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What is Livongo Health
The digital health area is one that has received quite a bit of attention in recent quarters. Livongo (LVGO), one of the players in the space, is a company that offers its members a rather unique set of services. Livongo was not a company I had heard of until recently. It is called a digital health company and it is hard to categorize the business more specifically than that. The company itself defines its category as one of “Applied Health Signals.” It isn’t quite a software company, or a device company, but a company that provides services for those of us who have chronic illnesses-particular diabetes and hypertension at the moment, with additional solutions for other chronic conditions being offered as part of a “whole person” strategy The Livongo solution brings together many bits and pieces of health care technology and combines it with AI to produce actionable instructions for users.
The most typical use case for Livongo at this point relates to a user registering high or low blood glucose readings. Within minutes of registering an anomalous value, members receive a call or text from a Livongo coach, essentially telling them what they need to do to remediate their problem. Livongo can be integrated with Amazon’s (AMZN) Alexa, and Alexa can tell Livongo users if they have anomalous blood sugar data but there is still human intervention, a key component of the Livongo solution.
To an extent, most people who have diabetes, or hypertension or other chronic conditions can readily know what they ought to do to manage their conditions. Most of the time, speaking from personal experience, most chronic disease patients know when their blood sugar spikes and why. But many of us-I suffer from Type 2 Diabetes and hypertension as it happens-do not do what we are supposed to do, and tend to ignore chronic conditions until they lead to specific symptoms that can be dangerous. Using Livongo, is a technique that can be used to provide patients with actionable feedback.
If you have Type 2 diabetes you will have been told that diet, exercise, managing stress levels and taking prescribed medicine are vital in managing your chronic disease-indeed you probably have been told that every time you visit the doctor. But very few patients actually manage their disease properly. Livongo’s platform is an effort, using technology, and what are called “nudges” that are highly personalized prescriptive suggestions, to improve the experience of managing the disease for users. Early results suggest that the Livongo solution can have positive results for populations of members. The company says that it nudges have delivered 40% behavior change-although I can assure readers that this writer is immune to such blandishments. Never have I let something like a Nudge deliver me from chocolate covered Graham cracker or for that matter a decent few glasses of Graham’s Tawny.
The Livongo solutions are all similar in that they involve providing members with digital, wireless devices for measuring their symptoms such as glucose meters, wireless blood pressure cuffs, scales and so forth. These devices then generate data which is used by the platform to generate “nudges” or messages telling users that they must take their medicines, or control their diet or follow a more active lifestyle. Again, speaking from personal experience, many people know what they should do-they just do not do it, regardless. Livongo mission is basically to be a way of making people do what they do not want to do by providing suggestions based on very specific data and in a digital format. But if someone were to offer me a piece of chocolate mousse cake as I write this article, it would be in my tummy faster than you can say Jack Robinson…even though I am well aware of the consequences.
Livongo’s solutions are typically billed monthly and paid for by some kind of 3rd party, whether it is the employer of a member or Medicare/Medicaid or some other 3rd party health insurer. In looking at the TAM, the company calculates that its diabetes solution has an average annual revenue of $900, while it hypertension solution has an average annual revenue of $468. The company obviously has pricing for members who use two or more solutions which turns out to be a very significant component of the total. At the moment, of the 31 million US residents with Diabetes, 208k use Livongo. There are thought to be 500k new patients diagnosed with diabetes each year. At this point, Livongo offers solutions that encompass diabetes, hypertension, prediabetes, weight management and behavioral health. CVS (NYSE:CVS) is in the process of becoming an important partner and sales front end for Livongo. The hypertension solution has recently been fully integrated into the platform and this has lead to a dramatic uptake in its usage. The company recently reported that CVS had adopted the Livongo solution for behavioral health. Behavioral health, as Livongo offers it, is about remediating the challenges of pregnancy and early parenting.
I want to make clear to readers-this is not a typical enterprise software company, and thus it is harder to handicap the probability of success of this business. That there is a need for the functionality that Livongo provides seems self-evident. That the Livongo solution can provide users with improved care is also hard to dispute. But whether patients-and here I can only look at myself and other people my age-will adapt to the prescriptive “nudges” that this technology creates is hard to say. And it is even harder to say that this is the only way or the most efficient way of accomplishing the goal. At this stage of the development of technology to manage chronic disease, there can be no absolute answer. But the market for improving the care and management of chronic diseases for which there is no real cure is enormous-the level of success needed for this to work as investment is not all that high relative to the size of the market.
I think that many readers will be aware of just how chronic patients deal with their maladies. Again, speaking with some personal experience, it is safe to say that what tends to happen is that chronic sufferers do not appropriately manage their disease. This in turn leads to complications and additional symptoms along with additional disease vectors. That then creates very expensive treatment options whose cost will be borne by employers and other organizations that are 3rd party providers of care. What has made Livongo somewhat unique is the way it develops “nudges” for its members. The technology is based on AI-indeed Livongo calls what it does AI+AI. It is this AI+AI engine, one of the key differentiators in terms of what Livongo does and how it does it. It aggregates data from multiple sources that use currently available devices that can be operated by patients, it interprets that data to provide a context and applies the data by providing users (members) with recommended therapies. The data is then iterated to build improvement based on specific data for individual payments. Simply put, it is this AI+AI paradigm that is the company’s differentiator and moat. Again, it is somewhat difficult to speculate as to whether ultimately this paradigm might be adopted by other companies looking to compete in this space, but at the moment, Livongo appears to have a significant first mover advantage.
This company has a variety of partnerships that provide it with both go-to market capacity, and which also expand how its service is delivered. The company facilitates live interactions through MDLIVE and through Doctor On Demand for its members who need acute and primary care through communication with live medical practitioners. The company has also developed other telehealth partnerships which will be marketed in this quarter and beyond. The company works with a variety of providers of clinical data such as the Abbot (ABT) Libre glucose monitor and watches such as those from Apple (OTC:APPL) and Fitbit (FIT). In the script of the recent conference call, the company’s Chief Medical Officer, Jenny Schneider said that the company’s diabetes solution can save on average, $1900/year in costs, and that the company’s success in the fully insured payer market and in government contracts relates to an ROI that is realized in 9 months or less. Again, there will be some who might challenge that ROI calculation, but it apparently resonates at this point with many 3rd party payers.
As mentioned, I had not heard of this business until recently. One of my Ticker Target subscribers asked me to evaluate this business, and despite my reservations based on personal behavior, my evaluation is a positive one. Most anything to do with health tech can sell at extravagant valuations. It is a space that has seen more promise than substance, at least at this point in time. Livongo, because of the timing of its IPO, coupled with an initial earnings report that fell short in terms of earnings, is not stratospherically valued.
At the end of the day, just like software companies, the issue here is whether there is a palpable ROI to be had for deploying the Livongo Health solution and whether there solution has substantial qualities of differentiation. As mentioned, the company has been able to quantify its ROI and has demonstrated very strong returns for its service. It also mentioned during this latest conference call that it had conducted 48 client return on investment studies with well over 90% showing positive ROI even in the first year of service. Livongo sells to 3rd party payers and employers who look at this kind of expenditure primarily based on ROI. The success this company has had thus far would seemingly indicate that its customers (the payers and the employers) have evaluated the studies and found them to be credible. I do not propose to try to evaluate the specific merits of the company’s AI+AI platform. It obviously seems to be effective in terms of creating “nudges” for program members. Is it better than someone else’s platform? Is it more extensive and is it better integrated than other such platforms? I am not going to suggest that I have completely dispositive answer. I have no tools or 3rd party consultants that are in place that can provide specific answers.
Typically, the real issue for a platform such as this is getting data from users so as to enable the company’s iterative process. The company has achieved consistently superior results in that regard because the company’s platform includes appropriate devices that measure data and are transmitted to Livongo’s data center.
The company has also been able to develop a cohort of health professionals who are available 24/7/365 to aid its clients. These factors have lead to a DBE (yes this company also calculates that metric) of 114%. There are two other parts to the competitive story. One of these is that there is apparently a cumulative impact of the “nudges” and as users become more familiar with the technology, performance improves over time. The other significant advantage at this point is the Livongo is able to offer services that address the whole person.
The market opportunity has created a number of competitors-although they are all quite tiny. I am inclined to believe that size of Livongo and its first mover advantage will be dispositive in this market. Livongo is quite a bit larger than its other competitors at this point. Its most prominent competitors include Lark, Glooko, Vitra and Omada. Of that group, Omada is the largest. It is not immediately apparent to me than any of these vendors currently deploys AI technology as part of delivering their service.
Livongo’s brief share price history
Livongo went public at the end of July 2019 at a price of $28/share-quite a bit above the expected range of $20-$23. The shares rose 38% that first day of trading. Shortly thereafter the shares peaked at $44 and then fell to as low as $15.92 at the start of October. The share price implosion was partially a function of the market at that point, which was turning away from high growth IPO’s, and partially a function of a quarterly earnings release that did not achieve some of the metrics in terms of earnings and guidance anticipated by analysts and investors.
The company has yet to pass its lock-up expiration date, but it sold a registered secondary for selling shareholders aggregating about 3 million shares at a price of $27/share in early December. These shareholders, basically part of the VC backers of the company, are locked out of selling additional shares of Livongo prior to March 9,2020.
Livongo’s recent business results and its financial disclosures
Livongo reported its fiscal Q3 results last November. The results were a substantial beat, and the company raised its guidance noticeably for its Q4-although in my view the guidance was still remarkably conservative. It is currently projecting sequential growth of around 6% for the quarter that should be reported in early March which seems highly unlikely given all that was said on the conference call. Q3 revenue grew by more than 14% sequentially and by 148% year on year. The year-on-year growth rate implicit in the current forecast is 132%. With only a couple of data points in hand, it is not entirely clear how the company sets guidance. Given the company’s business model, and how revenue flows in, I am inclined to believe that guidance is a floor based on currently committed contracts, and that business secured during the quarter will be said to be part of a beat.
The company reported a substantial improvement in adjusted EBIDTA which went from a loss of $8 million in fiscal Q2 to $3.9 million last quarter. The company saw very strong unit economics. Non-GAAP gross margins rose by a rather substantial 640 basis points to 75% sequentially. Non-GAAP operating expense grew by 5.5% sequentially last quarter while revenue rose by 14%. Last quarter saw a spike in the value of stock based comp. based on the vesting of options due to the company’s IPO. Because of the spike in stock based comp., using GAAP numbers in comparing expenses presents an inaccurate picture. As a result of this strong leverage at scale, the operating loss margin fell to around 10% in Q3, compared to 21% in the prior quarter.The guidance provided by the company was that adjusted EBITDA margins would fall back from -8.3% last quarter to a bit over -10% in the current quarter. Given the likelihood that gross margins will remain in the 75% range, it seems unlikely, in the extreme, that the company will not be able to deliver better than projected EBITDA and operating loss margins based on stronger revenue growth than has been projected.
The company, at this point, is seeing negative operating cash flow. Much of this relates to balance sheet items, particularly A/R balances which are rising rapidly as the company adds end-users at a very high rate. The contracts this company negotiates currently provide only a minimal level of deferred revenues, with revenues coming in based on monthly billings. The company obviously has to provide its users with devices before it receives revenue from providing services relating to those devices. The level of depreciation, therefore, can be expected to grow at very high rates. On the other hand, the company has had to increase it inventories very rapidly to insure supplies of its devices and the inventory balance rose strikingly last quarter.
This company has grown at prodigious rates-revenue have about quadrupled in less than 2 years. That prevents analysts, such as this writer, from trying to project seasonal trends. That said, with the data available, it would appear that revenue growth in the first calendar quarter of the year is substantially greater than other periods. In the year ago period, sequential revenue growth was actually 51%+. There were no revenue anomalies that led to that result, and revenues will have grown another 50%+ since the March 2019 quarter. I am inclined to believe, based on how guidance has been handled these 1st two quarters in which Livongo has been public, that guidance will be very conservative.
Currently the 1st Call consensus forecast is calling for 17% sequentially growth and for a decline in the dollars of sequential growth in the March quarter. I don’t think that models based on those kinds of estimates are terribly serious. There appears to be marked seasonality in terms of Q1 revenue growth based on the way this company enrolls new end-users ( I will return to that point later in this article), and there is nothing to suggest that this will not continue going forward.
The current First Call consensus for Livongo’s 2020 revenues is $277 million-and that is almost certainly significantly less than an assumption grounded on historical seasonality and the company’s conference call commentary. The company has $400 million of cash and equivalents and no debt. Current outstanding shares are near 95 million, and thus, the enterprise value is currently $2.42 billion. That yields a forward EV/S ratio of about 8.7X, very reasonable for current growth estimates. As mentioned, the company saw substantial improvements in profitability last quarter based on strong unit economics and improving gross margins.
Just how long can this company sustain triple-digit hyper growth? I do not purport to guess-that is about what it would be. Livongo says it has pioneered its very specific category; one thing about pioneers is that they are treading on ground never really seen before.
Essentially, the company sells its services to enterprises, health care insurers and government agencies who pay the cost of the individual members. Most of the new members are on-boarded in either the January or July quarter-there is a very substantial ramp for new subscribers from companies who have recently provided Livongo services as a benefit. That is why Q1 typically sees such a strong growth in sequential revenues.
This company reports a metric it calls EVA which is the expected value of the new agreements that the company has signed. This statistic is generated by looking at the potential size of the opportunity coming from new contract signings, and then using historic penetration rates. Last quarter, EVA was $86 million rising from $62 million in the year earlier period. In Q2, EVA had been $74 million, trebling from $25 million in the year earlier period. Self-evidently the EVA metric does not show a smooth quarter to quarter trend, and the company calls out seasonality with regards to contract signings. That said, on a year-to-date basis, the EVA metric has risen 111%, and it is this increase that might suggest the magnitude of likely reported future revenue growth. The company does not forecast this metric; I expect it will be of considerable interest to analysts and investors.
The company’s TAM and competition in the space
The company has used some assumptions to calculate a current TAM of $12 billion which relates to management of diabetes. Over a longer term, and using some assumptions for the penetration of solutions such as offered by Livongo into the Medicare and Medicaid population is $27 billion. And of course that is for diabetes alone-hypertension, pregnancy, pre-diabetes solutions are additive and many people with one condition have several. At this point, the company is estimating that its hypertension solution has a TAM of in excess of $18 billion. The latest TAM, as indicated earlier in this article was calculated to be $47 billion, and that did not include the potential revenues for weight loss, pre-diabetes and pregnancy solutions. I have no reason to dispute the calculation of the TAM as presented in the S-1 or the latest investor presentations and given the additional diseases to be managed, the TAM will wind up being well greater than $50 billion. The point is that the market opportunity is giant and one does not need to assume giant penetration in order to suggest that hyper growth can continue for this company well into the future. At this point, the issue really isn’t the TAM, although in the interest of completeness I always report on what the company says, but the penetration rate of the companies that wind up contracting for the solution. Currently, the company has been able to achieve a 34% sign-up rate in its enterprise customers, although clearly that has yet to be the case for customers from Medicare/Medicaid. As of the end of Q3, the company had 771 clients and had enrolled 94k new members in the 3 quarters of the 2019 year to reach 208k total members.
The Livongo go-to-market strategy
I think a lot of the future of this company will relate to the success of its go to market strategy. At the end of the day, presumably this is why it hired Zane Burke as CEO, given his record of sales achievement at Cerner. Burke has been given credit for closing some of the largest deals Cerner has seen, and is known as a professional in the space.
Livongo spent 40% of its revenues non-GAAP on sales and marketing last quarter, and that was actually a notable improvement on a year over year basis; in the prior fiscal year it had spent 57% of revenues on sales and marketing expense. The company sells most of its services through its top 5 channel partners which include Express Scripts, CVS, Health Care Services, Anthem and Highmark. These 5 channel partners represented nearly 60% of revenues in early 2019. Part of the company’s go-to-market strategy involves signing more partners for more products, such as the recently announced agreement with Blue Shield of KC and the announcement of a partnership with Health Alliance Plan. Sales cycles with the channel partners can be lengthy and sales cycles to acquire members are lengthier still and are difficult to forecast. I presume this is why the guidance the company provides is quite so conservative.
The two latest partners of size have been CVS and VSP, the latter being a vision service. At this point, those agreements are more in the nature of hunting licenses. Because of that, those most recent agreements have not been included in the EVA metric. The company implied that its relationship with CVS would broaden and involve a number of newer services wrapped around the “whole person” concept.
The company is “not slowing down the bus” with regards to the growth of its investment in sales and marketing. The company CEO, Zane Burke, a veteran of 20 years of high-visibility service at Cerner (CERN) said that the company is “really excited about what the rest of the year looks like” in terms of EVA growth. I am inclined to think, therefore, that hyper-growth for this company in all of the various sales metrics will continue unabated, at least through the current year.
Wrapping up and valuation
It is far easier for an enterprise software analyst with some significant experience in the enterprise software space, as is the case for this writer, to evaluate new enterprise software technologies than to try to look at a new category that isn’t quite software. If nothing else, there are more 3rd party consultants like Gartner, Forrester and IDC as well as a host of specialized sources who have well regarded industry consultants whose analysis is generally accessible. That is simply not the case for Livongo. Livongo has a solution that has never been available heretofore, and thus trying to quantify what a reasonable growth rate might be for this company is more of a guess than anything else.
And it is not easy for this writer to ignore what he knows on a personal level about managing chronic conditions. And while I certainly understand the economics embedded in the Livongo S1 and the investor presentation, the concept of modifying behavior through nudges to reach those behavior modification expectations is one of those things that is not the easiest thing to accept for a person of my age and habits.
I have recently written about several enterprise software companies where I understand why users are enthusiastic, and in one case why I, as a user, am enthusiastic. Collaboration, edge computing, AI technology in the edge security space are things that are easy to accept for this writer. Changing people’s diets and exercise habits…not so much for me.
But it is simply very difficult to ignore the ability this company has had to attract employers and payers, and for it to have significant success in penetrating potential users in those businesses. Delta Airlines, Citigroup, Loews, SAP, Target and the Board of Pensions of the Presbyterian Church are just a few of the enterprises that offer this technology, and pay for it, for their employees. At this point, penetration of the Fortune 500 has reached 20%-although within those enterprises, penetration is still quite low. I understand that health care costs lots of money and there is a huge desire to manage the cost of healthcare by adopting proactive data driven solutions that might encourage employees and other individuals who belong receive health benefits from 3rd party payers, to practice healthier lifestyles. The potential of this technology to help that process is undoubted and there are clearly some proof points. And the legacy solutions that exist do not work and are unlikely to work leaving this company with a great opportunity since payers are focused on managing costs, and existing technologies which do not offer AI, iterative processes, and personal counselling simply haven’t been successful.
At least in so far as I can tell, the company has a highly productive go-to-market approach and its cohorts are doing what they need to do in order to create a profitable business model.
At the moment, there is no way to value Livongo shares except by evaluating the company’s EV/S relative to its growth rate. The consensus growth rate as depicted by the First Call data is currently 69% for 2020, although that is as much of a guess as anything. Based on the data that has been presented in terms of the growth of the EVA metric, and the growth in the member population, and the cohort analysis, I think it highly unlikely that growth will wind up at such “modest” rates. There is a certain sense of fashion and inevitability in the kind of solutions being marketed by Livongo that transcend just how difficult it can be to modify the behavior of chronic disease victims toward healthier vectors. Current growth rates are running at well into triple digits and accelerated last quarter. The current consensus does not seem to have a great deal of seasonality built in. My own guess is that growth will come close to triple digits the next couple of years as this kind of technology moves from early adopters to mainstream.
The company has a typical business model projection which has a long term operating profit expectation of 20%. I have no reason to dispute the likelihood of such a result over the next several years.
Currently this company is not covered widely. First Call only lists 8 analysts who rate the shares and submit estimates. At the moment, all analysts who have reported their ratings to 1st Call are positive in their recommendations. Institutions held 65% of the shares and insiders owned 10% of the shares at the time of the last filings. The short interest is at a medium level for a name such as this with 12% of the float short as of the last reporting period. Livongo’s lock-up expiration will soon come, although some VC’s voluntarily extended the lock-up period when they sold shares in a registered secondary. My guess is that there is loads of unsatisfied institutional demand for these shares given what seems to appeal to institutions these days.
Livongo is not priced at a huge valuation compared to some other well-know high growth names. An EV/S of less than 9X is actually average for a growth rate of less than 30%. It is obvious that Livongo will grow quite a bit more rapidly than that. Based on my evaluation of the EV/S data, the business model and the desire of investors to find credible health tech investment at reasonable valuations, I consider Livongo to have attractive potential to create significant positive alpha
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.