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updated 6/25/2004 11:40:03 AM ET 2004-06-25T15:40:03

The for-profit education colleges that have mushroomed across the U.S. in the past decade have been quick to tap the the rise in online education, vocational courses, adult learning and the need to reach out to lower-income communities — areas traditional universities often overlook.

Thanks in large part to US federal programmes, which constitute roughly two-thirds of the sector's revenues, student enrollments and earnings have soared — along with the companies' stock prices.

"Seventy percent of our students are the first member of their family to have a college degree and nearly 50 percent of them are minorities," says Nick Glakas, president of the Career College Association, a lobby group that represents 1,100 for-profit colleges teaching more than 1 million students. "Our schools are doing great things."

Wall Street and Washington seem to agree. The stocks have been among Nasdaq's best-performing over five years. In Washington, where the sector has become a potent force, lawmakers are discussing an education bill that would broaden the companies' access to federal loans.

But several leading companies, among them Career Education, Corinthian Colleges and ITT Educational Services, have come under scrutiny from regulators and plaintiffs' attorneys amid allegations that certain schools may have violated federal lending requirements.

Corinthian and Career have denied charges made in lawsuits filed against them. Meanwhile, Career and ITT have said they are working with regulators to resolve investigations. If any of the allegations prove true, it could imperil a company's entitlement to federal loans under the Higher Education Act's Title IV.

"All you need is one hiccup for corporations that have done phenomenally well to tumble down, because they are entirely dependent on Title IV funding for their existence," says Barmak Nassirian of the American Association of Collegiate Registrars and Admissions Officers. Mr. Nassirian has been critical of the for-profit sector, although his group counts some for-profit colleges among its members.

Shares in Career have fallen more than one-third in a week. The company, which operates 75 campuses with more than 83,000 students in the U.S. and abroad, disclosed this week that the Securities and Exchange Commission had launched a formal investigation into the company. The SEC had been conducting an informal inquiry following a complaint made last year by a former registrar of its Brooks Institute of Photography in Santa Barbara, California.

In her resignation letter, the registrar alleged "many staff members have been asked by management to commit forgery, fraud, perjury or whatever else is necessary" in order to keep the school's accreditation, which is needed to be eligible for federal student loans. A former employee at the company's Gibbs College campus in New Jersey filed a lawsuit making similar charges. The company denies the allegations. Career says it intends to "fully co-operate with the SEC".

In a recent interview, John Larson, chairman and chief executive of Career, said the company had looked into the allegations at the Brooks and Gibbs schools in question and was confident the allegations were without merit.

Since the SEC's informal inquiry was disclosed this spring, top officials at Career have sold roughly 1 million shares, according to recent filings. Nick Fluge, who heads Career's online division, exercised options to sell roughly 200,000 shares. Mr. Fluge said he expected to receive more shares, adding: "I'm very bullish, regardless of the sales."

The company's stock price was also hurt by an amended shareholder lawsuit filed last week alleging fraudulent activity at several schools, based on the accounts of 13 former employees. The suit names Mr. Larson and Pat Pesch, Career's chief financial officer, as defendants. Career says the lawsuit is "without merit" and will be contested vigorously.

In February federal agents raided the headquarters of ITT and 10 campuses. The U.S. attorney in Houston, helped by the Department of Education's Office of Inspector General (OIG), is leading the investigation. ITT says it is working with regulators to resolve the issues. The company also faces an investigation from state regulators in California.

California's attorney-general's consumer fraud division has also launched a probe into for-profit schools, saying it believes some have violated the law. However, the division declines to name which schools or companies are involved in the investigation.

Corinthian, which operates roughly 150 colleges and training centres with more than 43,000 students, had its lending status at a school in San Jose, California, altered after a Department of Education division uncovered violations of federal lending rules. The stock fell 13 per cent in early trading on Thursday, following news of the investigation, as reported in the FT.

The company also faces a lawsuit over its Florida Metropolitan University, an institution with several campuses and more than 10,000 students. The suit alleges that school officials misled students about their ability to transfer credits from FMU to traditional universities.

Corinthian has called the Florida suit baseless and has launched a defamation suit against Peter N Price PA, a law firm in the case. Mr. Price's firm employs a paralegal who attended FMU and whose name headlines the class-action suit.

David Moore, chairman and chief executive of Corinthian, says its schools require every applicant to sign, or initial, their application in three places, to show they understand the transfer of credit issue is a function of the receiving institution.

Regarding the complaints former students made to the FT, Mr. Moore says: "Eighty-two percent of all graduates last year got a job within six months; you may have hit the other 18 percent."

Copyright The Financial Times Ltd. All rights reserved.

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