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While searching for an undervalued small-cap company with high investing potential, I discovered Triple-S Management (NYSE:GTS). This company is the leading managed care company in Puerto Rico with 1.7 million customers, reaching 46% of Puerto Rico's population. The company has over 50 years of experience in this industry. With the Puerto Rico economic recovery still in the early phases, Triple-S is positioned to perform well for the future. The stock has 20% - 50% growth potential based on its undervaluation and the economic recovery forecasted for 2014 in the region. I think that a near-term 20% rise is likely for the stock due to its severe undervaluation and oversold level. The stock could see a 50% gain over the next two to three years catalyzed by the deep undervaluation, above average earnings growth, a decline in Puerto Rico's unemployment rate, and a boost from Obamacare.

The Business and the Local Economy

Triple-S offers its products to individuals, corporate accounts, local and federal government employees, and via Medicare. The company has the right to use the Blue Cross Blue Shield name in Puerto Rico and the U.S. Virgin Islands. Triple-S reported the following sector breakdown for the second quarter: 90% of premiums were generated from managed care, 6% were generated from life insurance, with the remaining 4% from property and casualty insurance. The company's competitiveness lies in its breadth of product offerings, which include high-deductible plans with lower premiums for the cost-conscience consumer as well as standard health plans. Triple-S also offers plans with an extensive network of physicians and hospitals. These product offerings have been popular with customers in the current economically challenged region of Puerto Rico.

Since Triple-S is the leading managed care company in Puerto Rico, it stands to benefit once the economy there recovers. The company needs the current unemployment rate of 13.5% to continue to fall to increase its memberships and premiums. The unemployment rate has been falling over time since it peaked at over 16% in 2010. However, there have been some spikes in the unemployment rate, which has kept fear on the table for investors. I think that the downward trend in the unemployment rate will continue, which will lead to increased memberships and premiums for Triple-S.

The Federal Reserve has outlined a few recommendations to boost the economy on the island. Some examples include: reduce barriers to job creation, reform the energy industry, and lower the cost of doing business on the island. I think that these recommendations can be successfully implemented to improve the economy in Puerto Rico, which will increase the amount of people in the workforce. More people working should translate into higher premiums for Triple-S as more workers become enrolled in the company's health plans.

The company did experience a 2% decline in premiums for the first half of 2013 as compared to the first half of 2012. This was primarily due to attrition in existing Commercial accounts due to the challenging economic conditions in Puerto Rico. The decrease in premiums was also attributed to a decline in Medicare Advantage premiums, which was a result of sequestration by Congress. On the bright side, the company did exceed its earnings expectations by 10% for the quarter, with actual EPS of $0.53 vs. an estimate of $0.48. This shows that Triple-S was able to achieve lower total operating expenses due to a 7% decline in claims, despite the drop in premiums.

Attractive Valuation

Triple-S is undervalued primarily as a result of being closely tied to the economy in Puerto Rico. Since the unemployment rate is much higher there than on the mainland U.S., the stock trades at a deep discount to the S&P 500 and to its industry peers. Triple-S has a trailing and forward P/E of 8, a PEG of 0.83, and a price to sales ratio of just 0.22. The stock is priced 29% below its book value per share of $26.94. By comparison, the S&P 500 has a trailing P/E of 17, a forward P/E of 15, and a price to book ratio of 2.4. If Triple-S was priced at 2.4 times its book value per share, the stock would be $46 instead of the current price of $19.15. This represents a great opportunity to start a position in the stock for both the near term and the long term. Profitable companies don't stay priced below their book value per share for too long. Eventually investors see the opportunity and drive the price higher.

Triple-S is also undervalued as compared to its competitors. Its competitors have a more diversified customer base located throughout the country. They are therefore, valued higher than Triple-S as the overall U.S. economy has been making stronger gains in the past few years than the local economy in Puerto Rico. Humana (NYSE:HUM) has a trailing P/E of 10, a forward P/E of 11, a PEG of 1.15, and a price to book ratio of 1.6. UnitedHealth Group (NYSE:UNH) has a trailing P/E of 13.8, a forward P/E of 12.4, a PEG of 1.5, and a price to book ratio of 2.3. Humana and UnitedHealth have made significant stock gains since the financial crisis, while Triple-S's gains were more modest. Humana experienced an average annual earnings gain of 11.5% for the past five years, while UnitedHealth achieved an average annual increase of 15%. This drove the stock gains of these companies, while the stock of Triple-S lagged with nearly flat annual earnings growth over the past five years.

I think that Triple-S will remain undervalued as compared to the S&P 500 and to its competitors over the next few years. However, I also think that Triple-S's stock will begin to approach its book value per share over the next one to three months. Positive earnings news from the company and the decline in the Puerto Rico unemployment rate should continue its trend. This will lead to more customers and premiums for Triple-S, which should boost its earnings. Higher earnings growth will lead to higher stock prices over time. If the unemployment rate in Puerto Rico gets close to the overall U.S. average, I think Triple-S's valuation will be closer to its competitors. For now, Triple-S's valuation represents an attractive entry point for investors.

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Catalysts

In the near term, I think that Triple-S can experience a quick stock gain of 20%. The catalyst for this is the awareness of the current undervaluation and an oversold condition in the stock. Other likely short-term catalysts for the stock would be positive news regarding company earnings and Puerto Rico's unemployment rate. If the unemployment rate for August for Puerto Rico shows significant improvement, the stock is likely to get a boost. Likewise, positive earnings news is likely to drive the stock higher. The short-term opportunity for the possible 20% increase in the stock can occur within one to three months.

The long-term catalysts for Triple-S include the company's breadth and flexibility of its products, its large size of provider networks, a continuation of the decline in the unemployment rate and news of positive growth for the Puerto Rico economy. The Puerto Rico economy needs to maintain a positive growth rate in GDP to help drive the unemployment rate down. The island needs public and private investment to accomplish this. The recommendations from the Federal Reserve as mentioned earlier would likely turn the region around. Triple-S has responded to the challenging economic situation in the region by offering high deductible/high co-payment plans in return for lower premiums. The company also offers plans with large extensive networks and greater access to preventive care and wellness programs. Customers value the savings from the lower premium plans and are happy with having access to large networks of physicians, hospitals, etc. This will help drive earnings growth going forward, thus leading to higher stock prices.

Another long-term catalyst for the company is Obamacare. Although there are various negative issues with the plan from a freedom and cost viewpoint, Obamacare should help catalyze Triple-S's business. The current administration expects Obamacare to result in an additional 7 million people becoming insured in 2014 with 27 million being added over the next decade. With more potential health insurance customers added to the mix as a result of Obamacare beginning in 2014, Triple-S should experience an increase in customers. More customers should lead to higher premiums earned by the company.

The Risks

If the company's medical expenses exceed its estimates, Triple-S may not be able to increase premiums under the current contracts. Profitability could be reduced if Triple-S does not successfully predict and manage its medical expenses. The company needs to continue to effectively manage medical expenses through underwriting, medical management, and negotiation of provider contracts.

The company's margins could be squeezed if its medical costs increase faster than premiums. It's possible that Obamacare could cause this to happen. Since people with pre-existing conditions will not be denied coverage, a new set of higher-risk members could cause medical claims to rise more than premiums. Furthermore, there is no guarantee that Obamacare will add the amount of newly insured members that the Obama administration expects. Many businesses could cut their worker's workweek to less than 30 hours to avoid covering them under Obamacare. With the Puerto Rico economy on shaky ground, this could happen as a cost-saving measure for many of the island's businesses.

The large amount of aging baby boomers could create a situation where claims increase faster than premiums collected. This could also reduce profitability over the long term for the company. There is no guarantee that Triple-S could raise premiums to offset a potential rise in claims.

Final Thoughts

As mentioned earlier, Triple-S is the leading managed care company in Puerto Rico. The company stands to benefit from its wide array of flexible health plans that have become popular with customers. Triple-S is likely to benefit from an economic recovery in the region. With the catalysts in place, Triple-S is expected to grow earnings annually at 11% for the next five years. Total premiums are expected to increase approximately 5% from $2.34 billion this year to $2.45 billion in 2014. The 11% annual earnings growth is what should catalyze the stock for the long term. Since the company does not pay dividends, investors need Triple-S to achieve earnings growth to drive the stock price higher over the next five years. Earnings growth was flat for the past five years and the stock lagged that of its competitors and the S&P 500. However, the tide looks to be turning for the future. The stock is severely undervalued; trading below its book value per share plus its 11% expected future annual earnings growth is higher than the S&P 500's, Humana's and UnitedHealth Group's expected earnings growth of about 9% each. I conclude that Triple-S's stock is likely to rise about 20% in the next one to three months based on its undervaluation and oversold level. The short-term catalyst is likely to be positive news regarding company earnings, the continued decline of Puerto Rico's unemployment rate combined with investor awareness of the deep undervaluation in the stock. The long-term catalyst will be above average earnings growth, which will allow the stock to outperform its peers and the market over the next five years. The long-term growth will be driven by the recovery in the Puerto Rico economy, lower unemployment rate, and new customers gained through Obamacare. To conclude, I see the current price of $19 to be trading at about $23 within one to three months, with the stock trading at about $38 in five years.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Source: Triple-S Management: Poised For Short And Long-Term Stock Gains