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First-year classes are often massive. (Fred Lum/Fred Lum/The Globe and Mail)
First-year classes are often massive. (Fred Lum/Fred Lum/The Globe and Mail)

Behind The Numbers

Time to invest in the beaten-up for-profit education sector? Add to ...

Canadian investors seeking to profit from the turmoil in the U.S. work force might see potential in the country's for-profit education sector, where millions of discouraged workers have headed to polish their credentials.

The only problem with this investment thesis is that the for-profit education sector is in a bigger shambles than the economy as a whole.

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There are eight publicly traded for-profit educators worth at least $1-billion (U.S.), including industry leader Apollo Group DeVry and Washington Post which derives much of its value from its Kaplan education businesses.

The U.S. government estimates enrolment in for-profit colleges has grown from about 553,000 students in 1998 to almost 1.8 million in 2008, but nearly all that growth was funded by taxpayer money. In 2009, students at for-profit colleges received more than $4-billion in grants and more than $20-billion in federal loans, according to the U.S. Government Accountability Office (GAO).

Unfortunately for the industry, the Obama administration began to ask exactly what it's getting for its money, and was unhappy with the answers. Students at for-profit institutions represent 11 per cent of all higher-education students, 26 per cent of all student loans - and 43 per cent of all loan defaulters.

The reason why the students can't pay, the U.S. government is finding, is that they're unable to make an adequate living when they set out to the workplace, degree in hand - contrary to the representations of the colleges themselves.

In August, the GAO released the results of an undercover sting at 15 for-profit colleges that found every single one "made deceptive or otherwise questionable statements" to applicants, including exaggerating post-graduation salaries. (Four of the colleges encouraged the undercover applicants to commit fraud by lying on financial-aid forms.)

The U.S. Department of Education has created a whole new set of rules for the industry that will start in July, 2011. Another batch of proposals, called "gainful employment" rules that aim to ensure that graduates of these programs are actually qualified for a job in the industry they trained for, will come out early next year for enforcement in 2012.

Education companies, while continuing to protest, are already showing the effects of the crackdown. Apollo Group, owner of the University of Phoenix, had declining enrolment in its most recent quarter and slowing revenue growth. More importantly, it withdrew its previously announced financial guidance for fiscal 2011, which started Sept. 1. (It cited "the transitional state of the business, and the uncertain regulatory environment" while also blaming "heightened media attention, much of which has portrayed the sector in an unflattering light.")

Indeed, the U.S. business press is growing increasingly negative. Herb Greenberg of cable channel CNBC has regularly focused on the sector's problems, giving voice to the short sellers who are betting on further declines.

And Bloomberg News published a story this week noting that top executives at the 15 U.S. publicly traded for-profit colleges received $2-billion during the past seven years from the proceeds of selling company stock. Nine executives made more than $45-million apiece. "At the same time," Bloomberg noted, "the industry registered the worst loan-default and four-year-college dropout rates in U.S. higher education."

The companies are doing investor triage. A number, such as Apollo Group and DeVry, are boosting share buybacks or raising dividends even as they admit their future is uncertain.

With all this cash getting returned to shareholders, coupled with prices near 52-week lows for many of the industry's players, deep-value types may be licking their chops. After all, isn't the best time to buy a stock is when it so terribly unloved? Most of the players in the industry have forward price-to-earnings ratios of 10 or less, according to CapitalIQ.

Be wary, though. These companies' stock certificates have something in common with their diplomas. They're both pieces of paper that have been overpriced for some time, aren't worth very much, and are rapidly losing value.



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