Innovation in Education

For-profit colleges get a bum deal

By David A. Kaplan, contributor


FORTUNE -- In a city of ego, "deputy undersecretary at the Department of Education" hardly exudes power. When Bob Shireman, 49, came to Washington last year to work for the Obama administration, little did he know he'd be at the center of a regulatory maelstrom over for-profit colleges. His goals, which he met, were to switch the system of bank-based loans to direct government lending and to simplify student-lending forms. But he soon began a crusade to rein in what he and others saw as abuses in the industry. In May, when he announced that, as planned, he was resigning to return to Northern California with his school-age children for the coming school year, the industry rejoiced. The price of several publicly traded for-profit education companies, including Apollo Group (APOL) (which owns the University of Phoenix), soared some 10%, and the sector overnight added nearly $2 billion in market cap. "It was pretty bizarre," Shireman says.

A few months later the government formally introduced the culmination of Shireman's efforts. The Department of Education in mid-August proposed regulations -- set to take effect in November -- that would toughen how the for-profits do business. Under the complicated "gainful employment" rules, for-profit colleges and universities could lose access to federal financial aid -- the bulk of their revenue -- if 35% or more of their former students aren't repaying the principal on their loans. Colleges face other restrictions if the typical student is spending more than 12% of income on loan debt. Last year repayment rates were 36% at for-profits, compared with 56% at nonprofits and 54% at public institutions.

Within the world of post-secondary education and particularly in boardrooms of the companies affected, the regulations have created panic. After the regulations were issued, stock prices of many of the highflying for-profits plummeted. For-profit companies say the Department of Education is failing to address the bigger issue of exorbitant tuitions, and that the proposed rules are based on many bad numbers; for example, they say medical school graduates paying back only interest for now should not be counted as defaults.

More important, critics suggest the regulations may reflect anticorporate bias. "If the cure for cancer came from a pharmaceutical company, you sometimes get the feeling there would be critics who'd rather see people suffer than businesses thrive," says Jeffrey Leeds, a private equity investor whose firm specializes in for-profit education.

That's no doubt overstated. But the government's obsession with for-profits seems misguided. The regulations should apply as well to public and nonprofit schools. Why is excessive debt acceptable at an ivy-covered campus that happens to lack a profit motive? Particularly at community colleges and historically black institutions -- just as at for-profits -- lower-income students predominate and have difficulty repaying loans. Indeed, you could make the case that public and nonprofit schools -- already subsidized by the taxpayer -- ought to have a heavier burden to graduate unencumbered students.

Supporters of the regulations answer that Congress has long singled out for-profits for higher scrutiny. Fair enough -- that's the law. But it's a hypocritical one, and lawmakers ought to change it.  To top of page