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Sunday, September 11, 2011

Why I would still buy Educomp in this market

After the stock price of Everonn Systems crashed post the arrest of its MD, I thought it was time to go bottom fishing in the hitherto high valued education sector. To my surprise, while analyzing the sector, I found Educomp available at similar margins(P/E of 5, OPM of 50%+). The stock has  its negatives(underperformed the index for some time now, income tax raid) but the positives do seem to outweigh the negatives.

The positives in the stock are below. Investing now may seem like trying to catch a falling knife. But given the low P/B of 1.4(at Rs 165 book value), there is little downside risk.
  • High & Stable FII + promoter holding:- For ages, the promoter has held 49%+ of the stock, with little reported insider trading. Even FIIs hold 36% of the company, which does indicate some due diligence albeit with added volatility
  • Very focussed strategy:- While poring through their public filings(annual reports, concall transcripts, investor relations presentations etc) for the past 2 years, it struck me that they have segmented the market amazingly well-by age, by media(online/offline) and by need(school/vocational) etc
  • Distribution strength:-As mentioned by the CEO on one of the calls, they hope to leverage their direct reach to millions of students, to induce them to subscribe to their online properties. The ethics of this apart, the approach 
  • Capital allocation wisdom:- Unlike Everonn which invests its own capital in infrastructure, Educomp induced banks to fund its classroom equipment via non recourse securtiization. This allows them to invest that capital in greenfield school/college projects where they earn more.
  • Advisory Council:- They have set up an advisory council comprising respected professionals to give them counsel on their business and other issues. This is a very good step. 
  • Method in the madness:- I was apprehensive that they are trying too hard, and are in risk of over reachng/over extending. But given the core content and technology driven business, there are few technical issues in scalability.
  • Online portfolio investments:- Following naukri.com's approach of investing in startups/JVs, even Educomp has done the same. While it is difficult to value its JVs with the limited public disclosure, they have millions of subscribers, and therefore would attract a good sum in this inflated domestic dotcom bubble like market. Also, they committed Rs 50 crores towards a SEBI registered Venture Capital fund, which would yield some good returns. 
  • Substantial growth upside in school businesses:- As the table below shows, the bulk of their present Revenues/EBIT comes from the asset light SmartClass model, where they supply content to schools. But now, they have heavily investing in schools where the returns are just beginning to emerge. Management estimates that the grreenfield schools reach 100% capacity in 5yrs. Given that, and the famed demand supply gap for good schools(even if expensive), the growth potential is exciting.
    Rs in lakhs(FY11 audited) Revenue EBIT CapitalEmp EBIT% ROCE%
    Higher Learning Solutions 6,540.08 -2,922.74 31,731.06 -45% -9%
    School Learning Solutions 1,00,946.23 52,322.92 55,951.88 52% 94%
    K-12 Schools 13,573.21 4,765.61 1,61,285.60 35% 3%
    Online Supplemental & Global 14,030.45 -1,081.04 16,082.34 -8% -7%


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