Some Things You Just Can’t Teach

New York Times

Gretchen Morgenson

May 15, 2005 

The business world, nowadays, divides into two kinds of companies: those that embrace the idea of being more candid with shareholders and those that prefer the alternative. The Career Education Corporation, a for-profit provider of technical and business education at 80 campuses around the world, is in the closed-mouth camp. That is unfortunate, for its owners anyway, because some of the stuff they may not know about seems disturbing. The company, which had $1.7 billion in revenue last year, offers diploma programs in information technology, health education, business and culinary arts. As of April 30, Career Education had some 71,000 students at its campuses; 25,500 more students were enrolled in its online education group. A substantial portion of the company’s revenue comes from federal education programs paid for by United States taxpayers. In the first quarter of 2005, for instance, the company said 60 percent of its tuition payments came from the federal government. That makes the Career Education story of interest not only to its shareholders, but to taxpayers everywhere. As Career Education noted in its latest quarterly filing, it is the subject of investigations by both the Justice Department and the Securities and Exchange Commission. It is also a defendant in four lawsuits filed since July 2004, the filing noted.These cases accuse the company of improprieties in both financial aid and admissions practices, or of misleading potential students regarding postgraduate placement rates. The company said that it is cooperating with federal regulators and prosecutors and that it is defending itself against the lawsuits. Career Education has advised shareholders of these unpleasantries, as it must. But several other issues remain under wraps. For example, the company has so far been silent on a wrongful-termination lawsuit filed in March by Vinod Kapoor, a former faculty member at its American InterContinental University in Los Angeles. The suit by Mr. Kapoor accused the company of fraudulent enrollment practices that allowed it to get federal student aid funds. According to his complaint, Mr. Kapoor worked for Career Education in Los Angeles from 1999 until March 2004; in 2001, he received an “educator of the year” award from the company. In 2003, his lawsuit stated, Mr. Kapoor began to encounter problems, both with students and superiors. Many students were failing his classes, not bothering to show up or were lacking in qualifications - like high school degrees - that were required for admission. Mr. Kapoor objected when he was told to register students whom he discovered “had no intention of attending” the school, according to the suit.Mr. Kapoor said that after his superiors told him to stop complaining, he notified Career Education’s board in late 2003 about what he called fraudulent practices. In addition to enrolling students who did not meet requirements and admitting imaginary students, the abuses he alleged included creating fictitious courses, falsely advertising that the school provided job placement for all students in their fields of study and forcing teachers to raise students’ grades to improve graduation rates. Mr. Kapoor also said in his lawsuit that officials at the school encouraged students to stay in classes and fail rather than drop them. That way, the federal student aid funds would continue to flow in. Mr. Kapoor lodged a second complaint with the company’s board, the lawsuit said, on March 21, 2004. Ten days later, Mr. Kapoor was fired. So was another employee who had also complained about enrollment practices, the lawsuit said. Janice L. Block, Career Education’s general counsel, declined to answer specific questions about the case. She did say that the company answered the complaint on May 4 but added that it does not routinely disclose employment suits in its filings. But Mr. Kapoor’s case seems to go beyond employment matters to raise serious issues that shareholders may want to consider. Another matter of interest to shareholders is the company’s internal review, begun a year ago by a committee of its board, into allegations of securities laws violations made in a class-action suit. Last week, the company said that the committee had concluded its inquiry and that it had not found support for claims that its senior management had violated securities laws. The company said the review examined accounting practices and the reporting of student population and placement figures. ODDLY, however, Career Education chose not to release the report, even though the committee’s review found “wrongful conduct by individual employees of the company,” according to a press release. No improper conduct was “directed or orchestrated by the company’s senior management,” the release said, but Career Education said it had decided to improve its internal controls related to finance and compliance as a result of the committee’s findings. In other words, “trust me.” But that’s not something that shareholders are eager to do nowadays. There may be reason to question the thoroughness of the review. The committee that reviewed the company’s practices consisted of three directors whom Career Education considers independent, not the outsiders companies often turn to in such matters. They were Dennis H. Chookaszian, the former chief executive of CNA Financial, an insurance company; Thomas B. Lally, the former president of Heller Equity Capital, a venture capital arm of Heller Financial, a unit of General Electric; and Keith K. Ogata, former president of National Education Centers, a for-profit education company that was acquired by Harcourt General Inc., the educational publisher, in June 1997. (John M. Larson, Career Education’s founder and chief executive, worked as a sales executive for National Education from 1980 to 1989, just before Mr. Ogata arrived.) To assist in the review, the committee retained the law firm of McDermott, Will & Emery. Career Education says that these men are independent, and they may well be. In addition, Ms. Block said the committee hired outside lawyers and accountants to review thousands of pages of data and to interview hundreds of employees. But two committee members - Mr. Lally and Mr. Ogata - have been on the board since 1998, when the company issued shares to the public for the first time. And Mr. Lally has a particularly close tie to Mr. Larson: Heller Equity Capital, when Mr. Lally was president, financed Career Education and was the largest shareholder when it became a public company. In addition, most of the pay given to each outside director at Career Education is in the form of options on the company’s stock - 24,000 stock options, and $18,000 in cash compensation. Mr. Chookaszian holds 88,000 of the company’s shares, Mr. Lally owns 132,000 shares and Mr. Ogata owns 110,000 shares, according to the most recent proxy statement. On Friday, Career Education will hold its annual shareholder meeting at a hotel near its headquarters in Hoffman Estates, Ill. It could well be an interesting meeting. For starters, shareholders at that meeting may want to ask why the company is not disclosing the results of its review publicly. Ms. Block said the company wanted to wait until the S.E.C. investigation ended before deciding whether to make additional disclosures. Institutional Shareholder Services, an investment advisory service in Rockville, Md., has recommended that shareholders withhold their votes for all three Career Education directors who are up for re-election. They are Mr. Chookaszian; Robert E. Dowdell, a former president of National Education Centers; and Patrick K. Pesch, Career Education’s chief financial officer. Institutional Shareholder Services said that it recommended withholding votes to send a message to the company that “an attitude of ‘open’ governance and increased shareholder rights are important” and to “highlight the concern that shareholders have regarding the company’s practices.” One of those concerns, I.S.S. said, was certain stock sales made by the company’s executive officers and directors - worth $66.7 million - that occurred about a month before the disclosure that the S.E.C. was formally investigating the company. Career Education said management was not aware of that fact when the sales were made but acknowledged that the sales were not part of an existing trading plan. Career Education’s shares, not surprisingly, are well below their 2004 peak of almost $71. They closed on Friday at $32.79. Shareholders have a right to know more about the questionable practices turned up by the directors’ review and to wonder why true outsiders were not in charge of the review. The “trust me” days, after all, were supposed to have ended some time ago.