For a while now I have been looking to see if there are any other players in the sector that share some of Strayer’s strengths and prospects. As I wrote recently, I think I may have found one in Capella Education (NASDAQ:CPLA).
Online education is here to stay and there is every indication that it will continue to gain traction. Capella is beautifully poised to take advantage of this trend by utilizing an exclusively online delivery system and by focusing primarily on graduate programs. This laser-like focus with regard to the delivery system and to the educational programs offered gives Capella a significant level of differentiation from other players in the sector. It is this differentiation which forms an important cornerstone of the company’s strategic plan for future growth.
Capella recently reported its second quarter 2007 earnings and the results continue to demonstrate that the company is on a solid growth trajectory. Total enrollment increased by 24% and now stands at just under 20,000. Of these students, 43% are enrolled in master’s programs and 40% in doctoral programs. The most rapid growth is occurring in the master’s programs where the number of students grew 32%. Total revenue grew 24%, net income grew 57%, and diluted EPS grew 12%. The principal reason for the large difference in these last two figure is the 43% increase in the number of outstanding shares, an increase which is related to the initial public offering, completed in November, 2006, and a follow-on offering, completed in May, 2007. Cash, cash equivalents, and marketable securities rose 25% during the first half of the year and now stands at 109.3M. The company has no debt.
Using the just-reported figure of 17.2M shares and the current share price of 42.73, the company sports a market cap of 735M and an enterprise value of 625.7M. With TTM revenue of 201.2M, this gives an enterprise-value-to-revenue ratio of 3.1. With a TTM EPS of 1.18, the PE is 36.
The company is generating lots of cash and one way to value this is via owner earnings which we will compute as net income + D&A – maintenance capex. The tricky part is computing this last term. Total capex at present is high due to the fact that the company is in its very early stages and also due to its continuing investment in an Enterprise Resource Planning system, scheduled for completion in 2008. Just how much of total capex can be regarded as related to maintenance as opposed to growth is hard to day.
For purposes of this analysis, I will approximate the maintenance capex figure by the amount of depreciation shown on the cash flow statement, which corresponds to roughly half of total capex. This gives a TTM owner earnings figure of 17.3M and an EV/OE ratio of 36.
A reverse DCF calculation shows that the current price represents fair value under the assumption of 30% growth over the next five years, 3% terminal growth, with an 11% discount rate. However, like Strayer, Capella appears to be poised to sustain a decent growth rate for well beyond the five-year period often used to value growth stocks. The current price represents fair value under the assumption of 10 years of 17% growth, a growth rate very close to that of Strayer. !
As with Strayer, the main issue in valuing Capella is one's assessment of the number of years during which, for example, something like a 17% growth rate can be sustained.
Strayer and Capella are in the vanguard of something which comes close to being a paradigm shift in the field of adult education. This revolution has two prongs, one involving an evolution in the nature of the institutions offering degree programs for working adults and the other having to do with the manner in which such programs are delivered.
With regard to the first prong, we are seeing an increasing role being played by for-profit institutions in a realm which used to belong exclusively to the traditional nonprofit colleges and universities. As I have argued in previous articles, I continue to believe that the future of degree programs for working adults lies in the for-profit sector.
The other prong has to with the inescapable fact that online delivery systems are becoming increasingly popular among adult students to the point where it is now clear to me that no institution, whether for-profit or not, will be able to succeed in the adult student market unless it offers substantial online options to its students. Strayer’s approach is to offer a mix of traditional class format and online delivery, and leaves it to the individual student to decide which mode works best for him/her.
This kind of flexibility is very appealing to adult students. Capella’s approach is to offer its programs in an exclusively online format and to target very specific markets via its graduate degree programs. Though each institution takes a different approach, they both seem to have found a winning strategy to capitalize on the revolution which is underway in the manner in which education is provided to non-traditional age college students.
As a postscript, it should be pointed out that there are other companies which are key players in this paradigm shift. By that I mean those companies which provide the software platforms which make possible the delivery of courses via online methods. The dominant player in this regard is Blackboard (NASDAQ:BBBB).
Full disclosure: Long CPLA, STRA, and BBBB.