Education Pays Off For Buyout Shops

The post-secondary education market has emerged as a beacon of counter-cyclical hope to buyout shops thanks to economic and demographic trends.

Though the sector represents a tiny portion of the overall LBO arena (often only accounting for about one of every 100 acquisitions consummated by U.S. sponsors on an annual basis), public and private exit activity in the sector has jumped this year. Sales or IPOs of education companies such as Bridgepoint Education (backed by Warburg Pincus) and Grand Canyon Education (backed by Endeavour Capital) represented than one in 20 LBO-backed sales in the past six months, according to Thomson Reuters, publisher of Buyouts.

Education-related assets “tend to be the bright spots in a lot of portfolios these days,” said Erik Carneal, a managing director at investment bank Piper Jaffray & Co. “From that perspective, it’s a good time to cash in on the strong performance of an existing portfolio company.”

Indeed, the need for many workers to retool their skill sets as the United States continues its shift from a manufacturing economy to one that’s more service-based has many adults returning to school to beef up their resumes. Add to that growing acceptance of online classes, which allow students to pursue a degree at their convenience, and the result has been steady and robust growth for many post-secondary education providers, including for-profit universities and trade colleges.

“This is a long-term trend that’s been emboldened by the unemployment rate,” said Jeff Barber, a managing director at TA Associates.

The latest of the public exits was the $360 million IPO of Education Management earlier this month. The Nasdaq-traded company was acquired in 2006 by Leeds Equity Partners, Goldman Sachs Capital Partners and Providence Equity Partners. Though Education Management priced at the low end of its $18 to $20 range, shares of the company, which offers associate’s through doctoral degrees, later surged to a high of $23.62. At press time, shares in the 47-year-old company were changing hands at $22.20, more than 23 percent above its IPO price.

Net revenues at Pittsburgh-based Educational Management grew 19.6 percent to $2.01 billion for the year ended June 30, 2009 when compared to the same period a year earlier. EBITDA over that same period grew 18.5 percent to 431.1 million.

“People are going to go to college and people are going to get educated, regardless of whether the economy is good or bad,” said Jeffrey Leeds, president and co-founder, of Leeds Equity Partners. “It’s not optional. It’s not like taking a vacation or going to Vegas to gamble.” Leeds added: “When times are difficult, people contract their spending, and we’ve seen that across the country and across the global economy. But you don’t cease to invest in your education. You can’t.”

A month earlier, in September, Endeavour Capital’s Grand Canyon Education, a 60-year-old, for-profit institution, priced a $16.50 per-share secondary offering after holding its $12-per-share IPO last November. At press time, shares of the 60-year-old company were trading on the NASDAQ at $17.54, a 46 percent premium to its IPO price and 6 percent above its secondary offering.

For the six month period ended June 30, revenue at Grand Canyon Education, which offers bachelor’s and master’s degree programs in business and nursing, rose 68 percent to $118.4 million from the same period the year before. Adjusted EBITDA at the Phoenix, Ariz.-based company, acquired by Endeavour Capital in 2005, exploded 162 percent to $27.0 million.

Warburg Pincus’s Bridgepoint Education, meanwhile, sold 13.5 million common shares at $10.50 each in its April IPO. At press time, shares in the New York Stock Exchange-listed company were trading at $16 per share, more than 50 percent higher than its initial offering price. Revenue rose 119.6 percent to $195.2 million for the six months ended June 30 as year-over-year enrollment increased by 101.3 percent, to 45,504. EBITDA at the company, which was acquired for $3.1 billion in 2003, would likely have been up, too, were it not for $11.1 million in expenses incurred by the company due to a stockholder settlement. Instead, EBITDA during the six-month period came in at $11.4 million, a 26.9 percent drop from the prior year.

“Companies in this market are posting such strong performance that it’s become difficult to differentiate between their stories,” said Susan Wolford, a managing director at advisory shop BMO Capital Markets, who oversees the firm’s education-related deals.

On the M&A front, Wellspring Capital Management last month sold Vatterott Educational Centers Inc., a post-secondary education provider with more than 7,500 students, to Boston private equity shop TA Associates. Josh Cascade, a partner at Wellspring Capital, declined to disclose the terms of the sale during an interview with Buyouts last month, noting only that it was a “very successful exit for Wellspring.” According to Capital IQ, Wellspring Capital had already recouped the $40 million in equity it invested in the company via a May recapitalization.

Elsewhere, The Carlyle Group in April sold Wall Street English, a provider of English language training to adults in China, to Pearson PLC, in a deal reportedly valued at $145 million. The Washington, D.C.-based firm acquired Wall Street Institute, the parent company of Wall Street English, in 2005 for a reported value of $40 million.

The Attraction

Despite these successes, investments in the educational services sector represent only a miniscule portion of the overall LBO arena. They often account for between 1 percent and 1.5 percent of annual buy-side deals, and recent data shows no evidence of rising interest.

Of the 424 control-stake deals closed by U.S. sponsors in the first nine months of 2009, only four were in the educational services sector, according to Thomson Reuters. In 2008, 12 of the 1,052 deals were in the sector, and in 2007, 16 of the 1,442 deals were in the sector. That could change quickly, however, thanks to the string of successful public offerings the sector has seen this year, according to Piper Jaffray’s Carneal.

Private equity pros “think of an exit before they ever make their investments, so if they know an IPO exit is a real possibility, that of course will help drive interest in terms of them getting into the sector,” Carneal said. Carneal add that he’s been seeing more activity on the M&A side of the industry with both potential buyers and sellers feeling out the market before jumping in. It remains to be seen whether the increased interest actually turns into closed deals.

Susan Wolford of BMO Capital Markets has also seen an increase in LBO interest in education. On Sept. 17, the investment bank held its ninth annual “Back To School Investor Conference,” which drew a crowd of 800 institutional investors and industry professionals, one-third of which were representatives of private equity firms, Wolford said. “Typically when you hold a conference like this, the great majority of attendees are public equity investors and, in this case, they were the least represented,” Wolford said. “The distribution of people that attended, I think, is very telling of the interest of the sector and its long-term prospects.”

It’s easy to see why buyout shops would be getting excited by the field. Mark Dorman, a managing director at Endeavour Capital, called out the “tremendous” growth seen in the online segment of the industry, which provides access to more potential students, especially working adults whose schedules would otherwise not be amenable for classes.

At Grand Canyon Education, which provides bachelor’s, master’s and doctoral degrees, 95 percent of the school’s 27,622 students were enrolled in online programs, as of June 30, up from 90 percent of the school’s 16,510 students a year earlier. Bridgepoint Education, whose student body has more than doubled since last year, teaches 99 percent of its enrollees via online programs.

“It’s not a question anymore of whether online is here to stay,” Dorman said. “It’s effective, and it’s growing.” He noted that the growth behind the online component is helping the public offerings.

Dirk Leasure, the newly appointed head of BMO Capital Markets’s financial sponsors coverage group, said the sector has a “much higher degree of visibility” than other industry segments in terms of forward-looking performance measures like EBITDA. This is because a typical degree or certificate program can take anywhere from one to four years to complete, with payments being parceled out predictably and incrementally by semester, trimester, or some other interval.

“It’s a customer transaction that does not just occur once, but many times over a period of time,” Leasure said, “and in this crisis and turmoil, people are paying up for visibility in earnings.”