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Apollo Group, Inc. (NASDAQ:APOL)

Q3 2014 Results Earnings Conference Call

June 25, 2014, 08:30 AM ET

Executives

Beth Coronelli - VP of IR

Gregory W. Cappelli - CEO

Brian Swartz - SVP and CFO

Analysts

Jeff Silber - BMO Capital Markets

Sara Gubins - Bank of America-Merrill Lynch

Peter Appert - Piper Jaffray

Jeffrey Volshteyn - JPMorgan

Corey Greendale - First Analysis Securities

Paul Ginocchio – Deutsche Bank

Jerry Herman - Stifel Nicolaus

Tim Connor – William Blair

Operator

Good morning and welcome to the Third Quarter 2014 Earnings Release Conference Call. At this time all participants are in a listen-only mode. Later we will conduct a question-and-answer session. (Operator Instructions). This conference call is being recorded today, June 25, 2014 and may not be reproduced in whole or in part without permission from the company. There will be a replay of this call available through July 2nd beginning approximately two hours after we conclude today.

I would now like to turn the call over to Beth Coronelli, Vice President of Investor Relations. Ms. Coronelli, go ahead please.

Beth Coronelli

Thank you for joining us. On our call today will be Greg Cappelli, Chief Executive Officer of Apollo Education Group; and Brian Swartz, Senior Vice President and Chief Financial Officer. As we discuss our results today, unless noted otherwise, we will be comparing the third quarter of fiscal 2014 to the third quarter of fiscal 2013.

I'd also like to remind you this conference call contains forward-looking statements with respect to the future performance and financial condition of Apollo Education Group that involves risk and uncertainties. Various factors could cause actual results to be materially different from any future results expressed or implied by such forward-looking statements. These and other factors are discussed in our quarterly reports and Form 10-K filed with the SEC which is available on our website. The company disclaims any obligation to update any forward-looking statements made during the call.

Additionally we may refer to non-GAAP measures which are intended to supplement but not substitute for the most directly comparable GAAP measures. Our press release, available on our website as well, contains the financial and other quantitative information to be discussed today as well as a reconciliation of the GAAP to non-GAAP measures.

And with that I will turn the call over to Greg.

Gregory W. Cappelli

All right. Thank you, Beth and good morning everyone. I apologize upfront for my voice. I am enjoying a wonderful summer cold. So hopefully it will hold up because I am excited to talk to you a bit about Apollo Group here. Let me just provide a brief update on the progress we are making with respect to our strategic plan and then Brian is going to provide some additional color around our 3Q financials and outlook. Our long term strategic plan is centered around three important areas, first, to differentiate the University of Phoenix; second, to diversify Apollo; and then third to drive operational excellence throughout our organization. We are building Apollo to deliver high quality education and training that’s relevant to students who are looking for fast growing and rewarding careers.

We’ll do this by delivering an experience that's innovative, flexible, efficient and of course aligned with employers’ needs. Although degree granting programs continue to be a very important part of our offering we are in the process of developing new programs to address the large and growing skills gap, both domestically and internationally. These include programs with stackable certificates, professional development offerings, bootcamps and other initiatives -- approaches to connect education to careers. Our long term strategic plan is designed to significantly expand the number of students and employers we serve globally over the next five years. And I am confident with the proper execution we can get it done.

Now let me briefly update you on the three legs of our strategy. First, differentiating the University of Phoenix. After a long and comprehensive search I am really pleased to have our new President, Tim Slottow on board, who joined us this week after a long and successful carrier at the University Of Michigan. Tim brings significant experience along with a passion for innovation and high quality student outcomes which is very well aligned with our mission at University of Phoenix.

Additionally the University of Phoenix recently completed a major realignment by college, including the hiring of new Executive Deans, all now in place to help lead their respective operating strategies across the University. This team is focused on helping the University to be significantly more competitive in all areas across the board. To support this we are working closely with companies, listening and adapting our content and approach to ensure that our programs more directly address the skills necessary to help students connect their education to a career of choice.

We are also expanding the breadth and depth of our product offerings. Curriculum development has been completed to refresh more than 400 offerings this year. A significant amount of our program development is in the most promising areas of employment, including subsets of business, education, IT and healthcare. Again Phoenix is also building professional education offerings and is on track to roll out a total of more than 45 new certificate programs in fiscal year ’14. This provides the flexibility for students to earn important credentials that can stand alone or transition into a Degree program.

Retention remains a top priority and the hard work in this area has recently been paying off the past several quarters. We are creating an eco-system that supports students, from their very first contact with the university through completion. There are many factors driving retention including a heavier use of full-time faculty in first year courses, but we know that this is a long term initiative. There is likely to be some fits and starts and we are determined to stay the course.

We are also pleased to report that nearly all students in the university are now being served by our new learning platform, which has been greatly enhanced and provides a more efficient and user friendly experience. We remain very committed to compliance, transparency and providing leading edge student protection. We're focused on educating students on what to expect as they enter college, including our orientation program, financial planning tools to understand the underlying cost and return on college education. We’ve got a life resource center where students can receive financial counseling and a personal finance course incorporated in the first year sequence.

Finally we are very proud of the results of our recent ethics and compliance employee survey. Close to 90% of our employees believe we have an ethical and compliant culture. This compares with 58% of all employees at companies in a comparative major national survey.

Now let’s talk about diversification. There is a significant opportunity in global higher education, which is currently estimated to be a market size of $2 trillion and is expected to grow about 10% over the next several years. We entered two new continents in fiscal 2014; Australia in the first quarter and this quarter we entered Africa. We are now on six of the seven continents. In Australia the online education training market is growing nearly 20% annually. Our newly acquired Open Colleges is performing well above the market and we expect to see continued rapid growth over the next few years.

This quarter we were pleased to add Milpark Education. They were a premier South African education provider with a tremendous management team. Moving into South Africa supports efforts to explore opportunities in other areas of Africa which host seven of the ten fastest growing economies in the world. Both of these new institutions fit well with our strategy to operate highly capital efficient business models within the higher education industry and to do it globally.

Our other co-institutions within Apollo Global are all expected to perform in-line or better than plan. This important division of our company has completely transformed its operations over the past couple of years, has an annual revenue run-rate of close to US$400 million and we expect steady growth to continue both organically and through strategic acquisitions over the several years. We also expect our Global operations to be operating cash flow positive in the next 12 to 18 months.

An additional focus of our diversification strategy is providing offerings outside the traditional degree space, developing relevant career connected, high quality education and professional development offerings. There’s demand for flexible programs direct into the personal needs of the student, while addressing employer education and professional requirements. These are just a few examples we are pursuing today.

In 2014 we launched Balloon, the foundation for a multi-industry skills job marketplace, connecting learners, course providers, industry experts and employers. Balloon’s integrated the power of SkilledUp, a site connecting learners to courses and now provides access to over a 120,000 courses and jobs and 350 courseware partners, including 30 of the largest partners in global IT and technology. We are also piloting an exciting new IT bootcamp and based on the positive response so far we plan to roll it out into other cities, better leveraging our ground locations around the country.

With a vigorous selection process the bootcamp delivers skills that students need to be job ready. And what’s so interesting about this new model is its efficiency. It is very intense and requires a total commitment over a few months. When you come out of the program you are highly qualified in attractive career areas that generally pay very well right out of the box for these business.

Finally let me touch on operational excellence. We’ve been building a stronger Apollo Education Group. We are shaping the organization with ongoing focus, and increasing the efficiency, improving how we operate and providing a world-class student experience. Just a few highlights so far. We substantially completed our ground campus realignment this year. We successfully transitioned the online classroom platform to an industry leading, private cloud infrastructure offering, enhanced scalability, reliability and performance. This allows us to increase our advanced data analytics capabilities to support how we serve students.

We’ve also gained efficiencies in our marketing spend and marketing performance and re-aligned the focus on managing and operating the eight distinct colleges in the University of Phoenix, or individually to address the specific needs of the students and markets they serve. Overall we are confident in our strategy of differentiate, diversify and build a stronger Apollo Education Group with focus on operational excellence, which again is the centerpiece of our long-term strategic plan.

So with that I’ll turn the call over to Brian and then we will take some questions.

Brian Swartz

Thank you Greg and good morning everyone. I will quickly review the third quarter financial results and then share with you our updated business outlook for 2014. We ended the third quarter with new degree enrollments of 33,900 and total enrollment of 241,900 at the University of Phoenix. As you know we are moving to a transition to realign the university by individual college. As a result and in part during the third quarter we reported revenue of $800,000 million, down 16% year-over-year which was generally in line with our expectations. Although obviously smaller in scope at this point our Global operations have experienced increases in student volumes during 2014.

Third quarter revenue per student at the University of Phoenix were down 4.1%, primarily related to the University’s pricing initiatives that we’ve previously discussed. We expect 2014 revenue per student to decline about 4%. Discounts as a percentage of revenue were approximately 9% and we expect it to remain at about that level for 2014. Third quarter operating income was $113 million compared to a $132 million for the same period in the prior year. Excluding special items operating income was a $137 million and operating margin was 17.1%, compared to $195 million and 20.6% in the prior year. For the third quarter net income attributable to Apollo was $66 million or $0.59 per share. And excluding special items it was $85 million or $0.76 per share.

Turning to operating expenses, in the third quarter as expected we experienced year-over-year decline in all expense line items. In the fourth quarter we anticipate costs that are more fixed in nature to increase slightly on a sequential basis primarily due to seasonality and in particular in the marketing area. We also anticipate expenses in the second half of 2014 to be higher than the first half primarily due to the addition of Open Colleges and Milpark as well as investments in the University of Phoenix college realignment and our student retention efforts.

With respect to income taxes our third quarter effective tax rate was 41.6% and 38% excluding special items. For the fourth quarter we expect our tax rate to be approximately 41%. Additionally to provide clarity we estimate for the fourth quarter our after tax loss attributable to non-controlling interest to be approximately $1 million which would represent income to us. We also expect other income and expense net to be roughly $2 million of expense and our share count, excluding the impact of further share repurchases to be about 111 million shares. As Greg said we remain committed to driving operational excellence throughout all of Apollo.

Since 2012 we have lowered our cost base by roughly $900 million with approximately 80% of that coming from cost that are more fixed in nature. It is never easy to realign the cost base of a company as large as Apollo but we believe that we have positioned the organization to be leaner, more efficient and have the opportunity to be more competitive on many levels going forward. For 2015 and beyond we will work to ensure our cost structure is aligned with the expected size of the business.

Turning to the balance sheet and cash flows, we continue to maintain a well capitalized balance sheet and generate healthy cash flows. At quarter-end our cash and marketable securities were approximately $808 million. Our free cash flow for the third quarter was $73 million compared to $44 million in the prior year. Our free cash flow increased principally due to lower capital expenditures and cash received from the successful resolution of a foreign indirect tax matter. Our 2014 adjusted free cash flow is expected to be impacted by approximately $90 million of cash outflows from restructuring activities or about $30 million more than the prior year. It is important to note that we believe our business model will continue to be highly capital efficient with the ability to generate healthy free cash flow going forward.

Now I’d like to spend a minute on our outlook and provide a long term view of our business. With respect to new enrollment to the University of Phoenix the year-over-year rate of decline has improved throughout the first three quarters of 2014. The fourth quarter is a little more difficult to predict given the back end nature of the enrollments, as August is seasonally one of our largest months of the year for the University. But with the information we have now we expect the rate of decline to be about the same as the third quarter with the potential to see some improvement.

Over the course of the next year we expect the transformative changes that have been made at the operating structure at the University of Phoenix to drive continued improvements in new enrollments and most importantly student retention, which improved again this quarter. After a great deal of analysis, strategic planning and work we believe the University of Phoenix is well positioned for long term sustainable growth.

In terms of our immediate outlook, based on our current view, our updated 2014 financial outlook is as follows: Net revenue of $3.04 billion to $3.06 billion and operating income excluding special items of $420 million to $435 million.

Shifting to a high level view of the next three to five years, you can expect us to work hard to substantially increase our revenue while diversifying the revenue sources of Apollo Education Group. At the same time we will continue our focus on operational efficiency, both of which are important to operating margin expansion and operating profit growth over the long term. As we report our year-end results and provide our outlook for 2015 we plan to share more specific details on our long term view, including supplemental financial information, to help you more clearly value and understand the trajectory of the Apollo Global business.

With that let me turn the call over to the operator to open the line for your questions.

Question-and-Answer Session

Operator

Your first question comes from the line of Jeff Silber. Your line is open.

Jeff Silber - BMO Capital Markets

Thanks so much. In terms of narrowing the range of guidance for the current year, can you explain what was behind that thought process?

Brian Swartz

Yeah, hi Jeff. It’s -- well we have more information today than obviously we had last quarter, the quarter before. With that information we’ve obviously used that and provided an update for the next quarter’s financial performance. The other range that we provided allows ample opportunity for us to ensure we are making investments in Q4 to benefit Q4 and 2015. So we have more information today and feel good about that range.

Jeff Silber - BMO Capital Markets

But there was no specific line items where your assumptions changed dramatically?

Brian Swartz

No.

Jeff Silber - BMO Capital Markets

Okay great. And then you mentioned the sizable amount of cost cutting that the company has done over the past few years. Should we be expecting any more restructuring charges, are those pretty much behind us as well?

Brian Swartz

Yeah. It actually is disclosed in the 10-Q. We do expect about $25 million more in one-time restructuring charges, most of that we expect to happen in the next couple of quarters and the balance will happen in to 2015 and beyond.

Jeff Silber - BMO Capital Markets

Okay, great and then just one more quick one. On prior calls you’ve given us a little bit more information on your enrolment side, between dealing with the corporate alliances or your business partners and I guess the traditional public. Can you give us a little bit more color on how those two channels are doing?

Gregory W. Cappelli

Yeah, Jeff the corporate area is coming along well. We’ve spent a lot of time with both senior management teams of corporations, all the way down into the organization. I think we’ve previously disclosed that we have thousands of relationships with employers, now we are trying to go deeper and certainly have them organized into certain tiers. So you are going to hear more from us over the coming year on this really important area for us.

As I said I think we are getting more efficient with our marketing spend, more targeted. It's really going to be as both Brian and I said during our remarks, the transformative things that we are doing at the University of Phoenix that we think can turn enrolment growth around. And we’ve said that for the past year that we are doing these things to provide a better experience to differentiate the University to be totally aligned with the employer, right and the jobs that they are looking to fill. And that’s coming along. It was never going to be an overnight process. We’ve made a lot of progress so far this year.

Jeff Silber - BMO Capital Markets

Okay. Thanks so much.

Gregory W. Cappelli

Thank you.

Operator

Your next question comes from Sara Gubins. Your line is open.

Sara Gubins - Bank of America-Merrill Lynch

Thanks, good morning. Do you think there was any disruption in the quarter from the shift that you made to operate by college? And if yes where did you see it?

Gregory W. Cappelli

Yeah, there was some disruption Sara. Anytime you go through a transformation the size of what we’ve done at the University there is going to be some dislocation. There is many people that have been repositioned, we think into areas that they can have more success. There have been new additional folks that have been added to the team. So just through that repositioning process right, and the restructuring of how the university operates with the colleges, yes there has been disruption. But we don’t expect that to last for too much longer and in fact we expect that over the next quarter or two for things to stabilize from that perspective, of an employee perspective at University of Phoenix.

Sara Gubins - Bank of America-Merrill Lynch

And your retention will continue to be up year-over-year but not as much it was in the last two quarters? I know you’ve talked about that being choppy. But I am wondering if that may have been because of the reorganization and if you think that we should see greater retention improvement in the first quarter and beyond?

Brian Swartz

Yeah, Sara, the retention did improve in the quarter consistent with kind of what we’ve seen in the first couple of quarters of this year. I think the [persistence] calculation perhaps the way you are calculating it was up a little bit less on a reported basis. If you exclude the impact of grads it was actually more than what the pure calculation is, that you calculated. So again, as we’ve always said, this will have fits and starts. It will go up and down. It's not going to be up into to the right perfectly leaner. But we are pleased with the results that we’ve seen thus far and we’ll continue to drive it, as it's our number one priority.

Sara Gubins - Bank of America-Merrill Lynch

Okay and then just last question on share repurchase. You have been making share repurchases this year although not a huge amount. I am wondering now that you’ve made two recent acquisitions do you expect the acquisition pipeline to slow a little bit and you might ramp the purchase more significantly over the next couple of quarters?

Gregory W. Cappelli

Sara, I think repurchases are healthy part of the conversation, under our capital deployment. You can kind of see what we’ve done strategically with acquisitions and the size that they are. We do have other opportunities to continue to build out the network around the world which is frankly something we think will help our domestic operations as well as they collaborate more together which we are seeing now. But share repurchases are going to continue to be a part of the conversation as we look at capital deployment going forward. We totally believe in our Apollo Education Group overall including our domestic businesses and their potential for future growth as we get through this transition.

Sara Gubins - Bank of America-Merrill Lynch

Thank you.

Gregory W. Cappelli

Thank you.

Operator

Your next question comes from Peter Appert. Your line is open.

Peter Appert - Piper Jaffray

Thanks so Greg, I was wondering if you could provide any additional granularity in terms of the drivers of enrolment performance? Can you give anything directionally even in terms of enrollment numbers by college, by degree levels, something you can just help us better understand what's driving the overall performance. And then I am not sure if I missed this, but are you still looking for 230,000 enrollments at year-end?

Gregory W. Cappelli

Yes we are. And second your question around drivers and trends, there’s a number of things driving the trends. We continue to see a much greater shift towards Bachelor's degrees in the university at this point now. They are adding a healthy number of new programs and refreshing programs that was necessary in the transformation. The executive deans are working hard already with our new President, Tim Slottow and I am sure they will be looking at the most relevant and important areas where employers are telling us that they need highly qualified people to fill jobs.

So you are going to see that evolve over the course over the next year and we expect that. To this point we have seen a greater number of people coming into Bachelor's channels and we're using a greater number of full-time faculty early on. With folks upfront it's probably driving some of the retention improvement as well.

I think what you will continue to see from us going forward is a greater emphasis on help that people badly need early on, not only in the recruitment process but into the early parts of their program around career counseling and how to help them best to get to where they need to go so we can build a better roadmap for them going forward.

Peter Appert - Piper Jaffray

Anything on enquiry levels or conversion rates that would be interesting?

Gregory W. Cappelli

The enquiry levels remain healthy. I've been very pleased with what I've seen on the front-end, led by our marketing and data analysis team in that area. So I would say the front end of the funnel is very healthy right now. And I don’t see any changes to that right now. Obviously there is an entire process of the student enquiry process into leads into the university and then starting and staying at the university. And that's just something we're really, really focused on getting right. And that comes with total transparency to the student upfront so that they understand what they are getting into, what it's going to cost, how much work it's going to take, what they need to do to be successful and what they really need to do to get the job that they are looking for.

So we truly believe that as we refine that process and get better and better at it that our front end will get even healthier than it is now.

Peter Appert - Piper Jaffray

Great, thanks Greg.

Gregory W. Cappelli

Thank you, Peter.

Operator

Your next question comes from the line of Jeff Volshteyn. Your line is open.

Jeffrey Volshteyn - JPMorgan

Thank you for taking my question. Brian, could you help us understand your comment on 2015 cost? I think you said they would be more aligned with this structure. Does it mean -- are there still sizeable opportunities in sort of specific areas of cost management?

Brian Swartz

The answer is yes. And my comment, as you know, Jeff as most companies during our fourth quarter we got through our annual budgeting process. That's why we provide our annual financial outlook for the next year, beyond the year on a call, not on this call. But I think the key message is we are absolutely committed to ensuring that our costs are aligned with the expected size of the business.

So we'll certainly provide more commentary, if we do need to take out more cost. There are opportunities to do that. And as we go through our budgeting process this summer we'll provide more commentary on that, on the October call.

Jeffrey Volshteyn - JPMorgan

Okay. And is there an update to regulatory and accreditation matters?

Gregory W. Cappelli

On the regulatory front we don’t have an update to provide you right with now. Obviously on the HLC front we are very focused on completing the work that needs to be done. We expect to have that done on time to be delivered in the fall. We expect to have review on the spring for the focused visit that we talked about in the past.

Jeffrey Volshteyn - JPMorgan

Okay, thank you.

Gregory W. Cappelli

Thank you, Jeff.

Operator

Your next question comes from the line of Corey Greendale. Your line is open.

Corey Greendale - First Analysis Securities

Hi, good morning.

Gregory W. Cappelli

Good morning, Corey.

Corey Greendale - First Analysis Securities

Greg, now that you are in six continents, can you comment on your plans to enter Antarctica?

Gregory W. Cappelli

Well, it can’t be any colder than Chicago.

Corey Greendale - First Analysis Securities

That's for sure. So a few questions, Brian I heard your comments on marketing spend. Should we expect similar seasonality in marketing this year as we saw last year in Q4?

Brian Swartz

Yes.

Corey Greendale - First Analysis Securities

Okay. And without asking for specific numbers for fiscal '15, can you just conceptually help us think through what the impact of -- what discounts and scholarships, should you do that discount line if nothing changes should it keep creeping up in '15?

Brian Swartz

So let me try to provide a little bit of commentary on that, at the top. Again we're not going to state too much about fiscal ’15 just because as you as I mentioned we are going through our budget process now. But in the current year, fiscal ’14 with RPS for the full year projected to be down about 4% and discounts about 9% of revenue, because of the pricing changes that we made last fall the majority of that decreases related to those changes. There is, going into next year we will have the Phoenix scholarship reward program, the $10,000 scholarship program. That will impact for another year. But our expectation is that our continued retention improvements will help offset some of that.

So without being more quantitative in that and again we’ll certainly talk more in October hopefully that helps you a little bit.

Corey Greendale - First Analysis Securities

Yeah that’s fine. And Greg when you said that there is shift toward Bachelor, how much of that do you think is driven by the moderation in the price point for the first two years? And how the students responded to those initiatives?

Gregory W. Cappelli

I think it's a good portion of that, when we realigned the pricing so it would more naturally work with Bachelors and obviously the Associates program, to answer your question.

Corey Greendale - First Analysis Securities

Okay and then just quickly, I realize some of these new initiatives are very small right now but just to help in terms of how you are thinking about the business, I am curious, the certificate program that you rolled out this year. I know it's early but what’s the student uptake been on those?

Gregory W. Cappelli

It's been good. I mean there is a lot of excitement around that. What I am really pleased to see Corey, is the level of interaction with employers and what they are looking for. I just launched a new white paper this past week and I’ve been talking about it publically, but when you go coast to coast and you talk to CEOs and employers and I know you -- many of you are doing on that on this call as well, you’ll get a pretty clear picture of the enormous demand that they need in high quality human capital which is going to be the main source of powering their growth. There is plenty of access to financial capital at low cost in the world right now.

But they need, they do need certainly high quality degree granting programs to educate their students at certain levels. When you look at the 4 million jobs that aren’t being filled as of March, many of those are in middle skilled areas and we could help in those areas much more dramatically and more quickly a lot of those jobs you can train within three months to a year to help fill those positions.

So we are listening and we are working to try to help solve the problem, fill the gap in that area to go along with our degree granting program areas.

Corey Greendale - First Analysis Securities

And on the bootcamps, I mean so firstly are you granting those as UoP and those are on the side of the UoP campuses, and just I am curious of your view Greg and whether that sort of thing expands the market? Or whether people attend intend those who would have otherwise may be pursued a Bachelor degree?

Gregory W. Cappelli

No, not at all. I mean it's a totally different value proposition. We are branding in this -- at IT and there may be some other brands as well that come into play. But again that’s just something where we listen to employers and literally in a few months. Now you have to be willing to make a very sincere commitment, which everyone has done in our pilot to this point. We’ve lost very few people out of the pilot. But once you make that commitment and get through it these are people that are extremely committed and are doing very well throughout the course and coming out of it have really good job prospects.

In fact I know that our own IT department is excited to go after some of them as well because of what we are seeing in terms of the competency coming out of it. So look it's early. I don’t think it's going to steal it off any degree granting programs because it's a very different value proposition. It's really for people who have been in the market but now realize they need a specific skill and they are trying to get it quickly and they are willing to put everything into it for a few months to get it and just get employed to where they want to be.

Corey Greendale - First Analysis Securities

I will turn it over. Thank you.

Gregory W. Cappelli

Thank you very much.

Operator

Your next question comes from the line of Paul Ginocchio. Your line is open.

Paul Ginocchio – Deutsche Bank

Thanks. Hey Brian I know you just commented that you want to position the company for long term growth. I missed some the comments about when you are going to provide us the update. When do you think you’ll be ready to give the Street a sort of timeline to return into new enrollment growth?

Brian Swartz

Yeah well we are not prepared to do that at this point. What I can tell you is we’ve gone through transformative change, as you all know at University of Phoenix. We think all of those changes process changes, the structure changes of the university by college. So lots of people changes and lots of system changes are the foundation and with those changes, as those take place and we gain traction we’ll have a competitive value proposition in the market place and we are confident we’ll get back to growth at some point in the future.

Paul Ginocchio – Deutsche Bank

But at this point I mean is there even -- would it be on the next quarter call that you think you’ll give us that? Or is that still further after that?

Brian Swartz

Paul, we are always going to provide as much data as we possibly can with the information we have, about where we are and where we think we are going to be. We are looking for healthy growth over the next three to five years. It's going to be a more diversified company. There is going to be stability within the university here domestically. And as we go along you’ll get as much information as we can provide you. We expect to see continued improvement throughout fiscal year ’15 on the domestic front. We are at ultimately [land] specifically we don’t know yet. But we are putting the company in a position to grow.

Paul Ginocchio – Deutsche Bank

Great. Just a question on Starbucks, did you guys have a look at that, were you contacted, or is that was -- did you I guess that’s a question did you even get chance to look at that? Thanks.

Gregory W. Cappelli

You know what we are involved in a lot of different situations with employers and corporations. I won’t comment specifically on any one brand. I will say that I think it's just excellent that corporations like Starbucks are allowing students and willing to pay for students to go back to school. We have many different situations where we’re building up relationships like that. I expect to also see employers target different areas of -- as I said the skills gap as we move forward here into fiscal year ’15 that you’ll hear more about that, both from us and others.

So the good news is there is a lot of movement in that front and it shows that employers are really seeing the value of investing directly in their employees.

Paul Ginocchio – Deutsche Bank

Great in fact if I can just ask one more. Any update on Western International?

Brian Swartz

Yeah Western International is close to re-launching their value proposition with, obviously a significantly lower price than our other University, University of Phoenix. They’ve been working very hard and the entire experience for the students, they have been tweaking things and they want to make sure that they get it totally right. So when they go on to the market here we feel they are ready to win. So they are excited about it. I think you’ll hear much more about that process this fall and we’ll certainly be ready to comment more at our fall conference call.

Paul Ginocchio – Deutsche Bank

Thanks very much.

Gregory W. Cappelli

Thank you.

Operator

Your next question comes from the line of Suzi Stein. Your line is open.

Unidentified Analyst

This is Danny on for Suzy. We actually have no questions at this time.

Operator

Your next question comes from the line of Jerry Herman your line is open.

Jerry Herman - Stifel Nicolaus

Thanks, good morning everybody.

Gregory W. Cappelli

Good morning Jerry.

Jerry Herman - Stifel Nicolaus

Greg, wanted to ask a little bit about Global and I appreciate your comments about its cash flow characteristics. Can you may be give us some baseline in terms of what the cash flow dilution, let’s say is for this year? And may be help with us or help give some color about the dilution associated with Open Colleges in the quarter and this year?

Gregory W. Cappelli

Yeah sure. I’ll ask Brian to comment.

Brian Swartz

Yeah, Jerry. In terms of the dilution Open College and all of Apollo Global and Open Colleges is dilutive to the GAAP-based earnings. Under Open Colleges revenue recognition processes they actually -- we recognized revenue over two years, which is generally the contractual period of the services they provide to their students. Much of the learning actually takes place much faster than that. So there is a little bit of a mismatch between when we can recognize the revenue and when we incur much of the cost to teach the students.

Having said that it doesn’t impact cash flows. It just has a build-up in the deferred revenue account on the balance sheet. So it is -- it does negatively impact the near term GAAP-based earnings of both Apollo Global and obviously all of Apollo Education Group. I think we as look toward the October call, as I mentioned, we’ll try -- our plan is to provide more transparency into the Apollo Global financial results including what the impacts of those deferred revenue, longer term revenue recognition timetables are for Open Colleges.

So in terms of answering your first question which is what are the cash flow characteristics currently, they are smaller than the GAAP-based earnings losses. They are obviously as CapEx or some of the cash tax benefits and there is benefits on the working capital side. So I can’t quantify it exactly for you Jerry but hopefully it will give you a little bit of context in terms of the performance of that business prior to the October call.

Gregory W. Cappelli

And to this point they’ve beat every single expectation we’ve had for them since the acquisition.

Jerry Herman - Stifel Nicolaus

Okay, great. And then let me flip it over to your other category, if I can, because there too is -- are substantial losses associated with those businesses. Greg, may be could you comment on your thought trajectory or reduced losses in those businesses, understanding that there is a corporate piece as well there?

Gregory W. Cappelli

Yeah for sure. I do expect those losses to improve. Obviously we're planning the seeds and investing in things like Balloon for future growth. But we do expect those losses to be controlled and to moderate and to not continue losing money for years in to the future.

And so Mitch Bowling, our COO is working very, very hard with these groups to ensure that there is operating excellence and efficiencies in place, that they are getting the capital they need to plant for seeds for future growth, but we do it in an efficient manner. So it's a balancing act but I can tell you that we're very focused on ensuring that the financial and margin performance, and profitability performance for Apollo Group is there without wild swings going forward.

Jerry Herman - Stifel Nicolaus

Great, thanks. I will turn it over.

Gregory W. Cappelli

Thank you.

Operator

Your next question comes from Nick [Nickedus]. Your line is open.

Unidentified Analyst

Yes, thanks. Just looking at longer term, it sounds like you've a little more confidence, may be in University of Phoenix long-term growth. At the Analyst Day it was more about sustainable growth at Apollo overall. It just sounds like more recently there is greater transaction at the University of Phoenix. Has anything maybe changed recently that gives you greater confidence?

Gregory W. Cappelli

I think you are hearing us right. We do have a good deal of confidence in the University of Phoenix. I mean they've been through a rough patch. There has been a complete transformation but we've been talking about for 18 months. We are preparing them to go on the offense but for very good reason because employers are telling us they need a healthy University of Phoenix.

We need the University of Phoenix to grow to close the skills gap in a number of different areas. And this has been, not an easy transition but one that we think now they have the ability to start to focus on going on offense. You got to have a great product. You got to have great service. You have to ensure that you are being completely transparent with your students and potential students on the front end and you've got to connect their education to careers.

It's not only important to the government and they are right about that but it's very important to the employers and to us as well the educators. So I have to say two years ago we didn’t have that complete package in place. We're getting there and I feel like in the course of the next year, they can really be well positioned to get back to growth.

Unidentified Analyst

Okay, that's good to hear. As you mentioned the Global strength but specifically could you talk about trends at BPP and what you are seeing there and if you still expect that to be breakeven by the end of the year?

Gregory W. Cappelli

Yes, good trends all around, as I said. Curtis Uehlein in the management team of Apollo Global has completely transformed the operations of that organization over the last 18 months to two years. BPP is operating at the market but still in some areas is in decline. We believe they've taken market share, they're growing in the market in just about all of their categories. They're starting to enroll international students in it.

I am really, really proud of the BPP team and they are doing it well, winning awards and also increasing the stature of their accreditation and university status as well. So good things on that front.

Unidentified Analyst

Great, and then just last one from me, looking at the marketing spend in Q4, it sounds like we should expect a slight uptick and may be a narrowing of the year-over-year decline but still down somewhat substantially from 2013?

Brian Swartz

Yeah we do expect it to be down year-over-year for the quarter but not as much as the first three quarters year-over-year declines.

Unidentified Analyst

Okay, great, that's it from me. Thank you.

Gregory W. Cappelli

Thank you.

Operator

Your next question comes from the line of Tim Connor. Your line is open.

Tim Connor – William Blair

Thank you. So would you say you've moved out of the restructuring phase for Phoenix?

Gregory W. Cappelli

I would say we are moving out of that phase.

Tim Connor – William Blair

Okay. And in Apollo Global some of the lower ASPs in some of the geographies you are entering how does that match the cost structure there and do you feel like you have that business scaled to a level where you feel like you can broaden your search a bit, look at some new geographies and particularly the lower ASP geographies and how does that fit longer term?

Gregory W. Cappelli

I think the answer to that is yes on all fronts and the way it fits longer term is that these are not universities or institutions that were either starting like we have with our partner HT Media in India, or we are acquiring and then growing organically like we’ve done with our partners in Australia or in South Africa. This is from the beginning meant to be a global knowledge network that needs to on six continents, that works with each other, doesn’t compete with each other. That is helping each other build certain kinds of tools and competencies, that is in the midst of starting to share those findings and winnings where they’ve had been with our domestic operations.

So it's been built from the beginning, although we think it can scale and get a lot bigger than it is today, to work as a global network with the domestic operations being part of it. That’s the last piece here that we haven’t talked about. But you’ll hear a lot more going forward about how Phoenix fits into that network along with West.

Tim Connor – William Blair

And then as you talked a little about the bootcamps in general, are you seeing any opportunities to speed time to completion for your more traditional degree programs, whether it's through West or new models at Phoenix or otherwise?

Gregory W. Cappelli

Well what we seeing is opportunities to provide value along the way. So to provide value by stacking certificates along the way and that is a process where you can speed value to the consumer and the student and also to the employer.

Tim Connor – William Blair

Okay. Thank you very much.

Gregory W. Cappelli

Thank you.

Operator

And your last question comes from line of Jeff [Li]. Your line is open.

Unidentified Analyst

Hi, thank you. What are your thoughts for [inaudible] has there been any change in the domestic or post-second education?

Gregory W. Cappelli

I think the macro churns are stable at this point. It's a competitive industry as you all know. But it's also a big industry, over $500 billion of spending and actually if you look at some key areas it's important to understand that in key areas of employment going forward there is growth within the sectors and there is certainly growth in certain areas like online as well and not only domestically but certainly internationally as well.

Unidentified Analyst

Okay. And last question. Can you give any color on how these conversion rates and retention rates have trended recently?

Brian Swartz

I would say all stable to positive.

Unidentified Analyst

Hey, great thanks.

Gregory W. Cappelli

Thank you very much.

Operator

There are no further questions at this time. I’ll turn the call back over to presenters.

Gregory W. Cappelli

All right. Listen, thank you very much to everybody who took the time to participate in the call this morning. We are looking forward to updating you this fall. We’ll be certainly hard at work to continue building the Apollo Education Group and look forward to talking to as many of you as we can along the way. Take care.

Operator

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

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Source: Apollo Group's (APOL) CEO Gregory Cappelli on Q3 2014 Results - Earnings Call Transcript
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