A bargain private equity stock on a 32% discount

The astute investment team at Oakley Capital Investments (OCI:450p) has realised the largest capital gain in the private equity investment company’s history.

The disposal of its stake in IU Group, the largest and fastest growing university in Germany, realised £240mn in look-through proceeds and delivered an eye-watering 76 per cent internal rate of return (IRR) on Oakley’s investment. The company has reinvested £66mn into IU Group to benefit from the next phase of its growth and made £16mn of other new investments in the education sector, too. These include a £14mn investment in Thomas Day Schools, a top-rated group of co-educational independent schools in England, and a £2mn investment to fund a bolt-on acquisition for investee company Affinitas Education, an operator of 12 schools in Spain.

The education sector is likely to be an important driver of Oakley’s future returns. That’s because only 4 per cent of the 11,000 bilingual international schools have been consolidated to date in what is a huge $3.5tn market. Oakley’s other education-themed exposures include Prep Bright Stars, a UK nursery company, and Schülerhilfe, a tutoring business in Austria and Germany.

The investment in IU Group had already been revalued up 85 per cent in last year’s accounts, so didn’t impact NAV in the interim accounts. However, the hefty cash flow on the realisation explains why Oakley held net cash of £248mn at the half-year-end, a sum representing a fifth of NAV of £1,17bn (663p). The relatively flat first-half NAV performance partly reflects the fact that foreign currency headwinds held back NAV by 15p a share, a sum that was offset a 2.6 per cent NAV uplift from portfolio gains. Also, cash and transactions in the past 12 months account for half of book value, so those investments were not revalued. That’s a conservative approach given the underlying growth rates they are delivering.

Structural drivers of NAV growth

Oakley’s ability to back the right type of company across three core market segments – technology, education and digital consumer – and shrewdly make exits to bank handsome gains should not be underestimated. The average portfolio company delivered 21 per cent growth in cash profit year on year and house broker Liberum Capital notes that several companies are well positioned to benefit from digital megatrends.

For instance, business software and cloud-based management solutions group Cegid was combined with Iberia-focused Grupo Primavera in 2022 and offers exposure to the data supercycle. Also, majority of Oakley’s investments have defensive characteristics, benefit from strong structural market growth, asset-light business models and high cash conversion rates.

In addition, more than two-thirds of portfolio companies operate a subscription-based model or recurring revenue business model. It means that they are less exposed to short-term falls in customer demand, a point worth noting in the prevailing economic environment as Oakley’s investee companies are likely to continue delivering profit growth to positively impact valuations.

Unwarranted share price discount

These dynamics help explain why Liberum is predicting a £202mn unrealised portfolio gain in this year’s annual accounts to deliver 16 per cent growth in NAV to £1.35bn (767p).

On this basis, the shares are rated on a 41 per cent discount to year-end NAV estimates, implying a nine percentage point widening of the current share price discount and one that is already six percentage points wider than the average of Oakley’s direct equity peer group. The level of discount is unwarranted given Oakley’s impressive track record. In fact, Oakley has delivered 22 per cent annualised growth in NAV on a total return basis over the past five years and outperformed all AIC investment companies, too.

So, having included the shares, at 146.5p, in my 2016 Bargain Shares Portfolio, and banked 31.5p a share of dividends, the potential for further valuation uplifts warrants a narrowing of the hefty discount to NAV. Buy.

■ Simon Thompson’s latest book Successful Stock Picking Strategies and his previous book Stock Picking for Profit can be purchased online at www.ypdbooks.com at £16.95 each plus P&P of £3.75, or £25 plus P&P of £5.75 for both books.