Description

TRCR
Transcend Services
$10.28

Transcend Services is a provider of medical transcription services to the healthcare industry.  The company operates in a large, growing market with several favorable trends:  the aging of the baby boomers, the increasing need to document patient encounters (insurance, regulation), and the coming Obama presidency and its potential positive implications for the healthcare sector.  Transcend is not only participating in a broader trend towards outsourcing of these services (the total medical transcription market is 12b, ~40% of which is outsourced), but is also taking share from competitors due to its focus on service and customer satisfaction (98-99% customer retention).  Most importantly, the company and its end markets (hospitals) should largely be unaffected by any broader economic weakness.

I expect earnings of at least 82 cents in '09 and for the stock to warrant a 15x multiple if the weak economy and equity markets persist.  Adding $1.10 in cash gets you to a target price of ~$13.50, approximately a 30% return from current levels.  If we return to a more stable economy and equity market, I believe TRCR will attract a 20x multiple, providing a target of approximately $17.50, including the net cash.  Moreover, given its end-market and recurring revenue model, there appears to be relatively little downside at this price. 

Business
Transcend is the third largest US medical transcription company.  The overall medical transcription market is quite fragmented; Transcend estimates there are several thousand companies with revenue in the $1m range, and only a dozen or so with revenue greater than $15m.  The two biggest players are MEDQ with $285m transcription revenue (6% market share) and Spheris with $197m revenue (4% market share).  The fourth player Cbay is an India-based company, which acquired 70% of MEDQ in August 2008 with the backing of S.A.C. Private Capital Group. 

The medical transcription process entails three straightforward steps.  First, doctors dictate the results of patient visits into various voice capture solutions.  Second, voice files are either routed directly to medical language specialists to be transcribed or through speech recognition software (Transcend licenses this technology from MultiModal Technologies).  Third, completed transcriptions are sent back to the customer.   

With 98-99% customer retention, Transcend has a steady, recurring revenue stream.  Growth comes from winning new customers, which the company has had no problem doing due to customer dissatisfaction with competitors and Transcend's own consistently high levels of service.  For example, based on survey work done by the independent consulting firm KLAS in 2008, Transcend ranked #1 overall in their market and had the top score in 7 of 11 performance indicators (see slide #11 at: http://www.transcendservices.com/InvestorDocuments/INVESTORS_2008.Q2.Presentation.pdf). 

The company has had a solid 2008 with each quarter's yr/yr top line growth getting stronger.  Reported eps growth is deceiving due to a higher tax rate than last year, but pre-tax earnings grew at 33% last quarter.  As of Q3:2008, the company estimates that year-to-date, it has won "an estimated $7.5 to $9.3 million of annual revenue once fully implemented."  Additionally, it seems like some of their recently hired sales people have taken a bit to ramp up and are not hitting on all cylinders yet, so there could be more room for growth.  Management alluded to this on the last call, saying that:  "I would say that the job Leo and the sales team have done in building up their momentum and building up the pipeline is going to be noticeable going into 2009. The sales momentum is real; it’s a little frustrating because it takes a little while for it to be recognized. But it is going to be a tremendous contributor going forward."  On a rough base of ~$50m revenue in 2008, adding ~$10m in 2009 (conservatively based on the ytd run rate and assuming no real acceleration in winning of new business) would represent 20% top line growth.  Not without coincidence, 20% revenue growth is in fact the company's stated target going forward once the new sales organization is fully operational.

Lastly, margins should improve through two ways:  increased use of speech recognition (more productive) and offshoring (cheaper).  For example, the percentage of Q3 volume edited using speech recognition increased to 32% vs. 24% a year ago.  The company's goal is to increase this percentage to at least 40% over the next two years.  At the same time, the percentage of worked performed by offshore partners increased to 20% of Q3 volume vs. 15% a year ago.

Stock
To recap, this is a growing company with a recurring revenue model with high levels of customer satisfaction in a defensive sector.  Conservatively assuming 20% eps growth next year (eps should actually grow faster than sales) and a 15 multiple implies a 30%ish return from these levels.  With a higher multiple (20x), the stock could trade as high as $17+, about 70% return from today's price.  

 

Catalyst