Is It Time for Investors to Put Stericycle Out With the Trash?

Since trading above $88 in late October, medical waste company Stericycle (NASDAQ:SRCL) has been in somewhat of a tailspin. Is it time for investors to put the company out with the trash before the stock loses more ground?

One hedge fund manager thinks this might be the right move. Paul Nouri of Noble Equity Fund, LP, recently told Seeking Alpha that Stericycle might surprise investors in 2012 — on the downside.

�Since 1989, Stericycle has purchased nearly 250 companies worldwide in the medical waste industry,� he said. �While these acquisitions have aided 15% compound annual growth rates on sales, gross & operating margins are 200 basis points off their 2009 highs and are likely to continue to decline due to pricing pressure. Low barriers to entry breeds competition in the medical waste space and a willingness to undercut Stericycle to gain business.�

In an article published here last March, we waxed enthusiastically about the company�s prospects, noting that �today, Stericycle has the lion�s share — 14% — of a $10.5 billion global market for medical waste and it shows no signs of slowing down. In just the past six months, Stericycle�s shares have climbed from $66.53 to $85.54, a gain of nearly 29%.

It appears we might have gotten a bit carried away. Since that piece appeared, the company�s stock price has dropped more than 9%. But even at $77.36, Stericycle trades at a price-to-earnings ratio of more than 30 based on trailing earnings.

That�s probably far too high for a company in the trash industry, so we probably can look for Stericycle�s P/E to start descending to a level more in line with the other firms in the rubbish industry — say in the 15-16 range. How quickly that occurs remains to be seen. But even at a P/E of 20, Stericycle should be trading at no more than $64 based on estimated earnings of 2012 of about $3.20.

The company might be hearing the footsteps of privately held Daniels Sharpsmart, which last year became the second biggest medical waste company in the United States, according to Business Week. The company also claims to be the world�s largest provider of reusable systems for the disposal of sharps, such as needles.

Last summer, the Department of Justice ordered Stericycle to divest its Bronx, N.Y., waste facility to Daniels to ensure competition after Stericycle acquired an area competitor. Perhaps government pressure, combined with fewer good targets and a need to preserve cash, will force Stericycle to slow down its Pac-Man strategy of gobbling up smaller industry competitors.

Putting the brakes on its buying spree and reducing debt might be a way for the company to keep investors happy in the face of a potential decline in its share price. Stericycle could use its healthy cash flow to pay a nice dividend. Like many firms that experience a slowdown in growth, the company might be primed to make the transition to a value stock that provides decent share appreciation with a healthy yield.

As of this writing, Barry Cohen did not hold a position in any of the aforementioned stocks.