We’re Getting Old and Fat, Buy Zimmer

By Travis Johnson, Stock Gumshoe, January 13, 2009

Today it’s finally time for another “Idea of the Month” — which means, if recent history is prologue, that it’s time for the stock I’ll be writing about to take a nosedive.  Perhaps today will be the exception, since these shares represent a company that continues to have a solid and growing business but that is, for the first time in a very long time, priced at a significant discount to the broad market and to its competitors.

Of course, there’s a reason for that discount, too … but my expectation is that the market has overreacted to the bad news, and is underappreciative of the underlying strength both of this company and its sector.

So what are we looking at here today?  I think now is a good time to start looking into a position in Zimmer Holdings (ZMH), one of the world’s leading orthopedic implant companies.

You may well have heard of Zimmer before — until the last year or so it had been a stock market growth darling for most of this century, and the company has been around for nearly 100 years.  It started as a maker of aluminum splints in Warsaw, Indiana that was launched just as the US entered the Great Depression (yes, it reportedly did just fine during the Depression, too — no promises if we’re entering a depression now), and grew with the nascent orthopedic and medical implant and prosthetics businesses throughout the 20th century, often leading innovation in those businesses.  They were under the radar for most investors for many years, largely because the company was a division of Bristol Myers from the time of their acquisition in 1972 until they were spun off in 2001 as a separate publicly traded company.

During those past seven years that Zimmer has been public, it has always traded at a significant premium to the S&P 500 on most valuation metrics — Price/Earnings, Price/Book value, Price/Cash flow. 

Not anymore.

2008 saw this company, with earnings growth expected to moderate (or even reverse slightly) in 2009, trade at a dramatic discount to the broader market.   Currently, Zimmer Holdings trades at a trailing PE ratio of about 10, and an estimated forward PE of slightly less than that.

So, we need to look at a few things: What does Zimmer do, why is ZMH trading at such a depressed valuation, and can ...

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