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Apollo Group, Inc. (APOL)

Q3 FY2006 Earnings Conference Call

June 20, 2006 11:00 am ET

Executives

Brian Mueller – President

Kenda Gonzales – CFO, Secretary and Treasurer

Analysts

Greg Cappelli – Credit Suisse

Matt Litfin - William Blair & Co.

Sarah Gubbins - Merrill Lynch

Steven Barlow – Prudential

Arami Gem – Banc of America Securities

Gary Bisbee - Lehman Brothers

Bob Craig - Stifel Nicolaus

AJ Kasargod - Piper Jaffray

Kirsten Edwards - ThinkEquity Partners

Chris Gutek - Morgan Stanley Dean Witter

Jennifer Childe - Bear, Stearns & Co.

Corey Greendale - First Analysis Securities

Mark Hughes - SunTrust Robinson Humphrey

Kelly Flynn - UBS Warburg

Trey Cowan - Stanford Financial Group

Jeff Silber - BMO Capital Markets

Presentation

Operator

Good morning ladies and gentlemen, and welcome to the Apollo Group, Inc. third quarter fiscal 2006 earnings conference call. (Operator instructions) I would now like to turn the call over to Brian Mueller, President of Apollo Group. Mr. Mueller, go ahead please.

Brian Mueller

Thank you and welcome. We appreciate your attendance. We’re going to start like we usually do with Kenda Gonzales, our Chief Financial Officer, who is going to talk about the results of the quarter from a financial perspective and then she’s going to turn it back over to me. So Kenda, it’s all yours.

Kenda B. Gonzales

Thank you, Brian. Revenue related to students enrolled in degree programs increased 4.1% for the third quarter of fiscal 2006 to $600.1 million compared to $576.6 million for the third quarter of fiscal 2005. The third quarter of fiscal 2005 included an extra week of revenue from our online campus, which increased revenue by approximately $20 million. Discounts for the quarter were $22 million, or 3.3% of gross revenue.

Instructional costs and services increased as a percentage of revenue in the quarter ended May 31, 2006 primarily as a result of an increase in bad debt expense and employee-related expenses.

Selling and promotional costs increased as a percentage of revenue in the quarter ended May 31, 2006 primarily as a result of an increase in the number of enrollment counselors and increased advertising.

The University of Phoenix currently has 71 local campus locations, of which 36 are less than five years old. Nineteen of these local campus locations are two years old or less, with fifteen of these locations not yet at breakeven for fiscal 2006.

General and administrative expenses were flat during the third quarter of fiscal 2006 as a percentage of revenue.

Our operating margin, excluding stock-based compensation expense, decreased to 32.9% for the third quarter of fiscal 2006 compared to 36.9% for the third quarter of fiscal 2005.

Turning to the balance sheet, cash and marketable securities were $581.7 million at May 31, 2006.

Net receivables were $190.1 million, which equates to 28 days sales outstanding.

At May 31, 2006 we had reserved $27 million against our receivable balance and during the second quarter of fiscal 2006 we wrote off $18.9 million of student receivables.

Between May 31, 2005 and May 31, 2006, the current portion of deferred tuition revenue increased 12.1% to $126.1 million, and student deposits increased 9.6%, to $268.8 million.

Cash flow from operations for the first nine months of fiscal 2006 was $447.3 million compared to $442.6 million for the first nine months of fiscal 2005.

Capital expenditures net of the online land and building transaction for the first nine months of fiscal 2006 were $34.2 million compared to $80.7 million for the first nine months of fiscal 2005.

During the third quarter of fiscal 2006 we purchased 81,000 shares of APOL. At the end of the quarter, we had $136.1 million remaining of the amount authorized by our Board of Directors for stock buybacks.

At an investor conference last week, the Executive Director of the Florida Commission for Independent Education made public comments regarding the University of Phoenix’ license status in Florida. While the university has not yet received official notice of the action taken by the Commission at its May meeting, the university understands that the Commission voted to place the university on provisional license.

The university representatives at the meeting reported that the Commission simply expressed discomfort at the large number of recent changes by the university, including campus organization, principally the combination of the on-ground and online campus enrollment teams, and minor administrative discrepancies primarily related to locations as [indicated] by the Commission and HLC. These matters have traditionally been resolved at the staff level and the university has always been fully cooperative. There has never been a question raised regarding the academic quality of our programs.

It is important to note what provisional license does and does not mean. First, no formal action has taken place or is effective. The university has received no written notice.

Additionally, if the Commission enters an order placing the university on provisional license, the university anticipates filing an administrative challenge. This will immediately render the order ineffective until the conclusion of the university’s challenge. We believe there is no factual or legal basis to justify placing the university on this provisional status.

Second, regardless of the outcome of the challenge, provisional status would not impede, restrict, limit or interfere with any current operation of the university in Florida.

And with that I’d like to turn it back to Brian.

Brian Mueller

Thank you, Kenda. Good morning again, and again thank you for attending the conference call.

As you read in the news release, we went from 9.5% growth in the second quarter over prior year to 9.4% growth in the third quarter over prior year. However, the University of Phoenix went from 10.5% in second quarter to 10.7% in the third quarter.

We are still a company in transition, but we are confident we are moving in the right direction. I would like to make some brief comments in four areas, and then answer your questions.

In the enrollment area, advertising and lead generation are going better than we expected. We have moved through a period beginning last November where the aggregators in the Internet space were driving up costs. We are at a point now where almost all vendors are working directly with us. Ed.com has helped this process the last two months.

The direct strategy has allowed us to drive down the cost per lead and drive up significantly the number of leads without a significant increase in spending as a percent of revenue. This has allowed us to decrease the cost per acquisition as well.

The next step is to get more aggressive about right pricing leads. We expect to make additional gains in this area in the fourth quarter. Our contract with Monster is going well and moving the direction of 100,000 leads a month. We are looking for additional partners for contracts that look like Monster’s.

Axia College-specific advertising was started in June with selected vendors. We expect the leads generated to be incremental and not to cannibalize our University of Phoenix advertising.

New enrollment growth was acceptable in the third quarter and looks strong in the month of June. The majority of lead increase took place in April and May, and we are in a 60- to 90-day conversion cycle.

The ground campuses are adding 500 enrollment counselors in the months of April, May and June. Over 50% of those have been hired and we expect to accomplish that goal by the end of July.

Eighty-eight percent of ground enrollment counselors have been trained to sell online and they continue to get more comfortable with that process. Seventy-eight percent of ground enrollment counselors have been trained to sell Axia and we expect to complete that process by September 1.

The qualifying center will be rolled out completely by October 1. We have rolled it out to 40% of ground enrollment counselors to date and it will increase that to 65% by the end of July.

We have a process in place to transfer Axia grads to University of Phoenix and we’ll give you more specific information about that in the fourth quarter call.

We have completed a fairly substantial research project that is leading to the development of a branding campaign that we are targeted to begin in Q1 of FY07. We believe that a national television campaign will be supportive of our Internet lead-generation activity.

We are rolling out bachelor’s degree programs in psychology and communications in the month of July.

I’d like to make a few comments about instruction and retention, and you can expect that those will be areas I will focus on a great deal in the future. We have stabilized enrollments as they relate to our traditional students and are beginning to show signs that we are learning to work more effectively with our younger and inexperienced students.

Our bachelor’s, master’s and doctoral students all declined in numbers from November 2005 to February 2006. All three categories of students gained in enrollment from February 2006 to May 2006. Our Axia associate students went from 53,400 in November 2005 to 53,500 in February 2006 to 66,100 in May 2006.

There is a lot of potential in being able to teach those students effectively. In order to move that process forward we have started to re write the Axia College curriculum with a focus on making improvements in the following areas: 1) providing significant online, offline and curriculum-based tutorial services; 2) provide a strong peer-to-peer support environment, 3) make the content portable to cell phones, iPods and other electronic devices, and 4) deliver the content in an audible as well as a written or text format. We have set November 1 as a target date to start to implement the improvements. I am very committed to regaining our edge in innovative instructional delivery and support systems for students, especially those entering higher education for the first time.

Our biggest challenge on the expense side is AR management. We were at 3.5 as a percent of revenue at the end of the second quarter and moved to 2.7 as a percent of revenue at the end of the third quarter. We are moving in the right direction and are confident the trend will continue through the fourth quarter and first quarter of next year.

We continue to look for international expansion through acquisition. We are looking primarily in Brazil, Mexico and China. We are focused on looking for a university with a solid brand that we can bring marketing, enrollment, student service systems and online learning systems to, as well as expertise in operating in a multi-campus national kind of environment.

And with that update from the quarter’s perspective, we would now like to open it up for your questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Greg Cappelli with Credit Suisse.

Greg Cappelli – Credit Suisse

Good morning Brian, Kenda.

Brian Mueller

Good morning.

Kenda B. Gonzales

Good morning.

Greg Cappelli – Credit Suisse

Brian, just following up on your comments on the start that you talked about in the quarter and June, I guess you didn’t give out an exact number but is it fair to say that the start growth was at least above last quarter? What we thought was sort of a low, single-digit growth rate?

Brian Mueller

It was above last quarter, that’s correct. The majority of the leads that we got that represent the big improvements came in April and May. It was above last quarter although last quarter, in May, the ground campuses ran a promotion where they allowed students to take two courses at a time and so the significant increase that we were expecting was a little bit offset by that. But I want to say that June does look very strong and upper teen’s new enrollment growth from June perspective is very likely.

Greg Cappelli – Credit Suisse

Okay. Great. Okay, so there was a promotion in May, I’m assuming under –

Brian Mueller

Last year.

Kenda B. Gonzales

May of last year.

Greg Cappelli – Credit Suisse

May of last year. Okay. And was that promotion run by the, I guess the person who was running on ground or online at that point in time?

Brian Mueller

It was a ground campus initiative and it was designed around encouraging students to double up or take two courses at a time which, I mean, for some students that might be good, for others it might not be. But the point is that as students, that kind of inflated the number to some extent which –

Greg Cappelli – Credit Suisse

Which may have, which I guess could have fallen off then in June? I guess if you look at the quarters would explain that event?

Brian Mueller

It could have fallen off a little bit in June, that’s correct.

Greg Cappelli – Credit Suisse

Is that something that you guys intend to do going forward in terms of offering these kinds of promotions?

Brian Mueller

In down times we’ll encourage students to start by maybe waiving their application fee or giving their resource fee to them, but we wont’ do things like encourage them to double up. We don’t think from an academic standpoint that’s probably the right way to start students off so we probably won’t do those kinds of things in the future, no.

Greg Cappelli – Credit Suisse

Okay. Just two more quick ones.

The on-ground growth, down about 3%. Online was, as you mentioned, accelerated. Is that sort of, are you just, is that just the natural evolution of the business? I mean, I think you have mentioned in past quarters that when you guys have done survey work the majority of your students want to take courses online. Do you expect to see that continue? I mean you mentioned that you’re going to be beefing up the enrollment counselor staff offline so I kind of wanted to get an idea of your thinking there and which direction we’re going to see it going, going forward.

Brian Mueller

That’s a good question. In the last conference that we attended and presented at, Kelly’s conference, we talked about the fact that we did an experiment where we went out with a single offer rather than two offers. We’ve always been out saying, you know, we’ve got our on-ground offering, we’ve got a separate online offering; we’ve represented those separately. We went out there because that represents our future, with the combined offer for a short period of time and we were very surprised when given a chance to either select online or on-ground from a delivery methodology standpoint, 90% of the prospects selected online.

We had to call the experiment off because we aren’t quite ready from a distribution standpoint to distribute leads equitably and so we called it off but we really think allowing students to make the choice as to where they want to go is the most helpful thing that we can do; let the marketplace decide and if that’s the way the marketplace does decide, we’re in a very good position because we’ve got a highly, highly scalable online program from a faculty standpoint and from a technology standpoint and from a support standpoint.

So that was really good news for us and the fact that we are training all of our enrollment counselors to be able to put students comfortably in the online program so that we’re not just representing that with half of our sales force, but with the entire sales force is also extremely good news for us.

Greg Cappelli – Credit Suisse

Okay, great. Final question, just on the retention front. I know how important it is to the business model. Is there any update or anything new you’re doing from a perhaps a third-party standpoint for financial aid. Is there any update there that you might share with us?

Brian Mueller

Well, yeah. We talked about the fact that we are working on a pilot program with Sallie Mae and that program isn’t specific to them only. We’ll also extend that opportunity to other vendors that we do business with from a loan perspective.

The pilot we’re doing with Sallie Mae would allow students to get a supplemental loan and have that loan be combined with a Title IV loan and cover the costs of their attendance.

If we can get the acceptance rates of that, because both loans come from the same vendor, to 85% or higher that would put us in a position that we haven’t been in the past and I think would help from both a recruitment standpoint. It would help from a retention standpoint. It would help from an AR standpoint. It would help from a graduation standpoint. So if we can get some traction and gain some success with Sallie Mae, we’ll certainly allow other vendors to also implement that same program.

Greg Cappelli – Credit Suisse

Shall we assume anything you’d do on that front would be a non-recourse type of program?

Kenda B. Gonzales

That would be correct. Right.

Brian Mueller

Right.

Greg Cappelli – Credit Suisse

Thanks, guys. Appreciate it.

Brian Mueller

Okay.

Kenda B. Gonzales

Okay.

Operator

Your next question comes from the line of Matt Litfin with William Blair & Co.

Matt Litfin - William Blair & Co.

Yes, good morning. Brian you mentioned at the recent analyst day that you might consider price reduction tuition at UOP. Can you give us your latest pricing thoughts on your two main brands?

Brian Mueller

Yeah. I guess that comment was made in the context of, we would never do that just to gain market share. We would only do that if that would increase the margins. If it got to a point where we had 40,000 students sitting on the sideline because they owe $500, $600 or $1,000, that would not be a very smart move for us to make.

We kind of characterize students in three ways. At the Level I and II, we are in pretty good shape right now and will be in very good shape in July of 2007 when the loan limits go up. So any gain that we can get from a Sallie Mae standpoint will just be in addition to the gain that we’re going to get from that 2007 increase.

There’s no problem at all at Levels 5 and 6, or our master’s degree students. We’ve got plenty of room to operate there.

There is some pressure at Level 3 and 4, and so we’re not at all considering reducing tuition there. We are going to work hard to get students the money they need to stay in the program.

So it was made in that context that I just described but at this particular point in time we’re not thinking about that.

Matt Litfin - William Blair & Co.

Okay, that’s helpful. The other question I had was on the increase in enrollment adviser compensation. Can you maybe tend to bring out that increase between more reps and higher comp per rep and when do you expect those year-over-year increases as a percent of revenue to taper off?

Kenda B. Gonzales

We did increase enrollment rep comp; I think it was in October 1. Was that right, Tom? I believe it was October 1 so we’ll see that increase in starting pay annualized as of October 1. So in the first quarter.

I think Brian mentioned how many reps we are looking to hire and what we’ve done to date so, you know, I don’t have exact proportions of that but it’s a combination of both.

Matt Litfin - William Blair & Co.

Great. Thank you.

Brian Mueller

Okay.

Operator

Your next question comes from the line of Sarah Gubbins with Merrill Lynch.

Sarah Gubbins – Merrill Lynch

Hi, good morning. Thank you.

Brian Mueller

Good morning.

Kenda B. Gonzales

Good morning, Sarah.

Sarah Gubbins – Merrill Lynch

Just a quick clarification about the enrollment, the number of enrollment reps that you’re hiring. I think you had previously mentioned that you were planning to addition 100 enrollment reps and now it sounds like it’s 500. So, is that original 100 included in the new 500 number?

Brian Mueller

It is and as I indicated at the beginning of the presentation, we’ve just had more success generating leads than what we thought we were going to.

There was huge potential for improvement on the ground side, both in terms of expanding the zip code areas and when we expanded the zip code areas around major metropolitan areas, we were very surprised at the response we got.

We were also very surprised at our ability to work directly with vendors and lower the cost per lead significantly on the ground side.

So because of that success, we are accelerating our hiring of additional enrollment counselors on the ground campuses and we think that that’s good long-term for the company because it allows us to spread the entire sales force out across the entire country and not have it focused so much in Phoenix where it kind of puts pressure from a quality standpoint on us.

So in both situations we think it’s a good move and you know you really can’t do one without the other; you’ve either got to decide you’re going to go, or not go. If you’re going to get very good at lead generation, you’ve got to get very good at conversion. You’ve got to hire the enrollment counselors. So it’s not a situation of going half way. We’ve made a total commitment to this. We think we’ve got a great academic program and we’ve got a good delivery system which can get better, so we’re not being bashful.

Sarah Gubbins – Merrill Lynch

Okay. Second question, on advertising expense. It was up less year-over-year than I was expecting and I’m just wondering is that, is that what you’re thinking in terms of an increase looking out into the next couple of quarters or is there any reason, maybe because you’re now spending for Axia marketing that we would expect that number to jump up significantly in the fourth quarter?

Brian Mueller

Well, the reason that the advertising isn’t up as you expected was that the cost per lead was down so much as to where – there was just so much room for improvement in terms of cost per lead on the ground side. We weren’t leveraging our capability in that area and so it was not a matter of how much money we spent; it was how many leads we could generate and at what conversion rate and we made more progress than we thought, and so we got to a lead number that we wanted and above that at far less expenditures than we were anticipating.

Sarah Gubbins – Merrill Lynch

Okay. If we think about the fourth quarter, the spend on Axia, should we consider that incremental?

Brian Mueller

No. I think the leads will be incremental and it will not penalize the UOP leads, but you don’t have to think about being incremental in terms of spend, no.

Sarah Gubbins – Merrill Lynch

Okay. And then last question on option expense. Kenda, can you give us a sense of what we should generally expect it to be in the fourth quarter and then maybe going forward?

Kenda B. Gonzales

You know, we are giving official guidance but from an expense standpoint I would anticipate that in the fourth quarter barring any additional option grants it would be similar to what it was in the third quarter.

Sarah Gubbins – Merrill Lynch

Okay. Great. Thank you very much.

Operator

Your next question comes from the line of Steven Barlow with Prudential.

Steven Barlow – Prudential

Thank you. Can you just remind us how many campuses you have in Florida? And then, last December you had a seasonality issue with the online students and if you’d give us any idea of how that has sort of changed how you’re trying to manage it, any surveys you’re doing with students trying to figure out the potential seasonality as we go forward? Thanks.

Kenda B. Gonzales

We have four campuses in Florida plus a number of learning centers, and I could get a count on those for you. Maybe I’ll let Brian take the second part of the question while I get that count on the learning centers.

Brian Mueller

I was counting in my head as you were asking the second part of that question so she’s right; we have four main campuses and a number of learning centers. What was the second question?

Steven Barlow – Prudential

Seasonality was an issue with December 2005 revenue and how are you sort of addressing that, through students or focus groups or whatnot.

Brian Mueller

Yes, thank you. We have changed the schedules and we have given the students two-week break in the holiday period at Christmas which is the traditional thing that we have done. We have not given students a break at Thanksgiving in our online program, but don’t anticipate – that’s not where the problem came from last year. It really came from students deciding that not having a break at Christmastime was a little bit burdensome and so they decided to drop out. So we changed all the schedules and we think we’re back to where we were in previous years and so it shouldn’t be the problem that it was last year.

Steven Barlow – Prudential

Thanks. One additional question while we wait for Kenda, it seems to me a lot of stock was purchased in the quarter. Can you just talk about the rationale for that with the stock here in the low to mid 50s?

Kenda B. Gonzales

Sure. As far as stock repurchase, we had been extremely aggressive and had moved through most of the liquid cash on our balance sheet as of the end of the second quarter and at this point we think that there are opportunities for us to reinvest that cash generation into the business, including potential international acquisitions so we are building cash towards those types of things.

I did also just get the count on the learning centers, so we have four main campuses in Florida plus ten learning centers that are attached to those four campuses.

Steven Barlow – Prudential

Thanks very much.

Kenda B. Gonzales

You’re welcome.

Operator

Your next question comes from the line of Howard Block, with Banc of America Securities.

Arami Gem – Banc of America Securities

Good morning. This is [Arami Gem] for Howard Block. I just wanted to touch briefly again on the advertising spending growth. I know you’d originally expected the business to achieve a 21% selling and promotional rate and I guess were the third quarter’s advertising spending growth and enrollment compensation expenses a fair indication of what we can expect in the future, or would an increase in the enrollment advisors most likely drive that up?

Brian Mueller

I don’t think it’s going to be very similar to what it is this quarter. We wouldn’t hire enrollment counselors if we didn’t think we could get the incremental gain from a student and revenue standpoint which would offset their hiring and so, as a percent of revenue, we expect it to stay the same.

Arami Gem – Banc of America Securities

Okay. Thanks. And then another question, last quarter you had mentioned plans for a compensation plan to reward academic counselors to improve retention and I wanted to know if you had any more information to share with us on this program.

Brian Mueller

In fact we have implemented a program like that at the online campus; we’ve implemented a program like that, like at online, at a couple of our ground campuses. It puts academic counselors in a similar situation to enrollment counselors in that their salary’s evaluated on a six-month period of time and their salary can go up or down based upon their performance in a lot of categories, one of which is their ability to retain students and keep them in class and keep them progressing towards their degrees, which is good for everybody.

It’s really too early to tell how successful that is going to be although I can tell you that academic counseling position and the financial counseling position are very important positions in our company. Those are very important people to us and for us to be able to incent them to focus on the success of students and be able to pay them more as a result of that, and again, that would be incremental so any additional money that we would spend in their salaries would be offset by the increased revenue that we would experience as a result of their active percentage going up. If we can accomplish that, it’s good for the student and it’s really good for us because it will keep those people around longer with us.

Arami Gem – Banc of America Securities

Okay. And can you provide any information as to the scale of this program or the number of counselors that are eligible.

Brian Mueller

At online I believe we have about 400 academic counselors and there are probably another 100 or so academic counselors spread throughout the country at our ground campuses that are on a plan like that.

Arami Gem – Banc of America Securities

Great. Thank you.

Brian Mueller

Okay.

Operator

Your next question comes from the line of Gary Bisbee, Lehman Brothers.

Gary Bisbee - Lehman Brothers

Hi, guys. A couple questions. Are you willing to give us any sense of what the ultimate cost of the branding initiatives in FY07 would be, either on an absolute basis or in relation to your overall marketing spend?

Brian Mueller

Well, if we can continue with the success that we’re having from a lead generation standpoint and a cost-per-lead standpoint, and we can keep the conversion rates fairly stable if not improve them as we give more enrollment counselors the ability to sell the entire array of products, then that program would be included in the 21% or so number.

We haven’t come to terms with the amount that we’re going to spend, the reach and frequency that we want to attain. We’re in the process of negotiating that now and part of the negotiation and ultimate commitment to that will depend on how much leverage we can continue to get through our lead generation improvements.

So it’s difficult for me to tell you at this time although I would say it is our plan to keep it within the 21% or 22% number, both lead generation, enrollment salaries and that branding activity.

Gary Bisbee - Lehman Brothers

Okay. Is it – have you developed what the ultimate things are going to say in terms of branding are? Can you give us a sense, is this in line with how maybe the public hasn’t done it but the investment community’s thought about your business, you know, in other words, flexibility, convenience, etc., etc., for working adult students? Or what are you going to differentiate, how are you going to differentiate; what’s the message?

Brian Mueller

Well, we’re not ready to reveal the complete campaign at this point. I will tell you that we have a very good firm and we’ve made significant investment. It is our desire from a 40,000 foot view to position the University of Phoenix as a quality academic institution that understands the needs of students and is ahead of its time and has been for not just the last 30 years but will continue to be in the future.

And so convenience and flexibility are a part of that, but they’re a part of that as they relate to understanding the student and developing the academic programs, the delivery models, the student support systems around the needs that students have today and will have in the future.

Gary Bisbee - Lehman Brothers

Okay, great. You know, the enrollment growth, it was nice to see the active growth on a sequential basis snap back this quarter but it continues to be, while there might have been modest growth in the other areas, not much at all. Is your expectation if we look out over the next 12 months or so that you’ll see enrollments in bachelor degree programs re-accelerate? Is there some growth there and across the other areas, or is Axia still the cheapest potential student to get and sort of the easiest student for you to grow at this point on a cost-effective basis?

Brian Mueller

Well, two things about that. One, if you think about it historically we didn’t break out students by associate programs and baccalaureate programs. We just broke out students by bachelor’s programs at the undergraduate level. We had a couple of associate programs but we really didn’t put students in them.

So Axia College and as you see those things broken out right now is really just a reflection of that we’ve broken them out because we’re trying to develop a program that better meets the needs of those students. But the fact is that that trend had been going on for five or six years. Increasingly as we looked at our lead base and our student base, they were very much a reflection of what was going on demographically in the country which is students on college campuses were getting younger and they were coming with less experience.

So when it looks like all of the growth was at the associate level, really that’s no different from what it’s been for five or six years. The growth has been at the baccalaureate level, but at the low end of the baccalaureate level with more students coming with fewer credit hours.

So do we expect that we can continue to make modest increases at the doctoral level and master’s level? Yes. Do we think that we can continue to make progress at the bachelor’s level and have that progress be better than it was in the past? Yes, because we’re hoping to be more successful teaching those entry level students at the associate’s level and then, if we can get a percentage of them to graduate from their associate’s program and gravitate into the bachelor’s program, that makes that better.

Gary Bisbee - Lehman Brothers

Okay, great. And then just one last one, if I could. I tend to understand the methods that you guys aren’t going to be buying back stock the way you’ve done historically but with almost $600 million of cash it doesn’t seem likely you’ll use that to make acquisitions internationally and I note that in this quarter it looked like the proceeds from option exercise was actually larger than the buyback so, you know, in effect you’re not even buying back enough to cover the dilution to current shareholders. It doesn’t seem like a great strategy if you are as confident as you guys sound in your ability to turn around, you know, the business and the enrollments and so any high-level feedback there would be helpful. Thanks a lot.

Kenda B. Gonzales

I guess the high-level feedback is that, you know, we articulated our strategy for right now and we’ll still be opportunistic on weakness in the stock but we are not going to be as aggressive in buying the stock as we had been previously.

Gary Bisbee - Lehman Brothers

Okay, thanks.

Operator

Your next question comes from the line of Bob Craig with Stifel Nicolaus.

Bob Craig - Stifel Nicolaus

Good morning, everybody. A couple of questions and this one is very broad-based but Brian, could you discuss the overall level of efficiency or productivity now versus a couple of months ago within the organization and versus where you want to be, i.e., where are the areas of greatest improvement and where are the areas that you still need improvement? Substantial improvement?

Brian Mueller

The area that we can improve, I believe, in the next number of years most dramatically is in regaining our position from the standpoint of innovation and separating ourselves from an academic delivery standpoint. We’re working hard at the marketing part of it and the sales part of it and administrative student services part of it, that supports the retention of those students, but you’re only going to get as much out of that as you’re able to separate yourself from a product standpoint.

In our early years, you know, our working adult program was definitely separate and other people didn’t have it. In the latter years our online program definitely was separate and other people didn’t have that and so our marketing sales, customer service and support strategies were extremely supported by the fact that our product was ahead of everybody else.

What we have to do, like many others are having to do on the traditional side as well as the for-profit side, is figure out a way to be extremely effective at a new generation of students who are going to have to go to school and they’re going to have to work at the same time. Their life is going to be a little bit different; we’re going to have understand what their life is and what their learning needs are and we’re going to have to be very, very innovative and very good, both from an instructional standpoint, from an academic support standpoint, from a student support standpoint, and I think we are in a very strong position to do that because of the distribution of our campuses and our learning centers.

As more students decide the best way for them to learn is in an online environment I think the institution that can support that learning by expanding the number of learning centers, not shrinking them, but have them be academic support centers rather than classrooms, will be in a position to provide students the support that they need to be successful given the unique circumstances that they find themselves in.

Bob Craig - Stifel Nicolaus

This may be part of that differentiation, but you mentioned re-writing some of the Axia curriculum. I was wondering, what was the motivation for doing that? Is that based on feedback? Something you need to do from a student’s perspective or is it just wanting to, again, make the product better and more appealing to the overall audience?

Brian Mueller

It’s to make the product better; it’s to make the product more appealing. It’s to create an environment where students are able to attain a level of success because of support that they get on their terms when they need it that other institutions are not able to match, and that’s what our goal is.

It’s to give students the capability to learn and be successful as college students in a way that currently it’s not working for them. I’ve talked about this a lot and I’m not being especially critical of any institution or group of institutions in the country but the fact is that there’s a massive amount of failure in higher education today, especially as it relates to entry-level students to higher education and especially as it relates to students who are African-American and Hispanic.

There are unique and special circumstances with those students that if you understand them and can develop academic programs and delivery mechanisms and support systems that are supportive of their learning and success, I think you stand to be in a position where you’re separate.

Bob Craig - Stifel Nicolaus

Brian, this may be too early to ask this question but since you’ve begun advertising the Axia program, any changes in the attributes or characteristics of those students versus those who were directed into that program earlier, i.e., are they younger, or have even less college credits than those that came in previously?

Brian Mueller

It’s too early to tell; it’s too early to tell that although, you know, we did have a program that we ran from January through April of this year. It was a partnership with Monster. It was a program that they call Making it Count. They give presentations in 2,500 high schools during that timeframe and we were the sole educational partner in that program and in their presentation they talked about Axia College and the University of Phoenix being an especially smart choice for high school seniors as they graduate from high school and are thinking about working and going to school at the same time.

As they explained the Axia College concept and the fact that it was like a national online community college that allowed students to work and go to college at the same time and finish in a very reasonable period of time and that it had tremendous amounts of support from the faculty members, the feedback that we got from high school guidance counselor was very positive.

So I can’t tell you specifically at this point but as we gain more evidence of who those students are and what their success in our program is, we will certainly share that.

Bob Craig - Stifel Nicolaus

Do you still think more of those students are going to come in interested in a four-year program as opposed to a two-year program and that’s what the advertising message is going to be delivered towards?

Brian Mueller

Yes, I do. Although also understanding that a lot of them will be coming, just starting their college career, a lot of them will be coming as first generation in their family college goers. So for us to provide them with an environment where they can achieve a level of success in a 20 to 24-month period of time and leverage that to some extent in their career, early in their career, we think that’s a positive rather than just get them to think about four or five years, which is a long period of time and a lot of money and expense when their family is not accustomed to or familiar with the culture of higher education. So taking that in two stages we think will be helpful for them.

Bob Craig - Stifel Nicolaus

Okay. Last one. Could you update us on your search for a new head for UOP and are there any other significant positions you’re looking to fill?

Brian Mueller

We’re still in the early stages and there is a search there that is going on and there’s a committee put together. It’s a very, very important position obviously and the fact that Laura is staying on in a capacity is helpful for us and so because of that we’re not in a rush; we want to make sure that we find the right person.

Bob Craig - Stifel Nicolaus

Okay, great. Thanks, Brian.

Operator

Your next question comes from the line of Mark Marostica with Piper Jaffray.

AJ Kasargod - Piper Jaffray

Thank you. This is actually AJ Kasargod for Mark. Brian, this first question, how many bachelor degree students graduated in Q3?

Brian Mueller

I don’t have that number.

AJ Kasargod - Piper Jaffray

I guess this is maybe on a relative basis; did you have more graduates this year than last year third quarter? Can you speak to any trends there?

Kenda Gonzales

We don’t have that information with us. We do have continuous starts of students continually complete their programs and graduate. As far as official graduation when they do their paperwork, etc. I don’t have that information.

AJ Kasargod - Piper Jaffray

I’ll just try to follow up on that later. How about the next question? Brian, I remember in last quarter’s call you mentioned that you are going to enhance your lead spend and did Q3 represent a full quarter of enhanced lead spend or did you start that intra-quarter?

Brian Mueller

No, it was pretty close. It was pretty close to full lead spend. Someone expressed some surprise that they thought the spend would be higher. It was just a matter of - it wasn’t the spend that we had. We didn’t have a goal in mind from the dollar standpoint. We had a goal in mind from the lead standpoint and we achieved that goal much easier than we anticipated.

AJ Kasargod - Piper Jaffray

Actually just a follow up on leads too, I know you discussed it earlier, but you said the cost of leads were coming down. Could you give us more color, just a little bit more information as to why? How you are purchasing them? Where you are sourcing them? Just why is the cost of leads coming down?

Brian Mueller

That was a little confusing but it sounds like someone was asking the same question with different words, so I’ll try to answer it. Two things. One - the Internet advertising space had what I would refer to as aggregators in that space. They were people who had a certain amount of organizational capability and they used that organizational capability to draw in vendors who had publishers, had websites, were able to generate leads and found it easier to work through the aggregators than to work directly through us or just didn’t think they could come directly through us.

We started the process last November and December of contacting all those vendors and encouraging them to work directly with us. We got rid of much of the aggregators, the middlemen, the markup and it allowed us to work directly with vendors so that the markup wasn’t there, but we could also work directly with them. If they had greater capability from a lead generation standpoint, we were able to benefit from that. That was a big part of the success.

The second part of it was that we expanded the zip code areas around major metropolitan areas in order to make our ground based offer. We did that because if the student was 20 or 25 miles from a learning center, the enrollment counselors in those cities were now able to sell the student into the online program if transportation and distance from the learning center made it unlikely that they would attend.

We were surprised at the amount of success that we had as we expanded those zip code areas. We got a great deal more leads than we thought, and historically the ground campuses had been way overspending for leads. Our belief to, number one, expand that and get more, then drive the cost down, those things working together is what brought about our success.

Operator

Your next question comes from the line Kirsten Edwards with ThinkEquity Partners.

Kirsten Edwards - ThinkEquity Partners

Hi, good morning. I’m wondering if you could talk about enrollment counselor turnover at all and if that’s changed during the compensation increase last October?

Brian Mueller

A couple of things are working in our favor there, really three things. One, we did change the enrollment counselor compensation plan. We brought confirmed counselors in at a higher salary rate. We gave them the potential to do better than they could do in the past, so that has helped reduce the turnover rate.

The second thing is as we expand the use of the qualifying center to all enrollment counselors; it really changes the nature of their job, because they are only dealing with 30 or 40 potential students among those that are most likely to start the program. They in essence become educators; spend more time with students and more time educating students, preparing them to be successful in the classroom. That’s how we are training them. That’s what we expect them to be good at especially if they put them into the online classroom with – because a lot of students are unfamiliar with that. The nature of their job has changed. We think it is a better job than it has been in the past when you had to do so much prospecting.

The third thing that we hope worked in the favor of continuing to decrease the turnover rate is putting more enrollment counselors out in marketplaces versus having so many of them here in Phoenix. We think that should help us drive up the quality of the person that we can hire, which will drive up their ability to be successful, therefore, them wanting to stay around for a longer period of time.

All those things working together, is the turnover rate going down? Yes, it is. Do we think we can get better at that? Yes, we do and we are working at it.

Kirsten Edwards - ThinkEquity Partners

Great, then can you talk a little bit about an update on what persistence is among the Axia on online students. I think you mentioned previously that you felt that might be actually better than the UOP online students. Is that still the case?

Brian Mueller

Yes, it is better.

Kenda Gonzales

Make sure you’re clear on level one and two.

Brian Mueller

It is better. The retention rate of level one and level two in Axia is better than when you put them in the University of Phoenix. It’s not as good as it is for a three and four student or a five and six student. So really you want to think about four categories of students. When we put students in the University of Phoenix online, and they were level one and level two students that would be the lowest rate. Putting them in Axia picked that up and improved that, but it’s not as good as when we get a three or four student or five and six student.

That’s our goal, is to make that as good, which is why we’re rewriting the curriculum and trying to learn as much as we can about how best to serve those students.

Kirsten Edwards - ThinkEquity Partners

Then in the new curriculum, would it be required for any of the online students to actually go to a learning center for this extra tutoring?

Brian Mueller

No, but we sure hope they will. It’s one of the things that we’re going to experiment with three levels of support. We’re going to imbed support in the curriculum that currently doesn’t exist. We’re going to offer students the ability to get online tutorial support directly. Then we are also going to offer them the opportunity to go to a ground based campus and get it on a face-to-face basis.

In an expanded learning center at some point it could be that the learning centers were open from 6:00 in the morning till 10:00 at night. I don’t know exactly how that’s going to work; maybe it will be 24/7. We’re going to experiment with that and see if the students really feel like that amount of one-on-one and face-to-face support, especially in areas like math, writing and computer skills, if that really is effective and helpful to them. Then we would obviously expand that. We’re going to do a lot of experimenting in the next year to see what works best.

Kirsten Edwards - ThinkEquity Partners

One last one, I think in the Investor Day you mentioned that operating margins wouldn’t decline more than 1 - 2%. Is that still your rough guidance and if so, what was the reason it was down a bit more this quarter?

Kenda Gonzales

Bad debt expense was predominately the reason as well as additional employee related expenses. Dan just pointed out to me also that if you look at percentages, the $20 million of additional revenue in the third quarter for last year obviously has a big impact on the calculation of that number when you compare year-over-year in the quarter.

Kirsten Edwards - ThinkEquity Partners

So that 1 - 2% guide was not including the impact of bad debt, is that right?

Brian Mueller

It really didn’t include the impact of the $20 million.

Kenda Gonzales

Of the $20 million.

Brian Mueller

The extra week of attendance, so that…

Kenda Gonzales

It did include the impact of the bad debt.

Kirsten Edwards - ThinkEquity Partners

Great. Thank you.

Operator

Your next question comes from the line of Chris Gutek with Morgan Stanley.

Chris Gutek - Morgan Stanley

Thanks. Hi Brian, a couple of questions. First with the call yesterday regarding the option grant. Curious when you guys say that you think the strategy, the policy is historically inappropriate. Is that implicitly saying that there is no back dating? Assuming that is the case, is the timing out on your periodic lows for past grants, is that a coincidence or is it informally trying to time grants at a low price, but not doing it retroactively?

Kenda Gonzales

The Board of Directors as we indicated had hired an outside firm to look at that. We did do an analysis internally and reported our results a week ago Friday from that internal analysis, which indicated that we did not find any evidence of back dating of grants. The other work being done for our Board is still ongoing at this point.

Chris Gutek - Morgan Stanley

Fair enough. Then Brian, you’ve talked about most of the key metrics, qualitatively in terms of lead flow, conversions and retention by different programs. I know you don’t want to give specific hard numbers, but could you put some rough approximate numbers around some of those trends? How those metrics have gone over the last couple of quarters?

Brian Mueller

We’re not ready to do that at this time. I don’t know if we will in the future. I think that in this industry information around leads, information about cost per lead, information around the source of leads, information around the source of students, conversion rates - I think that is really proprietary information. I think it’s intelligence that’s learned over the course of time that can be used to your favor, so giving specific information about those metrics, I don’t think is in our best interest. Although, I do want to say leads are up more significantly than we thought. They’re up more significant than starts are at this time, but lead indicators from a start standpoint in June are very strong. They are pointing towards upper teens in terms of increase over prior year. That’s a sign that I think we are moving in the right direction.

Chris Gutek - Morgan Stanley

Brian, since the call is on the campus side of business, the student population in the third quarter was down about 3% on the campus side. With the new campus openings, presumably the mature campuses are shrinking somewhat more rapidly. Strategically is the thinking that is going to reverse and there is no need to be cutting capacity in terms of lead space and instructors at mature campuses? Conversely are you starting to shift the thinking to rationalize some capacity there?

Brian Mueller

We will definitely take a very close look and watch very carefully, especially in places like southern California and in northern California where space is very expensive. We’ll take a look at our classroom capacity, but probably shrink classroom capacity if the trend of more students choosing online delivery stays in place, which we think that it will, but we will be shifting those expenditures into doing other things with our learning centers. I think you could expect in the future, it’s possible that we’ll have more of a physical presence, more learning centers, and smaller learning centers. Not as many classroom facilities, but more support services available to students on demand at the time that it is most convenient for them to get those support services.

Do we think that classroom expenditure space is a percent of revenue in the future may go down some? I think it may, but I wouldn’t guarantee that. I’m not promising that and I’m not thinking that would be the best thing for us. I think for us to figure out a way to service students in those facilities because that’s a big advantage that we have as a national university, having a presence in most states and almost every major metropolitan area. That’s a strategic advantage we have against every other competitor. Being able to combine that advantage with a highly scalable online program, I think putting those two things together could put us in a situation, and in a position in the future that other institutions aren’t able to match. That’s the thinking at this point.

Chris Gutek - Morgan Stanley

Great. Just a quick follow up for Kenda, with the bad debt expense coming back down the last quarter or two, is that thinking that you can get back to historical levels, at least below 2% in the short term with the mixed shift towards Axia? Or do you think you will be at permanently higher levels versus the historic history?

Kenda Gonzales

I think that probably not in the fourth quarter, but that certainly is our thinking that we’ll be able to get back towards those historical levels starting in fiscal ’07.

Chris Gutek - Morgan Stanley

Great. Thanks a lot.

Operator

Your next question comes from the line of Jeff Silber with BMO Capital Markets.

Jeff Silber - BMO Capital Markets

Thanks. Just a follow up on Chris’ question with capacity, did you close any campuses during the quarter?

Brian Mueller

No.

Jeff Silber - BMO Capital Markets

I’m just looking at last quarter. You have 95 campuses. You opened up four this quarter and now you have 97. Is my math wrong?

Kenda Gonzales

We did have an IPD contract that we no longer have during the quarter, so that’s the number there.

Jeff Silber - BMO Capital Markets

Great, thanks for that. In terms of hiring new enrollment counselors, obviously you are ramping that up. It sounds like the majority of those are not going to be in Phoenix. Are you having trouble filling those slots with the labor markets tightening around the country?

Brian Mueller

No. I’m getting a periodic update from regional directors and campus directors. They have very specific goals in front of them in terms of hiring and being at capacity, giving lead flow in their areas. At this point I have not heard that they are having trouble getting the people that they need to reach those goals.

Jeff Silber - BMO Capital Markets

Great. One final one. Is there another charge coming this quarter for the UOPX conversion?

Kenda Gonzales

It’ll be a small one, but yes.

Jeff Silber - BMO Capital Markets

All charge, but otherwise we could expect the option compensation, the stock based compensation to be roughly in line with the ones that…

Kenda Gonzales

Roughly in line with what you see in the third quarter and there will be an additional, and I can’t off the top of my head remember - a couple million max on the UOPX conversion.

Jeff Silber - BMO Capital Markets

That’s fantastic. Thanks, again.

Operator

Your next question comes from the line Jennifer Childe with Bear, Stearns & Co.

Jennifer Childe - Bear, Stearns & Co.

Thanks. Brian, is it safe to say that enrollment growth has dropped?

Brian Mueller

Yes.

Jennifer Childe - Bear, Stearns & Co.

Have results been tracking your internal model?

Brian Mueller

Yes.

Jennifer Childe - Bear, Stearns & Co.

Kenda, since revenue per student was essentially flat if you exclude the $20 million in last year’s Q3, should we expect it to go positive in the fourth quarter?

Kenda Gonzales

We’re not giving guidance on that right now, Jennifer.

Jennifer Childe - Bear, Stearns & Co.

Brian, could you speak to the lead quality?

Brian Mueller

Yes, that is the thing that is misunderstood and one that we need to be very, very strategic and smart about. We are in the next phase of that even as I speak. The ability to leverage our qualifying center fully means that we are interested in leads at every level. We’re interested in very high quality, higher type converting leads that may be double what we pay for most leads today. We’re interested in identifying those sights, those publishers that produce those leads and

paying them appropriately given their conversion rate.

We’re also very interested in hundreds of thousands of co-reg leads, which are of low quality. But because we can run them through our qualifying center in an effort to get voice to voice contact with a student, qualify that student and then move it to an enrollment counselor so they only have to deal with that student once they become a fairly important prospect, allows us to really be interested in leads across a full range.

In the short run here, as we have lower cost per lead, increase in numbers and are not as good at right pricing yet as we expect to be in the future, if the conversion rate goes down slightly, I’m not concerned about that, because that will be offset by the sheer volume. As we move forward, our ability to understand all categories of leads, price them appropriately, move them through our qualifying center appropriately, then get them into the hands of the right enrollment counselor, puts us in a position to make best use of a full spectrum of leads.

Jennifer Childe - Bear, Stearns & Co.

When you talk about an abundance of leads more than you even needed, were those of varying quality?

Brian Mueller

Absolutely. They always have been, but we are getting better at the ability to understand the different levels of quality, we know how much time to spend on them and we know where to put them. Those things give us the capability of working with leads from across the quality perspective. That’s the goal.

Jennifer Childe - Bear, Stearns & Co.

Thank you.

Operator

Your next question comes from the line of Corey Greendale with First Analysis Securities.

Corey Greendale - First Analysis Securities

Hi. Good morning. Brian, question about an organizational, cultural question. There was some discussion at the Investor Day about managing for the short term at times at the local campus level, people cutting advertising costs to make their bottom line number. First of all, you come from a “that’s not happening anymore.” Second of all, what changes have you made to ensure that doesn’t happen at any local campuses?

Brian Mueller

It’s not going to happen, because we are not going to play the game that way. As we’ve talked in the past, we’re looking long term and we’re going to look for continued progress from quarter to quarter. It won’t happen from a local campus standpoint, because we control that from Phoenix. It could happen on the front end budget from a front end budget perspective. Meaning local campuses could submit a budget that indicates that spend as a percent of revenue from an advertising standpoint would be below what we expect given the size of the market, the time we’ve been to market, etc. We would fix that from a budgetary perspective. Then once the budget starts to roll, it’s not possible for them to control that, because we control that back in Phoenix.

Corey Greendale - First Analysis Securities

Looking forward to potential international acquisitions, can you talk about a little bit culturally, there is talk at Investor Day about the potential target as different cultures that haven’t focused on sales and marketing. If you do one of those acquisitions, how would cultural shift work? Would you train the people that are there already? Would you bring in your own teams to take that over? Just some comfort that the cultural change could happen seamlessly without company issues with the companies there.

Brian Mueller

I think that is really important. I think it has to be a combination. I think that the four or five people that are going to comprise the management team have to be a management team that exists of both UOP people and local people. I think that is probably, absolutely the most critical part of making that successful.

We’re not necessarily looking for something in a marketplace that we would have to turn around. We want something that has a good quality academic program that has a good brand in the country where they operate. Then our ability to put the right management team together, given what we believe we can bring to it, and combine that with people from a local area is the most critical decision. We’re not looking to completely change the culture. We’re looking to bring what we have expertise in to what they currently have from a cultural standpoint to make them better.

Corey Greendale - First Analysis Securities

Just to set expectations, is possible or likely that you could do more than one acquisition or would it be likely one we should look for?

Brian Mueller

I would say at this particular point in time, look for one, but we are looking in different areas of the world. Over the course of the next 12 months, for example, might there be two? Yes.

Corey Greendale - First Analysis Securities

Still hope to announce something by the end of this calendar year?

Brian Mueller

Calendar year? That’s possible. Yes.

Operator

Your next question comes from the line Mark Hughes with SunTrust Robinson Humphrey.

Mark Hughes - SunTrust Robinson Humphrey

Thank you. Could you provide the change in campus enrollment numbers on the call?

Kenda Gonzales

Changing campus enrollment?

Mark Hughes - SunTrust Robinson Humphrey

Campus growth versus online growth?

Kenda Gonzales

Online was 20.6. The campuses were down slightly.

Brian Mueller

Minus two point something.

Kenda Gonzales

It was -3%.

Mark Hughes - SunTrust Robinson Humphrey

-3?

Kenda Gonzales

Right.

Mark Hughes - SunTrust Robinson Humphrey

For this quarter?

Kenda Gonzales

For an overall, 10.7%. Correct.

Mark Hughes - SunTrust Robinson Humphrey

Then, any comments you can make about retention rates, online versus on campus for similarly placed students. That is the same level?

Brian Mueller

Yes. It’s close. The retention rate at ground campuses is typically a little bit better than the retention rate at the online campus. Not huge, a couple of percentage points, but it does absolutely represent the risk from an online standpoint. It’s easier to get students in and it’s very convenient. You can start them every week. You don’t have to worry about class size. You don’t have to worry about groups making or not making. That’s all the upside and positive side of it, but if you have it built in, the academic support systems, the student support systems and all those things, we do run the risk of losing the staff as you’re putting them in. We’re getting better at that, so we still feel confident that as more and more people choose to go online, we’re in a good place.

Mark Hughes - SunTrust Robinson Humphrey

Thank you.

Kenda Gonzales

Operator, I think we’ve already run over so, perhaps two more questions and then we’ll need to end this call.

Operator

Your next question comes from the line of Kelly Flynn with UBS Warburg.

Kelly Flynn - UBS Warburg

Thanks. I have a couple of questions. Back on the bad debt issue, I heard the color you gave on expectations from here; but Brian, at my conference you mentioned that you were considering or perhaps had already started to become a little bit more flexible with payment terms. You weren’t kicking people out immediately if they missed a payment. Can you talk a little bit more about that? Is this an issue you are starting to put people on payment plans? How does that fit with the goal of bringing bad debt down as a percentage of sales over the next year? I have a follow up.

Brian Mueller

Yes, that is not a broad based program. It’s a small change, a subtle change that we implemented with Axia College students only, because the amounts they owe were so small. It all had to do with the resource fee. Tuition basically, is covered with the limits they can get from a Title IV perspective, but they were getting behind from a standpoint of the ability to purchase or to make that resource payment. It didn’t seem very smart to have a student sit out who owes $400. You’re spreading that across 66 or 67,000 students, so if you can work out payment plans in advance to make sure you have the 300 or 400 or 500 shortages covered, that keeps the students and it keeps them rolling.

We’re not talking about tuition payments. We’re talking about resource payments adding small amounts of money. Just being more creative about how we work with students from that standpoint.

Kelly Flynn - UBS Warburg

Than a follow up to that on the gross margin. I know it can down in part because of bad debt, but excluding bad debt it was down over 100 basis points. Can you get into more detail about why that was and as you talk about beefing up or changing the actual curriculum? You’re adding more services, etc. Why wouldn’t that gross margin continue to come down? Could you just put a little context around that?

Kenda Gonzales

If you’re looking at just the quarter to get an apples-to-apples comparison, you probably need to exclude that $20 million of revenue that we talked about from last year’s numbers. Once you do that you would see the bad debt expense. I think you can’t just look at the quarter from that perspective. The other thing we have is stock based comp that wasn’t in last year’s numbers that is in this year’s number.

Brian Mueller

The end of next quarter will offer a better pinpoint comparison than this quarter. Advertising up very, very slightly. Salaries up, very slightly. If you get rid of the $20 million, you see that it’s really bad debt.

Kelly Flynn - UBS Warburg

What about guidance? You seem to have stabilized things, so why aren’t you giving guidance and what’s the thought on when you might restore that?

Kenda Gonzales

At this point we haven’t made any final determination on when we will reinstate guidance and what that guidance will look like when we do reinstate it.

Kelly Flynn - UBS Warburg

I have a final one. This is sort of a complicated question. Brian, at the Analyst Day, you put up a slide showing that new enrollments on ground were up over 30% in March.

Brian Mueller

At one campus.

Kelly Flynn - UBS Warburg

That was just one campus?

Brian Mueller

It was our southern California campus.

Kelly Flynn - UBS Warburg

I thought that second slide was actually overall. That clarifies that then. Great. Thanks a lot.

Kenda Gonzales

This will need to be our last question then.

Operator

Our final question comes from the line of Trey Cowan with Stanford Financial Group.

Trey Cowan - Stanford Financial Group

Lucky me. Good morning. Real quickly, a clean up question. The Axia enrollments, could you give those again for me, please, for November, February and May?

Kenda Gonzales

We have associates, which is predominately Axia. It’s in the press releases under Associates Programs. There were 66,100 Associates students at the end of May. I don’t, do we have more than that?

Brian Mueller

It was 53.1 and 53.5. I think 53.1 was November and 53.5 was February.

Kenda Gonzales

53.4 in November and 53.5 in February.

Trey Cowan - Stanford Financial Group

Great. Thank you. When you talk about the enrollment counselors that you’re going to hire for the on ground side of that, can you give us the genesis behind that versus the survey that you have saying that 90% of your students want to take online classes, what’s the rationale there?

Brian Mueller

The way that those enrollment counselors are now brought into the system, they can put the student in the ground based program or in the online program. They are trained to do that. The rationale of hiring them out in the local market versus back here in Phoenix, currently we have about 2,400 enrollment counselors here in Phoenix. The rest are spread throughout the country, another 100 or so out in the country. We’re going to take that up to 18 or 1,900, but when you spread that out over all those metropolitan areas, it enables you to get a higher quality person versus putting so much pressure on getting high quality people in one marketplace only. That’s the rationale.

Trey Cowan - Stanford Financial Group

Great. That makes sense to me. What I’m hearing you say is that those enrollment counselors, they aren’t just enrollment counselors on the ground; they are also online enrollment counselors as well. Correct?

Brian Mueller

That’s correct.

Trey Cowan - Stanford Financial Group

Thank you. That clears it up for me. You have a good one.

Brian Mueller

Thank you. We appreciate your attendance very much and look forward to see some of you out on the road here in the next couple of weeks. Thanks again.

Operator

Thank you. This concludes today’s conference.

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Source: Apollo Group, Inc. F3Q06 (Qtr Ending May 31, 2006) Earnings Conference Call Transcript (APOL)
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