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Ben Strubel is the President and Portfolio Manager of Strubel Investment Management, LLC ("SIM") a registered investment advisor. Strubel Investment Management provides separate account management services for clients and also publishes The Value Investor's Edge Newsletter. Ben Strubel... More
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  • Department of Education's For-Profit Loan Repayment Raises Questions 0 comments
    Aug 24, 2010 2:28 PM | about stocks: COCO, CECO, APOL, STRA, LINC, ESI, BPI, LOPE, APEI, GHC
    The Depart of Education released data about the effects some proposed rules would have on for-profit education. The release of the data has raised more questions than answers.

    Loan Repayment Rates

    What the heck is going on with the DoE’s default rate calculations? No schools have access to the raw data or database the DoE used, and the DoE used a different database than the one used to calculate cohort default rates.

    The biggest issue surrounding the data is that the DoE is not counting consolidated loans as being in repayment when no payments are made toward the principal. The allegation is that schools encourage students to consolidate loans and make interest-only payments for several years to stave off any defaults that might count against the school’s Cohort Default Rate (NYSE:CDR). This allegation is odd since the DoE’s own website encourages students to consolidate their loans. The DoE also lists benefits not directly related to reducing payments. Penalizing schools for their students doing something that the DoE encourages them to do doesn’t make sense. The new repayment rate calculations look at defaults over a longer time range and should capture more (or the rules could be altered to capture more) defaults from schools that encourage students to “kick the can” of default down the road so the logic around not counting consolidated loans as in repayment makes no sense.

    According to a special conference call held by Strayer Education, another issue is that the database is built on an older technology platform and the DoE had to bring in special contractors to write a custom application to access the data. Strayer related that the DoE itself said the process was very complicated. If the words “government contractor,” “old programming language,” and “very complicated” don’t sound like a recipe for problems, I don’t know what does.

    When Strayer calculated its own repayment rates, it brought in outside consultants to confirm that the applied mathematical methods were sound. From all that we have heard, the DoE has had no such third-party verification.

    While none of the for-profit schools came out looking good, it is interesting to see how other schools faired when the same methods were applied to them. Both Steve of MagicDiligence.com and I have been following the ongoing for-profit saga. When the data was released, it appeared we both had the same idea about looking at comparable nonprofit institutions. Steve looked at schools that serve the same demographic of students as Middle Eastern Athletic Conference (MEAC) and the Southwestern Athletic Conference (SWAC), which are both composed of Historical Black Colleges and Universities (HBCU). He found that in both conferences, the schools had students with repayment rates below for-profits. Also, at nonprofit schools that Steve studied, the students’ weighted average debt was greater than at for-profits. Steve’s complete analysis can be found in his blog post at MagicDiligence.com.

    I looked at only the repayment rates across all HBCUs and found that the average repayment rate was 19% and the median repayment rate was 18%. All of the major public for-profit education companies had higher repayment rates than the average of the HBCUs’ repayment rates. If we used the criteria that the DoE applied to for profits and applied it to HCBUs, only 1 school out of 96 would pass the 45% hurdle. That school is University of the Virgin Islands with a repayment rate of 52%. Additionally, only four additional schools—Spelman College, Tuskegee University, Shorter College, and Hampton University—would clear or meet the 35% repayment mark. It is very clear that demographic and income differences have a huge effect on default rates.

    *Repayment data was unavailable for 8 of 104 HBCUs.

    Effect of the New Rules on Programs

    The DoE also released data on what effects the new rules would have on programs being offered in the state of Missouri. Assuming the rules are passed as is, how might school programs be affected? The DoE defines a program as a unique Classification of Instructional Programs (CIP) code offered by a unique institution.

    There are 24 separate for-profit institutions in Missouri. Of the 24, eight of them had program(s) that would fail.

    Those 24 institutions offered a total of 176 programs among them. The table below shows the breakdown of potential failed programs.


    A total of 46 or 26% of the programs would fail. Almost half the certificate programs offered would fail. With associate degrees, the total drops to 14%. With bachelor’s degrees, however, the failure rate jumps back up to 22%. There are only 23 bachelors programs in the sample size, so the small numbers could distort the data. With only five masters programs, there is not enough data to draw any meaningful conclusions about them.

    There are 15 unique CIP family codes (CIP family codes are groupings of similar programs). The following table breaks down the potential failed programs by CIP family code.



    Some families of programs do not have enough data to draw meaningful conclusions. Also, we should keep in mind that certain areas of the economy may be harder hit than others and that could impact which programs fail.

    We can tell that healthcare programs fair the best, with only 12 of 75 or 16% of them failing. The next “best” seem to be business and IT-type programs; both of which have failure rates of around one-third. The engineering technologies programs also look good with only one failure, but the sample size of 13 is small.

    The stock market’s hysteria over the imminent death of vocational two-year schools seems overblown. Certificate programs seem very hard hit, but let’s take a closer look. We will examine the healthcare field since it has the most data available (75 total programs).

    The table below shows healthcare programs by degree type and the percentage that are failing.



    As you can see, healthcare certificates make out better than associates degrees with a 14% program failure rate compared to a 21% program failure rate.

    The preliminary result of the new regulations if enacted as written is that a hodgepodge of programs across many degree types and fields of study may end. The regulations probably won’t spell the death of any particular program type or institution. Healthcare programs, where there is some of the greatest demand, should still be a strong driver of growth in the for-profit field going forward. Some other programs may have to be tweaked or have certain majors/degree levels eliminated. The wholesale disbanding of programs and institutions that the market seems to fear is unlikely. We see successful passing programs at all levels in most fields. If institutions can make the necessary academic and employment services adjustments, the for-profit industry should get through just fine. The days of sky high growth and 30 and 40 P/E multiples are likely over, but above average growth is likely not. As always, investors are wise to tread carefully when government is involved.



    Disclosure: Long COCO
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