Good morning, and welcome to HealthStream's Third Quarter 2023 Earnings Conference Call. At this time, I would like to inform you that this conference call is being recorded. [Operator Instructions]. I will now turn the conference over to Mollie Condra, Vice President of Investor Relations and Communications. Please go ahead, Ms. Condra.

Thank you, and good morning, everybody. Thank you for joining us today to discuss our third quarter 2023 results. Also in the conference call with me today is Robert Frist, Jr. CEO and Chairman of HealthStream; and Scotty Roberts, CFO and Senior Vice President of Finance and Accounting. I would also like to remind you that this conference call may contain forward-looking statements regarding future events and the future performance of HealthStream that involve risks and uncertainties that could cause the actual results to differ materially from those projected in the forward-looking statements. Information concerning these risks and other factors that could cause the results to differ materially from those forward-looking statements are contained in the company's filings with the SEC, including Forms 10-K, 10-Q and our earnings release. Additionally, we may reference measures such as adjusted EBITDA, which is a non-GAAP financial measure. A table providing supplemental information on adjusted EBITDA and reconciling to net income attributable to HealthStream is included in the earnings release that we issued yesterday and may refer to in this call. So with that start, I'll now turn the call over to CEO, Bobby Frist.

Thank you, Mollie. Good morning, everyone. We have a lot to cover for our third quarter 2023 earnings call. In the third quarter, we achieved record revenue and record adjusted EBITDA. Top line revenue reached $70.3 million in the quarter, which was up 5% over the same period of 2022 and adjusted EBITDA increased to $16.2 million, which is a 28% improvement over the same period of 2022. If I reflect back, it was a quarter of financial high watermarks, also excellent progress on our single platform strategy, some exciting sales wins I'm going to talk about. But most of all, the quarter was characterized by the strong leveraged EBITDA growth we delivered and expect to continue delivering. Another way to think about performance is through the higher margins and greater operating efficiency we delivered. For example, through our investments in proprietary content and applications, our gross margins have improved to be in line with our medium-term financial goals of 65% to 68%. In addition, our single platform approach continues to streamline how we organize our workforce. For example, we delivered increasing revenue per employee for the past 4 consecutive quarters. Let's take a minute just to kind of refresh and really define HealthStream for our audience. I think we might have some new folks out there that want to hear how we describe and position our business. First and foremost, HealthStream is a health care technology company dedicated to developing, credentialing and scheduling the health care workforce through SaaS-based applications and solutions, each of which are becoming more valuable because of the interoperability they are achieving through our hStream technology platform. We sell our solutions on a subscription basis under contracts, which average 3 to 5 years in length. That means our revenues are recurring and predictable. In fact,…

All right. Thank you, Bobby, and good morning. I'll jump right in and hit the financial highlights for the third quarter. And unless otherwise noted, the comparisons will be against the same period of last year. As Bobby mentioned, it was a record quarter in which we achieved new high watermarks for revenue and adjusted EBITDA. We achieved record revenues of $70.3 million, up 5%. Operating income was $4.9 million, up 104%. Net income was $3.9 million, up 5%. Earnings per share was $0.13 per share, up from $0.12 per share. And finally, adjusted EBITDA was also a record high, coming in at $16.2 million and was up 28%. Now let's start with revenues, which surpassed the $70 million-mark for the first time and were up $3.1 million or approximately 5% compared to last year's third quarter. Revenues from subscription products accounted for 96% of total revenues and our subscription revenue came in at $67.5 million or an increase of 5%, while revenues from professional services were $2.9 million and declined by 11%. As a software company, our focus is growing subscription revenue versus services revenue and the quarter's performance reflects just that. Gross margin was 66.5%, up from 65.3% last year and positively benefited from changes in revenue mix, including growth from products that we own. Additionally, cost of revenues only increased by $0.2 million or 1%, which was due in part to lower compensation expenses resulting from the organizational changes that we implemented earlier in the year. Though these were partially offset by our hosting and software costs. Operating expenses, excluding cost of revenues were up $0.4 million or 1% over last year's third quarter. Depreciation and amortization were up 8% and G&A was up 2%, while product development and sales and marketing were down 5% and 1%,…

Thank you, Scotty, and excited to dive into that portion of my presentation here. In the first half of the call, we focused on how we're selling more products to existing customers. And now I want to take this portion and focus on some market expansion that we're working on and very excited to see some traction in. So by selling directly to nursing students and nursing schools, we're just beginning to sell our products to a whole new set of customers, and we saw some traction on that in the third quarter. Some of you may recall that we acquired a company called myClinicalExchange in December of 2020. And you can think of myClinicalExchange, both the company and the product as a bridge between students, these nursing students, and the hospitals that hire them and put them into rotations to gain experience to ultimately become a nurse. So myClinicalExchange is like a connection bridge between the student and those rotations. And it's also used interestingly to kind of credential and profile and onboard these nurses into these internships and rotations. So it has a little dimension to it to kind of qualifying the applicants as well. Year-to-date, we generated just over $3 million of revenue from this product, again, kind of a new category for us. And that's a 27% increase over the same period last year. So it's exciting after we deploy the capital and the acquisition and kind of declared that we'll be entering the market of these students. We just love this idea because they get to the students, even pre-profession before they're nurses. And then they enter the workforce with hStream ID, and we're just really excited to see progress in those areas. So far this year, we placed over 161,000 clinical rotations. So that's…

[Operator Instructions]. Our first question comes from the line of Matt Hewitt with Craig-Hallum.

Thank you for all the detailed commentary so far. Maybe first off, what are you hearing from hospitals, just the broader market trends? Obviously, you had a couple of companies report this morning. talking about procedure volumes up, but still seeing some difficulties or headwinds on the income side of the equation. What are you hearing from customers? And how are you able to kind of navigate that?

Well, the challenge for them is a lot of their issues around workforce. We do think that our solutions are a great aid in the development, retention and better management of the workforce. So part of that cost structure that they're working hard to manage is related to workforce retention, engagement and development. So I think we're aligned with helping them do the challenges that may be driving some of those financial challenges that they articulated. So I feel aligned with our customers and trying to help them through this period. It's good to see the volumes up. We like that as a sign of strength for our hospital customers and all of our continuum market customers as well. So there's some signs there that are positive. And I do think the areas they have the biggest challenges and are the topics of the CEOs, which are how do we retain, engage, develop and better manage our workforce. So we're proud that our 1,100 employees are aligned. And when we're called in, we can be a help on everything from a psychological well-being, like we talked about in Hawaii, to the skills development like the Red Cross program which we think is a lower cost, higher quality program than the competition and all the way on through to nursing skill development with our Jane products. So we think that we're aligned to help them work their way through the challenges that they are talking about in the macro level.

Understood. That's helpful. And then a question, that the 11.2 million employees that you -- that your applications address. Does that include the nursing schools, the students, that you are now kind of opening up this new market?

I don't think it does. I'm about 98% sure it does not. We -- that metric is defined in our Ks and Qs, and I'm pretty sure it doesn't include the pre-professional market. And so nursing schools, we are believing and on this call, declaring as an expansion of our opportunities. So we may have to adjust that number over time. It's new for us and our first big sale occurred in the quarter. So we'll look to see how to adjust that definition of market. But we are particularly interested in getting to these right before they become nurses. We don't go all the way down to grade school, but I do think catching them in their last year of nursing school, we're clearly now onboarding tens of thousands of new nursing students into our network and getting them an ID right before they enter the professional market. And so we're really excited about that. I think that represents a market expansion and definition for us.

That makes a ton of sense going after that, those potential future nurses. And so maybe one last question, maybe more for Scotty, but gross margins, obviously, another nice step up there. And I know it's within the midpoint of your kind of your 3-year target. But what would be the impediment of kind of growing beyond the 67%, 68% over the near term? I mean, is there anything that would stand in the way of that? I mean you've seen some pretty nice growth in that metric over the past few quarters. I'm just curious what would be the -- what would prevent you from expanding further?

I'll try first and let Scotty add. I think one of the things that we're excited about is that almost all of our new products are being built using our platform technologies, use some of our APIs that gives us a little inherently more leveraged and a little faster rate of production of new products and introduction of those products. So my general sense is that the ideas in the pipeline and the things that we're working on are generally either data-driven products where we own the data, our content products, where we own the content or application suites that we're building organically using our new platform technology. So in general, over time, I think that the growing parts of our business have inherently higher gross margins. So right now, we need to stay and define our target within that range. But I think there should be this kind of continued slight upward pressure on that gross margin opportunity because the nature of what we're building is different than, say, the origins of the company that were built around partner content that had higher cost of goods. So I think that my general answer is that I don't see what could stop us from continued expansion. But we have outlined these 3-year objectives, and we're really excited to be landing already on that 1 measure in the range of our multi-year objective. So we're glad to see that progress year-to-date. Scotty, If you want to add anything to that, but hopefully, that addresses the question.

Yes. I mean I think, Matt, that's obviously where we're headed is. Trying to continue to improve on that metric. And just for a little additional context, just one thing to keep in mind as we've talked about transitioning to a PaaS company and continuing to progress down that road. One of the things that's influencing margins to some degree likely continue to influence margins is just a move from a traditional hosting environments on a co-location type of environment to cloud hosting. So our investments in cloud continue to increase. And obviously, that's the cost of delivering our service. So it's influencing margins to some degree. But as our products continue to migrate towards higher-margin solutions. We think that will overcome some of those costs that we're seeing increasing related to cloud.

Our next question comes from the line of Jared Haase of William Blair.

Yes. This is Jared Haase on for Ryan Daniels. Bobby, maybe just -- was hoping to get a little bit more color on the credentialing application suite. And specifically, I know you announced a couple of new product innovations for that suite of products. So it would just be great to get your perspective of how you're thinking about the demand environment for the CredentialStream suite and maybe how you're still thinking about HealthStream position relative to the market?

Sure. On the CredentialStream suite, it is -- first, you got that right. It is a suite. And so it's a set of roles and capabilities and application that is increasingly connected to the hStream technologies. It has some really powerful differentiators built into it, like our privileged library, which is a curated data asset that we own and a differentiator in the market. So -- and it's also, we believe, 1 of the most complete application suites in the market. So we think it's highly competitive against the competitive landscape. We find ourselves a finalist in almost every competition that is available to us in the markets that we've defined. And so we think it's competitive because it includes capabilities around credentialing, privileging, enrolling them insurance and insurance and the onboarding process is both facilitating some of the HR onboarding processes like training and facilitating the EHR provisioning process by also delivering some of the training to get them ready to be provisioned on the electronic health record system. And so we think we just have a very complete definition of the application suite that works together really, really well. Also, one of our philosophical differences in our competition is it's kind of a physician centered process, kind of a back-office process. Our Physician Hub is gaining in both popularity. We watch it's Net Promoter Score, which is positive. And with physicians who are taking a little bit more personal control over this credentialing, privileging, enrollment process. So the physician hub component is also, we think, a differentiating point of view for us redefining the workflows a little bit around the Physician. And we're seeing that engagement really be strong with the physician hub component of the CredentialStream application suite. So overall, we think we are well positioned as demonstrated by adding a 32-plus customers across that suite during the quarter. And also, we're -- it's nice to see the subscription revenue starting to compound a little bit. And I think the number was 56%. Let me look back at my note. Maybe Scotty, what was the revenue growth rate year-over-year on CredentialStream?

I think you got it right, Bobby.

Yes. I think it's 56% and ShiftWizard was 30-something percent. So Yes. I think overall, I hope that answers the question. We feel it's very competitive, a finalist in every deal we look at, and we believe we win more than we lose. So really excited about how well positioned that application suite is. We acquired several companies over a decade and rebuilt the core application set, and we have over 700 agreements on that core new application set and expanding, obviously, rapidly. So we're excited.

Okay. Great. And then just as a follow-up, I wanted to talk about staffing. It sounded like you mentioned labor costs were down a bit year-over-year. Can you just remind us where you're at kind of relative to your broader hiring needs? I think last quarter, you talked about having a handful of open positions that you're expecting to fill during the second half of the year. So maybe just a quick update of where we're at and how we should sort of think about kind of a run rate for operating expenses going into 2024?

Yes. I think we have about 50 open positions. I think we're recruiting for about 20 of them. We have some new hiring models which are exciting where we hire kind of cohorts together and bring them in as a team on. For example, we just hired a development cohort for one of our applications, the ShiftWizard application, which allowed us to move the development of that from an offshore team to a HealthStream team. So we do have open positions and with the natural turn. We're also using departure as an opportunity to reshape the business. And so we've got all of our managers thinking about that if people do elect to leave, we're using that opportunity to think about our structure and where our emphasis is. We're trying to put more emphasis on the customer and connectivity and on development. And so those are 2 areas of relative investment. Overall, I'd say our employment numbers are fairly stable with the kind of puts and calls of natural turn performance-based terming and also the hiring that's going on. So I think overall, around this 1,100 number is a good way to think about the scale of our workforce in the coming quarters.

Our next question comes from the line of Richard Close of Canaccord.

Great. Can you hear me okay?

Yes, Richard.

Okay. Excellent. Well, first of all, congratulations on the success here. A great quarter. I was just curious on -- you just mentioned the CredentialStream and revenues grew 56% in the quarter. ShiftWizard, I believe you said 33% over the prior quarter. And then just looking at those growth numbers your revenue growth overall was like 5%. So just curious there, is some of the growth in CredentialStream and ShiftWizard that you referenced, is that some cannibalization of the legacy products? I just thought with those numbers, total would be greater.

Yes, yes. So there's definitely some of that. As we know, we acquired a lot of applications and some of those we classify as legacy applications. And our goal is to move those customers. So that is true. Some of that comes from migration as we talked about. And some of it comes from new wins out in the market. And it's probably around for credential anyway around 50-50, I believe, maybe I'm a little off on that. But just historically, I think in any given quarter, is a little bit of I guess you would call it cannibalization, but we call them successful migrations to a SaaS subscription application suite. So -- but some of that growth number is the migration from the legacy applications over. And again, we celebrate those migrations. And there are definitely new business on the newer applications. And we think on CredentialStream, it's probably about half. And I'll see if anybody texts me one of my officers anything different than that. But I'm going to say ballpark the last few quarters is probably around half.

Okay. So the lower growth rate overall for total revenue doesn't it imply like customer churn, the learning platform or anything significant like that?

Well, there's always a little of that. We've got a lot of market share. And so there's always a little come and going. I think what we're trying to highlight most recently, though, is where -- once we get a customer in for 3 or 4 of our products, they seem more likely to go from 3 or 4 to 8 to 10 than they do to leave. Now when we have just 1 product, we got a toe in the door a few years ago and maybe they change -- they make the difference in business decision on that product, that's where we lose them on that product, and we also lose them on the hStream platform. And so I think a couple of quarters ago, that happened on a few accounts. We don't consider them like real ecosystem partners. And so we're really excited this quarter to see the change in a couple of our key big renewals. This quarter went the other way. And so we're really excited to watch them go from 5 products to 11 products and doubling their subscriber revenue per person per year. And obviously, that's more typical because overall, we have growth, and we have growth in our newer product categories.

I know you're probably not going to want to answer this question, but is there any way to sort of size as a percentage of overall revenues like the Learning versus Credential and ShiftWizard in terms of...

Well, I think you are right because we're really -- what we're trying to get, Richard, and we're just not there. We have this -- I'll call it a very immature metric, this hStream subscription. In fact, we're still -- a lot of work to do to clarify differences in subscriber and a subscription to -- we've broken down this platform hStream into hStream for learning. Almost think of it as a membership in our learning network, hStream for credentialing and hStream for scheduling. So we've created these value bundles that are kind of infrastructure that are bundled with the sale of each core application. And what we're trying to get, obviously, is to sort out how many unique individual professionals are in our entire network. And I think our goal is to get to a place where we can say that, Bobby the nurse on credentialing, is the same Bobby the nurse on NurseGrid, is the same Bobby, the nurse on our learning application, and they spend 3 hours here and 1 hour here and 10 minutes there each week. And this hStream ID technology that we're rolling out now will help us reconcile all that. And we'll get to a better numerator-denominator around the subscriber number versus the subscriptions sold to these kind of application suites and their supporting infrastructure. So that's a long way of saying we're trying to move to a single platform metric kind of goal where we can get to this revenue per person per year. And then we may or may not break it down by categories like learning and scheduling, but you can see our extreme focus on at the account level to grow the revenue per person per year. And -- we're just not quite there yet. The metric itself isn't…

Okay. That's very helpful. And then Scotty, I was going to ask with the subscription model, I thought the guidance range for revenue seemed a little bit wide, but just wanted to go back in terms of your added commentary. So you're expecting to be roughly at the trending towards the midpoint of the revenue range?

Yes. Richard, that's where we are forecasting. That's the remarks that I made.

Okay. I just wanted to clarify that. That's really helpful. And then, Scotty, maybe on the product expenses, I was curious, it declined sequentially. Was there -- if I go back to last quarter, I thought you said you're going to continue to invest and whatnot. But I was just curious if there was anything specific from, call it, second quarter to third quarter that led to that sequential step down I'm not mistaken?

Yes. No. I think relative to last year, it was down. I have to go check my numbers on sequential. But I think in my remarks, just pointing out that capitalized software development continues to increase for us. We're obviously putting more emphasis on product development and just the mix of projects that are ongoing and how that translated into what was capital versus expense implants year-over-year. I'll go back and look at sequential activity. But I think -- as we mentioned, as Bobby mentioned just a few moments ago about staffing and it was fairly flat in the quarter. And so from a cost perspective, a lot of movement in the cost structure. And as Bobby also mentioned, as we have departures, we're looking strategically at how to reinvest those freed up dollars to put back into the company may not be an equal trade-off on 1 position leaving and no one coming in. So we're being more strategic about how we deploy those funds back into the business as well.

Okay. I guess my final question is, I thought it was interesting on the $3 million of revenue year-to-date. I believe that's myClinicalExchange. And Bobby, can you just remind me like who's paying you guys that $3 million? Is that the nursing schools or the nursing students themselves?

Yes, yes, that's great question. It's a really fascinating model, we're excited about it. Here's how it works. The software -- the hospital gets some software as part of the solution set. It allows them to pick through the students and choose who get a rotation and also take their preliminary application in for the rotation. So the hospital has some software. The nursing school did some software. So they can see the profile of their students that they're pushing forward into the hospital network. And the student also has software access. They get access to build their profile, essentially a little bit like LinkedIn, so they can kind of profile themselves. And the model is set up so that along that chain, almost anyone can choose to pay for it. And so it's about -- I believe it's about $30 per person per applicant essentially. And about half of the market lets the student pay. And so when the student enters their credit card and they pay the $29, they get access to this network and that helps them find a rotation. In some cases, about the other half, I'd say, the hospitals choose to pay as part of almost recruiting future talent. And so it's about 50-50 of the $3 million, I believe, half paid by hospitals and half paid by the student. And in some cases, they make it kind of part of the program at the nursing school. So it would be almost like the school pays and gets reimbursed. But the easiest way to think about it, about 50% is paid self-paid by the student and about 50% by the hospital. And the hospitals are largely the ones that decide which model to adopt. They can say, push the application fee out to the applicant or they can choose to pay for, for their network.

And then is there any tie-in to like myClinicalExchange and the nursing app that -- what was it nurse...

NurseGrid.

Is there -- is there any integration between these 2 things?

Not yet, but we have concepts that they might apply for their nurse -- myClinicalExchange through the NurseGrid app. We have concepts that we're working on that would allow -- well, as you know, I think you know we're working on offering learning to the NurseGrid network and offering learning to the myClinicalExchange network. So our new platform gives us commerce capabilities now that we didn't have before. That allows us to make products available in both of those networks. And of course, my vision would be to have those work together. I know the teams are working on lots of ideas to make them more interoperable, but right now, we essentially are going to infuse commerce into both of those channels by year-end, in fact. So we're excited that those will become opportunities in the next really 60 days.

Our next question comes from the line of Vincent Colicchio of Barrington Research.

Yes. You had a very healthy growth in average revenue per employee, nice to see. I'm wondering if you have a growth. A comparable data point for the renewals maybe that would provide some sort of anecdotal indicator as to where the overall metric may be headed?

Oh, great, you mean at the account level? So we did give 2 examples. Obviously, they are really good examples and -- but they are larger. And so it's great to see 1 account almost double from $16 to $30-plus per person and the other go from, I think, is around $80 to $108.So -- but we don't have that metric wide. Of course, we have about 60 people in account management that manage our top hundreds of accounts, and their goal is to grow revenue per subscriber. And of course, my goal, as I've mentioned in the coming quarters and years to get to a place where we can share those numbers globally where averages will start to mean things across our hStream for learning subscription, hStream Credentialing and hStream scheduling, which should launch this quarter. So I don't have an answer for you now. We have a couple of exciting examples, and it's directionally where we're going, Vince. And we have teams of people, account management, in particular, focused on growing the revenue per person per year. But right now, we can kind of only cite samples instead of reporting kind of averages across the product set. But we'll get there. I think that you've hit the nail on the head about where we're trying to get, so it would be even much easier for you guys to model our growth. So you're on the right track, you're a little in front of us. I need a few more quarters.

And then the identity management and license management products on the hStream platform, are they meeting expectations?

Really exciting. We've taken that license verification service, which is a data-driven service. We've bundled it in with your hStream for learning subscription. So there's kind of a included kind of concept, almost like Amazon Prime comes with coke free movies, and we all know they're not really free, but they are included. And so yes, we've just surpassed 0.5 million subscriptions to the license service, which is being activated on behalf of our customers that have hStream for learning in their contracts. So we're really excited. And then we're converting some of those to upsell to add the other forms of sanction screening. And so -- and meanwhile, because it's an API-driven service, we're infusing those same services into other application sets and so we're really excited overall about these new data-driven services. And I don't have the conversion rate in front of me, but we do have upselling happening. It's probably less than 10% now, but we do have it where they get "the license service" included with their a stream for learning subscription in their contract. Again, like Amazon includes movies. And then there's a buy ops. We have a sales team that calls and offers them the other forms of sanctioned screening as an additional purchase, and we do have a closure rate on that as well. So we're beginning to see revenues come out of those data-driven license verification, office of inspector general sanction screening as well. And so really excited about the long-term implications of that. And it's great to see the base users surge path to $0.5 million now.

And a quick one for Scotty. What was the percentage contribution to growth from acquisitions? I know it was small.

Yes, that percentage is probably going to be around 0.5% maybe of the growth rate. It was just under $0.5 million of the revenue in the quarter.

Thank you. I'm showing no further questions at this time. I'd like to turn the call back over to Robert Frist, CEO, for any closing remarks.

All right. Thank you, everyone. To HealthStream's that made this all happen, a great quarter. Looking forward to wrapping up a strong year-end. The analysts that cover us. Thank you for telling our story and potential investors out there, we hope you take a look. We're trying to get good shareholder returns here with this dividend and deliver strong operating leverage, particularly in our free cash flows and EBITDA metrics. So excited and look forward to next quarter. Thank you, everyone, for participating.

Thank you. Ladies and gentlemen, this does conclude today's conference. Thank you all for participating, and have a great day. You may all disconnect.