(Un)Intelligent Investor Article, page-24

Bit of a delay replying due to work, but couldn't let these strange comments from Gaurav pass because they violate basic investing and corporate finance (and law) knowledge.

FACT 1: Mgt doesn't sell acquisitions to shareholders; mgt act on behalf of shareholders.
If GEM mgt paid 4-5x EBITDA for acquisitions then shareholders ALSO received those acquisitions at 4-5x EBITDA. Instead, the market allows shareholders to SELL their shares at the higher valuation (hint: that's usually a good thing). The mgt-to-shareholder transaction Gaurav describes here and in his article would be a conflict of interest and breach of fiduciary trust (i.e. illegal). There are indeed occasions where mgt sells an asset to shareholders (e.g. Geminder's packaging firm sale to Pact Group (PGH) shareholders), but this occurs only through the decision of independent directors. To repeat, Gaurav's description is contrary to what happens in public companies.

FACT 2: Becoming a shareholder of a 17x EBITDA firms is sometimes OK (particularly when the critic has the wrong numbers!)
Gaurav's statement about "being taken as mugs" doesn't apply to current shareholders, for the reason stated in #1 above. But maybe he meant to describe someone BECOMING a shareholder of a company with 17x EBITDA. If so, then Gaurav has made two other fundamental errors (2a and 2b).

2a -- Gaurav argues that someone is a mug if they buy a stock that has a high valuation (P/E etc). But high valuation companies can actually be good investments because of their higher growth, stable income (defensive), and other factors. the market prices the stock higher because the stock has underlying value worth paying a premium. I am NOT saying this is true of GEM, just that Gaurav's statement has been refuted long ago by investment research.

2b -- Gaurav makes an error in his calculation of GEM's EBITDA. GEM had 30cents EBITDA/share in 2014, so EBITDA was about 13.3x share price (not 17x, which would require sp above $5.10). But the usual practice is to use trailing data only for low/non growth firms. For moderate to high growth firms (GEM is the latter) use forward or combined data because trailing data don't fit current capitalisation. Using Thomson consensus EBITDA forecast, GEM will deliver almost 50 cents of EBITDA/sh in 2015. Thus, it has 8x EBITDA/sh (not 17x that Gaurav offers).

FACT 3. Acquiring firms with lower EBITDA is called ACCRETIVE (hint: that's usually good).
Buying firms with low EBITDA is accretive and, therefore, usually (not always) enhances shareholder value because buying the asset is cheaper than making it (organic). The exception would be when the acquisition's low EBITDA multiple occurs because the company is failing.

FACT 4: GEM (and most public firms with normal profit track records) are usually valued more than 4-5x EBITDA.
Guarav implies that GEM should be valued at 4-5x EBITDA, yet that would put GEM far below ASX company historical valuation means. Private childcare centres are being sold at a discount to public company valuations for a few reasons, some of which I described in an earlier post.

P.S. My default sentiment is usually "none" but I have a rare "buy" here. Could be wrong (remember, the shorters are out of their cages on this stock), but don't think so.