As a sessional university lecturer for almost a decade, I was privileged to teach many international students and their efforts to learn in a new country were inspiring.
The international education boom unfolded before my eyes. There seemed to be more foreign students each year on campus and the composition changed. Chinese and Indian students were joined by others from south-east and central Asia and South America.
I met different types of international students: from those who were the first from their family to finish school and study and travel abroad; to those who were more affluent and travelled Australia over summer and had occasional visits from their family.
It is anecdotal of course, but sometimes the best ideas come through personal experience, not from pouring over balance sheets or share price charts. It was obvious that the foreign student boom in Australia was expanding, as new countries were targeted.
This interest underpinned my favourable view on IDP Education (ASX: IEL), a small-cap stock I have highlighted several times for The Switzer Report since its 2015 float.
IDP has soared from a $2.65 issue price to $10.02, thanks to its pole position in the international education boom. IDP provides student placement services to universities and English-language testing services.
IDP is due for a share price pause or correction after such strong gain. A price target of $8, based on the consensus of eight broking firms, suggests the stock is overvalued. That’s probably right but I would not be in a rush to sell IDP, which has good long-term prospects.
Chart 1: IDP Education (ASX: IEL)
Source: ASX
The bear case
My interest in international education, and the stocks exposed to it, meant assessing bear arguments about the sector.
That is, Asian countries would eventually develop a much larger, higher-quality university sector that made it possible for more students to study locally; and competition from US and European unis for international students would intensify.
Then there were fears that student security concerns, such as isolated incidents of violence against Indian students, would harm the overseas reputation of Australian universities. Diplomatic rows, regulatory risk and currency movements were other threats.
I do not discount these or other risks, but too often the market underestimates the strength and duration of megatrends. With another two billion Asians due to join the middle-class by 2030, on OECD forecasts, the pipeline of foreign students for Australia and other markets is immense.
I believe the bears are underestimating the relationship between growing affluence in parts of Asia and international education. Australia’s location, time zone and security advantages over US and European markets are other positives. For all the negativity, our international education sector has an excellent reputation overseas.
Thus I see the international education boom running longer and getting stronger than the bears expect. Recent data supports this. Australian universities, private colleges, English-language courses and schools currently have 542,054 international enrolments, according to the Federal Department of Education. That’s up 12% on one year and 77% on five years ago.
Simply, Australia is hosting unprecedented volumes of foreign students – a market worth an estimated $32.2 billion annually.
The detail in this data impresses: more students from Nepal, Malaysia and Vietnam, and sharp rises in enrolments of Brazilian and Colombian students. Our international education can maintain higher growth rates as new markets complement Chinese and Indian enrolments.
Navitas (ASX:NVT)
This brings me to Navitas, the market’s other key company exposed to international education. Navitas provides pre-university pathway programs, where international students who do not qualify for direct entry (due to language or academic issues) do a bridging year of study.
Navitas owns SAE Group, a media-technology institute with 51 campuses in 26 countries, and provides vocational training, English-language and other services for international students. The university pathways business, about two-thirds of revenue, is key.
I have avoided Navitas over the past five years. I was lukewarm on its SAE acquisition in 2010, mainly because it took the company away from its core business. Navitas’ interim result for FY18 was below market expectation because of college closures and US tax issues.
Navitas has fallen from $7.71 in May 2014 to $4.24 and the stock is down about a $1 in the past six months. The five-year total return (assuming dividend reinvestment) is negative 3.2%. In contrast, IDP has returned almost 100% over one year.
Chart 2: Navitas (ASX:NVT)
Source: ASX
But every stock has its price. Navitas announced in July the rationalisation of its Careers and Industry Division, home to the SAE business. Navitas is considering offloading all its SAE colleges in the US. It has already decided to close two sub-scale US SAE colleges and another in Oxford, and will close or divest its Health Skills Australia business.
The US SAE business has been a struggle because of that country’s state and federal accreditation processes, which create longer lead times to get students and higher compliance costs. The rationalisation removes a reasonable chunk of Navitas’ revenue, but strategically makes sense.
It is the first major move by new managing director David Buckingham, who got the top job in October 2017, replacing Navitas co-founder Rod Jones. The latter did a brilliant job to build Navitas from humble beginnings in 2004 but, like all companies, Navitas got to a point where it needed a management refresh and a new set of eyes in the top job.
Buckingham has refocused and rebased Navitas, removing underperforming divisions and improving earnings visibility for the market. It is short-term pain (a $130 million restructuring charge) for long-term gain, and a signal to the market that Navitas is working hard to lift performance.
Navitas in April said enrolments in its university partnerships division were up 6% this financial year – solid rather than spectacular growth. The US enrolments market remains challenging and the UK market is improving.
Taken together, Navitas’ core business is going OK in a tough market and its Careers and Industry Division is being streamlined due to weak performance in some areas. Navitas has plenty of headwinds over the next 12 to 18 months.
The key issue, as always, is valuation and whether the market is too bearish. An average price target of $4.56. based on the consensus of seven broking firms, suggests Navitas is a touch undervalued at $4.24. Macquarie values Navitas at $4.55, Morningstar at $4.65.
At the current price, Navitas trades on a FY19 price-earnings (PE) ratio of just under 18 times and is expected to yield about 4.5%, fully franked. That is not demanding for a company that has had a return on equity (ROE) near or above 40% for the past four financial years. Most companies would kill for such a consistently highly ROE. It’s a good business.
Navitas’ average PE over the past five years has been 24 times earnings. I have noted a few brokers starting to upgrade their recommendations on Navitas on valuation grounds, and some savvy investors, notably Allan Gray Australia, have added to their position this year. The Commonwealth Bank emerged as a substantial shareholder in April.
Navitas is no screaming buy and not for the risk-averse. The stock looks oversold after recent falls, but could get worse before it gets better, as management refocuses the business and strives to regain market confidence.
Still, Navitas, once a market darling, warrants a spot on portfolio watch lists for experienced investors, who are comfortable with mid-cap companies. Aggressive investors might start building a small position now; those with longer-term perspective have time on their side.
It is hard to find a near-term re-rating catalyst as the market digests the restructuring news. The company’s investor day in September might boost the stock, as management sells the restructure to analysts.
Tony Featherstone is a former managing editor of BRW, Shares and Personal Investor magazines. All prices and analysis at 25 July 2018.
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