I don't intend to hurt anyone's feelings with this article, and I'm writing this purely for my educational pursuits, considering that I cannot obtain a margin account, and do not generate enough income to trade options (according to TD Ameritrade). Anyways, I estimate that The Corporate Executive Board (CEB) is worth around $68 according to my bullish pro-forma earnings model, indicating downside of around 14% (using the closing price of $79.31 on 1/17/2014). I recommend taking profits immediately, or, if you can tolerate more risk, buy long-term put options. Shorting here might prove problematic, considering that the stock is trading on positive momentum, reinforced with a recent buy recommendation from RBC.
This past year was a great year for CEB: the stock soared 60% and analysts are continuing to be bullish on it. RBC recently gave it an outperform label with a price target of $93, and the mean target price on Yahoo! Finance is currently sitting at $82.57.
All of this hype seems quite dangerous to me, and let's face it, the stock is trading at 100 times its ttm earnings, and 83 times its average earnings of the past 4 years. The industry average, according to Morningstar, is 29.7-which, when applied to my pro-forma earnings model (assuming an above average revenue growth rate of 28%, an EBITDA margin of 18.5%, which is the average of the past 2 years, and a net income margin of 24.5%), yields me a fair value of $68 a share. That model is assuming above-average revenue growth, completely ignoring the anticipated decline of CEB's Personal Decisions Research Institutes, Inc. (PDRI) segment revenue-which, the CEO pointed out might experience a decline in the double digits.
Quoting the CEO from the 2013 Q3 earnings transcript: "Even as we encountered early year noise via the sequester, we elected to keep strong teams in place with a goal of recapturing opportunities during the vital Q3 contracting season. We made some headway, but clearly not enough. Rather than hitting our target growth rate, this business is likely to shrink in the double-digit range, which represents about $10 million of planned revenue."
CEB is in the broad advisory industry, and acts as a consultant to many corporations. As per its last 10-K, CEB offers solutions and products to a member network that is made up of 88% Fortune 500 companies, 62% of Dow Jones Asian Titans, and 80% of FTSE 100. Its businesses span over 100 countries, 10,000 individual organizations, and 225,000 business professionals.
CEB is comprised of 2 operating segments: CEB, and SHL (which it acquired in 2012, along with Valtera). The CEB business segment includes membership programs for senior executives and their teams to drive corporate performance, and the SHL segment provides cloud-based solutions for talent assessment and talent mobility, as well as professional services to support said solutions.
CEB operates within a very competitive industry with low-barriers to entry. To gain more market-share in the industry, CEB acquired SHL in 2012 for $660 M, and it's very interesting to note, that in 2011, CEB's return on invested capital (ROIC) fell from around 33% (65% in Morningstar) to 4.8% (4.59% in Morningstar) in 2012. Why I ended up with 33% for my 2011 calculation is beyond me (I simply used my calculation of EBIT*(1-2011 tax rate)/ (total assets)-(current liabilities-ST debt). Even if my 2011 calculation of ROIC does not agree with Morningstar's, I am convinced beyond a reasonable doubt that CEB is now losing substantial value on its investments: namely, its acquisitions (SHL and Valtera). As it stands now, CEB's ttm ROIC is less than 2%.
The bottom-line here is that CEB is now losing significant value on its investments when comparing ROIC to any reasonable cost of capital. Some of its competitors, like Accenture (ACN), IBM (IBM), and Cognizant (CTSH) achieve ROICs that are consistently much higher-Accenture has been achieving returns between 60-70% for the past ten years! Therefore, due to ROIC alone, I find it hard to believe that CEB can continue to sustain its $79+ share price.
As of now, CEB is trading purely on momentum and technical, and I can say with plenty of confidence that the company has firmly left all of its fundamentals behind. It simply does not make sense to me that a company that is trading at 100 times ttm earnings, and 83 times the average earnings of the past 4 years, along with a dwindling ROIC, can be able to sustain the price it has currently along with all of the analyst price targets that indicate significant upside.
For my model, I assumed that CEB could achieve a strong 28% revenue growth for the next 4 years, obtain its average EBITDA margin of 18.5%, and obtain its recent average net income/EBITDA margin of 24.5%
Pro-Forma EPS Model
EPS Trend Starting from 2007
To support my claim that I did indeed use bullish estimates, consider the EPS trend that began in 2007. A downward trajectory is quite apparent, and while the past is not necessarily a strong forecast for things to come, I do not expect net income margin to recover to pre-2007 levels of around 18% of revenue. If I were to make an educated guess, based upon the increase in expenses as of late, I would expect a margin of between 8-10%, which has been the norm post-2007.
While I don't usually place a great importance on insider purchases or sales, it is interesting to note that over the whole duration of 2013, insiders unloaded their shares like mad-along with plenty of options exercising. Again, while insider sales aren't usually of great importance to me, the sheer size of the selling seems a bit suspicious.
CEB had an awesome run last year, but its valuations do not support its current share price any longer. While I do not have any recollections of the internet-bubble days of the 1990s and early 2000s-as I was at an age where I considered potty-jokes absolutely hilarious, I can easily say that CEB does remind me a bit of the textbook examples that run rampant in any given valuation/investing volume.
Just in-case anyone is still unclear, I don't have a position in this stock, and do not plan on setting up a position, as I do not have the ability to obtain a margin account or an options account. This article was intended to be purely educational.