Disruptive Healthcare Valuation Multiples in Today’s Bear Market
What is a fair valuation for a healthcare startup today? That’s a great question. I’ve been trying to answer this for our 43 portfolio companies at What If Ventures as well as for our investors recently as the capital markets continue remain choppy.
Let’s take a look at the public comps to see where valuations have been, where they are now and where they should be as they normalize over time.
Current Valuations
Disruptive healthcare companies are trading at an average of 2.5x their next twelve months (NTM) revenue today in the public market. This is considerably lower than where they were a year ago, and where they have traded on average historically. However, the “historical” data we have to rely on is somewhat thin.
I believe the fair valuation range over the long run should be in the 6.0x to 7.5x NTM revenue ballpark. Let’s dig in and let me explain how I got there. We can start with understanding who the peer companies are and how they have performed versus the broader market.
Disruptive Healthcare Peers vs. the S&P 500
There are 15 public companies we are focused on as Disruptive Healthcare Peers. I built this list by following the public companies the equity analysts tracking companies like LifeStance and One Medical are using as comps.
This peer group has traded down nearly 60.1% over the last 12 months versus the S&P 500, which is down 4.3% over the same time period (first chart below). However, over the last three years, for the bulk of the time, the Disruptive Healthcare Peer group outperformed the S&P 500 until the summer of 2021 at which time the index turned south. It has since underperformed the broader market, leading to a three-year return of negative 44.7% versus the S&P 500 which has returned 41.7% over the last three years (second chart below).
Peer Index companies include: Teladoc (Ticker: TDOC), GoodRx (Ticker: GDRX), Oak Street Health (Ticker: OSH), American Well (Ticker: AMWL), One Medical (Ticker: ONEM), Health Equity (Ticker: HQY), Progyny (Ticker: PGNY), Phresia (Ticker: PHR), Accolade (Ticker: ACCD), Health Catalyst (Ticker: HCAT), LifeStance (Ticker: LFST), Hims & Hers (Ticker: HIMS), Signify Health (Ticker: SGFY), Agilon Health (Ticker: AGL), Privia Health (Ticker: PRVA)
Valuation Multiples — Over Last 12 Months
The single biggest question facing my business today is what valuation multiple is the right one to use when pricing private financing rounds in this space. Since startups typically don’t have mature EBITDA margins (or any EBITDA at all), we have to look at revenue multiples.
Twelve months ago, the average EV / NTM Revenue multiple in our space was 9.9x. Today, that number is 2.5x. I believe that 2.5x is far below a market multiple and that the market will correct. What does a correction look like? It means the market will revert to the mean, which I believe is closer to the range of 6.0x to 7.5x. In order for that to happen, either the numerator (valuation) has to increase or the denominator (revenue estimate) has to decrease.
I like to look at LifeStance more specifically because I’m heavily investing in mental health startups and LifeStance is one of (if not the only) pure play public company we can lean on as a comp in our space. LifeStance is trading in line with the broader peer group now, and has seen a significant multiple contraction since its IPO in 2021 and a peak revenue multiple of 15.6x shortly after IPO.
I’m hopeful that the coming valuation correction is a function of the market gaining its footing while the numerator (valution based on stock price) goes up. However, my fear is that revenue estimates will start reflecting lower expectations which will bring the multiples up as the estimates contract without the stock price having to trade up at all.
Valuation Multiples — Over the Last 3 Years
Things get a bit more interesting when we zoom out and look at valuations in this space over the last three years instead of simply over the last 12 months. You can start to see some key trends. For instance, this chart below shows us that the average EV / NTM Revenue multiple over a longer time is 8.0x, which includes a longer time period where the valuation held at that level without deviating too far from it.
A couple things to note here when looking at this chart:
1) Only TDOC and HQY have been public for three years or more. The other names all went public in the last couple of years which is when the index spiked and then dropped off.
2) The giant step up in valuation you see in October 2020 was when GDRX and AMWL went public at 30x and 27x NTM multiples, respectively, while the rest of the market was trading at 7.5x just before these IPOs in September 2020.
This begs the question of what this chart would look like without those two “shocks” to the peer index in 2020. If you run this same chart but exclude GDRX and AMWL, you get a 4x lower peak and a smoother incline up to that peak as well as a three-year average valuation closer to 7x than 8x. (chart below)
Valuation Multiples — Over the Last 5 Years
Now, let’s look at the original public companies in our space (TDOC and HQY) over the last five years. This chart starts to really give us context on where we are in the market with visibility into the cycle.
Are we at the bottom for digital health valuation? Maybe? The question is what variable changed — is it the numerator (valuation) or the denominator (revenue)?
According to the analysts, revenue is going up and to the right for this peer group. Only one company in the peer group has a lower NTM revenue forecast today than it did 12 months ago, and that company is AMWL.
Conclusions
1) A fair multiple in this space seems to be between 6.0x and 7.5x NTM revenue. Today’s multiple of 2.5x for high-growth disruptive healthcare names is oversold (or the revenue estimates need to come way down). I would argue that startups in our space should be anchoring their valuations to the long term average. However, the real question there isn’t about the multiple, but rather, how believable is the forecast?
2) The long-term valuation chart in this space shows us at a trough in valuation, and we’ve repeated this cycle twice now at almost exactly the same peak and trough. This gives me confidence that valuations will revert to the mean. We can’t say exactly when, but we do know that the market moves in cycles and those cycles do repeat themselves.
3) If you are a private company in this space, I want to echo my advice from this article back in January 2022 as nothing has changed since then other than the market finally realizing what we knew was coming. My recommendation is to hoard cash, cut burn, and do your best to not raise money out of desperation. The biggest variable you face right now is the duration of this market environment and whether or not you can avoid raising capital while valuations are contracting.
About the Author: Stephen Hays — After decades of addiction and struggling with bipolar disorder, Stephen was fortunate to receive help and has focused his attention on funding solutions to the problems he lived with. You can read more about his story here.
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