| 2022 | 2023 | ||||||
| Price: | 4.21 | EPS | 0 | 0 | |||
| Shares Out. (in M): | 73 | P/E | 0 | 0 | |||
| Market Cap (in $M): | 308 | P/FCF | 0 | 0 | |||
| Net Debt (in $M): | 225 | EBIT | 0 | 0 | |||
| TEV (in $M): | 532 | TEV/EBIT | 0 | 0 | |||
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CERTAIN STATEMENTS CONTAINED HEREIN REFLECT THE OPINION OF THE AUTHOR AS OF THE DATE WRITTEN. NO INVESTMENT DECISIONS SHOULD BE BASED IN ANY MANNER ON THE INFORMATION AND OPINIONS SET FORTH IN THIS REPORT. YOU SHOULD VERIFY ALL CLAIMS, DO YOUR OWN DUE DILIGENCE AND/OR SEEK ADVICE FROM YOUR OWN PROFESSIONAL ADVISOR(S) AND CONSIDER THE INVESTMENT OBJECTIVES AND RISKS AND YOUR OWN NEEDS AND GOALS BEFORE INVESTING IN ANY SECURITIES MENTIONED. Please see additional Important Disclaimers at the end of this analysis.
Note: Given the limited liquidity and float, we believe this is an idea best suited for individuals and small funds.
Business Overview
Convey Health Solutions (“Convey”) is a provider of technology-enabled services to Medicare Advantage (MA) plans, and we believe it is a baby that’s been thrown out with a massive amount of bathwater - it’s a small cap, busted 2021 IPO, being comped against digital health companies which have been significant underperformers over the last year. While the S&P 500 and Russell 2000 are down -23% and 32% from their 52 week highs, respectively, a peer group we track of 27 healthcare technology companies with market caps <$6b are down -58% from their highs as of 6/16/22.
But unlike many of its fellow companies in the categories above, Convey is growing steadily (low-to-high double digit organic growth), profitable (18-19% Adj. EBITDA margins ex SBC), and cheap, with today’s enterprise value (EV) representing a 10%+ yield on 2022 consensus free cash flow estimates as of June 16, 2022.
While there is some sell-side coverage of Convey, most of the initiations stick to parroting the company presentation. We believe we can add some value by explaining some of the company’s business units in greater detail.
Convey has two segments, Tech-Enabled Services (TES) and Advisory. TES breaks into three subsegments – Supplemental Benefits Administration (SBA), Advanced Plan Administration (APA) and Value-Based Payment Assurance (VBPA). The disclosures in the company filings make it mostly possible to tease out revenue by business unit – for example, SBA is the sole business in the “Products” revenue line in the income statement.
A few summary stats before diving into the business units:
Supplemental Benefits Administration (“SBA”) (47% of 2021 Revenue)
Supplemental Benefits Administration (SBA) is the largest business within Convey. It provides OTC (over-the-counter) products (e.g., aspirin, vitamins, home health aids – as an example,) to seniors with an average benefit of $290-420/year depending on the plan. Convey typically manages the entire benefit – from designing the formulary/eligible products, building out an e-commerce store, educating seniors on their benefits, and sourcing/fulfilling products via its relationships with manufacturers and its own logistics footprint. Contracts outsourcing SBA to Convey typically run 1-3 years. Convey generates transaction-based revenue - it makes a spread on what it charges its health plan customers for OTC products provided to plan members and its own cost to procure those products. Convey is the largest provider of OTC supplemental benefit administration, having been the first player to enter the industry in 2002. We believe there are four ways for Convey to grow the SBA business line:
Advanced Plan Administration (“APA”) (~30% of 2021 revenue)
Convey provides a variety of back office and administration service for MA plans, including eligibility checking, enrollment, billing, and grievances. Convey provides labor in the US and Philippines and augments them with technology from their Miramar platform to automate routine tasks and make their employees more efficient. Miramar cuts processing times by 2x-4x across a variety of tasks (savings are in the 2-15 minute range, per task). Per management, customers adopting Convey’s APA service typically replace 120 point solutions, and on an apples-to-apples basis they believe customers save approximately 50%-60% in cost though when we pushed them on why this figure wasn't in the S-1, they noted it was harder to measure independently than the time savings.
Convey drives savings by scaling plan administration functions across payers. MA is highly regulated and rules change frequently – Convey is able to stay on top of these regulatory changes with software and procedure changes and push these updates across their entire client base. APA is super sticky business because it operates as the system of record, with the software sitting between the payer and its bank, its customers, and CMS (MA regulator). Long-term contracts averaging 3-6 years and months-long implementations costing sometimes in the millions of dollars illustrate APA’s high switching costs.
Revenue growth in APA is lumpy as the sales cycle and implementations are lengthy, but we think Convey has an opportunity to grow with existing clients both by administering more plans, and by benefitting from plan growth, as Convey earns a per member per month fee based on plan size for APA.
Value-Based Payment Assurance (“VBPA”) (~8% of 2021 revenue):
This is a grab-bag of data analytics and technology solutions for health plans, primarily risk adjustment software for value-based care arrangements sold under the Pareto Intelligence brand. Contracts tend to be 1-3 years and Convey gets paid subscription fees or a share of savings/revenue for gaps in care it identifies. This is a crowded space where Convey competes against much more widely adopted solutions from Inovalon and Change Healthcare, among others. Convey argues that its solution is better than others in that it provides more data transparency, but frankly, we’re not as sure this business has a lasting moat. Convey has called it out as the fastest growing business line, but this is off the smallest base. Convey plans to use the data and analytics team from VBPA to add more services within SBA and APA to prove ROI and cost savings of its solutions, in addition to improving reporting and recommendations for the advisory business.
Advisory (15% of 2021 revenue)
Convey’s Advisory segment provides specialized consulting for Medicare Advantage plans from a team of 120-130 consultants. Advisory is experiencing robust demand for projects aimed at helping plans grow revenue and improve customer satisfaction. Revenue per employee was high at ~$430k in 2021– in line with public estimates of results achieved at McKinsey ($350k/employee) or Bain ($446k/employee). Segment Adj. EBITDA margins are currently running >30%. Like VBPA, the Advisory business has ancillary benefits to the rest of the organization, serving as an enterprise salesforce to help introduce clients to Convey’s TES solutions. The advisory business generates revenue via fixed-fee and performance-based consulting arrangements for payers. According to management, 90% of engagements are not subject to RFPs, and for the 10% that are, Convey has a 50% win rate. Convey believes they are at the high end of what is achievable on a revenue/employee basis, and are targeting growing headcount to drive further segment growth.
Management:
As mentioned above, Convey is not founder-led, but CEO Stephen Farrell has led the company since 2011 and grew revenue at a 29% CAGR through the IPO, and the CFO Tim Fairbanks has been with Convey since 2003. Farrell owns 2% of the company per the May 2022 proxy filing and participated along with the Presidents of TES and Advisory in buying $1.9m in stock at $12 shortly after the IPO in 2021. Management options are significantly underwater with strikes at $7.94 as of 6/16/2022.
Financial Algorithm:
Convey is targeting 15%-20% annual revenue growth. Underlying growth in MA lives is expected to be 7%-9% through the end of the decade, providing a strong tailwind, with the remaining growth coming from organic cross-sell/upsell and M&A.
Convey is targeting 20%+ Adj. EBITDA growth, but they have also noted that they expect Adj. EBITDA margins to remain around 20% vs. 20.5% in 2021 as they invest in future growth. We expect no operating leverage over the next few years. Note management believes that ultimately in the medium-long term, they think they can generate 22-24% margins, but they don’t expect to focus on margin expansion for the next few years.
As a PE-controlled company, its worth highlighting add-backs were $27m or ~39% of Adj. EBITDA in 2021. We expect most of these to roll off with the exception of share-based comp, which is only ~1.3% of revenue, as they consist of public company costs associated with the IPO, Covid-19 costs, and some transaction related costs. As a result, we believe earnings quality should improve over the next few quarters and based on our internal estimates, free cash conversion to Adj. EBITDA we believe could climb to ~60% from ~30% over the last few years.
Valuation:
We think that sell-side consensus, or something slightly better, is likely achievable for the next couple years. Using a 9.5x EBITDA multiple on our $93m base case estimate of 2yr forward Adj. EBITDA and accounting for $1.48 of FCF generation, we get a total return on a $10.07 estimated share price, or more than a double compared to today’s share price. We think 9.5x is well supported by recent transactions in the space, including Change Healthcare, which was acquired for 11x forward EBITDA.
Risks:
High Customer Concentration: Cigna (CI) represents 28% of Convey revenue, United Healthcare (UNH) represents 19%, and the top 10 customers overall represent 77% of Convey revenue.
- Convey is controlled by TPG (75% ownership) and could be taken out below our estimate of fair value: Convey trades below TPG’s cost basis – its EV is $526m (as of 6/15/2022) vs its acquisition price of $702m from New Mountain in 2019, and TPG took out $75m via a dividend right before Convey went public. TPG brought Convey public to take advantage of investor demand for digital health and IT names, but in our view it’s clear in retrospect that bringing Convey public was a mistake. Our understanding is TPG can be patient here – the fund which purchased Convey has several more years of life.
- Complex and small: Convey’s multiple business lines, lack of public comps, and the nuances of serving MA plans make getting up to speed a bit difficult for a generalist. Further, the niche nature of the business means even many healthcare investors and industry participants aren’t familiar with the company.
- Leverage: Convey is now 3.6x levered on trailing EBITDA as of Q1 22 after the acquisition of HealthSmart to augment the SBA business line.
Note: Unless otherwise noted, all statistics related to Convey Health Solutions are from the 2021 10-K dated 3/23/22, the Q1 2022 10-Q dated 5/10/22, and the latest company presentation, dated 1/11/22.
Important Disclaimers
The provision of this report does not constitute (and should not be construed as) a recommendation, financial promotion, investment advice, encouragement or solicitation to buy, sell, or hold the security of the subject issuer (the “Security”), or any other securities, discussed herein. This report is for informational purposes only. All of the information contained herein is based on publicly available information with respect to the security and the author’s analysis of such information. Past performance is no guarantee, nor is it indicative, of future results.
Certain statements reflect the opinions of the author as of the date written, may be forward-looking and/or based on current expectations, projections, and/or information currently available. The author cannot assure future results and disclaims any obligation to update or alter any statistical data and/or references thereto, as well as any forward-looking statements, whether as a result of new information, future events, or otherwise. Such statements/information may not be accurate over the long-term. The views are those of the author acting in his individual capacity and not as a representative of the firm. The author’s opinions on this Security may change at any time in the future and the author will not, and disclaims any obligation to, update this report to reflect any change in opinion. The author further disclaims any obligation to respond to any comments or questions posted regarding the Security discussed herein.
NO INVESTMENT DECISIONS SHOULD BE BASED IN ANY MANNER ON THE INFORMATION AND OPINIONS SET FORTH IN THIS REPORT. YOU SHOULD VERIFY ALL CLAIMS, DO YOUR OWN DUE DILIGENCE AND/OR SEEK ADVICE FROM YOUR OWN PROFESSIONAL ADVISOR(S) AND CONSIDER THE INVESTMENT OBJECTIVES AND RISKS AND YOUR OWN NEEDS AND GOALS BEFORE INVESTING IN ANY SECURITIES MENTIONED. AN INVESTMENT IN THE SECURITY DOES NOT GUARANTEE A POSITIVE RETURN AS STOCKS ARE SUBJECT TO MARKET RISKS, INCLUDING THE POTENTIAL LOSS OF PRINCIPAL.
The author or his or her respective employer or employer’s clients, affiliates, officers, managers and directors, may or may not hold positions in the Security noted in this article. These parties may trade at any time, without notification to this community, and will not disclose this information to this community. The author and his employer disclaim any liability for investment losses that you may incur under any circumstances.
The author does not hold a position with the issuer of the Security such as employment, directorship, or consultancy.
- 2022 revenue guidance is revised higher: In our view, Convey has positioned itself to raise its 2022 revenue guidance in Q2 or Q3. Its 2022 guidance is for $390m-$410m revenue and $80m-$84m of Adj. EBITDA, which it reiterated in Q1. However, management noted on the Q4 call, which it held on March 23rd, or eight days before the end of Q1 when results were nearly fully baked, that they expected revenue to be weighted towards Q4 and light in Q1, actually providing percentages by quarter:
Steven James Valiquette, Barclays Bank PLC, Research Division - Research Analyst
Okay. That's still helpful. And then just a quick follow-up on your comment about the revenues in the fourth quarter being a little bit higher as a percentage of total full year revs this year versus last year. I think you mentioned it was due to some benefit design changes. I'm not sure if that was OTC specifically or not. But I was just curious to hear more about the mechanics of that. Is it really just a function of more of the end of member spending in relation to those benefits will just occur later in the year, and it's correlated to that? Or are there some other mechanics that drives that revenue being more back-end loaded into the fourth quarter?
Timothy Fairbanks, Convey Health Solutions Holdings, Inc. - Executive VP & CFO
Yes. There's -- Steve, it's Tim. So there's a couple of different sub mechanics there, but one is just a plan design. You hit the nail on the head that each of our clients typically have many different plan designs that we've gotten fairly accurate in predicting the seasonality of that revenue based on the plan design. And the way the plans are designed this year, we predict there'll be a little bit more back-end loaded. They're typically seasonal, so no surprise there, and we think there will be just a bit more seasonal than usual.
There's other factors at play here as well outside the Supplemental Benefit realm. We've got a number of new clients and some of these clients, based on the type of work we're doing for them, we expect the revenue to build throughout the year. So there'll be a little bit more back-end load, but this isn't dramatic.
And so to give you -- to give everyone just a sense of kind of what we're talking about here, if you look at our 2021 revenue distribution, about 29% of our total annual revenue landed in the fourth quarter and 24% of our total annual revenue landed in the first quarter. I expect -- we expect that 29% in the fourth quarter to maybe be 31% in the fourth quarter of '22. And that additional 2% will come from the first quarter. So the 24% of revenue that we had in the first quarter of '21 might decline to 22%. I think quarters 2 and 3 in the middle there will be roughly similar in their distribution to what we had in the previous years. And so this isn't a massive shift of seasonality, but a 200 basis point shift of seasonality in our first and fourth quarters compared to last year.
o Assuming that 22% of 2022 revenue was actually earned in Q1, Convey would generate $440m revenue in 2022, 10% above the midpoint of its initial guidance and representing 30% YoY revenue growth. When we asked management 3 different ways about this discrepancy, they dodged each time, but they also did not walk back their previous commentary highlighted above.
Greater visibility/attention helps improve liquidity: CNVY has told us they’d like to hold an investor day in H2 2022.
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