Millionaire Maker: “The Healthcare-Plumbing Special Situation”

by Travis Johnson, Stock Gumshoe | March 19, 2009 10:15 am

I thought I’d take a quick look at an ad I received just this morning, in part because it teases us about a “special situation,” and in part because it’s from a newsletter publisher who I don’t think I’ve ever written about before.

The ad is from George Leong[1], who edits Lombardi[2]’s Special Situations, a newsletter that apparently looks for, well, “special situations.” Lombardi runs a number of newsletters and has an odd motto (“Information is knowledge” … less cliched than the “knowledge is power” that I sprinkle about sometimes, perhaps, but odd nonetheless. Kind of like saying “tree is forest.”)

There are a number of these “special situations” newsletters, they generally focus on things like potential buyouts, mergers and acquisitions arbitrage, spinoffs[3], management changes, or other significant expected events that impact specific companies. Leong says he aims for situations where there’s potential for a relatively quick 50% profit.

In this ad, Leong tells us that he has several great “special situations” for you to invest in — after, of course, you take him up on his offer of a subscription.

Leong calls himself the “The Hugh Hefner of the stock market,” which is ever so charming … because “only one beauty a month makes his special situation centerfold.” So I guess he does have some selection standards — whether or not he’s got a good track record, I have no idea.

And though I haven’t written about these guys before, it’s not because they lack the hyperbole gene:

“INVESTMENT GENIUS ON FIRE DISCOVERS EXTRAORDINARY PROFITS IN SPECIAL SITUATIONS”

And they list off a dozen or so examples of stocks that they picked wisely — Gigamedia, Omnivision Tech, GameStop, Valueclick, Synaptics, Parexel, Ceradyne, etc. etc., all with profit claims ranging from 200% to well over 1,000%. And he says that this is the performance they “often” have.

“You could pulverize every investment guru out there, month after month, year after year. We do and it’s great fun. Grow rich with us on special situation profits that could change your life.”

And of course, if you choose to order this newsletter, be careful about the fine print — they tell you that Michael Lombardi[4] is “writing a check” to cover more than half of your membership, which means they can offer it for the low low price of $495 … but if you go to the order form, you’ll see that you’re signing up for a subscription and that you’re authorizing them to renew it next year at the “regular rate,” which is apparently $999. I don’t know if they really do that or not, of course, but it’s the kind of thing that’s all too common. They don’t appear to give a free trial like many publishers do, but they will “pro rate” a refund if you ever want to cancel.

But that’s neither here nor there — the point is that Leong has a teaser for us (that, by the way, is my daughter’s favorite saying … “the point is, I need a marshmallow”; “the point is, I want to watch Dora”). Here are the clues he gives about one of his “five stocks that could make you a millionaire” right now:

“THE HEALTHCARE-PLUMBING SPECIAL SITUATION

“Crazy, right? Healthcare is one thing. Plumbing is something else entirely. Right? Well, this bizarre combination of industries presents us with a powerful special situation — one you can capture in just one stock.

“All the details are revealed in your bonus gift, which is yours free (hey, it’s a gift after all) when you let Michael write out a check on your behalf….

“One of the fab five is a fascinating company that owns both — a healthcare[5] network and a national network of plumbers.

“You get the name of the stock in your special bonus, which you get free when you take Michael’s money.”

OK, so whether or not you “take Michael’s money,” I can tell you at least what this stock is …

The “Healthcare-Plumbing Special Situation” must be …

Chemed (CHE)

This is the parent company of two wildly different divisions, Roto-Rooter and Vitas Healthcare — it was actually formed about five years ago when Roto-Rooter bought Vitas for $355 million, and they said at the time that they might spin it off as a separate company. Roto-rooter you’ve probably heard of, that’s the network of plumbers and drain-uncloggers and home of the “Roto-Rooter Man”, and Vitas, which hopefully you have less reason to know personally, is a network of hospices for end of life care. Hospice care must be a tough business, but, as always, you don’t hear much sympathetic talk about it when the numbers come up (the CEO, Kevin Mcnamara, mentioned on the latest conference call that “I continue to be very disappointed with our admissions growth” … he didn’t mean that as ghoulishly as it sounds, of course, but still.)

Currently, Vitas is the larger segment — they provide about 2/3 of the revenue and earnings (the rest is Roto-rooter, there aren’t any other little divisions hiding in the company). Vitas is also growing, despite that disappointing admissions growth, and they’re getting a little benefit from increased Medicare hospice pricing that was in the stimulus bill, while Roto-rooter is more economically sensitive and is currently seeing earnings dip a bit.

The “special situation” is that activist investors are pushing for the company to split — this company owns two wildly disparate businesses and is relatively inexpensively valued, so some believe that they will “unlock the value” by separating into two separate publicly traded businesses.

MMI investments has been the activist behind the latest push for a split — they sent a letter recommending a split to the Board in mid-February, the company rejected that request on Monday[6] this week, and this morning MMI announced that they would nominate a slate of board members[7], citing the “Chemed Board’s extraordinary lack of independence and unwillingness to take strategic action to unlock the significant hidden value in the company’s assets.”

So what’s gonna happen? I dunno — these situations are always fluid, and in this environment you can certainly make arguments both for battening down the hatches and keeping the business going, and for reorganizing to “recognize value.” I imagine the board probably thinks that no value is going to be recognized, regardless, until people actually get excited about owning stocks again, so why bother doing all that work, but I don’t know if they’re right or not. MMI’s complaint, in part, is that management has acknowledged that a breakup might unlock value, but that they keep postponing any such consideration indefinitely … and they say that the board is not independent (lots of current and former employees or associates). MMI’s nomination slate would give them a minority of the board, but a very strong minority.

MMI Investments as of December owned about 3.6% of Chemed (you’ll usually see that holding listed under MCM Capital Management, which is the fund’s general partner), and in their letter to the Board they noted that they hold 800,000 shares, more or less the same as their reported holdings as of December 31 — some other activist investment funds also own shares, including Iridian, which has been adding to its (much larger — more like 12%) position over the past year. Don’t know if they’ll all end up collaborating or not to try to push a new board slate.

So … as with all “special situations” there’s some potential for the shares to go up if folks start to see movement, and if they believe that splitting these shares will really “unlock value” — but no guarantee, this stock is held overwhelmingly by institutional shareholders and mutual funds[8], so it may be that we won’t have a sense for which way they’ll lean until the big advisories like Institutional Shareholder Services weigh in (and even then, no guarantee that they’ll vote with ISS or the others, or that the shares would go up with a new board or spinoff).

As it stands now, the company is just about hitting analyst estimates, with growth from Vitas making up for some earnings shrinkage at Roto-rooter. They don’t carry a lot of debt, and analysts seem to think they’re pretty attractive — the forward PEG ratio (Price/Earnings/Growth rate) is around .7 if you believe the earnings growth estimates, they pay a small dividend, and the stock has significantly outperformed the market averages over the last year or so, bouncing mostly up and down around the $40 mark (currently the shares are at about $37, they spiked up to $45 on the initial MMI letter in February but fell back quite quickly to the current range of mid-high $30s).

And even though the company might look fairly valued to some eyes, “special situations” usually means you also have to be careful, especially in a market like this that isn’t necessarily given to extraordinary bouts of optimism. MMI has promised to hold their shares through the record date for voting on the board, which is apparently the end of March, but if they or other large shareholders lose or give up and decide to sell off their positions, it’s going to be very hard for these shares to avoid going down, at least in the short term.

So … do you like the sound of this special health/plumbing situation? Let us know.

And we don’t talk about special situations investing very often, so please let us know if you’ve ever subscribed to one of these specialized newsletters, and what you thought of it — we’ve got review space all set up for George Leong’s Lombardi’s Special Situations[9] letter and for the Special Situation Survey from Forbes[10] (not quite as focused on this area as it sounds), and we can add any others that you might be familiar with.

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