Perdoceo Education: Undervalued, Asymmetric Risk-Reward Situation

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Investment dissertation

Perdoceo Education Corp 04.30 NASDAQ: PRDO embarked on a path to get out of unattractive and unprofitable investments and focus on assets with the highest return on capital. As a result of this change, revenues fell from ~ $ 1.9 billion ten years ago to about $ 700 million today. However, I believe that the company is now much more profitable and in a better position to provide an attractive return to shareholders. In terms of valuation, the stock is very cheap, trading around 1.3x EV / LTM FCFF. What’s more, the company has a fortress balance of more than $ 470 million, which gives a good margin of safety.

PRDO shares

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Company details

Perdoceo Education Corporation offers higher education mostly online for a variety of students, as well as campus-based and blended learning programs. Accredited institutions of the company – the Technical University of Colorado (“CTU”) and the American System of Intercontinental University (“AIU”) – provide master’s or doctoral programs, as well as undergraduate and bachelor’s degrees. His CTU university offers academic programs in business and management, nursing, health management, computer science, engineering, information systems and technology, project management, cybersecurity and criminal justice. His AIU offers academic programs in business research, information technology, education, medical science, and criminal justice.

Perdoceo

Perdoceo

Market opportunities

From the company’s last 10,000, we learn that the domestic higher education industry is very fragmented and competitive, and no vendor has significant market share. According to the National Center for Education Statistics, there were about 6,000 higher education institutions in the United States for the 2019-20 academic year eligible for federal student assistance, including about 2,300 nonprofit schools; about 2,000 public schools, which include public universities and public colleges; and about 1,800 private nonprofit schools. According to the US Department of Education, for the 12-month period in the 2018-19 academic year, about 26.3 million students were enrolled in higher education.

According to a report published in 2020 by the US Department of Education, in the 2017-2018 academic year, the domestic higher education industry was estimated at about $ 671 billion. PRDO competes in this industry primarily with other regionally accredited colleges and universities that issue degrees. In particular, competition from online programs is growing in these institutions as they increase their online offerings in response to the COVID-19 pandemic and the interest of prospective students is growing.

According to a recent study, the volume of the global e-learning market is projected to reach ~ 457.8 billion dollars by 2026, growing by 10.3% over 2021-2026. The main factors driving the growth of the e-learning market are the rapid growth of Internet connection in developing economies, the growth of digitalization and the emergence of cloud infrastructure. The US was at the forefront of online learning, occupying a significant share of the global market (~ 40%). The e-learning market in the US is projected to grow by 7% between 2020 and 2026. Given the relatively high growth rate of the industry compared to projected GDP growth over the same period, it is likely that the sector will outperform the market in the next few years. Moreover, the fact that PRDO operates in a fragmented market provides many opportunities for mergers and acquisitions.

Catalysts

Perdoceo Education, formerly known as Career Education Corporation, received its new name in January 2020. In recent years, the company has begun the path to get out of unattractive segments and focus on increasing profitability. Although revenue in fiscal year 2011 increased from ~ $ 1.9 billion to $ 700 million in the 20th, the company is now performing much better than it did ten years ago. PRDO has improved its gross margin from 66.4% to more than 80% today, which is reflected in the company’s free cash flow. Despite lower revenues, the company currently generates more than $ 170 million in free cash flow LTM versus $ 152 million in fiscal year 21, which is an important milestone for a market capitalization of $ 710 million. company. If recent operational improvements persist, PRDO could prove to be a dairy cow that provides a high return on investment that is bullish for stocks.

Perdoceo Education Financials

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Moreover, I believe that the company will benefit from favorable trends in the industry, such as high demand for higher education, constant demand for qualified professionals and increased participation of non-traditional adult students seeking a career center. Speaking of technology, the PRDO has introduced the use of sophisticated personalized learning technologies at its universities and through its virtual campus. A patented learning management system company called intelliway serves as a powerful platform that helps students learn.

Another obvious catalyst, in my opinion, is the strong balance and the opportunities that come with it that are not reflected in the evaluation. The company ended the 3rd quarter of 2021 with approximately $ 476 million in cash and short-term investments. PRDO has no debt, which means that the value of the enterprise (EV) is approximately $ 235 million based on a market capitalization of ~ $ 710 million. PRDO received ~ 178 million dollars in free cash flow LTM (FCF). So the stock is currently trading at 1.3x EV / FCF, which is a ridiculously low level, especially compared to the average multiple of U.S. stocks. If the company is able to maintain such a high level of free cash flow relative to its market capitalization, I believe the market will at some point overestimate PRDO. Thus, multiple extensions may double the PRDO score.

Finally, I believe that the scattered U.S. private education market offers an attractive hunting ground for PRDOs to make acquisitions. On March 1, 2020, Perdoceo acquired Trident University International from Summit Partner with a profit of 0.96 times in 18 pounds. for ~ 44 million dollars. If PRDO can find other deals and successfully acquire them, this is another catalyst that can open up value to shareholders.

What are the risks?

When a company trades at such a low price, there is usually a catch. A number of excellent articles on Seeking Alpha discuss the dangers of investing in PRDO associated with regulatory risks. As Small Cap Connoisseur mentions in his previous article on PRDO:

The debate around Perdoceo and other commercial universities ahead of the 2020 election was whether the Democratic president would completely destroy all future business prospects for the industry. We see a pretty big drop in stock prices when the results seemed to point to a Democrat victory for the White House. Now that the dust has settled, we can look at the actual risk it poses and whether the fear was inflated from the beginning.

Here we are in 2022, and PRDO is still running. While I am confident that regulatory risks will persist and will continue to hamper valuation, stocks are now very cheap and the PRDO balance sheet offers a good margin of safety due to the large amount of cash.

Company evaluation

Based on 70.1 million shares outstanding and a price of $ 10.2 per share, the company’s market capitalization is approximately $ 715 million. In this part, I used the free cash flow model with discounts to evaluate the business. The following assumptions were made in the model:

  • Estimated free cash flow at £ 22 is $ 170 million.
  • A 2% growth rate over the next four years.
  • The terminal growth rate is 2%.
  • A discount rate of 15%, which is higher than the WACC PRDO, to reflect increased regulatory risk.

Valuation of PRDO shares

Author’s DCF model

Based on the model, the internal PRDO price is ~ $ 18.65 per share. Given the current price, in my opinion, PRDO is undervalued, and stocks offer a good margin of safety. What’s more, I think my model gives a conservative figure, as I assumed there would be no real growth in the future (long-term inflation is estimated at 2% per year). In addition, management can at any time launch a large buyout program that should accelerate earnings growth on stocks.

Key takeaways

So I feel that the market is very pessimistic about the prospects of PRDO. This is a direct consequence of a number of negative news, but so far no real action has been taken that could seriously worsen the company’s prospects. Since the demand for higher education is likely to remain stable, I personally think that the PRDO is likely to generate a stable cash flow in the future. In terms of valuation, the company is trading at 1.3x EV / LTM FCFF, making it much undervalued. In addition, PRDO has a lot of cash on its balance sheet and can deploy them at any time by repurchase and thus accelerate earnings growth on stocks.

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