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Education Management Corp (NASDAQ:EDMC)

F2Q12 Earnings Call

February 02, 2012 09:00 AM ET

Executives

Jim Sober - VP, Finance

Todd Nelson - CEO

Ed West - President and CFO

Analysts

Kelly Flynn - Credit Suisse

Tom Dillon - William Blair

David Warner - First Analysis

Gary Bisbee - Barclays

Jeff Silber - BMO Capital Markets

Trace Urdan - Wunderlich Securities

Jerry Herman - Stifel Nicolaus

Suzanne Stein - Morgan Stanley

Andrew Steinerman - JPMorgan

Jeffrey Meuler - Baird

Peter Appert - Piper Jaffray

Sara Gubins - Bank of America

Operator

Good morning and welcome to the Education Management Corporation's Fiscal 2012 Second Quarter Earnings Conference Call. All participants will be in listen-only mode. (Operator Instructions). Please note this event is being recorded. I would now like to turn the conference over to Jim Sober, Vice President, Finance. Please go ahead.

Jim Sober

Thanks, Amy. Welcome to Education Management's fiscal 2012 second quarter earnings call. With me on the call today are Todd Nelson, Chief Executive Officer; and Ed West, President and Chief Financial Officer.

Following our opening remarks, we will begin a question-and-answer session. Before turning the call over to Todd for his opening comments, I'd like to remind everyone that the information presented on the call contains forward-looking statements. These forward-looking statements include but are not limited to statements about our future plans and our future financial and operating performance. Actual results may differ materially from those contained in the forward-looking statements. Additional information containing or concerning factors that could cause actual results to differ materially are set forth in the cautionary statement included in the earnings release. Todd?

Todd Nelson

Thanks, Jim. Welcome to our fiscal 2012 second quarter earnings call. On today's call I'll provide an update of our business operations and Ed will review our first quarter results, cover several operational topics, and provide our guidance.

Given the continued challenges in our industry, we are pleased with our second quarter financial results. We believe that the prolonged recession high unemployment while a benefit to our industry earlier on is now causing perspective students to delay their decision to get the education they desire. Despite these significant headwinds, we have continued to make the investments necessary to continue to provide a high-quality education and good outcomes for our students. We've restructured all aspects of financially processing, transitioned South University online and Argosy University online to a non-term based academic structure, eliminated miscellaneous students fees, standardized credit requirements across the art institutes, and invested in the development and expansion of career services across all of our schools at Argosy University and Brown Mackie Colleges in particular. Plus we have and will continue to evaluate all aspects of our business in order to streamline departments for efficiencies, eliminate unnecessary cost, and make the decisions to match our cost structure to our current enrolment trends.

Finally, we continue to firmly believe that given the competitive global marketplace the long-term growth trends for our industry remain favorable as the need for post-secondary education remains high. And we will work hard to ensure students receive a high-quality education and are prepared to take advantage of their opportunities.

For our recent January start we have enrolled -- enrolment of over 142,600 students, a decrease of 9.3% over the prior year period. Excluding the six locations that are less than a-year-old same school enrolment declined approximately 10%. Students taking their classes in a fully online modality decreased to 8.5% from last year to 35,800 students representing about 25% of the total population.

Further, new students from the three-month period ended December 31, 2011 decreased by approximately 10% over the prior year period, in line with our expectations. While we still believe new students enrolment trends should improve in calendar year 2012, there will be more variability in year-over-year comparisons in the near term.

During the second quarter of fiscal 2012, we rolled out 55 programs across schools not currently offering them, bringing the total programs rolled out during the first six months to 150. Argosy University online has continued to launch new programs and associate degrees in psychology, business administration and criminal justice as well as a Master's of Science degree in human resource management. In addition, South University developed a Master's program in leadership.

I'm also pleased to announce that earlier this week we continued the expansion South University in its high-quality programs into another new market with the opening of a new campus in Cleveland, Ohio. I'd like now to provide a brief update of our graduate statistics -- of our undergraduate students excluding Argosy University available for employment who graduated during the quarter ended this past year, approximately 76% were employed in their fields or related fields within six months of graduation. For the average starting salaries for those graduates from our undergraduate programs for the quarter end of this past year, Bachelor's degree students obtained an average salary of approximately $33,000, while graduates from Associate's and diploma programs earned approximately $27,000.

And lastly, we are seeing positive results from the investments that we've made in our online operations over the past year. For example, the major transitions to a non-term based academic structure at South University online and more recently at Argosy University online are now complete. At South University online, we have seen favorable results on student success with the average student grade point average trending higher, academic progress showing meaningful improvement over prior year periods, and a higher percentage of credits are being successfully earned by students.

We anticipate similar results occurring with students at Argosy University online in the months ahead. In addition, students seem to appreciate the added flexibility that non-term provides in their course schedules. We believe these factors point to a stronger student population to build upon going forward. We firmly believe in the long-term growth opportunities for online education and we'll continue to enhance our academic offerings while expanding the number of programs we offer in order to serve more students over time.

With that, I'll turn the time over to Ed.

Ed West

Thank you, Todd. In my comments today, I'll review our financial results for the second quarter of fiscal 2012, cover several operational topics and update our guidance.

For the second quarter ended December 31, net revenues were $737.2 million, down 4.5% versus the prior year, EBITDA decreased 19.7% to $169.3 million, operating income was $130.1 million, and net income was $63.1 million with diluted EPS of $0.49. The revenue decrease was primarily driven by the year-over-year decrease in the October enrolment of 4.5%. Total expenses for the second quarter were up 1.8% to $607.1 million versus last year.

Looking at the expense categories in more detail, educational services were up 0.6% to $376.4 million, as a percentage of net revenues, educational services expenses increased by 258 basis points versus the prior year quarter. The increase as a percentage of revenue was primarily due to a drop in the average class size and higher bad debt expense. Within educational services instruction cost as a percentage of revenues was up 127 basis points. Bad debt expense represented 5.6% of net revenues for the quarter up 80 basis points from last year due to a higher out-of-school credit balances from lower student retention.

General and administrative expenses were up 2.4% to $191.5 million versus prior year quarter or an increase of 175 basis points on a percentage of net revenues basis. This increase was primarily due to an increased cost per start along with the increased staff and to support certain centralization efforts. Within G&A expense, marketing and admissions costs represented 22.0% of net revenues, an increase of 123 basis points from the prior year quarter.

Growth in cost per start was primarily driven by a lower conversion rates and lower start rates as compared to the prior year period. Depreciation and amortization increased 10.9% year-over-year to $39.2 million. As a percentage of net revenues D&A expenses increased 74 basis points versus the prior year quarter to 5.3%, EBITDA decreased 19.7% to $169.3 million for the fiscal second quarter. EBITDA margin was 23%. EBITDA which we used to measure our operating performance is a non-GAAP financial measure and a reconciliation to reported net income is included in the quarterly earnings press release.

Net interest expense was $26.8 million in the current quarter, a decrease of $1.8 million from the prior year quarter due to our lower fixed rates swap rates and the repayment of our senior subordinated notes in June.

Now looking at selected cash flow and balance sheet detail. Cash flow from operations for the six months ended December 31, 2011 was $97 million compared to $174 million in the fiscal 2011. This decrease in operating cash flow was primarily due to the lower operating performance when compared to the prior year coupled with the timing of receipts associated with the conversion to non-term based academic structure for our fully online students at Argosy University and South University and the related growth in restricted cash. Student receivables also grew as a result of the timing of certain starts in Q2.

From an accounting perspective, under non-term we actually received more cash upfront than under the previous quarterly term structure. However, a larger percentage of this cash is recorded as restricted cash. Restricted cash is not transferred to cash until the students satisfactorily progresses from one course to the next. For the fiscal second quarter, we had restricted cash of $52 million related to non-term.

During the quarter, we entered into a $150 million cash secured letter of credit line. We expect to begin utilizing this facility during the fiscal third quarter for our letter of credit issued in favor of the Department of Education. Once we utilize this new facility we will transfer funds to restricted cash. This will result in a one-time negative outflow from cash flow from ops. However, this does result in an interest expense savings to the company.

Cash paid for CapEx was $36.1 million or 2.5% of net revenues for the six months ended December 31 down from 4.8% of net revenues during the same period last year. We expect CapEx for the year to total between 4% and 4.5% as a percentage of revenue. During the fiscal second quarter, we repurchased one million shares of common stock totaling $22.2 million. Since the inception of our share repurchase program in June 2010, through December 31 of 2011, we have repurchased 16.8 million shares or 73% of the 23 million shares of common stock issued in our IPO at an average price of $17.64. At December 31, approximately $79 million remained on the $375 million share repurchase program that we originally announced back in June of 2010 and subsequently amended.

Looking at the balance sheet as of December 31, cash and cash equivalents, balance was just under $300 million. We had no borrowings outstanding under our revolving credit facility and long-term debt was $1.47 billion. Regarding investments in new locations during the second quarter, we incurred approximately $2 million in losses from the start offs in operation less than 24 months. During fiscal 2012, we planned to open to four to five new locations with the majority occurring during the fiscal fourth quarter depending on regulatory approvals.

Regarding guidance, while our second quarter new students enrollment was in line with expectations, we anticipated that new student growth will remain choppier in the near term. We believe that our new student growth in Q3 as compared to the third quarter of fiscal 2011 is likely to be lower than what we have experienced over the last two quarters on a year-over-basis. This is evidenced by our January enrollment figures that we just recently reported.

That said, we anticipate that the third quarter will be at or near or low watermark from a new student growth perspective on a year-over-year change basis. There are several reasons that we believe this. First, the non-term conversion at South University and Argosy University began last January and the students were fully converted as of three weeks ago. Today, all fully online students at these two institutions are and have been operating under a non-term academic structure. Second, during the third quarter, we will have anniversaried the roll out of our new admissions compensation plan for the maturity of our admissions representatives.

Third, leading indicators are showing mixed signals, and particularly for our on-ground institutions where some weeks are down and some weeks are up on a total application volume basis. This variability tends to be the case when you are near the bottom And fourth, the comparables from a new student growth perspective are more favorable in Q4 on a year-over-year basis.

Our third quarter and annual guidance for fiscal 2012 reflects the lower enrollment for our recent January start and near-term negative variability and new student enrollment and excludes the impact of anticipated restructuring on non-operating expenses, which may be incurred during the fiscal year including approximately $5 million to $7 million of restructuring expenses anticipated to be recorded in the third quarter of fiscal 2012. For our fiscal 2012 third quarter guidance we are expecting EBITDA to be between $123 million and $127 million, net income to be between $34 million and $36 million and EPS to be between $0.27 and $0.28 per diluted share.

For the 12 months ended June 30 of 2012, we're expecting EBITDA to be between $500 million and $510 million, net income to be between $143 million and $148 million, EPS to be between $1.11 and $1.15 for our diluted share and CapEx to be between 4% and 4.5% from net revenues.

And please note that the annual guidance I just gave also excludes expenses associated with restructuring and lease termination cost that we incurred during our fiscal first quarter, a reconciliation is included in our earnings press release. Todd, back to you.

Todd Nelson

Thanks, Ed. With that, operator, we are ready to take some questions.

Question-and-Answer Session

Operator

(Operator Instructions). Our first question comes from Kelly Flynn at Credit Suisse.

Kelly Flynn - Credit Suisse

Just going back to your comments about the start trends. I think you said that in your guidance part of the reason for further guidance reduction was that the starts trends were a little bit weaker than expected. Could you either Todd or Ed speak to why you think that's the case. I know you said at the beginning of the call it's the weak economy, but could you just kind of go through the list of factors there? And then tying in with that, how are you thinking about pricing, tuition pricing going forward? Do you expect reductions or moderation of price increases? Thanks.

Todd Nelson

As Ed said as well, what's happened is, again there are several things that the new compensation plan, as you know, are trying to come up with a baseline of productivity and as we have seen that impact going forward after its -- you've gone through this system for a year, our anticipation is we now have a better feel for the level of production for the enrollment counts and stats so that gives us some encouragement going forward as that annualizes through.

Obviously the comparables are very tough. As you know, last year we had some very strong growth in both new students and our enrolment, and again that makes a little bit tough as you're dealing with the new compensation plan. And also you can't -- not take into consideration the new regulatory environment where, as you know we didn't roll out as many new programs, we didn't open as many new options and all those have a combined impact on your new students because you don't have as many of those flowing into the system, but as you know, now we've started to ramp up backup as we see more clarity. And we feel is at more positive throughout the rest of the calendar year versus this next quarter in the tail end of our fiscal quarter.

As far as at tuition, as you know, we've, in the past comparing to this year, we're taking more moderate or anticipating more moderate increases. And in some of our programs, we're not planning on any increases and we'll always keep obviously that option open if there are certain programs that based on a competitive analysis that we may possibly decrease some, but at this point in time, I would say just as overall, our view is that that they are moderating from prior years and in some cases not anticipating so.

Kelly Flynn - Credit Suisse

Okay. Could I ask one last one related to that, I think, it's related. Todd, you said at the beginning that among other things you guys have standardized the cutter requirements across the Art Institutes, could you just go into more detail on what exactly you mean by that?

Todd Nelson

Well. What we did as we said earlier, as in earlier calls is that as we were looking at the impact of gainful employment. We felt that some of the programs had over the years had increased the number of credit hours, and so we went through a very thorough evaluation and felt like that there were certain courses that weren't needed and so we were able to standardize the length of those programs and shortened many of those programs as well. That's having everything that will we hope impact as we wait to see the actual data that will come out on gainful employment specific to each program.

Operator

And next question comes from Brandon Dobell of William Blair.

Tom Dillon - William Blair

Hi. This is Tom Dillon actually in for Brandon. I want to focus on the job cuts for a minute. You have obviously spent some time thinking about them, and so is this the last that we're going to see the cuts? And if so, why won't we see more?

Ed West

Well. Again, as with any college or university, you are constantly watching to see what's happening as far as enrollment trends, and also the goal is to always be efficient and if there are opportunities to streamline your organization, we want to do that. Obviously given the economy and the involvement trends, that impact of what we choose to do at online.

Going forward, it's hard to predict, but at that this point in time, we feel comfortable where we are. There are, again to say that you don't know, you know exactly what the future is going to be is, is difficult to say. But one of the things that we've always done here is try to come up with ways to be more efficient in our operations and sometimes unfortunate that results in employee reductions and going forward we're hoping that this growth trends, as Ed said as we see the second half of the calendar year things improving, again you need people to take care of our students.

Operator

The next question from Corey Greendale at First Analysis.

David Warner - First Analysis

Hi. This is actually David Warner in for Corey. I actually have a two-parter. Where do you think you're going to be on 9010 after the inclusion or exclusion of the 2000 Stafford loans and also with the potential inclusion of military if that eventually comes to pass? And also I think you mentioned that placement rates were down to 76 from, I think 80% last quarter. Can you shed some light on why that was down and what you're doing to manage that going forward?

Todd Nelson

Sure. Again as we mentioned the number one factor affecting employment is the economy and no matter how strong your group placement services are, as you know, we have hundreds of people employed in that in area that are helping our students, tough economy makes it very challenging, and as that continues that will be the largest factor. Having said that, we did experience some unusual turnover in some of the leadership of a couple of our larger AIs or art institutes and we feel some short-term effect as those positions are replaced. Our hope is that you'll start to see that come back slightly again, but you still can't dismiss the importance of the economy, the overall general economy. But that's why we felt that there was a little bit of an unusual impact this particular quarter.

As far as 9010 goes, again right now, as you know this is something that our company has managed and watched very carefully for years, and our view going forward is that we'll continue to do that and monitor that. We don't give guidance on our expectation for 9010, but we do feel that we are very well aware of what's being out there proposed politically and obviously we are very engaged in that discussion and hopefully feel that going forward, that Congress will continue to look at that and come up with a more reasonable test of the educational effectiveness than a 9010 score. And that's the direction that we're taking. But as far as the company goes, we've managed that successfully in the past and we're going to continue to watch that carefully and do the best we can.

Operator

The next question comes from Gary Bisbee at Barclays.

Gary Bisbee - Barclays

I guess the first question, Todd, you've been in the industry for an awfully long time, why do you think at Education Management the enrolment slow down or deceleration has lagged much of the rest of the industry for so long. Is it more the impact of the steps you've taken to position the business in today's environment, maybe being delayed versus some others or are there some other reasons that explain that? It just seems curious that you're on a cycle that's lagged nine months or moved from a lot of the peers?

Todd Nelson

I think that's a good question. I mean, there are several factors, one, where EDMC has had an advantage and will continue to have an advantage going forward is that we have a diversity of programs as you know. We're not just dependent upon a working adult student or an adult student. As you know, approximately half of our students are traditional ex-students. We found over time that's probably a more stable enrollment pipeline, and as a result, I think that that allowed us to probably not have the falloffs that some of the others did. I think we also had anticipated some of the loss of productivity that would be associated with the change in the compensation rules and as a result, I think we tried to get out ahead of that curve and that probably again caused us to not have the sharp drop-offs that several of the other folks have had and experienced.

But having said that, the regulatory environment that with the new changes that are out there, it did cause us, and it was the right decision to wait on certain program rollouts and new campus rollouts and now we are feeling the effects of that. That's one of the factors.

The other thing that's specific to our company is that our online operations, it needs to convert to non-term. As you know Gary, there are a lot of students who sadly, and this is, as you know, an issue especially now in the community college system and there were students who were again based on the, we feel that, the struggling economy, that were taking out loans for living expenses as they've been referred to (inaudible) and our view of that is it was important to make sure that as by switching to non-term that you, over time you eliminate those from your enrollment and you're also and we're also feeling the effects of that. So those are several of the reasons.

Our view going forward though is that it was necessary to make these changes. Again if this is the regulatory environment going forward, we needed to make sure that, again if there were those who were attending our programs just for this stipend that to try to reduce the amount of that as much as possible, but as we feel to really streamline and help us go forward with a stronger student body and it allows us the baseline going forward.

As Ed said, I think, again, you look at the tough comps and that's one of the things that's been a factor for us is when you're competing against those tough comps and given all of the headwinds in these other areas was difficult to do that. But our feeling going forward is that we made the right changes and going forward, demand continues to be there and our feeling is that with the diverse programmatic offerings and degree levels that we offer and positions as well for this demand that is out there. And our review and just to comment on our main competitor, which are other non-profit schools, they are facing significant financial challenges going forward especially as the stimulus dollars have dried up for them. And going forward, the demand is still there and those high-quality providers that we believe have the full profit operating model like us, have an opportunity to really satisfy a lot of that demand.

So, again it's been slower coming, but we knew again based on some of the actions we were taking, it would have an effect. I don't think any of us anticipated as much of the lower loss of productivity that would come with this new compensation plan, but that's to be expected and establish the baseline, yes.

Gary Bisbee - Barclays

Is the switch to non-term, I totally understand incentive comp has been an issue and it's for everyone in the industry, but is the switch to non-term, is that still having a big impact or should we think about that it being other factors that are the big drivers in the online service?

Todd Nelson

Gary, two things on your question there, the two key variables, I think that are distinctive from us relative to the rest of the peers that you are valuating against as one, the percentage of traditional age students that we have and that is particular to our institutes, provided a lot more stability versus that working adult where you saw the earlier trends were going down on a year-over-year basis from a new student production standpoint. So that's probably why you saw us more of a lag there, we've seen stabilization there recently.

And the second point, key variable as you just hit on there is non-term, through during the middle of this, while this was happening, we made the decision and the right decision to convert to the non-term academic structure for both South University and our Argosy University and conversion going through this past year. As I mentioned in my comments, the last students at Argosy University were fully online students converted from term to non-term just three weeks ago. So now going forward, all the students are either have been or on a non-term basis. So that is a positive from that transition standpoint, but that's something that impacted us versus others who have not done that or were not doing at the same time.

Gary Bisbee - Barclays

And if I could just sneak in one more for you Ed, you've done a real good job slowing cost growth over the last few quarters. Should we think about that staying at these levels? Is there a change that more efficiency could actually lead to a reduction in cost or any guidance on how to think about the trend of investments versus these efficiency steps you've mentioned? Thanks a lot.

Ed West

Sure. We're going to constantly, I mean we have obviously a relentless focus on how we can continue to deliver better student experience, results, and investments for our students and employees with the mindset also of efficiency and effectiveness. So to the extent we can continue to drive additional efficiencies we are and will. So we could see some of the direct costs and support costs continue to go down a little bit, but offset by other investments that we may be making into the platform where we have some redundancies today. For example, as Todd mentioned in terms of rolling out financially in the standpoint where we have a little bit of dualcy from a staffing level and over time that will obviously standardize and rationalize itself out as well. The only area where the cost may continue to go up a little bit is in on the as a percentage of revenues on the marking and remission side just because of the productivity that we've seen. So we may have some more cost pressure on that side, but offset by continued focus on the student experience efficiency and the like.

Operator

And the next question comes from Jeff Silber at BMO Capital Markets.

Jeff Silber - BMO Capital Markets

Thanks so much. Ed, when you were talking about the educational services line item, you talked about a drop in the average class size. Was that a conscious effort on your company's part or was that just because of the declines in enrolment?

Ed West

That's a statistic we focus on a lot throughout the entire company and making sure, and I think it is one of the great attributes of the company. We maintain relatively low student-instructor ratios and making sure on the student experience. That was pressured even more with the enrolment reduction that we have and that we experienced going into this past quarter. So it was lower than we had anticipated which obviously has a negative levered impact that will balance itself out over time. It's an area something that we closely monitor.

Jeff Silber - BMO Capital Markets

And roughly what does that average class size of the student-teacher ratio?

Ed West

It's usually in the kind of the low to mid-teens. And obviously it's different depending on what program, but if you look at it across the entire system, that's where it is, but online looks different than on ground in certain classes or programs (inaudible) levels or higher versus lower on average in that low teens.

Todd Nelson

Yes, especially it's with the different programs in our institutions where there is a lot of hands-on requirements that's very important to maintain a lower class size than say a psychology class or business class where you don't have the amount of hands-on requirement.

Ed West

Obviously a one-point difference on that makes the impact.

Jeff Silber - BMO Capital Markets

I understand. And in terms of a follow-up, the company has been pretty aggressive each quarter with purchasing shares, there is not a lot of float left. I'm just wondering what the thought process is on future share repurchase?

Ed West

We still have the availability that's out there in the share repurchase program as I outlined earlier and we'll continue to monitor that and have that approval to do so. As you note, the amount of float out there has lessened so we continue to monitor that basis as well. That is a balancing effect to that, so we monitor it closely. But as we do our entire capital structure, looking at debt, we've repurchased debt as well with the free cash flow.

Operator

The next question comes from Trace Urdan at Wunderlich Securities.

Trace Urdan - Wunderlich Securities

Hey, good morning. I'm wondering if it's possible to kind of get out the start weakness from a couple of different areas, and I was curious about whether you could speak qualitative to variability between the different educational institutions and then maybe also characterize it in terms of what you're seeing in lead flow and conversion rates and show rates?

Todd Nelson

Sure. I mean what's happening obviously is, with the non-term effect on online we've seen some falloff there probably more so than we have at some of the on ground education systems and that again is to be expected. As far as within the other education on ground systems, we see a good stability with our traditionalized age students and also look at some of the other areas that we've experienced, that we ourselves are again waiting to see the full impact of gain for employment. So we haven't spent and recruited as heavily in some of those areas and some of those are specific to certain education systems.

Having said that again, we continue to see demand across many of our programs and disciplines and education systems. South University is an example, because again of the strength of their health science programs in particular, you probably have not seen the -off there that maybe in some of the areas that may not have some of the challenges that gain for employment have. So again we think there are two factors that have affected that, beyond those that we've already mentioned, and that's just what's going on in the labor market right and then combined with those programs that are being affected potentially by gain for employment.

Trace Urdan - Wunderlich Securities

Okay. If I just have a follow though because in response to Gary's question, Ed's two factors, number one, seem to suggest, I was understanding that correctly that you are seeing a little bit of leveling off in demand among traditional age students but then Todd you are sort of still setting that as a strength. So is that…

Todd Nelson

I'd say Gary, you see more stability in that. Again, you do have trends where it falloffs and comes back, you just don't see the wide swings that you have in some of the other areas.

Operator

The next question from Jerry Herman at Stifel Nicolaus.

Jerry Herman - Stifel Nicolaus

The question was regard to the expected restructuring in the third quarter. Can you guys quantify the savings associated with that? And then relative to your guidance the guidance this quarter both in percentage terms and absolute cents per share, let's say, was greater than the change last quarter, and maybe you can help us just sort of rank order the inputs to what might be driving that delta that changed.

Todd Nelson

Well, first on the restructuring the actions that we've taken this past quarter, the changes or any other net hiring all that is all reflected within the guidance that's out there and probably reasons go into further detail on that.

Separately Jerry on the question in terms of the reduction, I’m not sure by following in terms of percentage change. Obviously if you look at our fourth quarter, possibly some of the changes in there really relate back to more seasonality when you think about the base of the company on revenues and the size we are per quarter probably has a greater impact just due to the base with the fourth quarter being our lowest revenue recognition quarter of the year on a historical basis. Obviously Q3 tends to be smaller than Q2.

Jerry Herman - Stifel Nicolaus

And just a clarification on the student volumes. At the beginning of the call you guys said that you expect the volumes to improve in 2012. You’ve indicated they would be down in the third quarter. I guess is there still a chance for those volumes to be positive in the fourth quarter on a start basis?

Todd Nelson

Jerry, we don’t give guidance on new student enrolment. But if you look at several of the factors that are out there, as Ed said, we expect some choppiness in the short run but again there are things that are causing us to be optimistic.

But you’ll start to see that reverse itself when it goes positive. That’s very difficult to say and we wouldn’t probably want to speculate on that.

Operator

Next question comes from Suzanne Stein at Morgan Stanley.

Suzanne Stein - Morgan Stanley

On the increase in bad debt, how should we think about that over the next few quarters? Should it continue to rise and I guess is there anything you can do internally to help drive that down?

Todd Nelson

Well. On the first part, what we modeled in and expectations in there is that a stage at this elevated level. So it's similar to what as a percentage of revenue that we reported here for the second quarter. So for the rest of the year we included in the guidance that elevated perspective.

This is really, the second part of your question just it’s focus, it’s working with students. It's getting their collections on there, but obviously with where the economy has been students came more for the cost of education. Other sources be more limited because of the economy, but also because of others and the private side with a lack of support there. And it’s something that we will continue to work very closely with and all of our locations do with the students, with relationships and it's just a matter of focus along with everything else.

Ed West

And the only thing I would add is that, again as the private loan industry has really dried up and we had a short period of time with our EFL program that we helped with the transition, but it’s made us a stronger company by eliminating those, and again it is a challenging economy, but I think it points to the quality of our degree programs that people are willing to and in those cases where financial aid doesn’t cover their cost of the program and not having other outside sources there, their willingness to do that. But again as I said with that comes obviously a certain amount of impact on your bad debt.

Todd Nelson

Another driver there is, a big driver is retention. So that's the first and foremost focus on working with students, maintaining, sustaining the school and progressing that academically.

Suzanne Stein - Morgan Stanley

Okay. And then just going back to the job cuts. Can you quantify the annual cost savings from the recent round of job cuts?

Todd Nelson

Again, that’s all included in the guidance.

Operator

The next question comes from Andrew Steinerman at JPMorgan.

Andrew Steinerman - JPMorgan

Could you give us an update on student persistence? I know it had been down on an annual basis. How has student persistence been in the first half of the fiscal year, and what are some near term drivers there?

Todd Nelson

Again, there are several initiatives that we’ve been involved in, one being non term that we think over time and is showing some impact on persistence. Having said that again your biggest driver is still as we believe, the economy and to some degree the regulatory environment.

And so going forward we’re hoping that these initiatives and as things stabilize we’ll start to see that come back but at this point that has not happened. Again as we say, the initiatives we have, we do know will have eventually a positive impact on.

Andrew Steinerman - JPMorgan

Right. And I asked how is student persistence currently?

Todd Nelson

Again, we don’t give the exact number but we’ve experienced a couple of percentage point drop as we have in the past and that’s about as we had expected based on what’s being going on in the economy. And again we have other factors. For example, as you know non term as Ed was saying is that it's fully implemented. There are students that -- potentially therefore the stipend as those students are no longer part of the enrolment that also has an impact on that persistence rate.

Andrew Steinerman - JPMorgan

Right. And how long do you think it will take for your initiatives to have a measurable impact on persistence?

Todd Nelson

Again, as I said the number one factor is still the economy. So obviously none of us know exactly what’s going to happen there. Our view is that our efforts are already having an impact and again, providing again for the potential of the economy impacting it, our view especially, as we go into the rest of calendar ‘12 that we’ll start to see more impact on the initiatives that we have in place.

Andrew Steinerman - JPMorgan

That makes sense. And then one more question, how long do you think it will take to go from positive starts to positive total enrolments, when you talk about the whole system at EDMC?

Todd Nelson

Well, again, there is a lot of factors that are at play there but our view is that if you watch historically you usually have your SSB, again as you can’t explain all of the factors that affect that, I think you look at it historically and usually you see that within several quarters.

Ed West

Yes, as you pointed out a lagging effect to that or you may see new students trend to flat to positive and obviously enrolment will lag. Another driver to that as you were pointing out there Andrew is on retention. Going to the extent we see that stabilize, that would be a positive as well, but there is clearly a lag effect to it.

Operator

The next question comes from Jeffrey Meuler at Baird.

Jeffrey Meuler - Baird

Just wanted to ask a follow-up on bad debt expense. I know you guys obviously went through a range of details and I don’t know if you can slice it this thin but is there any way to tell how much of the increase was a result of the drops that came with the shift to non-term versus other factors?

Todd Nelson

Good point and that was a contributing factor with that with non-term drops throughout Argosy University and South University. That really contributed to it but we also just saw from a validation standpoint going across the system other weakness and then also the other drops that were outside of non-term contribute to that too. But that was a key component of it.

Jeffrey Meuler - Baird

Okay. And then, I just want to make sure I’m hearing you guys right on enrollment advisor productivity knowledge here, getting close to anniversarying the changes in the comp plans. Are you saying that you are starting to see a dropout, you have yet to see the improvement, you still expect to see an improvement and I know you guys don’t expect to get back to historical levels but basically we're at the point where we're seeing dropout but have not yet seen an improvement. But you would expect to see some improvement over the next year or so?

Todd Nelson

We do hope to see some improvement but again we're looking at it and really forecasting going forward that it would just be that you established a base line of performance based on current trends.

Now again, it’s very hard to predict that but if you were to look at it in this way in that past because that was a factor, student success could be a factor of their compensation changes, you probably had a higher level of productivity and therefore a higher salary those employees would have.

Going forward again you would establish the baseline and you don’t have the increases probably at the same level that you would have and as a result you would probably have on a per employee basis, your cost would be lower.

So I guess the easy way to say that, as you would have probably more people but at a lower salary producing the same number of students, and that establishes the baseline and that allows you to model effectively and therefore adjust your spending as your continuing to advertise and generate increase and then have the appropriate staff to handle those increase.

And as I said we’re much more interested in just what is the baseline level of productivity, that will base our forecasting on going forward and then hope to improve productivity, but if we don’t again as long as you have a clear understanding of what that expected level of productivity is, you can model effectively.

Jeffrey Meuler - Baird

Right, Todd and I guess, I’m just trying to figure out how far along on that curve we are meeting? Have you guys started to see the stabilization productivity or does it continue to come in?

Todd Nelson

Our view is that we have. We feel like we have a much stronger view of the level of performance now based on the fact that we’re coming up on the annual implementation of the comp plan and so you really do have a pretty good history to look at and say yes, we feel comfortable where we are.

Ed West

As of the first quarter the majority of our admissions representatives are now converted on to the new plan.

Operator

The next question comes from Peter Appert at Piper Jaffray.

Peter Appert - Piper Jaffray

So Todd, in the context of all the changes we've seen in the industry and the changes you implemented at EDMC, I'm wondering what your thought is in terms of appropriate target for long-term enrollment growth for EDMC. Do you think the business gets back to high single digit sustainable enrollment growth?

Todd Nelson

Let me put it this way. You've got to look at first just the overall demand and the overall demand continues to be for the whole set of initiatives very strong and then you have to look at who is going to provide those seats for the students and there are significant struggles and those of you who are following it now, financial struggles that are out there for a very large percentage of the traditional or non-profit providers.

So going forward our view is that the good high-quality full profit providers have a real opportunity to help with that demand and our view is that yes, there is opportunity for growth going forward. As far as the percentage of growth, again I think that’s something that we've never really given guidance on going forward but we do feel strongly that there is the opportunity to grow going forward and obviously in a different regulatory environment.

But again the focus should be on high quality experience for the students with goods in their terms and making sure that you’re investing in that versus some of the other things that are out there and so obviously there is the opportunity to grow going forward.

Peter Appert - Piper Jaffray

Okay, I was obviously trying to pin you down to a number but you’re too wily for that. Ed how about TV Air (ph) pricing, I would assume is going to really spike this year in the context of the crowd out from the political environment. How big a factor is that to you?

Ed West

We would agree. We think there will be some more pressure on that area, just given the political season that we have ahead of us. But fortunately, the traditional media side on television is, a relatively small less than 10% portion of our enquiries are generated that way, then also our spend as well.

Operator

The next question comes from Sara Gubins at from Bank of America.

Sara Gubins - Bank of America

Thank you. Could you talk about expectations for revenue per student trends over the next couple of quarters?

Todd Nelson

Sure. As you saw this past quarter the revenue per student was roughly flat on a year-over-year basis. Now that certainly might help a couple of different things. One as we've talked about earlier, the lack of some more systems and programs, we have no tuition increases. Others, we do have a very normal increase out there.

And then separately is the change in mix with online, on ground that we’ve had and saw this past quarter. So we had about 0%, it was relatively flat for second quarter. Because of the mix in the current quarter that we’re in now, the third quarter, it would probably go up slightly, because of the mix being greater now with on ground, with on ground being a higher revenue recognition per students basis and then probably a little bit higher on the fourth quarter as well. That’s really driven by mix, not really by tuition.

Sara Gubins - Bank of America

Okay. And then Todd, I wanted to follow-up on your comment about still seeing good demand. How do you measure that? Is it that you’re seeing good applications, but show rates continue to be an issue or are there some other metrics that you’re looking at get confidence and what underlying longer term demand trends look like?

Todd Nelson

Well, again, we’re looking at the overall demand that’s out there in post-secondary education and there really is a good demand based on, and those are a lot of statistics, as you know, that are available out there compared on historical levels and the value of education.

As far as us specifically, we’re still seeing demand across many of our programs. Our view is that we’ve had challenges as far show rates to start rates as we refer to them here that are affected by a lot of factors, the economy, I think some of the media, and some of our programs has probably had some impact on that.

But going forward, again, I think you have to look at the most leading indicator which is your ability to continue to generate increase and we’re continuing to see the demand there and that’s encouraging for us.

Operator

Our last question is from (inaudible) at Barclays.

Unidentified Analyst

Just, I guess to follow-up on some of those questions that were asked, as far as total enrolments, do you have visibility on when that metric is going to stabilize year-over-year?

Ed West

Well, we mentioned earlier that total enrolment, or as we report it, our SSB will be a lagging metric relative to the new student growth. So obviously I mentioned in my guidance earlier that we anticipate that this quarter that ran, our fiscal third quarter, the new student growth rate as compared to previous years actually, we anticipate to be lower than what we experienced in the last two quarters. But then this is likely to be at or near kind of low watermark and hopefully some improvement from there. The enrollment number would then lag the performance relative to the new students.

Unidentified Analyst

Got it. And so what is that mean as far as EBITDA levels stabilizing? Is that a couple of quarters after your new students stabilize?

Ed West

Well we've given the guidance here for this quarter, but that’s also a function of other actions that we take throughout the business, obviously how retention covers through but it would likely lag that new student performance, yes.

Unidentified Analyst

Okay. And then as far as use of free cash flow, just following up on a prior question, last year the cash flow has been used almost exclusively for share repurchases. Any thoughts on a go-forward basis?

Ed West

Well, as I mentioned earlier, we do have the sale availability on the share repurchase. That’s there. As you know last summer we also repaid the senior notes too. We’ll continue to monitor that, continue to monitor the capital structure. Obviously our flow has become a lot more limited and we’re also continuing to open up new locations, investing back in the business, back in the infrastructure for our new students and employees. So we’ll to continue to balance all those constituencies and focus on the highest investor return.

Unidentified Analyst

Got it. Last question, I didn’t hear you mention the availability on the revolver side?

Ed West

Well. The revolver steps down in later this year, as you know from the facility that we have and that was one of the reasons why we extended out and entered into the new letter of credit facility. And then, if we make a decision to utilize that facility and with the $150 million, it will free up that on the revolver.

Operator

This concludes our question-and-answer session. Would you like to make any closing remarks?

Todd Nelson

Again, thank you very much for joining us this morning and we do look forward to speaking with you again next quarter. Thank you.

Ed West

Thank you.

Operator

The conference has now ended. Thank you for attending today's event. You may now disconnect.

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