Note: I attended the Value Investing Seminar in Italy, which took place over the past two days. The event is organized by Ciccio Azzollini (CEO of Cattolica Partecipazioni, SpA) and Whitney Tilson. The event includes top value managers from both the US, Europe and abroad.
For conferences, I have found that readers like when I post a very informal write-up. Therefore I am just posting the notes that I have and not making the presentations into a formal summary. The articles might take a few days to post, as I cannot post the slides from the conference, but I need to double check them for accuracy. In addition, certain speakers have requested that I leave out certain information which was part of their presentation.
The posts are in no particular order, although I thought some were better than others. Although, without exception they were all fantastic, not least Oliver Mihaljevic's presentation.
Oliver Mihaljevic has over 10 years' of experience in the investment research and management industry. In his current role as managing editor at The Manual of Ideas, Oliver leads a research team that brings value-oriented equity investment ideas to subscribers in an acclaimed monthly report. Prior to joining The Manual of Ideas in 2009, Oliver was an investment analyst for US-based hedge fund Steel Partners. Previous positions included portfolio manager at a Germany-based private equity investment firm as well as equity research analyst for Credit Suisse First Boston in New York. Oliver holds a BA in economics from Yale, where he studied under Yale chief investment officer David Swensen. Oliver resides in London.
US For-Profit Education Stocks:
A “Magic formula” Approach
We profiled ten for profit companies that score high on the magic formula.
Magic formula
Net nets or various similar approaches
Sum of the parts
Other approaches: spinoffs etc.
First a brief review of Joel Greenblatt’s the magic formula:
Value oriented ideas in general for Manual of Ideas.
The magic formula is similar to Warren Buffett buying good companies at cheap price. It is popularized in Joel Greenblatt’s book, "The Little Book That Still Beats the Market."
Cheap trailing EBIT/EV
Good: EBIT/capital employed
You want the great companies that can take the capital and re-invest it, like Tom Russo stated earlier.
The formula has outperformed 1999-2011, and back to 1988, as Greenblatt showed in the book.
Quantitative approaches usually are hard to understand, but the magic formula makes sense, because you are buying good businesses at cheap prices. The formula will continue to work due to institutional imperatives, which Warren Buffett discusses, and emotional biases.
Most professional money managers would be out of business if they underperformed for three years, which happens with the magic formula periodically over three-year time horizons.
We know some companies will not outperform, which are on those list. It is very difficult to do, that is why Joel Greenblatt is an advocate of value weighted indices.
But to look to see whether the companies have high returns on capital, you need to see whether they are sustainable. Additionally, is the business in a growing industry or one in secular decline?
Are the high ROCs on education sustainable?
It is hard to know, because some companies derive 80% of revenue from the US government
The industry is growing, but it could be slowed by regulatory growth, including new legislation that are related to recruitment and marketing.
Other companies on the list are at risk:
Amed gets 80% of revenue from medicare
Comtech — losing 50% of revenue as army contracts expire
Forest Labs, San Disk, Microsoft (MSFT, Financial), Dell (DELL, Financial), Deluxe, H&R Block are all facing risks. It is very easy to dismiss almost every company.
Unlikely past winners have included McGraw-Hill, no one liked it in 2009, David Einhorn is short the company. The risks were mainly due to its ownership of Standard & Poors, and regulatory risk. Today the stock is at $42.
Metropolitian Health Networks — depends on Medicare Advantage for revenue. Was trading at $2.20 in September 2009, and today it is at $70.
Travelzoo (TZOO) was an online travel related company, and in November 2008 it was trading at $5, today it is at $70. At $5 this was a net cash company, and had no leverage.
All three of these would have been easy to dismiss by opening up a newspaper.
Conclusions:
It works.
For-profit education stocks score highly.
Easy to dismiss.
It works precisely for that reason, they are easy to dismiss. Their share prices reflect these concerns and usually overstate the problems, and that is where the opportunity arrives:
Corinthian Colleges (COCO, Financial):
Jim Chanos announced he was bearish on for profit in 2009; Steve Eisman was bearish in 2010. Back then it was trading at 15-20. Most companies were expensive then, trading at 3x revenue and 30x earnings. In summer 2010, Government proposed new rules on for profits, and Corinthian went down from $15 - $20 to $5 a share. It is now still trading around that level.
The valuations of the 10 education companies are trading at EV/EBIT of 5x. These companies employ almost no capital, and have 20% earnings yields. Some are only online and have almost no capital. The TTM does not account for regulatory impact that is coming in the future, as students start declining as a result of new regulation.
However, even if operating income is cut in half, the valuation would still be cheap for many of these companies.
The bear case of Jim Chanos reiterated his thesis a month ago:
There are structural issues. These businesses should not really exist, and there are regulatory problems.
The case is still compelling and it has largely worked out, but the valuation is very different than in 2009, when Chanos was originally bearish.
The bearish case and emotional trap is all over the headlines. However, on June 2, 2011, the government enacted a rule called “gainful employment,” that these students should be able to get a good job after they go through these programs, or the programs will lose their funding.
The US Department of Education estimates only 5% of for profit programs will lose their eligibility by 2015! This stands in to stark contrast to the bearish news, which is constantly repeated.
“Gainful Employment”
At least 35% of loans must be repaid (which is defined as $1 a year repaid!), or annual loan payment cannot exceed 12% of graduates’ total earnings, or other criteria. If only one of these criteria is met then the schools are eligible for government funding.
There were recent fears about: rating agencies, health insurers, banks, offshore oil drillers, and possibly for-profit education companies?
The side of the coin to be bullish is that 67% of the population above 25 do not have a college degree, a large percentage has some college experience but no degree, and current estimates show a shortfall of 13-16 million graduates to meet goals of the Obama administration.
For-profit is here to stay:
Large percentage of population attends for-profit.
Politicians won’t throw millions of students onto street.
Students are mostly minorities, so it is difficult political issue.
Not the first government-funded sector with questionable outcomes/practices: defense, healthcare, bank bailouts, etc.
Corinthian College, Career Education and Lincoln Education: using a 20% decline in revenue over the coming year and using very conservative EBIT margins; all three companies would still be trading at a discount to their recent market values; COCO would be trading at 68% discount!
If you used a much more normalized EBIT margins in the valuation, all these stocks would be trading at very large bargains.
Not all companies are the same. Bridge point trades at 4x EBIT, and had 13% y-y growth. Most for profits have strong balance sheets. Some valuations are cheaper than others; COCO is at EV/EBIT at 3x, while DeVry is at 8x even though the companies are very similar.
Internet focused companies have high margin models; they can access global demand for education.
There are increasing barriers to entry due to regulation?
Disclosure: None
http://www.valuewalk.com/
For conferences, I have found that readers like when I post a very informal write-up. Therefore I am just posting the notes that I have and not making the presentations into a formal summary. The articles might take a few days to post, as I cannot post the slides from the conference, but I need to double check them for accuracy. In addition, certain speakers have requested that I leave out certain information which was part of their presentation.
The posts are in no particular order, although I thought some were better than others. Although, without exception they were all fantastic, not least Oliver Mihaljevic's presentation.
Oliver Mihaljevic has over 10 years' of experience in the investment research and management industry. In his current role as managing editor at The Manual of Ideas, Oliver leads a research team that brings value-oriented equity investment ideas to subscribers in an acclaimed monthly report. Prior to joining The Manual of Ideas in 2009, Oliver was an investment analyst for US-based hedge fund Steel Partners. Previous positions included portfolio manager at a Germany-based private equity investment firm as well as equity research analyst for Credit Suisse First Boston in New York. Oliver holds a BA in economics from Yale, where he studied under Yale chief investment officer David Swensen. Oliver resides in London.
US For-Profit Education Stocks:
A “Magic formula” Approach
We profiled ten for profit companies that score high on the magic formula.
Magic formula
Net nets or various similar approaches
Sum of the parts
Other approaches: spinoffs etc.
First a brief review of Joel Greenblatt’s the magic formula:
Value oriented ideas in general for Manual of Ideas.
The magic formula is similar to Warren Buffett buying good companies at cheap price. It is popularized in Joel Greenblatt’s book, "The Little Book That Still Beats the Market."
Cheap trailing EBIT/EV
Good: EBIT/capital employed
You want the great companies that can take the capital and re-invest it, like Tom Russo stated earlier.
The formula has outperformed 1999-2011, and back to 1988, as Greenblatt showed in the book.
Quantitative approaches usually are hard to understand, but the magic formula makes sense, because you are buying good businesses at cheap prices. The formula will continue to work due to institutional imperatives, which Warren Buffett discusses, and emotional biases.
Most professional money managers would be out of business if they underperformed for three years, which happens with the magic formula periodically over three-year time horizons.
We know some companies will not outperform, which are on those list. It is very difficult to do, that is why Joel Greenblatt is an advocate of value weighted indices.
But to look to see whether the companies have high returns on capital, you need to see whether they are sustainable. Additionally, is the business in a growing industry or one in secular decline?
Are the high ROCs on education sustainable?
It is hard to know, because some companies derive 80% of revenue from the US government
The industry is growing, but it could be slowed by regulatory growth, including new legislation that are related to recruitment and marketing.
Other companies on the list are at risk:
Amed gets 80% of revenue from medicare
Comtech — losing 50% of revenue as army contracts expire
Forest Labs, San Disk, Microsoft (MSFT, Financial), Dell (DELL, Financial), Deluxe, H&R Block are all facing risks. It is very easy to dismiss almost every company.
Unlikely past winners have included McGraw-Hill, no one liked it in 2009, David Einhorn is short the company. The risks were mainly due to its ownership of Standard & Poors, and regulatory risk. Today the stock is at $42.
Metropolitian Health Networks — depends on Medicare Advantage for revenue. Was trading at $2.20 in September 2009, and today it is at $70.
Travelzoo (TZOO) was an online travel related company, and in November 2008 it was trading at $5, today it is at $70. At $5 this was a net cash company, and had no leverage.
All three of these would have been easy to dismiss by opening up a newspaper.
Conclusions:
It works.
For-profit education stocks score highly.
Easy to dismiss.
It works precisely for that reason, they are easy to dismiss. Their share prices reflect these concerns and usually overstate the problems, and that is where the opportunity arrives:
Corinthian Colleges (COCO, Financial):
Jim Chanos announced he was bearish on for profit in 2009; Steve Eisman was bearish in 2010. Back then it was trading at 15-20. Most companies were expensive then, trading at 3x revenue and 30x earnings. In summer 2010, Government proposed new rules on for profits, and Corinthian went down from $15 - $20 to $5 a share. It is now still trading around that level.
The valuations of the 10 education companies are trading at EV/EBIT of 5x. These companies employ almost no capital, and have 20% earnings yields. Some are only online and have almost no capital. The TTM does not account for regulatory impact that is coming in the future, as students start declining as a result of new regulation.
However, even if operating income is cut in half, the valuation would still be cheap for many of these companies.
The bear case of Jim Chanos reiterated his thesis a month ago:
There are structural issues. These businesses should not really exist, and there are regulatory problems.
The case is still compelling and it has largely worked out, but the valuation is very different than in 2009, when Chanos was originally bearish.
The bearish case and emotional trap is all over the headlines. However, on June 2, 2011, the government enacted a rule called “gainful employment,” that these students should be able to get a good job after they go through these programs, or the programs will lose their funding.
The US Department of Education estimates only 5% of for profit programs will lose their eligibility by 2015! This stands in to stark contrast to the bearish news, which is constantly repeated.
“Gainful Employment”
At least 35% of loans must be repaid (which is defined as $1 a year repaid!), or annual loan payment cannot exceed 12% of graduates’ total earnings, or other criteria. If only one of these criteria is met then the schools are eligible for government funding.
There were recent fears about: rating agencies, health insurers, banks, offshore oil drillers, and possibly for-profit education companies?
The side of the coin to be bullish is that 67% of the population above 25 do not have a college degree, a large percentage has some college experience but no degree, and current estimates show a shortfall of 13-16 million graduates to meet goals of the Obama administration.
For-profit is here to stay:
Large percentage of population attends for-profit.
Politicians won’t throw millions of students onto street.
Students are mostly minorities, so it is difficult political issue.
Not the first government-funded sector with questionable outcomes/practices: defense, healthcare, bank bailouts, etc.
Corinthian College, Career Education and Lincoln Education: using a 20% decline in revenue over the coming year and using very conservative EBIT margins; all three companies would still be trading at a discount to their recent market values; COCO would be trading at 68% discount!
If you used a much more normalized EBIT margins in the valuation, all these stocks would be trading at very large bargains.
Not all companies are the same. Bridge point trades at 4x EBIT, and had 13% y-y growth. Most for profits have strong balance sheets. Some valuations are cheaper than others; COCO is at EV/EBIT at 3x, while DeVry is at 8x even though the companies are very similar.
Internet focused companies have high margin models; they can access global demand for education.
There are increasing barriers to entry due to regulation?
Disclosure: None
http://www.valuewalk.com/
