Capella Pushed Downward - Analyst Blog

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The economy is in the doldrums, showing no leniency for any sector. Since every industry is directly or indirectly linked with the economy, troubles at one end percolate down to the other and form a ripple effect until an entire cycle is completed. It's now time for the Education Industry to bear the brunt.

People, either employed or unemployed, pull their socks, pack their bags, and head toward education institutions to enhance their skills in order to shield themselves from money woes. But the recent recessionary fears have reserved the situation and resulted in falling enrollments at institutions. Capella Education Company ( CPLA ) remains no exception.

Two of the obvious reasons for weak enrollments are the turbulent economic scenario plagued by an unemployment rate of 8.6% and a stringent regulatory environment. This compelled our cautious stance on the stock for the time being. Hence, we downgraded our long-term recommendation on Capella to Neutral with a price target of $37.00. Earlier, we had an Outperform rating.

The Department of Education proposed that an educational program could only qualify for Title IV funds, if it helps in achieving gainful employment, which includes the criteria of loan repayment rate and debt-to-income ratios. The company derives a major portion of its revenues from Title IV programs. But like all education institutions, even Capella is under the scanner due to high student-loan default rates. The imposed regulations are weighing on student enrollments and the company's profits.

Capella'stotal active enrollment dropped 7.5% during the third quarter of 2011. Management had earlier guided enrollment to fall by 6% to 8% in the quarter. New enrollment plunged 36%, reflecting tough market conditions, changes with respect to program accreditation and stringent admission criteria.

But this did not restrict Capella from posting better-than-expected results in the third quarter of 2011. However, the performance remained muted when compared with the prior-year quarter. The quarterly earnings of 66 cents a share beat the Zacks Consensus Estimate of 59 cents, but dropped 17.5% from the prior-year quarter.

Total revenue of $102.3 million also came ahead of the Zacks Consensus Estimate of $101 million but fell 2.6% from the year-ago quarter. The decline in the top line dovetails with management's guidance range of a 2.5% to 4% fall. Capella now expects revenue to plunge by 3% to 4.5% in the fourth quarter.

Amid economic upheavals and dwindling prospects, Capella now expects total enrollment to decline but at a softer rate between 4% and 6% in the fourth quarter. Capella also hinted that new enrollment will also tumble but at a lower rate of approximately 10%, following a sharp decline of 36% in the third quarter, as it expects re-registration of existing apprentices to remain robust.

Capella generally focuses on working adults, and in order to draw students it is also ramping its marketing and promotional expenditures, which rose 13.8% to $33.7 million during the third quarter. To counter a declining student enrollment rate amid economic turbulence and regulatory issues, the company is pushing hard to manage costs effectively, improve marketing efficiencies and initiate new programs.

The above analysis supports our Neutral stance on the stock. Moreover, Capella, which competes with Apollo Group Inc. ( APOL ) and Strayer Education Inc. ( STRA ), holds a Zacks #3 Rank that translates into a short-term 'Hold' recommendation, and clearly defines how the investment merit balances with the current sector headwinds.

APOLLO GROUP ( APOL ): Free Stock Analysis Report

CAPELLA EDUCATN ( CPLA ): Free Stock Analysis Report

STRAYER EDUC ( STRA ): Free Stock Analysis Report

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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