G8 Education And The Notion Of Arbitrage

On tonight's edition of Your Money Your Call Shares, a great investment analyst was on the show who talked about one of the companies i own. He proposed a situation which was very interesting. He mentioned how G8 education (ASX: GEM) is arbitraging the private sector's cheap side and bringing it to the public.

I'm not entirely sure if i understood him correctly or if I'm veering off on a different tangent but essentially, he hinted towards the business being able to buy private businesses (the childcare centres) which are cheaper and bringing them public in one form or another (which tend to be more expensive). For example, G8 education is paying approximately 4x forward EBIT for the centers. However, to buy one stock of G8, it is far more expensive than 4x EBIT on the market. This way, Chris Scott has used his entrepreneurial skill to raise his own personal wealth in an intellectually sound manner (which isn't a foreign strategy for Mr Scott). The pullback in G8 Educations price is triggering potential buys. Contrastingly, it's interesting to see that Citi Group has recommended a sell on the stock.

A common theme i hear about the company is that as they have used economies of scale to drive margins and the like, which in this case is a limited strategy as there is a quota on the ratio of children to teachers. Continuing with this logic, it makes sense to assume growth in margins driven by this method isn't sustainable. However, this doesn't stop them from buying more centres and to continue their roll-ups. Another problem here is that the deteriorating balance sheet as a result of this, which is incrementally increasing the risk of the business. Pricing potential is also an issue. It's important to note that, if you bought the stock when the company's EPS was about 11c and five years later the EPS has grown by a factor of five, the problem of questionable growth at a premium is reduced. For example, lets assume that in five years from now the company has EPS of $0.55 and is trading at 18x. If you bought in now, the downside is reduced (leaving aside the interim period).  Another potential problem is that the business has a restricted organic growth business model which may be a cause for concern in the future. All aside, i still believe the company is good and to say the least, it's been a good learning experience.

I'd highly recommend watching the show if you're interested in stocks because it provides some good insight to various different analysts and their different ways of thinking about the market, but more importantly, about specific companies.

A general update on recent activity and portfolio performance

The past month has seen both my personal portfolio and my ASX sharemarket game portfolio surge. First, I would like to update my personal one before moving on to the game. My portfolio has seen a rapid surge in value in the past month solely due to one stock, Sirtex Medical (ASX: SRX). Unfortunately, i wasn't able to attend the 2014 annual AGM, however a recording will be put up on the website soon. I'd like to see if something was mentioned there which I've missed out on, maybe a dosage sales update or something of the sort. Contrastingly, most of my other stocks have remained relatively idol and my weightings haven't changed.

In terms of the ASX sharemarket game, I've also seen a rapid appreciation in market value. Mostly driven by Sirtex, TPG and more recently, NextDC. The portfolio also consists of a large cash holding. With the game coming to an end very soon, it is unlikely i will do anything with the cash surplus.

In other news, Sirtex's rapid appreciation also saw me rank third in the 2014 Bell Direct Stock Challenge. I've also begun reading a great book called Quantitative Value: A Practitioner's Guide to Automating Intelligent Investment and Eliminating Behavioral Errors written by Wesley Gray and Tobias Carlisle. Mr Gray is someone i hadn't heard of prior however, Tobias is a somewhat familiar name. Tobias is a well-known deep value investor who is originally from Australia but operates a investment management firm in America. The book is highly recommended but a word of warning is that the book has a "text-book" feel to it albeit, it blends academic research and how it can relate to investment management nicely. Moreover, i also get the vibe that the book in isolation, would take many years to write. This is because it seems that it articulates many years of research into a neat book. Once again, highly recommended.