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The biggest lie in stock market history: While you think you're making money, this company is sucking it out of your pocket

by , 22 April 2014

A couple of days ago an “Equity Report” was delivered to my email box.

It was written by a prominent analyst I often follow for views on stocks.

In short, the report had a BUY recommendation on Curro Holdings.

Now don't get me wrong. I think Curro is a great company and good investment idea. I also think the people managing the business are top notch. And as part of the South African Investor Level One Advisory Panel I looked favourably at us recommending the share a year ago around R16.

But a buy today?

I think that's a crazy idea!

In fact, buying the share today is buying one of the biggest lies you can - You'll think you're making money, but in the meantime this company will keep sucking money out of your pocket!

Only buy this share if you think all will go according to plan for the next two decades!

Curro is currently on a PE ratio of 202.

That’s more than ten times higher than the JSE average.

But the people saying you should buy this stock come with the story that it’s a “Growth Share”. And with growth shares PE ratios don’t matter.

But they’re lying to you.

All you need to do is start factoring in future growth into the earnings of a company and you’ll have a PE ratio that is useful. Even for a growth share.

And that’s where my mind was blown when I read the BUY recommendation on Curro.

You see, the analyst in question forecasted that Curro would grow its earnings per share to 32.6cps by 2016.

That means in two years’ time the share will be on a PE of 81 if all goes well.

And by 2020 the company should clock in profits of around 230cps, putting it on a PE of around 11 – but that’s only if the company doesn’t issue any more shares...

Ok, so let’s get this right: If everything goes to plan – the company will be on a PE of 11 in SIX years’ time. As long as it’s share price doesn’t go up any more and it doesn’t issue any more shares…

So the only way that the company is a buy today is if it can keep up its quick growth, virtually forever… Now I’m not so sure about that?
And that’s where the report I read gets even more interesting…

While you think you’re making money, this company will suck money out of your pocket

Curro’s share price is going up all the time. So, if you hold shares in the company you are making more money day by day…

Yeah right!

The fact is, the company is sucking shareholders dry.

In 2011, shortly after listing on the stock market Curro had a rights offer, raising around R322 million in capital.

Then in 2012 the company had another rights issue – asking investors to give it another R477 million.

Then in 2013 the company went to investors yet again, this time raising R605 million from investors.

And, as we speak the company is yet again asking investors to fund it with R590 million.

And I don’t expect this year to be the last time the company does this.

You see, in order to achieve the “GROWTH” plans the company has it will spend nearly R1 billion a year up to 2020.

But at this stage the company’s revenue isn’t even R1 billion a year. In fact, it’s earnings before interest and tax for the 2013 financial year was R76 million. So it’ll have a shortfall of more than R870 million on the cash it needs to spend on growth…

And this shortfall will be present for the foreseeable future…

So don’t expect dividends if you buy this share.

Yes, the share price has grown massively in the past couple of years. But if you bought at the start all you’ve been doing is paying in MORE and MORE money into this investment without ANY chance of a dividend.

And if the share price of this company doesn’t keep rising like it has in the past three years it’ll become VERY difficult to keep raising capital through rights issue like it has up till now…

These numbers have become too rich for my liking – I’m out

Curro’s share price has shown stellar performance since its listing.

But today the share price is at a level that’s just too rich for me.

It needs to continue a steep growth trend for the next decade at least just in order for this share price to be called “fair”.

It’ll continue sucking money out of your pocket without paying anything to you.

And even a single earnings disappointment could see the share price crash because there are such high expectations on the company.

The fact is – Curro isn’t the only company that can set up private schools. There will be competitors arising in the next couple of years.

Yes, Curro can buy them out. But at what premiums?

And, if it doesn’t they’ll surely put pressure on its margins, or its growth potential.

I’m sorry – but I’ll rather go buy a share on a PE of 11 today and watch it grow in the next couple of years than buy a share at a PE of 200 today and HOPE it becomes a share on an 11 PE in SIX years’ time…

Here’s to unleashing real value

Francois Joubert

Chief Investment Strategist, Red Hot Penny Shares

The biggest lie in stock market history: While you think you're making money, this company is sucking it out of your pocket
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