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You've heard of sandbagging guidance figures, but how about this: To hit the company's 2011 guidance, Bridgepoint Education (NYSE: BPI ) will now have to lose more than 5,000 students by the end of the year. For a company that has grown its student base by more than 17-fold in just four years -- and added 34% more students last quarter -- that is just ridiculous.
When we first purchased shares of Bridgepoint in April, we were primarily betting that it was undervalued relative to an overvalued Strayer Education (Nasdaq: STRA ) , which we shorted. Last week, with Strayer down about 20%, I covered our position and locked in our profit. That left our Bridgepoint shares unhedged, but even with our shares up about 20%, the stock remains dramatically undervalued. Today I am adding another 4% to bring our total allocation to 7%.
Bridgepoint's first-quarter results, which were released since we first bought shares, served to strengthen my thesis on the company. Bridgepoint brought in 22,000 new students in the quarter, pushing the total to 88,252. In just the first three months of the year, the company blew past management's stated expectation of reaching 82,000 to 83,500 students by year-end. Revenue grew 47%, while instructional, marketing, and administrative costs were all roughly flat per-student and lower as a percentage of revenue when compared to full year 2010. This continued growth allows Bridgepoint to take advantage of increasing cost advantages of scale. Those scale advantages materialize in higher margins: Bridgepoint's operating margin has grown every year since inception, and the 37.5% posted last quarter is the highest ever.
Operations aside, Bridgepoint is now sitting on a small mountain of $300 million of cash and no debt, meaning that a whopping 29% of its market cap is now in cash. With an enterprise value of $751 million, the company is trading at a scant 2.9 times EBITDA.
One risk not to overlook
The risk I consider most probable is related not to operations or regulations but to Warburg Pincus, the private equity firm that owns 65% of Bridgepoint's shares. Warburg first got involved with Bridgepoint in 2004, providing the funds to get the company off the ground. Five years later, they took Bridgepoint public, and two years further on now, I would not be surprised if they are getting antsy about their investment's return.
The executives at Warburg likely see exactly what we see: an operationally stellar business sitting on $300 million of cash and no debt sporting a valuation normally suggestive of imminent bankruptcy. Those characteristics make for an exciting investment for us—but they also make for an appealing private equity takeout target. Adding to this speculation, Bridgepoint has repurchased $55 million worth of shares in the past year and, after additional authorization in May, now has the go-ahead to buy back a further $80 million. Since there are only about $360 million of shares that Warburg doesn't own, that $80 million authorization is a big number, and it would not surprise me in the least if Warburg was buttering up Bridgepoint for a tender offer down the road.
Even still, keep in mind that the risk a tender offer poses is to cut off our upside, not take the floor out from under us. We'd certainly prefer Bridgepoint to stay public until our shares realize their value, but a tender offer would likely come with some premium. It's not ideal, but I could live with that outcome.
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