Devry F1Q08 (Qtr End 9/30/07) Earnings Call Transcript

| About: DeVry Education (DV)

Devry Inc. (NYSE:DV)

F1Q08 Earnings Call

October 25, 2007 5:30 pm ET

Executives

Joan Bates - IR

Daniel Hamburger - President, CEO

Rick Gunst - SVP, CFO, Treasurer

Analysts

Edward Yruma – JP Morgan

Amy Junker - Robert Baird

Trace Urdan - Signal Hill

Corey Greendale - First Analysis

Jerry Herman - Stifel Nicolaus

Sarah Gubbins - Merrill Lynch

Mark Marostica - Piper Jaffray

Gary Bisbee - Lehman Brothers

Chris Shutler - William Blair

Mark Hughes - SunTrust

Jennifer Childe - Bear Stearns

Operator

Welcome to the fiscal 2008 first quarter conference call. (OperatorInstructions) I would now like to turn the presentation over to your host fortoday's call, Ms. Joan Bates. Ma'am, go ahead.

Joan Bates

Thank you, Jeremy. With me today from DeVry management areDaniel Hamburger, President and Chief Executive Officer; and Rick Gunst, SeniorVice President and Chief Financial Officer.

Before we begin, please be advised that statements made onthis conference call may constitute forward-looking statements subject to the Safe Harbor provisions of the PrivateSecurities Litigation Reform Act of 1995. Forward-looking statements generallycan be identified by phrases such as DeVry, Inc. or its management believes,expects, anticipates, perceives, forecasts, estimates or other words or phrasesof similar import. Actual results may differ materially from those projected orimplied.

Potential risks, uncertainties and other factors that couldcause results to differ are described more fully in Item 1(a) Risk Factors, inthe company's most recent annual report on Form 10-K for the year ending June30, 2007 and filed with the Securities and Exchange Commission on August 24,2007.

As a reminder, our press release and preliminary financialstatements are available in the Investor Relations section of our website,located at www.devryinc.com. You should also note that we've provided segmentdata in today's release, which is also preliminary.

Telephone and webcast replays of the call are availableuntil November 8th. The domestic replay number for the call is 888.286.8010 andthe pass code is 28771493. Areplay is also available via webcast through the IR portion of our website.

Finally, because of the feedback we've received recently,we're modifying the format of our calls just a bit to shorten our initialcommentary to allow a bit more time for questions and answers.

I will now turn the call over to Daniel Hamburger.

Daniel Hamburger

Thank you, Joan, and thank you all very much forparticipating in our fiscal 2008 first quarter conference call. I'll provide abrief introduction, then Rick willdiscuss our financial results and then I will come back and provide an update on operations before opening it up toquestions.

We delivered strong financial results in the first quarter,with the most significant improvement occurring in the DeVry University segment. We're executingon our strategic plan with particular focus on increasing margins at DeVry University and on optimizing ourreal estate assets. We expanded geographically, controlled costs and at thesame time, made investments in facilities and in infrastructure to support ourgrowth over the long term.

As you know, summer enrollments drive financial results inthe first quarter and we are benefiting from the impact of higher summerenrollments in both high school graduates and the adult student segment; and,from a tuition increase that went into effect in July.

While earnings were strong, it's important that we provide abit of color here, as we believe our earnings growth will continue but not atthe robust level we saw this quarter. On the cost side, a number of new andopen employee positions were not filled in the first quarter. We will befilling those positions and making investments in several projects throughoutthe remainder of the fiscal year. Our goal is to manage our costs and to driveoperating leverage, but at the same time to make the appropriate investments tosustain our growth in the future.

Now since the end of Q1, we signed an agreement to acquireAdvanced Academics, a leading provider of online secondary education. Theacquisition is an investment in a high growth market, and consistent with ourstrategies of growing aggressively online and diversifying below theBaccalaureate level. DeVry is currently 90% weighted toward Bachelors, Mastersand Doctoral level programs, and we see growth opportunities at thepre-Baccalaureate level.

We also see opportunities to articulate Advanced Academicshigh school graduates to our postsecondary offerings and to enhance ourrelationships with high schools. [EduInterest] predicts that revenue in thismarket will be $2 billion by 2011, compared to $325 million in 2006. AdvancedAcademics has a strong team, a sound business model and excellent customerservice. We expect to complete the acquisition by the end of this month.

So with that brief introduction, I'll turn the call over toRick for the financial results and for progress on our financial position andstrategy.

Rick Gunst

Thanks, Daniel and good afternoon, everyone. As you have allseen in the press release, we delivered outstanding results in the firstquarter as we realized some of the benefits of the actions we've been pursuingthe past few quarters. First quarter revenue was up 14.2% versus prior year,with all three business segments achieving double-digit revenue growth. Thisstrong revenue growth, combined with our cost management focus and the impactof our real estate optimization activity, resulted in significant operatingleverage at the bottom line.

Now reported net income in the first quarter was up $5.9million, up over 28% and earnings per share increased $0.08 versus last year.Remember however, that last year's results included the gain from the WestHills facility sale, which was $11.8 million after tax. Also, this year'sresults included the net upfront loss of $3.7 million pre-tax and $2.3 millionafter tax from the sale-leaseback transactions at Phoenix,Seattle and Alpharetta announcedlast month.

Excluding these discrete items from both years results innet income of $29.1 million this quarter, up about $20 million versus last yearand earnings per share of $0.40 versus $0.13 last year, or both up about threetimes versus prior year on an apples-to-apples basis.

Also for your reference, first quarter results includeexpense related to share-based payments of approximately $1.5 million pre-taxor $1.3 million net of tax. This is higher than last year's first quarterexpense of approximately $1 million pre-tax or $800,000 net of tax, due to thetiming of our annual stock option grant occurring in the first quarter of thisyear versus second quarter last year. Our overall effective tax rate was 25.6%in the quarter, composed of a 26.9% rate on continuing operations offset by thetax benefit on the loss from the sale-leaseback activity at a 39.1% rate.

We produced significant operating leverage in the quarter,as cost of education services expense increased by less than 1% versus lastyear. We began to realize the savings from last year's workforce reductions,along with the impact of our real estate optimization actions, principally in Southern California, Calgaryand Dallas. As Daniel mentioned, directcosts were also lower due to some open positions that we intend to fill laterin the year and timing on project spending that will occur in the comingquarters.

We also realized leverage with our Student Services andadministrative expense, which increased by 6.8% in the first quarter, or abouthalf the revenue growth rate. As a result, pre-tax income margin of 15.9% was asignificant improvement versus 5.6% last year, again excluding the discreteitems from both years.

Note that we expect increases in both direct costs andoperating expenses during the balance of the year, but we still expect to driveoperating leverage, albeit not at the same level achieved in the first quarter.As you may have noticed, we're now including preliminary operating segmentresults in our earnings release, so I won't take the time to repeat all thenumbers now. But here are three key headlines:

First, each of our business segments recorded double-digitrevenue growth, with DeVry Universityup 12.9%, Medical and Healthcare up 22.1% and Professional and Training up13.5%.

Second, the DeVry Universitysegment showed the most significant year-over-year earnings improvement, goingfrom an operating loss of $1.6 million last year to earnings of $19.3 millionthis quarter excluding the discrete items, driven by the revenue growthcombined with the labor and facility cost savings.

Finally, our Professional and Training segment deliveredstrong earnings results and grew double digits versus last year, while theMedical and Healthcare segment results were up nearly 10%.

Our balance sheet and financial position strengthened duringthe quarter. One indication of this strength is that we had net interest incomeof approximately $2.2 million this quarter compared to interest expense of$700,000 last year; or a swing of almost $3 million.

Also, accounts receivable improved, decreasing $1 millionversus last year despite the 14% revenue growth, due to our improved focus andcollection efforts. These improvements, combined with the strong operatingresults, resulted in operating cash flow of approximately $80 million in thequarter and an ending cash and short-term investment balance of $223 millioncompared to $169 million last year.

Capital spending was $6.9 million during the quarter versus$7.8 million spent last year. This excludes the amount paid to execute ouroption to purchase our Alpharetta facility, since it was immediately sold forthat same amount. The pace of capital spending should pick up during thebalance of the year, with the total capital spending for the year in the $55million to $60 million range, due to investments expected to be made to expandfacilities within Medical and Healthcare segments and also to support systemsimprovements at DeVry University.

Also during the quarter, we repurchased approximately155,000 shares of our common stock at a total cost of about $5.4 million,bringing the total share repurchases in our program to date to $15.9 million atan average cost of $31.22 per share.

So that concludes my overview of the very strong results forthe first quarter. While we don't expect triple-digit growth throughout theremainder of the year, we are off to a great start. We will continue to focuson operating improvements going forward, while making the investments neededalong the way for future growth.

With that, let me now turn the call back over to Daniel fora bit more on our operating results.

Daniel Hamburger

Thanks, Rick. I'll begin with an operations review at DeVry University, including its KellerGraduate School of Management. Let me start with a little more information onour real estate optimization process. Across the Phoenix,Seattle and Alpharetta, Georgia campusproperties, we addressed a total of 287,000 square feet,leasing back approximately 69% of that total space in the three locations, fora projected improvement in operating income of about $1.2 million per year. We'llcontinue to evaluate additional opportunities to reduce operating costs whiledelivering the best facilities and services for our students.

Our optimization program is an ongoing exercise, and it's anexercise to ensure that we have the right mix of large campuses, small campusesand DeVry Universitycenters to serve both the high school graduate and the adult student demand ineach market we serve.

So to that point, we opened three new locations in September:Nashville, Bakersfieldand Detroit. Looking ahead, we haveplans to open five to six new locations for the year in total.

We continue to deliver on the value of a DeVry University education as employmentresults keep getting better. For the three terms June and October 2006 andFebruary 2007, nearly 93% our graduates obtained employment in their field ofstudy within six months of graduation, at an average starting salary of almost$42,000.

At Keller Graduate School of Management, we reached anall-time record of 15,857 course takers in the September term, an increase of12.7% from last year. That's a little stronger than Keller's average, and itwas driven by better lead flow through the recruiting period.

As we've said before, we're making investments in the nearterm designed to drive growth in the longer term. An example is in the firstquarter, we initiated Project Delta. This project's objectives includestreamlining policies and processes, improving data quality and reporting andultimately implementing a new student system, all to improve efficiency and,most importantly, customer service. This will be a multi-year, multi-milliondollar project.

Turning now to our Medical and Healthcare segment, at Ross University we saw strong interestin our Medical and Veterinary programs in the September term. Total studentswere 3,885 up 4.3%, while new students were down 8.9% to 572 students. Thedecrease in new students is related in part to the enrollment of transferstudents last year, but the primary cause of the decrease is that September isour peak enrollment term, and thus we're capacity constrained. We're working tocounsel applicants to enroll in the January and May terms, when we have morecapacity. We're also investing in our facilities to address our growing studentpopulation at Ross and the strong demand for Medical and Veterinary Medicalschool seats.

Construction projects at the medical school include abuilding to house student academic activities, a second building to house ourfacilities department, and then a new student center and gymnasium. As anothermeans of adding capacity, the medical school signed an agreement with SynergyMedical Education Alliance in Saginaw, Michigan.For context now, remember that our medical school students spend semesters onethrough four at Ross's campus in Dominica; the fifth semester in our Miamiclinical training site, which many of you visited at our recent investor day;and then semesters six through ten at teaching hospitals around the US. So thisagreement with Synergy provides another location for our fifth-semesterstudents and gives them the option to complete all their clinical rotations inthe Saginaw area without the needto relocate.

At the veterinary school, the 150-bed housing facilityofficially opened for the September 2007 semester with over 100 studentsresiding in the new building. Currently, we're finalizing plans to build twonew classrooms to help with capacity there at the vet school as well.

Results in the July class at Chamberlain College of Nursinghad a positive impact on results for this segment, primarily because of theexpansion to our Columbus location,which is enrolling third semester students, and robust demand in the online RNto BSN program. With continued strong demand for seats in nursing programs, ourgoal is to open at least one new Chamberlain site per year, and we're currentlyanticipating approval from Illinois and Arizona.

In the Professional and Training segment, Becker'sperformance reflects strong demand for accounting and finance professionals andthe results of our efforts to strengthen relationships with firms andprofessional societies. The AICPA recently projected that the number ofcandidates will be up 9% in 2008. That's good growth, but down a bit from 12%last year.

As a reminder, Becker's first quarter is typically strongerthan the second quarter because of seasonality in the business, as very fewclasses are taught in December. At Becker CPA Review we have new direct-billrelationships with BDO Seidman and with Grant Thornton. So, as we previouslyreported, we serve all four of the Big Four, and we're pleased to say that wenow have all six of the Global Six. For the second year in a row, seven of tenhighest scorers on the CPA exam were Becker graduates.

At the Stalla CFA Review, the Chartered Financial AnalystReview, we signed an agreement with the Philadelphia CFA Society to serve astheir educational partner and to provide coursework to their membership. Itseems almost every quarter here we announce another partnership. We now haverelationships with nine of the top 15 CFA societies in the world. Earlyindicators point to the total market of CFA candidates worldwide being upsignificantly for the 2008 exam cycle.

We also experienced strong growth internationally at Becker.Earlier this month, I had the privilege to meet with Becker's internationalmarketing affiliates, when we hosted them here for a strategy session.Representing all 27 countries where we teach, this affiliate network is asignificant part of Becker's international sales operation, and we are proud tocall them partners. It was also a part of our overall international strategy toleverage this international presence to provide new business opportunities,including potential acquisition candidates.

So in summary, we delivered strong financial results thisquarter, and DeVry's team is focused on executing our strategic plan with particularemphasis this year on five priorities: increasing margins at DeVry University;maintaining our growth momentum at Becker, Ross and DeVry Online; expandingChamberlain as a national system; continuing our diversification strategy atthe pre-Baccalaureate level and internationally; and enhancing our technologyinfrastructure to support our growth.

Joan with that, let's go to Q&A.

Joan Bates

Fantastic, Daniel.We're excited to take your questions. So, Jeremy, if you could give our callersthe instructions, we'll begin.

Question-and-AnswerSession

Operator

Your first question comes from Edward Yruma – JP Morgan.

Edward Yruma - JP Morgan

Congratulations on a nice quarter. Can you talk a little bitabout your acquisition? Do you need additional acquisitions to get the criticalmass in that space that you need going forward? Is this an implicit shift awayfrom some of your international growth plans?

Daniel Hamburger

You are talking about the acquisition of Advanced Academics?

Edward Yruma - JP Morgan

Yes.

Daniel Hamburger

In the high schoolmarket? No, I don't think we necessarily need to do more acquisitions in orderto achieve our growth plans in that market. It's certainly possible and we keepour eyes open to those. But it wouldn't be necessary for our growth. No, Iwouldn't see this as opposed to acquisitions for international expansions, butin addition to.

Edward Yruma - JP Morgan

One follow-up if I may. This is some of the strongest growthwe've seen out of Keller in some time. I know you alluded to improved leadflow. How sustainable is this rate of improvement? Do you expect to see it overthe next couple of enrollment periods? Thank you.

Daniel Hamburger

Thanks. As I mentioned, it's a little above the average, soit was a very good enrollment period for us.

Operator

Your next question comes from Amy Junker - Robert Baird.

Amy Junker - Robert Baird

A quick question on the margins -- I'm not looking forguidance; I know you're not going to give it -- but can you give us some sortof qualitative comment? I know you're making some investments going forward,and you're saying that this quarter's improvement is not sustainable. But anyorder of magnitude of what we can expect in terms of investments and wherethose might come in, in terms of timing?

Daniel Hamburger

Sure. Rick, jump in If there are things you'd like to add tothis. What we're saying is if we saw triple-digit increase in earnings that itwouldn't be reasonable to expect that going forward. We're certainly focused onimproving our margins, but probably not at the same rate that we saw in thisquarter.

Maybe some of the color there would be investments -- andI'm using the word “investment” broadly, not just capital investments but alsothings that would hit the P&L as expense in terms of people. We did have anumber of unfilled positions in the first quarter, just because we are focusedon hiring the best people we possibly can, and sometimes it takes a littlelonger than you plan. But we do expect to get those filled and that willcertainly have an impact on the margin expansion. Then there are theinvestments in marketing and recruiting, and then the investments in theinformation technology infrastructure. So that's a little bit of color.

Rick Gunst

I think some of theseinvestments will occur in the coming months and into next calendar year, andthey just carry forward. So the good news is we've got a lot of things that arehappening that help keep expenses down, given the workforce reductions we'vehad and the real estate optimization actions. But there will be other thingsthat we'll be starting to increase that will somewhat mitigate those savings.

Amy Junker - Robert Baird

On the revenue line, last quarter you talked about having agreater mix of part-time students. Was that issue resolved in this quarter, orwas there something else that perhaps offset that? Without the enrollmentnumbers it's a little tough to say, but did that average revenue per studentincrease this quarter versus last?

Daniel Hamburger

No, in fact thepart-time mix did not resolve itself this quarter. We continue to work on thatissue, Amy.

Amy Junker - Robert Baird

So there was enoughof an enrollment bump to offset that, then?

Rick Gunst

We had a combination of the enrollment growth that we had inthe summer of 2007 plus we had a tuition price increase that went into effectin July of this year as well. So that helped the revenue growth as well.

Operator

Your next question comes from Trace Urdan - Signal Hill.

Trace Urdan - Signal Hill

Congratulations. I wanted to ask about the other segments. Inthe Professional Training segment, it looks like some pretty healthy marginincrease to an absolute margin level that looked very high. I'm wondering ifyou could speak to that and to the scalability in that business? I would havethought that you'd have blown through anything that seemed reasonable as asustainable level of margin there. How should we think about what theprofitability of that segment can look like over time?

Daniel Hamburger

Thanks, Trace. You’re right, that is probably not the longterm. We need to be making investments in the Professional Training segment atBecker, CPA at Stalla, CFA and in our continuing professional education GeartyCPE business. We're also looking at acquisitions in the Professional Trainingsegment. It's actually the segment where we've made the largest number ofacquisitions in DeVry's history. Some of them have been quite small, but we doknow how to make acquisitions there and how to integrate them effectively. Soall of those would be some of the kinds of investments that we would like tomake.

And also just making some investments in marketing andcontinuing to build our brands. We have very, very strong brands with Beckerand Stalla. This is a time to be investing in that. So, for all those reasons,you could see that change a little bit.

Rick Gunst

The only thing I would add to that is, as Daniel mentionedin his comments, there is a seasonality to the business as well, and the firstquarter tends to have a little stronger margins. You really have to look at themargins for that business on an annual basis.

Trace Urdan - Signal Hill

I appreciate that. Is it just that the classrooms are allfull at this time of year? I'm just wondering what might be behind it? Are theinternational margins better than domestic margins? Is it the mix movingonline? Does that help?

Daniel Hamburger

It's not that the classrooms are all full. It's really afunction of demand. In the second quarter, it slows down a little bit.Accountants, just like all the rest of us, take off a little bit around theholidays. You have the natural rhythm of the accounting world, the publicaccounting world, where people are very, very busy at certain times of the yeardoing tax returns and other things. Then they come up for air and say now Ineed to get certified. So that just leads to a little bit of seasonality in thebusiness.

Trace Urdan - Signal Hill

The other thing Iwanted to ask about was the capacity constraints and the impact that that hadon new student enrollment growth at Ross. Can you help us understand thatphenomenon a little bit more? Just to give us the comfort that the demand isthere and that's really the issue? Are there metrics? Were you aware of this,and were you able to pull back on the marketing investment that you made inpreparation for the quarter?

Daniel Hamburger

Yes, and it's really not a question of marketing. Themarketing efficiency is very high in that operation, as you know. In terms ofcomfort with demand, the demand is there.

Trace Urdan - Signal Hill

Do you turn peopleaway? Are there people waiting in line?

Daniel Hamburger

Well, we've always turned people away at Ross. We have morethan twice as many applications relative to those who we admit, just because ofour admissions requirements and that continues. But for context here it's anexcellent question to ask, what we've seen here, Trace; so I appreciate it. Wefocused for a year to two years after the acquisition of Ross on quality.During that time, you might remember that we said we would make investments inthe short term to underpin long-term growth. We raised the standards. That led to a surge in demand, because of theincreased reputation of Ross and because of the outcomes.

Now, the outcomes at Ross and there's many measures, but onemeasure is board scores, are at the levelif not surpassing the U.S.schools. In this endeavor, quality leads to growth. Quality underpins growthand that's what we've seen. This has led to a surge in demand. Maybe we were alittle slow in responding to that surge, just because we're trying to beresponsible managers and not put too much cost or capacity ahead of revenue. Butmaybe we were a little slow to recognize that, and now we are finding we've gotthis surge. So we are turning people away, particularly here in the Septemberterm, which is the #1 enrollment period for, in particular, the medical school.

That's just a little bit of color around the dynamic there.

Trace Urdan - Signal Hill

As a quick follow up, when can we expect the new capacity tocome online sufficient to take care of that issue?

Daniel Hamburger

We can't give you a specific timeline or a date or a quarterwhen that will happen, because it's a process that involves a lot of factors.But we are focused on increasing the capacity with quality at Ross MedicalSchool, as well as at Ross University Veterinary Medical School.

Operator

Your next question comes from Corey Greendale - FirstAnalysis.

Corey Greendale - First Analysis

Congratulations. The DeVry University revenue, I know lastquarter you discussed a $1 million impact from a shift in the timing ofbookstore sales. Did that actually play out and there was a $1 million benefitin this quarter?

Rick Gunst

Yes, it did. Theshift between June and July did occur as we expected.

Corey Greendale - First Analysis

Are you willing tosay anything about the contribution of Chamberlain to the Medical segmentrevenue?

Daniel Hamburger

Sure. By the way, thanks for being diligent and following upon that bookstore. We're glad that you are paying attention to items large andsmall. Anyway yes, in terms of Chamberlain, it is making an increasingcontribution, but it is still quite small relative to the size of Ross withinthat segment. But clearly, it's in growth mode, and we're going to keep thatinstitution in growth mode. So we are more focused on growth and trying tomaximize earnings at this point. Although you can't help but increase earningsas it's growing so quickly, our focus right now is on growth.

Corey Greendale - First Analysis

Being diligent and trying to follow up on another item, Iknow you are not going to give guidance on the margin, but is there enoughnon-recurring benefit from some of the timing issues that you'd expect thesequential change to be different? Ordinarily, operating margin goes up 1Q to 2Q.Is it reasonable to think that actually would be more likely be down in 2Q from1Q?

Rick Gunst

Yes, if you look athistorical patterns, I think obviously Q1 is an unusual aberration in terms ofthe positive improvement going from a 5.6% to 15.9% is a huge increase inmargin in this quarter. When you look at it relative to history, it'sunprecedented. I can't really give guidance, but I don't think we'll see thesame pattern of quarter-to-quarter margin swings.

Corey Greendale - First Analysis

Daniel, when you were talking about Advanced Academics, yousaid that you hoped it would enhance your relationships with high schools.Could you just elaborate on that? My sense is that at times, anyway, highschools see Charter schools of one sort or another as more competition thanfriendly. So just talk about why you think they would view you as a friend.

Daniel Hamburger

Sure. Well, one ofthe reasons for that is that in addition to running those complete virtual highschools, Advanced Academics also partners with over 125 school districts aroundthe country to run the online courses for those schools. So they have alwaystaken a very friendly and a very partnership-driven approach, which is one ofthe reasons that I mentioned they have a strong business model. That's incontrast to some others that have had maybe not such a good relationship. So,given those strong relationships that they have, we think that some of thosedistricts are places where we'd like to have a better relationship at DeVry University, or maybe a ChamberlainCollege of Nursing. So we think that they can help us.

At the same time, we think that we can add value to AdvancedAcademics' trajectory, because we have some very strong relationships with somehigh schools and some school districts that perhaps they would like anintroduction to. There are many other potential points of synergy.

Let me just add one other thing that you didn't ask. All ofthose are in the longer term. In the near term, we are very much focused onletting Advanced Academics be Advanced Academics, and just supporting them,providing them the capital resources they need to grow as quickly and with ashigh quality as they possibly can. Then at the appropriate time, we will pursuethese kinds of synergies. That formula of leaving acquisitions alone other thansupport, and then looking for synergy later has worked very well for us withRoss and Chamberlain and Becker and others, rather than trying to be toohands-on or try to force things. So I wanted to make sure that that's clear.

Operator

Your next question comes from Jerry Herman - StifelNicolaus.

Jerry Herman - Stifel Nicolaus

Daniel, the question is about margins. I know you have beenpretty visible in terms of talking about returning to your old peak margin of17%. Generally, you have talked about that in the context of years. Given the momentumand the good quarter, do you care to update either the timing or the goal onthat kind of objective? I know it's not guidance, but what are you thinkingthere?

If you could also talk about what the margin potential ofthe business is relative to maybe the peer group?

Daniel Hamburger

First of all, it was 17.1%.

Jerry Herman - Stifel Nicolaus

Sorry about that. Iforgot that tenth of a percentage point.

Daniel Hamburger

Every piece helps. Every piece counts. So yes, we said that,I think beginning maybe about a year ago. We're an organization that pridesitself on planning what we do and doing what we plan and doing what we saywe're going to do. So I think this quarter shows that those goals, it's justanother piece of evidence but not the only one, to show that that is in therealm of achievability.

Yet Rick is going to be the first one to hasten to add thatone quarter does not a year make, and we've pointed out a number of things thathappened in the quarter which were unique to this particular quarter. So thatremains a goal and something we think is achievable. As we've said before, weset goals like mountain peaks. Then you get to the top of the mountain and yousurvey the landscape and look for the next highest peak to climb.

Rick Gunst

The only thing Iwould add is I think there are several components of getting to that marginimprovement, and we've talked about a lot of the cost things, cost items.Revenue growth is the first and foremost priority and showing the 14% revenuegrowth this quarter goes a long way to improving margins. As we continue todeliver the enrollment growth and revenue growth in the quarter, that's thequicker we can get to our goal.

Jerry Herman - Stifel Nicolaus

Have you guys startedgiving the presentations at high schools? It's a fairly new presentation, whathas the feedback been on the new delivery?

Daniel Hamburger

The feedback has beengood. The inquiries that we get from high school students, both juniors andseniors, are up. We gave some indication of that without specific numbers, justfor competitive reasons, at our investor day, and those slides are on thewebsite. So yes, there has been a good response to the presentation itself, tothe use of technology in the presentation.

Part of this is driven by the role specialization that weimplemented, or reorganization in the recruiting force, where some people noware focused on making those presentations and building those relationships andthen handing over to the enrollment advisors themselves the individual studentsto work with and advise them and work on them getting enrolled in school. So,for all those reasons, we're pleased with the progress in the high schoolgraduate recruiting market but we are not where we need to be and we're not atour full potential in that market, either.

Operator

Your next question comes from Sarah Gubbins - Merrill Lynch.

Sarah Gubbins - Merrill Lynch

I'll add my congratulations. Now that we're at the end ofOctober, I know that you're not actually going to give us undergrad enrollmentgrowth until early December, but can you give us an indication of how that islooking and in particular, the level of interest that you have seen in ITprograms?

Daniel Hamburger

Sarah, things aregoing well. We are moving along. We are executing on our plan, and that's reallywhere I would leave it in terms of the fall. In terms of interest in ITprograms in particular, you had mentioned IT, and our computer informationsystem or CIS program is doing well, both on site and online. The educationaloutcomes and the demand from employers is robust as well, and we recently addedthe employment statistics to these press releases, and I commented on it.

The DeVry 90/40 that we talked about, 90% employed in theirfield of study within six months of graduation, $40,000 plus, is now at 93/42,roughly speaking. So we're sort of the over delivering on that goal. So thoseare all positive indications, but nothing that says there's some sort of hugespike or massive increase in a short period of time, either.

Sarah Gubbins - Merrill Lynch

On the cost side, in terms of the unusual savings that yougot from the real estate action and the headcount reduction last year, and thecosts that essentially weren't included in this quarter but will be in laterquarters, does that skew towards one line item or the other? I'm assuming mostof the savings are in cost of educational services?

Rick Gunst

Yes, the workforce reductions were all on that line, as wellas the real estate optimization savings also flowed through that line.

Sarah Gubbins - Merrill Lynch

Then the employee costs that essentially weren't there inthe quarter is that in one line item or the other?

Rick Gunst

That will be acombination, because that's going to be investments at the campus level but inaddition, things on the marketing, recruiting, G&A front related to systemsspending.

Sarah Gubbins - Merrill Lynch

Did you get leverage from your sales and marketing spend inthe quarter?

Daniel Hamburger

Yes, we did. But again, at the same time, I want to providecontext to say that we do plan to make investments there in the future and infuture quarters. So I don't want anyone to get too carried away with that, atthe same time.

Sarah Gubbins - Merrill Lynch

Last quick question. Tax rate of about a little less than27%. Rick, is that a reasonable rate to consider going forward for the rest ofthe year?

Rick Gunst

Yes, that's what weestimate at this point. It's going to be largely determined based upon the mixof our domestic and international income. So based upon how that falls out,that's where we see it today.

Operator

Your next question comes from Mark Marostica - PiperJaffray.

Mark Marostica - Piper Jaffray

Thank you and nice job on the quarter. I wanted to follow upon an earlier point, Daniel, that you made. You mentioned you are pleased withthe progress in the high school recruiting market. I'm curious whether at thispoint in the progression in the fall semester can you give us a sense of howyour fall high school starts to date have tracked versus last year?

Daniel Hamburger

I don't think we can give you that specifically, but I cantell you that we are making progress and we're continuing to make forwardprogress relative to last year and to the year before that and the year beforethat, because we are on an upward trajectory for the reasons that I outlinedearlier.

Mark Marostica - Piper Jaffray

Is it your feeling that the part-time mix issue might stillresolve itself by the time you report the fall results?

Daniel Hamburger

No. I think that's a longer-term issue and really I don'tknow where that's going to settle out, and that's not unique to DeVry University -- you can study thisacross the country at universities. As the mix continues to shift from the olddays of many more traditional, full-time students, and now the mix is moreheavily weighted and that mix continues to shift towards working adults and atthe same time, even those who used to be traditional high school graduatestudents, they themselves are working full-time, even though they are still thesame age as the old traditional age group.

So for all those reasons and others, that part-time, full-timemix has shifted, and the credit hour load has shifted a little bit. I can tellyou that we have a very strong focus on this particular dynamic and we arefocused on advising students on why it's in their best interests, from anacademic perspective, and from an economic perspective, to go to schoolfull-time and to take a higher credit load. So we are at this point, I wouldsay, hopeful and confident that those will have a positive impact in thatcredit hour load per students or credit hour mix issue. But we are still in theearly stages of that particular dynamic.

Mark Marostica - Piper Jaffray

Just switching gears,in terms of optimizing your large campuses, can you speak to where you are atalong the spectrum of optimizing category 2 or category 3 schools? Perhaps giveus some color on how many campuses are left for potential sale-leaseback orrelocation.

Daniel Hamburger

The crux of the real estate optimization program is thatit's ongoing. By the way, even where we have taken an action at a particularcampus, it doesn't mean that we are done. For example, we had reported earlierthat the Phoenix campus, part ofthe strategy was to co-locate Chamberlain. That is not done, because we stillhave to get approval, although the capital expenditure is pretty much donethere. We are ready, and the simulators and the beds and the equipment is allthere, but that didn't mean we were done with Phoenix.We just followed up with the sale-leaseback transaction at Phoenix.

So you are never done, but we have taken significant actionat six of the large campuses. When we started, there were about 23 so I wouldsay about a quarter of them. There's probably a similar-sized group where wewill pretty much stay as we are, certainly look for opportunities to co-locateand do things like that. But we like where we are and so forth.

Then the group in the middle, we continue to work on. Sothat gives you a little bit of a feel for how far along we are.

Operator

Your next question comes from Gary Bisbee - Lehman Brothers.

Gary Bisbee - Lehman Brothers

Hi guys, good afternoon. Awesome job on the quarter. Let metake another different way to ask the question around the margins. When I lookback at the segment results, and by the way, thanks for putting those in thepress release; that's great. In each of the last five years, the first quarterhas had the lowest operating margin for DeVry University segment. In the last twoyears, it was really low; but the three years before that, closer to the restof the year, but still below. Given that, how should we think about this?Should we think about this close to 10% margin as a new baseline level for DeVry University? Or are there somereasons that it could be materially different and potentially lower at somepoint in a future quarter?

Rick Gunst

That's a goodquestion, Gary, because that'ssomething we're evaluating, obviously. We're in new, uncharted territories overthe past few years. How quickly we can get back to where we were and how that'sgoing to change in terms of the seasonal flow of margins, quite frankly, isstill yet to be proven. So the honest answer is we are evaluating it just likeyou are.

We've made a lot of changes. We've done things on the coststructure that are going to have an impact that are different than the pastseveral years. We're getting now double-digit revenue growth in this quarter.That has had a big impact, and that had the largest impact on the margins. So,as we can get that revenue growth sustained over time, that will prove the bestsource of margin improvements next quarter and beyond.

So I think it's going to be tough to compare the current yearquarter to past years, and I think it's just going to be a different mix interms of the seasonality on margins that you're going to see this year. But at theend of the year, our goal is to see a good, substantial increase in the marginfor the year.

Gary Bisbee - Lehman Brothers

So would it bepossible that could fall a couple hundred basis points in one of the otherquarters this year? I'm just trying to get a sense for the magnitude of theseother investments and maybe what level the people are, the open positions, whattype of salary and benefits cost.

Rick Gunst

The timing of it, wecould see some bumps one quarter to the next but I think what we're trying todo is not necessarily manage the quarter-to-quarter margin. We want to seeimprovements year to year as we're going forward. But if one quarter doesn'tshow as much improvement as the previous one, that's not going to cause us muchconcern, as long as we're making progress to that ultimate goal.

Things we could be doing in the way of marketing and recruitingspending, project spending, could have a bigger impact in one quarter than therest. Some of it could be building over time, and some just could be projectspending that has a bump in a given quarter.

Gary Bisbee - Lehman Brothers

One last one on the margin. I understand you're gettingterrific savings from all the cost initiatives you have taken. But the Student Servicesline had the slowest growth we've seen in a while. As I try to think about yourstrategy for spending on marketing, is it likely that the growth of that costline would be somewhat higher than that, as we think about going forward? Overthe last two years, it has been more than double the growth rate on average,that it was this quarter. Is this an anomaly or are you doing something a lotbetter there that I'm not aware of?

Rick Gunst

Well, I think as wetalked before, we expected to see the growth in that line start to come down inthe second half of fiscal 2007. Infact it was, I think, 6.5% in the fourth quarter of fiscal 2007, and we are6.7% in this quarter. So we were making some significant investments in theprior years. We're now overlapping some of that. So having increases in thesingle digits, high single digits, is not going to be unusual, I don't think.

Our expectation is that we don't necessarily want to getback to the double-digit increases. But we will, if necessary -- on acase-by-case basis -- to make the right investment for future growth.

Operator

Your next question comes from Chris Shutler - William Blair.

Chris Shutler - William Blair

Just another question on the margin expansion this quarter.In that context, how should we think about the utilization rate? I know youdon't give specific rates, but any color you can give on the absolute number orthe change or trends that you've seen at the University centers versus the bigbox?

Daniel Hamburger

Clearly, by leasing back roughly 69% of the space in thosethree large campuses that we talked about, you can get a sense of how we'retrying to improve the utilization of that space. In terms of the DeVry University centers, there'sdefinitely underutilized capacity in those as well. So we do have theopportunity to gain leverage as the enrollments increase across all of theon-site operations.

The other thing that also can make you crazy when you'retrying to measure utilization, which is why we don't talk about that or givespecific numbers, as well as for competitive reasons, is the mix of online inthere, both from a mix-and-match perspective, that is defined as students whoare taking some courses online and some courses on-site; as well as from ahybrid perspective or as we brand it, i-OPTIMIZE, where a portion of a singlecourse is offered online and then a portion of that course is offered on-site.

So the strength of our online program and adding more ofDeVry University, in particular, more of DeVry University's courses andprograms to be available online, all give students for opportunities to takesome of those courses online, and then you don't have quite is much on-siteutilization. So there's a lot of factors swinging in a lot of directions onthat one.

Rick Gunst

I think what we'veseen this quarter is sort of the inverse of what we've seen two or three yearsago. We have a fixed cost base. We have been doing some things to reduce thatfixed cost, and now as we get revenue growth, especially in our campuses andour DVUCs, that revenue growth becomes very largely incremental. You saw theresults of what that did to the income growth in that segment for this quarter.

Chris Shutler - William Blair

Of the part, the margin expansion this quarter that was fromenrollment improvement, how would you talk about the high school impact versusthe working adult impact there?

Rick Gunst

We don't really thinkabout it that way. You saw the enrollment growth that we reported back in thesummer. We're going to be talking about our fall enrollment coming up inDecember. It's a combination. We're still going after high school students;we're going after adult learners as well. The revenue growth of the 14.2% isbeing sourced from both groups.

Chris Shutler - William Blair

Any trends you guys have noticed in terms of students maybeshopping around a little bit more on price or maybe on accreditation, anythinglike that?

Daniel Hamburger

No, no change in that dynamic that we noted in this quarter.

Chris Shutler - William Blair

From third-partylenders, I just wanted to get your perspective if you're seeing any sort ofpush-back from those lenders in terms of wanting you to take on any more of therisk for some of your third-party lending source students or anything?

Daniel Hamburger

Nothing that was significant or that would have showed up inthis quarter. There's a lot of buzz about that in the industry, but one of theadvantages that DeVry has always enjoyed is with the quality of our studentbase, the length of our programs. We enjoy very, very strong relationships withlenders. So maybe we're not seeing as much of an impact as some others might bereporting. It goes back to what we have often talked about, in terms of therisk-adjusted return in investing in the education industry.

Chris Shutler - William Blair

Final question, if you could just give me the breakout onthe stock comp between the expense lines, if you don't mind?

Rick Gunst

It's been about two-thirds within SS&A and the balancewithin the direct costs.

Operator

Your next question comes from Mark Hughes - SunTrust.

Mark Hughes - SunTrust

Thank you very much. I'm sorry if I might have missed thisearlier, but I assume you did not give any specific numbers in terms of themagnitude of the costs that you avoided this quarter or that you anticipatemight ramp up. You just said they might, but you didn't give any specificnumbers. Is that correct?

Daniel Hamburger

That's correct.

Operator

Your next question comes from Jennifer Childe - BearStearns.

Jennifer Childe - Bear Stearns

Congratulations. Is there enough capacity at Ross togenerate high single-digit new enrollment growth in the next two starts?

I'm a little confused about the mystery surrounding when youwill be able to return to positive start growth in the fall term. Are therecertain approvals that you need to get, and therefore you can't be certain whenyou will be able to start construction? Can you give us a little color there?

Daniel Hamburger

The first part is yes and the second part is there areapprovals. There are investments to be made in facilities, in hiringhigh-quality, experienced faculty, in making investments in educationaltechnology and doing all the things that we've done effectively. We're just notgoing to do anything to imperil the quality and the reputation that Ross hasbuilt. So, if that means it takes a little bit longer than we'd all like, thenthat's what we'll do.

Those are some of the reasons, Jennifer, that it's a littlehard to predict that it's going to be exactly at this particular point in timewhere the capacity will be significantly increased. But just know that we, management,do have a focus on increasing that capacity with quality, and we will keep youinformed as that goes on.

Operator

With no further questions, I would like to turn the callback to Mr. Hamburger for any closing remarks.

Daniel Hamburger

Thank you very much. I really appreciate everybody'squestions and we're trying to be responsive to the request for moreinformation. We added some things to the press release, tried to skinny backthe commentary so we have more time for questions.

Just as a program note here, our fall enrollment for DeVry University will be announced onDecember 6th. Remember, we historically don't do a conference call there so wewon't on December 6th. DeVry's next conference call then will be held onJanuary 24th, when we announce second quarter financial results.

Thanks, everybody for joining us and we'll talk to you then.

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