Value Investors Club / Teledoc (TDOC)

Description

Teledoc (“TDOC” or the “Company”) is a healthcare data administrator/ call center operator that recently IPOed under the

JOBS Act at an inflated revenue multiple (currently 16x LTM) by positioning itself as a healthcare tech growth story with

an industryleading market position and high recurring revenue. The bull case overlooks a number ofindustrydynamics

and critical challenges including: 1) lack of differentiation and entry barriers; 2) significant adoption hurdles; 3)

disintermediation and intensifying competition that places the majority of TDOC’s revenue at risk in the near-term; 4)

stagnating organic member growth and member churn; 5) acceleration in cash burn ($55M in 2015); and 6) outstanding

lawsuits.

Substitute some buzzwords and the current setup for Teledoc is quite similar to that of the Castlight (CSLT) IPO last

year—tech growth story seeking to reduce healthcare costs trading at an irrational revenue multiple predicated on an

overstated addressable market facing intensifying competition with unattractive unit economics. As these realities became

evident CSLT turned into a broken IPO, dropping over 70% in the ensuing two months since going public. TDOC appears

to be heading for a similar outcome.

COMPANY OVERVIEW

Teledoc is a direct-to-consumer telehealth company that connects patients with non-acute medical needs to doctors by

voice and video. Patient conditions primarily include cold/ flu, allergies, sinus/ nasal, respiratory infections, ear aches and

UTI. The Company has been around since 2002 and retained a stable of 674 contracted physicians to serve over 4,000

employers covering 11.5M beneficiary members. TDOC sells its service primarily to self-insured employers and health

plan sponsors. The Company derives 83% of its revenue from monthly access fees which are per-member-per-month

subscription based agreements paid by clients on their beneficiaries’ behalf. The other 17% of its revenue come from visit

fees TDOC charges per member-doctor connection. 37% of TDOC’s subscription access revenue contracts are all-you-can-

eat and 63% are pay-per-visit.

Unattractive Industry with Limited Differentiation: The Teledoc operates in an industry with limited entry barriers and

pricing power. The Company presents a Rube Goldberg-style schematics showing a complex, multi-step service but

ultimately TDOC is doing little more than connecting a patient and doctor on the phone and handling some of the

administrative functions. Almost nothing it does is proprietary or innovative. The perceptionof TDOC as a disruptive

technology company with unique video conferencing capabilities that eliminates the need for in-person consultation is a

fiction. 90% of the visits TDOC facilitates are over the phone. The business is closer to a call center operation than a

technology company. This is evidenced by TDOC’s lack of IP (no patents) and limited infrastructure and R&D spend

($11M of technology development expensed over the last two years). In fact, TDOC does not even operate a call center but

uses an external contractor. A suit was filed against Teledoc earlier this year by industry leader American Well alleging

TDOC essentially ripped off their core IP. Regardless of the merits of this lawsuit, the D2C telehealth industry has almost

no entry barriers and negligible product differentiation. Not surprisingly the number of competitors is mushrooming.

Intensifying Competition: TDOC claims to be the largest telehealth platform, benefiting from a first mover advantage.

While it may have been the first to market 13 years ago, the current reality is there are many competitors, one of whom,

American Well, is over 2x the size of Teledoc with 25M members. The biggest near-term competitive challenge facing

Teledoc is the nature of its contracts—83% of revenue comes from monthly fixed fee subscriptions. Meanwhile

competitors American Well, Doctors on Demand and MDLIVE do not charge such “access fees” and charge a comparable

$40-50 per visit. It is likely the recurring subscription fee stream that provides TDOC its “significant revenue visibility”

will be going away. Beyond the direct competitors, the whole industry faces disintermediation risk primarily from

providers that could easily manage such services internally. This becomes increasingly likely should telemedicine adoption

grow at anywhere close to the rates proponents speculate.

Overstated Addressable Market & Company Growth Constraints: The relaxing of patient-provider relationship

standards and in-person diagnosis requirements over the last five years has enabled D2C telehealth to emerge. Now 47

states allow virtual visits under varying parameters. There is no doubt that there are benefits to the service but the scenario

TDOC presents of virtual consultations replacing in-person appointments for most non-acute care within the next five

years is not credible. This is reminiscent of the dotcom prognostication that video conferencing would illuminate the need

for in-person business meetings.

Not surprisingly TDOC and the sell-side throw around some big numbers when framing the addressable market. Forecasts

assume telehealth companies will be able to extract more dollars per visit and that over 25% of all the total 1.25M annual

medical visits will be handled virtually. Looking at the details behind the big headline 1.25M total medical visits in the

most recent CDC Report number shows how few actual types of visits are relevant to telehealth.

Approximately 8% or 100k visits are relevant to telehealth. So for the addressable market to hit $3.1B by 2020,

telehealth would have to reach close to an 100% adoption rate in just five years.

There is a lot written about this evolving industry by medical associations, regulatory agencies and advocacy groups but

here are some of the other major limitations to this TAM and to Teledoc’s growth:

- Adoption Hurdles: It is important to note that Teledoc’s service is an incremental cost for customers. Teledoc cites the

cost difference between a visit to the ER versus a phone consult. Obviously the phone call would be lower cost but the

reality is most people do not go to ER or a critical care facility for many of the ailments that TDOC seeks to treat by

phone. Regardless company needs to provide education in order to drive adoption and make the investment ROI

positive. While it may reduce medical bills over time for the employer, it requires taking on an initial expense on top

of the ever-increasing HC burdens employers are facing. The incentive for use by the member is purely based on

convenience as the out-of-pocket $20 co-pay for a doctor visit is less than the average $40 TDOC patient payment.

Additionally, member awareness and ultimately comfort with the service. Healthcare usage isskewed by age, older

demographics are less facile with the latest technology and likely reluctant to seek a virtual visit

- Doctor Supply: All 675 of Teledoc’s physicians are retained under a contract with a single externally-owned entity

called Teledoc Physicians PA. If this entity broke its contract with TDOC or if regulators/ med boards prohibited the

arrangement TDOC would obviously be left with no supply to fulfil its service. The Company pitches itself as a prime

offering for doctors due to the ability to earn $150 per hour versus ~$99 per hour running their own offices. This is

flawed, as it would require the doctor totriage over 6 patients or an implied 10 minutes per visit versus an average

visit of 14 minutes. Per industry sources, the average doctor would see 2-3 patients per hour yet under the TDOC

model they would have to see 4 at minimum in order to achieve comparable payment levels. Not only is this extra

work, it leaves room for error and potential medical mistakes hence the quality of care may actually decrease. Teledoc

PA also has to pay TDOC $1.2/ year for call center usage, medical records maintenance and admin services. The

doctors are also required to pay for their own liability insurance. It is no wonder Teladoc has only attracted 675 over

the past 13 years.

- Further, doctors are restricted to what they can treat and prescribe over the phone. There are a number of cases where

doctors have lost their board certification and have been sued for malpractice for prescribing a certain drug with a

physical exam and not operating within the parameters of an individual states’ specific laws. The risk/ reward for most

doctors is not appealing.

- Existing Alternatives: Most the population has access to 24-hour pharmacies and clinics with RN’s already provide

this service at an equivalent or lesser cost. Patients will need to visit a pharmacy to pick up any Teledoc prescribed

medicine anyway thus eliminating any convenience factors.

Slowing Member Growth: The number of members is a key driver of performance. Adjusting for members acquired in

the 6/7/15 acquisition of StatDoc (1M members) and 5/1/14 acquisition of AmeriDoc(1.5M) shows the number of organic

adds was actually negative in Q2’14 and in Q2’15. Potential churn and challenged growth clearly undermines the rapid

growth story. This is compounded by the fact that access fee revenue and member numbers are seasonality higher in the

first and fourth quarters during employee benefit enrollment windows.

VALUATION

At its current price investors are paying $1B ($1.1B market cap, $1B EV) for essentially some short-term D2C

telehealth contracts, an agreement with a group of doctors and a basic scheduling system. For sake of perspective, the

Company acquired over 35% of its current contracts for less than $50M in the StatDoc and AmeriDoc deals. The Company

has never generated a profit in its history and is on-trach to burn $55M in cash this year. As fees come under competitive

pressure this burn rate may intensify.

OTHER RED FLAGS& RISKS

- Legal Issues: The Texas Medical Board (TMB) and Teladoc have been in a four-year legal dispute regarding writing

prescription without an in-person exam. Texas members account for 20% of TDOC’s revenue

- The risk of an acquisition is low given the low cost of entry.

- The signing of a large new customer. This could just as easily go the other way as TDOC’s top 10 clients account for

22% of revenue.

I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise hold a material investment in the issuer's securities.

Catalyst

1) Decline in growth rate and customer churn leading to estimate shortfalls

2) Margin pressure and contract losses

3) Legal and regulatory settlements

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			2015	2016
Price:	27.72	EPS	0	0
Shares Out. (in M):	41	P/E	0	0
Market Cap (in $M):	1,136	P/FCF	0	0
Net Debt (in $M):	-134	EBIT	0	0
TEV (in $M):	1,003	TEV/EBIT	0	0
Borrow Cost:	General Collateral