There's more to healthcare companies than ticking bombs just waiting to explode with every other data readout. In this week's Industry Focus: Healthcare, host Shannon Jones and Motley Fool contributor Brian Feroldi look at five promising companies that roost in the intersection of healthcare and tech...and the huge returns they could hatch for investors. The stocks: Veeva Systems (VEEV -1.28%), HealthEquity (HQY 1.28%), Teladoc (TDOC -3.40%), Medidata Solutions (MDSO), and Cerner (CERN). Tune in to find out how these companies work, what pain points they're helping customers (and patients) fix, which are better for growth investors and which are more for the dividend-minded, what kinds of risks to keep an eye on, and more.
A full transcript follows the video.
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This video was recorded on April 3, 2019.
Shannon Jones: Welcome to Industry Focus, the show that dives into a different sector of the stock market every single day. Today is Wednesday, April 3. I'm your host, Shannon Jones. I am joined via Skype by healthcare tech guru Brian Feroldi. Brian, so excited to have you back on Industry Focus: Healthcare, especially for today's topic.
Brian Feroldi: Yeah, I think we have a great one today. It's awesome to be here! Thanks, Shannon!
Jones: Let's dive right in! Today's show is all about healthcare tech. We decided to do a crossover episode talking about some of the top healthcare tech stocks out there. Brian's got an awesome list of five stocks that we want to dive into.
Let's kick things off, Brian! The first is a SaaS company really designed to be an end-to-end service provider for the life sciences industry, all the way from clinical development to commercialization. That company is Veeva Systems, ticker VEEV. Brian, what can you tell us about this company specifically?
Feroldi: Veeva Systems is a CRM company -- that stands for customer relationship management -- that was actually founded by a former employee of Salesforce.com, which is the original software-as-a-service company. The founder realized that the off-the-shelf CRM tools didn't really fit the life sciences industry that well because of all the unique needs of the industry -- specifically regards to the clinical development process and the regulatory approval process. That means that life sciences companies like biopharmas, biotechs, and medical devices have a different set of needs. So he founded Veeva to take advantage of that specific market niche.
Now, the company offers a few products. Its two most popular are called Commercial Cloud, which is first and foremost a CRM system that helps pharma and biotechs with things like marketing and sales management. Their second product is called Veeva Vault, which helps them with documentation, data storage, clinical trial management, and data capture. Those two products have just been enormous hits within the life sciences industry. These two products are just used by dozens of the world's top biopharma companies. They now have hundreds of customers.
Jones: Veeva Systems is one of those companies where they've had such a targeted, narrow focus on serving the life sciences industry that it's really worked out very well for them. But Veeva Systems isn't necessarily stopping with life sciences companies, either. Is that right, Brian?
Feroldi: Yeah, that's correct. They've basically saturated their core market, so their management said a few years ago: "How can we take our areas of expertise and apply them to other companies? What other industries could benefit from our unique focus?" What came to mind for them was chemical makers, consumer packaged goods companies, and cosmetics companies. That makes sense because these are all regulated industries that already have to deal with the FDA on their own. Since that was Veeva's area of expertise, they created a product called Vault QualityOne, which is designed to help industries outside of the life sciences with many of the things that Veeva specializes in. While it's still early days, we've seen them already land a number of big-name clients, and they're already having success.
Jones: From a valuation perspective, this is a stock that not honestly looks a little pricey. Probably not too surprising, though, for any sort of tech company. But you're talking about 87X trailing earnings, 57X forward earnings. What does Veeva look like from a fundamental perspective, Brian?
Feroldi: I think the key thing that you just said was earnings. This is a SaaS company that is already profitable. They are cash flow positive, they have over $1 billion in cash, no debt, and they have just grown like crazy over the last five years that they've really captured more and more of their core market. But they're now at the point where they are producing profits on the bottom line and operating leverage is kicking in, so those profits are even growing faster than earnings. So this is an expensive company, there's no doubt about it. They do trade at a premium. However, so far, investors who have bought in even with the high valuation have been very rewarded because their growth has been so phenomenal. This is a high-price stock, but it's so high quality that it just might be worth it.
Jones: A lot to like there. Lots of growth opportunities, especially as they branch out. Let's dive into our second stock. The next one on the list is one designed to help individuals pay for healthcare expenses both now and in the future. That company is HealthEquity, ticker HQY.
Brian, probably no surprise that this is another Fool favorite. You even had the chance to interview the CEO at one point. What makes HealthEquity so special, and why does it stand out among the crowd?
Feroldi: HealthEquity is a hybrid tech/financial/ health company all mixed in one. What they do is, they are a provider of health savings accounts, which are triple tax advantaged accounts that are only available to people with very high deductible healthcare plans. I'm sure listeners are painfully aware that in the United States, health insurance premiums have just been skyrocketing for decades. Employers are desperate to find any way that they can to help fight back. One option that's available to them is to offer a high-deductible health plan which has a thousand- or multi-thousand-dollar deductible that kicks in that must be paid for by the individual before their insurance will start to cover anything. People that sign up for high-deductible health plans then get access to a health savings account, which is just the best retirement account that I've ever heard of. Money goes in pre-tax, it grows tax free, and as long as it's used on qualified medical expenses, there's no tax to pay it out. They're just a no-brainer choice for anybody that has a high deductible health plan.
HealthEquity is a company that administers the accounts. They take in the assets, they can help talk with patients on ways to save money, to shop around. They have just been growing like crazy, given the huge surge in the demand for high-deductible health plans and health savings accounts.
Jones: I think investing your HSA is a pretty remarkable concept in and of itself. On the platform for HealthEquity, you can basically have your own self-directed account to invest in mutual funds, even in real estate. They've got a high-yield REIT equity that you can actually add to your account there. Your own investments, or you can even allow HealthEquity to make these investments on your behalf. But I love the fact that you have the opportunity to not only save, but actually invest that money. Obviously, for HealthEquity, this means a recurring stream of revenue for them on the fees related to what's being held in those accounts. But that's not the only revenue stream, right? They've got multiple revenue streams.
Feroldi: Yeah, that's one of the things that really attracts me to this company. This company actually has four sources of recurring revenue. When an employer offers their services to their employees, HealthEquity takes a monthly subscription fee. When an employee puts funds into a HealthEquity account, they get a monthly custodial fee. And whenever a payment is made from that account, HealthEquity gets an interchange fee. Those are the three primary ones right now, but they are just now starting to get into the investment business, where you can take your HSA assets and invest them in the market. They have partnerships in place with companies like Vanguard to help them do that. That is a fourth stool of recurring revenue that this company is pulling in. When you combine all those together with the general demand, the huge increases in membership, this company's financial statements are just sparkling. I mean, they've been putting up 20%-plus revenue growth for years. They've already achieved profitability. They're pumping out cash flow. Because of that, they have an amazing balance sheet: $360 million in cash, zero debt. Wall Street believes that this company will still be growing its revenue and profits at a double-digit rate for the next five years.
Jones: HSAs were actually a little bit slow to take on when they were enacted into law back in 2003, but they're really starting to increase in popularity. I think you've got a very long-term growth opportunity here for a lot of patients that are looking for ways to set aside money for healthcare expenses. Not only that, they've got 4 million members, assets over $8 billion, and they're still growing! A lot to like about this company! One I'm actually digging into a little bit more myself personally.
But let's keep it going. Let's talk about the next stock on Brian's list, a stock that's probably the most easily recognizable for many of our listeners and for many Fools out there. That's Teladoc, ticker TDOC. Brian, give us a brief overview for maybe some of our listeners who don't know what Teladoc does. Tell us what they do.
Feroldi: Teladoc is a leading provider of telemedicine. What's that? Telemedicine is when you have a video conference that connects a consumer with a medical professional. What kind of specialties can they use over the phone? Well, you can talk with a dermatologist, a behavioral health specialist, you can get a lot of primary care needs done directly over the phone by a simple video conference.
These guys are the leader in the industry. They have the biggest network of both doctors and patients. They partner with insurers to get their services covered. The real win here for using telemedicine is that, not only is it super convenient for the patient because they can do it in their own home, they don't have to drive somewhere, they don't have to wait in line, they just put "conference me in" and get a doctor live on their phone -- it's also a huge cost savings to the industry. The charge rate for a telemedicine visit is far less than an actual office visit. It's a win for the patient and it's a win for the healthcare industry in general.
Teladoc has become a leader because it was a first mover, but also because it's been very acquisitive. This company regularly makes acquisitions to grow and be the top dog. They just acquired a company in France, the leading provider of telemedicine in France, a couple of weeks ago. The reason that they're doing that is because they know that this is a natural winner-take-most market. Patients want to be on the platform that has the most doctors, the most specialties available at any given time; and insurers want to provide it with the biggest network as well. It's a double-sided network effect that naturally benefits the leading provider, and right now, that's Teladoc.
Jones: Around 40% of the largest companies in the world actually use Teladoc to provide this virtual healthcare service to employees. Over 35 of the biggest health plans in the U.S. have partnered with Teladoc, and more than 290 hospitals and health systems have teamed up with this virtual healthcare provider as well.
But this stock has had quite a bumpy ride, to say the least, Brian, particularly in the last quarter of 2018. Teladoc was basically the aim of a short-seller attack. What can you tell us about that? Has that changed your investing thesis at all of this company?
Feroldi: That's not surprising to me at all. This is a company that is growing extremely fast. Last quarter, they grew sales by 59%. They're very acquisitive, so that can muck up their financial statements. And, they're not yet making money. They're not profitable on the bottom line yet. When you combine those things together, this is a stock that will naturally attract short-sellers. I think it's actually over a third of the shares outstanding have been sold short. That makes this company a great target for short reports. Whenever those come out, investors should read through them and see if they are thesis-changing in any way. But more often than not, there's more smoke than there is fire and I think that's what happened to Teladoc in the fourth quarter.
Jones: OK, so it hasn't changed your mind at all about Teladoc. I think that's fair, I totally agree. In terms of valuation, right now trading at about 9.5X sales. What are your thoughts about that?
Feroldi: Yeah, this company is expensive. There's no doubt about it. But when they are a leader in a rapidly growing industry, that premium valuation makes sense, especially in today's market, where almost everything is expensive. This is one of the more risky stocks that we have on our list because it is not yet profitable and it's growing so rapidly, but there is an argument to be made that they are the top dog and their growth runway is just so enormous. Over time, you could easily see them adding on more specialties, more doctors, having more services being able to be done through telemedicine, as well as more patients warming up to the concept, given the cost savings and the conveniences. If you buy those things, and you think the telemedicine industry is poised for huge growth, then buying today even at a very rich multiple could still result in multibagger returns.
Jones: Totally agree. Patients love it for the convenience, payers love it for the lower cost and are looking for ways to integrate telehealth more into their plans. I think it's really a win-win for all here with Teladoc.
Alright, next stock is Medidata Solutions, ticker MDSO. Brian, I've got a soft spot in my heart for any company that can make the clinical trial process more efficient, both from a time and a cost perspective, especially for a lot of the smaller biotech companies that we follow and talk about. This company in particular grabbed my attention. Brian, how exactly is Medidata Solutions making this process easier for companies like that?
Feroldi: Medidata is a provider of cloud-based software that basically handles anything to do with the clinical trial process. Their software can help review things like trial design, planning, execution, management of the trial, as well as the reporting. Their software really helps companies to get the trial design right the first time, to minimize the chance of changes being made down the road. Now, that is hugely valuable to pharma and medical device companies. Changes to the trial design not only can be hugely expensive, but they can also add a lot of time on to the trial down the road. So, getting the trial right the first time, and making the clinical process as efficient as possible, is hugely valuable. Because of that, Medidata Solutions have become very popular. They're used by basically all the big-name companies out there. This company says that 13 of the top 15 drugs sold worldwide in 2017 were developed using Medidata's technology.
Jones: You mentioned all the big names. You're talking about Johnson & Johnson, AstraZeneca, Amgen, Novartis, just to name a few of the larger biopharma players. But they've got more than 1,000 customers. I had a chance to actually check out a demo of their product. What was so fascinating to me is, this is really an out-of-the-box solution, which comes in extremely handy for a lot of these smaller biotech that really need to be able to organize and really store all of this data in one place. You want to store it, you want to analyze it, you want to be able to access it. But even in terms of just running a trial, patients can literally go on to their platform. It's a cloud-based platform. They can learn about this study, they can sign informed consent, they can fill out their medical history, demographic information, they can even update throughout their trial how they're feeling. A lot of those more subjective things that a lot of these clinical trials track can all be housed here. If you're a trial administrator, you're also able to see all that patient data right at your fingertips. It can sort patients based on inclusion and exclusion criteria, even randomize patients into their respective trial arms, all at your fingertips. This can all happen with an iPad, with a laptop, all in one place. Pretty remarkable, what they've been able to do.
What does that translate into with top and bottom line growth for Medidata?
Feroldi: As you just espoused on the benefits of using Medidata, you can understand why the appeal of using their software is so high for so many pharma companies out there. In turn, since they're selling their software through the cloud, the company's financial statements are spectacular. Talking about double-digit revenue growth. The company is big enough to start producing both net income and free cash flow. Their balance sheet is cash-heavy. Overall, it's a very solid, very sticky business.
Having said that, of course, when you have all those traits in one, like many of the companies we're talking about, this is a pricey stock. It trades at 90X trailing earnings, and about 36X forward earnings. One of the things to note with this company is that they don't seem to have an encore opportunity just yet. They are still basically focused squarely on the clinical trial. They are actually a competitor with Veeva Systems. Their growth rates going forward might be much slower than they have been historically. But overall, I think this is a very solid business.
Jones: Great! Let's go into our last stock. That is one that we've probably all encountered or interacted with in one way or another without ever actually knowing that you did. That company is Cerner, ticker CERN. This caters predominantly to hospitals and healthcare providers. Brian, what exactly does this company do?
Feroldi: Cerner is the largest provider of IT solutions to the healthcare industry in the U.S., period. What they're best known for is their electronic health record platform, which makes it easy for hospitals and providers to pull down patient data, record information, and share it with other hospitals and providers that are also on Cerner's system. That's a Trojan horse, if you will, that the company then uses to upsell them to other services. They also offer things like operational improvements, they can also handle billing. Cerner is a huge IT tech provider that provides a range of services. EHR, electronic health records, adoption of them has grown very quickly over the last decade. We all know that when you go to a doctor's office, filling out a paper chart is horrendously inefficient. Getting that information on to electronics so that it can be easily shared is a no-brainer, but the industry was very reluctant to make the change given the pain involved with that. But Cerner is helping them to do that.
Jones: And well-positioned for that pain point, not just going to the doctor and having to fill out all this information; but then, when you get referred to a specialist and you have to fill out the same exact information, knowing that this is data that could have easily been just sent over, integrated into their system as well. Cerner, definitely on the leading edge of that.
The other thing I like about this company is, it sounds like a relatively steady business in and of itself, but I think with electronic health records, one opportunity that really hasn't been exploited as much is the opportunity in improving overall health outcomes and reducing cost. Obviously, these records contain massive amounts of data. Now's the time to actually start using that data to really inform treatment decisions, give doctors the tools to make the best treatment decision for that patient. I think that's something that we really just haven't seen just yet. But with all the data that they do have, I could easily see AI being incorporated into the system to exploit some of those opportunities and move it away from just being seen as a data warehouse, and really driving treatment paradigms, as well.
You mentioned, of course, the upselling opportunities. You're looking at things like operational efficiency for a lot of these major healthcare systems. Even for billing, too, which is its own cumbersome process as well. Basically 70 of the world's largest healthcare systems are using their technology. It's the main provider for about 25% of acute care hospitals in the U.S., and boasts the largest international exposure compared to a lot of its competitors. Again, a lot to like with this company. How is it looking in terms of financials, though?
Feroldi: Cerner makes the most of its money through software support and maintenance contracts. That makes its top line very predictable, especially given their huge industry presence. The company is profitable. It is cash flow positive. It does have a net cash on its balance sheet. Unlike many of the companies that we talked about today, this trades at a much more modest valuation because it is such a mature business that its growth rate is much slower. It's trading at about 30X trailing earnings, 20X forward earnings. That's roughly a market multiple. On the sales and earnings growth side, this is a slower-growing business. The market just expects single-digit sales growth going forward. But offsetting that is its much lower valuation and dominant industry position. Those two factors, I think when you combine, could make this a good choice for investors with a lower risk tolerance.
Jones: And, they just initiated a quarterly dividend, about $0.015, expected to start in Q3 of this year. At its current stock price right now, you're looking at about 1% annual dividend yield on that. Not bad, especially when you're talking about healthcare and tech, to have that dividend tacked on as well.
Brian, we've gone through five stocks. Of those five, though, what would you say would be your top picks?
Feroldi: My two favorites from the list we talked about today are probably Veeva Systems and HealthEquity. I like that both of these companies are still in the rapid growth phase. I like that they're both profitable and that their revenue is recurring. I like the culture of the business. I like that their founders are still involved. Those two are probably my favorites.
I also think there's an argument for Teladoc. Telemedicine, I believe, is going to be a much bigger industry in time. Although it is more speculative, more risky than the other ones we talked about, I think there's an argument for Teladoc.
For me, I think Medidata is a great business, but it's just growing a little bit too slowly to justify its valuation. And Cerner is a steady-eddy giant, but I'm a growth-focused investor personally, so it doesn't wet my whistle. But I could easily see it being an attractive stock for more value-conscious investors.
Jones: Have to agree with you there, especially HealthEquity. Even really liking Teladoc. To your point, it has a large growth runway ahead of it. I think telehealth is really going to be the treatment option of choice for most people, especially managing chronic conditions.
But all in all, these are five great companies. Whether you're an aggressive investor looking for growth or even more conservative, I think we've run the gamut and given everyone some options today to think about adding to your portfolio.
With that, Brian, thank you so much for stopping by and hanging out with me today on today's show!
Feroldi: Always great to be here! Thanks for having me, Shannon!
Jones: That's it for this week's Industry Focus: Healthcare show! Thank you for tuning in! As always, people on the program may have interest in the stocks they talk about, and The Motley Fool may have formal recommendations for or against, so don't buy or sell stocks based solely on what you hear. This show is produced by Austin Morgan. For Brian Feroldi, I'm Shannon Jones. Thanks for listening and Fool on!