Strayer Education, Inc. Q3 2008 Earnings Call Transcript

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 |  About: Strayer Education, Inc. (STRA)
by: SA Transcripts

Strayer Education, Inc. (NASDAQ:STRA)

Q3 2008 Earnings Call Transcript

October 30, 2008, 10:00 am ET

Executives

Sonya Udler – SVP, Corporate Communications

Robert Silberman – Chairman and CEO

Mark Brown – EVP and CFO

Analysts

Kevin Doherty – Banc of America Securities

Mark Marostica – Piper Jaffray

Susie Stein – Morgan Stanley

Bob Craig – Stifel Nicolaus

Amy Junker – Robert W. Baird

Andrew Fones – UBS

Gary Bisbee – Barclays Capital

Andrew Steinerman – JP Morgan

Cory Greendale – First Analysis

Trace Urdan – Signal Hill

Jennifer Childe – Credit Suisse

Operator

Good morning, everyone and welcome to Strayer Education Incorporated Third Quarter Earnings Results Conference Call. Today's call is being recorded. Following today's presentation, we will offer the opportunity for questions and answers.

At this time, for opening remarks and introductions, I'd like to turn the call over to Strayer Education's Senior Vice President of Corporate Communications, Ms. Sonya Udler. Ms. Udler, please go ahead.

Sonya Udler

Good morning. With us today to discuss the results are Robert Silberman, Chairman and Chief Executive Officer for Strayer Education and Mark Brown, Executive Vice President and Chief Financial Officer.

For those of you that wish to listen to the conference via the internet, please go to strayereducation.com where the call will be archived for 90 days. If you are unable to listen to the call in real time, a replay will be available beginning today at 1:00 p.m. Eastern Time through Monday, November 3rd. The replay is available at 888-203-1112, pass code 2137249.

Following Strayer's remarks, we will open the call for questions-and-answers. Please note that today's press release contains statements that are forward-looking and are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act. The statements are based on the company's current expectations and are subject to a number of uncertainties and risks that the company has identified in the press release and that could cause the company's actual results to differ materially. Further information about these and other relevant uncertainties may be found in the company's annual report on Form 10-K and its other filings with the Securities and Exchange Commission.

And now I'd like to turn the call over to Rob. Rob, please go ahead.

Robert Silberman

Thank you, Sonya, and good morning ladies and gentlemen. As is our custom, I'd like to begin this morning with a brief overview of both our company and our business model for any listeners who are new to Strayer. I'll then ask Mark to report on the detailed financial results for the third quarter, after which I'll comment on our enrolment results for the fall academic term. I'd like to provide an update on our growth strategies and discuss the company's earnings outlook for both Q4 and for the full year 2008. And then finally, Mark and I would like to share our thoughts on Strayer's business model and our investment plans for 2009.

Strayer Education, Inc. is an education service company, it's primary asset is Strayer University, a 45,000 student, 60 campus post secondary education institution which offers Associates, Bachelors, and Masters Degrees in Business Administration, Accounting, Computer Science, Public Administration and Education. Strayer students are working adults who are returning to school to further their careers. Our revenue comes from tuition payments and associated fees. Approximately 65% of our students are receiving federally insured title for loans.

Our expenses include the costs of our professors, our admissions and administrative staff, marketing expenses, and facilities and supplies costs. We currently operate campuses in 13 states in the eastern half of the United States as well as we serve students throughout the world over the internet. We serve them in over 50 states – I'm sorry, in all 50 states and over 30 foreign countries with our online courses. Strayer University is accredited by the Middle States Commission on Higher Education.

Mark, do you want to run through the financials?

Mark Brown

Sure. Revenues for the three months ended September 30th 2008 increased 25% to $87 million, compared to $69.8 million for the same period in 2007 due to increased enrolment and a 5% tuition increase which commenced in January of 2008.

Income from operations was $18.3 million compared to $13.1 million for the same period in 2007, an increase of 40%. Operating income margin was 21% compared to 18.7% for the same period in 2007. Net income was $11.8 million compared to $9.3 million for the same period in '07, an increase of 27%.

Diluted earnings per share was $0.83 compared to $0.64 for the same period in '07, an increase of 30%. Diluted weighted average shares outstanding decreased to 14,240,000 from 14,557,000 for the same period in '07.

Turning to the nine months, revenue increased 23% to $282 million compared to $229 million for the same period in '07 due to increased enrolment and a 5% tuition increase which commenced in January of '08.

Income from operations was $87.4 million compared to $68.4 million for the same period in '07, an increase of 28%. Operating income margin was 31% compared to 29.9% for the same period in '07. Net income was $56.6 million compared to $45.4 million for the same period in '07, an increase of 25%.

Diluted earnings per share was $3.97 compared to $3.13 for the same period in '07, an increase of 27%. Diluted weighted average shares outstanding decreased to 14,275,000 from 14,510,000 for the same period in '07.

At September 30th 2008 the company had cash, cash equivalents, and marketable securities of $117 million and no debt. The company generated $63 million from operating activities in the first nine months of '08 compared to $48.8 million during the same period in '07.

Capital expenditures were $15.3 million for the nine months ended September 30, 2008 compared to $11.9 million for the same period in '07.

During the three months ended September 30th 2008, the company invested $10 million to repurchase 45,600 shares of stock at an average price of $218.92 as part of a previously announced stock repurchase authorization.

During the nine months ended September 30th 2008, the company paid regular quarterly dividends of $16 million and a special dividend of $28.9 million. The company also received $10.6 million upon the exercise of 223,000 stock options earlier this year.

For the third quarter of 2008, bad debt expense as a percentage of revenues was 3.7% compared to 3.5% for the same period in '07. Day Sales Outstanding adjusted to exclude tuition receivable related to future quarters was 13 days at the end of the third quarter 2008 compared to 12 days at the end of the third quarter of 2007. Rob?

Robert Silberman

Thanks, Mark. Just a few amplifying comments on the third quarter financials because I think actually the numbers were pretty straightforward this quarter. We exceeded the midpoint of our earnings forecast by $0.03 per share. That was caused by slightly higher revenue and slightly lower expenses than our model, really across the board there is nothing that I would point to specifically. That led to operating margin expansion of a little over 200 basis points which again was slightly above our forecast from three months ago. We did thought we get pretty good margin expansion but a little more than we were expecting.

On distributable cash flow, for the first nine months of the year, we're up 29% on 25% net income growth which is actually well ahead of our model, but the business continues to be fairly efficient in terms of use and generation of cash.

Turning to the fall term enrolment results, we had – what I think is our strongest quarter ever. Total university enrolment increased 24% on a year-over-year basis. New student enrolments were up 29%. That's versus a 16% increase for our fall term last year so we're starting to get some fairly decent traction there.

Continuing student enrolments were up 22%, and that was a result of over a 100 basis point increase in student retention versus the prior year and again for those of you who have followed us for a while, that student retention number and our continuing student enrollments really is for us a major indicator of how we're doing in the classroom so we're quite pleased with that.

With regard to student mix not much of a change. The Business Administration, Accounting, and Economics degree seekers are still around 70% of our student body, pretty similar to last year. Computer Science candidates are below 20%, again, quite similar. The standalone graduate programs, those Masters degrees that we don't have corresponding Bachelors degrees are at 7% of the total population and the total graduate student mix is about 30%, so pretty similar to last year across those metrics.

Turning to an update on the growth strategy, many of you will remember that it's based on five objectives. Let me just review those quickly. First is to maintain enrolment in the company's mature markets. Second, accelerate the rate of growth of new campuses particularly into new states. Third, invest in and build up on online offerings. Fourth, increase our corporate and institutional alliances. And the final objective is to effectively redeploy our owners' capital.

On the first objective for the fall term, we were pretty well ahead of target at our mature campuses, showing 11% growth. With regard to new campus activity, we opened three new campuses for the fall term. They were all in new markets for Strayer University. They included two in the Fort Lauderdale, Florida market and one in Savannah, Georgia and I think they all had pretty strong starts.

We also announced today that we will open two new campuses for the winter of 2009 term. One will be in Augusta, Georgia and the other is in Huntsville, Alabama. They both are also new markets for us.

In the global online unit, the growth rate was 44%. On capital redeployment, in addition to paying our regular common dividend of $0.38 per share during the quarter, we were also able to repurchase, as Mark mentioned, $10 million worth of our common stock during the third quarter.

On our business outlook for the fourth quarter of 2008, based on the University's enrolment growth that we announced today for the fall term, partly offset by increased expenses as we build out the campus network, we estimate our fourth quarter EPS will be in the $1.68 to the $1.70 range.

In the fourth quarter, we expect again like the previous two quarters, pretty significant operating margin expansion versus the prior year given that what that revenue growth is going to be. However, I should point out we also expect lower tax exempt investment yields on our cash balances and consequently a significantly higher effective tax rate for the fourth quarter than we had for Q4 in 2007.

Now, with this clear visibility into our fourth quarter, we're now also in a position to provide actual guidance on our full year 2008 earnings. If you look back a year ago when Mark and I provided our business model for 2008, we said that if we achieved a 15% increase in our student enrolment, we'd expect around a 19% increase in revenues, 18% to 19%, roughly stable operating margins versus 2007, and earnings per share in the $5.15 to $5.25 range.

That's we said a year ago in October. We now know that we actually achieved 20% student enrolment growth for the full year 2008 which we can project will lead to a 24% increase in revenues for the year, approximately, 130 basis points of operating margin expansion with that additional revenue and full year 2008 earnings per share in the $5.65 to $5.67 range.

Again, as we provide the model what we really want to do is make how the economics of our business works more clear to our owners and to make that even clearer, again if you look back at 2008, that 5% increase in enrolment growth over the 15% benchmark, i.e., going from 15% to 20%, led to approximately $0.50 per share of additional earnings.

I think we can also extrapolate that and say that roughly $0.10 per share of incremental earnings for the full year is associated with each 1% of incremental enrolment growth. Not exact, but it's directionally accurate, the way Mark and I look at the business.

Turning to our 2009 business model and investment plan, and again, we'd like to provide the same sort of general sense of what we intend to invest in, in the next year and then how that would shake out economically based or financially based on whatever your assumed enrollment growth is.

We announced today that Strayer University intends to open 11 new campuses and a second global online operation center next year. Now the global online operation center will be based in Salt Lake City, Utah. The thinking behind that is that our global online team needed to expand its operations in order to respond to the fairly increasing demand – rapidly increasing demand for our programs from those geographies in which we don't currently have campuses and those students we serve through our global online system. We decided it did not make sense to merely expand the existing global online headquarters located here near Washington, DC, but rather it made sense to get some geographic diversity and redundancy by opening the second center.

So we did a fairly in-depth study and Salt Lake City was a clear favorite as a location, partly because Mark likes to ski I know, but it's a great work area. We think it's got a significant supply of human capital that would work well for us and so we decided that would be the place to go.

Now, Mark and I believe that opening that second global online operations center ought to have a roughly equivalent financial impact as opening five additional new campuses, i.e., that impact both in short-term operating losses for next year and in the long-term return on capital roughly equivalent for modeling purposes to five additional new campuses.

Now, we expect that the 11 actual new campuses that we're going to open next year will be mostly in new markets for us. Indeed, many will be in new states including the three states we announced this morning, Ohio, West Virginia, and Utah. I'd like to take just a minute and explain in a little more detail our thinking behind opening a campus in Salt Lake City in 2009, because it's not intuitively obvious how Utah is a contiguous state to our existing markets for those of you who got a map.

The contiguous market expansion strategy is designed to lower the risk to academic quality as you expand the university, the theory being, or our thought is that it's easier to oversee campus activities if they're closer to your existing academic infrastructure. However, we have actually had an academic presence in Salt Lake City for a couple of years now.

We've been serving an onsite teaching program at a Verizon Wireless facility there, a large facility. Verizon Wireless is one of our larger corporate alliance partners and we do that occasionally for some of these partners. That Strayer program has had over the last couple of years, several hundred students and quite a few faculty, a dozen or so faculty in Salt Lake City over the last two years so when we thought about opening the second global online center there and thought about the personnel necessary to oversee that, combine that with the Strayer University faculty and staff who are already in Utah to support the Verizon Wireless location, putting an actual Strayer University campus in Salt Lake City was not much of a stretch. It was actually kind of almost required given the amount of people that we have out there and we know there is a lot of students.

Strayer University also announced today that it will implement a tuition price increase of approximately 5%, effective January 1, 2009 so when Mark and I take into account that tuition increase, the expansion plans, the investment plans that I just outlined, we believe in looking at 2009 that if we achieve 20% enrolment growth, we would expect an annual revenue increase of 23% to 24%.

We're still getting about 400 basis points of revenue growth over enrollment growth with our price increase. We would expect roughly stable operating margins even with all of the operating losses associated with these new investments and diluted earnings per share in the $6.90 to $7 range for 2009.

And again, I suspect that the effect of incremental enrolment above or below that 20% benchmark will have the same impact on earnings that we experienced in 2008, specifically that roughly $0.10 of EPS for each 1% of enrolment growth up or down. We do feel that with the strong growth of our operating income, which is all taxable, combined with lower yields on our tax exempt investments, our tax rate provision in 2009 will be approximately 39% or about 100 basis points higher than we had originally anticipated for 2008.

I'd like to now turn back to the fifth leg of our value creation strategy, the capital redeployment because this is the time of the year when we look at that with regard to the next year. When the board and I looked at our cash balances and where they're likely to end up this year and where, more importantly, we think those cash balances are going to grow in 2009, we decided to take the following actions which we did at the board meeting a couple days ago. First, we're increasing our annual common dividend by 33% to $2.00 per share, and second, we've increased our share repurchase authority by $100 million.

The board and I remain convinced that our business model allows us this luxury of fully funding an aggressive, organic growth strategy and still make periodic returns of capital to our owners. We, as a management team, as well as a Board, will continue to weigh all uses of cash to determine the most value enhancing after-tax return on our owner's capital.

I'm sorry to have taken so long with our opening remarks, but there was a lot of material that we wanted to make sure we covered from the release. With that Dana, we'd be pleased to answer any questions.

Question-and-Answer Session

Operator

(Operator instructions) And we'll go first today to Kevin Doherty with Banc of America Securities.

Kevin Doherty – Banc of America Securities

Great. Thanks, guys. Maybe just a question for Rob. What's going to cause the enrolment growth next year to maybe slow down from the pace you're coming out of this quarter? I know you mentioned accelerating the new campus roll-outs so I think that should help, but how conservative do you think you are with that 20%?

Robert Silberman

The 20% isn't our projection on our enrolment growth. It's the benchmark at which our operating margins would be stable. We never really project the enrolment growth, Kevin. It's we don't know. The students are going to enrol when they enrol. We have a lot of confidence in this business model and in the need for what we provide and we also have a lot of confidence that if we continue to do a good job in classrooms that the demand for working adult focus, regionally accredited, strong academic programs is going to be quite high. In general, the first half of the year of our calendar year tends – which would be the winter and spring enrolment terms, tends to follow our enrolment growth for the fall particularly, our new student growth because again, if you have strong retention, lot of the students that you enrol in the fall should run through to the winter and the spring. But it will be what it is and we really don't try and predict that nor would we want anyone to believe that our operating model that we lay out to you is to give you a sense of clarity as to how enrolment will impact financial performance is intended to be some guideline or benchmark as to what the enrolment growth will be. We hope it will be high and it will be what it is.

Kevin Doherty – Banc of America Securities

And just a follow-up on that. I know last quarter you had talked about if the student base isn't working then they're not likely to be enrolled and pretty straightforward, but how do you kind of reconcile that dynamic just with the strong growth that you saw this quarter? And potentially could become more difficult to even maintain that growth just kind of given the environment and the target market you're after.

Robert Silberman

I had said in the past and still believe that the market that we're trying to address and the type of business model that we have really isn't closely correlated with the shorter-term economic cycles. We're buoyed by a secular shift in the economy from a manufacturing base to a knowledge base and what is happening with employment and interest rates and GDP doesn't have a significant impact on that. I've never felt that we are truly countercyclical. As you correctly point out, I don't think that type of student that we're attracting, a working adult with a family and responsibilities, if they're truly out of work that's going to help us.

On the other hand, a sense of economic insecurity is probably helpful in terms of driving more and more students to think about going back to school and it clearly hasn't hurt us in the last quarter or even the last six months. So within what I think are reasonably predictable ranges with regard to economic performance for the country as a whole, I really don't feel like it has that much of an impact. What's going to have the biggest impact for us is going to be our success in the class room and the rate at which we invest our owner's capital in expansion and we're coming off of a period of two to three years of pretty healthy expansion of the University by investment by opening new campuses and we've laid out a pretty aggressive program for 2009 as well. Ultimately, over time I think that's what going to drive our enrolment growth.

Kevin Doherty – Banc of America Securities

Okay. And then just switching gears, could you just talk about the outlook for your selling and promotion expenses? I know we were expecting that to be up a bit this quarter just with your new campus roll-outs and I guess that should continue to some extent next year, but should we kind of expect the pace of the S&P growth to remain above revenue growth like we've seen in the last couple of quarters?

Robert Silberman

It really depends on the timing of new market openings really is probably the most significant issue and those periods in which we have a significant number of brand new markets that we're opening campuses in, we tend to have a fairly robust investment in brand building that's not balanced by a lot of revenue. We don't have a lot of students in a brand new campus normally, but then as those markets mature, that's where a lot of leverage does develop on the operating line and it's worked fairly predictably for us over the last eight years. I don't expect it's going to have a big difference going forward.

Kevin Doherty – Banc of America Securities

Okay. And how early do you typically start just wetting the market with advertising before you – before new campus would open?

Robert Silberman

We usually don't do it at all until we've got people physically on the ground so it would be some 45 days to 90 days before the start of classes.

Kevin Doherty – Banc of America Securities

Okay. And any benefits you're seeing just from a more favorable pricing environment for some of the traditional media that you use?

Robert Silberman

I think our marketing team does a great job managing all of the sources of media. They've been fairly effective over the last several years in taking the dollars that are necessary – we think are necessary, and getting a pretty productive brand build. Most traditional media is going down in price just because it's less effective and I suspect they're taking great advantage of that.

Kevin Doherty – Banc of America Securities

Okay. Thanks, Rob.

Robert Silberman

You bet.

Operator

And we'll take our next question from Mark Marostica with Piper Jaffray.

Mark Marostica – Piper Jaffray

Thank you and nice job on the quarter.

Robert Silberman

Thanks, Mark.

Mark Marostica – Piper Jaffray

My first question relates to your corporate alliance partners and I'm curious, among those partners if you're witnessing any pull back or hesitancy in supporting the education programs or tuition reimbursement in these challenging times.

Robert Silberman

We have not – in a very strong part of our business over the last six months.

Mark Marostica – Piper Jaffray

Okay. Great. And you also mentioned retention again up 100 basis points year-over-year. Is there anything specific you would attribute that to?

Robert Silberman

I would attribute it to first rate teaching in the class room and a very strong performance by our academic staff in terms of providing the working adult students that we attract with what they need to progress.

Mark Marostica – Piper Jaffray

Okay. I'm also curious with the bad debt as a percentage of revenue up modestly and retention up as well. How you reconcile those two items. Could you give us a sense of what's driving the bad debt higher?

Robert Silberman

Sure. The – again, for us, bad debt is an entirely controllable line item. We can – we get all of our revenue before really the quarter starts and we could just say that if you're not paid 100% in full at the start of the quarter, you can't enrol. We try and give authorities to our campus leadership, our deans and directors to deal with those situations where either a student hasn't completely finished their Title IV loan application or if they are part of a corporate alliance partner that does not have the appropriate paperwork set up with their employer, or in some cases, a cash payer just has not, doesn't have the cash available at the exact time, and we think it's important to allow that authority to be pushed down to the lowest possible level because it gives us a better opportunity to serve the students that we want to serve. Where we tend to pull back on those authorities is when we find specific location, campuses, sometimes regions where that – those decisions are not made smartly. There is bad credit decisions made at the local level and so we try and do is balance that decision-making with what the bad debt, the provision for bad debt expense that we calculate each quarter and if we see it's getting out of control, we pull those authorities back. It doesn't really have a lot to do with retention because I guess that's not true, Mark.

I mean, there is a slight impact on retention but in a lot of cases what you find these individuals for whom we're suffering bad debt haven't enrolled period and it's just indicative of a decision that wasn't made at the campus level as appropriately as we like it to be. So – and it also will bounce around a little bit within a range. We were not – Mark and I were not particularly concerned about this movement of 20 basis points increase over the prior year. About a year ago, 18 months ago, we were looking at 100 basis points movement and that got our attention and really got us tightened down on it, but for right now, I think it's working fairly well, about the way I would expect it to.

Mark Marostica – Piper Jaffray

Okay. Thank you. I'll turn it over.

Robert Silberman

Thanks, Mark.

Operator

And we'll take our next question from Susie Stein with Morgan Stanley.

Susie Stein – Morgan Stanley

Hi. What's your forecast for CapEx for '09 and how significant is the investment in the new center in Salt Lake City?

Robert Silberman

Mark?

Mark Brown

Yes, Susie, as you're probably familiar with our model, we in the past have tended to spend roughly 5% to 6% of our revenue in the form of CapEx. Next year with the investment plan that Rob's laid out, we anticipate that spending level to be closer to 8% for next year, 8% of revenue, so that's how we're modeling 2009.

Susie Stein – Morgan Stanley

Okay.

Robert Silberman

The CapEx is not quite for Salt Lake City, equal to five campuses but it's –

Mark Brown

In the ballpark.

Robert Silberman

Yes, so.

Susie Stein – Morgan Stanley

Okay. Also I'm wondering what you're seeing in terms of the percentage of federal loans that your student are accessing. I know you said 65% of students, is that 65% of revenues and I just ask because one of your peers said that it increased pretty sharply this quarter, possibly as students are pocketing corporate reimbursements and accessing federal aid because of the cheap form of credit. I'm wondering if you're seeing the same thing.

Robert Silberman

We are not. First of all, we wouldn't allow that anyway. The corporate reimbursement has to be deducted from their eligibility for Title IV. That's a requirement of the law and the percent of our revenues little bit higher. I think it's about 70%, Mark?

Mark Brown

Yes, between 70% and 72%.

Robert Silberman

So that is a little bit higher than the 65%, but that's always been the case.

Susie Stein – Morgan Stanley

And that's stayed pretty steady?

Robert Silberman

It has. Yes, I think it's exactly what it was last year actually.

Susie Stein – Morgan Stanley

Okay. Great. Thank you.

Robert Silberman

Thank you, Susie.

Operator

And we'll take our next question from Bob Craig of Stifel Nicolaus.

Bob Craig – Stifel Nicolaus

Good morning guys.

Robert Silberman

Morning, Bob.

Bob Craig – Stifel Nicolaus

Rob, glad to see you finally laid the groundwork to come to Cleveland, now you can really grow this thing. Anyway, couple of questions. One of them relating to some of the initial questions today. At what level of growth above and beyond your benchmark do you become strained as an organization and might want to put the brakes on? Obviously, this year exceeding it by five percentage points, it seems like there is a lot of leeway there.

Robert Silberman

Again, it depends on our investment profile. In other words, the growth is related to the number of new campuses that we open. If we can open a lot of new campuses and as a percentage of our existing campuses, that's a high number because we've got the human capital to do that. Then over time the enrolment growth will kind of match that and that should be entirely manageable from a quality standpoint. That's kind of the key issue, Bob. That's how we think about this organization is if we've got great campus deans and directors and they're overseen by a very effective structure of regional deans and directors and that flows up through our University President, Sondra – Dr. Stallard, and our Chief Operating Officer, Karl McDonnell and we've got these governing bodies, a board of trustees and a board of directors, if all of that is working, then the rate of growth at the individual campus should be as sustainable as we can make it and it tends to be about 100 students, 150 students per year.

So when we go into a year like 2009 with a great deal of confidence in our bench strength and therefore a desire to increase the rate of our campus growth, then I'm not concerned about an upper limit on student growth within the bounds of reality. Obviously, if these numbers were orders of magnitude higher than this then potentially there could be a problem, but it just doesn't work that way. The individual campuses, based on the way we run them, the way we market ourselves, have a fairly predictable ramp, 100 students, 150 students per year.

So I can't really answer your question with regard to at what rate of growth would it be too much for us, would we be under strain because we decide our investment strategy at the beginning of the year, at the end of – right now for next year – at an amount that we're comfortable with and whether the students grow at 18% or 20% or 25%, that can be somewhat of a short-term phenomenon anyway. It's going to move around a baseline, but we'll open 11 campuses on a base of 60 and then we've got the second global online center which will add some. That's a fairly good proxy for over time what we would expect our enrolment growth to be.

Bob Craig – Stifel Nicolaus

Okay. That's helpful. Notice any trends, Rob, in terms of average course loads or part time versus full time?

Robert Silberman

Fairly stable.

Bob Craig – Stifel Nicolaus

Fairly stable.

Robert Silberman

Nothing out of the ordinary in the fall term enrolment. I think our students take on average about just under two courses per term and that hasn't changed.

Bob Craig – Stifel Nicolaus

Okay. Last one and I'll turn it over. Any update on new program development, the pipeline and/or the launch dates, Criminal Justice, and some of the others you had in the pipeline?

Robert Silberman

We're fully operating on our revamped MBA. The Criminal Justice is making its way through regulatory approvals and I would hope by mid point of next year we would be rolling that out. We have a couple of smaller tweaks. We're introducing a Masters program in accounting that has a concentration on CPA prep which I think is also going through regulatory approvals. But it's sort of in the normal course of business, nothing really out of the ordinary, Bob.

Bob Craig – Stifel Nicolaus

Okay. Great. Thanks, Rob.

Robert Silberman

Thank you.

Operator

And we'll take our next question from Amy Junker of Robert W. Baird.

Amy Junker – Robert W. Baird

Good morning. Just a quick question, on the new states, and I think it makes a lot of sense to open up the new campus in Utah. I'm wondering, Rob, if that will become kind of a new base and you'll continue to add contiguously from Utah or do you kind of expect to wait to fill in Colorado and other states until you move more broadly out there? I'm just wondering if we're going to start to see kind of a bifurcation of the contiguous growth from here.

Robert Silberman

I think it's unlikely, Amy, just because we have so much opportunity in the eastern half that we need to fill so we'll get there eventually, but I don't see the opening of the campus in Salt Lake City as a real change to our ongoing geographic strategy of building out from our original base in Washington, DC and ultimately getting across the whole United States.

Amy Junker – Robert W. Baird

Great. That's helpful. Thanks. And Mark, I'm sorry if I missed this in the remarks, but your 4Q expected tax rate? I know Rob said it was going to be higher. Can you tell us what you're thinking about for that?

Mark Brown

Yes, we provided in Q3 I think at 38.6%. We think it'll probably be at least at that level.

Amy Junker – Robert W. Baird

For the full year you mean?

Mark Brown

For Q4.

Amy Junker – Robert W. Baird

For Q4.

Mark Brown

Right. And ending up for the full year kind of in that 38.5% range.

Amy Junker – Robert W. Baird

Great. Thanks, guys.

Robert Silberman

Lot depends on what happens with yields.

Mark Brown

Yes.

Robert Silberman

It doesn't look good right now.

Amy Junker – Robert W. Baird

Understand. Thank you.

Robert Silberman

Yes.

Operator

And we'll go next to Andrew Fones with UBS.

Andrew Fones – UBS

Yes, thank you. First of all, I had a question on the seasonality of your instructional costs. I think typically you see that tick up by 200 basis points to 400 basis points as a percentage of revenue in the third quarter and then fall off by perhaps 400 basis points to 600 basis points in the fourth quarter. We saw a smaller tick up this third quarter. Should we still expect a normal seasonal fall off, if you like, in the instructional expenses as a percentage of revenue in the fourth quarter? Thanks.

Robert Silberman

Sure. Andrew, I can honestly say that you're at a level of granularity that I'm not sure I can answer the question, but I can say generally that what happens is we don't lay off professors in the seasonally low third quarter, the summer term here in the U.S. and so we have less revenue and we have the same expense and so therefore our instructional and educational cost as a percent of revenue tends to go up in the summer term. We generally have our highest level of enrolment growth in real terms in the fall. That's when we tend to get the largest quarter and we generally haven't hired that many more professors at that point, so with more students, more revenue, same number of professors, the I&E line goes down as a percent of revenue, but I couldn't begin to tell you within the number of basis points you're describing what we're looking at in the fourth quarter. Do you have any sense, Mark?

Mark Brown

No, not really.

Andrew Fones – UBS

Okay. I was wondering if you could tell me roughly what the capacity is your current global operations center? I think you said that you have about nearly 5,000 enrolments there now and then what the capacity of the new center will be when you bring it online? Thanks.

Robert Silberman

We could have just added capacity to the current center in DC so there is no real theoretical cap. We decided that it made more sense to add it in a geographically diverse place to provide some redundancy in case there was ever any problems and also our global leadership like the idea of having some staff in western time zones since we have a lot of students out there. It's just a little easier to deal with them. So there is no theoretical cap on the capacity of the center. For the amount of investment that we're making there now, we would expect it to look a lot like the one we have in DC or roughly 5,000 or so students, but then we could certainly add to that, add people, add locations, add space if that was a location that we wanted to maintain as a central place for us.

Andrew Fones – UBS

Okay. Thanks. And just kind of one final one. In terms of that start growth, I think you said it was perhaps the strongest quarter you've ever had in terms of new enrolment. Could you kind of perhaps talk to what you think drove that? Thanks.

Robert Silberman

You bet. It was clearly driven by a major investment program that we've had over the last three years. We have 60 campuses now and 25 of them are probably 24 months old to 30 months old and as campuses are brand new, they don't have that many students, but then as they get into their second and third year, they tend to really start to attract a lot of students. The – our global online unit has had very high demand. We've had very strong demand from our corporate alliance partners. It was pretty strong across the board so it worked well for us and we're going to continue to focus on trying to really bring as much expertise as we can into the classroom because the reputational – the increase in the reputation of the University and the sense of quality that our existing students and alumni and faculty have is what's ultimately going to drive good start growth and more importantly, great retention.

Andrew Fones – UBS

Thank you.

Robert Silberman

Thank you, Andrew.

Operator

And we'll take our next question from Gary Bisbee with Barclays Capital.

Gary Bisbee – Barclays Capital

Hey guys, good job in the quarter.

Robert Silberman

Thanks, Gary.

Gary Bisbee – Barclays Capital

I have couple questions. Did you give a time in '09 you're expecting to open this new online center?

Robert Silberman

We hope to have it open for the summer term, but that'll depend a little bit on real estate and hiring and things of that nature.

Gary Bisbee – Barclays Capital

And so you would – would it be sort of like a typical campus? You start spending about a quarter ahead of time?

Robert Silberman

Correct.

Gary Bisbee – Barclays Capital

Okay. Alright.

Robert Silberman

But again, you're spending about 5x the normal campus.

Gary Bisbee – Barclays Capital

Yes, I'm just trying to think about how we should think about the margin trends in the year so there will be a lot more spending in the spring and summer then likely.

Robert Silberman

Correct.

Gary Bisbee – Barclays Capital

Is there anything extra in the fourth quarter? I know you've talked about the tax rate. Any other spending you're expecting? Given how strong this revenue growth is, it would seem to me you might have a margin, year-over-year margin gain that would be more than you had in the September quarter and it seems like the guidance implies a healthy gain, but quite a bit less than what you first reported.

Robert Silberman

No, actually Gary, I was trying to clarify that. We expect our operating income to be very high and to be a large gain over the previous year. We expect to have a lot less investment income and to pay more taxes relative to the prior year and so that EPS guidance reflects that.

Gary Bisbee – Barclays Capital

Okay. Got you. It seems like you're being more aggressive this quarter and what you talked about next quarter and next year with opening in new markets instead of existing and I guess I wanted to probe that a little bit. It seems like to me one reason to do that would be that the state schools are obviously strapped and will likely be more so in '09 funding wise based on the state financial situation today and I wondered if that was playing into it or if there is something you're seeing in terms of advertising costs or anything that's makes you decide let's go for that now and we can always back fill into existing ones more, or is it just sort of the nature of how it's gone and where you've gotten approval?

Robert Silberman

I wish I could tell you that there was a great strategy behind it. I tried to describe it in my letter to shareholders last year. We want to do both. We have sort of an equal pull on both and it runs a little bit in cycles. I would say that I personally have a slight preference towards newer markets earlier because I just think that's a great way to get a head start on building these returns on our owners' capital, but you hate to be in a situation where you're sort of half invested in a market and you're disappointing students and making them travel much farther than they would like to do it. We were pretty heavy in the first half of last year on existing markets. We were heavy in the second half of last year on new markets and a lot of '09 is focused on new markets. I can't really give you a feel for what 2010 or '11 will look like. Over time it should average out about half and half but it's – you're correct. We're fairly aggressively leaning forward in 2009.

Gary Bisbee – Barclays Capital

Okay. Are you seeing much difference in the competitive set? What I'm noticing just from banner ads and stuff I hear on the radio here in New York is more activity among the state schools in their online programs, but I also know the states budgets are getting cut based on the economy. So are you seeing anything positive or negative or is it pretty much steady as she goes in terms of how the competition is acting right now?

Robert Silberman

If you think about the competition as being state schools, I think it's probably fairly clear that the economic environment is running against them. I mean, the state revenues will be down given what's likely to be a fairly slowing economy next year. Tax receipts will be down. Dollars available to support education will be down and to the degree that they have endowments, endowment returns are probably down. So, capital available to support education outside of where we operate is I think likely to be down and that's going to make it more difficult for schools to provide programs, or certainly makes it more difficult for them to try and expand to meet the demand. But that's independent of our expansion strategy. I just I mention that as I think a somewhat of a fact, but it doesn't – we would have – our 11 campuses for next year are based on the fact that when Karl and Sondra and I sat down and look at 2009, we felt very comfortable, very confident in the bench strength of the deans and directors that we had that would allow us to accelerate and I had said consistently and I certainly want our owners to understand this that the return on capital on opening new campuses is about the best investment that I've ever seen and we will do it as quickly as our human capital will allow us and it will be independent, Gary, of what's going on in the outside world as long as we continue to believe that the secular shift from a manufacturing based to a knowledge based economy is continuing and that the demand for solid, academically sound working adult focused education remains and we have a lot of confidence that that indeed is the case.

Gary Bisbee – Barclays Capital

Okay. And then just one last one. I know I ask you this every couple quarters, but wondered how you're thinking about the cash right now. Last year at this time you announced the special dividend and I think you got over $8 of cash now. It looks to me like even with the higher CapEx, you will generate $6, $6.50 of free cash next year. It seems like a $2 dividend is a reasonably paltry amount given your capitalization. Did you feel lot better about buying back stock here or sort of what changed?

Robert Silberman

Last year, we did a special dividend because we actually had extraneous flows of cash into the company between building sales and stock option exercises. When our dividend yield is higher than the Fed rate, I really don't think of that as paltry and we are active acquirers of our stock any time we feel it's trading at a discount to its intrinsic value so as the board and I looked at that, that seemed like the right mix of capital redeployment strategies.

Gary Bisbee – Barclays Capital

Okay. Thanks a lot.

Robert Silberman

You bet, Gary.

Operator

And we'll take our next question from Andrew Steinerman with JP Morgan.

Andrew Steinerman – JP Morgan

Hi, there. My question is about revenue per student in the quarter. Last quarter been below the 5% tuition increases and that's the same in the business model for 2009. Could you just go through what's holding that back? Are there some mix shifts to keep in mind? Could you just say what this other gap is?

Robert Silberman

Sure. There is clearly mix shift. It was a little bit less in the fourth quarter than it had been earlier in the year, that mix shift towards graduate students, because while graduate tuition is higher than undergraduate tuition, the graduate students tend to take less classes and so if your revenue per student is based not just on the tuition but the number of classes they take. And then there are several other items, Mark, that flow through the revenue line you probably should mention, fees and things like that, that probably move around as well.

Mark Brown

Yes, corporate discounts, employee discounts, there are handful of things that flow through it that could affect it and that's why we give a range.

Robert Silberman

But I would say that by far the largest impact is that relationship between the number of graduate students and undergraduate students relative to prior year and that translates down. The key metric for us is classes per student.

Andrew Steinerman – JP Morgan

Right. And also when you think about that gap for '09 and the reasons for the gap, you're saying it's the same reasons that you've been experiencing in '08, right?

Robert Silberman

Correct.

Andrew Steinerman – JP Morgan

Okay. Thanks so much for the clarification.

Robert Silberman

You bet.

Operator

And we'll take our next question from Cory Greendale of First Analysis.

Cory Greendale – First Analysis

Hi, good morning.

Robert Silberman

Good morning, Cory.

Cory Greendale – First Analysis

Rob, I had a question about the model for '09 that you laid out. Given – your commentary in the past, you talked about if you have more new campuses opening in one year than the previous year then you'd expect some margin compression and given that if you count the global center as five campuses, that's pretty meaningful acceleration in new campuses. So why would we not expect margin to be down next year given that accelerated investment?

Robert Silberman

It will be down if we have less than 20% enrolment growth. In previous years our benchmark for stable margins has been around 15% or 16% and that's what we've tried to clarify and lay out for you all. If we have enrolment growth below 20%, we would expect some margin compression and again that sort of rough ratio we gave you with regard to each percent of enrolment growth up or down from the benchmark is about $0.10 of EPS, it's also about – I don't know – 20 basis points, 25 basis points of margin as well. So that's really what we've tried to show. As it turns out, we're entering the year with a fairly healthy bow wave of enrolment growth given that we've got 24% for the fall term and an even higher number for the new students which really tends to drive your continuing student number and a lot of your total student number for at least the first half of the next year. But we've just tried to lay out – we don't want it to be a black box. We want it to be a completely transparent box and then we'll tell you what the enrolment growth is and then you should be as close as we are in terms of predicting what the margin and the earnings are.

Cory Greendale – First Analysis

Okay. And on the new global online center, I think you mentioned that the purpose was to meet the growing demand you're seeing for online outside the areas where you have campuses. By that did you mean that you're seeing accelerating demand more than you have in the past or just that the demand's been there and you just need to add the additional capacity now?

Robert Silberman

I would say it's accelerated.

Cory Greendale – First Analysis

And is there any particular you'd attribute that to?

Robert Silberman

Better brand awareness. It's similar to the process by which our reputation grows in a particular market for a particular campus. I think the more students that we have who are accessing Strayer University totally virtually without any interaction at a campus and the more successful they are, that's going to start to build on itself. They talk to their friends and co-workers and family and until we get a campus in whatever market they happen to be in, any of the demand that is increasing because of their satisfaction is going to flow through our global online unit.

Cory Greendale – First Analysis

Okay. Is there any, just real round number you can give us for number of people that would be in this new center and how that compares to your overall employee base right now?

Robert Silberman

It's fairly people intensive. Our ratio of staff to students for our purely online students, our global students, is much higher than it is at campus. One of the reasons why I try and emphasize that the operating margins for us with purely online student isn't any higher than it would be for a campus student. I would guess it's – what is it about, Mark? 150 – 100 to 150, something like that?

Mark Brown

Sure.

Cory Greendale – First Analysis

And how many employees do you have currently?

Robert Silberman

We have about 1,400 full time employees?

Mark Brown

Yes.

Cory Greendale – First Analysis

Thank you.

Robert Silberman

Actually it's a little bit more than that because of the full time faculty, it's probably close to 1,600.

Mark Brown

1600, yes, with the full time faculty.

Robert Silberman

Right.

Operator

Thank you. We'll take our next question from Trace Urdan of Signal Hill.

Trace Urdan – Signal Hill

Thanks, guys. Rob, I wonder if you could talk about what you guys see as your potential exposure to layoffs among Fortune 2000 companies and maybe you could even tie that to the experience you had so far with Wachovia since you highlighted Wachovia students in the past as being a sort of good example of the type of folks you get as a result of corporate reimbursement programs?

Robert Silberman

As I said earlier, if employment went to zero among all of the corporations that we have partnerships with, I would think of that as a negative event. I think that would certainly impact us.

Trace Urdan – Signal Hill

I'm asking you what you're really thinking about your real business. That's not the employment goes to zero doesn't really help us.

Robert Silberman

I stated earlier what I'm really thinking. I actually am fairly pleased with what we have right now in our corporate partnerships and specifically with regard to Wachovia, it was one of our strongest providers of students in the fall term.

Trace Urdan – Signal Hill

So despite the difficulties that they've gone through, you've not seen any kind of pull back at all from the enrolment of students from Wachovia?

Robert Silberman

No.

Trace Urdan – Signal Hill

And you're not at all concerned about the exposure you have in that regard? It's not either because you don't see the layoffs coming or you don't see that it's material to the students you get from there?

Robert Silberman

I suspect there probably will be layoffs in the financial services industry. We're pretty broadly diversified in terms of the sources of our students, but more importantly, I think Trace, it's more along the lines of trying to address our growth and expansion relative to whether – we're constantly being tried to be classified as a cyclical or countercyclical kind of business. What happens is I think it simplifies the terms too much. I mean, a slowing economy is going to affect our students individually and differently. For a student who is an employee of a facility or some company that we have a partnership with who gets laid off, that's going to be a negative impact obviously on that student individually.

By the same token, clearly, an increased sense of economic insecurity across the whole economy is going to drive more and more students to look at the possibility of going back to school. What you have to understand is for a working adult student, going back to school is a very difficult thing to do. It is a hard slog both in terms of time management and just the intellectual strain and so they're not doing it because they're curious. They're doing it because they feel a sense of without advancing their academic credentials they put themselves at some risk. And so from that standpoint, you are a little bit countercyclical, but it all balances out.

That's my point is that you've got countervailing influences based on the short term cycle which tends to make the overall business as long as the economy continues to shift from this manufacturing base to a knowledge base, it makes the overall business relative impervious to that. If there is a major depression in this country and egregiously high levels of unemployment, I don't think that's a good thing. That would not help our business, but given what I'm looking at and our sense of what over the next 24 months looks like, I am not particularly concerned.

Trace Urdan – Signal Hill

Okay. That's very helpful. Thank you.

Robert Silberman

You bet Trace.

Operator

And we'll take our next question from Jennifer Childe of Credit Suisse.

Jennifer Childe – Credit Suisse

Just a couple of quick ones. You indicated in an answer to a previous question that you thought margins would be pressured somewhat in the first half of next year from the new online center, but it also sounds like you're capitalizing about $15 million. So can you distinguish what kinds of expenses, debt expense versus capitalized?

Robert Silberman

Yes, similar to our campuses, most of the costs, if you just think about it in terms of economic costs regardless of whether it's expensed or capitalized which is the way we think about it, most of your costs are items which would be expensed. Salary, initial marketing, the utilities, just the overall – the rent – the overall – we don't own these facilities. We lease them and so when we say that a new campus will lose about $1 million in the first year, that's expense. That's operating losses and that's what we would expect to see with regard to a new global online center. The only costs that are capitalized are the leasehold improvements and I guess some of the computers and things like that, right?

Mark Brown

Yes, fixed assets is the only thing we capitalize.

Jennifer Childe – Credit Suisse

Okay. And then in your guidance, your '09 guidance, are you baking in any share repurchases?

Robert Silberman

Again, it's not guidance. It's a business model and we have not assumed any particular share repurchases. That's a decision we make at the board level sort of quarter-to-quarter. We have the authorization. If the market allows us to repurchase shares at what we perceive to be a significant discount to intrinsic value, we'll do that. If the market doesn't allow that because the price gets up closer to intrinsic value, what we've said in the past is that would be a situation where we'd be delighted to just special dividend that cash at the end of the year back to owners.

Jennifer Childe – Credit Suisse

Great. Thanks.

Robert Silberman

You're welcome.

Operator

And gentlemen, we have no further questions at this time. I'll turn the call back to you for any additional or closing remarks.

Robert Silberman

Thank you, Dana, and thanks everybody for participating. We'll look forward to talking with you again in February. Thanks very much.

Operator

And that does conclude today's conference call. Thank you for your participation. You may disconnect at this time.

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