Orion Health sells its golden goose

Orion founder Ian McCrae will participate in the share buyback.

Orion Health CFO Mark Tisdel on his company's business unit sale and share buy-back

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Battling health technology company Orion Health plans to sell a majority stake in its core Rhapsody business and a quarter stake in its Population Health division to UK private equity firm HgCapital (pronounced H.G. Capital, and also a recent investor in NZX-listed Gentrack).

Although the deal would see it lose its only profitable division, Orion chief financial officer Mark Tisdel says Rhapsody is a mature business, and that its remaining units have more room to grow and can be moved into the black.

The $255 million deal will see Hg acquire Rhapsody for $205m and a 24.9% stake in Population Health for $20m. Orion will use $28m of the proceeds to re-acquire a 24.9% stake in Rhapsody and another $30m to fund ongoing operations at Population Health, Mr Tisdel says.

HgCapital partner Philippe Houssiau will step in to lead the Rhapsody business should the deal win Overseas Investment Office approval.

Orion shares surged 36.47% to $1.16 as the deal was announced, taking the company's market cap to $202 million.

However, the stock is still down 24.66% for the year and well off the heady $6 pace of its post-IPO trading in late 2014 and early 2015, when the Auckland-based company was valued at just a whisker under $1 billion.

Only profitable division sold
Earlier this year, the cash-crunched Orion said it was restructuring into three groups: Rhapsody (its core software), Hospitals and Population Health.

Craigs Investment Partners' Stephen Ridgewell says that by his analysis, Rhapsody is very profitable, Hospitals is breakeven and Population Health is losing money (overall, Orion lost $40m last year on revenue of $170m, well shy of its originally-forecast $220m).

"Rhapsody was the most readily saleable business unit because the product is mature, generates positive cash flow and is a market leader," Mr Ridgewell said.

He notes that an Orion disclosure prior to 2017 put Rhapsody's revenue in the $40-45m range, with a historic growth rate of 5% p.a. He estimates Rhapsody's 2017 ebit at around $7.4m.

Orion Health NZX performance since its 2014 IPO.

Decision-time for minority investors
Mr Ridgewell says the deal announced today is a good one for minority investors, who can now sell out for between $1.24 and $1.29, or roughly double Orion's share price earlier this year (if well off its historic high).

He says the situation for the remains of Orion – a minority stake in the money-making Rhapsody, 100% of the breakeven Hospitals unit and a 75% take in the money-losing Population Health – would be a challenging one. He anticipated that most small investors would rather exit at this point.

Life after selling the golden goose
Can Orion achieve its aim of getting back into the black now that the red-ink Population unit and breakeven Hospitals division form its main business lines?

"That's a good question," Mr Tisdel says. 

The CFO points out that although his company lost $40m last year, it also initiated a programme to cull $30m in costs. That means "Hospitals can be moved into profitability and Population towards profitability," he says.

He adds that the Hg deal will see $30m invested in Population and a minimum of $12m for Hospitals. And if shareholders don't cash out, that cash will also be available, he says.

The CFO says Orion now has enough cash to last it into 2020. He refuses to give a revised date for Orion to return to profit.

While some investors might feel Orion has sold "the best bit," Mr Tisdel says Rhapsody is a mature business. Population Health and Hospitals still have a lot of room to grow, he says.

The three divisions
Rhapsody is an integration engine that helps separate software systems in different parts of a hospital communicate with each other by “translating” the data, Mr Ridgewell says.

Of the other two major divisions, the Hospital ERP product suite, originally acquired from Microsoft, which has been sold to five South Island NZ district health boards and some private hospitals in Asia Pacific and Europe, Middle East and Africa. Additional revenue from this business is generated from software that sits over the top of existing software to extend useful life.

Population Health, which includes Orion’s legacy HIE (Health Information Exchange). databases as well as the next-generation Amadeus patient management database hosted on Amazon Web Services, Mr Ridgewall says.

It was Orion's HIE business, once so promising in the US under Obamacare, that was hit by changes under the new Trump administration, Orion revealed in May.

Options for smaller shareholders
In a statement to the NZX Orion says it will use the balance of the proceeds to fund a share buyback and provide funding for its remaining Hospitals division.

Orion founder and chief executive Ian McCrae will elect 20% of his 49.75% stake into the buyback offer, which has an estimated price range of $1.24-1.29 per share.

Mr Tisdel says small shareholders will also be able to sell no shares, 20% of their shares or 50% or 100%.

"We believe this is a very unique and flexible offering for our shareholders," the CFO says.

The bottom of the estimated buyback price range represents a premium of 46% to the closing price per Orion Health share of 85c yesterday and 55% to the volume weighted average trading price over the last 20 trading days. 

Independent appraisal
The Hg deal values Orion at an enterprise value of $255m and is subject to several conditions, including approval of the Hg transaction and the share buyback offer by Orion Health’s shareholders.

KordaMentha has been engaged to conduct an independent appraisal report on the offer and shareholders will have an option to participate all or a specified proportion of their shares.

Orion Health has struggled since listing on the sharemarket in late 2014 and recently reported a full-year loss of $40.4m for its 2018 financial year. In 2017 the company lost $33m.

The company’s shares sank to below 60c in April, a little more than three years after the IPO at $5.70.

Orion has been hurt by delays in contracts and at the full year results announcement, Mr Tisdel said revenue would be flat to a slight increase for 2019 and the company would make "a slight loss to breakeven."

Key points 

• Private equity firm Hg to acquire Rhapsody for $205 million, Orion Health in turn will pay $28m for 24.9% stake in Rhapsody.

• Hg to acquire a 24.9% stake in Population Health for approximately $20 million. Orion Health in turn will invest $12 million in Population Health. 

• Orion Health will continue to own 100% of its Hospitals business.

• The balance of the net proceeds from Hg transaction (approximately $165m) will be used to fund a share buyback offer to shareholders, pay transaction costs and fund the hospitals business.

• Shareholders will have an option to elect 100%, 50%, 20% and zero participation in the share buyback offer, which is structured to be non-taxable.

• Mr McCrae, who has a 49.75% stake today, has undertaken to elect 20% of his shares for the buyback offer and will remain the company’s largest shareholder.

 

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Looks like a great investor to have on board for the businesses. Not sure I would put much value in what is left behind given the track record of management since this listed.

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Good luck to shareholders in determining if that structure is value accretive.

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Looks like the White Knight has finally arrived. Problem is that it has shed the white armour in the process and underneath is black. OHE was definitely up against a rock and a hard place with dwindling cash reserves and still burning the money, but there is only one place to lay blame for that. Vulture has already stripped the best parts off this carcass - I suspect it will be back for a 2nd and 3rd helping in coming years...

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This is a firesale. The proposed transaction only values Rhapsody at $NZ205 million. However, Rhapsody made $NZ27 million in FY18. Given the novel technology Rhapsody has in an area of huge interest it would not be unreasonable to to value it at 30 times FY18 profit. That would be 30 x 27 million = 810 million.
Selling it for $205 million is a huge bargain for hgCapital.

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If selling Rhapsody for 30x operating earnings was reasonable, then Orion would have done that when its strategic review started more than a year ago.

More context: Craigs notes that an Orion disclosure prior to 2017 put Rhapsody's revenue in the $40-45m range, with a historic growth rate of 5% p.a. Craigs estimated Rhapsody's 2017 ebit at around $7.4m.

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Or the shareprice would have been more than 80 cents. Yes it looks like a fire sale but my guess is because no one else wanted to play.

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Perhaps a better alternative would have been to sell 30% of Rhapsody. That would raise $60 million.
That would provide enough money to get them through this difficult time. That way they would still maintain control of Rhapsody.

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Who would invest with Orion management in the drivers seat?

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Exactly. Appears Mr McCrae is still trying to part with as little as possible of his "baby". Oh, to be back around the $5.75 "fair value" mark Mr McCrae thought his shares were worth!

The problem with majority shareholders is that they may not have small shareholders best interests at heart. I can't see how any investor, other than those who bought recently for a quick bounce trade or bottom skimming, would be happy in any way, shape or form with this deal which cuts off a critical limb to keep the life support on life support for bit longer.

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McRae is much better at ideation than growing/running a mature business. There is massive opportunity in healthcare to concieve and develop products that fit this build and sell model. I think this is good and builds on the actual strengths of the management team. Whether the sale price was good or not was moot, they needed cash and had to sell.

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