ITT Educational Services Puts On the Dunce Cap


Typically when companies forecast lower sales or profits, their stocks take a hit. It's not always easy to tell whether it's having a fire sale or burning down its house. Maybe it is time to get out -- or maybe it's time to buy more!

For-profit education provider ITT Educational Services got left back yet again after disappointing the markets with a fourth-quarter effort that saw lower enrollment amid greater scrutiny of industry marketing practices. Its outlook for 2013 earned a failing grade, too, forecasting per-share profits between $3.50 and $4.00, well below expectations of $4.66 per share. The stock has lost three-quarters of its value over past year as the toll of government investigations mounted.

Now, don't blindly follow those selling (or buying) on this apparent bearish signal: You still need to dig further. We'll just use the announcement as a jumping off point for additional research.

Like lemmings over the cliff
For-profit schools have been the target of critics for well over a decade because of high dropout rates, alleged misuse of federal monies, improper marketing tactics, and more. The animus against the industry grew under the Obama administration, with the Education Department implementing tough gainful-employment regulations that mandate better assistance for students landing a job after graduation, and Sen. Tom Harkin (D-Iowa) leading a crusade against educators, resulting in a massive (though error-riddled) report condemning their practices.

In its wake, for-profit educators have tumbled. Apollo Group saw a 14% drop in degreed enrollments in the fiscal first quarter at its University of Phoenix division, the largest college in the country, and its stock is down 63% from a year ago. Corinthian Colleges , which came in for particularly sharp words in the Senate report for having a student loan default rate 64% higher than the industry average, is operating under special monitoring procedures from Education, which disputes its calculations of financial responsibility as required to receive federal Title IV funding. It may force the school to post a letter of credit that could significantly hamper its ability to operate and may put it at odds with its lenders.

Sent to detention
Cost-cutting, layoffs, and campus closures have also been the hallmark of the industry lately. Career Education announced it was closing 23 campuses recently and laying off 900 employees as new enrollment dropped 23% and it reported losses of almost $110 million in the first three quarters of 2012.

While I don't support the government's war against the schools, it doesn't mean it's the best use of a student's money to go to one, either. And it's certainly not a particularly good time to invest in them. The stricter admission policies and heightened regulation have caused more students to hesitate enrolling, making it difficult for the schools to raise tuition rates. On top of experiencing higher bad debt expenses as a percentage of revenues even as its revenue per student declines, ITT also just reported it would pay Sallie Mae $46 million to settle a loan dispute stemming from an agreement it signed with the student lender back in 2007. The educator just keeps flunking out.

End of the marking period
With the first gainful-employment report cards due out by the end of the month, for-profit educators might be in for a rough period should they once again put the industry in a poor light. Some educators indicate they are already in compliance with the standards, such as DeVry , which said that before the courts gutted most of the regulations, it didn't have any programs that failed to meet the standards.

ITT doesn't say whether its programs passed or failed, but it does note it was changing a bunch of programs to conform with the requirements and that those standards were also putting pressure on tuition rates because students can't have too much indebtedness if the school wants to continue receiving federal funding.

Although the schools look cheap at these depressed valuations, they have a lot of risk attached to them yet. ITT goes for less than three times earnings and around five times estimates, making it one of the cheapest for-profit schools around, but with this cloud hanging over them, I couldn't recommend touching any of them at the moment.

Let me know in the comments box below whether you agree you'd have to be a dunce to invest here, or if you think these companies are about to graduate to the next level.

Looking under rocks
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