Investors always look forward to and closely follow Michael Burry’s quarterly 13F SEC filings. And his file for the fiscal quarter ending June 30 did not disappoint. Dr. Burry had sold everything he owned the previous quarter, including Warner Bros. Discovery (NASDAQ:WBD), Meta Platforms (NASDAQ:META), and Alphabet (NASDAQ:GOOG), (NASDAQ:GOOGL). But he did keep one stock: The GEO Group, Inc. (NYSE:GEO).
Is a value thesis present? In this essay, I will share my thoughts on the corporation and assess the company using a residual earnings approach. Based on my analysis, I believe GEO stock is a Buy. The firm deserves a reasonable trading price of $10.17 per share. For comparison, GEO Group is down approximately 5% year to date, while the S&P 500 is roughly 10%. (SP500).
About GEO Group
The GEO Group, Inc. is the world’s second-largest private “prison corporation.” The organization runs over 100 private jails and mental health facilities with a total capacity of 100,000 beds. Furthermore, it provides educational programs and vocational training to assist offenders in their public rehabilitation. Geographically, the corporation operates in the United States, Canada, Australia, and South Africa. Nearly 90% of the company’s income comes from the United States.
GEO Group, in my perspective, is a textbook example of a cigar butt as defined by Warren Buffett:
The Cigar Butt method of investing is when you try to locate a genuinely pitiful firm that sells for so cheap that you think it still has one decent puff left.
In other words, a cigar butt is not good company. Still, the valuation is so low that a value investor has a strong chance of profiting from the favorable risk/reward skew.
The Value Thesis
GEO Group is now trading at around $7 per share, implying a market capitalization of approximately $860 million. Notably, its stock is down around 80% from its all-time high. The reason for this is that the company hasn’t grown since 2018. The company’s revenue has decreased at a CAGR of around 2%, from $2.31 billion in 2018 to $2.25 billion in 2021. Over the same period, net income nearly halved: from $164 million to $84 million.
Attentive investors may notice that GEO Group’s operating cash flow has not fallen at the same rate as net income. However, GEO Group retains some value. With $282 million as of 2021, it is still prominent compared to the company’s market cap (more than 25%). As a result, GEO is selling at x3.4 Price/Cash Flow.
GEO Group has approximately $587 million in cash and cash equivalents as of June 30 and total debt of $2.98 billion. While not exceptional, the company’s balance sheet is strong enough to warrant speculative investment (again, Cigar Butt’s philosophy). However, investors should remember that GEO has around $2.62 billion in long-term tangible assets after deducting intangibles ($910 million). As a result, in the event of a liquidation, investors should be able to anticipate a net payout sufficient to cover the company’s market value and hence the investor’s equity commitment (calculated as tangible assets, less net debt, less other liabilities, less market capitalization).
However, it is too soon to speculate on a liquidation. For the time being, the company is profitable, with analysts forecasting operational earnings of $88 million in 2022, $343 million in 2023, and $356 million in 2024. EPS is anticipated to be $1.32, $1.13, and $1.27, respectively (Source Bloomberg Terminal as of August 15).
Investment Risks
Investing in “Cigar Butts” is dangerous. Investing in GEO Group is also a good idea. GEO Group’s business is not increasing (at least not in the last five years). The company is arguably routinely reducing CAPEX by $100 million annually to enhance free cash flow. Furthermore, the company has a significant debt position on its balance sheet, which could be exceptionally troublesome given the increasing rate environment. Also, speculating on liquidation is not a wise idea. As Charlie Munger put it, “it’s not much fun to purchase a business and hope it liquidates before it goes bankrupt.”
Conclusion
Given that Michael Burry has sold his Alphabet stakes, I doubt he retains GEO Group because it is the best stock with the best risk/reward ratio. Something else may be going on that investor who only read the SEC F13 filing are unaware of.
Is GEO Group a reputable organization? No, it does not. Could the stock, however, be worth a speculative investment? Yes, I believe so. GEO Group’s stock is now trading around $7 per share. And, using a residual earnings model based on analyst EPS consensus expectations, I feel GWO is properly valued at around $10.17 per share. As a result, I estimate a 45% gain.
Featured Image: Megapixl © Josephrrouse
