No one ever said the market had to make sense.
And even if anyone did say it, they were wrong. Case in point: International for-profit educator Laureate (NASDAQ:LAUR) did all the things that Wall Street usually loves when it reported Q1 2006 earnings late Thursday afternoon. Laureate beat analysts' quarterly estimated $0.04 loss by losing only $0.02 per share. It also issued guidance in excess of what analysts had been predicting for Q2. (Wall Street was looking for $0.66 per share; Laureate promised $0.68 to $0.73 per share, minus $0.02 to $0.03 for stock options expensing.) So what wasn't to like? What made the stock tumble 9% in two days of selling fever?
Let's take a look.
- Revenues, and new student and total student enrollment, all increased 30% year over year.
- Full-year earnings guidance stayed at $2.05 to $2.15 per share, before expensing stock options.
- Growth in enrollment was strongest in the firm's online division, where for-profit educators ordinarily earn their highest margins (not the case with Laureate, which, because of its international focus, has exposure to even more profitable revenue streams from its South American institutions, which produce 30% margins that are twice as rich as the 15% margins from its online division).
Overall, I don't see anything bad there. So searching further, I noticed that the firm admitted that by the end of fiscal Q2 2006, it expects its fully diluted, weighted-average share count to reach 53.6 million shares. Already being aware of Laureate's penchant for stock dilution, I suspected at first that this could have caused the stock's fall. But after running the numbers against Laureate's Q2 2005 share count, I saw that the increase was just 3% year over year. Not great, but not justification for a 9% decrease in the stock price, either.
Valuation
Perhaps the real reason Laureate's shares fell is because investors realized that those shares were too expensive in the first place. The firm didn't include a cash flow statement in its earnings release, but based on its most recently issued cash flow statement -- for fiscal year 2005 -- we can see that Laureate generated only $32 million in free cash flow last year, or about 40% of its reported net profits under generally accepted accounting principles. Even an investor willing to pay 34 times trailing earnings for a stock projected to grow at only 20% per annum over the next five years might balk when realizing that the price-to-free cash flow ratio on that same company is more than twice as high: 72.
Current investors should be cautious about this company and do further analysis to decide whether to sell or hold.
For more on Laureate, read:
Fool contributor Rich Smith does not own shares of any company named above.
