Shares of PSS World Medical (PSSI) fell as much as 7.4% in trading early Wednesday after online blog The Street Sweeper wrote a critical piece on the company, calling it "a shopaholic" with "heavy debt" and "a recurring need to reinvent itself." Investors were likely spooked by the headline quotes from a forensic accountant and an unnamed doctor who called it "a desperate company."
Fortunately, shares rebounded, erasing nearly all of their losses, closing at $22.81, down less than one percent. It appears that investors read the piece and realized that far from being news, the Street Sweeper article was essentially a hit piece, using anecdotes, scare tactics, and insinuation to make a short case for a stock in which the site's owners -- to their credit -- disclosed they have a large short position.
The Street Sweeper piece opens with an ominous tone. "PSS World Medical is a shopaholic with more than 100 companies under its belt and a recurring need to reinvent itself... is lugging around heavy debt -- and the torment of posting its lowest net income in 25 straight quarters." But the net income claim is outright false -- net income in Q1 2009 was $10.3M, below the Q1 2013 figure of $10.7M -- and the other two accusations are questionable, to say the least.
To start, the "shopaholic" label is disingenuous, at best; PSSI has integrated over 100 acquisitions, but the majority of the purchases were made, as the writer admits later, between 1994 and 2000. By such logic, one could easily tag companies such as General Electric (GE) or Johnson & Johnson (JNJ) as shopaholics themselves. To be fair, PSS World announced three small acquisitions in May of companies with total annual sales of about $120 million, or less than 8% PSSI's trailing net revenue. But that hardly justifies the insinuation that PSS World's corporate structure is somehow unwieldy or poorly integrated.
The "heavy debt" accusation is another exaggerated claim; PSS World reported $457 million in debt after the fiscal first quarter (ending June 29). But the company's market capitalization is $1.16 billion, its cash balance $107 million, and its debt-to-equity ratio below 1.2. Interest expense in the first quarter came in at a $34 million annual run rate, about one-third of the roughly $100 million in free cash flow the company has generated in each of the past two fiscal years. Author Sonya Colberg later writes that "the company is rapidly sucking up cash and feeding its borrowing habit virtually every time its wallet feels a little light." But PSSI has generated healthy free cash flow -- FCF has grown modestly in each of the last four years -- which hardly qualifies as "sucking cash." And before a $250 million debt offering earlier this year -- the proceeds of which went, in part, to pay off already-outstanding convertible bonds -- the company had not made a debt issue since 2008. Colberg seems bent on creating an image of PSS World as a healthcare version of Chesapeake Energy (CHK), as a company whose ravenous, debt-fueled appetite for assets has brought it to the brink of financial peril. In fact, by the numbers, (reasonable debt-to-equity, modest revenue growth, modest earnings growth, modest FCF growth), it seems a rather boring company.
That boring company is undergoing a restructuring; in May, PSS announced a "strategic transformation plan," in which it announced the three acquisitions, along with plans to divest skilled nursing and dental segments, to focus on what the company called "Healthcare 2.0." The company noted in a press release that it felt the new focus would "provide accelerated growth and higher returns," with the potential to move operating margins over 10%, from about 7% currently.
Again looking for fire where there is no smoke, Colberg calls this decision "a bit confounding," but explains it by pointing out that "when a shopaholic counts its dollars and discovers a significant drop in free cash flow...the frantic search for more money begins." And yet, just two paragraphs later, the author notes dismissively:
So here's what PSSI's horse trading looks like: It has bought four businesses with roughly $138 million expected in annual sales, which is nearly four times smaller than the roughly $545 million in sales made by the two segments that PSSI has been so anxious to get rid of.
By this logic, PSSI should clearly be a short. Obviously, PSS management can't even waste shareholders' money effectively!
And so it goes. The rest of the piece is based on similarly flawed logic and baseless insinuation. Colberg writes of the company's troubles in the late 1990s and early 2000s, when the stock cratered around $2 per share amidst shareholder lawsuits. What relevance those actions -- taken under different management, different strategy, and a vastly different healthcare market -- have to the company or its stock today is never mentioned. The doctor who criticizes the company is an anonymous urologist in New York City who, coincidentally, is short PSSI. Insider selling transactions are highlighted, though even Colberg notes they took place under 10b5-1 plans. Yet she writes that a sale by chief marketing officer John Sasen "strangely coincid(ed)" with the company's restructuring announcement, as if the accidental timing were somehow sinister. In an obvious attempt at "guilt by association," she notes that treasurer David Klarner previously worked for Arthur Andersen, "the accounting firm convicted in 2002 for obstructing justice in the Enron Corporation scandal."
Colberg does note that many analysts are skeptical of the company's restructuring, and this is true. Indeed, the Q&A portion of the Q1 conference call was at times a contentious affair, and as Colberg emphasizes repeatedly, Goldman Sachs (GS) has a "Sell" rating and an $18 price target on the stock. Colberg also cites Robert W. Baird and Raymond James as having cut their ratings on the stock. But, as even the author points out, Credit Suisse retains an "Outperform" rating on the stock, as does UBS, who reiterated their "Buy" rating today.
There are good reasons for the analyst disagreement. PSS World is undergoing a restructuring amidst a business that is undergoing a transformation of its own, a transformation whose direction will change based on election results next month. Growth has not been booming as of late, on the top or bottom lines, and Q1 earnings disappointed. A savvy investor could easily create a reasonable, logical short case for PSSI.
But that is not what The Street Sweeper did. Its piece published today is a biased attack based on faulty logic and stretched facts. Today's article is not of any value to investors, and fortunately, it appears that the market figured that out.