Lincoln Educational Stock: Consolidation Likely Needed Before The Next Up Move Begins

Intro

In our most recent commentary in Lincoln Educational Services Corporation (NASDAQ:LINC) (June of 2023), we reverted to a ‘Hold‘ rating after multiple ‘Buy‘ ratings in the stock in 2022. We do believe in the rebalancing approach in that when the underlying trends & associated fundamentals are not temporarily aligned (For whatever reason) with the company, it is best to revert to a more cautionary stance.

At the time last June, we pointed to significant overhead technical resistance as well as the need for elevated investment for sustained growth. Furthermore, given how the US had not seen any significant spike in the unemployment rate, we surmised that student start growth would not likely spike to the upside.

Everything changed however with the announcement of Lincoln’s second-quarter earnings numbers (Announced in August last year) for fiscal 2023 when the company reported student starts of close to 18% on Campus revenue growth of approximately 10%. Furthermore, the main precursor to the violent post-earnings rally & technical breakout discussed below was the updated annual guidance where management guided revenue of approximately $365 million on adjusted net income of between $10 to $13 million. Now that the fiscal year has ended, we see that Lincoln surpassed this guidance as $378+ million came in as the final topline number for the year.

Lincoln followed up that impressive Q2 report with further top-line growth of 8.5% & 11.7% in Q3 and Q4 respectively. Therefore, it should be pointed out that from an earnings standpoint, Lincoln (at this stage of its investing cycle) should not be valued as an investment on its net income. For example, the company’s forward GAAP earnings multiple comes in at an elevated 43.96 due to the low earnings estimate of $0.24 per share for fiscal 2024. Therefore, given the jump in student starts in recent quarters, higher retention ratios, and higher extracted revenue per student, we believe that meaningful bottom-line earnings growth will eventually materialize over the long term.

Reiterating Hold Rating Despite Bullish Fundamentals

In saying this, we are going to reiterate our ‘Hold’ rating in the stock because near-term trading may continue to be choppy. We state this because although shares have managed to print higher lows & higher highs since the multi-year breakout last August, the stock has been unable to put four weeks of successive higher highs together. Furthermore, divergences in both the RSI & MACD technical indicators and a rising forward sales multiple (0.79) suggest that moving back down to the 40-week moving average below the $9 level could very well be at hand over the near term. To add, even though top-line guidance of roughly $415 million for the fiscal was reiterated by management on the 19th of this month (March 2024) upward revisions have died down somewhat in recent weeks (1-month upward trend of 0.27%).

Suffice it to say, it appears that the shares of Lincoln may need to take stock of that multi-year breakout and consolidate somewhat until the next significant upturn can begin. However, with unemployment rates yet to rise meaningfully (where Lincoln is putting everything in place to fulfill student demand), we believe any sideways consolidation will not endure indefinitely as we learn below from Lincoln’s encouraging forward-looking fundamentals.

Higher Student Retention

As outlined in previous commentary, Lincoln does not have the luxury of being able to depend on life-long customers. Students enroll and hopefully over time graduate in large numbers on the other end of the spectrum. To this point, (when factoring in recurring revenue over the student’s years of study), we witnessed the highest student retention level in the fourth quarter which is noteworthy. Higher student demand seems to be coming from much-improved marketing programs but more importantly due to how Lincoln’s new model (which is tailored to securing improved graduation rates) offers far more flexibility as a result of implementing Lincoln 10.0.

In one respect, higher student retention is not surprising given how Lincoln continues to double down on areas where there is considerable employee demand in the labor market. Through engaging with employers & undergoing extensive market research, Lincoln has been replicating existing courses at scale to keep up with demand. Therefore what is key here is that the accelerated investment that Lincoln has been undertaking concerning the

1. Opening of its new East-Point Campus (Which will double down on the Hybrid model)
2. Building of The Houston, Texas Campus (which will provide the likes of HVAC & Welding Training)

has been carefully planned out from a demand perspective. Lincoln intends to invest today to see elevated returns tomorrow. Then you have the relocation of both the Philadelphia & National campuses along with an increase as mentioned in (replications) existing course. Suffice it to say, it should be clear to investors that Lincoln lacks the necessary real estate at present to keep up with growing demand. All of these initiatives will significantly increase the number of students starting at locations over time which should only increase in number if unemployment levels begin to rise.

Balance Sheet Strength

Embarking on an aggressive investing cycle to fulfill demand requires financial strength which Lincoln certainly has. The company ended fiscal 203 with $76 million in cash & equivalents and no debt on its balance sheet. Furthermore, strong working capital & cash-flow trends point to the company being able to fund its near-term investments mentioned above from its own resources. In any case, management as we see learn below from the CFO on the recent Q4 earnings call, decided to boost its liquidity by entering into an untapped $40 million credit facility in case more funding is required going forward. To this end, given the demand environment, it is certainly not off the table that a further announcement regarding new locations will be announced by management shortly.

In terms of liquidity, we now have more flexibility as we recently entered into a new three-year $40 million credit facility with Fifth Third Bank. In addition, the agreement includes a $20 million accordion option, which provides greater financial flexibility and funding should a company decide to pursue a sizable inorganic growth transaction.

While we do not anticipate any reasons to draw on the credit facilities in the near term, access to the credit facility further enhances the company’s financial strength, stability, and ability to execute on growth opportunities.

Conclusion

Therefore, to sum up, we are reiterating our Hold rating in Lincoln despite the stock registering a technical breakout in August of last year. Although student starts & retention rates are the best we have seen in years at Lincoln, we believe shares may consolidate somewhat due to little improvement in forward-looking sales revisions in recent weeks and the gradual rise of the underlying price-to-sales ratio. Let’s see what Q1 earnings numbers bring. We look forward to continued coverage.