G8 Education Ltd. (ASX:GEM, Financial) is an Australian operator of daycare centers. The company has grown through a rollup strategy funding growth through debt and stock issuance. The dividend yield is high and the stock is a major holding of FPA International.
The stock trades for 3.22 Australian dollars ($2.53), there are 448.5 million shares and the market cap is AU$1.444 billion. Trailing 12-month earnings per share are 22 cents and the stock trades at a price-earnings ratio of 14.6. The dividend is 24 cents and the dividend yield is 7.5%. That’s amazing.
Sales grew from AU$271 million in 2013 to AU$773 million in 2016. That’s great growth, but there was some share dilution too. Shares outstanding grew from 275 million to 378 million over that time frame and now stand at 448.5 million. Earnings per share grew from 11 cents to 21 cents over the same period. Return on equity is usually in the low to mid-teens.
Free cash flow was AU$83.57 million in 2016, but has fallen to AU $17.41 million over the last 12 months. If G8 can get back to that free cash flow, that would be an excellent valuation based on a market cap of $1.3 billion. EBIT (earnings before interest and taxes) margins are usually about 20%. The balance sheet showed AU$160 million in cash and AU$19 million in receivables. The liability side showed AU$95.3 million in payables and AU$370 million in debt. Strong balance sheet.
As of the last half-year report, G8 operated 502 centers with 481 in Australia and 21 in Singapore. G8’s locations operate under dozens of brand names, including Ramsay Bourne, Sydney Cove, World of Learning and many others.
Occupancy decreased from 80.6% in the first half of 2016 to 77.2% in 2017. Shares got beat up a few weeks ago when management announced earnings guidance for 2017 would come in closer to AU$160 million instead of AU$170 million. There was a surprise AU$3 million temp agency bill.
I found an article on the internet by Gaurav Sodhi, who is down on G8. He feels the company only grows through buying private centers at EBITDA multiples of four to five and then rolls them up into the parent company. He points out return on assets are only 8% and that the growth has been funded by debt. I can see his point of view. Also, growth has been funded by issuing more shares. This is the growth model of many companies and shareholders should be weary.
Morgan Stanley is uber positive on the stock in a research report that came out today. Analysts expect earnings per share to grow 18% a year for calendar years 2017 to 2020. The company is optimistic Australians will spend more to send children for early childhood education. Morgan Stanley put out a 30-page report on Jan. 29 with a target price of AU$4.25. It is a good report, but much of it has to do with macro trends in Australia and child care. It is difficult to marry those two ideas together and find earnings will grow along with the stock.
I found the stock by looking at FPA International’s top holdings. G8 does not trade in the U.S., so you would have to buy it elsewhere and find a broker that could hold it.
G8 is an interesting company, but I find its growth model a little confusing. It borrows a lot of money to fund its rollup and then issues shares to pay off debt. That makes me a little nervous. I can see a daycare operator as a lot like retailing—you only grow through building more stores. But that’s the problem—G8 grows through purchasing existing centers. I do like the dividend. We won’t be buying shares as I cannot get excited and it is too difficult to buy for the American investor. Still, it’s a good company to know about.
Disclosure: We do not owns shares.
