Ladies and gentlemen, thank you for standing by. Welcome to the Omnicell Third Quarter Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers' presentation, there will be a question and answer session. To ask a question during this session, you will need to press star one on your telephone. Please be advised that today's conference is being recorded. If you require any further assistance, please press star zero. I would now like to hand the conference over to your speaker today, Peter Kuipers, Chief Financial Officer. Thank you. Please go ahead, sir.
Thank you. Good afternoon, and welcome to the Omnicell Third Quarter 2019 earnings call. Joining me today is Randall Lipps, Omnicell Founder, Chairman, President, and CEO. This call will include forward-looking statements subject to risks, uncertainties, and other factors that could cause actual results to differ materially from those expressed or implied. For a more detailed description of the risks that impact these forward-looking statements, please refer to the information in our press release today, in the Omnicell Annual Report on Form 10-K filed with the SEC on February 27th, 2019, and in other more recent reports filed with the SEC. Please be aware that you should not place undue reliance on any forward-looking statements made today. The date of this conference call is October 24th, 2019, and all forward-looking statements made on this call are based on the beliefs of Omnicell as of this date only.
Future events or simply the passage of time may cause these beliefs to change. Finally, this conference call is the property of Omnicell, Inc. Any taping, audio duplication, or rebroadcast without the express written consent of Omnicell is prohibited. Randall will provide an update on our business. After Randall's remarks, I'll recap our results for the third quarter of 2019 and our guidance for the remainder of the year. Our third quarter financial results are included in our earnings announcement, which was released earlier today and is posted in the investor relations section of our website at omnicell.com. Our prepared remarks will also be posted in the same section. Let me now turn over the call to Randall.
Good afternoon. We are pleased to share the results of another record quarter. Key financial results for the quarter include: record revenue of $229 million, up 12% from third quarter of 2018. Record non-GAAP EPS of $0.76 per share compared to $0.63 per share in the same period last year, representing a 21% increase. Non-GAAP operating margins of approximately 17%, up over 180 basis points from third quarter of 2018. The value we are creating through our autonomous pharmacy vision is being realized every day as more customers join us on our journey to revolutionize the pharmacy care delivery model. We are continuing to invest in technology to advance this vision. Our intention is for medications to be managed through a zero error, fully automated, and digitized infrastructure across the continuum of care.
The autonomous pharmacy vision integrates a comprehensive set of solutions powered by the Omnicell Cloud data platform across three key areas. Automation solutions designed to digitize and streamline workflows. Secondly, intelligence that provides actionable insights to better understand medication usage and improve pharmacy supply chain management. Third, automation of medication dispensing workflows, which includes expert services that serve as an extension of pharmacy operations. By connecting these solutions across the continuum of care, we have the opportunity to help solve for problems like prescription errors, medical waste, medication adherence, and opioid abuse. All significant industry-wide problems driving medical costs up and reducing the opportunity for better healthcare outcomes. As we have previously discussed, our business has expanded over the years from a single point solution to a platform of products and services that we are developing further in the vision of the autonomous pharmacy.
This has resulted in large deal sizes across multiple products. We believe more comprehensive, valuable, and enduring relationships with our customers. We're pleased to highlight our newest healthcare partnerships, including a 10-year renewal and expansion of the sole source agreement with Mercy. Mercy is one of the top five hospital systems serving, Arkansas, Kansas, Missouri, and Oklahoma. This will support medication management and streamline workflows across their service network through Omnicell automation and intelligence solutions in central pharmacy and patient care areas. We have also reached a renewed and expanded five-year agreement with Vizient, the world's largest group purchasing organization for our full portfolio of products, including XR2, IVX Workflow and robotics, and medication adherence solutions. Omnicell has been recognized with Vizient's Innovative Technology designation for our industry-leading solutions.
Salem Health Hospitals and Clinics, the premier healthcare provider for Oregon's Mid-Willamette Valley, has selected Omnicell Solutions at its flagship Salem Hospital. Salem Health will be implementing Omnicell XT automated dispensing systems, along with integration to the hospital's electronic health record system, to streamline workflows, improve nursing pharmacy efficiency, and help enhance patient safety. Salem will leverage closed-loop interoperability in the system to provide advanced medication tracking and diversion prevention. In the government sector, Durham VA Health Care System in North Carolina and Teague Veterans Medical Center in Central Texas have selected the Omnicell XR2 automated central pharmacy system, an important technological step toward building a fully autonomous pharmacy. IV automation also continues to gain traction in this segment, as facilities including Cincinnati VA Medical Center and the VA of L.A. are adopting our IV workflow technology.
Now I'd like to turn the call back over to Peter to discuss third-quarter financial results.
Thank you, Randall. Our third quarter 2019 revenue of $229 million was up 12% over the third quarter of 2018 and up 5% from the prior quarter. The increase in revenue was largely due to an increase in XT Series implementations, growth in annual service and maintenance revenue from a larger installed base of equipment, as well as increased Population Health Solutions revenue. As discussed in the past, our Population Health Solutions include medication synchronization, patient messaging, and other adherence solutions. The third quarter earnings per share in accordance with GAAP was $0.46, up from $0.33 per share in the third quarter of 2018. The increase in earnings per share is largely due to higher revenue in the third quarter of 2019 and achieving economies of scale over our operating expenses.
In addition to GAAP financial results, we report our results on a non-GAAP basis, which excludes stock compensation expense, amortization of intangible assets associated with acquisitions, acquisition and restructuring-related expenses, tax reform and restructuring income tax benefits and expenses, contingent gains, and amortization of debt issuance costs. We use non-GAAP financial statements in addition to GAAP financial statements because we believe it is useful for investors to understand the effects of amortization of acquisition-related costs and non-cash stock compensation expenses that are a component of our reported results, as well as one-time events and acquisition and restructuring-related expenses. A full reconciliation of our GAAP to non-GAAP results is included in our third-quarter earnings press release and is posted on our website. Third quarter 2019 non-GAAP EPS was $0.76 compared to $0.63 in the same period last year, representing a 21% increase.
Similar to the increase in our GAAP EPS, the increase in earnings per share on a non-GAAP basis is again largely due to economies of scale achieved in the context of higher revenue. Non-GAAP other expenses for the third quarter of 2019 was $0.6 million compared to $2.2 million in the third quarter of 2018. The decrease primarily relates to lower interest expense as our outstanding debt balance has decreased and interest rates have fallen. Let's now move to the balance sheet and cash flow. At September 30, 2019, our cash balance was $137 million, up from $87 million at June 30, 2019. Our outstanding funded debt was $80 million, resulting in a net cash position of $57 million. During the third quarter, we did not sell any stock under our at-the-market program.
Cash flow from operations during the third quarter and nine months ending September 30, 2019, was $56 million and $110 million, respectively, compared to $16 million and $57 million for the comparable periods last year. The increase in operating cash flows is primarily driven by increased net income and improvements in working capital. Free cash flow generated in the third quarter and nine months ended September 30, 2019, was $42 million and $63 million, respectively, compared to $2 million and $15 million for the comparable periods last year. The increase in free cash flow is primarily due to the increases in operating cash flow mentioned earlier.
Accounts receivable days sales outstanding for the third quarter were 82 days, down five days from the previous quarter and down 11 days from September 30, 2018. The decrease in DSO from last quarter and prior year is primarily due to higher sales and increased collections. Inventories as of September 30, 2019, were approximately $106 million, up $2 million from the previous quarter and up $7 million from September 30 last year. The increase is primarily driven by demand for the XT Series product line. Our headcount was 2,625 as of September 30, 2019, up 70, seven zero, from the end of the previous quarter and up 199 from the same quarter last year. The majority of the increase is from manufacturing, implementation, and service personnel needed to support our business as it continues to expand. We expect this hiring trend to continue as we grow the business.
Let's now move to guidance. The specific guidance for the fourth quarter of 2019 is as follows. We expect total revenue to be between $240 and $246 million. We expect product revenue to be between $181 and $186 million. We expect service revenue to be between $59 and $60 million, and we expect non-GAAP EPS to be between $0.75 and $0.80 per share. Now, moving to our full year 2019 guidance. We expect 2019 product bookings to be between $765 and $790 million. This is unchanged from our previous guidance. We are narrowing our guidance range for 2019 total revenue. We now expect 2019 total revenue to be between $889 and $895 million. The midpoint of our updated and narrowed revenue guidance applies approximately 13% year-over-year growth from our full year 2018 total revenue. This revenue guidance breaks down as follows.
We now expect 2019 product revenue to be between $653 million and $658 million. Our previous guidance range was $653 and $663 million. We now expect 2019 service revenue to be between $236 and $237 million. Our previous guidance range was $233 to $237 million. We are increasing and narrowing our total year 2019 non-GAAP EPS guidance. We now expect 2019 non-GAAP EPS to be between $2.79 and $2.84 per share. Our previous 2019 non-GAAP EPS guidance was between $2.65 per share and $2.82 per share. The midpoint of our new and updated non-GAAP EPS guidance implies approximately 35% growth year-over-year. For 2019, we're now assuming an average tax rate of 9% in our non-GAAP EPS guidance range. Using the midpoints of the provided ranges, we expect non-GAAP operating margins for the full year to be slightly above 15%.
As Randall mentioned, we're pleased with the results for the third quarter of 2019, and we look forward to continuing to deliver profitable results in the fourth quarter. Before we turn to the Q&A portion of today's call, I want to touch briefly on an informal inquiry that we received from the SEC following the report from self-proclaimed short seller GlassHouse that was issued in July. Such inquiries are not uncommon following reports like the one GlassHouse issued. We have responded and are fully cooperating with the SEC. We remain consistent in our July 15, 2019, response to the GlassHouse report. With that, the purpose of today's call is to discuss our third quarter earnings, and we ask that you keep questions focused on our results. Now we would like to open the call for your questions. First question, please.
As a reminder, to ask a question, you'll need to press star one on your telephone. To withdraw your question, press the pound key. Please stand by while we compile the Q&A roster. Your first question is from Matt Hewitt with Craig-Hallum.
Hey, Matt.
Good afternoon. Thank you for taking the questions. Can you hear me okay?
Yeah, we can hear you. Yeah.
Yeah. Go ahead.
Okay, good. All right. First off, revenues, particularly product revenues, came in a little bit light of my expectations, Street expectations. I'm just wondering if there was anything timing related or maybe if you could provide a little bit of color on how these orders are kind of flowing through.
Yeah
strength in your bookings.
Yeah. Bookings are strong. Backlog is very healthy and strong. Yeah, we're slightly below the midpoint of the provided guidance range. We had some headwinds from an FX perspective internationally. There is a little bit of timing delay in the U.K., from a Brexit influence as well, and a tiny bit in the Middle East from the geopolitical developments there. If we wouldn't have those three factors, then we would have been at the higher end, and exceeding the product guidance range, if you will.
Okay. That's great. Thank you. Shifting gears to the gross margins. Product gross margin, a very strong quarter. I think it might be a record there on the gross margin. Meanwhile, service and other gross margin has kind of been ticking down a little bit. Where do you see those two moving over the near to midterm? Can gross margins continue to expand as you add more and more software, or does that fall under the service? If so, then why wouldn't that one be ticking up? Thank you.
Yeah. For gross margin, we have a favorable product and customer mix in the third quarter. We do expect gross margins to continue to increase over time, with the caveat that typically, the first quarter is a lower quarter in revenue, if you will, and then we build up during the year. There's definitely a little bit of volume leverage as well in the third quarter, and expected in the fourth quarter also. For service margins, we did mention the strength in Population Health Solutions. That comes typically at a tiny bit lower margin compared to the more traditional service revenue that we have. We're also investing in professional services for implementations as we go forward.
A little bit of mix on service, and then we're investing also in professional services, and then we're ramping up the installation implementations of the newer products. As they are at lower scale versus the core products, if you will, that makes the percentage a little bit down on the service gross margin line.
Got it. All right. Thank you very much.
Thank you.
Your next question is from Mike Ott with Oppenheimer.
Good afternoon. Thanks for taking my question.
Yeah.
Peter, you mentioned I think that some of the rev strength growth in the quarter was due to the Population Health Solutions. Just curious if you'd call out strength in any particular Pop Health Solutions?
Really across the board. We went live with a larger program, if you will, that was nationwide, that had some really good enrollment. That's driving the majority of it.
Okay, thanks. Also you said some nice government deal flow in the quarter.
Yeah.
Is that fairly typical for the three Q? How does this compare to past years? I realize the government.
Yeah
fiscal year ends here at nine thirty.
Yeah. Third quarter typically is the higher quarter for government business. It's the highest quarter likely for government business in the year. That's for bookings, right? We're very pleased to see that also the government is adopting components of the autonomous pharmacy, like the XR2 Central Pharmacy Robot and IV automation. You're right. The third quarter is, for most government organizations that we serve and partner with, kind of a fiscal year-end for them. We do expect some more business also in the fourth quarter from government.
Great. Thanks very much.
Yeah. Thank you.
As a reminder, ladies and gentlemen, that is star one if you have a question at this time. We do have a question in queue from Matthew Hewitt with Craig-Hallum.
A couple more here. Adjusted operating margin, obviously a very strong quarter and above your typical 15%. I think you've kind of talked about that at the back half of the year coming in north of that 15% historical target. I'm not trying to put you on the spot here, but you've got Q1. You just explained that typically you do see some deleveraging there from a margin perspective. How should we be thinking about this, given the strength that you're seeing from a bookings perspective, which should translate into revenues? You're seeing leverage in other areas of the business. Is 15% still the appropriate number?
We think for now it is. We do see strength year over year. That is absolutely correct. We do have continued investments in the autonomous pharmacy and some of the products that we already mentioned, and we're building up the new products as well. We're investing in services from a professional services perspective. For now, that is the total year longer-term framework. We're looking at potentially updating it in the not-too-distant future, but for now it's 15%.
Okay. Another question regarding DSOs. You've shown steady improvement the last couple of quarters, bringing that number down. Do you have an internal range or target that you're shooting for? Maybe how close are we to getting there?
We're definitely reducing the accounts receivable balances, if you will. I think we went over the drivers compared to other med tech companies on prior calls as well. We do not have a formal DSO target. The DSO is purely a mathematical calculation of the gross AR balance over revenue in the quarter. The one part that is very difficult to estimate is really the shipments in the last couple of weeks of a quarter, because they are mostly for installs and revenue in the following quarter. That piece makes it really difficult to estimate. We do have internal cash collection targets by month, if you will, for the teams. We're definitely driving those very hard, and we see some really good results.
Okay. One last one for me. Regarding Mercy, as you mentioned, top five health system. By my math, that's an extremely large contract, 10 years. The last sole source agreement you signed with them, I believe, was back in 2003. This is consistent with that longer-term partnership that you've previously had. As we think about this, I would assume that they're upgrading the XT cabinets. They're adding XR2. How will those kind of layer into revenues? I would assume that, or should think that they would be more front-end loaded in this 10-year sole source agreement, but maybe walk us through how these longer-term agreements kind of layer on over their term. Thank you.
Yeah, I'll take that question if you don't mind. These big customers who have been our customer for a long time really have to look at the redeployment of the newer technologies and really redesign it from the ground up, not just replace what they have, but how do you get much more out of the technologies and with the coordinated connection between the pieces. So, as we build out the design of that, over the next couple of years, Generally, you start with the oldest equipment, and since they're an older customer, they have quite a bit of equipment that's aged. The newer equipment, of course, since they run the same initial software technology that we run today, they don't have to replace it quite as quickly.
The key is that we're able to deploy a total solution set that really gets to some of these pharmacy issues that have not been able to be addressed without sort of a total comprehensive view. Just from a rollout standpoint, I would think that Mercy has a lot of systems which have been our customer for a long time, so they probably need to have some of those systems replaced sooner than later.
Understood. Thank you very much.
Thank you, Matt.
Your next question is from Mitra Ramgopal with Sidoti.
Hi, Mitra.
Yeah, good afternoon. Hi. Just a couple of questions. I noticed SG&A coming in as a % of revenue the last couple of quarters, and I know early on you were scaling up headcount a little. I was just wondering where you are on that front.
Yeah. We enjoy a little bit of leverage here in the third quarter, fourth quarter. We are growing, looking at backlog and bookings momentum and pipeline momentum. We continue to scale SG&A as we're hiring, like we expect to do in the fourth quarter as well. We expect to go up in SG&A cost as well.
Okay. Again, I know you have another.
As you know, in the fourth quarter, we do have a number of the bigger pharmacy and health conferences that also add cost to the fourth quarter as compared to other quarters.
Okay. Thanks for mentioning that.
Yeah.
I know you've obviously announced some nice wins recently, especially obviously in the U.S. I was just wondering, outside the U.S. now, if you're seeing any change in the business environment there?
Yeah, like we said for an earlier question, we do see some headwinds from a FX perspective on the British pound and the euro. We do see some delays from the NHS capital spending, if you will, in the U.K. We think that's merely a delay. It's mostly related, we believe, to Brexit. In the Middle East, you do have a little bit of the geopolitical impact on ordering patterns as well. We think that's mostly delays as well. No, we have a number of wins as well internationally. We do see the ADC adoptions in part of Asia also picking up, specifically in Hong Kong and in Australia, where we have some nice wins, if you will.
We've got some good momentum there, but probably a little bit lower in the third quarter than we expected it to be as we went into the quarter.
Okay, thanks. Finally, I know the tax rate obviously came in quite a bit in the third quarter. How should we be thinking about that going forward?
Yeah, the guidance for the full year, right, for 9% blended rate. The fluctuations there are really kind of depending on the benefit of the stock option exercises. That's why it ticked up a tiny bit. In that range, it's probably fair for you to assume in future years. However, you got to make sure that you calculate the incremental profit at the federal U.S. rate of 21%. Right? That's not going to stay at that low of a rate. The incremental dollars, you need to really tax effect at about 21%.
Right. Okay, thanks. Finally, Randy, I know early on you mentioned a lot of things that you see you could be making a difference on, things like the opioid crisis, et cetera. I was just wondering if you're already having conversations regarding any specific things you could be doing in terms of working with your existing customer base?
Yeah, I think that there's a whole new set of regulations and, I guess, scrutiny around opioid management in every healthcare institution. We have solution sets now, and we are putting time and energy to advancing those to even more the next level. The scrutiny is, this is one of the areas that pharmacies have struggled a little bit on and now are just behind the game because it's become such an important piece of executing a pharmacy well, because people do need the opioids, but you got to make sure no one else is diverting them. It's become mission-critical like it's never been before. Big opportunity for us, and it's already a great product line that we have, but more to come. Okay. Thanks again for taking the questions.
You bet. Thank you.
Your next question comes from Bill Sutherland with Benchmark.
Hey, Bill.
Thanks. Hey, everybody. That Vizient deal, can you give us some color on that? Is that more of a partnering situation, or how's that going to work?
Well, Vizient has always been a GPO that we've worked with over the years, for many years. Probably the new part of the Vizient deal is really, they only had our core products and not the whole expansion line. We were able, in this round, to expand the product line to include IV workflow and robotics, the XR2 new product lines. That's really important because you want those product lines to be presented as a package, not as, well, Vizient's kind of supportive of this, but not of that. That's important for us to have a good relationship with them and because their members really look for their blessing on these things. Vizient doesn't buy the product directly, of course, but it's important, and I think that was important enough for us to mention it.
Okay.
They've always been a great partner of ours.
Yep. You probably don't want to give a percentage, but are you in the majority of their hospitals, or is it?
I would say whatever our market share is probably the same market share that we're in their hospital. We're probably at about half.
of their members. Maybe a little more if they represent the larger groups.
Okay. I'm curious, just in a general sense on the operating margins, as I think you've talked about this before, but I just want to see as you get more experience with these larger multi-year platform sales. Should that be generally a lift for your operating margins?
Larger scale always gives economies of scale as well, unless, however, what we said on an earlier question there's quite a bit of investment to go to really bring the vision of autonomous pharmacy to life. Randy talked about some of the areas that are cumbersome for pharmacists now and are big issues like opioids. If you step back and look at pharmacy, specifically hospital pharmacy, if you are the leader of pharmacy in a hospital, you need to manage about 4,000 different SKUs that you need to have full visibility on. That's not the case today. There's a big gap there. Medication waste cost is between 5% and 7% of annual medication costs for health systems. Visibility is limited because a lot of the automation is only implemented at the points of care in the OR and the ER.
There is a lot of technology needs and growth to be had. We do believe that there's quite a bit of investment for us to make to really help the industry to get to the next level.
Yeah. I'd just add to that, our emerging products are growing really nicely. They're growing at a nice rate. They're relatively still small, it's hard to get the scale on those until they get larger.
Yeah.
The uptake and the orders are nice, and I think it just confirms our story of a broader product line and platform that people really want to drive all their medications through, not just some of those.
Got it. Thank you both.
Thanks, Bill.
Your final question comes from Gene Mannheimer with Dougherty.
Hey, Gene.
Good afternoon. Thanks.
Hey.
Good job on the record results. I had just two things. You talked about some major expansions in the quarter, certainly Mercy is a very good one. How should we be thinking about net new wins these days? Do you still view yourselves as net share gainers in the market? My other question relates to the term I heard, SEC inquiry. Just trying to understand if you could expound on maybe what areas they're looking into and where the concerns are. Thanks.
From a market share perspective, we've always measured this, as you recall, in relative share of bed count in the U.S. We do believe also this year that we have gained further market share, if you will, at a fairly consistent rate. We were clicking away and taking away about 100 basis points to 150 basis points of share. We believe that that is continuing this year as well. On the voluntary informal SEC inquiry, we can't really comment on the areas, but they're generally in line. We would, say, refer back to the self-proclaimed short seller report. There's nothing to report.
Okay. Very good. Thanks.
Thanks, Gene.
Yeah.
There are no further questions at this time. Mr. Randall Lipps, let's hear closing remarks, please.
Well, thanks for joining us today. I think as we continue to see the autonomous pharmacy as something that the industry is really hoping for to help change the continuum of care and the way medication management is done. It's very exciting. At our next mid-year ASHP, the American Society of Health-System Pharmacists in December, we'll be talking about more about our roadmap and how the autonomous pharmacy is going to be rolled out to really address some of these big pain points, to really change the way medication management is looked at and executed upon. I hope you can join us there. Thanks again to the Omnicell team, who have, once again, continued to perform well in the marketplace and really out to improve healthcare for everyone. Thank you very much. We'll see you guys next time.
Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.