ITT Educational Services Inc (ESI) is one of the largest publicly traded for-profit educational institution, headquartered in Indianapolis, USA
On May 12, 2015, the US Securities and Exchange Commission announces fraud against ITT Tech and Kevin Modany, the Chief Executive Officer. And Daniel Fitzpatrick, the Chief Financial Officer. The Securities and Exchange Commission affirmed that ITT Tech, who is running the for-profit colleges and its two executives. Mr. Modany and Mr. Fitzpatrick, has fraudulently hidden the poor performance of the threatening financial impact of the two private student loan program, the PEAKS, and the CUSO, which ITT Tech had financially guaranteed.
About ITT Educational Services Inc (ESI)
ESI established and provide the two student private loan programs after the breakdown of the private student loan market. ITT Tech provides a limited risk of loss to attract investors to invest in these two private student loans programs. The two executives made various material distortion and eliminations in the disclosures to hid the default in the performance of the two student loan programs, stated on the Sec’s complaint. Further, for-profit colleges are run by companies that operate under the demands of investors and stockholders. Moreover, private loan programs are privately operated to earn money for their investors. Howbeit, for-profit colleges can get up to 90 percent of their revenue from federal student aid.
On the other hand, according to Kevin Modany in August he would be stepping down as Chief Executive Officer effective February 2015, further, he said that he would remain until the company has found somebody to replace him. Moreover, Daniel Fitzpatrick said, that he planned to retire October 29, 2015, from his position.
ESI Current Problems the Company is Facing
- The company was charged with fraud by the US Securities and Exchange Commission by concealing actual situation of the PEAKS and CUSO private loan program, and not telling the whole truth to the investors and its auditors. The company has misinformed the auditors repeatedly, therefore, the financials need to be restated.
- Moreover, ESI has to face a federal lawsuit which was filed last year by the Consumer Financial Protection Bureau by exploiting students of predatory lending by pushing students in a private loan that cost higher than other private loans that may have a tendency to end in default.
- In addition, after the announcement made by the SEC, the share price of ESI has nose-dive right after the publication at 44 percent, however, right after the filing of its financial statement ending December 31, 2014, to the SEC, the price started to rise to $4.37 from $2.41 per share. The stock price still remains unstable.
- Moreover, ESI has been receiving punches from the regulators and could not defend themselves in a public arena because no evidence has been presented yet to the charges.
More about ESI’s concerns
- One legislator is calling on the Department of Education to further investigate ITT Educational Services and its two executives, for not revealing the problems in the two private student loan program which could create a great impact on the financials.
- Moreover, California Rep. Jackie Speier wrote a letter to the Department of Education demanding an investigation of alleged deceptive and predatory lending practices by the company.
- In addition, the two programs were poorly run in 2012, which pushed the ESI’s guarantee obligations. Instead of telling the truth to the investors, the operators made a variety of actions that would appear that the company’s exposure was more limited, according to the Sec’s complaints.
Regarding Accounting Issues
- Further, the SEC disclose complicated accounting issues that the company published years ago. The company affirmed in covering up losses by making payments on delinquent accounts to avoid exciting millions in guaranteed payments, which they have settled in 2011 and continued until 2013. According to SEC Enforcement Director Andrew Ceresney, the senior-most executives made a number of material misstatements and omissions in its disclosures to cover up poor performance of student’s loan programs that ITT created and guaranteed.
Statement from the SEC:
“The SEC alleges that the national operator of for-profit colleges and the two executives fraudulently concealed from ITT’s investors the poor performance and financial impact of two student loan programs that ITT financially guaranteed.”
ITT formed both of these student loan programs, known as the “PEAKS” and “CUSO” programs, to provide off-balance sheet loans for ITT’s students after the collapse of the private student loan market. To induce others to finance these risky loans, ITT provided a guarantee that limited any risk of loss from the student loan pools.”
Issues that ESI is facing
- ESI claimed that the US Securities and Exchange Commission had mistaken decision to bring an enforcement action against ESI. In addition, the company claimed that the evidence does not support the Sec’s claims.
- Another problem of the company is the delay in the submission of the 2014 financial statement, which is one reason for the share price to decrease. However, recently, after the company had filed their 2014 financial statement with the SEC, the price immediate went up, unstable.
- Moreover, the company have decided to consolidate the financial result of the PEAKS Trust program, beginning February 28, 2013, the Company’s Audit Committee concluded that the Company will need to restate the unaudited financial statements in its Quarterly Reports for each of the quarters ending March 31, 2013, June 30, 2013, and September 30, 2013, and the previously submitted annual report ended December 31, 2013, and the quarter ending March 31, 2014, as these were no longer reliable.
What are the Effects?
- Initially, the company’s future was placed into uncertainties and the reputation was affected.
- The market price has dived at 44 percent from $4.02 to $2.27 per share, after the announcement of fraud against the company, Kevin Modany, Chief Executive Officers and Daniel Fitzpatrick, Chief Financial Officer. However, after the filing of its 2014 financial statement, the price rise by 44.85 percent, but the price was still unstable.
- Moreover, these private student loans program and the default rates have expanded in the US during recent years, which cause worries that it could trigger the next financial crisis.
From ITT’s Financials, quote:
“The level of student loan debt hit a record high of almost $1.2tn in the first quarter of 2015, with delinquencies of 90 days or more reaching about 11.1 percent, according to a report by the Federal Reserve Bank of New York released on Tuesday”
If the allegations of Congresswoman Jackie Speier is true, “ITT Educational Services has engaged in deceptive and predatory lending practices, pushing students into high-interest loans they know cannot be repaid, at costly taxpayer expense,” Speier wrote. “These students become saddled with unforgivable debt, and their inability to repay it ruins their future job prospects while harming taxpayers who are stuck with the bill,” a statement gathered from the website of Congresswoman Jackie Speier.
ITT’s PEAKS PROGRAM
From ITT, quote,
“In order to meet the price of tuition fees in addition to Federal loans and grants, ITT partnered with a Wall Street investment bank to create a lending program that, through an impressively complex series of financial transactions, may meet the definition of a “private” loan that ITT may count toward the 10 sides of the 90/10 calculation.”
From ITT, quote:
“The program has begun with Liberty Bank, who issued $346 million in loans to ITT students. ITT took a 28 percent discount on these loans and received $246.7 million in cash from Liberty Bank. The loans were then sold to a trust that then issued a $300 million in senior debt to a group of Wall Street investors. In exchange for their discount on the loans, ITT received a subordinated note from the trust and additionally guaranteed the senior debt holders payment of principal interest, certain call premiums, and administrative fees and expenses, regardless of whether the loans are repaid.”
The PEAKS program has an interest rate ranging from 4.75 to 14.75 percent.
ITT’s CEO describes the PEAK’s program as, quoted:
“A third party private student finance where our students apply for private lending to fill the gap financing need that they have, if a student gets a loan, for example, for a thousand dollars, there’s less than that amount that is transferred to the company, so some amount of that loan stays behind to provide excess of collateralization for the performance of the portfolio. And then in addition to that, the company provides guarantees on the performance of the program, and to the extent that the excess of collateralization would not be sufficient to cover the return on the investment that the senior notes that the investors put into the trust to fund the program.”
“As of June 30, 2011, ITT has exhausted the lending capacity of the PEAKS program and it’s no longer originating additional PEAKS loans, although the company has indicated they are interested in reinstituting a similar program. Between January 2010 and June 2011, in addition to Federal loans and grants, approximately $345 million in loans were made to ITT students. In 2009, the year before PEAKS funding was available, ITT’s 90/10 ratio was 70 percent. For 2010, this ratio fell to 60.8 percent. While it is unclear as to the extent PEAKS is responsible for this drop, the program is likely responsible for at least a portion of this decline.”
Partnering with Wall Street
The adviser and creator of the two private student loan program were ITT Technical Institute and ESI, who partnered with Wall Street investment bank or group of Wall Street investors. The company has the sole decision whether to extend credit to its students and is independent of the Originating Lender’s evaluation of prospective borrowers in accordance with the underwriting criteria established under the PEAKS Program. Moreover, the Trust Equity Holder is the Administrator of the Trust, is responsible for identifying to the Trust the private education loans eligible for purchase under the PEAKS Program. Therefore, the Trust Equity Holder has the power to direct the activities that are essential to ensuring that loans purchased by the Trust are of the quality specified under the PEAKS Program, which ultimately impacts the economic performance of the Trust.
Comments and Response from SEC gov:
Please tell us whether the Trust is contractually required to use Liberty Bank as an exclusive underwriter and lender for the PEAKS program. If not, which party would make the determination to use a different underwriter/lender?
“Pursuant to the applicable contractual provisions between the Trust and Liberty Bank, the Trust has agreed to purchase private education loans made by Liberty Bank to the Company’s students, if originated in accordance with the program guidelines and to the extent of available funds in the Trust. The Company further understands that the Trust was established by the Trust Equity Holder and the owner trustee of the Trust (an entity AFFILIATED with the Sponsor) as a limited purpose trust to purchase and own private education loans originated by the Originating Lender under the PEAKS Program.
Liberty Bank is the designated Originating Lender (i.e., underwriter and lender) for the PEAKS Program pursuant to an origination and sale agreement (the “Origination and Sale Agreement”) among the Trust, the Originating Lender, the Origination Agent, an AFFILIATE of the Sponsor who serves as the lender trustee (“Lender Trustee”) of the Trust and the Company. The Origination and Sale Agreement can be terminated only in limited, non-discretionary circumstances, which generally include:
- a party’s failure to timely observe or perform its obligations under the Origination and Sale Agreement in any material respect and such failure remains uncured and materially adversely affects the value of the private education loans originated under the PEAKS Program:
- a party’s representations, warranties, and covenants made in connection with the Origination and Sale Agreement or any sale of private education loans under the PEAKS Program are materially and adversely incorrect and the value of the private education loans is materially adversely affected; and
- Changes in the laws or regulations that make the performance of obligations under the Origination and Sale Agreement impractical or unlawful.
“If the Origination and Sale Agreement is so terminated, the non-terminating parties have agreed to negotiate in good faith for the continuation of the origination and sale activities under the PEAKS Program on substantially the same terms with one or more additional parties.”
Quote from ITT Educational Services Internal Email, November 18, 2009, re PEAKS (ITT 00147688), ITT Educational Services, Private Education Loan Application and Solicitation Disclosure by Liberty Bank (ITT 00080791)
In the quarter ending September 30, 2014, filings, the following statement was gathered.
“The assets of the PEAKS Trust consist primarily of cash and the PEAKS Trust Student Loans. The liabilities of the PEAKS Trust consist primarily of the PEAKS Senior Debt. The assets of the PEAKS Trust serve as collateral for and are intended to be the principal source of, the repayment of the PEAKS Senior Debt. Moreover, the carrying values of the assets and liabilities related to the PEAKS Program that had been included as balance sheet items related to our Core Operations and consisted of the Subordinated Note, a guarantee receivable. In addition, the contingent liability, were eliminated from our Condensed Consolidated Balance Sheets as of September 30, 2014, and 2013.”
Primary Beneficiary of PEAKS Trust
Another statement gathered from ITT’s Q3 2014 financial statement:
“Based on our analysis, we concluded that we became the primary beneficiary of the PEAKS Trust on February 28, 2013. This was the first date that we had the power to direct the activities of the PEAKS Trust that most significantly impact the economic performance of the PEAKS Trust, because we could have exercised our right to terminate the servicing agreement that governs the servicing activities of the PEAKS Trust Student Loans (the “PEAKS Servicing Agreement”), due to the failure of the entity that performs those servicing activities for the PEAKS Trust Student Loans on behalf of the PEAKS Trust to meet certain performance criteria specified in the PEAKS Servicing Agreement.
We have not, however, exercised our right to terminate the PEAKS Servicing Agreement. As a result of our primary beneficiary conclusion, we consolidated the PEAKS Trust in our consolidated financial statements beginning on February 28, 2013 (the “PEAKS Consolidation”). Prior to February 28, 2013, the PEAKS Trust was not required to be consolidated in our consolidated financial statements, because we concluded that we were not the primary beneficiary of the PEAKS Trust prior to that time. “
“Our consolidated financial statements for periods as of and after February 28, 2013, include the PEAKS Trust because we were considered to have control over the PEAKS Trust beginning on February 28, 2013, under ASC 810, as a result of our substantive unilateral right to terminate the PEAKS Servicing Agreement. We do not, however, actively manage the operations of the PEAKS Trust, and the assets of the consolidated PEAKS Trust can only be used to satisfy the obligations of the PEAKS Trust. Our obligations under the PEAKS Guarantee remain in effect until the PEAKS Senior Debt and the PEAKS Trust’s fees and expenses are paid in full. See Note 13 – Commitments and Contingencies, for a further discussion of the PEAKS Guarantee.”
Another solution to the existing problems of ESI is to clear the charges made by the US Securities and Exchange Commission against the company, as the company is claiming, that, the evidence does not support the Securities’ charged.
What would be the results if they take options above?
If the company is cleared of all the charges made by the SEC against them, the following results may happen.
- The Company’s financials may start to rise again. One reason why the net earnings of the company drop by 119 percent in 2013 are due to the consolidation of the financial statement that includes the PEAKS Trust and the 2009 Entity.
- Recently, the company had released its 2014 financial statement and made filings with the SEC, immediately after, the share price of the stock had risen by 44.85 percent.
ITT Educational Services, Inc. (ESI) provides post-secondary degree programs in the United States. Further, the Company provides master, bachelor and associate degree programs and short-term information technology and business learning solutions. In 1965 until 1994, ITT Tech was a fully owned subsidiary of ITT Corporation (as “ITT/ESI”). ITT’s Initial Public Offering was in 1994, with a ticker symbol of ESI under the New York Stock Exchange (NYSE). The company has 3,120 employees.
- 1963: Textbook publisher Howard W. Sams opens Sams Technical Institute in Indianapolis, Indiana.
- 1966: Sams is purchased by New York-based ITT Corp.
- 1968: ITT incorporates its education subsidiary as ITT Educational Services.
- 1981: ITT creates its new Business Division.
- 1984: Employer Services Division is created.
- 1992: ITT initiates Vision 2000, a growth strategy plan aimed at offering more degree programs and adding more colleges to the system.
- 1994: Parent company ITT Corp. spins off 17 percent of ITT Educational in a public offering.
- 1998: ITT Corp. is purchased by Starwood Hotels and Resorts Worldwide Inc.; ITT introduces its information technology program.
- 1999: Starwood sells off all remaining ITT Educational stock in a public offering.
- In 1968, ITT incorporates its education subsidiary as ITT Educational Services.
- ESI’s head office was located at 13000 North Meridian Street, Carmel, IN 46032-1404, United States.
ITT Educational Services was operating under the following category:
- Sector: Consumer Discretionary
- Industry: Consumer Services
- Sub-Industry: Educational Services
ITT Technical Institute was founded in 1946 as Educational Services Inc. ITT Technical Institute is a wholly owned subsidiary of ITT Corporation.
Senator Dianne Feinstein’s husband, California Regent Richard C. Blum has been a significant shareholder of the stock despite allegations of conflict of interest. Board member Vin Weber has also been a key political operative for the company since 1994.
The company’s first President, William Renner, late in 1969, however, he drops the position and replaced in 1970 by Burton Sheff. Sheff resigned in May 1972 and was replaced by Neil Cronin, who stayed only for a short period.
The next leader
In 1974, Richard McClintock became the next leader. McClintock, who had been employed by ITT Corporation and its subsidiaries since 1957. He had served previously as the company’s comptroller and treasurer. On the onset of his leadership in 1974, he immediately set about implementing new administrative structures and procedures. Moreover, two of his first initiatives were to establish an executive committee for the company and to begin establishing curriculum advisory committees for each region. On the other hand, Richard McClintock served ITT for 10 years, until his death in October 1984. In addition, the company’s executive committee took over the governance and operation until Rene Champagne took over the position in September 1985.
Other Significant Information
- After the conference call on June 2, 2015, the price went down by 12.42 percent, from $4.67 to $4.09 per share. Although the earnings meet investors’ expectations.
- Moreover, ESI has a financing agreement dated December 4, 2014, with Cerberus Business Finance LLC as collateral agent and administrative agent. Further, ESI borrowed a principal amount of $100.0 million senior secured term loan. The loan is intended to be used as collateral for the $89.2 million letters of credit that are outstanding.
- Large institutional investors in the company include Blum Capital Partners (which owns 15.8 percent of the company), Wellington Management Company (13.99 percent), Select Equity Group (6.5 percent), and Providence Equity Group (5.6 percent).
Material Events Affecting the Numbers
Key Executive Compensation
- The key executive compensation in 2013 and 2014 were $6 and $7.36 million, respectively.
- While Kevin M. Modany’s total compensation in 2013 and 2014 were $3 and $3.2, respectively.
- In addition, Daniel M. Fitzpatrick’s total compensation in 2013 and 2014 were $1.0 and $1.1 million, respectively.
- The executive compensation in 2014 had increased by 23 percent from 2013.
- While Kevin M. Modany’s total compensation in 2014 had increased by 8 percent from 2013.
- In addition, Daniel Fitzpatrick’s total compensation in 2014 had increased by 13 percent from 2013.
- The total executive’s compensation had a growth of 41 percent in the last five years.
- Moreover, Modany’s total compensation had a growth of 58 percent in the last five years.
- While Fitzpatrick’s compensation has a growth of 37 percent in the last five years
1. How Does the Company Make Money?
ITT Educational Services, Inc. (ESI) offers post-secondary education in master, bachelor’s and associate degree program. It provides technology-oriented undergraduate and graduate degree programs through its accredited post-secondary institutions, ITT Technical Institutes, and Daniel Webster College. The Company owns and operates more than 130 ITT Technical Institutes and Daniel Webster College. ESI serves approximately 55,000 students in 39 states and online.
2. What do People Think of the Company’s Services?
Here are some of the consumer’s complaints and reviews for ITT Educational Services:
Frank of Antelope, CA on May 11, 2015
Satisfaction rating (one star)
All I can say is that I owe $33,000 and it’s going down the drain for no real reason. The school hasn’t helped me get my real career together. I have just been laid off from a job that I looked for on my own. I got a 2 year Associates degree graduated in December 2013 and ever since I’ve been nothing but positive attitude looking for work. I’m not paying anyone for this mess. NEVER EVEN GOT MY GRADUATION PICTURES!!!
Michael of Towson, MD on May 9, 2015
Satisfaction rating (one star)
I graduated in 2013. CST was my major. They promised me a well-paying job. Did NOT fulfill their promise! Now I have a job but not even close to my major. They refuse to help me anymore. They won’t even return my phone calls. I have been calling just about every day!
- Daniel of Sandiego, CA on May 5, 2015
Satisfaction rating (one star)
I was returning back to school at ITT Technical Institute. When I was trying to sign into my student portal I did not have access to it. I went to the dean’s office and 1 guy told me that the dean said that I am NOT allowed back at the school and I am NOT allowed back on the premise so I asked him why and he said something I did in the past. Then I asked him what did I do and he said I don’t know.
Further, I tried to contact the Dean, so I sent emails to the Dean and the Dean ignores me and never give me a response or a dismissal letter or anything, so I lost a lot of educational time for looking for another school. I should have graduated this year, but ITT Technical Institute causes me to fall back and waste a gap in my career.
Andrew of Tamarac, FL on April 29, 2015
Satisfaction rating (one star)
ITT Technical Institute in Fort Lauderdale, Florida tricked me into signing up for high-interest private student loans that were never explained to me. Private student loans were never once mentioned to either me or my mother and father. They rushed us through the entire sign up process and I was just an excited 18 years old fresh out of high school thinking I was doing the right thing. I don’t think I passed the entrance exam but the ITT Technical Institute salesman told me that I did anyway. I wanted so badly to believe him and so I did. All I ever wanted to do was go to college and get a decent education and a great paying job. I had no idea that it was all smoke and mirrors.
More of the Story
I attended between 2004 and 2006 and here is my experience of that time there. What they offered me was absolutely in no way what was described or advertised. My grades and GPA were artificially inflated by the administration in order to keep the school’s average GPA up, they were actually caught doing this. The classrooms were completely outdated, the computers were outdated by at least 6 years and software such as Photoshop was always at least 5 versions behind the current version.
Most of the instructors knew less than a lot of the students in each classroom. Instructors were fired and hired at least a few times per course per semester. The new instructor would never know exactly where the previous instructor left off and it was just a complete disaster. Some instructors would just read directly from the book, some would just sit around and try to make friends with the students and let everyone does whatever they wanted.
This is not a way to run the school and I feel absolutely scammed that I am going to be paying $117,000 with interest on a $60,000 loan for a degree that most employers seem to shun. That being said, I would like a refund for the absolute lack of education I received. The fact that ITT Technical Institute is currently being sued by the CFPB for predatory practices is exactly why I am here. Predatory lending is exactly what I experienced among myriad other disasters and major shortcomings that a major “college” chain should have a standard.
Christina of Grand Rapids, MI on April 17, 2015
Satisfaction rating (one star)
I made the worst mistake of my life by signing up. When I first started things seemed pretty good. Class size was around 50 students per class. Many of them were Army Veterans that, gave me a sense or the illusion that I did not make the wrong decision in deciding to attend this school. By the second quarter, half of the students enrolled had to drop out and never returned. I just thought Maybe College was not for them and I continued to stick it out. Then I started noticing things like labs don’t ever work, teachers changing grades, passing people that were putting very little effort into their studies and never getting my books on time.
Then when I entered my second year in my Associate’s program in Computer Network Systems I was pulled out of class to meet with the finance department about financial aid. The school had told me that I was out of funding and I would have to take out loans to a different lender in order to continue my program. The financial aid adviser told me that the school offers a “Temporary Credit” where the school would fund me the money I needed at 0% interest until the loan was paid in full. Sounded as though, a good idea instead of trying to find a private lender to finance through.
I continued my program and graduated then I signed up to do the bachelor’s program but before signing up I asked the financial aid department if I had all the funding available that I needed to finish the program without needing to find alternate sources. I was assured I had plenty of funding available.
So I started the bachelor’s program and by then the class size was no larger than 8 people and sometimes I was the only student in my class. Any times I was forced to take online classes even though I was told that online was an option. I continued on and at the last 4 quarters of my program, I get pulled out of class again by financial aid to advising me that I have run out of funding for my program and I would have to find other funding in order to complete my degree.
At this point, I was extremely angry and they offered to give me more money on the “Temp Credit” account so for me to graduate. I was too far into the program to just give up on it all so I agreed to add to the temp credit. A week after meeting with financial aid I get a letter in the mail saying that I have to start making payments on my temp credit account.
More of the Story
I called the school to verify this because when I sign up for the temp credit and was told I did not have to start making payments until 6 months after graduation. The financial aid adviser then told me that if I wanted to return to school I would have to set up a payment arrangement because I cannot just go to school for free. And had already invested too much time and money in this school I was not about to quit now so I set up a payment arrangement of $75.00 a month to stay enrolled.
I ended up completing my bachelor’s degree program and have no assistance at all with career services or any help with internships, never getting any responses back on job prospects. I started getting statements in the mail about my temp credit. They sent 2 different statements that said different amounts on them. I called financial aid again to get verification and she said: “one statement was wrong and the other was right.” I then asked her “what happened to the balance that I had to my temporary credit when I first signed “up” and she said, “those loans were sold to private lenders.” And the nightmare continues. Stay away from this school. Also, if you are a victim of the predatory lending and abuses that ITT-Technical Institute has caused, please join us in the fight to get our loans forgiven. We are building a movement. Hope to see you there.
Who is Running the Business?
The two officers that are directly responsible for the business operations of ITT Educational Services Inc. (ESI) were, Mr. Kevin M Modany, Chief Executive Officer (CEO) and Mr. Daniel M. Fitzpatrick, Chief Financial Officer (CFO).
Mr. Kevin M. Modany, Chief Executive Officer
Mr. Kevin M. Modany has been the Chief Executive Officer of ITT Educational Services Inc. since April 1, 2007. Mr. Modany served as the Chairman of the Board of ITT Educational Services Inc. from February 1, 2008, to August 4, 2014, and as its Director from July 25, 2006, to August 4, 2014.
- April 26, 2005 – March 2009 – served as the President of ITT Educational Services Inc. April 26, 2005 – April 1, 2007 – served as Chief Operating Officer of ITT Educational Services Inc.
- And on January 2003 – June 6, 2005 – served as its Chief Financial Officer from
- While in July 2002 – April 26, 2005, – served as Senior Vice President
- In addition, in June 2002 to December 2002 – he served as Director of Finance at ITT Educational Services Inc.
- Moreover, in October 2000 – May 2002 – served as Chief Financial Officer and Chief Operating Officer of Cerebellum Software, Inc., a software development, and professional services company.
- Also in October 1998 – September 2000 – served as President of USA Clean, LLC, a specialty chemical division of Gemini Holdings, Inc. and a distributor of products and chemicals for the textile care industry,
- February 1995 – September 1998 – served as Executive Vice President, Chief Financial Officer, Director of Finance and Controller of Consolidated Products Systems, Inc., a food distribution and retail services merchandising company.
- Modany began his career with a National accounting firm where he worked in the audit/financial consulting division and was consistently rated as one of the top performers in the local office. During his tenure, he served as the Sr. Auditor-In-Charge for the two largest audit engagements of the Pittsburgh office.
- In addition, he obtained his Bachelor’s degree in Accounting (with an additional program focus in Finance) from Robert Morris University (formerly Robert Morris College-Pittsburgh, PA) and is a Certified Public Accountant.
- Moreover, the annualized base salary as of February 10, 2014, was $824,076
- Dollar increased over the prior year was $24,002 (3.0 percent)
Mr. Daniel M. Fitzpatrik, The Chief Financial Officer
Mr. Daniel M. Fitzpatrick has been the Chief Financial Officer and Executive Vice President at ITT Educational Services Inc. since April 2009 and served as its Principal Accounting Officer since September 2005.
- June 6, 2005 – March 2009, Mr. Fitzpatrick served as Senior Vice President and Chief Financial Officer of ITT Educational Services Inc.,
- Until June 2005 – served as Senior Vice President and Controller of Education Management LLC (alternate name: Education Management Corporation).
- Prior to Education Management LLC, Mr. Fitzpatrick worked for Arthur Andersen LLP as an Engagement Manager providing audit, accounting, and business advisory services.
- Annualized base salary as of February 10, 2014, was $412,000.
- Dollar increase over prior year $12,000 (3.0 percent)
What do people think about the person or what do people say about the person?
Here are some comments gathered from consumers affairs.com/education/itt
March 27, 2014
“Extremely greedy CEO-Kevin M. Modany has ruined the quality of an ITT Technical Institute education.”
Former Employee – Student Representative in Phoenix, AZ
Employees that care
Some students are a perfect fit for the ITT model.
Forcing, coercing, manipulating students to enroll is the unspoken mantra of HQ. Companywide Senior Student Reps were let go almost entirely due to not forcing enough students to enroll. The company has nearly eliminated all full-time teaching positions (sans Nursing, most state boards will not allow them too) so adjunct teachers make same teaching 10 students as they get for teaching a section of 30 plus students. Students forced into online classes that came to ITT to get classroom teacher instruction and attention. The Nursing programs are the only thing keeping some of the campuses open. The one program that state oversight keeps HQ from gutting the quality.
Advice to Management
- Local campus management has their hands tied by HQ.
- The abject greed and tone deaf “leaders” of HQ will be the downfall of this company. Very sad as there are some very dedicated educators and employees at the various campus.
- Greed and arrogance ruined a very good company. Truly a perfect example of why the “for profit” education companies are under fire.
March 26, 2014
Former Employee – Admissions Representative
I worked at ITT Technical Institute full-time (More than 3 years)
The people in the recruitment department were easy to get along with. My coworkers were the best part of working there. We had to bond with each other to make it through such a toxic environment.
Let me start by saying I am not a disgruntled employee. I was not fired. I do not have a personal vendetta against the school or anyone who works there. The truth is that ITT is a sham of a college. Prospective employees AND prospective students should research thoroughly before starting at ITT.
ITT is more like a factory than a school. Students’ needs are always second to company profits. From an admissions perspective, students are numbers, not people. They will enroll anyone who can breathe. I have personally witnessed people who cannot read/write be admitted into this school. They will take ANYONE as long as they qualify for federal student loans. The company is cheating the students AND ripping the government off at the same time. ESI specifically target low income, low information individuals and convince them that a 45k associate’s degree will somehow solve all their problems. More often than not what happens is that students sign up for loans, never graduate (because they had a slim chance from the start) and get stuck with debt and no degree. The facilities and equipment appear to be from the 80s, yet the commercials depict a high technical, state of the art environment.
They have an ‘any means necessary’ method of recruiting. Every day in the recruitment department was a struggle between maintaining my personal integrity and successfully doing my job. Admissions reps are taught to LIE and sell dreams to people who don’t know any better. It’s a sad situation to be in.
Advice to Management
Have some integrity. Do not force employees to work mandatory 6 days of work weeks.
1. Equity and Retained Earnings Analysis
- ITT’s stockholders’ equity growth in 10 years was negative 34.55 percent.
- And the retained earnings growth for 10 years was 233.48 percent.
- The shareholders’ equity in 2004 and the trailing twelve months of 2015 were $235 and $154 million, respectively.
- Moreover, retained earnings in 2004 and the trailing twelve months were $294 and $980 million, respectively.
- In addition, shareholders’ equity is deteriorating year over year except in 2008 where it shows a 166 percent increase.
- The retained earnings are increasing year over year except in 2010 where it shows a 27 percent decrease.
- A net income of $139 million was added to retained earnings in 2012, which cause an increased in the retained earnings.
- Equity award vesting and exercises amounting to $4.8 million were deducted in retained earnings in 2012.
- Issuance of shares for directors’ compensation amounting to $1 thousand was deducted in retained earnings in 2012.
- A net loss of $$27 million was deducted in retained earnings in 2013.
- Net income of $29 million was added to retained earnings in 2014.
- Issuance of shares for directors’ compensation amounting to $32 thousand was deducted to retained earnings in 2014.
- Common shares repurchased of $208 million and shares tendered for taxes of $1.45 million were deducted to shareholders’ equity in 2012.
- And the net loss of $27 million, tax benefit from equity awards of $5.4 million and shares tendered for taxes of $395 thousand, were deducted from shareholders’ equity in 2013.
- Other comprehensive income of $11 million and stock-based compensation of $11.6 million were added to shareholders’ equity in 2013.
- Net income of $29 million and stock-based compensation of $10 million were added to shareholders’ equity in 2014.
- Other comprehensive loss of $1.9 million, tax benefits from equity awards of $4.4 million and shares tendered for taxes of $914 thousand, were deducted from shareholders’ equity in 2014.in 2012
The retained earnings growth in the last 10 years shows impressive at 233 percent, however, the shareholders’ equity has a negative growth of 35 percent. The decline in the stockholders’ equity was due to common shares repurchased in the amount of $208 million.
1.1 The Trend Graph
The shareholders’ equity was high in 2004 and 2005, however, it falls down in 2006 at 66 percent and down again in 2007 at 32 percent, then rise at 166 percent in 2008. From 2009 to 2014, the equity is moving stable at an average of $140 million.
On the other hand, retained earnings are moving upward from 2004 up to 2009, then it fell down in 2010 at 27 percent and the following period, it starts to rise up again until 2014. The movement of retained earnings is quite impressive.
- Using Totem’s value model, the book value growth was 7 percent in the last 5 years.
- The calculated book value in 5 years was $9.30
- The average return on equity in the last 5 years was 98.59 percent.
- While the calculated return on book value in 5 years was $9.17.
- And the calculated present value of the stock was $27.36.
- ITT has a zero percent yield.
- Percent of risk that was used was 15 percent.
- In addition, the current stock price as of July 21, 2015, was $4.46 per share.
- On the other hand, the calculated intrinsic value of the stock was $16.42.
- Therefore, compare the current market price to the intrinsic value, the stock price of ITT was undervalued.
Detailed Financial Analysis
A. BALANCE SHEET
1. Condensed Consolidated Balance Sheets as of March 31, 2015, December 31, 2014, 2013, 2012 and 2011.
- The cash and cash equivalents were $146 and $136 million as of March 15, 2015, and December 31, 2014, respectively.
- The total current assets were $293 and $291 million as of March 31, 2015, and December 31, 2014, respectively.
- Total assets were $737 and $749 million as of March 31, 2015, and December 31, 2014, respectively.
- And the total current liabilities were $316 and $323 million as of March 31, 2015, and December 31, 2014, respectively.
- In addition, the total long-term debts were $82 and $125 million as of March 31, 2015, and December 31, 2014, respectively.
- On the other hand, the CUSO secured borrowing obligations, excluding the current portion, were $96 and $100 million as of March 31, 2015, and December 31, 2014, respectively.
- In addition, the total liabilities were $583 and $601 million as of March 31, 2015, and December 31, 2014, respectively.
- Shareholders’ equities were $154 and $148 million as of March 31, 2015, and December 31, 2014, respectively.
- There was an increase of $10 million in cash and cash equivalent as of March 31, 2015. The increase was due to, net cash flows from operating activities of $33.5 million, partially offset by repayment of the following principal, $15.6 million related to PEAKS senior debt, $4.0 million related to CUSO secured borrowing obligation and $2.5 million under the financing agreement.
- The working capital as of March 31, 2015, and December 31, 2014, were negative $23.8 and negative 31 million, respectively.
- Current assets were lesser by 8 and 11 percent against current liabilities as of March 31, 2015, and December 31, 2014, respectively. It represents 40 and 39 percent of the total assets as of March 31, 2015, and December 31, 2014, respectively.
- The property and equipment represent 21 percent of the total assets as of March 31, 2015, and December 31, 2014, respectively.
- The total current liabilities represent 43 percent of the total liabilities and shareholders’ equity as of March 31, 2015, and December 31, 2015.
- Total liabilities represents 79 percent of the total liabilities and shareholders’ equity.
- Shareholders’ equity represents 21 percent of the total liabilities and shareholders’ equity.
- ESI had a treasury stock of $1.0 billion as of March 31, 2015, and December 31, 2014.
The company will have a hard time paying its current liabilities when the due date comes because they have negative working capital, in other words, its current assets is lesser by 8 percent against its current liabilities. Moreover, the company is utilizing 80 percent of borrowed funds from creditors and only 20 percent of the shareholders’ equity in the operation of the business. Furthermore, the debt to equity ratio was 1.75 or 175 percent, it tells us that ESI is high leverage.
2. Financial Health
2.1 The Company’s Debts
2.1.1 The Assets and Liabilities of PEAKS Trust and CUSO secured borrowing obligations
- In 2013, the total assets of PEAKS were $87.4 million compared with its total liabilities of $242.7 million.
- In 2014, the total assets of PEAKS were $68.6 million compared with its total liabilities of $76.4 million.
- The total assets of PEAKS were $65.8 million compared with its total Liabilities of $62 million in the trailing twelve months.
- Moreover, in 2014, the total assets of CUSO were $26.6 million compared with $122 million in total liabilities.
- And in the trailing twelve months, the total assets of CUSO were $25 million compared with its total liabilities of $119 million.
- In 2013, the total assets of PEAKS represent 36 percent of its total liabilities, in other words, total liabilities was 278 percent of its total assets.
- In 2014, the total assets of PEAKS represent 90 percent of its total liabilities, in other words, total liabilities was 111 percent of its total assets.
- And in the trailing twelve months, total assets of PEAKS represents 106 percent of its total liabilities, in other words, total liabilities were 95 percent of its total assets.
- Moreover, in 2014, the total assets of CUSO represent 22 percent of its total liabilities, in other words, total liabilities were 460 percent of its total assets.
- The total assets of CUSO represent 21 percent of its total liabilities, in other words, total liabilities were 477 percent of its total assets in the trailing twelve months.
The PEAKS Trust senior debt was improving year over year when it comes to its assets versus its liabilities, however, its total assets are deteriorating year over year. The liabilities of PEAKS have decreased by $180 million at 74 percent from 2013 to the trailing twelve months. The assets of the PEAKS Trust is used only for payment of the obligations of PEAKS Trust. Payment of the administrative fees and expenses; the principal and interest owed on the PEAKS senior debt are guaranteed by the company under the PEAKS Guarantee. In 2014, the company made payments totaling $170.3 million, relating to PEAKS and CUSO program. The company projected that they will be able to make payment of $30 million under PEAKS guarantee within 2015.
The assets of the CUSO can only be used for the obligations of the CUSO. The Company made payments under the CUSO RSA of approximately $9,139 in 2014. ESI projected that they will make payment of $11.6 million under the CUSO RSA within 2015. The company was limited in making payments to PEAKS and CUSO by $45 million under the Financing Agreement.
2.1.2 The Revenue and Expense of the PEAKS Trust, 2015 Q1
- The revenue for three months ended March 31, 2015, and March 31, 2014, were $2.4 and $3.1 million, respectively.
- The revenue had decreased by 30 percent at $720 thousand.
- Total expenses were $4.6 and $7.5 million for the three months ended March 31, 2015, and March 31, 2014, respectively.
- Student services and administrative expenses were $541 thousand and $1.4 million in the three months ended March 31, 2015, and 2014, respectively.
- Provision for private education loan losses were $803 thousand and $0 in the three months ended March 31, 2015, and 2014, respectively.
- On the other hand, interest expenses were $3.3 and $6 million for the three months ended March 31, 2015, and 2014, respectively.
- Moreover, the losses were negative $2.1 and negative $4.4 million for the three months ended March 31, 2015, and 2014, respectively.
- The revenue consists of interest income on the PEAKS Trust student loans.
- The servicing, administrative and other fees incurred by the PEAKS Trust were included in the Student services and administrative expenses under the Condensed Consolidated Statement of Income. Student services and administrative expenses represent 12 and 19 percent of the total expenses for the three months ended March 31, 2015, and 2014, respectively.
- Moreover, the provision for private education loan losses represents the increase in the allowance for loan losses that occurred during the period.
- Provision for private education loan losses represents 17 and zero percent of the total expenses for the three months ended March 31, 2015, and 2014, respectively.
- Allowance for loan losses related to the PEAKS Trust Student Loans represents the difference between the carrying value and the total present value of the expected principal and interest collections of each loan pool of the PEAKS Trust Student Loans, discounted by the loan pool’s effective interest rate as of the end of the reporting period.
- Interest expense represents interest expense on the PEAKS Senior Debt, which includes the contractual interest obligation and the accretion of the discount on the PEAKS Senior Debt.
- Interest expense represents 71 and 81 percent of the total expenses for the three months ended March 31, 2015, and 2014, respectively.
- And the losses before provision for income tax were negative $2.2 and negative $4.4 million for the three months ended March 31, 2015, and March 31, 2014, respectively.
The company made payments on Q4 2012 through January 2014, on behalf of certain student borrowers under the PEAKS Program to the PEAKS Trust to avoid defaults by those borrowers on their PEAKS Trust Student Loans (“Payments on Behalf of Borrowers”), which defaults would have triggered much larger contractually required payments by ESI under the PEAKS Guarantee, according to ESI.
“At the time we made Payments on Behalf of Borrowers, we believed that those payments were contractually permitted and a form of payment to the PEAKS Trust that would satisfy obligations that were contractually required. Since that time, however, we have determined that Payments on Behalf of Borrowers are not permitted or required to support the PEAKS Trust. If we had not made Payments on Behalf of Borrowers, we would have had to make contractually required payments under the PEAKS Guarantee in greater amounts.”
Prior to the PEAKS consolidation, payments on Behalf of Borrowers were reflected in the financial statements as a reduction to the company’s contingent liability after the PEAKS Consolidation. Payments that were made on Behalf of Borrowers were not reflected in the company’s financial statements. Since those payments were inter-company transactions that were eliminated from the company’s financial statements as a result of the PEAKS Consolidation, stated in the ESI filings.
2.1.3 PEAKS Guarantee Payments and Payments on Behalf of Borrowers
- The company’s payment under the PEAKS guarantee for the three months ended March 31, 2015, and March 31, 2014, were $13.6 and $40.7 million, respectively.
- Moreover, the payments made on behalf of borrowers were $0.00 and $1.8 million for the three months ended March 31, 2015, and March 31, 2014, respectively.
- In addition, the total payments made by ESI under PEAKS guarantee and of behalf of borrowers were $13.6 and $42.5 million for the three months ended March 31, 2015, and March 31, 2014, respectively.
In accordance with the terms of the PEAKS Letter Agreement, the company paid $40,000 on March 20, 2014, which is considered to be a payment under the PEAKS Guarantee and was applied primarily to make a mandatory prepayment of the PEAKS Senior Debt.
The company has agreed that after the date of the PEAKS Letter of Agreement, ESI will not make any more payments on behalf of any borrowers in respect of a private education loan made under the PEAKS Program. Further, any such payments in lieu of making payments to maintain the applicable required Asset/Liability Ratio would constitute a breach of the terms of the PEAKS Guarantee and an event of default under the indenture and credit agreement for the PEAKS Program
ESI make payments on behalf of the borrowers to maintain the Asset/Liability Ratio of 1.40/1.0 under the PEAKS Program.
2.1.4 Revenue and Expenses of CUSO Program
- The revenue in the three months ended March 31, 2015, under the CUSO Program, was $1 million.
- The total expenses of CUSO were $4.48 million in the three months ended March 31, 2015.
- Student services and administrative expenses were $396 thousand in the three months ended March 31, 2015.
- Further, the provision for private education loan losses was $441 thousand in the three months ended March 31, 2015.
- Moreover, interest expense paid was $3.6 million in the three months ended March 31, 2015.
- In addition, the loss before provision for income taxes was $3.4 million in the three months ended March 31, 2015.
- The revenue of the CUSO is consists of the interest income on the CUSO student loans and an administrative fee paid by the CUSO participants to the CUSO on a monthly basis.
- On the other hand, the expenses under the CUSO program were, student services and administrative expenses, provision for private education loan losses and interest expense.
- Total expenses under the CUSO program represents 421 percent of the revenue, in other words, expenses are greater by 321 percent of its revenue.
- The student services and administrative expenses represents 9 percent of the total expenses of CUSO in the three months ended March 31, 2015.
- Moreover, the provision for private education losses represents the allowance for loan losses during the period. The allowance for loan losses represents the carrying value and the present value of the expected collection of the principal and interest in a loan pool.
- In addition, the provision for private education losses represents 10 percent of the total expenses of CUSO in the three months ended March 31, 2015.
- Interest expense represents the interest expense in the CUSO secured borrowing obligations.
- In addition, the interest expense represents 81 percent of the total expenses of CUSO in the three months ended March 31, 2015.
The Company did not recognize any revenue and expense in its consolidated income statement for the three months ended March 31, 2014, because the CUSO consolidated was effective September 30, 2014.
2.1.5 The CUSO-RSA / Payments made to CUSO related to ESI’s guarantee obligations under the CUSO RSA
- The regular payments made by ESI under the guarantee obligations for the three months ended March 31, 2015, and 2014 were $2.3 and $1.2 million, respectively.
- On the other hand, the discharge payments made for the three months ended March 31, 2015, and 2014 were $2.7 million and $0, respectively.
- In addition, the total payments made to CUSO related to Guarantee obligations under the CUSO RSA for the three months ended March 31, 2015, and 2014, were $$5 and $1.2 million, respectively.
- The regular payments made to CUSO of $2.3 million in the three months ended March 31, 2015, is the net of $290 million of recoveries. This came from charged-off loans owned by the company that they have offset against the amount they owed under the CUSO RSA.
- ESI made advances to the CUSO under the Revolving Note prior to 2012, so that, CUSO could use the funds to provide to provide additional funding to the CUSO to purchase private educational loans made under the CUSO program.
- Moreover, ESI offsets $8.47 million owned by ESI under the CUSO RSA against amounts owed to them by the CUSO under the Revolving Note, instead of making additional payments in that amount. The amounts owed to ESI under the Revolving Note, excluding offsets, was approximate $8.2 million, according to ESI.
Under the CUSO RSA, the company is entitled to all amounts with regard to recoveries from CUSO loans that have been charged-off. This will goes on until all payments that ESI have made to the CUSO loans have been fully paid to the company. The company claimed they have the right to offset payments in which the SEC did not agree.
2.2 Shares Repurchase Activity of ESI
- The beginning authorized common stock repurchase were 7.8, 5.8 and 4.8 million in December 31, 2013, 2012 and 2011, respectively.
- And the additional repurchase authorization was 0, 5.0, 5.0 million on December 31, 2013, 2012 and 2011, respectively.
- Further, the number of shares repurchased was 0, 3.0, 4.0 on December 31, 2013, 2012 and 2011 respectively.
- The repurchase authorization at year ended December 31, 2013, 2012 and 2011 were 7.8, 7.8 and 5.8 million, respectively.
- Furthermore, the total cost of shares repurchased were $0.00, $207.90 and $282.70 on December 31, 2013, 2012 and 2011, respectively.
- In addition, the average cost per share were $0.00, $68.72 and $69.98 in December 31, 2013, 2012 and 2011, respectively.
- The proceeds from the stock options in the year ended December 31, 2013, 2012 and 2011 were $0.00, $8.4 and $5.6 million, respectively.
- Excess tax benefits from the exercise of stock options were $0.00, $1.4 and $1.2 million in December 31, 2013, 2012 and 2011, respectively.
ESI has no stocks repurchase in 2013, although they have repurchase authorization of 7.8 million. In 2012, the total number of repurchased represents 28 percent of the total authorized to repurchase. In addition, in 2011, the total number of repurchased represents 31 percent of the total authorized to repurchase.
3. Analyzing Liquidity and Solvency Ratios
Liquidity is the ability of the management to pay its current financial obligations using its current assets when the due date comes. Solvency is the ability of the management to meet its long-term financial obligations in due time, such as obligations to banks, creditors, and investors.
- The current ratio of ITT was averaging 1.12 and its trailing twelve months ratio was 0.92.
- Quick ratio was averaging 0.93, in 2013 and the trailing twelve months ratio was 0.64.
- The financial leverage ratio was averaging 5.09 and it is trailing twelve months as 4.79.
- And the debt to equity ratio was averaging 1.09 and its trailing twelve months ratio was 1.39.
- In addition, debt to asset ratio was averaging 0.28 and its trailing twelve months was 0.37.
- Short-term liquidity means, the company’s ability to meet its current obligations. ESI’s current ratio beginning 2013 up to the trailing twelve months was less than 1.0. It tells us that the company might have a hard time meeting all its current financial obligations when the due date comes using its current assets.
- While the quick ratio beginning 2013 up to the trailing twelve months was less than 1.0 ratio. It indicates, that the company is not capable of paying all its short-term financial obligations using its quick assets.
- Also financial leverage indicates that ESI is high leverage, in other words, the company uses more debt in its capital structure.
- In addition, debt to equity ratio tells us that, total debt, which is the short and long-term debt are higher than its equity, in other words, total debt is 152 percent of its equity.
- Moreover, the debt to asset ratio is a solvency ratio that measures the company’s total liabilities against its total assets. The table shows that the company’s total liabilities is averaging 80 percent compared to its total assets.
The ratios indicate that the company is high leverage.
4. Shares Outstanding
- The share outstanding in 2014 and the trailing twelve months was 24 million shares.
- And the shares outstanding in 2009 and in the trailing twelve months were 38 and 24 million, respectively.
- The share outstanding had decreased by 14 million or 37 percent in the last five years.
Shares outstanding are the company’s stock currently held by all its shareholders. The historical shares outstanding is deteriorating year over year in the last five years at an average rate of 7 percent. The 5 years growth of shares outstanding was negative 37 percent.
ESI 2014 annual report indicated that the Board of Directors has authorized the company to repurchase 7,771,025 common stock shares in the open market. Or through privately negotiated transactions in accordance with Rule 10b-18 of the Exchange Act (the “Repurchased Program”). Further, the shares that remained available for repurchase under the Repurchase Program were 7,771,025 shares as of December 31, 2014.
B. ESI INCOME STATEMENT
1. Analyzing Efficiency Ratio
1.1 CCC and Turnovers
- Day’s sales outstanding was averaging 21.01 and its trailing twelve months ratio was 23.65.
- The payable period was averaging 48.30 and its trailing twelve months ratio was 57.81.
- Receivables turnover was averaging 18.64 and its trailing twelve months ratio 15.44.
- Fixed assets turnover was averaging 6.77 and its trailing twelve months ratio was 6.03.
- Asset turnover was averaging 1.79 and its trailing twelve months ratio was 1.26.
- Days sales outstanding or average collection period or days sales in receivables measures the average number of days a business takes to collect its credit sales. It measures the liquidity and efficiency of sales collection activities.
- Payable Period measures the number of days the company takes to pay its suppliers.
- Receivables turnover measures how many times a firm collects its average accounts receivables balance during a certain period. In other words, it measures the efficiency of the business to collect credit sales. A higher result is favorable and a lower result is unfavorable.
- The fixed assets turnover ratio or the sales to fixed assets ratio. This ratio measures how efficient is the company in utilizing its fixed assets to generate revenue.
- Asset turnover measures management efficiency in utilizing its assets in generating sales or revenue.
- The day’s sales outstanding in the trailing twelve months 23.65 or 24 days. In other words, it will take 24 days for the sales to be converted into cash.
- The payable period indicates that the average period for the company to pay its suppliers is 58 days from the date of purchase.
- Receivables turnover ratio shows that ESI collects its receivables 15 times in one year.
- Fixed assets turnover tells us that the company generates $6 for every $1 investment in fixed assets.
- And the asset turnover ratio, tells us that, the company is generating $1.26 of revenue for every $1 invested in assets. This ratio looks at revenue and not profit.
1.2. Profitability Ratio
- Gross margin was averaging 59 percent in the last five years. The margin decreases year over year at an average of 4 percent.
- While the operating margin was averaging 21 percent in the last five years. The margin decreases year over year at an average of 22 percent.
- In addition, the net margin was averaging 12 percent in the last five years. The margin decreases year over year at an average rate of 80 percent.
- Moreover, return on equity was averaging 109 percent in the last five years. The ratio decreases year over year at an average rate of 70 percent.
- Gross profit margin is the percentage of profit after deducting the cost of revenue from the total revenue. In the trailing twelve months, the gross profit was 59 percent.
- While, operating margin is the percentage of profit after deducting the general, sales and administrative expenses from the gross profit. In the trailing twelve months, the company’s student services and administrative expenses that were deducted from the gross profit was 38 percent of the revenue.
- Also, net margins are the percentage of earnings after deducting provision for income taxes, interest and adding or deducting other income or expenses. In other words, it measures the overall operating efficiency of the firm. It shows that, after deducting income taxes, interest, and other expenses from the operating income, there were a 3.8 percent net earnings left.
- Moreover, return on equity measures the overall efficiency of the company in managing its total investments in assets and in generating a return to its stockholders. It indicates that the company was able to generate a 26.43 return on the stock investments in the trailing twelve months.
The profitability ratios indicate that the company’s revenue and profit are deteriorating in the last five years. It may indicate, that the management is getting more and more inefficient in managing the business.
2. Company’s Profitability
2.1. Amount/Growth rates
- Total revenue growth in the last 5 years was negative 28 percent.
- Total expenses have negative growth of 10 percent.
- The net income has an average growth of 88 percent in the last five years.
- The year over year growth of net earnings was erratic in movement.
- The revenue of ESI is deteriorating year over year at an average rate of 4.5 percent.
- Total expenses are decreasing year over year in the last five years in an erratic movement.
- Net income falls very steep in 2013 at a rate of 119 percent and managed to increase by 208 percent in 2014.
Overview, the profitability test of ITT Educational Services indicates that the business is not generating enough revenue for the business operation.
2.2 Profitability Graph
As seen in the graph above, the highest revenue was in the year 2010, then in 2011 onwards, it shows that revenue is gradually decreasing. The net income was approximately 20 percent in 2009 and in 2010 going forward the earnings is decreasing year over year. While in 2013 and 2014, the net earnings were 3 percent of the revenue. Total expenses were high. In addition, in 2013 and 2014, it almost leveled the revenue, this is due to the consolidation of the financial statement.
C. ESI STATEMENT OF CASH FLOWS
A Statement of Cash Flows is one of the main financial statements. It reports the incoming or where the money comes from and the outgoing of cash or where the company spends its money in a given period of time. In other words, it reports the sources and uses of cash in operating activities.
- Cash from operating activities was averaging $245 million.
- While capital expenditure was averaging negative $18 million.
- Also the Free Cash Flows was averaging $224 million.
Cash from operating activities and free cash flows were decreasing year over year in the last four years. However, in 2014, it shows an upward trend in both accounts.
The decreased in the operating activities and free cash flows were due to the decreasing revenue and net earnings year over year.
1. The Investment in Enterprise Value
The concept of enterprise value is to calculate what it would cost to purchase an entire business. Enterprise Value (EV) is the present value of the entire company. EV is a more accurate measure of a company’s true market value than market capitalization. EV measures the value of the productive assets that produced its product or services. Both equity capital (market capitalization) and debt capital. Market capitalization is the total value of the company’s equity shares. In essence, EV is a company’s theoretical takeover price. Because the buyer would have to buy all of the stock and pay off existing debt while taking any remaining cash. This gives the buyer solid grounds for making its offer.
The market capitalization of ESI was deteriorating year over year in the last five years. The growth of market capitalization was negative 95 percent. While the total debt was 124 percent and its cash and cash equivalent was 66 percent of the enterprise value for the trailing twelve months. On the other hand, the enterprise value was $220 million while the market capitalization of $94.5 million. Buying the ESI, an investor would be paying 42 percent equity and 58 percent of the debt.
The takeover price of the entire business is $234 million at $9.75 per share, while the current share price of $4.46, as of July 21, 2015.
2. The Discounted Cash Flow Approach
Discounted Cash Flow is a method of valuing the intrinsic value of a company (or asset). In simple terms, discounted cash flow tries to work out the value today. Based on future projections of all of the cash that the company could make available to investors in the future. In other words, the amount of cash that the company will receive in the future is worth less than the cash today.
- Vo is the value of the equity of a business today.
- CF1 to CFn represent the expected cash flows (or benefits) to be derived for periods 1 to n period. The discounted cash flow model is based on time periods of time of equal length. We use the terms “periods” and “years” almost interchangeably for purposes of this theoretical discussion.
- r is the discount rate that converts future dollars of CF into present dollars of value.
The historical EBITDA was used as cash inflows because it represents the cash earnings excluding tax, depreciation, and amortization. It shows that EBITDA has an erratic movement. Moreover, in 2010 shows the highest record and 2013 shows the lowest record. Because of the losses incurred in the two private student loan programs. However, in 2014, the figures increased by 583 percent and followed by an increase of 14 percent in the trailing twelve months. Further, the growth of EBITDA in the last five years was negative 27 percent.
The growth using the United States Gross Domestic Product (GDP) annual growth rate average of 3.24 percent.
- The projected cash inflows at:
- year 1 (n1) are $108 million.
- at year 2 (n2) are $111 million.
- at year 3 (n3) are $115 million.
- year 4 (n4) are $119 million.
- in year 5 (n5) are $122 million.
- The terminal value was at $987 million.
- Terminal Value = $122,451,874 * (1+3.24%) / (16.0498% – 3.24%) = $986,895,306
- While Enterprise Value was $841,455,404, it is the sum of future cash inflows in year 1 to year 5.
- In addition, the Fair Value of the company was $703,811,404, the table below will show us the calculation.
Net debt is the sum of short and long-term debt minus cash and cash equivalent.
- The Intrinsic Value is the Fair Value of the company.
The Intrinsic Value was $29.33 per share. On the other hand, the Margin of Safety was at $24.87. Compared with the current price of $4.46 per share, as of July 21, 2015. The stock price was undervalued.
- The Required Rate of Return (RRR) or the Discount Rate.
- The required rate of return (RRR) or the discount rate was 16.0498%.
- The US 10 year Generic Bond rate was usually used as the Risk-Free Rate. It is to estimate the discount rate in the valuation. The current US 10 year Generic Bond that was used was 2.3648%.
- The Market Risk Premium in the USA was 5.75%.
- The Beta for ESI was 2.38. Beta measures the stock volatility in which the stock price fluctuates in the overall market.
- Long-term Cash Flow Growth or the average long-term GDP used was 3.24 percent.
2.1 The Present Value of the Projected Cash in Flows and Terminal Value
This method of valuation tries to work out the value today of the projected cash inflows in the future. Going forward below is the formula for the present value.
PV = FV (1+r) n
Present Value of Projected Cash inflows in year 5
PV = $122,451,874 / (1 + 16.0498%) ^5
= $122,451,874 (1.160498%) ^5
Present Value of Terminal Value
PV = $986,895,306 / (1 + 16.0498%) ^5
= $986,895,306 / 1.100498%) ^5
- Terminal value is the present value of all future cash flows at a future point in time.
- While the present value of the future projected cash inflows at year 5 is $58,175,946 million.
- In addition, the present value of the terminal value was $468,866,390 million.
ESI is put in a very controversial situation after the announcement made by the US Securities and Exchange Commission. Although 2014 Financials meets investors’ expectations, the stock price of the company. Became unstable and suffered ups and downs. The company has to answer in court all alleges made by the US Securities and Exchange Commission.
ESI has its financial statements and filings of the consolidated financial statements. It has disclosed the controversies regarding the two private student loan programs. Which are the PEAKS and the CUSO? The quarterly report ended March 31, 2013, June 30, 2013, and September 30, 2013, were unreliable and needs to be restated.
Regardingcorrected quarterly reports
On October 9, 2014, ESI delivered to the indenture trustee the corrected quarterly reports. And on the same date, the company had made payments under the accurate quarterly reports. Moreover, it is stated in the Financials that they have already accurately corrected the quarterly financial reports. Under risk and uncertainties, the following statement:
“Many of the amounts of assets, liabilities, revenue, and expenses reported in our consolidated financial statements are based on estimates and assumptions that affect the amounts reported. While we are subject to risks and uncertainties that could affect amounts reported in our consolidated financial statements in future periods. Moreover, our future performance, results of operations, financial condition, cash flows, liquidity, capital resources, ability to meet our obligations and ability to comply with covenants, metrics, and regulatory requirements are subject to significant risks and uncertainties that could cause actual results to be materially different from our estimated results.”
Payments made under the PEAKS trust
Further, in order to maintain the asset/liability ratio of 1.40 / 1.0 in the PEAKS trust, ESI made payments of $13.6 million in the three months ended March 31, 2015. In addition, another payment of $156.6 in the year ended December 31, 2014. In addition, these payments were made under the PEAKS trust guarantee applied by the PEAKS trust to reduce the amount of the PEAKS senior debt.
Effects after filing the quarterly report
The stock price of ESI started to rise up after the filing of the quarter ending March 31, 2015, financial statements. However, the stock still remains unstable. The company was able to increase its cash and cash equivalent by $10 million as of March 31, 2015. However, it states in the 10Q 2015 ESI has a negative working capital on March 31, 2015, December 31, 2014, and March 31, 2014. This is for the reason that the consolidation of financial statements.
The investigation from the SEC and the Department of Education may be over for a period. Further, the Department of Education may not want to shut down ITT Educational Services at around 50,000 students.
The stock price of ESI may still be swinging until all alleges in the government sector are resolved. Therefore, I recommend a SELL in the stock of ITT Educational Services (ESI).
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Researched and Written by Criselda