Description

Company background

Learning Technologies Group PLC (LON:LTG) is a UK-based provider of corporate learning and talent management services. Its offering comprises software platforms for content provision & management as well as consulting services and content creation. The company was created through a reverse merger of the then-called Epic Group (an international e-learning business) with cash shell In-Deed PLC in October 2013 to list on the Alternative Investment Market (AIM) of the London Stock Exchange and trade as Learning Technologies Group. Subsequently, LTG followed a buy-and-build strategy and completed a dozen transactions including the transformative acquisitions of PeopleFluent (2018), Open LMS (2020), Bridge (2021) and GP Strategies (2021), growing its revenue from less than £8m in 2013 to roughly £600m (£101m EBIT @ c. 17.0% margin) at the end of 2022. The acquired companies in most cases continued to serve customers under their initial brand while corporate functions were centralized at LTG. As of today, LTG employs c. 5,000 people in 35 locations across North and South America, Europe, Asia-Pacific, Middle East and Africa.

Historically, the company’s solutions were exclusively software-based tools to manage and deliver corporate learning services (initially LTG focused on compliance training for the financial services industry). However, through its most recent acquisition of GP Strategies (which added c. £400m in revenues and was financed by an £85 million share placing and $305 million of debt), the group added a portfolio of corporate learning consulting and content creation services to its offering.

Most notably, LTG’s board of directors comprises non-executive chairman Andrew Brode (previously CEO of Wolters Kluwer (UK) plc. and LTG) and LTG’s current CEO Jonathan Satchell (prior to LTG, he acquired EBC, which he transformed from a training video provider to a bespoke e-learning company and sold to Futuremedia in 2006). The two acquired Epic Group in 2008 and still own 14.8% and 9.3%, respectively.

Business description

LTG comprises the segments “Content & Services” (75% of FY22 revenue) and “Software & Platforms” (25%) through which it serves large and mid-sized organizations (serving 168 of the Global 500 Companies) by providing external corporate talent & training services. The company’s solutions range from hiring and onboarding, to employee development, retention and succession planning solutions and typically support companies in delivering, curating and managing learning content.

Geographically, the company is focused on North America (68% of FY22 revenue) and the UK (11%) serving customers in a well-diversified range of end-markets including the automotive (19%), manufacturing, aerospace, industrials & construction (17%) and finance & insurance industries (14%). Following the acquisition of GP, LTG will primarily target new customers through its GP Strategies brand and upsell its software solutions from consulting projects which uniquely positions the company in an environment that predominantly comprises pure-play software providers.

Through its large share of SaaS-based revenue and multi-year service contracts which accounted for 71% in 2022, LTG maintains a resilient business model. Additionally, as talent attraction, retention and development are integral pillars of economic success in virtually any industry, the company serves a market with limited cyclicality, promising stable operational performance even as the macroeconomic environment becomes choppier. Additionally, driven by favorable NWC dynamics as well as low capex requirements, the high cash conversion of the company (consistently above 80% historically) ensures substantial headroom for taking on debt for acquisitions or distributing cash to shareholders.

Market environment

LTG values its TAM at c. $100bn which it defines as the external corporate training & talent market (relative to internal solutions accounting for $247bn and tuition valued at $41bn). Historically, the market grew at 3-4% p.a. (exhibiting only modest cyclicality) and it is expected to continue expanding at a similar rate going forward. Future growth will partially be driven by a continued shift from internal to external corporate training solutions, as companies outsource non-core operations. Generally, spending on external corporate training & talent management is relatively inelastic given the continued and intensifying shortage of qualified personnel (gap of 90m people in the workforce of western countries by 2030) as well as pull-effects from workers who demand career development and personal advancement opportunities (i.e. the number one reason why people quit their job in 2022 was lack of career development & personal advancement according to a McKinsey study).

In terms of competition, the market is highly fragmented as most players focus on isolated sectors, forms of content delivery or stages of the delivery process. Some of the larger competitors comprise Instructure Holdings, Anthology/ BlackBoard and Doecbo.

Competitive positioning

LTG differentiates itself through industry-leading technological capabilities and was recognized as the leading innovator in the learning services industry by Nelson Hill in 2022 and a strategic leader in the digital learning industry by Fosway Group. Additionally, following the acquisition of GP, LTG serves customers through a unique one-stop-shop corporate learning & talent management value proposition bundling consulting, learning services and technologies (bundled LTG services are available under a single “Managed Learning Services” contract) which saves customers time and money through reducing their required interactions with suppliers. As pointed out during LTG’s FY22 earnings call, the proposition was well received by customers during the first months post-acquisition and should continue to be a competitive edge over smaller or more specialized players.

Thesis

Underappreciated value of GP acquisition: Following the company’s most recent transformative acquisition of GP Strategies, the company was due for a multiple re-rate given that their margin got diluted by a higher revenue contribution from less profitable service revenue (LTG’s pre-acquisition EBIT margins were between 25-30% while GP’s margin was around 5%) . However, the company looks significantly oversold as the market seems to struggle with digesting the new positioning of the company. Consequently, both the margin potential and the organic growth trajectory of the post-acquisition company seem underappreciated. This becomes particularly vivid when looking at GPs standalone pre- and post-acquisition EBIT margin which increased from 4.9% to 12.2% in FY22 (exit rate of 14.0% in Q4). Given management’s satisfaction with the progressing integration in the FY22 earnings call, it would not be surprising to see further margin expansion for GP in the short-term future. Additionally, management pointed to increasing traction of cross-selling efforts of legacy LTG solutions to existing GP clients (i.e. 29% y-o-y increase in number of GP clients who are using a LTG product in 2022). All of this has yet to be reflected in LTG’s share price.

Underlying S&P organic growth is overlooked: LTG’s headline S&P pro-forma organic growth posted for FY22 was 5% which looked disappointing to many analysts. However, excluding the revenue decrease from PF (which was anticipated by management due to migration of customers to PF’s talent management), the company grew its S&P business by 12%. As the clean-up of PF’s product portfolio progresses (management indicated progress on this in the last earnings call), the underlying growth should become more visible in the headline numbers.

Aligned management incentives: As previously mentioned, several members of LTG’s board of directors hold substantial stakes in the company. To re-iterate, Andre Brode (non-executive chairman) holds 14.8%, while Jonathan Satchell (CEO) and Piers Lea (CSO) hold 9.3% and 1.1%, respectively. This set-up should ensure that management as well as the board of directors are primarily concerned with maximizing shareholder value and returning to a valuation that is more reflective of LTG’s intrinsic value. As a first measure, the company raised its dividend by 64% in FY22 which usually tends to have a positive signaling effect (not reflected in stock price so far). Along the same lines, management has a track-record of achieving and beating its guidance. Therefore, shareholders should have at least some comfort around the business plan used as a foundation for my DCF-valuation which underlines the severe undervaluation of LTG (see valuation section).

Potential PE interest: While this is only a side note to the overall investment thesis, it should be noted that UK small- to mid-cap stocks have received special interest from global PE groups in 2023 (as pointed out in several other VIC posts). While management does not seem too keen on selling to PE, it will certainly be hard to say no if the offer is attractive enough. Interestingly, there has already been interest in LTG and other companies in the sector (e.g. Thoma Bravo owned Instructure for a bit more than twelve months in 2020, Cornerstone OnDemand acquired by Clearlake Capital Group in 2021) which could accelerate the target price realization. Given the fundamental attractiveness of LTG’s business in conjunction with its current valuation level this scenario would not be surprising.

Why the opportunity exists

Besides the generally low valuation environment for UK-based small- to mid-cap stocks in the recent past (which has been repeatedly exploited by private equity funds in 2023 e.g. Medica/ IK Partners, Hyve Group/ Providence), driven by particularly high inflation and more persistent macroeconomic challenges, the mispricing of LTG is primarily driven by three factors:

PeopleFluent precedent: Following the PeopleFluent (“PF”) acquisition LTG posted sluggish operational performance due to slower than expected progress on PF’s profitability which was unprofitable when LTG bought it due to excessive spent on SG&A and an unprofitable talent management product line. Consequently, LTG’s share price tanked and only slowly recovered to pre-PF levels over the next two years. Similarly, the completion of the GP acquisition in October 2021 was followed by a sell-off of more than 60% until today as markets feared similar issues as with PF. However, GP is a fundamentally stronger and more mature company than PF. Additionally, synergies as well as profitability targets were achieved as promised by management post-acquisition. Nonetheless, in the current macroeconomic environment markets gave limited credit to the progress made and LTG’s stock price showed no signs of recovery.

Neither fish nor fowl: The company’s unique operating model uniting corporate learning content creation & management with related consulting services places the company at the intersection of the edtech and services industry. Therefore, the LTG is often covered as part of a larger sector (e.g. GS covers LTG as part of a subset of the media sector with companies such as Pearson). Consequently, the mispricing does not appear as drastically given the lower multiples in LTG’s equity research peer groups. Additionally, LTG is listed in the UK and consequently valued in line with other UK-listed small- and mid-cap stocks despite generating only 11% of its revenue in the UK (68% coming from the US). Considering that this fraction will likely continuously decrease given that the majority of LTG’s cross-selling opportunities are outside of the UK, the decoupling from UK-multiples should accelerate.

Valuation

Prior to the GP Strategies transaction (completed October 2021) LTG traded at between 25-30x LTM-EBITDA in line with software-focused corporate learning peers. Accelerated by a weakening macroeconomic outlook, rising inflation and resulting increases in interest rates, LTG underwent a substantial multiple re-rate post-acquisition and currently trades at 6.2x LTM-Adj. EBITDA. While an adjustment seems justified considering LTG’s revenue composition shifted towards consulting & services (c. 80% of FY22 revenue) due to the GP acquisition, corporate-learning focused consulting and corporate service peers trade at 11-13x (e.g. FDM Group, Accenture, Alpha Financial Markets Consulting) which should be the minimum trading range for LTG. This suggests an upside of c. 95% at the median service peer multiple of 11.8x.

Additionally, valuing LTG based on a fundamental DCF-basis yields a target share price of £1.82 suggesting an upside of 140-150%. I assume a revenue CAGR of c. 0.5% and 5.0% until 2027 for Content & Services and Software & Platforms, respectively, as well as a gradual improvement of EBIT margin to reach management’s target of 20.5% in 2025. Furthermore, I project capex in line with historic levels of 2.0-2.5%, slightly weaker NWC dynamics driven by the shift away from SaaS revenues, WACC of 10.6% and terminal growth of 1.5% (equivalent to exit multiple of 7.6x EBITDA in 2027). Even when projecting FY23 revenues & EBIT at the lower bound of management guidance and projecting zero growth from FY24 onwards (including terminal growth) while keeping EBIT margins at the FY22 level of c. 17% the upside remains at c. 50%, underlining the attractiveness of the mispricing opportunity and providing a significant margin of safety. Notably, this valuation excludes any contribution from acquisitions which should create additional value for shareholders through synergies.

Sensitivity analysis

Zero-growth & constant EBIT margin valuation:

Risks & mitigants

GP Integration (impact: high, likelihood: low): The most obvious risk to my investment thesis is slower than expected progress on the GP Strategies integration which could adversely impact LTG’s operational performance and dilute the profitability of its core business segments. However, given the company’s track-record of successfully integrating acquisitions as well as the successful first quarters post-closing promise to more than mitigate this risk.

Deteriorating labor market (impact: medium, likelihood: high): Another, threat to LTG’s business model would be a severe slowdown in the labor market involving mass layoffs which would translate into lower user numbers for its software platforms and less demand for its consulting services. This would primarily affect the transaction-based Content & Services revenues as shown in the latest downward revision of revenue & EBIT targets. However, while this scenario seems tangible, it is certainly not the base case and as previously mentioned, LTG’s business model is relatively sound even in recessionary environments given the high priority/ stickiness of its solutions & services as well as the long-term nature of its contracts.

Interest rate hikes (impact: low, likelihood: high): Considering LTG’s hunger for inorganic growth through M&A, the health of debt financing markets will continue to be highly relevant. While further interest rate hikes currently seem almost unavoidable which will make medium term acquisitions more challenging, the currently low net debt/ EBITDA ratio of 1.2x as well as the company’s strong cash conversion provide comfort that coming rate increases won’t affect the existing operations. Additionally, as discussed in the valuation section, even without pricing in any acquisitions, the entry point looks highly attractive.

Comment on recent management guidance revision

On July 26^th, 2023, LTG’s management released a downward adjustment to its FY23 targets for both revenue and EBIT. While painful for existing shareholders (the share dipped by almost 20%), this makes the entry point more attractive. Especially, since LTG’s management tended to be relatively conservative historically and usually underpromised and overdelivered rather than the opposite. Furthermore, the same announcement included favorable commentary on the progressing GP Strategies integration as well as the margin outlook for 2H23 leaving the key pillar of the thesis intact.

Catalyst

• Upward revision of 2023/ 2024 revenue and EBIT due to progressing cost synergies and cross-selling from GP Strategies acquisition
• Earnings announcements (1H23, FY23, 1H24, FY24) & further dividend increases
• LBO rumors