MTBC Inc (NASDAQ: MTBC) is a healthcare IT company that provides SaaS-based critical back-office services to physician groups and hospitals. The company has emerged as an advantaged acquirer of providers of backend healthcare technology. It acquired 5 companies from 2006-14, and accelerated the pace of acquisitions to 15 from 2014-20 after going public in 2014. The M&A playbook relies extensively on quality and low-cost labor (2400 full-time headcount primarily based in Pakistan, 8x headcount in US) to reduce operating expenses by 50-60% at acquired companies. The fragmented industry provides a long growth runway, which supports increasing operating leverage and potential in reducing funding costs significantly (11% preferred equity is the sole “debt”) to further M&A. MTBC stands out from peers with high 17% ROIC, substantial insider ownership (49%), and proven senior management (3 out of 4 members has executed the M&A playbook together since founding in 2006). Most notably, the company possesses the potential to compound capital in the long-term as an advantaged acquirer.
The B2B, non-consumer-facing nature of MTBC’s services may be unfamiliar to readers. MTBC improves the medical billing reimbursement process, increases collections, and reduces errors in submission, collectively known as revenue cycle management (RCM) services. Complementing the core RCM are practice management services and EHR. Practice management involves patient scheduling, insurance analysis, and other day-to-day workflow functions. EHR, or electronic health records, conducts patient communications and clinical charting electronically to support the billing and reimbursement processes. The RCM industry is stable and mature, growing at low to mid-single digit annually, which implies that consolidation and cost-cuts are central to profitability. Customer retention is usually high (80-95%), highlighting the importance of M&A for growth.
Its latest acquisition involving Carecloud, a high-profile acclaimed SaaS platform, proves the value of its cost-cutting playbook in an increasingly costly RCM industry. Carecloud, which raised a cumulative $150m as of 2019, was sold to MTBC for only $41m, implying large losses for venture capital investors (but great for MTBC) even when Carecloud earned excellent reviews for its product. VC investors likely approved the loss-making sale because of a cloudy outlook for profits from expensive technology and labor investments. RCM providers face several cost-increasing industry trends. Health insurers have complex reimbursement processes because of new laws and payer requirements. Medicare, Medicaid and commercial insurances are increasingly requiring proof of adherence to best practices and improved patient health outcomes to support full reimbursement. Moreover, the recent shift to new insurance codes has dramatically increased the complexity associated with selecting procedure and diagnosis codes needed to support claim submission and reimbursement. Therefore, automated SaaS billings must be complemented by laborious, time-consuming, and expensive human expertise in keeping up with insurance claims and reimbursements practices. MTBC has cracked the code to reduce costs by training a horde of full-time skilled and low-cost labor, based in Pakistan, to handle analytical tasks that support customer-facing personnel based in the US.
Nothing is better at proving MTBC’s value and the industry’s difficulty to cut costs than athenahealth, a RCM industry leader taken private by Elliott Management for $5.5B. athenahealth had targeted 30% operating margins, but could not achieve greater than 16-17% before the transaction. MTBC reported 11%, which was an admirable result before the benefit of scale (athenahealth was 70x the size of MTBC). Excellent execution is rare in the RCM industry because of the increasing complexity of regulations. Hence investors should give MTBC’s industry-leading execution more credit than they do today.
In valuing MTBC, inorganic growth must be considered. Management guided for an additional $100m revenues from M&A by FY21, expanding current revenues by roughly 3x in 2 years (MTBC reported FY19 results in Feb 2020). Management reiterated guidance made in Feb 2020 during the covid-19 debacle, a testament to its excellent execution and stable industry dynamics.
Assuming that revenues reach $170m in FY21 (roughly $100m higher than FY19 revenue and $70m higher than FY20), MTBC is expected to pay $70m at 1x revenue. Judging from previous transaction, $5m of $70m would be in contingent payouts. The $65m would be financed from a combination of preferred stock, cash flow from ops, and cash on balance sheet. The estimated preferred stock raise is $26m with current $35m cash on balance sheet (leaving $4m to maintain day-to-day operations) and assuming FY20-21 cumulative $4m levered FCF.
Based on management guidance in FY20 and projections of $170m revenue in FY21, standard DCF (r=10%, g=3%) results in $240m NAV. Backing out $4m cash and $129m preferreds (incl the est $26m raise) results in about $115m market cap, representing about 46% upside potential.
The calculation above, though based on reasonable assumptions, understates the return potential of MTBC as a long-term compounder. Advantaged acquirers, such as Pool Corp and Watsco, with a sustainable M&A platform are rare. The streak of M&A can be interrupted by the reduction of targets, lack of cheap capital, and executive turnover among other factors. For MTBC, its M&A streak is unlikely to end before reaching a billion-dollar valuation. MTBC is executing in a mature, fragmented industry with few competing acquirers; not dependent on cheap capital for M&A; and having 49% insider ownership that strongly discourages turnover.