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Why Teladoc Health Is Risky to Own

Teladoc Health (NYSE: TDOC) operates a virtual healthcare service, delivered primarily through telephone and videoconferencing. Users receive medical opinions, treatment instructions, on-demand remote care, mental health support, and other medical services from the comfort of their own homes.

The company has posted excellent revenue growth figures, and the health stock has accordingly appreciated 167% since its July 2015 initial public offering, outpacing the SP by 116 percentage points. However, it has been a bumpy ride for shareholders. The stock’s 1.9 beta indicates high volatility, which is apparent when looking at the price chart. Teladoc‘s stock debuted around $30 per share, and fell to as low as $10 in 2016, then climbed above $86 in September 2018. A terrible Q4 2018 sent it plummeting to $44, but 2019 has allowed it to claw back to $79.

Sure, there’s a lot to like about Teladoc Health

Telehealth and virtual care are viewed by many analysts and leaders in the healthcare sector as emerging solutions that will drive efficiency and reduce overall costs. Medical professionals can see more patients and reduce their administrative burden. 

These services also reduce the need for the number and size of medical facilities, and patients are more likely to embrace preventative care and seek early help when the hurdles to receiving this care are lowered. The global markets for virtual healthcare and telemedicine are expected to grow nearly 25% annually over the medium term. 

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Teladoc is a leader in this space, and one of the first companies to specialize in these services. The company’s revenue has grown by an average of 75% each year, which has helped drive free cash flow to roughly break-even over the trailing 12 months. While Teladoc has not delivered net profits yet, it reported 67.5% gross profit year to date through the third quarter. That number should be large enough to overcome fixed expenses when the company achieves a sufficient scale and no longer has to invest so heavily in growth. 

As an incumbent and seasoned participant, Teladoc has the advantage of established relationships and contracts with major health plans and employee benefits plans, and it has built a network of doctors to service users. For bulls, there is a clear set of catalysts, steady demand, an economic moat, and a pathway to profitability.

Clear and present risks 

Teladoc‘s valuation is undeniably speculative. A stock with no history of positive net earnings and no forecasts to change that in the short term is difficult to evaluate fundamentally because most valuation metrics and intrinsic valuation methods rely on profitability measures that are nearly impossible to forecast. 

Teladoc currently trades at a price-to-free-cash-flow ratio above 1,500, which is essentially useless for analysis and merely indicates that the company produced a very low free cash flow. The stock’s price-to-sales ratio is close to 11, which is not only close to its all-time high but also more than five times the peer group average. Even if Teladoc were to swing to profitability in the near term, healthcare providers generally operate in a single-digit profit margin world, and the current stock price already assumes substantial operating success.

Growth investors are usually comfortable with net losses, favoring growth instead. However, any faltering in growth could be disastrous for its share price. Growth investors tend to quickly exit stories that appear to be moderating, and Teladoc has shown that there is plenty of downside volatility among its current holders. 

Even though the company has done well to date and is among the leaders in the space, there is still competition and concerns that Amazon could be testing the waters to enter the healthcare market. If Teladoc does not scale appropriately, then the bull narrative will start to unwind and the long-term profit outlook will be dealt a serious blow. Short interest around 25% indicates some serious expectations of downside volatility, though this is hardly a guarantee of future performance. 

It’s a question of volatility

In diversified, long-term investment portfolios, volatility often becomes functionally synonymous with risk. By owning several stocks, investors nearly eliminate the chances of a portfolio permanently losing most of its value. Instead, the primary risk becomes the likelihood that the portfolio is down at a given time, which becomes more probable with increased volatility

As such, highly volatile stocks like Teladoc require higher rates of appreciation to justify their inclusion or weight in a portfolio. It is therefore insufficient to construct a bull narrative focused on qualitative growth opportunities and potential stock appreciation. Teladoc undeniably has tremendous upside potential, given its place and in a growing market. However, the stock ne to outperform other alternatives substantially to make sense as a long position, which prospective investors need to consider when assessing an opportunity.

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John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. Ryan Patrick has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Amazon and Teladoc Health. The Motley Fool has a disclosure policy.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.