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We maintain a Neutral recommendation on American Public Education, Inc. (APEI - Analyst Report) following appraisal of first quarter 2012 results.

American Public Education recorded first quarter 2012 earnings of 50 cents per share, beating the Zacks Consensus Estimate by 2 cents and the prior-year quarter earnings by 15%. Total revenue of $75.8 million was up 29% from the prior-year quarter, slightly above management’s expectation of growth of approximately 27% for the said quarter. Revenues also edged past the Zacks Consensus Estimate of $75.0 million. The top-line growth was driven by brisk student enrollments in the quarter, particularly from civilian, military, and veteran students. However, the company provided a gloomy outlook for the second quarter with new enrollment growth projections representing a sharp decline from first quarter levels due to steps being taken to curb student aid abuse.

American Public Education is one of the leading online providers of higher education focused primarily on serving the military and public service communities. The company’s students can finance their education through tuition assistance programs of the US Armed Forces (DoD tuition assistance programs), education benefits administered by the Department of Veterans Affairs, and federal student financial programs referred to as the Title IV programs.

American Public Education’s tuition costs are not only lower than tuition fees for most private schools but also 20% below the average in-state tuition cost for public universities. The affordability of the company’s courses and programs will benefit it in the long run due to increasing price sensitivity among students in this challenging economic environment.

Besides, American Public Education is gradually shifting focus from military personnel to public service segments of the civilian market. In 2011 as well as in the first quarter of 2012, the company witnessed significant growth in enrollment by civilian students partly due to the attractiveness of the Title IV funds as well as the affordability of the courses offered. Though shift in student mix to civilians would result in higher selling and promotional costs and bad debts, it bodes well for the company’s long-term growth as these students generally take more classes than military students and show higher retention rates. The company is also looking for international opportunities besides entering into corporate relationships and community college partnerships to give it the necessary diversification from volatile enrollment trends of active duty military students.

Educational institutions are closely monitored due to the rise in abuse of funds, mostly by civilian students who use the balance fund (fund is usually more than American Public Education’s tuition costs) to meet living expenses. The company is taking steps to reduce student abuse of Title IV Funds and thereby improve student outcomes. Though these steps might result in lower enrollments in the near term, it will create quality academic outcomes longer term and build goodwill for the company.

The company is also developing its technology infrastructure to support a larger, more diverse student population. Further, it is investing capital to automate Title IV processes and has launched an ePress initiative which will help reduce costs and increase affordability. All these initiatives bode well for the company’s long-term growth.

As a caveat, the company’s DoD tuition assistance programs and the Title IV federal aid programs are subject to stringent regulations by the Department of Education and accrediting agencies recognized by the Secretary of Education. The regulations and policies of the Department of Education, state education agencies, and the accrediting agencies change frequently. Further, steps taken to curb student fund aid abuse increase cost and hurt margins. Moreover, these efforts might not only reduce enrollment of students who abuse funds, but might also discourage many legitimate students from enrolling. Apart from that, uncertainty of growth in military enrollment due to possible changes to the DoD tuition assistance programs also concerns us. We therefore prefer to remain on the sidelines due to a tough regulatory environment.

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