Edward Chang of Pledge Capital presented his investment thesis on Cano Health (US: CANO) at Best Ideas 2022.

Thesis summary:

Cano Health is a founder-led healthcare provider. The company invests in clinics that generate revenue from global capitation. This value-based healthcare model promises to disrupt healthcare, first in Medicare (~8% penetration), then in Medicaid (~4% penetration), and finally across commercial health insurance (~1.5% penetration).

Global capitation is a game-changing incentive system that pushes healthcare toward vertical integration. Providers become reinsurers of healthcare risk and, therefore, invest in preventative medicine, population health strategies, and care coordination to tremendous effect. These providers create tremendous value for consumers, reducing mortality rates, hospitalization rates, and improving the overall health of their members.

Cano has strong quality metrics. Patients give it Net Promoter Scores in the low 80s. Healthcare savings become Cano’s contribution profits. Clinics generate ~100% ROIs (contribution profits / build out cost until breakeven). There is a long pipeline to reinvest and expand the footprint. Recruiting affiliated physicians, who partner with Cano for technology and know-how, is another avenue for growth. Accretive acquisitions are another avenue.

The government is expanding global capitation into Traditional Medicare with the Direct Contracting program, and Edward believes this is an inflection point. It creates a path to higher ROIs at the clinic level. Direct Contracting shifts 60%+ of Medicare not covered currently into global capitation. This new program will help fill under utilized capacity. Most clinics generate ~100% ROIs and operate at 50% capacity utilization. Edward sees a path to doubling clinic ROIs, doubling the clinic footprint in two years, and tripling the footprint in four years.

Management expects EBITDA margins to increase from ~6.5% to 15-20% long-term. The shares recently traded for ~25x NTM EV to F22 EBITDA.

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About the instructor:

Edward Chang is the founder and Portfolio Manager at Pledge Capital. He is a graduate of New York University Leonard N. Stern School of Business. Before founding Pledge Capital in 2016, he worked on the sell side at UBS Equity Research covering consumer retail companies. Pledge Capital is an investment firm headquartered in New York. The firm has a flexible mandate but focuses on small and mid-cap companies. The firm seeks to identify and make concentrated investments in a select group of quality businesses believed to be at growth inflection points.