Description

Learning Tree International is one of the leading worldwide providers of education and training to IT professionals in business and government organizations. Located in Los Angeles, the company designs, markets and presents courses on a wide range of technology topics geared toward keeping professionals prepared for the rapidly changing technology used in all organizations.

While one might think that technology training is a highly labor intensive business with very low barriers to entry, the opposite is true. Learning Tree currently teaches 148 intensive, instructor-led multi-day courses that are taught by industry professionals on an as-needed basis (these courses cover a wide range of technology training so LTRE is not dependent on one platform such as Microsoft, Cisco, or Oracle). Learning Tree utilizes 873 IT professionals that present these courses globally throughout the year. As a result, Learning Tree does not have a large internal staff of IT professionals. Instead, these instructors apply their skills in a variety of industries throughout the year, and teach approximately 8 courses for Learning Tree as needed. This allows Learning Tree to operate a very lean organization that requires very little capital to grow. With no inventory, very little accounts receivable, tons of cash, and plenty of deferred revenues, the company operates with a terrific, large negative cash conversion cycle.

The IT training and education market is highly fragmented. Learning Tree is pursuing a strategy whereby they will continue to develop new and innovative training programs, build on their existing corporate relationships to ensure a consistent flow of recurring revenues, and expand their presence throughout the world. An International Data Corporation study put the 1999 world demand for IT training at $19.4billion. Learning Tree generated $189 million in revenue during that year. Clearly, the company has an enormous market opportunity that continues to expand as technology undergoes rapid change and becomes more pervasive globally. In the training business, a strong reputation for quality is vital. Nobody wants to spend money – and time – foolishly on a training program that is outdated or taught by people with little or no practical experience.

Financial Results
So far, the financial results for Learning Tree are impressive. In the most recent quarter (12/31/00), Learning Tree grew revenues by 25.7% to $62.1 million. Gross margins were 61.9% with operating margins of 23.5%. In the latest fiscal year (ending 9/30/00) the company generated $37 million in net income, and $57 million in free cash flow (cash from operations less capex).

As of the latest quarterly results (12/31/00), the company operates with only about $132 million in total capital ($129.7 million in shareholder equity and $2.3 million in other liabilities). Remember, the vast majority of liabilities are in the form of deferred revenues (they collect course fees in advance of teaching the course), accounts payable, taxes payable, and other accrued current liabilities. Using net income for the last four quarters, the company generated 30.4% return on invested capital.

Valuation
The most recent diluted share count from the Q1 10Q was 22.8 million shares. At $21/share, the market cap is $479 million. Net income for the last four quarters was $40.2 million. As a result, the trailing multiple is 12x net income. That might not sound super cheap, but consider that Learning Tree has $98.6 million in cash ($4.32/share) and $54.4 million in other interest-bearing investments ($2.39) on the balance sheet with absolutely no debt (interest-bearing is the key phrase, because many companies have other investments on the balance sheet that are vulnerable to substantial write-downs if they are equity investments in technology).

Enterprise value is $326 million, so the company is currently selling for about 6x trailing free cash flow. The growth opportunity is terrific over the next few years, and the company can support that growth with very little additional capital. Indeed, in the latest quarter, the company used free cash to purchase over $15 million in company stock.

Any way you look at it, this company is cheap and operates a terrific business model. They can generate high returns on invested capital, require very little capital for incremental growth, and management has shown a willingness to aggressively buy stock with excess cash.

Why is the stock so cheap?
Learning Tree recently issued an earnings warning for their fiscal second quarter. The company cited the economic slowdown as the reason for reduced enrollments for future courses. Clearly, this announcement has shaken the momentum buyers. Instead of historical growth rates of 22%, the company now expects growth to slow to around 10% this next quarter. Learning Tree had traded among the momentum stocks with a 52-week high of $78 per share. With the irrational momentum sellers gone, the company is now selling at a terrific price.

Along with the earnings warning, the company has stated the common problem we’ve heard frequently – no visibility. We don’t know what revenue growth rates will be in the next couple of quarters. However, a company selling for less than 6x FCF/EV, revenue growth of 10%+ is compelling.

Catalyst

1. Stock Repurchases – During the latest quarter, the company used over $15 million to repurchase company stock. With more than $150 million in cash, short-term investments, and other interest bearing investments, the company has substantial ability to continue buying back shares aggressively. They could use their current cash and investments to buy 1/3 of the entire business at today’s price!
2. Management Ownership – Dr. David Collins and Mr. Eric Garen, CEO and President respectively, founded the company in 1974. They have proven ability to rationally, and profitably grow the business over long periods of time. They have also proven their ability to allocate capital in such a way to generate high incremental returns on capital. Last, but not least, these two gentlemen own 36.8% of the company. I always prefer investing with a management team that will get rewarded as I get rewarded (and not with options, but actually owning shares of the stock!).
3. Valuation – This is not a cigar butt investment! LTRE is a lean business model that requires very little additional capital, has a solid history of outstanding results, is well-positioned in an industry with plenty of growth prospects and is CHEAP! With an enterprise value (using diluted share count) of only $326 million, revenues of $225 million, gross margins of 62%, operating margins of 24%, and high returns on capital, I think you must take advantage of short-term problems to accumulate shares. They are making terrific progress expanding intrinsic value, and at 6x trailing cash flow, they represent excellent value.