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Psychemedics: World’s Largest Provider of Hair Testing for Drug Abuse

December 14, 2012 | About:
Psychemedics Corp. (PMD) is the world’s largest provider of hair testing for drugs of abuse. It provides testing services for the detection of abused substances through the analysis of hair samples. Its testing methods utilize a proprietary technology to enzymatically dissolve hair samples and then perform radioimmunoyassays on the hair sampled, with confirmation testing by mass spectrometry.

Valuation

PMD currently trades at a trailing 12 months P/E of 18.12 and a trailing 12 months EV/EBITDA of 9.29. Its current P/E valuation represents a 11% premium to its five-year average P/E of 16.29. PMD achieved a 27.7% ROE for the past 12 months and a five-year average ROE of 27.6%.

PMD P/E-ROE Comparison Chart

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PMD has been profitable and free cash flow positive for every single year in the past decade.

PMD Earnings-Cash Flow Comparison Chart1355461265979.png

Financial and Business Risks

PMD is debt-free with net cash of $3.7 million representing 6.4% of its current market capitalization of $57.1 million.

PMD's methods are not suitable for determining drug presence in “for cause” testing in connection with an accident investigation, as drug ingestion evidence does not appear in hair above the scalp until approximately five to seven days after use.

Pricing of drug testing services is one of the most important factors considered by customers in selecting a drug testing laboratory. Larger clinical laboratories are becoming increasing cost efficient, due to large-scale automated testing and the consolidation of the clinical laboratory industry.

PMD faces significant supplier concentration risk, as it obtains its most critical raw material, radio-labeled drugs, from a single supplier.

Business Quality and Capital Allocation

PMD's proprietary technology, used in the testing service that analyzes hair samples for the presence of certain drugs of abuse, has significant advantages over the more commonly used approach of testing urine samples. Its tests provide quantitative information that can indicate the approximate amount of drug ingested, historical data which can show a pattern of individual drug use over a significantly wider “window of detection," avoidance of distortion by excessive fluid intake prior to testing, thereby providing superior detection compared to other types of drug testing. Also, when results based on PMD's proprietary hair testing method were compared to urine results in side-by-side evaluations, 4 to 10 times as many drug abusers were accurately identified by its proprietary method, according to management. This is validated by thousands of corporations relying on the proprietary Psychemedics drug testing services, with PMD’s clients including over 10% of the Fortune 500 companies, some of the largest police departments in America and nine Federal Reserve Banks.

PMD is not resting on its laurels and was granted 501(k) clearances for five new, additional assays to test for the detection of cocaine, opiates, PCP, methamphetamine and marijuana using its custom designed EIA analysis of head and body hair in the second quarter of fiscal 2012. Management expects the newly developed immunoassays to meet and even exceed the standards of radioimmunoassay. PMD is confident of maintaining its technological leadership, by combining its new FDA-cleared immunoassays with its new patented method of releasing the drugs from the hair.

PMD has paid dividends in every single year since 1997 and currently sports a dividend yield of 5.5% with a dividend payout ratio of 95%. Dividends are paid quarterly. PMD's most recent quarterly dividend declared in the third quarter of fiscal year 2012, will be its 65th consecutive quarterly dividend.

PMD Dividend Analysis Chart1355461532338.png

Disclosure

The author does not have a position in any of the stocks mentioned.

About the author:

Mark Lin
Mark is a private value investor and runs the Cheapskate Investing website which borrows from the wisdom of value investing giants, using a systematic quantitative screening approach to filter the global stock markets for cheap deep-value cigar-butts and wide-moat compounders. He is also a regular contributor to various value investing communities.

Visit Mark Lin's Website


Rating: 4.0/5 (2 votes)

Comments

batbeer2
Batbeer2 premium member - 1 year ago
Thanks for the article.

Psychemedics is the most profitable company I ever analysed. It's well managed too. Just look at the amount of cash the company spits out and how much of that the CEO takes home.

One brilliant thing about the business is that they sell envelopes to parents. With the envelope comes the right to send back a sample for testing.

Interestingly, about half the envelopes are never returned. Parents buy the envelope and rely on the mere presence of that envelope to scare their wayward kids. At some point the kids cease to be kids and the envelope is disposed of without the company ever providing a meaningful service.

In short, this company sells a lot of $ 250 envelopes..... now why didn't I think of that?

Most competitors (labs) test urine or blood. Is a school, company, prison or local police department more likely to start collecting hair samples or urine samples on a regular basis?!

marklin
Marklin - 1 year ago
Hi Batbeer,

Thanks for your input. Your last sentence "Most competitors (labs) test urine or blood. Is a school, company, prison or local police department more likely to start collecting hair samples or urine samples on a regular basis?!" sums up the investment case for PMD in the best way possible. Putting all the data from test results aside, hair testing for drugs is (and going to be) more socially acceptable than urine testing. The future of urine testing may be confined to accident investigations, as mentioned in my article.

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