For-profit higher education is hardly monolithic. True, most of the sector has been hit by enrollment declines. And nearly all of the publicly traded companies, except the American Public University System, Capella Education, Strayer Education, and National American University, are facing scrutiny from federal agencies or a state attorney general or both.
But with the announcement this week that the chief executive of ITT Educational Services would resign as his company struggles with financial problems, the divide appears to have grown wider between the companies with especially fragile finances and the rest.
The three on the fragile list are ITT, the Education Management Corporation, and of course Corinthian Colleges Inc., the company that is now selling or shutting down all of its campuses under a deal with the U.S. Department of Education.
Here’s why:
At Corinthian, the issue was cash flow. The company was so pressed that when the department in June took the unusual step of delaying disbursements of federal student aid for 21 days, Corinthian revealed that, without the federal money, it wouldn’t be able to pay its bills and its creditors weren’t willing to lend it any more money. The announcement set in motion the series of events that led to the deal to effectively shut the company down.
Education Management has a debt problem—about $1.3-billion worth. And the payments it owes on that debt, particularly the balloon payments coming due in the next couple of years, are too big for the amount of revenue it now generates. (It took on most of the debt back in 2006, when Goldman Sachs Capital Partners led a buyout of the company with lots of borrowed money.) Now Goldman Sachs, which still owns a sizable share of EDMC, finds itself negotiating with another Wall Street titan, KKR, over the debt terms. You can read about some of the juicy machinations of this Goldman Sachs-KKR conflict in a New York Post article from July.
EDMC has one bright spot, however, if you can call it that. Since mid-2012, because of its precarious financial situation, the company has had to post letters of credit with the Education Department equal to 15 percent of the revenues it receives in federal student-aid funds. In 2012 the letter of credit was $414-million. In December 2012 the department cut that to $348-million. Today, with even fewer students enrolled and less in Pell Grants and federal student loans coming to its coffers, its letter-of-credit requirements are likely to be even smaller.
Self-Inflicted Injuries
Then there is ITT, whose chief executive, Kevin M. Modany, just announced plans to resign. The company has a cash-flow problem too, but unlike Corinthian, it has nothing to do with anything the department has done. ITT’s injuries are more self-inflicted.
For years the company had been the guarantor of a private loan program for its students. That required it to make payments to a trust to make up for amounts that student borrowers didn’t pay when they defaulted on their loans. (The high-cost loan program is also the focus of a lawsuit that the Consumer Financial Protection Bureau has filed against ITT.) And the rates of those defaults were high. ITT had been setting aside money to make those payments, which will amount to about $200-million for the rest of 2014 and 2015.
But it hadn’t formally accounted for those payments on its balance sheet. The U.S. Securities and Exchange Commission cried foul on the practice and ordered the company to treat the loans as part of its core business. But ITT has yet to issue updated financial reports showing the impact of that change on its books. (In fact, it hasn’t filed any quarterly or annual reports since September 30, 2013.) The company also failed to produce an audited financial statement by a June 30 deadline, which put it in violation of department regulations. That alone could allow the department to require ITT to post a letter of credit, which the company has said would cost it $98-million.
‘A Landlord, Not a Leasing Agent’
ITT had hoped to raise about $120-million by selling some of its real estate and then leasing it back. But last week the company announced that the buyer it had been negotiating with wanted more time to examine ITT’s finances before agreeing to the deal. ITT said it would pursue other buyers, but as Trace Urdan of Wells Fargo Securities put it in a note to investors, the fact that the one party that has been able to look closely at ITT’s current financial situation has backed away from the real-estate deal suggests that it had doubts about ITT’s prospects for keeping those spaces filled with students.
“The buyer wants to be a landlord, not a leasing agent,” said Mr. Urdan.
ITT also faces another potential land mine, Mr. Urdan noted. In its most recent deal with its creditors, the company agreed to a new a provision that would put it automatically in default on its loan in the event that the Department of Education instituted a delay of more than five days in disbursing federal student-aid money to the company. Mr. Modany apparently agreed to that condition in the belief that ITT, unlike Corinthian, would not find itself facing such a delay in disbursements. But investors apparently weren’t as confident. That’s probably part of the reason the company’s stock plummeted 46 percent in a single day last week. And it may be the reason Mr. Modany was eased out this week.
Such problems have not gone unnoted on Capitol Hill. On Monday six senators, all Democrats, invoked the circumstances at Corinthian and ITT in calling on the Obama administration to increase its financial oversight of for-profit colleges.
Correction (8/6/2014, 8:56 a.m.): We were wrong to leave Capella Education out of the list of publicly traded companies that are not facing scrutiny from federal agencies or a state attorney general or both. This article has been updated to include it.
