Preventing Another Corinthian

With one sentence in a letter this summer, officials at the U.S. Department of Education brought one of the nation’s largest for-profit colleges to the brink of insolvency.

In that June 12 missive, the department told Corinthian Colleges it was imposing a 21-day waiting period on the company's access to federal student aid. The reason, department officials wrote, was Corinthian's failure to produce documents as part of an inquiry into allegations about falsified job placement and graduation rates.

Corinthian protested, warning that such a restriction on its cash flow could very quickly put the company out of business. And soon both Corinthian and department officials were scrambling to avert the sudden bankruptcy of a company with 72,000 students and 12,000 employees.

Both sides eventually reached an agreement that will close most of the company’s campuses and sell off the remainder.

Even as that dismantling occurs, Corinthian -- or whatever is left of the company -- will continue to face a slew of challenges. Last Wednesday, for instance, the company said it’s facing a federal grand jury subpoena, restrictions on enrolling veterans and ongoing liquidity challenges.

But as those significant issues continue to play out, for-profit observers -- supporters and critics alike, and interested parties in Congress -- are scrutinizing the events earlier this summer that precipitated the company’s downfall.

Documents provided by the Education Department suggest that officials were at least contemplating Corinthian's financial frailty as they cracked down on the company. And despite setting up a structure to more closely monitor and assess the finances of for-profit colleges in 2011, the department had let the system languish to some extent, according to an audit by department's own inspector general.

A department official told reporters last month that the feds were caught off-guard by Corinthian’s financial weakness.

“We did not know of their cash situation,” said the official, who spoke on background and declined to be identified. The official said the department was “surprised” that the 21-day penalty so severely impaired Corinthian’s ability to operate.

The feds had at least some earlier indication, however, that the company was on shaky ground, according to the paper trail of its pursuit of Corinthian this year.

A month before imposing the aid freeze, department officials had inquired specifically about the company’s financial status. In a letter to the for-profit, the department acknowledged Corinthian’s publicly disclosed issues with its lenders and current cash on hand.

The department requested more detailed information about Corinthian's cash flow, and what expenses it anticipated for the remainder of the fiscal year.

Corinthian responded to the department’s letter, according to Kent Jenkins, the company’s spokesman. But he said he couldn’t describe the response or provide a copy of it.

The department has handed over copies of some of the letters it sent to Corinthian since January, but has thus far declined to release the company's responses to those letters.

However, the department may have lacked some key details about the company’s finances and debt structure. With annual revenue of $1.6 billion, three chains and 107 campuses, Corinthian is a multifaceted operation.

Department officials have said that while they were aware of the Corinthian’s publicly disclosed cash problems, they did not know about its financial health on a daily basis.

Gaps in Understanding

Both critics of for-profits and industry leaders say the department can fail to grasp how publicly traded for-profit chains work. For one thing, observers said the department has not hired any former for-profit administrators to give them an inside perspective.

In 2010, Robert Shireman, then a department official and prominent critic of for-profits, said the feds and accreditors lacked the “firepower” to oversee an industry that had grown too quickly and become too complex.

Shireman said this week that the department doesn’t necessarily need access to better information about for-profit colleges as much as it needs to fundamentally change its approach.  

“Wall Street itself has a hard time understanding what’s happening inside large publicly traded companies," he said in an interview. "So you can get information, but really knowing what it means is extremely complicated and often involves making judgments.”

Shireman said that in his experience the department, fearing lawsuits and political pressure, relied too heavily on “bright line” indicators that a college was struggling before it took action -- such as failing a financial metric, surpassing a cap on how much revenue a company may derive from federal aid, or, as in Corinthian’s case, missing a deadline for turning over requested documents.

“The department needs to better use its discretion to raise questions about institutions that don’t look right,” he said. “It’s better for the department to try let people know that they are going to get called on questionable activities rather than be in the politically safe spot waiting for someone to cross some line.”

By the time a college has missed a deadline or failed a ratio, Shireman said, the Education Department is essentially in the position of being “a lender who has already made a loan to a company and it’s a matter of us providing bridge money so we can get our loan repaid.”

Challenges from Within

To try to get a better handle on big for-profits, the department in 2011 created the Publicly Traded and Large Schools Workgroup.

The group was tasked with determining the risk of financial failure of for-profits, as well as how to manage those risks and when to take action.

Yet a February audit by the department’s Office of Inspector General found that the “workgroup has not met regularly since its inception nearly three years ago.” The department was still trying to create a scoring system based on financial data from corporate filings.

In an official response, the department agreed with that finding. The monitoring team was still being created, a department official said. In January the feds hired financial analysts and ordered a subscription to a service that provides corporate profiles of for-profits.

A department official this week described what the feds have in place to monitor the for-profit sector.

“We try to do the best we can with the resources we have,” the official said.

The department’s Federal Student Aid office “has a few hundred staff that work in the school eligibility and monitoring, and they are covering 7,000 institutions,” the official said. “That is a scope and magnitude that is useful to keep in mind, and also putting it in context of the triad. States and accreditors have a role to play, too.”

Because of the Corinthian situation, though, the department is reviewing how it might have kept better tabs on the finances of the company before its collapse.

Officials say they are looking at whether the department reasonably should have been able to ascertain Corinthian’s financial health on a day-to-day basis, which was apparently a blind spot for the department.

“Was that something that could be knowable?” the official asked. “And to what extent should that have been?”

The official also noted that the financial monitoring issues are “secondary” to the underlying issues of Corinthian’s lack of responsiveness in complying with the department’s data requests.

“Whether or not Corinthian had a certain amount of funds available, whether it was as financially strong or weak, is to some degree independent” of those compliance issues, the official said.  

Questions From Lawmakers

Even so, the issue of financial oversight of for-profits in light of the Corinthian meltdown is attracting more attention on Capitol Hill. A number of Democratic senators are calling for the department to tighten up its monitoring of the industry.

Banks, investors and some in the for-profit sector are spooked about that possibility, which could threaten other large, publicly traded for-profits.

“Does the federal government have adequate tools to determine the solvency of for-profit education companies on a real-time or reasonable basis?” the senators asked this month in a letter to Education Secretary Arne Duncan.

The group, which was led by Sen. Tom Harkin of Iowa and Sen. Dick Durbin of Illinois, said the department should “hold these institutions accountable for their fiscal irresponsibility.”

One interpretation of the letter is that the senators want to prevent a repeat of the Corinthian’s abrupt phasing-out.

The group of Democrats is pushing the feds to have better warning signs about a company’s stability before slapping sanctions on it. That way the department might be able to prevent a rapid closure and its many potential costs to students and taxpayers.

Another take is that Harkin and Durbin, who are fierce critics of for-profits, want the department to flex its financial oversight muscles to shut down more for-profit chains.

It’s probably a little of both, said Ben Miller, a senior policy analyst at the New America Foundation and former department official.

Senate Democrats and others who are concerned about for-profits want to “minimize the substantial disruption” of another Corinthian, Miller said. At the same time they want to force underperforming companies to improve or go away.

What the Corinthian Saga Means for Other For-Profits

Experts said a stricter approach to financial oversight by the department might include the more regular use of the sort of financial aid freeze that pushed a teetering Corinthian over the cliff.

ITT Education appears to be the most vulnerable. The for-profit chain, which enrolls 55,000 students at 135 locations, lost 46 percent of its value in the stock market on a single day last week. ITT’s CEO, Kevin Modany, announced his resignation the same day, citing personal reasons.

The company’s share price took a dive after ITT announced the collapse of a real-estate deal that would have injected almost $120 million into its cash-deprived coffers.

Just as importantly, ITT and its major bank lenders this month amended their credit agreement to include a clause that is related to the Corinthian crisis. Now the company will be in default with its creditors if the department freezes its financial aid payments for five days or more.

The feds' 21-day halt on Corinthian's payments was an add-on to the lesser of two versions of a sanction called “heightened cash monitoring.” Experts and former department officials said the 21-day freeze was rare, if not a first, under that penalty.

The major banks appear to be signaling that ITT might not survive a five-day halt in payments.

Lenders are worried about the company’s liquidity, said Bradley Safalow, an industry analyst and founder of PAA Research, and wanted a way out of being left holding the bag.

Nicole Elam, a spokeswoman for ITT, said a five-day hold would not lead automatically to loan defaults.

“These are lenders who are willing to work with us,” said Elam, pointing to the banks’ recent increase on a letter of credit for the company. “It’s not like it’s an automatic out.”

She also said the five-day length was not picked for a specific reason.

“It was more about preparing for any of the possibilities,” said Elam, including a possible financial monitoring sanction by the department.

ITT’s weakness poses a dilemma for the department. Some critics of for-profits would like to see the feds help shut down another controversial for-profit, which, like Corinthian, is facing a range of federal and state investigations. For example, the Consumer Financial Protection Bureau sued ITT over its marketing claims and a failed private loan program.

Yet the White House and Education Department would face tough questions if they were held partially responsible for the disruption to the more than 125,000 students who attend ITT and Corinthian.

The department last month gave Corinthian six months to try to find buyers for 95 of its campuses. The remaining dozen are to be phased out, with no more new student enrollments.

The aftermath of Corinthian and other possible failures by major for-profits could include Congressional hearings and lawsuits. As a result, experts said, the department will want to appear proactive rather than reactive in overseeing orderly closures.

“Their absence of action could be extraordinarily painful politically, for everyone,” Safalow said.

Miller agreed that the failure of more big for-profits would be tricky, mostly because of the large numbers of students they enroll.

“If the numbers keep getting bigger and bigger, it’s going to flip to the political side of as opposed to the policy side,” he said.

Yet the department also doesn’t want to prop up a broken college, said Miller. The big question now is, "Is ITT too far gone?”