Perdoceo Education Corporation
Q2 2008 Earnings Call Transcript

Published: 25 Aug 2008

[Operator:]

Good day, ladies and gentlemen. Welcome to the second quarter 2008 Career Education earnings conference call. My name is Jasmine and I’ll be your operator for today. (Operator Instructions) I would like to turn the presentation over to your host for today’s call, Mr. Mike Graham, Chief Financial Officer.

[Michael Graham:]

Thank you. Good morning, everyone and thank you for joining us today for our second quarter earnings call. Joining me today on the call are Gary McCullough, our President and Chief Executive Officer, and John Springer, our new Vice President of Investor Relations. John joined us on Monday. His background includes leading the Investor Relations and the Financial Planning and Analysis functions at Tellabs and SIRVA, two publicly-traded companies here in the Chicago area. John can be reached via the main investor relations line, and we look forward to having John work with you, our investors and our analysts, closely, as we go forward. I’ll now turn it over to John.

[John Springer:]

Thank you, Mike. It is good to be here, and I look forward to meeting all of you on the call today over the coming weeks. Now in terms of format for today’s call, I will start by quickly addressing a couple introductory items, after which I will turn the call over to Gary McCullough. Gary and Mike will discuss the second quarter results, and we will then open the call for analyst and investor questions. First, this conference call is being webcast live on the Investor Relations section of our website at careered.com. The replay will also be available on our site. If we are unable to answer your question during the call, please call our Investor Relations Department at 847-585-3899. Second, let me remind you that yesterday’s press release and the presentations made by our executives may include forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. These statements are based on information currently available to us and involve risks and uncertainties that could cause our actual results, performance, and business prospects and opportunities to differ materially from those expressed in or implied by these statements. These risks and uncertainties include, but are not limited to, those factors identified in our second quarter earnings release and in our Annual Report on Form 10-K for the year ended December 31, 2007 and from time to time in other filings with the Securities and Exchange Commission. Except as expressly required by securities laws, we undertake no obligation to update such factors, or to publicly announce the results of any of these forward-looking statements to reflect future events, developments, or changed circumstances, or for any other reason. Now let me turn the call over to Gary McCullough.

[Gary McCullough:]

Thanks, John, and welcome aboard. We’re pleased to have you with us. Good morning. Once again, thank you all for joining us on our second quarter 2008 earnings call. As John indicated, Mike Graham and I will provide details of our operating results for the quarter. We’ll also, provide an update on progress we’ve made in addressing certain challenges we outlined in our March Investor meeting and during our first quarter call in May. I’ll begin by briefly recapping the quarter. Overall, I was pleased that our operating income in the quarter met our internal expectations, but I am not pleased with our new start performance, particularly in our University Online businesses. On a consolidated basis, second quarter 2008 revenue was down 2.2% from the second quarter of 2007. Excluding the Transitional Schools segment, revenue was up roughly 1%. Again, excluding Transitional Schools, student population was up 3%. With the exception of our Health SBU, which continued to experience strong growth, starts for the quarter were down 3%, excluding the Transitional Schools segment. During the first half of 2008, we communicated detailed information on our challenges, opportunities, and milestones over the next three years within our strategic plan. We also acknowledged significant structural and operational issues that needed to be addressed. Accordingly, our focus has been on reducing costs and improving a number of internal processes. We have asked our organization to do a lot, and over the first half of this year, we’ve done a number of things, including

[Michael Graham:]

Thanks, Gary. I’d like to start by providing some information regarding non-comparable items during the second quarter and the treatment of discontinued operations. Following that I’ll discuss our quarterly results including financial highlights and provide an update on a somewhat improving student lending situation. As you review our second quarter results, please note there are two items impacting year-over-year comparability

[Operator:]

And your first question comes from the line of Amy Junker - Robert W. Baird.

[Amy Junker:]

I’m trying to understand, the reps that you cut or laid off, can you give us the confidence that this isn’t what’s impacting starts; that perhaps you cut too deeply there? Just to make us feel a little better about that.

[Gary McCullough:]

Amy, that’s a good question. In fact, as we’ve gone through a lot of the data that’s been presented to us in digging into the issues, I’ve asked that very same question. The fact is, as we looked across the organization, we had quite a number of reps that weren’t as productive as we felt they should be. One of the things that’s happened culturally is, given some of the challenges that we’ve had in the past, there has not been in some cases the proactivity or the aggressiveness that doesn’t cross the line with our representative force. We had representatives that frankly were unproductive, and the reality is that the remaining representatives that we have, with the changes we’ve made, they’ve become much more productive. We’ve seen across-the-board, increases in their productivities. But it’s a question that I’ve asked. It’s a question that we’re evaluating, but we don’t believe, given what we’re seeing, that that’s the case at this point in time. I wouldn’t hesitate to add back if we felt that was the right thing to do for the business. You can’t cut your way to glory. That’s not what we’re trying to do here. We’re trying to make sure that we have processes that are smart processes, that are efficient processes, and we’ll build back from those. And again, if it’s necessary, we would add back, but we don’t see the need today.

[Amy Junker:]

Great, and then just one other question. Mike, on the bad debt, that was a good level this quarter. Are you anticipating that that’s going to go up? I know you’re going to be internally funding less than you’d originally previously anticipated, but should we expect that that level will probably drift back up through the remainder of the year?

[Michael Graham:]

I would think so. Because the balances for the students, both the serial loans and the originated loans in the second quarter, students will continue to build a receivable balance on their ledgers as they take more courses. As we add those loans and they grow, we’ll be applying that 44%. So the rate will tick up as we go forward.

[Amy Junker:]

Great, thank you.

[Operator:]

Your next question comes from the line of Jeffrey Silber - BMO Capital Markets.

[Jeffrey Silber:]

Thanks so much. I wanted to get back to the discussion about the peer model that you were talking about. Just so I understand, is that something that you’ve only installed in the University segment? Is that something you’re thinking of installing at the other segments throughout the company as well?

[Gary McCullough:]

Thank you, Jeff. The answer is we’ve only expanded this in the University segment. As I said, we began in the fall of 2007; experienced tremendous positive results at CTU. We continued that expansion at CTU in early 2008. Recognizing the strong performance there, we extended the model onto AIU, which was always the plan. And again, we encountered some of those issues that I described. We’ve worked to fix them, and at this point, our plan is to expand it and make sure it’s fully operational at University before doing anything beyond that.

[Jeffrey Silber:]

Okay, great. Then just a couple of quick numbers questions, your corporate and other costs were a little bit higher than what we thought. Was there any specific reason and, where do you think that’s going over time?

[Michael Graham:]

Specific reasons, at this time last year, the company was well out of its target for bonus, and for this year, since our operating plan metrics are on plan, we’ve got full bonus accrued. That’s probably worth about $3 million of the $5 million lift. I think the remainder is related to certain allocations, because revenues are down, less of the corporate are allocated to the other segments. Again, the corporate numbers, we’ve gotten good savings year-over-year from a head count standpoint, masked with not only those two factors, but also, we’ve taken in more shared services, so our loan processing, our IT organizations are more centralized, shifting some costs outside of the business units and into corporate. We really don’t give guidance going forward on specific segment data.

[Jeffrey Silber:]

Okay, but then just so I understand, should it be going down from here based on what you said?

[Michael Graham:]

Let me follow-up with you. I’m not sure I want to; without the details available.

[Jeffrey Silber:]

No worries. Then one more, you mentioned the real estate savings. What divisions were those in?

[Michael Graham:]

Real estate savings, it’s across the board. The 90,000 of space that we took out was not one parcel. It was several parcels across the business units.

[Jeffrey Silber:]

Okay. Great, I’ll jump back in the queue. Thanks.

[Operator:]

Your next question comes from the line of Gary Bisbee - Lehman Brothers.

[Gary Bisbee:]

Good morning. Is there anything that can be done between now and next winter when you launch the longer duration Culinary program to try to maintain revenue base and profitability, or are the declines we saw this quarter likely to continue and accelerate in the second half? Specifically, one thing I’m wondering is will the year-round Pell Grant aid your recruitment a bit, relative to the second quarter as we get into the second half? Thanks.

[Michael Graham:]

A couple of thoughts for you there. We have looked closely at the underwriting criteria that we use for the Culinary students, and our focus has always been about completion and retention. We are looking at a lot of internal programs right now that stitch in the student better and keep the student through the process. As we get systems in place and we work with our team in the Culinary group, we’ve had some very good experience with low drops from the loans we’ve given. If we continue to see positive results from keeping students in school with things such as credit counseling and other things that we can do to help the student complete, we may loosen up our FICO score bands and let more students in. The year-round Pell will benefit students a lot in terms of their program. It will move money off of their loans into Federal funding. It will also help retention, because the students will be able to make their payments better. Also remember, as you look at the press release, we’ve been dormant in our start-ups. And right now, we have four start-ups going

[Gary Bisbee:]

Okay. Thanks. The second question was on the CTU Online starts. I understand your explanation for AIU, but CTU decelerated quite a bit. Was there some lingering impact there, or is there something else going on this quarter that caused that?

[Michael Graham:]

Remember, CTU and AIU are connected in terms of the peer model. So the dialer issues that we had and the peer rollout issues that affected AIU hurt the entire University group, because those systems are co-mingled. So just like AIU, CTU had the same issues.

[Gary Bisbee:]

Then just one clean-up one. CapEX was a lot lower. Is that likely a good trend number, or will that move back up as you continue to open some new campuses? Thanks a lot.

[Michael Graham:]

We still look at CapEx to be someplace between the 3% to 3.5% level of revenue. It was just abnormally low this quarter.

[Operator:]

Your next question comes from the line of Kelly Flynn - Credit Suisse.

[Kelly Flynn:]

Thanks, a couple questions. First, just revisiting the Art & Design and Culinary starts, I know you mentioned the credit crisis as one of the issues there. Can you drill down on that a little bit more? Are you saying that students couldn’t get private loans and that hurt? Or that they didn’t want to take on debt as it relates to the broader credit crisis and its impact on consumers’ credit profile? And then maybe tie that in with why you didn’t lend as much off your balance sheet? Was it that the students didn’t want the loans, or that you decided not to do it because you didn’t like the credit profile?

[Michael Graham:]

Thanks. I think it’s more driven on the first part of the question than the latter, which is it was more about access. We don’t think it was about affordability. It was more about access. Again, for those businesses, we did get as much volume as we could into the Sallie Mae program as of March 31. We did that. We have tighter underwriting standards than the recourse providers have previously done. As we stated, our goal was to take the higher level bands of the Sallie Mae recourse funding and lend off our balance sheet, and the private lender market has contracted a little bit more in the quarter, making it harder for students to get access. We thought our standards were fair, because they’re centered around outcomes and about graduating the students. And as I said in Culinary, we’re looking at expanding and going a little bit lower in FICO scores, because some of the programs we put in place for retention, credit counseling, and other things. As we look forward we’ll look at Art & Design, about putting those programs in place there as well.

[Kelly Flynn:]

Okay, and then, Mike, that 14% you mentioned, you were talking about the private loan disclosure. You thought it could be as low as 14%. Is that comparable to the prior 18%? You think that could go down to 14%? And does that include your own lending program, or can you explain that number a little bit more?

[Michael Graham:]

Sure. In our 10-Q and our 10-K, we have a disclosure table that shows the sources from Federal money, the sources from private loans and the sources from cash and other. Our loans themselves are in cash and other. So we’re just saying that with the shift, that the higher Pell, the higher Stafford and the reduced access to some private loans and use of our balance sheet, we’re forecasting right now that we think we could be as low as 14% from private loan sources versus 16% at the end of last year. You can see in this quarter’s Q that we released last night that our total blend is 14% right now. But obviously, as you go through a larger season and mix changes, it could tick up in the third quarter. But right now we’re looking at potentially being as low as 14%. Pretty fluid though to forecast what the balances are going to be at the end of the year.

[Kelly Flynn:]

Okay. And then relative to the $2,000 loan limit increase, I know last quarter, you didn’t say this, but it was inferred that you had said you were only getting $300 to $400 of that $2,000. It seems from what you’re saying today on private loans, that that’s going up. Can you give a little more detail on how much of that $2,000 do you think you can now benefit from, given the change in 90/10?

[Michael Graham:]

90/10 has never been an issue for the company. As we said last quarter, the only place 90/10 was an issue was in certain of our healthcare schools, which has now gone away with the new legislation. In terms of the inferred $300 to $400, that was not our number. What we did was we went profile by profile of students, segment by segment and tried to estimate how much of the $2,000 would help them, based on where their gap was. We came up with a reduction of our balance sheet that we disclosed in the first quarter press release. Given the different portfolio we have, the different gaps and the different students, I don’t have a number that would say is it x-number or is it y-number of the $2,000 that benefits us, because you really have to go SBU by SBU, and we’re not prepared to disclose that.

[Kelly Flynn:]

But it’s safe to say that the 90/10 change doesn’t change that figure. Is that right?

[Michael Graham:]

Correct.

[Gary McCullough:]

The change in 90/10 doesn’t impact that at all.

[Kelly Flynn:]

Okay. Thank you, very much.

[Operator:]

Your next question comes from the line of Kevin Doherty - Banc of America Securities.

[Kevin Doherty:]

Thanks. Just to follow up on some of those questions, could you just talk about the outlook for starts, more in the context of lending. How much of the lending headwind you saw in Q2 essentially goes away, because the higher loan limits or some of the other changes you’re making, and how much of that headwind might still linger?

[Michael Graham:]

Difficult question to answer. Again, we don’t give guidance. We’ve given some forecast of through 2010; our milestones are cumulative growth of 6% to 8%. We’ve given you some cautionary terms here on University that will take some time to come back from the issues that we experienced in the second quarter. I’m not, again, prepared to talk about where we are segment by segment. Our Health business is doing very well. Our International business, as you know, is a very seasonal business, because in Europe the students do not attend a summer session. So we will have starts again in the third quarter for the International business, which we feel very strong about. It’s performing very well. And Culinary, Art & Design continue to have issues as we talked about. We hope that the Pell Grants and the Stafford levels will help us. The Pell Grants, as you look at a calendar, the benefit of that with a full-year, given that a lot of students do start in September, the full-year impact on revenue would be next year. But it could impact starts in the fourth quarter, as students look at their packaging levels and their affordability levels. But it’s hard for me to give any more clarity to some of the details on the question than that.

[Gary McCullough:]

One of the things I’ll reiterate that Mike just mentioned is that third quarter starts are underway. That really is comprised of what we saw in the second quarter, beginning of the third quarter. While these changes will be beneficial, we expect they’ll take effect later in the year and benefit us more in 2009.

[Kevin Doherty:]

Okay. That’s fair. Could you just talk about exactly when you put in some of those fixes for the peer qualifier model?

[Gary McCullough:]

The fixes have really been underway throughout the month of July. They continue as we speak to you this morning. We expect that they’ll be up and running, and we’ll begin to see benefit form those, and we’re seeing benefit from them right now. But, again, we’ll work our way through them over the next couple of weeks. It has been something that as the second quarter unfolded, we began to penetrate. It took awhile to get to the root causes of the issues. Obviously, it takes awhile once you diagnose them to put the fixes in place, and those fixes are underway.

[Kevin Doherty:]

Could you maybe just drill down, why it was so successful initially at CTU, and then when it became a broader rollout, you ran into issues?

[Michael Graham:]

I think when we rolled it out with CTU, it was a small segment of the population. As we then rolled it out to AIU with the total reps in terms of the organization, it gets more complicated on the call arrival patterns, and as the calls come in, to maximize and optimize your staff profiles. Also, as we added more volume into the system and the dialers needed more phone capacity, we had to align the phone capacity and the technology with that. I think organizationally as we ramped up quickly from a smaller test that was very successful, we were very bullish on the test and what we were doing, and just executionally, as Gary said, we expected bugs in the systems. These bugs were tougher than we thought. And we have taken a lot of actions to fix it.

[Gary McCullough:]

I’d also add that AIU and CTU are different schools, and while behind the scenes we’re backing them with systems that are consistent, a rollout in one place doesn’t necessarily mean it’s going to be a one-to-one correlation in the other place. They are different institutions with different governing Boards with different cultures. And that’s something we’ve had to account for as we’ve moved forward.

[Kevin Doherty:]

Okay, and I know in the past you’ve mentioned becoming more productive with your Internet lead buys, and maybe shifting a little away from TV, and you touched on that a little more on this call. But could you just update us on those efforts, was there any disruption on the start side this quarter? Or when might you start seeing some benefits on the cost side there?

[Michael Graham:]

I think we stated that we saw a $3 million benefit in the cost side this quarter and our cost per start for the year down 12%. So we’ve seen a lot of that. We’ve done our shifting from aggregators into different media buys. Our team, led by Len Mariani, who joined us in October, are doing a really good job of understanding the system and understanding opportunities. I think we have more to come on that in the second quarter, consistent with Len’s presentation that he shared in March.

[Gary McCullough:]

One of the things I’ll say is that, while we did go after what were clearly non-productive or unproductive leads, our total lead volume remained high. We feel good that the trade-offs that we’ve made from a quality point of view and from a cost point of view, the trade-off was a good trade-off. Ultimately, we mishandled some of those leads that came to us. We’ve got to do a better job of that, but it was clear in doing the analyses that we had lead sources that were not as productive as others, and we took those out. We’ll still look at what is the right mix of lead source, what is the right mix of media. Those are changes we’re making. There’s no one-size-fits-all answer, because of the differences that we see in the businesses; some of them being online business, some being more local, so we’re working through some of those things. But that’s just continuous improvement.

[Kevin Doherty:]

Thanks.

[Operator:]

Your next question comes from the line of Robert Craig - Stifel Nicolaus.

[Robert Craig:]

I was wondering if there’s any way you can quantify or indicate the magnitude of the carryover impact on the starts in the University division in the third quarter. Is it reasonable to assume that we could be back to slight positive start growth year-over-year in 3Q?

[Michael Graham:]

Again, the factors that are out there are you have the second quarter that you saw. You know that we do have some shifting on calendars; the AIU calendar shift is done. The online calendar brings in more earnings days into the quarter. We have to work through these systems; we have to work through the problems, which is on the negative side. On the positive side, we do have some improved packaging and some affordability from a business standpoint.

[Gary McCullough:]

Again as you look at the businesses, they are in slightly different places. CTU has been on a roll, and while it was impacted in this quarter by the issues as we expanded, we expect CTU to continue its strong performance. AIU, as we indicated, has more issues, and we’re working at, again, delivering those, so there will be some balance in there.

[Robert Craig:]

Okay, thank you.

[Operator:]

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

[Trace Urdan:]

Performance of the Sanford-Brown business has been so consistently strong. I’m wondering, this may seem a little bit out there, and I apologize for that, but is there the potential for any capacity constraints as you look at that particular line of business going forward?

[Gary McCullough:]

Define capacity constraint for me, Trace.

[Trace Urdan:]

Are you going fill up those schools and need to expand their physical plant, or start to open up new schools in order to accommodate demand?

[Gary McCullough:]

I’ll start by saying that we’re obviously very pleased with what we’re seeing in our Health business. We think it’s a growth business, and as we look at how to grow business, there are a couple things. First of all, new programs, and George Grayeb, who’s been leading that business, has done a terrific job, and his team, of identifying new programs and other programs we can expand too that are within their capability where there’s strong demand. He and the team there have done good job of making sure we grow in a controlled fashion. The other piece is geographic expansion. As we look at the geographies we’re currently in, we think there are more opportunities in those geographies, and we’ve identified several other geographies that we would like to expand to. So you should expect us to be pursuing both those routes for growth.

[Trace Urdan:]

Okay, thanks.

[Operator:]

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

[Sara Gubins:]

Could you talk about how you view underlying student demand in the Art & Design and Culinary programs? Maybe gauged by the need flow or other metrics. Also if you could discuss the reasons for the attrition in the Art & Design business unit during the quarter?

[Gary McCullough:]

In terms of lead flow, we feel pretty good about the underlying demand. When you look at the sheer number of leads that we had in the second quarter of 2008 versus last year, our lead flow was up 13%. We think that there is demand for the programs; our programs are quality programs. We’re continuing to work on those programs, and so no underlying issue with regard to lead flow. I’ll let Mike talk about the underlying other pieces.

[Michael Graham:]

I think from a retention standpoint on Art & Design, specific to your question, I think some of the retention issues, we had slightly lower retention during the quarter than we did the previous year in the first quarter. Some of that again relates to packaging and to financing for students, affordability, in terms of serial loans that for some reason were not renewed, or just affordability with a tightened loan environment. I think the other thing that’s helping our businesses and will help our businesses going forward in terms of the underlying model, is our shift to more local markets, as we’ve talked about, that our Culinary schools were built on a national footprint, and drew a lot of students nationally, which comes with it tuition and housing costs. There is some of that also for Art & Design, because we have certain institutions like Harrington and like Brooks that are great institutions with top quality programs that draw national students in and part of the challenge on Art & Design is to continue, especially with the academy schools, to stay more local than national to make the affordability better on a tuition standpoint. But demand for Art & Design was very strong. We ramped up our online program, as you know. In the early parts of our online program, some of the same phenomenon happened with packaging, that certain students get into the online program and they do drop early on because of some of the packaging and costs needs, which as we rolled it out in the first half of the year, we’ve had a little bit higher attrition issues than we like in the online portion of the Art & Design business.

[Gary McCullough:]

Sara, the only thing I would add is I looked at the attrition issues as well. One of the things that came to light that I pushed on was about 40% of the attrition we saw in the quarter was due to academic issues. We’re going to continue to hold a high standard, but about 40% were academic issues, a lack of satisfactory academic progress and other issues that we drove and drove some of that attrition. Because at the end of the day, we want to make sure that our programs are quality programs, and that we have students that should be there, so that they can interface with other students. While there were funding issues, we drove some of that attrition as well.

[Sara Gubins:]

Okay. Thanks very much.

[Operator:]

Your next question comes from the line of Corey Greendale - First Analysis Securities.

[Corey Greendale:]

I just wanted to go back to the impact of lending for a minute. When you talk about the changes impacting more than you were anticipating, did you tighten your own internal credit standards more than you anticipated, or are you saying that you were figuring there would be lenders who would be willing to provide that gap financing for people who were not meeting your credit standards, and that that has dried up?

[Michael Graham:]

I would say in the latter part of your question, we did anticipate a little more access in the private markets, especially some of the higher previous recourse FICO scores. I think that market, Wachovia and other people have left that market. So that has an impact. I know we haven’t tightened up our credit scores. What we have done, as you recall, we’ve required in school payment of students between $50 and $150. We’ve also required co-borrower arrangements. We’ve pushed our students heavily on co-borrower requirements. In the past we weren’t as diligent as it could’ve been getting co-borrowers. When you ask the student for a co-borrower, you naturally will have the potential of losing some starts. In the end it’s better to have a co-borrower. There’s much better student success when they have a co-borrower. We may be able to loosen that up over time, our co-borrower requirements, but those factors probably drove us again towards the lower end of our range. We weren’t surprised by the decrease. It was just the lower end of our internal models.

[Gary McCullough:]

Corey, as we were rolling out what is frankly for us a new process, because we’re doing some new things, our tack was to be a bit more conservative up front. Because if you do that and you learn, you can go back and loosen the reins some, if it’s warranted to do that. It’s more difficult to do it the other way. We learned some things, particularly early on in the quarter, that will help us make some changes as we go along. But we’re not going to lend our money lightly. We will hold a high standard.

[Corey Greendale:]

Okay, thank you.

[Operator:]

Your next question comes from the line of Brandon Dobell - William Blair.

[Brandon Dobell:]

Thanks. How should we think about where we see the impact of the CTU students going on to the second part of the Two-Plus-Two program? Is it going to be starts, continuing students? How should it play out from a reporting perspective?

[Michael Graham:]

Let me defer that question. I’ll check again whether when you matriculate out of the Two-Plus-Two program, whether we consider that a new start or not. Obviously, you’re going to see the benefit, the population will not change, but you will see an up-tick in the revenue per student for those institutions, as the students go in to the second part of their program, which we’ve had a lot of success with 1,800 students to date. You will also see a reduced cost per start so to speak, or reduced marketing cost, because these students are matriculating up versus being new student acquisitions.

[Brandon Dobell:]

Okay, and in line with that, as you think about the next two years, compound growth for the University division from an enrollment perspective, what assumptions are you making for the sustainability of that CTU matriculation into the bachelors programs? Is it a significant part of that enrollment growth from a support perspective, or is it just a minor contributor, and it’s really about generating kind of organic bachelor students.

[Michael Graham:]

We’ve assumed that, in our long-term models, that CTU will resemble AIU. AIU has had a historical 50% success rate of the associate degree population on their Two-Plus-Two program matriculating up to bachelors, so we’ve used that consistent in our model for CTU.

[Brandon Dobell:]

Okay. Anything within University this quarter from a retention perspective that was notable, either good or bad, as you think about both CTU or AIU, either online or offline for that matter?

[Michael Graham:]

Again, nothing specific stands out. Across the company, the attrition levels have ticked up versus where we’ve been, some of that due to financing; some of it due to academic progress and standards we’ve had internally, but nothing stands out from anything different on the University group.

[Brandon Dobell:]

Okay, thanks.

[Operator:]

Your next question comes from the line of Mark Marostica - Piper Jaffray.

[Mark Marostica:]

Thank you. Gary, I know you are not giving specific start growth guidance for AIU and CTU Online. But I’m curious, for the month of July, can you give us a sense of the relative performance for both units, CTU Online and AIU Online, in terms of start growth relative to the second quarter; was it up or down?

[Gary McCullough:]

Mark, I won’t give you specifics, but we’re pleased with the progress we’re seeing.

[Michael Graham:]

Also just to be clear, in our business, given calendar shifts and start dates and the amount of acquisition time for a student between starts, monthly starts can be pretty misleading versus looking at it quarterly, which has a more comparable basis than before, so month numbers by themselves are not all that informative at times.

[Mark Marostica:]

Okay, I was just trying to gauge the speed of improvement.

[Gary McCullough:]

I know you’re looking for something that you can hang your hat on, and candidly, we’re early in this. We can tell you that at AIU we have seen improving show rates, we’ve seen improving conversion rates, we’ve seen improving referral rates; so all of the things that we would look for to demonstrate that we should expect improvement are beginning to line up. Sequentially, start over start, we’re seeing those. July was a continuation of those things based upon the changes we’ve made, but a start’s only a start when it’s a start. What we have is we have enrollments; we have people that we’re working to package. We’ve got to get them through the front door, but we’re seeing positives in all of those things, but we’ve got to make it happen for our starts throughout the balance of the fall. All of the underlying things, we’re seeing improvement.

[Mark Marostica:]

Great, thanks for the color on that, Gary. And then switching gears, outside of Culinary, where you’ve obviously been able to trim a good deal of head count, are there any other areas you’d point to where you think the cost structure is maybe more bloated or where you see opportunities to trim costs significantly?

[Michael Graham:]

Again, from our standpoint we’ve done a very good on margins. We’ve done structural head count reduction programs at corporate, University and Culinary based on population. We continue to look at costs across the board. I wouldn’t say any of our organizations are necessarily bloated. I believe that as you look at some of the historical investments the company has made, be it in real estate or be it in administration areas or other areas, it’s time for us to just look at every cost carefully and make sure it’s a necessary cost to educate the student. As we look at outdated contracts; our IT outsourcing contract was five years old. We went back to market with that and saved $8 million. It’s more of that than a bloated organization. It’s more just being smart about our money and continue the tight cost controls we have.

[Gary McCullough:]

The only thing I would add is that one of the things we’ve done is we’ve begun to ramp up accountability in the organization. Where we find that we have people who, for whatever reason, aren’t performing their jobs well, we want to do a better job of helping them to do a great job that they’ve been hired for, or we’ll counsel them out of the organization. We have asked the organization to do a lot with regard to new processes. We did take out what we saw as head count that was unnecessary, but as I said earlier in the call, we don’t believe you can cut your way to glory. At the end of the day, we need to grow, but the changes we’ve made were changes that were aimed at ultimately allowing us to grow, but grow in a way that’s responsible and that will deliver results over time. That’s what our focus has been. We’ll continue to examine the organization where we think either the process or the structure’s not right. We’ll go in and deal with those. We’ll also take unnecessary costs out of the organization, but we’re beginning to shift out of that mode into how to grow.

[Mark Marostica:]

Great, thank you.

[Operator:]

You have a follow-up question from the line of Kelly Flynn - Credit Suisse.

[Kelly Flynn:]

Sorry to beat a dead horse on this balance sheet lending thing. But I don’t understand why you would lend less off your balance sheet if your credit standards haven’t changed a), and if b), the students that have gotten rejected from private loans at a greater pace than expected, weren’t students that you would have lent to in the first place. Meaning, if they had gotten a private loan, they wouldn’t have been on your balance sheet. Is there another demand issue that you mentioned that’s contributing to this? I don’t know if there’s any more color you could give on that. Thanks.

[Michael Graham:]

We gave a lot of color in the script that we went through; I’m not sure I can add much more. Again, we did package up students under Sallie Mae. The co-borrower issue, that we’re asking for co-borrowers, did turn into potentially a slower process, as the student goes and attains a co-borrower, versus in the past they did not need to have a co-borrower. That may have slowed down things moving into the next quarter. That’s a couple of thoughts for you in addition to what we’ve said.

[Gary McCullough:]

As Mike said in his script, we’ve said that we would lend at the high end of the range that some of the recourse lenders departed. We’ve stuck by that. We have gone to a FICO level that was higher than previous, and so there were a number of students who might have qualified previously that would no longer qualify. Again, as we’ve gotten a history with some of those students, we’ve run the data, and it suggests that we might be able to be a little bit looser going forward; we’re still working that one through. But we aim to fill a void without extending credit to students who, it was clear in our data, would likely not graduate, and would likely not repay the loans.

[Michael Graham:]

I think just to close that point, a little bit also, as we said, was it was more based on our estimate than necessarily any results. In March, as we went through a lot of the crisis and lenders moving out, and all the shifts that we had to do, we made some broad estimates, and without a lot of data, because Sallie Mae has a lot of the data, obviously, as the largest lender in the industry. We made an estimate. We are at the low end of our estimate range, but we haven’t seen anything from a model standpoint that concerns us from changing our lending standards. It’s more driven by what our estimate was.

[Kelly Flynn:]

Okay, I got you. Thanks a lot.

[Operator:]

You have a follow-up question from the line of Brandon Dobell - William Blair.

[Brandon Dobell:]

You talked a little bit about credit standards in general, and the Stafford, and the Pell impact, is it fair to assume that within Culinary that the long-term guidance you gave for the revenue impact in that division will be less than that 50 to 65 or so that you’ve talked about historically, or is that still a good number to think about; it’s just more about the timing or the trajectory, how to get to that number, and maybe it’s off to a slower start towards that number that we may have expected?

[Michael Graham:]

I think it’s more towards the latter. Again, with four start-ups right now in the pipeline, we’re changing the model from 16 or 15 months to 21 months. One quarter, as we just start the lending process, I don’t think it necessarily takes us off of our model. It is a slower start than the trajectory, and we’ll continue to update our model through every year’s strategic plan cycle to tune it down, but I don’t think one quarter puts us off of our three year plan.

[Brandon Dobell:]

Okay. In the same vein, should we expect you to change credit standards outside of Culinary, or is that really just one business where the gap was sufficient enough that the standards could move around a little bit. Should we expect you to make that same movement over in University or Health or Art & Design or anything like that?

[Michael Graham:]

We have credit standards that are built on each organization. I think what we were saying was that where an organization like Culinary has taken extra steps to put in place better retention tools than what we’ve had, better help to get the students through the process, we’re willing to take some more risk on a FICO score basis, because we have confidence that that student will be more likely to graduate. I don’t think it’s changing FICO scores by division. On Culinary, it’s simply a matter of we’ve put resources into place that we’re seeing some very good progress with.

[Brandon Dobell:]

Okay, thanks.

[Operator:]

There are no further questions at this time. I would like to turn the call back to Mr. Gary McCullough for closing remarks.

[Gary McCullough:]

Once again, I want to thank you all for joining us on the call. As I noted, the turnaround of this organization won’t be easy and it won’t be fast, but we are confident that it will happen. We have both operational issues and cultural issues that we’re addressing here at the organization. We are on task; we are focused on what we’re doing and we’re meeting our plan. We made progress making a number of the changes that needed to happen for the long term, and we are confident that, ultimately, those changes will result in strong financial results down the line. For the last two quarters for this year, we’ll continue to reinvest in our core businesses; we’ll continue to execute on the items that we’ve talked about, and we are working to build a foundation for long term sustainable growth. Again, thank you for your interest; thank you for your questions and we look forward to talking with you again soon. Thank you.

[Operator:]

Thank you for attending today’s conference. This concludes your presentation. You may now disconnect. Good day ladies and gentlemen.