Description

I am recommending a short position in Crawford (CFD/B).  There are numerous elements to the thesis, as described below.  I think the stock could easily drop 50% in the next six months.

Weak customers and slowing markets

Crawford has a few different businesses.  A few are already weak (legal settlement administration and workers comp are shrinking) while a third will start to weaken (US P&C from tough comps due to 1H08 weather patterns and a softening insurance market, carriers looking to cut costs).  Current guidance is for mediocre revenue growth and sequential earnings decline, and will likely get worse into 2009.

International is strong but currency benefits will reverse

Roughly half the operating earnings come from overseas, which has been helped a lot by a weakening dollar.  This has reversed significantly already.

Pension liabilities are significant

As of December, 2007, Crawford had a pension liability of $630 million and an asset of $550 million.  Assets are 75% invested in equities.  We are assuming that the net underfunding will increase from $80 million to $240 million as of the next 10-K. 

2008 had several 1-time gains

Including gains on sale and reversals of liability accruals, these totaled around .10 of EPS.  Thus, after stripping these out the company will earn around $.45 this year.

There will be technical pressure

In a recent 13-D, it was stated that the founder of the company was “considering” selling 800,000 class A shares.  The average trading volume for the A shares is 25,000 shares.  While this would not directly impact the trading level of the B shares, I would note that the current discount of A (non-voting) shares is almost 50%, an all-time low.  Should the A shares be sold to someone that wishes to lock in an arbitrage profit, the B shares should see serious pressure.

Valuation is indefensible

I believe that EBIT will be around $50 million next year.  Incorporating the underfunded pension, the enterprise value is roughly $1 billion.  This is 20x EBIT or 35x EPS, assuming no increase in pension expenseI do not think that this is an appropriate valuation for a business that has been described in less-than-glowing terms in many due diligence calls, and which has difficult business trends evolving over the next year.

Catalyst