Markets & Finance

High Marks for Strayer Education


Investors bid the shares higher on Feb. 14 after the for-profit education provider's upbeat earnings report

While tightness in the private lending market caused by the credit crisis has investors worried about students' ability to afford college courses, Strayer Education (STRA) continues to report a rise in enrollment and sees its profits growing by up to 22% in the first quarter of 2008.

Cheered by a 17% pop in enrollment in the current semester and anticipating higher profits from new campuses, the owner of Strayer University said Feb. 14 it expects to earn $1.57 to $1.59 per share in the first three months of 2008, vs. the $1.30 in profit it posted a year ago. That's higher than the average forecast of $1.55 among Wall Street analysts, who also expect the company to earn $5.25 per share for all of 2008.

That forecast encouraged investors, who pushed the shares as much as 12% higher on Feb. 14 before they slid back to trade with a 6% gain at $167.50. Strayer Education's gain contrasts the declines in its competitors' stock prices. Shares of ITT Education Services (ESI) fell 8.2%, Career Education (CECO) shed 7.7%, and Corinthian Colleges (COCO) dropped 12%.

The troubles in the private lending market are trumping any positive effects a severe economic slowdown might have on education companies, which typically see enrollment climb during bad economic spells, says Brandon Dobell, an equity analyst at William Blair & Co. in Chicago.

"People are looking for a little bit of safety in the education [sector], and this is one of three or four names you really want to own here," he says.

While it's not clear what kind of exposure investors who own shares of any of Strayer's competitors have to the lending crunch, they know "there are no out-of-the-closet risks to come out of Strayer," Dobell says. (William Blair has received compensation for investment banking services from Strayer within the past 12 months, or expects to receive or intends to seek compensation in the next three months. It also makes a market in Strayer's securities.)

Unlike its peers, Strayer's customers are older, more credit-worthy, and have the advantage of getting a lot of tuition reimbursement from their employers, says Trace Urdan, an equity analyst at Signal Hill Capital Group in San Francisco.

"Effectively, [Strayer] is skimming the cream in terms of students," he says.

The Arlington (Va.) company's simple business model, strong management, and rarely disappointing earnings are a big draw in the current environment, where so many companies are struggling to show growth, says Urdan, who has a buy rating on the stock.

Strayer's shares are fairly expensive, even relative to the growth in profitability, concedes Urdan, who believes the stock is worth owning only over the longer term to reap the returns investors are seeking.

But Strayer's gross margins are poised to widen now that it has begun to achieve some critical mass in terms of brand recognition in the new markets where it has opened campuses in recent years, he says.

"In some of the markets they have moved into in the last five years, the brand is becoming known and accepted [so] they don't have to spend as much to acquire students," says Urdan. "That's a really terrific trend for them and will help supply the margin they need in order to grow into new markets."

The company is still concentrated in the eastern part of the U.S. but has said it's aiming for a nationwide presence.

On Feb. 14, Strayer reported a fourth-quarter profit of $1.34 per share, up 21% from $1.11 per share a year earlier. Higher enrollment and a 5% hike in tuition that took effect in January, 2007, drove revenue up 20%, to $89.1 million from $74.3 million in the fourth quarter of 2006.

For the full year, earnings rose 24%, to $4.47 per share from $3.61 per share in 2006 on revenue of $318 million, 21% higher than its $263.6 million the previous year.

At the start of the 2008 academic year, Strayer opened new campuses in Raleigh and Charlotte, N.C., and said in its fourth-quarter earnings release that in the 2008 spring term it will expand to new locations in Atlanta and Orlando, two markets in which it's already established.

With its programs narrowly focused on business and information technology, the costs of opening a new campus are limited to renting the buildings to house classrooms and hiring new instructors, says Urdan: "So the return on invested capital in the Strayer story is just phenomenal."

The economic slowdown hasn't caused any of the companies with which Strayer has alliances to pull back in reimbursing their employees' education expenses, Robert Silberman, Strayer's chairman and chief executive, said on a conference call to discuss the latest results.

"Most of the corporations we have alliances with tend to be heavily invested in human capital," he told analysts and shareholders. "I do not believe we will see much of an impact with regard to our business should the economy enter a recession."

In the last recession of 2001-02, corporate funding held steady at 20%, with the remaining 80% coming from students' and their families' pockets, Silberman said.

If companies decide to reduce the levels at which they're willing to reimburse employees for education costs, Strayer still has plenty of room under the requirements of the Title IV federal education loan program to expand students' financial-aid packages, he said.

Last year, Strayer repurchased roughly 260,800 shares of common stock at an average price of $146.05 per share, including 102,900 shares purchased at an average price of $175.86 in the fourth quarter. The company said it has remaining authorization to buy back up to $81.9 million worth of additional shares.

In February, Strayer's board approved grants of 42,536 shares of restricted stock to certain employees as part of the company's existing equity compensation plan, which replaced the stock options three years ago. These shares vest over three to five years and represent about 0.3% of total common shares outstanding, according to the earnings release. The stock price closed at $162.10 on the date of the restricted stock grant.

Any appreciation in the stock price will be driven by earnings rather than the multiples, Signal Hill's Urdan said, and he expects annual returns to be around 18%. "It's the kind of name to buy on weakness in order to maximize returns," he said.

In contrast, most of Strayer's rivals are not going to enjoy the high valuations they used to—at least not for a while—says Dobell at William Blair.


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