#20 LifeStance: A tale of Private Equity, M&A, lawsuits, and short sellers
What's going on with one of the biggest behavioral health providers in the US?
Hi friends,
Let’s play a game…
Can you guess the mental health business from these stats?
- 7,000 Clinicians
- $2.6bn valuation
- $1bn revenue in 2023
- 6% Adj. EBITDA Margin in 2023
It’s not Spring, Grow or Alma.
It’s not Talkspace or Lyra either.
It’s a company called LifeStance, a US based mental health provider that has been traded as a public company since 2021. And a lot of people have never heard of it.
Before I started diving into this company, I had no idea how interesting their story is.
They’ve acquired nearly 100 mental health practices, grown to over a billion in revenue, been involved in a $50m lawsuit settlement and are now the target of a short selling campaign by Hindenburg Research.
Wild.
“Wait” you say, “aren’t LifeStance just a traditional mental health provider? I thought this newsletter was for people building startups and innovative new businesses.”
Well, you are right.
But don’t you want to understand what one of the biggest players in the entire US mental health system is doing?
Don’t you want to see what their financials look like and learn from their successes and failures? What’s more, it’s these big guys that often offer partnership or even acquisition opportunities to startups like yours.
I promise you, I wouldn’t write about it (and spend dozens of hours researching it) if I didn’t think it was helpful…
As usual, I’ve been knee deep in their S-1, quarterly reports, investor presentations and pretty much every piece of content I could find about this company. They’re a major player in the US mental health system and today, I share everything I’ve learned.
We’ll discuss;
- The LifeStance origin story: The thesis and Private Equity funds behind this business
- Hypergrowth: how they went from zero to over a billion dollars in revenue in eight years
- Shift to Sustainability: How LifeStance pivoted towards profitability, what their financial performance looks like today and what we can learn from it
- Bear Case: Why Hindenburg Research are shorting LifeStance
- The Future: The long term strategy for LifeStance
Let’s get into it!
1. The LifeStance origin story:
If you want to understand LifeStance, you have to understand their origin story. The man at the centre of that origin story is Michael Lester. He’s a seasoned healthcare exec and in 2015, he had a thesis around creating “a national platform of behavioral health providers”.
It was a pretty classic roll-up play with a straightforward strategy; get a bunch of providers on board (through acquisition or building new centers), use that to negotiate deals with payers (bigger deals and higher rates), grow to a point where you achieve high operating leverage (i.e., the gross margin generated from centers is significantly more than the opex needed to run the national business). And then, profit. Simple right?
But to pursue this strategy, they needed capital. A lot of it.
So they partnered with Summit Partners and Silversmith Partners (two PE firms) who put a whopping $250 million into the business. The plan was to use this money to go on a building and buying spree, gobbling up behavioural health centers around the US.
And that’s exactly what they did…
2. Hypergrowth
LifeStance really started their expansion in 2017 and didn’t hang around. By 2018, they had 125 centers, 800 clinicians and 930k patient visits. They continued this aggressive strategy, completing over fifty acquisitions, expanding their network to 370 centers and over 3,000 clinicians by 2020.
Their offering was pretty standard, a combination of therapists, psychologists and psychiatrists that could be reached both in-person and through telehealth. Their was very little focus on technology, with everything focused on just growing the clinician base.
They also made huge progress with payers. By the end of 2020, 89% of their revenue was derived from commercial in-network payers, 5% from government payers, 4% from patients on a self-pay basis and 2% from non-patient services.
You’ll see in the timeline below that in 2020 they completed a “majority capitalisation”. During this event, TPG Global (another PE firm) bought out a bunch of the original shareholders and acquired a majority stake.
In 2021, they went public and raised $720m in fresh capital. And it was just in time too. Their cash reserves were down to $40m and they were losing $49m a year…
Their story since IPO has been one of two chapters;
- Continued Hypergrowth. They used their fresh capital to continue acquiring and building centers through 2021 and 2022 - in 2022, they had grown revenues to $860 million. But there was a massive problem. They were burning through cash. In this same year, LifeStance had a net lost $220 million.
- Shift to Sustainability. Despite being well capitalised, there was no way LifeStance could continue to lose $220 million each year. Their share price had fallen by almost 80% since their post-IPO highs and a change of strategy was needed. There was a bunch of management changes including their COO and CFO and in September 2022 a new CEO, Ken Burdick, was appointed. Ken has brought a new strategy, focused on making LifeStance a more sustainable business..
3. Shift to Sustainability
Burdick’s strategy was based on 4 pillars;
- Closing underperforming centers - they closed 82 centers in 2023
- Cutting back on M&A and new centers - they stopped all acquisitions in 2023 and 2024 and will open less than 10 de novo centers this year.
- Refining its payer strategy
- Reorganising their operating model to increase standardisation and reduce costs
So, has this new plan worked?
Ehh. Kinda.
Revenue has continued to grow quarter on quarter, with LifeStance expecting to make $1.2bn in revenue in 2024. Their Center Margin has increased too (both in dollar and percentage terms).
They’ve managed to hold G&A expenses pretty constant, allowing the increases in center revenue and margin to fall to the bottom line, increasing quarterly Adjusted EBITDA to $29m in Q2 2024.
What’s driven these improved results? Honestly, it’s nothing crazy, just a move away from aggressive growth and towards operational efficiency (similar to the Talkspace story).
Closing underperforming centers definitely helped to increase their overall center margin.
Refining their payer strategy helped reduce overhead expenses. In 2022, LifeStance had over 400 payer contracts but 50% of these contracts accounted for only 5.7% of its patient visits. Culling these contracts allowed them to reduce the admin expense of maintaining them (and with negligible loss of revenue) - this is a lever any larger behavioral health business looking to increase profitability should investigate.
What’s impressive to me is that they managed to keep top-line growth strong during this period - revenue grew by 20% YoY in Q2 2024.
How did they do this?
By focusing on hiring more clinicians into existing locations and increasing clinician productivity - or as they call it “growing into our footprint”.
They now have almost 7,000 clinicians, most of whom are W-2 employees.
There’s one big benefit to LifeStance’s model compared to more digitally native competitors like TalkSpace etc. And it’s something I hadn’t really thought about before…
They spend almost nothing on patient acquisition.
In 2021, at the height of their growth phase, advertising spend was less than 2% of revenue. Because all of their centers have a presence in their respective communities, they get all their patients through referrals from Primary Care - this is a lever they are doubling down on in H2 2024, investing more in local Business Development efforts to increase referrals.
Some other insights from their recent Q2 2024 earnings report;
- They had 1.97m visits in Q2 (79% virtual, 21% in person)
- Revenue per visit was $159, a 4% increase YoY, primarily driven by payer rate increases.
- They generated $39m in free cash flow and ended H1 cash flow positive
- They have $87m of cash and $279m in net long term debt on the books
They are doing better, for sure. But although they’ve cut their net loss in half YoY, they still had a net loss of $23m in Q2.
So they are not out of the woods yet. And do you know what lives in woods?
Bears…
4. The Bear Case
There’s a question that’s probably on your mind; “is this a good company?”.
There’s an organisation called Hindenburg Research that will have a very clear answer for you, and that is a resounding “no”.
For background, Hindenburg Research is an investment research firm that focuses on forensic financial analysis. They’re known for publishing reports that reveal alleged financial irregularities, and then take short positions on the stocks of those companies. They’ve had some high profile reports on companies like Nikola, The Adani Group and Clover Health.
In February of this year, they published a piece on LifeStance - you can read it here - which outlines their strong negative views of this business
“We think LifeStance is a classic example of what happens when private equity meets a ‘hot’ healthcare sector: Massive debt fuelling a grinding, metric-focused corporate culture resulting in worse quality of care for patients, a worse environment for clinicians and long-term losses for the average investor. “
We should understand that Hindenburg have a vested interest here. They have a short position on LifeStance so are very much incentivised to make the public believe it’s a bad company. You can make your mind up for yourself, but here is the summary of their argument;
- LifeStance is a low margin, unsustainable business operating under a crippling debt load with no cash cushion and no realistic hope of profitability.
- LifeStance trades at a ~23% premium to its peers in the behavioral health industry (at time of publishing their article), despite reporting in its most recent Q3 ’23 report: $188 million in losses over the last twelve months, $482 million in debt and lease obligations and a $716 million accumulated deficit.
- They are in a poor cash position, continuing to produce net losses, and with substantial long term debt.
- Insiders and private equity backers have dumped $243 million in stock since the company’s 2021 IPO, with company management having sold $18 million since IPO .
- They claim LifeStance has challenges retaining clinicians, with their own primary research suggesting clinician churn is as high as 28%.
Perhaps the most interesting analysis is looking at the premium LifeStance was trading at relative to peers.
In the six months since Hindenburg wrote their piece, LifeStance’s performance has certainly improved. So I decided to redo the EV / LTM analysis for LifeStance and the three peers Hindenburg identified. Here’s what I found.
Compared to these three peers, LifeStance now trades at a ~65% premium to its peers (up from a 23% premium at the time Hindenburg published their article).
This change is primarily due to significant declines in the value of Talkspace and Teladoc and you could make an argument they are less comparable than Acadia (which have a more similar business model to LifeStance).
Either way, I’d love to know if Hindenburg are sticking to their thesis, doubling down, or if they’ve changed their tune entirely…
While I’m sure Hindenburg is a pain in the sides of the LifeStance management, all they can do is focus on executing on their plans for the future.
So what exactly are those plans?
5. The Future of LifeStance
The question I had was if the the focus on sustainability and profitability continue for LifeStance. The answer?
Short term, yes. Long term, no.
In the short term, they’re committed to achieving the three goals they outlined in 2023;
- Exiting 2025 at double digit margins
- Maintaining mid teens growth trajectory
- Positive cashflow by 2025 for full year (they've since moved that up and commit to achieving this in 2024).
And they’ve confirmed in recent earnings calls they are on track to hit those targets.
But long term, they want to get back on the growth train.
At the 2023 JP Morgan Healthcare conference Burdick told the crowd;
“What we’re really positioning this company for is, as we build out and fortify that foundation, [that] we will then set ourselves up for the next big growth run. Because there’s so much runway ahead of us, we want to be prepared for that.”
In the same presentation, he outlined the 3-5 year strategy for LifeStance.
This strategy leaves a few unanswered questions for me;
- What is the ceiling on operating leverage that they can generate? What sort of scale will they need to hit in order to achieve the sort of operating leverage that will allow them to deliver actual profits in the business.
- What sort of capital is it going to take to get there? How do they achieve that without having a massive debt burden?
- What are they doing to innovate and improve patient outcomes? They’ve pointed at a couple of small scale initiatives through the years but nothing that makes me excited.
I’ll be following this story closely over the coming quarters. In the battle between Hindenburg and LifeStance, there will only be one winner. I just hope they don’t forget about patients along the way…
If you liked this post, the best thing you can do is to share it with someone else. It would mean a lot.
Keep fighting the good fight!
Steve
Founder of The Hemingway Group
P.S. feel free to connect with me on LinkedIn
