June 2, 2011 – By A. Ananthalakshmi and Megha Mandavia
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BANGALORE (Reuters) - A surprise decision by the U.S. education department to dilute a key rule governing federal aid to for-profit colleges has ended the uncertainty around the companies' growth prospects, giving a boost to the stocks.
The changes to the 'gainful employment' rule drastically lower the threshold for repayment of federal student aid -- the main source of profit for colleges -- and give the companies more time to comply.
Education stocks were the top gainers on U.S. exchanges on Thursday. Shares of Corinthian Colleges, up almost 40 percent, were the most heavily traded on Nasdaq.
An education index was up 15 percent.
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Analysts said the new rule benefited all companies in the sector. Companies like Apollo and Capella Education, which were in the restricted zone to access federal aid based on the repayment rate metric, can now grow their student base unrestricted.
The education department surprised with the number of changes that benefited the colleges, given its tough stance on the issue in the last two years.
"Some investors had expected no changes, some had expected marginal moves and few, if any, expected a combination of quantitative and qualitative changes," William Blair analyst Brandon Dobell said in a note.
The colleges had made changes to their admissions policies as they braced for a more stringent set of rules, leading to sharp declines in enrollment numbers. They had also cut jobs and scaled back on expansion plans.
A key change in the rule is that colleges have now till 2015 before a program can be denied tuition loans over too many defaults by ex-students.
"We no longer expect gainful employment to limit growth at the majority of for-profit institutions," Jarrel Price at Heights Analytics said.
The rule is part of the Obama administration's crackdown on for-profit schools, accused of overcharging students, burdening them with debt and not preparing them adequately for jobs.
The department finalized a set of 13 rules last year but delayed the 'gainful employment' rule after much opposition.
Education stocks were highly volatile last year and some were trading at near-bankruptcy levels, according to analysts.
"They are up dramatically but they were (also) depressed dramatically," said Jeffrey Leeds of Leeds Equity Partners, which holds Education Management shares.
"And it was the impact the proposed regulations as opposed to fundamentals."
Morgan Stanley analyst Suzanne Stein said the sector has become "more investable" given the clarity on the rule, but slowing enrollment will continue to be a overhang.
Corinthian and Washington Post's Kaplan education unit could face some issues because of low repayment rates.
Corinthian's spokesman Kent Jenkins said the company continued to have "serious reservations about the integrity of the education department's regulatory process and its legal authority" to set the rules.
He said the company will not make any operational changes till it completely reviews the rule.
(Reporting by A. Ananthalakshmi and Megha Mandavia in Bangalore; Editing by Roshni Menon, Unnikrishnan Nair)