U. S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
- --------------------------------------------------------------------------------
FORM 10-Q
(MARK ONE)
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2006
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
- --------------------------------------------------------------------------------
COMMISSION FILE NUMBER 000-51371
- --------------------------------------------------------------------------------
LINCOLN EDUCATIONAL SERVICES CORPORATION
(Exact name of registrant as specified in its charter)
NEW JERSEY 57-1150621
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
200 EXECUTIVE DRIVE, SUITE 340
WEST ORANGE, NJ 07052
(Address of principal executive offices)
(973) 736-9340
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes |X| No |_|
Indicate by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of "accelerated
filer and large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check
one):
Large accelerated filer|_| Accelerated filer|_| Non-accelerated filer|X|
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act). Yes |_| No |X|
As of May 9, 2006, there were 25,211,521 shares of the registrant's common stock
outstanding.
- --------------------------------------------------------------------------------
LINCOLN EDUCATIONAL SERVICES CORPORATION AND SUBSIDIARIES
INDEX TO FORM 10-Q
FOR THE QUARTER ENDING MARCH 31, 2006
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS 1
CONDENSED CONSOLIDATED BALANCE SHEETS AT MARCH 31, 2006 AND DECEMBER 31, 2005 (UNAUDITED) 1
CONDENSED CONSOLIDATED STATEMENTS OF INCOME FOR THE THREE MONTHS ENDED MARCH 31, 2006 AND 2005 (UNAUDITED) 3
CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY FOR THE THREE MONTHS ENDED MARCH 31, 4
2006 (UNAUDITED)
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE THREE MONTHS ENDED MARCH 31, 2006 AND 2005 5
(UNAUDITED)
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS 7
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS 13
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK 19
ITEM 4. CONTROLS AND PROCEDURES 19
PART II. OTHER INFORMATION 19
ITEM 1. LEGAL PROCEEDINGS 19
ITEM 6. EXHIBITS 19
PART I - FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
LINCOLN EDUCATIONAL SERVICES CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
(UNAUDITED)
MARCH 31 DECEMBER 31,
2006 2005
-------- --------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 41,427 $ 50,257
Restricted cash 508 --
Accounts receivable, less allowance of $7,920 and $7,647 at March 31,
2006 and December 31, 2005, respectively 12,643 13,950
Inventories 1,997 1,764
Deferred income taxes 3,500 3,545
Prepaid expenses and other current assets 2,886 3,190
Prepaid income taxes 2,000 --
Other receivable 429 452
-------- --------
Total current assets 65,390 73,158
-------- --------
PROPERTY, EQUIPMENT AND FACILITIES - At cost, net of accumulated
depreciation and amortization 69,390 68,932
-------- --------
OTHER ASSETS:
Deferred finance charges 1,161 1,211
Prepaid pension cost 5,070 5,071
Deferred income taxes 3,312 2,790
Goodwill 59,476 59,467
Other assets 3,885 4,163
-------- --------
Total other assets 72,904 72,702
-------- --------
TOTAL $207,684 $214,792
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Current portion of long-term debt and lease obligations $ 255 $ 283
Unearned tuition 31,196 34,930
Accounts payable 11,366 12,675
Accrued expenses 9,849 11,060
Advance payments of federal funds 302 840
Income taxes payable -- 4,085
-------- --------
Total current liabilities
52,968 63,873
NONCURRENT LIABILITIES:
Long-term debt and lease obligations, net of current portion 10,434 10,485
Other long-term liabilities 4,897 4,444
-------- --------
Total liabilities 68,299 78,802
-------- --------
1
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Preferred stock, no par value - 10,000,000 shares authorized, no shares
issued and outstanding at March 31, 2006 and December 31, 2005 -- --
Common stock, no parvalue - authorized 100,000,000 shares at
March 31, 2006 and December 31, 2005, issued and outstanding
25,197,971 shares at March 31, 2006 and 25,168,390 shares
at December 31, 2005 119,681 119,453
Additional paid-in capital 6,106 5,665
Deferred compensation (396) (360)
Retained earnings 13,994 11,232
--------- ---------
Total stockholders' equity 139,385 135,990
--------- ---------
TOTAL $ 207,684 $ 214,792
========= =========
See notes to unaudited condensed consolidated financial statements.
2
LINCOLN EDUCATIONAL SERVICES CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
THREE MONTHS
ENDED MARCH 31,
2006 2005
-------- --------
REVENUES $ 75,513 $ 70,869
-------- --------
COSTS AND EXPENSES:
Educational services and facilities 32,137 29,084
Selling, general and administrative 38,668 39,284
-------- --------
Total costs & expenses 70,805 68,368
-------- --------
OPERATING INCOME
4,708 2,501
OTHER:
Interest income 471 8
Interest expense (474) (1,194)
Other income 16 --
-------- --------
INCOME BEFORE INCOME TAXES
4,721 1,315
PROVISION FOR INCOME TAXES 1,959 543
-------- --------
NET INCOME $ 2,762 $ 772
======== ========
Earnings per share - basic: $ 0.11 $ 0.04
======== ========
Net income available to common shareholders
Earnings per share - diluted: $ 0.11 $ 0.03
======== ========
Net income available to common shareholders
Weighted average number of common shares outstanding:
Basic 25,186 21,699
Diluted 26,038 22,965
See notes to unaudited condensed consolidated financial statements.
3
LINCOLN EDUCATIONAL SERVICES CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
(IN THOUSANDS)
(UNAUDITED)
ADDITIONAL
COMMON STOCK PAID-IN DEFERRED RETAINED
SHARES AMOUNT CAPITAL COMPENSATION EARNINGS TOTAL
-------- -------- -------- ------------ -------- --------
BALANCE - December 31, 2005 25,168 $119,453 $ 5,665 $ (360) $ 11,232 $135,990
Net income -- -- -- -- 2,762 2,762
Reduction of issuance expenses
associated with the initial public
offering -- 150 -- -- -- 150
Issuance of restricted stock and
amortization of deferred
compensation 4 -- 60 (36) -- 24
Stock-based compensation expense -- -- 329 -- -- 329
Tax benefit of options exercised -- -- 52 -- -- 52
Exercise of stock options 26 78 -- -- -- 78
-------- -------- -------- ---------- -------- --------
BALANCE - March 31, 2006 25,198 $119,681 $ 6,106 $ (396) $ 13,994 $139,385
======== ======== ======== ========== ======== ========
See notes to unaudited condensed consolidated financial statements.
4
LINCOLN EDUCATIONAL SERVICES CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
(UNAUDITED)
THREE MONTHS ENDED MARCH 31,
2006 2005
-------- --------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 2,762 $ 772
-------- --------
Adjustments to reconcile net income to net cash used in operating activities:
Depreciation and amortization 3,463 3,082
Amortization of deferred finance charges 50 56
Write-off of deferred finance costs -- 365
Deferred income taxes (477) (111)
Fixed asset donations (16) --
Provision for doubtful accounts 3,150 2,285
Stock-based compensation expense and issuance of restricted stock 353 399
Tax benefit associated with exercise of stock options 52 39
Deferred rent 274 392
(Increase) decrease in assets, net of acquisitions:
Restricted cash (508) --
Accounts receivable (1,843) (1,561)
Inventories (233) 90
Prepaid expenses and current assets 226 335
Other assets 44 277
Increase (decrease) in liabilities, net of acquisitions:
Accounts payable (1,309) 1,159
Other liabilities (403) 356
Income taxes payable/prepaid (6,085) (2,334)
Accrued expenses (1,128) (3,061)
Unearned tuition (3,734) (5,599)
-------- --------
Total adjustments (8,124) (3,831)
-------- --------
Net cash used in operating activities (5,362) (3,059)
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures (3,467) (3,195)
Acquisitions, net of cash acquired -- (19,691)
-------- --------
Net cash used in investing activities (3,467) (22,886)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from borrowings -- 31,000
Payments on borrowings -- (35,750)
Payments of deferred finance fees -- (833)
Proceeds from exercise of stock options 78 24
Principal payments under capital lease obligations (79) (73)
Repayment from shareholder loans -- 181
-------- --------
Net cash used in financing activities
(1) (5,451)
-------- --------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
(8,830) (31,396)
CASH AND CASH EQUIVALENTS--Beginning of period 50,257 41,445
-------- --------
CASH AND CASH EQUIVALENTS--End of period $ 41,427 $ 10,049
======== ========
5
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid during the year for:
Interest $ 516 $ 687
====== ========
Income taxes $8,469 $ 2,946
====== ========
SUPPLEMENTAL SCHEDULE OF NONCASH INVESTING AND FINANCING ACTIVITIES:
Cash paid during the period for:
Fair value of assets acquired $ -- $ 23,238
Net cash paid for the acquisitions -- (19,691)
------ --------
Liabilities assumed $ -- $ 3,547
====== ========
See notes to unaudited condensed consolidated financial statements.
6
LINCOLN EDUCATIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED MARCH 31, 2006 AND 2005
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
(UNAUDITED)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BUSINESS ACTIVITIES - Lincoln Educational Services Corporation and its wholly
owned subsidiaries ("LESC" or the "Company") operate career-oriented
post-secondary schools in various locations, which offer technical programs of
study in several different specialties.
BASIS OF PRESENTATION - The accompanying unaudited condensed consolidated
financial statements have been prepared by the Company pursuant to the rules and
regulations of the Securities and Exchange Commission and in accordance with
accounting principles generally accepted in the United States of America
("GAAP"). Certain information and footnote disclosures normally included in
annual financial statements have been omitted or condensed pursuant to such
regulations. These statements, when read in conjunction with the December 31,
2005 consolidated financial statements of the Company reflect all adjustments,
consisting solely of normal recurring adjustments, necessary to present fairly
the consolidated financial position, results of operations, and cash flows for
such periods. The results of operations for the three months ended March 31,
2006 are not necessarily indicative of the results that may be expected for the
fiscal year ending December 31, 2006.
The unaudited condensed consolidated financial statements as of March 31, 2006
and the condensed consolidated financial statements as of December 31, 2005 and
for the three months ended March 31, 2006 and 2005 include the accounts of the
Company. All significant intercompany accounts and transactions have been
eliminated.
USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS - 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, the Company evaluates the
estimates and assumptions, including those related to revenue recognition, bad
debts, fixed assets, goodwill and other intangible assets, stock-based
compensation, income taxes, benefit plans and certain accruals. Actual results
could differ from those estimates.
2. RECENT ACCOUNTING PRONOUNCEMENTS
In February 2006, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 155, ACCOUNTING FOR
CERTAIN HYBRID FINANCIAL INSTRUMENTS." SFAS No. 155 is effective beginning
January 1, 2007. The adoption of the provision of SFAS No. 155 is not expected
to have a material effect on the Company's consolidated financial statements.
In June 2005, the FASB issued SFAS No. 154, ACCOUNTING CHANGES AND ERROR
CORRECTIONS, A REPLACEMENT OF APB OPINION NO. 20 AND FASB STATEMENT NO. 3. SFAS
No. 154 applies to all voluntary changes in accounting principle, and changes
the requirements for accounting for and reporting of a change in accounting
principle. SFAS No. 154 requires retrospective application to prior periods'
financial statements of a voluntary change in accounting principle unless it is
impracticable. Accounting Principles Boards ("APB") Opinion No. 20 previously
required that most voluntary changes in accounting principle be recognized by
including in net income of the period of the change the cumulative effect of
changing to the new accounting principle. SFAS No. 154 requires that a change in
method of depreciation, amortization, or depletion for long-lived, nonfinancial
assets be accounted for as a change in accounting estimate that is affected by a
change in accounting principle. APB Opinion No. 20 previously required that such
a change be reported as a change in accounting principle. The Company adopted
SFAS No. 154 on January 1, 2006. The adoption of the provisions of SFAS No. 154
had no effect on the Company's consolidated financial statements.
In March 2005, the FASB issued FASB Interpretation No. 47, ACCOUNTING FOR
CONDITIONAL ASSET RETIREMENT OBLIGATIONS ("FIN 47"). FIN 47 clarifies that a
conditional asset retirement obligation, as used in SFAS 143, ACCOUNTING FOR
ASSET RETIREMENT OBLIGATIONS, refers to a legal obligation to perform an asset
retirement activity in which the timing and/or method of the settlement are
conditional on a future event that may or may not be within the control of the
entity. Accordingly, an entity is required to recognize a liability for the fair
value of a conditional asset retirement obligation if the fair value can be
reasonably estimated. The Company adopted FIN 47 on January 1, 2006. The
adoption of the provisions of FIN 47 had no effect on the Company's consolidated
financial statements.
7
In December 2004, the FASB issued SFAS No. 153, EXCHANGES OF NONMONETARY ASSETS,
AN AMENDMENT OF APB OPINION NO. 29, ACCOUNTING FOR NONMONETARY TRANSACTIONS.
SFAS No. 153 addresses the measurement of exchanges of nonmonetary assets and
requires that such exchanges be measured at fair value, with limited exceptions.
SFAS No. 153 amends APB Opinion No. 29 ACCOUNTING FOR NONMONETARY TRANSACTIONS,
by eliminating the exception that required nonmonetary exchanges of similar
productive assets be recorded on a carryover basis. The Company adopted SFAS No.
153 on January 1, 2006. The adoption of the provisions of SFAS No. 153 had no
effect on the Company's consolidated financial statements.
3. STOCK-BASED COMPENSATION
In December 2004, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 123 (revised 2004), SHARE-BASED PAYMENT,
("FAS 123R"). This Statement requires companies to expense the estimated fair
value of stock options and similar equity instruments issued to employees over
the requisite service period. On December 1, 2005, the Company adopted FAS 123R
in advance of the mandatory adoption date of the first quarter of 2006 to better
reflect the full cost of employee compensation. The Company adopted FAS 123R
using the modified prospective method, which requires it to record compensation
expense for all awards granted after the date of adoption, and for the unvested
portion of previously granted awards that remain outstanding at the date of
adoption. Prior to the adoption of FAS 123R, the Company recognized stock-based
compensation under FAS 123 "STOCK BASED Compensation" and as a result, the
implementation of FAS 123R did not have a material impact on the Company's
financial presentation. The compensation cost that has been charges against
income under this plan was approximately $0.3 million and $0.4 million for the
three months ended March 31, 2006 and 2005.
The fair value concepts were not changed significantly under FAS 123R from those
utilized under FAS No. 123; however, in adopting this Standard, companies must
choose among alternative valuation models and amortization assumptions. After
assessing these alternatives, the Company decided to continue using the
Black-Scholes valuation model, however, we decided to utilize straight-line
amortization of compensation expense over the requisite service period of the
grant, rather than over the individual grant requisite period as chosen under
FAS 123. Under FAS 123, the Company had recognized stock option forfeitures as
they incurred. Commencing with the adoption of FAS 123R, the Company make
estimates of expected forfeitures calculation upon grant issuance.
4. WEIGHTED AVERAGE COMMON SHARES
The weighted average numbers of common shares used to compute basic and diluted
income per share for the three months ended March 31, 2006 and 2005,
respectively, were as follows:
THREE MONTHS ENDING
MARCH 31,
-----------------------------
2006 2005
------------- -------------
Basic shares outstanding 25,186,000 21,699,000
Dilutive effect of stock options 852,000 1,266,000
------------- -------------
Diluted shares outstanding 26,038,000 22,965,000
============= =============
For the three months ended March 31, 2006 and 2005, options to acquire 159 and
71 shares, respectively, were excluded from the above table as the result on
reported earnings per share would have been antidilutive.
5. BUSINESS ACQUISITIONS
On December 1, 2005, a wholly-owned subsidiary of the Company acquired Euphoria
Institute LLC ("EUP") for approximately $9.0 million, net of cash acquired.
On January 11, 2005, a wholly-owned subsidiary of the Company acquired New
England Technical Institute ("NETI") for approximately $18.8 million, net of
cash acquired.
The consolidated financial statements include the results of operations of NETI
and EUP from their respective acquisition dates. The purchase prices have been
allocated to identifiable net assets with the excess of the purchase price over
the estimated fair value of the net assets acquired recorded as goodwill. None
of the acquisitions were deemed material to the Company's financial statements.
8
The following unaudited pro forma results of operations for the three months
ended March 31, 2005 assume that the acquisitions occurred at the beginning of
the year of acquisition. The unaudited pro forma results of operations are based
on historical results of operations, include adjustments for depreciation,
amortization, interest, and taxes, but do not necessarily reflect the actual
results that would have occurred.
PRO FORMA PRO FORMA
IMPACT IMPACT
HISTORICAL NETI EUP PRO FORMA
2005 2005 2005 2005 2005
------------- --------- -------- --------
Revenues $ 70,869 $ 278 $ 1,368 $ 72,515
Net income $ 772 $ 6 $ (10) $ 768
Earnings per share - basic $ 0.04 $ 0.04
Earnings per share - diluted $ 0.03 $ 0.03
6. GOODWILL AND OTHER INTANGIBLES ASSETS
The Company accounts for its intangible assets in accordance with SFAS No. 142,
GOODWILL AND OTHER INTANGIBLE ASSETS. The Company reviews intangible assets with
an indefinite useful life for impairment when indicators of impairment exist, as
defined by SFAS No. 144, ACCOUNTING FOR THE IMPAIRMENT OR DISPOSAL OF LONG-LIVED
ASSETS. Annually, or more frequently if necessary, the Company evaluates
goodwill for impairment, with any resulting impairment reflected as an operating
expense.
Amortization of intangible assets was approximately $0.2 million for each of the
three months ended March 31, 2006 and 2005. Changes in the carrying amount of
goodwill from the year ended December 31, 2005 to the three months ended March
31, 2006 were as follows:
Goodwill balance as of December 31, 2005 $59,467
Goodwill adjustments 9
-------
Goodwill balance as of March 31, 2006 $59,476
=======
Intangible assets, which are included in other assets in the accompanying
consolidated balance sheet, consist of the following:
AT MARCH 31, 2006 AT DECEMBER 31, 2005
----------------------------- ---------------------------------
WEIGHTED
AVERAGE GROSS GROSS
AMORTIZATION CARRYING ACCUMULATED CARRYING ACCUMULATED
PERIOD (YEARS) AMOUNT AMORTIZATION AMOUNT AMORTIZATION
--------------- ---------- ---------------- ------------- -----------------
Student Contracts 1 $1,920 $1,783 $1,920 $1,569
Trade name Indefinite 1,410 -- 1,410 --
Curriculum 10 1,400 109 1,400 74
Non-compete 0 1 1 1 1
------ ------ ------ ------
Total N/A $4,731 $1,893 $4,731 $1,644
====== ====== ====== ======
7. LONG-TERM DEBT
The Company has a credit agreement with a syndicate of banks. Under the terms of
the agreement, the syndicate provided the Company with a $100 million credit
facility. The credit agreement permits the issuance of letters of credit, up to
$20 million, the amount of which reduces the availability of permitted
borrowings under the agreement. As a result of this credit agreement, the
Company wrote off approximately $0.4 million of unamortized deferred finance
charges under the old credit agreement for the three months ended March 31,
2005. The Company incurred approximately $0.8 million of deferred finance
charges under the agreement. At March 31, 2006, the Company had outstanding
letters of credit aggregating $4.1 million.
9
The obligations of the Company under the credit agreement are secured by a lien
on substantially all of the assets of the Company and its subsidiaries and any
assets that it or its subsidiaries may acquire in the future, including a pledge
of substantially all of the subsidiaries' common stock. Outstanding borrowings
bear interest at the rate of adjusted LIBOR plus 1.0% to 1.75%, as defined, or a
base rate (as defined in the credit agreement). In addition to paying interest
on outstanding principal under the credit agreement, the Company and its
subsidiaries are required to pay a commitment fee to the lender with respect to
the unused amounts available under the credit agreement at a rate equal to 0.25%
to 0.40% per year, as defined. In connection with the Company's initial public
offering in 2005, the Company repaid the then outstanding loan balance of $31.0
million.
The credit agreement contains various covenants, including a number of financial
covenants. Furthermore, the credit agreement contains customary events of
default as well as an event of default in the event of the suspension or
termination of Title IV Program funding for the Company's and its subsidiaries'
schools aggregating 10% or more of the Company's EBITDA (as defined) or its
consolidated total assets and such suspension or termination is not cured within
a specified period.
There were no borrowings outstanding under the credit agreement at March 31,
2006 and December 31, 2005.
As of March 31, 2006, the Company was in compliance with the financial covenants
contained in the credit agreement.
8. EQUITY
Pursuant to the Company's 2005 Non-Employee Directors Restricted Stock Plan (the
"Non-Employee Directors Plan"), two newly appointed non-employee directors
received an award of restricted shares of common stock equal to $60 thousand on
March 1, 2006. The number of shares granted to each non-employee director was
based on the fair market value of a share of common stock on that date. These
7,250 restricted shares (3,625 for each non-employee director) vest ratably on
the first, second and third anniversaries of the date of grant; however, there
is no vesting period on the right to vote or the right to receive dividends on
these restricted shares. As of March 31, 2006, there were a total of 25,664
shares awarded under the Non-Employee Directors Plan. None of these shares are
vested.
The fair value of the stock options used to compute stock-based compensation is
the estimated present value at the date of grant using the Black-Scholes option
pricing model. The weighted average fair values of options granted during 2006
were $8.25 using the following weighted average assumptions for grants:
MARCH 31,
2006
---------------
Expected volatility 55.10%
Expected dividend yield 0%
Expected life (term) 5-6 Years
Risk-free interest rate 4.13-5.81%
Weighted-average exercise price during the year $ 16.01
The following is a summary of transactions pertaining to the option plans:
WEIGHTED-AVERAGE
EXERCISE PRICE
SHARES PER SHARE
-------------- ----------------
Outstanding December 31, 2005 1,839,173 $ 7.26
Granted 3,000 14.70
Cancelled (23,500) 21.86
Exercised (25,400) 3.10
---------
Outstanding March 31, 2006 1,793,273 7.11
========= ==========
10
The following table presents a summary of options outstanding at March 31, 2006:
-----------------------------------------------------------------------------------------------
STOCK OPTIONS OUTSTANDING STOCK OPTIONS EXERCISABLE
---------------------------------------------------------- ---------------------------------
CONTRACTUAL WEIGHTED AVERAGE
RANGE OF EXERCISE PRICES AVERAGE LIFE WEIGHTED WEIGHTEED
PRICES SHARES (YEARS) AVERAGE PRICE SHARES EXERCISE PRICE
- ------------------------- ------------ ------------------ -------------------- ------------ ------------------
$1.55 50,898 3.23 $1.55 50,898 $1.55
$3.10 1,153,000 5.78 3.10 1,127,720 3.10
$4.00-$10.00 59,000 7.12 6.19 26,800 5.53
$14.00-$14.19 371,875 8.08 14.05 120,360 14.00
$20.00-$25.00 158,500 8.58 22.17 24,800 23.65
----------- -----------
1,793,273 6.48 7.11 1,350,578 4.44
=========== ===========
9. RECOURSE LOAN AGREEMENT
During 2005, the Company entered into an agreement with Student Loan Marketing
Association (Sallie Mae) to provide private recourse loans to qualifying
students. The following table reflects selected information with respect to the
recourse loan agreements, including cumulative loan disbursements and purchase
activity under the agreement from inception through March 31, 2006:
LOANS LOANS LOANS WE MAY BE
DISBURSED DISBURSED PURCHASED TO REQUIRED TO
AGREEMENT EFFECTIVE DATE (1) LOANS LIMIT TO DATE DATE PURCHASE (2)
- ----------------------------------- ---------------- ------------------- -------------- ---------------------
March 28, 2005 to June 30, 2006 $ 6,000 $ 3,265 $ - $ 980
(1) Either party may terminate the agreement by giving the other party 30
days written notice of such termination.
(2) Represents the maximum amount of loans under the agreement that we may
be required to purchase in the future based on cumulative loans
disbursed and purchased through March 31, 2006.
Under the recourse loan agreement, the Company is required to fund 30% of all
loans disbursed into a Sallie Mae reserve account. The amount of our loan
purchase obligation may not exceed 30% of this deposit. We record such amounts
as a deposit in long-term assets on our balance sheet. Amounts on deposit may
ultimately be utilized to purchase loans in default, in which case
recoverability of such amounts would be in question. Accordingly, the Company
has an allowance for the full amount of deposit.
10. INCOME TAXES
The effective tax rate for the three months ended March 31, 2006 and 2005 was
41.5% and 41.3%, respectively.
11. RELATED PARTY TRANSACTIONS
The Company had a consulting agreement with Hart Capital LLC, which terminated
by its terms in June 2004, to advise the Company in identifying acquisition and
merger targets and assisting with the due diligence reviews of and negotiations
with these targets. Hart Capital is the managing member of Five Mile River
Capital Partners LLC, which is the second largest stockholder of the Company.
Steven Hart, the President of Hart Capital, is a member of the Company's board
of directors. The Company paid Hart Capital a monthly retainer, reimbursement of
expenses and an advisory fee for its work on successful acquisitions or mergers.
In accordance with the agreement, the Company paid Hart Capital $0 and
approximately $0.3 million for the three months ended March 31, 2006 and 2005,
respectively. In connection with the consummation of the NETI acquisition, which
closed on January 11, 2005, the Company paid Hart Capital $0.3 million for its
services.
11
In 2003, the Company entered into a management service agreement with its major
stockholder. In accordance with this agreement the Company paid Stonington
Partners a management fee of $0.75 million per year for management consulting
and financial and business advisory services. Such services included valuing
acquisitions and structuring their financing and assisting with new loan
agreements. The Company paid Stonington Partners $0 and $0.75 million for the
three months ended March 31, 2006 and 2005, respectively. Fees paid to
Stonington Partners were being amortized over a twelve month period. This
agreement terminated by its terms upon the Company's completion of its initial
public offering. Selling, general and administrative expenses for the three
months ended March 31, 2005 include a $0.2 million charge resulting from the
amortization of these fees.
12. COMMITMENTS AND CONTINGENCIES
LITIGATION AND REGULATORY MATTERS - The Company has been named as a defendant in
actions resulting from the normal course of operations. Based, in part, on the
opinion of counsel, management believes that the resolution of these matters
will not have a material effect on its financial position, results of operations
and cash flows.
STOCK PURCHASE AGREEMENT - On March 30, 2006, the Company entered into a
definitive stock purchase agreement (the "Purchase Agreement") to acquire New
England Institute of Technology at Palm Beach, Inc., a Florida corporation
("NET"), for approximately $35.3 million in cash plus the assumption of a $7.2
million mortgage. The transaction, which is currently expected to close in the
second quarter of 2006, is subject to certain regulatory approvals, as well as
other customary conditions to closing.
13. PENSION PLAN
The Company sponsors a noncontributory defined benefit pension plan covering
substantially all of the Company's union employees. Benefits are provided based
on employees' years of service and earnings. This plan was frozen on December
31, 1994 for non-union employees.
While the Company does not expect to make any contributions to the plan in 2006,
after considering the funded status of the plan, movements in the discount rate,
investment performance and related tax consequences, the Company may choose to
make contributions to the plan in any given year.
The net periodic benefit cost was $1,000 and $30,000 for the three months ended
March 31, 2006 and 2005, respectively.
14. SUBSEQUENT EVENT
The Massachusetts Department of Education has raised concerns regarding the
status of certain instructor's Department approval to teach certain courses at
the Company's Career Education Institute Brockton campus. The Brockton campus
represented less than 1.5% of the Company's revenue in 2005.
Based on the Company's discussions with the Department to date, the Company does
not expect the resolution of this matter to have a material financial impact.
The Company is working with the Massachusetts Department of Education to address
their concerns.
12
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, 2005, as filed with
the Securities and Exchange Commission. 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 Securities and Exchange
Commission 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,
2005, as filed with the Securities and Exchange Commission, which includes
audited consolidated financial statements for our three fiscal years ended
December 31, 2005.
GENERAL
We are a leading and diversified for-profit provider of career-oriented
post-secondary education. We offer recent high school graduates and adults
degree and diploma programs in five areas of study: automotive technology,
allied health, skilled trades, business and information technology and spa and
culinary. As of March 31, 2006, we enrolled 17,374 students at our 35 campuses
across 16 states. Our campuses primarily attract students from their local
communities and surrounding areas, although our four destination schools attract
students from across the United States, and in some cases, from abroad. We
continue to expand our product offerings, and on March 23, 2006 we announced
that our new automotive campus in Queens, New York will be opened on March 27,
2006.
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 policies 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, stock-based compensation, income taxes and certain accruals. 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 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 textbook sales, tool sales
and contract training revenues are recognized as services are performed or goods
are delivered. 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 experience and judgment, 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 receivables 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
13
deteriorates, resulting in an impairment of their ability to make
payments, or if we underestimate the allowances required, additional allowances
may be necessary, which will result in increased selling, general and
administrative expenses in the period such determination is made.
Our bad debt expense as a percentage of revenue for the three months ended March
31, 2006 and 2005 was 4.2% and 3.2%, respectively. Our exposure to changes in
our bad debt expense could impact our operations.
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 or schools to
participate in Title IV programs could have a material effect on the
realizability of 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 an 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.
STOCK-BASED COMPENSATION. We currently account for stock-based employee
compensation arrangements in accordance with the provisions of Statement of
Financial Accounting Standards ("SFAS") No. 123R, "SHARE BASED PAYMENT."
Effective January 1, 2004, we elected to change our accounting policies from the
use of the intrinsic value method of Accounting Principles Board ("APB") Opinion
No. 25, "ACCOUNTING FOR STOCK-BASED COMPENSATION" to the fair value-based method
of accounting for options as prescribed by SFAS No. 123 "ACCOUNTING FOR
STOCK-BASED COMPENSATION". As permitted under SFAS No. 148, "ACCOUNTING FOR
STOCK-BASED COMPENSATION--TRANSITIONS AND DISCLOSURE--AN AMENDMENT TO SFAS
STATEMENT NO. 123," we elected to retroactively restate all periods presented.
Because no market for our common stock existed, our board of directors
determined the fair value of our common stock based upon several factors,
including our operating performance, forecasted future operating results, and
our expected valuation in an initial public offering.
Prior to our initial public offering on June 22, 2005, we valued the exercise
price of options issued to employees using a market based approach. This
approach took into consideration the value ascribed to our competitors by the
market. In determining the fair value of an option at the time of grant, we
reviewed contemporaneous information about our peers, which included a variety
of market multiples, including, but not limited to, revenue, EBITDA, net income,
historical growth rates and market/industry focus. Prior to our initial public
offering, the value we ascribed to stock options granted was based upon our
anticipated initial public offering as well as discussions with our investment
advisors. Due to the number of peer companies in our sector, we believed using
public company comparisons provided a better indication of how the market values
companies in the for-profit post secondary education sector.
During 2005, we adopted the provisions of SFAS No. 123R, "SHARE BASED PAYMENT."
The adoption of SFAS No. 123R did not have a material impact on our financial
statements.
RECENT ACCOUNTING PRONOUNCEMENTS
In February 2006, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 155, ACCOUNTING FOR CERTAIN HYBRID FINANCIAL INSTRUMENTS." SFAS No. 155 is
effective beginning January 1, 2007. The adoption of the provision of SFAS No.
155 is not expected to have a material effect on our consolidated financial
statements.
In June 2005, the FASB issued SFAS No. 154, ACCOUNTING CHANGES AND ERROR
CORRECTIONS, A REPLACEMENT OF APB OPINION NO. 20 AND FASB STATEMENT NO. 3. SFAS
No. 154 applies to all voluntary changes in accounting principle, and changes
the requirements for accounting for and reporting of a change in accounting
principle. SFAS No. 154 requires retrospective application to prior periods'
financial statements of a voluntary change in accounting principle unless it is
impracticable. Accounting Principles Board "APB" Opinion No. 20 previously
required that most voluntary changes in accounting principle be recognized by
including in net income of the period of the change the cumulative effect of
changing to the new accounting principle. SFAS No. 154 requires that a change in
method of depreciation, amortization, or depletion for long-lived, nonfinancial
assets be accounted for as a change in accounting estimate that is effected by a
change in accounting principle. APB Opinion No. 20 previously required that such
a change be reported as a change in accounting principle. We adopted SFAS No.
154 on January 1, 2006. The adoption of the provisions of SFAS No. 154 had no
effect on our consolidated financial statements.
14
In March 2005, the FASB issued FASB Interpretation No. 47, ACCOUNTING FOR
CONDITIONAL ASSET RETIREMENT OBLIGATIONS ("FIN 47"). FIN 47 clarifies that a
conditional asset retirement obligation, as used in SFAS 143, ACCOUNTING FOR
ASSET RETIREMENT OBLIGATIONS, refers to a legal obligation to perform an asset
retirement activity in which the timing and/or method of the settlement are
conditional on a future event that may or may not be within the control of the
entity. Accordingly, an entity is required to recognize a liability for the fair
value of a conditional asset retirement obligation if the fair value can be
reasonably estimated. We adopted FIN 47 on January 1, 2006. The adoption of the
provisions of FIN 47 had no effect on our consolidated financial statements.
In December 2004, the FASB issued SFAS No. 153, EXCHANGES OF NONMONETARY ASSETS,
AN AMENDMENT OF APB OPINION NO. 29, ACCOUNTING FOR NONMONETARY TRANSACTIONS.
SFAS No. 153 addresses the measurement of exchanges of nonmonetary assets and
requires that such exchanges be measured at fair value, with limited exceptions.
SFAS No. 153 amends APB Opinion No. 29 ACCOUNTING FOR NONMONETARY TRANSACTIONS,
by eliminating the exception that required nonmonetary exchanges of similar
productive assets be recorded on a carryover basis. We adopted SFAS No. 153 on
January 1, 2006. The adoption of the provisions of SFAS No. 153 had no effect on
our consolidated financial statements.
RESULTS OF OPERATIONS
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
MARCH 31,
---------------------------
2006 2005
------------ -----------
Revenues 100.0% 100.0%
Costs and expenses:
Educational services and facilities 42.6% 41.0%
Selling, general and administrative 51.1% 55.4%
------------ -----------
Total costs and expenses 93.7% 96.4%
------------ -----------
Operating income 6.3% 3.6%
Interest expense, net 0.0% (1.7)%
Other Income 0.0% 0.0%
------------ -----------
Income before income taxes 6.3% 1.9%
Provision for income taxes 2.6% 0.8%
------------ -----------
Net income 3.7% 1.1%
============ ===========
THREE MONTHS ENDED MARCH 31, 2006 COMPARED TO THREE MONTHS ENDED MARCH 31, 2005
REVENUES. Our revenues for the quarter ended March 31, 2006 were $75.5 million,
representing an increase of $4.6 million, or 6.6%, as compared to $70.9 million
for the quarter ended March 31, 2005. Approximately $1.4 million, or 2.1%, of
this increase was as a result of our acquisition of Euphoria Institute LLC, or
Euphoria, on December 1, 2005, while the remainder was primarily due to tuition
increases. For the quarter ended March 31, 2006, our average undergraduate
full-time student enrollment was 17,676 as compared to 17,692 for the quarter
ended March 31, 2005. Excluding our acquisition of Euphoria, our average
undergraduate student enrollment decreased by 1.6% to 17,409. For a discussion
of trends in our student enrollment, see "Seasonality and Trends" below.
EDUCATIONAL SERVICES AND FACILITIES EXPENSES. Our educational services and
facilities expenses for the quarter ended March 31, 2006 were $32.1 million,
representing an increase of $3.0 million, or 10.5%, as compared to $29.1 million
for the quarter ended March 31, 2005. The acquisition of Euphoria resulted in
$0.9 million, or 3.0%, of this increase. Instructional expenses increased by
$0.8 million or 4.6% as compared to last year primarily due to increased
compensation and benefit costs. Books and tools expenses increased $0.5 million
or 20.0% over the prior year primarily due to timing of class starts in the
first quarter of 2006 and from higher costs of books and tools. Additionally,
facilities expenses increased by approximately $0.9 million due to rent expenses
on our new Queens, New York facility for the full quarter in 2006 as compared to
only two months in 2005, our expanded campus facilities at New England Technical
Institute during the second half of 2005 and from additional depreciation
expense which increased $0.3 million or 8.5% from prior period.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Our selling, general and
administrative expenses for the quarter ended March 31, 2006 were $38.7 million,
a decrease of $0.6 million, or 1.6%, as compared to $39.3 million for the
quarter ended March 31, 2005. Approximately $0.4 million of the $38.7 million
incurred for the quarter ended March 31, 2006 related to the acquisition of
Euphoria. Excluding Euphoria, our selling, general and administrative expenses
would have decreased 2.6% as compared to the same period in 2005. This decrease
was primarily due to: (a) a $0.6 million, or 3.4%, decrease in sales and
marketing expenses as a result of
15
efficiencies gained through the better utilization of technology and due to a
shift in advertising from television to the Internet, which is more cost
effective; and (b) a $0.4 million, or 1.9%, decrease in administrative costs
primarily due to decreased expenses associated with the timing and efficiencies
gained from rolling out of our new student software and management reporting
system at some of our schools during the first quarter of 2006.
NET INTEREST EXPENSE. Our net interest expense for the quarter ended March 31,
2006 was $0.0 million, representing a decrease of $1.2 million from the quarter
ended March 31, 2005. This decrease was primarily due to an increase in interest
income of $0.5 million due to higher cash balances during the period as well as
a decrease of $0.7 million in interest expense due to paying off our debt
outstanding under our credit facility with the proceeds from our initial public
offering.
INCOME TAXES. Our provision for income taxes for the quarter ended March 31,
2006 was $2.0 million, or 41.5% of pretax income, compared to $0.5 million, or
41.3% of pretax income, for the quarter ended March 31, 2005. The increase in
our effective tax rate for the three months ended March 31, 2006 is primarily
attributable to an allocation of income between states.
LIQUIDITY AND CAPITAL RESOURCES
Our primary capital requirements are for facility expansion and maintenance,
acquisitions and the development of new programs. Our principal sources of
liquidity have been cash provided by operating activities and borrowings under
our credit agreement. The following chart summarizes the principal elements of
our cash flow for the three months ended March 31, 2006 and 2005:
CASH FLOW SUMMARY
THREE MONTHS ENDED MARCH 31,
-----------------------------
2006 2005
-------- --------
(DOLLARS IN THOUSANDS)
Net cash used in operating activities $ (3,656) $ (2,536)
Net cash used in investing activities $ (3,476) $(22,886)
Net cash used in financing activities $ (1) $ (5,451)
As of March 31, 2006 we had cash and cash equivalents of $41.4 million, compared
to $48.6 million as of December 31, 2005. Historically, we have financed our
operating activities and organic growth primarily through cash generated from
operations. We have financed acquisitions primarily through borrowings under our
credit agreement and cash generated from operations. We currently anticipate
that we will be able to meet both our short-term cash needs, as well as our need
to fund operations and meet our obligations beyond the next twelve months with
cash generated by operations, existing cash balances and, if necessary,
borrowings under our credit agreement. As of March 31, 2006, we had borrowings
available under our credit agreement of approximately $95.9 million, including a
$4.1 million sub-limit on letters of credit.
On March 30, 2006, we entered into a definitive stock purchase agreement to
acquire New England Institute of Technology at Palm Beach, Inc., for
approximately $35.3 million in cash plus the assumption of a $7.2 million
mortgage. The transaction, which is currently expected to close in the second
quarter of 2006, is subject to certain regulatory approvals, as well as other
customary conditions to closing. If this acquisition is consummated, our cash
and cash equivalents would be significantly reduced and we would expect to incur
additional indebtedness. Notwithstanding this reduction in cash and cash
equivalents, we believe we will continue to be able to meet both our short-term
and long-term cash needs through the sources identified above.
Our primary source of cash is tuition collected from our students. Our students
fund their tuition payments from a variety of sources including Title IV
Programs, federal and state grants, private loans and their personal resources.
A significant majority of our students' tuition payments are derived from Title
IV Programs. Students must apply for a new loan for each academic period.
Federal regulations dictate the timing of disbursements of funds under Title IV
Programs and loan funds are generally provided by lenders in two disbursements
for each academic year. The first disbursement is usually received approximately
30 days after the start of a student's academic year and the second disbursement
is typically received at the beginning of the sixteenth week after the start of
the student's academic year. Certain types of grants and other funding are not
subject to a 30-day delay. Our programs range from 30 to 84 weeks and may cover
one or two academic years. In certain instances, if a student withdraws from a
program prior to a specified date, any paid but unearned tuition or prorated
Title IV financial aid is refunded and the amount of the refund varies by state.
The majority of students enrolled at our schools rely on funds received under
various government-sponsored student financial aid programs to pay a substantial
portion of their tuition and other education-related expenses. The largest of
these programs is Title IV, which represented approximately 80% of our cash
receipts relating to revenues in 2005. As a result of the significance of the
Title IV funds received by our students, we are highly dependent on these funds
to operate our business. Any reduction in the level of Title IV funds that our
students are eligible to receive or any impact on our ability to receive Title
IV funds would have a significant impact on our operations and our financial
condition.
16
OPERATING ACTIVITIES
Net cash used in operating activities was $3.7 million for the quarter ended
March 31, 2006 compared to $2.5 million for the quarter ended March 31, 2005.
The $1.2 million increase in cash used by operating activities was primarily due
to $5.5 million of increased tax payments made during the first quarter of 2006
as compared to the comparable period in 2005, offset by increased net income as
well as non-cash expenses as adjusted by bad debt expense over the comparable
period in 2005 as well as reductions in unearned tuition. The remaining
difference resulted from changes in other working capital items.
INVESTING ACTIVITIES
Our cash used in investing activities was primarily related to the purchase of
property and equipment and in acquiring schools. Our capital expenditures
primarily result from facility expansion, leasehold improvements, and
investments in classroom and shop technology and in operating systems. On
January 11, 2005, we acquired New England Technical Institute, or,NETI, for
$18.8 million, net of cash acquired.
We currently lease almost all of our campuses. In October 2005, we completed the
purchase of our Grand Prairie, Texas facility and expect to open the facility in
the second half of 2006. In addition, although our growth strategy is primarily
focused on internal growth, including campus expansions, we may also consider
strategic acquisitions. To the extent that these potential strategic
acquisitions are large enough to require financing beyond available cash from
operations and borrowings under our credit facilities, we may incur additional
debt or issue additional debt or equity securities.
Net cash used in investing activities decreased $19.4 million to $3.5 million
for the quarter ended March 31, 2006 from $22.9 million for the quarter ended
March 31, 2005. This decrease is entirely due to our acquisition of NETI.
Capital expenditures are expected to increase as we upgrade and expand current
equipment and facilities and open new facilities to meet increased student
enrollments. Additionally, we are evaluating several other expansion
opportunities. We anticipate capital expenditures to be approximately 12% to 15%
of revenues in 2006. We expect to be able to fund these capital expenditures
with cash generated from operating activities.
FINANCING ACTIVITIES
Net cash used in financing activities was $0.0 million for the quarter ended
March 31, 2006 compared to $5.5 million for the quarter ended March 31, 2005.
This decrease in 2006 is mainly attributable to the pay down of our debt in 2005
from the proceeds of our initial public offering.
On February 15, 2005, we entered into a new credit agreement with a syndicate of
banks led by our existing lender. Under the terms of this agreement, the
syndicate provided us with a $100 million credit facility with a term of five
years. The credit agreement permits the issuance of letters of credit of up to
$20 million, the amount of which reduces the availability of permitted
borrowings under the agreement. In connection with of this new credit agreement,
we wrote off as a component of interest expense approximately $0.4 million of
unamortized deferred finance costs under our old credit agreement in the quarter
ended March 31, 2005. We incurred approximately $0.8 million of deferred finance
costs under the new agreement.
The following table sets forth our long-term debt at the dates indicated:
MARCH 31, DECEMBER 31,
2006 2005
-------- --------
(DOLLARS IN THOUSANDS)
Credit agreement $ -- $ --
Automobile loans 73 81
Finance obligation 9,672 9,672
Capital leases-computers (with rates ranging from 6.7% to 10.7%) 944 1,015
-------- --------
Subtotal
10,689 10,768
Less current maturities (255) (283)
-------- --------
$ 10,434 $ 10,485
======== ========
17
CONTRACTUAL OBLIGATIONS
LONG-TERM DEBT. As of March 31, 2006, our long-term debt consisted entirely of
the finance obligation in connection with our sale-leaseback transaction in 2001
snd amounts due under capital lease obligations.
LEASE COMMITMENTS. We lease offices, educational facilities and various
equipment for varying periods through the year 2020 at basic annual rentals
(excluding taxes, insurance, and other expenses under certain leases).
The following table contains supplemental information regarding our total
contractual obligations as of March 31, 2006, measured from the end of our
fiscal year, December 31, 2005:
PAYMENTS DUE BY PERIOD
-------------------------------------------------------------------------
LESS THAN
TOTAL 1 YEAR 2-3 YEARS 4-5 YEARS AFTER 5 YEARS
-------- --------- --------- --------- -------------
(DOLLARS IN THOUSANDS)
Capital leases (including interest) $ 1,140 $ 291 $ 457 $ 309 $ 83
Operating leases 144,442 16,575 31,912 25,981 69,974
Finance obligation 13,949 1,259 2,517 2,517 7,656
Automobile loans (including interest) 75 36 39 -- --
-------- -------- -------- -------- --------
Total contractual cash obligations $159,606 $ 18,161 $ 34,925 $ 28,807 $ 77,713
======== ======== ======== ======== ========
OFF-BALANCE SHEET ARRANGEMENTS
We had no off-balance sheet arrangements as of March 31, 2006.
RELATED PARTY TRANSACTIONS
We had a consulting agreement with Hart Capital LLC, which terminated by its
terms in June 2004, to advise us in identifying acquisition and merger targets
and assisting with the due diligence reviews of and negotiations with these
targets. Hart Capital is the managing member of Five Mile River Capital Partners
LLC, which is the second largest stockholder of our Company. Steven Hart, the
President of Hart Capital, is a member of our board of directors. We paid Hart
Capital a monthly retainer, reimbursement of expenses and an advisory fee for
its work on successful acquisitions or mergers. In accordance with the
agreement, we paid Hart Capital $0 and approximately $0.3 million for the
quarter ended March 31, 2006 and 2005, respectively. In connection with the
consummation of the NETI acquisition, on January 11, 2005, we paid Hart Capital
$0.3 million for its services.
In 2003, we entered into a management service agreement with our majority
stockholder, Stonington Partners. In accordance with this agreement, we paid
Stonington Partners a management fee of $0.75 million per year for management
consulting and financial and business advisory services. Such services include
valuing acquisitions and structuring their financing and assisting with new loan
agreements. We paid Stonington Partners $0 and $0.75 million for the quarter
ended March 31, 2006 and 2005, respectively. Fees paid to Stonington Partners
were being amortized over a twelve month period. This agreement terminated by
its terms upon the completion of our initial public offering in June 2005.
Selling, general and administrative expenses for the quarter ended March 31,
2005 include a $0.2 million charge resulting from the amortization of these
fees.
SEASONALITY AND TRENDS
Our net revenues and operating results normally fluctuate as a result of
seasonal variations in our business, principally due to changes in total student
population. Student population varies as a result of new student enrollments,
graduations and student attrition. Historically, our schools have had lower
student populations in our first and second quarters and we have experienced
large class starts in the third and fourth quarters and student attrition in the
first half of the year. Our expenses, however, do not vary significantly with
changes in our student population and net revenues. During the first half of the
year, we make significant investments in marketing, staff, programs and
facilities to ensure that we have the proper staffing to meet our second half
targets and, as a result, such expenses do not fluctuate significantly on a
quarterly basis. We expect quarterly fluctuations in operating results to
continue as a result of seasonal enrollment patterns. Such patterns may change,
however, as a result of new school openings, new program introductions,
increased enrollments of adult students and/or acquisitions.
Similar to many other for-profit post secondary education companies, the
increase in our average undergraduate enrollments did not meet our historical or
anticipated growth rates in 2005. As a result of this slow down, we entered 2006
with fewer students enrolled
18
than we had in January of 2005. The slow down that has occurred in the
for-profit post secondary education sector appears to have had a greater impact
on companies, like ours, that are more dependent on their on-ground business as
opposed to on-line students. We believe that the slow down can be attributed to
many factors, including: (a) the economy; (b) dependency on television to
attract students to our school; (c) turnover of our sales representatives; and
(d) increasing competition in the marketplace.
Despite soft organic enrollment trends and increased volatility in the near
term, we believe that our growth initiatives as well as the steps we have taken
to address the challenging trends that our industry and we are currently facing
will produce positive growth over the long-term. While our operating strategy,
business model and infrastructure are well suited for the short-term and we have
ample operating flexibility, we continue to be prudent and realistic and have
taken the necessary steps to ensure that operations that have not grown as
rapidly as expected are right sized. We also continue to make investments in
areas that are demonstrating solid growth.
Operating income is negatively impacted during the initial start-up phase of new
campus expansions. We incur sales and marketing costs as well as campus
personnel costs in advance of the opening of each campus. Typically we begin to
incur such costs approximately 15 months in advance of the campus opening with
the majority of such costs being incurred in the nine-month period prior to a
campus opening. During the current year, we initiated expansion efforts for one
new campus, located in Queens, New York, which opened on March 27, 2006.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our principal exposure to market risk relates to interest rate changes. However,
as a result of completing our initial public offering, we have been able to
repay in full our line of credit leaving only miscellaneous capital equipment
leases, which are not material.
ITEM 4. CONTROLS AND PROCEDURES
(a) EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES. Our Chief Executive
Officer and Chief Financial Officer, after evaluating the effectiveness of our
disclosure controls and procedures (as defined in Securities Exchange Act Rule
13a-15(e)) as of the end of the quarterly period covered by this report, have
concluded that our disclosure controls and procedures are adequate and effective
to reasonably ensure that material information required to be disclosed by us in
the reports that we file or submit under the Exchange Act is recorded,
processed, summarized and reported within the time periods specific by
Securities and Exchange Commissions' Rules and Forms and that such information
is accumulated and communicated to our management, including our Chief Executive
Officer and Chief Financial Officer, as appropriate, to allow timely decisions
regarding required disclosure.
(b) CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING. There were no changes
made during our most recently completed fiscal quarter in our internal control
over financial reporting that have materially affected, or are reasonably likely
to materially affect, our internal control over financial reporting.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
In the ordinary conduct of our business, we are periodically subject to
lawsuits, investigations and claims, including, but not limited to, claims
involving students or graduates and routine employment matters. Although we
cannot predict with certainty the ultimate resolution of lawsuits,
investigations and claims asserted against us, we do not believe that any
currently pending legal proceeding to which we are a party will have a material
adverse effect on our business or financial condition.
ITEM 6. EXHIBITS
EXHIBIT INDEX
The following exhibits are filed or incorporated by reference with this Form
10-Q.
Exhibit
NUMBER DESCRIPTION
3.1 Amended and Restated Certificate of Incorporation of the Company (1).
3.2 Amended and Restated By-laws of the Company (2).
19
4.1 Stockholders' Agreement, dated as of September 15, 1999, among Lincoln Technical Institute,
Inc., Back to School Acquisition, L.L.C., and Five Mile River Capital Partners LLC. (1).
4.2 Letter agreement, dated August 9, 2000, by Back to School Acquisition, L.L.C., amending the
Stockholders' Agreement (1).
4.3 Letter agreement, dated August 9, 2000, by Lincoln Technical Institute, Inc., amending the
Stockholders' Agreement (1).
4.4 Management Stockholders Agreement, dated as of January 1, 2002, by and among Lincoln Technical
Institute, Inc., Back to School Acquisition, L.L.C. and the Stockholders and other holders of
options under the Management Stock Option Plan listed therein (1).
4.5 Registration Rights Agreement between the Company and Back to School Acquisition, L.L.C. (2).
4.6 Specimen Stock Certificate evidencing shares of common stock (1).
10.1 Credit Agreement, dated as of February 15, 2005, among the Company, the Guarantors from time
to time parties thereto, the Lenders from time to time
parties thereto and Harris Trust and Savings Bank, as
Administrative Agent (1).
10.2 Employment Agreement, dated as of January 3, 2005, between the Company and David F. Carney (1).
10.3 Amended Employment Agreement, dated as of March 1, 2005, between the Company and David F.
Carney (1).
10.4 Employment Agreement dated as of January 3, 2005, between the Company and Lawrence E. Brown
(1).
10.5 Amended Employment Agreement, dated as of March 1, 2005, between the Company and Lawrence E.
Brown (1).
10.6 Employment Agreement, dated as of January 3, 2005, between the Company and Scott M. Shaw (1).
10.7 Amended Employment Agreement, dated as of March 1, 2005, between the Company and Scott M. Shaw
(1).
10.8 Employment Agreement, dated as of January 3, 2005, between the Company and Cesar Ribeiro (1).
10.9 Amended Employment Agreement, dated as of March 1, 2005, between the Company and Cesar Ribeiro
(1).
10.10 Lincoln Educational Services Corporation 2005 Long Term Incentive Plan (1).
10.11 Lincoln Educational Services Corporation 2005 Non Employee Directors Restricted Stock Plan (1).
10.12 Lincoln Educational Services Corporation 2005 Deferred Compensation Plan (1).
10.13 Lincoln Technical Institute Management Stock Option Plan, effective January 1, 2002 (1).
10.14 Form of Stock Option Agreement, dated January 1, 2002, between Lincoln Technical Institute,
Inc. and certain participants (1).
20
10.15 Management Stock Subscription Agreement, dated January 1, 2002, among Lincoln Technical
Institute, Inc. and certain management investors (1).
10.16 Stockholder's Agreement among Lincoln Educational Services Corporation, Back to School
Acquisition L.L.C., Steven W. Hart and Steven W. Hart 2003 Grantor Retained Annuity Trust (2).
10.17 * Stock Purchase Agreement, dated as of March 30, 2006, among Lincoln Technical Institute, Inc.,
and Richard I. Gouse, Andrew T. Gouse, individually and as Trustee of the Carolyn Beth Gouse
Irrevocable Trust, Seth A. Kurn and Steven L. Meltzer.
31.1 * Certification of Chairman & Chief Executive Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
31.2 * Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of
2002.
32 * Certification of Chairman & Chief Executive Officer and Chief Financial Officer pursuant to 18
U.S.C. 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
- -----------------
* Filed herewith
(1) Incorporated by reference to the Company's Registration Statement on
Form S-1 (Registration No. 333-123664).
(2) Incorporated by reference to the Company's Form 8-K dated June 28, 2005.
21
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned hereunto duly authorized.
Date: May 12, 2006
LINCOLN EDUCATIONAL SERVICES CORPORATION
By: /S/ CESAR RIBEIRO
---------------------------
Cesar Ribeiro
Chief Financial Officer
(Principal Accounting and
Financial Officer)