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Apollo Group Inc (APOL), Strayer Education Inc (STRA): Why This Company Will Change the Education Services Industry

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For-profit education is regarded as one of the worst possible industries to invest your money in. The industry has long been known for its high default rates and poor academic performance. After the Government Accountability Office published a report in August 2010 criticizing the marketing practices and fraudulent activities of some for-profit colleges, things became even worse. As an example, Apollo Group Inc (NASDAQ:APOL), owner of University of Phoenix, has lost more than half of its market capitalization since that report was released!

Apollo Group Inc (NASDAQ:APOL)

 However, I believe that Strayer Education Inc (NASDAQ:STRA) is about to change the industry’s image. At first glance, the 41% one-year negative return of this stock looks scary. As the owner of Strayer University, though, which is an institution enrolling more than 38,000 students through its online programs and at more than 80 campuses located in 24 states, this company may be way too undervalued at its current price.

STRA Chart

The macroeconomics of education
First, let’s start with a potential upside catalyst: the demand for higher education is set to rise in the next few years.

This is not so obvious at first glance. According to the NSCRC, since 2010 there has been a contraction in the national demand for higher education which is present in all sectors. The overall enrollment change in spring of this year was -2%. Across all sectors, the four-year for-profit segment where Strayer Education Inc (NASDAQ:STRA) is located experienced the most negative impact, contracting roughly 8%.

As can be seen in the figure below, Strayer University’s student enrollment is also down for this period. In its second-quarter earnings call, the company said new student enrollments dropped 17%!

Source: Strayer Education Investor Relations (top), NSCRC (down).

The good news is that the latest data suggests the rate of decline in enrollment rates is lower than it was one year ago, which in turn suggests that demand may be recovering.

Will demand stop contracting? In the long run, yes. This is because an increase in demand for higher education may be associated with improvements in employment rates. An old theory says that when there is high unemployment, people go back to school because the opportunity cost of studying is smaller, but the latest data suggests a different pattern. People don’t want to study when long-term unemployment is present in the economy.

Luckily for Strayer Education Inc (NASDAQ:STRA), unemployment rates are also contracting. This could lead to a recovery in the demand for higher education sooner than expected. After all, salaries, employment rates and level of education are all positively and highly correlated in the US. The median weekly earnings of people with less than a high school diploma in 2012 was $471. This segment experienced a 12.4% unemployment rate. On the other hand, people with a professional degree made an average of $1,735 per week. This segment experienced only a 2.1% unemployment rate.

These are strong incentives to get a higher education as soon as possible. Such incentives will, in the long run, drive demand up. When you consider that only 57% of Americans have gone beyond high school, there’s plenty of room for growth here. Giving 25% tuition discounts to students who stay until graduation, Strayer Education Inc (NASDAQ:STRA) could catch most of the additional demand to be created in the next years because it offers a decent degree for a low price.

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