WebMD Surges On Earnings Surge--Buy Or Sell?

By Will Ashworth | July 15, 2013 AAA

Health information provider WebMD (Nasdaq:WBMD) announced second quarter earnings July 12 that included a surprise profit instead of a loss. Its stock jumped 27% on the news. If you currently own its stock, should you be selling? If you don't, should you be buying? I'll answer these two questions below.

Why The Jump?
You don't get eight times the usual average daily volume without a real catalyst of some sort. WebMD's jolt came as a result of a 5-cent profit in Q2 compared to an 11-cent loss in the same quarter a year earlier. Probably even more surprising was the fact analysts expected it to deliver a break-even quarter. Revenues are expected to come in around $124 million, a 10% increase year-over-year and $7 million higher than analyst expectations. In addition, it upped its full-year guidance for revenue to between $485 million and $505 million, its best yearly increase since 2010.

It's official. WebMD's stock has more than doubled year-to-date, up 138% through July 12. In comparison, the PowerShares NASDAQ Internet Portfolio (Nasdaq:PNQI) has gained 25% so far in 2013. WebMD was hot before its latest announcement which is good news for long time shareholders like Kensico Capital, which first made a $92 million investment in WebMD's predecessor company, HLTH Corporation, in Q2 2007. Today, Kensico owns approximately 5.69 million shares in WebMd, making the health information site the hedge fund's eighth largest holding out of a total of 36.

If You Own
Shareholders got 0.444 shares in WebMD for every share of HLTH Corp. Kensico Capital held 4.16 million shares in WebMD once the merger was completed on October 23, 2009. WebMD's share price is flat from the merger date through July 12's big move. How much they actually paid for those shares is a bit tricky to calculate because they've done a considerable amount of trading in and out of the position before and after the merger. An educated guess--they were bought for less than $34. Since the merger, Kensico's picked up an additional 1.53 million shares. Again, that's with a lot of trading in and out of WebMD's shares.

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So let's assume that the average long-term investor bought just after the merger for $34 per share. Only now are they getting back to break-even. Should he or she ride the momentum of 2013? Or should they call it a day having recouped their initial investment? Four years is a long time to sit on an investment without any kind of return. Warren Buffett types might be able to hang in their but when you consider that its stock was as high as $58.55 only 18 months after the merger, it's really difficult to accept that you could have sold two years ago when you had the chance and didn't.

WebMD's business went off a cliff in the first six months of 2012 as its pharmaceutical customers held back its spending. In January 2012, former CEO Wayne Gattinella resigned just as the company projected its 2012 revenue would be as much as 8% lower than in 2011. It turns out that was a conservative estimate as revenues declined 16% year-over-year to $470 million with an operating loss of $25 million, $135 million worse than in 2011. At the end of May 2012, WebMD hired Pfizer (NYSE:PFE) executive Cavan Redmond to right the ship. In his first conference call in July of that year, Redmond indicated that the company's cost structure was out of whack given the patent expiration troubles many of its clients were facing. One year later it appears that revenues are growing again and more importantly, it's once again making money. In hindsight, Redmond clearly was a temporary hire (resigned May 7) meant to calm investors and influence Big Pharma into spending once again. On both fronts it appears to have worked.

If you already own its stock I think you have to see how this plays out. With the economy improving, advertising spend increasing and big product introductions by the pharmaceutical companies ramping up, all the signs point to a good future. I'd hang in there.

Should You Buy
Absolutely! If everything plays out as I've described in the previous paragraph, its all-time high of $58.55 isn't too far off. In the past rumors have cropped up that someone like Google (Nasdaq:GOOG) or Yahoo (Nasdaq:YHOO) would buy it. While that's unlikely, two or three more quarters with solid numbers and someone will step up--and not at $34.

If you've got some speculative dough, I'd seriously consider making a bet. However, be prepared for extreme volatility. A stock going up 25% in one day can also come down 25%. But other than that, you'll be fine.

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