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Interactive Buyside Equity Research

January 30th, 2014

VOCERA COMMUNICATIONS Thesis Overview


VCRA provides a unique solution in the healthcare communications industry, and has a leading position in this developing market. The stock underperformed significantly in 2013 (declining 37% YTD vs. the S&P 500 up 29%) due to several factorssome internal, some externalthat negatively impacted revenue growth. These factors should either stabilize or improve in 2014, which should put the company on a path to accelerating top line growth, allow the stock to return to more typical valuations. While VCRA has recovered some of late, there's meaningful upside from current levels in 2014.

Stock Rating Catalyst Category Price Target Price (1/30/2014): $17.30 Upside/(Downside): 39% Ticker: VCRA Exchange: NYSE Industry: Healthcare Technology Trading Stats ($USD millions) Market Cap: $430 Enterprise Value: $301 Price / Book: 3.53x PEG Ratio: N/A Dividend Yield: 0.0% EV / 2013E Sales: 2.93x EV / 2014E Sales: 2.48x EV / 2013E EBITDA: N/A EV / 2014E EBITDA: 17.7x

BUY 12 MONTHS $24.00

Source: Company filings, Wall Street Consensus

Price Performance 52 Week range: $11.99 - $29.47 Analyst Details IB Username: HCJK1718 Employer: Private Fund Job Title: Analyst Analyst Disclosure VCRA Position Held: Yes

Interactive Buyside Equity Research


January 30th, 2014

Company Overview
VCRA holds a leadership position in the healthcare communication solutions market, where it provides secure, integrated, intelligent communications that improve patient care, safety and satisfaction. VCRA solutions create efficiencies in clinical settings such as the emergency room, operating room and inpatient care floors that can increase hospital revenue opportunities and improve staff satisfaction and effectiveness. Communication solutions are of increasing importance to healthcare providers as reimbursement incentives shift from quantity to quality, and as capacity utilization in the healthcare system increases (i.e. increasing medical coverage despite the same number of providers). VCRA generates revenue by selling communication devices (badges), maintenance and support services, other professional services and software. Given the unique characteristics of the badges and software platform, the company's gross margins currently operate at a healthy 65%, and may ultimately move into the mid-70% range. The company has placed an emphasis on investing in the business for top line growth, so EBITDA margins, which are currently minimal, do not reflect the long-term potential of the company. Over time, the business model supports EBITDA margins in the 20% range. VCRA Revenue Composition

10%
Device 17% 47%

Maintenance & Support


Software Services & Training

26%

Market Overview
There are approximately 7,000 hospitals located in the US, of which VCRA has contracts with just over 700, implying roughly a 10% market share of potential hospital contracts. Importantly, VCRA's suite of products across both devices and software give it cross-selling opportunity within the existing footprint. As its product line is not fully penetrated within its existing client base, its total revenue opportunity is materially larger than what is implied by its contract footprint. Per some Street estimates, VCRAs total addressable market in US healthcare is roughly $6 billion, implying just a 2% share of total revenue opportunity.

Interactive Buyside Equity Research


January 30th, 2014

VCRA Market Share by Domestic Hospital

VCRA Share of Total Revenue Opportunity

2%

10% VCRA footprint Non-VCRA hospitals 90%

VCRA Share

98%

Remaining Addressable Market

Apart from domestic operations, VCRA has another 100 hospital contracts internationally, where the company is currently building out its footprint in regions such as Singapore and Malaysia. Finally, the company is still in the early stages of developing its non-healthcare business, and has recently signed contracts with Duke Energy to cover three of its nuclear power plants. In this past quarter, non-healthcare bookings set an all-time record, suggesting improving adoption rates. While the competitive environment does feature other communications vendors, including those focused on secure texting platforms, VCRA is most often not competing against any third party vendor whatsoever. Rather, the most common competitor is the hospitals own home-grown system, which can often be bulky, arcane or even non-existent. The biggest challenge for VCRA is not proving that is superior to other products; rather it is convincing hospital CIOs that their solutions generate sufficient ROI to make the investment worthwhile.

Overview of Catalysts / Key Value Drivers


2013 Review and 2014 Outlook
VCRAs revenue growth in 2013 suffered from a combination of macro and micro factors. Ultimately, it can be boiled down to three main issues: implementation delays from several government contracts, a challenging hospital spending environment, and an internally-driven realignment of the sales force. The issues with government contract delays should truly be a non-recurring item in 2014 as VCRA has already had success winning new government business. In fact, 3Q was the largest government bookings quarter in company history. Other issues should be addressable as well. In terms of hospital spending, several Street estimates have pointed to modest increases in hospital capex in 2014. However, with Meaningful Use Stage 1 and ICD-10 investments mostly complete, and deadlines for Meaningful Use Stages 2 and 3 recently delayed, communications solutions should find themselves in a higher priority within the IT portion of the hospital budgets. Additionally, while management has maintained a conservative stance towards end market demand, hospitals arguably have greater regulatory and operational visibility heading into 2014 vs. 2013. VCRA should also be able to take advantage of an upgrade cycle, as the latest and greatest device, the B300 badge, was recently released. Per recent comments from management, the penetration of the B3000 badge is roughly 25%. At more than $400 per badge, the incremental revenue opportunity from this upgrade cycle is almost $130M, which would effectively double VCRA's existing revenue base alone.

Interactive Buyside Equity Research


January 30th, 2014

B3000 Upgrade Opportunity

200 180 160 140

120 100
80 60 40 20

0
Badges (% of total) Revenue ($, millions)

Other Badges

B3000 Badges

Finally, the sales force disruption was apparent in early 2013, as the companys internal restructuring, along with the factors mentioned above, resulted in significantly lower sales productivity. The company generated slightly less than $1.9M in sales per sales rep in 2012, up 8% Y/Y. In 2013, total revenue will grow only modestly Y/Y, despite growing the sales reps headcount by roughly 26%, implying a 20% reduction in sales per rep. While some of that is undoubtedly the difficult underlying environment, capex budgets have not been nearly as volatile. In fact, over the past several years, 2013 was the first year sales productivity declined Y/Y, suggesting a more stable structure in 2014 should be a tailwind. Simply applying the sales productivity from 2013 to the current sales rep base would generate 2014 revenue of roughly $130 million, well above current consensus $117 million.

Catalysts
As the company does not tend to make a splash with new contract signings, the biggest (and seemingly only) catalysts are quarterly earnings reports. VCRA will provide initial 2014 guidance on its 4Q13 earnings call in February. Consensus is currently looking for roughly $117M in revenue, implying 15% growth over 2013. With short interest still more than 9% of the float, there appears to be a reasonable amount of uncertainty heading into the report. As such, a guidance range that merely approximates consensus should be viewed as good enough, as management has signaled its intent to take a conservative approach to guidance given the underperformance in the stock in 2013.

Valuation
Both the company and industry are in its early stages, and VCRA will continue to invest for growth for the foreseeable future. As such, an EV/Sales multiple is the most appropriate metric to evaluate. Based on below average growth expectations in 2014 and a reasonable path to multi-year growth trajectory of 20% or more, its reasonable to think VCRAs multiple should recover to its 3-year historical averages of 4x. Using a 2014 sales estimate of $121.2 million implies a valuation of $24/share. Alternatively, a DCF model that considers the long-term growth potential of this market along with margin upside potential over time can argue for at least mid-$20s valuation.

Interactive Buyside Equity Research


January 30th, 2014

Financial Overview
Income Statement Product revenue Service revenue Total revenues COGS Gross profit
Margin (%)

2012A $65.0 $35.9 $101.0 $36.6 $64.9


64.2%

2013E $62.5 $40.2 $102.7 $37.5 $65.2


63.5%

Consensus

Variance

$102.4 $37.7 $64.6


63.1%

0.3%

2014E $73.8 $47.4 $121.2 $42.4 $78.8


65.0%

Consensus

Variance

$117.2 $41.7 $75.5


64.5%

3.4%

2015E $92.2 $56.9 $149.1 $49.1 $100.1


67.1%

Consensus

Variance

$138.8 $46.3 $92.5


66.7%

7.4%

0.9%
36 bps

4.3%
55 bps

8.1%
45 bps

Total Opex Operating Profit (loss)


Margin (%)

$59.4 $4.9
4.8%

$65.6 ($0.4)
-0.4%

$66.2 ($1.6)
-1.6%

-72.4%
113 bps

$71.8 $7.0
5.7%

$71.7 $3.9
3.3%

79.7%
244 bps

$85.1 $14.9
10.0%

$81.6 $11.0
7.9%

36.0%
211 bps

Net Income (loss)


Margin (%)

$2.9
2.9%

($0.4)
-0.4%

($1.6)
-1.6%

$6.4
5.3%

$4.6
3.9%

$8.9
6.0%

$6.0
4.3%

Diluted shares outstanding Diluted EPS

19.91 $0.1

24.7 ($0.02)

($0.07)

28.0 $0.23

$0.20

29.0 $0.31

$0.22

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