What a strange summer break the education sector is having. For-profit colleges have been shaken by Department of Education regulations, court rulings, and accreditation denials. Let's take a look at these events and see whether or not they'll hold the for-profit-education sector back a year.
The thin ice
The summer began on a mixed note for for-profit colleges. At the beginning of June, the DOE announced it was creating new regulations for the education sector to determine which schools would receive federal grants for student aid. In order to receive these grants, which can provide up to 90% of revenue to for-profit colleges, schools must meet at least one of the following standards by fall 2015:
"At least 35% of former students are repaying their loans (defined as reducing the loan balance by at least $1)."
"The estimated annual loan payment of a typical graduate does not exceed 30% of his or her discretionary income."
"The estimated annual loan payment of a typical graduate does not exceed 12% of his or her total earnings."
While these may seem like reasonable standards, the Department of Education was well aware that some schools would fail to meet them. In fact, after a series of studies, the DOE reported on June 26 that 5% of the programs at for-profit colleges failed the new requirements. For Apollo Group (NAS: APOL) , one of the schools that passed the requirements, this was a great day, and shares soared 10.3%. But for Corinthian Colleges (NAS: COCO) , the company with the lowest passing rate, shares sank 8.6%.
However, the tables quickly turned. On June 30 a federal judge struck down the requirement that at least 35% of graduates must be repaying their loans. By denying this portion of the regulations, the judge also made the other two standards invalid, forcing the Department of Education to go back to the drawing board.
This was great news for all for-profit colleges, but most especially Career Education (NAS: CECO) and Corinthian Colleges; both were listed by the DOE as some of the worst schools for not meeting the 35% requirement. Shares of for-profit colleges soared on July 2 after the news, but a word of caution about investing into all this good cheer: The ruling simply states that the 35% rate was arbitrary, not incorrect. This means that the Department of Education is still capable of setting a requirement as long as it presents more solid reasoning for it.
Good-bye, blue sky
On July 9 for-profit colleges received news of a different sort: Ashford University, part of Bridgepoint Education (NYS: BPI) , was denied accreditation by the Western Association of Schools and Colleges. Without accreditation, schools cannot qualify for federal funds. The denial has sent shares of Bridgepoint down 55% from pre-denial levels. Although this may seem like a minor incident, it indicates that for-profit colleges should be on the lookout for tougher accreditation standards in the future.
Revenue Growth Year Over Year
Revenue From Federal Loans
Outside the wall
Although each of the above companies has several factors in its favor, there are just too many reasons to stay away from them. Apollo is extremely reliant on federal loans, Corinthian doesn't have a long enough track record to make a case for itself, and Career Education is not only expensive, but it also has four schools on probation for over-reliance on federal loans (hence the approximate revenue). Of all the for-profit companies, Bridgepoint looks like the best choice of the lot. The setback Bridgepoint just suffered at Ashford University may be just the opportunity a value investor needs to buy low.
The show must go on
So what does all this mean for investing in the education sector? When the majority of companies in a sector rely on one source (federal student aid) for the lion's share of their income, that's a risky business model. It gets even riskier when that source is looking to disrupt the flow of money with tougher standards. I'd steer clear of this sector until the colleges have a track record of meeting government requirements; until then, keep Bridgepoint on your watchlist.
Also, if you want some ideas for other stocks relying heavily on the folks in Washington for future growth, be sure to check out our new special free report: "These Stocks Could Skyrocket After the 2012 Presidential Election."
The article 4 Education Stocks on Thin Ice originally appeared on Fool.com.
Fool contributor Mark Reeth had a great education, but doesn't own any of the stocks written about here. The Motley Fool owns shares of Bridgepoint Education, and Motley Fool newsletter services have recommended writing puts on Bridgepoint Education. The Motley Fool has a disclosure policy. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.