May 7, 2009
Executives
John Springer – Senior Vice President Finance and Investor Relations Gary E. McCullough – President and Chief Executive Officer Michael J.
Graham – Chief Financial Officer
Analysts
Robert Craig - Stifel Nicolaus & Company, Inc. Brandon Dobell - William Blair & Company, LLC Jeffrey Silber - BMO Capital Markets Amy Junker - Robert W.
Baird & Co., Inc. Kevin Doherty - Banc of America-Merrill Lynch Gary Bisbee - Barclays Capital Kelly Flynn - Credit Suisse Trace Urdan - Signal Hill Group, LLC Mark Marostica - Piper Jaffray Corey Greendale - First Analysis Corp.
Analyst for Andrew Fones - UBS
Operator
Good day, ladies and gentlemen, and welcome to the first quarter 2009 Career Education’s earnings conference call. My name is [Marsha] and I’ll be your coordinator for today’s call.
(Operator Instructions) As a reminder, this conference is being recorded for replay purposes. I would now like to turn the call over to Mr.
John Springer, Senior Vice President of Finance and Investor Relations. Please proceed sir.
John Springer
Thank you Marsha. Good morning everyone and thank you for joining us on our first quarter 2009 earnings call.
With me on the call this morning are Gary McCullough, our President and Chief Executive Officer and Mike Graham, our Chief Financial Officer. Following remarks by management we will be open for analysts and investor questions.
Because of the technical difficulties we experienced, we’ll try to leave the call open to answer all of your questions. This conference call is being webcast live on the Investor Relations section of our website at careered.com.
Please note that there are a number of items impacting year-over-year comparability for the first quarter which were detailed in the table within yesterday’s quarterly earnings press release. Unless otherwise noted, the financial measures discussed today will exclude these items.
In addition, in order to facilitate comparisons previously communicated against our 2010 milestones, we will be referring to our performance excluding the transitional segment comprised of eight schools currently in teach-out. The results of the transitional segment can also be found in yesterday’s press release.
Now before I turn the call over to Gary, let me remind you that yesterday’s press release and the remarks made by our executives may include forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. These statements are based on information currently available to us and involve risks and uncertainties that could cause our actual financial results, performance and business prospects and opportunities to differ materially from those expressed in or implied by these statements.
These risks and uncertainties include but are not limited to those factors identified in our quarterly earnings release, our annual report on Form 10-K for the year ended December 31, 2008, and our quarterly and other filings with the Securities and Exchange Commission. Except as expressly required by the Securities laws, we undertake no obligation to update those risk factors or to publicly announce the results of any of these forward-looking statements to reflect future events, developments or changed circumstances or for any other reason.
Now let me turn the call over to Gary McCullough.
Gary E. McCullough
Thanks, John, and good morning everyone. We appreciate you joining us on this morning’s call as we discuss results from the first quarter 2009.
When my prepared remarks are concluded as John indicated I’ll turn the call over to Mike Graham, our Executive Vice President and Chief Financial Officer, who will provide more detail on our first quarter results. Overall, I continue to be proud of the progress we’ve made in the past two years and I’m encouraged by most elements of our performance in the first quarter.
Excluding transitional schools and significant items we achieved 11% student population growth, 22% operating income growth and a 210 basis point increase in operating margins. As I mentioned on the earnings call last quarter, much of the heavy lifting of our organizational transformation has shown progress and although not complete we have now turned our attention to insuring we are able to generate meaningful and consistent growth across the company.
On most measures, our first quarter performance marked another step forward towards achieving this goal. However, first quarter student starts at our University segment were unacceptable given the strength of the overall market as well as our elite flow in availability.
I will address this issue and what we are doing about it later in my remarks. First, let me turn to the progress we’ve made in the quarter across other areas of our organization.
We continue to grow in areas delivering strong results and positive outcomes, and no where is this more evident than in our Health Education schools. Health continued to build on the solid foundation that’s been created with another record performance in the first quarter.
Overall, our Health SBU delivered 25% start growth, 24% growth in student population, 17% growth in revenue, more than double the level of operating income versus the first quarter of 2008 and operating margins were 20% compared to 9% in the first quarter of 2008. These results are gratifying and show the progress of the transformation of the Health segment.
In light of that progress, I want to remind you that we are focusing our start up efforts on adding new Health schools for the balance of 2009 and into 2010. One method we have used to quicken the pace of expansion is to convert the existing, under utilized space within both our transitional and existing schools where the market related data supports doing so.
By doing this, we can increase the pace of implementation and reduce the overall costs of expansion. This model has worked well for us.
Recall in the second quarter of 2008 we converted two transitional schools, one in Vienna, Virginia and the other in Melville, New York into Health schools and the results have been strong. Combined student population in these schools is 26% higher than last year’s first quarter.
The schools also achieved 16% operating margins in the first quarter of 2009, a significant turnaround from negative 18% margins for the same period of 2008. Consistent with this, we determined that another location, Gibbs Boston, has favorable market dynamics for a Health school.
It was converted in the first quarter of this year. We continue to experience growth international.
The international schools performed in line with our expectations in the first quarter with 19% growth in student population. However, the revenue and operating earnings performance was dampened by the stronger U.S.
dollar. We also took important steps towards our goal of rebuilding populations in our Culinary and Art and Design schools.
Our Culinary SBU has excelled at evolving its model to meet the changing needs of our students. As you may recall, Culinary was the most effective segment following the changes in the private lending environment in the spring of 2008.
In response, the Culinary team conceived and implemented a series of initiatives and modified and introduced new student payment plans that adjusted the size of our organization for the current student population with clear metrics on how they will staff as population rebounds. And further, the team provided more flexible curriculum options including the addition of an extended 21 month program which I discussed on previous calls.
The Culinary team’s work in preparation in 2008 has begun to pay dividends. On our fourth quarter call we indicated our confidence that these initiatives would lead to an increase in student starts in the first quarter, the first step in rebuilding the student population and regaining fixed cost leverage.
And that’s exactly what happened. In the first quarter, Culinary delivered 13% growth in student starts in the quarter, while continuing to improve on their already high levels of student retention.
Now, I don’t want to downplay this result. Keep in mind that the first quarter of 2008 we had broader access to third party student funding.
So while student population was down 4% in the quarter versus 2008, the student start performance in the quarter is solid progress and is an indication of what we expect to continue as we move through the remainder of the year. Our initial estimates of our second quarter start are that it will be up at least 25% over 2008.
Needless to say, I’m pleased with the work that [Brian Williams] and his team have done to rebuild our momentum in the Culinary organization following a very challenging 2008. In Art and Design we’ve applied the same approach as we did in Culinary.
In last quarter’s call, I discussed a curriculum alignment initiative which we expected to be complete in the second half of 2009. This initiative is slightly ahead of schedule.
It will enable credits to transfer more easily across our schools, enhancing flexible learning opportunities for our students. Similar to Culinary, we have completed the development of a customized internal payment program that will increase use of the Title IV funding.
These changes will enhance student satisfaction. On entering the second quarter, Art and Design has the additional flexibility that Culinary began offering in the first quarter.
We expect these changes to aid in delivering a similar success as we move through the remainder of the year. With the progress we saw in the first quarter, I’m satisfied that in Culinary and Art and Design we are at or close to the goal of generating meaningful and consistent levels of growth.
University results in the first quarter were improved. Revenue was up 7% driven by higher student population.
Student population was up nearly 12% in the quarter. Operating margins expanded nearly six full points from 14.5% in the first quarter of 2008 to 20.1% in the first quarter of 2009.
All that said, I’m not satisfied with the overall performance in our University group where results have been inconsistent. New student starts grew only 2% in the quarter which, frankly, I view as unacceptable, especially when you consider the current tailwinds in the industry.
The work underway in our University organization is aimed at delivering sustainable and predictable growth at AIU and CTU. In driving toward that end, we are addressing a variety of areas including brand strategy, curriculum development, advertising and media effectiveness and admissions operations.
We’ve made strides in addressing identified issues in each of these areas. However, in the area of admissions operations where we were fundamentally transforming the admissions process, we lost focus on in the first quarter on day to day execution and we failed to capitalize on opportunities to drive higher student start growth.
In broad terms, starting students is a four step process for us. It involves student lead or inquiry generation, effectively managing those student inquiries, admissions counseling to aid students in enrollment, and effectively managing show rates of enrolled students and retaining them once they’ve started the program.
In University we’ve made improvements to our admissions methods which have resulted in driving down our cost for students start from an industry high $5,300 in 2006 to $4,400 at the end of 2008. Our peer qualifier model in which we interface with potential students and then transfer them to admissions representatives from our Universities continued to work well during the quarter.
However, a breakdown occurred in the transfers from our peer qualifier group to the school admissions teams because the school admissions teams were not staffed sufficiently to advise and convert potential students. And I remind you that these are students that in calls with our peer qualifiers have expressed interest in going to one of our Universities.
Obviously we encountered challenges in transforming this important function, and candidly I’m disappointed that I’ve got to spend time on this call, as I have in previous calls, addressing failures in execution and implementation. The process is complex and has taken a bit longer to implement the changes than we anticipated and it’s also been complicated by slow adoption of new processes in some parts of the organization and, to some degree, a lack of decisive leadership in others.
Recognizing this, several key leadership changes have been made within the University group. Both AIU and CTU have hired experienced senior level operating leaders in the fourth quarter and we’ve enhanced our AIU admissions organization by replacing senior admissions operations leaders and we are working to enhance admissions representative training to improve efficiencies and to improve conversion rates.
The issues we’ve identified in admissions operations, including the recruiting and training of admissions representatives, will take some time to fix. In the second quarter in University we expect to deliver double digit start growth and our goal is to do the same for the balance of the year.
As I’ve said before, despite the progress, I’m not yet satisfied with our ability to generate meaningful growth consistently across our entire portfolio, but we’re getting closer, but we still have work to do. Now turning to the government and regulatory environment which has recently gained heightened attention, what’s important from our perspective is that we are well positioned to deal with any potential changes that may come from the current administration.
Our cohort default rates remain low versus the for profit industry average and did not deteriorate significantly in the past year. We have no significant [inaudible] issues and we have experience in direct lending, and we have the capability to readily switch all institutions to direct lending if need be with no anticipated operational disruption.
With that said, I will now turn the call over to Mike who will provide more detail on the financial results of the quarter.
Michael J. Graham
Thanks Gary. Let me begin with a more detailed overview of the first quarter results and then spend some time commenting on our student payment programs and cash flow.
As you review the results for the first quarter, please take note that there are a number of items impacting year-over-year comparability for the first quarter which are detailed in the table within last night’s press release and are available on our website, careered.com under the Investor Relations tab. Unless otherwise noted, my discussion of earnings and results during the remainder of this call will exclude the following significant items.
For the first quarter 2009 within operating income was a $7.8 million pretax charge or $0.06 a share associated with vacated facilities within the transitional school segment. Throughout 2009 as we vacate real estate in the transitional segment as the student population decreases, we will recognize the future lease obligations offset by our estimated sub-lease income.
In the first quarter 2008, there were severance and stay bonus charges of $10.5 million or $0.08 a share, $7.2 million of which was within transitional school segment, $1.5 million of which was in the corporate segment, and approximately $1.8 million recorded across Health, University, Culinary Arts, and Art and Design segments. There was also in 2008 a $2.2 million impairment charge or $0.02 a share for the transitional school segment.
And finally, there was a $4.7 million gain from the termination of the profit sharing agreement with AU Dubai which was reported as share affiliates earnings within other income and expense in 2008. Now on to the first quarter results.
Total revenue was $437 million in the first quarter, down 3% from the first quarter of last year. Excluding our schools within the transitional schools segment which are currently being taught out, total revenue increased by 1%.
Operating income excluding transitional and the significant items was $52.6 million in the first quarter, up 22%. For the University segment, first quarter revenue for 2009 was $189.8 million, 7% higher than last year.
Operating income was $38.1 million which is 49% higher than last year’s first quarter. Operating margin was 20.1% in the quarter, again up 560 basis points from last year’s first quarter.
Revenue for AIU was $98 million, up 3% from the first quarter of 2008, reflecting a 7% increase in student population, partially offset by lower revenue per student associated with unfavorable foreign currency impacts within our AIU London campus. AIU operating profit in the quarter was $20.5 million as compared to $7 million in last year’s first quarter.
Total operating expenses were 12% lower driven by lower academic and admissions expenses resulting in operating margin of 28.9%. Revenue for CTU was $83.1 million, up 14% from last year’s first quarter as 18% higher student populations more than offset a modest decline in revenue per student related to lower credit loads.
CTU operating profit was $17.8 million in the first quarter, up 5% versus last year. Operating margin was 21.4%, down 200 basis points reflecting incremental investment in lead related advertising spend.
First quarter 2009 revenue for Culinary was $75.3 million, down 14% from first quarter 2008, reflecting a 4% reduction in student population. Culinary Arts experienced a $0.6 million operating loss during the quarter.
Our Health Education segment had another strong quarter with first quarter revenue $67.4 million, up 17% from the first quarter 2008 driven by a 24% increase in student population and a 25% increase in student starts. Operating income was $13.5 million in the first quarter as compared to $5.3 million in operating income in the first quarter 2008.
This strong revenue growth drove fixed cost leverage resulting in an 11% increase in operating margins to 20%. Please note that approximately 230 basis points of this improvement related to the reduction of legal expenses where insurance carriers reimbursed us for legal expenses incurred in previous years.
As we move forward, we’ll begin to ramp up the investment at start up campuses as Gary discussed and as we discussed in previous calls, and we estimate we will generate approximately $15 to $20 million of operating losses for the year in Health weighted towards the third and fourth quarters. Due to the size of this initiative, we will continue to disclose the net operating loss in start ups as part of the quarterly earnings call so you can clearly separate the impact from the ongoing operational performance.
Art and Design revenue was $63.8 million in the first quarter, down 10% from the first quarter 2008 reflecting a 2% reduction in student population and 6% lower student starts. These are in line with the rates of decline experienced in the fourth quarter.
Operating income was $7.4 million, down 32% from first quarter of 2008. As Gary noted, the curriculum alignment is ahead of schedule and will result in a shift in student start dates as we add more frequent student starts to our annual calendar.
The net result will be a shift from Q4 of 2009 to Q2 of 2009 of approximately 600 to 700 student starts. Exclusive of this shift, our current forecast for the second quarter indicates that our starts will be double digit increase over last year for Art and Design.
First quarter 2009 revenue for our International segment was $34.5 million, flat from the first quarter of last year, reflecting an increase in student population of 19% offset by the impact of the stronger dollar. International’s operating income was $11.4 million in the first quarter versus $12.8 million in last year’s first quarter with a foreign exchange impact of $1.9 million.
Now let me update you on our student payment programs. The total balances outstanding on our internal payment program as of March 31, 2009 were approximately $24 million compared to $20 million at the end of ’08.
Overall we have strong process in place for addressing student payment plans and the balances remain very manageable relative to free cash flow of our company. Bad debt expense as a percentage of revenue was 2.3%, down 20 basis points from last year’s first quarter, as both University and Health benefited from the July 2008 Pell and Stafford increases which more than offset increases in Culinary and Art and Design driven by higher levels of usage of our internal student payment plans versus third party funding in the prior year.
Our overall student receivable collection efforts remain strong with an annualized DSO of 13 days, improved slightly from 14 days a year ago. Again our operating cash flow remains very strong while funding student payment plans, operating losses as experienced in our teach-out schools, and the cash portion of previous year’s charges associated with organizational reductions and real estate rationalization.
Additionally, our balance sheet remains solid with $500 million of cash and investments and no outstanding debt. Capital expenditures were $14.9 million or 3% of revenue in the quarter.
We anticipate capital expenditures closer to 4% of revenue as we move through the year as we invest in the start up schools. Free cash flow defined as cash flow from operations less capital expenditures was $33.8 million in the first quarter.
Turning to our share repurchase program, during the first quarter 2009 we repurchased 1.7 million shares for approximately $40 million at an average price of $22.83 per share. From the inception of the buyback program in July of 2005 through March 31, 2009 the company has repurchased 20.9 million shares for approximately $645 million and we have remaining authorization from the board of directors as of March 31 of approximately $156 million.
Finally, we continue to rationalize our transitional real estate portfolio. We anticipate the 2009 overall charge to be between $80 and $100 million consistent with our previous disclosures.
In May we are finalizing a favorable economic transaction to remove approximately 100,000 square feet of real estate from one campus, relieving us of a $48 million future lease obligation for a cash payment of $15 million. This will result in a Q2 2009 in the transitional segment of approximately $15 million.
Again, part of the $80 to $100 million range that I just stated. With that, we’d like to open up the call for your questions.
Operator
(Operator Instructions) Your first question comes from Robert Craig - Stifel Nicolaus & Company, Inc.
Robert Craig - Stifel Nicolaus & Company, Inc.
Gary I was just wondering if you could provide a little more detail on that breakdown that you mentioned occurred between the transfers from the peer qualifier to the admissions teams and also, too, I mean you indicated the latter not staffed sufficiently? I take it that means you will be building staff as we go forward here?
Gary E. McCullough
Sure. Let me step back and even go into last quarter and before.
We’ve been on previous calls and we were asked as we [audio impairment] year whether we had a sufficient number of admissions reps and at the time we were working through, if you recall, some issues related to peer which we got under control and addressed. While we were working through those issues we were also working to improve our rep productivity so we could do a better job of insuring and making sure reps understood what was expected of them moving forward.
The idea was to marry that learning up as we came into the first quarter. So coming into the first quarter we expected to do two things.
One was to spend for leads to grow the business. The second one was to ramp up our number of reps with the new expectations around what they should be producing on a per rep basis.
We had very, very solid lead flow, double digit lead flow come in so that wasn’t the issue. Demand was strong.
They were well handled in our peer qualifier model and unfortunately we could not staff up enough to handle adequately the lead flow that came out of peer into the universities. And so it was something that, in my judgment, should have been foreseen.
We saw that that was an issue as we ended January. Unfortunately when you commit to buying leads you do that a bit in advance and we couldn’t turn off the lead flow fast enough to synch it up.
So we saw slightly higher marketing spending and an increase in cost and we were not able to adequately deal with all the leads we had. You know, had we been fully staffed we would have been in double digit growth.
Robert Craig - Stifel Nicolaus & Company, Inc.
So you’re now fully staffed?
Gary E. McCullough
I will not say that we’re fully staffed. We have staffed up but we are still hiring.
Operator
Your next question comes from Brandon Dobell - William Blair & Company, LLC.
Brandon Dobell - William Blair & Company, LLC
I want to focus on the internal lending for a second. You should be well below our expectations.
I want to get a sense of how much that is being driven just by extra opportunity or more a better look into what’s available from federal or state sources or is it just [fluid] that the program changes in Culinary have been faster to pick up and therefore more impactful on that private lending number? And if you could relate that like over to how should we think about bad debt.
Is it sustainable down here? Or, you know, what are you doing to keep it so low?
Thanks.
Gary E. McCullough
Sure. Lots of parts to that question.
In terms of the bad debt, let’s start with the student lending levels. As we’ve talked about in previous calls given the amount of third party funding we had from Sallie Mae and the reliance on private loans, it has been a moving target to try to forecast and give you some estimates of where the balance sheet will be.
We are very happy with our underwriting criteria. Our approval process is very strong.
We’ve had no disruption from third party lenders since a year ago and the large disruption in the marketplace. Our 21 month program in Culinary has allowed more access to Title IV.
Our new Art and Design program where we lessened the credit loans and extend the program out also gives more access to Title IV loans under Stafford. Our student success programs have been working very well.
So everything we see has been that we are giving full access to students who need it and are committed to their success and I would look at it more as one, estimate issues on our part in a very cloudy environment. I take it as a very good number that we are not turning away students and we’re starting students who have the desire.
They still have third party sources. So on the bad debt standpoint we are very pleased.
As we talked about last quarter our cohort default rate did not move materially. We were up about 70 to 80 basis points year-over-year in cohort default rates.
We attribute that to good outcomes for our students obviously. We attribute that to centralized collections processing and a very, very talented student finance team that the company has hired and is working with.
And again I think the student success process that we’re working with, retention has been up across all businesses this year. We’re in a very good position.
I think the bad debt we continue to accrue bad debt under internal payment plans with the 48% rate that we talked about, but in Health and University, Stafford has helped, Pell has helped and our students are paying back the loans on a very regular basis. So we’re very pleased with the environment that we see for our internal payment plans.
Operator
Your next question comes from Jeffrey Silber - BMO Capital Markets.
Jeffrey Silber - BMO Capital Markets
Just a real quick follow up on the peer qualifier. Is that in place at other schools as well and are you adequately staffed at the other schools to handle that?
Gary E. McCullough
The peer qualifier model has been primarily intended to be used in the University business. It does have application across the other institutions but again we’ve worked to make it work in University.
Each of the other schools I think as you can tell from our results are adequately staffed for the demand that they are seeing. They’re slightly different in Culinary and Health to some degree because they’re much more local in terms of how they draw.
And we have driven Culinary to be much more local. As you recall a year ago we were recruiting nationally and therefore people were dialing in that way.
We’ve tried to move away from that because we found people incurred a significant cost when they moved across the country to go to one of our schools. So it’s primarily in University.
The peer qualifier itself is working fine. Our challenge right now is simply staffing up with adequately trained reps to manage the strong lead flow that we have.
Jeffrey Silber - BMO Capital Markets
I’m not sure if you commented on retention in the different schools. If you could do that I’d appreciate it.
Gary E. McCullough
Sure. In a nutshell, I’ll have Mike give you the numbers, but in a nutshell our retention is up across the board.
Michael J. Graham
We traditionally haven’t disclosed the retention numbers by school or by segment, but we saw across the board again retention in every one of our segments was up quarter over quarter versus last year, and retention has improved sequentially Q4 to Q1 as well to the nature of about 100 basis point improvement and retention overall as a company from last year’s first quarter.
Operator
Your next question comes from Amy Junker - Robert W. Baird & Co., Inc.
Amy Junker - Robert W. Baird & Co., Inc.
Gary, can you talk, last quarter you mentioned that the HLC was coming to visit AIU in March I guess to look at the new programs. Can you let us know how that went and when you expect, if you haven’t already to launch those new programs?
Gary E. McCullough
Sure. The HLC visited AIU in early March.
I was a participant in part of those meetings. What I can tell you is that the feedback that we got back was good feedback.
We are still in the process with HLC. The final report has gone to the Higher Learning Commission of NCA.
We expect a decision from them between now and early June. They are scheduled to meet in early June and there’s nothing that we have heard that would indicate that we should be worried.
Except at the end of the day we still have to wait for them to make their final decision. We have, as I indicated before we have a number of new programs that we have ready to go but we cannot put those in for approval until we’ve actually received the final approval from the Higher Learning Commission.
Once that’s done we’re poised and ready to go. We would expect that we get them in and that relatively soon, but again the work of the timing that they choose to, but soon after that we’d be in a position to introduce new programs at AIU.
Operator
Your next question comes from Kevin Doherty - Banc of America-Merrill Lynch.
Kevin Doherty - Banc of America-Merrill Lynch
I wanted to see if you can just revisit your 2010 targets for the low to mid-teens operating margin. It seems like with the revenue lagging here, you know, it might make that a little more difficult and I know you’ve seen some areas of cost like marketing and bad debt come in a little later than some of those original expectations.
But, you know, just kind of thinking if the revenue continues to lag over the next year, what else are you doing on the cost side that could be an offset there?
Gary E. McCullough
Sure. You know, on the 2010 milestones that we laid out at the end of 2007 we talked about last quarter and made our plan for 2008.
We’re on our plan for 2009 and we believe we will be in the range of operating earnings for 2010. Revenue in University group is trailing that estimate, revenue in Health is exceeding that estimate, revenue in International is exceeding that estimate, and we feel very encouraged by the early revival here of Culinary and Art and Design when you look at the Sallie Mae issues that hit us that those revenue trends are better.
So, you know, revenue may be short of that ultimate target that we’re looking at. We acknowledge that.
Bad debt we feel is an opportunity based on the trends that we’re seeing. Admissions and the costs for start, again we targeted the costs for start number in the guidance that we gave you somewhere around $4,400 by the end of 2010, maybe tracking as low as $4,100.
Remember we achieved that at the end of 2008. We anticipate that cost for start as we fix the admissions model we’ll continue to see that benefit.
So I think from a mix standpoint and a cost standpoint we don’t anticipate any large cost programs that need to help us. I think the growth is here for us as we continue to grow the model and gain operating leverage that’ll drive us towards that 2010 milestone.
And obviously we do owe you an update of that 2010 milestone towards the end of this year or as we get into 2010 with our most current thinking.
Kevin Doherty - Banc of America-Merrill Lynch
Could you just talk about pricing opportunities across the portfolio? I think you put through up to a 10% increase in University.
Could you just confirm that? And did that have any impact at all on the start trends at University?
Michael J. Graham
That’s a good question. When we think about pricing what we do is on an ongoing basis in our business as we look at where we are versus relevant competitors in the marketplace, and we make moves only if we believe that there’s a reason to do so or that there’s pricing opportunity.
And we did make changes in the University business. We went up slightly, in some cases up to 10%.
It was not an across the board increase. It was selective in the way that we approached it.
We did do that. I will tell you that based upon our lead flow, the interest that was expressed in our University businesses, I don’t attribute the start growth to a pricing issue.
I attribute it to the execution issue we had with regard to admissions reps.
Operator
Your next question comes from Gary Bisbee - Barclays Capital.
Gary Bisbee - Barclays Capital
So I guess as I look back over the last six or nine months, you know, you cut the admission rep headcount at University 20% because peer was going to make it more efficient. Now it sounds like you’ve cut a bit too much and are aggressively staffing up.
As I try to think about the trend in University or online margins, is it fair to say that maybe the last two quarters, you know, it was a bit higher than it’s going to be as you try and balance more rapid growth of profitability just because of the higher level of headcount you’re probably going to need?
Michael J. Graham
Hard to give you that kind of guidance by quarter but we can say is that again we are staffing up for the lead flow that we have. An interesting statistic if you look at year-over-year in the first quarter to last year our rep productivity and I define that as enrollments divided by reps is up about 26%.
So not only was it an efficiency plan in terms of cost but it was an effectiveness play that having the two step process of the inquiry rep and then the experienced counseling rep was to drive better conversion rate and better starts. And I think you look at that productivity in spite of a very difficult first quarter in terms of operational, that productivity is there.
So I think what our goal would be is to add reps at a lower rate than the lead flow going forward and to get that leverage of the peer model as we work through the operational difficulties experienced in the first quarter.
Gary E. McCullough
Let me just add one thing to what Mike said. You know, we felt it was necessary to address the way that we were managing the admissions process.
As you recall in, you know, with our previous process we had the highest cost per start in the industry. We had higher turnover and we managed to lower our turnover rates.
We had admissions results on a per rep basis that weren’t satisfactory and weren’t in line in many cases with what we’d see as we’d benchmark around the industry. So we did try to do a number of things all at once.
The peer model itself is, the peer part of things is working. As Mike indicated our productivity on a per person basis from an admissions point of view is up rather dramatically.
Assuming we can replicate that, our goal to add back but add back more productive admissions reps than the ones that we had taken out of the organization.
Gary Bisbee - Barclays Capital
The Culinary business, you know, it sounds like you’re doing a great job with new starts with the lengthened program. But given, you know, as you move more of those kids in and the revenue in any quarter is a lot lower on that program it seems to me that revenues probably could decrease from this quarter as we move forward, at least for another quarter or two.
Are there, you know, cost cuts left there such that the business can remain breakeven or be profitable? Or are we likely to have, you know, maybe another quarter or two of losses in that business before you cycle out, you know, the shorter term higher revenue per quarter students in that program?
Thank you.
Michael J. Graham
From a business standpoint, a leadership standpoint, the business today very, very good job of taking out the variable costs. And they adjusted the variable costs and the staffing models to the population that we saw.
At the same time as you know Culinary is a very expensive fixed cost model. The cost of the kitchens and the extensive real estate that the company invested in in the past makes the operating leverage highly dependent on the population.
You also have the 21 month program which is going to dampen the RPS and extend out the program, teach-out the 15 months and extend more into the 21 months. So we don’t give guidance on a quarterly basis or emerging guidance on a quarterly basis for any of the business units, but I think the important thing for Culinary is stabilized base, good model in terms of population and in terms of cost structure going forward, build the population with the 13, with the start that you saw in the first quarter 13% and at least plus 25 start in the second quarter, regain the population.
And over time hopefully the bad debt expense that we have in there, 48% hopefully will turn to be conservative once we get some experience on that and we’ll grow back the business and bring it back to some really strong profitability levels.
Operator
Your next question comes from Kelly Flynn - Credit Suisse.
Kelly Flynn - Credit Suisse
First I wanted to know how the concept of counter-cyclicality in the Healthcare area impacts your decisions about adding schools. Meaning are we investing here in capacity at kind of the peak in the market and how do you think about that?
Gary E. McCullough
We don’t believe that to be the case. When we look at our Healthcare business we have certain, we have current schools that we have managed well.
They are operating basically at capacity and in some cases we’ve kept programs because while the demand is there from students we don’t see the ability to make sure that those students have a place to go to get their practical experience. And so where that’s the case, we have intentionally kept our own programs.
So we look at geographic expansion as the best way to continue to grow Health. We look at the demands in the marketplace.
Each geographic decision we make is based on a great number of factors that we put in for each city, for each location in the city in terms of demand and the ability to place students and so on and so forth. So at least for the foreseeable future, based upon the data that we have at this point in time, we think we’re good to go.
If we see things cap out, we see demand that begins to fall, we’ll take a look at our plan and make the appropriate adjustments. But for the foreseeable future we don’t see that.
Michael J. Graham
And I think the important point that Gary said was there’s not an expansion of capacity in current schools. It is an expansion in new market where the externship sites are strong and where our product quality will be well received.
Additionally, we’re doing it we think on a very strategic basis of using existing real estate in either other segment schools or the transitional schools to lessen the costs to the company of over capacity if for some reason that happens. But we believe fully in the outcomes and tying the market to the externship sites that we’ll gain.
Kelly Flynn - Credit Suisse
I had a couple more on Healthcare. You addressed these somewhat before but I’m a bit confused.
One, the revenue proceeded in Healthcare, why was that down year-over-year? And two, what’s the impact on margins of those investments you laid out relative to capacity?
Meaning, can you give us a sense of how margins will trend in Healthcare this year in your view, even after those incremental expenses?
Michael J. Graham
Sure. I’ll give you a couple data points so you can build your models.
The revenue per student is driven primarily by mix. Again we have higher end programs where we’ve seen demand for some of the low run programs that from a mix standpoint of the population has increased by school has driven the RPS down slightly.
If you look at the margin structure, I don’t want to comment on a model or give you guidance, but obviously there’s no revenue associated with that $15 to $20 million that we spoke to. We had a very good quarter.
As you normalize out the number that we gave you in terms of the legal expenses, the $1.5 million, over 200 basis points, I think if you take that out of your model and look at the current quarter plus an improvement as population grows, that is the sustainable level for Health over the year, is the first quarter less the adjustment for legal expenses with growing population and more operating leverage.
Kelly Flynn - Credit Suisse
So that’s the sustainable level of expansion? Or the sustainable level of margin?
Michael J. Graham
I think it’s the sustainable level of margin. As you add the population and the starts that we had, the plus 25 start in the existing footprint you’ll gain a lot of operating leverage.
Remember that start came in in January so that you don’t have the revenue. You’ll have the revenue throughout the rest of the year for that increased start in population over last year.
So you’ll gain the operating leverage. Capacity wise, it’s a school by school decision as to whether there’s more expansion capacity with the current footprint or not.
Kelly Flynn - Credit Suisse
Okay. So you’re basically saying even without adding capacity you think you can hold the margins?
Michael J. Graham
I don’t want to build a model but I think what I’m saying is the first quarter, take out the first quarter legal expense. I think there’s some margin expansion in the business for the remainder of the year given the high start and the high population we have in the first quarter.
If you separate out start ups.
Kelly Flynn - Credit Suisse
I’m still confused. Are you [exing] out the impact of the start up expenses?
Or are you saying net of those your comments apply?
Michael J. Graham
No. The comment, you take out the start ups separately from the base business.
Take out the start ups of the $15 to $20 million of little revenue. Model the base business, ex the legal charge, with the growing population and the high starts to get some margin expansion.
Operator
Your next question comes from Trace Urdan - Signal Hill Group, LLC.
Trace Urdan - Signal Hill Group, LLC
Just to wrap up the revenue per student discussion, I think you guys have kind of addressed each segment but I want to make sure I understand. So on the Art and Design, Gary, you made reference to, you know, making changes to allow for more Title IV.
Are you basically doing the same thing you did in Culinary and offering a longer term program? And is that what’s driving down revenue per student in that segment?
Gary E. McCullough
There are a couple of things that we are doing in the Art and Design business. One is we try to marry up calendars and that in effect will increase the number of starts we have on an annual basis.
And in some cases we are lengthening the programs a bit to allow students greater access to government funding, yes.
Michael J. Graham
And I think in the quarter you’ve also seen a reduction of credit loads by the students. So most of the curriculum enhancement and changes will come second quarter forward.
In this current quarter I think it’s more given the lending environment in the last year, you see a credit load reduction. You also have to look at the mix between in that segment, Art and Design, you have the colleges and you have the Art and Design business as well as a small online business within that.
So the mix shift is hard to discern across all those organizations.
Trace Urdan - Signal Hill Group, LLC
So when you say course load reduction that’s meaning that students are looking for ways to bring their out-of-pocket costs down?
Michael J. Graham
Right.
Trace Urdan - Signal Hill Group, LLC
And then the reduction on the International side, is that strictly a currency issue?
Michael J. Graham
Yes. On the revenue side, the growth of the population was plus 19.
If you look at the euro your comparison is about 154 last year to 130, so almost the entire change to flatten out the revenue is up ex.
Trace Urdan - Signal Hill Group, LLC
And then Gary I wanted to cycle back. You made some comments in your prepared remarks about more senior level management changes that you’ve made around the University business and you guys had both retention bonuses and severance payments in the quarter.
Can you elaborate a little bit more about what changes have taken place over the last, I guess two quarters from a management perspective? And how you’re thinking about how your management is sort of set up at the moment?
Michael J. Graham
Sure. Let me just, I’ll turn it to Gary for the color on the management team.
But just from the stay bonus and severance remember that was a 2008 charge? And that was related to the transitional segments.
So last year in the transitional segments as we went through the closure process we took the charge as we put things into transition. And stay bonuses for the transitional team to stay through educating the last student.
Trace Urdan - Signal Hill Group, LLC
So neither of those payments were related to ongoing businesses, those were strictly related to the transitional businesses?
Michael J. Graham
In last year in the University group, in the first quarter there was a severance process. We did reduce headcount last year as we disclosed on the call for the University group at AIU coming out of probation.
But there were no stay bonuses last year in the University group. The stay bonuses were solely related to transitional.
Trace Urdan - Signal Hill Group, LLC
I’m sorry, Mike, one more time. I just want to make sure I understand.
I was asking about the first quarter of ’09.
Michael J. Graham
The first quarter of ’09 the only charge in first quarter of ’09 is the $7 million charge for vacated real estate in Gibbs. There’s no charge in ’08.
Gary E. McCullough
Let me just talk on a macro basis about changes that have been made in the University business. And I’d step back by saying one of my observations when I came to the company was that in other of our competitors that had been successful in the space, they’ve done a terrific job of marrying together, you know, a strong academic leadership with strong operational leadership.
I looked at that, looked at some of our leadership and felt like we needed more operational focus and more operational leadership. And that became evident as we moved through the last part of last year into the quarter.
And so at both AIU and CTU we brought people in who have operational experience in admissions, in some other companies or industries to help us from an operational point of view. Because we could foresee that we had challenges.
We saw that it was evident as we came through last year. So we brought new people in.
What we’ve tried to do is marry up people who’ve been, you know, long time employees of our company who do a terrific job with people that have come to us from some other places. And I would say that as I look at it some of the folks who had, who were longstanding employees in some cases don’t know what they don’t know, and so they could get a different perspective from the people who come in.
The new people come in, don’t know what they don’t know about this business, they get great perspective from the people who’ve been here for awhile. And we’re working through that operationally.
So we’ve made changes but we did not, you know, in answer to your point make changes that resulted in charges taken in the first quarter.
Trace Urdan - Signal Hill Group, LLC
Just to be sure I understand you, I think you specifically referred to some additional chief or maybe more than one chief in the University business. Can you just speak specifically to that?
Or did I not hear that correctly?
Gary E. McCullough
I don’t think you heard that correctly. I don’t recall saying chief anything.
Trace Urdan - Signal Hill Group, LLC
That’s my word. But I thought I heard you say that you added management to that business in the fourth quarter.
Gary E. McCullough
What I said was we added at AIU and CTU experienced senior level operating leaders in the fourth quarter. I said that we enhanced our AIU admissions organization by replacing senior admissions operations leaders and we’re working to enhance admissions representative training to improve their efficiencies and to improve their conversion rates.
So that’s kind of, I quote myself in saying that. Not hiding from anything, we’ve had to bring more count in and marry it up against our current count.
Trace Urdan - Signal Hill Group, LLC
Mike, the point of my questioning there is to wonder whether some of that transition might also help explain the execution issues in the quarter if you were making those many changes to the way that things were being run over there.
Gary E. McCullough
Hard to give you a definitive yes or no. I think clearly we have a lot of moving parts.
And when you have a number of moving parts, you want to minimize them as quickly as you can. And I think we’re working to do that.
But we knew that we needed additional talent and we went out and sought that talent and I believe that talent over time will make a difference in our business.
Operator
Your next question comes from Mark Marostica - Piper Jaffray.
Mark Marostica - Piper Jaffray
Just a few follow up questions on online. I was just hoping you could quantify the remaining headcount that is needed in admissions and what is the current base?
Michael J. Graham
I don’t think we’ve ever given out a national headcount number. Again, we grew our admissions staff about 5% in the first quarter.
We grew our admissions staff about 5% here in April, in the past month of April alone. Our goal is to bring in admissions staff slightly below the lead level based on the higher productivity.
Mark Marostica - Piper Jaffray
But those that you’re looking at bringing on versus how many you have, can you give it maybe in percentage terms as to how many you’ve added in terms of the capacity you need? And what you have left?
Just the incremental?
Michael J. Graham
Again in terms of capacity I do not know how to respond to that. Again, 5% growth in the gross number in the first quarter, 5% growth in April, in the one month of April.
We are still ramping reps as we go through May and June. And then we’ll obviously calibrate with turnover the appropriate rep level based on the productivity levels of peer to the lead flows as we go forward on a monthly basis.
Mark Marostica - Piper Jaffray
In terms of rep turnover at each brand, can you comment on that?
Michael J. Graham
Sure. Turnover continues to improve, both at AIU and CTU quarter over quarter from last year and quarter over quarter sequentially from fourth to the first.
The turnover was reduced. Remember we did have some larger turnover numbers last year as we converted to the peer model.
But again quarter over quarter an sequential quarter turnover reduced.
Mark Marostica - Piper Jaffray
And in the quarter what did show rates look like?
Michael J. Graham
We don’t provide show rates but across the organization in every one of our segments show rates were improved.
Mark Marostica - Piper Jaffray
Online as well?
Michael J. Graham
Online as well.
Mark Marostica - Piper Jaffray
And then how are April starts dragging at this point?
Gary E. McCullough
I think we gave you some guidance on the quarter that we’re looking for double digit start growth in University. We’re looking for double digit start growth in Art and Design in the second quarter and we’re looking for plus 25 growth in Culinary.
Again, monthly start trends don’t mean a lot because you do have calendar shifts so you can’t look at it on a monthly basis. On a quarterly basis, start dates do normalize out.
Mark Marostica - Piper Jaffray
One final question on the rough productivity number that you quoted, what reps are you counting in that number and how did that productivity compare to Q4?
Michael J. Graham
If you compare the productivity to Q4, the first quarter productivity was much higher than the Q4 productivity, again similar to a 20% improvement from Q4 to Q1. Similar to the improvement Q1 last year to Q1 this year.
The calculation is simply gross enrolls divided by reps across the business.
Mark Marostica - Piper Jaffray
Is there a certain tenure of reps that you use in that calc?
Michael J. Graham
That calc is just headcount numbers.
Operator
Your next question comes from Corey Greendale - First Analysis Corp.
Corey Greendale - First Analysis Corp.
Gary, I had a high level management question for you. Given that it sounds like some of the issues at University were more execution on a segment basis, could you just give us kind of a high level download on to what degree decisions about sales, marketing, staffing are made at the segment level versus corporate level?
What corporate’s role is in that decision and whether you’re rethinking any of that given some of these issues?
Gary E. McCullough
Sure. First of all I’d step back and help you understand that both AIU and CTU are regionally accredited institutions and how they operate really is handled at the institutional level.
From a more macro point of view, you know, there are certain things that we are trying to make happen. There are certain things that we think are right to scale against.
There are certain things that we wanted to plug the institutions into. We work with those regionally accredited institutions to provide that support to make that happen.
So when I step back, you know, part of my job obviously as a CEO is talent, talent management. We have business reviews on a consistent basis with the business.
We ask very, very pointed questions on a monthly if not more frequent basis around how things are trending in the business that we see from a more macro point of view. And we coach and guide, but ultimately on an institutional basis because of the regional accreditation we let those institutions make the call on how they do things.
We are managing from a shared service point of view with the service level agreements what happens on a centralized basis. So when you think about peer qualifier, that’s something that we manage from a corporate point of view as a shared service providing services to those institutions and we do manage to deal with that one.
I look at talent across the organization, you know, pretty continuously. We’ve installed a number of different programs both for training and assessing talent, and on a going basis, you know, I’ll make determinations at very senior levels whether we have the right people or not and make the appropriate changes.
Corey Greendale - First Analysis Corp.
I also wanted to ask whether it’s fair or not, I think, investors tend to compare and contrast various public companies. And I think you said ex the operational issues you would expect a double digit start growth for University, and my question is if you compare that with, you know, you’ve got at least one very large competitor that had, that’s showing north of 20% start growth.
And I’m wondering if you think lower double digit is more the appropriate level and you would be managing to that level or whether you think there’s any way that you’re at a competitive disadvantage, either because of residual issues because of the probation or because you’re not able to refresh your programs because of the pending accreditation change?
Gary E. McCullough
Sure. I guess I’d step back and say that we have had one institution as you know and you just referred to it that has been hindered or hampered because of its history.
And we’re working through some of those. So as we think about in particular AIU and CTU we would expect a double digit growth with CTU being higher than AIU.
CTU has been competitive throughout the year and we would have expected them to be competitive, you know, as we’ve come into some things. We are hindered.
We are working through some of those challenges and we look forward to the time when we’ll be able to introduce new programs, you know, into the mix for AIU. So reasonably I would say on a combined basis we might have been a bit short of some of the folks that are out there, but we’re making the progress I would expect aside from some of the operational issues that we had.
Corey Greendale - First Analysis Corp.
Given as you know there’s been talk about increasing scrutiny at larger institutions given that at least corporate wide you’re one of the largest out there. Have you gotten any indication that the Department of Ed intends to step up the number of program reviews or anything like that?
Gary E. McCullough
We’ve had no such indication.
Operator
Your next question comes from Analyst for Andrew Fones – UBS.
Analyst for Andrew Fones - UBS
I was wondering if you could talk about what you’re seeing in graduate employment placement rates, you know, given the tough employment environment.
Gary E. McCullough
Sure. We traditionally have not commented on placement rates.
We’re pleased with our placement rates that we’ve had. Obviously the economy is going to have difficulties for some career seekers to find their jobs.
We’re working hard to help them. We have increased our career services team.
In fact, we’ve increased our career services team by over 6% in the first quarter to help students find jobs.
Operator
Your last question comes from Gary Bisbee – Barclays Capital.
Gary Bisbee – Barclays Capital
Can you give us any sense what the start up model looks like for the Healthcare schools? And I guess I’m just trying to think about that $15 to $20 million you talked about.
Is that a number that would likely drop year-over-year in 2010? Or are there going to be similar type losses, you know, in the first half of 2010?
Thanks.
Gary E. McCullough
I think the start up model typically is a five to six quarter breakeven model between the time we start, identify real estate, make sure that we have all the proper regulatory environment in line, begin staffing, advertising and build out. The number we gave anticipates start ups, some of which will open in 2009, some of which will open in 2010.
We’ve commented in the past that our goal within our strategic plan was to open four to six. We’ve now accelerated that plan.
I think as we go into 2010 we’ll continue to do the start ups we have and we’ll look carefully at what the pace should be in 2010. But now that we’ve shored up the foundation we have a good growth basis here.
I think as we understand more about our different segments and where to invest, it’s a sound investment in Health and I think we’ll continue to look for new sites. Not expansion to capacity, but new sites as we going forward because the economics and the IRs are very strong compared to other investment alternatives we have.
Operator
And we have no further questions at this time. I would now like to turn the call back over to Mr.
Gary McCullough. Please proceed.
Gary E. McCullough
Thank you very much. The work our team is doing is obviously difficult and challenging work.
In some ways it’s like the example many of you have heard about where the crew was trying to change engines on a plane while the plane is still flying. We’ve successfully worked on some of the multiple engines that we have in this organization.
Last quarter our biggest engine sputtered and coughed a bit, and when that happens passengers on the plane want to make sure the pilot can reassure them and will ultimately tell them the truth. I’m the pilot of our plane and I want to help you understand that our plane remains in the air and its flying.
In many ways its flying better than it has in the past, but it’s not as fast and it’s not as sleek as we’ve designed it to be. It will be.
We’ll continue to work at it. We’ve made meaningful progress in the first quarter towards our goal of consistent, sustainable, long term growth and we’ve got improvement opportunities to deal with in our online institutions.
With that, as Mike said we remain on track to meet our stated objectives for 2010 and we look forward to having and following up with you when we get together again on our next quarterly call. I thank you very much for your time this morning and thank you for your interest in Career Education.
Operator
Thank you for your participation in today’s conference. This concludes the presentation and you may now disconnect.
Have a great day.