With the growth stocks being in a slum, it is a time for value-oriented investors to go through the rampage and see if there are any potential multi-baggers to be found. We love to search in out-of-favour sectors and themes, as the margin of safety would be more prevalent.
Previously, we published our research on Teladoc which is almost 1.5 years ago, our closing thoughts were that it was in a sunrise industry with a bright outlook, but despite them falling 60% from $300 to $125, we have our reservations and preferred to stay on the sidelines. We advise you to go through our previous article so as to have a better comprehension of the issues we will be touching on in this article.
Source: Investing.com
It has since fallen by another 80%, from $125 to its current level of $25. The dramatic fall have attracted our attention and we decided to revisit it to see if there could be a change to our initial thesis of staying on the sidelines.
Growth Story of Sector Intact
Source: grandviewresearch.com
Looking at the latest statistics from Grandview Research, the growth of this telehealth sector is still at a good pace of 23% till 2030 for the US market. So we are very much in a sunrise sector and the fastest growing region will be Asia Pacific which could be the tailwind for further growth trajectory.
Revisiting Areas of Concern
We were apprehensive initially about taking up a position due to several areas of concern. So we try to reassess if there are improvements that will make it a more attractive proposition now.
Stock Based Compensation
Source: MacroTrends
There have been huge increase in stock based compensation till 2020 but with the huge price drop in recent years, the stock based compensation have also tapered off. However, at current market capitalisation of 4 billion dollars, 218 million would be close to 5% of total market capitalisation which still seems excessive based on historical comparison.
However, the trend in this metric is in the right direction which is tandem with the drop in the prices from astronomical levels.
Huge Acquisition Spree
During the irrational growth era from 2020-2022 where concept growth stocks went on a fabulous rally, Teladoc was also on a huge acquistion spree with the biggest prize being Livongo that they took over at a valuation of 18.5 billion dollars. The smart move was most of these acquistions are done using share swap, by using their rich valuations, it led to better capital management as not much debt was taken up.
But through the acquistions, they are able to build an ecosystem covering a wide spectrum of the health care sector. Therefore, it is left to the execution to make it a viable and profitable business.
That being said, in FY 2022, they registered a loss of 13.65 billion dollars where 13.4 billion dollars was due to a write off of goodwill. It literally means almost writing off the big chunk of investement in Livongo which might not be worth 18.5 billion dollars but certainly is not worthless.
This could be a kitchen sinking effort by the management so they could start on a fresh slate. It also give current book value more credibility as the exuberance valuation of yesteryears have been factored in with this write off.
Convertible and Debt
The company currently has 1.54 billion dollars of convertible and debt in their books which consist of convertibles (1 billion-Teladoc) and (550 million-Livongo). The interest is managable at less than 1.3% with the Livongo maturity being 2025 and Teladoc maturity in 2027.
In terms of dilution through the conversion of these convertibles, we are not worried as the deals are done when the valuation is sky high so the chances of conversion will be low.
Also, in terms of financial strength, they have 889 million dollars in cash and so we do not forsee any issues with the retirement of these convertibles at good financing rates.
Their net debt (debt minus cash) ratio would be 0.28 which is still not in red flag zone.
Operating Cash Flow
Given the business is not locking in a net profit since inception is definitely worrying, but given that it is in a growth sector and while on acqusitions spree that will lead to amortisation of goodwill, we would be seeing if the general business is viable by looking at their cash flow from operations.
The operating cash flow have been 190 million for both FY 2021 and FY 2022. The latest Q1 23 figure is 13 million.
Execution
The most important catalyst for a huge surge in price will be the execution of the management to bring in all the parts of the ecosystem and generate meaningful profits out of it. The telemedicine trend in our opinion is here to stay which have been given a boost of their viability with the Covid situtation.
At price to sales of 1.6, it is at a rock bottom valuation provided the business model is able to be proven profitable. Their highest price to sale recorded was at 25.
They have also launched provider-based care services for weight management and pre-diabetes.
Summing Up
Given the huge plunge in growth stocks over the past year, we revisited the investment thesis of Teladoc to see if it packs a good chance of recovery in its share price. Being trounced is an understatement, it have declined by 90% from it’s peak.
Looking through our past concerns in our earlier write up, there have been some improvements in areas such as stock based compensation and also there would be any unlikely surprises in write off in goodwill- 13.4 billion have been written off. There is currently just 1 billion left in goodwill.
Their debt level in terms of convertible is a cause for concern but it should be managable with low financing cost and with 889 million in cash. Moreover, the company have positive operating cash flows.
We are still bullish on the growth prospects for the telemedicine industry that is likely to stay for the next decade or so.
For Teladoc to realise it’s potential through a good share price recovery would hinges heavily on the management’s execution ability. They have to pull in all the parts it have in its ecosystem to make it a profitable venture for the company. They have to work on the synergies and improve the bottomline.
At current valuation, it have hugely factored in the uncertainties for the business to turn in sustainable profits, but Teladoc stock is one which is of a riskier proposition but could generate great rewards if the thesis pans out.
Disclaimer:
The content here is for informational purposes only and should NOT be taken as legal, business, tax, or investment advice. It does NOT constitute an offer or solicitation to purchase any investment or a recommendation to buy or sell a security. The content is not directed to any investor or potential investor and may not be used to evaluate or make any investment. Do note that this is not financial advice. If you are in doubt as to the action you should take, please consult your stockbroker or financial advisor.
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