|Shares Out. (in M):||15||P/E||0.0x||0.0x|
|Market Cap (in $M):||47||P/FCF||0.0x||0.0x|
|Net Debt (in $M):||-17||EBIT||0||0|
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Conmed Healthcare Management (“CONM” or the “Company”) is a noncyclical, stable cash flow generating business with +60% ROIC that trades at a depressed valuation. This mispricing exists because of a failed buyout attempt last fall and resulting selling pressure from the suitors. I will discuss in more detail, but the deal’s failure had nothing to do with the Company. Since then, CONM has secured several new contracts, yet the stock still trades well below where it did before the proposed buyout was announced. Upside to the equity is +50% over the next year with catalysts and strong downside protection given financial visibility and $1.10 of net cash per share.
|Date||Contract||State||Renewal||Term (Yrs)||Value||Revenue||Population||Day ($)||Start Date||Date||Date|
|8/7/08||Pima County Adult||AZ||New||1.9||19.0||9.9||1,900||14.28||8/1/08||5/31/10||5/31/10|
|1/5/09||Western Virginia Regional Jail||VA||New||3.0||5.4||1.7||550||8.47||2/1/09||1/31/12||1/31/12|
|12/1/09||Pima County Adult||AZ||Renewal||2.0||19.5||9.7||1,900||13.99||7/1/10||6/30/12||6/30/12|
|1/27/10||Pima County Juvenile||AZ||New||2.4||2.8||1.2||70||46.97||2/10/10||7/9/12||7/9/14|
|6/28/10||City of Roanoke||VA||New||9.1||9.1||1.8||600||8.22||7/1/10||6/30/13||6/30/15|
|9/27/10||City of Virginia Beach||VA||New||5.0||17.5||3.5||1,350||7.10||10/1/10||9/30/13||9/30/15|
|2/8/11||City of Alexandria||VA||New||9.0||18.0||2.0||450||12.18||3/1/11||2/28/16||2/27/20|
|3/22/11||St. Mary’s County||MD||Renewal||3.0||1.7||0.6||245||6.26||6/1/11||5/31/12||5/31/14|
|1/15/12||County of Galveston Jail||TX||New||4.7||16.2||3.5||1,000||9.51||2/1/12||6/15/13||6/14/16|
|1/18/12||Pima County Adult||AZ||Renewal||1.0||10.1||10.1||1,900||14.56||7/1/12||6/30/13||6/30/13|
Near-term catalysts include: 1) financial performance from new contracts; 2) appreciation for the quality of the business and alleviation of failed sale stigma/ selling pressure; 3) share repurchases; 4) improved corporate communication; and 5) potential sale. The new contract wins toward the end of 2011 will add $8M to 2012 revenue and +$1M to EBITDA. This growth will become evident in the Q1 numbers. Conmed’s increased scale and new presence in Texas positions it well to win new contracts and expand its existing contracts when the selling season begins in the summer. Even if it does not win any new business in 2012, EBITDA should increase +20% off its existing base. In mid-December, the Company announced a $5M share repurchase program which can commence after the release of Q4 earnings. The Company also recently hired an IR firm to assist with marketing. Management did not actively seek to sell the Company, but as we saw, they are amenable to a deal. In particular, board member and 20% shareholder, John Pappajohn, has indicated he is supportive of a sale.
Conmed began providing healthcare services exclusively to Maryland county detention centers in 1984. By 2000, the Company had grown to serve over half the state’s county detention centers. From 2003 to 2006, CONM expanded into Kansas, Virginia and Washington through contract wins. In 2007, the public shell company Pace Health Management acquired Conmed for $23M and concurrently assumed the Conmed name and brought on the existing management team. In 2008, the Company acquired two smaller operators in Oregon and Maryland. It has been able to leverage those contracts to expand service offerings and establish a regional footprint.
In late 2010, Pappajohn proposed a sale of the Company to the board. In December 2010, the Company retained Gleacher and shopped the Company to 86 potential buyers, 62 of whom received a CIM. At a January board meeting 10% shareholder Dr. James Desnick was in attendance as an observer (apparently something that the Company had previously permitted). Upon learning of the sale, Desnick requested a CIM and shortly thereafter submitted a bid at $4.15. Five other parties also submitted offers at $3.80-4.05 per share or 9.6-10.2x LTM EBITDA. Desnick, as part of a group called Ayelet Investments, emerged as the only final offer and reduced the bid to $3.85 or 9.8x EBITDA. The deal was announced on May 13. On November 14, one day before the shareholder meeting, Ayelet announced it could not complete its financing. Ayelet publicly sited a disagreement on sub debt covenant terms with Levine Leichtman Capital. The more likely reason was that the lenders learned of Desnick’s criminal past which included multiple healthcare frauds, revocation of medical licenses and malpractice settlements, two of which were over $15M each. CONM received a $2.3M termination fee ($1.5M after-tax). Neither Desnick nor anyone from Ayelet is a member of the board, so operations have been unaffected by this development.
CONM initially went public because it believed a currency would enable it more effectively buy smaller operators. The Company has not issued stock in any of its acquisitions, does not need capital to grow, yet still has to disclose its financials to competitors and bear the costs of being public. It seems likely that CONM will try to sell itself again in the next year.
CONM should trade up 40-50% in the near-term and if acquired would command a 100% premium to its current stock price. The Company currently trades at 6.0x 2011E EBITDA and 5.0x 2012E (base case, assuming no new contracts) with a 15% FCF yield. On an absolute basis this is clearly cheap given the quality of the business and its growth prospects. The average historical multiple prior to the buyout attempt was 8.0x EBITDA, implying an equity value 40% above the current stock price. The closest trading comps are CXW, GEO and MD. Though much larger, they have very similar financial profiles and trade at a median multiple of 9.1x LTM EBITDA. The failed buyout attempt by the Ayelet group valued the enterprise at 9.8x EBITDA. This price was considered low as Gleacher and CONM were accused of not adequately shopping the Company. While it is unclear what the end result could have been, a close peer to CONM was recently sold. In March 2011, Valitas Health Services acquired America Service Group (formerly public, NAS: ASGR) for 9.3x EBITDA, 11.0x EBIT. At this valuation, the implied upside to the current share price is 90%. These valuations assume no new contract wins, price increases or margin improvements. They also do not include the fact that Conmed’s financial picture has become clearer with the January extension of its largest contract. All of which will likely generate more interest in the asset. If a strategic were to acquire CONM, they could cut most of SG&A, making a higher transaction multiple economical. In an optimistic scenario of $7.5M EBITDA, the implied upside is 120%. The Company’s cash flow profile would also make it very appealing as a platform company for private equity. Shareholders get downside protection from $1.10 of net cash per share and financial visibility.
|(US$ in Millions)||2008A||2009A||2010A||LTM||2011E||2012E|
|Income Statement Summary|
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