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Getting Schooled By Career Education Corp

 March 06, 2013 12:28 PM
 


The for-profit education sector has been hit hard by the market, and for good reason. This industry utilized dishonest marketing practices and drove its enormous growth using massive amounts of federal funding that was rubber stamped by public servants asleep at the wheel. But the party's now over; new rules and additional oversight have pushed many companies in this sector into the red, causing massive losses. But has the market overreacted? Perhaps in some cases. For example, Career Education Corp (NASDAQ: CECO) trades at a 43% discount to its net cash position!

While CECO has produced losses over the last couple of years, it has managed to avoid burning cash at a similar rate. Many of the company's losses can be attributed to asset impairments along with Goodwill and intangible write-downs. Future losses in some of the company's segments also appear unavoidable, but consider that in a year where the company had to adjust to a much lower revenue environment (due to drastically new regulatory compliance requirements), CECO's operating cash flow used only $17 million in 2012. Compare this to the company's $320 million net cash position (all cash less all debt) and $180 million market cap!

Management appears focused on stemming the losses by cutting non-profitable programs. Cuts initiated in the fourth quarter are expected to yield savings of over $50 million per year. In addition, the company has stopped marketing a number of its programs, choosing instead only to maintain operations required to teach existing students (so-called "teach outs"). Undoubtedly, this will have an effect on revenue; but these are likely unprofitable programs that were either eating cash or not generating decent returns on capital.

Admittedly, the earnings outlook for this company is murky, and there's no growth on the horizon. But CECO may make sense as a balance sheet investment if the losses are indeed curbed. With a tangible book value of about $400 million, the equity investor is paying just $180 million for a company with a strong net cash position that has time to turn things around and is currently aggressively cutting costs. Other companies in this space are also beaten down, but don't trade at this massive discount to net cash. Apollo (NYSE: APOL), Corinthian (NASDAQ: COCO), ITT (NYSE: ESI), Strayer (NASDAQ: STRA), and DeVry (NASDAQ: DV), for example, all trade at premiums to cash, and in many cases substantially so!

There are some caveats of which investors need to be aware, however. Much of the tangible book value is made up of computer hardware/software, furniture and leasehold improvements, which are of little value if operations turn further south. But it's difficult to tell just how much these components are included as property, because depreciation numbers aren't broken down by type of capital item.

Another worry is the company's litigation situation. This company has made a lot of enemies over the years. It is being sued by students, investors, employees, the federal government, and state governments. If that wasn't enough to scare you, there is also an SEC investigation that is ongoing, and the Education Department is conducting an inquiry concerning violations of misrepresentation regulations. All of the events causing these issues occurred when this was essentially a different company; nevertheless, the liabilities are very real.

A good portion of the company's cash is also spoken for in the form of deferred revenues. As revenues fall, as they certainly will as "teach-outs" are implemented, some of this spoken-for cash will disappear and not get replaced.

Finally, the company also has a number of operating leases expiring way out into the future. These total almost $640 million, though the company is working on trimming this number. Another downturn in operations, or a lack of ability to meaningfully cut costs, would make these fixed costs loom large.

Unfortunately, estimating the final cost of these liabilities is difficult to impossible. As such, this company is far from a sure thing, discount to cash or not. Nevertheless, it is clear that Mr. Market is trading this company as if it has no future. The company's substantial cash holdings, however, suggest the upside to such an investment is higher than the downside is low. Each investor will have to come to his own conclusion about the return profile of this investment.

What do *you* think?

Disclosure: No position
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(1)
 
3/9/2013 1:37:19 AM
by M&A Dae
2011 negative enrollment growth 18% down, 2012 23% enrollment down, CECO 2012 Net Income Growth, -3,112.81%... Cash must be maintained to hit financial stability measure, protection for current student population teachouts. CFO did not assure operating income for 12 months in Feb 28 2013 conference call. CFO projected 2013 student population would decline only 2%, breaking the -18%, -23% yoy trend, unable to give time on that. Q1 2013 will see enrollment declines continued at ~25% yoy, ... Was the CFO claiming a turn around and tremendous increase in Q2-4 2013 to offset Q1 loss, or was the negative 2% enrollment an accommodation in the Non-GAAP projections in order to maintain solvency? CECO has been trading below Cash for a while because not all investors have a "murkiness" issue. Traders who do due diligence and/or know the sector don't want to buy the grandest cruise liner ever constructed after it hit the iceberg. CECO stock has gone from ~$68 to $2.65. You are going against a steep trend at an institutional level and in a sector under pressure. For-profits are facing regulatory competition and now competition from non-profit traditional universities,as well as an emerging sector of MOOC's and other free ('ish) and possibly accredited options in the market. If I had to guess, based on the narrow hedging language of this article it is a professional advocacy piece. Advice- not all publicity is good. CECO is not raising revenue through stock sales, balance sheet (GAAP) is the only communication that matters.
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