“Times are changing, Betty. These nerds are a threat to our way of life.” - Stan Gable: Nerdy, Inc $NRDY

Nerds!

“You can't always get what you want

But if you try sometime you'll find

You get what you need” - The Rolling Stones

If there’s one thing I try my best to avoid, it is growth companies that are diluting to fund their growth. Fortunately, with the rise in interest rates starting in 2022, most tech companies got the message and changed priorities toward profitability. Those that didn’t, like Nerdy (NRDY) have had their share prices mercilessly punished in this market.

Nerdy is a platform for live, online learning, with their flagship brand, Varsity Tutors. And education is a hot sector of the market. I usually don’t spend my time sifting through the hottest sectors of the market, the valuations are typically too high for me to stomach as a value investor, and those trends eventually reverse, leaving growth investors holding the bag. How hot is education? Sylvan Learning Center, a franchise tutoring business with $42 million 2022 revenue and $14 million 2022 EBITDA was sold in February of 2024 for $181 million. I would call 4x sales, or 13x EBITDA a hot sector.

So maybe I can’t get what I want, a cheap business in a hot sector that isn’t diluting. But this time I think I may have found what I need, a founder-led company with aggressive insider buying, which, while diluting through stock based executive compensation, has reached an important milestone, gross profit is now greater than G&A, and only marketing expense is pushing the business into the negatives.

The insider behavior falls into two categories, the hired tech executives who regularly sell stock, and the founder and CEO who constantly buys more stock.

The founder, chairman, and CEO Charles Cohn just spent $13 million increasing his ownership stake in Nerdy from 20% to 30%. A lot of people would take some chips off the table in order to secure their personal destiny without regard for what happens to the company they founded, but Cohn is putting even more chips on the table, and that is a powerful statement.

The Nerdy business is currently in two main segments, the first is the retail segment, an Uber-like business of connecting live tutors to students directly. The second segment is institutional, becoming integrated in school districts, providing resources for students and families, and once integrated with their system, if they want to hire a tutor, they have easy access to do so. This is an excerpt from a press release on a recent contract that was signed:

“

PITTSBURGH, September 17, 2024--(BUSINESS WIRE)--North Hills School District today announced an exciting partnership with Varsity Tutors for Schools, a Nerdy (NYSE: NRDY) company and the leading platform for live online tutoring, to provide all district students with access to the Varsity Tutors for Schools platform at no cost to the District, students or families. The partnership extends from now until June 30, 2030, ensuring students, educators and parents have a rich set of academic resources for school years to come.

The comprehensive platform integrates interactive study tools, collaborative workspaces, and dynamic tutoring resources, including:

• 24/7 On-Demand Chat Tutoring

• On-Demand Essay Review

• Live Enrichment and Remediation Classes

• SAT and ACT Test Prep Classes

• Celebrity-Led StarCourse Classes

• Self Study Resources

• College & Career Readiness Resources

• Adaptive Assessments & Personalized Learning Plans

• Recorded Enrichment Classes

"We are so excited to offer this additional support to all our students," said John Lesjack, North Hills Middle School Principal. "We look forward to providing these resources to help support the amazing instruction that is happening in our classrooms every day."

Over 500 school districts across the country utilize the Varsity Tutors for Schools platform to supplement classroom learning and to effectively close learning gaps. When students need help with homework or are struggling to solve a problem, they can immediately chat with a tutor, 24/7, to get the help they need. Students can take practice tests and follow personal lesson plans for guided self-study. They can also sign up for expert-led live classes, and learn subjects like Geometry, Middle School Math, Elementary School Reading and more, alongside their peers.

"Varsity Tutors for Schools delivers a rich set of learning options to deploy for all students," said Anthony Salcito, Chief Institutional Officer at Varsity Tutors for Schools. "Our comprehensive platform access is now available to all K-12 schools at no cost, allowing them to budget for targeted intervention with best-in-class high-dosage tutoring options, including flexible implementation models that can put administrative staff, teachers, or parents at the center of the high-dosage tutoring relationship, depending on the needs of the district."

North Hills students and families can access the Varsity Tutors for School platform by visiting the District website: https://www.nhsd.net. The platform is available immediately through June 2030.

“

Nerdy has the goal of getting their platform integrated into 20% of the school systems in the United States, and they are making serious progress toward that goal. They have reached the point of zero marginal cost scale, and are able to provide free services just to be already integrated with the school system so that if students do want to hire a tutor, they will be likely to do so through Nerdy by convenience.

Sylvan Learning Center had 500 franchise locations, but Nerdy has 500 school districts integrating every family into the Nerdy platform. Sylvan was sold for $181 million, and Nerdy has a current market capitalization of $188 million, with $70 million of cash on the balance sheet and no debt.

With that $70 million in cash, at their current cashflow burn rate, Nerdy has approximately three years to reach cash flow breakeven or profitability. The constant dilution stems from executive compensation, it is the constant affliction of investing in tech companies. For the last three years, dilution has been exactly equal to the revenue growth rate. To want to invest in Nerdy with this track record, one would have to believe that their growth will accelerate with their current initiative to integrate with school systems. The founder clearly believes in this current strategy, and on earnings calls, management is very enthusiastic about the response they have been getting from institutional clients.

The tutoring business does have seasonality, the slow summer period will affect Q2 and Q3 results. We will probably know by Q4 2024 if this new emphasis on integrating with 500 school districts is increasing the revenue growth rate above the historical 22% rate. If Nerdy keeps SG&A flat, which they have done since 2021, at historical growth rates they would have positive net income by 2026. And with a 70% gross profit margin, for every additional dollar of revenue beyond 2026, $0.70 would drop to the bottom of the income statement. Just at historical rates of performance, 2028 net income would be over $100 million, again provided a 22% revenue growth rate, 70% gross margins, and flat $200 million annual SG&A.

Nerdy is not a low risk investment by any stretch of the imagination, so I would size the position small. But a tech company with 70% gross profit margins and growing at a 22% annual growth rate typically does not sell for less than 1x sales. With that growth rate, a software company would sell for between 6x and 8x sales. If it takes two years for the “Revenge of Cathie Wood” thesis to play out, that with lowered interest rates, small cap tech starts to return to their prior multiples, then by 2026 Nerdy would have $300 million annual revenue, and could have a market capitalization of $1.8 billion. If the current initiatives toward institutional clients starts to get results, a ten bagger would be just the beginning.