For-profit learning is hot and getting hotter. One company, Corinthian Colleges (Nasdaq: COCO) has turned up on the Foolish 8 screen for a full year now, during which time it has appreciated about 150%. Not too shabby. Recently, another education company, Plato Learning (Nasdaq: TUTR), has joined Corinthian on the short list of stocks that match the Foolish 8 criteria.
Corinthian reports its fourth-quarter and year-end earnings after the market closes on Thursday, and Plato reports third-quarter numbers on Wednesday. Now is a good time to discuss the companies, so that we have context for the results that come out later this week.
Corinthian operates private, for-profit post-secondary schools. It specializes in educating students seeking qualification in healthcare, business, and technology-related areas. If you haven't heard of Corinthian, don't be surprised; its schools have a variety of brand names, most notably Rhodes Colleges (gotta love the Greek theme today) and the National Institute of Technology.
The main reason for this is that Corinthian is a consolidator. Of the 56 schools it operates, 51 came under its wing through acquisition since its founding in 1995. Because of the rapid pace of acquisition, it's important to look skeptically at the torrential annualized 50% revenue and 90% earnings growth the company has posted since going public.
Even a skeptical look, however, sees a pretty bright picture. Corinthian has beaten analysts' earnings estimates by an average of 26% in the last 10 quarters. In the fourth quarter, the full results of which Corinthian will announce on Thursday, same-school starts (comparable to same-store sales in retailing) increased 12%. This strong growth in comparable starts continues a long trend at Corinthian:
FY2001 FY2000 FY1999 Same-school starts growth 10% 11% 14%
That trend demonstrates Corinthian's ability to successfully integrate new colleges into its system. Its acquisition strategy is the key to its growth, and so far it has worked brilliantly. It is expected to continue to expand its bottom line at a 30% rate through 2002.
Its closest competitor (leaving aside for the time being University of Phoenix Online (Nasdaq: UOPX), which has fixed its sights more on distance learning, though it maintains a strong physical presence) is another consolidator, Career Education Corp. (Nasdaq: CECO). The latter has also been on a tear, appreciating 85% over the last year on the back of 70% revenue growth. While Career Education also does an excellent job of converting acquisitions into organic growth, Corinthian has managed to outperform it in managerial efficiency. Despite carrying less debt, Corinthian earns a return on equity of 28%, compared with 13% at Career Education.
Though the two companies trade at a similar P/E around 48, Corinthian seems the better value. It has managed to stay free cash flow positive for the last two years. Career Education, on the other hand, has struggled with rising capital expenditures, which have pushed its free cash flow into the red. While neither company qualifies as cheap, Corinthian seems to offer the better value for those looking to play this high-growth, red-hot sector.
Bloomington, Minn.-based Plato Learning spent a long time finding its focus. When it came public in 1992 under the name TRO Learning, Inc., the company derived one-third of its revenue from aviation training software sales. Over the next six years, however, aviation training sales shrank to less than half its previous size. Meanwhile, TRO Learning's education division, called Plato, had doubled in size. Plato drove revenues to $36 million in 1997, up from $26 million in 1993, but expenses had swelled to the point that selling, general, and administrative (SG&A) costs alone exceeded revenue.
In 1998, the company got serious. It sold off the aviation training division and promoted John Murray to the position of chief financial officer. The company sliced SG&A expenses by 30% and has held them steady at about 60% of revenue since. Operating margins improved to 16% last year. As financials improved, the stock rose from about $5 at the start of 1998 to $15 at the beginning of 2001.
But that is not the end. After the company changed its name to Plato Learning, Murray took over as chief executive officer in November 2000. He has focused on Plato's core business, educational software for the middle/high school market, which represents 74% of revenue. To that end, the company has gone on an acquisition spree, buying up CyberEd, a maker of science courseware for high schools, and Wasatch, which makes multimedia courseware for the K-8 market.
The strategy is an aggressive one for Plato, which only achieved meaningful free cash flow last year. Though it is not burning cash, the company raised $53 million in a secondary offering in May, presumably to give it flexibility in acquisitions. But its most valuable currency is its stock, which has appreciated about 500% since the start of 2000.
It's hard to justify its price. Plato is expected to grow nicely at a 30% rate in the near future, but that prediction is based on recent business performance. Plato is not well-established, and software is a notoriously fickle industry. Today's killer app may be tomorrow's desktop recycle bin liner. Even now, with all cylinders firing, high days sales outstanding (about 120 days) is keeping cash flow from expanding. That, combined with the fact that Plato only manages 7% profit margins, has prevented Plato's from scaling significantly beyond costs.
What's more, not all of Plato's growth is translating to shareholder value. This year, net income is expected to increase 69%, but earnings per share will grow only 28%, thanks to substantial dilution. Even without the secondary, diluted shares outstanding grew 10% this year.
Plato's stunning run-up adds substantial value risk to the already existing business risk. Corinthian, too, has appreciated significantly in the last year, but its business stands on a more solid base. In the Foolish 8 education division, Corinthian is tops.