GoHealth Stock: Painful competition, cost control is key (NASDAQ: GOCO)

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GoHealth, Inc. (GOCO) was a bad call on my part, as I didn’t fully appreciate the competitive landscape and lack of profitability in the industry. The entire sell side had issued buy ratings and some analysts on the buy side touted the huge market opportunity. Health insurance brokers certainly have a large total addressable market, but the expenses required to attract customers are high. Over the past year, GoHealth, SelectQuote, Inc. (SLQT), and eHealth, Inc. (EHTH) have all posted stunning price declines:

GOCO Stock
Data by YCharts

I think this crash is an important learning experience that investors need to be very skeptical of companies thinking they can quickly outrun their costs. Leadership teams will present a compelling narrative, but recognizing when it can be executed to the extent they claim is another story. I frequently find companies that don’t meet these filters and put them in the “success” pile. Health insurance brokerage is clearly a growing industry, especially with GoHealth still delivering decent results and outperforming both SelectQuote and eHealth.

GoHealth Revenue
Data by YCharts

But the keystone was that management teams across the industry, not just GoHealth, were touting exceptional LTV to CAC ratios.

How is it possible ? Not everyone can have above-average customer value structures. To my credit, I’ve already pointed out this potential problem:

Of course, a degree of confidence in management is required here when looking at LTV/CAC as there is always some degree of error that can occur, which of course has implications for profitability at long term. That said, management and the street remain optimistic, although some still seem confused about the growth trajectory and overall opportunity.

Putting those industry peers to the side for a moment, the problem is that GoHealth, even at $1 billion in annual revenue, hasn’t reached the operating break-even point.

The cost structure

Q3 2021 earnings were pitiful with GAAP EPS of -$0.18, which missed the consensus figure of -$0.11, and that translated to a net loss of $20.2 million as well as a 9-month loss of $34.3 million. In other words, the losses accelerated as we approached the third quarter.

If we compare Q3 2021 to Q3 2020, we can see that by adding up commissions and net business revenue, and then removing the top three costs to get that revenue (also known as customer acquisition costs,” CAC”), i.e. the cost of revenue, marketing and advertising, and customer service and registration (i.e. mainly sales agent training), we can call this the adjusted gross profit. On a yearly basis, Q3 2020 adjusted gross profit was $21.8 million compared to $10.8 million in Q3 2021. This trend tells us that the cost of customer acquisition is increasing, at least today . With the job market and wages still hot, we can expect customer service and listing fees to remain high in the near term. GoHealth will need to retain its employees to remain competitive.

With that, Q3 2021 operating loss improved slightly to $48.6 million from Q3 2020 operating loss of $57.2 million, only a reduction in losses of $8.6 million despite consolidated revenue growing $48.4 million (30% year-over-year), and as technology costs were reduced by $27.9 million of dollars. For those wondering about the significant reduction in G&A, this was largely attributed to the reduction in stock-based compensation.

At this point, GoHealth still has some room to cut costs through technology and G&A expenses totaling $35.9 million per quarter. These costs have been high due to investments, but perhaps management will look to see if there is extra fat to cut. If an additional $10-20 million were cut, agents generated additional productivity gains, and if $23.5 million of intangible amortization costs are waived, then GoHealth goes from operating losses of 48 $.6 million closer to break-even profitability.

In the first nine months of 2021, EPS totaled -$0.14 and analysts are forecasting $0.76 for Q4 2021. I expect GOCO to miss given that the business has badly missed in the fourth quarter of 2020 ($0.12 vs. $0.46 expected) and also given that its cost structure has not improved much. Looking to 2022, analysts expect EPS to be $1.11. At this point, I think investors would be satisfied if annual EPS reached $0.50.

EPS estimates from GoHealth
Data by YCharts

Other issues

The other concern, however, is that the company’s chief financial officer has abruptly resigned, having been in the role for only eight weeks. This is unusual, and it could be related to the fact that the company’s balance sheet is under great pressure.

In the fourth quarter of 2021, the next quarter, it is possible that the company will end up having to reduce its goodwill given the poor performance. Goodwill and intangible assets were $1 billion and impairment charges could crush its book value:

Book value of GoHealth
Data by YCharts

As GoHealth lost money, its balance sheet also took a hit after issuing additional debt. Taking that into account, his net debt has fallen from about $215 million last year to $358 million.

GoHealth long-term debt
Data by YCharts

The company won an amendment on its debt and was able to reduce its effective interest rate slightly, but this growing debt balance is of growing concern. Once again, this year will be the time when management must prove not only to its shareholders but also to its creditors that it can run the business profitably, even on an EBITDA basis that stops the bleeding of Treasury.

BofA analyst Michael Cherny put it bluntly: “watching a competitive market that can limit earnings upside and the path to cash flow balance.”

A remaining hope

There is, however, a silver lining. Of the three health insurance brokers, GoHealth demonstrated by far the most insider buying activity. Since GOCO’s stock price fell below $5, the chief executive and chief strategy officer bought $6.5 million worth of stock on the open market. These stock purchases were mostly executed at an average price of $4.68 and $3.66 in the second half of 2021. I have seen instances where insiders will buy stocks in an attempt to improve investor sentiment and to signal alignment with investors, but it can also indicate confidence in a turnaround. The biggest distinguishing factor is the dollar value and having multiple executives doing it, i.e. are they putting real money on the table? That seems to be the case here, so it’s a silver lining for investors who are still holding onto their stocks.

Conclusion

GoHealth investor sentiment has been crushed, along with the rest of the health insurance brokerage industry, as achieving profitability does not appear feasible. It is entirely up to the management of GoHealth to prove that it can deliver much better bottom line results. Growth is now secondary and arguably much less relevant today. Unfortunately, GoHealth has become a wait-and-see story. What do you think? Let me know in the comments section below. As always, thanks for reading.

James V. Hayes