Description

At current levels, we believe eHealth (NASDAQ:EHTH) represents a highly attractive investment – very strong downside protection and huge upside potential.

The summary points of our thesis are:

-        EHTH stock is down >50% over the last few months because of elevated member Medicare Advantage (the Company’s most important product) attrition.

-        Even at elevated attrition and depressed unit economics the stock is cheap and there are many strategic and financial buyers for EHTH.

-        Management has a lot of levers to reduce attrition and drive unit economics higher, resulting in a stock price 100%-200%+ above current levels.

-        If management executes on its multi-year plan, the stock can rise 10x.

This write-up will provide the key points of the investment thesis, but we are happy to provide additional background and detail in the Q&A.

Current Situation:

EHTH stock as declined 50% over the last few months, massively underperforming the equity markets.

The primary issue that has weighed on shares is elevated attrition for EHTH’s Medicare Advantage members.

This attrition issue first appeared in the Company’s number in 2019 and became a frequent topic on conference calls and in sell-side analyst notes. The matter was brought to the forefront in April 2020 when Muddy Waters published a short report on EHTH (https://www.muddywatersresearch.com/research/ehth/mw-is-short-ehealth/).

The Company’s 2Q20 results showed significantly elevated MA attrition and, as a result, MA LTVs were reduced by approximately 8% (sequentially).  The stock plummeted.

We’ll note that while EHTH provides a fair amount of data related to attrition and member duration, our conclusions are ultimately directional because the Company does not provide clean quarterly cohorts.

Prior to 2Q20, EHTH presented the following slide to illustrative its MA attrition curve. (Note that the percentiles represent attrition as a percentage of original members (lost in the current period) and not a percentage of the remaining members):

Using the attrition curve from the slide above, we calculate MA member LTV of $1,042, in line with reported 4Q19 MA LTV of $1,050. (Note that we made certain simplifying assumptions around year one and future year commissions and when in the year a customer attrites):

Using the provided attrition curve, we can arrive at roughly the current member count reported in the Company’s financials, giving us confidence that through the end of 2019 attrition levels were consistent:

The 2Q20 numbers, however, showed significantly higher churn in the first-year cohort. The Company attributed the elevated churn to a combination of regulatory changes, business process changes, product changes, and competitive dynamics. The Company provided the slide below, highlighting that LTM churn increased from 35% in 2Q19 to 42% in 2Q20:

The increased LTM churn implies that year one churn increased from 36% to 45%. Using 45% first year churn in our LTV model and keeping the out years constant results in an LTV of $925 vs. the previously referenced $1,042. EHTH reported MA LTV of $945 for 2Q20.

EHTH believes they can meaningfully reduce attrition and reduce variable costs, thereby improving LTVs. Specific initiatives include:

-          Customer care and enrollment center to better capture customer data.

-          Dedicated customer retention team.

-          Mix-shift to internal vs. external call center agents.

-          Agent commissions tied to retention and not just sale.

-          Movement away from zero premium plans (which are easier to sell and harder to retain).

-          Change in marketing channel mix.

In its 2Q slide deck, EHTH provided an LTV bridge to 2021 that assumes 400bps of retention improvement (telephonic sales process and customer engagement).  That would represent an attrition rate in between where they were and where they are currently.  The Company also cites additional levers to improve MA LTVs:

Variable customer acquisition costs are approximately $650 per member. Accordingly, even at meaningfully elevated churn levels, EHTH still generates robust unit economics of approximately $300 per member. For illustrative purposes, at 50% first year attrition, customer LTV would be ≈$860, yielding $210 unit profit per member. [Additionally, the Medicare segment contains roughly $70mm in fixed expenses, but those are offset by roughly the same amount of dollars received by carriers for marketing incentives.]

On an LTM basis, EHTH generated 400K new Medicare members (on an MA/MS member equivalent), and 2020 guidance implies ≈550K (huge 2H growth). The analysis below provides a scenario analysis of EHTH’s value assuming a range of scenarios.

Notably, even in the case where attrition spikes much further from here and growth underwhelms, there isn’t much downside. More realistically, we would expect that in that scenario the Company would be sold to one of its public competitors, a larger and more diversified insurance brokerage company, or to any handful of private equity firms that we would expect to be interested.

In the scenario where the Company executes on its 2021 plan we expect the stock to massively re-rate in short order. (Note that for the purposes of these analyses, we zero out corporate costs by assuming the negative value is offset by the value of EHTH’s IFP and small business segments):

LT potential:

EHTH’s unit economics lag their two public peers (SelectQuote and GoHealth) by a large amount. The businesses are very similar to one another: all three businesses drive traffic from a variety of sources (direct mail, TV, Digital, etc…) to a call center; but eHealth has a strong eCommerce platform while the other two do not.  

While the companies all present information differently and therefore certain assumptions need to be made to compare the businesses, unit profit for EHTH is substantially less than either SLQT or GOCO due to both lower per unit revenues and higher per unit costs.

Below is a slide from SLQT with their comparisons of themselves to GOCO (Peer A) and EHTH (Peer B).

We believe that either EHTH will expand LTV over time or be acquired by either SLQT or GOCO who will expand it for them.

On its 2Q20 CC, EHTH provided an updated 5-year plans. In short, the 5 year plans contemplate 5 year revenue CAGR of 27%-35% and 2024 EBITDA of $570mm-$850mm (https://ir.ehealthinsurance.com/static-files/67a7d322-3ddc-407f-9ff1-5ce896c61637, p. 13-14). The Company also anticipates having a commission receivable balance of $2bn-$3bn by that time.

Should the Company hit those targets, we believe a 12x-15x EBITDA multiple would be appropriate, yielding equity value per share of $350-$600/share or 5x-10x up from current levels.

Catalyst

See above