By Chris Gillick
One of the more intriguing long-short debates among hedge fund managers over the past year has been in an obscure sector: for-profit education. Almost a year ago, Lone Pine Capital founder Steve Mandel used the Ira W. Sohn Research Conference to tout Strayer Education, whose shares he and a number of other Tiger cubs have owned for years.
No sooner had Mandel touted Strayer for its superior franchise, an underserved demand for adult secondary education and low student loan default rate, than short-seller Jim Chanos of Kynikos Associates attacked the company for spending too much money on marketing and for loan terms that were worse than those of nonprofits. Eventually, Chanos figured, there would be a backlash from the feds, whose loans provide 73% of Strayer’s revenues.
Who’s right? A year later, the longs seem to be winning as Strayer is up 38% percent since last May 28, the date of the conference. One negative, however, is that at least one Tiger cub—Viking Global Investors—seems to be losing interest in the sector.
Since the third quarter of 2008, Andreas Halvorsen’s Viking Global has been unloading shares of Apollo Group, based in Phoenix and the parent of popular online school the University of Phoenix. Halvorsen might be onto something, as research analysts have downgraded Apollo twice in the last six months.
Education would seem to be a good recession play as more Americans are waiting out the downturn in school. Online education—a big part of Strayer’s business as well as Apollo’s—is particularly popular in these hard times. According to a study by the Sloan Consortium released in January, online enrollment at colleges was up 17% year-over-year for the fall 2008 semester.
“For-profit education is countercyclical, and when it works, it really works,” says David Sackler, managing partner of Moab Partners, a New York long-short equity and credit fund. “Now is a great time for adults to be going back to school. But in this environment, investors have to worry about how the government might react to lending practices and accreditation.” Due to this uncertainty, as of press time Moab does not have a position in the sector.
Jeff Silber, a senior analyst for BMO Capital Markets who covers the sector, admits it’s a mixed story. “These are fundamentally good businesses, with great secular growth stories,” he says. But as with investing in other industries, the government risk in for-profit education is very real. Silber points out that the Department of Education is in rounds of negotiated rule making, known as Neg Reg, with particular concern about the debt students can bear relative to the realistic earnings potential for their chosen profession after graduation.
But like the banking industry, education investors are shrugging off potential bad news. “The for-profit companies feel they are being unfairly singled out with this,” says Silber. “As a result, some fear has been abating over these concerns recently.”
Lone Pine Capital and Maverick Capital, headed by Lee Ainslie, along with John Griffin’s Blue Ridge Capital—all Tiger cubs—were Strayer bulls years ago. In March 2005, the three together had amassed a 17.49% stake in Strayer (“Hedge fund cooperation takes off,” Absolute Return, October 2005). Silber calls Strayer a flight-to-quality play and has the stock rated outperform. By the end of last year, Lone Pine (which declined to comment) had increased its stake to 9.7% and was Strayer’s second-largest shareholder. Maverick sold its Strayer shares in the fourth quarter of 2009, and Blue Ridge has not owned shares at quarter-end since 2005.
While Mandel’s Strayer bet has increased, another online educator is becoming of less interest to fellow Tiger cub Halvorsen. In June 2008 Viking reported owning nearly 15 million shares of Apollo. But quarter after quarter Viking trimmed its stake until it held just 1.76 million shares a year later. Though it added some shares in the third quarter of 2009, Viking owned just 95,000 shares on December 31.
Lest anyone think the Tiger cubs all think—and invest—alike, Chase Coleman of Tiger Global Management has picked up on Apollo where Viking left off. Tiger Global upped its stake significantly in Apollo in January. Tiger Global owned 5.1 million shares on December 31, but just two weeks into 2010, on January 15, Coleman had more than doubled his fund’s stake to 12.4 million shares, according to Securities and Exchange Commission filings.
This came soon after Silber at BMO downgraded Apollo from outperform to market perform over concerns in its associate degree program, Axia College. According to Silber, Apollo, best known for its bachelors and masters programs, had suffered a decline in the quality of students it attracted to Axia. “It takes more than one quarter to halt growth and de-emphasize that business,” says Silber.
The stock price in the first half of January was between $59 and $65, while at press time it traded at $65. Tiger Global, with 8% of Apollo, is now the company’s largest shareholder. Coleman declined to comment on the position.
According to Apollo’s most recent Form 10-Q, enrollment of those seeking degrees through its University of Phoenix division increased 18.4% in the first three months of the 2010 fiscal year, which began December 1, compared with the same period in 2009. Other notable hedge fund shareholders are Maverick, which owns more than five million shares, and Paulson & Co., which owns 829,000 shares, both as of December 31, according to SEC filings. All three funds declined to comment.
While the huge blocks of Lone Pine and Tiger Global are classified as passive, one fund in particular has taken bigger stakes, filing Schedule 13Ds for a number of its investments. San Francisco’s Blum Capital Partners is the largest shareholder in both Career Education of Hoffman Estates, Ill., and ITT Educational Services of Carmel, Ind. Blum, which is structured more like a private equity fund but makes concentrated bets on publicly traded companies, began buying shares of Career Education in the fall of 2006 between $21 and $26 per share, according to filings. Since then the fund has built up its stake to 18.6%, or more than 16 million shares, as of December 31, buying shares as high as $28 and as low as $15 along the way. At press time the stock traded at $32. With the recent run-up in stock prices and regulatory concerns, funds might be exiting their positions. “A rising tide has been lifting all boats here,” says Silber. “Valuations in the best names are very rich.”
