Description
Filed with the SEC from June 21 to June 27:
Allscripts Healthcare Solutions (MDRX)
Health-care focused hedge fund Healthcor Management increased its holdings to 12,500,000 shares (7.3%) after it bought two million shares from June 6 to June 21 at prices from $10.20 to $10.95 each.
BUSINESS OVERVIEW
Overview
Allscripts is a leading provider of clinical, financial, connectivity and information solutions and related professional services that empower hospitals, physicians and post-acute organizations to deliver world-class outcomes. We deliver innovative solutions that provide physicians and other healthcare professionals with the information, insights and connectivity required to transform healthcare by improving the quality and efficiency of patient care.
We provide a variety of integrated clinical software applications for hospitals, physician practices and post-acute organizations. For hospitals and health systems these applications include our Sunrise Enterprise suite of clinical solutions, comprising a full acute care Electronic Health Record (“EHR”), integrated with financial/administrative solutions including performance management and revenue cycle/access management. Our acute care solutions include modules of the Sunrise suite that are available on a stand-alone basis, as well as additional stand-alone solutions including Emergency Department Information System (“EDIS”), care management and discharge management. Allscripts IT Outsourcing enables hospitals and physician groups to concentrate on their core mission while using IT to improve clinical, financial and operational outcomes. Allscripts Remote Hosting helps healthcare organizations manage their complex healthcare IT solutions infrastructure while freeing up the physical space, resources and costs associated with maintaining computer servers and deploying client-based applications on-site.
For physician practices of every size and kind, our solutions include: integrated EHR and practice management functionality available either via traditional on-premise delivery or via Software-as-a-Service (“SaaS”) (such solutions are also available independent of one another); revenue cycle management software and our new Revenue Cycle Management Services solution, which enables practices to outsource their full revenue cycle to us or address requirements in-house; clearinghouse services; stand-alone electronic prescribing; and document imaging solutions for physician practices. We also provide a variety of solutions for home care, hospice, skilled nursing, and other post-acute organizations; these range from a fully integrated EHR and financial management solution to Referral Management.
Clients in every care setting can leverage Allscripts mobile solutions to deliver remote access to EHR and other capabilities on a wide variety of mobile devices including iPad, iPhone, BlackBerry, Android and Windows Mobile smartphones. Additional add-on applications include our Patient Portal, Patient Kiosk, Prenatal, and Analytics solutions. Our community-based solutions for hospitals and health systems, provided in partnership with dbMotion, deliver meaningful health information exchange and enable information connectivity across entire communities of providers, regardless of which technology vendor they use, helping our clients to compete in an evolving marketplace.
We primarily derive our revenue from sales of our proprietary software and related hardware, professional services and IT outsourcing services. These sales also are the basis for our recurring service contracts for software maintenance and transaction processing services. We report our financial results utilizing three business segments: clinical solutions, hospital solutions and health solutions. Our clinical solutions segment presents the operations of our ambulatory solutions for physician practices; hospital solutions reflects the operations, subsequent to the completion of our merger with Eclipsys Corporation on August 24, 2010, of our acute care hospital solutions acquired in the merger; and health solutions reflects the operations of our acute and post-acute solutions for health systems.
Recent Developments
Completing the Eclipsys Merger
In 2011, we made progress delivering on strategic goals related to the August 24, 2010 merger with Eclipsys Corporation (the “Eclipsys Merger”), an enterprise provider of solutions and services to hospitals and clinicians (“Eclipsys”). At the time of the merger, we committed to increase new sales of Sunrise Enterprise in 2011; to execute on cross-sell opportunities within our combined client base; and to make progress integrating our ambulatory and acute product portfolio.
The combination of Allscripts and Eclipsys has produced a larger, more competitive and complete solutions provider within the healthcare information technology industry. Today we bring to market one of the most comprehensive solution offerings for healthcare organizations of every size and setting. We provide a single platform of clinical, financial, connectivity and information solutions for every segment of the acute, ambulatory and post-acute market.
Given our unique breadth of solutions and customer types, we are ideally positioned to connect physicians, other care providers and patients across all health care provider settings including hospitals, small or large physician practices, post-acute facilities, or a home care setting. We provide one of the broadest suites of applications available in healthcare, enabling our clients to connect caregivers, provide information where and when needed, and generate insights that lead to better clinical and financial outcomes. We are well-positioned to compete for opportunities among large hospitals and health systems that increasingly are looking to one information technology vendor to provide a single, end-to-end solution across all points of care.
At the same time, our unique service-oriented architecture enables hospitals and health systems to pursue a best-of-breed strategy that protects their current IT investments and applications without the added expense of the “rip and replace” strategy promoted by many acute care competitors. Moreover, our ability to field interoperable, “vendor agnostic” solutions built on an “open” IT architecture provides us a competitive edge by enabling hospitals to easily connect their IT systems with those of affiliated physicians who use systems from another vendor. Hospitals view their affiliated base of referring physicians as important clinical partners, so information connectivity with these physicians not only streamlines the referral process but also strengthens bonds with a key business constituency.
Reduction of Misys Share Ownership
On June 9, 2010, Allscripts entered into a Framework Agreement with Misys plc (“Misys”), which was subsequently amended on July 26, 2010 (as amended, the “Framework Agreement”). Pursuant to the Framework Agreement, Allscripts and Misys agreed to reduce Misys’ existing indirect ownership interest in Allscripts through a series of transactions, which we refer to as the “Coniston Transactions.” As of June 8, 2010, Misys held indirectly 80 million shares of Allscripts’ common stock, representing approximately 55% of the aggregate voting power of Allscripts’ capital stock.
A Solution for Accountable Care
Key healthcare stakeholders have proposed several solutions that fall under the general heading of Value-Driven Healthcare. The federal government’s leadership in this arena includes not only the HITECH Act but pilots for Patient Centered Medical Homes, and Accountable Care Organizations (ACOs). Each of these initiatives hinges on the need to improve transitions in care—the movement of patients from one care setting to another—still the weakest link in the healthcare chain. An interoperable, connected Electronic Health Record is a required element to improve care transitions and ensure that providers in every setting have access to the latest information on their patients. The Allscripts Connected Community of Health takes the EHR to its logical conclusion. The connected community utilizes a combination of our open technology platform, our full spectrum connectivity to ambulatory, acute and post-acute solutions, and our robust community solutions to securely share information between providers in all care settings, no matter which health IT systems they use. Not only does this facilitate seamless care coordination between providers inside their own organization, but also with affiliated physicians and other independent stakeholders outside their organization. The goal is to create a “single source of truth” about a patient—a unified community record—to deliver effective and economical care.
Breadth of Product and Service Offering
Allscripts provides one of the most comprehensive solution offerings in the industry for healthcare organizations of every size and setting. We offer a single platform of clinical, financial, connectivity and information solutions, as well as standalone best-of-breed solutions in virtually every health information management category. Moreover, we are one of the few healthcare IT companies able to provide solutions that service every healthcare setting, from solo physician practices to the largest academic medical groups, hospitals of every size and configuration, and post-acute organizations including skilled nursing facilities, homecare and hospice.
Strength of our Distribution Network and Payor Relationships
We employ a highly differentiated sales and distribution strategy to reach potential clients in all segments of the physician market, ranging from solo and small-group practices to the largest academic medical groups. Our strategy employs three sales channels—a large direct sales force, a national distribution network, and multiple hospitals that are marketing our solutions. Augmenting our direct sales force, the Allscripts Distribution Network (ADN) is composed of more than 100 leading resellers and distributors of healthcare products and services that provide our MyWay, Professional EHR and Practice Management solutions to small physician groups across the nation. The ADN significantly extends our market presence with a sales force of more than 1,500 that have existing physician relationships primarily in the one- to three-physician market, a market comprised of over 160,000 physicians.
The strength of our distribution network has enabled Allscripts to take a unique, three-pronged approach to addressing the ambulatory market one practice at a time, one community at a time, and one region at a time. One practice at a time refers to our basic selling model executed by our direct sales force. One community at a time is an approach demonstrated by multiple sales in 2011 including Children’s Hospital of Michigan, which is implementing our Enterprise EHR for their employed and affiliated physicians in Southeast Michigan and plans to use Allscripts to enable collaboration with other hospitals in the community. One region at a time is a strategy developed recently through our partnership with a large payer in North Carolina. Blue Cross and Blue Shield of North Carolina, in partnership with NC Health Information Exchange, announced in September 2011 they will provide an 85 percent subsidy for at least 750 physicians across the state to acquire Allscripts Electronic Health Records and related training and support. The program will also enable participating providers to electronically exchange patient information with other North Carolina healthcare organizations through the NC Health Information Exchange. This partnership is representative of more payers investing in healthcare IT to encourage their network providers to deliver higher quality care.
Allscripts Certified Sales Partners build stronger connected communities
By partnering with trusted, market-leading healthcare organizations, Allscripts is able to reach, serve and support thousands of smaller practices across the country in their adoption of Allscripts MyWay. The Allscripts Certified Sales Partners provide local experts and comprehensive value-added services to assist Allscripts in meeting and exceeding client expectations nationwide.
Unique and Comprehensive Connect Strategy
The Allscripts Community Solution helps local and regional health systems to share information between a range of technologies from any source, creating a single patient record for providers across the continuum of care. The Allscripts Community Solution enables all the members of a patient’s care team to access the same up-to-date information about the patient, regardless of whether they work in acute, ambulatory or post-acute settings inside or outside the health system. The Allscripts Community Solution combines the Allscripts Community Exchange with the Allscripts Community Record. The Exchange efficiently connects and manages electronic transactions of all kinds between health systems and community/affiliated physician practices. The Community Record, provided in partnership with dbMotion, aggregates and harmonizes data from virtually any EHR or other clinical IT system, creating a single patient record across a health system or community.
Sales and Marketing
We employ experienced sales executives with extensive industry expertise, and we primarily sell directly to our customers through our sales force. In addition to our direct sales force and our ADN for MyWay sales, we also have established reseller relationships with strategic partners, such as Cardinal Health, Inc., Dell, Inc., Henry Schein, Inc., Synnex and Etransmedia, with whom we also sell MyWay and Etransmedia hosting services in Costco stores nationwide. A number of our large hospital and health system clients also actively resell our solutions to other healthcare entities, primarily physician practices.
We continue efforts to expand sales of our solutions outside of North America, primarily in the Asia-Pacific region. We achieved initial success with sales of Sunrise Enterprise to SingHealth, the largest healthcare provider in Singapore; Parkway Holdings Limited, one of the largest private hospital groups in Asia; and Pantai Holdings Berhad, a 1,500-bed network of hospitals in Malaysia. As a result, approximately 70 percent of Singapore’s hospitals currently use Allscripts solutions to automate care and business processes, and our performance with our Asian clients is proving to be a catalyst to help us drive additional business across the Asia-Pacific region. For example, in December, 2011 we announced an agreement with SA Health, the public health system of South Australia, to implement our Sunrise Enterprise acute care solution across SA Health’s network of 80 hospitals and health clinics.
Services
Professional Services. We offer our clients professional services associated with the implementation of our software, the conversion and integration of their historical data into our software and systems, ongoing training and support in the use of our software, and consulting services to help clients improve their operations. Allscripts Speed to Value methodology helps our clients quickly achieve value from their investment in Allscripts solutions through accelerated software installation and systems configuration. Allscripts implementation and consulting services teams work collaboratively with clients to design and execute a project plan that is adapted to each client’s unique timelines, software dependencies, hardware and network prerequisites, workflows and operational goals.
Remote Hosting. We offer remote hosting services to help our clients manage their complex healthcare IT solutions infrastructure while freeing up physical space, resources and costs associated with maintaining computer servers and deploying client-based applications on-site. Under this offering, we assume responsibility for processing Allscripts and/or non-Allscripts applications for our clients using equipment and personnel at our facilities. Other remote services, such as remote monitoring and remote help desk, are also offered. Software installation, upgrades and patches and network configuration and repairs are handled by Allscripts IT professionals behind the scenes, so hospital IT departments can focus on more strategic initiatives.
Information Technology Outsourcing. We provide full, partial or transitional IT outsourcing services to our clients. This service allows healthcare organizations to concentrate on their core mission while leveraging Allscripts’ knowledge of healthcare processes and proven healthcare IT methodologies to build and manage an IT infrastructure that helps organizations derive value from their technology investments. We assume partial to total responsibility for a healthcare organization’s IT operations using our employees and assets. These services include facilities management, by which we assume responsibility for all aspects of client internal IT operations. These services may also include remote hosting and/or other remote services. In one or more combinations, these services help our clients to minimize the capital investment involved in staffing and maintaining its IT operations.
Research and Development
The majority of our software is based on Microsoft’s .NET Framework and other industry standards.
Our latest-generation clinical and access solutions utilize the same architecture and share the same health data repository and many other components, while being adapted for the workflows of different environments. This enables our clients to tie together their workflows and operations across the entire continuum of care. Further, our software is built upon an open architecture that supports the secure exchange of data between systems, as well as the ability to embed and present content.
Our commitment to deliver world-class products means we must continually invest in software development. In recent years we have significantly expanded our software development efforts in India, which enables us to respond more efficiently and cost effectively to changes in our software design and product development strategy.
The primary purposes of our research and development groups are to develop new features and enhancements to our respective solutions, ensure that our solutions comply with continually evolving regulatory requirements and create additional opportunities to connect our systems to the healthcare community.
MANAGEMENT DISCUSSION FROM LATEST 10K
Overview
Eclipsys Merger
On August 24, 2010, Allscripts-Misys Healthcare Solutions, Inc. (which changed its name to Allscripts Healthcare Solutions, Inc., “Allscripts” or the “Company”) completed the merger (the “Eclipsys Merger”) contemplated by an Agreement and Plan of Merger dated June 9, 2010 (“Merger Agreement”) by and among Allscripts, Arsenal Merger Corp., a wholly-owned subsidiary of Allscripts, and Eclipsys Corporation, an enterprise provider of solutions and services to hospitals and clinicians (“Eclipsys”). Eclipsys became a wholly-owned subsidiary of Allscripts as a result of the merger. The results of Eclipsys are consolidated with the results of Allscripts from August 24, 2010.
Misys Merger
On October 10, 2008, in accordance with the transactions (the “2008 Transactions”) contemplated by the Agreement and Plan of Merger dated as of March 17, 2008 by and among Misys plc (“Misys”), Allscripts Healthcare Solutions, Inc. (“legacy Allscripts”), Misys Healthcare Systems (“MHS” or “legacy MHS”) and Patriot Merger Company, LLC (“Patriot”) a reverse acquisition for accounting purposes was completed. As a result of the completion of the 2008 Transactions, MHS became a wholly-owned subsidiary of legacy Allscripts and the newly combined entity was renamed Allscripts-Misys Healthcare Solutions, Inc. The 2008 Transactions were accounted for under the purchase method of accounting for business combinations in accordance with accounting principles generally accepted in the United States. Under the purchase method of accounting, with MHS as the accounting “acquirer,” the assets and liabilities of legacy Allscripts were recorded, as of October 10, 2008, at their fair values and added to those of MHS, which are carried at their book values.
Basis of Presentation
The merger with Eclipsys has been accounted for as a purchase business combination. Under the acquisition method of accounting, the purchase price was allocated to the tangible and intangible assets acquired and liabilities assumed based on their estimated fair values as of the acquisition date. The operating results of Eclipsys are included in the accompanying consolidated statements of operations for periods subsequent to the completion of the merger, August 24, 2010.
The 2008 Transactions constitute a reverse acquisition for accounting purposes. As such, the pre-acquisition combined financial statements of MHS are treated as the historical financial statements of Allscripts. The results of operations of legacy Allscripts are included in the accompanying consolidated statements of operations for periods subsequent to the date of the completion of the 2008 Transactions, October 10, 2008.
Business Overview
Allscripts is a leading provider of clinical, financial, connectivity and information solutions and related professional services that empower hospitals, physicians and post-acute organizations to deliver world-class outcomes. We deliver innovative solutions that provide physicians and other healthcare professionals with the information, insights and connectivity required to transform healthcare by improving the quality and efficiency of patient care.
We primarily derive our revenue from sales of our proprietary software and related hardware, professional services and IT outsourcing services. These sales also are the basis for our recurring service contracts for software maintenance and transaction processing services. We currently report our financial results utilizing three business segments: clinical solutions, hospital solutions, and health solutions. The hospital solutions segment reflects the operations, subsequent to the completion of the merger, August 24, 2010, of our acute care hospital solutions acquired in the Eclipsys Merger. On March 16, 2009, we disposed of our prepackaged medications business which was previously reported as a separate operating segment.
We believe a combination of executive and legislative leadership at the federal level, industry standards, and federal incentives that exist today for “meaningful use”, e-prescribing and pay-for-quality initiatives is quickly making electronic health records as common as practice management systems in all provider offices. We believe that HITECH and other provisions provided by ARRA will continue to be the single biggest driver of healthcare IT adoption in 2012. We believe that we are well positioned in the market to take advantage of the material opportunity presented by HITECH and have seen a positive impact on new orders. We face the following other material opportunities, challenges and risks related to HITECH, which are further described below: (i) developing adequate capacity to satisfy the potential increased demand; (ii) ensuring that all of our products obtain applicable product certifications and our customers are able to achieve “meaningful use” as required by the Stimulus; (iii) taking advantage of demand trends; and (iv) positioning the Company as a provider to potential government-funded health care providers.
Management has taken steps to position the Company to have what we believe will be adequate capacity to meet the significant additional demand that could result from new orders related to HITECH. These steps include supplementing our internal direct sales force with strategic distribution partners with established sales forces focused on practices with one to five providers. Further, we have taken steps to improve the efficiency of our approach to new system installations. The Company utilizes its Speed-to-Value implementation program, which standardizes certain key processes across customer sites and decreases the number of hours required by our professional services team to enable installations of our clinical and practice management solutions. This strategy is predicated on repeatable, best practice workflows and was designed collaboratively by our services and development teams and is proprietary to the Company. The Speed-to-Value program has significantly reduced installation timeframes for our client base.
In order for our customers to qualify for HITECH funding, our products must meet various requirements for product certification under the HITECH regulations, and must enable our customers to achieve “meaningful use”, as such term is currently defined under the July 28, 2010 CMS Final Rule and under any future HITECH regulations and guidance that CMS may release. The CMS Final Rule provides for a phased approach to implementation of the “meaningful use” standards, with Stage 1 set forth in the rule and Stages 2 and 3 reserved for future rulemaking based upon the experiences with Stage 1. Given that CMS will release future regulations related to electronic health records, our industry is presented with a challenge in preparing for compliance. Similarly, our ability to achieve product certification by CCHIT and/or other regulatory bodies, and the length, if any, of additional related development and other efforts required to meet “meaningful use” standards could materially impact our ability to maximize the market opportunity. All of our market-facing EHR solutions have been certified 2011/2012 compliant by an ONC-ATCB, in accordance with the applicable provider or hospital certification criteria adopted by the Secretary of Health and Human Services. The 2011/2012 criteria support the Stage 1 “meaningful use” measures required to qualify eligible providers and hospitals for funding under HITECH. Currently, given the maturity of our products, management does not believe the incremental development effort, if any, required for our acute care and ambulatory EHRs to continue to meet the evolving “meaningful use” standards will be significant. Management has made product development a strategic focus, with gross research and development funding expected to continue to approximate 10% of revenues in the foreseeable future.
The market for acute care solutions is highly competitive. Sales cycles can occur over an extended period of time and require hospitals to secure external funding to finance their purchases of new clinical information systems. Several companies that we compete with are privately held which can provide certain advantages in capturing new client relationships. In addition, the market has increasingly moved toward adoption of integrated solutions that connect various venues of care including hospitals, physician offices, clinics, laboratories, post-acute facilities and other care delivery settings. The merger of Allscripts and Eclipsys responded to these emerging market dynamics by providing a full complement of solutions across the community of care. However other vendors may be better known or be perceived as a more integrated solutions provider currently. We have made progress on our integration plans, demonstrating the future direction for integrated solutions as well as current efforts that illustrate interoperability in common client settings. However, it will take more time and resources to finalize the product integration to meet current and evolving market demand for such solutions.
In addition, implementation of clinical systems in hospitals is a highly complex undertaking and can take longer to complete than originally planned. While we believe we have established ourselves as a leading provider of computerized physician order entry and related solutions, the complexities of individual health systems, local health care environments, native IT environments and other factors can extend implementation times and result in delays.
Management believes that to date the HITECH program has resulted in additional related new orders for all of our EHR products. Large physician groups will continue to purchase EHR technology; however, the number of very large practices who have not yet acquired such technology is decreasing. Such practices may choose to replace older EHR technology in the future as adoption increases and “meaningful use” requirements and business realities dictate updates, upgrades and additional features and functionality.
We believe small and medium size physician offices are increasingly adopting technology driven by a variety of factors including a desire to maximize federal incentive payments, align with local hospitals, consolidate with other practices and other drivers. Additionally, we have seen greater demand in small physician offices for subscription based (SaaS) arrangements as opposed to pure licensing arrangements, which reflects a motivation to reduce capital outlays. This shift to subscription from license (which is the manner in which we have traditionally sold our Professional offering) will result in recurring revenue over a longer period of time than we have achieved historically, as opposed to revenue recognized on license fees. Second, these offices typically require less time to implement and train than larger offices, so the need to plan implementations well in advance is not as acute as in larger physician organizations.
We have also seen an evolution of buying decisions toward an increase in local community-based buying activity whereby individual hospitals, health systems and integrated delivery networks are subsidizing the purchase of EHR licenses or related services for their affiliated physicians in order to leverage buying power and take advantage of the Stimulus across their employed physician base. This activity has also resulted in a “pull-through” effect where smaller practices affiliated with the community hospital are also incentivized to participate so the subsidizing health system can expand connectivity within the local provider community and optimize its referral base. This pull-through effect has resulted in new orders for our Professional EHR and our MyWay offering. Management believes that the focus on new orders driven by the HITECH program and related to EHR and community-based activity will continue to expand as physicians seek to qualify for the HITECH incentives. The associated challenge we face is to successfully position and sell our products to the hospital, health system or integrated delivery network that is subsidizing its affiliated physicians.
The vast majority of our acute care and ambulatory customers continue to be focused on achieving “meaningful use” under HITECH. As a result, in 2012 much of our professional services deployment capacity will continue to focus on helping our customers upgrade to the most current release of our EHR products that are certified as meeting “meaningful use” requirements as well as implement any additional modules required to achieve “meaningful use”. Our professional services margins could be impacted as we supplement our staff with third party resources to help meet the demand. We expect this trend to continue into the near future as HITECH Stage 2 requirements are defined and customers react to such requirements.
Although we believe that we have taken and continue to take the proper steps to take advantage of the opportunity presented by HITECH, given the effects the law is having on our customers, there can be no assurance that it will continue to result in significant new orders for us in the near term, and if it does, that we will have the capacity to meet the additional market demand in a timely fashion.
Allscripts today provides one of the most comprehensive solution offerings for healthcare organizations of every size and setting. By combining physician-office and post-acute care solutions with enterprise solutions for hospitals and health systems, the company offers a single platform of clinical, financial, connectivity and information solutions.
Given the unique breadth of our solutions portfolio and customer types, we are uniquely positioned to connect physicians, other care providers and patients across all health care provider settings including hospitals, small or large physician practices, post-acute care facilities, or in a home care setting. We are experiencing increasing success competing for net-new opportunities among community hospitals and health systems that are looking to one information technology vendor to provide a single, end-to-end solution across all points of care. We believe our leading market share in the ambulatory space, in particular, gives us a competitive advantage in this regard as hospitals and health systems increasingly seek to leverage the EHR to build referring relationships with independent physicians across the communities they serve.
Additionally, recently enacted public laws reforming the U.S. healthcare system may have an impact on our business. The Patient Protection and Affordable Care Act (H.R. 3590; Public Law 111-148) (“PPACA”) and The Health Care and Education and Reconciliation Act of 2010 (H.R. 4872) (the “Reconciliation Act”), which amends the PPACA (collectively the “Health Reform Laws”), were signed into law in March 2010. The Health Reform Laws contain various provisions which may impact the Company and the Company’s customers. Some of these provisions may have a positive impact, by expanding the use of electronic health records in certain federal programs, for example, while others, such as reductions in reimbursement for certain types of providers, may have a negative impact due to fewer available resources. Increases in fraud and abuse penalties may also adversely affect participants in the health care sector, including the Company.
Cost of revenue for Allscripts’ clinical solutions segment consists primarily of salaries, bonuses and benefits of Allscripts billable professionals, third-party software costs, hardware costs, third-party transaction processing costs, amortization of acquired proprietary technology, depreciation and amortization and other direct engagement costs. Cost of revenue for Allscripts’ hospital solutions segment and health solutions segment consists primarily of salaries, bonuses and benefits of Allscripts billable professionals, third-party software costs, hardware costs, depreciation and amortization and other direct engagement costs. Cost of revenue for the prepackaged medications segment consists primarily of the cost of the medications, cost of salaries, bonuses and benefits for repackaging personnel, shipping costs, repackaging facility costs and other costs.
Selling, general and administrative expenses consist primarily of salaries, bonuses and benefits for management and support personnel, commissions, facilities costs, depreciation and amortization, general operating expenses, product solutions management expenses and selling and marketing expenses. Selling, general and administrative expenses for each segment consist of expenses directly related to that segment. In addition, selling, general and administrative expenses include certain services performed by Misys under the Shared Services Agreement and Transition Services Agreement. Refer to Note 17 in the Notes to our Consolidated Financial Statements for information regarding expenses incurred under the two agreements.
Research and development expenses consist primarily of salaries, bonuses and benefits, third party contractor costs and other costs directly related to development of new products and upgrading and enhancing existing products.
Amortization of intangibles consists of amortization of customer relationships, trade names and other intangibles acquired under purchase accounting related business combinations.
Interest expense consists primarily of interest on our previously outstanding 3.50% Senior Convertible Debentures (the “Debentures”), interest on capital leases and interest expense on outstanding debt under credit facilities.
Interest income and other, net consists primarily of interest earned on cash and marketable securities, and realized gains on investments.
Recent Accounting Pronouncements
Refer to Note 1 in the Notes to our Consolidated Financial Statements for a description of new accounting pronouncements.
Critical Accounting Policies and Estimates
Management’s Discussion and Analysis of Financial Condition and Results of Operations discusses our consolidated financial statements, which have been prepared in accordance with generally accepted accounting principles (“GAAP”) in the United States of America. The preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Management bases its estimates and judgments on historical experience and on various other factors that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. Management believes the following critical accounting policies, among others, affect its more significant judgments and estimates used in the preparation of its consolidated financial statements.
Revenue Recognition
Revenue represents the fair value of consideration received or receivable from clients for goods and services provided by the Company. Revenue from system sales includes software and related hardware. Revenue from professional services includes implementation, training and consulting services. Revenue from maintenance includes post contract customer support and maintenance services. Revenue from transaction processing and other includes electronic data interchange (“EDI”) services, Software-as-a-Service (“SaaS”) transactions, software hosting services, and outsourcing. For some clients, we host the software applications licensed from us remotely using our own or third party servers, which saves these clients the cost of procuring and maintaining hardware and related facilities. For other clients, we offer an outsourced solution in which we assume partial to total responsibility for a healthcare organization’s information technology operations using our employees. Revenue from prepackaged medications includes the sale of medications and pharmaceutical products. Prepackaged medications revenue is only included in operating results during fiscal year 2009, as the related business was part of the 2008 Transactions in the second quarter of fiscal year 2009 and later disposed in the fourth quarter of fiscal year 2009.
Revenue from software licensing arrangements where the service element is not considered essential to the functionality of the other elements of the arrangement is recognized upon delivery of the software or as services are performed, provided persuasive evidence of an arrangement exists, fees are considered fixed or determinable, and collection of the receivable is probable. The revenue recognized for each separate element of a multiple-element software contract is based upon vendor-specific objective evidence of fair value, which is based upon the price the customer is required to pay when the element is sold separately or renewed. For arrangements in which vendor-specific objective evidence of fair value only exists for the undelivered elements, the delivered elements (software license revenues) are accounted for using the residual method.
Revenue from software licensing arrangements, where the service element is considered essential to the functionality of the other elements of the arrangement, is accounted for on an input basis under percentage of completion accounting using actual hours worked as a percentage of total expected hours required by the arrangement, provided that persuasive evidence of an arrangement exists, the fee is fixed or determinable and collection of the receivable is probable. Maintenance and support from these agreements is recognized over the term of the support agreement based on vendor-specific objective evidence of fair value of the maintenance revenue, which is based upon contractual renewal rates. For income statement presentation, consideration from agreements accounted for under percentage of completion accounting is allocated between software and services based on vendor specific evidence of our hourly services rate multiplied by the amount of hours performed with the residual amount allocated to software license fee.
Revenue from certain value-added reseller (“VAR”) relationships in which software is directly sold to VARs is recognized upon delivery of the software assuming all other revenue recognition criteria have been met. Revenue recognition is deferred until the software is delivered to the ultimate end user if the arrangement terms do not satisfy the criteria for revenue recognition upon delivery of the software to the VAR.
We also enter into multiple-element arrangements that may include a combination of various software-related and nonsoftware-related products and services. Management applies judgment to ensure appropriate accounting for multiple deliverables, including the allocation of arrangement consideration among multiple units of accounting, the determination of whether undelivered elements are essential to the functionality of delivered elements, and the timing of revenue recognition, among others. In such arrangements, we first allocate the total arrangement consideration based on a selling price hierarchy at the inception of the arrangement. The selling price for each element is based upon the following selling price hierarchy: vendor-specific objective evidence of fair value if available, third-party evidence of fair value if vendor-specific objective evidence of fair value is not available, or estimated selling price if neither vendor-specific objective evidence or third-party evidence of fair value is available (a description as to how we determine vendor-specific objective evidence of fair value, third-party evidence of fair value and estimated selling price is provided below). Upon allocation of consideration to the software elements as a whole and nonsoftware elements, we then further allocate consideration within the software group to the respective elements following higher-level, industry-specific guidance and our policies described above. After the arrangement consideration has been allocated to the elements, we account for each respective element in the arrangement as described above.
To determine the selling price in multiple-element arrangements, we establish vendor-specific objective evidence of fair value using the price charged for a deliverable when sold separately and contractual renewal rates for maintenance fees. For nonsoftware multiple element arrangements, third-party evidence of fair value is established by evaluating similar and interchangeable competitor products or services in standalone arrangements with similarly situated customers. If we are unable to determine the selling price because vendor-specific objective evidence or third-party evidence of fair value does not exist, we determine an estimated selling price by considering several external and internal factors including, but not limited to, pricing practices, margin objectives, competition, customer demand, internal costs and overall economic trends. The determination of an estimated selling price is made through consultation with and approval by our management, taking into consideration our go-to-market strategy. As our, or our competitors’, pricing and go-to-market strategies evolve, we may modify our pricing practices in the future. These events could result in changes to our determination of vendor-specific objective evidence of fair value, third-party evidence of fair value and estimated selling price. Selling prices are analyzed on an annual basis or more frequently if we experience significant changes in our selling prices.
For those arrangements where the deliverables do not qualify as separate units of accounting, revenue recognition is evaluated for the combined deliverables as a single unit of accounting and generally the recognition pattern of the final deliverable will dictate the revenue recognition pattern for the single, combined unit of accounting. Changes in circumstances and customer data may affect management’s analysis of separation criteria which may lead to an upward or downward adjustment to the amount of revenue recognized under the arrangement.
We assess whether fees are fixed or determinable at the time of sale and recognize revenues if all other revenue recognition requirements are met. Our payment arrangements with clients typically include milestone-based software license fee payments and payments based upon delivery for services and hardware.
MANAGEMENT DISCUSSION FOR LATEST QUARTER
Overview
We provide point-of-care medication management and physician decision support solutions that focus on addressing the needs of physicians, managed care payers and plans.
From our inception in 1986 through 1996, we focused almost exclusively on the sale of prepackaged medications to physicians, in particular those with a high percentage of fee-for-service patients. The advent of managed prescription benefit programs required providers to obtain reimbursement for medications dispensed from managed care organizations rather than directly from their patients. This new reimbursement methodology made it more difficult for our physician customers to dispense medications to their patient base.
In 1997, under the direction of our new executive management team, we focused our efforts on the information aspects of medication management, including the development of technology tools necessary for electronic prescribing, routing of prescription information and submission of medication claims for managed care reimbursement. In January 1998, we introduced the first version of our TouchScript product that fully incorporated these features. At the same time, we redirected our sales and marketing efforts away from our traditional fee-for- service customer base to physicians who have a large percentage of managed care patients. We recognized that there is a larger market opportunity among physicians whose patients are covered by managed care plans because the portion of prescriptions covered by managed care plans is increasing relative to the portion of fee-for-service prescriptions. Further, we believe that our technology can give us a competitive advantage where more patients' prescriptions are covered by managed care plans because our products streamline the process by which physicians, managed care organizations and patients interact. In addition, we believe that the managed care market provides us with the opportunity to realize higher margins on our software products.
We believe that managed care prescription programs will continue to cover an increasing percentage of patients in the foreseeable future. This trend will have the effect of reducing the dispensing opportunities of our traditional dispensing customers because of their inability to submit claims electronically for reimbursement by managed care payers. This reduction in dispensing opportunities will reduce the revenue that we have historically recognized from these customers. Additionally, managed care programs impose reduced reimbursement rates for the medications dispensed to their plan participants, thus providing us with a dollar margin per prescription dispensed that is lower than we have historically experienced. Because TouchScript enables physicians to submit claims electronically for reimbursement by managed care payers, a large portion of the medications dispensed by our TouchScript customers is dispensed to managed care patients. Accordingly, we expect that the fastest growing portion of our prepackaged medication business will provide margins with respect to the sale of prepackaged medications that are lower than we have historically experienced. In addition, we expect that seasonal variances in demand for our products and services will continue. Historically, all other factors aside, our sales of prepackaged medications have been highest in the fall and winter months.
In addition to medication management, we believe that there are other aspects of the physician's daily workflow that can be effectively addressed through technology-focused solutions. We have enhanced and intend to continue to enhance our current offerings by integrating new products and services that address these needs. In furtherance of this strategy, in May 2000, we acquired MasterChart, Inc., a software developer providing dictation, integration and patient record technology, and Medifor, Inc., a provider of Internet-delivered patient education. In connection with these acquisitions, we recorded goodwill and other intangible assets of approximately $160,500,000, $4,600,000 of which will be amortized over two years, and the balance of which will be amortized over five years. In 2000, we completed another acquisition that resulted in additional goodwill of approximately $10,800,000, which is being amortized over two years.
In addition, on January 8, 2001, we acquired Channelhealth Incorporated, a software developer providing modular and web-based software for physicians to access web-based content and manage clinical workflow. We recorded goodwill and intangible assets of approximately $271,000,000, approximately $91,000,000 of which will be amortized over ten years, and the balance of which will be amortized over five years. Additional stock-based consideration will be paid to the sellers of Channelhealth if certain revenue targets are achieved during 2002. Those revenue targets, if achieved, will result in the recording of additional purchase price at the time that the targets are met. We also anticipate that there will be additional cash required to fund the ongoing operations of Channelhealth.
Three Months Ended March 31, 2001 Compared to Three Months Ended March 31, 2000
Total revenue for the three months ended March 31, 2001 increased by 72.1% or $6,952,000 from $9,647,000 in 2000 to $16,599,000 in 2001. Prepackaged medication revenue increased by 47.7% or $4,062,000 from $8,501,000 in the first quarter of 2000 to $12,563,000 in the first quarter of 2001. Software and related service revenue for the three months ended March 31, 2001 increased by 252.1% or $2,890,000 from $1,146,000 in 2000 to $4,036,000 in 2001.
The increase in prepackaged medication revenue reflects an increase in the number of sites dispensing our prepackaged medications and an increase in the dispensing percentage of brand drugs, which have a higher average selling price than their generic counterparts, as well as general price inflation. The increase in software and related services revenue reflects revenue from the sale of our dictation and document management, content and clinical workflow, and patient education products resulting from the Masterchart, Medifor and Channelhealth acquisitions, as well as higher revenue from our TouchScript and physician education products.
Cost of revenue for the three months ended March 31, 2001 increased by 105.2% or $7,991,000 from $7,597,000 in 2000 to $15,588,000 in 2001 due to increased revenue from the sale of prepackaged medications, increased amortization expense of acquired software, increased depreciation expense due to the increased number of TouchScript system installations and increased cost of implementation, training, and support for all of our software. For the three months ended March 31, 2001, cost of revenue as a percentage of total revenue increased to 93.9% from 78.7% in the prior year period principally due to increased amortization expense of acquired software, increased depreciation expense due to the increased number of TouchScript system installations, a greater percentage of medication revenue coming from higher cost brand products and general price inflation of medications. This percentage increase was partially offset by a greater percentage of revenue coming from sales of higher margin software and related services.
Selling, general and administrative expenses for the three months ended March 31, 2001 increased by 66.7% or $5,962,000 from $8,945,000 in 2000 to $14,907,000 in 2001 due primarily to operating expenses related to Channelhealth, which was acquired in January 2001, additional spending for sales and sales support personnel and related expenses incurred to sell, implement and support TouchScript installations and our physician education product, additional spending for TouchScript and Internet product development personnel and related support expenses and operating expenses related to MasterChart and Medifor, which were acquired during May 2000. Selling, general and administrative expenses as a percentage of total revenue decreased to 89.8% for the three months ended March 31, 2001 from 92.7% of total revenue in the prior year period.
Amortization of intangibles for the three months ended March 31, 2001 increased $17,214,000 from $574,000 in 2000 to $17,788,000 in 2001. The increase in amortization relates to the amortization of goodwill and other intangibles recorded in acquisitions completed in May 2000 and in January 2001.
Write-off of acquired in-process research and development of $3,000,000 for the three months ended March 31, 2001 relates to the Channelhealth acquisition completed in January 2001.
Interest income for the three months ended March 31, 2001 was $1,779,000 as compared to $1,209,000 for the prior year period. The increase relates to interest earned on the investment of net proceeds from our public offering in March 2000.
Other operating income for the three months ended March 31, 2001 of $135,000 results from realized gains on marketable securities.
We have recorded a benefit for income taxes during the three months ended March 31, 2001 of $2,099,000 as it relates to the amortization of non-goodwill intangibles. No other provision or tax benefit for income taxes was computed because we currently anticipate the annual income taxes due will be minimal or zero, and we have fully reserved all of our deferred tax assets.
Liquidity and Capital Resources
At March 31, 2001, our principal sources of liquidity consisted of $49,964,000 of cash and cash equivalents and $50,886,000 of marketable securities. We issued securities for net cash proceeds totaling $102,709,000 in 1999 and $99,766,000 in 2000. We have used these capital resources to fund operating losses, working capital, capital expenditures, acquisitions and retirement of debt. At March 31, 2001, we had an accumulated deficit of $150,176,000.
Net cash used in operating activities was $11,676,000 for the three months ended March 31, 2001. Cash used in operating activities resulted from a loss from operations of $30,801,000 and depreciation and amortization of $21,217,000 primarily related to amortization expenses as a result of recent acquisitions. A non-cash charge of $3,000,000 was recorded due to the write-off of in-process research and development costs related to the Channelhealth acquisition. Deferred taxes decreased by $2,099,000 due to a tax benefit recorded as it related to the amortization of non-goodwill intangibles from acquisitions. Inventories increased by $2,033,000 in the three months ended March 31, 2001 primarily due to advance purchases of certain medications and computer equipment where shortages were expected. Prepaid expenses and other current assets decreased by $1,070,000 in the quarter ended March 31, primarily due to certain expenses related to the Channelhealth acquisition being reclassified to goodwill as part of purchase accounting. Accrued expenses and deferred revenue decreased by $601,000 in the three months ended March 31, 2001, primarily due to payment of acquisition related expenses. Accrued compensation decreased $2,157,000 in the three months ended March 31, 2001, primarily due to year end commission and incentive compensation accrued at December 31, 2000 and paid in the first quarter of 2001.
Net cash used in investing activities was $14,882,000 for the three months ended March 31, 2001. Cash used in investing activities resulted primarily from net purchases of marketable securities of $7,264,000, offset by net cash used for acquisitions of $5,076,000. In addition, capital expenditures were $2,542,000 for the three months ended March 31, 2001 as a result of expenditures for TouchScript computer systems and capital outlays to support the future growth of our business. Currently, we have no material commitments for capital expenditures, although we anticipate ongoing capital expenditures in the ordinary course of business.
Net cash provided by financing activities was $9,000 for the three months ended March 31, 2001 as a result of proceeds from the exercise of common stock options.
We believe that our existing cash, cash equivalents and marketable securities will be sufficient to meet the anticipated cash needs of our current business for the next twelve months. However, any projections of future cash needs and cash flows are subject to substantial uncertainty. We will, from time to time, consider the acquisition of, or investment in, complementary businesses, products, services and technologies, which might impact our liquidity requirements or cause us to issue additional equity or debt securities. There can be no assurance that financing will be available in the amounts or on terms acceptable to us, if at all.
Recently Issued Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("FAS") No. 133, "Accounting for Derivative Instruments and Hedging Activities." FAS 133, as amended, establishes methods of accounting for derivative financial statements and hedging activities related to those instruments as well as other hedging activities, and became effective in the first quarter of 2001. We currently do not invest in derivative investments nor do we engage in hedging activities. Our adoption of FAS No. 133 during the first quarter of 2001 does not have a material effect on our financial position or results of operations.
Safe Harbor For Forward-Looking Statements
This report and statements we or our representatives make contain forward- looking statements that involve risks and uncertainties. We develop forward- looking statements by combining currently available information with our beliefs and assumptions. These statements often contain words like believe, expect, anticipate, intend, contemplate, seek, plan, estimate or similar expressions. Forward-looking statements do not guarantee future performance. Recognize these statements for what they are and do not rely upon them as facts.
Forward-looking statements involve risks, uncertainties and assumptions, including, but not limited to, those discussed in this report. We make these statements under the protection afforded them by Section 21E of the Securities Exchange Act of 1934. Because we cannot predict all of the risks and uncertainties that may affect us, or control the ones we do predict, our actual results may be materially different from the results we express in our forward- looking statements.
For a more complete discussion of the risks, uncertainties and assumptions that may affect us, see our Annual Report on Form 10-K for the fiscal year ended December 31, 2000.
CONF CALL
Seth Frank
Thanks, Adam. Good afternoon, and thanks for joining us, everyone. With me on the call today are Glen Tullman, Allscripts' Chief Executive Officer; Bill Davis, our Chief Financial Officer; and Lee Shapiro, our President. We would like to take as many questions as possible today, so we appreciate it if you limit yourselves to one question and one follow-up.
Before we begin, I'll briefly read the Safe Harbor statement.
This presentation will contain forward-looking statements within the meaning of the federal securities laws. Statements regarding future events and developments, the company's future performance, as well as management's expectations, beliefs, intentions, plans, estimates or projections relating to the future are forward-looking statements within the meaning of these laws.
These forward-looking statements are subject to a number of risks and uncertainties, including factors outlined from time to time in our most recent transition report on Form 10-KT, our earnings announcements and other reports we file with the Securities and Exchange Commission. These are available at www.sec.gov. The company undertakes no obligation to update publicly any forward-looking statement, whether as a result of new information, future events or otherwise.
With that complete, I'd like to now turn the call over to Allscripts' CEO, Glen Tullman
Glen E. Tullman
Thanks, Seth, and welcome, everyone. I'm excited to share with you what we believe are some very strong financial and operating results for both the fourth quarter and the full year. So let's begin with a quick overview of the financial highlights.
Bookings were a record $327.4 million, up 26% from the fourth quarter of 2010. Non-GAAP revenue in the fourth quarter grew approximately 15% over the prior year, our strongest topline growth quarter of 2011. Non-GAAP earnings per share in the fourth quarter were $0.25, up 22% over the prior year. For the year, Allscripts grew EPS by 23%, a very strong result.
Allscripts also reported record operating cash flow during the fourth quarter of over $100 million. In addition, we continued to repay outstanding balances on our debt while maintaining very solid cash reserves. We're fortunate to enjoy a very significant amount of our annual cash flow, thanks in part to our large client base that provides high recurring revenue, which for the year was approximately 64%.
When you look at our accomplishments, I hope you take away 2 key points. First, we have consistently delivered on our financial commitments. In fact, we exceeded the guidance we provided in 2010 and then updated during the year. Second, we are positioned perfectly in this market, both where it is today and where it's going. Our presence in over 50,000 physician practices not only gives us word-of-mouth in bringing on new practices, but, and this is a really critical point, it is also central to any hospital CEO's strategy of connecting to affiliated physicians. Coupling our client base with a solution set that now covers all points of care, we're the only comprehensive solution available for organizations that truly want to operate across the continuum of care.
Recent developments show that the market is moving in our direction in important ways. Earlier this month, for example, UnitedHealth Group, the nation's largest insurer, announced it will be replacing its current fee-for-service payment model with a value-based plan that compensates hospitals and physicians for reaching quality benchmarks. This is not a pilot program. UnitedHealth is implementing this value-based model across its nationwide network. And they're not done. Forward-looking payers like BlueCross BlueShield of North Carolina, HighMark and Humana, who, by the way, signed a major fourth quarter agreement with us that I'll discuss in a moment, have already made similar moves. And the largest the payer of all, the U.S. Government, is moving in this direction as well. To succeed in this new world of value-based reimbursement, healthcare organizations will require systems that allow them to connect providers across the community, coordinate care and track and report quality outcomes. And that's exactly where Allscripts excels with our sophisticated acute and ambulatory analytics solutions. It is becoming more clear that healthcare continues to move away from the hospital, the most expensive setting, and into lower-cost settings of the physician's office, post-acute care facilities and the patient's home. And Allscripts is the leader in all 3. Many large payers, as well as hospitals, also continue to provide subsidies to physician practices that want to take advantage of federal stimulus dollars for Electronic Health Record adoption. More than 1/2 of physicians in the market have yet to purchase an Electronic Health Record, providing Allscripts with significant opportunities to grow.
While Bill will provide more detail on our quarterly financial performance and on our 2012 outlook in just a few minutes, I want to highlight 3 new client agreements from the fourth quarter that illustrate our success.
One good example is Ridgeview Medical Center in metropolitan Minneapolis. Ridgeview selected our Enterprise Electronic Health Record for their employed physicians and added the Allscripts Community Record to connect and exchange information with independent physician groups across the region. It helped that a number of those ambulatory groups were already using Allscripts.
Ridgeview plans to leverage the superior functionality of our Community solutions to provide their employed and affiliated physicians with a single view of the patient, independent of the setting of care or of the Electronic Health Record being used. Ridgeview illustrates how our strategy is beginning to work in the market, where connectivity, interoperability and physician practice choice trumps closed systems and the idea that a hospital can force independent referring physician practices to use the system the hospital requires.
On the other end of the spectrum, our comprehensive Sunrise solution continues to win head-to-head competition for hospitals and health systems who want an open yet fully integrated clinical system, as well as those who want a single database. During the fourth quarter, NorthCrest Medical Center in Tennessee selected Sunrise. Another fourth quarter Sunrise win was Long Island College Hospital, a 506-bed teaching hospital in New York. Long Island College Hospital is an academic affiliate of SUNY Downstate Medical Center, a longtime Sunrise client. In addition to deploying our Sunrise Acute Care solution, Long Island College Hospital will deploy our Sunrise ambulatory Electronic Health Record for their physicians, storing all of the information in a single database. They join a growing list of Allscripts clients in the New York area that includes North Shore-Long Island Jewish Health System, Memorial Sloan-Kettering Cancer Center, Hospital for Special Surgery, Bronx-Lebanon Hospital Center and Columbia- and New York-Presbyterian Hospital to name just a few of our prestigious clients. Columbia-Presbyterian, by the way, just recently went live on a Meaningful Use version of Sunrise in all 5 of their medical centers, which includes both Cornell and Columbia Universities and over 2,400 beds. And they're subsidizing our MyWay Electronic Health Record, which is designed for small to mid-sized independent practices for all of their community physicians.
As these wins indicate, we continued to expand our Sunrise client relationships in the fourth quarter and in 2011, and we're optimistic about the opportunity for more growth in 2012. Key differentiators contributing to our success include our ability to connect with affiliated physicians, who are important sources of referrals, as well as our open platform.
On the international front, the fourth quarter was significant in that we had success for our full suite of Sunrise solutions as we closed a landmark agreement with SA Health in South Australia. This agreement, finalized in December with the public health arm of the Government of South Australia, will result in the implementation of Sunrise for 80 hospitals with approximately 4,500 total beds across a broad geographic region. In effect, we will become the Connected Community of Health for the state of South Australia with over 1.6 million people served.
Moving to the ambulatory market, Allscripts continues to be the recognized leader in both mind share and market share in Electronic Health Records, practice management and our entire ambulatory portfolio. During 2011, we saw accelerated growth in purchasing of systems for mid-size and small practices. The appeal of our Electronic Health Records was confirmed through the fourth -- throughout the fourth quarter. For example, national primary care provider, Concentra, which has 1,400 providers in 320 urgent care centers and which recently became a Humana company, signed an agreement to implement our Enterprise Electronic Health Record beginning with 400 of their sites. We believe the agreement has the potential for meaningful expansion down the road.
Revenue Cycle Management also continued to provide another significant opportunity for us during the quarter, driven in part by upgrade activity associated with regulatory requirements, by new offerings from Allscripts and by our existing industry-leading portfolio. In the fourth quarter, Mammoth medical center in California selected our new RCM services offering, which gives physicians an end-to-end, integrated financial and administrative hosted solution. We expect that Revenue Cycle will be an area of strong growth in 2012.
So as you can see, we have some very strong momentum to support our growth in 2012 and beyond with a diverse and powerful portfolio of solutions that meet the evolving requirements of every sector of the market.
Now before we take your questions, I'd like to turn the call over to Bill Davis to discuss our financial highlights. Bill?
William J. Davis
Thanks, Glen. And good afternoon, everyone, and thanks again for joining our call today. Before I discuss our results, I would like to suggest that you review the GAAP and non-GAAP financial tables in today's press release and the accompanying explanations to assist you in evaluating and reconciling the financial metrics we will discuss on today's call. The press release and additional information regarding non-GAAP measures are available at investor.allscripts.com.
I want to start out by echoing Glen's remarks. We are very proud of Allscripts' financial performance for the fourth quarter of 2011, and we are equally excited about the market opportunities for Allscripts in 2012 and beyond.
Our total bookings in the fourth quarter were $327.4 million. Again, this is a record for Allscripts, representing 26% year-over-year growth.
Bookings in 2011 grew 17% to $1.051 billion for 2011, indicative of both the strong overall demand environment for healthcare IT solutions and also our competitive differentiation in the market. This figure is consistent with the total growth we expected to see in 2011 bookings as discussed on our last earnings call.
I want to provide some additional information on bookings, starting with the ambulatory. In Q4, we realized a significant sequential increase in physician or ambulatory bookings from enterprise as well as professional EHR solutions. Demand was strong among new clients as well as add-on sales to our existing clients. Ambulatory demand continues to be solid with a shift to increased buying by mid- and smaller-sized physician practices. This cycle is in the early stages, and we expect sustained purchasing activity for first-time EHR buyers in 2012 and beyond.
In addition, the inevitable adoption of ICD-10, despite the delay announced today by HHS, will likely lead to further acceleration of EHR and practice management system adoption as physicians swap out their old systems to manage the transition to a much more complex coding and reimbursement environment. I would emphasize, as we have for some time, that we see this demand curve as a rising tide with the industry enjoying multiple years of continued growth.
Within the hospital market, we saw strong demand across-the-board, including new Sunrise Clinical Manager sales as well as add-on sales into our existing client base. SA Health in Australia contributed to our bookings in the fourth quarter, one of the largest Sunrise transactions ever, and one that marks the beginning of a long-term relationship between SA Health and Allscripts.
From a mix perspective, Software-as-a-Service transactions totaled approximately $82 million or approximately 22% of fourth quarter bookings.
Let's briefly review our backlog. Allscripts ended the fourth quarter with approximately $2.85 billion in total backlog, up approximately $85 million compared with Q3. Approximately 82% of our backlog is derived from multiyear, recurring revenue sources including maintenance, subscription contracts and transaction processing fees. The recurring revenue portion of our backlog has remained consistent with the prior 3 quarters.
Our backlog breakdown is as follows. Software and related Professional Services backlog increased approximately $52 million to $524 million in total. This result reflects new client wins in both our acute and ambulatory client bases.
Subscription and SaaS backlog increased approximately $21 million to $652 million. Our SaaS backlog growth was driven by increases in subscription purchases by both ambulatory as well as acute clients.
Annual and multiyear maintenance revenue backlog increased approximately $40 million to $833 million. Our maintenance backlog growth was driven by a combination of new clients combined with annual maintenance adjustments across our installed base.
Finally, we ended the quarter with approximately $840 million of transaction and other backlog. Our transaction backlog will fluctuate quarter-to-quarter based primarily on the volume of new or expanded hosting and outsourcing agreements along with the timing of related renewals.
Turning to the P&L highlights. We continued to see consecutive quarterly growth in our non-GAAP revenue in 2011, reaching 15% in the fourth quarter when compared to the same quarter a year ago, a very strong performance. Consolidated non-GAAP revenue grew 13% in 2011. Of our total Q4 non-GAAP revenue of $389.2 million, approximately 64% was reoccurring in nature.
Highlighting revenue by line item, our system sales revenue in Q4 grew approximately 14% year-over-year. Importantly, hardware revenue was down year-over-year and quarter-over-quarter, reflecting a shift in the ambulatory market to a higher mix of smaller physician practice installations, which require smaller hardware configuration than the larger enterprise clients.
Also, keep in mind, the shift to SaaS transactions in the smaller segment of the physician market is driving additional revenue to be recognized through our transaction processing and other revenue line versus the system sales revenue line.
Non-GAAP Professional Service revenue increased 42% over the prior year fourth quarter to $71.5 million. Growth was driven by client demand across-the-board, including new system implementations and Meaningful Use upgrades. In particular, the deployment of larger volumes of professional and MyWay systems, in addition to a significant ambulatory upgrade cycle in Q4 led to the year-over-year growth.
We would anticipate a moderation in the Professional Service growth rate as we progress through 2012, reflecting a less intensive period of upgrade activity but with an increasing mix of new installations -- or new system implementations and other related work.
Maintenance revenue grew approximately 6% in the fourth quarter compared to the prior year to $110.1 million for the quarter. Our maintenance growth reflects the continued success in bookings we have seen in 2011 across our base.
It is important to reemphasize the fact that much of our maintenance revenue is subject to only 1% to 3% annual growth. So 6% overall growth reflects a meaningful amount of activation of our new clients.
Finally, non-GAAP transaction processing and other revenue grew approximately 13% in the fourth quarter to $141.6 million, reflecting the addition of new subscription or SaaS clients as well as higher revenue in our outsourcing as well as our remote hosting businesses.
Summarizing the fourth quarter gross margin performance, non-GAAP gross margins were down just slightly, 20 basis points, compared with the third quarter at 45.5%. System sales and professional service gross margins increased substantially but were offset by slightly lower maintenance and transaction processing margins. These latter 2 revenue lines constitute 65% of our non-GAAP revenue in the quarter.
The improvement in system sales and professional service gross margins were anticipated and were discussed at our third quarter earnings call. Specifically, system sales margins of 49.5% increased dramatically from 37.9% in the third quarter, reflecting again a smaller mix of hardware, as well as a smaller portion of third-party system sales.
System gross margins will vary based on mix quarter-to-quarter. But we believe that mid- to high-40% non-GAAP gross margin is indicative of the type of gross margin we can generate over time in our system sales revenue line.
Non-GAAP gross margin in our professional service organization improved to 17.1% from 15.3% in the third quarter as we continued to drive greater productivity in executing our Meaningful Use-related services and realized additional revenue capacity from new professional service team members who were added to the team. Our longer-term view continues to be that we can achieve professional service gross margins in the low- to mid-20% range over the next couple of years.
One final item to note on gross margins relates to transaction processing and other, where non-GAAP gross margin declined to 40.5% from 44.5% in the third quarter. As I mentioned earlier, the mix of outsourcing revenue from quarter-to-quarter will cause this margin number to fluctuate somewhat, and this was the primary driver for the change in the quarter.
Looking at operating expenses. Total non-GAAP operating expenses in 2011 totaled $420.1 million. This represents less than 1% increase over 2010, with a similar percentage change when comparing our fourth quarter performance to a year ago. These results are indicative of the operating leverage in our business even as we continue to invest significantly in new solutions to drive future growth while experiencing a substantial decline in capitalized software compared with the prior year.
Our ability to scale as well as our success with driving merger-related cost synergies helped improve our operating leverage. Consistent with past communications, we anticipate an incremental $10 million in annual cost synergies in 2012 and an additional $5 million in 2013.
Our gross research and development spend totaled approximately $44.6 million in the fourth quarter, an 18% increase year-over-year, representing over 11% of non-GAAP revenue. We continue to invest for growth while -- through a variety of initiatives that Glen already discussed, including product integration, new product rollouts and preparing for ICD-10, among other initiatives.
Capitalized software totaled $13.3 million or approximately 30% of gross R&D expenditures in the quarter. This is down significantly from 37% in the third quarter and 47% in the fourth quarter a year ago. This reduction is consistent with the expectations we had set out previously.
Amortization expense associated with capitalized software, totaled approximately $6.9 million, which was up $1 million over the third quarter and up $4.2 million over the fourth quarter a year ago. The increased amortization over prior periods reflect the impact of substantial capitalized R&D associated with Meaningful Use initiatives during 2010. Note that capitalized software amortization flow through our system sales cost of revenue line, impacting gross margin comparability over the prior periods.
Also note that our net capitalization rate declined to 14% in the quarter from 23% in the third quarter.
Also, we'd like you to know, when evaluating our operating margin versus the fourth quarter of 2010, that we had $4.5 million less of capitalized R&D in the fourth quarter of this year. This factor, combined with the previously mentioned $4.2 million of incremental capitalized software amortization, equates to an $8.7 million expense swing year-over-year, offsetting some of the underlying operating leverage in the business.
Allscripts' non-GAAP net income grew 23% in the fourth quarter and 21% in 2011. Non-GAAP diluted earnings per share totaled $0.25 in the fourth quarter, which equates to 22% growth. Non-GAAP EPS in 2011 equals $0.93 or 23% growth for the full year.
Now turning to our balance sheet. We ended the quarter with approximately $159.5 million in cash and marketable securities, which represents an increase of approximately $73 million from September 30. The significant increase in our cash and marketable securities balance was driven by a truly outstanding quarter on the cash flow and collections front. Allscripts' cash flow from operating activities totaled approximately $107.4 million, the best cash flow quarter in the company's history.
Free cash flow, after capital expenditures and capitalized software, totaled approximately $82 million. Reflecting strong sales and cash collections, accounts receivable was down slightly versus the September 30 balance at approximately $362.8 million, equating to days sales outstanding of approximately 84 days. This represents a 6-day decline from the last quarter. Our DSO this quarter reflects a level more indicative of our expectations for the future, although we will continue to be subject to some level of seasonality adjustments based on timing of billing for some of our annual revenue streams, most notably our maintenance streams.
Outstanding borrowings totaled $367 million at the end of the year, a $10 million reduction over the prior quarter. We repurchased approximately 80,000 shares of our common stock in the fourth quarter at an average price of $17.62 per share. In 2011, we purchased approximately 3 million shares of stock in total for approximately $51 million. As a reminder, in April of 2011, we commenced a stock repurchase program under which we may purchase up to $200 million of common stock over the 3 years. As of December 31, 2011, the total value of common stock available for repurchase under the program is approximately $149 million.
Finally, we ended the quarter with approximately 6,300 employees, which is up approximately 300 versus the end of the third quarter.
Now I'd like to provide our 2012 guidance.
We anticipate 2012 non-GAAP revenue of between $1.62 billion and $1.65 billion. This figure reflects the add-back of acquisition-related deferred revenue of approximately $2.1 million. We anticipate non-GAAP operating income of between $345 million and $355 million, which equates to an adjusted operating income margin of between 21% and 22%. This represents a range of 40 to 140 basis points of improvement over 2011, and remains consistent with our long-term view of driving operating margins to the mid-20 range over the next several years.
Non-GAAP operating income assumes the exclusion of the following noncash charges: approximately $63 million in acquisition-related amortization expense, and $48 million in stock compensation expense, both on a pretax basis. It also excludes the previously mentioned acquisition-related deferred -- I'm sorry, also includes the acquisition-related deferred revenue adjustment mentioned a few moments ago. Further, we will exclude, as we indicated previously, approximately $3 million per quarter of Eclipsys merger-related retention payments through the end of the third quarter of 2012, or approximately $9 million pretax, from our non-GAAP operating results. Please note, Q4 transaction-related expenses were approximately $3.9 million.
We also assume 2012 interest expense of approximately $16.5 million and an effective tax rate in the range of 36.5% to 37%. This equates to non-GAAP net income between $207 million and $215 million or a growth of between 15% to 20% over 2011. Non-GAAP diluted earnings per share are expected to be in the range of between $1.06 and $1.10 based on weighted average diluted shares outstanding of approximately 195 million shares.
Finally, regarding the first quarter, we anticipate, as we have seen in the past, the impact of seasonally slower first quarter. Nonetheless, we still expect bookings to grow in the mid-teens over our first quarter 2011 results.
So in summary, we are excited about our results, their quality and our outlook for 2012. We think this quarter and 2011 illustrates our execution success, and we look forward to delivering more of the same in 2012.
We have a great deal of activity planned with the financial community in the coming 6 weeks, so we look forward to seeing you at HIMSS and at conferences around the country. Thanks, as always, for your interest and attention. And now I'd like to turn the call back over to Glen for a few closing remarks
Glen E. Tullman
Thanks, Bill. To wrap up, I'll just say that I'm very pleased with our fourth quarter and 2011 operating results. We met our commitments to the market, and we continue to add clients who believe in our vision of a Connected Community of Health. I'm confident that we have the right portfolio of solutions, the right people on our growing Allscripts team and the energy to lead the way to the future in healthcare. Thanks to our clients who give us the opportunity to make a difference, to our employees for their continued commitment to delivering on our vision and to our shareholders for your continued confidence in Allscripts. With that, we'll now take your questions. Operator?
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Fund Letters
