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LINC > SEC Filings for LINC > Form 10-Q on 7-Nov-2012All Recent SEC Filings

Show all filings for LINCOLN EDUCATIONAL SERVICES CORP

Form 10-Q for LINCOLN EDUCATIONAL SERVICES CORP


7-Nov-2012

Quarterly Report


Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion may contain forward-looking statements regarding us, our business, prospects and our results of operations that are subject to certain risks and uncertainties posed by many factors and events that could cause our actual business, prospects and results of operations to differ materially from those that may be anticipated by such forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, those described in the "Risk Factors" section of our Annual Report on Form 10-K for the year ended December 31, 2011, as filed with the Securities and Exchange Commission ("SEC") and in our other filings with the SEC. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date of this report. We undertake no obligation to revise any forward-looking statements in order to reflect events or circumstances that may subsequently arise. Readers are urged to carefully review and consider the various disclosures made by us in this report and in our other reports filed with the SEC that advise interested parties of the risks and factors that may affect our business.

The interim financial statements filed on this Form 10-Q and the discussions contained herein should be read in conjunction with the annual financial statements and notes included in our Form 10-K for the year ended December 31, 2011, as filed with the SEC, which includes audited consolidated financial statements for our three fiscal years ended December 31, 2011.

General

We are a leading provider of diversified career-oriented post-secondary education. We offer recent high school graduates and working adults degree and diploma programs in five areas of study: health sciences, automotive technology, skilled trades, business and information technology and hospitality services. Each area of study is specifically designed to appeal to and meet the educational objectives of our student population, while also satisfying the criteria established by industry and employers. The resulting diversification limits dependence on any one industry for enrollment growth or placement opportunities and broadens potential opportunities for introducing new programs. As of September 30, 2012, we enrolled 19,028 students in diploma and above at our 46 campuses and enrolled an additional 536 students in short certificate programs at some of these campuses as well as our 5 training sites across 17 states. Our campuses primarily attract students from their local communities and surrounding areas, although our five destination campuses attract students from across the United States, and in some cases, from abroad.

Critical Accounting Policies and Estimates

Our discussions of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America, or GAAP. The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the period. On an ongoing basis, we evaluate our estimates and assumptions, including those related to revenue recognition, bad debts, fixed assets, goodwill and other intangible assets, income taxes and certain accruals and contingencies. Actual results could differ from those estimates. The critical accounting policies discussed herein are not intended to be a comprehensive list of all of our accounting policies. In many cases, the accounting treatment of a particular transaction is specifically dictated by GAAP and does not result in significant management judgment in the application of such principles. There are also areas in which management's judgment in selecting any available alternative would not produce a materially different result from the result derived from the application of our critical accounting policies. We believe that the following accounting policies are most critical to us in that they represent the primary areas where financial information is subject to the application of management's estimates, assumptions and judgment in the preparation of our consolidated financial statements.

Revenue recognition. Revenues are derived primarily from programs taught at our schools. Tuition revenues, textbook sales and one-time fees, such as nonrefundable application fees and course material fees, are recognized on a straight-line basis over the length of the applicable program, which is the period of time from a student's start date through his or her graduation date, including internships or externships that take place prior to graduation. If a student withdraws from a program prior to a specified date, any paid but unearned tuition is refunded. Refunds are calculated and paid in accordance with federal, state and accrediting agency standards. Other revenues, such as tool sales and contract training revenues are recognized as goods are delivered or services are performed. On an individual student basis, tuition earned in excess of cash received is recorded as accounts receivable, and cash received in excess of tuition earned is recorded as unearned tuition.

Allowance for uncollectible accounts. Based upon our experience and judgment and economic trends impacting our business, we establish an allowance for uncollectible accounts with respect to tuition receivables. We use an internal group of collectors, augmented by third-party collectors as deemed appropriate, in our collection efforts. In establishing our allowance for uncollectible accounts, we consider, among other things, a student's status (in-school or out-of-school), whether or not additional financial aid funding will be collected from Title IV Programs or other sources, whether or not a student is currently making payments and overall collection history. Changes in trends in any of these areas may impact the allowance for uncollectible accounts. The receivable balances of withdrawn students with delinquent obligations are reserved based on our collection history. Although we believe that our reserves are adequate, if the financial condition of our students deteriorates, resulting in an impairment of their ability to make payments, additional allowances may be necessary, which will result in increased selling, general and administrative expenses in the period such determination is made.


Index

Our bad debt expense as a percentage of revenues for the three months ended September 30, 2012 and 2011 was 6.3% and 7.8%, respectively, and for the nine months ended September 30, 2012 and 2011 was 5.2% and 6.0%, respectively. Our exposure to changes in our bad debt expense could impact our operations. A 1% increase in our bad debt expense as a percentage of revenues for the three months ended September 30, 2012 and 2011 would have resulted in an increase in bad debt expense of $1.0 million and $1.2 million, respectively, and for the nine months ended September 30, 2012 and 2011 would have resulted in an increase in bad debt expense of $3.1 million and $4.0 million, respectively.

We do not believe that there is any direct correlation between tuition increases, the credit we extend to students and our loan commitments. Our loan commitments to our students are made on a student-by-student basis and are predominantly a function of the specific student's financial condition. We only extend credit to the extent there is a financing gap between the tuition charged for the program and the amount of grants, loans and parental loans each student receives. Each student's funding requirements are unique. Factors that determine the amount of aid available to a student are student status (whether they are dependent or independent students), Pell Grants awarded, Plus loans awarded or denied to parents and family contributions. As a result, it is extremely difficult to predict the number of students that will need us to extend credit to them. Our tuition increases have ranged historically from 3% to 5% annually and have not meaningfully impacted overall funding requirements, since the amount of financial aid funding available to students in recent years has increased at greater rates than our tuition increases.

Because a substantial portion of our revenue is derived from Title IV programs, any legislative or regulatory action that significantly reduces the funding available under Title IV programs or the ability of our students, schools, or educational programs to participate in Title IV programs could have a material effect on our ability to realize our receivables.

Goodwill. We test our goodwill for impairment annually, or whenever events or changes in circumstances indicate an impairment may have occurred, by comparing its fair value to its carrying value. Impairment may result from, among other things, deterioration in the performance of the acquired business, adverse market conditions, adverse changes in applicable laws or regulations, including changes that restrict the activities of the acquired business, and a variety of other circumstances. If we determine that impairment has occurred, we are required to record a write-down of the carrying value and charge the impairment as an operating expense in the period the determination is made. In evaluating the recoverability of the carrying value of goodwill and other indefinite-lived intangible assets, we must make assumptions regarding estimated future cash flows and other factors to determine the fair value of the acquired assets. Changes in strategy or market conditions could significantly impact these judgments in the future and require an adjustment to the recorded balances.

Goodwill represents a significant portion of our total assets. As of September 30, 2012, goodwill represented approximately $83.9 million, or 25.1%, of our total assets.

We test our goodwill for impairment using a two-step approach. The first step is conducted utilizing the multiple of earnings approach and comparing the carrying value of our reporting units to their implied fair value. If necessary, the second step is conducted utilizing a discounted cash flow approach and comparing the carrying value of our reporting units to their estimated fair value.

At December 31, 2011, we tested our goodwill for impairment and determined we did not have an impairment. We concluded that the decrease in our market capitalization as of June 30, 2012 was an indicator of potential impairment and accordingly we tested goodwill for impairment. Our tests indicated that five of our reporting units were impaired which resulted in a non-cash charge of $15.4 million in the second quarter of 2012. There was no impairment during the third quarter ended September 30, 2012.

Long-lived assets. We review our long-lived assets for recoverability whenever events or changes in circumstances indicate that its carrying amount may not be recoverable. We tested long-lived assets for impairment as of June 30, 2012 and determined that 10 campuses were impaired. This resulted in a pre-tax non-cash charge of $8.3 million which included leasehold improvements of $8.1 million and definite lived intangible assets of $0.2 million. There was no impairment during the third quarter ended September 30, 2012.

Bonus costs. We accrue the estimated cost of our bonus programs using current financial information as compared to target financial achievements and key performance objectives. Although our recorded liability for bonuses is based on our best estimate of the obligation, actual results could differ and require adjustment of the recorded balance.


Index

Effect of Inflation

Inflation has not had a material effect on our operations.

Results of Operations

Certain reported amounts in our analysis have been rounded for presentation purposes.

The following table sets forth selected consolidated statements of operations data as a percentage of revenues for each of 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 %
Costs and expenses:
Educational services and
facilities                                49.5 %         46.5 %         49.5 %        43.1 %
Selling, general and
administrative                            51.1 %         49.2 %         53.4 %        48.5 %
Impairment of goodwill and
long-lived assets                          0.0 %          8.4 %          7.7 %         2.6 %
School closing costs                       1.7 %          0.0 %          0.6 %         0.0 %
Total costs and expenses                 102.3 %        104.1 %        111.2 %        94.2 %
Operating (loss) income                   -2.3 %         -4.1 %        -11.2 %         5.8 %
Interest expense, net                     -1.0 %         -0.9 %         -1.1 %        -0.8 %
(Loss) income before income taxes         -3.3 %         -5.0 %        -12.3 %         5.0 %
(Benefit) provision for income
taxes                                     -1.9 %         -1.8 %         -4.1 %         2.1 %
Net (loss) income                         -1.4 %         -3.2 %         -8.2 %         2.9 %

Three Months Ended September 30, 2012 Compared to Three Months Ended September 30, 2011

Revenue. Revenue decreased by $19.3 million, or 15.7%, to $104.1 million for the quarter ended September 30, 2012 from $123.5 million for the quarter ended September 30, 2011. The decrease was primarily attributable to a 19.7% decrease in average student population, which decreased to 18,233 for the quarter ended September 30, 2012 from 22,712 for the quarter ended September 30, 2011, partially offset by a 5.1% increase in average revenue per student.

The decrease in average student population was primarily due to adjustments in our business model to be better aligned with the Department of Education, or DOE's, increased emphasis on student outcomes and our efforts to comply with the 90/10 rule and cohort default rates. In addition, the current economic environment and regulatory changes under the Consolidated Appropriations Act, 2012, eliminated the ability to enroll ATB students. As part of these measures, we implemented a more selective student enrollment policy to ensure that we enroll students who demonstrate a strong ability to achieve successful student outcomes, including higher graduation and repayment rates and lower student debt levels. We also restructured certain programs and altered program offerings at some of our campuses, which resulted in lower financial aid funding availability and higher student cash contributions. We believe these changes coupled with the current economic conditions, are resulting in an increase in the number of potential students hesitant to take on debt and thus not enrolling in our schools. This has resulted in a significant decline in student starts and average student population.

Average revenue per student increased 5.1% for the quarter ended September 30, 2012 from the quarter ended September 30, 2011, primarily from tuition increases that averaged 3% during the quarter and from changes to some of our program offerings, which shortened the delivery time of these programs thus slightly accelerating revenue. For a general discussion of trends in our student enrollment, see "Seasonality and Trends" below.

Educational services and facilities expense. Our educational services and facilities expense decreased by $5.9 million, or 10.2%, to $51.6 million for the quarter ended September 30, 2012 from $57.4 million for the quarter ended September 30, 2011. This decrease in educational services and facilities expense was due to a $3.0 million, or 10.3%, decrease in instructional expenses, a $1.1 million, or 13.9%, decrease in books and tools expense, and a $1.8 million, or 8.6%, decrease in facilities expense.

The decrease in instructional expenses was primarily due to a reduction in the number of instructors at most of our campuses resulting from a lower student population. The decrease in books and tools expense was attributable to a decline in student starts of approximately 1,400 for the quarter ended September 30, 2012 compared to the quarter ended September 30, 2011. Facilities expense primarily decreased due to lower electric utilities due to rate reductions in certain states and lower repairs and maintenance expenses and dormitory expenses. In addition, facilities expense decreased due to lower depreciation expense related to an impairment charge of long-lived assets that were taken as of June 30, 2012 and lower capital expenditures during the current year.


Index

Education expenses contain a high fixed cost component and are not as leverageable as some of our other expenses. As our student population decreases, we typically experience reductions in average class size and, therefore, are not always able to align these expenses with the corresponding decrease in population.

As a result of the foregoing, educational services and facilities expenses, as a percentage of revenue, increased to 49.5% for the quarter ended September 30, 2012 from 46.5% for the quarter ended September 30, 2011.

Selling, general and administrative expense. Our selling, general and administrative expense for the quarter ended September 30, 2012 was $53.3 million, a decrease of $7.5 million, or 12.3%, from $60.7 million for the quarter ended September 30, 2011. The decrease in our selling, general and administrative expense was primarily due to a $2.5 million, or 8.2%, decrease in administrative expenses, a $4.0 million, or 16.9%, decrease in sales and marketing expenses and a $0.9 million, or 15.1%, decrease in student services expenses.

The decrease in administrative expenses was mainly due to a $3.1 million reduction in bad debt expense.

The bad debt expense as a percentage of revenue was 6.3% for the quarter ended September 30, 2012 as compared to 7.8% for the quarter ended September 30, 2011. The reduction in bad debt expense as a percentage of revenue was due to a decrease in outstanding balances of our students, primarily due to lower revenue for the period.

The decrease in sales and marketing expenses during the quarter ended September 30, 2012 was primarily due to a reduction in marketing expenses and a decrease in the number of admissions in order to align our cost structure to our population.

Student services expenses decreased due to a reduction in the number of financial aid employees as we aligned our cost structure to our student population. As a percentage of revenues, selling, general and administrative expense for the quarter ended September 30, 2012 increased to 51.1% from 49.2% for the quarter ended September 30, 2011.

As of September 30, 2012, we had outstanding loan commitments to our students of $33.7 million, as compared to $29.1 million at June 30, 2012. Loan commitments, net of interest that would be due on the loans through maturity, were $25.4 million at September 30, 2012, as compared to $22.0 million at June 30, 2012. The increase in loan commitments during the quarter is primarily attributable to seasonality due to a large number of student starts in the third quarter of the year.

Impairment of goodwill and long-lived assets. At September 30, 2012 we tested our goodwill and long-lived assets for impairment and determined that no impairment existed. At September 30, 2011, we tested our goodwill and long-lived assets for impairment and determined that an impairment of approximately $10.4 million existed for five reporting units.

School closing costs. During the quarter ended September 30, 2012 we recorded $2.4 million of school closings costs related to employee severance, student refunds and lease buyouts. Student refunds of approximately $0.6 million were netted against revenue.

Net interest expense. The net interest expense for the quarter ended September 30, 2012 was $1.1 million essentially flat compared to the quarter ended September 30, 2011.

Income taxes. The benefit for income taxes for the quarter ended September 30, 2012 was $2.0 million, or 57.7% of pretax loss, compared to a benefit for income taxes of $2.2 million, or 35.9%, of pretax loss for the quarter ended September 30, 2011. The increase in the effective tax benefit for the quarter ended September 30, 2012 from September 30, 2011 was due to the revised projected taxable results for the year offset by the effect of nondeductible permanent items.

Nine Months Ended September 30, 2012 Compared to Nine Months Ended September 30, 2011

Revenue. Revenue decreased by $87.7 million, or 22.1%, to $309.4 million for the nine months ended September 30, 2012 from $397.1 million for the nine months ended September 30, 2011. The decrease was primarily attributable to a 25.8% decrease in average student population, which decreased to 18,778 for the nine months ended September 30, 2012 from 25,291 for the nine months ended September 30, 2011, partially offset by a 4.9% increase in average revenue per student.

The decrease in average student population was primarily due to adjustments in our business model to be better aligned with the Department of Education, or DOE's, increased emphasis on student outcomes and our efforts to comply with the 90/10 rule and cohort default rates. In addition, the current economic environment and regulatory changes under the Consolidated Appropriations Act 2012, eliminated the ability to enroll ATB students. As part of these measures, we implemented a more selective student enrollment policy to ensure that we enroll students who demonstrate a strong ability to achieve successful student outcomes, including higher graduation and repayment rates and lower student debt levels. We also restructured certain programs and altered program offerings at some of our campuses, which resulted in lower financial aid funding availability and higher student cash contributions. We believe these changes coupled with the current economic conditions, are resulting in an increase in the number of potential students hesitant to take on debt and thus not enrolling in our schools. This has resulted in a significant decline in student starts and average student population.


Index

Average revenue per student increased 4.9% for the nine months ended September 30, 2012 from the nine months ended September 30, 2011, primarily from tuition increases that averaged 3% during the nine months and from changes to some of our program offerings, which shortened the delivery time of these programs thus slightly accelerating revenue. For a general discussion of trends in our student enrollment, see "Seasonality and Trends" below.

Educational services and facilities expense. Our educational services and facilities expense decreased by $17.9 million, or 10.5%, to $153.1 million for the nine months ended September 30, 2012 from $171.1 million for the nine months ended September 30, 2011. This decrease in educational services and facilities expense was due to a $13.3 million, or 14.3%, decrease in instructional expenses, a $1.9 million, or 10.6%, decrease in books and tools expense, and a $2.7 million, or 4.5%, decrease in facilities expense.

The decrease in instructional expenses was primarily due to a reduction in the number of instructors at most of our campuses resulting from a lower student population. The decrease in books and tools expense was attributable to a decline in student starts of approximately 900 for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011. We began 2012 with approximately 10,000, or 34.3%, fewer students than we had on January 1, 2011. Facilities expense primarily decreased due to lower rent expense as a result of the relocation of our Denver campus, decreased repairs and maintenance expenses, as well as a reduction in utilities due to rate reductions in certain states. In addition, facilities expense decreased due to lower depreciation expense related to an impairment charge of long-lived assets that were taken as of June 30, 2012 and lower capital expenditures during the current year.

Education expenses contain a high fixed cost component and are not as leverageable as some of our other expenses. As our student population decreases, we typically experience reductions in average class size and, therefore, are not always able to align these expenses with the corresponding drop in population.

As a result of the foregoing, educational services and facilities expenses, as a percentage of revenue, increased to 49.5% for the nine months ended September 30, 2012 from 43.1% for the nine months ended September 30, 2011.

Selling, general and administrative expense. Our selling, general and administrative expense for the nine months ended September 30, 2012 was $165.5 million, a decrease of $27.4 million, or 14.2%, from $192.9 million for the nine months ended September 30, 2011. The decrease in our selling, general and administrative expense was primarily due to an $11.8 million, or 11.7%, decrease in administrative expenses, a $12.5 million, or 17.2%, decrease in sales and marketing expenses and a $3.1 million, or 16.0%, decrease in student services expenses.

The decrease in administrative expenses was primarily due to a $7.6 million reduction in bad debt expense, a $2.0 million decrease in costs associated with the financial accounting system implemented during 2011 as well as reduced maintenance expenses for our student management system, $0.5 million lower non capitalized furniture expenses from the prior year as a result of the relocation of our Denver campus in 2011 and a $0.9 million decrease in travel expenses.

The bad debt expense as a percentage of revenue was 5.2% for the nine months ended September 30, 2012, compared to 6.0% for the nine months ended September 30, 2011. The reduction in bad debt as a percentage of revenue was due to a decrease in outstanding balances of our students, primarily due to lower revenue for the period.

The decrease in sales and marketing expenses during the nine months ended September 30, 2012 was primarily due to a reduction in marketing expenses and a decrease in the number of admissions representatives in order to align our cost structure to our population.

Student services expenses decreased due to a reduction in the number of financial aid employees as we aligned our cost structure to our student population. As a percentage of revenues, selling, general and administrative expense for the nine months ended September 30, 2012 increased to 53.4% from 48.5% for the nine months ended September 30, 2011.

As of September 30, 2012, we had outstanding loan commitments to our students of $33.7 million as compared to $26.4 million at December 31, 2011. Loan commitments, net of interest that would be due on the loans through maturity, were $25.4 million at September 30, 2012 as compared to $20.2 million at December 31, 2011. The increase in loan commitment during the year is attributable to changes we made to certain programs resulting in higher financing gaps for our students to better enable us to comply with the 90/10 Rule.


Index

Impairment of goodwill and long-lived assets. At September 30, 2012, we tested our goodwill and long-lived assets for impairment and determined that no impairment existed. At June 30, 2012, we tested our goodwill and long-lived assets for impairment and determined that a non-tax pre-tax impairment charge of . . .

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