Apollo Education Group, Inc. (NASDAQ:APOL) is one of those stocks that tests the patience of value investors. Like the rest of the for-profit education industry, it’s been in a tail spin for years. The problems are well known: For-profit educators exploited the torrent of government money available for higher education and loaded students with too much debt for jobs that held little prospect of repaying the loans. The government’s response has been to turn off the spigot by mandating colleges meet minimum levels of gainful employment and maximum debt-to-starting salaries. This has in turn led to declining enrolments, revenues, profits and a swathe of bankruptcies. Many long investors have put the industry in the too-hard basket for the massive regulatory risk it has attracted. Other have been short to the gills. Both have have been smart trades for going on ten years now.
Here’s one smart take on APOL’s ongoing problems. In Apollo: Who Is Minding The Shop? contrarian, long/short equity investor Dallas Salazar points the bone at management:
Several analysts on the investor call actually called Cappelli out on the fact that Apollo has been in constant turnaround mode under his current and former co-regime and that at some point The Street is going to wonder why anybody sane at the company hasn’t taken a look at “management”. Of course, Cappelli was quick to blame individual college Boards and individual college management teams. He then followed this passing of the buck by stating that Apollo would do anything to help these managers be successful. So who is minding the shop? Who is really running this show? I thought it was Cappelli. Maybe I’m wrong?
The point is that Apollo is facing an incredibly tough uphill climb and it largely has nothing to do with Apollo’s University of Phoenix. Largely, for-profit educational institution is simply outdated. Still, there are things that can be done to evolve the model (as was suggested by an analyst on the call) and things than can be done to aggregate market share that is bleeding out of other players. Cappelli clearly doesn’t “get” any of these.
If Apollo is to be saved it needs leadership that can take it through the most difficult transition the company has ever faced. This isn’t Cappelli and this isn’t the sitting board. I continue my call for the removal of both.
Salazar is short, but might change his mind given a change in management. I have some sympathy for the view that out or short continue to be smart trades, but I think APOL is now simply too cheap to ignore.
The numbers are eye-popping. With a market capitalization of $1.254 billion, and net cash of almost $900 million, APOL trades on an enterprise value of just $356 million. It generated operating earnings of $224 million in the last twelve months, putting it on an acquirer’s multiple of just 1.59x. A little over $119 million of the operating earnings are free cash flow, putting it on a FCF/EV yield of 33 percent. It’s used that cash flow to buy back 7.4 percent of its outstanding stock last year.
With so much cash on hand, and such great free cash flow figures, APOL needs to light a fire under the buyback. According to the most recent earnings call (transcript here), share repurchases are still on the menu:
Denny Galindo – Morgan Stanley
Okay, that’s helpful. One other one on capital management. It sounds like you’re kind of shrinking the organization to the right size and there is a little bit of uncertainty over the next two years as you finish your plan of what that size is. Does this mean you’re going to shift away from repurchases and more towards acquisitions in say Apollo Global, as a use of capital over the next two years until you have a better idea of where the right size for the organization is?
Greg Cappelli – Chief Executive Officer
You know I didn’t say that. What I said is, given the circumstances we look at that capital every single quarter with our board, I think there are times when share repurchases have in the past and will continue to make sense. We look at sort of a pyramid of every dollar we use, whether it’s in global or, frankly, we are investing back into certain areas of our domestic operations or the B2B solutions which we have been spending some money on at, professional development as well, and we look at those returns sort of in order. And we do think that there is an appropriateness at certain times for share repurchases as well and that will continue to be part of the dialogue going forward. It’s hard for us to signal exactly how much we are going to spend and in what areas because we are not allowed to do that. But it certainly has been part of the conversation and is every quarter when we meet with our board.
APOL really gets my gag reflex going. It’s been Waterloo for value guys for years now, and the short arguments sound smart. It’s also way too cheap. At these levels, it warrants a small position.
I don’t currently hold it, but I’ll buy into it at the next rebalance date (October 1) if it remains in the screen.
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