SmartPros Ltd. (SPRO), a company operating in the professional education and corporate training field whose customers include many of the Fortune 500 companies, suffered its first quarterly loss in four years last May. Since it grows quickly through small acquisitions, the upfront costs that are brought along with the purchase or development of new course offerings are often higher than the short-term revenues coming from the sale of those courses. As a result, it can take some time for the revenues to catch up with those costs throughout the year, especially after a period where the management has been active in acquiring smaller companies. This was the case during FY 2007 and explains the slow start to FY 2008 which led to today's price of $3.50.
The company recently completed its largest acquisition, paying $4.4M in cash for Loscalzo Associates, a provider of live accounting and auditing related conferences and seminars. Loscalzo is said to have averaged $1.2M in earnings and $3M in revenues over the last two years meaning SmartPros would have a paid a very low multiple for this accretive acquisition. The full financial statements of the target company should be released fairly soon.
The reason why SmartPros represents a compelling opportunity is that the company has a very strong balance sheet (no debt and $9.8M in cash pre-acquisition) and has earned significant free cash flows over the last couple of years. With its current enterprise value of $7.64M ($17.43M in market cap minus $9.8M in cash), the stock is currently selling for only 2.6 times its $2.93M 2007 FCF and 3.6 times its $2.13M TTM FCF. It is still too early to estimate the impact the latest acquisition will have on the future cash flows but the recent successes of the previous, albeit smaller acquisitions leaves us optimistic. One of the benefits of the Loscalzo acquisition is that it should lead to a large increase of the Return on Invested Capital. The estimated $870K in net assets that was purchased for $4.4M will return much more in earnings than the interest income coming from the large amount of cash that was previously sitting on the balance sheet. The company was overcapitalized and once the market sees the new cash flows rolling in, the shareholders will most likely be rewarded.
During the last conference call, the CEO also mentioned that the company should be able to cut overheard expenses by approximately $850K during the second quarter, meaning an important improvement could be seen when it releases its earnings next Wednesday.
Moreover, the managements’ interests are strongly aligned with the shareholders’ now that the CEO owns 7.0% of the total outstanding shares and the directors and officers own a total of 13.7% as a group. The other large shareholder is Osmium Partners, a group of value investors, which owns 5.1% of the company.
It remains to be seen whether the company can continue to post such a strong ROIC in this competitive industry as the barriers to entry remain relatively low. Still, the large size of its course library, its large customer base and the various licenses that are required to offer the training that the company offers provides SmartPros with a certain protection in its niche.
Disclosure: Author holds a long position in SPRO