HealthEquity, Inc.

Moat: 3/5

Understandability: 3/5

Balance Sheet Health: 4/5

HealthEquity is a leader in providing technology-enabled services that empower consumers to make healthcare saving and spending decisions, with a particular focus on Health Savings Accounts (HSAs).

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

Business Overview: HealthEquity is a leading administrator of health savings accounts (HSAs) and other related services in the U.S. Their revenue streams are primarily derived from:

  • Custodial revenue (fees on assets, account maintenance)
  • Interchange revenue (fees on transactions)
  • Service revenue (services and platforms).

The company’s mission is to help consumers optimize their healthcare spending and saving, offering services, tools, and a platform through their HealthEquity brand.

Industry Analysis

  • Industry Trends: The healthcare benefits industry is evolving, with increasing adoption of consumer-directed healthcare plans like HSAs. This trend is driven by a desire for cost control, tax advantages, and greater transparency.
  • Competitive Landscape: The HSA market is competitive, featuring a mix of established players like Fidelity, and newer entrants like Optum. There’s also increasing competition from banks and other financial institutions that are increasingly adding HSA accounts to their service portfolios.
  • What Makes HealthEquity Different: HealthEquity’s differentiation strategy lies in their proprietary technology platform and its focus on a full range of services. While most HSA companies act as a passive depository, HealthEquity is actively focused on helping consumers make better decisions and improve their financial well-being.
  • Margins: Healthcare benefit companies like HealthEquity typically enjoy better margins than some other tech companies. The business is inherently scalable due to the nature of the product with digital platforms and relatively low capex intensity.
  • Regulation: The healthcare and financial regulatory environment is very fluid and constantly changing. HealthEquity faces regulations both at the state and federal level, like HIPAA, COBRA, and tax regulations. This also includes the regulations related to HSA accounts themselves.

Financials:

  • Revenue Growth: Over the past years, HealthEquity has shown impressive revenue growth, which is largely driven by organic growth and strategic acquisitions. Revenue in FY24 was around $1 billion up from 800 mil in FY23.
  • Profitability: Due to high-recurring revenue, scale, and technology advantages, HealthEquity maintains a respectable profit margin, and is expected to grow further.
  • Cash flows: Cashflows from operating activities are positive and showing an upward trend reflecting the business model, and the company makes capital expenditures for growth and for improvements to technology infrastructure.
  • Debt and Leverage: HealthEquity carries a manageable amount of debt with a debt-to-equity ratio of 0.5.
  • Capital Structure: The company is financed primarily by equity, and has limited long-term debt, which gives it flexibility to raise capital for future needs.

Moat Analysis and Rating (3/5):

HealthEquity possesses a narrow economic moat, driven by several key factors that make its competitive advantage durable but not impregnable:

  1. Switching Costs: Once members and employers are on their platform, they are more likely to stay.
  2. Scalability and Network Effects: Network partners and an established tech platform that allows high integration with existing client systems.
  3. Proprietary Technology: The company’s technology, including its cloud platform and data security, is a crucial part of the service. This tech is hard to replicate.

However, competitors can still come in, but will likely have a hard time making the transition due to high costs. The narrow moat rating is also due to the intense competition in this space and lack of a clear pricing advantage. While high switching costs are present, it’s not insurmountable and a competitor could potentially offer a more innovative offering.

  • The scale of business and distribution network also play an important role in supporting the moat, but size alone is not as strong as other attributes in maintaining it.

Legitimate Risks That Could Harm the Moat and Business:

  1. Regulatory Changes: Changes in healthcare regulations or tax laws could have a major impact on the attractiveness of HSAs, which in turn impacts company revenue and profitability. For example, changes made by the government to the eligibility, contribution limit, or tax treatment of HSA accounts could affect their demand and therefore the business.
  2. Increased Competition: The HSA market is becoming increasingly competitive, attracting established players and new entrants, that could reduce HealthEquity’s profit margins. Smaller players will try to come in as prices are artificially high.
  3. Cybersecurity Risks: Cybersecurity breaches are another source of risk due to the huge amount of patient data that HealthEquity controls. Failure to protect this data could materially harm the company’s reputation and revenue. This is important because the data is very sensitive.
  4. Integration Risks: The company relies on acquisition for growth and integration risks could occur that reduce the combined company’s potential. Specifically, integrations can require long timelines to complete and there’s a risk of culture shock between employees.
  5. Technological Disruption: New innovative tech can quickly lead to more value for customers. This could be in any way of offering services such as through mobile platforms, or new approaches on how to approach the HSA market or other services related to it.

Business Resilience: Despite these risks, HealthEquity’s business model is resilient due to a few reasons:

  1. Recurring Revenue: Most of HealthEquity’s revenue is recurring in nature, giving the business stability. The money flows even in recessions and downtimes.
  2. Switching Costs: As mentioned, strong switching costs will make sure that users stay on the platform.
  3. Strong Customer Base: HealthEquity has a large customer base, which is likely to continue to grow given the increasing adoption of HSAs.
  4. Proven Platform: The company is a leader in its area and will continue to improve its platform.

Understandability Rating (3/5): The business of HealthEquity is fairly straightforward to understand as it involves the management of HSA accounts and related services. While it isn’t the most complicated business, the financial analysis can be a little difficult because of the way that the cash flow, operating profit, and other metrics are calculated.

Balance Sheet Health Rating (4/5): HealthEquity’s balance sheet is healthy, they have positive cashflows and moderate debt. The company isn’t overly reliant on debt for its operations and therefore it will be able to withstand downturns without material risk.

Recent Concerns and Controversies:

  • Impact of Economic Downturn The recent economic downturn has led to lower interest rates and a market decline. This in turn has impacted the average annual yield of HSAs, which lowers HealthEquity’s ability to generate good returns on their HSA business. This has also affected stock price, and some long-term investors have expressed concern about their investments.
  • Integration of Wageworks: The integration with WageWorks also continues to impact the overall business, as there are still challenges that remain with merging products and culture.
  • Rising costs: It is also likely that costs will continue to rise at HealthEquity, with costs of wages and capital investments likely to rise.

Management Commentary: HealthEquity’s management has addressed the need to grow both organic revenue and profitability while handling integration of large acquisitions. This means focusing on key growth drivers and finding synergies in acquisitions. They have also stated that they are focused on strengthening their technology platform and continue to grow their customer base. They are also actively addressing problems that have arisen due to inflation, economic downturns and have taken steps to counter the negative effects of these. The most recent call emphasized their strategic focus and how it will create value for shareholders. There was no mention or worry about the problems of previous periods. They also expressed the intention of moving forward with the current strategy.

The management also has confidence in the long-term growth potential, and believes that the market is underestimating their stock due to short term disruptions and will bounce back over time. They are working to improve the customer experience and create new partnerships to expand their growth and make the business more predictable.