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Apollo Group Inc. (NASDAQ:APOL)

F1Q2011 Earnings Call Transcript

January 10, 2011 5:00 pm ET

Executives

Allyson Pooley – VP, IR

Greg Cappelli – Co-CEO

Brian Swartz – SVP and CFO

Chas Edelstein – Co-CEO

Joe D'Amico – President and COO

Analysts

Suzi Stein – Morgan Stanley

Andrew Steinerman – JP Morgan

Gary Bisbee – Barclays Capital

Sara Gubins – Bank of America-Merrill Lynch

Trace Urdan – Signal Hill

Ariel Sokol – UBS Securities

Jerry Herman – Stifel Nicolaus

Arvind Bhatia – Sterne Agee

Peter Appert – Piper Jaffray

Jeff Silber – BMO Capital Markets

Amy Junker – Robert W. Baird

Paul Ginocchio – Deutsche Bank

Scott Schneeberger – Oppenheimer

Bob Wetenhall – RBC

James Samford – Citigroup

Brandon Dobell – William Blair

Operator

Good afternoon, ladies and gentlemen and welcome to the first quarter 2011 earnings release conference call. At this time, all participants are in a listen only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. Please refrain from entering into the queue until permitted. (Operator instructions)

This conference call is being recorded today, January 10, 2011, 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 January 17 beginning approximately two hours after we conclude today. The replay number is 800-642-1687 or 706-645-9291 internationally. The conference ID for the replay is 29367436.

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

Allyson Pooley

Thanks, Katherine, and thank you everyone for joining us today to discuss our first quarter results. Participating with me on the call are Chas Edelstein, our Co-Chief Executive Officer; Greg Cappelli, our Co-Chief Executive Officer and Chairman of Apollo Global; and Brian Swartz, Senior Vice President and Chief Financial Officer. Joe D'Amico, President and Chief Operating Officer, is here as well and will be available during the Q&A portion of the call.

As we discuss our results today, unless otherwise noted, we will be comparing the first quarter of fiscal '11, which ended November 30, 2010, to the first quarter of fiscal 2010. I'd also like to remind you that this conference call may contain forward-looking statements with respect to future performance, financial conditions, regulatory compliance, and other matters regarding the business of Apollo Group that involve risks and uncertainties.

Various factors could cause actual results of the Company to be materially different from any future results expressed or implied by such forward-looking statements. These factors are discussed under risk factors and elsewhere in the Company's most recent 10-K and subsequent 10-Q report filed with the SEC and available on our website at www.apollogrp.edu. The Company disclaims any obligation to update any forward-looking statements made during the call.

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

With that, I'll turn the call over to Greg.

Greg Cappelli

Okay. Thanks, Allyson. Good afternoon. I know this is a volatile time within the education sector. There’s many questions about the sector and its growth prospects and our position within the sector. We'll do our best to address your questions as we've been working very hard for the past year to put the Apollo Group and the University of Phoenix in the position of strength, and it demonstrate true leadership in the areas of compliance and student protections.

Although, there is still much work to do and despite the recent downturn in enrollment, we remain steadfast in our mission to continue to invest and enhance our academic platform, develop new technological capabilities and further improve student outcomes. We still believe the future of our country and its competitive position globally will in some part depend on the education levels and productivity of our labor force.

Now, it's 132 million strong, and despite what we might be in an economic cycle, we intend to do our part to try and help many of the millions who are working with us become more competitive in the now global labor force.

The first quarter was significant for us. We implemented several important initiatives that have been in development. Each is consistent with our focus on enhancing the student experience, expanding student protections and ensuring we enroll students who had the greatest likelihood of succeeding in our programs.

We recognize that these initiatives are adversely impacting our enrollment and financial results during this period of transition. But we continue to believe that we're making the right decisions now to position the Company for more stable and higher quality long-term growth.

Now, let me update you on our key initiatives. There were three during the quarter. First, beginning September 1, we eliminated any tie to enrollment factors as a component of valuation or compensation for all of our admissions professionals and other employees.

Second, beginning November 1, at University of Phoenix, we rolled out University Orientation nationwide as requirement for incoming students with limited college experience.

Third, on the marketing side, we continue to refine our approach to digital marketing in order to better identify students who are more likely to succeed at our universities.

With respect to admissions, this was a big undertaking and it will take some time for our enrollment advisors and supporting staff to gain comfort and get acclimated to our new approach. However, we're pleased with the progress we made in the rollout over the past four months.

As you know, we eliminated the old performance evaluation and compensation system earlier than originally planned. This was the right thing to do, but it did create some initial uncertainty for our staff in the field as understandably our employees were anxious to comprehend and learn our new evaluation system.

Now, over the past few months, we have made good progress in training our enrollment staff and hope to see results from this training soon. We introduced the competencies on which each job is being evaluated, their all characteristics known to divide [ph] and success, behavior such as decision quality, listening skills and customer or student focus.

We've also done significant training with the admissions advisors regarding these competencies and with managers on coaching to these competencies.

Our employees in the field have also now seen the new evaluation forms, which will be used for annual reviews and we've communicated the new review process to them. Our admission staff are increasingly aware of the many career path options available to them and how to navigate those paths to long-term success.

Next, let me update you on orientation. Because we piloted this initiative for over a year, we have a much better feel for what the results of the orientation program should bring as we roll it out nationwide. We’re happy to say that when we flipped the switch in November, everything went pretty much according to plan. The first students to go to the program are now getting to the end of their first course. At this point, even though it’s still early we're not really seeing anything that suggest the outcomes will be meaningfully different than those of the pilot. Next quarter we intend to provide you with more quantitative data to monitor how the students who went through orientation are performing, as more of them will have had the chance to go to their first class or further.

Additionally, let me touch on marketing where we're continuing to refine – as I said before, refine our approach by better identifying students who are more likely to succeed in our programs and who will eventually graduate. As a result, marketing costs are increasing, both due to our strategic focus on getting the right students as well as general increase in media prices from the depressed levels that existed over the last couple of years. We continue to manage the affiliate channel closely and the goal of increasing the number of inquiries from potential students with more transfer credits and those pursuing advanced degrees.

We do recognize that many of our competitors are in search of similar students and that this trend toward quality is also driving up prices. However, the market is very large and there is room for many players who serve students well. We’ve done extensive work in research to help us better understand and redefine our target markets with a portion of this very large market on which we intend to focus our efforts. We believe there are roughly 5 million to 10 million potential students right in our sweet spot. Our goal is to focus on this group and build market share by offering our students a differentiated experience.

Over time, we believe the significant investments we’re making in our learning system, academics, technology and student service, not to mention adaptive learning will allow us to be very competitive in this target market and potentially beyond.

Finally, we also continue to invest in Apollo Global, as the international market is even larger than the U.S. During the first quarter our global operations did continue to feel the effects of the depressed economy in the various countries in which we operate. We now have a talented group of employees running Global with increasing collaboration between Global and key divisions of the Apollo Group and specifically University of Phoenix. We remain confident that our investments and efforts will result in meaningful returns over time.

Let me turn the call over to Brian who will spend some time reviewing our financial performance in more detail as well as some of the progress we're making in our cost cutting efforts. Brian?

Brian Swartz

Thanks, Greg, and good afternoon, everyone. I'd like to start by reviewing our first quarter financial results, and then I'll spend a few minutes on the outlook for our business.

During the first quarter revenue increased 5%. The increase was driven by selective tuition price increases. Also, despite a decline in the first quarter University of Phoenix enrollment, average enrollment during the quarter increased slightly, which positively impacted revenue. BPP revenue declined $9 million versus a year ago as a result of lower student volumes as well as unfavorable FX impact due to the strengthening of the U.S. dollar.

Due to the implementation of our strategic initiatives, University of Phoenix enrolled 56,600 students or 42% fewer than a year ago, resulting in total degreed enrollment of 438,100 students. That's a 4% decline in total degreed enrollment versus a year ago. We estimate that University Orientation accounted for a quarter of the new degreed enrollment decline.

As a reminder, University Orientation only impacts associates and bachelor students, but changes in our admissions area impacted all degree levels including Masters, which were particularly softer this quarter. We continue to place focus here with the objective of reversing this trend.

Income from continuing operations was $236 million or $1.61 per share compared to $240 million or $1.54 per share in the first quarter a year ago. Included in this is a pre-tax restructuring charge of approximately $4 million associated with the reduction in force at the University of Phoenix announced in late November and $1 million of incremental post judgment interest related to a securities class action lawsuit.

If we exclude these charges and the previously reported tax benefits from the prior year quarter, income from continuing operations increased 4% to $239 million and EPS increased 11% to $1.63 per share from $1.47 per share a year ago.

Operating income increased 4% to $407 million or 5% to $412 million if we exclude the special charges I just discussed. Our operating margin declined 50 basis points versus a year ago, or 20 basis points if we exclude the special items.

As we mentioned last quarter, with the changes in our business, in particular the changes in focus in the admissions area, we have elected to change the presentation of the expense line on our income statement. We believe that's more clearly aligned with how we manage the business and hope that provides greater transparency to you.

The primary change is the splitting what was previous categorized as selling and promotional into two buckets. First, marketing and second admissions advisory. We have also broken out bad debt expense and depreciation and amortization as separate line items. There were other minor changes all of which are detailed in the 10-Q, which we filed today. Additionally, in the 10-Q, we have provided eight quarters of historical income statements for you reference.

Rather than discuss each of these new expense line items in detail, I'd like to highlight a few of the drivers on operating income and areas which experienced significant variance from prior year. You, of course, have all the detail in our press release as well as in our 10-Q.

As a percentage of revenue, instructional and student advisory was up slightly, as continued investment in the student experience resulted in higher compensation expense. Marketing increased 50 basis points due primarily to higher advertising costs. As Greg mentioned, we are seeing higher prices in both online and traditional media. The increase was partially offset by lower employee compensation in the marketing area.

Admissions advisory expense declined 60 basis points due to lower headcounts during the quarter. The reduction in force which took place at the end of the quarter will further lower our admissions advisory expense beginning in the second quarter. However, over the last year, we are now requiring increased qualifications and experience for new admissions professionals, so average wages are increasing slightly.

We continue to manage our headcount (inaudible) closely, particularly in light of the lower enrollment numbers.

G&A increased 80 basis points due primarily to increased costs associated with the significant investment we're making in our technology and networking infrastructure. Much of these costs are specific to various IT infrastructure projects. We also have higher expenses associated with our external relations area; and on a positive side, our legal costs were lower this quarter versus a year ago.

Going forward, we would expect the first quarter G&A cost to be a good run rate barring any unexpected legal or other cost. As we said, we are working very hard to manage the control of costs, particularly our headcount.

Finally, I'd like to spend a minute on bad debt, which was significantly lower this quarter both sequentially and year-over-year. Bad debt expense as a percentage of revenue was 4.3%, down 70 basis points from the first quarter a year ago. The decrease was primarily attributable to reductions in University of Phoenix’ gross accounts receivable as result of the full implementation of university orientation and other operational changes and initiatives that cause a decrease in enrolment and therefore the balance of accounts receivable.

We're also starting to see some improvement in collection rates. While it's hard to quantify, much of the favorability in the first quarter is one-time in nature due to the timing of the roll out of university orientation.

Additionally, we are also in the process of implementing several initiatives at the University of Phoenix that we believe will improve the effectiveness of our collections process and which should favorably impact bad debt expense in the coming quarters. It is too early for us to quantify the benefit of these initiatives, but if successful they could be meaningful. We look forward to sharing the results of these initiatives in the coming quarters.

Lastly, as a percentage of revenue depreciation and amortization was unchanged from year ago levels, but we remind you that we expect to see an increase in future quarters as a result of the elevated level of capital expenditures over the next couple of years.

Share-based compensation totaled about $15 million in the first quarter, and we expect it to be about $75 million for the full year.

Our effective tax rate in the first quarter was 41.8%, and we expect it will be about 42% for the remainder of the year. As always, the rate could vary depending upon the outcome of state tax initiatives and the results of our foreign operations.

Now let me turn to the balance sheet and cash flows. We continue to maintain a well-capitalized balance sheet and at November 30, 2010, had unrestricted cash and cash equivalent in excess of $1 billion. Our outstanding debt decreased to $181 million versus $584 million at the end of last year.

Excluding Apollo Global, our days sales outstanding for the quarter decreased to 26 days from 30 days at the end of last year and decreased from 32 days a year ago. The decline is primarily due to the lower University of Phoenix gross accounts receivables as well as slightly better collection rates.

During the first quarter, our adjusted free cash flow increased approximately 2% to $335 million compared to $330 million in the first quarter of last year. As a reminder, we define adjusted free cash flow as cash flow from operations less CapEx and changes in restricted cash. We have reduced our capital expenditure plans for 2011 to better align with our refined business outlook. However, we still anticipate that 2011 will exceed fiscal year 2010 levels owing to some nester [ph] investments in our core information technology and network systems, including the development of a redundant system in a new geographic location.

Some of this investment will also roll into 2012. However, we do not expect the long-term capital efficiency of our business to change. During the first quarter, we utilized approximately $177 million of capital to repurchase 4.7 million shares of our stock at an average price of about $38 per share. Our board has recently increased the size of our aggregate share repurchase program to $600 million.

Before I turn the call over to Chas, I’d like to spend a minute generally discussing our outlook for the business. Given the magnitude of the changes we are making, the near-term predictability of our business has declined. However, we are confident that changes we are making are in the best interest of our students and therefore over the longer term in the best interest of our shareholders.

Based on our current business outlook, we would expect the year-over-year decline in new degreed enrollment in the second quarter to be about the same as the first quarter. Because of a large decline in new enrollments coupled with the graduation of some of our existing student population, we expect increasing declines in total enrollment as we move through the year. Revenue is primarily driven by both average enrollment levels as well as pricing.

Since revenue trends will follow average enrollment, we wouldn’t expect the declines in revenue to be as great as those in total enrollment. We believe in improved retention rates from the various initiatives we are implementing will ultimately result in an inflection point, where total enrollment trends begin to improve. However, predicting the timing of that turn is difficult until we see some improvement in new enrollment and anticipated retention rate improvement.

Beginning next quarter, we plan to provide you with a quantitative metric of retention that is meaningful to the business and that will help you monitor our progress with these initiatives.

Lastly, as we committed to you on last quarter's call, as we go through this period of transition in our business that is resulting in some lower visibility in near-term results, we intend to aggressively manage our cost structure to appropriately align it with the business results. As you saw during the quarter, we took some difficult but appropriate actions with regard to headcount, eliminating approximately 700 full-time positions, principally in the area of admissions personnel.

This is expected to result in approximately $8 million of reduced compensation expense per quarter going forward. The majority of these savings will be in admissions advisory line item. This action combined with natural and fully attrition and active management of new hire has resulted in a net decrease to our total and full-year [ph] account of approximately 5% excluding faculty since our August 31 year end.

In total, we believe we will end the year with an excess of $100 million run rate savings from 2010 largely driven by the combination of active management of our headcount and lower bad debt expense along with savings in other areas. Given some of the investments we are making back into the business, there is some variance from quarter-to-quarter with regard to the savings.

Beyond 2011, we have also identified a number of process reengineering opportunities, which we expect will result in cost savings. These include processes such as financial aid and student service functions, how we manage our marketing and student enquiry operation as well as how we manage our call centers.

With that, I'll turn the call over to Chas.

Chas Edelstein

Thanks, Brian. So, I'd like provide you with a brief update on some regulatory activity that we've seen recently in Washington. First, during the early part of December, as we previously disclosed, the Department of Education conducted a program review of University of Phoenix. The review covered the last fiscal eight year as well as the current year through October.

Based on our discussions with Department of Education personnel at the exit interview, we do not expect at this time that there will be any significant adverse findings from this review, although, of course we haven’t received the department's report yet.

Next, since we last reported earnings, the Department of Education published final rules from the negotiated rule making process for all of the topics other than Gainful Employment. We've been studying them closely and believe we can comply with each when they are scheduled to become effective this July.

By then, we’ll have additional time working through the new regulatory structure and hope to have gained operational efficiencies with regard to our related initiatives. Regarding the gainful employment provisions, we continue to have constructive conversations in Washington. We still don’t know what the final rules will look like, but we are pleased with the seriousness with which the administration and Congress are approaching and evaluating the issues.

The Department of Education has asked important questions and has had lengthy discussions with us as well as other experts in the education industry. Also, I think that our perspective is that the tone of conversations in Washington and the media in general is that they've been more balanced in recent months, which is encouraging. We're looking forward to working with the new Congress and have already met with many of its new members.

While change is never easy, we are optimistic about the future of Apollo. We are extremely dedicated to the strategic direction we've outlined over the past several quarters and are encouraged that the ones that we have underway are important initiatives are underway.

We're staying focused on our mission and are confident that we're doing the right thing for our students, which should ultimately lead to sustainable, quality, long-term returns for all of our stakeholders. We're incredibly proud of our employees as they embrace the changes we're making and positively impact student lives. We'd like to thank them for their dedication and commitment to making a meaningful difference.

With that, operator, let me ask you to open the line for questions so we can talk to you.

Question-and-Answer Session

Allyson Pooley

While Katherine is queuing up your questions, I'd just like to ask that all of you could keep your comments or questions to one with a follow up. We've got a lot of people on the queue and we'd really like to get all of your calls. So we appreciate your help on that. Katherine, thanks.

Operator

(Operator instructions) Your first question comes from the line of Suzi Stein with Morgan Stanley.

Suzi Stein – Morgan Stanley

I think you said that the orientation program was responsible for about 25% of the decline in starts. Can you talk about some of the other factors that are driving the decline? I guess looking at Q2 versus Q1, Q1 included the three weeks of no starts from the startup of orientation. Have the other factors gotten worse in Q2 to lead you to the expectation that new enrollment declines will be similar in Q2 to Q1?

Brian Swartz

Actually Q2 is consistent with Q1. The percentage, due to the inter-quarter seasonality by months, what we're seeing in Q2 is consistent with Q1.

Greg Cappelli

Suzi, I'd say this is a follow-up to your question, I think there is a number of things impacting enrollment. Obviously, orientation is something that is having an impact, but we try to quantify it for you. Our initiative on compensation for admissions counselors is another that's having a major impact, but the training is getting done and getting in place. I think as I've said in my opening remarks, our employees are getting training, used to the new system in place. That's going to take some time, and ultimately we're comfortable that that's going to improve. You put that together with the economy being less bad and obviously competition from other for-profits and not-for-profits, some bad press, it's just a tough time right now, but we know that if we continue to do the right things for the Apollo Group and the University of Phoenix, absolutely be a leader in the field for student protections and compliance and then continue to make the investments into the University of Phoenix on the learning, the academic platform, the technology, the services, you're going to have to set yourself apart in this industry going forward. That's what we're doing. That's what we've been building over the past year and that's what we're going to continue to build towards going forward.

Operator

Your next question comes from the line of Andrew Steinerman with JP Morgan.

Andrew Steinerman – JP Morgan

My question is about new enrollments being down similarly in the second quarter. When you look into the second half of the fiscal year, do you think we’ll look back and say the first half was a bottom to new enrollments or are there some factors that you already know of now that could drag new enrollments more in the back half of the year?

Greg Cappelli

Andrew, I think that’s hard to say at this point. What we want to do is we’re going along; we put some very significant initiatives in place. We feel like that turn is going to happen, but until we see that inflection point, I don’t want to pretend like we know the exact date when it’s going to happen. Certainly, the initiatives are in place, that’s it could happen, but it’s hard to say when we get to the end of the year when it will be or what month it was or what it could have been. We’re confident it will happen; we just can't give you the exact date.

Andrew Steinerman – JP Morgan

Right. But when you just look at the three factors already discussed, do you feel like the full, full impact will be seen in second quarter, there’s nothing sort of more from the three initiatives that we know now that would have more of an impact past the second quarter?

Greg Cappelli

I am sorry. I didn’t understand your question.

Chas Edelstein

Andrew, it’s Chas. What I would say is we’ve put what we see in the near-term horizon as the significant changes in place. We have the training and those processes in place for our people, our admissions’ folks, and the thing that – so we would expect that training would have some impact on efficiencies as we’ve discussed. We just don’t know exactly when those impacts will be found.

Greg Cappelli

There’s nothing that we’re sitting here today saying outside of the things that we’ve talked we know are impacting the business. Those are the impacts.

Andrew Steinerman – JP Morgan

You had mentioned negative media affecting starts, you did last quarter?

Greg Cappelli

No, I did mention it. I just mentioned it to this question. I mean it’s out there. I think obviously there is less of it now and we’re trying to make it a situation where there’s frankly less to pick on from the University of Phoenix and we've done a lot to the University and to the organization over the past six months that our folks are very proud of, and well, it's had an impact. I think those are things that are absolutely going to help us going forward. It's going to take some time for that media impact, I think, to wear down, but we're confident it'll happen and if we're leaders in the field, good things are going to happen going forward.

Operator

Your next question comes from the line of Gary Bisbee with Barclays Capital.

Gary Bisbee – Barclays Capital

I guess, can you give us a little more color on the transition of the new admissions model? The types of things I'm wondering about are, is the 700 people the likely number? Are you pretty happy with the other people or is this the type of situation you're expecting to need quite a bit more churn to get to the right place in terms of the right people and the seats? Any other color you can give us on maybe how the employees are reacting, anything else?

Joe D’Amico

Sure. I think anytime you go through change, it's going to have an effect on the people. But I will tell you, I'm very proud of our people. They have been through a lot. This is a major change for them. They're reacting, I think, consistent with what we expect. I’d say they are improving. They understand what we're trying to accomplish. I'll tell you the one factor that I'm most proud of, is we've been getting feedback from students who start and student who don't enroll into the school. So effectively like (inaudible) score asking the right kinds of questions. The feedback is really positive. So, I think we're having the right effects.

Gary Bisbee – Barclays Capital

Then, I guess, the follow-up, is there any reason that we should not see student persistence? You guys, obviously, understand the way that we mathematically calculate it, but any reason we should not see that begin to improve pretty quickly in the Associates, Bachelors business now that the orientation has been rolled out?

Chas Edelstein

I think Gary, we would expect the rates of retention to improve because of university orientation to be sure and as well as some of the other initiatives. We're going to make an effort next quarter after we have more data and people have gone through the university orientation for a longer period to give you some specific data so you can actually see into direct retention rate numbers rather than just the less direct persistence numbers, which include graduations and are a little more difficult to put your thumb on.

Chas Edelstein

Yeah, they can be greatly affected by new student enrollments too as you know. To your point, I mean that's a major part of orientation is to see the same results we hopefully did in the pilot and we'll keep striving to be better, but we're confident that if we employ that and continue to roll it out that those metrics will improve.

Operator

Your next question comes from the line of Sara Gubins with Bank of America-Merrill Lynch.

Sara Gubins – Bank of America-Merrill Lynch

On the Master's degree, new student enrollment trends, can you just talk about what's impacting that? It's obviously not impacted by orientation and yet the starts have fallen off?

Brian Swartz

Yes, I think that's impacted by some of the sudden changes we've made in the enrollment evaluation and compensation processes. I think that's one factor. The second is I think those are the students that we're all going for right now. There's a lot of competition for that student, and I think we still have work to do to get it right. We're taking some other actions and have piloted some things that we think are having an impact, but we haven't seen the results yet. So we're continuing to stay focused on it and hoping we get the results.

Sara Gubins – Bank of America-Merrill Lynch

Then, as a follow up, the Higher Learning Commission, in the 10-Q you mentioned that they are imposing some additional requirements around new campus openings. Can you just give us some more detail around that?

Joe D’Amico

I can give you a little bit on that. It relates to new locations and a process that the Higher Learning Commission wants us to follow, and we're complying with that. We've actually come back to them and have a process now where we feel we can open new locations in a reasonable amount of time. So, I don't think that's going to cause any…

Greg Cappelli

Obviously, our growth story is not rolling out a lot a new campuses going forward. It's getting everything else right, which we are focused on doing.

Sara Gubins – Bank of America-Merrill Lynch

Does it slow down new program additions?

Joe D’Amico

No. It has to do with new locations, not with new programs to my knowledge.

Operator

Your next question comes from the line of Trace Urdan with Signal Hill.

Trace Urdan – Signal Hill

I'd like to ask about the price increase. Is this something that you felt was required in order to stay in compliance with 90/10 and I'm wondering if you felt like it might have been responsible for some of the weakness that you saw in starts? Then, finally, I'm wondering if it was sort of rolled out across the board or whether the scale of the price increase differs by degree offering?

Joe D’Amico

First of all, the price increase that I refer to. We didn't increase price this quarter. This is reflective of the price increase that we announced, I guess, two quarters ago that was July 1, and so –

Trace Urdan – Signal Hill

That blew my question.

Greg Cappelli

Go ahead, you’ve got another one.

Trace Urdan – Signal Hill

All right. Then maybe let's talk prospectively then. As you're looking forward, I know that you made reference I believe on the last call to the prospect of possibly having to raise prices. How are you thinking about that now?

Greg Cappelli

You know Trace, it's a good question. It's something that we are sort of analyzing and reviewing. We do that constantly and look at the marketplace. Historically, we've looked at pricing and when you are in that zone of Title IV funding and your students historically have not had to go outside that for a significant portion of their educational funding, it's been less of an issue. But it is something that we're looking at. So you asked a good question, is it having any impact on any of the players in this space versus whether it's the traditional colleges or universities or what not. Now, to this point, we have not following that for our programs that are within Title IV funding, but we're looking at it and we want to understand it and if we feel otherwise, we'll talk about it, because we'll do something about it. But to this point, that really hasn't been a major reason why we think we are seeing the issues that we've discussed on the past couple of calls about the enrollments.

Operator

Your next question comes from the line of Ariel Sokol with UBS Securities.

Ariel Sokol – UBS Securities

Question regarding these starts. So since the new starts represented 42% of total new starts and I was curious to find out how that would trend over the next couple of quarters? Will it be the same ratio or will it decline further?

Greg Cappelli

Tough to say exactly. It’s because of the initiatives that we have in place for orientation, and whatnot which affects bachelors as well. It’s tough to put your finger on exactly where that will come in. obviously, our goal is to grow our bachelors and to try and obviously fix the issue with masters, but to say over the next quarter or two exactly where that’s going to come in, that’s a difficult one.

Ariel Sokol – UBS Securities

The follow-up question is with respect to the sourcing of the leads to understand what the composition, what the mix is going to be moving forward, where exactly are these leads coming from for the associates for the bachelors and for the masters?

Greg Cappelli

Well, as I mentioned, we’re managing our affiliate lead channel. Those areas leads come in, in a number of areas. The key for us whether it’s through our Phoenix at Edu or CEO [ph] network through our corporate relationships or digital media search, they are coming in from all of those areas. The key for us is historically going back. We might not have always had as much information and understood our student, our prospective student as well as we could and now that’s where we are putting so much work and making sure we are doing is understanding that lead who it is, where they are coming from, what their background is, if they are going to fit into our program, do they need to go through orientation or not. So we give that person the best chance to understand. We are going to need a significant amount of your time weekly to be in the University of Phoenix and you are going to have success here. That’s what it’s all about now and that’s why it’s so important where that lead source is coming from and understanding what the leads are about.

Operator

Your next question comes from the line of Jerry Herman with Stifel Nicolaus.

Jerry Herman – Stifel Nicolaus

First question is with regard to the admission advisors. First part of it is when will the trainee be fully completed on that and that new system fully in place? Secondly, Brian, you mentioned the compensation of those individuals being – I think you used the word slightly higher, could you guys give us some frame of reference on that; i.e., say the average starting salary or your expectations on average comp for those folks?

Joe D’Amico

Yes. With respect to the training and when will it be complete, the training is actually in stages and we have trained completely, if you will, our managers, directors and above. We're in the process of training our staff, but that training is going to be ongoing throughout this year and really in the future. It's a matter of staging and what we learn everyday from the kinds of inquiries we get and through the call monitoring we do is to what we need to do to help our graduation teams be more successful. So we're, if you will, in a mode of continual improvement in that regard. So training will continue throughout. Also, the compensation training, which is the next step to be done, will occur over the course of the remainder of this year. With respect to the cost, I think this is a factor of changes that we're making in terms of the levels of experience that we're looking for and other qualifications for our people. So, there will be some average increase over time, and it also will I think have something to do with how we've allowed our compensation program. I believe we should have ultimately better counselors and they should be paid well, and that's what we intend to do.

Jerry Herman – Stifel Nicolaus

The second question just relates to the front-end of the pipeline and the characteristics of students, now you guys are doing a lot there. Is there any lesser reliance on Title IV for the newer incoming students versus prior periods?

Joe D’Amico

I can't say that there has been a dramatic change there, but I can tell you that there is an effort on our part to continue to impact the borrowing under Title IV. Our approach is really to help students borrow less. We're making that change as part of our financial advisor role here to help our students borrow less. So we're actually doing some things along those lines and I hope that that will have some impact over time with respect to the borrowings of our students.

Greg Cappelli

We've talked about a little bit over the past couple of quarters with all of you some of the initial and significant success we have had there already.

Operator

Your next question comes from the line of Arvind Bhatia with Sterne Agee.

Arvind Bhatia – Sterne Agee

A quick question for you guys. Assuming that we do get new gainful employment rules published in the first quarter of this year, is there at some point in the next, say, a quarter or two when you guys will be able to quantify how you see the impact of gainful employment on the business?

Greg Cappelli

We'll do our best to do that. As we've said from the start, we need to see the final rules and regulations and exactly how they are spelled out. When they are, then we'll do our final analysis, we'll look at it and we'll try to provide to you how they impact us.

Brian Swartz

I would also add to that, as I alluded in remarks earlier, that we believe there are still substitutive conversations going on about what those eventual rules will look like. So, it really is very difficult at this point to quantify.

Operator

Your next question comes from the line of Peter Appert with Piper Jaffray.

Peter Appert – Piper Jaffray

The operating margin performance was pretty impressive here in the first quarter in the context of the decelerating revenue growth. Then I know you're quite focused on the cost management side of things. So, I'm wondering if you're feeling a little more confident in the ability to hold margins relatively stable even in the context of what is likely to be some, I guess, further deceleration of revenue growth over the next couple of quarters.

Brian Swartz

I think and I know you understand the model well with everyone else, I mean we're actively managing the costs. We will have a, as we look forward in some of the remarks that I have made, revenue is really a function of average enrollments as opposed to total enrollment. So as we have quarters such as we did in Q1 with 42% down enrollment that's going to have a greater impact on our revenue in future quarters. So, it will certainly put pressure on the margins going forward. How much pressure and when does it start to turn will be a function of when we actually hit the inflection point with the new enrollments. So, it will certainly put pressure on the top line and to stay ahead of that we're doing as best we can on the cost side to manage that as we go into that period of time.

Peter Appert – Piper Jaffray

Sizing the business accordingly?

Brian Swartz

Yeah. Sizing the business accordingly.

Peter Appert – Piper Jaffray

Then Brian, you'd mentioned in your comments, the programs to manage the bad debt expense lower. Wonder if you could be a little more specific on that? What do you think the order of magnitude might be that we could look to more –

Brian Swartz

Considering you're spitting in and out a little bit maybe if you get a little closer to the microphone for us.

Peter Appert – Piper Jaffray

Sure. The question, Brian, was you had mentioned programs to manage the bad debt expense lower, and I'm wondering if you could be little more specific on that and in particular some guidance in terms where you think that number could go?

Brian Swartz

Obviously, we like what we've seen. We think they are positive signs. The impact in Q1 most of the year-over-year favorability was one-time in nature, although we would expect going forward to have positive impacts year-over-year. They just won't be as dramatic as they were in year-over-year Q1. So that's kind of as a backdrop. We are doing some additional things, for example, increasing the number of collectors we have in our collection area and also revisiting kind of the economics we have with some of our third-party collection agencies, and those kinds of things we believe along with other things, could further possibly impact bad debt expense in the future. So all of those initiatives combine with just the fact that we now rolled out University Orientation should possibly impact it. How much, it's hard to say. It really depends how effective those initiatives are.

Operator

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

Jeff Silber – BMO Capital Markets

I just wanted to dig into the numbers a little bit, specifically looking at your degree seeking gross revenue per degree enrollment. It was a pretty sizable increase in the associate side. I guess I had thought because the orientation program being free, we would not be seeing that. Was there something specifically going on there?

Brian Swartz

Jeff, I think if we're looking at similar data, which I believe we are, the increase is a percentage, obviously, part of that are the price increases that I mentioned and that were effective last July. The other thing is that we're just experiencing more students taking more classes during the quarter. So a lot of it is just a function of how many students and how many classes you are taking in the quarter and the timing of when those students enroll and everything else. So there's nothing unusual going in there, the price increases, the normal increase and the timing for the balance.

Jeff Silber – BMO Capital Markets

It just seemed to be a bit more pronounced in the associates program than in any other three verticals. So was there anything specific there that you are aware of or just some noise in the data?

Brian Swartz

Nothing that I am aware of.

Jeff Silber – BMO Capital Markets

In terms of, just one follow-up. I am sorry I have to go here, but just in looking at the 10-Q there was – what looked like some new disclosure about a lawsuit in India, can you just give us a little bit color on that?

Joe D’Amico

Well, in terms of the – it’s not a new lawsuit, there is a continuing dispute there that we had.

Greg Cappelli

Goes back to Apollo International days and it's just some updated information on it.

Jeff Silber – BMO Capital Markets

Okay, my bad. I thought this was something new.

Operator

Your next question comes from the line of Amy Junker with Robert W. Baird.

Amy Junker – Robert W. Baird

If we can just go back for a minute on the incentive compensation as a little bit of follow-up to Gary’s question, how successful do you think your efforts have been to cultivate this culture of kind of advisement and consultation that you’ve talked about in the past with your enrollment counselors and I am curious how much resistance you’re seeing in that and perhaps if you are seeing resistance maybe those are the people that were part of the layoffs?

Joe D’Amico

We’re seeing I think excellent results from that. Our people are very comfortable with the advisement approach. I think what’s different is in the past we had very, very specific requirements that they had to deal with to get compensation adjustments, and we removed those. So that structure is gone. So now critical thinking becomes a more important part of the role and many people are adapting to that very nicely and very comfortably. Some, of course, are struggling and for those which we're trying to help them through coaching. So I am very pleased with that process. Again the initial results from some of the surveying work that we’ve done has come back very positive. I don’t think they were as positive prior to that.

Amy Junker – Robert W. Baird

Then just a follow-up on that. Now that all the safe harbors have been eliminated, can you talk a little bit about how that impacts your Aptimus business, and if you've had to change the way that they're kind of getting paid versus with the quality of leads?

Joe D’Amico

Well, it has – we've always been very careful with the Aptimus business to do that in as upstanding and positive way. We didn't play any games in that area, let's put it that way. We were managing our affiliates very closely. We would suspend affiliates, if we found them violating any of our principles, which were consistent with what I think the new rules effectively say. We didn't have any arrangements that we had to cut out. Some of our affiliates had had to make some changes in their business, but from our perspective, from the Aptimus perspective, the affiliates (inaudible) a big impact.

Amy Junker – Robert W. Baird

So there is really – you see no change in that business at all even following the elimination of all the safe harbors with how the pay is going to flow, so no change at all?

Joe D’Amico

No change at all from my knowledge.

Operator

Your next question comes from the line of Paul Ginocchio with Deutsche Bank.

Paul Ginocchio – Deutsche Bank

I think you said on the last call that persistence was going to do down before it went up, but obviously it's sort of relatively flat or up a little bit here in this quarter. Is that just an aberration or could you kind of talk us through your thoughts now on persistence have they changed?

Greg Cappelli

We don't know if it's aberration or not. I mean our key again I know for modeling purposes you're focused on persistence, but we're very focused on all aspects of retention. For us, just even looking at first-class completion rates, all the data as it comes through weekly on student orientation, and again, as we said, next quarter we'll try to give you even more data on that to help you understand how those trends are looking. So, aberration, not sure, but you know where we're going, you know what direction we're heading in and we're hoping to see continuing improvements there. It is a huge, huge reason why we're doing what we're doing. We want higher student outcomes at all levels.

Paul Ginocchio – Deutsche Bank

As a follow-up, there is no change to your 500 basis points to 1,000 basis points improvement? Do you see any persistence?

Chas Edelstein

I'm sorry, could you say it again? There's no choice in change in the what?

Paul Ginocchio – Deutsche Bank

I think you said previously that University Orientation, you could see 500 basis points to 1,000 basis point improvement persistence over time.

Chas Edelstein

We don't have any new results to report there for you, but there is no change in our thinking there and that is what we saw in the pilot.

Brian Swartz

What we said at the time was 500 to 1,000 basis points improvement in the retention rate. They are not persistent.

Greg Cappelli

One thing that's worth clarifying to make sure that we used the right words earlier in a previous question when you asked about the Indian lawsuit, I think I may have said it, it wasn't a new lawsuit. It's not a new dispute. It's another in a series of lawsuits related to the same ongoing dispute. That would have been the more correct way to express it.

Operator

Your next question comes from the line of Scott Schneeberger with Oppenheimer.

Scott Schneeberger – Oppenheimer

I presume you guys are actively pursuing corporate relationships right now. Could you just give us some feedback with regard to feedback you are getting from existing and new accounts set that you are pursuing? Are they more receptive, any reasoning why or why not?

Joe D’Amico

Yes, I think we have seen a very good response from our corporate relationships, and the new relationships I think there's been some concerns because of the GAO report that was issued. So, we've seen some activity where we were in the midst of signing someone up and that GAO report caused them to take a step back. I think that's temporary. So the bad news or the bad (inaudible), if you will, at the time though is a branch of that, did have some impact, but I would not say it's had a large impact.

Scott Schneeberger – Oppenheimer

Then, Greg, you alluded earlier to 5 million to 10 million students targeted as the sweet spot. Could you just take us a level or two deeper there as to how you think about that and is that just – to what degree levels are you thinking about just little bit more depth there?

Greg Cappelli

Sure. There's quite a bit of analysis that goes into that their analytics team. You guys know the data. I mean there's 80 million people in this country that don't have a bachelor’s degree. There's 50 million who have never tried. There are $30 million that haven't completed. There's a lot of numbers, a lot of data and what we've been trying to do is take a closer look at that and say look the old Apollo, the old University of Phoenix that 80 million truly was our subset. It doesn't need to be right now. We've explained what we're trying to do, where we're trying to go with the University, and there's a subset of that universe who we really want to focus our efforts. The numbers that I gave out is those folks fit into the categories of where we want to spend their time and attention. Great companies often have 30%, 35% of their target market. For us, our goal is to focus on that. We haven't come out and given details around that exact subset, but for us that's the part of the market that we're focused on right now. I'll simplify it by saying these are the students that we think have the best opportunity to succeed at the University of Phoenix, the one who can give us – the ones that can give us 15 hours, 20 hours a week of their time, the ones that understand what it's going to take to get through the University of Phoenix and will be a good match for us. There's a lot of data that goes into that, but that's the concept behind it.

Operator

Your next question comes from the line of Bob Wetenhall with RBC.

Bob Wetenhall – RBC

I think it's more for Brian. Looks like you've said more on marketing and admissions advisory services is declining at 60 basis points. I was trying to understand if you could provide a little guidance. You noted that there will be $100 million in cost savings going down the road, and it sounds like a lot of that's going to come out of the marketing side. Could you help us think about how to model that out in the next three quarters?

Brian Swartz

Yes. Let me start with the admissions line item. I think, as I mentioned, most of the reduction in force action that we took in late November, the vast majority will impact that line item and that's about $8 million per quarter of benefit going forward. That will be offset a little bit, as I mentioned, by some of the slight wage increases that Joe mentioned and any hiring that needs to place. So, in terms of the admissions advisory line, that's principally what's in that line item and that should give you a little bit of help on how to think about it going forward. In terms of the marketing line item, most of the costs in marketing – the vast majority of those costs are through advertising dollars and then the balance relate to some of our other marketing operations group as well as some of the individuals that help – that are in our corporate group, in our corporate relations group with external corporate clients. The individuals are in that line item. So over time, the marketing – it will go up this quarter at 50 basis points 12 to 12.5% as a percentage of revenue. Given what’s happening in the marketplace on advertising cost, we would expect that to continue here at least in the near term. We might make selective additional investments in some of the people in that arena as well. So hopefully that helps you a little bit in the near term and then longer term, our goal would be to lower both of them and again leverage well beyond 2011.

Bob Wetenhall – RBC

If you are going to take out roughly 30 million per year in admissions in advisory cost, then where does the other 70 million come out of?

Brian Swartz

Keep in mind I commented that the total headcount for the Company is down about 5%; about half of that is 700 and that’s in primarily the admissions line, the balance is in everywhere else, the instructional, the G&A, it helps where it spreads throughout. So there is not $100 million due entirely in people savings. There’s also a lot of savings in bad debt expense as I mentioned in other areas.

Bob Wetenhall – RBC

So $30 million in advisory and the rest is spread out across the P&L?

Brian Swartz

That’s a fair statement.

Operator

Your next question comes from the line of James Samford with Citigroup.

James Samford – Citigroup

Thank you. I guess I wasn’t in the queue earlier, sorry about that. Just a quick question, and Brian, I believe you said CapEx would actually be lower than you had previously stated. Are you pushing it out to future years or just the total amount is actually lower? What should we be thinking about 2011?

Brian Swartz

It’s just a timing issue, James. I mean, given the business this year, we do need to make those investments. They are very important. It’s just a matter of when do we have to deploy that capital. So I believe previously I said our 2011 CapEx would be roughly double 2010's amount, but it will be still up over 2010's amount, but it won't be double. Obviously we don't expect it to be, but that would put some pressure on the 2012 numbers.

James Samford – Citigroup

Just a quick on macro perspective. I was just wondering, are you still seeing a lot of your new students coming from the unemployment pool, are you starting to see more come from the sort of working adult pool and any signs that corporations are willing to step up and increase tuition reimbursement at this point?

Greg Cappelli

Can't give you an exact mix in terms of the employment status of our incoming students at this point. What I would say is that we have been reorganizing and working very hard to rebuild and have an absolute first-class effort in terms of our corporate relationships. Joe and his team are working very hard to build that out and I hope at this time next year we'll have some really encouraging things to tell you on that front. I think that was an area where we have some real ability to do some good things given our size and stature within the corporate community in the country. So, we will update you there as we move forward.

Operator

Your next question comes from the line of Brandon Dobell with William Blair & Company.

Brandon Dobell – William Blair

Couple quick ones, would you think or expect that second quarter starts kind of by degree type, so associates, bachelors, masters, would look about the same on a relative basis as Q1 or do you expect significant variance factors being maybe a lot better, a lot worse what we saw in the first quarter or didn’t it look lot alike?

Greg Cappelli

Well, someone had asked that question, Brandon, when you were sleeping earlier in the call.

Brandon Dobell – William Blair

Well, probably that's why you were droning on for a while.

Greg Cappelli

That’s true. Hey, Operator, we can move on now. No, I'm teasing. What we said just to clarify again, is that it's hard to say exactly by degrees height, where they are going to come in, you know we are trying to work hard to enroll Bachelors, Masters, Doctoral students, and that work goes on. It's just difficult with everything we have put in place at this point with orientation and the new programs with our employees and our enrollment folks, to say exactly what percentage that's going to come in. But you know what direction we are trying to go in. Brian, I don’t know if you want to add anything on that front?

Brian Swartz

No, I think that the only other thing I mentioned earlier Brandon is that the year-over-year change in new degree enrollment we expect will be roughly the same, but there is inter-quarter seasonality between the months, which impacts – impact of University Orientation and then the non-University Orientation impact.

Brandon Dobell – William Blair

Then finally, within these admissions advisor structure, you've talked about the compensation aspects of it. Any other structural change that you’ve made, so realigning people, more so based on the different schools, based difference. Obviously, you've got people that are doing associates and bachelors but they are aligned up around business versus IT. Trying to get a better feel for how they are working together versus just how they are compensated.

Brian Swartz

Yes, well, thanks Brandon for that question. We have made some structural changes that is highlighting some. So, for example, the Masters program, we have enrollment advisors who are focused strictly on that. We've always had and we've had good success with this enrollment advisors who are dedicated to areas such as education, teaching, and nursing, and so we're using those miles to learn from, and we're looking at doing a little bit more specialization right now at least with the masters, and I think ultimately the doctoral track and we may do some – I guess we do have that threshold now for doctoral students but we may do that in a broader way. We haven't made any final decisions on that.

Operator

Ladies and gentlemen, thank you. This concludes today's question and answer session. At this time, I would like to turn the call back over to Greg Cappelli for closing comments.

Greg Cappelli

I won't be giving five minutes of ending comments here, ladies and gentlemen, but we do want to thank you for being on the call. We're working very hard to try and take Apollo Group back to ahead of the class, no pun intended. We knew it wouldn't be easy. We took on the challenge with our hardworking employees and our teams, but we're determined to make our students and our alumni even more proud than they are today and we're not going to rest until we get there. So, thanks again for joining us and we'll keep you updated.

Operator

Ladies and gentlemen, this concludes today's conference call. You may now disconnect.

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