Is Mead Johnson Stock Overreacting?

Dec.22.11 | About: Mead Johnson (MJN)

Mead Johnson (NYSE:MJN) shares are under heavy selling pressure on news that Wal-Mart (NYSE:WMT) has pulled Enfamil from the shelves after a newborn recently died. MJN shares closed down by 10%. The question is, should you be buying on this dip? To find out, lets first take a closer look at the news:

  • Wal-Mart has pulled Enfamil from its 3,000 stores
  • No known or confirmed link between Enfamil and the death
  • No government recall
  • Wal-Mart says, "the formula, lot number ZP1K7G, was pulled out of an abundance of caution"
  • Public Health investigators will look at other factors that could have led to death such as environmental factors, and water used in preparation

WIth MJN shares down roughly 10% or $7.72, the stock is pricing in a negative impact of roughly $1.6 billion. Though significant risks still remain, it is doubtful that MJN will be on the hook for anything close to $1.7 billion. That being said, there still is a chance that this problem gets worse before it gets better. If you want to buy the stock it is prudent to purchase 25% of your position now and wait for more clarity to buy more.

Warren Buffett has famously said, "be greedy when others are fearful." It appears that everyone is fearful that this situation will get much worse for MJN. While things may get worse, at $1.7 billion the stock has largely discounted this. If the death turns out to be unrelated to Enfamil, then MJN has significant upside. Another way to play MJN is through options. While options limit risk, it is also important to realize that options tend to remain incredibly expensive in these situations. The best way to play MJN is to buy a little bit and wait and see.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.