Dropping Coverage of the Education (For-Profit) Industry
publication date: Jan 17, 2018
author/source: Valuentum Analysts
By Valuentum Analysts
Valuentum is dropping coverage of the Education (For-Profit) industry to focus resources elsewhere.
Structure of the Education Services Industry
The higher education industry is fragmented with no single private or public institution garnering significant market share. The for-profit education space competes primarily with traditional four and two-year degree-granting accredited colleges and universities. Industry participants are exposed to significant regulation on both the federal and state level and must maintain institutional accreditation to participate in Title IV programs. Risks to federal student funding aid programs and "gainful employment" challenges pose addition threats to the business. We don't like the significant regulatory risks of the industry.
Adtalem Global Education (ATGE)
Adtalem Global Education continues to adapt to survive, but regulatory easing could be the biggest source of upside.
Adtalem Global Education is a provider of educational services and the parent organization of Advanced Academics, American University of the Caribbean School of Medicine, Becker Professional Education, Carrington College (California), Chamberlain College of Nursing, Adtalem Brasil, DeVry University, and the Ross University School of (Veterinary) Medicine.
DeVry changed its name to Adtalem Global Education in May 2017 to signify its student-focused purpose and provide it with a flexible platform that supports its continued diversification efforts. The company continues to adapt to survive, but regulatory easing could be the biggest source of upside.
Prior to its name change, Adtalem announced a new capital allocation plan. A share repurchase program of up to $300 million is in effect through the end of 2020, and it will stop paying its semi-annual dividend. Our opinon of the company's dividend safety was solid, but it is a reminder that the dividend is at the discretion of the board.
As its name change promotes diversification and flexibility, Adtalem expects growth to come from three primary verticals moving forward: 1) Medical and Healthcare, which offers opportunity as global healthcare supply/demand imbalances remain; 2) Professional Education, which provides payer funding diversification to the company and leverages the strength of key brands; 3) Technology and Business, as a material skills gam in both areas can be addressed through shorter-term offerings that augment more traditional degree programs.
Our published fair value estimate range for Adtalem Global Education is $22-$42 per share, with a Valuentum Buying Index rating of 4 and an Economic Castle rating of Attractive.
Bridgepoint Education (BPI)
Retention rates and overall student enrollment have been under meaningful pressure at Bridgepoint Education of late.
Bridgepoint Education is a higher education company. Both of BPI’s academic institutions, Ashford University (Clinton, Iowa) and University of the Rockies (Colorado Springs, Colorado), are regionally accredited by the Higher Learning Commission. It was founded in 1999 and is headquartered in California.
The business models of for-profit education stocks has been under attack in recent years, but the Trump administration is working to change some of the restrictive policies set by its predecessors. Rules set to be rolled back include those aimed at reducing the costs of programs and recruiting restrictions.
Though tough times remain, Bridgepoint Education has the capacity to generate healthy operating margins, which tallied 30%+ in 2010. Net cash from operations can also be healthy, peaking at more than $220 million in 2011. Business, however, has declined rapidly since the beginning of the decade, and one of the few positives about the company is it is debt-free.
There are plenty of reasons to stay away from Bridgepoint Education's equity: 1) the company has had issues with financial statements and its 2013 reports 'should no longer be relied upon because of errors related to revenue recognition that resulted in material misstatements of revenue, bad debt expense and accounts receivable', 2) the for-profit education industry has a history of being rumored to be under attack by key short sellers such as Pershing Square's Bill Ackman, and 3) enrollment declines continue to be sharp even after Ashford University received reaccreditation. Enrollments have fallen significantly from peak levels in 2011.
Our published fair value estimate range for Bridgepoint Education is $6-$18 per share, with a Valuentum Buying Index rating of 3 and an Economic Castle rating of Unattractive.
Career Education (CECO)
Revenue declines at Career Education may slow, but year-over-year comparisons continue to be negative.
Career Education provides for-profit, post-secondary education and has a presence in online education. Its institutions include American InterContinental University, Brooks Institute, Colorado Technical, and Sanford-Brown Institutes & Colleges, among others. The company was founded in 1994 and is based in Illinois.
The for-profit education industry is facing a number of problems, with perhaps the most obvious issue being enrollment, which continues to drop. Revenue declines at Career Education may slow, but year-over-year comparisons continue to be negative.
The company has some key objectives to its turnaround strategy: improve the rate of decline of total student enrollments; reduce organizational cost structure; and successfully complete the closures of certain transitional schools. The firm continues to spill red ink, however. A more favorable regulatory environment could provide a nice boost as recruiting restrictions may be eased.
Though not completely unexpected, Corinthian Colleges 'shocked' the nation in April 2015 by closing its doors, resulting in the biggest school shutdown in US education. Things haven't gotten much better for participants in the for-profit arena, and it's very likely the industry may never see the peaks of yesteryear again.
Career Education decided to teach-out or divest its remaining unprofitable Career Colleges segment and focus on its University Group. The firm's balance sheet is flush with cash, which accounts for a large portion of its intrinsic value.
Our published fair value estimate range for Career Education is $5-$11 per share, with a Valuentum Buying Index rating of 6 and an Economic Castle rating of Neutral.
Capella Education (CPLA)
Capella Education has agreed to an all-stock merger of equals with Strayer Education. Our new fair value estimate approximates the deal price.
Capella is an online post-secondary education firm and the parent company of Capella University, a regionally accredited online university, and Resource Development Intl, an independent provider of United Kingdom university distance learning qualifications. More than 70% of learners at Capella are enrolled in a master's or doctoral degree program. Our favorite attribute of Capella is that it is primarily online-based, which keeps invested capital low and is largely responsible for its impressive Economic Castle rating. The firm owns the social education platform, Sophia. Capella was founded in 1991.
Hands down, Capella has the best business model in the for-profit education space. We're huge fans of its online-based platform, which keeps investment in check, and the firm is one of the few in its industry actually expanding. A potential reduction in federal government spending at the graduate student level in the Trump administration could impact results.
Capella has agreed to an all-stock merger of equals with Strayer Education. Capella shareholders will receive 0.875 Strayer shares for each share owned, representing a premium of ~22% to the price of Capella on the last day before the announcement. The merger is expected to be tax-free, and Capella shareholders will own ~48% of the combined entity.
Capella and Strayer will continue to operate as independent institutions, but the combination is expected to result in ~$50 million in annual cost savings within 18 months of closing (expected third quarter 2018). An expanded product lineup will allow for a more balanced revenue mix.
Our published fair value estimate range for Capella Education is $55-$115 per share, with a Valuentum Buying Index rating of 6 and an Economic Castle rating of Highest Rated.
New Oriental Education (EDU)
Recent top-line performance has been impressive at New Oriental Education, and we've raised our fair value estimate as a result of student enrollment and tutoring and prep course momentum.
New Oriental Education provides private educational services primarily in China. The company offers language training and test preparation courses for language and entrance exams used by educational institutions in the US and China. It was founded in 1993 and is headquartered in Beijing.
Customer loyalty efforts have been paying off at New Oriental Education. Strong momentum continues in its K-12 after-school tutoring business as well. The company's U-Can middle and high school all-subjects after-school tutoring operations are growing rapidly.
New Oriental's numbers are worth a look. Total net revenues have more than tripled since 2009, while operating income and diluted earnings-per-share have more than doubled. All three metrics have marched steadily higher each consecutive year, and investors should expect the next five years to be more of the same.
Recent top-line performance has been impressive, and we've raised our fair value estimate as a result of student enrollment and tutoring and prep course momentum. The Chinese education market is much healthier than the US market, and we're expecting continued expansion.
In July 2012, the SEC issued a formal order of investigation regarding the basis for the consolidation of New Oriental China. The company cooperated and has been informed that the SEC will not take any enforcement action, but fraud accusations came up again in December 2016.
Our published fair value estimate range for New Oriental Education is $36-$74 per share, with a Valuentum Buying Index rating of 4 and an Economic Castle rating of Highest Rated.
Grand Canyon Education (LOPE)
We've raised our fair value estimate for Grand Canyon after it delivered better than expected near-term guidance. Enrollment has been stronger than expected of late, and we've adjusted our cost of capital assumption.
Grand Canyon is a regionally-accredited provider of postsecondary education services focused on offering graduate and undergraduate degree programs in education, healthcare, business, and liberal arts. It was founded in 1949, has Christian roots, and is transitioning to NCAA Division I membership.
Grand Canyon is bucking the revenue declines plaguing its for-profit education peers. The company has experienced significant growth in enrollment, net revenue, and operating income during the past several years. Shares look pricey, however.
Grand Canyon's results have grown more seasonal due to the significant growth of its traditional ground campus, and a large portion of students on the traditional campus only attend classes between the end of August and the end of April. Enrollment growth goes beyond its traditional campus, for example, the firm's new online enrollment growth in 2016 was 9%.
Over 80% of Grand Canyon's students are enrolled in its online programs, and, of its working adult students (online and professional studies students), more than 45% are pursuing masters or doctoral degrees. Approximately 88% of its online and professional studies students are age 25 or older.
Over the long run, Grand Canyon is targeting annual enrollment growth of 6%-8%, annual revenue growth of 8%-9%, and margin expansion of 20-40 basis points per year. Enrollment growth is expected to be driven by 6%-7% growth in online enrollments and 10%-12% growth in traditional campus enrollments.
Our published fair value estimate range for Grand Canyon Education is $44-$92 per share, with a Valuentum Buying Index rating of 6 and an Economic Castle rating of Attractive.
K12's education technology presents the opportunity for individualized programs that meet the unique needs of every child.
K12 offers proprietary curriculum and educational services created for individualized learning for students primarily in kindergarten through 12th grade, or K-12. The K12 proprietary curriculum is research-based and combines content with innovative technology. The company was founded in 2000 and is headquartered in Virginia.
Though we think the runway of growth is lengthy, navigating the complex policies within the K–12 education industry, which vary greatly from state to state, is extremely challenging. Execution will be vital.
The firm's education technology--interactive, adaptive digital learning--presents the opportunity for individualized programs that meet the unique needs of every child. Investors can expect higher marketing costs in its fiscal fourth quarter as it works to drive early season enrollments, which tend to be more engaged and last longer in an online environment.
On the basis of reported numbers, K12 has an excellent combination of strong free cash flow generation and low financial leverage. We expect the firm's free cash flow margin to average about 5.1% in coming years. Total debt-to-EBITDA was 0.3 last year, while debt-to-book capitalization stood at 4%.
Revenue per enrollment continues to grow at K12, but poor enrollment trends have weighed on performance in recent quarters. Management expects a series of platform upgrades to help improve its retention rates, which have suffered of late.
Our published fair value estimate range for K12 is $9-$19 per share, with a Valuentum Buying Index rating of 3 and an Economic Castle rating of Neutral.
Strayer Education (STRA)
Strayer Education has agreed to an all-stock merger of equals with Capella Education.
Strayer is an education services holding company that owns Strayer University. The mission of Strayer University is to make higher education achievable for working adults. Though it has done so, significant risks to its business remain (not the least of which is affordability). The company was founded in 1892 and is headquartered in Virginia.
Strayer has agreed to merge with Capella Education in an all-stock merger of equals. The deal is expected to close in the third quarter of 2018, and ~$50 million in annual cost savings are expected within 18 months of closing. Strayer shareholders will own ~52% of the combined entity.
We're big fans of Capella's competency-based education platform, and we've raised our fair value estimate for Strayer as a result of materially increased expectations. The deal is expected to be accretive to its EPS by roughly 20%-25% by 2019. We like the diversified revenue mix and increased scale the deal will bring, even as both entities will remain independent universities.
Strayer offers high-quality academic programs, with more than 60% of students declaring business/economics as their academic major. Roughly 50% of Strayer's students are enrolled in a bachelor's program. The firm has 2,600 full-time and adjunct faculty across ~100 campuses, mostly in the eastern US.
2016 was a year of continued, albeit slow, improvement for Strayer. Fall term enrollments in the year grew 6% to the highest level since fall 2012. The second quarter of 2017 marked its ninth consecutive quarter of enrollment growth.
Our published fair value estimate range for Strayer Education is $55-$113 per share, with a Valuentum Buying Index rating of 6 and an Economic Castle rating of Very Attractive.
Universal Tech (UTI)
While annual tuition increases at Universal Technical Institute will slightly offset the decline in students, revenue is still expected to decline in the near term.
Universal Technical Institute is a nationwide provider of technical education training for students seeking careers as professional automotive, diesel, collision repair, motorcycle, and marine technicians. The firm operates under the Universal Technical Institute, Motorcycle Mechanics Institute, Marine Mechanics Institute, and NASCAR Technical Institute brands. It was founded in 1965.
Universal Tech has close relationships with its manufacturer partners and employers, which help the firm offer the training that skilled technicians need to succeed. Though we like this aspect of its business, affordability for students continues to be an obstacle.
Universal Technical Institute announced a restructuring plan in September 2016 that has a goal of delivering $25-$30 million in annual cost savings in 2017. Workforce reduction, marketing budget cuts, and other process improvement initiatives are expected to drive the savings. While we like the cost consciousness, the plan indicates expectations for prolonged weakness in its operating environment.
With more cars and trucks on the road, impending retirement for an aging workforce and continued advancements in the technology, demand for skilled technicians is growing. Still, both revenue and operating income trends leave much to be desired at Universal Technical Institute. Economic and regulatory challenges can be overwhelming at times.
While annual tuition increases will slightly offset the decline in students, revenue is still expected to decline in the mid-to-high single digits in fiscal 2017. Continued investments in growth opportunities will result in lower operating income and material suppression of EBITDA.
Our published fair value estimate range for Universal Tech is $2-$6 per share, with a Valuentum Buying Index rating of 3 and an Economic Castle rating of Unattractive.