Earnings from Learning: The Rise of For-Profit Universities

7. Capital Romance: Why Wall Street Fell in Love With Higher Education

Chapter 7 Capital Romance Why Wall Street Fell in Love With Higher Education Andreas Ortmann INTRODUCTION The number of publicly traded degree-granting providers of postsecondary education in the United States grew at a steady pace throughout the nineties. Following the early example of DeVry, Inc. (DV) in 1991 and the Apollo Group, Inc. (University of Phoenix) (APOL/UOPX) in 1994, ten degreegranting providers of postsecondary education went public during the second half of that decade.1 Most grew at a brisk pace, often through acquisitions.The last five years have seen more acquisitions (e.g., Blumenstyck, 2003) and consolidation among the competitors constituting the field at the end of 1999, a remarkable new competitor, and the unstoppable emergence of a vibrant elearning industry segment to which all major publicly traded degree-granting providers of postsecondary education laid claim to various degrees.2 Together, the remaining publicly traded providers of postsecondary education currently command about 4–5% of the revenues flowing into higher education each year—most of it originating from Title IV programs—and from more than about 10% of the nation’s campuses. To sell to investors ownership in a new breed of companies that, in addition , had to compete against incumbent providers that do not have to produce profits to please investors and are favored by numerous regulatory and tax breaks including tax-deductible donations (Facchina, Showell, and Stone, 1993), investment bankers and market analysts clearly had to have “compelling stories” to tell. This chapter presents an inventory of the reasons that analysts gave at the end of the nineties, that is, before consolidation started to reduce the number of competitors constituting the field during the year 2000. In a sense, the years before that consolidation—roughly the second half of the 145 nineties—can be thought off as the take-off phase of the industry. Certainly, throughout those years the viability of a for-profit industry was not an uncontested idea. Apart from compiling an inventory of arguments, I attempted to assess the relative importance of their reasons through a questionnaire that I sent to analysts who followed the education industry in 1999. I evaluated the merits of these arguments in light of modern economic and managerial theories of firms and markets. Drawing on portfolio recommendations of my correspondents , I also evaluated their predictive powers regarding the universe of companies discussed in this chapter. The next section briefly reviews the role of market analysts and then describes how I collected and evaluated the arguments that analysts used to persuade investors, at the end of the takeoff phase of the industry. The third section summarizes the results of a questionnaire through which I attempted that evaluation. The following section discusses how analysts’ view of the fledgling for-profit segment of postsecondary education compares to modern economic theories of firms and markets. In the conclusion I discuss briefly recent developments. AN INVENTORY OF THE ARGUMENTS THAT ANALYSTS USED TO PERSUADE INVESTORS The Market for Market Analysts. In the fall of 1999, the education industry— although the second largest industry in the United States—was followed only by a small number of analysts. A Wall Street Journal article suggested that “half a dozen market analysts” (13 August 1999, p. A1) tracked education companies .3 So small was the set of analysts that the Wall Street Journal’s 1999 installment of its annual “All-Star Analysts” section did not even list the education industry as one of its fifty-five industry categories. (It did list hospitals and HMOs—the largest industry in the United States and an industry that went through a process of privatization about a decade earlier that many consider a template of things to come in the education industry, e.g., Hansmann, 1994.) What Do Market Analysts Do? Through the study of companies, managers, “business models,” and the markets in which they are put to the test, market analysts try to identify likely “winners” and “losers.”4 The resultant “buy” and “sell” recommendations of various gradations are meant to help managers of mutual funds, pension funds, and retail customers to beat the market averages. It is a well-established fact that an overwhelming number of mutual fund managers (and we can assume, pension fund managers) do not benefit on aver146 CAPITAL ROMANCE age from that advice (Carhart, 1997). Furthermore, the implosion of Internet companies during 2001 left many a retail customer with fractions of the...