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Apollo Group, Inc. (NASDAQ:APOL)

F4Q 2008 Earnings Call

October 28, 2008 5:00 pm ET

Executives

Allyson Pooley – Vice President, Investor Relations

Dr. John Sperling – Executive Chairman

Charles B. Edelstein – Chief Executive Officer

Joe D’Amico – President, Chief Financial Officer & Treasurer

Gregory W. Cappelli – Executive Vice President, Global Strategy & Assistant to the Chairman

Brian Swartz – Senior Vice President, Finance and Chief Accounting Officer

Analysts

Sara Gubins – Merrill Lynch

Mark Marostica – Piper Jaffray

Kevin Doherty – Banc of America Securities

Suzanne Stein – Morgan Stanley

Andrew Steinerman – J.P. Morgan

Amy Junker – Robert W. Baird & Co., Inc.

Andrew Fones – UBS

Gary Bisbee – Barclay’s Capital

Jerry Herman – Stifel Nicolaus & Company, Inc.

Jeffrey Silber – BMO Capital Markets

Trace Urdan – Signal Hill Group, LLC

Brandon Dobell – William Blair & Company, LLC

Corey Greendale – First Analysis Corp.

[Unidentified Analyst] – Oppenheimer & Co.

Jennifer [Child] – Credit Suisse.

Operator

Good afternoon ladies and gentlemen and welcome to the Apollo Group, Inc. fourth quarter and year end 2008 earnings conference call. (Operator Instructions) There will be a replay of this call available through November 7, 2008 beginning approximately two hours after we conclude today. The replay number is 1-800-642-1687 or 706-645-9291 for internationally. The conference ID for the replay is 63579735. Additionally this call will be broadcast over the Internet and can be accessed via the company’s website at www.apollogrp.edu. I would now like to turn the call over to Allyson Pooley, Vice President, Investor Relations of Apollo Group. Miss Pooley, go ahead please.

Allyson Pooley

Thank you. Good afternoon and thank you for joining us today. Speaking on today’s call are

Dr. John Sperling, Executive Chairman; [Chas] Edelstein, Chief Executive Officer; Joe D’Amico, President, CFO and Treasurer; and Greg Cappelli, Executive Vice President, Global Strategy and Assistant to the Chairman. Additionally, Brian Swartz, our Senior Vice President, Finance and Chief Accounting Officer will be available during the Question-and-Answer period.

During the Q&A period we ask that you be respectful of everyone’s time and limit your questions. We expect to take the time necessary to answer all of your questions.

Before I begin, I’d like to remind you that the detailed financial data and the reconciliation of GAAP to non-GAAP measures are included in our press release, which was issued today, and is available on our website. Additionally as we discuss our results note that, unless otherwise stated, we will be comparing the fourth quarter of fiscal 2008 to the fourth quarter of fiscal 2007.

I’d also like to remind you that this conference call may contain forward-looking statements with respect to the future performance and the financial condition of Apollo Group that involves risks and uncertainties. Various factors could cause actual results of the company to be materially different from any future results expressed or implied by such forward-looking statements. These factors are discussed in Item 1A and elsewhere in the company’s 10-K report and in subsequent 10-Q reports filed with the Securities and Exchange Commission.

The company does not undertake any obligation to update anyone with regard to the forward-looking statements made during this conference call. And with that I’ll turn the call over to John.

Dr. John Sperling

Thank you for joining us today and discuss our fourth quarter and fiscal 2008 results. 2008 was a transformative and record year for us and the year also brought changes in our organizational leadership, plus a series of strategic investments that we believe will generate incremental shareholder value over time.

On the leadership front, we recently announced that Charles Edelstein had accepted the position as Apollo CEO, a position that’s been vacant for a period of time. I’ve known and worked with Chas for over ten years and in that time I’ve been impressed with his sharp intellect and knowledge of and keen insight into the education industry. Chas has proven his strong record of leadership skills and we believe his ability to bring people and ideas together to work toward a common vision will benefit Apollo as it continues to grow.

Already Chas has integrated himself into the organization and has been working closely with management team. Thus I’d like to again welcome Chas to Apollo and with that I’ll turn the call over to him.

Charles Edelstein

Well thank you John. I’m honored to be in the role of CEO of this exceptional company and applaud you for all you’ve done for Apollo and in fact the entire industry over the years. I’m excited to work with you and the team to further capitalize on the opportunities that lie ahead.

We’re very pleased that our 2008 results have generated meaningful operating income growth for the first time in three years. Leading this was strong revenue growth, a significant new degreed enrollment growth, and improved persistence. Before we review these results, I’d like to say a few words about why I joined Apollo and what you can expect from me in my new role as CEO.

In the two months that I’ve been here, I’ve confirmed my prior belief that this is a company full of talented individuals and they share my passion for education. Over the last couple of years, the company has made many important investments and embarked on a solid strategy to optimize all aspects of the organization and I plan to continue along on this path. I believe there is significant opportunities ahead to grow our domestic business as well as expand internationally and our senior management team is likeminded with regard to our approach.

You’ll hear all of us talk about focus on the student, academic quality, and a disciplined return on capital approach to decision making. Further, you can expect me to be focused on leading our management team based upon shared mission and shared values of this company. At the core of our decision making process are four primary values. First, integrity and social responsibility which center around acting with the highest ethical standards.

Second, changing lives through education which speaks to our core mission to provide access to high quality education to as many people as possible. Third, creating long term value. This will be done with a disciplined focus on return on capital and the knowledge that for our shareholders to enjoy attractive returns, our students must realize an attractive value proposition.

And fourth, becoming the job of choice. This refers to our goal of maintaining a positive workplace for our employees, which includes having policies centered on fairness and respect. It also refers to having a comprehensive training program to attract and develop our future managers. We believe if our employees are treated well this will carryover into their interaction with our students.

I believe that the culture of this company is very compatible with these four values which is important and I believe the foundation for our future success. Going forward you can expect to hear from me, from Greg Cappelli who I’ve worked closely with in the past, Joe D’Amico and others as we work together as a team to update you on our business. This format is reflective of our partnership and my approach to managing the business.

I would like now to turn the call over to Joe, our President and CFO to provide a review of our operations and financial results. Joe took on the role of President in June and has done a tremendous job. As a result, he’s taking on this role permanently and I would like to congratulate him on this recognition. After Joe finishes, Greg will update you on our investments and give you some insight as to how we’re thinking about 2009. So with that, I’ll turn it over to Joe.

Joe D’Amico

Thanks Chas. I’d also like to welcome Chas. I’ve known Chas for a couple of years now and I look forward to working with him as we continue to grow the business at Apollo. I plan today to discuss our financial results and weave into that discussion some of the operational initiatives that are driving those results with an emphasis on the value drivers of our business. First, I’ll discuss our revenue growth driven by new enrollments, total enrollments, retention and pricing. Next I’ll review our operating results and their impact on our margins and cash flow. And third I’ll touch on our cohort default rates, the current student loan environment, and regulatory matters.

Regarding revenues, for the fourth quarter we reported consolidated net revenues of

$831 million, a 16.5% increase. The primary contributor to this growth was our 15.4% total enrollment growth which was driven by very strong new enrollment growth of 19.1% and continued improvement in student retention.

This is the second quarter in a row that we have seen an acceleration of our new enrollment growth which we believe is the result of a number of factors, including better quality leads as we gain more visibility into the advertising channels that produce the best converting and persisting leads; two, improvements in our internal lead management systems, including enhancements to our website content that is yielding a greater number of higher converting leads; and, while difficult to confirm, we believe we may be benefiting to some degree from the current state of the economy.

We are particularly pleased with the increase in Bachelor enrollments, which grew 14.3% during the fourth quarter. This is a result of new traditional University of Phoenix Bachelor students as well as students matriculating from our Associates Degree program to our Bachelor’s program. Part of the increase versus last quarter is due to a seasonal trend in our fourth quarter with August being a traditionally larger start period. We are very pleased with these results and while we believe new enrollment growth will continue to be strong, we do not expect to maintain this level of new enrollment growth over the long term.

On the topic of retaining students, during the fourth quarter we again saw improvement and persistence at each degree level. In fact, our persistence rate improved 240 basis points versus a year ago to 80.8%. Similarly to a year ago, there is some seasonality in persistence during our fourth quarter as many students take breaks during the summer months.

Academic quality is key to the success of our business and is the foundation on which we are able to [inaudible] I just discussed. Going forward, you can expect to see us emphasizing our quality in our marketing and on our website to a greater degree. We are proud of the quality of our academics and we believe it is this quality that enables us to create long term value for our stake holders.

With respect to pricing, we implemented selected price increases effective July 1. As expected, we did not realize as much impact on revenue from these increases during the fourth quarter as many students prepay for classes at the old rates in anticipation of increases. A year ago, we raised tuition prices for our Associates programs in early May so the timing of tuition rate increase comparisons isn’t completely apples to apples. We expect to see a positive impact from the price increases beginning in the first quarter and continuing throughout the year.

Reported net income for the fourth quarter was $230 million, resulting in earnings per share of $1.43. During the quarter, the Ninth Circuit Court vacated its earlier judgment associated with the Securities Class Action lawsuit in favor of Apollo. And as a result, we reversed the

$170 million charge in charges previously recorded. Also included in that income is a

$9.5 million gain as a result of a third party terminating their option to purchase our headquarters building in Phoenix.

Excluding these items as well as special items of $6.4 million a year ago, net income increased 12.5% to $120.5 million and earnings per share increased 21% to $0.75. The incremental gain in EPS is due to higher net income and fewer shares outstanding as a result of our share repurchase activity over the past 12 months. We want to note that approximately $0.04 of EPS in the fourth quarter of 2008 was due to lower share based compensation primarily as a result of the departure of our prior President in June of 2008.

Excluding the reversal of the $170 million in charges and special items a year ago our operating margin increased 180 basis points to 23.8% from 22% in the year ago quarter. This increase was driven by a 220 basis point improvement in instructional costs and services and a 200 basis point improvement in general administrative expenses, partially offset by a 250 basis point increase in selling [and] promotion.

Let’s look at the primary reasons for these changes. As a percentage of revenue, ICS declined 220 basis points to 43.6%, a significant improvement. This improvement was primarily driven by lower bad debt expense. On a comparable basis which reflects an adjustment to the 2007 amount to account for the bad debt reclassification that I have discussed on previous calls and as detailed in our SEC filings, bad debt expense as a percent of revenue declined 140 basis points to 3% from 4.4% a year ago.

The lower amount of bad debt is due to our continued focus on student retention, which has been steadily improving as well as our focus on collections. Selling and promotional expenses as a percent of revenue increased 250 basis points to 26.8%. The increase is due to an increase in enrollment counselors compensation, higher levels of advertising and other costs associated with our strategic marketing efforts, including Aptimus, all of which contributed to the 19.1% new degree enrollment growth that I mentioned earlier.

Enrollment counselors’ compensation related expenses accounted for 40 of the 250 basis point increase. This increase relates primarily to the increased hiring we did during the first half of 2008. Although we continue to selectively hire enrollment counselors, we are focusing our efforts on providing further support to our existing enrollment counselors to enable them to be more successful in converting leads to new students.

As a percentage of revenue, advertising costs increased 80 basis points, primarily due to an increase in Internet based advertising. The remaining increase in selling and promotional expenses is primarily related to our acquisition of Aptimus and other strategic marketing efforts we have placed, including those for Apollo Global and Insight schools.

Our [inaudible] costs on an absolute dollar basis as a percentage of revenue and relative to starts continue to be higher than we would like. However, our marketing team continues to make progress in a number of areas and we believe, over time, will help bring down our costs and give us more control over our brand. We measure this progress in several ways.

Most importantly, we closely monitor and evaluate which lead sources generate the lowest cost per new student. Our approach to marketing has become much more sophisticated since we brought it back in-house earlier this year.

Now G&A. As a percentage of revenue, G&A excluding special items of a year ago declined 200 basis points to 5.8% of revenue in the fourth quarter. As I indicated earlier, this reflects lower share based compensation expense associated with our prior President’s departure, which is the majority of the variance from a year ago. Additionally we experienced lower employee compensation as a result as compared to the third quarter, due in part to lower bonus expense which is also due to this departure.

For fiscal 2009, we currently expect share based compensation expense to be approximately $75 to $80 million. This amount fluctuates by quarter due to the timing of equity award grants and the required accelerated expense recognition for certain awards. With respect to income taxes, we expect our 2009 full year tax rate to be between 39.3% and 40%.

Now let’s turn to highlights on the balance sheet and our cash flow statement. Cash and marketable securities, excluding restricted cash, totaled approximately $511 million versus

$393 million a year ago. We generated approximately $158 million of cash flow from operations during the fourth quarter, bringing the total for the fiscal year to $726 million. The quarterly amount was offset by $25 million of CapEx and $23 million for the Apollo Global purchase of a majority stake in ULA.

Consistent with past quarters, our total allowance for [Doppler] accounts continues to exceed all receivables greater than 90 days old. Excluding approximately $30 million in receivables in our Apollo Global operations and the associated revenue, our DSO in the fourth quarter declined to 29 days from 38 days. This is primarily due to improvements in our processing time for the receipt of student financial aid and the write off of approximately $32 million previously reserved, uncollectible accounts receivable during the quarter.

Next let me address cohort default rate. The cohort default rate or CDR is a measurement used by the Department of Education to track the percentage of students who defaulted on their Stafford student loans within a specific timeframe. Last month, the DOE released the 2006 CDR and while the University of Phoenix rate declined slightly from 7.3% to 7.2%, Western International University’s rate increased from 11.4 to 27.4%.

The WIU rate increase primarily due to the start in the fall of 2004 of a then new Associates program at WIU, which in 2006 was transitioned to the University of Phoenix due to its broader capabilities to manage anticipated growth. As a result, we expect the University of Phoenix 2007 CDR to increase. While the actual 2007 rate will not be known until next September, our internal calculations suggest it will remain under 10%.

However, it’s important to note in the event that it does exceed 10%, we do not expect the resulting delay in disbursement of certain Title 4 funds to have a significant negative impact on either our cash flow or our operating results. The reason for this is is that the 30 day disbursement delay impacts only the first disbursement, the first time borrowers enrolled in their first year of school. In 2008 these disbursements represented less than 10% of our revenues.

Let me spend a minute providing an update on the current lending environment. This remains a hot topic as there are still concerns that consumers are unable to get student loans and this may be true in the private loan market, but at this time we are still not seeing any changes in our students’ ability to receive federal funding. In fact, in the last couple of months we’ve added two additional preferred lenders to bring their total to seven. Although this may actually become six at some point, due to the potential consolidation of Wells Fargo and Wachovia.

Also, the federal government recently extended the law that enables DOE to purchase student loans from lenders through June of 2010 which gives us comfort that our students will have access to the federal funding as needed through that time period. Private lending decreased in 2008 to approximately 3% of our revenue. As a result, we do not expect lending to affect our business in the near term.

The whole industry has witnessed a dramatic increase in the demand for federal student loans as Title 4 loan limits have increased and the availability of private loans and other sources has decreased. For us, this has resulted in more Title 4 payments versus cash payments, yielding an increase in our 90-10 Rule calculation to 82% in fiscal 2008. We have a plan in place which is targeted at maintaining this ratio below 90% and we will continue to monitor the situation closely.

On the regulatory front, in the course of other periodic update discussions we have had with the Department of Education we were informed that we, along with other institutions, will likely be the subject of an ordinary course focused program review during fiscal 2009.

Now before I turn the call over to Greg, I’d like to acknowledge and thank our over 18,000 employees and 26,000 faculty who spend their days focused on our mission of providing access to the highest quality education to our students. I would like to thank them for their incredible efforts which helped contribute to a very successful 2008. I’ll turn the call over now to Greg Cappelli.

Gregory W. Cappelli

Okay. Thanks Joe and good afternoon everyone. I’d also like to echo those sentiments with respect to our employees at all levels and in fact nothing’s been impressing me more over the past 19 months since getting into the company than the passion I see every day from the people working at this company.

Today I’d like to give you an update on the investments we’re making in both our core business as well as our newer business areas. And then secondly I’ll provide you some color on how we’re thinking about the timing of these investments looking into 2009.

First our core domestic business which as we’ve said in the past is our top priority for investment. Because of the high returns we generate in this area we continue to invest aggressively and broadly in the University of Phoenix. In particular, we continue to focus intensely on retention, where our investments include expanding programs, improving curriculum, and instructional innovation; expanding faculty training and mentoring; the selective use of discounts; and improving academic and support services for our students.

We also continue to build out our new resource centers in various locations throughout the U.S. Having a high quality product and multiple modalities is important, but you need to have a vehicle to get this message out and attract the right kinds of students into the right programs, albeit at an appropriate cost. As you know, we acquired Aptimus to execute on improvements in marketing, take better control and improve our brand image, and lower the cost of acquiring a student long term.

There is much hard work still to do but we are pleased with the result thus far and see the potential for really strong returns here in the long term. In addition to investing in the University of Phoenix, we continue to invest in new market opportunities and we hope to leverage our strength and experience in other markets as well.

Let me update you on the progress we’ve made at Apollo Global, Insight schools and Meritus. First Apollo Global, during the fourth quarter Apollo Global closed its second transaction. It acquired a 65% stake in the University of Latino America, or ULA at an applied enterprise value of $47 million. ULA is an accredited private university based in Mexico City. We’ve got an integration team in place and really look forward to working with an already very strong management team at this institution as well.

Apollo Global generated $13.4 million in revenue in fiscal ’08 and had an operating loss of

$1.9 million. We do expect meaningful revenue growth from Apollo Global in fiscal 2009, but given the current levels investments do not expect to reach profitability this fiscal year. Having said that, we are pleased with our first two acquisitions and we now have footprints in Chile and Mexico from which we expect to expand and further penetrate Latin America.

In addition, our pipeline remains robust and we continue to evaluate opportunities with our teams in other key geographies, including Brazil, Europe, China and India. We hope to be able to discuss some of these opportunities with you in the near future. And as previously noted we continue to be very disciplined with respect to strategy and valuation with our primary focus on creating long term shareholder value.

And we also continue to invest in our K-12 division in Insight schools, our online high school. As you’ll note when you see our 10-K we began reporting Insight as a separate segment this quarter. For the year Insight schools generated $7.5 million in revenue and had an operating loss of $18.9 million. Insight opened seven schools during the fiscal year and began the fiscal ’09 school year with 11 schools in ten states.

As we indicated last quarter, we expect Insight to generate fairly significant revenue growth in fiscal 2009 due to the additional schools, but because it’s in start up phase we expected to have a similar operating loss in 2009. It’s worthy to note that Insight and Apollo Global’s businesses incurred different seasonality than our core business as they operate on a traditional school year versus having classes year round. And in Chile for example the seasonal breaks are almost the opposite of those in the U.S.

Now quickly let me update you on Meritus, our Canadian online degree granting institution. We had our grand opening and ribbon cutting ceremony in September and we started our first cohort of students in October. As a reminder, Meritus was initially approved for three programs and we expect it to grow from there. We’re excited about the prospects of our first Canadian degree granting school and we’ll keep you updated accordingly.

Let me now update you on our share repurchase program. During fiscal ’08 we repurchased approximately 9.8 million shares at a weighted average price of $46.00 for a total expenditure of $454 million. This quarter we elected not to buy back our shares as we were evaluating our investment opportunities both domestically and abroad. In addition, we’re also cognizant of the meaningful destruction in the financial markets as well as the state of the economy.

Now that said, during fiscal ’08 we generated free cash flow and we define that as cash flow from operations less CapEx of about $621 million. That was a 28% increase over the prior year.

Including available borrowings under our credit facility, we now have over $1 billion in liquidity and we think that puts us in a strong financial position to fulfill our investment objectives going forward. As I’ve said in the past, we’ll continue to evaluate all of our future investment opportunities, utilizing our cash flow based valuation framework and that’ll include the potential to repurchase our shares.

So in conclusion 2008 was a rewarding year for us. We had a strong enrollment, revenue and cash flow growth year and we continue to experience positive momentum in these key areas. Because we remain focused on maximizing long term returns, fiscal ’09 will be another year where we invest aggressively in our existing and our newer businesses. This of course will use margin points as we build for the future.

And while we acknowledge that our increased investments have negatively impacted margins over the past couple of years, we are now starting to reap some of the benefits as demonstrated by our increased level of operating profit growth. And finally, despite our continued investments, we do not expect our operating margin to decline in fiscal year ’09 over the prior year. So we have a lot of work in front of us, but our mission and goals are clear. We’ve got excellent opportunities to invest around the globe and we look forward to updating you along the way.

With that, we’ll turn it over to the Operator so we can take any of your questions.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) Your first question comes from Sara Gubins – Merrill Lynch.

Sara Gubins – Merrill Lynch

Could you talk a bit about recent student demand trends over the past month or two? We’ve read a lot of articles about students trying to go into lower priced programs or broadening the market. I’m wondering if some students are taking anymore time off or essentially if you’re seeing any negative reaction to what’s happening in the broader economy?

Joe D'Amico

Well we haven’t seen any negative reaction as a result of the broader economy. The – as you see from our fourth quarter new student growth, it was very, very robust and significantly above where we’ve been. And we’re pleased with all the good things we’re doing from a marketing perspective. So at this stage, I would just say we’re happy with where we’re at and hope that the momentum continues into the future.

Sara Gubins – Merrill Lynch

And then corporate reimbursement trends, has there been any change there?

Joe D'Amico

Not that we can see on the corporate side, that is an area that we are focusing on and so right now we think that there is a significant opportunity in that part of the market, and up till now we haven’t – although we have of course always served the corporate environment, we are enhancing those efforts as we speak. So at this point we haven’t seen any issues and we’ll probably keep you posted on this as we go forward in the future.

Sara Gubins – Merrill Lynch

And is that true also for students who are coming to school on their own but getting reimbursed for some of their tuition by their employers?

Gregory W. Cappelli

I think we thought that that was what you were asking about.

Sara Gubins – Merrill Lynch

Oh it was. I just wasn’t sure if you were referring to doing programs specifically at companies as opposed to consumer getting corporate reimbursement. But that’s what – you did mean no change in corporate reimbursement for students who are coming on their own?

Joe D'Amico

Correct. No. Yes I wasn’t trying to make a distinction.

Sara Gubins – Merrill Lynch

The Bachelors new student enrollment growth was impressive and you mentioned that you were seeing traditional University of Phoenix degree completions unit [come] from there. I’m just wondering what’s leading to that improvement? Is it new programs? Is it better marketing efforts?

Joe D'Amico

You know I think it’s a combination of a lot of things that we’re doing. I think we want to watch this for the next few quarters and see how that progresses, if that now is the start of a trend or an aberration because we really can’t tell you today exactly what caused it. We know our graduates from our Associate program contribute to this and contribute in a better way but you know it’s not something that we at this point can say is the start of a new trend. It is absolutely a goal, and there is of course seasonality in that fourth quarter start.

Operator

Your next question comes from Mark Marostica – Piper Jaffray.

Mark Marostica – Piper Jaffray

I wanted to ask about the program review and I know you mentioned ordinary course, but I was wondering if you have any sense for what specifically the Department might be aiming at as their goals at the review?

Joe D'Amico

No, we don’t have a sense of exactly where they intend to focus. All we know is that it is a focused review. We know also that they have been as a Department looking at having a more let’s say sophisticated way or a way of approaching the companies that they oversee, looking at risk factors and a variety of things. With the University of Phoenix being the largest Title 4 recipient in the country, this is not unexpected for us.

Mark Marostica – Piper Jaffray

A question on the hiring of enrollment counselors Joe you did mention that you expect to continue to invest there. I’m curious based on your current level of enrollment counts, where you’re at today and what your hiring plans are for ’09?

Joe D'Amico

Mark I think that we have looked at this carefully and we’re selectively hiring, but I believe as I said in the prepared remarks what we’re really focused on is providing the tools to our existing enrollment counselors and hope that that will enable them to effectively be very successful in converting students. And we’re seeing some of that progress today. So we of course don’t give out what our hiring plans are, but we’ll watch that closely and make sure we have the level of enrollment counselors that we need to support the growth that we’re experiencing.

Mark Marostica – Piper Jaffray

Greg you walked through a number of reasons for improved persistence based on the company’s focus. Is there any one or two of those that are driving in your minds the improved persistence in the quarter?

Gregory W. Cappelli

You know what, I’ll answer that by saying I think there’s just an attitude and a you know we’re on a mission here. We really want to support the student and every one of our people believes that and understands that mission. And so we’re that’s really the way we’re operating now as an organization and I think that’s paying off, paying some dividends. There have been and are continue to be a number of let’s say specific things that we’re doing, but it’s very, very hard to say that there’s one that’s outdoing the other.

But I’m pleased to say that there are just – you know, we care about the student. I think that comes across to the student. We help them in any way we can. And I think that’s showing up in the retention.

And Mark from an investment standpoint, yes, a period of time ago we committed to making an increased investment in that area and we’ve done that. And it’s used some points of margin but we think it’s showing results that are acceptable to us. So we’re looking forward to hopefully driving more going forward.

Operator

Your next question comes from Kevin Doherty – Banc of America Securities.

Kevin Doherty – Banc of America Securities

I know it’s difficult to isolate the economic impact on enrollments and you mentioned that, but has there been any change in the profile of some of those new students? Are they gravitating toward certain types of degree programs? Any demographic changes that you might have witnessed?

Joe D'Amico

Nothing specific, Kevin that I can point to. What we are going to look deeper into that. One of the things is that we have obviously an increase in the Bachelor program. I don’t know if that’s in part from what’s going on in the economy. Chas did you want to add something?

Charles B. Edelstein

Well I would say you mentioned demographics, and of course there is an impact on age when you see the mix of degrees that we have and we may be seeing some decrease in age as well, in terms of demographics.

Kevin Doherty – Banc of America Securities

I know in the past you’ve kind of broken out a little larger population you serve. You’ve talked about over 500,000 students and I guess some of those are just students who have had some relationship with Apollo but aren’t actively in classes, whether they’re on some sort of break. Could you just talk about have you seen any changes from those folks as you look to re-engage them? Has that been a driver of growth recently? Or has your growth primarily just come from new leads coming into the company?

Gregory W. Cappelli

When you look at where the growth has come from, it’s pretty broad based and then obviously we were pleased to see that the Bachelor programs picked up. How that trend is going to continue, some of it will depend on the matriculation rate from Axia, which continues to go in the right direction as well. And the programs that we add in certain areas. What we’ve not started to do yet is specifically target right colleges in terms of marketing or specific degree program areas in terms of marketing, which is something that’s being evaluated from an investment standpoint going forward.

So that has the potential to move the mix a little bit as well going forward in terms of the other programs outside the Axia area.

Joe D'Amico

And I think the re-entry of students is something that’s been going on here for many, many, many years and it’s just a part of our normal operation. I don’t know that we’ve seen any differing trends there.

Kevin Doherty – Banc of America Securities

And then just a question on pricing. You mentioned you’re not really expecting much of a boost in 4Q just given how the prepays work, but how should we think about the impact as we move through ’09 just as those increases kind of work their way through the rest of the enrollment base?

Joe D'Amico

Well we certainly expect to begin to see some impact in Q1. It won’t be the full impact, but then into Q2 and Q3 we expect then to begin to see the full impacts of the increases.

Gregory W. Cappelli

And Kevin what we focus on is you know the price increases for Associates as well as what we did for Bachelors and Masters, and the key is you can raise price, it takes a little bit of time to see what the average revenue per student is doing because to some extent you have to look at retention for those programs as it flows through for the year.

Operator

Your next question comes from Suzanne Stein – Morgan Stanley.

Suzanne Stein – Morgan Stanley

Can you give us some more color on the increase to the 82% federal loan percentage? I kind of recall that number being in the mid-60% range and I thought it remained fairly steady, so maybe you could just shed some light on what’s driving it if it’s not a decline in corporate reimbursement?

Joe D'Amico

First of all it was approximately 70% in the past and a couple of things maybe to understand about corporate reimbursement. There is – first of all, if a student is getting reimbursement from their employer, they can also apply for Title 4 funds. So part of this is are they paying Apollo or University of Phoenix direct or is the student paying us, students being reimbursed by their company? And this actually opens up one of the areas where we say we have plans in place to address this.

That’s one of the things that we could potentially change is whether we are being paid directly by the employer versus the employee. Again – and the employee can get Title 4 funds, so even though it’s a corporate item it shows up in the numbers as a Title 4 reimbursement. So that’s I think one of the answers to your question.

Suzanne Stein – Morgan Stanley

Another question on advertising cost, I know you’re seeing total spend up but is that volume driven? Are you seeing any improvement in rates across your channels?

Joe D'Amico

There is some softening in rates, and I know that others are reporting that. We’ve been spending our money and gearing our money more toward some of the what we call the direct advertisers so the Google, Yahoos, My Space and so on. And so in those channels the softness has not been as great. But having said that the conversion rates are higher. And so there is a quality aspect and we’re looking at all of our advertising spend and looking at it more on a cost per start basis and also in the future we’ll be looking at it as in terms of not only cost per start but how do the students from that particular source persist?

So we’re getting a little more sophisticated is how we look at this.

Charles B. Edelstein

I think the other thing you’ll see in our numbers overall is that we’re making some investments in branding and those issues and you’ll see that in what we’re going to put some dollars against here in the past quarter as well as some quarters ahead.

Operator

Your next question comes from Andrew Steinerman – J.P. Morgan.

Andrew Steinerman – J.P. Morgan

I know there was a thought within the company at some point that working adult education would be less counter-cyclical than other areas of post-secondary, but in the intro remarks today there surely was the comments of some help of this great growth is coming from the economic backdrop. Could you give us a little thought on is your business benefiting from the economy a little bit and most of it is Apollo’s efforts? How is the split between those two?

Joe D'Amico

I would really love to be able to give you some precise breakdown on that but honestly we really don’t know. It’s just difficult for us to sort that out, especially right now. We have to watch this over time and maybe we’ll be able to shed some further light on that at some point down the road, but today we really can’t tell you exactly what’s causing the up tick.

Gregory W. Cappelli

I would tell you Andrew looking at it over the past sort of 13, 14 years in the company sort of grew pretty consistently in good and bad times from an economy standpoint, so it’s something we’re looking at pretty closely. Obviously we’d like to think a lot of the efforts we’ve talked about over the past three, four, five quarters are having an impact. You just don’t know how much of it is from that and if you’re getting a boost from the economy to a percentage detail. What I think we do know is that from an employee turnover perspective it’s probably giving us some help there.

Dr. John Sperling

One other observation I think as we look at our competition and we look at sort of their growth and if you go back three or so quarters we weren’t keeping up. Today we’re keeping up, I think anyway. It feels that way and I think that tells us that we are doing a number of things right, even if the economy is helping us we absolutely have to be an institution of choice. And that’s certainly what we want to be and expect to be. And I think our marketing efforts are absolutely contributing to it. So I feel like we’re now keeping pace and at some point we hope to actually maybe accelerate that – the competition, that is. [inaudible] market share.

Operator

Your next question comes from Amy Junker – Robert W. Baird & Co., Inc.

Amy Junker – Robert W. Baird & Co., Inc.

I just wanted to actually follow up on Sara’s question and maybe look at it from the flip side. She had talked about are more students taking time off. I’m actually wondering if given the weakening economy you might be seeing perhaps better matriculation from Axia into the Bachelors than you might have thought, meaning students aren’t taking the time off because there are no jobs to be had and the economy is tough. Do you have any sense if that perhaps is driving some of the Bachelors growth; is just better matriculation from Axia at a faster pace?

Joe D'Amico

Well the trend line continues to be up in that, so we’re pleased with it. But I don’t sense that there is an abnormal growth in the matriculation from our Associates program into our Bachelors program. It’s steady, it’s positive, and we’re pleased with it but I don’t see it [particularly] accelerated.

Gregory W. Cappelli

In fact, more of our growth in Bachelors was from outside matriculation than it was from the matriculation.

Amy Junker – Robert W. Baird & Co., Inc.

Of those students that are matriculating, any pushback on increase in price between Axia and University of Phoenix particularly in the face of a more challenging, private lending environment? Have you perhaps been giving more discounts to those students to encourage them to matriculate?

Joe D'Amico

Well we do have a discount program for that group if they stay in the program, but we’re not experiencing as far as we have heard any real pushback on that. There’s Title 4 funds available to them and the differential after our price increases between our Bachelor program and our Associates program is narrowed. So maybe that’s helping too.

Operator

Your next question comes from Andrew Fones – UBS.

Andrew Fones – UBS

Are you seeing an increase in the portion of students that are matriculating from the Associate into the Bachelors program? Or is the growth just purely being driven by an increase in the number of Associate students graduating?

Joe D'Amico

We’re pleased with the trend line there. We continue to see matriculation. But as we said the majority of the increase came from just direct into our Bachelors program. I don’t know that I can add any other color to that. Do any of you have anything to add to it?

Gregory W. Cappelli

No. I think that’s right.

Andrew Fones – UBS

And then you mentioned the impact Aptimus was having on the quality of your leads. Can you give us any kind of [bullets] on conversion trends? That would be very helpful. Thanks.

Joe D'Amico

Well I’ll just give you directionally. Definitely better. And I think the quality of our leads have improved. I think the way we evaluate and look at what Aptimus is doing and the successes from all of our internal ways of looking at it, we’re very pleased. I mentioned that I think we’re getting a bigger gain out of people going to our website. That’s been very positive. And we’ve made changes to the website. And that’s been driven by the Aptimus folks. So we’re doing a number of things that are leading to higher conversion rates.

Gregory W. Cappelli

Definitely more analytics and sophistication [around] search as well is having an impact, Andrew.

Operator

Your next question comes from Gary Bisbee – Barclay’s Capital.

Gary Bisbee – Barclay’s Capital

Greg you said operating margins won’t decline year-over-year in ’09. Given the pricing it seems to me it’s going to add in the ballpark of $100 million to the top line and $50 million of cost saves you highlighted last quarter. It would take a heck of a lot of investment for those two things to not contribute to a meaningful or at least reasonably year-over-year margin increase. So I guess I wanted a little more color and if you the levels of reinvestment are going to be so large that margins might not go up a lot, I’d love to understand where that’s coming from.

Gregory W. Cappelli

Gary they do have the opportunity to go up but we are investing a lot. And don’t forget not just into the new businesses we’ve talked about but into the core business as well. So you’re right I think in looking at it that way that we do have the opportunity for margin improvement. I think we’re comfortable saying at this point that we don’t think it’s going to be down. If it’s up great.

The way we’re focused on managing this business in total at the senior management level and beyond is we’re looking at the opportunities that are out there, we’re taking a long term approach, we’re thinking thoughtfully about the investments we have to make so that we can maximize returns over a three to five year period. So that’s the way we’re looking at the margin will be what it is. Now you’re right. It would be great if there would be some margin improvement this year.

We’re not committing to that and we’re not certainly giving guidance on that. But we don’t think it’s going to be down. If it’s up that’ll be terrific.

Gary Bisbee – Barclay’s Capital

You gave a sum range of what we should expect for a couple of the growth businesses. I guess I just asked for a little color on Meritus. Is that a substantial spend in terms of the initial marketing push? Or are we talking $2 million here or there?

Gregory W. Cappelli

Yes, that’s not one of the more – there are dollars going into that and those dollars will increase in fiscal ’09, but that’s not going to be as substantial as say Insight schools will be.

Charles B. Edelstein

Or certainly not as substantial as our core business, what we’re investing in marketing and sort of the engine that’s driving it. That’s in terms of dollars. That’s where your larger categories are.

Gary Bisbee – Barclay’s Capital

I guess if I could ask a high level question on the cohort default rate issue, I hear your explanation on the call and what you’ve said prior to that. I guess what the question in my mind is if the default rates were so high at Axia, even if they come down fairly substantially from that number that was reported, it sort of begs the question is the value proposition real and attractive for students? I guess – wondering what you could say to prove this or do you have any data?

Have you talked to grads? Is there a segment of the market you are focusing this on that you’ve done background research on or anything you could say to get me comfortable that despite that high cohort default rate it’s a value proposition for the growth part of the business is really strong?

Charles B. Edelstein

I think one thing to take into consideration is that this is the first major impact that the first cohort that is in these numbers for WIU and it was brand new at the time. And when you have a brand new program, especially one that is reaching a different type of student than we’ve say targeted before, it’s not going to be perfect. Your curriculum it needs to be adjusted. And what I mean by that is, for example, the first courses may have been too hard. So a student drops out. And one thing to know is that all you need to have somebody in that cohort is a dollar that doesn’t get repaid back.

So that could be small dollars involved with this. It’s the numbers that are the key. And you should know that we are looking at the Associates program and have been putting a great deal of effort, this goes to investments that you don’t see, we don’t talk about a lot. But we’re looking at. Are there tweaks we should make to our program for the Associates to even get better results? And by the way we’re very pleased with the results. And I do not think the cohort default rate for WIU which was also based on a very small population of WIU is very, very small.

When they get combined with us it’s they’re at this point relatively small to the rest of our for the University of Phoenix. So there’s a lot of factors going into this and lastly it’s just if we even get over the 10% it’s just not significant.

Gregory W. Cappelli

Gary just to answer the second part of your question, yes we do survey our students. We are doing an analysis internally about the value proposition and obviously the feedback that we’ve gotten and the value that we think is being added is there. One way to look at the way – I mean, when it started originally, remember it was at a different institution at WIU. And they do things differently than we do at the University of Phoenix, which had been in place to handle larger numbers for a much longer period of time with more sophistication around how to handle students in general.

And so there’s a tremendous amount of analysis being done and looking at the value equation and the value proposition from these students over time. And you can look at them on their own, as stand alone students in just the two year Associates program and the value if they go on for another two years for a Bachelors program. In either case if we didn’t think they were creating value for us the program wouldn’t continue.

Operator

Your next question comes from Jerry Herman – Stifel Nicolaus & Company, Inc.

Jerry Herman – Stifel Nicolaus & Company, Inc.

First question’s about the student volume and outcomes, the numbers that you guys reported were the biggest we’ve seen in several years. That kind of rings back to the old days and I guess the question is your confidence in the ability for the retention programs to keep up with that growth now that it’s become a focus and just the ability to keep those students relative to what it was a few years ago?

Joe D'Amico

We feel the quality of these starts is if you will these students is as good as it has been in the last several quarters and there we’ve seen the improvement in persistence. And so we do have to monitor closely our staffing for this because of the growth, but I do also believe that our people are well equipped and well positioned to manage the growth that we have here. We certainly are not trying to grow beyond our means. So I don’t expect but I can’t guarantee, but it certainly is going to work hard to retain the students that have come into our curriculum.

Jerry Herman – Stifel Nicolaus & Company, Inc.

Just a quick follow up on the cohort default rate. You guys have alluded to the significant changes in that program since it was first introduced. Is there any way to measure retention in that program then versus now? Any metrics that might measure how much they have improved then versus now so as to have a favorable impact on CER?

Joe D'Amico

I think when we get into the 2007 cohort period we will look at the breakdown of the Associate students and what they contribute to the cohort default rate versus perhaps what it was under WIU, but I do think we’ve made a number of changes that do impact this and I don’t see it to be a problem.

Charles B. Edelstein

One of the things that may help clarify it is that we’ve done of course some preliminary analysis on this and from our perspective; it seems that the default rate is managed by process. Default rate management programs that we had in place at the University of Phoenix that were not the same programs that were in place at WIU and our preliminary analysis is showing us some impact of the process that we have. And that’s the basis of the statement that we’re making. So it’s not without doing some work around it.

Joe D'Amico

We have people responsible for managing that very issue. Fault rate management. But long before – and not for just dealing with any increase that came from WIU. The people have been around for awhile at the University of Phoenix.

Gregory W. Cappelli

And I think Joe as you noted before sort of a real time check for us, because of course you can’t know exactly what’s going to be next year at the time, but that’s why you pay such close attention to persistence and for us retention internally. You go along the way.

Jerry Herman – Stifel Nicolaus & Company, Inc.

I’m not looking for a lot here, but can you guys just talk about your cash management and strategy in light of the lawsuit of the [keytem]?

Gregory W. Cappelli

I’m assuming – are you talking about cash management from a balance sheet perspective and how much we have on hand in our investment?

Jerry Herman – Stifel Nicolaus & Company, Inc.

Right. And how you think about that relative to the risk of potentially losing some?

Gregory W. Cappelli

We have $1.3 billion in cash and borrowing capacity today that continues to grow. We certainly don’t intend to use that to pay to litigants but if – but we feel good about the strength of this company for sure. And we’re spending money to defend ourselves in a lot of different ways with respect to that suit which we hope to win.

Charles B. Edelstein

It’s a good question, Jerry, and we’re trying to be prudent with our liquidity and what not. And I think we all agree we have been to this point.

Operator

Your next question comes from Jeffrey Silber – BMO Capital Markets.

Jeffrey Silber – BMO Capital Markets

I had a question on selling and promotion. I just want to clarify something. In the press release you talk about selling and promotional costs as going up in the near term. I’m assuming you’re referring to it as a percentage of revenues? If you could just confirm that. And I’m not sure if you’re going to quantify it but how high can this go? I mean it seems to go up every year. Do you have some sort of goal in mind in terms of how high you’re going to let that increase?

Joe D'Amico

Well one thing to consider when you look at selling and promotion, this year first quarter of next year over first quarter of this year is that we cut the advertising spend in the first quarter last year because we were taking over – Aptimus was transitioning in for Ad.com. So we spent less last year than we probably otherwise would have in a normal situation. I think we actually commented on that back awhile ago. But I think that we have a plan in place. It’s to achieve certain objectives.

We’re investing in those today and in the near term to achieve those objectives. And we believe once we do that you will all see that and hopefully be very pleased with the investment that we made.

Gregory W. Cappelli

Jeff you asked about our goal and how high can it go and to be clear, the reason we’re making these investments in marketing is because we have a goal to reduce marketing expenses and increase our efficiencies, even though that expenditure in the near term won’t accomplish that goal tomorrow. The goal is not to find a level that’s higher and stay there but over time to come down.

Jeffrey Silber – BMO Capital Markets

What are you budgeting for capital spending in the current fiscal year, fiscal ’09?

Joe D'Amico

Well the spend I think will be probably above last year but not substantially. Its $100 million plus.

Jeffrey Silber – BMO Capital Markets

The enrollment data that you just released, does that include or exclude any enrollment beyond the core business, Apollo Global, etc?

Joe D'Amico

This is just the University of Phoenix enrollment numbers we reported.

Jeffrey Silber – BMO Capital Markets

Are you going to be reporting on Apollo Global or any of the other facilities enrollments in the future?

Joe D'Amico

If it became significant and important in our view then we would certainly consider that, but at the moment we have no plans to do so. We actually think we’ve disclosed quite a bit more than many other of our competitors, so we’re trying to manage that a little bit as well.

Brian Swartz

Jeff and just to be clear the enrollment starts number include the University of Phoenix and also any students at the Associate level at WIU which is the students are still there as a result of the Associates program starting –

Joe D'Amico

Very small numbers. Very, very small. It’s a modest number and declining every quarter. It’s the original Associate degree people that are completing.

Operator

Your next question comes from Trace Urdan – Signal Hill Group, LLC.

Trace Urdan – Signal Hill Group, LLC

I’m cognizant of the fact that we’re talking about August data here but the world has changed pretty significantly since then. I’m wondering if you have experienced any phenomenon where some of the students that are employees at certain companies have been laid off and what the implications of that are. And maybe whether you’ve done any kind of risk analysis by looking at your concentration among different employers? And what you might be prepared to do for those students in the event that they do get laid off?

Gregory W. Cappelli

So your question Trace just to clarify is you’re asking about companies whose employees may be going to school at the University of Phoenix?

Trace Urdan – Signal Hill Group, LLC

You’ve been asked about corporate reimbursements and I understand that you haven’t seen anybody sort of cut back on their program, but I’m more concerned about the possibility that people who are benefiting from corporate reimbursement programs might start to get laid off. And I’m wondering what kind of thought you’ve put into that possibility and whether you would in that circumstance, if it became significant, actually step up and lend to those students if they were finding that all of a sudden they had a gap emerge as a result of that?

Joe D'Amico

Well Trace the students today; let’s say if they were in our Associates program –

Trace Urdan – Signal Hill Group, LLC

I’m really focused on Bachelors and Masters program with this question.

Joe D'Amico

Oh okay.

Gregory W. Cappelli

Trace the first part of your question; are we doing some work and analysis around that? We are talking to corporations and we do look at the levels of reimbursement that they offer. I would say in general the average hasn’t changed much. I’m sure you know that in terms of what that level is of around $5,200. Would we start to use our balance sheet to fund them if they do get laid off? To this point we’ve not decided to do that. And that’s something that we’ve stayed away from in the past. So at this point the answer is no to that.

Trace Urdan – Signal Hill Group, LLC

Can you tell us maybe what kind of concentration you have by employer? I mean, does it get meaningful with any specific sort of Fortune 500 type companies?

Gregory W. Cappelli

No. It’s a good question. It really doesn’t. And Joe you may want to talk about we’ve got a fantastic new and strong effort there to actually grow that program. And I don’t know if you want any more color, Joe?

Joe D'Amico

Right. With our size there isn’t a single employer that moved the needle one way or the other. And generally if someone is laid off, sometimes especially if they’re in a higher degree program, part of the severance or part of the departure is to continue to support the education for a period of time as well.

Trace Urdan – Signal Hill Group, LLC

Sorry, I didn’t really understand what that last part was getting at. Continue to support the education? What do you mean?

Joe D'Amico

As part of the severance, the – sometimes –

Trace Urdan – Signal Hill Group, LLC

Oh I see. That’s a typical provision with in those programs, is your experience?

Joe D'Amico

I’m not trying to say it’s a typical provision. I’m just trying to point out that that is one of the things that we know occurs when people are laid off.

Operator

Your next question comes from Brandon Dobell – William Blair & Company, LLC.

Brandon Dobell – William Blair & Company, LLC

On the past couple calls you guys have talked about a number of initiatives to improve retention and I was hoping to get a little more color on some of those things like student resource centers where you stand with those in terms of numbers and your expectations? The first class audit kind of program? Maybe some back end discounts, people who complete the programs, just kind of a broader brush at what some of those bigger initiatives are and how they’re turning for you.

Gregory W. Cappelli

Brandon in terms of the resource centers we haven’t given that number out exactly every quarter but the number does continue to grow. And I would say we’re pleased with the early results that we’re seeing there. You know, not only from a retention standpoint but from a conversion standpoint as well. So we’re really excited about what this program might be able to do on both fronts around the country. I’m sorry, what were the other questions you had behind that?

Brandon Dobell – William Blair & Company, LLC

There was some talk awhile back about letting prospective students check out a course and decide if they wanted to continue with the program as maybe a potential way to avoid some of the early attrition numbers that were so difficult to get by. What’s your thought process around that? And I guess at the back end is there any thought on what kind of back end loaded discounts for completion? Those kinds of things.

Joe D'Amico

We have used the backend discounts as one of the incentives to help in certain isolated situations, but the retention techniques that we’re using are – there are several, they all focus really on the people who have the day-to-day contact with our students to understand what the issues are, to make sure that if we see trends developing that we’ve put in place, real action, real substantive changes or processes to address those needs. So that could be tutoring. It could be need to discuss something with a faculty member. Somebody who’s struggling because of a death in the family, helping them through that.

It’s really looking at the student and trying to help them cope with working and everyday life and getting through the programs.

Brandon Dobell – William Blair & Company, LLC

As you look at your enrollment counts that are cohort I guess you want to call it that, how satisfied are you with productivity or if you can kind of scale for us where are you along that productivity curve? Are we talking second or third inning or do you think you’ve got a lot of room or is it sixth or seventh inning, you’ve got some tweaks to make but there’s growth more from headcount versus productivity going forward?

Joe D'Amico

I think we’re very pleased with progress that we’re making. I think we’re in the earlier innings if you will. I think there’s a lot we can do. I think that has to be proven, though. And we will monitor our activities and what we’re doing with our enrollment counselors and based on that decide how to proceed. But today we’re very pleased with the progress that we’re making.

Gregory W. Cappelli

Brandon I think that’s one of the reasons in Joe’s prepared remarks he was talking about our expectation that hiring of enrollment counselors in the near term will be only selective. But a focus is really in giving enrollment counselors the tools they need.

Operator

Your next question comes from Corey Greendale – First Analysis Corp.

Corey Greendale – First Analysis Corp.

First question is I believe Joe on a previous call when you brought up the topic or someone brought up the topic of direct lending you said you thought it would be difficult for the program to handle, a school of your size. Could you just kind of revisit that? Have you looking into the direct lending program at all do you think it would be possible if necessary?

Joe D'Amico

Yes. It’s a good question. We did in fact I’ve had direct conversations with the Department about it. We have applied to go direct and we have begun the process with one of our programs. And what I communicated to the Department is that we may accelerate that to do a little bit of stress testing. They were a little bit concerned by that, but we will work it out with them. They understand that we could overwhelm them. So we’ve had a discussion and we have some plans in place so that, in the unlikely event of a water landing, that we’re prepared to get through this.

Corey Greendale – First Analysis Corp.

In this kind of economic environment, thinking specifically of Axia, do you think that not offering job placement services could put you at a competitive disadvantage in a sense that you would consider doing?

Joe D'Amico

Another very good question. We won’t be doing job placement I don’t think, certainly not in the near term. But we are thinking about different ways of being helpful to our students during difficult times.

Gregory W. Cappelli

To be clear we believe that the majority of our students continue to be working adults.

Joe D'Amico

Yes, absolutely.

Gregory W. Cappelli

You know whether it’s Associates program or the more advanced degrees.

Joe D'Amico

Very good point.

Corey Greendale – First Analysis Corp.

And then if I could revisit Greg your answer to I think it was Gary Bisbee’s question talking about the margins? I know that you’re looking at the business on a return on capital from a return on capital perspective in three to five years. But in general if there are sort of larger investments such that margin is flat year-over-year even though you’ve got the pricing and the good enrollment, but would you expect that those greater investments would be accompanied by commensurate greater revenue results?

Or could it be that we’d see a quarter where you’d invest in stuff and the revenue trend line not up as much with the expectation that you’d get that return in two years?

Gregory W. Cappelli

Well let me say it this way. The expectation is to as I said before invest for the long term. And we’re not looking not to grow the margins in this business. You know the comment was just around how do we think about that the investment we’re going to put to work? And we think of it like a matrix, where you know on the one hand you look at “could we get the margin to a certain point by next year?” Yes, we probably could. However, what do you give up in terms of the outwarding profit growth you might be able to generate over a longer period of time?

And we look at that analysis regularly and if that analysis suggests that we’re going to drive more cash flow to you, the shareholders, and therefore more value to the company, we’d rather go that route. I hope that makes sense. In other words, we’re looking to maximize the value we drive. So it’s not just a guess in terms of what we might be doing near term. All that being said, you know, I got the question not too long ago, “well would you guys intentionally spend away any extra profits that might be dropping to the bottom line to show [inaudible]?”

And the answer to that is no. It’s a combination. It’s a mix. And hopefully that explains the way we’re looking at it.

Corey Greendale – First Analysis Corp.

Maybe for Brian, do you know which specific line of the costs break out the gain on the termination sale lease back is running through?

Brian Swartz

That’s actually below the line so it’s sitting in – it’s not included in the operating margin or income from operations. It’s down below and not operating income.

Operator

Your next question comes from [Unidentified Analyst] – Oppenheimer & Co.

Unidentified Analyst – Oppenheimer & Co.

I have a question on the discount. So your discount is a percent of total gross revenue has been increasing a bit year-over-year, so just wonder what your plan for next year? Should we expect them to be flat or should we expect them to be up at maybe 1 to 2% year-over-year considering the current environment and maybe we’ll see you increase your prices?

Joe D'Amico

We really don’t give guidance on individual lines or numbers like that. I think that discounts will – are a component of our retention efforts and those continue to improve, so whatever we spend if you will in that area, we look for a return on that. So we expect to have that hit the bottom line. And we sometimes have pilot programs that we test and the like.

Oh again looking to get to the better retention. And military is one of the larger items that’s included in discounts, and of course we feel that that’s a good investment for a lot of different reasons, especially today. So I don’t think I can give you much more than that kind of color.

Gregory W. Cappelli

It’s probably fair to say that it’s less likely given with what’s happened with Title, the increases in Title or financial aid, that you’d see those go up significantly discounts over the next couple of years.

Joe D'Amico

Yes that is a good point. Because of the increase in Title 4, maybe the level of discounts don’t have to be as great as well.

Unidentified Analyst – Oppenheimer & Co.

So can you give us some idea of when do you expect this expense as a percent of revenue to come down? You did say that in near term it will go up but long term you expect them to go down? So should we expect overall FY ’09 will be flat or do you think it may take some longer term?

Joe D'Amico

Yes again unfortunately I can’t give you a lot more guidance than what I’ve said there. In the near term we don’t expect to see that go down, but certainly over the longer term we do. Exactly where that line is going to cross I can’t quite say today.

Operator

And the last question comes from Jennifer [Child] – Credit Suisse.

Jennifer [Child] – Credit Suisse

What gives you confidence that you won’t break through the 10% CDR threshold at this point versus a couple of weeks ago or so when you guys were a lot more uncertain about where you might fall out? Are there some new initiatives that you plan to undertake to influence these numbers or something else?

Joe D'Amico

No, we begin to get data now since the year for defaults ends September 30, so we’ve been getting data right along to have a sense of where the default rate will come out. We don’t have full and total data, which is why we can’t give you a guarantee, but based on our analysis we don’t believe we will get the 10%.

Gregory W. Cappelli

I think maybe the more important issue even to take away from the commentary that Joe gave up front, Jen, was the fact that let’s say it does, I mean we don’t have perfect visibility but if it does, you know, what we did a lot of analysis around what kind of an impact would that have on us financially if it did breach 10%? And that’s what we got some additional color on and comfort on.

Jennifer [Child] – Credit Suisse

I know you said you weren’t pleased with the level of marketing spending, but taking out the investment spending included in that did your cost per start increase significantly in the quarter?

Joe D'Amico

You know, we don’t really take out the investments. That’s not the way we think about the analysis, so we – it’s not a specific analysis that we do.

Operator

I’d like to turn the call back over to Chas Edelstein for closing comments.

Charles B. Edelstein

Well thanks very much. It was great to be with you all and let me just say that we appreciate your support and the time you spent with us on this call and look forward to talking with you, with many of you in the weeks and months ahead. Thanks very much.

Operator

That concludes today’s conference call. You may now disconnect.

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Source: Apollo Group, Inc. F4Q 2008 (Qtr End 8/31/2008) Earnings Call Transcript
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