HealthEquity, Inc. (HQY) Earnings Call Transcript & Summary

Good morning, everyone. Welcome to the JPMorgan Healthcare Conference. My name is Annie Samuel, and I'm the health care technology and distribution analyst here at JPMorgan. We're really excited to have HealthEquity presenting. This morning, we've got CEO, Jon Kessler; and Founder, Dr. Steve Neeleman, which is a nice treat. We'll have Jon do the presentation and then afterwards, we'll take Q&A from the audience. If you have a question, please raise your hand. There'll be a microphone circulating the room. So with that, let me turn it over to Jon.

Thank you. I'm not trying to be pithy. Yes pithy, I think pithy is good. I'm not sure, but brief so that we have plenty of time for Q&A. So get wrapped up for the Q&A. I think this is -- I want to say, first, thank you to JPM genuinely. Someone pointed out to me yesterday that this is our 10th year here, and it's pretty cool. And as I go through this, there will be a few callbacks. But the good news about having been here 10 years and having had the same strategy for a very long time is that we don't really typically have to introduce us ourselves. You all know who we are. We're the market leader in health savings accounts and in other associated consumer-directed benefits, and these are some of the data that show that. Next slide, please. Over that period of time, what we've done is we've outperformed our market, and we continue to have the opportunity to outperform a market that is good, strong, has proven itself quite stable through recessionary environments and has done well in good environments. Our view is that from a revenue perspective, the market that we sit in is our core market and HSA is going to grow around 10% from a revenue perspective, and we -- our view is that within that segment, we can continue to outperform it. What -- the news that we have this week is that we have given an initial look at our fiscal '23 sales results. As many of you know, we are a January 31 fiscal year, so that we can confuse you as well as us -- and so we're giving you a look into the results of the year that for us is just now ending. And these numbers are those results rather than walk through them, I'll say simply that the summary is, if you look at our HSA business, the key numbers are all up in the 10%-plus range. And this year has been in the absence of the interfering effects of material acquisitions and the like. So really good, strong, solid organic growth and what obviously has been a good year for us. And that looks even better when you look at new HSA openings. So this is kind of our key metric for the future. And as you can see, these numbers have gone up over the last few years. Of course, we have benefited from the job creation that has occurred in the last 2 years, and I wouldn't want to fool anyone in that regard. But fundamentally, I think what we benefited from is a strategy that we began implementing now more than 5 years ago. I don't know. It's been a while, around being able to reach more employers and then ultimately, more members where they are through our distribution partners. So the rest of the sort of highlight of this presentation is highlights maybe strong. But the core of this is why did we do that? Why have we outperformed over the course of a number of years? And why does it appear as though looking at this year that's now ending, we will have again as we've done for the last decade, gained market share. And so this is my first call back to 10 years ago. We had the benefit of some JPM investment bankers who if they're not in this room now because they've all gone off to private equity and been replaced by the next generation funny, but true. And so -- but we had their benefit in designing a wonderful presentation that would that explained how we would outgrow the market. And we're really in addition to our Purple service that we're very proud of and that we deliver. There were 2 other core components. The first of those was what we felt was a really differentiated approach to distribution and we called it B2B2C. We've neglected to have the lawyers copyright that. That was unfortunate but that would have been a major source of revenue had we done so. But we looked at it then as kind of a pyramid, right, where we have partners are strong. We really work hard at our relationships with our partners at our technical integration, our business integration and so forth. That helps us reach employers, right, which who, in turn, help us engage deeply with our individual members, of whom today we have almost $15 million. And we talked about it like a little bit of a pyramid, right? What's actually happened is exactly what we said, except that today, we understand it to be more of a virtuous cycle, the virtue being that we get strong retention and strong growth within our existing business. And so we're going to talk about each of the components a little bit our partners, our employers and then our engagement with our members, and hopefully, you'll enjoy that. So starting with partners. Last year, meaning what for us was fiscal '22, right, we had a really strong year in terms of both adding new partners and then bringing new product on shelf with existing partners. And that was a major contributor to our sales success this year. One of the things that we did last year, for example, is we acquired a business called further from Blue Cross Blue Shield of Minnesota, and a key asset of that business was relationships with 8 additional Blue Cross Blue Shield plans. Spanning the country, which really kind of cemented our leadership within that space, and I think gave the Blue system as a whole confidence that -- we were kind of here to stay. There's also things we passed up on that would have, I think, underline that confidence. And in any event, the result of our strength with our partnership, if you really look at our sales, 75% of our sales were with our partners this year of our new logo sales and 50% -- I'm sorry. And if you look at the win rates, right, it's not surprising, our win rates are 50% higher when we are selling with our partners. And so we're very focused on this strategy. It is how we do business. It's not that we don't go into the field. We are not a -- we sell software and sit in the back row with our computers, and I don't want to type on this computer because I don't know what will happen. But that's not what we do. We're in the field, but we are in the field with our partners in most of the major transactions and many, many, many small employer transactions that we do. And so that helps us reach our clients and gives us the opportunity to engage deeply with our clients. And I think a second contributor this year was the depth of engagement we had with our clients. And here is an example of that, that I have to say -- I'm hoping you'll ask questions about that Steve can answer because I was intimately involved with this. Pfizer -- people talk about the HSA market and they're like, what inning are we in, et cetera, et cetera. And we'll say we're in like the fifth inning and people say, but doesn't everyone have HSAs. Well, they don't. Pfizer, as an example, has never had an HSA before for this year, right? Well, why not? The answer turns out to be that Pfizer was concerned about 2 things. One was the equity implications right? And the second was they're a pharmaceutical company. They're not like so keen on high deductibles yes, kind of a supposed to be a laugh line -- it's fun. It's a little fun. I mean it's what passes for funny for me. So we worked really deeply with Pfizer to design a product that had a really strong equity component, meaning a really strong component of having to balance and if you want to ask Steve will tell you how we did that and then work really hard on the communications and the inclusiveness of the communications. Right? And the result of that was in its first year, this thing really blew it away, right? One in 3 Pfizer colleagues I think on colleagues? Yes. 1 and 3 Pfizer colleagues enrolled in this product this year. As a health plan, right? And if you look at their -- in their world, they look -- take the inclusiveness very seriously. They divide things by income. They look at gender and so forth. And an interesting fact is that enrollment was very consistent across the income groups, 37%, but that 1 in 3 number translated to 37% even within their lowest income tier. So pretty cool. So deep integration with our clients and deep engagement with our clients translates to deeper adoption and engagement with our existing clients and with their -- and ultimately with their members. And there are sort of 2 flavors of this. We've talked about what -- this is what we call MAX enroll. We've talked about it a little bit over the course of the year. Flavor one is, let's call it, the bespoke version where we're working with individual clients, tailoring messages to their situations, et cetera. And we had this year, and again, as a major contributor over 4x the adoption of our bespoke MAX enrolled product that we had last year. The second component and one that I think is even more interesting going forward is that this is the first year we started to give a shot at how do we kind of productize this thing and roll it out to our -- we have 120-odd thousand clients, how do we roll it out more broadly. And so we rolled out more of a digital -- a purely digital version of this thing -- and I was shocked at the level of uptake over the course of November and December. And for those who heard us in December and heard us speak confidently about our HSA enrollments, that was the thing that made me feel confident that clients in a period where they don't have a ton of wins to deliver. There's -- we're all looking at recession and so forth. Really amped up what they were doing on education, and we were able to deliver that in a scalable way. Again, a major contributor during open enrollment to our performance in Q4, in particular. And then lastly, here, we've been able to continue to engage with our members on an ongoing basis to deliver value. This has been a tough year for HSA balances, industry-wide reporting balance declines for the first year ever, right, average balance declines. Well, why? Because in the context of inflation, you get lower savings rates, you get lower savings rates you get lower balances. We were actually able to grow our balances based on our last quarterly reporting over the course of this year. And we're really proud of that to be able to do that within a highly inflationary environment to keep people focused on saving and saving for the long term. And that's notwithstanding the fact that 1/3 of our invested HSA assets are invested and you all know what the markets did this year. Okay. So that's why we were successful this last year. I now want to talk about -- a little bit about going forward. The second advantage that we talked about 10 years ago, the first was our unique approach to distribution and kind of cascading engagement, right? The second was technology that supported a very diverse ecosystem consultants or bankers, you got to say ecosystem. And we did say that, and there was like logos on this slide and all kind of cool stuff. Going -- and it's been effective. It's been very effective. It's made us a good partner, and it's allowed our members to do things like I can check my claims from the Health Equity site not just my health equity claims, my insurance claims, I can look at what I should pay maybe shouldn't pay, maybe should wait on, right? We can -- we've been able to drive a little bit of engagement, et cetera, right? That's nice. That's for me. But going forward, our real opportunity going forward here is by virtue of the investments that we have made and we'll continue to make in the cloud, right, in other areas and of course, in security, our view is that going forward, we have the opportunity to turn this what has been a competitive advantage in selling and in delivering more value into something that can actually help us drive both revenue and cost on the income statement. And all of that starts with collaborating with an increasingly diverse ecosystem out there. We all know this Annual comes to this conference. There are more and more companies out there trying to target consumers looking to do things, looking to engage with consumers for value. But it all starts with leveraging that growth in that ecosystem for the benefit of our consumer, right? Historically, that's been very transactional in nature. Right? Going forward, our hope and expectation is that we will be able to use the -- to use the investments we've made technologically to have this drive both cost and revenue. Let me talk about what I mean by that. Today, with a few examples. Today, we have 15 million members in most of our members, we are literally in their wallet. Like there is a piece of plastic in their wallet, right? Some of you probably have one. [indiscernible] don't -- that's great, right? But actually, a way to look at it is, that's actually from a cost perspective, that's a source of friction, right? We had to get you that piece of plastic. If the plastic arrived late, you called us right? If there was a decline on the plastic because you didn't know your balance and/or it wasn't worth your time to check, right? That's all friction, right? The technology that we have access to today that we can embed in today can allow us to eliminate that friction. We can get that card quickly on to your mobile, you can start using it and so forth. Similarly, many of you have probably filed a claim with us if you're in one of our FSAs or whatnot, right? The technology that we have today can allow us to get to a place where you take -- today, you can take a picture and that goes to our claims world. Tomorrow, it's going to be your take a picture that's going to be instant and it's going to be, okay, where do you want us to send the money. You want us to keep it in your health equity wallet. Do you want -- in your health equity component of your wallet, do you want us to send it to you by Venmo, what do you want right? So the first element of this is going to be about eliminating friction. And that reduced costs, particularly when you look at the fact that if you look at our service line that we report and the expense component of that, some of that is wonderful education for our members. We love that part, but a lot of it is friction, right? That's the cost side. On the revenue side, though, there's more that we can do and more that other ecosystem partners want to do with that component of your wallet. It boils down to more transaction opportunity right? More opportunity to capture more spend of our existing members and then more opportunity to provide value to people, even people who don't have an HSA don't have an FSA, et cetera, commuter, but our employees, of our partners and clients. And so this is a little bit forward. You'll hear more about this over the course of this year and next, right? But what I want to leave you with is the idea that we are kind of graduating from an ecosystem that to put it very tactically is -- was built originally on flat files going back and forth. People at this conference talk about integration. What integration usually means there's a bunch of flat files. That's great, but it doesn't really allow us to add value or truly reduce friction, right? Two, an integration that's based on that's in the cloud that's leveraging both APIs and AI, I am into the jargon now, to do things that are really valuable to leverage our extraordinary member, client and partner base. I've gotten to -- was that like Slide 10, and it almost 10 minutes and more than that actually, and really happened here. And I didn't talk about rates. Yet once. And the reason I can talk about rates is because our goal 10 years ago was not to turn everyone who follows us into bond analysts or macroeconomic forecasters, a goal at which we have failed. Clearly, yes. In fact, there may be some people in the room who are bond analysts that are economic forecasters. But we wanted to show you this to kind of like step way back and make a simple point, which is that if you look at what we promised on this topic years ago, it was a level of stability. And in fact, that's what we've delivered. And so looking forward, yes, right, the peak of this rate cycle will be higher because the peak of the underlying rate cycle is already higher, right? Yes, that's true, right? Do I know exactly what the peak will be no. Do I know it will be a few years from now based on what we know in terms of our yields? Yes, right? But in any case, we will manage this to stability, up, down, sideways and so forth. And we told you we would do that 10 years ago, and it's exactly what we've done. And we have been able to add value there by things like our enhanced rates program that really did for the custodial line or is doing for the custodial line, what we hope to do for the other lines of revenue with some of the things I talked about earlier. Okay? What all that stability has allowed and that growth has allowed is it's allowed us to consistently offer you beats and raises, and these are the ones from this year, and this is where we are, and I'm obliged to show them and then for fiscal '24, our early look that we were able to deliver this year, sort of boils down to double-digit revenue growth and earnings growth that's substantially faster than that. That's pretty good. And that builds on a foundation of what we've been trying to do over the course of a decade. So this is my last call back is this was the first slide of our presentation 10 years ago, in which what did we promise? We promised growth, we promised visibility. We promised, Oh, I forgot now. I'm like losing my mind. We promised profitability, and then we promised that it would be sustainable as measured by growth of our market share. And we've delivered those things quarter after quarter after quarter, year after year after year, and we intend to continue to keep that promise. Thank you.

Great. Well, thanks for the presentation. We'll open it up now to Q&A. I want to start with a macro question because, Jon, I always love learning from your economics background, and you always have such great insight on the environment. So.

We said we weren't going to do that?

I know. I know. But I am always excited to ask because Jamie talked in his keynote on Monday about the market kind of pricing in a recession, but the positive is kind of still outweighing the negatives at this point. So maybe you could kind of give us your thoughts on that. And if we do go into a recession, how does selling into employers change? How do you talk about them -- to them about the value that you deliver?

So I think we have a really interesting opportunity in that regard this year. And the reason we have an interesting opportunity is that I think, by and large, the HR departments and benefits departments were a little later to the party than Wall Street was in terms of, you can call a recession a party. Were a little later to the idea of recession. And when they were doing their planning for 1123, that planning was -- particularly the larger employers, was largely focused still on competitive labor markets and all those kinds of things. What -- the reason I think we now have a unique opportunity is that as we look at our early activities with clients into 1124 in particular, you start to see people now trying to play catch up. And it's really hard to play catch-up as we all know. That's one of the things that makes economic downturns that are preceded by inflation very challenging, right? And the products that we offer are products that help people make ends meet. That's what they are, all of them, every one, right, whether it's paying a little less for a commuter pass or for your parking when you go into the office, right, or whether it's our core products around health care. They're all about helping people make ends meet and fundamentally, the conversations that we're having with clients as we start to look at 1124 are really about that. And it's, I think why at the end of the year, we saw the surge in interest in the member engagement because sort of that was what was left to do. But I'm expecting to see a lot more of that going into '24. So that's my feeling about what it really means for us.

And can you just help us understand the mechanics of what happens to your P&L and the event of recession that people save more? How does that impact your business?

Yes. So here, if you look at the last -- the 2020 downturn, I think the core point is that I would make is that our HSA business expressed in terms of accounts and so forth kind of just chugged along. Account growth continued. It was a little slower than it might have been, but it continued along just fine. And asset growth actually accelerated because recessionary activity tends to increase savings rates, and that tends to increase particularly cash balances, yes. So our core HSA business did was very resilient to the last recession. Obviously, there's an interest rate impact. But as I said earlier, our goal is to manage that to stability. And I can remember very well at the beginning of 2020, people were like -- we had people saying rates are going to go to -- that your yields are going to go to 0, and we said, no, they're going to go to about 150, and that's where they went to. And so that piece -- and so today, HSA is a bigger component of the total business than it was in March of 2020. We had just bought WageWorks, and so we were about 50-50 at that point. right? This year, we're going to be well over 60% HSA and growing, and that's the most resilient component. CDB has a lot of stuff that kind of moves around. And some of it's good and some of it's bad. COBRA can be good, right? You have employment contraction, right, that can hurt you a little bit on the FSA HRA side. And so I think that's where we're a little more exposed in the context of -- and where things get a little less predictable, including on the spend side, right? But I think the core point that I would make in terms of resiliency is that our core business, our growing business, the majority of our business showed itself to be even in what was a historically deep and sudden recession that obviously really put a smack to interest rates and all that. proved itself to be incredibly resilient.

You talked a lot about stability today. Can you talk about how the enhanced rate product is going to help you with that when the rates party finally ends.?

The biggest thing that the -- let me back up, enhanced rates really, it boils down to our HSA cash, which is still today, almost 2/3 of total of the $22 billion that we anticipate we will be managing by January 31. Historically, that cash was almost all in deposit products. Enhanced rates really involves moving some of that cash, giving our members the ability to move some of that cash into insurance products, right, with the same more or less same liquidity is cash. The real benefit of enhanced rates is that it has enhanced the competitiveness for money. And in particular, has reduced our exposure to the idea that structurally within banking, right, there are going to be factors that are really based on decisions of the government that are always going to limit yields on deposits. And so that's, from my perspective, the real benefit is, one, it's increased competition for money, right, which means that the party ends a little later to your point, right? And then two, right, is that it ultimately -- I mean, is the -- again, from a stability perspective is two, is that to the extent that over a longer period of time, right, you really do have some structural limitations on the value of deposits in banks right? It gives us an alternative. And I think over time, what you're going to see from us is we've talked about migrating give or take, 10% of our business on the HSA cash side a year into this product. I think that's going to be a little faster because it really does work. Members like getting the extra interest, it adds some more flexibility to our business. It reduces our use of variable cash, that kind of thing. It's just a good thing.

And then one more on rates and then I'm done and we'll open it up to the room. But -- so that folks don't make the mistake again of plugging a 0 in for your yield. What is the best proxy for rates or for the yield for your business?

I used to have a one line answer to this now I have to have a 2-line answer. My one line answer -- my old one line answer which still holds is that if you look at what people tend to want to know is what are we placing new money at, right? And I think the best proxy for that is for the deposits is go to bank rate you'll look at what like -- you'll see those offers. Now we can't place -- we can't call those same banks and say, Listen, I'd like to do that for $100 million -- like what. That's not what we meant, right? But if you look at those rates, those are a good proxy. They tend to, in good times like now, they tend to be something on the order of 125-ish basis points above average CD rates, which you can -- for 3- and 5-year, which you can get off Bloomberg. And in tougher times, they tend to be more like 75 basis point premium, right? So that's the deposit side. And on the enhanced rate side, the way to look at it is you're looking at a premium of between 50 and 75 basis points off of that. And there are some differences, but the net result of all that, as you can see from the slide in the deck is a level of stability where the peaks tend to lag the peaks of the underlying treasury and so forth. And the peaks aren't as high and the troughs aren't as low.

That's great. Any questions in the room? Just so repeat question the.

We have this thing in our office where you throw it. It's like a ball and you throw it and it's got a microphone in it. It's really cool.

Next year next year. Is there any reason at all to be concerned that 75% of net new logo sales came from channel partnerships and is there any plan to kind of diversify the employer client acquisition channels? And if the answer is no, can you speak to a little bit about how you align incentives with your channel partners to kind of ensure continuity of those relationships.

Steve, why don't you take that one?

Yes. I mean we think that there's just tremendous opportunity still in the channel partners. If you look at the percentage of our channel partners' commercial book of business, that we've been able to penetrate over the years, it's actually still quite low. And so we think that's -- there's tremendous upside. We're getting better and better every year working with the channel partners. I mean, even Jon mentioned this further acquisition and they've taught us a lot of things. I mean these further, because they were embedded in a Blues plan before we acquired them, they've helped us understand here are some things we need to do to really reach out to these plans. And so I don't think there's much risk at all. We do have, though, is if we have this guy named Matt who's out in Virginia. And he -- every cells had loves to point out the wins that came by a direct cell because he believes that, that is a natural hedge against being totally channel dependent. So if Matt were in the room, here we say, yes, but don't -- not so fast because we know that one of the ways to pull the market is to do direct sales through benefit consultants and brokers and things like that. And so I don't think we're at risk much. Jon, anything you would add to?