Telehealth giant Teladoc Health (NYSE:TDOC) and digital chronic disease management firm Livongo Health (NASDAQ:LVGO) announced an $18.5-billion merger deal. The companies believe that the combination will create “a global leader in consumer centered virtual care.”
But looks like investors are not optimistic about the deal. TDOC shares are down 3.21%, while Livongo stock is down 2.10% over the past five-day period.
I have found this interesting thesis on Reddit while looking out for information about Teladoc-Livongo merger. According to this bullish thesis, the Teladoc-Livongo merger will disrupt the healthcare industry, which is currently built around treating diseases, by using new technology to significantly reduce overall healthcare costs, through prioritizing preventing diseases before they become serious and online direct-to-consumer treatment. This thesis used a post by Richard Chu of Saga Partners as a foundation.
Preventive care is gaining popularity. In the U.S., US lawmakers introduced a bill to encourage preventive health care. Warner and South Carolina Sen. Tim Scott have introduced the GET CARE Act, which would start a campaign to educate the public on the importance of resuming medical procedures and health screenings. The CDC says preventive care could save 100,000 lives a year, but that requires Americans to get their screenings done.
The general idea is that preventative care is much cheaper for the overall healthcare system than treatment care, as suggested by the recent shift in regulation to favor Value-Based-Care (VBS) over Fee-For-Service (FFS). And as the pandemic has accelerated the shift to online, tele-medicine will also see more rapid adoption than previously anticipated, according the thesis by investorinvestor on Reddit.
The combined entity will be a major player in the pre-medicine and tele-medicine market.
The merged entity will in general command total market share of the pre-medicine and tele-medicine sector, which means that as the heathcare sector shifts towards these two developments, “Tela-vongo” might start to have more bargaining power over existing healthcare players (hospitals and insurance companies), and be able to usurp healthcare market share.
To measure Teladoc’s financial performance, the thesis focused on ROE or ROIC. However, as Teladoc has never been profitable since listing, the thesis used RevOE (Revenue on Equity) and RevOIC (Revenue on Invested Capital) as a crude proxy for ROE/ROIC.
As we can see, RevOE and RevOIC have both hovered around the 20%-30% range for the past 5 years, which at the very least implies that their acquisitions haven’t yet been value-destructive. However, immediately post-merger the new entity’s RevOE (and RevOIC, assuming all existing debt paid off) will drop to 7%. That means, for the RevOE to return to the pre-merger level of 36%, it will have to grow revenues to $6.576B, or 5x (495%) current post-merger revenues.
The investor writes:
With the business rationale explained by Richard Chu above, I think 5x is feasible over the long-term. And that is before incorporating other bullish assumptions like scale advantages, which should improve ROE at a faster rate than RevOE. Any revenue growth beyond that would imply that the merger is value-accretive.
Meanwhile, there were some interesting comments from other Reddit users. One of the users, randomest_name, wrote that he is bullish on Livingo but slightly skeptical on Teladoc growth story.
The risk in revenue growth is whether Teladoc faces competition from EMR software developers. Those softwares are already installed in doc offices and EMR companies could very well push an API to let patients interact with the docs sidestepping Teladoc. I am a bullish on Livingo but slightly skeptical on Teladoc growth story.
Another user, audi27tt, also has a bullish viewpoint.
I think the combined entity is now trading at a $30bn valuation after the selloff. So that would be 7.5x ev / 2023 sales. Is 7.5x not a reasonable valuation for a company still growing 20%+ with an amazingly long runway given a very low penetration into an estimated $250bn TAM? I think if you were to comp to other public companies with that much growth and margin potential you would come out at a much higher valuation than that.
For retail investors, it’s always a great strategy to keep an eye on the activities of the world’s largest hedge funds. Our calculations show that both Teladoc Health, Inc (NYSE:TDOC) and Livongo Health (NASDAQ: LVGO) aren’t among the 30 most popular stocks among hedge funds. At the end of the first quarter, a total of 36 of the hedge funds tracked by us held long positions in TDOC, a change of 57% from the fourth quarter of 2019. This number increased to 44 during the second quarter. LVGO was in 17 funds’ portfolios at the end of the first quarter of 2020. The number of bullish hedge fund bets on LVGO skyrocketed to 36 during the second quarter. You can check out the list of hedge funds here.