CERNER CORPORATION
The following Management Discussion and Analysis ("MD&A") is intended to help
the reader understand the results of operations and financial condition of
Cerner Corporation ("Cerner ," the "Company," "we," "us" or "our"). This MD&A is
provided as a supplement to, and should be read in conjunction with, our
condensed consolidated financial statements and the accompanying notes to
condensed consolidated financial statements ("Notes") found above. Certain
statements in this quarterly report on Form 10-Q contain forward-looking
statements within the meanings of the Private Securities Litigation Reform Act
of 1995, as amended, regarding our future plans, objectives, beliefs,
expectations, representations and projections. See the end of this MD&A for more
information on our forward-looking statements, including a discussion of the
most significant factors that could cause actual results to differ materially
from those in the forward-looking statements.
All references to quarters or the three month periods ended 2021 and 2020 in
this MD&A represent the respective three month periods ended March 31, 2021 and
March 31, 2020 , unless otherwise noted.
Management Overview
Our revenues are primarily derived by selling, implementing, operating and supporting software solutions, clinical content, hardware, devices and services that give healthcare providers and other stakeholders secure access to clinical, administrative and financial data in real or near-real time, helping them to improve quality, safety and efficiency in the delivery of healthcare.
Our core strategy is to create organic growth by investing in research and development to create solutions and tech-enabled services for the healthcare industry. We expect to also supplement organic growth with acquisitions or strategic investments and collaborations.
Cerner 's long history of growth has created an important strategic footprint in healthcare, withCerner holding more than 25 percent market share in theU.S. acute care electronic health record ("EHR") market and a leading market share in several non-U.S. regions. Foundational to our growth going forward is delivering value to this core client base, including executing effectively on our largeU.S. federal contracts and cross-selling key solutions and services in areas such as revenue cycle. We are also investing in platform modernization, with a focus on delivering a software as a service platform that we expect to lower total cost of ownership, improve clinician experience and patient outcomes, and enable clients to accelerate adoption of new functionality and better leverage third-party innovations. We also expect to continue driving growth by leveraging our HealtheIntent® platform, which is the foundation for established and new offerings for both provider and non-provider markets. The EHR-agnostic HealtheIntent platform enablesCerner to become a strategic partner with healthcare stakeholders and help them improve performance under value-based contracting. The platform, along with our CareAware® platform, also supports offerings in areas such as long-term care, home care and hospice, rehabilitation, behavioral health, community care, care team communications, health systems operations, consumer and employer, and data-as-a-service. Beyond our strategy for driving revenue growth, we are also focused on earnings growth. After several years of margin compression related to slowing revenue growth, increased mix of low-margin services, and lower software demand due to the end of direct government incentives for EHR adoption,Cerner implemented a new operating structure and introduced other initiatives focused on cost optimization and process improvement in 2019. To assist in these efforts, we engaged an outside consulting firm to conduct a review of our operations and cost structure. We have made good progress since we kicked off our transformation in 2019 and expect this progress to be reflected in improved profitability going forward. We are focused on ongoing identification of opportunities to operate more efficiently and on achieving the efficiencies without impacting the quality of our solutions and services and commitments to our clients. We are also focused on delivering strong levels of cash flow which we expect to accomplish by continuing to grow earnings and prudently managing capital expenditures. We expect to use future cash flow and debt, as appropriate, to meet our capital allocation objectives, which include investing in our business, entering into acquisitions or other strategic investments to drive profitable growth, and returning capital to shareholders through share repurchases and dividends. 18 -------------------------------------------------------------------------------- Table of Contents COVID-19 Our business and results of operations in the first three months of both 2021 and 2020 were impacted by the ongoing COVID-19 pandemic. It has caused us to modify certain of our business practices, including requiring most of our associates to work remotely; restricting associate travel; developing social distancing plans for our associates; and canceling or postponing in person participation in certain meetings, events and conferences. It is not possible to quantify the full financial impact that the COVID-19 pandemic has had on our results of operations, cash flows, or financial condition, due to the uncertainty surrounding the pandemic, the difficulty inherent in identifying and measuring the various impacts that have or may stem from such an event and the fact that there are no comparable recent events that provide guidance as to how to measure or predict the effect the COVID-19 pandemic may have on our business. However, we believe COVID-19 has impacted, and could continue in the near-term to impact, our business results, primarily, but not limited to, in the following areas: •Bookings, backlog and revenues - A decline in new business bookings as certain client purchasing decisions and projects are delayed to focus on treating patients, procuring necessary medical supplies, administering vaccines, and managing their own organizations through this crisis. This decline in bookings flows through to reduced backlog and lower subsequent revenues. •Associate productivity - A decline in associate productivity, primarily for our services personnel, as a large amount of work is typically done at client sites, which is being impacted by travel restrictions and our clients' focus on the pandemic. Our clients' focus on the pandemic has also led to pauses on existing projects and postponed start dates for others, which translates into lower professional services revenues and a lower operating margin percentage. We are mitigating this by doing more work remotely than we have in the past, but we cannot fully offset the negative impact. •Travel - Associate travel restrictions reduce client-related travel, which reduces reimbursed travel revenues and lowers our costs of revenue as a percent of revenues. Such restrictions also reduce non-reimbursable travel, which lowers operating expenses. •Cash collections - A delay in client cash collections due to COVID-19's impact on national reimbursement processes, and client focus on managing their own organizations' liquidity during this time. This translates to lower cash flows from operating activities, and a higher days sales outstanding metric. Lower cash flows from operating activities may impact how we execute under our capital allocation strategy.
•Capital expenditures - A decline in capital spending as certain capital projects are delayed.
We believe the impact of COVID-19 on our results of operations for the first quarter of 2020 was limited, with the largest impact in the areas of reduced bookings and lower technology resale revenue, due to themid-March 2020 timing of when we implemented changes to our business practices in response to COVID-19, and the nature of the industry in which we operate. We believe the most significant impact of COVID-19 on our business was in the second quarter of 2020, with the impact beginning to moderate in subsequent periods but still persisting into 2021 due to some ongoing restrictive measures and certain regions dealing with resurgences of cases. As a result, we believe the impact of COVID-19 on our results of operations for the first quarter of 2021 was greater than in the first quarter of 2020 as the pandemic and practices we implemented inmid-March 2020 were ongoing for the full period, with the largest impact in the areas of lower technology resale, professional services, and reimbursed travel revenues. While we expect a negative financial impact to continue in 2021, we do not expect it to be as significant as 2020. The impact will continue to be difficult to quantify as there are many factors that continue to be outside of our control, so any forward looking statements that we make regarding our projections of future financial performance; new solutions and services; capital allocation plans; cost optimization and operational improvement initiatives; and the expected benefits of our acquisitions, divestitures or other collaborations are all subject to increased risks.
Operational Improvement Initiatives
The Company has continued to focus on leveraging the impact of our new operating
structure and identifying additional efficiencies in our business. We continue
to be focused on reducing operating expenses and generating other efficiencies
that are expected to provide longer-term operating margin expansion. We are
continuing our portfolio management, which includes ongoing evaluation of our
offerings, exiting certain low-margin businesses, and being more selective as we
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consider new business opportunities. To assist in these efforts, we engaged an
outside consulting firm to conduct a review of our operations and cost
structure. As part of our portfolio management, we closed on the sale of certain
of our business operations, primarily conducted in Germany and Spain , in July
2020 , and the sale of certain of our revenue cycle outsourcing business
operations in August 2020 . We expect to continue to evaluate and complete
divestiture transactions that are strategic to our operational improvement
initiatives. We continue to be focused on ongoing identification of
opportunities to operate more efficiently and on achieving the efficiencies
without impacting the quality of our solutions and services and commitments to
our clients.
In the near term, we expect to incur expenses in connection with these efforts.
Such expenses may include, but are not limited to, consultant and other
professional services fees, employee separation costs, contract termination
costs, and other such related expenses. Expenses recognized in the first quarter
of 2021 and 2020 primarily related to professional services fees and employee
separation costs, which are included in operating expenses in our condensed
consolidated statements of operations. We expect to incur additional expenses in
connection with these initiatives in future periods, which may be material.
Results Overview
Bookings, which reflect the value of executed contracts for software, hardware, professional services and managed services, was$1.23 billion in the first quarter of 2021, which is an increase of 13% compared to$1.09 billion in the first quarter of 2020.
Revenues for the first quarter of 2021 decreased 2% to
Net earnings for the first quarter of 2021 increased 17% to
We had cash collections of receivables of$1.44 billion in the first quarter of 2021, compared to$1.37 billion in the first quarter of 2020. Days sales outstanding was 77 days in the first quarter of 2021, compared to 76 days for the 2020 fourth quarter and 74 days for the first quarter of 2020. Operating cash flows for the first quarter of 2021 were$450 million , compared to$284 million in the first quarter of 2020. 20 -------------------------------------------------------------------------------- Table of Contents Results of Operations
Three Months Ended
The following table presents a summary of our operating information for the first quarters of 2021 and 2020:
% of % of
(In thousands) 2021 Revenue 2020 Revenue % Change
Revenues $ 1,387,778 100 % $ 1,411,741 100 % (2) %
Costs of revenue 230,656 17 % 254,416 18 % (9) %
Margin 1,157,122 83 % 1,157,325 82 % - %
Operating expenses
Sales and client service 622,176 45 % 636,649 45 % (2) %
Software development 192,327 14 % 185,320 13 % 4 %
General and administrative 112,365 8 % 139,852 10 % (20) %
Amortization of acquisition-related intangibles 12,196 1 % 17,128 1 % (29) %
Total operating expenses 939,064 68 % 978,949 69 % (4) %
Total costs and expenses 1,169,720 84 % 1,233,365 87 % (5) %
Operating earnings 218,058 16 % 178,376 13 % 22 %
Other income, net 1,206 5,595
Income taxes (47,012) (36,812)
Net earnings $ 172,252 $ 147,159 17 %
Revenues & Backlog
Revenues decreased 2% to
•The first quarter of 2021 includes a
•The first quarter of 2021 includes a$21 million reduction in revenues due to the sale of certain of our business operations primarily conducted inGermany andSpain to affiliates of CompuGroup Medical SE & Co. KGaA onJuly 1, 2020 .
•The impact of the ongoing COVID-19 pandemic on our first quarter 2021 operations, with the largest impact in the areas of technology resale, professional services, and reimbursed travel revenues, as further discussed above.
These declines are partially offset by increased implementation activity within our federal business, inclusive of ongoing projects with theU.S. Department of Defense and theU.S. Department of Veterans Affairs . In the first quarter of 2021, 20% of our total revenues were attributable to our relationships (as the prime contractor or a subcontractor) withU.S. government agencies, compared to 17% in the same period of 2020. Refer to Note (2) of the Notes for further information regarding revenues disaggregated by our business models. Backlog, which reflects contracted revenue that has not yet been recognized as revenue, was relatively flat at$13.07 billion atMarch 31, 2021 , compared to$13.04 billion atDecember 31, 2020 . We expect to recognize 30% of our backlog as revenue over the next 12 months. We believe that backlog may not necessarily be a comprehensive indicator of future revenue as certain of our arrangements may be canceled (or conversely renewed) at our clients' option; thus contract consideration related to such cancellable periods has been excluded from our calculation of backlog. However, historically our experience has been that such cancellation provisions are rarely exercised. We expect to recognize approximately$967 million of revenue over the 21 -------------------------------------------------------------------------------- Table of Contents next 12 months under currently executed contracts related to such cancellable periods, which is not included in our calculation of backlog. Additionally, onApril 1, 2021 , we completed our acquisition ofKantar Health , as further discussed in Note (12) of the Notes. We expect the acquired business to contribute approximately$125 million of revenues over the remainder of 2021.
Costs of Revenue
Costs of revenue as a percent of revenues were 17% in the first quarter of 2021, compared to 18% in the same period of 2020. The lower costs of revenue as a percent of revenues was primarily driven by lower reimbursed travel revenue, which carries a 100% cost of revenue; and reduced utilization of third-party resources associated with professional services and support and maintenance revenue, inclusive of the impact from the divestiture transactions discussed above. Costs of revenue include the cost of reimbursed travel expense, sales commissions, third-party consulting services and subscription content and computer hardware, devices and sublicensed software purchased from manufacturers for delivery to clients. It also includes the cost of hardware maintenance and sublicensed software support subcontracted to the manufacturers. Such costs, as a percent of revenues, typically have varied as the mix of revenue (software, hardware, devices, maintenance, support, and services) carrying different margin rates changes from period to period. Costs of revenue does not include the costs of our client service personnel who are responsible for delivering our service offerings. Such costs are included in sales and client service expense.
Operating Expenses
Total operating expenses decreased 4% to
•Sales and client service expenses as a percent of revenues were 45% in the first quarter of both 2021 and 2020. These expenses decreased 2% to$622 million in the first quarter of 2021, from$637 million in the same period of 2020. Sales and client service expenses include salaries and benefits of sales, marketing, support, and services personnel, depreciation and other expenses associated with our managed services business, communications expenses, unreimbursed travel expenses, expense for share-based payments, and trade show and advertising costs. The decrease in sales and client service expenses was primarily driven by reductions in non-personnel costs, inclusive of the impact from our operational improvement initiatives, as discussed above. •Software development expenses as a percent of revenues were 14% in the first quarter of 2021, compared to 13% in the same period of 2020. Expenditures for software development include ongoing development and enhancement of theCerner Millennium® and HealtheIntent platforms, as well as other key initiatives such as platform modernization, with a focus on development of a software as a service platform. A summary of our total software development expense in the first quarters of 2021 and 2020 is as follows: Three Months Ended (In thousands) 2021 2020 Software development costs$ 211,027 $ 198,164 Capitalized software costs (81,155) (72,504)
Capitalized costs related to share-based payments (2,395) (1,351) Amortization of capitalized software costs
64,850 61,011
Total software development expense$ 192,327 $
185,320
•General and administrative expenses as a percent of revenues were 8% in the first quarter of 2021, compared to 10% in the same period of 2020. These expenses decreased 20% to$112 million in the first quarter of 2021, from$140 million in the same period of 2020. General and administrative expenses include salaries and benefits for corporate, financial and administrative staffs, utilities, communications expenses, professional fees, depreciation and amortization, transaction gains or losses on foreign currency, expense for share-based payments, certain organizational restructuring and other expense. In the first quarter of 2021, general and administrative expenses include$20 million of expenses incurred in connection with our operational improvement initiatives, discussed above, compared to$40 million in the same period of 2020. We expect to incur additional expenses in connection with these efforts in future periods, which may be material. 22
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•Amortization of acquisition-related intangibles as a percent of revenues was 1% in the first quarter of both 2021 and 2020. These expenses decreased 29% to$12 million in the first quarter of 2021, from$17 million in the same period in 2020. Amortization of acquisition-related intangibles includes the amortization of customer relationships, acquired technology, trade names, and non-compete agreements recorded in connection with our business acquisitions. The decrease in amortization of acquisition-related intangibles is primarily due to the impact of certain intangible assets from the Health Services acquisition inFebruary 2015 becoming fully amortized in the first quarter of 2020.
Non-Operating Items
•Other income, net was$1 million in the first quarter of 2021, compared to$6 million in the same period of 2020. The decrease is primarily attributable to a reduction in capitalized interest, inclusive of the impact from the completion of construction on the most recent phases of our Innovations Campus in 2020. •Our effective tax rate was 21.4% for the first quarter of 2021, compared to 20.0% for the same period of 2020. The increase in the effective tax rate in the first quarter of 2021 is primarily due to a decrease in net excess tax benefits recognized as a component of income tax expense in connection with the exercise of stock options and the vesting of restricted share and share unit awards. Refer to Note (7) of the Notes for further discussion regarding our effective tax rate. Operations by Segment We have two operating segments: Domestic and International. The Domestic segment includes revenue contributions and expenditures associated with business activity inthe United States . The International segment includes revenue contributions and expenditures linked to business activity outsidethe United States , primarily fromAustralia ,Canada ,Europe , and theMiddle East . Refer to Note (11) of the Notes for further information regarding our reportable segments.
The following table presents a summary of our operating segment information for the first quarters of 2021 and 2020:
(In thousands) 2021 % of Revenue 2020 % of Revenue % Change Domestic Segment Revenues$ 1,221,992 100%$ 1,246,415 100% (2)% Costs of revenue 205,694 17% 228,567 18% (10)% Operating expenses 560,562 46% 570,094 46% (2)% Total costs and expenses 766,256 63% 798,661 64% (4)% Domestic operating earnings 455,736 37% 447,754 36% 2% International Segment Revenues 165,786 100% 165,326 100% -% Costs of revenue 24,962 15% 25,849 16% (3)% Operating expenses 61,614 37% 66,555 40% (7)% Total costs and expenses 86,576 52% 92,404 56% (6)% International operating earnings 79,210 48% 72,922 44%
9%
Other costs and expenses, net (316,888) (342,300)
(7)%
Consolidated operating earnings$ 218,058 $ 178,376 22% Domestic Segment •Revenues decreased 2% to$1.22 billion in the first quarter of 2021, from$1.25 billion in the same period of 2020. The decline in revenues is primarily due to a$23 million reduction from the sale of certain of our revenue cycle outsourcing business operations to affiliates of R1 RCM Inc., onAugust 3, 2020 . Additionally, we believe the 23 -------------------------------------------------------------------------------- Table of Contents ongoing COVID-19 pandemic has negatively impacted our operations in the first quarter of 2021, as further discussed above. These declines are partially offset by increased implementation activity within our federal business, inclusive of ongoing projects with theU.S. Department of Defense and theU.S. Department of Veterans Affairs . Refer to Note (2) of the Notes for further information regarding revenues disaggregated by our business models. •Costs of revenue as a percent of revenues were 17% in the first quarter of 2021, compared to 18% in the same period of 2020. The lower costs of revenue as a percent of revenues was primarily driven by lower reimbursed travel revenue, which carries a 100% cost of revenue; and reduced utilization of third-party resources associated with professional services revenue, inclusive of the impact from the divestiture transaction discussed above. •Operating expenses as a percent of revenues were 46% in the first quarter of both 2021 and 2020. These expenses decreased 2% to$561 million in the first quarter of 2021, from$570 million in the same period of 2020. The decrease in operating expenses was primarily driven by reductions in non-personnel costs, inclusive of the impact from our operational improvement initiatives, as discussed above.
International Segment
•Revenues remained relatively flat at$166 million in the first quarter of 2021, and$165 million in the same period of 2020. The first quarter of 2021 includes a$21 million reduction in revenues from the sale of certain of our business operations primarily conducted inGermany andSpain to affiliates of CompuGroup Medical SE & Co. KGaA onJuly 1, 2020 . This decline was offset by 2021 revenue growth across the majority of our remaining International Segment operations. Refer to Note (2) of the Notes for further information regarding revenues disaggregated by our business models.
•Costs of revenue remained relatively flat at
•Operating expenses as a percent of revenues were 37% in the first quarter of 2021, compared to 40% in the same period of 2020. These expenses decreased 7% to$62 million in the first quarter of 2021, from$67 million in the same period of 2020. The decrease in operating expenses is primarily due to the sale of certain of our business operations inGermany andSpain , as further discussed above.
Other Costs and Expenses, Net
Operating costs and expenses not attributed to an operating segment include expenses such as software development, general and administrative expenses, share-based compensation expense, certain amortization and depreciation, certain organizational restructuring and other expense. These expenses decreased 7% to$317 million in the first quarter of 2021, from$342 million in the same period of 2020. The decrease is primarily due to a reduction in expenses incurred in connection with our operational improvement initiatives, discussed above. 24 -------------------------------------------------------------------------------- Table of Contents Liquidity and Capital Resources Our liquidity is influenced by many factors, including the amount and timing of our revenues, our cash collections from our clients and the amount we invest in software development, acquisitions, capital expenditures, and our share repurchase and dividend programs. Our principal sources of liquidity are our cash, cash equivalents, which primarily consist of money market funds, time deposits and commercial paper with original maturities of less than 90 days, short-term investments, borrowings under our Credit Agreement and other sources of debt financing. AtMarch 31, 2021 , we had cash and cash equivalents of$998 million and short-term investments of$476 million , as compared to cash and cash equivalents of$616 million and short-term investments of$442 million atDecember 31, 2020 . We have entered into a Credit Agreement with a syndicate of lenders that provides for an unsecured$1.00 billion revolving credit loan facility, along with a letter of credit facility up to$100 million (which is a sub-facility of the$1.00 billion revolving credit loan facility). We have the ability to increase the maximum capacity to$1.20 billion at any time during the Credit Agreement's term, subject to lender participation and the satisfaction of specified conditions. The Credit Agreement expires inMay 2024 . As ofMarch 31, 2021 , we had outstanding revolving credit loans and letters of credit of$600 million and$33 million , respectively; which reduced our available borrowing capacity to$367 million under the Credit Agreement.
We have also entered into note purchase agreements pursuant to which we may issue and sell unsecured senior promissory notes to those purchasers electing to purchase. See Note (5) of the Notes for further information.
We believe that our present cash position, together with cash generated from operations, short-term investments and, as appropriate, remaining availability under our Credit Agreement and other sources of debt financing, will be sufficient to meet anticipated cash requirements for the next 12 months. The following table summarizes our cash flows in the first three months of 2021 and 2020:
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