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Corinthian Colleges, Inc. (NASDAQ:COCO)

F4Q09 Earnings Call

August 25, 2009 12:00 pm ET

Executives

Anna Marie Dunlap – Senior Vice President of Investor Relations

Jack D. Massimino – Executive Chairman

Peter C. Waller – Chief Executive Officer

Kenneth S. Ord – Chief Financial Officer and Executive Vice President

Analysts

Sara Gubins – Bank of America Merrill Lynch

Trace Urdan – Signal Hill

Jeffrey Silber – BMO Capital Markets

Gary Bisbee – Barclays Capital

Mark Marostica – Piper Jaffray & Co.

Andrew Forbes – UBS

Jerry Herman – Stifel Nicolaus and Co.

Operator

Welcome to the Corinthian Colleges fourth quarter 2009 investor conference call. (Operator Instructions) The speakers on today’s call are Anna Marie Dunlap, Peter Waller, Jack Massimino and Kenneth Ord. I would now like to turn the call over to Ms. Anna Marie Dunlap, Senior Vice President of Investor Relations. Please proceed.

Anna Marie Dunlap

Thank you operator. Good day everyone and thanks for joining us. I am here today with Jack Massimino, Executive Chairman; Peter Waller, Chief Executive Officer and Ken Ord, Chief Financial Officer. This call is being webcast and an audio version of the call and transcript will be available on Corinthian’s website for 30 days. In addition, a telephonic replay of this call will be available until Tuesday, September 1st. The details for accessing the replay are included in the press release we issued this morning.

Please note, that during this conference call we may make projections or other forward-looking statements regarding a variety of issues. These statements are based upon current information and expectations. Actual results may differ materially based on a number of risks, which are identified in our filings with the Securities and Exchange Commission.

Following our prepared remarks, we will open the call for a question and answer session and with that I’ll will turn the time over to you, Jack.

Jack Massimino

Thanks Anna Marie. Hello everyone on the call. For those of you who may be new to the company, last quarter we announced a planned leadership transition that took place on July 1. At that time I became Executive Chairman and Peter Waller became Chief Executive Officer. As Executive Chairman I am primarily focused on legislative issues, strategy, acquisitions and board related matters. Peter has been with the company since February 2006 and was well prepared to take the reins.

Since fiscal 2009 was my last year as CEO I am very pleased it was such a successful year for the company. During the year we completed our turnaround phase and more than doubled operating margins. Our internal operational improvements combined with help from the recession allowed us to exceed our previous guidance range for start growth, revenue and earnings per share for the fourth quarter and the year.

Most importantly, we continued to help our students achieve their career goals in the face of a difficult economic environment. Our placement rates for the 2008 cohort was 78.1%, a solid performance given the weak labor market that exists today.

Revenue for fiscal year 2009 totaled $1.31 billion, up 22% over the $1.07 billion reported in the previous year. Our revenue growth was mainly driven by an increase in student population. At the end of the fourth quarter our total student population was 86,088, an increase of 24.4% over the same period last year.

Operating income grew from $44.8 million in fiscal 2008 to $119.3 million in fiscal 2009, an increase of 166.3%. Our operating margin grew from 4.2% to 9.1% over the same time period and we remain on track to achieve a 15% operating margin by fiscal 2011.

Diluted earnings per share were $0.81 for the year versus $0.39 last fiscal year, an increase of 107.7%. With those introductory remarks I will provide a few comments about the legislative and regulatory environment which as I said is one of my main areas of focus as Executive Chairman. After my remarks I will turn the call over to Peter who will discuss our fiscal 2009 progress, our growth plans for fiscal 2010 and our fourth quarter operating performance. After Peter, Ken will review the quarter’s financials, provide an update on bad debt, internal lending and cohort default rates and discuss guidance.

I will now turn to a review of the legislative and regulatory issues. In general we continue to view the political and regulatory environment as favorable for our company and the proprietary education sector. Given the Obama administration’s increased focus on post-secondary education we have seen additional funding made available to eligible students.

On July 1, a $619 increase in the maximum Pell Grant went into effect making it easier for economically disadvantaged students to afford an education. We expect an additional $200 increase in the maximum Pell Grant next July. Nearly 70% of our U.S. students received Pell Grants in fiscal 2009. Congress has also recognized that increases in student aid make it more difficult for institutions serving low income students to meet the 90-10 Rule. Last year the reauthorization of the Higher Education Act included 90-10 relief. Just a few weeks ago the House Education and Labor Committee passed a measure to provide additional 90-10 relief and the strong bipartisan vote itself, 42 to 5, was a positive indication about the for-profit sector’s standing with Congress.

In addition, grants for workforce training under Department of Labor programs have also increased and students attending our schools are eligible to receive such funding. Further, we continue to have good working relationships with the Department of Education. Based upon our own interactions with the new leadership and other key DOE officials there is nothing to suggest that the Department’s regulatory agenda is designed to put any particular type of school or sector at a disadvantage.

Several weeks ago I had the opportunity to meet with Robert Shireman, Deputy Under Secretary for Post Secondary Education and we reinforced the administration’s commitment to ensuring that all students at all types of institutions have access to effective, post secondary education and that the tax payers are well served in the process.

As you may recall, in May the Department of Education issued a Federal Register Notice which listed several issues it planned to study for possible modification to its regulations. Subsequent to the notice, the DOE held public hearings soliciting ideas and opinions with respect to those issues or others the public deemed important to consider. We monitored the hearings which were largely uneventful and provided written and oral testimony to the Department. We expect a negotiated rule making committee to be formed during the next few weeks around the issues identified in the Federal Register Notice and as is the DOE’s practice, we expect our sector to be represented on that committee.

In short, the regulatory process is moving forward as expected at a measured and deliberate pace. We expect any regulatory changes emanating from negotiated rule making to be incremental in nature. In addition, any new regulation coming out of the current process would not go into effect until fiscal year 2011 at the earliest.

To sum up my remarks, we believe the legislative and regulatory environment continues to be positive for our company, our students and the entire higher education industry. We will continue to educate policy makers about our schools, the role we play in providing skilled workers for the economy and about important issues such as the 90-10 rule and cohort default rates. There is every indication we are at the table as full participants in the legislative and regulatory process and that we have ample opportunity to make our views known.

With that I will turn the time over to you, Peter.

Peter Waller

Thanks Jack. I will begin with a few highlights of our fiscal 2009 progress. During the fiscal year we continued to focus on the same priorities that helped us engineer the turnaround of the past four years including building people capability, marketing competitively, enhancing and expanding programs, strengthening infrastructure and overall execution.

Let me briefly review our progress in each of these five areas. In the area of building people capability we were encouraged by the results of our third annual employee survey. 79% of employees responded in the survey, an even higher number than in the previous year. Overall satisfaction was up 7 percentage points this year and 16 points over the past two years. In addition, our survey results matched or exceeded those of top tier benchmark companies. We believe this continue improvement is primarily the result of stronger leadership throughout the organization, more extensive communication and better tools and training. Higher employee satisfaction has helped cut employee turnover in half since fiscal 2006 from 48% to 24% in fiscal 2009.

At the executive level we made several important hires in fiscal 2009 including Matt Oimet, our President and Chief Operating Officer. Prior to joining Corinthian, Matt was a top level executive at Walt Disney Parks and Resorts and at Starwood Hotels and Resorts. We hired Matt in January 2009 as part of our planned leadership transition. We also internally developed, promoted and/or hired a number of well qualified regional Vice Presidents and campus Presidents as well as education, admissions, career service and student finance leaders. Of our director level and above positions filled during fiscal 2009, the vast majority were filled through internal promotions.

In the marketing area, we continued to improve both efficiency and effectiveness during the year. We generated nearly 2.2 million paid media leads during the year, a new record. The media costs per start continued to decline in fiscal 2009 as we shifted more of our resources towards the internet and national advertising. We increased lead quality through advanced lead scoring technology and took advantage of lower advertising rates in a recessionary economy.

In admissions we continued to ramp up our high school recruitment effort. The high school market is largely growing and represents a relatively untapped opportunity for our schools. In fiscal 2010 and beyond we expect high school starts to become a more important part of our growth. I will provide more detail on our most recent marketing admission progress when I discuss our fourth quarter results in a few minutes.

In fiscal 2009 we also made progress on our growth strategy of expanding and enhancing programs. This strategy includes transplanting core program offerings in healthcare, criminal justice, business and the trades at campuses across the company. In total, we implemented 114 such programs during the fiscal year and expect to transplant another 90 programs in fiscal 2010.

During fiscal 2009 we also continued to implement our Common Student Information System. When we initiated Project Unify in 2007, Corinthian had seven computing platforms. Today, 55 schools are on Campus View, the new system that provides our student tracking program, and we eliminated four of the legacy programs. We expect to complete the Campus View rollout by the end of 2010 calendar year.

In addition to the Campus View implementation in fiscal 2009 we launched an initiative to improve the basic technology infrastructure of our campuses including upgraded bandwidth and wireless capabilities. This initiative will allow us to make better use of technology in the classroom and improve communications at the campus level.

Our fifth operational priority, execution, is about getting it right for students every day, every time. We can measure execution in many ways but the most important measures are completion and career placement of graduates. In fiscal 2009 retention improved slightly compared with the prior year. As we discussed previously, the recession is making placement more difficult and we are meeting that challenge head on.

Our placement rate for the 2008 Cohort of graduates was 78.1%, down from 83.7% the previous year. To achieve this solid result we increased our career services team by more than 1/3 and now have more than 600 individuals working to ensure an ongoing student employment opportunities to our graduates.

For the 2009 cohort of graduates, we expect stiffer economic headwinds so career placement will remain at the top of our agenda in fiscal 2010. We plan to further increase staff, re-engineer career services work processes and expand the number of partnerships we have with national or multi-state employers.

To sum up, in fiscal 2009 we remained focused on the fundamentals of the business and moved beyond the turnaround phase. We leveraged fixed expenses, improved marketing efficiency, expanded margins and posted solid outcomes for students in a difficult economic environment. Our leadership transition has gone smoothly and in fiscal 2010 we expect to continue our progress toward improving results for both students and shareholders.

Turning now to our fourth quarter results, as we reported this morning our growth on the top and bottom lines was above expectation for the fourth quarter. As has been the case for the past three years, our enrollment growth was generated by existing and new programs rather than new branch campuses or acquisitions. Growth is also broad based across ground schools and the online business. As I mentioned earlier, the recession continued to provide a tailwind during the quarter.

Our fourth quarter operating margin of 10.8% is a substantial improvement over the same period last year reflecting a higher student population and the resulting leverage of facility capacity and other fixed costs, which I will discuss in just a few minutes.

In the marketing area, the fourth quarter was the 13th consecutive quarter we achieved an increase in new student starts from continuing operations. In the quarter starts totaled 29,188, an increase of 26.8% compared with the fourth quarter of the prior year. Given current trends, we expect starts in the first quarter to grow by 15-17%. In subsequent quarters we expect the rate of start growth to go to a more normalized level for two main reasons; First, comparisons become more difficult in the second, third and fourth quarters. Second, although experts disagree about the timing of an economy recovery, given the ongoing recession it will not provide as much impetus to growth in fiscal 2010.

While we expect unemployment to remain high, changes in unemployment tend to be more of a macroeconomic driver for others so though we expect unemployment to contribute to our growth; we are not expecting it to be as much of a catalyst as it was in fiscal 2009.

For fiscal 2010, we expect start growth of approximately 10-12% versus 17.1% in fiscal 2009. We believe this is an achievable level that is well supported by the growth drivers currently in place. These include transplanting current programs across our system of schools, continued strong growth in the online business, new campuses, new and enhanced programs and high school recruiting.

Next I will discuss the media sources of start growth as well as cost trends. The mix of sources generating our start growth in the fourth quarter continued to show an increasing shift toward the internet. Of total starts, we derived 38% from the Internet, 26% from referrals, 21% from television and newspaper advertising and 15% from all other sources. For the 12th consecutive quarter the media cost of start continued its downward trend.

In the fourth quarter the media cost per start declined by 23.1% compared with the same period last year. We attribute the improvement to the same factors e have discussed on past calls including greater efficiency associated with ground consolidation and more effective advertising, recession related declines in advertising costs and our continuing efforts to improve lead quality and efficiency.

Media generated leads which exclude those leads generated by referrals and high school reps totaled 564,344 in the fourth quarter, an increase of 24.4% over the same quarter last year. The total cost of start which includes all marketing and admissions expenses decreased by 8.6% in the fourth quarter of fiscal 2009 compared with the fourth quarter last year. Admissions rep productivity increased in the quarter compared with the prior year as rep turnover continued to decline and conversion rates for adult media leads improved.

For all of the reasons just discussed, total marketing admissions expenses as a percentage of revenue declined to 21.1% in the fourth quarter of this year from 23.5% in the same quarter a year ago, a decrease of about 240 basis points. For the fiscal year total marketing and admissions expenses as a percentage of revenue declined by about 340 basis points. This is well ahead of the target set at our Investor Day in May 2008 which was to reduce marketing and admissions expenses by 300-400 basis points during fiscal 2009 through fiscal 2011.

When the economy improves we may gradually get back some of the savings on media buying but we continue to be confident that with the increased admissions productivity and marketing efficiencies we will have achieved a sustainable 300-400 basis point reduction in marketing admission expenses by fiscal 2011.

Turning now to the area of bad debt. In the fourth quarter bad debt was 7.1% of revenue, down from 9.1% in the same quarter last year and below our fourth quarter guidance range of 7.5-8%. The timeliness of student financial packaging continued to improve in the fourth quarter which helped reduce bad debt. As a reminder, efficient packaging is essential to managing bad debt. If students drop out prior to being packaged much of the revenue recognized for those students becomes bad debt.

For the company, unpackaged student drops are the major source of bad debt as a percent of revenue. Our improvement in packaging efficiency is reflected in our day sales outstanding which decreased from 21 days in the third quarter of fiscal 2009 to 17 days in the fourth quarter. As a result our consolidated cash balance is up and our receivables are down.

Given the increased packaging efficiencies we have achieved coupled with input management and internal lending we expect that bad debt as a percentage of revenue will continue to decline in fiscal 2010. Ken will discuss bad debt guidance more in a few minutes.

I will now move to the topic of educational services where we are seeing substantial leverage of fixed costs. Educational services expenses as a percentage of revenue were 56.0% in the fourth quarter fiscal 2009 versus 61.1% in the same quarter last year, an improvement of about 510 basis points. For the full fiscal year educational services as a percent of revenue improved 90 basis points.

As we said at our Investor Day last year we expect to reduce educational services by 500-600 basis points during the fiscal 2009 through fiscal 2011 and we remain confident of reaching that goal. Our improvement in the fourth quarter is primarily the result of the increase in student population, which leveraged occupancy, compensation costs and other fixed expenses and secondly the improvement in bad debt that we just discussed. As you will recall, bad debt as a percentage of revenue is included in the educational services line item.

As our student population grows, we are making judicious expansions in infrastructure including facilities and equipment, faculty and faculty leadership and student finance and career services personnel.

Let me now turn to Wire Tech. Wire Tech remains an important part of our business. In fiscal 2009 we expanded Wire Tech’s admissions team and invested more in admissions training which helped generate positive start and student population growth for the year. That said, Wire Tech now represents less than 7% of our total student population so in the fourth quarter we integrated Wire Tech’s six campuses into our existing geographic divisional structure. The new structure will allow us to leverage the strengths of existing division infrastructure, reduce admission expense and [associate] the addition of new programs.

I mentioned earlier that one of our growth drivers in fiscal 2010 would be the addition of new campuses. In several regions around the U.S. our national and internet ad campaigns have generated an abundance of leads where we currently have no market presence. For fiscal 2010 we have identified 2-3 locations where we plan to open new branch campuses in the second half of the year. We expect these campuses to be approximately 40,000 square feet, have capacity for 1,000 students and offer a mix of diploma and degree programs.

Each of these campuses will have a capital cost of approximately $4-5 million and we expect to break even on a P&L basis in approximately 9 months. Based on the market opportunity we have had identified and our enrolment growth projections, we plan to continue adding new campuses over the next few years.

Before turning it over to Ken we want to emphasize that we are well positioned for continued growth and margin expansion. We believe that our growth drivers; new program expansion, new campuses, new products, high school recruiting and continued robust growth in exclusively online students will work in a strong or weak economy. The recession does help the top line but as we have discussed, it also has its challenges.

Overall, we are confident we can continue to deliver positive results for our students and our shareholders. We will now go to Ken for a financial review and guidance.

Kenneth Ord

Thanks Peter. I will begin with facilities data for our ground schools. We ended the fourth quarter with a total of 4.3 million occupied square feet which is flat compared with occupied square footage last fiscal year. Occupied square footage per student was 61 square feet at the end of the fiscal year, down from 72 square feet per student at the end of June last year. We continued to see the benefit of higher student population coupled with disciplined facility expansion.

Moving now to enrolment data and again please note that this data is for continuing operations only, the total student population at June 30, 2009 was 86,088 students, an increase of 24.4% compared with 69,211 students at June 30, 2008. As previously discussed, the increase is the result of higher start growth. In the fourth quarter average student population was 86,369, an increase of 21.6% compared with the same quarter of the prior year. Of the total ending student population, 15,167 students were exclusively online, an increase of 43.7% over last year.

Turning now to the income statement, as a reminder the financial results I am about to review are based upon continuing operations, revenue for the fourth quarter were $353.5 million versus $274 million in the same period of the prior year, an increase of 29%. Our average revenue per student increased by 6.1% in the fourth quarter of 2009 primarily reflecting price increases.

Operating income was $38 million or 10.8% of revenue in the fourth quarter of 2009 compared with $4 million or 1.5% of revenue in the same quarter of last year. Both periods are net of impairment, facility closings and severance charges. Such charges totaled $4.4 million in the fourth quarter of 2009. Of the total, approximately $2.5 million is related to an additional reserve taken on student loan receivables that we had expected to receive from the Title IV program. These receivables were associated with the Marietta and Jonesboro campuses; the two branches of the Atlanta, Georgia campuses.

We closed the Atlanta campus due to student outcome issues and placed it in discontinued operations in the fourth quarter of last year. In addition, the company recorded a severance charge of $1.9 million primarily associated with the restructuring of Wire Tech.

The effective tax rate in the fourth quarter was 36.9%. The increase compared with the same period of last year is the result of higher effective state tax rates. Income from continuing operations in the fourth quarter of fiscal 2009 was $24.7 million compared with $4.8 million in the same quarter of the prior year. The net loss from discontinued operations was $1.5 million in the fourth quarter versus a loss of $5.4 million in the same quarter of last year.

Diluted earnings per share from continuing operations were $0.28 in the fourth quarter of fiscal 2009 versus $0.06 for the same quarter last year. The weighted average number of diluted shares outstanding for the fourth quarter of 2009 was 88.3 million compared with 86.1 million in the same quarter of the prior year.

Turning to the balance sheet, at June 30th we had approximately $160.3 million in cash and cash equivalents versus $32 million at the end of fiscal 2008. Long-term debt including the current portion as of June 30th was $28.6 million which includes capitalized lease obligations of $14.7 million.

Long-term debt including the current portion end June 30, 2008 was $77.6 million including capitalized lease obligations of $58.1 million. Net accounts receivable at June 30 was $66 million versus $115.1 million at the end of fiscal 2008. Student notes receivable including the current portion as of June 30, 2009 was $41.5 million versus $17 million at the end of fiscal 2008. Net day sales outstanding at June 30 were 17 days versus 21 days at March 31, 2009 and 38 days at June 30, 2008. The improvement is primarily the result of increased student financial aid packaging efficiencies.

Moving to the cash flow statement, cash flow from operations, and this includes discontinued operations, was $198.7 million in fiscal 2009 compared with cash flow of $13.6 million in the same period last year. The increase in cash flow is primarily from an increase in net income and the impact of improved financial aid packaging.

Next I will review the topics of bad debt, internal lending and cohort default rates. Our bad debt in the fourth quarter was 7.1% which was below guidance of 7.58% and a substantial decrease from the 9.1% reported in the fourth quarter of last year. The improvement is primarily the result of improved efficiencies in financial aid packaging for students and more efficient internal lending processes. In addition, the continued phase out of our legacy loan inventory also helped to reduce bad debt in the fourth quarter.

In terms of bad debt guidance we expect continued improvements in bad debt in fiscal 2010 and remain comfortable with bad debt in a range of 6.5-7% for the year. We expect bad debt in the first quarter to range from 6.7-7.1% of revenue.

I will now turn to a discussion of our internal lending program which we now refer to as our Genesis Discount Lending Program. As a reminder, we launched this program in March 2008 to replace the [GAAP] financing previously provided by Sallie Mae and other third party lenders. Under this program we lent students approximately $120 million during fiscal 2009 and expect to lend approximately $130 million in fiscal 2010. As discussed on previous calls, the expected defaults associated with our Genesis Discount loans are reported as a discount to revenue.

At the beginning of fiscal 2009 we estimated our loan discount would be approximately 50% based upon the projected mix of our student’s credit scores. We now have nearly 18 months of data associated with these loans and our analysis indicates that we are experiencing a mix shift towards students with lower credit quality. Given the length and severity of the recession this is not unexpected and it is not unique for our students.

According to Fair Isaac Corporation, FICO scores are declining for most consumers across the U.S. The average credit quality of our students has declined as well. Based on our internal analysis, in the fourth quarter we adjusted the Genesis loan discount to approximately 55% for the full fiscal year. In fiscal 2010 we expect the projected mix of credit scores to deteriorate further. Thus, we forecast the Genesis Loan Discount will increase from 55% to a range of 56-58%. We have included the increased discount associated with that loan program in our fiscal 2010 guidance which I will review in a few minutes.

Next, I want to briefly discuss cohort default rates, the defaults associated with federal Title IV student loans. Given the weak economy and the negative trend in credit quality just discussed we also expect to see an increase in cohort default rates. Each February the Department of Education publishes draft cohort default rates for the measurement period ending the previous September 30th. Although we won’t receive draft rates for the 2008 cohort of students until February 2010, we have reviewed the preliminary data from our Guaranty agencies from the defaults that have already occurred.

This preliminary data indicates that some of our institutions will have a 2008 cohort default rate above 25%. Under current rules, institutions exceeding a cohort default threshold of 25% for three consecutive years could become ineligible to receive Title IV funding. We want to emphasize we do not expect any of our schools to exceed the 25% threshold for three consecutive years. To reduce cohort default rates, we are redoubling our efforts investing additional resources at the corporate and campus levels as well as externally.

Turning now to guidance, and again our guidance is based on current expectations. It is forward-looking and actual results may differ materially as a result of the factors described in our public filings. I will begin with first quarter 2010 guidance.

We expect start growth of 15-17% in the first quarter. We expect revenue to range from $375-385 million. We expect diluted earnings per share to be approximately $0.26 to $0.29. We expect 88.9 million diluted shares outstanding in the first quarter. The tax rate is anticipated to be approximately 40.5%.

Moving now to guidance for the full fiscal year, we expect start growth of approximately 10-12%. For reasons Peter discussed earlier, we expect the rate of start growth to approach more normalized levels as the year progresses. We expect fiscal 2010 revenue to range from $1.58 billion to $1.6 billion. We expect diluted earnings per share to range from $1.30 to $1.36. We expect CapEx to range from $75-80 million. The increase versus last year is primarily the result of more expansions and remodels associated with our population growth and the build out of 2-3 new campuses as Peter discussed. Maintenance CapEx is expected to remain at approximately 2% of revenue. We expect the effective tax rate in fiscal 2010 to be approximately 40.5%.

As a reminder, our fiscal 2010 guidance excludes any one-time charges that may occur over the course of the year and the guidance includes the increase in the Genesis loan discount that I discussed earlier.

In terms of three-year guidance, we continue to expect an operating margin of 15% in fiscal 2011 and to be above that level in fiscal 2012. Longer term, we anticipate reaching an operating margin in the high teens. From fiscal 2010 to fiscal 2012 we expect start growth to average 8-10% and price increases to be in the 3-4% range. We will provide more detail on our three-year growth strategy at an Investor Day we are planning for next May.

With that I will turn the time back to Peter for closing remarks.

Peter Waller

Thanks Ken. In closing, we made substantial progress in fiscal 2009 on several fronts. Our leadership transition has gone smoothly and we are getting improved results with a proven business strategy. We continue to see strong growth momentum and remain focused on the fundamentals of the business. Employee satisfaction is up and turnover is down which translates into an improved educational experience for students.

Our marketing effectiveness and admissions productivity continues to improve and we are seeing improved capacity leverage as our student population increases. We are continuing to transplant our core programs and put initiatives in place to improve the quality of instruction and increase student completion rates. We are reducing bad debt through improved packaging and internal loan program efficiencies.

Given the weak economy, graduate placement and student loan defaults have necessarily become a more important area of focus. As discussed earlier, we are addressing these challenges with an aggressive plan of attack. In fiscal 2010 we expect continued student population growth and margin expansion and remain on track to meet our goal of reaching a 15% operating margin by fiscal 2011.

So let’s move now to the question and answer session. As in the past please limit yourself to one question and one follow-up and if time permits we will get back to you for a third round of questions. Operator, over to you.

Question-and-Answer Session

Operator

(Operator Instructions) The first question comes from the line of Sara Gubins – Bank of America Merrill Lynch.

Sara Gubins – Bank of America Merrill Lynch

I am wondering what persistence levels you are contemplating in your guidance. Do you expect those will go down as the economy improves or would you expect them to increase for any reason?

Kenneth Ord

Our assumption is essentially that persistence will remain flat. There will really be no change as we move forward next year.

Sara Gubins – Bank of America Merrill Lynch

The schools that might go above the 25% in terms of cohort default rates, can you give us any range in terms of what that represents either for your enrolment or revenue as a percentage of the total?

Kenneth Ord

Let me just kind of remind the listeners that when we talk about this issue cohort default rates are calculated by OPEID number which I know you are discussing. Under the current rules, any OPEID number that exceeds that 25% threshold for three consecutive years may become ineligible to receive Title IV funds. At this point, the data really is incredibly kind of very preliminary and immature. Therefore, I think the best way for you to think about it is to potentially look at the disclosure that came out last February and will be included in the 10K we file tomorrow which shows our 2007 cohort default in that you will see we have 5 or so schools presently above 25%. If you look at those relatively high levels of cohort default rates for those OPEIDs, those would be the most likely I think to potentially pass that 25% threshold. Again, just to remind you, overall we have 40 OPEID numbers.

Operator

The next question comes from the line of Trace Urdan – Signal Hill.

Trace Urdan – Signal Hill

I am having a little bit of trouble reconciling the strong guidance you have offered in the first quarter with full year guidance. I am wondering if you believe in the back half of the year that you might actually see your operating margins contract.

Kenneth Ord

No, we don’t anticipate we will see declining margins in the back half of the year. So that we do anticipate the margin improvement year-over-year in each of the quarters. The first quarter last year was very weak. You start seeing slightly harder comps starting with the second, third and fourth quarters.

Trace Urdan – Signal Hill

What are the accounting rules around the discounting? I thought I understood if the discount on the loans goes too high then you are challenged to actually recognize that revenue at all. Are you aware of any threshold like that which applies here or is that just an urban myth?

Kenneth Ord

It is not a threshold level. It is once you make an assumption and if that changes you may have to book it as bad debt or if you are looking at prior periods. The reality of the adjustment I just discussed and moving our discount rate to 55%, a portion of that…any portion of students that were from prior periods that was booked as additional bad debt and is included in the 7.1% that we gave you. The amount for our students in fiscal 2009 was booked as an additional revenue reduction.

Trace Urdan – Signal Hill

I’m sorry, I didn’t quite get that.

Kenneth Ord

Students in the current period you can book as a revenue reduction. Prior periods you are going to have to account for that as bad debt. It doesn’t matter how much the discount rate is, it is really you have to do it in the current period.

Trace Urdan – Signal Hill

The long-range guidance you took us through right at the end there I think I heard you talk about 8-10% start growth beyond 2010. Are you contemplating in that number that you offered us the potential for some type of contraction or reacceleration in there resulting from the economy or do you see yourselves as being able to slow things down in a very gradual way going forward?

Kenneth Ord

This gets back to the sustainable growth model we are really striving for. We do see as we look forward into the next three or so years we will move back to a more normalized model we outlined for ourselves so that 8-10% start growth is really reflective of a more normalized economy.

Peter Waller

You will remember from the Investor Day that is where we pitched ourselves on a running level and actually excluded new builds, new schools. Between our transplanting program and online expansion and high school the underlying growth platform is we believe that we have got that normalized level. We are layering on top of that the new builds.

Trace Urdan – Signal Hill

What I am trying to anticipate is are you allowing for yourselves to drop below that number as long as you sort of run an average on a rolling basis? Or are you really thinking it…

Peter Waller

It might be marginally below but if you do our math on where our guidance is for 2010, you get 15-17% in Q1. Basically it plots us in at that 8-10% in the back end of the year. Then we laid out the fact we expect to be able to hold 8-10% for the following fiscal years. It is not going to be dramatic. I saw where your number was yesterday and I think we are going to be slightly above that.

Trace Urdan – Signal Hill

It looked like you maybe spent a little more on the marketing side and obviously had a very strong start number in the quarter. I’m wondering if you sort of changed your tactics at all as far as that goes. Is there anything to read into the fact maybe you were a little more focused on start growth this quarter than you have been in the prior quarters?

Kenneth Ord

I think sequentially when you look at the marketing spend in fourth quarter versus the third it was essentially the same. It was up about $1 million. It is tough when you look at marketing spend by quarter and it is in that $75 million range. For us we viewed it as about the same in terms of marketing spend.

Trace Urdan – Signal Hill

It had a big decline in the prior year.

Peter Waller

We did increase our admission reps. That was a conscious, planned decision going into the fourth quarter to capitalize on the strong lead flow that is coming through from media. So by the end of the year we were up to 1,700 reps which we detailed in the K. That includes high school, online and ground schools. We were investing in reps and still managed to get the cost per starts down for the fourth quarter. We did that deliberately not only for the fourth quarter but to frankly give us momentum and to leverage the media coming into the first and second quarter.

Operator

The next question comes from the line of Jeffrey Silber – BMO Capital Markets.

Jeffrey Silber – BMO Capital Markets

I just wanted to circle back to your operating margin goal. You mentioned you are still very confident you can reach operating margins of 15% in fiscal year 2011. By my math if I take out the charge you did 9.5% fiscal year 2009. What should we expect in terms of the ramp up over the next two years to get to that 15%? Are we going to see most of that in fiscal year 2010, fiscal year 2011? Or is it going to be somewhat evenly split?

Kenneth Ord

We have laid out 2010 pretty well so I think based on our guidance for 2010 you can impute what we anticipate the margin being in 2010. We have given you the 2011 at 15%.

Peter Waller

It is about an even spread frankly from where we ended up this year to get to the 15% we get slightly beyond the halfway mark on that two-year trend in 2010. So it is not an obvious but sort of [eye in the lines] It is steady because of the layering we are continuing to improve marketing admissions, continuing to improve educational services and we are getting excellent leverage from G&A across the revenue growth.

Jeffrey Silber – BMO Capital Markets

Circling back on the bad debt side if I just try and focus in on the bad debt that was booked at the counter revenue account, when I take that as a percentage of gross revenues did that go up year-over-year?

Kenneth Ord

You are talking about the amount booked in the discount line?

Jeffrey Silber – BMO Capital Markets

Correct.

Kenneth Ord

Yes that obviously did go up year-over-year because I think we indicated when we were doing Sallie Mae that discount was roughly 25%. We moved to an internal lending program, the Genesis Discount was originally forecast at 50% so obviously that did go up dramatically as a result of the increase in discount we were taking on those loans. So yes, it did go up year-over-year.

Operator

The next question comes from the line of Gary Bisbee – Barclays Capital.

Gary Bisbee – Barclays Capital

The online business grew quite a bit faster, I guess to a certain extent it had an easier comp where you deliberately slowed it last year. How should we think about the levels of investment you are making in hiring reps and doing marketing for that versus the campus based business? Is that growth rate you got this quarter a number that is sustainable or is mid 20’s where you were earlier this year more sort of what a targeted rate might be in the near term?

Peter Waller

We had guided to a mid 20’s type of growth rate on our line. Frankly if you saw in the fourth quarter we are enjoying a faster growth rate than that. We are absolutely investing in infrastructure as we go. Part of that admissions cost, in the marketing admissions line in the fourth quarter was to ensure we put the online reps going forward. It is not just about the front end and supporting that growth. We really are increasing and have increased our student services support, financial services support and our faculty is up like 30% year-over-year supporting the online and not only the faculty itself but the faculty leadership. We see ourselves moving forward and we will be looking for our third facility coming through in fiscal year 2010. So we are building people and leadership to enable us to open that in a smooth transition.

Gary Bisbee – Barclays Capital

How about on the program front? Is a lot of this growth just coming from expanding existing programs or have you been layering in more and more programs? I guess how do we think about that over the next year?

Peter Waller

Are you talking about online?

Gary Bisbee – Barclays Capital

Yes.

Peter Waller

We really haven’t added much on our line of programs. It has been very much centered around business, criminal justice and homeland security. So that is actually a fairly stable program base. We are pleased I think perhaps behind your question also around infrastructure and pacing is the progress we are making on the outcomes. We are very focused on the outcomes in our online because it is in our DNA from our ground schools. Our placement rates are almost the highest in the company off the online business. Our retention rate has improved year-over-year.

We have some key metrics that indicate we are getting strong growth but we are controlling that growth with the appropriate level of infrastructure and the value proposition for our students.

Operator

The next question comes from the line of Mark Marostica – Piper Jaffray & Co.

Mark Marostica – Piper Jaffray & Co.

Can you just mention what the normalized bad debt levels were for the quarter? I think on the last call you mentioned you expected somewhere in the 6.5-7% range?

Kenneth Ord

Again, I think when we gave guidance we indicated that is a level we feel comfortable for a normalized bad debt level and being able to achieve that next year. For the quarter it was 7.1%. We are going to move down to these normalized levels this fiscal year. We gave guidance in the first quarter of 6.7-7.1% but for the full year we would achieved 6.5% to 7.0% and that normalized level is around 6.5%.

Mark Marostica – Piper Jaffray & Co.

Can you quantify, you mentioned further increases in career services staff. I just wanted to quantify sort of what you are expecting for net additions this year and how that compares to FY 09?

Peter Waller

We ended about 1/3 career services infrastructure in fiscal year 2009 to get ourselves to about 600. We frankly see more marginal increases this coming year. We don’t see that level of increase. We will be having some increase but sort of thin it out as our population continues to grow and we have the graduate cohort level improves. We are really focused in terms of investing in training and providing the tools and the skill sets to the added career services teams that we have now got in place to make them more effective in the community and more connected with where the potential jobs can be.

A lot of our programs are medical programs and we have externships so building up the strength of our externship program and ensuring they are robust plays a large role. We are reaching out to the community in a better way and putting funds against that.

Mark Marostica – Piper Jaffray & Co.

Do you think it is generally speaking those costs as a percent of sales is that like down or stay flat?

Peter Waller

I think career services will stay about the same as a percent of sales. Then the revenue growth.

Mark Marostica – Piper Jaffray & Co.

You mentioned high school starts just becoming a greater concentration of overall student population. Can you elaborate on that? What you expect to see in 2010 and beyond.

Peter Waller

At this stage I’m not going to give specifics on where we are with high school starts but I would say that in terms of number of reps and how this is ramping up, we had about 140 reps at the end of fiscal 2009 for the [inaudible] high school which is our major growth opportunity and we expect to reach 250 reps by the end of the year for 2010. At the same time Wire Tech in parallel is going from 100 reps to 125 reps. Our total high school sales force is going from 250 to 375 and we really think we are going to break through in terms of the start in 2010. As a result of that we are seeing good results in the first quarter. I just don’t feel on this stage of the call to dimensionalize that particularly.

It is becoming a very meaningful factor in our first quarter results as we come out of the high school season based on the seeding we did in fiscal year 2009 as we have more high school visits and more coverage in 2010 we are feeling good about the first quarter of 2011 and getting some real benefits from that cohort.

Operator

The next question comes from the line of Andrew Forbes – UBS.

Andrew Forbes – UBS

First, in terms of the negotiated rule making you said you expect the topics to focus on the issues or the work of [inaudible]. What kind of guided that confidence? The second question, you mentioned [inaudible] if you could give us any color regarding how pleased you were with the placement achieved by level or by subject?

Jack Massimino

On the legislative front with negotiated rule making there is a process that they step through. The initial part of that process is getting feedback from the public and from the industry about the issues they were concerned about. We have heard about all of those because we sat through those sessions. As I said, everything we hear would be incremental as opposed to anything new coming out of that. So I think you won’t see any surprises at least as far as we know at this point other than what we heard during those sessions. I think it is going to be pretty straight forward. They have been following their process as they have had in place for every one of these negotiated rule making events over the last several years. We really don’t anticipate anything untoward coming out of that.

Peter Waller

In terms of placement we calculated a solid 78.1% and that is sort of pretty much where we feel about it. We would like to be higher, but that is significantly above the accreditation licensing standards and the economic headwinds of the recession. We are feeling good about it. We have got a lot of focus on that with Matt and his operators and that is a key priority for us in this coming year not only in terms of dollars we were talking about earlier and the percentage of revenue but in career services but just share of mind. I think we lost you. We will go to one more question please operator.

Operator

The next question comes from the line of Jerry Herman – Stifel Nicolaus and Co.

Jerry Herman – Stifel Nicolaus and Co.

The first question is on pricing what your pricing plans are. Also, could you disclose the percentage of Title IV in FY09, 90-10?

Kenneth Ord

In terms of the Title IV again it will be 83% roughly. Again, just so you know in the calculation we exclude the potentially the incremental 2000 of Stafford in that calculation. So we actually receive more Title IV and that number is 81.3% that will be our 90-10 calculation in 2009.

Peter Waller

That will be in the K as of today. Pricing we are looking at about 3-4%, basically hanging around inflation type of rates.

Jerry Herman – Stifel Nicolaus and Co.

A follow-up with regard to cash flow you are obviously generating some pretty good cash flow now. Could you talk about either a range for 2010 and what you might do with the cash as it improves given the operational improvements?

Kenneth Ord

Our outlook for this year is probably $175-200 million in operating cash flow. I gave you forecasted CapEx so free cash flow is right around $100 million. We obviously have discussions with the board and look at several alternatives of using that cash. As we have indicated we are starting to ramp up the building of new sites so we spend a fair amount of time discussing alternatives for that cash.

Jerry Herman – Stifel Nicolaus and Co.

Including repo and acquisitions?

Kenneth Ord

Including repo and acquisitions, yes. All of those items are on the table.

Peter Waller

I’m sorry we were fairly brief with questions today but it was the year-end and so there was a bit more to share with you on the full fiscal year results as well as the quarter. We will cover questions separately as appropriate. I want to thank everybody who has participated on the call today. We look forward to providing you with an update of our progress when we announce our first quarter in late October. Not long from now. Thank you very much everybody.

Operator

Thank you for joining today’s conference. This concludes the presentation. You may now disconnect.

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Source: Corinthian Colleges, Inc. F4Q09 (Qtr End 06/30/09) Earnings Call Transcript
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