Education Services and Online Colleges
With the S&P 500 up 79% from the March 2009 bottom, one strategy to score home runs is to follow contrarian investors and look for best stocks in beaten down or out-of-favor sectors.
In the first part of this two-part article, I outlined two ideas for contrarian investors: Medical devices with Medtronic (MDT) as the top stock pick and Natural gas with iPath DJ-UBS Natural Gas ETN (GAZ) as the top pick.
Here is my third and best idea for contrarian investors: Education Services and Online Colleges.
Education Stocks Hammered on Regulatory Fears
After benefiting from rising job losses during the Great Recession, things have changed for the worse for education services companies this year. Low student loan repayment rates have caught regulatory attention.
The U. S. Department of Education believes education services companies and online colleges have misled students on employment prospects after graduation by misrepresenting the value of programs.
In mid-August, the Education Department released loan repayment data at leading education services providers that show companies like Corinthian Colleges (COCO), Strayer Education (STRA), and Washington Post’s (WPO) Kaplan Unit particularly in poor light.
The Education Department has proposed that schools with less than 35% student loan repayment rate should become ineligible for federal government-issued student loans. A slate of rule changes have been proposed too relating to recruiting and marketing practices of educational service providers and online colleges.
While education services stocks have been sliding since the second quarter, recent forecasts from Apollo Group (APOL) and Capella Education (CPLA) for a significant drop in enrollment for their degree programs in 2011 have delivered a one-two punch. AlphaProfit’s equal-weighted education service index is down 33% year-to-date.
Education Services and Online Colleges, an Opportunity for Contrarian Investors
Stocks in the education services group have been left out of the post-Great Recession rally. Such stocks trade below their March 2009 lows. In fact, AlphaProfit’s education service index is 25% lower than its March 9 value.
The ‘negativity’ gripping education services has pushed valuation metrics of such stocks well below historical levels. The recovery potential in education services stocks may be abnormally large if you believe such companies play an important role in higher education as job requirements change and necessitate re-training.
Top Education Stock Investment for Contrarian Investors: Apollo Group (APOL)
Apollo Group has certain attributes that make it my top contrarian stock.
Wide economic moat: Apollo is the nation’s largest private university with an enrollment of over 475,000. The company’s University of Phoenix unit is the country’s largest online education provider. Competing against higher cost traditional schools with scale and efficiency, Apollo enjoys a wide economic moat.
Superior regulatory risk profile: At 44%, Apollo’s debt repayment rate is above the 35% minimum proposed by the Education Department for federal funding eligibility. Apollo is also requiring all prospective students with less than 24 credit hours to take a free, three-week orientation course to improve retention.
Serving right markets: Departing from the past practice of focusing on short-term associate programs, Apollo is now emphasizing less-cyclical advanced degree programs. This move can prove timely if the economy continues to improve.
Targeted growth strategies: Apollo is uniquely well-positioned to expand its programs globally through its joint venture with The Carlyle Group.
Risks of Investing in Apollo as Contrarian Investment
Apollo shares currently trade at about 8.7 times analysts’ EPS forecast for the fiscal year ending in August 2011. The alluring upside in Apollo shares can become reality if the company can get back on a growth trajectory at some point.
Year 2011 is likely to be transition year for Apollo as the company rolls out its orientation program and implements a new plan for enrollment advisor compensation. While these steps can result in steadier growth down the road, they could pressure enrollment and margins in the near-term. Then, there is some possibility that the Securities and Exchange Commission’s informal inquiry into Apollo’s revenue-recognition practices can balloon into a full investigation.
As such, plunking in a lump-sum would be unwise. Prudent contrarian investors would be better off buying Apollo shares in incremental steps spread out well over time as long as the fundamentals merit. This can help mitigate downside while positioning for a likely upswing in Apollo shares.
In AlphaProfit’s Premium Service, we look to recommend Apollo shares with specific entry and exit points at the appropriate time.