IPO Launch: Oak Street Health Makes Bid For $250 Million IPO

IPOStreet

Oak Street Health (OSH) aims to raise $250 million from the sale of its common stock in an IPO, according to an amended registration statement.

The company provides healthcare services to Medicare Advantage patients and others in the United States.

OSH is operating in a large and growing market, is making a turn toward operating breakeven and continues on a steep revenue growth trajectory.

Chicago, Illinois-based Oak Street was founded to develop an integrated, personalized approach to health care services for Medicare-eligible persons using a value-based capitation contract revenue model.

Management is led by co-founder and Chief Executive Officer Mike Pykosz, who was previously Principal at the Boston Consulting Group.

Below is a brief overview video of Oak Street's approach:

Source: LivingHealthChicago

The company is paid on a per patient, per month basis, creating a recurring revenue stream model that management believes incentivizes it to focus on 'interventions that keep our patients healthy' while capturing cost savings as a result.

Oak Street has received at least $545 million from investors including private equity firms General Atlantic and Newlight, and Humana (HUM).

The firm obtains new patients through its network of 54 medical centers in 13 markets across 8 states.

Oak Street currently cares for about 85,000 patients 'of which approximately 65% are at-risk and approximately 35% are fee-for-service, although fee-for-service accounted for less than 1% of our revenue for the three months ended March 31, 2020.'

Sales and Marketing expenses as a percentage of total revenue have been trending downward as revenues have increased.

The Sales and Marketing efficiency rate, defined as how many dollars of additional new revenue are generated by each dollar of Sales and Marketing spend, rose to 7.1x in the most recent reporting period.

According to a 2017 market research report by LEK Consulting, the U.S market for Medicare Advantage is advancing toward 70% penetration rate among seniors by 2040.

This represents an expected average rise of 1.5% per year from 2010 to 2040.

The main drivers for this expected growth are predictability, more benefits, care coordination and lower annual healthcare costs.

Also, the federal government encourages the plan because it focuses on cost trend management and not fee-for-service.

Major competitive or other industry participants include:

  • ChenMed
  • Iora Health
  • Health system affiliated practices

Oak Street’s recent financial results can be summarized as follows:

  • Growing topline revenue
  • Increasing gross profit and gross margin
  • Reduced operating losses
  • Increasing cash used in operations

Below are relevant financial results derived from the firm’s registration statement:

oakpl

Source: Company registration statement

As of March 31, 2020, Oak Street had $226.3 million in cash and $355 million in total liabilities.

Free cash flow during the twelve months ended March 31, 2020, was negative ($88.3 million).

OSH intends to sell 15.625 million shares of common stock at a midpoint price of $16.00 per share for gross proceeds of approximately $250.0 million, not including the sale of customary underwriter options.

Assuming a successful IPO at the midpoint of the proposed price range, the company’s enterprise value at IPO would approximate $3.4 billion.

Excluding effects of underwriter options and private placement shares or restricted stock, if any, the float to outstanding shares ratio will be approximately 7.12%.

Per the firm’s most recent regulatory filing, the firm plans to use the net proceeds as follows:

We expect to use approximately $86.2 million of the net proceeds of this offering to repay outstanding borrowings, including fees and expenses, under our Loan Agreement, under which $80.0 million in principal amount was outstanding and which had an interest rate of 9.75% as of March 31, 2020, and the remainder of such net proceeds will be used for general corporate purposes.

Management’s presentation of the company roadshow is available here.

Listed underwriters of the IPO are J.P. Morgan, Goldman Sachs, Morgan Stanley, William Blair, Piper Sandler, Baird and SunTrust Robinson Humphrey.

Commentary

OSH is seeking public investment capital to pay down some debt, but most of the IPO proceeds will be available for the firm’s expansion plans.

The company’s financials show strong topline revenue and gross profit growth, reduced operating losses but increasing cash used in operations.

Sales and marketing expenses as a percentage of total revenue have been lower in the most recent reporting period while its sales and marketing efficiency has improved.

The market opportunity for providing healthcare services via the firm’s capital contract model has some promise, although I wonder about how patient care will fare over the longer term when service providers such as OSH only receive a capped amount so the firm is potentially incentivized to provide lower service quality over time.

J.P. Morgan is the lead left underwriter and IPOs led by the firm over the last 12-month period have generated an average return of 64.4% since their IPO. This is a top-tier performance for all major underwriters during the period.

As a comparable-based valuation to a basket of publicly held Hospitals/Healthcare Facilities firms as of January 2020 which indicated an EV / Sales multiple of 1.63x, management is asking IPO investors to pay an EV/Revenue multiple of 5.25x at IPO.

This is quite a premium, however, the firm’s revenue growth rate, at 71.91% over the trailing twelve month period, is likely far higher than that of the basket of hospital operators.

Given the large market, OSH’ growth trajectory and turn toward operating breakeven, my opinion on the IPO is a BUY at up to $16.00 per share.

Expected IPO Pricing Date: August 5, 2020.

Glossary Of Terms

(I have no position in any stocks mentioned as of the article date, no plans to initiate any positions within the next 48 hours, and no business relationship with any company whose stock is mentioned in this article. IPO stocks can be very volatile in the days immediately after an IPO. Information provided is for educational purposes only, may be in error, incomplete or out of date, and does not constitute financial, legal, or investment advice.)

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