This article originally appeared in the NZ Herald.

The Tertiary Education Commission report on Quantum Education Group, the fully owned subsidiary of the failed NZX company Intueri Education Group, makes for sober reading.

Unfortunately, it received little media attention because most business commentators were in holiday mode when the report was released on December 20. The commission’s report deserves more attention because to this columnist it highlights how investors can be seriously misled by statistical data — and profit figures — that are embellished and unsustainable.

The commission concluded that Quantum retained fees paid by students (mainly funded through government loans) even though these students completed less than 10 per cent of their courses. Most importantly, these students were not included in Quantum’s pass/fail ratios even though students paid for their courses and started them.

The commission’s press release stated that Quantum “deliberately sought to bring in student fees and not have to either train the students, or report enrolments”.

The press release went on to note that “although further action is no longer being taken by either the Serious Fraud Office or Financial Markets Authority, this report makes it clear some of the practices at Quantum failed to meet proper ethical standards”.

The story goes back to 2010, when Australian based Arowana International acquired the Design & Art College of New Zealand and, the following year, the Auckland-based Elite Education, a provider of beauty and spa therapy training.

In early 2013 it bought the North Shore International Academy, which offers a wide range of courses in English language, baking, cookery, hospitality and management, as well as The Cut Above, a hairdressing trainer, and the New Zealand School of Commercial Diver Training.

In April 2013, Arowana backdoor listed on the ASX through Intelligent Solar, which had been placed in administration in July 2011.

Although a prospectus was issued for the backdoor listing and accompanying capital raising, investors should be particularly careful of any organisation that adopts the reverse listing approach instead of the traditional IPO process.

The reverse listing document noted that Arowana had 230 New Zealand employees, who generated 88 per cent of group earnings. One of its major risks was that “a downturn in the New Zealand economy may lead to a decrease in student enrolments” and “this reduction in income will have an adverse impact on [Arowana’s] financial performance”.

In April 2014, the Auckland-based Intueri Education, Arowana’s 100 per cent owned subsidiary holding its NZ educational assets, issued a prospectus to raise money from the public and list on the NZX. As part of the share issue, Intueri Education had agreed to purchase Quantum Education Group and 50 per cent of Online Courses Australia (OCA) for $58m.

Quantum offered a wide range of vocational courses at 15 New Zealand campuses while OCA was described as a “rapidly growing online education business” across the Tasman. These two newly acquired operations were forecast to supply the bulk of Intueri’s future earnings.

The outcome of the Intueri IPO was as follows:

26.4 million new shares were sold to the public at $2.35 each, raising $59.2m for the company after costs

Arowana International realised $114.5m through the sale of 48.7 million shares to the public at $2.35 each

Arowana continued to hold 24.9 million Intueri shares which had a market value of $58.5m at the $2.35 IPO price. The IPO was a fantastic deal for Arowana as its Intueri investment was given a total value of $173.0m, $114.5m of which was realised by Arowana in cash, even though the two dominant operations, Quantum and 50 per cent of OCA, were being purchased from external interests.

Following the IPO, Intueri had $105.8m of intangible assets, $85.2m of total equity and $18.9m of debt.

Intueri’s questionable practices were uncovered when the Tertiary Education Commission (TEC) revealed that Quantum had 1741 enrolments in 2013, while the Intueri prospectus stated it had 4628.

The discrepancy was due to the following procedures:

Students who withdrew from a course within eight days would be refunded their fees.

Students who withdrew after eight days but before completion of 10 per cent of their course or within one month of starting would not be refunded their fees.

Only students enrolled for more than 10 per cent or one month of their course would be recorded as enrolments by TEC and receive TEC funding. The Quantum enrolment figures indicated that only 1741 or 38 per cent of the 4628 students were registered as full-time students at TEC. Most of the remaining 2887 students had opted out in the first month, with Quantum keeping their fees.

These 2887 early withdrawal students were not included in Quantum’s pass/fail ratio, an important measure to maintain Crown funding.

A 2008 internal email, which is included in the recent TEC report, showed that company executives were concerned about the 57-64 per cent early withdrawal rate. The email went on to state that if early withdrawals stayed at 57-64 per cent, the projected revenue was around $28m; if the early withdrawal rate declined to 40 per cent then revenue would drop to an estimated $20m.

The email noted that if “we pursue current paid early withdrawal rates and are discovered (this is a matter of when rather than if) there is a loss of faith and potentially $10m-$20m pa long term”.

Quantum seemed to encourage early withdrawals as indicated by the following comments in the TEC report: “When we looked at the students who were withdrawn in the first 30 days of their programme, we found that typically they were sent their first warning letter between four and eleven days after the course start date. This was commonly followed by a second warning letter between eleven and fourteen days after the course start date. Finally, an “early withdrawal” was normally processed between 18 and 25 days after the course start date. The withdrawal is normally initiated by Quantum rather than the student”.

The TEC report notes that Intueri undertook due diligence of Quantum before the 2014 purchase. An Intueri independent director revealed to the TEC that Arowana people had most involvement in the deal while describing the Intueri directors as a “shadow board” for a few weeks prior to listing.

In this columnist’s view, this is a massive neglect of director duties, as Arowana was the main beneficiary of the Quantum purchase and the independent directors should have vigorously protected the interests of IPO investors.

The Quantum business model was dependent on these massive early withdrawals and when the practice was discovered and stopped it destroyed the educator’s business model. Consequently, Quantum has been wound down.

Intueri’s other major problem was Online Courses Australia (OCA) Group, with the first 50 per cent acquired for A$4m in March 2014 and the remaining 50 per cent for A$34.9m in January 2015.

The Australian Vocational Training Fee Help (VFH) scheme was introduced in 2012 to allow students to obtain government funded loans to undertake diplomas. These loans surged from just A$0.3b in 2012 to A$2.9b in 2015 and allowed OCA to grow rapidly.

However, a Department of Education and Training audit of OCA in mid-2016 identified several areas of non-compliance, including inadequate training, poor student engagement, low course completion rates and questionable marketing practices.

A new government loan scheme was introduced last year with far stricter requirements, particularly in terms of course completion targets and loan limits. OCA decided it could not operate under the new regime and was placed into liquidation on April 5.

Intueri Education followed similarly on June 1, with shareholders losing all their money.

This columnist believes that Intueri Education is as bad as it gets in terms of poor board governance, inadequate scrutiny of related party transactions, the huge price paid to the Australian vendors through the IPO process and woeful management practices.

Investors deserve far higher standards than Intueri Education delivered.