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EXCEL - IDEA: XBRL DOCUMENT - EDUCATION MANAGEMENT CORPORATION | Financial_Report.xls |
EX-32.2 - EXHIBIT 32.2 - EDUCATION MANAGEMENT CORPORATION | c15669exv32w2.htm |
EX-31.2 - EXHIBIT 31.2 - EDUCATION MANAGEMENT CORPORATION | c15669exv31w2.htm |
EX-32.1 - EXHIBIT 32.1 - EDUCATION MANAGEMENT CORPORATION | c15669exv32w1.htm |
EX-31.1 - EXHIBIT 31.1 - EDUCATION MANAGEMENT CORPORATION | c15669exv31w1.htm |
Table of Contents
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
þ | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended: March 31, 2011
OR
o | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the Transition Period From
to
Commission File Number: 001-34466
EDUCATION MANAGEMENT CORPORATION
(Exact name of registrant as specified in its charter)
Pennsylvania | 25-1119571 | |
(State or other jurisdiction of | (I.R.S. Employer | |
incorporation or organization) | Identification No.) | |
210 Sixth Avenue, Pittsburgh, PA, 33rd Floor | 15222 | |
(Address of principal executive offices) | (Zip Code) |
Registrants telephone number, including area code: (412) 562-0900
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed
by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or
for such shorter period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes þ No o
Indicate by check mark if whether the registrant has submitted electronically and posted on its
corporate Web site, if any, every Interactive Data File required to be submitted and posted
pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period
that the registrant was required to submit and post such files). Yes o No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a
non-accelerated filer, or a smaller reporting company. See definitions of large accelerated
filer, accelerated filer and smaller reporting company in Rule 12b-2 of the Exchange Act.
Large accelerated filer o | Accelerated filer o | Non-accelerated filer þ | Smaller reporting company o | |||
(Do not check if a smaller reporting company) |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the
Exchange Act.): Yes o No þ
As of May 6, 2011, there were 132,665,901 shares of the registrants common stock
outstanding.
Table of Contents
INDEX
1
Table of Contents
EDUCATION MANAGEMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands)
CONSOLIDATED BALANCE SHEETS
(In thousands)
March 31, 2011 | June 30, 2010 | March 31, 2010 | ||||||||||
(Unaudited) | (Unaudited) | |||||||||||
Assets |
||||||||||||
Current assets: |
||||||||||||
Cash and cash equivalents |
$ | 613,155 | $ | 373,546 | $ | 472,637 | ||||||
Restricted cash |
52,907 | 12,842 | 26,482 | |||||||||
Total cash, cash equivalents and restricted cash |
666,062 | 386,388 | 499,119 | |||||||||
Student receivables, net of allowances of $180,667,
$124,242 and $118,246 (Note 4) |
110,158 | 167,857 | 94,776 | |||||||||
Notes, advances and other receivables |
15,143 | 20,680 | 17,457 | |||||||||
Inventories |
11,785 | 11,655 | 13,242 | |||||||||
Deferred income taxes |
65,761 | 65,410 | 46,320 | |||||||||
Other current assets |
42,391 | 40,971 | 44,442 | |||||||||
Total current assets |
911,300 | 692,961 | 715,356 | |||||||||
Property and equipment, net (Note 5) |
695,761 | 678,846 | 634,587 | |||||||||
Other long-term assets (Note 7) |
89,915 | 93,441 | 82,168 | |||||||||
Intangible assets, net (Note 6) |
463,545 | 467,188 | 468,224 | |||||||||
Goodwill (Note 6) |
2,579,131 | 2,579,131 | 2,579,131 | |||||||||
Total assets |
$ | 4,739,652 | $ | 4,511,567 | $ | 4,479,466 | ||||||
Liabilities and shareholders equity |
||||||||||||
Current liabilities: |
||||||||||||
Current portion of long-term debt (Note 9) |
$ | 12,076 | $ | 12,103 | $ | 12,172 | ||||||
Accounts payable |
43,420 | 71,211 | 48,150 | |||||||||
Accrued liabilities (Note 8) |
191,594 | 178,085 | 187,812 | |||||||||
Accrued income taxes |
24,400 | 17,851 | 31,704 | |||||||||
Unearned tuition |
104,610 | 155,746 | 89,540 | |||||||||
Advance payments |
293,368 | 72,154 | 158,788 | |||||||||
Interest rate swap (Note 10) |
9,561 | | | |||||||||
Total current liabilities |
679,029 | 507,150 | 528,166 | |||||||||
Long-term debt, less current portion (Note 9) |
1,517,480 | 1,526,635 | 1,529,661 | |||||||||
Deferred income taxes |
177,390 | 180,934 | 178,388 | |||||||||
Deferred rent |
190,548 | 165,808 | 154,240 | |||||||||
Other long-term liabilities |
16,947 | 54,345 | 66,624 | |||||||||
Shareholders equity: |
||||||||||||
Common stock, at par |
1,431 | 1,429 | 1,428 | |||||||||
Additional paid-in capital |
1,758,402 | 1,749,456 | 1,745,512 | |||||||||
Treasury stock |
(140,610 | ) | (2,207 | ) | | |||||||
Retained earnings |
544,982 | 350,273 | 302,373 | |||||||||
Accumulated other comprehensive loss |
(5,947 | ) | (22,256 | ) | (26,926 | ) | ||||||
Total shareholders equity |
2,158,258 | 2,076,695 | 2,022,387 | |||||||||
Total liabilities and shareholders equity |
$ | 4,739,652 | $ | 4,511,567 | $ | 4,479,466 | ||||||
The accompanying notes are an integral part of these consolidated financial statements.
2
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EDUCATION MANAGEMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)
(In thousands, except per share amounts)
CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)
(In thousands, except per share amounts)
For the Three Months | For the Nine Months | |||||||||||||||
Ended March 31, | Ended March 31, | |||||||||||||||
2011 | 2010 | 2011 | 2010 | |||||||||||||
Net revenues |
$ | 754,340 | $ | 667,896 | $ | 2,192,238 | $ | 1,857,764 | ||||||||
Costs and expenses: |
||||||||||||||||
Educational services |
381,703 | 323,146 | 1,113,384 | 934,125 | ||||||||||||
General and administrative |
190,568 | 174,446 | 564,317 | 491,608 | ||||||||||||
Management fees paid to affiliates |
| | | 32,055 | ||||||||||||
Depreciation and amortization |
37,148 | 30,674 | 107,548 | 88,902 | ||||||||||||
Total costs and expenses |
609,419 | 528,266 | 1,785,249 | 1,546,690 | ||||||||||||
Income before loss on extinguishment of debt, interest and
income taxes |
144,921 | 139,630 | 406,989 | 311,074 | ||||||||||||
Interest expense, net |
31,464 | 27,933 | 87,516 | 94,652 | ||||||||||||
Loss on extinguishment of debt |
| 2,445 | 8,363 | 47,207 | ||||||||||||
Income before income taxes |
113,457 | 109,252 | 311,110 | 169,215 | ||||||||||||
Provision for income taxes |
40,474 | 24,682 | 116,401 | 48,609 | ||||||||||||
Net income |
$ | 72,983 | $ | 84,570 | $ | 194,709 | $ | 120,606 | ||||||||
Earnings per share: (Note 2) |
||||||||||||||||
Basic |
$ | 0.54 | $ | 0.59 | $ | 1.40 | $ | 0.89 | ||||||||
Diluted |
$ | 0.53 | $ | 0.59 | $ | 1.39 | $ | 0.89 | ||||||||
Weighted average number of shares outstanding: (Note 2) |
||||||||||||||||
Basic |
135,655 | 142,831 | 139,258 | 134,939 | ||||||||||||
Diluted |
136,759 | 143,936 | 140,003 | 135,675 |
The accompanying notes are an integral part of these consolidated financial statements.
3
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EDUCATION MANAGEMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
(Dollars in thousands)
CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
(Dollars in thousands)
For the Nine Months | ||||||||
Ended March 31, | ||||||||
2011 | 2010 | |||||||
Cash flows from operating activities: |
||||||||
Net income |
$ | 194,709 | $ | 120,606 | ||||
Adjustments to reconcile net income to net cash flows from operating
activities: |
||||||||
Depreciation and amortization of property and equipment |
101,515 | 82,231 | ||||||
Amortization of intangible assets |
6,033 | 6,671 | ||||||
Bad debt expense |
105,807 | 78,574 | ||||||
Fair value adjustment to EFL loans (Note 7) |
21,366 | | ||||||
Amortization of debt issuance costs |
5,177 | 6,127 | ||||||
Loss on extinguishment of debt |
8,363 | 47,207 | ||||||
Share-based compensation |
8,293 | 19,428 | ||||||
Non cash adjustments related to deferred rent |
(2,842 | ) | 1,898 | |||||
Changes in assets and liabilities: |
||||||||
Restricted cash |
(40,065 | ) | (16,110 | ) | ||||
Receivables |
(37,915 | ) | (43,280 | ) | ||||
Reimbursements for tenant improvements |
18,354 | 8,229 | ||||||
Inventory |
(113 | ) | (3,868 | ) | ||||
Other assets |
(21,853 | ) | (14,565 | ) | ||||
Purchase of EFL loans |
(23,888 | ) | (51,501 | ) | ||||
Accounts payable |
(13,737 | ) | 696 | |||||
Accrued liabilities |
16,017 | 35,675 | ||||||
Unearned tuition |
(51,136 | ) | (29,202 | ) | ||||
Advance payments |
219,729 | 91,341 | ||||||
Total adjustments |
319,105 | 219,551 | ||||||
Net cash flows provided by operating activities |
513,814 | 340,157 | ||||||
Cash flows from investing activities: |
||||||||
Expenditures for long-lived assets |
(106,324 | ) | (119,825 | ) | ||||
Reimbursements for tenant improvements |
(18,354 | ) | (8,229 | ) | ||||
Net cash flows used in investing activities |
(124,678 | ) | (128,054 | ) | ||||
Cash flows from financing activities: |
||||||||
Payments under revolving credit facility |
| (100,000 | ) | |||||
Retirement of senior subordinated notes |
| (378,952 | ) | |||||
Issuance of common stock |
655 | 387,998 | ||||||
Common stock repurchased for treasury |
(135,660 | ) | | |||||
Principal payments on long-term debt |
(9,182 | ) | (9,489 | ) | ||||
Debt issuance costs |
(5,411 | ) | (2,400 | ) | ||||
Net cash flows used in financing activities |
(149,598 | ) | (102,843 | ) | ||||
Effect of exchange rate changes on cash and cash equivalents |
71 | 59 | ||||||
Net change in cash and cash equivalents |
239,609 | 109,319 | ||||||
Cash and cash equivalents, beginning of period |
373,546 | 363,318 | ||||||
Cash and cash equivalents, end of period |
$ | 613,155 | $ | 472,637 | ||||
Cash paid during the period for: |
||||||||
Interest (including swap settlement) |
$ | 77,189 | $ | 81,734 | ||||
Income taxes |
126,535 | 53,868 |
The accompanying notes are an integral part of these consolidated financial statements.
4
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EDUCATION MANAGEMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS EQUITY
(Dollars in thousands)
CONSOLIDATED STATEMENTS OF SHAREHOLDERS EQUITY
(Dollars in thousands)
Accumulated | ||||||||||||||||||||||||
Common | Additional | Other | ||||||||||||||||||||||
Stock at | Paid-in | Treasury | Retained | Comprehensive | ||||||||||||||||||||
Par Value (c) | Capital | Stock (c) | Earnings | Loss | Total | |||||||||||||||||||
Balance at June 30, 2009 |
$ | 1,198 | $ | 1,338,316 | $ | | $ | 181,767 | $ | (35,628 | )(b) | $ | 1,485,653 | |||||||||||
Issuance of common stock |
231 | 389,210 | | | 389,441 | |||||||||||||||||||
Share-based compensation |
| 21,670 | | | 21,670 | |||||||||||||||||||
Excess tax benefit from share-based compensation |
| 260 | | | 260 | |||||||||||||||||||
Common stock repurchased for treasury |
| | (2,207 | ) | | | (2,207 | ) | ||||||||||||||||
Comprehensive income: (a) |
||||||||||||||||||||||||
Net income |
| | | 168,506 | | 168,506 | ||||||||||||||||||
Foreign currency translation |
| | | | 458 | 458 | ||||||||||||||||||
Reclassification into earnings on interest rate swaps,
net of tax of $14,005 |
| | | | 23,795 | 23,795 | ||||||||||||||||||
Periodic revaluation of interest rate swaps, net of tax
of $6,430 |
| | | | (10,881 | ) | (10,881 | ) | ||||||||||||||||
Net change in interest rate swaps |
| | | | 12,914 | 12,914 | ||||||||||||||||||
Comprehensive income |
| | | | | 181,878 | ||||||||||||||||||
Balance at June 30, 2010 |
$ | 1,429 | $ | 1,749,456 | $ | (2,207 | ) | $ | 350,273 | $ | (22,256 | )(b) | $ | 2,076,695 | ||||||||||
Issuance of common stock |
2 | 653 | | | | 655 | ||||||||||||||||||
Share-based compensation |
| 8,293 | | | | 8,293 | ||||||||||||||||||
Common stock repurchased for treasury |
| | (138,403 | ) | | | (138,403 | ) | ||||||||||||||||
Comprehensive income: |
||||||||||||||||||||||||
Net income |
| | | 194,709 | | 194,709 | ||||||||||||||||||
Foreign currency translation |
| | | | 972 | 972 | ||||||||||||||||||
Reclassification into earnings on interest rate swaps,
net of tax of $10,451 |
| | | | 17,796 | 17,796 | ||||||||||||||||||
Periodic revaluation of interest rate swaps, net of tax
of $1,416 |
| | | | (2,459 | ) | (2,459 | ) | ||||||||||||||||
Net change in interest rate swaps |
| | | | 15,337 | 15,337 | ||||||||||||||||||
Comprehensive income |
| | | | | 211,018 | ||||||||||||||||||
Balance at March 31, 2011 |
$ | 1,431 | $ | 1,758,402 | $ | (140,610 | ) | $ | 544,982 | $ | (5,947 | )(b) | $ | 2,158,258 | ||||||||||
(a) | During the nine months ended March 31, 2010, other comprehensive income consisted of a $17.8 million reclassification into earnings, net of tax, a $(10.1) million reduction on interest rate swaps due to a periodic revaluation, net of tax and a $1.0 million foreign currency translation gain. | |
(b) | The balance in accumulated other comprehensive loss at March 31, 2011, June 30, 2010 and March 31, 2010 is comprised of $6.0 million, $21.4 million and $26.5 million of cumulative unrealized losses on interest rate swaps, net of tax, respectively and $0.1 million, $(0.9) million and $(0.4) million of a cumulative foreign currency translation gain/(loss), respectively. | |
(c) | There were 600,000,000 authorized shares of par value $0.01 common stock at March 31, 2011, June 30, 2010 and March 31, 2010. Common stock of 142,848,312 shares was issued and outstanding at March 31, 2010. Common stock and treasury stock balances and activity were as follows for the periods indicated. |
Treasury | Outstanding | |||||||
Balance at June 30, 2009 |
| 119,770,277 | ||||||
Repurchased for treasury |
123,000 | (123,000 | ) | |||||
Public offering |
| 23,000,000 | ||||||
Issued for stock-based compensation plans |
| 205,141 | ||||||
Balance at June 30, 2010 |
123,000 | 142,852,418 | ||||||
Repurchased
for treasury |
9,161,672 | (9,161,672 | ) | |||||
Issued for stock-based compensation plans |
| 116,097 | ||||||
Balance at March 31, 2011 |
9,284,672 | 133,806,843 | ||||||
The accompanying notes are an integral part of these consolidated financial statements.
5
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EDUCATION MANAGEMENT CORPORATION AND SUBSIDIARIES
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION
Basis of presentation
The accompanying unaudited consolidated financial statements of Education Management
Corporation and its subsidiaries (the Company) have been prepared by the Companys management in
accordance with generally accepted accounting principles for interim financial information and
applicable rules and regulations promulgated under the Securities Exchange Act of 1934, as amended.
Accordingly, they do not include all of the information and footnotes required by generally
accepted accounting principles in the United States for annual financial statements. The unaudited
consolidated financial statements included herein contain all adjustments (consisting of normal
recurring adjustments) which are, in the opinion of management, necessary to present fairly the
Companys financial position as of March 31, 2011 and 2010, and its consolidated statements of
operations for the three and nine months ended March 31, 2011 and 2010 and of cash flows for the
nine months ended March 31, 2011 and 2010. The consolidated statements of operations for the three
and nine months ended March 31, 2011 and 2010 are not necessarily indicative of the results to be
expected for future periods. These consolidated financial statements should be read in conjunction
with the audited consolidated financial statements and notes thereto included in the Companys
Annual Report on Form 10-K (Form 10-K) for the fiscal year ended June 30, 2010 as filed with the
Securities and Exchange Commission (SEC). The accompanying consolidated balance sheet at June 30,
2010 has been derived from the consolidated audited balance sheet included in the Form 10-K.
Nature of operations
The Company is among the largest providers of post-secondary education in North America, with
approximately 158,300 enrolled students as of October 2010. The Company offers education through
four different education systems (The Art Institutes, Argosy University, Brown Mackie Colleges and
South University) and through online platforms at three of the four education systems. The Company
offers academic programs to its students through campus-based and online instruction, or through a
combination of both. The Company is committed to offering quality academic programs and
continuously strives to improve the learning experience for its students. The curriculum is
designed with a distinct emphasis on applied career-oriented content and is primarily taught by
faculty members that possess practical and relevant professional experience in their respective
fields.
Going Private Transaction
On June 1, 2006, the Company was acquired by a consortium of private equity investment funds
led by Providence Equity Partners, Goldman Sachs Capital Partners and Leeds Equity Partners
(collectively, the Sponsors). The acquisition was accomplished through the merger of EM
Acquisition Corporation into the Company, with the Company surviving the merger (the
Transaction). The Sponsors, together with certain other investors, became the owners of the
Company.
The acquisition of the Company was financed by equity invested in EM Acquisition Corporation by the
Sponsors and other investors, cash on hand, borrowings under a new senior secured credit facility
by Education Management LLC (EM LLC) and the issuance by EM LLC and Education Management Finance
Corp. (a wholly-owned subsidiary of EM LLC) of 8.75% senior notes due 2014 (the Senior Notes) and
10.25% senior subordinated notes due 2016 (the Senior Subordinated Notes and, together with the
Senior Notes, the Notes).
6
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EDUCATION MANAGEMENT CORPORATION AND SUBSIDIARIES
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Initial Public Offering
In October 2009, the Company completed an initial public offering of 23.0 million shares of
common stock, $0.01 par value, at a per share price of $18.00 (the initial public offering). Net
proceeds to the Company, after transaction costs, totaled approximately $387.3 million, of which
$355.5 million was used to purchase $316.0 million of the Senior Subordinated Notes in a tender
offer and $29.6 million was used to pay a termination fee under a management agreement entered into
with the Sponsors in connection with the Transaction. In addition, the availability for borrowing
under EM LLCs revolving credit facility increased from $388.5 million to $442.5 million effective
upon the closing of the initial public offering. No Sponsor-owned shares were sold in connection
with the initial public offering.
Seasonality
The Companys quarterly net revenues and income fluctuate primarily as a result of the pattern
of student enrollments. The seasonality of the Companys business has decreased over the last
several years due to an increased percentage of students enrolling in online programs, which
generally experience less seasonal fluctuations than campus-based programs. The Companys first
fiscal quarter is typically its lowest revenue recognition quarter due to student vacations.
Reclassifications
Certain reclassifications of March 31, 2010 data have been made to conform to the March 31,
2011 presentation.
2. EARNINGS PER SHARE
Basic earnings per share (EPS) is computed using the weighted average number of shares
outstanding during the period. The Company uses the treasury stock method to compute diluted EPS,
which assumes that vested restricted stock was converted into common stock and certain outstanding
stock options were exercised and the resultant proceeds were used to acquire shares of common stock
at its average market price during the reporting period.
Basic and diluted EPS were calculated as follows (in thousands, except per share amounts):
For the Three Months | For the Nine Months | |||||||||||||||
Ended March 31, | Ended March 31, | |||||||||||||||
2011 | 2010 | 2011 | 2010 | |||||||||||||
Net income |
$ | 72,983 | $ | 84,570 | $ | 194,709 | $ | 120,606 | ||||||||
Weighted average number of shares outstanding: |
||||||||||||||||
Basic |
135,655 | 142,831 | 139,258 | 134,939 | ||||||||||||
Effect of stock-based awards |
1,104 | 1,105 | 745 | 736 | ||||||||||||
Diluted |
136,759 | 143,936 | 140,003 | 135,675 | ||||||||||||
Earnings per share: |
||||||||||||||||
Basic |
$ | 0.54 | $ | 0.59 | $ | 1.40 | $ | 0.89 | ||||||||
Diluted |
$ | 0.53 | $ | 0.59 | $ | 1.39 | $ | 0.89 |
7
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EDUCATION MANAGEMENT CORPORATION AND SUBSIDIARIES
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Because certain performance and market conditions have not been met with respect to the
Companys performance-based options, as further described in Note 3, the Company has determined
these options to be contingently issuable at March 31, 2011 and 2010. As a result, all 3.3 million
of outstanding performance options have been excluded from the computation of diluted EPS in the
three and nine month periods ended March 31, 2011 and 2010. Additionally, time-based options to
purchase 4.0 million and 1.6 million shares of common stock were outstanding for the three month
periods ended March 31, 2011 and 2010, respectively, but were not included in the computation of
diluted EPS because the effect of applying the treasury stock method would have been antidilutive.
As a result, time-based options that have a dilutive effect were the only options included in the
diluted EPS calculation for the three and nine month periods ended March 31, 2011 and 2010.
3. SHARE-BASED COMPENSATION AND STOCK REPURCHASE PROGRAM
Share-Based Compensation
In August 2006, the Companys Board of Directors approved the 2006 Stock Option Plan (the
2006 Plan) for executive management and key personnel. Under the 2006 Plan, certain of the
Companys employees were granted a combination of time-based and performance-based options to
purchase the Companys common stock. In April 2009, the Companys Board of Directors adopted the
Omnibus Long-Term Incentive Plan (the Omnibus Plan), which became effective upon the completion
of the initial public offering. Under the Omnibus Plan, the Company may issue stock options, stock
appreciation rights, restricted stock, restricted stock units and other forms of long-term
incentive compensation.
Upon completion of the initial public offering in October 2009, the Company recognized $15.2
million of previously deferred stock-based compensation costs due to the removal of certain
conditions that existed related to the inability of option holders to obtain fair market value for
stock options granted under the 2006 Plan. The Company also granted stock options and restricted
stock under the Omnibus Plan in connection with the initial public offering. The Company recognized
$2.9 million and $8.3 million of share-based compensation expense related to outstanding time-based
stock options, restricted stock and other awards during the three and nine month periods ended
March 31, 2011, respectively. The Company recognized $2.2 million and $19.4 million of share-based
compensation expense during the three and nine month periods ended March 31, 2010, respectively.
The Company continues to defer compensation expense on performance-based options granted under
the 2006 Plan, which have elements of both performance and market conditions, because the
performance conditions are not probable of being met at March 31, 2011.
During the nine month period ended March 31, 2011, the Company granted 2.5 million time-based
stock options, which vest over a four year period, at a weighted average exercise price of $14.65
per share. Using key assumptions of 44% for stock price volatility and 6.25 years for expected
option term, these options had an estimated fair value of $6.65 per option using the Black-Scholes
method of estimating fair value.
Approximately 0.1 million of stock options were exercised during the nine month period ended
March 31, 2011. Net of estimated forfeitures, the Company had $23.4 million of unrecognized
compensation cost relating to time-based stock options and $8.6 million of unrecognized
compensation cost related to performance-based stock options at March 31, 2011.
8
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EDUCATION MANAGEMENT CORPORATION AND SUBSIDIARIES
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
On April 29, 2011, the Companys Board of Directors approved a plan to modify the vesting
conditions of the existing performance-based stock options. After giving effect to the modification, the
options will vest upon the greater of the percentage of the
Companys common stock sold by certain investment funds
affiliated with Providence Equity Partners and Goldman Sachs Capital
Partners (together, the Principal Stockholders) or on certain return on investment hurdles achieved by the Principal
Stockholders. The exercise price
and contractual life of the performance-based stock options did not change. Since the modified vesting
conditions are not probable of being met, the Company will not have compensation expense until
those conditions become probable of being met. The Company is in the process of determining the new
unrecognized compensation cost on the modified performance-based stock options.
Long Term Incentive Compensation Plan
In fiscal 2007, the Company adopted the Long-Term Incentive Compensation Plan (the LTIC
Plan). The LTIC Plan consists of a bonus pool that is valued based on returns to the Principal
Stockholders in connection with a change in control of the Company. Out of a total of 1,000,000
units authorized, approximately 656,000 units were outstanding under the LTIC Plan at March 31,
2011. Each unit represents the right to receive a payment based on the value of the bonus pool. As
the contingent future events that would result in value to the unit-holders are less than probable,
no compensation expense has been recognized by the Company during any of the periods following the
Transaction. The plan is being accounted for as an equity-based plan as the units may be settled in
stock or cash at the Companys discretion, and it is the Companys intent to settle any future
payment out of the LTIC Plan in stock. The total amount of unrecognized compensation cost over the
vesting periods of all units, net of estimated forfeitures, is approximately $2.5 million at March
31, 2011.
Stock Repurchase Program
On
March 11, 2011, the Companys Board of Directors approved
an increase to the size of the
Companys stock repurchase program from $150.0 million to $250.0 million. The date through which
the repurchases may occur remained December 31, 2011. Under the terms of the program, the Company
may make repurchases in the open market, in privately negotiated transactions, through accelerated
repurchase programs or in structured share repurchase programs. The program does not obligate the
Company to acquire any particular amount of common stock, and it may be modified or suspended at
any time at the Companys discretion. The Company has repurchased 9.3 million shares of its common
stock for $140.6 million under the program from its inception in June 2010 through March 31, 2011,
of which $2.7 million settled after March 31, 2011. At March 31, 2011, approximately $109.4
million remained available under the program to be used for future stock repurchases.
4. STUDENT RECEIVABLES
The Company records student receivables at cost less an estimated allowance for doubtful
accounts. The Company determines its allowance for doubtful accounts by categorizing gross
receivables based upon the enrollment status of the student. The reserve is established based on
the likelihood of collection considering the Companys historical experience, which is updated on a
frequent basis. The reserve methodology results in a higher reserve rate for out-of-school
students compared to in-school students. Student accounts are monitored through an aging process
whereby past due accounts are pursued. When certain criteria are met, which is generally when
receivables age past the due date by more than four months, and internal collection measures have
been taken without success, the accounts of former students are placed with an outside collection
agency. Student accounts that are in collection are reserved for at a high rate and are written off
after repeated collection attempts have been unsuccessful.
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CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
5. PROPERTY AND EQUIPMENT
Property and equipment consisted of the following amounts (in thousands):
Asset Class | March 31, 2011 | June 30, 2010 | March 31, 2010 | |||||||||
Land |
$ | 17,649 | $ | 17,655 | $ | 17,861 | ||||||
Buildings and improvements |
75,315 | 74,764 | 73,917 | |||||||||
Leasehold improvements and capitalized lease costs |
505,157 | 446,992 | 404,383 | |||||||||
Furniture and equipment |
141,916 | 128,411 | 117,117 | |||||||||
Technology and other equipment |
260,373 | 226,587 | 205,144 | |||||||||
Software |
65,130 | 56,350 | 53,083 | |||||||||
Library books |
37,941 | 35,051 | 33,551 | |||||||||
Construction in progress |
24,779 | 29,850 | 44,553 | |||||||||
Total |
1,128,260 | 1,015,660 | 949,609 | |||||||||
Less accumulated depreciation |
(432,499 | ) | (336,814 | ) | (315,022 | ) | ||||||
Property and equipment, net |
$ | 695,761 | $ | 678,846 | $ | 634,587 | ||||||
Depreciation and amortization of property and equipment was $35.1 million and $28.6
million, respectively, for the three months ended March 31, 2011 and 2010. Depreciation and
amortization of property and equipment was $101.5 million and $82.2 million, respectively, for the
nine month periods ended March 31, 2011 and 2010.
6. GOODWILL AND INTANGIBLE ASSETS
Goodwill
As a result of the Transaction, the Company recorded approximately $2.6 billion of goodwill.
Goodwill is recognized as an asset in the financial statements and is initially measured as the
excess of the purchase price of the acquired company over the amounts assigned to net assets
acquired. In connection with the Transaction, property, equipment, intangible assets other than
goodwill and other assets and liabilities were recorded at fair value. The remaining value was
assigned to goodwill and represents the intrinsic value of the Company beyond its net tangible and
identifiable intangible assets. This is evidenced by the excess of the amount paid to acquire the
Company over the values of these respective net assets.
The Company formally evaluates the carrying amount of goodwill for impairment on April 1 of
each fiscal year. During interim periods, the Company reviews forecasts, its market
capitalization, business plans, regulatory and legal matters and other activities necessary to
identify events that may trigger more frequent impairment tests. During the nine month period
ended March 31, 2011, the Company identified no such triggering events, and as a result, no
impairments were recorded.
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(Continued)
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Intangible Assets
Intangible assets consisted of the following amounts (in thousands):
March 31, 2011 | June 30, 2010 | March 31, 2010 | ||||||||||||||||||||||
Gross | Gross | Gross | ||||||||||||||||||||||
Carrying | Accumulated | Carrying | Accumulated | Carrying | Accumulated | |||||||||||||||||||
Amount | Amortization | Amount | Amortization | Amount | Amortization | |||||||||||||||||||
Tradename-Art Institute |
$ | 330,000 | $ | | $ | 330,000 | $ | | $ | 330,000 | $ | | ||||||||||||
Licensing, accreditation and Title
IV program participation |
112,179 | | 112,179 | | 112,179 | | ||||||||||||||||||
Curriculum and programs |
34,327 | (22,303 | ) | 31,948 | (18,412 | ) | 30,935 | (17,191 | ) | |||||||||||||||
Student contracts, applications and
relationships |
39,511 | (34,881 | ) | 39,511 | (34,048 | ) | 39,511 | (33,687 | ) | |||||||||||||||
Favorable leases and other |
19,448 | (14,736 | ) | 19,403 | (13,393 | ) | 19,425 | (12,948 | ) | |||||||||||||||
Total intangible assets |
$ | 535,465 | $ | (71,920 | ) | $ | 533,041 | $ | (65,853 | ) | $ | 532,050 | $ | (63,826 | ) | |||||||||
Tradenames are often considered to have useful lives similar to that of the overall
business, which generally means such assets are assigned an indefinite life for accounting
purposes.
State licenses and accreditations of the Companys schools as well as their eligibility for
Title IV program participation are periodically renewed in cycles ranging from every year to up to
every ten years depending upon government and accreditation regulations. Since the Company
considers these renewal processes to be a routine aspect of the overall business, these assets were
assigned indefinite lives.
Amortization of intangible assets for the three months ended March 31, 2011 and 2010 was $2.0
million and $2.1 million, respectively. Amortization of intangible assets for the nine month
period ended March 31, 2011 and 2010 was $6.0 million and $6.7 million, respectively.
Total estimated amortization on the Companys existing intangible assets at March 31,
2011 for each of the years ending June 30, 2011 through 2015 and thereafter is as follows (in
thousands):
Amortization | ||||
Fiscal years | Expense | |||
2011 (remainder) |
$ | 2,001 | ||
2012 |
8,082 | |||
2013 |
5,735 | |||
2014 |
3,967 | |||
2015 |
1,581 | |||
Thereafter |
|
7. OTHER LONG-TERM ASSETS
Other long-term assets consisted of the following amounts (in thousands):
March 31, | June 30, | March 31, | ||||||||||
2011 | 2010 | 2010 | ||||||||||
EFL loans |
$ | 44,403 | $ | 49,529 | $ | 35,502 | ||||||
Deferred financing fees |
17,407 | 25,536 | 27,538 | |||||||||
Other |
28,105 | 18,376 | 19,128 | |||||||||
Total other long-term assets |
$ | 89,915 | $ | 93,441 | $ | 82,168 | ||||||
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(Continued)
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
In August 2008, the Company introduced the Education Finance Loan program with a private
lender, which enabled students who had exhausted all available government-sponsored or other aid
and had been denied a private loan to borrow funds to finance a portion of their tuition and other
educational expenses. Under the Education Finance Loan program, the Company purchased loans that
were originated by a private lender (EFL Loans). The Company has only awarded aid under the
Education Finance Loan program in fiscal 2011 to students who had received aid under the program
before June 30, 2010.
Prior to the quarter ended December 31, 2010, EFL Loans were classified as held for
investment, and the Company recognized bad debt expense related to these loans for estimated losses
on the pro-rata portion of the academic term that had been completed. Bad debt expense was
determined using a projected default rate based on information received from a private loan
provider that included historical default rate data for former students that attended the Companys
institutions. This data was further analyzed to apply projected default rates by credit score and
was supplemented to include consideration of current economic factors. The allowance for loan
losses was recorded in other long-term assets or other long-term liabilities, depending on whether
the loan had been purchased from the originating bank.
In
December 2010, EFL Loans were redesignated from held for
investment to held for sale, and the Company recorded the loans at the lower of cost or fair market value. On April 14, 2011, the Company sold its wholly-owned subsidiary which holds the EFL Loans to
an unrelated third party for proceeds of $44.4 million. In connection with the sale, the Company
pre-funded approximately $1.6 million for the purchase of EFL
Loans through June 30, 2011. This transaction was considered
in determining the required fair market value adjustment of $13.2 million on March 31, 2011.
Including this fair value adjustment, the Company recorded a total fair value adjustment of $13.9 million and $21.4
million, respectively, in educational services expense during the three and nine months ended March
31, 2011. As a result of the above-mentioned sale, the Company has no future
obligations to fund additional purchases of loans from the private
lender under the Education Finance Loan program.
8. ACCRUED LIABILITIES
Accrued liabilities consisted of the following amounts (in thousands):
March 31, | June 30, | March 31, | ||||||||||
2011 | 2010 | 2010 | ||||||||||
Payroll and related taxes |
$ | 67,526 | $ | 67,803 | $ | 67,775 | ||||||
Capital expenditures |
7,275 | 10,020 | 11,187 | |||||||||
Advertising |
34,767 | 32,474 | 30,009 | |||||||||
Interest |
21,727 | 12,732 | 21,790 | |||||||||
Benefits |
11,748 | 12,014 | 9,569 | |||||||||
Other |
48,551 | 43,042 | 47,482 | |||||||||
Total accrued liabilities |
$ | 191,594 | $ | 178,085 | $ | 187,812 | ||||||
9. SHORT-TERM AND LONG-TERM DEBT
Senior Secured Credit Facilities Amendment:
On December 7, 2010, EM LLC entered into an agreement to amend and extend its senior secured
credit facilities, which include a $442.5 million revolving credit facility and a $1.1 billion term
loan. Under the agreement, lenders providing $328.3 million, or 74%, of the current capacity under
the revolving credit facility extended their commitments from June 1, 2012 to June 1, 2015, at a
new interest rate of LIBOR + 4.00%. In addition, holders of an aggregate $758.7 million, or 68%, of
the term loan agreed to extend the maturity date from June 1, 2013 to June 1, 2016 and increase the
interest rate on these borrowings from LIBOR + 1.75% to LIBOR + 4.00%. Lenders who did not extend
will continue to be paid interest based on the margin spreads in place prior to the amendment.
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CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
The
lenders also approved other amendments to the senior secured credit facilities, including a
springing maturity of March 1, 2014 for the term loan in the event that EM LLC does not refinance,
extend or pay in full the Senior Notes due 2014 on or prior to March 1, 2014. The amendments also
included an increase to the covenant basket amount for capital expenditures and certain restricted
payments, a tightening of the leverage ratio requirements through the remainder of fiscal 2011, an
increase in the amount of the revolving credit line available for letters of credit to $425.0
million and the ability to use cash to collateralize letters of credit.
The amendment of the term loan was accounted for as an extinguishment of the original term
loan, which resulted in a loss on extinguishment of debt of $8.4 million. This loss included $5.1
million of previously deferred financing fees that were being amortized through the original
maturity date and $3.3 million in cash paid to lenders in connection with the amendment.
Short-Term Debt:
EM LLC had no borrowings under its $442.5 million revolving credit facility at March 31, 2011,
June 30, 2010 or March 31, 2010. EM LLC is obligated to pay a per annum commitment fee on undrawn
amounts under the revolving credit facility, which is currently 0.375% and varies based on certain
leverage ratios. The revolving credit facility is secured by certain of EM LLCs assets and is
subject to the Companys satisfaction of certain covenants and financial ratios described in Item 2
Managements Discussion and Analysis of Financial Condition and Results of Operations Covenant
Compliance.
EM LLC had outstanding letters of credit of $280.8 million at March 31, 2011. The majority of
these letters of credit are with the U.S. Department of Education, which requires the Company to
maintain a letter of credit due to the Companys failure to satisfy certain regulatory financial
ratios after giving effect to the Transaction. The amount of the letter of credit was $259.8
million at March 31, 2011. The outstanding letters of credit reduced the amount available for
borrowings under the revolving credit facility to $161.7 million at March 31, 2011.
On April 11, 2011, the Company increased its letter of credit with the U.S. Department of
Education to $361.5 million, which is 15% of total Title IV aid received by students attending the
Companys institutions during fiscal 2010. Immediately following this increase, the Company had
$75.0 million of additional borrowings available under the revolving credit facility.
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CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Long-Term Debt:
The Companys long-term debt consisted of the following amounts (in thousands):
March 31, | June 30, | March 31, | ||||||||||
2011 | 2010 | 2010 | ||||||||||
Senior secured term loan facility, due 2013 |
$ | 351,445 | $ | 1,114,977 | $ | 1,117,940 | ||||||
Senior secured term loan facility, due 2016 |
754,645 | | | |||||||||
Senior notes due 2014 at 8.75% |
375,000 | 375,000 | 375,000 | |||||||||
Senior subordinated notes due 2016 at 10.25% |
47,680 | 47,680 | 47,680 | |||||||||
Other |
786 | 1,081 | 1,213 | |||||||||
Total long-term debt |
1,529,556 | 1,538,738 | 1,541,833 | |||||||||
Less current portion |
12,076 | 12,103 | 12,172 | |||||||||
Total long term debt, less current portion |
$ | 1,517,480 | $ | 1,526,635 | $ | 1,529,661 | ||||||
The interest rate on the senior secured term loan facility due in 2013, which equals
three-month LIBOR plus a margin spread of 1.75%, was 2.1% at March 31, 2011, 2.3% at June 30, 2010
and 2.1% at March 31, 2010. The interest rate on the senior secured term loan facility due in
2016, which equals three-month LIBOR plus a margin spread of 4.0%, was 4.3% at March 31, 2011.
During the nine months ended March 31, 2010, the Company purchased Senior Subordinated Notes
with a total face value of approximately $337.3 million through two tender offer transactions. As
the Senior Subordinated Notes were purchased at a premium, the Company recorded losses of $2.4
million and $47.2 million in the three and nine months ended March 31, 2010, respectively. These
losses included the acceleration of amortization on previously deferred debt fees of $0.3 million
and $5.6 million in the three and nine month periods ended March 31, 2010, respectively.
On
April 29, 2011, the Company notified the Trustee of its
intention to call the remaining $47.7
million of the Senior Subordinated Notes on June 1, 2011 for a price of 105.125%. The premium of
$2.4 million and remaining amortization on related deferred financing fees of $0.6 million will be
recorded as a loss on extinguishment of debt in the fourth quarter of
fiscal 2011.
10. DERIVATIVE INSTRUMENTS
EM LLC utilizes interest rate swap agreements, which are contractual agreements to exchange
payments based on underlying interest rates, to manage the floating rate portion of its term loan
facility. At March 31, EM LLC has two five-year interest rate swaps outstanding through July 1, 2011,
each for a notional amount of $375.0 million. The interest rate swaps effectively convert a portion
of the variable interest rate on the senior secured term loan to a fixed rate. EM LLC receives
payments based on the three-month LIBOR and makes payments based on a fixed rate of 5.4%.
The fair value of the interest rate swaps was $9.6 million at March 31, 2011, which was
recorded as part of current liabilities on the consolidated balance sheet since the agreements
mature within one year. The fair value of the interest rate swaps was $33.9 million and $42.3
million at June 30, 2010 and March 31, 2010, respectively, which was recorded in other long-term
liabilities on the consolidated balance sheets.
During the three and nine months ended March 31 of both 2011 and 2010, the Company
reclassified approximately $6.1 million and $17.8 million, net of tax, respectively, from
accumulated other comprehensive loss to the consolidated statement of operations, all of which was
paid due to regularly recurring quarterly settlements of the interest rate swaps. The Company
recorded an unrealized after-tax loss of $0.4 million and $3.4 million for the three months ended
March 31, 2011 and 2010, respectively, and $2.5 million and $10.1 million for the nine months ended
March 31, 2011 and 2010, respectively, in other comprehensive loss related to the change in market
value of the swap agreements. Additionally, at March 31, 2011, there was a cumulative unrealized
loss of $6.0 million, net of tax, related to these interest rate swaps included in accumulated
other comprehensive loss on the Companys consolidated balance sheet that will be reclassified to
the consolidated statement of operations over the remaining three months of the term of the
interest rate swaps based on current interest rates and underlying debt obligations at March 31,
2011. This loss would be immediately recognized in the consolidated statement of operations if
these instruments fail to meet certain cash flow hedge requirements.
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(Continued)
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
The Company used Level 2 inputs to value its interest rate swaps. These inputs are
defined as other than quoted prices in active markets that are either directly or indirectly
observable, including obtaining quotes from counterparties, which are based on three-month LIBOR
forward curves, and assessing non-performance risk based upon published market data.
On April 7, 2011, the Company entered into three interest rate swap agreements for an
aggregate notional amount of $950.0 million. All swap agreements are effective July 1, 2011. The
first swap agreement is for a notional amount of $325.0 million and effectively fixes future
interest payments at a rate of 2.935% until the scheduled maturity of the underlying borrowings on
June 1, 2013. The other two swap agreements are for notional amounts of $312.5 million each and
effectively fix future interest payments at a rate of 6.26% through June 1, 2015. One of the swap
agreements for $312.5 million was entered into with an affiliate of one of the Sponsors.
11. FAIR VALUE OF FINANCIAL INSTRUMENTS
The following table presents the carrying amounts and fair values of financial instruments (in
thousands):
March 31, 2011 | June 30, 2010 | March 31, 2010 | ||||||||||||||||||||||
Carrying | Carrying | Carrying | ||||||||||||||||||||||
Value | Fair Value | Value | Fair Value | Value | Fair Value | |||||||||||||||||||
Variable rate debt |
$ | 1,106,090 | $ | 1,082,146 | $ | 1,114,977 | $ | 1,036,929 | $ | 1,117,940 | $ | 1,089,992 | ||||||||||||
Fixed rate debt |
423,466 | 431,936 | 423,761 | 426,979 | 423,893 | 437,082 | ||||||||||||||||||
Total debt |
$ | 1,529,556 | $ | 1,514,082 | $ | 1,538,738 | $ | 1,463,908 | $ | 1,541,833 | $ | 1,527,074 |
The fair values of cash and cash equivalents, accounts receivable, accounts payable and
accrued expenses approximate carrying values due to the short-term nature of these instruments. The
derivative financial instruments are carried at fair value, which is based on the framework
discussed in Note 10. The fair values of the Companys debt instruments are determined based on
each instruments trading value at the dates presented.
As described in Note 7, EFL Loans under the Education Finance Loan program were redesignated
from held for investment to held for sale in December 2010. At March 31, 2011, the loans were
recorded at market value using Level 2 inputs, as the loans were sold to an unrelated third party
in April 2011.
As described in Note 10, the fair value of the interest rate swap was recorded as part of
current liabilities on the consolidated balance sheet at March 31, 2011 since the agreements mature
within one year. In past periods, the fair value of the interest rate swap was recorded as part of
other long-term liabilities on the consolidated balance sheets.
12. INCOME TAXES
The Company accounts for income taxes by the asset and liability method. Under this method,
deferred tax assets and liabilities result from (i) temporary differences in the recognition of
income and expense for financial and federal income tax reporting requirements, and (ii)
differences between the recorded value of assets acquired in business combinations accounted for as
purchases for financial reporting purposes and their corresponding tax bases. The Company regularly
evaluates deferred income tax assets for recoverability and records a valuation allowance if it is
more-likely-than-not that some portion of the deferred income tax asset will not be realized.
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CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
The Companys effective tax rate was 35.7% and 37.4% for the three and nine months ended March
31, 2011 and 22.6% and 28.7% for the three and nine months ended March 31, 2010. The effective
rates differed from the combined federal and state statutory rates primarily due to valuation
allowances, expenses that are non-deductible for tax purposes, and accounting for uncertain tax
positions.
As a result of the expiration of certain statutes of limitation with respect to the 2007 and
2006 tax years, the Companys liability for uncertain tax positions, excluding interest and the
indirect benefits associated with state income taxes, decreased by $4.3 million and $16.3 million
during the three and nine month periods ended March 31, 2011 and 2010, respectively. The Companys
effective tax rate was impacted by $3.5 million and $17.9 million during the three and nine month
periods ending March 31, 2011 and 2010, respectively, related to these statute of limitation
expirations.
As of March 31, 2011, the Companys accrual for uncertain tax positions was $5.3 million,
excluding interest and the indirect benefits associated with state income taxes. It is reasonably
possible that the total amount of unrecognized tax benefits, excluding interest and the indirect
benefits associated with state income taxes, will decrease by $0.8 million within the next twelve
months due to the expiration of certain statutes of limitation with respect to the 2008 tax year.
If recognized, the resultant tax benefit will be a discrete item in the third quarter of fiscal
year 2012.
The statutes of limitation for the Companys U.S. income tax return are closed for years
through fiscal 2007. The statutes of limitation for the Companys state and local income tax
returns for prior periods vary by jurisdiction. However, the statutes of limitation with respect
to the major jurisdictions in which the Company files state and local income tax returns are
generally closed for years through fiscal 2006.
13. CONTINGENCIES
Securities Class Action
On August 11, 2010, a securities class action complaint captioned Gaer v. Education Management
Corp., et. al was filed against the Company, certain of its executive officers and directors, and
certain underwriters of the Companys initial public offering. The complaint alleges violations of
Sections 11, 12(a)(2) and 15 of the Securities Act of 1933 and Sections 10(b) and 20(a) of the
Exchange Act of 1934 due to allegedly false and misleading statements in connection with the
Companys initial public offering and the Companys subsequent press releases and filings with the
Securities and Exchange Commission. On November 10, 2010, the Court granted the Oklahoma Police Pension and Retirement Systems
motion to serve as lead plaintiff in the lawsuit. On January 10, 2011, the lead plaintiff and the
Southeastern Pennsylvania Transportation Authority filed an Amended Class Action Complaint with the
Court alleging similar violations of Section 11, 12(a)(2) and 15 of the
Securities Act of 1933 and Section 10(b) and 20(a) of the Exchange Act of 1934 and adding one
additional individual defendant and other underwriters from the Companys initial public offering.
The Company believes that the lawsuit is without merit and
intends to vigorously defend itself.
Incentive Compensation Matters
On
May 3, 2011, a qui tam action captioned United States of America, and the States of California, Florida, Illinois, Indiana,
Massachusetts, Minnesota, Montana, New Jersey, New Mexico, New York
and Tennessee, and the District of Columbia, each ex rel., Lynntoya
Washington and Michael T. Mahoney v. Education Management
Corporation, et. al (Washington) filed under the federal False
Claims Act in April 2007 was unsealed due to the U.S. Department of Justices decision to intervene
in the case under the federal False Claims Act. Several of the states listed on the case caption have joined the case based on qui tam actions filed under their respective state False Claims
Acts. The case, which is pending in the Western District of Pennsylvania, relates to whether the
defendants compensation plans for admission representatives violated the Higher Education Act, as
amended (HEA), and U.S. Department of Education regulations prohibiting an institution
participating in Title IV Programs from providing any commission, bonus or other incentive payment
based
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(Continued)
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
directly or indirectly on success in securing enrollments to any person or entity engaged in any student recruitment or admissions activity. The Company
previously disclosed the receipt of a request from the Department of Justice, Civil Division, for
documents and other information regarding its policies and practices with respect to recruiter
compensation and performance evaluation in connection with a qui tam action pending in United
States District Court for the Western District of Pennsylvania but that was under seal at the time.
The complaint was filed by a former admissions representative at The Art Institute of Pittsburgh
Online Division and a former director of training at Online Higher
Education and asserts the relators are entitled to recover treble the amount of actual damages
allegedly sustained by the federal government as a result of the alleged activity, plus civil
monetary penalties. The Company believes the claims to be without merit and intends to vigorously defend itself.
On May 6, 2010, a qui tam action captioned Buchanan v. South University Online and Education
Management Corporation filed under the False Claims Act in July 2007 was unsealed due to the U.S.
Department of Justices decision to not intervene in the action at that time. The case, which is
also pending in the United States District Court for the Western District of Pennsylvania, makes
similar allegations to the Washington case that the defendants compensation plans for admission
representatives violated the HEA and U.S. Department of Education regulations. The complaint was
filed by a former admissions representative for the online programs offered by South University and
requests damages similar to Washington. The Company believes the claims to be without merit and
intends to defend this action vigorously
OIG Subpoena
On March 22, 2011, the Company received a subpoena from the Office of Inspector General of the
U.S. Department of Education requesting documents related to satisfactory academic progress
standards and state licensing of online programs offered by South University and The Art Institute
of Pittsburgh for the time period beginning January 1, 2006 through the date of the subpoena. The
Company intends to cooperate with the subpoena and investigation. However, the Company cannot predict the
eventual scope, duration or outcome of the investigation at this time.
Buirkle APA Program Accreditation Lawsuit
In August 2009, a petition was filed in the District Court for Dallas County, Texas in the
case of Capalbo et al. v. Argosy Education Group, Inc. University, Education Management LLC,
Education Management Corporation and Marilyn Powell-Kissinger by 15 former students in the Clinical
Psychology program offered by the Dallas campus of Argosy University. In September 2009, the
defendants removed the case to the United States District Court for the Northern District of Texas,
Dallas division. The case was remanded back to state court in November 2009 by agreement after the
plaintiffs amended their pleadings to specify their allegations and agreed to dismiss Ms.
Powell-Kissinger as a defendant. The plaintiffs filed an amended petition in state court in January
2010 under the name of Buirkle et al. v. Argosy Education Group, Inc., Education Management LLC and
Education Management Corporation and included three new plaintiffs. The petition alleges that,
prior to the plaintiffs enrollment and/or while the plaintiffs were enrolled in the program, the
defendants violated the Texas Deceptive Trade Practices and Consumer Protection Act and made
material misrepresentations regarding the importance of accreditation of the program by the
Commission on Accreditation, American Psychological Association, the status of the application of
the Dallas campus for such accreditation, the availability of loan repayment options for the
plaintiffs, and the quantity and quality of the plaintiffs career options. Plaintiffs seek
unspecified monetary compensatory and punitive damages. In March 2010, claims filed by three of the
plaintiffs who signed arbitration agreements with Argosy University were compelled to binding
arbitration. The remaining lawsuits in the case were stayed pending the resolution of the three
arbitrations.
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CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
In May 2010, those three plaintiffs and a fourth former student in the Clinical Psychology
program offered by the Dallas campus of Argosy University filed a demand for arbitration. The first
of four separate arbitrations is currently scheduled to be heard in February 2012. Also in May
2010, three additional former students in the Clinical Psychology program offered by the Dallas
campus of Argosy University filed a new action in the District Court for Dallas County, Texas in
the case of Adibian et al. v. Argosy Education Group, Inc., Education Management LLC, and Education
Management Corporation alleging the same claims made in the previous lawsuits. Defendants filed a
motion to stay the new action pending the resolution of the arbitration proceedings. Prior to the
hearing on the motion, plaintiffs filed a notice of non-suit without prejudice. The court signed
the order of non-suit in August 2010, and the case was closed. The Company believes the claims in
the lawsuits and the arbitrations to be without merit and intends to vigorously defend itself.
State Attorney General Investigations
In December 2010, the Company received a subpoena from the Office of Consumer Protection of
the Attorney General of the Commonwealth of Kentucky requesting documents and detailed information
for the time period of January 1, 2008 through December 31, 2010. The Company has three Brown
Mackie College locations in Kentucky. The Kentucky Attorney General has announced an investigation
of the business practices of for-profit postsecondary schools and that subpoenas had been issued to
six proprietary colleges that do business in Kentucky in connection with the investigation. The
Company intends to continue to cooperate with the investigation. However, the Company cannot predict the
eventual scope, duration or outcome of the investigation at this time.
In October 2010, Argosy University received a subpoena from the Florida Attorney Generals
office seeking a wide range of documents related to the Companys institutions, including the nine
institutions located in Florida, from January 2, 2006 to the present. The Florida Attorney General
has announced that it is investigating potential misrepresentations in recruitment, financial aid
and other areas. The Company is cooperating with the investigation, but has also filed a suit to
quash or limit the subpoena and to protect information sought that constitutes proprietary or trade
secret information. The Company cannot predict the eventual scope, duration or outcome of the investigation
at this time.
In June 2007, The New England Institute of Art (NEIA) received a civil investigative demand
letter from the Massachusetts State Attorney General requesting information in connection with the
Attorney Generals review of alleged submissions of false claims by NEIA to the Commonwealth of
Massachusetts and alleged unfair and deceptive student lending and marketing practices engaged in
by the school. In February 2008, the Attorney General informed NEIA that it does not plan to
further pursue its investigation of the false claims and deceptive marketing practices. NEIA
intends to fully cooperate with the Attorney General in connection with its investigation of NEIAs
student lending practices to the extent further cooperation is required.
Other
In addition to the matters described above, the Company is a defendant in certain legal
proceedings arising out of the conduct of its business. In the opinion of management, based upon an
investigation of these claims and discussion with legal counsel, the ultimate outcome of such legal
proceedings, individually and in the aggregate, is not expected to have a material adverse effect
on the Companys consolidated financial position, results of operations or liquidity.
14. RELATED PARTY TRANSACTIONS
In connection with the debt amendment described in Note 9, the Company paid an arranger fee of
$1.1 million to an affiliate of one of the Sponsors in the second quarter of fiscal 2011.
In connection with the Transaction and under the terms of an agreement between the Company and
the Sponsors, the Company agreed to pay annual advisory fees of $5.0 million to the Sponsors. This
agreement included customary exculpation and indemnification provisions in favor of the Sponsors
and their affiliates. Upon the completion of the initial public offering, the Company terminated
the agreement with the Sponsors and paid a non-recurring fee of $29.6 million. The termination fee
is included in management fees paid to affiliates in the accompanying consolidated statements of
operations for the nine months ended March 31, 2010.
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CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
In June 2006 and April 2011, the Company entered into interest rate swap agreements in the
amount of $375.0 million and $312.5 million, respectively, with an affiliate of one of the
Sponsors. The terms of these agreements are discussed in Note 10.
15. GUARANTOR SUBSIDIARIES FINANCIAL INFORMATION
On June 1, 2006, in connection with the Transaction, EM LLC and Education Management Finance
Corp. issued the Notes. The Notes are fully and unconditionally guaranteed by all of EM LLCs
existing direct and indirect domestic restricted subsidiaries, other than any subsidiary that
directly owns or operates a school, or has been formed for such purposes, and subsidiaries that
have no material assets (collectively, the Guarantors). All other subsidiaries of EM LLC, either
direct or indirect, do not guarantee the Notes (Non-Guarantors).
In November 2009, Education Management Corporation (EDMC) guaranteed the indebtedness of EM
LLC and Education Management Finance Corp. under the Notes.
The following tables present the condensed consolidated financial position of EM LLC, the
Guarantor Subsidiaries, the Non-Guarantor Subsidiaries and EDMC as of March 31, 2011, June 30, 2010
and March 31, 2010. The statements of operations for the three and nine month periods ended March
31, 2011 and 2010 and of condensed cash flows for the nine month periods ended March 31, 2011 and
2010 are presented for EM LLC, the Guarantor Subsidiaries, the Non-Guarantor Subsidiaries and EDMC.
19
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CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
CONDENSED CONSOLIDATED BALANCE SHEET
March 31, 2011 (In thousands)
March 31, 2011 (In thousands)
Guarantor | Non-Guarantor | EM LLC | EDMC | |||||||||||||||||||||||||||||
EM LLC | Subsidiaries | Subsidiaries | Eliminations | Consolidated | EDMC | Eliminations | Consolidated | |||||||||||||||||||||||||
Assets |
||||||||||||||||||||||||||||||||
Current: |
||||||||||||||||||||||||||||||||
Cash and cash equivalents |
$ | 543,502 | $ | 10,636 | $ | 9,919 | $ | | $ | 564,057 | $ | 49,098 | $ | | $ | 613,155 | ||||||||||||||||
Restricted cash |
21,571 | | 31,336 | | 52,907 | | | 52,907 | ||||||||||||||||||||||||
Student and other receivables, net |
(77 | ) | 101 | 125,273 | | 125,297 | 4 | | 125,301 | |||||||||||||||||||||||
Inventories |
(254 | ) | 117 | 11,922 | | 11,785 | | | 11,785 | |||||||||||||||||||||||
Other current assets |
31,085 | 418 | 76,649 | | 108,152 | | | 108,152 | ||||||||||||||||||||||||
Total current assets |
595,827 | 11,272 | 255,099 | | 862,198 | 49,102 | | 911,300 | ||||||||||||||||||||||||
Property and equipment, net |
70,212 | 7,172 | 618,377 | | 695,761 | | | 695,761 | ||||||||||||||||||||||||
Intangible assets, net |
2,445 | 53 | 461,047 | | 463,545 | | | 463,545 | ||||||||||||||||||||||||
Goodwill |
7,328 | | 2,571,803 | | 2,579,131 | | | 2,579,131 | ||||||||||||||||||||||||
Intercompany balances |
692,994 | (106,974 | ) | (857,282 | ) | | (271,262 | ) | 271,262 | | | |||||||||||||||||||||
Other long-term assets |
33,247 | 44,196 | 12,473 | | 89,916 | (1 | ) | | 89,915 | |||||||||||||||||||||||
Investment in subsidiaries |
2,138,249 | | | (2,138,249 | ) | | 1,837,633 | (1,837,633 | ) | | ||||||||||||||||||||||
Total assets |
$ | 3,540,302 | $ | (44,281 | ) | $ | 3,061,517 | $ | (2,138,249 | ) | $ | 4,419,289 | $ | 2,157,996 | $ | (1,837,633 | ) | $ | 4,739,652 | |||||||||||||
Liabilities and shareholders equity
(deficit) |
||||||||||||||||||||||||||||||||
Current: |
||||||||||||||||||||||||||||||||
Current portion of long-term debt |
$ | 11,850 | $ | | $ | 226 | $ | | $ | 12,076 | $ | | $ | | $ | 12,076 | ||||||||||||||||
Other current liabilities |
149,582 | 3,881 | 513,492 | | 666,955 | (2 | ) | | 666,953 | |||||||||||||||||||||||
Total current liabilities |
161,432 | 3,881 | 513,718 | | 679,031 | (2 | ) | | 679,029 | |||||||||||||||||||||||
Long-term debt, less current portion |
1,516,920 | | 560 | | 1,517,480 | | | 1,517,480 | ||||||||||||||||||||||||
Other long-term liabilities |
32,726 | 1,325 | 173,444 | | 207,495 | | | 207,495 | ||||||||||||||||||||||||
Deferred income taxes |
(8,409 | ) | (23,987 | ) | 210,046 | | 177,650 | (260 | ) | | 177,390 | |||||||||||||||||||||
Total liabilities |
1,702,669 | (18,781 | ) | 897,768 | | 2,581,656 | (262 | ) | | 2,581,394 | ||||||||||||||||||||||
Total shareholders equity (deficit) |
1,837,633 | (25,500 | ) | 2,163,749 | (2,138,249 | ) | 1,837,633 | 2,158,258 | (1,837,633 | ) | 2,158,258 | |||||||||||||||||||||
Total liabilities and shareholders
equity (deficit) |
$ | 3,540,302 | $ | (44,281 | ) | $ | 3,061,517 | $ | (2,138,249 | ) | $ | 4,419,289 | $ | 2,157,996 | $ | (1,837,633 | ) | $ | 4,739,652 | |||||||||||||
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EDUCATION MANAGEMENT CORPORATION AND SUBSIDIARIES
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
CONDENSED CONSOLIDATED BALANCE SHEET
June 30, 2010 (In thousands)
June 30, 2010 (In thousands)
Guarantor | Non-Guarantor | EM LLC | EDMC | |||||||||||||||||||||||||||||
EM LLC | Subsidiaries | Subsidiaries | Eliminations | Consolidated | EDMC | Eliminations | Consolidated | |||||||||||||||||||||||||
Assets |
||||||||||||||||||||||||||||||||
Current: |
||||||||||||||||||||||||||||||||
Cash and cash equivalents |
$ | 11,522 | $ | 314 | $ | 313,403 | $ | | $ | 325,239 | $ | 48,307 | $ | | $ | 373,546 | ||||||||||||||||
Restricted cash |
387 | | 12,455 | | 12,842 | | | 12,842 | ||||||||||||||||||||||||
Student and other
receivables, net |
99 | 90 | 188,342 | | 188,531 | 6 | | 188,537 | ||||||||||||||||||||||||
Inventories |
| 182 | 11,473 | | 11,655 | | | 11,655 | ||||||||||||||||||||||||
Other current assets |
26,741 | 576 | 79,064 | | 106,381 | | | 106,381 | ||||||||||||||||||||||||
Total current assets |
38,749 | 1,162 | 604,737 | | 644,648 | 48,313 | | 692,961 | ||||||||||||||||||||||||
Property and equipment, net |
64,814 | 6,956 | 607,076 | | 678,846 | | | 678,846 | ||||||||||||||||||||||||
Intangible assets, net |
2,737 | 65 | 464,386 | | 467,188 | | | 467,188 | ||||||||||||||||||||||||
Goodwill |
7,328 | | 2,571,803 | | 2,579,131 | | | 2,579,131 | ||||||||||||||||||||||||
Intercompany balances |
1,285,257 | (76,041 | ) | (1,611,040 | ) | | (401,824 | ) | 401,824 | | | |||||||||||||||||||||
Other long-term assets |
38,474 | 49,529 | 5,440 | | 93,443 | (2 | ) | | 93,441 | |||||||||||||||||||||||
Investment in subsidiaries |
1,883,576 | | | (1,883,576 | ) | | 1,626,483 | (1,626,483 | ) | | ||||||||||||||||||||||
Total assets |
$ | 3,320,935 | $ | (18,329 | ) | $ | 2,642,402 | $ | (1,883,576 | ) | $ | 4,061,432 | $ | 2,076,618 | $ | (1,626,483 | ) | $ | 4,511,567 | |||||||||||||
Liabilities and
shareholders equity
(deficit) |
||||||||||||||||||||||||||||||||
Current: |
||||||||||||||||||||||||||||||||
Current portion of
long-term debt |
$ | 11,850 | $ | | $ | 253 | $ | | $ | 12,103 | $ | | $ | | $ | 12,103 | ||||||||||||||||
Other current liabilities |
114,396 | 4,827 | 375,641 | | 494,864 | 183 | | 495,047 | ||||||||||||||||||||||||
Total current
liabilities |
126,246 | 4,827 | 375,894 | | 506,967 | 183 | | 507,150 | ||||||||||||||||||||||||
Long-term debt, less
current portion |
1,525,807 | | 828 | | 1,526,635 | | | 1,526,635 | ||||||||||||||||||||||||
Other long-term liabilities |
58,397 | 3,172 | 158,584 | | 220,153 | | | 220,153 | ||||||||||||||||||||||||
Deferred income taxes |
(15,998 | ) | (13,393 | ) | 210,585 | | 181,194 | (260 | ) | | 180,934 | |||||||||||||||||||||
Total liabilities |
1,694,452 | (5,394 | ) | 745,891 | | 2,434,949 | (77 | ) | | 2,434,872 | ||||||||||||||||||||||
Total shareholders
equity (deficit) |
1,626,483 | (12,935 | ) | 1,896,511 | (1,883,576 | ) | 1,626,483 | 2,076,695 | (1,626,483 | ) | 2,076,695 | |||||||||||||||||||||
Total liabilities
and shareholders
equity (deficit) |
$ | 3,320,935 | $ | (18,329 | ) | $ | 2,642,402 | $ | (1,883,576 | ) | $ | 4,061,432 | $ | 2,076,618 | $ | (1,626,483 | ) | $ | 4,511,567 | |||||||||||||
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EDUCATION MANAGEMENT CORPORATION AND SUBSIDIARIES
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
CONDENSED CONSOLIDATED BALANCE SHEET
March 31, 2010 (In thousands)
March 31, 2010 (In thousands)
Guarantor | Non-Guarantor | EM LLC | EDMC | |||||||||||||||||||||||||||||
EM LLC | Subsidiaries | Subsidiaries | Eliminations | Consolidated | EDMC | Eliminations | Consolidated | |||||||||||||||||||||||||
Assets |
||||||||||||||||||||||||||||||||
Current: |
||||||||||||||||||||||||||||||||
Cash and cash equivalents |
$ | 402,671 | $ | 4,685 | $ | 18,867 | $ | | $ | 426,223 | $ | 46,414 | $ | | $ | 472,637 | ||||||||||||||||
Restricted cash |
737 | 500 | 25,245 | | 26,482 | | | 26,482 | ||||||||||||||||||||||||
Student and other receivables, net |
14,900 | 96 | 97,235 | | 112,231 | 2 | | 112,233 | ||||||||||||||||||||||||
Inventories |
| 168 | 13,074 | | 13,242 | | | 13,242 | ||||||||||||||||||||||||
Other current assets |
28,492 | 615 | 61,655 | | 90,762 | | | 90,762 | ||||||||||||||||||||||||
Total current assets |
446,800 | 6,064 | 216,076 | | 668,940 | 46,416 | | 715,356 | ||||||||||||||||||||||||
Property and equipment, net |
55,787 | 6,610 | 572,190 | | 634,587 | | | 634,587 | ||||||||||||||||||||||||
Intangible assets, net |
2,829 | 67 | 465,328 | | 468,224 | | | 468,224 | ||||||||||||||||||||||||
Goodwill |
7,328 | | 2,571,803 | | 2,579,131 | | | 2,579,131 | ||||||||||||||||||||||||
Intercompany balances |
937,892 | (62,315 | ) | (1,277,814 | ) | | (402,237 | ) | 402,237 | | | |||||||||||||||||||||
Other long-term assets |
41,276 | 35,295 | 5,598 | | 82,169 | (1 | ) | | 82,168 | |||||||||||||||||||||||
Investment in subsidiaries |
1,835,815 | | | (1,835,815 | ) | | 1,573,920 | (1,573,920 | ) | | ||||||||||||||||||||||
Total assets |
$ | 3,327,727 | $ | (14,279 | ) | $ | 2,553,181 | $ | (1,835,815 | ) | $ | 4,030,814 | $ | 2,022,572 | $ | (1,573,920 | ) | $ | 4,479,466 | |||||||||||||
Liabilities and shareholders equity
(deficit) |
||||||||||||||||||||||||||||||||
Current: |
||||||||||||||||||||||||||||||||
Current portion of long-term debt |
$ | 11,850 | $ | | $ | 322 | $ | | $ | 12,172 | $ | | $ | | $ | 12,172 | ||||||||||||||||
Other current liabilities |
162,718 | 3,934 | 349,157 | | 515,809 | 185 | | 515,994 | ||||||||||||||||||||||||
Total current liabilities |
174,568 | 3,934 | 349,479 | | 527,981 | 185 | | 528,166 | ||||||||||||||||||||||||
Long-term debt, less current portion |
1,528,770 | | 891 | | 1,529,661 | | | 1,529,661 | ||||||||||||||||||||||||
Other long-term liabilities |
66,066 | 7,395 | 147,403 | | 220,864 | | | 220,864 | ||||||||||||||||||||||||
Deferred income taxes |
(15,597 | ) | (12,206 | ) | 206,191 | | 178,388 | | | 178,388 | ||||||||||||||||||||||
Total liabilities |
1,753,807 | (877 | ) | 703,964 | | 2,456,894 | 185 | | 2,457,079 | |||||||||||||||||||||||
Total shareholders equity (deficit) |
1,573,920 | (13,402 | ) | 1,849,217 | (1,835,815 | ) | 1,573,920 | 2,022,387 | (1,573,920 | ) | 2,022,387 | |||||||||||||||||||||
Total liabilities and shareholders
equity (deficit) |
$ | 3,327,727 | $ | (14,279 | ) | $ | 2,553,181 | $ | (1,835,815 | ) | $ | 4,030,814 | $ | 2,022,572 | $ | (1,573,920 | ) | $ | 4,479,466 | |||||||||||||
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CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
CONSOLIDATED STATEMENT OF OPERATIONS
For the Three Months Ended March 31, 2011 (In thousands)
For the Three Months Ended March 31, 2011 (In thousands)
Guarantor | Non-Guarantor | EM LLC | EDMC | |||||||||||||||||||||||||||||
EM LLC | Subsidiaries | Subsidiaries | Eliminations | Consolidated | EDMC | Eliminations | Consolidated | |||||||||||||||||||||||||
Net revenues |
$ | | $ | 1,699 | $ | 752,641 | $ | | $ | 754,340 | $ | | $ | | $ | 754,340 | ||||||||||||||||
Costs and expenses: |
||||||||||||||||||||||||||||||||
Educational services |
20,567 | 15,923 | 345,213 | | 381,703 | | | 381,703 | ||||||||||||||||||||||||
General and administrative |
(26,170 | ) | (651 | ) | 217,332 | | 190,511 | 57 | | 190,568 | ||||||||||||||||||||||
Depreciation and amortization |
6,695 | 81 | 30,372 | | 37,148 | | | 37,148 | ||||||||||||||||||||||||
Total costs and expenses |
1,092 | 15,353 | 592,917 | | 609,362 | 57 | | 609,419 | ||||||||||||||||||||||||
Income (loss) before loss on
extinguishment of debt, interest and
income taxes |
(1,092 | ) | (13,654 | ) | 159,724 | | 144,978 | (57 | ) | | 144,921 | |||||||||||||||||||||
Interest (income) expense, net |
32,110 | (1,233 | ) | 598 | | 31,475 | (11 | ) | | 31,464 | ||||||||||||||||||||||
Loss on extinguishment of debt |
| | | | | | | | ||||||||||||||||||||||||
Equity in earnings of subsidiaries |
(94,437 | ) | | | 94,437 | | (73,029 | ) | 73,029 | | ||||||||||||||||||||||
Income (loss) before income taxes |
61,235 | (12,421 | ) | 159,126 | (94,437 | ) | 113,503 | 72,983 | (73,029 | ) | 113,457 | |||||||||||||||||||||
Provision for (benefit from)
income
taxes |
(11,794 | ) | (4,569 | ) | 56,837 | | 40,474 | | | 40,474 | ||||||||||||||||||||||
Net income (loss) |
$ | 73,029 | $ | (7,852 | ) | $ | 102,289 | $ | (94,437 | ) | $ | 73,029 | $ | 72,983 | $ | (73,029 | ) | $ | 72,983 | |||||||||||||
CONSOLIDATED STATEMENT OF OPERATIONS
For the Three Months Ended March 31, 2010 (In thousands)
For the Three Months Ended March 31, 2010 (In thousands)
Guarantor | Non-Guarantor | EM LLC | EDMC | |||||||||||||||||||||||||||||
EM LLC | Subsidiaries | Subsidiaries | Eliminations | Consolidated | EDMC | Eliminations | Consolidated | |||||||||||||||||||||||||
Net revenues |
$ | | $ | (1,232 | ) | $ | 669,128 | $ | | $ | 667,896 | $ | | $ | | $ | 667,896 | |||||||||||||||
Costs and expenses: |
||||||||||||||||||||||||||||||||
Educational services |
17,068 | (738 | ) | 306,816 | | 323,146 | | | 323,146 | |||||||||||||||||||||||
General and administrative |
(19,587 | ) | (94 | ) | 194,070 | | 174,389 | 57 | | 174,446 | ||||||||||||||||||||||
Management fees paid to affiliates |
| | | | | | | | ||||||||||||||||||||||||
Depreciation and amortization |
4,570 | 59 | 26,045 | | 30,674 | | | 30,674 | ||||||||||||||||||||||||
Total costs and expenses |
2,051 | (773 | ) | 526,931 | | 528,209 | 57 | | 528,266 | |||||||||||||||||||||||
Income (loss) before loss on extinguishment
of
debt, interest and income taxes |
(2,051 | ) | (459 | ) | 142,197 | | 139,687 | (57 | ) | | 139,630 | |||||||||||||||||||||
Interest expense, net |
27,811 | (560 | ) | 688 | | 27,939 | (6 | ) | | 27,933 | ||||||||||||||||||||||
Loss on extinguishment of debt |
2,445 | | | | 2,445 | | | 2,445 | ||||||||||||||||||||||||
Equity in earnings of subsidiaries |
(123,604 | ) | | | 123,604 | | (84,621 | ) | 84,621 | | ||||||||||||||||||||||
Income (loss) before income taxes |
91,297 | 101 | 141,509 | (123,604 | ) | 109,303 | 84,570 | (84,621 | ) | 109,252 | ||||||||||||||||||||||
Provision for (benefit from) income taxes |
6,676 | 168 | 17,838 | | 24,682 | | | 24,682 | ||||||||||||||||||||||||
Net income (loss) |
$ | 84,621 | $ | (67 | ) | $ | 123,671 | $ | (123,604 | ) | $ | 84,621 | $ | 84,570 | $ | (84,621 | ) | $ | 84,570 | |||||||||||||
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EDUCATION MANAGEMENT CORPORATION AND SUBSIDIARIES
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
CONSOLIDATED STATEMENT OF OPERATIONS
For the Nine Months Ended March 31, 2011 (In thousands)
For the Nine Months Ended March 31, 2011 (In thousands)
Guarantor | Non-Guarantor | EM LLC | EDMC | |||||||||||||||||||||||||||||
EM LLC | Subsidiaries | Subsidiaries | Eliminations | Consolidated | EDMC | Eliminations | Consolidated | |||||||||||||||||||||||||
Net revenues |
$ | | $ | 3,395 | $ | 2,188,843 | $ | | $ | 2,192,238 | $ | | $ | | $ | 2,192,238 | ||||||||||||||||
Costs and expenses: |
||||||||||||||||||||||||||||||||
Educational services |
55,674 | 28,206 | 1,029,504 | | 1,113,384 | | | 1,113,384 | ||||||||||||||||||||||||
General and administrative |
(75,816 | ) | (1,682 | ) | 641,644 | | 564,146 | 171 | | 564,317 | ||||||||||||||||||||||
Depreciation and amortization |
18,343 | 247 | 88,958 | | 107,548 | | | 107,548 | ||||||||||||||||||||||||
Total costs and expenses |
(1,799 | ) | 26,771 | 1,760,106 | | 1,785,078 | 171 | | 1,785,249 | |||||||||||||||||||||||
Income (loss) before loss on
extinguishment of debt, interest and
income taxes |
1,799 | (23,376 | ) | 428,737 | | 407,160 | (171 | ) | | 406,989 | ||||||||||||||||||||||
Interest (income) expense, net |
89,013 | (3,305 | ) | 1,847 | | 87,555 | (39 | ) | | 87,516 | ||||||||||||||||||||||
Loss on extinguishment of debt |
8,363 | | | | 8,363 | | | 8,363 | ||||||||||||||||||||||||
Equity in earnings of subsidiaries |
(254,673 | ) | | | 254,673 | | (194,841 | ) | 194,841 | | ||||||||||||||||||||||
Income (loss) before income taxes |
159,096 | (20,071 | ) | 426,890 | (254,673 | ) | 311,242 | 194,709 | (194,841 | ) | 311,110 | |||||||||||||||||||||
Provision for (benefit from)
income
taxes |
(35,745 | ) | (7,506 | ) | 159,652 | | 116,401 | | | 116,401 | ||||||||||||||||||||||
Net income (loss) |
$ | 194,841 | $ | (12,565 | ) | $ | 267,238 | $ | (254,673 | ) | $ | 194,841 | $ | 194,709 | $ | (194,841 | ) | $ | 194,709 | |||||||||||||
CONSOLIDATED STATEMENT OF OPERATIONS
For the Nine Months Ended March 31, 2010 (In thousands)
For the Nine Months Ended March 31, 2010 (In thousands)
Guarantor | Non-Guarantor | EM LLC | EDMC | |||||||||||||||||||||||||||||
EM LLC | Subsidiaries | Subsidiaries | Eliminations | Consolidated | EDMC | Eliminations | Consolidated | |||||||||||||||||||||||||
Net revenues |
$ | | $ | (4,691 | ) | $ | 1,862,455 | $ | | $ | 1,857,764 | $ | | $ | | $ | 1,857,764 | |||||||||||||||
Costs and expenses: |
||||||||||||||||||||||||||||||||
Educational services |
43,242 | (3,264 | ) | 894,147 | | 934,125 | | | 934,125 | |||||||||||||||||||||||
General and administrative |
(54,293 | ) | 297 | 545,433 | | 491,437 | 171 | | 491,608 | |||||||||||||||||||||||
Management fees paid to
affiliates |
32,055 | | | | 32,055 | | | 32,055 | ||||||||||||||||||||||||
Depreciation and amortization |
13,472 | 186 | 75,244 | | 88,902 | | | 88,902 | ||||||||||||||||||||||||
Total costs and expenses |
34,476 | (2,781 | ) | 1,514,824 | | 1,546,519 | 171 | | 1,546,690 | |||||||||||||||||||||||
Income (loss) before loss on
extinguishment of
debt, interest and income taxes |
(34,476 | ) | (1,910 | ) | 347,631 | | 311,245 | (171 | ) | | 311,074 | |||||||||||||||||||||
Interest (income) expense, net |
93,334 | (768 | ) | 2,130 | | 94,696 | (44 | ) | | 94,652 | ||||||||||||||||||||||
Loss on extinguishment of debt |
47,207 | | | | 47,207 | | | 47,207 | ||||||||||||||||||||||||
Equity in earnings of
subsidiaries |
(245,451 | ) | | | 245,451 | | (120,703 | ) | 120,703 | | ||||||||||||||||||||||
Income (loss) before income taxes |
70,434 | (1,142 | ) | 345,501 | (245,451 | ) | 169,342 | 120,576 | (120,703 | ) | 169,215 | |||||||||||||||||||||
Provision for (benefit from)
income taxes |
(50,269 | ) | (328 | ) | 99,236 | | 48,639 | (30 | ) | | 48,609 | |||||||||||||||||||||
Net income (loss) |
$ | 120,703 | $ | (814 | ) | $ | 246,265 | $ | (245,451 | ) | $ | 120,703 | $ | 120,606 | $ | (120,703 | ) | $ | 120,606 | |||||||||||||
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EDUCATION MANAGEMENT CORPORATION AND SUBSIDIARIES
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
For the Nine Months Ended March 31, 2011 (In thousands)
For the Nine Months Ended March 31, 2011 (In thousands)
Guarantor | Non-Guarantor | EM LLC | EDMC | |||||||||||||||||||||
EM LLC | Subsidiaries | Subsidiaries | Consolidated | EDMC | Consolidated | |||||||||||||||||||
Net cash flows provided by (used in) operations |
$ | (43,736 | ) | $ | (9,878 | ) | $ | 566,637 | $ | 513,023 | $ | 791 | $ | 513,814 | ||||||||||
Cash flows from investing activities: |
||||||||||||||||||||||||
Expenditures for long-lived assets |
(10,730 | ) | (1,096 | ) | (94,498 | ) | (106,324 | ) | | (106,324 | ) | |||||||||||||
Other investing activities |
| | (18,354 | ) | (18,354 | ) | | (18,354 | ) | |||||||||||||||
Net cash flows used in investing activities |
(10,730 | ) | (1,096 | ) | (112,852 | ) | (124,678 | ) | | (124,678 | ) | |||||||||||||
Cash flows from financing activities: |
||||||||||||||||||||||||
Net repayments of debt and other |
(14,298 | ) | | (295 | ) | (14,593 | ) | | (14,593 | ) | ||||||||||||||
Common stock repurchased and stock option
exercises |
| | | | (135,005 | ) | (135,005 | ) | ||||||||||||||||
Intercompany transactions |
600,740 | 21,295 | (757,040 | ) | (135,005 | ) | 135,005 | | ||||||||||||||||
Net cash flows provided by (used in) financing
activities |
586,442 | 21,295 | (757,335 | ) | (149,598 | ) | | (149,598 | ) | |||||||||||||||
Effect of exchange rate changes on cash and cash
equivalents |
| | 71 | 71 | | 71 | ||||||||||||||||||
Increase (decrease) in cash and cash equivalents |
531,976 | 10,321 | (303,479 | ) | 238,818 | 791 | 239,609 | |||||||||||||||||
Beginning cash and cash equivalents |
11,522 | 314 | 313,403 | 325,239 | 48,307 | 373,546 | ||||||||||||||||||
Ending cash and cash equivalents |
$ | 543,498 | $ | 10,635 | $ | 9,924 | $ | 564,057 | $ | 49,098 | $ | 613,155 | ||||||||||||
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EDUCATION MANAGEMENT CORPORATION AND SUBSIDIARIES
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
CONDENSED NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
For the Nine Months Ended March 31, 2010 (In thousands)
For the Nine Months Ended March 31, 2010 (In thousands)
Guarantor | Non-Guarantor | EM LLC | EDMC | |||||||||||||||||||||
EM LLC | Subsidiaries | Subsidiaries | Consolidated | EDMC | Consolidated | |||||||||||||||||||
Net cash flows provided by (used in) operations |
$ | (55,044 | ) | $ | (24,367 | ) | $ | 419,098 | $ | 339,687 | $ | 470 | $ | 340,157 | ||||||||||
Cash flows from investing activities |
||||||||||||||||||||||||
Expenditures for long-lived assets |
(10,534 | ) | (1,248 | ) | (108,043 | ) | (119,825 | ) | | (119,825 | ) | |||||||||||||
Other investing activities |
| | (8,229 | ) | (8,229 | ) | | (8,229 | ) | |||||||||||||||
Net cash flows used in investing activities |
(10,534 | ) | (1,248 | ) | (116,272 | ) | (128,054 | ) | | (128,054 | ) | |||||||||||||
Cash flows from financing activities |
||||||||||||||||||||||||
Net repayments of debt and other |
(490,243 | ) | | (598 | ) | (490,841 | ) | | (490,841 | ) | ||||||||||||||
Net proceeds from issuance of common stock,
including stock-based compensation |
| | | | 387,998 | 387,998 | ||||||||||||||||||
Intercompany transactions |
942,703 | 29,819 | (588,707 | ) | 383,815 | (383,815 | ) | | ||||||||||||||||
Net cash flows provided by (used in) financing activities |
452,460 | 29,819 | (589,305 | ) | (107,026 | ) | 4,183 | (102,843 | ) | |||||||||||||||
Effect of exchange rate changes on cash and cash |
| | 59 | 59 | | 59 | ||||||||||||||||||
Increase (decrease) in cash and cash equivalents |
386,882 | 4,204 | (286,420 | ) | 104,666 | 4,653 | 109,319 | |||||||||||||||||
Beginning cash and cash equivalents |
15,789 | 481 | 305,287 | 321,557 | 41,761 | 363,318 | ||||||||||||||||||
Ending cash and cash equivalents |
$ | 402,671 | $ | 4,685 | $ | 18,867 | $ | 426,223 | $ | 46,414 | $ | 472,637 | ||||||||||||
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ITEM 2. | MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS |
Business Overview
We are among the largest providers of post-secondary education in North America, with over
158,300 enrolled students as of October 2010. We offer academic programs to our students through
campus-based and online instruction, or through a combination of both. We are committed to
offering quality academic programs and continuously strive to improve the learning experience for
our students. We target a large and diverse market as our educational institutions offer students
the opportunity to earn undergraduate and graduate degrees, including doctoral degrees, and certain
specialized non-degree diplomas in a broad range of disciplines. These disciplines include
media arts, health sciences, design, psychology and behavioral sciences, culinary,
business, fashion,
legal, education and information technology. Each of our schools located in the United States is
licensed or permitted to offer post-secondary programs in the state in which it is located,
accredited by a national or regional accreditation agency and certified by the U.S. Department of
Education, enabling students to access federal student loans, grants and other forms of public and
private financial aid. Our academic programs are designed with an emphasis on applied content and
are taught primarily by faculty members who, in addition to having appropriate academic
credentials, offer practical and relevant professional experience in their respective fields.
We have undertaken multiple initiatives to address the growing demand for post-secondary
education in the United States. Through the first three quarters of fiscal 2011, we opened three
new locations, developed ten new academic programs and introduced over 165 new or existing academic
programs to locations that had not previously offered such programs. On average, new locations take
two years to become profitable. We continue to make significant capital investments in technology
and human resources designed to facilitate future enrollment growth
and to support students.
We
also continue to upgrade our infrastructure, student interfaces and
student support systems and invest significantly in our online education
platform. In January 2011, fully online programs offered by South University started to transition from a quarterly
term-based to a non-term based academic calendar structure. The new model supports more frequent
class starts and provides a number of benefits to students. The non-term based academic calendar
minimizes the opportunity for over-borrowing since students are now full-time versus part-time
under the prior term based calendar. After the initial payment of financial aid, this method will
limit the aid to be disbursed when a student successfully completes the credits that they
previously paid for. We have also introduced graduation focused teams for students attending South Universitys fully online programs. These teams are comprised of
individuals from admissions, financial services and academic
counseling. All students who apply are assigned to a team that is available to help them throughout all phases of
their academic tenure from admissions to financial aid to academic
counseling. We believe that these teams will help improve the student experience and retention over time by providing more personalized,
dedicated service. The implementation of these initiatives has
impacted our margins during
the nine months ended March 31, 2011.
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Results of Operations
The following table sets forth for the periods indicated the percentage relationship of
certain statements of operations items to net revenues (amounts
expressed as a percentage of net revenues).
CONSOLIDATED STATEMENTS OF OPERATIONS
For the Three Months | For the Nine Months | |||||||||||||||
Ended March 31, | Ended March 31, | |||||||||||||||
2011 | 2010 | 2011 | 2010 | |||||||||||||
Net revenues |
100.0 | % | 100.0 | % | 100.0 | % | 100.0 | % | ||||||||
Costs and expenses: |
||||||||||||||||
Educational services |
50.6 | % | 48.4 | % | 50.8 | % | 50.3 | % | ||||||||
General and administrative |
25.3 | % | 26.1 | % | 25.7 | % | 26.5 | % | ||||||||
Management fees paid to affiliates |
0.0 | % | 0.0 | % | 0.0 | % | 1.7 | % | ||||||||
Depreciation and amortization |
4.9 | % | 4.6 | % | 4.9 | % | 4.8 | % | ||||||||
Total costs and expenses |
80.8 | % | 79.1 | % | 81.4 | % | 83.3 | % | ||||||||
Income before loss on extinguishment
of debt,
interest and income taxes |
19.2 | % | 20.9 | % | 18.6 | % | 16.7 | % | ||||||||
Interest expense, net |
4.2 | % | 4.2 | % | 4.0 | % | 5.1 | % | ||||||||
Loss on extinguishment of debt |
0.0 | % | 0.4 | % | 0.4 | % | 2.5 | % | ||||||||
Income before income taxes |
15.0 | % | 16.3 | % | 14.2 | % | 9.1 | % | ||||||||
Provision for income taxes |
5.3 | % | 3.7 | % | 5.3 | % | 2.6 | % | ||||||||
Net income |
9.7 | % | 12.6 | % | 8.9 | % | 6.5 | % | ||||||||
Three months ended March 31, 2011 (current period) compared to the three months ended March
31, 2010 (prior period)
All basis point changes are presented as a percentage of net revenues in each period of
comparison.
Net revenues
Our quarterly net revenues and net income fluctuate primarily as a result of the pattern of
student enrollments at our schools. The seasonality of our business has decreased over the last
several years due to an increased percentage of students enrolling in online programs, which
generally experience less seasonal fluctuations than campus-based programs. Our first fiscal
quarter is typically our lowest revenue recognition quarter due to student vacations.
The largest component of our net revenues is tuition collected from our students, which is
presented in our statements of operations after deducting refunds, scholarships and other
adjustments. Net revenues consist of tuition and fees, student housing fees, bookstore sales,
restaurant sales in connection with culinary programs, workshop fees, finance charges related to
credit extended to students and sales of related study materials. We recognize revenue on a pro
rata basis over the term of instruction or occupancy or when cash is received in the case of
certain point-of-sale revenues. The amount of tuition revenue received from students varies based
on the average tuition charge per credit hour, average credit hours
taken per student, type of program, specific curriculum and average student population.
Bookstore and housing revenues are largely a function of the average student population.
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The two main drivers of our net revenues are average student population and tuition rates.
Factors affecting our average student population include the number of continuing students and new
students attending our schools at the beginning of a period. We believe that the size of our
student population at our campuses is influenced by a number of factors. These include the number
of individuals seeking post-secondary education, the attractiveness of our program offerings, the
quality of the student experience, the effectiveness of our marketing efforts to reach existing
demand for post-secondary education, the persistence of our students, the number of credit hours
taken by our students, the length of the education programs and our overall educational reputation.
We seek to grow our average student population by offering new programs at existing schools and by
establishing new school locations, whether through new facility start-up or acquisition.
Historically, we have been able to pass along the rising cost of providing quality education
through increases in tuition. Our ability to raise tuition in the future may be limited by the
gainful employment regulation proposed by the U.S. Department of Education which is described below
and limits on the ability of students to obtain financing for tuition and fees in excess of their
ability to obtain federally guaranteed loans, private loans, or make cash payments. Total tuition
and fees typically exceed the amounts of financial aid available for students under all available
government-sponsored aid, including Title IV programs. We have
increased the number of funding options available to
students over the last several years due to significant decreases in the availability of private loans
for students to cover this financing gap. During fiscal 2011, we extended the repayment period for some of the
financing we make available to students to include periods of up to
36 months beyond graduation, which may result in
higher bad debt expense as a percentage of our net revenues.
Net revenues for the three months ended March 31, 2011 increased 12.9% to $754.3 million,
compared to $667.9 million in the same period a year ago. Average student enrollment increased
10.8% in the current quarter compared to the prior year quarter primarily due to the opening of new
school locations, the growth in our fully online programs and the introduction of new academic
programs. In addition, tuition rates increased approximately 4% in the current quarter compared to
the prior year quarter. These factors were partially offset by a lower average credit load taken by
students due to an increase in the number of students enrolled in fully online programs, who
typically take a lesser average credit load than onground students. None of the increase in student
enrollment was due to acquisitions of schools since March 31, 2010.
Educational services expense
Educational services expense consists primarily of costs related to the development, delivery
and administration of our education programs. The major cost components include faculty
compensation, salaries of administrative and student services staff, bad debt expense, adjustments
to the fair value of EFL Loans, costs of educational materials and facility occupancy costs.
Educational services expense increased by $58.6 million, or 18.1%, to $381.7 million in the
current quarter due primarily to the incremental costs incurred to support higher student
enrollment and an adjustment to the fair value of the EFL Loans. As a percentage of net revenues,
educational services expense increased by 222 basis points from the quarter ended March 31, 2010 to
the current quarter.
During the current quarter, we recognized a $13.2 million fair value adjustment on the EFL
Loans, which was ultimately sold to an unrelated third party in
April 2011. This adjustment accounted
for an increase of 176 basis points in educational services expense from the prior year quarter.
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After adjusting for the fair value adjustment on the Education Finance Loan portfolio,
educational services expense increased by 46 basis points in the current quarter compared to the
prior year quarter. Bad debt expense, which excludes fair value adjustments related to the Education Finance Loan portfolio, was $32.2 million, or 4.3% of net revenues, in the
current quarter compared to $28.0 million, or 4.2% of net revenues, in the prior year quarter,
which represented an increase of seven basis
points. The increase in bad debt expense as a percentage of net revenues was primarily due to
larger receivable balances as a result of our assistance with students cost of education through
extended credit terms, higher delinquency rates and an increase in the proportion of our
receivables from out-of-school students, which are reserved for at a higher rate than receivables
from in-school students. The extension of credit to students may result in higher bad debt expense
as a percentage of net revenues in future periods. In addition, salaries and benefits expense
increased by 53 basis points compared to the prior year quarter due primarily to the introduction
of graduation focused teams and the non-term academic structure to support fully online students
at one of our education systems.
Partially offsetting the above costs was a decrease in rent associated with our schools. Rent
expense decreased by 17 basis points as a percentage of net revenues to $46.1 million in the
current quarter from $42.0 million in the prior year quarter. The remaining increase of three
basis points in educational services expense in the current quarter was the result of a net
increase in other costs, none of which were individually significant.
General and administrative expense
General and administrative expense consists of marketing and student admissions expenses and
certain central staff departmental costs such as executive management, finance and accounting,
legal, corporate development and other departments that do not provide direct services to our
students.
General and administrative expense was $190.6 million for the current quarter, an increase of
9.2% from $174.5 million in the prior year quarter. As a percentage of net revenues, general and
administrative expense decreased 86 basis points compared to the quarter ended March 31, 2010.
During the prior year quarter, we implemented a corporate services restructuring plan that was
designed to improve operational efficiencies and to support the growth of our education systems. As
a result of the restructuring plan, we recorded a charge of $5.7 million.
After adjusting for the above item, general and administrative expense increased by two basis
points in the current quarter compared to the prior year quarter. Marketing and admissions costs,
which were $165.4 million in the current quarter compared to $144.4 million in the prior year
quarter, accounting for a 30 basis point increase. There was also an increase in legal and
consulting costs of 24 basis points compared to the prior year quarter, which was the result of an
increase in legal matters related to the current regulatory environment.
Offsetting the above increases was a $4.2 million benefit from the favorable outcome of a
state capital tax matter, representing a decrease of 56 basis points quarter to quarter.
The remaining net increase of four basis points in the current quarter was the result of
increases in other costs, none of which were individually significant.
Depreciation and amortization expense
Depreciation and amortization expense on long-lived assets was $37.1 million in the current
period, an increase of 21.1% from the prior year quarter. As a percentage of net revenues,
depreciation and amortization expense increased 33 basis points compared to the prior year quarter.
Interest expense, net
Net interest expense was $31.5 million in the current quarter, an increase of $3.6 million
from the prior year quarter. The increase is primarily due to the 2.25% increase in the interest
rate margin on the extended portion of the $1.1 billion term loan principal balance as described in
Note 9.
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Loss on extinguishment of debt
In the March 31, 2010 quarter, we extinguished $21.4 million of Senior Subordinated Notes in a
tender offer, which resulted in a loss of $2.4 million.
Provision for income taxes
Our effective tax rate was 35.7% for the three months ended March 31, 2011 as compared to
22.6% for the prior year quarter. During the current quarter, the Company reduced tax expense by
$3.5 million due to the reversal of an uncertain tax liability recorded upon the expiration of
statutes of limitation from the 2007 tax year. During the prior year quarter, the Company reduced
tax expense by $17.9 million due to the reversal of an uncertain tax liability upon the expiration
of statutes of limitation from the 2006 tax year.
After adjusting for these discrete items, our effective tax rate was 38.8% for the quarter
ended March 31, 2011 and 38.9% for the quarter ended March 31, 2010. The effective tax rates
differed from the combined federal and state statutory rates primarily due to valuation allowances,
expenses that are non-deductible for tax purposes, and accounting for uncertain tax positions.
Nine months ended March 31, 2011 (current period) compared to the nine months ended March 31, 2010
(prior period)
All basis point changes are presented as a percentage of net revenues in each period of
comparison.
Net revenues
Net revenues for the nine months ended March 31, 2011 increased 18.0% to $2,192.2 million,
compared to $1,857.8 million in the same period a year ago. Average student enrollment increased
17.0% in the current period compared to the prior period primarily due to the opening of new school
locations, the growth in our fully online programs and the introduction of new academic programs.
In addition, tuition rates increased approximately 4% in the current period compared to the prior
period. These factors were partially offset by a lower average credit load taken by students due to
an increase in the number of students enrolled in fully online programs, who typically take a
lesser average credit load than onground students. None of the increase in student enrollment was
due to acquisitions of schools since March 31, 2010. Tuition revenue generally varies based on the
average tuition charge per credit hour, average credits per student and the average student
population.
Educational services expense
Educational services expense increased by $179.3 million, or
19.2%, to $1,113.4 million in the
current period due primarily to the incremental costs incurred to support higher student
enrollment and adjustments to the fair value of EFL Loans. As a percentage of net revenues, educational services expense increased by 51 basis
points in the current period compared to the prior year period.
During
the current year to date period we recognized $21.4 million in fair value adjustments on the EFL Loans. These
fair value adjustments accounted for an increase of 97 basis points in educational
services expense from the prior year period.
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After adjusting for fair value changes on the EFL Loans, educational services expense
decreased by 46 basis points in the current period compared to the prior year period. Salaries and
benefits expense decreased by 46 basis points from the prior year
nine month period, which was primarily due to operating leverage at existing onground campuses, partially offset by an
increase in these costs for our fully
online programs. We also experienced operating leverage on rent associated with our schools,
which decreased 44 basis points as a percentage of net revenues and was $137.0 million in the
current period and $124.4 million in the prior year period. Other decreases period to period
included a 17 basis point decrease in fees paid to private lenders to originate loans obtained by
our students and insurance costs.
Partially offsetting the above decreases was an increase in bad debt expense. Bad debt
expense, which excludes fair value adjustments to the Education Finance Loan portfolio after it was
designated as a held for sale asset in December 2010, was $105.8 million, or 4.8% of net revenues,
in the current year period compared to $78.6 million, or 4.2% of net revenues, in the prior year
period, which represented an increase of 60 basis points. The increase in bad debt expense as a
percentage of net revenues was primarily due to larger receivable balances as a result of our
assistance with students cost of education through extended credit terms, higher delinquency rates
and an increase in the proportion of our receivables from out-of-school students, which are
reserved for at a higher rate than receivables from in-school students. The extension of our credit
terms to students may result in higher bad debt expense as a percentage of net revenues in future
periods.
The remaining net increase of one basis point in educational services expense in the current
period was the result of a net increase in other costs, none of which were individually
significant.
General and administrative expense
General and administrative expense was $564.3 million for the current nine month period, an
increase of 14.8% from $491.6 million in the prior year period. As a percentage of net revenues,
general and administrative expense decreased 72 basis points compared to the prior year period.
During the nine month period ended March 31, 2010, we incurred non-cash equity-based compensation
expense of $13.1 million in connection with the initial public offering. This expense was
previously deferred due to the existence of certain conditions associated with the options which
were removed upon the completion of the initial public offering. We also incurred $1.0 million of
legal costs and other fees associated with the extinguishment of $337.3 million of Senior
Subordinated Notes. Further, in March 2010 we implemented a corporate services restructuring plan
designed to improve operational efficiencies and to support the growth of our education
systems. As a result of the restructuring plan, we recorded a charge of $5.7 million.
After adjusting for the above costs, general and administrative expense increased by 35 basis
points in the current nine month period compared to the prior year period. The majority of the
increase was due to a 41 basis point increase in legal and consulting costs compared to the prior
year period, which was the result of an increase in legal matters related to the current regulatory
environment. There was also an increase in total marketing and admissions costs of eight basis
points, which were approximately 22.0% of net revenues in both periods presented.
The above costs were partially offset by a $4.2 million benefit we recorded due to the
favorable outcome of a state capital tax matter, representing a decrease of 19 basis points.
The remaining net increase of five basis points in the current year period was the result of
increases in other costs, none of which were individually significant.
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Management fees paid to affiliates
During the nine-month period ended March 31, 2010, management fees paid to affiliates
consisted of the pro-rata portion of the $5.0 million annual fee paid to the Sponsors through
December 31, 2009 under an agreement executed in connection with the Transaction and a
non-recurring fee of $29.6 million to terminate the agreement which was paid at the time of the
initial public offering. No management fees were paid in fiscal 2011.
Depreciation and amortization expense
Depreciation and amortization expense on long-lived assets was $107.5 million in the current
period, an increase of 21.0% from the prior period. As a percentage of net revenues, depreciation
and amortization expense increased 12 basis points compared to the prior year period.
Interest expense, net
Net interest expense was $87.5 million in the current period, a decrease of $7.2 million from
the prior year period. The decrease in net interest expense is primarily related to a lower
principal amount outstanding on the Senior Subordinated Notes as a result of the early retirement
of $337.3 million of these notes during fiscal 2010, partially offset by an increase in interest
expense due to
the 2.25% increase in the interest rate margin on the extended
portion of the $1.1 billion term loan principal balance as described
in Note 9 to the accompanying consolidated financial statements.
Loss on extinguishment of debt
On December 7, 2010, we finalized an agreement to amend and extend our senior secured credit
facilities. The amendment was accounted for as an extinguishment of the original term loan. As a
result, we recorded a loss on extinguishment of debt of $8.4 million. This loss included $5.1
million of previously deferred financing fees that were being amortized through the original
maturity date and $3.3 million in fees paid to lending institutions to complete the debt amendment.
In
the prior year nine-month period, we extinguished $337.3 million of Senior Subordinated
Notes in two tender offer transactions at a premium of $41.6 million. We also accelerated
recognition of $5.6 million of amortization on the deferred financing fees related to these notes,
resulting in a loss on extinguishment of debt of $47.2 million.
Provision for income taxes
Our effective tax rate was 37.4% for the nine months ended March 31, 2011 as compared to 28.7%
for the prior year period. During the current nine month period, the Company reduced tax expense
by $3.5 million due to the reversal of an uncertain tax position upon the expiration of statutes of
limitation from the 2007 tax year. During the prior year nine month period, the Company reduced tax
expense by $17.9 million due to the reversal of an uncertain tax position upon the expiration of
statutes of limitation from the 2006 tax year.
After adjusting for these discrete items, our effective tax rate was 38.6% for the nine month
period ended March 31, 2011 and 39.3% for the nine month period ended March 31, 2010. The
effective tax rates differed from the combined federal and state statutory rates primarily due to
valuation allowances, expenses that are non-deductible for tax purposes, and accounting for
uncertain tax positions.
Liquidity and Funds of Capital Resources
We had cash and cash equivalents of $613.2 million at March 31, 2011, all of which was
invested in highly liquid investments with maturities of three months or less. Our cash balances
tend to be higher at the end of our first and third fiscal quarters than at the end of our second
and fourth fiscal quarters due to the timing of receipts of students federal aid. We finance our
operating activities primarily from cash generated from operations. Our primary source of cash is
tuition collected from our students. We believe that cash flow from operations, supplemented from
time to time with borrowings under our $442.5 million revolving credit facility, will provide
adequate funds for ongoing operations, planned expansion to new locations, planned capital
expenditures, debt service and acquisitions during the next twelve months.
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Operating cash flows
Cash flow from operations for the nine month period ended March 31, 2011 was $513.8 million,
compared to $340.2 million in the prior year period, which included a non-recurring $29.6 million
outflow to terminate a management agreement with the Sponsors in connection with the initial public
offering. The increase in operating cash flows as compared to the prior year period was primarily
related to improved operating performance and an increase in cash received ahead of our April
academic term start due to more timely processing of Direct Loans in the current year. In
addition, The Art Institutes academic start for the April term was one day earlier in the current
year, which enabled us to collect more cash ahead of the term in the current quarter.
We calculate days sales outstanding (DSO) by dividing net student and other receivables at
period end by average daily net revenues for the most recently completed quarter. DSO in net
receivables increased slightly to 15.8 days
for the quarter ended March 31, 2011
from 15.1 days for the quarter ended March 31, 2010 due
primarily to our increased assistance with students cost of education through extended credit
terms, partially offset by more timely processing of Title IV aid. The extension of credit to our
students, which helps fund the difference between our total tuition and fees and the amount covered
by government sponsored aid, including amounts awarded under Title IV programs, private loans
obtained by students, and cash payments by students, has increased over the last several years due
to significant decreases in availability of private loans for students to cover this financing gap.
During fiscal 2011, we extended the repayment period for some of the financing we make available to
students to include periods of up to 36 months beyond graduation, which may result in higher bad
debt expense as a percentage of our net revenues and an increase in our DSO if students continue to
utilize this funding source. Since the extended payment plans are not federal student loans,
these plans will not directly affect our published student loan default rates; however, there may
be an indirect negative impact to default rates as students may have more total debt upon
graduation.
The level of accounts receivable reaches a peak immediately after the billing of tuition and
fees at the beginning of each academic period. Collection of these receivables is heaviest at the
start of each academic period. Additionally, federal financial aid proceeds for continuing students
can be received up to ten days prior to the start of an academic term, which can result in
fluctuations in quarterly cash receipts due to the timing of the start of academic terms. Net
accounts receivable can be affected significantly by the changes in the start dates of academic
terms from reporting period to reporting period. There were no significant changes to the start
dates of academic terms in session as compared to the prior year period.
We introduced the Education Finance Loan program in August 2008, which enabled students who
had exhausted all available government-sponsored or other aid and had been denied a private loan to
borrow a portion of their tuition and other educational expenses at our schools if they or a
co-borrower met certain eligibility and underwriting criteria. We purchased loans totaling $23.9
million during the nine-month period ended March 31, 2011 related to the Education Finance Loan
program. On April 14, 2011, we sold all loans under the
EFL program for proceeds of $44.4 million to an unrelated third party. As such, we have no future
obligations to purchase additional loans from the private lender under the program.
We have accrued a total of $5.3 million as of March 31, 2011 for uncertain tax positions,
excluding interest and the indirect benefits associated with state income taxes. We may have cash
payments in future periods relating to the amount accrued if we are ultimately unsuccessful in
defending these uncertain tax positions. However, we cannot reasonably predict at this time the
future period in which these payments may occur, if at all.
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Investing cash flows
Capital expenditures were $106.3 million, or 4.8% of net revenues, for the nine month period
ended March 31, 2011 compared to $119.8 million, or 6.4% of net revenues, for the prior year
period. We expect capital expenditures in fiscal 2011 to approximate 5.0% of net revenues,
compared to 7.0% of net revenues in fiscal 2010. The anticipated decrease in capital expenditures
is primarily due to a reduced number of new schools opening in the current year as a result of
uncertainty in the regulatory environment.
Reimbursements for tenant improvements represent cash received from lessors based on the terms
of lease agreements to be used for leasehold improvements and reduce capital expenditures. We lease
most of our facilities under operating lease agreements. We anticipate that future commitments on
existing leases will be satisfied from cash provided from operating activities. We also expect to
extend the terms of leases that will expire in the near future or enter into similar long-term
commitments for comparable space.
Financing cash flows
As a result of the Transaction, we are highly leveraged and our debt service requirements are
significant. At March 31, 2011, we had $1,529.6 million in aggregate indebtedness outstanding. We
expect our cash flows from operations, combined with availability under our revolving credit
facility, to provide sufficient liquidity to fund our current obligations, projected working
capital requirements and capital spending over the next twelve months.
On December 7, 2010, we finalized an agreement to amend and extend our senior secured credit
facilities, which include a $442.5 million revolving credit facility and a $1.1 billion term loan.
Under the agreement, lenders providing $328.3 million, or 74% of the current capacity, under the
revolving credit facility extended their commitments from June 1, 2012 to June 1, 2015 at a new
interest rate of LIBOR + 4.0%. In addition, holders of an aggregate $758.7 million, or 68%, of the
term loan agreed to extend the maturity date from June 1, 2013 to June 1, 2016 and increase the
interest rate on these borrowings from LIBOR + 1.75% to LIBOR + 4.0%. Lenders who did not extend
will continue to be paid interest based on the margin spreads in place prior to the amendment.
We may borrow up to $442.5 million on our revolving credit facility in order to fund working
capital needs that may result from the seasonal pattern of cash receipts that occur throughout the
year, issue letters of credit and, when necessary, satisfy certain year-end regulatory
requirements. We did not draw on the revolving credit facility in fiscal 2010 or in the nine month
period ended March 31, 2011.
We may issue up to $425.0 million of letters of credit under the revolving credit facility,
which reduce our availability to borrow funds under the facility. At March 31, 2011, an aggregate
of $280.8 million in letters of credit were outstanding, and at April 30, 2011, an aggregate of
$367.5 million in letters of credit were outstanding. The largest of these is with the U.S.
Department of Education, which requires us to maintain a letter of credit due to our failure to
satisfy certain regulatory financial ratios after giving effect to the Transaction. At April 30,
2011, the amount of the letter of credit was set at 15% of the total Title IV aid received by
students attending our institutions in fiscal 2010. We had $75.0 million of additional borrowings
available under the revolving credit facility at April 30, 2011 after giving effect to outstanding
letters of credit.
In June 2010, our Board of Directors approved a $50.0 million stock repurchase program which
was increased to $150.0 million in December 2010 and to $250.0 million in March 2011. The stock
repurchase program terminates on December 31, 2011 if the amount allocated to the program is not
used to repurchase shares prior to such date. Under the terms of the program, we may make
repurchases in the open market, in privately negotiated transactions, through accelerated
repurchase programs or in structured share repurchase programs. We are not obligated to acquire any
particular amount of common stock, and the program may be modified or suspended at any time at our
discretion. We have repurchased 9.3 million shares of our common stock for $140.6 million through
March 31, 2011. Approximately $109.4 million remained available under the program for future stock
repurchases at March 31, 2011.
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In November 2009, EDMC guaranteed the Notes issued by EM LLC and Education Management Finance
Corp. At March 31, 2011, an aggregate of $422.7 million of Notes was outstanding. We do not
expect this guarantee will adversely affect our liquidity within the next twelve months or restrict
our ability to declare dividends or incur additional indebtedness in the future.
In October 2009, we consummated an initial public offering of 23.0 million shares of our
common stock for net proceeds of approximately $387.3 million. The proceeds were primarily used to
purchase a
face value of $316.0 million of the Senior Subordinated Notes in a tender offer for $355.5
million and to pay a termination fee of $29.6 million under a management agreement entered into
with the Sponsors in connection with the Transaction. In addition, we purchased Senior Subordinated
Notes with a face value of approximately $21.3 million through a tender offer during the quarter
ended March 31, 2010.
On
April 29, 2011, we notified the Trustee of our intention to call the remaining $47.7
million of the Senior Subordinated Notes on June 1, 2011 for a price of 105.125%. The premium of
$2.4 million and remaining amortization on related deferred financing fees of $0.6 million will be
recorded as a loss on extinguishment of debt in the fourth quarter of
fiscal 2011.
We may from time to time use cash on hand to retire or purchase our outstanding debt through
open market purchases, privately negotiated transactions or otherwise. Such repurchases, if any,
will depend on prevailing market conditions, our liquidity requirements, contractual restrictions
and other factors. The amounts involved may be material.
Federal Family Education Loan Program, Direct Loans, Private Student Loans and Extension of
Credit to Our Students
Approximately 89.3% and 4.5% of our net revenues were indirectly derived from Title IV
programs under the HEA and private loan programs, respectively, in fiscal 2010 compared to 81.3%
and 13.0% from Title IV programs and private loan programs, respectively, in fiscal 2009.
The reliance by students attending our schools on private loans decreased substantially during
the last two fiscal years due to the increased availability of federal aid and adverse market
conditions for consumer student loans. However, this trend was partially offset by increased
extension of credit to our students as well as the introduction of the Education Finance Loan
program described below. The extension of credit to our students for periods of up to 36 months
beyond graduation will likely result in higher bad debt expense as a percentage of net revenues in
the future.
In August 2008, we introduced the Education Finance Loan program, which enabled students who
had exhausted all available government-sponsored or other aid and had been denied a private loan to
borrow a portion of their tuition and other educational expenses at our schools not covered by
other financial aid sources if they or a co-borrower met certain eligibility and underwriting
criteria. Under the program, we purchased loans made by a private lender to students who attend our
schools. In April 2011, we sold the Education Finance Loans portfolio and have no future
obligations to purchase additional loans from the private lender under the program. During the first nine months of fiscal 2011 and all of fiscal 2010,
loans to students under the Education Finance Loan program represented approximately 0.6% and 2.6%
of our net revenues, respectively.
While we are taking steps to address the private loan needs of our students, the consumer
lending market could worsen. The inability of our students to finance their education could cause
our student population to decrease, which could have a material adverse effect on our financial
condition, results of operations and cash flows.
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Regulatory Environment
The U.S. Department of Education published Notices of Proposed Rulemaking (NPRM) in the
Federal Register on June 18, 2010 and July 26, 2010 pursuant to which it proposed to amend certain
regulations under the HEA governing federal student financial assistance programs under Title IV of
the HEA (Title IV programs), including the William D. Ford Federal Direct Loan (Direct Loan)
program and the Federal Pell Grant (Pell) program. The NPRMs were preceded by negotiated
rulemaking sessions in which the U.S. Department of Education consulted with members of the higher
education community to discuss issues and attempt to agree on regulatory revisions to address those
issues. The NPRMs addressed 14 program integrity areas, including, among other things, eliminating the
current safe harbors addressing types of activities and payment arrangements of certain persons and
entities involved in student recruiting and other activities, implementing a definition of gainful
employment with which each educational program
offered by for-profit institutions would be required to comply in order to participate in
Title IV programs, revising and expanding the activities that constitute a substantial
misrepresentation, requiring states to legally authorize institutions through a state governmental
agency or entity and requiring those authorizations to meet certain minimum requirements, imposing
limitations on agreements between related institutions, and defining a credit hour.
The U.S. Department of Education published final regulations in the Federal Register on
October 29, 2010 for all areas addressed by the NRPMs except for the eligibility of existing
programs portion of the proposed gainful employment regulation. With respect to gainful employment,
the final regulations only addressed requirements for approvals of new educational programs and
disclosure and reporting required for educational programs. The majority of the new regulations
take effect on July 1, 2011. The U.S. Department of Education has indicated that the final gainful
employment regulation establishing new criteria for Title IV program eligibility will likely be
published in May 2011, with an effective date of July 1, 2012, which is consistent with the date
published in the gainful employment NPRM. The proposed gainful employment regulation included in
the second NPRM would result in the ineligibility of any program in which (i) students who attended
the program have annual loan repayment rates on Federal Family Education Loan Program loans and
Direct loans of less than 35%, and (ii) students who completed the program have an assumed
debt-to-income ratio that is greater than 30% of their discretionary income and greater than 12% of
their assumed average annual earnings. The proposed regulation would also impose growth
restrictions and warning requirements and employer affirmation restrictions for programs that do
not meet certain minimum debt-to-income ratios and loan repayment rates.
The final regulations adopted by the U.S. Department of Education make significant changes to
certain of the current regulatory requirements, including the following:
| Elimination of the 12 safe harbors for types of activities and payment arrangements of certain persons and entities involved in student recruiting and other activities that an institution may carry out without violating the HEAs prohibition on the payment of incentive compensation to these persons and entities. The regulation prohibits an institution from providing a commission, bonus or other incentive payment, defined as a sum of money or something of value, other than a fixed salary or wages, to any person or entity engaged in any student recruitment or admission activity or in making decisions regarding the awarding of Title IV program funds, if the commission, bonus or incentive payment is based directly or indirectly, in whole or in part, upon success in securing enrollments or the award of financial aid. The ban on incentive compensation does not prohibit adjustments to employee compensation provided that the adjustments are not based directly or indirectly upon success in securing student enrollments or the award of financial aid. In March 2011, the U.S. Department of Education published additional guidance on the new incentive compensation rules. During the third quarter of fiscal 2011 we completed the implementation of a new compensation plan for our admissions representatives in response to the new regulations. The U.S. Department of Education also has stated that it will not review individual schools compensation plans prior to their implementation. The new compensation plan for our admissions representatives could adversely affect our ability to compensate our admissions representatives and other employees in a manner that appropriately reflects their job performance, which in turn could reduce their effectiveness and make it more difficult to recruit students and attract and retain qualified and competent admissions representatives. |
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| Requiring notice to the U.S. Department of Education at least 90 days prior to the first day of class for a new academic program, including an accompanying application describing how the institution determined the need for the program, how the program was designed to meet local market needs (or regional or national market needs for online programs), how the program was reviewed, approved or developed by or with business advisory committees or other listed entities, documentation of accrediting approval, and the anticipated first day of class. An institution that provides at least 90 days prior notice is permitted to offer the new program to students unless the U.S. Department of Education informs the institution at least 30 days prior to the start of the first class that it must approve the new program before it may be added to the institutions Title IV Program eligibility. If it decides it must approve the new programs, the U.S. Department of Education may require additional information to be submitted by the institution. Factors considered by the U.S. Department of Education when determining whether to approve the new programs include the financial responsibility and administrative capacity of the institution, whether the new program is one of several new programs that will replace programs currently offered by the institution, whether the number of additional educational programs being added is inconsistent with the institutions historic program offerings, growth, and operations, and the sufficiency of the process undertaken by the institution to determine whether the new program will lead to gainful employment in a recognized occupation. During fiscal 2010, we developed eight academic programs not previously offered at any of our institutions and introduced over 230 academic programs to institutional locations that had not previously offered them. Under the new regulation, all academic programs offered for the first time at an institution will require notice to the U.S. Department of Education. Any delay in obtaining program approvals from the U.S. Department of Education could adversely impact our ability to serve new students and revise our programs to meet new areas of interest and respond to changing regulatory requirements, which could have a material adverse effect on our business, financial condition and results of operations. | ||
| Revising the provisions regarding misrepresentation to expand what may constitute substantial misrepresentation by an institution, including statements about the nature of its educational programs, its financial charges or the employability of its graduates. Under the new regulations, any false, erroneous, or misleading statement, or statement that has the likelihood or tendency to deceive or confuse, that an institution, one of its representatives, or person or entity with whom the institution has an agreement to provide educational programs, marketing, advertising, recruiting or admissions services, makes directly or indirectly to a student, prospective student, any member of the public, an accrediting agency, a state licensing agency or the U.S. Department of Education could be deemed a misrepresentation by the institution. In the event that the U.S. Department of Education determines that an institution engaged in a substantial misrepresentation, it can revoke the institutions program participation agreement, impose limitations on the institutions participation in Title IV programs, deny participation applications on behalf of the institution, or seek to fine, suspend or terminate the institutions participation in Title IV programs. The new regulation could create an expanded role for the U.S. Department of Education in monitoring and enforcing prohibitions on misrepresentation, as well as encourage private litigants to seek to enforce the expanded regulations through False Claims Act litigation, which could have a material adverse effect on our business, financial condition and results of operations. | ||
| Requiring an institution of higher education to be legally authorized in the state in which it is physically located and establishing new requirements for establishing the adequacy of the authorization through one of several prescribed options, including, for example, demonstrating that the institution is established by name as an educational institution by the state through a charter, statute, constitutional provision or other action issued by a state governmental agency or entity and is authorized to operate educational programs beyond secondary education, provided that the state has a process to review and act on complaints concerning institutions and enforce applicable state laws and that the institution complies with any applicable state approval or licensure requirements. The new state authorization regulations also require an institution offering fully online classes to students in a state where it is not physically located, or in which it is otherwise subject to the states jurisdiction as determined by the state, to meet any state requirements for it to legally offer postsecondary education in that state. The regulations state that an institution must be able to document the states approval to the U.S. Department of Education upon request. We currently offer fully online programs through three of our institutions to students located across the country. In April 2011, 41,000 students, or 27.8% of all students attending our schools, were enrolled in fully online programs. |
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As a result, these new regulations may require some of our schools and/or programs to secure additional state consents or modify existing offerings as of July 1, 2011. Furthermore, certain states that previously approved or exempted some of our schools may be required to revise existing oversight and licensure processes to ensure existing approvals and exemptions comply with the U.S. Department of Educations new expectations. In March and April 2011, the U.S. Department of Education published two Dear Colleague letters providing additional guidance on the state authorization requirements. With respect to states in which an institution is not physically located but in which students are offered fully online programs by the institution, the U.S. Department of Education stated that it would not initiate any action to establish repayment liabilities or limit student eligibility for distance education activities undertaken before July 1, 2014, so long as the institution is making good faith efforts to identify and obtain any necessary state authorizations before that date. If a state has no applicable regulation or law, then the U.S. Department of Education has stated that no action on the part of the institution is required. However, the U.S. Department of Education has stated that it will carefully review instances where an institution may not be acting in good faith, such as where documents show an institution knew of a state requirement and willfully refused to comply with it. With respect to states in which an institution is physically located, the U.S. Department of Education stated in the preamble to the final regulations that schools can apply for an extension of the July 1, 2011 deadline if it is unable to obtain state authorization in that state, but that the institution must obtain from the state an explanation of how an extension will permit the state to modify its procedures to comply with the amended state authorization regulations. | |||
We are reviewing existing authorizations and operations in all states to ensure all of our institutions comply with the new expectations for both onground schools and fully online programs. In addition, we have been seeking written confirmation from states regarding the applicability of standards based on current or expected conduct, submitting additional applications for authorization or exemption, and identifying states with oversight and/or approval processes that may not meet the U.S. Department of Educations expectations for state authorization after July 1, 2011. We anticipate that this project will be completed in advance of the July 1 implementation date. | |||
We cannot predict with certainty how all of the new state authorization regulations will be interpreted and implemented, nor can we predict with certainty how the new regulations will be interpreted and implemented by the U.S. Department of Education, but if we are unable to satisfactorily document the necessary state authorizations, or if states are unable or unwilling to revise existing processes to comply with new requirements by the U.S. Department of Education, certain programs or campuses may no longer be eligible for participation in Title IV programs, which could have a material adverse effect on our business, financial condition and results of operations. | |||
| Limiting the percentage of an enrolling institutions (the home institution) program that could be provided by another institution if the institutions have a common, for-profit parent. The new regulations prohibit students who attend a home institution which is not authorized to offer online programs from taking more than 50% of their program from one of our three institutions that offer fully online programs even if an agreement exists the two schools approved by the home institutions accrediting agency. We are assessing the impact of this new regulation on our Art Institutes, some of which have students who take online classes offered by The Art Institute of Pittsburgh, which is authorized to offer fully online programs. |
In addition to the new regulations addressed above, the final regulations issued by the U.S.
Department of Education include provisions regarding the definition of a credit hour as it relates to degree and certain non-degree programs; circumstances under which the U.S. Department of Education
will treat a clock hour program as a credit hour program for Title IV program purposes; student attendance requirements; proof of high
school graduation; requirements regarding an institutions return of Title IV program funds; and
certain other issues, including satisfactory academic performance and verification of student financial data, pertaining to a students eligibility to receive Title IV program funds. We
cannot predict with certainty how the recently released or any other resulting regulations will be
interpreted. Our inability to comply with the final regulations by the effective date of the
regulations could have a material adverse effect on our business. Uncertainty surrounding the
application of the final rules, interpretive regulations, and guidance from the U.S. Department of
Education may continue for some period of time and could reduce our enrollment, increase our cost
of doing business, adversely impact our stock price due to investor
uncertainty, and have a material adverse effect on our business, financial condition, results
of operations and cash flows.
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We are in the process of reviewing the proposed regulations to determine their potential
impacts to the Company, our institutions, and the academic programs we offer. As part of this
review, we are considering whether the goodwill at any of our reporting units has been impaired.
Based on all information currently available to us, including the significant excess of estimated
fair value over carrying value at our last annual impairment testing date of April 1, 2010, we do
not believe that it is more likely than not that any of our reporting units has a fair value below
its carrying value at March 31, 2011. Consequently, we do not believe a triggering event has
occurred, and we have not completed an interim impairment analysis.
For additional information refer to Item 7
Managements Discussion and Analysis of Financial Condition and Results of Operations Use of
Estimates and Critical Accounting Policies Impairment of Goodwill and Indefinite-Lived
Intangible Assets contained within our Annual Report on Form 10-K for the fiscal year ended June
30, 2010.
Regulatory Oversight
The U.S. Department of Education is required to conduct periodic recertification reviews to determine
whether to renew the eligibility and certification of every institution participating in Title IV
programs. Generally such reviews occur every six years, although it typically occurs after three
years for an institution on provisional certification. A denial of renewal of certification
precludes a school from continuing to participate in Title IV programs. Currently all of our
schools are operating under a Provisional Program Participation Agreement with the U.S. Department
of Education.
In addition, the U.S. Department
of Education and its Office of Inspector General may conduct program
reviews or audits, respectively, of our institutions participation
in Title IV programs. During fiscal 2010, the U.S. Department of Education performed program reviews of three of our
institutions, all of which are fully resolved. Additional program reviews were performed at five of
our institutions during the first nine months of fiscal 2011. Of the five reviews in fiscal 2011,
one is fully resolved, and we have not received initial reports for
three other reviews. We do not anticipate the results of any of the reviews to have a material impact to our financial position, results of
operations or cash flows.
Contingencies
See Note 13, Contingencies, to the Consolidated Financial Statements set forth in Part I, Item
1 of this Quarterly Report on Form 10-Q.
New Accounting Standards Not Yet Adopted
None.
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Non-GAAP Financial Measures
EBITDA, a measure used by management to measure operating performance, is defined as net
income plus interest expense, net, loss on extinguishment of debt, provision for income taxes and
depreciation and amortization. EBITDA is not a
recognized term under GAAP and does not purport to be an alternative to net income as a measure of
operating performance or to cash flows from operating activities as a measure of liquidity.
Additionally, EBITDA is not intended to be a measure of free cash flows available for managements
discretionary use, as it does not consider certain cash requirements such as interest payments, tax
payments and debt service requirements. Our obligations to make interest payments and our other
debt service obligations have increased substantially as a result of the indebtedness incurred to
finance the Transaction and to pay related expenses in June 2006. Management believes EBITDA is
helpful in highlighting trends because EBITDA excludes the results of decisions that are outside
the control of operating management and can differ significantly from company to company depending
on long-term strategic decisions regarding capital structure, the tax jurisdictions in which
companies operate and capital investments. Management compensates for the limitations of using
non-GAAP financial measures by using them to supplement GAAP results to provide a more complete
understanding of the factors and trends affecting the business than GAAP results alone. Because not
all companies use identical calculations, these presentations of EBITDA may not be comparable to
other similarly titled measures of other companies. EBITDA is calculated as follows (in millions):
For the Three Months | For the Nine Months | |||||||||||||||
Ended March 31, | Ended March 31, | |||||||||||||||
2011 | 2010 | 2011 | 2010 | |||||||||||||
Net income |
$ | 73.0 | $ | 84.6 | $ | 194.7 | $ | 120.6 | ||||||||
Interest expense, net |
31.5 | 27.9 | 87.5 | 94.7 | ||||||||||||
Loss on extinguishment of debt (1) |
0.0 | 2.4 | 8.4 | 47.2 | ||||||||||||
Provision for income taxes |
40.4 | 24.7 | 116.4 | 48.6 | ||||||||||||
Depreciation and amortization |
37.1 | 30.7 | 107.5 | 88.9 | ||||||||||||
EBITDA |
$ | 182.0 | $ | 170.3 | $ | 514.5 | $ | 400.0 | ||||||||
(1) | The amendment of the term loan on December 7, 2010 was accounted for as an extinguishment of the original term loan, which resulted in a loss on extinguishment of debt of $8.4 million in the nine months ended March 31, 2011. Additionally, during the nine months ended March 31, 2010, we purchased Senior Subordinated Notes with a total face value of approximately $337.3 million through two tender offer transactions. As the Senior Subordinated Notes were purchased at a premium, we recorded losses of $2.4 million and $47.2 million in the three and nine months ended March 31, 2010, respectively, on their extinguishment. |
Covenant Compliance
Under its senior secured credit facilities, our subsidiary, Education Management LLC, is
required to satisfy a maximum total leverage ratio, a minimum interest coverage ratio and other
financial conditions tests. As of March 31, 2011, it was in compliance with the financial and
non-financial covenants. Its continued ability to meet those financial ratios and tests can be
affected by events beyond our control, and we cannot assure you that it will meet those ratios and
tests in the future.
Adjusted EBITDA is a non-GAAP measure used to determine our compliance with certain covenants
contained in the indentures governing the Notes and in the credit agreement governing our senior
secured credit facilities. Adjusted EBITDA is defined as EBITDA further adjusted to exclude unusual
items and other adjustments permitted in calculating covenant compliance under our senior secured
credit facilities and the indentures governing the Notes. We believe that the inclusion of
supplementary adjustments to EBITDA applied in presenting Adjusted EBITDA is appropriate to provide
additional information to investors to demonstrate compliance with our financial covenants.
The breach of covenants in the credit agreement governing our senior secured credit
facilities that are tied to ratios based on Adjusted EBITDA could result in a default under that
agreement, in which case the lenders could elect to declare all borrowed amounts immediately due
and payable. Any such acceleration also would result in a default under the indentures governing
the Notes. Additionally, under the credit agreement governing our senior secured credit facilities
and the indentures governing the Notes, our subsidiaries ability to engage in activities, such as
incurring additional indebtedness, making investments and paying dividends or other distributions,
is also tied to ratios based on Adjusted EBITDA.
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Adjusted EBITDA does not represent net income or cash flows from operations as those
terms are defined by GAAP and does not necessarily indicate whether cash flows will be sufficient
to fund cash needs. In addition, unlike GAAP measures such as net income and earnings per share,
Adjusted EBITDA does not reflect the impact of our obligations to make interest payments on our
other debt service obligations, which have increased substantially as a result of the indebtedness
incurred in June 2006 to finance the Transaction and related expenses. While Adjusted EBITDA and
similar measures frequently are used as measures of operations and the ability to meet debt service
requirements, these terms are not necessarily comparable to other similarly titled captions of
other companies due to the potential inconsistencies in the method of calculation. Adjusted EBITDA
does not reflect the impact of earnings or charges resulting from matters that we may consider not
to be indicative of our ongoing operations. In particular, the definition of Adjusted EBITDA in our
senior credit facilities and the indentures governing the Notes allows us to add back certain
non-cash, extraordinary, unusual or non-recurring charges that are deducted in calculating net
income. However, these are expenses that may recur, vary greatly and are difficult to predict.
Further, our debt instruments require that Adjusted EBITDA be calculated for the most recent four
fiscal quarters. As a result, the measure can be affected disproportionately by a particularly
strong or weak quarter. Further, it may not be comparable to the measure for any subsequent
12-month period or any complete fiscal year.
The following is a reconciliation of net income, which is a GAAP measure of operating results,
to Adjusted EBITDA for Education Management LLC as defined in its debt agreements. The terms and
related calculations are defined in the senior secured credit agreement (in millions).
For the 12 month period | ||||
ended March 31, 2011 | ||||
Net income |
$ | 242.7 | ||
Interest expense, net |
114.4 | |||
Loss on extinguishment of debt |
8.4 | |||
Provision for income taxes |
149.5 | |||
Depreciation and amortization |
142.0 | |||
EBITDA |
657.0 | |||
Reversal of impact of unfavorable leases (1) |
(0.5 | ) | ||
Severance and relocation |
7.3 | |||
Capital taxes |
(1.7 | ) | ||
Non-cash compensation (2) |
9.9 | |||
Adjusted EBITDA Covenant Compliance |
$ | 672.0 | ||
(1) | Represents non-cash reduction to rent expense due to the amortization on $7.3 million of unfavorable lease liabilities resulting from fair value adjustments required under purchase accounting as part of the Transaction. | |
(2) | Represents non-cash expense for stock options and restricted stock. |
Our
covenant requirements and actual ratios for the 12 month period ended March 31, 2011 are as follows:
Covenant | Actual | ||||||
Senior secured credit facility | Requirements | Ratios | |||||
Adjusted EBITDA to Consolidated Interest Expense ratio |
Minimum of 2.30 | x | 5.65 | x | |||
Consolidated Total Debt to Adjusted EBITDA ratio |
Maximum of 4.50 | x | 1.44 | x |
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Certain Risks and Uncertainties
Certain of the matters we discuss in this report may constitute forward-looking statements.
Forward-looking statements contain words such as believes, expects, may, will, should,
seeks, approximately, intends, plans, estimates, or anticipates or similar expressions
which concern our strategy, plans or intentions. All statements we make relating to estimated and
projected earnings, margins, costs, expenditures, cash flows, growth rates and financial results
are forward-looking statements. In addition, from time to time we make forward-looking public
statements concerning our expected future operations and performance and other developments. All of
these forward-looking statements are subject to risks and uncertainties that may change at any
time, and, therefore, our actual results may differ materially from those that we expected. We
derive most of our forward-looking statements from our operating budgets and forecasts, which are
based upon many detailed assumptions. While we believe that our assumptions are reasonable, we
caution that it is very difficult to predict the impact of known factors, and, of course, it is
impossible for us to anticipate all factors that could affect our actual results. Some of the
factors that we believe could affect our results include:
| compliance with extensive federal, state and accrediting agency regulations and requirements; |
| our ability to maintain eligibility to participate in Title IV programs; |
| government and regulatory changes including revised interpretations of regulatory requirements that affect the postsecondary education industry and new regulations currently proposed by the U.S. Department of Education; |
| regulatory and accrediting agency approval of transactions involving a change of ownership or control or a change in our corporate structure; |
| damage to our reputation or our regulatory environment caused by actions of other for-profit institutions; |
| availability of private loans for our students; |
| effects of a general economic slowdown or recession in the United States or abroad; |
| disruptions in the credit and equity markets worldwide; |
| difficulty in opening additional schools and expanding online academic programs; |
| our ability to improve existing academic programs or to develop new programs on a timely basis and in a cost effective manner; |
| failure to effectively market and advertise to new students; |
| decline in the overall growth of enrollment in post-secondary institutions; |
| our ability to manage our substantial leverage; |
| compliance with restrictions and other terms in our debt agreements, some of which are beyond our control; |
| our ability to keep pace with changing market needs and technology; |
| our ability to raise additional capital in the future in light of our substantial leverage; |
| our ability to effectively manage our growth; |
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| capacity constraints or system disruptions to our online computer networks; |
| the vulnerability of our online computer networks to security risks; |
| failure to attract, retain and integrate qualified management personnel; |
| our ability to integrate acquired schools; |
| inability to operate schools due to a natural disaster; |
| competitors with greater resources; |
| risks inherent in non-domestic operations; and |
| the other factors set forth under Risk Factors in our Annual Report on Form 10-K. |
We caution you that the foregoing list of important factors may not contain all of the material
factors that are important to you. In addition, in light of these risks and uncertainties, the
matters referred to in the forward-looking statements contained in this Form 10-Q may not in fact
occur. We undertake no obligation to publicly update or revise any forward-looking statement as a
result of new information, future events or otherwise, except as otherwise required by law.
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ITEM 3. | QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK |
We are exposed to market risks in the ordinary course of business that include fluctuations in
the value of the Canadian dollar relative to the U.S. dollar. Due to the size of our Canadian
operations relative to our total business, we do not believe we are subject to material risks from
reasonably possible near-term changes in exchange rates and do not utilize forward or option
contracts on foreign currencies.
The fair values of cash and cash equivalents, accounts receivable, borrowings under our
revolving credit facility, accounts payable and accrued expenses approximate carrying values
because of the short-term nature of these instruments.
At March 31, 2011, we had total debt obligations of $1,529.6 million, including $1,106.1
million of variable rate debt under the senior secured credit facility, at a weighted average
interest rate of 7.6%. A hypothetical change of 1.25% in interest rates from March 31, 2011 levels
would have increased or decreased interest expense by approximately $3.3 million for the variable
rate debt in the nine month period ended March 31, 2011.
Two five-year interest rate swap agreements fix the interest rate on $750.0 million of our
variable rate debt through July 1, 2011. At March 31, 2011, we had variable rate debt of $356.1
million that was subject to market rate risk, as our interest payments fluctuated as a result of
market changes. Under the terms of the interest rate swaps, we receive variable payments based on
the three-month LIBOR and make payments based on a fixed rate of 5.4%. The net receipt or payment
from the interest rate swap agreements is recorded in interest expense. The interest rate swaps are
designated as and qualify as cash flow hedges. The derivative financial instruments are carried at
fair value, which is based on the framework discussed in Note 10 to the accompanying consolidated
financial statements. We do not use derivative instruments for trading or speculative purposes.
For the nine-month period ended March 31, 2011, we recorded a net change in interest rate
swaps of $15.3 million, net of tax, in other comprehensive income consisting of an $17.8 million
reclassification into earnings partially offset by a reduction of $2.5 million due to a periodic
revaluation. The cumulative unrealized loss of $6.0 million, net of tax, at March 31, 2011 related
to the swaps may be recognized in the consolidated statement of operations if these instruments
fail to meet certain cash flow hedge requirements, which include a change in certain terms of the
senior secured credit facilities or the extinguishment or termination of the senior secured credit
facilities or swap agreements prior to maturity.
On April 7, 2011, we entered into three interest rate swap agreements for an aggregate
notional amount of $950.0 million. All swap agreements are effective July 1, 2011. The first swap
agreement is for a notional amount of $325.0 million and effectively fixes future interest payments
at a rate of 2.935% until the scheduled maturity of the underlying borrowings on June 1, 2013. The
other two swap agreements are for notional amounts of $312.5 million each and effectively fix
future interest payments at a rate of 6.26% through June 1, 2015. One of the swap agreements for
$312.5 million was entered into with an affiliate of one of the Sponsors.
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ITEM 4. | CONTROLS AND PROCEDURES |
The Company, under the supervision and participation of its management, which include the
Companys chief executive officer and chief financial officer, evaluated the effectiveness of its
disclosure controls and procedures, as defined in Rule 13a-15(e) under the Securities Act of
1934, as amended (the Exchange Act). This evaluation was conducted as of the end of the period
covered by this Form 10-Q. Based on that evaluation, our chief executive officer and chief
financial officer have concluded that the Companys disclosure controls and procedures are
effective. Effective controls are designed to ensure that information required to be disclosed by
the Company in reports that it files under the Exchange Act is recorded, processed, summarized and
reported within the time periods specified in Securities and Exchange Commissions rules and forms.
These controls and procedures are designed to ensure that information required to be disclosed by
the Company in such reports are accumulated and communicated to our management, including our chief
executive officer and chief financial officer, as appropriate, to allow timely decisions regarding
required disclosure.
There were no changes that occurred during the fiscal quarter covered by this Quarterly Report
on Form 10-Q that have materially affected, or are reasonably likely to materially affect, the
Companys internal control over financial reporting.
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PART II
OTHER INFORMATION
OTHER INFORMATION
ITEM 1. | LEGAL PROCEEDINGS |
Information relating to legal proceedings is included in Note 13, Contingencies, to the
Consolidated Financial Statements set forth in Part I, Item 1 of this Quarterly Report on Form
10-Q, which is incorporated herein by reference.
ITEM 1A. | RISK FACTORS |
Except for the following Risk Factors, and the Risk Factors included in Item 1A of our
Quarterly Report on Form 10-Q for the quarter ended September 30, 2010 filed with the Securities
and Exchange Commission, there have been no material changes to our Risk Factors as previously
disclosed in our June 30, 2010 Form 10-K filed with the Securities and Exchange Commission (file
no. 333-148259).
National or regional accreditation agencies may prescribe more rigorous accreditation
standards on our schools, which could have a material adverse effect on our student enrollment and
revenues.
Participation in Title IV programs requires that each of our U.S. schools be accredited by an
accrediting agency recognized by the U.S. Department of Education as a reliable authority on
institutional quality and integrity. The accreditation standards of the national or regional
accreditation agencies that accredit our schools can and do vary, and the accreditation agencies
may prescribe more rigorous standards than are currently in place. On April 1, 2011, the Higher
Learning Commission (HLC) of the North Central Association, which is the accrediting agency for
all Argosy University campuses and several Art Institute and Brown Mackie campuses, released
preliminary proposed revisions to its criteria for accreditation that would, among other things,
prescribe more rigorous standards relating to student persistence and completion rates. Complying
with more rigorous accreditation standards could require significant changes to the way we operate
our business and increase our administrative and other costs. No assurances can be given that our
schools will be able to comply with more rigorous accreditation standards in a timely manner or at
all. If one of our schools does not meet its accreditation requirements, its accreditation could
be limited, modified, suspended or terminated. Failure to maintain accreditation would make such
school ineligible to participate in Title IV programs, which could have a material adverse effect
on our student enrollment and revenues. Further, requirements for programs offered by our schools
that are accredited by national accrediting agencies with respect to retention rates, graduation
rates and employment placement rates may be more difficult to satisfy if more rigorous standards
are adopted. If programmatic accreditation is withdrawn or fails to be renewed for any of the
individual programs at any of our schools, enrollment in such program could decline, which could
have a material adverse impact on student enrollment and revenues at that school.
If our institutions do not comply with the 90/10 Rule, they will lose eligibility to
participate in federal student financial aid programs.
A provision of the HEA requires all for-profit education institutions to comply with what is
commonly referred to as the 90/10 Rule, which imposes sanctions on participating institutions that
derive more than 90% of their total revenue on a cash accounting basis from Title IV programs. An
institution that derives more than 90% of its total revenue on a cash accounting basis from the
Title IV programs for each of two consecutive fiscal years loses its eligibility to participate in
Title IV programs and is not permitted to reapply for eligibility until the end of the following
two fiscal years. Institutions which fail to satisfy the 90/10 Rule for one fiscal year are placed
on provisional certification. Compliance with the 90/10 Rule is measured at the end of each of our
fiscal years. For our institutions that disbursed federal financial aid during fiscal 2010, the
percentage of revenues derived from Title IV programs ranged from approximately 89% to 58%, with a
weighted average of approximately 77% as compared to a weighted average of approximately
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70% in
fiscal 2009. In order to ensure proper reporting of our 90/10 rates, we have engaged an independent accounting firm to perform a detailed review of the 90/10 rate of one of our
institutions representing approximately 1.6% of our net revenues in fiscal 2010 which had a 90/10
rate of 89% in fiscal 2010. We anticipate that our 90/10 rates will continue to increase in fiscal
2011 due to recent increases in grants from the Pell program and other Title IV loan limits,
coupled with decreases in the availability of state grants and private loans and the inability of
households to pay cash due to the current economic climate. While our consolidated 90/10 rate for
fiscal 2011 is projected to remain under the 90% threshold, we project that some of our
institutions may exceed the 90% threshold. Additionally, the revised rules included in the 2008 HEA
reauthorization include relief through June 30, 2011 from a $2,000 increase in the annual Stafford
loan availability for undergraduate students which became effective July 1, 2008. We anticipate
that our 90/10 rate will increase substantially in fiscal 2012 in the event that relief from this
additional $2,000 is not extended beyond June 30, 2011, which would adversely affect our ability to
comply with the 90/10 Rule. Some of our institutions would not comply with the 90/10 Rule in fiscal
2012 if the relief provided in the most recent HEA reauthorization is not extended. Continued
decreases in the availability of state grants would also adversely impact our ability to comply
with the 90/10 Rule because state grants generally are considered cash payments for purposes of the
90/10 Rule. We continue to monitor the compliance with the 90/10 Rule by each of our institutions
and assess the impact of increased financial aid received by our students under the current rule.
If any of our institutions violates the 90/10 Rule, its ineligibility to participate in Title IV
programs for at least two years would have a material adverse effect on our enrollments, revenues
and results of operations.
Increased scrutiny of post-secondary education providers by Congress, state attorneys general and
various governmental agencies may lead to increased regulatory burdens and costs.
We and other post-secondary education providers have been subject to increased regulatory
scrutiny and litigation in recent years. State attorneys general, the Department of Education,
Congress and other parties have increasingly focused on allegations of improper recruiter
compensation practices and deceptive marketing practices, among other issues. For example, the U.S.
Senate Committee on Health, Education, Labor and Pensions held a series of hearings on the
for-profit education sector throughout 2010 and 2011 relating to student recruiting, accreditation
matters, student debt, student success and outcomes, and other matters. Additionally, a number of
state attorneys general have recently launched investigations into post-secondary education
institutions, including some of our schools. In October 2010, we received requests for documents
from the attorneys general of Illinois and Florida in connection with investigations of our
institutions and recruiter compensation practices, respectively, and in December 2010, the Attorney
General of Kentucky announced an investigation of the business practices of for-profit institutions
in Kentucky and requested documents related to our three Brown Mackie College located in the state.
In May 2011, the Attorney General of Kentucky disclosed a joint investigation by the attorneys
general of ten states into potential violations of consumer protection laws by for-profit education
providers. While the initial goal of the joint investigation is sharing information between the
attorneys general about potential violations of consumer protection laws, the Attorney General of
Kentucky indicated that the attorneys general may ultimately attempt to compel for-profit
institutions located in their respective jurisdictions to revise their recruiting practices. We
cannot predict the extent to which, or whether, these hearings and investigations will result in
legislation, further rulemaking affecting our participation in Title IV programs, or litigation
alleging statutory violations, regulatory infractions or common law causes of action. The adoption
of any law or regulation that reduces funding for federal student financial aid programs or the
ability of our schools or students to participate in these programs would have a material adverse
effect on our student population and revenue. Legislative action also may increase our
administrative costs and require us to modify our practices in order for our schools to comply
fully with applicable requirements. Additionally, actions by state attorneys general and other
governmental agencies could damage our reputation and limit our ability to recruit and enroll
students, which would reduce student demand for our programs and adversely impact our revenue.
Regulations recently adopted by
the U.S. Department of Education could result in significant changes to the way we operate our
business, and increases to the administrative cost of complying with the regulations.
As described under
Managements Discussion and Analysis of Financial Condition and Results of
Operations-Regulatory Environment, on October 29, 2010, the U.S. Department of
Education adopted amendments to certain regulations under the HEA governing student financial
assistance programs under Title IV of the HEA. We cannot predict how the recently released or any
other resulting regulations will be interpreted. Our inability to comply with the final
regulations by their respective effective dates could have a material adverse effect on our
business. Uncertainty surrounding the application of the final rules, interpretive regulations,
and guidance from the U.S. Department of Education may continue for some period of time and could
reduce our enrollment, increase our cost of doing business, and have a material adverse effect on
our business, financial conditions, results of operations and cash flows.
ITEM 2. | UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS |
The following table sets forth information with respect to shares of Education Management
Corporation common stock purchased by us during the three months ended March 31, 2011 (in thousands
expect per share amounts):
Total Number of Shares | Approximate Dollar Value | |||||||||||||||
Purchased as Part of | of Shares that May Yet Be | |||||||||||||||
Total Number of | Average Price Paid | Publicly Announced | Purchased Under the | |||||||||||||
Period | Shares Purchased | per Share | Plans or Programs (a) | Plans or Programs (a) | ||||||||||||
January 1-January 31 |
1,589 | $ | 16.42 | 1,589 | $ | 58,415 | ||||||||||
February 1-February 28 |
1,330 | $ | 19.27 | 1,330 | $ | 32,792 | ||||||||||
March 1-March 31 |
1,186 | $ | 19.73 | 1,186 | $ | 109,390 | ||||||||||
Total quarter ended March 31, 2011 |
4,105 | $ | 18.30 | 4,105 | $ | 109,390 |
(a) | On March 11, 2011, the Companys Board of Directors approved an increase in the size of its stock repurchase program from $150.0 million to $250.0 million. Under the terms of the program, the Company may make repurchases through December 31, 2011 in the open market, in privately negotiated transactions, through accelerated repurchase programs or in structured share repurchase programs. The program does not obligate the Company to acquire any particular amount of common stock, and it may be modified or suspended at any time at the Companys discretion. |
ITEM 3. | DEFAULTS UPON SENIOR SECURITIES |
None.
ITEM 4. | REMOVED AND RESERVED |
ITEM 5. | OTHER INFORMATION |
None.
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ITEM 6. | EXHIBITS |
Number | Document | |||
31.1 | Certification of Todd S. Nelson required by
Rule 13a-14(a) or Rule 15d-14(a) and Section 302
of the Sarbanes-Oxley Act of 2002. |
|||
31.2 | Certification of Edward H. West required by
Rule 13a-14(a) or Rule 15d-14(a) and Section 302
of the Sarbanes-Oxley Act of 2002. |
|||
32.1 | Certification of Todd S. Nelson required by
Rule 13a-14(b) or Rule 15d-14(b) and Section 906
of the Sarbanes-Oxley Act of 2002. |
|||
32.2 | Certification of Edward H. West required by Rule
13a-14(b) or Rule 15d-14(b) and Section 906 of
the Sarbanes-Oxley Act of 2002. |
|||
101 | Interactive Data File |
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SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused
this report to be signed on its behalf by the undersigned hereunto duly authorized.
Date: May 6, 2011
EDUCATION MANAGEMENT CORPORATION | ||||
/s/ Edward H. West |
||||
President and Chief Financial Officer |
50