Doctors’ offices and hospitals have switched en masse from paper to digital records over the past decade. That shift created an entire industry of electronic records companies that install and troubleshoot those systems.
Because of a sloppy and rushed rollout, it also created headaches—and worse—for doctors, patients, and the government. Can it also lead to opportunities?
For investors, the first era of electronic records proved lucrative as the government pumped tens of billions of dollars into the industry. Shares of Cerner (CERN), the largest publicly traded company in the group, jumped from $10 to $70 from 2009 to 2015. That golden age is over. The stock has been dead money since then, and some competitors’ shares have lagged the market. Most hospitals and doctors’ offices already have systems in place, and taxpayer support is drying up.
Against those odds, however, electronic health records, or EHR, are becoming a hot investment area again. A new generation of companies is vying to transform the industry, and big tech is interested.
Some investors think the major players, including Cerner, are in the best position to profit off the trend, because they’re already inside hospitals.
“Incumbency is a big advantage,” says Steven Halper, an analyst with Cantor Fitzgerald who has an Overweight rating on both Cerner and NextGen Healthcare (NXGN).
Another trend could help. Doctors still mostly bill on a fee-for-service basis, but insurers and government programs gradually have been moving toward more outcomes-based payment systems that will force hospitals to prove that they are actually improving the lives of their patients.
That shift is one reason why Robert Klaber, a portfolio manager of the $1 billion Parnassus fund, bought Cerner stock last year. Cerner has a growing business in what it calls population health management, helping hospitals track patients’ behavior to improve their long-term health.
“As that plays out gradually, this business should triple in size over the next five years, from about $300 million to $900 million,” Klaber says. Cerner’s revenue was $5.4 billion last year.
“We have an internal slogan where we say digitization is not the end, it’s the beginning,” says Joe Mandacina, Cerner’s head of communications. “Now that you have that layer of data and that data is organized, the predictive analytics and excitement around AI and all the things that come with it can happen next.”
Cerner also won a $10 billion contract last year to develop an EHR system for the Department of Veterans Affairs.
After a rough 2018, Cerner’s stock has rebounded in 2019 and is trading at 24 times its expected earnings for the next 12 months, just below its average valuation for five years.
The company has committed to becoming more shareholder-friendly, partly in response to a recent campaign by activist investor Starboard Value. Cerner aims to increase its operating margin, which had fallen after heavy software investments in recent years, and to start paying back to shareholders some of the more than $1 billion in cash it generates from operations each year. It has been relatively stingy with that money, given that it has more cash than debt. In February, the company announced that it would initiate a 15-cent dividend, giving it a yield just below 1%. It also plans to buy back $1.5 billion worth of shares, or about 7% of its market value.
Electronic health records have been around for decades, but the business really took off in 2009, when Congress passed the Health Information Technology for Economic and Clinical Health Act as part of the Obama administration’s stimulus package. The government pumped $38 billion into the industry. Adoption skyrocketed at hospitals, to 96% in 2017, from 9% in 2008. Most doctors’ offices have also installed the systems, with 86% using EHR in 2017, up from 42% in 2008.
Those big government checks inspired medical offices to upgrade their systems in a hurry. Studies show that they cost $15,000 to $70,000 per provider upfront, and that doctors could be eligible for as much as $64,000 in government reimbursement, depending in part on how many Medicaid patients they accepted. Yearly maintenance costs could run $4,000 to $8,000.
The government created requirements for the systems to determine if a health-care provider was demonstrating “meaningful use” of electronic records and deserved payment. A few big companies figured out how to efficiently check those boxes. “It was very easy for the EHR vendors who dominated at that time and dominate even more now to do these minimal requirements,” says David Lareau, the chief executive of Medicomp Systems, which develops software to make health records more useful to doctors.
Dozens of companies offer the services, but two have captured about half the industry’s market share: Cerner and privately held Epic.
The third largest is Allscripts Healthcare Solutions (MDRX), which has a market share of about 12%, according to IBISWorld. Allscripts has had more trouble than competitors in holding on to clients, Halper says. Allscripts, which is down 18% in the past year, said on a recent conference call that it is seeing clients return to its platform.
Since the federal money began to dwindle in 2015, the industry has suffered a kind of hangover—electronic records haven’t revolutionized health care. In fact, most doctors report that they have made their jobs less efficient, according to a survey last year. Errors plague the systems, too, with 21% of patients surveyed by the Kaiser Family Foundation reporting that they had noticed mistakes in theirs.
Systems made by different operators are often incompatible, forcing doctors to use low-tech methods to transfer information and adding to the potential for delays and errors. Nonprofits and the government are working to solve those problems, but the industry’s slow progress has enticed other players, including big tech.
Apple (AAPL) introduced an iPhone tool called Health Records in 2018 that pulls EHR data from doctors and lab companies and puts it on users’ phones.
In November, Amazon.com (AMZN) unveiled a product, Amazon Comprehend Medical, that analyzes patient’s medical records. IBM ’s (IBM) artificial intelligence health-care program, Watson Health, is also working on EHR, though the company reported layoffs in the unit last June.
Google parent Alphabet (GOOGL), which hired the former CEO of Geisinger Health System to run its health-care operation, is also pushing into the space. Its Cloud Healthcare API lets developers analyze different electronic health record data types. The company also filed a patent application in 2017 for a health-care analytics system.
A Google representative said that the patent was related to research published in a scientific journal in 2018. Researchers from Google and its research partners reported that they had used a deep learning program to predict medical events based on raw EHR records.
“We believe that this approach can be used to create accurate and scalable predictions for a variety of clinical scenarios,” the researchers wrote.
Still, some investors doubt that the tech giants can dominate this industry.
“Apple has a ton of data about your health from your watch, but it’s not curated, and Apple is not in the business of getting that data to hospitals,” Klaber of Parnassus says. “It’s unlikely doctors are going to be reading the metrics from your watch.”
Apple says that it does not have access to health data accessed through the Health app, and that any Health data it stores is encrypted on its servers.
Other smaller health-care companies have introduced products that use electronic records to help hospitals track patient health, similar to what Cerner’s Population Health division does. One is Evolent Health (EVH), which Cowen analyst Charles Rhyee calls “a technology-enabled consulting business,” because it offers both technology and on-site consultants.
“It’s one of the most direct ways to invest in this trend,” says Rhyee, who rates the stock an Outperform. Although the company has been posting losses, it is expected to become profitable next year.
Evolent CEO Frank Williams says the company pulls together patient records from doctors, labs and pharmacies “so that you get the most information about the population that you’re serving and can identify at-risk patients very early before they get sick.”
Another company in this area is Health Catalyst of Salt Lake City, whose software pulls data from patient and billing records and other sources to guide hospitals in their financial and medical management. Health Catalyst, whose last funding round valued it above $1 billion, confidentially filed paperwork for an initial public offering in April.
Eventually, empowering patients will mean giving them more control over their records—and standardizing the information into “a neutral archive that anyone can tap into,” says Dana Bensinger, a registered nurse at IT consultant CTG, which does records systems for hospitals and doctors. The companies that work with hospitals will be valuable because they can organize information and predict outcomes. “That’s way down the road, but I think that’s eventually where we’re going to go,” he says.
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