Semler Scientific
FY 2021
By Manuel Maurício
March 11, 2022
On my last write-up I wrote “I think it would be reasonable to believe that the share price will languish, or even drop, in the near future.“.
Little did I know that it would be a bloodbath…
Note to self: in the future, when evidence suggests that a stock that I’m considering to buy will go down in the short-term, I should wait for it to happen.
Let’s find out if the drop in share price was warranted or if Mr. Market exaggerated in his response to the recent earnings release.
For a crowd of investors used to seeing revenue go up every quarter like clockwork, watching the revenue go down by -4% on a year-over-year basis and -18% on a quarter-on-quarter basis was too much.
The drop was due to a weakness in the variable fee revenue (mostly home-health). The management alleges that the pandemic came to change some of the dynamics of the industry, and that the At-Risk assessment companies pushed their work forward to the first half of 2022, hence the weakness seen in the third and fourth quarters of 2021.
The management also disclosed that, compared to December of 2021, the fixed-fee monthly licenses increased my approximately 1% (not that much) in January of 2022, while variable-fee revenue increased by 87% so it looks like the seasonality argument is indeed real.
Comparing January 2022 to January 2021, fixed-fee monthly license revenues increased by 13%, while variable-fee revenues increased by 6%.
Now, even this piece of information has caused some investors to voice their dissatisfaction with the management. They say that the management isn’t winning enough new clients and that the company is dependent on the same couple of big clients as before. Fair argument.
So the weakness in revenue, together with higher costs, led to a much higher drop of the Net Income.
But there was more to it than just bad results
The management finally disclosed the name of 2 of the companies in which it had previously invested. Remember that Semler had invested in 3 businesses?
Well, it looks like one of those 3 didn’t work out and Semler had to terminate the relationship leading to an inventory write-off of $2M. The same investors argue that this shows lack of control over its capital allocation strategy. They might be right. For me, it’s too early to tell. This is the management’s plan, to make small investments in several other businesses/products. Some will surely fail, but if they manage to find a similar product to QuantaFlo, the benefits are obvious.
The 2 other products are a glucose tracking software called Insulin Insights by Mellitus Health and an Alzheimer’s Disease diagnosis test called Discern developed by Synaps Dx. This is interesting!
Insulin Insights targets patients with diabetes and allows for precision dosing of insulin. 50% of adults in the USA have diabetes or are pre-diabetic!!! It looks like Mellitus Chief Medical Officer is one of the leading researchers of algorithmic dosing of insulin, having researched it for over 30 years. His curriculum seems outstanding.
When asked about whether their existing customers were looking to adopt this software, the management said yes, so I expect it to gradually become an important source of revenues for the company.
I’m still in the early stages of my research, but it looks like this software is top notch as it’s behind some of the most advanced glucose measuring technologies such as Abbott’s FreeStyle Libre and LifeScan’s (previous JnJ) OneTouch.
Now, I expect Semler to be selling the software to its existing customers so it won’t be needing to spend a lot on Sales & Marketing, but unfortunately, this doesn’t seem to have the same advantages for the health insurers as QuantaFlo. Whereas the insurers are paid more for each patient with PAD, they aren’t paid more for each diabetes patient so this seems to only help their profit and not their revenue. And even the benefit to the profit will only be felt in the long run so we’re probably not seeing such a rapid adoption as for QuantaFlo.
WHAT ABOUT THE ALZHEIMER’S DISEASE TEST?
Discern can diagnose early stages of Alzheimer’s Disease (AD) through a 3mm skin sample that has to be sent to their lab. The company states that the test has 95% accuracy in distinguishing AD from other dementias and that it’s the first autopsy validated test (it looks like you can only be completely sure that someone has Alzheimer’s disease after you open their skulls). This sounds amazing.
There are many technologies being developed right now targeting the diagnosis of AD. When I read about this company I immediately thought of Cogstate. But they are different technologies. Cogstate’s tests will tell you if there’s any cognitive impairment (be it AD or other dementia – it doesn’t distinguish them) and it can track its progress. As far as I understand, Discern can tell you if a patient has the disease, but I don’t know if it can track its progress.
Conclusion
There might be one more reason why the stock is down so much. Aravt Global, a famous small and mid cap hedge fund from the US, just announced that it’s closing doors due to “it’s inability to drive superior returns” (the truth is that Yen Lion, the Chief Investment Officer, was tired of running other people’s money). They owned 215 thousand shares of Semler. It is possible that their winding down their position and that’s creating a selling pressure pushing the stock price lower.
Having said all of this I don’t think that the original thesis has been impaired in any way. There’s still a long runway for growth from QuantaFlo, and the 2 new products seem to have great potential.
The company is currently worth $292 million. It will likely be making anywhere between $15-$20 million in profits in 2022, so we’re talking about a Price/Earnings ratio of 14x-20x. This is cheap and makes me want to buy even more stock.
Unfortunately, Semler Scientific suffers from 2 big risks that prevent me from adding to my position: 1) just like ProDex, sales are concentrated in 2 major customers. As I’ve mentioned before, this is a real risk. 2) the current business is completely reliable on the Medicare reimbursement policy. If the policy were to change, bye bye business.
As the company keeps growing and, hopefully, diversifying its customer base and product offering, I might add to my position. For now, I’m happy holding it for the long run. I just would like to have waited for a couple more months to be buying it right now. Live and learn.
Semler Scientific will remain in the All in Stocks Portfolio.
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