Big profits elevate ITT Educational into rare class

October 17, 2009

You can’t blame Kevin Modany for feeling a bit like Joe Bfstplk, the gloomy character in the old Li’l Abner comic strip who always had a rain cloud over his head.

The CEO of ITT Educational Services Inc. acknowledges his company and its for-profit education peers operate under a constant cloud of federal scrutiny and periodic investigations. And whenever that cloud shows the slightest bit of darkening, investors flee, since nearly 80 percent of ITT’s revenue comes from federal student loans.

But Modany and his team appear to have grown comfortable with the uncertainty, posting record profits for 10 years in a row—and at a pace most business leaders can only dream about.

“Here’s how you manage that,” said Modany, 42. “If you’re doing the right things when the lights aren’t shining on you, you don’t get worried when they do.”

The Carmel-based company has certainly been doing many things right for years. Its profits have soared 1,356 percent in the past decade, or an average of 29 percent every year.

Since the company went public in December 1994, spinning off from New York-based conglomerate ITT Corp., its shares have generated a return of nearly 4,900 percent.

And in the last year, ITT has outgrown all its major for-profit education peers across the country as the deep recession sent a tidal wave of displaced workers back to school to acquire new skills.

For sustaining its torrid growth, even in the face of daunting challenges, IBJ has awarded ITT its 2009 Enterprise Award, which honors risk-taking and achievement among central Indiana companies.

“One of the most difficult challenges managers face is when they work in an uncertain, turbulent environment,” said Chuck Williams, dean of the Butler University College of Business in Indianapolis. “To produce this kind of growth or profit track record over the last 10 years, when there was so much uncertainty, shows that they are managing it.”

ITT was founded 40 years ago and has specialized in training students for specific jobs in technology-filled industries. Its schools offer mostly associate’s degrees in such areas as electronics, drafting and design, and information technology.

It also offers programs in criminal justice, health sciences and business, and is trying to add more and more bachelor’s and master’s degrees.

It operates 117 campuses in 38 states, enrolling more than 69,000 students. In just the last year, ITT’s enrollment has spiked 26 percent.

Tougher times ahead?

But some analysts and investors have begun to wonder whether ITT’s growth this year is setting it up for trouble down the road. In February, the company began lending its own money to students to help them fill the gap in tuition costs not covered by federal loans.

Yet because unemployment has been rising, fewer of ITT’s graduates have been getting jobs, and more and more of them have been defaulting on their loans.

As a result, the percentage of unpaid loans has jumped. The company has warned its bad debt expense could hit 8 percent of revenue by year’s end, double its level in summer 2008.

Also, ITT students’ default rate over three years is about 23 percent, creeping dangerously close to the federal limit of 25 percent.

“They can’t really manage the metrics as well as some of their peers,” said Young Li, an education analyst at Battle Road Research, an independent research firm in Waltham, Mass.

So even though ITT has been the most profitable company in the industry in the past year, Li favors for-profit educators like Capella Education Co., Strayer Education Inc. and the industry bellwether, Apollo Group Inc., which operates the University of Phoenix campuses.

Investors, on the whole, seem to share Li’s unease. The company’s stock price—even though it hovers at a lofty $110 per share—is mediocre for the industry when calculated as a ratio of earnings per share.

Modany, however, defends what ITT has done.

“You have to stay true to your mission. Our mission is educating men and women for career advancement,” he said, noting that ITT’s average student is about 28 years old and before enrolling was earning $17,000 a year.

“These are independent students of modest means that are trying to improve their lives,” he added. “When people need you the most, do you turn your back on them?”

Powerful trend

All for-profit educators have grown rapidly for years as the American economy has increasingly shed high-paying jobs once held by people with only a high school education. Hoosiers know this transition well, having watched the state bleed good-paying manufacturing jobs for decades.

And those trends aren’t going to stop anytime soon.

According to the U.S. Department of Education, the number of Americans 25 or older enrolled in postsecondary education rose 18 percent from 1990 to 2004. The department expects the number to rise another 19 percent by 2015.

“What’s been going on in our country is that unskilled people can’t get jobs,” Modany said. “The opportunity for employment for those individuals for a career has been decreasing over the last 15 to 20 years.”

But if the U.S. government is going to keep funding enrollment growth with more and more student loans, it’s also determined to make sure the companies aren’t gaming the system.

In September, the U.S. Government Accountability Office issued a report saying at least one for-profit educator was using high school diploma mills to get students qualified for federal college loans. The report did not name the school.

ITT has been periodically accused in lawsuits of pressuring recruiters to boost enrollment and instructors to inflate grades and attendance records, all to keep the federal loans flowing. Federal lawsuits in 1999 and 2004 were both dismissed.

In 2004, the U.S. Department of Justice seized records from 10 ITT campuses and its headquarters in an investigation into similar areas. But by the next year, it said it had found no evidence to substantiate its suspicions.

The company’s longer-running challenges are squarely in the private sphere: It constantly must demonstrate that its average annual tuition of $20,000 is worth it.

ITT’s tuition was half as much in 1995. So ITT’s average student could spend $20,000 to earn a two-year associate’s degree and then find a job with a starting salary of about $20,000, according to company data gathered by William Blair & Co.

But last year, the average ITT student spent $40,000 to obtain an associate’s degree and then found a job with a starting salary of about $33,000.

Modany said the $7,000 gap isn’t as large as it appears, because low interest rates and more extensive grants have mitigated the rise in tuition.

But he said the issue is crucial to ITT’s continued success.

“We want them to get a great return on that investment,” he said. “The value proposition to your customer ultimately determines your rate of success or failure.”•


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