My Presentation on K-12

This afternoon at the Value Investing Congress (the investment conference I co-founded) I presented the attached presentation entitled: “An Analysis of K12 (LRN) and Why It Is My Largest Short Position”.

(If you’re interested in investing, the next Congress will be in Las Vegas on April 3-4, 2014 (with my Pre-Congress Workshop on April 2^nd). Look here for more info and if want to attend, let me know and I’ll send you our best discount code.)

I know the company and the space well (K12’s primary business is running online charter schools in 33 states and DC), and it’s a VERY high conviction short (meaning the funds I manage will profit if the stock price declines). I think that the company has run amok in many, many ways, inappropriately targeting the most at-risk students, with dismal academic results, off-the-charts student turnover, coming under increasing scrutiny. K12 reminds me of the subprime mortgage lenders and for-profit colleges when they were flying high – and the ending will be similar I believe.

Here’s the summary of why I’m short K12’s stock (page 8 of my presentation):

•  K12's aggressive student recruitment has led to dismal academic results by students and sky-high dropout rates, in some cases more than 50% annually

• I wouldn't be short K12 if it were carefully targeting students who were likely to benefit from its schools – typically those who have a high degree of self-motivation and strong parental commitment

• But K12 is instead doing the opposite; numerous former employees say that K12 accepts any student and actually targets at-risk students, who are least likely to succeed at an online school

• One former employee said: "K12's recruitment of inner-city and at-risk "last resort" students had another benefit – these students used up less of K12's educational and teaching resources while permitting K12 to collect full funding from the states."

• Like subprime lending and for-profit colleges, the business makes sense on a small scale but, fueled by lax regulation and easy government money, the sector has run amok

• There have been so many regulatory issues and accusations of malfeasance that I'm convinced the problems are endemic

• Enrollment violations, uncertified teachers, conflicted relationships with nonprofit charter holders

•  I have been looking for years and have not found a single K12 school that is free of scandal and posting even decent (much less good) academic results

• States (and the IRS) are waking up to what K12 is doing and the company is coming under increased scrutiny, which is beginning to impair K12's growth – and I believe this trend will accelerate

• Yet the stock, trading at nearly 50x trailing earnings, is priced as if K12 will continue to grow at high rates for the foreseeable future and also improve on its persistently low margins and free cash flow

And lest anyone think I’m opposed to for-profit or inline schools, I write (page 9):

•  I think an online school can be a great option for some students and families, but an inappropriate and harmful option for others

•  I am a champion of high-quality charter schools (including online and/or for-profit ones), but I think that low-quality charter schools give the movement a black eye

• To be clear: I am not bearish on K12 because I am short the stock. Rather, I am short the stock because I am bearish on K12

It’s important to keep in mind that K12 is not at all representative of the charter sector. Approximately 70% of charter schools are nonprofit and K-12’s 117,563 students are only 5.2% of all charter students nationwide.

If you have had any dealings with K12, positive or negative, I’d love to hear about them!

Here's the response to the NYT article by K-12, the company featured most prominently in the article:

The New York Times article featuring K12 Inc. (NYSE: LRN - News) is unfair and one-sided, and advances an anti-parent choice policy agenda.  Instead of presenting a factually accurate look at K12's online and blended learning products and education programs, the writer mostly editorializes, selectively picking and choosing some facts and omitting many others to satisfy a pre-determined narrative.  The article omitted important information on the structure of online schools, student performance, teacher training and professional development, and the full scope of education programs and services provided by K12. It liberally quotes well-known critics but gives no room for leading voices supportive of technology-based education reforms.

------------------------------------------

K12 Inc. Statement on New York Times Article

HERNDON, Va. , Dec. 13, 2011 /PRNewswire/ -- The New York Times article featuring K12 Inc. (NYSE: LRN - News) is unfair and one-sided, and advances an anti-parent choice policy agenda.  Instead of presenting a factually accurate look at K12's online and blended learning products and education programs, the writer mostly editorializes, selectively picking and choosing some facts and omitting many others to satisfy a pre-determined narrative.  The article omitted important information on the structure of online schools, student performance, teacher training and professional development, and the full scope of education programs and services provided by K12. It liberally quotes well-known critics but gives no room for leading voices supportive of technology-based education reforms.

The Times makes conclusions on school performance based on the federal "Adequate Yearly Progress" (AYP) metric, despite widespread agreement that AYP is broken, and warnings from the U.S. Secretary of Education that most U.S. schools cannot meet AYP.  States across the country are applying for waivers from AYP. 

The article did not state that in 2010 K12-managed online schools nationwide made 80% of overall AYP targets (academic + participation), nor did it mention academic assessments showing positive student academic growth. And the article ignored data that shows the longer students are enrolled in K12-managed online schools, the better they perform on state assessment tests. All of these data points were provided to the reporter.

The Times failed to explain that first year students who enroll in online schools often struggle on state tests after years of falling behind in traditional schools, a problem that is especially apparent in schools with fast-growing enrollment and the capacity to serve all children that choose to attend. In fact, recent analyses by an independent firm found that, in some K12-managed schools, the overwhelming majority of the new students came in behind grade level requiring more than one year of academic growth during the year to be proficient on state tests.

The Times suggests the cost for the K12 program was $1,000 , but did not make it clear that this figure was given in 2002 and referred only to the core curriculum in grades K-2 purchased by individuals.  That price did not include costs for elective courses, foreign language courses, teacher salaries and benefits, school administrators and guidance counselors, computers, technology, special education services, facilities-based blended learning services, and everything else needed to operate a full-time, highly accountable online public school.

Independent studies and state reports show the total cost to educate a student in a full-time online public school ranges from approximately $6,000 - $7,000 , less than the national average to educate a student in a traditional school (over $10,000 per student, according to the U.S. Census). The article failed to mention that in Pennsylvania , the Agora Cyber Charter School offers a face-to-face educational opportunity for academically at-risk students through its brick-and-mortar Agora Learning Center in Philadelphia . In general, online schools receive significantly less funding than traditional public schools to educate a full-time student.

K12's products and services are used in over 2,000 schools and school districts in the U.S.  The company's goal is to serve public education, empower teachers, and help children reach their full potential.  K12's wide range of offerings – from individual courses (credit recovery, world languages, AP) and assessment tools, to blended and online school programs – enables districts and schools to choose solutions they want for the needs of their students.  School districts and independent, nonprofit public charter school boards determine the level of products and services they want to purchase from K12.

Online schools are a challenging and rigorous model that requires commitment from all involved.  They are not for every child, but are a good option for some, especially for students whose needs were not met in traditional brick-and-mortar schools.  In all cases, the decision to enroll a child in an online school is made by parents, not the school.  Parents are well informed by K12 and the online school staff regarding the rigor and the level of commitment required by parents and students to succeed in an online school.  Annual surveys demonstrate that parent satisfaction with the K12 program has remained very high at over 90 percent or above for many years. Parents choose online schools because they believe the online school is a better option for their child.

The enrollment policies at online schools are set by the school district boards or the independent, non-profit governing boards, not by K12.  Further, those policies are largely dictated by state law, which for the most part prohibit any kind of screening or cherry picking of students by public schools.  Online schools are public schools and cannot deny access to eligible students based on their circumstances, academic need, or otherwise.  

Educators and parents know that not every child succeeds in the traditional school building.  Children need access to options in education.  Online schools have helped drop-outs achieve the credits they need to graduate.  They've helped struggling students get back to grade level through individualized programs, provided advanced learners access to courses not available in their local school, and helped students graduate and attend colleges and universities.

Every new innovation, no matter how powerful, is met with some opposition. K12 continues to invest in the development of new academic programs, curriculum offerings, and innovative instructional tools, and remains committed as ever to partnering with educators to help them meet the needs of all their students.

My response to Truth Matters: A look at the “Tilson Tirade” on Online Learning

Jeanne Allen, head of the Center for Education Reform, posted an article today (see below) entitled Truth Matters: A look at the "Tilson Tirade" on Online Learning, in which she responds to my presentation on K12.

 

I've known Jeanne for many years, we have a very friendly relationship, and I truly admire the difficult work she's done in the trenches over many years fighting for better schools for kids and parents – which is why I'm puzzled that she can't see how K12 (and most of the rest of its industry) have franticly pursued growth at all costs, resulting in an educational catastrophe for the significant majority of kids enrolled in online schools.

 

But it's OK for we reformers to disagree on certain issues. I welcome a healthy debate, so in that spirit, below is an open letter to Jeanne in response to her article:

 

Dear Jeanne,

 

Nearly two weeks after going public with my analysis and conclusions about K12, of the dozens of people I heard from, not a single person had anything positive to say about K12. In fact, it appears that I was very late in discovering what many other people had already figured out: that, if anything, K12 is even worse than I had described (hard as it is to imagine).

 

So it's great to finally hear someone try to rebut my arguments – after all, if I'm wrong, I want to know about it. But after reading your article carefully a number of times, it hasn't introduced even the tiniest bit of doubt in my mind that my conclusions are correct that K12 has run amok, is engaging in a variety of bad acts, and is running schools with the worst academic outcomes I've seen in my 24 years of involvement with this movement.

 

The argument that underlies most of your 10 points is that I cherry-picked information from a handful of disgruntled and/or biased former employees and researchers to draw false conclusions that are otherwise unsupported by the data. The problem with this argument is that, by your own admission, your article is "only a brief expose of what's wrong with the first 5 pages of text" in my presentation. But my presentation is 123 pages long! The first five pages are only the introduction, which is why the title of page 8 says "Summary of Why I'm Short K12's Stock."

 

If the totality of my presentation were just the first five pages, I'd agree that you have a point. Yes, one or two former employees might be disgruntled. Yes, one or two researchers might biased against K12. Yes, the data in one or two states might be flawed. But I present over 100 pages of interviews, investigative journalism reports, research studies, state data, etc. – all of which say the exact same thing. It's not as if 60% of the data points are against K12 and 40% are in favor – it's more like 99% vs. 1%. It reminds me of the old saying: "If it looks like a duck, walks like a duck, and quacks like a duck, it's probably a duck."

 

You would be doing me a great favor if you would, in your promised subsequent article(s), move beyond attacking me and my numerous sources, and present actual data and evidence that rebuts my arguments. Please show me – I really want to know – any evidence that the students at even one of K12's 54 schools are doing well. To be clear, I'm not talking about a few anecdotes – I acknowledge in my presentation that "a few students at even the worst online schools are doing well." Rather, show me evidence that rebuts what one person I spoke with told me: "To be sure, [online schools] work well for some students, but I'd guess only 15% of the ones cyber charters are currently serving."

 

I want to respond specifically to three things you wrote in your article:

 

1) You wrote:

 

I'll limit this to educational facts and data – and let the investing community delve deeper into ethical questions about someone who attempts to malign a company while shorting that company's stock.

 

First, I'm scratching my head at how you use the words "facts" and "data" in your article multiple times, yet I couldn't find a single fact or data in your entire article. Not one! All you did was cast aspersions on my facts and data.

 

Second, your raising the issue of "ethical questions" remind me of two old sayings: "Don't throw stones when you live in a glass house" and "Whose bread I eat, his song I sing."

 

I've openly disclosed my short position in K12 at every opportunity and made it clear that my funds and I will profit if K12's stock goes down.

 

Now I call on you to be similarly transparent about your financial interest in this debate. Specifically, how much money has the Center for Education Reform taken from K12, Connections Education (the second-largest online charter company), and other online charter organizations over, say, the last five or ten years? My understanding is that they have generously supported your organization.

 

I know for sure that both K12 and Connections will be featured prominently at CER's 20^th Anniversary Celebration next week, CER at 20 (the press release about the gala confirms that "Current sponsors of CER at 20 include Charter Schools USA, K12, Inc., Connections Education…"). In addition, two of the honorees at the gala are William Bennett, the first Chairman of K12, and Barbara Dreyer, the Co-founder and CEO of Connections Education.

 

To be clear, I am not criticizing you for accepting their support. But it is highly ironic to raise "ethical questions" about my conflict of interest without disclosing your own.

 

2) You write that I am "opposed to all online schools." Most folks don't understand the nuances between online/cyber/virtual schools, hybrid schools, blended learning, and online learning (confusion that K12 takes full advantage of), so I amended this paragraph on page 6 of my presentation to read:

 

Note that my critique is specifically of K12, not all online charter schools, for-profit charter schools or blended learning schools. While I think the online charter school sector has, overall, run amok, there are a small number of good online schools – and a few students at even the worst online schools are doing well.

 

3) Lastly, in point #9, you write:

 

Finally Whitney gets to academic achievement, which I will explore further in my next edition. However, here are a few notes to chew on.

 

Once again we look at NEPC for data, not any credible source.

 

I find it curious that in a five-single-spaced-page article you completely duck the single most important issue for any school operator: the academic achievement of students. In contrast, I address this issue in great depth across 25 pages of my presentation (pages 34-60), of which NEPC data is only a small part. I eagerly await your "next edition."

 

Then you write:

 

Whitney slams K12 for not permitting outside evaluators to look at their data. Where are his outside evaluators?

 

What do you mean, where are my outside evaluators? Even if K12 were willing to share its data (which it's not), why would it be my responsibility to hire outside evaluators? In light of the criticisms from all directions of K12's dismal academic results, you'd think the company – if it even had mediocre data – would be eager to put these issues to rest by hiring credible independent evaluators, especially since K12 now admits that the Scantron results, which it's been trumpeting for years, can't be relied on (see page 39 of my presentation).

 

Finally, you turn to student churn and write:

 

To be sure, K12 and others do not retain kids well in the first couple of years. There is enormous churn, and some of that might be due to the organization running the school, and some might be due to the kind of situation each student brings and leaves with.  We need to know more… and we simply don't. We need more data, which would have been a noble use of Whitney's bully pulpit.

 

But the lack of data doesn't stop Whitney from accusing K12 of fraud.

 

My response is three-fold. First, to your comment that calling for more data "would have been a noble use of Whitney's bully pulpit," I point out on page 62 of my presentation that CEO Ron Packard said: "we haven't chosen to" disclose churn rates to investors. In fact, K12 is so loath to release the data it has on student churn that it's defied two letters from the SEC demanding that it do so.

 

Second, while you assert that there's a "lack of data," in reality there's quite a bit of data showing shockingly high student churn, which I cover in pages 62-65 of my presentation.

 

Third, I find it interesting that you chose to use the word "fraud" because it doesn't appear anywhere in my presentation (the closest I come is to ask Is K12 Defrauding States Via Lax Enrollment Policies? in the title of pages 31-33). A Freudian slip?

 

Sincerely yours,

 

Whitney

---------------------------

From the Desk of
Jeanne Allen
 
Truth Matters
A look at the "Tilson Tirade" on Online Learning.

http://hosted.verticalresponse.com/1397421/71de7e3490/542540291/5e887f5f42/
 
Whitney Tilson is a self-described reform warrior who from his hedge fund perch disseminates information and opinions – as well as a variety of travel logs about his own escapades around the world – with a wide and growing group of people that just like being "in the know." It's often entertaining, sometimes informative, and in general, everyone gets a kick out of reading about themselves or something Whitney likes that they did.
 
Obviously no one likes reading about something they did Whitney doesn't like. He doesn't mince words. Sometimes when he criticizes he's right. Often, he's wrong. One such example is his tirade against online learning in general, and K12, Inc. in specific. 
 
Presenting to his email audience his 100-page plus Power Point to the Value Investing Congress "proving" that K12 and online learning sucks, Whitney takes the reader through a series of arguments that he is 100% convinced are right.  The fact that he presented to such an esteemed body is worrisome for anyone who thinks he is wrong. Upon further scrutiny, it turns out the Value Investing Congress, while big, was actually founded by Whitney himself, so being invited to present there isn't like getting invited to the Clinton Global Initiative! 
 
But anyone who makes statements like "online education is a cancer" requires more scrutiny, don't you think? To that end, here is just a brief expose of what's wrong with the first 5 pages of text in Tilson's Tirade. (I'll limit this to educational facts and data – and let the investing community delve deeper into ethical questions about someone who attempts to malign a company while shorting that company's stock.)
 
 
THE FIRST TEN FLAWS in An Analysis of K12 and Why It Is My Largest Short Position, By Whitney Tilson, Kase Capital
http://seekingalpha.com/article/1707192-an-analysis-of-k12-and-why-it-is-my-largest-short-position
 
 
#1  —Whitney says he is opposed to all online schools:
 
"The schools I'm talking about are ones in which students are supposedly learning by sitting at home all day in front of a computer, interacting with teachers almost exclusively online."
 
Supposedly? I don't know of many people who make statements about kids "supposedly" sitting in front of computers all day that actually understand how online learning works.  Yes, teachers deliver instruction via the computer. Some are live, many are posted and self-paced.  The best instruction in the world can be online and self-paced. The worst instruction in the world can be online and self-paced.  But this paints the picture that the child is glued to a teacher behind a computer screen when in actuality, the experience can be much richer than that. Regardless, Whitney provides no evidence of this "fact."
 
#2 — In these next excerpts, the writer makes inferences and assumptions about who can benefit and why – and we're asked to think about his logic, his reason, as if this kind of critique is new – and factual…
 
"While online schools can be an excellent option for certain students, it's a very small number – typically those who have a high degree of self-motivation and strong parental commitment. It's sort of obvious if you think about it. Do you think you would have learned more during your K-12 educational experience if you'd sat at home in front of a computer, or gone to school and had daily face-to-face interaction with teachers?"
 
#3  — The next sloppy assertion comes when he quotes a Brookings Institution researcher, Tom Loveless, who has done some good work in the past, and some rather mediocre work. He provides this opinion, which Whitney uses as evidence:
 
"We're talking about high schoolers and young kids. The idea that parents go to work and leave their kids in front of a computer—it's absurd."
 
Just a few sentences earlier Whitney acknowledges that virtual or online schools actually require a coach to be with the student every day. The notion that a parent or grandparent, or hired adult might be working with kids is never explored in this report.
 
#4  — An interview with the former head of the Ohio Virtual School provides much fodder for assertions about K12. Whitney argues that it is this interview that sent him over the edge and on his new crusade.  The former head of this K12-managed charter school says the company was all about making money and growth and didn't care about student achievement. Shocking that a former employee would say something like that.  How many of us have had former employees that loved the job when they had it, but upon leaving – suddenly discovered all sorts of things they really found fault with.  Most professionals would never discuss a personnel matter with people externally, so we really do not know the story behind why his particularly school head left and why he feels compelled to damn his former employer. Maybe he is right to condemn, may he's not, but his opinions about his former employer does not a case against online learning make.
 
#5 — A Teachers College researcher and professor is given lots of credibility in asserting that K12 never cared about kids.  Never mind that Teachers College and its various sub-organizations and researchers have consistently stood against any education reforms that put parents and students in the driver's seat! He told Whitney that
 
"The virtual providers like K12 are now mostly going after at-risk kids, kids on their last straw – if they didn't sign up, many would be dropouts or go back to juvenile court."
 
So of course, it fit the profile, and Whitney took it to the bank.
 
This professor goes on to say:
 
"K12 and Packard use this as an advertisement, saying they're doing noble things and wondering why they're being criticized. It's almost comical. It's so misleading and conniving."
 
This is a teacher of teachers? Putting out opinion as fact? Unbelievable.
 
#6  — One person is quoted as saying that online schools do lots of advertising and enroll kids who don't succeed just for the money. Wow, now that's convincing.
 
#7  — Next Whitney is quoting someone criticizing K12 on "Glassdoor," a website that permits people to post anonymously about a company without any need for verification.  It's like a Trip Advisor or any number of rating systems that anyone can participate in. We're supposed to give such a quote credibility – even when there are dozens of positive comments about K12 on the same page linked to his damning discovery.
 
Whitney tells us that he believes it a "catastrophe" to permit low income students to be enrolled in an online school.  Really? It's a catastrophe for a child whose schools and environment has not served him well and is disadvantaged and has any number of good reasons to do his schooling outside of a traditional classroom?  It sounds like Whitney doesn't believe that what's good for higher income students isn't good for lower income students, even if it's a choice their parents make.  Whether he's right or wrong is irrelevant – he has no data that supports his allegations – again. 
 
And we're only on page 4.
 
#8 — Low spending on teachers is demonstrated by a bar graph the result of data supplied by the National Education Policy Center (NEPC). Hello?? Do you know who these people are?  The NEPC is run by individuals with degrees, masquerading as researchers, who are funded by unions and have since 1994 been involved in "research" that criticizes and finds fault with ANY charter school efforts, companies that work in charter schools and anything without unions at their core. Alex Molnar, Gary Miron and others on the NEPC team have never been credible, and never trusted by anyone left, right or center who really cares about research. They make up what I once called, more than 10 years ago – the Don't Worry, Be Happy crowd – who believe US education has never been better and any attempts to change it are simply self-serving.
 
That said, even if the data NEPC's chart shows about the level of teacher spending were right, there's no connection between the spending on teachers and student achievement. We hear from Whitney about ONE disgruntled teacher that says EVERY teacher had her same experience. Where's the rigor on this? Where is "EVERY" teacher saying this? Shouldn't be too hard to find them all, right?
 
Would you trust a survey in which ONE person said they liked something? Would you not go to a restaurant because ONE person was unhappy? This is the problem with education writ large today. We are so quick to buy into someone's "data' simply because it sounds so darn convincing
 
#9 — Finally Whitney gets to academic achievement, which I will explore further in my next edition. However, here are a few notes to chew on.
 
Once again we look at NEPC for data, not any credible source. Whitney slams K12 for not permitting outside evaluators to look at their data. Where are his outside evaluators?
To be sure, K12 and others do not retain kids well in the first couple of years. There is enormous churn, and some of that might be due to the organization running the school, and some might be due to the kind of situation each student brings and leaves with.  We need to know more… and we simply don't. We need more data, which would have been a noble use of Whitney's bully pulpit.
 
But the lack of data doesn't stop Whitney from accusing K12 of fraud.
 
#10 — Finally - for now - he connects us to state reports in Colorado and Pennsylvania, where he presents "studies" from newspapers that show student achievement low and dollars potentially being misspent.
 
We are given a link to an article about Colorado with some state data about online schools and many comments from reformers commending the reporters for their investigation.  There's information about schools, and analysis of what that might mean, but no actual analysis of student performance over time or SES data, and because it's aggregate data, we don't know who goes to that school and who succeeds, or not.  It's general, it's not a great picture, but we simply don't know what that means for the kids the schools serve.  It might be bad, very bad, as Whitney suggests, or it might be good, for some. I've looked at it and I'm an expert and I know in order to make a conclusion I'd have to do a lot more work and get more data to understand if kids achieve or not.
 
I presume state officials have done this.  As most people know, state officials are on the hot seat for making laws work for kids.  Many work and have great success with chartering and ensuring quality outcomes for kids.  For whatever reason, officials in Colorado -- a state that has mounds of good data about schools -- have not shut down its virtual schools, though the record shows that they have scrutinized and intervened to improve many.
 
A New York Times article is cited as evidence that online schools in PA are very bad and yet again, there is no objective school-by-school data upon which this is based so the conclusions belong to the reporter and to Whitney, not to any comprehensive, proper evaluation. 

But Whitney is willing to make pronouncements, regardless.  He is a friend to good causes and children's needs, and most of the time to education reform, but this new vendetta against online learning in general for kids, and one particularly company, K12, appears to be lacking in real rigor, and content, and truth.
 
*************
Aristotle once said that "our duty as philosophers requires us to honour truth above our friends". I'd say our duty as stewards of sound policy require us to honor truth above our friends.
 
Oftentimes because a person has a big megaphone, they will have an impact on policy regardless of the data they present.  The result is that policy is often made based on someone's opinion, rather than real live success.  Research isn't objective right because it's done by someone who has advanced degrees. It's as flawed as the human mind itself.  We've seen this repeatedly.
 
The most important thing people of principle can do when reviewing someone's words or comments or research, and not having enough data themselves to make a determination of right or wrong is to stop and ask the questions:
 

• Does he have facts and have they been vetted by other people who have no bias in the matter, and no prior knowledge of the issue?

• Has he interviewed a large enough sample of people to know that it's bad, or is he/she just repeating what has been said that confirms his/her deepest suspicions?

• Has the person actually been to see and talk to the very people he is calling frauds or worse, those he is saying have been duped?

• Has the person actually seen the work – the school, the students, the parents, the educators, the actual, raw data — about which he is writing?

• Does he understand data and how it is created?

 
The Internet is a marvelous thing. But it's also produced a parade of acts that entertain and get applauded, often for simply being part of the show. Just as a walk through Barnes & Noble demonstrates that not all books are more than someone's folly, a stroll over thousands of Google results daily demonstrates that just because it lives doesn't mean it should. Sadly, the same problem we work to solve in the schools is a problem outside: namely, the lack of real rigor and content when it comes to learning, using and analyzing information.
 
One example is Diane Ravitch. A lot of people talk about Diane Ravitch. Some consider her courageous for standing up to the people whose work, research and causes she once advanced, wrote about, studied and celebrated.  She liked standards once, and now she just wants her grandkids to have fun and meaning (because I guess standards are just not fun and not meaningful and testing to find out if they have met standards kills childhood).  Diane liked choice once upon a time because she saw the inadequacies in schools and the fact that a student's lifetime could be spent in a bad school with no escape. Now she rallies her growing army of ignorance against anyone who believes in freedom and choice for the poor as social justice. Why she does that is the subject of much debate. I actually think I have the root cause, and her communications to me over the years will help me shape my thoughts I will share in the not-too-distant future (not because I think Diane Ravitch, the person or critic, needs more attention, but because the attention she has created against real educational opportunity for children is morally repugnant, harmful to real people who don't live in an upscale Brooklyn Heights apartment among people who only agree with her, and truly unfounded and inaccurate).
 
I don't have the luxury of stopping everything to read and analyze Whitney Tilson's documents or Diane Ravitch's hundreds of pages of commentary and rants against education reformers.  But in the pursuit of truth, I can do a few pages at a time.  We all can. 

 

 

A wild story about K12

Forrest Gump: My momma always said, "Life was like a box of chocolates. You never know what you're gonna get."

 

That line came to mind as I was thinking about the wild turn of events the last few days vis-à-vis K12. The stock is down 37% today and has been cut in half since I went public with my concerns about the company (and my funds’ short position) three weeks ago (the latest version of my presentation is posted here).

 

But let me start the story two days ago: on Monday night, I went to a dinner hosted Mayor Bloomberg at Gracie Mansion for folks attending the Education Nation conference that was going on earlier this week in NYC. It was a great event with lots of my friends there, including Jeanne Allen – the first time I’d seen her since our back and forth early last week. We had a nice chat and even got our picture taken (with Eva Moskowitz) in case anyone thinks there are any hard feelings between us:

 

 

And then she said, “You know Ron Packard [the founder and CEO of K12] is here. Let me introduce you.” In light of what I’ve said and written very publicly about him and his company in the last three weeks, I feared an ugly confrontation so I demurred.

 

Those of you who know Jeanne, however, know that she’s very persistent so not long afterward, as I was talking to some other friends, she came over with Ron and introduced us. We shook hands and he said he’d read my presentation and thought I got some things wrong. I said I’d love to hear what and we started talking. And talking and talking... Somebody gave a speech – and we kept talking. Then some performers sang – and we moved to the side of the tent and kept talking. The party ended, everyone left, the crew folded up all the tables, and the clock struck midnight (3 ½ hours later) – and we kept talking. We figured they were going to kick us out, so we left and walked a few blocks up to the corner of 88^th and Lex – and kept talking. Finally, at about 12:45am, my worried wife called me and said, “Where are you?!” I said, “You’re never going to believe who I’m standing here talking to…” So after 4 ½ hours, we both hopped into cabs and went our respective ways.

 

I have been shorting stocks for over a decade and have gone public with my short thesis on a handful of occasions and, as a result, have been sued, deposed, subpoenaed and investigated (there are good reasons why very few short sellers ever speak publicly) – but I can’t recall the CEO of a company I’m short being willing to engage in a lengthy, frank conversation like Ron and I had on Monday. (My only similar experience was when Reed Hastings published a response to my article in December 2010 in which I detailed why I was short Netflix at that time; after the stock collapsed, I went long it and still hold it – it’s been one of my best investments ever.)

 

I want to respect the privacy of our conversation, so I’m not going to detail what Ron said, but do want share some of my thoughts.

 

First, I liked Ron. I found him very personable, I think he honestly believed everything he said to me, he didn’t get angry or defensive when I pushed him on some pretty tough stuff I’ve heard and written about K12, and we have a lot in common: early in our careers, he was at McKinsey and I was at BCG; we’re both interested in stock picking (long and short); and of course we’re both passionate about improving and reforming education and the role technology can play. I think Ron is an incredible visionary and entrepreneur, and he’s built an important and innovative company. I now see that there’s a lot of good in K12.

 

Before I met Ron, I thought he and the other leaders of K12 were deliberately targeting and enrolling kids they knew were certain to fail in order to maximize their revenue, run their stock price up, and make a few more millions for themselves. I no longer believe this about Ron. I think he wants to do right by kids and that, if given the option of taking a student he knew wouldn’t be successful at a K12 school, but would be highly profitable for the company, he wouldn’t want that student. He believes – and I think he’s right – that there’s lots of room for the company to grow for a long time serving only students who will benefit from a K12 school.

 

So I don’t think there was ever a meeting at K12 in which the company decided to pursue maximum growth at any cost, even if it resulted in a lot of kids enrolling who were highly likely to fail and suffer a major educational setback. Yet even if it wasn’t intended, that’s exactly what I’m convinced is happening right now for a meaningful percentage of K12’s students (I’ve heard estimates as high as 85%, based on the very low number of K12 students who are demonstrating proficiency).

 

I think that a number years ago (coinciding, not coincidentally, with the company going public in late 2007), K12, in balancing its desire for growth vs. doing right by kids, let that balance get way out of whack.

 

I’ve seen it happen at countless companies – the board and management team get on a treadmill of scrambling to meet analyst expectations every quarter, they start to think (albeit perhaps subconsciously) that it’s their job to keep the stock price up, and they start doing all sorts of unnatural, short-term-oriented, unethical and, in the worst case, illegal things to keep the game going.

 

Fueling this is the genuine passion Ron and others at K12 have for online education. They have a missionary’s zeal to make it available to the world, which is great, but I also think that blinds them to the reality (as I see it) that a full-time online school is a terrible educational option for the majority of students, especially at-risk ones. Thus, I think it’s incumbent upon K12 to do its absolute level best to enroll only those students for whom one of its schools is the best option. Ron said that K12 is already taking steps to ensure this (and perhaps the tepid FY 2014 guidance the company issued last night in part reflects this), but I’m 100% certain that there’s a lot more that K12 can and should be doing.

 

So with the stock down so much, am I covering my short? In a word: No. In light of yesterday’s guidance (which, while below expectations, still showed enrollment growth of 5.7% year over year), I don’t think K12 has come to grips with the reality that it doesn’t just need to slow its growth, but must actually shrink its enrollment – and not by a little, but by a lot – to weed out the students who are not appropriate for a full-time online school and thus are not engaging or succeeding. Instead, my read of K12’s press release yesterday is that it’s doing what most companies in this situation do – deny reality, rip the Band Aid off slowly, and prolong the pain.

 

What K12 really needs to do is come clean with all of its stakeholders (investors, employees, regulators, legislators, etc.) and say something like:

 

While we didn’t intend to do so, we grew too fast in recent years, resulting in many students enrolling in K12 schools who shouldn’t have. That’s not only obviously bad for those kids, but is also bad for us in the long run. Consequently, going forward, we are going to focus 100% on improving its academic outcomes, both by doing everything we can to ensure that only kids who are well positioned to succeed in a full-time online school enroll, and also by investing heavily to better serve our increasing number of at-risk students.

 

If K12 did this, for sure its revenues and profits would fall in the next year or two and the stock would get hit (again), but I’m convinced that the company would be far more valuable in the long run. Look at what’s happened to Netflix’s stock since it stopped trying to be profitable, and look at Amazon since its inception – it’s basically never been profitable! Investors don’t care about near-term profits as long as they’re convinced that the company is a growing market leader that, once it matures, will be highly profitable down the road (sometimes even very far down the road).

 

Once K12 takes these steps, I will cover my short – and might even go long the stock!

 

Expose on K12 and California Virtual Academies

Two and a half years ago, I gave an in-depth presentation and published three articles (links below) about K12, the largest charter school operator in the U.S. It’s a public, for-profit company that runs terrible online schools that harm tens of thousands of students every day, in general, bilk taxpayers.

 

Soon thereafter, much of what I predicted came to pass and the stock collapsed, so I covered the short position (i.e., a bet that the stock would go down) I’d established in my funds. I still follow the company, however, so I read with interest the in-depth two-part series on K12’s activities in California that ran last month in the San Jose Mercury News. It’s an outstanding piece of investigative journalism that makes it clear that the state simply needs to shut down all of the K12-affiliated schools in the state immediately.

 

Here’s an excerpt from the first article:

The TV ads pitch a new kind of school where the power of the Internet allows gifted and struggling students alike to "work at the level that's just right for them" and thrive with one-on-one attention from teachers connecting through cyberspace. Thousands of California families, supported with hundreds of millions in state education dollars, have bought in.

But the Silicon Valley-influenced endeavor behind the lofty claims is leading a dubious revolution. The growing network of online academies, operated by a Virginia company traded on Wall Street called K12 Inc., is failing key tests used to measure educational success.

 

Fewer than half of the students who enroll in the online high schools earn diplomas, and almost none of them are qualified to attend the state's public universities.

 

An investigation of K12-run charter schools by this newspaper also reveals that teachers have been asked to inflate attendance and enrollment records used to determine taxpayer funding.

 

Launched with fanfare and promise, online schools such as K12 are compiling a spotty record nationwide, but highly motivated students with strong parental support can succeed in them. In California, however, those students make up a tiny fraction of K12's enrollment. The result -- according to an extensive review of complaints, company records, tax filings and state education data -- is that children and taxpayers are being cheated as the company takes advantage of a systemic breakdown in oversight by local school districts and state bureaucrats.

 

At the same time, K12's heavily marketed school model has been lucrative, helping the company rake in more than $310 million in state funding over the past 12 years, as well as enriching sponsoring school districts, which have little stake in whether the students succeed.

 

And here’s an excerpt from the second article:

Frustrated with the quality of their neighborhood schools, parents, teachers and civic leaders have founded hundreds of California charter schools, combining locally sourced ingenuity with the public funding that state law allows them to command.

California's largest network of online academies is different: Although the schools are set up like typical charters, records show they're established and run by Virginia-based K12 Inc., whose claims of parental involvement and independent oversight appear to be a veneer for the moneymaking enterprise.

 

The company -- the subject of a two-part investigative series by this newspaper -- says the schools operate independently and are locally controlled. But the academies' contracts, tax records and other financial information suggest something entirely different: K12 calls the shots, operating the schools to make money by taking advantage of laws governing charter schools and nonprofit organizations.

 

"What this company has done may make sense from a business perspective, but to me, it's a sham," said Renee Nash, a business and tax attorney and a member of the Eureka Union School District's Board of Trustees.

 

"K12 is clearly taking advantage of the laws in California," she said, "and the Legislature needs to put a stop to it."

 

California law is silent on whether for-profit firms are even allowed to run charter schools. So before applying 14 years ago to open the state's first online academies, K12 treaded cautiously into a new market, creating a series of nonprofit organizations whose names match those of the schools.

 

That means each California Virtual Academy is considered by the IRS to be a charitable organization that need not pay taxes, even though K12 effectively controls the schools by providing them with all academic services.

 

The structure, accounting experts say, makes it tough to tell where the nonprofit ends and where the company begins.

 

And the company’s response:

In a vigorous defense, officials behind the California Virtual Academies branded this news organization's investigation into their online charter schools "wrong and insulting" and an attack against a model of school choice.

But critics of K12 Inc., the Wall Street-traded company that runs the profitable but low-performing academies, called for greater oversight of its practices.

 

…In a letter sent to teachers Monday afternoon, the schools' academic administrator, April Warren, called the newspaper's investigative series "a gross mischaracterization of all of the work that you all do on a regular basis." But despite their broad condemnations, neither Warren nor other school officials alleged any specific factual inaccuracies in the series.

 

Lastly, here’s my presentation and here are links to the three articles I published in late 2013:

 

·        An Analysis of K12 and Why It Is My Largest Short Position (9/22/13)

 

·        Why I’m Not Covering My K12 Short (10/10/13)

 

·        An Open Letter To The Board And Management Of K12 (11/4/13)

 

-----------------------

California Virtual Academies: Is online charter school network cashing in on failure?

By Jessica Calefati, jcalefati@bayareanewsgroup.com

Posted:   04/17/2016 04:59:01 AM PDT | Updated:   9 days ago

www.mercurynews.com/education/ci_29777973/is-california-online-school-cashing-failure

 

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K12 Inc.: California Virtual Academies' operator exploits charter, charity laws for money, records show

By Jessica Calefati, jcalefati@bayareanewsgroup.com© Copyright 2016, Bay Area News Group

Posted:   04/18/2016 04:48:09 AM PDT | Updated:   9 days ago

www.mercurynews.com/education/ci_29780959

---------------------------

California Virtual Academies defend online charter schools as model of school choice

By Jessica Calefati, jcalefati@bayareanewsgroup.com

Posted:   04/19/2016 05:26:24 AM PDT

Updated:   04/19/2016 07:46:11 AM PDT

www.mercurynews.com/california/ci_29783708/california-virtual-academies-defend-online-charter-schools-model

 

From China to Chicago, K12 Inc. markets more than virtual schools

Stephanie Simon’s second article highlights how K12 is branching out, finding new ways to serve (or bilk) students (and, often, taxpayers). The new Insight schools are particular appalling:

The bipartisan education reform movement sweeping the nation calls for opening up public schools to free-market competition. That has meant sending billions of tax dollars to private, for-profit companies to educate kids.

But the companies do more than pay teachers, develop curriculum and buy supplies with all that revenue.

They use it as a launchpad for new products, new brands and new markets.

Consider K12 Inc., the nation’s largest private operator of public schools. It runs 54 online schools in 33 states and Washington, D.C. But it also runs a tutoring center in the United Arab Emirates. It sells courses to the Cook County correctional system in Chicago. It’s making a big push to get its new online curriculum for toddlers into Head Start preschools for low-income kids.

…Websites for Insight Schools, a network of tuition-free, online public schools, serve up a five-question quiz, “Is an online high school right for you?”

Respond that you don’t care about earning a high-school diploma and don’t like studying at home and you’re still told: “Based on your answers, Insight Schools may be a good fit for you.” The sites also feature video testimony from two students who emphasize that studying at Insight leaves them with ample free time for video games, music and hanging out with friends.

Insight is a division of K12 Inc. and represents a key element of the company’s diversification strategy: Developing new brands of schools in addition to its trademark Virtual Academies.

K12 now runs nine Insight Schools, which use a less rigorous curriculum, offer more intensive tutoring and are meant to appeal to struggling or indifferent students. It also manages several Flex Academies, which bring students to a brick-and-mortar school building to take some of their classes with live teachers, in addition to working through online lessons in cubicles. K12 is also testing online Preparatory Academies, targeted at college-bound students.

The multiple brands let K12 attract a broad range of students. They may also help the company weather controversy over its poor test scores.

Nathaniel Davis, K12’s executive chairman, said he would like to get some Insight schools certified as “alternative” campuses for at-risk kids. Such schools often get more leeway to continue operating despite low test scores. And states often fund education for at-risk students long beyond the traditional high school years, so if K12 can keep those students enrolled into their early 20s, it can keep collecting tax dollars to teach them, said Allison Cleveland, an executive vice president at K12.

As for the Flex Academies, Davis said they’re not as profitable for K12 but they generally post stronger test scores, which tend to impress politicians and regulators — who may then be more favorably inclined to approve other online models, including K12’s more lucrative Virtual Academies. “That’s one reason to do it,” he said.

------------------------------------------

From China to Chicago, K12 Inc. markets more than virtual schools

By STEPHANIE SIMON | Politico, 9/27/13 5:09 AM EDT

www.politico.com/story/2013/09/china-chicago-k12-inc-virtual-schools-97414.html

The bipartisan education reform movement sweeping the nation calls for opening up public schools to free-market competition. That has meant sending billions of tax dollars to private, for-profit companies to educate kids.

My conflict of interest on K12

I’ve had many conversations with various folks about K12 since I went public last week with my presentation about it (which I continue to update regularly – the latest version is always posted at: www.tilsonfunds.com/K12-Tilson-9-17-13.pdf; also, the article I published is posted here).

 

Two of my friends wrote the following: “You have an ineradicable conflict of interest on this one.” And “I think you lost the moral high ground when you shorted the stock. I wish you had stuck to your role as a reformer on this one.”

 

I’m glad they told me this because I’m sure many others have similar feelings and I’d like to address them.

 

While I do much more investing on the long side (i.e., buying stocks in the hopes that they go up), I’ve also been shorting stocks (i.e., betting that they will go down) in the funds I manage for more than a decade.

 

I’m well aware of the widespread perception that it’s vaguely nefarious and un-American to bet against a company – and even worse to publicly speak out against a company. If you stop and think about it for a moment, however, you’ll quickly realize how foolish this viewpoint is. Healthy markets need a vigorous debate about the level of the market overall as well as the valuation and prospects of specific sectors and companies. Imagine the bubbles that would form if everyone only said and thought positive, bullish things. In fact, you don’t have to imagine this at all: just look at two of the biggest bubbles and busts in history just in the past 15 years – among internet stocks and the housing/debt bubble – and the horrific consequences. I would argue that had there been more skeptics (like me) who were warning – it turns out, 100% accurately – about these bubbles, they wouldn’t have grown as large and the aftermath wouldn’t have been so painful.

 

So now let’s turn to: a) my short position in K12’s stock in the funds I manage in my day job as a hedge fund manager and; b) my public criticism of the company, in part using my platform as an ed reformer (my night job). Is my friend right that I have “an ineradicable conflict of interest”? Absolutely! But isn’t it funny how nobody ever points out that the management and board members of K12, who own tens of millions of dollars of K12 stock and are regularly granted copious amount of stock options, have a conflict of interest as well?

 

In fact, their conflict of interest is exponentially larger than mine. They stand to reap millions of dollars if the stock goes up – far more than I would gain if the stock goes down. And this is only one of dozens of investments in my funds (while it’s my biggest short, it’s only a bit over a 3% position), so whether K12’s stock continues to rise or collapses (as I expect), it is not going to have a meaningful impact on my business or life. In contrast, if K12 is, to quote Jeff Shaw, the former head of K12’s Ohio Virtual Academy, “a house of cards that is going to collapse,” this would have an enormous financial impact on the senior executives at the company, could cost them their jobs, lead to them being investigated, etc. So let’s be clear: they have far more incentive to try to put lipstick on this pig than I do to point out that it is, in fact, a pig.

 

But what about my other friend’s comment that I “lost the moral high ground” when I shorted the stock and that I should have “stuck to [my] role as a reformer”? To answer this question, allow me to give you the timeline. I first shorted K12’s stock more than 16 months ago in May 2012, periodically added to the position over the next year, and haven’t traded in it at all since May of this year. As with most of my short positions, I didn’t disclose or discuss my K12 short position until two weeks ago.

 

So what changed and led me to go public? The answer is simple: I spoke for the first time with a former K12 employee (Jeff Shaw) two weeks ago and since then have spoken with a number of other former employees and others who know the company well. These conversations, in turn, led me to do even deeper research into the company’s business practices, academic results, etc.

 

I struggle for words to describe my feelings about what I’ve found. Horrified doesn’t begin to express it. I already believed that K12 was doing some bad things – that’s why I was short the stock – but when I really started digging, I discovered that things were far worse than I’d realized: the student churn, the way the company increasingly targets the most at-risk kids even though it knows that nearly every one of them is sure to fail, the likely bilking of states via enrollment fraud, the way it effectively controls many of the nonprofits that have been granted charters and siphons all of the profits out of them, the buying of politicians, etc.

 

But worst of all are the academic results. I’ve never seen anything like it. The numbers at every K12 school I’ve seen make the old Locke HS in LA – once the most notorious high school in America before Green Dot took it over – look like Stuyvesant! Look at the data from Tennessee in my presentation (pages 50-51), which shows that the students at the K12 school had less academic growth by far than all 1,300 other elementary and middle schools in the state).

 

Or consider Ohio, where the state recently reported that the six biggest cyber schools in the state all got Fs on their state progress reports, with OHVA doing worst of all. The state counts a progress score of -2 as a complete failure for a school – and OHVA’s score was -27!

 

Having become convinced that K12 has run amok and is doing real educational damage to tens of thousands children every year – and giving our entire movement a huge black eye – what was I supposed to do? Remain quiet? Ha! Cover my position before going public so people wouldn’t criticize me for my conflict of interest? What would my investors think of that? I did a ton of research, made an investment based on my conclusions from that research, and then I’m supposed to get rid of that investment because someone might criticize me? Ha!

 

To be clear: I am not bearish on K12 because I am short the stock. Rather, I am short the stock because I am bearish on K12. Anyone who knows me knows that I’d be saying and doing exactly the same things whether or not I had any position in the stock. But I know I’ll be criticized nevertheless. So be it. I’m used to taking plenty of slings and arrows…