Capella Education: Earnings Scorecard

Capella Education Company (CPLA), the provider of online education, delivered better-than-expected third-quarter 2010 results on October 26, 2010, buoyed by a rise in enrollment.

Street analysts had nearly a week to digest the news. In the paragraphs that follow, we cover the recent earnings announcement, subsequent analyst estimate revisions and the Zacks ratings for the short-term and long-term outlook for the stock.

Earnings Report Review

Capella’s quarterly earnings of 80 cents a share, beat the Zacks Consensus Estimate of 78 cents, and grew 40.4% from 57 cents posted in the prior-year quarter. The Zacks Consensus Estimate was stable prior to the earnings announcement.

Total enrollment soared 25.7% year-over-year to 38,634. Graduate program enrollment rose 19.4% to approximately 30,000. Due to the surge in enrollment, the quarterly revenue of $105 million surged 25.7% compared with the prior-year quarter, which remained in line with the Zacks Consensus Estimate.

Management Guided

Capella now expects revenue to increase in the range of 20% to 22% in the fourth quarter and reiterated growth between 26.5% and 28.5% for fiscal 2010.

The company now expects enrollment to rise in the range of 16% to 17% in fourth-quarter 2010, reflecting slower growth compared with the previous quarters. For fiscal 2010, the company continues to expect enrollment growth between 26.5% and 28.5%.

(Read our full coverage on this earnings report: Capella Beats, Enrollment Slows)

Agreement of Estimate Revisions

Clearly, a negative sentiment is evident among analysts, who remain pessimistic about Capella’s performance. Following the earnings release, the Zacks Consensus Estimate has been falling with analysts remaining bearish on the stock. Despite posting better-than-expected third-quarter results, the slowing growth in students’ enrollment raised an alarming signal, shattering analysts’ confidence.

We observe that the growth in enrollments in the quarter under review has decelerated sequentially. After increasing 32.1% in the second quarter, the rate of growth in enrollment dropped by 640 basis points in the quarter. Management also warned of lower student enrollments amid stringent admissions criteria, which requires students to undergo an assessment process for enrollment.

The Zacks Consensus Estimates have been falling with analysts slashing their estimates. In the last 7 days, 14 out of 18 analysts covering the stock lowered their estimates for fourth-quarter 2010, and 7 analysts lowered their estimates for first-quarter 2011. For fiscal 2010 and 2011, 15 analysts have cut down their estimates.

The current potential risk looming over the education sector is the regulation proposed by the Department of Education that may weigh upon students’ enrollments and the company’s profits. Recently, 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 federal student financial aid programs, the Title IV programs. The education institutions are also under the scanner due to the rise in the default rate of student loans.

The sector bellwether Apollo Group Inc. (APOL) has also cautioned that enrollment in its first-quarter 2011 would drop by more than 40%, and withdrew its outlook for the fiscal year, citing an uncertain regulatory environment.

Magnitude of Estimate Revisions

Following the earnings release, the analysts have been lowering their estimates. The magnitude of estimate revisions indicates the doubt in the mind of the analysts about the stock’s performance. Consequently, the Zacks Consensus Estimate has been rising.

In the last 7 days, the Zacks Consensus Estimate for fourth-quarter 2010 dropped 8 cents to $1.11, and for first-quarter 2011 it tumbled by 14 cents to 98 cents a share. For fiscal 2010, the Zacks Estimate fell 7 cents to $3.64, and for fiscal 2012, the Estimate plunged 52 cents to $4.13, in the last 7 days.

The estimates in the current Zacks Consensus for fourth-quarter 2010 range from a low of $1.06 to a high of $1.19. For fiscal 2010, the estimates range from $3.50 to $3.72.

Capella Education Holds Zacks #5 Rank

Capella Education’s shares maintain a Zacks #5 Rank, which translates into a short-term ‘Strong Sell’ recommendation.

Capella’s strong focus on working adults and exclusive online education has enabled it to become a prominent player in the for-profit post-secondary education industry. The company’s sustained effort to expand educational programs helps it to boost enrollments, and in turn, the top-line, which grew 25.7% in third-quarter 2010. Capella now expects revenue to increase between 20% and 22% in the fourth quarter.

However, the regulations proposed by the Department of Education may weigh upon students’ enrollment and the company’s profits. A slowdown in student’s enrollment was witnessed in the third quarter, which led the company to forecast a 16% to 17% rise in the fourth quarter as against a 25.7% growth in the third quarter. The dwindling prospects compel us to remain Neutral on the stock.

CAPELLA EDUCATN (CPLA): Free Stock Analysis Report

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