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ESI > SEC Filings for ESI > Form 10-Q on 29-Oct-2012All Recent SEC Filings

Show all filings for ITT EDUCATIONAL SERVICES INC

Form 10-Q for ITT EDUCATIONAL SERVICES INC


29-Oct-2012

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.

Forward-Looking Statements

All statements, trend analyses and other information contained in this report that are not historical facts are forward-looking statements within the meaning of the safe harbor provision of the Private Securities Litigation Reform Act of 1995 and as defined in Section 27A of the Securities Act of 1933 (the "Securities Act") and Section 21E of the Exchange Act. Forward-looking statements are made based on our management's current expectations and beliefs concerning future developments and their potential effects on us. You can identify those statements by the use of words such as "could," "should," "would," "may," "will," "project," "believe," "anticipate," "expect," "plan," "estimate," "forecast," "potential," "intend," "continue" and "contemplate," as well as similar words and expressions. Forward-looking statements involve risks and uncertainties and do not guarantee future performance. We cannot assure you that future developments affecting us will be those anticipated by our management. Among the factors that could cause actual results to differ materially from those expressed in our forward-looking statements are the following:

changes in federal and state governmental laws and regulations with respect to education and accreditation standards, or the interpretation or enforcement of those laws and regulations, including, but not limited to, the level of government funding for, and our eligibility to participate in, student financial aid programs utilized by our students;

business conditions and growth in the postsecondary education industry and in the general economy;

our failure to comply with the extensive education laws and regulations and accreditation standards that we are subject to;

effects of any change in our ownership resulting in a change in control, including, but not limited to, the consequences of such changes on the accreditation and federal and state regulation of our campuses;

our ability to implement our growth strategies;

our failure to maintain or renew required federal or state authorizations or accreditations of our campuses or programs of study;

receptivity of students and employers to our existing program offerings and new curricula;

loss of access by our students to lenders for education loans;

our ability to collect internally funded financing from our students;

our exposure under our guarantees related to private student loan programs; and

our ability to successfully defend litigation and other claims brought against us.

Readers are also directed to other risks and uncertainties discussed in other documents we file with the SEC, including, without limitation, those discussed in Item 1A. "Risk Factors." of our Annual Report on Form 10-K for the fiscal year ended December 31, 2011 filed with the SEC, in Part II, Item 1A. "Risk Factors" of our Quarterly Reports on Form 10-Q for the fiscal quarters ended March 31, 2012 and June 30, 2012 and in Part II, Item 1A. "Risk Factors" of this Quarterly Report on Form 10-Q. We undertake no obligation to update or revise any forward-looking information, whether as a result of new information, future developments or otherwise.

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Overview

You should keep in mind the following points as you read this report:

References in this document to "we," "us," "our" and "ITT/ESI" refer to ITT Educational Services, Inc. and its subsidiaries.

The terms "ITT Technical Institute" or "Daniel Webster College" (in singular or plural form) refer to an individual school or campus owned and operated by ITT/ESI, including its learning sites, if any. The term "institution" (in singular or plural form) means a main campus and its additional locations, branch campuses and/or learning sites, if any.

This management's discussion and analysis of financial condition and results of operations should be read in conjunction with the same titled section contained in our Annual Report on Form 10-K for the fiscal year ended December 31, 2011 filed with the SEC for discussion of, among other matters, the following items:

cash receipts from financial aid programs;

nature of capital additions;

seasonality of revenue;

components of income statement captions;

federal regulations regarding:

timing of receipt of funds from the Title IV Programs;

percentage of applicable revenue that may be derived from the Title IV Programs;

return of Title IV Program funds for withdrawn students; and

default rates;

private loan programs;

investments; and

repurchase of shares of our common stock.

This management's discussion and analysis of financial condition and results of operations is based on our condensed consolidated financial statements, which have been prepared in conformity with generally accepted accounting principles in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amount of assets, liabilities, revenue, expenses, and contingent assets and liabilities. Actual results may differ from those estimates and judgments under different assumptions or conditions.

In this management's discussion and analysis of financial condition and results of operations, when we discuss factors that contributed to a change in our financial condition or results of operations, we disclose the primary factors that materially contributed to that change.

Background

We are a leading proprietary provider of postsecondary degree programs in the United States based on revenue and student enrollment. As of September 30, 2012, we were offering master, bachelor and associate degree programs to approximately 65,000 students. As of September 30, 2012, we had 150 college locations (including 147 campuses and three learning sites) in 39 states. In addition, we offered one or more of our online programs to students who are located in 48 states. All of our college locations are authorized by the applicable education authorities of the states in which they operate, and are accredited by an accrediting commission recognized by the ED. We design our education programs, after consultation with employers and other constituents, to help graduates prepare for careers in various fields involving their areas of study. We have provided career-oriented education programs since 1969 under the "ITT Technical Institute" name and since June 2009 under the "Daniel Webster College" name.

In the third quarter of 2012, we began operations at one new ITT Technical Institute campus. We do not expect to begin operations at any additional locations during the remainder of 2012. Our strategy is to pursue multiple opportunities for growth. We are implementing a growth strategy designed to:

improve the academic outcomes of our students;

increase the value proposition of our education programs for our students; and

increase access to high-quality, career-based education.

We intend to pursue this strategy by:

increasing student enrollment in existing programs at existing campuses;

increasing the number and types of program and other educational offerings that are delivered in residence and/or online;

increasing our students' engagement in their programs of study;

enhancing the relevancy of our educational offerings;

assessing student achievement and learning;

improving the flexibility and convenience of how our institutions deliver their educational offerings;

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increasing our students' access to financial aid;

helping our graduates obtain entry-level employment involving their fields of study at higher starting annual salaries;

operating new campuses across the United States and new institutions in international markets;

adding learning sites to existing campuses; and

investing in other education-related opportunities.

Critical Accounting Policies and Estimates

The preparation of our condensed consolidated financial statements requires us to make estimates and judgments that affect the reported amount of assets, liabilities, revenue, expenses, and contingent assets and liabilities. Actual results may differ from those estimates and judgments under different assumptions or conditions. We have discussed the critical accounting policies that we believe affect our more significant estimates and judgments used in the preparation of our consolidated financial statements in the "Management's Discussion and Analysis of Financial Condition and Results of the Operations - Critical Accounting Policies and Estimates" section of our Annual Report on Form 10-K for the fiscal year ended December 31, 2011 filed with the SEC. There have been no material changes to those critical accounting policies or the underlying accounting estimates or judgments.

New Accounting Guidance

In October 2012, the FASB issued ASU No. 2012-04, which makes technical corrections, clarifications, and limited-scope improvements to various topics throughout the Codification. The amendments in this ASU that do not have transition guidance are effective upon issuance and the amendments that are subject to transition guidance will be effective for our interim and annual reporting periods beginning January 1, 2013. We have not yet determined the effect that the adoption of this guidance will have on our condensed consolidated financial statements.

In August 2012, the FASB issued ASU No. 2012-03, which amends and corrects various sections in the Codification pursuant to SAB No. 114, SEC Release No. 33-9250 and ASU No. 2010-22. The amendments and corrections in this ASU are effective upon issuance. The adoption of this guidance did not have a material impact on our condensed consolidated financial statements.

In July 2012, the FASB issued ASU No. 2012-02, which is included in the Codification under ASC 350. This update allows an entity to first assess qualitative factors to determine whether it must perform a quantitative impairment test. An entity would be required to calculate the fair value of an indefinite-lived intangible asset, if the entity determines, based on a qualitative assessment, that it is more likely than not that the indefinite-lived intangible asset is impaired. This guidance is effective for impairment tests performed for our interim and annual reporting periods beginning January 1, 2013. The adoption of this guidance will not have a material impact on our condensed consolidated financial statements.

In December 2011, the FASB issued ASU No. 2011-12, which is included in the Codification under ASC 220. This update defers the effective date of ASU No. 2011-05 for changes that relate to the presentation of reclassification adjustments out of accumulated other comprehensive income. None of the other requirements in ASU 2011-05 are affected by this update. This guidance became effective for our interim and annual reporting periods beginning January 1, 2012. The adoption of this guidance did not have a material impact on our condensed consolidated financial statements.

Also in December 2011, the FASB issued ASU No. 2011-11, which is included in the Codification under ASC 210. This update provides for enhanced disclosures to help users of financial statements evaluate the effect or potential effect of netting arrangements on an entity's financial position. This guidance is effective for interim and annual reporting periods beginning January 1, 2013. The adoption of this guidance will not have a material impact on our condensed consolidated financial statements.

In September 2011, the FASB issued ASU No. 2011-08, which is included in the Codification under ASC 350. This update allows an entity to assess qualitative factors to determine whether it is necessary to perform the two-step quantitative goodwill impairment test. This guidance became effective for our interim and annual reporting periods beginning January 1, 2012. The adoption of this guidance did not have a material impact on our condensed consolidated financial statements.

In June 2011, the FASB issued ASU No. 2011-05, which is included in the Codification under ASC 220. This update requires total comprehensive income, the components of net income and the components of other comprehensive income to be presented either in a single continuous statement or in two separate but consecutive statements. This guidance became effective for our interim and annual reporting periods beginning January 1, 2012. Prior to January 1, 2012, we presented total Comprehensive income and the components of Other comprehensive income in our Condensed Consolidated Statement of Shareholders' Equity. After December 31, 2011, we present total Comprehensive income and the components of Other comprehensive income in our Condensed Consolidated Statements of Comprehensive Income.

In May 2011, the FASB issued ASU 2011-04, which is included in the Codification under ASC 820. This update provides guidance and clarification about the application of existing fair value measurements and disclosure requirements. This guidance became effective for our interim and annual reporting periods beginning January 1, 2012. The adoption of this guidance did not have a material impact on our condensed consolidated financial statements.

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Results of Operations

The following table sets forth the percentage relationship of certain statement
of income data to revenue for the periods indicated:



                                                    Three Months Ended               Nine Months Ended
                                                       September 30,                   September 30,
                                                   2012            2011            2012            2011
Revenue                                            100.0%          100.0%          100.0%          100.0%
Cost of educational services                        42.6%           39.2%           41.5%           37.2%
Student services and administrative expenses        35.0%           30.4%           33.2%           29.1%

Operating income                                    22.5%           30.5%           25.2%           33.6%
Interest (expense) income, net                     (0.3%)            0.1%          (0.2%)            0.1%

Income before provision for income taxes            22.2%           30.6%           25.1%           33.7%

The following table sets forth our total student enrollment as of the dates indicated:

                                            2012                                          2011
                                Total                (Decrease)                Total              (Decrease)
Total Student                  Student                   To                   Student                 To
Enrollment as of:             Enrollment             Prior Year              Enrollment           Prior Year
March 31                            71,123                 (15.4%)                84,030                (0.6%)
June 30                             66,397                 (15.7%)                78,743                (7.0%)
September 30                        65,662                 (17.1%)                79,219               (10.0%)
December 31                 Not applicable          Not applicable                73,255               (13.5%)

Total student enrollment includes all new and continuing students. A continuing student is any student who, in the academic term being measured, is enrolled in a program of study at one of our campuses and was enrolled in the same program at any of our campuses at the end of the immediately preceding academic term. A new student is any student who, in the academic term being measured, enrolls in and begins attending any program of study at one of our campuses:

for the first time at that campus;

after graduating in a prior academic term from a different program of study at that campus; or

after having withdrawn or been terminated from a program of study at that campus.

The following table sets forth our new student enrollment in the periods indicated:

                                            2012                                       2011
New Student
Enrollment                       New
in the Three                   Student              (Decrease) To         New Student       (Decrease) To
Months Ended:                Enrollment              Prior Year            Enrollment         Prior Year
March 31                            18,067                 (17.0%)             21,761             (5.6%)
June 30                             15,698                  (9.5%)             17,351            (19.9%)
September 30                        19,298                 (15.8%)             22,909            (14.1%)
December 31                 Not applicable          Not applicable             15,125            (14.7%)

Total for the year          Not applicable          Not applicable             77,146            (13.4%)

We believe that the decrease in new student enrollment in each of the three months ended September 30, 2012 and June 30, 2012 compared to the corresponding period in the prior year was primarily due to:

a decrease in the rate at which prospective students who applied for enrollment actually began attending classes in their program of study;

changes that we made to program offerings at select campuses which resulted in a more significant decline in new student enrollment in the criminal justice programs of study compared to our other curricula; and

a decline in new student enrollment in the drafting and design programs of study compared to our other curricula, which we believe may have been due to economic changes in the construction industry generally.

We believe that the decrease in new student enrollment in the three months ended March 31, 2012 compared to the three months ended March 31, 2011 was primarily due to:

changes that we made to program offerings at select campuses which resulted in a more significant decline in new student enrollment in the criminal justice programs of study compared to our other curricula; and

a decline in new student enrollment in the drafting and design programs of study compared to our other curricula, which we believe may have been due to economic changes in the construction industry generally.

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A continued decline in new and total student enrollment could have a material adverse effect on our business, financial condition, revenue and other results of operations and cash flows. We have taken a number of steps in an attempt to reverse the decline in total and new student enrollment, including, without limitation, refining our marketing, advertising and communications to focus more on the student value proposition and outcomes of an ITT Technical Institute education.

At the vast majority of our campuses, we generally organize the academic schedule for programs of study offered on the basis of four 12-week academic quarters in a calendar year. The academic quarters typically begin in early March, mid-June, early September and late November or early December. To measure the persistence of our students, the number of continuing students in any academic term is divided by the total student enrollment in the immediately preceding academic term.

The following table sets forth the rates of our students' persistence as of the dates indicated:

                                  Student Persistence as of:
         Year     March 31       June 30       September 30       December 31
         2010      76.1%          74.5%           72.4%              76.1%
         2011      73.5%          73.1%           71.5%              73.4%
         2012      72.4%          71.3%           69.8%         Not applicable

We believe that the decrease in student persistence as of September 30, 2012 compared to September 30, 2011 was primarily due to:

the number of graduates in the three months ended September 30, 2012 compared to the same prior year period decreasing at a lesser rate than the decline in total student enrollment as of June 30, 2012 compared to the same date in the prior year; and

a slight decrease in student retention in the three months ended September 30, 2012 compared to the same prior year period, principally as a result of a decline in retention in some of the courses in new programs of study that we recently began offering.

The decrease in student persistence as of June 30 and March 31, 2012 compared to the corresponding prior year dates was primarily due to a higher number of students who graduated at the end of the academic period that began in March 2012 and December 2011 compared to the end of the same academic period in the prior year.

Three Months Ended September 30, 2012 Compared with Three Months Ended September 30, 2011. Revenue decreased $45.9 million, or 12.7%, to $314.7 million in the three months ended September 30, 2012 compared to $360.6 million in the three months ended September 30, 2011. The primary factors that contributed to this decrease included, in order of significance:

a 15.7% decrease in total student enrollment as of June 30, 2012 compared to June 30, 2011; and

a 17.1% decrease in total student enrollment as of September 30, 2012 compared to September 30, 2011.

The decrease in revenue was partially offset by:

a decrease in the amount of institutional scholarships and other awards that we granted to our students in the three months ended September 30, 2012 compared to the same prior year period; and

a lesser impact of the private education loan programs, which expired in 2011, on our revenue recognition in the three months ended September 30, 2012 compared to the same prior year period.

The primary factors that contributed to the decrease in total student enrollment as of June 30, 2012 compared to June 30, 2011 included, in order of significance:

the 9.5% decrease in new student enrollment in the three months ended June 30, 2012 and the 17.0% decrease in new student enrollment in the three months ended March 31, 2012 compared to the same prior year periods; and

an increase in the number of students who graduated in the three months ended June 30, 2012 compared to the same prior year period.

The primary factors that contributed to the decrease in total student enrollment as of September 30, 2012 compared to September 30, 2011 included, in order of significance:

the 15.8% decrease in new student enrollment in the three months ended September 30, 2012 and the 9.5% decrease in new student enrollment in the three months ended June 30, 2012 compared to the same prior year periods; and

an increase in the number of students who graduated in the three months ended September 30, 2012 compared to the same prior year period.

Cost of educational services decreased $7.3 million, or 5.2%, to $133.9 million in the three months ended September 30, 2012 compared to $141.3 million in the three months ended September 30, 2011. The primary factors that contributed to this decrease included, in order of significance:

a decrease in compensation costs;

a decrease in legal expenses; and

a decrease in course supplies expenses.

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Cost of educational services as a percentage of revenue increased 340 basis points to 42.6% in the three months ended September 30, 2012 compared to 39.2% in the three months ended September 30, 2011. The primary factor that contributed to this increase was a decline in revenue, which was partially offset by decreases in compensation costs, legal expenses and course supplies expenses.

Student services and administrative expenses increased $0.5 million, or 0.5%, to $110.0 million in the three months ended September 30, 2012 compared to $109.5 million in the three months ended September 30, 2011. The principal cause of this increase was an increase in bad debt expense, which was partially offset by a decrease in media advertising expenses.

Student services and administrative expenses increased to 35.0% of revenue in the three months ended September 30, 2012 compared to 30.4% of revenue in the three months ended September 30, 2011. The principal causes of this increase were a decline in revenue and an increase in bad debt expense, which were partially offset by a decrease in media advertising expenses. Bad debt expense as a percentage of revenue increased to 7.3% in the three months ended September 30, 2012 compared to 3.8% in the three months ended September 30, 2011, primarily as a result of an increase in the amount of internal student financing that we provided to our students in the three months ended September 30, 2012 compared to the three months ended September 30, 2011. The increase in the amount of internal student financing was primarily due to:

a decline in the amount of private education loans available to our students in the three months ended September 30, 2012 as a result of the expiration in 2011 of the two private education loan programs that provided the vast majority of private education loans to our students in 2011 (see "-Financial Condition, Liquidity and Capital Resources - Private Student Financing Update"); and

a decrease in the amount of scholarships and other awards provided to our students in the three months ended September 30, 2012 compared to the three months ended September 30, 2011.

Operating income decreased $39.1 million, or 35.6%, to $70.8 million in the three months ended September 30, 2012 compared to $109.9 million in the three months ended September 30, 2011, primarily as a result of the impact of the factors discussed above in connection with revenue, cost of educational services, and student services and administrative expenses. Our operating margin decreased to 22.5% in the three months ended September 30, 2012 compared to 30.5% in the three months ended September 30, 2011, primarily as a result of the impact of the factors discussed above.

Interest income decreased $0.6 million, or 82.5%, to $0.1 million in the three months ended September 30, 2012 compared to $0.7 million in the three months ended September 30, 2011, primarily due to lower investment returns and balances. Interest expense increased $0.6 million, or 170.1%, to $1.0 million in the three months ended September 30, 2012 compared to $0.4 million in the three months ended September 30, 2011, primarily due to an increase in the effective interest rate on our revolving credit facility.

Our combined federal and state effective income tax rate was 38.7% in the three months ended September 30, 2012 compared to 38.9% in the three months ended September 30, 2011.

Nine Months Ended September 30, 2012 Compared with Nine Months Ended . . .

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