Opposing View: A Bull Defends Pre-Paid Legal

Editor's Note: With this column, we're introducing a new RealMoney feature called "Opposing View." Its debut features the writing of David Berkowitz of Gotham Partners. To find out how to participate, be sure to read Dave Morrow's column.

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Pre-Paid Legal (PPD - commentary - Cramer's Take) may very well be the most heavily shorted public company in America. Of its 19 million shares outstanding, 11.5 million are sold short. But to me, the company doesn't look like an attractive short-sale candidate. Based on our analysis at Gotham Partners, we view Pre-Paid as highly attractive -- and extremely undervalued. In fact, my firm and its related entities own more than 1 million Pre-Paid shares.

Pre-Paid markets a membership plan that offers individuals and small businesses access to legal services. It sells memberships through a network of roughly 200,000 independent sales associates who earn commissions based on memberships sold. To motivate its sales associates, Pre-Paid pays them about 70% of the first year's membership fee (an average of $22 a month) as a commission advance, plus a sliding scale for renewal years.

Wider Appeal

From year-end 1998 through September 2002, Pre-Paid's membership base grew by 130% from 603,000 to nearly 1.4 million, reflecting a growing market acceptance for legal service plans. According to the not-for-profit National Resource Center for Consumers of Legal Services, 154 million Americans are covered by a legal plan.

What sets Pre-Paid apart from its competitors -- including Legal Services Plan of America (a unit of General Electric (GE - commentary - Cramer's Take)) and Hyatt Legal Plans (a division of MetLife (MET - commentary - Cramer's Take)) -- is its use of a single law firm in specific geographic areas to represent the company's members. This system aligns the incentives of Pre-Paid and its provider law firms, encouraging them to keep members satisfied, thus leading to greater retention and, in turn, to greater scale economies and improved service.

Business fundamentals at Pre-Paid have improved substantially since the company began its share-repurchase program in April 1999. Since then, shares outstanding have fallen from 23.6 million to 19 million.

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In this writing, David P. Berkowitz represents his firm, New York-based Gotham Partners. This report is not intended as investment advice or as a solicitation of any kind. It is based on Gotham's analysis of Pre-Paid's SEC filings as well as other public documents and is also informed by their knowledge of, experience in and opinions about Pre-Paid's business and other relevant businesses. At time of publication, Gotham Partners and related entities hold more than 1 million shares of Pre-Paid Legal Services, although holdings can change at any time. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. A more complete version of this report can be found at www.gothampartners.com.