Lisa Rapuano of Lane Five Capital: Value Investing with a Contrarian Bent; Corinthian colleges Undervalued

Lisa Rapuano is the founder of Lane Five Capital, a $100 million dollar hedge fund based in Italy. Lisa follows the idea of contrarian value investing. This is the notes taken from her presentation in Value Investor's Conference in Omaha, on the day before the annual meeting of Berkshire Hathaway.

Two categories of Contrarian Value Investing:

1. Great business at great prices due to short term problems

a. What we call compounder"
b. Ideal investments
c. Not often severely mispriced
d. Not always as great as they might have seemed
e. Priced paid for these business rarely truly account for these risks
f. Low probability does not equal no probability

2. Out-of-favor

Hunting for contrarian investments. Area to search

1. New low list
2. High daily percentage downward price action
3. Elevated volume
4. Sell-side downgrades
5. High short interest

Characteristics of potentially successful candidates:

a. Formerly good business model
b. Formerly high valuation
c. Competitors with better margins, growth, efficiency exists.
d. Sign of capitulation: shareholder turnover, disgust, management credibility in question.
e. No visibility; no catalyst
f. Specious or competitive decline arguments

An example of her favorite: Corinthian Colleges (COCO). It is one of the largest for-profit colleges. Stocks have declined 80% during the past 3 years due to the regulatory change of the industry. Why she likes it?

1. For profit education
2. Low-end vocational schools
3. Regulatory pressures, cyclical issues, short seller's playground
4. Negative reputations, negative press coverage

1. Massive mispricing due to the emotional reaction
2. Late 2011 rumors of bankruptcy abounded. Company was generating cash, had sellable assets, would meet coverage and likely could pay off all debt by 202, not a solvency issue
3. Two-year overhang of new gainful employment regulations i! s lifting; companies have improved, adjusted marketing, lowered price, focused on outcomes
4. Vocational programs provide a huge benefit to the nation –l

Valuation:

1. $300 million

a. $210 million from operating cash flow
b. $100 million free cash flow

2. Regulatory risks still high, still reactive to headline risk, high beta, short-heavy, story oriented stocks.

3. Valuation hooks

a. Value of $300 million
b. Ability to close schools, shrink to maximize free cash flow

What can go right:

1. Vocational abandoned by competitors
2. CDR's dropped to well below risky levels
3. Community colleges under fiscal strain
4. Efficiency in financial aid expenses, bad debt management, enrollment dramatically enhanced
5. Operating leverage from optimizing fixed assets
6. Regulatory environment could not less bad

Earnings power, free cash flow under scenario analysis

1. Current valuation discounts seriously impaired business model, but not absolute worst case
2. Past regulatory jihad's have ended with stronger businesses
3. With zero growth, value range from $8.5 - $10 as OPM ranges from 5-7%
4. With modest growth, value range from $9-$25 as OPM ranges from 7-15%
5. Previous operating profit margin high of 18.5%
6. Probability weighted value $10