For-Profit Education Primed for Comeback

03/28/2011 1:31 pm EST


Michael Brush

Columnist, MSN Money

The recent crackdown on aggressive recruiting practices and high loan-default rates creates opportunities for the companies willing to adapt, writes Michael Brush of MSN Money.

Visit the Web sites of any number of for-profit colleges and universities and you'll find the happy faces of young people getting state-of-the-art educations and help in landing their dream jobs.

Listen to the critics, though, and you might decide many of the institutions are just clever schemes, fed by government-backed loans, that leave a lot of those shiny young faces disappointed and deep in debt.

At the moment, the critics seem to be winning the debate:

  • Congressional hearings last year put the spotlight on for-profit schools, as student after student testified about their debts and dashed hopes (criticisms I also heard from several students I talked to for this column).
  • The Department of Education (DOE) is rolling out broad reforms of the way the schools operate and market themselves to students.
  • New student enrollment at for-profit colleges is down as much as 20% to 40%, depending on the school.
  • In the face of all this, many stocks in the sector have been pummeled.

For investors, it's possible to capitalize on this uproar to get some very good stocks at low prices—while supporting schools that truly do something useful. And after all, those are the sorts of companies I want to own anyway.

Experts say patient investors may want to take positions soon. When the dust settles, several winners will emerge as solid investments, says Jarrel Price, an analyst with Height Analytics in Washington, D.C., which does research on how new laws and regulatory changes impact stocks.

Price believes for-profit companies will fully adjust to the new rules sometime in 2012. Since stocks often begin to move about six months ahead of major events, taking positions in these stocks in the next several months might make sense.

And the Winners Are…
No one really knows for certain which companies will thrive in the new environment, but three rules of thumb should help lead you to the potential winners.

First, go with the companies that have solid records now because they are already complying with the new rules, or close to it. They'll have fewer adjustments to make.

Barclays analyst Gary Bisbee puts DeVry (DV) and Education Management (EDMC) in this group, because they have histories of low loan-default rates, high job-placement rates, and high starting salaries for graduates. They can meet regulatory hurdles and "return to attractive growth rates in fairly short order," says Bisbee.

DeVry also has about $460 million in net cash and strong cash flow, which can be used for buybacks, dividends, and acquisitions.

Next, go with the companies that are acting fastest to adjust, taking solid initiatives early on to reform their ways. This reflects well on management.

Price says Apollo Group (APOL), the largest for-profit, postsecondary education company, makes the grade here because it has been the most aggressive. It has launched a free orientation program designed to weed out students who are not yet ready for school, and it is tightening admissions standards.

Finally, I'd favor the companies with the lowest student default rates, since they seem to have the fewest loan-policy problems to clean up.

One of the DOE reforms is a move to tracking default rates over three years instead of two, as it does now. This change will take effect in 2014. But the DOE recently released default rates for schools using the new, three-year metric.

The winners with the lowest default rates were DeVry, Education Management, Strayer Education (STRA), American Public Education (APEI), Capella Education (CPLA), Grand Canyon Education (LOPE) and Universal Technical Institute (UTI).

Recent significant insider buying at Strayer and a small insider purchase at Capella suggest these two in particular as buys.

Having lower default rates is no guarantee these companies will make the grade once the current wave of reforms is complete. But it's a good sign.

[Of the stocks mentioned here, APOL, DV, and APEI boast the best-looking charts, after rising above their 50-day and 200-day moving averages. The rest remain down in the dumps—Editor.]

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