One of the big-ticket items announced in this year's budget is the additional $3.5 billion to be spent on childcare over the next four years. The Abbott government wants to encourage parents to do more paid work by making childcare more affordable. Under the plan, families with household incomes up to $165,000 will get an additional $30 a week in assistance and even those earning more than $185,000 will benefit. The hope is that these measures will lead to 240,000 families increasing their hours in paid employment.
As childcare services become more affordable, demand should continue to grow for the services G8 Education Ltd (ASX:GEM) provides. As at 31 December 2014, the company owned 437 centres in Australia and 18 centres in Singapore with a total of 32,782 licensed places. G8 Education is the largest for-profit provider in the industry and the largest listed on the ASX.
G8 Education has grown rapidly in the last five years with a compounded annual growth rate of 93% in underlying net profit after taxes from 2010 to 2014. Recently there have been concerns about the company's ability to continue to grow at such a rapid pace. It announced a delay in the settlement of eight centres that was supposed to occur earlier this year, and the stock price has had a dramatic decline from a 52-week high of $5.63 to a recent low of $3.21 about the time of the announcement on 31 March.
Since the budget announcement, the price has bounced back to around $4, where it is currently trading. Based on FY14 underlying results, this gives G8 Education a price-to-earnings ratio of around 21 times but it is forecast this will come down to around 15 times on FY15 results and approximately 12 times based on FY16 forecasts.
In addition, the current dividend yield is at a whopping 6% fully franked. With interest rates at record lows and the company's ability to deliver consistent growth, these numbers appear extremely attractive for income investors and growth investors alike.
One concern to be aware of is that there has been a lot of negative commentary about G8's 'roll up' business model, which is a similar structure to that used by ASX-listed companies Affinity Education Group and Greencross Limited. These companies rely heavily on acquiring complementary businesses that can be integrated into the current operations for growth. While this has been extremely successful for G8 Education, many commentators are not so confident about the future.
Foolish takeaway
Only time will tell, but I believe there is a great opportunity for G8 Education to continue to grow as it currently only owns 4% of a market that is growing each year. In addition, there is no shortage of centres that can be acquired. The key will be to acquire these businesses at the right price and to increase occupancy rates where possible while keeping costs to a minimum. I am confident in management's track record and I would be cautiously buying at these levels as the sector grows.
