received heightened interest in our staff augmentation services, which may help offset some of the negative impact of COVID-19 on our professional services dollar based retention. Next, I'll comment on net new DOS subscription customers. As a reminder, an average DOS subscription customer starts out at a little more than $1.5 million of annual revenue, splits roughly 50% in technology revenue, and 50% in professional services revenue. Following the signing of a contract, a customer's annual subscription revenue is recognized ratably over the next 12-months renewing on an annual basis thereafter. As an example, if we were to sign a new DOS subscription customer on June 30, 2020, we would recognize approximately half of that customer's first year, annual revenue in 2020, and the other half in 2021. For a customer who might sign on December 31, 2020, we would recognize all of their first year annual revenue in 2021. Given our staff subscription model, any negative impact on new customer sales in 2020, as a result of COVID-19 has the potential to impact both our 2020 and 2021 revenue growth rates. To Dan's earlier comments, our ability to maintain our 2020 and 2021 revenue growth is largely a function of two factors. Number one, our ability to sell new customer contracts during the COVID-19 crisis. And number two, our ability following the COVID-19 crisis to accelerate new customer sales processes from their normal timeline as a result of pent-up demand, as opposed to simply allowing them to elongate proportionate to the length of the COVID-19 crisis. I'll conclude my prepared remarks by echoing Dan's comments that we are honored that our health system customers have trusted us to meaningfully support them in this time of great need and we take that responsibility extremely seriously. Likewise, we believe this global pandemic highlights the significant need for data and analytics, both at the healthcare provider level and the state and national healthcare infrastructure level. Dan?

Thanks, Patrick. I'll conclude my commentary by thanking our committed and highly engaged team members. These teammates and colleagues have worked tirelessly over the last several weeks in support of our heroic health system customers in response to COVID-19. And I have never been more proud to be associated with these teammates, as we together work to fulfill the company's mission, a mission that is more relevant and important now than ever. And with that, let's open it up for questions.

Thank you. [Operator instructions] And our first question comes from the line of Robert Jones with Goldman Sachs Group.

Great, good evening. Thanks for the questions and certainly worth acknowledging the admirable work the companies out there doing helping assistance on a front line. And just maybe Dan, one clarification question you mentioned, I think was 116 active implementations for the COVID-19 offering. I just wanted to clarify that those are specific to sites related to all access current all access DOS clients. And then the other side of the question was just around the light version that you mentioned that the COVID offering. I'm just curious, if those are noncurrent DOS customers, what kind of pipeline do you think this creates? How much interest have you been getting from folks that maybe haven't been traditional DOS users that might, in theory become DOS users because of the situation?

Yeah, thank you, Bob. Appreciate those questions. So on the first question, importantly, we have made our COVID-19 specific technology available to both our all-access, and our non-all-access customers free of charge with no incremental charge. So we're providing that technology assistance and those technology solutions to all of our clients without any incremental charge. On the second question with regards to interest from prospective clients in the COVID-19 specific light solution. We have seen increased interest from a number of health systems and we are discussing and having conversations with them about the potential of that lighter DOS version coupled with patient safety, public health surveillance COVID-19 specific module. And we do believe that is a positive development as it relates to the new client activity that we see. As we mentioned in our prepared remarks, we also see some challenging elements with regards to some of the conversations of prospective health systems, where they've turned more of a singular focus towards COVID-19 in their response, and in some cases that's resulted in seeing a pause point in our conversations with them.

That's helpful. And I guess maybe just one quick follow-up on the professional services side. You guys have been talking about, the tradeoff between potential churn versus maybe retaining some of those customers through discounting. Any real time update on where you stand where clients have opted to go, as far as pausing the use of the service versus continuing it at a discounted rate?

Yes. The vast majority of our clients have expressed and we have accommodated their desire to keep those professional services resources directly engaged in the COVID-19 response. So that's in the vast majority of the discussions. And we've understood the financial strain that they're experiencing in the near-term and have proactively in a number of cases been willing to offer some near-term discounts. And that's by far the majority of the conversations and the vast majority of the professional services revenue and gross margin impact that we're seeing in the near-term.

Okay, great. Thanks so much.

Thanks, Bob.

Thank you. And our next question comes from the line of Anne Samuel with JP Morgan.

Hi, guys. Congrats on a nice quarter in a tough environment. You spoke about professional services revenue stream is a bit more variable this year. How should we think about any cost offsets that you might have if that revenue is impacted?

Thanks, Anne, for that question. As we mentioned in the prepared remarks, we are trying to be careful and prudent in the way that we're monitoring our total business. And specific to professional services. As we mentioned, we are proactively trying to be good long-term partners to our customers. And in a number of cases, we've been willing to provide near-term discounts, which obviously does have a gross margin and a cost impact. We've made a few decisions in the near-term in the spirit of prudence to try to enable some cost containment to partially offset, some of our decisions there. Importantly, those have not included layoffs of team members. We've instead decided to keep that long-term commitment to team members that's consistent with our values as a company. And also that enabled us to deploy those team members to continue to provide really meaningful support for COVID-19. We have made some steps as it relates to modest curtailing of benefits, but we were fortunate before that modest curtailing of benefits package. And so we've made a few modest changes, we've slowed down our growth in terms of the number of new hires that we're making, and those who have put us in a position that we feel comfortable with at this time. But we'll continue to monitor the situation in the weeks and months ahead.

That's really helpful. And then maybe one Patrick, you were talking about how any shifts in the pipeline really have more of an impact on 2021. How do we think about maybe pent up demand as decisions are delayed as opposed to not made? And how quickly would you be able to recover in a situation like that if the pipeline shifts?

Yeah, of course. So as we mentioned, we do believe there will be a delay in new DOS subscription adds in the first half of this year. We are working very hard to make sure there's a catch up in the second half of this year. We do believe we will be able to catch up some of those deals in the second half of the year. We do believe others could elongate into 2021. So we are actively monitoring our pipeline currently and will continue to over the months ahead. And we should have a pretty good pulse space on that pipeline, how those deals are progressing to close.

I might just add Anne that with regards to existing clients. Also in the first half prior discussion about the professional services discounts that we're offering, we do expect our professional services, dollar based net retention to be lower than it otherwise would have. But importantly, on the technology side we've seen and anticipate a minimal impact to our dollar based retention both in the first half and throughout the year. And as Patrick mentioned, we do see many meaningful opportunities in the second half of the year, where we're hopeful to catch back up. And the extent to which we're able to catch back up in both of those dimensions on the new client side, and with existing clients will really determine the way that this plays out in 2021.

Very helpful. Thanks for the color.

Thank you. And our next question comes from the line of Ryan Daniels with William Blair.

Hey, guys, thanks for all the color and taking the question. I'm curious if you could talk a little bit about one of your products? I noticed that it was a mixed product related to Able. So it sounds like you've completed that deal and already are integrating that asset nicely. So want to use that as a potential case study of how you guys can acquire them rapidly. By now will technologies into your customer base, especially given your comments about the potential for capital deployment going forward.

Yes, thank you for the question, Ryan. The Able Health acquisition is a very good example at the apps layer of our opportunity, which we believe will present itself many times in the coming months and years to acquire a meaningful technology capability and accelerate our ability to offer that expanded technology. In this case within one of the eight areas that we had already identified as important to our customers in the major space, and accelerate what we can offer to them to those existing customers. The majority of which have an all access technology subscription, which further smoothens our ability to roll this new technology out in a meaningful way. And we are already seeing a meaningful and fast integration of Able Health post close of that acquisition. And are making that available and finding a meaningful customer interest within our existing customer base.

Very helpful. And then I know you're very focused on the corporate culture. So I'm curious if you could speak to a little bit of how you've been communicating with your own internal workforce with transparency, given some of the uncertainties in the marketplace? And kind of just any update there, that would be helpful. Thank you.

Yeah, absolutely, Ryan. So our first focus when we began the proactive response to COVID-19 back in the mid-March timeframe was the first focus on our team members, and as we discussed as a leadership team, the best way to respond in this situation. We identified a few principles we would follow. One that we want to make sure that our team members stay safe throughout this experience. And so early on, we went to a modified policy of remote only and we closed our offices. We also felt that as part of following that principle we needed to dramatically increase the communication, the two way communication with our team members. So, we doubled the number of all team member meetings we went from every other week to every week. We doubled the number of managers one on ones being held and ensured that they were all video one on ones. We went from every other week, one on ones to every week, one on ones. And we as a leadership team received reports from all the managers within the company on a weekly basis as to how our team members were doing. We also increased the written communication with our team members to a few times a week that I send out an email updates that we then follow up in our all team member discussions. All of these things have enabled us, coupled with the fact that we were already very remote friendly and accustomed to remote work before the pandemic with over half of our team members working remotely has really contributed to our ability to keep the focus on our team members and that in turn has resulted in the rapid development of those 10 COVID-19 solutions and incredible dedication to our clients. And hundreds of our team members being right there, side-by-side, although virtually side-by-side with our clients and helping them respond to the pandemic.

Thank you so much. Thanks.

Thanks, Ryan.

Thank you. And our next question comes from the line of Sean Wieland with Piper Sandler.

Thank you very much. So since we pass this pandemic. I guess I have to assume where I can stay sane. How do you see data platforms such as yours DB prioritized relative to other spending needs that hospitals are going to have as they open back up? And how do you think your messaging changes as you go to market?

Thank you for that question, Sean. We do believe that this pandemic is a significant milestone event. And that, in the mid to long-term, there will be a meaningful increase in appreciation for a digital infrastructure as a fundamental part of the ecosystem and the effective response to pandemics and viruses like COVID-19. And we're already seeing evidence of this, not only at the individual health system level, but also at a state and national level. Really, we can't think of any event in recent history that has highlighted the value of data and analytics in real time, the way that COVID-19 has. And so we do anticipate that health systems at an individual local level, as well as state and federal government and regulatory bodies will significantly prioritize improving what has often been a patchwork digital infrastructure so that we can be much better prepared in the future in response to potentially a second wave of COVID-19 as well as other similar situations in the future.

And as far as adjusting messaging, a large part of it would be emphasizing core tenets of our message to date, including the need for an open, flexible platform to support varying needs as they come up and providing data for public health surveillance needs, both at the local health system level as well as the state and federal level.

One other note I would add is, I think this pandemic has highlighted the value of broad and deep data repositories. So, our national data repository with regards to the touchtone application suite, I think it's very much come into the fore as it relates to us more deeply understanding as a nation, what is happening and being able to understand and analyze the data and sub segment that analysis of the data. Both in terms of the way that health systems can understand and states and the national government can understand what has happened, as well as how we can better prepare for the future, including development of therapeutics, development of vaccines across the healthcare delivery ecosystem.

Thanks for those comments.

Thank you. And our next question comes from the line of Mike Newshel with Evercore.

Thanks. So maybe the follow-up on the potential M&A opportunities that you are talking about, is there any specific category of the solutions that you are focused on or deal size or development stage that you will be looking at?

Yes, thanks for that question Mike. So as we think about the M&A opportunity the greatest opportunity that we see is really at the apps layer, which is the middle layer of the three parts of our solution. The data platform sits below the apps layer and the services expertise sits above the apps layer. But at the apps layer there are hundreds of companies that have developed specific use cases where they can solve a particular problem that may help on the revenue side of health systems, P&L, it could help on the cost side or on the quality side from a clinical perspective. And they're often very effective at solving that one use case, where they are challenged is the ability to be a really long-term strategic partner across multiple use cases. And that's where we see a really natural fit with our platform oriented business model. So at that apps layer, we do believe that many of those startup companies may struggle to raise capital in this new environment. And when we think about opportunities, we grouped them in two categories. One, those companies that operate in one of the eight app category areas that we've already identified with our customers that are of value. And the Able Health acquisition is a great example of enhancing one of those eight categories around measures. There are other companies that would fit within one of those eight categories that we would prioritize to accelerate our product roadmap. The second category would be companies that are operating in new categories at the apps layer that we believe our customers would appreciate our ability to provide solutions to them in that category. And there are some definite app categories that we believe we'll want to enter into in the future, and M&A maybe a way of accelerating our entry into those new categories.

And from a financial perspective, they range from relatively smaller tuck-ins that would have fairly minimal revenue to companies with tens of millions of recurring revenues.

Got it. Let me just ask one more. Just geographically, is there anything notable about your current customer base in terms of concentration in areas with the most COVID cases or states reopened in the earliest or anything to say about like relative financial strength to the average health system?

Yes. We would share that, one of the reasons why our data repository, we believe it's very interesting and helpful, is that it cuts across the entire geographical area in each region of the U.S. And so we've had clients that have been at the earlier stage with earlier hotspot experiences like in the Northwest. We've had other clients who have not yet reached the peak. And part of the value of that experience base is our ability to help across that spectrum of experience to be really well prepared and learn from those who have gotten earlier and have that informed our client interactions and discussions with other clients that are yet to reach the peak.

Thank you very much.

Thank you. And our next question comes from the line of Stephanie Davis with SVB Leerink.

Hey guys, thank you for taking my questions. So first question I have is same in line with a lot of other folks, about the pandemic. In my view, the horses left the barn in terms of hospital needs for analytics. And it showed the need for a lot of new cases on the operations side. So when you look at the world post pandemic, where are you expecting the greatest traction among your modules and you expecting any sort of shifting from one module to another as priorities have shifted?

Yes, thank you for that question Stephanie. I would agree with your assessment that the horse has left the barn. And I believe the first place that we will see increased demand will be at the data platform layer where the pandemic has shined a light on the fact that a homegrown data warehouse just doesn't have the scalability and the flexibility that you get from a commercial grade alternative like Health Catalyst data operating system. And so we are already seeing meaningful evidence of health systems understanding that home grown alternative, which is the most common competitor that we face in the data platform space, it's just not going to cut it. And instead of a patchwork kind of digital infrastructure, they need a commercial grade data and analytics infrastructure that can quickly pull data from many different sources to support many different analytics use cases. And we've seen hundreds of analytics use cases just specific to the COVID-19 pandemic response. All pulling from many different data sources. So, the first increase in demand that we believe we will see in the mid-term to long term is an increased appreciation that a home ground data platform solution is not going to cut it in the future. Then secondly, at the apps layer, I think there are specific application suite categories that are very natural set of use cases that are very important in the response of COVID-19 and other pandemics. So, one example is our Population Builder application where we've seen the highest usage in our company's history in response to COVID-19 where you can proactively and flexibly build registries of COVID-19 types of patients. Another example is our leading wisely visualization, it's a dash boarding capability that many of our clients are using at every level in organization to understand 50, 60, 70 different metrics as it relates to the specifics of COVID-19 whether it's supplies or staff or patients that we're tracking, or financial impact as well. And the third example I would give would be patient safety, where having a capability at the local health system level to do miniature public health surveillance within a four or five mile radius of each of their physical locations is absolutely critical and we've made that capability available through that patient safety application suite.

So taking what you've said and shifting the financials a bit, you've got the toughest quarter of the year, coming up for hospital spend attention during the pandemic as the whole thing. Is there any reason given this demand and everything going on that 2Q would not represent the lowest level of growth for the year?

That's a good question. I'll share a few thoughts...

Given you haven't given us any guides. I'm just going to ask about it anyway.

Yes, we do absolutely think about Q2 and the first half of the year as a unique situation and a unique circumstance where we believe for example, on the professional services side, this is the time where our health system clients are feeling the most pain financially, as it relates to their response where we have seen, for example, in the month of April, in particular, that most of our provider clients had cancelled or postponed many of their elective procedures which had a very material financial impact. We're starting to see most of our health system clients reschedule and start ramping back up even in the month of May. And so much of the conversation that we've had with regards to professional services discounts to help those clients get through this have been focused on Q2. Although I will share that we do expect some Q3 impact to the professional services discounting that it might continue into some of the months of Q3. So, that would be one important note. But on the on the demand side, I would share that we do believe that the first half is a unique circumstance, both with regards to new client additions, as well as the way in which we think about existing client expansion. And we do expect and we are working hard to really value as a company in the second half of the year and catch back up to the original forecasts, both from the new client side and the existing client side. But this is a fluid situation, and we're monitoring it carefully. And we're keeping a long term focus with regard especially to our existing clients, but also in the tone and header of our prospective client relationships. We want to be true to our values, first and foremost and believe that will help us to be successful long term.

Super helpful. Thank you, guys.

Thanks, Stephanie.

Thanks, Stephanie.

Thank you. And our next question comes from the line of Sandy Draper with SunTrust.

Thanks very much for taking my questions. And also echo my congratulations on the good first quarter. And thanks for everything you're doing to help the hospitals out there. So, maybe it's actually just a different way of asking maybe Stephanie's question. It sounds like what you're talking about in terms of the net dollar retention, the retention going on. And the real question on the technology revenue side is what the growth rate and what the sequential trend would be. But am I correct at assuming it doesn't sound like there's no reason that technology revenue would be down sequentially at any point throughout the year? It's just a question of what the sequential growth rate is. Is that a fair way to think about it?

Yes. And I'll share a thought or two. And then Patrick, please also share your perspective. So thank you for that question, Sandy. As we mentioned in our prepared remarks, we would expect minimal impact from a dollar base net retention perspective of our technology revenue. And that's inclusive of up Q2, it's inclusive of the first half and throughout the year. We've seen that our technology is being utilized now more than ever. And we believe that will continue in the months and quarters ahead. And so, we would expect very robust technology dollar based net retention, and therefore, technology revenue growth. Now the one impact that we are watching carefully is, one thing that we do expect is in the first half we will likely find fewer net new DOS subscription clients, which does impact our revenue for the year, for example. The extent to which we catch back up in the second half of the year and see an acceleration in buying decisions, which we do expect in some cases. But in other cases, we may just delay in the decision making. And some decisions that otherwise would have been made in 2020 might spill over into the first part of 2021. So we're monitoring that impact. Anything Patrick you would add?

Yeah, Sandy. A good way to think about tech sequential revenue growth is driven by three factors. One is our technology dollar based retention rate, which as we've shared, we would expect minimal impact from COVID. The second is the number of DOS customers we add in a period drives the subsequent quarters, technology revenue growth. And the third would be Medicity. As we've shared, we would expect Medicity to be flat to declining on an annual basis over the long run. That can add a little bit of noise on a quarterly basis to our technology revenue growth, since Medicity is more heavily weighted towards technology, revenue versus professional services. So those are the three primary drivers.

Okay, great. Those answers were very, very helpful. So appreciate that. My follow up - not follow-up, my second question. And you may not be ready to comment on it yet. Any thoughts one of the things that you guys do, which is obviously fantastic for customers, it's a great opportunity for us as analysts to come out to the Healthcare Analytics Summit. But, when we think about modeling, it's a notable sales and marketing number in the third quarter. Have you guys made a decision yet one way or the other whether that event happens or not or it goes virtual? Any thoughts there because that that is a notable expense on that may or may not be happening in the third quarter?

Yes, thank you for that question, Sandy. It has been a very important event for the company and really, we believe for the industry as it's billed as the Healthcare Analytics Summit. And we invite participants to present who are both Health Catalyst clients and non-Health Catalyst clients who are doing innovative things as it relates to data and analytics. We're still studying the situation but we're leaning towards holding a virtual only summit this fall, which will likely have some cost impacts and we're already seeing some other examples as you might expect of lowered expenses related to sales and marketing, travel expenses, for example, that we would expect to continue in the months ahead as well. But we haven't made an official announcement there. But in the coming weeks, we'll likely make an announcement. And I think we're tending towards a virtual only event.

Okay, great. Well, looking forward, whether it's virtual or in person, looking forward to having the opportunity to attend again. So thanks very much, guys.

Thank you, Sandy.

Thanks Sandy.

Thank you. And our next question comes from the line of Richard Close with Canaccord Genuity.

Great, thanks. I appreciate everything you guys are doing. Maybe a follow up to Sean's question earlier on the long term and tailwinds. And as we think about the government opportunity, just curious what are your relationships there at this point? Do you have any customer relationships, either on the state or federal level, just want to check there? And then maybe what's the playbook for cultivating those opportunities as we go forward?

Yes. Thank you, Richard. So we do have some small relationships from a government perspective that are already in place. And we do believe there are mid to long-term tailwinds associated with an increased appreciation for the fact that at the state and a national level. The digital infrastructure that exists today is very much a patchwork. And that has affected our initial response to the COVID-19 pandemic. We've already had the opportunity to engage in a few statewide national coalitions and activities like the MITRE coalition. It's being co-led by John Halamka, the CIO of the Mayo Clinic and others. Where we're participating and contributing, analytics and insights as well as that de-identified data set that I mentioned earlier, to assist in providing insights as we try to identify effective therapies and vaccines and other treatments for COVID-19. We're also pursuing other avenues where we can build deeper relationships. And we do believe there will be some meaningful opportunities for us to establish deepen relationships at the state and the national level. I would also share that we are relatively early in that process and would expect that this will unfold over time and take some time to materially unfold for us as a company.

And the only item I would add is in addition from a strategy perspective to going directly to state and federal organizations, the fact that we have very close strategic relationships with large health systems who are very important stakeholders in their regions, provides us with another avenue to pursue this strategy.

And I would share that may be the most likely near term activity that we will absolutely be involved with our health system clients. And in helping them, for example, to showcase the ways in which they're effectively utilizing some of the stimulus dollars that they've received to help them to build a more robust digital infrastructure for the future. And there are some requirements associated with those stimulus dollars that many of these health systems are receiving. And we're already working with our health system clients to demonstrate how projects like data platform and robust analytics infrastructure really showcase that better preparedness for the future.

And the discounting, I think Dan, you had said earlier, the duration of that might lead into the third quarter. And correct me if I'm wrong there. I'm just curious whether you guys can provide any guideposts maybe on the degree of the discounting, in terms of just the magnitude of that.

Yes, I'll share a few thoughts and then, Patrick feel free to share as well. So we are trying to be great long-term partners to our clients, which is consistent with our values and our mission as a company. And as such, we're sensitive to the fact that in the near term particularly in the month of April and in the month of May and in the month of June, our health system, clients are facing very significant financial challenges, mostly related to their canceling or delaying those elective procedures. We are seeing those start to ramp back up starting as early as this month in the month of May. But the ramp up is with specific guidelines around social distancing and requires a slower ramp. And as such, we do believe that that their recovery will take longer than just through the month of June for example. And as a result, as we're having these discussions, while many of them have centered around discounting that might last through the month of May or through the month of May and June. There are some instances where starting the discounting a little bit later. But the duration is similar with regards to maybe one month or two months or something in that regard. But when they're starting a little bit later, that would then include the early part of Q3 in that discussion. And we want to be sensitive to the fact that this is a fluid situation and we want to keep the focus on a really good long-term relationship with our clients. But in many cases, our clients are considering ways to reduce their own expenses by 10%, 15% 20%. And so we've tried to think about us being part of that solution as well in providing discounts that are that are similar to what their overall goals are, like discounts of 10%, 15%, 20% something in that regard for a finite period of time.

And also, from a magnitude perspective, our Q2 guidance obviously incorporates those professional services discounts. So, comparing that to Q1 should give you a sense of the magnitude.

Okay, thank you.

Thank you. And our next question comes from the line of Sean Dodge with RBC Capital Markets.

Thanks, good afternoon. So maybe Dan on the sensitivity around costs for your clients. And going back to the technology revenue really quick, you said no expected impact of tech revenue this year, aside from maybe some potential disruption in the sales processes. I guess, thinking longer term, did you still expect to be able to get the same price increases next year from existing DOS clients, despite maybe some organizations, you alluded to struggling a bit this year or everyone shouldn't just not been able to make the same headway on their initiatives as they expected. So, not ready to take on another stack of modules or anything else we should be thinking about their longer term effecting dollar based attention rate?

Yes, thanks for that question, Sean. So, as you alluded to our assessment based on the data that we can see right now is that we expect a very minimal impact as it relates to our technology database retention, both now and in the future. And that's driven primarily because we've never seen a higher usage of our technology at the data platform layer. And as well at multiple of the application suite layers, I mentioned three of them earlier, Population Builder application leading wisely as an application and our patient safety application, each have real depth as it relates to the COVID-19 specific response very, very useful. And inclusive in that effective responses, our library of analytics accelerators as well with our patient and staff tracker accelerator, already having become among the most widely used in the company's 12-year history just in the last two months. And so that increased usage of our technology we have seen in the dialogue with customers that's also never been more frequent. It has showcased the value of that technology infrastructure in such a way that we would not expect a negative impact on our technology dollar based retention either in the near-term or in the mid to long term.

Got it, that's great. Thank you.

Thank you. I will now turn the call back over to CEO Dan Burton for closing remarks.

Thank you, and thank you all for your interest in Health Catalyst, and for the questions that you have submitted. We appreciate your ongoing interest in the company. We're grateful again for the work that our clients are performing at a heroic level. And we're honored to participate in supporting them. And I want to thank all of our team members once again, for their incredible efforts over the last several weeks in particular. And we look forward to keeping you apprised of our progress in the future. Thank you very much.

Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.