DH - Definitive Healthcare Grows Headcount Despite Gathering Recession Clouds

Summary

• Definitive Healthcare went public in September 2021, raising around $420 million in a U.S. IPO.
• The firm provides healthcare and pharmaceutical companies with a wide range of data and analytics software products.
• DH is starting to see lengthening sales cycles and is producing continued operating losses while growing headcount into an increasingly likely recession.
• I'm on Hold for DH in the near term.

A Quick Take On Definitive Healthcare

Definitive Healthcare ( DH ) went public in September 2021, raising approximately $420 million in gross proceeds from an IPO that was priced at $27.00 per share.

The firm provides healthcare commercial intelligence to clients in the healthcare and related industries.

Given its operating losses, continued headcount growth and relatively high valuation multiple in the face of a growing recession risk, my outlook for DH is on Hold.

Definitive Healthcare Overview

Framingham, Massachusetts-based Definitive was founded to develop a SaaS platform to deliver data and insights into all aspects of the healthcare delivery system.

Management is headed by Chief Executive Officer, Robert Musslewhite, who has been with the firm since October 2021 and was previously CEO of OptumInsight, the health services business unit of Optum.

The company's primary offerings by client use case include:

• Sales

• Marketing

• Clinical research & product development

• Strategy

• Talent Acquisition

• Physician Network Management

The firm seeks customer relationships with life science companies, healthcare IT companies, healthcare providers, staffing firms and real estate firms.

Definitive Healthcare's Market & Competition

According to a 2019 market research report by Grand View Research, the global market for healthcare analytics was an estimated $25.9 billion in 2019 and is expected to reach $46 billion by 2027.

This represents a forecast CAGR of 7.5% from 2020 to 2027.

The main drivers for this expected growth are continued digitization of healthcare data, technological advancements and pressure to reduce healthcare spending through efficiencies.

Also, the COVID-19 pandemic has provided a boost to these trends and will likely pull forward demand from healthcare ecosystem companies for greater information and capabilities.

Major competitive or other industry participants include:

• Clarivate

• OptumInsight

• IQVIA

• Symphony Health

• Komodo Health

• H1 Healthcare

• Marketware

• Trella Health

• Trilliant Health

• SG2

• Veeva

• Others

Definitive Healthcare's Recent Financial Performance

• Total revenue by quarter has grown steadily over the past 5 quarters:

• Gross profit by quarter has also risen, as the chart shows below:

• Selling, G&A expenses as a percentage of total revenue by quarter have trended higher:

• Operating losses by quarter have worsened in recent quarters:

• Earnings per share (Diluted) have remained negative in recent reporting periods:

(All data in above charts is GAAP)

In the past 12 months, DH's stock price has dropped 53.2% vs. the U.S. S&P 500 Index's fall of around 11.7%, as the chart below indicates:

Valuation And Other Metrics For Definitive Healthcare

Below is a table of relevant capitalization and valuation figures for the company:

(Source - Seeking Alpha)

As a reference, a relevant partial public comparable would be Clarivate ( CLVT ); shown below is a comparison of their primary valuation metrics:

(Source - Seeking Alpha)

A full comparison of the two companies' performance metrics may be viewed here .

Compared to the Seeking Alpha Health Care Technology industry average EV/Revenue multiple of 5.44x, the firm is currently being valued by the market at a significant premium to the average of that basket.

The Rule of 40 is a software industry rule of thumb that says that as long as the combined revenue growth rate and EBITDA percentage rate equal or exceed 40%, the firm is on an acceptable growth/EBITDA trajectory.

DH's most recent GAAP Rule of 40 calculation was 53.2% as of Q2 2022, so the firm has performed well in this regard, per the table below:

(Source - Seeking Alpha)

Commentary On Definitive Healthcare

In its last earnings call (Source - Seeking Alpha ), covering Q2 2022's results, management highlighted the company's 'solid second quarter' despite seeing lengthening sales cycles toward the end of the quarter and macroeconomic pressures increased.

The company finished the quarter with 486 enterprise customers generating at least $100,000 annual recurring revenue ((ARR)) and representing 39% growth year-over-year. Total customer count at quarter end was 2,993.

As to its financial results, total revenue rose by 37% year-over-year and adjusted EBITDA margin was 30%, ahead of management's expectations for the quarter.

The company's net dollar retention rate was described as 'good', although management has a policy of not disclosing it, a disappointing omission from a subscription software company where this metric is extremely important.

Gross profit rose 38% year-over-year, but sales and marketing expenses grew 48% and product development and G&A expenses increased by 63% and 67%, respectively. (Non-GAAP)

GAAP operating loss remained significant at ($9.1 million) as the company continued to hire aggressively despite a slowing latter part of the quarter.

For the balance sheet, the firm finished the quarter with $346 million in cash and equivalents and $268 million in debt.

For the trailing twelve months, DH generated free cash flow of $29.3 million.

Looking ahead, management reiterated previous full year guidance, with a median revenue growth rate expected to be 34%, slower than its trailing twelve months result while it lowered its adjusted net income due in part to higher interest rates.

Regarding valuation, the market is valuing DH at an EV/Sales multiple of around 13x.

The SaaS Capital Index of publicly held SaaS software companies showed an average forward EV/Revenue multiple of around 7.7x at July 31, 2022, as the chart shows here:

So, by comparison, DH is currently valued by the market at a significant premium to the broader SaaS Capital Index, at least as of July 31, 2022.

The primary risk to the company's outlook is a macroeconomic slowdown or recession, which appears to already be slowing down sales cycles and reducing its revenue growth trajectory.

Also, further interest rate hikes may continue to raise Definitive's debt service costs, generating further losses.

While the market appears to be valuing DH at a premium to peers within the healthcare technology sector as well as to SaaS firms more broadly, it is not immune to a continued drop in valuation.

Given its operating losses, continued headcount growth and relatively high valuation multiple in the face of a growing recession risk, my outlook for DH is on Hold.

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