An oft-cited study claims between 70% and 90% of mergers and acquisitions fail to meet expectations. The key reasons listed in the study are people leaving, lack of getting along between the two management teams, and employees of the acquired company losing motivation.
Investors in Teladoc Health ( TDOC 3.77% ) were hoping the researchers had it all wrong when they agreed to pay $18.5 billion for Livongo Health ( LVGO ) in August. If successful, the combined entity could come to dominate the telehealth landscape for a generation. If this deal ends poorly, like so many others, investors in Livongo will be reminiscing about what could have been.
Heading in the right direction
Livongo offers chronic disease management programs, focused on diabetes, that combine connected devices, data sharing, and coaching. The offerings position the company at the crossroads of several mega trends in healthcare. These trends -- a focus on chronic conditions, care outside the healthcare setting, and use of artificial intelligence -- are being leveraged to try and reverse our nation's underperformance relative to others. In the U.S., our life expectancy trails that of other developed countries, despite spending more on healthcare per person.
Almost one in two Americans has a chronic disease, and they account for an estimated 84% of total healthcare costs. With the recognition of how little influence sporadic visits to a doctor have on the choices patients make in everyday life, connected devices have become more important to keep patients engaged with their health and share data with their clinicians.
Finally, the ubiquity of artificial intelligence has made its way into healthcare in recent years. Limited resources and a one-size-fits-all approach to care have given way to more data-driven, patient-centric activities that are based on what has proven most likely to work on a specific patient in a specific situation.
The combination is resonating with patients. Livongo has grown sales 122% and 149% in 2018 and 2019, respectively. Being a remote monitoring company helped them maintain the breakneck pace in the most recent, coronavirus-disrupted quarter. Livongo's second quarter revenue growth came in at 125%. Further, management appears to be racing toward profitability as the operating margin, the percent of revenue left after expenses, has climbed from -55% in 2017 to -13% in the most recent quarter. In fact, Livongo delivered $12.5 million in profit on an adjusted basis. Perhaps this is why management's announcement in August caught investors off guard.
Joining forces and tempting fate
In August, Teladoc and Livongo announced that they were merging, creating a $37 billion telehealth company. Joining the two companies is intended to create the leader in digital health, offering everything from primary care to chronic disease management. It sounded good, but investors were skeptical of the risks, sending shares of Teladoc down almost 20% on the day the deal was announced. The price tag was a mere 10% premium to Livongo's closing price on the previous day.
The deal was a bigger splash than Teladoc's 2018 purchase of TelaDietitian, a small platform for registered dietitians, but focused on a similar customer segment. Surprisingly, the companies claimed only 25% of their clients overlapped. This brings a lot of new users to each service -- a potential source of growth for the years ahead. The companies expect the new entity to grow revenue 30% to 40% over the next two to three years. This seems like an achievable goal as both companies have been exceeding those growth rates for years. How the venture fares beyond the short term, where growth is essentially baked-in from existing momentum, is the question on many investors' minds.
The likely drivers of success, or lack thereof, beyond the short term will go back to the factors listed in the study outlining why so many deals fail to realize expectations. Questions around key people leaving, motivation, and teams getting along are difficult to track for investors. However, there are early indicators to look for.
Can different cultures be integrated?
Livongo was founded in 2008, and founder Glen Tullman remains Executive Chairman. CEO Zane Burke was only hired in 2018, so the culture that created 100% annual sales growth and world-class customer satisfaction is not necessarily a result of his imprint. This is good since Teladoc's CEO, Jason Gorevic, will lead the company.
It's hard to say how motivation and collaboration will work out. However, a few tangential metrics may help. Comparing the companies on Glassdoor, we can see that 94% of Livongo employees recommend working at the company while only 73% of Teladoc employees feel the same. Further, while Livongo boasts a customer satisfaction and loyalty rating akin to Netflix (that's good!), Teladoc competitors Amwell and Doctors-on-Demand finished first and second, respectively, in the J.D. Power 2020 telehealth satisfaction study.
With Livongo, Teladoc may come to dominate the telehealth market as it facilitates an end-to-end experience from primary care to coaching, and managing chronic diseases. Using the criteria that have been found useful in identifying why mergers and acquisitions fail, investors should pay special attention to customer satisfaction and loyalty metrics at Livongo.
To achieve the scores it has, a business must put the customer at the center of prioritization and decision-making. The biggest struggle in this deal may be integrating the cultures. With the Teladoc CEO as captain of the ship and measures that indicate a different focus than the acquired company, the risks are elevated that investors look back on the day Livongo was acquired and wonder what might have been.