Semler Scientific
should I buy the dip?
By Manuel Maurício
May 13, 2022
Semler is down 60% since I bought it for the Portfolio. To break even, the stock must go up 150% or 2.5 times.
And note that when I bought it, it had gone down 48% from its all-time- high. It reminds me of the investor who is about to buy a stock after it had crashed and asks “The stock has already fallen 80%. How much can I lose?“. Huh… 100%?
But as you might suspect by now, the current crash is punishing both good businesses as well as bad. The question then is “did Semler suddenly become a bad business?” Let’s take a look.
Financials
Revenue is back up from a dismal first quarter…
…mostly due to the rebound in the variable-fee segment. I’d like to understand why the fixed-fee revenue isn’t going up given that there’s little churn and the company should be signing new contracts 🤔.
But although the revenue has picked up and the gross margin is back to where it was…
…the operating margin is still much lower than before. The management attributes this to increased spending in salaries in preparation for future growth.
But I want to go back to the gross margin for a minute.
The management is aware of the high customer concentration so they’re going after direct sales to primary healthcare providers (hospitals and clinics). Although this is a harder route because it involves having their own sales teams, I applaud the effort.
It’s only natural that the gross margin will decrease in the future due to the bargaining power of their customers. This is a reminder of why I should demand a higher discount when looking to invest in companies with high customer concentration.
Fortunately, and unlike what happens with other companies of the Portfolio such as ProDex, Semler has 92% gross margin. Losing 5% wouldn’t be as big as for a company with 30% gross margins.
To diversify, the company has been investing in new products.
New internally developed product has huge potential
Semler has expanded the use of QuantaFlo to aid in the identification of another cardiovascular disease. While we still don’t know which disease it is, the management estimates the market opportunity to be as big as for PAD.
They suggest that it can also be paid for by Medicare Advantage, which should drive wider adoption. The company submitted a clinical study that is currently under review so it shouldn’t take long for us to know what the disease is.
Another big study
In February 2022, Optum Labs – owned by United Health, Semler’s largest customer – published a clinical study that used QuantaFlo to screen undetected and asymptomatic PAD over the last 3 years.
In this study 13.791 patients were tested and 31.6% had PAD. In those who screened positive, there was an increased risk of 60% to 70% for all-cause morbidity at the end of 1 year and 40% to 50% increased risk of all-cause mortality at the end of 3 years.
This is great news as Semler will be using the study as a marketing tool for potential clients.
Insulin Insights
While researching DaVita, I’ve been learning about the healthcare system in the US.
Health insurers can earn cash bonuses under Medicare Advantage coverage if they perform a variety of preventive exames (it’s called value-based healthcare). One of those exams measures the glucose levels in the patient’s blood. The lower the glucose levels, the more points the insurer earns. This incentivizes it to keep its patients healthy – who said that healthcare in the US was bad?
Semler’s largest customers – United Healthcare and Humana – have earned the most dollars in bonuses (left column on the image below), but they still can earn more on a per-patient basis (middle column) so one should expect that they’ll be adopting Insulin Insights.
On top of that I have a note on my Excel file saying “The insurers can get paid more if they can prove that a patient’s PAD was caused by diabetes.” But I don’t know where I’ve taken it from so I can’t attest to its validity.
However, Semler’s latest Annual Report states “We believe that this software product (Insulin Insights) will be of interest to our existing customer base, as well as help us to expand interest in QuantaFlo to additional customers“.
Why else would it help expand the interest for QuantaFlo? It indeed seems that Semler is using a combo of Insulin Insights and QuantaFlo to allow for their customers to get higher reimbursement payments.
I’ve asked the management to clarify this point and they told that they don’t teach reimbursement. Thanks for the help.
Conclusion
Pressured by shareholders and analysts, the management recently announced a share repurchase program of $20 billion. But no shares have been bought back yet – which is weird. Because you only announce a share repurchase program if you feel that the share price is low compared to some idea of intrinsic value. Why announce it and not using it? That’s what the investing community has been complaining about.
I haven’t seen one investor satisfied with the management team recently. The company drop-feeds the information and the top management seems to be acting against logic. They haven’t bought shares themselves and they haven’t bought shares on behalf of the company. Why?
Circling back to the question of whether anything has changed that made Semler a bad business, apart from the stagnant revenue from the fixed-fee segment, No. Nothing has changed since my initial write-up.
But there’s an issue. When a stock that I own falls 60%, I feel an urge to buy more. And Semler is currently trading at 15x earnings. But in Semler’s case, I can’t buy more due to the reasons that I’ve just mentioned.
Which leads me to realize that, although I imagine myself buying the dip for every stock that I own, I won’t. Especially with micro-caps. What will make me get comfortable buying more will be execution. So, until I see the managers execute, I’m not buying the dip.
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